U. S. 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 quarterly period ended September 30, 2011
[ ] | TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from _____ to _____
Commission File No. 0-54259
CHINA SURE WATER (USA) INC.
(Name of Registrant in its Charter)
New York | 11-3137508 |
(State or Other Jurisdiction of incorporation or organization) | (I.R.S. Employer I.D. No.) |
14 Wall Street, 20th Floor, New York, NY 10005
(Address of Principal Executive Offices)
Issuer's Telephone Number: 646-783-2638
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Sections 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 subjected to such filing requirements for the past 90 days.
Yes X | No X |
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.) Yes X No _____
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 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 filer Smaller reporting company X
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act) Yes ___ No X
APPLICABLE ONLY TO CORPORATE ISSUERS: Indicate the number of shares outstanding of each of the Registrant's classes of common stock, as of the latest practicable date:
November 14, 2011
Common Voting Stock: 20,777,200
CHINA SURE WATER (USA) INC.
QUARTERLY REPORT ON FORM 10Q
FOR THE FISCAL QUARTER ENDED SEPTEMBER 30, 2011
TABLE OF CONTENTS
Page No | ||
Part I | Financial Information | |
Item 1. | Financial Statements (unaudited): | |
Consolidated Balance Sheets – September 30, 2011 (unaudited) and December 31, 2010 | 2 | |
Consolidated Statements of Operations and Other Comprehensive Income (Unaudited) for the Three and Nine Months Ended September 30, 2011 and 2010 | 3 | |
Consolidated Statements of Cash Flows (Unaudited) – for the Nine Months Ended September 30, 2011 and 2010 | 4 | |
Notes to Consolidated Financial Statements (Unaudited) | 5 | |
Item 2. | Management’s Discussion and Analysis of Financial Condition and Results of Operations | 15 |
Item 3 | Quantitative and Qualitative Disclosures about Market Risk | 19 |
Item 4. | Controls and Procedures | 19 |
Part II | Other Information | |
Item 1. | Legal Proceedings | 19 |
Items 1A. | Risk Factors | 20 |
Item 2. | Unregistered Sales of Equity Securities and Use of Proceeds | 20 |
Item 3. | Defaults upon Senior Securities | 20 |
Item 4. | Reserved | 20 |
Item 5. | Other Information | 20 |
Item 6. | Exhibits | 20 |
1
CONSOLIDATED BALANCE SHEETS | ||||||||
September 30, | December 31, | |||||||
2011 | 2010 | |||||||
(Unaudited) | ||||||||
ASSETS | ||||||||
CURRENT ASSETS: | ||||||||
Cash | $ | 13,039,742 | $ | 5,072,181 | ||||
Accounts receivable | - | 809,168 | ||||||
Inventories | 577,152 | 524,477 | ||||||
Prepaid rent - current portion | 187,440 | 182,040 | ||||||
Other prepaid expenses | 216,222 | - | ||||||
Investment deposit | - | 910,200 | ||||||
Deferred tax assets | 153,023 | 143,468 | ||||||
TOTAL CURRENT ASSETS | 14,173,579 | 7,641,534 | ||||||
Property and equipment, net of accumulated depreciation | 1,063,747 | 1,101,286 | ||||||
Prepaid rent | 421,740 | 546,120 | ||||||
TOTAL ASSETS | $ | 15,659,066 | $ | 9,288,940 | ||||
LIABILITIES AND STOCKHOLDERS' EQUITY | ||||||||
CURRENT LIABILITIES: | ||||||||
Taxes payable | $ | 1,030,221 | $ | 624,311 | ||||
Accrued expenses | 401,062 | 313,576 | ||||||
Due to related party | 74,195 | - | ||||||
Convertible notes | 606,566 | - | ||||||
TOTAL CURRENT LIABILITIES | 2,112,044 | 937,887 | ||||||
STOCKHOLDERS' EQUITY | ||||||||
Common stock, par value $0.001, 400,000,000 shares authorized, 20,777,200 and 20,127,200 shares issued and outstanding at September 30, 2011 and December 31, 2010 | 20,777 | 20,127 | ||||||
Additional paid-in capital | 629,321 | 440,530 | ||||||
Retained earnings | 12,248,156 | 7,487,498 | ||||||
Other comprehensive income | 648,768 | 402,898 | ||||||
TOTAL STOCKHOLDERS' EQUITY | 13,547,022 | 8,351,053 | ||||||
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY | $ | 15,659,066 | $ | 9,288,940 | ||||
See Notes to the Consolidated Financial Statements |
2
CHINA SURE WATER (USA) INC. |
CONSOLIDATED STATEMENTS OF OPERATIONS AND OTHER COMPREHENSIVE INCOME |
(Unaudited) |
For the three months ended September 30, | For the nine months ended September 30, | |||||||||||||||
2011 | 2010 | 2011 | 2010 | |||||||||||||
Sales | $ | 5,358,867 | $ | 6,370,701 | $ | 11,555,418 | $ | 9,839,161 | ||||||||
Cost of goods sold | 2,163,832 | 2,902,024 | 4,534,579 | 4,825,255 | ||||||||||||
Gross Profit | 3,195,035 | 3,468,677 | 7,020,839 | 5,013,906 | ||||||||||||
COSTS AND EXPENSES: | ||||||||||||||||
Selling expenses | 3,434 | 6,652 | 23,217 | 18,477 | ||||||||||||
General and administrative expenses | 177,479 | 172,248 | 500,704 | 384,250 | ||||||||||||
