The financial statements and supplementary
data required by this item are included in a separate section of this Report. See “Index to Consolidated Financial Statements”
on Page F-1.
The accompanying notes are an integral part of these consolidated
financial statements.
The accompanying notes are an integral part of these consolidated
financial statements.
The accompanying notes are an integral part of these consolidated
financial statements.
The accompanying notes are an integral part of these consolidated
financial statements.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2016
(Expressed in U.S. dollars)
NOTE 1 – NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES
(a) Basis
of Presentation and Consolidation
The accompanying audited consolidated financial
statements have been prepared by Gulf Resources, Inc. a Nevada corporation and its subsidiaries (collectively, the “Company”).
On November 24, 2015, Gulf Resources, Inc., a Delaware corporation consummated a merger with and into its wholly-owned subsidiary,
Gulf Resources, Inc., a Nevada corporation. As a result of the reincorporation, the Company is now a Nevada corporation.
The consolidated financial statements include
the accounts of Gulf Resources, Inc. and its wholly-owned subsidiary, Upper Class Group Limited, a company incorporated in the
British Virgin Islands, which owns 100% of Hong Kong Jiaxing Industrial Limited, a company incorporated in Hong Kong (“HKJI”).
HKJI owns 100% of Shouguang City Haoyuan Chemical Company Limited ("SCHC") which owns 100% of Shouguang Yuxin Chemical
Industry Co., Limited (“SYCI”), Shouguang City Rongyuan Chemical Co, Ltd (“SCRC”) and Daying County Haoyuan
Chemical Company Limited (“DCHC”). All material intercompany transactions have been eliminated on consolidation.
Upper Class Group Limited was incorporated
with limited liability in the British Virgin Islands on July 28, 2006 and was inactive until October 9, 2006 when Upper Class Group
Limited acquired all the issued and outstanding stock of Shouguang City Haoyuan Chemical Company Limited (“SCHC”). SCHC
is an operating company incorporated in Shouguang City, Shangdong Province, the People’s Republic of China (the “PRC”)
on May 18, 2005. SCHC is engaged in manufacturing and trading bromine and crude salt in China. Since the
ownership of Upper Class Group Limited and SCHC were the same, the merger was accounted for as a transaction between entities under
common control, whereby Upper Class Group Limited recognized the assets and liabilities transferred at their carrying amounts.
On December 12, 2006, Gulf Resources, Inc.
(formerly Diversifax, Inc.), a public “shell” company, acquired Upper Class Group Limited and its wholly-owned subsidiary,
SCHC (together “Upper Class”). Under the terms of the agreement, all stockholders of Upper Class received
a total amount of 13,250,000 (restated for the 2-for-1 stock split in 2007 and the 1-for-4 stock split in 2009) shares of voting
common stock of Gulf Resources, Inc. in exchange for all shares of Upper Class’ common stock held by all stockholders. Under
accounting principles generally accepted in the United States, the share exchange is considered to be a capital transaction in
substance, rather than a business combination. That is, the share exchange is equivalent to the issuance of stock by
Upper Class for the net monetary assets of Gulf Resources, Inc., accompanied by a recapitalization, and is accounted for as a change
in capital structure. Accordingly, the accounting for the share exchange will be identical to that resulting from a reverse acquisition,
except no goodwill will be recorded. Under reverse takeover accounting, the post reverse acquisition comparative historical
financial statements of the legal acquirer, Gulf Resources, Inc., are those of the legal acquiree, Upper Class, which is considered
to be the accounting acquirer. Share and per share amounts stated have been retroactively adjusted to reflect the merger.
On February 5, 2007, SCHC acquired Shouguang
Yuxin Chemical Industry Co., Limited (“SYCI”), a company incorporated in PRC on October 30, 2000. SYCI manufactures
chemical products utilized in oil and gas field explorations and as papermaking chemical agents. Under the terms of the merger
agreement, all stockholders of SYCI received a total amount of 8,094,059 (restated for the 2-for-1 stock split in 2007 and the
1-for-4 stock split in 2009) shares of voting common stock of Gulf Resources, Inc. in exchange for all shares of SYCI’s common
stock held by all stockholders. Also, upon the completion of the merger, Gulf Resources, Inc. paid a $2,550,000
dividend to the original stockholders of SYCI. Since the ownership of Gulf Resources, Inc. and SYCI are substantially
the same, the merger was accounted for as a transaction between entities under common control, whereby Gulf Resources, Inc. recognized
the assets and liabilities of the Company transferred at their carrying amounts. Share and per share amounts stated
have been retroactively adjusted to reflect the merger.
On November 11, 2007, Upper Class formed
Hong Kong Jiaxing Industrial Limited (formerly known as Jiaxing Technology Limited) (“HKJI”), a wholly-owned subsidiary
of Upper Class, in Hong Kong. Upper Class transferred its equity interest in SCHC to HKJI.
On January 12, 2015, Gulf Resources, Inc.
(the “Company” or “Gulf”) and Shouguang City Haoyuan Chemical Company Limited, a wholly owned subsidiary
of the Company (“SCHC”), entered into an Equity Interest Transfer Agreement (the “Agreement”) with Shouguang
City Rongyuan Chemical Co., Ltd (“SCRC”).
On February 4, 2015 the Company closed
the transactions contemplated by the Agreement between the Company, SCHC and SCRC.
On the Closing Date, the Company issued
7,268,011shares of its common stock, par value $0.0005 per share (the “Shares”), at the closing market price of $1.84
per Share on the Closing Date to the four former equity owners of SCRC .The issuance of the Shares was exempt from registration
pursuant to Regulation S of the Securities Act of 1933, as amended. On the Closing Date, the Company entered into a lock-up agreement
with the four former equity owners of SCRC. In accordance with the terms of the lock-up agreement, the shareholders have agreed
not to sell or transfer the Shares for five years from the date the stock certificates evidencing the Shares are issued.
The sellers of SCRC agreed as part of the
purchase price to accept 7,268,011 shares of Gulf Resources stock, based on a valuation of $2.00, which was a 73% premium to the
price on the day the agreement was reached. For accounting purposes, these shares are now being valued at $1.84, which was the
closing price of Gulf Resources' stock on the day of the closing of the agreement. The price difference between the original $2.00
and the current $1.84 is solely for accounting purposes. There has been no change in the number of shares issued.
On December 15, 2015, the Company registered
a new subsidiary in the Sichuan Province of the PRC named Daying County Haoyuan Chemical Company Limited (“DCHC”) with
registered Capital of RMB50,000,000, and there has been RMB11,495,162 capital contributed by SCHC as of December 31, 2016. DCHC
was established to further explore and develop natural gas and brine resources (including bromine and crude salt) in China.
On September 2, 2016 the Company announced
the planned merger of SYCI and SCRC. As of December 31, 2016, this merger has not yet been finalized. This merger has no material
impact on the Company’s consolidated financial statements as of and for fiscal year 2016.
(b) Nature
of the Business
The Company manufactures and trades bromine
and crude salt through its wholly-owned subsidiary, Shouguang City Haoyuan Chemical Company Limited ("SCHC"), manufactures
chemical products for use in the oil industry, pesticides and paper manufacturing industry through its wholly-owned subsidiary,
Shouguang Yuxin Chemical Industry Co., Limited ("SYCI"), and manufactures chemical products used for human and animal
antibiotics through its wholly-owned subsidiary, Shouguang City Rongyuan Chemical Co, Ltd (“SCRC”) in the People’s
Republic of China (“PRC”). DCHC was established to further explore and develop natural gas and brine resources (including
bromine and crude salt) in PRC. The business is not fully operational as of December 31, 2016.
NOTE 1 – NATURE OF BUSINESS AND SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES – Continued
(c) Use
of Estimates
The Company’s consolidated financial
statements have been prepared in accordance with accounting principles generally accepted in the United States of America and this
requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of
the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. The
Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under
the circumstances. The most significant accounting estimates with regard to these consolidated financial statements
that require the most significant and subjective judgments include, but are not limited to, useful lives of property, plant and
equipment, recoverability of long-lived assets, determination of impairment losses, assessment of market value of inventories and
provision for inventory obsolescence, allowance for doubtful accounts, recognition and measurement of current and deferred income
taxes, valuation allowance for deferred tax assets, and assumptions used for the valuation of share based payments. Accordingly,
actual results may differ significantly from these estimates under different assumptions or conditions.
(d) Cash
and Cash Equivalents
Cash and cash equivalents consist of all
cash balances and highly liquid investments with original maturities of three months or less. Because of short maturity of these
investments, the carrying amounts approximate their fair values.
(e) Accounts
Receivable and Allowance of Doubtful Accounts
Accounts receivable is stated at cost,
net of allowance for doubtful accounts. The normal credit term extended to customers ranges between 90 and 180 days. The company
reviews all receivables that exceed the term. The Company establishes an allowance for doubtful accounts based on management’s
assessment of the collectability of trade and other receivables. A considerable amount of judgment is required in assessing the
amount of allowance and the Company considers the historical level of credit losses. The Company makes judgments about the credit
worthiness of each customer based on ongoing credit evaluations, and monitors current economic trends that might impact the level
of credit losses in the future. If the financial condition of the customer begins to deteriorate, resulting in their inability
to make payments within credit term provided, a larger allowance may be required.
