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FORM 20-F
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended March 31, 2001
Commission file number 000-21919
DF CHINA TECHNOLOGY INC.
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(PREVIOUSLY DRANSFIELD CHINA PAPER CORPORATION)
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(Exact name of Registrant as specified in its charter)
Territory of the British Virgin Islands
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(Jurisdiction of incorporation or organization)
8th Floor, North Wing, Kwai Shun Industrial Centre
51-63 Container Port Road, Kwai Chung
New Territories, Hong Kong, China
Securities registered or to be registered pursuant to Section 12(g) of the Act.
Common Stock, no par value
--------------------------
(Title of Class)
Securities for which there is a reporting obligation pursuant to Section 15(d)
of the Act.
Common Stock, no par value
--------------------------
(Title of Class)
Indicate the number of outstanding shares of each of the issuer's
classes of capital or common stock as of the close of the period covered by the
annual report.
Common Stock - 19,916,218 Shares
--------------------------------
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
--- ---
Indicate by check mark which financial statement item the registrant
has elected to follow.
Item 17 X Item 18
---- ----
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TABLE OF CONTENTS
<Table>
Item 1. Description of Business 3
Item 2. Description of Property 8
Item 3. Legal Proceedings 10
Item 4. Control of Registrant 10
Item 5. Nature of Trading Market 11
Item 6. Exchange Controls and Other Limitations Affecting
Security Holders 11
Item 7. Taxation 13
Item 8. Selected Financial Data 14
Item 9. Management's Discussion and Analysis of Financial
Conditions and Results of Operations 16
Item 9A. Quantitative and Qualitative Disclosures About
Market Risk 30
Item 10. Directors and Officers of the Company 31
Item 11. Compensation of Directors and Officers 34
Item 12. Options to Purchase Securities from the Company 34
Item 13. Interest of Management in Certain Transactions 35
Item 14. Description of Securities to Be Registered 36
Item 15. Defaults Upon Senior Securities 37
Item 16. Changes in Securities and Changes in Security for
Registered Securities 37
Item 17. Financial Statements 37
Item 18. Financial Statements 37
</Table>
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<Table>
Exhibit List 37
SIGNATURE 38
</Table>
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PART I
ITEM 1. DESCRIPTION OF BUSINESS.
DF China Technology Inc. (Nasdaq: DFCT), formerly Dransfield China
Paper Corporation, is an independent company. The principal business of DF China
Technology Inc. ("DFCT") is the manufacturing, marketing, and distribution of:
o Market-recycled pulp for the paper industry (tissue and other types of
paper), under construction,
o Jumbo tissue rolls for paper converters, and
o Consumer-grade hygienic tissue products.
Dransfield Holdings Limited ("Dransfield Holdings") is a 29.7% major shareholder
in DFCT. Dransfield Holdings, a Cayman Islands company that was founded by Sir
Kenneth Fung, CBE, JP, in the 1940s to market and distribute consumer products
in Hong Kong. Dransfield Holdings has three business divisions:
o a food and beverage division, which has breweries in China and the
United Kingdom and an edible oil factory in China, and which
distributes alcoholic and non-alcoholic beverages in Hong Kong; and
o a logistics and services division that provides warehousing,
deliveries, repair, exhibition and buying services to affiliated and
non-affiliated companies in Hong Kong and China. The services division
now includes a small consumer electronics department that distributes
household appliances under the brand names of "Turbo" and "DF".
o a paper business conducted by us, which bought and sold a Proctor &
Gamble "Tempo" brand-name paper handkerchief, which we distributed to
retailers until June 1997, and which is expanding its operations to
include paper manufacturing and distribution of our own brand-name
paper products;
Our major shareholder, Dransfield Holdings, has been listed on the Hong
Kong Stock Exchange since April 1993.
Through distribution of DFCT shares by Dransfield Holdings to its
shareholders on June 30, 2000 and the issuance of shares during the year for
acquiring a minority interest in Tianjin 3D and also as partial settlement of
suppliers' payables, Dransfield Holdings reduced its shareholdings to
approximately 29.7% with the result that the public float of DFCT is increased
to approximately 9,431,331 shares (or 47.5%).
Until February 26, 1997, our business was conducted by Dransfield Paper
Holdings Limited ("Dransfield Paper"), which merged with us on that date.
The purpose of the merger was to transfer Dransfield Holdings' equity
in its paper business from the Hong Kong Stock Exchange to the Nasdaq Stock
Market in the U.S. The paper business dates back to 1975, when A. Dransfield &
Co. Ltd., a wholly-owned subsidiary of Dransfield Holdings, secured the
exclusive distribution rights for Tempo paper handkerchiefs in Hong Kong and
Macau. In 1994 Dransfield Paper, before its merger with us, succeeded to this
business from its sister company and continued to develop a substantial
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distribution network for Tempo handkerchiefs, principally through supermarkets,
drug stores and newspaper stands.
Our ability to achieve consistent market share of more than 40% in the
paper handkerchief market in Hong Kong through our sales of Tempo provided us
the incentive to manufacture and distribute our own DF branded paper products,
distribution of which commenced in August 1997. In June 1997, we ceased
distributing Proctor & Gamble's Tempo product.
In November 1994, Dransfield paper undertook to establish business
contacts and to gain experience in buying waste paper, which it did both on an
indent or pre-sold basis and on an agency basis, all in support of its plan to
become an integrated hygienic tissue paper manufacturer and distributor. This
paper merchanting operation was conducted by a subsidiary company named C.S.
Paper Holdings (International) Limited, which comprised the following
operations:
o A paper agency company, Central National Hong Kong Limited, through a
joint venture with Central National Gottesman, Inc., a U.S. company,
which agency was sold pursuant to an agreement dated March 27, 1997, to
one of its beneficial owners, and
o A paper trading company in Hong Kong, Dransfield Paper (HK) Trading
Limited, which sold and still sells packaging grade papers on an indent
basis or from stock.
In December 1999, our company began production of our own DF brand-name
paper products at a paper converting facility we established at Conghua, in the
city of Guangzhou, Guangdong Province, Southern China. This was a major step in
our evolution into a vertically-integrated hygienic paper manufacturer and
distributor serving some of China's most densely populated and fastest growing
areas, as well as Hong Kong.
To date, the converting facility has not been able to locate a
sufficient domestic jumbo tissue rolls that meet the quality and cost criteria
for our intended market segments. Quality imports are available, but high prices
and import duties pose major hurdles to market penetration.
Until we obtain the needed funding to complete either paper mill No.1
or mill No. 2, our converting facility will always be short of affordable raw
materials and, as a result, our market penetration will be delayed. As we
continue to aggressively seek funds to complete the mills, we made arrangements
to meet part of our production requirements with the intention to alleviate this
problem in the short term.
1. We signed a seven-year agreement with Jiangmen Sugar Cane Chemical
Factory (Group) Corporation Limited to operate its small paper mill in
Jiangmen, Guangdong Province. The mill has annual capacity of up to
5,500 metric tons of tissue paper and 33,000 metric tons of deinked
pulp. However, with recent virgin pulp price increases, which this
paper mill uses as its primary raw material, has prevented the mill
from producing paper at a cost that will allow us to make a reasonable
return. We are therefore limiting our use of the Jiangmen mill at this
time.
2. We signed agreements with two small paper mills in the county of
Conghua, Guangzhou City, to contract manufacture jumbo rolls to our
specifications. We took trial deliveries of approximately 75-100 metric
tons per month, the excess capacity of these two paper mills. In order
to assure quality,
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our process engineers are stationed at these mills to supervise the
production of our paper. However, because of sub-standard equipment and
insufficient scale, we were unable to achieve intended results while
also diverting management resources. We have therefore aborted those
efforts and refocused management efforts. While costing us over HK$2
million (US$456,000), this experience proved that these small mills in
China are attractive potential customers for our cost-effective quality
recycled pulp. Our management is now therefore focused on building our
converting operations, continue building brand recognition for our DF
product family, and securing capital to complete our mills.
3. We had identified two other small paper mills in Guangxi Province that
together have excess capacity of approximately 150 metric tons per
month as potential sources of raw materials for our converting
facilities. However, due to our trials with the two mills in Guangzhou,
we will no longer pursue opportunities to source raw materials from
these two mills.
4. Guangdong Dransfield Paper Ltd. signed a five-year lease with a small
paper mill in Xinhui, also in Guangdong Province. The original plan was
to have the mill manufacture medium-quality paper under our direct
management, operating as a branch factory of our own paper mill under
construction in Xinhui. We began test production in this mill in early
September, 2000. Likewise, with our experience in Guangzhou, we have
discontinued to source raw materials from this mill.
5. We will continue to supplement domestically sourced jumbo rolls with
imported paper in order to serve export markets. In the final quarter
of fiscal 2000, we began marketing our products overseas and are
beginning to meet with encouraging success in Macau, Hong Kong and
Taiwan. Expanding sales coverage rapidly does have its risks. Having
stretched our sales & marketing team, we were exposed to collection
problems. In particular, we have made HK$300,000 (US$38,000) in bad
debt provisions from our export sales to Macau. Our distribution
network has since been restructured to limit our exposure to credit
risk.
THE PAPER INDUSTRY IN CHINA
China currently has more than 700 business enterprises producing tissue
paper, most of which are small mills with a daily output of 1 to 5 metric tons.
Most are equipped with cylinder and fourdrinier paper machines with paper widths
of 1,092mm to 1,760mm and speeds of 60m to 120m per minute only. Raw materials
are mostly low quality and include mixed waste paper pulp, white paper
trimmings, rice and wheat straw pulp, bagasse pulp, tail pulp of paper mills,
waste cotton pulp and others which have just been simply bleached. Only a few
paper machines import from overseas, together with a few Chinese-made cylinder
and fourdrinier machines use imported wood pulp as raw materials to produce
higher grade tissue paper.
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The following table is an estimate of raw material utilization in
tissue paper plants.
TABLE 1
<Table>
<Caption>
ESTIMATED USAGE
RAW MATERIALS QUALITY BREAKDOWN
100% imported wood pulp or Chinese-made cotton pulp Best 10%
30% imported wood pulp, 70% wood pulp and waste paper or Good 20%
quality bleached bagasse pulp
White paper shorts and bleached rice and wheat straw pulp Average 20%
Mixed waste paper, ordinary straw pulp and tail pulp from other Poor 50%
paper mills
</Table>
In 1997, an estimated 31 million metric tons of paper and paper board
were produced in China. Out of the 31 million tons of paper, approximately 2.1
million metric tons were hygienic tissue paper.
Although annual hygienic paper consumption in China is only a fraction
of that in the West, consumption grew at an annual compounded rate of 15.7%,
from 680,000 metric tons in 1990 to 2.1 million metric tons in 1997. Annual per
capita consumption increased from 0.6kg to 1.7kg, which is still less than 10%
of the United States, where annual per capita consumption exceeds 19kg.
While China still lags behind developed countries in the hygienic paper
consumption, the volume and variety of paper products consumed is growing each
year. Tissue products currently available in China include folded handkerchiefs,
facials, napkins, bathroom tissues, kitchen and other paper towels, and moist
tissues. Western packaged facials, handkerchiefs, napkins and bathroom tissues
are now sold in supermarkets in major cities.
From 1988 to 1992, toilet paper accounted for more than 95% of all
tissue paper sold in China. With the subsequent increase in per capita income,
toilet paper accounted for 88% while tissues accounted 12% in 1995, according to
a industry survey. In 1997, the estimated proportion of toilet paper fell to
approximately 75%, while tissues rose to 25%, of which 15% was napkins and 10%
facials.
We believe that most mills producing hygienic paper in China are
under-financed, poorly managed and producing low-grade products, covering
approximately 65% of the mass market.
The two mills we are building target medium- and premium-quality paper
product markets. Depending on the grade of raw materials used, our products can
also compete in the top end of the mass market. Currently, the top end of the
tissue paper market comprises approximately 15% of the total market.
THE COMPETITION
Our competitors in China are:
o Scott Shanghai (now owned by Kimberly Clark). Estimated output: 14,000
metric tons per annum.
o Taiwan Long Chen (now owned by Procter & Gamble) located in Suzhou, Jiangsu
Province. Estimated output: approximately 14,000 metric tons per annum.
o Taiwan Yuen Foong Yu located in Kunshan, Jiangsu Province. Estimated
output: approximately 15,000 metric tons per annum.
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o Guangdong Vinda Paper Co. Ltd., the largest and most influential local
paper mill, located in Xinhui, Guangdong Province. Estimated expanded
capacity: approximately 30,000 metric tons per annum.
o Asia Pulp & Paper Co. Ltd. has a factory in Jiangsu Province that produces
jumbo rolls and a converting facility in Guangdong Province. Estimated
maximum capacity of the paper making facility: 120,000 metric tons per
annum. (The factory is currently producing approximately 96,000 tons per
annum of which approximately 50% is sold as jumbo rolls to converters.)
o Fujian Hengan Holding Co. Ltd. in Changde, Hunan Province, now produces
tissue paper to meet its requirements for production of diapers as well as
paper. Estimated capacity: approximately 30,000 metric tons per annum. The
company announced this year that it is planning to add another 30,000
metric tons per annum of capacity at an estimated cost of US$24 million.
Given the above-described capacities together with our estimated production
capacity, we believe the need for top quality products for both domestic and
on-premise (tourist) consumption will be temporarily met until the next round of
economic growth in China.
DF CHINA TECHNOLOGY POSITIONING
Despite recent double-digit growth in China and projected annual growth
of around 7%, we assume that the majority of consumers in China will not be able
to afford premium-priced hygienic paper products for several years to come.
Accordingly, we plan to position ourselves in the mass market as well as in the
medium- to premium-priced market. Our strategy is to penetrate the mass market
with the aim of cultivating consumer purchasing habits, appreciation of our
quality products, and recognition of our brand names over the years. We intend
to have raw materials for the mass-market products contract-manufactured by
smaller paper mills and to produce raw materials for higher-end products at our
own mills as they are commissioned.
In addition to the vast market in China, we are beginning to target
nearby Asian export markets, namely Macau, Taiwan and Hong Kong. We have begun
to produce away-from-home products including hand roll towels (HRT), jumbo roll
tissues (JRT) and multi-fold towels. Our aim is to export sufficient quantities
to match our U.S. dollar expenditures for imported waste paper, mainly from the
U.S. Export sales help us control currency risk by matching foreign currency
expenses and revenues. Export of Chinese-manufactured goods coupled with the
purchase of raw materials from overseas is also consistent with the national
policy of the People's Republic of China, which encourages two-way trade.
Furthermore, we are also targeting the premium away-from-home market for
tourism. With Beijing's recent selection to hold the Olympics in 2008, China is
very focused on developing its tourism industry which will spur demand for
quality tissue products.
RESEARCH AND DEVELOPMENT. We have not incurred any significant expenses on
research and development activities except for the research work on the
E-commerce platform, details of which are discussed in Item 9 below.
ENVIRONMENTAL CONTROLS. We anticipate that the Chinese government will increase
its requirements for
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environmental controls. With this in mind, we are installing and employing
environmental control standards that meet U.S. standards, which exceed those
currently required by the PRC.
The environmental controls we are installing at Paper Mill No. 2 have
been approved by the provincial authorities and the central government. The
paper mills will use an enzymatic deinking agent instead of traditional chemical
agents. This biological process will reduce chemical use by approximately 90%.
The effluent output is mostly clay, which can be used for construction, and the
effluent water will be treated in lagoons. The effluent water, after treatment,
will meet the standards set by the Chinese government for biological oxygen
demand (BOD), chemical oxygen demand (COD), suspended solids (SS) and pH.
The entire deinking process has been designed in-house by U.S. and
European experts assisted by an independent consultant. Our waste treatment
process and plants have been designed by specialists in the U.S., but are being
built in China.
Similar environmental controls are proposed for Paper Mill No. 1 and
have been approved by the local environmental protection agency. We expect them
to be approved by the provincial authorities and the central government.
Because our environmental procedures will have received local authority
approval prior to equipment installation, we do not anticipate incurring any
significant environmental clean-up expenses other than those that are part of
our regular operating costs.
NUMBER OF EMPLOYEES. On March 31, 2001 we employed 62 persons. Once the
operations in Conghua and Jiang Yin are fully operational, the number of
employees will increase substantially, as it will when installation of the
deinking and tissue making operations commence at the paper mills.
VENUE OF SALES. Most of our sales for fiscal years 1998-2000 were in Hong Kong.
We have now achieved an approximate 50-50 mix between domestic and export sales.
PATENTS, COPYRIGHTS AND INTELLECTUAL PROPERTY.
