UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2007
or
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________________ to __________________
Commission File Number : 333-112111
-------------------------------------------------------
Zhongpin Inc.
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 54-2100419
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(State or other jurisdiction (I.R.S. Employer Identification No.)
of incorporation or organization)
21 Changshe Road, Changge City, Henan Province,
People's Republic of China
- --------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
011 86 374-6216633
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(Registrant's telephone number, including area code)
Not Applicable
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(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past ninety (90) days. YES |X| NO |_|
Indicate by check mark whether the registrant is a large accelerated
filer, an accelerated filer or a non-accelerated filer. See definition of
"accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange
Act. (Check One):
Large accelerated filer |_| Accelerated filer |X| Non-accelerated filer |_|
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act). YES |_| NO |X|
As of May 1, 2007, 13,753,170 shares of the registrant's common stock, and
5,279,141 shares of the registrant's Series A preferred stock, each such share
convertible into one share of the registrant's common stock, were outstanding.
ZHONGPIN INC.
FORM 10-Q
INDEX
PART I FINANCIAL INFORMATION PAGE
- ------ --------------------- ----
Item 1. Unaudited Financial Statements:
Consolidated Balance Sheets as of March 31, 2007 (unaudited)
and December 31, 2006.......................................................... 2
Consolidated Statements of Operations and Comprehensive
Income (unaudited) for the three months ended March 31,
2007 and 2006.................................................................. 3
Consolidated Statement of Changes in Stockholders' Equity (unaudited)
for the three months ended March 31, 2007...................................... 4
Consolidated Statements of Cash Flows (unaudited) for the three
months ended March 31, 2007 and 2006........................................... 5
Notes to Consolidated Financial Statements (unaudited).............................. 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations...................................................... 22
Item 3. Quantitative and Qualitative Disclosures About Market Risk.......................... 33
Item 4. Controls and Procedures............................................................. 33
PART II OTHER INFORMATION
- ------- -----------------
Item 1. Legal Proceedings................................................................... 34
Item 1A. Risk Factors........................................................................ 34
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds......................... 34
Item 3. Defaults Upon Senior Securities..................................................... 34
Item 4. Submission of Matters to a Vote of Security Holders................................. 34
Item 5. Other Information................................................................... 34
Item 6. Exhibits ........................................................................... 35
SIGNATURES................................................................................................ 36
i
ZHONGPIN INC.
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
The accompanying unaudited consolidated balance sheets, statements of
operations and comprehensive income, of changes in stockholders' equity, and of
cash flows and related notes thereto, have been prepared in accordance with
generally accepted accounting principles ("GAAP") for interim financial
information and in conjunction with the rules and regulations of the Securities
and Exchange Commission ("SEC"). Accordingly, they do not include all of the
disclosures required by GAAP for complete financial statements. The financial
statements reflect all adjustments consisting only of normal, recurring
adjustments, which are, in the opinion of management, necessary for a fair
presentation for the interim periods.
The accompanying financial statements should be read in conjunction with
the notes to the aforementioned financial statements and Management's Discussion
and Analysis of Financial Condition and Results of Operations and the financial
statements and notes thereto included in our Annual Report on Form 10-K for the
year ended December 31, 2006.
The results of operations for the three-month period ended March 31, 2007
are not necessarily indicative of the results to be expected for the entire
fiscal year or any other period.
ZHONGPIN INC.
CONSOLIDATED BALANCE SHEETS
(AMOUNTS IN U.S. DOLLARS)
MARCH 31, 2007 DECEMBER 31, 2006
-------------- -----------------
ASSETS (Unaudited)
Current assets
Cash and cash equivalents $ 25,917,698 $ 21,692,814
Accounts receivable and other receivables (net) 17,047,013 13,471,450
Purchase deposits 336,695 --
Prepaid expenses and deferred charges 273,391 200,436
Inventories 11,464,847 10,077,479
Tax refund receivables 1,243,277 1,079,002
------------- -------------
Total current assets 56,282,921 46,521,181
Property, plant and equipment (net) 32,679,396 32,597,150
Related party receivables --
Other receivables 2,445,994 2,056,642
Construction contracts 21,551,169 12,016,823
Intangible assets 9,070,043 9,030,077
------------- -------------
Total assets $ 122,029,523 $ 102,221,873
============= =============
LIABILITIES AND EQUITY
Current liabilities
Accounts payable and other payables $ 23,874,118 $ 20,712,794
Accrued liabilities 1,942,162 1,597,557
Short term loans payable 32,996,302 23,845,198
Taxes payable 1,044,359 378,705
Deposits from clients 2,039,645 683,814
Research and development grants payable 249,034 248,572
Long term loans payable-current portion 145,671 145,671
------------- -------------
Total current liabilities 62,291,291 47,612,311
Long term loans payable 1,913,614 1,912,343
------------- -------------
Total liabilities 64,204,905 49,524,654
Equity
Preferred stock: par value $0.001; 10,000,000 authorized;
5,478,754 and 6,900,000 shares issued and outstanding 5,479 6,900
Common stock: par value $0.001; 25,000,000 authorized;
13,553,557 and 12,132,311 shares issued and outstanding 13,554 12,133
Additional paid in capital 32,548,105 32,538,535
Retained earnings 23,029,172 18,456,884
Accumulated other comprehensive income 2,228,308 1,682,767
------------- -------------
Total equity 57,824,618 52,697,219
------------- -------------
Total liabilities and equity $ 122,029,523 $ 102,221,873
============= =============
The accompanying notes are an integral part
of these consolidated financial statements.
2
ZHONGPIN INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
(AMOUNT IN U.S. DOLLARS) (UNAUDITED)
THREE MONTHS ENDED
MARCH 31,
-------------------------------
2007 2006
---- ----
Revenues
Sales revenues $ 55,791,778 $ 30,493,507
Cost of sales 48,049,622 25,914,155
------------- ------------
Gross profit 7,742,156 4,579,352
Operating expenses
General and administrative expenses 1,404,719 899,024
Operating expenses 1,125,945 804,146
------------- ------------
Total operating expenses 2,530,664 1,703,170
------------- ------------
Income from operations 5,211,492 2,876,182
Other income (expense)
Interest income 21,904 95,690
Other income (expenses) (4,428) 12,392
Allowances income -- 113,184
Exchange gain 3,484 13,709
Interest expense (442,811) (380,228)
------------- ------------
Total other income (expense) (421,851) (145,253)
------------- ------------
Net income before taxes 4,789,641 2,730,929
Provision for income taxes 217,353 145,245
------------- ------------
Net income after taxes 4,572,288 2,585,684
Minority interest -- 10,720
------------- ------------
Net income $ 4,572,288 $ 2,574,964
============= ============
Foreign currency translation adjustment $ 545,541 $ 141,150
------------- ------------
Comprehensive income $ 5,117,829 $ 2,716,114
============= ============
Basic earnings per common share $ 0.24 $ 0.16
Diluted earnings per common share $ 0.22 $ 0.13
Basic weighted average shares outstanding 12,627,854 11,752,568
Diluted weighted average shares outstanding 20,982,304 19,342,568
The accompanying notes are an integral part
of these consolidated financial statements.
3
ZHONGPIN INC.
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(AMOUNT IN U.S. DOLLARS) (UNAUDITED)
Accumulated
Additional Other
Preferred Stock Common Stock Paid In Retained Comprehensive
Shares Par Value Shares Par Value Capital Earnings Income Total
------ --------- ------ --------- ------- -------- ------ -----
January 1, 2006 -- $ -- 11,752,568 $11,753 $ 2,102,933 $12,097,834 $ 303,748 $14,516,268
Increase in Common Stock 379,740 380 380
Increase in Preferred Stock 6,900,000 6,900 -- -- -- -- -- 6,900
Warrant expense -- -- -- -- 22,330 -- -- 22,330
Net income for the period -- -- -- -- -- 6,359,051 -- 6,359,051
Increase in additional paid in capital -- -- -- -- 30,413,272 -- 30,413,272
Foreign currency translation adjustment -- -- -- -- -- -- 1,379,019 1,379,019
--------- ------- ---------- ------- ----------- ----------- ---------- -----------
Balance December 31, 2006 6,900,000 6,900 12,132,318 12,133 32,538,535 18,456,885 1,682,767 52,697,219
Preferred stock converted to common (1,421,246) (1,421) 1,421,246 1,421 -- -- -- --
Warrant expense -- -- -- -- 9,570 -- -- 9,570
Net income for the period -- -- -- -- -- 4,572,288 -- 4,572,288
Foreign currency translation adjustment -- -- -- -- -- -- 545,541 545,541
--------- ------- ---------- ------- ----------- ----------- ---------- -----------
Balance March 31, 2007 5,478,754 $ 5,479 13,553,557 $13,554 $32,548,105 $23,029,172 $2,228,308 $57,824,618
========= ======= ========== ======= =========== =========== ========== ===========
The accompanying notes are an integral part
of these consolidated financial statements.
4
ZHONGPIN INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(AMOUNT IN U.S. DOLLARS) (UNAUDITED)
THREE MONTHS ENDED MARCH 31,
-----------------------------
2007 2006
---- ----
Cash flows from operating activities:
Net income $ 4,572,288 $ 2,574,964
Adjustments to reconcile net income to
net cash provided by (used in) operations:
Minority interest -- 10,720
Depreciation 415,186 145,734
Amortization 47,177 10,017
Warrant expense 9,570 --
Changes in operating assets and liabilities:
Accounts receivable and other receivables (3,964,914) (5,180,997)
Purchase deposits (336,695) 78,557
Prepaid expense and deferred charges (72,955) 4,645
Inventories (1,387,368) (2,364,754)
Tax refunds receivable (164,275) 492,903
Accounts payable and other payable 3,161,786 1,084,766
Accrued liabilities 344,605 --
Taxes payable 665,654 118,537
Deposits from clients 1,355,831 79,636
------------ ------------
Net cash provided by operating activities 4,645,890 (2,945,272)
Cash flows from investing activities:
Construction in progress (9,534,346) (3,725,926)
Additions to fixed assets (497,433) (236,210)
Additions to intangible assets (87,143) --
------------ ------------
Net cash used in investing activities (10,118,922) (3,962,136)
Cash flows from financing activities:
Repayment of Bank overdraft -- (619,579)
Proceeds from short-term loans 11,724,610 --
Proceeds from long-term loans 1,271 --
Repayment of short-term loans (2,573,506) (7,976,527)
Proceeds from preferred stock -- 23,110,703
Net cash provided by financing activities 9,152,375 14,514,597
Effect of rate changes on cash 545,541 136,367
------------ ------------
Increase (decrease) in cash and cash equivalents 4,224,884 7,743,556
Cash and cash equivalents, beginning of period 21,692,814 10,142,394
------------ ------------
Cash and cash equivalents, end of period $ 25,917,698 $ 17,885,950
============ ============
Supplemental disclosures of cash flow information:
Cash paid for interest $ 428,320 $ 352,002
Cash paid for income taxes $ 106,925 $ 186,567
The accompanying notes are an integral part
of these consolidated financial statements.
