UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
| FORM 10-Q |
x Quarterly report under Section 13 or 15(d) of the Securities Exchange Act of 1934 for the fiscalquarter ended February 28, 2009
¨ Transition report under Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the transition period from ____ to______.
Commission file number: 000-52409
CHINA ENERGY CORPORATION
(Name of small business issuer in its charter)
Nevada | 98-0522950 | |
(State or other jurisdiction of incorporation or organization) | (IRS Employer Identification No.) | |
| 6130 Elton Avenue, Las Vegas, NV | 89107 | |
(Address of principal executive offices) | (Zip Code) | |
1-888-597-8899 | ||
(Issuer’s telephone number) |
Check whether the issuer: (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yesx No¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer, or a smaller reporting company. See the definitions of "large accelerated filer," "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act. (Check one):
| Large accelerated filer¨ | Accelerated filer¨ | Non-accelerated | Smaller reporting |
| filer¨ | companyx | ||
| (Do not check if a smaller | |||
| reporting company) |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act.¨Yes xNo
State issuer’s revenue for its most recent fiscal year: $ 19,562,793 for the fiscal year ended November 30, 2008.
State the number of shares outstanding of each of the issuer's classes of common equity, as of the latest practicable date:
| Class | April 20, 2009 |
| Common Stock, $ 0.001 par value | 45,000,000 shares |
Transitional Small Business Disclosure Format (Check one): Yes¨; Nox
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| FORWARD |
This report contains forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934 (the "Exchange Act"). We have based these forward-looking statements largely on our current expectations and projections about future events and financial trends affecting the financial condition of our business. These forward-looking statements are subject to a number of risks, uncertainties and assumptions, including, among other things:
| · | general economic and business conditions, both nationally and in our markets, |
| · | our expectations and estimates concerning future financial performance, financing plans and the impact of competition, |
| · | our ability to implement our growth strategy, |
| · | anticipated trends in our business, |
| · | advances in technologies, and |
| · | other risk factors set forth herein. |
In addition, in this report, we use words such as "anticipates," "believes," "plans," "expects," "future," "intends," and similar expressions to identify forward-looking statements.
China Energy Corporation and its subsidiaries (“CEC”, the “Company”, “Coal Group” and “Heat Power”) undertakes no obligation to update publicly or revise any forward-looking statements, whether as a result of new information, future events or otherwise after the date of this prospectus. In light of these risks and uncertainties, the forward-looking events and circumstances discussed in this prospectus may not occur and actual results could differ materially from those anticipated or implied in the forward-looking statements.
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ITEM 1 . FINANCIAL STATEMENTS
CHINA ENERGY CORPORATION
| Consolidated Financial Statements February 28, 2009 (Unaudited) |
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| CHINA ENERGY CORORATION | ||
| CONSOLIDATED BALANCE SHEETS | ||
| ASSETS | ||
| Current Assets: | February 28, 2009 | November 30, 2008 |
| (Unaudited) | (Audited) | |
| Cash | $335,100 | $296,455 |
| Accounts receivables | 5,516,828 | 4,724,882 |
| Other receivables | 2,558,661 | 2,128,642 |
| Advances to suppliers | 5,177,109 | 4,637,041 |
| Inventory | 786,063 | 685,985 |
| Prepaid taxes | 336,217 | - |
| Total current assets | 14,709,978 | 12,473,005 |
| Fixed Assets: | ||
| Property, plant and equipment | 33,678,464 | 33,668,657 |
| Construction in progress | 10,866,861 | 10,710,321 |
| 44,545,325 | 44,378,978 | |
| Less accumulated depreciation and depletion | 5,264,422 | 4,700,282 |
| Net fixed assets | 39,280,903 | 39,678,696 |
| Other Assets: | ||
| Investment property, net of depreciation of $ 131,787 and $ 120,686 | 1,964,392 | 1,979,029 |
| Intangible asset, net of amortization of $ 1,017,855 and $ 940,055 | 3,384,011 | 3,468,906 |
| Long term investment | 255,364 | 255,776 |
| Long term notes receivable | 2,933,769 | 2,832,107 |
| Total other assets | 8,537,536 | 8,535,818 |
| TOTAL ASSETS | $62,528,417 | $60,687,519 |
| LIABILITIES AND STOCKHOLDERS’ EQUITY | ||
| Current Liabilities: | ||
| Notes payable | 7,302,554 | 5,558,888 |
