Borqs 8K Completion of Acquisition or Disposition of Assets | BRQSF 24 Aug 17

Exhibit 99.1

BORQS INTERNATIONAL HOLDING CORP

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

		Page

Consolidated Financial Statements for the Years Ended December 31, 2014 and 2015

Report of Independent Registered Public Accounting Firm		2

Consolidated Balance Sheets as of December 31, 2014 and 2015		3 - 6

Consolidated Statements of Operations for the Years Ended December 31, 2014 and 2015		7

Consolidated Statements of Comprehensive (Loss) Income for the Years Ended December 31, 2014 and 2015		8

Consolidated Statements of Changes in Shareholders’ Deficit for the Years Ended December 31, 2014 and 2015		9 - 10

Consolidated Statements of Cash Flows for the Years Ended December 31, 2014 and 2015		11 - 12

Notes to the Consolidated Financial Statements		13 - 45

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors of BORQS International Holding Corp

We have audited the accompanying consolidated balance sheets of BORQS International Holding Corp (the “Company”) as of December 31, 2014 and 2015, and the related consolidated statements of operations, comprehensive (loss) income, changes in shareholders’ deficit and cash flows for each of the two years in the period ended December 31, 2015. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform an audit of the Company’s internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of BORQS International Holding Corp at December 31, 2014 and 2015, and the consolidated results of its operations and its cash flows for each of the two years in the period ended December 31, 2015, in conformity with U.S. generally accepted accounting principles.

/s/ Ernst & Young Hua Ming LLP

Shanghai, the People’s Republic of China

December 20, 2016

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED BALANCE SHEETS

(Amounts in thousands of US dollars (“US$”))

		As of December 31,
	Note	2014		2015
		US$		US$
ASSETS
Current assets:
Cash and cash equivalents			13,418		7,787
Restricted cash			981		770
Accounts receivable			12,898		6,068
Accounts receivable from related parties	(17)		132		5,998
Receivable from Mobile Virtual Network Operator (“MVNO”) franchisees			-		3,295
Inventories	(5)		2,190		6,264
Deferred cost of revenues			3,275		984
Prepaid and other current assets	(6)		3,399		3,225

Total current assets			36,293		34,391

Non-current assets:
Property and equipment, net	(7)		2,487		2,250
Intangible assets, net	(8)		9,753		13,262
Goodwill	(9)		786		741
Deferred tax asset	(16)		283		1,074
Deferred cost of revenues			355		177
Other non-current assets			182		1,184

Total non-current assets			13,846		18,688

Total assets			50,139		53,079

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED BALANCE SHEETS (CONTINUED)

(Amounts in thousands of US dollars (“US$”))

		As of December 31,
	Note	2014		2015
		US$		US$
LIABILITIES AND SHAREHOLDERS’ DEFICIT
Current liabilities:
Accounts payable (including accounts payable of the Consolidated VIEs without recourse to the primary beneficiary of US$1,277 and US$3,747 as of December 31, 2014 and 2015, respectively)			7,693		6,951
Accrued expenses and other payables (including accrued expenses and other payables of the Consolidated VIEs without recourse to the primary beneficiary of US$751 and US$1,882 as of December 31, 2014 and 2015, respectively)	(11)		4,167		6,263
Deferred revenue (including deferred revenue of the Consolidated VIEs without recourse to the primary beneficiary of US$6,297 and US$11,425 as of December 31, 2014 and 2015, respectively)			12,863		17,334
Income tax payable			-		165
Short-term bank borrowings (including short-term bank borrowings of the Consolidated VIEs without recourse to the primary beneficiary of US$817 and nil as of December 31, 2014 and 2015, respectively)	(10)		2,817		2,000
Long-term bank borrowings - current portion	(10)		-		571
Deferred government grants	(12)		3,056		1,762

Total current liabilities			30,596		35,046

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED BALANCE SHEETS (CONTINUED)

(Amounts in thousands of US dollars (“US$”))

		As of December 31,
	Note	2014		2015
		US$		US$
LIABILITIES AND SHAREHOLDERS’ DEFICIT
Non-current liabilities:
Unrecognized tax benefits	(16)		46		691
Deferred tax liabilities (including deferred tax liabilities of the Consolidated VIEs without recourse to the primary beneficiary of US$2,032 and US$1,779 as of December 31, 2014 and 2015, respectively)	(16)		2,032		1,779
Deferred revenue			23		440
Long-term bank borrowings	(10)		-		381
Deferred government grants	(12)		4,260		2,252

Total non-current liabilities			6,361		5,543

Total liabilities			36,957		40,589

Commitments and contingencies	(21)

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED BALANCE SHEETS (CONTINUED)

(Amounts in thousands of US dollars (“US$”))

		As of December 31,
	Note	2014			2015
		US$			US$
LIABILITIES AND SHAREHOLDERS’ DEFICIT
Mezzanine equity:
Series A convertible redeemable preferred shares (US$0.0001 par value; 39,900,000 shares authorized; 39,900,000 issued and outstanding as of December 31, 2014 and 2015)	(20)		11,970			11,970
Series B convertible redeemable preferred shares (US$0.0001 par value; 82,857,143 shares authorized; 82,857,143 issued and outstanding as of December 31, 2014 and 2015)	(20)		26,126			26,126
Series C convertible redeemable preferred shares (US$0.0001 par value; 50,909,089 shares authorized; 50,909,089 issued and outstanding as of December 31, 2014 and 2015)	(20)		19,127			20,848
Series D convertible redeemable preferred shares (US$0.0001 par value; 23,721,443 shares authorized; 23,721,443 issued and outstanding as of December 31, 2014 and 2015)	(20)		8,246			8,942

Total mezzanine equity			65,469			67,886

Shareholders’ deficit:
Ordinary shares			54			54
Additional paid-in capital			1,120			1,124
Statutory reserve			860			1,270
Accumulated deficit			(55,614	)		(56,330	)
Accumulated other comprehensive income (loss)	(13)		139			(1,149	)

Total BORQS International Holding Corp shareholders’ deficit			(53,441	)		(55,031	)

Noncontrolling interest			1,154			(365	)

Total shareholders’ deficit			(52,287	)		(55,396	)

Total liabilities, mezzanine equity, noncontrolling interest and shareholders’ deficit			50,139			53,079

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED STATEMENT OF OPERATIONS

(Amounts in thousands of US dollars (“US$”))

		For the year ended December 31,
	Note	2014			2015
		US$			US$
Net Revenues:
Software			17,222			22,468
Hardware			28,058			32,647
MVNO			58			16,007
Others			2,150			3,950

Total net revenues			47,488			75,072

Software			(8,966	)		(12,660	)
Hardware			(24,303	)		(26,101	)
MVNO			(786	)		(16,225	)
Others			(1,592	)		(2,980	)

Total cost of revenues			(35,647	)		(57,966	)

Total gross profit			11,841			17,106

Operating expenses:
Sales and marketing expenses			(4,419	)		(7,359	)
General and administrative expenses			(4,197	)		(4,883	)
Research and development expenses			(11,743	)		(7,245	)

Total operating expenses			(20,359	)		(19,487	)

Other operating income			648			3,094

Operating (loss) income			(7,870	)		713

Interest income			23			61
Interest expense			(82	)		(156	)
Other income			282			208
Other expense			(402	)		(35	)
Foreign exchange gain			72			855

(Loss) profit before income taxes			(7,977	)		1,646

Income tax expense	(16)		(194	)		(851	)

Net (loss) income			(8,171	)		795

Less: net loss attributable to noncontrolling interests			(510	)		(1,316	)

Net (loss) income attributable to Borqs International Holding Corp			(7,661	)		2,111

Add: accretion to redemption value of convertible redeemable preferred shares			(2,848	)		(2,417	)
Net loss attributable to ordinary shareholders			(10,509	)		(306	)

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED STATEMENT OF COMPREHENSIVE (LOSS) INCOME

(Amounts in thousands of US dollars (“US$”))

		For the year ended December 31,
	Note	2014			2015
		US$			US$
Net (loss) income			(8,171	)		795
Other comprehensive loss, net of tax of nil:
Foreign currency translation adjustments, net of tax of nil			(74	)		(1,288	)
Other comprehensive loss, net of tax of nil	(13)		(74	)		(1,288	)
Comprehensive loss			(8,245	)		(493	)
Less: comprehensive loss attributable to noncontrolling interest			(510	)		(1,519	)
Comprehensive (loss) income attributable to the Borqs International Holding Corp			(7,735	)		1,026
Change in redemption value of convertible redeemable preferred shares			(2,848	)		(2,417	)
Comprehensive loss attributable to ordinary shareholders			(10,583	)		(1,391	)

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ DEFICIT

(Amounts in thousands of US dollars (“US$”) except for number of shares)

	Note	Number of ordinary shares		Ordinary shares		Additional paid-in capital		Accumulated Statutory reserves		Accumulated other comprehensive income			Accumulated deficit			Total BORQS International Holding Corp shareholders’ deficit			Noncontrolling interest			Total shareholders’ Deficit
Balance as of January 1, 2014			53,816,667		54		1,092				213			(44,245	)		(42,886	)		-			(42,886	)
Consolidated net loss					-		-		-		-			(7,661	)		(7,661	)		(510	)		(8,171	)
Noncontrolling interest addition through acquisition	(4)				-		-		-		-			-			-			1,636			1,636
Contribution by noncontrolling interest through incorporation					-		-		-		-			-			-			28			28
Appropriation of statutory reserves					-		-		860		-			(860	)		-			-			-
Foreign exchange difference					-		-		-		(74	)		-			(74	)		-			(74	)
Accretion to redemption value of convertible redeemable preferred shares					-		-		-		-			(2,848	)		(2,848	)		-			(2,848	)
Vesting of restricted shares			200,000		-		28		-		-			-			28			-			28
Balance as of December 31, 2014			54,016,667		54		1,120		860		139			(55,614	)		(53,441	)		1,154			(52,287	)

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ DEFICIT (CONTINUED)

(Amounts in thousands of US dollars (“US$”) except for number of shares)

	Note	Number of ordinary shares		Ordinary shares		Additional paid-in capital		Accumulated Statutory reserves		Accumulated other comprehensive loss			Accumulated deficit			Total BORQS International Holding Corp shareholders’ deficit			Noncontrolling interest			Total shareholders’ deficit

Balance as of January 1, 2015			54,016,667		54		1,120		860		139			(55,614	)		(53,441	)		1,154			(52,287	)
Consolidated net income					-		-		-		-			2,111			2,111			(1,316	)		795
Appropriation of statutory reserves					-		-		410		-			(410	)		-			-			-
Foreign exchange difference					-		-		-		(1,288	)		-			(1,288	)		(203	)		(1,491	)
Accretion to redemption value of convertible redeemable preferred shares					-		-		-		-			(2,417	)		(2,417	)		-			(2,417	)
Vesting of restricted shares			33,333		-		4		-		-			-			4			-			4

Balance as of December 31, 2015			54,050,000		54		1,124		1,270		(1,149	)		(56,330	)		(55,031	)		(365	)		(55,396	)

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Amounts in thousands of US dollars (“US$”))

	For the year ended December 31,
	2014			2015
	US$			US$

CASH FLOWS FROM OPERATING ACTIVITIES
Net (loss) income		(8,171	)		795
Adjustments to reconcile net (loss) income to net cash (used in) generated from operating activities:
Foreign exchange gain		(72	)		(855	)
Loss (gain) on disposal of property and equipment		8			(350	)
Depreciation of property and equipment		1,373			1,371
Amortization of intangible assets		594			1,109
Deferred income tax benefits		(189	)		(1,044	)

Changes in operating assets and liabilities, net of the effects of an acquisition:
Restricted cash		(818	)		211
Accounts receivable		(8,709	)		6,830
Accounts receivable from related parties		8,556			(5,866	)
Receivable from MVNO franchisees		-			(3,295	)
Inventories		(573	)		(4,074	)
Deferred cost of revenues		(489	)		2,469
Prepaid expenses and other current assets		(1,400	)		579
Accounts payable		4,206			(742	)
Accrued expenses and other payables		65			2,100
Unrecognized tax benefits		46			645
Deferred revenue		608			4,888
Income tax payable		-			165
Deferred government grants		(174	)		(3,302	)

Net cash (used in) generated from operating activities		(5,139	)		1,634

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)

(Amounts in thousands of US dollars (“US$”))

	For the year ended December 31,
	2014			2015
	US$			US$
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of property and equipment		(481	)		(798	)
Purchases of intangible assets		(692	)		(5,175	)
Proceeds from disposal of property and equipment		69			14
Acquisition of business, net of cash acquired		238			-
Loan to a third party		-			(1,482	)
Repayments of a loan to a third party		-			75

Net cash used in investing activities		(866	)		(7,366	)

CASH FLOWS FROM FINANCING ACTIVITIES
Contribution by noncontrolling interest through incorporation		28			-
Proceeds from issuance of Series D convertible redeemable preferred shares		8,000			-
Payment of Series D convertible redeemable preferred shares issuance costs		(126	)		-
Proceeds from short-term bank borrowings		2,000			-
Repayments of short-term bank borrowings		-			(817	)
Proceeds from long-term bank borrowings		-			999
Repayments of long-term bank borrowings		-			(47	)
Net cash generated from financing activities		9,902			135

Effect of foreign exchange rate changes on cash and cash equivalents		(2	)		(34	)

Net increase (decrease) in cash and cash equivalents		3,895			(5,631	)
Cash and cash equivalents at beginning of year		9,523			13,418

Cash and cash equivalents at end of year		13,418			7,787

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

1.	ORGANIZATION

BORQS International Holding Corp (the “Company”) was incorporated under the laws of the Cayman Islands on July 27, 2007. The Company and its consolidated subsidiaries, variable interest entities (the “VIE”) and the VIE’s subsidiaries (collectively referred to the “Group”) are principally engaged in the provision of commercial grade Android+ platform solutions, hardware product sales and MVNO services in the People’s Republic of China (the “PRC”).

(a)

As of December 31, 2015, the details of the Company’s major subsidiaries, Consolidated VIEs and the subsidiaries of the VIEs are as follows:

Entity	Date of incorporation/ Acquisition	Place of incorporation	Percentage of direct or indirect ownership by the Company			Principal activities
			Direct
Subsidiaries:
BORQS Hong Kong Limited (“Borqs HK”)⁽¹⁾	July 19, 2007	Hong Kong		100	%	Provision of software and service solutions and hardware products sales
BORQS Beijing Ltd. (“Borqs Beijing”)⁽¹⁾	September 4, 2007	PRC		100	%	Provision of software and service solutions and hardware products sales
BORQS Software Solutions Private Limited (“Borqs India”)⁽¹⁾	July 17, 2009	India		100	%	Provision of software and service solutions

VIE:

Beijing Big Cloud Network Technology Co., Ltd. (“Big Cloud Network”)^{(1) / (2)}	April 18, 2014	PRC		Nil		Holding company

Subsidiaries of the VIE:

Yuantel (Beijing) Investment Management Co., Ltd. (“Yuantel Investment”)^{(2) / (3)}	July 11, 2014	PRC		79	%	Holding company
Yuantel (Beijing) Telecommunications Technology Co., Ltd. (“Yuantel Telecom”)^{(2) / (3)}	July 11, 2014	PRC		75.05	%	Provision of MVNO services

	(1)	Collectively, the “PRC Subsidiaries”.
	(2)	Collectively, the “Consolidated VIEs”.
	(3)	On July 11, 2014, the Company through Big Cloud Network acquired controlling interest in Yuantel Investment and its subsidiary, (Note 4).

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

1.	ORGANIZATION (CONTINUED)

(b)

PRC laws and regulations prohibit foreign ownership in certain telecommunication related businesses. To comply with these foreign ownership restrictions, the Group conducts its businesses in the PRC through the VIE using contractual agreements (the “VIE Agreements”).

The Group funds Big Cloud Network through loans to the two Big Cloud Network’s shareholders, (collectively the “Nominee Shareholders”). The effective control of Big Cloud Network is held by the Group, through a series of contractual agreements between Borqs Beijing and Big Cloud Network whereby Big Cloud Network became a consolidated VIE of the Group. Through the contractual agreements, the Group receives substantially all of the economic benefits of Big Cloud Network.

Big Cloud Network provides MVNO services in China through its 79% owned entity of Yuantel Investment which owns 95% of Yuantel Telecom; therefore Big Cloud Network effective owns 75.05% of Yuantel Telecom which is the entity that operates the business and holds the MVNO license from the Chinese Ministry of Industry and Information Technology.

The following is a summary of the key terms of the VIE Agreements:

Loan agreement

On June 23, 2014, Borqs Beijing and the Nominee Shareholders entered into loan agreements for Borqs Beijing to provide interest free loans of RMB50,000 to the Nominee Shareholders, respectively, for the purpose of providing capital to Big Cloud Network to develop its MVNO business. There is no fixed term for the loans.

Power of attorney agreement

The Nominee Shareholders of Big Cloud Network entered into the power of attorney agreement whereby they authorized Borqs Beijing or its designated party to act on behalf of the Nominee Shareholders as exclusive agent and attorney with all respect to all matters concerning the shareholding including but not limited to (1) attend shareholders’ meetings of Big Cloud Network; (2) exercise all the shareholders’ rights, including voting rights; and (3) designate and appoint on behalf of each shareholder the senior management members of Big Cloud Network. The power of attorney remains irrevocable and continuously valid from the date of execution so long as each Nominee Shareholder remains as a shareholder of Big Cloud Network. The power of attorney agreement was subsequently reassigned to the Company.

Exclusive option agreement

Pursuant to the exclusive option agreement entered into between the Nominee Shareholders and Borqs Beijing or its designated party, the Nominee Shareholders granted Borqs Beijing or its designated party, an irrevocable and exclusive right to purchase all or part of the equity interests held by the Nominee Shareholders in Big Cloud Network, to the extent permitted under the PRC laws, at an amount equal to RMB10 or the minimum consideration permitted under the applicable PRC law. The purchase consideration in excess of RMB 10 shall be refunded by the Nominee Shareholders to Borqs Beijing or Borqs Beijing may deduct the excess amount upon payment of consideration. The Nominee Shareholders shall not declare dividend or any form of distribution or grant loans in any form without the prior consent of Borqs Beijing or its designated party. The term of the agreement is 10 years, expiring on June 22, 2024 which will be automatically renewed every three-year thereafter if Borqs Beijing or its designated party does not provide notice of termination to the Nominee Shareholders fifteen days prior to expiration.

Exclusive technical & support agreement

Pursuant to the agreement entered into between Borqs Beijing and Big Cloud Network, Big Cloud Network engaged Borqs Beijing or its designated party as its exclusive provider of technical, consulting and other services in relation to its major business during the contractual period in return for service fees which will be determined at the sole discretion of Borqs Beijing or its designated party. The term of the agreement is 10 years, expiring on June 22, 2024, which will be automatically renewed every three-year thereafter if Borqs Beijing or its designated party does not provide notice of termination to the Nominee Shareholders fifteen days prior to expiration.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

1.	ORGANIZATION (CONTINUED)

Business cooperation agreement

Pursuant to the business cooperation agreement entered into between Borqs Beijing and Big Cloud Network, Borqs Beijing or its designated party agreed to provide unlimited financial support for the VIE’s daily operating activities through entrusted loans and agree to forgo the right to seek repayment.

Share pledge agreement

Pursuant to the agreement, the Nominee Shareholders pledged all of their equity interests in Big Cloud Network to Borqs Beijing as collateral to guarantee the repayment of the loans and to secure their obligations under the above agreements. The Nominee Shareholders agreed not to transfer or otherwise create any encumbrance on their equity interests in Big Cloud Network without prior consent of Borqs Beijing. The share pledge agreements will remain effective until all the obligations under above agreements have been satisfied in full or all of the guarantee liabilities have been repaid.

Despite the lack of technical majority ownership, there exists a parent-subsidiary relationship between Borqs Beijing’s designee, the Company, and Big Cloud Network through the irrevocable power of attorney agreement, whereby the Nominee Shareholders effectively assigned all of the voting rights underlying their equity interest in Big Cloud Network to the Company. Furthermore, pursuant to the exclusive option agreement and share pledge agreement, the Company, via Borqs Beijing, obtained effective control over Big Cloud Network through the ability to exercise all the rights of Nominee Shareholders and therefore the power to govern the activities that most significantly impact the economic performance of Big Cloud Network. In addition, through the VIE agreements the Company demonstrates its ability and intention to continue the ability to absorb substantially all the expected losses and the majority of the profit of the VIE, and therefore have the rights to the economic benefits of the VIE. Thus, the Company consolidates Big Cloud Network and its subsidiaries through the primary beneficiary, the Company, under ASC 810-10Consolidation Overall.

In the opinion of the Company’s management and PRC counsel, (i) the ownership structure of the Consolidated VIEs is in compliance with all existing PRC laws and regulations in any material respect, (ii) each of the VIE agreements is valid, legally binding and enforceable to each party of such agreements and will not result in any violation of PRC laws or regulations currently in effect; and (iii) each of the Group’s PRC subsidiaries, VIE and VIE’s subsidiaries have the necessary corporate power and authority to conduct its business as described in its business scope under its business license, which is in full force and effect, and the Group’s business operation in PRC are in compliance with existing PRC laws and regulations.

However, uncertainties in the PRC legal system could cause the relevant regulatory authorities to find the current VIE agreements and businesses to be in violation of any existing or future PRC laws or regulations. If the Company, the primary beneficiary or any of its current or future VIEs are found in violation of any existing or future laws or regulations, or fail to obtain or maintain any of the required permits or approvals, the relevant PRC regulatory authorities would have broad discretion in dealing with such violations, including levying fines, confiscating the income of the primary beneficiary, and the VIE, revoking the business licenses or operating licenses of the primary beneficiary, and VIE, shutting down the Group’s servers, discontinuing or placing restrictions or onerous conditions on the Group’s operations, requiring the Group to undergo a costly and disruptive restructuring or enforcing actions that could be harmful to the Group’s business. Any of these actions could cause significant disruption to the Group’s business operations and severely damage the Group’s reputation, which would in turn materially and adversely affect the Group’s business and results of operations. In addition, if the imposition of any of these penalties causes the primary beneficiary to lose the rights to direct the activities of VIE or the right to receive its economic benefits, the Company, through the primary beneficiary, would no longer be able to consolidate the VIE.

In addition, if the VIE or the Nominee Shareholders fail to perform their obligations under the VIE Agreements, the Group may have to incur substantial costs and expend resources to enforce the primary beneficiary’ rights under the contracts. The Group may have to rely on legal remedies under PRC laws, including seeking specific performance or injunctive relief and claiming damages, which may not be effective. All of these VIE Agreements are governed by PRC laws and provide for the resolution of disputes through arbitration in the PRC. Accordingly, these contracts would be interpreted in accordance with PRC laws and any disputes would be resolved in accordance with PRC legal procedures. The legal system in PRC is not as developed as in other jurisdictions, such as the United States. As a result, uncertainties in the PRC legal system could limit the Group’s ability to enforce these contractual arrangements. Under PRC laws, rulings by arbitrators are final, parties cannot appeal the arbitration results in courts, and prevailing parties may only enforce the arbitration awards in PRC courts through arbitration award recognition proceedings, which would incur additional expenses and delay. In the event the Group is unable to enforce these VIE Agreements, the primary beneficiary may not be able to exert effective control over its VIE, and the Group’s ability to conduct its business may be negatively affected.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

1.	ORGANIZATION (CONTINUED)

(c)

VIE disclosures

Consolidated VIEs contributed 5% and 27% of the Group's consolidated revenues for the years ended December 31, 2014 and 2015. As of December 31, 2014 and 2015, the Consolidated VIEs accounted for an aggregate of 30% and 40%, respectively, of the consolidated total assets, and 43% and 64%, respectively, of the consolidated total liabilities.

