The following sets forth certain of our income statement information for the years ended September 30, 2004, 2005 and 2006.
| • | unit cost of revenue for steel-case cells, decreased by 8.2%; |
| | |
| • | unit cost of revenue for aluminum-case cells, decreased by 13.7%; |
| | |
| • | unit cost of manufacturing battery packs, decreased by 45.4%; |
In addition, share-based compensation cost of $282,000 was recorded in costs of revenues for the year ended September 30, 2006. There was no such share-based compensation cost recognized in 2005.
As a result, gross profit for the year ended September 30, 2006 was $39.6 million or 27.6% of net revenues as compared to gross profit of $25.9 million or 25.4% of net revenues for the same period in 2005. The increase in gross profit, as a percentage of net revenues, was primarily due to (1) the increase in gross profit, as a percentage of net revenues, for prismatic cells, resulting from a decrease in the unit manufacturing costs for prismatic cells due to economies of scale which outweighed the effect of decrease in selling prices; and (2) the introduction of a new product of high-power lithium-phosphate cells with higher gross profit margin than average in fiscal year 2006.
Research and Development Costs. Research and development costs increased to $2.9 million for the year ended September 30, 2006 as compared to $542,000 for the same period in 2005. Share-based compensation included in research and development expenses was $1,524,000 for the year ended September 30, 2006. We adopted SFAS 123R effective on October 1, 2005 using the modified prospective approach. Pursuant to SFAS 123R, we measure the employee share-based compensation at grant-date fair value and recognize related expenses over the vesting period. Prior to adoption of SFAS 123R, we adopted the intrinsic value method under SFAS 123 and APB 25, pursuant to which, no employee share-based compensation cost was recognized during fiscal year 2005. Depreciation expenses increased by $246,000 as we purchased more equipment for our R&D efforts. Salaries related to research increased to $703,000 from $162,000 for the same period of the prior year, an increase of $541,000, primarily due to hiring more experienced research employees.
Sales and Marketing Expenses. Sales and marketing expenses increased to $5.1 million for the year ended September 30, 2006 as compared to $3.9 million for the same period in 2005, an increase of $1.2 million or 30.8%. Share-based compensation was $738,000 for the year ended September 30, 2006 due to the above-mentioned adoption of SFAS 123R on October 1, 2005. Higher sales volumes increased packaging and transportation costs by $521,000. Depreciation charges also increased by $158,000 due to the facilities expansion in the year ended September 30, 2006. As a percentage of net revenues, sales and marketing expenses have decreased slightly to 3.5% for the year ended September 30, 2006, from 3.8% for the same period in 2005, primarily attributable to an increase in net revenue.
General and Administrative Expenses. General and administrative expenses increased to $9.1 million, or 6.3% of revenues, for the year ended September 30, 2006 as compared to $6.0 million, or 5.9% of revenues, for the same period in 2005, an increase of $3.1 million or 51.7%. Share-based compensation included in general and administrative expenses was $1,792,000 for the year ended September 30, 2006 due to the above-mentioned adoption of SFAS 123R on October 1, 2005. Professional fees and expenses increased $2,253,000 from the year ended September 30, 2005, reflecting the additional costs in connection with the re-audit of the last three years’ financial statements and registration statement fee.
On August 15, 2006, the SEC declared effective a post-effective amendment we filed on August 4, 2006 to terminate the effectiveness of the resale registration statement on Form SB-2 that included the resale of the shares held by those selling shareholders. On October 11, 2006, we filed a registration statement on Form S-1 that covers resales of the shares held by those shareholders, which was declared to be effective on October 19, 2006. Because the interval from August 15, 2006 to October 19, 2006 exceeds 30 trading days, those selling shareholders would be eligible for the liquidated damages of $487,946 from us. We therefore recognized in general and administrative expenses an amount of $290,575 for the liquidated damage which was incurred up to September 30, 2006. There was no comparable expense in the prior year.
Operating Income. As a result of the above, operating income totaled $22.6 million for the year ended September 30, 2006 as compared to operating income of $15.5 million for the same period of the prior year, an increase of $7.1 million or 45.8%. As a percentage of net revenues, operating income was 15.7% for the year ended September 30, 2006 as compared to 15.2% for the same period of the prior year.
Finance Costs, Net. Finance costs, net, increased to $1.9 million for the year ended September 30, 2006 as compared to $845,000 for the same period of the prior year, an increase of $1.0 million or 123.4%. We had $67.9 million in short term loans as of September 30, 2006 as compared to $39.5 million outstanding as of September 30, 2005.
45
Other Expenses/Gain on Trading Securities. Other expenses was $205,000 for year ended September 30, 2006, as compared to $490,000 for the same period of 2005. In addition, we recognized income of $279,000 from trading securities in the year ended September 30, 2006 from BAK International’s short-term investment in financial instruments during the period.
Income tax expenses. Income tax expenses decreased to $593,000 for the year ended September 30, 2006, as compared to $652,000 for the same period of 2005. The decrease was the result of a decrease in income tax rate in calendar year 2006 due to the additional capital invested in Shenzhen BAK.
Net Income. As a result of the foregoing, we increased our net income to $20.2 million for the year ended September 30, 2006 from $13.5 million for the same period of the prior year.
Results of operations for the year ended September 30, 2005 as compared to the year ended September 30, 2004
Net Revenues. Net revenues increased to $101.9 million for the year ended September 30, 2005 as compared to $63.7 million for the prior year, an increase of $38.2 million or 59.9%. Our revenues increased during 2005 primarily as a result of an increase in the number of units sold.
| • | Net revenues from the sales of steel-case cells increased to $57.0 million in fiscal 2005 from $38.0 million in fiscal 2004, an increase of $19.0 million or 50.0%, due to an increase in sales volume by 50.0% and the average selling price remaining stable. |
| | |
| • | Net revenues from the sales of aluminum-case cells increased to $23.7 million in fiscal 2005 from $13.1 million in fiscal 2004, an increase of $10.6 million or 81.3%, due to an increase in sales volume by 71.8% driven by sales in the OEM market, and an increase in average selling price by 5.6%, primarily attributable to our ability to charge higher prices because of the enhanced performance of our products and a change in our customer mix to include leading PRC cellular phone brand owners that are willing to pay higher prices for products that meet their stringent requirements. |
| | |
| • | Net revenues from sales of battery packs increased to $20.2 million in fiscal 2005 from $12.4 million in fiscal 2004, due to an increase in sales volume by 73.7%, offset by a decrease in average selling price by 6.6% primarily attributable to pricing pressure in a competitive battery pack market. |
Cost of Revenues. Cost of revenues increased to $76.0 million for the fiscal year ended September 30, 2005, as compared to $50.3 million in fiscal year 2004, representing an increase of $25.7 million or 51.2%. The increase in cost of revenues was attributable to increased revenues and an increase in unit costs for aluminum-case cells, offset by a decrease in unit costs for steel-case cells and battery packs as a result of a decrease in prices for most raw materials and an increased yield in manufacturing. The increase in unit costs for aluminum-case cells was due to increased cost of materials and a change in our product mix toward a greater proportion of higher grade battery cells. Specifically,
| • | unit cost of steel-case cells decreased by 6.8%; |
| | |
| • | unit cost of aluminum-case cells increased by 5.8%; and |
| | |
| • | unit cost of battery packs decreased by 14.3%. |
As a result, gross profit for fiscal 2005 was $25.9 million or 25.4% of net revenues as compared to gross profit of $13.5 million or 21.1% of net revenues for fiscal 2004. The increase in gross profit, as a percentage of net revenues, was primarily due to (1) the increase in gross profit for steel-case cells, resulting from a decrease in unit manufacturing cost of steel-case cells due to economies of scale while its selling prices kept stable; and (2) the larger production volume of a new product of battery packs with higher gross profit margin than average in fiscal year 2005.
Research and Development Costs. Research and development costs increased to $542,000 for the fiscal year ended September 30, 2005 as compared to $329,000 for the prior fiscal year, an increase of $213,000 or 64.7%. New initiatives, such as rechargeable lithium polymer batteries and lithium nickel-cobalt oxide anode research, depreciation from R&D equipment additions and an increase in patent applications and maintenance contributed to the increase.
46
Sales and Marketing Expenses. Sales and marketing expenses increased to $3.9 million for the year ended September 30, 2005, as compared to $1.8 million for the prior year, an increase of $2.1 million or 113.6%. Salaries increased to $2.0 million in fiscal 2005 from $741,000 in fiscal 2004, an increase of $1.3 million. The increase was the result of an increase in the number of employees and higher average salaries in fiscal 2005. Depreciation charges increased to $417,000 for fiscal 2005 from $8,600 for fiscal 2004 as we moved into our new facilities. Higher sales volumes increased packaging and transportation costs by $267,000.
General and Administrative Expenses. General and administrative expenses increased to $6.0 million for the fiscal year ended September 30, 2005 from $2.5 million for the prior fiscal year, an increase of $3.5 million. As a percentage of net revenues, general and administrative expenses were 5.9% and 4.0% in fiscal 2005 and 2004, respectively. Salaries increased to $1.7 million in fiscal 2005 from $1.1 million in fiscal 2004, an increase of $600,000 or 54.5%, primarily as a result of additional employees. Audit, consulting and investor relations fees increased $551,000 from fiscal 2004 to fiscal 2005, reflecting the additional costs of operating as a public company since January 2005. We also contributed $655,000 to our staff welfare and bonus fund in fiscal 2005 and incurred expenses in the greenery projects of our BAK Industrial Park in the amount of $479,000 in fiscal 2005.
Operating Income. As a result of the foregoing, operating income totaled $15.5 million for the fiscal year ended September 30, 2005 as compared to operating income of $8.8 million for the fiscal year ended September 30, 2004, an increase of $6.7 million or 76.5%.
As a percentage of net revenues, operating income was 15.2% in fiscal 2005 as compared to 13.8% for the prior fiscal year.
Finance Costs, Net. Finance costs, net increased to $845,000 for the fiscal year ended September 30, 2005 as compared to $454,000 for the prior fiscal year, an increase of $391,000 or 86.1%. The increase was attributable to the increase in the amount of our short-term bank loans in fiscal 2005 compared with that outstanding in fiscal 2004. We had $39.5 million in short-term bank loans as of September 30, 2005, as compared to $29.1 million outstanding as of September 30, 2004. Short-term bank loans bear interest at annual rates ranging from 4.5% to 6.1%, and maturities are generally less than twelve months. The funds obtained from the increased borrowings were primarily used to fund working capital and to purchase equipment.
Income Tax Expenses. Income tax expenses increased to $652,000 for the year ended September 30, 2005, as compared to $507,000 for the previous year. One of our subsidiaries commenced paying taxes at the annual rate of 7.5% for the final nine months of fiscal 2004, resulting in an effective tax rate of 6.1% for fiscal 2004. Although income taxes were paid at a 7.5% rate for all of 2005 on the original investment portion, no taxes were due in 2005 for the additional investment due to the tax holiday, resulting in a lower overall rate of 4.6%.
Net Income. As a result of the foregoing, we increased our net income to $13.5 million as compared to $7.8 million for the prior year, an increase of $5.7 million or 73.0%.
Liquidity and Capital Resources
We have historically financed our liquidity requirements from a variety of sources, including short-term bank loans and bills payable under bank credit agreements, sale of bills receivable and issuance of capital stock. As of September 30, 2006, we had cash and cash equivalents of $21.1 million, as compared to $33.1 million as of September 30, 2005. In addition, we had pledged deposits amounting to $13.0 million and $19.4 million at September 30, 2006 and September 30, 2005, respectively. Typically, banks will require borrowers to maintain deposits of approximately 20% to 100% of the outstanding loan balances and bills payable. The individual bank loans have maturities ranging from four to twelve months which coincides with the periods the cash remains pledged to the banks.
47
The following table sets forth a summary of our cash flows for the periods indicated
| | Year Ended September 30, | |
| |
| |
| | 2004 | | 2005 | | 2006 | |
| |
|
| |
|
| |
|
| |
| | (in thousands) | |
Net cash provided by/(used in) operating activities | | $ | 3,593 | | $ | 8,015 | | $ | (5,685 | ) |
Net cash used in investing activities | | | (28,300 | ) | | (30,596 | ) | | (41,416 | ) |
Net cash provided by financing activities | | | 27,248 | | | 52,363 | | | 35,047 | |
Effect of exchange rate changes on cash and cash equivalents | | | — | (1) | | 62 | | | 98 | |
Net increase/(decrease) in cash and cash equivalent | �� | | 2,541 | | | 29,844 | | | (11,956 | ) |
Cash and cash equivalents at the beginning of period | | | 671 | | | 3,212 | | | 33,056 | |
Cash and cash equivalents at the end of period | | | 3,212 | | | 33,056 | | | 21,100 | |
Operating Activities
Net cash used in operating activities was $5.7 million in the year ended September 30, 2006 compared with net cash provided by operating activities of $8.0 million in the same period in 2005. The negative cash flow was mainly the result of an increase in inventory levels as we increased our production output in the year ended September 30, 2006, and also an increase in the level of our accounts receivable. However, we expect that our negative operating cash flow will improve due to our increased effort to collect account receivables and better control over the inventory level taking into consideration the increasing demand and business operation.
Net cash provided by operating activities in fiscal 2005 was $8.0 million, compared to $3.6 million in fiscal 2004. The increase was mainly the result of an increase in net income, a decrease in our levels of inventories and a decrease in accounts and bills payable, partially offset by an increase in the levels of accounts receivable.
Investing Activities
Net cash used in investing activities increased from $30.6 million in the year ended September 30, 2005 to $41.4 million in the same period in 2006, reflecting an increase in our purchases of equipment, primarily attributable to the construction of the facility to house a new cylindrical cell production line and a new automated aluminum cell line.
Net cash used in investing activities increased from $28.3 million in fiscal 2004 to $30.6 million in fiscal 2005, primarily as a result of an increase in our purchase of property, plant and equipment in connection with our capacity expansion.
Financing Activities
Net cash provided by financing activities was $52.4 million in the year ended September 30, 2005 compared to $35.0 million in the same period in 2006. This was mainly attributable to (i) a $17.9 million increase in net proceeds from borrowing due to more loans being secured for working capital purposes in the year ended September 30, 2006, and (ii) $18.7 million decrease in cash deposited to bank as collateral in the year ended September 30, 2006. The impact of these cash outflows was offset by receipt of $55.4 million cash proceeds from the two capital raisings in January 2005 and September 2005.
Net cash provided by financing activities amounted to $27.2 million in fiscal year 2004, and $52.4 million in fiscal year 2005, primarily representing the net proceeds received from borrowings in fiscal 2004 and 2005 as well as capital raising in fiscal 2005.
As of September 30, 2006, the principal outstanding under our credit facilities and lines of credit were as follows:
| | Maximum Amount
Available | | Amount Borrowed | |
| |
|
| |
|
| |
| | (in thousands) | |
Credit Facilities: | | | | | | | |
Agricultural Bank of China | | $ | 50,577 | | $ | 41,621 | |
Shenzhen Development Bank | | | 18,966 | | | 12,644 | |
China Construction Bank | | | 12,644 | | | 11,350 | |
Shenzhen Commercial Bank | | | 12,644 | | | 6,322 | |
China CITIC Bank | | | 16,322 | | | 1,159 | |
Bank Of China | | | 63,222 | | | 14,400 | |
CITIC Ka Wah Bank Limited | | | 6,000 | | | — | |
| |
|
| |
|
| |
Subtotal—Credit Facilities | | $ | 180,375 | | $ | 87,496 | |
| |
|
| |
|
| |
Lines of Credit: | | | | | | | |
Agricultural Bank of China | | | | | | 1,223 | |
Shenzhen Development Bank | | | | | | 702 | |
Shenzhen Commercial Bank | | | | | | 5,918 | |
China CITIC Bank | | | | | | — | |
China Merchants Bank | | | | | | 1,736 | |
| | | | |
|
| |
Subtotal—lines of credit | | | | | | 9,579 | |
| | | | |
|
| |
Total Principal Outstanding | | | | | $ | 97,075 | |
| | | | |
|
| |
48
There are no restrictions for our above unused credit facilities.
The above principal outstanding amounts under credit facilities included short-term bank loans of $67.9 million and bills payable of $29.2 million.
For the purpose of presentation, the effect of increase in bills payable balances is included in operating activities in the statements of cash flows due to their nature.
We refinanced our short-term bank loans during fiscal 2006 at annual interest rates of 5.022% to 6.138%, payable monthly, and for terms of four to twelve months. These debt arrangements are generally guaranteed by Mr. Xiangqian Li, our chairman, president, and chief executive officer. The indebtedness to Shenzhen Commercial Bank is guaranteed by Mr. Xiangqian Li.
Pursuant to the refinancing, we pledged $10.1 million of inventory and $6.3 million of equipment and machinery as security for our comprehensive credit facility with Shenzhen Development Bank. In addition, Mr. Li pledged 19,110,093 of his shares of our common stock to guarantee our obligations under this credit facility. Furthermore, in the event (i) we have bad credit record at any other bank or we are involved in any material adverse litigation with any other bank, (ii) our liabilities exceed 70% of our assets our current ratio is less than 0.8, or our monthly sales revenue declines by 10% as compared with the same period of the prior year, Shenzhen Development Bank is entitled to accelerate the loan repayment. We are currently in compliance with these financial tests as of September 30, 2006.
On January 20, 2005, BAK International completed a private offering of 8,600,433 shares of its common stock for gross offering proceeds of $17.0 million or $1.98 per share. Investors in the offering participated in the subsequent exchange transaction with our company, and received 8,600,433 restricted shares of our common stock, along with attendant registration rights. Net proceeds from the financing of $15.5 million were used as follows: $4.3 million to expand production facilities, $1.8 million to enhance existing products and to research and develop new product offerings, and $9.4 million for working capital purposes.
On September 16, 2005, we sold 7,899,863 shares of our common stock for gross offering proceeds of $43.4 million or $5.50 per share. Net proceeds from that transaction of $39.9 million were used to purchase equipment and for working capital.
During the three months ended September 30, 2006, we repaid seven bank loans totaling $22.5 million, and entered into ten new bank loan agreements totaling $36.7 million. The ten new facilities provide for monthly interest payments at fixed annual interest rates from 5.022% to 5.67%, with principal repayments at maturities during the first calendar quarter and the third calendar quarter of 2007.
On April 21, 2006, we renewed the Comprehensive Credit Facility Agreement of Maximum Amount with Shuibei Branch, Shenzhen Commercial Bank. We may borrow up to RMB 50 million under this credit facility, which expires on April 21, 2007. Under this credit facility, we borrowed RMB 50 million on April 28, 2006, bearing interest at an annual rate of 5.265% and maturing on April 21, 2007.
On April 5, 2006, we renewed the Comprehensive Credit Facility Agreement of Maximum Amount with Longgang Branch, Shenzhen Development Bank. Under this credit facility, we may borrow up to RMB 150 million, which expires on April 29, 2007. Under this credit facility, on April 28, 2006, we entered into a loan agreement with Shenzhen Development Bank, which provides for $12.5 million at a fixed interest annual interest rate of 5.85% and expires pursuant to its terms on April 28, 2007.
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On January 11, 2006, Shenzhen BAK repaid in full its loan from the Agricultural Bank of China, originally entered into on July 29, 2005 for up to $6,178,942 and maturing January 29, 2006. The principal balance at the time of repayment was $6,178,942.
On February 22, 2006, Shenzhen BAK renewed its outstanding loan from China Construction Bank in the amount of $3,726,847 under an Application Letter for Drawing for Bank Loan Facility. The new loan agreement provides for a term of six months, with interest accruing at an annual rate of 5.481%, payable monthly, and principal payable at maturity. The principal and interest terms of the loan renewal are the same as those terms under the original loan.
On July 14, 2006, BAK International Limited entered into a new Credit Facility Letter with CITIC Ka Wah Bank Limited with a term of one year. BAK International Limited may borrow up to $6.0 million under this facility letter.
On August 31, 2006, we entered into a new Comprehensive Credit Facility Agreement of Maximum Amount with Shenzhen Branch, Bank of China. We may borrow up to RMB 500 million under this credit facility agreement, which will expire on August 31, 2007. Under this credit facility agreement, we borrowed RMB 100 million on August 31, 2006, bearing interest at an annual rate of 5.508% and maturing on August 31, 2007.
We had a working capital surplus of $4.6 million as of September 30, 2006, as compared to $21.0 million as of September 30, 2005, a decrease of $16.4 million. This decrease was primarily attributable to increase in short-term bank loans part of which were borrowed to finance the acquisition of property, plant and equipment with the expansion of production. We had short-term bank loans maturing in less than one year of $67.9 million as of September 30, 2006, as compared to $39.5 million as of September 30, 2005, an increase of $28.4 million.
We believe that our current cash and cash equivalents and anticipated cash flow from operations will be sufficient to meet our anticipated cash needs, including our cash needs for working capital and capital expenditures for at least the next 12 months. We may, however, require additional cash due to changing business conditions or other future developments, including any investments or acquisitions we may decide to pursue. If our existing cash and amount available under existing credit facilities is insufficient to meet our requirements, we may seek to sell additional equity securities, debt securities or borrow from lending institutions. We can make no assurances that financing will be available in the amounts we need or on terms acceptable to us, if at all. The sale of additional equity securities, including convertible debt securities, would dilute our shareholders. The incurrence of debt would divert cash for working capital and capital expenditures to service debt obligations and could result in operating and financial covenants that restrict our operations and our ability to pay dividends to our shareholders. If we are unable to obtain additional equity or debt financing as required, our business operations and prospects may suffer.
Capital Expenditures
We made capital expenditures of $28.3 million, $30.6 million and $41.4 million in fiscal year 2004, 2005 and 2006, respectively. Our capital expenditures were used primarily to purchase plant and equipment to expand our production capacity. The table below sets forth the breakdown of our capital expenditures by use for the periods indicated.
| | Year Ended September 30, | |
| |
| |
| | 2004 | | 2005 | | 2006 | |
| |
|
| |
|
| |
|
| |
| | (in thousands) | |
Construction costs | | $ | 20,033 | | $ | 20,293 | | $ | 13,520 | |
Purchase of equipment | | | 7,676 | | | 9,213 | | | 27,402 | |
Capitalized interest | | | 545 | | | 1,088 | | | 460 | |
| |
|
| |
|
| |
|
| |
Total capital expenditures | | $ | 28,254 | | $ | 30,594 | | | 41,382 | |
| |
|
| |
|
| |
|
| |
We estimate that our total capital expenditures in fiscal 2007 will reach approximately $45.0 million, primarily to purchase manufacturing equipment for the expansion of our production lines.
We have completed the construction of 174,784 square meters of new facilities comprised of manufacturing facilities, warehousing and packaging facilities, dormitory space and administrative offices at the BAK Industrial Park. Of that space, approximately 111,000 square meters are new manufacturing facilities. We have completed construction and put into use an additional administrative area, production facility, four manufacturing facilities, a warehouse and packaging facility, two dormitories and one dining hall. At present, we have no significant payment obligations related to these facilities, although we continue to make payments regarding the construction of the facility as costs arise.
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We do not hold the land use right to the tract of property on which we have constructed our manufacturing facilities and other related facilities. According to the relevant PRC laws and regulations, a land use right certificate, along with government approvals for land planning, project planning, and construction must be obtained before the construction of any building is commenced. An ownership certificate will be granted by the government upon application under the condition that the aforementioned certificate and government approvals are obtained.
We are constructing and have completed part of the construction of our facilities with the approval of the local government of Kuichong Township of Longgang District of Shenzhen, which we understand does not have the authority to grant us the land use rights certificate. Under our agreement with the Kuichong Township government, we have to pay for a 50-year land use rights certificate at an agreed unit price, which in the aggregate amounted to $4.0 million as of September 30, 2004 and $3.2 million as of September 31, 2005, following an adjustment of the site area after a land survey. Out of the $3.2 million, $0.3 million has been paid to the Kuichong Township government. We have been actively negotiating with the Shenzhen municipal government with a view to resolving the lack of authority issue, but we can make no assurances that we will be able to acquire the land use right by purchasing it directly from the Shenzhen municipal government on the same terms, or if at all. In the meantime, we have recognized a net payable purchase price of $3.0 million for the land use rights on the assumption that it will be on the same terms as those agreed with the Kuichong Township government.
