U.S. SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C.
20549
FORM 10-QSB
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarter ended September 30, 2004
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from_________________ to________________
Commission File No. 000-49630
CHINA AUTOPARTS, INC.
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(Exact name of small business issuer as specified in its charter)
Delaware 13-4168913
- --------------------------------------------------------------------------------
(State or other jurisdiction of (IRS Employer Identification
incorporation or organization) No.)
276 Fifth Ave., Suite 703, New York, NY 10001
---------------------------------------------
(Address of principal executive offices)
212-684-3760
(Issuer's telephone number)
Check whether the issuer (1) has filed all reports required to be filed by
Section 13 or 15 (d) of the Exchange Act during the preceding 12 months (or for
such shorter period that the issuer was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days.
Yes [X] No [_]
APPLICABLE ONLY TO CORPORATE ISSUERS:
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date: as of November 12, 2004 there were
9,090,910 shares outstanding.
Transitional Small Business Format: Yes [_] No [X]
1
PART I -- FINANCIAL INFORMATION
CHINA AUTOPARTS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
AS OF SEPTEMBER 30, 2004 AND DECEMBER 31, 2003
A S S E T S
September 30, December 31,
2004 2003
------------ ------------
(Unaudited) (Audited)
------------ ------------
CURRENT ASSETS:
Cash $ 142,049 $ 488,001
Cash - restricted 1,755,763 2,057,000
Accounts receivable, trade, net of allowance for doubtful
accounts of $20,430 as of September 30, 2004 and December 31, 2003 6,392,036 6,789,525
Accounts receivable, trade special 3,372,300 943,800
Other receivables, net of allowance for doubtful accounts of $278,300
as of September 30, 2004 and December 31, 2003 291,206 407,470
Other receivables - related party 3,023,801 5,462,785
Prepaid expense 1,995,709 1,030,156
Prepaid expense-related party 16,048 --
Inventories 1,400,822 2,136,674
------------ ------------
Total current assets 18,389,734 19,315,411
------------ ------------
PLANT AND EQUIPMENT, net 2,672,172 2,554,007
------------ ------------
OTHER ASSETS:
Intangible asset, net 149,938 162,790
Employee advances 125,119 333,247
------------ ------------
Total other assets 275,057 496,037
------------ ------------
Total assets $ 21,336,963 $ 22,365,455
============ ============
L I A B I L I T I E S A N D S H A R E H O L D E R S' E Q U I T Y
CURRENT LIABILITIES:
Accounts payable $ 796,626 $ 1,854,085
Accounts payable - related party -- 15,675
Advances from customers 58,416 54,934
Wages and benefits payable 304,559 689,225
Income and other taxes payable 398,595 527,011
Accrued liabilities 520,478 379,689
Other payables 2,226,642 1,333,471
Other payables - related party -- 242,000
Dividend payable 497,804 --
Notes payable - bank 3,025,000 5,445,000
Short-term loans payable - bank 4,840,000 4,840,000
------------ ------------
Total current liabilities 12,668,120 15,381,090
------------ ------------
CONTINGENCIES -- --
------------ ------------
SHAREHOLDERS' EQUITY:
Preferred stock, $.0001 par value, 1,000,000 shares authorized,
none issued,Common stock, $.0001 par value, 20,000,000
shares authorized,
9,090,910 and 500,000 shares issued and outstanding, respectively 959 100
Paid-in-capital 336,372 312,971
Statutory reserve 1,561,222 1,561,222
Retained earnings 6,757,871 5,101,798
Accumulated other comprehensive income 12,419 8,274
------------ ------------
Total shareholders' equity 8,668,843 6,984,365
------------ ------------
Total liabilities and shareholders' equity $ 21,336,963 $ 22,365,455
============ ============
The accompanying notes are an integral part of this statement.
2
CHINA AUTOPARTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME AND OTHER COMPREHENSIVE INCOME
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2004 AND 2003
Three months ended Nine months ended
-------------------------- ---------------------------
September 30, September 30,
-------------------------- ---------------------------
2004 2003 2004 2003
------------ ------------ ------------ ------------
(Unaudited) (Unaudited) (Unaudited) (Unaudited)
------------ ------------ ------------ ------------
REVENUES $ 3,823,660 $ 3,534,462 $ 13,207,879 $ 12,283,108
COST OF SALES 2,743,539 2,310,551 8,912,900 7,160,737
------------ ------------ ------------ ------------
GROSS PROFIT 1,080,121 1,223,911 4,294,979 5,122,371
OTHER OPERATING INCOME 50,479 84,969 132,493 316,151
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES 474,567 251,027 1,333,581 1,147,374
------------ ------------ ------------ ------------
INCOME FROM OPERATIONS 656,033 1,057,853 3,093,891 4,291,148
OTHER EXPENSE, net of other income 95,830 42,936 222,249 330,288
------------ ------------ ------------ ------------
INCOME BEFORE INCOME TAXES 560,203 1,014,917 2,871,642 3,960,860
PROVISION FOR INCOME TAXES 42,211 106,957 215,569 297,065
------------ ------------ ------------ ------------
NET INCOME 517,992 907,960 2,656,073 3,663,795
OTHER COMPREHENSIVE INCOME (LOSS):
Foreign currency translation adjustment 1 4,780 4,145 (515)
------------ ------------ ------------ ------------
COMPREHENSIVE INCOME $ 517,993 $ 912,740 $ 2,660,218 $ 3,663,280
============ ============ ============ ============
EARNINGS PER SHARE, BASIC AND DILUTE$ 0.06 $ 1.83 $ 0.48 $ 7.33
============ ============ ============ ============
WEIGHTED AVERAGE NUMBER OF SHARES 9,090,910 500,000 5,579,297 500,000
============ ============ ============ ============
The accompanying notes are an integral part of this statement.
3
CHINA AUTOPARTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2004 AND 2003
Number Common Paid in Statutory Retained
of shares stock capital reserves earnings
----------- ------------- --------------- --------------- ----------------
(Unaudited) (Unaudited) (Unaudited) (Unaudited) (Unaudited)
----------- ------------- --------------- --------------- ----------------
BALANCE, January 1, 2003, audited 500,000 $ 100 $ 280,624 $ 1,174,549 $ 5,253,143
Net income 3,663,795
Land use right 24,260
Foreign currency translation adjustments
----------- ------------ -------------- ------------- ---------------
BALANCE, September 30, 2003 500,000 100 304,884 1,174,549 8,916,938
Net income 209,623
Land use right 8,087
Adjustment to statutory reserve 386,673 (386,673)
Dividend distributions (3,638,090)
Foreign currency translation adjustments
----------- ------------ -------------- ------------- ---------------
BALANCE, December 31, 2003, audited 500,000 100 312,971 1,561,222 5,101,798
Issuance of common stock to Rhohan
shareholders due to reorganization 8,590,910 859 (859)
Net income 2,656,073
Land use right 24,260
Dividend distribution (1,000,000)
Foreign currency translation adjustments
----------- ------------ --------------- -------------- ----------------
BALANCE, September 30, 2004 9,090,910 $ 959 $ 336,372 $ 1,561,222 $ 6,757,871
=========== ============ =============== ============== ================
Accumulated
other
comprehensive
income (loss) Totals
---------------- ---------------
(Unaudited) (Unaudited)
---------------- ---------------
BALANCE, January 1, 2003, audited $ 8,213 $ 6,716,629
Net income 3,663,795
Land use right 24,260
Foreign currency translation adjustments (515) (515)
--------------- --------------
BALANCE, September 30, 2003 7,698 10,404,169
Net income 209,623
Land use right 8,087
Adjustment to statutory reserve ~~
Dividend distributions (3,638,090)
Foreign currency translation adjustments 576 576
--------------- --------------
BALANCE, December 31, 2003, audited 8,274 6,984,365
Issuance of common stock to Rhohan
shareholders due to reorganization --
Net income 2,656,073
Land use right 24,260
Dividend distribution (1,000,000)
Foreign currency translation adjustments 4,145 4,145
--------------- --------------
BALANCE, September 30, 2004 $ 12,419 $ 8,668,843
=============== ==============
The accompanying notes are an integral part of this statement.