As of December 31, 2016 and 2015, allowances
for doubtful accounts were nil. No allowances for doubtful accounts were charged to the income statement for the years ended December
31, 2016 and 2015.
(f) Concentration
of Credit Risk
The Company is exposed to credit risk in
the normal course of business, primarily related to accounts receivable and cash and cash equivalents. Substantially all of the
Company’s cash and cash equivalents are maintained with financial institutions in the PRC, namely, Industrial and Commercial
Bank of China Limited, China Merchants Bank Company Limited and Sichuan Rural Credit Union, which are not insured or otherwise
protected. The Company placed $163,884,574 and $133,606,392 with these institutions as of December 31, 2016 and 2015, respectively. The
Company has not experienced any losses in such accounts in the PRC.
Concentrations of credit risk with respect
to accounts receivable exists as the Company sells a substantial portion of its products to a limited number of customers. However,
such concentrations of credit risks are limited since the Company performs ongoing credit evaluations of its customers’ financial
condition. Approximately 61.6% and 73.3% of the balances of accounts receivable as of December 31, 2016 and December 31, 2015,
respectively, were 90 days old or less. Approximately 38% of the accounts receivable as of December 31, 2016 was collected by February
28, 2017. Approximately 53% of the accounts receivable as of December 31, 2016 more than 90 days old were settled by February 28,
2017.
NOTE 1 – NATURE OF BUSINESS AND SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES – Continued
(g) Inventories
Inventories are stated at the lower of
cost, determined on a first-in first-out cost basis, or market. Costs of work-in-progress and finished goods comprise direct materials,
direct labor and an attributable portion of manufacturing overhead. Net realizable value is based on estimated selling price less
costs to complete and selling expenses.
(h)
Property, Plant and Equipment
Property, plant and equipment are stated
at cost less accumulated depreciation and any impairment losses. Expenditures for new facilities or equipment, and major expenditures
for betterment of existing facilities or equipment are capitalized and depreciated using the straight-line method at rates sufficient
to depreciate such costs less 5% residual value over the estimated productive lives. All other ordinary repair and maintenance
costs are expensed as incurred.
Mineral rights are recorded at cost less
accumulated depreciation and any impairment losses. Mineral rights are amortized ratably over the term of the lease, or the equivalent
term under the units (in tonnes) of production method, whichever is shorter.
Construction in process primarily represents
direct costs of construction of property, plant and equipment. Costs incurred are capitalized and transferred to property, plant
and equipment upon completion, at which time depreciation commences.
The Company’s depreciation and amortization
policies on property, plant and equipment other than mineral rights and construction in process are as follows:
|
Useful life
(in years)
|
Buildings (including salt pans)
|
8 - 20
|
Plant and machinery (including protective shells, transmission channels and ducts)
|
3 - 8
|
Motor vehicles
|
5
|
Furniture, fixtures and equipment
|
3 - 8
|
Property, plant and equipment under the capital lease are depreciated
over their expected useful lives on the same basis as owned assets, or where shorter, the term of the lease, which is 20 years.
(i) Asset
Retirement Obligation
The Company follows Financial
Accounting Standards Board Accounting Standards Codification (“FASB ASC”) which established a uniform
methodology for accounting for estimated reclamation and abandonment costs. FASB ASC 410 requires the fair value of a
liability for an asset retirement obligation to be recognized in the period in which the legal obligation associated with the
retirement of the long-lived asset is incurred. When the liability is initially recorded, the offset is capitalized by
increasing the carrying amount of the related long-lived asset. Over time, the liability is accreted to its present value
each period, and the capitalized cost is depreciated over the useful life of the related asset. To settle the liability,
the obligation is paid, and to the extent there is a difference between the liability and the amount of cash paid, a gain or
loss upon settlement is recorded.
Currently, there are no reclamation or
abandonment obligations associated with the land being utilized for exploitation.
NOTE 1 – NATURE OF BUSINESS AND SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES – Continued
(j) Recoverability
of Long Lived Assets
In accordance with ASC 360-10-35 “Impairment
or Disposal of Long-lived Assets”, long-lived assets to be held and used are analyzed for impairment whenever events or changes
in circumstances indicate that the carrying amount of an asset may not be fully recoverable or that the useful lives of those assets
are no longer appropriate. The Company evaluates at each balance sheet date whether events and circumstances have occurred that
indicate possible impairment.
The Company determines the existence of
such impairment by measuring the expected future cash flows (undiscounted and without interest charges) and comparing such amount
to the carrying amount of the assets. An impairment loss, if one exists, is then measured as the amount by which the carrying amount
of the asset exceeds the discounted estimated future cash flows. Assets to be disposed of are reported at the lower of the carrying
amount or fair value of such assets less costs to sell. Asset impairment charges are recorded to reduce the carrying amount of
the long-lived asset that will be sold or disposed of to their estimated fair values. Charges for the asset impairment reduce the
carrying amount of the long-lived assets to their estimated salvage value in connection with the decision to dispose of such assets.
For the year ended December 31, 2015, certain
property, plant and machinery, with net book values of $969,638 were replaced during the fourth phase enhancement project to protective
shells for transmission channels, the enhancement work to bromine production facilities in Factory No.9 and 11 and to dismantle
Factory No.1 and 9 plant construction equipment as they did not meet the government's safety and environmental standards. Write-offs
of the same amounts were made and included in write-off/impairment on property, plant and equipment.
For the year ended December 31, 2016, certain
property, plant and machinery, with net book values of $90,395 were replaced during the enhancement project to protective shells
for transmission channels. Write-offs of the same amounts were made and included in write-off/impairment on property, plant and
equipment.
(k) Retirement
Benefits
Pursuant to the relevant laws and regulations
in the PRC, the Company participates in a defined contribution retirement plan for its employees arranged by a governmental organization.
The Company makes contributions to the retirement plan at the applicable rate based on the employees’ salaries. The required
contributions under the retirement plans are charged to the consolidated statement of income on an accrual basis when they are
due. The Company’s contributions totaled $1,039,096 and $980,359 for the years ended December 31, 2016 and 2015, respectively.
(l) Mineral
Rights
The Company follows FASB ASC 805 “Business
Combinations” that certain mineral rights are considered tangible assets and that mineral rights should be accounted for
based on their substance. Mineral rights are included in property, plant and equipment.
(m) Leasing
arrangements
Rentals payable under operating leases
are charged to the consolidated statement of income on a straight line basis over the term of the relevant lease. For capital leases,
the present value of future minimum lease payments at the inception of the lease is reflected as an asset and a liability in the
consolidated balance sheet. Amounts due within one year are classified as short-term liabilities and the remaining balance as long-term
liabilities.
NOTE 1 – NATURE OF BUSINESS AND SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES – Continued
(n) Reporting
Currency and Translation
The financial statements of the Company’s
foreign subsidiaries are measured using the local currency, Renminbi (“RMB”), as the functional currency; whereas the
functional currency and reporting currency of the Company is the United States dollar (“USD” or “$”).
As such, the Company uses the “current
rate method” to translate its PRC operations from RMB into USD, as required under FASB ASC 830 “Foreign Currency Matters”.
The assets and liabilities of its PRC operations are translated into USD using the rate of exchange prevailing at the balance sheet
date. The capital accounts are translated at the historical rate. Adjustments resulting from the translation of the balance sheets
of the Company’s PRC subsidiaries are recorded in stockholders’ equity as part of accumulated other comprehensive income.
The consolidated statement of income and comprehensive income is translated at average rates during the reporting period. Gains
or losses resulting from transactions in currencies other than the functional currencies are recognized in net income for the reporting
periods as part of general and administrative expense. Included in the general and administrative expense is a foreign exchange
gain of $1,702,728 and $1,575,397 for the years ended December 31, 2016 and 2015. The consolidated statement of cash flows is translated
at average rates during the reporting period, with the exception of issuance of shares and payment of dividends which are translated
at historical rates.
(o) Foreign
Operations
All of the Company’s operations and
assets are located in PRC. The Company may be adversely affected by possible political or economic events in this country. The
effect of these factors cannot be accurately predicted.
(p) Revenue
Recognition
The Company recognizes revenue, net of
value-added tax, when persuasive evidence of an arrangement exists, delivery of the goods has occurred, customer acceptance has
been obtained, which means the significant risks and ownership have been transferred to the customer, the price is fixed or determinable
and collectability is reasonably assured.
(q) Income
Taxes
The Company accounts for income taxes in
accordance with the Income Taxes Topic of the FASB ASC, which requires the use of the liability method of accounting for deferred
income taxes. Under this method, deferred income taxes are recorded to reflect the tax consequences on future years of temporary
differences between the tax basis of assets and liabilities and their reported amounts at each period end. If it is more likely
than not that some portion or all of a deferred tax asset will not be realized, a valuation allowance is recognized. The guidance
also provides criteria for the recognition, measurement, presentation and disclosures of uncertain tax positions. A tax benefit
from an uncertain tax position may be recognized if it is “more likely than not” that the position is sustainable based
solely on its technical merits.