We hold no patents, copyrights or intellectual property other than
trademarks established for our new paper products for the consumer market. We
are not aware of any patents, trademarks, licenses, franchises and concessions
that would affect our business and production described herein.
ITEM 2. DESCRIPTION OF PROPERTY.
CONGHUA - PAPER MILL NO. 1.
We have the land use rights to 16,011 square meters in a development
zone in Conghua, Guangzhou, PRC, on which we have constructed a paper converting
plant and warehouse, a conference center, and a 52-room guest house. The
recycled pulp production and paper making facilities are planned for a tract of
approximately 35,000 square meters in Xinhui, near Guangzhou, near other tissue
and industrial-grade paper manufacturers, on a major river with ready access to
road and river transportation facilities and an abundant supply of electricity.
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JIANGYIN - PAPER MILL NO. 2.
Paper Mill No. 2 was originally owned by a Sino-foreign equity joint
venture of our company, Jiangsu Huaxi Holdings Corporation and Broadsino
Investment Company Ltd ("Broadsino"). The joint venture company, Jiang Su
Dransfield Paper Co. Ltd. ("Jiang Su ") was 40% owned by Jiangsu Huaxi Holdings
Corporation and 60% owned by DF Paper Jiangsu Ltd ("DFPJ") (formerly known as
"Dransfield Broadsino Paper Holdings Limited"), a company 80% owned by us and
20% owned by Broadsino. We had agreed to provide Broadsino's equity contribution
(approximately US$1.9 million) to the joint venture through a loan to Broadsino
bearing compound interest at the rate of 6% a year.
Our joint venture partner, Jiangsu Huaxi Holdings Corporation, has a
50-year land use agreement with the local authority in Jiangyin, Jiangsu
Province, for a 65,000-square-meter tract on which Paper Mill No. 2 is being
constructed. Jiangsu Huaxi, a PRC government corporation, originally agreed to
provide this parcel of land as part of its capital contribution. The project
site is adjacent to a Yangtze River tributary, which will supply water to the
paper mill. The tract is also accessible by a major highway, near other
manufacturers of industrial grade papers, and adequate to meet medium-term
expansion needs.
Originally, the joint venture was established to ensure an adequate
supply of electricity to the mill. Our Chinese partners were to contribute a
12,000-kilowatt-hour, coal-fired, power plant as their 40% interest in the joint
venture. This power plant currently supplies electricity to other plants nearby
and was to supply the required electricity and steam to the paper mill. However,
there now being an adequate supply of electricity in the area in which the
factory is situated, we believe we are in a position to develop and operate the
factory on the strengths of our own management.
In an effort to generate funds from sources other than the public
market, we agreed in July 1999 with Jiangsu Huaxi to exchange shares of our
common stock in partial payment for land in Jiangyin, the site of Paper Mill No.
2. Under the agreement, we outlined the desire to convert our Sino-foreign
equity joint venture into a foreign company, wholly owned by DFPJ, which WAS 80%
held by us.
Originally DFPJ had committed to contribute US$9.3M (approximately
HK$72M) to Jiang Su, to be financed by a shareholders' loan. During the year
ended March 31, 2000, Jiang Su became a wholly owned subsidiary of DFPJ as a
result of changes in the agreement with the PRC joint venture partner.
Accordingly, the registration status of Jiang Su was changed from a Sino-foreign
equity joint venture company to a wholly owned foreign enterprise on October 14,
1999.
ACQUISITIONS.
(a) On July 20, 1999, DFPJ entered into an agreement with Jiangsu Huaxi Holdings
Corporation ("Jiangsu Huaxi"), the PRC joint venture partner of Jiang Su
Dransfield Paper Co. Ltd ("Jiang Su").
It was agreed that Jiangsu Huaxi give up the rights to invest and gain
a 40% equity interest in Jiang Su as originally stated in the joint venture
agreement between DFPJ and Jiangsu Huaxi. Accordingly, Jiang Su became a wholly
owned subsidiary of DFPJ and the registration status of Jiang Su was changed
from a Sino-foreign equity joint venture company to a wholly owned foreign
enterprise on October 14, 1999.
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(b) In the current year, the Company entered into an agreement with Bonnaire
whereby Bonnaire assigned its rights, title, interest and benefit to/in the
HK$14.4 million loan to Company and transferred all its beneficial interest in
the shares of DFPJ to the Company in full, and settled all amounts due from
Bonnaire to the Company in respect of the HK$14.4 million loan in full.
Accordingly, DFPJ became a wholly owned subsidiary of the Company.
(c) On August 8, 2000, the Company entered into an agreement with a third party
whereby the Company agreed to acquire 26% equity interests in Tianjin 3D Image
Technique Company Limited ("TJ3D") a consideration of 1,560,000 shares of the
Company's common stock valued at HK$12.9 million (US$1.7 million) based upon the
closing price of the Company's common stock on August 8, 2000.
TJ3D is engaged in production and distribution of three-dimensional visual
products, which were developed by Professor Li, an executive director of the
Company, and his team.
OFFICE FACILITIES.
We have our office facilities located at Shenzhen and Conghua.
ITEM 3. LEGAL PROCEEDINGS.
Neither our company nor any of its properties is a party to or the
subject of any material pending legal proceedings other than ordinary routine
litigation incidental to its business.
ITEM 4. CONTROL OF REGISTRANT.
At the balance sheet date, we are an independent company. Our major
shareholder is Dransfield Holdings, a Cayman Islands company listed on the Hong
Kong Stock Exchange, which has a 29.7% share in us.
The following table sets forth, as of August 31, 2001, information with
respect to any person known to us to be the beneficial owner of more than ten
percent of our Common Stock and the total amount of our Common Stock
beneficially owned by the officers and directors as a group:
<Table>
<Caption>
Percent
Owner Amount Owned of Class
----- ------------- -------------
Dransfield Holdings Limited 5,909,000(1) 29.7%
Grandom Asia Trading Limited 2,226,157 11.1%
Officers and Directors as a
Group(5 persons) 4,658,612 23.4%
</Table>
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(1) Represents sole voting and investment powers with respect to
these shares.
ITEM 5. NATURE OF TRADING MARKET.
OUTSIDE THE UNITED STATES
There is currently no trading market outside the United States for our
Common Stock.
INSIDE THE UNITED STATES
Our Common Stock is listed for trading on the Nasdaq SmallCap Market
under the symbol "DFCT".
Our Common Stock commenced trading in the U.S. on April 2, 1997. The
reported high and the low sales prices have been as follows:
(Closing Price)
<Table>
<Caption>
Calendar Quarters High Low
----------------- ---- ---
1997, 2nd Quarter $5.25 $2.500
1997, 3rd Quarter $4.875 $3.250
1997, 4th Quarter $4.875 $4.313
1998, 1st Quarter $4.000 $2.750
1998, 2nd Quarter $2.875 $1.625
1998, 3rd Quarter $2.375 $0.75
1998, 4th Quarter $2.125 $0.313
1999, 1st Quarter $2.250 $1.250
1999, 2nd Quarter $1.250 $0.781
1999, 3rd Quarter $1.125 $0.797
1999, 4th Quarter $12.000 $0.438
2000, 1st Quarter $7.563 $2.625
2000, 2nd Quarter $4.375 $1.438
2000, 3rd Quarter $1.9375 $0.9375
2000, 4th Quarter $2.4219 $0.3438
2001, 1st Quarter $1.5625 $0.3750
2001, 2nd Quarter $0.6250 $0.2600
</Table>
Of the 19,916,218 outstanding shares of Common Stock, 7,341,749 shares
are held in the United States by approximately 1,034 record holders and
12,574,469 shares are held in Hong Kong by approximately 430 shareholders, one
of whom, Dransfield Holdings Limited, a Cayman corporation, owns 5,909,000
shares.
ITEM 6. EXCHANGE CONTROLS AND OTHER LIMITATIONS AFFECTING SECURITY HOLDERS.
The business of our company is conducted in and from Hong Kong and the
People's Republic of China
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("the PRC") in Hong Kong dollars and the PRC Renminbi. Periodic reports made to
U.S. shareholders are expressed in U.S. dollars using the then-current exchange
rates.
The PRC Government imposes foreign currency control in part through
direct regulation of the conversion of Renminbi into foreign exchange and
through foreign trade restrictions. The conversion of the Renminbi into U.S.
dollars must be based on the People's Bank of China ("PBOC") Rate. The PBOC Rate
is set based on the previous day's PRC interbank foreign exchange market rate
and with reference to current exchange rates on the world financial markets. In
line with the unification of the two exchange rates, the Renminbi was revalued
at HK$1.00=RMB1.12 and US$1.00=RMB8.70 on January 3, 1994. Since revaluation,
the exchange rate has fluctuated between a range of US$1.00 = RMB8.30 and
US$1.00 = RMB8.70.
The following table sets forth the average noon exchange rate between
Renminbi and U.S. dollars for the periods indicated and is expressed in RMB per
U.S. Dollar:
<Table>
<Caption>
PERIOD AVERAGE NOON BUYING RATE(1)(2)
------ ------------------------------
1989 3.8149
1990 4.8175
1991 5.3431
1992 5.5309
1993 5.7769
1994 8.6402
1995 8.3700
1996 8.3389
1997 8.3193
1998 8.3008
</Table>
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Source: The Noon Buying Rate in New York for cable transfers payable
in foreign currencies as certified for customs purposes by the Federal
Reserve Bank of New York. Figures after 1998 are no longer available.
Notes:
(1) The Noon Buying Rate did not differ significantly from the Official
Rate prior to January 1, 1994, the date on which the Official Rate was
abolished. Prior to the adoption of the PBOC Rate, there was a
significant degree of variation between the Official Rate and the rates
obtainable at Swap Centers, such as the Shanghai Swap Center. After
January 1, 1994 and the unification of the foreign currency exchange
system there have not been significant differences between the Noon
Buying Rate, the PBOC Rate and the Shanghai Swap Center Rate.
(2) The average rates were determined by averaging the Noon Buying Rate in
New York for cable transfers payable in New York in foreign currencies
on the last business day of each month.
The Hong Kong dollar is freely convertible into the U.S. dollar. Since
October 17, 1983, the Hong
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Kong dollar has been linked to the U.S. dollar at the rate of HK$7.80 to
US$1.00. The central element in the arrangements for the link is an agreement
between the Hong Kong government and the three Hong Kong banknote issuing banks,
HSBC, Standard Chartered Bank and the Bank of China. Under the agreement,
certificates of indebtedness, which are issued by the Hong Kong Government
Exchange Fund to the banknote issuing bank to be held as cover for their
banknote issues, are issued and redeemed only against payment in U.S. dollars,
at the fixed exchange rate of US$1.00 = HK$7.80. When the banknotes are
withdrawn from circulation, the banknote issuing banks surrender the
certificates of indebtedness to the Hong Kong Government Exchange Fund and are
paid the equivalent of U.S. dollars at the fixed rate. Exchange rates between
the Hong Kong dollar and other currencies are influenced by the linked rate
between the U.S. dollar and the Hong Kong dollar.
The market exchange rate of the Hong Kong dollar against the U.S.
dollar continues to be determined by the forces of supply and demand in the
foreign exchange market. However, against the background of the fixed rate
system which applies to the issue of Hong Kong currency in the form of
banknotes, as described above, the market exchange rate has not deviated
significantly from HK$7.80 to US$1.00. See "Selected Financial Data" below. The
Hong Kong government has stated its intention to maintain the link at that rate.
The Hong Kong government has stated that is has no intention of imposing
exchange controls in Hong Kong and that the Hong Kong dollar will remain freely
convertible into other currencies (including the U.S. dollar). The PRC and the
United Kingdom agreed in 1984 pursuant to the Joint Declaration of the
Government of the United Kingdom of Great Britain and Northern Ireland and the
Government of the People's Republic of China on the Question of Hong Kong ("the
Joint Declaration") that, after Hong Kong became a special administrative region
of the PRC (the "SAR")on July 1, 1997, the Hong Kong dollar will continue to
circulate and remain freely convertible. However, no assurance can be given that
the SAR government will maintain the link at HK$7.80 to US$1.00, if at all.
Our company is organized under the laws of the British Virgin Islands
("the BVI"). The relevant BVI law imposes no limitations on the rights of
nonresidents or foreign owners to hold or vote securities of the company, nor
are there any charters or other constituent documents of the company - that
would impose similar limitations.
ITEM 7. TAXATION.
There are no British Virgin Islands ("BVI") governmental laws, decrees
or regulations affecting the remittance of dividends or other payments to
nonresident holders of our company's securities. U.S. holders of our securities
are subject to no taxes or withholding provisions under existing BVI laws and
regulations. By reason of the fact that we conduct no business operations within
the BVI, there are no applicable reciprocal tax treaties between the BVI and the
U.S. that would affect the preceding statement that there are no BVI taxes,
including withholding provisions, to which U.S. security holders are subject
under existing laws and regulations of the BVI.
13
15
ITEM 8. SELECTED FINANCIAL DATA.
The following selected financial data for the five years ended March
31, 2001, are derived from the audited consolidated financial statements of our
company and of Dransfield Paper, with whom we merged on February 26, 1997. The
data should be read in conjunction with the consolidated financial statements
and the related notes, which are included elsewhere in this annual report.
<Table>
<Caption>
Years ended March 31,
--------------------------------------------------------------------------------------
1997 1998 1999 2000 2001 2001
HK$'000 HK$'000 HK$'000 HK$ "000(1) HK$'000(1) US$'000(1)
----------- ----------- ----------- ----------- ----------- -----------
Income Statement Data:
Net Sales(2) 147,244 54,631 4,812 1,502 9,343 1,198
Income (loss) before interest and
income taxes and minority 329 (3,791) (8,843) (7,009) (88,242) (11,312)
interests
Interest income/(expenses),
net(2) (1,810) (525) (254) 41 -- --
Provision for income taxes (309) (417) 9 -- -- --
Loss after income
taxes but before minority
interests (1,790) (4,733) (9,088) (6,968) (88,242) (11,312)
Net loss(2) (24) (4,733) (9,088) (6,968) (88,242) (11,312)
Basic net loss per share
(in US$) (0.16) (0.39) (0.58) (0.43) (4.57) (0.59)
</Table>
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16
<Table>
<Caption>
As at March 31,
---------------------------------------------------------------------------------
1997 1998 1999 2000 2001 2001
HK$'000 HK$'000 HK$'000 HK$ "000(1) HK$'000(1) US$'000(1)
----------- ----------- ----------- ----------- ----------- -----------
Balance Sheet Data:
Fixed assets(3) 123,161 178,434 186,642 200,909 143,332 18,375
Total assets(3) 209,466 211,277 208,338 224,983 150,745 19,326
Long term liabilities(4) 120,652 53,532 58,359 14,350 -- --
Equity 33,265 153,609 145,460 206,698 139,610 17,898
No. of common stock issued 9,800,000 15,585,000 15,585,000 18,165,007 19,916,218 19,916,218
</Table>
----------
(1) The translation from Hong Kong dollars into U.S. dollars for the 2001
data is at US$1.00 equals HK$7.8003, the conversion rate prevailing on
March 30, 2001.
(2) For a discussion of the reasons for the significant changes in certain
selected financial data between fiscal years 1999, 2000, and 2001, see
below, "Management's Discussion and Analysis of Financial Condition and
Results of Operations" and the subsections thereof as follows: for "Net
Sales" in the table above, see "Sales" below; for "Interest
income/(expenses), net" above, see "Interest Expense" below; and for
"Net income" above, see "Net income" below.
(3) Total assets decreased to US$19.3 million in 2001. This was primarily
due to a significant US$7.95 million provision against our fixed assets
which was the result of surveys conducted by professional surveyors and
a US$703,000 impairment against our investment in Tianjin 3D. Due to
the difficult fund raising environment after the Asian economic crisis
we engaged professional surveyors to identify potential asset
impairments at our two unfinished paper mills. Total assets increased
to US$28.8 million in 2000, a US$2.1 million increase over 1999. The
2000 increase was mainly attributable to an increase of US$1.8 million
in fixed assets, an increase of US$94,000 in inventories and an
increase of US$161,000 in deposit for fixed assets.
(4) Long-term liability of US$1.8 million in 2000 is a loan from a related
company. Long-term liabilities in 1999 were composed mainly of US$5.7
million owed to the company's parent in the period, Dransfield Holdings
Limited and a US$1.8 million loan from a related company.