4
CHINA AUTOPARTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2004 AND 2003
2004 2003
----------- -----------
(Unaudited) (Unaudited)
----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 2,656,073 $ 3,663,795
Adjustments to reconcile net income to cash
provided by (used in) operating activities:
Foreign currency translation adjustments 4,145 (515)
Depreciation 161,680 104,254
Loss on disposal of equipment -- 3,557
Amortization 12,852 3,029
Land use right 24,260 24,260
(Increase) decrease in assets:
Change in restricted cash 301,237 (1,694,000)
Accounts receivable - trade 397,489 (378,335)
Accounts receivable - trade special (2,428,500) (39,049)
Other receivables 116,264 (892,615)
Other receivables - related party 2,438,984 (2,022,855)
Prepaid expenses (965,553) (844,546)
Prepaid expense-related party (16,048) --
Inventories 735,852 (510,980)
Employee advances 208,128 (226,220)
Increase (decrease) in liabilities:
Accounts payable (1,057,459) 1,867,727
Accounts payable - related party (15,675) --
Advances from customers 3,482 28,034
Wages and benefits payable (384,666) (258,147)
Income and other taxes payable (128,416) 499,545
Accrued liabilities 140,789 41,948
Income and other payables 893,171 (707,468)
Other payables - related party (242,000) (544,500)
----------- -----------
Net cash provided by (used in) operating activities 2,856,089 (1,883,081)
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of intangible asset - land use right -- (117,558)
Purchase of fixed assets (182,687) (81,511)
Sale of fixed assets -- 3,630
(Increase) in fixed assets from Donation (15,464) --
(Increase) in construction in progress (81,694) (1,534,506)
----------- -----------
Net cash used in investing activities (279,845) (1,729,945)
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Borrowings net of payments on short term notes payable (2,420,000) 3,630,000
Decrease in bank overdraft -- (16,974)
Dividends paid (502,196) --
----------- -----------
Net cash provided by (used in) financing activities (2,922,196) 3,613,026
----------- -----------
DECREASE IN CASH (345,952) --
CASH, beginning of period 488,001 --
----------- -----------
CASH, end of period $ 142,049 $ --
=========== ===========
The accompanying notes are an integral part of this statement.
5
CHINA AUTOPARTS, INC. AND SUBSIDIARIES
CONDENSED NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Note 1 - Summary of significant accounting policies
Background
On May 13, 2004, China Autoparts, Inc. (formerly known as Talram Corporation)
(referred to as CHINA AUTOPARTS or the Company), a Delaware corporation,
completed a "reverse acquisition" transaction in which it acquired all the
outstanding stock of Rhohan Holdings Limited (referred to as RHOHAN), a British
Virgin Islands (BVI) corporation, in consideration for the issuance of a
majority of CHINA AUTOPARTS's common shares.
The reverse acquisition was completed pursuant to a Capital Stock Exchange
Agreement dated April 22, 2004. Concurrently with the closing of the reverse
acquisition, Talram's shareholders changed the Company's name to China
Autoparts, Inc., its directors appointed designees of Double Unity Investments
Limited (100% shareholder of RHOHAN) as directors and then resigned as
directors, for further explanation of the transaction; these financial
statements should be read in conjunction with the Company's form 8K dated May
13, 2004.
China Autoparts, Inc. was incorporated in the State of Delaware on May 1, 2001.
Up until the reorganization, CHINA AUTOPARTS had only nominal assets and
liabilities and was a development stage company attempting to locate and
consummate a merger with an ongoing business. As a result of the reorganization,
CHINA AUTOPARTS will continue the business operations of RHOHAN.
Rhohan Holdings Limited was incorporated on September 9, 1999 in the territory
of the British Virgin Islands. The Company, through its wholly owned subsidiary
Chengdu Tonglin Casting Industrial Co., Ltd. (TONGLIN), principally engages in
the development, production, sales and related technical service provision of
various types of petrol engine cylinder body and other casting products in the
People's Republic of China (PRC).
Chengdu Tonglin Casting Industrial Co., Ltd. was established in Dayi County of
Chengdu by Chengdu Rongxin Enterprises Co., Ltd. (Rongxin) and Rhohan Holdings
Limited (RHOHAN) as a Sino-foreign equity joint venture on January 21, 2000.
TONGLIN was classified as a Foreign Invested Enterprise (FIE) in the PRC and is
subject to the FIE laws of the PRC. TONGLIN is a Chinese registered limited
liability company with a legal structure similar to a regular corporation and a
limited liability company organized under state laws in the United States of
America. The Articles of Association provides for a 50 year term with original
registered capital of approximately $2,005,000. RHOHAN was formerly owned 100%
by Double Unity Investments Limited (referred to as Double Unity), a British
Virgin Islands corporation. Double Unity Investments Limited is 100% owned by
Mr. Li Yungao. Rongxin is 100% owned by the Company's shareholder, Mr. Li
Yungao.
Originally Rongxin owned 40% and RHOHAN owned 60% of TONGLIN. On July 5, 2001,
the registered capital of TONGLIN was increased to approximately $3,214,000 and
RHOHAN's ownership in TONGLIN increased to 75% and Rongxin's ownership was
reduced to 25%. RHOHAN paid for its increase in capital through its portion of
undistributed earnings. In October 2002, Rongxin agreed to transfer its
remaining 25% ownership in TONGLIN to RHOHAN for approximately $2,178,000 which
was paid from dividends distributed by TONGLIN.
6
Note 1 - Summary of significant accounting policies, (continued)
On November 20, 2003, this transfer was approved by the State Administration for
Industry and Commerce of the PRC. As a result of this transfer TONGLIN became a
wholly foreign owned enterprise (WFOE).
As of April 22, 2004, China Autoparts, Inc. owns the following subsidiaries:
Percentage
Subsidiary Ownership
- ----------------------------------------------------- ----------------
Rhohan Holdings Limited (BVI company) 100% 100%
owned by China Autoparts, Inc.
Chengdu Tonglin Casting Industrial Co., Ltd 100%
(Chinese registered limited liability
company), owned 100% by
Rhohan Holdings Limited
The reporting entity
The financial statements in the fillings of CHINA AUTOPARTS become those of
RHOHAN. The consolidated financial statements of China Autoparts, Inc. and
subsidiaries represent the activities of its 100% owned subsidiaries, Rhohan
Holdings Limited and Chengdu Tonglin Casting Industrial Co., Ltd. Talram's
continuing operations and balance sheet are insignificant and therefore not
included in these financial statements.
