WASHINGTON, DC 20549
FORM 10-Q
þ | Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 | ||
For the quarterly period ended June 30, 2009 |
¨ | Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from ___________ to ___________. |
Commission File Number 001-34168
Pansoft Company Limited
(Exact name of registrant as specified in its charter)
British Virgin Islands (State or other jurisdiction of incorporation or organization) | Not Applicable (I.R.S. employer identification number) |
3/F Qilu Software Park Building
Jinan Hi-Tech Zone
Jinan, Shandong,
People’s Republic of China 250101
(Address of principal executive offices and zip code)
86-531-88871159
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days.
(1) Yes þ No o (2) Yes þ No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
(1) Yes o No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer o | Accelerated filer o |
Non-accelerated filer o | Smaller reporting company þ |
(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 o No þ
As of July 31, 2009 the Company has 5,438,232 common shares, par value $0.0059 per share, outstanding.
PANSOFT COMPANY LIMITED
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS | 3 | ||||
PART I. | FINANCIAL INFORMATION | 4 | |||
Item 1. | Financial Statements | 4 | |||
Item 2. | Management’s Discussion and Analysis of Financial Condition and Results of Operations | 20 | |||
Item 3. | Quantitative and Qualitative Disclosures About Market Risk | 24 | |||
Item 4T. | Controls and Procedures | 24 | |||
PART II. | OTHER INFORMATION | 25 | |||
Item 2. | Unregistered Sales of Equity Securities and Use of Proceeds | 25 | |||
Item 6. | Exhibits | 25 |
2
This document contains certain statements of a forward-looking nature. Such forward-looking statements, including but not limited to projected earnings and/or revenue growth, trends and strategies, future operating and financial results, financial expectations and current business indicators are based upon current information and expectations and are subject to change based on factors beyond the control of the Pansoft Company Limited (the “Company”). Forward-looking statements typically are identified by the use of terms such as “look,” “may,” “will,” “should,” “might,” “believe,” “plan,” “expect,” “anticipate,” estimate” and similar words, although some forward-looking statements are expressed differently. The accuracy of such statements may be impacted by a number of business risks and uncertainties that could cause actual results to differ materially from those projected or anticipated, including but not limited to the following:
· | its dependence on a limited number of larger customers; | |
· | political and economic factors in the People's Republic of China; | |
· | the Company’s ability to expand and grow its lines of business; | |
· | unanticipated changes in general market conditions or other factors, which may result in cancellations or reductions in need for the Company’s services; | |
· | a weakening of economic conditions which would reduce demand for services provided by the Company and could adversely affect profitability; | |
· | the acceptance in the marketplace of the Company’s new lines of services; | |
· | foreign currency exchange rate fluctuations; | |
· | the Company’s ability to identify and successfully execute cost control initiatives; or | |
· | other risks outlined above and in the Company’s other filings made periodically by the Company. |
Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. The Company undertakes no obligation to update this forward-looking information. Nonetheless, the Company reserves the right to make such updates from time to time by press release, periodic report or other method of public disclosure without the need for specific reference to this report. No such update shall be deemed to indicate that other statements not addressed by such update remain correct or create an obligation to provide any other updates.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
Condensed Consolidated Balance Sheets
As of | ||||||||
June 30, 2009 | December 31, 2008 | |||||||
(Unaudited) | (Audited) | |||||||
Assets | ||||||||
Current assets | ||||||||
Cash and cash equivalents | $ | 11,330,991 | $ | 12,185,950 | ||||
Accounts receivable, net of allowance for doubtful accounts $134,320 (2008: $152,070) | 912,260 | 1,136,159 | ||||||
Unbilled revenue | 3,094,845 | 2,221,142 | ||||||
Prepayments, deposits and other receivables | 203,143 | 107,785 | ||||||
Inventories | 145,978 | 68,348 | ||||||
Total current assets | 15,687,217 | 15,719,384 | ||||||
Property and equipment, net | 719,838 | 650,708 | ||||||
Deferred software development cost | 36,600 | 73,287 | ||||||
Total assets | $ | 16,443,655 | $ | 16,443,379 | ||||
Liabilities | ||||||||
Current liabilities | ||||||||
Accounts payable and accrued liabilities | $ | 176,547 | $ | 905,748 | ||||
Deferred revenue | 226,741 | 181,192 | ||||||
Income tax payable | 1,597 | 192,470 | ||||||
Deferred income taxes | 339,168 | 172,505 | ||||||
Total current liabilities | 744,053 | 1,451,915 | ||||||
Deferred income taxes | 19,192 | 18,531 | ||||||
Total liabilities | 763,245 | 1,470,446 | ||||||
Stockholders' equity | ||||||||
Common stock (30,000,000 common shares authorized; par value of $0.0059 per share; 5,438,232 shares issued and outstanding as of June 30, 2009) | 32,080 | 32,080 | ||||||
Additional paid-in capital | 8,564,028 | 8,222,054 | ||||||
Retained earnings | 6,094,334 | 5,711,114 | ||||||
Statutory reserves | 363,063 | 363,063 | ||||||
Accumulated other comprehensive income | 626,905 | 644,622 | ||||||
Total stockholders' equity | 15,680,410 | 14,972,933 | ||||||
Total liabilities and stockholders' equity | $ | 16,443,655 | $ | 16,443,379 |
The accompanying notes are an integral part of these condensed consolidated financial statements.
Pansoft Company Limited
Unaudited Condensed Consolidated Statements of Income and Comprehensive Income
For the three months ended June 30, | For the six months ended June 30, | |||||||||||||||
2009 | 2008 | 2009 | 2008 | |||||||||||||
Sales | $ | 1,517,820 | $ | 819,258 | $ | 2,939,906 | 1,377,264 | |||||||||
Cost of sales | 946,876 | 536,659 | 1,714,918 | 1,030,417 | ||||||||||||
Gross profit | 570,944 | 282,599 | 1,224,988 | 346,847 | ||||||||||||
Expenses | ||||||||||||||||
General and administrative expenses | 89,205 | 66,893 | 249,242 | 80,262 | ||||||||||||
Selling expenses | 59,697 | 3,467 | 121,794 | 6,532 | ||||||||||||
Professional fees | 86,826 | 28,565 | 170,387 | 61,537 | ||||||||||||
Stock based compensation | 170,053 | - | 341,974 | - | ||||||||||||
Gain on disposition of property and equipment | - | - | (732 | ) | (1374 | ) | ||||||||||
405,781 | 98,925 | 882,665 | 146,957 | |||||||||||||
Income from operations | 165,163 | 183,674 | 342,323 | 199,890 | ||||||||||||
Other income (expenses), net | (3,772 | ) | - | (3,772 | ) | 537 | ||||||||||
Government grant | 14,656 | - | 160,981 | - | ||||||||||||
Finance cost | 367 | (205 | ) | (22 | ) | (419 | ) | |||||||||
Interest income | 24,062 | 28,352 | 63,588 | 42,477 | ||||||||||||
Income before provision for income taxes | 200,476 | 211,821 | 563,098 | 242,485 | ||||||||||||
Income taxes | 110,382 | - | 179,878 | - | ||||||||||||
Net income | 90,094 | 211,821 | 383,220 | 242,485 | ||||||||||||
Other comprehensive (loss) income | 11,343 | 109,511 | (17,717 | ) | 294,028 | |||||||||||
Total comprehensive income | $ | 101,437 | $ | 321,332 | $ | 365,503 | 536,513 | |||||||||
Basic and diluted net income per share | $ | 0.02 | $ | 0.05 | $ | 0.07 | 0.06 | |||||||||
Basic and diluted weighted average number of shares outstanding | 5,438,232 | 4,238,232 | 5,438,232 | 4,238,232 |
The accompanying notes are an integral part of these condensed consolidated financial statements.
Pansoft Company Limited
Unaudited Condensed Consolidated Statements of Shareholders' Equity
Common Shares | Additional | Retained | Statutory | Accumulated Other | ||||||||||||||||||||||||
Number | Amount | Paid In Capital | Earnings | Reserves | Comprehensive Income | Total | ||||||||||||||||||||||
Balance at December 31, 2008 (Audited) | 5,438,232 | 32,080 | 8,222,054 | 5,711,114 | 363,063 | 644,622 | 14,972,933 | |||||||||||||||||||||
Foreign currency translation adjustment | - | - | - | - | - | (29,060 | ) | (29,060 | ) | |||||||||||||||||||
Net income | - | - | - | 293,126 | - | - | 293,126 | |||||||||||||||||||||
Stock based compensation | - | - | 171,921 | - | - | - | 171,921 | |||||||||||||||||||||
Balance at March 31, 2009 (Unaudited) | 5,438,232 | $ | 32,080 | $ | 8,393,975 | $ | 6,004,240 | $ | 363,063 | $ | 615,562 | $ | 15,408,920 | |||||||||||||||
Foreign currency translation adjustment | - | - | - | - | - | 11,343 | 11,343 | |||||||||||||||||||||
Net income | - | - | - | 90,094 | - | - | 90,094 | |||||||||||||||||||||
Stock based compensation | - | - | 170,053 | - | - | - | 170,053 | |||||||||||||||||||||
Balance at June 30, 2009 (Unaudited) | 5,438,232 | $ | 32,080 | $ | 8,564,028 | $ | 6,094,334 | $ | 363,063 | $ | 626,905 | $ | 15,680,410 | |||||||||||||||
The accompanying notes are an integral part of these condensed consolidated financial statements.
