1
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from __________ to ___________ .
Commission File No. 0-26232
CHINA PACIFIC, INC.
-------------------
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
Nevada 87-0429945
------------------------------- ---------------------------------
(STATE OR OTHER JURISDICTION OF (IRS Employer Identification No.)
INCORPORATION OR ORGANIZATION)
Chengdu Iron & Steel Office Building, Qingbaijiang District,
Chengdu, Sichuan Provinces, China
---------------------------------
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
(86) (28) 330-6590
(Issuer's telephone number)
----------------------------------------------------------------
(Former Name, former address and former fiscal year,
if changed since last report)
Check whether the issuer (1) filed all reports required to be filed
by Section 13 or 15 (d) of the Exchange Act during the past 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 [ ]
As of July 30, 1998, 9,039,644 shares of Common Stock of the issuer
were outstanding.
2
CHINA PACIFIC, INC.
INDEX
PAGE
NUMBER
PART I - FINANCIAL INFORMATION................................................. 1
Item 1. Financial Statements
Consolidated Balance Sheets - June 30,1998 and December 31, 1997... 1
Consolidated Statements of Operations - For the six months
ended June 30, 1998 and 1997....................................... 2
Consolidated Statements of Operations - For the three months
ended June 30, 1998 and 1997....................................... 3
Consolidated Statements of Cash Flows - For the six months
ended June 30, 1998 and 1997....................................... 4
Notes to Consolidated Financial Statements......................... 5-10
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations.............................................. 11-14
PART II - OTHER INFORMATION.................................................... 15
Item 1. Legal Proceedings.................................................. 15
Item 6. Exhibits and Reports on Form 8-K................................... 15
SIGNATURES ................................................................. 16
3
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CHINA PACIFIC, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET (UNAUDITED)
(AMOUNTS EXPRESSED IN THOUSANDS)
JUNE 30, DECEMBER 31,
1998 1997
------------------------- -------------------------
RMB USD RMB USD
ASSETS
Current assets:
Cash and Bank deposits 13,278 1,596 16,582 2,003
Restricted Bank deposits 33,284 4,020 33,284 4,020
Accounts receivable, net 56,571 6,824 51,487 6,218
Due from related companies 2,295 276 1,449 175
Prepayments, deposits, and other current assets 54,795 6,678 15,485 1,870
Loan receivable 3,000 362 3,000 362
Inventories, net 177,907 21,460 228,853 27,639
Deferred debt costs 3,330 402 4,440 536
---------- ---------- ---------- ----------
Total current assets 344,460 41,618 354,580 42,823
Investment Properties 32,157 3,879 56,919 6,875
Due from CISP, long-term portion 379,238 45,746 365,435 44,135
Investment in an associated company 58,988 7,115 58,988 7,124
Investments and notes receivable 30,494 3,677 36,098 4,360
Deferred value added tax recoverable 4,663 561 4,663 563
Property, plant ,equipment and capital leases , net 210,820 25,430 220,943 26,684
---------- ---------- ---------- ----------
Total assets 1,060,820 128,026 1,097,626 132,564
========== ========== ========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
9% Convertible Notes due on Jan 15, 1999 124,290 15,000 -- --
Short-term borrowings 211,110 25,496 211,110 25,496
Long-term debt, current portion 21,069 2,538 22,858 2,761
Capital Lease obligations, current portion -- -- 630 76
Accounts payable 134,963 16,280 129,125 15,595
Deposits from customers 149,596 18,045 172,595 20,845
Accrued liabilities 145,415 17,541 88,323 10,667
Taxation payable 1,233 149 1,233 149
Value added tax payable 18,027 2,175 18,027 2,177
Due to related companies 7,301 881 1,592 192
---------- ---------- ---------- ----------
Total current liabilities 813,004 98,105 645,493 77,958
Long-term debt 42,095 5,082 166,767 20,141
Capital Lease obligations, non-current portion -- -- 1,516 183
---------- ---------- ---------- ----------
Total liabilities 855,099 103,187 813,776 98,282
---------- ---------- ---------- ----------
Minority interests 83,623 10,087 100,245 12,107
---------- ---------- ---------- ----------
Shareholders' equity:
Authorized 25,000,000 shares; outstanding 9,039,644
shares in 1997 and 1998
Common Stock, par value $0.001 75 9 75 9
