Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
The following discussion and analysis should be read in conjunction with our financial statements and the related notes. This discussion contains forward-looking statements based upon current expectations that involve risks and uncertainties, such as its plans, objectives, expectations and intentions. Its actual results and the timing of certain events could differ materially from those anticipated in these forward-looking statements. As a result of the Share Exchange and the VIE Agreements, the Company, through Kanghui Agricultural, its indirect wholly owned subsidiary, assumed management of the business activities of Guangzhou Tanke and has the right to appoint all executives and senior management and the members of the board of directors of Guangzhou Tanke. As used in this section, the terms “we”, “our”, “us” and the “Company” refer to the Company, our direct and indirect subsidiaries and Guangzhou Tanke, our principal operating business.
Overview
We are one of the leading animal nutrition and feed additive providers in China. In 2001, we were designated a certified high-tech company by the Guangzhou City Commission of Science and Technology as recognition for new technology developed by us in the agriculture industry. Our products optimize the growth and health of livestock such as pigs and cattle, as well as farmed fish, and seek to capitalize on China’s growing demand for safe and reasonably priced food. Feed additives are utilized in China at less than half the rate of the United States and Europe, and we have a significant growth opportunity as Chinese farmers and ranchers include a greater amount of increasingly sophisticated additive to their feed.
We have more than 165 employees, with 40 engaged in sale or sales-related activities. Our headquarters and manufacturing facilities are in a state-of-the-art 34,000 square-meter facility in the capital city of Guangzhou, in Guangdong province. We currently produce 22 branded feed additives, with each brand available in seven different mixes that correspond to different states of an animal’s life cycle.
Our major products address most key market categories within China’s animal feed additive industry including: Organic Trace Mineral Additives, which account for approximately 86% of our revenue, Functional regulation, which account for approximately 11% of our revenue, and Herbal Medicinal Additives, which account for approximately 1% of our revenue. Our extensive distribution network reaches China’s top 10 feed producers and the 500 largest animal farming operations. We currently market 22 different brands of feed additives at various price points to meet the demands of existing and prospective customers. Within each brand there are seven different mixes that correspond to the different growth stages of an animal’s life cycle. While the majority of our sales are domestic, international sales, mainly in Southeast Asia, Latin American and other developing countries, currently account for approximately 1% of our total sales.
Critical Accounting Policies
While our significant accounting policies are more fully described in Note 2 to our consolidated financial statements, we believe that the following accounting policies are the most critical to aid you in fully understanding and evaluating this “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
Basis of Preparation
The Company’s consolidated financial statements have been stated in US dollars and prepared in accordance with generally accepted accounting principles in the United States of America (“GAAP”) for interim financial statements and with instructions to Form 10-Q pursuant to the rules and regulations of Securities and Exchange Act of 1934, as amended (the “Exchange Act”) and Article 8-03 of Regulation S-X under the Exchange Act. In the opinion of our management, we have included all adjustments considered necessary in order to make the financial statements not misleading. Operating results for the three and nine months ended September 30, 2012 are not indicative of the results that may be expected for the fiscal year ending December 31, 2012.
Use of Estimates
In preparing consolidated financial statements in conformity with accounting principles generally accepted in the United States of America, management makes estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the dates of the financial statements, as well as the reported amounts of revenues and expenses during the reporting periods. These accounts and estimates include, but are not limited to, the valuation of the amount due from related parties, the net realizable value of inventories, the estimation of useful lives of property and equipment and intangible assets, and the value of warrants. Actual results could differ from those estimates.
Revenue Recognition
The Company recognizes revenue in accordance with Accounting Standards Codification (“ASC”) 605-10,
Revenue Recognition,
and SEC Staff Accounting Bulletin No. 104. Pursuant to these pronouncements, revenue is recognized when all of the following criteria are met:
- Persuasive evidence of an arrangement exists;
- Delivery has occurred or services have been rendered;
- The seller's price to the buyer is fixed or determinable; and
- Collectability is reasonably assured.
The Company’s revenue is generated through the wholesale and retail sale of livestock feed additives, including organic trace mineral additives, functional regulation additives, herbal medicinal additives and raw materials. Before the Company recognizes revenue on these product sales, written purchase orders and contracts are received in advance of all shipments of goods to customers. For sales within the Company’s own province, delivery is made by Company employees. Such delivery occurs on the same day as shipment. For delivery outside the province, shipment is made through a separate logistics company that assumes the risk of loss. Revenue is recognized upon shipment of goods to the customers. The Company typically does not incur bad debt losses because this type of loss is deducted from the salesperson’s compensation, thereby mitigating the loss to the Company. Therefore, collectability is reasonably assured.
Revenue is presented net of sales returns, which are not significant. However, the Company continually performs analyses of returns and records a provision at the time of sale if necessary. As of September 30, 2012, it was determined that potential returns and allowances were not material so the Company did not record a provision for returns. The Company revisits this estimate regularly and adjusts it if conditions change.