(r) Exploration
Costs
Exploration costs, which included the cost of researching for
appropriate places to drill wells and the cost of well drilling in search of potential natural brine or other resources, are charged
to the income statement as incurred. Once the commercial viability of a project has been confirmed, all subsequent costs are capitalized.
(s) Contingencies
The Company accrues for costs relating
to litigation, including litigation defense costs, claims and other contingent matters, including liquidated damage liabilities,
when such liabilities become probable and reasonably estimable. Such estimates may be based on advice from third parties or on
management’s judgment, as appropriate. Revisions to accruals are reflected in earnings (loss) in the period in which different
facts or information become known or circumstances change that affect the Company’s previous assumptions with respect to
the likelihood or amount of loss. Amounts paid upon the ultimate resolution of such liabilities may be materially different from
previous estimates.
NOTE 1 – NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES – Continued
(t) Stock-based
Compensation
Common stock, stock options and stock warrants
issued to employees or directors are recorded at their fair values estimated at grant date using the Black-Scholes model and the
portion that is ultimately expected to vest is recognized as compensation cost over the requisite service period.
Common stock, stock options and stock warrants
issued to other than employees or directors are recorded on the basis of their fair value using the Black-Scholes option-pricing
model on the basis of the market price of the underlying common stock on the “valuation date,” which for options and
warrants related to contracts that have substantial disincentives to non-performance is the date of the contract, and for all other
contracts the measurement date is the date that the service is complete. Expense related to the options and warrants is recognized
on a straight-line basis over the period in which services are to be received. Where expense must be recognized prior to a valuation
date, the expense is computed under the Black-Scholes model on the basis of the market price of the underlying common stock at
the end of the period, and any subsequent changes in the market price of the underlying common stock up through the valuation date
is reflected in the expense recorded in the subsequent period in which that change occurs.
(u) Basic
and Diluted Earnings per Share of Common Stock
Basic earnings per common share are based
on the weighted average number of shares outstanding during the periods presented. Diluted earnings per share are computed
using weighted average number of common shares plus dilutive common share equivalents outstanding during the period. Potential
common shares that would have the effect of increasing diluted earnings per share are considered to be anti-dilutive, i.e. the
exercise prices of the outstanding stock options were greater than the market price of the common stock. Anti-dilutive common stock
equivalents which were excluded from the calculation of number of dilutive common stock equivalents amounted to 135,938 and 132,813
shares for the years ended December 31, 2016 and 2015, respectively.
The following table sets forth the computation of basic and
diluted earnings per share:
|
|
Years ended December 31,
|
|
|
2016
|
|
2015
|
Numerator
|
|
|
|
|
Net income
|
|
$
|
36,225,831
|
|
|
$
|
34,068,037
|
|
|
|
|
|
|
|
|
|
|
Denominator
|
|
|
|
|
|
|
|
|
Basic: Weighted-average common shares
outstanding during the year
|
|
|
46,279,033
|
|
|
|
45,167,288
|
|
Add: Dilutive effect of stock options
|
|
|
346,630
|
|
|
|
942,116
|
|
Diluted
|
|
|
46,625,663
|
|
|
|
46,109,404
|
|
|
|
|
|
|
|
|
|
|
Earnings per share
|
|
|
|
|
|
|
|
|
Basic
|
|
$
|
0.78
|
|
|
$
|
0.75
|
|
Diluted
|
|
$
|
0.78
|
|
|
$
|
0.74
|
|
NOTE 1 – NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES – Continued
(v) Goodwill
Goodwill represents the excess of the
purchase price over the net of the fair value of the identifiable tangible and intangible assets acquired and the fair value
of liabilities assumed in business acquisitions. Goodwill impairment is assessed based on qualitative factors to determine
whether it is more likely than not that the fair value of a reporting entity is less than its carrying amount, including
goodwill. If the Company determines that it is more likely than not that the fair value of a reporting entity is less than
its carry amount, the two-step goodwill impairment test will be performed. As of December 31, 2016, the Company performed the
qualitative assessment and determined that it is not more likely than not that the fair value of goodwill is less than its
carrying amount and therefore deemed a full impairment test to be unnecessary. Management believes there has been
no impairment to the value of recorded goodwill as of December 31, 2016.
(w) New
Accounting Pronouncements
Recently Adopted Accounting Pronouncements
In July 2015, the Financial
Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2015-11, Inventory (Topic
330), Simplifying the Measurement of Inventory. The amendments in this Update require an entity to measure inventory at the
lower of cost or net realizable value. Net realizable value is the estimated selling prices in the ordinary course of
business, less reasonably predictable costs of completion, disposal, and transportation. Subsequent measurement is unchanged
for inventory measured using LIFO or the retail inventory method. The amendments in this Update are effective for fiscal
years beginning after December 15, 2016. The amendments in this Update should be applied prospectively with earlier
application permitted as of the beginning of an interim or annual reporting period. As of January 1, 2016, the Company
adopted the amendments in this Update which has no material impact on the consolidated financial statements.
In November 2015, the FASB issued ASU No.
2015-17, Income Taxes (Topic 740), Balance Sheet Classification of Deferred Taxes. The amendments in this Update require that deferred
tax liabilities and assets be classified as noncurrent in a classified statement of financial position. The amendments in this
Update are effective for financial statements issued for annual periods beginning after December 15, 2016, and interim periods
within those annual periods. Earlier application is permitted for all entities as of the beginning of an interim or annual reporting
period. As of January 1, 2016, the Company adopted the amendments in this Update which has no material impact on the consolidated
financial statements.
Recently Issued Accounting Pronouncements
Not Yet Adopted
In May 2014, the FASB issued ASU No. 2014-09,
Revenue from Contracts with Customers (Topic 606). The core principle of the guidance is that an entity should recognize revenue
to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity
expects to be entitled in exchange for those goods or services. In August 2015, FASB issued ASU 2015-14 which deferred the effective
date of Update 2014-09 to annual reporting periods beginning after December 15, 2017. Early application is permitted only as of
annual reporting periods beginning after December 15, 2016. The Company expects to adopt the new standard in the first quarter
of 2018. It has made significant progress in evaluating its existing contracts and accounting policies to determine the impact
this standard will have on the consolidated financial statements and related disclosures.
In February 2016, the FASB issued ASU No.
2016-02, Leases (Topic 842). The amendments in this Update specify the accounting for leases. The core principle of Topic 842 is
that a lessee should recognize the assets and liabilities that arise from leases. For public business entities, the amendments
in this Update are effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal
years. The Company is evaluating the impact of this on the consolidated financial statements and related disclosures.
NOTE 2 – BUSINESS ACQUISITION
In order to increase the Company’s
profit margins, produce more consistent and reliable earnings and lessen dependence on the economically sensitive bromine industry,
on January 12, 2015, Gulf Resources, Inc. (the“Company” or “Gulf”) and Shouguang City Haoyuan Chemical
Company Limited, a wholly owned subsidiary of the Company (“SCHC”), entered into an Equity Interest Transfer Agreement
(the “Agreement”) to acquire 100% of Shouguang City Rongyuan Chemical Co., Ltd. (“SCRC”) for a total consideration
of $79,678,746 to be settled in cash and in shares of common stock of the Company.
On February 4, 2015, the Company closed
the transactions contemplated by the Agreement between the Company, SCHC and SCRC. The Closing Date is deemed to be the acquisition
date.
On the Closing Date, the Company issued
7,268,011shares of its common stock, par value $0.0005 per share (the “Shares”), at the closing market price of $1.84
per Share on the Closing Date to the four former equity owners of SCRC. The sellers of SCRC agreed as part of the purchase price
to accept 7,268,011 restricted shares of Gulf Resources stock, based on a valuation of $2.00, which was a 73% premium to the price
on the day the agreement was reached. For accounting purposes, these shares are being valued at $1.84, which was the closing price
of the Company’s stock on the Closing Date. There is no change in the number of shares issued. The total purchase consideration
consisted of $66,305,606 in cash and $13,373,140 in the shares of the common stock of the Company.
The issuance of the Shares was exempt from
registration pursuant to Regulation S of the Securities Act of 1933, as amended. On the Closing Date, the Company entered into
a lock-up agreement with the four former equity owners of SCRC. In accordance with the terms of the lock-up agreement, the shareholders
have agreed not to sell or transfer the Shares for five years from the date the stock certificates evidencing the Shares are issued.
The following table represents the fair
value of identifiable assets and liabilities of SCRC acquired and goodwill recognized at acquisition date.
Cash
|
|
$
|
14,074,720
|
|
Accounts receivable
|
|
|
19,365,259
|
|
Inventories
|
|
|
1,646,196
|
|
Other current assets
|
|
|
82,562
|
|
Property, plant and equipment, net
|
|
|
17,891,360
|
|
Prepaid land leases, net of current portion
|
|
|
4,800,404
|
|
Goodwill
|
|
|
27,668,539
|
|
Accounts payable and accrued expenses
|
|
|
(8,670,568
|
)
|
Taxes payable
|
|
|
(963,458
|
)
|
Cumulative translation adjustment
|
|
|
3,783,732
|
|
Total purchase price
|
|
$
|
79,678,746
|
|
The net revenue and net income of SCRC
since the acquisition date that are included in the consolidated statement of income for the fiscal year 2015 are $51,274,989 and
$12,667,379. Goodwill is not expected to be deductible for tax purpose.