| Accounts payable | 7,932,282 | 7,780,928 |
| Advances from customers | 4,665,117 | 4,675,139 |
| Accrued liabilities | 248,650 | 291,373 |
| Other accounts payable | 6,003,277 | 5,958,701 |
| Shareholder loans | 9,503,526 | 10,208,965 |
| Total current liabilities | 35,655,406 | 34,473,994 |
| Deferred Income | 3,566,174 | 3,018,568 |
| Total liabilities | 39,221,580 | 37,492,562 |
| Stockholders’ Equity: | ||
| Common stock : authorized 75,000,000 shares of $0.001 par value; | 45,000 | 45,000 |
| issued and outstanding 45,000,000 | ||
| Additional paid-in capital | 8,655,805 | 8,655,805 |
| Paid in capital - stock options | 315,000 | 315,000 |
| Retained earnings | 10,101,835 | 9,952,519 |
| Statutory reserves | 1,819,915 | 1,819,915 |
| Other comprehensive income | 2,369,282 | 2,406,718 |
| Total Stockholders’ equity | 23,306,837 | 23,194,957 |
| TOTAL LIABILITIES AND STOCKHOLDERS, EQUITY | $62,528,417 | $60,687,519 |
| The accompanying notes are an integral part of these financial statements. | ||
| -F1- | ||
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| CHINA ENERGY CORPORATION |
| Three Months | Three Months | |
| Ended | Ended | |
| February 28, 2009 | February 29, 2008 | |
| Revenue | $5,579,760 | $7,706,030 |
| Cost of Sales | 4,983,750 | 4,352,202 |
| Gross Profit | 596,010 | 3,353,828 |
| Expenses: | ||
| Selling | 45,633 | 158,629 |
| General and Administrative | 436,901 | 807,200 |
| Options issued for services | - | 315,000 |
| Total expenses | 482,534 | 1,280,829 |
| Operating income | 113,476 | 2,072,999 |
| Other income (expense): | ||
| Other Income | 115,363 | 97,192 |
| Finance expense, net | (99,453) | (197,960) |
| Non operating expense | (4,605) | (64,549) |
| Income Before Income Taxes | 124,781 | 1,907,682 |
| Provision for Income Taxes: | ||
| Current (benefit) provision | (24,535) | 592,692 |
| Net Income | 149,316 | 1,314,990 |
| Other Comprehensive Income | ||
| Loss on foreign currency conversion | (37,436) | (972,550) |
| Total Comprehensive Income | $111,880 | $342,440 |
| Income Per Share - | ||
| Basic and Diluted | $0.00 | $0.03 |
| Weighted average number of shares outstanding | 45,000,000 | 45,000,000 |
| The accompanying notes are an integral part of these financial statements. | ||
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| CHINA ENERGY CORPORATION | ||
| CONSOLIDATED STATEMENTS OF CHANGES | ||
| For the Three Months Periods Ended February 28, 2009 and February 29, 2008 | ||
| (Unaudited) | ||
| 2009 | 2008 | |
| CASH FLOWS FROM OPERATIONS: | ||
| Net income | $ 149, 316 | $ 1,314,990 |
| Adjustments to reconcile net income to net cash provided (consumed by) operating activities: | ||
| Charges not requiring the outlay of cash: | ||
| Depreciation and amortization | 662,797 | 558,571 |
| Options issued for services | - | 315,000 |
| Interest accrued on shareholder loans | 52,828 | |
| Changes in assets and liabilities: | ||
| Increase in accounts receivable | (800,138) | (1,586,389) |
| (Increase) decrease in other receivables | (433,764) | 801,697 |
| Increase in advances to suppliers | (547,777) | (1,532,788) |
| Receipt of deferred income | 552,873 | 538,476 |
| Increase in inventory | (101,257) | (93,057) |
| Increase in accounts payable | 163,998 | 2,878,747 |
| (Decrease) increase in advance from customers | (2,496) | 267,155 |
| Increase in prepaid expenses | (336,217) | - |
| Decrease in accrued liabilities | (42,532) | (49,779) |
| Increase in other accounts payable | 54,207 | 640,458 |
| Net Cash Provided (Consumed) By Operating Activities | (628,162) | 4,053,081 |
| CASH FLOWS FROM INVESTING ACTIVITIES: | ||
| Purchase of fixed assets | (64,044) | - |
| Proceeds received on sale of fixed assets | - | 92,397 |
| Increase in construction in progress | (173,906) | (656,069) |
| Increase in long-term notes receivable | (106,298) | (1,317,736) |
| Decrease in deferred charges | - | 487 |
| Increase in long term investments | - | (812,235) |
| Net Cash Consumed By Investing Activities | (344,248) | (2,693,156) |
| CASH FLOWS FROM FINANCING ACTIVITIES: | ||
| Proceeds from loans | 1,753,900 | - |
| Repayments of loans | - | (541,133) |
| Advances from shareholders | - | 345,747 |
| Repayments from shareholders | (742,342) | - |
| Net Cash Provided (Consumed) By Financing Activities | 1,011,558 | (195,386) |
| Exchange rate effect on cash | (503) | (972,550) |
| Net change in cash | 38,645 | 191,989 |
| Cash balance, beginning of period | 296,455 | 1,478,264 |
| Cash balance, end of period | $335,100 | $1,670,253 |
| The accompanying notes are an integral part of these financial statements. | ||