Research and Development Costs
Research and development costs are charged as expense when incurred and included in operating expenses.
Foreign Currency Translation
The Company and its subsidiaries maintain financial statements in the functional currency of each entity. Monetary assets and liabilities denominated in currencies other than the functional currency are translated into the functional currency at rates of exchange prevailing at the balance sheet dates. Transactions denominated in currencies other than the functional currency are translated into the functional currency at the exchange rates prevailing at the dates of the transaction. Exchange gains or losses arising from foreign currency transactions are included in the determination of net income for the respective periods.
The financial statements of each entity are prepared using the functional currency, and have been translated into United States dollars (“US$” or “$”). Assets and liabilities are translated at the exchange rates at the balance sheet dates and revenue and expenses are translated at the average exchange rates for the period. Stockholders’ equity is translated at historical exchange rates. Any translation adjustments are included as a foreign exchange adjustment in other comprehensive income, a component of stockholders’ equity.
RMB is not freely convertible into foreign currency and all foreign exchange transactions must take place through authorized institutions. No representation is made that the RMB amounts could have been, or could be, converted into US$ at the rates used in translation.
Results of Operations for the Three Months Ended September 30, 2012 as Compared to the Three Months Ended September 30, 2011
The following is a comparison of our revenue, costs of sales and gross profit by segment for the three months ended September 30, 2012 and 2011.
Revenue and Costs of Sales
The Company operates in four segments: (1) Organic Trace Mineral Additives, (2) Functional Regulation Additives, (3) Herbal Medicinal Additives and (4) Other. Management tracks each of these operations separately. The Company evaluates the performance of its operating segments based on segment revenue and gross profit, and management uses aggregate segment gross profit as a measure of the overall performance of the business. The Company believes that information about aggregate segment gross profit assists investors by allowing them to evaluate changes in the gross profit of the Company’s various offerings separate from factors other than product offerings that affect net income.
|
|
Three Months Ended
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
|
|
|
|
|
|
|
|
2012
|
|
|
2011
|
|
|
$ Change
|
|
|
% Change
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment revenues
|
|
|
|
|
|
|
|
|
|
|
|
|
Organic Trace Mineral Additives
|
|
$
|
8,865,570
|
|
|
$
|
4,903,065
|
|
|
$
|
3,962,505
|
|
|
|
80.8
|
%
|
Functional Regulation Additives
|
|
|
733,785
|
|
|
|
1,257,219
|
|
|
|
(523,435
|
)
|
|
|
(41.6
|
%)
|
Herbal Medicinal Additives
|
|
|
94,271
|
|
|
|
81,962
|
|
|
|
12,309
|
|
|
|
15.0
|
%
|
Other
|
|
|
212,955
|
|
|
|
5,587
|
|
|
|
207,368
|
|
|
|
3711.9
|
%
|
|
|
$
|
9,906,581
|
|
|
$
|
6,247,833
|
|
|
$
|
3,658,748
|
|
|
|
58.6
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment costs of sales
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Organic Trace Mineral Additives
|
|
$
|
5,744,163
|
|
|
$
|
3,134,802
|
|
|
$
|
2,609,361
|
|
|
|
83.2
|
%
|
Functional Regulation Additives
|
|
|
509,057
|
|
|
|
799,849
|
|
|
|
(290,792
|
)
|
|
|
(36.4
|
%)
|
Herbal Medicinal Additives
|
|
|
72,291
|
|
|
|
65,349
|
|
|
|
6,942
|
|
|
|
10.6
|
%
|
Other
|
|
|
195,967
|
|
|
|
4,212
|
|
|
|
191,755
|
|
|
|
4552.6
|
%
|
|
|
$
|
6,521,478
|
|
|
$
|
4,004,212
|
|
|
$
|
2,517,266
|
|
|
|
62.9
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment gross profit
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Organic Trace Mineral Additives
|
|
$
|
3,121,407
|
|
|
$
|
1,768,263
|
|
|
$
|
1,353,144
|
|
|
|
76.5
|
%
|
Functional Regulation Additives
|
|
|
224,728
|
|
|
|
457,370
|
|
|
|
(232,643
|
)
|
|
|
(50.9
|
%)
|
Herbal Medicinal Additives
|
|
|
21,980
|
|
|
|
16,613
|
|
|
|
5,367
|
|
|
|
32.3
|
%
|
Other
|
|
|
16,988
|
|
|
|
1,375
|
|
|
|
15,613
|
|
|
|
1135.9
|
%
|
|
|
$
|
3,385,103
|
|
|
$
|
2,243,621
|
|
|
$
|
1,141,482
|
|
|
|
50.9
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Organic Trace Mineral Additives
Organic trace mineral additives constitute the largest and fastest growing area of our business. We are one of China’s largest domestic providers of organic trace mineral additives, specializing in the development and production of chelated organic trace mineral additives. Our current trace mineral manufacturing facility is the largest chelating facilities in China and has the capacity to produce approximately 350 metric tons of organic trace minerals per week.