Costs of $121,512 related to the acquisition,
which included audit fee and valuation fees, have been charged directly to operations and are included in general and administrative
expenses in the consolidated statement of income for the fiscal year 2015.
The following table shows supplemental
information of the actual results of operations for fiscal year 2016 and on a pro forma basis for fiscal year 2015, as if the acquisition
of SCRC had been completed at the beginning of the Company’s periods presented:
|
|
Year Ended December 31,
|
|
|
2016
|
|
2015
|
|
|
Actual
|
|
Pro forma
|
Net Revenue
|
|
$
|
149,275,002
|
|
|
$
|
168,031,383
|
|
Net Income
|
|
$
|
36,225,831
|
|
|
$
|
35,538,071
|
|
EARNINGS PER SHARE
|
|
|
|
|
|
|
|
|
-Basic
|
|
$
|
0.78
|
|
|
$
|
0.79
|
|
-Diluted
|
|
$
|
0.78
|
|
|
$
|
0.77
|
|
The pro forma information presented has been calculated after
adjusting for results of SCRC to reflect the business combination accounting effect resulting from this acquisition including the
elimination of intercompany sales, depreciation and amortization on the increase in valuation of property, plant and equipment
and prepaid land lease. There are no nonrecurring items included in the pro forma results of operations presented.
NOTE 3 – INVENTORIES
Inventories consist of:
|
|
As of December 31,
|
|
|
2016
|
|
2015
|
|
|
|
|
|
Raw materials
|
|
$
|
818,500
|
|
|
$
|
1,014,917
|
|
Finished goods
|
|
|
4,370,331
|
|
|
|
5,486,970
|
|
Work-in-process
|
|
|
692,850
|
|
|
|
691,604
|
|
Allowance for obsolete and slow-moving inventories
|
|
|
—
|
|
|
|
(12,691
|
)
|
|
|
$
|
5,881,681
|
|
|
$
|
7,180,800
|
|
NOTE 4 – PREPAID LAND LEASE
The Company prepaid for land leases with
lease terms for periods ranging from one to fifty years to use the land on which the production facilities and warehouses of the
Company are situated. The prepaid land lease is amortized on a straight line basis.
During the year ended December 31, 2016,
amortization of prepaid land lease totaled $774,250, which was recorded as cost of net revenue.
During the year ended December 31, 2015,
amortization of prepaid land lease totaled $774,512, which was recorded as cost of net revenue.
The Company has the rights to use certain
parcels of land located in Shouguang, the PRC, through lease agreements signed with local townships or the government authority.
For parcels of land that are collectively owned by local townships, the Company cannot obtain land use rights certificates. The
parcels of land of which the Company cannot obtain land use rights certificates covers a total of approximately 54.97 square
kilometers of aggregate carrying value of $620,978 and approximately 59.43 square kilometers square meters of aggregate
carrying value of $686,073 as at December 31, 2016 and 2015, respectively.
NOTE 5– PROPERTY, PLANT AND EQUIPMENT,
NET
Property, plant and equipment, net consist
of the following:
|
|
As of December 31,
|
|
|
2016
|
|
2015
|
At cost:
|
|
|
|
|
|
|
|
|
Mineral rights
|
|
$
|
4,438,115
|
|
|
$
|
6,131,230
|
|
Buildings
|
|
|
61,656,398
|
|
|
|
68,510,164
|
|
Plant and machinery
|
|
|
184,544,140
|
|
|
|
195,295,877
|
|
Motor vehicles
|
|
|
8,282
|
|
|
|
8,847
|
|
Furniture, fixtures and office equipment
|
|
|
4,553,473
|
|
|
|
4,864,619
|
|
Construction in progress
|
|
|
374,790
|
|
|
|
57,596
|
|
Total
|
|
|
255,575,198
|
|
|
|
274,868,333
|
|
Less: accumulated depreciation and amortization
|
|
|
(146,844,072
|
)
|
|
|
(146,997,010
|
)
|
Net book value
|
|
$
|
108,731,126
|
|
|
$
|
127,871,323
|
|
The Company has certain buildings and salt
pans erected on parcels of land located in Shouguang, PRC, and such parcels of land are collectively owned by local townships or
the government. The Company has not been able to obtain property ownership certificates over these buildings and salt pans. The
aggregate carrying values of these properties situated on parcels of the land are $35,184,613 and $42,526,151 as at December 31,
2016 and 2015, respectively.
During the year ended December 31, 2016,
depreciation and amortization expense totaled $24,552,507 of which $23,220,525 and $1,331,982 were recorded as cost of net revenue
and administrative expenses, respectively.
During the year ended December 31,
2015, depreciation and amortization expense totaled $28,746,069 of which $27,281,471 and $1,464,598 were recorded as cost of net
revenue and administrative expenses, respectively.
NOTE 5 – PROPERTY, PLANT AND EQUIPMENT,
NET – Continued
In the third quarter of 2016, the Company
incurred enhancement works in our existing bromine extraction and crude salt production facilities at costs of approximately $15.23
million. The above enhancement projects have estimated useful lives of 5 to 8 years and are capitalized as buildings and plant
and machinery.
At the end of November 2016, the Company
has signed the demolition compensation agreement for its Factory No. 6 with the Yangzi Street Office of Weifang City Binhai Economic-Technological
Development Zone for the Taiwan Island Ecological Culture City Project.
The operation of the original Factory No.6
was stopped at the end of November 2016 to allow for the demolition of the factory by the government collection unit. The total
written off during the demolition period was $3,761,862
Upon the completion of demolition and clearance
of all ground fixtures in December 2016, a total sum of $2,708,417 was received from government. The write-off and demolition costs
were offset against the compensation proceeds resulting in a net loss on demolition of factory of $1,053,445. This is included
in the income statement for the year ended December 31, 2016 as loss on demolition of factory. This is accounted for in accordance
with FASB ASC 605-40 “Revenue Recognition – Gains and Losses”.
In the fiscal year 2016, the company incurred
$1,747,316 for the construction of roads and related infrastructure needed to begin operations in the remote and mountainous region
of Daying county.
In the third quarter of 2015, the Company
incurred enhancement works in Factories No. 10 and 11 at costs of approximately $10,396,597 to the protective shells to transmission
channels and ducts. In the fourth quarter of 2015, the Company incurred enhancement projects to our existing bromine extraction
in Factory No. 10 and 11 at costs of approximately $12,088,375. The above enhancement projects have estimated useful lives of 5
to 8 years and are capitalized as buildings and plant and machinery.
For the years ended December 31, 2016 and
2015, ordinary repair and maintenance expenses were $463,156 and $607,688, respectively.
NOTE 6 – PROPERTY, PLANT AND EQUIPMENT
UNDER CAPITAL LEASES, NET
Property, plant and equipment under capital leases, net consist
of the following:
|
|
As of December 31,
|
|
|
2016
|
|
2015
|
At cost:
|
|
|
|
|
|
|
|
|
Buildings
|
|
$
|
118,623
|
|
|
$
|
126,729
|
|
Plant and machinery
|
|
|
2,229,775
|
|
|
|
2,382,139
|
|
Total
|
|
|
2,348,398
|
|
|
|
2,508,868
|
|
Less: accumulated depreciation and amortization
|
|
|
(1,794,141
|
)
|
|
|
(1,581,650
|
)
|
Net book value
|
|
$
|
554,257
|
|
|
$
|
927,218
|
|
The above buildings erected on parcels
of land located in Shouguang, PRC, are collectively owned by local townships. The Company has not been able to obtain property
ownership certificates over these buildings as the Company could not obtain land use rights certificates on the underlying parcels
of land.
During the year ended December 31, 2016,
depreciation and amortization expense totaled $327,738, which was recorded as cost of sales.
During the year ended December 31, 2015,
depreciation and amortization expense totaled $349,579, which was recorded as cost of sales.
NOTE 7 – ACCOUNTS PAYABLE AND ACCRUED
EXPENSE
Accounts payable and accrued expenses consist
of the following:
|
|
As of December 31,
|
|
|
2016
|
|
2015
|
|
|
|
|
|
Accounts payable
|
|
$
|
7,513,075
|
|
|
$
|
8,835,442
|
|
Salary payable
|
|
|
319,489
|
|
|
|
271,369
|
|
Social security insurance contribution payable
|
|
|
119,444
|
|
|
|
114,370
|
|
Other payables
|
|
|
730,310
|
|
|
|
708,519
|
|
Total
|
|
$
|
8,682,318
|
|
|
$
|
9,929,700
|
|
NOTE 8 – DUE TO A RELATED PARTY AND
RELATED PARTY TRANSACTIONS
On September 25, 2012, the Company purchased
five stories of a commercial building in the PRC, through SYCI, from Shandong Shouguang Vegetable Seed Industry Group Co., Ltd.