Treasury stock, 27,500 shares in 1997 and 1998 (1,420) (171) (1,420) (171)
Additional paid-in capital 191,036 23,072 191,036 23,072
Dedicated capital 23,245 2,807 23,245 2,807
Accumulated deficit (94,502) (11,404) (33,001) (3,985)
Cumulative translation adjustments 3,664 439 3,670 443
---------- ---------- ---------- ----------
Total shareholders' equity 122,098 14,752 183,605 22,175
---------- ---------- ---------- ----------
Total liabilities, minority interests and shareholders' equity 1,060,820 128,026 1,097,626 132,564
========== ========== ========== ==========
See accompanying notes to condensed consolidated financial statements
1
4
CHINA PACIFIC, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
FOR THE SIX MONTHS ENDED JUNE 30
(AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
JAN-JUN 1998 JAN-JUN 1997
------------------------- -------------------------
RMB USD RMB USD
Net sales 409,482 49,395 497,524 60,015
Cost of goods sold (402,387) (48,539) (431,981) (52,109)
---------- ---------- ---------- ----------
Gross (loss)/ profit 7,095 856 65,543 7,906
Selling, general and administrative expenses (50,159) (6,051) (27,685) (3,340)
Interest expenses, net (6,928) (836) (3,087) (372)
Other (expenses)/income, net (28,130) (3,393) 3,023 365
Share of income of an associated company -- -- 4,684 565
---------- ---------- ---------- ----------
Income before income taxes (78,122) (9,424) 42,478 5,124
Provision for income taxes -- -- (415) (50)
---------- ---------- ---------- ----------
Income before minority interests (78,122) (9,424) 42,063 5,074
Minority interests 16,621 2,005 (17,432) (2,103)
---------- ---------- ---------- ----------
Net (loss)/Income (61,501) (7,419) 24,631 2,971
========== ========== ========== ==========
Basic earnings per common share:
Net (loss)/income (6.80) (0.82) 2.75 0.33
========== ========== ========== ==========
Weighted average number of shares outstanding
Used in basic calculation 9,039,644 9,039,644 8,956,384 8,956,384
========== ========== ========== ==========
Diluted earnings per common share (6.80) (0.82) 2.75 0.33
========== ========== ========== ==========
Weighted average number of shares
Outstanding used in diluted calculation 9,039,644 9,039,644 8,956,384 8,956,384
========== ========== ========== ==========
See accompanying notes to condensed consolidated financial statements
2
5
CHINA PACIFIC, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
FOR THE THREE MONTHS ENDED JUNE 30
(AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
APR-JUN 1998 APR-JUN 1997
------------------------- -------------------------
RMB USD RMB USD
Net sales 209,903 25,320 245,624 29,629
Cost of goods sold (201,743) (24,336) (209,627) (25,287)
---------- ---------- ---------- ----------
Gross (loss)/ profit 8,160 984 35,997 4,342
Selling, general and administrative expenses (25,610) (3,089) (11,445) (1,381)
Interest expenses, net (4,144) (500) (1,711) (206)
Other (expenses)/income, net (10,571) (1,275) 2,474 298
Share of income of an associated company -- -- 2,382 287
---------- ---------- ---------- ----------
Income before income taxes (32,165) (3,880) 27,697 3,340
Provision for income taxes -- -- (415) (50)
---------- ---------- ---------- ----------
Income before minority interests (32,165) (3,880) 27,282 3,290
Minority interests 8,047 971 (10,993) (1,325)
---------- ---------- ---------- ----------
Net (loss)/Income (24,118) (2,909) 16,289 1,965
========== ========== ========== ==========
Basic earnings per common share:
Net (loss)/income (2.67) (0.32) 1.82 0.22
========== ========== ========== ==========
Weighted average number of shares outstanding
Used in basic calculation 9,039,644 9,039,644 8,956,384 8,956,384
========== ========== ========== ==========
Diluted earnings per common share (2.67) (0.32) 1.82 0.22
========== ========== ========== ==========
Weighted average number of shares
Outstanding used in diluted calculation 9,039,644 9,039,644 8,956,384 8,956,384
========== ========== ========== ==========
See accompanying notes to condensed consolidated financial statements
3
6
CHINA PACIFIC, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
FOR THE SIX MONTHS ENDED JUNE 30,
(AMOUNTS EXPRESSED IN THOUSANDS)
1998 1997
--------------------- ---------------------
RMB USD RMB USD
Cash flows from operating activities :
Net (loss)/income (61,501) (7,419) 24,631 2,971
Adjustments to reconcile net income (loss)
To net cash provided by (used in)
operating activities:
Net loss (gain) on disposals of subsidiary (371) (45) -- --
Equity gain on CPC -- -- (4,683) (565)
Amortization of goodwill -- -- 220 27