Revenue from organic trace mineral additives in the third quarter of 2012 increased by$3,962,505, or 80.8%, as compared to 2011. During the second and third quarters of 2012, demand for organic trace mineral additives rebounded after a slower first quarter due to the Chinese New Year holiday and soft overall economic growth. Our revenue in the third quarter of 2012 increased due in part to strict food safety rules and regulations enforced by the State Council of China regarding the animal feed and feed additive industries. We have benefited from these new industry standards, as smaller companies who produce sub-standard feed additives will not be able to operate. In addition, pig diseases began to seriously impact the pig farming industry in 2011, lowering demand for feed and feed additives, and driving pork prices to a record level. This problem has been alleviated and pork prices have been stabilized after the first quarter of 2012. In 2012, organic trace mineral revenue accounted for approximately 89% of our revenues for the three months ended September 30, 2012 as compared to 78% for the three months ended September 30, 2011. Our gross profit percentage for the organic trace mineral additive sales amounted to 35.2% and 36.1% for the quarters ended September 30, 2012 and 2011, respectively.
Functional Regulation Additives
Functional feed additives are widely used to enhance the properties of other products, improve feed efficiency and stimulate the rapid maturation of the immune system. We currently produce two types of functional regulation additives: feed acidifiers and flavor enhancers. Feed acidifiers are used to prevent microbial degradation of raw materials or finished feeds and to maintain the quality of feed. Flavor enhancers are used to improve feed palatability, enhance animal appetite and stimulate saliva, gastric and pancreatic juices and other digestive juice secretion and gastrointestinal motility and ultimately feed consumption and yield from production animals.
Revenue from functional regulation additives for the quarter ended September 30, 2012 decreased by $523,435, or 41.6%, as compared to the third quarter of 2011. The decrease in sales is primarily due to the segment being less emphasized during the third quarter of 2012, as more attention was placed pushing the growth of the organic trace mineral additive market
.
Herbal Medicinal Additives
Chinese herbal feed additives utilize traditional Chinese medicine theory to improve an animal’s digestion and appetite and to regulate the yin and yang balance of an animal’s health. Herbal medicines come from plants, plant extracts, fungal and bee products, minerals, shells and certain animal parts. Compared to synthetic antibiotics or inorganic chemicals, these naturally-derived products are less toxic, residue free and thought to be ideal feed additives in food animal production.
Revenue from herbal medicinal additives for the quarter ended September 30, 2012 increased by $12,309, or 15%, as compared to the quarter ended September 30, 2011. The revenue from herbal medicinal additives amounted to only 1% of our total revenue for the three months ended September 30, 2012 and 2011.
Other
Other revenue mainly consists of buying and then reselling raw materials. Revenue from raw material sales accounted for 2.1% of our revenue for the three months ended September 30, 2012. This reflects a significant increase from prior year, primarily due to new demand from a major customer for a specific material. The margin of this type of sales is low and demand many not be consistent.
Operating Expenses and Other Income / Expenses
The following table reconciles aggregate segment gross profit to net income for the three months ended September 30, 2012 and 2011.
|
|
Three Months Ended
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
|
|
|
|
|
|
|
|
2012
|
|
|
2011
|
|
|
$ Change
|
|
|
% Change
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
$
|
3,385,103
|
|
|
$
|
2,243,621
|
|
|
$
|
1,141,482
|
|
|
|
50.9
|
%
|
Selling expenses
|
|
|
(611,880
|
)
|
|
|
(486,231
|
)
|
|
|
125,649
|
|
|
|
25.8
|
%
|
Administrative expenses
|
|
|
(574,092
|
)
|
|
|
(545,100
|
)
|
|
|
28,992
|
|
|
|
5.3
|
%
|
Other operating expenses
|
|
|
-
|
|
|
|
(4,809
|
)
|
|
|
(4,809
|
)
|
|
|
(100.0
|
%)
|
Depreciation and amortization
|
|
|
(16,642
|
)
|
|
|
(3,685
|
)
|
|
|
12,957
|
|
|
|
351.6
|
%
|
Income from operations
|
|
|
2,182,489
|
|
|
|
1,203,796
|
|
|
|
978,693
|
|
|
|
(81.3
|
%)
|
Other income/expense
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest income
|
|
|
23,573
|
|
|
|
25,563
|
|
|
|
(1,990
|
)
|
|
|
(7.8
|
%)
|
Interest expense
|
|
|
(316,422
|
)
|
|
|
(814,415
|
)
|
|
|
(497,993
|
)
|
|
|
(61.1
|
%)
|
Amortization of discount on notes
|
|
|
(698,495
|
)
|
|
|
(1,396,990
|
)
|
|
|
(698,495
|
)
|
|
|
(50.0
|
%)
|
Registration rights agreement expense
|
|
|
|
|
|
|
(260,782
|
)
|
|
|
(260,782
|
)
|
|
|
(100.0
|
%)
|
Foreign exchange losses, net
|
|
|
-
|
|
|
|
(17,846
|
)
|
|
|
(17,846
|
)
|
|
|
(100.0
|
%)
|
Income (loss) before income taxes
|
|
|
1,191,145
|
|
|
|
(1,260,674
|
)
|
|
|
2,451,819
|
|
|
|
194.5
|
%
|
Income tax expense
|
|
|
(222,513
|
)
|
|
|
(185,197
|
)
|
|
|
37,316
|
|
|
|
20.1
|
%
|
Net income (loss)
|
|
$
|
968,632
|
|
|
$
|
(1,445,871
|
)
|
|
$
|
2,414,503
|
|
|
|
167.0
|
%
|
Selling, General and Administrative Expenses
Selling expenses for the three months ended September 30, 2012 increased by $125,649, or 25.8%, as compared to 2011. The selling expenses increased due primarily to the 58.6% increase in sales for the third quarter, as the number of sales people increased to handle the increased sales levels.