Total cost and expenses | 180,913 | 178,900 | 523,921 | 402,727 | ||||||||||||
INCOME FROM OPERATIONS | 3,014,122 | 3,289,777 | 6,496,918 | 4,611,179 | ||||||||||||
Other expenses | ||||||||||||||||
Interest expense, net of interest income | (81,639 | ) | - | (194,736 | ) | - | ||||||||||
INCOME BEFORE INCOME TAXES | 2,932,483 | 3,289,777 | 6,302,182 | 4,611,179 | ||||||||||||
Income tax expense | 725,467 | 767,116 | 1,541,524 | 1,060,763 | ||||||||||||
NET INCOME | 2,207,016 | 2,522,661 | 4,760,658 | 3,550,416 | ||||||||||||
OTHER COMPREHENSIVE INCOME: | ||||||||||||||||
Foreign currency translation adjustment | 84,155 | 110,483 | 245,870 | 127,883 | ||||||||||||
COMPREHENSIVE INCOME | $ | 2,291,171 | $ | 2,633,144 | $ | 5,006,528 | $ | 3,678,299 | ||||||||
Net income per share: | ||||||||||||||||
Basic and diluted | $ | 0.11 | $ | 0.13 | $ | 0.23 | $ | 0.18 | ||||||||
Weighted average shares outstanding: | ||||||||||||||||
Basic and diluted | 20,777,200 | 20,127,200 | 20,636,724 | 20,127,200 |
See Notes to the Consolidated Financial Statements
3
CONSOLIDATED STATEMENTS OF CASH FLOWS | ||||||||
(Unaudited) | ||||||||
For the nine months ended September 30, | ||||||||
2011 | 2010 | |||||||
OPERATING ACTIVITIES: | ||||||||
Net Income | $ | 4,760,658 | $ | 3,550,416 | ||||
Adjustments to reconcile net income to net cash provided by (used in) operating activities: | ||||||||
Depreciation | 69,084 | 44,052 | ||||||
Deferred tax assets | (9,555 | ) | (852 | ) | ||||
Amortization of prepaid rent | 138,330 | 134,730 | ||||||
Amortization of discount on convertible notes | 152,020 | - | ||||||
Amortization of deferred financing costs | 16,892 | - | ||||||
Changes in operating assets and liabilities | ||||||||
Accounts receivable | 819,836 | (622,752 | ) | |||||
Inventories | (36,523 | ) | (263,912 | ) | ||||
Prepaid expenses | (216,222 | ) | (898,200 | ) | ||||
Taxes payable | 381,191 | 738,131 | ||||||
Accrued expenses | 77,131 | (143,523 | ) | |||||
NET CASH PROVIDED BY OPERATING ACTIVITIES | 6,152,842 | 2,538,090 | ||||||
INVESTING ACTIVITIES: | ||||||||
Investment deposit refunded | 922,200 | - | ||||||
NET CASH PROVIDED BY INVESTING ACTIVITIES | 922,200 | - | ||||||
FINANCING ACTIVITIES: | ||||||||
Loan from related party | 73,008 | 403,024 | ||||||
Proceeds from issuance of common stock and convertible notes | 630,000 | - | ||||||
Loan repayment from related party | - | (588,400 | ) | |||||
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES | 703,008 | (185,376 | ) | |||||
EFFECT OF EXCHANGE RATES ON CASH | 189,511 | 113,238 | ||||||
INCREASE IN CASH | 7,967,561 | 2,465,952 | ||||||
CASH - BEGINNING OF PERIOD | 5,072,181 | 2,431,373 | ||||||
CASH - END OF PERIOD | $ | 13,039,742 | $ | 4,897,325 | ||||
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION | ||||||||
Cash paid for income taxes | $ | 1,291,683 | $ | 721,603 | ||||
Cash paid for interest expenses | $ | - | $ | - | ||||
See Notes to the Consolidated Financial Statements |
4
CHINA SURE WATER (USA) INC.
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 2011
(Unaudited)
1 BASIS OF PRESENTATION
The accompanying unaudited financial statements have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information and pursuant to the requirements for reporting on Form 10-Q. Accordingly, they do not include all the information and footnotes required by accounting principles generally accepted in the United States of America for annual financial statements. However, the information included in these interim financial statements reflects all adjustments (consisting solely of normal recurring adjustments) which are, in the opinion of management, necessary for the fair presentation of the financial position and the results of operations. Results shown for interim periods are not necessarily indicative of the results to be obtained for a full year. The balance sheet as of December 31, 2010 was derived from the audited financial statements included in the Company’s registration statement on Form 10. These interim financial statements should be read in conjunction with that report. For further information, refer to the financial statements and footnotes thereto included in the Company’s registration statement on Form 10.
The accompanying financial statements are prepared in accordance with accounting principles generally accepted in the United States of America (“US GAAP”) and are presented in U.S. Dollars.
The financial statements include the financial statements of the Company and its wholly-owned subsidiaries. All significant inter-company balances and transactions have been eliminated in consolidation.
