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 September 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 .
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Commission File No. 0-26232
CHINA PACIFIC, INC.
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(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
Nevada 87-0429945
- --------------------------------------------- -------------------------------
(STATE OR OTHER JURISDICTION OF INCORPORATION (IRS Employer Identification No.)
OR ORGANIZATION)
Chengdu Iron & Steel Office Building, Qingbaijiang District,
Chengdu, Sichuan Provinces, China
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(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
(86) (28) 330-6590
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(Issuer's telephone number)
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(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 September 30, 1998, 1,807,929 shares of Common Stock of the issuer
were outstanding.
CHINA PACIFIC, INC.
INDEX
PAGE
NUMBER
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PART I - FINANCIAL INFORMATION . . . . . . . . . . . . . . . . . . . . 1
Item 1. Financial Statements
Consolidated Balance Sheets - September 30, 1998 and
December 31, 1997. . . . . . . . . . . . . . . . . . . . . 1
Consolidated Statements of Operations - For the
nine months ended September 30, 1998 and 1997. . . . . . . 2
Consolidated Statements of Operations -
For the three months ended September 30, 1998 and 1997 . . 3
Consolidated Statements of Cash Flows -
For the nine months ended September 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 . . . . . . . . . . . . . 16
SIGNATURES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CHINA PACIFIC, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET (UNAUDITED)
(AMOUNTS EXPRESSED IN THOUSANDS)
SEPTEMBER 30, DECEMBER 31,
1998 1997
-------------------------- ---------------------------
RMB USD RMB USD
ASSETS
Current assets:
Cash and Bank deposits 37,382 4,504 16,582 2,003
Restricted Bank deposits 33,284 4,020 33,284 4,020
Accounts receivable, net 74,615 8,990 51,487 6,218
Other receivable 1,978 238 1,449 175
Prepayments, deposits, and other current assets 42,775 5,153 15,485 1,870
Loan receivable 3,000 362 3,000 362
Inventories, net 178,654 21,525 228,853 27,639
Deferred debt costs 1,110 134 4,440 536
----------- ----------- ----------- ----------
Total current assets 372,798 44,926 354,580 42,823
Investment Properties 32,157 3,879 56,919 6,875
Due from CISP, long-term portion 373,679 45,022 365,435 44,135
Investment in an associated company 58,988 7,107 58,988 7,124
Investments and notes receivable 30,494 3,674 36,098 4,360
Deferred value added tax recoverable 4,663 562 4,663 563
Property, plant ,equipment and capital leases , net 206,029 24,823 220,943 26,684
----------- ----------- ----------- ----------
Total assets 1,078,808 129,993 1,097,626 132,564
----------- ----------- ----------- ----------
----------- ----------- ----------- ----------
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Short-term borrowings 246,110 29,652 211,110 25,496
Long-term debt, current portion 19,896 2,397 22,858 2,761
Capital Lease obligations, current portion - - 630 7676
Accounts payable 123,757 14,910 129,125 15,595
Deposits from customers 123,860 14,923 172,595 20,845
Accrued liabilities 142,253 17,139 88,323 10,667
Taxation payable 19,175 2,310 1,233 149
Value added tax payable 29,421 3,545 18,027 2,177
Other payable 9,213 1,111 1,592 192
----------- ----------- ----------- ----------
Total current liabilities 713,685 85,987 645,493 77,958
Long-term debt 166,385 20,072 166,767 20,141
Capital Lease obligations, non-current portion - - 1,516 183
----------- ----------- ----------- ----------
Total liabilities 880,070 106,059 813,776 98,282
----------- ----------- ----------- ----------
Minority interests 83,333 10,052 100,245 12,107
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Shareholders' equity:
Authorized 25,000,000 shares in 1997 and 5,000,000 shares
after the 1-for-5 reverse stock split in 1998; outstanding
9,039,644 shares in 1997 and approximately 1,807,929 shares
after the 1-for-5 reverse stock split in 1998 Common Stock,
par value $0.005 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 (101,626) (12,263) (33,001) (3,985)
