Overview
We are a retailer and
distributor of pharmaceutical and other healthcare products typically found in a retail pharmacy in the People’s Republic
of China (“PRC” or “China”). Prior to acquiring Zhejiang Jiuxin Medicine Co., Ltd. (“Jiuxin Medicine”)
in August 2011 (see “
Our Corporate History and Structure - HJ Group
” below), we were primarily a retail pharmacy
operator. We currently have sixty-seven (67) store locations under the store brand “Jiuzhou Grand Pharmacy” in Hangzhou city and its adjacent town Lin’an.
We
currently operate in four business segments in China: (1) retail drugstores, (2) online pharmacy, (3) wholesale business selling
products similar to those we carry in our pharmacies, and (4) farming and selling herbs used for traditional Chinese medicine
(“TCM”).
Our
stores provide customers with a wide variety of pharmaceutical products, including prescription and over-the-counter (“OTC”)
drugs, nutritional supplements, TCM, personal and family care products, and medical devices, as well as convenience products,
including consumable, seasonal, and promotional items. Additionally, we have licensed doctors of both western medicine and TCM
on site for consultation, examination and treatment of common ailments at scheduled hours. Three (3) stores have adjacent medical
clinics offering urgent cares (to provide treatment for minor ailments such as sprains, minor lacerations, and dizziness that
can be treated on an outpatient basis), TCM (including acupuncture, therapeutic massage, and cupping) and minor outpatient surgical
treatments (such as suturing). Our stores vary in size, but presently average approximately 200 square meters. We attempt to tailor
each store’s product offerings, physician access, and operating hours to suit the community where the store is located.
We
operate our pharmacies (including the medical clinics) through the following companies in China that we control through contractual
arrangements:
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●
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Hangzhou
Jiuzhou Grand Pharmacy Chain Co., Ltd. (“Jiuzhou Pharmacy”), which we control contractually, operates our “Jiuzhou
Grand Pharmacy” stores;
|
|
●
|
Hangzhou
Jiuzhou Clinic of Integrated Traditional and Western Medicine (General Partnership) (“Jiuzhou Clinic”), which
we control contractually, operates one (1) of our two (2) medical clinics; and
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|
●
|
Hangzhou
Jiuzhou Medical & Public Health Service Co., Ltd. (“Jiuzhou Service”), which we control contractually, operates
our other medical clinics.
|
We
also retail OTC drugs and nutritional supplements through a website (
www.dada360.com
) that we operate through Zhejiang
Shouantang Pharmaceutical Technology Co., Ltd. (“Shouantang Technology”), a wholly-owned subsidiary, and its subsidiary,
Zhejiang Quannuo Internet Technology Co., Ltd. (“Quannuo Technology”) before November 2015. In November 2015, Quannuo
Technology was sold and as a result, the online pharmacy operation function was transferred to Jiuzhou Pharmacy. For the fiscal
year ended March 31, 2017, retail revenue, including pharmacies, medical clinics accounted for approximately 63.5% of our total
revenue, while online pharmacy revenue accounted for 18.9% of our total revenue.
Since
August 2011, we have operated a wholesale business through Zhejiang Jiuxin Medicine Co., Ltd. (“Jiuxin Medicine”),
distributing third-party pharmaceutical products (similar to those carried by our pharmacies) primarily to trading companies throughout
China. Jiuxin Medicine is wholly owned by Jiuzhou Pharmacy. For the fiscal year March 31, 2017, wholesale revenue accounted for
approximately 17.6% of our total revenue.
We
also have an herb farming business cultivating and wholesaling herbs used for TCM. This business is conducted through Hangzhou
Qianhong Agriculture Development Co., Ltd. (“Qianhong Agriculture”), a wholly-owned subsidiary. During the fiscal
year ended March 31, 2017, we generated no revenue from our herb farming business.
Throughout
this report, we will sometimes refer to Jiuzhou Pharmacy, Jiuzhou Clinic and Jiuzhou Service, as well as the subsidiaries of Jiuzhou
Pharmacy, collectively as “HJ Group.”
Our
Corporate History and Structure
We
were incorporated in Nevada on December 19, 2006, under the name “Kerrisdale Mining Corporation,” with a principal
business objective to acquire and develop mineral properties. Although we had acquired certain mining claims, we were not operational.
On
July 14, 2008, we amended our Articles of Incorporation to change our authorized capital stock from 75,000,000 shares of common
stock, par value $0.001 per share, to 500,000,000 shares of common stock, par value $0.001 per share, and 10,000,000 shares of
preferred stock, par value $0.001 per share. The preferred stock is “blank check,” and our Board of Directors has
the right to set its designations, preferences, limitations, privileges, qualifications, dividend, conversion, voting, and other
special or relative rights.
On
September 17, 2009, we acquired control of Renovation Investment (Hong Kong) Co., Ltd., a limited liability company incorporated
in Hong Kong on September 2, 2008 (“Renovation”), pursuant to a share exchange agreement.
On
September 24, 2009, we amended our Articles of Incorporation to change our name from “Kerrisdale Mining Corporation”
to “China Jo-Jo Drugstores, Inc.”
On
April 9, 2010, we implemented a 1-for-2 reverse stock split of our issued and outstanding shares of common stock and a proportional
reduction of our authorized shares of common stock, by filing a Certificate of Change pursuant to Nevada Revised Statutes 78.209
with the Nevada Secretary of State on April 6, 2010. All share information in this report takes into account this reverse stock
split.
On
April 28, 2010, we completed a registered public offering of 3,500,000 shares of our common stock at a price of $5.00 per share,
resulting in gross proceeds to us, prior to deducting underwriting discounts, commissions and offering expenses, of approximately
$17,500,000.
On
July 24, 2015, we closed a registered direct offering of 1.2 million shares of common stock at $2.50 per share with gross proceeds
of approximately $3 million from its effective shelf registration statement on Form S-3.
On January 23, 2017, we completed a private offering of 4,840,000 shares of the common stock at a price
of $2.20 per share with gross proceeds of approximately $10,648,000.
Renovation
Renovation
was formed by the owners of HJ Group as a special purpose vehicle to raise capital overseas, in accordance with requirements of
China’s State Administration of Foreign Exchange (“SAFE”). SAFE issued the
Notice on Relevant Issues Concerning
Foreign Exchange Administration for Financing and Round-Trip Investment Undertaken by Domestic Residents Through Overseas Special-Purpose
Vehicles
(“Circular No. 75”) on October 21, 2005. To further clarify the implementation of Circular 75, on May
31, 2007, SAFE issued a supplementary official notice known as
Hui ZhongFa [2007] No. 106
(“Circular 106”).
Circular 75 and Circular 106 require the owners of any Chinese company to obtain SAFE’s approval before establishing any
offshore holding company structure for foreign financing as well as subsequent acquisition matters in China. Accordingly, the
owners of HJ Group submitted their applications to SAFE on July 25, 2008. On August 16, 2008, SAFE approved the applications,
permitting these Chinese nationals to establish Renovation as an offshore, special purpose vehicle which was permitted to have
foreign ownership and participate in foreign capital raising activities. After SAFE’s approval, the owners of HJ Group became
holders of one hundred percent (100%) of Renovation’s issued and outstanding capital stock on September 2, 2008. See “
Relevant PRC Regulations - SAFE Registration
” below.
Jiuxin
Management
Zhejiang
Jiuxin Investment Management Co., Ltd. (“Jiuxin Management”) was organized in the PRC on October 14, 2008. Since all
of its issued and outstanding capital stock is held by Renovation, a Hong Kong company, Jiuxin Management is deemed a “wholly
foreign owned enterprise” (“WFOE”) under applicable PRC laws.
Jiutong
Medical
Hangzhou
Jiutong Medical Technology Co., Ltd. (“Jiutong Medical”) was organized in the PRC on December 20, 2011. Like Jiuxin
Management, Jiutong Medical is also deemed a WFOE because it is wholly owned by Renovation. In November 2013, Jiutong Medical
acquired the right to use of a piece of land, on which we plan to establish a herb processing plant in the future. As of March
31, 2017, we have not started constructing the plant.
Shouantang
Technology
Shouantang
Technology was organized in the PRC on July 16, 2010. Like Jiuxin Management and Jiutong Medical, it is also deemed a WFOE because
it is wholly owned by Renovation.
In November 2010, Shouantang
Technology acquired one hundred percent (100%) of Quannuo Technology and its wholly-owned subsidiary, Hangzhou Quannuo Grand Pharmacy
Co., Ltd. (“Hangzhou Quannuo”), pursuant to an equity ownership transfer agreement. Quannuo Technology was organized
in the PRC on July 7, 2009, and Hangzhou Quannuo
was
established on July 8, 2010. Hangzhou Quannuo currently has no operations and has terminated its SAIC license in April 2015.
In
November 2015, we sold all of the equity interests of Quannou Technology to six individuals for approximately $17,121 (RMB107,074).
Quannuo Technology used to perform technical supports to our online pharmacy and incurred accumulated loss over the last five
years. After the sale, its technical support function has been transferred back to Jiuzhou Pharmacy, which hosts our online pharmacy.
Qianhong
Agriculture
Qianhong
Agriculture was organized in the PRC on August 10, 2010 and is now carrying out our herb farming business. As of March 31, 2017,we
have not harvested or sold any herbs.
Sanhao
Pharmacy
On October 9, 2014, the
Company, through Jiuzhou Pharmacy, acquired Sanhao Grand Pharmacy Chain Co., Ltd. (“Sanhao Pharmacy”), a local drugstore
chain located in Hangzhou, for $1.56 million (RMB9.6 million). In January 2015, eight stores of Sanhao Pharmacy with the qualification
of Social Health Insurance (“SHI”) have been relocated to major resident areas with significant store improvements.
The eight stores are now operating under the brand name “Jiuzhou Pharmacy”. Two stores without SHI license have been
closed as of March 31, 2015. The remaining one store without SHI license was closed in August 2015. In October 2015, Sanhao Pharmacy
was completely dissolved.
Shouantang
Bio
On
October 11, 2014, the Company, through Jiuzhou Pharmacy, formed Shouantang Bio-technology Co., Ltd. (“Shouantang Bio”)
by contributing $0.16 million (RMB1 million) as its register capital. Shouantang Bio is formed to sell nutritional supplements
under its own brand name, Shouantang.
Jiuyi
Technology
On
September 10, 2015, Renovation set up a new entity named Hangzhou JiuYi Medical Technology Co. Ltd, (“Jiuyi Technology”)
with a registered capital of $5 million, to provide additional technical support such as webpage development to our online pharmacy
business. Jiuyi Technology is located in Hangzhou, China.
Lin’an
Jiuzhou
On
March 31, 2017, the Company, through Jiuxin Management, formed Lin’an Jiuzhou Grand Pharmacy Co. Ltd, (“Lin’an
Jiuzhou”) with a registered capital of $725,570 (RMB 5 million), to expand our retail pharmacies in Lin’an City.
HJ
Group
Jiuzhou
Pharmacy is a PRC limited liability company established on September 9, 2003 by the Key Personnel: Mr. Lei Liu (55%), Mr. Chong’an
Jin (23%) and Ms. Li Qi (22%). Hangzhou Kuaileren Grand Pharmacy Co., Ltd. (“Kuaileren”), originally a subsidiary
of Jiuzhou Pharmacy, was dissolved on April 9, 2011. Prior to its dissolution, Kuaileren operated a “Kuaileren Grand Pharmacy”
store, which is now a “Jiuzhou Grand Pharmacy” store. On July 1, 2014, Mr. Chong’an Jin transferred all of his
equity interests he held in Jiuzhou Pharmacy to Mr. Lei Liu and Ms. Li Qi. As a result, now Mr. Lei Liu has held 61% and Ms. Li
Qi has held 39% equity interests of Jiuzhou Pharmacy.
Jiuzhou
Pharmacy currently has one subsidiary, Jiuxin Medicine, which was organized in the PRC on December 31, 2003. In April 2011, Jiuzhou
Pharmacy entered into an equity ownership transfer agreement with the owners of Jiuxin Medicine, and its business license was
transferred to Jiuzhou Pharmacy, although no consideration was paid. On August 25, 2011, the acquisition of Jiuxin Medicine was
completed for $4.7 million (RMB 30 million.)
Jiuzhou
Clinic is a PRC general partnership established on October 10, 2003 by the Key Personnel: Mr. Liu (39%), Mr. Jin (31%) and Ms.
Qi (30%). Jiuzhou Clinic is a medical practice currently operating adjacent to the “Jiuzhou Grand Pharmacy” store
in Daguan, providing primary, urgent, minor surgical, and traditional medical care services. Additionally, Jiuzhou Clinic’s
physicians consult with and examine patients at other “Jiuzhou Grand Pharmacy” stores.
Jiuzhou
Service is a PRC limited liability company established on November 2, 2005 by the Key Personnel: Mr. Liu (39%), Mr. Jin (31%)
and Ms. Qi (30%). Jiuzhou Service is licensed as a healthcare management company and currently manages the medical clinic operating
adjacent to the “Jiuzhou Grand Pharmacy” store in Wenhua, providing services similar to those at the Daguan clinic.
Shouantang Health is a subsidiary of Jiuzhou Service that was established in December 2013 and was closed in April 2015.
We
control HJ Group through contractual arrangements. See “
Contractual Arrangements with HJ Group and the Key Personnel
”
below.
Contractual
Arrangements with HJ Group and the Key Personnel
Our
relationships with HJ Group and the Key Personnel are governed by a series of contractual arrangements that they have entered
into with Jiuxin Management.
PRC
regulations on foreign investment currently permit foreign companies to establish or invest in WFOEs or joint ventures that engage
in wholesale or retail sales of pharmaceuticals in China. For retail sales, however, these regulations restrict the number and
size of pharmacies that a foreign investor may own. If a chain operates more than thirty (30) stores and sells branded pharmaceutical
products from different suppliers, a foreign investor may own only up to forty nine percent (49%) of such chain. The contractual
arrangements with Jiuzhou Pharmacy enable us to bypass such restrictions, since neither we nor our subsidiaries own equity interests
in Jiuzhou Pharmacy, while at the same time we retain control of its drugstore chain by virtue of the contractual arrangements.
Similarly,
PRC regulations place certain restrictions on foreign ownership of medical practice. Foreign investors can only acquire ownership
interests through a Sino-foreign joint venture and not through a WFOE. Since we do not have actual equity interests in Jiuzhou
Clinic or Jiuzhou Service, and instead control these entities through contractual arrangements, such regulations do not apply
to us or our structure.
Under PRC laws, Jiuxin
Management, Jiuzhou Pharmacy, Jiuzhou
Service and Jiuzhou
Clinic are each independent business entities not exposed or subject to the liabilities incurred by any of the other three (3)
entities. The contractual arrangements constitute valid and binding obligations of the parties to such agreements. Each of the
contractual arrangements, and the rights and obligations of the parties thereto, are enforceable and valid in accordance with
the laws of the PRC. These contractual arrangements, as amended and in effect, include the following:
Consulting Services Agreement. Pursuant to certain exclusive consulting services agreements (the “Consulting
Services Agreement”), Jiuxin Management has the exclusive right to provide Jiuzhou Pharmacy,
Jiuzhou
Service and Jiuzhou Clinic with general business operation services, including advice and strategic planning, as well as consulting
services related to their current and future operations (the “Services”). Additionally, Jiuxin Management owns the
intellectual property rights developed or discovered through research and development, in the course of providing the Services,
or derived from the provision of the Services. Jiuzhou Pharmacy, Jiuzhou Service and Jiuzhou Clinic must each pay a quarterly consulting
services fee in RMB to Jiuxin Management that is equal to its profits for such quarter. This agreement is in effect until and unless
terminated by written notice of a party to the agreement in the event that: (a) a party becomes bankrupt, insolvent, is the subject
of proceedings or arrangements for liquidation or dissolution, ceases to carry on business, or becomes unable to pay its debts
as they become due; (b) Jiuxin Management terminates its operations; or (c) circumstances arise which would materially and adversely
affect the performance or the objectives of the agreement. Jiuxin Management may also terminate the agreement with any of Jiuzhou
Pharmacy, Jiuzhou Service or Jiuzhou Clinic if one of them breaches the terms of the agreement, or without cause.
Operating Agreement. Pursuant
to the operating agreement, Jiuxin Management agrees to guarantee the contractual performance by Jiuzhou Pharmacy,
Jiuzhou
Service and Jiuzhou Clinic of their agreements with any third party. In return, the Key Personnel must appoint designees of Jiuxin
Management to the boards of directors and senior management of Jiuzhou Pharmacy, Jiuzhou Service and Jiuzhou Clinic. In addition,
each of Jiuzhou Pharmacy, Jiuzhou Service and Jiuzhou Clinic agrees to pledge its accounts receivable and all of its assets to
Jiuxin Management. Moreover, without the prior consent of Jiuxin Management, Jiuzhou Pharmacy, Jiuzhou Service and Jiuzhou Clinic
cannot engage in any transactions that could materially affect their respective assets, liabilities, rights or operations, including,
without limitation, incurrence or assumption of any indebtedness, sale or purchase of any assets or rights, incurrence of any
encumbrance on any of their assets or intellectual property rights in favor of a third party, or transfer of any agreements relating
to their business operations to any third party. They must also abide by corporate policies set by Jiuxin Management with respect
to their daily operations, financial management and employment issues. The term of this agreement is from August 1, 2009 until
the maximum period of time permitted by law. Jiuzhou Pharmacy, Jiuzhou Service and Jiuzhou Clinic cannot terminate this agreement.
