<PAGE> 1
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON MARCH___, 1998
REGISTRATION NO. 333-38697
- --------------------------------------------------------------------------------
U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
--------------------
AMENDMENT NO. 1
FORM SB-2
REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933
--------------------
PHYSICAL SPA & FITNESS INC.
(Name of small business issuer in its charter)
---------------------
DELAWARE 13-1026995
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
7997
(Primary Standard Industrial
Classification Code Number)
---------------------
12/F - 15/F Lee Theatre Plaza 12/F - 15/F Lee Theatre Plaza
99 Percival St., Causeway Bay 99 Percival St., Causeway Bay,
Hong Kong Hong Kong
(852) 2572-8888 (852) 2572-8888
(Address and telephone number of (Address of principal place
principal executive office) of business)
Jill Bodnar
President
12/F - 15/F Lee Theatre Plaza
99 Percival St., Causeway Bay, Hong Kong
(852) 2572-8888
(Name, address and telephone number of agent for service)
----------------------------
COPIES TO:
Iwona J. Alami, Esq. Robert P. Abdo, Esq.
Law Offices of Iwona J. Alami Abdo & Abdo, P.A.
120 Newport Center Drive, Suite 200 710 N. Star West, 625 Marquette
Newport Beach, CA 92660 Minneapolis, MN 55402
-------------------
Approximate Date of Proposed Sale to the Public.
As soon as practicable after this Registration Statement becomes effective.
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act of 1933 (the "Securities Act"),
please check the following box and list the Securities Act registration number
of the earlier effective registration statement for the same offering. |_|
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. |_|
If delivery of the Prospectus is expected to be made pursuant to Rule
343, please check the following box. |_|
<PAGE> 2
CALCULATION OF REGISTRATION FEE
<TABLE>
<CAPTION>
TITLE OF EACH CLASS OF SECURITIES SECURITIES PROPOSED MAXIMUM OFFERING PROPOSED MAXIMUM AMOUNT OF
TO BE REGISTERED TO BE PRICE PER SHARE (1) AGGREGATE OFFERING REGISTRATION
REGISTERED(1)(2)(3) PRICE(1)(2)(3) FEE
- ----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Common Stock, $0.001 par value 431,250 $4.00 $1,725,000.00 $522.73
- ----------------------------------------------------------------------------------------------------------------------
Common Stock, $0.001 par value 187,500 $4.00 $750,000.00 $227.27
offered by selling shareholders
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Common Stock Purchase Warrants 435,606 $0.33 $143,750.00 $43.56
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Common Stock, $0.001 par value, 431,250 $6.00 $2,587,500.00 $784.09
underlying Common Stock Purchase
Warrants, $6.00 exercise price
- ----------------------------------------------------------------------------------------------------------------------
Representative's Common Stock 43,125 $0.001 $43.125 $0.01
Purchase Warrants (4)
- ----------------------------------------------------------------------------------------------------------------------
Common Stock, $0.001 par value, 43,125 $4.80 $207,000.00 $62.72
underlying Representative's
Common Stock Purchase Warrants,
$4.80 exercise price (5)
- ----------------------------------------------------------------------------------------------------------------------
Representative's Common Stock 43,125 $0.40 $17,250.00 $5.23
Purchase Warrants (6)
- ----------------------------------------------------------------------------------------------------------------------
Common Stock, $0.001 par value, 43,125 $6.00 $258,750.00 $78.40
underlying Common Stock Purchase
Warrants, $6.00 exercise price(7)
- ----------------------------------------------------------------------------------------------------------------------
Total $5,689,293.125 1,724.01
- ----------------------------------------------------------------------------------------------------------------------
</TABLE>
(1) Estimated solely for the purpose of computing the registration fee
pursuant to Rule 457.
(2) Includes 56,250 shares of Common Stock that Global Financial Group (the
"Selling Agent" or "Representative") has the option to purchase to cover
over-allotments, if any.
(3) Includes 56,250 Common Stock Purchase Warrants that the Representative
has the option to purchase to cover over- allotments, if any.
(4) Represents Common Stock Purchase Warrants issuable to the Representative
("Representative Warrants (I)") as an additional compensation for the
Representative in connection with the sale of 375,000 shares of Common
Stock (including over-allotments) in this Offering. See "Plan of
Distribution".
(5) Represents Common Stock issuable upon exercise of the Representative
Warrants (I). Pursuant to Rule 416 promulgated under the Securities Act
of 1933, this Registration Statement also covers any additional shares
of Common Stock which may become issuable by reason of the antidilution
provisions of the Representative Warrants (I).
(6) Represents Common Stock Purchase Warrants issuable to the Representative
("Representative Warrants (II)") as an additional compensation for the
Representative in connection with the sale of 375,000 Common Stock
Purchase Warrants (including over-allotments) in this Offering. Such
Representative's Warrants (II) shall be issuable to the Representative
upon an exercise by the Representative of the warrant to purchase
Representative Warrants (II). See "Plan of Distribution".
(7) Represents Common Stock issuable upon exercise of the Representative
Warrants (II). Pursuant to Rule 416 promulgated under the Securities Act
of 1933, this Registration Statement also covers any additional shares
of Common Stock which may become issuable by reason of the antidilution
provisions of the Representative Warrants (II).
The Registrant hereby amends this Registration Statement on such date or
dates as may be necessary to delay its effective date until the Registrant shall
file a further amendment which specifically states that this Registration
Statement shall thereafter become effective in accordance with Section 8(a) of
the Securities Act of 1933 or until the Registration Statement shall become
effective on such date as the Commission, acting pursuant to said Section 8(a),
may determine.
<PAGE> 3
<TABLE>
PHYSICAL SPA & FITNESS INC.
CROSS REFERENCE SHEET
Pursuant to Item 501(b) of Regulations S-B
Showing Location in the Prospectus
of Information Required by Items of Form SB-2
<CAPTION>
<S> <C>
Form SB-2 Item Number and Caption Prospectus
1. Forepart of Registration Statement and Outside Facing Page of Registration Statement: Outside Front
Front Cover Page of Prospectus........................... Cover Page of Prospectus
2. Inside Front and Outside back Cover Pages of Available Information; Incorporation of Certain
Prospectus............................................... Documents by Reference; Table of Contents
3. Summary Information; Risk Factors........................ Prospectus Summary; Risk Factors
4. Use of Proceeds.......................................... Prospectus Summary; The Company; Use of Proceeds
5. Determination Offering Price............................. Risk Factors; Plan of Distribution
6. Dilution................................................. Dilution
7. Selling Security Holders................................. Principal and Selling Stockholders
8. Plan of Distribution..................................... Plan of Distribution
9. Legal Proceedings........................................ Not Applicable
10. Directors, Executive Officers, Promoters and
Control Persons.......................................... Management and Principal Shareholders
11. Security Ownership of Certain Beneficial Owners
and Management........................................... Principal and Selling Shareholders
12. Description of Securities to be Registered............... Description of Securities
13. Interests of Named Experts and Counsel................... Not Applicable
14. Disclosure of Commission Position on
Indemnification for Securities Act Liabilities........... Indemnification of Directors and Officers
15. Organization Within Last Five Years...................... The Company
16. Description of Business.................................. The Company
17. Management's Discussion and Analysis of Plan of Management's Discussion and Analysis of Financial
Operation................................................ Condition and Results of Operations
18. Description of Property.................................. The Company (Properties)
19. Certain Relationships and Related Transactions........... Certain Transactions
20. Market for Common Equity and Related Risk Factors; Plan of Distribution
Stockholder Matters......................................
21. Executive Compensation................................... Total Executive Compensation
22. Consolidated Financial Statements........................ Consolidated Financial Statements
23. Changes In and Disagreements With Accountants
on Accounting and Financial Disclosure................... Not Applicable
</TABLE>
<PAGE> 4
PROSPECTUS
SUBJECT TO COMPLETION, DATED __________, 1998
PHYSICAL SPA & FITNESS INC.
562,500 SHARES COMMON STOCK
375,000 REDEEMABLE COMMON STOCK PURCHASE WARRANTS
Physical Spa & Fitness Inc., a Delaware corporation ("the Company,"
includes the Company's operating subsidiaries unless otherwise noted) is
offering on a "best efforts" and "all or nothing" offering basis, 375,000 shares
of its Common Stock (the "Shares"), for an assumed initial offering price
of$4.00 per share and 375,000 warrants to purchase the Company's Common Stock
for $0.33 per warrant (the "Common Stock Redeemable Purchase Warrants" or
"Warrants"); the 187,500 shares of Common Stock of the Company are being offered
by certain selling shareholders (the "Selling Shareholders"; see "Principal and
Selling Shareholders") for an assumed offering price of $4.00 per share
(collectively, the "Offering"). It is currently anticipated that the initial
public offering price will be between $4.00 and $7.00 per share. See "Plan of
Distribution" for a discussion of the factors to be considered in determining
the initial offering price. Each Warrant entitles the holder to purchase one
share of Common Stock until ______, 2003 at an assumed exercise price of $6.00
per share, subject to certain adjustments and subject to the Company's right to
redeem. Commencing one year after the date hereof, the Warrants will be
redeemable, in whole but not in part, for $0.05 per Warrant (the "Redemption
Price"), at the option of the Company, upon 30 days' written notice at any time
after the closing bid price of the Company's Common Stock is at least $8.00 per
share for 30 consecutive business days ending within 15 days of the date of the
notice of redemption. If Warrants are not exercised by the holder(s) thereof
within such 30-day period, then they may be redeemed by the Company at the
Redemption Price. See "Description of Securities--Common Stock." The Company
will not receive any of the proceeds from the sale of the shares by Selling
Shareholders. Selling Shareholders will be responsible for their own selling
expenses. No shares of Common Stock of Selling Shareholders will be sold to the
public in this Offering until a maximum of 375,000 shares of Common Stock and a
maximum of 375,000 Warrants offered hereby by the Company are first sold.
Only a limited public securities market with sporadic trading existed
for the Company's Common Stock prior to this Offering. Although the Company has
applied for listing on The Nasdaq SmallCap Market for its Common Stock and its
Common Stock Purchase Warrants under the proposed symbols: "PFIT" (Common Stock)
and "PFITW" (Warrants), there can be no assurance that an active public trading
market for such securities will be developed or sustained.
INVESTMENT IN THE COMMON STOCK OFFERED HEREBY INVOLVES A HIGH DEGREE OF RISK.
POTENTIAL INVESTORS SHOULD NOT INVEST IN THESE SECURITIES UNLESS THEY CAN AFFORD
TO LOSE THEIR ENTIRE INVESTMENT. SEE "RISK FACTORS" FOR CERTAIN CONSIDERATIONS
RELEVANT TO AN INVESTMENT IN THE COMMON STOCK.
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
<TABLE>
<CAPTION>
Price to Public* Selling Agent's Proceeds to Issuer Proceeds to Selling
Discount (1) (2)(3) Shareholders(1)(2)(3)
- -----------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Per Share $4.00 $.40 $3.60 $3.60
Per Warrant $0.33 $.033 $0.300 ____
Total (3) $2,375,000 $237,500 $1,462,500 $675,000
(FOOTNOTES CONTINUED ON THE FOLLOWING PAGE)
</TABLE>
<PAGE> 5
GLOBAL FINANCIAL GROUP
THE DATE OF THIS PROSPECTUS IS __________, 1998
* The assumed initial public offering price. The Company currently
anticipates that the actual initial public offering price will be
betwen $4.00 and $7.00 per share. See "Plan of Distribution" for
discussion of the factors to be considered in determining the initial
public offering price.
(1) Does not include (i) additional compensation to Global Financial Group
(the "Selling Agent" or "Representative") in the form of a
non-accountable expense allowance equal to 3% of the gross proceeds of
the Offering (including proceeds from the sale of the Shares by Selling
Shareholders), of which $25,000 has been prepaid; (ii) reimbursement by
the Company to the Representative of $20,000 of legal fees and expenses
incurred by the Representative; (iii) additional compensation to the
Representative through the sale to the Representative, for nominal
consideration of $0.001 per warrant, of warrants (the "Representative
Warrants I") entitling the holder thereof to purchase certain number of
shares of Common Stock equal to 10% of the Common Stock sold by the
Representative in this Offering, at a price of $4.80 (120% of the $4.00
per share offering price) for a period of five years commencing one year
from the date of this Prospectus; (iv) additional compensation to the
Representative through the sale to the Representative, for nominal
consideration of $0.001 of a warrant to purchase certain number of
warrants equal to 10% of the Warrants sold by the Representative in this
Offering, at a price of $0.40 (120% of the $0.33 per warrant offering
price) entitling the holder thereof to purchase certain number of shares
of Common Stock at an exercise price of $6.00 per share for a period of
five years commencing one year from the date of this Prospectus (the
"Representative Warrants II") ("Representative Warrants I" and
"Representative Warrants II" shall be referred to collectively as
"Representative Warrants") . See "Plan of Distribution."
(2) Before deduction of estimated expenses of $131,672 payable by the
Company, not including the 3% non-accountable expense allowance,
including among others, registration and filing fees (including blue sky
filing fees), professional fees and printing expenses. Total expenses of
the Offering by the Company, including Selling Agent's discounts and
commissions, should approximate $342,922 ($374,610 if the
Representative's over-allotment options for the Shares and the Warrants,
respectively, are exercised in full), for estimated net proceeds to the
Company of $1,282,078 ($1,494,140 if the Representative's over-allotment
options are exercised in full). Total expenses of the Selling
Shareholders in this Offering should approximate $97,500, for the
estimated net proceeds to the Selling Shareholders of $652,500.
(3) Assumes sale of the maximum offering of 375,000 Shares and 375,000
Warrants ("Maximum Offering"). The Company has granted the
Representative an option, exercisable within 45 days of the effective
date of this registration statement, to purchase up to an additional
56,250 shares of the Common Stock and 56,250 Warrants at the public
offering price, less Selling Agent's discounts and commissions, solely
for the purpose of covering over-allotments, if any. In the foregoing
table, the amounts shown assume the over-allotment options for the
shares of Common Stock and Warrants, respectively, will not be
exercised. If the over-allotment options are exercised in full, the
price of the Common Stock to the public would be $1,868,750; the Selling
Agent's discounts to the Company would be $186,875; the Proceeds to the
Issuer would be $1,681,875 and the Proceeds to Selling Shareholders
would be $675,000. If the over-allotment options for the shares of
Common Stock and Warrants, respectively, are exercised, the
Representative shall be entitled to additional compensation of
Representative Warrants I and Representative Warrants II. See "Plan of
Distribution".
The Shares and Warrants offered hereby, are being offered by the Selling
Agent on behalf of the Company, on a "best efforts" and "all or nothing"
offering basis. The Offering will be completed only if the maximum of 375,000
shares of Common Stock and 375,000 Warrants ("Maximum Offering") are sold herein
by __________ 1998, which period may be extended for up to an additional 30 days
by the Company and the Selling Agent (the "Offering Period"). In the event the
Maximum Offering is not achieved prior to the expiration of the Offering Period,
this Offering will terminate and all funds will be returned promptly to the
subscribers without deduction therefrom or interest thereon. Selling
Shareholders will be responsible for their own selling expenses. The Selling
Agent reserves the right to withdraw, cancel or modify such offer and to reject
orders in whole or in part. It is expected that the certificates representing
the shares of Common Stock will be ready for delivery at the offices of Abdo &
Abdo, P.A., Minneapolis, Minnesota, within 10 business days after the date the
Registration Statement is declared effective by the Securities and Exchange
Commission (the "Commission").
<PAGE> 6
AVAILABLE INFORMATION
The Company is not presently subject to the reporting requirements of
the Securities Exchange Act of 1934. The Company has filed with the Securities
and Exchange Commission a Registration Statement on Form SB-2 (together with all
amendments and exhibits thereto, the "Registration Statement") under the
Securities Act of 1933, as amended (the "Securities Act") with respect to the
securities offered hereby. This Prospectus, which constitutes a part of the
Registration Statement, omits certain information contained in the Registration
Statement on file with the Commission pursuant to the Securities Act and the
rules and regulations of the Commission thereunder. The Registration Statement,
including the exhibits thereto, may be inspected and copied at the public
reference facilities maintained by the Commission at 450 Fifth Street, N.W.,
Room 1024, Washington, D.C. 20549, and at the Commission's regional offices
located at 7 World Trade Center, 13th Floor, New York, New York 10048 and
Northwest Atrium Center, 500 West Madison Street, Suite 1400, Chicago, Illinois
60611. Copies of such material may be obtained by mail at prescribed rates from
the Public Reference Branch of the Commission at 450 Fifth Street, N.W.,
Washington, D.C. 20549 at prescribed rates, and via Commission's address on the
World Wide Web at http:// www.sec.gov. Statements contained in this Prospectus
as to the contents of any contract or other document referred to are not
necessarily complete and in each instance reference is made to the copy of such
contract or other document filed as an exhibit to the Registration Statement,
each such statement being qualified in all respects by such reference.
IN CONNECTION WITH THIS OFFERING, THE UNDERWRITERS MAY OVER-ALLOT OR
EFFECT TRANSACTIONS WHICH STABILIZE OR MAINTAIN THE MARKET PRICE OF THE COMMON
STOCK AT A LEVEL ABOVE THAT WHICH MIGHT OTHERWISE PREVAIL IN THE OPEN MARKET.
SUCH TRANSACTIONS MAY BE EFFECTED ON THE NASDAQ SYSTEM OR OTHERWISE. SUCH
STABILIZING, IF COMMENCED, MAY BE DISCONTINUED AT ANY TIME.
IN CONNECTION WITH THIS OFFERING, CERTAIN UNDERWRITERS (AND SELLING
GROUP MEMBERS) MAY ENGAGE IN PASSIVE MARKET MAKING TRANSACTIONS IN THE COMMON
STOCK ON THE NASDAQ SYSTEM IN ACCORDANCE WITH RULE 10-BA UNDER THE SECURITIES
EXCHANGE ACT OF 1934, AS AMENDED. SEE "UNDERWRITING."
<PAGE> 7
TABLE OF CONTENTS
PROSPECTUS SUMMARY.............................................................1
RISK FACTORS...................................................................7
USE OF PROCEEDS...............................................................16
DILUTION......................................................................19
PRICE RANGE OF SECURITIES.....................................................20
DIVIDEND POLICY...............................................................20
CAPITALIZATION................................................................21
SELECTED FINANCIAL DATA.......................................................22
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS.............................................23
BUSINESS OF THE COMPANY.......................................................30
GENERAL...............................................................30
ORGANIZATION..........................................................30
OWNERSHIP STRUCTURES IN CHINA.........................................33
OVERVIEW OF THE COMPANY'S MARKETS.....................................34
HISTORY...............................................................36
BUSINESS STRATEGY.....................................................38
COMPETITION...........................................................42
TRADEMARKS AND TRADE NAMES............................................45
SEASONALITY...........................................................45
INSURANCE.............................................................45
RESEARCH AND DEVELOPMENT..............................................45
EMPLOYEES.............................................................45
PROPERTIES............................................................46
GOVERNMENT REGULATIONS................................................49
MANAGEMENT....................................................................51
DIRECTORS AND EXECUTIVE OFFICERS......................................51
EXECUTIVE COMPENSATION................................................52
INDEMNIFICATION OF DIRECTORS AND OFFICERS.............................53
<PAGE> 8
EMPLOYMENT AND RELATED AGREEMENTS.....................................53
1997 STOCK OPTION PLAN................................................53
CERTAIN TRANSACTIONS..........................................................54
PRINCIPAL AND SELLING STOCKHOLDERS............................................56
DESCRIPTION OF SECURITIES.................................................... 57
SHARES ELIGIBLE FOR FUTURE SALE...............................................58
TAXATION......................................................................59
PLAN OF DISTRIBUTION..........................................................62
LEGAL MATTERS.................................................................63
EXPERTS.......................................................................63
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS...................................F-1
<PAGE> 9
PROSPECTUS SUMMARY
THE FOLLOWING SUMMARY IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO, AND
SHOULD BE READ IN CONJUNCTION WITH, THE MORE DETAILED INFORMATION AND THE
CONSOLIDATED FINANCIAL STATEMENTS (INCLUDING THE NOTES THERETO) APPEARING
ELSEWHERE IN THIS PROSPECTUS. THE COMPANY PUBLISHES ITS FINANCIAL STATEMENTS IN
HONG KONG DOLLARS, THE LAWFUL CURRENCY OF HONG KONG ("HK$"). IN THIS PROSPECTUS,
REFERENCES TO "US$" OR "US DOLLARS" ARE TO UNITED STATES DOLLARS. TRANSLATIONS
OF AMOUNTS FROM HONG KONG DOLLARS, TO US DOLLARS ARE FOR THE CONVENIENCE OF THE
READER AND FOR REFERENCE ONLY. NO REPRESENTATION IS MADE THAT THE HONG KONG
DOLLAR AMOUNTS COULD HAVE BEEN, OR COULD BE, CONVERTED INTO U.S. DOLLARS AT ANY
CERTAIN RATE. SEE "RISK FACTORS RELATING TO OPERATIONS IN CHINA AND HONG KONG
FOREIGN CURRENCY EXCHANGE".
THE COMPANY
Physical Spa & Fitness, Inc. (the "Company"), through its subsidiaries,
operates fitness and spa centers in Hong Kong and the People's Republic of China
("China" or the "PRC"). The Company currently operates nine facilities: six in
Hong Kong and three in China under the name "Physical Ladies' Club", with the
exception of two centers (Mei Foo and Renaissance Beauty Centre - see "Company -
Organization"). All of the Company's operations, including the operating of the
fitness and spa centers, property holding, investment holding and other
corporate activities are conducted through the Company's wholly-owned or
majority-owned subsidiaries or joint ventures. See "Business of the Company -
Organization". The fitness and spa centers in Hong Kong are operated by two of
the Company's subsidiaries. Physical Health Centre Hong Kong Limited, a Hong
Kong corporation and a majority (91.4%) owned subsidiary of the Company,
operates the following centers in Hong Kong: Causeway Bay, Tsimshatsui, Shatin,
Mei Foo and Kowloon City. The sixth center, Renaissance Beauty Centre, is
operated by the Company's majority (70%) owned subsidiary, Supreme Resources
Limited, a Hong Kong corporation.
The Company's facilities in China are operated by two joint ventures:
Shanghai Physical Ladies' Club Co., Ltd. ("Shanghai Joint Venture"), which
operates two centers in the city of Shanghai, and Dalian Physical Ladies' Club
Co., Ltd. ("Dalian Joint Venture"), which operates fitness and spa facility in
the city of Dalian. The Company, through its subsidiaries, holds a 88.5%
interest in the Shanghai Joint Venture and a 90% interest in the Dalian Joint
Venture. The minority interest in the respective joint ventures is held by the
joint venture's Chinese partner. China regulations of the fitness and spa
facilities encourage joint ventures with a foreign company and provide less
restrictive regulations of such form of business entities. See "Government
Regulation - China".
The Company provides its customers, at each location, with access to a
wide range of U.S.- styled fitness and spa services. The Company offers to its
customers a membership for the use of its fitness facilities, which include
extensive aerobics programs, personalized training, cardiovascular conditioning
and strength training. The facilities are equipped with the latest in Western
exercise equipment, including LifeFitness, Cybex, Flex and Reebok Skywalker. Spa
and beauty treatment services are provided to both members and visitors, and
include skin care and facial treatments, massage, relaxation programs,
weight-management programs and personalized make-up consultations. The Company
also sells at the facilities a variety of exercise clothing and European beauty
products and cosmetics. Based on the number of the Company's facilities members,
management believes that the Company is among the top providers of fitness,
exercise, and spa/beauty treatment services in Hong Kong and China, with
approximately 55,000 members.
The Company's strategy is to provide a one-stop fitness and beauty
center for women. With the exception of the Mei Foo location in Hong Kong, all
other facilities in Hong Kong and China are exclusively for women. Management
believes that the Company's strong market presence in Hong Kong and its
successful entrance into China's market is a result of its strategy of combining
fitness and beauty services in a single facility that offers state-of-the art
exercise equipment, high quality beauty treatments and professional staff.
1
<PAGE> 10
The Company believes that it is one of the first companies to provide
Western fitness and spa services in China. In 1994, the predecessor companies of
Physical Beauty & Fitness Holdings Limited, a British Virgin Islands corporation
("Physical Limited"), the holding company of the Company's subsidiaries, began a
process of expansion into targeted market segments in China. In 1994, the
Company through Shanghai Joint Venture opened the Company's first China
operation in Huangpu, Shanghai, with a fitness center comprising of
approximately 15,000 square feet to provide fitness and spa treatment
facilities. Since then the center has been operating profitably, and another
center of similar size was opened in Hongqiao, Shanghai in September 1995,
through Shanghai Joint Venture. A third China operation in Dalian commenced in
April 1996 and is conducted through Dalian Joint Venture. See "Business of the
Company Organization". The Company's facilities in China are operated under the
name "Physical Ladies' Club", and the Company registered a servicemark under
that name in Chinese language, which precludes others from the use of the same
name. See "Business of the Company - Trademarks and Trade Names".
In the opinion of the Company's management, current competition in China
is, in general, comprised mainly of government operated facilities that offer
either fitness or beauty services, in small facilities that lack modern
equipment. The Company is aware of no Western quality facilities of comparable
size to that of the Company's facilities currently operating in China. The
Company expects that rising consumer incomes, increasing health awareness and
growing access to foreign goods and trends, should continue to create increased
demand for fitness and spa services in China. In 1996, the Company (through its
subsidiaries) entered into two additional joint ventures to open fitness and spa
facilities in Zhongshan (Zhongshan Joint Venture) and Shenzhen (Shenzhen Joint
Venture), China, however, such joint ventures have not commenced any operations
yet. The Company plans to open the centers in Zhongshan and Shenzhen in 1998,
however, there can be no assurances given that such joint ventures will start
operations or that such centers will be opened as currently planned by the
management. See "Business of the Company - Business Strategy".
The Company's strategy for maintaining its strong presence in Hong Kong
is to continue to provide existing and new members with high quality services at
an affordable price and by periodically upgrading the facilities as new
developments and technology emerge in the industry. The Company's objective is
to add new services and treatments to keep the Company current with market
trends and to promote and enhance the Company's reputation of providing
value-driven services to its customers. The Company places heavy emphasis on
staff training which is supported by an in-house training department and
on-going classes. The Company also plans to open additional facilities in Hong
Kong and Macau in mid-1998. The Company signed an offer to lease agreement,
pending the execution of a formal lease agreement, with respect to a new center
in Tsuen Wan, a major district of the Western Kowloon province of Hong Kong. The
proposed new facilities are planned to be operated in an approximately 50,000
sq. ft. space. The Company is also in the process of negotiating the lease for a
Macau center. The proposed new facilities in Macau are planned to be operated in
an approximately 36,000 sq. ft. space. See "Business of the Company -
Properties". The Company plans to use a portion of the proceeds from this
Offering to provide certain lease improvements to set up the center in Tsuen Wan
and to pay the initial lease deposit for the Macau center. There can be no
assurance that the two proposed new centers will be opened as currently planned
by the Company or if opened, that they will operate profitably.
The Company was incorporated on September 21, 1988 in the state of
Delaware under the name of "Foreclosed Realty Exchange, Inc", a development
stage company seeking acquisitions. Prior to acquisition of Physical Limited,
the Company had no revenue producing operations, but planned to enter into joint
ventures and/or acquisitions originally in the area of real estate to expand its
operations. In October, 1996, the Company closed a transaction with Ngai Keung
Luk (Serleo), a 100% shareholder of Physical Limited, whereby the Company
entered into a Share Exchange Agreement with Ngai Keung Luk (Serleo), pursuant
to which the Company issued 8,000,000 pre-split (6,000,000 post-split) shares of
its Common Stock to Ngai Keung Luk (Serleo) in exchange for all of the
outstanding shares of Physical Limited (the "Closing"). Subsequently, the
Company changed its name to "Physical Spa & Fitness Inc." in November, 1996, to
reflect the new business operations of the Company. As a part of the above
transaction, certain shareholders of the Company also transferred 990,000
pre-split (742,500 post-split) shares of Common Stock to Goodchild Investments
Limited, a British Virgin Islands corporation ("Goodchild"). See "Certain
Transactions". Neither Ngai Keung Luk (Serleo) nor Goodchild were parties
affiliated with the Company prior to or at the time of the acquisition of
Physical Limited. At the Closing the then current management of the Company
resigned and was replaced by the current management of the Company. See
"Management."
2
<PAGE> 11
The Company effected a 1.3333-for-1 reverse split of its common stock in
October 1997. All references in this Prospectus to shares of Common Stock of the
Company have been adjusted for the effects of the reverse stock split.
The Company maintains its executive and administrative office Hong Kong
at:
Lee Theatre Plaza 12/F - 15/F
99 Percival St., Causeway Bay, HONG KONG
The telephone number of the Company in Hong Kong is (852) 2572-8888.
Unless the context requires otherwise, as used herein, any reference to the
Company includes the Company's subsidiaries Physical Beauty & Fitness Holdings
Limited, Physical Health Centre Hong Kong, Ltd., Regent Town Holdings Ltd.,
Mighty System Ltd., Supreme Resources Ltd., Physical Health Centre (Zhong Shan)
Ltd., Zhongshan Physical Ladies' Club, Ltd., Ever Growth Ltd., Proline Holdings
Ltd., Shanghai Physical Ladies' Club Company Ltd., Shanghai Physical Ladies'
Club Co., Ltd., Jade Regal Holdings Ltd., Physical Health Centre( Dalian) Ltd.,
Dalian Physical Ladies' Club Co. Ltd., Star Perfection Holdings Ltd., Physical
Health Centre (Shenzhen) Ltd., and Shenzhen Physical Ladies' Club Company Ltd.,
Physical Health Centre (Tsuen Wan) Limited, Physical Health Centre (Macau)
Limited. See also "Business of the Company - Organization".
3
<PAGE> 12
THE OFFERING
SECURITIES OFFERED
BY THE COMPANY.............. 375,000 shares of Common Stock and 375,000 Common
Stock Redeemable Purchase Warrants. In addition,
the Selling Agent has been granted an over-
allotment option for an additional 56,250 shares
and 56,250 Warrants. See "Description of
Securities--Common Stock."
SECURITIES OFFERED BY SELLING
SHAREHOLDERS................ 187,500 shares of Common Stock. The Company will
not receive any proceeds from the sale of Common
Stock by the Selling Shareholders. See "Principal
and Selling Shareholders." Selling Shareholders
will be responsible for their own selling
expenses. No shares of Common Stock of Selling
Shareholders will be sold to the public in this
Offering until a maximum of 375,000 shares of
Common Stock and a maximum of 375,000 Warrants
offered hereby by the Company are first sold.
OFFERING PRICE OF COMMON
STOCK....................... 4.00 per share (the assumed initial offering
price)
COMMON STOCK REDEEMABLE
PURCHASE WARRANTS........... The Common Stock Redeemable Purchase Warrants are
offered at $0.33 per warrant. The Common Stock
Redeemable Purchase Warrants are exercisable at
any time after their issuance until _______, 2003,
at an exercise price of $6.00 per share, subject
to certain adjustments. Commencing one year after
the date hereof, the Warrants will be redeemable,
in whole but not in part, for $0.05 per Warrant
(the "Redemption Price"), at the option of the
Company, upon 30 days' written notice at any time
after the closing bid price of the Company's
Common Stock is at least $8.00 for 30 consecutive
business days ending within 15 days of the date of
the notice of redemption. If Warrants are not
exercised by the holder(s) thereof within such
30-day period, then they may be redeemed by the
Company at the Redemption Price. The
Representative is also entitled to an additional
compensation in a form of Representative's
Warrants. See "Description of Securities--Common
Stock" and "Plan of Distribution".
COMMON STOCK OUTSTANDING
PRIOR TO OFFERING........... 7,500,000 shares as of March 5, 1998. See
"Description of Securities."
COMMON STOCK OUTSTANDING
AFTER THE OFFERING.......... 7,875,000 shares. Excludes (i) 56,250 shares of
Common Stock included in the Representative's
over-allotment option for the Shares and 56,250
shares of Common Stock underlying 56,250 Warrants
issuable under the Representative's over-allotment
option for the Warrants; (ii) the number of shares
of Common Stock issuable upon exercise of the
Representative's Warrants I and Representative's
Warrants II to be issued in connection with this
Offering, equal to 10% of the Shares and 10% of
the Warrants, respectively, sold by the
Representative in this Offering, and (iii) 375,000
shares issuable upon exercise of the Warrants
offered in this Offering. See "Description of
Securities" and "Plan of Distribution."
4
<PAGE> 13
WARRANTS TO BE OUTSTANDING
AFTER THE OFFERING.......... 375,000 Warrants. Excludes Representative's
Warrants. Excludes Warrants issued under the
over-allotment option for the Warrants. See "Plan
of Distribution".
USE OF PROCEEDS............. The estimated net proceeds of $1,282,078, assuming
that the maximum of 375,000 Shares and the maximum
of 375,000 Warrants are sold in this Offering
("Maximum Offering"), at an assumed offering price
of $4.00 per share, are intended to be used for
general corporate purposes, including (i)
contribution towards tenant improvement costs for
the Tsuen Wan center and initial lease deposit for
the Macau center; (ii) corporate public relations,
and (iii) purchase of exercise equipment. In the
event the Maximum Offering is not achieved, the
Offering will be terminated and the Company will
not receive any proceeds therefrom. See "Use of
Proceeds"
PROPOSED NASDAQ SYMBOL...... Common Stock: PFIT. Common Stock Purchase
Warrants: PFITW.
RISK FACTORS................ The securities offered hereby involve a high
degree of risk and immediate substantial dilution.
See "Risk Factors."
5
<PAGE> 14
SUMMARY SELECTED CONSOLIDATED FINANCIAL DATA
(IN THOUSANDS, EXCEPT PER SHARE DATA)
The following selected financial data are qualified by reference to, and should
be read in conjunction with, the Consolidated Financial Statements, related
Notes to Consolidated Financial Statements and Report of Independent Public
Accountants, and Management's Discussion and Analysis of Financial Condition and
Results of Operations contained elsewhere herein. The following tables summarize
certain selected financial data of the Company for the fiscal years/period ended
September 30, 1994, December 31, 1995, December 31, 1996 and nine month periods
ended September 30, 1996 and 1997. The data has been derived from Consolidated
Financial Statements included elsewhere in this Prospectus that were audited by
Arthur Andersen & Co., independent public accountants, except for the
information relating to the nine months ended September 30, 1996 and 1997, which
is unaudited but in the opinion of the Company's management reflects all
adjustments, consisting only of normal recurring adjustments that the Company
considers necessary for a fair presentation of the information in accordance
with generally accepted accounting principles. Physical Health Center Hong Kong
Limited paid dividends in fiscal year 1995.
<TABLE>
<CAPTION>
Year ended September 30, Year ended December 31, Nine months ended September 30,
1994 1995 1996 1996 1996 1997 1997
--------- --------- --------- --------- --------- --------- ---------
HK$ HK$ HK$ US$ HK$ HK$ US$
(audited) (audited) (audited) (unaudited)
CONSOLIDATED STATEMENTS OF OPERATIONS DATA:
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Operating Revenues $ 69,651 $ 85,262 $ 113,215 $ 14,608 $84,915 $106,133 $13,695
Operating Expenses 55,625 60,827 79,553 10,265 59,224 83,376 10,759
Provision for income taxes 1,779 4,434 8,699 1,122 7,907 4,769 614
NET INCOME 10,820 17,533 22,796 2,942 15,917 15,492 1,999
--------- --------- --------- --------- --------- --------- ---------
Net income per share (2)(3) $ 1.44 $ 2.34 $ 3.04 $ 0.39 $ 2.12 $ 2.07 $ 0.27
========= ========= ========= ========= ========= ========= =========
Weighted average number of
shares outstanding (3) 7,500,000 7,500,000 7,500,000 7,500,000 7,500,000 7,500,000 7,500,000
========= ========= ========= ========= ========= ========= =========
</TABLE>
(1) Translation of amounts from Hong Kong Dollars into United States Dollars
(US$) for the convenience of the reader has been made at the exchange rate
quoted by the South China Morning Post on December 31, 1997 of US$1.00 =
HK$7.75. No representation is made that the Hong Kong Dollar amounts could
have been, or could be, converted into United States Dollars, at that rate
on December 31, 1997 or at any other certain rate.
(2) The earnings per share are calculated using the common stock and common
stock equivalents, as if the shares existing as of the date of this
Registration Statement had been outstanding throughout periods presented.
(3) 1994 and 1995 pro-formas. The results were stated as if Physical Limited
were a holding company.
<TABLE>
<CAPTION>
As Adjusted
Year ended December 31, As of September 30, 1997 (1)(2)(3)
--------------------- --------------------- ---------
1995 1995 1996 1996 Actual Actual
--------- --------- --------- --------- --------- ---------
HK$ US$ HK$ US$ HK$ US$ US$
(audited) (audited) (Unaudited)
BALANCE SHEET DATA:
<S> <C> <C> <C> <C> <C> <C> <C>
Current assets $ 31,799 $ 4,103 $ 47,880 $ 6,178 $ 49,641 $ 6,406 $ 7,688
Total assets 72,930 9,410 117,693 15,187 163,651 21,118 22,400
Current liabilities 43,041 5,554 62,093 8,012 92,752 11,969 11,969
Long-term obligations 24,817 3,202 27,624 3,565 27,392 3,535 3,535
Working capital (11,242) (1,451) (14,213) (1,834) (43,111) (5,563) (4,281)
Obligations under finance leases 181 23 3,955 511 14,006 1,809 1,809
Deferred income taxes - 1,753 226 2,800 361 361
Minority interest 4,540 586 4,857 627 6,550 845 845
Shareholders' equity 5,072 654 27,976 3,610 43,507 5,614 6,896
</TABLE>
(1) Assumes receipt of net proceeds from the Offering of $1,282,078.
(2) Excludes (i) 56,250 shares of Common Stock included in the Representative's
over-allotment option and 56,250 shares underlying the 56,250 Warrants issuable
under the Representative's over-allotment option for the Warrants; (ii) the
shares of Common Stock issuable upon exercise of the Representative's Warrants
to be issued in conjunction with this Offering; and (iii) 375,000 shares of
Common Stock reserved for issuance under the Company's stock option plans. See
"Description of Securities" and "Plan of Distribution".