Amortization of deferred debt costs 1,110 134 -- --
Amortization of depreciation 8,932 1,082 5,553 670
Loss on disposals of fixed assets 461 56 132 16
Profit on disposals of investment properties -- -- (2,335) (282)
Impairment loss on investment properties 25,977 3,134 -- --
Minority interests (16,622) (2,004) 17,431 2,103
Effect of cumulative translation adjustment (6) (1) 425 51
(Increase) Decrease in operating assets
Accounts receivable, (5,084) (613) (3,527) (425)
Inventories, net 50,946 6,145 (20,207) (2,438)
Prepayments, deposit and other current assets (39,515) (4,767) (2,147) (259)
Increase (Decrease) in operating liabilities:
Accounts payable, net 5,838 704 (102,376) (12,349)
Accrued liabilities 57,093 6,887 5,501 664
Deposit from customers (22,999) (2,773) (10,883) (1,313)
Taxation -- -- (2,535) (306)
Value-added tax payable -- -- --
-------- -------- -------- --------
Net cash provided by (used in) operating activities 4,259 520 (94,800) (11,435)
-------- -------- -------- --------
Cash flows from investing activities:
Acquisition of property, machinery and equipment (24) (3) (102,912) (12,414)
Acquisition of fixed assets -- -- (574) (69)
Proceeds from disposals of subsidiary 11 1 -- --
Decrease in investment and notes receivable 5,604 676 (296) (36)
Proceeds from disposals of investment property -- -- 53,000 6,393
-------- -------- -------- --------
Net cash provided by (used in) investing activities 5,591 674 (50,782) (6,126)
-------- -------- -------- --------
Cash flows from financing activities:
Repayment of capital element of capital lease obligations (276) (33) (2,034) (245)
(Decrease) Increase in long-term debt (2,171) (262) 15,090 1,820
Due from CISP (13,803) (1,665) (23,934) (2,887)
Due from related companies and holding company (749) (90) (2,689) (324)
Due to related companies and holding company 3,845 464 11,055 1,334
Proceeds from issuance of stock -- -- 124,290 14,993
-------- -------- -------- --------
Net cash provided by (used in) financing activities (13,154) (1,586) 121,778 14,690
-------- -------- -------- --------
Net increase (decrease) in cash (3,304) (392) (23,804) (2,871)
Cash at beginning of period 49,866 6,008 61,296 7,394
-------- -------- -------- --------
Cash at end of period 46,562 5,616 37,492 4,523
-------- -------- -------- --------
See accompanying notes to condensed consolidated financial statements
4
7
China Pacific, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
June 30, 1998
(Unaudited)
1. INTERIM FINANCIAL PRESENTATION
The interim financial statements are prepared pursuant to the
requirements for reporting on Form 10-Q. The December 31, 1997 balance
sheet data was derived from audited financial statements but does not
include all notes required by generally accepted accounting principles.
The interim financial statements and notes thereto should be read in
conjunction with the financial statements and notes included in the
Company's Form 10-K for the fiscal year ended December 31, 1997. In the
opinion of management, the interim financial statements reflect all
adjustments of a normal recurring nature necessary for a fair statement
of the results for the interim periods presented.
2. CURRENCY PRESENTATION AND FOREIGN CURRENCY TRANSLATION
The Company's financial information is presented in Renminbi (RMB). The
translation of the financial statements of foreign subsidiaries into
U.S. dollars (USD) is performed for balance sheet accounts using
closing exchange rates in effect at the balance sheet date and for
revenue and expense accounts using an average exchange rate during each
reporting period. The gains or losses resulting from translation are
included in shareholders' equity separately as cumulative translation
adjustments.
3. BUSINESS AND ORGANIZATION
GENERAL DEVELOPMENT OF BUSINESS
China Pacific, Inc. (the "Company") is a holding company which, through
its subsidiaries, is engaged in iron and steel production in the
People's Republic of China (the "PRC"). The Company also holds options
to develop and market land surrounding Sun City ("Sun City"), a
multi-phase all-purpose development project in the PRC.
The Company is a Nevada corporation which was incorporated in 1986 as
McMann Investments, Inc., a blind pool "blank check" company, for the
purpose of seeking and acquiring business ventures. On October 30,
1995, the Company acquired, effective as of July 1, 1995, 100% of the
outstanding stock of China Pacific Steel Limited ("CPS"). CPS owns a
sixty percent (60%) interest in Chengdu Chengkang Iron and Steel Co.,
Ltd. ("Chengdu Steel"), a PRC steel manufacturer.