Equity Pledge Agreement.
Pursuant to certain equity pledge agreements (the “Equity Pledge Agreement”), the Key Personnel have pledged all of
their equity interests in Jiuzhou Pharmacy, Jiuzhou Service and Jiuzhou Clinic to Jiuxin Management in order to guarantee these
companies’ performance of their respective obligations under the Consulting Services Agreement. If these companies or the
Key Personnel breach their respective contractual obligations, Jiuxin Management, as pledgee, will be entitled to certain rights,
including the right to sell the pledged equity interests. The Key Personnel have also agreed that upon occurrence of any event
of default, Jiuxin Management shall be granted an exclusive, irrevocable power of attorney to take actions in the place and stead
of the Key Personnel to carry out the security provisions of this agreement, and to take any action and execute any instrument
that Jiuxin Management may deem necessary or advisable to accomplish the purposes of this agreement. The Key Personnel agree not
to dispose of the pledged equity interests or take any actions that would prejudice Jiuxin Management’s interests. This agreement
will expire two (2) years after the obligations of Jiuzhou Pharmacy, Jiuzhou Service and Jiuzhou Clinic under the Consulting Services
Agreement have been fulfilled.
Option Agreement. Pursuant
to the option agreement, the Key Personnel irrevocably grant Jiuxin Management or its designee an exclusive option to purchase,
to the extent permitted under PRC law, all or part of their equity interests in Jiuzhou Pharmacy,
Jiuzhou
Service and Jiuzhou Clinic for the cost of the initial contributions to the registered capital or the minimum amount of consideration
permitted by applicable PRC law. Jiuxin Management or its designee has sole discretion to decide when to exercise the option,
whether in part or in full. The term of this agreement is from August 1, 2009 until the maximum period of time permitted by law.
Proxy Agreement. Pursuant to the proxy agreement, the Key Personnel irrevocably grant a designee of Jiuxin
Management the right to exercise the voting and other ownership rights of the Key Personnel in Jiuzhou Pharmacy,
Jiuzhou
Service and Jiuzhou Clinic, including the rights to (i) attend any meeting of the Key Personnel (or participate by written consent
in lieu of such meeting) in accordance with applicable laws and each company’s incorporating documents, (ii) sell or transfer
all or any of the equity interests of the Key Personnel in these companies, and (iii) appoint and vote for the companies’
directors. The proxy agreement may be terminated by mutual consent of the parties or upon thirty (30) days’ written notice
from Jiuxin Management.
Other than as pursuant to the foregoing contractual arrangements, Jiuzhou Pharmacy,
Jiuzhou
Service and Jiuzhou Clinic cannot transfer any funds generated from their respective operations. The contractual arrangements were
originally entered into on August 1, 2009, and amended on October 27, 2009.
Our
Current Corporate Structure
The
following diagram illustrates our current corporate structure as of March 31, 2017:
The
table below summarizes the status of the registered capital of our PRC subsidiaries and controlled companies as of the date of
this report:
Entity Name
|
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Entity Type
|
|
|
Registered Capital
|
|
Registered Capital Paid
|
|
Due Date for Unpaid Registered Capital
|
Jiutong Medical
|
|
Subsidiary
|
|
|
USD 2,600,000
|
|
USD 2,600,000
|
|
N/A
|
Jiuzhou Clinic
|
|
VIE
|
|
|
N/A
|
|
N/A
|
|
N/A
|
Jiuzhou Pharmacy
|
|
VIE
|
|
|
USD 733,500
|
|
USD 733,500
|
|
N/A
|
Jiuzhou Service
|
|
VIE
|
|
|
USD 73,350
|
|
USD 73,350
|
|
N/A
|
Jiuxin Management
|
|
Subsidiary
|
|
|
USD 14,500,000
|
|
USD 14,500,000
|
|
N/A
|
Jiuxin Medicine
|
|
VIE
|
|
|
USD 1,564,000
|
|
USD 1,564,000
|
|
N/A
|
Qianhong Agriculture
|
|
Subsidiary
|
|
|
USD 1,497,000
|
|
USD 1,497,000
|
|
N/A
|
Shouantang Technology
|
|
Subsidiary
|
|
|
USD 11,000,000
|
|
USD 11,000,000
|
|
N/A
|
Shouantang Bio
|
|
Subsidiary
|
|
|
USD 162,900
|
|
USD 162,900
|
|
N/A
|
Jiuyi Technology
|
|
Subsidiary
|
|
|
USD 5,000,000
|
|
USD 2,500,000
|
|
September 25, 2026
|
Lin’an Jiuzhou
|
|
Subsidiary
|
|
|
USD 725,570
|
|
USD 72,557
|
|
March 31, 2027
|
Kahamadi Bio
|
|
Associate
|
|
|
USD 1,451,140
|
|
USD
46,152
|
|
May 1, 2036
|
Our
Business
Pharmacies
We currently have sixty-seven
(67) pharmacies throughout Hangzhou, the provincial capital of Zhejiang and neighborhood cities. Pharmacy sales accounted for approximately
77.1% of our retail revenue, and 63.6% of our total revenue, for the fiscal year ended March 31, 2017. We offer primarily third-party
products at our pharmacies, including:
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●
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Approximately
1,300 prescription drugs (258 of which require a physician’s prescription and the rest requires customer personal information
registration only), sales of which accounted for approximately 33.0% of our retail revenue for the fiscal year ended March
31, 2017;
|
|
●
|
Approximately
1,450 OTC drugs, sales of which accounted for approximately 43.2% of our retail revenue for the fiscal year ended March 31,
2017;
|
|
●
|
Approximately
410 nutritional supplements, including a variety of healthcare supplements, vitamin, mineral and dietary products, sales of
which accounted for approximately 8.1% of our retail revenue for the fiscal year ended March 31, 2017;
|
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●
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TCM,
including drinkable herbal remedies and pre-packaged herbal mixtures for making soup, sales of which accounted for approximately
8.0% of our retail revenue for the fiscal year ended March 31, 2017;
|
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●
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Sundry
products (i.e., personal care products such as skin care, hair care and beauty products, convenience products such as soft
drinks, packaged snacks, and other consumable, cleaning agents, stationeries, and seasonal and promotional items tailored
to local consumer demand for convenience and quality), sales of which accounted for approximately 1.7% of our retail revenue
for the fiscal year ended March 31, 2017; and
|
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●
|
Medical devices (i.e., family planning and birth control products, early pregnancy test products, portable electronic diagnostic apparatus, rehabilitation equipment, and surgical tools such as hemostats, needle forceps and surgical scissors), sales of which accounted for approximately 6.0% of our retail revenue for the fiscal year ended March 31, 2017.
|
We
favor retail locations in well-established residential communities with relatively concentrated consumer purchasing power, and
evaluate potential store sites to assess consumer traffic, visibility and convenience. Depending on its size, each drugstore has
between two (2) to eight (8) pharmacists on staff, all of whom are properly licensed. We accept prescriptions only from licensed
health care providers, and verify the validity, accuracy, and completeness of all prescriptions. We also ask all prescription
customers to disclose their drug allergies, current medical conditions, and current medications. Each pharmacy also maintains
a TCM counter staffed by licensed herbalists.
After
opening, a location without SHI coverage may take up to one year to achieve our projected revenue goals for that particular location.
Various factors influence individual store revenue including, but not limited to: location, nearby competition, local population
demographics, square footage, and government insurance coverage.
All of our sixty-seven
(67) drugstores are located in Hangzhou city and its adjacent town Lin’an.
To
enhance customer experience, we have licensed physicians available at several of “Jiuzhou Grand Pharmacy” locations
for consultation, examination and treatment of common ailments at scheduled hours. In addition, our Daguan, Wenhua and Xiasha
stores have adjoining medical clinics that provide urgent care (such as sprains, minor lacerations, and dizziness), TCM treatments
(including acupuncture, therapeutic massage, moxibustion, and cupping), and minor outpatient surgical treatments (such as suturing).
To
ensure quality and personal attention for patients, we employ only licensed doctors and certified nurses and technicians, and
patient treatments at our three (3) clinics follow nationally established clinical practice guidelines from China’s Ministry
of Health. We currently have fifty-seven (57) physicians and eleven (11) clinic staff. In-store consultations and examinations
by our physicians are provided free-of-charge to ensure that customers are being prescribed and taking the appropriate medicines
for their ailments, and to afford customers convenience.
We
view our medical services as more consumer-driven than other health care specialties, because consumers requiring the types of
medical services that we provide often seek treatment on their own accord. We have developed our medical services to respond to
the public need for convenient access to medical consultations and/or care and the significant savings that we can provide as
compared to a more traditional medical setting such as a hospital. Many of our patients often need immediate access to medical
services, do not have a regular physician, or may lack suitable alternatives. Patient flow is derived from the physical presence
of our drugstores, not from pre-existing doctor-patient relationships or referrals from other healthcare providers.
We
generate limited revenue directly from our clinics. However, our clinic brings in the patients flow into our stores, where they
make medicine purchase.
Online
Sales
Since
May 2010, we have been retailing OTC drugs and nutritional supplements on the Internet at
www.dada360.com
. Before November
2015, our subsidiary Quannuo Technology operated and maintained the website pursuant to the Internet Pharmaceutical Transaction
Service Qualification Certificate issued by the State Food and Drug Administration (the “SFDA”) of Zhejiang Province,
which allows us to engage in online retail pharmaceutical sales throughout China. As we sold all our equity interests in Quannuo
Technology in November 2015, we have transferred our online pharmacy operation function to Jiuzhou Pharmacy. We have established
payment methods with banks and online intermediaries such as Alipay, and are cooperating with business-to-consumer online vendors
such as Taobao. By using Taobao’s platform, we can be exposed to a wider range of customers.
Online
sales accounted for approximately 22.9% of our retail revenue, and 18.9% of our total revenue, for the fiscal year ended March
31, 2017.
Wholesale
Since
acquiring Jiuxin Medicine in August 2011, we have been distributing similar third-party products offered at our pharmacies primarily
to drug distributors throughout China, including:
|
●
|
Approximately
1,065 prescription drugs, the sales of which accounted for approximately 55.6% of our wholesale revenue for the fiscal year
ended March 31, 2017;
|
|
●
|
Approximately
1,284 OTC drugs, the sales of which accounted for approximately 42.5% of our wholesale revenue for the fiscal year ended March
31, 2017;
|
|
●
|
Approximately
208 nutritional supplements, the sales of which accounted for approximately 0.4% of our wholesale revenue for the fiscal year
ended March 31, 2017;
|
|
●
|
TCM
products, the sales of which accounted for approximately 1.5% of our wholesale revenue for the fiscal year ended March 31,
2017;
|
|
●
|
Sundry
products, the sales of which accounted for approximately 0.0% of our wholesale revenue for the fiscal year ended March 31,
2017; and
|
|
●
|
Medical
devices, the sales of which accounted for approximately 0.0% of our wholesale revenue for the fiscal year ended March 31,
2017.
|
Our
initial wholesale strategy was to scale the size of Jiuxin Medicine’s business as quickly as possible through very competitive
prices so that we could qualify to sell directly to hospital-affiliated pharmacies, which we estimate to represent over eighty
percent (80%) sales of the pharmacies in China. However, that strategy has largely proven unprofitable, so we refocused our strategy
on profitability starting in the third quarter of fiscal 2014. As local hospitals had stronger ties with their existing suppliers,
during the year ended March 31, 2017, we had not been able to make significant progress. Wholesale revenue accounted for approximately
17.6% of our total revenue for the fiscal year ended March 31, 2017.
Herb
Farming
From
2010 to the third quarter of fiscal 2013, we had been cultivating and harvested ten (10) types of herbs, such as fructusrubi (used
in TCM to promote blood circulation), white atractylodes rhizome (used in TCM to treat physical and mental fatigue), atractylodesmacrocephala
(used in TCM to control sweating), ginkgo seeds (used in TCM to treat asthma), and maidenhair trees used for TCM on approximately
forty eight (48) acres of leased land in Lin’an, approximately thirty (30) miles from Hangzhou.
We planted ginkgo and
maidenhair trees during the year ended March 31, 2013. A ginkgo tree may have a growth period of up to twenty years before it is
mature enough to harvest. Usually, the longer it grows, the more valuable it becomes. We plan to continue cultivating the trees
in order to maximize their market value in the future. During the year ended March 31, 2017, we have cultivated white tea among
the ginkgo trees. We anticipate that we will continue growing trees and cultivating other herbs in the future.
Actual
planting, cultivating and harvesting are done by local farmers organized and managed by the local village government. The farmers
are compensated for their labor on an hourly basis. We also employed agricultural specialists under Qianhong Agriculture to monitor
the farming activities. Harvested herbs are generally sold to a local vendor.
Herb
farming revenue accounted for no revenue for the fiscal year ended March 31, 2017.
Our
Customers
Retail
Customers
For
the fiscal year ended March 31, 2017, our pharmacies collectively served an average of approximately 12,500 customers per day.
We periodically conduct qualitative customer surveys to help us build a stronger understanding of our market position and our
customers’ purchasing habits.
Pharmacy
customers pay by cash, debit or credit card, mobile devices or medical insurance cards under Hangzhou and Zhejiang’s medical
insurance programs. During the fiscal year ended March 31, 2016, approximately 30.6% of our pharmacy revenue came from cash sales,
47.4% from Hangzhou’s medical insurance cards (where most of our pharmacies are located), and 22.0% from debit and credit
cards, Zhejiang’s medical insurance cards and other charge cards.
We
maintain strict cash control procedures at our pharmacies. Our integrated information management system records the details of
each sale, which we control from our headquarters. Depending on each location’s sales activities, cash may be deposited
daily or several times per week in designated bank accounts.
For
sales made to eligible participants in the national medical insurance program, we generally obtain payments from the relevant
government social security bureaus on a monthly basis. See ”
Relevant PRC Regulations - Reimbursement under the National
Medical Insurance Program.
” According to relevant regulations, a drugstore must operate for at least one (1) year before
it can apply to be licensed to accept Hangzhou’s medical insurance cards. As of the date of this report, fifty-six (56)
of our sixty-seven (67) “Jiuzhou Grand Pharmacy” stores are licensed to accept medical insurance cards while four
(4) will apply for approval in the near future. Those of our stores that accept medical insurance cards are designated as such
by clear signage on their storefront windows.
Online
Sales Customers
Our online customers mainly
consist of consumers below thirty five (35) years old. While our website is accessible throughout China, approximately forty
-five
percent (45%) of our online sales during the fiscal year ended March 31, 2017, were from Zhejiang and neighboring Jiangsu and
Shanghai.
Wholesale
Customers
Our
wholesale customers are primarily third-party trading companies that purchase from us to resell to pharmacies throughout China.
We also supply some hospitals and pharmacies, although they collectively make up less than 10.0% of our wholesale customers currently.
HuaDong Pharmaceutical Co., Ltd. accounted for approximately 17.2% of our wholesale revenue, and 3.0% of our total revenue, for
the fiscal year ended March 31, 2017. This customer is neither related to nor affiliated with us.
Herb
Farming Customers
Our
farming customers primarily include local herb vendors. For the fiscal year ended March, 31, 2017, we have not harvested or sold
any herbs.
Marketing
and Promotion
Our
marketing and promotion efforts are focused on our retail segment, particularly our pharmacies, and our strategy is to build brand
recognition, increase customer flow, build strong customer loyalty, maximize repetitive customer visits, and develop incremental
revenue opportunities.
Our
marketing department designs chain-wide marketing efforts while each store designs local promotions based on local demographics
and market conditions. We also launch single store promotional campaigns and community activities in connection with the opening
of new stores. Our store managers and staff are also encouraged to propose their own advertising and promotional plans, including
holiday promotions, posters and billboards. In addition, we offer special discounts and gift promotions for selected merchandise
periodically in conjunction with our suppliers’ marketing programs. We also provide ancillary services such as providing
free blood pressure readings in our stores.
Many
of our promotional programs are designed to encourage manufacturers to invest resources to market their brands within our stores.
We charge manufacturers promotional fees in exchange for the right to promote and display their products in our stores during
promotional periods. We also allow manufacturers and distributors to station salespeople in our stores to promote their products,
for which we receive a fee. Since manufacturers provide purchasing incentives and information to help customers to make informed
purchase decisions, we believe that manufacturer-led promotions improve our customers’ shopping experience. We work to maintain
strong inventory positions for merchandise featured in our promotions, as we believe this increases the effectiveness of our spending
on promotional activities.