(3) Excludes 375,000 shares issuable upon exercise of the Warrants offered
hereby.
6
<PAGE> 15
RISK FACTORS
AN INVESTMENT IN THE SECURITIES OFFERED IN THIS PROSPECTUS INVOLVES A
HIGH DEGREE OF RISK AND SHOULD ONLY BE MADE BY PERSONS WHO CAN AFFORD THE LOSS
OF THEIR ENTIRE INVESTMENT. ACCORDINGLY, PROSPECTIVE INVESTORS SHOULD CONSIDER
CAREFULLY THE FOLLOWING FACTORS, IN ADDITION TO THE OTHER INFORMATION CONCERNING
THE COMPANY AND ITS BUSINESS CONTAINED IN THIS PROSPECTUS, BEFORE PURCHASING THE
SECURITIES OFFERED HEREBY.
RISKS RELATING TO OPERATIONS IN CHINA AND HONG KONG
---------------------------------------------------
The Company provides its services exclusively to residents of Hong Kong
and China. The Company expects to continue to focus its expansion efforts in the
Chinese markets. As such, there are risks involved with the conduct of the
Company's business in China and Hong Kong, including the following:
INTERNAL POLITICAL RISKS. The Company's interests may be adversely
affected by the political environment in China. China is a communist country
which since 1949 has been, and is expected to continue to be, controlled by the
Communist Party of China. Changes in the top political leadership of the Chinese
government may have a significant impact on policy and the political and
economic environment in China. Moreover, economic reforms and growth in China
have been more successful in certain provinces than in others, and the
continuation or increase of such disparities could affect political or social
stability. China only recently has permitted greater flexibility in its economic
sector, however, the government of China has exercised and continues to exercise
substantial control over virtually every section of the Chinese economy through
regulation and state ownership. Accordingly, government actions in the future,
including any decision not to continue to support the economic reform program
that commenced in the late 1970's and possibly to return to the more
centrally-planned economy that existed prior thereto, could have a significant
effect on economic conditions in China and on the operations of the Company.
INTERNAL ECONOMIC RISKS. The Company's interests may be adversely
affected by the economic environment in China. The economy of China differs
significantly from the economies of the United States and Western Europe in such
respects as structure, level of development, gross national product, growth
rate, capital reinvestment, resource allocation, self-sufficiency, rate of
inflation (see "Inflation" below), and balance of payments position, among
others. Only recently has the Chinese government encouraged substantial private
economic activities.
The Chinese economy has experienced significant growth in the past five
years, but such growth has been uneven among various sectors of the economy and
geographic regions. Actions by the Chinese central government to control
inflation have significantly restrained economic expansion recently. Similar
actions by the central government of China in the future could have a
significant adverse effect on economic conditions in China and the economic
prospects of the Company.
INFLATION. The annual inflation rate in the PRC was approximately 21.7%,
14.8%, 8.3% and 8% in 1994, 1995, 1996 and 1997, respectively. The Company does
not consider that inflation in the PRC has a material impact on its results of
operations in recent years. No assurance can be given that inflation in the PRC
will not have a material adverse effect on the business, financial condition and
results of operations of the Company in the future. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations".
LEGAL SYSTEM. China's legal system is a civil law system which is based
on written statutes and in which decided legal cases have little precedential
value. China does not have a well developed, consolidated body of laws governing
enterprises with foreign investments. As a result, the administration of laws
and regulations by government agencies may be subject to considerable
discretion. As legal systems in China develop, foreign business entities may be
adversely affected by new laws, changes to existing laws (or interpretations
thereof) and preemption of provincial or local laws by national laws. In
circumstances where adequate laws exist, it may not be possible to obtain swift
and equitable enforcement thereof. See "Business - China".
7
<PAGE> 16
FOREIGN CURRENCY EXCHANGE. Substantially all of the Company's revenues,
expenses and liabilities are denominated in Renminbi ("Rmb"), the currency of
China, Hong Kong dollars or U.S. dollars. The Company is therefore subject to
the effects of exchange rate fluctuations between these currencies. The Company
does not expect, however, to be subject to specific fluctuations in the Hong
Kong dollar/U.S. dollar exchange rate, as the Hong Kong dollar has been
officially linked to the U.S. dollar since October, 1983. However, there can be
no assurances this situation will continue. Rmb is not a freely convertible
currency. Both conversion of Rmb into foreign currencies and the remittance of
Rmb abroad are subject to PRC government approval. The Company earns its
revenues, and incurs the majority of its costs, in Rmb, through its operations
in China. Prior to January 1, 1994 Rmb that were earned within the PRC were not
freely convertible into foreign currencies except with government permission, at
rates determined in place at swap centers, where the exchange rates often
differed substantially from the official rates quoted by the People's Bank of
China. On January 1, 1994, the People's Bank of China introduced a managed
floating exchange rate system based on the market supply and demand and proposed
to establish a unified foreign exchange, inter-bank market among designated
banks. As a result of the unitary exchange rate system introduced on January 1,
1994, the official bank exchange rate for conversion of Rmb to U.S. dollar
experienced a devaluation of approximately 50%. In place of the official rate
and the swap center rate, the People's Bank of China publishes a daily exchange
rate for Rmb based on the previous day's dealings in the inter-bank market
("PBOC Rate"). It is expected that swap centers will be phased out in due
course. However, the unification of exchange rates does not imply full
convertibility of Rmb into US Dollars or other foreign currencies. While
conversion of Rmb into US Dollars or other foreign currencies can generally be
effected at the swap center, there is no guarantee that it can be effected at
all times.
The Company's operations in China conducted through Shanghai Joint
Venture and Dalian Joint Venture, and their financial performance and condition
are measured in terms of Rmb. The revenues and profits of Shanghai and Dalian
Joint Ventures are predominantly denominated in Rmb, and require conversion into
US Dollars or HK Dollars. Should the Rmb devalue against these currencies, such
devaluation would have a material adverse effect on the Company's profits and
the foreign currency equivalent of such profits contributed by the Shanghai and
Dalian Joint Ventures to the Company. The Company currently is not able to hedge
its exchange rate exposure in China, because neither the banks in China nor any
other financial institution authorized to engage in foreign exchange
transactions offer forward exchange contracts.
The following table sets forth certain information concerning exchange
rates between Renminbi ("Rmb") and U.S. dollars for the periods indicated:
8
<PAGE> 17
NOON BUYING RATE (1)
PERIOD Period End (2) Average (2)(3) High (2) Low (2)
- --------------------------------------------------------------------------------
1991 5.4478 5.3343 5.4478 5.2352
1992 5.7662 5.5214 5.9007 5.4124
1993 5.8145 5.7769 5.8245 5.7076
1994 8.4662 8.6303 8.7409 8.4662
1995 8.3374 8.3685 8.4584 8.3203
1996 8.2982 8.3139 8.3338 8.2970
1997 8.3184 8.3225 8.3290 8.2911
Source: Federal Reserve Bank of New York
(1) Prior to the adoption of the PBOC Rate in 1994, there was significant
variation between the Official Rate and the rates obtainable at Swap
Centers, such as the Shanghai Swap Center. After January 1, 1994, there have
not been significant differences between the Noon Buying Rate, the PBOC Rate
and the Shanghai Swap Center Rate.
(2) Rmb per US dollar
(3) Determined by averaging the rates on the last business day of each month.
The Hong Kong dollar is freely exchangeable into other currencies
(including the U.S. dollar). Since October 17, 1983, the Hong Kong dollar has
been officially linked to the U.S. dollar at the rate of US$1.00=HK$7.80.
However, the market exchange rate of the Hong Kong dollar against the U.S.
dollar continues to be determined by the forces of supply and demand in the
foreign exchange rates market. Exchange rates between the Hong Kong dollar and
other currencies are influenced by the rate between the U.S. dollar and the Hong
Kong dollar.
Pursuant to the Sino-British Joint Declaration, with effect from July 1,
1997, Hong Kong became a Special Administrative Region of China ("SAR"). The
Basic Law of the Hong Kong SAR provides that the Hong Kong dollar will remain
the legal tender in the Hong Kong SAR after June 30, 1997. The Basic Law also
provides that no exchange control policies shall be applied in the Hong Kong SAR
and that the Hong Kong dollar shall be freely exchangeable.
The following table sets forth certain information concerning exchange
rates between the Hong Kong dollar ("HK$") and U.S. dollars for the periods
indicated:
NOON BUYING RATE
PERIOD Period End (1) Average (1)(2) High (1) Low (1)
- --------------------------------------------------------------------------------
1991 7.7800 7.7712 7.8025 7.7155
1992 7.7430 7.7402 7.7767 7.7237
1993 7.7280 7.7357 7.7650 7.7230
1994 7.7375 7.7290 7.7530 7.7225
1995 7.7345 7.7357 7.7665 7.7268
1996 7.7345 7.7342 7.7444 7.7160
1997 7.7430 7.7449 7.7550 7.7340
Source: Federal Reserve Bank of New York
(1) HK$ per US$
(2) Determined by averaging the rates on the last business day of each month.
9
<PAGE> 18
HONG KONG. The Company is headquartered in Hong Kong and currently
operates six fitness and spa facilities there. Accordingly, the Company may be
materially adversely affected by factors affecting Hong Kong's political
situation and its economy or in its international political and economic
relations. Hong Kong was a British Crown Colony, but sovereignty over Hong Kong
was transferred to China on July 1, 1997 and Hong Kong became a Special
Administrative Region ("SAR") of the PRC. As provided in the Sino-British Joint
Declaration on the Question of Hong Kong and the Basic Law of the Hong Kong SAR
of the PRC (the "Basic Law"), the Hong Kong SAR shall have a high degree of
autonomy except in foreign affairs and defense. Under the Basic Law, the Hong
Kong SAR is to have its own legislature, legal and judicial system and economic
autonomy for 50 years. Although, based on the current political conditions and
the Company's understanding of the Basic Law, the Company does not believe that
the transfer of sovereignty over Hong Kong will have a material adverse effect
on the Company's business, financial condition or results of operations of the
Company in the future, there can be no assurance as to the continued stability
of political, economic or commercial conditions in Hong Kong.
ENFORCEABILITY OF CERTAIN CIVIL LIABILITIES. The directors and officers
of the Company reside outside of the United States and all of the assets of such
persons are located outside the United States. As a result, it may not be
possible for investors to effect service of process within the United States
upon such persons, or to enforce against the Company's assets or such persons
judgments obtained in United States courts predicated upon the liability
provisions of the United States securities laws. There is substantial doubt as
to the enforceability against a substantial portion of the Company's assets or
any of its directors and officers located outside the United States in original
actions or in actions for enforcement of judgments of United States courts of
liabilities predicated solely on the civil liability provisions of the Federal
securities laws. The Company's agent for process in the United States is Inc.
Plan (USA), 802 West Street, Wilmington, DE 19801. .
The Company has been advised that no treaty exists between Hong Kong and
the United States providing for the reciprocal enforcement of foreign judgments.
However, the courts of Hong Kong are generally prepared to accept a foreign
judgment as evidence of a debt due. An action may then be commenced in Hong Kong
for recovery of this debt. A Hong Kong court will only accept a foreign judgment
as evidence of a debt due if: (I) the judgment is for a liquidated amount in a
civil matter; (ii) the judgment is final and conclusive and has not been stayed
or satisfied in full; (iii) the judgment is not directly or indirectly for the
payment of foreign taxes, penalties, fines or charges of a like nature (in this
regard, a Hong Kong court is unlikely to accept a judgment for an amount
obtained by doubling, trebling or otherwise multiplying a sum assessed as
compensation for the loss or damage sustained by the person in whose favor the
judgment was given); (iv) the judgment was not obtained by actual or
constructive fraud or duress; (v) the foreign court has taken jurisdiction on
grounds that are recognized by the common lay/ rules as to conflict of laws in
Hong Kong (vi) the proceedings in which the judgment was obtained were not
contrary to natural justice (i.e., the concept of fair adjudication); (vii) the
proceedings in which the judgment was obtained, the judgment itself and the
enforcement of the judgment are not contrary to the public policy of Hong Kong;
(viii) the person against whom the judgment is given is subject to the
jurisdiction of the Hong Kong court; and (ix) the judgment is not on a claim for
contribution in respect of damages awarded by a judgment which does not satisfy
the foregoing. Enforcement of a foreign judgment in Hong Kong may also be
limited or affected by applicable bankruptcy, insolvency, liquidation,
arrangement, moratorium or similar laws relating to or affecting creditors'
rights generally and will be subject to a statutory limitation of time within
which proceedings may be brought.
COMPLIANCE WITH GOVERNMENT REGULATIONS. The Company is required to
comply with strict government regulations in operation of its fitness and spa
facilities in Hong Kong and China (see "Company - Government Regulation"). The
non-compliance with such regulations may have an adverse negative effect on the
Company's operations.
10
<PAGE> 19
RISKS RELATING TO THE COMPANY
- -----------------------------
DEPENDENCE ON KEY PERSONNEL. The Company's success depends, to a
significant extent, upon a number of key employees. The loss of services of one
or more of these employees could have a material adverse effect on the business
of the Company. The Company believes that its future success will also depend in
part upon its ability to attract, retain and motivate qualified personnel, and
the maintenance of employment agreements with certain key officers.
Competition for such personnel is intense. There can be no assurance that the
Company will be successful in attracting and retaining such personnel. The
Company does not have "key person" life insurance on any of its key employees.
The Company's success, to a large extent, depends upon the continued services
of certain executive officers, particularly Mr. Luk, Chairman of the Board of
Directors and Chief Executive Officer and Ms. Jill Bodnar, President. See
"Management"
The Company intends to continue to hire additional personnel as
necessary to meet its management, marketing, operating and administrative
service needs from time to time. Although the Company believes that, as of this
date, it has been successful in attracting and retaining highly qualified
professionals and other personnel as required by its business, there can be no
assurance that the Company will continue to be successful in this regard. The
Company believes that the future success and development of its business is
dependent to a significant degree on its ability to continue to attract such
individuals. See "Business -- Employees"'
DEPENDENCE ON QUALIFIED FITNESS AND SPA PROFESSIONALS. The success of
the Company is dependent upon its continuing ability to recruit, train and
retain qualified fitness and spa professionals in Hong Kong and China. The
Company faces competition for these personnel from other fitness and spa service
providers, and other organizations throughout the world. The availability of
such personnel is limited, and the inability to recruit and maintain
relationships with these individuals in China could have a material adverse
effect on the Company's future growth and operations. This fact is particularly
significant for the Company, since qualified Western or similar fitness and spa
professionals may have to be recruited from outside China and replacing any such
professionals may require significant recruiting efforts and lead time. In
addition, the costs of housing and otherwise compensating such professionals may
be relatively high in light of the housing costs in certain cities in China.
There can be no assurance that the Company will be successful in attracting,
hiring and retaining these qualified fitness and spa professionals. The
unavailability of sufficient numbers of qualified personnel could have a
material adverse effect on the Company's operations. In addition, a shortage of
skilled personnel or the delay resulting from a need to train personnel could
have a material adverse effect on the Company's results of operations.
COMPETITION. The Company is among the largest commercial operators of
fitness/spa centers in Hong Kong in terms of revenues, number of members and
number and square footage of facilities. The Company is also among the largest
operators of fitness centers in China. The Company believes its fitness centers
generally offer a high level of amenities to its primary target market, the 18
to 34-year old women, middle income segment of the population in Hong Kong and
China. Within each market, the Company competes with other fitness centers,
physical fitness and recreational facilities established by local governments
and similar organizations, and, to a certain extent, with athletic clubs, weight
reducing salons and the home-use fitness equipment industry and beauty salons.
However, the Company believes that its operating experience and expertise, its
ability to recover advertising and administration costs over all its fitness
centers, the scope of its operations and its account processing infrastructure
provide an advantage over its competitors.
The Company believes that competition has increased in certain areas of
Hong Kong. The Company believes that this increase reflects the public's
enthusiasm for fitness and the decrease in the cost of entering the market due
to financing available from leasing arrangements for the premises and equipment.
The Company believes that its membership plans are affordable and have the
flexibility to be responsive to economic conditions. However, the Company also
competes with other entertainment and retail business for the discretionary
income of its target market. In the Company's opinion, fitness and spa
facilities in China do not currently provide specialized Western standard
fitness and spa services of the standard the Company provides. There can be no
assurance that existing or new facilities will not commence such operations and
compete with the Company. Further, there can be no assurance that a qualified
Western, or other fitness and spa organizations, with greater resources or more
experience than the Company in the provision of these services, will not decide
to engage in operations similar to those offered by the Company. See "Business -
Competition".
11
<PAGE> 20
RELATED PARTY TRANSACTIONS. In the past, the Company has entered into
business transactions with certain affiliates and may continue to enter into
such transactions in the future, however, the policy of the Company is that such
transactions with related persons shall have the terms thereof are at least as
favorable to the Company as those that could be obtained from unaffiliated third
parties. Ngai Keung Luk (Serleo), the Company's Chairman and Chief Executive
Officer, received certain loans from the Company which have been extended to Mr.
Luk over a period of time prior to December 31, 1996 in the original principal
amount of HK$16.5 million (US$2.1 million) (the "Loan"). Mr. Luk agreed to repay
the Loan in eight installments by March 31, 1999, at a prime interest rate of
8.75%, together with the accrued interest thereon. Mr. Luk has already repaid
HK$2.3 million (US$297,000) of the outstanding amount of the Loan. The
outstanding principal amount of the Loan and accrued interest, as of September
30, 1997, was HK$14.8 million (US$1,900,000). The second and third installments
of HK$4,600,000 (US$594,000) due on September 30 and December 31, 1997 were
repaid in cash in December, 1997. The remaining outstanding principal amount of
the Loan is secured by a pledge of 1,500,000 pre-split shares of common stock of
the Company by Mr. Luk, as collateral for the Loan. Mr. Luk does not have any
other outstanding loans from the Company. Although there can be no assurance
given that the Loan will be repaid in full by Mr. Luk, the Company does not
expect that Mr. Luk would default on the Loan (based on his past performance) or
that such potential default on the Loan would have a material negative effect on
the Company. See "Certain Transactions."
CERTAIN TAX CONSEQUENCES. The Company is predominantly invested in
foreign subsidiaries. Those subsidiaries are subject to taxes imposed on them in
the foreign jurisdictions in which they operate and in which they are organized.
Further, their income is subject to US federal and state income taxes when
distributed, deemed distributed or otherwise attributed to, the Company, which
is a US corporation. Complex US tax rules apply for purposes of determining the
calculation of those US taxes, the availability of a credit for any foreign
taxes imposed on the foreign subsidiaries or the Company and the timing of the
imposition of US tax. Normally, all foreign income earned by a US multinational
eventually will be subject to US tax. Income earned by a foreign branch of a US
company is taxable currently in the United States, and income earned by a
foreign subsidiary will be subject to US tax either in the year distributed to
the US as a dividend or in the year earned by means of Subpart F, foreign
personal holding company or other federal tax rules requiring current
recognition of certain income earned by foreign subsidiaries. All of the
Company's direct and indirect foreign subsidiaries constitute "controlled
foreign corporations" ("CFCs") for purposes of the Subpart F rules of the
federal Internal Revenue Code. Among other consequences of CFC states, "Subpart
F income," as defined, of the profitable foreign subsidiaries will be directly
taxable to the Company, whether or not distributed to the Company. In general,
Subpart F income is defined as the income and gains of the foreign subsidiary
from its more passive investment-type activities. Subpart F income extends, in
general, however, to include intercompany payments (e.g., payments of dividends,
interest, royalties, etc.) between related foreign group members. Thus, for
example, dividend distributions from the Company's indirect PRC and Hong Kong
subsidiaries to the Company's British Virgin Island subsidiary, Regent Town
Holdings Limited, would cause that dividend income of the British Virgin Island
subsidiary to be directly taxable to the Company, notwithstanding that the
British Virgin Islands does not tax such dividend income, and the British Virgin
Island subsidiary does not distribute that dividend income to the Company, but
retains it. Income earned in foreign countries often is subject to Foreign
income taxes. In order to relieve double taxation, the US federal tax law
generally allows US corporations a credit against their US tax liability in the
year the foreign earnings become subject to US tax in the amount of the foreign
taxes paid on those earnings. The credit is limited, however, under complex
limitation rules, to, in general, the US (pre-credit) tax imposed on the US
corporation's foreign source income. Further, complex rules exist for allocating
and apportioning interest, research and development expenses and certain other
expense deductions between US and foreign sources. Limiting provisions of the
source rules decrease the amount of foreign source income many US multinationals
can generate. Reduced foreign source income results in a smaller foreign tax
credit limitation, as the limitation is based on the ratio of foreign source net
income to total net income. Further, separate income baskets exist for purposes
of the foreign tax credit limitation, which makes it nearly impossible to reduce
the effective foreign tax rate on higher-taxed foreign operating income by
diluting income in the overall basket with relatively low-taxed foreign
investment income. These rules can prevent US multinationals from crediting all
of the foreign taxes they pay. To the extent that foreign taxes are not
creditable, foreign source income bears a tax burden higher than the US tax
rate. See "Taxation".
LACK OF DIVIDENDS. The Company has never paid any cash dividends on its
Common Stock and does not anticipate paying any cash dividends in the future.
Physical Health Centre Hong Kong Limited, the subsidiary of the company acquired
by the Company in October, 1996, paid dividends of HK$32,800,000 (US$4,200,000)
in 1995. The Company currently intends to retain future earnings, if any, to
fund the development and growth of its business. See "Price Range of Securities
and Dividend Policy."
12
<PAGE> 21
LACK OF PRODUCT LIABILITY INSURANCE. The Company does not maintain
product liability insurance with respect to the cosmetics/spa products used in
its centers. Users of the products used in the Company's centers could suffer,
or could claim to suffer, adverse effects from the products used in the
Company's centers. There can be no assurances given that the Company (i) will
not be named as a defendant in products liability litigation, (ii) will be able
to obtain product liability insurance for such products when it seeks to do so
or (iii) will be able to pay the premiums required to maintain coverage on any
such policies obtained. A recovery by a potential claimant in excess of the
liability coverage could have a material adverse effect on the Company.
LIMITATIONS OF SINO-FOREIGN JOINT VENTURES. The Company operates three
fitness and spa centers in China through joint ventures with the Chinese
partners, as such form of business entity is preferred by the Chinese
authorities. The term of Shanghai Joint Venture expires in 2003, and the term of
Dalian Joint Venture expires in 2007 (see "Company Organization" ). There can be
no assurances given that the joint ventures will be extended to continue their
operations. The Company also entered into joint venture contracts with two
additional joint venture partners, however, those joint ventures have not
commenced operations yet, and have not received necessary business permits.
According to the laws in the PRC and the terms of the joint venture contracts,
both joint venture partners are obliged to fulfill their capital contribution
requirements into the joint venture within a specified period of time after the
issue of the business license. As of the date of this Prospectus, however, both
joint venture partners have not contributed the required capital according to
the requirements of the contract. Such default in the funding obligations will
require renegotiations between the two partners and may also trigger default
remedies as specified in the joint venture contract. Further, a failure to meet
regulatory time limits set by the State Administration of Industry and Commerce
for capital contributions could result in the cancellation of the approval of
the joint venture's business license. Both joint venture partners are in the
process of applying to the relevant authorities for an extension of such time
limits. There can be no assurances given that the new joint ventures partners
will satisfy the above obligations or that the joint ventures will commence
operations as planned. See "Company - Organization".
INSUFFICIENT SERVICEMARK PROTECTION. The Company registered a
servicemark under its trade name "Physical Ladies' Club" in Hong Kong and its
Chinese equivalent name in China. In the opinion of the Company's trademark
counsel in Hong Kong, the registration enables the mark to distinguish the
Company's services from similar services of others, although it gives Company no
right to the exclusive use of the words. The servicemark gives the Company a
priority over the use of the servicemark by others and the right to reject
others from the use of the same name. In China, the Company was only able to
register the name in Chinese language pursuant to the Chinese Trademark Law.
Although the registration of the Company's business name offers some proprietary
protection to the Company, there can be no assurances given that the Company's
name will not be infringed upon by another company or that the registration
offers sufficient protection for the Company's name, which may have an adverse
effect on the Company's operations. Furthermore, in case of such infringement,
enforcement of existing laws may be uncertain and sporadic and implementation
and interpretation thereof inconsistent. The Chinese judiciary is relatively
inexperienced in enforcing the laws that exist, leading to a higher than usual
degree of uncertainty as to the outcome of any litigation.
NO ASSURANCE OF SUCCESS OF PLANNED BUSINESS EXPANSION. The Company is
engaged in an effort to effectuate an opening of additional fitness and spa
centers to expand its operations. There is, and can be, no assurance that this
business expansion will be realized. A considerable part of the capital
expenditures required for this business expansion have been obtained or made
available by the Company's cash flow, lines of credit and partially will be
provided through the proceeds of this Offering. There can be no assurances given
that these additional funds will be obtained. Further, the success of this
planned business expansion may be affected by many other factors which are not
in the Company's control, such as political and economic decisions made by the
Chinese government and economic developments affecting the Company's business.
The Company needs to obtain new leases or extend the existing ones to secure new
or existing centers, and there can be no assurances given that such leases will
be obtained or that the Company can secure suitable locations for the new
centers. Furthermore, no assurances can be given that the new fitness and spa
centers, if opened, will operate profitably. See "Company - Properties".
13
<PAGE> 22
RISKS PERTAINING TO THIS OFFERING
- ---------------------------------
CONTROL BY EXISTING SHAREHOLDER, OFFICER AND DIRECTOR. Upon completion
of this Offering, the Company's existing shareholder, Mr. Luk Ngai Keung, will
beneficially own approximately 76.19% of the outstanding Common Stock
(approximately 75.65% if the Underwriters' overallotment options are exercised
in full). Mr. Luk is also the Company's Chairman of the Board of Directors and
Chief Executive Officer. See "Principal Shareholders." Investors purchasing
shares pursuant to this Offering (including the shares offered by the Selling
Shareholders and based on 7,875,000 shares outstanding after the Offering) will
beneficially own approximately 7.14% of the outstanding Common Stock
(approximately 7.80% if the Underwriters' overallotment options are exercised in
full). As a result, Mr. Luk will have the ability to control the Board of
Directors and policies of the Company. The Company has appointed two independent
directors to its Board of Directors who will be heading its proposed audit
committee. See "Management" and "Certain Transactions."
NO ASSURANCE OF PUBLIC MARKET FOR SECURITIES; POSSIBLE VOLATILITY OF
SHARE PRICE. Limited public securities market existed prior to this Offering for
the Company's Common Stock. The Company's Common Stock trades sporadically on
the National Association of Securities Dealers' ("NASD") over-the-counter
market, however, the trading volume was negligible for the past three months.
Although the Company intends to apply to have the Common Stock included on the
Nasdaq System, there can be no assurance that an active public trading market
for such securities will be developed or sustained. Accordingly, purchasers of
the Securities may experience substantial difficulty selling such securities.
The offering price of the shares of Common Stock has been determined by
negotiations between the Company and the Representative and are not necessarily
related to the Company's existing market price, asset value, net worth, or other
established criteria of value. See "Price Range of Common Stock" and
"Underwriting."
IMMEDIATE SUBSTANTIAL DILUTION. The shares of Common Stock held by the
Company's current shareholders were acquired at a cost per share substantially
less than that at which the Company intends to sell the Common Stock to
investors in this Offering. As of September 30, 1997, the Company's net tangible
book value per share of Common Stock was $0.75 (based on 7,500,000 post-reverse
split outstanding shares). Based on certain assumptions, purchasers of shares of
the Company's Common Stock in the Offering will experience immediate dilution of
$3.12 per share. See "Dilution."
LACK OF FIRM UNDERWRITING. The Shares and the Warrants are offered
hereby on a "best efforts" and "all or nothing" basis. Since no person has
undertaken to purchase all or any part of this Offering, this Offering is not a
firm underwriting, and there can be no assurance that any Shares or Warrants
will be sold. If the Maximum Offering is not achieved, this Offering will be
terminated and the Company will not receive any proceeds from the Offering, and
the funds will be returned to the subscribers. See "Plan of Distribution".
DETERMINATION OF OFFERING PRICE. The offering price of the Common Stock
has been arbitrarily determined through negotiation between the Company and the
Representative. The offering price of the Common Stock does not necessarily bear
any relationship to the assets, operating results, book value, shareholders'
equity of the Company, limited public trading market of the Company's Common
Stock or any other statistical criterion of value. There can be no assurance
that the Common Stock will trade in the future at market prices in excess of, or
equal to, the offering price herein.
14
<PAGE> 23
SELLING AGENT'S INFLUENCE ON THE MARKET. It is anticipated that all of
the securities offered hereby will be sold to customers of the Selling Agent.
Such customers subsequently may engage in transactions for the sale or purchase
of such securities through or with the Selling Agent. Although they have no
legal obligation to do so, the Selling Agent, from time to time, may become
market makers and may otherwise effect transactions in such securities. To the
extent the Selling Agent do so, they may be influential in any market that might
develop and the degree of participation by the Selling Agent may significantly
affect the price and liquidity of the Company's securities. Such market making
activities, if commenced, may be discontinued at any time or from time to time
by the Selling Agent without obligation or prior notice. Depending on the nature
and extent of the Selling Agent's market making activities and retail support of
the Company's securities at such time, the Selling Agent's discontinuance could
adversely affect the price and liquidity of the securities.
SHARES ELIGIBLE FOR FUTURE SALE. Immediately following the successful
completion of this Offering but without giving effect to the exercise of the
over-allotment options, exercise of the Representative's Warrants or the
issuance of any shares of Common Stock reserved for issuance under the Company's
Stock Option Plans, there will be an aggregate of 7,875,000 post-split
(10,500,000 pre-split) shares of Common Stock issued and outstanding. 1,875,000
post-split (2,500,000 pre-split) of such shares will be freely tradeable in the
public market (except by affiliates of the Company) and 6,000,000 post-split
(8,000,000 pre-split) shares will be "restricted" as that term is defined under
the Securities Act, and in the future may be sold in compliance with Rule 144
under the Securities Act or pursuant to a Registration Statement filed under the
Securities Act. Of the 1,875,000 post-split (2,500,000 pre-split) freely
tradable shares, 375,000 are being issued pursuant to this Offering and 187,500
are being offered hereby by the Selling Shareholders. The remaining 1,312,500
post-split (1,750,000 pre-split) shares were issued previously by the Company
and are held by approximately 624 beneficial owners.
Rule 144 generally provides that a person holding restricted securities
for a period of one year may sell every three months in brokerage transactions
and/or market-maker transactions an amount equal to the greater of one percent
(l %) of (a) the Company's issued and outstanding Common Stock or (b) the
average weekly trading volume of the Common Stock during the four calendar weeks
prior to such sale. Rule 144 also permits, under certain circumstances, the sale
of shares without any quantity limitation by a person who is not an affiliate of
the Company and who has satisfied a two-year holding period. However, all of the
current shareholders of the Company owning 1% or more of the issued and
outstanding Common Stock are subject to Rule 144 limitations on selling.
REQUIREMENTS FOR LISTING SECURITIES ON THE NASDAQ SYSTEM; POSSIBLE
DELISTING OF COMMON STOCK FROM NASDAQ SYSTEM; RISKS RELATING TO LOW-PRICE
STOCKS. The Securities and Exchange Commission has approved rules imposing
stringent criteria for listing securities on the National Association of
Securities Dealers Automated Quotation System ("Nasdaq System"), as well as
standards for maintenance of such listing. The Company has applied for inclusion
of the Common Stock on the Nasdaq System upon the completion of this Offering.
If the Company is unable to meet these criteria for initial listing, this
Offering may be terminated. In addition, if the Company is unable to satisfy
Nasdaq's maintenance criteria in the future, its securities will be subject to
being delisted, and trading, if any, in the Company's securities would
thereafter be conducted in the non-Nasdaq over-the-counter market. Currently,
the Company's Common Stock trades on NASD's over-the-counter market on Bulletin
Board. As a consequence of such delisting, an investor could find it more
difficult to dispose of, or to obtain accurate quotations as to the market value
of, the Company's securities. In addition, in the absence of the securities
being quoted on Nasdaq, the Company having $2,000,000 in net tangible assets, or
the Common Stock having a market price of at least $5.00 per share, trading in
the Common Stock would be covered by Rule 15c2-6 promulgated under the
Securities Exchange Act of 1934 for non-Nasdaq and non-exchange listed
securities. Under this rule, broker-dealers who recommend such securities must
satisfy burdensome sales practice requirements. The Securities Enforcement and
Penny Stock Reform Act of 1990 (the "Reform Act") also requires additional
disclosure in connection with any trades involving a stock defined as a "penny
stock" (generally, according to recent regulations adopted by the Commission,
any equity security that has a market price of less than $5.00 per share,
subject to certain exceptions), including the delivery, prior to any penny stock
transaction, of a disclosure schedule explaining the penny stock market and the
risks associated therewith. In the event that the Common Stock were delisted
subsequently to becoming characterized as either a low-priced or penny stock,
the market liquidity for the Company's securities would be severely affected.
The regulations governing low-priced or penny stocks could limit the ability of
broker-dealers to sell the Company's securities and thus the ability of the
purchasers of this Offering to sell their securities in the secondary market.
15
<PAGE> 24
MAINTENANCE CRITERIA FOR NASDAQ SMALL CAP MARKET. The Company has
applied for inclusion of the Common Stock on The Nasdaq SmallCap Market
("NASDAQ"). In order to continue to be included on NASDAQ, a company must
maintain a minimum $2 million in net tangible assets or $35,000,000 market
capitalization or net income of $500,000 for the last two years of operations,
$4,000,000 market value of public float, 300 shareholders and a minimum bid
price of $1.00 per share. The failure to meet these maintenance criteria in the
future would result in the discontinuance of the inclusion of the Company's
securities on NASDAQ, which could adversely affect the market price of the
Company's securities and the ability of shareholders of the Company to dispose
of their securities.
RISK OF REDEMPTION OF WARRANTS. Commencing one year from the date of
this Prospectus, the Company may redeem the Warrants for $0.05 per Warrant at
any time on thirty (30) days prior written notice, provided the closing bid
price of the Company's Common Stock is at least $8.00 per share for thirty (30)
consecutive business days ending within 15 days of the notice of redemption.
Notice of redemption could force the holders to exercise the warrants and pay
the exercise price at a time when it might be disadvantageous or difficult for
the holder to do so, sell the Warrants at current market price when they might
have otherwise wish to hold the Warrants, or accept the redemption price, which
is likely to be less than the market price of the Warrants at the time of
redemption.
REPRESENTATIVE'S WARRANTS; RISK OF FURTHER DILUTION. The Company has
agreed to sell to the Representative, for nominal consideration, warrants to
purchase up to 10% of the Shares and Warrants, respectively, offered hereby, at
an exercise price equal to 120% of the price at which the Shares and the
Warrants, respectively, are initially offered to the public. The Company has
agreed to register under the Securities Act, and applicable state securities
laws, the Securities issuable upon exercise of the Representative's Warrants at
the expense of the Company. The Representative's Warrants and any profits
realized by the Representative on the sale of the Securities underlying the
Warrants could be considered additional selling agent's compensation. For the
term of the Representative's Warrants, the holders are given, at nominal cost,
the opportunity to profit from the difference, if any, between the exercise
price of the Representative's Warrants and the value of or market price (if any)
for the Securities, with a resulting dilution in the interest of existing
shareholders. The Representative's Warrants may be exercised at a time when in
all likelihood, the Company would be able to obtain any needed capital by a new
placement of securities on terms more favorable than those provided for by the
Representative's Warrants. See "Plan of Distribution".
USE OF PROCEEDS
The gross proceeds from the sale of the Shares and Warrants described
herein will be $1,625,000 ($1,868,750, if the over-allotment options for the
Shares and the Warrants, respectively, are exercised) if the Maximum Offering
amount is obtained and assuming the initial public offering price of $4.00 per
share. The Company will not receive any of the proceeds from the sale of the
shares by the Selling Shareholders. Selling Shareholders will be responsible for
their own selling expenses. The net proceeds to the Company (at an assumed
initial public offering price of $4.00 per share and $0.33 per warrant) from the
sale of the Common Stock and Warrants offered hereby, less the underwriting
discount of 10% ($162,500; $186,875 if the over-allotment options are
exercised), the Representative's non-accountable expense allowance of 3%
($48,750; $56,063, if the over-allotment options are exercised) and expenses of
this Offering (estimated at $131,672) for the total estimated Offering expenses
at $342,922, are estimated to be approximately $1,282,078 ($1,494,140 if the
over-allotment Options for the Shares and the Warrants, respectively, exercised
in full). Based on the Company's present plans which represent the existing and
anticipated business conditions, the Company intends to apply the estimated net
proceeds as follows:
16
<PAGE> 25
<TABLE>
USE OF PROCEEDS
======================================================================================================
<CAPTION>
AMOUNT IF AMOUNT IF
OVER- OVER-
ALLOTMENT ALLOTMENT
OPTION IS NOT OPTION IS
EXERCISED % EXERCISED %
- ------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Exercise equipment $100,000 7.80% $100,000 6.69%
Marketing and investor relations $500,000 39.00% $500,000 33.46%
Lease deposit $125,000 9.75% $125,000 8.37%
Hardware and related software $50,000 3.90% $50,000 3.34%
Contribution toward tenant $507,078 39.55% $719,140 48.14%
-------- ------ -------- ------
improvement costs for Tsuen Wan
center
TOTAL USE OF NET PROCEEDS $1,282,078 100% $1,494,140 100%
</TABLE>
The Company plans to open new facilities in Tsuen Wan, Hong Kong and
Macau by the middle of fiscal year 1998. The Company signed an offer to lease
agreement (subject to the formal lease agreement to be signed later on this
year) with respect to Tsuen Wan center. The lease terms for Macau center are
currently being reviewed by the Company and the lease agreement is expected to
be signed after final terms are negotiated. The Company plans to apply the
portion of the proceeds received under this Offering towards the purchase of
exercise equipment for these two proposed centers and for the payment of the
lease deposit for the Macau center. The Company expects that the average tenant
improvement costs for each new center will be approximately HK$21,000,000
(US$2,700,000) each, and the Company intends to finance them primarily by the
internally generated cashflow of the Company, with the exception of the
contribution from the use of proceeds towards the improvement of the Tsuen Wan
center, as set forth above. There can be no assurances given that the lease
agreements for the two proposed centers will be signed, nor that the Company
will open the two proposed centers as currently planned. In the event the
Maximum Offering is not obtained, the Company may have to use its alternative
sources of financing (see "Management Discussion and Analysis of Financial
Condition and Results of Operations - Liquidity and Capital Resources") or seek
an additional financing, and consequently there is a possibility that the
opening of the new centers may be delayed or postponed by the Company, if such
financing sources are not readily available.