Contractual Obligations and Commercial Commitments
The following table sets forth our contractual obligations and commercial commitments as of September 30, 2006:
| | Payment Due by Period | |
| |
| |
| | Total | | Less than
1 Year | | 1-3
Years | | 3-5
Years | | More than
5 Years | |
| |
|
| |
|
| |
|
| |
|
| |
|
| |
| | (in thousands) | |
Short-term bank loans | | | 67,900 | | | 67,900 | | | — | | | — | | | — | |
Bills payable | | | 29,175 | | | 29,175 | | | — | | | — | | | — | |
Land use right payable | | | 3,031 | | | 3,031 | | | — | | | — | | | — | |
Capital commitments | | | 12,742 | | | 12,742 | | | — | | | — | | | — | |
Future interest payment on short-term bank loans | | | 3,804 | | | 3,804 | | | — | | | — | | | — | |
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Total | | | 116,652 | | | 116,652 | | | — | | | — | | | — | |
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Other than the contractual obligations and commercial commitments set forth above, we did not have any other long-term debt obligations, operating lease obligations, capital commitments, purchase obligations or other long-term liabilities as of September 30, 2006.
Off-Balance Sheet Transactions
In the ordinary course of business practices in China, we enter into transactions with banks or other lenders where we guarantee the debt of other parties. These parties may be related to or unrelated to us. Conversely, our debt with lenders may also be guaranteed by other parties which may be related or unrelated to us.
Under U.S. GAAP, these transactions may not be recorded on our balance sheet or may be recorded in amounts different than the full contract or notional amount of the transaction. Our primary off balance sheet arrangements would result from our loan guaranties in which Shenzhen BAK would provide contractual assurance of the debt, or guarantee the timely re-payment of principal and interest of the guaranteed party.
Typically, no fees are received for this service. Thus in those transactions, Shenzhen BAK would have a contingent obligation related to the guarantee of payment in the event the underlying loan is in default.
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Transactions described above require accounting treatment under FASB Interpretation 45, Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others, or FIN 45. Under that standard, we would be required to recognize the fair value of guarantees issued or modified after December 31, 2002 for non-contingent guarantee obligations, and also a liability for contingent guarantee obligations based on the probability that the guaranteed party will not perform under the contractual terms of the guaranty agreement.
We have assessed the liabilities arising from these guarantees and considered they are immaterial to the consolidated financial statements. Therefore, no liabilities in respect of the guarantees were recognized as of September 30, 2006 and September 30, 2005. We had guaranteed the timely re-payment of principal and interest of two parties to a bank. The maximum amount of our exposure for those guarantees at September 30, 2006 and September 30, 2005 were $3.8 million and $4.8 million respectively.
Interest Rate Risk
We are exposed to interest rate risk primarily with respect to our short-term bank loans. Although the interest rates, based on the banks’ prime rates, are fixed for the terms of the loans, the terms are typically five to twelve months and interest rates are subject to change upon renewal. There were no material changes in interest rates for short-term bank loans renewed during the year ended September 30, 2006. A hypothetical 1.0% increase in the annual interest rates for all of our credit facilities at September 30, 2006 would decrease net income before provision for income taxes by $679,000 or 3.1% for the year ended September 30, 2006. Management monitors the banks’ prime rates in conjunction with our cash requirements to determine the appropriate level of debt balances relative to other sources of funds. We have not entered into any hedging transactions in an effort to reduce our exposure to interest rate risk.
Foreign Exchange Risk
Although our reporting currency is the U.S. dollar, the financial records of our operating subsidiaries are maintained in their local currency, the RMB, which is the functional currency. Approximately 67.2% of our revenues and 94.9% of our costs and expenses for the year ended September 30, 2006 are denominated in RMB, with the balance denominated in U.S. dollars. Approximately 86.7% of our assets except for cash were denominated in RMB as of September 30, 2006. As a result, we are exposed to foreign exchange risk as our revenues and results of operations may be affected by fluctuations in the exchange rate between U.S. dollars and RMB. If the RMB depreciates against the U.S. dollar, the value of our Renminbi revenues, earnings and assets as expressed in our U.S. dollar financial statements will decline. Assets and liabilities of our operating subsidiaries are translated into U.S. dollars at the exchange rate at the balance sheet date, their equity accounts are translated at historical exchange rate and their income and expenses items are translated using the average rate for the period. Any resulting exchange differences are recorded in accumulated other comprehensive income or loss. An average appreciation (depreciation) of the RMB against the U.S. dollar of 5% would increase (decrease) our comprehensive income by $5.2 million based on our outstanding revenues, costs and expenses, assets and liabilities denominated in RMB as of September 30, 2006. As of September 30, 2006, our accumulated other comprehensive income (loss) was $3.5 million. We have not entered into any hedging transactions in an effort to reduce our exposure to foreign exchange risk.
Critical Accounting Policies
Our consolidated financial information has been prepared in accordance with U.S. GAAP, which requires us to make judgments, estimates and assumptions that affect (1) the reported amounts of our assets and liabilities, (2) the disclosure of our contingent assets and liabilities at the end of each fiscal period and (3) the reported amounts of revenues and expenses during each fiscal period. We continually evaluate these estimates based on our own historical experience, knowledge and assessment of current business and other conditions, our expectations regarding the future based on available information and reasonable assumptions, which together form our basis for making judgments about matters that are not readily apparent from other sources. Since the use of estimates is an integral component of the financial reporting process, our actual results could differ from those estimates. Some of our accounting policies require a higher degree of judgment than others in their application.
When reviewing our financial statements, the following should also be considered: (1) our selection of critical accounting policies, (2) the judgment and other uncertainties affecting the application of those policies, and (3) the sensitivity of reported results to changes in conditions and assumptions. We believe the following accounting policies involve the most significant judgment and estimates used in the preparation of our financial statements.
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Recoverability of Long-Lived Assets
Our business is capital intensive and has required, and will continue to require, significant investments in property, plant and equipment. As of September 30, 2005 and September 30, 2006, the carrying amount of property, plant and equipment, net was $65.8 million and $109.4 million, respectively. We assess the recoverability of property, plant and equipment to be held and used by a comparison of the carrying amount of an asset or group of assets to the future net undiscounted cash flows expected to be generated by the asset or group of assets. If such assets are considered impaired, the impairment recognized is measured as the amount by which the carrying amount of the assets exceeds the fair value of the assets.
A prolonged general economic downturn and, specifically, a continued downturn in the battery cell industry as well as other market factors could intensify competitive pricing pressure, create an imbalance of industry supply and demand, or otherwise diminish volumes or profits. Such events, combined with changes in interest rates, could adversely affect our estimates of future net cash flows to be generated by our long-lived assets. Consequently, it is possible that our future operating results could be materially and adversely affected by additional impairment charges related to the recoverability of our long-lived assets.
Inventory Obsolescence
We review our inventory for potential impairment on a quarterly or more frequent basis as deemed necessary. Such review includes, but is not limited to, reviewing the levels of inventory versus customer requirements and obsolescence. The review and evaluation also considers the potential sale of impaired inventory at lower than market prices. At each balance sheet date, we identify inventories that are worth less than cost and write them down to their net realizable value and the difference is charged to our cost of revenues of that period. Though management considers such write-down of inventories adequate and proper, changes in sales volumes due to unexpected economic or competitive conditions are among the factors that could materially affect the adequacy of such write down.
Allowance for Doubtful Accounts
The allowance for doubtful accounts is our best estimate of the amount of probable credit losses in our accounts receivable. We determine the allowance based on historical write-off experience, customer specific facts and economic conditions. Bad debt expense is included in the general and administrative expenses. We review outstanding account balances individually for collectibility. Account balances are charged off against the allowance after all means of collection have been exhausted and the potential for recovery is considered remote. As of September 30, 2005 and September 30, 2006, we had not charged off any balances as we had yet to exhaust all means of collection.
Stock-Based Compensation
We have adopted the alternate intrinsic value method recognition provision of SFAS 123. Pursuant to the requirements of SFAS 123, we have disclosed in our annual financial statements for the year ended September 30, 2005 the pro forma effect of application of the preferred fair value method recognition provision. Further, effective October 1, 2005, we adopted the provisions of SFAS 123R, which requires the use of the fair value method of accounting for share-based compensation. Under the fair value based method, compensation cost related to employee stock options or similar equity instruments is measured at the grant date based on the value of the award and is recognized over the service period, which is usually the vesting period. SFAS 123R also requires measurement of cost of a liability-classified award based on its current fair value. The fair value of the liability-classified award will be subsequently remeasured at each reporting date through the settlement date. Change in fair value during the requisite service period will be recognized as compensation cost over that period. We determine fair value using the Black-Scholes model. Under this model, certain assumptions, including the risk-free interest rate, the expected life of the options and the estimated fair value of our ordinary shares and the expected volatility, are required to determine the fair value of the options. If different assumptions had been used, the fair value of the options would have been different from the amount we computed and recorded, which would have resulted in either an increase or decrease in the compensation expense.
Pursuant to SFAS 123R, we have recognized compensation costs of $4.3 million in relation to stock-based award to our employees and non-employee directors in fiscal year 2006 as an increase in both the operating costs and the shareholder’s equity.
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Changes in Accounting Standards
In December 2004, the Financial Accounting Standards Board , or FASB, issued SFAS No. 123 (revised 2004), “ Share-Based Payment,” or SFAS 123R, which became effective for us on October 1, 2005. SFAS 123R revises SFAS 123 and supersedes APB 25. SFAS 123R requires all public and non-public companies to measure and recognize compensation expense for all stock-based payments for services received at the grant-date fair value, with the cost recognized over the vesting period (or the requisite service period). We adopted SFAS 123R since the fiscal quarter ended December 31, 2005 using a modified prospective approach.
In December 2004, the FASB issued SFAS No. 151, “Inventory Costs, an amendment of ARB No. 43, Chapter 4,” or SFAS 151, which became effective for us on October 1, 2005. This standard clarifies that abnormal amounts of idle facility expense, freight, handling costs and wasted material should be expensed as incurred and not included in inventory. In addition, this standard requires that the allocation of fixed production overhead costs to inventory be based on the normal capacity of the production facilities. The impact of the adoption of SFAS 151 has not been material.
In July 2006, the FASB issued FIN 48, “Accounting for Uncertainty in Income Taxes an Interpretation of FASB Statement No. 109,” or FIN 48, which clarifies the accounting for uncertainty in tax positions. This Interpretation requires that we recognize in our consolidated financial statements the impact of a tax position if that position is more likely than not of being sustained on audit, based on the technical merits of the position. The provisions of FIN 48 are effective for us on January 1, 2007, with the cumulative effect of the change in accounting principle, if any, recorded as an adjustment to opening retained earnings. We are currently evaluating the impact of adopting FIN 48 on its consolidated financial statements.
In September 2006, the FASB issued SFAS 157, “Fair Value Measurements,” or SFAS 157, which defines fair value, establishes a framework for measuring fair value in U.S. GAAP, and expands disclosures about fair value measurements. SFAS 157 applies under other accounting pronouncements that require or permit fair value measurements, where fair value is the relevant measurement attribute. The standard does not require any new fair value measurements. SFAS 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. We are currently evaluating the impact of adopting SFAS 157 on its consolidated financial statements.
In September 2006, the SEC issued SAB No. 108, which provides guidance on the process of quantifying financial statement misstatements. In SAB No. 108, the SEC staff establishes an approach that requires quantification of financial statement errors, under both the iron-curtain and the roll-over methods, based on the effects of the error on each of our financial statements and the related financial statement disclosures. SAB No. 108 is generally effective for annual financial statements in the first fiscal year ending after November 15, 2006. The transition provisions of SAB No. 108 permits existing public companies to record the cumulative effect in the first year ending after November 15, 2006 by recording correcting adjustments to the carrying values of assets and liabilities as of the beginning of that year with the offsetting adjustment recorded to the opening balance of retained earnings. We do not expect that the adoption of SAB No. 108 would have a material effect on our consolidated financial statements.
Exchange Rates
The financial records of Shenzhen BAK and BAK Electronics are maintained in Renminbi. In order to prepare our financial statements, we have translated amounts in Renminbi into amounts in U.S. dollars. The amounts of our assets and liabilities on our balance sheets are translated using the closing exchange rate as of the date of the balance sheet. Revenues, expenses, gains and losses are translated using the average exchange rate prevailing during the period covered by such financial statements. Adjustments resulting from the translation, if any, are included in our cumulative other comprehensive income (loss) in our stockholders’ equity section of our balance sheet. All other amounts that were originally booked in Renminbi and translated into U.S. dollars, were translated using the closing exchange rate on the date of recognition. Consequently, the exchange rates at which the amounts in those comparisons were computed varied from year to year.
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The exchange rates used to translate amounts in Renminbi into U.S. dollars in connection with the preparation of our financial statements were as follows:
| | RMB per U.S. Dollar | |
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Balance sheet items as of September 30 | | | 7.9087 | | | 8.0920 | | | 8.2769 | |
Amounts included in the statement of income and comprehensive income, statement of changes in stockholders’ equity and statement of cash flows for the years ended September 30 | | | 8.0286 | | | 8.2413 | | | 8.2767 | |
Renminbi is not readily convertible into U.S. dollars in the foreign exchange markets. The foreign exchange rate between the RMB and the U.S. dollar had been stable at approximately RMB 8.28 to $1.00 for the last few years. On July 21, 2005, the Central Bank of China announced that it would allow the RMB to move to a flexible exchange rate with a maximum daily variance against the U.S. dollar of 0.3%. No provision has been made in the accompanying financial statements for the change in currency policy, nor has any determination been made, as to the potential impact, this may have on our future operations. As a result, the stated exchange rates may not accurately reflect the amount in U.S. dollars into which RMB could be actually converted at the date or during the periods reflected in the foregoing table.
Item 7A. Quantitative and Qualitative Disclosures about Market Risk.
The information required by this item is discussed in Item 7. “Interest Rate Risk” and “Foreign Exchange Risk.”
Item 8. Financial Statements and Supplementary Data.
Consolidated Financial Statements
The financial statements required by this item begin on page F-1 hereof.
Quarterly financial result
The following table reflects our unaudited quarterly consolidated statement of operations data for the quarters presented. We believe that the historical quarterly information has been prepared substantially on the same basis as the audited consolidated financial statements, and all necessary adjustments, consisting only of normal recurring adjustments, have been included in the amounts below to state fairly the unaudited quarterly results of operations data.
| | Dec 31
2004
USD | | Mar 31
2005
USD | | Jun 30
2005
USD | | Sep 30
2005
USD | | Dec 31
2005
USD | | Mar 31
2006
USD | | Jun 30
2006
USD | | Sep 30
2006
USD | |
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| | Unaudited | | Unaudited | | Unaudited | | Unaudited | | Unaudited | | Unaudited | | Unaudited | | Unaudited | |
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Revenues | | | 25,126 | | | 25,878 | | | 24,154 | | | 26,763 | | | 26,104 | | | 38,220 | | | 33,397 | | | 46,108 | |
Cost of revenues | | | 20,562 | | | 19,844 | | | 17,598 | | | 18,043 | | | 19,028 | | | 25,977 | | | 24,899 | | | 34,292 | |
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Gross profit | | | 4,564 | | | 6,034 | | | 6,556 | | | 8,720 | | | 7,076 | | | 12,243 | | | 8,498 | | | 11,816 | |
Gross profit ratio | | | 18.2 | % | | 23.3 | % | | 27.1 | % | | 32.6 | % | | 27.1 | % | | 32.0 | % | | 25.4 | % | | 25.6 | % |
Research and development costs | | | 20 | | | 166 | | | 129 | | | 227 | | | 495 | | | 464 | | | 477 | | | 1,499 | |
Sales and marketing expenses | | | 738 | | | 956 | | | 1,078 | | | 1,082 | | | 1,205 | | | 1,297 | | | 1,041 | | | 1,512 | |
General and administrative expenses | | | 1,241 | | | 1,380 | | | 1,443 | | | 1,929 | | | 2,162 | | | 2,026 | | | 1,962 | | | 2,921 | |
Operating income | | | 2,565 | | | 3,532 | | | 3,906 | | | 5,482 | | | 3,214 | | | 8,456 | | | 5,018 | | | 5,884 | |
Finance costs | | | 219 | | | 226 | | | 78 | | | 323 | | | 181 | | | 515 | | | 297 | | | 895 | |
Other (income) / expenses | | | 26 | | | 19 | | | 9 | | | 436 | | | 4 | | | 34 | | | 1 | | | 166 | |
Gain on trading securities | | | — | | | — | | | — | | | — | | | 279 | | | — | | | — | | | — | |
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Income before income taxes | | | 2,320 | | | 3,287 | | | 3,819 | | | 4,723 | | | 3,308 | | | 7,907 | | | 4,720 | | | 4,823 | |
Income taxes expenses/(benefit) | | | 176 | | | 251 | | | 318 | | | (93 | ) | | 116 | | | 353 | | | 43 | | | 81 | |
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Net income | | | 2,144 | | | 3,036 | | | 3,501 | | | 4,816 | | | 3,192 | | | 7,554 | | | 4,677 | | | 4,742 | |
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Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.
On January 20, 2005, we dismissed George Stewart, C.P.A. as our independent registered public accounting firm and appointed Schwartz Levitsky Feldman LLP, as our independent registered public accounting firm. There were no disagreements or events as described in Item 304(a)(1)(iv) of Regulation S-B in connection with the change in accountants described above.
As disclosed in our current report on Form 8-K filed with the SEC on August 4, 2006, as amended on August 16, 2006, we appointed KPMG on May 15, 2006 as our independent registered public accounting firm to replace Schwartz Levitsky Feldman LLP This current report on Form 8-K is hereby incorporated herein by reference.
Item 9A. Controls and Procedures.
(a) Disclosure Controls and Procedures
As required by Rule 13a-15 under the Securities Exchange Act, our management has carried out an evaluation, with the participation and under the supervision of our chief executive officer and chief financial officer, of the effectiveness of the design and operation of our disclosure controls and procedures as of September 30, 2006. Disclosure controls and procedures refer to controls and other procedures designed to ensure that information required to be disclosed in the reports we file or submit under the Securities Exchange Act is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the SEC and that such information is accumulated and communicated to our management, including our chief executive officer and chief financial officer, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating our disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating and implementing possible controls and procedures.
Management conducted its evaluation of disclosure controls and procedures under the supervision of our chief executive officer and our chief financial officer. Based upon, and as of the date of this evaluation, our chief executive officer and chief financial officer concluded that our disclosure controls and procedures were not effective, because of the material weaknesses discussed below under “Management’s Report on Internal Control over Financial Reporting.”
(b) Management’s Report on Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act. Our internal controls over financial reporting are designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with U.S. GAAP. Our internal control over financial reporting includes those policies and procedures that:
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| (i) | pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of our assets; |
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| (ii) | provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors; and |
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| (iii) | provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on the financial statements. |
All internal control systems, no matter how well designed and operated, have inherent limitations and can therefore provide only reasonable assurance with respect to financial statement preparation and presentation. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Our management has assessed the effectiveness of our internal control over financial reporting as of September 30, 2006. In making its assessment, management used the criteria described in Internal Control — Integrated Framework, issued by the Committee of Sponsoring Organizations of the Treadway Commission, or COSO.
A material weakness is a control deficiency, or combination of control deficiencies, that results in more than a remote likelihood that a material misstatement of the annual or interim financial statements will not be prevented or detected. The following material weaknesses have been identified and included in our management’s assessment as of September 30, 2006:
• | We did not maintain effective controls over the financial reporting process due to an insufficient complement of personnel with a level of accounting knowledge, experience and training in the application of U.S. GAAP commensurate with our financial reporting requirements. Additionally, our senior management lacked an adequate level of accounting knowledge, experience and training in the application of U.S. GAAP, and did not implement adequate supervisory review to ensure that the consolidated financial statements were prepared in conformity with U.S. GAAP. The lack of a sufficient complement of personnel with a level of accounting knowledge, experience and training contributed to each of the material weaknesses discussed below; |
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• | We did not maintain effective controls over accounting for capitalization of interest costs, and the related recognition of property, plant and equipment and depreciation expense. Specifically, we did not have effective controls to ensure that capitalized interest costs for qualifying assets and related depreciation expense were properly determined. This material weakness resulted in the understatement of the related property, plant and equipment, construction in progress and depreciation expense and an overstatement of interest expense, which required us to restate, in August 2006, our previously issued consolidated financial statements as of September 30, 2004 and 2005, and for each of the three years ended September 30, 2005, and the interim condensed consolidated financial information for each of the quarters ended March 31, 2005, June 30, 2005, December 31, 2005, and March 31, 2006. This material weakness also resulted in a material adjustment to our preliminary consolidated financial statements as of September 30, 2006, which was initially identified by our auditor and subsequently corrected by our management; |
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• | We did not maintain effective controls over accounting for deferred taxes under U.S. GAAP. Specifically, we did not have effective controls over the identification and measurement of differences between the respective tax and financial reporting bases of certain assets and liabilities and the determination of the applicable income tax rate to ensure that deferred taxes were accurately presented in our consolidated financial statements. This material weakness resulted in the understatement of both deferred tax assets and deferred tax liabilities and errors in income tax expense which required us to restate, in August 2006, our previously issued consolidated financial statements as of September 30, 2004 and 2005, and for each of the three years ended September 30, 2005, and the interim condensed consolidated financial information for each of the quarters ended March 31, 2005, June 30, 2005, December 31, 2005, and March 31, 2006. This material weakness also resulted in a material adjustment to our preliminary consolidated financial statements as of September 30, 2006, which was initially identified by our auditor and subsequently corrected by our management; |
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• | We did not maintain effective controls over accounting for the share-based compensation. Specifically, we did not have effective controls to determine the accounting for cancellation and replacement of certain option grants and the classification of the associated share-based compensation expense in the consolidated statement of income and comprehensive income. This material weakness resulted in a material adjustment to our preliminary consolidated financial statements as of September 30, 2006, which was initially identified by our auditor and subsequently corrected by our management; |
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• | We did not maintain effective controls over the calculation of earnings per share in accordance with SFAS 128 “Earnings per Share.” Specifically, we did not have effective controls to accurately and completely identify dilutive instruments in the calculation of diluted earnings per share. This material weakness resulted in errors in the diluted weighted average number of ordinary shares which required us to restate, in August 2006, our previously issued consolidated financial statements as of September 30, 2004 and 2005, and for each of the three years ended September 30, 2005, and the interim condensed consolidated financial information for each of the quarters ended March 31, 2005, June 30, 2005, December 31, 2005, and March 31, 2006. This material weakness also resulted in a material adjustment to our preliminary consolidated financial statements as of September 30, 2006, which was initially identified by our auditor and subsequently corrected by our management; |
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• | We did not maintain effective controls over the accounting for the complete and accurate recognition of construction in progress assets. Specifically, we did not have effective controls over the process for initiating, authorizing, recording and processing journal entries related to recognition of construction in progress assets. This material weakness resulted in more than a remote likelihood that a material misstatement to our annual or interim consolidated financial statements would not be prevented or detected; and |
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• | We did not maintain effective controls over the accounting for construction in progress assets and the determination of depreciation expense when the assets are ready for their intended use. Specifically, we did not have effective controls to track and assess the ready-for-intended-use status of the construction in progress assets to ensure construction in progress assets being transferred to property, plant and equipment and the related commencement of depreciation expense was in accordance with U.S. GAAP. This material weakness resulted in more than a remote likelihood that a material misstatement to our annual or interim consolidated financial statements would not be prevented or detected. |
As a result of the existence of these material weaknesses, our chief executive officer and our chief financial officer have concluded that we did not maintain effective control over financial reporting as of September 30, 2006, based on the criteria in Internal Control — Integrated Framework.
KPMG, our independent registered public accounting firm, has issued an auditors’ report on Management’s Assessment of our Internal Control over Financial Reporting as of September 30, 2006 which appears herein.