We
run advertisements periodically in selected newspapers to promote our brands and the products carried in our stores. Under our
agreements with certain newspapers, we run one-page weekly or monthly advertisements, and the newspapers publish healthcare-related
feature articles relating to our advertised products on or around the dates of our advertisements. We also promote our brands
and products using billboards and radio and television commercials. Depending on our agreement with a particular manufacturer,
advertising expenses are borne either by us, the manufacturer of the products being advertised, or are shared as a joint expense.
Our advertisements are designed to promote our brands, our corporate image and the prices of products available for sale in our
stores.
As
part of our marketing campaign, we offer rewards cards to customers, which provide certain exclusive discounts. After a customer
signs up for the rewards card, we communicate via the customer’s preferred method: e-mail, traditional mail or text messages.
For the fiscal year ended March 31, 2017, approximately 75.6% of our customers used their rewards card to make purchases. We intend
to further extend this program to enhance the customer experience and for customer retention.
Our
clinic staff also regularly offers free seminars and outreach programs covering various health issues that are topical to the
communities where our stores are located. Such events are designed not only to raise public health awareness, but to reach potential
customers for our drugstores.
To
promote our online business, we are cooperating with Taobao, the largest online vendor in China, to help raise awareness among
potential customers. Taobao lists our products on their platform, which then directs consumers back to our website to make their
purchases.
Logistics
We
use Jiuxin Medicine’s resources to support our logistics needs in Hangzhou. Such resources include its 12,000 square meters
facility located approximately seven (7) miles from our headquarters, which serves as our central distribution center. Jiuxin
Medicine’s staff and vehicles make regular deliveries to our pharmacies and wholesale customers.
We
employ third-party logistics companies for deliveries to our pharmacies and wholesale customers outside Hangzhou. We believe that
reliable logistics providers are readily available and can be replaced without any material interruptions to our business.
Suppliers
We currently source retail products from approximately 350 suppliers, including trading companies and
direct manufacturers. We source wholesale products from approximately 150 suppliers, including many of those that provide our retail
products. For the fiscal year ended March 31, 2017, two (2) suppliers, HuaDong Pharmaceutical Co., Ltd. and Zhejiang Yingte Pharmaceutical
Co. Ltd. accounted for more than twenty-
nine percent
(29.3%) and thirteen percent (13.1%) of our total purchases and total purchase deposits. The suppliers are neither related to nor
affiliated with us.
We
believe that competitive sources are readily available for substantially all of the products we require for our retail and wholesale
businesses. As such, we believe that we can change suppliers without any material interruption to our business. To date, we have
not experienced any significant difficulty in sourcing our requirements.
Quality
Control
We
place strong emphasis on quality control, which starts with procurement. In addition to their market acceptance and costs, we
select products based on Good Manufacturing Practice and Good Supply Practice (“GSP”) compliance status of their suppliers.
We also assess product quality based on the facilities and capabilities of its manufacturer, including technology, packaging and
logistics. We conduct random quality inspections of each batch of products we procure, and replace any supplier who fails to pass
such inspections.
We
also enforce strict quality control measures at our distribution center. All products are screened upon their arrival, and those
with evidence of defects or damages are immediately rejected. Products that pass the screening process are recorded and stored
strictly according to each manufacturer’s temperature and other requirements. Products (for both our pharmacies and wholesale
customers) are verified against the appropriate delivery orders prior to leaving the facility. We use vehicles with cold-temperature
storage to make deliveries as necessary.
All
of our pharmacy employees participate in a mandatory thirty six (36) hour training program regarding quality control annually,
and we regularly dispatch quality inspectors to our stores to monitor the service quality of our staff.
Competition
The
drugstore industry in China is intensely competitive, rapidly evolving and highly fragmented. We compete on the basis of store
location, merchandise selection, prices and brand recognition. Many of our competitors include large, national drugstore chains
that may have more financial resources, stronger brand strength, and management expertise than us, including China Nepstar Chain
Drugstore Ltd., LBX Pharmacy, and TianTianHao Grand Pharmacy. Other competitors include local and independent drugstores and government-operated
pharmacies, as well as discount stores, convenience stores, and supermarkets with respect to sundry and other non-medicinal products
that we carry.
The
wholesale pharmaceutical distribution industry in China is likewise competitive and highly fragmented. We compete with regional
distributors, such as Zhengchen Pharmaceutical Co., Ltd. and Hangzhou Xiaoran Pharmaceutical Co., Ltd., as well as national operators
such as Fengwoda Pharmaceutical Co., Ltd. and Jiuzhoutong Pharmaceutical Co., Ltd. These competitors have substantially greater
logistics capacities and more financial resources, as well as more industry-relevant experience, than us.
The
online pharmacy is an emerging business in China. We are competing with other online vendors that may be supported by major drugstore
chains or initiated by smaller local drugstore chains. In order to compete effectively, we are cooperating with Taobao, the largest
online vendor in China. We also put in significant efforts selecting products we believe are most suitable for online sales, such
as those we have the exclusive right to sell. We have spent considerable efforts identifying popular products that can drive sales,
while maintaining our attention on cost. In fiscal 2017, we have kept working with with large insurance companies in China such
as the People’s Insurance Company (Group) of China Limited, who sells online products to their customers that have purchased
health insurance from them. Commercial health insurance has expanded quickly in recent years in China, especially after the government
started to control its Social Health Insurance (“SHI”) budget. We expect the close cooperation with commercial insurance
companies and active strategy on e-commerce platforms will drive up our online sales.
China’s
herb market is highly specialized. We have not incurred any herb sales in fiscal 2017.
Intellectual
Property
We
currently have the following trademarks registered with the Trademark Office of the SAIC:
|
●
|
“JiuzhouTongxin”
is a Classes 5 and 35 trademark (for pharmaceuticals and advertisement) issued on February 14, 2011 and March 7, 2013 respectively,
registered under Jiuzhou Pharmacy, which we plan to use to brand certain products that we may sell in our stores;
|
|
●
|
“Jiuzhou”
is a Classes 5, 35 and 44 trademark (for medical services) issued in April and May 2012, registered under Jiuzhou Pharmacy,
which we plan to use to brand our medical services;
|
|
●
|
“Shouantang”
a Classes 5, 10, 30, 35 and 44 trademark (for pharmaceuticals, construction, food, advertisement and medical services) issued
on October 2011, and a Classes 3、42、6、19、20、24、31、26、32 and 29 (for
oil, diary and etc.) trademark issued in August and October 2015, registered under Jiuzhou Pharmacy, which we are using
to brand certain products that we sell in our stores; and
|
|
●
|
“Jinyuliangyan”
is a Class 29 trademark (for food and oil) issued in June 2011, registered under Jiuzhou Pharmacy, which we are using to brand
certain products that we sell in our stores; and
|
|
●
|
“Jiuying”
is a Classes 5, 35 and 44 trademark (for healthcare and nutritional supplement) issued in December 2012 and February 2013, registered
under Jiuzhou Service, which we are using to brand our service and products that we sell in our clinics;
|
We
own and operate the following websites:
www.dada360.com
(for online sales),
www.jiuzhou-drugstore.com
(our corporate
website used in China), and www.chinajojodrugstores.com (our English-language corporate website). We also own two (2) inactive
domain names. We do not own any patents, nor do we have any pending patent applications, and we are not a beneficiary of any licenses,
franchises, concessions or royalty agreements.
All
of our employees are required to enter into written employment agreements with us, pursuant to which they are subject to confidentiality
obligations.
Employees
As
of March 31, 2017, we had 893 employees combined in our retail and wholesale operations, including 846 full-time and 47 part-time
employees. The number of employees for each area of operations, and such employees as a percentage of our total workforce, are
as follows:
|
|
As of
March 31, 2017
|
|
|
|
Employees
|
|
|
Percentage
|
|
Non-pharmacist store staff
|
|
|
169
|
|
|
|
18.9
|
%
|
Pharmacists
|
|
|
327
|
|
|
|
36.6
|
%
|
Management - non-pharmacists
|
|
|
81
|
|
|
|
9.1
|
%
|
Physicians
|
|
|
55
|
|
|
|
6.2
|
%
|
Non-physician clinic staff
|
|
|
27
|
|
|
|
3
|
%
|
Wholesale - non-warehouse
|
|
|
37
|
|
|
|
4.1
|
%
|
Wholesale - warehouse
|
|
|
51
|
|
|
|
5.7
|
%
|
Online pharmacy - technicians
|
|
|
92
|
|
|
|
10.3
|
%
|
Online pharmacy - non-technicians
|
|
|
7
|
|
|
|
0.8
|
%
|
Total
|
|
|
893
|
|
|
|
100.00
|
%
|
We
place strong emphasis on the quality of our employees at all levels, including in-store pharmacists and store staff who interact
with our customers directly. We provide extensive training for newly recruited employees in the first three (3) months of their
employment. The training is designed to encompass a number of areas, such as knowledge about our products and how best to interact
with our customers. In addition, we regularly carry out training programs on medicinal information, nutritional information, and
selling skills for our store staff and in-store pharmacists. We believe these programs have played an important role in strengthening
the capabilities of our employees.
Various
drug manufacturers also pay us to have their representatives in our drugstores, and accordingly, we train them in our store policies
and procedures.
Relevant
PRC Regulations
SAFE
Registration
In
October 2005, SAFE issued Circular 75. Circular 75 regulates foreign exchange matters in relation to the use of a special purpose
vehicle by PRC residents to seek offshore equity financing and conduct “round trip investment” in China. The Key Personnel,
who are PRC residents, are in compliance with Circular 75 and its implementing circulars.
Dividend
Distribution
Under
current applicable laws and regulations, each of our consolidated PRC entities, including WFOEs and domestic companies, may pay
dividends only out of their accumulated profits, if any, determined in accordance with PRC accounting standards and regulations.
In addition, each of our consolidated PRC entities is required to set aside at least ten percent (10%) of its after-tax profit
based on PRC accounting standards each year to its statutory surplus reserve fund until the accumulative amount of such reserve
reaches fifty percent (50%) of its registered capital. These reserves are not distributable as cash dividends. As of March 31,
2017, the accumulated balance of our statutory reserve funds reserves amounted to $1.31 million, and the accumulated loss of our
consolidated PRC entities amounted to $3.11 million.
Taxation
The
current PRC Enterprise Income Tax Law (the “EIT Law”), and the implementation regulations for the EIT Law issued by
China’s State Council, became effective as of January 1, 2008. Under the EIT Law, enterprises are classified as either resident
or non-resident enterprises. An enterprise established outside of China with its “de facto management bodies” located
within China is considered a “resident enterprise,” meaning that it can be treated in a manner similar to a Chinese
enterprise for enterprise income tax purposes. The implementing rules of the EIT Law defines a “de facto management body”
as a managing body that in practice exercises “substantial and overall management and control over the production and operations,
personnel, accounting, and properties” of the enterprise; however, it remains unclear whether the PRC tax authorities would
deem our managing body as being located within China. Due to the relatively short history of the EIT Law and lack of applicable
legal precedents, the PRC tax authorities determine the PRC tax resident treatment of entities organized under the laws of foreign
jurisdictions on a case-by-case basis.
If
the PRC tax authorities determine that we are a resident enterprise for PRC enterprise income tax purposes, a number of PRC tax
consequences could follow. Firstly, we may be subject to enterprise income tax at a rate of twenty five percent (25%) on our respective
worldwide taxable income, as well as PRC enterprise income tax reporting obligations. Secondly, although the EIT Law provides
that “dividends, bonuses and other equity investment proceeds between qualified resident enterprises” is exempted
income, and the implementing rules of the EIT Law refer to “dividends, bonuses and other equity investment proceeds between
qualified resident enterprises” as the investment proceeds obtained by a resident enterprise from its direct investment
in another resident enterprise, it is still unclear whether the dividends we receive from Jiuxin Management would be classified
as “dividends between qualified resident enterprises” and therefore qualify for tax exemption.
If
we are treated as a non-resident enterprise under the EIT Law, then any dividends that we may receive from Jiuxin Management (assuming
such dividends were considered sourced within the PRC) (i) may be subject to a five percent (5%) PRC withholding tax, provided
that we own more than twenty five percent (25%) of the registered capital of Jiuxin Management incessantly within twelve (12)
months immediately prior to obtaining such dividends from Jiuxin Management, and if the
Arrangement between the Mainland of
China and the Hong Kong Special Administrative Region for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion
with Respect to Taxes on Income
(the “Arrangement”) is applicable, or (ii) if the Arrangement does not apply (i.e.
the PRC tax authorities may deem us to be a conduit not entitled to treaty benefits), may be subject to a ten percent (10%) PRC
withholding tax. Similarly, if we are treated as a non-resident enterprise, and Renovation is treated as a resident enterprise,
then any dividends that we receive from Renovation (assuming such dividends were considered sourced within the PRC) may be subject
to a ten percent (10%) PRC withholding tax. Any such taxes on dividends could materially reduce the amount of dividends, if any,
that we could pay to our shareholders.
Finally,
the new “resident enterprise” classification could result in a situation in which a ten percent (10%) PRC tax is imposed
on dividends we pay to our investors that are non-resident enterprises so long as such non-resident enterprise investors do not
have an establishment or place of business in China or, despite the existence of such establishment of place of business in China,
the relevant income is not effectively connected with such establishment or place of business in China, to the extent that such
dividends have their sources within the PRC. Similarly, any gain realized on the transfer of our shares by such investors is also
subject to a ten percent (10%) PRC income tax if such gain is regarded as income derived from sources within China. In such event,
we may be required to withhold a ten percent (10%) PRC tax on any dividends paid to our investors that are non-resident enterprises.
Our investors that are non-resident enterprises also may be responsible for paying PRC tax at a rate of ten percent (10%) on any
gain realized from the sale or transfer of our common shares in certain circumstances. We would not, however, have an obligation
to withhold PRC tax with respect to such gain.
Moreover,
the State Administration of Taxation issued the
Notice on Strengthening the Administration of Enterprise Income Tax on Share
Transfer Income of Non-Resident Enterprises No. 698
(“Circular 698”) on December 10, 2009, which reinforces taxation
on transfer of non-listed shares by non-resident enterprises through overseas holding vehicles. Circular 698 applies retroactively
and was deemed to be effective as of January 2008. Pursuant to Circular 698, where (i) a foreign investor who indirectly holds
equity interest in a PRC resident enterprise through an offshore holding company indirectly transfers equity interests in a PRC
resident enterprise by selling the shares of the offshore holding company, and (ii) the offshore holding company is located in
a jurisdiction where the effective tax rate is lower than twelve and a half percent (12.5%) or where the offshore income of its
residents is not taxable, the foreign investor is required to provide the tax authority in charge of that PRC resident enterprise
with certain relevant information within thirty (30) days of the transfer. The tax authorities in charge will evaluate the offshore
transaction for tax purposes. In the event that the tax authorities determine that such transfer is abusing forms of business
organization and there is no reasonable commercial purpose other than avoidance of PRC enterprise income tax, the tax authorities
will have the power to conduct a substance-over-form re-assessment of the nature of the equity transfer. A reasonable commercial
purpose may be established when the overall offshore structure is set up to comply with the requirements of supervising authorities
of international capital markets. If the State Administration of Taxation’s challenge of a transfer is successful, they
will deny the existence of the offshore holding company that is used for tax planning purposes. Since Circular 698 has a brief
history, there is uncertainty as to its application.
General
PRC Government Approval
As
a wholesale distributor and retailer of pharmaceutical products, we are subject to regulation and oversight by different levels
of the food and drug administration in China, in particular, the SFDA. The
Drug Administration Law of the PRC
, as amended,
provides the basic legal framework for the administration of the production and sale of pharmaceutical products in China and governs
the manufacturing, distributing, packaging, pricing, and advertising of pharmaceutical products in China. The corresponding implementation
regulations set out detailed rules with respect to the administration of pharmaceuticals in China. We are also subject to other
PRC laws and regulations that are applicable to business operators, retailers, and foreign-invested companies.
Distribution
of Pharmaceutical Products
A
distributor of pharmaceutical products must obtain a distribution permit from the relevant provincial or designated municipal-
or county-level SFDA. The grant of such permit is subject to an inspection of the distributor’s facilities, warehouses,
hygienic environment, quality control systems, personnel, and equipment. The distribution permit is valid for five (5) years,
and the holder must apply for renewal of the permit within six (6) months prior to its expiration. In addition, a pharmaceutical
product distributor needs to obtain a business license from the relevant administration for industry and commerce prior to commencing
its business. All of our consolidated entities that engage in the retail pharmaceutical business have obtained necessary pharmaceutical
distribution permits, and we do not expect to face any difficulties in renewing these permits and/or certifications.
In
addition, under the
Supervision and Administration Rules on Pharmaceutical Product Distribution
, promulgated by the SFDA
on January 31, 2007, and effective May 1, 2007, a pharmaceutical product distributor is responsible for its procurement and sales
activities and is liable for the actions of its employees or agents in connection with their conduct of distribution on behalf
of the distributor. A retail distributor of pharmaceutical products is not allowed to sell prescription pharmaceutical products
or Tier A OTC pharmaceutical products listed in the national or provincial medical insurance catalogs without the presence of
a certified in-store pharmacist. See ”
Reimbursement under the National Medical Insurance Program
.”