The Company believes that the net proceeds of this Offering, available
sources (such as the existing cash balance) and cash flow from operations, bank
lines of credit and other external sources of debt and equity financing, are
adequate to finance the Company's operating and debt service requirements for
the next twelve months. The amounts actually expended for the proposed purposes
described above could vary significantly depending on the Company's assessment
of the various proposed financing initiatives and expansion of facilities.
Pending such uses, the Company intends to invest the net proceeds from this
Offering in short-term interest-bearing securities.
17
<PAGE> 26
The allocation of net proceeds set forth above represents the Company's
current estimates based upon its current plans and upon certain assumptions
regarding its existing facilities and changing competitive conditions, the
ongoing evaluation and determination of the commercial potential of the
Company's services and the Company's ability to establish additional facilities.
If any of these factors change, the Company may reallocate some of the net
proceeds within or between the above-described categories. The Company believes
that the funds generated by this Offering, together with current resources, will
be sufficient to fund working capital and capital requirements for at least 12
months from the date of this Prospectus.
The foregoing represents the Company's best estimate as to how the
proceeds of the Offering will be expended. The Company reserves the right to
redirect any portion of the funds either amongst the items referred to above, or
such other projects of the Company as management considers to be in the best
interest of the Company.
18
<PAGE> 27
DILUTION
As of September 30, 1997, the Company had the historical net tangible
book value of $5,614,000 or $0.75 per share of issued and outstanding Common
Stock (based on 7,500,000 post-split shares of Common Stock outstanding). After
giving effect to the sale of the Securities offered hereby at an assumed initial
offering price of $4.00 per share and $0.33 per warrant (less underwriting
discounts and estimated expenses of this Offering) and the application of the
net proceeds therefrom, the pro forma net tangible book value at that date would
have been $6,896,000 or $0.88 per share (based on 7,875,000 post-split shares of
Common Stock outstanding). This represents an immediate increase in net tangible
book value of $0.13 per share to existing stockholders and an immediate dilution
of $3.12 per share or 78% to new investors in this Offering. If the public
offering price is higher or lower, the dilution of the investors in this
Offering will be, respectively, greater or lower.
The difference between the public offering price per share of Common
Stock in this Offering and the net tangible book value per share of Common Stock
after this Offering constitutes the dilution to investors in this Offering. Net
tangible book value per share is determined by dividing the net tangible book
value (total assets less intangible assets and total liabilities) by the number
of outstanding shares of Common Stock.
The following table illustrates such per share dilution:
Assumed initial public offering price (per share) $4.00
Net tangible book value per share at
September 30, 1997................................ $0.75
Increase in net tangible book value per share
after the Offering, attributable to the proceeds
of the Offering(1) .............................. $0.13
-------
Pro forma net tangible book value per share after
the Offering (1).................................. $0.88
-------
Dilution per share to new investors............... $3.12
=======
Sales by Selling Stockholders in this Offering will reduce the number of
shares held by the existing stockholders to 7,312,500 or 93% of the total shares
of Common Stock to be outstanding after the Offering (based on the total of
7,875,000 shares of Common Stock to be outstanding after the Offering). Sales by
Selling Stockholders in this offering will also increase the number of shares
held by new investors to 562,500 or 7.14% of the total shares of Common Stock to
be outstanding after the offering (excluding the shares of Common Stock issuable
upon the exercise of 375,00 Warrants offered hereby or the shares of Common
Stock issuable upon exercise of the Representative's Warrants) (7.8% if the
Underwriters' over-allotment options are exercised in full). See "Principal and
Selling Shareholders."
19
<PAGE> 28
PRICE RANGE OF SECURITIES
The Company's Common Stock has been listed on the Bulletin Board of the
NASD's over-the-counter market under the symbol PFIT, since December 1996, but
has been traded only sporadically. As of February 5, 1998, the 52-week trading
range was between $1.50 to $4.75 per share. The Company has applied for
inclusion of the Common Stock on the NASDAQ Small Cap Market ("NASDAQ").
The last reported closing bid price of Common Stock reported by NASD was
on February 5, 1998 at $4.75 per share of Common Stock. As of February 5, 1998,
there were approximately 624 record holders of the Company's Common Stock. The
Company effected a 1.3333-for-1 reverse split of its Common Stock in October
1997.
DIVIDEND POLICY
The Company has never paid any cash dividends on its Common Stock and
does not anticipate paying any cash dividends in the future. Physical Health
Centre Hong Kong Limited, the subsidiary of the company acquired by the Company
in October, 1996, paid dividends out in 1995. The Company currently intends to
retain future earnings, if any, to fund the development and growth of its
business.
20
<PAGE> 29
CAPITALIZATION
The following table sets forth the capitalization of the Company as of
September 30, 1997 and as adjusted to give effect to the sale by the Company of
375,000 shares at an assumed initial offering price of $4.00 per share and
375,000 Warrants at an offering price of $0.33 per Warrant, and the application
of the net proceeds of $1,282,078 therefrom.
<TABLE>
<CAPTION>
(IN THOUSANDS)
At September 30, 1997
------------------------
Actual Actual As Adjusted(1)(2)
----------- ----------- -----------
HK$ US$ US$
(unaudited)
<S> <C> <C> <C>
SHORT-TERM DEBT:
Short-term bank borrowings $7,882 $1,017 $1,017
Current portion of long-term bank loan 7,327 945 945
Current portion of capital lease obligations 4,794 619 619
----------- ----------- -----------
Total short-term debt 20,003 2,581 2,581
----------- ----------- -----------
LONG-TERM DEBT:
Long-term bank loans 3,670 474 474
Long-term loans from third parties 0 0 0
Loans from minority shareholders of subsidiaries 5,160 666 666
Capital lease obligations - non current portion 9,212 1,189 1,189
----------- ----------- -----------
Total long-term debt 18,042 2,328 2,328
MINORITY INTEREST: 6,550 845 845
SHAREHOLDERS' EQUITY:
Common stock, $0.001 par value
100,000,000 shares authorized
Issued and outstanding: 7,500,000 shares
outstanding, and 7,875,000 shares as adjusted for
the Offering 78 10 10
Additional paid-in capital 0 0 1,282
Cumulative currency translation adjustments 110 14 14
Retained earnings 43,319 5,590 5,590
----------- ----------- -----------
Total shareholders' equity 43,507 5,614 6,896
----------- ----------- -----------
Total capitalization $68,099 $8,787 $10,070
=========== =========== ===========
</TABLE>
(1) Adjusted to give effect to the sale of 375,000 shares in this Offering (not
including the 56,250 shares underlying the Representative's over-allotment
option and 56,250 shares issuable upon the exercise of the Representative's
over-allotment option to purchase additional 56,250 Warrants); also excludes
any shares of Common stock issuable upon exercise of the Representative's
Warrants. See "Plan of Distribution".
(2) Excludes 375,000 shares issuable upon the exercise of the Warrants offered
in this Offering.
21
<PAGE> 30
SELECTED FINANCIAL DATA
(In thousands, except per share data)
The following selected financial data are qualified by reference to, and
should be read in conjunction with, the Consolidated Financial Statements,
related Notes to Consolidated Financial Statements and Report of Independent
Public Accountants, and Management's Discussion and Analysis of Financial
Condition and Results of Operations contained elsewhere herein. The following
tables summarize certain selected financial data of the Company for the fiscal
years/period ended September 30, 1994, December 31, 1995, December 31, 1996 and
nine months periods ended September 30, 1996 and 1997. The data has been derived
from Consolidated Financial Statements included elsewhere in this Prospectus
that were audited by Arthur Andersen & Co., independent public accountants,
except for the information relating to the nine months ended September 30, 1996
and 1997, which is unaudited but in the opinion of the Company's management
reflects all adjustments, consisting only of normal recurring adjustments that
the Company considers necessary for a fair presentation of the information in
accordance with generally accepted accounting principles.
(In thousands, except per share data)
<TABLE>
<CAPTION>
Nine months Nine months
Year ended Year ended December 31, ended Sept. 30, ended Sept. 30,
------------------------ ------------------------ ------------------------ ------------------------
9/30/1994 12/31/1995 1996 1996 1996 1996 1997 1997
HK$ HK$ HK$ US$ HK$ US$ HK$ US$
(audited) (audited) (unaudited) (unaudited)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
CONSOLIDATED STATEMENTS OF OPERATIONS DATA:
Operating Revenues:
Fitness services $ 24,229 $ 28,075 $ 39,054 $ 5,039 $30,126 $3,887 $55,161 $ 7,118
Beauty treatments 42,463 53,059 72,260 9,324 52,943 6,852 50,862 6,563
Others 2,959 4,128 1,901 245 1,846 238 110 14
----------- ----------- ----------- ----------- ----------- ----------- ----------- -----------
Total operating revenues 69,651 85,262 113,215 14,608 84,915 10,957 106,133 13,695
----------- ----------- ----------- ----------- ----------- ----------- ----------- -----------
Operating Expenses:
Salaries & commissions 17,787 18,609 23,797 3,071 16,869 2,177 26,201 3,381
Rent & related expenses 16,947 18,250 21,185 2,734 15,640 2,018 22,659 2,924
Depreciation 6,877 8,885 11,393 1,470 8,199 1,058 10,974 1,416
Other selling &
administrative expenses 14,014 15,083 23,178 2,990 18,516 2,389 23,542 3,038
----------- ----------- ----------- ----------- ----------- ----------- ----------- -----------
Total Operating Expenses 55,625 60,827 79,553 10,265 59,224 7,642 83,376 10,759
----------- ----------- ----------- ----------- ----------- ----------- ----------- -----------
Income (Loss) from
operations 14,026 24,435 33,662 4,343 25,691 3,315 22,757 2,936
----------- ----------- ----------- ----------- ----------- ----------- ----------- -----------
Other expenses (income), net (879) (790) (885) (114) (613) (79) (1,653) (213)
Interest expenses 1,157 1,158 841 108 583 75 2,460 317
----------- ----------- ----------- ----------- ----------- ----------- ----------- -----------
Total non-operating
(income) expenses 278 368 (44) (6) (30) (4) 807 104
----------- ----------- ----------- ----------- ----------- ----------- ----------- -----------
Income before income taxes
and minority interests 13,748 24,067 33,706 4,349 25,721 3,319 21,950 2,832
Provision for income taxes 1,779 4,434 8,699 1,122 6,592 850 3,722 480
Provisions for deferred taxes - - - - 1,315 170 1,047 135
----------- ----------- ----------- ----------- ----------- ----------- ----------- -----------
Income (loss) before
minority interests 11,969 19,633 25,007 3,227 17,814 2,299 17,181 2,217
Minority interests 1,149 2,100 2,211 285 1,897 245 1,689 218
Net Income 10,820 17,533 22,796 2,942 15,917 2,054 15,492 1,999
----------- ----------- ----------- ----------- ----------- ----------- ----------- -----------
Net income per share (2)(3) $1.44 $2.34 $3.04 $0.39 $2.12 $0.27 $2.07 $0.27
=========== =========== =========== =========== =========== =========== =========== ===========
Weighted average number
of shares outstanding 7,500,000 7,500,000 7,500,000 7,500,000 7,500,000 7,500,000 7,500,000 7,500,000
=========== =========== =========== =========== =========== =========== =========== ===========
</TABLE>
22
<PAGE> 31
(1) Translation of amounts from Hong Kong Dollars into United States Dollars
(US$) for the convenience of the reader has been made at the exchange rate
quoted by the South China Morning Post on December 31, 1997 of US$1.00 =
HK$7.75. No representation is made that the Hong Kong Dollar amounts could
have been, or could be, converted into United States Dollar, at that rate on
December 31, 1997 or at any other certain rate.
(2) The earnings per share is calculated using the common stock and common stock
equivalents, as if the shares existing as of this Registration Statement had
been outstanding throughout periods presented.
(3) 1994 and 1995 pro-formas. The results were stated as if Physical Limited
were a holding company.
<TABLE>
(In thousands, except per share data)
<CAPTION>
Year ended December 31, Nine months ended
----------------------- -----------------
September 30, 1997
------------------
As Adjusted
1995 1995 1996 1996 Actual Actual (1)(2)(3)
---- ---- ---- ---- ------ ------ ---------
HK$ US$ HK$ US$ HK$ US$ US$
CONSOLIDATED BALANCE SHEET DATA:
<S> <C> <C> <C> <C> <C> <C> <C>
Current assets $ 31,799 $ 4,103 $ 47,880 $ 6,178 $ 49,641 $6,406 $7,688
Total assets 72,930 9,410 117,693 15,186 163,651 21,118 22,400
Current liabilities 43,041 5,554 62,093 8,012 92,752 11,969 11,969
Long-term obligations 24,817 3,202 27,624 3,565 27,392 3,535 3,535
Working capital (11,242) (1,451) (14,213) (1,834) (43,111) (5,563) (4,281)
Obligations under finance leases 181 23 3,955 511 14,006 1,809 1,809
Deferred income taxes - - 1,753 226 2,800 361 361
Minority interest 4,540 586 4,857 627 6,550 845 845
Shareholders' equity 5,072 654 27,976 3,610 43,507 5,614 6,896
</TABLE>
(1) Assumes receipt of net proceeds from the offering of $1,282,078
(2) Excludes (i) 56,250 shares of Common Stock included in the Representative's
over-allotment option for the Shares and the 56,250 shares of Common Stock
issuable upon the exercise of the Representative's over-allotment option with
respect to the Warrants; (ii) the shares of Common Stock issuable upon exercise
of the Representative's Warrants to be issued in conjunction with this Offering;
and (iii) 375,000 shares of Common Stock reserved for issuance under the
Company's stock option plans. See "Description of Securities" and "Plan of
Distribution".
(3) Excludes 375,000 shares issuable upon exercise of the Warrants offered
hereby.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
GENERAL
The following discussion should be read in conjunction with "Selected
Consolidated Financial Data" and the Consolidated Financial Statements and Notes
thereto appearing elsewhere in this Prospectus.
Overview
- --------
The Company, through its predecessor companies and its subsidiaries, has
been an established commercial operator of fitness and spa centers in Hong Kong
and China since 1986 (see "Company - History"). The Company currently operates
nine facilities: six in Hong Kong and three in China. Based on the number of the
members of the Company's facilities, management believes that the Company is one
of the top providers of fitness facilities and spa and beauty treatment services
in Hong Kong and China, with approximately 55,000 members. The Company offers to
its customers, at each location, access to a wide range of U.S.- styled fitness
and spa services.
The Company was incorporated on September 21, 1988 in the state of
Delaware under the name of "Foreclosed Realty Exchange, Inc", a development
stage company seeking acquisitions with no material assets or liabilities. Prior
to acquisition of Physical Beauty & Fitness Holdings Limited, a British Virgin
Islands corporation ("Physical Limited"), the Company had no revenue producing
operations, but planned to enter into joint ventures and/or acquisitions
originally in the area of real estate, to expand its operations. In October,
1996, the Company closed a transaction with Ngai Keung Luk (Serleo), a 100%
shareholder of Physical Limited, whereby the Company entered into a Share
Exchange Agreement with Ngai Keung Luk (Serleo), pursuant to which the Company
issued 8,000,000 pre-split (6,000,000 post-split) shares of its Common Stock to
Ngai Keung Luk (Serleo) in exchange for all of the outstanding shares of
Physical Limited (the "Closing"). At the Closing, the then current management of
the Company resigned and was replaced by the current management of the Company.
See "Management."
The Company derives its revenues from two main lines of business:
fitness and spa services. The revenues derived from fitness services steadily
increased from HK$28,075,000 (US$3,623,000) in the fiscal year ended December
31, 1995 to HK$39,054,000 (US$5,039,000) in the fiscal year ended December 31,
1996. The revenue from beauty treatment also increased steadily from
HK$53,059,000 (US$6,846,000) in the year ended December 31, 1995 to
HK$72,260,000 (US$9,324,000) in the fiscal year ended December 31, 1996. The
increase in total operating revenues in fiscal 1996 amounted to 33%.
23
<PAGE> 32
RESULTS OF OPERATIONS
The Company's revenues are derived from its two main lines of business
of fitness and spa services in three principal ways: sale of memberships to
fitness facilities, monthly membership fees and the sale of beauty treatments .
The sale of beauty products and exercise clothing also contributes an
insignificant amount to the total revenues. In respect to fitness services,
customers are invited to join as a member at a fee currently set at
HK$1,500(US$194) for one person. (A current promotion allows two people for
joining fee of HK$1,000 (US$129) each). A monthly subscription fee of HK$299
(US$39) is charged to each customer for the usage of the fitness center and spa
area.
In respect to beauty treatments, the customers may purchase single
treatments, or in packages of ten or more treatments, with quantity discounts
available. There is a wide range of beauty treatments available at prices
ranging from HK$200 (US$26) to HK$3,000 (US$388).
The following table sets forth selected income data as a percentage of
total operating revenue for the periods indicated.
RESULTS OF OPERATIONS
<TABLE>
<CAPTION>
Years Ended Nine Months Ended
----------- -----------------
September 30, December 31, September 30,
------------- ------------ -------------
1994 1995 1996 1996 1997
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Operating Revenues 100.00% 100.00% 100.00% 100.00% 100.00%
Total operating expenses 79.86% 71.34% 70.27% 69.75% 78.56%
Operating income 20.13% 28.66% 29.73% 30.25% 21.44%
Income before income taxes and minority interests 19.73% 28.23% 29.77% 30.29% 20.68%
Provision for income and deferred taxes 2.55% 5.20% 7.68% 9.31% 4.49%
Minority interests 1.65% 2.46% 1.95% 2.22% 1.59%
Net income 15.53% 20.56% 20.14% 18.74% 14.60%
======== ======== ======== ======= ========
</TABLE>
NINE MONTHS ENDED SEPTEMBER 30, 1997 (UNAUDITED) COMPARED TO NINE MONTHS ENDED
SEPTEMBER 30, 1996 (UNAUDITED).
- --------------------------------------------------------------------------------
OPERATING REVENUES. The Company's operating revenues enjoyed strong
growth in the first nine months of 1997 as compared to the first nine months of
1996. Operating revenues for the first nine months of 1997 totaled
HK$106,133,000 (US$13,695,000) compared to HK$84,915,000 (US$10,957,000) in the
first nine months of 1996, representing an increase of 25%. Operating revenues
derived by the Company's fitness services increased 83% to HK$55,161,000
(US$7,118,000) compared to HK$30,126,000 (US$3,887,000) in the first nine months
of 1996. Fitness revenues as a percentage of total revenues were 52% in the
first nine months of 1997 as compared to 35% in the first nine months of 1996.
24
<PAGE> 33
Operating revenues from the Company's beauty treatment business totaled
HK$50,862,000 (US$6,563,000) compared to HK$52,943,000 (US$6,832,000) in the
first nine months of 1996, representing a decrease of 4%. This was mainly due to
the Company's focus on the fitness business during that period of time, which
resulted from the relocation of the Company's two largest centers in Hong Kong
to larger locations and Company's advertising of such relocation and new
premises. The Company also advertised the change in its membership system, which
drew more attention to the fitness business. Beauty treatment revenues as a
percentage of total revenues were 48% in the first nine months of 1997 as
compared to 62% in the first nine months of 1996.
Operating revenues derived from the Company's Hong Kong locations remain
an important contributor to the Company's business, generating HK$89,599,000
(US$11,562,000), or 84% of total operating revenues in the first nine months of
1997 as compared to HK$62,895,000 (US$8,116,000) or 74% of total operating
revenues in the first nine months of 1996.
Operating revenues derived from the Company's China locations generated
HK$16,534,000 (US$2,133,000) or 16% of total operating revenues in the first
nine months of 1997 as compared to HK$22,020,000 (US$2,841,000) or 26% of total
operating revenues in the first nine months of 1996.
OPERATING EXPENSES. The Company's operating expenses for the first nine
months of 1997 totaled HK$83,376,000 (US$10,759,000) compared to HK$59,224,000
(US$7,642,000) in the first nine months of 1996, representing an increase of
41%. Total operating expenses, after taking into account all corporate expenses,
were 79% of total operating revenue, as compared to 70% of last year. This
reflects the additional costs incurred by the Company in following its business
expansion plan.
Operating expenses associated with the Company's Hong Kong locations
were HK$69,767,000 (US$9,003,000), representing an increase of 52% as compared
to HK$45,916,000 (US$5,925,000) in the first nine months of 1996. Hong Kong
operating expenses represented 84% of total operating expenses in the first nine
months of 1997 as compared to 78% of total operating expenses in the first nine
months of 1996. The increase in operating expenses was primarily due to
inflation, additional marketing, administrative and salary costs as a result of
increased revenues and additional costs incurred by two branches in moving to
the new premises.
Operating expenses associated with the Company's China locations were
HK$13,609,000 (US$1,756,000), representing a moderate decrease of 2% due to
inflation as compared to HK$13,309,000 (US$1,717,000) in the first nine months
of 1996. Operating expenses in China represented 16% of total operating expenses
in the first nine months of 1997 as compared to 22% of total operating expenses
in the first nine months of 1996.
TOTAL NON-OPERATING EXPENSES (INCOME). Total non-operating expenses
(income) for the first nine months of 1997 resulted in a net expense of
HK$807,000 (US$104,000) compared to net income of HK$30,000 (US$4,000) in the
first nine months of 1996.
PROVISION FOR INCOME TAXES. Provision for income taxes for the first
nine months of 1997 totaled HK$4,769,000 (US$616,000) compared to HK$7,907,000
(US$1,020,000) in the first nine months of 1996, representing a decrease of 40%.
The effective tax rate of operating income was 22% and 31% respectively. The
decrease in the effective tax rate of operating income was due to the increasing
contribution from Hong Kong operations at the income tax rate of 16.5% compared
with the tax rate of 33% for China operations.
NET INCOME. The Company's net income for the first nine months of 1997
totaled HK$15,492,000 (US$1,999,000) compared to HK$15,917,000 (US$2,054,000)
for the first nine months of 1996, representing a moderate decrease of 3%. The
net income margin in the first nine months of 1997 was 14.6% compared to 18.7%
in the first nine months of 1996, representing an decrease of 4.1%. The
decreased net income reflects increased marketing expenses of the Company.
25
<PAGE> 34
FISCAL YEAR ENDED DECEMBER 31, 1996 COMPARED TO FISCAL YEAR ENDED DECEMBER 31,
1995
- --------------------------------------------------------------------------------
OPERATING REVENUES. The Company's operating revenues increased
significantly in the fiscal year ended December 31, 1996 as compared to the
fiscal year ended December 31, 1995. Operating revenues for the fiscal year
ended December 31, 1996 totaled HK$113,215,000 (US$14,608,000) compared to
HK$85,262,000 (US$11,002,000) in the fiscal year ended December 31, 1995,
representing an increase of 33%. Operating revenues derived by the Company's
fitness services increased 39% to HK$39,054,000 (US$5,039,000) compared to
HK$28,075,000 (US$3,623,000) in the fiscal year ended December 31, 1995. Fitness
revenues as a percentage of total revenues were 34% in the fiscal year ended
December 31, 1996 as compared to 33% in the fiscal year ended December 31, 1995.
The increased revenue reflects increased marketing efforts for the Hong Kong
locations and the opening of the Dalian, China center.
Operating revenues from the Company's beauty treatment business totaled
HK$72,260,000 (US$9,324,000) compared to HK$53,059,000 (US$6,846,000) in the
fiscal year ended December 31, 1995, representing an increase of 36%. Beauty
treatment revenues as a percentage of total revenues were 64% in the fiscal year
ended December 31, 1996 as compared to 62% in the fiscal year ended December 31,
1995.
Operating revenues derived from the Company's Hong Kong locations remain
an important contributor to the Company's business, generating HK$83,822,000
(US$10,816,000), or 74% of total operating revenues in the fiscal year ended
December 31, 1996 as compared to HK$69,243,000 (US$8,935,000) or 81% of total
operating revenues in the fiscal year ended December 31, 1995.
Operating revenues derived from the Company's China locations generated
HK$29,393,000 (US$3,792,000) or 26% of total operating revenues in the fiscal
year ended December 31, 1996 as compared to HK$16,019,000 (US$2,067,000) or 19%
of total operating revenues in the fiscal year ended December 31, 1995.
The number of centers increased to nine at the fiscal year ended
December 31, 1996 compared to eight centers at the fiscal year ended December
31, 1995, reflecting the opening of the Dalian, China center in April, 1996.
OPERATING EXPENSES. The Company's operating expenses for the fiscal year
ended December 31, 1996 totaled HK$79,553,000 (US$10,265,000) compared to
HK$60,827,000 (US$7,849,000) in the fiscal year ended December 31, 1995,
representing an increase of 31%. Operating expenses as a percentage of total
revenues were 70% in the fiscal year ended December 31, 1996 as compared to 71%
in the fiscal year ended December 31, 1995.
Operating expenses associated with the Company's Hong Kong locations
were HK$60,929,000 (US$7,862,000), representing an increase of 18% as compared
to HK$51,598,000 (US$6,658,000) in the fiscal year ended December 31, 1995. Hong
Kong operating expenses represented 77% of total operating expenses in the
fiscal year ended December 31, 1996 as compared to 85% of total operating
expenses in the fiscal year ended December 31, 1995.
Operating expenses associated with the Company's China locations were
HK$18,624,000 (US$2,403,000), representing an increase of 102% as compared to
HK$9,229,000 (US$1,191,000) in the fiscal year ended December 31, 1995.
Operating expenses in China represented 23% of total operating expenses
in the fiscal year ended December 31, 1996 as compared to 15% of total operating
expenses in the fiscal year ended December 31, 1995. The increase in operating
expenses was primarily due to inflation and additional marketing,
administrative, salary and rental costs incurred by the new center in Dalian,
China.
TOTAL NON-OPERATING EXPENSES (INCOME). Total non-operating expenses
(income) for the fiscal year ended December 31, 1996 totaled net income of
HK$44,000 (US$6,000) compared to a net expense of HK$368,000 (US$47,000) in the
fiscal year ended December 31, 1995, representing an increase of HK$412,000
(US$53,000) or 112%.
26
<PAGE> 35
PROVISION FOR INCOME TAXES. Provision for income taxes for the fiscal
year ended December 31, 1996 totaled HK$8,699,000 (US$1,122,000) compared to
HK$4,434,000 (US$572,000) in the fiscal year ended December 31, 1995,
representing an increase of 96%. The effective tax rate of operating income was
26% and 18% respectively. The increase in the effective tax rate of operating
income was due to the 33% income tax rate in China and a provision of deferred
taxation of HK$1,753,000 (US$226,000) in Hong Kong. As the contribution from
China operations increased, the higher income tax rate applicable in China
therefore made up a larger portion of the tax provision.
NET INCOME. The Company's net income for the fiscal year ended December
31, 1996 totaled HK$22,796,000 (US$2,942,000) compared to HK$17,533,000
(US$2,262,000) in the fiscal year ended December 31, 1995, representing an
increase of 30%. The net income margin for the fiscal year ended December 31,
1996 was 20% and was 21% for the fiscal year ended December 31, 1995. The
increased net income reflects intensified marketing efforts that resulted in an
additional contribution from existing centers in Hong Kong and China and a
contribution from the new center in Dalian, China that opened in April, 1996.
FISCAL YEAR ENDED DECEMBER 31, 1995 COMPARED TO FISCAL YEAR ENDED SEPTEMBER 30,
1994
- --------------------------------------------------------------------------------
OPERATING REVENUES. The Company's operating revenues increased
significantly in the fiscal year ended December 31, 1995 as compared to the
fiscal year ended September 30, 1994. Operating revenues for the fiscal year
ended December 31, 1995 totaled HK$85,262,000 (US$11,002,000) compared to
HK$69,651,000 (US$8,987,000) in the fiscal year ended September 30, 1994,
representing an increase of 22%. Operating revenues derived by the Company's
fitness services increased 16% to HK$28,075,000 (US$3,623,000) compared to
HK$24,229,000 (US$3,127,000) in the fiscal year ended September 30, 1994.
Fitness revenues as a percentage of total revenues were 33% in the fiscal year
ended December 31, 1995 as compared to 35% in the fiscal year ended September
30, 1994.
Operating revenues for the Company's beauty treatment business totaled
HK$53,059,000 (US$6,846,000) compared to HK$42,463,000 (US$5,478,000) in the
fiscal year ended September 30, 1994, representing an increase of 25%. Beauty
treatment revenues as a percentage of total revenues were 62% in the fiscal year
ended December 31, 1995 as compared to 61% in the fiscal year ended September
30, 1994.
Operating revenues derived from the Company's Hong Kong locations remain
an important contributor to the Company's business, generating HK$69,243,000
(US$8,935,000), or 81% of total operating revenues in the fiscal year ended
December 31, 1995 as compared to HK$61,316,000 (US$7,911,000) or 88% of total
operating revenues in the fiscal year ended September 30, 1994.
Operating revenues derived from the Company's China locations generated
HK$16,019,000 (US$2,067,000) or 19% of total operating revenues in the fiscal
year ended December 31, 1995 as compared to HK$8,335,000 (US$1,076,000) or 12%
of total operating revenues in the fiscal year ended September 30, 1994.
The number of centers increased to eight at the fiscal year ended
December 31, 1995 compared to seven centers at the fiscal year ended September
30, 1994, reflecting the opening of the Hongqiao, Shanghai center in September,
1995.
OPERATING EXPENSES. The Company's operating expenses for the fiscal year
ended December 31, 1995 totaled HK$60,827,000 (US$7,849,000) compared to
HK$55,625,000 (US$7,177,000) in the fiscal year ended September 30, 1994,
representing an increase of 9%.
Operating expenses as a percentage of total revenues were 71% in the
fiscal year ended December 31, 1995 as compared to 80% in the fiscal year ended
September 30, 1994.
Operating expenses associated with the Company's Hong Kong locations
were HK$51,598,000 (US$6,658,000), representing an increase of 3% as compared to
HK$50,232,000 (US$6,481,000) in the fiscal year ended September 30, 1994. Hong
Kong operating expenses represented 85% of total operating expenses in the
fiscal year ended December 31, 1995 as compared to 90% of total operating
expenses in the fiscal year ended September 30, 1994.
27
<PAGE> 36
Operating expenses associated with the Company's China locations were
HK$9,229,000 (US$1,191,000), representing an increase of 71% as compared to
HK$5,393,000 (US$696,000) in the fiscal year ended September 30, 1994. Operating
expenses in China represented 15% of total operating expenses in the fiscal year
ended December 31, 1995 as compared to 10% of total operating expenses in the
fiscal year ended September 30, 1994. The increase in operating expenses was
primarily due to inflation and additional marketing, administrative, salary and
rental costs incurred by the new center in Hongqiao, Shanghai center that opened
in September, 1995.
TOTAL NON-OPERATING EXPENSES (INCOME). Total non-operating expenses for
the fiscal year ended December 31, 1995 totaled a net expense of HK$368,000
(US$47,000) compared to a net expense of HK$278,000 (US$36,000) in the fiscal
year ended September 30, 1994, representing an increase of HK$90,000 (US$12,000)
or 32%.
PROVISION FOR INCOME TAXES. Provision for income taxes for the fiscal
year ended December 31, 1995 totaled HK$4,434,000 (US$572,000) compared to
HK$1,779,000 (US$230,000) in the fiscal year ended September 30, 1994,
representing an increase of 149%. The effective tax rate of operating income was
18% and 13% respectively. The increase in the effective tax rate of operating
income was due to the 33% income tax rate in China. As the contribution from
China operations increased, the higher income tax rate applicable in China
therefore made up a larger portion of the tax provision.
NET INCOME. The Company's net income for the fiscal year ended December
31, 1995 totaled HK$17,533,000 (US$2,262,000) compared to HK$10,820,000
(US$1,396,000) in the fiscal year ended September 30, 1994, representing an
increase of 62%. The net income margin for the fiscal year ended December 31,
1995 was 21% compared to 16% for the fiscal year ended September 30, 1994. The
increased net income reflects ongoing marketing efforts that resulted in an
additional contribution from existing centers in Hong Kong and China and a
contribution from the new Hongqiao, Shanghai center that opened in September,
1995.
LIQUIDITY AND CAPITAL RESOURCES
The Company has financed its operations primarily through cash generated
from operations, short-term bank credit, long-term bank loans, loans from third
parties (outside investors ) and minority shareholders of subsidiaries, advances
from customers relating to prepaid fitness and spa income, and leasing
arrangements with financial institutions. See Notes to Financial Statements
(Note 6 "Related Party Transactions"; Note 7 "Short Term Bank Loans"; Note 8
"Long Term Bank Loans"; and Note 10(c) "Obligations and Commitments").
Cash and cash equivalent balances for the respective periods ended
September 30, 1997 and December 31, 1996 were HK$1,752,000 (US$226,000) and
HK$2,509,000 (US$324,000), while total indebtedness at September 30, 1997 was
HK$51,961,000 (US$6,706,000) and HK$30,725,000 (US$3,966,000) at December 31,
1996.
Net cash provided by operating activities were HK$31,191,000
(US$4,025,000), HK$30,494,000 (US$3,935,000), HK$31,506,000 (US$4,065,000) and
HK$37,980,000 (US$4,899,000) for Fiscal Year 1994, Fiscal Year 1995, Fiscal Year
1996, and the nine-month period ended September 30, 1997, respectively. The
Company's operating activities are historically financed by cash flows from
operations. Net cash used in investing activities were HK$23,427,000
(US$3,023,000), HK$14,274,000 (US$1,842,000), HK$24,266,000 (US$3,132,000) and
HK$61,625,000 (US$7,949,000) for Fiscal Year 1994, Fiscal Year 1995, Fiscal Year
1996 and the nine-month period ended September 30, 1997, primarily as a result
of expenditures for property, plant and equipment. Net cash used in financing
activities, which mainly include proceeds from bank loans, net interest and net
repayment, were HK$6,705,000 (US$865,000), HK$15,993,000 (US$2,064,000),
HK$5,740,000 (US$740,000) in Fiscal Year 1994, Fiscal Year 1995 and Fiscal Year
1996. Net cash provided by financing activities was HK$22,849,000 (US$2,948,000)
in the nine-month period ended September 30, 1997.
28
<PAGE> 37
The Company obtained a term loan in the amount of HK$1,000,000
(US$129,000) at an interest rate of 10.5% per annum from Shanghai Commercial
Bank Limited in Fiscal Year 1996 in connection with payment of rental deposits
for the new Causeway Bay center (relocation of an existing center). This loan is
secured by leasehold property in Hong Kong owned by relatives of Mr. Luk and is
repayable in one lump sum on November 6, 1997. No consideration has been paid by
the Company for such security. As of September 30, 1997, the outstanding
principal amount of this loan was HK$1,000,000 (US$129,000). The Company has
negotiated with the bank to replace the loan with a new loan which is to be
repaid by sixty (60) equal monthly installment payments commencing November,
1997.
The Company entered into a capital lease agreement with East Asia
Finance Company Limited in April, 1996 for the purchase of exercise equipment in
the amount of HK$1,759,200 (US$227,000) for the Dalian, China, center . The
lease is repayable in thirty six (36) monthly installments, commencing April,
1996 at an interest rate of 6.75% per annum. In addition, the Company secured a
loan of HK$3,168,000 (US$409,000) from Dao Heng Finance in August 1996 for the
equipment for a proposed new center in Zhongshan, China, however, the loan was
fully repaid in February 1997. In March, 1997 the Company entered into a capital
lease agreement with the Hongkong and Shanghai Banking Corporation Limited for
the purchase of exercise equipment in the amount of HK$7,432,320 (US$959,000)
for the centers in Hong Kong. The lease is repayable in sixty (60) monthly
installments, commencing April, 1997 at an interest rate of 10.75% per annum. In
May, 1997 the Company entered into a capital lease agreement with East Asia
Finance Company, Limited for the purchase of exercise equipment in the amount of
HK$7,742,000 (US$999,000) for the Hong Kong centers. The lease is repayable in
thirty (30) monthly installments, commencing May, 1997 at an interest rate of
6.5% per annum.
The Company has revolving lines of credit with four banks - The
Kwangtung Provincial Bank (at an interest rate of 10.75%), Dao Heng Bank (at an
interest rate of 10.75%), Shanghai Commercial Bank Limited (at interest rates of
11.5% and 12.25%) and Hongkong and Shanghai Banking Corporation Limited (at an
interest rate of 11%). As of September 30, 1997, the Company fully utilized
these revolving lines of credit. The Company draws down from the lines of credit
primarily for general working capital purposes. The lines of credit contain
covenants requiring the maintenance of minimum net worth.
Consistent with the general practice of the fitness and spa industry,
the Company receives prepaid memberships to fitness facilities, which are
non-refundable, and spa treatment dues from its customers. This practice creates
working capital that the Company generally utilizes for working capital
purposes. However, the unused portion of the pre-paid membership and spa
treatment dues is characterized as deferred income, a current liability, for
accounting purposes.
The Company's trade receivable balance at September 30, 1997, was
HK$3,628,000 (US$468,000). The Company has never experienced any significant
problems with collection of accounts receivable from its customers.
Capital expenditure for Fiscal Years 1994, 1995 and 1996, and the
nine-month period ended September 30, 1997, were HK$23,435,000 (US$3,024,000),
HK$20,427,000 (US$2,636,000), HK$25,375,000 (US$3,274,000) and HK$61,628,000
(US$7,950,000) respectively. The Company believes that cash flow generated from
its operations, the proceeds from this Offering and its existing credit
facilities should be sufficient to satisfy its working capital and capital
expenditure requirements for at least the next 18 months.