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CHINA ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FEBRUARY 28, 2009
(Prepared Without Audit)
| 1. | BASIS OF PRESENTATION |
| The unaudited interim financial statements of China Energy Corporation. (“the Company”) as of February 28, 2009 and for the three month periods ended February 28, 2009, and February 29, 2008, have been prepared in accordance with generally accepted accounting principles. In the opinion of management, such information contains all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of the results for such periods. The results of operations for the quarter ended February 28, 2009 are not necessarily indicative of the results to be expected for the full fiscal year ending November 30, 2009. | |
| Certain information and disclosures normally included in the notes to financial statements have been condensed or omitted as permitted by the rules and regulations of the Securities and Exchange Commission, although the Company believes the disclosure is adequate to make the information presented not misleading. The accompanying unaudited financial statements should be read in conjunction with the financial statements of the Company for the year ended November 30, 2008. | |
| 2. | SUPPLEMENTAL CASH FLOWS INFORMATION |
| Cash paid for income taxes during the three month periods ended February 28, 2009 and February 29, 2008 was $nil and $500,000, respectively. Cash paid for interest during those three month periods was $300,000 and $310,000, respectively. | |
| There were no non cash investing activities during the reported periods. | |
| Options to purchase common stock, valued at $315,000, were issued for services during the 2008 three month period. There were no other non cash financing activities during the reported periods. | |
| 3. | SEGMENT REPORTING |
| The Company is made up of two segments of business, Coal Group which derives its revenue from the mining and purchase and sale of coal, and Heat Power which derives its revenue by providing heating and electricity to residents and businesses of a local community. Each of these segments is conducted in a separate corporation and each functions independently of the other. | |
| During the periods reported there were no transactions between the two segments. There also were no differences between the measurements used to report operations of the segments and those used to report the consolidated operations of the Company. In addition, there were no differences between the measurements of the assets of the reported segments and the assets reported on the consolidated balance sheet. | |
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| CHINA ENERGY CORPORATION | ||||||
| NOTES TO CONSOLIDATED FINANCIAL STATEMENTS | ||||||
| FEBRUARY 28, 2009 | ||||||
| (Prepared Without Audit) | ||||||
| Three Months Period Ended February 28, | Three Months Period Ended February 29, | |||||
| 2009 | 2008 | |||||
| Heat | Coal | Total | Heat | Coal | Total | |
| Power | Group | Power | Group | |||
| Sales to external customers | $ 3,942,359 | $ 1,637,401 | $ 5,579,760 | $ 2,650,769 | $ 5,055,261 | $ 7,706,030 |
| Intersegment revenues | - | - | - | - | - | - |
| Interest expense (income), net | 312,992 | (213,539) | 99,453 | (309,420) | 111,461 | (197,959) |
| Depreciation & depletion | 527,204 | 135,593 | 662,797 | 458,521 | 100,050 | 558,571 |
| Segment operating profit | 614,436 | (500,960) | 113,476 | 204,081 | 2,183,918 | 2,387,999* |
| Corporate items | - | - | - | - | - | 315,000* |
| February 28, 2009 | February 29, 2008 | |||||
| Heat | Coal | Total | Heat | Coal | Total | |
| Power | Group | Power | Group | |||
| Segment assets | $ 42,807,740 | $ 17,756,285 | $ 60,564,025 | $ 32,410,969 | $ 22,462,040 | $ 54,873,009 |
| Assets not allowable to segments | - | - | 1,964,392 | - | - | 1,714,074 |
| Expenditures for segment assets: | ||||||
| Construction in progress | 3,739,257 | 7,127,604 | 10,866,861 | 2,985,024 | 4,968,425 | 7,953,449 |
| Other assets | 696,428 | 5,876,716 | 6,573,144 | 489,068 | 15,026,317 | 15,515,385 |
* For the three month period ended February 28, 2008, expenses not allocable to segments consist of stock options expensed during the quarter totaling $ 315,000 not included in segment profit of $ 2,387,999.
| -F5- |
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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
| History |
We, China Energy Corporation (“CEC”), produce coal through our subsidiary Inner Mongolia Tehong Coal Group Co, Ltd. (“Coal Group”) and supply heating and electricity requirements throughout the XueJiaWan district through our subsidiary Inner Mongolia Zhunger Heat Power Co., Ltd. (“Heat Power”).