5
ZHONGPIN INC.
NOTES TO CONSOLIATED FINANCIAL STATEMENTS
1. ORGANIZATION AND NATURE OF OPERATIONS
Zhongpin Inc. ("Zhongpin") was incorporated on February 4, 2003 as Strong
Technical Inc. in the State of Delaware for the purpose of operating a personnel
outsourcing service that provides skilled workers to industry. On March 30,
2005, an 82.4% controlling interest in our company was acquired by Halter
Capital Corporation and all previous operations were discontinued. On January
30, 2006, we acquired Falcon Link Investment Limited ("Falcon") in a stock
exchange by issuing 11,250,000 shares of our common stock in exchange for all of
the issued and outstanding capital stock of Falcon. The acquisition transaction
was accounted for as a reverse acquisition resulting in the recapitalization of
Falcon. Accordingly, the historical financial statements of Falcon have been
retroactively restated to give effect to the recapitalization as if it had
occurred at the beginning of the first period presented. Zhongpin and its
subsidiaries are collectively referred to herein as "our company," "we," "us"
and "our."
Falcon was incorporated in the Territory of the British Virgin Islands
("BVI") on July 21, 2005 as a holding company for the purpose of owning all of
the equity interests of Henan Zhongpin Food Co., Ltd. ("HZFC"), a People's
Republic of China ("PRC") company. Falcon acquired 100% ownership of HZFC by
paying 20,940,000 Renminbi ("RMB") ($2,528,986) to the stockholders of HZFC, who
also were the stockholders of Falcon. The transaction was accounted for as a
transfer of entities under common control, wherein HZFC was the continuing
entity. The historical financial statements of Falcon are essentially those of
HZFC and are shown as if the transfer had taken place at the beginning of the
first period presented.
HZFC was established in the PRC on May 20, 2005 for the sole purpose of
holding the capital stock of Henan Zhongpin Food Share Company Limited ("Food
Share") and its subsidiaries. The owners of Food Share formed HZFC by investing
16,000,000 RMB ($1,932,367). HZFC acquired Food Share by paying 15,040,000 RMB
($1,816,425) to the stockholders of Food Share, who were also the stockholders
of HZFC, in exchange for 100% ownership of Food Share. The transaction was
accounted for as a transfer of entities under common control, wherein Food Share
was the continuing entity with an increase in registered capital of 960,000 RMB
($115,942). The historical financial statements of HZFC are essentially those of
Food Share shown with an increase in capital as if the transfer had taken place
at the beginning of the first period presented.
Food Share was incorporated in the PRC. It is headquartered in Henan
Province in the PRC and its corporate office is in Changge City. Through our
subsidiaries, we are principally engaged in the production of pork, pork
products and vegetables, and the retail sales of pork, processed pork products,
vegetables and other grocery items to customers throughout the PRC and other
export countries, either directly or through our subsidiaries.
On January 30, 2006, we consummated an agreement with the shareholders of
Falcon whereby we issued 11,250,000 shares of our common stock in exchange for
all of the issued and outstanding stock of Falcon. Immediately prior to the
transaction there were 502,568 shares outstanding as compared to 11,752,568
shares outstanding immediately following the transaction. Consequently, Falcon
became a wholly-owned subsidiary of our company. The transaction was accounted
for as a reverse acquisition resulting in a recapitalization of Falcon, wherein
Falcon's historical financial statements became those of our company,
retrospectively restated to reflect the adopted capital structure of our company
as if the transaction had occurred at the beginning of the first period
presented. These financial statements have been adjusted to reflect such
restatement.
6
ZHONGPIN INC.
NOTES TO CONSOLIATED FINANCIAL STATEMENTS
1. ORGANIZATION AND NATURE OF OPERATIONS (continued)
In conjunction with our acquisition of Falcon, on January 31, 2006, we
sold for $8.00 per unit 3.45 million units, each consisting of two shares of
Series A convertible preferred stock and a five-year warrant to purchase one
common share at a purchase price of $5.00 per share. Each preferred share is
convertible into one common share. The outstanding shares of Series A
convertible preferred stock are convertible into an aggregate of 6,900,000
common shares and the outstanding warrants are exercisable to purchase an
aggregate of 3,450,000 common shares.
On February 16, 2006, we amended our articles of incorporation to change
our name from Strong Technical, Inc. to Zhongpin Inc. In the same amendment, we
changed our authorized common stock to 25,000,000 shares with a par value of
$0.001 per share and our authorized preferred stock to 10,000,000 shares with a
par value of $0.001 per share.
On February 16, 2006, we effected a 1:35.349 reverse split of our
outstanding common stock. Immediately prior to the split, 415,442,354 common
shares were outstanding as compared to 11,752,568 common shares outstanding
immediately following the split. The aggregate number of shares of common stock
issuable upon conversion of our outstanding shares of Series A convertible
preferred stock was reduced from 243,908,100 common shares to 6,900,000 common
shares, and the aggregate number of shares of our common stock issuable upon the
exercise of our outstanding warrants was reduced from 121,954,050 common shares
to 3,450,000 common shares. These financial statements have been adjusted to
show all stock transactions using post-split amounts.
In June 2006, Zhumadian Zhongpin Food Company Limited was registered with
a registered capital of 5,000,000 RMB ($625,344), which is 100%-owned by Henan
Zhongpin Food Share Company Limited. In August 2006, Anyang Zhongpin Food
Company Limited was registered with a registered capital of 4,800,000 RMB
($606,927), which is 100%-owned by Henan Zhongpin Food Share Company Limited. In
September 2006, Henan Zhongpin Fresh Food Logistics Company Limited, Deyang
Zhongpin Food Company Limited and Henan Zhongpin Business Development Company
Limited were registered with the registered capitals of 1,500,000 RMB
($189,665), 1,000,000 RMB ($126,443) and 5,000,000 RMB ($632,215), respectively,
which are all 100%-owned by Henan Zhongpin Food Share Company Limited. In
October 2006, Heilongjiang Zhongpin Food Company Limited was registered with a
registered capital of 1,000,000 RMB ($126,406), which is 100%-owned by Henan
Zhongpin Food Share Company Limited.
Details of Food Share's subsidiaries are as follows:
DOMICILE/DATE OF REGISTERED PERCENTAGE
NAME INCORPORATION CAPITAL OF OWNERSHIP
- ---- ------------- ------- ------------
Henan Zhongpin Industrial Company PRC/Jan. 17, 2004 18,000,000 RMB 100.00%
Limited ($2,173,913)
Henan Zhongpin Import and Export Trading PRC/Aug. 11, 2004 5,060,000 RMB 100.00%
Company ($611,111)
Zhumadian Zhongpin Food Company Limited PRC/June 7, 2006 5,000,000 RMB 100.00%
($625,344)
7
ZHONGPIN INC.
NOTES TO CONSOLIATED FINANCIAL STATEMENTS
DOMICILE/DATE OF REGISTERED PERCENTAGE
NAME INCORPORATION CAPITAL OF OWNERSHIP
- ---- ------------- ------- ------------
Anyang Zhongpin Food Company Limited PRC/Aug 21, 2006 4,800,000 RMB 100.00%
($606,927)
Henan Zhongpin Fresh Food Logistics PRC/Sep 14, 2006 1,500,000 RMB 100.00%
Company Limited ($189,665)
Deyang Zhongpin Food Company Limited PRC/Sep 25, 2006 1,000,000 RMB 100.00%
($126,443)
Henan Zhongpin Business Development PRC/Sep 27, 2006 5,000,000 RMB 100.00%
Company Limited ($632,215)
Heilongjiang Zhongpin Food Company Limited PRC/Oct.17, 2006 1,000,000 RMB 100.00%
($126,406)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
The consolidated financial statements include the accounts of Zhongpin
Inc. (formerly Strong Technical, Inc.), Falcon Link Investment Limited, Henan
Zhongpin Food Co., Ltd., Henan Zhongpin Food Share Company Limited, Henan
Zhongpin Industrial Company Limited, Henan Zhongpin Import and Export Trading
Company, Zhumadian Zhongpin Food Company Limited, Anyang Zhongpin Food Company
Limited, Henan Zhongpin Business Development Company Limited, Henan Zhongpin
Fresh Food Logistics Company Limited, Deyang Zhongpin Food Company Limited and
Heilongjiang Zhongpin Food Company Limited. All material intercompany accounts
and transactions have been eliminated in consolidation.
The consolidated financial statements were prepared in accordance with
accounting principles generally accepted in the United States of America ("U.S.
GAAP"). The preparation of financial statements in conformity with U.S. GAAP
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities, the disclosure of contingent assets and
liabilities as of the date of the financial statements and the reported amounts
of revenues and expenses during the reporting period. Actual results could
differ from those estimates. U.S. GAAP differs from that used in the statutory
financial statements of our PRC subsidiaries, which were prepared in accordance
with the relevant accounting principles and financial reporting regulations as
established by the Ministry of Finance of the PRC.
The Renminbi of the People's Republic of China (RMB) has been determined
to be our functional currency. The balance sheets of our company and our
subsidiaries were translated at year end exchange rates. Expenses were
translated at moving average exchange rates in effect during the year. The
effects of rate changes on assets and liabilities are recorded as accumulated
other comprehensive income.
FISCAL YEAR
Our financial statements have been prepared using December 31 as the
fiscal year end.
8
ZHONGPIN INC.
NOTES TO CONSOLIATED FINANCIAL STATEMENTS
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
MINORITY INTEREST IN SUBSIDIARIES
We record minority interest expense, which reflects the minority
shareholders' portion of the earnings of Henan Zhongpin Industrial Company
Limited and Henan Zhongpin Import and Export Trading Company. During 2004, Henan
Zhongpin Industrial Company Limited increased its registered capital from
5,000,000 RMB ($603,864) to 18,000,000 RMB ($2,173,913), which required the
minority holders to increase their investment by 1,560,000 RMB ($188,406),
effectively increasing the minority interest shown on our balance sheet by
$188,406. In November 2006, Henan Zhongpin Food Share Co. Limited acquired the
minority interest shares of Henan Zhongpin Industrial Company Limited and Henan
Zhongpin Import and Export Trading Company and became the 100% owner of Henan
Zhongpin Industrial Company Limited and Henan Import and Export Trading Company.
RESTRICTIONS ON TRANSFER OF ASSETS OUT OF THE PRC
Dividend payments by HZFC are limited by certain statutory regulations in
the PRC. No dividends may be paid by HZFC without first receiving prior approval
from the Foreign Currency Exchange Management Bureau. Dividend payments are
restricted to 85% of profits, after tax.
CONTROL BY PRINCIPAL STOCKHOLDERS
Our directors and executive officers and their affiliates or related
parties own, beneficially and in the aggregate, the majority of the voting power
of the outstanding shares of our common stock. Accordingly, if our directors and
executive officers and their affiliates or related parties vote their shares
uniformly, they would have the ability to control the approval of most corporate
actions, including increasing our authorized capital stock and the dissolution
or merger of our company or the sale of our assets.