The Consolidated VIEs mainly operate the MVNO services. The VIE also holds the MVNO license, which is a revenue-producing asset recorded on the Group’s consolidated balance sheets. The Group expects increases in percentage of revenue generated from the Consolidated VIEs compared to the whole Group for the foreseeable future as the Group focuses on strengthening telecommunication platforms to strategically grow the Group’s MVNO business.

The Group believes that there are no assets held in the Consolidated VIEs that can be used only to settle obligations of the Consolidated VIEs, except for registered capital and the PRC statutory reserves. Relevant PRC laws and regulations restrict the Consolidated VIEs from transferring a portion of their net assets, equivalent to the balance of its statutory reserve and its share capital, to the Company in the form of loans and advances or cash dividends. Please refer to Note 18 for disclosure of restricted net assets. As the Consolidated VIEs are incorporated as limited liability companies under the PRC Company Law, creditors of the Consolidated VIEs do not have recourse to the general credit of the Company for any of the liabilities of the Consolidated VIEs. There were no pledges or collateralization of the Consolidated VIEs’ assets.

The following tables represent the financial information of the Consolidated VIEs as of December 31, 2014 and 2015 and for the years ended December 31, 2014 and 2015 before eliminating the intercompany balances and transactions between the Consolidated VIEs and other entities within the Group:

	As of December 31,
	2014		2015
	US$		US$

ASSETS
Current assets:
Cash and cash equivalents		2,434		2,455
Restricted cash		981		770
Accounts receivable		65		70
Receivable from MVNO franchisees		-		3,295
Inventories		142		145
Prepaid expenses and other current assets		379		347
Prepayment to WFOE		-		454

Total current assets		4,001		7,536

Non-current assets:
Property and equipment, net		261		876
Intangible assets, net		9,675		10,879
Goodwill		786		741
Deferred tax asset		283		1,074
Other non-current assets		182		196

Total non-current assets		11,187		13,766

Total assets		15,188		21,302

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

1.	ORGANIZATION (CONTINUED)

(c)

VIE disclosures (Continued)

	As of December 31,
	2014			2015
	US$			US$
Current liabilities:
Accounts payable		1,277			3,747
Accrued expenses and other payables		751			1,882
Deferred revenue		6,297			11,425
Short-term bank borrowings		817			-
Intercompany payables		4,623			6,969
Total current liabilities		13,765			24,023

Non-current liabilities
Deferred tax liabilities		2,032			1,779

Total non-current liabilities		2,032			1,779

Total liabilities		15,797			25,802

	For the Year Ended December 31,
	2014			2015
	US$			US$
Net revenues		2,208			19,957
Net loss		(2,372	)		(5,029	)

	For the Year Ended December 31,
	2014			2015
	US$			US$
Net cash provided by operating activities		1,595			2,413
Net cash used in investing activities		(210	)		(1,622	)
Net cash provided by (used in) financing activities		817			(770	)
Net increase in cash and cash equivalents		2,202			21

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

(a)

Basis of presentation

The accompanying consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”).

(b)

Principles of consolidation

The consolidated financial statements include the financial statements of the Company, its subsidiaries and Consolidated VIEs, for which, the Company is the primary beneficiary. All significant inter-company transactions and balances between the Company, its subsidiaries and the Consolidated VIEs are eliminated upon consolidation. Results of acquired subsidiaries and its Consolidated VIEs are consolidated from the date on which control is transferred to the Company.

(c)

Use of estimates

The preparation of the consolidated financial statements in conformity with US GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the period. Areas where management uses subjective judgment include, but are not limited to, estimating the useful lives of long-lived assets and intangible assets, assessing the initial valuation of the assets acquired and liabilities assumed in a business combination and the subsequent impairment assessment of long-lived assets, intangible assets and goodwill, determining the provisions for accounts receivable and inventories, accounting for deferred income taxes and uncertain tax benefits, valuation for share-based compensation arrangements and convertible redeemable preferred shares. Changes in facts and circumstances may result in revised estimates. Actual results could differ from those estimates, and as such, differences may be material to the consolidated financial statements.

(d)

Foreign currency

The functional currency of the Company and its non-PRC subsidiaries, excluding Borqs India, is the United States dollar. The functional currency of Borqs India is Rupee, whereas the functional currency of the Company’s PRC subsidiaries and its Consolidated VIEs is the Chinese Renminbi (“RMB”) as determined based on the criteria of ASC 830,Foreign Currency Matters. The Company uses the US$ as its reporting currency. Transactions denominated in foreign currencies are re-measured into the functional currency at the exchange rates prevailing on the transaction dates. Foreign currency denominated financial assets and liabilities are re-measured at the balance sheet date exchange rate. Exchange gains and losses are included in foreign exchange gains and losses in the consolidated statements of operations.

Assets and liabilities of the Company’s PRC subsidiaries are translated into US$ at fiscal year-end exchange rates. Equity amounts are translated at historical exchange rates. Income and expense items are translated at average exchange rates prevailing during the fiscal year. Translation adjustments arising from translation of foreign currency financial statements are reported as cumulative translation adjustments and are shown as a separate component of other comprehensive income (loss) in the consolidated statements of comprehensive income (loss).

(e)

Cash and cash equivalents

Cash and cash equivalents consist of cash on hand and bank deposits which are unrestricted as to withdrawal and use. All highly liquid investments with a stated maturity of 90 days or less from the date of purchase are classified as cash equivalents.

(f)

Restricted cash

Restricted cash mainly represents short-term deposits with China United Network Communications Group Co., Ltd. (“China Unicom”) as guarantee for minimum purchase requirements, and therefore are not available for the Group’s use until the end of contract period with China Unicom.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(g)

Accounts receivable

Accounts receivable are carried at net realizable value. An allowance of doubtful accounts is recorded in the period when the collection of full amount is no longer probable. The Group reviews the accounts receivable on a periodic basis and makes general and specific allowances when there is doubt as to the collectability of individual balances. In evaluating the collectability of individual receivable balances, the Group considers many factors, including the age of the balance, the customer’s payment history, its current credit-worthiness and current economic trends. As of December 31, 2014 and 2015, the Group evaluated and wrote off the doubtful accounts as they were determined to be uncollectible. Thus, there was no allowance for doubtful accounts outstanding.

(h)

Inventories

Inventories are stated at the lower of cost or market. Cost is determined using the first-in, first-out method. Adjustments to reduce the cost of inventories to its net market value are made, if required, for decreases in sales prices, obsolescence or similar reductions in the estimated net realizable value. Inventories provision of US$1,037 and US$1,109 was recorded as of December 31, 2014 and 2015, respectively.

(i)

Property and equipment

Property and equipment are stated at cost and are depreciated using the straight-line method over the estimated useful lives of the assets, as follows:

	Category		Estimated useful life

	Computer and network equipment		3-5 years
	Office equipment		5 years
	Motor vehicles		5 years
	Leasehold improvements		Over the shorter of lease term or the estimated useful lives of the assets

Repair and maintenance costs are charged to expense as incurred, whereas the costs of betterments that extend the useful life of property and equipment are capitalized as additions to the related assets. Retirements, sale and disposals of assets are recorded by removing the cost and accumulated depreciation with any resulting gain or loss reflected in the consolidated statements of operations.

Property and equipment that are purchased or constructed which require a period of time before the assets are ready for their intended use are accounted for as construction-in-progress. Construction-in-progress is recorded at acquisition cost, including installation costs. Construction-in-progress is transferred to specific property and equipment accounts and commences depreciation when these assets are ready for their intended use.

(j)

Intangible assets

Intangible assets are carried at cost less accumulated amortization and any recorded impairment. Intangible assets acquired in a business combination are recognized initially at fair value at the date of acquisition. Intangible assets with finite useful lives are amortized using a straight-line method. These amortization methods reflect the estimated pattern in which the economic benefits of the respective intangible assets are to be consumed.

Development costs of software to be sold, leased, or otherwise marketed are subject to capitalization beginning when technological feasibility is reached, in accordance with ASC 985-20,Costs of Software to be Sold, Leased, or Marketed.

Intangible assets have weighted average useful lives from the date of purchase as follow:

	Purchased software		9.5 years
	MVNO license (Note 4)		10 years
	Capitalized software development costs		3 years

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(k)

Business combination

The Group acquired Yuantel in July 2014 and accounted for the acquisition pursuant to ASC 805,Business Combinations (“ASC 805”), which requires the Group to recognize separately from goodwill the assets acquired and the liabilities assumed at their acquisition date fair values. Goodwill as of the acquisition date is measured as the excess of the acquisition date fair value of consideration transferred and the contingent considerations plus the acquisition date fair value of the noncontrolling interests, if any, over the net of the acquisition date fair values of the assets acquired and the liabilities assumed. In cases where the Group acquires less than 100% ownership interest, it will derive the fair value of the acquired business as a whole, which will typically include a control premium and subtract the consideration transferred for the controlling interest to identify the fair value of the noncontrolling interest.

In connection with this acquisition, the Group determines the estimated fair value of acquired identifiable intangible and tangible assets as well as assumed liabilities with the assistance of an independent third party valuation firm. The Group derives estimates of the fair value of assets acquired and liabilities assumed using reasonable assumptions based on historical experiences and on the information obtained from management of the acquired companies. Critical estimates in valuing certain of the acquired intangible assets required to but were not limited to the following: deriving estimates of future expected cash flows from the acquired business and the determination of an appropriate discount rate. Unanticipated events may occur which may affect the accuracy or validity of such assumptions or estimates.

In case where the Group acquired the remaining interest in a subsidiary once it has obtained control, such transaction is accounted for as an equity transaction where the difference between the fair value of the purchase consideration and the carrying amount of the noncontrolling interests is recorded in additional paid-in capital.

(l)

Goodwill

Goodwill represents the excess of the purchase price over the amounts assigned to the fair value of the assets acquired and the liabilities assumed of an acquired business. The Group’s goodwill as of December 31, 2014 and 2015 was related to its acquisition of Yuantel Investment, (Note 4). In accordance with ASC 350,Goodwill and Other Intangible Assets (“ASC 350”), recorded goodwill amounts are not amortized, but rather are tested for impairment annually or more frequently if there are indicators of impairment present.

The performance of the impairment test in accordance to ASC 350 involves a two-step process. The first step of the impairment test involves comparing the fair value of the reporting unit with its carrying amount, including goodwill. Fair value is primarily determined by computing the future discounted cash flows expected to be generated by the reporting unit. If the reporting unit’s carrying value exceeds its fair value, goodwill may be impaired. If this occurs, the Group performs the second step of the goodwill impairment test to determine the amount of impairment loss.

The fair value of the reporting unit is allocated to its assets and liabilities in a manner similar to a purchase price allocation in order to determine the implied fair value of the reporting unit’s goodwill. If the implied goodwill fair value is less than its carrying value, the difference is recognized an impairment loss.

In accordance with ASC 350, the Group assigned and assessed goodwill for impairment at the reporting unit level. A reporting unit is an operating segment or one level below the operating segment. The Company has determined that it has two operating segments as its reporting units, namely Yuantel and Connected Solutions. Goodwill is recorded at the Yuantel reporting unit.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(m)

Impairment of long-lived assets

The Group evaluates its long-lived assets or asset group, including intangible assets with indefinite and finite lives, for impairment. Intangible assets with indefinite lives that are not subject to amortization are tested for impairment at least annually or more frequently if events or changes in circumstances indicate that the assets might be impaired in accordance with ASC 350. Such impairment test compares the fair values of assets with their carrying values with an impairment loss recognized when the carrying values exceed fair values.

For long-lived assets and intangible assets with finite lives that are subject to depreciation and amortization are tested for impairment whenever events or changes in circumstances (such as a significant adverse change to market conditions that will impact the future use of the assets) indicate that the carrying amount of an asset or a Group of long-lived assets may not be recoverable. When these events occur, the Group evaluates impairment by comparing the carrying amount of the assets to future undiscounted net cash flows expected to result from the use of the assets and their eventual disposition. If the sum of the expected undiscounted cash flows is less than the carrying amount of the assets, the Group would recognize an impairment loss based on the excess of the carrying amount of the asset group over its fair value.

(n)

Fair value of financial instruments

The Group’s financial instruments include cash and cash equivalents, restricted cash, accounts receivable and payable, accounts receivable from related parties, receivable from MVNO franchisees, short-term and long-term bank borrowings and convertible redeemable preferred shares. Other than the long-term bank borrowings and convertible redeemable preferred shares, the carrying values of these financial instruments approximate their fair values due to their short-term maturities.

The Group applies ASC 820, Fair Value Measurements and Disclosures, (“ASC 820”). ASC 820 defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. ASC 820 requires disclosures to be provided on fair value measurement.

ASC 820 establishes a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value as follows:

Level 1 — Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets.

Level 2 — Other inputs that are directly or indirectly observable in the marketplace.

Level 3 — Unobservable inputs which are supported by little or no market activity.

ASC 820 describes three main approaches to measuring the fair value of assets and liabilities: (1) market approach; (2) income approach; and (3) cost approach. The market approach uses prices and other relevant information generated from market transactions involving identical or comparable assets or liabilities. The income approach uses valuation techniques to convert future amounts to a single present value amount. The measurement is based on the value indicated by current market expectations about those future amounts. The cost approach is based on the amount that would currently be required to replace an asset.

During the years ended December 31, 2014 and 2015, there is no financial instrument measured at fair value. The carrying amounts of long-term bank borrowings approximate their fair values since they bear interest rates which approximate market interest rates. The convertible redeemable preferred shares are initially recognized at its fair value.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(o)

Revenue recognition

The Group is mainly engaged in the business of providing 1) Android+ platform solutions and services, 2) hardware product sales, and 3) MVNO services. The Group recognizes revenue when persuasive evidence of an arrangement exists, delivery has occurred, the sales price is fixed and determinable, and collectability is reasonably assured.

Android+ platform solutions and services

Android+ platform solutions

The Group provides customized Android+ software platform solutions that are developed to maximize the commercial grade quality or performance of open source Android+ software for integration with particular chipsets. The Group also provides customized Android+ service platform solutions that are end to end software developed for mobile operators to allow data synchronization between their platform and mobile devices. The Group charges its customers, mainly including mobile device manufacturers and mobile operators, fixed fees for project-based software contracts, as well as per chip or per mobile device royalty fees.

The project-based software contracts are generally considered multiple element arrangements as they consist of perpetual software licenses, software development services such as customization, modification, implementation and integration, and post-contract customer support (“PCS”) where customers have the right to receive bug fixes, telephone support and unspecified upgrades on a when-and-if available basis. Pursuant to ASC 985-605,Revenue Recognition: Software (“ASC 985-605”), given the project-based software contracts require significant customization that are generally completed within one year from the contract dates, the Group accounts for the entire software contracts in conformity with the relevant guidance in ASC 605-35,Revenue Recognition: Contract Accounting, applying the completed contract method.

As the Group was unable to establish vendor specific objective evidence of the fair value of PCS and PCS is the only undelivered element upon completion of software projects, the entire software project fixed fees are recognized ratably over the PCS service period. PCS service periods are generally 12 months, with ranges from six months to three years, and commences upon completion of customer acceptance of the completed software projects. Costs incurred to complete the software projects are deferred to match revenue recognition.

Where the Group is entitled to receive on going usage based royalties determined based on the chip or mobile device sales, the usage-based royalties are recognized according to the customers’ usage reports, generally on a quarterly basis.

Service contracts

The Group provides research and development services to certain customers for their mobile-computing related development projects where fees are charged on a time and material basis and the Group is not responsible for the outcome of such development projects. The revenue is recognized proportionately as the services are delivered and is included as software revenues on the consolidated statement of operations.

Hardware product sales

The Group provides total solutions on original design manufacturer (“ODM”) basis to customers of mobile devices. Revenue is recognized when sale of each final hardware product to the customers are delivered. Warranty is provided to all customers, which is not considered an additional service; rather, an integral part of the product sales. ASC 450,Contingencies, specifically addresses the accounting for standard warranties. The Group believes that accounting for its standard warranty pursuant to ASC 450 does not impact revenue recognition because the cost of honoring the warranty can be reliably estimated. The Group has determined the likelihood of claims arising from warranties to be remote based on strong quality control procedures in the production process and historical experience with regard to claims being made by customers. The basis for the warranty accrual will be reviewed periodically based on actual experience. The Group does not sell extended warranty coverage.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(o)

Revenue recognition (Continued)

MVNO

On July 11, 2014, the Group, through the VIE, acquired and obtained control of Yuantel Investment, which mainly operates the MVNO business, (Note 4). The license to operate such MVNO business is issued by the Chinese Ministry of Industry and Information Technology and the core mobile network is provided by the PRC government owned China Unicom. Yuantel Investment receives wholesale rates for mobile voice and data services from China Unicom and repackages the voice and data services into competitive bundles for Chinese consumers.

In accordance with ASC 605-45,Revenue Recognition; Principal agent consideration,the Group is the principal in providing the bundled voice and data services to Chinese consumers, thus revenue is recognized on a gross basis. As sales of bundled services are mostly pre-paid by the consumers, cash received in advance of voice and data consumption are recognized as deferred revenue. Revenue is recognized when the services are actually used. Pre-paid bundled services do not expire.

Sales of the bundles are mostly made through agents and franchisees. Bundled services sold to agents are discounted and not refundable to the Group. The Group accounts for such discounts as reductions of revenue in accordance with ASC 605-50 (“ASC 605-50”)Customer Payments and Incentives.

The Group enters into profit sharing arrangements with franchisees under which bundled services may be returned to the Group if not sold to the consumers. The franchisees receive certain percentages of profits made by the Group on the sales of the bundled services as they are used by the consumers. The Group accounts for profit sharing with franchisees as selling expenses in the consolidated statements of operations. Discounts provided by franchisees to consumers are recognized by the Group as reductions of revenue in accordance with ASC 605-50.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(p)

Cost of revenues

Cost of revenues consists primarily of telecommunication costs, depreciation of long-lived assets, amortization of acquired intangible asset, payroll and other related costs of operations. Deferred cost of revenues was US$3,630 and US$1,161 for the years ended December 31, 2014 and 2015.

(q)

Advertising expenditures

Advertising expenditures are expensed as incurred and are included in sales and marketing expenses, which amounted to US$207 and US$46 for the years ended December 31, 2014 and 2015, respectively.

(r)

Research and development expenses

Research and development expenses include payroll, employee benefits, and other headcount-related expenses associated with research and platform development. Research and development expenses also include rent, depreciation and other related expenses. Research and development expenses are expensed as incurred.

(s)

Government grants

Government grants are provided by the relevant PRC municipal government authorities to subsidize the cost of certain technology development projects. The amount of such government grants are determined solely at the discretion of the relevant government authorities and there is no assurance that the Group will continue to receive these government grants in the future. Government grants are recognized when it is probable that the Group will comply with the conditions attached to them, and the grants are received. When the grant relates to an expense item, it is recognized in the consolidated statement of operations over the period necessary to match the grant on a systematic basis to the costs that it is intended to compensate, as a reduction of the related operating expense. When the grant relates to an asset, it is recognized as deferred government grants and released to the consolidated statement of operations in equal amounts over the expected useful life of the related asset, when operational, as a reduction of the related depreciation expense.

(t)

Leases

Leases are classified at the inception date as either a capital lease or an operating lease. The Group did not enter into any leases whereby it is the lessor for any of the periods presented. As the lessee, a lease is a capital lease if any of the following conditions exists: a) ownership is transferred to the lessee by the end of the lease term, b) there is a bargain purchase option, c) the lease term is at least 75% of the property’s estimated remaining economic life, or d) the present value of the minimum lease payments at the beginning of the lease term is 90% or more of the fair value of the leased property to the lessor at the inception date. A capital lease is accounted for as if there was an acquisition of an asset and an incurrence of an obligation at the inception of the lease. The Group did not enter into any capital leases for the years ended December 31, 2014 and 2015.

All other leases are accounted for as operating leases wherein rental payments are expensed on a straight-line basis over the periods of their respective lease terms. The Group leases office space under operating lease agreements. Certain lease agreements contain rent holidays and escalating rent. Rent holidays and escalating rent are considered in determining the straight-line rent expense to be recorded over the lease term. The lease term begins on the date of initial possession of the lease property for purposes of recognizing lease expense on a straight-line basis over the term of the lease.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(u)

Income taxes

The Group accounts for income taxes using the liability method. Current income taxes are provided for in accordance with the laws of the relevant tax authorities. Under this method, deferred tax assets and liabilities are determined based on the difference between the financial reporting and tax bases of assets and liabilities using enacted tax rates that will be in effect in the period in which the differences are expected to reverse. The Group records a valuation allowance against deferred tax assets if, based on the weight of available evidence, it is more-likely-than-not that some portion, or all, of the deferred tax assets will not be realized. The effect on deferred taxes of a change in tax rates is recognized in income in the period that includes the enactment date.

The Group applies ASC 740,Accounting for Income Taxes,(“ASC 740”),to account for uncertainty in income taxes. ASC 740 prescribes a recognition threshold a tax position is required to meet before being recognized in the financial statements.

The Group has elected to classify interest related to unrecognized tax benefits, if and when required, as part of “income tax expense” in the consolidated statements of operations.

The Group elected to early adopt ASU No. 2015-17,Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes. Thus, all the deferred income tax assets and liabilities are classified as noncurrent in the consolidated balance sheet statement of financial position.

(v)

Share-based compensation

The Group accounts for share-based compensation in accordance with ASC 718,Compensation-Stock Compensation: Overall, (“ASC 718”).

In accordance with ASC 718, the Group determines whether an award should be classified and accounted for as a liability award or equity award. All grants of share-based awards to employees classified as equity awards are measured based on their grant date fair values and recognized as compensation expense over the requisite service period and/or performance period in the consolidated statements of operations.

The Group recognizes compensation expense using the accelerated method for share-based awards granted with service and performance conditions. According to ASC 718, the amount of compensation cost recognized (or attributed) when achievement of a performance condition is probable depends on the relative satisfaction of the performance condition based on performance to date. According to ASC 718, probable means the future event or events are likely to occur and the Group interprets “probable” to be generally in excess of a 70% likelihood of occurrence.

The Group elected to early adopt ASU No. 2016-09,Compensation-Stock Compensation (Topic 718): Improvement to Employee Share-based Payment Accounting to account for forfeitures as they occur.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(w)

Comprehensive income (loss)

Comprehensive income (loss) is defined as the increase (decrease) in equity of the Group during a period from transactions and other events and circumstances excluding transactions resulting from investments by owners and distributions to owners. Accumulated other comprehensive income (loss) of the Group includes foreign currency translation adjustments related to the Company and its PRC subsidiaries, whose functional currency is RMB.

(x)

Employee benefits

The full-time employees of the Group’s PRC subsidiaries are entitled to staff welfare benefits including medical care, housing fund, pension benefits and unemployment insurance, which are governmental mandated defined contribution plans. These entities are required to accrue for these benefits based on certain percentages of the employees’ respective salaries, subject to certain ceilings, in accordance with the relevant PRC regulations, and make cash contributions to the state-sponsored plans out of the amounts accrued.

(y)

Recent accounting pronouncements

In May 2014, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2014-09,Revenue from Contracts with Customers (Topic 606),(“ASU 2014-09”). ASU 2014-09 supersedes the revenue recognition requirements in ASC 605,Revenue Recognition and requires entities to recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled to in exchange for those goods or services. ASU 2014-09 is originally effective for the annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period. ASU No. 2015-14,Revenue from Contracts with Customers, (“ASU 2015-14”), deferred the effective date of ASU 2014-09 by one year. As a result, ASU 2014-09 is effective for annual reporting periods beginning after December 15, 2017 and interim periods therein. Early adoption is permitted to the original effective date. The Group is currently evaluating the impact of adopting the new revenue standard on its consolidated financial statements.