Cumulative translation adjustments 4,095 428 3,670 443
----------- ----------- ----------- ----------
Total shareholders' equity 115,405 13,882 183,605 22,175
----------- ----------- ----------- ----------
Total liabilities, minority interests and shareholders' equity 1,078,808 129,993 1,097,626 132,564
----------- ----------- ----------- ----------
----------- ----------- ----------- ----------
See accompanying notes to condensed consolidated financial statements
1
CHINA PACIFIC, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
FOR THE NINE MONTHS ENDED SEPTEMBER 30
(AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
JAN-SEPT 1998 JAN-SEPT 1997
-------------------------- -------------------------
RMB USD RMB USD
Net sales 633,013 76,267 757,627 91,390
Cost of goods sold (611,116) (73,628) (656,046) (79,137)
----------- ---------- ---------- ----------
Gross (loss) / profit 21,897 2,639 101,581 12,253
Selling, general and administrative expenses (71,661) (8,634) (48,312) (5,828)
Interest expenses, net (10,510) (1,266) (4,966) (599)
Other (expenses) / income, net (25,404) (3,060) 8,751 1,056
Gain on disposal of subsidiary 371 45 - -
Share of income of an associated company - - 7,236 873
----------- ---------- ---------- ----------
Income before income taxes (85,307) (10,276) 64,290 7,755
Provision for income taxes - - (4,533) (547)
----------- ---------- ---------- ----------
Income before minority interests (85,307) (10,276) 59,757 7,208
Minority interests 16,682 1,998 (23,918) (2,885)
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Net (loss) / Income (68,625) (8,278) 35,839 4,323
----------- ---------- ---------- ----------
----------- ---------- ---------- ----------
Basic earnings per common share:
Net (loss) / income (38.00) (4.58) 3.96 0.48
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----------- ---------- ---------- ----------
Weighted average number of shares outstanding
Used in basic calculation (Shares for 1998 reflected
the 1-for-5 reverse stock split) 1,807,929 1,807,929 9,039,645 9,039,645
----------- ---------- ---------- ----------
----------- ---------- ---------- ----------
Diluted earnings per common share (38.00) (4.58) 3.2 0.39
----------- ---------- ---------- ----------
----------- ---------- ---------- ----------
Weighted average number of shares
Outstanding used in diluted calculation (Shares for 1998
reflected the 1-for-5 reverse stock split) 1,807,929 1,807,929 13,680,889 13,680,889
----------- ---------- ---------- ----------
----------- ---------- ---------- ----------
See accompanying notes to condensed consolidated financial statements
2
CHINA PACIFIC, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
FOR THE THREE MONTHS ENDED SEPTEMBER 30
(AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
JUL-SEPT 1998 JUL-SEPT 1997
-------------------------- -------------------------
RMB USD RMB USD
Net sales 223,531 26,872 260,103 31,375
Cost of goods sold (208,729) (25,089) (224,065) (27,028)
----------- ---------- ----------- -----------
Gross (loss) / profit 14,802 1,783 36,038 4,347
Selling, general and administrative expenses (21,502) (2,583) (20,627) (2,488)
Interest expenses, net (3,582) (430) (1,879) (227)
Other (expenses) / income, net 2,726 333 5,728 691
Gain on disposal of subsidiary 371 45 - -
Share of income of an associated company - - 2,552 308
----------- ---------- ----------- -----------
Income before income taxes (7,185) (852) 21,812 2,631
Provision for income taxes - - (4,118) (497)
----------- ---------- ----------- -----------
Income before minority interests (7,185) (852) 17,694 2,134
Minority interests 61 7 (6,486) (782)
----------- ---------- ----------- -----------
Net (loss) / Income (7,124) (845) 11,208 1,352
----------- ---------- ----------- -----------
----------- ---------- ----------- -----------
Basic earnings per common share:
Net (loss) / income (3.94) (0.47) 1.24 0.15
----------- ---------- ----------- -----------
----------- ---------- ----------- -----------
Weighted average number of shares outstanding
Used in basic calculation (Shares for 1998 reflected
the 1-for-5 reverse stock split) 1,807,929 1,807,929 9,039,645 9,039,645
----------- ---------- ----------- -----------
----------- ---------- ----------- -----------
Diluted earnings per common share (3.94) (0.47) 1.02 0.12
----------- ---------- ----------- -----------
