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 September 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.
--------------------------------------------------------------------------------
(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
------------------------------------------------------
(Address of principal executive offices)
Issuer's telephone number: 852-2893-9676
Not applicable
---------------------------------------------------
(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 September 30, 2000, the Company had 4,307,158 shares of common stock
issued and outstanding.
Documents incorporated by reference: None.
Transitional Small Business Disclosure Format: Yes [ ] No [X]
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CHINA GATEWAY HOLDINGS INC.
INDEX
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheet (Unaudited) - September 30, 2000
Consolidated Statements of Operations and Comprehensive Income
(Loss) (Unaudited) - Three Months and Nine Months Ended September
30, 2000 and 1999
Consolidated Statements of Cash Flows (Unaudited) - Nine Months
Ended September 30, 2000 and 1999
Notes to Consolidated Financial Statements (Unaudited) - Three
Months and Nine Months Ended September 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
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CHINA GATEWAY HOLDINGS INC.
CONSOLIDATED BALANCE SHEET (UNAUDITED)
September 30, 2000
-----------------------
USD RMB
ASSETS
Current assets:
Cash and cash equivalents 26,914 223,390
Receivables
Trade, net 2,698,283 22,395,753
Affiliates 205,727 1,707,531
Employees 73,103 606,750
Other 172,214 1,429,379
Inventories (Note 2) 497,363 4,128,109
Prepaid expenses and other 319,380 2,650,851
Amounts due from Joint Venturer 1,032,682 8,571,258
---------- ------------
Total current assets 5,025,666 41,713,021
---------- ------------
Property, plant and equipment, net 673,177 5,587,371
Construction in progress 11,743 97,461
---------- ------------
Total assets 5,710,586 47,397,853
========= ===========
LIABILITIES AND SHAREHOLDERS EQUITY
Current liabilities:
Accounts payable 1,164,934 9,668,955
Other payables and accruals 582,973 4,838,677
Amounts due to related parties 278,443 2,311,074
Taxes payable 829,959 6,888,663
---------- ------------
Total current liabilities 2,856,309 23,707,369
---------- ------------
Minority interest 1,171,808 9,726,003
Shareholders equity:
Common stock, par value
US$0.0001 per share;
authorized - 50,000,000
shares; issued and
outstanding - 4,307,158
shares 431 3,568
Capital in excess of par 5,051,238 41,925,275
Deficit (3,448,995) (28,626,662)
General reserve 76,677 636,421
Accumulated other
comprehensive income 3,118 25,879
---------- ------------
Total shareholders' equity 1,682,469 13,964,481
---------- ------------
Total liabilities and
shareholders' equity 5,710,586 47,397,853
========== ============
See accompanying notes to consolidated financial statements.
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China Gateway Holdings Inc.
Consolidated Statements of Operations and
Comprehensive (Income) Loss (Unaudited)
Three Months Ended September 30,
-----------------------------------
2000 2000 1999
---------- ---------- ----------
USD RMB RMB
(Restated -
Notes 1
and 7)
Net sales 2,331,579 19,352,108 -
Cost of sales 2,185,291 18,137,920 -
---------- ----------- -----------
Gross profit 146,288 1,214,188 -
Administrative and general
expenses 406,504 3,373,980 443,261
Selling expenses 46,067 382,355 -
---------- ----------- -----------
Loss from operations (306,283) (2,542,147) (443,261)
Other income (expense):
Interest income 250 2,073 8
Interest expense (4,161) (34,538) -
Commission income (Notes 4 and 7) 767,689
Other 11,367 94,346 -
---------- ----------- -----------
Income (loss) before equity in
loss of joint venture (298,827) (2,480,266) 324,436
Equity in loss of joint venture
(Notes 1 and 6) - - (932,951)
---------- ----------- -----------
Loss before minority interest (298,827) (2,480,266) (608,515)
Minority interest (Note 1) 96,206 798,511 -
---------- ----------- -----------
Net loss (202,621) (1,681,755) (608,515)
Other comprehensive income:
Foreign currency translation
adjustment 3,656 30,349 -
---------- ----------- -----------
Comprehensive loss (198,965) (1,651,406) (608,515)
========== =========== ===========
Net loss per common share -
Basic and Diluted (Note 1) (0.05) (0.39) (0.14)
========== =========== ===========
Weighted average number of
common shares outstanding 4,307,158 4,307,158 4,241,426
========== =========== ===========
See accompanying notes to consolidated financial statements.