In February 2015, the FASB issued ASU No. 2015-02,Consolidation (Topic 810) — Amendments to the Consolidation Analysis,(“ASU 2015-02”). ASU 2015-02 amends the criteria for determining which entities are considered VIEs, amends the criteria for determining if a service provider possesses a variable interest in a VIE and ends the deferral granted to investment companies for application of the VIE consolidation model. The guidance is effective for fiscal years, and for interim periods within those fiscal years, beginning after 15 December 2015. The guidance may be applied retrospectively or through a cumulative effect adjustment to equity as of the beginning of the year of adoption. Early adoption is permitted, including adoption in an interim period. The Group is evaluating the effects, if any, of the adoption of this revised guidance on its consolidated financial statements.

In July 2015, the FASB issued ASU No. 2015-11,Simplifying the Measurement of Inventory, (“ASU 2015-11”). The guidance simplifies the subsequent measurement of inventory by requiring inventory to be measured at the lower of cost and net realizable value. Entities will continue to apply their existing impairment models to inventories that are accounted for using last-in first-out (LIFO) and the retail inventory method (RIM). For public business entities, the amendments in this update are effective for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. For all other entities, the amendments in this update are effective for fiscal years beginning after December 15, 2016, and interim periods within fiscal years beginning after December 15, 2017. Early adoption is permitted, and the guidance must be applied prospectively after the date of adoption. The Group is currently evaluating the impact of the adoption of ASU 2015-11 on its consolidated financial statements.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(y)

Recent accounting pronouncements(Continued)

In February 2016, the FASB issued ASU No. 2016-02,Leases,(“ASU 2016-02”). ASU 2016-02 specifies the accounting for leases. For operating leases, ASU 2016-02 requires a lessee to recognize a right-of-use asset and a lease liability, initially measured at the present value of the lease payments, in its balance sheet. The standard also requires a lessee to recognize a single lease cost, calculated so that the cost of the lease is allocated over the lease term, on a generally straight-line basis. ASU 2016-02 is effective for public companies for annual reporting periods and interim periods within those years beginning after December 15, 2018. Early adoption is permitted. The Group is currently evaluating the impact of adopting ASU 2016-02 on its consolidated financial statements.

In March 2016, the FASB issued ASU No. 2016-08,Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net), (“ASU 2016-08”) which clarifies the implementation guidance on principal versus agent considerations. The guidance includes indicators to assist an entity in determining whether it controls a specified good or service before it is transferred to the customers. This guidance will be effective for the company in the first quarter of 2018, with the option to adopt it in the first quarter of 2017. The Group is still evaluating the effect if any, that this guidance will have on its consolidated financial statements.

In November 2016, the FASB issued ASU No. 2016-15,Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Paymentswhich addresses eight specific cash flow issues: Debt prepayment or debt extinguishment costs; settlement of zero-coupon debt instruments or other debt instruments with coupon interest rates that are insignificant in relation to the effective interest rate of the borrowing; contingent consideration payments made after a business combination; proceeds from the settlement of insurance claims; proceeds from the settlement of corporate-owned life insurance policies (COLIs) (including bank-owned life insurance policies (BOLIs)); distributions received from equity method investees; beneficial interests in securitization transactions; and separately identifiable cash flows and application of the predominance principle. This guidance will be effective for the Group for fiscal year ending December 31, 2018, and early adoption is permitted. The Group is evaluating the effect that this guidance will have on its consolidated financial statements.

In November 2016, the FASB issued ASU No. 2016-18,Statement of Cash Flows (Topic 230): Restricted Cashwhich requires that the statement of cash flows explain the change during the period in the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. Therefore, amounts generally described as restricted cash and restricted cash equivalents should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. This guidance will be effective for the Group for fiscal year ending December 31, 2018, and early adoption is permitted. The Group is evaluating the effect that this guidance will have on its consolidated financial statements.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

CONCENTRATION OF RISKS

(a)

Credit risk

Financial instruments that potentially subject the Company to significant concentrations of credit risk consist primarily of cash and cash equivalents and restricted cash, accounts receivable, accounts receivable from related parties and receivable from MVNO franchisees. As of December 31, 2014 and 2015, the aggregate amount of cash and cash equivalents and restricted cash of US$7,132 and US$6,634, respectively, were held at major financial institutions located in the PRC, and US$7,276 and US$1,923, respectively, were deposited with major financial institutions located outside the PRC. Management believes that these financial institutions are of high credit quality and continually monitors the credit worthiness of these financial institutions. Historically, deposits in Chinese banks are secure due to the state policy on protecting depositors’ interests. However, China promulgated a new Bankruptcy Law in August 2006 that came into effect on June 1, 2007, which contains a separate article expressly stating that the State Council may promulgate implementation measures for the bankruptcy of Chinese banks based on the Bankruptcy Law. Under the new Bankruptcy Law, a Chinese bank may go into bankruptcy. In addition, since China’s concession to the World Trade Organization, foreign banks have been gradually permitted to operate in China and have been significant competitors against Chinese banks in many aspects, especially since the opening of the Renminbi business to foreign banks in late 2006. Therefore, the risk of bankruptcy of those Chinese banks in which the Company has deposits has increased. In the event of bankruptcy of one of the banks which holds the Company’s deposits, it is unlikely to claim its deposits back in full since it is unlikely to be classified as a secured creditor based on PRC laws.

Accounts receivable, accounts receivable from related parties and receivable from MVNO franchisees are both typically unsecured, and are derived from revenues earned from customers. The risk is mitigated by credit evaluations the Group performs on its ongoing credit evaluations of its customers’ financial conditions and ongoing monitoring process of outstanding balances. The Group maintains reserves for estimated credit losses and these losses have generally been within expectations.

(b)

Business supplier, customer, and economic risk

The Group participates in a dynamic and competitive high technology industry and believes that changes in any of the following areas could have a material adverse effect on the Group’s future financial position, results of operations or cash flows: changes in the overall demand for services; competitive pressures due to new entrants; advances and new trends in new technology; control of telecommunication infrastructures by local regulators and industry standards; strategic relationships or customer relationships; regulatory considerations; and risks associated with the Group’s ability to attract and retain employees necessary to support its growth.

(i) Business supplier risk – The Group’s MVNO operations are dependent upon telecommunication resources provided by China Unicom. There is no guarantee that the supply of telecommunication resources provided by China Unicom will be renewed annually. Further, there is no guarantee around the continuance of the MVNO license granted by the PRC government Ministry of Industry and Information Technology which may be amended or discontinued in light of changes to political, economic and social reforms.

(ii) Customer risk – The success of the Group’s business going forward will rely in part on Group’s ability to continue to obtain and expand business from existing customers while also attracting new customers. The Group has a diversified base of customers covering its services and the revenue from the largest single customer accounted for 18% and 9% of the Group’s total net revenues for the two years ended December 31, 2014 and 2015, respectively, and the accounts receivable from the largest single customer accounted for 1% and 50% of the Group’s total accounts receivable and accounts receivable from related parties for the years ended December 31, 2014 and 2015, respectively.

(iii) Economic risk – The Group’s operations could 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 20 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 PRC political, economic and social conditions. There is also no guarantee that the PRC government’s pursuit of economic reforms will be consistent or effective.

(c) Foreign currency exchange rate risk

From July 21, 2005, the RMB is permitted to fluctuate within a narrow and managed band against a basket of certain foreign currencies. The appreciation of the US$ against RMB was approximately 0.4% and 6.1% in the years ended December 31, 2014 and 2015, respectively. The appreciation of the US$ against Rupee was approximately 2.3% and 4.7% in the years ended December 31, 2014 and 2015, respectively.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

4.	BUSINESS ACQUISITION

On July 11, 2014, Big Cloud Network, the VIE of the Company, acquired the controlling interest represented by 79% of the equity interest in Yuantel Investment, for an aggregate purchase price of US$7,354. Of the aggregate US$3,677 purchase price, was injected into Yuantel Investment in 2014 and 2015, respectively.

The Company entered into a new business, MVNO business in the PRC as a result of the acquisition.

The following table summarizes the fair values of the assets acquired and liabilities assumed and the noncontrolling interest at the date of acquisition on July 11, 2014.

	USD’000

Current assets		7,976
Other non-current assets		182
Property and equipment, net		121
Purchased software		50
MVNO license		9,560
Deferred tax assets, non-current		165

Total identifiable assets acquired		18,054

Short-term borrowings		(817	)
Accounts payable		(620	)
Deferred revenue - current		(5,669	)
Other current liabilities		(648	)
Deferred tax liability, non-current		(2,103	)

Total liabilities assumed		(9,857	)

Net identifiable assets acquired		8,197

NCI measured at fair value		1,629
Goodwill		786
Purchase consideration (i)		7,354

(i) US$ 3,677 cash consideration was paid in 2014

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

4.	BUSINESS ACQUISITIONS (CONTINUED)

The determination and allocation of fair values to the identifiable assets acquired, liabilities assumed and noncontrolling interests is based on various assumptions and valuation methodologies requiring considerable judgment from management. The most significant variables in these valuations are discount rates, terminal values, the number of years on which to base the cash flow projections, as well as the assumptions and estimates used to determine the cash inflows and outflows. The US$9,560 of acquired intangible asset is the MVNO license with an estimated useful life of ten years. The Group performed the valuation of the MVNO license with the assistance of an independent third party valuation firm. The fair value of the license was determined based on the income approach, using assumptions including discount rate of 20.5% considering risk inherent in the existing MVNO business model and industry comparisons. Terminal value is based on the expected life of asset of ten years, and forecasted cash flows over that period. The ten-year cash flow projection was derived taking into consideration of actual operating results and management best estimates about future developments as well as certain industry and regulatory expectations.

The goodwill recognized is attributable primarily to anticipated future growth within the Company’s MVNO business. None of the goodwill is expected to be deductible for income tax purposes. For the years ended December 31, 2014 and 2015, there were no changes in the recognized amounts of goodwill.

The fair value of the 21% noncontrolling interest was estimated to be US$1,629. The fair value of the noncontrolling interest was estimated by deriving the fair value of the acquired business including a control premium as a whole and then subtracting the considerations transferred. The fair value of the acquired business was estimated using the income approach. As Yuantel Investment is a private entity, the fair value measurement is based on significant inputs that are not observable in the market and thus represents a Level 3 measurement as defined in ASC 820 Fair value measurement. The fair value estimates are based on a discount rate of 20.5%, long-term sustainable growth rate of 3%, financial multiples of companies in the same industry and adjustment for the lack of marketability that market participants would consider when estimating the fair value of the Yuantel Investment.

5.	INVENTORIES

Inventories consisted of the following as of December 31, 2014 and 2015:

	As of December 31,
	2014			2015
	US$			US$

Raw materials		1,800			4,004
Goods in transit		378			291
Work in process		2			1,307
Finished goods		1,047			1,771

Less: Provision		(1,037	)		(1,109	)

Inventories, net		2,190			6,264

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

6.	PREPAID EXPENSES AND OTHER CURRENT ASSETS

Prepaid expenses and other current assets consist of the following:

	As of December 31,
	2014		2015
	US$		US$

Staff advances		214		253
Receivable from a third party payment platform		264		-
Rental and other deposits		841		823
VAT recoverable		2,072		1,676
Loan to a third party		-		473
Others		8		-

		3,399		3,225

7.	PROPERTY AND EQUIPMENT, NET

Property and equipment consist of the following:

	As of December 31,
	2014			2015
	US$			US$
At cost:
Leasehold improvements		949			894
Computer and network equipment		5,250			5,800
Office equipment		843			784
Motor vehicles		36			171
		7,078			7,649
Less: accumulated depreciation		(4,591	)		(5,399	)

		2,487			2,250

Depreciation expense was US$1,373 and US$1,371 for the years ended December 31, 2014 and 2015, respectively, and were included in the following captions:

	For the year ended December 31,
	2014		2015
	US$		US$

Cost of revenues		541		472
Sales and marketing expenses		83		54
General and administrative expenses		66		144
Research and development expenses		683		701

		1,373		1,371

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

8.	INTANGIBLE ASSETS, NET

The following table presents the Group’s intangible assets as of the respective balance sheet dates:

	Software			Capitalized software development costs			MVNO License (Note 4)			Total
	US$			US$			US$			US$

Balance as of January 1, 2014		45			-			-			45
Additions		742			-			9,560			10,302
Amortization expense		(116	)		-			(478	)		(594	)

Balance as of December 31, 2014		671			-			9,082			9,753
Additions		1,871			3,304			-			5,175
Amortization expense		(170	)		(38	)		(901	)		(1,109	)
Foreign currency translation difference		(35	)		-			(522	)		(557	)

Balance as of December 31, 2015		2,337			3,266			7,659			13,262

The intangible assets are amortized using the straight-line method, which is the Group’s best estimate of how these assets will be economically consumed over their respective estimated useful lives of 3-10 years.

Amortization expense was approximately US$594 and US$1,109 for the years ended December 31, 2014 and 2015, respectively.

The annual estimated amortization expenses for the intangible assets for each of the next five years are as follows:

	US$

2016		2,241
2017		2,219
2018		2,083
2019		1,077
2020		1,077

		8,697

9.	GOODWILL

The changes in the carrying amount of goodwill were as follows:

	As of December 31,
	2014		2015
	US$		US$

Balance as of January 1		-		786
Goodwill acquired		786		-
Foreign currency translation difference		-		(45	)

Balance as of December 31		786		741

No impairment charge was recorded in any of the two years ended December 31, 2014 and 2015.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

10.

BANK BORROWINGS

Bank borrowings are as follows as of the respective balance sheet dates:

	As of December 31,
	2014		2015
	US$		US$

Short-term bank borrowings		2,817		2,000
Long-term bank borrowings, current portion		-		571
		2,817		2,571

Long-term bank borrowings, non-current portion		-		381

Total bank borrowings		2,817		2,952

The short-term bank borrowings outstanding as of December 31, 2014 and 2015 bore a weighted average interest rate of 7.16% and 7.03% per annum, respectively, and were denominated in RMB & US$. These borrowings were obtained from financial institutions and have terms of three months to one year. The long-term bank borrowings (including current portion) outstanding as of December 31, 2015 bore a weighted average interest rate of 2.65%, and were denominated in US$. These borrowings were obtained from financial institutions located in the PRC and Hong Kong, and have a term of 1.5 years.

Bank borrowings as of December 31, 2014 and 2015 were unsecured.

11.

ACCRUED EXPENSES AND OTHER PAYABLES

The components of accrued expenses and other payables are as follows:

	As of December 31,
	2014		2015
	US$		US$

Payroll and welfare payable		2,631		2,811
Accrued royalty		925		900
VAT, business and other taxes payable		202		343
Payables for office supply and utility		272		419
Payables for purchase of property and equipment		-		462
Professional service fees		-		228
Deposits from agents		101		1,068
Others		36		32
		4,167		6,263

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

12.

DEFERRED GOVERNMENT GRANTS

The government grants received are required to be used in the construction of property and equipment. These grants are initially deferred and subsequently recognized in the statement of operations when the Group has complied with the conditions or performance obligations attached to the related government grants, if any, and the grants are no longer refundable. Grants that subsidize the construction cost of property and equipment are amortized over the life of the related assets as a non-operating income.

	For the year ended December 31,
	2014			2015
	US$			US$

Balance at beginning of the year		7,490			7,316
Additions		817			-
Recognized as other operating income		(964	)		(2,880	)
Foreign currency translation difference		(27	)		(422	)
Balance at end of the year		7,316			4,014

13.

ACCUMULATED OTHER COMPREHENSIVE LOSS

The changes in accumulated other comprehensive loss, net of tax of nil, are as follows:

	Foreign currency translation			Total
	US$			US$
Balance as of January 1, 2014		213			213
Current year other comprehensive loss		(74	)		(74	)
Balance as of December 31, 2014		139			139
Current year other comprehensive loss		(1,288	)		(1,288	)
Balance as of December 31, 2015		(1,149	)		(1,149	)

14.

MAINLAND CHINA EMPLOYEE CONTRIBUTION PLAN

As stipulated by the regulations of the PRC, full-time employees of the Group in the PRC participate in a government-mandated multiemployer defined contribution plan organized by municipal and provincial governments. Under the plan, certain pension benefits, medical care, unemployment insurance, employee housing fund and other welfare benefits are provided to employees. The Group is required to make contributions to the plan based on certain percentages of employees’ salaries. The total expenses the Group incurred for the plan were US$2,629 and US$2,238, respectively, for the years ended December 31, 2014 and 2015.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

15.

SHARE BASED COMPENSATION

(a)

Share-based awards under the 2007 Plan

In order to provide additional incentives to employees and to promote the success of the Company’s business, the Company adopted a share incentive plan in (the “2007 Plan”) December 2007, which was last amended in February 2011. The 2007 Plan allows the Company to grant options to employees, directors, consultants or members of the board of directors of the Group. Under the 2007 Plan, the maximum aggregate number of shares that may be issued shall not exceed 38,700,000. The terms of the options shall not exceed ten years from the date of grant. 25% of the shares subject to the options shall vest on the first anniversary of the vesting commencement date, and 1/48 of the shares subject to the options shall vest each month thereafter over the next three years, provided the optionee continues to be a service provider to the Company. Thus, there is an explicit service condition of 4 years. In addition, the options contain a performance condition whereby vesting will commence upon the earlier to occur of an initial public offering or a change in control as defined in the 2007 Plan, provided there is continued employment of the optionees on such date.

In the years ended December 31, 2014 and 2015, the Company granted 6,031,270 and 6,425,190 shares of options, respectively, to purchase ordinary shares to employees, officers, and directors with the exercise price of $0.459 per share.

The following table summarizes the Company’s option activities under the 2007 Plan:

	Number of options		Weighted average exercise price		Weighted average remaining contractual term		Aggregate intrinsic value
			(US$)		(Years)		(US$)

Outstanding, January 1, 2014		34,797,968		0.24		6.85		308
Granted		7,031,270		0.46
Forfeited		12,274,608		0.30

Outstanding, December 31, 2014		29,554,630		0.27		6.88		308

Vested and expect to vest at December 31, 2014		29,554,630		0.27		6.88		308

Outstanding, January 1, 2015		29,554,630		0.27		6.88		308
Granted		6,525,190		0.46
Forfeited		4,042,580		0.36

Outstanding, December 31, 2015		32,037,240		0.30		5.26		308

Vested and expect to vest at December 31, 2015		32,037,240		0.30		5.26		308

As of December 31, 2015, no options were vested and exercisable given the performance condition in place described above. Historically, compensation cost related to performance options that only vest upon the consummation of an initial public offering or change in control event was recognized when the offering or change in control event was consummated. Accordingly, the Group has not recognized any compensation cost to date.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

15.

SHARE BASED COMPENSATION (CONTINUED)

The aggregate intrinsic value is calculated as the difference between the exercise price of the underlying awards and the fair value of the underlying stock at each reporting date, for those awards that have an exercise price below the estimated fair value of the Company’s shares.

As of December 31, 2014 and 2015, the Company had options outstanding to purchase an aggregate of 5,500,000 shares and 5,500,000 shares with an exercise price below the fair value of the Company’s shares, resulting in an aggregate intrinsic value of US$308 and US$308, respectively.

The Company calculated the estimated fair value of the options on the respective grant dates using the binomial-lattice option valuation model with the following assumptions for each applicable period which takes into account variables such as volatility, dividend yield, and risk-free interest rate, contractual term of the option, the probability that the option will be exercised prior to the end of its contractual life, and the probability of termination or retirement of the option holder in computing the value of the option.

	Year 2014			Year 2015

Risk-free interest rates		2.31%-2.34%			1.95%-2.28%
Expected life (years)		10 years			10 years
Expected volatility		41%-47%			40%-45%
Expected dividend yield		0	%		0	%
Exercise multiple		2.20			2.20
Post-vesting forfeit rate		10	%		10	%
Fair value of underlying ordinary shares		US$0.086-US$0.106			US$0.158-US$0.231
Fair value of share option		US$0.008-US$0.028			US$0.026-US$0.096

(b)

Restricted Share Units

On February 17, 2012, the Company issued 800,000 ordinary shares to certain employees at a price of US$0.1375 per share for total cash proceeds of US$110,000. All of the 800,000 ordinary shares were subject to transfer restrictions and repurchase by the Company upon termination of employment at issuance price before the service condition is fulfilled. At grant date, ¼ of total number of shares were not subject to repurchase, and vested immediately. The remaining shares were subject to repurchase and vested over a service term of three years. The US$110,000 received upon issuance of the shares was initially recorded as a liability and reclassified to equity upon vesting. Shares subject to repurchase prior to vesting were excluded from outstanding ordinary shares.

Compensation expense related to restricted shares was immaterial and nil as of December 31, 2014 and 2015.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

16. TAXATION

Enterprise income tax (“EIT”)

Cayman Islands

The Company is incorporated in the Cayman Islands and conducts its primary business operations through the subsidiaries and VIEs in the PRC, India and Hong Kong. Under the current laws of the Cayman Islands, the Company is not subject to tax on income or capital gains.

Hong Kong

BORQS HK is subject to Hong Kong profits tax rate of 16.5% for the years ended December 31, 2014 and 2015. No provision for BORQS HKD profits tax has been made in the consolidated financial statements as the entity had losses in the years ended December 31, 2014 and 2015.

India

BORQS INDIA is subject to income tax rate of 32.45% for the years ended December 31, 2014 and 2015. Amounts of US$336 and US$1,158 are included as current income tax expense for the years ended December 31, 2014 and 2015, respectively.

The PRC

The Company’s PRC subsidiaries are incorporated in the PRC and subject to PRC EIT on the taxable income in accordance with the relevant PRC income tax laws.

Effective January 1, 2008, the statutory corporate income tax rate is 25%, except for certain entities eligible for preferential tax rates.

BORQS Beijing was qualified for a High and New Technology Enterprises (“HNTE”) since 2012 and is eligible for a 15% preferential tax rate from 2012 to 2014. In July 2015, BORQS Beijing obtained a new HNTE certificate, which will expire in July 2018. In accordance with the PRC Income Tax Laws, an enterprise awarded with the HNTE status may enjoy a reduced EIT rate of 15%. For the years ended December 31, 2014 and 2015, BORQS Beijing enjoyed a preferential tax rate of 15%.

Yuantel Telecom was qualified for a High and New Technology Enterprises (“HNTE”) since 2011 and is eligible for a 15% preferential tax rate from 2011 to 2013. In October 2014, Yuantel Telecom obtained a new HNTE certificate, which will expire in October 2017. In accordance with the PRC Income Tax Laws, an enterprise awarded with the HNTE status may enjoy a reduced EIT rate of 15%. For the years ended December 31, 2014 and 2015, Yuantel Telecom enjoyed a preferential tax rate of 15%.

The Company’s other PRC subsidiaries were subject to EIT at a rate of 25% for the years ended December 31, 2014 and 2015.

The New EIT Law also provides that enterprises established under the laws of foreign countries or regions and whose “place of effective management” is located within the PRC are considered PRC tax resident enterprises and subject to PRC income tax at the rate of 25% on worldwide income. The definition of “place of effective management” refers to an establishment that exercises, in substance, overall management and control over the production and business, personnel, accounting, properties, etc. of an enterprise. As of December 31, 2015, no detailed interpretation or guidance has been issued to define “place of effective management”. Furthermore, as of December 31, 2015, the administrative practice associated with interpreting and applying the concept of “place of effective management” is unclear. If the Company is deemed as a PRC tax resident, it would be subject to PRC tax under the New CIT Law. The Company will continue to monitor changes in the interpretation or guidance of this law.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

16.