(the “Seller”) at a cost of approximately $5.7 million in cash, of which Mr. Ming Yang, the Chairman of the Company,
had a 99% equity interest in the Seller. The cost of the five stories of the commercial building was valued by an independent appraiser
on September 17, 2012 to its fair value and recorded as property, plant and equipment. The Company commenced using the property
as the new headquarters for the office in early January, 2013. During the fiscal year 2013, the Company entered into an agreement
with the Seller to provide property management services for an annual amount of $100,704 for five years from January 1, 2013 to
December 31, 2017. The company recorded in general and administrative expense an amount of $100,704 in the years ended December
31, 2016 and 2015.
During the fiscal year 2016 and 2015, the
Company borrowed $655,369 and $949,150, and fully repaid later during the same period, from Jiaxing Lighting Appliance Company
Limited (Jiaxing Lighting”), in which Mr. Ming Yang, a shareholder and the Chairman of the Company, has a 100% equity interest
in Jiaxing Lighting. The amounts due to Jiaxing Lighting were unsecured, interest free and repayable on demand.
NOTE 9 – TAXES PAYABLE
Taxes payable consists of the following:
|
|
|
As of December 31,
|
|
|
2016
|
|
2015
|
|
|
|
|
|
Income tax payable
|
|
$
|
1,849,535
|
|
|
$
|
2,400,400
|
|
Natural resource tax
|
|
|
651,230
|
|
|
|
255,984
|
|
Value added tax payable
|
|
|
887,913
|
|
|
|
1,030,664
|
|
Land use tax payable
|
|
|
818,921
|
|
|
|
904,354
|
|
Other tax payables
|
|
|
133,732
|
|
|
|
222,601
|
|
Total
|
|
$
|
4,341,331
|
|
|
$
|
4,814,003
|
|
NOTE 10 – CAPITAL LEASE OBLIGATIONS
The components of capital lease obligations are as follows:
|
|
Imputed
|
|
As of December 31,
|
|
|
Interest rate
|
|
2016
|
|
2015
|
Total capital lease obligations
|
|
|
6.7%
|
|
|
$
|
2,472,637
|
|
|
$
|
2,752,692
|
|
Less: Current portion
|
|
|
|
|
|
|
(187,678
|
)
|
|
|
(196,778
|
)
|
Capital lease obligations, net of current portion
|
|
|
|
|
|
$
|
2,284,959
|
|
|
$
|
2,555,914
|
|
Interest expense from capital lease obligations
amounted to $174,167 and $193,162, which were charged to the consolidated statement of income for the years ended December 31,
2016 and 2015. See Note 19 for future minimum lease payments disclosure.
NOTE 11 –EQUITY
During the annual general meeting held
on June 18, 2013, the shareholders of the Company approved the amendment to the Certificate of Incorporation to decrease the number
of the authorized shares of the Company’s common stock to 80,000,000. The Company has completed the filing of the amendment
and restatement of the Certificate of Incorporation with the Secretary of the State of Delaware to decrease the number of authorized
shares of the Company’s common stock. Accordingly, 80,000,000 is disclosed as the authorized shares of the Company’s
common stock in the consolidated balance sheet as of December 31, 2016.
|
(b)
|
Retained Earnings - Appropriated
|
In accordance with the relevant PRC regulations
and the PRC subsidiaries’ Articles of Association, the Company’s PRC subsidiaries are required to allocate a portion
of its profit after tax to the following reserve:
Statutory Common Reserve Funds
SCHC, SYCI, SCRC and DCHC are required
each year to transfer at least 10% of the profit after tax as reported under the PRC statutory financial statements to the Statutory
Common Reserve Funds until the balance reaches 50% of the registered share capital. This reserve can be used to make
up any loss incurred or to increase share capital. Except for the reduction of losses incurred, any other application
should not result in this reserve balance falling below 25% of the registered capital. The Statutory Common Reserve Fund for SCHC,
SYCI, SCRC and DCHC is 43%, 50%, 11% and 0% of its registered capital as of December 31, 2016, and 40%, 50%, 8% and 0% of its registered
capital as of December 31, 2015.
NOTE 12 – TREASURY STOCK
In January 2015, the Company repurchased
31,000 shares of common stock of the Company at an average price of $1.22 per share for a total cost of $37,713 under the share
repurchase plan that was approved by the Board of Directors. The Company recorded the entire purchase price of the treasury stock
as a reduction of equity.
In July 2016, the Company issued 10,000
shares of common stock from the treasury shares to one of its consultants. The shares were valued at the closing market price
on the date of the agreement and recorded as general and administrative expense in the consolidated statements of income and comprehensive
income for the year ended December 31, 2016. The shares issued were deducted from the treasury shares at weighted average cost
and the excess of the cost over the closing market price was charged to additional paid-in-capital.
NOTE 13 – STOCK-BASED COMPENSATION
Pursuant to the Company’s Amended
and Restated 2007 Equity Incentive Plan approved in 2011(“Plan”), the aggregate number of shares of the Company’s
common stock available for grant and issuance of stock options is 4,341,989 shares. On October 5, 2015, during the annual meeting
of the Company’s stockholders, the aggregate number of shares reserved and available for grant and issuance pursuant to the
Plan was increased to 10,341,989. As of December 31, 2016, the number of shares of the Company’s common stock available for
issuance under the Plan is 7,338,489.
The fair value of each option award below
is estimated on the date of grant using the Black-Scholes option-pricing model. The risk free rate is based on the yield-to-maturity
in continuous compounding of the US Government Bonds with the time-to-maturity similar to the expected tenor of the option granted,
volatility is based on the annualized historical stock price volatility of the Company, and the expected life is based on the historical
option exercise pattern.
On March 2, 2016, the Company granted to
an independent director an option to purchase 12,500 shares of the Company’s common stock at an exercise price of $1.78
per share and the options vested immediately. The options were valued at $7,300 fair value, with assumed 65.69% volatility, a three-year
expiration term with expected tenor of 1.33 years, a risk free rate of 0.71% and no dividend yield.
On May 7, 2016, the Company granted to
an independent director an option to purchase 12,500 shares of the Company’s common stock at an exercise price of $1.45
per share and the options vested immediately. The options were valued at $5,500 fair value, with assumed 66.40% volatility, a three-year
expiration term with an expected tenor of 1.33 years, a risk free rate of 0.58% and no dividend yield.
On July 1, 2016, the Company granted to
an independent director an option to purchase 12,500 shares of the Company’s common stock at an exercise price of $1.54
per share and the options vested immediately. The options were valued at $4,600 fair value, with assumed 52.38% volatility, a three-year
expiration term with expected tenor of 1.33 years, a risk free rate of 0.49% and no dividend yield.
On November 10, 2016, the Company granted
to an independent director an option to purchase 12,500 shares of the Company’s common stock at an exercise price of
$2.17 per share and the options vested immediately. The options were valued at $7,200 fair value, with assumed 51.78% volatility,
a three-year expiration term with expected tenor of 1.69 years, a risk free rate of 0.85% and no dividend yield.
On December 18, 2016, the Company granted
to a consultant to purchase 30,000 shares of the Company’s common stock, respectively, at an exercise price of $2.10 per
share and the options vested immediately. The options were valued at $15,700 fair value, respectively, with assumed 50.67% volatility,
a three-year expiration term with expected tenor of 1.50 years, a risk free rate of 1.06% and no dividend yield.
For the year ended December 31, 2016
and 2015, total compensation costs for options issued recorded in the consolidated statement of income were $40,300 and
$374,600. There were no related tax benefits as a full valuation allowance was recorded in the years ended December 31, 2016
and 2015.
During the year ended December 31, 2016, 776,671 shares of common
stock were issued upon cashless exercise of 1,831,500 options.
During the year ended December 31, 2015, 97,244 shares of common
stock were issued upon cashless exercise of 182,500 options.