2 BUSINESS DESCRIPTION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
China Sure Water (USA) Inc. (the “Company”) is a U.S. holding company incorporated in New York. The Company, through its wholly owned subsidiary in China, is engaged in the production and marketing of water softeners for residential and industrial use in the People’s Republic of China (“PRC” or “China”)
China Sure Water (USA) Inc. (“Sure Delaware”) was incorporated in the State of Delaware on February 25, 2008. Sure Delaware had no operations since its inception. Sure Delaware owned 60% of Sure (China) Water Science and Technology Co., Ltd. (“Sure China”), and Sure Delaware’s wholly-owned subsidiary, Sure Water Quality Control Technology (China) Inc. Limited, owns the remaining 40% of Sure China.
Sure China was incorporated under the laws of the Peoples Republic of China (“PRC”) as a limited liability company on March 23, 2007. In July 2008, through a recapitalization transaction which was accomplished as an exchange of shares between Sure China and Sure Delaware, Sure China became a subsidiary of Sure Delaware. Retroactive effect to the capitalization has been given in the accompanying financial statements.
5
CHINA SURE WATER (USA) INC.
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 2011
(Unaudited)
After its previous business of developing biometric security devices failed in 2005, the Company (then known as “Biometrics 2000 Corporation”) entered into bankruptcy proceedings. In 2010 the bankruptcy court approved a plan to reorganize the company in connection with a merger with Sure Delaware.
On October 5, 2010, to complete the reorganization, Sure Delaware merged into the Company and shares representing 85% of the issued and outstanding shares of the Company were issued to the shareholders of Sure Delaware. The Company accounts for this transaction as a reverse merger pursuant to which the New York corporation will be the surviving corporation for legal purposes and Sure Delaware will be the surviving corporation for financial reporting purposes. After the merger, the name of the Company was changed to China Sure Water (USA) Inc.
On June 3, 2011, The company formed SURE (Shihezi) Water Co., Ltd.. (“Shihezi”) in Shihezi, Xinjiang Province, China, as wholly owned foreign entity (WOFE). Shihezi is planning to engage in the distribution and marketing of water softeners, water filtration and purification equipment for both commercial and residential use in Xinjiang Province, China. The company invested USD 310,000 (about 2,000,000 RMB) in cash as initial registered capital. The life of the WOFE is 50 years.
Use of estimates in the preparation of financial statements
The preparation of financial statements in conformity with generally accepted accounting principles 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 net revenue and expenses during each reporting period. Actual results could differ from those estimates.
Revenue recognition
Revenue is recognized at the date of shipment to customers when a formal arrangement exists, the price is fixed or determinable, the delivery is completed, no other significant obligations of the Company exist and collectability is reasonably assured. Payments received before all of the relevant criteria for revenue recognition are satisfied are recorded as advances from customers.
The Company’s sales agreements contain clauses that grant customers the right to return or exchange products within a year. The Company accounts for sales under the guidance of FASB ASC 605-15-25, “Revenue Recognition When Right of Return Exists”. There have been no returns from customers since inception.
Shipping and handling costs
In accordance with ASC 605-45-45 “Accounting for Shipping and Handling Fees and Costs”, all amounts billed to customers in a sales transaction for shipping and handling are classified as revenue.
6
CHINA SURE WATER (USA) INC.
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 2011
(Unaudited)
Cash
The Company maintains cash with financial institutions in the People’s Republic of China (“PRC”) which are not insured or otherwise protected. Should any of these institutions holding the Company’s cash become insolvent, or if the Company is unable to withdraw funds for any reason, the Company could lose the cash on deposit with the institution. Cash and cash equivalents include cash on hand and cash in time deposits, certificates of deposit and all highly liquid debt instruments with original maturities of three months or less.
Accounts Receivable
Accounts receivables represent customer accounts receivables. The allowance for doubtful accounts is based on a combination of current sales, historical charge-offs and specific accounts identified as high risk. Uncollectible accounts receivable are charged against the allowance for doubtful accounts when all reasonable efforts to collect the amounts due have been exhausted. Such allowances, if any, would be recorded in the period the impairment is identified. There was no allowance for doubtful accounts as of September 30, 2011 or December 31, 2010.
Inventories
Inventories consist of raw materials and finished goods and are stated at the lower of cost, determined using the weighted average cost method, or net realizable value.
Property and equipment
Property and equipment are recorded at cost. Depreciation is provided in amounts sufficient to amortize the cost of the related assets over their useful lives using the straight-line method for financial reporting purposes.
Maintenance, repairs and minor renewals are charged to expense when incurred. Replacements and major renewals are capitalized.
Warranty
The Company offers a limited three-year warranty to customers and accounts for warranty reserves according to ASC 450-20-25 which states that, because of the uncertainty surrounding claims that may be made under warranties, warranty obligations fall within the definition of a contingency. Losses from warranty obligations shall be accrued when the conditions in paragraph 450-20-25-2 are met. The Company has not historically had any warranty claims nor has been informed of any problems from its customers, and therefore has no reasonable basis to estimate any potential liability and there has been no information available prior to the financial statements being issued that a liability had been incurred at the date of the financial statements. Accordingly, no reserve for warranty claims has been recorded as of September 30, 2011 or December 31, 2010.