(c) Remediation Measures of Material Weaknesses
To remediate the material weaknesses described above in “Management’s Report on Internal Control over Financial Reporting”, we have implemented or plan to implement the measures described below, and will continue to evaluate and may in the future implement additional measures.
| 1. | We planned remediation measures of hiring and training of personnel which are intended to generally address these material weaknesses by ensuring that we will have sufficient personnel with knowledge, experience and training in the application of U.S. GAAP commensurate with our financial reporting requirements. These measures include the following: |
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| | i) | We hired a U.S. accountant in May 2006 with relevant accounting experience, skills and knowledge in the preparation of financial statements under the requirements of U.S. GAAP and financial reporting disclosure under the requirement of SEC rules; |
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| | ii) | We plan to train our accounting personnel in the application of U.S. GAAP commensurate with our financial reporting requirements, which include: (a) basic accounting personnel will be participating in training programs concerning general accounting policies and principles provided by the governmental agencies and professional accounting firms; (b) key accounting personnel, including the U.S. accountant, finance manager, finance controller and chief financial officer, are participating in special training programs (in addition to the training of general accounting policies and principles described in item i) above) provided by professional accounting firms retained by us concerning the difference between U.S. GAAP and the accounting principles generally accepted in the People’s Republic of China, SEC rules, recent developments in accounting policies, with particular attention to the areas where errors in the preparation and disclosure of our financial statements were previously identified. |
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| 2. | We intend to engage outside consultants, with relevant accounting experience, skills and knowledge, working under the supervision and direction of our management, to supplement our existing accounting personnel on U.S. GAAP; |
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| 3. | We retained and intend to continue to retain the services of outside U.S. counselors to advise us on the SEC disclosure requirements; |
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| 4. | We implemented procedures to ensure construction in progress projects are recorded based on the expenditures actually incurred on a quarterly basis and to be reviewed accordingly, including: |
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| | i) | Engaging an independent construction surveyor company to supervise the progress of the construction projects and report the expenditures actually incurred in the form of project progress reports to us on a quarterly basis; |
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| | ii) | Requiring our construction manager of the Company to review and approve the project progress reports and the finance department records construction in progress based on the approved project progress reports on a quarterly basis; |
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| | iii) | Requiring the finance manager to review the accounting entry as well as the approved project progress reports. |
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| 5. | We implemented procedures to ensure construction in progress is transferred to property, plant, and equipment in order to commence depreciation of the asset when it is ready for intended use and to be reviewed accordingly, including: |
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| | i) | Finance department transfers construction in progress to cost of property, plant and equipment when it is ready for its intended use, at which time depreciation charges commence thereon. The criteria used to determine when an asset is ready for intended use are based on policies that are consistent with U.S. GAAP. |
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| | ii) | Independent construction surveyors are retained to assist management in the determination of readiness for construction projects that meet certain minimum criteria. |
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| | iii) | Finance manager reviews the accounting entry and time of transfer. |
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| | iv) | Estimated unbilled costs and costs to complete assets that have been determined to be ready for their intended use are based on relevant historical cost and budget information by authorized personnel within the finance department. |
We believe that we are taking the steps necessary for remediation of the material weaknesses identified above, and we will continue to monitor the effectiveness of these steps and to make any changes that our management deems appropriate.
Changes in Internal Controls over Financial Reporting
Despite the remediation measures we have been taking, there were no changes in our internal controls over financial reporting during the fourth quarter of fiscal 2006 that have materially affected, or are reasonably likely to materially affect our internal control over financial reporting.
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Report of Independent Registered Public Accounting Firm
The Board of Directors and Shareholders of
China BAK Battery, Inc.:
We have audited management’s assessment, included in the accompanying Management’s Report on Internal Control over Financial Reporting (Item 9A(b)), that China BAK Battery, Inc. and its subsidiaries (the “Group”) did not maintain effective internal control over financial reporting as of September 30, 2006, because of the effects of the material weaknesses identified in management’s assessment based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Group’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the Group’s internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”). A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
A material weakness is a control deficiency, or combination of control deficiencies, that results in more than a remote likelihood that a material misstatement of the annual or interim financial statements will not be prevented or detected. The following material weaknesses have been identified and included in management’s assessment as of September 30, 2006:
| • | The Group did not maintain effective controls over the financial reporting process due to an insufficient complement of personnel with a level of accounting knowledge, experience and training in the application of U.S. GAAP commensurate with the Group’s financial reporting requirements. Additionally, the Group’s senior management lacked an adequate level of accounting knowledge, experience and training in the application of U.S.GAAP, and did not implement adequate supervisory review to ensure that the consolidated financial statements were prepared in conformity with U.S. GAAP. The lack of a sufficient complement of personnel with a level of accounting knowledge, experience and training contributed to each of the material weaknesses discussed below; |
| | |
| • | The Group did not maintain effective controls over accounting for capitalization of interest costs, and the related recognition of property, plant and equipment and depreciation expense. Specifically, the Group did not have effective controls to ensure that capitalized interest costs for qualifying assets and related depreciation expense were properly determined. This material weakness resulted in the understatement of the related property, plant and equipment, construction in progress and depreciation expense and an overstatement of interest expense, which required the Group to restate, in August 2006, the Group’s previously issued consolidated financial statements as of September 30, 2004 and 2005, and for each of the three years ended September 30, 2005, and the interim condensed consolidated financial information for each of the quarters ended March 31, 2005, June 30, 2005, December 31, 2005, and March 31, 2006. This material weakness also resulted in a material adjustment to the Group’s preliminary consolidated financial statements as of September 30, 2006; |
| | |
| • | The Group did not maintain effective controls over accounting for deferred taxes under U.S. GAAP. Specifically, the Group did not have effective controls over the identification and measurement of differences between the respective tax and financial reporting bases of certain assets and liabilities and the determination of the applicable income tax rate to ensure that deferred taxes were accurately presented in the Group’s consolidated financial statements. This material weakness resulted in the understatement of both deferred tax assets and deferred tax liabilities and errors in income tax expense, which required the Group to restate, in August 2006, the Group’s previously issued consolidated financial statements as of September 30, 2004 and 2005, and for each of the three years ended September 30, 2005, and the interim condensed consolidated financial information for each of the quarters ended March 31, 2005, June 30, 2005, December 31, 2005, and March 31, 2006. This material weakness also resulted in a material adjustment to the Group’s preliminary consolidated financial statements as of September 30, 2006; |
60
| • | The Group did not maintain effective controls over accounting for the share-based compensation. Specifically, the Group did not have effective controls to determine the accounting for cancellation and replacement of certain option grants and the classification of the associated share-based compensation expense in the consolidated statement of income and comprehensive income. This material weakness resulted in a material adjustment to the Group’s preliminary consolidated financial statements as of September 30, 2006; |
| | |
| • | The Group did not maintain effective controls over the calculation of earnings per share in accordance with Statement of Financial Accounting Standards No. 128 “Earnings per Share”. Specifically, the Group did not have effective controls to accurately and comprehensively identify dilutive instruments in the calculation of diluted earnings per share. This material weakness resulted in errors in the diluted weighted average number of ordinary shares which required the Group to restate, in August 2006, the Group’s previously issued consolidated financial statements as of September 30, 2004 and 2005, and for each of the three years ended September 30, 2005, and the interim condensed consolidated financial information for each of the quarters ended March 31, 2005, June 30, 2005, December 31, 2005, and March 31, 2006. This material weakness also resulted in a material adjustment to the Group’s preliminary consolidated financial statements as of September 30, 2006; |
| | |
| • | The Group did not maintain effective controls over the accounting for the complete and accurate recognition of construction in progress assets. Specifically, the Group did not have effective controls over the process for initiating, authorizing, recording and processing journal entries related to recognition of construction in progress assets. This material weakness resulted in more than a remote likelihood that a material misstatement to the Group’s annual or interim consolidated financial statements would not be prevented or detected; and |
| | |
| • | The Group did not maintain effective controls over the accounting for construction in progress assets and the determination of depreciation expense when the assets are ready for their intended use. Specifically, the Group did not have effective controls to track and assess the ready-for-intended-use status of the construction in progress assets to ensure construction in progress assets being transferred to property, plant and equipment and the related commencement of depreciation expense was in accordance with U.S. GAAP. This material weakness resulted in more than a remote likelihood that a material misstatement to the Group’s annual or interim consolidated financial statements would not be prevented or detected. |
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated financial statements of the Group. These material weaknesses were considered in determining the nature, timing, and extent of audit tests applied in our audit of the Group’s consolidated financial statements as of and for the year ended September 30, 2006, and this report does not affect our report dated December 8, 2006 on those consolidated financial statements, which expressed an unqualified opinion on those consolidated financial statements.
In our opinion, management’s assessment that the Group did not maintain effective internal control over financial reporting as of September 30, 2006, is fairly stated, in all material respects, based on criteria established in Internal Control—Integrated Framework issued by COSO. Also, in our opinion, because of the effect of the material weaknesses described above on the achievement of the objectives of the control criteria, the Group has not maintained effective internal control over financial reporting as of September 30, 2006, based on criteria established in Internal Control—Integrated Framework issued by COSO.
/s/ KPMG
Hong Kong, China
December 8, 2006.
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Item 9B. Other Information.
None.
PART III
Item 10. Directors and Executive Officers and Corporate Governance.
Directors and Executive Officers
The following table provides information about our executive officers and directors and their respective ages and positions as of September 30, 2006. The directors listed below will serve until our next annual or special meeting of stockholders at which directors are elected. Effective December 8, 2006, Article V of our articles of incorporation was amended so that the number of our directors shall be determined in accordance with our bylaws instead of in accordance with the provisions contained in our articles of incorporation.
| | Age | | Position Held |
| |
| |
|
Xiangqian Li | | 37 | | Chairman, President and Chief Executive Officer |
Huanyu Mao | | 54 | | Director, Chief Operating Officer and Chief Technology Officer |
Richard B. Goodner | | 60 | | Director |
Joseph R. Mannes | | 47 | | Director |
Jay J. Shi | | 42 | | Director |
Yongbin Han | | 36 | | Chief Financial Officer, Secretary and Treasurer |
Yanlong Zou | | 37 | | Vice President of Quality and Reliability Assurance and Purchasing |
Shuquan Zhang | | 43 | | Vice President of Intellectual Property, Legal Matters and General Administration |
Houde Liu | | 31 | | Vice President of Sales and Marketing |
Xiangqian Li has served as the chairman of our board, our president and chief executive officer since January 20, 2005. He has been a director of BAK International Limited, our Hong Kong incorporated subsidiary, since November 2004. Mr. Li is the founder and has served as the chairman of the board of Shenzhen BAK, our wholly owned subsidiary, since its inception in August 2001, and served as Shenzhen BAK’s general manager since December 2003. From June 2001 to June 2003, Mr. Li was the chairman of Huaran Technology Co., Ltd., a PRC-incorporated company engaged in the car audio business. Mr. Li received a bachelor’s degree in thermal energy and power engineering from the Lanzhou Railway Institute, China and a doctorate degree in quantitative economics from Jilin University in China.
Huanyu Mao has served as a director of our company since May 12, 2006. He has also served as our chief technology officer since January 20, 2005 and as our chief operating officer since June 30, 2005. Dr. Mao has been the chief scientist of Shenzhen BAK since September 2004. Prior to joining us, between 1997 and September 2004, Dr. Mao was the chief technology officer of Tianjin Lishen, a leading battery manufacturer in China. Mr. Mao pioneered core technologies on lithium-ion battery before its commercialization in 1992 and was the inventor under seven U.S. patents relating to lithium-ion technology. Dr. Mao received a doctorate degree in electrochemistry from Memorial University of Newfoundland, Canada where he focused on conductive polymers.
Richard B. Goodner has served as our director since May 12, 2006. Since June 2003, Mr. Goodner has served as the vice president for legal affairs and general counsel for U.S. Home Systems, Inc., a public company listed on the Nasdaq National Market. Since May 2006, Mr. Goodner also has been a director of Winner Medical Group Inc., a leading Chinese exporter of medical disposal products, which shares are traded on the Over-the-Counter Bulletin Board in the United States. From 1997 and 2003, Mr. Goodner was a partner in the law firm of Jackson Walker L.L.P. Mr. Goodner holds a bachelor of arts degree in economics from Eastern New Mexico University and a law degree from Southern Methodist University, the United States.
Joseph R. Mannes has served as our director since May 12, 2006. Mr. Mannes is also the chief operating officer and principal supervisory officer, broker and dealer of SAMCO Capital Markets Inc. From 2001 to 2006, Mr. Mannes was the managing director for corporate finance of SAMCO Capital Markets, an investment banking division of Penson Financial Services, Inc. From 1998 to 2001, Mr. Mannes was chief financial officer for Clearwire Technologies, a fixed wireless technology developer and network service company in Arlington, Texas. Mr. Mannes holds a bachelor of arts degree in philosophy and French from Dartmouth College and an MBA in finance and accounting from the Wharton School of the University of Pennsylvania.
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Jay J. Shi has served as our director since May 12, 2006. Since October 2005, Mr. Shi has served as the chairman and the chief technology officer of SoBright Technology, Co., Ltd., a PRC-based manufacture company. From March to September 2005, Mr. Shi was the president of Big Wave Consulting Co., a company engaged in consulting business in battery industry. From May 2002 to February 2005, Mr. Shi served as the senior manager/associate principal of TIAX, LLC, a U.S.-based collaborative research and development company. From May 1998 to April 2002, he was the senior manager of Arthur D. Little, Inc. Mr. Shi holds a Ph.D degree in physical chemistry from St. Andrews University, and a master of science in polymer sciences and a bachelor of science in chemistry from Zhejiang University, China.
Yongbin Han has served as our chief financial officer and company secretary since January 20, 2005, and our treasurer since August 31, 2005. He has been the chief financial officer and the vice president of Shenzhen BAK since April 2003. Prior to joining us, Mr. Han served as deputy general manager of Huaruan Technology from January 2002 to April 2003 and as department manager of Zhonghongxin Jianyuan Accounting Firm, a PRC certified public accounting firm, from July 1995 to July 2001. Mr. Han received a bachelor’s degree in accounting from the Changchun Tax Institute, China. Mr. Han is a PRC certified public accountant and certified tax agent.
Yanlong Zou has served as the vice president of quality and reliability assurance and purchasing of Shenzhen BAK since October 2004. Mr. Zou served as the deputy general manager of Shenzhen BAK from August 2001 to October 2004. Mr. Zou received a bachelor’s degree in railway vehicle engineering from the Lanzhou Railway Institute, China.
Houde Liu has served as the vice president of sales and marketing and the general manager assistant of Shenzhen BAK since May 2006. He has also been the general manager of BAK Electronics since March 2006. Mr. Liu served as the manager of general administration department, the president’s assistant and a director of Shenzhen BAK from November 2003 to May 2006. Prior to joining us, between January 2000 and November 2003, Mr. Liu was the deputy general manager of Shenzhen Metropolitan Drywall Panel Co., Ltd., a PRC-incorporated company engaged in the drywall panel business. Mr. Liu received a master’s degree in literature from the Huazhong University of Science and Technology, China.
Shuquan Zhang has served as the vice president of intellectual property, legal matters and general administration of Shenzhen BAK since October 2004. He served as the general manager’s assistant of Shenzhen BAK from February 2004 to October 2004. Prior to joining us, between August 1995 and December 2003, Mr. Zhang was the deputy general manager of Shenyang Hotel, China. Mr. Zhang received a bachelor’s degree in economics and management from the Party School of the Communist Party of China Central Committee.
Family Relationships
There are no family relationships among our directors or officers.
Involvement in Certain Legal Proceedings
None of our directors is subject to any legal proceedings in the past five years and that may adversely affect his ability and/or integrity to serve as our director.
Section 16(A) Beneficial Ownership Reporting Compliance
Under U.S. securities laws, directors, certain executive officers and persons holding more than 10% of our common stock must report their initial ownership of the common stock, and any changes in that ownership, to the SEC. The SEC has designated specific due dates for these reports. Based solely on our review of copies of such reports filed with the SEC and written representations of our directors and executive offers, we believe that all persons subject to reporting filed the required reports on time in 2006, except as follows: (i) late Form 4 reports filed by each of Houde Liu and Shuquan Zhang on October 23, 2006 and filed by Yanlong Zou on October 20, 2006 to report the cancellation of a stock option grant on September 28, 2006 of 50,000 shares of common stock pursuant to a termination and release agreement entered into between us and each of Houde Liu, Shuquan Zhang and Yanlong Zou; (ii) late Form 3 reports filed by each of Joseph R. Mannes, Richard B. Goodner and Jay J. Shi on October 25, 2006, in each case to report appointment as our director on May 12, 2006 and (iii) late Form 4 reports filed by each of Joseph R. Mannes, Richard B. Goodner and Jay J. Shi on October 25, 2006 to report the grant of 5,000 restricted shares of our common stock pursuant to our Compensation Plan for Nonemployee Directors, adopted by us on May 12, 2006.
63
Code of Business Conduct and Ethics
We have adopted a code of business conduct and ethics relating to the conduct of our business by our employees, officers and directors. We intend to maintain the highest standards of ethical business practices and compliance with all laws and regulations applicable to our business, including those relating to doing business outside the United States.
Item 11. Executive Compensation
Executive Compensation
None of our executive officers, including our chief executive officers, received annual compensation in excess of $100,000 during the following periods, and none of them is expected to receive compensation in excess of $100,000 for the fiscal year ended September 30, 2006. The following table sets forth the compensations paid to our chief executive officer for services rendered in all capacities to us during the following periods:
| | | | | Annual Compensation | | Long-Term Compensation | | Payouts | | | | |
| | | | |
| |
| |
| | | | |
| | | | | | | | | | | | | | Awards | | Long Term
Incentive
Plan
Payouts | | | | |
| | | | | | | | | | | | | |
| | | | | |
Name and Principal Position | | Year | | Salary | | Bonus | | Other Annual
Compensation | | Restricted
Stock
Awards | | Securities
Underlying
Options/SARs | | | All Other
Compensation | |
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Xiangqian Li, president, chief executive officer | | | 2006 | | $ | 29,893 | | | — | | | — | | | — | | | — | | | — | | $ | — | |
| | | 2005 | | $ | 8,736 | | | — | | | — | | | — | | | — | | | — | | $ | 45,730 | (1) |
| | | 2004 | | $ | 8,709 | | | — | | | — | | | — | | | — | | | — | | $ | — | |
|
(1) | Includes the value of the service provided by a company-owned car. |
Compensation of Directors
Each of our independent directors is paid approximately $20,000 annually, subject to adjustments determined by our board from time to time, and is granted 5,000 shares of our common stock for serving as our director. These 5,000 shares are restricted shares subject to a one-year vesting schedule, with the first 25% vesting on the grant date, which is May 12, 2006 respectively, and the remaining 75% vesting in three installments on the last day of each following full quarter. These directors will also be reimbursed for reasonable expenses incurred in connection with attending our board and committee meetings. The first 25% of the restricted shares were issued as fully paid ordinary shares to the three independent directors on July 19, 2006. The second 25% of the restricted shares were accelerated to vest on August 16, 2006. On the same day, these shares were issued as fully paid ordinary share to three independent directors.
We do not maintain a medical, dental or retirement benefits plan for these directors.
We have not compensated, and will not compensate, our non-independent directors, such as Mr. Xiangqian Li and Dr. Huanyu Mao, for serving as our directors, although they are entitled to reimbursements for reasonable expenses incurred in connection with attending our board meetings.
The directors may determine remuneration to be paid to the directors with interested members of the board refraining from voting. The compensation committee will assist the directors in reviewing and approving the compensation structure for the directors.
Compensation Plan for Non-Employee Directors
Effective May 9, 2006 our shareholders approved our compensation plan for non-employee directors. Under this plan, we may issue up to 500,000 shares of common stock to non-employee directors. On May 12, 2006, we issued 5,000 shares of common stock to each of Richard B. Goodner, Joseph R. Mannes and Jay J. Shi, our independent directors, as compensation for their services in such capacities. The major terms and conditions of this compensation plan are summarized below:
Eligibility. Only members of our board of directors who do not serve as officers or employees of our company or any of our subsidiaries is eligible to participate.
64
Administration. The plan is administered by our board of directors. Our board may make such rules and establish such procedures for the administration of the plan as it deems appropriate to carry out its purpose.
Annual Retainer. Eligible directors are entitled to receive an annual retainer fee for membership on our board of directors in an amount to be established from time to time by our board of directors, currently anticipated to be $20,000, plus an additional fee for service as a committee chairperson in an amount to be established from time to time by our board of directors, currently anticipated to be $5,000. Additionally, eligible directors are entitled to receive 5,000 shares of our common stock, with twenty-five percent (25%) of such shares vesting immediately upon election to participate in the plan and the remaining shares to vest in increments of 25% each subsequent quarter so long as such director remains a director for the next three quarters.
Valuation of Shares. The fair market value of Plan Shares will be determined according to the closing price of a share of our common stock on a national securities exchange designated by our board of directors.
Corporate Changes. If certain corporate changes, such as a stock split, recapitalization or merger of our company with another entity, take place, our board of directors has the authority to make adjustments to reflect such change in the number and class of shares reserved for issuance under the plan.
Amendment and Termination. Our board of directors may at any time amend, terminate or suspend the plan in whole or in part, but no amendment to the plan will be effective without stockholder approval if such approval is required by law or under the rules of such stock exchange or automated quotation system on which our common stock is listed or quoted. Unless sooner terminated, the plan will terminate on May 1, 2015.
Employment Agreement
We have entered into employment agreements with each of our executive officers. Under these agreements, our chief executive officer is employed for three years and each of our other executive officers is employed for three years. We may terminate the employment for cause, at any time, without notice or remuneration, for certain acts of the officer, including but not limited to a conviction or plea of guilty to a felony, negligence or dishonesty to our detriment and failure to perform agreed duties after a reasonable opportunity to cure the failure. An executive officer may terminate his employment upon one-month written notice if there is a material reduction in his authority, duties and responsibilities or if there is a material reduction in his annual salary before the next annual salary review. Furthermore, we may terminate the employment at any time without cause by giving a three-month advance written notice to the executive officer. If we terminate the employment without cause, the executive officer will be entitled to a severance payment of up to three months of his or her then base salary, depending on the length of such officer’s employment with us.
Each executive officer has agreed to hold, both during and after the employment agreement expires or is earlier terminated, in strict confidence and not to use, except as required in the performance of his duties in connection with the employment, any confidential information, technical data, trade secrets and know-how of our company or the confidential information of any third party, including our affiliated entities and our subsidiaries, received by us. The executive officers have also agreed to disclose in confidence to us all inventions, designs and trade secrets which they conceive, develop or reduce to practice and to assign all right, title and interest in them to us. In addition, each executive officer has agreed to be bound by non-competition restrictions set forth in his or her employment agreement. Specifically, each executive officer has agreed not to, while employed by us and for a period of one year following the termination or expiration of the employment agreement,
| • | approach our clients, customers or contacts or other persons or entities, and not to interfere with the business relationship between us and such persons and/or entities; |
| | |
| • | assume employment with or provide services as a director for any of our competitors, or engage in any business which is in direct or indirect competition with our business; or |
| | |
| • | solicit the services of any of our employees. |
Compensation Committee Interlocks and Insider Participation
None of our executive officers serves as a member of the board of directors or compensation committee of an entity that has one or more executive officers who serve on our board of directors or compensation committee.
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Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.
Securities Authorized for Issuance Under Equity Compensation Plans
The following table sets forth certain information about the securities authorized for issuance under our 2005 stock option plan as of September 30, 2006. The options shown in column (a) below were granted under our 2005 stock option plan before the effectiveness of any stockholder approval.
Equity Compensation Plan Information
| | Number of securities
to be issued upon exercise
of outstanding options,
warrants and rights
(a) | | Weighted-average exercise price
of outstanding options,
warrants rights
(b) | | Number of securities
remaining available
for future issuance
under equity compensation
plans (excluding securities
reflected in column (a))
(c) | |
| |
|
| |
|
| |
|
| |
Equity compensation plans approved by security holders | | | — | | | — | | | — | |
Equity compensation plans not approved by security holders | | | 400,000 | (1) | $ | 6.25 | | | 3,600,000 | (1) |
| |
|
| |
|
| |
|
| |
Total | | | 400,000 | (1) | $ | 6.25 | | | 3,600,000 | (1) |
| |
|
| |
|
| |
|
| |
|
(1) | We granted options to purchase a total of 2,000,000 shares of common stock in May 2005. Of these options, options in respect of 170,000 shares of common stock were cancelled as of October 1, 2005. In the fiscal quarter ended September 30, 2006, options to purchase 30,000 shares of our common stock were cancelled. In each case, the holders of the options terminated their employment with us. On September 22, 2006, the Compensation Committee approved the form of Termination and Release Agreement for cancellation of 1,400,000 shares of stock options granted to the optionees who are residents of the PRC. The Compensation Committee also consented to adopt the terms and provisions for Restricted Stock Grant Agreement for the issuance of restricted shares and agreed to meet during the first quarter of fiscal year 2007 to determine an appropriate number of shares of restricted stock that will be granted to these optionees under the Plan (“the Replacement Awards”). Fair value of the Replacement Awards to be granted to each optionee will approximate that of the stock options given up by each optionee. The Replacement Awards are classified as liability-classified awards until such time that the number of shares is determined. On September 28, 2006, options to purchase a total of 1,400,000 shares of our common stock were cancelled pursuant to termination and release agreements signed on that day. |
Option Grants In the Last Fiscal Year
We granted options to our executive officers under our 2005 stock option plan only in the fiscal year of 2005. We did not grant any options to these officers in the fiscal year of 2006.