YEAR 2000 DISCLOSURE
The Company is undergoing a system redevelopment project to improve the
efficiency of the system with respect to changing its computer programs to
properly identify a year in the year field. The cost of such new system is
estimated to be HK$800,000 (US$103,000) and the implementation time is expected
to be within one year commencing early 1998. The Company has already obtained an
estimate of the cost from the software service company, and in the opinion of
the Management such cost can be controlled as proposed. The Company expects to
incurr the following maintenance charges for the new system:
1997 HK$120,000 (US$15,500)
1998 HK$ 96,000 (US$12,400)
1999 and onwards HK$ 64,000 (US$8,300)
The Company believes that the estimated cost of the new system should not have a
significant impact on the cash flow of the Company.
29
<PAGE> 38
BUSINESS OF THE COMPANY
GENERAL
The Company's fitness and spa centers are located in or near urban areas
in highly populated areas of Hong Kong and major metropolitan cities in China
and most of them are operated under long-term leases. With the exception of Mei
Foo center, a portion of which is owned by the Company (see "Business -
Properties"), the Company does not own the real property on which the centers
are located, but owns the leasehold improvements and equipment with respect to
each center. Generally, the Company's centers average 20,000 square feet and
include a workout area including a broad range of fitness equipment, changing
room, sauna and steam facilities and a separate area devoted exclusively to
professional spa and beauty treatment programs. Each center typically includes a
laser TV room with lounge, health drink bar and sells a range of exercise
clothing, European beauty products and cosmetics.
The Company's strategy is to grow through expansion of its fitness and
spa facilities in Hong Kong and China, as well as to explore the opportunities
for its fitness and spa services in other countries of Far East. The Company
intends to build on its 11-year continuous operating presence in Hong Kong, the
relationships in China established by the Company's executives and senior staff
and the Company's policy of offering what it believes are the state-of-the-art
exercise and spa facilities and beauty treatments at affordable prices in their
respective markets. In order to implement its strategic plan and marketing
strategy, the Company intends to increase its expansion capability in China,
Hong Kong and Macau through the establishment of new fitness and spa locations
(see also "Use of Proceeds"). In addition, the Company is closely monitoring
potential opportunities in the Philippines, Taiwan, Malaysia and Indonesia.
During 1996, the Company and its subsidiaries recognized HK$113.2
million (US$14.6 million) in revenue as a result of the additional contributions
of its two Shanghai centers and its center in Dalian, China. The Company's
results of operations for the twelve months ended December 31, 1996 were
positively impacted by the opening of the Dalian, China branch.
ORGANIZATION
The Company's operations are conducted through its subsidiaries in Hong
Kong and Sino-foreign joint ventures in China. A number of the Company's
subsidiaries have been incorporated in the British Virgin Islands, primarily for
tax reasons. Such structure provides greater flexibility for the Company in
obtaining tax benefits, especially in case of corporate accounts. See
"Taxation". Set forth below is the description of the Company's subsidiaries and
their respective roles in the organizational structure of the Company.
30
<PAGE> 39
<TABLE>
<CAPTION>
Date of Equity interest
acquisition/ Place of owned by the
Name of Company formation incorporation Company Principal activities
- --------------- --------- ------------- ------- --------------------
Direct Indirect
------ --------
<S> <C> <C> <C> <C> <C>
Physical Beauty & Fitness Holdings March 8, 1996 BVI 100% - Investment holding
Limited ("Physical Holdings:)
Physical Health Centre Hong Kong March 2, 1990 Hong Kong 91.4% - Operating 5 Fitness Centres
Limited ("Hong Kong Limited") in Hong Kong
Regent Town Holdings Limited September 20, BVI 88.5% - Investment holding
("Regent") 1993
Supreme Resources Limited ("Supreme") September 29, Hong Kong 70% - Operating a beauty
1994 treatment centre in Hong
Kong
Physical Health Centre (Zhong Shan) September 29, Hong Kong 100% - Investment holding
Limited ("Zhongshan Physical") 1994 (formerly operating a
(formerly known as Famerich beauty treatment centre
Development Limited) in Hong Kong)
Zhongshan Physical Ladies' Club Ltd. October 29, 1996 The PRC - 95% Operating a Fitness Centre
(Owned by Zhongshan Physical) in Zhongshan, the PRC
Ever Growth limited ("Ever Growth") September 29, Hong Kong 100% - Property holding
1994
Proline Holdings Limited ("Proline") September 28, BVI - 88.5% Investment holding
(wholly owned by Regent) 1994
Shanghai Physical Ladies' Club Company September 28, Hong Kong - 88.5% Investment holding
Limited ("Shanghai Physical") 1994
(wholly owned by Proline)
Shanghai Physical Ladies' Club Co., Ltd. September 28, The PRC - 88.5% Operating two Fitness
(owned by Shanghai Physical) 1994 Centres in Shanghai, the
PRC
Mighty System Limited ("Mighty") December 15, BVI 100% - Provision of marketing
1994 services for cosmetics
sales
Jade Regal Holdings Limited ("Jade March 15, 1996 BVI 100% - Investment holding
Regal")
Physical Health Centre (Dalian) Limited March 15, 1996 Hong Kong - 100% Investment holding
("Dalian Physical") (wholly owned by
Jade Regal)
Dalian Physical Ladies' Club Co., Ltd. March 15, 1996 The PRC - 90% Operating a Fitness Centre
(90% owned by Dalian Physical) in Dalian, the PRC
Star Perfection Holdings Limited ("Star April 15, 1996 BVI 100% - Investment holding
Perfection")
Physical Health Centre (Shenzhen) April 15, 1996 Hong Kong - 100% Investment holding
Limited ("Shenzhen Physical")
(wholly owned by Star Perfection)
Shenzhen Physical Ladies' Club Co., Ltd. August 16, 1996 The PRC - 90% Operating a Fitness Centre
(owned by "Shenzhen Physical") in Shenzhen, the PRC
Physical Health Centre (Macau) Limited* March 21, 1997 Hong Kong 100% - Investment holding,
Operating a Macau Center
Physical Health Centre (Tsuen Wan) Limited* September 8, 1997 Hong Kong 100% - Operating a Fitness Centre
in Hong Kong
</TABLE>
- ------------------------------
* Proposed new centers; not shown on the organizational chart.
The Company plans to open new centers in Tsuen Wan, Hong Kong and Macau
in early 1998. See also "Use of Proceeds" and "Company - Properties". The
Company's organizational chart is set forth below on the next page.
31
<PAGE> 40
<TABLE>
<CAPTION>
ORGANIZATION CHART OF PHYSICAL SPA & FITNESS, INC.
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Physical Spa & Fitness, Inc.
US
----------------------------
|
| 100%
|
Physical Beauty & Fitness
Holdings Limited
BVI
-------------------------
|
|
___________________________________________________________________|________________________________________________________________
|88.5% |100% |100% |91.40% |70% |100% |100%* |100%
- -------------- -------------- -------------- -------------- -------------- -------------- -------------- --------------
Regent Town Mighty System Jade Regal Physical Health Supreme Star Perfection Physical Health Ever Growth
Holdings Limited Holdings Centre Hong Resources Holdings Centre (Zhong) Limited
Limited Limited Kong Limited Limited Limited Shan) Limited
- -------------- -------------- -------------- -------------- -------------- -------------- -------------- --------------
BVI BVI BVI HK HK BVI HK HK
- -------------- -------------- -------------- -------------- -------------- -------------- -------------- --------------
| | | | | | |
|100% |100%* |100% |100% |100%* |95% |100%
- -------------- -------------- | | -------------- | |
Proline Holdings Physical Health | | Physical Health | |
Limited Centre (Dalian) | | Centre (Shenzhen) | |
Limited | | Limited | |
BVI HK | | HK | |
- -------------- -------------- | | -------------- | |
| | | | | | |
|100%* |90% | | |90% | |
- -------------- | | | | | |
Shanghai | | | | | |
Physical Ladies' | | | | | |
Club Company | | | | | |
Limited | | | | | |
HK | | | | | |
- -------------- | -------------- | | | |
|100% | Causeway Bay | | | |
| | Tsimshatsui | | | |
- -------------- -------------- Shatin -------------- -------------- -------------- -------------
Shanghai Dalian Mei Foo Renaissance Shenzhen Zhongshan Property in
Joint Venture Joint Venture Kowloon City Beauty Centre Joint Venture Joint Venture Mei Foo
(Central Branch)
Operation
- -------------- -------------- -------------- -------------- -------------- -------------- --------------
</TABLE>
* 50% held by one nominee shareholder. Since The Companies Ordinance of Hong
Kong requires a minimum of 2 shareholders for each limited company, Mr. Luk
holds the remaining shares on behalf of Physical Beauty & Fitness Holdings Ltd.
32
<PAGE> 41
OWNERSHIP STRUCTURES IN CHINA
The organizational structure of the Company's operations in China is set
forth below.
<TABLE>
<CAPTION>
TYPE OF INTERESTS
NAME OF THE JOINT OWNED BY THE TERM OF THE REGISTERED
JOINT VENTURE LOCATION VENTURE COMPANY JOINT VENTURE CAPITAL* PROFIT SHARING ARRANGEMENT
Foreign Chinese
partner partner
------- -------
<S> <C> <C> <C> <C> <C> <C>
Shanghai Physical Huangpu and Co-operative 88.5% 10 years Originally See Shanghai Joint Venture
below
Ladies' Club Co., Ltd. Hongqiao, (exp. 2003) US$1000 in
("Shanghai Joint Shanghai cash and
Venture") increased to
US$2000 in
cash in 1995
Dalian Physical Dalian Equity Originally 12 years Originally Pro-rata to equity interests
Ladies' Club Co., Ltd. 55% and (exp. 2007) Rmb10,000 in
("Dalian Joint changed to cash and
Venture") 90% in 1996 changed to
Rmb1,000 cash
and Rmb9,000 in
form of fixed
assets and
renovation
materials in 1996.
Shenzhen Physical Shenzhen Co-Operative 90% 10 years HK$4,600 in Pro-rata to equity interests
Ladies' Club Co., Ltd. (exp. 2006) form of cash
("Shenzhen Joint and fixed assets
Venture")**
Zhongshan Physical Zhongsan Equity 95% 10 years US$500 in Pro-rata to equity interests
Ladies Club Co., Ltd. (exp. 2006) in form of
("Zhongshan Joint cash and
Venture")** fixed assets
</TABLE>
- -------------------------------------------------------
* In thousands
** Those joint ventures have not commenced operations yet. See below.
SHANGHAI JOINT VENTURE. The Shanghai Joint Venture is a Sino-foreign
cooperative joint venture established on September 7, 1993 in Shanghai, China.
The Chinese joint venture partner is a state-owned enterprise in the PRC,
Shanghai Ti Yu Guan (SHTYG). Shanghai Physical Ladies' Club Company Limited, a
Hong Kong corporation ("Shanghai Physical") authorized Physical Health Centre
Hong Kong Limited, a Hong Kong corporation, to enter into a joint venture
contract with SHTYG. The joint venture period is 10 years from the date of issue
of the business license on September 7, 1993. SHTYG is paid rent of RMB950,000
for the first 3 years of the joint venture. Rent for the fourth to tenth years
will be 110% of the preceding year, except where the inflation rate in the PRC
exceeds 16% in which case, the rental increase would be indexed to the inflation
rate.
DALIAN JOINT VENTURE. On April 11, 1995, Physical Health Centre (Dalian)
Limited, a Hong Kong corporation ("Dalian Physical") formed a Sino-foreign
equity joint venture with a Chinese enterprise to operate a fitness/ spa center
in Dalian, China. The joint venture period is 12 years from the issue of the
business license on April 11, 1995. The equity interest of Dalian Physical is
90% and the Chinese joint venture partner's equity interest is 10%. The joint
venture commenced effective operations in April 1996.
33
<PAGE> 42
ZHONGSHAN JOINT VENTURE. In June 1996, Physical Health Center (Zhong
Shan) Ltd. ("Zhongshan Physical"), entered into a joint venture contract, as
supplemented in August, 1996, with a Chinese enterprise in Zhongshan, China to
establish a Sino-foreign cooperative joint venture for the provision of fitness
and spa services. The joint venture period is 10 years from issue date of the
business license on October 29, 1996. The Chinese joint venture partner will be
entitled to HK$30,000 per annum in the form of a technology introduction fee.
The Chinese joint venture partner will not be entitled to share in profits after
receipt of the technology introduction fee. All the benefits and liabilities of
the joint venture will be assumed by Zhongshan Physical. The agreement is
subject to approval by relevant PRC authorities in Zhongshan. The Company
anticipates opening of the Zhongshan center in 1998. As of the date of this
Prospectus, however, both joint venture partners have not contributed the
required capital according to the requirements of the contract. Such default in
the funding obligations will require renegotiations between the two partners and
may also trigger default remedies as specified in the joint venture contract.
Further, a failure to meet regulatory time limits set by the State
Administration of Industry and Commerce for capital contributions could result
in the cancellation of the approval of the joint venture's business license.
Both joint venture partners are in the process of applying to the relevant
authorities for an extension of such time limits. The joint venture has not yet
commenced operations as of this date.
SHENZHEN JOINT VENTURE. In 1996, Shenzhen Physical Ladies' Club Co.,
Ltd., entered into a joint venture contract with a Chinese enterprise in
Shenzhen, China to establish a Sino-foreign cooperative joint venture for the
provision of fitness and spa services. According to the laws in the PRC and the
terms of the joint venture contract, both joint venture partners are obliged to
fulfill their capital contribution requirements into the joint venture within a
specified period of time after the issue of the business license. As of the date
of this Prospectus, however, both joint venture partners have not contributed
the required capital according to the requirements of the contract. Such default
in the funding obligations will require renegotiations between the two partners
and may also trigger default remedies as specified in the joint venture
contract. Further, a failure to meet regulatory time limits set by the State
Administration of Industry and Commerce for capital contributions could result
in the cancellation of the approval of the joint venture's business license.
Both joint venture partners are in the process of applying to the relevant
authorities for an extension of such time limits.
Since Shanghai Joint Venture and Dalian Joint Venture operate in China,
they are subject to special considerations and significant risks not typically
associated with investments in equity securities of the United States or Western
European countries. See "Risks Relating to Operations in Hong Kong and China".
OVERVIEW OF THE COMPANY'S MARKETS
HONG KONG
- ---------
FITNESS
- -------
The concept of preventive health care and physical fitness, which became
popular in Hong Kong in the early 1980's, was introduced from the United States
and Europe. With the growing affluence of the local population and improvement
in their standard of living, people began to immerse in physical exercise to
maintain a fit and healthy body. The fitness trend grew in Hong Kong and gained
popularity within the high income group initially.
To cater to this new industry, a number of fitness centers were
established in Hong Kong which provided a variety of exercise equipment as well
as aerobic dance classes. Private clubs (dining clubs, marina clubs,
entertainment clubs) targeted towards the upper income group also began to
provide similar services to their members or expanded their existing facilities.
The majority of these fitness centers targeted the high income group,
were very exclusive, and entrance fees or membership fees were generally high.
Under this marketing strategy, these fitness centers were restricted to a
comparatively small number of potential customers. Additionally, some of these
fitness centers were affected by the migration boom of Hong Kong in the mid
1980's. At that time, a large number of professionals migrated from Hong Kong to
other countries to pursue educational and economic opportunities. This migration
boom affected the customer base of these fitness centers and thus decreased the
viability of their business. As a result, fitness centers targeting the high
income group in Hong Kong were vulnerable and underwent a period of
consolidation. Later on, as the market developed, a market niche emerged for
fitness centers catering to the middle income group.
34
<PAGE> 43
SPA
- ---
The spa industry in Hong Kong, which includes the skin care or beauty
industry, is rather fragmented with a large number of small operations. It is
common that certain spa and beauty treatments are provided by a wide range of
establishments including beauty salons, hair salons, and even cosmetic counters
situated in department stores. The standard of services for beauty treatments
varies widely. Normally, the customer base of these operations is confined to a
relatively limited number of frequent customers. Exclusive private clubs that
cater to a small percentage of wealthy Hong Kong women and the inconsistent
quality and skill level of small operations have increased the demand for middle
market skin care treatments in the recent years.
CHINA
- -----
FITNESS
- -------
In China, the concept of physical fitness has a long history, but it was
not widely practiced, except by the 50+ generation. Even China's famous Tai' Chi
is seldom practiced by young people. Organized sports for recreation are more
popular, though sports centers are in the Management's opinion generally ill
equipped and out of date. It appears that intensive training in a particular
sport is only available to a minority of people. Physical fitness centers are
usually in the form of gymnasiums run by state-owned sports authorities.
A handful of small clubs with standard facilities have opened in recent
years, but offer, in the Management's opinion, a limited selection of locally
made, out- of-date equipment (as compared to the equipment used in the Company's
centers). Such facilities are frequented by more men than women, as they tend to
be equipped with barbells and weights.
The Company believes that aerobics is gaining popularity with the recent
influx of follow-along television programs. The Management observed that the
overall improved lifestyle; availability of fast food and convenience foods,
increased spending power, and increasingly sedentary lifestyles of Chinese
people, has led to a widespread concern for weight control. The Management
believes that aerobics especially appeals to women in China, as large
percentages of women seem to be concerned with losing weight.
A number of five-star hotels in China have luxury spas and fitness
centers, well-equipped with the latest brands of Western-styled exercise
machines (as compared to the Company's facilities). However, the Management
believes that the exorbitant fees (in the Company's opinion) prevent any
significant competitive impact on the industry. Private dining clubs have become
increasingly popular throughout China in the recent years, and usually include
small fitness and beauty centers. However, the Company believes that as the
focus of these clubs is usually dining, drinking, karaoke and entertainment,
they have contributed insignificantly to the industry. (See "Competition")
SPA
- ---
The Company noted that Western-styled spa and beauty treatments has
become increasingly common and popular in China. Home-treatments, using
cosmetics purchased in department stores, have also become very common. However,
in the Management's opinion standards of skill and hygiene tend to be poor, as
is the quality of products used, as compared to those provided by the Company's
centers.
In recent years, several Hong Kong and Japanese companies have entered
the market with small, limited service salons. Several internationally
recognized skin care lines, such as Dior, Channel and Elizabeth Arden have
recently become available in department stores. Those department stores often
hold in-house promotions to demonstrate their products and educate potential
customers. It appears that the desire to own anything imported, including
cosmetics, is considered prestigious and is therefore highly desired by Chinese
women. The Management noticed that the demand for "foreign" spa treatments and
beauty salons, and imported products is high. The local and international media
is introducing fitness and skin care news to a growing receptive audience. The
Company believes that the demand for affordable, value-driven beauty and skin
care has increased.
35
<PAGE> 44
HISTORY
The Company was incorporated on September 21, 1988 in the state of
Delaware under the name of "Foreclosed Realty Exchange, Inc", a development
stage company seeking acquisitions. Prior to acquisition of Physical Beauty &
Fitness Holdings Limited, a British Virgin Islands corporation ("Physical
Limited"), the Company had no revenue producing operations, but planned to enter
into joint ventures and/or acquisitions originally in the area of real estate,
to expand its operations. In early 1991, the Company was planning to become a
public company and issued 750,000 (pre-reverse split) shares of common stock
with certain registration rights to an unrelated corporation for services in
connection with the Company's efforts to become a public company. That
corporation, in turn distributed the 750,000 shares as dividends to its
shareholders. The Company has not filed a registration statement as originally
planned and the shares became free trading pursuant to Rule 144, after the
expiration of the applicable restrictive period. In October, 1996, the Company
closed a transaction with Ngai Keung Luk (Serleo), a 100% shareholder of
Physical Limited, whereby the Company entered into a Share Exchange Agreement
with Ngai Keung Luk (Serleo). Physical Limited was incorporated on March 8, 1996
under the laws of British Virgin Islands and has interests in various companies
operating fitness and beauty centers and other related businesses in Hong Kong
and China (see "Company- Organization"). Pursuant to the Share Exchange
Agreement, the Company issued 8,000,000 pre-split shares of its Common Stock to
Ngai Keung Luk (Serleo) in exchange for all of the outstanding shares of
Physical Limited (the "Closing"). Subsequently, the Company changed its name to
"Physical Spa & Fitness Inc." in November, 1996, to reflect the new business
operations of the Company. As a part of the above transaction, certain
shareholders of the Company also transferred 990,000 pre-split shares of Common
Stock to Goodchild Investments Limited, a British Virgin Islands corporation
("Goodchild"). See "Certain transactions". Neither Ngai Keung Luk (Serleo) nor
Goodchild were parties affiliated with the Company prior to or at the time of
the acquisition of Physical Limited. At the Closing the then current management
of the Company resigned and was replaced by the current management of the
Company. See "Management.".
In 1986, the founder and principal shareholder of the Company, Ngai
Keung Luk (Serleo), set up the first fitness center under the name of "Physical
Health Club" with the objective of providing physical fitness and spa treatment
services at prices which could be afforded by a rapidly growing middle class
population in Hong Kong. Two years later in 1988, another center was founded
under the name of "Physical Ladies' Club" in Hong Kong. The businesses of these
centers were operated in a form of a sole proprietorship and were subsequently
transferred to Physical Health Centre Hong Kong Limited, a Hong Kong corporation
established on March 2, 1990 ("Hong Kong Limited"). During the period from 1990
to 1996, Hong Kong Limited and Physical Limited expanded their scope of
operations by acquiring and establishing several subsidiaries and by forming
Sino-foreign joint ventures in China to operate six additional fitness/spa
centers in Hong Kong, three in China and other related businesses (see "Company
- - Organization"). The subsidiary companies were all formerly owned by Mr. Luk
and other principal shareholders, or solely by Mr. Luk. The respective equity
interests were transferred by Mr. Luk and other principal shareholders to Hong
Kong Limited or Physical Limited throughout 1993 to 1996 at the original cost of
the respective investments. In October, 1996, 91.4% of the equity interests of
Hong Kong Limited was transferred by the principal and other shareholders
(including Mr. Luk) to Physical Limited at the par value of the shares
transferred. In addition, all the equity interests of Hong Kong Limited in
various subsidiaries and Sino-foreign joint-ventures were also transferred to
Physical Limited at the recorded cost of these investments.
HONG KONG
The first facility was opened in the Mei Foo Sun Chuen area of Hong
Kong, which has a population of approximately 680,000. The Company's first
center offered fitness training and spa treatment facilities at a price thought
to be affordable by its target middle-class customers. The Mei Foo Center
operates under a membership basis and is open to both male and female customers
and is the Company's only center that has male members. The Mei Foo Center
proved profitable and within a year, it had enrolled more than 700 members and
1,000 clients for spa treatments. In 1990 the Mei Foo Center was expanded by
acquiring by the Company's subsidiary an additional 700 square feet, immediately
above the existing facility, resulting in a total of 8,000 square feet. The Mei
Foo center operates under the name "Physical Health Club".
36
<PAGE> 45
The second fitness and spa center under the name "Physical Ladies' Club"
was opened in July 1988 on Nathan Road, Tsimshatsui, Kowloon, which is one of
the busiest commercial and entertainment areas in the Kowloon area of Hong Kong.
The Tsimshatsui Center, consisting at that time of 12,000 sq. ft. (currently
expanded to 25,000 sq. ft) is, to the best of the Management's knowledge, to be
the first fitness and spa center to provide high quality, Western-styled
professional services for fitness training and spa treatment for middle income
women customers in Hong Kong. Tsimshatsui Center within a year of its opening,
had approximately 2,000 fitness members and 2,000 patrons for spa treatments.
In March 1990, the business of Physical Health Club and Physical Ladies'
Club was transferred to, and consolidated under, Hong Kong Limited (see above).
To broaden its geographical diversification, Hong Kong Limited opened
its third fitness and spa center in Causeway Bay Plaza, Causeway Bay in August,
1990. Located in one of the most popular entertainment areas on Hong Kong
Island, the Causeway Bay Center initially occupied a floor space of
approximately 18,000 square feet. In the first year of operation, the Causeway
Bay Center had approximately 5,000 members and 2,000 patrons for spa services.
The Causeway Bay Center experienced an ongoing strong demand for its fitness and
spa services, and the Company relocated the Causeway Bay Center to a new 30,000
sq. ft center in June, 1997.
In order to cater to the market demand in the New Territories area of
Hong Kong, Hong Kong Limited opened its fourth fitness and spa center in New
Town Tower, Shatin, in September 1992. The Shatin Center is located in a
commercial complex in the heart of the densely populated residential and popular
entertainment areas in the New Territories. It occupies a floor space of
approximately 15,000 square feet. In March 1993, Hong Kong Limited opened
another fitness and spa center of approximately 3,000 square feet in Kowloon
City to provide facilities to members residing in the south-eastern area of
Kowloon.
As a result of a growing demand for upscale facilities and amenities for
spa services in the upper middle market, the Company opened through a newly
formed subsidiary, Supreme Resources Limited (see "Company - Organization"), its
first upscale market spa treatment center; "Renaissance Beauty Centre". The
Renaissance center is situated in an upper income residential area in Central,
Hong Kong and provides spa treatment services.
CHINA
Commencing in the mid-1980's, China commenced market-oriented reforms
that were designed to open up and improve the economy and the Chinese standard
of living. As economic reforms became successful in China and a large,
middle-class market developed, China was targeted as an expansion market where
the success in Hong Kong could be duplicated.
Shanghai, with a booming economy, an influx of foreign investment, and a
population of 14 million, was the logical choice for the Company to start its
first China location. In January of 1994, the Huang Pu branch was opened in one
of Shanghai's busiest shopping districts, through a joint venture company formed
between a Chinese enterprise and a newly formed subsidiary of the Company. The
center has an area of 15,000 sq. ft. , and within the first year there were over
2,000 fitness members and spa clients. Based upon the positive response to the
first facility in Shanghai, the decision was made to open a second Shanghai
branch.
September, 1995 marked the opening of the second center in Shanghai -
Hong Qiao branch in Shanghai, situated in the fashionable Hong Qiao Special
Economic Development Zone. This center contains approximately 12,000 sq. ft. and
is easily accessible to a large residential area and busy commercial district.
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In April, 1996, the Company opened its third fitness/spa center in China
in the city of Dalian. Dalian, China, located on the northern peninsula near
Korea, is the third largest seaport in China and has a population of
approximately 5,600,000. Dalian is the fashion capital of China, hosting the
world renowned International Fashion Festival annually, and is also a major
tourist destination. Dalian has seen an influx of foreign investment in the past
several years, and the purchasing power of these citizens ranks high in the
nation. The Company's market research showed a strong existing interest in
fitness and spa services, with few choices available to potential customers.
Within the first six months of opening, Dalian center had over one thousand
fitness members and nearly one thousand spa clients.
BUSINESS STRATEGY
The Company believes that it has a strong reputation in the Hong Kong
and China markets in which it presently operates. This belief is based on
several factors, including continuous operating presence of the Company in Hong
Kong for the past 11 years, and the relationships in China established by the
Company's executives, management and staff over the last several years. The
Company intends to continue its policy of providing what it believes are
first-quality, comprehensive fitness and spa services in their respective
markets at affordable prices.
The Company seeks to expand its fitness and spa business from the ground
up as opposed to acquiring health and fitness clubs that are poorly managed
and/or financially distressed. The Company believes that the end result of
repositioning an existing center, which typically includes rebuilding a
membership base, renovations, additional equipment leasing, and re-training
existing staff, is less desirable than developing a new center.
The Company intends to build on its momentum, relationships and standard
of quality in several ways. First, the Company intends to expand its presence in
Hong Kong and China through the establishment of new fitness and spa centers in
Hong Kong (see "Business-Organization-Hong Kong" and "Use of Proceeds") and
China (See "Business - Organization - Shenzhen Joint Venture and Zhongshan Joint
Venture"), and through the addition of qualified personnel, including fitness
instructors and spa personnel in the existing facilities. Second, in conjunction
with its expansion, the Company intends to increase the variety of fitness and
spa services provided and products sold on a retail basis at each location. For
example, the Company currently is developing plans to develop corporate and
personal fitness training services in China.
The Company believes that its experience in and knowledge of the fitness
and spa industry in Hong Kong and China, as well as management's continuous
presence in Hong Kong (11 years ) and China (over the past 3 years), positions
the Company to take advantage of perceived opportunities in this market.
Further, demographic developments in Hong Kong and China, continue to create
increasing demand for certain fitness and spa services. In this regard, the
Company expects to open its seventh center in Tsuen Wan, Hong Kong and a new
center in Macau in early 1998, and new centers in Shenzhen and Zhongshan, China
in 1998, and to establish additional fitness and spa centers in other major
metropolitan centers in China over the next several years. There is no assurance
that such centers will be opened as currently planned, since they are subject to
changing political and economic conditions, as well as the Company's evaluation
of the applicable market conditions. See "Risk Factors".
- - BECOMING THE MARKET LEADER IN CHINA
In China, the fitness and spa industry is in its formative stage. In
addition there is an image associated with Western luxury consumer goods. The
Company is not aware of any Western-style facilities of comparable size or
competitors in the fitness and spa industry whose market position is more
established than the Company's. Management plans to take advantage of those
circumstances and in doing so, become the first entrant into China market.
The planned expansion into China includes opening facilities in most
major cities and economically developing urban areas throughout the country,
subject to then current market and other conditions (see "Risk Factors").
According to the State Statistic Bureau of China, the population of China is 1.2
billion and there are currently thirty cities with populations in excess of 1
million. The population of China is becoming increasingly urbanized, and the
tastes of the urban population is becoming increasingly sophisticated. (Source:
Hong Kong Trade Development Council).
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Forty percent of the population of China lives in coastal areas, where
retail sales account for 60% of the country's total retail sales. Population
factors and strong spending power have led the Company to target coastal areas
for the spas to be developed (i.e. Dalian). Facilities can be linked by a
reciprocal membership system, allowing members to use another facility when
traveling to other parts of the country. Marketing programs carried out
nationwide, in the management's opinion, will enable the Company to benefit from
economies of scale, similar to what the Company experiences in Hong Kong.
- - MAINTAINING A STRONG PRESENCE IN HONG KONG
The Company has well-established customer base and pre-dominant market
share in Hong Kong and is planning to open its seventh location in Tsuen Wan,
Hong Kong in early 1998. There can be no assurance given that Tsuen Wan center
will be opened as currently planned by the Company. The Company plans to use a
portion of the proceeds from this Offering to set up the Tsuen Wan center. See
"Use of Proceeds". The Board of Directors estimates that over 80 percent of the
Company's patrons are between the age of 20 to 40. Based on the reports of the
Hong Kong Census and Statistics Department, the number of women within the age
group of 25 to 45 rose from 850,000 to 1,200,000 between 1986 and mid-1996,
representing an increase of 41%. Management believes that the strong position
held in the Hong Kong market can be maintained by continuously upgrading
facilities and services. The Company monitors this situation continuously, and
upgrades the fitness and spa areas on a regular basis. The number of members in
each location is also carefully monitored in order to ensure adequate levels of
service to individual customers, particularly during peak work-out periods.
Branch Managers monitor the situation through direct observation, customer
feedback and surveys.
For spa personnel, intensive training is conducted in the in-house
training center and thorough on-the-job instruction. Selected employees are sent
to France and Italy to study the latest techniques and to learn about new
products on the market. The Company seeks to satisfy its spa clients' needs with
the latest technology, expertise and a high level of service.
- - EXPLORING POTENTIAL MARKETS
The Company considers its market to be the greater Asia region. The
Company plans to open a new fitness/spa center in Macau in early 1998. Macau is
a Portuguese colony strategically located at the mouth of the Pearl River on the
border of China. Macau is easily accessible by Hong Kong residents via a 45
minute jetfoil ride and is a popular vacation destination for both Hong Kong and
Chinese residents. Macau has a population of approximately 500,000 of which 50%
is female (Hong Kong Trade Development Council). The Company plans to target
primarily Macau's local residents. See "Company - Properties" and "Use of
Proceeds".
The Company is also closely monitoring the market opportunities in other
South East Asian countries such as the Philippines, Thailand, Malaysia and
Indonesia.
FITNESS
The Centers emphasize the benefits of health, physical fitness and
exercise by providing a wide range of exercise equipment from the United States
and Europe including free-weights, strength systems and cardiovascular machines
from manufacturers such as Life Fitness, Cybex , Flex, and Reebok Skywalker. The
Company places a particular emphasis on the quality of its fitness managers and
instructors by providing continuous training both in Hong Kong and overseas.
The centers also conduct daily dance classes which run for approximately
45 minutes and are on a first-come, first-served basis. The Company believes
that the number of dance classes conducted by the Centers per day is among the
highest in Hong Kong. The variety of dance classes include aerobic dance, step ,
arms and thighs workout, funk and jazz and are taught by experience instructors.
The dance classes are reviewed on a monthly basis and new dance classes are
introduced approximately every three months in order to appeal to the interests
of members. Since 1995, the Company has recruited fully qualified and
experienced aerobic instructors from Australia.
The Company believes, based on member survey responses, utilization
rates and the existence of underutilized space in its centers, that it has
sufficient excess capacity at its existing fitness centers to accommodate new
membership growth as well as comfortable usage by present members.
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SPA SERVICES
Spa services are open to both members and non-members. However, members
of the centers have priority for such service facilities. Over 80 types of spa
treatments are offered including facial treatments, various skin care
treatments, relaxation programs, personalized make-up application and
instruction, and weight-management and massage.
All of the centers have designated rooms for spa treatments in order to
ensure privacy. In view of the popularity of the spa treatments, the centers
have a booking system whereby sessions for such treatment are reserved in
advance. The centers offer special discounts to patrons for beauty treatments
during off-peak hours in order to maintain an even level of customers during the
day. In promoting the fitness training services provided by the centers, patrons
for spa treatments, who are not members of the centers, are eligible to use all
facilities of the centers including fitness training, on the day of their visits
for a spa treatment. The Company believes that this additional service offers an
advantage over its competitors who engage only in beauty treatments.
The Company has a broad scale of fees for its spa services and believes
that these fees are both affordable and competitive in terms of the quality and
variety of services provided at the centers. The centers typically charge the
normal fee on spa treatment per session. However, discounts are given to those
patrons who purchase prepaid coupons. These coupons are valid without time limit
but are usually used within a short time period.
The Company employs professional spa personnel who hold recognized
qualifications and adequate experience. Each center retains a specific manager
for spa treatments that supervises the spa personnel and other staff members of
the center. Each spa employee serves only one patron during the entire session
of spa treatment. The Company places great emphasis on providing continuous
training programs for its spa personnel. In order to remain informed of the
latest international developments in spa treatments, applications, technology
and equipment, the Company arranges both local and overseas training.
RETAIL
The Company sells a range of products at each center such as leotards,
shorts, T-shirts, training shoes, socks and training suits, including Nike and
several U.S. and Australian brand products. The Company also sells European skin
care products manufactured in Italy and Spain by Frais Monde and Anibus,
respectively. In addition, cosmetics from Frais Monde are offered. The fitness
and beauty related products are available in the centers to facilitate the needs
of their members.
CAPITAL EXPENDITURES
The Company made capital expenditures (including equipment costs) of
HK$25.375 million (US$3.274 million) in 1996, approximately HK$13.95 million
(US$1.8 million) of which related to new centers. In addition to almost HK$2
million (US$0.3 million) expensed annually on repairs and maintenance for
existing facilities and equipment, the Company believes HK$2.5 to 3 million
(US$0.3 to $0.4 million) annually, as funds are available, is necessary to
maintain, and in many cases upgrade, its existing facilities. In 1997, the
Company plans to invest approximately HK$55 million (US$7 million) for 2-3 new
spas, however, there can be no assurances given that such plans will not change
subject to the decision of the Board of Directors and their consideration of the
market conditions. In 1998, the Company plans to invest HK$125 million (US$16
million) for five new spas, subject to the Company's review of the then current
market conditions and the Company's financial position. Although the Company
intends to finance its expansion plans through infusion of cash flow generated
by the Company's existing operations, there can be no assurances given, that
there will be funds available for such planned expenditures or that the Company
will be able to successfully locate and secure new fitness/spa centers, or that
the expenditures will take place as currently planned. See also "Risk Factors".
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MEMBERSHIP
The Company currently offers prospective members a membership plan. Fees
for services at each facility depend on the location and demand for such
services at that facility. Marketing of the Company's services is targeted
towards the middle income female population in the 18 to 34 years old range.
Under the plans, new members are charged a membership fee upon admission
and a monthly fee each month to maintain their membership privileges. The
initial membership fees are non-refundable and range from approximately HK$1,400
(US$180) to HK$1,500 (US$194), depending on the diversity of facilities and
services available at the club of enrollment, the local competitive environment,
as well as the effects of seasonal price strategies. Monthly dues for
memberships generally range from HK$168 (US$22) to HK$299 (US$39) during the
typical membership period. Prepayment of the monthly fee is encouraged by
offering a discount for members who prepay for six or twelve months. Members are
also provided on a monthly basis 10 aerobic coupons on free-of-charge basis at
Hong Kong locations. Any member who attends additional classes has to purchase
coupons at HK$15 (US$2) each. China locations include aerobics classes with
monthly dues.
In order to allow greater flexibility to its members, the Company
operates a network system where members may use the facilities provided at the
largest centers of the Company at no extra cost. The Centers have long opening
hours and are open all year round (except for Chinese New Year), in order to
provide continuous service to its members and customers. Generally, they are
open from 7:00 a.m. to 10:30 p.m. As with any consumer driven market, it is
essential that the services provided by the Company are constantly reviewed,
updated and improved. To achieve this, managers from each of the Centers
regularly invite comments from members in relation to the services provided.
Additionally, the Company constantly seeks to introduce new products and
techniques on fitness training and spa treatments in order to improve its
services and thus enhance its competitive position.
SALES AND MARKETING
The Company devotes substantial resources to the marketing and promotion
of its fitness and spa centers and their services because the Company believes
strong marketing support is critical to attracting new members both at existing
and new fitness centers. Since July, 1988, the Company and its predecessor began
to market substantially all of its fitness centers under the service name
"Physical Ladies' Club", thereby eliminating the prior practice of using
different names for individual locations. See "Business - Trademarks and Trade
Names".
A key component of the Company's marketing strategy is to cluster
numerous fitness centers in major media markets in order to increase the
efficiency and cost effectiveness of its marketing and advertising programs. The
Company expects to spend approximately HK$8 million (US$1 million) for
advertising and promotion during 1997 compared to approximately HK$3.7 million
(US$480,000) in 1996, HK$2.7 million (US$350,000) in 1995 and HK$2.4 million
(US$300,000) in 1994. Advertising consists of (i) television, (ii) newspapers,
telephone directories and other promotional activities and (iii) radio, which
are expected to account for approximately 10%, 80%, and 10%, respectively, of
the Company's total advertising expenses in 1997. The final decision will be
subject to the Board of Directors review of the appropriate market and financial
situation of the Company. See also "Use of Proceeds".