The following table sets forth certain information concerning exchange
rates between Hong Kong dollars and U.S. dollars for the periods presented,
expressed in HK$ per US$:
15
17
<Table>
<Caption>
Calendar
Period Period End Average High Low
------ ---------- ------- ---- ---
1991 7.7800 7.7713 7.8025 7.7155
1992 7.7430 7.7412 7.7765 7.7237
1993 7.7280 7.7348 7.7650 7.7230
1994 7.7375 7.7284 7.7530 7.7225
1995 7.7323 7.7357 7.7665 7.7300
1996 7.7345 7.7345 7.7440(1) 7.7310(1)
1997 7.7495 7.7431
1998 7.7476 7.7467
1999,Sep 17 7.7663
</Table>
----------
Source: Federal Reserve Bank of New York.
Note: The average rates were determined by averaging the Noon Buying Rate in New
York for cable transfers payable in New York in foreign currencies on the last
business day of each month.
(1) Average high and low are through 9/17/96; average highs and lows are no
longer published and, therefore, not available for 12/31/96 and
thereafter.
ITEM 9. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS
OF OPERATIONS.
The following discussion and analysis should be read in conjunction
with the financial statements and the accompanying notes thereto and is
qualified entirely by the foregoing and by other more detailed financial
information appearing elsewhere see "Financial Statements." All dollar amounts
are in Hong Kong dollars unless otherwise noted.
OVERVIEW.
We had no business until we merged on February 26, 1997, with
Dransfield Paper. The financial statements included herein (see "Financial
Statements") and the references below to our business operations refer also to
Dransfield Paper's financial statements and business operations before the
merger, to which we succeeded upon our merger with Dransfield Paper. Certain
vertical integration activities (see "Outlook" below) are reflected in the
statements of operation and cash flows for the fiscal years ended March 31,
1999, 2000, and 2001.
16
18
During the year, as a result of inadequate funding, the management
anticipated that the revenue generated from certain paper mills might be below
expectations due to the delay in completion or temporary suspension of
construction of the paper mills in Xinhui, Guangdong Province and in Huaxi,
Jiangsu Province, the PRC. This served as an indication that the carrying values
of the property, plant and equipment of paper manufacturing division might
exceed the undiscounted future cash flows expected to be generated from these
property, plant and equipment. Therefore, we hired professional surveyors to
value our unfinished paper mills for potential asset impairments. And, after
taking advice from professional valuers, we recognized an HK$61.99 million
(US$7.94 million) impairment loss for the year ended March 31, 2001.
The following is a summary of the impairment loss of property, plant
and machinery by category for the year ended March 31, 2001 (in thousands):
<Table>
<Caption>
Leasehold land Machinery
and buildings and equipment
----------------------- -----------------------
US$ HK$ US$ HK$
Paper manufacturing 1,776 13,854 6,171 48,136
========== ========== ==========
</Table>
Moreover, the Company's newly acquired affiliate, Tianjin 3D, which is
engaged in the production and distribution of three-dimensional visual products,
has not achieved the profitability target established upon its acquisition.
Management determined that the anticipated reduction in revenue as a result of
change in market conditions would not be temporary. Accordingly, we recognized
an HK$5.48 million (US$703,000) impairment during the year ended March 31, 2001
primarily due to the reduction in revenues as compared with the affiliate's
profitability projections.
RESULTS OF OPERATIONS.
The following table presents, as a percentage of sales, certain
selected consolidated financial data for each of the three years in the period
ended March 31, 2001:
<Table>
<Caption>
Year ended March 31 1999 2000 2001
--------- --------- ---------
Sales 100.0% 100.0% 100.0%
Cost of sales (90.9) (104.7) (129.8)
--------- --------- ---------
Gross margin 9.1 (4.7) (29.8)
--------- --------- ---------
Selling, general and
administrative expenses (174.7) (535.4) (152.4)
Interest income and expense (5.3) 2.7 --
Other income and expenses, net (18.1) 73.4 (762.2)
--------- --------- ---------
(198.1) (459.3) (914.6)
--------- --------- ---------
Net loss (189.0)% (464.0)% (944.4)%
--------- --------- ---------
</Table>
17
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SALES.
DFCT's turnover in fiscal 2001 was HK$9.3 million (US$1.2 million)
compared with HK$1.5 million (US$193,000) in fiscal 2000. The more than six
times increase in turnover this year was due to a pick-up in sales of our own
manufactured hygienic paper products as we slowly ramped up our converting
operations in Conghua. Turnover was HK$4.8 million (US$615,000) in FY 1999. The
decrease in turnover in FY 2000 was due to further contraction of our paper
merchanting activities that were started in 1994 to build experience and
establish business contacts for our entry into the tissue paper industry.
GROSS MARGIN.
Gross loss of HK$2.79M (US$357,000) in FY 2001 versus HK$70,000
(US$9,000) in FY 2000 and a gross margin of HK$436,000 (US$56,000) in FY 1999.
The gross loss during the year was due to trial projects we undertook with two
small tissue papermaking mills we signed leases for early this year. Management
estimates that the trial runs cost us approximately HK$2 million (US$256,000),
which over-burdened our cost of sales and caused the gross loss for the year.
The trials proved that the mills were uneconomical and ineffective. The
equipment was substandard, and the mills were too small to produce jumbo rolls
cost-effectively and with consistent quality. We accordingly decided to
discontinue using those mills. Most of these small mills in China can make
little profit and will actually benefit substantially from using our
cost-effective recycled pulp. Our experience with the two small mills confirmed
our original strategy of targeting small mills in China as potential customers
for our recycled pulp. Furthermore, operating the small mills gave us a better
understanding of their needs and gives us credibility when we approach them as
potential customers for our recycled pulp.
The gross loss in fiscal 2000 was due to insufficient scale of operations at our
converting facilities while the gross margin in 1999 was from our merchanting
activities.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES.
Selling, general and administrative expenses for FY 2001 were HK$14.2
million (US$1.8 million) while they were HK$8 million (US$1,031,000) and HK$8.4
million (US$1,078,000) in FY 2000 and FY 1999 respectively. The increase in
selling, general and administrative expenses were due to the HK$1.6 million
(US$203,000) marketing expense incurred to promote Changsvision and expenses
incurred to build our marketing and distribution channels.
INTEREST EXPENSE, NET.
There was no interest income in FY 2001 compared to HK$41,000
(US$5,000) in FY 2000 from interest earned on time deposits of capital raised
through stock issues. The net interest expense of HK$254,000 (US$33,000) in FY
1999 was attributable mainly to financing for our paper merchanting activities.
The company currently has no interest bearing liabilities.
18
20
OTHER INCOME AND EXPENSES, NET
Other income for FY 2001 mainly represents agency commission received
and deposits refunded. In FY 2000, other income mainly represented a lump sum
fee income of HK$1 million (US$131,000) for consultancy services rendered to a
third party on various investment opportunities related to paper industry in the
PRC.
NET LOSS.
Net loss from ordinary activities attributable to shareholders was HK$87.8
million (US$11.3 million) in fiscal 2001 compared to HK$6.9 million (US$895,000)
and HK$9.1 million (US$1.2 million) in fiscal 2000 and 1999 respectively. A
breakdown of our net loss this year is provided below:
ONE-TIME ITEMS
<Table>
<Caption>
HK$ Millions US$ Millions Explanation
------------ ------------ -----------
$ 61.99 $ 7.95 Fixed asset provision for the potential decline in value of
our unfinished paper mills
8.34 1.07 Equity in loss of an affiliate
1.58 0.20 Start-up marketing expenses on Changsvision for Tianjin 3D
2.00 0.26 Loss incurred from trial production at the two small paper mills
------- ------
Sub-total 73.91 9.48
------- ------
RECURRING ITEMS
$ 0.78 $ 0.10 Expenses incurred to develop our sales & marketing team
0.93 0.12 Bad-debt expense from dealing with small local distributors
1.68 0.21 Corporate expenses for maintaining our listing
0.40 0.05 Amortization of employee stock option expenses
2.47 0.32 Depreciation
------- ------
Sub-total 6.26 0.80
------- ------
8.07 1.03 Operational losses due to insufficient turnover
------- ------
TOTAL $ 88.24 $11.31
======= ======
</Table>
The HK$88.2 million (US$11.31 million) net loss this fiscal year was primarily
due to a HK$61.99 million (US$7.95 million) provision made by the Group for the
diminution in value of fixed assets and a HK$8.34 million (US$1.07 million)
equity in loss of an affiliate, Tianjin 3D. Due to the difficult fund raising
environment after the Asian economic crisis, we engaged professional surveyors
to identify potential asset impairments at our two unfinished paper mills. As a
result and for prudence reasons, we made significant provisions against our
fixed assets.
The provision does not affect cash flows or the intrinsic value of our past
investment. Once we raise the funds required to complete our two paper mills,
our shareholders will benefit from this one-time provision through
19
21
lower depreciation and amortization expenses in the future.
Furthermore, the items not affecting cash flow this year are:
<Table>
<Caption>
HK$ Millions US$ Millions Explanation
------------ ------------ -----------
$ 61.99 $ 7.95 Fixed asset provision for the potential decline in value of our
unfinished paper mills
0.93 0.12 Bad-debt expense from dealing with small local distributors
8.34 1.07 Equity in loss of an affiliate
2.47 0.32 Depreciation
0.40 0.05 Amortization of employee stock option expenses
-------- --------
$ 74.13 $ 9.51
======== ========
</Table>
The net loss in fiscal 2000 were due to
o HK$827,000 (US$106,000) loss from our paper merchanting division
o HK$873,000 (US$112,000) in corporate expenses
Items not affecting cash flow:
o HK$2.3 million (US$295,000) in amortization and depreciation of land
and building, factory, and machinery of our Conghua converting plant
o HK$616,000 (US$79,000) increase in inventory provisions
o HK$624,000 (US$80,000) amortization of employee stock option expenses
And the net loss in 1999 was mainly due to a HK$3.9 million (US$510,000) loss
from our paper merchanting division, HK$630,000 (US$81,000) in corporate
expenses and two items not affecting cash flows. Those include HK$2.8 million
(US$359,000) in amortization and depreciation of our Conghua converting plant
and HK$939,000 (US$121,000) amortization of employee stock option expenses.
BALANCE SHEET ITEMS.
Significant changes in several balance sheet items occurred from fiscal
years 2000 to 2001 - in particular, fixed assets, and shareholders' equity.
These changes reflect -
o the decrease in fixed assets from HK$200.9 million (US$25.8 million)
to HK$143.3 million (US$18.4 million), reflecting the HK$62 million (US$7.9
million) provision against fixed assets,
o the issuance of 1,751,211 shares of common stock for HK$16.9 million
(US$2.1 million) to acquire a minority interest in Tianjin 3D Image Technique
Co. Ltd and for partial settlement of supplier payables.
LIQUIDITY AND CAPITAL RESOURCES.
We had negative cash flows from operations of HK$11.7 million (US$1.5
million) and HK$2.7 million
20
22
(US$346,000) respectively in fiscal years 2001 and 2000, and positive cash flows
of HK$6.4 million (US$820,000) in FY 1999. The 2001 negative performance was due
to a HK$1 million (US$129,000) increase in receivables from increased sales, and
operating loss incurred for one of its paper mills which has a full year against
four months' operation in FY 2000 as a result of increased in selling, general
and administrative expenses incurred for various efforts to improve our
revenues. The year 2000 negative performance was due to a HK$0.7 million
(US$94,000) increase in net inventories and a HK$506,000 (US$65,000) decrease in
accounts payable. The positive cash flows in FY 1999 were due to a HK$10.2
million (US$1.3 million) decrease in net accounts receivable and a HK$1.1
million (US$143,000) decrease in net inventories.
Our fixed asset investments in our paper mills reduced cash flows by HK$3.7
million (US$476,000) in FY 2001, HK$6.8 million (US$864,000) in FY 2000, and
HK$3.1 million (US$402,000) in FY 1999. No gain or loss of disposal of fixed
assets was recognized in FY 2001 and FY 1999. The gain on disposal of fixed
assets recognized in FY 2000 was HK$68,000.
In fiscal 1999, DFCT repaid HK$4.1 million (US$530,000) in loans made to us by
Dransfield Holdings Limited ("DHL"). In FY 2000, we received HK$13.1 million
(US$1.7 million) from issuing new shares of common stock, of which HK$2.4
million (US$310,000) was used to repay a loan made by a minority shareholder and
HK$0.7 million (US$87,000) to repay loans made by DHL. And in fiscal 2001,
HK$3.5 million (US$449,000) were received from issuing new shares of common
stock.
Additional capital expenditures of approximately HK$55 million (US$7 million) as
more fully explained below must be made to complete the first two papers mills.
<Table>
<Caption>
US$000s
---------------------------------------
To Be
Capital Requirement Purchased Purchased Timing
--------- --------- ------
MILL NO. 1:
Used Deink Line (Belgium) Apr 96
Used Paper Making Machine (USA) Nov 96-Apr 97
Used Paper Converting (USA, Japan) Jan 96
Land & Building (USA) Jan 95-Oct 95
-------
Sub-Total $13,789
New Auxiliary Equipment (China) $3,800 Apr 01-Dec 02
New Environmental Control
Equipment (China/USA) 158 Apr 01-Dec 02
Infrastructure (China) 1,211 1,966 Apr 01-Dec 02
------- ---------
Sub-Total 15,000 5,924
</Table>
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23
<Table>
MILL NO. 2:
Used Deink Line (USA) Jan 96
Used Paper Making Machine (Belgium) Jan 96
Used Paper Converting (USA, Japan) Apr 96
Land & Building (USA) Sep 96-Dec 97
---------
Sub-Total 8,211
New Auxiliary Equipment (China) 3,750 Apr 01-Jul 02
New Environmental Control
Equipment (China/USA) 206 Apr 01-Jul 02
Infrastructure (China) 1,452 1,320 Apr 01-Jul 02
--------- ---------
Sub-Total 9,663 5,276
MILL NO. 3:
Used Paper Making Machine 1,000 Nov 96-Apr 97
---------
(USA)
Sub-Total 1,000
MILL NO. 4:
Used Paper Making Machine 1,000 Nov 96-Apr 97
---------
(USA)
Sub-Total 1,000
--------- ---------
TOTAL $ 26,663 $ 11,200
</Table>
The source of funds for these capital expenditures for Paper Mill Nos.
1 and 2 was as follows:
o $10 million advance from parent, Dransfield Holdings in
November 1996 and April 1997,
o $6.5 million advance from Dransfield Holdings from January
through August 1997,
o $6.5 million advance from Dransfield Holdings from September
1997 through March 1998,
o $1.0 million advance from Dransfield Holdings from April 1998
through March 1999,
o $1.5 million by the issuance of common stock to contractors
from April 1999 through March 2000, and
o $1.2 million advance from Dransfield Holdings from April 1999
through March 2000.
o $1.1 million advance from Dransfield Holdings from April 2000
through March 2001.
We plan to raise the approximately US$7 million required to complete
our two paper mills from investors or through merging with an existing paper
mills in China. The balance of US$4 million will be financed through credit from
suppliers.
The proposed sources of funds for Paper Mill Nos. 3 and 4 are as
follows:
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24
o $25 million by March 2003 from the sale of shares of the
company in a rights offering with standby underwriters, and
o profits generated from Mills No.1 and No.2.
Of the advances from Dransfield Holdings to complete Paper Mills Nos. 1
and 2, $5 million were converted into common stock of the company in May 1997 at
$5 a share. $4.2 million were converted into common stock of the company in
September 1997 at $4.25 per share, $4.5 million were converted into common stock
of the company in March 1998 at $4.50 per share, $147,000 were converted into
common stock of the company in November 1999 at $7 per share and $5.8 million
were converted into common stock of the company in February 2000 at $3.51 per
share. The proposed source of funds for Plant Nos. 3 and 4 would involve the
issuance of equity securities and, accordingly, represent potential dilution to
our shareholders.
OUTLOOK.
The statements contained in this outlook are based on current
expectations. These statements are forward looking, and actual results may vary
materially.
We are building a vertically-integrated, multi-product, consumer
hygienic paper manufacturing and distribution business. Planning for the
development of this business began in 1993. We made business contacts in the
buying and selling of unfinished paper and established business alliances for
two plants in China. Material capital expenditures were both committed and made,
and the first two paper converting plants are now operational.
During 1998 we began working with a number of local Chinese paper
mills, sharing our specialized technical knowledge of market recycled pulps.
Although China has initiated a number of reforestation programs, the country is
unlikely ever to become self-sufficient in wood fiber and must import it from
world markets. We believe we are unique in China in our ability to help local
mills purchase imported market recycled pulp made from wood fiber, and combine
it with local, non-wood fiber to produce an improved grade of pulp that is a
good-quality and cost-effective substitute for imported virgin pulp.