5
8
4. RECEIVABLES DUE FROM CHENGDU IRON AND STEEL PLANT ("CISP") AND OPEN
VIEW PROPERTIES
As of June 30, 1998, the Company had outstanding receivables of
approximately RMB379.2 million from CISP, the Chinese joint venture
partner of Chengdu Steel. RMB211 million of this balance arises from
short term bank loans maturing in less than a year for which CISP made
Chengdu Steel an obligor without authorization from Chengdu Steel. The
loans, on a revolving basis, are due within 1998, so must be recognized
in the Company's financial statements. The remainder of the RMB379.2
million in receivables, about RMB168.2 million, arises from loans by
Chengdu Steel to CISP to finance CISP's operations. As the Company's
auditors were not able to review CISP's financial statements, the
Company and its auditors are thus unable to determine whether CISP has
the necessary financial ability to repay its obligations to the Company
or its subsidiaries. Chengdu Steel and CISP have entered into an
agreement recognizing that CISP, and not Chengdu Steel, is responsible
for repayment of the RMB211 million bank loans, but it is unclear when,
or whether, Chengdu Steel will be released from its obligation to repay
such bank loans. As a condition to CISP reassuming these bank loans,
CISP must obtain the permission of the relevant Chinese governmental
authorities to use its real property as collateral for the loans. CISP
has made an application for such use of its real property to the
relevant Chinese governmental authorities and is awaiting their
approval.
If CISP does not reassume such short term bank loans and the Company is
required to repay such loans during 1998, it is unclear whether the
Company will have the necessary cash resources to pay back the loans.
This is due to the substantial losses the Company incurred during 1997
and the first half of 1998 and the fact that its current liabilities
(including the RMB211 million bank loans) exceeded its current assets
as of June 30, 1998 by approximately RMB468.5 million.
As noted below in Item 2, Management Discussion and Analysis of
Financial Condition and Results of Operations, substantial doubt exists
as to whether Open View Properties Ltd. ("Open View Properties") and
its related companies have sufficient cash resources to complete the
development of the Sun City project and repay certain obligations to
the Company and to China Pacific Construction (B.V.I.) Limited
("CPCT"). As of June 30, 1998, these obligations have a carrying value
of approximately RMB92.7 million.
5. INVENTORIES
Inventories comprised:
June 30, 1998
-----------------------
RMB'000 USD'000
Raw materials 95,040 11,464
Work-in-process 48,302 5,827
Finished goods 34,565 4,169
------- -------
177,907 21,460
======= =======
Inventories are stated at the lower of cost, on a first-in first-out
basis, or market value. Costs of work-in-process and finished goods are
composed of direct materials, direct labor and an attributable portion
of production overheads.
6
9
6. INVESTMENT PROPERTIES
As of June 30, 1998 the Company held two residential properties in Hong
Kong that were acquired during the third quarter of 1997, with a
carrying value of RMB32.2 million, which included a provision for
impairment loss of the two residential properties amounting to RMB43.1
million, of which RMB17.4 million and RMB8.4 million were additional
provisions made during the quarters ended March 31, 1998 and June 30,
1998, respectively, as a result of turmoil in the Hong Kong property
market.
7. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment comprised :
June 30, 1998
----------------------
RMB'000 USD'000
Buildings 146,758 17,707
Machinery and equipment 77,219 9,315
Motor Vehicles 630 76
Furniture and office equipment 1,385 167
-------- --------
225,992 27,265
Less: Accumulated depreciation (37,757) (4,555)
-------- --------
188,235 22,710
Construction-in-progress : 22,585 2,724
-------- --------
210,820 25,431
======== ========
8. GOODWILL
Goodwill, being the excess of cost over fair value of the net assets of
CPS (including CPS's 60% interest in Chengdu Steel) acquired, was being
amortized on a straight-line basis over forty years. The straight-line
amortization recorded for the year ended December 31, 1997 was
approximately RMB440,000. In addition, the Company's management
assessed the remaining life of the goodwill and decided to write off
the unamortized amount of approximately RMB16,624,000 during the year
ended December 31, 1997 after taking into consideration the substantial
operating loss of Chengdu Steel during the year ended December 31,
1997. No goodwill is carried forward for the period ended June 30,
1998.
7
10
9. SHAREHOLDERS' EQUITY
9% Convertible Notes
During 1997, the Company completed the placement of USD15 million of 9%
convertible notes due January 15, 1999 ("the Notes"). The Notes are
convertible into common stock of the Company at a conversion price
equal to eighty percent (80%) of the average closing bid price of the
Company's common stock over the five (5) trading day period ending on
the day prior to the date of receipt of written notice from a
noteholder of such conversion. The conversion price shall in no event
be less than USD4.00 per share nor greater than USD8.00 per share. No
conversions shall be permitted prior to May 15, 1997.