7
CHINA SURE WATER (USA) INC.
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 2011
(Unaudited)
Impairment of long-lived assets
The Company accounts for the impairment of long-lived assets in accordance with the guidance of FASB ASC 360-10-20. Long-lived assets are reviewed for impairment when circumstances indicate the carrying value of an asset may not be recoverable. For assets that are to be held and used, impairment is recognized when the estimated undiscounted cash flows associated with the asset or group of assets is less than their carrying value. If impairment exists, an adjustment is made to write the asset down to its fair value, and a loss is recorded as the difference between the carrying value and fair value. Fair values are determined based on quoted market values, discounted cash flows or internal and external appraisals, as applicable. Assets to be disposed of are carried at the lower of carrying value or estimated net realizable value. Based on its review, the Company believes that, as of September 30, 2011 and December 31, 2010, there was no impairment of its long-lived assets.
Deferred income taxes
The Company accounts for income taxes in accordance with FASB ASC 740, “Income Taxes”, which requires that deferred tax assets and liabilities be recognized for future tax consequences attributable to differences between financial statement carrying amounts of existing assets and liabilities and their respective tax bases. In addition, ASC 740 requires recognition of future tax benefits, such as carry forwards, to the extent that realization of such benefits is more likely than not and that a valuation allowance be provided when it is more likely than not that some portion of the deferred tax asset will not be realized. Management reviews this valuation allowance periodically and makes adjustments as warranted.
Currency translation
Since the Company operates primarily in the PRC, the Company’s functional currency is the Chinese Yuan (”RMB”). Revenue and expense accounts are translated at the average rates during the period, and balance sheet items are translated at year-end rates. Translation adjustments arising from the use of differing exchange rates from period to period are included as a separate component of shareholders’ equity. Gains and losses from foreign currency transactions are recognized in current operations.
The RMB is not freely convertible into foreign currency and all foreign exchange transactions must take place through authorized institutions. No representation is made that the RMB amounts could have been, or could be, converted into USD at the rates used in translation.
Other comprehensive income
Comprehensive income is defined to include all changes in equity except those resulting from investments by owners and distributions to owners. Among other disclosures, all items that are required to be recognized under current accounting standards as components of comprehensive income are required to be reported in a financial statement that is presented with the same prominence as other financial statements. Comprehensive income includes net income and the foreign currency translation gain, net of tax.
8
CHINA SURE WATER (USA) INC.
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 2011
(Unaudited)
Fair value of financial instruments
FASB ASC 825, “Financial Instruments”, requires that the Company disclose estimated fair values of financial instruments.
The Company’s financial instruments primarily consist of cash, accounts receivables, prepaid expenses, accounts payable, accrued expenses and related party borrowings.
As of the balance sheet dates, the estimated fair values of financial instruments were not materially different from their carrying values as presented on the balance sheet. This is attributed to the short maturities of the instruments and that interest rates on the borrowings approximate those that would have been available for loans of similar remaining maturity and risk profile at the respective balance sheet dates.
4 INVENTORIES
Inventories consist of the following:
September 30, | December 31, | |||||||
2011 | 2010 | |||||||
(Unaudited) | ||||||||
Raw materials | $ | 367,278 | $ | 416,038 | ||||
Finished goods | 228,056 | 108,439 | ||||||
$ | 577,152 | $ | 524,477 |
5 PREPAID RENT
In January 2010, the Company entered into a five year lease agreement with an unrelated third party providing for annual rent of RMB1,200,000 (approximately $176,000). The Company paid RMB6,000,000(approximately $880,000) representing five years rent in advance in April, 2010. Prepaid rent is being amortized on the straight line basis over the life of the lease.
6 OTHER PREPAID EXPENSES
As of September 30, 2011 and December 31, 2010, the prepaid expenses were $216,222 which include miscellaneous prepaid expenses of $213,114 and unamortized deferred financing costs of $3,108 and $nil respectively.
7 INVESTMENT DEPOSIT
In October 2010, the Company signed a letter of intent for a potential acquisition and made a refundable deposit to the seller of RMB6,000,000 (approximately $910,200). The Company decided not to make this acquisition. The deposit of RMB6,000,000 was fully refunded in September 2011.
9
CHINA SURE WATER (USA) INC.
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 2011
(Unaudited)
8 PROPERTY AND EQUIPMENT
A summary of property and equipment and the estimated lives used in the computation of depreciation and amortization is as follows:
September 30, | December 31, | ||||||||
2011 | 2010 | Life | |||||||
(Unaudited) | |||||||||
Machinery and equipment | $ | 1,343,320 | $ | 1,304,620 | 15 years | ||||
Vehicle | 23,430 | 22,755 | 10 years | ||||||
Office equipment | 8,560 | 8,313 | 5 years | ||||||
1,375,310 | 1,335,688 | ||||||||
Less: accumulated depreciation | (311,563 | ) | (234,402 | ) | |||||
$ | 1,063,747 | $ | 1,101,286 |
Transactions
Nine months ended September 30, | ||||||||
2011 | 2010 | |||||||
(Unaudited) | (Unaudited) | |||||||
Rent (1) | $ | 80,693 | $ | 77,228 | ||||
Social insurance (2) | - | 10,326 | ||||||
Purchases (3) | - | 318,690 | ||||||
Total | $ | 80,693 | $ | 406,243 |
(1) | The Company rented its administrative office from its majority shareholder and officer. |
(2) | A company owned by the majority shareholder of the Company paid expenses on behalf of the Company. |
(3) | The Company purchased raw materials and finished goods from a company which through August, 2010 was owned by the majority shareholder of the Company. |
Balances
Due to related party consist of the following:
September 30, | December 31, | |||||||
2011 | 2010 | |||||||
(Unaudited) | ||||||||
Due to the majority shareholder of the Company | $ | 74,195 | $ | - |
These amounts are non-interest bearing and due on demand.