The Company's sales and marketing programs emphasize the benefits of
health, physical fitness and exercise by appealing to the public's desire to
look and feel better. The success of the Company's marketing efforts are
dependent upon the ability of its sales personnel to make effective personal
presentations of the benefits of membership to prospective members. The Company
believes that these presentations are enhanced by its well-equipped, attractive
centers and its "value pricing" membership programs. The Company conducts a
variety of marketing efforts. The Company's executives and sales personnel
attend trade shows and exhibitions throughout Hong Kong and China. At these
trade shows, the Company usually operates a separate promotional exhibit. The
Company's executives and marketing personnel also attend and sponsor seminars
given to individual end-user organizations or industry groups.
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RETAIL
CORPORATE SPONSORSHIP
Since 1993, Nike has sponsored the Company's fitness instructors in
China under an annual contract that is renewable each year. Nike supplies each
fitness instructor with several different shoes, track suits, T-shirts and caps
four times a year. In return, the Company sells only Nike footwear in its China
locations. Commencing in 1993, the Company has participated with Evian Water of
France in a variety of promotional activities, both China and Hong Kong.
Typically, Evian will invite the Company to participate in a variety of
promotional events held at trade shows, shopping centers and entertainment
venues. In return, the Company sells only Evian bottled water in its China
locations.
The Company has begun marketing, on a retail basis products to its
members including apparel manufactured by Nike and leading U.S. and Australian
fitness apparel brands . These products are intended to add value to the
memberships and increase the Company's revenues. The Company's marketing focus
also includes corporate membership sales which are designed to improve
productivity. The Company has introduced programs such as corporate on-site
aerobics classes to expand the market for its services. In addition to its
advertising, personal sales presentations and targeted marketing efforts, the
Company is increasingly utilizing in-club marketing programs, open houses and
contests for members and their guests foster member loyalty and introduce
fitness centers to prospective members and referral incentive programs involve
current members in the process of new member enrollments.
ACCOUNT COLLECTION
All collections of past-due accounts are handled internally by the
Company. Customers who have outstanding unpaid balances are not provided further
services until such balances are paid in full. Corporate accounts are handled
pursuant to the applicable terms of credit agreements. Local corporate accounts
are normally not allowed any special credit. International corporate accounts,
which are much larger than the local accounts, can be allowed three to six
months credit, with a possibility of extending such period, depending on the
account's size and record.
On September 30, 1996, Mighty System Limited ("MSL"), a subsidiary of
the Company engaged in providing marketing services for cosmetics sales (see
"Business - Organization") entered into an agreement with a beauty product
vendor for the payment of the outstanding marketing fees of HK$4.965 million
(US$640,000) by three instalments from December 31, 1996 to June 30, 1997. The
outstanding marketing fees were owed to MSL pursuant to a marketing agreement
with a beauty product vendor under which agreement MSL was to provide certain
marketing and promotional services in China for the vendor's product in return
for the marketing fee. The whole amount was satisfied by offsetting the cost of
beauty products purchased.
On September 30, 1996, Regent Town Holdings Limited and Jade Regal
Holdings Limited, subsidiaries of the Company (see "Business - Organization"),
entered into an agreement with a corporate beauty package subscriber (corporate
member) for the payment of the outstanding separate beauty service fees of
HK$6.2 million (US$800,000) by three instalments from December 31, 1996 to June
30, 1997. The first instalment of HK$2 million (US$258,000) due on December 31,
1996 was satisfied by the deposit paid on behalf of the Company for the lease
improvement fee of the new premises in Hong Kong. The second installment of HK$2
million (US$258,000) due on March 31, 1997 was repaid in cash. The fianal
installment was settled in cash in November 1997.
COMPETITION
HONG KONG
The competition of the Company consists of the following.
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Upscale Market
- --------------
The Hong Kong upscale market consists of exclusive private clubs which
usually provide both fitness services and spa treatments at very high prices.
These private clubs are typically oriented towards women and offer a great deal
of variety to their customers. Annual membership fees average approximately
HK$19,000 (US$2,500) and beauty treatments are charged separately upon usage.
These facilities use expensive, name-brand equipment, luxurious decoration,
large areas of space up to 30,000 sq ft, and offer a wide range of services to
attract customers. The two primary clubs in this category are Philip- Wain and
Body by Deborah International Health Spa. There are certain upscale market
establishments which provide fitness services only, most are for both male and
female, and are concentrated in one area of Hong Kong. The joining fees range
from HK$2,000 (US$258) to HK$7,000 (US$903) with monthly membership fees ranging
from HK$350 (US$45) to HK$800 (US$103). These establishments range in size from
10,000 sq ft to 30,000 sq ft. Examples are Ray Wilson s California Gym and New
York Fitness. Another fitness only company, Tom Turk, was the earliest entrant
into the Hong Kong Market, with the first outlet opening in the early 1980's.
The Tom Turk facilities have fees that target between the upper and middle
market customer, and their two locations are each approximately 30,000 sq. ft.
Tom Turk attracts primarily a male clientele and emphasizes their extensive line
of free weights, workout equipment and swimming pools. The Company's fitness/spa
facilities compete directly primarily with the middle markets (see below), with
the exception of Renaissance Beauty Center, which targets upscale market.
Middle Market
- -------------
There are very few establishments in this class which provide both
fitness services and spa/ beauty treatments in a single facility. The closest
competitor would be a facility called Mid-City, which provides both services for
men and women. This facility has only one location with an area of approximately
15,000 sq ft. Another competitor of the Company in the same category is Modern
Beauty Salon with six locations of various sizes up to approximately 15,000 sq.
ft. An average down payment joining fee of HK$2,000 (US$258) is required to
become a member of the above centers. Another establishment which provides only
fitness services is The Lift Club. The Lift Club has three outlets in prime
locations, with approximately 10,000 sq ft each. The joining fee is HK$1,600
(US$206) and the monthly fee is HK$550 (US$71). The operators of spa/beauty
services only which are in direct competition with the Company include
Expression, with one location, and Angel Face Beauty Creations (International)
Ltd., with nine locations. The management believes that, these facilities do not
offer as high a level of fitness equipment and instruction as the Company does
and that the Company offers a more comprehensive level of spa treatments than
these facilities. The Company targets primarily the middle market.
Low-End Market
- --------------
In this category, most establishments only provide either fitness
services or simple beauty treatments. These establishments are usually much
smaller in size and have a limited range of services. Representatives of the
low-end market include Frank & Wit, The Fitness Gym, Paradise Health Club, Tess
Beauty, and Health City. Joining fee to these facilities vary from HK$600
(US$77) to HK$2,000 (US$258), and monthly fees average approximately HK$430
(US$55). In addition, there are numerous smaller facilities operating inside the
shopping arcades, and/or associated with hair salons and department stores.
Management believes that the Company does not directly compete with this market.
In the low-end fitness market, the government operates a small number of
gymnasium facilities. These are public facilities, open to both men and women
for nominal fees.
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CHINA
SPA SERVICES Certain spa services are provided by beauty salons, which
are very popular in China and have been in existence for several years. However,
most are small scale and offer only basic services in the Company's opinion and
as compared to the Company's facilities. Most salons are not modern and do not
possess certain international standards of skill and hygiene as most facilities
in Hong Kong. In the Management's view, these salons only have access to locally
manufactured skin care products, which tend to be low-tech and chemically-
based, since it is too costly for a small salon to use imported products. The
Company, as an exclusive agent for several professional European skin care
lines, maintains the leading edge in skin care. The closest competitors in the
spa industry would be several beauty salons with Hong Kong and Japanese
investors, including Carita in Shanghai, and Marco, in Dalian. Services in these
facilities are somewhat more up to date, though most do not exceed the Company's
facilities in size, nor in number of services available, in management's
opinion. Most of these salons use common department store skin care products,
which prevents them from differentiating themselves in the market. The Company
believes that no other salons offer a professional line of skin care products
for purchase, except for common, famous-name brands which are also available in
department stores.
FITNESS CENTERS There are several fitness centers in China, especially
following the opening of the Company's China facilities in Shanghai and Dalian.
The Company believes that its early entry into the market has helped it to
achieve the leading name in fitness. The Company believes that it was the first
to offer professional, up to date fitness services, up to date group exercise
(aerobics) classes, and a full range of modern exercise equipment. Though the
Company currently has only three facilities operating in China, the management
believes that its name has become already known as the Company has set the
standards for the fitness and spa industry for China. The closest competitors
are as follows:
Upscale Market
- --------------
There are many upscale recreation clubs in the major cities of China,
including Hong Kong City, Shanghai, and the Friendship Club in Dalian. These
facilities usually offer dining, bars, karaoke, massage, sauna, exercise, beauty
treatments, and occasionally bowling, tennis or golf. However, the trend for
such clubs has proven to be most successful when utilized as men's clubs. These
clubs are used primarily for entertaining business clients or for high-income
business men. Therefore, very little emphasis is placed on the level of service
and amenities within the fitness areas. Typically, most are staffed only with
receptionists as there is no demand for fitness professionals. Very few women
use such facilities. These clubs charge very high joining fees, usually upwards
of several thousand US dollars.
The majority of four and five star hotels have health clubs for outside
membership as well as for hotel guests. Usually these clubs have expensive,
brand name equipment, and often offer aerobics classes. Most also have luxury
shower and spa facilities. However, the price structure is usually comparable to
an upscale U.S. health club, and therefore is not affordable to the vast
majority of Chinese people. Such clubs cater to the ex-patriate business
community, and some are exclusive to such community. Their location, being
situated on the hotel premises, often limits size, and they tend to reach full
capacity with a low number of members. Since most hotels do not depend on the
health club as a major source of revenue, typically very little marketing or
membership incentives are used.
Middle Market
- -------------
There are several middle market fitness centers in some of the larger
cities in China. Many newly built housing complexes (upscale apartment buildings
and "western" style housing villages) have recreation centers. They typically
include swimming pools, tennis courts and gyms. In the management's opinion,
such facilities are luxurious by Chinese standards, but gyms are commonly
unstaffed or only have a receptionist. More and more such centers are providing
exercise classes as well, but lack of qualified instructors, in the management's
opinion, inhibits growth in this area. Such clubs have recently been opened in
Dalian, however, in the management's opinion, none of them matches the Company
in size, nor in the range of exercise equipment available, and classes offered
and the Company does not see them as the same level competitors. Shanghai has
several recently opened middle market clubs, such as DD's Personal Club and
YMCA. DD's Personal Club caters primarily to the expatriate market and is
therefore limited in growth. YMCA is not situated in a prime location and has
not used, in the management's opinion aggressive marketing, and in the
management's view to date has not made significant impact on the fitness
industry in Shanghai.
Low-End Market
- --------------
Group exercise is an extremely popular activity in China, but mainly
done by elderly people. As more interest is created in the younger market, a
wider variety of classes are now being offered in government facilities such as
gymnasiums, parks and town squares. Such facilities usually are held on a
basketball court in a gym, or a recreation hall with large open space. Typically
there are no shower, locker, or spa facilities available. The management
believes that the popularity of these facilities is due to the nominal fees
charged.
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TRADEMARKS AND TRADE NAMES
In July 1988, the Company and its predecessor began to market
substantially all its fitness centers under the servicemark "Physical Ladies'
Club" thereby eliminating the prior practice of using a different trade names
for each Center. The Company registered a servicemark under its trade name
"Physical Ladies' Club" in Hong Kong and its Chinese equivalent name in China.
In the opinion of the Company's trademark counsel in Hong Kong, the registration
enables the mark to distinguish the Company's services from similar services of
others, although it gives the Company no right to the exclusive use of the
words. The servicemark gives the Company a priority over the use of the
servicemark by others and the right to reject others from the use of the same
name. In China, the Company was only able to register the name in Chinese
language pursuant to the Chinese Trademark Law. In the opinion of the Company's
trademark counsel, the name "Physical Ladies' Club" is considered a direct
reference to the contents and features of the services in the servicemark and as
such it cannot be registered as a trademark under the Chinese Trademark Law. The
registration of the Chinese name, however, provides the Company with protection
of its name on a nation-wide basis and precludes others in China from using the
same name as the Company's. See also "Risk Factors".
SEASONALITY
Historically, the Company has experienced greater sales in the third
quarter of each year. In recent years, the Company has lessened this seasonal
effect by the use of sales incentives and awards for its sales personnel and
members, as well as other marketing initiatives.
INSURANCE
The Company maintains liability insurance providing coverage to the
Company with respect to accidental bodily injury and accidental loss of or
damage to property of any customer or employee of the Company, which would occur
in connection with the business of the Company and on the premises of the
Company. The Company does not maintain product liability insurance with respect
to the beauty products used in its spa treatments. See "Risk Factors - Lack of
Product Liability Insurance".
RESEARCH AND DEVELOPMENT
The Company's business is service-oriented, therefore it does not have a
formal Research & Development department, however, its marketing and training
departments are closely following the evolution of international fitness and
beauty trends.
EMPLOYEES
The Company has approximately 400 employees, including approximately 100
part-time employees. Approximately 350 employees are involved in fitness and spa
operations, including sales personnel, instructors, spa and supervisory
personnel. Approximately 50 are administrative support personnel, including
accounting, marketing, training and other services.
The Company is not a party to any collective bargaining agreement with
its employees. The Company has not experienced a high turnover of non-management
personnel and also has not had difficulty in obtaining adequate replacement
personnel, except with respect to sales personnel, which the Company believes
have become somewhat more difficult to replace due, in part, to increased
competition for skilled retail sales personnel.
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PROPERTIES
The Company's headquarters which include the Company's executive and
administrative offices are located at a 30,000 square feet facility in Hong Kong
pursuant to a lease expiring February 28, 2003. The Company recently relocated
its headquarters and its Causeway Bay location to this location in order to
accommodate additional customers, and more extensive lines of fitness and spa
treatment equipment.
On November 27, 1996, the Company entered into a three year lease of
approximately 25,000 square feet, to accommodate the relocation of the
Tsimshatsui Center, in order to upgrade and accommodate a larger numbers of
customers.
Aggregate rental expense was approximately HK$18.3 million (US$2.4
million) and HK$21..2 million (US$2.7 million) for the year ended December 31,
1995 and 1996, respectively. The Company's current aggregate annual rent is
HK$29.1 million (US$3.8 million).
Mei Foo is the only location indirectly partially owned by the Company.
The Company ( through its subsidiary, Ever Growth Limited), directly owns 700
sq. ft. of the property where the Mei Foo center is located, which space is used
for spa facility. The remaining 7,300 sq. ft., also located in the same building
where the spa is, is leased and is used for fitness facilities.
Set forth below is the information regarding the Company's centers in
Hong Kong and China.
<TABLE>
FITNESS/SPA CENTERS - HONG KONG AND CHINA
<CAPTION>
Current
Term Monthly
HONG KONG Size Own/Lease Expiration Renewal Option Rent (1)(2)
---- --------- ---------- -------------- ------------
<S> <C> <C> <C> <C> <C>
Shop A on 11-F, 12/F-15/F., 30,000 sq. ft. Lease 2/28/2003 None HK$1,165,124
Lee Theatre Plaza
99 Percival Street
Causeway Bay, Hong Kong
10/F-12/F., Storeroom on 25,000 sq. ft. Lease 1/31/2000 (3) 3 Years HK$649,241
5/F, Room 701A, Prestige
Tower
23-25 Nathan Road
Tsimshatsui, Hong Kong
Room 901A, 9F, Unit 605- 15,000 sq. ft. Lease 4/30/1998 (5) None HK$381,431 (4)
609, Level 6
12/F., New Town Tower
10-18 Pak Hok Ting Street
Shatin, Hong Kong
P/F., Stage 8 8,000 sq. ft. Own/lease 4/30/1998 None HK$106,846
122B Broadway Street
Mei Foo Sun Chuen, Hong
Kong
14/F., Coda Plaza 5,000 sq. ft. Lease 6/30/2000 None HK$140,062
51 Garden Road
Central, Hong Kong
G/F., 3,000 sq. ft. Lease 6/30/2000 None HK$59,000
5 Junction Road
Kowloon City, Hong Kong
- ---------------------
</TABLE>
(1) Monthly rent is paid in HK Dollars
(2) Monthly rent also includes the management fee for property management.
Excludes utilities.
(3) Lease for Room 701A expires on July 31, 1999.
(4) Monthly rent, including management fee, for Room 901A, 9/F and 12/F is
HK$269,516 (from January 1, 1998); monthly rent, also including the
management fee, for Unit 605-609 is HK$111,915.
(5) Lease for Unit 605-609 expires on July 4, 1999.
46
<PAGE> 55
<TABLE>
<CAPTION>
Current
Term Monthly
CHINA Size Own/Lease Expiration Renewal Option Rent (1)(2)
---- --------- ---------- -------------- ------------
<S> <C> <C> <C> <C> <C>
6/F., Huangpu Gymnasium 15,000 sq. ft. Lease 9/6/2003 None HK$89,525 (2)
No. 311 Shandong Road
(Mid)
Shanghai
4/F., China Wanda Bldg 15,000 sq. ft. Lease 2/28/2008 None HK$143,333 (3)
No. 18 Hongda Road
Zhongshan District, Dalian
2/F, 3/F, 4/F, Block B No. 12,000 sq. ft. Lease 12/14/2004 None HK$176,009 (4)
Hong Qiao Road
Shanghai
</TABLE>
- ----------------------
(1) Monthly rent is paid in Rmb, with the exception of Dalian property, for
which the rent is paid in HK Dollars.
(2) The monthly rent will increase 10% per year after January 2, 1998.
(3) The monthly rent increases 5% per year after March 1, 1999.
(4) Combined monthly rent includes management fee. The monthly rent will
increase 6% per year beginning May 1, 2001 for 2/F space and commencing
December 15, 1997 for 3/F and 4/F space.
PROPOSED NEW FACILITIES
The Company is currently negotiating lease agreements for the space to
be used for fitness and spa services in Tsuen Wan and Macau. Tsuen Wan is a
major district of the Western Kowloon province of Hong Kong, which is densely
populated and conveniently accessible. Based upon the Company's research, no
well-known health clubs have ever been set up in that area. The proposed terms
of the Tsuen Wan lease include 50,000 sq. ft., a term of 8 years, and a lease
payment of HK$722,000 (US$93,000) for the one month's rent for the first three
years. For the fourth to sixth year, the rent will be the then prevailing market
rent, not lower than the rent for the first three years, but not exceeding 125%
of the rent for the first three years. For the seventh and eight years, the rent
will be the then prevailing market rate, not lower than the rent for the fourth
to sixth year. The lease also includes a management fee of HK$309,000
(US$40,000) per month. The management fee is payable to the landlord under the
tenancy agreement, and includes the management fee of HK$80,000 (US$10,000),
air-conditioning charge of HK$ 82,000 (US$11,000) and extra air conditioning
charge of HK$147,000 (US$19,000).
Macau is strategically located at the mouth of Pearl River on the border
of China. Macau has a population of approximately 500,000 of which 50% is female
and over 98% of residents are Chinese (source: Hong Kong Trade Development
Council). The premises which the Company selected for the new center are located
in a high class commercial building. Based upon the Company's research, there
are no centers in Macau of similar standard as the Company's existing centers in
Hong Kong and China. The proposed terms of the Macau lease include 36,000 sq.
ft., a term of 6 years, and a lease payment of HK$535,000 (US$69,000) for the
one month's rent (which includes property management fee and air-conditioning)
for the first two years, and increased for the third year to HK 588,500
(US$76,000) per month, and increased to HK$735,625 (US$95,000) per month, for
the last two years.
The Company plans to use a portion of the proceeds of this Offering for
the initial one month lease deposits and for equipment purchases for the Tsuen
Wan and Macau proposed new centers. The Company also plans to use a portion of
the proceeds of this Offering for certain lease improvements needed to set up a
center in Tsuen Wan. Based on its internal research, the Company expects that
Tsuen Wan center should be able to generate a monthly revenue of HK$2.5 million
(US$323,000) and Macau center is expected to achieve a monthly revenue of HK$3
million (US$387,000), however, due to various economic, political and other
considerations, no assurances can be given that such revenues will be generated
by the proposed new centers. See "Risk Factors". If the Maximum Offering is not
obtained, the Company may need to seek its alternative sources of financing to
provide such expenditures with respect to the Tsuen Wan and Macau centers, in
which event the Company's plans may be changed or delayed. There is no assurance
that the Tsuen Wan center or Macau center will be opened as currently planned by
the Company. See "Use of Proceeds".
The Company believes that current facilities will be sufficient to
satisfy the Company's existing requirements. In its strategy to expand
operations, however, the Company will open new locations in China. Although the
Company believes that such locations will be available at affordable prices, no
assurance can be given. The Company believes that, in the event any of the
existing leases that expire within five years are not renewed, adequate
alternative space is available in the same areas at comparable rates. In the
Company's experience, most premises used for fitness/spa services have an
optimum life span of about five years, after which time they need to be improved
and/or renovated. The Management believes that the costs of such renovation are
not lesser than the cost of acquiring new premises, and therefore the Company is
not concerned with the fact that most of its leases do not have renewal options.
48
<PAGE> 56
GOVERNMENT REGULATION
HONG KONG
The Hong Kong operations and business practices of the Company are
subject to regulation at the local level. General rules and regulations,
including those of the local consumer protection agencies, apply to the
Company's advertising, sales and other trade practices.
Statutes and regulations affecting the fitness, spa and beauty
industries have been enacted or proposed in all of the areas in which the
Company conducts business. Typically, these statutes and regulations prescribe
certain forms and regulate the terms and provisions of membership contracts,
allowing the member the right to cancel the contract within, in most cases, 14
business days after signing, requiring an escrow for funds received from
pre-opening sales or the posting of a bond or proof of financial responsibility,
and, in some cases, establishing maximum prices and terms for membership
contracts and limitations on the term of contracts. In addition, the Company is
subject to several other types of regulations governing the sale and collection
of memberships, as well as laws governing the collection of debts. These laws
and regulations are subject to varying interpretations by local consumer
protection agencies and the courts. The Company maintains internal review
procedures in order to comply with these requirements and it believes that its
activities are in substantial compliance with all applicable statutes, rules and
decisions.
Under typical regulations, members of fitness centers have the right to
cancel their un-used memberships for a period of 30 to 60 days after the date
the contract was entered into (depending on the applicable law) and are entitled
to refunds of any payment made. The specific procedures for cancellation in
these circumstances vary according to differing local laws. In each instance,
the canceling member is entitled to a refund of prepaid amounts only.
Furthermore, where permitted by law, a cancellation fee is due to the Company
upon cancellation and the Company may offset such amount against any refund
owed. The Company's membership contracts provide that a member's one-time
membership fee is non-refundable in case of cancellation.
The Consumer Council of Hong Kong protects the rights of consumers,
including memberships, such as those offered by the Company. The members have a
right to dispute the price or quality of the service, if they find it
unsatisfactory. The Council also assists consumers in cases of false claims made
by the companies with respect to a specific service offered by them. The Company
is cautious in advertising its services, and it never promotes or guarantees
unrealistic results concerning skin care or fitness services, therefore the
Company rarely faces complaints in this respect from its consumers.
The Company facilities are also subject to building, health and safety
laws. The laws require a normal building inspection at the time of renovation of
the club facilities and/or fire safety inspection. Since the Company's
facilities typically are a part of a large office building for which a license
is granted, if the Company does not comply with all the regulations, the
landlord would not be granted a license. The Board of Health carries out an
inspection of shower and restroom facilities to make sure that they comply with
the standards imposed by the Board. In order to have massage services, the law
requires a special massage license. The Board of Health and Police Department
also hold random inspections of the facilities providing massage services, since
there are strict laws requiring that massage therapists be of the same sex as
the customers. As the Company is exclusively open to women in all centers, but
one, there have been no concerns with this regulation.
49
<PAGE> 57
CHINA
In China, the Company's operations and business practices are subject to
regulation from the central government, which is often carried out at local
levels. There is a Consumer Council in China which is now expanded to most urban
areas and whose role is to protect consumers and enforce consumer rights in
cases of dispute regarding quality of the product or service or misleading
claims. The Consumer Council holds considerable power in China and can impose
large fines upon a company it finds in violation of consumer laws. The Consumer
Council would often publish a statement against a fined company in a local
newspaper.
China requires a fire safety inspection and license before completion of
renovation of the facility. The safety department performs unannounced
inspections every year to ensure proper compliance with the regulations, such as
maintenance of clear fire exits, extinguishers, smoke detectors and other safety
equipment.
The Board of Health has strict regulations regarding spa facilities and
fitness/beauty equipment that is used by many people per day. The Board requires
an initial license before opening of the facilities and requires installation of
certain antibacterial and hygiene equipment. For example, the beauty treatment
area is required to have ultra-violet ("UV") disinfection lamps installed within
every 5 feet of public space. The law also requires UV disinfection every night
for the air, beds and chairs in the area. The Board also requires "hot cabinet"
disinfection units for small beauty tools and equipment. In the Company's
experience, random inspections of those areas of the spa are often done by the
Board of Health.
The Board of Health also requires an inspection and license for each
imported cosmetic or skin care product. The license must be obtained from the
Central Government in Beijing and a substantial fee is charged for the testing
of each imported product.
In China, the Board of Health is responsible for monitoring the
operation of the Company's spas, however, their strict regulations fall in line
with the standards of the Company and therefore, to date, there has been no fine
or restriction of the operation of any fitness or spa facility.
There is a Council for Fair Pricing in China, and every business that
sells products or provides services must register their fees with this
department. The Council has a right to dispute fees if it deems them
unreasonable, however to date, the Council's directives are just a formality
which is limited to collecting a registration fee from each business and rarely
questions the pricing.
The Police Department has strict regulations in China regarding massage
services and requires (although in the management's experience, it seldom checks
for compliance) the Company to ensure that the massage therapist is of the same
sex as the customer. A special license is required for massage services, which
is in management's opinion, difficult to obtain. The massage therapist must be
certified and licensed by a government affiliation, and must have an annual
health examination. Since all the Company's centers in China are exclusively for
women and include only female staff, the Company has not been impacted by those
regulations.
China has also regulations which are so restricting, that, in fact,
amount to not allowing independently owned fitness and beauty spas by foreign
companies. Instead, the regulations encourage joint ventures with a foreign
company. Fitness and beauty spas fall under the category of "Entertainment and
Recreation", which to date have always been business entities in a form of joint
ventures.
LEGAL PROCEEDINGS
There are no pending material legal proceedings to which the Company or
any of its properties is subject, nor to the knowledge of the Company, are any
such legal proceedings threatened.
50
<PAGE> 58
MANAGEMENT
DIRECTORS AND EXECUTIVE OFFICERS
The officers and directors of the Company, their ages and present
positions held with the Company are as follows:
NAME AGE POSITIONS WITH THE COMPANY
Ngai Keung
Luk (Serleo) 42 Chairman of the Board of Directors, Chief Executive
Officer
Jill Bodnar 33 President and Director
Robert Chui 41 Chief Financial Officer and Director
Darrie Lam 35 Executive Vice President, Secretary and Director
Yuk Wah Ho 42 Executive Vice President and Director
Yat Ming Lam 41 Director
The following is a brief summary of the background of each director,
executive officer and key employees of the Company:
NGAI KEUNG LUK (SERLEO), CHIEF EXECUTIVE OFFICER, CHAIRMAN. Mr. Luk has
been the Chairman of the Board of Directors and Chief Executive Officer of the
Company since October, 1996. He is the founder of Physical Spa & Fitness and has
over twelve years' experience in the physical health service business. Mr. Luk
was previously employed as a trader on the floor of the Hong Kong gold exchange.
Mr. Luk is a controlling shareholder of the Company and owns beneficially
approximately 80% of the Company's Common Stock (see "Principal Shareholders").
JILL BODNAR, PRESIDENT, DIRECTOR. Ms. Bodnar has been the Company's
President since October, 1996. She received a Bachelor Degree in Exercise
Physiology from the University of Massachusetts, USA in 1987. Prior to joining
the Company in 1993, Ms. Bodnar worked as a fitness professional in Boston
facilities, and was recruited to Asia to open a Hong Kong sports complex in
1990. On completion of the project, Ms. Bodnar joined the Company to develop the
chain in China in 1993. Ms. Bodnar was honored by IDEA Association for Fitness
Professionals in 1995 for her achievements in the industry. Ms. Bodnar is fluent
in Mandarin.
ROBERT CHUI CHI YUN, CHIEF FINANCIAL OFFICER, DIRECTOR. Mr. Chui has
been Chief Financial Officer of the Company since October, 1996. Mr. Chui
graduated from Concordia University, Canada. He is a practicing Certified Public
Accountant in Hong Kong and a fellow member of the Chartered Association of
Certified Accountants (UK). Mr. Chui has twelve years of experience with the
international accounting firm, Ernst and Young. Mr. Chui is responsible for
corporate planning and financial control.
DARRIE LAM HAU YIN, EXECUTIVE VICE PRESIDENT, SECRETARY, DIRECTOR. Ms.
Lam has been a Vice- President and Secretary of the Company since October, 1996.
Ms. Lam is a member of the Hong Kong Society of Accountants and the Chartered
Association of Certified Accountants (UK). She joined the Company in 1994 and
before that she worked with a major Hong Kong listed company, Wharf Group, as a
Financial Analyst. Ms. Lam is responsible for the Company secretarial affairs,
finance and administration functions.
51
<PAGE> 59
YUK WAH HO, EXECUTIVE VICE PRESIDENT, DIRECTOR. Ms. Ho has over eighteen
years' experience in beauty and skin care and has attended various international
beauty workshops held in Europe. Ms. Ho holds many certificates in beauty
therapy, skin care, and cosmetic applications from France, England, Taiwan and
Hong Kong, including Rene Guinot, Germain de Cappucini, and Sothy's. Ms. Ho is
responsible for the business development and staff training of the Company's
beauty treatment business. Ms. Ho is the wife of Mr. Luk.
YAT MING LAM, DIRECTOR. Mr. Lam has been a Director of the Company since
August, 1997. In the past four years, Mr. Lam has been employed as a Sales
Manager with Fitness Concept Leisure Supplies Ltd., one of the leading fitness
equipment and product suppliers. Previously, Mr. Lam was employed as a trader
with the Hong Kong gold exchange.
SIU LING CHENG, MARKETING MANAGER. Ms. Cheng holds a Bachelor Degree in
Marketing at the University of Southern Queens land, Australia. Ms. Cheng joined
the Company since 1992 as a marketing executive, and was promoted to marketing
manager the following year. Ms. Cheng is responsible for the Company's
promotional and marketing activities and public relations. Ms. Cheng also
coordinates and assists the marketing teams in China branches.
GILLIAN LOUISE HOLLOWAY, SENIOR FITNESS MANAGER. Ms. Holloway is a
member of the Association for Fitness Professionals. Ms. Holloway obtained the
qualifications of Certified Aerobics Instructor and Certified Personal Trainer
issued by the American Council on Exercise. Ms. Holloway joined the Company in
1991 and is responsible for the Company's fitness training services and
membership. Ms. Holloway received a Graduate Certificate in Recreation and
Sports Management issued by the Victoria University, Australia.
EXECUTIVE COMPENSATION
The following table sets forth information concerning the compensation paid by
the Company to Ngai Keung Luk, Chairman and Chief Executive Officer of the
Company and Jill Bodnar, President of the Company for the periods presented
below.
<TABLE>
SUMMARY COMPENSATION TABLE (US$)
<CAPTION>
Annual
Name and Principal Position Year Salary(1) Awards(2)
Bonus(3) Other compensation(4)
- --------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Ngai Keung Luk, CEO, Chairman 1994 16,000 ------ 70,000
1995 17,000 ------ 70,000
1996 15,500 ------ 82,000
Jill Bodnar, President, COO 1994 47,000 3,900
1995 47,000 3,900
1996 54,000 4,500
- ------------------------------------
</TABLE>
52
<PAGE> 60
(1) No officers received or will receive any bonus or other annual
compensation other than salaries during fiscal year 1996, other than
stated above. The table does not include any amounts for personal
benefits extended to officers of the Company, such as the cost of
automobiles, life insurance and supplemental medical insurance, because
the specific dollar amounts of such personal benefits cannot be
ascertained. Management believes that the value of non-cash benefits and
compensation distributed to executive officers of the Company
individually or as a group during fiscal year 1995 did not exceed the
lesser of US$50,000 or ten percent of such officers' individual cash
compensation or, with respect to the group, US$50,000 times the number
of persons in the group or ten percent of the group's aggregate cash
compensation.
(2) No officers received or will receive any long term incentive plan (LTIP)
payouts or other payouts during fiscal year 1996.
(3) Bonus awarded based on performance.
(4) Other compensation for Mr. Luk included an allowance for Mr. Luk's
living accommodations. The current yearly allowance of US$84,000 for the
fiscal year 1996, represents 50% of the fair market rent of the property
owned by a related company, Silver Policy Development Limited. The
remaining portion is shared by another related company, Williluck
International Limited. Mr. Luk and his wife are the shareholders and
directors of both Silver Policy Development Limited and Williluck
International Limited. The current market rent of the property is
US$14,000 per month. The Company and Williluck International Limited
each pay US$7,000 per month to Silver Policy Development Limited. Yearly
allowance to Mr. Luk is recorded on the Company's books as US$7,000 per
month, ie. US$84,000 per year. The money is paid directly to Silver
PolicDevelopment Limited. Physical Health Centre Hong Kong Limited is
using the property as security to obtain a full line of credit from the
Kwangtung Provincial Bank.
INDEMNIFICATION OF DIRECTORS AND OFFICERS
The laws of the State of Delaware and the Company's By-laws provide for
indemnification of the Company's directors for liabilities and expenses that
they may incur in such capacities. In general, directors and officers are
indemnified with respect to actions taken in good faith in a manner reasonably
believed to be in, or not opposed to, the best interests of the Company, and
with respect to any criminal action or proceeding, actions that the indemnitee
had no reasonable cause to believe were unlawful.
The Company has been advised that in the opinion of the Securities and
Exchange Commission, indemnification for liabilities arising under the
Securities Act is against public policy as expressed in the Securities Act and
is, therefore, unenforceable.
COMPENSATION OF DIRECTORS
The Company reimburses each Director for reasonable expenses (such as
travel and out-of -pocket expenses) in attending meetings of the Board of
Directors. Directors are not separately compensated for their services as
Directors.
EMPLOYMENT AND RELATED AGREEMENTS
There are no employment agreements with the Company's key employees at
this time. The Company anticipates that such agreements will be entered into
after the Offering.
1997 STOCK OPTION PLAN
The Company has a Stock Option Plan which was adopted by the Company's
stockholders and its Board of Directors on April 23, 1997 as "1997 Stock Option
Plan" (the "Plan"). Under the Plan, the Company may issue incentive stock
options, non-qualified options, restricted stock grants, and stock appreciation
rights to selected directors, officers, advisors and employees of the Company.
Under the Plan, a total of 500,000 pre-split (375,000 post-split) shares of
Common Stock are reserved for issuance. The Plan provides for appropriate
adjustments in the number and kind of shares subject to the Plan and to
outstanding options in the event of a stock split, stock dividend, or certain
other types of recapitalization. Stock options may be granted as non-qualified
stock options or incentive stock options, but incentive stock options may not be
granted at a price less than 100% of the fair market value of the stock as of
the date of grant (110% as to any 10% shareholder at the time of grant);
non-qualified stock options may not be granted at a price less than 85% of the
fair market value of the stock as of the date of grant. The Plan shall be
administered by an Option Committee which is to be composed of two or more
members of the Board of Directors who are disinterested directors. No persons
have been named to the Option Committee as of the date of this Prospectus. Stock
options may be exercised during a period of time fixed by the Option Committee
except that no stock option may be exercised more than ten years after the date
of grant or three years after death or disability, whichever is later. As of the
date hereof, no options have been granted by the Company.
53
<PAGE> 61
CERTAIN TRANSACTIONS
The Company made certain advances to Mr. Luk, the Company's Chief
Executive Officer and the Chairman of its Board of Directors, during the years
ended September 30, 1994, December 31, 1995, December 31, 1996 and the three
months ended December 31, 1994 which were non interest-bearing, unsecured and
repayable on demand. These advances were repaid in cash, by payments made by Mr.
Luk to the Company or by off-setting the dividends declared by the Group and
payable to Mr. Luk against the amounts owed to the Company. Dividends declared
during the year ended December 31, 1995 were off-set against amounts owed by Mr.
Luk. The Company ratified and approved on November 27, 1996, certain loans to
Mr. Luk, in the amount of HK$ 16.5 million (US$2.1 million) (the "Loan"). Mr.
Luk agreed to repay the Loan in eight installments by March 31, 1999 together
with the accrued interest thereon at the prime banking rate of interest of
8.75%. Mr. Luk has already repaid HK$2.3 million (US$297,000) of the outstanding
amount of the Loan and the outstanding principal amount of the Loan and accrued
interest was HK$14,839 (US$1,900,000) as of September 30, 1997. The second and
third installments of HK$4,600,000 (US$594,000) due on September 30 and December
31, 1997 were repaid in cash in December, 1997. The remaining outstanding
principal amount of the Loan is secured by a pledge of 1,500,000 pre-split
shares of common stock of the Company by Mr. Luk, as collateral for the Loan.
Mr. Luk does not have any other outstanding loans from the Company. See also
"Risk Factors" and Financial Statements, Note 6.
In January 1997, the Company approved an advance to Mr. Luk in the
amount of HK$ 6 million (US$780,000), which loan was repaid in full by Mr. Luk
on April 22, 1997.
In October, 1996, the Company closed a transaction with Mr. Luk, a 100%
shareholder of Physical Beauty & Fitness Holdings Limited, a British Virgin
Islands corporation ("Physical Limited"), whereby the Company entered into a
Share Exchange Agreement with Mr. Luk, pursuant to which the Company issued
8,000,000 pre-split shares of its Common Stock to Mr. Luk in exchange for all of
the outstanding shares of Physical Limited (the "Closing"). As a part of the
above transaction certain shareholders of the Company transferred 990,000
pre-split shares of Common Stock of the Company to Goodchild Investments
Limited, a British Virgin Islands corporation ("Goodchild"), whose beneficial
owner is Wong Kui Shing Danny, as consideration for Goodchild's beneficial
owners' prior interest in Physical Health Centre Hong Kong Limited, pursuant to
an arrangement between Goodchild and Mr. Luk. Neither Mr. Luk nor Goodchild were
parties affiliated with the Company prior to or at the time of the acquisition
of Physical Limited. At the Closing the then current management of the Company
resigned and was replaced by the current management of the Company. In February,
1998, Goodchild sold all of its shares of common stock of the Company in open
market public transactions.