Restrictions
on Foreign Ownership of Wholesale or Retail Pharmaceutical Business in China
PRC
regulations on foreign investment currently permit foreign companies to establish or invest in WFOEs or joint ventures that engage
in wholesale or retail sales of pharmaceuticals in China. For retail sales, these regulations restrict the number and size of
pharmacies that a foreign investor may establish. If a foreign investor owns more than thirty (30) stores that sell a variety
of branded pharmaceutical products sourced from different suppliers, the foreign investor’s ownership interests in the stores
are limited to forty nine percent (49%).
In
lieu of equity ownership, our WFOE, Jiuxin Management, has entered into contractual arrangements with Jiuzhou Pharmacy and the
Key Personnel.
Good
Supply Practice Standards
GSP
standards regulate wholesale and retail pharmaceutical product distributors to ensure the quality of distribution of pharmaceutical
products in China. All wholesale and retail pharmaceutical product distributors are required to apply for GSP certification within
thirty (30) days after obtaining the drug distribution permit. The current applicable GSP standards require pharmaceutical product
distributors to implement strict controls on the distribution of medicine products, including standards regarding staff qualifications,
distribution premises, warehouses, inspection equipment and facilities, management, and quality control. Specifically, the warehouse
must be able to store the pharmaceutical products at various required temperatures and humidity, and handle transport, warehouse
entries, delivery, and billing by computerized logistics management systems. The GSP certificate is usually valid for five (5)
years. Currently, Jiuzhou Pharmacy, and Jiuxin Medicine are all GSP certified.
Prescription
Administration
Under
the
Rules on Administration of Prescriptions
promulgated by the SFDA, effective May 1, 2007, doctors are required to include
the chemical ingredients of the medicine they prescribe in their prescription and are not allowed to include brand names in their
prescription. This regulation is designed to provide consumers with choices among different pharmaceutical products that contain
the same chemical ingredients.
Advertisement
of Pharmaceutical Products
Under
the
Advertising Law of PRC
, the contents of an advertisement must be true, lawful, without falsehood, and must neither
deceive nor mislead consumers. Accordingly, advertisement must be examined by the competent authority prior to its publication
or broadcast through any form of media. In addition, advertisement of pharmaceutical products may only be based on a drug’s
approved indication of use statement, and may not contain any assurance of a product’s efficiency, treatment efficiency,
curative rate, or any other information prohibited by law. Advertisement for certain drugs should include an admonishment to seek
a doctor’s advice before purchasing and application. Advertising is prohibited for certain drugs such as anesthetics and
psychotropic drugs.
To
further prevent misleading advertising of pharmaceutical products, the SAIC and the SFDA jointly promulgated the
Standards
for Examination and Publication of Advertisements of Pharmaceutical Products
and
Measures for Examination of Advertisement
of Pharmaceutical Products
in March 2007. Under these regulations, an approval must be obtained from the provincial level
of food and drug administration before a pharmaceutical product may be advertised. In addition, once approved, an advertisement’s
content may not be altered without further approval. Such approval, once obtained, is valid for one (1) year.
Product
Liability and Consumers Protection
Product
liability claims may arise if the products sold have any harmful effect on the consumers. The injured party may make a claim for
damages or compensation. The
General Principles of the Civil Law of the PRC
, which became effective in January 1987, state
that manufacturers and sellers of defective products causing property damage or injury shall incur civil liabilities for such
damage or injuries.
The
Product Quality Law of the PRC
was enacted in 1993 and amended in 2000 to strengthen the quality control of products and
protect consumers’ rights and interests. Under this law, manufacturers and distributors who produce or sell defective products
may be subject to confiscation of earnings from such sales, revocation of business licenses, imposition of fines, and, in severe
circumstances, may be subject to criminal liability.
The
Administrative Measures for Drug Recalls
was issued by the SFDA in December 2007, and covers two (2) types of drug recalls,
namely voluntary recalls and compulsory recalls. Under such regulation, wholesalers are obliged to assist drug manufacturers with
any drug recall. In addition, a wholesaler must immediately cease to sell any drug that the wholesaler learns has any safety issues,
and must immediately notify the manufacturer or its supplier as well as report the matter to the SFDA.
The
Law of the PRC on the Protection of the Rights and Interests of Consumers
was promulgated on October 31, 1993 and became
effective on January 1, 1994 to protect consumers’ rights when they purchase or use goods or services. All business operators
must comply with this law when they manufacture or sell goods and/or provide services to customers. In extreme situations, pharmaceutical
product manufacturers and distributors may be subject to criminal liability if their goods or services lead to the death or injuries
of customers or other third parties.
The
Tort Law of the PRC
was promulgated on December 26, 2009 and came into force on July 1, 2010. The Tort Law provides that
manufacturers and distributors who produce or sell defective products shall be responsible for the damage caused by the defective
products.
Reimbursement
under the National Medical Insurance Program
Eligible
participants in the national medical insurance program, mainly consisting of urban residents, are entitled to purchase medicine
when presenting their medical insurance cards in an authorized pharmacy, provided that the medicine they purchase has been included
in the national or provincial medical insurance catalogs. Depending on relevant local regulations, authorized pharmacies can either
(i) sell medicine on credit and obtain reimbursement from relevant government social security bureaus on a monthly basis, or (ii)
receive payments from the participants at the time of their purchases, and the participants in turn obtain reimbursement from
relevant government social security bureaus.
Medicine
included in the national and provincial medical insurance catalogs is divided into two (2) tiers. Purchases of Tier A pharmaceutical
products are generally fully reimbursable, except that certain Tier A pharmaceutical products are only reimbursable to the extent
the medicine are used specifically for the stated purposes in the medical insurance catalogs. Purchasers of Tier B pharmaceutical
products, which are generally more expensive than those in Tier A, are required to make a certain percentage of co-payments, with
the remaining amount being reimbursable. The percentage of reimbursement for Tier B OTC products varies in different regions in
the PRC. Factors that affect the inclusion of medicine in the medical insurance catalogs include whether the medicine is consumed
in large volumes and commonly prescribed for clinical use in China and whether it is considered to be important in meeting the
basic healthcare needs of the general public.
China’s
Ministry of Labor and Social Security, together with other government authorities, has the power to determine every two (2) years
which medicine are included in the national medical insurance catalog, under which of the two (2) tiers the included medicine
falls, and whether an included medicine should be removed from the catalog.
Sales
of Nutritional Supplements and other Food Products
A
distributor of nutritional supplements and other food products must obtain a food circulation permit from its local Administration
of Industry and Commerce. The grant of such permit is subject to an inspection of the distributor’s facilities, warehouses,
hygienic environment, quality control systems, personnel, and equipment. The food circulation permit is valid for three (3) years,
and the holder must apply for renewal of the certificate within thirty (30) days prior to its expiration. Currently, Jiuxin Medicine,
Jiuzhou Pharmacy, and our drugstores all hold a valid Food Circulation Permit, except for our Lin’an store and Ren’airu
store, which do not sell food products and therefore does not required to hold such a permit. We are in the process of renewing
the permits for two (2) stores that has expired in April 2016, and believe that there is no difficulty in renewing such permits.
Medical
Practice
Healthcare
providers in China are required to comply with many laws and regulations at the national and local government levels. The laws
and regulations applicable to our medical practice include the following:
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We
must register with and maintain an operating license from the local public health authority for each clinic that we operate,
each of which is subject to annual review by the public health authority;
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The
Licensed Physician Act
requires that we only hire PRC licensed physicians;
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All
waste material from our clinics must be properly collected, sterilized, deposited, transported and disposed of, and we are
required to keep records of the origin, type and amount of all waste materials that we generate for at least three (3) years;
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We
must have at least three (3) physicians, five (5) nurses and one (1) technician on staff at each clinic; and
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We
must establish and follow protocols to prevent medical malpractice, which require us to: (i) insure that patients are adequately
informed before they consent to medical operations or procedures; (ii) maintain complete medical records which are available
for review by the patient, physicians and the courts; (iii) voluntarily report any event of malpractice to a local government
agency; and (iv) support and justify the medical services we provide in any administrative investigation or litigation. If
we fail to comply with applicable laws and regulations, we could suffer penalties, including the loss of our license to operate.
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Interim
Regulations on Administration of Sino-Foreign Joint Venture and Cooperative Medical Institutions
As
per China’s commitments to the World Trade Organization, “Foreign service suppliers are permitted to establish joint
venture hospitals or clinics with local Chinese partners with quantitative limitations in line with China’s needs. Foreign
majority ownership is permitted.” In accordance with the
Interim Regulations on Administration of Sino-Foreign Joint
Venture and Cooperative Medical Institutions
issued jointly by the Ministry of Health (“MOH”) and the Ministry
of Commerce (“MOFCOM”) in 2000, the Chinese party of Sino-foreign joint ventures and cooperative medical institutions
shall hold no less than thirty percent (30%) of shares and legal rights or interest, which also mean foreign investors are allowed
to hold a maximum stake of seventy percent (70%). Such regulations also specify that the establishment of Sino-foreign joint venture
and cooperative medical institutions should be approved respectively by MOH and MOFCOM. In other words, foreigners are allowed
to run hospitals or clinics in the form of equity or co-operative joint ventures with an equity interest of up to seventy percent
(70%) with duration for co-operation of up to twenty (20) years.
Internet
Pharmaceutical Sales
China’s
central government regulates Internet access, the distribution of online information and the conduct of online commerce through
strict business licensing requirements and other government regulations. Companies which sell pharmaceutical products to consumers
through the Internet are required to obtain: (1) a drug distribution permit; (2) an Internet pharmaceutical information provider
qualification certificate, renewable every five (5) years; (3) an Internet pharmaceutical transaction service qualification certificate,
renewable every five (5) years; (4) a value-added telecommunication operation permit; and (5) registration with the Administration
of Information Industry. Internet pharmacies are not allowed to distribute prescription drugs. The websites that sell pharmaceutical
products must ensure transaction security and enable the consumers to consult with licensed pharmacists. Also, an Internet-based
business in China is required to obtain and maintain certain assets relevant to its business, such as delivery and storage facilities.
Jiuzhou Pharmacy obtained all above-mentioned certificates and registrations and launched
www.dada360.com
in May 2010 and
renewed the certificates in 2015. Quannuo Technology has been operating the website and providing software and technical supports
since November 2010. Since December 2015, such onine pharmacy operation function has been transferred to Jiuzhou Pharmacy after
the sale of Quannuo Technology in November 2015. During the year ended March 31, 2017, the Company also sold pharmaceutical and
other products via certain third-party platforms such as Tmall and JD.com.
TCM
Manufacturing
The
SFDA has adopted a non-mandatory licensing process for TCM manufacturers according to Good Agricultural Practice (“GAP”)
for Chinese Crude Drugs. Manufacturers who meet the government-set requirements will be granted a GAP certificate. Since we do
not process the herbs that we harvest and the GAP certification is not mandatory, we have not applied for such certification,
and currently have no plan of doing so.
Environmental
Matters
Our
drugstore and wholesale operations do not involve any activities subject to specific PRC environmental regulations. Our medical
clinics are in compliance with applicable regulations regarding the administration of medical wastes, including collections, temperate
storage, and packaging and labeling of medical wastes. Pursuant to such regulations, we contract with DadiWeikang Medical Wastes
Disposal Center to dispose of all medical wastes generated by our clinics.
Principal
Executive Office
Our
principal executive office is located at 1st Floor, Yuzheng Plaza, No. 76, Yuhuangshan Road, Hangzhou, Zhejiang Province, China.
Our main telephone number is +86-571-8807-7078, and fax number is +86-571-8807-7108.
You
should carefully consider the risks described below together with all of the other information included in this report before
making an investment decision with regard to our securities. The statements contained in or incorporated into this report that
are not historic facts are forward-looking statements that are subject to risks and uncertainties that could cause actual results
to differ materially from those set forth in or implied by forward-looking statements. If any of the following risks actually
occurs, our business, financial condition or results of operations could be harmed. In that case, the trading price of our common
stock could decline, and you may lose all or part of your investment.
Risks
Relating to Our Business in General
Future
acquisitions are expected to be a part of our growth strategy, and could expose us to significant business risks.
We
have grown our business, in part, through acquisitions of stores over the years. One of our strategies going forward is to continue
this growth through acquisitions of more drugstores. However, we cannot provide assurance that we will be able to identify and
secure suitable acquisition opportunities. Our ability to consummate and integrate effectively any future acquisitions on terms
that are favorable to us may be limited by the number of attractive acquisition targets, internal demands on our resources and,
to the extent necessary, our ability to obtain any necessary financing for larger acquisitions on terms that are satisfactory
to us. Moreover, if an acquisition target is identified, the third parties with whom we seek to cooperate may not select us as
a potential partner or we may not be able to enter into arrangements on commercially reasonable terms. The negotiation and completion
of potential acquisitions, whether or not ultimately consummated, could also require significant diversion of management’s
time and resources and may potentially disrupt our existing business. Furthermore, we cannot provide any assurances that the expected
synergies from future acquisitions will actually materialize. In addition, future acquisitions could result in the incurrence
of additional indebtedness, costs, and contingent liabilities, causing us to significantly increase our interest expense, leverage
and debt service requirements if we incur additional debt to pay for an acquisition or investment, issue common stock that would
dilute our current shareholders’ percentage ownership, or incur write-offs and restructuring and other related expenses. Future
acquisitions may also expose us to potential risks, including risks associated with:
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the
integration of new operations, services and personnel;
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unforeseen
or hidden liabilities;
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the
diversion of financial or other resources from our existing businesses;
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difficulties
in entering markets or lines of business in which we have no or limited direct prior experience;
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our
inability to generate sufficient revenue to recover costs and expenses of the acquisitions; and
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potential
loss of, or harm to, relationships with employees or customers.
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Any
of the above could significantly disrupt our ability to manage our business and materially and adversely affect our business,
financial condition and results of operations.
We
face significant competition, and if we do not compete successfully against existing and new competitors, our revenue and profitability
could be materially and adversely affected.
Both
the drugstore, online pharmacy and wholesale pharmaceutical distribution industries in China are highly competitive, and we expect
competition to intensify in the future. Our primary drugstore competitors include other drugstore chains and independent drugstores.
Increasingly, we also face competition from discount stores, convenience stores and supermarkets as we expand our offering of
non-drug convenience products and services. We compete for customers and revenue primarily on the basis of store location, merchandise
selection, price, services offered, and our brand name. Our online pharmacy competitors include other online pharmaceutical vendors.
As more large traditional drugstore chain companies entered into the online sales, we face competition ranging from prices to
service. Our primary wholesale competitors include regional and national players. In addition, we may be subject to additional
competition from new entrants to both industries in China. We could also face increased competition from foreign companies if
the Chinese government removes the restrictions on the entry of foreign companies into these industries.
Some
of our larger competitors may enjoy competitive advantages, such as:
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greater
financial and other resources;
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larger
variety of products;
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more
extensive and advanced supply chain management systems;
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greater
pricing flexibility;
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larger
economies of scale and purchasing power;
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more
extensive advertising and marketing efforts;
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greater
knowledge of local market conditions;
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stronger
brand recognition; and
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larger
sales and distribution networks.
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As
a result, we may be unable to offer products similar to, or more desirable than, those offered by our competitors, market our
products as effectively as our competitors, or otherwise respond successfully to competitive pressures. As competition increases
in the markets in which we operate, a significant increase in general pricing pressures could occur, which could require us to
reevaluate our pricing structures to remain competitive. Our competitors may be able to offer larger discounts on competing products,
and we may not be able to profitably match those discounts. Furthermore, our competitors may offer products that are more attractive
to our customers or that render our products uncompetitive. In addition, the timing of the introduction of competing products
into the market could affect the market acceptance and market share of our products. Our failure to compete successfully could
materially and adversely affect our business, financial condition, results of operation, and prospects.
Changes
in economic conditions and consumer confidence in China may influence the drugstore industry, consumer preferences and spending
patterns.
Our
business and revenue growth primarily depend on the size of the pharmaceutical market in China. As a result, our revenue and profitability
may be negatively affected by changes in national, regional or local economic conditions and consumer confidence in China. In
particular, as we focus on our expansion of pharmacies in metropolitan markets, where living standards and consumer purchasing
power are relatively high, we are especially susceptible to changes in economic conditions, consumer confidence and customer preferences
of the urban Chinese population. External factors beyond our control that affect consumer confidence include unemployment rates,
levels of personal disposable income, national, regional or local economic conditions, and acts of war or terrorism. Changes in
economic conditions and consumer confidence could adversely affect consumer preferences, purchasing power and spending patterns.
A decrease in overall consumer spending as a result of changes in economic conditions could adversely affect our front-end and
pharmacy sales and negatively impact our profitability. In addition, acts of war or terrorism may cause damage to our facilities,
disrupt the supply of the products and services we offer in our stores, or adversely impact consumer demand. Any of these factors
could have a material adverse effect on our business, financial condition and results of operations.