Pansoft Company Limited
Unaudited Condensed Consolidated Statements of Cash Flows
For the six months ended June 30, | ||||||||
2009 | 2008 | |||||||
Cash flows from operating activities | ||||||||
Net income | $ | 383,220 | $ | 242,485 | ||||
Adjustments to reconcile net income to net cash | ||||||||
provided by operating activities: | ||||||||
Deferred income taxes | 167,493 | - | ||||||
Amortization of government grants | - | (115,673 | ) | |||||
Amortization and depreciation | 127,390 | 140,245 | ||||||
Stock-based compensation | 341,974 | - | ||||||
Gain on disposition of property and equipment | (732 | ) | (190 | ) | ||||
Changes in operating assets and liabilities: | ||||||||
Accounts receivable | 222,457 | (86,124 | ) | |||||
Unbilled revenues | (876,055 | ) | - | |||||
Prepayments, deposits and other receivables | (95,454 | ) | (77,079 | ) | ||||
Inventories | (77,685 | ) | - | |||||
Work in progress | - | (49,132 | ) | |||||
Accounts payable and accrued liabilities | (727,852 | ) | (248,996 | ) | ||||
Government grants received, net | - | 79,458 | ||||||
Deferred revenues | 45,750 | 4,174 | ||||||
Income tax payable | (190,575 | ) | - | |||||
Cash used in operating activities | (680,069 | ) | (110,832 | ) | ||||
Cash flows from investing activities | ||||||||
Purchase of property and equipment | (160,692 | ) | (531,058 | ) | ||||
Proceeds from disposition of property and equipment | 732 | 17,428 | ||||||
Cash used in investing activities | (159,960 | ) | (513,630 | ) | ||||
Effect of exchange rate changes on cash and cash equivalents | (14,930 | ) | 193,157 | |||||
Decrease in cash and cash equivalents | (854,959 | ) | (431,305 | ) | ||||
Cash and cash equivalents, beginning of period | 12,185,950 | 3,365,613 | ||||||
Cash and cash equivalents, end of period | $ | 11,330,991 | $ | 2,934,308 | ||||
Supplemental cash flow information | ||||||||
Interest received | $ | 63,588 | $ | 42,477 | ||||
Interest paid | $ | - | $ | 419 | ||||
Income tax paid | $ | 10,789 | $ | - |
The accompanying notes are an integral part of these condensed consolidated financial statements.
7
1. Nature of Operations and Basis of Presentation
Pansoft Company Limited ("the Company") was incorporated in June 2006 in the British Virgin Islands and acquired 100% of Pansoft Jinan Co. Ltd. ("Jinan") at the same time. Jinan was incorporated in Peoples' Republic of China ("PRC"). Upon acquisition by the Company, Jinan became a Foreign Investment Enterprise. Jinan is engaged in the development and marketing of accounting and enterprise resource planning (ERP) software primarily to resource and utility companies across the PRC.
Prior to the incorporation of the Company, Jinan was 100% owned by employees who ultimately became the controlling shareholders of the Company. As such, the opening retained earnings presented on the consolidated balance sheet and statements of shareholders' equity are presented using the continuity of interest method of accounting. Under this method, all activities of Jinan are included in the consolidated financial statements of the Company as if the Company had been the parent company for all periods presented.
On September 8, 2008, the Company completed an initial public offering of 1,200,000 common shares at $7.00 per share. The Company shares started trading on NASDAQ Capital Market the next day. Prior to the completion of IPO, the Company completed a 169.5253-for-one stock split to be effected in the form of a stock dividend to holders of ordinary shares.
In December 2008, the Company established its subsidiary, Pansoft (Hong Kong) Limited ("Hong Kong") to serve the overseas customers.
The condensed consolidated financial statements do not include certain footnote disclosures and financial information normally included in annual consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States of America (‘’GAAP’’) and, therefore, should be read in conjunction with the consolidated financial statements and notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2008.
2. Significant Accounting Policies
Basis of consolidation
The accompanying consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries, Jinan and Hong Kong. All inter-company accounts and transactions have been eliminated upon consolidation.
Cash and cash equivalents
Cash is comprised of cash on hand and at banks. Cash equivalents are short-term, highly liquid investments with original maturities of three months or less that are readily convertible to known amounts of cash and which are subject to insignificant risk of change in value.
Accounts receivable
Accounts receivable are stated at original invoice amount less allowance made for doubtful receivables based on a review of all outstanding amounts at the period end. An allowance for doubtful receivables is made when there is objective evidence that the Company will not be able to collect all amounts due according to the original terms of the receivables. Bad debts are written off when identified. No bad debt expense was recorded for 3 months ended and 6 months ended June 30, 2009 and 2008, respectively.
Unbilled revenue
Unbilled revenue represents the accumulated unbilled amount of revenue recognized, based on the Company's revenue recognition policy.
Inventories
Inventory comprises hardware equipment and software purchased for reselling and is recorded at lower of cost and net realizable value.
Management periodically compares cost of inventory with market and records a reserve for obsolescence when necessary. The reserve for inventory obsolescence was $Nil at June 30, 2009 and December 31, 2008.
Work in progress
Work in progress is the deferred costs of revenue relate to contracts and such costs are stated at actual production costs incurred to date, which primarily includes labor which is directly related to the contract. Work in progress is amortized to cost of revenues at the time revenue is recognized.
Software development cost capitalization
The costs for software system development related to projects for future sales to clients, which mainly consist of payroll cost, are capitalized once the technical feasibility is established after its designing stage is completed and the economic feasibility is established based on the customer ordering orientation. The cost capitalized is amortized over one year period beginning when the sales contracts are signed.
Property and equipment
Property and equipment are recorded at cost. Depreciation is provided over the expected useful lives of the property and equipment with 5% residual value using the following methods and annual rates:
Computer equipment | - 5 years straight line |
Vehicles | - 5 years straight line |
Office furniture | - 5 years straight line |
Leasehold improvement | - 5 years straight line |
Computer software | - 5 years straight line |
Maintenance and repairs expenditures, which do not improve or extend an assets' productive life, are expensed as incurred.
Research and software development costs
Research costs are charged to expense as incurred. Software development costs incurred prior to the establishment of technological feasibility are expensed. Software development costs incurred between the establishment of technological feasibility and product release are capitalized, if material, and amortized over the estimated economic life of the product, which is generally three years. Research and development costs expensed for the three months ended June 30, 2009 amounted to $18,297 (2008 - $17,965) and for the six months ended June 30, 2009 amounted to $36,587 (2008 - $35,426).The research and software development costs are included in cost of sales. These amounts are the amortization expense associated with capitalized software development cost. (Note 5)
Impairment of long-lived assets
Long-lived assets held for use are periodically reviewed for impairment when events or changes in circumstances indicate that their carrying value may not be recoverable. When the carrying value is not recoverable from future cash flows on an undiscounted basis and the carrying value exceeds the assets' fair value, an impairment loss is recorded for the excess of carrying value over fair value.
Government grants
Research grants received from PRC government agencies or private enterprises are recognized as deferred grants and offset against the corresponding research expenses as and when these expenses are incurred for the research projects for which these grants are received.
Income taxes
The Company uses the liability method of accounting for income taxes. Under the SFAS No. 109 "Accounting for Income Taxes" method, income tax assets and liabilities are recognized for the future income tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Income tax assets and liabilities are measured using enacted rates expected to apply to income in the years in which those temporary differences are expected to be recovered or settled. The effect of a change in tax rates on income tax assets and liabilities is reflected in operations in the period in which the change occurs. Valuation allowances are established when necessary to reduce future tax assets to the amount expected to be realized.
The Company adopted the provisions of Financial Accounting Standards Board ("FASB") Interpretation No. 48, "Accounting for Uncertainty in Income Taxes - an Interpretation of FASB Statement No. 109, "("FIN 48"), on January 1, 2007. The Company did not have any material unrecognized tax benefits and there was no effect on its financial condition or results of operations as a result of implementing FIN 48. The Company files income tax returns in the PRC jurisdictions. The Company does not believe there will be any material changes in its unrecognized tax positions over the next 12 months. As of the date of adoption of FIN 48, the Company did not have any accrued interest or penalties associated with any unrecognized tax benefits, nor was any interest expense recognized during the year. The Company's effective tax rate differs from the statutory rate primarily due to non-deductible expenses, temporary differences, and preferential tax treatment.
