DRAGON PHARMACEUTICALS INC.
& SUBSIDIARIES
Consolidated Financial Statements
(Expressed in U.S. Dollars)
December 31, 2002 and 2001
Index
Report of Independent Accountants
Consolidated Balance Sheets
Consolidated Statements of Stockholders' Equity
Consolidated Statements of Operations
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
MOORE STEPHENS
ELLIS FOSTER LTD.
CHARTERED ACCOUNTANTS
1650 West 1st Avenue
Vancouver, BC Canada V6J 1G1
Telephone: (604) 737-8117 Facsimile: (604) 714-5916
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REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders
DRAGON PHARMACEUTICALS INC.
& SUBSIDIARIES
We have audited the consolidated balance sheets of Dragon Pharmaceuticals Inc. &
Subsidiaries ("the Company") as at December 31, 2002 and 2001 and the related
consolidated statement of stockholders' equity for the years ended December 31,
2002 and 2001, and the consolidated statements of operations and cash flows for
the years ended December 31, 2002, 2001 and 2000. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform an audit
to obtain reasonable assurance 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, these consolidated financial statements present fairly, in all
material respects, the consolidated financial position of the Company as at
December 31, 2002 and 2001 and the results of their operations and their cash
flows for the years ended December 31, 2002, 2001 and 2000 in conformity with
generally accepted accounting principles in the United States.
Vancouver, Canada "MOORE STEPHENS ELLIS FOSTER LTD."
March 19, 2003 Chartered Accountants
F - 1
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Consolidated Balance Sheets
December 31, 2002 and 2001
(Expressed in U.S. Dollars)
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2002 2001
- ----------------------------------------------------------------------------------------------------------------------------------
ASSETS
Current
Cash and short term securities $ 4,935,766 $ 9,446,084
Accounts receivable 949,045 1,309,686
Inventories 1,208,277 1,095,860
Prepaid and deposits 154,551 140,340
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Total current assets 7,247,639 11,991,970
Fixed assets 2,420,613 2,534,609
Due from related party - Hepatitis B vaccine project 100 3,790,000
Refundable investment deposits - related party - 372,000
Patent rights - related party 500,000 -
License and permit 3,475,740 3,316,458
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Total assets $ 13,644,092 $ 22,005,037
==================================================================================================================================
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities
Current
Bank loans $ 483,162 $ 2,887,345
Accounts payable and accrued liabilities 1,525,404 1,318,938
Management fees payable - related parties - 234,000
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Total current liabilities 2,008,566 4,440,283
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Minority interests - 688,539
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Commitments (Note 16)
Stockholders' Equity
Share capital
Authorized: 50,000,000 common shares at
par value of $0.001 each
Issued and outstanding: 20,334,000 common shares
(December 31, 2001 - 20,331,000 common shares) 20,334 20,331
Additional paid in capital 26,644,998 26,624,741
Accumulated other comprehensive (loss) (35,011) (25,008)
Accumulated deficit (14,994,795) (9,743,849)
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Total stockholders' equity 11,635,526 16,876,215
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Total liabilities and stockholders' equity $ 13,644,092 $ 22,005,037
==================================================================================================================================
The accompanying notes are an integral part of these financial statements.
F - 2
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Consolidated Statements of Stockholders' Equity
(Expressed in U.S. Dollars)
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Accumulated
Compre- other Total
Common stock Additional hensive compre- Stock-
----------------- paid-in income Deficit hensive holders'
Shares Amount Capital (loss) accumulated income equity
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Exercise of stock options for cash 131,000 131 65,369 - - - 65,500
Issuance of common stock pursuant
to a private placement at $2.00 per
share, net of share issuance costs
of $490,000 in September 3,500,000 3,500 6,506,500 - - - 6,510,000
Stock based compensation - - 51,975 - - - 51,975
Component of comprehensive income (loss)
- foreign currency translation - - - 580 - 580 580
- net (loss) for the year - - - (3,735,305) (3,735,305) - (3,735,305)
- ------------------------------------------------------------------------------------------------------------------------------------
Comprehensive (loss) $(3,734,725)
============
Balance, December 31, 2001 20,331,000 $ 20,331 $ 26,624,741 $ (9,743,849) $ (25,008) $ 16,876,215
============================================================================ =========================================
The accompanying notes are an integral part of these financial statements.
F - 3
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Consolidated Statements of Stockholders' Equity
(Expressed in U.S. Dollars)
- ------------------------------------------------------------------------------------------------------------------------------------
Accumulated
Compre- othe Total
Common stock Additional hensive compre- Stock-
----------------------- paid-in income Deficit hensive holders'
Shares Amount capital (loss) accumulated income equity
- ------------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 2001 20,331,000 $ 20,331 $ 26,624,741 - $ (9,743,849) $(25,008) $ 16,876,215
Exercise of stock options for cash 3,000 3 1,497 - - 1,500
Stock based compensation - - 18,760 - - - 18,760
Components of comprehensive income (loss)
- foreign currency translation - - - (10,003) - (10,003) (10,003)
- - net (loss) for the year - - - (5,250,946) (5,250,946) - (5,250,946)
- ------------------------------------------------------------------------------------------------------------------------------------
Comprehensive (loss) $ (5,260,949)
===============
Balance, December 31, 2002 20,334,000 $ 20,334 $ 26,644,998 $ (14,994,795) $(35,011) $ 11,635,526
============================================================================ ========================================
The accompanying notes are an integral part of these financial statements.