----------- ---------- ----------- -----------
Weighted average number of shares
Outstanding used in diluted calculation (Shares for 1998
reflected the 1-for-5 reverse stock split) 1,807,929 1,807,929 13,680,889 13,680,889
----------- ---------- ----------- -----------
----------- ---------- ----------- -----------
See accompanying notes to condensed consolidated financial statements
3
CHINA PACIFIC, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
FOR THE NINE MONTHS ENDED SEPTEMBER 30,
(AMOUNTS EXPRESSED IN THOUSANDS)
1998 1997
-------------------------- -------------------------
RMB USD RMB USD
Cash flows from operating activities:
Net (loss) / income (68,625) (8,268) 35,839 4,323
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 - - (7,237) (873)
Amortization of goodwill - - 330 40
Amortization of deferred debt costs 3,330 401 - -
Amortization of depreciation 11,187 1,348 8,249 995
Loss on disposals of fixed assets 461 56 132 16
Profit on disposals of investment properties - - (12,346) (1,489)
Impairment loss on investment properties 25,977 3,130 - -
Minority interests (16,912) (2,038) 23,918 2,885
Effect of cumulative translation adjustment 425 63 415 50
(Increase) Decrease in operating assets
Accounts receivable, (23,128) (2,787) (39,342) (4,746)
Inventories, net 50,199 6,048 (7,969) (961)
Prepayments, deposit and other current assets (27,494) (3,312) (5,620) (678)
Increase (Decrease) in operating liabilities:
Accounts payable, net (5,368) (647) (113,610) (13,704)
Accrued liabilities 53,930 6,498 10,710 1,292
Deposit from customers (48,735) (5,872) 3,788 457
Taxation 17,942 2,162 31,552 3,806
Value-added tax payable 11,571 1,394 - -
----------- ---------- ---------- -----------
Net cash provided by (used in) operating activities (15,611) (1,869) (71,191) (8,587)
----------- ---------- ---------- -----------
Cash flows from investing activities:
Acquisition of property, machinery and equipment (24) (3) (179,827) (21,692)
Acquisition of fixed assets - - (3,163) (382)
Proceeds from disposals of subsidiary 11 1 - -
Proceeds from disposals of fixed assets - - 2,685 324
Decrease in investment and notes receivable 5,604 676 - -
Proceeds from disposals of investment property - - 116,840 14,094
----------- ---------- ---------- -----------
Net cash provided by (used in) investing activities 5,591 673 (63,465) (7,656)
----------- ---------- ---------- -----------
Cash flows from financing activities:
Repayment of capital element of capital lease obligations (630) (76) (181) (22)
(Decrease) Increase in long- term debt (2,962) (357) 33,018 3,983
Increase in additional paid up capital - - (7,767) (937)
Increase in bank loan 35,000 4,217 - -
Due from CISP (8,244) (994) (33,712) (4,067)
Decrease in other receivable 35 4 (6,903) (833)
Increase in other payable 7,621 918 (3,575) (431)
Proceeds from issuance of stock - - 124,290 14,993
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Net cash provided by (used in) financing activities 30,820 3,712 105,170 12,686
----------- ---------- ---------- -----------
Net increase (decrease) in cash 20,800 2,516 (29,486) (3,557)
Cash at beginning of period 49,866 6,008 61,296 7,394
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Cash at end of period 70,666 8,524 31,810 3,837
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See accompanying notes to condensed consolidated financial statements
4
China Pacific, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
September 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.
4. RECEIVABLES DUE FROM CHENGDU IRON AND STEEL PLANT ("CISP") AND OPEN VIEW
PROPERTIES LIMITED
As of September 30, 1998, the Company had outstanding receivables of
approximately RMB373.7 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 as current
liabilities in the Company's financial statements. The remainder of the
RMB373.7 million in receivables, about RMB162.7 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
5
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
three quarters of 1998 and the fact that its current liabilities (including
the RMB211 million bank loans) exceeded its current assets as of September
30, 1998 by approximately RMB340.9 million. In addition, during 1998, the
Company utilized a bank loan facility of RMB35 million for its operations,
and this amount is truly reflected in the books of Chengdu Steel.