10
CHINA SURE WATER (USA) INC.
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 2011
(Unaudited)
10 CONVERTIBLE NOTES
On March 1, 2011, the Company received gross proceeds of $650,000 from the sale of 650,000 shares of common stock and convertible notes (the “Note”) to various investors. The Notes bears interest at fifteen percent (15%) per annum payable quarterly. Principal is payable on December 1, 2011. If the Company completes a debt or equity financing for gross proceeds of $5 million or more, each Note holder shall have the right, at his option, at any time on or before the satisfaction of the Notes, to convert the principal amount of the Notes and interest accrued through the date of conversion into the securities issued in the Financing at a twenty-five percent (25%) discount to the offering price.
Total financing costs directly associated with the issuance of the common stock and notes were $20,000, including $6,014 associated with the issuance of common stock and $13,986 associated with the issuance of the Notes. Financing costs associated with the issuance of common stock are recorded as the offset against the additional paid in capital. Financing costs associated with the issuance of the Note are recorded as deferred financing costs in the balance sheet at grant date. The Company is amortizing these financing costs over the life of the Notes. The amortization for the nine months ended September 30, 2011 was $10,878
The Company allocated the total proceeds from the financing between the common stock and the Notes according to their estimated fair values as of the issuance date. The initial value assigned to the Notes was $454,545. The debt discount resulting from the allocation of the proceeds to the value of the common stock issued is being amortized over the life of the Notes as additional interest expense. The amortization for the nine months ended September 30, 2011 was $152,020. Convertible notes outstanding as of September 30, 2011 are as follows:
Convertible notes issued | $ | 650,000 | ||
Less: debt discount | (43,434 | ) | ||
Balance - September 30, 2011 | $ | 606,566 |
Interest is accrued on the principal amount at 15% per annum. For the nine months ended September 30, 2011, the Company accrued interest of $56,875 on the convertible notes and none of the accrued interest was paid as of September 30, 2011.
11 ACCRUED EXPENSES
Accrued expenses consist of the following: |
September 30, | December 31, | |||||||
2011 | 2010 | |||||||
(Unaudited) | ||||||||
Rent | $ | 168,696 | $ | - | ||||
Professional fees | 12,059 | 63,832 | ||||||
Bonus | 12,496 | 57,949 | ||||||
Sales commission | 150,936 | 191,795 | ||||||
Interest | 56,875 | - | ||||||
$ | 401,062 | $ | 313,576 |
11
CHINA SURE WATER (USA) INC.
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 2011
(Unaudited)
12 TAXES
Corporation income tax
The Company is governed by the Income Tax Law of the People’s Republic of China concerning privately run and foreign invested enterprises, which are generally subject to tax at a statutory rate of 25% on income reported in the statutory financial statements after appropriate tax adjustments.
The reconciliation of income tax expense at the U.S. statutory rate of 35% for the nine months ended September 30, 2011 and 2010 to the Company’s effective tax rate is as follows:
For the nine months ended September 30, | ||||||||
2011 | 2010 | |||||||
(Unaudited) | (Unaudited) | |||||||
U.S. statutory rate at 35% | $ | 2,205,764 | $ | 1,613,913 | ||||
Tax rate difference between China and U.S. | (655,800 | ) | (461,118 | ) | ||||
Permanent difference related to GAAP and Chinese tax law | (97,976 | ) | (92,032 | ) | ||||
Change in valuation allowance | 89,536 | - | ||||||
Effective tax rate | $ | 1,541,524 | $ | 1,060,763 |
The provisions for income taxes are summarized as follows:
For the nine months ended September 30 | ||||||||
2011 | 2010 | |||||||
(Unaudited) | (Unaudited) | |||||||
Current - foreign | $ | 1,551,079 | $ | 1,061,615 | ||||
Deferred - foreign | (9,555 | ) | (852 | ) | ||||
Deferred - United States | (89,536 | ) | - | |||||
Valuation allowance - United States | 89,536 | - | ||||||
$ | 1,541,524 | $ | 1,060,763 |
Value added tax (“VAT”)
Enterprises or individuals who sell commodities, engage in repair and maintenance or import or export goods in the PRC are subject to a value added tax in accordance with the PRC laws. The value added tax standard rate is 17% of the gross sales price. A credit is available whereby VAT paid on the purchases of semi-finished products or raw materials used in the production of the Company’s finished products can be used to offset the VAT due on the sales of the finished products.
12
CHINA SURE WATER (USA) INC.