F - 4
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Consolidated Statements of Operations
Years Ended December 31, 2002, 2001 and 2000
(Expressed in U.S. Dollars)
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2002 2001 2000
- -------------------------------------------------------------------------------------------------------------------------
Sales $ 7,362,248 $ 3,073,885 $ 3,175,561
Cost of sales 978,637 583,878 902,480
- -------------------------------------------------------------------------------------------------------------------------
Gross profit 6,383,611 2,490,007 2,273,081
Selling, general and administrative expenses (5,015,029) (5,328,110) (3,946,975)
Depreciation of fixed assets and
amortization of license and permit (736,361) (597,042) (515,106)
Net write off of land-use right and fixed assets (6,731) (1,012) (257,344)
New market and EPO development expenses (200,109) (316,290) (340,474)
Provision for doubtful accounts (216,709) (57,300) (63,630)
Loan interest expense (70,944) (154,644) (102,268)
Stock-based compensation (18,760) (51,975) (205,375)
- -------------------------------------------------------------------------------------------------------------------------
Operating income (loss) 118,968 (4,016,366) (3,158,091)
Development of insulin, G-CSF and rhTPO (2,100,000) - (483,140)
Write-down of amount owing from related party -
Hepatitis B Vaccine Project (3,289,900) (210,000) -
Interest income 146,986 250,458 478,922
- -------------------------------------------------------------------------------------------------------------------------
Loss before income taxes and minority interest (5,123,946) (3,975,908) (3,162,309)
Income taxes 127,000 - -
- -------------------------------------------------------------------------------------------------------------------------
Loss before minority interest (5,250,946) (3,975,908) (3,162,309)
Minority interest - 240,603 416,515
- -------------------------------------------------------------------------------------------------------------------------
Net (loss) for the year $ (5,250,946) $ (3,735,305) $ (2,745,794)
=========================================================================================================================
(Loss) per share - basic and diluted $ (0.26) $ (0.21) $ (0.17)
=========================================================================================================================
Weighted average number of
common shares outstanding
Basic and diluted 20,331,750 17,810,411 15,794,871
=========================================================================================================================
The accompanying notes are an integral part of these financial statements.
F - 5
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Consolidated Statements of Cash Flows
Years Ended December 31, 2002, 2001 and 2000
(Expressed in U.S. Dollars)
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2002 2001 2000
- -------------------------------------------------------------------------------------------------------------------------------
Cash flows from (used in) operating activities
Net (loss) for the year $ (5,250,946) $ (3,735,305) $ (2,745,794)
Adjustments to reconcile net loss to
net cash used in operating activities:
- stock-based compensation expense 18,760 51,975 205,375
- depreciation of fixed assets and amortization of
license and permit 936,463 597,042 669,031
- minority interests - (240,603) (416,515)
- net write off of land-use right and fixed assets 6,731 1,012 257,344
- provision for doubtful debts 153,084 57,300 63,630
- write-down of amount owing from Hepatitis B Project 3,289,900 210,000 -
Changes in non-cash working capital items:
- accounts receivable 179,557 (200,110) (561,763)
- inventories (112,417) (621,819) 183,925
- prepaid expenses and deposits (14,211) (43,406) 362,006
- accounts payable and accrued liabilities 206,466 (116,882) 98,112
- management fees payable - related parties (234,000) 234,000 -
- -------------------------------------------------------------------------------------------------------------------------------
(820,613) (3,806,796) (1,884,649)
- -------------------------------------------------------------------------------------------------------------------------------
Cash flows from (used in) investing activities
Purchase of fixed assets (277,266) (352,069) (900,231)
(Increase) decrease in restricted funds 2,629,955 (892,342) (2,247,613)
Acquisition of Patent rights (500,000) - -
Acquisition of balance of Huaxin (1,400,000) - -
Additional cost of license - - (250,000)
Repayment from (investment in) Hepatitis B vaccine project 500,000 - (4,000,000)
Refundable investment deposits 400,000 - (400,000)
- -------------------------------------------------------------------------------------------------------------------------------
1,352,689 (1,244,411) (7,797,844)
- -------------------------------------------------------------------------------------------------------------------------------
Cash flows from (used in) financing activities
Loan proceeds (repayment) (2,404,183) 689,065 1,594,453
Proceeds from issuance of shares, net of issuance costs 1,500 6,575,500 2,553,500
Proceeds from shares subscribed and allotted in - - 8,611,603
prior period, net of issuance costs
Funds contributed by minority shareholders - - 403,380
- -------------------------------------------------------------------------------------------------------------------------------
(2,402,683) 7,264,565 13,162,936
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(Gain) loss on cash held in foreign currency (9,756) 69 (5,003)
- -------------------------------------------------------------------------------------------------------------------------------
Increase (decrease) in cash and cash equivalents (1,880,363) 2,213,427 3,475,440
Cash and cash equivalents, beginning of year 6,306,129 4,092,702 617,262
- -------------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents, end of year $ 4,425,766 $ 6,306,129 $ 4,092,702
===============================================================================================================================
The accompanying notes are an integral part of these financial statements.
F - 6
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2002 and 2001
(Expressed in U.S. Dollars)
- --------------------------------------------------------------------------------
1. Nature of Business
The Company was formed on August 22, 1989 as First Geneva Investments Inc.
under the laws of the State of Florida. The Company changed its name to
Dragon Pharmaceuticals Inc. on August 31, 1998. Pursuant to a share
exchange agreement, dated July 29, 1998, the Company acquired 100% of the
issued and outstanding shares of Allwin Newtech Ltd. ("Allwin") by issuing
7,000,000 common shares of the Company. This transaction is accounted for
as a reverse acquisition.
Allwin was incorporated under the laws of British Virgin Islands on
February 10, 1998. Pursuant to a Sino-Foreign Co-operative Company
Contract, dated April 18, 1998, Allwin and a Chinese corporation formed a
limited liability company under the Chinese law, named as Sanhe Kailong
Bio-pharmaceutical Co., Ltd. ("Kailong"), located in Hebei Province, China.
Allwin has a 95% interest in Kailong. Pursuant to another Sino-foreign
Co-operative Company Contract, dated July 27, 1999, Allwin completed the
acquisition of a 75% interest in Nanjing Huaxin Bio-pharmaceutical Co. Ltd.