Value added taxes
Jinan calculates, collects from customers, and remits to governmental authorities value added taxes assessed by governmental authorities in connection with revenue-producing transactions with its customers. The Company reports these taxes on a net basis and does not include these tax amounts in revenue or cost of revenue. Jinan, as a consequence of being in the high-tech industry, sometimes receives special refunds of VAT remitted which are included as a reduction of cost of sales.
Revenue recognition
The Company enters into software development contracts that are fixed fee arrangements to render specific software consulting, development, modification, training, and implementation and maintenance services. The percentage of completion method is applied to those contracts that involve the provision of services relating to the development or implementation of complex software applications, because these services are essential to the functionality of other elements in the arrangement.
The percentage of completion basis for these contracts is calculated based on actual labor cost or labor hours incurred at specific milestones and compared to the estimated total labor cost or labor hours for the services under the arrangement, provided persuasive evidence of an arrangement exists, certain milestones have been achieved or delivery has occurred, the fee is fixed or determinable, and collectability is reasonably assured. Management regularly reviews underlying estimates of total expected labor costs or hours. If the Company does not have a sufficient basis to measure progress towards completion, revenue is recognized when final acceptance is received by the Company from the customer. Amounts received in advance of revenue are reported as deferred revenue on the consolidated balance sheet. When it is probable that total contract costs will exceed total contract revenue, the resultant loss is recognized in full immediately, without reference to the percentage of completion. To date, the Company has not experienced material losses on contracts in process or completed contracts. Revisions to contract revenue, contract costs and profit estimates, which can be significant, are reflected in the accounting period in which the relevant facts become known.
For software development contracts, the Company sometimes provides its customers with a limited warranty for approximately one year following the customer's initial acceptance of the completed project. Retention by the customer of the last 5% of the contract price is considered the milestone for the commencement of the warranty period on such contracts. For those contracts with warranty clauses, 5% of the contract amount is not recognized as revenue or invoiced until the warranty period expires.
From time to time the Company enters into general IT service arrangements with their customers where the Company is obligated to perform professional services, such as unspecific upgrades and technical support. This revenue is recognized based on the actual service hours and the hourly rate agreed by clients in advance. Occasionally, such services were rendered over a specified period of time. In this case revenue is recognized over the term of the contract on a straight-line basis. Some of these arrangements are entered into with customers who have engaged the Company to develop software systems. However, these general IT services are always arranged after the software development contracts are completed or may not be directly related to the system the Company developed for these customers under the software development contracts. There is no warranty provided for general IT service arrangements.
Foreign exchange
The Company's functional currency is the Chinese RMB and its reporting currency is the U.S. dollar. The financial statements of the Company's foreign subsidiaries have been translated into U.S. dollars in accordance with SFAS No. 52, "Foreign Currency Translation". All asset and liability accounts have been translated using the exchange rate in effect at the balance sheet date. Equity accounts have been translated at their historical exchange rates when the capital transaction occurred. Statements of operations amounts have been translated using the average exchange rate for the period. The resulting translation adjustments are reported under other comprehensive income in accordance with SFAS No. 130, "Reporting Comprehensive Income." The following exchange rates were used:
June 30, 2009 | December 31, 2008 | June 30, 2008 | |||||||||||
Period end RMB U.S. Dollar exchange rate | 6.8307 | 6.8225 | 6.8591 | ||||||||||
Average period RMB U.S. Dollar exchange rate | 6.8331 | 6.9477 | 6.9572 |
The foreign currency translation adjustment of $11,343 (2008 - $109,511) has been reported as other comprehensive income in the consolidated statements of income for three months ended June 30, 2009. For the six months ended June 30, 2009, the foreign currency translation adjustment of $17,717 (2008 - $294,028) has been reported as other comprehensive income in the consolidated statement of income.
Although the Chinese government regulations now allow convertibility of RMB for current account transactions, significant restrictions still remain. Hence, such translations should not be construed as representations that RMB could be converted into U.S. dollars at that rate or any other rate.
Substantially all the Company's revenue and expenses are denominated in RMB. The Company's RMB cash inflows are sufficient to service its RMB expenditures. For financial reporting purposes, the Company uses U.S. dollars. The value of the RMB against U.S. dollars and other currencies may fluctuate and is affected by, among other things, changes in China's political and economic conditions. Any significant revaluation of RMB may materially affect the Company's financial condition in terms of U.S. dollar reporting.
Use of estimates
The preparation of financial statements in accordance with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Stock-based compensation
The Company records stock-based compensation in accordance with SFAS 123(R), "Share-Based Payments," which requires the measurement and recognition of compensation expense based on estimated fair values for all share-based awards made to employees and directors, including stock options.
Comprehensive income
Comprehensive income is the sum of net income and other comprehensive income reported in the consolidated statements of income and comprehensive income. Other comprehensive income or loss includes accumulated foreign currency translation gains and losses. The Company has reported the components of comprehensive income on its consolidated statements of shareholders' equity.
Earnings per share
In accordance with SFAS No. 128 "Computation of Earnings per Share," basic earnings per share is computed by dividing net income attributable to common shareholders by the weighted average number of common shares outstanding during the period. Diluted earnings per share is calculated by dividing net income by the weighted average number of common shares and dilutive shares outstanding during the period using the treasury stock method.
Fair value of financial instruments
The estimated fair value of financial instruments disclosed in the consolidated financial statements has been determined by using available market information and appropriate valuation methodologies. The carrying value of all current assets and current liabilities approximates fair value because of their short-term nature.
Effective January 1, 2008, the Company adopted SFAS 157 "Fair Value Measurements" for financial assets and liabilities. This standard defines fair value, provides guidance for measuring fair value and requires certain disclosures. This standard does not require any new fair value measurements, but rather applies to all other accounting pronouncements that require or permit fair value measurements. This standard does not apply measurements related to share-based payments, nor does it apply to measurements related to inventory.
SFAS 157 discusses valuation techniques, such as the market approach (comparable market prices), the income approach (present value of future income or cash flows), and the cost approach (cost to replace the service capacity of an asset or replacement cost). The statement utilizes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three broad levels. The following is a brief description of those three levels:
Level 1: Observable inputs such as quoted prices (unadjusted) in active markets for identical assets or liabilities.
Level 2: Inputs other than quoted prices that are observable for the asset or liability, either directly or indirectly. These include quoted prices for similar assets or liabilities in active markets and quoted prices for identical or similar assets or liabilities in markets that are not active.
Level 3: Observable inputs that reflect the reporting entity's own assumptions.
The financial assets and liabilities of the Company subject to fair value measurements and the necessary disclosures are as follows:
0; Fair Value Measurements Using | Assets/Liabilities | |||||||||||||||
Level 1 | Level 2 | Level 3 | At Fair Value | |||||||||||||
Cash equivalents | $ | 8,256,186 | - | - | $ | 8,256,186 |
3. Recently Changes in Accounting Standards
In December 2007, the FASB issued Statement of Financial Accounting Standards No. 141 (revised 2007), “Business Combinations” (“FAS 141R”). FAS 141R replaces Statement of Financial Accounting Standards No. 141, “Business Combinations” (“FAS 141”), although it retains the fundamental requirement in FAS 141 that the acquisition method of accounting be used for all business combinations. FAS 141R establishes principles and requirements for how the acquirer in a business combination (a) recognizes and measures the assets acquired, liabilities assumed and any noncontrolling interest in the acquiree, (b) recognizes and measures the goodwill acquired in a business combination or a gain from a bargain purchase and (c) determines what information to disclose regarding the business combination. FAS 141R applies prospectively to business combinations for which the acquisition date is on or after the beginning of the Company’s 2009 fiscal year. Adoption of FAS 141R did not have a material impact on the Company’s financial position, results of operations or cash flows.
In December 2007, the FASB issued Statement of Financial Accounting Standards No. 160, “Noncontrolling Interests in Consolidated Financial Statements” (“FAS 160”). FAS 160 amends ARB 51 to establish accounting and reporting standards for the noncontrolling interest in a subsidiary, commonly referred to as minority interest. Among other matters, FAS 160 requires (a) the noncontrolling interest be reported within equity in the balance sheet and (b) the amount of consolidated net income attributable to the parent and to the noncontrolling interest to be clearly presented in the statement of income. Further, paragraph 31 of ARB 51, as amended by FAS 160, requires that the noncontrolling interest continue to be attributed its share of losses even if that attribution results in a deficit noncontrolling interest balance. This standard is effective for fiscal years beginning after December 15, 2008. The impact of this standard cannot be determined until the transactions occur.
In February 2008, the FASB issued FASB Staff Position No. FAS 157-2 (FSP 157-2), Effective Date of FASB Statement No. 157 . FSP 157-2 deferred the effective date of SFAS 157 for nonfinancial assets and nonfinancial liabilities, except for items that are recognized or disclosed at fair value in the financial statements on a recurring basis, until fiscal years beginning after November 15, 2008. As a result of FSP 157-2, the Company adopted SFAS 157 for the Company’s nonfinancial assets and nonfinancial liabilities on January 1, 2009. The adoption of SFAS 157 for nonfinancial assets and nonfinancial liabilities did not have a material impact on the Company’s financial position, results of operations or cash flows.