CEC was incorporated in the state of Nevada on October 11, 2002 for the purpose of producing coal to meet the increasing demand in power and heating industries and also to expand thermoelectric plants and networks in rural developments. CEC acquired Coal Group and Heat Power on November 30, 2004.
Inner Mongolia Tehong Coal Group Co., Ltd. (“Coal Group”)
Coal Group produces coal from the LaiYeGou coal mine located in Erdos City, Inner Mongolia, People’s Republic of China. Its trade consists of production and processing of raw coal for domestic heating, electrical generation and coking purposes for subsequent steel production. The principal sources of revenue are generated from local heating power industry.
Coal Group produces approximately 800,000 tons of coal per year based on current levels of input. The raw coal produced is noncaking coal and has a high ash melting point with high thermal value used almost exclusively as fuel for steam-electric power generation. It has low sulphur and low chemical emission which satisfies government environmental protection standards with heating capability of 6,800 -7,000 Kilocalories (“Kcal”).
Inner Mongolia Zhunger Heat Power Co., Ltd. (“Heat Power”)
Heat Power currently supplies heating requirements throughout the XueJiaWan district in XueJiaWan Town, Zhunger County with its thermoelectric plant and 21 heat transfer stations. These plants are operated by Heat Power employees. The Autonomous Region Planning & Reform Committee appointed Heat Power in 2003 to establish a thermoelectric plant providing heating and electricity capable of expanding coverage in the area serving a larger population base.
Heat Power supplies heating to users directly and supplies electricity through a government controlled intermediary, Inner Mongolia Electric Power Group Co., Ltd. Heat Power will, therefore, be operating two processes, one for heating and one for co-generation of electricity supply.
Heat Power supplies heating to private dwellings and factories, as well as municipal facilities.
| Granting of Stock Options |
On February 11, 2008, the Board of Directors approved the granting of options to purchase a total of 4,500,000 shares of common stock as described in the 2008 Stock Option Plan (the “2008 Plan”) to directors, officers, employees and consultants of the Company. The following is intended as a brief description of the 2008 Plan and is qualified in its entirety by the full text of the 2008 Plan which is attached as Exhibit 99.1.
| Administration |
The 2008 Plan will be administered by the Board of Directors. The Board of Directors may appoint a committee of the Board of Directors (the “Committee”) comprised of two or more of directors, each of whom will be a “Non-Employee Director” within the meaning of Rule 16b-3 under theSecurities Exchange Act of 1934, as amended, and an “Outside Director” within the meaning of Section 162(m) of the Code, to administer the 2008 Plan. Subject to the terms of the 2008 Plan, the Board of Directors or the Committee may determine and designate those employees, directors and consultants to whom options should be granted and the nature and terms of the options to be granted.
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| Eligibility |
All of our employees, including our executive officers and directors who are also employees, are eligible to participate in the 2008 Plan. Directors who are not employees, as well as our consultants and advisers, are eligible to receive options under the 2008 Plan, except that such persons may only receive non-qualified options. Additionally, options granted to non U.S. residents may also only receive non-qualified options.
| Exercise of Stock Options |
The exercise price per share for each option granted under the 2008 Plan shall be determined by the Board of Directors or the Committee. The price is payable in cash.
Subject to earlier termination upon termination of employment and the incentive stock option limitations as provided in the 2008 Plan, each option shall expire on the date specified by the Board of Directors or the Committee.
The options will either be fully exercisable on the date of grant or shall be exercisable thereafter in such installments as the Board of Directors or Committee may specify. Upon termination of employment or other service of an option holder, an option may only be exercised for a period of three months or, in the case of termination due to disability or death, a period of 12 months.
| Transferability |
Options granted under the 2008 Plan may not be transferred except by will or the laws of the descent and distribution and, during his or her lifetime, options may be exercised only by the optionee.
| Certain Adjustments |
In the event of any change in the number or kind of our outstanding common shares by reason of a stock dividend, stock split, recapitalization, combination, subdivision, rights issuance or other similar corporate change, the Board of the Committee shall make such adjustment in the number of common shares that may be issued under the 2008 Plan, and the number of common shares subject to, and the exercise price of, each then-outstanding option, as it, in its sole discretion, deems appropriate.