As of June 30, 1998, the Company has outstanding liabilities under the
Notes of approximately USD15 million. Because the shares of the
Company's common stock have been trading below the required USD4.00
minimum conversion price for some time, it is uncertain whether the
noteholders will convert the Notes into common stock. If the holders of
the Notes choose not to convert and require repayment of the Notes, it
is uncertain whether the Company will have the necessary cash resources
to pay the obligation on the due date. This is in part because of the
substantial losses incurred by the Company and the questionable value
of the Company's receivables from CISP and Open View Properties. The
original arranger of the Notes is currently negotiating with the
noteholders to modify the repayment terms of the Notes, although no
agreement has yet been reached, and there can be no assurance that any
agreement will be reached.
Warrants
In 1995, the Company issued 550,755 warrants to a third party for
investment banking services on a conversion basis of 4 warrants for 1
share of common stock of the Company at an exercise price of USD15.24
per share (after adjusting for the one-for-four reverse stock split).
The warrants will expire in September 2000. No warrants have been
exercised.
In 1997, the placement agent for the sale of the 9% Convertible Notes
described above was also granted a five year warrant exercisable to
acquire up to 300,000 shares of the Company's common stock at a price
of USD4.00 per share. The warrant will expire in January 2002. As of
the balance sheet date, the warrant has not been exercised.
Options
In 1995, the Company granted common stock options under an incentive
plan to purchase 125,000 shares of common stock at exercise prices
ranging from USD9.60 to USD16.00 (after adjusting for the one-for-four
reverse stock split), which are to vest according to a pre-determined
schedule from 1996 to 2000. No options were exercised in 1997 or during
the first half of 1998.
Reverse Stock Split
The Company declared a 1-for-4 reverse stock split effective July 9,
1996. All information herein relating to shares issued or outstanding,
including information in the footnotes, reflects the effect of such
reverse stock split.
8
11
10 (LOSS) EARNINGS PER COMMON SHARE
Basic (loss) earnings per common share is computed in accordance with
Statement of Financial Accounting Standards No. 128 by dividing net
(loss) income for each year by the weighted average number of shares of
common stock outstanding. Diluted (loss) earnings per common share
reflects the dilution that would have resulted from the conversion of
convertible debentures and convertible preferred stock, and exercise of
warrants and options based on the average market price of common stock
during the periods. For the period ended June 30, 1998 and 1997, diluted
earnings per common share is computed by dividing net income for each
year plus convertible debenture interest (net of tax) by the weighted
average number of shares of common stock outstanding and all dilutive
securities during the years arising from conversion of convertible
debentures and convertible preferred stock, and exercise of warrants and
options based on the market price of common stock. For the period ended
June 30, 1998 and 1997, exercise of warrants and convertible debentures
would have been anti-dilutive and, accordingly, was not considered in
the computation of dilutive (loss) earnings per common share. All
earnings per common share data have been restated in accordance with
Statement of Financial Accounting Standards No.128.
11. OUTSTANDING LITIGATION
On or about March 5, 1997, a brokerage firm filed a civil action against
the Company in the United States District Court, Southern District of
New York. The complaint alleges breach of contract by the Company in
connection with a Selling Agreement allegedly entered into between the
Company and the brokerage firm, and involves securities of the Company
that were sold in private placements in 1995 and 1996. The brokerage
firm is seeking monetary damages and expenses in excess of USD5 million,
and an order compelling the Company to issue warrants to subscribe to
1,141,000 shares of common stock (after considering the one-for-four
reverse stock split) under the terms of the alleged Selling Agreement.
The Company believes this claim is without merit. However, the Company
is unable to predict the outcome of this dispute and if the outcome is
adverse to the Company, the Company's financial position and operating
results could be materially affected. No provision has been recorded in
the financial statements in connection with the aforesaid claims.
12. GOING CONCERN
The accompanying financial statements have been prepared assuming that
the Company will continue as a going concern. As further discussed in
note 4 to the accompanying financial statements, as of June 30, 1998,
the principal operating subsidiary of the Group (Chengdu Chengkang Iron
and Steel Company Limited) had short-term bank loans of approximately
RMB211.1 million, which are due for repayment within twelve months. As
further discussed in Note 9 above, the Company has approximately USD15
million of 9% convertible notes outstanding that are due January 15,
1999. It is uncertain whether the Company will have the necessary cash
resources to repay either these short-term bank loans or the convertible
notes on their respective due dates. In addition as shown in the
accompanying financial statements, the Company incurred significant
losses during the period ended June 30, 1998 and as of that date the
Company's current liabilities exceeded its current assets by
approximately USD56.5 million. These factors, among others, raise
substantial doubt about the Company's ability to continue as a going
concern. The financial statements do not include any adjustments that
might result from the outcome of this uncertainty.