("Huaxin"). In January 2002, the Company acquired the balance of Huaxin for
$1,400,000. Kailong is inactive and Huaxin is in the business of research
and development, production and sales of pharmaceutical products in China.
Allwin Biotrade Inc. ("Biotrade) was incorporated under the laws of British
Virgin Islands on June 6, 2000 for the purpose of marketing and
distributing biopharmaceutical products outside China. Dragon
Pharmaceuticals (Canada) Inc. ("Dragon Canada") was incorporated in British
Columbia, Canada on September 15, 2000 for the purpose of researching and
developing new biopharmaceutical products.
2. Change in Accounting Policies
Effective January 1, 2002, the Company adopted Statement of Financial
Accounting Standards ("SFAS") No. 142, "Goodwill and Other Intangible
Assets". This statement requires that intangible assets with an indefinite
life are not amortized. Intangible assets with a definite life are
amortized over its useful life or estimated of its useful life. Indefinite
life intangible assets will be tested for impairment annually, and will be
tested for impairment between annual tests if any events occurs or
circumstances change that would indicate that the carrying amount may be
impaired. Intangible assets with a definite life are tested for impairment
whenever events or circumstances indicate that a carrying amount of an
asset (asset group) may not be recoverable. An impairment loss would be
recognized when the carrying amount of an asset exceeds the estimated
non-discounted cash flows used in determining the fair value of the assets.
The amount of the impairment loss to be recorded is calculated by the
excess of the assets carrying value over its fair value. Fair value is
generally determined using a discounted cash flow analysis.
The adoption of SFAS No. 142 did not have a material impact on the
company's consolidated financial statements.
F - 7
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2002 and 2001
(Expressed in U.S. Dollars)
- --------------------------------------------------------------------------------
3. Significant Accounting Policies
(a) Basis of Consolidation
These consolidated financial statements include the accounts of the
Company and its subsidiaries, Allwin, Kailong, Huaxin, Biotrade and
Dragon Canada. All inter-company transactions and balances have been
eliminated.
(b) Principles of Accounting
These financial statements are stated in US Dollars and have been
prepared in accordance with accounting principles generally accepted
in the United States of America.
(c) Fixed Assets
Fixed assets are recorded at cost. Depreciation is based on the
estimated useful lives of the assets and is computed using the
straight-line method.
Depreciation is provided over the following useful lives:
Motor vehicle 5 years
Lab equipment 8 years
Office equipment and furniture 5 years
Leasehold improvements Term of lease (5 -10 years)
Production equipment 10 years
Fixed assets are reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset (asset
group) may not be recoverable. An impairment loss would be recognized
when the carrying amount of an asset exceeds the estimated
undiscounted future cash flow expected to result from the use of the
asset and its eventual disposition. The amount of the impairment loss
to be recorded is calculated by the excess of the assets' carrying
value over its fair value. Fair value is generally determined using a
discounted cash flow analysis.
Effective January 1, 2002, the company adopted Statement of Financial
Accounting Standards (SFAS) No. 144. This statement retains the
requirements of SFAS No. 121 (Accounting for the Impairment of
Long-Lived Assets and for Ling-Lived Assets to Be Disclosed of) to
recognize impairments on Property, Plant and Equipment, but removes
goodwill from its scope. The adoption of SAFS No. 144 did not have a
material impact on the company's consolidated financial statements.
F - 8
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2002 and 2001
(Expressed in U.S. Dollars)
- --------------------------------------------------------------------------------
3. Significant Accounting Policies (continued)
(d) Foreign Currency Transactions
The parent company, Allwin, Kailong, Huaxin, Biotrade and Dragon
Canada maintain their accounting records in their functional
currencies (i.e., U.S. dollars, U.S. dollars, Renminbi Yuan, Renminbi
Yuan, U.S. dollars and Canadian dollars respectively). They translate
foreign currency transactions into their functional currency in the
following manner.
At the transaction date, each asset, liability, revenue and expense is
translated into the functional currency by the use of the exchange
rate in effect at that date. At the period end, monetary assets and
liabilities are translated into the functional currency by using the
exchange rate in effect at that date. The resulting foreign exchange
gains and losses are included in operations.
(e) Foreign Currency Translations
Assets and liabilities of the foreign subsidiaries (whose functional
currency is Renminbi Yuan or Canadian dollars) are translated into
U.S. dollars at exchange rates in effect at the balance sheet date.
Revenue and expenses are translated at average exchange rate. Gain and
losses from such translations are included in stockholders' equity, as
a component of other comprehensive income.
(f) Accounting Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the
date of the financial statements and the reported amounts of revenues
and expenses during the reporting period. Actual results could differ
from those estimates.
(g) Advertising Expenses
The Company expenses advertising costs as incurred.
F - 9
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2002 and 2001
(Expressed in U.S. Dollars)
- --------------------------------------------------------------------------------
3. Significant Accounting Policies (continued)
(h) Income Taxes
The Company has adopted Statement of Financial Accounting Standards
("SFAS") No. 109, "Accounting for Income Taxes", which requires the
Company to recognize deferred tax liabilities and assets for the
expected future tax consequences of events that have been recognized
in the Company's financial statements or tax returns using the
liability method. Under this method, deferred tax liabilities and
assets are determined based on the temporary differences between the
financial statements and tax bases of assets and liabilities using
enacted tax rates in effect in the years in which the differences are
expected to reverse.
(i) Comprehensive Income
The Company has adopted SFAS No. 130, "Reporting Comprehensive
Income", which establishes standards for reporting and display of
comprehensive income, its components and accumulated balances. The
Company is disclosing this information on its Statement of
Stockholders' Equity. Comprehensive income comprises equity except
those resulting from investments by owners and distributions to
owners. SFAS No. 130 did not change the current accounting treatments
for components of comprehensive income.