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 2011
(Unaudited)
13 CONCENTRATIONS
(a) | Major customer |
Sales to six major customers for the nine months ended September 30, 2011 were 18%, 17%, 14%, 12%, 12% and 11%. Sales to four major customers for the nine months ended September 30, 2010 were 26%, 17%, 15%, and 12%.
Sales to six customers for the three months ended September 30, 2011 were 19%, 16%, 16%, 13%, 11% and 11%. Sales to four major customers for the four months ended September 30, 2010 were 30%, 14%, 13% and 13%.
(b) | Major vendors |
The Company purchased 100% and 99% of its raw materials from one supplier for the nine months ended September 30, 2011 and 2010, respectively.
The Company purchased 100% of its raw materials from one supplier for the three months ended September 30, 2011 and 2010, respectively.
14 COMMITMENTS AND CONTINGENCIES
The Company is committed under operating leases with its principal shareholder which provide for rentals of approximately $26,898 through December 31, 2011. Rental expense charged to operations for the nine months ended September 30, 2011 and 2010 aggregated approximately $219,023 and $342,008, respectively, including approximately $81,000 and $77,000, respectively, paid to the Company’s principal shareholder.
See note 5 relating to prepaid rent.
15 VULNERABILITY DUE TO OPERATIONS IN PRC
The Company’s operations may be adversely affected by significant political, economic and social uncertainties in the PRC. Although the PRC government has been pursuing economic reform policies for more than twenty years, no assurance can be given that the PRC government will continue to pursue such policies or that such policies may not be significantly altered, especially in the event of a change in leadership, social or political disruption or unforeseen circumstances affecting the PRCs political, economic and social conditions. There is also no guarantee that the PRC government’s pursuit of economic reforms will be consistent or effective.
Substantially all of the Company’s business is transacted in RMB, which is not freely convertible. The People’s Bank of China or other banks are authorized to buy and sell foreign currencies at the exchange rates quoted by the People’s Bank of China. Approval of foreign currency payments by the People’s Bank of China or other institutions requires submitting a payment application together with suppliers’ invoices, shipping documents and signed contracts.
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CHINA SURE WATER (USA) INC.
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 2011
(Unaudited)
15 VULNERABILITY DUE TO OPERATIONS IN PRC (Continued)
Since the Company has its primary operations in the PRC, its revenues will be settled in RMB, not U.S. Dollars. Due to certain restrictions on currency exchanges that exist in the PRC, the Company’s ability to use revenue generated in RMB to pay any dividend payments to its shareholders outside of China may be limited.
In September 2006, PRC changed the laws regarding transfer of equity in PRC companies in exchange for equity in non-PRC companies. Approvals and registrations for such transfers are required and penalties may be imposed if the requirements are not met.
16 SUBSEQUENT EVENTS
The Company has evaluated events after the date of these financial statements through the date these financial statements were issued. There were no other material subsequent events as of that date.
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ITEM. 2. | MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |
In addition to historical information, this Quarterly Report contains forward-looking statements, which are generally identifiable by use of the words “believes,” “expects,” “intends,” “anticipates,” “plans to,” “estimates,” “projects,” or similar expressions. These forward-looking statements represent Management’s belief as to the future of China Sure Water (USA) Inc. Whether those beliefs become reality will depend on many factors that are not under Management’s control. Many risks and uncertainties exist that could cause actual results to differ materially from those reflected in these forward-looking statements. Factors that might cause such a difference include, but are not limited to, those discussed in Section 1A of our Registration Statement on Form 10, entitled “Risk Factors.” Readers are cautioned not to place undue reliance on these forward-looking statements. We undertake no obligation to revise or publicly release the results of any revision to these forward-looking statements.
China Sure Water (USA) Inc., a Delaware corporation, was merged into Biometrics 2000 Corporation, a New York corporation, on October 5, 2010, at which time the name of the New York corporation was changed to China Sure Water (USA) Inc. The transaction was a reverse merger for accounting purposes. As a result, when we file financial statements for periods ending after October 5, 2010, the historical financial statements of the Delaware corporation are submitted as the historical financial statements of the New York corporation.
In these historic financial statements, the financial results of Sure (China) Water Science and Technology Co., Ltd. (“Sure China”), its subsidiary, are consolidated with those of the New York corporation and those of Sure Water Quality Control Technology (China) Inc. Limited (“Sure Water’), a wholly owned Hong Kong subsidiary of the New York corporation that is the intermediate holder of 40% of Sure China’s stock.
Results of Operations
Our revenue is generated from sales of water softeners and parts. Revenue for the Company decreased to $5,358,867 during the three months ended September 30, 2011, a decrease of 16% from the $6,370,701 in sales recorded during the three months ended September 30, 2010. The decrease in revenue was primarily due to the slower pace of new home construction in the third quarter of 2011 compared to the third quarter of 2010. Revenue increased by 17% during the nine months ended September 30, 2011, from $9,839,161 recorded during the first nine months of 2010 to $11,555,418 during the first nine months of 2011. 84% of our sales in the nine months of 2011 were made to six distributors; four of the six are same distributors who were the source of the majority of our 2010 revenue. The increase in revenue in the first nine months of 2011 was primarily due to increased sales volume of new models that carry higher sales prices.