9
12
CHINA PACIFIC, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
FOR THE PERIOD ENDED JUNE 30, 1998
COMMON STOCK TREASURY
-------------------------- --------------------------
ACCUMULATED NUMBER OF NUMBER OF
DEFICIT SHARES* AMOUNT SHARES* AMOUNT
----------- --------- --------- --------- ---------
RMB'000 RMB'000 RMB'000
Balance as of December 31, 1997 (33,001) 9,039,644 75 (27,500) 1,420
Net loss (61,501) -- -- -- --
--------- --------- --------- --------- ---------
Bal. as of June 30, 1998 (94,502) 9,039,644 75 (27,500) 1,420
========= ========= ========= ========= =========
ADDITIONAL CUMULATIVE
PAID-IN DEDICATED TRANSLATION
CAPITAL CAPITAL ADJUSTMENTS
--------- --------- ---------
RMB'000 RMB'000 RMB'000
Balance as of December 31, 1997 191,036 23,245 3,670
Net loss -- -- (6)
--------- --------- ---------
Bal. as of June 30, 1998 191,036 23,245 3,664
========= ========= =========
The accompanying notes are an integral part of these financial statements.
10
13
ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION
MATERIAL CHANGES AND RESULTS OF OPERATIONS
OVERVIEW. The Company has continued to face financial uncertainty during
the first six months of 1998. Both sales volume and unit prices for steel
products manufactured by Chengdu Steel have declined during the first six months
of 1998 from the same period in 1997, and the Company experienced a net loss for
the first six months of 1998 of $7.4 million as compared to $3 million of net
income during the first half of 1997. Further, the Company has current
liabilities of $98.1 million as compared with current assets of $41.6 million;
this working capital deficit of $56.5 million compares with a working capital
deficit of $35.1 million at December 31, 1997. A large portion of the increase
in the working capital deficit resulted from the reclassification during the
first six months of 1998 of $15.0 million of the Company's 9% convertible notes
due January 15, 1999 from long term debt to short term debt.
Net sales during the first half of 1998 totaled $49.4 million compared
to net sales of $60 million during 1997. This decline was caused partially by a
decrease in sales volume from approximately 200,000 tons in the first half of
1997 to 182,000 tons in the first half of 1998. Furthermore, there has been a
reduction in the average unit prices of steel products the Company has realized
in 1998 due to keen competition in the steel market, from an average of $300 per
ton during the first half of 1997 to $271 per ton during the first half of 1998.
Cost of goods sold during the six months ended June 30,1998 totaled
$48.5 million as compared to $52.1 million during the six months ended June 30,
1997. The decrease in cost of goods sold was attributable to the decrease in
sales volume from 200,000 tons in the first half of 1997 to 182,000 tons in the
first half of 1998.
Gross profits for the period in 1998 amounted to $856,000 (1.7% of net
sales) as compared to gross profits of $7.9 million (13.2% of net sales) for the
same period in 1997. The decline in profit margin was attributable to the
decrease in selling prices of the Company's steel products from $300 per ton
during the first half of 1997 to $271 per ton during the first half of 1998.
Selling, general and administrative expenses ("SG&A") during the six
months ended June 30, 1998 totaled $6.1 million as compared to $3.3 million
during the six months ended June 30, 1997. The increase in SG&A was attributable
to an increased level of corporate activities relating to the operation of
Chengdu Steel (resulting in increased legal and accounting expenses) and an
additional provision for doubtful debt made in Chengdu Steel that amounted to
RMB6 million for the period during 1998.
Interest Expenses, net, during the six months ended June 30, 1998
totaled $836,000 as compared to interest expenses of $372,000 during the six
months ended June 30, 1997. The increase in net interest expenses was
attributable to an increase in mortgage loan interest in respect of the two Hong
Kong residential properties held by the Company.
Other expenses, net, during the six months ended June 30, 1998, totaled
$3.4 million. The Company reported $365,000 of other income, net, during the six
months ended June 30, 1997. Other expenses net, in 1998 were mainly attributable
to further provisions of $2.1 million and $1 million, respectively, for the
diminution in value of the two remaining residential properties held by the
Company for the periods ended March 31, 1998 and June 30, 1998. This further
diminution in value was caused by a substantial general decline in the value of
Hong Kong real estate due to turmoil in various Asian financial markets which
affected Hong Kong in the fourth quarter of 1997 and the first half of 1998 and
which was aggravated by high interest costs in Hong Kong.
11
14
The Company had income of $565,000 during the first half of 1997 from an
associated company, China Pacific Construction (B.V.I.) Ltd., ("CPCT"), but
recognition of such income was reversed during the fourth quarter of 1997, as
explained below, and no such income was recognized in the first half of 1998.
