UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the Quarterly Period Ended June 30, 2000
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from _________ to _________
Commission File Number: 0-28819
CHINA GATEWAY HOLDINGS INC.
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(Exact name of small business issuer as specified in its charter)
Delaware
------------------------------- ----------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
CLI Building, 313 Hennessy Road, Suite 1003, Hong Kong
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(Address of principal executive offices)
852-2893-9676
--------------------------
(Issuer's telephone number)
Not applicable
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(Former name, former address and former fiscal year,
if changed since last report.)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes [X] No [ ]
As of June 30, 2000, the Company had 4,307,158 shares of common stock issued and
outstanding.
Transitional Small Business Disclosure Format: Yes [ ] No [X]
Documents incorporated by reference: None.
1
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CHINA GATEWAY HOLDINGS INC.
INDEX
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheet (Unaudited) - June 30,
2000
Consolidated Statements of Operations and
Comprehensive Income (Loss) (Unaudited) - Three
Months and Six Months Ended June 30, 2000 and 1999
Consolidated Statements of Cash Flows (Unaudited) -
Six Months Ended June 30, 2000 and 1999
Notes to Consolidated Financial Statements
(Unaudited) - Six Months Ended June 30, 2000 and
1999
Item 2. Management's Discussion and Analysis or Plan of
Operation
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
SIGNATURES
2
<PAGE>
<TABLE>
<CAPTION>
China Gateway Holdings Inc.
Consolidated Balance Sheet (Unaudited)
June 30, 2000
-----------------------
USD RMB
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents 22,071 183,187
Receivables
Trade, net 2,769,929 22,990,410
Affiliates 225,828 1,874,372
Employees 66,809 554,516
Other 196,394 1,630,071
Inventories (Note 2) 705,033 5,851,778
Prepaid expenses and other 101,039 838,621
Amounts due from Joint Venturer 1,213,541 10,072,390
--------- ----------
Total current assets 5,300,644 43,995,345
--------- ----------
Property, plant and equipment, net 673,845 5,592,912
Construction in progress 11,742 97,461
--------- ----------
Total assets 5,986,231 49,685,718
========= ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable 1,283,330 10,651,640
Other payables and accruals 503,990 4,183,117
Amounts due to related parties 244,750 2,031,420
Taxes payable 804,716 6,679,143
--------- ----------
Total current liabilities 2,836,786 23,545,320
--------- ----------
Minority interest 1,268,013 10,524,512
Shareholders' equity:
Common stock, par value
US$0.0001 per share;
authorized - 50,000,000
shares; issued and
outstanding - 4,307,158
shares at June 30, 2000 430 3,568
Capital in excess of par 5,051,238 41,925,274
Deficit (3,246,374) (26,944,907)
General reserve 76,677 636,421
Accumulated other
comprehensive income (539) (4,470)
--------- ----------
Total shareholders' equity 1,881,432 15,615,886
--------- ----------
Total liabilities and
shareholders' equity 5,986,231 49,685,718
========= ==========
</TABLE>
See accompanying notes to consolidated financial statements.
3
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<TABLE>
<CAPTION>
China Gateway Holdings Inc.
Consolidated Statements of Operations and
Comprehensive (Income) Loss (Unaudited)
Three Months Ended June 30,
-----------------------------------
2000 2000 1999
--------- ---------- ----------
USD RMB RMB
(Restated -
Note 1)
<S> <C> <C> <C>
Net sales 2,587,024 21,472,297
Cost of sales 2,461,496 20,430,416
--------- ---------- ----------
Gross profit 125,528 1,041,881
Administrative and general expenses 497,174 4,126,542 201,109
Selling expenses 38,940 323,206
--------- ---------- ----------
Loss from operations (410,586) (3,407,867) (201,109)
Other income (expense):
Interest income 101 840
Other 11,758 97,594
--------- ---------- ---------
Loss before equity in loss of joint
venture (398,727) (3,309,433) (201,109)
Equity in loss of joint venture
(Notes 1 and 6) (1,192,586)
--------- ---------- ---------
Loss before minority interest (398,727) (3,309,433) (1,393,695)
Minority interest (Note 1) 95,779 794,963
--------- ---------- ---------
Net loss (302,948) (2,514,470) (1,393,695)
Other comprehensive income:
Foreign currency translation adjustment 1,334 11,072
--------- ---------- ---------
Comprehensive loss (301,614) (2,503,398) (1,393,695)
========= ========== =========
Net loss per common share - Basic and
Diluted (Note 1) (0.07) (0.58) (0.34)
========= ========== =========
Weighted average number of common shares
outstanding 4,307,158 4,307,158 4,154,158
========= ========= =========
</TABLE>
See accompanying notes to consolidated financial statements.
4
<PAGE>
<TABLE>
<CAPTION>
China Gateway Holdings Inc.