Our vertical integration plans embrace the following activities, one of
which is operational. All others are still in the development stage:
o Recycled pulp production. We will process waste paper into recycled
pulp. Until we need all the recycled pulp for our own further
processing, we will offer approximately half of what we produce for
sale to other paper mills in China and will use the balance for our own
paper making operation.
o Papermaking. We will employ our paper making machines to process
recycled pulp into jumbo tissue rolls. Until we need all the jumbo
rolls for our own further processing, we will offer approximately half
of what we produce for sale to other companies in China with paper
converting plants and will use the balance for our own paper converting
plants.
o Paper converting. We are now converting jumbo rolls of paper into
finished paper products, such as
23
25
bathroom tissue, facial tissue, napkins and handkerchiefs, which are
packaged and distributed to customers.
We estimate that the net operating margins in these divisions will be as
follows:
<Table>
<Caption>
Division Net Operating Margin
-------- --------------------
Recycle pulp production 10 to 15%
Paper making 10 to 16%
Paper converting 11 to 21%
</Table>
TIMING OF THE EXPANSION. Phase I of our business expansion is the completion of
Paper Mills Nos. 1 and 2. Phase II of our long-term growth plan involves
constructing two more paper mills, one in the Tianjin region in northern China
and another in the Sichuan Province in western China. We will only begin Phase
II when Phase I begins to achieve our targeted financial results and after we
have demonstrated that we can apply the knowledge and experience gained in
building Paper Mill Nos. 1 and 2 to construct the third and fourth mills with
maximum speed and efficiency. The projected dates for the completion and
commencement of operations of each of the four mills are as follows:
<Table>
<Caption>
Recycled Pulp Paper Paper
Production Making Converting
---------- ------ ----------
Phase 1: Under construction
Paper Mill No. 1 December 2002 April 2003 Operational
Paper Mill No. 2 August 2002 January 2003 Operational
Phase 2: Planned. Not under construction
Paper Mill No. 3 August 2003 December 2003 December 2003
Paper Mill No. 4 August 2004 December 2004 December 2004
</Table>
PAPER MILL NO. 1. Our company invested US$6 million in establishing a paper
conversion plant, a conference center, and a research and development center in
Conghua County in the city of Guangzhou, Guangdong Province in southern China.
The paper conversion plant tested production and came on stream in August 1997
and now converts jumbo rolls of paper into toilet tissue, paper handkerchiefs,
napkins and facial tissue. Its maximum capacity is approximately 1,200 metric
tons per month. The plant will also serve as a training and research and
development center to develop our paper business throughout China. An expert
plant manager with 30 years' experience was brought from the U.S. to manage and
supervise this plant and to develop a capable production team to spearhead our
expansion. He has completed his mission and retired, but remains as a consultant
to the company.
Distribution of paper products from the paper converting plant
commenced in August 1997 under our own brand name, DF. These products are being
marketed primarily in Hong Kong and Southern China. In June 1998, we recruited a
20-year veteran of the converting business to be responsible for marketing jumbo
rolls, finished goods and our newly introduced away-from-home products to
overseas markets.
A used deinking plant for recycled pulp production was purchased in
Belgium, dismantled, shipped to
24
26
China in May 1996, and is planned to begin operations within eight months of
receipt of required funding of about US$5 million. This plant has output
capacity of approximately 90 metric tons per day. The targeted customers for
half of the recycled pulp production of this plant are located in the Pearl
River delta area, which is within eight miles of the mill and represents current
annual customer demand exceeding 800,000 metric tons.
We will invest a total of approximately US$11.1 million before the
investment loss described earlier for the deinking and paper-making plants, both
of which will be 100% owned by us.
PAPER MILL NO. 2. We expect to invest a total of approximately US$13 million, in
Paper Mill No. 2 in the city of Jiangyin in Jiangsu Province, 90 minutes west of
Shanghai, China. Paper Mill No. 2 was originally owned by a Sino-foreign equity
joint venture of our company, Jiangsu Huaxi Holdings Corporation and Broadsino
Investment Company Ltd., as described under Item 2.
Originally, the Chinese partners were to contribute a
12,000-kilowatt-hour, coal-fired, power plant for their 40% interest in the
joint venture. However, there is now an adequate supply of electricity in the
area where the factory is situated, and negotiations to exclude the power plant
in the joint venture were completed in July 1999. We believe we are in a
position to develop and operate the factory on the strength of our own
management.
On July 20, 1999, DF Paper Jiangsu Ltd ("DFPJ") (formerly known as
"Dransfield Broadsino Paper Holdings Limited") entered into an agreement with
Jiangsu Huaxi Holdings Corporation ("Jiangsu Huaxi"), the PRC joint venture
partner of Jiang Su Dransfield Paper Co. Ltd ("Jiang Su").
It was agreed that Jiangsu Huaxi give up the rights to invest and gain
a 40% equity interest in Jiang Su as originally stated in the joint venture
agreement between DFPJ and Jiangsu Huaxi. Accordingly, Jiang Su became a
wholly-owned subsidiary of DFPJ and the registration status of Jiang Su was
changed from a Sino-foreign equity joint venture company to a wholly-owned
foreign enterprise on October 14, 1999.
In the current year, the Company entered into an agreement with
Bonnaire whereby Bonnaire assigned its rights, title, interest and benefit to/in
the HK$14.4 million loan to Company and transferred all its beneficial interest
in the shares of DFPJ to the Company in full, and settled all amounts due from
Bonnaire to the Company in respect of the HK$14.4 million loan in full.
Accordingly, DFPJ became a wholly owned subsidiary of the Company.
The converting facility at Paper Mill No. 2 in Huaxi, Jiangsu Province,
was commissioned in July 1999 and is now in test production. Pending completion
of our own recycled pulp production and paper making plant, we will be obtaining
an interim supply of medium- and low-grade tissue paper for our converting
facility from overseas.
To start off with, we estimate that we will use less than half of the
120-metric-tons-per-day of recycled pulp produced in Paper Mill No. 2's own
tissue paper plant. Until we need it for our own finished products, we will sell
more than half of the production to other paper mills in Jiangsu and Zhejiang
Provinces, which have an annual demand of 1,400,000 metric tons.
25
27
Subject to funding, we expect to complete the de-inking facility in 5
months, and complete the paper-making operations four months after that.
Included in our funding plan is approximately HK$8 million (US$1.05 million)
payable by installments in settlement of land for the paper mill purchased from
our landlord.
PAPER MILLS NO. 3 AND 4. Eventually we plan to assemble and operate two
additional integrated paper mills - that is, plants for recycled pulp
production, paper making, and paper conversion - one in northern China in the
Tianjin area, and the other in western China in the Sichuan Province. These two
paper mills will be installed after the first two mills, now under construction,
are operational. Subject to funding and satisfactory operation of Mills No. 1
and 2, our plans envision the commencement of full operations at Paper Mills No.
3 and 4 by the last quarter of fiscal 2004. Considerable equipment has already
been acquired for the paper-making and conversion plants for Paper Mills No. 3
and No. 4.
As stated earlier, our plans include recycling waste paper into pulp,
which is different from China's current norm of importing virgin fiber. The
following table shows the present annual demand for recycled pulp and jumbo
rolls, in the areas to be served by our four planned paper mills, and the
expected annual production of our mills:
<Table>
<Caption>
The Company's
Planned
Maximum
Potential Production
Demand (Recycled Pulp)
Phase I Province/City (Metric Tons) (Metric Tons)
------- ------------- ------------- -------------
No. 1 Guangdong Province 861,022 60,000
No. 2 Jiangsu Province 767,050 72,000
No. 2 Zhejiang Province 679,100
No. 2 Shanghai Municipality 234,547
---------- -------------
Total 2,541,719 132,000
</Table>
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<Table>
<Caption>
The Company's
Planned
Maximum
Potential Production
Demand (Recycled Pulp)
Phase II Province/City (Metric Tons) (Metric Tons)
------- ------------- ------------- -------------
No. 3 Tianjin Municipality 221,400 60,000
No. 3 Beijing Municipality 101,000
No. 3 Heibei Province 128,000
No. 4 Sichuan Province 238,750 60,000
------------- -------------
Total 689,150 120,000
</Table>
Our planned production represents only 4% of the annual requirements of
the targeted markets before considering demand growth from each of the regions.
Over recent years, virgin pulp prices have ranged from US$390 to US$960
a metric ton. U.S. office waste paper prices have ranged from US$20 to US$250 a
metric ton. For example, prices in April 1999 were US$510 (cost and freight from
U.S. West Coast to China) for virgin pulp plus 1% duty, compared with US$110
(cost, freight and duty) for office waste paper. Recycling costs in China are
estimated to average US$200 per metric ton and not to exceed US$250 per ton.
There is little market-recycled fiber in China, and what there is sell at prices
5 to 10% lower than virgin fiber prices.
With reference to virgin pulp and office waste paper price volatility,
the table below suggests, pro forma, how our planned integrated facilities would
dampen the effects of price volatility with respect to profit margins:
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29
<Table>
<Caption>
(US$ per Metric Ton)
March
1996 1997 1998 1999 2000 2001
---------- ---------- ---------- ---------- ---------- ----------
1. Virgin Pulp Cost $ 390 $ 520 $ 500 $ 510 $ 640 $ 620
2. Secondary Fiber
-Raw Material
(Office Waste) $ 20-70 $ 30-100 $ 30-100 $ 30-100 $ 50-150 $ 50-150
-Freight Cost 80 50 35 35 25 25
-Processing Cost
(Average) 200 200 200 200 200 200
---------- ---------- ---------- ---------- ---------- ----------
$ 300-350 $ 280-350 $ 265-335 $ 265-335 $ 275-375 $ 275-375
3. Profit Margin
-Recycled Pulp(1) Low Medium Medium Medium Medium Medium
-Jumbo Roll(1) Low Medium Medium Medium Medium Medium
-Finished Products High Medium Medium Medium Medium Medium
</Table>
----------
(1) Until needed for our own production of consumer hygienic paper
products, approximately half of this production is planned to be
available for sale to other paper mills in China.
From mid-1994 through March 2001, virgin pulp prices have been most
volatile compared with the last 30 years.
MARKETING AND DISTRIBUTION.
This past year, we marketed our products both through distributors and
through our direct sales team. Selling through distributors and regular salesmen
exposed us to credit collection problems, which resulted in a HK$927,000
(US$119,000) total bad debt expense this past year. We therefore decided to
scale back to a smaller and more experienced sales management team, which has
significantly reduced such problems. Going forward, we shall recruit more sales
managers to handle sales and marketing for major customers. And for smaller
chains and shops, we will identify state-owned distributors that have
established distribution networks and sufficient working capital.
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E-COMMERCE PLATFORM
In 2000, we decided to establish a business-to-business (B2B)
e-commerce platform to increase penetration into China's domestic market and
bring cost-efficient delivery to our customers. Called DF Tradelink.com, Inc.,
the platform is a 50-50 joint venture with DFCT as a major shareholder,
Dransfield Holdings Limited. DF Tradelink.com, Inc.'s goal is to become a
dominant B2B marketplace for Chinese businesses dealing with one another in
China as well as with foreign buyers and sellers. The initial target customers
are China's grass roots retailers for whom a B2B platform can expand product
offerings and deliver cost savings.
In a related undertaking, DFCT is also participated in a joint venture
to create E-Net Box Inc., a company that will provide set-top boxes to access
the new B2B platform. A set-top box connects users with service providers via a
box placed on top of a television set; messages appear on a television screen.
E-Net Box has a number of innovative features and costs much less than a PC. A
five-year plan calls for placing more than one million set-top boxes in retail
outlets across China.
We recognize that initial volume in B2B e-commerce will be small. To
protect shareholders' interests, we have chosen an approach that is unique to
China, one that we expect will hasten the profitability of the venture. We will
use e-commerce in support of our conventional trading, not to replace it.
Instead of relying on transaction fees, we expect to generate income by charging
a fee for use of our set-top boxes and for technical information provided by us.
And in view of the current market environment on the high-tech industry and
DFCT's financial and management resources, we have temporarily put these
projects on hold.
OUR PRESENT POSTURE.
Our paper converting facility in Plant No. 1 is operational and is
making our own DF-branded products. We are producing five products for
distribution. The targeted mill output for each product is initially set as
follows:
<Table>
<Caption>
Product Approximate Percentage
------- ----------------------
Paper handkerchiefs 9%
Tissues 26%
Napkins 14%
Toilet rolls 40%
Away-from-home products 10%
</Table>
We anticipate that our gross margins will be greater than the margins
we received from distributing Proctor & Gamble's manufactured Tempo-brand paper
handkerchief. Further, we will be distributing five products, not one. The
equipment for Plant No. 2's paper converting facility was commissioned in July
1999 and is now in test production.
The company's future results of operations and the other
forward-looking statements contained in this outlook, in particular the
statements regarding expansion plans, capital spending, costs of office waste
paper and virgin fiber, and marketing, involve a number of risks and
uncertainties. In addition to the factors discussed above, among the other
factors that could cause actual results to differ materially are the following:
29
31
volatility of prices of office waste paper and virgin fibers, risk of nonpayment
of accounts receivable, inability of the company to obtain its necessary
capital, political instability in China, inflation, unforeseen competition,
weather, loss of personnel as a result of accident or for health reasons,
funding delays, supply interruption, currency fluctuation, market changes,
government interference, or change of laws.
ITEM 9A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS.
The only market risk to which we are exposed is foreign currency risk.
We trade in Renminbi, U.S. dollars and Hong Kong dollars. Both Renminbi and Hong
Kong dollars are effectively pegged to the U.S. dollar at, respectively,
approximately 8.32 and HK$7.8 to US$1. The table and narrative below describe
how we intend to manage foreign currency risk.
Chinese paper mills that import a substantial portion of raw materials,
notably wood fiber, are subject to foreign exchange risk in the event of a
decline in the Renminbi versus the U.S. dollar. Because wood fiber is traded on
the world market in U.S. dollars, a weakening of the local currency would raise
costs, which would normally be passed on to customers. We will set prices in
U.S. dollar equivalents for our market-recycled pulp, thereby protecting our
revenues against exchange rate fluctuations. Export sales will further help us
manage foreign currency risk by matching foreign currency expenses and with
foreign currency revenues. To that end, our experienced marketing staff will
focus on extending our sales efforts in neighboring Southeast Asian countries.
On the cost side, only about one-third of our costs to manufacture
market-recycled pulp are paid in U.S. dollars and are therefore subject to
exchange rate fluctuations. Our unique technical ability to combine imported
waste-paper fiber with local non-wood fiber to manufacture import-substitute
market-recycled pulp significantly decreases our dependence on imported raw
materials. Accordingly, the proportion of our costs subject to U.S. dollar
foreign exchange risk is substantially less than most mills that use 100%
imported raw materials (see table below).
There is no ready market in the PRC for our company to enter into
forward exchange rate swaps or other instruments designed to mitigate its
exposure to foreign currency risks. However, by establishing prices in U.S.
dollar equivalents, by building export sales, and by reducing the amount of raw
material costs we pay in U.S. dollars relative to our competitors, we will be
protecting ourselves against foreign currency risk, thereby improving our
competitiveness and margins.
TABLE SHOWING IMPACT OF CLOSE TO 50% DEVALUATION OF THE RENMINBI
<Table>
<Caption>
Exchange Before devaluation After devaluation Cost Difference
Rate US$1 = RMB 8.32 RMB 12.00 per metric ton
--------------------- --------------------- ---------------------
Our Mill Other Mills Our Mill Other Mills
-------- ----------- -------- -----------
Imported cost
per metric
ton, say US$ 150 US$ 400 US$ 150 US$ 400
</Table>
30
32
<Table>
Renminbi
Equivalent RMB1,248 RMB3,328 RMB1,800 RMB4,800
Our cost
advantage over RMB2,080 RMB3,000 RMB 920
competitors
US$ difference using the devalued exchange rate US$76
</Table>
ITEM 10. DIRECTORS AND OFFICERS OF THE COMPANY.
EXECUTIVE OFFICERS, DIRECTORS AND KEY PERSONNEL
Set forth below are the names, and terms of office of each of the
directors, executive officers and significant employees of the company and a
description of the business experience of each.