START-UP COSTS
In accordance with the provisions of the American Institute of Certified
Public Accountants' Statement of Position (SOP) 98-5, "Reporting on the Costs of
Start-up Activities," we expense all start-up and organizational costs as they
are incurred.
USE OF ESTIMATES
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.
SIGNIFICANT ESTIMATES
Several areas require significant management estimates relating to
uncertainties for which it is reasonably possible there will be a material
change in the near term. The more significant areas requiring
9
ZHONGPIN INC.
NOTES TO CONSOLIATED FINANCIAL STATEMENTS
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
the use of management estimates relate to the valuation of receivables,
equipment and accrued liabilities, and the useful lives for amortization and
depreciation.
CASH EQUIVALENTS
We consider all highly-liquid debt instruments purchased with a maturity
of three months or less to be cash equivalents.
ACCOUNTS RECEIVABLE
Accounts receivable are stated at cost, net of allowance for doubtful
accounts. Based on our experience and current practice in the PRC, management
provides for an allowance for doubtful accounts equivalent to those accounts
that are not collected within one year plus 5% of receivables less than one year
old.
INVENTORIES
Inventories are stated at the lower of cost, determined on a weighted
average basis, and net realizable value. Work-in-progress and finished goods are
composed of direct material, direct labor and an attributable portion of
manufacturing overhead. Net realizable value is the estimated selling price, in
the ordinary course of business, less estimated costs to complete and dispose.
LAND USE RIGHTS
We adopted the provisions of Statement of Financial Accounting Standard
("SFAS") No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142"), effective
January 1, 2002. Under SFAS 142, goodwill and indefinite lived intangible assets
are not amortized, but are reviewed annually for impairment, or more frequently,
if indications of possible impairment exist. We have performed the requisite
annual impairment tests on intangible assets and determined that no impairment
adjustments were necessary.
REVENUE RECOGNITION
We recognize revenue on the sales of our products as earned when the
customer takes delivery of the product according to previously agreed upon
pricing and delivery arrangements, and when we believe collectibility is
reasonably assured. We sell primarily perishable and frozen food products. As
such, any right of return is only for a few days and has been determined to be
insignificant by management. Accordingly, no provision has been made for
returnable goods.
EARNINGS PER SHARE
Basic earnings per common share ("EPS") are calculated by dividing net
income available to common stockholders by the weighted average number of common
shares outstanding during the period. Our Series A convertible preferred stock
is a participating security. Consequently, the two-class method of income
allocation is used in determining net income available to common stockholders.
10
ZHONGPIN INC.
NOTES TO CONSOLIATED FINANCIAL STATEMENTS
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Diluted EPS is calculated by using the treasury stock method, assuming
conversion of all potentially dilutive securities, such as stock options and
warrants. Under this method, (i) exercise of options and warrants is assumed at
the beginning of the period and shares of common stock are assumed to be issued,
(ii) the proceeds from exercise are assumed to be used to purchase common stock
at the average market price during the period, and (iii) the incremental shares
(the difference between the number of shares assumed issued and the number of
shares assumed purchased) are included in the denominator of the diluted EPS
computation.
The numerators and denominators used in the computations of basic and
diluted EPS are presented in the following table:
Three Months Ended
March 31,
--------------------------
2007 2006
---- ----
NUMERATOR FOR BASIC AND DILUTED EPS
Net income (numerator for Diluted EPS) $ 4,572,288 $ 2,574,964
Net income allocated to preferred stock 1,538,575 724,340
----------- -----------
Net income to common stockholders (Basic) $ 3,033,713 $ 1,850,624
=========== ===========
DENOMINATORS FOR BASIC AND DILUTED EPS
Common stock outstanding after recapitalization and 1:35.349
reverse stock split 12,627,854 11,752,568
----------- -----------
DENOMINATOR FOR BASIC EPS 12,627,854 11,752,568
Add: Weighted average preferred as if converted 6,404,457 4,600,000
Add: Weighted average stock warrants outstanding 1,949,993 2,990,000
----------- -----------
DENOMINATOR FOR DILUTED EPS 20,982,304 19,342,568
=========== ===========
EPS - Basic $ 0.24 $ 0.16
EPS - Diluted $ 0.22 $ 0.13
SHIPPING AND HANDLING COSTS
Shipping and handling amounts billed to customers in related sales
transactions are included in sales revenues. Direct shipping costs are included
in operating expenses, which were approximately $575,000 and $228,000 for the
three months ended March 31, 2007 and 2006, respectively. Handling costs are
included in costs of sales, which ere approximately $261,000 and $175,000 for
the three months ended March 31, 2007 and 2006, respectively.
ADVERTISING COSTS
Advertising costs are expensed as incurred. Advertising expenses were
approximately $207,000 and $26,000 for the three months ended March 31, 2007 and
2006, respectively.
11
ZHONGPIN INC.
NOTES TO CONSOLIATED FINANCIAL STATEMENTS
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
RESEARCH AND DEVELOPMENT COSTS
The PRC government has made a cash grant to our company specifically to
fund research and development. We have recorded this grant as a liability titled
"Research & development grants payable" on our balance sheet. Qualifying
research and development costs reduce the liability while non-qualifying
research and development costs are expensed as incurred. Research and
development costs were approximately $385,000 and $325,000 for the three months
ended March 31, 2007 and 2006, respectively.
PROPERTY AND EQUIPMENT
Impairment of long-lived assets is recognized when events or changes in
circumstances indicate the carrying amount of an asset, or related groups of
assets, may not be recoverable. Under the provisions of SFAS No. 144,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
Be Disposed Of," we recognize an "impairment charge" when the expected net
undiscounted future cash flows from an asset's use and eventual disposition are
less than the asset's carrying value and the asset's carrying value exceeds its
fair value. Measurement of fair value for an asset, or related group of assets,
may be based on appraisals, market values of similar assets or estimated
discounted future cash flows resulting from the use and ultimate disposition of
the asset or assets.
Expenditures for maintenance, repairs and betterments, which do not
materially extend the normal useful life of an asset, are charged to operations
as incurred. Upon sale or other disposition of assets, the cost and related
accumulated depreciation are removed from the accounts and any resulting gain or
loss is reflected in income.
Depreciation and amortization are provided for financial reporting
purposes primarily on the straight-line method over the estimated useful lives,
ranging from five to 50 years.
OPERATING LEASES
Operating leases represent those leases under which substantially all the
risks and rewards of ownership of the leased assets remain with the lessors.
Rental payments under operating leases are charged to expense on the
straight-line basis over the period of the relevant leases.
INCOME TAXES
Income tax expense is based on reported income before income taxes.
Deferred income taxes reflect the effect of temporary differences between assets
and liabilities that are recognized for financial reporting purposes and the
amounts that are recognized for income tax purposes. In accordance with SFAS No.
109, "Accounting for Income Taxes," these deferred taxes are measured by
applying currently-enacted tax laws. We recorded income tax expenses of $217,353
and $145,245 for the three months ended March 31, 2007 and 2006, respectively.
12
ZHONGPIN INC.
NOTES TO CONSOLIATED FINANCIAL STATEMENTS
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
We withhold and pay income taxes on our employees' wages, which fund the
Chinese government's sponsored health and retirement programs for all of our
employees. For our employees, we were obligated to make contributions to the
social insurance bureau under the laws of the PRC for pension and retirement
benefits.
3. BUSINESS ACQUISITIONS
On August 11, 2004, Food Share formed Henan Zhongpin Import and Export
Trading Company as a joint venture with Li Jun Wei, an individual, to facilitate
exporting of our goods. Initially, Food Share owned 88.93% of Henan Zhongpin
Import and Export Trading Company. In November 2006, Food Share acquired Li Jun
Wei's share interest in, and became the 100% owner of, Henan Zhongpin Import and
Export Trading Company.
During 2001, Food Share acquired Yanlin Meat Factory and established
Zhongpin Industrial Company Limited as a joint venture with three individuals.
Initially, Food Share owned 88% of Zhongpin Industrial Company Limited. In
November 2006, Food Share acquired the three individuals' share interest in, and
became the 100% owner of, Zhongpin Industrial Company Limited.
4. ACCOUNTS RECEIVABLE AND OTHER RECEIVABLES
We accrue an allowance for bad debts related to our receivables. The
receivable and allowance balances at March 31, 2007 and 2006 were as follows:
MARCH 31, 2007 DECEMBER 31, 2006
-------------- -----------------
Accounts receivable $ 17,341,634 $ 13,763,260
Other receivables 2,567,368 2,176,858
Allowance for bad debts (415,995) (412,026)
------------ ------------
$ 19,493,007 $ 15,528,092
============ ============
Current $ 17,047,013 $ 13,471,450
Non-current 2,445,994 2,056,642
------------ ------------
$ 19,493,007 $ 15,528,092
============ ============
Other receivables consist primarily of cash advances to suppliers to
ensure preferential pricing and delivery. These advances bear no interest and
are expected to be repaid in cash. Repayment is typically required to be made in
less than one year. Advances that are not expected to be repaid within one year
are classified as non-current.
5. INVENTORIES
Inventories at March 31, 2007 and December 31, 2006 consisted of:
MARCH 31, 2007 DECEMBER 31, 2006
-------------- -----------------
Raw materials $ 236,948 $ 307,202
Low value consumables & packaging 530,767 401,177
Work-in-progress 728,072 487,930
Finished goods 9,969,060 8,881,170
----------- -----------
Provision for loss of pricing -- --
----------- -----------
Net inventories $11,464,847 $10,077,479
=========== ===========
13
ZHONGPIN INC.
NOTES TO CONSOLIATED FINANCIAL STATEMENTS
6. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment at cost at March 31, 2007 and December 31,
2006 consisted of:
MARCH 31, 2007 DECEMBER 31, 2006
-------------- -----------------
Machinery and equipment $ 12,603,046 $ 12,453,177
Furniture and office equipment 549,199 434,128
Motor vehicles 420,491 416,479
Buildings 22,812,594 22,584,113
------------ ------------
Subtotal 36,385,330 35,887,897
Less: Acquisition gain (93,402) (92,510)
Less: Accumulated depreciation (3,612,532) (3,198,237)
------------ ------------
Net property and equipment $ 32,679,396 $ 32,597,150
============ ============
Depreciation expense was $415,186 and $145,734 for the three months ended
March 31, 2007 and 2006, respectively.
7. INTANGIBLE ASSETS
Intangible assets consist of prepaid land use rights. According to the
laws of the PRC, the government owns all of the land in the PRC. Companies or
individuals are authorized to possess and use the land only through land use
rights granted by the PRC government. Accordingly, we paid in advance for
certain land use rights. Prepaid land use rights are being amortized and
recorded as lease expense using the straight-line method over the use terms of
20 to 50 years. Intangible assets at March 31, 2007 and December 31, 2006
consisted of the following:
MARCH 31, 2007 DECEMBER 31, 2006
-------------- -----------------
Land use rights $ 9,339,902 $ 9,250,410
Accumulated amortization (269,859) (220,333)
----------- -----------
$ 9,070,043 $ 9,030,077
=========== ===========
Amortization expense was $47,177 and $10,017 for the three months ended
March 31, 2007 adn 2006, respectively.