Consolidated Statements of Operations and
Comprehensive Income (Loss) (Unaudited)
Six Months Ended June 30,
-----------------------------------
2000 2000 1999
--------- ---------- ----------
USD RMB RMB
(Restated -
Note 1)
<S> <C> <C> <C>
Net sales 3,832,622 31,810,761
Cost of sales 3,409,315 28,297,309
--------- ---------- ----------
Gross profit 423,307 3,513,452
Administrative and general expenses 1,169,682 9,708,363 1,125,798
Selling expenses 69,244 574,730
--------- ---------- ----------
Loss from operations (815,619) (6,769,641) (1,125,798)
Other income (expense):
Interest income 295 2,445
Interest expense (7,668) (63,644)
Commission income (Note 4) 450,000 3,735,000
Other 25,455 211,280
--------- ---------- ---------
Loss before equity in loss of joint
venture (347,537) (2,884,560) (1,125,798)
Equity in loss of joint venture
(Note 1 and 6) (4,293,053)
--------- ---------- ---------
Loss before minority interest (347,537) (2,884,560) (5,418,851)
Minority interest (Note 1) 184,868 1,534,406
--------- ---------- ---------
Net loss (162,669) (1,350,154) (5,418,851)
Other comprehensive income:
Foreign currency translation adjustment 1,575 13,069
--------- ---------- ---------
Comprehensive loss (161,094) (1,337,085) (5,418,851)
========= ========== =========
Net loss per common share - Basic and
Diluted (Note 1) (0.04) (0.31) (1.30)
========= ========== =========
Weighted average number of common shares
outstanding 4,307,158 4,307,158 4,154,159
========= ========= =========
</TABLE>
See accompanying notes to consolidated financial statements.
5
<PAGE>
<TABLE>
<CAPTION>
China Gateway Holdings Inc.
Consolidated Statements of Cash Flows (Unaudited)
Six Months Ended June 30,
-----------------------------------
2000 2000 1999
--------- ---------- ----------
USD RMB RMB
(Restated -
Note 1
Operating activities:
<S> <C> <C> <C>
Net loss (162,669) (1,350,154) (5,418,851)
Adjustments to reconcile net loss
to net cash used in operating
activities:
Depreciation 28,867 239,600
Equity in loss of joint venture 4,293,053
Minority interest (184,868) (1,534,406)
Changes in operating assets and
liabilities:
(Increase) decrease in -
Trade receivables, net (88,866) (737,588)
Amounts due from affiliates 302,771 2,513,002
Other receivables, deposits and
prepayments (38,068) (315,966) (272,065)
Inventories 411,420 3,414,790
Increase (decrease) in -
Accounts payable (568,555) (4,719,009) 251,788
Other payables and accruals 90,587 751,868 347,931
Amounts due to related parties 150,855 1,252,098 370,604
Taxes payable 11,725 97,316
--------- ---------- ----------
Net cash used in operating
activities (46,801) (388,449) (427,540)
--------- ---------- ----------
Investing activities:
Additions to property, plant and
equipment (68,542)
--------- ---------- ----------
Net cash used in investing
Activities (68,542)
--------- ---------- ----------
Financing activities:
Decrease in amounts due from
Joint Venturer 47,020 390,269
--------- ---------- ----------
Net cash provided by financing
activities 47,020 390,269
--------- ---------- ----------
Cash and cash equivalents:
Net increase (decrease) 219 1,820 (496,082)
Effect of exchange rates changes on cash 1,575 13,068 642
At beginning of period 20,277 168,299 590,849
--------- ---------- ----------
At end of period 22,071 183,187 95,409
========= ========== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
6
<PAGE>
China Gateway Holdings Inc.
Notes to Consolidated Financial Statements (Unaudited)
Six Months Ended June 30, 2000 and 1999
1. Organization and Basis of Presentation
Organization - The accompanying consolidated financial statements include the
operations of China Gateway Holdings Inc. and its wholly-owned subsidiaries,
Orient Investments Limited and Orient Packaging Limited.
On December 20, 1996, Orient Packaging Limited entered into a 30 year agreement
(the "Joint Venture Agreement") with Wuhan Dong Feng Paper Mill Company to form
Wuhan Dong Feng Paper Company Limited ("Wuhan Limited" or the "Joint Venture").
The Company, through Orient Packaging Limited, owns a 60% interest in the Joint
Venture and Wuhan Dong Feng Paper Mill Company (the "Joint Venturer") owns the
remaining 40% interest in the Joint Venture. The Joint Venture commenced
operations March 1, 1997.
The Joint Venture's facilities and operations are located in the city of Wuhan,
Hubei Province, People's Republic of China ("China" or the "PRC"). Pursuant to
the Joint Venture Agreement, Wuhan Limited was formed to engage in the
manufacture and sales of cartonboard packaging materials, primarily used in
consumer product packaging for items such as beverages, dry foodstuffs,
pharmaceutical products and other consumer items. The Company's customers are
concentrated in the PRC.