2005 Stock Option Plan
On May 16, 2005, our board of directors adopted China BAK Battery, Inc. 2005 Stock Option Plan, which was later approved by our stockholders and became effective May 12, 2006. Under the 2005 stock option plan, our board of directors is authorized to grant to our employees, non-employee directors and advisors nonqualified stock options, enabling them to purchase up to 4,000,000 shares of our common stock. The exercise price of options granted pursuant to the 2005 stock option plan must be at least equal to the fair market value of our common stock on the date of the grant.
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In May 2005, we granted options to purchase an aggregate of 2,000,000 shares to approximately 55 individuals. Options to purchase 200,000 shares of common stock were subsequently cancelled because the holders terminated their employment with us. In addition, as described above. On September 22, 2006, the Compensation Committee approved the form of Termination and Release Agreement for cancellation of 1,400,000 shares of stock options granted to the optionees who are residents of the PRC. The Compensation Committee also consented to adopt the terms and provisions for Restricted Stock Grant Agreement for the issuance of restricted shares and agreed to meet during the first quarter of fiscal year 2007 to determine an appropriate number of shares of restricted stock that will be granted to these optionees under the Plan (“the Replacement Awards”). Fair value of the Replacement Awards to be granted to each optionee will approximate that of the stock options given up by each optionee. On September 28, 2006, options to purchase a total of 1,400,000 shares of our common stock were cancelled pursuant to termination and release agreements signed on that day. The major terms and conditions of our 2005 stock option plan are summarized below.
Types of Awards. We may grant the following types of awards under our 2005 stock option plan:
| • | non-qualified stock options |
| • | restricted stock |
Plan Administration. A committee designated by our board of directors administers our 2005 stock option plan. The committee has the sole discretion and authority to determine the eligibility, the number of underlying shares, as well as other terms and conditions of each grant. The committee also has the right to interpret, amend or modify each option agreement or restricted stock grant agreement and to remove any restrictions or conditions applicable to any options or restricted stock. A majority of the members constituting the committee will be sufficient to make decisions regarding matters related to the 2005 stock option plan.
Dividends and other distribution paid on or in respect of any shares of restricted stock may be paid directly to the participant or may be invested in additional shares of restricted stock as determined by the committee in its sole discretion.
Acceleration of Options upon Corporate Transactions. The outstanding options will accelerate upon occurrence of a change-of-control corporate transaction or sale of all or substantially all of assets in liquidation or dissolution of our company. In such event, each outstanding option will become fully vested and immediately exercisable, subject to the final determination of the committee. However, the outstanding options will not accelerate if the successor entity assumes our outstanding options or replace them with a cash incentive program that preserves the spread existing at the time of such corporate action and provides for the subsequent payout in accordance with the same vesting schedule applicable to our options.
Automatic Acceleration. At the time of grant or while the options are outstanding, the committee has discretion to allow automatic acceleration of one or more options upon occurrence of a change-of-control corporation transaction, whether or not our options are assumed or replaced by the successor entity. In addition, the committee may allow automatic acceleration for options if the holder’s service is terminated involuntarily within 18 months after the effectiveness of such corporate transaction.
Option Agreement. Options granted under our 2005 option plan are evidenced by a non-qualified stock option agreement that sets forth the terms, conditions and limitations for the options granted, including the exercise price, duration of the options and the vesting schedule.
Vesting Schedule. The outstanding options are subject to the vesting as specified in the option agreements. The earliest time for exercise of these options is July 1, 2007, but only up to 40% of these outstanding options are exercisable then. There must be a minimum six-month interval between each exercise. The second exercise of these options, together with the first exercise, may not exceed 70% of total outstanding options.
Termination of Employment, Death and Disability. In the event of termination of services other than for death, disability or misconduct, the unvested portion of the options shall immediately terminate and cease to remain outstanding. If an option holder dies or ceases to provide services to us for permanent disability, his or her options will become fully exercisable and will remain valid for exercise for a year. If an option holder ceases to provide services to us due to his or her misconduct, all the options held by such person shall immediately terminate, whether vested or unvested.
Market Stand-Off. In case of a public offering pursuant to a registration statement filed under the Securities Act, holders of our options may not sell, hypothecate, pledge or otherwise transfer for value or dispose of any shares acquired upon exercise of an option granted under our 2005 stock option plan without the prior written consent of us and the underwriters. In event of a public offering, the market stand-off of the shares acquired upon exercise of an option shall be in effect for such period of time from and after the effective date of the final prospectus for the offering as may be required to execute such agreement as we or underwriter request in connection with the market stand-off.
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Transferability of Options. The options granted under our 2005 stock option plan may not be transferred other than by will or operation of laws, except as otherwise agreed by the committee.
Security Ownership of Certain Beneficial Owners and Management
The following table sets forth, as of September 30, 2006, certain information with respect to the beneficial ownership of our common stock by (i) each director and executive officer, (ii) each person known by us to be the beneficial owner of five percent or more of the outstanding shares of common stock, and (iii) all directors and executive officers as a group. Unless otherwise indicated, the person or entity listed in the table is the beneficial owner of, and has sole voting and investment power with respect to, the shares indicated.
| | Amount and Nature of Beneficial Ownership (1) | |
| |
| |
Name of Beneficial Owner | | Number of Shares (2) | | Percent of Voting Stock (3) | |
| |
|
| |
|
| |
Xiangqian Li | | | 21,233,437 | (4) | | 43.4 | % |
BAK Industrial park,
No. 1 BAK Street
Kuichong TownLonggang District,
Shenzhen
People’s Republic of China | | | | | | | |
Huanyu Mao | | | 249,805 | | | * | |
BAK Industrial park, No. 1 BAK Street
Kuichong Town
Longgang District, Shenzhen
People’s Republic of China | | | | | | | |
Joseph R. Mannes | | | 2,500 | | | * | |
1700 Pacific, Suite 2000, Dallas, TX 75201, United States | | | | | | | |
Jay J. Shi | | | 2,500 | | | * | |
12 Marian Road, Acton, MA01710, United States | | | | | | | |
Richard Goodner | | | 2,500 | | | * | |
6608 Emerald Drive, Colleyville, TX76034, United States | | | | | | | |
Yongbin Han | | | 312,256 | | | * | |
BAK Industrial park, No. 1 BAK Street
Kuichong Town
Longgang District, Shenzhen
People’s Republic of China | | | | | | | |
Yanlong Zou | | | 124,903 | | | * | |
BAK Industrial park, No. 1 BAK Street
Kuichong Town
Longgang District, Shenzhen
People’s Republic of China | | | | | | | |
Shuquan Zhang | | | 132,709 | | | * | |
BAK Industrial park, No. 1 BAK Street
Kuichong Town
Longgang District, Shenzhen
People’s Republic of China | | | | | | | |
Houde Liu | | | — | | | — | |
BAK Industrial park, No. 1 BAK Street
Kuichong Town
Longgang District, Shenzhen
People’s Republic of China | | | | | | | |
Directors and executive officers as a group (9 persons) | | | 22,060,610 | | | 45.1 | % |
|
* | Denotes less than 1% of the outstanding shares of common stock |
| |
(1) | On September 30, 2006, there were 48,885,896 shares of common stock outstanding and no issued and outstanding preferred stock. Each person named above has the sole investment and voting power with respect to all shares of common stock shown as beneficially owned by the person, except as otherwise indicated below. |
68
(2) | Under applicable SEC rules, a person is deemed to be the “beneficial owner” of a security with regard to which the person directly or indirectly, has or shares (a) the voting power, which includes the power to vote or direct the voting of the security, or (b) the investment power, which includes the power to dispose, or direct the disposition, of the security, in each case irrespective of the person’s economic interest in the security. Under these SEC rules, a person is deemed to beneficially own securities which the person has the right to acquire within 60 days through the exercise of any option or warrant or through the conversion of another security. |
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(3) | In determining the percent of voting stock owned by a person on September 30, 2006, (a) the numerator is the number of shares of common stock beneficially owned by the person, including shares the beneficial ownership of which may be acquired within 60 days upon the exercise of options or warrants or conversion of convertible securities, and (b) the denominator is the total of (i) the 48,885,896 shares in the aggregate of common stock outstanding on September 30, 2006, and (ii) any shares of common stock which the person has the right to acquire within 60 days upon the exercise of options or warrants or conversion of convertible securities. Neither the numerator nor the denominator includes shares which may be issued upon the exercise of any other options or warrants or the conversion of any other convertible securities. |
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(4) | Mr. Li is a party to an Escrow Agreement pursuant to which he agreed to place 2,179,550 shares of his common stock into escrow for the benefit of the new investors relating to the share issuance in January 2005 in the event we fail to satisfy certain “performance thresholds”, as defined in the Escrow Agreement. Our previously reported net income for the fiscal year ended September 30, 2005 exceeded the “performance threshold” for such period; accordingly, 1,089,775 of the shares placed in escrow by Mr. Li were released to Mr. Li. Because the recognition of a compensation charge in this connection would cause our net income for fiscal 2005 fall below $12.0 million and therefore entitle the investors to the shares released, Mr. Li has undertaken to transfer to those new investors the shares that were released to him. The shares listed under Mr. Li in this table include 1,089,775 shares that are about to release to the investors from the escrow because we failed to satisfy the performance threshold in the fiscal year 2006 as required under the Escrow Agreement. Accordingly, the total number of shares held by Mr. Li listed in this table would be reduced by 2,179,550 after these shares are released to those investors. Mr. Li is also a party to a Lock-up Agreement pursuant to which he has agreed, except for distributions of his shares of common stock required under the Escrow Agreement, not to transfer his common stock for a period commencing January 20, 2005 and ending 12 months after the date our common stock is listed on either the Nasdaq Stock Market or another national stock exchange or quotation medium. Mr. Li is also a party to a Pledge Agreement pursuant to which he has agreed to pledge 19,110,093 shares of his common stock to Shenzhen Development Bank (Longgang Branch) as collateral for a comprehensive credit facility of Shenzhen BAK. |
Item 13. Certain Relationships and Related Party Transactions.
Shenzhen BAK has several outstanding short term bank loans and bills payable to (i) Agricultural Bank of China (Longgang/Shenzhen Eastern Branches), (ii) Shenzhen Commercial Bank (Shuibei Branch), (iii) Shenzhen Development Bank (Longgang Branch), (iv) China Construction Bank (Dapeng Branch), (v) Bank of China (Shenzhen Branch) respectively, the proceeds of which were used primarily to fund the operations of our manufacturing facility located at the BAK Industrial Park and for general working capital requirements. At September 30, 2006, we had aggregate amounts due and payable under these debt arrangements of $97.1 million, including short-term bank loans of $67.9 million and bills payable of $29.2 million. The debt arrangements bear interest at rates ranging from 5.022% to 5.67% and have maturity dates ranging from four to twelve months. Each loan is guaranteed by Mr. Li, our director, Chairman of the Board, President and Chief Executive Officer. Mr. Li has also pledged 19,110,093 of his 21,233,437 shares of our common stock to secure certain of our indebtedness. Mr. Li did not receive or is entitled to receive any consideration for the above referenced guarantees, and we are not independently obligated to indemnify any of those guarantors for any amounts paid by them pursuant to any guarantee.
On October 18, 2003, we acquired intangible assets, including a patent and other patent rights, from Huaruan Technology, an entity controlled by Xiangqian Li, our President and Chief Executive Officer. The total consideration paid to Huaruan Technology was $3.87 million. The consideration paid to Huaruan Technology in excess of the President’s carrying cost was charged to retained earnings as a distribution to the President.
On September 30, 2004, Shenzhen BAK entered into a Financial Advisory Agreement with HFG International, Ltd., a Hong Kong corporation, pursuant to which HFG International agreed to provide BAK Battery with consulting help in implementing an organizational structure that would facilitate accessing the capital markets of the United States. In consideration for these services, HFG International was paid a fee of $400,000 in conjunction with the consummation of BAK Battery’s private placement on January 20, 2005. Timothy P. Halter, our former Chief Executive Officer, is the principal shareholder and an executive officer of HFG International. We believe the agreement was on terms at least as favorable to BAK Battery as those that could have been negotiated with an unaffiliated party providing similar services.
69
On June 10, 2004, we issued 99,858 shares of our $ 0.001 par value common stock to Harry Miller, our former President and Chief Executive Officer, in full settlement of a debt in the amount of $49,929 that we owed to Mr. Miller. The price of the transaction was $0.50 per share. The last reported sale price for shares of our common stock prior to that issuance was $0.50 per share.
Item 14. Principal Accounting Fees and Services.
Independent Auditors’ Fees
George Stewart, C.P.A. and Schwartz Levitsky Feldman LLP performed services for us in fiscal 2005, and Schwartz Levitsky Feldman LLP and KPMG performed services for us in fiscal 2006 related to financial statement audit work, quarterly reviews, audit of internal control over financial reporting and registration statement. Fees paid or payable to George Stewart, C.P.A., Schwartz Levitsky Feldman LLP and KPMG in fiscal 2006 and 2005 were as follows:
Year Ended September 30 | | 2005 | | 2006 | |
| |
|
| |
|
| |
Audit Fees | | $ | 161,000 | | $ | 935,826 | |
Audit-Related Fees | | | 97,000 | | | 9,342 | |
Tax Fees | | | | | | | |
All Other Fees | | | | | | | |
| |
|
| |
|
| |
Total | | $ | 258,000 | | $ | 945,168 | |
| |
|
| |
|
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Pre-Approval Policies and Procedures
Under the Sarbanes-Oxley Act of 2002, all audit and non-audit services performed by our auditors must be approved in advance by our audit committee to assure that such services do not impair the auditors’ independence from us. In accordance with its policies and procedures, our audit committee pre-approved the audit service performed by KPMG for our consolidated financial statements as of and for the year ended September 30, 2006 and our internal control over financial reporting as of September 30, 2006. As our audit committee was formed only in May 2006, there was no such pre-approval by our audit committee before George Stewart, C.P.A. and Schwartz Levitsky Feldman LLP performed their audit in fiscal 2005 and before KPMG performed the re-audit of our consolidated financial statements for fiscal 2003, 2004 and 2005.
70
PART IV
Item 15. Exhibits, Financial Statement Schedules.
(a) | Financial Statements and Schedules |
The financial statements are set forth under Item 8 of this Annual Report on Form 10-K. Financial statement schedules have been omitted since they are either not required, not applicable, or the information is otherwise included.
Exhibit
Number | | Description of Document |
| |
|
3.1 | | Articles of Incorporation of the Registrant |
3.2 | | ByLaws of the Registrant (incorporated by reference to Exhibit 3.2 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on August 22, 2006) |
10.1 | | China BAK Battery, Inc. Stock Option Plan (incorporated by reference to Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on August 22, 2006) |
10.2 | | China BAK Battery, Inc. Compensation Plan for Non-Employee Directors (incorporated by reference to Exhibit 10.2 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on August 22, 2006) |
10.3 | | Form of Indemnification Agreement with the Registrant’s directors (incorporated by reference to Exhibit 10.3 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on August 22, 2006) |
10.4 | | Form of Employment Agreement between the Registrant and the Chief Executive Officer of the Registrant (incorporated by reference to Exhibit 10.4 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on August 22, 2006) |
10.5 | | Form of Employment Agreement between the Registrant and Any Other Executive Officer (incorporated by reference to Exhibit 10.5 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on August 22, 2006) |
10.6 | | Form of Securities and Exchange Agreement, dated as of January 20, 2005, by and among BAK International, Ltd., Medina Coffee, Inc. and the stockholders of BAK International, Ltd. (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the Commission on January 21, 2005) |
10.7 | | Form of Escrow Agreement, dated as of January 20, 2005, by and among Medina Coffee, Inc., the selling stockholders, Xiangqian Li, and Securities Transfer Corporation (incorporated by reference to Exhibit 10.2 to the Registrant’s Current Report on Form 8-K filed with the Commission on January 21, 2005) |
10.8 | | Form of Lock-up Agreement, dated as of January 20, 2005, by and between Medina Coffee, Inc. and Xiangqian Li (incorporated by reference to Exhibit 10.3 to the Registrant’s Current Report on Form 8-K filed with the Commission on January 21, 2005) |
10.9 | | Form of Subscription Agreement between a subscriber and BAK International Ltd. (incorporated by reference to Exhibit 10.4 to the Registrant’s Current Report on Form 8-K filed with the Commission on January 21, 2005) |
10.10 | | Form of Securities Purchase Agreement, dated as of September 14, 2005, by and among China BAK Battery, Inc. and the investors signatory thereto (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the Commission on September 15, 2005) |
10.11 | | Form of Registration Rights Agreement, dated as of September 16, 2005, by and among China BAK Battery, Inc. and the investors signatory thereto (incorporated by reference to Exhibit 10.2 to the Registrant’s Current Report on Form 8-K filed with the Commission on September 15, 2005) |
10.12 | | Warrant issued by China BAK Battery, Inc. to Roth Capital Partners, LLC on September 16, 2005 (incorporated by reference to Exhibit 10.50 to the Registrant’s Annual Report on Form 10-KSB filed with the Commission on December 30, 2005) |
10.13 | | Warrant issued by China BAK Battery, Inc. to Global Hunter Securities LLC on September 16, 2005 (incorporated by reference to Exhibit 10.51 to the Registrant’s Annual Report on Form 10-KSB filed with the Commission on December 30, 2005) |
71
Exhibit
Number | | Description of Document |
| |
|
10.14 | | Summary of Comprehensive Credit Facility Agreement of Maximum Amount, dated as of March 23, 2006, by and between Shenzhen BAK Battery Co., Ltd. and Shatoujiao Branch, Agricultural Bank of China (incorporated by reference to Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on May 10, 2006) |
10.15 | | Summary of Guaranty Contract of Maximum Amount, dated as of March 23, 2006, by and between Xiangqian Li and Shatoujiao Branch, Agricultural Bank of China (incorporated by reference to Exhibit 10.2 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on May 10, 2006) |
10.16 | | Summary of Comprehensive Credit Facility Agreement of Maximum Amount, dated as of May 20, 2005, by and between Shenzhen BAK Battery Co., Ltd. and Longgang Branch, Agricultural Bank of China (incorporated by reference to Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-QSB filed with the Commission on August 19, 2005) |
10.17 | | Summary of Guaranty Contract of Maximum Amount, dated as of May 20, 2005, by and between BAK International Ltd. and Longgang Branch, Agricultural Bank of China (incorporated by reference to Exhibit 10.2 to the Registrant’s Quarterly Report on Form 10-QSB filed with the Commission on August 19, 2005) |
10.18 | | Summary of Guaranty Contract of Maximum Amount, dated as of May 20, 2005, by and between Xiangqian Li and Longgang Branch, Agricultural Bank of China (incorporated by reference to Exhibit 10.3 to the Registrant’s Quarterly Report on Form 10-QSB filed with the Commission on August 19, 2005) |
10.19 | | Comprehensive Credit Facility Agreement, dated as of August 24, 2005, by and between Shenzhen BAK Battery Co., Ltd. and Shenzhen Branch, China Construction Bank (incorporated by reference to Exhibit 10.45 to the Registrant’s Registration Statement on Form SB-2/A filed with the Commission on November 29, 2005) |
10.20 | | Irrevocable Letter of Guaranty (Applicable to Credit Facility Agreement), dated as of August 19, 2005, issued by Xiangqi Li to Shenzhen Branch, China Construction Bank (incorporated by reference to Exhibit 10.46 to the Registrant’s Registration Statement on Form SB-2/A filed with the Commission on November 29, 2005) |
10.21 | | Summary of Guaranty Contract of Comprehensive Credit Facilities, dated as of December 1, 2005, by and between BAK International Limited and Shenzhen Branch, China Construction Bank (incorporated by reference to Exhibit 10.52 to the Registrant’s Registration Statement on Form SB-2 filed with the Commission on December 9, 2005) |
10.22 | | Summary of Comprehensive Credit Facility Agreement of Maximum Amount, dated as of February 9, 2006, by and between Shenzhen BAK Battery Co., Ltd. and Shenzhen Branch, China CITIC Bank (incorporated by reference to Exhibit 10.7 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on May 10, 2006) |
10.23 | | Summary of Guaranty Contract of Maximum Amount, dated as of February 9, 2006, by and between BAK International Limited and Shenzhen Branch, China CITIC Bank (incorporated by reference to Exhibit 10.8 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on May 10, 2006) |
10.24 | | Summary of Guaranty Contract of Maximum Amount, dated as of February 9, 2006, by and between Xiangqian Li and Shenzhen Branch, China CITIC Bank (incorporated by reference to Exhibit 10.9 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on May 10, 2006) |
10.25 | | Summary of Comprehensive Credit Facility Agreement, dated as of April 22, 2006, by and between Shenzhen BAK Battery Co., Ltd. and Shuibei Branch, Shenzhen Commercial Bank (incorporated by reference to Exhibit 10.6 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on August 22, 2006) |
10.26 | | Summary of Guaranty Contract of Maximum Amount, dated as of April 21, 2006, by and between BAK International Limited and Shuibei Branch, Shenzhen Commercial Bank (incorporated by reference to Exhibit 10.7 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on August 22, 2006) |