Mr. Luk receives a monthly allowance of HK$53,000 (US$82,000 for the
fiscal year 1996) for his living accommodations. Such allowance represents 50%
of the fair market rent of the property owned by a related company, Silver
Policy Development Limited ("Silver"). Pursuant to the lease agreement between
Sliver and Physical Health Centre Hong Kong Limited ("Hong Kong Limited"), the
premises for Mr. Luk and his family are rented by Hong Kong Limited from Silver
for HK$106,000 (US$14,000) per month. Hong Kong Limited then charges back a
related company, Williluck International Limited ("Williluck") for a 50% share
of the rent. Mr. Luk is a director of Williluck. Hong Kong Limited is using the
property as security to obtain a full line of credit from the Kwangtung
Provincial Bank. See also "Management - Compensation".
54
<PAGE> 62
The Company had the following transactions with related companies (see
Financial Statements, Note 6) :
<TABLE>
<CAPTION>
Year ended Three months ended Year ended Nine months ended
September 30, December 31, December 31, December 31, December 31, September 30, September 30,
1994 1993 1994 1995 1996 1996 1997
HK$ HK$ HK$ HK$ HK$ HK$ HK$
(unaudited) (unaudited) (unaudited)
<S> <C> <C> <C> <C> <C> <C> <C>
Rental of a director's 540 - 135 540 636 453 477
quarters
Purchase of cosmetics and
beauty products 1,955 - 416 2,246 - - -
Purchase of beauty and
fitness equipment 9,580 - 273 898 - - 2,681
Sales of beauty and fitness
equipment 295 - - 1,367 793 793 -
Purchase rebate received 542 - - 1,208 - - -
Management fee received 660 692 2 10 12 12 12
</TABLE>
Certain general and administrative expenses incurred by the Company during
the relevant periods on behalf of the related companies were reimbursed by the
respective related companies at cost.
Mr. Luk had beneficial interests in all the aforementioned related
companies or the shareholders of the related companies were related to Mr. Luk.
Mr. Luk has also undertaken to indemnify the Company against any contingent
liabilities including tax liabilities and claims that may result from the
operating activities of the Company in Hong Kong, the PRC and elsewhere
occurring before September 30, 1997.
In 1996, Hong Kong Limited made an advance to Mr. Luk for the
acquisition of a 5% equity interest in Regent Town Holdings Limited ("Regent")
from a minority shareholder ("the Minority Shareholder") at a consideration of
approximately HK$312,000 (US$40,000). In addition, an advance of approximately
HK$1,200,000 (US$155,000) was made to Mr. Luk to repay a loan from the Minority
Shareholder on behalf of Regent. These advances were included in the balance due
from Mr. Luk as mentioned above. On November 13, 1996, Mr. Luk transferred his
equity interests in Regent acquired from a minority shareholder to Physical
Holdings at cost and repaid the advance of approximately HK$1,200,000
(US$155,000) made from Hong Kong Limited. As a result, the Company increased its
equity interest in Regent from 83.5% to 88.5%. See Financial Statements, Note 6.
Pursuant to loan agreements between Regent and Supreme Resources Limited
("Supreme") and their minority shareholders, certain loans were made to Regent
and Supreme by their minority shareholders. As of December 31, 1996 and
September 30, 1997, the outstanding loan balances amounted to approximately
HK$5,160,000 (US$666,000). The loan balances are non-interest bearing and
unsecured. The minority shareholders have agreed that the loans are repayable
when Regent and Supreme are financially capable of doing so.
During the year ended December 31, 1996, minority shareholders of Hong
Kong Limited agreed to assign the dividends declared and receivable from Hong
Kong Limited for the year ended December 31, 1995 in the amount of approximately
HK$2,821,000 (US$364,000) to Mr. Luk without any consideration. The dividends so
assigned were offset against the advances made by the Company to Mr. Luk as
mentioned above. See also Financial Statements, Note 6.
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PRINCIPAL AND SELLING STOCKHOLDERS
The following table sets forth certain information regarding beneficial
ownership of the Company's Common Stock, as of March 7, 1998, and as adjusted
to reflect the sale of the Shares offered hereby (assuming no exercise of the
over-allotment option) by (i) each stockholder known by the Company to be the
beneficial owner of more than five percent of the outstanding Common Stock, (ii)
each director of the Company, (iii) each officer of the Company, (iv) all
directors and officers as a group. Unless otherwise indicated, the address for
each stockholder is 12/F - 15/F Lee Theatre Plaza, 99 Percival St., Causeway
Bay, Hong Kong, and (v) Selling Stockholders.
<TABLE>
<CAPTION>
NAME AND AMOUNT AND PERCENTAGE BENEFICIALLY OWNED
ADDRESS OF BENEFICIAL NATURE
OWNER OF BENEFICIAL
- ----- OWNERSHIP (1)
BEFORE AFTER
OFFERING OFFERING (2)
DIRECTORS, OFFICERS AND 5% STOCKHOLDERS
<S> <C> <C> <C> <C>
Ngai Keung Luk (Serleo)(3) 6,000,000 80.00% 76.19%
Jill Bodnar, President 0 0.00% 0.00%
Yat Ming Lam, Director 0 0.00% 0.00%
Robert Chui, CFO 0 0.00% 0.00%
Darrie Lam, Vice President 0 0.00% 0.00%
Yuk Wah Ho, Vice President (4) 6,000,000 80.00% 76.19%
All officers and directors 6,000,000 80.00% 76.19%
as a group (6 persons)(3)
</TABLE>
OTHER SELLING SHAREHOLDERS
Jonathan Mork
9551 Wilshire Boulevard
Beverly Hills, CA 90212
Robert Alvarez
2618 Southwest 23 Ter.
Suite 202
Ft. Lauderdale, FL 33312
- ----------
(1) Except as otherwise indicated, the Company believes that the beneficial
owners of Common Stock listed below, based on information furnished by
such owners, have sole investment and voting power with respect to such
shares, subject to community property laws where applicable. Beneficial
ownership is determined in accordance with the rules of the Securities
and Exchange Commission and generally includes voting or investment
power with respect to securities. Shares of Common Stock subject to
options or warrants currently exercisable, or exercisable within 60
days, are deemed outstanding for purposes of computing the percentage of
the person holding such options or warrants, but are not deemed
outstanding for purposes of computing the percentage of any other
person.
(2) Does not assume exercise of the Underwriter's over-allotment option.
Based upon 7,875,000 post-split (10,500,000 pre-split) shares of Common
Stock outstanding after the Offering.
(3) Mr. Luk pledged 1,250,000 post-split (1,500,000 pre-split) shares of
Common Stock for the loans received from the Company under that certain
Pledge Agreement dated September 30, 1997.
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<PAGE> 64
DESCRIPTION OF SECURITIES
GENERAL
The authorized capital stock of the Company consists of 100 million
shares of Common Stock, par value $0.001 per share, of which, 7.5 million are
issued and outstanding, following the 1.3333-for-1 reverse split in October,
1997, and 10 million shares of Preferred Stock, par value $0.001, of which no
shares are issued or outstanding. The following summary description of the
capital stock of the Company does not purport to be complete and is subject to
the detailed provisions of, and qualified in its entirety by reference to, the
Certificate of Incorporation and By-Laws, copies of which have been filed as
exhibits to the Registration Statement of which this Prospectus is a part, and
to the applicable provisions of the General Corporation Law of the State of
Delaware (the "DGCL").
COMMON STOCK
Holders of Common Stock have one vote per share on each matter submitted
to a vote of the shareholders and a ratable right to the net assets of the
Company upon liquidation. Holders of the Common Stock do not have preemptive
rights to purchase additional shares of Common Stock or other subscription
rights. The Common Stock carries no conversion rights and is not subject to
redemption or to any sinking fund provisions. All shares of Common Stock are
entitled to share equally in dividends from legally available sources as
determined by the Board of Directors, subject to any preferential dividend
rights of the Preferred Stock (described below). Upon dissolution or liquidation
of the Company, whether voluntary or involuntary, holders of the Common Stock
are entitled to receive assets of the Company available for distribution to the
shareholders. All outstanding shares of Common Stock are validly authorized and
issued, fully paid and non-assessable.
PREFERRED STOCK
The Company is authorized to issue up to 10,000,000 shares of Preferred
Stock, par value $0.001 per share. No shares of Preferred Stock are issued or
outstanding as of the date of this Prospectus. The Board of Directors is
authorized to establish and designate the classes, series, voting powers,
designations, preferences and relative, participating, optional or other rights,
and such qualifications, limitations and restrictions of the Preferred Stock as
the Board, in its sole discretion, may determine without further vote or action
of the shareholders.
The rights, preferences, privileges, and restrictions or qualifications
or different series of Preferred Stock may differ with respect to dividend
rates, amounts payable on liquidation, voting rights, conversion rights,
redemption provisions, sinking fund provisions, and other matters. The issuance
of Preferred Stock could decrease the amount of earnings and assets available
for distribution to holders of common stock or could adversly affect the rights
and powers, including voting rights, of holders of common stock.
The existence of the Preferred Stock, and the power of the Board of
Directors of the Company to set its terms and issue a series of Preferred Stock
at any time without shareholder approval, could have certain anti-takeover
effect.
WARRANTS
The Warrants will be issued pursuant to an agreement, dated as of the
date of this Prospectus (the "Warrant Agreement"), between the Company and
____________, as warrant agent (the "Warrant Agent"). None of the Warrants have
been issued prior to this Offering. The following discussion of the material
terms and provisions of the Warrants is qualified in its entirety by reference
to the detailed provisions of the Warrant Agreement, the form of which has been
filed as an exhibit to the Registration Statement on Form SB-2 of which this
Prospectus forms a part.
The Warrants are being offered at $0.33 per Warrant in this Offering.
Each Warrant will entitle the holder to purchase, commencing at any time after
the issuance, one share of Common Stock at an exercise price of $6.00 per share,
subject to certain adjustments. Unless exercised, the Warrants will
automatically expire on _______, 2003.
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<PAGE> 65
Commencing one year after the date hereof, the Company may redeem the
Warrants, in whole but not in part, at the option of the Company upon not less
than 30 days' notice, at a price of $0.05 per Warrant (the "Redemption Price"),
provided the then current market price of the Company's Common Stock is at least
$8.00 for 30 consecutive business days ending within 15 days of the date of the
notice of redemption. If Warrants are not exercised by the holder(s) thereof
within such 30-day period, then they may be redeemed by the Company at the
Redemption Price. In the event the Company exercises its right to redeem the
Warrants, such Warrants will be exercisable until the close of business on the
date fixed for redemption in such notice. If any Warrant called for redemption
is not exercised by such time, it will cease to be exercisable and the holder
thereof will be entitled only to the Redemption Price.
CERTAIN PROVISIONS OF THE COMPANY'S CERTIFICATE OF INCORPORATION AND BY-LAWS
The Company's Certificate of Incorporation provides that no director of
the Company shall be liable to the Company or its stockholders for monetary
damages for breach of fiduciary duty as a director, except for liability (I) for
any breach of the director's duty of loyalty to the Company or its stockholders,
(ii) for acts or omissions not in good faith or which involve intentional
misconduct or a knowing violation of laws, (iii) in respect of certain unlawful
dividend payments or stock redemptions or repurchases pursuant to Section 174 of
the DGCL or (iv) for any transaction from which the director derived an improper
personal benefit. The effect of these provisions is to eliminate the rights of
the Company and its stockholders (through stockholders' derivative suits on
behalf of the Company) to recover monetary damages against a director for breach
of fiduciary duty as a director (including breaches resulting from grossly
negligent behavior), except in the situations described above. These provisions
will not limit the liability of directors under federal securities laws.
SECTION 203 OF DELAWARE GENERAL CORPORATION LAW
Section 203 of the DGCL prohibits certain transactions between a
Delaware corporation and an "interested stockholder," which is defined as a
person who, together with any affiliates or associates of such person,
beneficially owns, directly or indirectly, 15% or more of the outstanding voting
shares of a Delaware corporation. This provision prohibits certain business
combinations (defined broadly to include mergers, consolidations, sales or other
dispositions of assets having an aggregate value in excess of 10% of the
consolidated assets of the corporation, and certain transactions that would
increase the interested stockholder's proportionate share ownership in the
corporation) between an interested stockholder and a corporation for a period of
three years after the date the interested stockholder becomes an interested
stockholder, unless (I) the business combination is approved by the
corporation's board of directors prior to the date the interested stockholder
becomes an interested stockholder, (ii) the interested stockholder acquired at
least 85% of the voting stock of the corporation (other than stock held by
directors who are also officers or by certain employee stock plans) in the
transaction in which it becomes an interested stockholder or (iii) the business
combination is approved by a majority of the board of directors and by the
affirmative vote of 66 2/3% of the outstanding voting stock that is not owned by
the interested stockholder.
TRANSFER AGENT AND WARRANT AGENT
The Company's transfer and warrant agent for the Common Stock and
Warrants is Signature Stock Transfer, Inc., Dallas, Texas.
SHARES ELIGIBLE FOR FUTURE SALE
Upon successful completion of this Offering, the Company will have
outstanding 7,875,000 shares of Common Stock, without taking into account shares
of Common Stock issuable upon exercise of Warrants offered hereby, outstanding
options, conversion of outstanding preferred and common stock, the
Representative's Warrants and without giving effect to the exercise of the
over-allotment option granted to the Representative. All shares acquired in this
Offering, other than shares that may be acquired by "affiliates" of the Company
as defined by Rule 144 under the Securities Act, will be freely transferable
without restriction or further registration under the Securities Act.
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<PAGE> 66
Out of 7,875,000 shares to be outstanding after the Offering, 6,000,000
post-split shares outstanding prior to this Offering were shares issued by the
Company and sold by the Company in private transactions in reliance on an
exemption from registration. Accordingly, such shares are "restricted shares"
within the meaning of Rule 144 and cannot be resold without registration, except
in reliance on Rule 144 or another applicable exemption from registration.
In general, under Rule 144 as currently in effect, a person (or persons
whose shares are required to be aggregated), including any affiliate of the
Company, who beneficially owns "restricted shares" for a period of at least two
years is entitled to sell within any three-month period, shares equal in number
to the greater of (i) 1% of the then outstanding shares of Common Stock
(approximately 78,750 shares immediately after this Offering) or (ii) the
average weekly trading volume of the Common Stock during the four calendar weeks
preceding the filing of the required notice of sale with the Securities and
Exchange Commission. The seller also must comply with the notice and manner of
sale requirements of Rule 144, and there must be current public information
available about the Company. In addition, any person (or persons whose shares
are aggregated) who is not, at the time of the sale, nor during the preceding
three months, an affiliate of the Company, and who has beneficially owned
restricted shares for at least three years, can sell such shares under Rule 144
without regard to notice, manner of sale, public information or the volume
limitations described above.
TAXATION
The following discussion under "United States Federal Income Taxation"
generally summarizes the principal United States federal income tax consequences
of income earned by the company. The discussion under "Hong Kong Taxation"
generally summarizes the material Hong Kong tax applicable to the Company's
operations in Hong Kong. The discussion under "PRC Taxation" generally
summarizes the material PRC taxes applicable to the Company's investment in the
PRC. The discussion does not deal with all possible tax consequences applicable
to the Company. The following discussion is based upon laws and relevant
interpretations thereof of the Management of the Company in effect as of the
date of this Prospectus, all of which are subject to change.
UNITED STATES FEDERAL INCOME TAXATION
This summary is based on the Internal Revenue Code of 1986, as amended
(the "Code"), Treasury regulations, court decisions and current administrative
rulings and pronouncements of the United States Internal Revenue Service ("IRS")
in effect as of the date of this Prospectus, all of which are subject to change,
possibly with retroactive effect. There can be no assurance that future changes
in applicable law or administrative and judicial interpretations thereof will
not adversely affect the tax consequences discussed herein. Prospective
purchasers are advised to consult their own tax advisors regarding the tax
consequences of acquiring, holding or disposing of the Shares in light of their
particular circumstances.
TAXATION OF THE COMPANY. The Company will be subject to United States
federal income tax only to the extent it has income which has its source in the
United States or is effectively connected with a United States trade or
business. Income derived by the Company from its business in Hong Kong and the
PRC should not constitute United States source income. It is possible that the
Company may invest the net proceeds of this Offering, future earnings from the
business, or proceeds derived from the sale of Shares in United States
securities or cash equivalents. Income derived from United States securities or
cash equivalents will generally constitute United States source income and may
therefore be subject to United States federal income tax unless a statutory
exemption applies. The Company is predominantly invested in foreign
subsidiaries. Those subsidiaries are subjected to taxes imposed on them in the
foreign jurisdictions in which they operate and in which they are organized.
Further, their income is subject to US federal and state income taxes when
distributed, deemed distributed or otherwise attributed to, the Company, which
is a US corporation. Complex US tax rules apply for purposes of determining the
calculation of those US taxes, the availability of a credit for any foreign
taxes imposed on the foreign subsidiaries or the Company and the timing of the
imposition of US tax. Normally, all foreign income earned by a US multinational
eventually will be subject to US tax. Income earned by a foreign branch of a US
company is taxable currently in the United States, and income earned by a
foreign subsidiary will be subject to US tax either in the year distributed to
the US as a dividend or in the year earned by means of Subpart F, foreign
personal holding company or other federal tax rules requiring current
recognition of certain income earned by foreign subsidiaries. All of the
Company's direct and indirect foreign subsidiaries constitute "controlled
foreign corporations" ("CFCs") for purposes of the Subpart F rules of the
federal Internal Revenue Code. Among other consequences of CFC states, "Subpart
F income," as defined, of the profitable foreign subsidiaries will be directly
taxable to the Company, whether or not distributed to the Company. In general,
Subpart F income is defined as the income and gains of the foreign subsidiary
from its more passive investment-type activities. Subpart F income extends, in
general, however, to include intercompany payments (e.g., payments of dividends,
interest, royalties, etc.) between related foreign group members.
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<PAGE> 67
Thus, for example, dividend distributions from the Company's indirect
PRC and Hong Kong subsidiaries to the Company's British Virgin Island
subsidiary, Regent Town Holdings Limited, would cause that dividend income of
the British Virgin Island subsidiary to be directly taxable to the Company,
notwithstanding that the British Virgin Islands does not tax such dividend
income, and the British Virgin Island subsidiary does not distribute that
dividend income to the Company, but retains it. Income earned in foreign
countries often is subject to Foreign income taxes. In order to relieve double
taxation, the US federal tax law generally allows US corporations a credit
against their US tax liability in the year the foreign earnings become subject
to US tax in the amount of the foreign taxes paid on those earnings. The credit
is limited, however, under complex limitation rules, to, in general, the US
(pre-credit) tax imposed on the US corporation's foreign source income. Further,
complex rules exist for allocating and apportioning interest, research and
development expenses and certain other expense deductions between US and foreign
sources. Limiting provisions of the source rules decrease the amount of foreign
source income many US multinationals can generate. Reduced foreign source income
results in a smaller foreign tax credit limitation, as the limitation is based
on the ratio of foreign source net income to total net income. Further, separate
income baskets exist for purposes of the foreign tax credit limitation, which
makes it nearly impossible to reduce the effective foreign tax rate on
higher-taxed foreign operating income by diluting income in the overall basket
with relatively low-taxed foreign investment income. These rules can prevent US
multinationals from crediting all of the foreign taxes they pay. To the extent
that foreign taxes are not creditable, foreign source income bears a tax burden
higher than the US tax rate.
HONG KONG TAXATION
PROFITS TAX. The Company is subject to profits tax on all profits
(excluding capital profits) arising in or derived from Hong Kong. The source of
income is therefore the relevant factor, and this is generally regarded as a
question of fact. There are certain situations in which the Hong Kong tax
authorities are prepared to accept apportionment of chargeable profits, for
example when a Hong Kong-based company has manufacturing facilities in the PRC.
The proportion of income originating from the PRC and Hong Kong respectively in
such situations is a question of fact. However, where apportionment is
appropriate, the Hong Kong tax authorities usually adopt a 50:50 allocation
unless compelling circumstances dictate otherwise. Profits tax is levied at the
rate of 16.5% for corporations and 15.0% for unincorporated entities. Generally
speaking, business losses may be carried forward indefinitely to be offset
against future profits of the Company.
PRC TAXATION
INCOME TAX. The Company's investment is subject to the Income Tax Law of
the PRC for Enterprises with Foreign Investment (the" Foreign Investment
Enterprise Tax Law"). Pursuant to the Foreign Investment Enterprise Tax Law,
Sino-foreign equity and contractual joint venture enterprises generally are
subject to an income tax at an effective rate of 33%, which is comprised of a
state tax of 30% and a local tax of 3%.
The Shanghai and Dalian JV's, which were incorporated under the laws of
the PRC, provide for enterprise income tax on their assessable income in
accordance with the relevant regulations of the PRC, after considering all
available tax benefits and allowances. They are subject to Chinese enterprise
income taxes at the applicable rate of 33%.
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<PAGE> 68
VALUE-ADDED TAX ("VAT"). Effective January 1, 1994, all goods produced
or processed in the PRC, other than real property and goods produced or
processed for export, are subject to a new VAT at each stage or sale in the
process of manufacture, processing and distribution through the sale to the
ultimate consumer of the goods. The new basic VAT rate for the Company is 17% of
the sale price of the item. The seller of the goods adds 17% to the sale price
of the item, separately invoiced (except in the case of retail sales), and
collects the applicable amount of VAT through the sale of the item. The amount
of the seller's VAT liability to the Tax Bureau is calculated as the amount of
sales multiplied by the applicable VAT rate. The amount of the seller's VAT
liability may be reduced by deducting the invoiced amount of VAT included in the
materials, parts and other items purchased by the seller and used in producing
the goods.
The Value-Added Tax Provisional Regulations do not permit the seller to
deduct from its VAT liability the amount of VAT included in the purchase price
of fixed assets purchased by the seller. Thus, although the book value of fixed
assets, including plant and equipment purchased by the Company will be the
depreciated cost (ordinarily the purchase price plus VAT) paid at the time of
such purchase, the Company is not permitted to deduct from its VAT liability in
respect of products sold.
BUSINESS TAX. The business tax applies to business activities that are
not subject to the VAT. The business tax is payable by all individuals and
enterprises that engage in taxable business, transfers of intangible property,
or sales of immovable property in the PRC. The business tax is imposed on a
taxpayer when services are provided, intangible assets or real properties are
transferred for consideration. Consideration includes payments in cash, in
property, or in other forms of economic benefits. This tax is imposed at rates
ranging from 3 percent. to 20 per cent. Taxable businesses include
transportation, postal and communications, construction, banking and finance,
insurance, entertainment, cultural and sports activities and service industries.
The Company's operations in China are subject to 5% business tax rate.
CONSUMPTION TAX. The consumption tax is an excise tax applicable to
certain taxable activities. It is a tax in addition to the VAT. The tax applies
to Chinese enterprises and foreign investment enterprises engaged in taxable
activities within the PRC. Taxable activities include manufacturing , and
importation of taxable goods. Taxable goods manufactured and used by a taxpayer
for the production of other taxable goods are not subject to the tax. Exports
are exempt from this tax. Taxable goods include tobacco and liquor products,
cosmetics, fireworks, gasoline, motorcycles and automobiles. These goods are
taxed at rates ranging from 3% to 45 %.
TAXATION OF DIVIDENDS FROM THE PRC. Dividends distributed to the Company
can be remitted from the PRC without any PRC taxation. Although the Foreign
Investment Enterprise Tax Law provides that certain remittances of foreign
exchange earnings from the PRC are subject to PRC withholding tax, dividends
received by foreign investors from a foreign investment enterprise are exempt
from withholding tax. The Company's PRC subsidiaries are qualified as foreign
investment enterprises, so withholding tax is not applicable to dividends
received by the Company from these subsidiaries.
TAXATION OF DISPOSITION OF INTEREST IN PRC SUBSIDIARIES. In the event
the Company transfers its interest in its PRC subsidiaries, the amount received
in excess of its original capital contribution would be subject to PRC
withholding tax at the rate of 20%.
In the event that the Company's PRC subsidiaries are liquidated, the
portion of the balance of their assets or remaining property, after deducting
undistributed profits, various funds and liquidation expenses, that exceeds the
Company's paid-in capital would be treated as income from liquidation, which
would be subject to income tax at the same rate that would apply to the
Company's income as described under "Income Tax."
BRITISH VIRGIN ISLANDS TAXATION
Under the International Business Companies Act (the "Act") of the
British Virgin Islands ("BVI") as currently are in effect, a holder of common
stock who is not a resident of BVI is exempt from BVI income tax on dividends
paid with respect to the common stock and all holders of common stock are not
liable to BVI income tax on gains realized during that year on sale or disposal
of such shares the BVI does not impose a withholding tax on dividends paid by
the company incorporated under the Act.
There are no capital gains tax, gift or inheritance taxes levied by the
BVI on companies incorporated under the Act. In addition, the common stock is
not subject to transfer taxes, stamp duties or similar charges.
There is no income tax treaty or convention in effect between the United
States and the BVI, nor, as far as the Company is aware, is any such treaty or
convention currently being negotiated.
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PLAN OF DISTRIBUTION
Global Financial Group (the "Selling Agent" or "Representative") has
agreed, subject to the terms and conditions of the Selling Agent Agreement, to
act as the exclusive agent for the Company to sell the Common Stock Shares and
the Warrants offered hereby. The Selling Agent has made no commitment to
purchase or take down all or part of the Securities offered hereby, but agreed
to sell a maximum of 375,000 Shares and 375,000 Warrants ("Maximum Offering") on
a "best efforts" and "all or nothing" basis by January 15, 1998, which period
may be extended to up to additional 30 days ("Offering Period"). No Shares of
Common Stock of Selling Shareholders will be sold to the public in this Offering
until Maximum Offering is first achieved. In the event the Maximum Offering is
not achieved prior to the expiration of the Offering Period, this Offering will
terminate and all funds will be returned promptly to the subscribers without
deduction therefrom or interest thereon.
The Selling Agent has advised the Company that it proposes to offer the
shares of Common Stock and Warrants to the public at the public offering prices,
respectively, set forth on the cover page of this Prospectus, and that it may
allow, to selected dealers who are members of the National Association of
Securities Dealers, Inc. (the 'NASD') concessions, not in excess of $____ per
Share ($_____ per Warrant) of which not in excess of per Share ($____ per
Warrant) may be reallowed to other dealers who are members of the NASD. After
the public offering, the public offering price, concessions and reallowances may
be changed by the Selling Agent.
The Company has granted options to the Selling Agent exercisable during
the 45-day period from the date of this Prospectus, to purchase up to 15% of
additional shares and up to 15% of additional warrants, at the public offering
price set forth on the cover page of this Prospectus, less the underwriting
discounts and commissions. The Selling Agent may exercise these options,
respectively, in whole, or, from time to time, in part, solely for the purpose
of covering over-allotments, if any, made in connection with the sale of the
Shares and Warrants offered hereby.
The Company has agreed to pay to the Selling Agent a non-accountable
expense allowance representing 3% of the aggregate offering price of the
securities offered hereby (plus 3% of the aggregate offering price of any Shares
or Warrants purchased pursuant to the Representative's Over-Allotment Options),
$25,000 of which has been paid to date and to reimburse the Representative for
its legal fees incurred in connection with the offering, up to $20,000. The
Company has also agreed to additionally compensate the Representative through
the sale to the Representative, for nominal consideration of $0.001 per warrant,
of warrants (the "Representative Warrants I") entitling the holder thereof to
purchase certain number of shares of Common Stock equal to 10% of the Common
Stock sold by the Representative in this Offering (including the over-allotment
option, if applicable), at a price of $4.80 (120% of the $4.00 per share assumed
initial offering price) for a period of five years commencing one year from the
date of this Prospectus and through the sale to the Representative, for nominal
consideration of $0.001 of a warrant to purchase certain number of warrants
equal to 10% of the Warrants (including the over-allotment option, if
applicable) sold by the Representative in this Offering, at a price of $0.40 per
warrant (120% of the $0.33 per warrant offering price) entitling the holder
thereof to purchase certain number of shares of Common Stock at an exercise
price of $6.00 per share for a period of five years commencing one year from the
date of this Prospectus (the "Representative Warrants II"). Warrants I and
Warrants II, as well as the shares underlying such Warrants are registered
hereby in this registration statement. The Selling Stockholders agreed to pay to
the Selling Agent a non-accountable expense allowance representing 3% of the
aggregate offering price of the securities offered hereby by the Selling
Stockholders, in addition to any applicable selling commissions.
The public offering price of Common Stock has been determined by
negotiations between the Company and the Selling Agent and are not necessarily
related to the Company's asset value, net worth, limited public market or other
established criteria of value. Factors considered in determining the offering
price of the securities and the exercise price and other items of the Warrants
include the present state of the Company's development, the future prospects of
the Company, an assessment of management, the general condition of the
securities markets and other factors deemed relevant.
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Prior to this Offering, there was a limited public securities market for
the Company's Common Stock. The Company's Common Stock has been trading
sporadically on the NASD's over-the-counter market on Bulletin Board. The price
of Common Stock and Warrant may be volatile to a degree that might not occur in
securities that are more widely held or more actively traded. The initial public
offering price was negotiated by the Company and the Representative. In
determining the offering price, the Representative considered, among other
things, the business potential and earning prospects of the Company and
prevailing market conditions.
In general, the rules of the Commission will prohibit the Selling Agent
from making a market in the Common Stock during the "cooling off" period
immediately preceding the commencement of sales in the offering. The Commission
has, however, adopted exemptions from these rules that permit passive market
making under certain conditions. These rules permit an Selling Agent to continue
to make a market subject to the conditions, among others, that its bid not
exceed the highest bid by a market maker not connected with the offering and
that its net purchases on any one trading day not exceed prescribed limits.
Pursuant to these exemptions, certain Selling Agent, selling group members (if
any) of their respective affiliates intend to engage in passive market making in
the Common Stock during the cooling off period.
The Company has agreed to indemnify the Selling Agent, any controlling
person of an Selling Agent, and other persons related to the Selling Agent and
identified in the Selling Agent Agreement, against certain liabilities,
including liabilities arising (I) under the Securities Act, (ii) out of any
untrue statement or material fact contained in the Registration Statement, this
Prospectus, any amendments thereto, and certain other documents, or (iii) out of
any omission of a material fact required to be stated therein or necessary to
make the statements therein not misleading, unless the statement or omission is
made in reliance upon and in conformity with written information furnished to
the Company or on behalf of the Selling Agent for use in the document in which
it was used. [add escrow inf.]
LEGAL MATTERS
The validity of the Securities offered hereby has been passed upon for
the Company Iwona J. Alami, Esquire, Newport Beach, California. Abdo & Abdo,
P.A., Minneapolis, Minnesota, have served as counsel to the Representative in
connection with this Offering.
EXPERTS
The consolidated financial statements of the Company for the year ended
September 30, 1994, for the three months from October 1, 1994 to December 31,
1994 and for the years ended December 31, 1995 and 1996 appearing in this
Prospectus and Registration Statement have been audited by Arthur Andersen &
Co., independent public accountants, as set forth in their report thereon
appearing elsewhere herein, and are included in reliance upon such report given
upon the authority of such firm as experts in accounting and auditing.
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PHYSICAL SPA & FITNESS INC.
FINANCIAL STATEMENTS INDEX
Independent Auditors' Report of Arthur Andersen & Co........................F-1
Consolidated Statements of Operations for the years ended December
31, 1996 and 1995, and for the year ended September 30, 1994 and for
the three months from October 1, 1994 to December 31, 1994..................F-2
Consolidated Balance Sheets as of December 31, 1996 and 1995................F-3
Consolidated Statements of Cash Flows for the years ended December
31, 1996 and 1995, and for the year ended September 30, 1994 and for
the three months from October 1, 1994 to December 31, 1994..................F-4
Consolidated Statements of Stockholders' Equity for the years ended
December 31, 1996 and 1995, and for the year ended September 30, 1994
and for the three months from October 1, 1994 to December 31, 1994..........F-7
Consolidated Balance Sheets as of September 30, 1997
and December 31, 1996 (unaudited)...........................................F-8
Consolidated Statements of Income for the nine months ended
September 30, 1997 and 1996 (unaudited).....................................F-9
Consolidated Statements of Cash Flows for the nine months ended
September 30, 1997 and 1996 (unaudited).....................................F-10
Notes to Consolidated Financial Statements..................................F-13
<PAGE> 72
ARTHUR ANDERSEN
Arthur Andersen & Co.
Certified Public Accountants
25/F Wing On Centre
111 Connaught Road Central
Hong Kong
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Physical Spa & Fitness Inc.
We have audited the accompanying consolidated balance sheets of Physical Spa &
Fitness Inc. (a company incorporated in the United States of America) and its
subsidiaries as of December 31, 1995 and 1996, and the related consolidated
statements of income, cash flows, and changes in shareholders' equity for the
year ended September 30, 1994, the three months from October 1, 1994 to December
31, 1994 and the years ended December 31, 1995 and 1996 expressed in Hong Kong
Dollars. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audit.
We conducted our audit in accordance with generally accepted auditing standards
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that audit provides a reasonable
basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Physical Spa &
Fitness Inc. and its subsidiaries as of December 31, 1995 and 1996, and the
results of their operations and their cash flows, for the year ended September
30, 1994, the three months from October 1, 1994 to December 31, 1994 and the
years ended December 31, 1995 and 1996, in conformity with generally accepted
accounting principles in the United States of America.
/s/ Arthur Andersen & Co.
Hong Kong,
April 23,1997.
F-1
<PAGE> 73
<TABLE>
PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
AUDITED CONSOLIDATED STATEMENTS OF INCOME
FOR THE YEAR ENDED SEPTEMBER 30,1994,
THE THREE MONTHS FROM OCTOBER 1, 1994 TO DECEMBER 31, 1994 AND
THE YEARS ENDED DECEMBER 31,1995 AND 1996
AND
UNAUDITED CONSOLIDATED STATEMENT OF INCOME
FOR THE THREE MONTHS FROM OCTOBER 1, 1993 TO DECEMBER 31,1993
(Amounts in thousands except per share data)
<CAPTION>
Three months from October
Year ended 1 to December 31 Year ended
September 30, -------------------------- December 31, Year ended December 31,
1994 1993 1994 1995 1996
------------ ----------- ------------ ------------ --------------------------
HK$ HK$ HK$ HK$ HK$ US$
------------ ----------- ------------ ------------ ----------- ------------
(unaudited)
<S> <C> <C> <C> <C> <C> <C>
Operating Revenues
Fitness service 24,229 4,297 5,433 28,075 39,054 5,039
Beauty treatments 42,463 7,651 14,343 53,059 72,260 9,324
Others 2,959 263 1,329 4,128 1,901 245
------------ ----------- ------------ ----------- ----------- ------------
Total operating revenues 69,651 12,211 21,105 85,262 113,215 14,608
------------ ----------- ------------ ----------- ----------- ------------
Operating Expenses
Salaries and commissions 17,787 4,926 4,727 18,609 23,797 3,071
Rent and related expenses 16,947 4,003 4,367 18,250 21,185 2,734
Depreciation 6,877 1,963 2,456 8,885 11,393 1,470
Loss on shut down of a beauty
center - - 1,332 - - -
Other selling and
administrative expenses 14,014 3,044 4,641 15,083 23,178 2,990
------------ ----------- ------------ ----------- ----------- ------------
Total operating expenses 55,625 13,936 17,523 60,827 79,553 10,265
------------ ----------- ------------ ----------- ----------- ------------
Income (Loss) from operations 14,026 (1,725) 3,582 24,435 33,662 4,343
------------ ----------- ------------ ----------- ----------- ------------
Other (income), net (879) (152) (189) (790) (885) (114)
Interest expenses 1,157 269 219 1,158 841 108
------------ ----------- ------------ ----------- ----------- ------------
Total non-operating
(income) expenses 278 117 30 368 (44) (6)
------------ ----------- ------------ ----------- ----------- ------------
Income (Loss) before
income taxes and
minority interests 13,748 (1,842) 3,552 24,067 33,706 4,349
Provision for income taxes 1,779 - 1,169 4,434 8,699 1,122
------------ ----------- ------------ ----------- ----------- ------------
Income (Loss) before
minority interests 11,969 (1,842) 2,383 19,633 25,007 3,227
Minority interests 1,149 (97) 683 2,100 2,211 285
------------ ----------- ------------ ----------- ----------- ------------
Net income(loss) 10,820 (1,745) 1,700 17,533 22,796 2,942
============ =========== ============ =========== =========== ============
Earnings (Loss) per
per common stock $1.44 ($0.23) $0.23 $2.34 $3.04 $0.39
Weighted average number of 7,500,000 7,500,000 7,500,000 7,500,000 7,500,000 7,500,000
shares outstanding
</TABLE>
Translation of amounts from Hong Kong Dollars into United States Dollars (US$)
for the convenience of the reader has been made at the exchange rate quoted by
the South China Morning Post on December 31, 1997 of US$l.00 = HK$7.75. No
representation is made that the Hong Kong Dollar amounts could have been, or
could be, converted into United Stated Dollars, at that rate on December 31,
1997 or at any other certain rate.