As noted below in Item 2, Management's 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 September 30, 1998,
these obligations have a carrying value of approximately RMB92.7 million.
5. RELATED PARTY TRANSACTIONS
As of September 14, 1998, after the purchase by Great China Industries of
654,286 shares of the Company's Common Stock (giving effect to the recent
1-for-5 reverse stock split), all previously reported related party
transactions of the Company have been reclassified as "other receivables"
or "other payables". The sole shareholder of Great China Industries is
Thomas Tong, who does not have any interest in the previously reported
transactions between the Company and the formerly related parties.
6. INVENTORIES
Inventories comprised: September 30, 1998
--------------------------
RMB'000 USD'000
Raw materials 50,968 6,141
Work-in-process 91,535 11,028
Finished goods 36,151 4,356
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178,654 21,525
------- ------
------- ------
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
7. INVESTMENT PROPERTIES
As of September 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.
8. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment comprised: September 30, 1998
RMB'000 USD'000
------- -------
Buildings 146,758 17,682
Machinery and equipment 77,219 9,303
Motor Vehicles 630 76
Furniture and office equipment 1,386 167
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225,993 27,228
Less: Accumulated depreciation (42,549) (5,126)
------- ------
183,444 22,102
Construction-in-progress: 22,585 2,721
------- ------
206,029 24,823
------- ------
------- ------
9. 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 September 30, 1998.
10. 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 were
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 was in no event to be less than USD4.00
per share nor greater than USD8.00 per share. No conversions were to be
permitted prior to May 15, 1997.
Pursuant to the preliminary agreement dated October 9, 1998, between the
Company and Bookook Securities Co. Ltd., the representative of the holders
of the notes ("Noteholders"), the terms and conditions of the Notes are to
be amended as follows: (i) the maturity date of the Notes will be extended
by two years, from January 15, 1999 to January 15, 2001; (ii) the Notes' 9
percent per annum interest rate will be reduced to 7 percent per annum, and
with respect to the 7 percent interest payable on the Notes, an amount
equal to 5 percent of the principal amount of the Notes will be paid semi-
annually; while an amount equal to 2 percent will accrue and become payable
upon the maturity of the notes; (iii) subject to any required statutory
approvals, the Notes' conversion price will be changed to
7
an amount equal to eighty percent (80%) of the average closing bid price of
the Company's Common Stock over the five most recent trading days prior to
the noteholders' exercise of their conversion right, provided that the
conversion price shall not be less than USD3.00 per share of the Company's
Common Stock, after giving effect to the Company's recent 1-for 5 reverse
stock split; (iv) subject to any required statutory approvals, the Company
will provide its 60 percent (60%) interest in Chengdu Steel as collateral
for repayment to the Noteholders of the principal on the Notes; (v) Great
China Industries Limited, which is wholly owned by Thomas Tong, will not
sell its interest in the Company until the Notes have been repaid; and (vi)
the proceeds from any public fund raising will first be used to pay the
interest due on the Notes.
As of September 30, 1998, the Company had outstanding liabilities under the
Notes of approximately USD15 million. Because the Company's Common Stock
had been trading below the Note's 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 receivables from CISP and Open View
Properties. The ability of the Noteholders to convert the Notes in full is
also dependent on obtaining required shareholder approvals for amendments
to the Company's charter authorizing sufficient Common Stock to permit such
conversion.
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, which was
effective July 9, 1996). 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
REVERSE STOCK SPLIT
The Company declared a 1-for-4 reverse stock split which was effective July
9, 1996, and a 1-for-5 reverse stock split which was effective September
28, 1998. All information herein relating to shares issued or outstanding,
including information in the footnotes, reflects the effects of these
reverse stock splits.
As a result of the Company's recent 1-for-5 reverse stock split, the number
of shares of Common Stock outstanding was reduced from 9,031,311
to approximately 1,807,929.
8
11. (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 September 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 September 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.
12. PENDING 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 giving effect to the one-for-four reverse
stock split, which was effective July 9, 1996) 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.