12
In March 2008, the FASB issued FAS No. 161, “Disclosures about Derivative Instruments and Hedging Activities,” which requires enhanced disclosures about an entity’s derivative and hedging activities. This Statement is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008. The Company adopted FAS No. 161 on January 1, 2009. Since FAS 161 only provides for additional disclosure requirements, there was no impact on the Company’s results of operations and financial position.
In May 2008, the FASB issued Statement of Financial Accounting Standards No. 162, The Hierarchy of Generally Accepted Accounting Principles (“FAS 162"). This Standard identifies the sources of accounting principles and the framework for selecting the principles to be used in the preparation of financial statements of nongovernmental entities that are presented in conformity with generally accepted accounting principles. FAS 162 directs the hierarchy to the entity, rather than the independent auditors, as the entity is responsible for selecting accounting principles for financial statements that are presented in conformity with generally accepted accounting principles. The Standard is effective 60 days following SEC approval of the Public Company Accounting Oversight Board amendments to remove the hierarchy of generally accepted accounting principles from the auditing standards. FAS 162 did not have an impact on the Company’s financial statements.
In May 2008, the FASB issued SFAS No. 163, Accounting for Financial Guarantee Insurance Contracts, an interpretation of FASB Statement No. 60 (SFAS 163). This statement clarifies accounting for financial guarantee insurance contracts by insurance enterprises under FASB Statement No. 60, Accounting and Reporting by Insurance Enterprises. SFAS 163 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2008. The Company adopted FAS No. 163 on January 1, 2009. Because the Company does not issue financial guarantee insurance contracts, the adoption of this standard did not have an effect on the Company’s financial position or results of operations.
In April 2008, the FASB issued FASB Staff Position (FSP) FAS 142-3, Determination of the Useful Life of Intangible Assets, which amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under FASB Statement No. 142, Goodwill and Other Intangible Assets. This Staff Position is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years. Early adoption is prohibited. Application of this FSP is not currently applicable to the Company.
In May 2008, the FASB issued FASB Staff Position (FSP) APB 14-1, Accounting for Convertible Debt That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement) ("FSP 14-1"). FSP 14-1 was effective for financial statements issued for fiscal years beginning after December 15, 2008, i.e. the Company’s fiscal 2009. The FSP includes guidance that convertible debt instruments that may be settled in cash upon conversion should be separated between the liability and equity components, with each component being accounted for in a manner that will reflect the entity's nonconvertible debt borrowing rate when interest costs are recognized in subsequent periods. However, because the Company does not have convertible debt, the adoption of this standard did not have an effect on the Company’s financial position or results of operations.
In June 2008, the FASB issued FSP EITF 03-6-1, "Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities." FSP EITF 03-6-1 addresses whether instruments granted in share-based payment transactions are participating securities prior to vesting and, therefore, need to be included in the earnings allocation in computing income per share under the two-class method pursuant to SFAS No. 128, "Earnings per Share." This guidance establishes that unvested share-based payment awards that contain nonforfeitable rights to dividends or dividend equivalents (whether paid or unpaid) are participating securities and shall be included in the computation of earnings per share pursuant to the two-class method. FSP EITF 03-6-1 is effective for financial statements issued for fiscal years beginning after December 15, 2008. Furthermore, all prior period earnings per share data presented shall be adjusted retrospectively to conform to the provisions of FSP EITF 03-6-1. The impact of this standard cannot be determined until the transactions occur.
In September 2008, the FASB issued FSP FAS 133-1 and FIN 45-4, Disclosures About Credit Derivatives and Certain Guarantees. FSP FAS 133-1 and FIN 45-4 is intended to improve disclosures about credit derivatives by requiring more information about the potential adverse effects of changes in credit risk on the financial position, financial performance and cash flows of the sellers of credit derivatives. FSP FAS 133-1 and FIN 45-4 is effective for fiscal years beginning after November 15, 2008. The Company do not expect that the adoption of FSP FAS 133-1 and FIN 45-4 will have a material impact on the Company’s financial position, results of operations or cash flows.
In September 2008, the FASB ratified EITF No. 08-5, Issuer’s Accounting for Liabilities Measured at Fair Value With a Third-Party Credit Enhancement .. EITF 08-5 provides guidance for measuring liabilities issued with an attached third-party credit enhancement (such as a guarantee). It clarifies that the issuer of a liability with a third-party credit enhancement should not include the effect of the credit enhancement in the fair value measurement of the liability. EITF 08-5 is effective for reporting periods beginning after December 15, 2008, with early adoption allowed. The Company adopted EITF 08-5 in the fourth quarter of fiscal 2008. Adoption of EITF 08-5 did not have an impact on our financial position, results of operations or cash flows.
13
In October 2008, the FASB issued FSP FAS 157-3, Determining Fair Value of a Financial Asset When the Market for That Asset Is Not Active. FSP FAS 157-3 provides guidance and illustrates key considerations for determining fair value in markets that are not active. FSP FAS 157-3 is effective upon issuance and must be applied to all periods for which financial statements have not been issued. Adoption of FSP FAS 157-3 did not have an impact on the Company’s financial position, results of operations or cash flows.
In December 2008, the FASB issued FSP SFAS 140-4 and FIN 46(R)-8, Disclosures by Public Entities (Enterprises) about Transfers of Financial Assets and Interests in Variable Interest Entities . FSP 140-4 and FIN 46 (R)-8 amends SFAS 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities and FIN 46(R) Consolidation of Variable Interest Entities (revised December 2003) — an interpretation of ARB No. 51 to require public entities to provide additional disclosures about transfers of financial assets and their involvement with variable interest entities. FSP 140-4 and FIN 46(R)-8 is effective for the first interim or annual reporting period ending after December 15, 2008. Adoption of FSP 140-4 and FIN 46(R) did not have a material impact on the Company’s financial position, results of operations or cash flows.
In April 2009, the FASB issued FASB Staff Position (FSP) FAS 141(R)-1, Accounting for Assets Acquired and Liabilities Assumed in a Business Combination That Arise from Contingencies , which amends the accounting in SFAS 141(R) for assets and liabilities arising from contingencies in a business combination. The FSP is effective January 1, 2009, and requires pre-acquisition contingencies to be recognized at fair value, if fair value can be reasonably determined during the measurement period. If fair value cannot be reasonably determined, the FSP requires measurement based on the recognition and measurement criteria of SFAS 5, Accounting for Contingencies. Adoption of FSP FAS 141(R)-1 did not have an impact on the Company’s financial position, results of operations or cash flows.
In April 2009, the FASB issued FSP SFAS No. 157-4, “Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly.” Under FSP SFAS No. 157-4, transactions or quoted prices may not accurately reflect fair value if an entity determines that there has been a significant decrease in the volume and level of activity for the asset or the liability in relation to the normal market activity for the asset or liability (or similar assets or liabilities). In addition, if there is evidence that the transaction for the asset or liability is not orderly, the entity shall place little, if any weight on that transaction price as an indicator of fair value. FSP SFAS No. 157-4 is effective for periods ending after June 15, 2009, with early adoption permitted for periods ending after March 15, 2009 subject to the early adoption of FSP SFAS No. 115-2 and SFAS No. 124-2. We did not elect to early adopt FSP SFAS No. 157-4; however, the Company do not expect the adoption to have a material impact on our Consolidated Financial Statements.
In April 2009, the FASB issued FSP SFAS No. 115-2 and SFAS No. 124-2, “Recognition and Presentation of Other-Than-Temporary Impairments” (“FSP SFAS No. 115-2”). FSP SFAS No. 115-2 provides new guidance on the recognition and presentation of other-than-temporary impairments (“OTTI”) for fixed maturity securities that are classified as available-for-sale and held-to-maturity if management does not intend to sell the impaired security and it is more likely than not it will not be required to sell the impaired security before the recovery of its amortized cost basis. If management concludes a security is other-than-temporarily impaired, FSP SFAS No. 115-2 requires that the difference between the fair value and the amortized cost of the security be presented as an OTTI realized loss with an offset for any noncredit-related loss component of the OTTI realized loss to be recognized in accumulated other comprehensive income. Accordingly, only the credit loss component will have an impact on earnings for the reporting period. FSP SFAS No. 115-2 also requires extensive new interim and annual disclosures for both fixed maturity securities and equity securities to provide further disaggregated information as well as information about how the credit loss component of the OTTI realized loss was determined along with a roll forward of such amount for each reporting period. FSP SFAS No. 115-2 is effective for interim and annual periods ending after June 15, 2009, with early adoption permitted for periods ending after March 15, 2009 subject to the early adoption of FSP SFAS 157-4. We did not elect to early adopt FSP SFAS No. 115-2; however, the Company do not expect the adoption to have a material impact on our Consolidated Financial Statements.