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China Gateway Holdings Inc.
Consolidated Statements of Operations and
Comprehensive Income (Loss) (Unaudited)
Nine Months Ended September 30,
------------------------------------
2000 2000 1999
---------- ----------- -----------
USD RMB RMB
(Restated -
Notes 1
and 7)
Net sales 6,164,201 51,162,869 -
Cost of sales 5,594,606 46,435,229 -
---------- ----------- -----------
Gross profit 569,595 4,727,640 -
Administrative and general
expenses 1,576,186 13,082,343 1,569,059
Selling expenses 115,311 957,085 -
---------- ----------- -----------
Loss from operations (1,121,902) (9,311,788) (1,569,059)
Other income (expense):
Interest income 545 4,518 8
Interest expense (11,829) (98,182) -
Commission income (Notes 4 and 7) 450,000 3,735,000 767,689
Other 36,822 305,626 -
---------- ----------- -----------
Loss before equity in loss of
joint venture (646,364) (5,364,826) (801,362)
Equity in loss of joint venture
(Notes 1 and 6) - - (5,226,004)
---------- ----------- -----------
Loss before minority interest (646,364) (5,364,826) (6,027,366)
Minority interest (Note 1) 281,074 2,332,917 -
---------- ----------- -----------
Net loss (365,290) (3,031,909) (6,027,366)
Other comprehensive income:
Foreign currency translation
adjustment 5,231 43,418 -
---------- ----------- -----------
Comprehensive loss (360,059) (2,988,491) (6,027,366)
========== =========== ===========
Net loss per common share
Basic and Diluted (Note 1) (0.08) (0.70) (1.42)
========== =========== ===========
Weighted average number of
common shares outstanding 4,307,158 4,307,158 4,241,426
========== =========== ===========
See accompanying notes to consolidated financial statements.
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China Gateway Holdings Inc.
Consolidated Statements of Cash Flows (Unaudited)
Nine Months Ended September 30,
------------------------------------
2000 2000 1999
---------- ----------- -----------
USD RMB RMB
(Restated -
Notes 1
and 7)
Operating activities:
Net loss (365,290) (3,031,909) (6,027,366)
Adjustments to reconcile net loss
to net cash provided by operating
activities:
Depreciation 41,320 342,953 42,500
Equity in loss of joint venture - - 5,226,004
Changes in operating assets and
liabilities, net of effects of
consolidation of Joint Venture:
(Increase) decrease in
Trade receivables, net (17,221) (142,931) -
Amounts due from affiliates 322,873 2,679,843 -
Amounts due from employees (12,587) (104,468) -
Other receivables, deposits
and prepayments (225,936) (1,875,270) (851,640)
Inventories 619,091 5,138,459 -
Amounts due from Joint Venturer 227,880 1,891,401 -
Increase (decrease) in
Accounts payable (686,951) (5,701,694) (905,571)
Other payables and accruals 39,782 330,190 2,209,250
Amounts due to Joint Venturer - - (44,319)
Amounts due to affiliates - - 506,451
Amounts due to related parties 184,548 1,531,752 -
Taxes payable 166,756 1,384,074 -
---------- ----------- -----------
Net cash provided by operating
activities 294,265 2,442,400 155,309
---------- ----------- -----------
Investing activities:
Additions to property, plant and
equipment (11,836) (97,812) (129,304)
---------- ----------- -----------
Net cash used in investing
Activities (11,836) (97,812) (129,304)
---------- ----------- -----------
Financing activities:
Minority interest (281,074) (2,332,915) -
Issuance of common stock - - 612,770
---------- ----------- -----------
Net cash provided by (used in)
financing activities (281,074) (2,332,915) 612,770
---------- ----------- -----------
Cash and cash equivalents:
Net increase 1,355 11,673 638,775
Effect of exchange rates changes
on cash 5,231 43,418 (911)
At beginning of period 20,328 168,299 590,849
---------- ----------- -----------
At end of period 26,914 223,390 1,228,713
========== =========== ===========
See accompanying notes to consolidated financial statements.