10.27 | | Summary of Individual Guaranty Contract of Maximum Amount, dated as of April 21, 2006, by and between Xiangqian Li and Shuibei Branch, Shenzhen Commercial Bank (incorporated by reference to Exhibit 10.8 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on August 22, 2006) |
10.28 | | Summary of Pledge Contract of Maximum Amount, dated as of May 8, 2006, by and between Shenzhen BAK Battery Co., Ltd. and Shuibei Branch, Shenzhen Commercial Bank (incorporated by reference to Exhibit 10.9 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on August 22, 2006) |
72
Exhibit
Number | | Description of Document |
| |
|
10.29 | | Individual Guaranty Contract of Maximum Amount, dated as of April 20, 2005, by and between Xiangqian Li and Shuibei Branch, Shenzhen Commercial Bank (incorporated by reference to Exhibit 10.33 to the Registrant’s Registration Statement on Form SB-2/A filed with the Commission on November 29, 2005) |
10.30 | | Summary of Guaranty Contract of Maximum Amount, dated as of April 21, 2005, by and between Shenzhen Tongli Hi-tech Co.,Ltd, as the Guarantor, with Shenzhn Commercial Bank to secure the indebtedness of Shenzhen BAK Battery Co., Ltd. (incorporated by reference to Exhibit 10.45 to the Registrant’s Registration Statement on Form SB-2/A filed with the Commission on June 22, 2005) |
10.31 | | Summary of Comprehensive Credit Facilities Agreement, dated as of April 5, 2006, by and between Shenzhen BAK Battery Co., Ltd. and Longgang Branch, Shenzhen Development Bank (incorporated by reference to Exhibit 10.10 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on August 22, 2006) |
10.32 | | Summary of Guaranty Contract of Maximum Amount, dated as of April 5, 2006, by and between Xiangqian Li and Longgang Branch, Shenzhen Development Bank (incorporated by reference to Exhibit 10.11 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on August 22, 2006) |
10.33 | | Summary of Pledge Contract of Maximum Amount, dated as of April 5, 2006, by and between Shenzhen BAK Battery Co., Ltd. and Longgang Branch, Shenzhen Development Bank (incorporated by reference to Exhibit 10.12 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on August 22, 2006) |
10.34 | | Summary of Pledge Contract of Maximum Amount, dated as of April 5, 2006, by and between Xiangqian Li and Longgang Branch, Shenzhen Development Bank (incorporated by reference to Exhibit 10.13 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on August 22, 2006) |
10.35 | | Summary of Mortgage Contract of Maximum Amount, dated as of April 5, 2006, by and between Shenzhen BAK Battery Co., Ltd. and Longgang Branch, Shenzhen Development Bank (incorporated by reference to Exhibit 10.14 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on August 22, 2006) |
10.36 | | Summary of Credit Facility Agreement for Commercial Draft Discount, dated as of April 29, 2006, by and between Shenzhen BAK Battery Co., Ltd. and Longgang Branch, Shenzhen Development Bank (incorporated by reference to Exhibit 10.15 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on August 22, 2006) |
10.37 | | Summary of Pledge Contract of Maximum Amount, dated as of April 29, 2006, by and between Shenzhen BAK Battery Co., Ltd. and Longgang Branch, Shenzhen Development Bank (incorporated by reference to Exhibit 10.16 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on August 22, 2006) |
10.38 | | Summary of Comprehensive Credit Facilities Agreement, dated as of April 7, 2005, by and between Shenzhen BAK Battery Co., Ltd. and Longgang Branch, Shenzhen Development Bank (incorporated by reference to Exhibit 10.9 to the Registrant’s Quarterly Report on Form 10-QSB filed with the Commission on August 19, 2005) |
10.39 | | Guaranty Contract of Maximum Amount, dated as of April 28, 2005, by and between Xiangqian Li and Longgang Branch, Shenzhen Development Bank (incorporated by reference to Exhibit 10.10 to the Registrant’s Quarterly Report on Form 10-QSB filed with the Commission on August 19, 2005) |
10.40 | | Pledge Contract of Maximum Amount, dated as of April 28, 2005, by and between Shenzhen BAK Battery Co., Ltd. and Longgang Branch, Shenzhen Development Bank (incorporated by reference to Exhibit 10.11 to the Registrant’s Quarterly Report on Form 10-QSB filed with the Commission on August 19, 2005) |
10.41 | | Pledge Contract of Maximum Amount, dated as of April 28, 2005, by and between Xiangqian Li and Longgang Branch, Shenzhen Development Bank (incorporated by reference to Exhibit 10.30 to the Registrant’s Registration Statement on Form SB-2/A filed with the Commission on June 22, 2005) |
10.42 | | Summary of Mortgage Contract of Maximum Amount, dated as of April 11, 2005, by and between Shenzhen BAK Battery Co., Ltd. and Longgang Branch, Shenzhen Development Bank (incorporated by reference to Exhibit 10.12 to the Registrant’s Quarterly Report on Form 10-QSB filed with the Commission on August 19, 2005) |
10.43 | | Summary of Comprehensive Credit Facility Agreement, dated as of March 5, 2005, by and between Shenzhen BAK Battery Co., Ltd. and Shenzhen Branch, China Minsheng Bank (incorporated by reference to Exhibit 10.21 to the Registrant’s Quarterly Report on Form 10-QSB filed with the Commission on August 19, 2005) |
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Exhibit
Number | | Description of Document |
| |
|
10.44 | | Summary of Loan Agreement, dated as of January 11, 2006, by and between Shenzhen Tongli Hi-tech Co., Ltd. and Shenzhen Nanshan Branch of Guangdong Development Bank (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the Commission on January 18, 2006) |
10.45 | | Summary of Guaranty Contract, dated as of January 11, 2006, by and between Shenzhen BAK Battery Co., Ltd. and Shenzhen Nanshan Branch of Guangdong Development Bank to secure indebtedness of Shenzhen Tongli Hi-tech Co., Ltd. (incorporated by reference to Exhibit 10.2 to the Registrant’s Current Report on Form 8-K filed with the Commission on January 18, 2006) |
10.46 | | Guaranty Contract of Maximum Amount, dated as of September 16, 2005, by and between Shenzhen BAK Battery Co., Ltd. and Longhua Branch, Shenzhen Development Bank to secure indebtedness of Shenzhen Tongli Hi-tech Co., Ltd. (incorporated by reference to Exhibit 10.49 to the Registrant’s Registration Statement on Form SB-2/A filed with the Commission on November 29, 2005) |
10.47 | | Facility Letter dated July 5, 2006, by and between BAK International Limited and CITIC Ka Wah Bank |
10.48 | | Summary of loan agreement dated July 11, 2006, by and between Shenzhen BAK Co., Ltd. and Agricultural Bank of China, Shenzhen Eastern Branch |
10.49 | | Summary of loan agreement dated July 25, 2006, by and between Shenzhen BAK Co., Ltd. and Agricultural Bank of China, Shenzhen Eastern Branch |
10.50 | | Application Letter for Drawing of Bank Loan Facility dated August 14, 2006, by and between Shenzhen BAK Battery Co., Ltd. and China Construction Bank, Shenzhen Branch |
10.51 | | Summary of Comprehensive Credit Facility Agreement dated August 15, 2006, by and between Shenzhen BAK Co., Ltd. and Shenzhen Commercial Bank, Shuibei Branch |
10.52 | | Guaranty Contract of Maximum Amount dated August 15, 2006, by and between BAK International Limited and Shenzhen Commercial Bank, Shuibei Branch |
10.53 | | Application Letter for Drawing of Bank Loan Facility dated August 17, 2006, by and between Shenzhen BAK Battery Co., Ltd. and China Construction Bank, Shenzhen Branch |
10.54 | | Summary of loan agreement dated August 23, 2006, by and between Shenzhen BAK Co., Ltd. and Agricultural Bank of China, Shenzhen Eastern Branch |
10.55 | | Summary of loan agreement dated August 25, 2006, by and between Shenzhen BAK Co., Ltd. and Agricultural Bank of China, Shenzhen Eastern Branch |
10.56 | | Credit Facility Agreement dated August 31, 2006, by and between Shenzhen BAK Co., Ltd. and Bank of China, Shenzhen Branch |
10.57 | | Guaranty Contract of Maximum Amount dated August 31, 2006, by and between Xiangqian Li and Bank of China, Shenzhen Branch |
10.58 | | Summary of loan agreement dated September 1, 2006, by and between Shenzhen BAK Co., Ltd. and Agricultural Bank of China, Shenzhen Eastern Branch |
10.59 | | Summary of loan agreement dated September 7, 2006, by and between Shenzhen BAK Co., Ltd. and Agricultural Bank of China, Shenzhen Eastern Branch |
10.60 | | Summary of loan agreement dated September 27, 2006, by and between Shenzhen BAK Co., Ltd. and Agricultural Bank of China, Shenzhen Eastern Branch |
14.1 | | Code of Business Conduct and Ethics of the Registrant (incorporated by reference to Exhibit 14.1 to the Registrant’s Quarterly Report on Form 10-Q filed with the Commission on August 22, 2006) |
21.1 | | Subsidiaries of the Registrant (incorporated by reference to Exhibit 21.1 to the Registrant’s Form S-1 filed with the Commission on October 11, 2006) |
31.1 | | Certifications of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
31.2 | | Certifications of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
32.1 | | Certifications of Chief Executive Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
32.2 | | Certifications of Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
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CHINA BAK BATTERY, INC.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS FOR THE YEARS
ENDED SEPTEMBER 30, 2004, 2005 AND 2006
F - 1
Report of Independent Registered Public Accounting Firm
The Board of Directors and Shareholders of
China BAK Battery, Inc.:
We have audited the accompanying consolidated balance sheets of China BAK Battery, Inc. and subsidiaries (hereinafter collectively referred to as the “Group”) as of September 30, 2005 and 2006, and the related consolidated statements of income and comprehensive income, shareholders’ equity, and cash flows for each of the years in the three-year period ended September 30, 2006. These consolidated financial statements are the responsibility of the Group’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Group as of September 30, 2005 and 2006, and the results of their operations and their cash flows for each of the years in the three-year period ended September 30, 2006, in conformity with U.S. generally accepted accounting principles.
As discussed in note 2(q) to the consolidated financial statements, on October 1, 2005, the Group adopted Statement of Financial Accounting Standards (“SFAS”) No.123 (Revised 2004), “Share-Based Payment”, using the modified prospective method, representing a change in the Group’s method of accounting for stock-based compensation.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of the Group’s internal control over financial reporting as of September 30, 2006, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated December 8, 2006 expressed an unqualified opinion on management’s assessment of, and an adverse opinion on the effective operation of, internal control over financial reporting.
/s/ KPMG
Hong Kong, China
December 8, 2006
F - 2
China BAK Battery, Inc. and subsidiaries
Consolidated balance sheets
As of September 30, 2005 and 2006
(In US$)
| | Note | | 2005 | | 2006 | |
| |
|
| |
|
| |
|
| |
Assets | | | | | | | | | | |
Current assets | | | | | | | | | | |
Cash and cash equivalents | | | | | $ | 33,055,784 | | $ | 21,099,555 | |
Pledged deposits | | | 3 | | | 19,392,280 | | | 12,971,989 | |
Trade accounts receivable, net | | | 4 | | | 43,863,782 | | | 64,332,171 | |
Inventories | | | 5 | | | 21,696,226 | | | 47,388,936 | |
Prepayments and other receivables | | | 6 | | | 2,155,570 | | | 1,134,770 | |
| | | | |
|
| |
|
| |
Total current assets | | | | | | 120,163,642 | | | 146,927,421 | |
Property, plant and equipment, net | | | 8, 19 | | | 65,751,208 | | | 109,406,116 | |
Lease prepayments, net | | | 9 | | | 3,154,799 | | | 3,161,477 | |
Intangible assets, net | | | 10 | | | 53,379 | | | 74,682 | |
Amounts due from related parties | | | 20 | (ii) | | 271,873 | | | — | |
Deferred tax assets | | | 7 | (b) | | 91,294 | | | 85,598 | |
| | | | |
|
| |
|
| |
Total assets | | | | | $ | 189,486,195 | | $ | 259,655,294 | |
| | | | |
|
| |
|
| |
See accompanying notes to the consolidated financial statements.
F - 3
China BAK Battery, Inc. and subsidiaries
Consolidated balance sheets
As of September 30, 2005 and 2006 (continued)
(In US$)
| | Note | | 2005 | | 2006 | |
| |
|
| |
|
| |
|
| |
Liabilities | | | | | | | | | | |
Current liabilities | | | | | | | | | | |
Short-term bank loans | | | 11 | | $ | 39,545,230 | | $ | 67,899,908 | |
Accounts and bills payable | | | | | | 45,118,786 | | | 48,316,250 | |
Accrued expenses and other payables | | | 12 | | | 14,279,591 | | | 25,880,985 | |
Share-based payment liabilities | | | 17 | | | — | | | 3,625,165 | |
| | | | |
|
| |
|
| |
Total current liabilities | | | | | | 98,943,607 | | | 145,722,308 | |
Deferred tax liabilities | | | 7 | (b) | | 233,445 | | | 304,957 | |
| | | | |
|
| |
|
| |
Total liabilities | | | | | | 99,177,052 | | | 146,027,265 | |
| | | | |
|
| |
|
| |
Commitments and contingencies | | | 19 | | | | | | | |
Shareholders’ equity | | | | | | | | | | |
Ordinary shares US$0.001 par value; 100,000,000 authorized; 48,878,396 and 48,885,896 issued and outstanding as of September 30, 2005 and 2006 respectively | | | 13 | | | 48,878 | | | 48,886 | |
Additional paid-in-capital | | | | | | 67,415,501 | | | 68,126,689 | |
Statutory reserves | | | 23 | | | 3,034,141 | | | 5,791,718 | |
Retained earnings | | | | | | 18,805,368 | | | 36,212,357 | |
Accumulated other comprehensive income | | | | | | 1,005,255 | | | 3,448,379 | |
| | | | |
|
| |
|
| |
Total shareholders’ equity | | | | | | 90,309,143 | | | 113,628,029 | |
| | | | |
|
| |
|
| |
Total liabilities and shareholders’ equity | | | | | $ | 189,486,195 | | $ | 259,655,294 | |
| | | | |
|
| |
|
| |
See accompanying notes to the consolidated financial statements.
F - 4
China BAK Battery, Inc. and subsidiaries
Consolidated statements of income and comprehensive income
For the years ended September 30, 2004, 2005 and 2006
(In US$)
| | Note | | 2004 | | 2005 | | 2006 | |
| |
|
| |
|
| |
|
| |
|
| |
Net revenues | | | 22 | | $ | 63,746,202 | | $ | 101,921,583 | | $ | 143,829,016 | |
Cost of revenues | | | 8, 16 | | | (50,293,766 | ) | | (76,046,927 | ) | | (104,196,278 | ) |
| | | | |
|
| |
|
| |
|
| |
Gross profit | | | | | | 13,452,436 | | | 25,874,656 | | | 39,632,738 | |
| | | | |
|
| |
|
| |
|
| |
Operating expenses: | | | | | | | | | | | | | |
Research and development costs | | | 8, 16 | | | (328,779 | ) | | (541,735 | ) | | (2,935,134 | ) |
Sales and marketing expenses | | | 8, 16 | | | (1,804,705 | ) | | (3,854,490 | ) | | (5,054,624 | ) |
General and administrative expenses | | | 8, 16 | | | (2,546,434 | ) | | (5,994,600 | ) | | (9,071,615 | ) |
| | | | |
|
| |
|
| |
|
| |
Total operating expenses | | | | | | (4,679,918 | ) | | (10,390,825 | ) | | (17,061,373 | ) |
| | | | |
|
| |
|
| |
|
| |
Operating income | | | | | | 8,772,518 | | | 15,483,831 | | | 22,571,365 | |
Finance costs, net | | | 15 | | | (454,263 | ) | | (845,327 | ) | | (1,888,313 | ) |
Gain on trading securities | | | | | | — | | | — | | | 279,260 | |
Other expenses | | | | | | (9,685 | ) | | (490,018 | ) | | (204,854 | ) |
| | | | |
|
| |
|
| |
|
| |
Income before income taxes | | | | | | 8,308,570 | | | 14,148,486 | | | 20,757,458 | |
Income taxes | | | 7 | (a) | | (506,632 | ) | | (651,938 | ) | | (592,892 | ) |
| | | | |
|
| |
|
| |
|
| |
Net income | | | | | $ | 7,801,938 | | $ | 13,496,548 | | $ | 20,164,566 | |
| | | | |
|
| |
|
| |
|
| |
Other comprehensive (loss) / income | | | | | | | | | | | | | |
- Foreign currency translation adjustment | | | | | | (118 | ) | | 1,005,425 | | | 2,443,124 | |
| | | | |
|
| |
|
| |
|
| |
Comprehensive income | | | | | $ | 7,801,820 | | $ | 14,501,973 | | $ | 22,607,690 | |
| | | | |
|
| |
|
| |
|
| |
Net income per share: | | | | | | | | | | | | | |
-Basic | | | 14 | | $ | 0.25 | | $ | 0.35 | | $ | 0.41 | |
| | | | |
|
| |
|
| |
|
| |
-Diluted | | | 14 | | $ | 0.25 | | $ | 0.35 | | $ | 0.41 | |
| | | | |
|
| |
|
| |
|
| |
Weighted average number of ordinary shares: | | | | | | | | | | | | | |
-Basic | | | 14 | | | 31,225,642 | | | 38,288,874 | | | 48,879,608 | |
| | | | |
|
| |
|
| |
|
| |
-Diluted | | | 14 | | | 31,225,642 | | | 38,408,625 | | | 48,912,963 | |
| | | | |
|
| |
|
| |
|
| |
See accompanying notes to the consolidated financial statements.
F - 5
China BAK Battery, Inc. and subsidiaries
Consolidated statements of shareholders’ equity
For the years ended September 30, 2004, 2005 and 2006
(In US$)
| | | | | Ordinary shares | | | | | | | | | | | Accumulated
other
comprehensive
income/(loss) | | Total
shareholders’
equity | |
| | | | |
| | Additional
paid
-in-capital | | Statutory
reserves | | Retained
earnings | | | |
| | Note | | Number of
shares | | amount | | | | | | |
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Balance as of October 1, 2003 | | | | | | 31,225,642 | | $ | 31,226 | | $ | 1,176,927 | | $ | 651,583 | | $ | 3,758,352 | | $ | (52 | ) | $ | 5,618,036 | |
Capital contributions from Shareholders | | | 13 | | | — | | | — | | | 10,875,918 | | | — | | | — | | | — | | | 10,875,918 | |
Net income | | | | | | — | | | — | | | — | | | — | | | 7,801,938 | | | — | | | 7,801,938 | |
Deemed distribution to the controlling shareholder- payment for intangible assets | | | 20 | | | — | | | — | | | — | | | — | | | (3,866,088 | ) | | — | | | (3,866,088 | ) |
Appropriation to statutory reserves | | | | | | — | | | — | | | — | | | 1,072,663 | | | (1,072,663 | ) | | — | | | — | |
Foreign currency translation adjustment | | | | | | — | | | — | | | — | | | — | | | — | | | (118 | ) | | (118 | ) |
| | | | |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Balance as of September 30, 2004 | | | | | | 31,225,642 | | | 31,226 | | | 12,052,845 | | | 1,724,246 | | | 6,621,539 | | | (170 | ) | | 20,429,686 | |
Net income | | | | | | — | | | — | | | — | | | — | | | 13,496,548 | | | — | | | 13,496,548 | |
Reverse acquisition | | | 1 | | | 1,152,458 | | | 1,152 | | | — | | | — | | | (2,824 | ) | | — | | | (1,672 | ) |
Issuance of ordinary shares, net of transaction costs of US$5,070,091 | | | 13 | | | 16,500,296 | | | 16,500 | | | 55,362,656 | | | — | | | — | | | — | | | 55,379,156 | |
Appropriation to statutory reserves | | | | | | — | | | — | | | — | | | 1,309,895 | | | (1,309,895 | ) | | — | | | — | |
Foreign currency translation adjustment | | | | | | — | | | — | | | — | | | — | | | — | | | 1,005,425 | | | 1,005,425 | |
| | | | |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Balance as of September 30, 2005 | | | | | | 48,878,396 | | | 48,878 | | | 67,415,501 | | | 3,034,141 | | | 18,805,368 | | | 1,005,255 | | | 90,309,143 | |
Net income | | | | | | — | | | — | | | — | | | — | | | 20,164,566 | | | — | | | 20,164,566 | |
Share-based compensation for employee stock awards | | | 17 | | | — | | | — | | | 2,625,269 | | | — | | | — | | | — | | | 2,625,269 | |
Cancellation of 1,400,000 employee stock options, replaced by restricted shares awards which are classified as liability award | | | 17 | | | — | | | — | | | (2,045,393 | ) | | — | | | — | | | — | | | (2,045,393 | ) |
Share-based compensation for common stock granted to non-employee directors | | | 17 | | | — | | | — | | | 131,320 | | | — | | | — | | | — | | | 131,320 | |
Issuance of common stock to non-employee directors | | | 17 | | | 7,500 | | | 8 | | | (8 | ) | | — | | | — | | | — | | | — | |
Appropriation to statutory reserves | | | | | | — | | | — | | | — | | | 2,757,577 | | | (2,757,577 | ) | | — | | | — | |
Foreign currency translation adjustment | | | | | | — | | | — | | | — | | | — | | | — | | | 2,443,124 | | | 2,443,124 | |
| | | | |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Balance as of September 30, 2006 | | | | | | 48,885,896 | | $ | 48,886 | | $ | 68,126,689 | | $ | 5,791,718 | | $ | 36,212,357 | | $ | 3,448,379 | | $ | 113,628,029 | |
| | | | |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
See accompanying notes to the consolidated financial statements.
F - 6
China BAK Battery, Inc. and subsidiaries
Consolidated statements of cash flows
For the years ended September 30, 2004, 2005 and 2006
(In US$)
| | 2004 | | 2005 | | 2006 | |
| |
|
| |
|
| |
|
| |
Cash flow from operating activities | | | | | | | | | | |
Net income | | $ | 7,801,938 | | $ | 13,496,548 | | $ | 20,164,566 | |
Adjustments to reconcile net income to net cash provided by operating activities: | | | | | | | | | | |
Depreciation and amortization | | | 1,758,476 | | | 3,580,791 | | | 5,815,706 | |
Bad debt expense | | | 326,990 | | | 769,807 | | | (555,593 | ) |
Share-based compensation | | | — | | | — | | | 4,336,361 | |
Deferred income taxes | | | 56,177 | | | 98,288 | | | 72,810 | |
Changes in operating assets and liabilities: | | | | | | | | | | |
Trade accounts receivable | | | (14,561,780 | ) | | (23,675,275 | ) | | (19,938,136 | ) |
Inventories | | | (21,542,204 | ) | | 7,839,759 | | | (25,692,710 | ) |
Prepayments and other receivables | | | 69,451 | | | (572,594 | ) | | 456,086 | |
Accounts and bills payable | | | 28,850,284 | | | 5,005,424 | | | 4,273,690 | |
Accrued expenses and other payables | | | 833,485 | | | 1,471,678 | | | 5,382,463 | |
| |
|
| |
|
| |
|
| |
Net cash provided by/(used in) operating activities | | | 3,592,817 | | | 8,014,426 | | | (5,684,757 | ) |
| |
|
| |
|
| |
|
| |
Cash flow from investing activities | | | | | | | | | | |
Purchases of property, plant and equipment | | | (28,253,804 | ) | | (30,593,615 | ) | | (41,382,163 | ) |
Purchases of intangible assets | | | (46,602 | ) | | (2,015 | ) | | (33,738 | ) |
| |
|
| |
|
| |
|
| |
Net cash used in investing activities | | $ | (28,300,406 | ) | $ | (30,595,630 | ) | $ | (41,415,901 | ) |
| |
|
| |
|
| |
|
| |
See accompanying notes to the consolidated financial statements.
F - 7
China BAK Battery, Inc. and subsidiaries
Consolidated statements of cash flows
For the years ended September 30, 2004, 2005 and 2006 (continued)
(In US$)
| | 2004 | | 2005 | | 2006 | |
| |
|
| |
|
| |
|
| |
Cash flow from financing activities | | | | | | | | | | |
Proceeds from borrowings | | $ | 43,066,650 | | $ | 63,011,550 | | $ | 99,036,333 | |
Repayment of borrowings | | | (17,429,652 | ) | | (52,582,798 | ) | | (70,681,655 | ) |
(Increase) / decrease in pledged deposits | | | (6,299,377 | ) | | (12,272,211 | ) | | 6,420,291 | |
Amounts (paid to) / received from related parties | | | (911,093 | ) | | 639,220 | | | 271,873 | |
Advances from / (repayments to) Changzhou Lihai Investment Consulting Co., Ltd. | | | 1,812,316 | | | (1,812,316 | ) | | — | |
Deemed distribution to shareholder - intangible assets | | | (3,866,088 | ) | | — | | | — | |
Proceeds from issuance of capital stock, net | | | 10,875,918 | | | 55,379,156 | | | — | |
Contribution from shareholders acquiring shares of BAK International Limited | | | — | | | 11,500,000 | | | — | |
Distribution to shareholders in connection with the acquisition of shares of China BAK Battery, Inc. | | | — | | | (11,500,000 | ) | | — | |
| |
|
| |
|
| |
|
| |
Net cash provided by financing activities | | | 27,248,674 | | | 52,362,601 | | | 35,046,842 | |
| |
|
| |
|
| |
|
| |
Effect of exchange rate changes on cash and cash equivalents | | | 166 | | | 62,211 | | | 97,587 | |
| |
|
| |
|
| |
|
| |
Net increase / (decrease) in cash and cash equivalents | | | 2,541,251 | | | 29,843,608 | | | (11,956,229 | ) |
Cash and cash equivalents at the beginning of year | | | 670,925 | | | 3,212,176 | | | 33,055,784 | |
| |
|
| |
|
| |
|
| |
Cash and cash equivalents at the end of year | | $ | 3,212,176 | | $ | 33,055,784 | | $ | 21,099,555 | |
| |
|
| |
|
| |
|
| |
Supplemental disclosure of cash flow information: | | | | | | | | | | |
Cash received during the year for: | | | | | | | | | | |
Bills receivable discounted to bank | | $ | 2,492,151 | | $ | 11,726,378 | | $ | 19,813,271 | |
| |
|
| |
|
| |
|
| |
Proceeds from disposal of trading securities | | $ | — | | $ | — | | $ | 3,981,274 | |
| |
|
| |
|
| |
|
| |
Cash paid during the year for: | | | | | | | | | | |
Income taxes | | $ | 338,912 | | $ | 487,808 | | $ | 747,548 | |
| |
|
| |
|
| |
|
| |
Interest, net of amounts capitalized | | $ | 427,535 | | $ | 842,145 | | $ | 1,874,351 | |
| |
|
| |
|
| |
|
| |
Purchases of trading securities | | $ | — | | $ | — | | $ | 3,702,014 | |
| |
|
| |
|
| |
|
| |
Investing activities not requiring the use of cash and cash equivalents: | | | | | | | | | | |
Sale of equipment in exchange for inventories | | $ | — | | $ | — | | $ | 1,076,226 | |
| |
|
| |
|
| |
|
| |
Purchase of equipment in exchange for settlement of prepayments and other receivables | | $ | — | | $ | — | | $ | 561,588 | |
| |
|
| |
|
| |
|
| |
See accompanying notes to the consolidated financial statements.