TAXATION (CONTINUED)

(Loss) profit before income taxes consists of:

	For the year ended December 31,
	2014			2015
	US$			US$

Non-PRC		(8,004	)		3,241
PRC		27			(1,595	)

		(7,977	)		1,646

Income tax expense comprises of:

	For the year ended December 31,
	2014			2015
	US$			US$

Current		(241	)		(1,389	)
Deferred		47			538

		(194	)		(851	)

The reconciliation of tax computed by applying the statutory income tax rate of 25% for the years ended December 31, 2014 and 2015 applicable to the PRC operations to income tax expense is as follows:

	For the year ended December 31,
	2014			2015
	US$			US$

(Loss) profit before income taxes		(7,977	)		1,646

Income tax benefit (expense) computed at the statutory income tax rate at 25%		1,994			(412	)
Non-deductible expenses		(170	)		(166	)
Non-taxable income		-			742
Preferential rate		623			(423	)
Current and deferred tax rate differences		-			790
Tax loss expired		(426	)		-
Foreign rate differences		(825	)		(292	)
Change of valuation allowance		(1,267	)		(1,643	)
Unrecognized tax benefits		(123	)		558
Interest expense		-			(5	)

Income tax expense		(194	)		(851	)

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

16.

TAXATION (CONTINUED)

Deferred Taxes

The significant components of deferred taxes are as follows:

	As of December 31,
	2014			2015
	US$			US$
Deferred tax assets
Inventories provision		155			166
Accrued salary and welfare payable		24			107
Property and equipment		36			46
Tax losses		8,571			10,901
Valuation allowance		(8,503	)		(10,146	)
Total deferred tax assets		283			1,074

Deferred tax liabilities
Intangible assets		2,032			1,779

Total deferred tax liabilities		2,032			1,779

As of December 31, 2015, the Company had net tax operating losses from its PRC subsidiaries and its Consolidated VIEs, as per filed tax returns, of US$50,657, which will expire from 2016 to 2020.

As of December 31, 2015, the Company intends to permanently reinvest the undistributed earnings from its foreign subsidiaries and the Consolidated VIEs to fund future operations. The amount of unrecognized deferred tax liabilities for temporary differences related to investments in foreign subsidiaries and the Consolidated VIEs is not determined because such a determination is not practicable.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

16.

TAXATION (CONTINUED)

Unrecognized Tax Benefits

As of December 31, 2014 and 2015, the Company recorded an unrecognized tax benefits of US$620 and US$2,177, respectively, of which, US$574 and US$1,491, respectively, are presented on a net basis against the deferred tax assets related to tax loss carry forwards on the consolidated balance sheets. The unrecognized tax benefits and its related interest are primarily related to under-reported intercompany profit. The amount of unrecognized tax benefits will change in the next 12 months, pending clarification of current tax law or audit by the tax authorities, however, an estimate of the range of the possible change cannot be made at this time. As of December 31, 2014 and 2015, unrecognized tax benefits of US$46 and US$686, if ultimately recognized, will impact the effective tax rate.

A roll-forward of unrecognized tax benefits is as follows:

	For the year ended December 31,
	2014		2015
	US$		US$

Balance at beginning of year		-		620
Additions based on tax positions related to the current year		620		1,557

Balance at end of year		620		2,177

In the years ended December 31, 2014 and 2015, the Company recorded interest expense accrued in relation to the unrecognized tax benefit of nil and US$5 in income tax expense, respectively. Accumulated interest expense recorded by the Company was nil and US$5 as of December 31, 2014 and 2015, respectively. As of December 31, 2015, the tax years ended December 31, 2010 through 2015 for the PRC subsidiaries and the VIE remain open for statutory examination by the PRC tax authorities.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

17.

RELATED PARTY TRANSACTIONS

(a)

Related parties

	Names of related parties		Relationship with the Company
	Intel Capital Corporation (“Intel”) and its affiliates		Intel is a holder of Series C Preference Shares

(b)

Other than disclosed elsewhere, the Company had the following significant related party transactions for the years ended December 31, 2014 and 2015:

	For the year ended December 31,
	2014		2015
	US$		US$
Software services provided to:
Intel Semiconductor (US) Ltd		540		-
Intel Corporation		5,148		6,204
Intel Korea Limited		1,337		-
Intel Asia-Pacific Research and Development Ltd		1,618		328

Hardware sold to:
Intel Corporation		20		55

(c)

The Company had the following related party balances as of December 31, 2014 and 2015:

	As of December 31,
	2014		2015
	US$		US$
Accounts receivable from related parties:
Current:
Intel Corporation		-		5,949
Intel (China) Co., Ltd.		55		5
Intel Asia-Pacific Research and Development Ltd		77		44

All balances with the related parties as of December 31, 2014 and 2015 were unsecured, interest-free and have no fixed terms of repayment.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

18	RESTRICTED NET ASSETS

The Company’s ability to pay dividends is primarily dependent on the Company receiving distributions of funds from its subsidiaries. Relevant PRC statutory laws and regulations permit payments of dividends by the Company’s PRC subsidiaries only out of their retained earnings, if any, as determined in accordance with PRC accounting standards and regulations. The results of operations reflected in the consolidated financial statements prepared in accordance with U.S. GAAP differ from those reflected in the statutory financial statements of the Company’s PRC subsidiaries.

In accordance with the PRC Regulations on Enterprises with Foreign Investment and the articles of association of the Company’s PRC subsidiaries, a foreign-invested enterprise established in the PRC is required to provide certain statutory reserves, namely general reserve fund, the enterprise expansion fund and staff welfare and bonus fund which are appropriated from net profit as reported in the enterprise’s PRC statutory accounts. A foreign-invested enterprise is required to allocate at least 10% of its annual after-tax profit to the general reserve until such reserve has reached 50% of its respective registered capital based on the enterprise’s PRC statutory accounts. Appropriations to the enterprise expansion fund and staff welfare and bonus fund are at the discretion of the board of directors for all foreign-invested enterprises. The aforementioned reserves can only be used for specific purposes and are not distributable as cash dividends. Borqs Beijing was established as foreign-invested enterprise and, therefore, is subject to the above mandated restrictions on distributable profits. As of December 31, 2014 and 2015, the Company’s PRC subsidiaries had appropriated US$860 and US$1,270, respectively, in its statutory reserves.

As a result of these PRC laws and regulations subject to the limit discussed above that require annual appropriations of 10% of after-tax income to be set aside, prior to payment of dividends as general reserve fund, the Company’s PRC subsidiaries are restricted in their ability to transfer a portion of their net assets to the Company. Amounts restricted include paid-in capital and statutory reserve funds of the Company’s PRC subsidiaries and the equity of the Consolidated VIEs, as determined pursuant to PRC generally accepted accounting principles, totaling an aggregate of US$72,212 as of December 31, 2015.

19.

SHARE CAPITAL

Authorized capital

On August 15, 2014, the Group increased the authorized shares of the Group from US$455,584 to US$514,888 divided into 309,651,804 ordinary shares at par value of $0.001 per share, 40,000,000 Series A redeemable convertible preference shares, 82,857,143 Series B redeemable convertible preference shares, 52,727,271 Series C redeemable convertible preference shares and 29,651,804 Series D redeemable convertible preference shares, all at par value of $0.001 per share.

Ordinary share reserved for future issuance

The Group has reserved the following shares of ordinary shares for issuance at December 31, 2015, in connection with the following:

	Conversion of series A convertible redeemable preference shares			39,900,000
	Conversion of series B convertible redeemable preference shares			82,857,143
	Conversion of series C convertible redeemable preference shares			50,909,089
	Conversion of series D convertible redeemable preference shares			23,721,443
	Ordinary shares options outstanding			34,590,097
	Ordinary shares options available for future grants under the 2007 Plan			4,109,903

	Total			236,087,675

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

20.

CONVERTIBLE CONTINGENTLY REDEEMABLE PREFERRED SHARES

On December 27, 2007, March 17, 2008, September 26, 2008 and October 8, 2008, the Company issued 19,800,000, 3,100,000, 12,000,000 and 5,000,000 Series A convertible redeemable preference shares (the “Series A Preference Shares”), respectively, to certain external investors at a price of $0.20 per share for a total cash consideration of $7,980. The cash proceeds received was $7,889, net of issuance costs of $91.

On June 26, 2009, August 19, 2009 and October 12, 2009, the Company issued 64,285,715,15,000,000 and 3,571,428 Series B convertible redeemable preferred shares (the “Series B Preference Shares”), respectively, to certain external investors at a price of $0.21 per share for a total consideration of $17,400 (includes cash proceeds of $14,400 and $3,000 upon conversion of convertible notes). The cash proceeds received was $14,242, net of issuance costs of $158.

On February 14, 2011 and May 24, 2012, the Company issued 38,181,817 and 5,454,545 Series C convertible redeemable preference shares (the “Series C Preference Shares”), to certain external investors at the price of $0.275 per share for a total cash consideration of $12,000. The cash proceeds received was $11,817, net of issuance costs of $183.

On August 20, 2014 the Company issued 23,721,443 Series D convertible redeemable preference shares (the “Series D Preference Shares”), to certain external investors at the price of $0.33725 per share for a total cash consideration of $8,000. The cash proceeds received was $7,874, net of issuance costs of $126.

The significant terms of the Series A, Series B, Series C, and Series D convertible redeemable preference shares (together “Preference Shares”) are summarized as follows.

Conversion

Preference Shares can be converted into ordinary shares at the option of the holder at any time by dividing the applicable original purchase price by the applicable conversion price which is initially equal to the original purchase price and as such, the initial conversion ratio for each Preference Share into each ordinary share shall be one-for-one.

Preference Shares shall automatically be converted into ordinary shares at the then-effective conversion rate applicable to the relevant series of Preference Shares: (a) in the event of the closing of a Qualified IPO; or (b) in relation only to Series A and Series B Preference Shares, upon the approval and written consent of a majority of the outstanding Series A and Series B Preference Shares holders to convert their respective Preference Shares into ordinary shares.

The conversion price is subject to additional adjustments if the Company makes certain dilutive issuances of shares.

Dividends

Series D Preference Shares shall receive dividends at an annual rate of six percent (6%) of the original purchase price in preference and priority to any dividends on the Series A, Series B, Series C Preference Shares and ordinary shares. Dividends on Series D Preference Shares shall be cumulative whether declared by the Board of Directors or not.

Each holder of Series A, Series B and Series C Preference Shares is entitled to receive non-cumulative dividends when and if declared by the Board of Directors of the Company in preference and priority to any dividends on ordinary shares, after all accumulated dividends on the Series D Preferred shares have been paid or set aside for payment to the holders of Series D Preferred Shares in a calendar year.

Any additional dividends declared, after all accumulated dividends and declared dividends on the Preference Shares have been paid or set aside for payment to the holders of Preference Shares in a calendar year, shall be distributed among all holders of ordinary shares and Preference Shares.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

20.

CONVERTIBLE CONTINGENTLY REDEEMABLE PREFERRED SHARES (CONTINUED)

Redemption

The earliest redemption date of Series A Preference Shares is at any time after the sixth anniversary of the first issuance date of Series A Preference Shares.

All outstanding Series B, Series C, and Series D Preference Shares can be redeemed at the election of the majority holders at any time after the earlier of (A) the fifth anniversary of the first issuance date of the respective Series B, Series C or Series D Preference Shares, and (B) the date on which the Company redeems Series A, Series B, or Series C Preference Shares. Any holder of Series A Preference Shares who is also a holder of Series B Preference Shares must redeem its Series B Preference Shares together with its Series A Preference Shares.

Series A and Series B Preference Shares can also be redeemed at the option of the holders when Intel has elected to redeem all of its Series C Preferred Shares for investigation or for breach as defined in the Memorandum of Association and Articles of Association.

Prior to Series D Preference Shares become available under (A) and (B) above, all outstanding Series D Preference Shares can be redeemed at any time of a holder of Series D Preferred Shares’ election to redeem for breach event or to redeem for investigation and opinion of auditor event as defined in the Memorandum of Association and Articles of Association.

Preference Shares are redeemed at a price equal to 150% the original purchase price plus any unpaid declared dividends. The redemption price for Preference Shares under the event of Intel’s election to redeem for investigation or a holder of Series D Preferred Shares’ election to redeem for investigation and opinion of auditor is set to be 100% of the original purchase price and 150% of the original purchase price under the event of a holder of Preferred Shares’ election to redeem for breach.

Winding up / Liquidation

In the event of any liquidation, dissolution, or winding up of the Company, either voluntary or involuntary, distributions to the shareholders of the Company shall be made as stated below.

The holders of Series D Preference Shares then outstanding are entitled to be paid first out of the assets of the Company available for distribution a liquidation preference in an amount per Preference Share equal to the sum of (i) 150% of the original purchase price as adjusted and (ii) all unpaid accumulated dividends, in priority to any other holders of Preference Shares or ordinary shares.

Upon full payment of the Series D Preference Share liquidation preference, the holders of Series A, Series B and Series C Preference Shares then outstanding shall be entitled to be paid first out of the assets of the Company available for distribution (and prior and in preference to any payment on the ordinary shares) a liquidation preference in an amount per Series A, Series B and Series C Preference Share equal to the sum of (i) the original purchase price applicable to such Preference Share as adjusted and (ii) all unpaid declared dividends. The holders of Series C Preference Shares shall receive their liquidation preference amount in preference to holders of Series A and Series B Preference Shares. Subject to the prior payment of all amounts due to the holders of Preference Shares, the balance of all remaining assets available for distribution are made with equal priority and pro rata amongst the holders of ordinary shares and the holders of Preference Shares on an as–converted basis.

Voting

Each share of Preference Share has voting rights equal to an equivalent number of shares of ordinary shares into which it is convertible and votes together as one class with the ordinary shares. All directors of the Company’s board of directors are elected by the holders of the outstanding ordinary shares and the Preference Shares, voting together as a single class on an as-converted basis.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

20.

CONVERTIBLE CONTINGENTLY REDEEMABLE PREFERRED SHARES (CONTINUED)

Accounting for convertible redeemable preference shares

The Preference Shares have been classified as mezzanine equity as they can be redeemed at the option of the holders. The initial carrying values of the Preference Shares are the total consideration received at their respective dates of issuance net of issuance costs. There were no embedded features that qualified for bifurcation and separate accounting in accordance with ASC 815-10Derivatives and Hedging.

As of December 31, 2014 and 2015, no dividend was declared by the Company. US$160 and US$640 of dividend was accumulated to the holders of the Series D Preferred Shares as of December 31, 2014 and 2015.

During the years ended December 31, 2014 and 2015, the Company recorded charges to accumulated deficit and mezzanine equity of US$2,848, and US$2,417, respectively, to accrete the carrying value of the Preference Shares to their redemption value.

21.

COMMITMENTS AND CONTINGENCIES

Operating lease commitments

The Company leases buildings in the PRC and India under non-cancelable operating leases expiring on different dates. For the years ended December 31, 2014 and 2015, total rental expenses for all operating leases amounted to US$ 1,204 and US$ 1,368, respectively.

As of December 31, 2015, the Company has future minimum lease payments under non-cancelable operating leases with initial terms in excess of one year in relation to office buildings consisting of the following:

	US$

2016		1,555
2017		517
2018		14
2019		5
2020 and thereafter		-

		2,091

Payments under operating leases are expensed on a straight-line basis over the periods of their respective leases.

Telecommunication resources purchase commitment

As of December 31, 2015, the Company had outstanding purchase commitments in relation to the purchase of telecommunication resources from China Unicom consisting of the following:

	US$

2016		18,480

Income Taxes

As of December 31, 2015, the Group recognized an accrual of US$691 for unrecognized tax benefits and its interest (Note 16). The final outcome of the tax uncertainty is dependent upon various matters including tax examinations, interpretation of tax laws or expiration of statutes of limitation. However, due to the uncertainties associated with the status of examinations, including the protocols of finalizing audits by the relevant tax authorities, there is a high degree of uncertainty regarding the future cash outflows associated with these tax uncertainties. As of December 31, 2015, the Company classified the accrual for unrecognized tax benefits as a non-current liability.

22.

SUBSEQUENT EVENTS

Other than disclosed in the financial statements, there are no significant subsequent events as of the date of the report when the financial statements are issued.

BORQS INTERNATIONAL HOLDING CORP

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

		Page

Consolidated Financial Statements for the Years Ended December 31, 2015 and 2016

Report of Independent Registered Public Accounting Firm		47

Consolidated Balance Sheets as of December 31, 2015 and 2016		48- 51

Consolidated Statements of Operations for the Years Ended December 31, 2015 and 2016		52

Consolidated Statements of Comprehensive (Loss) Income for the Years Ended December 31, 2015 and 2016		53

Consolidated Statements of Shareholders’ Deficit for the Years Ended December 31, 2015 and 2016		54 - 55

Consolidated Statements of Cash Flows for the Years Ended December 31, 2015 and 2016		56-57

Notes to the Consolidated Financial Statements		58- 92

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Shareholders of BORQS International Holding Corp

We have audited the accompanying consolidated balance sheets of BORQS International Holding Corp (the “Company”) as of December 31, 2015 and 2016, and the related consolidated statements of operations, comprehensive (loss) income, shareholders’ deficit and cash flows for each of the two years in the period ended December 31, 2016. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of BORQS International Holding Corp at December 31, 2015 and 2016, and the consolidated results of its operations and its cash flows for each of the two years in the period ended December 31, 2016, in conformity with U.S. generally accepted accounting principles.

Ernst & Young Hua Ming LLP

Shanghai, the People’s Republic of China

May 12, 2017

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED BALANCE SHEETS

(Amounts in thousands of US dollars (“US$”))

		As of December 31,
	Note	2015		2016
		US$		US$
ASSETS
Current assets:
Cash and cash equivalents			7,787		3,610
Restricted cash			770		1,153
Accounts receivable			6,068		28,257
Accounts receivable from related parties	(17)		5,998		490
Receivable from Mobile Virtual Network Operator (“MVNO”) franchisees			3,295		4,319
Inventories	(5)		6,264		12,682
Deferred cost of revenues			984		969
Prepaid and other current assets	(6)		3,225		6,599

Total current assets			34,391		58,079

Non-current assets:
Property and equipment, net	(7)		2,250		1,488
Intangible assets, net	(8)		13,262		15,498
Goodwill	(9)		741		693
Deferred tax assets	(16)		1,074		1,054
Deferred cost of revenues			177		689
Other non-current assets			1,184		529

Total non-current assets			18,688		19,951

Total assets			53,079		78,030

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED BALANCE SHEETS (CONTINUED)

(Amounts in thousands of US dollars (“US$”))

		As of December 31,
	Note	2015		2016
		US$		US$
LIABILITIES AND SHAREHOLDERS’ DEFICIT
Current liabilities:
Accounts payable (including accounts payable of the Consolidated VIEs without recourse to the primary beneficiary of US$3,747 and US$4,598 as of December 31, 2015 and 2016, respectively)			6,951		22,691
Accrued expenses and other payables (including accrued expenses and other payables of the Consolidated VIEs without recourse to the primary beneficiary of US$1,882 and US$2,778 as of December 31, 2015 and 2016, respectively)	(11)		6,263		7,634
Deferred revenue (including deferred revenue of the Consolidated VIEs without recourse to the primary beneficiary of US$11,425 and US$9,134 as of December 31, 2015 and 2016, respectively)			17,334		11,995
Income tax payable			165		847
Short-term bank borrowings (including short-term bank borrowings of the Consolidated VIEs without recourse to the primary beneficiary of nil and US$721 as of December 31, 2015 and 2016, respectively)	(10)		2,000		6,306
Long-term bank borrowings-current portion	(10)		571		1,381
Deferred government grants	(12)		1,762		264

Total current liabilities			35,046		51,118

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED BALANCE SHEETS (CONTINUED)

(Amounts in thousands of US dollars (“US$”))

		As of December 31,
	Note	2015		2016
		US$		US$
LIABILITIES AND SHAREHOLDERS’ DEFICIT
Non-current liabilities:
Unrecognized tax benefits	(16)		691		1,755
Warrant liabilities	(10)		-		1,344
Deferred tax liabilities (including deferred tax liabilities of the Consolidated VIEs without recourse to the primary beneficiary of US$1,779 and US$1,539 as of December 31, 2015 and 2016, respectively)	(16)		1,779		1,539
Deferred revenue			440		2,428
Long-term bank borrowings	(10)		381		4,491
Deferred government grants	(12)		2,252		1,844

Total non-current liabilities			5,543		13,401

Total liabilities			40,589		64,519

Commitments and contingencies	(22)

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED BALANCE SHEETS (CONTINUED)

(Amounts in thousands of US dollars (“US$”))

		As of December 31,
	Note	2015			2016
		US$			US$
LIABILITIES AND SHAREHOLDERS’ DEFICIT
Mezzanine equity:
Series A convertible redeemable preferred shares (US$0.001 par value; 39,900,000 shares authorized; 39,900,000 issued and outstanding as of December 31, 2015 and 2016)	(20)		11,970			11,970
Series B convertible redeemable preferred shares (US$0.001 par value; 82,857,143 shares authorized; 82,857,143 issued and outstanding as of December 31, 2015 and 2016)	(20)		26,126			26,126
Series C convertible redeemable preferred shares (US$0.001 par value; 50,909,089 shares authorized; 50,909,089 issued and outstanding as of December 31, 2015 and 2016)	(20)		20,848			21,069
Series D convertible redeemable preferred shares (US$0.001 par value; 23,721,443 shares authorized; 23,721,443 issued and outstanding as of December 31, 2015 and 2016)	(20)		8,942			9,697

Total mezzanine equity			67,886			68,862

Shareholders’ deficit:
Ordinary shares			54			54
Additional paid-in capital			1,124			1,124
Statutory reserve			1,270			1,898
Accumulated deficit			(56,330	)		(54,706	)
Accumulated other comprehensive loss	(13)		(1,149	)		(2,626	)

Total BORQS International Holding Corp shareholders’ deficit			(55,031	)		(54,256	)

Noncontrolling interest			(365	)		(1,095	)

Total shareholders’ deficit			(55,396	)		(55,351	)

Total liabilities, mezzanine equity, noncontrolling interest and shareholders’ deficit			53,079			78,030

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED STATEMENT OF OPERATIONS

(Amounts in thousands of US dollars (“US$”))

		For the year ended December 31,
	Note	2015			2016
		US$			US$
Net Revenues:
Software			22,468			14,912
Hardware			32,647			70,536
MVNO			16,007			29,309
Others			3,950			5,829

Total net revenues			75,072			120,586

Software			(12,660	)		(6,347	)
Hardware			(26,101	)		(57,452	)
MVNO			(16,225	)		(28,784	)
Others			(2,980	)		(1,709	)

Total cost of revenues			(57,966	)		(94,292	)

Total gross profit			17,106			26,294

Operating expenses:
Sales and marketing expenses			(7,359	)		(5,874	)
General and administrative expenses			(4,883	)		(10,042	)
Research and development expenses			(7,245	)		(6,886	)
Changes in the fair value of warrant liabilities			-			(12	)

Total operating expenses			(19,487	)		(22,814	)

Other operating income			3,094			1,760

Operating income			713			5,240

Interest income			61			65
Interest expense			(156	)		(797	)
Other income			208			114
Other expense			(35	)		(59	)
Foreign exchange gain			855			692

Profit before income taxes			1,646			5,255

Income tax expense	(16)		(851	)		(2,659	)

Net income			795			2,596

Less: net loss attributable to noncontrolling interests			(1,316	)		(632	)

Net income attributable to Borqs International Holding Corp			2,111			3,228

Add: accretion to redemption value of convertible redeemable preferred shares			(2,417	)		(976	)
Net (loss) income attributable to ordinary shareholders			(306	)		2,252

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED STATEMENT OF COMPREHENSIVE (LOSS) INCOME

(Amounts in thousands of US dollars (“US$”))