F-2
<PAGE> 74
<TABLE>
PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
AUDITED CONSOLIDATED BALANCE SHEETS
DECEMBER 31,1995 AND 1996
(Amounts in thousands. except number of shares and share data)
<CAPTION>
December 31,
1995 December 31, 1996
-------------- --------------------------------
HK$ HK$ US$
<S> <C> <C> <C>
ASSETS
- ------
CURRENT ASSETS
Cash and cash equivalents 901 2,509 324
Trade receivables 8,628 14,820 1,912
Rental and utility deposits 3,033 4,735 611
Prepayments to vendors and suppliers
and other current assets 4,278 11,808 1,524
Inventories 1,695 6,456 833
Due from related companies - 1,986 256
Due from a shareholder current portion 13,264 5,566 718
-------------- ---------------- ---------------
TOTAL CURRENT ASSETS 31,799 47,880 6,178
-------------- ---------------- ---------------
Due from a shareholder - non-current portion - 10,885 1,405
Prepayments for construction-in-progress - 12,011 1,550
Property, plant and equipment, net 41,131 46,917 6,054
-------------- ---------------- ---------------
TOTAL ASSETS 72,930 117,693 15,187
============== ================ ===============
LIABILITIES AND SHAREHOLDERS' EQUITY
- ------------------------------------
CURRENT LIABILITIES
Short-term bank loans 2,050 5,627 726
Long-term bank loans current portion 4,028 1,827 236
Accounts payable and accrued expenses 5,036 8,316 1,073
Obligations under finance leases -
current portion 87 2,257 292
Deferred income 19,720 20,057 2,588
Income taxes payable 9,772 14,752 1,903
Taxes other than income 2,348 9,257 1,194
-------------- ---------------- ---------------
TOTAL CURRENT LIABILITIES 43,041 62,093 8,012
-------------- ---------------- ---------------
Long-term bank loans 1,066 240 31
Long-term loans from third parties 12,757 13,916 1,796
Loans from minority shareholders of
subsidiaries 6,360 5,160 666
Obligations under finance leases - non current
portion 94 1,698 219
Deferred taxation - 1,753 226
Minority interests 4,540 4,857 627
SHAREHOLDERS' EQUITY:
Preferred stock, US$0.001 par value each
10,000,000 shares authorized
Non issued and outstanding
Common stock, par value US$ 0.001 each 100 million
shares authorized; 7.5 million shares
outstanding 78 78 10
Cumulative translation adjustment (37) 71 9
Retained earnings 5,031 27,827 3,591
-------------- ---------------- ---------------
TOTAL SHAREHOLDERS' EQUITY 5,072 27,976 3,610
-------------- ---------------- ---------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY 72,930 117,693 15,187
============== ================ ===============
</TABLE>
Translation of amounts from Hong Kong Dollars into United States Dollars (US$)
for the convenience of the reader has been made at the exchange rate quoted by
the South China Morning Post on December 31, 1997 of US$1.00 = HK$7.75. No
representation is made that the Hong Kong Dollar amounts could have been, or
could be, converted into United States Dollars, at that rate on December 31,
1997 or at any other certain rate.
F-3
<PAGE> 75
<TABLE>
PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
AUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEAR ENDED SEPTEMBER 30, 1994,
THE THREE MONTHS FROM OCTOBER 1, 1994 TO DECEMBER 31,1994 AND
THE YEARS ENDED DECEMBER 31,1995 AND 1996
(Amounts in thousands)
<CAPTION>
Three months
from October
Year ended 1, 1994 to Year ended
September 30, December 31, December 31, Year ended December 31,
1994 1994 1995 1996
--------------- ----------------- --------------- -------------------------------
HK$ HK$ HK$ HK$ US$
<S> <C> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING
ACTIVITIES:
Net income 10,820 1,700 17,533 22,796 2,942
Adjustments to reconcile
net income to net cash
provided by operating
activities:
Minority interests 1,149 683 2,100 2,211 285
Depreciation 6,877 2,456 8,885 11,393 1,470
(Gain) Loss on disposal
of fixed assets (1) - 230 18 2
Loss on shut down of a
beauty center - 1,332 - - -
(Increase) Decrease in
assets:
Trade receivables,
deposits,
prepayments and
other current assets (4,039) (2,828) (7,371) (15,424) (1,990)
Inventories (106) - (1,589) (4,761) (615)
Due from related
companies 5,652 212 2,429 (1,986) (256)
Increase (Decrease) in
liabilities:
Accounts payable and
accrued expenses 6,726 (4,126) (809) 3,280 424
Due to related
companies 311 (311) - - -
Deferred income 1,752 (1,911) 4,518 337 43
Income taxes payable 1,338 446 2,510 4,980 643
Taxes other than income 712 974 2,058 6,909 891
Deferred taxation - - - 1,753 226
--------------- ----------------- --------------- --------------- ---------------
NET CASH PROVIDED BY (USED
IN) OPERATING ACTIVITIES 31,191 (1,373) 30,494 31,506 4,065
--------------- ----------------- --------------- --------------- ---------------
</TABLE>
F-4
<PAGE> 76
<TABLE>
PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
AUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEAR ENDED SEPTEMBER 30, 1994,
THE THREE MONTHS FROM OCTOBER 1, 1994 TO DECEMBER 31,1994 AND
THE YEARS ENDED DECEMBER 31,1995 AND 1996
(Amounts in thousands)
<CAPTION>
Three months
from October
Year ended 1, 1994 to Year ended
September 30, December 31, December 31, Year ended December 31,
1994 1994 1995 1996
------------------ ---------------- -------------- -------------------------------
HK$ HK$ HK$ HK$ US$
<S> <C> <C> <C> <C> <C>
CASH FLOWS FROM INVESTING
ACTIVITIES
Prepayments for
construction-in-
progress - - - (7,084) (914)
Acquisition of property,
plant and equipment (23,435) (351) (20,427) (18,291) (2,360)
Sales proceeds from
disposal of property,
plant and equipment 8 68 6,153 1,109 142
------------------ ---------------- --------------- --------------- --------------
NET CASH USED IN INVESTING (23,427) (283) (14,274) (24,266) (3,132)
ACTIVITIES
------------------ ---------------- --------------- --------------- --------------
CASH FLOWS FROM FINANCING
ACTIVITIES
Proceeds (settlement) of
short-term bank loans (4,932) 114 (2,198) 3,577 461
Due from a shareholder (1,525) (967) 2,707 (3,187) (411)
Payment of dividend to a
shareholder - - (29,979) - -
Payment of a dividend to
minority shareholders - - - (2,821) (364)
Proceeds of long-term
bank loans 2,500 1,000 3,000 1,000 129
Repayment of long-term
bank loans (474) (1,226) (2,193) (4,027) (519)
Proceeds of long-term
loans from third parties - - 12,757 1,159 150
Capital element of finance
lease rental payments (8,633) (22) (87) (1,152) (149)
Capital contribution of the
Chinese joint venture partner
into a joint venture 911 118
Proceeds (Repayment) of
loans from minority
shareholders of
subsidiaries 6,359 - - (1,200) (155)
------------------ ---------------- --------------- --------------- --------------
NET CASH (USED IN) PROVIDED
BY FINANCING ACTIVITIES (6,705) 833 (15,993) (5,740) (740)
------------------ ---------------- --------------- --------------- --------------
</TABLE>
F-5
<PAGE> 77
<TABLE>
PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
AUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEAR ENDED SEPTEMBER 30, 1994,
THE THREE MONTHS FROM OCTOBER 1, 1994 TO DECEMBER 31,1994 AND
THE YEARS ENDED DECEMBER 31,1995 AND 1996
(Amounts in thousands)
<CAPTION>
Three months
from October
Year ended 1, 1994 to Year ended
September 30, December 31, December 31, Year ended December 31,
1994 1994 1995 1996
--------------- --------------- --------------- -------------------------------
HK$ HK$ HK$ HK$ US$
<S> <C> <C> <C> <C> <C>
NET INCREASE (DECREASE) IN
CASH AND CASH EQUIVALENTS 1,059 (823) 227 1,500 193
Cash and cash equivalents
at beginning of
period/year 475 1,494 639 901 117
Cumulative translation
adjustments (40) (32) 35 108 14
Cash and cash equivalents,
at end of period/year
1,494 639 901 2,509 324
=============== =============== =============== =============== ===============
ANALYSIS OF CASH AND CASH
EQUIVALENTS
Cash and bank balances 1,494 639 901 2,509 324
--------------- --------------- --------------- --------------- ---------------
1,494 639 901 2,509 324
=============== =============== =============== =============== ===============
</TABLE>
Translation of amounts from Hong Kong Dollars into United States Dollars (US$)
for the convenience of the reader has been made at the exchange rate quoted by
the South China Morning Post on December 31, 1997 of US$1.00 = HK$7.75. No
representation is made that the Hong Kong Dollar amounts could have been, or
could be, converted into United States Dollars, at that rate on December 31,
1997 or at any other certain rate.
F-6
<PAGE> 78
<TABLE>
PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
FOR THE YEAR ENDED SEPTEMBER 30, 1994,
THE THREE MONTHS FROM OCTOBER 1, 1994 TO DECEMBER 31, 1994,
THE YEARS ENDED DECEMBER 31, 1995 AND 1996, AND
THE NINE MONTHS FROM JANUARY 1, 1997 TO SEPTEMBER 30, 1997 (UNAUDITED)
(Amounts in thousands, except number of shares)
<CAPTION>
Cumulative
Common Common Retained Translations
Stock Stock Earnings Adjustments Total
Number HK$ HK$ HK$ HK$
<S> <C> <C> <C> <C> <C>
BALANCE AT SEPTEMBER 30, 1993 7,500,000 78 4,957 - 5,035
Net income - - 10,820 - 10,820
Translation adjustment - - - (40) (40)
---------- ---------- ---------- ---------- ----------
BALANCE AT SEPTEMBER 30, 1994 7,500,000 78 15,777 (40) 15,815
Net income - - 1,700 - 1,700
Translation adjustment - - - (32) (32)
---------- ---------- ---------- ---------- ----------
BALANCE AT DECEMBER 31, 1994 7,500,000 78 17,477 (72) 17,483
Net Income - - 17,533 - 17,533
Dividend paid - - (29,979) - (29,979)
Translation adjustment - - - 35 35
---------- --------- ---------- ---------- ----------
BALANCE AT DECEMBER 31, 1995 7,500,000 78 5,031 (37) 5,072
Net income - - 22,796 - 22,796
Translation adjustment - - - 108 108
---------- --------- ---------- ---------- ----------
BALANCE AT DECEMBER 31, 1996 7,500,000 78 27,827 71 27,976
Net income - - 15,492 - 15,492
Translation adjustment - - - 39 39
---------- --------- ---------- ---------- ----------
BALANCE AT SEPTEMBER 30, 1997 7,500,000 78 43,319 110 43,507
========== ========= ========== ========== ==========
</TABLE>
F-7
<PAGE> 79
<TABLE>
PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, 1997 (UNAUDITED) AND DECEMBER 31, 1996 (AUDITED)
(Amounts in thousands)
<CAPTION>
September 30, 1997 December 31, 1996
------------------------- -------------------------
HK$ US$ HK$ US$
<S> <C> <C> <C> <C>
ASSETS
CURRENT ASSETS
Cash and cash equivalents 1,752 226 2,509 324
Trade receivables 11,825 1,526 14,820 1,912
Rental and utility deposits 7,673 990 4,735 611
Prepayments to vendors and suppliers
and other current assets 11,329 1,462 11,808 1,524
Inventories 5,941 767 6,456 833
Due from related companies 843 109 1,986 256
Due from a shareholder - current portion 10,278 1,326 5,566 718
----------- ----------- ----------- -----------
TOTAL CURRENT ASSETS 49,641 6,406 47,880 6,178
----------- ----------- ----------- -----------
Due from a shareholder - non-current portion 4,561 589 10,885 1,405
Prepayment for construction-in-progress 12,111 1,563 12,011 1,550
Property, plant and equipment, net 97,338 12,560 46,917 6,054
----------- ----------- ----------- -----------
TOTAL ASSETS 163,651 21,118 117,693 15,187
=========== =========== =========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Short-term bank loans 7,882 1,017 5,627 726
Long-term bank loans - current portion 7,327 945 1,827 236
Accounts payable and accrued expenses 12,302 1,587 8,316 1,073
Obligations under finance leases - current portion 4,794 620 2,257 292
Loans from third parties 13,916 1,796 - -
Deferred income 23,306 3,007 20,057 2,588
Income taxes payable 13,234 1,708 14,752 1,903
Taxes other than income 9,991 1,289 9,257 1,194
----------- ----------- ----------- -----------
TOTAL CURRENT LIABILITIES 92,752 11,969 62,093 8,012
=========== =========== =========== ===========
Long-term bank loans 3,670 474 240 31
Long-term loans from third parties - - 13,916 1,796
Loans from minority shareholders of subsidiaries 5,160 666 5,160 666
Obligations under finance leases - non current portion 9,212 1,189 1,698 219
Deferred taxation 2,800 361 1,753 226
Minority interests 6,550 845 4,857 627
SHAREHOLDERS' EQUITY:
Common stock 78 10 78 10
Cumulative translation adjustment 110 14 71 9
Retained earnings 43,319 5,590 27,827 3,591
----------- ----------- ----------- -----------
TOTAL SHAREHOLDERS' EQUITY 43,507 5,614 27,976 3,610
----------- ----------- ----------- -----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY 163,651 21,118 117,693 15,187
=========== =========== =========== ===========
</TABLE>
F-8
<PAGE> 80
<TABLE>
PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
UNAUDITED CONSOLIDATED STATEMENTS OF EARNINGS
FOR THE NINE MONTHS
ENDED SEPTEMBER 30, 1997 AND 1996
(Amount in thousands except per share data)
<CAPTION>
September 30, 1997 September 30, 1996
--------------------------- ---------------------------
HK$ US$ HK$ US$
<S> <C> <C> <C> <C>
Operating Revenues
Fitness service 55,161 7,118 30,126 3,887
Beauty treatments 50,862 6,563 52,943 6,832
Others 110 14 1,846 238
------------ ------------ ------------ ------------
Total operating revenues 106,133 13,695 84,915 10,957
------------ ------------ ------------ ------------
Operating Expenses
Salaries and commissions 26,201 3,381 16,869 2,177
Rent and related expenses 22,659 2,924 15,640 2,018
Depreciation 10,974 1,416 8,199 1,058
Other selling and administrative expenses 23,542 3,038 18,516 2,389
------------ ------------ ------------ ------------
Total operating expenses 83,376 10,759 59,224 7,642
------------ ------------ ------------ ------------
Income (Loss) from operations 22,757 2,936 25,691 3,315
Other expenses (income), net (1,653) (213) (613) (79)
Interest expenses 2,460 317 583 75
------------ ------------ ------------ ------------
Total non-operating expenses 807 104 (30) (4)
------------ ------------ ------------ ------------
INCOME (LOSS) BEFORE INCOME TAXES
AND MINORITY INTERESTS 21,950 2,832 25,721 3,319
Provision for income taxes (3,722) (480) (6,592) (850)
Provision for deferred taxes (1,047) (135) (1,315) (170)
------------ ------------ ------------ ------------
INCOME (LOSS) BEFORE MINORITY INTERESTS 17,181 2,217 17,814 2,299
Minority interests (1,689) (218) (1,897) (245)
Net income (loss) 15,492 1,999 15,917 2,054
============ ============ ============ ============
Earnings (Loss) per common stock $2.07 $0.27 $2.12 $0.27
============ ============ ============ ============
Weighted average number of shares outstanding 7,500,000 7,500,000 7,500,000 7,500,000
============ ============ ============ ============
</TABLE>
F-9
<PAGE> 81
<TABLE>
PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS
ENDED SEPTEMBER 30, 1997 AND 1996
(Amount in thousands)
<CAPTION>
September 30, 1997 September 30, 1996
--------------------------- -----------------------------
HK$ US$ HK$ US$
<S> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income 15,492 1,999 15,917 2,054
Adjustments to reconcile net income
to net cash provided by
operating activities:
Minority interests 1,688 218 1,897 245
Depreciation 10,974 1,416 8,199 1,058
(Gain) Loss on disposal
of fixed assets 135 17 18 2
(Increase) Decrease in assets:
Trade receivable, deposits,
prepayments and other
current assets 536 69 (22,497) (2,903)
Inventories 515 66 (2,290) (295)
Due from related companies 1,143 147 (525) (68)
Increase (Decrease) in liabilities:
Accounts payable and
accrued expenses 3,986 514 (195) (25)
Deferred income 3,248 419 5,487 708
Income taxes payable (1,518) (196) 5,432 701
Taxes other than income 734 95 5,321 687
Deferred taxation 1,047 135 1,315 170
----------- ------------- ------------ --------------
NET CASH (USED IN) PROVIDED BY
OPERATING ACTIVITIES 37,980 4,899 18,079 2,334
----------- ------------- ------------ --------------
</TABLE>
F-10
<PAGE> 82
<TABLE>
PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS
ENDED SEPTEMBER 30, 1997 AND 1996
(Amount in thousands)
<CAPTION>
September 30, 1997 September 30, 1996
--------------------------- -----------------------------
<S> <C> <C> <C> <C>
CASH FLOWS FROM INVESTING
ACTIVITIES:
Prepayments for
construction-in-progress (100) (13) - -
Acquisition of property,
plant and equipment (61,528) (7,938) (15,814) (2,043)
Sales proceeds from disposal
of fixed assets 3 1 627 81
----------- ------------- ------------ --------------
NET CASH USED IN INVESTING
ACTIVITIES (61,625) (7,950) (15,187) (1,962)
----------- ------------- ------------ --------------
CASH FLOWS FROM FINANCING
ACTIVITIES:
Proceeds (settlement of short-term
bank loans 2,255 291 3,776 487
Due from a shareholder 1,612 208 (1,580) (204)
Payment of dividends to
shareholders - - (3,722) (480)
Proceeds of long-term bank
loans 10,000 1,290 - -
Repayment of long-term
bank loans (1,070) (138) (3,816) (492)
Proceeds of long-term loans
from third parties - - 1,159 150
Assumption of finance lease
obligations 16,175 2,087 4,927 636
Capital element of finance
lease rental payments (6,123) (790) (588) (76)
Capital contribution of the
Chinese joint venture
partner into a joint venture - - 911 118
Proceeds of loans from
minority shareholders of
subsidiaries - - (9) (1)
----------- ------------- ------------ --------------
NET CASH PROVIDED BY (USED IN)
FINANCING ACTIVITIES 22,849 2,948 1,058 138
----------- ------------- ------------ --------------
</TABLE>
F-11
<PAGE> 83
<TABLE>
PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS
ENDED SEPTEMBER 30, 1997 AND 1996
(Amount in thousands)
<CAPTION>
September 30, 1997 September 30, 1996
--------------------------- -----------------------------
<S> <C> <C> <C> <C>
NET INCREASE (DECREASE) IN CASH
AND CASH EQUIVALENTS (796) (103) 3,950 510
Cash and cash equivalents, at
beginning of period / year 2,509 324 901 116
Cumulative translation
adjustments 39 5 102 13
----------- ------------- ------------ --------------
Case and cash equivalents, at
end of period / year 1,752 226 4,953 639
=========== ============= ============ ==============
Analysis of case and cash
equivalents
Cash and bank balances 1,752 226 4,953 639
=========== ============= ============ ==============
1,752 226 4,953 639
=========== ============= ============ ==============
</TABLE>
F-12
<PAGE> 84
PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except number of shares,
per share data and unless otherwise stated)
1. ORGANIZATION AND PRINCIPAL ACTIVITIES
- ------------------------------------------
Physical Spa & Fitness Inc. ("the Company") was incorporated on September 21,
1988 under the laws of the United States of America under the name of Foreclosed
Realty Exchange Inc. The Company was incorporated with a share capital of 100
million common shares with par value of US$0.001 each. 7.5 million common shares
were issued and outstanding as of December 31, 1997. The Company is a U.S.
public company listed on the National Association of Securities Dealers Bulletin
Board.
Physical Beauty & Fitness Holdings Limited ("Physical Holdings") was
incorporated (in March 8, 1996 under the laws of the British Virgin Islands
("BVI") with a capital of one common share being held by a shareholder ("the
Shareholder"), Physical Holdings has interests in various companies ("Operating
Subsidiaries") operating fitness and beauty centers ("Fitness Centres") and
other related businesses Hong Kong and the People's Republic of China ("the
PRC").
Pursuant to a Share Exchange Agreement entered into between the Company and
Physical Holdings on August 8, 1996, the Shareholder transferred his controlling
interest, in the outstanding stock, of Physical Holdings in exchange for 80% of
the outstanding stock of the Company. The transaction was completed on October
21, 1996 when the Company became the ultimate holding company of Physical
Holdings and the Operating Subsidiaries. As part of the above transaction,
certain shareholders of the Company also transferred 990,000 pre-split (742,500
post-split) common shares to Goodchild Investments Limited ("Goodchild").
Accordingly, the Shareholder and Goodchild became the major shareholders of the
Company. In February, 1998, Goodchild sold all of its shares of common stock of
the Company in open market public transactions.
On November 27, 1996, the Company changed its name to Physical Spa & Fitness,
Inc.
The Shareholder's interests in the fitness and beauty centers in Hong Kong and
the PRC and other related businesses were originally conducted through Physical
Health Centre Hong Kong Limited ("Physical HK"), a Hong Kong, corporation
established on March 2, 1990 by two principal shareholders ("the Principal
Shareholders"), one of which is the Shareholder. In 1994, the share capital was
increased and additional shares were issued to the Principal Shareholders as
well as other shareholders.
Physical HK was established to succeed to and continue the operation of two
Fitness Centres and other related businesses previously operated by the
Principal Shareholders in Hong Kong in the form of a sole proprietorship.
F-13
<PAGE> 85
1. ORGANIZATION AND PRINCIPAL ACTIVITIES (Cont'd)
- ---------------------------------------------------
During the period from 1990 to 1996, Physical HK and Physical Holdings expanded
their scope of operations by acquiring and establishing, several subsidiary,
companies and by forming Sino-foreign joint ventures in the PRC to operate six
additional Fitness Centres in Hong Kong, two in Shanghai and one in Dalian, the
PRC and other related businesses. These subsidiary companies were all formerly
jointly owned by the Principal Shareholders or solely by the Shareholder. The
respective equity interests were transferred by the Principal Shareholders to
Physical HK or Physical Holdings throughout 1993 to 1996 at the original cost of
the respective investments.
On October 19, 1996, 91.4% of the equity interests of Physical HK was
transferred by the Principal Shareholders and other shareholders of Physical HK
to Physical Holdings at the par value of the shares transferred. In addition,
all the equity interests of Physical HK in various subsidiaries and a
Sino-foreign joint venture were also transferred to Physical Holdings at the
recorded cost of these investments. The Company, Physical Holdings and the
Operating Subsidiaries are collectively known as the Group. They are all
distinct legal entities with limited liability.
The transfer of the Shareholder's interests in Physical Holdings and the
Operating Subsidiaries was a reorganization of companies under common control
and has been accounted for effectively as a pooling of interests and the
consolidated financial statements of the Company have been presented as if the
Operating Subsidiaries had been owned by the Company since their date of
incorporation or acquisition by the Shareholder whichever is later.
F-14
<PAGE> 86
1. ORGANIZATION AND PRINCIPAL ACTIVITIES (Cont'd)
- ---------------------------------------------------
<TABLE>
The details of Physical Holdings and Operating Subsidiaries and their principal
activities as of the date of this report are summarized below:
<CAPTION>
Date of Equity interest
acquisition/ Place of owned by the
Name of Company formation incorporation Company Principal activities
- --------------- --------- ------------- ------- --------------------
Direct Indirect
------ --------
<S> <C> <C> <C> <C> <C>
Physical Beauty & Fitness Holdings March 8, 1996 BVI 100% - Investment holding
Limited ("Physical Holdings:)
Physical Health Centre Hong Kong March 2, 1990 Hong Kong 91.4% - Operating 5 Fitness Centres
Limited ("Physical HK") in Hong Kong
Regent Town Holdings Limited September 20, BVI 88.5% - Investment holding
("Regent") 1993
Supreme Resources Limited ("Supreme") September 29, Hong Kong 70% - Operating a beauty
1994 treatment centre in Hong
Kong
Physical Health Centre (Zhong Shan) September 29, Hong Kong 100% - Investment holding
Limited ("Zhongshan Physical") 1994 (formerly operating a
(formerly known as Famerich beauty treatment centre
Development Limited ("Famerich") in Hong Kong)
Zhongshan Physical Ladies' Club Ltd. October 29, 1996 The PRC - 95% Operating a Fitness Centre
(Owned by Zhongshan Physical) in Zhongshan, the PRC
Ever Growth limited ("Ever Growth") September 29, Hong Kong 100% - Property holding
1994
Proline Holdings Limited ("Proline") September 28, BVI - 88.5% Investment holding
(wholly owned by Regent) 1994
Shanghai Physical Ladies' Club Company September 28, Hong Kong - 88.5% Investment holding
Limited ("Shanghai Physical") 1994
(wholly owned by Proline)
Shanghai Physical Ladies' Club Co., Ltd. September 28, The PRC - 88.5% Operating two Fitness
(owned by Shanghai Physical) 1994 Centres in Shanghai, the
PRC
Mighty System Limited ("Mighty") December 15, BVI 100% - Provision of marketing
1994 services for cosmetics
sales
Jade Regal Holdings Limited ("Jade March 15, 1996 BVI 100% - Investment holding
Regal")
Physical Health Centre (Dalian) Limited March 15, 1996 Hong Kong - 100% Investment holding
("Dalian Physical") (wholly owned by
Jade Regal)
Dalian Physical Ladies' Club Co., Ltd. March 15, 1996 The PRC - 90% Operating a Fitness Centre
(90% owned by Dalian Physical) in Dalian, the PRC
Star Perfection Holdings Limited ("Star April 15, 1996 BVI 100% - Investment holding
Perfection")
Physical Health Centre (Shenzhen) April 15, 1996 Hong Kong - 100% Investment holding
Limited ("Shenzhen Physical")
(wholly owned by Star Perfection)
Shenzhen Physical Ladies' Club Co., Ltd. August 16, 1996 The PRC - 90% Operating a Fitness Centre
(owned by "Shenzhen Physical") in Shenzhen, the PRC
Physical Health Centre (Macau) Limited March 21, 1997 Hong Kong 100% - Investment holding
("Macau Physical")
Physical Health Centre (Tsuen Wan) Limited September 8, 1997 Hong Kong 100% - Operating a Fitness Centre
("Tsuen Wan Physical") in Hong Kong
</TABLE>
F-15
<PAGE> 87
1. ORGANIZATION AND PRINCIPAL ACTIVITIES (Cont'd)
- ---------------------------------------------------
Regent Town Holdings Limited ("Regent") was originally 67% owned by Physical HK
upon its incorporation. In June, 1995, Physical HK increased its equity interest
to 83.5% by acquiring additional shares issued by Regent at the par value of the
shares. In June, 1996, 5% of the equity interests of Regent owned by a minority
shareholder was acquired by the Shareholder (see Note 6(d)). All the shares
owned by Physical HK and the Shareholder were then transferred to Physical
Holdings at the original cost of investments to the Physical HK and the
Shareholder.
Famerich was incorporated to operate a beauty treatment centre in Hong Kong. The
business was closed down in late 1994 and the company became dormant thereafter.
The loss of HK$1,332 resulting from the shut down has been included in the
consolidated statement of income for the three-month period from October 1 to
December 31, 1994. In June, 1996, Famerich changed its name to Zhongshan
Physical and it then entered into a joint venture contract to establish a
Sino-foreign co-operative joint venture for the provision of physical fitness
and beauty treatment services through a Fitness Centre in the PRC. (see details
below)
F-16
<PAGE> 88
1. ORGANIZATION AND PRINCIPAL ACTIVITIES (Cont'd)
The Group operates Fitness Centres in the PRC through some of its Operating,
Subsidiaries which are Sino-foreign joint ventures established in the PRC.
Detailed information in connection with these joint ventures is as follows:
<TABLE>
<CAPTION>
INTERESTS TERM OF
NAME OF THE TYPE OF OWNED BY THE
JOINT VENTURE JOINT THE JOINT REGISTERED
LOCATION VENTURE GROUP VENTURE CAPITAL PROFIT SHARING ARRANGEMENT
FOREIGN CHINESE
PARTNER PARTNER
<S> <C> <C> <C> <C> <C> <C>
Shanghai Huangpu Co- 88.5% 10 years Originally See arrangement of p.13
Physical Ladies' and operating US$1,000 in
Club Co., ltd. Hongqiao, cash and
("Shanghai JV") Shanghai increased
to US$2,000
in cash in 1995
Dalian Physical Dalian Equity originally 12 years Originally Pro-rata to equity
Ladies' Club at 55% Rmb10,000 interests
Co., Ltd. and in cash and
("Dalian JV") changed changed to
to 90% in Rmb1,000
1996 in cash and
Rmb9,000
in form of
fixed assets
and
renovation
materials in
1996
Shenzhen Shenzhen Co- 90% 10 years HK$4,600 Pro-rata to equity interests
Physical operative in form of
Ladies' Club cash and
Co. Ltd. fixed assets
("Shenzhen
JV")
Zhongshan Zhongshan Equity 95% 10 years US$500 in Pro-rata to equity interests
Physical Ladies form of
Club Co. Ltd. cash and
("Zhongshan fixed assets
JV")
</TABLE>
F-17
<PAGE> 89
1. ORGANIZATION AND PRINCIPAL ACTIVITIES (Cont'd)
- ---------------------------------------------------
Other special provisions of these joint ventures are summarized as follows:
Shanghai JV
- -----------
Pursuant to an agreement between Physical HK and Shanghai Physical dated July
20, 1993, Shanghai Physical authorized Physical HK to enter into a joint venture
contract ("the Contract") on its behalf with the Chinese joint venture partner.
Under this agreement, benefits, rights and obligations arising from the Contract
belong to Shanghai Physical. Physical HK contributed the required capital on
behalf of Shanghai Physical.
According to the provisions of the Contract, Shanghai Physical contributed 100%
of the registered capital of the joint venture while the Chinese joint venture
partner provided the premises in which the Fitness Centres are located. Upon
dissolution of the joint venture, all fixed assets of the joint venture will be
assumed by the Chinese joint venture partner while Shanghai Physical will assume
all the working capital, debts and outstanding obligations and commitments. For
the first three years of the joint venture, the Chinese joint venture partner
will be entitled only to rent of Rmb950 per annum. Thereafter, the rental
payment will be increased by 10% per annum unless the inflation rate in the PRC
is higher than 16%. The Chinese joint venture partner has no further entitlement
to the profits of the joint venture.
Shenzhen JV
- -----------
According to the laws in the PRC and the terms of the joint venture contract,
both joint venture partners are obliged to fulfill their capital contribution
requirements into the joint venture within a specified period of time after the
issue of the business license. As of the date of this report, however, both
joint venture partners have not contributed the required capital according to
the requirements of the contract. Such default in the funding obligations will
require renegotiations between the two partners and may also trigger default
remedies as specified in the joint venture contract. Further, a failure to meet
regulatory time limits set by the State Administration of Industry and Commerce
for capital contributions could result in the cancellation of the approval of
the joint venture's business license. Both joint venture partners are in the
process of applying to the relevant authorities for an extension of such time
limits.
The joint venture has not yet commenced operations as of the date of this
report.
F-18
<PAGE> 90
1. ORGANIZATION AND PRINCIPAL ACTIVITIES (Cont'd)
- ---------------------------------------------------
Zhongshan JV
- ------------
Similar to the Shenzhen JV, both joint venture partners have not yet fulfilled
their required capital contribution bligations within the specified time limit.
The joint venture partners are in the process of applying for extension of such
time limits from the relevant authorities.
On August 2, 1996, a supplementary agreement was signed between the joint
venture partners to amend the provisions of the contract to the extent that all
the benefits and liabilities of the joint venture will be assumed by Zhongshan
Physical. In return, the Chinese joint venture partner will be entitled to HK$30
per annum in the form of a technology introduction fee. The Chinese joint
venture partner will not be entitled to share in the profits of the joint
venture after receipt of the technology introduction fee. The supplementary
agreement is subject to the approval of the relevant PRC authorities.
The joint venture has not yet commenced operations as of the date of this
report.
Since the Shanghai JV and the Dalian JV operate in the PRC, they are subject to
special considerations and significant risks not typically associated with
investments in equity securities of United States and Western European
companies. These include risks associated with, among others, the political,
economic and legal environments and foreign currency exchange. These are
described further in the following paragraphs:
POLITICAL ENVIRONMENT
The value of the Company's interests in the Shanghai and Dalian JVs may be
adversely affected by significant political, economic and social uncertainties
in the PRC. A change in policies by the Chinese government could adversely
affect the Company's interests in the Shanghai and Dalian JVs by, among other
factors: changes in laws, regulations or the interpretation thereof;
confiscatory taxation; restrictions on foreign currency conversion, imports or
sources of suppliers; or the expropriation or nationalization of private
enterprises.
F-19
<PAGE> 91
1. ORGANIZATION AND PRINCIPAL ACTIVITIES (Cont'd)
- ---------------------------------------------------
ECONOMIC ENVIRONMENT
The economy of the PRC differs significantly from the economies of the United
States and Western Europe in such respects as structure, level of development,
gross national product, growth rate, capital reinvestment, resource allocation,
self-sufficiency, rate of inflation and balance of payments position, among
others. Only recently has the Chinese government encouraged substantial private
economic activities.
The Chinese economy has experienced significant growth in the past five years,
but such growth has been uneven among various sectors of the economy and
geographic regions. Actions by the Chinese central government to control
inflation have significantly restrained economic expansion recently. Similar
actions by the central government of the PRC in the future could have a
significant adverse effect on economic conditions in the PRC and the economic
prospects for the Group.
FOREIGN CURRENCY EXCHANGE
The Chinese central government imposes control over its foreign currency
reserves through control over imports and through direct regulation of the
conversion of its national currency into foreign currencies. As a result, the
Renminbi is not freely convertible into foreign currencies.
The Shanghai and Dalian JVs conduct substantially all of their business in the
PRC, and their financial performance and condition are measured in terms of
Renminbi. The revenues and profits of the Shanghai and Dalian JVs are
predominantly denominated in Renminbi, and will have to be converted to pay
dividends to the Company in United States Dollars or Hong Kong Dollars. Should
the Renminbi devalue against these currencies, such devaluation would have a
material adverse effect on the Company's profits and the foreign currency
equivalent of such profits repatriated by the Shanghai and Dalian JVs to the
Company. The Company currently is not able to hedge its exchange rate exposure
in the PRC because neither the banks in the PRC nor any other financial
institution authorized to engage in foreign exchange transactions offer forward
exchange contracts.
LEGAL ENVIRONMENT
Since 1979, many laws and regulations dealing with economic matters in general
and foreign investment in particular have been enacted in the PRC. However, the
PRC still does not have a comprehensive system of laws and enforcement of
existing laws may be uncertain and sporadic.
F-20
<PAGE> 92
2. BASIS OF PRESENTATION
- --------------------------
The financial year end date of Physical HK and the Operating Subsidiaries
incorporated in Hong Kong and the BVI was September 30 up to September 30, 1994
while the PRC joint ventures' financial year end is December 31. Pursuant to
members' resolutions passed by Physical HK and the Operating Subsidiaries
incorporated in Hong Kong and the BVI, their financial year end dates were all
changed to December 31 in 1995. For presentation purposes, the consolidated
financial statements of the Group for the fifteen month period from October 1,
1994 to December 31, 1995 have been segregated to report the results of
operations and cash flows for the three-month period from October 1, 1994 to
December 31, 1994 separately from those for the twelve-month period from January
1, 1995 to December 31, 1995.
Unaudited stub period consolidated income statements of the Group for the
three-month period from October 1, 1993 to December 31, 1993 are presented for
comparison purposes.
The accompanying consolidated financial statements were prepared in accordance
with generally accepted accounting principles in the United States of America
("US GAAP"). This basis of accounting differs from that used in the statutory
financial statements of the BVI and Hong Kong Operating Subsidiaries and the PRC
joint ventures, which were prepared in accordance with generally accepted
accounting principles in Hong Kong ("HK GAAP") and the accounting principles and
the relevant financial regulations applicable to enterprises with foreign
investments as established by the Ministry of Finance of China ("PRC GAAP")
respectively.
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
- -----------------------------------------------
a. Basis of Consolidation
--------------------------
The consolidated financial statements include the financial statements of
the Company, its majority owned and controlled subsidiaries and joint
ventures. All material intercompany balances and transactions have been
eliminated.
b. Revenue & Deferred Income
-----------------------------
Revenue represents membership fees and service income in connection with
the provision of physical fitness and beauty treatment services and other
related income, net of the related sales tax, if any. Annual membership
fees and service income and other related income are recognized when
services are rendered. During 1996, the Company changed its membership
policy so that the annual membership fee was replaced by a non-refundable
membership admission fee and monthly dues. The admission fee is recognized
in full as revenue upon membership being granted while the monthly dues are
recognized as revenue on a monthly basis.
Deferred income represents membership fees and service fees billed but the
related services, or portion of the services, have not yet been rendered.
F-21
<PAGE> 93
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Cont'd)
- --------------------------------------------------------
c. Cash and Cash Equivalents
-----------------------------
Cash and cash equivalents include cash on hand, demand deposits with banks
and liquid investments with an original maturity of three months or less.
d. Property Plant and Equipment
--------------------------------
Property, plant and equipment are stated at cost less accumulated
depreciation. Depreciation of property, plant and equipment is computed
using the straight line method over the assets' estimated useful lives. The
estimated useful lives are as follows:
Leasehold land held under long-term lease Over the lease term
Buildings 20 to 50 years
Leasehold improvements Over the lease term
Machinery and equipment 5 to 10 years
Furniture and fixtures 5 years
Computers 4 to 5 years
Motor vehicles 4 to 5 years
e. Taxation: Income Taxes
--------------------------
No provision for withholding or U.S. federal income taxes or tax benefits
on the undistributed earnings and/or losses of the Operating Subsidiaries
has been provided as the earnings of the Operating Subsidiaries, in the
opinion of the management, will be reinvested indefinitely.
Physical HK, Supreme, Zhongshan Physical, Ever Growth, Shanghai Physical,
Dalian Physical and Shenzhen Physical, Macau Physical and Tsuen Wan
Physical were incorporated under the laws of Hong Kong. They provide for
Hong Kong profits tax at a rate of 16.5% on the basis of their income for
financial reporting purposes, adjusted for income and expense items which
are not assessable or deductible for income tax purposes.
Physical Holdings, Regent, Mighty, Proline, Jade Regal and Star Perfection
were incorporated under the laws of BVI and under these laws, they are not
subject to tax on income or on capital gains.
The Shanghai and Dalian JVs, which were incorporated under the laws of the
PRC, provide for enterprise income tax on their assessable income in
accordance with the relevant regulations of the PRC, after considering all
available tax benefits and allowances. They are subject to Chinese
enterprise income taxes at he applicable tax rate of 33%.