Due to the substantial diminution in real property values in Hong Kong in the
last half of 1997, which affected Southern China-- Huiyang City where the Sun
City project is situated, the Company obtained an updated valuation of such
project. After a review of the updated appraisal which showed a substantial
decrease in the appraised value from over RMB632 million to RMB493.2 million, no
interest income was recognized from CPCT during 1997 and the first half of 1998.
CPCT's major assets are two promissory notes, together with accrued interest,
for approximately RMB156 million issued by Open View Properties and its holding
company. Open View Properties is responsible for the development of the Sun City
project, which development has been suspended since 1995. Because of the
substantial decrease in the appraised value of the Sun City project and the
suspension of the project's development, the ability of Open View Properties to
pay the promissory notes, which are due in December 1998, is uncertain.
Minority interest represents the allocable share of income or loss
attributable to the 40% share of Chengdu Steel not owned by the Company during
the first six months of 1997 and 1998.
Net losses during the period ended June 30, 1998 totaled $7.4 million as
compared to $3 million of net income during the first half of 1997. The net
losses were caused by decreases in production volume and in the unit selling
price of the Company's steel products and a provision for diminution in value of
two Hong Kong residential properties, as more fully described above.
MATERIAL CHANGES IN FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES
OVERVIEW. During the six months ended June 30, 1998, the Company has
seen its working capital deficit increase from $35.1 million at December 31,
1997 to $56.5 million at June 30, 1998. This increase is in large part
attributable to reclassification of the Company's 9% convertible notes due
January 15, 1999 from long term debt to short term debt. As described below, the
Company is attempting to negotiate an extension of the maturity of the notes
with the holders thereof. Further, the Company continues to face the
uncertainties regarding the value of certain of its receivables reported in its
1997 annual report on Form 10-K: these include receivables totaling RMB33.7
million from Open View Properties (together with a related investment of
approximately RMB59 million) and receivables from CISP, the Company's joint
venture partner in Chengdu Steel, of approximately RMB379.2 million. The status
of these receivables, and of the Company's efforts to modify the terms of the 9%
convertible notes, is discussed further below.
As of June 30, 1998, the Company had receivables totaling approximately
RMB33.7 million from Open View Properties and companies related to Open View
Properties, and an investment of approximately RMB59 million in an associated
company, CPCT, the major assets of which are two promissory notes issued by Open
View Properties and its holding company. Both the receivables and the promissory
note are due for payment in December 1998. As described above under "Material
Changes and Results of Operations" and in note 4 to the financial statements,
Open View Properties and its subsidiaries are engaged in the development of the
Sun City project, which development has been suspended since 1995. When or
whether Open View Properties will recommence the development of such project is
uncertain. Consequently, it is unclear whether Open View Properties and its
related companies have the necessary cash resources to pay their respective
obligations to the Company and to CPCT on the due dates, and the Company's
realization on the above mentioned receivables and its investment in CPCT, with
a carrying value of approximately RMB92.7 million, is uncertain.
12
15
As of June 30, 1998, the Company had outstanding receivables of
approximately RMB379.2 million from CISP, the Chinese joint venture partner of
Chengdu Steel. As described in note 4 to the accompanying financial statements.
RMB211 million of this balance arises from short term bank loans maturing in
less than a year for which CISP made Chengdu Steel an obligor without
authorization from Chengdu Steel. The loans, on a revolving basis, are due
within 1998, so must be recognized in the Company's financial statements. The
remainder of the RMB379.2 million in receivables, about RMB168.2 million, arises
from loans by Chengdu Steel to CISP to finance CISP's operations. As the
Company's auditors were not able to review CISP's financial statements, the
Company and its auditors are thus unable to determine whether CISP has the
financial ability necessary to repay its obligations to the Company or its
subsidiaries. Chengdu Steel and CISP have entered into an agreement recognizing
that CISP, and not Chengdu Steel, is responsible for repayment of the RMB2l1
million bank loans, but it is unclear when, or whether, China Pacific will be
released from its obligation to repay such bank loans. As a condition to CISP
reassuming these bank loans, CISP must obtain the permission of the relevant
Chinese governmental authorities to use its real property as collateral for the
loans. CISP has made an application for such use of its real property to the
relevant Chinese governmental authorities and is awaiting their approval.
If CISP does not reassume such short term bank loans and the Company is
required to repay such loans during 1998, it is unclear whether the Company will
have the necessary cash resources to pay back the loans. This is due to the
substantial losses the Company incurred during 1997 and the first half of 1998
and the fact that its current liabilities (including the RMB211 million bank
loans) exceeded its current assets as of June 30, 1998 by approximately RMB468.5
million.