Basis of presentation
Prior to April 22, 2004 Talram was considered to be a "development stage"
enterprise and its financial statements from December 31, 2003 and prior were
presented in accordance with Statement of Financial Accounting Standards (SFAS)
No. 7, "Accounting and Reporting by Development Stage Enterprises". As a result
of the reverse acquisition of Rhohan Holdings Limited, the Company is no longer
considered to be a "development stage enterprise" and is no longer required to
report its financial statements in accordance with SFAS No. 7.
The consolidated financial statements represent the activities of the Company
and its wholly owned subsidiaries. The Company's financial statements are
prepared in conformity with accounting principles generally accepted in the
United States of America.
Foreign currency translation
The reporting currency of the Company is the US dollar. TONGLIN uses its local
currency, Renminbi, as its functional currency. Results of operations and cash
flow are translated at average exchange rates during the period, and assets and
liabilities are translated at the end of period exchange rates. Translation
adjustments resulting from this process are included in accumulated other
comprehensive income in the consolidated statement of shareholders' equity.
7
Note 1 - Summary of significant accounting policies, (continued)
Foreign currency translation (continued)
Transaction gains and losses that arise from exchange rate fluctuations on
transactions denominated in a currency other than the functional currency are
included in the results of operations as incurred. These amounts are not
material to the consolidated financial statements.
Revenue recognition
Product sales are recognized when the products are delivered and title has
passed. The Company offers no warranties on its products. However, the customers
have 3-5 days to inspect the goods and to notify the Company if there are any
products that do not meet the quality standards set forth in their contracts.
The Company at this time replaces the defective goods with new products. The
defective goods are returned to the Company and are reworked and returned to
inventory.
Sales revenue represents the invoiced value of goods, net of a value-added tax
(VAT). All of the Company's products that are sold in the PRC are subject to a
Chinese value-added tax at a rate of 17% of the gross sales price. This VAT may
be offset by VAT paid by the Company on raw materials and other materials
included in the cost of producing their finished product.
Plant and equipment, net
Plant and equipment are recorded at cost. Depreciation is computed using the
straight-line method over the estimated useful lives of the assets. Depreciation
expense for the nine months ended September 30, 2004 and 2003 amounted to
$161,680 and $104,254, respectively. Estimated useful lives of the assets are as
follows:
Estimated Useful Life
Buildings 20-30 years
Machinery and equipment 10-15 years
Furniture and fixtures 5-10 years
Construction in progress includes engineering costs, insurance costs, wages,
interest and other costs relating to construction in progress. Balances in
construction in progress are transferred to equipment when the related assets
are ready for their intended use. No depreciation is provided for on
construction in progress.
Maintenance, repairs and minor renewals are charged directly to expenses as
incurred. Major additions and betterment to property and equipment are
capitalized.
Long-term assets of the Company are reviewed annually as to whether their
carrying value has become impaired. The Company considers assets to be impaired
if the carrying value exceeds projected future cash flows from related
operations. The Company also re-evaluates the periods of amortization to
determine whether subsequent events and circumstances warrant revised estimates
of useful lives. As of September 30, 2004, the Company expects these assets to
be fully recoverable.
8
Note 1 - Summary of significant accounting policies, (continued)
Plant and equipment consist of the following:
September 30, December 31,
2004 2003
----------- -----------
(Unaudited) (Audited)
----------- -----------
Buildings and improvements $ 1,187,128 $ 1,187,128
Machinery and equipment 2,372,846 2,064,257
Construction in progress 36,070 64,850
----------- -----------
Totals 3,596,044 3,316,235
Accumulated depreciation (923,872) (762,228)
----------- -----------
Property and equipment, net $ 2,672,172 $ 2,554,007
=========== ===========
In the year 2000, Rongxin, as part of its original capital contribution to
TONGLIN, contributed certain buildings, machinery, and equipment in the amount
of RMB 5,111,248, or approximately $618,500. The buildings, machinery, and
equipment were originally purchased by Rongxin through financing provided by
Rongxin's banking institution and were pledged as collateral for this loan. The
term of this loan commenced on August 31, 1999 and expired on August 30, 2004.
The titles of the buildings, machinery, and equipment are still in the name of
Rongxin. Currently, Rognxin is in the process of transferring to TONGLIN. As of
the date of this report, the titles of the said buildings, machinery, and
equipment (net book value of $131,393) have not been transferred to TONGLIN.
Use of estimates
The preparation of financial statements in conformity with generally accepted
accounting principles of the United States of America requires management to
make estimates and assumptions that affect the amounts reported in the
consolidated financial statements and accompanying notes. Management believes
that the estimates utilized in preparing its financial statements are reasonable
and prudent. Actual results could differ from these estimates.
Cash and concentration of risk
Cash includes cash on hand and demand deposits in accounts maintained with
state-owned banks within the People's Republic of China. Total cash in
state-owned banks at September 30, 2004 and December 31, 2003 amounted to
$1,889,214 and $2,500,000, respectively, of which no deposits are covered by
insurance. The Company has not experienced any losses in such accounts and
believes it is not exposed to any risks on its cash in bank accounts.
The Company has a concentration of sales risk where five customers represents
91.6% or $12,100,957 of total sales for the nine months ended September 30,
2004, as compared to 93.5% or $11,478,709 for five customers in the nine months
ended September 30, 2003. Total outstanding accounts receivable for these
customers amounted to $5,332,862 and $4,959,943 as of September 30, 2004 and
December 31, 2003, respectively.
9
Note 1 - Summary of significant accounting policies, (continued)
Cash-restricted
The Company through its bank agreements is required to keep certain cash amounts
on deposit which are subject to withdrawal restrictions. The restricted amounts
are $1,755,763 and $2,057,000 as of September 30, 2004 and December 31, 2003,
respectively.
Inventories
Inventories are stated at the lower of cost or market on the first in first out
method of accounting and consist of the following:
September 30, December 31,
2004 2003
---------- ----------
(Unaudited) (Audited)
---------- ----------
Raw materials $ 132,592 $ 936,619
Finished goods 1,268,230 1,200,055
---------- ----------
Totals $1,400,822 $2,136,674
========== ==========
Financial instruments
Statement of Financial Accounting Standards No. 107 (SFAS 107), "Disclosures
About Fair Value of Financial Instruments" requires disclosure of the fair value
of financial instruments held by the Company. SFAS 107 defines the fair value of
financial instruments as the amount at which the instrument could be exchanged
in a current transaction between willing parties. The Company considers the
carrying amount of cash, accounts receivable, other receivables, accounts
payable, accrued liabilities and other payables to approximate their fair values
because of the short period of time between the origination of such instruments
and their expected realization and their current market rate of interest.
Accounts receivable, trade
The Company conducts its business operations in the People's Republic of China.
During the normal course of business, the Company extends unsecured credit to
its customers. Management reviews its accounts receivable on a regular basis to
determine if the bad debt allowance is adequate at each year-end. However, the
Company records a provision for accounts receivable trade that ranges from 0.3%
to 1.0% of the outstanding accounts receivable balance in accordance with
generally accepted accounting principles in the PRC. The allowance for doubtful
accounts as of September 30, 2004 and December 31, 2003 amounted to $20,430.