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China Gateway Holdings Inc.
Notes to Consolidated Financial Statements (Unaudited)
Three Months and Nine Months Ended September 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.
7
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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 nine months ended September 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 nine months ended September 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 nine months ended September 30, 1999 as a
result of the restatement.
Assets and liabilities recorded on consolidation of the Joint Venture effective
January 1, 2000 were approximately as follows:
In thousand RMB
---------------
Cash 120
Receivables 27,810
Inventories 9,267
Prepaid expenses and other 607
Amount due from Joint Venturer 10,463
Property, plant and equipment 5,840
Accounts payable (14,402)
Other payables and accruals (4,085)
Taxes payable (5,505)
8
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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 immaterial and
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
September 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 interim 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 September 30, 2000, the results of operations
for the three months and nine months ended September 30, 2000 and 1999, and the
cash flows for the nine months ended September 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 with respect
to interim financial statements, 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.
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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 nine months ended September
30, 2000 are not necessarily indicative of the results of operations to be
expected for the full fiscal year ending December 31, 2000.
Earnings 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 potential dilution that
would occur if dilutive stock options and warrants were exercised. These
potentially dilutive securities were anti-dilutive for all periods presented,
and accordingly, basic and diluted earnings per share are the same for all
periods presented. As of September 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).
2. Inventories
Inventories consisted of the following at September 30, 2000:
USD RMB
------- ---------
Raw materials 175,833 1,459,414
Finished goods 321,530 2,668,695
------- ---------
497,363 4,128,109
======= =========
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3. Income Taxes
The Company did not have any income tax expense for the three months and nine
months ended September 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
The Company earns commission income by providing agency services to an unrelated
third party. 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. During the nine months ended September 30, 2000 and
1999, the Company had commission income of RMB 3,735,000 and RMB 767,689 (as
restated - see Note 7), respectively. During the three months ended September
30, 2000 and 1999, the Company had commission income of RMB 0 and RMB 767,689,
respectively.
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 nine months ended September 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 nine months ended September 30, 2000, approximately 20% of the
Company's net sales were generated by one customer, and one other customer
accounted for over 10% of sales. During such periods, the Company also had
significant purchases of raw material inventory from the same customer.
11
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6. Condensed 1999 Financial Information of the Joint Venture
During the three months and nine 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 nine months ended
September 30, 1999 are as follows:
Three Months Ended Nine Months Ended
September 30, 1999 September 30, 1999
------------------ ------------------
(in thousand RMB) (in thousand RMB)
Net sales 16,528 42,660
Cost of sales 14,784 38,209
------- -------
Gross profit 1,744 4,451
Operating expenses 3,888 13,035
------- -------
Loss from operations (2,144) (8,584)
Financing expense
Related parties 11 648
Other 2 80
Commission income 595 595
Interest income 7 7
------- -------
Net loss (1,555) (8,710)
======= =======
The Company's
proportionate share
of net loss of the
Joint Venture (933) (5,226)
======= =======
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7. Restatement of Commission Income
The previously issued financial statements for the nine months ended September
30, 1999 included commission income of RMB 1,422,310 that was incorrectly
recorded as earned due to a misinterpretation of the commission agreement.
These financial statements have been restated to reflect the correction of this
error as follows:
Restatement
of
Previously
Reported
Amounts
Under
As Equity
Previously Method As
Reported Accounting Restated
---------- ---------- ---------
Total liabilities 33,217,553 1,789,682 3,211,992
Shareholders' equity 9,337,442 9,337,442 7,915,132
Net loss 4,605,056 4,605,056 6,027,366
Net loss per share 1.09 1.09 1.42
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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 September
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 September 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 was 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.
14
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Through December 31, 1997, OPL had contributed cash of RMB 4,867,636 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 5,752,909 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 and September 30, 2000 funding
obligations of RMB 5,000,000 and RMB 5,000,000, respectively, 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.
15
<PAGE>
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.
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 nine months ended September 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 nine months ended September 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 nine months ended September 30, 1999 as a
result of the restatement.