NOTE 13 – STOCK-BASED COMPENSATION
– Continued
The following table summarizes all Company
stock option transactions between January 1, 2015 and December 31, 2016.
|
|
Number of Option
and Warrants
Outstanding and exercisable
|
|
Weighted- Average Exercise price of Option
and Warrants
|
|
Range of
Exercise Price per Common Share
|
Balance, December 31, 2014
|
|
|
2,744,000
|
|
|
$
|
2.38
|
|
|
|
$0.95 - $12.60
|
|
Granted and vested during the year
ended December 31, 2015
|
|
|
655,000
|
|
|
$
|
1.49
|
|
|
|
$1.43 - $2.55
|
|
Exercised during the year ended
December 31, 2015
|
|
|
(182,500
|
)
|
|
$
|
1.12
|
|
|
|
$0.95-$1.66
|
|
Expired during the
year ended December 31, 2015
|
|
|
(817,500
|
)
|
|
$
|
4.86
|
|
|
|
$2.06 - $4.97
|
|
Balance, December 31, 2015
|
|
|
2,399,000
|
|
|
$
|
1.39
|
|
|
|
$0.95 - $12.60
|
|
Granted and vested during the year
ended December 31, 2016
|
|
|
80,000
|
|
|
$
|
1.87
|
|
|
|
$1.45 - $2.17
|
|
Exercised during the year ended
December 31, 2016
|
|
|
(1,831,500
|
)
|
|
$
|
1.11
|
|
|
|
$0.95-$1.45
|
|
Expired during the
year ended December 31, 2016
|
|
|
(462,500
|
)
|
|
$
|
2.24
|
|
|
|
$0.95 - $12.60
|
|
Balance, December 31, 2016
|
|
|
185,000
|
|
|
$
|
2.19
|
|
|
|
$1.54 - $4.80
|
|
|
|
Stock and Warrants Options Exercisable and Outstanding
|
|
|
|
|
|
|
Weighted Average
|
|
Weighted Average
|
|
|
Outstanding
|
|
|
|
Remaining
|
|
Exercise Price of
|
|
|
at December 31,
2016
|
|
Range of
Exercise Prices
|
|
Contractual Life
(Years)
|
|
Options Currently
Outstanding
|
Exercisable and outstanding
|
|
185,000
|
|
$1.54 - $4.80
|
|
1.85
|
|
$2.19
|
All options exercisable and outstanding at December 31, 2016
are fully vested.
The aggregate intrinsic value of options outstanding and exercisable
as of December 31, 2016 was $16,825.
The total intrinsic value of options exercised
during the years ended December 31, 2016 and 2015 was $1,479,042 and $236,535.
NOTE 14 – INCOME TAXES
The Company utilizes the asset and liability
method of accounting for income taxes in accordance with FASB ASC 740-10.
(a) United
States
Gulf Resources, Inc. may be subject to
the United States of America Tax law at tax rate of 35%. No provision for the US federal income taxes has been made as the Company
had no US taxable income for the years ended December 31, 2016 and 2015, and management believes that its earnings are permanently
invested in the PRC.
(b) BVI
Upper Class Group Limited was incorporated
in the BVI and, under the current laws of the BVI, it is not subject to tax on income or capital gain in the BVI. Upper Class Group
Limited did not generate assessable profit for the years ended 31 December 31, 2016 and 2015.
(c) Hong
Kong
Hong Kong Jiaxing Industrial Limited was
incorporated in Hong Kong and is subject to Hong Kong profits tax. The Company is subject to Hong Kong taxation on its activities
conducted in Hong Kong and income arising in or derived from Hong Kong. No provision for profits tax has been made
as the Company has no assessable income for the years ended December 31, 2016 and 2015. The applicable statutory tax
rates for the years ended December 31, 2016 and 2015 are 16.5%.
(d) PRC
Enterprise income tax (“EIT”)
for SCHC, SYCI, SCRC and DCHC in the PRC is charged at 25% of the assessable profits.
The operating subsidiaries SCHC, SYCI,
SCRC and DCHC are wholly foreign-owned enterprises (“FIE”) incorporated in the PRC and are subject to PRC Foreign Enterprise
Income Tax Law.
On February 22, 2008, the Ministry of Finance
(“MOF”) and the State Administration of Taxation (“SAT”) jointly issued Cai Shui [2008] Circular 1 (“Circular
1”). According to Article 4 of Circular 1, distributions of accumulated profits earned by a FIE prior to January 1, 2008
to foreign investor(s) in 2008 will be exempted from withholding tax (“WHT”) while distribution of the profit earned
by an FIE after January 1, 2008 to its foreign investor(s) shall be subject to WHT at 5% effective tax rate.
As of December 31, 2016 and 2015, the accumulated
distributable earnings under the Generally Accepted Accounting Principles (“GAAP”) of PRC are $274,769,840 and $260,471,507,
respectively. Since the Company intends to reinvest its earnings to further expand its businesses in mainland China, its foreign
invested enterprises do not intend to declare dividends to their immediate foreign holding companies in the foreseeable future.
Accordingly, as of December 31, 2016 and 2015, the Company has not recorded any WHT on the cumulative amount of distributable retained
earnings of its foreign invested enterprises in China. As of December 31, 2016 and 2015, the unrecognized WHT are $12,756,698 and
$11,974,695, respectively.
NOTE 14 – INCOME TAXES – Continued
The Company’s tax returns are subject
to the various tax authorities’ examination. The federal, state and local authorities of the United States may examine the
Company’s tax returns filed in the United States for three years from the date of filing. The Company’s US tax returns
since 2013 are currently subject to examination. Inland Revenue Department of Hong Kong may examine the Company’s tax returns
filed in Hong Kong for seven years from date of filing. The Company’s Hong Kong tax returns from year 2009 are currently
subject to examination.
The components of the provision for income
taxes from continuing operations are:
|
|
Years ended December 31,
|
|
|
2016
|
|
2015
|
|
|
|
|
|
Current taxes – PRC
|
|
$
|
11,807,194
|
|
|
$
|
11,455,764
|
|
Deferred tax – PRC
|
|
|
3,013
|
|
|
|
(83,856
|
)
|
|
|
$
|
11,810,207
|
|
|
$
|
11,371,908
|
|
The effective income tax expenses differ
from the PRC statutory income tax rate of 25% from continuing operations in the PRC as follows:-
|
|
Years ended December 31,
|
|
|
2016
|
|
2015
|
|
|
|
|
|
Statutory income tax rate
|
|
|
25
|
%
|
|
|
25
|
%
|
Non-deductible items
|
|
|
(1
|
%)
|
|
|
(1
|
%)
|
Change in valuation allowance-US federal net operating loss
|
|
|
1
|
%
|
|
|
1
|
%
|
Effective tax rate
|
|
|
25
|
%
|
|
|
25
|
%
|
As of December 31, 2016 and 2015, the Company
had US federal net operating loss (“NOL”) of approximately $33.1 million and $30.9 million available to offset against
future federal income tax liabilities, respectively. NOL can be carried forward up to 20 years from the year the loss
is incurred. NOL will begin to expire after 2019. The Company believes the realization of benefits from these losses remains uncertain
due to the Company’s limited operating history and continuing losses. Accordingly, a 100% deferred tax asset valuation allowance
has been provided.
Differences between the application
of accounting principles and tax laws cause differences between the bases of certain assets and liabilities for financial
reporting purposes and tax purposes. The tax effects of these differences, to the extent they are temporary, are recorded as
deferred tax assets and liabilities. Significant components of the Company’s deferred tax assets and liabilities at
December 31, 2016 and 2015 are as follows:
|
|
As of December 31,
|
|
|
2016
|
|
2015
|
Deferred tax liabilities
|
|
$
|
—
|
|
|
$
|
—
|
|
|
|
|
|
|
|
|
|
|
Deferred tax assets:
|
|
|
|
|
|
|
|
|
Allowance for obsolete and slow-moving inventories
|
|
$
|
—
|
|
|
$
|
3,173
|
|
Impairment on property, plant and equipment
|
|
|
421,106
|
|
|
|
449,879
|
|
Exploration costs
|
|
|
1,794,667
|
|
|
|
1,917,301
|
|
Compensation costs of unexercised stock options
|
|
|
120,986
|
|
|
|
629,162
|
|
US federal net operating loss
|
|
|
11,575,000
|
|
|
|
10,835,000
|
|
Total deferred tax assets
|
|
|
13,911,759
|
|
|
|
13,834,515
|
|
Valuation allowance
|
|
|
(11,695,986
|
)
|
|
|
(11,464,162
|
)
|
Net deferred tax asset
|
|
$
|
2,215,773
|
|
|
$
|
2,370,353
|
|
|
|
|
|
|
|
|
|
|
Current deferred tax asset
|
|
$
|
—
|
|
|
$
|
3,173
|
|
Long-term deferred tax asset
|
|
$
|
2,215,773
|
|
|
$
|
2,367,180
|
|
The increases in valuation allowance for
the year ended December 31, 2016 was $231,824.
The decreases in valuation allowance for
the year ended December 31, 2015 was $345,134.
There were no unrecognized tax benefits
and accrual for uncertain tax positions as of December 31, 2016 and 2015.
NOTE 15 – BUSINESS SEGMENTS
The Company has four reportable segments: bromine,
crude salt, chemical products and natural gas. The reportable segments are consistent with how management views the markets served
by the Company and the financial information that is reviewed by its chief operating decision maker.
An operating segment’s performance
is primarily evaluated based on segment operating income, which excludes share-based compensation expense, certain corporate costs
and other income not associated with the operations of the segment. These corporate costs (income) are separately stated below
and also include costs that are related to functional areas such as accounting, treasury, information technology, legal, human
resources, and internal audit. All intersegment transactions have been eliminated. The Company believes that segment operating
income, as defined above, is an appropriate measure for evaluating the operating performance of its segments. All the customers
are located in PRC.