We
may not be able to timely identify or otherwise effectively respond to changing customer preferences, and we may fail to optimize
our product offering and inventory position.
The
pharmaceutical industry in China is rapidly evolving and is subject to rapidly changing customer preferences that are difficult
to predict. Our success depends on our ability to anticipate and identify customer preferences, and adapt our product selection
to meet these preferences. In particular, we must optimize our product selection and inventory positions based on sales trends.
We cannot provide assurance that our product selection, especially our selection of nutritional supplements and food products,
will accurately reflect customer preferences at any given time. If we fail to accurately anticipate either the market for our
products or customers’ purchasing habits or fail to respond to customers’ changing preferences promptly and effectively,
we may not be able to adapt our product selection to customer preferences or make appropriate adjustments to our inventory positions,
which could significantly reduce our revenue and have a material adverse effect on our business, financial condition and results
of operations.
Our
success depends on our ability to establish effective advertising, marketing and promotional programs.
Our
success depends on our ability to establish effective advertising, marketing and promotional programs, including pricing strategies
implemented in response to competitive pressures and/or to drive demand for our products. Our advertisements are designed to promote
our brand, our corporate image and the prices of products available for sale in our stores. Our pricing strategies and value propositions
must be appropriate for our target customers. If we are not able to maintain and increase the awareness of our pharmacy’s
brand and the products and services we provide, we may not be able to attract and retain customers and our reputation may also
suffer. We expect to incur substantial expenses in our marketing and promotional efforts to both attract and retain customers.
However, our marketing and promotional activities may be less successful than we anticipate, and may not be effective at building
our brand awareness and customer base. In addition, the government may impose restrictions on how marketing and promotional activities
can be conducted. We cannot provide assurance that our current and proposed budget for marketing activities will be adequate to
support our future growth. Failure to successfully execute our advertising, marketing and promotional programs may result in material
decreases in our revenue and profitability.
Our
ability to grow our business may be constrained by our inability to find suitable new store locations at acceptable prices or
by the expiration of our current leases.
Our
ability to grow our business may be constrained if suitable new store locations cannot be identified with lease terms or purchase
prices that are acceptable to us. We compete with other retailers and businesses for suitable locations for our stores. Local
land use and other regulations applicable to the types of stores we desire to construct may impact our ability to find suitable
locations and influence the cost of constructing our stores. The expiration of leases at existing store locations may adversely
affect us if the renewal terms of those leases are unacceptable to us and we are forced to close or relocate stores. Furthermore,
changing local demographics at existing store locations could materially and adversely affect revenue and profitability levels
at those stores, and overall our business, financial condition, results of operation, and prospects.
We
have significant cash deposits with our suppliers and landlords in order to obtain and maintain our inventory and maintain and
establish store locations, which we may not be able to recover in the event of bankruptcy by our suppliers or landlords or other
events beyond our control.
Our
ability to obtain products and maintain inventory at, and to maintain and establish leases for, our pharmacies, is dependent upon
our ability to post and maintain significant cash deposits with our suppliers and landlords. Many vendors in China are unwilling
to extend credit terms and instead require cash deposits, and landlords may require twelve (12) months or longer of cash deposit
as security. At March 31, 2017, we had approximately $7.0 million in deposits with suppliers and approximately $2.3 million in
deposits with landlords for our pharmacies. If we are unable or unwilling to establish such advances and deposits, our ability
to generate sales and expand our business could be adversely affected. In general, we expect the amounts required for advances
and deposits to increase as we undertake our expansion plans, complete store openings and expand our business through acquisitions
or otherwise. We do not generally receive interest on the deposits made to suppliers or landlords, and such deposits are subject
to loss as a result of the creditworthiness or bankruptcy of the party who holds our funds, as well as the risk from any illegal
acts associated with the third party, such as conversion, fraud, theft or dishonesty. If these circumstances were to arise, we
could find it difficult or impossible, due to the unpredictability of legal proceedings in China, to recover all or a portion
of the amount on deposit with our vendors or landlords.
If
we are unable to optimize management of our procurement and distribution activities, we may be unable to meet customer demand
while increasing the burden on managing our supply chain.
Since
May 2011, we have been using Jiuxin Medicine’s facility as our distribution center for both our retail and wholesale businesses.
Our ability to meet customer demand may be significantly limited if we do not successfully and efficiently conduct our distribution
activities, or if Jiuxin Medicine’s facility is destroyed or shut down for any reason, including as the result of a natural
disaster. Any disruption in the operation of our distribution could result in higher costs or longer lead times associated with
distributing our products. Since it is difficult to predict accurate sales volume in our industry, we may be unable to optimize
our distribution activities, which may result in excess or insufficient inventory, warehousing, fulfillment or distribution capacity.
Furthermore, failure to effectively control product damage during the distribution process could decrease our operating margins
and reduce our profitability.
All
product procurement is handled through our corporate headquarters. Such centralization is intended to reduce cost of goods sold
as a result of volume purchase benefits. However, we may be less successful than anticipated in achieving these volume purchase
benefits. In addition, such centralization is expected to increase the complexity of tracking inventory and could place additional
burdens on the management of our supply chain. If we cannot successfully reduce our costs through centralizing procurement, our
profitability and prospects could be materially and adversely affected.
Failure
to maintain optimal inventory levels could increase our inventory holding costs or cause us to lose sales, either of which could
have a material adverse effect on our business, financial condition and results of operations.
We
need to maintain sufficient inventory levels to operate both of our retail and wholesale businesses successfully as well as meet
customer expectations. However, we must also guard against the risk of accumulating excess inventory. We are exposed to inventory
risks as a result of rapid changes in product life cycles, changing consumer preferences, uncertainty of the success of product
launches, seasonality, and manufacturer backorders and other vendor-related problems. We cannot provide assurance that we can
accurately predict these trends and events and avoid over-stocking or under-stocking products. In addition, demand for products
could change significantly between the time product inventory is ordered and the time it is available for sale.
When
we begin selling a new product, it is particularly difficult to forecast product demand accurately. The purchase of certain types
of inventory may require significant lead-time. As we carry a broad selection of products and maintain significant inventory levels
for a substantial portion of our merchandise, we may be unable to sell such inventory in sufficient quantities or during the relevant
selling seasons. Carrying excess inventory could increase our inventory holding costs, and failure to have inventory in stock
when a customer orders or purchases it could cause us to lose that order or that customer, either of which could have a material
adverse effect on our business, financial condition and results of operations.
We
rely on computer software and hardware systems in managing our operations, the capacity of which may restrict our growth and the
failure of which could adversely affect our business, financial condition and results of operations.
We
are dependent upon our integrated information management system to monitor daily operations of our retail and wholesale businesses,
and to maintain accurate and up-to-date operating and financial data for the compilation of management information. In addition,
we rely on our computer hardware and network for the storage, delivery and transmission of the data of our retail and wholesale
systems. If the capacity of our computer software and hardware systems fails to meet the increasing needs of our expanding operations,
our ability to grow may be constrained. Furthermore, any system failure which causes interruptions to the input, retrieval
and transmission of data or increase in the service time could disrupt our normal operations. Although we believe that our computer
software and hardware systems are current and that our disaster recovery plan is adequate in handling their failure, we cannot
provide assurance that we can effectively carry out this disaster recovery plan and that we will be able to restore our operation
within a sufficiently short time frame to avoid our business being disrupted. Furthermore, our systems are subject to damage or
interruption from power outages, computer and telecommunications failures, computer viruses, security breaches, vandalism, natural
disasters, catastrophic events and human error, and our disaster recovery planning cannot account for all eventualities. If any
of our computer software and/or hardware systems are damaged, fail to function properly or otherwise become unavailable, we may
incur substantial costs to repair or replace them, and may experience loss or corruption of critical data and interruptions or
delays in our ability to perform critical functions. Due to the limited coverage of all business interruption insurance offered
in China, we do not have any business interruption insurance and, as a result, any business disruption or natural disaster could
severely disrupt our business and operations and, in turn, significantly decrease our revenue and profitability.
We
depend substantially on the continuing efforts of the Key Personnel, and our business and prospects may be severely disrupted
if we lose their services.
Our
future success is dependent on the continued services of the Key Personnel but we do not maintain key-man insurance. If we lose
the services of any one of the Key Personnel, we may not be able to locate suitable or qualified replacements, which could severely
disrupt our business and prospects. Each of the Key Personnel has entered into a confidentiality and non-competition agreement
with us. However, if any disputes arise between us and the Key Personnel, we cannot provide assurance, in light of uncertainties
associated with the PRC legal system, that any of these agreements could be enforced in China, the jurisdiction in which the Key
Personnel reside and hold some of their assets. See ”
Risks Related to Doing Business in China - You may experience difficulties
in effecting service of legal process, enforcing foreign judgments or bringing original actions in China based on United States
or other foreign laws against us or our management.
“
We
depend on the continued service of, and on the ability to attract, motivate and retain a sufficient number of qualified and skilled
personnel for our business.
The
implementation of our business strategy and our future success also depend in large part on our continued ability to attract and
retain highly qualified and skilled personnel. We cannot provide assurance that we will be able to attract, hire and retain sufficient
numbers of skilled personnel necessary to continue to develop and grow our business. We face competition for personnel from both
retail and wholesale pharmaceutical distribution operators. This competition could require us to offer higher compensation and
other benefits in order to attract and retain qualified individuals, which could materially and adversely affect our financial
condition and results of operations. On the other hand, we may be unable to attract or retain the personnel required to achieve
our business objectives, and that failure could severely disrupt our business and prospects. The process of hiring suitably qualified
personnel is often lengthy. If our recruitment and retention efforts are unsuccessful in the future, it may be more difficult
for us to execute our business strategy.
Our
retail and wholesale operations require a number of permits and licenses in order to carry on their business.
We
are required to obtain certain permits and licenses from various PRC governmental authorities, including a Drug Distribution Permit
and a GSP certification. We are also required to obtain food hygiene certificates for the distribution of nutritional supplements
and food products. We cannot provide any assurance that we can maintain all required licenses, permits and certifications to carry
on our business at all times, and from time to time we may have not been in the past, or may not be in the future, in compliance
with all such required licenses, permits and certifications. Moreover, these licenses, permits and certifications are subject
to periodic renewal and/or reassessment by the relevant PRC governmental authorities and the standards of such renewal or reassessment
may change from time to time. We intend to apply for renewal of these licenses, permits and certifications when required by applicable
laws and regulations. Any failure by us to obtain and maintain all licenses, permits and certifications necessary to carry on
our business at any time could have a material adverse effect on our business, financial condition and results of operations.
In addition, any inability to renew any of these licenses, permits and certifications could severely disrupt our business, and
prevent us from continuing to carry on our business. Any changes in the standards used by governmental authorities in considering
whether to renew or reassess our business licenses, permits and certifications, as well as any enactment of new regulations that
may restrict the conduct of our business, may also decrease our revenue and/or increase our costs, materially reducing our profitability
and prospects. Furthermore, if the interpretation or implementation of existing laws and regulations changes or if new regulations
come into effect requiring us to obtain any additional licenses, permits or certifications that were previously not required to
operate our existing businesses, we cannot provide assurance that we can successfully obtain such licenses, permits or certifications.
We
may need additional capital, and the sale of equity securities could result in dilution to our stockholders, while debts may require
us to make covenants restricting how we operate.
We
believe that the aggregate amount of our current cash, anticipated cash flow from operations, available borrowings under our existing
bank facilities, and personal loans from our principal shareholders should be sufficient to meet our anticipated cash needs for
the near future. We may, however, require additional cash resources due to changed business conditions or other future developments.
If our resources are insufficient to satisfy our cash requirements, we may seek to sell additional equity or debt securities or
obtain credit facilities. The sale of additional equity securities could result in a dilution to our stockholders. We cannot guarantee
that we will be able to obtain any additional financing on terms that are acceptable to us, or at all. Even if we are able to
obtain any requisite financing, the incurrence of additional indebtedness would result in increased debt service obligations,
and could result in further operating and financing covenants that would restrict our freedom to operate our business, such as
conditions that:
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limit
our ability to pay dividends or require us to seek consent for the payment of dividends;
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increase
our vulnerability to general adverse economic and industry conditions;
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require
us to dedicate a portion of our cash flow from operations to payments on our debt, thereby reducing the availability of our
cash flow to fund capital expenditures, working capital and other general corporate purposes; and
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limit
our flexibility in planning for, or reacting to, changes in our business and our industry.
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Risks
Relating to Our Pharmacy Operations
Our
brand names, trade secrets and other intellectual property are valuable assets. If we are unable to protect them from infringement,
our business and prospects may be harmed.
We
consider our pharmacy brand names to be valuable assets. We may be unable to prevent third parties from using such brand names
without authorization, which may adversely affect our business and reputation, including the perceived quality and reliability
of our products and services. We have five (5) registered trademarks. We also own three (3) domain names that we actively use
in our business.
We
rely on trade secrets to protect our know-how and other proprietary information, including pricing, purchasing, promotional strategies,
customer lists and/or suppliers lists. As a result, as a condition of employment, our employees are required to sign employment
agreements that contain confidentiality provisions. However, trade secrets are difficult to protect. While we believe we use reasonable
efforts to protect our trade secrets, our employees, consultants, contractors or advisors may unintentionally or willfully disclose
our information to competitors. In addition, confidentiality agreements executed by the foregoing persons may not be enforceable
or provide meaningful protection for our trade secrets or other proprietary information in the event of unauthorized use or disclosure.
If
we were to enforce a claim that a third party had illegally obtained and was using our trade secrets, such efforts could be expensive
and time-consuming, and the outcome unpredictable. In addition, if our competitors independently develop information that is equivalent
to our trade secrets or other proprietary information, we have little recourse to enforce our rights, and our business and prospects
could be harmed.
Litigation
may be necessary in the future to enforce our intellectual property rights or to determine the validity and scope of the intellectual
property rights of others. However, since the validity, enforceability and scope of protection of intellectual property rights
in the PRC are uncertain and still evolving, we may not be successful in prosecuting these cases. In addition, any litigation
or proceeding or other efforts to protect our intellectual property rights could result in substantial costs and diversion of
our resources, and could seriously harm our business and operating results. Furthermore, the degree of future protection of our
proprietary rights is uncertain and may not adequately protect our rights or permit us to gain or keep our competitive advantage.
If we are unable to protect our trade names, trade secrets and other propriety information from infringement, our business, financial
condition and results of operations may be materially and adversely affected.
We
may be exposed to intellectual property infringement and other claims by third parties which, if successful, could disrupt our
business and have a material adverse effect on our financial condition and results of operations.
Our
success depends, in large part, on our ability to use our proprietary information and know-how without infringing third party
intellectual property rights. As litigation becomes more common in China, we face a higher risk of being the subject of claims
for intellectual property infringement, invalidity or indemnification relating to other parties’ proprietary rights. Our
current or potential competitors, many of whom have substantial resources, may have or may obtain intellectual property protection
that will prevent, limit or interfere with our ability to conduct our business in China. Moreover, the defense of intellectual
property suits, including trademark infringement suits and related legal and administrative proceedings, can be both costly and
time consuming and may significantly divert the efforts and resources of our management personnel. Furthermore, an adverse determination
in any such litigation or proceeding to which we may become a party could cause us to:
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pay
damage awards;
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seek
licenses from third parties;
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pay
ongoing royalties;
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redesign
our product offerings; or
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be
restricted by injunctions,
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Each
of which could effectively prevent us from pursuing some or all of our business and result in our customers or potential customers
deferring or limiting their purchase from our stores, which could have a material adverse effect on our financial condition and
results of operations.
The
continued penetration of counterfeit products into the pharmaceutical market in China may damage our reputation and have a material
adverse effect on our business, financial condition, results of operations and prospects.
There
has been continued penetration of counterfeit products into the pharmaceutical market in China. Counterfeit products are generally
sold at lower prices than their authentic counterparts due to their low production costs, and in some cases are very similar in
appearance to their authentic counterparts. Counterfeit pharmaceuticals may or may not have the same chemical content as their
authentic counterparts, and are typically manufactured without proper licenses or approvals as well as fraudulently mislabeled
with respect to their content and/or manufacturer. Although China’s central government has been increasingly active in combating
counterfeit pharmaceutical and other products, China does not yet have effective regulation control or an enforcement system against
counterfeit pharmaceutical products. Although we have implemented a series of quality control procedures in our procurement process,
we cannot provide assurance that we may not be inadvertently selling counterfeit pharmaceutical products. Any unintentional sale
of counterfeit products may subject us to negative publicity, fines and/or other administrative penalties, or may even result
in litigation against us. Moreover, the increased distribution of counterfeit products and other products in recent years may
reinforce the negative image of drug distributors among consumers in China. The continued proliferation of counterfeit products
in China could have a material adverse effect on our business financial condition, and results of operation.
As
a distributor of pharmaceutical and other healthcare products, we are exposed to inherent risks relating to product liability
and personal injury claims.