| Amendment or Discontinuance |
The Board may amend or discontinue the 2008 Plan, provided that no amendment may, without an optionee’s consent, materially and adversely affect any rights under any option previously granted to the optionee under the 2008 Plan. Additionally, the approval of our shareholders is required for any amendment that would:
| · | increase or decrease the number of common shares that may be issued under the 2008 Plan; or |
| · | materially modify the requirements as to eligibility for participation in the 2008 Plan. |
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| Results of operations |
The following is an analysis of our revenues and gross profit, details and analysis of components of expenses, and variance; for the three month periods ended February 28, 2009 compared to February 29, 2008.
| Three Month Periods Ended, | ||||
| February 28, 2009 | February 29, 2008 | |||
| Revenue | $ 5,579,760 | 100% | $ 7,706,030 | 100% |
| Cost of Sales | 4,983,750 | 89% | 4,352,202 | 56% |
| Gross Margin | $596,010 | 11% | $3,353,828 | 44% |
| Coal Group |
For the three month period ended February 28, 2009, revenues for Coal Group were $ 1,637,401 compared to $ 5,055,261 in the comparable three months of 2008. The $ 3,417,860 decrease was as a result of the temporary shut down of the LaiYeGou coal mine for the purpose of installing the necessary fire safety equipment. The installation is currently in progress and all installations must be inspected and approved. We expect to obtain approval by the next quarter ended.
The price of coal is on the upraise however Coal Group faces transportation restraints with new routes being constructed and some routes previously used were not operational. With these restraints, Coal Group may not be able to optimize its levels of revenues as previously projected.
Coal Group revenues are determined by Government regulation as a minimum price per ton is enforced. Coal Group’s selling price per ton has consistently been above this minimum set standard. In addition Coal Group met the demands of customers by supplementing coal mine production with outside purchases.
Coal Group does not typically sign contracts to fix its prices per ton. This allows Coal Group to sell its products at the going market rate which, to the best of management’s knowledge, will continue its upward trend in price. Locking in a fixed price does not allow Coal Group to capitalize on the increase in demand for its products.
| Heat Power |
For the three month period ended February 28, 2009, revenues generated by Heat Power were $ 3,942,359 compared to $ 2,650,769 in the comparable three months of 2008. The $ 1,291,590 increase was as a result of the increase in the number of users as a result of expansion in the XueJiaWan area. It is expected that this area will expand further in the next 2 fiscal years.
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We expect our revenues to increase during the next two fiscal years as a result of retaining additional users while the XueJiaWan area is being further developed. The increase in revenues will also be attributed to the increase in the prices of heat supply in response to increased cost of raw materials. Revenues generated are a function of Government regulation as the prices charged are approved by the Government. The Government reviews the pricing of heating from time to time as market conditions change. Also, the cost of raw materials, coal, are also regulated by the Government as the price point which we obtain from suppliers is controlled as the Government ensures that such prices are affordable for utility companies. The incentive for the supplier to supply at such prices is that transportation routes are guaranteed and arranged by the Government, thereby saving transportation costs on part of the supplier. Such savings outweigh the reduction in the selling price fo r the supplier.
| Cost of Sales |
For the three month periods ended February 28, 2009, cost of sales increased by $ 631,548 from the comparable three month period of 2008, a result of change in the following expenses:
| Three Months Periods Ended, | |||
| February 28, 2009 | February 29, 2008 | Variance | |
| Coal & freight | $ 3,161,940 | $ 3,456,260 | (294,320) |
| Utilities | 316,827 | 165,973 | 150,854 |
| Salaries | 187,757 | 115,159 | 72,598 |
| Operating supplies | 170,701 | 112,760 | 57,941 |
| Repairs | 13,510 | 9,084 | 4,426 |
| Other | 617,806 | 45,418 | 572,388 |
| Depreciation & depletion | 515,209 | 447,548 | 67,661 |
| Total | $ 4,983,750 | $ 4,352,202 | $ 631,548 |
For the three month periods ended February 28, 2009 our gross margin was 11% compared with and 44% in the 2008 three month period. The decrease resulted from the increase in the cost of coal, utilities and freight prices incurred by Heat Power. Included in other expenses is a charge for approximately $ 510,000 for the sub contract of heating to a nearby energy power plant. The contract was to provide heating requirements to an area that is not currently covered under current operations. We may explore constructing facilities to cover this area in the future and the sub contract will provide a cost effective solution until such plans materialize.
Our gross margin also decreased this quarter as a result of the temporary shut down of the LaiYeGou coal mine for the purpose of installing the necessary fire safety equipment. Despite the shut down, Coal Group continued to incur expenses for usage fees for utilities and salaries.