<Table>
<Caption>
Office
Held Term of
Person Office Since Office(1)
------ ------ ----- ---------
Horace YAO Yee Cheong, 55 Chairman Apr 1994 Apr 2002
and Chief Executive
Officer
Xuemin Wu, 48 Director and
Chief Operating Sept 2001 Apr 2002
Officer
Francis NG Ah Ba, 53 Director Jun 1998 Apr 2002
Kenneth MAK Kar Shun, 44 Director Apr 2000 Apr 2002
Thomas J. KENAN, 69 Director Mar 1997 Apr 2002
Kurt W. Krause, 56 Director Apr 1997 Apr 2002
Professor Li Chang, 43 Director Aug 2000 Apr 2002
Warren MA Kwok Hung, 43 Director Feb 1997 Oct 2000
Andy PANG Kwong Wah, 55 Director Jan 2000 Dec 2000
James MADISON, 51 General Manager May 1996 May 2000
of Pulp and Paper;
now a Consultant
</Table>
31
33
<Table>
<Caption>
Office
Held Term of
Person Office Since Office(1)
------ ------ ----- ---------
Manuel ALVAREZ, 65 General Manager Apr 1995 Dec 1999
of paper converting
operations; now a
Consultant
CHEN Shu Hen, 47 General Manager of Apr 1997 Apr 2002
Paper Mill No.1
JIA Yu Qiu, 37 Plant Manager Apr 1997 Apr 2002
</Table>
----------
(1) A director is subject to earlier removal, with or without cause, by the
shareholders and with cause by the other directors. Officers are
subject to earlier removal, with or without cause, by the directors.
EXECUTIVE DIRECTORS.
HORACE YAO YEE CHEONG. Mr. Yao spent 17 years with Arthur Young &
Company, international accountants, where he worked in accounting and business
advisory services and rose to managing partner covering Hong Kong and the PRC.
Mr. Yao's responsibilities include strategic planning and business development
of the Group. Mr. Yao holds a master of business administration degree from a
university in the U.S. and is a certified public accountant in the U.S.,
Australia and Hong Kong.
XUEMIN WU. Mr. Wu has over 20 years experience in running manufacturing
plants as well as service businesses in the Northern part of China. He is
particularly skillful in delicate people management and in dealing with complex
transactions involving Chinese state-owned enterprises. Mr. Wu has just been
appointed to be responsible for the overall administration and operating
management of the Group. He is a graduate of Nankai University and other
institutions of higher education in Tianjin city, PRC. His concentrations of
study in these institutions include engineering and international trade.
FRANCIS NG AH BA. Mr. Ng was a founder of Mearl Paper Industries Sdn.
Bhd., in Malaysia and has more than 20 years of experience in the paper
industry. He holds a diploma in Management Development from the ASEAN Institute
of Management in the Philippines.
KENNETH MAK KAR SHUN. Mr. Mak is Director of Research & Development of
E-Net Box Inc. He has over 20 years of experience in engineering and research
and development in Europe, Middle East and Asia. He holds a B.Sc. degree in
Electrical Engineering from University of Alberta, Canada.
32
34
NONEXECUTIVE DIRECTORS.
THOMAS J. KENAN. Mr. Kenan has 37 years experience as a practicing
attorney in the United States, primarily in securities, corporation, and
business reorganization law. He holds a master's of comparative laws degree from
New York University.
KURT W. KRAUSE. Mr. Krause is a founder and the president of Beverage
Marketing Company, Inc., a US-based company specializing in the food and
beverage industry. He has more than 30 years of experience in the industry,
having been national sales manager of Pabst Brewing Company and a consultant to
leading German breweries and American and Canadian spring water companies. He
holds a BA degree from the University of Nebraska.
PROFESSOR LI CHANG. Professor Li is a founder and the CEO of Tianjin 3D
Lab and Tianjin 3D Image Technique Co., Ltd. He has been involved in research
and development of 3D imaging technology for over 18 years. He holds 52 patents
and has received numerous international awards for his inventions. He is the
Director of Ph.D. Post Graduate Studies at the Civil Aviation University of
China, Vice Chairman of National Inventors Association and National Specialist
of Engineering and Technology. In 1998, he received an Inventor's Gold Medal
from the Chief Executive of Hong Kong Special Administrative Region.
SENIOR EXECUTIVES.
JAMES MADISON. Mr. Madison has more than 25 years experience in tissue
paper making and converting. He holds a bachelor of science degree in mechanical
engineering from a university in the U.S. Mr. Madison completed his initial
contract as general manager of pulp and paper with DFCT and continues as a
consultant to the company.
MANUEL ALVAREZ. Mr. Alvarez has more than 30 years experience in the
paper converting business in the U.S. Prior to joining the Group, he was the
Vice President of Production of a major paper company in the U.S. He joined DFCT
to develop capable production team to spearhead our expansion. He has completed
his mission and retired, but remains as a consultant to the company.
CHEN SHU HAN. Mr. Chen is General Manager of Paper Mill No. 1 (Xinhui,
Guangdong Province). Prior to joining our company, he was the General Manager of
Xinhui City Jiangyuan Trading Development Corporation. Mr. Chen graduated from
Jiangmen Wu-Yi University
JIA YU QIU. Mr. Jia is a Plant Manager for DFCT. He has worked in the
paper industry in China since completing his studies at Northwest Institute of
Light Industry. Most recently he was the General Manager for Yangzhou Zhonghua
Paper Co. Ltd.
33
35
ITEM 11. COMPENSATION OF DIRECTORS AND OFFICERS.
The directors and officers of our company received from it and its
subsidiaries an aggregate of US$50,770 in compensation in the last fiscal year
for their services in all capacities. There are no present plans, arrangements,
or understandings concerning any change in compensation for them. Our company
has no pension, retirement or similar benefits for directors and officers
pursuant to a plan contributed to by our company.
ITEM 12. OPTIONS TO PURCHASE SECURITIES FROM THE COMPANY.
WARRANTS. Our company has no outstanding warrants as of August 31,
2001.
STOCK OPTION PLAN. Our company has adopted a stock option plan ("the
Plan"), the major provisions of which Plan are as follows:
Nontransferable options may be granted by the directors to employees
and executive officers of our company. The options are for four-year terms but
may not be exercised during the first year. The exercise price for each option
shall be set by the directors but may not be less than 80 percent of the average
or closing price of our company's Common Stock during the five trading days
prior to the grant of the option or, if the Common Stock is not trading, not
less than the net book value per share of our company's Common Stock as
reflected in our company's most recent balance sheet. The total number of shares
of Common Stock which can be subject to the options at any time, both under this
plan and otherwise, shall not exceed 10 percent of the number of shares of
Common Stock then outstanding. No person can be granted options which, if fully
exercised, would result in that person's owning more than 25% of the outstanding
shares of Common Stock after such exercise.
The status of the Company's stock options as of March 31 is summarized
below:
<Table>
<Caption>
Number of Weighted Average
options Exercise Price
--------------- ----------------
Outstanding at March 31, 1998 and 1999 510,000 US$2.80
Granted 653,000 US$3.94
Exercised (248,850) US$2.80
Cancelled (31,000) US$2.80
Outstanding at March 31, 2000 883,150 US$3.64
Granted 1,825,500 US$1.36
Cancelled (1,482,500) US$3.95
Forfeited (426,650) US$1.87
Outstanding at March 31, 2001 799,500 US$0.82
=============== ===============
Options exercisable at:
March 31, 1999 255,000 US$2.80
March 31, 2000 112,650 US$2.80
March 31, 2001 -- --
=============== ===============
</Table>
34
36
On May 29, 2000, 30,000 stock options were granted by the Company to
certain directors and employees of the Company. On June 20, 2000, the board of
directors invited the grantees of share options issued between January to May
2000 to surrender their share options by June 30, 2000 in exchange for the same
number of stock options at an exercise price of US$1.75 per share, being the
market closing price of the Company's shares on June 19, 2000. All stock options
were surrendered and exchanged for new stock options on June 30, 2000.
On December 1, 2000, 313,000 stock options were granted by the Company
to certain directors and employees of the Company. On March 1, 2001, the board
of directors invited the grantees of all outstanding stock options to surrender
their share options at an exercise price of US$0.82 per share, being the average
of the closing prices of the Company's shares for the five trading days
immediately preceding March 1, 2001. All stock options were surrendered and
exchanged for new stock options on March 1, 2001.
A summary of information about the Company's stock options outstanding
at March 31, 2001 is as follows:
<Table>
<Caption>
No. of options Weighted average
Outstanding at remaining Weighted average
Exercisable period Exercise price March 31, 2001 contractual life exercise price
------------------ -------------- -------------- ---------------- ----------------
March 2, 2002 to
April 2, 2003 US$ 0.82 799,500 2 years US$ 0.82
</Table>
ITEM 13. INTEREST OF MANAGEMENT IN CERTAIN TRANSACTIONS.
Since the inception of the company's predecessor, Dransfield Paper, in
March 1994, and since the merger on February 26, 1997, between Dransfield Paper
and the company, the company has had transactions with fellow subsidiary
companies (that is, companies that are subsidiaries of Dransfield Holdings
Limited) in which Mr. Horace Yao, chief executive officer and a director earlier
of Dransfield Paper and now of the company, had a direct or indirect interest as
a director or as a beneficial shareholder. The fellow subsidiary companies
provided accounting services, electronic data processing, and building lease and
management services, all at rates believed by the directors of Dransfield Paper
and now the company to be at approximately normal commercial rates. Such
arrangement ceased during the year ended March 31, 2000 except for the storage
and delivery service.
Similarly, the company and its predecessor have had, since April 1996,
and still have, transactions with Dransfield Trading Limited, a subsidiary of
Dransfield Holdings Limited which employs and accounts for the activities of the
sales personnel and for the distribution in Hong Kong and Macau not only of the
company's earlier-distributed Tempo products but of the consumer products
distributed by other business divisions of
35
37
Dransfield Holdings Limited (see "Business - General"). Under a new distribution
agreement, Dransfield Trading Limited is responsible for marketing and
administration of the sales of hygienic paper products. The company believes
that its use of Dransfield Trading Limited in this manner results in lower
distribution costs for a sales force. The company has continued to make use of
Dransfield Trading Limited for the sales and distribution of its own DF-branded
paper products, distribution of which products commenced in August 1997. Such
arrangement ceased during the year ended March 31, 1999, re-activated during the
year ended March 31, 2000 and ceased again during the year ended March 31, 2001.
RELATED PARTY TRANSACTIONS AND ARRANGEMENTS
The major related party transactions and arrangements are described below:
(a) Sales of products
The Group sold products to Dransfield Trading Limited ("DTL"), a
subsidiary of DHL, at cost plus 18% for the year ended March 31, 2000. Under
this arrangement, DTL is responsible for the marketing and distribution of the
Group's hygienic paper products. The mark-up was established based on the
margins achieved by DTL on sales to ultimate customers after taking into account
marketing and distribution costs incurred by DTL.
(b) Electronic data processing, accounting services and personnel and
administrative charges
In 1999, Dransfield Secretarial & Administrative Services Limited, a
subsidiary of DHL, provided various administrative services to the Group
including electronic data processing, accounting, shipping, personnel, legal and
general administrative services. The service fee charged by the then fellow
subsidiary was based on apportioned salary costs on the basis of estimated time
incurred and cost of other resources consumed to provide these services to the
Group. These services were terminated in April 1999 and no such fee was charged
since then.
(c) Storage and delivery charges
Prior to April 1, 1999, Victorison Logistics Limited, a subsidiary of
DHL, provided storage and delivery services to the Group. Commencing April 1,
1999, such services are provided to the Group by Dransfield Services Limited and
Dransfield Food and Beverage Limited, both are subsidiaries of DHL.
(d) Operating lease rental for land and building
The rental under operating leases was paid to Well Assessed Limited
("WAL"), a subsidiary of DHL, based on the actual floor area occupied by the
Group. Commencing August 1, 1998, WAL ceased the operating leases with the
Group.
ITEM 14. DESCRIPTION OF SECURITIES TO BE REGISTERED. Inapplicable.
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38
ITEM 15. DEFAULTS UPON SENIOR SECURITIES.
There has been no material default in the payment of principal,
interest, a sinking or purchase fund installment, or any other material default
not cured within 30 days, with respect to any indebtedness of the company or any
of its significant subsidiaries exceeding five percent of the total assets of
the company and its consolidated subsidiaries.
ITEM 16. CHANGES IN SECURITIES AND CHANGES IN SECURITY FOR REGISTERED
SECURITIES.
Information describing the registered securities of the company is
contained in a Form F-1 Registration Statement filed with the Securities and
Exchange Commission, Commission file number 333-11641. There are no material
modifications, limitations, or changes that have occurred with respect to such
information.
ITEM 17. FINANCIAL STATEMENTS.
<Table>
The financial statements of the Company appear as follows:
Report of Independent Auditors F-1
Consolidated Balance Sheets as of March 31, 2000 and
March 31, 2001 F-2
Consolidated Statements of Income for the years ended
March 31, 1999, March 31, 2000, and March 31, 2001 F-3
Consolidated Statements of Cash Flows for the years ended
March 31, 1999, March 31, 2000, and March 31, 2001 F-4
Consolidated Statements of Changes in Shareholders' Equity
for the years ended March 31, 1999, March 31, 2000,
and March 31, 2001 F-5
Notes to Consolidated Financial Statements F-7
</Table>
ITEM 18. FINANCIAL STATEMENTS.
We have elected to provide the financial statements and relevant
information specified in Item 17 in lieu of those specified in Item 18.
ITEM 19. FINANCIAL STATEMENTS AND EXHIBITS.
FINANCIAL STATEMENTS. See Item 17 for a list of all financial statements filed
as part of this annual report.
EXHIBITS. The following exhibits are filed as a part of this annual report:
Exhibit No.
-----------
1 Copies of all amendments or modifications, not previously filed, to all
exhibits previously filed.
None
37
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SIGNATURES
Pursuant to the requirements of Section 12 of the Securities Exchange
Act of 1934, the Registrant certifies that it meets all of the requirements for
filing on Form 20-F and has duly caused this annual report to be signed on its
behalf by the undersigned, thereunto duly authorized.
DF CHINA TECHNOLOGY INC.
Date: September 27, 2001
By /s/ Horace Yao Yee Cheong
----------------------------------
Horace Yao Yee Cheong,
Chief Executive Officer
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40
REPORT OF INDEPENDENT AUDITORS
To the Board of Directors and Shareholders
DF China Technology Inc.
(Incorporated in the British Virgin Islands with limited liability)
We have audited the accompanying consolidated balance sheets of DF
China Technology Inc. and subsidiaries (hereinafter aggregately referred as the
"Group") as of March 31, 2000 and 2001 and, the related statements of
operations, cash flows and changes in shareholders' equity for each of the three
years in the period ended March 31, 2001. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
the Group at March 31, 2000 and 2001, and the consolidated results of its
operations and its cash flows for each of the three years in the period ended
March 31, 2001, in conformity with accounting principles generally accepted in
the United States of America.
The accompanying financial statements have been prepared assuming the
Group will continue as a going concern. As more fully described in Note 1 to the
financial statements, the Group has incurred recurring operating losses and has
a working capital deficiency. These conditions raise substantial doubt about the
Group's ability to continue as a going concern. Management's plans in regard to
these matters are described in Note 1. The financial statements do not include
any adjustments to reflect the possible future effects on the recoverability and
classification of assets or on the amounts and classification of liabilities
that may result from the outcome of this uncertainty.
/s/ Ernst & Young
Ernst & Young
Hong Kong
September 5, 2001
F-1
41
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
as of March 31, 2000 and 2001
(Amounts in thousands, except number of shares and per share data)
<Table>
<Caption>
Notes 2000 2001 2001
HK$ HK$ US$
ASSETS
Current assets
Cash and cash equivalents 1,710 288 37
Accounts receivable, net of allowance
for doubtful debts of nil in 2000
and HK$585 in 2001 6 41 463 59
Inventories, net 7 2,147 1,174 151
Prepayments and other receivables 1,137 493 63
Tax recoverable 92 200 26
-------- -------- --------
Total current assets 5,127 2,618 336
Property, plant and equipment, net 9 200,909 143,332 18,375
Interest in an affiliate 8 -- 4,595 589
Loan to a related company 11 14,350 -- --
Deposits for property, plant and equipment, net 4,397 -- --
Other assets 200 200 26
-------- -------- --------
224,983 150,745 19,326
======== ======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities
Accounts payable 65 858 110
Accrued liabilities 1,291 2,119 271
Construction payable 2,579 2,579 331
Accrued rental payable -- 636 82
Due to shareholder 14 -- 4,943 634
-------- -------- --------
Total current liabilities 3,935 11,135 1,428
Loan from a related company 11 14,350 -- --
-------- -------- --------
18,285 11,135 1,428
Commitments 15
Shareholders' equity: 21
Common stock, no par value,
40,000,000 shares authorized;
19,916,218 issued (2000: 18,165,007) 225,001 241,920 31,014
Unpaid subscription receivable (3,835) -- --
-------- -------- --------
221,166 241,920 31,014
Contributed surplus 22 4,277 4,677 599
Accumulated deficit (18,745) (106,987) (13,715)
-------- -------- --------
Total shareholders' equity 206,698 139,610 17,898
-------- -------- --------
Total liabilities and shareholders' equity 224,983 150,745 19,326
======== ======== ========
</Table>
The accompanying notes form an integral part of these
consolidated financial statements.