Distributors
of pharmaceutical and other healthcare products are exposed to risks inherent in the packaging and distribution of such products.
Such risks include unintentional distribution of counterfeit, mislabeled or contaminated drugs, and, with respect to our pharmacies,
improper filling of prescriptions, labeling of prescriptions and adequacy of warnings. Errors in the packaging or dispensing of
pharmaceuticals could lead to serious injury or death. Furthermore, the applicable PRC laws, rules and regulations require our
in-store pharmacists to offer counseling to our customers, without additional charge, about medication, dosage, delivery systems,
common side effects, and other information the in-store pharmacists deem significant. Our in-store pharmacists sometimes also
have a duty to warn customers regarding any potential negative effects of a prescription drug if the warning could reduce or negate
these effects, and we may be liable for claims arising from any advice given by our in-store pharmacists. Product liability or
personal injury claims may be asserted against us with respect to any of the products or pharmaceuticals we sell or services we
provide, and we may be required to pay for substantial monetary damages for any successful product liability or personal injury
claim against us. We may, however, in product liability claims, have the right under applicable PRC laws, rules and regulations
to recover from the relevant manufacturer any compensation we paid to our customers in connection with such claim. Even if we
successfully defend ourselves against this type of claim, we could be required to spend significant management, financial and
other resources in the process, which could disrupt our business. Our reputation and our brand names may also suffer as a result
of any product liability or personal injury claims against us. Like many other similar companies in China, we do not carry product
liability insurance. A product recall or damage to our reputation in the event of a product liability or personal injury claim
or judgment against us could have a material adverse effect on our business, financial condition and results of operations.
We
may be subject to fines and penalties if we fail to comply with the applicable PRC laws and regulations governing sales of medicines
under China’s National Medical Insurance Program.
Eligible
participants in China’s national medical insurance program, mainly consisting of urban residents in China, are entitled
to buy medicines using their medical insurance cards from an authorized pharmacy, provided that the medicines they purchase have
been included in the national or provincial medical insurance catalogs. The pharmacy, in turn, obtains reimbursement from the
relevant government social security bureaus. Moreover, the applicable PRC laws, rules and regulations prohibit pharmacies from
selling goods other than pre-approved medicines when purchases are made with medical insurance cards. We have established procedures
to prohibit our drugstores from selling unauthorized goods to customers who make purchases with medical insurance cards. However,
we cannot provide assurance that those procedures will be strictly followed by all of our employees in all of our stores.
Risks
Relating to Our Medical Services
If
we do not attract and retain qualified physicians and other medical personnel, our ability to provide medical services would be
adversely affected.
The
success of our medical services will, in part, be dependent upon the number and quality of doctors, nurses and other medical support
personnel that we employ and our ability to maintain good relations with them. Our medical staff may terminate their employment
with us at any time. If we are unable to successfully maintain good relationships with them, our ability to provide medical services
may be adversely affected.
The
provision of medical services is heavily regulated in the PRC and failure to comply with those regulations could result in penalties,
loss of licensure, additional compliance costs or other adverse consequences.
Healthcare
providers in China, as in most other populous countries, are required to comply with many laws and regulations at the national
and local government levels. These laws and regulations relate to: licensing; the conduct of operations; the ownership of facilities;
the addition of facilities and services; advertising; confidentiality, maintenance and security issues associated with medical
records; billing for services; and prices for services. If we fail to comply with applicable laws and regulations, we could suffer
penalties, including the loss of our licenses to operate. In addition, further healthcare legislative reform is likely, and could
materially adversely affect our business and results of operations in the event that we do not comply or if the cost of compliance
is expensive. The above list of certain regulated areas is not exhaustive, and it is not possible to anticipate the exact nature
of future healthcare legislative reform in China. Depending on the priorities determined by the Chinese Ministry of Health, the
political climate at any given time, the continued development of the Chinese healthcare system and many other factors, future
legislative reforms may be highly diverse, including stringent infection control policies, improved rural healthcare facilities,
increased regulation of the distribution of pharmaceuticals, and numerous other policy matters. Consequently, the implications
of these future reforms could result in penalties, loss of licensure, additional compliance costs or other adverse consequences
we cannot foresee at the present time.
As
a provider of medical services, we are exposed to inherent risks relating to malpractice claims.
As
a provider of medical services, any misdiagnosis or improper treatment may result in negative publicity regarding us or our services,
which would harm our reputation. If we are found liable for malpractice, we could be required to pay substantial monetary damages.
Furthermore, even if we successfully defend ourselves against a malpractice claim, we could be required to spend significant management,
financial and other resources in the process, which could disrupt our business, and our reputation and brand name may also suffer.
Since malpractice claims are not common in China, we do not carry malpractice insurance. As a result, any imposition of malpractice
liability could materially harm our business, financial condition and results of operations.
We
face competition that could adversely affect our results of operations.
Our
clinics compete with a large number and variety of healthcare facilities in their respective markets. There are numerous government-run
and private hospitals and clinics available to the general populace. There can be no assurance that these or other clinics, hospitals
or other facilities will not commence or expand such operations, which would increase their competitive position. Furthermore,
there can be no assurance that a healthcare organization that having greater resources in the provision or management of healthcare
services will not decide to engage in operations similar to those being conducted by us in Hangzhou.
Risks
Related to Our Herb Farming
Our
herb farming business is subject to the volatility of prices for raw TCM herbs.
We
currently planted gingko trees in our leased farm land. However, in the future, we may continue to cultivate and sell certain
herbs in bulk to a third-party vendor, based on local market prices primarily determined by TCM manufacturers and trading companies.
Such market prices have increased significantly in recent years in response to changes in the supply of and demand for raw herbs,
market uncertainty and a variety of additional factors that are beyond our control, including inflation, changes in weather, disease
outbreaks, domestic government regulation, market speculation and overall economic conditions. There can be no assurance that
market prices, which historically have fluctuated widely, will continue to increase or remain stable, and any future declines
in prices may negatively impact the viability of our herb farming business.
Unforeseen
and severe weather can reduce cultivation activities and lead to a decrease in anticipated harvest.
Seasonal
climate change and weather variations such as levels of rainfall and temperature may, among other things, affect the quality,
overall supply and availability of raw herbs. Sustained adverse weather conditions in Zhejiang Province in general and in Lin’an
in particular where our herbs are planted, such as rain, extreme cold or snow, could disrupt or curtail cultivation activities.
This in turn could reduce our anticipated harvest yields, delay the timing of our anticipated harvest and distribution, and negatively
affect the quality of our harvest. In addition, natural disasters such as fires, earthquakes, snowstorms, floods or droughts,
or natural conditions such as crop disease, pests or soil erosion, may also negatively impact our cultivation and harvest.
In
addition, the actual climatic conditions of Zhejiang Province and of Lin’an in particular may not conform to historical
patterns and may be affected by variations in weather patterns, including any potential impact of climate change. The effects
of climate change may produce more unpredictable weather events that may adversely affect our ability to cultivate and harvest
successfully.
The
occurrence of any of these may materially harm our herb farming business.
We
have limited control over the availability and the quality of the local farmers with whom we cooperate because we do not employ
them directly.
We
rely on local farmers to farm and harvest our herbs, but do not employ them directly. Instead, they are recruited and employed
by the local villagers’ committees with whom we negotiate. We have limited control over the availability and the quality
of this labor force. A shortage of suitable laborers may adversely affect our harvest yields.
Risks
Related to Our Online Sales
We
rely on computer software and hardware systems in managing our online sales, the capacity of which may restrict our growth and
the failure of which could adversely affect our business, financial condition and results of operations.
We
are dependent upon our electronic commerce system to carry out our online sales. Any system failure which causes interruptions
to the input, retrieval and transmission of data, or increases in service time could disrupt our normal operations. Although we
believe we have a disaster recovery plan that can handle the failure of our computer software and hardware systems, we cannot
provide assurance that we can effectively carry out this disaster recovery plan and that we will be able to restore our operation
within a sufficiently short time frame to avoid disruption to our business. Any failure in our computer software and/or hardware
systems could have a material adverse effect on our business, financial condition and results of operations. In addition, if the
capacity of our computer software and hardware systems fails to meet the increasing needs of our operations, our ability to grow
may be constrained.
Our
online business decreased significantly in the fiscal year ended December 31, 2016 and we cannot assure our efforts for alternative
vendors will result in the increase in revenues from online pharmacy in the coming years.
Our online pharmacy sales
decreased by approximately $11,060,985, or 41.8% for the year ended March 31, 2017, as compared to the year ended March 31, 2016.
The decrease was primarily caused by the decline in business referred from Yikatong, the popular pharmacy and health insurance
benefit card. The sales on our own official website for the year ended March 31, 2017 decreased by $8.1 million or 81.4% as compared
to the year ended March 31, 2016. Yikatong is run by a Pharmacy Benefit Management (“PBM”) provider in China. In fiscal
2016, we created a strategic alliance with the PBM provider. However, in order to maximize its profit, the PBM provider chose
to create its own online pharmacy to sell products referred from Yikatong and actively directed Yikatong customers to purchase
products on its online pharmacy. As a result, the sales on our own official website declined dramatically. We have been actively
working with a similar vendor, who may refer to us a big customer pool in the near future we cannot assure you whether this will
be successful and whether our own website sales will continue to grow in the future.
If
our online business fails to obtain and maintain the requisite assets, licenses, qualified personnel and approvals required under
the complex regulatory environment for Internet-based businesses in China, the business prospects for such business may be materially
and adversely affected.
Internet-based
businesses in China are highly regulated by China’s central government, and numerous regulatory authorities are empowered
to issue and implement regulations governing various aspects of these businesses. Our online business is operated by our PRC subsidiary,
Jiuzhou Pharmacy, which is required to obtain and maintain certain assets relevant to its business, such as computers and other
electrical equipment, as well as applicable licenses or approvals from different regulatory authorities. These assets and licenses
are essential to the operation of an e-commerce business and are generally subject to annual review by the relevant governmental
authorities. Furthermore, we may be required to obtain additional licenses. If we fail to obtain or maintain any of the required
assets, licenses or approvals, our Internet business may be deemed illegal and it may be subject to various penalties, such as
confiscation of illegal income, fines, and/or the discontinuation or restriction of its operations. Any such disruption may materially
and adversely affect the prospects of our online business.
Risks
Related to Our Corporate Structure
Chinese
regulations limit foreign ownership of any pharmacy operator with thirty (30) or more stores, and limit foreign ownership of medical
clinics to Sino-foreign joint venture. The entities that operate our pharmacies and clinics are controlled by us through contractual
arrangements. The validity of such contractual arrangements is uncertain. If the Chinese government determines that these contractual
arrangements do not comply with applicable regulations, we could be subject to severe penalties and our business could be adversely
affected. In addition, changes in the relevant Chinese laws and regulations may materially and adversely affect our business.
Current
PRC regulations limit foreign ownership of a pharmacy operator to forty nine percent (49%) if such operator owns interests in
thirty (30) or more drugstores in China that sell a variety of branded pharmaceutical products sourced from different suppliers.
Since we do not own any equity interests in Jiuzhou Pharmacy (or its subsidiary Jiuxin Medicine), but control them through contractual
arrangements, we do not believe that the regulations limiting foreign ownership apply to us even if Jiuzhou Pharmacy or Jiuxin
Medicine expands beyond thirty (30) stores. In fact, Jiuzhou Pharmacy has expended to sixty-seven (67) stores as of March 31,
2017.
Similarly,
PRC regulations restrict foreign ownership of medical practice in China to Sino-foreign joint ventures. Since we do not have any
actual equity interest in Jiuzhou Clinic or Jiuzhou Service, but control these entities through contractual arrangements, we do
not believe that such PRC regulations are applicable to us or our structure.
There
are, however, uncertainties regarding the interpretation and application of PRC laws, rules and regulations, including but not
limited to the laws, rules and regulations governing the validity and enforcement of our contractual arrangements. Although the
structures for operating our business in China (including our corporate structure and contractual arrangements with Jiuzhou Pharmacy,
Jiuzhou Clinic, Jiuzhou Service and the Key Personnel) comply with all applicable PRC laws, rules and regulations, and do not
violate, breach, contravene or otherwise conflict with any applicable PRC laws, rules or regulations, we cannot provide assurance
that a regulatory authority will not determine that our corporate structure and contractual arrangements violate PRC laws, rules
or regulations. If any such authority determines that our contractual arrangements are in violation of applicable PRC laws, rules
or regulations, our contractual arrangements may become invalid or unenforceable, and we may not be able to consolidate the operations
of HJ Group with our results of operations. In addition, new PRC laws, rules and regulations may be introduced from time to time
to impose additional requirements that may be applicable to our contractual arrangements. For example, pursuant to the PRC Property
Rights Law that became effective on October 1, 2007 (the “Property Law”), the pledge of any equity interests of a
PRC private entity shall become effective once it is duly registered with the local branches of the SAIC. Following the promulgation
of the Property Law, the SAIC further issued the
Administrative Measures for Registrations of Share Pledge
on September
1, 2008, which provided detailed procedural guidance for the local SAIC offices to handle the registrations of share pledge. The
Equity Pledge Agreement that forms a part of the contractual arrangements creates a legally binding obligation on the parties
upon the execution date; however, the pledge established under such agreement does not become effective until due registration
with the local SAIC office. On May 18, 2010, registration of the pledged equity interests in Jiuzhou Pharmacy was completed.
The
Chinese government has broad discretion in dealing with violations of laws and regulations, including levying fines, revoking
business and other licenses, and requiring actions necessary for compliance. In particular, licenses and permits issued or granted
to us by the relevant governmental bodies may be revoked at a later time by higher regulatory bodies. We cannot predict the effect
of the interpretation of existing or new Chinese laws or regulations on our businesses. We cannot provide assurance that our current
ownership and operating structure will not be found in violation of any current or future Chinese laws or regulations. As a result,
we may be subject to sanctions, including fines, and could be required to restructure our operations or cease the provision of
certain services. Any of these or similar actions could significantly disrupt our business operations or restrict us from conducting
a substantial portion of our business operations, which could materially and adversely affect our business, financial condition
and results of operations.
If
we are determined to be in violation of any existing or future PRC laws, rules or regulations, or fail to obtain or maintain any
of the required governmental permits or approvals, the relevant PRC regulatory authorities would have broad discretion in dealing
with such violations, including:
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revoking
the business and operating licenses of the HJ Group entities;
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discontinuing
or restricting the operations of the HJ Group entities;
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imposing
conditions or requirements with which we or the HJ Group entities may not be able to comply;
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requiring
us or the HJ Group entities to restructure the relevant ownership structure or operations; and/or
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imposing
fines.
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The
imposition of any of these penalties would severely disrupt our ability to conduct business and have a material adverse effect
on our financial condition, results of operations and prospects.
We
may be adversely affected by complexity, uncertainties and changes in Chinese regulation of drugstores and the practice of medicine.
The
Chinese government regulates drugstores and the practice of medicine, including foreign ownership and requirements for licenses
and permits. These laws and regulations are relatively new and evolving, and their interpretation and enforcement involve significant
uncertainty. As a result, in certain circumstances it may be difficult to determine what actions or omissions may be deemed to
be a violation of applicable laws and regulations.
The
interpretation and application of existing Chinese laws, regulations and policies and possible new laws, regulations or policies
have created substantial uncertainties regarding the legality of existing and future foreign investments in, and the businesses
and activities of, pharmaceutical businesses in China, including our business. We currently only have contractual control over
the HJ Group entities, and do not own them due to the restrictions on foreign ownership of such companies. However, changes to
laws in the PRC may force us to restructure our ownership structure or our operations, which would severely disrupt our ability
to conduct business and have a material adverse effect on our financial condition, results of operations and prospects.
Uncertainties
relating to the regulation of drugstores and medical practice in China also extend to evolving licensing practices, which means
that permits, licenses or operations at our company may be subject to challenge. This may disrupt our business or subject us to
sanctions, requirements to increase capital, or other conditions or enforcement. In turn, this could compromise enforceability
of related contractual arrangements, or have other harmful effects on us.
Our
contractual arrangements with HJ Group and the Key Personnel may not be as effective in providing control over these entities
as direct ownership.
We
have no equity ownership interest in HJ Group, and rely on contractual arrangements to control and operate the HJ Group companies
and their businesses. These contractual arrangements may not be as effective in providing control over these companies as direct
ownership. For example, any one of them could fail to take actions required for our business despite its contractual obligation
to do so. Under such circumstances, we may have to rely on legal remedies under Chinese law, which may not be effective in providing
us any relief. In addition, we cannot provide assurance that the Key Personnel will act in our best interests.
Since
we rely on contractual arrangements to control HJ Group and for substantially all of our revenue, the termination of such agreements
will severely and detrimentally affect our continuing business viability under our current corporate structure.
Since
we do not own equity interests of HJ Group, the termination of our contractual arrangements with them would sever our ability
to continue receiving payments from them under our current holding company structure. We cannot provide assurance that there will
not be any event or reason that may cause the contractual arrangements to terminate. In the event that the contractual arrangements
terminate, we will lose our control over them and their business operations and, as a result, over our primary sources of revenue.