China Gateway Holdings Inc., Orient Investments Limited, Orient Packaging
Limited and Wuhan Limited are collectively referred to herein as the "Company".
Basis of Presentation and Restatement - The consolidated financial statements
have been prepared in accordance with generally accepted accounting principles
in the United States and have been presented in Chinese Renminbi ("RMB"). All
significant intercompany balances and transactions have been eliminated in
consolidation.
Since inception, the Company has accounted for its 60% interest in the Joint
Venture, which is similar to a majority-owned subsidiary, as a consolidated
subsidiary. During the six months ended June 30, 2000, the Company determined
that the Joint Venturer had retained certain rights under the Joint Venture
Agreement that provided the Joint Venturer with the ability to participate in
management, although such rights have never been asserted by the Joint Venturer.
Under Emerging Issues Task Force Issue No. 96-16, if a minority joint venture
partner has such rights, the majority joint venture partner is required to
account for its interest in the joint venture under the equity method of
accounting.
7
<PAGE>
During the six months ended June 30, 2000, the Joint Venture Agreement was
amended to clearly express the intent of the parties that the Company is the
controlling party in the Joint Venture. As a result, the Company's financial
statements through December 31, 1999 have been restated to report the Company's
investment in the Joint Venture under the equity method of accounting. However,
because the Joint Venture Agreement was amended during 2000, the Company is
reporting its investment in the Joint Venture as a consolidated subsidiary
commencing January 1, 2000. There was no effect on net loss or loss per share
amounts for the three months and six months ended June 30, 1999 as a result of
the restatement.
Foreign Currency Translation - The functional currency of the Company's
operations in the People's Republic of China ("PRC") is the RMB. The accounts
of foreign operations are prepared in their local currency and translated into
RMB using the applicable rate of exchange. The resulting translation
adjustments are included in comprehensive income (loss). Transactions
denominated in currencies other than the RMB are translated into RMB at the
applicable exchange rates. Monetary assets and liabilities denominated in other
currencies are translated into RMB at the applicable rate of exchange at the
balance sheet date. The resulting exchange gains or losses are credited or
charged to the consolidated statement of operations.
The Company's share capital is denominated in USD and the reporting currency is
the RMB.
Translation of amounts from RMB into the USD for the convenience of the reader
has been made at the exchange rate as quoted by the People's Bank of China at
June 30, 2000 of US$1.00 = RMB8.30. No representation is made that the RMB
amounts could have been, or could be, converted into USD at that rate or any
other certain rate.
Comments - The accompanying consolidated financial statements are unaudited, but
in the opinion of management of the Company, contain all adjustments, which
include normal recurring adjustments, necessary to present fairly the financial
position at June 30, 2000, the results of operations for the three months and
six months ended June 30, 2000 and 1999, and the cash flows for the six months
ended June 30, 2000 and 1999.
Certain information and footnote disclosures normally included in financial
statements that have been prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to the rules and
regulations of the United States Securities and Exchange Commission, although
management of the Company believes that the disclosures contained in these
financial statements are adequate to make the information presented therein not
misleading. For further information, refer to the consolidated financial
statements and notes thereto included in the Company's Annual Report on Form
10-KSB for the fiscal year ended December 31, 1999, as filed with the Securities
and Exchange Commission.
8
<PAGE>
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities, disclosure of contingent
assets and liabilities at the date of the financial statements, and the reported
amounts of revenues and expenses during the reporting periods. Management makes
these estimates using the best information available at the time the estimates
are made; however, actual results could differ materially from those estimates.
The results of operations for the three months and six months ended June 30,
2000 are not necessarily indicative of the results of operations to be expected
for the full fiscal year ending December 31, 2000.
Income (Loss) Per Share - Basic earnings per share are calculated by dividing
net income (loss) by the weighted average number of common shares outstanding
during the period. Diluted earnings per share reflects the conversion, exercise
or issuance of all potential common stock equivalents such as stock options,
warrants and convertible securities, if dilutive. As of June 30, 2000,
potentially dilutive securities consisted of outstanding warrants to acquire
482,221 shares of common stock exercisable at $0.10 per share (246,905 shares)
and $2.75 per share (235,316 shares). The potentially dilutive securities
were not included in the calulation of loss per share for the three months and
six months ended June 30, 2000 and 1999 because their effect would have been to
decrease the loss per share.
2. Inventories
Inventories consisted of the following at June 30, 2000:
USD RMB
Raw materials 251,146 2,084,513
Finished goods 453,887 3,767,265
------- ---------
705,033 5,851,778
======= =========
9
<PAGE>
3. Income Taxes
The Company did not recognize any income taxes for the three months and six
months ended June 30, 2000 and 1999. The Company is subject to income taxes on
an entity basis on income arising in or derived from the tax jurisdiction in
which each entity is domiciled. The Company's British Virgin Islands
subsidiaries are not liable for income taxes. PRC entities are generally
subject to income taxes at an effect rate of 33%. For the light industry or
packaging industry in which Wuhan Limited is engaged, income tax rates are at a
preferential rate of 27%. Furthermore, newly established joint ventures are
exempt from income tax in the first two years starting from the first year of
profitable operations, as well as being allowed a 50% reduction in tax in the
third, fourth and fifth years of profitable operations. Losses incurred by
joint ventures may be carried forward for five years.