13. 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 September 30, 1998, the
principal operating subsidiary of the Group (Chengdu Steel) had short-term
bank loans of approximately RMB211.1 million, which are due for repayment
within twelve months. As further discussed in Note 10 above, the Company
has approximately USD15 million of convertible notes outstanding that,
giving effect to the preliminary agreement between the Company and the
Noteholders described in Note 10 above, are due January 15, 2001. 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
September 30, 1998 and as of that date the Company's current liabilities
exceeded its current assets by approximately USD41.1 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
CHINA PACIFIC, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
FOR THE PERIOD ENDED SEPTEMBER 30, 1998
COMMON STOCK TREASURY
------------------- -------------------- ADDITIONAL CUMULATIVE
ACCUMULATED NUMBER OF NUMBER OF PAID-IN DEDICATED TRANSLATION
DEFICIT SHARES* AMOUNT SHARES* AMOUNT CAPITAL CAPITAL ADJUSTMENTS
----------- ---------- ------- --------- ------- ------- --------- -----------
RMB'000 RMB'000 RMB'000 RMB'000 RMB'000 RMB'000
Balance as of December 31, 1997 (33,001) 9,039,644 75 (27,500) 1,420 191,036 23,245 3,670
Net loss (68,625) - - - - - - 425
1-for-5 reverse stock split (7,231,715)
--------- ---------- ----- ------- ------ -------- ------- ------
Bal. as of September 30, 1998 (101,626) 1,807,929 75 (27,500) 1,420 191,036 23,245 4,095
--------- ---------- ----- ------- ------ -------- ------- ------
--------- ---------- ----- ------- ------ -------- ------- ------
The accompanying notes are an integral part of these financial statements.
10
ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION
MATERIAL CHANGES IN RESULTS OF OPERATIONS
OVERVIEW. The Company has continued to face financial uncertainty during
the first nine months of 1998. Both sales volume and unit prices for steel
products manufactured by Chengdu Steel have declined during the first nine
months of 1998 from the same period in 1997, and the Company experienced a net
loss for the first three quarters of 1998 of $8.3million as compared to $4.3
million of net income during the first three quarters of 1997. Further, the
Company has current liabilities of $86 million as compared with current assets
of $44.9 million; this working capital deficit of $41.1 million compares with a
working capital deficit of $35.1 million at December 31, 1997. The increase in
working capital deficit in 1998 was the result of an increase in the bank loan
liability of the Company, which was partially offset by an increase in bank
deposits and accounts receivables as of September 30, 1998.
Net sales during the first three quarters of 1998 totaled $76.3 million
compared to net sales of $91.4 million during the same period in 1997. This
decline was partially caused by a decrease in sales volume of the Company's
steel products from approximately 292,500 tons in the first three quarters of
1997 to 281,000 tons in the first three quarter 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
$312 per ton during the first three quarters of 1997 to $271 per ton during the
first three quarters of 1998.
Cost of goods sold during the nine months ended September 30,1998 totaled
$73.6 million as compared to $79.1 million during the nine months ended
September 30, 1997. The decrease in cost of goods sold was attributable to the
decrease in sales volume from 292,500 tons in the first three quarters of 1997
to 281,000 tons in the first three quarters of 1998.
Gross profits for the nine month period ended September 30, 1998 amounted
to $2.6 million (3.5% of net sales) as compared to gross profits of $12.3
million (13.4% 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 $312 per ton during the first three quarters of 1997 to $271 per
ton during the first three quarters of 1998.
Selling, general and administrative expenses ("SG&A") during the nine
months ended September 30, 1998 totaled $8.6 million as compared to $5.8 million
during the nine months ended September 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), an additional provision for doubtful debt with respect to Chengdu
Steel that amounted to RMB12.6 million and a provision for obsolete stock of
material of Chengdu Steel that amounted to RMB 4 million for the first three
quarters of 1998.
Interest Expenses, net, during the nine months ended September 30, 1998
totaled $1.3 million as compared to interest expenses of $599,000 during the
nine months ended September 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 nine months ended September 30, 1998,
totaled $3.1 million. The Company reported $1.1 million of other income, net,
during the nine months ended September 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
11
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 three
quarters of 1998 and which was aggravated by high interest costs in Hong Kong.
The Company had income of $873,000 during the first three quarters 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 three
quarters 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 three quarters 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 nine months of 1997 and 1998.