(j) Financial Instruments and Concentration of Risks
Fair value of financial instruments are made at a specific point in
time, based on relevant information about financial markets and
specific financial instruments. As these estimates are subjective in
nature, involving uncertainties and matters of significant judgement,
they cannot be determined with precision. Changes in assumptions can
significantly affect estimated fair values.
The carrying value of cash and cash equivalents, term deposits,
accounts receivable, bank loans, accounts payable and accrued
liabilities approximate their fair value because of the short-term
nature of these instruments. The Company places its cash and cash
equivalents with high credit quality financial institutions. The
Company occasionally maintains balances in a financial institution
beyond the insured amount. As of December 31, 2002, the Company did
not have any deposits above insured limits.
The Company is operating in China, which may give rise to significant
foreign currency risks from fluctuations and the degree of volatility
of foreign exchange rates between U.S. dollars and the Chinese
currency RMB. Financial instruments that potentially subject the
Company to concentration of credit risk consist principally of cash
and trade receivables, the balances of which are stated on the balance
sheet. The Company places its cash in high credit quality financial
institutions. Concentration of credit risk with respect to trade
receivables are limited due to the Company's' large number of diverse
customers in different locations in China. The Company does not
require collateral or other security to support financial instruments
subject to credit risk.
F - 10
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2002 and 2001
(Expressed in U.S. Dollars)
- --------------------------------------------------------------------------------
3. Significant Accounting Policies (continued)
(k) License and Permit
License and permit, in relation to the production and sales of
pharmaceutical products in China, is amortized on a straight-line
basis over ten years.
License and permit is tested for impairment whenever events or
circumstances indicate that a carrying amount may not be recoverable.
An impairment loss would be recognized when the carrying amount of an
asset exceeds the estimated non-discounted cash flows used in
determining the fair value of the assets. The amount of the impairment
loss to be recorded is calculated by the excess of the assets carrying
value over its fair value. Fair value is generally determined using a
discounted cash flow analysis.
(l) Cash and Cash Equivalents
Cash equivalents usually consist of highly liquid investments that are
readily convertible into cash with maturities of three months or less.
As at December 31, 2002, cash equivalents consist of commercial papers
and redeemable term deposits.
(m) Inventories
Inventories are stated at the lower of cost and replacement cost with
respect to raw materials and the lower of cost and net realizable
value with respect to finished goods. Cost includes direct material,
direct labour and overheads. Cost is calculated using the first-in,
first-out method. Net realizable value represents the anticipated
selling price less further costs for completion and distribution.
(n) Revenue Recognition
Sales revenue is recognized upon the delivery of goods to customers.
(o) Stock-based Compensation
The Company adopted the disclosure-only provisions of Statement of
Financial Accounting Standards No. 123 (SFAS 123), "Accounting for
Stock-based Compensation". SFAS 123 encourages, but does not require,
companies to adopt a fair value based method for determining expense
related to stock-based compensation. The Company continues to account
for stock-based compensation issued to employees and directors using
the intrinsic value method as prescribed under Accounting Principles
Board Opinion (APB) No. 25, "Accounting for Stock Issued to Employees"
and related Interpretations.
F - 11
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2002 and 2001
(Expressed in U.S. Dollars)
- --------------------------------------------------------------------------------
3. Significant Accounting Policies (continued)
(p) Loss Per Share
Loss per share is computed using the weighted average number of shares
outstanding during the period. The Company adopted SFAS No. 128,
"Earnings per share". Diluted loss per share is equal to the basic
loss per share for the because common stock equivalents consisting of
options to acquire 3,288,000 common shares and warrants to acquire
2,800,000 common shares that are outstanding at December 31, 2002 are
anti-dilutive, however, they may be dilutive in future.
(q) Accounting for Derivative Instruments and Hedging Activities
The Company has adopted the Statement of Financial Accounting
Standards No. 133 (SFAS 133), Accounting for Derivative Instruments
and Hedging Activities, which requires companies to recognize all
derivatives contracts as either assets or liabilities in the balance
sheet and to measure them at fair value. If certain conditions are
met, a derivative may be specifically designated as a hedge, the
objective of which is to match the timing of gain or loss recognition
on the hedging derivative with the recognition of (i) the changes in
the fair value of the hedged asset or liability that are attributable
to the hedged risk or (ii) the earnings effect of the hedged
forecasted transaction. For a derivative not designated as a hedging
instrument, the gain or loss is recognized in income in the period of
change.
Historically, the Company has not entered into derivative contracts
either to hedge existing risks or for speculative purposes. The
Company does not anticipate that the adoption of the statement will
have a significant impact on its financial statements.
(r) New Accounting Pronouncements
In April 2002, the Financial Accounting Standard Board issued
Statement of Financial Accounting Standard No. 145 (SFAS 145),
Rescission of FASB Statement No. 4, 44 and 64, Amendment of FASB
Statement No. 13, and Technical Corrections. The rescission of SFAS
No. 4, Reporting Gains and Losses from Extinguishments, and SFAS 64,
Extinguishments of Debt Made to Satisfy Sinking Fund Requirements,
which amended SFAS 4, will affect income statement classification of
gains and losses from extinguishment of debt. SFAS 145 is effective
for fiscal years beginning January 1, 2002. The adoption of SFAS 145
will not have an impact on the Company's financial statements.
In June 2002, the Financial Accounting Standard Board issued Statement
of Financial Accounting Standard No. 146 (SFAS 146), Accounting for
Costs Associated with Exit or Disposal Activities, which addresses
financial accounting and reporting for costs associated with exit or
disposal activities and nullifies Emerging Issues Task Force Issued
No. 94-3, Liability Recognition for Certain Employee Termination
Benefits and Other Costs to Exit an Activity. SFAS 146 generally
requires a liability for a cost associated with an exit or disposal
activity to be recognized and measured initially at its fair value in
the period in which the liability is incurred. The pronouncement is
effective for exit or disposal activities initiated after December 31,
2002. The adoption of SFAS 146 will not have an impact on the
Company's financial statements.