In April 2009, the FASB issued FSP SFAS No. 107-1 and Accounting Principles Board (“APB”) No. 28-1, “Interim Disclosures about Fair Value of Financial Instruments” (“FSP SFAS No. 107-1”). FSP SFAS No. 107-1 amends SFAS No. 107, “Disclosures about Fair Value of Financial Instruments,” to require fair value of financial instrument disclosure in interim financial statements and amends APB No. 28, “Interim Financial Reporting,” to require those disclosures in all interim financial statements. The provisions of FSP SFAS No. 107-1 are effective for interim periods ending after June 15, 2009, with early adoption permitted for periods ending after March 15, 2009. We did not elect to early adopt FSP SFAS No. 107-1; however, the Company do not expect the adoption to have a material impact on our Consolidated Financial Statements.
14
4. Property and Equipment
Accumulated | June 30, 2009 | ||||||||||||
Cost | Depreciation | Net Book Value | |||||||||||
Computer equipment | $ | 1,010,440 | $ | 404,656 | $ | 605,784 | |||||||
Vehicles | 192,585 | 141,348 | 51,237 | ||||||||||
Office furniture | 11,484 | 8,423 | 3,061 | ||||||||||
Leasehold improvement | 35,570 | - | 35,570 | ||||||||||
Software | 28,657 | 4,471 | 24,186 | ||||||||||
Total | $ | 1,278,736 | $ | 558,898 | $ | 719,838 |
Accumulated | June 30, 2009 | ||||||||||||
Cost | Depreciation | Net Book Value | |||||||||||
Computer equipment | $ | 957,625 | $ | 332,514 | $ | 635,111 | |||||||
Vehicles | 171,852 | 159,640 | 12,212 | ||||||||||
Office furniture | 8,738 | 8,395 | 343 | ||||||||||
Leasehold improvement | - | - | - | ||||||||||
Software | 5,520 | 2,478 | 3,042 | ||||||||||
Total | $ | 1,143,735 | $ | 493,027 | $ | 650,708 |
Total depreciation expense for the three months ended June 30, 2009 was $40,778 (2008 - - $61,108) with $29,621 (2008 - $41,648) included in cost of sales, $10,942 (2008 – 19,370) in general and administrative expenses, and $215 (2008 - $Nil) in selling expenses.
Total depreciation expense for the six months ended June 30, 2009 was $90,803 (2008 - $104,817) with $72,927 (2008 - $81,794) included in cost of sales, $17,486 (2008 – 23,023) in general and administrative expenses, and $390 (2008 - $Nil) in selling expenses.
5. Software Development Cost
June 30, 2009 | December 31, 2008 | |||||
Software development cost | $ | 219,597 | $ | 219,861 | ||
Less: accumulated amortization | 182,997 | 146,574 | ||||
$ | 36,600 | $ | 73,287 |
6. Statutory Reserves
In accordance with the laws and regulations of the PRC, all wholly-owned foreign invested enterprises have to set aside a portion of their net income each year as statutory reserves. The proportion of allocation for reserve funds is no less than 10 percent of the profit after tax until the accumulated amount of allocation for statutory surplus reserve funds reaches 50 percent of the registered capital. Statutory reserves represent restricted retained earnings. Statutory reserves are to be utilized to offset prior years' losses, or to increase its share capital. When a limited liability company converts its statutory reserves to capital in accordance with a shareholders' resolution, the Company will either distribute new shares in proportion to the number of shares held by each shareholder, or increase the par value of each share. Except for the reduction of losses incurred, any other usage should not result in this reserve balance falling below 25% of the registered capital. The funds accumulated by Jinan as of June 30, 2009 and December 31, 2008 were $363,063, no additional reserves have been taken during the first two quarters of fiscal 2009.
7. Income Taxes
The Company files income tax returns in the PRC. The Company does not believe there will be any material changes in its unrecognized tax positions over the next 12 months.
In 2007, Pansoft's operating subsidiary Jinan was subject to the enterprise income tax at the reduced applicable rate of 7.5%, as Jinan was classified as a "software enterprise" and "high-technology enterprise" business. The Company was able to enjoy a further reduction to 0% due to being a foreign investment enterprise ("FIE").
On March 16, 2007, The National People's Congress of China passed "The Law of the People's Republic of China on Enterprise Income Tax" (the "Enterprise Income Tax Law"). The Enterprise Income Tax Law became effective on January 1, 2008. This new law eliminated the existing preferential tax treatment that is available to the FIEs but provides grandfathering of the preferential tax treatment currently enjoyed by the FIE's. Under the new law, both domestic companies and FIE's are subject to a unified income tax rate of 25%. Jinan's two-year tax holiday ended in December 2007 and is currently eligible for the 50% exemption from tax for the years ending December 31, 2008 through December 31, 2010 under the grandfathering provisions in the Enterprise Income Tax Law.
The benefit of the tax holiday for the six months ended June 30, 2009 and 2008 was $113,135 and $Nil. The benefit of the tax holiday on earnings per share for the six months ended June 30, 2009 and 2008 was $0.02 and $Nil.
A reconciliation of consolidated corporate income taxes at the statutory rate of 25% (2008: 12.5%) and the Company's effective income tax expense for the six months ended June 30, 2009 and 2008 are shown as follows:
For the six months ended June 30, | ||||||||
2009 | 2008 | |||||||
Income before provision for income taxes | $ | 563,098 | $ | 242,485 | ||||
Income tax at statutory rate | 140,775 | 30,311 | ||||||
Stock-based compensation | 85,494 | - | ||||||
Foreign profit not recognized in PRC | - | - | ||||||
Underprovision of the income tax from prior year | 10,789 | - | ||||||
Temporary difference and other | 55,955 | (30,311) | ||||||
Effect of 50% tax reduction | (113,135) | - | ||||||
Income tax provision | $ | 179,878 | $ | - | ||||
Current income taxes | $ | 12,385 | $ | - | ||||
Deferred income taxes | 167,493 | - | ||||||
Total income tax provisions | $ | 179,878 | $ | - |
The significant components of deferred tax assets (liabilities) are as follows:
June 30, 2009 | ||||||||||||
Current | Non-current | Total | ||||||||||
Timing difference on revenue recognition | $ | (739,169 | ) | $ | - | $ | (739,169 | ) | ||||
Write off of accounts receivable | 59,478 | - | 59,478 | |||||||||
Plant, equipment and capitalized software cost | - | (38,384 | ) | (38,384 | ) | |||||||
Other temporary differences | 1,355 | - | 1,355 | |||||||||
(678,336 | ) | (38,384 | ) | (716,720 | ) | |||||||
Effect of 50% tax reduction | 339,168 | 19,192 | 358,360 | |||||||||
Net deferred income tax liabilities | $ | (339,168 | ) | $ | (19,192 | ) | $ | (358,360 | ) |
December 31, 2008 | ||||||||||||
Current | Non-current | Total | ||||||||||
Timing difference on revenue recognition | $ | (572,125 | ) | $ | - | $ | (572,125 | ) | ||||
Write off of accounts receivable | 57,717 | - | 57,717 | |||||||||
Plant, equipment and capitalized software cost | - | (37,063 | ) | (37,063 | ) | |||||||
Other temporary differences | 169,399 | - | 169,399 | |||||||||
(345,009 | ) | (37,063 | ) | (382,072 | ) | |||||||
Effect of 50% tax reduction | 172,504 | 18,532 | 191,036 | |||||||||
Net deferred income tax liabilities | $ | (172,505 | ) | $ | (18,531 | ) | $ | (191,036 | ) |
16
8. Shareholders' Equity
Common stock
On July 21, 2008, The Company's Board of Directors approved a 169.529280-for-1 stock split of the Company's common stock, whereby each share held by holders of record as of July 21, 2008 was subdivided into 169.529280 shares. The effects of this common stock split have been retroactively applied to the accompanying consolidated financial statement and notes thereto.
On September 8, 2008, the Company completed an initial public offering ("IPO") on NASDAQ. Pursuant to the IPO, the Company issued 1,200,000 shares of common stock for gross proceeds of $8,400,000 and issued 120,000 underwriter warrants. Each warrant entitles the holder to purchase one common share for a price of $8.40 per share for a period of four years following the closing of the IPO. The unit price for each Underwriter warrant is $ 0.001. The Company received proceeds of $120 from the issuance of underwriter warrants which is included in additional paid-in capital. The costs of the offering totaled to $876,987 and are included in additional paid-in capital.
Warrants
The following table shows the number of warrants with other information as of June 30, 2009:
Outstanding Warrants | Exercisable Warrants | |||
Weighted Average Exercise Price | Number | Weighted Average Remaining Contractual Life | Weighted Average Exercise Price | Exercise Number |
$ 8.4 | 120,000 | 3.2 years | $ 8.4 | - |
The Company has authorized the establishment of stock option plan effective on July 20, 2008 for its directors and employees (the "Plan"). The Plan contains 604,248 options to purchase common shares. It provides additional compensation incentives for high levels of performance and productivity by management, other key employees of the Company and directors.