4. Commission Income
During the three months ended March 31, 2000, the Company recorded commission
income of RMB 3,735,000 relating to agency services that the Company provides to
an unrelated third party. The Company did not have any commission income during
the six months ended June 30, 1999 or the three months ended June 30, 2000.
The commission agreement provides that the Company will receive commissions of
10% of specified invoices arising from the Company's efforts through December
31, 2000.
5. Segment and Geographic Information; Major Customers
The Company's customers are concentrated in the PRC. Sales to such customers
are generally on an open account basis and are denominated in RMB. During the
three months and six months ended June 30, 2000, the Company's revenues were
generated through its interest in Wuhan Limited, which supplies paperboard
directly or indirectly to major international consumer brands. During the three
months and six months ended June 30, 2000, approximately 17% and 18% of the
Company's net sales were generated by one customer, respectively. One other
customer accounted for over 10% of sales during the three months and six months
ended June 30, 2000. During such periods, the Company also had significant
purchases of raw material inventory from the same customer.
10
<PAGE>
6. Condensed 1999 Financial Information of the Joint Venture
During the three months and six months, the Joint Venture was accounted for as
unconsolidated subsidiary (Note 1). The condensed unaudited results of
operations of the Joint Venture for the three months and six months ended June
30, 1999 are as follows:
Three Months Ended Six Months Ended
June 30, 1999 June 30, 1999
-------------------- ------------------
RMB RMB
Net sales 16,223,378 26,131,902
Cost of sales 13,471,196 23,425,215
---------- ----------
Gross profit 2,752,182 2,706,687
Operating and
financing expenses 4,739,825 9,861,775
---------- ----------
Net loss (1,987,643) (7,155,088)
========== ==========
The Company's
proportionate share
of net loss of the
Joint Venture (1,192,586) (4,293,053)
========== ==========
11
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
Cautionary Statement Pursuant to Safe Harbor Provisions of the Private
Securities Litigation Reform Act of 1995:
This Quarterly Report on Form 10-QSB for the quarterly period ended June 30,
2000 contains "forward-looking" statements within the meaning of the Federal
securities laws. These forward-looking statements include, among others,
statements concerning the Company's expectations regarding sales trends, gross
and net operating margin trends, political and economic matters, the
availability of equity capital to fund the Company's capital requirements, and
other statements of expectations, beliefs, future plans and strategies,
anticipated events or trends, and similar expressions concerning matters that
are not historical facts. The forward-looking statements in this Quarterly
Report on Form 10-QSB for the quarterly period ended June 30, 2000 are subject
to risks and uncertainties that could cause actual results to differ materially
from those results expressed in or implied by the statements contained herein.
Overview:
China Gateway Holdings Inc., formerly Orient Packaging Holdings Limited (the
"Company"), was incorporated in the State of Delaware on June 26, 1997.
Effective June 27, 1997, the Company issued 2,310,000 shares of common stock to
the shareholders of Orient Investments Limited, a British Virgin Islands company
incorporated on January 9, 1997 ("OIL"), in exchange for 100% of the capital
stock of OIL. OIL owned a 100% interest in Orient Packaging Limited ("OPL"),
which was incorporated in the British Virgin Islands on May 25, 1993, originally
as Orient Financial Services Limited. OPL owned a 60% interest in Wuhan Dong
Feng Paper Company Limited, a Sino-foreign equity joint venture ("Wuhan Limited"
or the "Joint Venture"), with the remaining 40% owned by Wuhan Dong Feng Paper
Mill Company, a PRC state-owned enterprise ("Wuhan Company" or the "Joint
Venturer").
In accordance with an agreement between OPL and Wuhan Company dated December 20,
1996 (the "Joint Venture Agreement"), the Joint Venture was established with a
term of 30 years from the date the business license is issued to engage in the
manufacture and sale of cartonboard packaging materials. The Joint Venture
produces primarily coated and uncoated white-lined chipboard, which are the most
common types of cartonboard used in consumer packaging for beverages, dry
foodstuffs, pharmaceutical products and other consumer items. The Joint
Venture's production facilities and operations are located in the city of Wuhan,
Hubei Province, PRC. The Company had no significant operations prior to the
commencement of the Joint Venture's operations effective March 1, 1997.
12
<PAGE>
Through December 31, 1997, OPL had contributed cash of RMB 4,876,893 to Wuhan
Limited, and Wuhan Company had contributed a building and machinery, accounts
receivable and inventory, net of certain liabilities, with a carrying value of
RMB 7,102,039, which approximated fair value at the date of contribution to
Wuhan Limited. During the year ended December 31, 1998, OPL contributed cash of
RMB 5,752,718 to Wuhan Limited. All initial capital contributions required by
the Joint Venture Agreement had been completed as of December 31, 1998.