General and administrative expenses for the three months ended September 30, 2012 increased by $28,992, or 5.3%, as compared to 2011. The expenses remained consistent due to our administrative activities being consistent during both of these periods.
Other Income/Expenses
Interest income for the three months ended September 30, 2012 decreased slightly by $1,990 as compared to the three months ended September 30, 2011. Our interest income has remained consistent as our levels of cash have remained consistent.
Interest expense for the three months ended September 30, 2012 decreased by $497,993 as compared to 2011. The primary reason for this decrease was due to lower amortization of capitalized offering costs recorded in 2012 resulting from a change in estimate for the life of the offering costs. The offering costs were being amortized over a one year period in the first nine months of 2011, and a two year period in 2012.
The expense associated with the amortization of discounts on our convertible notes payable for the three months ended September 30, 2012 amounted to $698,495 as compared to $1,396,990 in 2011. As discussed above with the amortization of the capitalized offering costs, the convertible notes payable were issued in February 2011 and were being amortized over a period of one year in the first nine months of 2011. In 2012 we revised our estimate to amortize the amounts over a two year period. These amounts are expected to be amortized through February 2013.
Income Tax Expense
Our income tax expense increased by $37,316 for the three months ended September 30, 2012 as compared to 2011. The increase was attributable to an increase in taxable income during the quarter.
Pursuant to Section 26 of the Inland Revenue Ordinance (“IRO”), the governing statute of Hong Kong taxation, any dividend income received by any entity subject to IRO would not be taxable in Hong Kong. Furthermore, foreign (non-Hong Kong) investment income that is repatriated to Hong Kong is not subject to Hong Kong profits (income) tax.
Results of Operations for the Nine Months Ended September 30, 2012 as Compared to the Nine Months Ended September 30, 2011
The following is a comparison of our revenue, costs of sales and gross profit by segment for the nine months ended September 30, 2012 and 2011.
Revenue and Costs of Sales
The Company operates in four segments: (1) Organic Trace Mineral Additives, (2) Functional Regulation Additives, (3) Herbal Medicinal Additives and (4) Other. Management tracks each of these operations separately. The Company evaluates the performance of its operating segments based on segment revenue and gross profit, and management uses aggregate segment gross profit as a measure of the overall performance of the business. The Company believes that information about aggregate segment gross profit assists investors by allowing them to evaluate changes in the gross profit of the Company’s various offerings separate from factors other than product offerings that affect net income.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
|
|
|
|
|
|
|
|
2012
|
|
|
2011
|
|
|
$ Change
|
|
|
% Change
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment revenues
|
|
|
|
|
|
|
|
|
|
|
|
|
Organic Trace Mineral Additives
|
|
$
|
18,763,853
|
|
|
$
|
13,704,308
|
|
|
$
|
5,059,545
|
|
|
|
36.9
|
%
|
Functional Regulation Additives
|
|
|
2,480,324
|
|
|
|
2,915,994
|
|
|
|
(435,670
|
)
|
|
|
(14.9
|
%)
|
Herbal Medicinal Additives
|
|
|
191,110
|
|
|
|
166,230
|
|
|
|
24,880
|
|
|
|
15.0
|
%
|
Other
|
|
|
443,222
|
|
|
|
392,614
|
|
|
|
50,608
|
|
|
|
12.9
|
%
|
|
|
$
|
21,878,509
|
|
|
$
|
17,179,146
|
|
|
$
|
4,699,363
|
|
|
|
27.4
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment costs of sales
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Organic Trace Mineral Additives
|
|
$
|
11,895,318
|
|
|
$
|
8,534,522
|
|
|
$
|
3,360,796
|
|
|
|
39.4
|
%
|
Functional Regulation Additives
|
|
|
1,668,369
|
|
|
|
1,824,921
|
|
|
|
(156,552
|
)
|
|
|
(8.6
|
%)
|
Herbal Medicinal Additives
|
|
|
187,535
|
|
|
|
141,023
|
|
|
|
46,512
|
|
|
|
33.0
|
%
|
Other
|
|
|
414,430
|
|
|
|
236,613
|
|
|
|
177,817
|
|
|
|
75.2
|
%
|
|
|
$
|
14,165,652
|
|
|
$
|
10,737,079
|
|
|
$
|
3,428,573
|
|
|
|
31.9
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment gross profit
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Organic Trace Mineral Additives
|
|
$
|
6,868,535
|
|
|
$
|
5,169,786
|
|
|
$
|
1,698,749
|
|
|
|
32.9
|
%
|
Functional Regulation Additives
|
|
|
811,955
|
|
|
|
1,091,073
|
|
|
|
(279,118
|
)
|
|
|
(25.6