		For the year ended December 31,
	Note	2015			2016
		US$			US$
Net income			795			2,596
Other comprehensive loss, net of tax of nil:
Foreign currency translation adjustments, net of tax of nil			(1,288	)		(1,477	)
Other comprehensive loss, net of tax of nil	(13)		(1,288	)		(1,477	)
Comprehensive (loss) income			(493	)		1,119
Less: comprehensive loss attributable to noncontrolling interest			(1,519	)		(730	)
Comprehensive income (loss) attributable to Borqs International Holding Corp			1,026			1,849
Change in redemption value of convertible redeemable preferred shares			(2,417	)		(976	)
Comprehensive (loss) income attributable to ordinary shareholders			(1,391	)		873

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ DEFICIT

(Amounts in thousands of US dollars (“US$”) except for number of shares)

	Note	Number of ordinary shares		Ordinary shares		Additional paid-in capital		Accumulated statutory reserves		Accumulated other comprehensive loss			Accumulated deficit			Total BORQS International Holding Corp shareholders’ deficit			Noncontrolling interest			Total shareholders’ deficit

Balance as of January 1, 2015			54,016,667		54		1,120		860		139			(55,614	)		(53,441	)		1,154			(52,287	)
Consolidated net income					-		-		-		-			2,111			2,111			(1,316	)		795
Appropriation of statutory reserves					-		-		410		-			(410	)		-			-			-
Foreign exchange difference					-		-		-		(1,288	)		-			(1,288	)		(203	)		(1,491	)
Accretion to redemption value of convertible redeemable preferred shares					-		-		-		-			(2,417	)		(2,417	)		-			(2,417	)
Vesting of restricted shares			33,333		-		4		-		-			-			4			-			4

Balance as of December 31, 2015			54,050,000		54		1,124		1,270		(1,149	)		(56,330	)		(55,031	)		(365	)		(55,396	)

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ DEFICIT (CONTINUED)

(Amounts in thousands of US dollars (“US$”) except for number of shares)

	Note	Number of ordinary shares		Ordinary shares		Additional paid-in capital		Accumulated statutory reserves		Accumulated other comprehensive loss			Accumulated deficit			Total BORQS International Holding Corp shareholders’ deficit			Noncontrolling interest			Total shareholders’ deficit

Balance as of January 1, 2016			54,050,000		54		1,124		1,270		(1,149	)		(56,330	)		(55,031	)		(365	)		(55,396	)
Consolidated net income					-		-		-		-			3,228			3,228			(632	)		2,596
Appropriation of statutory reserves					-		-		628		-			(628	)		-			-			-
Foreign exchange difference					-		-		-		(1,477	)		-			(1,477	)		(98	)		(1,575	)
Accretion to redemption value of convertible redeemable preferred shares					-		-		-		-			(976	)		(976	)		-			(976	)

Balance as of December 31, 2016			54,050,000		54		1,124		1,898		(2,626	)		(54,706	)		(54,256	)		(1,095	)		(55,351	)

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Amounts in thousands of US dollars (“US$”))

	For the year ended December 31,
	2015			2016
	US$			US$

CASH FLOWS FROM OPERATING ACTIVITIES
Net income		795			2,596
Adjustments to reconcile net income to net cash generated from (used in) operating activities:
Foreign exchange gain		(855	)		(692	)
(Gain) loss on disposal of property and equipment		(350	)		1
Depreciation of property and equipment		1,371			1,011
Amortization of intangible assets		1,109			2,146
Deferred income tax benefits		(1,044	)		(220	)
Interest expense		-	��		352
Changes in the fair value of warrant liabilities		-			12

Changes in operating assets and liabilities, net of the effects of an acquisition:
Restricted cash		211			(383	)
Accounts receivable		6,830			(22,189	)
Accounts receivable from related parties		(5,866	)		5,508
Receivable from MVNO franchisees		(3,295	)		(1,024	)
Inventories		(4,074	)		(6,418	)
Deferred cost of revenues		2,469			(497	)
Prepaid expenses and other current assets		579			(3,175	)
Accounts payable		(742	)		15,740
Accrued expenses and other payables		2,100			1,371
Unrecognized tax benefits		645			1,064
Deferred revenue		4,888			(3,351	)
Income tax payable		165			682
Deferred government grants		(3,302	)		(1,906	)

Net cash generated from (used in) operating activities		1,634			(9,372	)

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)

(Amounts in thousands of US dollars (“US$”))

	For the year ended December 31,
	2015			2016
	US$			US$
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of property and equipment		(798	)		(494	)
Purchases of intangible assets		(5,175	)		(5,230	)
Proceeds from disposal of property and equipment		14			1
Loan to a third party		(1,482	)		-
Repayments of a loan to a third party		75			457

Net cash used in investing activities		(7,366	)		(5,266	)

CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from short-term bank borrowings		-			6,776
Repayments of short-term bank borrowings		(817	)		(2,000	)
Proceeds from long-term bank borrowings		999			6,000
Repayments of long-term bank borrowings		(47	)		(571	)
Net cash generated from financing activities		135			10,205

Effect of foreign exchange rate changes on cash and cash equivalents		(34	)		256

Net decrease in cash and cash equivalents		(5,631	)		(4,177	)
Cash and cash equivalents at beginning of year		13,418			7,787

Cash and cash equivalents at end of year		7,787			3,610

The accompanying notes are an integral part of these consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

1.	ORGANIZATION

(a)

As of December 31, 2016, the details of the Company’s major subsidiaries, Consolidated VIEs and the subsidiaries of the VIE are as follows:

Entity	Date of incorporation/ Acquisition	Place of incorporation	Percentage of direct or indirect ownership by the Company	Principal activities
			Direct
Subsidiaries:
BORQS Hong Kong Limited (“Borqs HK”)⁽¹⁾	July 19, 2007	Hong Kong	100%	Provision of software and service solutions and hardware products sales
BORQS Beijing Ltd. (“Borqs Beijing”)⁽¹⁾	September 4, 2007	PRC	100%	Provision of software and service solutions and hardware products sales
BORQS Software Solutions Private Limited (“Borqs India”)⁽¹⁾	July 17, 2009	India	100%	Provision of software and service solutions

VIE:

Beijing Big Cloud Network Technology Co., Ltd. (“Big Cloud Network”)^{(1) / (2)}	April 18, 2014	PRC	Nil	Holding company

Subsidiaries of the VIE:

Yuantel (Beijing) Investment Management Co., Ltd. (“Yuantel Investment”)^{(2) / (3)}	July 11, 2014	PRC	79%	Holding company
Yuantel (Beijing) Telecommunications Technology Co., Ltd. (“Yuantel Telecom”)^{(2) / (3)}	July 11, 2014	PRC	75.05%	Provision of MVNO services

(1)

Collectively, the “PRC Subsidiaries”.

(2)

Collectively, the “Consolidated VIEs”.

(3)

On July 11, 2014, the Company through Big Cloud Network acquired controlling interest in Yuantel Investment and its subsidiary, (Note 4).

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

1.	ORGANIZATION (CONTINUED)

(b)

The following is a summary of the key terms of the latest VIE Agreements:

Loan agreement

Borqs Beijing and the Nominee Shareholders entered into loan agreements for Borqs Beijing to provide interest free loans of RMB50,000 to the Nominee Shareholders, respectively, for the purpose of providing capital to Big Cloud Network to develop its MVNO business. There is no fixed term for the loans.

Power of attorney agreement

Exclusive option agreement

Pursuant to the exclusive option agreement entered into between the Nominee Shareholders and Borqs Beijing or its designated party, the Nominee Shareholders granted Borqs Beijing or its designated party, an irrevocable and exclusive right to purchase all or part of the equity interests held by the Nominee Shareholders in Big Cloud Network, to the extent permitted under the PRC laws, at an amount equal to RMB10 or the minimum consideration permitted under the applicable PRC law. The purchase consideration in excess of RMB10 shall be refunded by the Nominee Shareholders to Borqs Beijing or Borqs Beijing may deduct the excess amount upon payment of consideration. The Nominee Shareholders shall not declare dividend or any form of distribution or grant loans in any form without the prior consent of Borqs Beijing or its designated party. The term of the agreement is 10 years, expiring on June 22, 2024 which will be automatically renewed every three-year thereafter if Borqs Beijing or its designated party does not provide notice of termination to the Nominee Shareholders fifteen days prior to expiration.

Exclusive technical & support agreement

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

1.	ORGANIZATION (CONTINUED)

Business cooperation agreement

Share pledge agreement

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

ORGANIZATION (CONTINUED)

(c)

VIE disclosures

Consolidated VIEs contributed 27% and 29% of the Group's consolidated revenues for the years ended December 31, 2015 and 2016. As of December 31, 2015 and 2016, the Consolidated VIEs accounted for an aggregate of 40% and 23%, respectively, of the consolidated total assets, and 64% and 41%, respectively, of the consolidated total liabilities.

The following tables represent the financial information of the Consolidated VIEs as of December 31, 2015 and 2016 and for the years ended December 31, 2015 and 2016 before eliminating the intercompany balances and transactions between the Consolidated VIEs and other entities within the Group:

	As of December 31,
	2015		2016
	US$		US$

ASSETS
Current assets:
Cash and cash equivalents		2,455		414
Restricted cash		770		1,153
Accounts receivable		70		129
Receivable from MVNO franchisees		3,295		4,319
Inventories		145		67
Prepaid expenses and other current assets		347		926
Prepayment to WFOE		454		-

Total current assets		7,536		7,008

Non-current assets:
Property and equipment, net		876		987
Intangible assets, net		10,879		8,609
Goodwill		741		693
Deferred tax assets		1,074		1,054
Other non-current assets		196		58

Total non-current assets		13,766		11,401

Total assets		21,302		18,409

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

1.	ORGANIZATION (CONTINUED)

(c)

VIE disclosures (Continued)

	As of December 31,
	2015		2016
	US$		US$
Current liabilities:
Accounts payable		3,747		4,598
Accrued expenses and other payables		1,882		2,778
Deferred revenue		11,425		9,134
Short-term bank borrowings		-		721
Intercompany payables		6,969		7,923
Total current liabilities		24,023		25,154

Non-current liabilities
Deferred tax liabilities		1,779		1,539

Total non-current liabilities		1,779		1,539

Total liabilities		25,802		26,693

	For the Year Ended December 31,
	2015			2016
	US$			US$
Net revenues		19,957			35,138
Net loss		(5,029	)		(3,381	)

	For the Year Ended December 31,
	2015			2016
	US$			US$
Net cash provided by (used in) operating activities		2,413			(2,128	)
Net cash used in investing activities		(1,622	)		(634	)
Net cash (used in) provided by financing activities		(770	)		721
Net increase (decrease) in cash and cash equivalents		21			(2,041	)

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

(a)

Basis of presentation

The accompanying consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”).

(b)

Principles of consolidation

(c)

Use of estimates

The preparation of the consolidated financial statements in conformity with US GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the period. Areas where management uses subjective judgment include, but are not limited to, estimating the useful lives of long-lived assets and intangible assets, assessing the initial valuation of the assets acquired and liabilities assumed in a business combination and the subsequent impairment assessment of long-lived assets, intangible assets and goodwill, determining the provisions for accounts receivable and inventories, accounting for deferred income taxes and uncertain tax benefits, valuation for share-based compensation arrangements, warrants for Series D convertible redeemable preferred shares and convertible redeemable preferred shares. Changes in facts and circumstances may result in revised estimates. Actual results could differ from those estimates, and as such, differences may be material to the consolidated financial statements.

(d)

Foreign currency

(e)

Cash and cash equivalents

(f)

Restricted cash

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(g)

Accounts receivable

Accounts receivable are carried at net realizable value. An allowance of doubtful accounts is recorded in the period when the collection of full amount is no longer probable. The Group reviews the accounts receivable on a periodic basis and makes general and specific allowances when there is doubt as to the collectability of individual balances. In evaluating the collectability of individual receivable balances, the Group considers many factors, including the age of the balance, the customer’s payment history, its current credit-worthiness and current economic trends. As of December 31, 2015 and 2016, the Group evaluated and wrote off the doubtful accounts as they were determined to be uncollectible. Thus, there was no allowance for doubtful accounts outstanding.

(h)

Inventories

Inventories are stated at the lower of cost or market. Cost is determined using the first-in, first-out method. Adjustments to reduce the cost of inventories to its net market value are made, if required, for decreases in sales prices, obsolescence or similar reductions in the estimated net realizable value. Inventories provision of US$1,109 and US$1, 038 was recorded as of December 31, 2015 and 2016, respectively.

(i)

Property and equipment

Property and equipment are stated at cost and are depreciated using the straight-line method over the estimated useful lives of the assets, as follows:

	Category		Estimated useful life

	Computer and network equipment		3-5 years
	Office equipment		5 years
	Motor vehicles		5 years
	Leasehold improvements		Over the shorter of lease term or the estimated useful lives of the assets

(j)

Intangible assets

Intangible assets have weighted average useful lives from the date of purchase as follow:

	Purchased software		6.7 years
	MVNO license (Note 4)		10 years
	Capitalized software development costs		3 years

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(k)

Business combination

(l)

Goodwill

Goodwill represents the excess of the purchase price over the amounts assigned to the fair value of the assets acquired and the liabilities assumed of an acquired business. The Group’s goodwill as of December 31, 2015 and 2016 was related to its acquisition of Yuantel Investment, (Note 4). In accordance with ASC 350,Goodwill and Other Intangible Assets (“ASC 350”), recorded goodwill amounts are not amortized, but rather are tested for impairment annually or more frequently if there are indicators of impairment present.

In accordance with ASC 350, the Group assigned and assessed goodwill for impairment at the reporting unit level. A reporting unit is an operating segment or one level below the operating segment. The Company has determined that it has two operating segments as its reporting units, namely Yuantel and Connected Solution. Goodwill is recorded at the Yuantel reporting unit.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(m)

Impairment of long-lived assets

(n)

Fair value of financial instruments

The Group’s financial instruments include cash and cash equivalents, restricted cash, accounts receivable and payable, accounts receivable from related parties, receivable from MVNO franchisees, short-term and long-term bank borrowings, warrants for Series D convertible redeemable preferred shares and convertible redeemable preferred shares. Other than the long-term bank borrowings, warrants for Series D convertible redeemable preferred shares and convertible redeemable preferred shares, the carrying values of these financial instruments approximate their fair values due to their short-term maturities.

ASC 820 establishes a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value as follows:

Level 1 — Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets.

Level 2 — Other inputs that are directly or indirectly observable in the marketplace.

Level 3 — Unobservable inputs which are supported by little or no market activity.

During the year ended December 31, 2015 there is no financial instrument measured at fair value. The warrants for Series D convertible redeemable preferred shares was fair valued as of December 31, 2016. The carrying amounts of long-term bank borrowings approximate their fair values since they bear interest rates which approximate market interest rates. The convertible redeemable preferred shares are initially recognized at its fair value.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(o)

Revenue recognition

Android+ platform solutions and services

Android+ platform solutions

Service contracts

Hardware product sales

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(o)

Revenue recognition (Continued)

MVNO

The Group enters into profit sharing arrangements with franchisees under which bundled services may be returned to the Group if not sold to the consumers. The franchisees receive certain percentages of profits made by the Group on the sales of the bundled services as they are used by the consumers. The Group accounts for profit sharing with franchisees as selling expenses in the consolidated statements of operations. Pursuant to the Company’s policy, the amount of discounts that may be provided by the franchisees to consumers is capped at 5%, based on which, the Group recognized the maximum amount of discounts that may be provided by the franchisees as reductions of revenue in accordance with ASC 605-50.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(p)

Cost of revenues

Cost of revenues consists primarily of telecommunication costs, depreciation of long-lived assets, amortization of acquired intangible asset, payroll and other related costs of operations. Deferred cost of revenues was US$1,161 and US$1,658 for the years ended December 31, 2015 and 2016.

(q)

Advertising expenditures

Advertising expenditures are expensed as incurred and are included in sales and marketing expenses, which amounted to US$46 and US$78 for the years ended December 31, 2015 and 2016, respectively.

(r)

Research and development expenses

(s)

Government grants

(t)

Leases

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(u)

Income taxes

The Group has elected to classify interest related to unrecognized tax benefits, if and when required, as part of “income tax expense” in the consolidated statements of operations.

(v)

Share-based compensation

The Group accounts for share-based compensation in accordance with ASC 718,Compensation-Stock Compensation: Overall, (“ASC 718”).

The Group elected to early adopt ASU No. 2016-09,Compensation-Stock Compensation (Topic 718): Improvement to Employee Share-based Payment Accounting to account for forfeitures as they occur.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(w)

Comprehensive (loss )income

Comprehensive (loss) income is defined as the increase (decrease) in equity of the Group during a period from transactions and other events and circumstances excluding transactions resulting from investments by owners and distributions to owners. Accumulated other comprehensive (loss) income of the Group includes foreign currency translation adjustments related to the Company and its PRC subsidiaries, whose functional currency is RMB.

(x)

Segment reporting

In accordance with ASC 280 “Segment Reporting” (“ASC 280”), the Group has two operating segments, namely Yuantel and Connected Solution as the Group’s chief executive officer, who has been identified as the Group’s chief operating decision maker (“CODM”) reviews the operating results of the two difference service lines in order to allocate resources and assess performance for the Group.

(y)

Employee benefits

(z)

Comparatives

Certain items reported in the prior year’s consolidated financial statements have been reclassified to conform to the current year’s presentation.

(aa)

Recent accounting pronouncements

In May 2014, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2014-09,Revenue from Contracts with Customers (Topic 606),(“ASU 2014-09”). ASU 2014-09 supersedes the revenue recognition requirements in ASC 605,Revenue Recognition and requires entities to recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled to in exchange for those goods or services. ASU 2014-09 is originally effective for the annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period. ASU No. 2015-14,Revenue from Contracts with Customers, (“ASU 2015-14”), deferred the effective date of ASU 2014-09 by one year. As a result, ASU 2014-09 is effective for annual reporting periods beginning after December 15, 2017 and interim periods therein. Early adoption is permitted to the original effective date. Management developed an adoption plan based on which the Company is in the process of evaluating the effects of adopting new revenue standard, including the selection of the adoption method, the identification of differences, if any, from the application of current revenue recognition standard and the impact of such differences, if any, on its consolidated financial statements.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(aa)

Recent accounting pronouncements(Continued)

In March 2015, the FASB issued ASU No. 2016-08,Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net), (“ASU 2016-08”) which clarifies the implementation guidance on principal versus agent considerations. The guidance includes indicators to assist an entity in determining whether it controls a specified good or service before it is transferred to the customers. This guidance will be effective for the company in the first quarter of 2018, with the option to adopt it in the first quarter of 2017. The Group is still evaluating the effect if any, that this guidance will have on its consolidated financial statements.

In June 2016, the FASB issued ASU No. 2016-13 (“ASU 2016-13”), Financial Instruments — Credit Losses (Topic 326), Measurement of Credit Losses on Financial Instruments. ASU 2016-13 changes the impairment model for most financial assets and certain other instruments. The standard will replace “incurred loss” approach with an “expected loss” model for instruments measured at amortized cost. For available-for-sale debt securities, entities will be required to record allowances rather than reduce the carrying amount, as they do today under the other-than-temporary impairment model. The standard is effective for public business entities for annual periods beginning after December 15, 2019, and interim periods therein. Early adoption is permitted. The Group is evaluating the effect that this guidance will have on its consolidated financial statements.

In January 2017, FASB has issued ASU No. 2017-01, Business Combinations (Topic 805): Clarifying the Definition of a Business, clarifying the definition of a business. The ASU affects all companies and other reporting organizations that must determine whether they have acquired or sold a business. The definition of a business affects many areas of accounting including acquisitions, disposals, goodwill, and consolidation. The ASU is effective for annual periods beginning after December 15, 2017, including interim periods within those periods. The Group is evaluating the effect that this guidance will have on its consolidated financial statements.

In January 2017, the FASB issued Accounting Standards Update No. 2017-04 (“ASU 2017-04”), Intangibles — Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment. ASU 2017-04 eliminates the requirement to calculate the implied fair value of goodwill to measure a goodwill impairment charge. Instead, entities will record an impairment charge based on the excess of a reporting unit’s carrying amount over its fair value. This standard is effective for public business entities in the first quarter of 2020. Early adoption is permitted. The Group is evaluating the effect that this guidance will have on its consolidated financial statements.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

CONCENTRATION OF RISKS

(a)

Credit risk

Financial instruments that potentially subject the Company to significant concentrations of credit risk consist primarily of cash and cash equivalents and restricted cash, accounts receivable, accounts receivable from related parties and receivable from MVNO franchisees. As of December 31, 2015 and 2016, the aggregate amount of cash and cash equivalents and restricted cash of US$6,634 and US$2,563, respectively, were held at major financial institutions located in the PRC, and US$1,923 and US$2,200, respectively, were deposited with major financial institutions located outside the PRC. Management believes that these financial institutions are of high credit quality and continually monitors the credit worthiness of these financial institutions. Historically, deposits in Chinese banks are secure due to the state policy on protecting depositors’ interests. However, China promulgated a new Bankruptcy Law in August 2006 that came into effect on June 1, 2007, which contains a separate article expressly stating that the State Council may promulgate implementation measures for the bankruptcy of Chinese banks based on the Bankruptcy Law. Under the new Bankruptcy Law, a Chinese bank may go into bankruptcy. In addition, since China’s concession to the World Trade Organization, foreign banks have been gradually permitted to operate in China and have been significant competitors against Chinese banks in many aspects, especially since the opening of the Renminbi business to foreign banks in late 2006. Therefore, the risk of bankruptcy of those Chinese banks in which the Company has deposits has increased. In the event of bankruptcy of one of the banks which holds the Company’s deposits, it is unlikely to claim its deposits back in full since it is unlikely to be classified as a secured creditor based on PRC laws.

(b)

Business supplier, customer, and economic risk

(ii) Customer risk – The success of the Group’s business going forward will rely in part on Group’s ability to continue to obtain and expand business from existing customers while also attracting new customers. The Group has a diversified base of customers covering its services and the revenue from the largest single customer A accounted for 9% and from the largest single customer B accounted for 23% of the Group’s total net revenues for the two years ended December 31, 2015 and 2016, respectively, and the accounts receivable from the largest single customer A accounted for 50% and from the largest single customer B 25% of the Group’s total accounts receivable and accounts receivable from related parties for the years ended December 31, 2015 and 2016, respectively.

(c)

Foreign currency exchange rate risk

From July 21, 2005, the RMB is permitted to fluctuate within a narrow and managed band against a basket of certain foreign currencies. The appreciation of the US$ against RMB was approximately 6.1% and 6.8% in the years ended December 31, 2015 and 2016, respectively. The appreciation of the US$ against Rupee was approximately 4.7% and 3.3% in the years ended December 31, 2015 and 2016, respectively.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

4.	BUSINESS ACQUISITION

The Company entered into a new business, MVNO business in the PRC as a result of the acquisition.

The following table summarizes the fair values of the assets acquired and liabilities assumed and the noncontrolling interest at the date of acquisition on July 11, 2014.

	US$

Current assets		7,976
Other non-current assets		182
Property and equipment, net		121
Purchased software		50
MVNO license		9,560
Deferred tax assets, non-current		165

Total identifiable assets acquired		18,054

Short-term borrowings		(817	)
Accounts payable		(620	)
Deferred revenue-current		(5,669	)
Other current liabilities		(648	)
Deferred tax liability, non-current		(2,103	)

Total liabilities assumed		(9,857	)

Net identifiable assets acquired		8,197

NCI measured at fair value		1,629
Goodwill		786
Purchase consideration (i)		7,354

(i) US$ 3,677 cash consideration was paid in 2014

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

4.	BUSINESS ACQUISITIONS (CONTINUED)

The goodwill recognized is attributable primarily to anticipated future growth within the Company’s MVNO business. None of the goodwill is expected to be deductible for income tax purposes. For the years ended December 31, 2015 and 2016, there were no changes in the recognized amounts of goodwill.