Pursuant to an amendment to the Joint Venture Agreement dated February 26, 1998,
the parties to the Joint Venture Agreement agreed to expand its registered
capital in order to facilitate the expansion of the Joint Venture by March 31,
1999. OPL agreed to contribute additional cash of RMB 34,362,000 to the Joint
Venture, consisting of RMB 20,000,000 by December 31, 1998 and RMB 14,362,000 by
March 31, 1999, and Wuhan Company agreed to contribute machinery and equipment
with a total value of RMB 22,908,000. The funds to be contributed by OPL were
intended to support growth and expansion. OPL did not fund its required capital
contributions during 1998 and 1999.
In January 2000, a new timetable was agreed upon whereby OPL was to contribute
RMB 5,000,000 by June 30, 2000, another RMB 5,000,000 by September 30, 2000, and
RMB 10,000,000 by December 31, 2000. No fixed timetable was established for the
remaining contributions but they were expected to be funded based on the
proceeds available from anticipated capital raising transactions. The parties
agreed to delay the discussion of a timetable for any contributions that may be
made after December 31, 2000 until an unspecified later date.
The Company did not meet its June 30, 2000 funding obligation of RMB 5,000,000
to the Joint Venture, and the Company is currently unable to predict if it will
be able to meet its funding obligations to the Joint Venture. The Company is
engaged in continuing discussions with the Joint Venturer regarding its funding
obligations.
To date, there have been no adverse consequences to not contributing the
additional RMB 34,362,000 to the Joint Venture other than delays incurred to
modernize the equipment in the plant. However, management is currently
unable to predict the results of the ongoing discussions with the Joint Venturer
or if there will be any adverse future consequences relating to the Company's
failure to meet its funding obligations.
13
<PAGE>
Pursuant to an amendment to the Joint Venture Agreement dated April 19, 1999,
certain assets and liabilities related to Wuhan Company aggregating RMB
26,112,048 were extinguished, consisting of amounts due to Wuhan Company of RMB
32,122,132, less amounts due from Wuhan Company of RMB 6,010,084, and were
reflected as a contribution of capital to the Joint Venture effective December
31, 1998. The amounts due to Wuhan Company that were forgiven reflected
unrecoverable charges to the Joint Venture for raw material inventory, as well
as general and administrative expenses, financing expenses and certain other
expenses. Based on the agreement by Wuhan Company to forgive such amounts, OPL
agreed to contribute sufficient capital to the Joint Venture as may be required
to fund its operations at current levels. Effective December 31, 1999, Wuhan
Company agreed to forgive an additional RMB 16,329,758 of amounts due it for raw
material inventory and general and administrative expenses, which were also
reflected as a contribution of capital to the Joint Venture.
Since inception, the Company has accounted for its 60% interest in the Joint
Venture, which is similar to a majority-owned subsidiary, as a consolidated
subsidiary. During the six months ended June 30, 2000, the Company determined
that the Joint Venturer had retained certain rights under the Joint Venture
Agreement that provided the Joint Venturer with the ability to participate in
management, although such rights have never been asserted by the Joint Venturer.
Under Emerging Issues Task Force Issue No. 96-16, if a minority joint venture
partner has such rights, the majority joint venture partner is required to
account for its interest in the joint venture under the equity method of
accounting.
During the six months ended June 30, 2000, the Joint Venture Agreement was
amended to clearly express the intent of the parties that the Company is the
controlling party in the Joint Venture. As a result, the Company's financial
statements through December 31, 1999 have been restated to report the Company's
investment in the Joint Venture under the equity method of accounting. However,
because the Joint Venture Agreement was amended during 2000, the Company is
reporting its investment in the Joint Venture as a consolidated subsidiary
commencing January 1, 2000. There was no effect on net loss or loss per share
amounts for three months and six months ended June 30, 1999 as a result of the
restatement.
The acquisition of OIL by the Company was accounted for as a recapitalization of
OIL, as the shareholders of OIL acquired all of the capital stock of the Company
in a reverse acquisition. Accordingly, the assets and liabilities of OIL have
been recorded at historical cost, and the shares of common stock issued by the
Company have been reflected in the consolidated financial statements giving
retroactive effect as if the Company had been the parent company from inception.
The historical consolidated financial statements consist of the combined
financial statements of the Company and its direct and indirect subsidiaries and
joint venture interests from the dates of their respective formation or
acquisition.