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| Selling Expenses |
For the three month period ended February 28, 2009, selling expenses decreased by $ 112,993 compared to the same period in 2008.
Salaries and wages are expected to remain at current levels and our sales tax expense will vary as a direct function of the variance in revenues.
| Three Months Periods Ended, | |||
| February 28, 2009 | February 29, 2008 | Variance | |
| Salaries and wages | $ 8,553 | $ 13,349 | $ (4,796) |
| - | - | ||
| Sales tax and other expenses | 37,080 | 145,280 | (108,200) |
| Total Expenses | $45,633 | $158,629 | $ (112,996) |
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| General and Administrative Expenses |
For the three month periods ended February 28, 2009, general and administrative expenses decreased by $ 370,299 as a result of change in the following expenses:
| Three Months Periods Ended, | |||
| February 28, 2009 | February 29, 2008 | Variance | |
| Salaries and wages | $ 87,819 | $ 124,236 | $ (36,417) |
| Professional and other fees | 69,882 | 106,744 | (36,862) |
| Office | 55,569 | 275,610 | (220,041) |
| Travel | 42,136 | 155,478 | (113,342) |
| Repairs | 6,607 | 26,411 | (19,804) |
| Other expenses | 27,300 | 7,698 | 19,602 |
| Depreciation | 147,588 | 111,023 | 36,565 |
| Total Expenses | $ 436,901 | $ 807,200 | $ (370,299) |
Salaries and Wages.Salaries and wages decreased as a result of bonuses to be awarded in the 2nd quarter ended in 2009 where as such bonuses were awarded in the 1st quarter ended in the 2008 quarter ended. We expect to award bonuses consistent to that of 2008 levels.
Professional and other Fees.During the quarter ended 2008, professional fees consisted of fees paid to engineer professionals to evaluate the overall efficiencies of the LaiYeGou coal mine. Fees were also incurred to retain environmental professionals which assisted in the implementation of environmental protection policies and procedures for the LaiYeGou Coal mine and also for our thermoelectric plant operations. Fees paid to environmental professionals are expected to be an ongoing expense. For the three month period ended in 2009, we did not retain engineering professionals for the LaiYeGou coal mine.
Office.During the 2008 quarter ended our office expense consisted of expenses paid for distributing promotional materials to potential customers of Coal Group and Heat Power, advertising in trade magazines and on billboards. During the 2009 quarter ended, we did not incur these costs for Coal Group as a result of the temporary shut down of the LaiYeGou coal mine for installation of fire safety equipment. We expect such expenses to increase in the 2nd quarter ended once the coal mine is operational.
Travel.During the 2008 quarter, travel expense consisted of travel by engineering consultants to the thermoelectric plant and also travel incurred by sales staff in their marketing initiatives. During the 2009 quarter ended, we did not retain engineers and therefore did not incur the related travel costs. We expect travel for marketing initiatives to recur on an ongoing basis.
Repairs.Repairs were made mostly to Coal Group’s office building and minor repairs to equipment. We do not expect to incur significant repair expenses in the future.
| Finance Expense |
For the three months periods ended February 28, 2009 and February 29, 2008, finance expenses amounted to $ 99,453, net and $ 197,960, net, respectively. The interest expense incurred was a result of loans obtained by Coal Group. Please refer to “Sources of Capital” below.
| Current trends in the Industry |
Given the increase in demand for coal production for electricity and heating production, the Central Government is encouraging sectors to build more power stations, coking factories, calcium carbide factories and silicon iron
| - 15 - |
factories across the country. The coal industry is expected to grow at a rate of 9.5% per year. A challenge in meeting this demand is transporting coal to nearby regions, such as Shanxi and Hebei Provinces, as transportation routes are currently inefficient or non existent. These routes are expected to be completed in the next 5 years. As a result, sales to these regions during this period may not be at levels we desire.
For Coal Group, methods of circumventing transportation challenges are to receive contracts granted by the Government where transportation is guaranteed from LaiYeGou coal mine to the final destination. Where contracts are privately arranged, transportation is arranged through the hiring of 3rd party transporters or by customers. In some instances, coal is purchased by 3rd parties in close proximity to train stations where transportation to customer destinations is more efficiently arranged. However, transportation to destinations is limited to those for which routes are in place.
For Heat Power, transportation of coal to our facility is provided by its supplier.
Coal Group does not have competition in the usual sense of the term that most other businesses experience. There are approximately 30,000 coal mining companies throughout China; however, since demand currently exceeds supply, competition is not a variable which warrants concern in the operations of our business.