In September 2008, the Company granted 321,000 options to its directors, management and key employees at an exercise price of $7.00, vesting at a rate of 20% per year for five years. The fair value of these stock options was determined to be $4.39 per stock option. In December 2008, the Company granted 46,000 options to its directors, financial advisor and Interim CFO at an exercise price of $2.74. The vesting rate is 33% per year for two years and 34% for one year for the options granted to the directors and advisor and at the rate of 20% per year for five years for the options granted to Interim CFO. The fair value of these stock options was determined to be $1.39 and 1.72 per stock option, respectively.
17
The Company estimates the fair value of stock options using the Black-Scholes valuation model, consistent with the provisions of SFAS No. 123(R), "Share-Based Payment" (SFAS No. 123(R)) and SAB No. 107. Key inputs and assumptions used to estimate the fair value of stock options include the grant price of the award, the expected option term, volatility of the Company's stock and the risk-free rate. Estimates of fair value are not intended to predict actual future events or the value ultimately realized by employees who receive equity awards, and subsequent events are not indicative of the reasonableness of the original estimates of fair value made by the Company.
The fair value of each stock option grant was estimated at the date of grant using a Black-Scholes option pricing model. The following table summarized the options granted in 2008.
The assumptions used in the stock option valuation are as follow:
Grant Date | September 8, 2008 | December 13, 2008 | December 13, 2008 |
Option Granted | 321,000 | 31,000 | 15,000 |
Exercise Price | $7.00 | $2.74 | $2.74 |
Expected Life | 5 | 3 | 5 |
Volatility | 75% | 75% | 75% |
Risk free rate | 2.98% | 1.05% | 1.55% |
Dividend yield | 0% | 0% | 0% |
Option value | $4.39 | $1.39 | $1.72 |
A total of $341,974 and $Nil was included in the stock option expense for the six months ended June 30, 2009 and 2008, respectively. As of June 30, 2009 and December 31, 2008, there was approximately $1,132,094 and $1,276,028, respectively, of unrecognized compensation costs related to the non-vested share-based arrangements granted under the Company's stock option plan. Those costs are expected to be recognized over a weighted-average period of approximately 4.11 years and 4.61 years as of June 30, 2009 and December 31, 2008, respectively.
The following table shows the number of stock options with other information as of June 30, 2009:
Exercisable Options | ||||
Weighted Average Exercise Price | Number | Weighted Average Remaining Contractual Life | Weighted Average Exercise Price | Exercise Number |
$ 7.00 | 321,000 | 4.25 years | $ 7.00 | - |
$ 2.74 | 46,000 | 3.11 years | $ 2.74 | - |
$ 6.47 | 367,000 | 4.11 years | $ 6.47 | - |
9. Commitments
The Company was obligated under operating leases requiring minimum rentals as of June 30, 2009 as follows:
(Unaudited) | |||||
Payable within: | |||||
- Remainder of 2009 | $ | 22,800 | |||
- 2010 | 21,696 | ||||
- 2011 | 5,424 | ||||
Total minimum lease payments | $ | 49,920 |
18
10. Financial Instruments
Concentrations of credit risk
Accounts receivable potentially subject the Company to concentrations of credit risk. Management is of the opinion that any risk of accounting loss is significantly reduced due to the financial strength of the Company's major customers. The Company performs ongoing credit evaluations of its customers' financial condition and evaluates management performance based on proceeds collected from projects. Consequently, exposure to credit risk is limited accordingly.
The credit risk on the cash equivalents is limited because the counterparties are banks with high credit ratings.
Currency risk
The Company is exposed to currency risk as the Company's business is carried out in RMB and the Company maintains RMB denominated bank accounts but uses U.S. dollars as its reporting currency. Unfavorable changes in the exchange rate between RMB and U.S. dollars may result in a material effect on accumulated other comprehensive income recorded as a charge in shareholders' equity. The Company does not use derivative instruments to reduce its exposure to foreign currency risk.
In addition, the RMB is not a freely convertible currency. The Company's subsidiaries are allowed to pay outstanding current account obligations in foreign currency but must present the proper documentation to a designated foreign exchange bank. There is no certainty that all future local currency can be repatriated.
11. Economic Dependence
For three months ended June 30, 2009, two customers individually comprised 23% and 18% of revenue, compared with 12% and 16% respectively in 2008. The subsidiaries of the Company’s three major customers accounted for 50% of revenue (2008 – 48%).
For six months ended June 30, 2009, two customers individually comprised 36% and 23% of revenue, compared with 12% and 27% respectively in 2008. The subsidiaries of the Company's three major customers accounted for 34% of revenue (2008 – 40%).
There were three customers that individually comprise 74%, 14% and 12% of account receivable as of June 30, 2009. Three customers individually made up 31%, 24% and 15% of account receivable as of December 31, 2008.
12. Segmented Information
The Company applies the provisions of Statement of Financial Accounting Standards No. 131, "Disclosures about Segments of an Enterprise and Related Information". The Company views its operations and manages its business as one segment: the design, development, implementation and servicing of ERP systems. Factors used to identify the Company's single operating segment include the organizational structure of the Company and the financial information available for evaluation by the chief operating decision-maker in making decisions about how to allocate resources and assess performance. The Company operates predominantly in one geographical area, the PRC.
13. Subsequent event
The Company has evaluated subsequent events for the period from June 30, 2009, the date of these financial statements through August 14, 2009, which represents the date these financial statements are available to be issued. Pursuant to the requirements of SFAS No. 165, there were no events or transactions occurring during this subsequent event report period which require recognition or disclosure in the financial statements.
19
This report contains "Forward-looking" statements within the meaning of the Private Securities Litigation Reform Act of 1995 which provides a "Safe harbor" for these types of statements. To the extent statements in this report involve, without limitation, our expectations for growth, estimates and outlook of future revenue, expenses, profit, cash flow, balance sheet items or any other guidance on future periods, these statements are forward-looking statements. Forward-looking statements are not guarantees of performance. They involve known and unknown risks, uncertainties and assumptions that may cause actual results, levels of activity, performance or achievements to differ materially from any results, level of activity, performance or achievements expressed or implied by any forward-looking statement. We assume no obligation to update any forward-looking statements. The following discussion and analysis of the Company's financial condition and results of operations should be read in conjunction with the Company's financial statements and the related notes included elsewhere in this report and in our annual report on Form 10-K, as amended, for the year ended December 31, 2008 as filed with the Securities and Exchange Commission.
Overview
We are a leading developer and provider of integrated ERP software solutions, development on demand and services in China. Our clientele base includes sophisticated Chinese businesses, especially those operating in China's gas and oil industry. Our solutions and services are designed to (i) enable centralized financial and accounting activity management for large corporations with operations spreading throughout China and internationally; (ii) improve decision efficiency, budget control and cash flow management; and (iii) prevent fraud. While our solutions initially centered upon accounting matters, we have expanded our solutions to address other business operational needs such as planning, statistics, process control, business intelligence, equipment management and other business needs. Our solutions enable our customers to implement company-wide solutions by integrating business activities ranging from a company's headquarters down to its various subsidiaries and other operational units. Our major clients, PetroChina (PetroChina Company Limited and China National Petroleum Corporation, its state-owned parent company) and Sinopec (China Petrochemical Corporation/China Petroleum and Chemical Corporation and Sinopec Group, its state-owned parent company) are large oil and refinery firms formed following the Chinese government's decision to decentralize the oil and gas industry within China. Each company is ranked in the Fortune 500.
Overview of Business Operations in the Second Quarter and First Six Months of 2009
We generate revenue through software systems development, integration and provision of related support services. Our revenue during the fiscal quarter and half year ended June 30, 2009 reflect the seasonality nature of our business. Our revenue has been subject to high seasonality and the revenue recognized in the first six months of the year is usually the smaller in proportion of that for the whole year in most cases, so does in this year, due to our clients’ budgeting and planning schedule. Nevertheless, we continued to experience steady demand for our services from and also to generate revenue through the provision of our services to our oil industrial client base during the three and six months ended June 30, 2009.
The accompanying unaudited consolidated financial statements reflect all normal recurring adjustments which, in the opinion of management, are necessary for a fair statement of the results for the three month and six months ended June 30, 2009. These financial statements have been prepared in accordance with generally accepted accounting principles in the United States. These financial statements should be read in conjunction with the related notes for the period ended June 30, 2009 included elsewhere in this Form-10Q.
Operating Results
The condensed and consolidated financial statements presented in hereinbefore set forth key components of our results of operations for the periods indicated, both in dollars and as a percentage of sales revenue and key components of our revenue for the periods indicated in dollars. The financial data for the three and six months ended June 30, 2009 reflect the operating results of the Company, in comparison with the financial data for the same period in 2008.