Accounts receivable, trade special
This amount represents trade accounts receivable due from various customers for
which the customers' banks have guaranteed payments of the receivable. This
amount is non-interest bearing and is normally paid within three to six months.
The Company has the ability to submit a request for payment to the customer's
bank earlier than the scheduled payment date; however, the Company incurs
interest and processing fee in such instances.
10
Note 1 - Summary of significant accounting policies, (continued)
Intangible assets
All land in the People's Republic of China is owned by the government and cannot
be sold to any individual or company. However, the government grants the user a
"land use right" (the Right) to use the land. In 2003, TONGLIN purchased the
Right to use the land for 50 years from the government for a fee in the amount
of $171,358.
The Right is being amortized over a minimum life of 10 years in accordance with
generally accepted accounting principles in the PRC. The expense for the nine
months ended September 30, 2004 and 2003 amounted to $12,852 and $3,029,
respectively. However, the Certificate of Land Use Right for this land is held
in the name of Chengdu Rongxin Industrial Co., Ltd., a related party. TONGLIN
has applied for a name change on the Certificate of the Land Use Right. As of
the date of this report this process has not been finalized.
The Certificates of Land Use Rights of approximately 57,347 Chinese acres of
land are occupied by buildings operated by TONGLIN, which are held in the name
of Chengdu Rongxin Industrial Co., Ltd., a related party. The land use rights
have been acquired from 1998 through 2000 for a life of 50 years. Chengdu
Rongxin Industrial Co., Ltd. has verbally agreed to let TONGLIN use the property
for agreed upon purposes through the life of the Land Use Rights. However, the
Land Use Rights remains in the name of Chengdu Rongxin Industrial Co., Ltd.
TONGLIN is not charged for the use of the land nor has an asset been reflected
on TONGLIN's balance sheet for these rights. The original cost of the land use
rights amounted to $324,076. In order to better report the actual expenses of
the operations the Company has reported in the accompanying consolidated
statements of income an expense for the use of the land with a corresponding
entry to paid-in-capital. The Rights are being amortized over 10 years based
upon the original cost of the rights and the expense for the nine months ended
September 30, 2004 and 2003 amounted to $24,260.
Chengdu Rongxin Industrial Co., Ltd. has not indicated to TONGLIN that they will
need the use of the land within the next year. However, Chengdu Rongxin
Industrial Co., Ltd. has the right to occupy the land once notification is given
to TONGLIN.
Income taxes
The Company has adopted Statement of Financial Accounting Standards No. 109,
"Accounting for Income Taxes" (SFAS 109). SFAS 109 requires the recognition of
deferred income tax liabilities and assets for the expected future tax
consequences of temporary differences between income tax basis and financial
reporting basis of assets and liabilities. Provision for income taxes consists
of taxes currently due plus deferred taxes. There are no deferred taxes as of
September 30, 2004 and 2003.
The charge for taxation is based on the results for the year as adjusted for
items, which are non-assessable or disallowed. It is calculated using tax rates
that have been enacted or substantively enacted by the balance sheet date.
11
Note 1 - Summary of significant accounting policies, (continued)
Income taxes, (continued)
Deferred tax is accounted for using the balance sheet liability method in
respect of temporary differences arising from differences between the carrying
amount of assets and liabilities in the financial statements and the
corresponding tax basis used in the computation of assessable tax profit.
In principle, deferred tax liabilities are recognized for all taxable temporary
differences, and deferred tax assets are recognized to the extent that it is
probably that taxable profit will be available against which deductible
temporary differences can be utilized.
Deferred tax is calculated at the tax rates that are expected to apply to the
period when the asset is realized or the liability is settled. Deferred tax is
charged or credited in the income statement, except when it related to items
credited or charged directly to equity, in which case the deferred tax is also
dealt with in equity. Deferred tax assets and liabilities offset each other when
they relate to income taxes levied by the same taxation authority and the
Company intends to settle its current tax assets and liabilities on a net basis.
The Company through its subsidiary, TONGLIN, is governed by the Income Tax Law
of the People's Republic of China (PRC) concerning Foreign Investment
Enterprises and Foreign Enterprises and various local income tax laws (the
Income Tax Laws). Income Tax Law of the People's Republic of China for
Enterprises with Foreign Investments and Foreign Enterprises states, "Any
enterprise with foreign investments of a production nature scheduled to operate
for a period of not less than ten years shall, upon examination and verification
by the tax authorities in the year the company begins to make a profit, will be
exempted from income taxes in the first and second years and allowed a fifty
percent reduction in the standard tax rates in the third to fifth years."
Under the Income Tax Laws, foreign investment enterprises (FIE) generally are
subject to an income tax at an effective rate of 33% (30% state income taxes
plus 3% local income taxes) on incomes reported in the statutory financial
statements after appropriate tax adjustments, unless the enterprise is located
in a specially designated region for which more favorable effective tax rates
are applicable.
The Company was exempt from income tax from 2000 to 2001. TONGLIN is located in
a Special Economic Zone and the PRC tax authorities have approved a special
income tax rate of 15% for this area. In addition, TONGLIN in accordance with
the Circular of Transmission the State Administration of Taxation of Sichuan
Province on Implementing the Relevant Tax Policies of Development of the West
Regions and Implementation of the Suggested Policies of State Administration of
Taxation, "the enterprise income tax of the foreign investment enterprises in
the legal tax reduction period shall be reduced by 7.5%." TONGLIN generated
profits in the year ended December 31, 2000. Effective January 1, 2002, the
two-year 100% exemption for income taxes had expired for TONGLIN and it became
subject to income tax at a reduced rate of 7.5%. The Company is not subject to
any local income tax of 3% until the exemption and reduction periods expire in
2005.
12
Note 1 - Summary of significant accounting policies, (continued)
Income taxes, (continued)
The provision for income taxes at September 30 consisted of the following:
2004 2003
-------- --------
Provision for China income tax $215,569 $297,065
Provision for China local tax -- --
Deferred taxes -- --
-------- --------
Total provision for income taxes $215,569 $297,065
======== ========
The following table reconciles the U.S. statutory rates to the Company's
effective tax rate:
2004 2003
------ ------
U.S. Statutory rates 34.0% 34.0%
Foreign income not recognized in USA (34.0) (34.0)
China income taxes 7.5 7.5
------ ------
Totals 7.5% 7.5%
====== ======
The Company has recorded an allowance for bad debts in the amount of $278,300 as
further described in note 5. This amount has been recorded as an expense for
financial statement purposes. However, the ultimate deduction for Chinese income
tax purposes has not been determined and the amount to be deducted must be
approved by the appropriate Chinese taxing authority. A valuation allowance for
the entire amount has been established due to the uncertainty of realizing the
deduction of this expense for income tax purposes as a result of this
uncertainty no deferred taxes has been provided in the accompanying consolidated
financial statements.
Value added tax
Enterprises or individuals who sell commodities, engage in repair and
maintenance or import and export goods in the PRC are subject to a value added
tax in accordance with Chinese laws. The value added tax standard rate is 17% of
the gross sales price. A credit is available whereby VAT paid on the purchases
of semi-finished products or raw materials used in the production of the
Company's finished products can be used to offset the VAT due on sales of the
finished product.