16
<PAGE>
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.
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 nine months ended September 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 nine months ended September 30, 2000, approximately 20% of the
Company's net sales were generated by one customer, and one other customer
accounted for over 10% of sales. 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 immaterial and 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 having restated 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 nine months ended September 30, 2000 are not directly comparable to its
financial statements for the three months and nine months ended September 30,
1999. Condensed results of operations of the Joint Venture for the three months
and nine months ended September 30, 1999 are provided at Note 6 of the Notes to
the Consolidated Financial Statements.
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Consolidated Results of Operations:
Three Months Ended September 30, 2000 and 1999:
Sales. For the three months ended September 30, 2000, sales were RMB
19,352,108. Sales of the Joint Venture were RMB 16,528,350 for the three months
ended September 30, 1999. Sales increased by RMB 2,823,758 or 17.1% as a result
of increased market demand and increased selling prices.
During the three months ended September 30, 2000, 6,500 metric tons of
cartonboard were sold at an average per ton selling price of RMB 2,977, as
compared to 6,228 metric tons of cartonboard sold at an average per ton selling
price of RMB 2,654 for the three months ended September 30, 1999.
Gross Profit. For the three months ended September 30, 2000, gross profit
was 6.3% of sales, as compared to a gross profit of 10.6% of Joint Venture sales
for the three months ended September 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 September 30,
2000, administrative and general expenses were RMB 3,373,980 or 17.4% of sales.
For the three months ended September 30, 1999, administrative and general
expenses were RMB 443,261. For the three months ended September 30, 1999, the
Joint Venture's administrative and general expenses were RMB 3,450,947.
Selling Expenses. For the three months ended September 30, 2000, selling
expenses were RMB 382,355 or 2.0% of sales. For the three months ended
September 30, 1999, the Company did not incur any selling expenses. For the
three months ended September 30, 1999, the Joint Venture's selling expenses were
RMB 436,652 or 2.6% of Joint Venture sales.
Loss from Operations. For the three months ended September 30, 2000, the loss
from operations was RMB 2,542,147. For the three months ended September 30,
1999, the loss from operations was RMB 443,261. For the three months ended
September 30, 1999, the Joint Venture's loss from operations was RMB 2,144,000.
Other Income (Expense). For the three months ended September 30, 1999, the
Company had commission income of RMB 767,689. The Company did not have any
commission income for the three months ended September 30, 2000.
For the three months ended September 30, 2000, interest expense was RMB 34,538.
For the three months ended September 30, 1999, the Joint Venture incurred costs
related to financing its activities of RMB 13,000.
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Income Taxes. The Company did not have any income tax expense for the three
months ended September 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 September 30, 1999,
the Company recorded equity in loss of Joint Venture of RMB 932,951 to reflect
the Company's 60% interest in the Joint Venture.
Minority Interest. For the three months ended September 30, 2000, the Company
recorded a minority interest of RMB 798,511 to reflect the Wuhan Company's 40%
in the Joint Venture.
Net Loss. Net loss was RMB 1,681,755 for the three months ended September 30,
2000, as compared to a net loss of RMB 608,515 for the three months ended
September 30, 1999.
Nine Months Ended September 30, 2000 and 1999:
Sales. For the nine months ended September 30, 2000, sales were RMB 51,162,869.
Sales of the Joint Venture were RMB 42,660,000 for the nine months ended
September 30, 1999. Sales increased by RMB 8,502,869 or 19.9% as a result of
increased market demand and increased selling prices.
During the nine months ended June 30, 2000, 17,560 metric tons of cartonboard
were sold at an average per ton selling price of RMB 2,913, as compared to
15,847 metric tons of cartonboard sold at an average per ton selling price of
RMB 2,692 for the nine months ended September 30, 1999.
Gross Profit. For the nine months ended September 30, 2000, gross profit was
9.2% of sales, as compared to a gross profit of 10.4% of Joint Venture sales for
the nine months ended September 30, 1999.
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Administrative and General Expenses. For the nine months ended September 30,
2000, administrative and general expenses were RMB 13,082,343 or 25.6% of sales.