|
%)
|
Herbal Medicinal Additives
|
|
|
3,575
|
|
|
|
25,207
|
|
|
|
(21,632
|
)
|
|
|
(85.8
|
%)
|
Other
|
|
|
28,792
|
|
|
|
156,001
|
|
|
|
(127,209
|
)
|
|
|
(81.5
|
%)
|
|
|
$
|
7,712,857
|
|
|
$
|
6,442,067
|
|
|
$
|
1,270,790
|
|
|
|
19.7
|
%
|
Organic Trace Mineral Additives
Organic trace mineral additives constitute the largest and fastest growing area of our business. We are one of China’s largest domestic providers of organic trace mineral additives, specializing in the development and production of chelated organic trace mineral additives. Our current trace mineral manufacturing facility is the largest chelating facilities in China and has the capacity to produce approximately 350 metric tons of organic trace minerals per week.
Revenue from organic trace mineral additives for the nine months ended September 30, 2012 increased by $5,059,545, or 36.9%, as compared to 2011. During the second and third quarters of 2012, demand for organic trace mineral additives rebounded after a slower first quarter due to the Chinese New Year holiday and soft overall economic growth. Our revenue also increased due in part to strict food safety rules and regulations enforced by the State Council of China regarding the animal feed and feed additive industries. We have benefited from these new industry standards, as smaller companies who produce sub-standard feed additives will not be able to operate. In 2012, this revenue accounted for approximately 86% of our revenues for the nine months ended September 30, 2012 as compared to 80% for the nine months ended September 30, 2011. Our gross profit percentage for the organic trace mineral additive sales amounted to 36.6% and 37.7% for the nine months ended September 30, 2012 and 2011, respectively.
Functional Regulation Additives
Functional feed additives are widely used to enhance the properties of other products, improve feed efficiency and stimulate the rapid maturation of the immune system. We currently produce two types of functional regulation additives: feed acidifiers and flavor enhancers. Feed acidifiers are used to prevent microbial degradation of raw materials or finished feeds and to maintain the quality of feed. Flavor enhancers are used to improve feed palatability, enhance animal appetite and stimulate saliva, gastric and pancreatic juices and other digestive juice secretion and gastrointestinal motility and ultimately feed consumption and yield from production animals.
Revenue from functional regulation additives for the nine months ended September 30, 2012 decreased by $435,670, or 14.9%, as compared to the nine months ended September 30, 2011. The decrease is due primarily to more attention being placed on growing the organic trace mineral sales. The gross profit percentage for the nine months ended September 30, 2012 decreased to 32.7%, as compared to 37.4% for the nine months ended September 30, 2011 due to higher material and labor costs
.
Herbal Medicinal Additives
Chinese herbal feed additives utilize traditional Chinese medicine theory to improve an animal’s digestion and appetite and to regulate the yin and yang balance of an animal’s health. Herbal medicines come from plants, plant extracts, fungal and bee products, minerals, shells and certain animal parts. Compared to synthetic antibiotics or inorganic chemicals, these naturally-derived products are less toxic, residue free and thought to be ideal feed additives in food animal production.
Revenue from herbal medicinal additives for the nine months ended September 30, 2012 increased by $24,880, or 15%, as compared to the nine months ended September 30, 2011. Our gross profit for the nine months ended September 30, 2012 amounted to 1.9% as compared to 15.2% in 2011 due to significant increase in material costs.
Herbal Medicinal Additives are still in a development and introductory stage when customers are adapting to the usage and we have been developing new products and production processes to lower costs and offer more affordable products in this category, as well as new marketing strategy to grow sales. Prices and costs will continue to fluctuate in the near future until the right balance is reached.
Other
Other revenue mainly consists of buying and then reselling raw materials. Revenue from raw material sales accounted for 2% of our revenue for the nine months ended September 30, 2012 and increased by $50,608 as compared to 2011. This revenue is very price sensitive and margin is minimal, while demands are sporadic. Going forward, we do not expect this to be a significant source of revenue.