Summary of Gross Margin
For The Three Months Ended June 30 | For The Six Months Ended June 30 | |||||||||||||||||||||||||||||||
2009 | 2008 | Change | % | 2009 | 2008 | Change | % | |||||||||||||||||||||||||
(Unaudited) | (Unaudited) | US $ | (Unaudited) | (Unaudited) | US $ | |||||||||||||||||||||||||||
Sales | $ | 1,517,820 | $ | 819,258 | $ | 698,562 | 85 | % | $ | 2,939,906 | $ | 1,377,264 | $ | 1,562,642 | 113 | % | ||||||||||||||||
Cost of Sales | $ | 946,876 | $ | 536,659 | $ | 410,217 | 76 | % | $ | 1,714,918 | $ | 1,030,417 | $ | 684,501 | 66 | % | ||||||||||||||||
notes 3, 4 and 5) | ||||||||||||||||||||||||||||||||
Gross Profit | $ | 570,944 | $ | 282,599 | $ | 288,345 | 102 | % | $ | 1,224,988 | $ | 346,847 | $ | 878,141 | 253 | % | ||||||||||||||||
GM Ratio | 38 | % | 34 | % | 42 | % | 25 | % |
20
Revenue
During the second quarter of 2009, large software system integration and development projects comprised a higher proportion of total revenue. The total value of our revenue was $1,517,820, reflecting a 85% increase from $819,258 in second quarter of 2008. The large increase in revenue in this period reflected the projects and business from the Company’s long term clients is in a steady growing pace. During the first six months of 2009, revenue in total value was $2,939,906, reflecting a 113% increase from $1,377,264 in the first six months of 2008. The significant increase in our sales was due to a large sales contract in the first quarter of 2009 for the equipment in association with the system implementation signed with our major client and new business contract signed by our new Hong Kong branch, in addition to the natural growth with our running projects as well as natural extension of the large system projects completed in the past. Although high seasonality of our revenue pattern remains, the revenue increase in the first half year of 2009 indicates the pattern is improving.
Cost of sales
Our cost of revenue increased by $410,217, or 76%, to $946,876, for the three months ended June 30, 2009, from $536,659 for the same period in 2008. Our cost of revenue for the six months ended June 30, 2009 was $1,714,918, reflecting a 66% increase from $1,030,417 for the same period in 2008. The slower pace of increase in cost as compared to the increase in revenue indicates that our cost has been under control during our rapid business expansion, particularly in the area of employee compensation which comprises a major part of our operating cost.
Gross Profit
For the three months ended June 30, 2009, our gross profit was $570,944, compared to $282,599 for the same period in 2008, reflecting a 102% increase. For the three months ended June 30, 2009 our gross profit as a percentage of revenue increased to 38%, from 34% for the same period in 2008. This 4% increase in gross profit margin was mainly due to tight cost control during the course of faster revenue growth in second quarter of 2009. For the six months ended June 30, 2009, our gross profit was $1,224,988, compared to $346,847 for the same period in 2008, reflecting a 253% increase. For the six months ended June 30, 2009, our gross profit as a percentage of revenue increased to 42%, from 25% for the same period in 2008. This 17% increase in gross profit margin was mainly due to fast revenue growth in the first two quarters of 2009.
Summary of Operating Expenses
In USD
For The Six Months Ended at June 30 | For The Six Months Ended at June 30 | |||||||||||||||||||||||||||||||
Expenses | 2009 | 2008 | Change $ | % | 2009 | 2008 | Change $ | % | ||||||||||||||||||||||||
(Unaudited) | (Unaudited) | (Unaudited) | (Unaudited) | |||||||||||||||||||||||||||||
General and administrative expenses | 89,205 | 66,893 | 22,312 | 33 | % | 249,242 | 80,262 | 168,980 | 211 | % | ||||||||||||||||||||||
Selling expenses | 59,697 | 3,467 | 56,230 | 1622 | % | 121,794 | 6,5322 | 115,262 | 1765 | % | ||||||||||||||||||||||
Professional fees | 86,826 | 28,565 | 58,261 | 204 | % | 170,387 | 61,537 | 108,850 | 177 | % | ||||||||||||||||||||||
Stock based compensation | 170,053 | - | 170,053 | - | 341,974 | - | 341,974 | |||||||||||||||||||||||||
Gain on disposition of property and equipment | - | - | - | - | (732 | ) | (1,374 | ) | 642 | -47 | % | |||||||||||||||||||||
405,781 | 98,925 | 306,856 | 310 | % | 882,665 | 146,957 | 735,708 | 501 | % |
Operating Expenses
Operating expenses consist primarily of general and administrative expenses, selling expenses, professional fees and stock option expense and other expenses incurred in connection with general operations. Administrative expenses consist primarily of compensation and benefits to our general management, finance and administrative staff. Professional fee covers expenses for legal counsel and other advisor fees, audit fees and service charges associated with corporate publicity and investor relations. For the three months ended June 30, 2009, our operating expenses increased to $405,781 from $98,925 for the three month period ended at June 30, 2008, or a 310% increase. For the three months ended June 30, 2009, our general and administrative expenses increased to $89,205, from $66,893 for the three months ended June 30, 2008, or a 33% increase. The mild increase in administrative expenses was mainly attributable to the increases in our administrative business trips and activities. The increase in selling expenses (by 1622%, from the period to period) was [primarily?] due to the overhead allocation to the newly established sales and marketing department. It also included a large increase in the expenses for professional fee for the services relating to our NASDAQ listing and publicity in the U.S., which accounted for 21% of the total operating expenses. In addition, the non-cash expense of stock options issued to our employees is the largest proportion in this category and accounted for 42% of our total operating expenses, which contributed significantly to the total increase of our expenses during this period as compared to 2008 as we did not incur any such expenses during the same period in 2008.
For the six months ended June 30, 2009, our administrative expenses increased to $ 249,242, from $80,262 for the six months ended June 30, 2008, or a 211% increase, from a period to a period due to the bonus payment to the employees for their performance in 2008. Our selling expense increased significantly for the six months ended June 30, 2009 as compared to the same period in 2008 for the same reason stated above. Additionally, the professional fee increased in this period as compared to 2008 for the same reason stated above. Our stock option cost allocated was a new expense item as compared to the same period in 2008.
Summary of Other Income and Expenses
For Three Months Ended at June 30 | For Six Months Ended at June 30 | |||||||||||||||||||||||||||||||
2009 | 2008 | Change $ | % | 2009 | 2008 | Change $ | % | |||||||||||||||||||||||||
(Unaudited) | (Unaudited) | (Unaudited) | (Unaudited) | |||||||||||||||||||||||||||||
Income from operations | 165,163 | 183,674 | (18,511 | ) | -10 | % | 342,323 | 199,890 | 142,433 | 71 | % | |||||||||||||||||||||
- | ||||||||||||||||||||||||||||||||
Other income | (3,772 | ) | - | (3,772 | ) | (3,772 | ) | 537 | (3,909 | ) | -728 | % | ||||||||||||||||||||
Government grant | 14,656 | 14,656 | 160,981 | - | 160,981 | |||||||||||||||||||||||||||
Finance cost | 367 | (205 | ) | 572 | -279 | % | (22 | ) | (419 | ) | 397 | -95 | % | |||||||||||||||||||
Interest income | 24,062 | 28,352 | (4,290 | ) | -15 | % | 63,588 | 42,477 | 21,111 | 50 | % | |||||||||||||||||||||
Income before provision from income taxes | 200,476 | 211,821 | -5 | % | 563,098 | 242,485 | 320,613 | 132 | % | |||||||||||||||||||||||
- | - | |||||||||||||||||||||||||||||||
Provision for current income taxes | 7,188 | - | 7,188 | 12,385 | - | 12,385 | ||||||||||||||||||||||||||
Provision for deferred income taxes | 103,194 | 103,194 | 167,493 | - | 167,493 | |||||||||||||||||||||||||||
- | ||||||||||||||||||||||||||||||||
Net income | 90,094 | 211,821 | (121,727 | ) | -57 | % | 383,220 | 242,485 | 140,735 | 58 | % | |||||||||||||||||||||
- | ||||||||||||||||||||||||||||||||
Other comprehensive (loss) income | 11,343 | 109,511 | (98,168 | ) | -90 | % | (17,717 | ) | 294,028 | (311,745 | ) | -106 | % | |||||||||||||||||||
- | ||||||||||||||||||||||||||||||||
Comprehensive income | 101,437 | 321,332 | (219,895 | ) | -68 | % | 365,503 | 536,513 | (171,010 | ) | -32 | % |
21
Income from Operations
Income from operations was $165,163, for the three months ended June 30, 2009, a 10% decrease from $183,674 for the same period in 2008 because of a large increase in stock option cost amortized and professional fees paid in the second quarter of 2009. For the six months ended June 30, 2009, income from operations was $342,323, or a 71% rise from $199,890 for the same period in 2008 because of high revenue growth in first six months of 2009.