F - 12
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2002 and 2001
(Expressed in U.S. Dollars)
- --------------------------------------------------------------------------------
3. Significant Accounting Policies (continued)
(r) New Accounting Pronouncements (continued)
In December 2002, the Financial Accounting Standard Board issued
Statement of Financial Accounting Standard No. 148 (SFAS 148),
Accounting for Stock-based Compensation - Transition and Disclosure.
SFAS 148 amends SFAS 123, Accounting for Stock-based Compensation, to
provide alternative methods for voluntary transition to SFAS 123's
fair value method of accounting for stock-based employee compensation.
SFAS 148 also requires disclosure of the effects of an entity's
accounting policy with respect to stock-based employee compensation on
reported net income (loss) and earnings (loss) per share in annual and
interim financial statements. SFAS 148 is effective for fiscal years
beginning after December 15, 2002. The adoption of SFAS 148 will not
have an impact on the Company's financial statements.
In November 2002, the Financial Accounting Standard Board issued FASB
Interpretation No. 45 (FIN 45), Guarantor's Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of
indebtedness of Others - An Interpretation of FASB Statements of No.
5, 57 and 107 and rescission of FASB Interpretation No. 34. This
interpretation clarifies the requirements for a guarantor's accounting
for and disclosures of certain guarantees issued and outstanding. FIN
45 also clarifies the requirements related to the recognition of a
liability by a guarantor at the inception of a guarantee. FIN 45 is
effective for guarantees entered into or modified after December 31,
2002. The adoption of FIN 45 will not have impact on the Company's
financial statements.
In January 2003, the Financial Accounting Standard Board issued FASB
Interpretation No. 46 (FIN 46), Consolidation of Variable Interest
Entities - An Interpretation of Accounting Research Bulletin (ARB) No.
51. This interpretation addressed the requirements for business
enterprises to consolidate related entities in which they are
determined to be the primary economic beneficiary as a result of their
variable economic interest. The interpretation is intended to provide
guidance in judging multiple economic interests in an entity and in
determining the primary beneficiary. The interpretation outlines
disclosure requirements for VIEs in existence prior to January 31,
2003, outlines consolidation requirements for VIEs created after
January 31, 2003. The company has reviewed its major commercial
relationship and its overall economic interests with other companies
consisting of related parties, manufacture vendors, loan creditors and
other suppliers to determine the extent of its variable economic
interest in these parties. The review has not resulted in a
determination that the Company would be judged to be the primary
economic beneficiary in any material relationships, or that any
material entities would be judged to be Variable Interest Entities of
the Company.
F - 13
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2002 and 2001
(Expressed in U.S. Dollars)
- --------------------------------------------------------------------------------
4. Restricted Funds
---------------------------------------------------------------------------
2002 2001
---------------------------------------------------------------------------
Term deposits held as collateral against
bank loans $510,000 $ 3,139,955
Cash and cash equivalents 4,425,766 6,306,129
---------------------------------------------------------------------------
Cash and short term securities $ 4,935,766 $ 9,446,084
===========================================================================
5. Accounts Receivable
---------------------------------------------------------------------------
2002 2001
---------------------------------------------------------------------------
Trade receivables $ 1,141,896 $ 1,225,455
Allowance for doubtful accounts (279,018) (97,982)
---------------------------------------------------------------------------
862,878 1,127,473
Other receivables 86,167 182,213
---------------------------------------------------------------------------
$ 949,045 $ 1,309,686
===========================================================================
6. Inventories
---------------------------------------------------------------------------
2002 2001
---------------------------------------------------------------------------
Raw materials $ 135,710 $ 173,687
Finished goods 88,857 179,871
Work in progress 983,710 742,302
---------------------------------------------------------------------------
$ 1,208,277 $ 1,095,860
===========================================================================
F - 14
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2002 and 2001
(Expressed in U.S. Dollars)
- --------------------------------------------------------------------------------
7. Fixed Assets
--------------------------------------------------------------------------------------------------------------
2002
--------------------------------------------------------
Accumulated Net book
Cost depreciation value
--------------------------------------------------------------------------------------------------------------
Motor vehicles $ 140,388 $ 50,103 $ 90,285
Office equipment and furniture 385,462 144,199 241,263
Leasehold improvements 1,065,313 336,503 728,810
Production and lab equipment 2,052,260 692,005 1,360,255
--------------------------------------------------------------------------------------------------------------
$3,643,423 $1,222,810 $2,420,613
==============================================================================================================
--------------------------------------------------------------------------------------------------------------
2001
--------------------------------------------------------
Accumulated Net book
Cost depreciation value
--------------------------------------------------------------------------------------------------------------
Motor vehicles $100,329 $31,657 $68,672
Office equipment and furniture 267,104 85,935 181,169
Leasehold improvements 990,940 221,652 769,288
Production and lab equipment 2,020,137 504,657 1,515,480
--------------------------------------------------------------------------------------------------------------
$3,378,510 $843,901 $2,534,609
==============================================================================================================
For the year ended December 31, 2002, depreciation expenses totalled $384,530
(2001-$344,614, 2000 - $269,125). The majority of fixed assets are located in
China.
8. Due from Related Party - Hepatitis B Vaccine Project
----------------------------------------------------------------------------
2002 2001
----------------------------------------------------------------------------
Hepatitis B Vaccine Project $4,000,000 $4,000,000
Less : Repayment (500,000) -
Valuation allowance (3,499,900) (210,000)
----------------------------------------------------------------------------
$100 $3,790,000
============================================================================
(a) Pursuant to an agreement dated October 6, 2000, the Company paid $4,000,000
for the acquisition of certain assets and technology relating to the
production of Hepatitis B vaccine. The vendor of the transaction was a
company named Alphatech Bioengineering Limited, incorporated in Hong Kong,
with two shareholders who are both directors of the Company.