F - 8
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006
1. | Principal Activities, Basis of Presentation and Organization |
| |
| Principal Activities |
| |
| China BAK Battery, Inc. (the “Company” or “China BAK”) was incorporated in the State of Nevada on October 4, 1999 as a limited liability company, as Medina Copy, Inc. The Company changed its name to Medina Coffee, Inc. (“Medina Coffee”) on October 6, 1999 and subsequently changed its name to China BAK Battery, Inc. on February 14, 2005. The Company and its subsidiaries (hereinafter, collectively referred to as the “Group”) are principally engaged in the manufacture, commercialization and distribution of a wide variety of standard and customized lithium ion (known as “Li-ion” or “Li-ion cell”) rechargeable batteries for use in cellular telephones, as well as various other portable electronic applications, including high-power handset telephones, laptop computers, power tools, digital cameras, video camcorders, MP3 players, electric bicycles, hybrid/electric motors, and general industrial applications. |
| |
| The shares of the Company have been traded in the over-the-counter market through the Over-the-Counter Electronic Bulletin Board since 2005. On May 31, 2006, the Company obtained approval to list its common stock on the National Association of Securities Dealers Automated Quotations stock market, and trading commenced that same date under the symbol “CBAK”. |
| |
| Basis of Presentation and Organization |
| |
| As of September 30, 2006, the Company’s subsidiaries consist of: i) BAK International Limited (“BAK International”), a wholly owned limited liability company incorporated in Hong Kong on December 29, 2003 as BATCO International Limited, which changed its name to BAK International Limited on November 3, 2004; ii) Shenzhen BAK Battery Co., Ltd. (“Shenzhen BAK”), a wholly owned limited liability company established on August 3, 2001 in the People’s Republic of China (“PRC”); and iii) BAK Electronics (Shenzhen) Co., Ltd. (“BAK Electronics”), a wholly owned limited liability company established in August 2005 in the PRC. |
| |
| BAK International, a non-operating holding company that had substantially the same shareholders as Shenzhen BAK, entered into a share swap transaction with Shenzhen BAK on November 6, 2004 for the purpose of the subsequent reverse acquisition of the interest of China BAK as described below. Pursuant to the terms of the transaction, the parties exchanged all outstanding shares of their capital stock for US$11.5 million in cash, and as a result, BAK International became the parent company of Shenzhen BAK. Certain shareholders of Shenzhen BAK, representing ownership interests of approximately 1.85%, elected not to acquire shares in BAK International. The non-participating shareholders of Shenzhen BAK sold their right to acquire their proportional ownership interests in BAK International for cash, and the proportionate interests in BAK International to which the non-participating shareholders were entitled were acquired by the transferees. After the share swap transaction between BAK International and the shareholders of Shenzhen BAK was complete, there were 31,225,642 shares of BAK International stock outstanding, exactly the same as the number of shares of capital stock of Shenzhen BAK outstanding immediately prior to the share swap, and the shareholders of BAK International were substantially the same as the shareholders of Shenzhen BAK prior to the share purchases. Consequently, the share purchases between BAK International and the shareholders of Shenzhen BAK have been accounted for as a reverse acquisition of Shenzhen BAK with no adjustment to the historical basis of the assets and liabilities of Shenzhen BAK, and the operations were consolidated as though the transactions occurred as of the beginning of the first accounting period presented in the accompanying consolidated financial statements. |
F - 9
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
| Basis of Presentation and Organization (continued) |
| |
| On January 20, 2005, BAK International executed a private placement of its common stock with unrelated investors whereby it issued an aggregate of 8,600,433 shares of common stock for gross proceeds of US$17,000,000. In conjunction with this financing, Mr Li Xiangqian, the Chairman and Chief Executive Officer of the Company, agreed to place 2,179,550 shares of the Company’s common stock owned by him into an escrow account, of which 50% are to be released to the investors in the private placement if audited net income of the Group for the fiscal year ended September 30, 2005 is not at least US$12,000,000, and the remaining 50% are to be released to investors in the private placement if audited net income of the Group for the fiscal year ended September 30, 2006 is not at least US$27,000,000. If the audited net income of the Group for the fiscal years ended September 30, 2005 and 2006 reached the above-mentioned targets, the 2,179,550 shares would be released to Mr Li Xiangqian (the “Escrow Arrangement”). |
| |
| The Escrow Arrangement regarding the shares placed by Mr Li Xiangqian in an escrow account and the subsequent potential release of those shares based on the fulfillment of certain performance thresholds constitutes a compensatory plan to Mr Li Xiangqian. A compensation charge should be recorded in the financial statements of the Company should these performance thresholds be achieved and shares released to Mr Li Xiangqian. However, as the Company did not meet the performance threshold for the years ended September 30, 2005 and 2006 after consideration of the related compensation charge, the Company has determined that the threshold has not been achieved and no compensation charge was recorded by the Company for the years ended September 30, 2005 and 2006. |
| |
| While the 1,089,775 escrow shares relating to the 2005 performance threshold were previously released to Mr Li Xiangqian, Mr Li Xiangqian has undertaken on August 21, 2006, to return those shares to the escrow agent for the distribution to relevant investors. Because the Company failed to satisfy the performance threshold for the fiscal year ended September 30, 2006, the remaining 1,089,775 escrow shares relating to the fiscal year 2006 performance threshold would be released to the relevant investors. |
| |
| Also on January 20, 2005, the Company completed a share swap transaction with the shareholders of BAK International. The swap was consummated under Nevada law pursuant to the terms of a Securities Exchange Agreement entered by and among China BAK, BAK International and the shareholders of BAK International on January 20, 2005. Pursuant to the Agreement, the Company issued 39,826,075 shares of common stock, par value US$0.001 per share, to the shareholders of BAK International (including 31,225,642 shares to the original shareholders and 8,600,433 shares to new investors), representing approximately 97.2% of the Company’s post-exchange issued and outstanding common stock, in exchange for 100% of the outstanding capital stock of BAK International. |
| |
| The share swap transaction has been accounted for as a capital-raising transaction of the Company whereby the historical financial statements and operations of Shenzhen BAK are consolidated using historical carrying amounts. The 1,152,458 shares of China BAK outstanding prior to the stock exchange transaction were accounted for at the net book value at the time of the transaction, which was a deficit of US$1,672. The accompanying consolidated financial statements reflect the capital-raising transaction of the Company as if the transaction occurred as of the beginning of the first period presented. |
| |
| The Company’s consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States of America (“US GAAP”). |
| |
| This basis of accounting differs in certain material respects from that used for the preparation of the books of account of the Company’s principal subsidiaries, which are prepared in accordance with the accounting principles and the relevant financial regulations applicable to enterprises with limited liabilities established in the PRC (“PRC GAAP”) or in Hong Kong, the accounting standards used in the places of their domicile. The accompanying consolidated financial statements reflect necessary adjustments not recorded in the books of account of the Company’s subsidiaries to present them in conformity with US GAAP. |
F - 10
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
2 | Summary of Significant Accounting Policies and Practices |
| |
(a) | Principles of Consolidation |
| |
| The consolidated financial statements include the financial statements of the Company and its subsidiaries. All significant inter-company balances and transactions have been eliminated on consolidation. |
| |
(b) | Cash and Cash Equivalents |
| |
| Cash consists of cash on hand and in banks. The Company considers all highly liquid debt instruments, with initial terms of less than three months to be cash equivalents. As of September 30, 2005 and 2006, there were no cash equivalents. |
| |
(c) | Trade Accounts Receivable |
| |
| Trade accounts receivable are recorded at the invoiced amount, net of allowances for doubtful accounts and sales returns. The allowance for doubtful accounts is the Company’s best estimate of the amount of probable credit losses in the Company’s existing accounts receivable. The Company determines the allowance based on historical write-off experience, customer specific facts and economic conditions. Bad debt expense is included in the general and administrative expenses. |
| |
| Outstanding account balances are reviewed individually for collectibility. Account balances are charged off against the allowance after all means of collection have been exhausted and the potential for recovery is considered remote. To date, the Company has not charged off any balances as it has yet to exhaust all means of collection. The Company does not have any off-balance-sheet credit exposure to its customers, except for outstanding bills receivable discounted with banks (see note 19) that are subject to recourse for non-payment. |
| |
(d) | Inventories |
| |
| Inventories are stated at the lower of cost and market. The cost of inventories is determined using weighted average cost method, and includes expenditure incurred in acquiring the inventories and bringing them to their existing location and condition. In case of manufacturing inventories and work in progress, cost includes an appropriate share of production overheads based on normal operating capacity. |
| |
(e) | Investment Securities |
| |
| The Company classifies its equity securities into trading or available-for-sale. Trading securities are bought and held principally for the purpose of selling them in the near term. All securities not included in trading securities are classified as available-for-sale. |
| |
| Trading and available-for-sale securities are recorded at fair value. Unrealized holding gains and losses on trading securities are included in the net income. Unrealized holding gains and losses, net of the related tax effect, on available for sale securities are excluded from net income and are reported as a separate component of other comprehensive income until realized. Realized gains and losses from the sale of available-for-sale securities are determined on a specific-identification basis. |
F - 11
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
(e) | Investment Securities (continued) |
| |
| A decline in the market value of any available-for-sale security below cost that is deemed to be other-than-temporary results in a reduction in carrying amount to fair value. The impairment is charged as an expense to the statement of income and comprehensive income and a new cost basis for the security is established. To determine whether an impairment is other-than-temporary, the Company considers whether it has the ability and intent to hold the investment until a market price recovery and considers whether evidence indicating the cost of the investment is recoverable outweighs evidence to the contrary. Evidence considered in this assessment includes the reasons for the impairment, the severity and duration of the impairment, changes in value subsequent to year end, and forecasted performance of the investee. |
| |
| Premiums and discounts are amortized or accreted over the life of the related available-for-sale security as an adjustment to yield using the effective-interest method. Dividend and interest income are recognized when earned. |
| |
(f) | Property, Plant and Equipment |
| |
| Property, plant and equipment are stated at cost. Depreciation and amortization are calculated based on the straight-line method (after taking into account their respective estimated residual values) over the estimated useful lives of the assets as follows: |
Buildings | | | 30-40 years | |
Machinery and equipment | | | 5-12 years | |
Office equipment | | | 5 years | |
Motor vehicles | | | 8 years | |
Leasehold improvements | | | 1-5 years | |
| Construction in progress mainly represents expenditures in respect of the Company’s new corporate campus, including offices, factories and staff dormitories, under construction. All direct costs relating to the acquisition or construction of the Company’s new corporate campus and equipment, including interest charges on borrowings, are capitalized as construction in progress. No depreciation is provided in respect of construction in progress. |
| |
(g) | Lease Prepayments |
| |
| Lease prepayments represent the cost of land use rights in the PRC. Land use rights are carried at cost and amortized on a straight-line basis over the period of rights of 50 years. |
| |
(h) | Foreign Currency Transactions and Translation |
| |
| The reporting currency of the Company is the United States dollar (“US dollar”). Transactions denominated in currencies other than US dollar are translated into US dollar at the average rate for the period. Monetary assets and liabilities denominated in currencies other than US dollar are translated into US dollar at the rates of exchange ruling at the balance sheet date. The resulting exchange differences are recorded in the other expenses in the statements of income and comprehensive income. |
| |
| The financial records of the Company’s operating subsidiaries are maintained in their local currency, the Renminbi (“RMB”), which is the functional currency. Assets and liabilities are translated at the exchange rates at the balance sheet date, equity accounts are translated at historical exchange rates, and income and expenses items are translated using the average rate for the period. The translation adjustments are recorded in accumulated other comprehensive income in the statements of shareholders’ equity. |
F - 12
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
(h) | Foreign Currency Transactions and Translation (continued) |
| |
| RMB is not a fully convertible currency. All foreign exchange transactions involving RMB must take place either through the People’s Bank of China (the “PBOC”) or other institutions authorized to buy and sell foreign exchange. The exchange rate adopted for the foreign exchange transactions are the rates of exchange quoted by the PBOC, which are determined largely by supply and demand. Translation of amounts from RMB into United States dollars (“US$”) has been made at the following exchange rates for the respective years: |
September 30, 2006 | | | | |
Balance sheet | | | RMB 7.90870 to US$1.00 | |
Statement of income and comprehensive income | | | RMB 8.02857 to US$1.00 | |
| | | | |
September 30, 2005 | | | | |
Balance sheet | | | RMB 8.0920 to US$1.00 | |
Statement of income and comprehensive income | | | RMB 8.2413 to US$1.00 | |
| | | | |
September 30, 2004 | | | | |
Balance sheet | | | RMB 8.2769 to US$1.00 | |
Statement of income and comprehensive income | | | RMB 8.2767 to US$1.00 | |
| Commencing from July 21, 2005, China has adopted a managed floating exchange rate regime based on market demand and supply with reference to a basket of currencies. The exchange rate of the US dollar against the RMB was adjusted from approximately RMB 8.28 per US dollar to approximately RMB 8.11 per US dollar on July 21, 2005. Since then, the PBOC administers and regulates the exchange rate of US dollar against RMB taking into account demand and supply of RMB, as well as domestic and foreign economic and financial conditions. |
| |
(i) | Intangible Assets |
| |
| Intangible assets are stated in the balance sheet at cost less accumulated amortization. The costs of the intangible assets are amortized on a straight-line basis over their estimated useful lives. The respective amortization periods for the intangible assets are as follows: |
Trademarks | | | 10 years | |
Technology | | | 7 years | |
Software | | | 5 years | |
(j) | Impairment of Long-lived Assets |
| |
| Long-lived assets, which include property, plant and equipment and intangible assets, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. |
| |
| Recoverability of long-lived assets to be held and used is measured by a comparison of the carrying amount of an asset to the estimated undiscounted future cash flows expected to be generated by the asset. If the carrying amount of an asset exceeds its estimated undiscounted future cash flows, an impairment charge is recognized by the amount by which the carrying amount of the asset exceeds the fair value of the asset. Fair value is generally determined using the asset’s expected future discounted cash flows or market value, if readily determinable. |
F - 13
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
(k) | Revenue Recognition |
| |
| The Company recognizes revenue on product sales when products are delivered and the customer takes ownership and assumes risk of loss, collection of the relevant receivable is probable, persuasive evidence of an arrangement exists and the sales price is fixed or determinable. |
| |
| Net sales of products represent the invoiced value of goods, net of value added taxes (“VAT”), sales returns, trade discounts and allowances. The Company is subject to VAT which is levied on the majority of the products of Shenzhen BAK and BAK Electronics at the rate of 17% on the invoiced value of sales. Output VAT is borne by customers in addition to the invoiced value of sales and input VAT is borne by the Company in addition to the invoiced value of purchases to the extent not refunded for export sales. Provision for sales returns are recorded as a reduction of revenue in the same period that revenue is recognized. The provision for sales returns, which is based on historical sales returns data, is the Company’s best estimate of the amounts of goods that will be returned from its customers. |
| |
(l) | Cost of Revenues |
| |
| Cost of revenues consists primarily of material costs, employee compensation, depreciation and related expenses, which are directly attributable to the production of products. Write-down of inventory to lower of cost or market is also recorded in cost of revenues. |
| |
(m) | Income Taxes |
| |
| Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carry-forwards. Deferred tax assets are reduced by a valuation allowance to the extent management concludes it is more likely than not that the assets will not be realized. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in the consolidated statements of income and comprehensive income in the period that includes the enactment date. |
| |
(n) | Research and Development and Advertising Costs |
| |
| Research and development costs are expensed as incurred. Research and development costs consist primarily of remuneration for research and development staff, depreciation and maintenance expenses of research and development equipment and material costs for research and development. Advertising cost, included in sales and marketing expenses, amounted to US$201,200, US$297,998 and US$234,379 for the years ended September 30, 2004, 2005 and 2006 respectively. |
| |
(o) | Bills Payable |
| |
| Bills payable represent bills issued by financial institutions to the Company’s vendors. The Company’s vendors receive payments from the financial institutions directly upon maturity of the bills and the Company is obliged to repay the face value of the bills to the financial institutions. |
F - 14
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
(p) | Government Grants |
| |
| Receipts of government grants to encourage research and development activities which are non-refundable are credited to deferred income upon receipt. Government grants are used either for purchases of assets or to subsidize the research and development expenses incurred. |
| |
| For purchases of assets, government grants are deducted from the carrying amount of the assets. For the research and development expenses, the Company matches and offsets the government grants with the expenses of the research and development activities as specified in the grant approval document in the corresponding period when such expenses incurred. |
| |
| Government grants of US$120,821, US$60,670 and US$62,278 were offset against the research and development costs for the years ended September 30, 2004, 2005 and 2006 respectively. Government grants recorded as deferred income amounted to US$185,368 and US$777,625 as at September 30, 2005 and 2006 respectively. |
| |
(q) | Share-based Compensation |
| |
| Prior to October 1, 2005, the Company applied the intrinsic-value-based method of accounting prescribed by Accounting Principles Board Opinions No. 25 “Accounting for Stock Issued to Employees” (“APB 25”) and related interpretations including Financial Accounting Standard Board (“FASB”) Interpretation (“FIN”) No. 44, Accounting for Certain Transactions involving Stock Compensation, an interpretation of APB 25, to account for its fixed-plan stock options. Under this method, compensation expense is recorded only if on the date of grant the market price of the underlying stock exceeded the exercise price. Statement of Financial Accounting Standards (“SFAS”) No. 123 “Accounting for Stock-Based Compensation” (“SFAS 123”) established accounting and disclosure requirements using a fair-value-based method of accounting for stock-based employee compensation plans. As permitted by the accounting standards, the Company elected to apply the intrinsic-value-based method of accounting described above, and has adopted only the disclosure requirements of SFAS 123, as amended. |
| |
| In December 2004, the FASB issued SFAS 123 (Revised 2004) “Share-Based Payment” (“SFAS 123R”). SFAS 123R requires the Company to measure and recognize compensation expenses for an award of equity instrument based on the grant-date fair value. The cost is recognized over the vesting period (or the requisite service period). SFAS 123R also requires the Company to measure the cost of a liability-classified award based on its current fair value. The fair value of the award will be remeasured subsequently at each reporting date through the settlement date. Changes in far value during the requisite service period will be recognized as compensation cost over that period. Further, SFAS 123R requires the Company to estimate forfeitures in calculating the expense related to stock-based compensation. |
| |
| This statement replaces SFAS 123 and supersedes APB 25. The Company adopted SFAS 123R commencing from October 1, 2005. |
| |
| The Company has used the “modified prospective method” for recognizing the expense over the remaining vesting period for awards that were outstanding but unvested on October 1, 2005. Under the modified prospective method, the Company has not adjusted the financial statements for periods ended on or prior to September 30, 2005. Under the modified prospective method, the adoption of SFAS 123R applies to new awards and to awards modified, repurchased, or cancelled after September 30, 2005, as well as to the unvested portion of awards outstanding as of October 1, 2005. |
F - 15
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
| The following table illustrates the effect on net income and net income per share for the year ended September 30, 2005 as if the Company’s stock-based compensation had been determined based on the fair value at the grant dates: |
| | September 30, 2005 | |
| |
|
| |
Net income, as reported | | $ | 13,496,548 | |
Deduct: Total stock-based employee compensation expenses determined under the fair value, net of related tax effects | | | (1,068,243 | ) |
| |
|
| |
Pro forma net income | | $ | 12,428,305 | |
| |
|
| |
Net income per share | | | | |
As reported - Basic | | $ | 0.35 | |
| |
|
| |
- Diluted | | $ | 0.35 | |
| |
|
| |
Pro-forma - Basic | | $ | 0.32 | |
| |
|
| |
- Diluted | | $ | 0.32 | |
| |
|
| |
| The fair value of each option award is estimated on the date of grant using a Black-Scholes Option Valuation Model that uses the assumptions noted in the following table. The expected volatility was based on the historical volatilities of the Company’s listed common stock in the United States and other relevant market information. The Company uses historical data to estimate share option exercises and employee departure behaviour used in the valuation model. The expected terms of share options granted is derived from the output of the option pricing model and represents the period of time that share options granted are expected to be outstanding. Since the share options once exercised will primarily trade in the U.S. capital market, the risk-free rate for periods within the contractual term of the share option is based on the U.S. Treasury yield curve in effect at the time of grant. |
Expected volatility | | | 59.85 | % |
Expected dividends | | | Nil | |
Expected life | | | 6 years | |
Risk-free interest rate | | | 4.13 | % |
(r) | Retirement and Other Postretirement Benefits |
| |
| Contributions to retirement schemes (which are defined contribution plans) are charged to cost of revenues, research and development costs, sales and marketing expenses and general and administrative expenses in the consolidated statements of income and comprehensive income as and when the related employee service is provided. |
| |
(s) | Earnings per share |
| |
| Basic earnings per share is computed by dividing net income by the weighted average number of ordinary shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the sum of the weighted average number of ordinary shares outstanding and dilutive potential ordinary shares during the period. In fiscal year 2006, dilutive potential ordinary shares consist of the share warrants issued to the financial advisors. |
F - 16
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
(t) | Use of Estimates |
| |
| The preparation of the consolidated financial statements in accordance with US GAAP requires management of the Company to make a number of estimates and assumptions relating to the reported amount of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the period. Actual results could differ from those estimates. Significant items subject to such estimates and assumptions include the recoverability of the carrying amount of long-lived assets; provisions for inventories; valuation allowances for receivables; and provision for sales returns. Actual results could differ from those estimates. |