Net losses during the period ended September 30, 1998 totaled $8.3 million
as compared to $4.3 million of net income during the first three quarters of
1997. The net losses were caused by decreases in production volume and in the
unit selling price of the Company's steel products, a provision for diminution
in value of two Hong Kong residential properties, as more fully described above,
with an additional provision for doubtful debt in Chengdu Steel that amounted to
RMB 12.6 million within the period 1998 and also a provision for obsolete stock
made at September 30, 1998 that amounted to RMB 4 million.
MATERIAL CHANGES IN FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES
OVERVIEW. During the nine months ended September 30, 1998, the Company has
seen its working capital deficit increase from $35.1 million at December 31,
1997 to $41.1 million at September 30, 1998. As described below, the Company
has negotiated a preliminary agreement to extend the maturity of the $15 million
of its convertible 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 RMB373.7
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 September 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 in 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
12
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.
As of September 30, 1998, the Company had outstanding receivables of
approximately RMB373.7 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 RMB373.7 million in receivables, about RMB162.7 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 three quarters
of 1998 and the fact that its current liabilities (including the RMB211 million
bank loans) exceeded its current assets as of September 30, 1998 by
approximately RMB340.9million. In addition, during 1998, the Company utilized
its bank loan facility of RMB35 million for its operations, and this amount is
properly reflected in the books of CCIS.
As of September 30, 1998, the Company has outstanding liabilities under 9%
convertible notes due January 15, 2001 (the "Notes") of approximately $15
million. Details regarding the Notes are as described above in note 10 to the
accompanying financial statements.
On September 30, 1998 the Company had a working capital deficit of $41.1
million and cash balances of $8.5 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. This change in working capital was attributable to the
Company's operating losses.
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.
On September 30, 1998, the primary obligations of the Company consisted of
$52.2 million as compared to $48.4 million on December 31, 1997. The primary
obligations of the Company on September 30, 1998 consisted of (a) short-term
bank loans amounting to $29.7 million , (b) $15 million of 9% convertible notes
due January 15, 1999, (c) long-term bank loans in the amount of $5.1 million.
Maturities on long-term debt total $2.4 million during 1998.
13
RESTRICTED BANK DEPOSITS
As of September 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 adequate consideration of the impact of the forthcoming new
century and may, as a result, fail to operate reliably when handling dates after
December 31, 1999. Likewise, embedded technology, such as microcontrollers,
utilized in some of the Company's buildings, plant, equipment, and other
infrastructure, may be affected by year 2000 issues.
The Company has not yet determined what risks year 2000 issues may pose to
the Company's operations or financial results, and these issues may have a
material adverse impact on such results. The Company's management is currently
determining which of its systems may be affected by year 2000 issues. In
addition, the Company is not yet aware of the extent to which its significant
vendors, suppliers, and customers will be affected by year 2000 issues, and the
Company is in the processs of assessing the extent to which their status with
respect to year 2000 issues will impact the Company's operations and financial
results.
Upon completion of the above assessment, the Company will develop a plan to
address the year 2000 issues identified thereby. Since the review is not yet
complete, the Company's management has not yet determined what measures may be
required to avoid or mitigate year 2000 problems, or what the cost of these
measures might be. The Company has not, to date, made any expenditures related
to the remediation of year 2000 issues. Until the Company has completed the
assessment of its year 2000 exposure, it will be unable to determine whether it
will have access to adequate funds to appropriately mitigate that exposure.
14
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 giving effect
to the one-for-four reverse stock split, which was effective July 9, 1996) 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 7, 1998 announcing
resignation of Mr. Clement Mak as Chairman of the Board and Chief
Executive Officer (Item 5).
(2) Form 8-K filed with the SEC on July 29, 1998 announcing changes
in China Pacific, Inc.'s Board of Directors (Item 5).
(3) Form 8-K filed with the SEC on October 7, 1998 announcing the
management buyout of the Company (Item 5).
15
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: November 10, 1998 /s/ Thomas Tong
Thomas Tong, Acting President and Chief
Financial Officer
Date: November 10, 1998 /s/ Chun-Hing Lo
Chun-Hing Lo, Chief Operating Officer
16