5.	INVENTORIES

Inventories consisted of the following as of December 31, 2015 and 2016:

	As of December 31,
	2015			2016
	US$			US$

Raw materials		4,004			5,406
Goods in transit		291			7,164
Work in process		1,307			1,023
Finished goods		1,771			127

Less: Provision		(1,109	)		(1,038	)

Inventories, net		6,264			12,682

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

6.	PREPAID EXPENSES AND OTHER CURRENT ASSETS

Prepaid expenses and other current assets consist of the following:

	As of December 31,
	2015		2016
	US$		US$

Staff advances		253		293
Receivable from OEM		-		3,739
Rental and other deposits		823		1,048
VAT recoverable		1,676		963
Loan to a third party		473		519
Others		-		37

		3,225		6,599

7.	PROPERTY AND EQUIPMENT, NET

Property and equipment consist of the following:

	As of December 31,
	2015			2016
	US$			US$
At cost:
Leasehold improvements		894			837
Computer and network equipment		5,800			5,801
Office equipment		784			763
Motor vehicles		171			220
		7,649			7,621
Less: accumulated depreciation		(5,399	)		(6,133	)

	��	2,250			1,488

Depreciation expense was US$1,371 and US$1,011 for the years ended December 31, 2015 and 2016, respectively, and were included in the following captions:

	For the year ended December 31,
	2015		2016
	US$		US$

Cost of revenues		472		347
Sales and marketing expenses		54		15
General and administrative expenses		144		277
Research and development expenses		701		372

		1,371		1,011

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

8.	INTANGIBLE ASSETS, NET

The following table presents the Group’s intangible assets as of the respective balance sheet dates:

	Software			Capitalized software development costs			MVNO License (Note 4)			Total
	US$			US$			US$			US$

Balance as of January 1, 2015		671			-			9,082			9,753
Additions		1,871			3,304			-			5,175
Amortization expense		(170	)		(38	)		(901	)		(1,109	)
Foreign currency translation difference		(35	)		-			(522	)		(557	)

Balance as of December 31, 2015		2,337			3,266			7,659			13,262
Additions		315			4,915			-			5,230
Amortization expense		(205	)		(1,098	)		(843	)		(2,146	)
Foreign currency translation difference		(153	)		(209	)		(486	)		(848	)

Balance as of December 31, 2016		2,294			6,874			6,330			15,498

Amortization expense was approximately US$1,109 and US$2,146 for the years ended December 31, 2015 and 2016, respectively.

The annual estimated amortization expenses for the intangible assets for each of the next five years are as follows:

	US$

2017		3,731
2018		3,669
2019		2,597
2020		2,597
2021		1,025

		13,619

9.	GOODWILL

The changes in the carrying amount of goodwill were as follows:

	As of December 31,
	2015			2016
	US$			US$

Balance as of January 1		786			741
Foreign currency translation difference		(45	)		(48	)

Balance as of December 31		741			693

No impairment charge was recorded in any of the two years ended December 31, 2015 and 2016.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

10.

BANK BORROWINGS

Bank borrowings are as follows as of the respective balance sheet dates:

	As of December 31,
	2015		2016
	US$		US$

Short-term bank borrowings		2,000		6,306
Long-term bank borrowings, current portion		571		1,381
		2,571		7,687

Long-term bank borrowings, non-current portion		381		4,491

Total borrowings		2,952		12,178

The short-term bank borrowings outstanding as of December 31, 2015 and 2016 bore a weighted average interest rate of 7.03% and 6.89% per annum, respectively, and were denominated in RMB & US$. These borrowings were obtained from financial institutions and have terms of three months to one year. The long-term bank borrowings (including current portion) outstanding as of December 31, 2016 bore a weighted average interest rate of 7.95%, and were denominated in US$. These borrowings were obtained from financial institutions located in Hong Kong and US, and have terms of 2 to 3 years.

Bank borrowings as of December 31, 2016 were pledged by the account receivable amounted to US$36,192.

In August 2016, the Company issued 2,515,123 and 1,900,800 warrants (“2016 Warrants”) to two banks in connection with a short term loan facility of $2,000,000 and a long term loan facility of $6,000,000 respectively, for working capital purpose. The 2016 Warrants entitle the banks to subscribe for Series D Preference Shares at the exercise price of $0.5059. The 2016 Warrants shall lapse and expire after 5 and 7 years from their issuance dates, respectively.

As the 2016 Warrants were granted to the banks for loan facilities (Note 10), their fair value on the issuance date were recognized as deferred borrowing costs presented as deductions of the carrying value of the term loans. The deferred borrowing costs are recognized over the life of the term loans as financing cost, using the effective interest rate method. As the 2016 Warrants are convertible into Series D Preference Shares classified as mezzanine equity, the 2016 Warrants are financial liabilities in accordance with ASC 480, Distinguishing Liabilities from Equity that are remeasured at the end of each reporting period with an adjustment for fair value through earnings.

11.

ACCRUED EXPENSES AND OTHER PAYABLES

The components of accrued expenses and other payables are as follows:

	As of December 31,
	2015		2016
	US$		US$

Payroll and welfare payable		2,811		3,235
Accrued liability		900		50
VAT, business and other taxes payable		343		831
Payables for office supply and utility		419		743
Payables for purchase of property and equipment		462		432
Professional service fees		228		-
Deposits from agents		1,068		2,315
Others		32		28
		6,263		7,634

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

12.

DEFERRED GOVERNMENT GRANTS

	For the year ended December 31,
	2015			2016
	US$			US$

Balance at beginning of the year		7,316			4,014
Recognized as other operating income		(2,880	)		(1,650	)
Foreign currency translation difference		(422	)		(256	)
Balance at end of the year		4,014			2,108

13.

ACCUMULATED OTHER COMPREHENSIVE LOSS

The changes in accumulated other comprehensive loss, net of tax of nil, are as follows:

	Foreign currency translation			Total
	US$			US$
Balance as of January 1, 2015		139			139
Current year other comprehensive loss		(1,288	)		(1,288	)
Balance as of December 31, 2015		(1,149	)		(1,149	)
Current year other comprehensive loss		(1,477	)		(1,477	)
Balance as of December 31, 2016		(2,626	)		(2,626	)

14.

MAINLAND CHINA EMPLOYEE CONTRIBUTION PLAN

As stipulated by the regulations of the PRC, full-time employees of the Group in the PRC participate in a government-mandated multiemployer defined contribution plan organized by municipal and provincial governments. Under the plan, certain pension benefits, medical care, unemployment insurance, employee housing fund and other welfare benefits are provided to employees. The Group is required to make contributions to the plan based on certain percentages of employees’ salaries. The total expenses the Group incurred for the plan were US$2,238 and US$2,362, respectively, for the years ended December 31, 2015 and 2016.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

15.

SHARE BASED COMPENSATION

(a)

Share-based awards under the 2007 Plan

In the years ended December 31, 2015 and 2016, the Company granted 6,525,190 and 610,000 shares of options, respectively, to purchase ordinary shares to employees, officers, and directors with the exercise price of $0.459 and $0.56 per share.

The following table summarizes the Company’s option activities under the 2007 Plan:

	Number of options			Weighted average exercise price		Weighted average remaining contractual term		Aggregate intrinsic value
				(US$)		(Years)		(US$)

Outstanding, January 1, 2015		29,554,630			0.27		6.88		308
Granted		6,525,190			0.46
Forfeited		(4,042,580	)		0.36

Outstanding, December 31, 2015		32,037,240			0.30		4.97		308

Vested and expect to vest at December 31, 2015		32,037,240			0.30		4.97		308

Outstanding, January 1, 2016		32,037,240			0.30		4.97		308
Granted		610,000			0.56
Forfeited		(5,190,297	)		0.34

Outstanding, December 31, 2016		27,456,943			0.30		5.26		308

Vested and expect to vest at December 31, 2016		27,456,943			0.30		5.26		308

As of December 31, 2016, no options were vested and exercisable given the performance condition in place described above. Historically, compensation cost related to performance options that only vest upon the consummation of an initial public offering or change in control event was recognized when the offering or change in control event was consummated. Accordingly, the Group has not recognized any compensation cost to date.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

15.

SHARE BASED COMPENSATION (CONTINUED)

As of December 31, 2015 and 2016, the Company had options outstanding to purchase an aggregate of 5,500,000 shares and 5,500,000 shares with an exercise price below the fair value of the Company’s shares, resulting in an aggregate intrinsic value of US$308 and US$308, respectively.

	Year 2015			Year 2016

Risk-free interest rates		1.95%-2.28	%		1.58%-2.60	%
Expected life (years)		10 years			10 years
Expected volatility		40%-45	%		45%-46	%
Expected dividend yield		0	%		0	%
Exercise multiple		2.20			2.20
Post-vesting forfeit rate		10	%		10	%
Fair value of underlying ordinary shares		US$0.158-US$0.231			US$0.615-US$0.697
Fair value of share option		US$0.026-US$0.096			US$0.309-US$0.315

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

16.

TAXATION

Enterprise income tax (“EIT”)

Cayman Islands

Hong Kong

BORQS HK is subject to Hong Kong profits tax rate of 16.5% for the years ended December 31, 2015 and 2016. No provision for BORQS HKD profits tax has been made in the consolidated financial statements as the entity had losses in the years ended December 31, 2015 and 2016.

India

BORQS INDIA is subject to income tax rate of 32.45% for the years ended December 31, 2015 and 2016. Amounts of US$1,158 and US$1,684 are included as current income tax expense for the years ended December 31, 2015 and 2016, respectively.

The PRC

The Company’s PRC subsidiaries are incorporated in the PRC and subject to PRC EIT on the taxable income in accordance with the relevant PRC income tax laws.

Effective January 1, 2008, the statutory corporate income tax rate is 25%, except for certain entities eligible for preferential tax rates.

BORQS Beijing was qualified for a High and New Technology Enterprises (“HNTE”) since 2012 and is eligible for a 15% preferential tax rate from 2012 to 2014. In July 2015, BORQS Beijing obtained a new HNTE certificate, which will expire in July 2018. In accordance with the PRC Income Tax Laws, an enterprise awarded with the HNTE status may enjoy a reduced EIT rate of 15%. For the years ended December 31, 2015 and 2016, BORQS Beijing enjoyed a preferential tax rate of 15%.

Yuantel Telecom was qualified for a High and New Technology Enterprises (“HNTE”) since 2011 and is eligible for a 15% preferential tax rate from 2011 to 2013. In October 2014, Yuantel Telecom obtained a new HNTE certificate, which will expire in October 2017. In accordance with the PRC Income Tax Laws, an enterprise awarded with the HNTE status may enjoy a reduced EIT rate of 15%. For the years ended December 31, 2015 and 2016, Yuantel Telecom enjoyed a preferential tax rate of 15%.

The Company’s other PRC subsidiaries were subject to EIT at a rate of 25% for the years ended December 31, 2015 and 2016.

The New EIT Law also provides that enterprises established under the laws of foreign countries or regions and whose “place of effective management” is located within the PRC are considered PRC tax resident enterprises and subject to PRC income tax at the rate of 25% on worldwide income. The definition of “place of effective management” refers to an establishment that exercises, in substance, overall management and control over the production and business, personnel, accounting, properties, etc. of an enterprise. As of December 31, 2016, no detailed interpretation or guidance has been issued to define “place of effective management”. Furthermore, as of December 31, 2016, the administrative practice associated with interpreting and applying the concept of “place of effective management” is unclear. If the Company is deemed as a PRC tax resident, it would be subject to PRC tax under the New CIT Law. The Company will continue to monitor changes in the interpretation or guidance of this law.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

16.

TAXATION (CONTINUED)

Profit before income taxes consists of:

	For the year ended December 31,
	2015			2016
	US$			US$

Non-PRC		3,241			2,777
PRC		(1,595	)		2,478

		1,646			5,255

Income tax expense comprises of:

	For the year ended December 31,
	2015			2016
	US$			US$

Current		(1,895	)		(2,879	)
Deferred		1,044			220

		(851	)		(2,659	)

The reconciliation of tax computed by applying the statutory income tax rate of 25% for the years ended December 31, 2015 and 2016 applicable to the PRC operations to income tax expense is as follows:

	For the year ended December 31,
	2015			2016
	US$			US$

Profit before income taxes		1,646			5,255

Income tax expense computed at the statutory income tax rate at 25%		(412	)		(1,314	)
Non-deductible expenses		(166	)		(491	)
Non-taxation income		1,300			414
Preferential rate		(423	)		400
Current and deferred tax rate differences		790			310
Foreign rate differences		(292	)		560
Change of valuation allowance		(1,643	)		(2,529	)
Deferred tax					74
Interest expense		(5	)		(83	)

Income tax expense		(851	)		(2,659	)

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

16.

TAXATION (CONTINUED)

Deferred Taxes

The significant components of deferred taxes are as follows:

	As of December 31,
	2015			2016
	US$			US$
Deferred tax assets
Inventories provision		166			156
Accrued salary and welfare payable		107			274
Property and equipment		46			20
Tax losses		10,901			13,279
Valuation allowance		(10,146	)		(12,675	)
Total deferred tax assets		1,074			1,054

Deferred tax liabilities
Intangible assets		1,779			1,539

Total deferred tax liabilities		1,779			1,539

As of December 31, 2016, the Company had net tax operating losses from its PRC subsidiaries and its Consolidated VIEs, as per filed tax returns, of US$58,219, which will expire from 2015 to 2020. The Company has net tax operating loss from its HK subsidiary of US$10,615, which will not expire.

As of December 31, 2016, the Company intends to permanently reinvest the undistributed earnings from its foreign subsidiaries and the Consolidated VIEs to fund future operations. The amount of unrecognized deferred tax liabilities for temporary differences related to investments in foreign subsidiaries and the Consolidated VIEs is not determined because such a determination is not practicable.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

16.

TAXATION (CONTINUED)

Unrecognized Tax Benefits

As of December 31, 2015 and 2016, the Company recorded an unrecognized tax benefits of US$2,177 and US$4,053, respectively, of which, US$1,491 and US$2,381, respectively, are presented on a net basis against the deferred tax assets related to tax loss carry forwards on the consolidated balance sheets. The unrecognized tax benefits and its related interest are primarily related to under-reported intercompany profit. The amount of unrecognized tax benefits will change in the next 12 months, pending clarification of current tax law or audit by the tax authorities, however, an estimate of the range of the possible change cannot be made at this time. As of December 31, 2015 and 2016, unrecognized tax benefits of US$669 and US$1,681, if ultimately recognized, will impact the effective tax rate.

A roll-forward of unrecognized tax benefits is as follows:

	For the year ended December 31,
	2015		2016
	US$		US$

Balance at beginning of year		620		2,177
Additions based on tax positions related to the current year		1,557		1,876

Balance at end of year		2,177		4,053

In the years ended December 31, 2015 and 2016, the Company recorded interest expense accrued in relation to the unrecognized tax benefit of US$5 and US$83 in income tax expense, respectively. Accumulated interest expense recorded by the Company was US$5 and US$88 as of December 31, 2015 and 2016, respectively. As of December 31, 2016, the tax years ended December 31, 2011 through 2016 for the PRC subsidiaries and the VIE remain open for statutory examination by the PRC tax authorities.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

17.

RELATED PARTY TRANSACTIONS

(a)

Related parties

	Names of related parties		Relationship with the Company
	Intel Capital Corporation (“Intel”) and its affiliates		Intel is a holder of Series C Preference Shares

(b)

Other than disclosed elsewhere, the Company had the following significant related party transactions for the years ended December 31, 2015 and 2016:

	For the year ended December 31,
	2015		2016
	US$		US$
Software services provided to:
Intel Corporation		6,204		271
Intel (China) Co., Ltd.		5		9
Intel Asia-Pacific Research and Development Ltd		328		119
Intel (China) Research Center Co., Ltd		-		57

Hardware sold to:
Intel Corporation		55		-

(c)

The Company had the following related party balances as of December 31, 2015 and 2016:

	As of December 31,
	2015		2016
	US$		US$
Accounts receivable from related parties:
Current:
Intel Corporation		5,949		481
Intel (China) Co., Ltd.		5		-
Intel Asia-Pacific Research and Development Ltd		44		9

All balances with the related parties as of December 31, 2015 and 2016 were unsecured, interest-free and have no fixed terms of repayment.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

18.

RESTRICTED NET ASSETS

In accordance with the PRC Regulations on Enterprises with Foreign Investment and the articles of association of the Company’s PRC subsidiaries, a foreign-invested enterprise established in the PRC is required to provide certain statutory reserves, namely general reserve fund, the enterprise expansion fund and staff welfare and bonus fund which are appropriated from net profit as reported in the enterprise’s PRC statutory accounts. A foreign-invested enterprise is required to allocate at least 10% of its annual after-tax profit to the general reserve until such reserve has reached 50% of its respective registered capital based on the enterprise’s PRC statutory accounts. Appropriations to the enterprise expansion fund and staff welfare and bonus fund are at the discretion of the board of directors for all foreign-invested enterprises. The aforementioned reserves can only be used for specific purposes and are not distributable as cash dividends. Borqs Beijing was established as foreign-invested enterprise and, therefore, is subject to the above mandated restrictions on distributable profits. As of December 31, 2015 and 2016, the Company’s PRC subsidiaries had appropriated US$1,270 and US$ 1,898, respectively, in its statutory reserves.

19.

SHARE CAPITAL

Authorized capital

Ordinary share reserved for future issuance

The Group has reserved the following shares of ordinary shares for issuance at December 31, 2016, in connection with the following:

	Conversion of series A convertible redeemable preference shares			39,900,000
	Conversion of series B convertible redeemable preference shares			82,857,143
	Conversion of series C convertible redeemable preference shares			50,909,089
	Conversion of series D convertible redeemable preference shares			23,721,443
	Conversion of series D warrant shares			4,415,923
	Ordinary shares options outstanding			27,456,943
	Ordinary shares options available for future grants under the 2007 Plan			11,243,057

	Total			240,503,598

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

20.

CONVERTIBLE CONTINGENTLY REDEEMABLE PREFERRED SHARES

The significant terms of the Series A, Series B, Series C, and Series D convertible redeemable preference shares (together “Preference Shares”) are summarized as follows.

Conversion

The conversion price is subject to additional adjustments if the Company makes certain dilutive issuances of shares.

Dividends

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

20.

CONVERTIBLE CONTINGENTLY REDEEMABLE PREFERRED SHARES (CONTINUED)

Redemption

The earliest redemption date of Series A Preference Shares is at any time after the sixth anniversary of the first issuance date of Series A Preference Shares.

Winding up / Liquidation

In the event of any liquidation, dissolution, or winding up of the Company, either voluntary or involuntary, distributions to the shareholders of the Company shall be made as stated below.

Voting

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

20.

CONVERTIBLE CONTINGENTLY REDEEMABLE PREFERRED SHARES (CONTINUED)

Accounting for convertible redeemable preference shares

As of December 31, 2015 and 2016, no dividend was declared by the Company. US$640 and US$720 of dividend was accumulated to the holders of the Series D Preferred Shares as of December 31, 2015 and 2016.

21.

FAIR VALUE MEASUREMENTS

The Company applies ASC 820, Fair Value Measurements and Disclosures. ASC 820 defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. ASC 820 requires disclosures to be provided on fair value measurement.

ASC 820 establishes a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value as follows:

Level 1— Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets.

Level 2— Include other inputs that are directly or indirectly observable in the marketplace.

Level 3— Unobservable inputs which are supported by little or no market activity.

2016 Warrants are classified within Level 3. We estimated the fair value of these warrants as of December 31, 2016 using the binomial-lattice option valuation model, based on the remaining contractual term of the warrants, risk-free interest rates and expected volatility of the price of the underlying Series D Preferred Shares. The assumptions used, including the market value of the underlying Series D Preferred Shares and the expected volatility, were subjective unobservable inputs.

Liabilities measured at fair value on a recurring basis are summarized below:

	Fair value measurement using:
	Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Unobservable inputs (Level 3)		Fair value at December 31, 2016
	US$		US$		US$		US$
Warrant liabilities		-		-		1,344		1,344

Liabilities		-		-		1,344		1,344

	Warrant liabilities
	US$
Fair value at January 1, 2016		-
Increase in liability		1,332
Changes in the fair value		12
Fair value at December 31, 2016		1,344

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

22.

COMMITMENTS AND CONTINGENCIES

Operating lease commitments

The Company leases buildings in the PRC and India under non-cancelable operating leases expiring on different dates. For the years ended December 31, 2015 and 2016, total rental expenses for all operating leases amounted to US$1,368 and US$1,340, respectively.

As of December 31, 2016, the Company has future minimum lease payments under non-cancelable operating leases with initial terms in excess of one year in relation to office buildings consisting of the following:

	US$

2017		633
2018		-
2019		-
2020		-
2021 and thereafter		-

		633

Payments under operating leases are expensed on a straight-line basis over the periods of their respective leases.

Income Taxes

As of December 31, 2016, the Group recognized an accrual of US$1,755 for unrecognized tax benefits and its interest (Note 16). The final outcome of the tax uncertainty is dependent upon various matters including tax examinations, interpretation of tax laws or expiration of statutes of limitation. However, due to the uncertainties associated with the status of examinations, including the protocols of finalizing audits by the relevant tax authorities, there is a high degree of uncertainty regarding the future cash outflows associated with these tax uncertainties. As of December 31, 2016, the Company classified the accrual for unrecognized tax benefits as a non-current liability.

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

23.

SEGMENT REPORTING

The operations of the Company are organized into two segments, consisting of Yuantel and Connected Solution.

The CODM measures the performance of each segment based on metrics of revenue and earnings from operations and uses these results to evaluate the performance of, and to allocate resources to each of the segments. CODM does not evaluate operating segments using asset information.

The CODM evaluates performance based on each reporting segment’s net revenue and operating profit. The table below provides a summary of the Group’s operating segment results for the years ended December 31, 2015 and 2016:

FY2016	Yuantel			Connected Solution		Total segments		Eliminations			Consolidated

Net revenue
-External customers		35,138			85,448		120,586		-			120,586
-Inter-segment		-			2,016		2,016		(2,016	)		-
Total net revenue		35,138			87,464		122,602		(2,016	)		120,586

Operating profit		(3,589	)		8,829		5,240		-			5,240

FY2015	Yuantel			Connected Solution		Total segments		Eliminations			Consolidated

Net revenue
-External customers		19,957			55,115		75,072		-			75,072
-Inter-segment		-			3,615		3,615		(3,615	)		-
Total net revenue		19,957			58,730		78,687		(3,615	)		75,072

Operating profit		(5,968	)		6,789		821		(108	)		713

	For the year ended December 31,
	2015		2016
	US$		US$

PRC		28,442		41,214
Outside PRC
United States		14,978		34,526
India		7,949		25,126
Rest of the world		23,703		19,720
Total net revenue		75,072		120,586

24.

SUBSEQUENT EVENTS

Issuance of Series E Preference Shares

On February 8, 2017 and March 2, 2017, the Group issued an aggregate of 10,325,126 and 2,950,036 Series E redeemable convertible preference shares (the “Series E Preference Shares”), respectively, for a purchase price of $0.678 per share. Concurrently, during the months of February and March 2017, warrants to purchase up to an aggregate of 3,917,202, 1,588,481 and 1,588,481 Series E redeemable convertible preference shares were issued and exercised at an exercise price of $0.001.

Merger of PAAC Subsidiary Limited

On December 27, 2016 and as amended on May 10, 2017, the Group entered into a merger agreement with Pacific Special Acquisition Corp (“Pacific”) to effect a merger where the Group will be the operating company. As consideration for the merger, Pacific issued to original shareholders of the Group a numbers of ordinary shares at $10.40 per share based on the adjusted equity valuation of the Group as of the closing of the merger. The merger is also subject to certain earn-out criteria based upon the Group achieving specific performance targets for the four quarters subsequent to the merger. Additionally, at the effective time of the merger, the holders of the Group issued and outstanding warrants will receive replacement warrants to acquire the ordinary shares of Pacific, and the holders of the Group issued and outstanding share options will have their options assumed by Pacific and will instead acquire Pacific Ordinary Shares upon exercise of such options, in each case with the number of shares and exercise price equitably adjusted.