This may have a severe and detrimental effect on our continuing business viability under our current corporate structure, which
in turn may affect the value of your investment. Should this occur, we may seek to acquire control of HJ Group through other means,
although we cannot guarantee that we will do so, nor can we guarantee that we will be successful if we do.
We
rely principally on dividends paid by our consolidated operating entities to fund any cash and financing requirements we may have,
and any limitation on the ability of our consolidated PRC entities to pay dividends to us could have a material adverse effect
on our ability to conduct our business.
We
are a holding company and rely principally on dividends paid by our consolidated PRC operating entities for cash requirements,
including the funds required to service any debt we may incur, which are passed on to us through Jiuxin Management. If any of
the consolidated operating entities incurs debt in its own name in the future, the instruments governing the debt may restrict
dividends or other distributions on our equity interest to us. In addition, the PRC tax authorities may require us to adjust our
taxable income under the contractual arrangements in a manner that would materially and adversely affect our ability to pay dividends
and other distributions on our equity interest.
Furthermore,
applicable PRC laws, rules and regulations permit payment of dividends by our consolidated PRC entities only out of their retained
earnings, if any, determined in accordance with PRC accounting standards. Under PRC laws, rules and regulations, our consolidated
PRC entities are required to set aside at least ten percent (10%) of their after-tax profit each year, based on PRC accounting
standards, to their statutory surplus reserve fund until the accumulative amount of such reserves reaches fifty percent (50%)
of their respective registered capital. As a result, our consolidated PRC entities are restricted in their ability to transfer
a portion of their net income to us whether in the form of dividends, loans or advances. As of March 31, 2017, our restricted
reserves totaled $1,372,879 (RMB 9,460,695). Our restricted reserves are not distributable as cash dividends. Any limitation on
the ability of our consolidated operating entities to pay dividends to us could materially and adversely limit our ability to
grow, make investments or acquisitions that could be beneficial to our businesses, pay dividends, or otherwise fund and conduct
our business.
Certain
management members of HJ Group have potential conflicts of interest with us, which may adversely affect our business and your
ability for recourse.
Mr.
Lei Liu, our Chief Executive Officer and Chairman of our Board of Directors, is also the executive director of Jiuzhou Pharmacy,
a general partner of Jiuzhou Clinic, and the supervising director of Jiuzhou Service. In addition, Mr. Liu has also personally
lent us money to help facilitate our payments of expenses in the U.S., as well as to purchase a land use right. Ms. Li Qi, our
Corporate Secretary and a member of our Board of Directors, is the general manager of each of Jiuzhou Pharmacy, Jiuzhou Clinic
and Jiuzhou Service, and a general partner of Jiuzhou Clinic. Conflicts of interests between their respective duties to our company
and HJ Group may arise. As our directors and executive officers, they have a duty of loyalty and care to us under U.S. and Hong
Kong law when there are any potential conflicts of interests between our company and HJ Group. We cannot provide assurance, however,
that when any conflicts of interest arise, both of them will act completely in our interests or that conflicts of interests will
be resolved in our favor. For example, they may determine that it is in HJ Group’s interests to sever the contractual arrangements
with Jiuxin Management, irrespective of the effect such action may have on us. In addition, either one of them could violate his
or her legal duties by diverting business opportunities from us to others, thereby affecting the amount of payment that HJ Group
is obligated to remit to us under the Consulting Services Agreement.
In
the event that you believe that your rights have been infringed under securities laws or otherwise as a result of any one of the
circumstances described above, it may be difficult or impossible for you to bring an action against HJ Group, or our officers
or directors who are members of the management, all of whom reside within China. Even if you are successful in bringing an action,
the laws of China may render you unable to enforce a judgment against the assets of HJ Group and its management, all of which
are located in China.
Risks
Related to Doing Business in China
We
rely on contractual arrangements with our VIE for our operations, which may not be as effective in providing control over these
entities as direct ownership.
Our
operations and financial results are dependent on our VIEs, Jiuzhou Pharmacy (including its subsidiaries and controlled entities),
Jiuzhou Clinic and Jiuzhou Service, in which we have no equity ownership interest and must rely on contractual arrangements to
control and operate the businesses of our VIEs. These contractual arrangements are not as effective in providing control over
the VIEs as direct ownership. For example, the VIEs may be unwilling or unable to perform its contractual obligations under our
commercial agreements. Consequently, we would not be able to conduct our operations in the manner currently planned. In addition,
the VIEs may seek to renew its agreements on terms that are disadvantageous to us. Although we have entered into a series of agreements
that provide us with substantial ability to control the VIEs, we may not succeed in enforcing our rights under them insofar as
our contractual rights and legal remedies under PRC law are inadequate. In addition, if we are unable to renew these agreements
on favorable terms when these agreements expire or enter into similar agreements with other parties, our business may not be able
to operate or expand, and our operating expenses may significantly increase.
In
January 2015, China’s Ministry of Commerce unveiled a draft legislation that could change how the government is regulating
corporate structures, especially for VIEs controlled by foreign investments. Instead of looking at “ownership”, the
draft law focused on the entities or individuals hold control of a VIE. If a VIE is deemed to be controlled by foreign investors,
it may be barred from operating in restricted sectors or the prohibited sectors listed on a “negative list”, where
only companies controlled by Chinese nationals could operate, even if structured as VIEs. As of the report date, no formal legislation
has been implemented.
In
the event that the draft law is implemented in any form, and that the Company’s business was characterized as one of the
“restricted” or “prohibited” sectors, the VIEs the Company currently maintains contractual arrangements
with may be barred from operation which will materially adversely affect our business.
Changes
in the policies of the PRC government could have a significant impact upon the business we may be able to conduct in the PRC and
the profitability of such business.
Policies
of the PRC government can have significant effects on economic conditions in China. Our interests may be adversely affected by
changes in policies by the PRC government, including:
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changes
in laws, regulations or their interpretation;
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confiscatory
taxation;
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restrictions
on currency conversion, imports or sources of supplies and export tariff; and
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expropriation
or nationalization of private enterprises.
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Although
the PRC government has been pursuing economic reform policies for more than two (2) decades, we cannot assure you that the government
will continue to pursue such policies or that such policies may not be significantly altered, especially in the event of a change
in leadership, social or political disruption, or other circumstances affecting the PRC’s political, economic and social
life.
Uncertainties
with respect to the Chinese legal system could adversely affect us.
We
conduct our business through our subsidiaries and controlled companies in the PRC. Our operations in China are governed by Chinese
laws and regulations. We are generally subject to laws and regulations applicable to foreign investments in China and, in particular,
laws applicable to WFOE. The Chinese legal system is based on written statutes. Prior court decisions may be cited for reference
but have limited precedential value.
Since
1979, Chinese legislation and regulations have significantly enhanced the protections afforded to various forms of foreign investments
in China. However, China has not developed a fully integrated legal system and recently enacted laws and regulations may not sufficiently
cover all aspects of economic activities in China. In particular, because these laws and regulations are relatively new, and because
of the limited volume of published decisions and their nonbinding nature, the interpretation and enforcement of these laws and
regulations involve uncertainties. In addition, the Chinese legal system is based in part on government policies and internal
rules (some of which are not published on a timely basis or at all) that may have a retroactive effect. As a result, we may not
be aware of our violation of these policies and rules until some time after the violation. In addition, any litigation in China
may be protracted and result in substantial costs and diversion of our resources and our management’s attention.
You
may experience difficulties in effecting service of legal process, enforcing foreign judgments or bringing original actions in
China against us or our management based on United States or other foreign laws.
We
are a holding company and conduct our business through our subsidiaries and controlled companies in the PRC. In addition, all
of our operating assets are located in, and all of our other senior executive officers reside within, China. As a result, it may
not be possible to effect service of process within the United States or elsewhere outside China upon those of our senior executive
officers and directors that do not reside in the United States, including with respect to matters arising under U.S. federal securities
laws or applicable state securities laws. Moreover, our Chinese counsel has advised us that China does not have treaties with
the United States or many other countries providing for the reciprocal recognition and enforcement of judgment of courts. As a
result, our public shareholders may face substantially more difficulty in protecting their interests through actions against our
management or directors than would shareholders of a corporation with assets and management located in the United States.
We
may need to obtain additional governmental approvals to open new drugstores. Our inability to obtain such approvals will have
a material adverse effect on our business and growth.
According
to the
Measures on the Administration of Foreign Investment in the Commercial Sector
(the “Measures”) promulgated
by China’s Ministry of Commerce (the “MOC”), which became effective on June 1, 2004, a company that is directly
owned by a foreign invested enterprise needs to obtain relevant governmental approvals before it opens new retail stores. However,
there are no specific laws, rules or regulations with respect to whether such approvals are necessary for a company that is contractually
controlled by a foreign invested enterprise. In addition, the Measures state that the MOC will promulgate a detailed implementation
regulation to govern foreign invested enterprises engaging in drug sale. However, such implementation regulation has not yet been
promulgated. Therefore, we cannot provide assurance that the MOC will not require such approvals to be obtained, or as to when
any regulation of such requirements may be implemented. If additional governmental approval is deemed to be necessary and we are
unable to obtain such approvals on a timely basis or at all, our business, financial condition, results of operations and prospects,
as well as the trading price of our common stock, will be materially and adversely affected.
The
advent of recent healthcare reform directives from China’s central government may increase both competition and our cost
of doing business.
Under
the auspices of the Healthy China 2020 program (the “Program”), published by China’s National Development and
Reform Commission in October 2008, the central government has set in motion a series of policies in fairly rapid successions aimed
to improve China’s healthcare system. Such policies include (1) discouraging hospitals from both prescribing and dispensing
medication, (2) the unveiling in April 2009 of formal healthcare reform guidelines aimed at improving the availability of and
subsidies for “essential” drugs, and (3) the announcement in August 2009 of China’s National Essential Drugs
List (“NEDL”), initially listing approximately three hundred (300) medicines to be sold at government-controlled prices.
While an underlying goal of these policies is to make drugs more accessible to China’s poorer population, these policies
also serve to create opportunities that in turn will intensify business competition in the Chinese retail drugstore industry,
as well as competition for skilled labor and retail spaces. Additionally, we expect the NEDL to result in a rise in the number
of government-subsidized community healthcare service centers, which in turn may erode the convenience and price advantage that
our drugstores traditionally enjoy against hospitals.
The
PRC’s labor law restricts our ability to reduce our workforce in the PRC in the event of an economic downturn and may increase
our production costs.
In
June 2007, the National People’s Congress of the PRC enacted new labor law legislation called the Labor Contract Law, which
became effective on January 1, 2008 (the “LC Law”). The LC Law formalized workers’ rights concerning overtime
hours, pensions, layoffs, employment contracts and the role of trade unions. Considered one of the strictest labor laws in the
world, among other things, the LC Law provides for specific standards and procedures for the termination of an employment contract
and places the burden of proof on the employer. In addition, the law requires the payment of a statutory severance pay upon the
termination of an employment contract in most cases, including the case of the expiration of a fixed-term employment contract.
Further, the LC Law requires an employer to conclude an “employment contract without a fixed-term” with any employee
who either has worked for the same employer for ten (10) consecutive years or more or has had two (2) consecutive fixed-term contracts
with the same employer. An “employment contract without a fixed term” can no longer be terminated on the ground of
the expiration of the contract, although it can still be terminated pursuant to the standards and procedures set forth under the
new law. Because of the lack of implementing rules for the LC Law and the precedents for the enforcement of such a law, the standards
and procedures set forth under the LC Law in relation to the termination of an employment contract have raised concerns among
foreign investment enterprises in the PRC that such “employment contract without a fixed term” might in fact become
a “lifetime, permanent employment contract.” Finally, under the LC Law, downsizing of either more than twenty (20)
people or more than ten percent (10%) of the workforce may occur only under specified circumstances, such as a restructuring undertaken
pursuant to the PRC’s Enterprise Bankruptcy Law, or where a company suffers serious difficulties in production and/or business
operations, or where there has been a material change in the objective economic circumstances relied upon by the parties at the
time of the conclusion of the employment contract, thereby making the performance of such employment contract impossible. To date,
there has been very little guidance and precedents as to how such specified circumstances for downsizing will be interpreted and
enforced by the relevant PRC authorities. All of our employees working for us exclusively within the PRC are covered by the LC
Law and thus, our ability to adjust the size of our operations when necessary in periods of recession or less severe economic
downturns may be curtailed. Accordingly, if we face future periods of decline in business activity generally or adverse economic
periods specific to our business, the LC Law can be expected to exacerbate the adverse effect of the economic environment on our
results of operations and financial condition.
We
cannot be certain that the Chinese regulatory authorities will not impose more stringent restrictions on the convertibility of
the Renminbi, especially with respect to foreign exchange transactions.
Fluctuation
in the value of the Renminbi may have a material and adverse effect on your investment. The change in value of the Renminbi against
the U.S. dollar is affected by, among other things, changes in PRC’s political and economic conditions. We receive substantially
all of our revenues in RMB. Under our current structure, our income is primarily derived from payments from the three (3) HJ Group
companies. Shortages in the availability of foreign currency may restrict the ability of our subsidiaries and our PRC affiliated
entities to remit sufficient foreign currency to pay dividends or other payments to us, or otherwise satisfy their foreign currency
denominated obligations. Under existing Chinese foreign exchange regulations, payments of current account items, including profit
distributions, interest payments and expenditures from trade-related transactions, can be made in foreign currencies without prior
approval from SAFE by complying with certain procedural requirements. However, approval from appropriate government authorities
is required where RMB is to be converted into foreign currency and remitted out of China to pay capital expenses, such as the
repayment of bank loans denominated in foreign currencies. The Chinese government may also, at its discretion, restrict access
in the future to foreign currencies for current account transactions. If the foreign exchange control system prevents us from
obtaining sufficient foreign currency to satisfy our currency demands, we may not be able to pay dividends in foreign currencies
to our stockholders.
From
1995 until July 2005, the People’s Bank of China intervened in the foreign exchange market to maintain an exchange rate
of approximately Renminbi 8.3 per U.S. dollar. On July 21, 2005, the PRC government changed this policy and began allowing modest
appreciation of the Renminbi versus the U.S. dollar. Under the new policy, the Renminbi was permitted to fluctuate within a narrow
and managed band against a basket of certain foreign currencies. This change in policy caused the Renminbi to appreciate approximately
21.5% against the U.S. dollar over the following three years. As a consequence, the Renminbi has fluctuated sharply since July
2008 against other freely traded currencies, in tandem with the U.S. dollar. It is difficult to predict how long the current situation
may last and when and how it may change again. There remains significant international pressure on the PRC government to adopt
a substantial liberalization of its currency policy, which could result in a further and more significant appreciation in the
value of the Renminbi against the U.S. dollar. Significant revaluation of the Renminbi may have a material and adverse effect
on your investment. For example, to the extent that we need to convert U.S. dollars we receive from securities offering into Renminbi
for our operations, appreciation of the Renminbi against the U.S. dollar would have an adverse effect on the Renminbi amount we
would receive from the conversion. Conversely, if we decide to convert our Renminbi into U.S. dollars for the purpose of making
payments for dividends on our common stock or for other business purposes, appreciation of the U.S. dollar against the Renminbi
would have a negative effect on the U.S. dollar amount available to us. In August 2015, the PRC Government devalued its currency
by approximately 3%, represented the largest yuan depreciation for 20 years. Concerns remain that China’s slowing economy,
and in particular its exports, will need a stimulus that can only come from further cuts in the exchange rate.
In
addition, appreciation or depreciation in the value of the Renminbi relative to the U.S. dollar would affect our financial results
reported in U.S. dollar terms without giving effect to any underlying change in our business or results of operations. The income
statements of our operations are translated into U.S. dollars at the average exchange rates in each applicable period. To the
extent the U.S. dollar strengthens against foreign currencies, the translation of these foreign currencies denominated transactions
results in reduced revenue, operating expenses and net income for our international operations. Similarly, to the extent the U.S.
dollar weakens against foreign currencies, the translation of these foreign currency denominated transactions results in increased
revenue, operating expenses and net income for our international operations. We are also exposed to foreign exchange rate fluctuations
as we convert the financial statements of our foreign subsidiaries into U.S. dollars in consolidation. If there is a change in
foreign currency exchange rates, the conversion of the foreign subsidiaries’ financial statements into U.S. dollars will
lead to a translation gain or loss, which is recorded as a component of other comprehensive income. Very limited hedging transactions
are available in China to reduce our exposure to exchange rate fluctuations. To date, we have not entered into any hedging transactions.
While we may enter into hedging transactions in the future, the availability and effectiveness of these transactions may be limited,
and we may not be able to successfully hedge our exposure at all.
Fluctuation
in the value of RMB may have a material adverse effect on your investment.