14
<PAGE>
Effective October 4, 1999, the Company entered into an agreement (the "Purchase
Agreement") to acquire 100% of the outstanding capital stock of Gamma Link
Enterprises Corp., a British Virgin Islands company ("Gamma"), in exchange for
3,600,000 shares of the Company's common stock valued at RMB 44,712,000 (RMB
12.42 per share). Gamma owns a 51% equity interest in Sino-Panel (Gaoyao)
Limited, a Sino-foreign equity joint venture ("Sino-Panel"), with the remaining
49% owned by an unrelated company. Sino-Panel's only assets consisted of a
particle panel production line consisting of reconditioned wood particle
grinding equipment, multi-layer presses, and other ancillary equipment and
facilities that were originally manufactured and operated in Finland. Such
equipment had not been employed in revenue-generating operations for the past
several years. The closing of the Purchase Agreement was subject to the
satisfactory completion of certain conditions by Gamma. During May 2000, Gamma
notified the Company that it could not accomplish certain of the conditions
required to complete the proposed transaction, and the parties to this agreement
thereupon mutually agreed to terminate it.
The Company's customers are concentrated in the PRC. Sales to such customers
are generally on an open account basis and are denominated in RMB. During the
three months and six months ended June 30, 2000, the Company's revenues were
generated through its interest in Wuhan Limited, which supplies paperboard
directly or indirectly to major international consumer brands. During the three
months and six months ended June 30, 2000, approximately 17% and 18% of the
Company's net sales were generated by one customer, respectively. One other
customer accounted for over 10% of sales during the six months ended June 30,
2000. During such periods, the Company also had significant purchases of raw
material inventory from the same customer.
The consolidated financial statements have been presented in Chinese Renminbi
("RMB"). Transactions and monetary assets denominated in currencies other than
the RMB are translated into RMB at the respective applicable exchange rates.
Monetary assets and liabilities denominated in other currencies are translated
into RMB at the applicable rate of exchange at the balance sheet date. The
resulting exchange gains or losses are credited or charged to the consolidated
statements of operations. Currency translation adjustments arising from the use
of different exchange rates from period to period are included in comprehensive
income.
The Company is reporting its investment in the Joint Venture as a consolidated
subsidiary commencing January 1, 2000. However, as described above, as a result
of the Company restating its financial statements through December 31, 1999 to
report the Company's investment in the Joint Venture under the equity method of
accounting, the Company's financial statements for the three months and six
months ended June 30, 2000 are not directly comparable to its financial
statements for the three months and six months ended June 30, 1999. Condensed
results of operations of the Joint Venture for the three months and six months
ended June 30, 1999 are provided at Note 6 of the Notes to the Consolidated
Financial Statements.
Consolidated Results of Operations:
15
<PAGE>
Three Months Ended June 30, 2000 and 1999:
Sales. For the three months ended June 30, 2000, sales were RMB 21,472,297.
Sales of the Joint Venture were RMB 16,223,378 for the three months ended June
30, 1999. Sales increased by RMB 5,248,919 or 32.4% as a result of increased
market demand and increased selling prices.
During the three months ended June 30, 2000, 7,320 metric tons of cartonboard
were sold at an average per ton selling price of RMB 2,934, as compared to 5,893
metric tons of cartonboard at an average per ton selling price of RMB 2,774 for
the three months ended June 30, 1999.
Gross Profit. For the three months ended June 30, 2000, gross profit was
4.9% of sales, as compared to a gross profit of 17.0% of Joint Venture sales
for the three months ended June 30, 1999. Gross margin decreased in 2000 as
compared to 1999 as a result of increased raw material costs.
Administrative and General Expenses. For the three months ended June 30, 2000,
administrative and general expenses were RMB 4,126,542 or 19.2% of sales. For
the three months ended June 30, 1999, administrative and general expenses were
RMB 201,109. For the three months ended June 30, 1999, the Joint Venture's
administrative and general expenses were RMB 3,503,485.
Selling Expenses. For the three months ended June 30, 2000, selling expenses
were RMB 323,206 or 1.5% of sales. For the three months ended June 30, 1999,
the Company did not incur any selling expenses. For the three months ended June
30, 1999, the Joint Venture's selling expenses were RMB 188,132 or 1.2%
of Joint Venture sales.
Loss from Operations. For the three months ended June 30, 2000, the loss from
operations was RMB 3,407,867. For the three months ended June 30, 1999, the
loss from operations was RMB 201,109. For the three months ended June 30, 1999,
the Joint Venture's loss from operations was RMB 939,435.
Other Income (Expense). During the three months ended June 30, 1999, the Joint
Venture incurred costs related to financing its operations of RMB 522,974.
The Joint Venture did not incur any similar costs during the three months ended
June 30, 2000. Such costs decreased in 2000 as compared to 1999 primarily as a
result of a reduction in interest bearing debt to Wuhan Company, which decreased
as a result of Wuhan Company forgiving RMB 16,329,758 of such debt, which was
recorded effective December 31, 1999, as described above.