From TONGLIN's inception in the year 2000 through the year 2002, TONGLIN adopted
the Tax Package Policy issued by the Dayi County Government, which requires
TONGLIN to pay its tax to the appropriate taxing authority based upon the annual
fixed amount set forth by the Dayi County Government. The fixed tax amount set
forth for TONGLIN in 2002 amounted to RMB 8,000,000. The Tax Package Policy was
terminated on January 1, 2003. The Company is subject to the value added tax at
the standard rate of 17% on the gross sales price of all products sold within
the PRC.
On August 14, 2003, the State Taxation Administration of Dayi County Sichuan
Province issued a certificate stating that the income tax and valued added tax
of TONGLIN from inception through the year ending December 31, 2002 have been
fully paid.
13
Note 2 - Condensed financial statements and footnotes
The interim consolidated financial statements presented herein have been
prepared by the Company and include the unaudited accounts of the Company and
its subsidiaries. All significant inter-company accounts and transactions have
been eliminated in the consolidation.
These consolidated financial statements have been prepared in accordance with
generally accepted accounting principles in the United States for interim
financial information and the instructions for Form 10-QSB and Article 10 of
Regulation S-X. Certain information and footnote disclosures that are normally
included in financial statements presented in accordance with generally accepted
accounting principles have been condensed or omitted. Management of the Company
believes the disclosures made are adequate to make the information presented not
misleading. The condensed consolidated financial statements should be read in
conjunction with CHINA AUTOPARTS' audited financial statements included in its
Annual Report on Form 10-KSB dated March 19, 2004 and RHOHAN's audited
consolidated financial statements for the year ended December 31, 2003 and notes
thereto included in CHINA AUTOPARTS' Current Report on Form 8-K, dated May 13,
2004.
In the opinion of management, the unaudited condensed consolidated financial
statements reflect all adjustments (which include only normal recurring
adjustments) necessary to present fairly the financial position of the Company
as of September 30, 2004, and the results of operations, changes in
shareholders' equity and cash flows for the nine months ended September 30, 2004
and 2003. Interim results are not necessarily indicative of full year
performance because of the impact of seasonal and short-term variations.
Note 3 - Supplemental disclosure of cash flow information
Income taxes paid amounted to $182,002 and $219,845 for the nine months ended
September 30, 2004 and 2003, respectively. Interest paid (including interest
paid to related parties) for the nine months ended September 30, 2004 and 2003
amounted to $221,666 and $212,755 respectively.
In 2003, TONGLIN made a non-cash shareholders' distribution of $3,638,090 to
offset other receivables/payables due from/to related parties.
In April, 2004, RHOHAN declared a $1,000,000 dividend distribution of which
$502,196 was paid by September 30, 2004 with the remaining $497,804 recorded as
a dividend payable on the accompanying balance sheet.
On April 22, 2004, the Company issued 8,590,910 shares of common stock in a
reverse acquisition transaction for no cash.
14
Note 4 - Earnings per share
The Company adopted Statement of Financial Accounting Standards No. 128,
"Earnings Per Share" (SFAS 128). SFAS 128 requires the presentation of earnings
per share (EPS) as Basic EPS and Diluted EPS. There are no differences between
Basic and Diluted EPS for the nine months ended September 30, 2004 and 2003
(5,579,297 was the weighted average number of shares used to calculate EPS for
the nine months ended September 30, 2004 and 500,000 was the number of shares
used to calculate EPS for the nine months ended September 30, 2003.)
The weighted average number of shares used to calculate EPS for the nine months
ended September 30, 2003 reflects only the 500,000 shares outstanding for that
period and does not include the 8,590,910 shares issued on April 22, 2004 in the
reverse acquisition transaction.
Weighted average number of shares outstanding as of September 30, 2004 is
computed as follows:
Dates Shares Weighted -
Outstanding Outstanding Days Average Shares
- ------------------------ ------------- --------- ----------------
Year - 2004
- ------------------------
January 1 - September 30 500,000 274 137,000,000
April 22 - September 30 8,590,910 162 1,391,727,420
--------- ---------------
Totals 274 1,528,727,420
========= ===============
Weighted-average shares - 9 months 5,579,297
===============
July 1 - September 30 500,000 90 45,000,000
July 1 - September 30 8,590,910 90 773,181,900
--------- ---------------
Totals 90 818,181,900
========= ===============
Weighted-average shares - 3 months 9,090,910
===============
Note 5 - Other receivables
In 2003 the Company made a prepayment of $278,300 to purchase several molds to
be used in its operations. As of December 31, 2003, the molds were never
delivered by the vendor. The Company is currently in litigation with the vendor.
Management intends to pursue collection of this receivable; however, management
is uncertain that they will prevail in collecting the entire amount. As of
September 30, 2004, management has decided to fully reserve this amount as
uncollectible.
15
Note 6 - Notes payable - bank
The Company has the following lines of credit outstanding:
September 30, December 31,
2004 2003
--------------- ---------------
Unaudited Audited
--------------- ---------------
Shanghai Pu Dong Development Bank, Chengdu Branch
due June 2004, transaction fee at 0.05%
restricted cash requirement of 30% or $363,000
Chengdu Rongxin Ruigao Machinery Co., Ltd.
guaranteed the difference between the cash
amount deposited and the credit line amount $ - $ 1,210,000
Chengdu City Commercial Bank, Dayi Branch
due May 2004, transaction fee at 0.05%
restricted cash requirement of 40% or $726,000
Chengdu Rongxin Industrial Co., Ltd. guaranteed the
difference between the cash amount deposited
and the credit line amount $ - $ 1,815,000
Chengdu City Commercial Bank, Dayi Branch
due June 2004, transaction fee at 0.05%
restricted cash requirement of 40% or $968,000
Chengdu Rongxin Industrial Co., Ltd. guaranteed the
difference between the cash amount deposited - 2,420,000
and the credit line amount
Chengdu City Commercial Bank, Dayi Branch
due Jan 2005, transaction fee at 0.05%
restricted cash requirement of 30% or $544,500
Chengdu Rongxin Industrial Co., Ltd. guaranteed the
difference between the cash amount deposited
and the credit line amount 1,815,000 -
Chengdu City Commercial Bank, Dayi Branch
due Feb 2005, transaction fee at 0.05%
restricted cash requirement of 100% or $1,210,000 1,210,000
--------------- --------------
Totals $ 3,025,000 $ 5,445,000
=============== ==============
The proceeds of the above debt as of December 31, 2003, were loaned to Chengdu
Taichang Metals Co., Ltd., a related party. In return for this loan, Chengdu
Taichang Metals Co. Ltd. deposited $242,000 cash with TONGLIN as a partial
guarantee for the loan repayment. The amount loaned to Chengdu Taichang Metals
Co. Ltd. is recorded in other receivables-related party on the accompanying
consolidated balance sheet and is further explained in Note 8.
This amount is non interest bearing and is due and payable in May 2004. On April
1, 2004, Chengdu Taichang Metals Co., Ltd. repaid this amount in full.