As of June 30, 1998, the Company has outstanding liabilities under 9%
convertible notes due January 15, 1999 (the "Notes") of approximately $15
million. As described above in note 9 to the accompanying financial statements,
because the shares of the Company's common stock have been trading below the
required $4.00 per share minimum conversion price of the Notes for some time, it
is uncertain whether the noteholders will convert the Notes into common stock.
If the holders of the Notes choose not to convert and require repayment of the
Notes, it is uncertain whether the Company will have the necessary cash
resources to pay the obligation on the due date. This is in part because of the
substantial losses incurred by the Company, as described above, and the
questionable value of the Company's receivables from CISP and Open View
Properties. The original arranger of the Notes is currently negotiating with the
noteholders to modify the repayment terms of the Notes, although no agreement
has yet been reached, and there can be no assurance that any agreement will be
reached.
On June 30, 1998 the Company had working capital deficit of $56.5 million
and cash balances of $5.6 million, of which $4 million cash was pledged as
collateral in respect of bank loans borrowed by CISP, as compared to a working
capital deficit of $35.1 million and a cash balance of $2 million on December
31, 1997. The change in working capital was attributable to the operating losses
and to the 9% convertible notes due on Jan 15, 1999 being reclassified as
operating activities providing cash and as current liabilities because they are
repayable in less than one year.
As a result of the Sun City Sale and the Chengdu Steel Acquisition, the
financial obligations of the Company consist primarily of the obligations of its
60% owned subsidiary, Chengdu Steel.
13
16
On June 30, 1998, the primary obligations of the Company consisted of
$48.2 million as compared to $48.4 million on December 31, 1997. The primary
obligations of the Company on June 30, 1998 consisted of (a) short-term bank
loans amounting to $25.5 million, (b) $15 million of 9% convertible notes due
January 15, 1999, (c) long-term bank loans and various loans from unaffiliated
third parties in the amount of $5.2 million and $2.5 million, respectively.
Maturities on long-term debt total $2.6 million during 1998.
RESTRICTED BANK DEPOSITS
As of June 30, 1998, bank deposits of approximately $4 million were
pledged as collateral in respect of the short-term bank loans borrowed by CISP
and were classified as restricted bank deposits.
YEAR 2000 COMPUTER ISSUES
The Company and its joint venture subsidiary, Chengdu Steel, utilize
software and related computer technologies that are essential to its operations
and which may be affected by the year 2000. The year 2000 may present problems
to certain computer software applications that are in use today that cannot
distinguish the year 2000 from the year 1900 because of the way dates are
encoded and calculated. These computer systems originally were designed and
developed without adequately considering the impact of the forthcoming new
century and may, as a result, fail to operate reliably when handling dates after
December 31, 1999.
The Company has not yet determined what risks year 2000 computer issues may
pose to the Company's operations or financial results, and these issues may have
an adverse impact on such results. The Company's management is currently
determining which of its computer systems may be affected by year 2000 issues,
and is identifying outside suppliers whose computer systems the Company may
utilize and who also potentially could experience year 2000 problems. The
Company's management has not yet determined what changes may be required to its
computer systems to avoid year 2000 problems, or what the cost of these changes
might be.
14
17
PART II. OTHER INFORMATION
ITEM 1 LEGAL PROCEEDINGS
On or about March 5, 1997, a brokerage firm filed a civil action
against the Company in the United States District Court, Southern
District of New York. The complaint alleges breach of contract by the
Company in connection with a Selling Agreement allegedly entered into
between the Company and the brokerage firm, and involves securities
of the Company that were sold in private placements in 1995 and 1996.
The brokerage firm is seeking monetary damages and expenses in excess
of $5 million, and an order compelling the Company to issue warrants
to subscribe to 1,141,000 shares of common stock (after considering
the one-for-four reverse stock split) under the terms of the alleged
Selling Agreement. The Company is unable to predict the outcome of
this dispute, and if the outcome is adverse to the Company, the
Company's financial position and operating results could be
materially affected.
ITEM 6 EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits - 27.1 - Financial Data Schedule
(b) Reports on Form 8-K
(1) Form 8-K filed with the SEC on July 29, 1998 announcing
changes in China Pacific, Inc.'s Board of Directors (Item
5).
(2) Form 8-K filed with the SEC on July 7, 1998 announcing
resignation of Mr. Clement Mak as Chairman of the Board and
Chief Executive Officer (Item 5).
15
18
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant has duly
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
CHINA PACIFIC, INC.
Date: August 7, 1998 /s/ Chun-Hing Lo
----------------------------------
Chun-Hing Lo, Chief Operating Officer
Date: August 7, 1998 /s/ Thomas Tong
---------------------------------
Thomas Tong, Treasurer and Chief
Financial Officer
16