Year Ended
December 31, 2016
|
|
Bromine *
|
|
Crude
Salt
*
|
|
Chemical
Products
|
|
Natural Gas
|
|
Segment
Total
|
|
Corporate
|
|
Total
|
Net revenue
(external customers)
|
|
$
|
56,811,730
|
|
|
$
|
8,985,852
|
|
|
$
|
83,477,420
|
|
|
$
|
—
|
|
|
$
|
149,275,002
|
|
|
$
|
—
|
|
|
$
|
149,275,002
|
|
Net revenue (intersegment)
|
|
|
8,484,617
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
8,484,617
|
|
|
|
—
|
|
|
|
8,484,617
|
|
Income from operations before taxes
|
|
|
21,224,862
|
|
|
|
9,076
|
|
|
|
25,473,792
|
|
|
|
(4,906
|
)
|
|
|
46,702,824
|
|
|
|
1,020,518
|
|
|
|
47,723,342
|
|
Income taxes
|
|
|
5,306,216
|
|
|
|
9,022
|
|
|
|
6,494,969
|
|
|
|
—
|
|
|
|
11,810,207
|
|
|
|
—
|
|
|
|
11,810,207
|
|
Income from operations after taxes
|
|
|
15,918,646
|
|
|
|
54
|
|
|
|
18,978,823
|
|
|
|
(4,906
|
)
|
|
|
34,892,617
|
|
|
|
1,020,518
|
|
|
|
35,913,135
|
|
Total assets
|
|
|
143,145,960
|
|
|
|
33,980,033
|
|
|
|
186,676,983
|
|
|
|
1,799,094
|
|
|
|
365,602,070
|
|
|
|
89,283
|
|
|
|
365,691,353
|
|
Depreciation and amortization
|
|
|
15,056,980
|
|
|
|
5,221,667
|
|
|
|
4,601,599
|
|
|
|
—
|
|
|
|
24,880,246
|
|
|
|
—
|
|
|
|
24,880,246
|
|
Capital expenditures
|
|
|
12,912,583
|
|
|
|
2,335,963
|
|
|
|
—
|
|
|
|
1,747,316
|
|
|
|
16,995,862
|
|
|
|
—
|
|
|
|
16,995,862
|
|
Goodwill
|
|
|
—
|
|
|
|
—
|
|
|
|
27,668,539
|
|
|
|
—
|
|
|
|
27,668,539
|
|
|
|
—
|
|
|
|
27,668,539
|
|
Year Ended
December
31, 2015
|
|
Bromine *
|
|
Crude
Salt *
|
|
Chemical
Products
|
|
Natural Gas
|
|
Segment
Total
|
|
Corporate
|
|
Total
|
Net revenue
(external customers)
|
|
$
|
52,385,491
|
|
|
$
|
10,494,939
|
|
|
$
|
99,436,690
|
|
|
$
|
—
|
|
|
$
|
162,317,120
|
|
|
$
|
—
|
|
|
$
|
162,317,120
|
|
Net revenue (intersegment)
|
|
|
8,039,156
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
8,039,156
|
|
|
|
—
|
|
|
|
8,039,156
|
|
Income from operations before taxes
|
|
|
10,854,711
|
|
|
|
1,183,755
|
|
|
|
32,997,870
|
|
|
|
—
|
|
|
|
45,036,336
|
|
|
|
128,374
|
|
|
|
45,164,710
|
|
Income taxes
|
|
|
2,508,902
|
|
|
|
500,451
|
|
|
|
8,362,555
|
|
|
|
—
|
|
|
|
11,371,908
|
|
|
|
—
|
|
|
|
11,371,908
|
|
Income from operations after taxes
|
|
|
8,345,809
|
|
|
|
683,304
|
|
|
|
24,635,315
|
|
|
|
—
|
|
|
|
33,664,428
|
|
|
|
128,374
|
|
|
|
33,792,802
|
|
Total assets
|
|
|
136,701,878
|
|
|
|
40,306,628
|
|
|
|
179,733,958
|
|
|
|
—
|
|
|
|
356,742,464
|
|
|
|
762
|
|
|
|
356,743,226
|
|
Depreciation and amortization
|
|
|
17,498,441
|
|
|
|
6,136,889
|
|
|
|
5,460,318
|
|
|
|
—
|
|
|
|
29,095,648
|
|
|
|
—
|
|
|
|
29,095,648
|
|
Capital expenditures
|
|
|
20,665,890
|
|
|
|
2,120,622
|
|
|
|
72,113
|
|
|
|
—
|
|
|
|
22,858,625
|
|
|
|
—
|
|
|
|
22,858,625
|
|
Goodwill
|
|
|
—
|
|
|
|
—
|
|
|
|
29,559,174
|
|
|
|
—
|
|
|
|
29,559,174
|
|
|
|
—
|
|
|
|
29,559,174
|
|
* Common
production overheads, operating and administrative expenses and asset items (mainly cash and certain office equipment) of bromine
and crude salt segments in SCHC were split by reference to the average selling price and production volume of respective segment.
NOTE 15 – BUSINESS SEGMENTS –
Continued
|
|
Years ended December 31,
|
Reconciliations
|
|
2016
|
|
2015
|
|
|
|
|
|
Total segment operating income
|
|
$
|
46,702,824
|
|
|
$
|
45,036,336
|
|
Corporate costs
|
|
|
(682,210
|
)
|
|
|
(1,447,023
|
)
|
Unrealized translation difference
|
|
|
1,702,728
|
|
|
|
1,575,397
|
|
Income from operations
|
|
|
47,723,342
|
|
|
|
45,164,710
|
|
Other income
|
|
|
312,696
|
|
|
|
275,235
|
|
Income before taxes
|
|
$
|
48,036,038
|
|
|
$
|
45,439,945
|
|
The following table shows the major customer(s)
(10% or more) for the year ended December 31, 2016.
Number
|
|
Customer
|
|
Bromine
(000’s)
|
|
Crude
Salt
(000’s)
|
|
Chemical Products
(000’s)
|
|
Total
Revenue
(000’s)
|
|
Percentage
of
Total
Revenue (%)
|
|
1
|
|
|
Shandong Morui Chemical Company Limited
|
|
$
|
9,823
|
|
|
$
|
2,678
|
|
|
$
|
5,347
|
|
|
$
|
17,848
|
|
|
|
12.0
|
%
|
The following table shows the major customer(s)
(10% or more) for the year ended December 31, 2015.
Number
|
|
Customer
|
|
Bromine
(000’s)
|
|
Crude
Salt
(000’s)
|
|
Chemical Products
(000’s)
|
|
Total
Revenue
(000’s)
|
|
Percentage
of
Total
Revenue (%)
|
|
1
|
|
|
Shandong Morui Chemical Company Limited
|
|
$
|
7,989
|
|
|
$
|
2,703
|
|
|
$
|
7,431
|
|
|
$
|
18,123
|
|
|
|
11.2
|
%
|
NOTE 16 – CUSTOMER CONCENTRATION
The Company sells a substantial portion
of its products to a limited number of customers. During the year ended December 31, 2016, the Company sold 30.9% of its products
to its top five customers. At December 31, 2016, amount due from these customers were $25,111,129. During the year ended December
31, 2015, the Company sold 31.7% of its products to its top five customers. At December 31, 2015, amount due from these customers
were $21,872,942.
NOTE 17 – MAJOR SUPPLIERS
During the year ended December 31,
2016, the Company purchased 54.4% of its raw materials from its top five suppliers. At December 31, 2016, amounts due
to those suppliers included in accounts payable were $3,598,861. During the year ended December 31, 2015, the Company purchased
57.6% of its raw materials from its top five suppliers. At December 31, 2015, amounts due to those suppliers included
in accounts payable were $3,460,249.
NOTE 18 – FAIR VALUE OF FINANCIAL
INSTRUMENTS
The carrying values of financial instruments,
which consist of cash, accounts receivable and accounts payable and other payables, approximate their fair values due to the short-term
nature of these instruments. There were no material unrecognized financial assets and liabilities as of December 31,
2016 and 2015.
NOTE 19 – CAPITAL COMMITMENT AND
OPERATING LEASE COMMITMENTS
As of December 31, 2016, the Company leased
a real property adjacent to Factory No. 1, with the related production facility, channels and ducts, other production equipment
and the buildings located on the property, under a capital lease. The future minimum lease payments required under the capital
lease, together with the present value of such payments, are included in the table show below.
The Company has leased nine parcel of land
under non-cancelable operating leases, which are fixed rentals and expire through December 2021, December 2022, December 2023,
December 2030, December 2031, December 2032, December 2040, February 2059, August 2059 and June 2060, respectively.