| |
(u) | Segment Reporting |
| |
| The Company uses the “management approach” in determining reportable operating segments. The management approach considers the internal organization and reporting used by the Company’s chief operating decision maker for making operating decisions and assessing performance as the source for determining the Company’s reportable segments. Management, including the chief operating decision maker, reviews operating results solely by monthly revenue of Li-ion rechargeable batteries (but not by sub-product type or geographic area) and operating results of the Company and, as such, the Company has determined that the Company has one operating segment as defined by SFAS 131, “Disclosures about Segments of an Enterprise and Related Information”. |
| |
(v) | Commitments and Contingencies |
| |
| Liabilities for loss contingencies arising from claims, assessments, litigation, fines and penalties and other sources are recorded when it is probable that a liability has been incurred and the amount of the assessment can be reasonably estimated. |
| |
(w) | Recently Issued Accounting Standards |
| |
| FASB Interpretation No. (“FIN”) 48, Accounting for Uncertainty in Income Taxes—an Interpretation of FASB Statement No. 109 |
| |
| In July 2006, the FASB issued FIN 48, Accounting for Uncertainty in Income Taxes—an Interpretation of FASB Statement No. 109, which clarifies the accounting for uncertainty in tax positions. This Interpretation requires that the Company recognizes in its consolidated financial statements the impact of a tax position if that position is more likely than not of being sustained on audit, based on the technical merits of the position. The provisions of FIN 48 are effective for the Company on January 1, 2007, with the cumulative effect of the change in accounting principle, if any, recorded as an adjustment to opening retained earnings. The Company is currently evaluating the impact of adopting FIN 48 on its consolidated financial statements. |
| |
| SFAS 157, Fair Value Measurements |
| |
| In September 2006, the FASB issued SFAS 157, Fair Value Measurements, which defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements. SFAS 157 applies under other accounting pronouncements that require or permit fair value measurements, where fair value is the relevant measurement attribute. The standard does not require any new fair value measurements. SFAS 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. The Company is currently evaluating the impact of adopting SFAS 157 on its consolidated financial statements. |
F - 17
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
| Staff Accounting Bulletin (“SAB”) No. 108 |
| |
| In September 2006, the SEC issued SAB No. 108, which provides guidance on the process of quantifying financial statement misstatements. In SAB No. 108, the SEC staff establishes an approach that requires quantification of financial statement errors, under both the iron-curtain and the roll-over methods, based on the effects of the error on each of the Company’s financial statements and the related financial statement disclosures. SAB No.108 is generally effective for annual financial statements in the first fiscal year ending after November 15, 2006. The transition provisions of SAB No. 108 permits existing public companies to record the cumulative effect in the first year ending after November 15, 2006 by recording correcting adjustments to the carrying values of assets and liabilities as of the beginning of that year with the offsetting adjustment recorded to the opening balance of retained earnings. Management does not expect that the adoption of SAB No.108 would have a material effect on the Company’s consolidated financial statements. |
| |
3 | Pledged Deposits |
| |
| Pledged deposits at September 30, 2005 and 2006 consist of the following: |
| | 2005 | | 2006 | |
| |
|
| |
|
| |
Pledged deposits with banks for: | | | | | | | |
General banking facilities | | $ | 6,426,100 | | | — | |
Bills payable | | | 12,966,180 | | | 12,971,989 | |
| |
|
| |
|
| |
| | $ | 19,392,280 | | | 12,971,989 | |
| |
|
| |
|
| |
| Deposits pledged for general banking facilities are generally released when the relevant bank loans are repaid upon maturity (see Note 11). |
| |
4 | Trade Accounts Receivable, net |
| |
| Trade accounts receivable at September 30, 2005 and 2006 consist of the following: |
| | 2005 | | 2006 | |
| |
|
| |
|
| |
Trade accounts receivable | | $ | 44,973,292 | | $ | 56,197,229 | |
Less: Allowance for doubtful accounts | | | (1,593,538 | ) | | (1,063,285 | ) |
| |
|
| |
|
| |
| | | 43,379,754 | | | 55,133,944 | |
Bills receivable | | | 484,028 | | | 9,198,227 | |
| |
|
| |
|
| |
| | $ | 43,863,782 | | $ | 64,332,171 | |
| |
|
| |
|
| |
| An analysis of the allowance for doubtful accounts for the years ended September 30, 2004, 2005 and 2006 is as follows: |
| | 2004 | | 2005 | | 2006 | |
| |
|
| |
|
| |
|
| |
Balance at beginning of year | | $ | 461,982 | | $ | 764,362 | | $ | 1,593,538 | |
Addition / (reversal) of bad debt expense, net | | | 302,380 | | | 796,987 | | | (558,719 | ) |
Foreign exchange adjustment | | | — | | | 32,189 | | | 28,466 | |
| |
|
| |
|
| |
|
| |
Balance at end of year | | $ | 764,362 | | $ | 1,593,538 | | $ | 1,063,285 | |
| |
|
| |
|
| |
|
| |
F - 18
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
5 | Inventories |
| |
| Inventories at September 30, 2005 and 2006 consist of the following: |
| | 2005 | | 2006 | |
| |
|
| |
|
| |
Raw materials | | $ | 9,323,864 | | $ | 20,693,915 | |
Work-in-progress | | | 2,698,554 | | | 5,686,328 | |
Finished goods | | | 9,673,808 | | | 21,008,693 | |
| |
|
| |
|
| |
| | $ | 21,696,226 | | $ | 47,388,936 | |
| |
|
| |
|
| |
| Part of the Company’s inventories with carrying value of US$7,661,888 and US$10,115,442 as of September 30, 2005 and 2006, respectively, was pledged as collateral under certain loan agreements (see Note 11). |
| |
6 | Prepayments and Other Receivables |
| |
| Prepayments and other receivables at September 30, 2005 and 2006 consist of the following: |
| | 2005 | | 2006 | |
| |
|
| |
|
| |
Prepayments for raw materials and others | | $ | 1,588,867 | | $ | 905,933 | |
Other receivables | | | 598,309 | | | 263,569 | |
Less: Allowance for doubtful accounts | | | (31,606 | ) | | (34,732 | ) |
| |
|
| |
|
| |
| | $ | 2,155,570 | | $ | 1,134,770 | |
| |
|
| |
|
| |
| |
7 | Income Taxes |
| |
| United States Tax |
| |
| China BAK is subject to United States of America tax law. No provision for income taxes in the United States or elsewhere has been made as China BAK had no taxable income for the years ended September 30, 2004, 2005 and 2006. The statutory tax rate for each of the years ended December 31, 2004, 2005 and 2006 is 35%. |
| |
| Hong Kong Tax |
| |
| BAK International is subject to Hong Kong profits tax rate of 17.5%. Management of BAK International has determined that all income and expenses are offshore and not subject to Hong Kong profits tax. As a result, BAK International did not incur any Hong Kong profits tax during the years presented. |
F - 19
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
| |
| PRC Tax |
| |
| Shenzhen BAK and BAK Electronics are both registered and operate in Shenzhen, the PRC, and are recognized as “Manufacturing Enterprise Located in Special Economic Zone”. As a result, they are entitled to a preferential enterprise income tax rate of 15%. In accordance with the relevant income tax laws, the profits of Shenzhen BAK and BAK Electronics are fully exempted from income tax for two years, from the first profit making calendar year of operations after offset of accumulated taxable losses, followed by a 50% exemption for the immediate next three calendar years (“tax holiday”). |
| |
| The tax holiday of Shenzhen BAK commenced in 2002, the first calendar year in which Shenzhen BAK had assessable profit, and will end on December 31, 2006. In addition, due to the additional capital invested in Shenzhen BAK in both 2005 and 2006, Shenzhen BAK was granted a lower income tax rate of 3.309% and 1.7% in calendar year 2005 and 2006, respectively. |
| |
| BAK Electronics is currently exempted from any enterprise income tax due to cumulative tax losses. |
| |
(a) | Income taxes in the consolidated statements of income and comprehensive income |
| |
| Income taxes consist of: |
| | 2004 | | 2005 | | 2006 | |
| |
|
| |
|
| |
|
| |
Current tax | | $ | 450,455 | | $ | 553,650 | | $ | 520,082 | |
Deferred tax | | | 56,177 | | | 98,288 | | | 72,810 | |
| |
|
| |
|
| |
|
| |
| | $ | 506,632 | | $ | 651,938 | | $ | 592,892 | |
| |
|
| |
|
| |
|
| |
| Substantially all of the Group’s income before income taxes and related tax expenses are from PRC sources. Actual income tax expenses reported in the consolidated statements of income and comprehensive income differ from the amounts computed by applying the US statutory income tax rate of 35% to income before income tax for the three years ended September 30, 2004, 2005 and 2006 for the following reasons: |
| | 2004 | | 2005 | | 2006 | |
| |
|
| |
|
| |
|
| |
Income before income taxes | | $ | 8,308,570 | | $ | 14,148,486 | | $ | 20,757,458 | |
| |
|
| |
|
| |
|
| |
Computed “expected” income tax expense at 35% | | | 2,908,000 | | | 4,951,970 | | | 7,265,110 | |
Change in the balance of the valuation allowance for deferred tax assets | | | — | | | — | | | 1,072,296 | |
Foreign tax rate differential | | | (1,651,077 | ) | | (2,742,422 | ) | | (4,765,560 | ) |
Non- taxable income | | | (24,629 | ) | | (40,630 | ) | | (184,713 | ) |
Non-deductible expenses | | | | | | | | | | |
- Share-based compensation | | | — | | | — | | | 630,759 | |
- Other non-deductible expenses | | | 9,659 | | | 121,686 | | | 51,772 | |
Tax holiday | | | (735,321 | ) | | (1,638,666 | ) | | (3,476,772 | ) |
| |
|
| |
|
| |
|
| |
Actual income tax expenses | | $ | 506,632 | | $ | 651,938 | | $ | 592,892 | |
| |
|
| |
|
| |
|
| |
F - 20
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
| The significant components of deferred income tax expense for the three years ended September 30, 2004, 2005 and 2006 are as follows: |
| | 2004 | | 2005 | | 2006 | |
| |
|
| |
|
| |
|
| |
Deferred tax expenses / (income) | | $ | 56,177 | | $ | 98,288 | | $ | (999,486 | ) |
Valuation allowance for deferred tax assets | | | — | | | — | | | 1,072,296 | |
| |
|
| |
|
| |
|
| |
| | $ | 56,177 | | $ | 98,288 | | $ | 72,810 | |
| |
|
| |
|
| |
|
| |
(b) | Deferred taxation |
| |
| The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and liabilities as of September 30, 2005 and 2006 are presented below: |
| | 2005 | | 2006 | |
| |
|
| |
|
| |
Deferred tax assets | | | | | | | |
Trade accounts receivable | | $ | 40,503 | | $ | 20,779 | |
Inventories | | | 12,417 | | | 7,168 | |
Accrued expenses and other payables | | | 31,718 | | | 50,841 | |
Property, plant and equipment | | | 6,656 | | | 6,810 | |
Net operating loss carried forward | | | — | | | 1,072,296 | |
| |
|
| |
|
| |
Total gross deferred tax assets | | | 91,294 | | | 1,157,894 | |
Less: valuation allowance | | | — | | | (1,072,296 | ) |
| |
|
| |
|
| |
Net deferred tax assets | | $ | 91,294 | | $ | 85,598 | |
| |
|
| |
|
| |
Deferred tax liabilities | | | | | | | |
Property, plant and equipment | | $ | 233,445 | | $ | 304,957 | |
| |
|
| |
|
| |
Net deferred tax liabilities | | $ | 233,445 | | $ | 304,957 | |
| |
|
| |
|
| |
| |
| In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible or utilized. Management considers the scheduled reversal of deferred tax liabilities, projected future taxable income, and tax planning strategies in making this assessment. Based upon an assessment of the level of historical taxable income and projections for future taxable income over the periods in which the deferred tax assets are tested whether they are deductible or can be utilized, management believes that the deferred tax assets as of September 30, 2005 and 2006 are more likely than not to be realized, except for the deferred tax assets relating to the net operating loss carried forward incurred by the Company itself. |
| |
| In order to fully realize the deferred tax asset of US$1,072,296 arising from the net operating loss carried forward of approximately US$3,064,000 incurred by the Company itself, the Company will need to generate sufficient future taxable income to cover the above net operating loss carried forward before its expiration in fiscal year 2026. As the Company is a non-operating holding company and currently does not expect those unremitted earnings of its foreign subsidiaries to reverse and become taxable to the Company, it is more likely than not that the Company will not realize the benefits of its net operating loss carried forward. Therefore, full valuation allowance of US$1,072,296 was provided for the deferred tax assets in this respect. |
| |
| The amount of the deferred tax assets considered realizable, however, could be reduced in the near term if estimates of future taxable income are reduced. |
F - 21
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
| |
| The Company has not recognized a deferred tax liability for the undistributed earnings of its foreign subsidiaries of approximately US$42,034,000 as of September 30, 2006 because the Company currently does not expect those unremitted earnings to reverse and become taxable to the Company in the foreseeable future. A deferred tax liability will be recognized when the Company no longer plans to permanently reinvest undistributed earnings. Calculation of related unrecognized deferred tax liability is not practicable. |
| |
8 | Property, Plant and Equipment, net |
| |
| Property, plant and equipment at September 30, 2005 and 2006 consist of the following: |
| | 2005 | | 2006 | |
| |
|
| |
|
| |
Buildings | | $ | 31,573,531 | | $ | 63,508,910 | |
Machinery and equipment | | | 19,756,528 | | | 30,658,968 | |
Office equipment | | | 459,408 | | | 750,115 | |
Motor vehicles | | | 671,177 | | | 1,018,042 | |
Leasehold improvements | | | 346,118 | | | — | |
| |
|
| |
|
| |
| | | 52,806,762 | | | 95,936,035 | |
Accumulated depreciation and amortization | | | (5,715,375 | ) | | (9,925,557 | ) |
Construction in progress | | | 18,659,821 | | | 23,395,638 | |
| |
|
| |
|
| |
| | $ | 65,751,208 | | $ | 109,406,116 | |
| |
|
| |
|
| |
(i) | Depreciation and amortization expense is included in the consolidated statements of income and comprehensive income as follows: |
| | 2004 | | 2005 | | 2006 | |
| |
|
| |
|
| |
|
| |
Cost of revenues | | $ | 1,635,971 | | $ | 2,906,335 | | $ | 4,468,704 | |
Research and development costs | | | 12,828 | | | 78,581 | | | 259,721 | |
Sales and marketing expenses | | | 8,603 | | | 416,701 | | | 539,412 | |
General and administrative expenses | | | 69,756 | | | 106,636 | | | 466,861 | |
| |
|
| |
|
| |
|
| |
| | $ | 1,727,158 | | $ | 3,508,253 | | $ | 5,734,698 | |
| |
|
| |
|
| |
|
| |
| |
(ii) | Construction in Progress |
| |
| Construction in progress mainly comprises capital expenditures for construction of the Company’s new corporate campus, including offices, factories and staff dormitories. |
| |
| For the years ended September 30, 2004, 2005 and 2006, the Company capitalized interest of approximately US$545,000, US$1,088,000 and US$460,486, respectively, to the cost of construction in progress. |
| |
(iii) | Pledged Property, Plant and Equipment |
| |
| As of September 30, 2005 and 2006, machinery and equipment with net book value of US$8,221,587 and US$6,253,302 of the Company were pledged as collateral under certain loan arrangements (see Note 11). |
F - 22
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
| |
9 | Lease Prepayments, net |
| |
| Lease prepayments at September 30, 2005 and 2006 consist of the following: |
| | 2005 | | 2006 | |
| |
|
| |
|
| |
Lease prepayments | | $ | 3,246,791 | | $ | 3,322,042 | |
Accumulated amortization | | | (91,992 | ) | | (160,565 | ) |
| |
|
| |
|
| |
| | $ | 3,154,799 | | $ | 3,161,477 | |
| |
|
| |
|
| |
| |
| Lease prepayments represent the prepaid land use right. The land on which the Company’s new corporate campus is being constructed is owned by the PRC government. According to the agreement with the local government of Kuichong Township of Longgang District of Shenzhen, the Company is obligated to pay approximately US$13.6 per square meter to the local government to obtain the right to use the land for a period of 50 years. According to the preliminary measurement conducted in 2004, total consideration payable by the Company in respect of the land use right amounted to US$4,029,038, which was reduced to US$3,246,791 in accordance with the results of final measurement by the local government in 2005. The balance of US$3,031,000 is still outstanding at September 30, 2006. The local government granted permission to the Company to commence the construction of the new production plant. However, the Company has not yet obtained their certificate of land use right (see Note 19). The outstanding balance will become due and payable upon the receipt of the certificate of the land use right. |
| |
| Amortization expenses for the above lease prepayments were approximately US$26,000, US$66,000 and US$69,000 for the years ended September 30, 2004, 2005 and 2006 respectively. Estimated amortization expense for the next five years is approximately US$69,000 each year. |
| |
10 | Intangible Assets, net |
| |
| Intangible assets at September 30, 2005 and 2006 consist of the following: |
| | 2005 | | 2006 | |
| |
|
| |
|
| |
Trademarks, software and technology | | $ | 65,919 | | $ | 99,657 | |
Less: Accumulated amortization | | | (12,540 | ) | | (24,975 | ) |
| |
|
| |
|
| |
| | $ | 53,379 | | $ | 74,682 | |
| |
|
| |
|
| |
| |
| Intangible assets represent the trademarks, computer software and technology used for battery production. |
| |
| Amortization expenses for these intangible assets were approximately US$5,000, US$7,000 and US$12,000 for the years ended September 30, 2004, 2005 and 2006 respectively. Estimated amortization expense for the next five years is approximately US$15,000 each year. |
F - 23
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
11 | Short-term Bank Loans |
| |
| The Company obtained several short-term loan facilities from financial institutions in the PRC. These facilities were secured by the Company’s assets with the following carrying values: |
| | 2005 | | 2006 | |
| |
|
| |
|
| |
Pledged deposits | | $ | 6,426,100 | | $ | — | |
Inventories | | | 7,661,888 | | | 10,115,442 | |
Machinery and equipment, net | | | 8,221,587 | | | 6,253,302 | |
| |
|
| |
|
| |
| | $ | 22,309,575 | | $ | 16,368,744 | |
| |
|
| |
|
| |
| As of September 30, 2005 and 2006, the Company had several short-term bank loans with aggregate outstanding balances of US$39,545,230 and US$67,899,908 respectively. The loans were primarily obtained for general working capital, carried interest rates ranging from 5.022% to 5.85% per annum, and had maturity dates ranging from 4 to 12 months. Each loan is guaranteed by Mr. Li Xiangqian, Chairman of the Company, or Jilin Province Huaruan Technology Co., Ltd. (“Huaruan”), a company owned by Mr. Li Xiangqian, or other non-related parties. Neither Huaruan, Mr. Li Xiangqian nor other non-related parties received any compensation for acting as guarantors. |
| |
| Certain shares of the Company were pledged by Mr. Li Xiangqian in order to secure these short-term bank loans as at both September 30, 2005 and 2006. In addition, the Company is subject to certain covenants, which require the Company to comply with certain financial ratio, for its loan facilities which are tested on a monthly basis. If the Company fails to meet the requirements, the outstanding bank loans, including interest and penalties due thereunder, will accelerate and become immediately due and payable. As of September 30, 2006, the Company is in compliance with all of these requirements. |
| |
12 | Accrued Expenses and Other Payables |
| |
| Accrued expenses and other payables at September 30, 2005 and 2006 consist of the following: |
| | Notes | | 2005 | | 2006 | |
| |
|
| |
|
| |
|
| |
Land use rights payable | | | | | $ | 2,962,560 | | $ | 3,031,223 | |
Construction costs payable | | | | | | 5,241,883 | | | 9,815,947 | |
Equipment purchases payable | | | | | | 2,295,083 | | | 6,243,100 | |
Customer deposits | | | (a) | | | 655,065 | | | 342,579 | |
Other payables and accruals | | | (b) | | | 2,458,072 | | | 5,568,961 | |
Staff and workers’ welfare and bonus fund | | | | | | 666,928 | | | 879,175 | |
| | | | |
|
| |
|
| |
| | | | | $ | 14,279,591 | | $ | 25,880,985 | |
| | | | |
|
| |
|
| |
|
|
| (a) | Customer deposits were received from customers in connection with orders of products to be delivered in future periods. |
| | |
| (b) | Other payables and accruals included deferred income from receipts of government grants amounting to US$185,368 and US$777,625 at September 30, 2005 and 2006, respectively. |
| | |
| | Other payables and accruals as of September 30, 2006 also include payable for liquidated damage of US$290,575 (see Note 24). |
F - 24
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
13 | Shareholder’s Equity |
| |
| During the year ended September 30, 2004, the shareholders contributed US$10,875,918 in cash to Shenzhen BAK, which has been recorded as an increase to additional paid-in-capital in the consolidated financial statements. |
| |
| On January 20, 2005, the Company completed a share swap transaction with the shareholders of BAK International, as more fully described in Note 1. Prior to and in connection with the completion of the share swap transaction with BAK International, China BAK sold 8,600,433 shares of its ordinary shares to new investors in a private placement, as more fully described in Note 1. |
| |
| On September 16, 2005, the Company sold 7,899,863 shares of its common stock to new investors for US$43,449,247. The Company granted certain registration rights to such purchasers, including a covenant to file with the Securities and Exchange Commission a registration statement covering their shares. Pursuant to the terms of the registration rights agreement, if the registration statement ceases to be effective and available to the relevant investors at any time prior to the expiration of the registration rights agreement for more than an aggregate of 30 trading days, the Company shall pay to each investor as liquidated damage (1) an amount in cash equal to 1.0% of the aggregate investment amount; (2) on each monthly anniversary of the date exceeding the 30 trading days, an amount in cash equal to 1.5% of the aggregate investment amount on a date pro-rata basis until the registration statement resumes to take effect. The Company also issued warrants to purchase 631,989 shares of its common stock at an exercise price of US$7.92 per share, being 110% of the share price as of the grant date, exercisable for three years after the date of issuance, as a fee to its financial advisors and other external parties in connection with this transaction. The grant date fair value of the warrants amounted to US$1,630,532 and has been recorded within additional paid-in-capital as a cost of the offering, and therefore, the issuance of the share warrants does not have any impact on the net income. |
| |
| On August 15, 2006, the post-effectiveness amendment filed with the SEC on August 4, 2006 became effective and terminated the effectiveness of the Company’s previously filed registration statement. |
| |
| The current registration statement was filed subsequent to the year-end date on October 11, 2006 and became effective on October 19, 2006. As there was no effective registration statement for the shares available to the relevant investors with registration rights for over 30 trading days, the Company recognized in general and administrative expenses an amount of US$290,575 for the liquidated damages incurred up to September 30, 2006. |
F - 25
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
14 | Net Income per Share |
| |
| The calculation of basic net income per share is based on the net income for the year ended September 30, 2006 attributable to equity shareholders of US$20,164,566 (2004: US$7,801,938; 2005: US$13,496,548) and the weighted average number of ordinary shares of 48,879,608 in issue during the year (2004: 31,225,642; 2005: 38,288,874). |
| |
| The calculation of diluted net income per share is based on the net income for the year ended September 30, 2006 attributable to equity shareholders of US$20,164,566 (2004: US$7,801,938; 2005: US$13,496,548) and the weighted average number of ordinary shares of 48,912,963 in issue during the year 2006 (2004: 31,225,642; 2005: 38,408,625) after adjusting for the number of 33,355 dilutive potential ordinary shares. Share warrants granted to external financial advisors (see Note 13) are included in the computation of diluted net income per share for fiscal year 2006. Stock options granted to employees (see Note 17) and restricted shares granted to non-employee directors (see Note 17) are excluded from the computation of diluted net income per share as the stock options and restricted shares were both anti-dilutive. |
| |
15 | Finance Costs, net |
| |
| Details of finance costs are summarized as follows: |
| | 2004 | | 2005 | | 2006 | |
| |
|
| |
|
| |
|
| |
Total interest cost incurred | | $ | 972,559 | | $ | 1,930,054 | | $ | 2,750,102 | |
Less: Interest capitalized | | | (545,024 | ) | | (1,087,909 | ) | | (460,486 | ) |
Interest income | | | (26,159 | ) | | (60,624 | ) | | (523,135 | ) |
Other | | | 52,887 | | | 63,806 | | | 121,832 | |
| |
|
| |
|
| |
|
| |
| | $ | 454,263 | | $ | 845,327 | | $ | 1,888,313 | |
| |
|
| |
|
| |
|
| |
16 | Pension and Other Postretirement Benefits |
| |
| Pursuant to the relevant PRC regulations, the Company is required to make contributions at a rate of 8% to 11% of employees’ salaries and wages to a defined contribution retirement scheme organized by a state-sponsored social insurance plan in respect of the retirement benefits for the Company’s employees in the PRC. The total amount of contributions charged to expense in the accompanying consolidated statements of income and comprehensive income are presented as follows: |
| | 2004 | | 2005 | | 2006 | |
| |
|
| |
|
| |
|
| |
Cost of revenues | | $ | 156,743 | | $ | 421,975 | | $ | 844,182 | |
Research and development costs | | | 3,219 | | | 12,705 | | | 42,456 | |
Sales and marketing expenses | | | 20,422 | | | 144,977 | | | 115,557 | |
General and administrative expenses | | | 28,460 | | | 115,020 | | | 107,076 | |
| |
|
| |
|
| |
|
| |
| | $ | 208,844 | | $ | 694,677 | | $ | 1,109,271 | |
| |
|
| |
|
| |
|
| |
| The Company has no other obligation to make payments in respect of retirement benefits of the employees. The state-sponsored retirement plan is responsible for the entire pension obligations payable to all employees. |
F - 26