China’s coal industry remains large and growing. Its customer base is chronically under-supplied. There are pressures from the Government to use nuclear power instead of coal due to environmental concerns; however, coal reserves in China are abundant and less expensive and a switch to other forms of resources to generate energy is unlikely.
The electricity and heating supply industry is also growing; however, the government is taking steps to monitor and control economic growth in the rural areas to ensure that the economy is developing at a stable rate.
| Liquidity and Capital Resources |
As of February 28, 2009 we had a working capital deficit of $ 20,945,428.
Not including funds required for expansion of our facilities, we have estimated our cash requirements for the next 12 months. Coal Group will require approximately $ 4,200,000 and Heat Power will require approximately $4,300,000 a total of $ 8,500,000 in order to cover our working capital needs.
We currently are able to sustain our working capital needs through profits we generate and bank and shareholder loans.
We anticipate sales will generate the cash flow from collection of accounts receivables, customer deposits and proceeds from bank and shareholder loans to be sufficient to sustain our working capital needs. However we may require other sources of capital.
We do not know of any trends, events or uncertainties that are likely to have a material impact on our short-term or long-term liquidity other than those factors discussed below.
| Sources of Capital |
If additional capital is needed, we will explore financing options such as shareholder loans. Shareholder loans are payable on demand and interest is calculated at 6.31% per annum.
Coal Group obtained loans from the Agriculture Commercial Bank amounting to 50 million RMB or $ 7,302,554 to assist in funding working capital needs.
Shareholders loans are granted from time to time as required to meet current working capital needs. We have no formal agreement that ensures that we will receive such loans. We may exhaust this source of funding at any time.
We may also receive capital contributions from our shareholders.
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| Cash Flows Operating Activities: |
Our cash flows consumed by operating activities was $ 628,162 for the three month period ended February 28, 2009 versus cash flows provided by operating activities of $ 4,053,081 for the three month periods ended February 29,2008. The following summarizes the inflow and outflow of cash for these periods:
| 2009 | 2008 | |
| Net income | $149,316 | $1,314,990 |
| Options issued for services | - | 315,000 |
| Increase in accounts receivable | (800,138) | (1,586,389) |
| Increase (Decrease) in other receivables | (433,764) | 801,697 |
| Increase in advances to suppliers | (547,777) | (1,532,788) |
| Increase (Decrease) in advances from customers | (2,496) | 267,155 |
| Increase in inventory | (101,257) | (93,057) |
| Increase in accounts payable | 163,998 | 2,878,747 |
| Other | $ 943,956 | 1,687,726 |
| Net Cash Provided (Consumed) By Operating Activities | ($628,162) | $4,053,081 |
During the quarter ended 2008, the Company issued 4,500,000 options to purchase common stock to directors, officers, consultants, and employees and the value of such options was $ 315,000 based on a Black Scholes valuation model.
Accounts Receivable.The increase in accounts receivables are mainly attributed to Heat Power’s user fees made on account. The age of such accounts was less than 3 months. Coal Group’s sales on account were also outstanding for less than 6 months.
Advances to Suppliers.Advances increased as a result of advances made to suppliers of materials required for the LaiYeGou coal mine expansion and subsequent fire proofing efforts. Prepayment is also a common business practice in China as it allows for a determined price and in some instances will grant us discounts on purchases.
Advances from customers.The majority of customer advances received were from Heat Power’s users as a result of providing heat and hot water supply from the thermoelectric plant and boilers converted from previous operations. Advances on sales of coal are also a normal business practice that ensures that the customer obtains Coal Group’s Product at the market price determined on the date of purchase. Coal Group’s advances decreased as a result of the shut down of the coal mine for the purpose of fire proofing its facilities.
Inventory.Inventory mainly consists of operating supplies used by Heat Power for heat generation such as raw coal and boiler fittings.
Accounts Payable.These amounts consist of accruals made for freight, repairs and maintenance of heating plants, labor union fees, social insurance, and technical training for our employees.
| Investing Activities: |
Our cash consumed by investing activities were $ 344,248 and $ 2,693,156 for the three month period ended February 28, 2009 and February 29, 2008, respectively.
Construction in progress charges consist of expenses paid for enhancement of the LaiYeGou coal mine and also Heat Power construction of additional boilers and conversion of existing heating plants previously used in exclusive heat supply operations prior to construction of the thermoelectric plant.
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The Company granted notes to two vendors previously of which $ 106,298 were repaid. The full balance is expected to be repaid by 2ndquarter ended.
| Financing Activities: |
Our cash flows provided by financing activities were $ 1,011,558 for the three month period ended February 28, 2009 and cash flows consumed by financing activities were $ 195,386 for the three month period ended February 29, 2008.