8. CONSTRUCTION IN PROGRESS
Construction in progress at March 31, 2007 and December 31, 2006 consisted
of:
COMPLETION
OR ESTIMATED
CONSTRUCTION PROJECT COMPLETION DATE MARCH 31, 2007 DECEMBER 31, 2006
-------------------- --------------- -------------- -----------------
Production line for chilled pork May 2007 $ 11,949,453 $ 9,313,544
(in Zhumadian)
Production line for chilled pork August 2007 5,936,904 1,161,339
(in Anyang)
Land use right of Industrial Park
No.4 land December 2007 1,104,928 970,147
Production line for prepared pork
(in industrial plant) April 2007 2,530,301 542,493
Logistic Software July 2007 29,583 29,300
$ 21,551,169 $ 12,016,823
============ ============
14
ZHONGPIN INC.
NOTES TO CONSOLIATED FINANCIAL STATEMENTS
9. LOANS PAYABLE
SHORT-TERM LOANS
Short-term loans are due within one year. Of the $33.00 million aggregate
principal amount of short-term loans at March 31, 2007, loans in the principal
amount of $4.65 million were secured by our land and plants located in the PRC
and loans in the aggregate principal amount of $28.32 million were guaranteed by
Henan Zhongpin Industry Co., Ltd. These loans bear interest at prevailing
lending rates in the PRC ranging from 5.85% to 7.34% per annum. At March 31,
2007, there was approximately $122.18 million in available unused lines of
credit.
LONG-TERM LOANS
Our long-term loan bears interest at the rate of 6.02% per annum.
The balances of loans payable at March 31, 2007 and December 31, 2006 were
as follows:
MARCH 31, 2007 DECEMBER 31, 2006
-------------- -----------------
Short-Term Loans Payable $32,996,302 $23,845,198
Total Long-Term Loans Payable 2,059,285 2,058,014
----------- -----------
$35,055,587 $25,903,212
=========== ===========
Long-Term Repayment Schedule
Payments due in 2007 - current portion $ 145,671
Payments due in 2008 145,671
Payments due in 2009 145,671
Payments due in 2010 145,671
Payments due in 2011 145,671
Payments due thereafter 1,330,930
----------
$2,059,285
==========
10. COMMITMENTS AND CONTINGENCIES
LEGAL PROCEEDINGS
From time to time, we have disputes that arise in the ordinary course of
our business. As of March 31, 2007, there was no material legal proceeding to
which we were a party or to which any of our property was subject that will have
a material adverse effect on our financial condition.
REGISTRATION RIGHTS AGREEMENT
In connection with the issuance of our Series A convertible preferred
stock and warrants on January 30, 2006, we entered into a registration rights
agreement with certain investors. The agreement requires us to effect the
registration of our common stock issuable upon the conversion of the Series A
convertible preferred stock and the exercise of the warrants. If such
registration was not effected by June 29, 2006, we were required to pay the
investors liquidated damages in an amount equal to 1-1/2% per month times the
amount paid by the investors for the purchase of our Series A convertible
preferred stock and warrants (approximately $414,000 per month) until the
registration statement we filed with the
15
ZHONGPIN INC.
NOTES TO CONSOLIATED FINANCIAL STATEMENTS
10. COMMITMENTS AND CONTINGENCIES (continued)
Securities and Exchange Commission (the "SEC") to effect such registration was
declared effective by the SEC. On June 29, 2006, such registration statement had
not become effective, and in July 2006 we began to accrue a liability in the
amount of $414,000 per month for this contingency because a loss was reasonably
possible and a loss amount could reasonably be estimated.
On December 22, 2006, we amended the registration rights agreement and
agreed to pay an aggregate of $1,044,357 in cash and to issue an aggregate of
379,743 shares of our common stock to settle in full our obligations under such
agreement to have the registration statement required thereunder declared
effective by the SEC in an timely manner. At the same time, in order to obtain
the consent of investors to remove from such registration statement certain
shares of common stock underlying our stock purchase warrants, we issued to such
investors warrants to purchase an aggregate of 884,796 shares of common stock
with an exercise price of $5.50 per share. The total expenses related to the
penalty were $1,044,357 in cash, $2,848,073 related to the shares of common
stock and $4,461,775 related to the warrants. On February 2, 2007, the initial
registration statement we filed pursuant to the registration rights agreement
was declared effective by the SEC.
11. ALLOWANCES INCOME
"Allowances income" consists of grants from the government of the PRC for
our participation in specific programs, such as import and export, branding, and
city maintenance and construction. We received allowances income for the three
months ended March 31, 2007 and 2006 as follows:
THREE MONTHS ENDED MARCH 31,
----------------------------
2007 2006
---- ----
Allowances income -- $113,184
In addition to paying our company for our participation in ongoing
programs, the PRC government has made a cash grant to our company specifically
to fund research and development. We recorded this grant as a liability titled
"Research & development grants payable" on our balance sheet rather than as
revenue. As qualifying research and development costs are incurred, we reduce
the liability rather than recording an expense.
12. FAIR VALUE OF FINANCIAL INSTRUMENTS
SFAS No. 107, "Disclosures about Fair Value of Financial Instruments"
("SFAS 107") requires entities to disclose the fair values of financial
instruments except when it is not practicable to do so. Under SFAS No. 107, it
is not practicable to make this disclosure when the costs of formulating the
estimated values exceed the benefit when considering how meaningful the
information would be to financial statement users.
As a result of the difficulties presented in the valuation of the loans
payable to related entities/parties because of their related party nature,
estimating the fair value of these financial instruments is not considered
practical. The fair values of all other assets and liabilities do not differ
materially from their carrying amounts. None of the financial instruments held
are derivative financial instruments and none were acquired or held for trading
purposes during the three months ended March 31, 2007 or during fiscal 2006 or
2005.
16
ZHONGPIN INC.
NOTES TO CONSOLIATED FINANCIAL STATEMENTS
13. NEW ACCOUNTING PRONOUNCEMENTS
In February 2007, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 159, "The Fair Value Option for Financial Assets and Financial
Liabilities - an amendment of FASB Statement No. 115." This statement permits
entities to choose to measure many financial instruments and certain other items
at fair value. The objective is to improve financial reporting by providing
entities with the opportunity to mitigate volatility in reported earnings caused
by measuring related assets and liabilities differently without having to apply
complex hedge accounting provisions. This Statement is expected to expand the
use of fair value measurement, which is consistent with the Board's long-term
measurement objectives for accounting for financial instruments. We expect the
Statement will have no material impact on our consolidated financial statements.
In September 2006, Financial Accounting Standards Board ("FASB") issued
SFAS No. 158, "Employers' Accounting for Defined Benefit Pension and Other
Postretirement Plans - an amendment of FASB Statements No. 87, 88, 106 and
132(R)." This Statement improves financial reporting by requiring an employer to
recognize the overfunded or underfunded status of a defined benefit
postretirement plan (other than a multiemployer plan) as an asset or liability
in its statement of financial position and to recognize changes in that funded
status in the year in which the changes occur through comprehensive income of a
business entity or changes in unrestricted net assets of a not-for-profit
organization. This Statement also improves financial reporting by requiring an
employer to measure the funded status of a plan as of the date of its year-end
statement of financial position, with limited exceptions. We expect the
Statement will have no material impact on our consolidated financial statements.
In September 2006, Financial Accounting Standards Board ("FASB") issued
SFAS No. 157, "Fair Value Measurements." This Statement defines fair value,
establishes a framework for measuring fair value in generally accepted
accounting principles (GAAP), and expands disclosures about fair value
measurements. This Statement applies under other accounting pronouncements that
require or permit fair value measurements, the Board having previously concluded
in those accounting pronouncements that fair value is the relevant measurement
attribute. Accordingly, this Statement does not require any new fair value
measurements. However, for some entities, the application of this Statement will
change current practice. We expect the Statement will have no material impact on
our consolidated financial statements.
In March 2006, Financial Accounting Standards Board ("FASB") issued SFAS
No. 156, "Accounting for Servicing of Financial Assets--an amendment of FASB
Statement No. 140." This Statement provides an approach to simplify efforts to
obtain hedge-like (offset) accounting. This new Statement amends FASB Statement
No. 140, Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities, with respect to the accounting for separately
recognized servicing assets and servicing liabilities. We expect the Statement
will have no material impact on our consolidated financial statements.
In February 2006, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 155, "Accounting for Certain Hybrid Financial Instruments - an
amendment of FASB Statements No. 133 and 140." The statement permits fair value
remeasurement for any hybrid financial instrument that contains an embedded
derivative that otherwise would require bifurcation, clarifies which
interest-only strips are not subject to the requirements of Statement 133,
establishes a requirement to evaluate interests in securitized financial assets
to identify interests that are freestanding derivatives or that are hybrid
financial instruments that contain an embedded derivative requiring bifurcation,
clarifies that concentrations of credit risk in the form of subordination are
not embedded derivatives, and amends Statement 140 to eliminate the prohibition
on a qualifying special-purpose entity from holding a
17
ZHONGPIN INC.
NOTES TO CONSOLIATED FINANCIAL STATEMENTS
13. NEW ACCOUNTING PRONOUNCEMENTS (continued)
derivative financial instrument that pertains to a beneficial interest other
than another derivative financial instrument. The Statement is effective for
financial instruments acquired or issued after the beginning of the first fiscal
year that begins after September 15, 2006. We expect the Statement will have no
material impact on our consolidated financial statements.
In February 2006, the FASB issued Staff Position No. FAS 123(R)-4,
"Classification of Options and Similar Instruments Issued as Employee
Compensation That Allow for Cash Settlement upon the Occurrence of a Contingent
Event." This position addresses the classification of options and similar
instruments issued as employee compensation that allow for cash settlement upon
the occurrence of a contingent event, amending paragraphs 32 and A229 of SFAS
No. 123 (revised 2004), "Share-Based Payment." As we have not traditionally paid
compensation through the issuance of equity securities, no impact is expected on
our consolidated financial statements.
In October 2005, the FASB issued Staff Position No. FAS 13-1, "Accounting
for Rental Costs Incurred during a Construction Period." This position addresses
the accounting for rental costs associated with operating leases that are
incurred during a construction period. Management believes this position has no
application to our company.
14. PREFERRED STOCK
The principal terms of our Series A convertible preferred stock are as
follows.
DIVIDENDS. The holders of our Series A convertible preferred stock are
entitled to receive, when and as declared by our board of directors, dividends
in such amounts as may be determined by our board of directors from time to time
out of funds legally available therefor. No dividends (other than those payable
solely in common stock) will be paid to the holders of common stock until there
shall have been paid or declared and set apart during that fiscal year for the
holders of our Series A convertible preferred stock a dividend in an amount per
share that the holders would have received for the shares of common stock
issuable upon conversion of their shares of Series A convertible preferred
stock.
PREFERENCE ON LIQUIDATION. In the event of our merger or consolidation or
the sale of all or substantially all of our assets or other liquidation of our
company, holders of our Series A convertible preferred stock shall get a
priority in payment over all other classes of stock. In such event, the Series A
convertible preferred stock would be entitled to receive the greater of (i) the
original purchase price of the Series A convertible preferred stock or (ii) the
amount the holder would get if such holder converted all of such holder's Series
A convertible preferred stock into common stock.