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
17 | Share- based Compensation |
| |
| The Company grants share options to officers and employees to reward for services and restricted ordinary shares to its non-employee directors. |
| |
| Employee Stock Option Plan |
| |
| In May 2005, the Board of Directors adopted the China BAK Battery, Inc. 2005 Stock Option Plan (the “Plan”). The Plan authorizes the issuance of up to 4,000,000 shares of the Company’s common stock. The exercise price of the options granted, pursuant to the Plan, must be at least equal to the fair market value of the Company’s common stock at the date of the grant. The Plan will terminate on May 16, 2055. |
| |
| Pursuant to the Plan, the Company issued 2,000,000 options with an exercise price of US$6.25 per share on May 16, 2005. In accordance with the vesting provisions of the grants, the options will become vested and exercisable under the following schedule: |
Numbers of Share | | Percentage of Options Issued | | Initial Vesting Date | |
| |
|
| |
|
| |
800,000 | | | 40% | | | July 1, 2007 | |
600,000 | | | 30% | | | January 1, 2008 | |
600,000 | | | 30% | | | July 1, 2008 | |
| |
|
| | | | |
2,000,000 | | | 100% | | | | |
| |
|
| | | | |
| A summary of share option plan activity for the year ended September 30, 2006 is presented below: |
| | Number of
shares | | Weighted average
exercise price
per share | | Weighted average
remaining
contractual term | |
| |
|
| |
|
| |
|
| |
Outstanding as of October 1, 2005 | | | 1,830,000 | | $ | 6.25 | | | | |
Granted | | | — | | | — | | | | |
Exercised | | | — | | | — | | | | |
Forfeited | | | (30,000 | ) | | 6.25 | | | | |
Cancelled | | | (1,400,000 | ) | | 6.25 | | | | |
| |
|
| |
|
| |
|
| |
Outstanding as of September 30, 2006 | | | 400,000 | | $ | 6.25 | | | 5 years | |
| |
|
| |
|
| |
|
| |
Exercisable as of September 30, 2006 | | | — | | | — | | | — | |
| |
|
| |
|
| |
|
| |
| The weighted-average grant-date fair value of options granted during 2005 was US$3.67 per share. The Company recorded non-cash share-based compensation expense of US$2,625,000 for the year ended September 30, 2006 in respect of share options granted in 2005, which was allocated to cost of revenues, sales and marketing expenses, general and administrative expenses and research and development costs respectively. |
F - 27
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
| On September 22, 2006, the Compensation Committee approved the form of Termination and Release Agreement covering the cancellation of 1,400,000 shares of stock options granted to the optionees who are residents of the PRC. The Compensation Committee also consented to adopt the terms and provisions for Restricted Stock Grant Agreement covering the issuance of restricted stock, and will determine during the first quarter of fiscal year 2007 an appropriate number of shares of restricted stock that will be granted to these optionees under the Plan (“the Replacement Awards”). Fair value of the Replacement Awards to be granted to each optionee will approximate that of the stock options given up by each optionee. The Replacement Awards are classified as liability-classified awards until such time that the number of shares of restricted stock is determined. |
| |
| The Company has estimated the fair value of the Replacement Awards to be $4.72 per share as of September 30, 2006, based on the estimated fair value of the cancelled options using following assumptions. The Company used the Black-Scholes Option Valuation Model, of which method of assumptions are consistent with those stated in Note 2(q). |
Expected volatility | | | 88.39 | % | |
Expected dividends | | | Nil | | |
Expected life | | | 6 years | | |
Risk-free interest rate | | | 4.13 | % | |
| Fair value of the share-based payment liabilities arising from the Replacement Awards amounted to US$3,625,165 as of September 30, 2006. The Company has reclassified US$2,045,393 of previously recognized compensation costs of cancelled option from shareholder’s equity to share-based payment liabilities. In this connection, additional costs totalling US$1,579,772 were charged to the consolidated statement of income and comprehensive income, which was allocated to cost of revenues, sales and marketing expenses, general and administrative expenses and research and development costs respectively. |
| |
| As such stock-based compensation is not deductible for income tax purpose in the PRC and the Company is not expected to generate operating profits to realize the tax benefit arising from its net operating loss carried forward, no income tax benefits were recognized in this respect for the year ended September 30, 2006. |
| |
| As of September 30, 2006, there were unrecognized compensation costs of approximately US$663,000 and US$2,983,000 related to non-vested share options and the Replacement Awards. These costs are expected to be recognized over the remaining vesting period. |
| |
| Compensation Plan for Non-employee Directors |
| |
| On May 12, 2006, the Board of Directors adopted the China BAK Battery, Inc. Compensation Plan for Non-employee Directors (“the Plan 2006”). The Plan 2006 authorizes the issuance of 5,000 restricted shares of the Company’s common stock to each of the three eligible directors in addition to their annual retainer fee. Such restricted shares entitle the relevant non-employee directors to all rights of ordinary shares ownership except that the shares may not be sold, transferred, pledged, exchanged or otherwise disposed of during the vesting period. |
| |
| On May 12, 2006, the Company granted 5,000 restricted shares to each of the three newly elected independent directors with a fair value of US$11.5 per share pursuant to the Plan 2006. The eligible directors shall vest in their rights under the restricted shares according to the following schedule: |
| |
| (i) | 25% of the restricted share granted will immediately vest on the grant date; and |
F - 28
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
| (ii) The remaining 75% of the restricted shares will vest in three equal quarterly instalments on the last day of each subsequent quarter or in three equal quarterly instalments on the last day of each calendar quarter beginning on the last day of the first full calendar quarter after the grant date. |
| |
| As of September 30, 2006, the Company had unrecognized stock-based compensation of approximately US$41,180 associated with these restricted shares granted to non-employee directors. The first and second 25% of the restricted shares were issued as fully paid ordinary shares to the three independent directors on July 19, 2006 and August 16, 2006 respectively. |
| |
18 | Fair Value of Financial Instruments |
| |
| The fair value of a financial instrument is the amount at which the instrument could be exchanged in a current transaction between willing parties. The carrying amounts of financial assets and liabilities, such as cash and cash equivalents, pledged deposits, trade accounts receivable, other receivables, short-term bank loans, accounts and bills payable, share-based payment liabilities and other payables, approximate their fair values because of the short maturity of these instruments and market rates of interest. |
| |
19 | Commitments and Contingencies |
| |
(i) | Capital Commitments |
| |
| As of September 30, 2005 and 2006, the Company had the following capital commitments: |
| | 2005 | | 2006 | |
| |
|
| |
|
| |
For construction of buildings | | $ | 1,062,953 | | $ | 557,883 | |
For purchases of equipment | | | — | | | 12,184,346 | |
| |
|
| |
|
| |
| | $ | 1,062,953 | | $ | 12,742,229 | |
| |
|
| |
|
| |
(ii) | Land Use Rights and Property Ownership Certificate |
| |
| According to relevant PRC laws and regulations, a land use right certificate, along with government approvals for land planning, project planning, and construction, needs to be obtained before construction of a building is commenced. A property ownership certificate shall be granted by the government upon application under the condition that the aforementioned certificate and government approvals are obtained. |
F - 29
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
| The Company has not yet obtained the land use right certificate relating to the premises occupied by the Company, BAK Industrial Park. However, the Company is in the process of applying to obtain the land use right certificate. The local government of Kuichong Township of Longgang District of Shenzhen has, however, granted permission for Shenzhen BAK to commence the construction of the new production plant. |
| |
| Management believes that the Company will ultimately be granted a land use right certificate, and that there should be no legal barriers for the Company to obtain a property ownership certificate for the premises presently occupied by the Company in BAK Industrial Park. However, in the event that the Company fails to obtain the land use right certificate relating to BAK Industrial Park, there is a risk that the buildings constructed will need to be vacated as illegitimate constructions and the Company might be subject to penalties and fines. However, management believes that this possibility, while present, is remote. |
| |
| The Company is not able to insure its manufacturing facilities since it has not yet received its land use right certificate. The Company intends to procure such insurance once it has received the certificate. |
| |
(iii) | Guarantees |
| |
| In order to secure the supplies of certain raw materials and upon the request of suppliers, the Company has given guarantee to certain suppliers which are summarized as follows: |
| | 2005 | | 2006 | |
| |
|
| |
|
| |
Guaranteed for Shenzhen Tongli Hi-tech Co. Ltd. -
a non-related party | | $ | 3,608,502 | | $ | 2,528,861 | |
Guaranteed for Shenzhen Kuichong Zhenda Industrial Co. Ltd. -
a non-related party | | | 1,235,788 | | | 1,264,430 | |
| |
|
| |
|
| |
| | $ | 4,844,290 | | $ | 3,793,291 | |
| |
|
| |
|
| |
| Management has assessed the fair value of the obligation arising from the above financial guarantees and considered it is immaterial to the consolidated financial statements. Therefore, no obligations in respect of the above guarantees were recognized as of September 30, 2006. |
| |
(iv) | Outstanding Discounted Bills |
| |
| From time to time, the Company factors bills receivable to banks. At the time of the factoring, all rights and privileges of holding the receivables are transferred to the banks. The Company removes the asset from its books and records a corresponding expense for the amount of the discount. The Company remains contingently liable on the amount outstanding in the event the bill issuer defaults. |
| |
| The Company’s outstanding discounted bills at September 30, 2005 and 2006 are summarized as follows: |
| | 2005 | | 2006 | |
| |
|
| |
|
| |
Bank acceptance bills | | $ | 3,287,140 | | $ | 1,972,303 | |
Commercial acceptance bills | | | 741,473 | | | 5,013,466 | |
| |
|
| |
|
| |
| | $ | 4,028,613 | | $ | 6,985,769 | |
| |
|
| |
|
| |
F - 30
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
(v) | Litigation and claims |
| |
| On September 12, 2006, Hydro-Quebec, a Canadian company, and the Board of Regents of the University of Texas System brought a federal patent infringement suit in the United States District Court for the Northern District of Texas against the Company. The Company has an agreement with A123 Systems, Inc., under which the Company agrees to manufacture products for A123 Systems, Inc. according to the specifications furnished by, and using the finished electrodes and other materials consigned by, A123 Systems, Inc. to the Company. The plaintiffs alleged that by manufacturing rechargeable lithium cells for one of the Company’s customers, A123 Systems, Inc., for use in DeWalt 36-volt cordless power tools manufactured by Black & Decker Corporation, the Company has infringed two U.S. patents owned by and exclusively licensed to the plaintiffs. The plaintiffs seek injunctive relief and damages in an unspecified amount. If the court issues an adverse decision, the Company may be required to pay the plaintiffs substantial monetary damages, terminate the Company’s existing production of rechargeable lithium cells manufactured for A123 Systems, Inc., or pay royalties to continue such production. The court has not yet issued a decision on this matter and the Company is unable to quantify the extent of any possible award of damages that might become payable by the Company. |
| |
| Furthermore, if A123 Systems, Inc. is found liable for the infringement, it may not be able to continue its cooperation with the Company at all or on terms and conditions acceptable to the Company, which in turn would adversely affect the Company’s ability to execute its strategy to expand its production of cells for power tools and capture high-margin businesses. Accordingly, the Company’s revenues and business prospects would be materially adversely affected. |
| |
20 | Related Party Transactions |
| |
(i) | In October 2003, the Company acquired intangible assets from an entity controlled by Mr. Li Xiangqian, the Chairman and the then controlling shareholder of the Company, for US$3,866,088, paid in cash. The consideration paid by the Company in excess of the Chairman’s carrying cost of the intangible assets, which was nil, was charged to retained earnings, as a distribution to the Chairman, resulting in the acquired intangible assets being recorded by the Company at the Chairman’s original cost basis. |
| |
(ii) | Amounts due from related parties in the consolidated balance sheets consist of short term advances made by the Company to a former shareholder. The advances bore no interest, had no formal repayment terms and had been fully repaid on December 14, 2005. |
| |
(iii) | On September 30, 2004, the Company entered into an agreement with HFG International Ltd. (“HFG”), in which HFG provided financial consulting services to the Company, as described below, for a period of one year for a fee of US$400,000. HFG is controlled by a shareholder of the Company. |
| |
| Under the agreement, HFG provided the Company with, among other things, advice on the development and implementation of a restructuring plan, resulting in an organizational structure that would facilitate the registration of the Company’s securities, assistance to the Company in engaging qualified professionals to facilitate the Company’s plan, assistance in identifying potential merger candidates, assisting in the preparation of the necessary documentation and assistance with solicitation of equity financing. |
| |
| The fee was paid from the proceeds of the equity capital raised by HFG on behalf of the Company. The fee to HFG was offset against the proceeds from the offerings as a cost of raising capital in 2005. The principal stockholder in HFG was also the former Chief Executive Officer of Medina Coffee, Inc. The Company believed that the fee charged to the Company for the services of HFG was on essentially the same terms as those charged by HFG for financial consulting services performed for HFG’s other clients. |
F - 31
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
21 | Significant Concentrations |
| |
(a) | Customers and Credit Concentrations |
| |
| The Group had only one customer that individually comprised 10% or more of net revenue for the years ended September 30, 2004, 2005 and 2006, as follows: |
| | 2004 | | | | 2005 | | | | 2006 | | | |
| |
|
|
|
|
| |
|
|
|
|
| |
|
|
|
|
| |
| | | | | | % | | | | | | % | | | | | | % | |
A123 Systems, Inc. | | $ | — | | | — | | $ | — | | | — | | $ | 18,537,334 | | | 13 | |
| |
|
| | | | |
|
| | | | |
|
| | | | |
| At September 30, 2004 and 2005, the Company did not have balance of gross trade accounts receivable due from A123 Systems, Inc. At September 30, 2006, approximately 1% of gross trade accounts receivable was due from this customer. As a result, a termination in relationship in or a reduction in orders from this customer could have a material impact on the Company’s results of operations and financial condition. |
| |
(b) | Credit Risk |
| |
| Financial instruments that potentially subject the Company to significant concentration of credit risk consist primarily of cash and cash equivalents and pledged deposits. As of September 30, 2005 and 2006, substantially all of the Company’s cash and cash equivalents and pledged deposits were held by major financial institutions located in the PRC, which management believes are of high credit quality. |
| |
22 | Segment Information |
| |
| The Company currently engages in the manufacture, commercialization and distribution of a wide variety of standard and customized lithium ion rechargeable batteries for use in a wide array of applications. The Company manufactures six types of Li-ion rechargeable batteries: steel-case cell, aluminium-case cell, battery pack, cylindrical cell, polymer cell and industrial battery. The Company’s products are sold to packing plants operated by third parties primarily for use in mobile phones and other electronic devices. Net revenues for the years ended September 30, 2004, 2005 and 2006 were as follows: |
| |
| Net revenues by product: |
| | 2004 | | 2005 | | 2006 | |
| |
|
|
|
|
| |
|
|
|
|
| |
|
|
|
|
| |
| | | | | | % | | | | | | % | | | | | | % | |
Steel-case Cell | | $ | 37,965,857 | | | 59.56 | | $ | 56,964,711 | | | 55.89 | | $ | 64,299,407 | | | 44.71 | |
Aluminium-case cell | | | 13,081,861 | | | 20.52 | | | 23,721,464 | | | 23.27 | | | 49,514,304 | | | 34.43 | |
High-power lithium- phosphate cell | | | — | | | — | | | — | | | — | | | 18,537,334 | | | 12.89 | |
Battery pack | | | 12,436,140 | | | 19.51 | | | 20,168,147 | | | 19.79 | | | 9,842,539 | | | 6.84 | |
Cylindrical cell | | | 262,344 | | | 0.41 | | | 1,050,900 | | | 1.03 | | | 607,608 | | | 0.42 | |
Polymer cell | | | — | | | — | | | 16,361 | | | 0.02 | | | 1,027,824 | | | 0.71 | |
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
| | $ | 63,746,202 | | | 100.00 | | $ | 101,921,583 | | | 100.00 | | $ | 143,829,016 | | | 100.00 | |
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|
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|
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|
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|
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|
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|
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F - 32
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
22 | Segment Information (continued) |
| |
| Net revenues by geographic area: |
| | 2004 | | 2005 | | 2006 | |
| |
|
|
|
|
| |
|
|
|
|
| |
|
|
|
|
| |
| | | | | | % | | | | | | % | | | | | | % | |
PRC Mainland | | $ | 43,358,006 | | | 68.02 | | $ | 72,352,373 | | | 70.99 | | $ | 96,669,615 | | | 67.21 | |
United States of America | | | — | | | — | | | — | | | — | | | 18,641,035 | | | 12.96 | |
Hong Kong, China | | | 10,517,005 | | | 16.50 | | | 17,534,684 | | | 17.20 | | | 17,220,619 | | | 11.98 | |
The Republic of Turkey | | | 6,344,286 | | | 9.95 | | | 7,650,144 | | | 7.51 | | | 4,622,618 | | | 3.21 | |
Others | | | 3,526,905 | | | 5.53 | | | 4,384,382 | | | 4.30 | | | 6,675,129 | | | 4.64 | |
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
| | $ | 63,746,202 | | | 100.00 | | $ | 101,921,583 | | | 100.00 | | $ | 143,829,016 | | | 100.00 | |
| |
|
| |
|
| |
|
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|
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|
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|
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23 | China BAK Battery, Inc. (Parent Company) |
| |
| Under PRC regulations, Shenzhen BAK and BAK Electronics may pay dividends only out of their accumulated profits, if any, determined in accordance with PRC GAAP. In addition, Shenzhen BAK and BAK Electronics are required to set aside at least 10% of their after-tax net profits each year, if any, to fund the statutory general reserve until the balance of the reserves reaches 50% of their registered capital. The statutory general reserves are not distributable in the form of cash dividends to the Company and can be used to make up cumulative prior year losses, if any, and may be converted into share capital by the issue of new shares to shareholders in proportion to their existing shareholdings, or by increasing the par value of the shares currently held by them, provided that the reserve balance after such issue is not less than 25% of the registered capital. As of September 30, 2006, additional transfers of US$36,508,282 are required before the statutory general reserve reached 50% of the registered capital of Shenzhen BAK and BAK Electronics. As of 30 September 2006, US$5,791,718 has been appropriated from retained earnings and set aside for statutory general reserves by Shenzhen BAK and BAK Electronics. |
| |
| As of September 30, 2006, the amount of restricted net assets of Shenzhen BAK and BAK Electronics, which may not be transferred to the Company in the forms of loans, advances or cash dividends by the subsidiaries without the consent of a third party, was approximately 5% of the Company’s consolidated net assets as discussed above. In addition, the current foreign exchange control policies applicable in PRC also restrict the transfer of assets on dividends outside the PRC. |
F - 33
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
| The following presents unconsolidated financial information of the parent company only: |
| |
| Condensed Balance Sheet as of September 30, 2005 and 2006 |
| | 2005 | | 2006 | |
| |
|
| |
|
| |
Cash and cash equivalents | | $ | — | | $ | 19,889 | |
Investments in subsidiaries | | $ | 90,344,457 | | $ | 116,595,727 | |
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|
| |
|
| |
Total assets | | $ | 90,344,457 | | $ | 116,615,616 | |
| |
|
| |
|
| |
Other current liabilities | | $ | 35,314 | | $ | 2,987,587 | |
| |
|
| |
|
| |
Total liabilities | | $ | 35,314 | | $ | 2,987,587 | |
| |
|
| |
|
| |
Total shareholders’ equity | | $ | 90,309,143 | | $ | 113,628,029 | |
| |
|
| |
|
| |
Total liabilities and shareholders’ equity | | $ | 90,344,457 | | $ | 116,615,616 | |
| |
|
| |
|
| |
| Condensed Statements of (Loss) / Income (For the years ended September 30, 2004, 2005 and 2006) |
| | 2004 | | 2005 | | 2006 | |
| |
|
| |
|
| |
|
| |
General and administrative expenses | | $ | (70,919 | ) | $ | (31,374 | ) | $ | (3,063,704 | ) |
Investment income | | $ | — | | $ | 13,527,922 | | $ | 23,228,270 | |
| |
|
| |
|
| |
|
| |
(Loss) / income before income taxes | | $ | (70,919 | ) | $ | 13,496,548 | | $ | 20,164,566 | |
Income taxes | | | — | | | — | | | — | |
| |
|
| |
|
| |
|
| |
Net (loss) / income | | $ | (70,919 | ) | $ | 13,496,548 | | $ | 20,164,566 | |
| |
|
| |
|
| |
|
| |
| Condensed Statements of Cash Flows (For the years ended September 30, 2004, 2005 and 2006) |
| | 2004 | | 2005 | | 2006 | |
| |
|
| |
|
| |
|
| |
Cash flow from operating activities | | | | | | | | | | |
Net (loss) / income | | $ | (70,919 | ) | $ | 13,496,548 | | $ | 20,164,566 | |
Adjustment to reconcile net (loss)/income to net cash (used in) / provided by operating activities: | | | | | | | | | | |
Share-based compensation | | | — | | | — | | | 131,320 | |
Investment income | | | — | | | (13,527,922 | ) | | (23,228,270 | ) |
Changes in operating assets and liabilities: | | | | | | | | | | |
Other liabilities | | | 70,919 | | | (35,605 | ) | | 2,952,273 | |
| |
|
| |
|
| |
|
| |
Net cash (used in) / provided by operating activities | | $ | — | | $ | (66,979 | ) | $ | 19,889 | |
| |
|
| |
|
| |
|
| |
Cash flow from investing activities | | | | | | | | | | |
Capital contribution to a wholly owned subsidiary | | $ | — | | $ | (55,312,177 | ) | $ | — | |
| |
|
| |
|
| |
|
| |
Net cash used in investing activities | | $ | — | | $ | (55,312,177 | ) | $ | — | |
| |
|
| |
|
| |
|
| |
Cash flow from financing activities | | | | | | | | | | |
Proceeds from issuance of capital stock, net | | $ | — | | $ | 55,379,156 | | $ | — | |
| |
|
| |
|
| |
|
| |
Net cash provided by financing activities | | $ | — | | $ | 55,379,156 | | $ | — | |
| |
|
| |
|
| |
|
| |
Net increase in cash and cash equivalents | | $ | — | | $ | — | | $ | 19,889 | |
Cash and cash equivalents at the beginning of year | | | — | | | — | | | — | |
| |
|
| |
|
| |
|
| |
Cash and cash equivalents at the end of year | | $ | — | | $ | — | | $ | 19,889 | |
| |
|
| |
|
| |
|
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F - 34
China BAK Battery, Inc. and subsidiaries
Notes to the consolidated financial statements
As of September 30, 2005 and 2006 (continued)
| The details of the Company’s investment in subsidiaries and the net proceeds from issuance of its capital stock are fully described in the consolidated statements of shareholders’ equity, Note 1 and Note 13 to the consolidated financial statements. |
| |
24 | Subsequent Events |
| |
| As mentioned in Note 13, on August 15, 2006, the post-effectiveness amendment filed with the SEC on August 4, 2006 became effective and terminated the effectiveness of the Company’s previously filed registration statement. |
| |
| The current registration statement was filed subsequent to the year-end date on October 11, 2006 and became effective on October 19, 2006. As there was no effective registration statement for the shares available to the relevant investors with registration rights for over 30 trading days, according to the registration rights agreement, the Company should pay liquidated damages to the relevant investors who are entitled to the registration rights. |
| |
| In fiscal year 2006, the Company has recognized in general and administrative expenses an amount of US$290,575 for the liquidated damage incurred up to September 30, 2006. The liquidated damages incurred subsequent to the year end up to the effective date of its current registration statement of US$197,371 was considered as a non-adjusting event to the Company and will be charged to the general and administrative expenses in fiscal year 2007. |
F - 35
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, in Shenzhen, People’s Republic of China, on December 8, 2006.
| CHINA BAK BATTERY, INC. |
| | |
| | |
| By: | /s/ Xiangqian Li |
| |
|
| | Xiangqian Li |
| | Director, Chairman of the Board,
President and Chief Executive Officer |
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities indicated on December 8, 2006.
Signature | | Title |
| |
|
| | |
/s/ Xiangqian Li | | Director, Chairman of the Board, President and Chief Executive Officer |
| | (Principal Executive Officer) |
Name: Xiangqian Li | | |
| | |
/s/ Yongbin Han | | Chief Financial Officer, Secretary and Treasurer |
| | (Principal Financial Officer and Principal Accounting Officer) |
Name: Yongbin Han | | |
| | |
/s/ Huanyu Mao | | Director, Chief Operating Officer and Chief Technical Officer |
| | |
Name: Huanyu Mao | | |
| | |
/s/ Richard B. Goodner | | Director |
| | |
Name: Richard B. Goodner | | |
| | |
/s/ Joseph R. Mannes | | Director |
| | |
Name: Joseph R. Mannes | | |
| | |
/s/ Jay J. Shi | | Director |
| | |
Name: Jay J. Shi | | |