Income Before Provision of Income Tax
As a result of the factors described above, income before tax provision was $200,476 for the three months ended June 30, 2009, decreased slightly, by $11,345, or 5% from $211,821 for the same period in 2008. For the six months ended June 30, 2009, income before tax provision was $563,098, increased significantly, by $320,613, or 132% from $242,485 for the same period in 2008, mainly due to one time government grant to award our IPO success and the increase in income from operations.
Income Tax Expense
Pansoft Jinan is a Foreign Investment Enterprise or FIE engaged in the advanced technology industry which entitles it to a two-year exemption from income tax before 2008 and then started to pay income tax at the rate of 12.5%, 50% cut from the regular income tax rate, due to its FIE tax deduction status granted by PRC tax authorities. Current income tax expense for the three months ended June 30, 2009 was $7,188. The deferred income tax provision for the for the three months ended June 30, 2009 was $103,194 as a result of temporary differences.. No tax provision was required in the same period in 2008. For the six months ended June 30, 2009, current income tax expense was $12,385 and deferred income tax for the future income expense was $103,194....
Net Income and Comprehensive Income
As a result of the factors described above, net income was $90,094 for the three months ended June 30, 2009, a decrease of $121,727, or 57%, from $211,821 for the same period in 2008. Comprehensive income for the three months ended June 30, 2009 was $101,437, a decrease of 68% from $321,332 for the same period in 2008. The decrease was due to a much smaller exchange gain of $11,343 that was included in other comprehensive income in this reporting period because of the relatively flat exchange rate between that US dollar and Chinese RMB,.. In contrast, there was a gain of $109,511 in the same period in 2008. For the six months ended June 30, 2009, net income of $383,220 increased by $140,735, or 58% from $242,485 for the same period in 2008. In the same period, comprehensive income was $365,503, decreased by 32% from $536,513 for the same period in 2008 due to the unfavorable exchange rate move.
Liquidity and Capital Resources
Cash Flows and Working Capital
As of June 30, 2009, we had cash and cash equivalents of $11,330,991.
A large proportion of our cash and cash equivalents was the proceeds from the IPO which was completed in September 2008. Such proceeds have been reserved for potential future strategic transactions, including potential mergers and acquisitions, and investment in developing new businesses or customer bases.. Management believes that the Company's current available working capital should be adequate to sustain its operations at current levels through at least the next twelve months and will provide the Company with the funds necessary to execute its business expansion strategies.
Comparison of Six Months Ended June 30, 2009 and 2008
Net cash used by operating activities totaled $680,069 for the six months ended June 30, 2009, an increase of $569,237 compared to cash used in operations of $110,832 for the six months ended June 30, 2008. This increase resulted primarily from the following changes in operating assets and liabilities:
· | $222,457 decrease in accounts receivable |
· | $876,055 increase in unbilled revenues |
· | $95,454 increase in prepayments, deposits and other receivables |
· | $77,685 increase in inventories |
· | $727,852 decrease in accounts payable and accrued liabilities |
· | $45,750 increase in deferred revenue |
22
Account receivable is the revenue recognized based on percentage completion of the projects and has been billed to the client. The increase in accounts receivable was due to the fact that while we experienced rapid revenue growth and more contracts have been invoiced to the clients though the contract payments from major customers have not picked up to the same level during the first six months in 2009.
Unbilled revenue represents accumulated unbilled amount of revenue recognized, based on the Company's revenue recognition policy. The decrease in unbilled revenue was due to the fact that large proportion of the revenue recognized has been invoiced to our clients and indicated an improvement of our payment collection.
The decrease in prepayments, deposits and other receivables resulted from less deposit or prepayment to kick off projects from our clients due to the alternative contracting procedure.
The decrease in inventories was resulted from the fact that the certain hardware equipment purchased was sold to clients and has been expensed to our cost of sales.
The decrease in accounts payable and accrued liabilities is the result of payments of these liabilities..
Deferred revenue represents advance payments not recognized as revenue . The increase was resulted from the increase of advanced payments for such projects.
Net cash used in investing activities was $159,960 for the six months ended June 30, 2009, compared to net cash used in investing activities of $513,630 for the six months ended June 30, 2008. The cash used in investing activities for the six months ended June 30, 2009 mainly occurred to acquire computer equipment for software development projects.
Cash flows from financing activities amounted to nil for the three months ended June 30, 2009.
The Company’s working capital increased from $14,267,469 as of December 31, 2008 to $14,943,164 as of June 30, 2009.
Total current assets at June 30, 2009 amounted to $15,687,217, a decrease of $32,167 compared to $15,719,384 at December 31, 2008. The slight decrease was mainly due to decrease in the cash and equivalent account.
Current liabilities amounted to $744,053 on June 30, 2009 decreased by $707,862, 49% compared to $1,451,915 at December 31, 2008. This decrease is mainly attributed to a decrease of in accounts payable and accrued liabilities in this period. Accounts payable and accrued liabilities mainly consisted of payables for management bonus, salary accruals and audit fees. The Company paid out most of fiscal 2008 outstanding account payable balance and employee bonus accrual during first half year of 2009. In addition, the Company accrued $340,765 for both current and deferred income taxes,.
The current ratio decreased slightly from 21.64 at June 30, 2008 to 21.08 at June 30, 2009. The Company’s management believes the current ratio indicates strong operating liquidity and expansion investment funds available for Company use.
Seasonality of Our Sales
Historically, the Company's operating results and operating cash flows were subject to seasonal variations. The Company's revenues recognized in the first two quarters are usually lower in proportion of that for the whole year. This is due to the fact that the Company generates revenue primarily through software systems development, integration and provision of related support services provided to large oil businesses in China. It is common for our large clients to sign large contracts in later quarters, especially fourth quarter of a year. We expect this pattern to continue and possibly increase as a result of new market opportunities and new client development.
Inflation
Inflation did not materially affect our business or the results of our operations.
Off-Balance Sheet Arrangements
We did not have any off-balance arrangements.
Markets and Outlook
Looking forward, the management believes that demand for its services will continue to grow as the Company expands its capacity.... As a result of the Company's brand name and reputation in the ERP industry for delivering high quality software services at competitive prices in China, the management believes that it will continue to deliver solid revenue and earnings growth for the remainder of 2009.
23
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Concentrations of credit risk
Accounts receivable potentially subject the Company to concentrations of credit risk. Management is of the opinion that any risk of accounting loss is significantly reduced due to the financial strength of the Company’s major customers. The Company performs ongoing credit evaluations of its customers’ financial condition and evaluates management performance based on proceeds collected from projects. Consequently, exposure to credit risk is accordingly limited.
Currency risk
The Company is exposed to currency risk as the Company's business is carried out in RMB and the Company maintains RMB denominated bank accounts but uses U.S. dollars as its reporting currency. Unfavorable changes in the exchange rate between RMB and U.S. dollars may result in a material effect on accumulated other comprehensive income recorded as a charge in shareholders' equity. The Company does not use derivative instruments to reduce its exposure to foreign currency risk.
In addition, the RMB is not a freely convertible currency. The Company’s subsidiaries are allowed to pay outstanding current account obligations in foreign currency but must present the proper documentation to a designated foreign exchange bank. There is no certainty that all future local currency can be repatriated.
Market risk
Our market risks at June 30, 2009 have not changed materially from those discussed in Item 7A of our Form 10-K for the year ended December 31, 2008 on file with the Securities and Exchange Commission.
Item 4T. Controls and Procedures
Disclosure Controls and Procedures
As of June 30, 2009, the Company carried out an evaluation, under the supervision and with the participation of management, including the Company’s principal executive officer and principal financial officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures. Based on the foregoing, the principal executive officer and the principal financial officer concluded that the Company’s disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) were effective.
Changes in internal control over financial reporting
There have been no changes in our internal controls over financial reporting or in other factors during the second quarter of 2009 that have materially affected, or are reasonably likely to materially affect our internal controls over financial reporting.
24
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
We received net proceeds of $8,392,920 from our IPO in September 2008. As of March 31, 2009, such proceeds were maintained in our cash account and invested in low-risk certificate of bank deposits issued by banks in China. Given the current world-wide financial crisis and economic recession, we have taken a strong precautionary position in our capital spending and investment decisions and therefore have not used our proceeds from the IPO. When the timing and the specific opportunity become feasible and available in the future, we intend to use such proceeds to invest in new projects or acquire new businesses, or otherwise use it for general corporate purposes
Item 6. Exhibits
The following exhibits are filed herewith:
Number | Exhibit | |
31.1 | Certifications pursuant to Rule 13a-14(a) or 15d-14(a) under the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | |
31.2 | Certifications pursuant to Rule 13a-14(a) or 15d-14(a) under the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | |
32.1 | Certifications pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. | |
32.2 | Certifications pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
25
In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
PANSOFT COMPANY LIMITED | ||
August 14, 2009 | By: | /s/ Allen Zhang |
Allen Zhang | ||
Interim Chief Financial Officer | ||
(Principal Financial and Accounting Officer) |
26