BORQS INTERNATIONAL HOLDING CORP

INDEX TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

		Page

Unaudited Condensed Consolidated Financial Statements for the Six Months Ended June 30, 2016 and 2017

Unaudited Condensed Consolidated Balance Sheets as of December 31, 2016 and June 30, 2017		94 - 97

Unaudited Condensed Consolidated Statements of Operations for the Six Months Ended June 30, 2016 and 2017		98

Unaudited Condensed Consolidated Statements of Comprehensive Income (Loss) for the Six Months Ended June 30, 2016 and 2017		99

Unaudited Condensed Consolidated Statements of Changes in Shareholders’ Deficit for the Six Months Ended June 30, 2017		100

Unaudited Condensed Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2016 and 2017		101 - 102

Notes to the Unaudited Condensed Consolidated Financial Statements		103 - 124

BORQS INTERNATIONAL HOLDING CORP

UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS

(Amounts in thousands of US dollars (“US$”))

		As of December 31,		As of June 30,
	Note	2016		2017
		US$		US$
ASSETS
Current assets:
Cash and cash equivalents			3,610		6,460
Restricted cash			1,153		3,385
Accounts receivable			28,257		32,773
Accounts receivable from related parties	(15)		490		955
Receivable from Mobile Virtual Network Operator (“MVNO”) franchisees			4,319		4,438
Inventories	(4)		12,682		5,514
Deferred cost of revenues			969		393
Prepaid and other current assets	(5)		6,599		11,105

Total current assets			58,079		65,023

Non-current assets:
Property and equipment, net	(6)		1,488		1,357
Intangible assets, net	(7)		15,498		17,899
Goodwill	(8)		693		710
Deferred tax asset	(14)		1,054		1,079
Deferred cost of revenues			689		1,294
Other non-current assets			529		1,122

Total non-current assets			19,951		23,461

Total assets			78,030		88,484

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS (CONTINUED)

(Amounts in thousands of US dollars (“US$”))

		As of December 31,		As of June 30,
	Note	2016		2017
		US$		US$
LIABILITIES AND SHAREHOLDERS’ DEFICIT
Current liabilities:
Accounts payable (including accounts payable of the Consolidated VIEs without recourse to the primary beneficiaries of US$4,598 and US$3,601 as of December 31, 2016 and June 30, 2017, respectively)			22,691		21,567
Accrued expenses and other payables (including accrued expenses and other payables of the Consolidated VIEs without recourse to the primary beneficiaries of US$2,778 and US$3,175 as of December 31, 2016 and June 30, 2017, respectively)	(10)		7,634		8,857
Advances from customers			-		1,202
Amount due to a related party	(15)		-		510
Deferred revenue (including deferred revenue of the Consolidated VIEs without recourse to the primary beneficiaries of US$9,134 and US$7,775 as of December 31, 2016 and June 30, 2017, respectively)			11,995		8,087
Income tax payable			847		1,629
Short-term bank borrowings (including short-term bank borrowings of the Consolidated VIEs without recourse to the primary beneficiaries of US$721 and US$738 as of December 31, 2016 and June 30, 2017, respectively)	(9)		6,306		6,796
Long-term bank borrowings – current portion	(9)		1,381		2,917
Deferred government grants	(11)		264		-

Total current liabilities			51,118		51,565

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS (CONTINUED)

(Amounts in thousands of US dollars (“US$”))

		As of December 31,		As of June 30,
	Note	2016		2017
		US$		US$
LIABILITIES AND SHAREHOLDERS’ DEFICIT
Non-current liabilities:
Unrecognized tax benefits	(14)		1,755		1,481
Warrant liabilities	(10)		1,344		1,505
Deferred tax liabilities (including deferred tax liabilities of the Consolidated VIEs without recourse to the primary beneficiaries of US$1,539 and US$1,511 as of December 31, 2016 and June 30, 2017, respectively)	(14)		1,539		1,511
Deferred revenue			2,428		2,912
Long-term bank borrowings	(9)		4,491		4,764
Deferred government grants	(11)		1,844		1,888

Total non-current liabilities			13,401		14,061

Total liabilities			64,519		65,626

Commitments and contingencies	(19)

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS (CONTINUED)

(Amounts in thousands of US dollars (“US$”))

		As of December 31,			As of June 30,
	Note	2016			2017
		US$			US$
LIABILITIES AND SHAREHOLDERS’ DEFICIT
Mezzanine equity:
Series A convertible redeemable preferred shares (US$0.0001 par value; 39,900,000 shares authorized; 39,900,000 issued and outstanding as of December 31, 2016 and June 30, 2017, respectively)	(17)		11,970			11,970
Series B convertible redeemable preferred shares (US$0.0001 par value; 82,857,143 shares authorized; 82,857,143 issued and outstanding as of December 31, 2016 and June 30, 2017, respectively)	(17)		26,126			26,126
Series C convertible redeemable preferred shares (US$0.0001 par value; 50,909,089 shares authorized; 50,909,089 issued and outstanding as of December 31, 2016 and June 30, 2017, respectively)	(17)		21,069			21,069
Series D convertible redeemable preferred shares (US$0.0001 par value; 23,721,443 shares authorized; 23,721,443 issued and outstanding as of December 31, 2016 and June 30, 2017, respectively)	(17)		9,697			9,697
Series E convertible redeemable preferred shares (US$0.0001 par value; 13,275,162 shares authorized; nil and 13,275,162 issued and outstanding as of December 31, 2016 and June 30, 2017, respectively)	(17)		-			3,490

Total mezzanine equity			68,862			72,352

Shareholders’ deficit:
Ordinary shares			54			54
Series E-1 convertible preferred shares	(17)		-			2,708
Additional paid-in capital			1,124			4,768
Statutory reserve			1,898			1,898
Accumulated deficit			(54,706	)		(56,220	)
Accumulated other comprehensive loss			(2,626	)		(1,760	)

Total BORQS International Holding Corp shareholder’s deficit			(54,256	)		(48,552	)

Noncontrolling interest			(1,095	)		(942	)

Total shareholders’ deficit			(55,351	)		(49,494	)

Total liabilities, mezzanine equity, noncontrolling interest and shareholders’ deficit			78,030			88,484

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

UNAUDITED CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS

(Amounts in thousands of US dollars (“US$”))

		Six Months ended June 30,
	Note	2016			2017
		US$			US$
Net Revenues:
Software			7,625			6,583
Hardware			25,509			32,801
MVNO			16,043			13,628
Others			1,414			1,036

Total net revenues			50,591			54,048

Software			(2,510	)		(2,598	)
Hardware			(18,778	)		(29,246	)
MVNO			(15,325	)		(9,820	)
Others			(1,093	)		(488	)

Total cost of revenues			(37,706	)		(42,152	)

Total gross profit			12,885			11,896

Operating expenses:
Sales and marketing expenses			(2,972	)		(2,985	)
General and administrative expenses			(3,943	)		(4,866	)
Research and development expenses			(4,414	)		(2,820	)
Changes in the fair value of warrant liabilities			-			(161	)

Total operating expenses			(11,329	)		(10,832	)

Other operating income			910			267

Operating income			2,466			1,331

Interest income			47			10
Interest expense			(164	)		(1,143	)
Other income			61			354
Other expense			(58	)		(276	)
Foreign exchange gain (loss)			342			(333	)

Profit (loss) before income taxes			2,694			(57	)

Income tax expense	(14)		(1,276	)		(890	)

Net income (loss)			1,418			(947	)

Less: net (loss) income attributable to noncontrolling interests			(660	)		119

Net income (loss) attributable to Borqs International Holding Corp			2,078			(1,066	)

Add: accretion to redemption value of convertible redeemable preferred shares			(597	)		(448	)

Net income (loss) attributable to ordinary shareholders			1,481			(1,514	)

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

UNAUDITED CONSOLIDATED CONDENSED INTERIM STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(Amounts in thousands of US dollars (“US$”))

	Six Months ended June 30,
	2016			2017
		US$			US$
Net income (loss)		1,418			(947	)
Other comprehensive (loss) income, net of tax of nil:
Foreign currency translation adjustments, net of tax of nil		(504	)		866
Other comprehensive (loss) income, net of tax of nil		(504	)		866
Comprehensive income (loss)		914			(81	)
Less: comprehensive (loss) income attributable to noncontrolling interest		(631	)		153
Comprehensive income (loss) attributable to the Borqs International Holding Corp		1,545			(234	)
Change in redemption value of convertible redeemable preferred shares		(597	)		(448	)
Comprehensive income (loss) attributable to ordinary shareholders		948			(682	)

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements

BORQS INTERNATIONAL HOLDING CORP

UNAUDITED CONSOLIDATED CONDENSED INTERIM STATEMENTS OF CHANGES IN SHAREHOLDERS’ DEFICIT

(Amounts in thousands of US dollars (“US$”) except for number of shares)

	Number of ordinary shares		Ordinary shares		Series E-1 convertible preferred shares		Additional paid-in capital		Accumulated statutory reserves		Accumulated other comprehensive loss			Accumulated deficit			Total shareholders’ deficit			Noncontrolling interest			Total deficit

Balance as of January 1, 2017		54,050,000		54		-		1,124		1,898		(2,626	)		(54,706	)		(54,256	)		(1,095	)		(55,351	)
Consolidated net (loss) income		-		-		-		-		-		-			(1,066	)		(1,066	)		119			(947	)
Foreign exchange difference		-		-		-		-		-		866			-			866			34			900
Issuance of series E-1 convertible preferred shares		-		-		2,708		-		-		-			-			2,708			-			2,708
Beneficiary conversion feature of series E convertible redeemable preferred shares		-		-		-		3,258		-		-			-			3,258			-			3,258
Accretion to redemption value of convertible redeemable preferred shares		-		-		-		-		-		-			(448	)		(448	)		-			(448	)
Issuance of ordinary shares		450,000		-		-		386		-		-			-			386			-			386

Balance as of June 30, 2017		54,500,000		54		2,708		4,768		1,898		(1,760	)		(56,220	)		(48,552	)		(942	)		(49,494	)

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements

100

BORQS INTERNATIONAL HOLDING CORP

UNAUDITED CONSOLIDATED CONDENSED INTERIM STATEMENTS OF CASH FLOWS

(Amounts in thousands of US dollars (“US$”))

	Six Months ended June 30,
	2016			2017
	US$			US$

CASH FLOWS FROM OPERATING ACTIVITIES
Net income (loss)		1,418			(947	)
Adjustments to reconcile net income (loss) to net cash used in operating activities:
Foreign exchange (gain) loss		(342	)		333
Depreciation of property and equipment		603			455
Amortization of intangible assets		1,144			1,905
Deferred income taxes benefits		(114	)		(53	)
Interest expense		-			518
Changes in the fair value of warrant liabilities		-			161

Changes in operating assets and liabilities,
Restricted cash		(436	)		(2,232	)
Accounts receivable		(8,696	)		(4,516	)
Accounts receivable from related parties		5,137			(465	)
Receivable from MVNO franchisees		(1,511	)		(119	)
Inventories		(3,836	)		7,168
Deferred cost of revenues		(546	)		(29	)
Prepaid expenses and other current assets		1,608			(5,031	)
Accounts payable		5,507			(1,124	)
Accrued expenses and other payables		178			1,547
Unrecognized tax benefits		620			(274	)
Advances from customers		-			1,202
Amount due to related parties-current		-			510
Deferred revenue		(257	)		(3,424	)
Income tax payable		(111	)		782
Deferred government grants		(1,414	)		(220	)

Net cash used in operating activities		(1,048	)		(3,853	)

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements

101

BORQS INTERNATIONAL HOLDING CORP

UNAUDITED CONSOLIDATED CONDENSED INTERIM STATEMENTS OF CASH FLOWS (CONTINUED)

(Amounts in thousands of US dollars (“US$”))

	Six Months ended June 30,
	2016			2017
	US$			US$
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of property and equipment		(77	)		(186	)
Purchases of intangible assets		(2,552	)		(3,998	)
Proceeds from disposal of property and equipment		4			-
Repayments of a loan to a third party		224			244

Net cash used in investing activities		(2,401	)		(3,940	)

CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of ordinary shares		-			62
Proceeds from issuance of Series E convertible redeemable preferred shares		-			9,000
Proceeds from exercise of warrants for Series E-1 convertible preferred shares (“Series E-1 Warrants”)		-			8
Payment of the issuance costs for Series E convertible redeemable preferred shares		-			(312	)
Repayments of short-term bank borrowings		754			-
Proceeds from long-term bank borrowings		(286	)		2,000
Repayments of long-term bank borrowings		-			(286	)

Net cash generated from financing activities		468			10,472

Effect of foreign exchange rate changes on cash and cash equivalents		158			171

Net (decrease) increase in cash and cash equivalents		(2,823	)		2,850
Cash and cash equivalents at beginning of period		7,787			3,610

Cash and cash equivalents at end of period		4,964			6,460

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements

102

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

1.	ORGANIZATION

(a)

As of June 30, 2017, the details of the Company’s major subsidiaries. Consolidated VIEs and the subsidiaries of the VIEs are as follows:

Entity	Date of incorporation/ Acquisition	Place of incorporation	Percentage of direct or indirect ownership by the Company Direct			Principal activities
Subsidiaries:
BORQS Hong Kong Limited (“Borqs HK”)⁽¹⁾	July 19, 2007	Hong Kong		100	%	Provision of software and service solutions and hardware products sales
BORQS Beijing Ltd. (“Borqs Beijing”)⁽¹⁾	September 4, 2007	PRC		100	%	Provision of software and service solutions and hardware products sales
BORQS Software Solutions Private Limited (“Borqs India”)⁽¹⁾	July 17, 2009	India		100	%	Provision of software and service solutions
VIE:
Beijing Big Cloud Network Technology Co., Ltd. (“Big Cloud Network”)^{(1) / (2)}	April 18, 2014	PRC		Nil		Holding company
Subsidiaries of the VIE:
Yuantel (Beijing) Investment Management Co., Ltd. (“Yuantel Investment”)^{(2) / (3)}	July 11, 2014	PRC		79	%	Holding company
Yuantel (Beijing) Telecommunications Technology Co., Ltd. (“Yuantel Telecom”)^{(2) / (3)}	July 11, 2014	PRC		75.05	%	Provision of MVNO and other services

	(1)	Collectively, the “PRC Subsidiaries”.
	(2)	Collectively, the “Consolidated VIEs”.
	(3)	On July 11, 2014, the Company through Big Cloud Network acquired controlling interest in Yuantel Investment and its subsidiary.

103

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

1.	ORGANIZATION (CONTINUED)

(b)

Big Cloud Network provides MVNO services in China through its 79% owned entity of Yuantel Investment which owns 95% of Yuantel Telecom; therefore Big Cloud Network effectively owns 75.05% of Yuantel Telecom which is the entity that operates the business and holds the MVNO license from the Chinese Ministry of Industry and Information Technology.

Consolidated VIEs contributed 35% and 27% of the Group's consolidated revenues for the six months ended June 30, 2016 and 2017. As of December 31, 2016 and June 30, 2017, the Consolidated VIEs accounted for an aggregate of 24% and 24%, respectively, of the consolidated total assets, and 41% and 45%, respectively, of the consolidated total liabilities.

The Group believes that there are no assets held in the Consolidated VIEs that can be used only to settle obligations of the Consolidated VIEs, except for registered capital and the PRC statutory reserves. Relevant PRC laws and regulations restrict the Consolidated VIEs from transferring a portion of their net assets, equivalent to the balance of its statutory reserve and its share capital, to the Company in the form of loans and advances or cash dividends. Please refer to Note 16 for disclosure of restricted net assets. As the Consolidated VIEs are incorporated as limited liability companies under the PRC Company Law, creditors of the Consolidated VIEs do not have recourse to the general credit of the Company for any of the liabilities of the Consolidated VIEs. There were no pledges or collateralization of the Consolidated VIEs’ assets.

104

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

1.	ORGANIZATION (CONTINUED)

(c)

VIE disclosures (Continued)

The following tables represent the financial information of the Consolidated VIEs as of December 31, 2016 and June 30, 2017 and for the six months ended June 30, 2016 and 2017 before eliminating the intercompany balances and transactions between the Consolidated VIEs and other entities within the Group:

	As of December 31,		As of June 30,
	2016		2017
	US$		US$

ASSETS
Current assets:
Cash and cash equivalents		414		854
Restricted cash		1,153		3,385
Accounts receivable		129		1,022
Receivable from MVNO franchisees		4,319		4,438
Inventories		67		92
Prepaid expenses and other current assets		926		509

Total current assets		7,008		10,300

Non-current assets:
Property and equipment, net		987		934
Intangible assets, net		8,609		8,357
Goodwill		693		710
Deferred tax asset		1,054		1,079
Other non-current assets		58		45

Total non-current assets		11,401		11,125

Total assets		18,409		21,425

105

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

1.	ORGANIZATION (CONTINUED)

(c)

VIE disclosures (Continued)

	As of December 31,		As of June 30,
	2016		2017
	US$		US$
Current liabilities:
Accounts payable		4,598		3,601
Accrued expenses and other payables		2,778		3,175
Deferred revenue		9,134		7,775
Short-term bank borrowings		721		738
Intercompany payables		7,923		12,824

Total current liabilities		25,154		28,113

Non-current liabilities
Deferred tax liabilities		1,539		1,511

Total non-current liabilities		1,539		1,511

Total liabilities		26,693		29,624

	Six Months Ended June 30,
	2016			2017
		US$			US$
Net revenues		17,457			14,664
Net (loss) income		(3,089	)		4

	Six Months Ended June 30,
	2016			2017
		US$			US$
Net cash (used in) provided by operating activities		(1,749	)		457
Net cash used in investing activities		(21	)		(17	)
Net cash provided by financing activities		754			-
Net (decrease) increase in cash and cash equivalents		(1,016	)		440

106

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

(a)

Basis of presentation

The accompanying unaudited condensed consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America ("US GAAP") and applicable rules and regulations of the Securities and Exchange Commission, regarding financial reporting, and include all normal and recurring adjustments that management of the Group considers necessary for a fair presentation of its financial position and operation results. Certain information and footnote disclosures normally included in financial statements prepared in conformity with US GAAP have been condensed or omitted pursuant to such rules and regulations. Accordingly, these statements should be read in conjunction with the Company's consolidated financial statements as of and for the two years in the period ended December 31, 2016.

(b)

Principles of consolidation

(c)

Use of estimates

The preparation of the consolidated financial statements in conformity with US GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the period. Areas where management uses subjective judgment include, but are not limited to, estimating the useful lives of long-lived assets and intangible assets, assessing the initial valuation of the assets acquired and liabilities assumed in a business combination and the subsequent impairment assessment of long-lived assets, intangible assets and goodwill, determining the provisions for accounts receivable and inventories, accounting for deferred income taxes and uncertain tax benefits, valuation for share-based compensation arrangements, warrants for Series D convertible redeemable preferred shares and convertible redeemable preferred shares. Changes in facts and circumstances may result in revised estimates. Actual results could differ from those estimates, and as such, differences may be material to the consolidated financial statements.

(d)

Foreign currency

Assets and liabilities of the Company’s PRC subsidiaries are translated into US$ at fiscal year-end exchange rates. Equity amounts are translated at historical exchange rates. Income and expense items are translated at average exchange rates prevailing during the fiscal year. Translation adjustments arising from translation of foreign currency financial statements are reported as cumulative translation adjustments and are shown as a separate component of other comprehensive loss in the consolidated statements of comprehensive loss.

107

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(e)

Accounts receivable

As of December 31, 2016 and June 30, 2017, the Group evaluated and wrote off the doubtful accounts as they were determined to be uncollectible. Thus, there was no allowance for doubtful accounts outstanding.

(f)

Revenue recognition

Android+ platform solutions and services

Android+ platform solutions

The project-based software contracts are generally considered multiple element arrangements as they consist of perpetual software licenses, software development services such as customization, modification, implementation and integration, and post-contract customer support (“PCS”) where customers have the right to receive bug fixes, telephone support and unspecified upgrades on a when-and-if available basis. Pursuant to ASC 985-605,Revenue Recognition: Software (“ASC 985-605”) given the project-based software contracts require significant customization that are generally completed within one year from the contract dates, the Group accounts for the entire software contracts in conformity with the relevant guidance in ASC 605-35,Revenue Recognition: Contract Accounting, applying the completed contract method.

As the Group was unable to establish vendor specific objective evidence of the fair value of PCS and PCS is the only undelivered element upon completion of software projects, the entire software project fixed fees are recognized ratably over the PCS service period. PCS service periods are generally 12 months, with ranges from Six Months to three years, and commences upon completion of customer acceptance of the completed software projects. Costs incurred to complete the software projects are deferred to match revenue recognition.

Where the Group is entitled to receive on going usage based royalties determined based on the chip or mobile device sales. The usage-based royalties are recognized according to the customers’ usage reports generally on a quarterly basis.

Service contracts

Hardware product sales

108

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

(f)

Revenue recognition (Continued)

MVNO

On July 11, 2014, the Group, through the VIE, acquired and obtained control of Yuantel Investment, which mainly operates the MVNO business. The license to operate such MVNO business is issued by the Chinese Ministry of Industry and Information Technology and the core mobile network is provided by the PRC government owned China Unicom. Yuantel Investment receives wholesale rates for mobile voice and data services from China Unicom and repackages the voice and data services into competitive bundles for Chinese consumers.

The Group enters into profit sharing arrangements with franchisees under which bundled services may be returned to the Group if not sold to the consumers. The franchisees receive certain percentages of profits made by the Group on the sales of the bundled services as they are used by the consumers. The Group accounts for profit sharing with franchisees as selling expenses in the consolidated statements of operations. Pursuant to the Company’s policy, the amount of discounts that may be provided by the franchisees to consumers is capped at 5%, based on which, the Group recognized the maximum amount of discounts that may be provided by the franchisees as reductions of revenue in accordance with ASC 605-50.

109

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

CONCENTRATION OF RISKS

(a)

Credit risk

Financial instruments that potentially subject the Company to significant concentrations of credit risk consist primarily of cash and cash equivalents and restricted cash, accounts receivable, accounts receivable from related parties and receivable from MVNO franchisees. As of December 31, 2016 and June 30, 2017, the aggregate amount of cash and cash equivalents and restricted cash of US$2,563 and US$6,360, respectively, were held at major financial institutions located in the PRC, and US$2,200 and US$3,485, respectively, were deposited with major financial institutions located outside the PRC. Management believes that these financial institutions are of high credit quality and continually monitors the credit worthiness of these financial institutions. Historically, deposits in Chinese banks are secure due to the state policy on protecting depositors’ interests. However, China promulgated a new Bankruptcy Law in August 2006 that came into effect on June 1, 2007, which contains a separate article expressly stating that the State Council may promulgate implementation measures for the bankruptcy of Chinese banks based on the Bankruptcy Law. Under the new Bankruptcy Law, a Chinese bank may go into bankruptcy. In addition, since China’s concession to the World Trade Organization, foreign banks have been gradually permitted to operate in China and have been significant competitors against Chinese banks in many aspects, especially since the opening of the Renminbi business to foreign banks in late 2006. Therefore, the risk of bankruptcy of those Chinese banks in which the Company has deposits has increased. In the event of bankruptcy of one of the banks which holds the Company’s deposits, it is unlikely to claim its deposits back in full since it is unlikely to be classified as a secured creditor based on PRC laws.

Accounts receivable, accounts receivable from related parties and receivable from MVNO franchisees are typically unsecured, and are derived from revenues earned from customers. The risk is mitigated by credit evaluations the Group performs on its ongoing credit evaluations of its customers’ financial conditions and ongoing monitoring process of outstanding balances. The Group maintains reserves for estimated credit losses and these losses have generally been within expectations.