F - 15
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2002 and 2001
(Expressed in U.S. Dollars)
- --------------------------------------------------------------------------------
8. Due from Related Party - Hepatitis B Vaccine Project (continued)
(b) Pursuant to an amended agreement dated June 5, 2001, in the event that
the Company failed to find a joint venture partner, establish a
production facility for the vaccine project or sell the project to a
third party within nine months from the date of this amended
agreement, Dr. Longbin Liu, a director of the Company (and President
and CEO of the Company at the time of the transaction) and one of the
shareholders of Alphatech, demanded to repurchase the project from the
Company. The repurchase price of $4.0 million is payable as follows:
(i) $500,000 at the date of repurchase; and
(ii) the balance to be paid within eighteen (18) months of the date of
repurchase with interest at 6% per annum. The interest will be
accrued from six months after the date of repurchase.
The Company decided not to pursue the project and Dr. Liu has repurchased
the project on the agreed terms.
The amount owing by Dr. Liu to the Company is unsecured. The Company has
chosen, given the significant amount involved and the lack of security, to
conservatively value the amount owing and has set up a provision for the
full amount, less a nominal amount of $100.
9. Refundable Investment deposits - Related Party
---------------------------------------------------------------------------
2002 2001
---------------------------------------------------------------------------
Guanzhou Recomgen Biotech Co. Ltd.
- Tissue Plasminogen Activator ("TPA")
Project - $400,000
Less: Valuation allowance - (28,000)
---------------------------------------------------------------------------
- $372,000
===========================================================================
During the year 2000, the Company paid $400,000 to Guanzhou Recomgen
Biotech Co. Ltd. ("Guanzhou Recomgen"), a company incorporated in China,
for the funding of its TPA research and development programs with the
intention of acquiring the technology. Guanzhou Recomgen is controlled by
Dr. Longbin Liu, a director of the Company (and President and CEO of the
Company at the time of the transaction). The Company decided not to proceed
with the funding and the acquisition due to financial market and economic
conditions and the $400,000 was repaid in January 2002.
F - 16
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2002 and 2001
(Expressed in U.S. Dollars)
- --------------------------------------------------------------------------------
10. Patent Rights - Related Party
Pursuant to an agreement dated January 14, 2002, the Company entered into a
Patent Development Agreement with the Dr. Longbin Liu, a director of the
Company (and President and CEO of the Company at the time of the
transaction) and a company controlled by the Dr. Liu entitling the Company
to acquire one patent filed in the United States related to the discovery
of a new gene or protein. Consideration for the right to acquire the patent
was payment of US$500,000 (paid) and the issuance of warrants to acquire
1,000,000 common shares of the Company at a price of $2.50 per share for a
period of five years. The patent may be acquired prior to January 14, 2005
at no additional cost other than the reasonable legal costs of obtaining
the patent.
The issuance and exercisable of warrants to acquire 1,000,000 common stock
of the Company is contingent upon the success of patent applications. The
US$500,000 will be refunded to the Company if no patent applications have
been filed by January 14, 2005.
11. License and permit
---------------------------------------------------------------------------
2002 2001
---------------------------------------------------------------------------
Original cost $5,012,582 $ 4,301,121
Accumulated amortization 1,536,842 984,663
---------------------------------------------------------------------------
$ 3,475,740 $ 3,316,458
===========================================================================
Amortization expenses for the license and permit for the year ended
December 31, 2002 was $551,933 (2001 - $450,200, 2000 - $399,906)
The estimated amortization expense for each of the five succeeding fiscal
years is as follows:
2003 $552,000
2004 $552,000
2005 $552,000
2006 $552,000
2007 $552,000
The above amortization expense forecast is an estimate. Actual amounts of
amortization expense may differ from estimated amounts due to additional
intangible asset acquisitions, changes in foreign currency exchange rates,
impairment of intangible assets, accelerated amortization of license and
permit, and other events.
F - 17
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2002 and 2001
(Expressed in U.S. Dollars)
- --------------------------------------------------------------------------------
12. Bank Loans
------------------------------------------------------------------------------------------------------------------
2002 2001
------------------------------------------------------------------------------------------------------------------
RMB 7,800,000, bearing interest at 5.265% per annum and due on January
31, 2003. The loan is secured by the term deposit. $ - $942,312
RMB 4,000,000, bearing interest at 5.265% per annum and due on August
20, 2002. The loan is secured by the term deposit. - 483,238
RMB 4,000,000, bearing interest at 3.394% per annum and due on February
26, 2003. (Repaid subsequent to year-end.) The loan is secured by the 483,162 -
term deposit.
RMB 1,400,000 bearing interest at 5.265% per annum and due on July 26,
2002. The loan is secured by the term deposit. 169,133
RMB 2,300,000 bearing interest at 5.265% per annum and due on January
18, 2002. The loan is secured by the term deposit. - 277,862
RMB 3,150,000 bearing interest at 5.265% per annum and due on April 4,
2002. The loan is secured by the term deposit. - 380,550
RMB 3,700,000 bearing interest at 5.265% per annum and due on June 19,
2002. The loan is secured by the term deposit. - 446,995
RMB 1,555,000 bearing interest at 5.265% per annum and due on January
31, 2003. The loan is secured by the term deposit. - 187,255
--------------------------------------------------------------------------------------------------------------
Total $ 483,162 $ 2,887,345
==============================================================================================================
The weighted average interest rate was 5.265% and 5.249% for the years
ended December 31, 2002 and 2001, respectively.