Operating Expenses and Other Income / Expenses
The following table reconciles aggregate segment gross profit to net income for the nine months ended September 30, 2012 and 2011.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
|
|
|
|
|
|
|
|
2012
|
|
|
2011
|
|
|
$ Change
|
|
|
% Change
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
$
|
7,712,857
|
|
|
$
|
6,442,067
|
|
|
$
|
1,270,790
|
|
|
|
19.7
|
%
|
Selling expenses
|
|
|
(1,706,112
|
)
|
|
|
(1,690,287
|
)
|
|
|
15,825
|
|
|
|
0.9
|
%
|
Administrative expenses
|
|
|
(1,795,328
|
)
|
|
|
(3,870,005
|
)
|
|
|
(2,074,677
|
)
|
|
|
(53.6
|
%)
|
Other operating expenses
|
|
|
-
|
|
|
|
(96,498
|
)
|
|
|
(96,498
|
)
|
|
|
(100.0
|
%)
|
Depreciation and amortization
|
|
|
(43,071
|
)
|
|
|
(66,864
|
)
|
|
|
(23,793
|
)
|
|
|
(35.6
|
%)
|
Income (loss) from operations
|
|
|
4,168,346
|
|
|
|
718,413
|
|
|
|
3,449,933
|
|
|
|
(480.2
|
%)
|
Other income/expense
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest income
|
|
|
193,026
|
|
|
|
29,173
|
|
|
|
163,853
|
|
|
|
561.7
|
%
|
Interest expense
|
|
|
(1,058,291
|
)
|
|
|
(1,497,364
|
)
|
|
|
(439,073
|
)
|
|
|
(29.3
|
%)
|
Amortization of discount on notes
|
|
|
(2,080,301
|
)
|
|
|
(3,538,030
|
)
|
|
|
(1,457,729
|
)
|
|
|
(41.2
|
%)
|
Registration rights agreement expense
|
|
|
|
|
|
|
(260,782
|
)
|
|
|
(260,782
|
)
|
|
|
(100.0
|
%)
|
Foreign exchange losses, net
|
|
|
-
|
|
|
|
(70,246
|
)
|
|
|
(70,246
|
)
|
|
|
(100.0
|
%)
|
Income (loss) before income taxes
|
|
|
1,222,780
|
|
|
|
(4,618,836
|
)
|
|
|
5,841,616
|
|
|
|
126.5
|
%
|
Income tax expense
|
|
|
(652,711
|
)
|
|
|
(505,505
|
)
|
|
|
147,206
|
|
|
|
29.1
|
%
|
Net income (loss)
|
|
$
|
570,069
|
|
|
$
|
(5,124,341
|
)
|
|
$
|
5,694,410
|
|
|
|
111.1
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Selling, General and Administrative Expenses
Selling expenses for the nine months ended September 30, 2012 increased slightly by $15,825, or 0.9%, as compared to 2011. The amount represents primarily travel and meeting expenses for sales department staff to develop new customers and expand the market. The amounts for the nine months ended September 30, 2012 increased by only 0.9% as compared to 2011 despite the increase in sales for the same period of 27.4%, as we have more closely controlled our expenses due to the reduced amount of sales experienced in the first quarter of 2012. In addition, we have developed a new sales and marketing division targeting the end-user market segment, or the largest animal farms in China, through utilization of distributors in 2012. Selling expenses for this market segment are relatively lower than selling to the feed producer market.
General and administrative expenses for nine months ended September 30, 2012 decreased by $2,074,677 as compared to 2011. This was due to higher accounting and legal expenses associated with our public filings in 2011, which did not occur in 2012. In particular, we issued shares of common stock to a consultant as compensation in 2011, which accounted for $2,491,938 of the total administrative expenses. There were no such expenses in 2012.
Other Income/Expenses
Interest income for the nine months ended September 30, 2012 increased by $163,853 as compared with the nine months ended September 30, 2011. This increase is due primarily to interest income received during the second quarter of 2012 resulting from loans we made to a customer and a supplier in the fourth quarter of 2011.
Interest expense for the nine months ended September 30, 2012 decreased by $439,073 as compared to 2011. The primary reason for this decrease was due to lower amortization of capitalized offering costs recorded in 2012 resulting from a change in estimate for the life of the offering costs. The offering costs were being amortized over a one year period in the first nine months of 2011, and a two year period in 2012.
The expense associated with the amortization of discounts on our convertible notes payable for the nine months ended September 30, 2012 amounted to $2,080,301 as compared to $3,538,030 in 2011. The convertible notes payable were issued in February 2011 and were being amortized over a period of one year in the first nine months of 2011. In 2012 we revised our estimate to amortize the amounts over a two year period. These amounts are expected to be amortized through February 2013.
Income Tax Expense
Our income tax expense increased by $147,206 for the nine months ended September 30, 2012 as compared to 2011. The increase was attributable to an increase in taxable income during the quarter.
The $652,711 income tax expense for the nine months ended September 30, 2012 represents a 53% effective rate of the $1,222,780 income before tax. However, included in the before tax income were amortization of discount on notes of $2,,080,301, and interest expense of $1,058291, both were incurred in the U.S. Therefore, the PRC effective tax rate for the nine month period was 14.3% on PRC pretax income of $4,567,049.