All shareholder loans bear interest at 6.31% and are due on demand. The outstanding balances of such loans, at February 28, 2009, were as follows:
| Ordos City YiYuan Investment Co. Ltd. | $1,248,737 | |
| Wenhua Ding | 1,066,173 | |
| Hangzhou Dayovan Group, Ltd. | 4,038,311 | |
| Xinghe County Haifu Coal Transportation & Sales Co., Ltd. | 1,402,090 | |
| Interest payable | 1,748,215 | |
| Total | $9,503,526 |
Coal Group had previously obtained loans from the Agriculture Commercial Bank totaling 50 million RMB or $ 7,302,554 to assist in funding working capital needs. And additional 18 million RMB or $ 1,753,900 was advanced to Coal Group during the quarter ended 2009.
| Material Commitments |
We are committed to payment of bank loans, shareholder loans and payment of mining rights as mentioned above. We have title to all our capital assets consisting of production equipment, automobiles, and office equipment.
Heat Power’s offices are currently leased on a month to month basis and Coal Group occupies space purchased in 1998. Coal Group holds title to this property in the form of a 50 year lease from the Government. There are no amounts owing.
Heat Power is obligated to make interest payments on a loan obtained through Coal Group as mentioned above.
| Seasonal Aspects |
Coal Group’s business is seasonal in that sales are particularly low in February up to mid March, due to the Chinese New Year holiday. During this time our business is closed for 2 weeks. As a result, sales in March are usually higher.
Heat Power sales level relating to heat generation decreases from April through October as the climate in the region is high, reducing heating requirements.
| Off Balance Sheet Arrangements We have no off balance sheet arrangements. |
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Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
Financial instruments which potentially subject the Company to concentrations of credit risk consist primarily of cash. The Company does not believe that it is significantly exposed to interest rate risk, foreign currency exchange rate risk, commodity price risk, or equity price risk.
| ITEM 4T. CONTROLS AND PROCEDURES |
(A) Evaluation of Disclosure Controls and Procedures
As of the end of the period covered by this report, the Company carried out an evaluation, under the supervision and with the participation of the Company’s Chief Executive Officer/Chief Accounting Officer of the effectiveness of the design and operation of the Company’s disclosure controls and procedures. The Company’s disclosure controls and procedures are designed to provide a reasonable level of assurance of achieving the Company’s disclosure control objectives. The Company’s Chief Executive Officer/Chief Accounting Officer has concluded that the Company’s disclosure controls and procedures are, in fact, effective at this reasonable assurance level as of the period covered. In addition, the Company reviewed its internal controls, and there have been no significant changes in its internal controls or in other factors that could significantly affect those controls subsequent to the date of their last evaluation or from the end of the repor ting period to the date of this Form 10-Q.
(B) Changes in Internal Controls Over Financial Reporting
In connection with the evaluation of the Company’s internal controls during the Company’s 1st fiscal quarter ended February 28, 2009, the Company’s Chief Executive Officer/Chief Accounting Officer has determined that there are no changes to the Company’s internal controls over financial reporting that has materially affected, or is reasonably likely to materially effect, the Company’s internal controls over financial reporting.
| PART II. |
| OTHER INFORMATION |
| ITEM 1. Legal Proceedings-None. Item 1A. Risk Factors |
A description of the risks associated with our business, financial condition, and results of operations is set forth in our annual report on Form 10-K for the year ended November 30, 2008 filed simultaneously with this Quarterly Report on Form 10-Q.
ITEM 2. Unregistered Sales of Equity Securities and Use of Proceeds -None.
ITEM 3. Defaults Upon Senior Securities -None.
ITEM 4. Submission of Matters to a Vote of Security Holders -None
ITEM 5. Other Information -None.
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| ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K | |
| Exhibit Number | Description |
| 31.1 | CEO Section 302 Certification |
| 31.2 | CAO Section 302 Certification |
| 32.1 | CEO Section 906 Certification |
| 32.2 | CAO Section 906 Certification |
| 99.1 | 2008 Stock Option Plan* |
·Incorporated by reference from Form 8K originally filed on February 13, 2008.
REPORTS ON FORM 8-K
None
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| SIGNATURES |
In accordance with the Securities Exchange Act of 1934, this Quarterly Report on Form 10-Q has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
| CHINA ENERGY CORPORATION | ||
| Date: April 20, 2009 | ||
| /s/ WenXiang Ding | ||
| By: | ||
| WenXiang Ding | ||
| President, Chief Executive Officer,Director & | ||
| Secretary | ||
| /s/ Fu Xu | ||
| By: | ||
| Fu Xu | ||
| Chief Accounting Officer | ||
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