The
value of RMB against the U.S. dollar and other currencies may fluctuate and is affected by, among other things, changes in political
and economic conditions. Our revenues, costs, and financial assets are mostly denominated in RMB, while our reporting currency
is the U.S. dollar. Accordingly, this may result in gains or losses from currency translation on our financial statements. We
rely entirely on fees paid to us by our affiliated entities in China. Therefore, any significant fluctuation in the value of RMB
may materially and adversely affect our cash flows, revenues, earnings, financial position, and the value of, and any dividends
payable on, our stock in U.S. dollars. For example, an appreciation of RMB against the U.S. dollar would, to the extent that we
need to convert U.S. dollars into RMB for such purposes, make any new RMB denominated investments or expenditures more costly
to us. An appreciation of RMB against the U.S. dollar would result in foreign currency translation gains for financial reporting
purposes when we translate our RMB denominated financial assets into U.S. dollars, as the U.S. dollar is our reporting currency.
Jiuzhou
Pharmacy, Jiuzhou Clinic and Jiuzhou Service are subject to restrictions on making payments to us.
We
rely substantially on our contractual arrangements with Jiuzhou Pharmacy, Jiuzhou Clinic and Jiuzhou Service for our revenue.
The Chinese government also imposes controls on the conversion of RMB into foreign currencies and the remittance of currencies
out of China. We may experience difficulties in completing the administrative procedures necessary to obtain and remit foreign
currency. Furthermore, if these companies incur debt on their own in the future, the instruments governing the debt may restrict
their ability to make payments. If we are unable to receive all of the revenues from our operations through these contractual
arrangements, we may be unable to pay dividends on our common shares.
Dividends
we receive from our subsidiaries located in the PRC may be subject to PRC withholding tax.
The
EIT Law provides that a maximum income tax rate of twenty percent (20%) is applicable to dividends payable to non-PRC investors
that are “non-resident enterprises,” to the extent such dividends are derived from sources within the PRC. However,
the State Council has reduced such rate to ten percent (10%) through the implementation regulations. We are a Nevada holding company
and substantially all of our income is derived from our subsidiaries and controlled companies located in the PRC. Therefore, dividends
paid to us from China may be subject to the ten percent (10%) income tax if we are considered a “non-resident enterprise”
under the EIT Law. If we are required under the EIT Law and its implementation regulations to pay income tax for any dividends
we receive from our PRC subsidiaries, it may have a material and adverse effect on our net income and materially reduce the amount
of dividends, if any, we may pay to our shareholders.
We
face risks related to health epidemics and other outbreaks.
Our
business could be adversely affected by the effects of an epidemic outbreak. Any prolonged recurrence of any adverse public health
developments in China may have a material adverse effect on our business operations. For instance, health or other government
regulations adopted in response may require temporary closure of our stores or offices. Such closures would severely disrupt our
business operations and adversely affect our results of operations. We have not adopted any written preventive measures or contingency
plans to combat any future epidemic outbreak.
Failure
to comply with the U.S. Foreign Corrupt Practices Act could subject us to penalties and other adverse consequences.
We
are required to comply with the United States Foreign Corrupt Practices Act, which generally prohibits United States companies
from engaging in bribery or other prohibited payments to foreign officials for the purpose of obtaining or retaining business.
Foreign companies, including some that may compete with us, are not subject to these prohibitions, and therefore may have a competitive
advantage over us. Corruption, extortion, bribery, pay-offs, theft and other fraudulent practices may occur in the PRC. If our
competitors engage in these practices, they may receive preferential treatment in the PRC, giving them an advantage in securing
business, which would put us at a disadvantage. We cannot provide assurance that our employees or other agents will not engage
in such conduct for which we might be held responsible. If our employees or other agents are found to have engaged in such practices,
we could suffer severe penalties and other consequences that may have a material adverse effect on our business, financial condition
and results of operations.
If
relations between the United States and China worsen, investors may be unwilling to hold or buy our stock and our stock price
may decrease.
At
various times during recent years, the United States and China have had significant disagreements over political and economic
issues. Controversies may arise in the future between these two countries. Any political or trade controversies between the United
States and China, whether or not directly related to our business, could reduce the price of our common stock.
Our
auditor, like other independent registered public accounting firms operating in China, is not permitted to be subject to inspection
by Public Company Accounting Oversight Board, and consequently investors may be deprived of the benefits of such inspection.
Our
auditor, the independent registered public accounting firm that issued the audit reports included elsewhere in this annual report,
as an auditor of companies that are traded publicly in the United States and a firm registered with the Public Company Accounting
Oversight Board (United States), or PCAOB, is required by the laws of the United States to undergo regular inspections by the
PCAOB to assess its compliance with the laws of the United States and applicable professional standards. Our auditor is located
in China and the PCAOB is currently unable to conduct inspections on auditors in China without the approval of the PRC authorities.
Therefore, our auditor, like other independent registered public accounting firms operating in China, is currently not inspected
by the PCAOB.
In
May 2013, the PCAOB announced that it has entered into a Memorandum of Understanding (“MOU”) on Enforcement Cooperation
with the China Securities Regulatory Commission (the “CSRC”) and the Ministry of Finance (the “MOF”).
The MOU establishes a cooperative framework between the parties for the production and exchange of audit documents relevant to
investigations in both countries’ respective jurisdictions. More specifically, it provides a mechanism for the parties to
request and receive from each other assistance in obtaining documents and information in furtherance of their investigative duties.
In addition to developing enforcement MOU, the PCAOB has been engaged in continuing discussions with the CSRC and MOF to permit
joint inspections in China of audit firms that are registered with the PCAOB and audit Chinese companies that trade on U.S. exchanges.
Inspections
of other firms that the PCAOB has conducted outside of China have identified deficiencies in those firms’ audit procedures
and quality control procedures, and such deficiencies may be addressed as part of the inspection process to improve future audit
quality. The inability of the PCAOB to conduct inspections of independent registered public accounting firms operating in China
makes it more difficult to evaluate the effectiveness of our auditor’s audit procedures or quality control procedures, and
to the extent that such inspections might have facilitated improvements in our auditor’s audit procedures and quality control
procedures, investors may be deprived of such benefits.
The
slowing economic growth in China may assert a negative impact on our operation and financial results.
According
to several articles published by the Wall Street Journal, CNN, and BBC News in January 2016, after experiencing rapid growth for
more than a decade, China’s economy has been hit by shrinking foreign and domestic demand, weak investment, factory overcapacity
and oversupply in the property market, and has experienced a painful slowdown in the last two years. In 2015, China’s economy
grew by 6.9%, compared with 7.3% a year earlier, marking its slowest growth in a quarter of a century. As the government tried
to shift the growth engine away from manufacturing and debt-fueled investment toward the services sector and consumer spending,
the outlook of the Chinese economy is uncertain.
In
the next two to three years, China’s growth performance could deteriorate because of the overhang of its real estate bubble,
massive manufacturing overcapacity, and the lack of new growth engines. The International Monetary Fund expected China’s economy
to grow by 6.5% in 2017. If China’s economy is further slowing down, it may negatively affect our business operation and
financial results.
Risks
Related to an Investment in Our Securities
To
date, we have not paid any cash dividends and no cash dividends will be paid in the foreseeable future.
We
do not anticipate paying cash dividends on our common stock in the foreseeable future and we may not have sufficient funds legally
available to pay dividends. Even if the funds are legally available for distribution, we may nevertheless decide not to pay any
dividends. We intend to retain all earnings for our operations.
NASDAQ
may delist our common stock from trading on the NASDAQ Capital Market for failing to maintain a minimum bid price of $1.00, which
could limit investors’ ability to effect transactions in our common stock and subject us to additional trading restrictions.
On
May 9, 2013, we received a letter from The NASDAQ Stock Market LLC (“NASDAQ”), notifying us of our failure to maintain
a minimum closing bid price of $1.00 over the then preceding thirty (30) consecutive trading days for its common stock, as required
by NASDAQ Listing Rule 5550(a)(2) (the “Bid Price Rule”). The letter stated that the company had until November 5,
2013, to demonstrate compliance by maintaining a minimum closing bid price of at least $1.00 for a minimum of ten (10) consecutive
trading days. In the meantime, we were included in a list of non-compliant companies posted on NASDAQ’s website commencing
on May 16, 2013.
On
November 6, 2013, NASDAQ granted us an additional 180-day period, or until May 5, 2014, to remain listed on the NASDAQ Capital
Market and to regain compliance with the Bid Price Rule. Under NASDAQ Listing Rules, we were granted this extension because we
met the continued listing requirement for market value of publicly held shares and all other applicable NASDAQ listing requirements,
except the bid price requirement.
On
January 16, 2014, we received a letter from NASDAQ notifying us that we had regained compliance with the Bid Price Rule, as the
closing bid price of our common stock had been at or above $1.00 per share for at least 10 consecutive trading days. However,
we cannot provide assurance that we will remain compliant with the Bid Price Rule in the future. If NASDAQ delists our common
stock from trading on its exchange, we could face significant material adverse consequences including:
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a
limited availability of market quotations for our common stock;
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limited amount of news and analyst coverage for our company; and
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a
decreased ability to issue additional securities or obtain additional financing in the future.
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Although
publicly traded, the trading market in our common stock may be substantially less liquid than the average stock quoted on the
NASDAQ Capital Market, and such low trading volume may adversely affect the price of our common stock.
Although
our common stock has been listed on the NASDAQ Capital Market since April 22, 2010, the historical trading volume of our common
stock has generally been low. Limited trading volume will subject our shares of common stock to greater price volatility and may
make it difficult for you to sell your shares of common stock at a price that is attractive to you.
The
market price for our stock may be volatile, and such volatility may subject us to securities litigation.
The
market price for our stock may be volatile and, when compared to seasoned issuers, subject to wide fluctuations in response to
various factors, many of which are beyond our control, including the following:
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actual
or anticipated fluctuations in our quarterly operating results;
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changes
in financial estimates by securities research analysts;
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conditions
in the retail pharmacy markets;
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changes
in the economic performance or market valuations of other retail pharmacy operators;
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announcements
by us or our competitors of new products, acquisitions, strategic partnerships, joint ventures or capital commitments;
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addition
or departure of key personnel;
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fluctuations
of exchange rates between RMB and the U.S. dollar;
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intellectual
property litigation; and
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general
economic or political conditions in China.
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As
an illustration of such volatility, the closing price of our common stock during the fifty two (52) weeks preceding the date of
this report ranged from a low of $1.56 to a high of $2.13. In addition, the securities market has from time to time experienced
significant price and volume fluctuations that are not related to the operating performance of particular companies. These market
fluctuations may also materially and adversely affect the market price of our stock.
In
the past, plaintiffs have often initiated securities class action litigation against a company following periods of volatility
in the market price of its securities. We may, in the future, be the target of similar litigation. Securities litigation could
result in substantial costs and liabilities and could divert management’s attention and resources.
Techniques
employed by manipulative short sellers in Chinese small-cap stocks may drive down the market price of our common stock.
Short
selling is the practice of selling securities that the seller does not own but rather has borrowed from a third party with the
intention of buying identical securities back at a later date to return to the lender. The short seller hopes to profit from the
difference in the sale price of the borrowed securities and the purchase price of the replacement shares. As it is therefore in
the short seller’s best interests for the price of the stock to decline, there have been incidents of short sellers publishing,
or arranging to publish negative opinions in order to create negative market momentum. While traditionally these disclosed shorts
have been limited in their ability to access mainstream business media or to otherwise create negative market rumors, the rise
of the Internet and technological advancements regarding document creation, videotaping and publication by weblog (“blogging”)
have allowed many disclosed shorts to publicly attack a company’s credibility, strategy and veracity by means of so-called
research reports that mimic the type of investment analysis performed by large Wall Street firms and independent research analysts.
These short attacks have, in the past, resulted in the selling of shares in the market, on occasion on a large scale and broad
base. Issuers with business operations based in the PRC, that have limited trading volumes and that are susceptible to higher
volatility levels than U.S. domestic large-cap stocks can be particularly vulnerable to such short attacks.
These
short seller publications are not regulated by any governmental, self-regulatory organization or other official authority in the
U.S., are not subject to the certification requirements imposed by the SEC in Regulation Analyst Certification and, accordingly,
the opinions they express may be based on distortion of the actual facts or, in some cases, fabrication of the facts. In light
of the limited risks involved in publishing such information, and the enormous profit that can be made from running just one successful
short attack, unless the short sellers become subject to significant penalties, it is more likely than not that disclosed shorts
will continue to issue such reports.
While
we intend to strongly defend our public filings against any such short seller attacks, oftentimes we are constrained, either by
principles of freedom of speech, applicable state law (often called Anti-SLAPP statutes), or issues of commercial confidentiality,
in the manner in which we can proceed against the relevant short seller. You should be aware that in light of the relative freedom
to operate that such persons enjoy – oftentimes blogging from outside the U.S. with little or no assets or identity requirements
– should we be targeted for such an attack and the rumors not dismissed by market participants, our stock will likely suffer
from a temporary, or possibly long term, decline in market price.
Our
officers and directors own a substantial portion of our outstanding common stock, which will enable them to influence many significant
corporate actions and in certain circumstances may prevent a change in control that would otherwise be beneficial to our shareholders.
As of June 28, 2017, our
directors and executive officers collectively controlled approximately 8,788,482 or 34.9% of our outstanding shares of stock entitled
to vote on all corporate actions. These stockholders, acting together, could have a substantial impact on matters requiring the
vote of the shareholders, including the election of our directors and most of our corporate actions. This control could delay,
defer or prevent others from initiating a potential merger, takeover or other change in our control, even if these actions would
benefit us and our shareholders. This control could adversely affect the voting and other rights of our other shareholders and
could depress the market price of our common stock.
The
elimination of monetary liability against our directors, officers and employees under Nevada law and the existence of indemnification
rights for our directors, officers and employees may result in substantial expenditures by us and may discourage lawsuits against
our directors, officers and employees.
Our
bylaws contain specific provisions that eliminate the liability of our directors for monetary damages to our company and shareholders,
and we are prepared to give such indemnification to our directors and officers to the extent provided by Nevada law. We may also
have contractual indemnification obligations under our employment agreements with our officers. The foregoing indemnification
obligations could result in our company incurring substantial expenditures to cover the cost of settlement or damage awards against
directors and officers, which we may be unable to recoup. These provisions and any costs resulting therefrom may also discourage
our company from bringing a lawsuit against directors and officers for breaches of their fiduciary duties, and may similarly discourage
the filing of derivative litigation by our shareholders against our directors and officers even though such actions, if successful,
might otherwise benefit our company and shareholders.
Legislative
actions, potential new accounting pronouncements and higher insurance costs may impact our future financial position and results
of operations.
Over
the last decade or so, there have been many regulatory changes, including the Sarbanes-Oxley Act of 2002 (the “Sarbanes-Oxley
Act”) and the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010. There may potentially be new accounting
pronouncements or regulatory rulings or changes that will have an impact on our future financial position and results of operations.
In addition, insurers are likely to increase premiums as a result of high claims rates over the past several years, which we expect
will increase our premiums for insurance policies. These and other potential changes could materially increase the expenses we
report under generally accepted accounting principles, and adversely affect our operating results.
If
we fail to maintain an effective system of internal controls, we may not be able to accurately report our financial results or
prevent fraud.
We
are subject to reporting obligations under U.S. securities laws. The SEC, as required by Section 404 of the Sarbanes-Oxley Act,
as amended, adopted rules requiring every public company to include a management report on such company’s internal controls
over financial reporting in its annual report, which contains management’s assessment of the effectiveness of our internal
controls over financial reporting. We reported certain material weaknesses involving control activities, specifically internal
control weaknesses relating to finance personnel, in light of the continuing lack of sufficient experience by our accounting staff
in U.S. GAAP-based reporting and SEC rules and regulations. Such material weaknesses were noted for the past five (5) fiscal years,
based on factors including: (i) the number of adjustments proposed by our independent auditors during our quarterly review and
annual audit processes; (ii) the significance of the audit adjustments and their impact on the overall financial statements; (iii)
how appropriately we complied with U.S. GAAP on transactions; and (iv) how accurately we prepared supporting information to provide
to our independent auditors on a quarterly and annual basis. As such, we did not maintain effective controls and did not implement
adequate and proper supervisory review to ensure that significant internal control deficiencies could be detected and/or prevented.
Although
we believe that we have made significant efforts to address the foregoing weaknesses, we believe that our efforts to date have
not yet been sufficient to fully remediate such weaknesses. We will continue our efforts during the current fiscal year, although
there can be no assurance that compliance will be achieved in this time frame.
Our
reporting obligations as a public company will place a significant strain on our management, operational and financial resources
and systems for the foreseeable future. Effective internal controls, particularly those related to revenue recognition, are necessary
for us to produce reliable financial reports and are important to help prevent fraud. As a result, our failure to achieve and
maintain effective internal controls over financial reporting could result in the loss of investor confidence in the reliability
of our financial statements, which in turn could harm our business and negatively impact the trading price of our common stock.
Furthermore, we anticipate that we will incur considerable costs and use significant management time and other resources in an
effort to comply with Section 404 and other requirements of the Sarbanes-Oxley Act.