Pursuant to Section 26 of the Inland Revenue Ordinance (“IRO”), the governing statute of Hong Kong taxation, any dividend income received by any entity subject to IRO would not be taxable in Hong Kong. Furthermore, foreign (non-Hong Kong) investment income that is repatriated to Hong Kong is not subject to Hong Kong profits (income) tax.
Liquidity and Capital Resources
As of September 30, 2012 and 2011 we had cash balances of $11,043,457 and $10,216,539, respectively. The following table provides detailed information about our net cash flow for all financial statement periods presented in this report. To date, we have financed our operations primarily by cash from operations, issuance of convertible notes and capital contribution by our stockholders.
The following table sets forth a summary of our cash flows for the periods indicated.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
|
|
|
|
|
|
|
|
|
2012
|
|
|
2011
|
|
|
$ Change
|
|
|
% Change
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by operating activities
|
|
$
|
3,972,776
|
|
|
$
|
1,014,815
|
|
|
$
|
2,957,961
|
|
|
|
291.5
|
%
|
Net cash used in investing activities
|
|
|
(1,784,833
|
)
|
|
|
(2,255,974
|
)
|
|
|
471,141
|
|
|
|
(20.9
|
%)
|
Net cash provided by financing activities
|
|
|
1,046,284
|
|
|
|
8,887,902
|
|
|
|
(7,841,618
|
)
|
|
|
(88.2
|
%)
|
Effect of foreign currency conversion on cash
|
|
|
109,074
|
|
|
|
347,770
|
|
|
|
(238,696
|
)
|
|
|
(68.6
|
%)
|
Net increase in cash
|
|
$
|
3,343,301
|
|
|
$
|
7,994,513
|
|
|
$
|
(4,651,212
|
)
|
|
|
(58.2
|
%)
|
Operating Activities
Net cash provided by operating activities was $3,343,301 for the nine months ended September 30, 2012 compared to cash provided of $7,994,513 for the nine months ended September 30, 2011. We had net income of $570,069 during the nine months ended September 30, 2012, and a significant amount of our expenses were non-cash related such as $404,123 for depreciation and amortization of fixed and intangible assets, $2,080,301 for the amortization of the discounts recorded on our convertible notes payable, as well as $598,088 of offering cost amortization. As a result, we continue to generate positive cash from operations of $3,972,776.
During the same period in 2011, our net loss of $5,124,341 included non-cash expenses of $3,538,030 for the amortization of the discounts on the convertible notes payable, $2,491,938 for common stock issued for services, as well as $1,017,184 in capitalized offering cost amortization. As a result of these non-cash expenses, we generated positive cash flows from operations of $1,014,815 during the nine months ended September 30, 2011.
Investing Activities
Net cash used in investing activities was $1,784,833 for the nine months ended September 30, 2012, which was the result of an increase in loans to customers and suppliers and other receivables of $507,250, spending for the acquisition of property and equipment of $799,922 and the purchase of intangible assets of $477,661. During the nine months ended September 30, 2011, we had net cash used in investing activities of $2,255,974 due to an increase in other receivables of $1,156,767, spending for the acquisition of property and equipment of $476,636, and increase in restricted cash of $698,646, partially offset by cash of $76,075 acquired as a result of the VIE agreement with China Flying in the first quarter of 2011
.
Financing Activities
Net cash provided by financing activities was $1,046,284 for the nine months ended September 30, 2012 due primarily to an additional loan of approximately $1.6 million received in the second quarter of 2012, offset by paydown of bank borrowings of approximately $700,000. During the nine months ended September 30, 2011, we had net cash provided by financing activities of $8,887,902, resulting primarily from the net proceeds from the issuance of convertible notes of $6,522,563, and net proceeds from bank borrowings of $458,215
.
We have historically funded our operation primarily through cash generated from operations. Over the next twelve months, we intend to pursue organic and acquisitive growth and increase our market share in mainland China. We believe that our cash on hand and cash flow from operations will meet our present operating cash needs for the next 12 months. However, we will require additional cash resources to meet the cash requirements of our planned long-term growth.
Additionally, we may require additional cash resources due to changed business conditions, implementation of our strategy to ramp up our marketing efforts and increase brand awareness, or acquisitions we may decide to pursue. If our own financial resources are insufficient to satisfy our capital requirements, we may seek to sell additional equity, securities, convertible notes or warrants in the future.
Effect of Changes in the Foreign Exchange Rate
Upon translation of the Company’s financial statements into US Dollars for the purpose of financial reporting in the United States, the exchange rate between the Chinese Renminbi and the US Dollar can have an impact on the amount of reported cash on hand.
However all of the Company’s revenue is generated in China, and currently over 90% of its cost is within China. As a result, from an operational standpoint, a change in the exchange rate has relatively little impact on the Company. Such change is not expected to affect the Company’s liquidity in any significant way.
Economy and Inflation
Inflation and changing prices have not had a material effect on our business and we do not expect that inflation or changing prices will materially affect our business in the foreseeable future.