F - 18
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2002 and 2001
(Expressed in U.S. Dollars)
- --------------------------------------------------------------------------------
13. Income Taxes
(a) Kailong and Huaxin are subject to income taxes in China on its taxable
income as reported in its statutory accounts at a tax rate in
accordance with the relevant income tax laws.
Allwin and Biotrade are not subject to income taxes. As at December
31, 2002, $3.4 million of unremitted earnings attributable to
international companies were considered to be indefinitely invested.
No provision has been made for taxes that might be payable if these
earnings were remitted to the United States. The company's intention
is to reinvest these earnings permanently or to repatriate the
earnings when it is tax effective to do so. It is not practicable to
determine the amount of incremental taxes that might arise were these
earnings to be remitted.
As at December 31, 2002, the company has estimated losses, for tax
purposes, totalling approximately $7,535,000, which may be applied
against future taxable income. The potential tax benefits arising from
these losses have not been recorded in the financial statements. The
Company evaluates its valuation allowance requirements on an annual
basis based on projected future operations. When circumstances change
and this causes a change in management's judgement about the
realizability of deferred tax assets, the impact of the change on the
valuation allowance is generally reflected in current income.
(b) The tax effect of temporary differences that give rise to the
Company's deferred tax asset (liability) are as follows:
-------------------------------------------- -------------------- ------------------ -------------------
2002 2001 2000
-------------------------------------------- -------------------- ------------------ -------------------
$ 2,560,000 $ 1,175,000 $ 265,000
Tax losses carried forward
Stock-based compensation 6,400 17,700 70,000
Provision for amount owing from Hepatitis
B Vaccine Project 1,118,000 - -
Less: valuation allowance (3,684,400) (1,192,700) (335,000)
-------------------------------------------- -------------------- ------------------ -------------------
$ - $ - $ -
============================================ ==================== ================== ===================
A reconciliation of the federal statutory income tax to the Company's
effective income tax rate, for the years ended December 31, 2002, 2001
and 2000 are as follows:
-------------------------------------------- -------------------- ------------------ ------------------
2002 2001 2000
-------------------------------------------- -------------------- ------------------ ------------------
(34.0%) (34.0%) (34.0%)
Federal statutory income tax rate
Operations taxed at lower rate in foreign
jurisdiction (2.7%) - -
Tax exempted income (21.4%) (5.0%) -
Non-deductible expenses 32.1% - -
Benefit of loss carry forward 28.5% 39.0% 34.0%
-------------------------------------------- -------------------- ------------------ ------------------
2.5% - -
============================================ ==================== ================== ==================
F - 19
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2002 and 2001
(Expressed in U.S. Dollars)
- --------------------------------------------------------------------------------
14. Stock Options and Warrants
(a) Stock Options Plans
The Company charged $18,760, $51,975 and $205,375, for the years ended
December 31, 2002, 2001 and 2000, respectively, to income due to the
exercise price of the vested options granted being below fair value of
the Company's stock on the date of the grant. During the year ended
December 31, 2002, the Company granted options to purchase 920,000
shares at a price of $1.70 per share, expiring April 25, 2007. The
market price at the time of the grant of the options was $1.60 while
the fair value of the option is $1.15.
The following is a summary of the employee stock option information
for the period ended December 31, 2002:
------------------------------------------------------ ------------------ ------------------------
Weighted Average
Shares Exercise Price
------------------------------------------------------ ------------------ ------------------------
Options outstanding at December 31, 2000 3,043,000 $ 1.89
Granted 195,000 $ 1.79
Forfeited (137,500) $ 2.93
Exercised (131,000) $ 0.50
------------------------------------------------------ ------------------ ------------------------
Options outstanding at December 31, 2001 2,969,500 $ 1.92
Granted 920,000 $ 1.70
Forfeited (598,500) $ 2.30
Exercised (3,000) $ 0.50
------------------------------------------------------ ------------------ ------------------------
Options outstanding at December 31, 2002 3,288,000 $ 1.82
====================================================== ================== ========================
Options Outstanding Options Exercisable
------------------------------------------------------------------- ------------------------------
Weighted
Average Weighted Weighted
Range of Remaining Average Average
Exercise Number Contractual Exercise Number Exercise
Prices Outstanding Life Price Exercisable Price
------------------------------------------------------------------- ------------------------------
$0.01 - $1.00 1,226,500 1.27 $ 0.50 1,226,500 $ 0.50
$1.01 - $2.00 726,500 4.29 $ 1.70 726,500 $ 1.70
$2.01 - $3.00 60,000 1.86 $ 2.50 60,000 $ 2.50
$3.01 - $4.00 1,275,000 2.87 $ 3.13 1,275,000 $ 3.13
--------- -------- --------- ---------- --------
3,288,000 2.57 $ 1.82 3,288,000 $ 1.82
========= ======== ========= ========== ========
F - 20
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2002 and 2001
(Expressed in U.S. Dollars)
- --------------------------------------------------------------------------------
14. Stock Options and Warrants (continued)
The Company accounts for its stock-based compensation plan in
accordance with APB Opinion No. 25, under which no compensation is
recognized in connection with options granted to employees except if
options are granted with a strike price below fair value of the
underlying stock. The Company adopted the disclosure requirements SFAS
No. 123, Accounting for Stock-Based Compensation. Accordingly, the
Company is required to calculate and present the pro forma effect of
all awards granted. For disclosure purposes, the fair value of each
option granted to an employee has been estimated as of the date of
grant using the Black-Scholes option pricing model with the following
assumptions: risk-free interest rate of 5.5%, dividend yield 0%,
volatility of 90% (2001 - 89%, 2000 - 89%), and expected lives of
approximately 0 to 5 years. Based on the computed option values and
the number of the options issued, had the Company recognized
compensation expense, the following would have been its effect on the
Company's net loss:
--------------------------------------------- ------------------- ---------------- ----------------
2002 2001 2000
--------------------------------------------- ------------------- ---------------- ----------------
Net (loss) for the year:
- as reported $(5,250,946) $(3,735,305) $(2,745,794)
- pro-forma $(6,312,839) $(3,735,889) $(2,746,378)
--------------------------------------------- ------------------- ---------------- ----------------
Basic and diluted (loss) per share:
- as reported $(0.26) $(0.21) $(0.17)
- pro-forma $(0.31) $(0.21) $(0.17)
--------------------------------------------- ------------------- ---------------- ----------------
(b) Warrants
Share purchase warrants outstanding as at December 31, 2002:
Number Underlying Exercise Price
of Warrants Shares Per Share Expiry Date
----------- ----------- -------------- ------------------
3,500,000 1,750,000 $2.00 September 13, 2003
50,000 50,000 $1.70 November 15, 2004
1,000,000* 1,000,000 $2.50 January 14, 2007
* See Note 10
F - 21
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2002 and 2001
(Expressed in U.S. Dollars)
- --------------------------------------------------------------------------------
15. Related Party Transactions
(a) The Company incurred the following expenses to two directors of the
Company:
----------------------------------- --------------------- --------------------- -------------------
2002 2001 2000
----------------------------------- --------------------- --------------------- -------------------
Management fees $ 192,500 $ 336,000 $ 72,000
=================================== ===================== ===================== ===================
(b) Pursuant to an agreement dated January 14, 2002, the Company entered
into a Project Development Agreement with Dr. Longbin Liu ("Dr. Liu"),
a director of the Company (and President and CEO of the Company at the
time of the transaction) to continue the research and development of
G-CSF and Insulin for the Company. The Company will make payment for
the development of G-CSF as follows:
(i) US$500,000 to be provided at the commencement of the research in
the G-CSF Project (paid);
(ii) US$500,000 to be provided when cell-line and related technology
is established and animal experimentation commences in the G-CSF
Project; and
(iii)US$300,000 to be provided when a permit for clinical trials for
G-CSF has been issued by the State Drug Administration of China
("SDA"); and
(iv) US$200,000 to be provided when a new drug license for G-CSF is
issued to Dragon by the SDA.
(v) US$500,000 to be paid as a bonus if the SDA issues the new drug
license for G-CSF to Dragon before January 14, 2005.
The Company will make payment for the development of Insulin as
follows:
(i) US$750,000 to be provided by at the commencement of the research
in the Insulin Project (paid);
(ii) US$750,000 to be provided when cell-line and related technology
is established and animal experimentation commences in the
Insulin Project (paid);
(iii)US$300,000 to be provided when a permit for clinical trials for
Insulin has been issued by the SDA; and
(iv) US$200,000 to be provided when a new drug license for Insulin is
issued to Dragon by the SDA.
(v) US$500,000 to be paid as a bonus if the SDA issues the new drug
license for Insulin to Dragon before January 14, 2005.
F - 22
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2002 and 2001
(Expressed in U.S. Dollars)
- --------------------------------------------------------------------------------
15. Related Party Transactions (continued)
For both the G-CSF and Insulin Projects:
(i) If the Company elects to cease development of the project it will
forfeit any payments made and lose ownership of the Project, but
it will not be obligated to make any further payments toward the
Project;
(ii) if an application for permit for clinical trials is not submitted
within three years with respect to the G-CSF Project or four
years with respect to the Insulin Project or if the SDA rejects
the Projects for technical or scientific reasons or If
development of the Project is terminated by Dr. Liu, then Dr. Liu
will refund to the Company all amounts paid, without interest or
deduction, with respect to the Project within six months.
As at December 31, 2002, the Company has paid a total of $1,500,000
and $500,000 towards the Insulin and G-CSF Projects, respectively. The
Company has paid an additional $100,000 to a company controlled by Dr.
Liu to produce Insulin samples for drug registration purposes.
(c) see Notes 8, 9, and 10 also.
16. Commitments
The Company has entered into operating lease agreements with respect to
Huaxin's production plant in Nanjing, China for an amount of RMB 2,700,000
(US$326,134) per annum until June 11, 2009, and the Company's
administrative offices in Vancouver for an amount escalating from
CDN$200,000 to CDN$230,000 (US$127,000 to US$146,000) per annum until March
31, 2007. Minimum payments required under the agreements are as follows:
2003 $ 453,339
2004 468,171
2005 469,260
2006 472,528
2007 363,005
2008 - 2009 470,841
-----------------------------------------------------
Total $ 2,697,144
=====================================================
F - 23
DRAGON PHARMACEUTICALS INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2002 and 2001
(Expressed in U.S. Dollars)
- --------------------------------------------------------------------------------
17. Segmented Information
The Company operates exclusively in the biotech sector. The Company's
assets and revenues are distributed as follows:
2002 2001
-----------------------------------------------------------------------------------------------------------------
ASSETS
North America $4,144,668 $10,407,749
China 9,020,882 11,137,507
Others 478,542 459,781
-----------------------------------------------------------------------------------------------------------------
Total $13,644,092 $22,005,037
=================================================================================================================
------------------------------------------------------------------------------------------------------------------
Year ended Year ended Year ended
December 31, December 31, December 31,
2002 2001 2000
------------------------------------------------------------------------------------------------------------------
REVENUE
North America $ - $ - $ -
China 3,002,898 2,630,182 3,175,561
Others 4,359,350 443,703 -
------------------------------------------------------------------------------------------------------------------
Total $7,362,248 $3,073,885 $3,175,561
==================================================================================================================
18. Economic Dependence
$3,700,000 in sales for the year ended December 31, 2002 has been made to
one customer, representing 50.26% of total sales.
19. Comparative Figures
Certain 2000 and 2001 comparative figures have been reclassified to conform
to the financial statement presentation adopted for 2002.
F - 24