For the nine months ended September 30, 1999, administrative and general
expenses were RMB 1,569,059. For the nine months ended September 30, 1999, the
Joint Venture's administrative and general expenses were RMB 12,184,131.
Selling Expenses. For the nine months ended September 30, 2000, selling
expenses were RMB 957,085 or 1.9% of sales. For the nine months ended September
30, 1999, the Company did not incur any selling expenses. For the nine months
ended September 30, 1999, the Joint Venture's selling expenses were RMB 850,765
or 2.0% of Joint Venture sales.
Loss from Operations. For the nine months ended September 30, 2000, the loss
from operations was RMB 9,311,788. For the nine months ended September 30,
1999, the loss from operations was RMB 1,569,059. For the nine months ended
September 30, 1999, the Joint Venture's loss from operations was RMB 8,584,000.
Other Income (Expense). For the nine months ended September 30, 2000, the
Company had commission income of RMB 3,735,000, as compared to commission income
of RMB 767,689 for the nine months ended September 30, 1999.
For the nine months ended September 30, 2000, interest expense was RMB 98,182.
For the nine months ended September 30, 1999, the Joint Venture incurred costs
related to financing its operations of RMB 728,000. 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 have any income tax expense for the nine
months ended September 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.
20
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Equity in Loss of Joint Venture. For the nine months ended September 30, 1999,
the Company recorded equity in loss of Joint Venture of RMB 5,226,004 to reflect
the Company's 60% interest in the Joint Venture.
Minority Interest. For the nine months ended September 30, 2000, the Company
recorded a minority interest of RMB 2,332,917 to reflect Wuhan Company's 40% in
the Joint Venture.
Net Loss. Net loss was RMB 3,031,909 for the nine months ended September 30,
2000, as compared to a net loss of RMB 6,027,366 for the nine months ended
September 30, 1999.
Consolidated Financial Condition - September 30, 2000:
Liquidity and Capital Resources:
Operating. For the nine months ended September 30, 2000, the Company's
operations generated cash resources of RMB 2,442,400, as compared to generating
cash resources of RMB 155,309 for the nine months ended September 30, 1999. The
Company had net working capital of RMB 18,005,652 at September 30, 2000,
reflecting a current ratio of 1.76:1 at September 30, 2000. A major reason for
the Company having a significant positive net working capital position at
September 30, 2000 was the forgiveness of debt by Wuhan Company effective
December 31, 1999 of RMB 16,329,758, as described above at "Overview".
Investing. During the nine months ended September 30, 2000, additions to
property, plant and equipment were RMB 97,812, as compared to RMB 129,304 for
the nine months ended September 30, 1999.
As of September 30, 2000, the Company had budgeted capital expenditures of
approximately RMB 120,000 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 September 2000. Significant transactions
between the Joint Venture and Wuhan Company are discussed above at "Overview".
As of September 30, 1999, the Company had RMB 8,571,258 due from Wuhan Company,
as compared to RMB 10,462,659 due from Wuhan Company to the Joint Venture at
December 31, 1999, net of the amount extinguished effective December 31, 1999 of
RMB 16,329,758.
21
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The Company has relied on the sale of its securities and the credit provided by
Wuhan Company to fund its operations since 1997. However, the Company has also
incurred operating losses and negative operating cash flows during this period
that may impair the Company's ability to continue to operate and finance its
business. The Company will require additional capital to fund its operating
requirements, as well as to meet its funding obligations to the Joint Venture.
The Company is exploring various alternatives to raise this required capital,
but there can be no assurances that the Company will be successful in this
regard. To the extent that the Company is unable to secure the capital
necessary to fund its future cash flow requirements on a timely basis and/or
under acceptable terms and conditions, the Company may not have sufficient
resources to continue to conduct operations. In addition, to the extent that
the Company experiences a substantial increase in revenues and/or acquires other
business operations, the Company may also require additional capital.
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.
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 September 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)
Date: November 17, 2000 By: /s/ DANNY WU
---------------------------
Danny Wu
Chief Executive Officer
(Duly Authorized Officer)
Date: November 17, 2000 By: /s/ CARL YUEN
---------------------------
Carl Yuen
Accounting and Finance
Manager
(Principal Financial
and Accounting Officer)
24
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