F-22
<PAGE> 94
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Cont'd)
- --------------------------------------------------------
e. Taxation: Income Taxes
--------------------------
The Group provides for deferred income taxes using the liability method, by
which deferred income taxes are recognized for all significant temporary
differences between the tax and financial statement bases of assets and
liabilities. The tax consequences of those differences are classified as
current or non-current based upon the classification of the related assets
or liabilities in the financial statements. A valuation allowance is
provided for the portion of deferred tax assets that is not currently
realizable, since the realization of these benefits depends upon the
ability of the relevant entity to generate income in future years.
f. Taxation: Sales Taxes
-------------------------
According to the tax regulations promulgated by the PRC government which
came into effect on January 1, 1994, the Shanghai and Dalian JVs are
subject to Business Tax ("BT") calculated at 5% on the gross service income
received by the joint venture.
BT is recognized on the accrual basis. Sales revenue is recorded in the
financial statements net of BT.
g. Foreign Currency Translation
--------------------------------
The Company, Physical Holdings and the Hong Kong and BVI Operating
Subsidiaries maintain their accounting books and records in Hong Kong
dollars ("HK$"). Foreign currency transactions during the year are
translated into HK$ at rates of exchange prevailing at the time of the
transactions. Monetary assets and liabilities denominated in foreign
currencies at year end are translated at the rates of exchange prevailing
at the balance sheet date. Non-monetary assets and liabilities are
translated at the rates of exchange prevailing at the time the asset or
liability was acquired, Exchange gains or losses are recorded in the
consolidated statements of income.
The PRC Operating Subsidiaries maintain their books and records in
Renminbi. Foreign currency transactions are translated into Renminbi at the
applicable exchange rate quoted by the People's Bank of China ("the unified
exchange rate"), prevailing at the dates of the transactions. Monetary
assets and liabilities denominated in foreign currencies are translated
into Renminbi using the applicable unified exchange rates at the balance
sheet date. The resulting exchange differences are included in the
determination of income.
F-23
<PAGE> 95
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Cont'd)
- --------------------------------------------------------
g. Foreign Currency Translation (Cont'd)
-----------------------------------------
Renminbi is not freely convertible into foreign currencies. All foreign
exchange transactions involving Renminbi must take place either through the
Bank of China or other institutions authorized to buy and sell foreign
currencies, or at a swap centre. Before January 1, 1994, the exchange rates
used for transactions through the Bank of China and other authorized
institutions were set by the government (the "official exchange rate") from
time to time whereas the exchange rates available at the swap centres (the
"swap centre rates") were determined largely by supply and demand. The
Chinese government announced the unification of the two-tier exchange rate
systems in December 1993 effective January 1, 1994. The unification brought
the official exchange rate of the Renminbi in line with the swap centre
rate. The unification did not have a major impact on the consolidated
financial statements of the Company under US GAAP.
On consolidation, the financial statements of the PRC Operating
Subsidiaries are translated into Hong Kong Dollars using the closing rate
method, whereby the balance sheet items are translated into Hong Kong
Dollars using the unified exchange rates at the respective balance sheet
dates. The share capital and retained earnings are translated at historical
unified exchange rates prevailing at the time of the transactions while
income and expense items are translated at the average unified exchange
rates for the years/period. The resultant translation differences are
recorded in the consolidated balance sheets as cumulative translation
adjustments which are included as a separate account in shareholders'
equity in the accompanying balance sheets.
h. Finance Leases
------------------
Leases that substantially transfer to the Group all the rewards and risks
of ownership of assets, other than legal title, are accounted for as
finance leases.
Fixed assets held under finance leases are initially recorded at the
present value of the minimum lease payments at the inception of the leases,
with equivalent liabilities categorized as appropriate under current or
non-current liabilities.
Finance charges, which represent the difference between the minimum lease
payments at the inception of the leases and the fair value of the assets
acquired, are allocated to accounting periods over the period of the
relevant leases so as to produce a constant periodic rate of charge on the
outstanding balances.
F-24
<PAGE> 96
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Cont'd)
- --------------------------------------------------------
i. Operating Leases
--------------------
Leases where substantially all the rewards and risks of ownership of assets
remain with the lessors are accounted for as operating leases. Rental
payments under operating leases are expensed as incurred.
j. Related Companies
---------------------
A related company is a company in which one or more of the directors or
shareholders of the Company have direct or indirect beneficial interests.
4. PROPERTY, PLANT AND EQUIPMENT
- ----------------------------------
Year Ended Nine Months Ended
December 31, September 30,
---------------------- ---------------------
1995 1996 1996 1997
---------- ----------- ---------- ----------
HK$ HK$ HK$ HK$
(UNAUDITED)(UNAUDITED)
Land and buildings 2,550 3,137 3,137 3,137
Leasehold improvements 32,282 40,143 40,084 62,075
Machinery and equipment 29,511 37,995 36,166 61,995
Furniture and fixtures 6,421 6,368 6,368 5,558
Computers 1,456 1,586 1,550 2,219
Motor vehicles 725 728 728 729
Less: Accumulated depreciation (31,814) (43,040) (39,933) (38,375)
---------- ----------- --------- -----------
Net book value 41,131 46,917 48,100 97,338
========== =========== ========= ===========
As of December 31, 1996, the cost and accumulated depreciation of fixed assets
held under finance leases amounted to approximately HK$4,927 and HK$132
respectively. As of September 30, 1997, the cost and accumulated depreciation of
fixed assets held under financed leases amounted to approximately HK$21,199 and
HK$2,192 repectively.
F-25
<PAGE> 97
5. TRADE RECEIVABLES
- ----------------------
<TABLE>
Trade receivables comprised the following items:
<CAPTION>
Year Ended Nine Months Ended
December 31, September 30,
------------------------ ------------------------
1995 1996 1996 1997
----------- ----------- ----------- -----------
HK$ HK$ HK$ HK$
(Unaudited) (Unaudited)
<S> <C> <C> <C> <C>
Balances with a beauty product vendor 7,691 9,641 5,314 8,197
Corporate beauty package receivables - 4,854 6,210 2,854
Others 937 325 496 774
----------- ----------- ----------- -----------
8,628 14,820 12,020 11,825
=========== =========== =========== ===========
</TABLE>
(a) Balance with a beauty product vendor:
Pursuant to a marketing agreement between an Operating Subsidiary, Mighty, and a
beauty product vendor ("the Vendor"), the Vendor agreed to pay marketing fees
calculated at HK$500 per month from June 1994 to November 1994 and HK$250 per
month thereafter to Mighty for marketing services rendered for cosmetic sales up
to May, 1996. In addition, the Group also purchases beauty products from the
Vendor. On September 30, 1996, Mighty entered into an agreement with the Vendor
for the settlement of the outstanding balances of HK$4,965 by three installments
beginning December 31, 1996 to June 30, 1997. The first installment of HK$2,800
due on December 31, 1996 was settled by offsetting the cost of beauty products
purchased by the Group from the Vendor during the 3 months from October 1 to
December 31, 1996. The second installment of HK$1,000 was due on March 3l, 1997
and was settled in cash by the Vendor. The outstanding balances with the Vendor
are interest-free and unsecured. As of September 30, 1997, the final installment
was satisfied by offsetting the cost of beauty products purchased by the Group
from the Vendor.
The Vendor has also agreed to bear all custom duty and sales taxes in connection
with beauty products sold to the Group and imported into and sold in the PRC by
the Group which were estimated to be approximately HK$1,396 and HK$7,544 and
HK$8,197 as of December 31, 1995, 1996 and September 30, 1997 respectively. The
estimated custom duty and sales tax liabilities have been included in "Taxes
other than income" with a corresponding Receivable from the Vendor being
recorded in "Trade Receivable" in the accompanying balance sheet. The Vender
agreed to settle the balances when the corresponding custom duty and sales taxes
are paid by the Group.
F-26
<PAGE> 98
5. TRADE RECEIVABLE (Cont'd)
- ------------------------------
(b) Corporate beauty packages receivables:
During 1996, two Operating Subsidiaries, Regent and Jade Regal, entered into
several agreements with a third party company ("the Package Subscriber") for
sales of corporate beauty packages ("the Packages") at a consideration of
approximately HK$6,900. The Packages were given away or resold by the Package
Subscriber to its customers ("the ultimate users") for beauty treatments
performed at the Fitness Centres of the Shanghai and Dalian JVs. Pursuant to the
agreements, non-refundable redemption letters for each beauty treatment with
prescribed expiry dates within one year of the date of the letters were issued
by Regent and Jade Regal to the Package Subscriber which allowed the ultimate
users to redeem the Packages at the Centres. As of December 31, 1996,
approximately HK$6,800 of the Packages had either been redeemed by the ultimate
customers or had expired without being redeemed. This amount has been included
as Beauty Treatment revenue in the consolidated income statement of the Group
for the year ended December 3l, 1996.
Similar arrangements have been made between Physical HK and the Vendor mentioned
in (a) above. Please refer to Note 6(a) for details.
On September 30, 1996, Regent and Jade Regal entered into an agreement with the
Package Subscriber for the settlement of the outstanding balances by three
installments from December 3l, 1996 to June 3O, l997. The first installment of
HK$2,000 due on December 31, 1996 was settled by a deposit paid on behalf of the
Group to a contractor for the decoration of the new premises for a Fitness
Centre in Hong Kong. The second installment of HK$2,000 due on March 31, 1997
was settled in cash and the final installment of HK$2,854 due on June 30, 1997
was also settled in cash in November, 1997.
6. RELATED PARTY TRANSACTIONS
- -------------------------------
<TABLE>
The Group had the following transactions with related companies:
<CAPTION>
------------------------------------------------------------------------------
Year ended Three months ended Year ended Nine months ended
------------------------------------------------------------------------------
September December December December December September September
30, 31, 31, 31, 31, 30, 30,
1994 1993 1994 1995 1996 1996 1997
------------------------------------------------------------------------------
HK$ HK$ HK$ HK$ HK$ HK$ HK$
(unaudited) (unaudited)(unaudited)
<S> <C> <C> <C> <C> <C> <C> <C>
Rental of a director's 540 - 135 540 636 453 477
quarters
Purchase of cosmetics and
beauty products 1,955 - 416 2,246 - - -
Purchase of beauty and
fitness equipment 9,580 - 273 898 - - 2,681
Sales of beauty and fitness
equipment 295 - - 1,367 793 793 -
Purchase rebate received 542 - - 1,208 - - -
Management fee received 660 692 2 10 12 12 12
</TABLE>
Certain general and administrative expenses incurred by the Group companies
during the relevant periods on behalf of the related companies were reimbursed
by the respective related companies at cost.
F-27
<PAGE> 99
6. RELATED PARTY TRANSACTIONS (Cont'd)
- ----------------------------------------
The Principal Shareholders of the Group had beneficial interests in all the
aforementioned related companies or the shareholders of the related companies
were related to the Principal Shareholders.
In 1993, Physical HK extended a loan of HK$6,190 to a related company. The loan
was interest-bearing at 8.5% and was unsecured. It was fully repaid by the
related company in 1994. For the year ended September 30, 1994, interest income
of approximately HK$96 on such loans was included in the consolidated statements
of income.
During the year ended December 31, 1996, Physical HK incurred training expenses
of approximately HK$700 at no cost to other related companies.
The Group has also undertaken the following transactions with the Principal
Shareholders who were also directors of the Group companies:
(a) The Group made certain advances to the Shareholder during the years
ended September 30, 1994, December 31, 1995, December 31, 1996 and the
three months ended December 31, 1994 which were non interest-bearing,
unsecured and repayable on demand. These advances were repaid in cash,
by payments made by the Shareholder on behalf of the Group or by
off-setting the dividends declared by the Group and payable to the
Shareholder against the amounts owed to the Group. Dividends declared
during the year ended December 31, 1995 were off-set against amounts
owed by the Shareholder. On March 26, 1997, the Group entered into a
shareholder loan agreement ("the Agreement") with the Shareholder in
respect of the outstanding balance of approximately HK$16.5 million owed
by the Shareholder to the Group ("the Shareholder's Loan") as of
December 31, 1996. Pursuant to the Agreement, the Shareholder's Loan is
unsecured and interest-bearing at the bank prime borrowing rate
prevailing at the date of the Agreement. The Shareholder will repay the
Loan and the interest thereon in eight installments from June 30, 1997
to March 31, 1999. Accordingly, the amount from a shareholder was
classified into current and non-current portions in line with the
repayment schedule for presentation in the consolidated balance sheet as
of December 31, 1996 and September 30, 1997. On September 30, 1997, a
supplemental agreement was signed between the Company and the
Shareholder under which the Shareholder's Loan is secured by a pledge of
1,125,000 post-split (1,500,000 pre-split) shares of common stock of the
Company owned by the Shareholder, as collateral for the Shareholder's
Loan.
As of September 30, 1997, the outstanding principal amount of the
Shareholder's Loan and accrued interest is HK$14,839. The second and
third installments of HK$4,600 due on September 30 and December 31, 1997
were repaid in cash in December, 1997.
During 1996, Physical HK entered into several agreements with the beauty
product vendor ("the Vendor") mentioned in Note 5(a) for sales of
corporate beauty packages at a consideration of approximately HK$7,600.
This amount has been included as Beauty Treatment revenue in the
consolidated income statement of the Group for the year ended December
31, 1996. All payments made by the Vendor relating to these corporate
beauty packages were received by the Shareholder on behalf of Physical
HK and included in the amount due from the Shareholder. Up to December
31, 1996, approximately HK$2,500 had been repaid by the Shareholder to
Physical HK. The remaining, HK$5,100 due from the Shareholder in
relation to this arrangement was included in the Shareholder's Loan
balance as of December 31, 1996 and September 30, 1997 mentioned above.
<PAGE> 100
F-28
6. RELATED PARTY TRANSACTIONS (Cont'd)
- -------------------------------------------
(b) The Shareholder has also undertaken to indemnify the Group against any
contingent liabilities including tax liabilities and claims that may
result from the operating activities of the Group in Hong Kong, the PRC
and elsewhere occurring before September 30, 1997. Any such liabilities
will be recorded as expenses by the Group.
(c) In 1996, Physical HK made an advance to the Shareholder for the
acquisition of a 5% equity interest in Regent from a minority
shareholder ("the Minority Shareholder") at a consideration of
approximately HK$312. In addition, an advance of approximately HK$1,200
was made to the Shareholder to repay a loan from the Minority
Shareholder (see (d) below) on behalf of Regent. These advances were
included in the balance due from the Shareholder as mentioned in (a)
above. On November 13, 1996, the Shareholder transferred his equity
interests in Regent acquired from a minority shareholder to Physical
Holdings at cost and repaid the advance of approximately HK$1,200 made
from Physical HK. As a result, the Group increased its equity interest
in Regent from 83.5% to 88.5%.
(d) Pursuant to loan agreements between Regent and Supreme and their
minority shareholders, certain loans were made to Regent and Supreme by
their minority shareholders. As of December 31, 1996 and September 30,
1997, the outstanding loan balances amounted to approximately HK$5,160.
The loan balances are non-interest bearing and unsecured. The minority
shareholders have agreed that the loans are repayable when Regent and
Supreme are financially capable of doing so.
(e) During the year ended December 31, 1996, minority shareholders of
Physical HK agreed to assign the dividends declared and receivable from
Physical HK for the year ended December 31, 1995 in the amount of
approximately HK$2,821 to the Shareholder without any consideration. The
dividends so assigned were offset against the advances made by the Group
to the Shareholder as mentioned in (a) above.
(f) The Group made additional net advances to the Shareholder amounting to
approximately HD$6,000 subsequent to December 31, 1996. The amount was
repaid by the Shareholder in April, 1997.
F-29
<PAGE> 101
7. SHORT-TERM BANK LOANS
- --------------------------
The short-term bank loans are secured and repayable within one year. Please
refer to Note 8 for details of security for such facilities.
Supplemental information with respect to the short-term bank loans was as
follows:
Year ended Nine months ended
December 31, September 30,
---------------------- ----------------------
1995 1996 1996 1997
---------- ----------- ---------- -----------
(Unaudited)(Unaudited)
Maximum amount outstanding
during the year/period HK$5,156 HK$5,626 HK$5,229 HK$7,081
Average amount outstanding
during the year/period HK$3,911 HK$4,517 HK$4,403 HK$4,876
Weighted average interest rate
at the end of the 11% 11% 9% 7%
year/period
Weighted average interest rate
during the year/period 11% 9% 9% 11%
8. LONG-TERM BANK LOANS
- -------------------------
Long-term bank loans bear interest at 11.25% and 9.7% p.a. respectively on the
outstanding balances as of December 31, 1996 and September 30, 1997. The loans
are repayable as follows:
Year Nine Months
Ended Ended
December 31, September 30,
-------------- --------------
1996 1997
-------------- --------------
(Unaudited)
HK$ HK$
Payable during the following period:
Within one year 1,827 7,327
Over one year but not exceeding two years 240 951
Over two years but not exceeding three years - 1,048
Over three years but not exceeding four years - 1,155
Over four years but not exceeding five years - 516
============== ==============
Total 2,067 10,997
============== ==============
As of December 31, 1996 and September 30, 1997, the Group had various banking
facilities available from financial institutions amounting to approximately
HK$8,759 and HK$19,320 respectively. These facilities were secured by:
i. leasehold property in Hong Kong owned by Evergrowth;
ii. leasehold property in Hong Kong owned by relatives of the Principal
Shareholders;
iii. leasehold property in Hong Kong owned by a related
company;
iv. personal guarantees from the Principal Shareholders and their
relatives;
v. joint and several guarantees for HK$5,248 from the Principal
Shareholders; and
vi. foreign currency fixed deposit of AUD47 from relatives of the
Principal Shareholders.
F-30
<PAGE> 102
9. PROVISION FOR INCOME TAXES
- -------------------------------
Hong Kong profits tax was provided at 16.5% on the assessable profits of
Physical HK.
Enterprise income tax was provided at 33% on the assessable income of the
Shanghai and Dalian JVs in accordance with the relevant tax regulations of the
PRC.
The other BVI and Hong Kong Operating Subsidiaries, except Physical HK, did not
provide for any income taxes during the period/years as they did not have any
assessable income.
The combined tax provision in each period was currently payable, except for the
year ended December 31, 1996 and September 30, 1997, when HK$6,946 and HK$3,722
of the provisions were currently payable and HK$1,753 and HK$1,047 were
deferred.
The reconciliation of the effective income tax rate based on income before
income taxes and minority interests stated in the consolidated statements of
income to the statutory income tax rate in Hong Kong, the PRC and the BVI is as
follows:
<TABLE>
<CAPTION>
Year ended Three months from Year ended Nine months Ended
September 30, October 1 to December 31, December 31, September 30,
------------ ------------------------- ------------------------- -------------------------
1994 1993 1994 1995 1996 1996 1997
------------ ------------ ------------ ------------ ------------ ------------ ------------
(unaudited) (unaudited) (unaudited)
<S> <C> <C> <C> <C> <C> <C> <C>
Weighted average statutory tax rate 15.9% 17.5% 23.5% 17.0% 17.1% 20.7% 18.8%
Permanent Differences
Tax loss incurred - (17.5%) - - - - -
Loss on shut down of a
beauty centre - - 6.2% - - - -
Non-deductible
expenses - - - - - - -
Timing differences for which
no benefit has been recognized
due to establishment of
valuation allowance
- Excess of accelerated depreciation
allowances on fixed assets (3.7%) - - - - - -
- Write-off of pre-opening
expenses 2.9% - 2.3% - - - -
- Restatement of deferred
income (3.0%) - - 0.9% - - -
- Restatement of purchase
returns - - 2.5% - - - -
Timing differences which give rise
to the provision of deferred taxation
- Accelerated
depreciation allowances
on fixed assets - - - - 7.1% 8.3% 4.4%
- Restatement of deferred
income - - - - 1.6% 1.2% -
Others O.8% - (1.5%) 0.1% - 0.5% (1.5%)
------------ ------------ ------------ ------------ ------------ ------------ ------------
Effective tax rate 12.9% 0.0% 33.0% 18.0% 25.8% 30.7% 21.7%
============ ============ ============ ============ ============ ============ ============
</TABLE>
F-31
<PAGE> 103
9. PROVISION FOR INCOME TAXES (Cont'd)
- ----------------------------------------
The tax impact of temporary differences between financial and taxable income
that give rise to deferred tax (assets)liabilities are principally related to
the following:
<TABLE>
<CAPTION>
Year Ended Nine Months Ended
December 31, September 30,
--------------------- --------------------
1995 1996 1996 1997
---------- ---------- --------- ----------
HK$ HK$ HK$ HK$
<S> <C> <C> <C> <C>
Accelerated depreciation allowances
on fixed assets in Hong Kong 2,180 1,753 2,074 2,800
Restatement of deferred fitness
and beauty income (2,393) - (759) -
Valuation allowance for
deferred tax assets 213 - - -
---------- ---------- --------- ----------
Total - 1,753 1,315 2,800
========== ========== ========= ==========
</TABLE>
10. OBLIGATIONS AND COMMITMENTS
- --------------------------------
As of December 31, 1996 and September 30, 1997, the Group had the following
obligations and commitments:
a. Operating leases
--------------------
Physical HK and the Shanghai and Dalian JVs lease the premises of their
Fitness Centres. The total amount of lease commitments as of December 31,
1996 and September 30, 1997 amounted to HK$151,209 and HK$153,938
respectively payable as follows:
December September
31, 30,
1996 1997
------------- -------------
(Unaudited)
HK$ HK$
Payable during the following period:
Within one year 29,701 30,610
Over one year but not exceeding two years 24,958 34,390
Over two years but not exceeding three years 23,975 28,351
Over three years but not exceeding four years 17,747 21,143
Over four years but not exceeding five years 16,846 16,816
Thereafter 37,982 22,628
------------- ------------
Total lease commitment 151,209 153,938
============= =============
F-32
<PAGE> 104
10. OBLIGATION AND COMMITMENTS (Cont'd)
- ----------------------------------------
b. Obligations under finance leases
------------------------------------
Physical HK leases fitness equipment and motor vehicles under several
finance leases with lease terms extending from 1994 to 1999. The scheduled
future minimum lease payments as of December 31, 1996 and September 30,
1997 were as follows:
December 31, September 30,
1996 1997
------------- ------------
(Unaudited)
HK$ HK$
Payable during the following period:
Within one year 2,641 1,433
Over one year but not exceeding two years 1,934 5,635
Over two years but not exceeding three years 58 4,979
Over three years but not exceeding four years - 2,147
Over four years but not exceeding five years - 1,895
Thereafter - 474
------------- ------------
Total minimum lease payments 4,633 16,563
Less: amount representing interest 678 2,556
------------- ------------
Present value of net minimum lease payments 3,955 14,007
============= ============
c. Long-term loans payable and Share options to lenders
-------------------------------------------------------
Pursuant to five separate loan agreements entered into between Physical HK
and five third party lenders ("the Lenders") in 1995 and 1996, Physical HK
borrowed a sum of approximately US$1,800 (HK$13,916) ("the Loans") from the
Lenders. The Loans will be fully repayable in 1998, twenty-four months
after the drawdown dates ("the Loan Periods"). The Loans bear interest at
three percent over the prevailing prime rate after the first eighteen
months from the respective drawdown dates ("the Interest-free Period"). The
effect of the Interest-free Period was not material to net income.
According to the provisions of the same loan agreements, the Lenders were
granted share purchase options ("the Options") to purchase 0.2% to 2.4% of
the outstanding capital of Physical HK from the Shareholder at a value of
HK$l per share during the Loan Periods. The Lenders also agreed to assign
the Loans owed to them by Physical HK to the Shareholder at a value of HK$l
per share once the options are exercised. There are also provisions in the
agreements that the Lenders can sell the shares to the public or back to
the Shareholder if the Group obtains a flotation during the Loan Periods.
Up to the date of this report, the Lenders have not exercised any of the
Options.
Subsequent to September 30, 1997, Physical HK repaid the loan of US$540
(HK$4,174) to two of the five third party lenders. In addition,
supplemental loan agreements ("Supplemental Agreements") were signed
between Physical Hong Kong and another two of the remaining three third
party lenders in November 1997. According to the Supplemental Agreements,
the Lender agreed to extend the Loan Periods and abandoned their rights of
above mentioned share purchase options. In return, Physical HK will pay the
interest at three percent over the prevailing prime rate during the
extended loan period and a lump sum amount of US$60.
F-33
<PAGE> 105
10. OBLIGATION AND COMMITMENTS (Cont'd)
- ----------------------------------------
d. Capital commitments
----------------------
As of December 31, 1996, the Group had outstanding capital commitments in
relation to the purchase of fitness equipment and leasehold improvements of
new Fitness Centres of approximately HK$33,615.
Subsequent to September 30, 1997, the Group entered into an agreement with
a vendor for the leasehold improvement of Tsuen Wan Physical with a total
commitment amount of approximately HK$24,000.
11. RETIREMENT PLANS
- ---------------------
As stipulated by the regulations of the Chinese government, all of the Chinese
staff of the Shanghai and Dalian JVs are entitled to an annual pension on
retirement, which is equal to their basic salaries at their retirement dates.
The Chinese government is responsible for the pension liability to these retired
staff. The Shanghai and Dalian JVs are only required to make specified
contributions to the state-sponsored retirement plan calculated at 30% of the
basic salary of the staff.
12. SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
- ------------------------------------------------------
<TABLE>
<CAPTION>
Three months
ended Year ended Nine months ended
December 31, December 31, September 30,
------------ ----------------------- -----------------------
1994 1995 1996 1996 1997
------------ ----------- ----------- ----------- -----------
HK$ HK$ HK$ HK$ HK$
(Unaudited) (Unaudited)
<S> <C> <C> <C> <C> <C>
Cash paid for:
Interest expense 219 1,158 841 1,894 2,460
Income taxes 232 2,415 3,238 2,432 5,240
</TABLE>
13. OTHER SUPPLEMENTAL INFORMATION
- -----------------------------------
The following items are included in the consolidated statements of income.
<TABLE>
<CAPTION>
Three months Nine months
Year ended ended Year ended ended
September 30, December 31, December 31, September 30,
------------ ----------- ----------------------- -----------------------
1994 1994 1995 1996 1996 1997
------------ ----------- ----------- ----------- ----------- -----------
HK$ HK$ HK$ HK$ HK$ HK$
(Unaudited) (Unaudited)
<S> <C> <C> <C> <C> <C> <C>
Foreign exchange gain 31 139 109 1 60 20
Interest expenses on
finance leases 697 5 20 210 115 936
Interest expenses on
overdrafts and bank loans 460 214 1,138 631 468 1,095
Interest expenses on
other loans - - - - - 429
Interest income 114 - 1 2 2 1,214
Sales taxes 460 332 504 1,216 950 848
Rental expenses under
operating leases 16,947 4,367 18,250 21,185 15,640 22,660
F-34
</TABLE>
<PAGE> 106
14. DEDICATED CAPITAL
- ----------------------
In accordance with the relevant laws and regulations for Sino-foreign joint
venture enterprises, the Shanghai and Dalian JVs maintain discretionary
dedicated capital, which includes a general reserve fund, an enterprise
expansion fund and a staff welfare and incentive bonus fund. The Board of
Directors of the Shanghai and Dalian JVS will determine on an annual basis the
amount of the annual appropriations to dedicated capital. Since their inception,
the Shanghai and Dalian JVs have not made any such appropriations as they
incurred losses during these periods.
15. DISTRIBUTION OF PROFIT
- ---------------------------
Dividends from the Shanghai and Dalian JVs will be declared based on the profits
as reported in the statutory financial statements. Such profits will be
different from the amounts reported under US GAAP. Up to September 30, 1997, no
distribution had been made by the Shanghai and Dalian JVs as they incurred
losses during these periods.
Physical HK proposed and paid dividends of HK$32,800 for the year ended December
31, 1995 on the outstanding Common Stock. As mentioned in 6(a) and (e),
dividends payable to the Shareholder in the amount of HK$29,979 were utilized to
offset the balances owed by him to the Group. Dividends payable to the minority
shareholders of Physical HK in the amount of HKS2,821 were assigned to the
Shareholder without any consideration. They were utilized to offset the advances
made by the Group to him as noted in Note 6(a).
In the opinion of management, any undistributed earnings and/or losses of
Physical Holdings and the Operating Subsidiaries will be reinvested
indefinitely.
16. STOCK OPTION PLAN
- ----------------------
The Company has a Stock Option Plan ("the Plan") which was adopted by the
Company's stockholders and its Board of Directors on April 23, 1997. Under the
Plan, the Company may issue incentive stock options, non-qualified options,
restricted stock grants, and stock appreciation rights to selected directors,
officers, advisors and employees of the Company. A total of 375,000 shares of
Common Stock of the Company are reserved for issuance under the Plan, Stock
options ("the Options") may be granted as non-qualified or incentive options.
Incentive stock options may not be granted at a price less than the fair market
value of the stock as of the date of grant while nonqualified stock options may
not be granted at a price less than 85% of the fair market value of the stock as
of the date of grant. The Plan will be administered by an Option Committee ("the
Committee") which is to be composed of two or more disinterested directors of
the Board of Directors. The Option can be exercised during a period of time
fixed by the Committee except that no option may be exercised more than ten
years after the date of grant or three years after death or disability,
whichever is later. As of the date of this report, no stock options have been
granted by the Company.
F-35
<PAGE> 107
17. SUBSEQUENT EVENTS
- ----------------------
The Group made additional net advances to the Shareholder amounting to
approximately HK$6,000 subsequent to December 31, 1996. The amount was repaid by
the Shareholder in April, 1997.
F-36
<PAGE> 108
============================================================================
No dealer, salesman or other person is authorized to give any information or
to make any representations not contained in this Prospectus in connection
with the offer made hereby, and, if given or made, such information or
representations must not be relied upon as having been authorized by the
Company, any Selling Shareholder or the Selling Agent. This Prospectus does
not constitute an offer to sell or a solicitation to an offer to buy the
securities offered hereby to any person in any state or other jurisdiction
in which such offer or solicitation would be unlawful. Neither the delivery
of this Prospectus nor any sale made hereunder shall, under any
circumstances, create any implication that the information contained herein
is correct as of any time subsequent to the date hereof.
-------------------------
TABLE OF CONTENTS
Page
Prospectus Summary
Risk Factors
The Company
Use of Proceeds
Dilution
Capitalization
Market Price of Common Stock
Selected Financial Data
Management's Discussion and Analysis
of Financial Condition and Results
of Operations
Business
Management
Certain Relationships and Related
Transactions
Principal and Selling Stockholders
Description of Securities
Plan of Distribution
Legal Matters
Experts
Index to Financial Statements
Independent Auditors' Report
Consolidated Financial Statements
-------------------------
64
<PAGE> 109
============================================================================
PHYSICAL SPA & FITNESS INC.
562,500 SHARES
375,000 WARRANTS
------------------
PROSPECTUS
------------------
____________, 1997
GLOBAL FINANCIAL GROUP
<PAGE> 110
PHYSICAL SPA & FITNESS INC.
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 24. INDEMNIFICATION OF DIRECTORS AND OFFICERS.
- -------- ------------------------------------------
The Delaware Corporation Law and the Company's Certificate of
Incorporation and Bylaws authorize indemnification of a director, officer,
employee or agent of the Company against expenses incurred by him or her in
connection with any action, suit, or proceeding to which such person is named a
party by reason of having acted or served in such capacity, except for
liabilities arising from such person's own misconduct or negligence in
performance of duty. In addition, even a director, officer, employee or agent of
the Company who was found liable for misconduct or negligence in the performance
of duty may obtain such indemnification if, in view of all the circumstances in
the case, a court of competent jurisdiction determines such person is fairly and
reasonably entitled to indemnification. Insofar as indemnification for
liabilities arising under the Securities Act of 1933 (the "Act") may be
permitted to directors, officers, or persons controlling the Company pursuant to
the foregoing provisions, the Company has been informed that in the opinion of
the Securities and Exchange Commission, such indemnification is against public
policy as expressed in the Act and is therefore unenforceable.
ITEM 25. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
- -------- -------------------------------------------
SEC Registration Fee $ 1,962
NASD Fee $ 5,000
Nasdaq Listing Fee $ 10,000
Accounting Fees and Expenses $ 10,000
Legal Fees and Expenses $ 60,000
Printing Expenses $ 20,000
Blue Sky Fees and Expenses $ 15,000
Miscellaneous $ 9,710
--------
Total $ 131,672
ITEM 26. RECENT SALES OF UNREGISTERED SECURITIES
- -------- ---------------------------------------
The following sets forth certain information regarding sales of
securities of the Company issued within the past three years, which were not
registered pursuant to the Securities Act of 1933, as amended (the 'Securities
Act').
Issuance of 6,000,000 post-split shares of common stock to Ngai Keung
Luk (Serleo) pursuant to the Share Exchange Agreement in October, 1996.
The securities issued to the investors were restricted securities as
defined in Rule 144. No general forms of advertising were used in connection
with the issuance of the shares to the investors. The investors were, prior to
the sale of the Company's securities to him, fully informed and advised about
such matters concerning the Company, including its business, financial affairs
and other matters. No Selling Agents were used in connection with the issuance
of these shares and no sales commissions were paid to any person. The issuance
of Common Stock to the investors were exempt from the registration provisions of
the Act by virtue of Section 4(2) of the Act, as transactions by an issuer not
involving any public offering.
II-1
<PAGE> 111
ITEM 27. EXHIBITS
- -------- --------
Exhibit
1.1 Selling Agent Agreement (form)**
1.2 Agreement Among Selling Agents (form)**
2.1 Share Exchange Agreement between Foreclosed Realty Exchange, Inc. and Ngai
Keung Luk, together with amendments *
3.1 Articles of Incorporation of Physical Spa & Fitness, Inc., a Delaware
Corporation*
3.2 Certificate of Amendment of Articles of Incorporation changing the number
of directors*
3.3 Certificate of Amendment of Articles of Incorporation changing the
Company's name*
3.4 Certificate of Amendment of Articles of Incorporation changing the
authorized capital*
3.5 By-Laws of Physical Spa & Fitness, Inc.*
4.1 Form of Warrant**
4.2 Warrant Agreement**
5 Opinion of Iwona J. Alami, Esq.**
10.1 Lease Agreement by and between Lee Theatre Realty Limited and Physical
Health Centre Hong Kong Limited (Causeway Bay Center)*
10.2 Tenancy Agreement between Benefit Plus Company Limited and Physical Health
Centre Hong Kong Limited (Tsimshatsui Center) *
10.3 Lease Agreement between East Asia Property Agency Limited and Physical
Health Centre Hong Kong Limited (Kowloon Center)*
10.4 Lease Agreement between Broadway-Nassau Investments Limited and Ho Yuk Wah
(Mei Foo Center)*
10.5 New Town Tower, S.T.T.L.183 Confirmation of Tenancy (Shatin)*
10.6 Tenancy Agreement by and between Kamoton Investments Limited and
SupremeResources Limited (Renaissance Beauty Centre)*
10.7 Repayment Agreement between the Company and Ngai Keung Luk*
10.8 Pledge Agreement between the Company and Ngai Keung Luk*
10.9 1997 Stock Option Plan and form of Stock Option Agreement*
10.10 Lock Up Agreements of Selling Shareholders
15 Letter on Unaudited Interim Financial Information
22 Subsidiaries of the Registrant*
24.1 Consent of Iwona J. Alami, Esq. (included in her opinion set forth in
Exhibit 5 hereto)**
24.2 Consent of Arthur Andersen & Co.**
25 Power of Attorney (see signature page)
- ------------
*Filed with the Commission on October 24, 1997 as exhibit to the Registration
Statement.
**To be filed by amendment to the Registration Statement.
ITEM 28. UNDERTAKINGS
- -------- ------------
The undersigned registrant hereby undertakes to:
(1) Insofar as indemnification for liabilities arising under the Securities
Act of 1933 (the "Act") may be permitted to directors, officers and
controlling persons of the Company pursuant to the foregoing provisions,
or otherwise, the Company has been advised that in the opinion of the
Securities and Exchange Commission such indemnification is against
public policy as expressed in the Act and is, therefore, unenforceable.
In the event that a claim for indemnification against such liabilities
(other than the payment by the registrant of expenses incurred or paid
by a director, officer or controlling person of the registrant in the
successful defense of any action, suit or proceeding) is asserted by
such director, officer or controlling person in connection with the
securities being registered, the Company will, unless in the opinion of
its counsel the matter has been settled by controlling precedent submit
to a court of appropriate jurisdiction the question whether such
indemnification by it is against public policy as expressed in the Act
and will be governed by the final adjudication of such issue.
II-2
<PAGE> 112
(2) File, during any period in which it offers or sells securities, a post
effective amendment to this registration statement to: (I) Include any
prospectus required by section 10(a)(3) of the Securities Act; (ii)
reflect in the prospectus any facts or events which, individually or
together, represent a fundamental change in the information in the
registration statement; and (iii) Include any additional or changed
material information on the plan of distribution.
For determining liability under the Securities, treat each
post-effective amendment as a new registration statement of the securities
offered, and the offering of the securities at that time to be the initial bona
fide offering.
File a post-effective amendment to remove from registration any of the
securities that remain unsold at the end of the offering.
II-3
<PAGE> 113
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the
Registrant certifies that it has reasonable grounds to believe that it meets all
of the requirements for filing on Form SB-2 and has duly caused this
Registration Statement to be signed on its behalf by the undersigned, thereunto
duly authorized, in Hong Kong on ____________, 1998.
PHYSICAL SPA & FITNESS INC.
BY: /S/ Jill Bodnar
-----------------------------
JILL BODNAR, PRESIDENT
POWER OF ATTORNEY
Each person whose signature appears appoints Jill Bodnar and Darrie Lam,
in the alternative, as his or her agents and attorneys-in-fact, with full power
of substitution to execute for him/her and in his/her name, in any and all
capacities, all amendments (including post-effective amendments) to this
Registration Statement to which this power of attorney is attached.
Signature Title Date
- --------- ----- ----
______________________ Chief Executive Officer and Director ____________
______________________ President and Director ____________
______________________ Chief Financial Officer and Director ____________
______________________ Vice President and Secretary ____________
______________________ Vice President and Director ____________
______________________ Director ____________
______________________ Director ____________
II-4
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
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