16
Note 7 - Short-term loans payable - bank
The Company has the following short-term loans payable:
September 30, December 31,
2004 2003
--------------- ---------------
Unaudited Audited
--------------- ---------------
Chengdu City Commercial Bank, Dayi Branch
due January 15, 2005 and January 29, 2004, respectively,
monthly interest only payment at 0.57525%, guaranteed
by Chengdu High Pressure Valve Plant, a related party $ 1,210,000 $ 1,210,000
Shanghai Pu Dong Development Bank, Chengdu Branch
due March 29, 2005 and March 9, 2004, respectively,
monthly interest only payment at 0.48675%, guaranteed
by Chengdu Rongxin Ruigao Machinery Co., Ltd., a
related party 3,630,000 3,630,000
--------------- ---------------
Totals $ 4,840,000 $ 4,840,000
=============== ===============
In 2004 the above loans have been refinanced into short-term loans due within
one year in the amount of $4,840,000.
Total interest expense on all bank debt for the nine months ending September 30,
2004 and 2003 amounted to $221,666 and $173,478 respectively.
Note 8 - Related party transactions and contingencies
The following is a list of related parties described in the accompanying
consolidated financial statements:
Chengdu Rongxin Enterprises Co., Ltd. is owned 100% by Mr. Li Yungao.
Chengdu Rongxin Industrial Co., Ltd. is owned by Mr. Li Yungao and a number of
managers and directors of TONGLIN.
Chengdu Rongxin Ruigao Machinery Co., Ltd. is owned 70% by Mr. Li Yungao with
the remaining 30% owned by a number of managers and directors of TONGLIN.
Chengdu Begin Pipeline Co., Ltd. is owned 75% by Chengdu Rongxin Industrial Co.,
Ltd. and 25% by Chengdu Begin Technology Development Co., Ltd.
Chengdu High Pressure Valve Plant is owned by Mr. Li Yungao and a number of
managers and directors of TONGLIN.
Chengdu Taichang Metals Co., Ltd. is 95% owned by Mr. Li Jing, who is the son of
Mr. Li Yungao.
Note 8 - Related party transactions and contingencies, (continued)
During the nine months ended September 30, 2004 and 2003, the Company entered
into the following transactions with related parties:
Sales, purchases and other expenses
17
Setpetmber 30, December 31,
2004 2003
------------- -------------
(Unaudited) (Audited)
------------- -------------
Sales
Chengdu Rongxin Ruigao Machinery Co., Ltd. $ 7,147 $ 9,577
========== ==========
Cost of sales
Chengdu Rongxin Ruigao Machinery Co., Ltd. $ 6,939 $ 8,784
========== ==========
Interest expense
Chengdu Rongxin Ruigao Machinery Co., Ltd. $ -- $ 39,277
========== ==========
Lease expense
Chengdu Rongxin Ruigao Machinery Co., Ltd. $ 90,750 $ 90,750
========== ==========
September 30, December 31,
2004 2003
------------- -------------
(Unaudited) (Audited)
------------- -------------
Other receivables - related party:
Chengdu Rongxin Ruigao Machinery Co., Ltd. $2,941,575 $ 17,785
Chengdu High Pressure Valve Plant 82,226 --
Chengdu Taichang Metals Co., Ltd. -- 5,445,000
---------- ----------
Totals $3,023,801 $5,462,785
========== ==========
Prepaid expense - related party:
Chengdu Taichang Metals Co., Ltd. $ 16,048 $ --
========== ==========
Other payables - related party:
Chengdu Taichang Metals Co., Ltd. $ -- $ 242,000
========== ==========
On May 20, 2003, TONGLIN entered into an agreement with Chengdu Taichang Metals
Co., Ltd. to make a 12-month loan in the amount of $3,025,000 to Chengdu
Taichang Metals Co., Ltd. using the proceeds from TONGLIN's bank line of credit
described in Note 6. In addition, TONGLIN paid $1,089,000 to their bank as
restricted cash deposit as required by the loan agreement.
Note 8 - Related party transactions and contingencies, (continued)
The $3,025,000 was required to be paid to TONGLIN upon maturity together with
interest calculated based on the amount of restricted cash deposit using the
bank's monthly interest rate of 0.4425%. Chengdu Taichang Metals Co., Ltd. will
pay a consultation fee of $121,000 to TONGLIN upon maturity of the loan. On
April 1, 2004, Chengdu Taichang Metals Co., Ltd. repaid these amounts in full.
On May 29, 2003, TONGLIN entered into an agreement with Chengdu Taichang Metals
Co., Ltd. to make a loan in the amount of $2,420,000 to Chengdu Taichang Metals
Co., Ltd. using the proceeds from TONGLIN's bank line of credit described in
Note 6. In addition, TONGLIN paid $968,000 to its bank as the restricted cash
deposit as required by the loan agreement.
18
The $2,420,000 was required to be paid to TONGLIN upon maturity together with
interest calculated based on the amount of restricted cash deposit using the
bank's monthly interest rate of 0.4425%. Chengdu Taichang Metals Co., Ltd. was
required to pay a fee of $77,101 to TONGLIN upon maturity of the loan. On April
1, 2004, Chengdu Taichang Metals Co., Ltd. repaid these amounts in full.
As part of the above loan transactions Chengdu Taichang Metals Co., Ltd.
deposited $242,000 of cash with TONGLIN as a partial guarantee to ensure that
the loans would be paid in full at maturity.
The other amounts due from related parties are generated from the Company making
various cash advances and short term loans and the allocation of various
expenses to related parties. These transactions are re-occurring in nature and
are generally repaid during the current year on a revolving basis. The Company
does not charge interest on these receivables.
On January 1, 2000, TONGLIN and Chengdu Rongxin Enterprises Co., Ltd. entered
into a Working Ground and Transportation Equipment Leasing Agreement, under
which TONGLIN leases office building space, living areas and vehicles with an
annual rent of $121,000.
Short-term loans from Chengdu Rongxin Ruigao Machinery Co., Ltd. (formerly
Chengdu Rongxin Enterprises Co., Ltd.) amounted to $544,500 during the year
ending December 31, 2002. This loan included interest at rates ranging from
7.49% to 12.10% per annum and was paid off in 2003. Interest paid for the nine
months ended September 30, 2004 and 2003 amounted to $0 and $39,277
respectively.
On November 4, 2003, TONGLIN and Industrial and Commercial Bank of China Dayi
County Branch entered into the "Intangible Right Security Agreement", under
which TONGLIN has guaranteed a $1,089,000 bank line of credit issued to Chengdu
Rognxin Ruigao Machinery Co., Ltd. The term of this bank line of credit expired
on April 29, 2004. As of September 30, 2004, this guarantee of the bank line of
credit was released.
Note 9 - Leases
The Company leases office building space, living quarters, and vehicles from
Chengdu Rongxin Ruigao Machinery Co., Ltd, formerly Chengdu Rongxin Enterprises
Co., Ltd., a related party, in the amount of $121,000 per year. The lease
expenses paid for the nine months ended September 30, 2004 and 2003 amounted to
$90,750 and $90,750, respectively. Chengdu Rongxin Enterprises Co., Ltd. was
dissolved in October 2002. All of the assets, including the lease agreement,
were taken over by Chengdu Rongxin Ruigao Machinery Co., Ltd., a related party.
This agreement has no expiration date at this time.
The Company also leases office space in the United States. The monthly rent is
$500 per month commencing on July 1, 2004 through June 30, 2005. The lease can
be renewed annually subject to a rental rate adjustment. The lease can be
terminated by either party with a 30 day notice.