F-2
42
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
for the years ended March 31, 1999, 2000 and 2001
(Amounts in thousands, except number of shares and per share data)
<Table>
<Caption>
Notes 1999 2000 2001 2001
HK$ HK$ HK$ US$
---- ---- ---- ----
Net sales:
Paper merchanting 4,812 597 1,849 237
Paper manufacturing
-third parties -- 373 7,494 961
-related parties 16 -- 532 -- --
------- ------- ------- -------
4,812 1,502 9,343 1,198
Cost of sales:
Paper merchanting (4,376) (583) (1,801) (231)
Paper manufacturing -- (989) (10,329) (1,324)
------- ------- ------- -------
(4,376) (1,572) (12,130) (1,555)
Gross profit/(loss) 436 (70) (2,787) (357)
Consulting services income -- 1,026 -- --
Selling, general and administrative expenses 3
- third parties (6,349) (7,605) (13,840) (1,774)
- related parties 16 (2,057) (436) (401) (51)
------- ------- ------- -------
(8,406) (8,041) (14,241) (1,825)
Interest income -- 41 -- --
Interest expense 12 (254) -- -- --
Other income, net -- 94 100 12
Foreign exchange losses, net (53) (18) (56) (7)
Provision for doubtful debts (820) -- (585) (75)
Bad debt expenses directly written off -- -- (342) (44)
Impairment losses of property, plant
and equipment 10 -- -- (61,990) (7,947)
Equity in loss of an affiliate 8 -- -- (8,341) (1,069)
------- ------- ------- -------
Loss before income taxes (9,097) (6,968) (88,242) (11,312)
Provision for income taxes (current): 5 9 -- -- --
------- ------- ------- -------
Net loss (9,088) (6,968) (88,242) (11,312)
======= ======= ======= =======
Basic and diluted net loss per share 2 (0.58) (0.43) (4.57) (0.59)
======= ======= ======= =======
</Table>
The accompanying notes form an integral part of these
consolidated financial statements.
F-3
43
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
for the years ended March 31, 1999, 2000 and 2001
(Amounts in thousands)
<Table>
<Caption>
1999 2000 2001 2001
HK$ HK$ HK$ US$
---- ---- ---- ----
Cash flows from operating activities:
Net loss (9,088) (6,968) (88,242) (11,312)
Adjustments to reconcile income to net
cash provided by operating activities:
Equity in loss of an affiliate -- -- 8,341 1,069
Depreciation 2,800 2,346 2,473 316
Impairment losses of property, plant and equipment -- -- 61,990 7,947
Gain on disposal of property, plant and equipment -- (68) -- --
Stock option compensation expense 939 624 400 51
Provision for doubtful debts/(doubtful debts written back) 820 (20) 585 75
Provision for inventory obsolescence -- 616 173 22
Changes in working capital:
Accounts receivable 9,413 409 (1,007) (129)
Inventories 1,106 (1,348) 800 103
Prepayments and other receivables 71 (274) 644 83
Tax recoverable (31) -- (108) (14)
Accounts payable 106 (506) 793 102
Accrued liabilities 308 (120) 828 106
Construction payable -- 2,579 -- --
Accrued rental payable -- -- 636 82
------- ------- ------- -------
Net cash provided/(used) by operating activities 6,444 (2,730) (11,694) (1,499)
------- ------- ------- -------
Cash flows from investing activities:
Acquisition of property, plant and equipment -- (2,408) (3,716) (476)
Payment of deposits for purchase of property,
plant and equipment (3,143) (4,397) -- --
Proceeds from disposal of property, plant and equipment -- 68 1,709 219
------- ------- ------- -------
Net cash used by investing activities (3,143) (6,737) (2,007) (257)
------- ------- ------- -------
Cash flows from financing activities:
New issue of common stock -- 7,666 3,501 449
Due to shareholder -- -- 4,943 634
Proceeds from subscription receivable -- -- 3,835 491
Issue of common stock on exercise of stock options -- 5,410 -- --
Repayment of loan to a former minority shareholder (31) (2,421) -- --
Repayment of loan to holding company (4,132) (681) -- --
------- ------- ------- -------
Net cash provided/(used) in financing activities (4,163) 9,974 12,279 1,574
------- ------- ------- -------
Net increase/(decrease) in cash and cash equivalents (862) 507 (1,422) (182)
Cash and cash equivalents, at beginning of year 2,065 1,203 1,710 219
------- ------- ------- -------
Cash and cash equivalents, at end of year 1,203 1,710 288 37
======= ======= ======= =======
</Table>
The accompanying notes form an integral part of these
consolidated financial statements.
F-4
44
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS'
EQUITY for the years ended March 31, 1999, 2000 and 2001
(Amounts in thousands, except number of shares and per share data)
<Table>
<Caption>
Unpaid
Common subscription Contributed Accumulated
stock receivable surplus deficit
HK$ HK$ HK$ HK$
------ ----------- ----------- -----------
Balance at April 1, 1998 153,584 -- 2,714 (2,689)
Stock compensation expense (notes 21 and 22) -- -- 939 --
Net loss -- -- -- (9,088)
------- ------- ------- -------
Balance at March 31, 1999 153,584 -- 3,653 (11,777)
New issue of 3,000 shares of common stock
at US$5 each on conversion of accrued 116 -- -- --
liabilities
New issue of 21,087 shares of common
stock at US$7 each on conversion
of amount due to holding company 1,144 -- -- --
New issue of 429,515 shares of common stock
at US$2.3 each to a former minority 7,666 -- -- --
shareholder
New issue of 8,623 shares of common stock
at US$2.3 each for construction costs incurred 154 -- -- --
New issue of 96,912 shares of common stock
at US$7 each for construction costs incurred 5,276 -- -- --
New issue of 103,022 shares of common stock
at US$7 each on conversion of holding
company's accounts payable 5,721 -- -- --
New issue of 248,850 shares of common stock
at US$2.8 each on exercise of stock options 5,410 -- -- --
New issue of 15,298 shares of common stock
at US$5.5 each for construction costs incurred 655 -- -- --
New issue of 1,653,700 shares of common
stock at US$3.51 each on conversion
of amount due to holding company 45,275 -- -- --
Stock compensation expense (notes 21 and 22) -- -- 624 --
Net loss -- -- -- (6,968)
Unpaid subscription receivable from shareholder -- (3,835) -- --
------- ------- ------- -------
Balance at March 31, 2000 225,001 (3,835) 4,277 (18,745)
------- ------- ------- -------
</Table>
F-5
45
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS'
EQUITY for the years ended March 31, 1999, 2000 and 2001
(Amounts in thousands, except number of shares and per share data)
<Table>
<Caption>
Unpaid
Common subscription Contributed Accumulated
stock receivable surplus deficit
HK$ HK$ HK$ HK$
------ ----------- ----------- -----------
New issue of 180,000 shares of common
stock at US$2.5 each to third party 3,501 -- -- --
New issue of 1,560,000 shares of common
stock at US$1.063 each for acquisition of
equity interest in an affiliate 12,936 -- -- --
New issue of 11,211 shares of common stock
at US$5.5 each for construction costs incurred 482 -- -- --
Stock compensation expenses (notes 21 and 22) -- -- 400 --
Net loss -- -- -- (88,242)
Settlement through current account with
shareholder (note 14) -- 3,835 -- --
-------- -------- -------- --------
Balance at March 31, 2001 241,920 -- 4,677 (106,987)
======== ======== ======== ========
</Table>
The accompanying notes form an integral part of these
consolidated financial statements.
F-6
46
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
1. ORGANIZATION AND BASIS OF PRESENTATION
(a) Organization
DF China Technology Inc., (the "Company") was incorporated in
the British Virgin Islands on June 24, 1996. Prior to June 30, 2000,
Dransfield Holdings Limited ("DHL"), a company incorporated in the
Cayman Islands and the shares of which are listed for trading on the
Hong Kong Stock Exchange, was the holding company of the Group. On that
date, 8,325,700 shares of the Company were distributed in specie by DHL
to its shareholders. Subsequent to that date, the Company became an
affiliate of DHL, as DHL currently holds 29.67% of the Company's issued
shares.
The Company and its subsidiaries (hereinafter aggregately
referred as the "Group") is principally engaged in two industry
segments of paper merchanting and paper manufacturing. Paper
merchanting is being operated in Hong Kong, Macau and other parts of
the People's Republic of China (the "PRC"). The manufacturing of
hygienic paper is being operated in the PRC. Intercompany balances and
transactions have been eliminated on consolidation.
(b) Going concern risk factors
The Group incurred a net loss of HK$88,242 (US$11,312) for the
year ended March 31, 2001, incurred cumulative losses from inception to
March 31, 2001, aggregating $106,987 (US$13,715), reported negative
cash flows from operations for the year ended March 31, 2001, of $2,916
(US$373) and had a deficiency in working capital of HK$8,517 (US$1,092)
as at that date. The Group's business strategy is taking longer to
accomplish and is proving to be more costly than originally
anticipated. Since its inception, the Group has been dependent on the
financial support of its shareholder, DHL. DHL is currently unable to
provide such support and is unlikely to be able to in the foreseeable
future. In addition, although amounts owed by the Group to DHL have no
stated repayment terms, circumstances could arise whereby DHL would
demand immediate payment.
The Group continues to explore a variety of alternatives for
increasing its sales and raising sufficient capital to fund its
operations. The Group has implemented a plan to decrease costs and
increase operating cash flow in an effort to remain viable.
Implementation of the Group's business strategy requires completion of
construction of its paper mills, which ceased during 2001 and, which
requires significant expenditures of capital. Management of the Group
is currently seeking alternative sources of financing to enable the
Group to resume construction of its paper mills.
There can be no assurance that the Group will be successful in
implementing these plans. The Group's financial statements do not
include any adjustments to reflect the possible future effects on the
recoverability and classification of assets or the amounts and
classification of liabilities that may result from the outcome of this
uncertainty.
F-7
47
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
1. ORGANIZATION AND BASIS OF PRESENTATION (continued)
(c) Basis of presentation
The consolidated financial statements were prepared in
accordance with accounting principles generally accepted in the United
States of America ("U.S. GAAP").
The financial information has been prepared in Hong Kong
dollars ("HK$"), the official currency of Hong Kong. Solely for the
convenience of the reader, the financial statements have been
translated into United States dollars ("US$") using rates prevailing on
March 31, 2001 which was US$1.00=HK$7.8003. No representation is made
that the Hong Kong dollar amounts could have been, or could be,
converted into United States dollars at that rate or any other certain
rate on March 31, 2001.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) Principles of consolidation
The consolidated financial statements include the accounts of
the Company and its greater-than-50%-owned subsidiaries. Investments in
affiliates in which the Company owns 20% to 50% and does not have a
controlling interest are accounted for using the equity method.
Investments in companies owned less than 20% are carried at cost. All
significant intercompany accounts and transactions have been eliminated
on consolidation.
(b) Inventories
Inventories comprising raw materials held for production and
goods held for resale, are stated at lower of cost, on a first-in,
first-out basis, or market value.
(c) Property, plant and equipment
Property, plant and equipment are stated at cost less
accumulated depreciation. Depreciation is computed using the
straight-line method over the assets' estimated economic useful life.
The principal annual rates used are as follows:
<Table>
Land and buildings held in the PRC Over the period of the land use rights
Buildings 4%
Leasehold improvements 20% or over the lease terms, whichever is shorter
Machinery and equipment 5%
Motor vehicles 20 - 25%
Furniture, fixtures and office equipment 20%
</Table>
(d) Income taxes
Income taxes, if any, are accounted for under Statement of
Financial Accounting Standards No. 109, "Accounting for Income Taxes",
which requires the use of the liability method of accounting for income
taxes. The liability method measures deferred income taxes by applying
enacted statutory rates in effect at the balance sheet date to the
differences between the tax bases of assets and liabilities and their
reported amounts in the financial statements.
F-8
48
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
(e) Impairment of long-lived assets
The Group periodically evaluates the carrying value of
long-lived assets in relation to the future undiscounted cash flows of
the underlying businesses to assess recoverability in accordance with
Statement of Financial Accounting Standards No. 121, "Accounting for
the Impairment of Long-Lived Assets and for Long-Lived Assets to be
Disposed Of" ("SFAS 121"). Under SFAS 121, an impairment loss is
recognized if the sum of the expected cash flows is less than the
carrying amount of long-lived assets being evaluated. The difference
between the carrying amount of long-lived assets being evaluated and
the estimated fair market value of the assets represents the impairment
loss.
(f) Foreign currency translation
Foreign currency transactions are translated into Hong Kong
dollars at the applicable rates of exchange ruling at the transaction
dates. Monetary assets and liabilities denominated in foreign
currencies at the balance sheet date are translated into Hong Kong
dollars at the applicable rates of exchange ruling at that date.
Exchange differences are accounted for in the statements of operations.
(g) Operating leases
Leases where substantially all the rewards and risks of
ownership of assets remain with the leasing company are accounted for
as operating leases. Rentals applicable to such operating leases are
charged to income on the straight-line basis over the lease terms.
(h) Revenue recognition
Revenue from sales of goods are recognized on delivery to and
upon acceptance by customers, when collectibility of the sales price is
reasonably assured. Consulting services income is recognized as the
services are provided.
(i) Advertising expenses
Advertising expenses, net of cooperative advertising
reimbursements, are charged to the statements of operations when
incurred.
(j) Use of estimates
The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make
estimates and assumptions that affect amounts reported in the financial
statements and accompanying notes. Actual results could differ from
stated estimates.
F-9
49
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
(k) Employee stock plans
The Group has elected to follow Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25")
and related interpretations in accounting for its employee stock
options. Under APB 25, the excess of fair market value of the
underlying stock on the date of grant over the exercise price of
employee stock options is expensed and is credited to contributed
surplus. For disclosure purposes, pro-forma information in accordance
with Statement of Financial Accounting Standards No. 123 "Accounting
for Stock-Based Compensation" has been included in note 21 to the
consolidated financial statements.
(l) Basic and diluted net loss per share
Basic net loss per share is computed using the weighted
average number of common shares outstanding during the periods. Diluted
net loss per share is computed using the weighted average number of
common and potentially dilutive common shares during the periods,
except those that are antidilutive.
The basic net loss per share for the years ended March 31,
1999, 2000 and 2001 were computed by dividing net loss applicable to
common stock by the weighted average number of 15,585,000, 16,073,338
and 19,294,816 shares of common stock, respectively.
The amounts of diluted net loss per share for each of the
years ended March 31, 1999, 2000 and 2001 are the same as those of
basic net loss per share, as the Company's stock options outstanding
during each of these years had anti-dilutive effect on the basic net
loss per share.
<Table>
<Caption>
Year ended
March 31,
2001
HK$
---------
Numerator for basic and diluted loss per share:
Net loss (88,242)
==========
Denominator for basic and diluted loss per share:
Weighted average number of shares 19,294,816
==========
Basic and diluted loss per share 4.57
==========
</Table>
(m) Cash and cash equivalents
The Group considers all highly liquid investments with a
maturity of three months or less when purchased to be cash equivalents.
None of the Group's cash is restricted as to withdrawal or use.
F-10
50
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
(n) Interest in an affiliate
The Group's investment in an affiliate for which its ownership
exceeds 20%, but which is not majority-owned or controlled, is
accounted for using the equity method.