We have not experienced any significant cancellation in orders due to the downturn in the economy. Furthermore, we have also had only a small number of customer-requested delays in delivery or production.
Off Balance Sheet Arrangements
We do not have any off balance sheet arrangements that have, or are reasonably likely to have a current or future effect on our financial statements.
Seasonality
Our operating results and operating cash flows historically have not been subject to significant seasonal variations. However, sales around Chinese New Year are typically comparatively lower than other months. This pattern may change as a result of new market opportunities or new product introduction.
Recent Accounting Pronouncements
See Note 2 of the accompanying consolidated financial statements for a description of recent accounting pronouncements. We do not anticipate that the adoption of these recent accounting pronouncements will have a material impact on our financial statements.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
Not applicable because we are a smaller reporting company.
Item 4
.
Controls and Procedures.
Evaluation of Disclosure Controls and Procedures
We maintain disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e)) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) that are designed to ensure that information required to be disclosed in our reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported, within the time period specified in the SEC’s rules and forms, and is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow for timely decisions regarding disclosure. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Accordingly, even effective disclosure controls and procedures can only provide reasonable assurance of achieving their control objectives.
As required by Rule 13a-15(b) under the Exchange Act, we have evaluated, under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer, the effectiveness of our disclosure controls and procedures as of the end of the period covered by this quarterly report.
Based on that assessment, management identified material weaknesses in our disclosure controls and procedures related to the maintenance of our books and records in accordance with GAAP used in the Peoples’ Republic of China, and the conversion of those books and records to GAAP used in the United States of America. Specifically, the material weaknesses related to (1) our process for periodic financial reporting, including documentation of procedures and timely review of financial reports and statements, particularly as it relates to the conversion from Chinese to US GAAP, (2) adequate qualified staff necessary to effectively apply the process, and (3) methods and practices employed to report unusual transactions such as our reverse merger. A material weakness is a control deficiency, or combination of control deficiencies such that there is a reasonable possibility that a material misstatement of the annual or interim financial statements will not be prevented or detected on a timely basis. As a result of these material weaknesses, management concluded that the Company's disclosure controls and procedures were not effective as of September 30, 2012. Our management has discussed the material weaknesses described above with our board of directors
.
Changes in Internal Control over Financial Reporting
There were no changes to our internal control over financial reporting during the third quarter ended September 30, 2012 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
PART II—OTHER INFORMATION
Item 1. Legal Proceedings.
The nature of our business exposes us to the potential for legal proceedings related to labor and employment, personal injury, property damage, and environmental matters. Although the ultimate outcome of any legal matter cannot be predicted with certainty, based on present information, including our assessment of the merits of each particular claim, as well as our current reserves and insurance coverage, we do not expect that any known legal proceeding will in the foreseeable future have a material adverse impact on our financial condition or the results of our operations.
There has been no material change to our risk factors from those presented in our Form 10-K for the fiscal year ended December 31, 2011.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
None.
Item 3. Defaults Upon Senior Securities.
None.
Item 4. Mine Safety Disclosures.
Not applicable.
Item 5. Other Information.
None.
Exhibit No.
|
|
Description
|
|
|
|
31.1
|
|
Certification of Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 *
|
31.2
|
|
Certification of Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 *
|
32.1
|
|
Certification of Principal Executive Officer of the Company, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 **
|
32.2
|
|
Certification of Principal Financial Officer of the Company, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 **
|
101.INS
|
|
XBRL Instance Document †
|
101.SCH
|
|
XBRL Taxonomy Extension Schema Document †
|
101.CAL
|
|
XBRL Taxonomy Extension Calculation Linkbase Document †
|
101.DEF
|
|
XBRL Taxonomy Extension Definition Linkbase Document †
|
101.LAB
|
|
XBRL Taxonomy Extension Label Linkbase Document †
|
101.PRE
|
|
XBRL Taxonomy Extension Presentation Linkbase Document †
|
|
|
|
*
|
|
Filed herewith.
|
**
|
|
In accordance with SEC Release 33-8238, Exhibits 32.1 and 32.2 are furnished and not filed.
|
†
|
|
Furnished herewith. XBRL (eXtensible Business Reporting Language) information is furnished and not filed or a part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, is deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, and otherwise is not subject to liability under these sections.
|
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, there unto duly authorized.
|
TANKE BIOSCIENCES CORPORATION
|
|
|
|
|
|
Date: November 14, 2012
|
By:
|
/s/ Guixiong Qiu
|
|
|
|
Guixiong Qiu
|
|
|
|
Chief Executive Officer
|
|
|
|
(Duly Authorized Officer and Principal Executive Officer)
|
|
|
|
|
|
Date: November 14, 2012
|
By:
|
/s/ Gilbert Lee
|
|
|
|
Gilbert Lee
|
|
|
|
Chief Financial Officer
|
|
|
|
(Duly Authorized Officer and Principal Financial Officer)
|
|
32