19
Note 10 - Other operating income
The Company has entered into various contractual arrangements to act as an agent
for Chengdu Zhengheng Engine Parts Co., Ltd. where the Company receives a
commission on sales of products purchased from Chengdu Zhengheng Engine Parts
Co., Ltd. For the nine months ending September 30, 2004 and 2003, this income
amounted to $132,493 and $316,151 respectively.
Note 11 - Dividend distribution
Before the Company entered into the Stock Exchange Agreement, the Company
declared a $1,000,000 dividend distribution to Double Unity Investments. As
September 30, 2004, $502,196 was paid with the remaining balance of $497,804
recorded as a dividend payable on the accompanying balance sheet.
20
Item 2.
MANAGEMENT'S DISCUSSIONS AND ANALYSIS OR PLAN OF OPERATION
Overview
China Autoparts, Inc. (the "Company") was incorporated in the State of
Delaware on May 1, 2001 and it is a holding company for Rhohan Holdings Limited,
a British Virgin Islands company ("Rhohan"). Rhohan is a holding company for,
and owns 100% of, Chengdu Tonglin Casting Industrial Co., Ltd. ("Tonglin").
Tonglin is a manufacturer of engine blocks in the People's Republic of China
("PRC") which currently manufactures and is developing over 20 different engine
blocks which accommodate three or four cylinders for cars, mini vans and light
trucks manufactured in the PRC.
On May 13, 2004, the Company acquired 100% of Rhohan pursuant to an April
22, 2004 Capital Stock Exchange Agreement in exchange for 8,590,910 shares of
the Company's $.0001 par value per share common stock.
Tonglin sells its products through an internal sales staff and primarily
to five customers. For the nine months ended September 30, 2004 and September
30, 2003, those five customers accounted for 91.6% and 93.5% of total sales,
respectively. The loss of any of these customers and Tonglin's lack of a very
large customer base could adversely impact its business.
Tonglin does not recognize sales until its products are accepted by its
customers. Pursuant to the terms of its contracts with customers, Tonglin is
responsible for the shipments of its products and bears the risk of loss during
those shipments. In addition, the terms of the contracts also stipulate that
upon the delivery of each shipment at the customer's facility, the customer and
a Tonglin representative must jointly inspect the newly arrived products.
Customer rejections due to defective products or nonconformity with orders must
be agreed upon by both parties at the end of the inspection.
Products that are rejected by customers are repaired and returned to
inventory. Tonglin has not experienced returns in material quantities for any of
its products during the nine months ended September 30, 2004, and therefore,
does not believe that it is subject to material risk of inventory buildup
attributable to returns.
Over the previous two years, Tonglin has expanded its operations and
production facilities in order to meet increased demand from existing customers,
which have expressed satisfaction with Tonglin's products. In the fiscal years
ended December 31, 2003 and December 31, 2002, Tonglin invested a total of
approximately $2.1 million on improvements of existing production facilities and
the acquisition of new equipment. These expenditures resulted in an increase in
Tonglin's production capacity from approximately 400,000 to approximately
700,000 engine blocks during the same period.
Tonglin operates in a highly competitive environment. The competition is
expected to intensify with the PRC's admission into the World Trade
Organization. We expect to see an influx of foreign products and further
dilution of the autoparts market in the PRC. Tonglin believes that the selling
prices for its products may decrease in future periods, although the timing and
amounts of these decreases cannot be predicted with any certainty at the present
time. These decreases may be offset by the introduction of new products and the
increase in sales volumes.
21
Results of Operations
Net Sales and Gross Profit
Net sales for the nine months ended September 30, 2004 were approximately
$13.2 million, compared to approximately $12.3 million for the nine months ended
September 30, 2003, an increase of approximately 7.3%. The increase in net sales
resulted primarily from increased demand for several products.
Gross profit for the nine months ended September 30, 2004 was
approximately $4.3 million, a decrease of approximately 15.7% or approximately
$0.8 million from approximately $5.1 million for the prior year. The decrease in
gross profit was primarily due to an increase in the cost of iron used in the
production of Tonglin's engine blocks. Iron increased from $207 per ton during
the nine months ended September 30, 2003 to $310 per ton during the nine months
ended September 30, 2004.
During the nine months ended September 30, 2004 and September 30, 2003
there was a substantial concentration of sales. During the nine months ended
September 30, 2004, approximately 91.6% of sales were to five customers and
approximately 80.2% of sales were to three customers. For the nine months ended
September 30, 2003, approximately 93.5% of sales were to five customers and
approximately 67.4% of sales were to three customers.
Cost of Sales
Cost of sales increased to approximately $8.9 million in the nine months
ended September 30, 2004, or approximately 23.6% from approximately $7.2 million
in the prior year, primarily due to the increase in the cost of iron noted
above.
Cost of sales also increased due to increased production that resulted
from increasing orders. Tonglin increased sales of the 465Q and 462Q products
from 148,369 units during the nine months ended September 30, 2003 to 222,704
units for the nine months ended September 30, 2004.
Selling, General and Administrative
Selling, general and administrative expenses were approximately $1.3
million during the nine months ended September 30, 2004, or approximately 10.1%
of net sales, compared to approximately $1.1 million, or approximately 9.3% of
net sales, for the nine months ended September 30, 2003.
Selling, general and administrative expenses for the nine months ended
September 30, 2004 were primarily made up of salaries and wages ($471,909) and
engine block assembly and delivery charges ($284,500). The increase in selling,
general and administrative expenses was primarily due to the increased salary
and benefits expense with the increase in production and increased travel
expenses incurred in order to develop new business.
Income Taxes
The Company did not carry on any business and did not maintain any branch
office in the United States during the nine months ended September 30, 2004 or
the nine months ended September 30, 2003.
Therefore, no provision for withholding or U.S. federal income taxes or tax
benefits on the undistributed earnings and/or losses of the Company has been
made.
22
Pursuant to the relevant laws and regulations in the PRC, Tonglin, as a
wholly foreign owned enterprise in the PRC, is entitled to an exemption from the
PRC enterprise income tax for two years commencing from its first profit-making
year, after all loss carry-forwards from the previous five years have been
utilized. Tonglin is profitable and all losses were utilized as of January 1,
2002. Beginning on that date, Tonglin, as a wholly foreign owned enterprise,
became entitled to 50% relief from the PRC enterprise income tax for the
following three years.
Because Tonglin is located in a Special Economic Zone designated by the
PRC government, it is entitled to a special discounted enterprise income tax
rate of 15%. Therefore Tonglin's income tax rate for the nine months ended
September 30, 2004 and September 30, 2003 is 50% of the discounted tax rate of
15%, or, 7.5%. Tonglin's income tax rate will remain 7.5% until December 31,
2004, at which time the full rate of 15% will come into effect.
Tonglin is also exempt from local income taxes of 3% until January 1,
2005.
Plan of Operation
Tonglin's current plan of operation centers on continuing to increase its
sales and production. Tonglin has already made capital investments which allow
it to produce an additional 250,000 more engine blocks than production in the
fiscal year ended December 31, 2003. Now, it is focusing on marketing additional
products to its existing customers and adding new customers through increased
advertising and calls on potential customers. Tonglin recently added the
following new customers: Shenyang Xinguang, SAIC-Chery and Sichuan Fangxiang
Autoparts Co., Ltd..