VOTING. The holder of each share of Series A convertible preferred stock
(i) shall be entitled to the number of votes with respect to such share equal to
the number of shares of common stock into which such share of Series A
convertible preferred stock could be converted on the record date for the
subject vote or written consent (or, if there is no such record date, then on
the date that such vote is taken or consent is effective) and (ii) shall be
entitled to notice of any stockholders' meeting in accordance with our by-laws.
APPOINT AND ELECT A DIRECTOR. So long as the number of shares of common
stock issuable upon conversion of the outstanding shares of Series A convertible
preferred stock is greater than 10% of the number of outstanding shares of
common stock (on a fully diluted basis), the holders of record of the
18
ZHONGPIN INC.
NOTES TO CONSOLIATED FINANCIAL STATEMENTS
14. PREFERRED STOCK (continued)
shares of Series A convertible preferred stock, exclusively and as a separate
class, shall be entitled to elect one of our directors.
CONVERSION RIGHT. The holders of Series A convertible preferred stock may
convert each share of Series A convertible preferred stock into common stock at
an initial conversion price of $4.00. The conversion price will be adjusted for
stock dividends, stock splits and similar events.
AUTOMATIC CONVERSION. Each share of Series A convertible preferred stock
will automatically be converted into shares of common stock at the conversion
price at the time in effect if (i) we consummate an underwritten public offering
of our common stock giving us at least $30 million in net proceeds, (ii)(A) the
closing price of our common stock equals or exceeds $10.00 (as adjusted) for the
twenty (20) consecutive-trading-day period ending within two (2) days of the
date on which we provide notice of such conversion as hereinafter provided and
(B) either a registration statement registering for resale the shares of common
stock issuable upon conversion of the Series A convertible preferred stock has
been declared effective and remains effective and available for resale for the
twenty (20)-day period, or Rule 144(k) under the Securities Act of 1933, as
amended, is available for the resale of such shares, or (iii) by consent of at
least 67% of the then-outstanding shares of Series A convertible preferred
stock.
PROTECTIVE PROVISIONS. So long as at least 1,750,000 shares of Series A
convertible preferred stock are outstanding (subject to adjustment for stock
splits, combinations and the like), the holders of a majority of the outstanding
shares of Series A convertible preferred stock shall be required (in addition to
any consent or approval otherwise required by law) for us to take certain
actions, including (1) the liquidation, dissolution or wind up of our company,
(2) the amendment, alteration or repeal of any provision of our certificate of
incorporation so as to affect the rights, preferences or privileges of the
Series A convertible preferred stock, (3) the creation of a new class of
preferred stock or any increase in the number of shares of Series A convertible
preferred stock that can be issued, or (4) the purchase or redemption, or the
payment or declaration of any dividend or the making of any distribution on, any
securities junior in priority to the Series A convertible preferred stock; or
(5) making any change in the size of our board of directors.
15. WARRANTS
In conjunction with the issuance of preferred stock discussed in Note 14,
we issued warrants for the purchase of 3,450,000 shares of our common stock.
Also in conjunction with the issuance of preferred stock, we issued
warrants to purchase 345,000 units at an initial exercise price of $8.00 per
unit. The units that may be acquired upon exercise of such warrants consist of
two shares of Series A convertible preferred stock and one warrant to purchase
one share of common stock at an initial exercise price per share of $5.00. These
warrants, if fully exercised and converted, would require the issuance of
1,035,000 shares of common stock.
On June 15, 2006, in conjunction with a one-year consulting agreement, we
issued three-year warrants to purchase 100,000 shares of common stock at a price
of $6.50 per share. The warrants vest monthly over a one-year period. These
warrants were accounted for using the fair value method, with the expense being
recognized ratably over the requisite service period of one year. Consulting
expense related to the warrants amounted to $9,570 for the three months ended
March 31, 2007.
19
ZHONGPIN INC.
NOTES TO CONSOLIATED FINANCIAL STATEMENTS
15. WARRANTS (continued)
On December 22, 2006, in conjunction with an amendment to a registration
rights agreement, we issued to investors warrants to purchase 884,796 shares of
common stock at a price of $5.50 per share. The warrants were accounted for
using the fair value method. Penalty expense related to the warrants amounted to
$4,461,775 for the year ended December 31, 2006. There was no penalty expense
accrued for the three months ended March 31, 2007.
The following table provides certain information with respect to the
above-referenced warrants outstanding at March 31, 2007:
WEIGHTED AVERAGE WEIGHTED AVERAGE
EXERCISE PRICE NUMBER OUTSTANDING EXERCISE PRICE LIFE - YEARS
-------------- ------------------ -------------- ------------
Warrants $4.00 - $6.50 5,469,796 $4.98 3.95
The following table provides certain information with respect to warrants
exercisable at March 31, 2007:
WEIGHTED AVERAGE
EXERCISE PRICE NUMBER OUTSTANDING EXERCISE PRICE
-------------- ------------------ --------------
Warrants $4.00 - $6.50 5,445,796 $4.98
The weighted average fair value at date of grant for warrants granted
during 2006 was $0.38, and was estimated using the Black-Scholes option
valuation model with the following assumptions:
Expected life in years 3 - 5
Interest rate 4% - 4.52%
Volatility 6.1% - 68.5%
Dividend yield 0%
16. SEGMENT REPORTING
We operate in two business segments: pork and pork products, and
vegetables and fruits.
Our pork and pork products segment is involved primarily in the processing
of live market hogs into fresh, frozen and processed pork products. Our pork and
pork products segment markets its products domestically to our branded stores
and to food retailers, foodservice distributors, restaurant operators and
noncommercial foodservice establishments, such as schools, hotel chains,
healthcare facilities, the military and other food processors, as well as to
international markets.
Our vegetables and fruits segment is involved primarily in the processing
of fresh vegetables and fruits. We contract with more than 120 farms in Henan
Province and nearby areas to produce high-quality vegetable varieties and fruits
suitable for export purposes. The proximity of the contracted farms to our
operations ensures freshness from harvest to processing. We contract to grow
more than 20 categories of vegetables and fruits, including asparagus, sweet
corn, broccoli, mushrooms, lima beans and strawberries.
20
ZHONGPIN INC.
NOTES TO CONSOLIATED FINANCIAL STATEMENTS
16. SEGMENT REPORTING (continued)
SALES BY SEGMENT
(U.S. DOLLARS IN MILLIONS)
THREE MONTHS ENDED
MARCH 31, PERCENTAGE
------------------------------ NET CHANGE CHANGE
2007 2006 2007/2006 2007/2006
---- ---- --------- ---------
Pork and Pork Products...........
Chilled Pork................ $ 28.48 $ 10.34 $ 18.14 175%
Frozen Pork................. 20.29 16.17 4.12 25%
Prepared Pork Products...... 5.85 3.27 2.58 79%
Vegetables and Fruits............ 1.17 0.72 0.45 63%
------- ------- -------
Total................. $ 55.79 $ 30.50 $ 25.29 83%
======= ======= =======
OPERATING INCOME BY SEGMENT
(U.S. DOLLARS IN MILLIONS)
OPERATING
MARGIN THREE MONTHS
THREE MONTHS ENDED ENDED
MARCH 31, CHANGE MARCH 31,
------------------- --------- --------------------
2007 2006 2007/2006 2007 2006
---- ---- --------- ---- ----
Pork and Pork Products
Chilled Pork ................... $2.48 $0.96 $1.52 8.71% 9.28%
Frozen Pork..................... 1.75 1.44 0.31 8.62% 8.91%
Prepared Pork Products.......... 0.85 0.41 0.44 14.53% 12.54%
Vegetables and Fruits............... 0.13 0.07 0.06 11.11% 9.72%
----- ----- -----
Total.................... $5.21 $2.88 $2.33 9.34% 9.44%
===== ===== =====
21
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS
THE STATEMENTS CONTAINED IN THIS REPORT WITH RESPECT TO OUR FINANCIAL
CONDITION, RESULTS OF OPERATIONS AND BUSINESS THAT ARE NOT HISTORICAL FACTS ARE
"FORWARD-LOOKING STATEMENTS" WITHIN THE MEANING OF THE PRIVATE SECURITIES
LITIGATION REFORM ACT OF 1995 AND SECTION 21E OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED (THE "EXCHANGE ACT"). WE INTEND SUCH FORWARD-LOOKING STATEMENTS
TO BE COVERED BY THE SAFE HARBOR PROVISIONS FOR FORWARD-LOOKING STATEMENTS
CONTAINED IN SECTION 21E OF THE EXCHANGE ACT. FORWARD-LOOKING STATEMENTS CAN BE
IDENTIFIED BY THE USE OF FORWARD-LOOKING TERMINOLOGY, SUCH AS "ESTIMATES,"
"PROJECTS," "PLANS," "BELIEVES," "EXPECTS," "ANTICIPATES," "INTENDS," OR THE
NEGATIVE THEREOF OR OTHER VARIATIONS THEREON, OR BY DISCUSSIONS OF STRATEGY THAT
INVOLVE RISKS AND UNCERTAINTIES. MANAGEMENT WISHES TO CAUTION THE READER OF THE
FORWARD-LOOKING STATEMENTS THAT SUCH STATEMENTS, WHICH ARE CONTAINED IN THIS
REPORT, REFLECT OUR CURRENT BELIEFS WITH RESPECT TO FUTURE EVENTS AND INVOLVE
KNOWN AND UNKNOWN RISKS, UNCERTAINTIES AND OTHER FACTORS, INCLUDING, BUT NOT
LIMITED TO, ECONOMIC, COMPETITIVE, REGULATORY, TECHNOLOGICAL, KEY EMPLOYEE, AND
GENERAL BUSINESS FACTORS AFFECTING OUR OPERATIONS, MARKETS, GROWTH, SERVICES,
PRODUCTS, LICENSES AND OTHER FACTORS DISCUSSED IN OUR OTHER FILINGS WITH THE
SECURITIES AND EXCHANGE COMMISSION, AND THAT THESE STATEMENTS ARE ONLY ESTIMATES
OR PREDICTIONS. NO ASSURANCES CAN BE GIVEN REGARDING THE ACHIEVEMENT OF FUTURE
RESULTS, AS ACTUAL RESULTS MAY DIFFER MATERIALLY AS A RESULT OF RISKS FACING OUR
COMPANY, AND ACTUAL EVENTS MAY DIFFER FROM THE ASSUMPTIONS UNDERLYING THE
STATEMENTS THAT HAVE BEEN MADE REGARDING ANTICIPATED EVENTS.
THESE FORWARD-LOOKING STATEMENTS ARE SUBJECT TO NUMEROUS ASSUMPTIONS,
RISKS AND UNCERTAINTIES THAT MAY CAUSE OUR ACTUAL RESULTS TO BE MATERIALLY
DIFFERENT FROM ANY FUTURE RESULTS EXPRESSED OR IMPLIED BY US IN THOSE
STATEMENTS. SOME OF THESE RISKS ARE DESCRIBED IN "RISK FACTORS" IN ITEM 1A OF
OUR ANNUAL REPORT ON FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 2006.