(b)

Business supplier, customer, and economic risk

(i) Business supplier risk – The Group’s MVNO operations are dependent upon telecommunication resources provided by China Unicom. There is no guarantee that the supply of telecommunication resources provided by China Unicom will be renewed annually. Further, there is no guarantee around the continuance of the MVNO license granted by the PRC Ministry of Industry and Information Technology which may be amended or discontinued in light of changes to political, economic and social reforms.

(ii) Customer risk – The success of the Group’s business going forward will rely in part on Group’s ability to continue to obtain and expand business from existing customers while also attracting new customers. The Group has a diversified base of customers covering its services and the revenue from the largest single customer accounted for 1% and 31% of the Group’s total net revenues for the six months ended June 30, 2016 and 2017, respectively, and the accounts receivable from the largest single customer A accounted for 25% and from the largest single customer B 17% of the Group’s total accounts receivable and accounts receivable from related parties as of December 31, 2016 and June 30, 2017, respectively.

(c)

Foreign currency exchange rate risk

From July 21, 2005, the RMB is permitted to fluctuate within a narrow and managed band against a basket of certain foreign currencies. The depreciation and appreciation of the US$ against RMB was approximately (2.1%) and 2.3% in the six month periods ended June 30, 2016 and 2017, respectively. The appreciation of the US$ against Rupee was approximately 3.0% and 4.7% in the six months ended June 30, 2016 and 2017, respectively.

110

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

4.	INVENTORIES

Inventories consisted of the following as of December 31, 2016 and June 30, 2017:

	As of December 31,			As of June 30,
	2016			2017
	US$			US$

Raw materials		5,406			5,638
Goods in transit		7,164			220
Work in process		1,023			327
Finished goods		127			281
		13,720			6,466
Less: Provision		(1,038	)		(952	)

Inventories, net		12,682			5,514

PREPAID EXPENSES AND OTHER CURRENT ASSETS

Prepaid expenses and other current assets consist of the following:

	As of December 31,		As of June 30,
	2016		2017
	US$		US$

Staff advances		293		391
Advances to OEM		3,739		5,707
Rental and other deposits		1,048		828
VAT recoverable		963		3,134
Loan to a third party		519		1,042
Others		37		3

		6,599		11,105

PROPERTY AND EQUIPMENT, NET

Property and equipment consist of the following:

	As of December 31,			As of June 30,
	2016			2017
		US$			US$
At cost:
Leasehold improvements		837			900
Computer and network equipment		5,801			5,997
Office equipment		763			844
Motor vehicles		220			229
		7,621			7,970
Less: accumulated depreciation		(6,133	)		(6,613	)

		1,488			1,357

111

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

PROPERTY AND EQUIPMENT, NET (CONTINUED)

Depreciation expense was US$603 and US$455 for the six months ended June 30, 2016 and 2017, respectively, and were included in the following captions:

	Six Months ended June 30,
	2016		2017
	US$		US$

Cost of revenues		237		156
Sales and marketing expenses		16		14
General and administrative expenses		120		117
Research and development expenses		230		168

		603		455

INTANGIBLE ASSETS, NET

The following table presents the Group’s intangible assets as of the respective balance sheet dates:

	Software			Capitalized software development costs			MVNO license			Total
		US$			US$			US$			US$

Balance as of January 1, 2016		2,337			3,266			7,659			13,262
Additions		260			2,292			-			2,552
Amortization expense		(163	)		(540	)		(441	)		(1,144	)
Foreign currency translation difference		(49	)		(68	)		(158	)		(275	)

Balance as of June 30, 2016		2,385			4,950			7,060			14,395

Balance as of January 1, 2017		2,294			6,874			6,330			15,498
Additions		74			3,924			-			3,998
Amortization expense		(117	)		(1,356	)		(432	)		(1,905	)
Foreign currency translation difference		54			102			152			308

Balance as of June 30, 2017		2,305			9,544			6,050			17,899

The intangible assets are amortized using the straight-line method, which is the Company’s best estimate of how these assets will be economically consumed over their respective estimated useful lives of 3-10 years.

Amortization expenses were approximately US$1,144 and US$1,905 for the six months ended June 30, 2016 and 2017, respectively.

112

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

GOODWILL

The changes in the carrying amount of goodwill were as follows:

	As of December 31,			As of June 30,
	2016			2017
	US$			US$

Balance at the beginning of the period		741			693
Foreign currency translation difference		(48	)		17

Balance at the end of the period		693			710

No impairment charge was recorded in any of the six months ended June 30, 2016 and 2017.

BANK BORROWINGS

Bank borrowings are as follows as of the respective balance sheet dates:

	As of December 31,		As of June 30,
	2016		2017
	US$		US$

Short-term bank borrowings		6,306		6,796
Long-term bank borrowings, current portion		1,381		2,917
		7,687		9,713

Long-term bank borrowings, non-current portion		4,491		4,764

Total bank borrowings		12,178		14,477

The short-term bank borrowings outstanding as of December 31, 2016 and June 30, 2017 bore a weighted average interest rate of 6.89% and 7.09% per annum, respectively, and were denominated in RMB & US$. These borrowings were obtained from financial institutions and have terms of six months to one year. The long-term bank borrowings (including current portion) outstanding as of June 30, 2017 bore a weighted average interest rate of 7.98%, and were denominated in US$. These loans were obtained from financial institutions located in the PRC and Hong Kong, and have terms of 2 to 3 years.

Bank borrowings as of June 30, 2017 were pledged by accounts receivable amounted to US$24,904.

In August 2016, the Company issued 2,515,123 and 1,900,800 warrants (“2016 Warrants”) to two banks in connection with a short term loan facility of $2,000,000 and a long term loan facility of $6,000,000 respectively, for working capital purpose. The 2016 Warrants entitle the banks to subscribe for Series D convertible redeemable preferred shares at the exercise price of $0.5059. The 2016 Warrants shall lapse and expire after 5 and 7 years from their issuance dates, respectively.

As the 2016 Warrants were granted to the banks for loan facilities, their fair value on the issuance date were recognized as deferred borrowing costs presented as deductions of the carrying value of the term loans. The deferred borrowing costs are recognized over the life of the term loans as financing cost, using the effective interest rate method. As the 2016 Warrants are convertible into Series D convertible redeemable preferred shares classified as mezzanine equity, the 2016 Warrants are financial liabilities in accordance with ASC 480, Distinguishing Liabilities from Equity that are re-measured at the end of each reporting period with an adjustment for fair value through earnings.

113

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

10.

ACCRUED EXPENSES AND OTHER PAYABLES

The components of accrued expenses and other payables are as follows:

	As of December 31,		As of June 30,
	2016		2017
	US$		US$

Payroll and welfare payable		3,235		2,665
Accrued liability		50		381
VAT and other taxes payable		831		1,044
Payables for office supply and utility		743		832
Payables for purchase of property and equipment		432		443
Professional service fees		-		690
Deposits from agents		2,315		2,769
Others		28		33
		7,634		8,857

11.

DEFERRED GOVERNMENT GRANTS

The government grants received are required to be used in construction of property and equipment. These grants are initially deferred and subsequently recognized in the statement of operations when the Company has complied with the conditions or performance obligations attached to the related government grants, if any, and the grants are no longer refundable. Grants that subsidize the construction cost of property and equipment are amortized over the life of the related assets as other operating income.

	Six Months ended June 30,
	2016			2017
	US$			US$

Balance at beginning of the period		4,014			2,108
Additions		-			-
Recognized as other operating income		(896	)		(271	)
Foreign currency translation difference		(83	)		51
Balance at end of the period		3,035			1,888

12.

MAINLAND CHINA EMPLOYEE CONTRIBUTION PLAN

As stipulated by the regulations of the PRC, full-time employees of the Company in the PRC participate in a government-mandated multiemployer defined contribution plan organized by municipal and provincial governments. Under the plan, certain pension benefits, medical care, unemployment insurance, employee housing fund and other welfare benefits are provided to employees. The Company is required to make contributions to the plan based on certain percentages of employees’ salaries. The total expenses for the plan were US$1,573 and US$1,139 respectively, for the six months ended June 30, 2016 and 2017.

114

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

13.

SHARE BASED COMPENSATION

Share-based awards under the 2007 Plan

During the six months ended June 30, 2016 and 2017, the Company granted 200,000 and 7,800,000 shares of options, respectively, to purchase ordinary shares to employees, officers, and directors with the exercise price of $0.459 and 0.678 per share, respectively. The terms of the options shall not exceed ten years from the date of grant. Options will vest according to schedules stipulated in the award agreements, provided the optionee continues to be a service provider to the Company. In addition, the options contain a performance condition whereby vesting will commence upon the earlier to occur of an initial public offering or a change in control as defined in the 2007 Plan, provided there is continued employment of the optionees on such date.

The following table summarizes the Company’s option activities under the 2007 Plan:

	Number of options			Weighted average exercise price		Weighted average remaining contractual term		Aggregate intrinsic value
				(US$)		(Years)		(US$)

Outstanding, January 1, 2016		32,037,240			0.30		4.97		308
Granted		200,000			0.47
Forfeited		(524,350	)		0.40

Outstanding, June 30, 2016		31,712,890			0.30		4.77		308

Vested and expected to vest at June 30, 2016		31,712,890			0.30		4.77		308

Outstanding, January 1, 2017		27,456,943			0.30		5.26		308
Granted		7,800,000			0.68
Forfeited		(458,904	)		0.45

Outstanding, June 30, 2017		34,798,039			0.38		5.71		308

Vested and expected to vest at June 30, 2017		34,798,039			0.38		5.71		308

As of June 30, 2017, no options were vested and exercisable given the performance condition in place described above. Historically, compensation cost related to performance options that only vest upon the consummation of an initial public offering or change in control event was recognized when the offering or change in control event was consummated. Accordingly, the Group has not recognized any compensation cost to date.

115

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

13.

SHARE BASED COMPENSATION (CONTINUED)

As of December 31, 2016 and June 30, 2017, the Company had options outstanding to purchase an aggregate of 5,500,000 shares and 5,500,000 shares with an exercise price below the fair value of the Company’s shares, resulting in an aggregate intrinsic value of US$308, respectively.

	June 30, 2016			June 30, 2017

Risk-free interest rates		1.95%-2.28	%		2.41	%
Expected life (years)		10 years			10 years
Expected volatility		40%-45	%		45	%
Expected dividend yield		0	%		0	%
Exercise multiple		2.20			2.20
Post-vesting forfeit rate		10	%		10	%
Fair value of underlying ordinary shares		$0.158- $0.231			$0.720
Fair value of share option		$0.026- $0.096			$0.298- $0.425

Ordinary shares issued in 2017

On March 17, the Company issued 450,000 ordinary shares to certain employees and a non employee for a total proceeds of US$62. The fair value of the ordinary shares in excess of the proceeds received by the Company was immediately recognized as compensation expense.

116

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

14.

TAXATION

Profit (loss) before income taxes consists of:

	Six Months ended June 30,
	2016			2017
	US$			US$

Non-PRC		4,053			1,384
PRC		(1,359	)		(1,441	)

		2,694			(57	)

Income tax expense comprises of:

	Six Months ended June 30,
	2016			2017
	US$			US$

Current		(1,184	)		(943	)
Deferred		(92	)		53

		(1,276	)		(890	)

The reconciliation of tax computed by applying the statutory income tax rate of 25% for the six months ended June 30, 2016 and 2017 applicable to the PRC operations to income tax expense is as follows:

	Six Months ended June 30,
	2016			2017
	US$			US$

Profit before income taxes		2,694			(57	)

Income tax expense (benefit) computed at the statutory income tax rate at 25%		(674	)		14
Non-deductible expenses		(42	)		(304	)
Non-taxable income		126			67
Preferential rate		74			(102	)
Current and deferred tax rate differences		321			(120	)
Foreign rate differences		(7	)		(266	)
Change in valuation allowance		(1,087	)		(116	)
Deferred tax		18			-
Interest expense		(5	)		(63	)

Income tax expense		(1,276	)		(890	)

117

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

14.

TAXATION (CONTINUED)

Deferred Tax

The significant components of deferred taxes are as follows:

	As of December 31,			As of June 30,
	2016			2017
	US$			US$
Deferred tax assets
Inventory provision		156			143
Accrued salary and welfare		274			176
Property and equipment		20			13
Tax losses		13,279			13,538
Valuation allowance		(12,675	)		(12,791	)

Total deferred tax assets		1,054			1,079

Deferred tax liabilities
Intangible assets	1,539	1,511

Total deferred tax liabilities	1,539	1,511

As of June 30, 2017, the Company had net tax operating losses from its PRC subsidiaries and its Consolidated VIEs, as per filed tax returns, of US$37,663, which will expire from 2017 to 2022. The Company has net tax operating loss from its HK subsidiary of US$21,719, which will not expire.

As of June 30, 2017, the Company intends to permanently reinvest the undistributed earnings from its foreign subsidiaries and the Consolidated VIEs to fund future operations. The amount of unrecognized deferred tax liabilities for temporary differences related to investments in foreign subsidiaries and the Consolidated VIEs is not determined because such a determination is not practicable.

118

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

14.

TAXATION (CONTINUED)

Unrecognized Tax Benefits

As of June 30, 2016 and 2017, the Company recorded an unrecognized tax benefits of US$2,522 and US$3,870, respectively, of which, US$1,221 and US$2,424, respectively, are presented on a net basis against the deferred tax assets related to tax loss carry forwards on the consolidated balance sheets. The unrecognized tax benefits and its related interest are primarily related to under-reported intercompany profit. The amount of unrecognized tax benefits will change in the next 12 months, pending clarification of current tax law or audit by the tax authorities, however, an estimate of the range of the possible change cannot be made at this time. As of June 30, 2016 and 2017, unrecognized tax benefits of US$1,301 and US$1,577, if ultimately recognized, will impact the effective tax rate.

A roll-forward of unrecognized tax benefits is as follows:

	Six Months ended June 30,
	2016		2017
	US$		US$

Balance at beginning of the period		2,177		4,053

Reversal based on tax positions related to prior years		-		(353	)
Additions based on tax positions related to the current year		345		170

Balance at end of the period		2,522		3,870

In the six months ended June 30, 2016 and 2017, the Company recorded interest expense accrued in relation to the unrecognized tax benefit of US$5 and US$63 in income tax expense, respectively. Accumulated interest expense recorded by the Company was US$10 and US$151 as of June 30, 2016 and 2017, respectively. As of June 30, 2017, the tax years ended December 31, 2012 through 2017 for the PRC subsidiaries and the VIE remain open for statutory examination by the PRC tax authorities.

119

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

15.

RELATED PARTY TRANSACTIONS

(a)

Related parties

	Names of related parties		Relationship with the Company
	Intel Capital Corporation (“Intel”) and its affiliates		Intel is a holder of Series C and Series D convertible redeemable preferred shares
	Qualcomm Global Trading PTE. Ltd (“Qualcomm”)and its affiliates		Qualcomm is a holder of Series E convertible redeemable preferred shares and Series E-1 convertible preferred shares

(b)

Other than disclosed elsewhere, the Company had the following significant related party transactions for the six months periods ended June 30, 2016 and 2017:

	Six Months ended June 30,
	2016		2017
	US$		US$
Services provided to:
Intel Corporation		271		-
Intel Asia-Pacific Research and Development Ltd		94		65
Intel (China) Co., Ltd.		9		9
Intel (China) Research Center Co., Ltd		58		8
Qualcomm India Private Limited		*		3,967

Hardware sold to :
Qualcomm India Private Ltd		*		12

Purchased from:
Qualcomm Incorporated		*		398
Qualcomm CDMA Technologies Asia Pacific PTE. Ltd		*		1,732
Qualcomm Technologies, Inc.		*		75

(c)

The Company had the following related party balances as of December 31, 2016 and June 30, 2017:

	As of December 31,		As of June 30,
	2016		2017
		US$		US$
Amounts due from related parties:
Current:
Intel Corporation		481		-
Intel Asia-Pacific Research and Development Ltd		9		-
Qualcomm India Private Ltd		*		955

Amounts due to related parties:
Current:
Qualcomm Incorporated		*		144
Qualcomm CDMA Technologies Asia Pacific PTE. Ltd		*		366

All balances outstanding with the related parties as of December 31, 2016 and June 30, 2017 were unsecured, interest-free and have no fixed terms of repayment.

* Qualcomm became a related party of the Group beginning in February 2017 upon its purchase of the Series E convertible redeemable preferred shares and the related Series E-1 Warrants.

120

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

16.

RESTRICTED NET ASSETS

In accordance with the PRC Regulations on Enterprises with Foreign Investment and the articles of association of the Company’s PRC subsidiaries, a foreign-invested enterprise established in the PRC is required to provide certain statutory reserves, namely general reserve fund, the enterprise expansion fund and staff welfare and bonus fund which are appropriated from net profit as reported in the enterprise’s PRC statutory accounts. A foreign-invested enterprise is required to allocate at least 10% of its annual after-tax profit to the general reserve until such reserve has reached 50% of its respective registered capital based on the enterprise’s PRC statutory accounts. Appropriations to the enterprise expansion fund and staff welfare and bonus fund are at the discretion of the board of directors for all foreign-invested enterprises. The aforementioned reserves can only be used for specific purposes and are not distributable as cash dividends. Borqs Beijing was established as foreign-invested enterprise and, therefore, is subject to the above mandated restrictions on distributable profits. As of December 31, 2016 and June 30, 2017, the Company’s PRC subsidiaries had appropriated US$1,898, respectively, in its statutory reserves.

121

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

17.

PREFERRED SHARES

On February 8, 2017 and March 2, 2017, the Group closed the issuances of an aggregate of 10,325,126 and 2,950,036 series E redeemable convertible preferred shares (the “Series E Preferred Shares”), respectively, for a purchase price of $0.678 per share. Concurrently, Series E-1 Warrants to purchase up to an aggregate of 7,094,164 Series E-1 convertible preferred shares (the “Series E-1 Preferred Shares”) were issued and immediately exercised, at $0.001 per share. The total cash proceeds received was US$9,008, net of issuance costs of US$312. Net proceeds were allocated to the Series E Preferred Shares and Series E-1 Preferred Shares based on their relative fair value on closing dates.

Series E-1 Preferred Shares shall vote with Series E Preferred Shares as a single class. Series E-1 Preferred Shares do not have any redemption rights nor any other rights preferential to the ordinary shares

At the respective closing date of the Series E Preferred Shares, beneficiary conversion feature was identified and recorded as a reduction of Series E Preferred Shares with an offsetting credit to additional paid-in capital.

Series A, Series B, Series C, Series D and Series E redeemable convertible preferred shares (collectively, the “Convertible Redeemable Preferred Shares”) were accreted to redemption value based on the terms stipulated in the Memorandum of Association (“MOA”). Changes in the redemption value are recorded against retained earnings.

The following is the roll-forward of the carrying amounts of Convertible Redeemable Preferred Shares for the six months ended June 30, 2017:

	Six Months ended June 30,
	US$

Balance as of January 1, 2017		68,862
Issuance of Series E Preferred Shares		6,300
Beneficiary conversion feature		(3,258	)
Change in redemption value		448

Balance as of June 30, 2017		72,352

18.

FAIR VALUE MEASUREMENT

ASC 820 establishes a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value as follows:

Level 1— Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets.

Level 2— Include other inputs that are directly or indirectly observable in the marketplace.

Level 3— Unobservable inputs which are supported by little or no market activity.

2016 Warrants are classified within Level 3. We estimated the fair value of these warrants as of December 31, 2016 and June 30, 2017 using the binomial-lattice option valuation model, based on the remaining contractual term of the warrants, risk-free interest rates and expected volatility of the price of the underlying Series D Convertible Redeemable Preferred Shares. The assumptions used, including the market value of the underlying Series D Preferred Shares and the expected volatility, were subjective unobservable inputs.

122

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

18.

FAIR VALUE MEASUREMENT (CONTINUED)

Liabilities measured at fair value on a recurring basis are summarized below:

	Fair value measurement using:
	Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Unobservable inputs (Level 3)		Fair value at June 30, 2017
		US$		US$		US$		US$
Warrant liabilities		-		-		1,505		1,505

Liabilities		-		-		1,505		1,505

	Warrant liabilities
		US$
Fair value at January 1, 2017		1,344
Changes in the fair value		161
Fair value at June 30, 2017		1,505

19.

COMMITMENTS AND CONTINGENCIES

Operating lease commitments

The Company leases buildings in the PRC, and India under non-cancelable operating leases expiring on different dates. For the six months ended June 2016 and 2017, total rental expenses for all operating leases amounted to US$740 and US$728, respectively.

As of June 30, 2017, the Company has future minimum lease payments under non-cancelable operating leases with initial terms in excess of one year in relation to office buildings consisting of the following:

	US$

2017		1,228
2018		354
2019		345
2020 and thereafter		-

		1,927

Payments under operating leases are expensed on a straight-line basis over the periods of their respective leases.

Income Taxes

As of June 30, 2017, the Group has recognized an accrual of US$1,481 for unrecognized tax benefits and its interest (Note 14). The final outcome of the tax uncertainty is dependent upon various matters including tax examinations, interpretation of tax laws or expiration of statutes of limitation. However, due to the uncertainties associated with the status of examinations, including the protocols of finalizing audits by the relevant tax authorities, there is a high degree of uncertainty regarding the future cash outflows associated with these tax uncertainties. As of June 30, 2017 the Group classified the accrual for unrecognized tax benefits as a non-current liability.

123

BORQS INTERNATIONAL HOLDING CORP

NOTES TO THE UNAUDITED CONSOLIDATED CONDENSED

INTERIM FINANCIAL STATEMENTS (CONTINUED)

(Amounts in thousands of US dollars (“US$”), unless otherwise stated)

20.

SUBSEQUENT EVENTS

Merger of PAAC Subsidiary Limited

On December 27, 2016 and as amended on May 10, 2017, the Company entered into an agreement with Borqs Technologies, Inc. (formerly known as “Pacific Special Acquisition Corp.”) (“Borqs Technologies”) to effect an acquisition whereby Borqs Technologies will merge with the Company (the “Merger”). The Merger was consummated on August 18, 2017.

As consideration for the Merger, Borqs Technologies issued to the Company’s shareholders 25,913,950 of ordinary shares (“Merger Consideration Shares”). Additionally, the holders of the Company issued and outstanding warrants received replacement warrants to acquire an aggregate of 417,166 Borqs Technologies’ ordinary shares (“Replacement Warrants”), and the holders of the Company issued and outstanding options had their options assumed by Borqs Technologies and now hold options to acquire Borqs Technologies’ ordinary shares upon exercise of those options (“Assumed Options”). The number of shares and exercise price of the Replacement Warrants and the Assumed Options were equitably adjusted to reflect the terms of the Merger Agreement.

Of the Merger Consideration Shares, a total of 25,913,950 ordinary shares were issued to the Company’s shareholders at closing, with 942,467 of such shares deposited into escrow for indemnification obligations (“Indemnity shares”), 2,352,285 of such shares deposited in escrow subject to Borqs Technologies meeting certain earn-out requirements (“Earnout Shares” and together with the Indemnity Shares, the “Escrow Shares”) in the event certain net income earnout conditions are met during the period July 1, 2017 to June 30, 2018 (“Earnout Period”) and 1,178,084 of such shares were issued to a financial advisor engaged by the Company in connection with the Business Combination.

The Merger will be accounted for as a reverse acquisition whereby the Company will be treated as the “acquired” company for financial reporting purposes. This determination was primarily based on the Group comprising the ongoing operations of the combined entity, with its senior management operating the combined entity going forward, and the Company’s shareholders having the majority voting power of the combined entity.

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Borqs (BRQSF) 8-KCompletion of Acquisition or Disposition of Assets