3. SUPPLEMENTARY INCOME STATEMENT INFORMATION
<Table>
<Caption>
Year ended March 31,
1999 2000 2001 2001
HK$ HK$ HK$ US$
--- --- --- ---
Selling, general and administrative expenses:
Depreciation 2,800 1,848 978 125
Advertising expenses - 25 10 1
Operating lease rentals - - 667 86
Consultancy expenses - - 1,583 203
==== ====== ===== =====
</Table>
F-11
51
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
4. SUPPLEMENTAL CASH FLOW INFORMATION
<Table>
<Caption>
Year ended March 31,
1999 2000 2001 2001
HK$ HK$ HK$ US$
---- ---- ---- ----
Cash paid during the year for:
Interest 2,741 2,642 1 1
Income taxes 22 -- -- --
====== ====== ====== ======
Non cash investing and financing activities:
Property, plant and equipment contributed
by holding company 8,959 4,977 -- --
Issuance of common stock for
construction costs incurred during
the year -- 6,085 482 62
Issuance of common stock on
conversion of accrued liabilities -- 116 -- --
Issuance of common stock on
conversion of holding company's
accounts payable -- 5,721 -- --
Issuance of common stock on
conversion of amount due
to holding company -- 46,419 -- --
Issuance of common stock for
acquisition of equity interest in
an affiliate -- -- 12,936 1,658
====== ====== ====== ======
</Table>
F-12
52
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
5. INCOME TAXES
The Company was incorporated in the British Virgin Islands
and, under current law of the British Virgin Islands, is not subject to
tax on income or on capital gains.
Grandom Dransfield (International) and Company Limited ("GDI")
and Dransfield Paper (HK) Trading Limited ("DPT"), wholly-owned
subsidiaries of the Group, were incorporated in Hong Kong and under the
current Hong Kong tax law, any income arising in and deriving from
business carried on in Hong Kong is subject to Hong Kong tax. No tax is
charged on dividends received and capital gains earned.
Guangzhou Dransfield Paper Limited, an co-operative joint
venture formed in the PRC in which the Group has 100% interest, and
Jiangsu Dransfield Paper Co. Ltd. ("JSDP") and Guangdong Dransfield
Paper Limited, wholly-foreign-owned enterprises formed in the PRC in
which the Group has an 100% interest (2000 : 80% and 1999 : 48%
effective interest for JSDP), are subject to PRC income taxes at the
applicable tax rate of 33% for Sino-foreign joint venture enterprises.
Each of these three joint ventures are eligible for full exemption from
joint venture income tax for the first two years starting from its
first profitable year of operations followed by a 50% deduction from
the third to fifth year. Under the Income Tax Law applicable to
Sino-foreign joint ventures, no PRC income tax was levied on the above
companies as they have either not yet commenced operation as at March
31, 2001 or did not generate assessable profits for each of the three
years ended March 31, 2001.
The impairment losses of long-lived assets did not constitute
a timing difference and, consequently, the amount of potential deferred
tax thereon has not been quantified.
Total income tax credit differs from the amount computed by
applying Hong Kong statutory income tax rate of 16% (2000 and 1999:
16%) to loss before taxes as follows:
<Table>
<Caption>
Year ended March 31,
1999 2000 2001 2001
HK$ HK$ HK$ US$
---- ---- ---- ----
Computed expected income tax credit 1,455 1,115 14,119 1,810
Non-deductible losses of the Company and subsidiaries (811) (933) (2,360) (303)
Impairment loss of property, plant and equipment -- -- (9,918) (1,271)
Equity in loss of an affiliate 9 -- (1,334) (171)
Valuation allowance (644) (182) (507) (65)
------ ------- ------ ------
Tax credit for the year 9 -- -- --
====== ======= ====== ======
Deferred tax asset is comprised the following:
1999 2000 2001 2001
HK$ HK$ HK$ US$
--- --- --- ---
Tax losses carried forward 1,292 1,474 1,981 254
Valuation allowance (1,292) (1,474) (1,981) (254)
------ ------- ------ ------
-- -- -- --
====== ====== ====== ======
</Table>
F-13
53
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
5. INCOME TAXES (continued)
Due to its history of losses, the Group does not believe that
sufficient objective, positive evidence currently exists to conclude
that recoverability of its net deferred tax assets is more likely than
not. Consequently, the Group has provided a valuation allowance
covering 100% of its net deferred tax assets.
As at March 31, 2001, the Group has Hong Kong net operating
loss carry forward of approximately HK$12,379 (US$1,587). Currently,
the net operating loss can be carried forward indefinitely.
6. ACCOUNTS RECEIVABLE, NET
Accounts receivable are comprised of:
<Table>
<Caption>
Year ended March 31,
1999 2000 2001 2001
HK$ HK$ HK$ US$
--- --- ---- ----
Accounts receivable - trade 1,600 41 1,048 134
Less: Allowance for doubtful debts (1,170) -- (585) (75)
------ ------ ------ ------
Accounts receivable, net 430 41 463 59
====== ====== ====== ======
Movement of allowance for doubtful debts:
Balance as at April 1 350 1,170 -- --
Provided/(written back) during the year 820 (20) 585 75
Written off during the year -- (1,150) -- --
------ ------ ------ ------
Balance as at March 31 1,170 -- 585 75
====== ====== ====== ======
</Table>
F-14
54
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
7. INVENTORIES, NET
Inventories are comprised of:
<Table>
<Caption>
Year ended March 31,
1999 2000 2001 2001
HK$ HK$ HK$ US$
---- ---- ---- ----
Raw materials 814 1,470 1,672 214
Work in progress -- 83 -- --
Finished goods 1,106 1,715 796 103
Less: Allowance for obsolescence and
net realizable value (505) (1,121) (1,294) (166)
----- ------ ------ ------
Inventories, net 1,415 2,147 1,174 151
===== ====== ====== ======
Movement of allowance for obsolescence
and net realizable value
Balance as at April 1 1,103 505 1,121 144
Provided during the year - 699 173 22
Deduction during the year (598) (83) -- --
----- ------ ------ ------
Balance as at March 31 505 1,121 1,294 166
===== ====== ====== ======
</Table>
8. INTEREST IN AN AFFILIATE
On August 8, 2000, the Group entered into an agreement with a
third party whereby the Group agreed to acquire 26% equity interest in
Tianjin 3D Image Technique Company Limited ("TJ3D") for a consideration
of 1,560,000 shares of the Company's common stock valued at HK$12,936
(US$1,658) based upon the closing price of the Company's common stock
on August 8, 2000.
TJ3D is engaged in production and distribution of
three-dimensional visual products, which were developed by Professor Li
Chang, an executive director of the Company, and his team. Professor Li
was appointed as a director of DFCT on August 16, 2000 subsequent to
the acquisition of TJ3D.
This investment is accounted for using the equity method. The
Group's proportionate share of the affiliate's net loss in 2001
amounted to HK$327 (US$42). At the date of the investment, the excess
of the Group's investment over the Group's underlying equity in the net
assets of the affiliate was HK$11,744 (US$1,505); this amount is being
amortized over three years. At March 31, 2001, the Group's underlying
equity in the net assets of the affiliate was HK$865 (US$111) compared
to a carrying amount of the investment of HK$12,936 (US$1,658). The
affiliate did not achieve the profitability target established prior to
acquisition by a significant margin. Due to changes in market
conditions, management believes that the investment's impairment is
other than temporary based on an analysis of discounted cash flows.
Accordingly, an impairment loss of HK$5,483 (US$703) was recorded in
2001. The impairment loss and the amortization of excess of carrying
value over equity in net assets are recorded in the statement of
operations in equity in loss of affiliate.
F-15
55
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
9. PROPERTY, PLANT AND EQUIPMENT
<Table>
<Caption>
March 31,
2000 2001 2001
HK$ HK$ US$
---- ---- ---
Land and buildings 57,569 17,000 2,179
Leasehold improvements 224 224 29
Machinery and equipment 145,071 124,460 15,956
Motor vehicles 822 821 105
Furniture, fixtures and office equipment 4,015 4,233 543
------- -------- --------
207,701 146,738 18,812
Less: Accumulated depreciation (6,792) (3,406) (437)
------- -------- --------
200,909 143,332 18,375
======= ======== ========
</Table>
The Group's land and buildings are located in the PRC and held
under land use rights of 50 years from December 1, 1992 to November 30,
2041.
No depreciation was provided on the land and buildings and
machinery and equipment which were under construction at March 31,
2001. During the year ended March 31, 2001, all these assets were
written down to amounts supported by professional valuation prepared on
a continuing use basis to account for the impairment losses (see note
10 below). The carrying value of the assets which were under
construction at March 31, 2001 amounted to HK$111,715 (US$14,322)
(2000: HK$156,460).
F-16
56
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
10. IMPAIRMENT OF LONG-LIVED ASSETS
During the year, as a result of inadequate funding of the
Group, the management anticipated that the revenue generated from
certain paper mills would be below expectations due to prolonged delay
in completion or temporary suspension of construction of paper mills in
Xinhui, Guangdong Province and in Huaxi, Jiangsu Province, the PRC.
This served as an indication that the carrying values of the property,
plant and equipment of paper manufacturing division which are held for
future use, would exceed the undiscounted future cash flows expected to
be generated from these property, plant and equipment. The Group, after
taking advice from professional valuers, recognized an impairment loss
of HK$61,990 (US$7,947) for the year ended March 31, 2001.
The following is a summary of the impairment loss of property,
plant and machinery by category for the year ended March 31, 2001 (in
thousands):
<Table>
<Caption>
Leasehold land Machinery
and buildings and equipment
-------------- -------------
US$ HK$ US$ HK$
Paper manufacturing 1,776 13,854 6,171 48,136
====== ======= ====== =======
</Table>
11. LOANS WITH A RELATED COMPANY
In May 1995, the Company entered into an agreement with a
third party, Broadsino Investment Company Limited ("Broadsino"), to
establish DF Paper Jiangsu Ltd ("DFPJ") (formerly known as "Dransfield
Broadsino Paper Holdings Limited"), a company which was 80% owned by
the Group. DFPJ then entered into an agreement to establish a
Sino-foreign equity joint venture company, JSDP, which was 60% owned by
DFPJ and was principally engaged in paper manufacturing. DFPJ has
committed to contribute an amount of HK$72,000 to JSDP, to be financed
by a shareholders' loan. During the year ended March 31, 2000, JSDP
became a wholly-owned subsidiary of DFPJ as a result of changes in the
agreement with the PRC joint venture partner. Accordingly, the
registration status of JSDP was changed from a Sino-foreign equity
joint venture company to a wholly-owned foreign enterprise on October
14, 1999. Further details are set out in note 13 (a).
F-17
57
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
11. LOANS WITH A RELATED COMPANY (continued)
The Company, DFPJ and Broadsino entered into a loan agreement
in 1995 whereby the Company and Broadsino agreed to make an
interest-free shareholders' loan of HK$72,000 (the "Shareholders'
Loan") to DFPJ. Pursuant to another agreement, the Company agreed to
make a loan of HK$14,000 to Broadsino, bearing compound interest at the
rate of 6 percent per annum, to finance its share of the Shareholders'
Loan to DFPJ. DFPJ has pledged all its assets with the Company and
Broadsino for the repayment in full of the Shareholders' Loan. In
addition, DFPJ also undertakes to apply any amounts, including
dividends, which may be distributed by JSDP to it to repay, in full,
the Shareholders' Loan. Broadsino has pledged both its 20 per cent
shareholding in DFPJ and any amount it may receive from DFPJ as
repayment of its proportion of the Shareholders' Loan to secure the
repayment, in full, of the loan from the Company.
By two deeds of novation both dated May 23, 1995, Broadsino
transferred all its obligations and assigned all its rights and
benefits under the joint venture agreement and the loan agreement to
its wholly owned subsidiary, Bonnaire International Limited
("Bonnaire"). Accordingly, DFPJ is indebted to Bonnaire in an aggregate
sum of HK$14,350 and Bonnaire is indebted to the Company in an
aggregate sum of HK$14,350. A promissory note has been issued by
Bonnaire in favor of the Company.
As at March 31, 2000, the Company advanced HK$14,350 to
Bonnaire for the capital injection in DFPJ and then in JSDP, which is
classified as a loan to a related company. The same amount of HK$14,350
is recorded in the consolidated financial statements as long term loan
payable to Bonnaire by DFPJ. The loan to and loan from a related
company have no fixed repayment terms.
During the year ended March 31, 2001, the Company entered into
a settlement agreement with Bonnaire whereby Bonnaire assigned its
right, title, interest and benefit to/in the HK$14,350 loan; and
transferred all its beneficial interest in the shares of DFPJ to the
Company; and settled in full of all amounts due from Bonnaire to the
Company in respect of the HK$14,350 loan.
F-18
58
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
12. INTEREST EXPENSE
Interest expense on borrowings, net of the amounts
capitalized, is as follows:
<Table>
<Caption>
Year ended March 31,
1999 2000 2001 2001
HK$ HK$ HK$ US$
---------- ---------- ---------- ----------
Interest incurred 2,741 2,642 -- --
Interest capitalized (2,487) (2,642) -- --
---------- ---------- ---------- ----------
Interest expense 254 -- -- --
========== ========== ========== ==========
</Table>
During the year ended March 31, 2000 and 1999, the interest
rates on borrowings ranged from 9% to 10.25% and 5.75% to 10.25% per
annum, respectively.
13. ACQUISITION
(a) On July 20, 1999, DFPJ entered into an agreement with Jiangsu Huaxi
Holdings Corporation ("Jiangsu Huaxi"), the PRC joint venture partner
of JSDP.
It was agreed that Jiangsu Huaxi gave up the rights to invest
40% equity interest in JSDP as originally stated in the joint venture
agreement entered into between DFPJ and Jiangsu Huaxi. Accordingly,
JSDP became a wholly-owned subsidiary of DFPJ and the registration
status of JSDP was changed from a Sino-foreign equity joint venture
company to a wholly-owned foreign enterprise on October 14, 1999.
(b) In 2001, the Company entered into an agreement with Bonnaire
whereby Bonnaire assigned its rights, title, interest and benefit to/in
the HK$14,350 loan to the Company and transferred all its beneficial
interest in the shares of DFPJ to the Company in full, and settled all
amounts due from Bonnaire to the Company in respect of the HK$14,350
loan in full. Accordingly, DFPJ became a wholly owned subsidiary of the
Company. No gain or loss arisen from this transaction.
(c) On August 8, 2000, the Group entered into an agreement with a third
party whereby the Group agreed to acquire 26% equity interests in
Tianjin 3D Image Technique Company Limited ("TJ3D") for a consideration
of 1,560,000 shares of the Company's common stock valued at HK$12,936
(US$1,658) based upon the closing price of the Company's common stock
on August 8, 2000.
TJ3D is engaged in production and distribution of
three-dimensional visual products, which were developed by Professor Li
Chang, an executive director of the Company, and his team. Professor Li
was appointed as a director of DFCT on 16 August 2000 subsequent to the
acquisition of TJ3D.
F-19
59
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
14. DUE TO SHAREHOLDER
The balance due to DHL as of March 31, 2001 represents amounts due for
expenses paid by DHL on the Group's behalf. The balance is unsecured,
interest-free and has no fixed terms of repayment (see note 1).
15. COMMITMENTS
Capital commitment
As of March 31, 2001, the Group had outstanding capital commitments as
follows:
<Table>
<Caption>
Year ended March 31,
1999 2000 2001 2001
HK$ HK$ HK$ US$
----- ------ ------ ------
Property, plant and equipment - 9,116 18,303 2,346
===== ====== ====== ======
</Table>
Operating lease commitment
The Group leases a property under a non-cancelable lease arrangement,
which will expire in year 2006, on a fixed rental charge basis. As of
March 31, 2001, the Group had future minimum rental lease payments
under the non-cancelable operating lease as follows:
<Table>
<Caption>
Year ending March 31: US$ HK$
2002 754 97
2003 754 97
2004 754 97
2005 754 97
2006 314 40
----- ------
3,330 428
===== ======
</Table>
F-20
60
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
16. RELATED PARTY TRANSACTIONS AND ARRANGEMENTS
The major related party transactions are described in further
details below. Management believes that the methods used in allocating
costs are reasonable.
<Table>
<Caption>
Year ended March 31,
Nature of transactions Notes 1999 2000 2001 2001
HK$ HK$ HK$ US$
------ ------ ----- ------
Revenue:
Sales of products (a) -- 532 -- --
====== ======= ===== ======
Expenses:
Electronic data processing, accounting
services and personnel and
administrative charges (b) 1,447 -- -- --
Storage and delivery charges (c) 541 436 401 51
Operating lease rental for land
and buildings (d) 69 -- -- --
------ ------ ----- ------
2,057 436 401 51
====== ====== ===== ======
</Table>
(a) Sales of products
The Group sold products to Dransfield Trading Limited ("DTL"),
a subsidiary of DHL, at cost plus 18% for the year ended March 31,
2000. Under this arrangement, DTL is responsible for the marketing and
distribution of the Group's hygienic paper products. The mark-up was
established based on the margins achieved by DTL on sales to ultimate
customers after taking into account marketing and distribution costs
incurred by DTL.