THESE RISK FACTORS SHOULD BE CONSIDERED IN CONNECTION WITH ANY SUBSEQUENT
WRITTEN OR ORAL FORWARD-LOOKING STATEMENTS THAT WE OR PERSONS ACTING ON OUR
BEHALF MAY ISSUE. ALL WRITTEN AND ORAL FORWARD LOOKING STATEMENTS MADE IN
CONNECTION WITH THIS REPORT THAT ARE ATTRIBUTABLE TO OUR COMPANY OR PERSONS
ACTING ON OUR BEHALF ARE EXPRESSLY QUALIFIED IN THEIR ENTIRETY BY THESE
CAUTIONARY STATEMENTS. GIVEN THESE UNCERTAINTIES, WE CAUTION INVESTORS NOT TO
UNDULY RELY ON OUR FORWARD-LOOKING STATEMENTS. WE DO NOT UNDERTAKE ANY
OBLIGATION TO REVIEW OR CONFIRM ANALYSTS' EXPECTATIONS OR ESTIMATES OR TO
RELEASE PUBLICLY ANY REVISIONS TO ANY FORWARD-LOOKING STATEMENTS TO REFLECT
EVENTS OR CIRCUMSTANCES AFTER THE DATE OF THIS REPORT OR TO REFLECT THE
OCCURRENCE OF UNANTICIPATED EVENTS. FURTHER, THE INFORMATION ABOUT OUR
INTENTIONS CONTAINED IN THIS REPORT IS A STATEMENT OF OUR INTENTION AS OF THE
DATE OF THIS REPORT AND IS BASED UPON, AMONG OTHER THINGS, THE EXISTING
REGULATORY ENVIRONMENT, INDUSTRY CONDITIONS, MARKET CONDITIONS AND PRICES, THE
ECONOMY IN GENERAL AND OUR ASSUMPTIONS AS OF SUCH DATE. WE MAY CHANGE OUR
INTENTIONS, AT ANY TIME AND WITHOUT NOTICE, BASED UPON ANY CHANGES IN SUCH
FACTORS, IN OUR ASSUMPTIONS OR OTHERWISE.
GENERAL
During the period from March 31, 2005 to January 30, 2006, we did not
generate any significant revenue, and accumulated no significant assets, as we
explored various business opportunities. On January 30, 2006, in exchange for a
controlling interest in our publicly-held "shell" corporation, we acquired all
of the issued and outstanding capital stock of Falcon Link Investment Limited
("Falcon Link"). This transaction is commonly referred to as a "reverse
acquisition." For financial reporting purposes, Falcon Link was considered the
acquirer in such transaction. As a result, our historical financial statements
for all periods prior to January 30, 2006 included in this Report are those of
Falcon Link.
22
OVERVIEW
We are principally engaged in the meat and food processing and
distribution business in the PRC. Currently, we have six processing plants
located in Henan and Heilongjiang Provinces in the PRC, with a total of nine
production lines. Our current total production capacity for chilled pork and
frozen pork, including the average production capacity of approximately 167
metric tons per day from OEM partners, is 493 metric tons per day, including the
average production capacity from OEM partners, based on an 8-hour working day,
or approximately 177,480 metric tons on an annual basis. We also have production
capacity for prepared meats of 70 metric tons per 8-hour day (or approximately
25,200 metric tons on an annual basis) and for fruits and vegetables, including
the average production capacity of OEM partners, of 43 metric tons per 8-hour
day including the average production capacity of approximately eight metric tons
per day supported by OEM partners (or approximately 15,480 metric tons on an
annual basis). We utilize state-of-the-art equipment in all of our abattoirs and
processing facilities.
On June 7, 2006, our subsidiary, Henan Zhongpin, formed a wholly-owned
subsidiary, Zhumadian Zhongpin Food Limited, through which we plan to invest
approximately $14 million to construct a new production facility in southern
Henan Province that will be designed with a production capacity for chilled or
frozen pork of 200 metric tons per 8-hour working day, or approximately 72,000
metric tons on an annual basis. We plan to put this new plant into production in
the second quarter of fiscal 2007.
On August 21, 2006, Henan Zhongpin formed a new wholly-owned subsidiary,
Anyang Zhongpin Food Company Limited, through which we plan to invest
approximately $13.5 million to construct a new facility in northern Henan
Province with a production capacity of 175 metric tons per 8-hour working day,
or approximately 63,000 metric tons on an annual basis. Approximately 60% of the
production capacity will be designed for the production of chilled pork and
approximately 40% will be designed for the production of frozen pork. We plan to
put the new plant into operation in the third quarter of fiscal 2007.
On April 26, 2007, Henan Zhongpin formed a new wholly-owned subsidiary,
Luoyang Zhongpin Food Company Limited, for the purpose of constructing a
production facility to be located in western Henan Province. We plan to invest
approximately $14.5 million to construct this facility, which is planned to have
a production capacity of 195 metric tons per 8-hour working day, or
approximately 70,000 metric tons on an annual basis. Approximately 60% of the
production capacity will be designed for the chilled pork and the remaining
approximately 40% will be designed for the frozen pork. We plan to put the new
facility into operation in the first quarter of fiscal 2008.
Our products are sold under the "Zhongpin" brand name. Our customers
include over 17 international or domestic fast food companies in the PRC, over
39 export-registered processing factories and over 1,546 school cafeterias,
factory canteens, army posts and national departments. We also sell directly to
over 2,813 retail outlets, including supermarkets, within the PRC.
Since 2001, we have been one of the "leading agricultural industrial
enterprises" in the PRC. Over the past five fiscal years, we achieved a compound
annual growth rate of 56% in terms of revenues and 57% in terms of net profits.
We have established distribution networks in more than 24 provinces, including
four cities with special legal status, in the North, East, South and South
Midland of the PRC, and also have formed strategic partnerships with leading
supermarket chains and the catering industry in the PRC. In addition, we export
products to the European Union, Southeast Asia, Russia and South Africa.
23
CRITICAL ACCOUNTING POLICIES
Our discussion and analysis of our financial condition and results of
operations are based on our consolidated financial statements, which have been
prepared in accordance with U.S. generally accepted accounting principles. The
preparation of these financial statements requires us to make estimates and
judgments that affect the reported amounts of assets, liabilities, revenues and
expenses. We evaluate, on an on-going basis, our estimates for reasonableness as
changes occur in our business environment. We base our estimates on experience,
the use of independent third-party specialists, and various other assumptions
that are believed to be reasonable under the circumstances, the results of which
form the basis for making judgments about the carrying values of assets and
liabilities that are not readily apparent from other sources. Actual results may
differ from these estimates under different assumptions or conditions.
Critical accounting policies are defined as those that are reflective of
significant judgments, estimates and uncertainties, and potentially result in
materially different results under different assumptions and conditions. We
believe the following are our critical accounting policies:
ACCOUNTS RECEIVABLE. We state accounts receivable at cost, net of
allowance for doubtful accounts. Based on our past experience and current
practice in the PRC, management provides for an allowance for doubtful accounts
equivalent to those accounts that are not collected within one year plus 5% of
receivables less than one year old. As of March 31, 2007, we were successful in
collecting $73,800, or approximately 36%, of doubtful accounts that were
outstanding at December 31, 2006 for longer than one year. It is management's
belief that the current bad debt allowance adequately reflects an appropriate
estimate based on management's judgment.
INVENTORY VALUATION. We value our pork inventories at the lower of cost,
determined on a weighted average basis, and net realizable value (the estimated
market price). When the carcasses are disassembled and transferred from primary
processing to various manufacturing departments, we adjust the net realizable
value for product specifications and further processing, which becomes the basis
for calculating inventory values. In addition, substantially all inventory
expenses, packaging and supplies are valued by the weighted average method.
GOODWILL AND OTHER INTANGIBLES. Our identifiable intangible assets are
amortized over their useful life, unless the useful life is determined to be
indefinite. The useful life of an identifiable intangible asset is based on an
analysis of several factors, including contractual, regulatory or legal
obligations, demand, competition and industry trends. Goodwill and
indefinite-lived intangible assets are not amortized, but are tested annually
for impairment.
The goodwill impairment test is a two-step process. First, the fair value
of each reporting unit is compared with the carrying amount of the reporting
unit, including goodwill. The estimated fair value of the reporting unit is
determined on the basis of discounted cash flow. If the carrying value exceeds
fair value of the reporting unit, a second step must be completed in order to
determine the amount of goodwill impairment that should be recorded. In the
second step, the implied fair value of the reporting unit's goodwill is
determined by allocating the reporting unit's fair value to all of its assets
and liabilities other than goodwill in a manner similar to a purchase price
allocation. The resulting implied fair value of the goodwill that results from
the application of this second step is then compared to the carrying amount of
the goodwill and an impairment charge is recorded for the difference. Annual
impairment testing for indefinite-lived intangible assets compares the fair
value and carrying value of the intangible. The fair value of indefinite-lived
intangible assets is determined on the basis of discounted cash flows. If the
carrying value exceeds fair value, the indefinite-lived intangible asset is
considered impaired and an
24
impairment charge is recorded for the difference. Intangible assets that are
subject to amortization are evaluated for impairment using a process similar to
that used to evaluate elements of long-lived assets.
The assumptions used in the estimate of fair value are consistent with
historical performance and the estimates and assumptions used in determining
future profit plans for each reporting unit. We review product growth patterns,
market share information, industry trends, changes in distribution channels, and
economic indicators in determining the estimates and assumptions used to develop
cash flow and profit plan assumptions.
INCOME TAXES. We account for income taxes in accordance with Statement of
Financial Accounting Standard No. 109, "Accounting for Income Taxes." We compute
our provision for income taxes based on the statutory tax rates and tax planning
opportunities available to us in the PRC. Significant judgment is required in
evaluating our tax positions and determining our annual tax position.
RESULTS OF OPERATIONS
In fiscal 2007, we intend to continue to focus on the implementation of
our strategic plan to continue the growth we have experienced in the last five
years. In February 2006, we completed the construction of a new, fresh-chilled
meat processing facility in the Zhongpin Industrial Park II. In November 2006,
we added an additional processing plant by leasing a meat processing plant in
Heilongjiang Province and we are currently constructing additional processing
facilities in Henan Province. We also are expanding our capability in
temperature-controlled, physical logistic systems. We expect to continue to
expand our capital base, to scale up operations and to develop new markets,
streamline our supply chain management, continue the development of our
information technology systems, invest in training and human resources
development and accelerate revenue and profit growth.
In fiscal 2007, we expect the results of the pork and pork products
segment of our business to remain strong. While supply is expected to be ample,
live hog prices are expected to remain at their current relatively-high levels.
We anticipate that our gross profit margin will decrease slightly during the
remainder of fiscal 2007 due to the increase in the prices of raw materials. We
anticipate strong demand for pork throughout the remainder of fiscal 2007. We
also expect to increase our market share in the meat and meat products segment
in our target markets in fiscal 2007.