NOTE 19 – CAPITAL COMMITMENT AND
OPERATING LEASE COMMITMENTS – Continued
The following table sets forth the Company’s
contractual obligations as of December 31, 2016:
|
|
Capital Lease Obligations
|
|
Operating Lease Obligations
|
|
Property Management Fees
|
|
Capital Expenditure
|
Payable within:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
the next 12 months
|
|
$
|
270,570
|
|
|
$
|
912,915
|
|
|
$
|
89,930
|
|
|
$
|
48,434
|
|
the next 13 to 24 months
|
|
|
270,570
|
|
|
|
931,415
|
|
|
|
89,930
|
|
|
|
—
|
|
the next 25 to 36 months
|
|
|
270,570
|
|
|
|
953,551
|
|
|
|
—
|
|
|
|
—
|
|
the next 37 to 48 months
|
|
|
270,570
|
|
|
|
973,869
|
|
|
|
—
|
|
|
|
—
|
|
the next 49 to 60 months
|
|
|
270,570
|
|
|
|
998,047
|
|
|
|
—
|
|
|
|
—
|
|
thereafter
|
|
|
2,435,124
|
|
|
|
16,479,046
|
|
|
|
—
|
|
|
|
—
|
|
Total
|
|
$
|
3,787,974
|
|
|
$
|
21,248,843
|
|
|
$
|
179,860
|
|
|
$
|
48,434
|
|
Less: Amount representing interest
|
|
|
(1,315,337
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
Present value of net minimum lease payments
|
|
$
|
2,472,637
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Rental expenses related to operating leases
of the Company amounted to $1,043,615 and $1,072,767 were charged to the consolidated statements of income for the years ended
December 31, 2016 and 2015, respectively.
SCHEDULE I – PARENT ONLY FINANCIAL
INFORMATION
The following presents condensed parent
company only financial information of Gulf Resources, Inc.
Condensed Balance Sheets
|
|
As of December 31,
|
|
|
2016
|
|
2015
|
|
|
|
|
|
Current Assets
|
|
|
|
|
|
|
|
|
Prepayments and deposits
|
|
$
|
—
|
|
|
$
|
—
|
|
Total Current Assets
|
|
|
—
|
|
|
|
—
|
|
Non-Current Assets
|
|
|
|
|
|
|
|
|
Interests in subsidiaries
|
|
|
284,649,094
|
|
|
|
272,678,589
|
|
Amounts due from group companies
|
|
|
65,197,650
|
|
|
|
65,882,207
|
|
Total non-current assets
|
|
|
349,846,744
|
|
|
|
338,560,796
|
|
Total Assets
|
|
$
|
349,846,744
|
|
|
$
|
338,560,796
|
|
|
|
|
|
|
|
|
|
|
Liabilities and Stockholders’ Equity
|
|
|
|
|
|
|
|
|
Current Liabilities
|
|
|
|
|
|
|
|
|
Other payables and accrued expenses
|
|
$
|
242,845
|
|
|
$
|
307,220
|
|
Amounts due to group companies
|
|
|
142,701
|
|
|
|
142,701
|
|
Total Liabilities
|
|
$
|
385,546
|
|
|
$
|
449,921
|
|
|
|
|
|
|
|
|
|
|
Stockholders’ Equity
|
|
|
|
|
|
|
|
|
PREFERRED STOCK; $0.001 par value; 1,000,000 shares authorized; none outstanding
|
|
$
|
—
|
|
|
$
|
—
|
|
COMMON STOCK; $0.0005 par value; 80,000,000 shares authorized; 47,052,940 and 46,276,269 shares issued; and 46,793,791 and 46,007,120 shares outstanding as of December 31, 2016 and 2015, respectively
|
|
|
23,525
|
|
|
|
23,139
|
|
Treasury stock; 259,149 and 269,149 shares as of December 31, 2016 and 2015
|
|
|
(577,141
|
)
|
|
|
(599,441
|
)
|
Additional paid-in capital
|
|
|
94,156,679
|
|
|
|
94,124,065
|
|
Retained earnings unappropriated
|
|
|
248,941,696
|
|
|
|
215,286,395
|
|
Retained earnings appropriated
|
|
|
22,910,966
|
|
|
|
20,340,436
|
|
Cumulative translation adjustment
|
|
|
(15,994,527
|
)
|
|
|
8,936,281
|
|
Total Stockholders’ Equity
|
|
|
349,461,198
|
|
|
|
338,110,875
|
|
Total Liabilities and Stockholders’ Equity
|
|
$
|
349,846,744
|
|
|
$
|
338,560,796
|
|
Condensed Statements of Income
|
|
Years Ended December 31,
|
|
|
2016
|
|
2015
|
|
|
|
|
|
OPERATING EXPENSES
|
|
|
|
|
|
|
|
|
General and administrative expenses
|
|
$
|
(674,814
|
)
|
|
$
|
(1,430,831
|
)
|
TOTAL OPERATING EXPENSES
|
|
|
(674,814
|
)
|
|
|
(1,430,831
|
)
|
OTHER EXPENSES
|
|
|
|
|
|
|
|
|
Interest expense
|
|
|
(668
|
)
|
|
|
(663
|
)
|
TOTAL OTHER EXPENSES
|
|
|
(668
|
)
|
|
|
(663
|
)
|
TOTAL EXPENSES
|
|
|
(675,482
|
)
|
|
|
(1,431,494
|
)
|
Equity in net income of subsidiaries
|
|
|
36,901,313
|
|
|
|
35,499,531
|
|
INCOME BEFORE TAXES
|
|
|
36,225,831
|
|
|
|
34,068,037
|
|
INCOME TAXES
|
|
|
—
|
|
|
|
—
|
|
NET INCOME
|
|
$
|
36,225,831
|
|
|
$
|
34,068,037
|
|
|
|
|
|
|
|
|
|
|
Condensed Statements of Cash Flows
|
|
Years Ended December 31,
|
|
|
2016
|
|
2015
|
|
|
|
|
|
CASH FLOWS FROM OPERATING ACTIVITIES
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
36,225,831
|
|
|
$
|
34,068,037
|
|
Adjustments to reconcile net income to
net cash provided by operating activities:
|
|
|
|
|
|
|
|
|
Equity earnings in unconsolidated subsidiaries
|
|
|
(36,901,313
|
)
|
|
|
(35,499,531
|
)
|
Stock-based compensation expense-options
|
|
|
40,300
|
|
|
|
374,600
|
|
Shares issued from treasury stock for services
|
|
|
15,000
|
|
|
|
—
|
|
Changes in assets and liabilities:
|
|
|
|
|
|
|
|
|
Prepayment and deposits
|
|
|
—
|
|
|
|
4,586
|
|
Other payables and accrued expenses
|
|
|
(64,375
|
)
|
|
|
(15,474
|
)
|
Net cash used in operating activities
|
|
|
(684,557
|
)
|
|
|
(1,067,782
|
)
|
CASH FLOWS FROM FINANCING ACTIVITIES
|
|
|
|
|
|
|
|
|
Advances from / (to) group companies
|
|
|
684,557
|
|
|
|
1,105,495
|
|
Repurchase of common stock
|
|
|
—
|
|
|
|
(37,713
|
)
|
Net cash provided by financing activities
|
|
|
684,557
|
|
|
|
1,067,782
|
|
NET INCREASE IN CASH AND CASH EQUIVALENTS
|
|
|
—
|
|
|
|
—
|
|
CASH AND CASH EQUIVALENTS - BEGINNING OF YEAR
|
|
|
—
|
|
|
|
—
|
|
CASH AND CASH EQUIVALENTS - END OF YEAR
|
|
$
|
—
|
|
|
$
|
—
|
|
SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING
AND FINANCING ACTIVITIES
|
|
|
|
|
|
|
|
|
Par value of common stock issued upon cashless exercise of options
|
|
$
|
386
|
|
|
$
|
49
|
|
Fair value of common stock
issued for acquisition of business
|
|
$
|
—
|
|
|
$
|
13,373,140
|
|
|
(i)
|
Basis of presentation
|
In the condensed parent-company-only
financial statements, the Company’s investment in subsidiaries is stated at cost plus equity in undistributed earnings of
subsidiaries since the date of acquisition. The Company’s share of net income of its subsidiaries is included in condensed
statements of income using the equity method. These condensed parent-company-only financial statements should be read in connection
with the consolidated financial statements and notes thereto.
As of December 31, 2016, the
Company itself has no purchase commitment, capital commitment and operating lease commitment.
|
(ii)
|
Restricted Net Assets
|
Schedule I of Rule 5-04 of Regulation
S-X requires the condensed financial information of registrant shall be filed when the restricted net assets of consolidated subsidiaries
exceed 25 percent of consolidated net assets as of the end of the most recently completed fiscal year. For purposes of the above
test, restricted net assets of consolidated subsidiaries shall mean that amount of the registrant’s proportionate share of
net assets of consolidated subsidiaries (after intercompany eliminations) which as of the end of the most recent fiscal year may
not be transferred to the parent company by subsidiaries in the form of loans, advances or cash dividends without the consent of
a third party (i.e., lender, regulatory agency, foreign government, etc.).
The condensed parent company
financial statements have been prepared in accordance with Rule 12-04, Schedule I of Regulation S-X as the restricted net assets
of the subsidiaries of Gulf Resources, Inc. exceed 25% of the consolidated net assets of Gulf Resources, Inc. The ability of the
Company’s Chinese operating subsidiaries to pay dividends may be restricted due to the foreign exchange control policies
and availability of cash balances of the Chinese operating subsidiaries. Because a significant portion of the Company’s operations
and revenues are conducted and generated in China, a significant portion of the revenues being earned and currency received are
denominated in RMB. RMB is subject to the exchange control regulation in China, and, as a result, the Company may be unable to
distribute any dividends outside of China due to PRC exchange control regulations that restrict the Company’s ability to
convert RMB into US Dollars.