Our cost of goods sold includes the direct costs of our raw materials as well as the cost of labor and overhead. Our cost of goods sold was $2,163,832 for the three months ended September 30, 2011, yielding a gross profit of $3,195,035 or 59.6% of sales. Our cost of goods sold for the nine months ended September 30, 2011 was $4,534,579, yielding a gross profit of $7,020,839 or 60.8% of sales. During the three months and nine months ended September 30, 2010 our gross margin was only 54.4% and 51.0%, respectively. The improvement in gross margin in 2011 has been primarily attributable to two factors:
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· | During 2011, we introduced a new, more compact machine, in which the machine body and the salt container are combined. We are selling this product with a higher profit margin than the machines we sold in 2010. |
· | Direct sales at retail prices from our showrooms in Beijing are beginning to contribute to our revenue, providing a higher margin than the wholesale prices we charge to distributors. If we are successful in expanding our industrial customer base, a market that we have targeted for focus in 2012, the portion of our revenues derived from direct sales should continue to grow. |
Our costs and expenses remain low relative to revenue, equaling 3.4% of sales during three months and 4.5% of sales during the nine months ended September 30, 2011. In both periods, our operational efficiency diminished somewhat compared to 2010, when our costs and expenses equaled 2.8% and 4.1% of sales during the three and nine months ended September 30, 2010. The primary factor driving an increase in general and administrative costs has been the acquisition in October 2010 of our operating company by a U.S. public reporting company, which entails accounting, legal and other expenses that we did not have in 2010. Starting from the third quarter, we start to develop our market in Xinjiang province so that selling expenses increased in the three and nine months ended September 30, 2011 than the same periods ended September 30, 2010. On the other hand, we incur relatively low selling costs by utilizing a small number of large distributors as the principal component of our marketing network. Moreover, even as we have expanded our direct marketing to consumers in Beijing, our marketing department carries only a modest staff. Thus sales have increased faster than our selling expenses. As we expand into Xinjiang Province, we expect selling expenses to increase, but will endeavor to maintain the efficiency of our selling efforts.
Due to the marked increase in gross margin, our income from operations decreased by only 8% from the third quarter of 2010 to the third quarter of 2011, despite the 16% decrease in sales. Likewise, the 17% increase in sales from from the nine months period ended September 30, 2010 to the nine months period ended September 30, 2011 yielded a 41% increase in operating income, again due to the increase in gross margin. The improvement in income from operations was partially offset, however, by the interest expense that we incurred in 2011: $81,639 in the three months and $194,736 in the nine months ended September 30, 2011. The interest expense arose from a private placement that we completed on March 1, 2011, in which we sold a 15% $650,000 9-month note and 650,000 shares of common stock for gross proceeds of $650,000. During the period from March 1, 2011 to September 30, 2011, we recorded interest of $56,875 that accrued on the note, but also recorded $10,878 in amortization of the financing costs we incurred in selling the notes, as well as $152,020 amortization of the debt discount we recorded as a result of selling the note for less than its principal amount. The two amortizations were included in the category of interest expense on our Statements of Operations, bringing to $219,773 the expense recorded during the nine months ended September 30, 2011 as a result of the private placement. We will record similar expenses in the next quarter, as the notes will remain outstanding until December 2011.
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After accrual of the 25% Chinese corporate income tax, net income was $2,207,016 ($.11 per share) for the three months ended September 30, 2011, compared to $2,522,661 ($.13 per share) earned in the three months ended September 30, 2010. Net income was $4,760,658 ($.23) for the nine months ended September 30, 2011, compared to $3,550,416 ($.18) earned in the nine months ended September 30, 2010. Net income as a percentage of sales was 41.2% and 41.2% during the three and nine months ended September 30, 2011 as compared to 39.6% and 36.1% during the three and nine months ended September 30, 2010. This increased profitability is a reflection of improved gross margin discussed above.
Our business operates entirely in Chinese Renminbi, but we report our results in our SEC filings in U.S. Dollars. The conversion of our accounts from RMB to Dollars results in translation adjustments. While our net income is included in the retained earnings on our balance sheet; the translation adjustments are included in a line item on our balance sheet labeled “accumulated other comprehensive income,” since they are more reflective of changes in the relative values of U.S. and Chinese currencies than of the success of our business. During the three and nine months ended September 30, 2011, the effect of converting our financial results from RMB to U.S. Dollars was to increase our accumulated other comprehensive income by $84,155 and $245,870, respectively. During the three and nine months ended September 30, 2010, the effect of converting our financial results from RMB to U.S. Dollars was to increase our accumulated other comprehensive income by $110,483 and $127,883.
Liquidity and Capital Resources
To date the development of our company has been funded by the contributions that our founder made to the capital of the company, as well as working capital loans that he makes when needed. During the past three years, growth has been funded by cash flow from operations: $322,752 in 2008, $2,525,076 in 2009, $3,706,509 in 2010, and $6,152,842 in the first nine months of 2011. As a result of this combination, at September 30, 2011 we had $12,061,535 in working capital, including cash on hand of $13,039,742. At the same time, we had no long-term liabilities and a modest amount of debt. We are confident, therefore, of our ability to fund future operations.