In order to increase its sales to existing customers, Tonglin plans to
increase its sales and service personnel, particularly personnel who are on site
at Tonglin's customers. In addition, Tonglin plans to continue working on its
new products under development, including five products which have already been
sent to customers for testing, and also plans to put at least two more products
into its development pipeline prior to the end of fiscal 2004. Currently there
are two new products in the process of development.
Tonglin believes that it will be able to execute its plan of operation
over the next 12 months using its existing income, earnings and credit
facilities without having to raise capital from outside sources.
Liquidity and Capital Resources
Since Tonglin's inception, it has financed its operations and met capital
expenditure requirements primarily through cash flows from operations, bank
loans and lines of credit, and capital from its shareholders and related
parties. Although Tonglin is, and has been profitable, it currently needs to use
short-term loans to finance its operations. Because of the seasonal fluctuation
of the automobile market in the PRC (which tends to be slow in the summer months
and then peaks in February and March when PRC automobile purchases tend to be
made) and a slower payment cycle than in the U.S., Tonglin extends unsecured
credit to its customers during the fiscal year and finances its operations with
short term bank loans and loans from related parties.
Tonglin believes that over the next 12 months it will continue to rely on
short term bank loans to finance its operations. As of September 30, 2004,
Tonglin had the following short term loans outstanding with the following terms:
23
Lender and Terms
Amount Due
Chengdu City Commercial Bank, Dayi Branch $1,210,000
Due January 15, 2005
Monthly interest only payment at 0.57525%.
Guaranteed by Chengdu High Pressure Valve
Plant, a related party
Shanghai Pu Dong Development Bank, Chengdu Branch $3,630,000
Due March 29, 2005
Monthly interest only payment at 0.48675%
Guaranteed by Chengdu Rongxin Ruigao
Machinery Co., Ltd, a related party
Accounts Receivable
The decrease in trade accounts receivable from December 31, 2003 to
September 30, 2004 is primarily attributable to faster collections and the
transfer of more receivables into arrangements where the customer's bank
guarantees payment of the receivables within a three to six month period as
explained in Note 1 to the Company's Consolidated Financial Statements.
The decrease in Other Receivables to approximately $3.0 million as of
September 30, 2004 from approximately $5.5 million as of December 31, 2003, was
primarily due to the repayment from a related party - Chengdu Taichang Metals
Co., Ltd.
Inventory
Inventories of finished goods increased between December 31, 2003 and
September 30, 2004 from approximately $1.2 million to approximately $1.3
million. Inventories of raw materials decreased between December 31, 2003 and
September 30, 2004 from approximately $0.9 million to approximately $0.1
million. As a whole, the decrease in inventory of raw materials was primarily
attributable to the increase in the cost of iron.
Accounts Payable
Accounts payable decreased from December 31, 2003 to September 30, 2004,
which was primarily attributable to faster payment of suppliers.
The increase of other payables resulted from a Value Added Tax
("VAT")refund received in 2004 which is required to be used for research and
development. The decrease of wages and salaries payable was due to the payment
of accrued bonuses.
24
Cash
The decrease in cash from December 31, 2003 to September 30, 2004 was
primarily attributable to the repayment of notes payable banks.
Critical Accounting Policies
Management's discussion and analysis of its financial condition and results of
operations are based upon the Company's consolidated financial statements, which
have been prepared in accordance with accounting principles generally accepted
in the United States. The Company's financial statements reflect the selection
and application of accounting policies which require management to make
significant estimates and judgments. See note 1 to the Company's consolidated
financial statements, "Summary of Significant Accounting Policies." Management
bases its estimates on historical experience and on various other assumptions
that are believed to be reasonable under the circumstances. Actual results may
differ from these estimates under different assumptions or conditions. The
Company believes that the following reflect the more critical accounting
policies that currently affect the Company's financial condition and results of
operations.
Revenue recognition
Product sales are recognized when the products are delivered and title has
passed. The Company offers no warranties on its products. However the customers
have 3-5 days to inspect the goods and to notify the Company if there are any
products that do not meet the quality standards set forth in their contract. The
Company at this time replaces the goods with new products and the defective
goods are returned to the Company and are reworked and returned to inventory.
Sales revenue represents the invoiced value of goods, net of a value-added tax
(VAT). All of the Company's products that are sold in the PRC are subject to a
Chinese value-added tax at a rate of 17% of the gross sales price. This VAT may
be offset by VAT paid by the Company on raw materials and other materials
included in the cost of producing their finished product.
Accounting for long-lived assets
Plant and equipment are recorded at cost. Depreciation is computed using the
straight-line method over the estimated useful lives of the assets. Depreciation
is recorded utilizing the straight-line method over the estimated original
useful life ranging from 5-30 years.
Long-term assets of the Company are reviewed annually as to whether their
carrying value has become impaired. The Company considers assets to be impaired
if the carrying value exceeds the future projected cash flows from related
operations. The Company also re-evaluates the periods of amortization to
determine whether subsequent events and circumstances warrant revised estimates
of useful lives. As of September 30, 2004, the Company expects these assets to
be fully recoverable.
Bad debts
The Company's business operations are conducted in the People's Republic of
China. During the normal course of business, the Company extends unsecured
credit to its customers. Management reviews its accounts receivable on a regular
basis to determine if the bad debt allowance is adequate at each year-end.
However, the Company records a provision for accounts receivable trade which
ranges from 0.3% to 1.0% of the outstanding accounts receivable balance in
accordance with generally accepted accounting principles in the PRC.
25
Item 3. Controls and Procedures
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As of November 2, 2004 we carried out an evaluation, under the supervision
and with the participation of our management, including our Chairman and Chief
Executive Officer, and our Chief Financial Officer, of the effectiveness of the
design and operation of our disclosure controls and procedures. Based upon that
evaluation, the Chairman and Chief Executive Officer and the Chief Financial
Officer, concluded that our disclosure controls and procedures were effective in
alerting them in a timely manner to information relating to the Company required
to be disclosed in this report.
PART II - OTHER INFORMATION
EXHIBIT NUMBER DESCRIPTION
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2.1 April 22, 2004 Capital Stock Exchange Agreement (1)
3.1 Amended Certificate of Incorporation (1, 2)
3.2 Amended By-Laws (1)
3.3 Specimen stock certificate (2)
21.1 List of Subsidiaries
31.1 Certification of Li Yungao pursuant to Exchange
Act Rules 13a-14(a) and 15d-14(a), as adopted
pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002;
31.2 Certification of Chen Weisheng pursuant to
Exchange Act Rules 13a-14(a) and 15d-14(a),
as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002;
32.1 Certification of Li Yungao pursuant to 18 U.S.C. 1350;
32.2 Certification Chen Weisheng pursuant to 18 U.S.C. 1350.
(1) Filed as an exhibit to our Current Report on Form 8-K filed on May 13, 2004.
(2) Filed as an exhibit to our Registration Statement Form 10 filed on February
13, 2002.
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SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
CHINA AUTOPARTS, INC.
Date: November 12, 2004 /s/ Chen Weisheng
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By: Chen Weisheng, CFO
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CERTIFICATION
I, Chen Weisheng, certify that:
1. I have reviewed this quarterly report on Form 10-QSB of China Autoparts,
Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: November 12, 2004
/s/ Chen Weisheng
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Chen Weisheng
CFO
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