25
The following table sets forth, for the periods indicated, certain
statement of operations data:
THREE MONTHS ENDED
MARCH 31,
-------------------------
2007 2006
---- ----
(U.S. dollars in thousands)
Revenues:
Sales revenues $ 55,792 $ 30,494
Cost of sales 48,050 25,914
-------- --------
Gross profit 7,742 4,580
Operating expenses:
General and administrative expenses
1,405 899
Operating expenses 1,126 804
-------- --------
Total operating expenses 2,531 1,703
-------- --------
Income from operations 5,211 2,876
Other income (expense):
Interest income 22 96
Other income (4) 12
Allowance income -- 113
Exchange gain 3 14
Interest expense (443) (380)
-------- --------
Total other income (expense) (422) (145)
-------- --------
Net income before taxes 4,790 2,731
Provision for income taxes 217 145
-------- --------
Net income after taxes 4,572 2,586
Minority interest in gain (loss) -- 11
-------- --------
Net income 4,572 2,575
Foreign currency translation adjustment 546 141
-------- --------
Comprehensive income $ 5,118 $ 2,716
======== ========
COMPARISON OF THREE MONTHS ENDED MARCH 31, 2007 AND MARCH 31, 2006
REVENUE. Total revenue increased from $30.49 million for the three months
ended March 31, 2006 to $55.79 million for the three months ended March 31,
2007, which represented an increase of $25.30 million, or approximately 83%. The
increase in revenues was primarily due to increased sales in our meat and meat
products segment resulting from the effects of the continued increase in the
amount of branded stores sales and increased sales to food service distributors.
During the three months ended March 31, 2007, nine new showcase stores, 29 new
"branded" retail stores and 54 new supermarket
26
counters were opened and we expanded our marketing and sales efforts to include
six additional second-tier cities and 20 additional third-tier cities
domestically.
During the three months ended March 31, 2007, revenues from sales to
branded stores increased to $26.1 million, which represented an increase of
$11.2 million, or approximately 75%, as compared to the three months ended March
31, 2006. During the three months ended March 31, 2007, revenues from sales to
food service distributors increased to $10.5 million, which represented an
increase of $5.5 million, or approximately 110%, as compared to the three months
ended March 31, 2006. During the three months ended March 31, 2007, revenues
from sales to restaurants and non-commercial customers increased to $14.3
million, which represented an increase of $6.6 million, or approximately 86%, as
compared to the three months ended March 31, 2006. During the three months ended
March 31, 2007, revenues from export sales increased to $4.9 million, which
represented an increase of $2.0 million, or approximately 69%, as compared to
the three months ended March 31, 2006.
COST OF SALES. Cost of sales increased from $25.91 million for the three
months ended March 31, 2006 to $48.05 million for the three months ended March
31, 2007, which represented an increase of $22.14 million, or approximately 85%.
The increase of cost of sales was primarily due to the corresponding increase in
sales. The gross profit margin (gross profit divided by total sales revenue)
decreased from 15.02% for the three months ended March 31, 2006 to 13.88% for
the three months ended March 31, 2007. The decrease in gross profit margin was
primarily due to an increase in the cost of raw materials, which was offset, in
part, by a slight increase in the market prices for pork products during the
three months ended March 31, 2007.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
increased from $0.90 million for the three months ended March 31, 2006 to $1.40
million for the three months ended March 31, 2007, which represented an increase
of $0.50 million, or approximately 56%. As a percentage of revenues, general and
administrative expenses decreased from 2.95% for the three months ended March
31, 2006 to 2.52% for the three months ended March 31, 2007. The increase in the
net amount of general and administrative expenses was primarily the result of
the expansion of our operations and the additional expenses we incurred as a
publicly-traded company that is reporting under the U.S. federal securities
laws.
OPERATING EXPENSES. Operating expenses increased from $0.80 million for
the three months ended March 31, 2006 to $1.13 million for the three months
ended March 31, 2007, which represented an increase of $0.33 million, or
approximately 41%. As a percentage of revenue, operating expenses decreased from
2.64% for the three months ended March 31, 2006 to 2.02% for the three months
ended March 31, 2007. The increase in net amount of operating expenses was
primarily the result of the increased scale of our operations.
INTEREST EXPENSE. Interest expense increased from $0.38 million for the
three months ended March 31, 2006 to $0.44 million for the three months ended
March 31, 2007, which represented an increase of $0.06 million, or approximately
16%. The increase in interest expense was primarily a result of increased
short-term bank loans. Our average outstanding bank debt increased by
approximately $9.38 million from $20.75 million for the three months ended March
31, 2006 to $30.13 million for the three months ended March 31, 2007. Our
weighted average borrowing rate decreased from 7.32% for the three months ended
March 31, 2006 to 5.88% for the three months ended March 31, 2007.
INTEREST INCOME, ALLOWANCE INCOME, OTHER INCOME AND EXCHANGE GAIN (LOSS).
Interest income, allowances income, other income and exchange gain (loss)
decreased from $0.23 million for the three months ended March 31, 2006 to $0.02
million for the three months ended March 31, 2007, which
27
represented a decrease of $0.21 million, or approximately 91%. This decrease was
primarily due to a decrease in allowance income.
INCOME TAXES. The effective tax rate in the PRC on income generated from
the sale of prepared products is 33% and there is no income tax on income
generated from the sale of raw products including raw meat products and raw
fruits and vegetable products. The increase of $0.07 million in the provision
for income taxes for the three months ended March 31, 2007 over the three months
ended March 31, 2006 resulted from an increase of $0.22 million in our income
from the sale of prepared products for the three months ended March 31, 2007.
SEGMENT INFORMATION
We operate in two business segments: pork and pork products, and
vegetables and fruits.
Our pork and pork products segment is involved primarily in the processing
of live market hogs into fresh, frozen and processed pork products. Our pork and
pork products segment markets its products domestically to our branded stores,
food retailers, foodservice distributors, restaurant operators and noncommercial
foodservice establishments, such as schools, hotel chains, healthcare
facilities, the military and other food processors, as well as to international
markets.
Our vegetables and fruits segment is involved primarily in the processing
of fresh vegetables and fruits. We contract with more than 120 farms in Henan
Province and nearby areas to produce high-quality vegetable varieties and fruits
suitable for export purposes. The proximity of the contracted farms to our
operations ensures freshness from harvest to processing. We contract to grow
more than 20 categories of vegetables and fruits, including asparagus, sweet
corn, broccoli, mushrooms, lima beans, strawberries and capsicum.
The following tables set forth our revenues, sales in metric tons,
operating income and production processed in metric tons by segment for the
three months ended March 31, 2007 and 2006, and the percentage increases for
each segment between two periods. The data for the three months ended March 31,
2007 are not necessarily indicative of the results to be expected for the entire
year, for any other interim period or for any future year.
SALES BY SEGMENT
(U.S. DOLLARS IN MILLIONS)
THREE MONTHS ENDED
MARCH 31, PERCENTAGE
------------------------------ NET CHANGE CHANGE
2007 2006 2007/2006 2007/2006
---- ---- --------- ---------
Pork and Pork Products
Chilled Pork................ $ 28.48 $ 10.34 $ 18.14 175%
Frozen Pork................. 20.29 16.17 4.12 25%
Prepared Pork Products...... 5.85 3.27 2.58 79%
Vegetables and Fruits............ 1.17 0.72 0.45 63%
------- ------- -------
Total................. $ 55.79 $ 30.50 $ 25.29 83%
======= ======= =======
28
SALES BY SEGMENT
(IN METRIC TONS)
THREE MONTHS ENDED
MARCH 31, PERCENTAGE
---------------------------- NET CHANGE CHANGE
2007 2006 2007/2006 2007/2006
---- ---- --------- ---------
Pork and Pork Products
Chilled Pork................... 23,348 9,398 13,950 148%
Frozen Pork.................... 16,803 14,783 2,020 14%
Prepared Pork Products......... 3,338 2,236 1,102 49%
Vegetables and Fruits............ 2,183 1,021 1,162 114%
------ ------ ------
Total................. 45,672 27,438 18,234 66%
====== ====== ======
OPERATING INCOME BY SEGMENT
(U.S. DOLLARS IN MILLIONS)
OPERATING
THREE MONTHS ENDED MARGIN THREE MONTHS
MARCH 31, ENDED MARCH 31,
------------------- NET CHANGE --------------------
2007 2006 2007/2006 2007 2006
---- ---- --------- ---- ----
Pork and Pork Products
Chilled Pork ................... $2.48 $0.96 $1.52 8.71% 9.28%
Frozen Pork..................... 1.75 1.44 0.31 8.62% 8.91%
Prepared Pork Products.......... 0.85 0.41 0.44 14.53% 12.54%
Vegetables and Fruits............... 0.13 0.07 0.06 11.11% 9.72%
----- ----- -----
Total.................... $5.21 $2.88 $2.33 9.34% 9.44%
===== ===== =====
PRODUCTION BY SEGMENT
(IN METRIC TONS)
THREE MONTHS ENDED
MARCH 31, PERCENTAGE
------------------------------ NET CHANGE CHANGE
2007 2006 2007/2006 2007/2006
---- ---- --------- ---------
Pork and Pork Products
Chilled Pork................... 23,154 10,003 13,151 131%
Frozen Pork.................... 16,805 15,683 1,122 7%
Prepared Pork Products......... 3,357 2,301 1,056 46%
Vegetables and Fruits............ 3,117 1,737 1,380 79%
------ ------ ------
Total................. 46,433 29,724 16,709 56%
====== ====== ======
29
ADDITIONAL OPERATING DATA
In assessing our existing operations and planning our future growth and
the development of our business, management considers, among other factors, our
revenue growth and growth in sales volume by market segment, as well as our
sales by distribution channel and geographic market coverage.
The following table sets forth our revenues by sales channel for the three
months ended March 31, 2007 and 2006.
SALES BY DISTRIBUTION CHANNEL
(U.S. DOLLARS IN MILLIONS)
THREE MONTHS ENDED MARCH 31,
-----------------------------------------------------
DISTRIBUTION CHANNEL 2007 2006
-------------------- ---------------------- ----------------------
AMOUNT PERCENT AMOUNT PERCENT
------ ------- ------ -------
Branded stores...................... $ 26.1 46.8% $ 14.9 49.0%
Food services distributors.......... 10.5 18.9 5.0 16.3
Restaurants and non-commercial...... 14.3 25.6 7.7 25.3
Export.............................. 4.9 8.7 2.9 9.4
------ ----- ------ -----
Total.......................... $ 55.8 100.0% $ 30.5 100.0%
====== ===== ====== =====
The following table sets forth information with respect to the average
number of products offered by our company, the average number of stores in our
retail network and the number of provinces and cities in the PRC in which we
offered and sold our products for each of the three years ended December 31,
2004, 2005 and 2006 and the three months ended March 31, 2007.