Our cash resources increased by $7,967,561 during the nine months ended September 30, 2011. The increase was primarily due to the increased sales and the fact that our customers generally paid with cash - we ended the recent quarter with no accounts receivables. In general, we carry a low level of accounts receivable relative to sales, as most of our sales are made for cash. Although we do afford credit to some of our distributors, in 2010 we undertook to reduce the amount of extended credit that we afford to customers. The result was the elimination of our accounts receivable as of September 30, 2011.
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Our working capital increased by $5,357,888 during the nine months ended September 30, 2011. Among the significant elements of our Current Assets at September 30, 2011 were:
· | $577,152 in inventories, including $228,056 in finished goods inventory. Since this represents less than half a week’s sales, it is a less than optimal level of finished goods inventory, albeit more than double our finished goods inventory when the year began. To date we have primarily manufactured in response to demand. As the market for our products expands, we expect to carry a higher level of inventory in order to facilitate more efficient response to fluctuations in demand. |
· | $187,440, which is the current portion of $609,180 in prepaid rent. During 2010 we prepaid RMB 6,000,000 ($895,000) in rent for the new premises that we leased in January of 2010. Our ability to prepay the rent gained us very favorable terms. The prepaid amount will be amortized over the five year term of the lease. |
· | a $153,023 deferred tax asset. Temporary differences in taxation values, primarily with respect to accrued expenses, gave rise to this asset. We have recorded it as a current asset because we expect to use it to offset taxable income during the next twelve months. |
Cash flows from operations totaled $6,152,842 during the nine months ended September 30, 2011. Cash flows from operations exceeded net income for two principal reasons:
· | As of September 30, 2011 we had no accounts receivable, compared to $809,168 in accounts receivable at December 31, 2010. |
· | Our taxes payable account increased by $381,191, in anticipation of payment early in 2012. |
At the same time, these contributions to cash flow were partially offset by (a) the $36,523 increase in inventories, and (b) the $216,222 increase in our prepaid expenses, most of which represents advance payment of the expenses for our next round of equity financing.
Our cash resources were also increased by our investing activities and out financing activities, specifically:
· | In 2010 we made a deposit of $910,000 to show good faith in negotiations we were conducting to acquire another entity. We terminated the negotiations in September 2011 and the deposit was returned. This is recorded on our Consolidated Statements of Cash Flows as net cash provided by investing activities. |
· | In March 2011 we received net proceeds of $630,000 from the sale of common stock and short-term notes. The primary purpose of the sale was to provide an available source of Dollars to pay the expenses that will be involved in expanding our presence in the U.S. capital markets. That financing, along with a short-term working capital loan of $73,008 from our CEO, have been recorded as net cash provided by financing activities. |
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We project a need for an additional $5 to $8 million in funding in order to execute our growth strategy. The large majority of these funds would be used for acquisitions or other means of expanding our business to cities outside of Beijing. Additional uses would be to open a fourth showroom and additional community sales offices in Beijing, to finance other sales and marketing expenses, and to support additional research and development. Our intention is to raise these funds through sales of equity. The March 1, 2011 private placement of a convertible note and common stock, which generated gross proceeds of $650,000, provided us available cash in the United States to pay the expenses of our new U.S. presence, and in particular expenses that will arise in preparation for financing. To date, however, we have received no commitment for the funds that we require for growth. In the event we are unable to raise additional funds, we will postpone some of the expenditures described above and invest our operating cash flow to continue the growth of the business.
Off-Balance Sheet Arrangements
We do not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition or results of operations.
ITEM 3 | QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK |
Not applicable.
(a) | Evaluation of disclosure controls and procedures. |
The Company’s management, with the participation of the Chief Executive Officer and the Chief Financial Officer, has evaluated the effectiveness of the Company’s disclosure controls and procedures (defined in SEC Rule 13a-15(e)) as of the end of the period covered by this quarterly report (the “Evaluation Date”). Based on that evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that, as of the Evaluation Date, such controls and procedures were effective.
(b) | Changes in internal controls. |
The Company’s management, with the participation of the Chief Executive Officer and Chief Financial Officer, has evaluated any changes in the Company’s internal control over financial reporting (defined in SEC Rule 13a-15(f)) that occurred during the period covered by this report. They concluded that there was no change to the Company’s internal control over financial reporting that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.
PART II - OTHER INFORMATION
None.
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Not applicable.
(a) | Unregistered Sale of Equity Securities |
None.
(c) | Repurchase of Equity Securities |
The Company did not repurchase any shares of its common stock during the 3rd quarter of 2011.
Item 3. Defaults Upon Senior Securities.
None.
Item 4. Reserved.
Item 5. Other Information.
None.
Item 6. Exhibits
31.1 | Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
31.2 | Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
32.1 | Certification of the Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
101.ins | XBRL Instance |
101.sch | XBRL Schema |
101.cal | XBRL Calculation |
101.def | XBRL Definition |
101.lab | XBRL Label |
101.pre | XBRL Presentation |
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SIGNATURES
In accordance with Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
CHINA SURE WATER (USA) INC. | |
Date: November 14, 2011 | By: /s/ Xinhong Guo |
Name: Xinhong Guo | |
Title: Chief Executive Officer | |
Date: November 14, 2011 | By: /s/ Xiaojie Guo |
Name: Xiaojie Guo | |
Title: Chief Financial and Accounting Officer |
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