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Income Taxes. The Company did not recognize any income taxes for the three
months ended June 30, 2000 and 1999. The Company is subject to income taxes on
an entity basis on income arising in or derived from the tax jurisdiction in
which each entity is domiciled. The Company's British Virgin Islands
subsidiaries are not liable for income taxes. PRC entities are generally
subject to income taxes at an effect rate of 33%. For the light industry or
packaging industry in which Wuhan Limited is engaged, income tax rates are at a
preferential rate of 27%. Furthermore, newly established joint ventures are
exempt from income tax in the first two years starting from the first year of
profitable operations, as well as being allowed a 50% reduction in tax in the
third, fourth and fifth years of profitable operations. Losses incurred by
joint ventures may be carried forward for five years.
Equity in Loss of Joint Venture. For the three months ended June 30, 1999, the
Company recorded equity in loss of Joint Venture of RMB 1,192,586 to reflect the
Company's 60% interest in the Joint Venture.
Minority Interest. For the three months ended June 30, 2000, the Company
recorded a minority interest of RMB 794,963 to reflect Wuhan Company's 40% in
the Joint Venture.
Net Loss. Net loss was RMB 2,514,470 for the three months ended June 30, 2000,
as compared to a net loss of RMB 1,393,695 for the three months ended June 30,
1999.
Six Months Ended June 30, 2000 and 1999:
Sales. For the six months ended June 30, 2000, sales were RMB 31,810,761.
Sales of the Joint Venture were RMB 26,131,902 for the six months ended June 30,
1999. Sales increased by RMB 5,678,859 or 21.7% as a result of increased market
demand and increased selling prices.
During the six months ended June 30, 2000, 11,060 metric tons of cartonboard
were sold at an average per ton selling price of RMB 2,850, as compared to 9,618
metric tons of cartonboard at an average per ton selling price of RMB 2,692 for
the six months ended June 30, 1999.
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Gross Profit. For the six months ended June 30, 2000, gross profit was 11.0% of
sales, as compared to a gross profit of 10.4% of Joint Venture sales for the six
months ended June 30, 1999.
Administrative and General Expenses. For the six months ended June 30, 2000,
administrative and general expenses were RMB 9,708,363 or 30.5% of sales. For
the six months ended June 30, 1999, administrative and general expenses were RMB
1,125,798. For the six months ended June 30, 1999, the Joint Venture's
administrative and general expenses were RMB 7,702,982.
Selling Expenses. For the six months ended June 30, 2000, selling expenses were
RMB 574,730 or 1.8% of sales. For the six months ended June 30, 1999, the
Company did not incur any selling expenses. For the six months ended June 30,
1999, the Joint Venture's selling expenses were RMB 414,113 or 1.6% of
Joint Venture sales.
Loss from Operations. For the six months ended June 30, 2000, the loss from
operations was RMB 6,769,641. For the six months ended June 30, 1999, the loss
from operations was RMB 1,125,798. For the six months ended June 30, 1999, the
Joint Venture's loss from operations was RMB 5,410,458.
Other Income (Expense). During the six months ended June 30, 2000, the Company
recorded commission income of RMB 3,735,000. The Company did not have any
commission income during the six months ended June 30, 1999.
During the six months ended June 30, 1999, the Joint Venture incurred costs
related to financing its operations of RMB 714,478. The Joint Venture did not
incur any similar costs during the six months ended June 30, 2000. Such costs
decreased in 2000 as compared to 1999 primarily as a result of a reduction in
interest bearing debt to Wuhan Company, which decreased as a result of Wuhan
Company forgiving RMB 16,329,758 of such debt, which was recorded effective
December 31, 1999, as described above.
Income Taxes. The Company did not recognize any income taxes for the six months
ended June 30, 2000 and 1999. The Company is subject to income taxes on an
entity basis on income arising in or derived from the tax jurisdiction in which
each entity is domiciled. The Company's British Virgin Islands subsidiaries are
not liable for income taxes. PRC entities are generally subject to income taxes
at an effect rate of 33%. For the light industry or packaging industry in which
Wuhan Limited is engaged, income tax rates are at a preferential rate of 27%.
Furthermore, newly established joint ventures are exempt from income tax in the
first two years starting from the first year of profitable operations, as well
as being allowed a 50% reduction in tax in the third, fourth and fifth years of
profitable operations. Losses incurred by joint ventures may be carried forward
for five years.
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Equity in Loss of Joint Venture. For the six months ended June 30, 1999, the
Company recorded equity in loss of Joint Venture of RMB 4,293,053 to reflect the
Company's 60% interest in the Joint Venture.
Minority Interest. For the six months ended June 30, 2000, the Company recorded
a minority interest of RMB 1,534,406 to reflect Wuhan Company's 40% in the Joint
Venture.
Net Loss. Net loss was RMB 1,350,154 for the six months ended June 30, 2000, as
compared to a net loss of RMB 5,418,851 for the six months ended June 30, 1999.
Consolidated Financial Condition - June 30, 2000:
Liquidity and Capital Resources:
Operating. For the six months ended June 30, 2000, the Company's operations
generated cash resources of RMB 388,449, as compared to utilizing cash resources
of RMB 427,540 for the six months ended June 30, 1999. The Company had net
working capital of RMB 20,450,025 at June 30, 2000, reflecting a current ratio
of 1.87:1 at June 30, 2000. A major reason for the Company having a significant
positive net working capital position at June 30, 2000 was the forgiveness of
debt by Wuhan Company effective December 31, 1999 of RMB 16,329,758.