YEAR ENDED DECEMBER 31,
---------------------------------- THREE MONTHS ENDED
2004 2005 2006 MARCH 31, 2007
---- ---- ---- --------------
No. of products........................... 125 168 229 235
No. of retail stores...................... 978 2,100 2,721 2,813
Expansion of Market Coverage
No. of Provinces....................... 23 24 24 24
No. of first-tier cities............... 23 29 29 29
No. of second-tier cities.............. 36 44 75 81
No. of third-tier cities............... 109 142 226 246
LIQUIDITY AND CAPITAL RESOURCES
We have financed our operations over the three years ended December 31,
2006 and the three months ended March 31, 2007 primarily through cash from
operating activities and borrowings under our lines of credit with various
lending banks in the PRC. In January 2006, we completed a private placement of
our Series A convertible preferred stock and common stock purchase warrants and
received net proceeds of approximately $23.11 million. At December 31, 2004,
2005 and 2006 and at March 31, 2007 we had cash and cash equivalents of $5.20
million, $10.14 million, $21.69 million and $25.92 million, respectively.
Net cash provided by operating activities was $4.62 million in the three
months ended March 31, 2007. Net cash provided by operating activities in the
three months ended March 31, 2007 consisted
30
primarily of net profit of $4.57 million due to increased revenue and an
increase of $3.16 million in accounts payable and other payables due to improved
payment terms to suppliers. Net cash used in operating activities for the three
months ended March 31, 2007 was primarily attributable to an increase of $3.96
million in accounts receivable and other receivable and an increase of $1.39
million in inventory. The increase in both accounts receivable and inventory
levels during the period was primarily due to our increased sales. Over the past
year, management has focused on reducing the average age of our accounts
receivable. Our average accounts receivable turnover days decreased from
approximately 36 days during the three months ended March 31, 2006 to
approximately 25 days during the three months ended March 31, 2007. However, our
average inventory turnover days increased from approximately 12 days during the
three months ended March 31, 2006 to approximately 20 days during the three
months ended March 31, 2007 because we had an unusually small inventory level at
December 31, 2005.
Net cash used in investing activities was $10.09 million in the three
months ended March 31, 2007. At March 31, 2007, our investment in facility
construction in progress increased by approximately $9.53 million as compared to
the amount of such investment at December, 31, 2006. During the three months
ended March 31, 2007, a total of $0.46 million was invested in the purchase of
fixed assets. In addition, we expended an additional $0.09 million for an
investment in land use rights during the three months ended March 31, 2007.
Net cash provided by financing activities was $9.15 million in the three
months ended March 31, 2007. During the three months ended March 31, 2007, cash
provided by financing activities included the net proceeds from short-term loans
of $11.72 million. The net cash used in financing activities included the
repayment of short-term indebtedness in the aggregate amount of $2.57 million.
At March 31, 2007, Henan Zhongpin had short-term bank and governmental
loans in the aggregate amount of $33.00 million with a weighted average interest
rate per annum of 6.24%, and lines of credit with aggregate credit availability
of $122.18 million, as follows:
MAXIMUM CREDIT
BANK AVAILABILITY AMOUNT BORROWED INTEREST RATE MATURITY DATE
- ---- ------------ --------------- ------------- -------------
Agriculture Bank of China.................... $ 23,273,254 $ 2,456,621 7.34% 09/10/2007
2,585,917 7.34 12/25/2007
905,071 7.34 12/29/2007
Industrial and Commercial Bank of China...... 25,859,171 1,939,438 5.85% 05/24/2007
1,939,438 5.85 05/30/2007
1,939,438 6.12 10/11/2007
China Construction Bank...................... 11,636,627 2,585,917 6.12% 01/10/2008
2,327,325 6.12 01/17/2009
CITIC Industrial Bank........................ 6,464,793 5,171,834 5.85% 07/16/2007
Agriculture Development Bank of China........ 62,062,010 3,878,876 5.85% 07/03/2007
2,585,917 5.85 07/17/2007
31
MAXIMUM CREDIT
BANK AVAILABILITY AMOUNT BORROWED INTEREST RATE MATURITY DATE
- ---- ------------ --------------- ------------- -------------
Shanghai Pudong development Bank of
China..................................... 6,464,793 775,775 6.12% 01/18/2008
3,878,876 6.39 03/29/2008
Bank of China................................ 10,343,668 --
Commercial Bank of China..................... 5,171,834 --
Guangdong Development Bank................... 3,878,876 --
City Finance -short-term..................... -- 25,859 0.00% Extendable
------------- ------------
Total...................... $ 155,155,026 $ 32,996,302
============= ============
Canadian Government Transfer Loan............ $ 1,780,440 * 05/15/2043
Canadian Government Transfer Loan
-Current portion.......................... $ 145,671 6.02% 05/15/2008
City Finance................................. $ 133,175 0.00% None
- ----------
* 58% of the principal amount of this loan bears interest at the rate of
6.02% per annum and the remaining principal amount of this loan is
interest free. All repayments are applied first to the interest-bearing
portion of this loan.
Of our outstanding short-term indebtedness at March 31, 2007, $4.65
million aggregate principal amount of loans was secured by our land and plants
located in the PRC and $28.32 million aggregate principle amount of loans was
guaranteed by Henan Zhongpin Industrial Co., Ltd.
We believe our existing cash and cash equivalents, together with our
available lines of credit, will be sufficient to finance our investment to the
new facilities, operating requirements and anticipated capital expenditures of
approximately $27.5 million over the next 12 months. However, we also expect to
sell additional debt or equity securities in fiscal 2007 to raise funds for
additional capital projects or strategic acquisitions that will enable us to
strengthen our market position and accelerate our growth.
CONTRACTUAL COMMITMENTS
The following table summarizes our contractual obligations at March 31,
2007 and the effect those obligations are expected to have on our liquidity and
cash flow in future periods.
PAYMENTS DUE BY PERIOD
(IN THOUSANDS)
-----------------------------------------------------
LESS THAN MORE THAN
CONTRACTUAL OBLIGATIONS TOTAL 1 YEAR 1-3 YEARS 3-5 YEARS 5 YEARS
- ----------------------- ----- ------ --------- --------- -------
Long-term debt obligations............... $2,047 $146 $292 $292 $1,317
Capital lease obligations................ -- -- -- -- --
Operating lease obligations.............. 721 250 471 -- --
Purchase obligations..................... -- -- -- -- --
Other obligations........................ -- -- -- -- --
------ ---- ---- ---- ------
Total........................... $2,768 $396 $763 $292 $1,317
====== ==== ==== ==== ======
32
INFLATION AND SEASONALITY
While demand for our products in general is relatively high before the
Chinese New Year in January or February each year and lower thereafter, we do
not believe our operations have been materially affected by inflation or
seasonality.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
DISCLOSURES ABOUT MARKET RISK. We may be exposed to changes in financial
market conditions in the normal course of business. Market risk generally
represents the risk that losses may occur as a result of movements in interest
rates and equity prices. We currently do not use financial instruments in the
normal course of business that are subject to changes in financial market
conditions.
CURRENCY FLUCTUATIONS AND FOREIGN CURRENCY RISK. Substantially all of our
operations are conducted in the PRC, with the exception of our export business
and limited overseas purchases of raw materials. Most of our sales and purchases
are conducted within the PRC in Renminbi, which is the official currency of the
PRC. As a result, the effect of the fluctuations of exchange rates is considered
minimal to our business operations.
Substantially all of our revenues and expenses are denominated in
Renminbi. However, we use the United States dollar for financial reporting
purposes. Conversion of Renminbi into foreign currencies is regulated by the
People's Bank of China through a unified floating exchange rate system. Although
the PRC government has stated its intention to support the value of the
Renminbi, there can be no assurance that such exchange rate will not again
become volatile or that the Renminbi will not devalue significantly against the
U.S. dollar. Exchange rate fluctuations may adversely affect the value, in U.S.
dollar terms, of our net assets and income derived from our operations in the
PRC.
INTEREST RATE RISK. We do not have significant interest rate risk, as our
debt obligations are primarily short-term in nature, with fixed interest rates.
CREDIT RISK. We have not experienced significant credit risk, as most of
our customers are long-term customers with superior payment records. Our
receivables are monitored regularly by our credit managers.
ITEM 4. CONTROLS AND PROCEDURES
DISCLOSURE CONTROLS AND PROCEDURES. Our management, with the participation
our chief executive officer and chief financial officer, has evaluated the
effectiveness of our disclosure controls and procedures (as such term is defined
in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the
period covered by this report. Based on such evaluation, our chief executive
officer and chief financial officer have concluded that, as of the end of such
period, our disclosure controls and procedures are effective in recording,
processing, summarizing and reporting, on a timely basis, information required
to be disclosed by us in the reports that we file or submit under the Exchange
Act.
INTERNAL CONTROL OVER FINANCIAL REPORTING. There have not been any changes
in our internal control over financial reporting (as such term is defined in
Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter
to which this report relates that have materially affected, or are reasonably
likely to materially affect, our internal control over financial reporting.
33
ZHONGPIN INC.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None.
ITEM 1A. RISK FACTORS
During the three months ended March 31, 2007, there were no material
changes to the risk factors previously disclosed in our Annual Report on Form
10-K for the year ended December 31, 2006, except as follows:
RECENT AMENDMENTS TO THE CORPORATE INCOME TAX LAW IN THE PRC MAY INCREASE THE
INCOME TAXES PAYABLE BY OUR OPERATING SUBSIDIARIES LOCATED IN THE PRC, WHICH
COULD ADVERSELY AFFECT OUR PROFITABILITY.
On March 16, 2007, the National People's Congress of the PRC adopted a new
corporate income tax law in its fifth plenary session. The new corporate income
tax law unifies the application scope, tax rate, tax deduction and preferential
policy for both domestic and foreign-invested enterprises. The new corporate
income tax law will be effective on January 1, 2008. According to the new
corporate income tax law, the applicable income tax rate for our operating
subsidiaries is subject to change. As the implementation detail has not yet been
announced, we cannot be sure of the potential impact of such new corporate
income tax law on our financial position or operating results.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
(a) None.
(b) Not Applicable.
(c) None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not Applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not Applicable.
ITEM 5. OTHER INFORMATION
(a) None.
(b) None.
34
ITEM 6. EXHIBITS
The exhibits required by this item are set forth on the Exhibit Index
attached hereto.
35
ZHONGPIN INC.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, we
have duly caused this report to be signed on our behalf by the undersigned
thereunto duly authorized.
ZHONGPIN INC.
(Company)
Date: May 10, 2007
By: /s/ Xianfu Zhu
---------------------------------
Xianfu Zhu
Chief Executive Officer
By: /s/ Yuanmei Ma
---------------------------------
Yuanmei Ma
Chief Financial Officer
36
EXHIBIT INDEX
EXHIBIT
NUMBER EXHIBIT TITLE
------ -----------------------------------------------------------------
10.1 Amended and Restated 2006 Equity Incentive Plan of Zhongpin Inc.,
incorporated by reference to Annex A to our Proxy Statement dated
May 7, 2007 filed with the Commission on April 30, 2007.
31.1* Certification of our Chief Executive Officer pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.
31.2* Certification of our Chief Financial Officer pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.
32.1* Certification of our Chief Executive Officer pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
32.2* Certification of our Chief Financial Officer pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
- ----------
* Filed herewith
37