(b) Electronic data processing, accounting services and personnel
and administrative charges
In prior years, Dransfield Secretarial & Administrative
Services Limited, a subsidiary of DHL, provided various administrative
services to the Group including electronic data processing, accounting,
shipping, personnel, legal and general administrative services. The
service fee charged by the then fellow subsidiary was based on
apportioned salary costs on the basis of estimated time incurred and
cost of other resources consumed to provide these services to the
Group. These services were terminated in April 1999 and no such fee was
charged since then.
F-21
61
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
16. RELATED PARTY TRANSACTIONS AND ARRANGEMENTS (continued)
(c) Storage and delivery charges
Prior to April 1, 1999, Victorison Logistics Limited, a
subsidiary of DHL, provided storage and delivery services to the Group.
Commencing April 1, 1999, such services are provided to the Group by
Dransfield Services Limited and Dransfield Food and Beverage Limited,
both are subsidiaries of DHL.
(d) Operating lease rental for land and building
The rental under operating leases was paid to Well Assessed
Limited ("WAL"), a subsidiary of DHL, based on the actual floor area
occupied by the Group. Commencing August 1, 1998, WAL ceased the
operating leases with the Group.
17. FINANCIAL INSTRUMENTS
The carrying amount of the Group's cash and cash equivalents
approximate their fair value because of the short maturity of those
instruments. The carrying amounts of the Group's borrowings approximate
their fair value based on the borrowing rates currently available for
borrowings with similar terms and average maturities, except for the
loans from related parties, which, due to their nature, the fair value
was not determinable.
The carrying amount reported in the balance sheet for accounts
receivable and accounts payable approximate their fair value.
18. CONCENTRATION OF RISK
Concentration of credit risk:
The Group's principal activities are manufacturing and
distribution of paper products. The Group has long standing
relationships with most of its customers. The Group performs ongoing
credit evaluation of its customers' financial conditions and, generally
does not require collateral.
The allowance for doubtful accounts that the Group maintains
is based upon the expected collectibility of all accounts receivable.
Current vulnerability due to certain concentrations:
The Group has investments in the PRC. The value of the Group's
investment may be adversely affected by significant political, economic
and social uncertainties in the PRC. Although the PRC government has
been pursuing economic reform policies for the past several years, no
assurance can be given that the PRC government will continue to pursue
such policies or that such policies may not be significantly altered,
especially in the event of a change in leadership, social or political
disruption or unforeseen circumstances affecting the PRC's political,
economic and social life. There is also no guarantee that the PRC
government's pursuit of economic reforms will be consistent or
effective.
F-22
62
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
18. CONCENTRATION OF RISK (continued)
Some of the Company's business is transacted in Renminbi
("RMB"), which is not freely convertible into foreign currencies. On
January 1, 1994, the PRC government abolished the dual rate system and
introduced a single rate of exchange as quoted daily by the People's
Bank of China. However, the unification of the exchange rates does not
imply convertibility of RMB into United States dollars or other foreign
currencies. All foreign exchange transactions continue to take place
either through the Bank of China or other banks authorized to buy and
sell foreign currencies at the exchange rates quoted by the Bank of
China. Approval of foreign currency payments by the Bank of China or
other institutions requires submitting a payment application form
together with suppliers' invoices, shipping documents and signed
contracts.
19. PENSION SCHEME
Prior to December 1, 2000, the Group was a member of a defined
contribution pension scheme of DHL (the "Scheme"). All the full time
permanent staff in Hong Kong, after the completion of one year's
service, were eligible to join the Scheme. The participants contributed
5% of their basic monthly salaries to the Scheme while the Group
contributed 5% to 6.5% of the basic monthly salaries of the
participants depending on the number of years of employment of
individual participants and such contributions were charged to the
statement of operations as they became payable in accordance with the
rules of the Scheme. When an employee left the Scheme prior to his/her
interest in the Group employer contributions vested fully, the ongoing
contributions payable by the Group could be reduced by the relevant
amount of forfeited contributions.
On December 1, 2000, all of the members of the existing Scheme
were transferred to a Mandatory Provident Fund (the "MPF Scheme"). All
of the underlying assets of the existing Scheme have been transferred
to the MPF Scheme. Contributions to the MPF Scheme are made based on
rates applicable to the respective employees' monthly salaries and are
charged to the profit and loss account as they become payable in
accordance with government regulations. The assets of the MPF Scheme
are held separately from those of the Group in an independently
administered fund. The Group's employer contributions to the MPF Scheme
vest fully with the employees when contributed into the MPF Scheme.
Employees in Mainland China are members of the Central Pension
Scheme operated by the PRC government. These subsidiaries are required
to contribute a certain percentage of their covered payroll to the
Central Pension Scheme to fund the benefits. The only obligation for
the Group with respect to the Central Pension Scheme is the associated
required contributions under the Central Pension Scheme, which are
charged to the profit and loss account in the year to which they
related.
Pension scheme expenses, net of forfeited contributions, were
HK$5, Nil and HK$52 for the years ended March 31, 1999, 2000 and 2001,
respectively.
F-23
63
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
20. SEGMENT REPORTING, MAJOR CUSTOMERS AND SUPPLIERS
The Group evaluates performance and allocates resources based
on profit or loss from operations. The accounting polices of the
reportable segments are the same as those described in the summary of
significant accounting policies.
The Group's reportable segments are business units that offer
different products. The reportable segments are each managed separately
because they manufacture and/or distribute distinct products with
different production processes.
The Group operates in two industry segments, paper merchanting
and paper manufacturing. Operations in paper merchanting include the
buying and selling of paper on a back-to-back basis. As at March 31,
2001, the Group had three paper mills in the PRC. Except for the
converting paper mill in Conghua, the other two paper mills are still
under construction and operations have not been commenced. There is no
assurance that the operations, when commenced, will be successful.
Prior to April 1, 2000, there was no turnover and operating results
contributed from the segment of paper manufacturing because the paper
mills were either under trial-run or under construction.
<Table>
<Caption>
1999 2000 2001 2001
HK$ HK$ HK$ US$
------ ------ ------ ------
REVENUE
Paper merchanting
- third parties 4,812 597 1,849 237
Paper manufacturing
- third parties -- 373 7,494 961
- related parties -- 532 -- --
------ ------ ------ ------
Total consolidated revenue 4,812 1,502 9,343 1,198
====== ====== ====== ======
DEPRECIATION CHARGE
Paper merchanting 17 10 2 1
Paper manufacturing 2,783 2,336 2,471 315
------ ------ ------ ------
Total consolidated depreciation charge 2,800 2,346 2,473 316
====== ====== ====== ======
</Table>
F-24
64
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
20. SEGMENT REPORTING, MAJOR CUSTOMERS AND SUPPLIERS (continued)
<Table>
<Caption>
1999 2000 2001 2001
HK$ HK$ HK$ US$
------- -------- -------- --------
PROVISION FOR INCOME TAXES
Paper merchanting 9 -- -- --
------- -------- -------- --------
Total consolidated provision for income taxes 9 -- -- --
======= ======== ======== ========
LOSS
Paper merchanting (3,957) (827) (2,144) (275)
Paper manufacturing (3,947) (5,517) (75,673) (9,701)
------- -------- -------- --------
Total segment loss (7,904) (6,344) (77,817) (9,976)
RECONCILING ITEMS
Corporate expenses (939) (624) (2,084) (267)
Interest expense (254) -- -- --
Equity in loss of an affiliate -- -- (8,341) (1,069)
------- -------- -------- --------
Total consolidated loss before income taxes (9,097) (6,968) (88,242) (11,312)
======= ======== ======== ========
SEGMENT ASSETS
Paper merchanting 351 20 252 33
Paper manufacturing 207,560 223,385 145,055 18,596
------- -------- -------- --------
Total segment assets 207,911 223,405 145,307 18,629
RECONCILING ITEMS
Corporate assets 427 1,578 843 108
Interest in an affiliate - - 4,595 589
------- -------- -------- --------
Total consolidated assets 208,338 224,983 150,745 19,326
======= ======== ======== ========
EXPENDITURE FOR ADDITIONS TO
PROPERTY, PLANT AND EQUIPMENT
Paper manufacturing 11,008 16,613 3,716 476
------- -------- -------- --------
Total expenditure for additions 11,008 16,613 3,716 476
======= ======== ======== ========
</Table>
F-25
65
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
20. SEGMENT REPORTING AND MAJOR SUPPLIERS (continued)
Geographic information is provided below:
<Table>
<Caption>
1999 2000 2001 2001
HK$ HK$ HK$ US$
------- -------- -------- --------
REVENUE
Hong Kong and Macau 4,812 1,225 1,849 237
Other parts of the PRC -- 277 4,878 625
Other parts of Asia -- -- 2,616 336
------- -------- -------- --------
Total consolidated revenue 4,812 1,502 9,343 1,198
======= ======== ======== ========
DEPRECIATION CHARGE
Other parts of the PRC 2,800 2,346 2,472 316
------- -------- -------- --------
Total consolidated depreciation charge 2,800 2,346 2,472 316
======= ======== ======== ========
PROVISION FOR INCOME TAXES
Hong Kong and Macau 9 -- -- --
------- -------- -------- --------
Total consolidated provision for income taxes 9 -- -- --
======= ======== ======== ========
LOSS
Hong Kong and Macau (5,748) (2,240) (4,423) (567)
Other parts of the PRC (3,349) (4,637) (83,769) (10,739)
Other parts of Asia - (91) (50) (6)
------- -------- -------- --------
Total consolidated loss before income taxes (9,097) (6,968) (88,242) (11,312)
======= ======== ======== ========
LONG-LIVED ASSETS
Other parts of the PRC 186,642 200,909 147,062 18,853
------- -------- -------- --------
Total long-lived assets 186,642 200,909 147,062 18,853
======= ======== ======== ========
EXPENDITURE FOR ADDITIONS TO
PROPERTY, PLANT AND EQUIPMENT
Other parts of the PRC 11,008 16,613 3,716 476
------- -------- -------- --------
Total expenditure for additions 11,008 16,613 3,716 476
======= ======== ======== ========
</Table>
F-26
66
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
20. SEGMENT REPORTING AND MAJOR SUPPLIERS (continued)
There were no inter-segment sales for the three years ended
March 31, 2001.
Major customers and suppliers
In 1999 and 2000, the Group's largest customer, excluding
related parties, accounted for approximately 11% and 22% of total
sales, respectively. There were no individual customers that accounted
for more than 10% of total sales for the fiscal year ended March 31,
2001.
In 1999 and 2000, the Group's largest supplier accounted for
approximately 18% and 21% of total purchases, respectively. There were
no individual suppliers that accounted for more than 10% of total
purchases for the fiscal year ended March 31, 2001.
21. COMMON STOCK OPTIONS
On November 20, 1996, the then sole director of the Company
adopted a stock option plan (the "Plan") whereby nontransferable
options could be granted by the directors to employees and executive
officers of the Company. The options must be for 4-year terms but are
subject to earlier expiration on April 2, 2003 which is the last
validity date of the Plan. All the options granted may not be exercised
during the first year of the grant. The exercise price for each option
shall be set by the directors but may not be less than 80 percent of
the average of closing prices of the Company's common stock during the
five trading days prior to the grant of the option. The total number of
shares of common stock which can be subject to the options at any time,
both under the Plan and otherwise, shall not exceed 10 percent of the
number of shares of common stock then outstanding. No person can be
granted options which, if fully exercised, would result in that person
owning more than 25 percent of the outstanding shares of common stock
after such exercise.
F-27
67
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
21. COMMON STOCK OPTIONS (continued)
The status of the Company's stock options as of March 31 is summarized
below:
<Table>
<Caption>
Weighted
average
Number of exercise
options price
Outstanding at March 31, 1998 and 1999 510,000 US$2.80
Granted 653,000 US$3.94
Exercised (248,850) US$2.80
Cancelled (31,000) US$2.80
----------
Outstanding at March 31, 2000 883,150 US$3.64
Granted 1,825,500 US$1.36
Cancelled (1,482,500) US$3.95
Forfeited (426,650) US$1.87
----------
Outstanding at March 31, 2001 799,500 US$0.82
========== =======
Options exercisable at:
March 31, 1999 255,000 US$2.80
March 31, 2000 112,650 US$2.80
March 31, 2001 - -
========== =======
Weighted average fair value of options
granted during the year ended
March 31, 1999 US$2.86
March 31, 2000 US$1.49
March 31, 2001 US$1.14
=======
</Table>
On June 20, 2000, the board of directors invited the grantees
of share options issued between January through May 2000 to surrender
their share options by June 30, 2000 in exchange for the same number of
stock options at an exercise price of US$1.75 per share, being the
market closing price of the Company's shares on June 19, 2000. All
stock options were surrendered and exchanged for new stock options on
June 30, 2000.
F-28
68
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
21. COMMON STOCK OPTIONS (continued)
On March 1, 2001, the board of directors invited the grantees
of all outstanding share options in exchange for the same number of
share options at an exercise price of US$0.82 per share.
A summary of information about the Company's stock options
outstanding at March 31, 2001 is as follows:
<Table>
<Caption>
No. of options Weighted average
Exercisable Exercise Outstanding at remaining Weighted average
period Vesting price March 31, 2001 contractual life exercise price
March 2, 2002 to 100% US$0.82 799,500 2 years US$0.82
April 2, 2003
</Table>
The Group applies Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" in accounting for the Plan.
The compensation expense represents the difference between the option
exercise price and the fair market value of the Company's common stock
at the respective dates of grant and is recognized over the vesting
period. Accordingly, compensation expense of HK$939 (US$120), HK$624
(US$80) and HK$400 (US$51), was recognized for the year ended March 31,
1999, 2000 and 2001, respectively. All the stock options granted during
the year ended March 31, 2001 were at exercise prices equal to or
exceeding the fair market value of the Company's shares on the
respective dates of grant.
Pro-forma information regarding net income and earnings per
share is required by Statement of Financial Accounting Standards No.
123, "Accounting for Stock-Based Compensation" ("SFAS 123") and has
been determined as if the Group had accounted for its stock options
under the fair value method of that statement. The weighted-average
fair value of options granted during 1999, 2000 and 2001 estimated on
the date of grant using a Black-Scholes option pricing model was
US$2.86, US$1.49 and US$1.14, respectively. The fair value for these
options was estimated at the respective dates of grant using the
following weighted-average assumptions for the respective dates of
grant:
<Table>
<Caption>
Options granted on
---------------------------------------------------------
1997 2000 2001
Risk-free interest rate 7.02% 6.42% 5.59%
Dividend yield Nil Nil Nil
Volatility factor of the
expected market
price of the
common stock 130% 50.76% 295.21%
Weighted-average
expected life 4 years 3 years 2.34 years
</Table>
F-29
69
DF CHINA TECHNOLOGY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise stated and
except number of shares and per share data)
21. COMMON STOCK OPTIONS (continued)
The Black-Scholes option valuation model was developed for use
in estimating the fair value of traded options which have no vesting
restrictions and are fully transferable. In addition, option valuation
models require the input of highly subjective assumptions including the
expected stock price volatility. Because the Company's employee stock
options have characteristics significantly different from those of
traded options, and because changes in these subjective input
assumptions can materially affect the fair value estimate, in
management's opinion, the existing models do not provide a reliable
single measure of the fair value of its employee stock options.
For the purposes of pro-forma disclosures, the estimated fair
value of the options is amortized to expense over the options' vesting
period. Accordingly, the pro forma effect will not be fully realized
until the completion of one full vesting cycle. The Group's pro-forma
information for the years ended March 31, 1999, 2000 and 2001 is as
follows:
<Table>
<Caption>
1999 2000 2001 2001
HK$ HK$ HK$ US$
------ ------ ------ -------
Net loss
- As reported 9,088 6,968 88,242 11,312
- Pro forma 12,301 8,284 94,005 12,051
------ ------ ------ -------
Basic and diluted net loss per share
- As reported 0.58 0.43 4.57 0.59
- Pro forma 0.79 0.52 4.87 0.62
------ ------ ------ -------
</Table>
22. CONTRIBUTED SURPLUS
The amount represents a net compensation of HK$1,530 (US$196)
from a minority shareholder, which was accounted for as a capital
transaction in 1998, and stock compensation expense of HK$939 (US$120),
HK$624 (US$80) and HK$400 (US$51), recognized for the years ended March
31, 1999, 2000 and 2001, respectively (note 21).
23. CHANGES IN PRESENTATION OF COMPARATIVE FINANCIAL STATEMENTS
Due to the adoption of new classification of certain items in
the consolidated statement of operations and balance sheet for 2001,
the comparative amounts reported in previous years have been
reclassified to conform with the 2001 presentation.
F-30