Investing. During the six months ended June 30, 1999, additions to property,
plant and equipment were RMB 68,542. The Company did not have any additions to
or sales of property, plant and equipment during the six months ended June 30,
2000.
As of June 30, 2000, the Company had budgeted capital expenditures of
approximately RMB 200,000 through December 31, 2000.
Financing. The Company has relied on the credit provided by Wuhan Company, the
40% interest holder in the Joint Venture, supplemented by the sale of its
securities and short-term bank loans, for the working capital resources to fund
its operations from March 1997 through June 2000. Additional transactions with
respect to the Joint Venture and Wuhan Company are discussed above at
"Overview".
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The Company had RMB 10,072,390 due from Wuhan Company at June 30, 2000, as
compared to RMB 10,462,659 due from Wuhan Company at December 31, 1999, net of
the amount extinguished effective December 31, 1999 of RMB 16,329,758, as
described above.
The Company has incurred operating losses and negative cash flows from
operations during the past few years that may impair its ability to obtain
additional equity capital. The Company has relied on the sale of its securities
and the credit provided by Wuhan Limited to fund its operations since 1997.
Based on currently proposed plans and assumptions relating to the Company's
operations, the Company believes that its projected cash flows from operations,
combined with the credit provided by Wuhan Company, will provide sufficient
liquidity and capital resources to support the Company's planned operations
through December 31, 2000.
However, the Company anticipates that it will require additional capital to meet
its funding obligations to the Joint Venture. In addition, to the extent that
the Company experiences a substantial increase in revenues and/or acquires other
operations, the Company may also require additional capital. Should the cash
flows generated by operating and financing activities be insufficient to fund
the Company's future operations, the Company's ability to conduct operations may
be impaired.
Inflation and Currency Matters:
In recent years, the Chinese economy has experienced periods of rapid economic
growth as well as relatively high rates of inflation, which in turn has resulted
in the periodic adoption by the Chinese government of various corrective
measures designed to regulate growth and contain inflation. Since 1993, the
Chinese government has implemented an economic program designed to control
inflation, which has resulted in the tightening of working capital available to
Chinese business enterprises. The success of the Company depends in substantial
part on the continued growth and development of the Chinese economy.
Foreign operations are subject to certain risks inherent in conducting business
abroad, including price and currency exchange controls, and fluctuations in the
relative value of currencies. Changes in the relative value of currencies occur
periodically and may, in certain instances, materially affect the Company's
results of operations. In addition, the Renminbi is not freely convertible into
foreign currencies, and the ability to convert the Renminbi is subject to the
availability of foreign currencies. Effective December 1, 1998, all foreign
exchange transactions involving the Renminbi must take place through authorized
banks in China at the prevailing exchange rates quoted by the People's Bank of
China. The Company expects that a portion of its revenues will need to be
converted into other currencies to meet foreign exchange currency obligations,
including the payment of any dividends declared.
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Although the central government of China has repeatedly indicated that it does
not intend to devalue its currency in the near future, recent announcements by
the central government of China indicate that devaluation is an increasing
possibility. Should the central government of China decide to devalue the
Renminbi, the Company does not believe that such an action would have a
detrimental effect on the Company's operations, since the Company conducts
virtually all of its business in China, and the sale of its products is settled
in Renminbi. However, devaluation of the Renminbi against the United States
dollar would adversely effect the Company's financial performance when measured
in United States dollars.
New Accounting Pronouncement:
In June 1998, the Financial Accounting Standards Board issued Statement No.
133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS No.
133"), which, as amended, is effective for financial statements for all fiscal
quarters of all fiscal years beginning after June 15, 2000. SFAS No. 133
standardizes the accounting for derivative instruments, including certain
derivative instruments embedded in other contracts, by requiring that an entity
recognize those item as assets or liabilities in the statement of financial
position and measure them at fair value. SFAS No. 133 also addresses the
accounting for hedging activities. The Company will adopt SFAS No. 133 for its
fiscal year beginning October 1, 2001. The Company does not expect that
adoption of SFAS No. 133 will have a material impact on its financial statement
presentation or disclosures.
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PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
27 Financial Data Schedule (electronic filing only)
(b) Reports on Form 8-K:
Three Months Ended June 30, 2000 - None
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SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused
this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
CHINA GATEWAY HOLDINGS INC.
------------------------------
(Registrant)
/s/ DANNY WU
Date: August 21, 2000 By: --------------------------
Danny Wu
Chief Executive Officer
(Duly Authorized Officer)
/s/ OSCAR SHEN
Date: August 21, 2000 By: --------------------------
Oscar Shen
Accounting and Finance
Manager
(Principal Financial
and Accounting Officer)
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