SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM - 6K
REPORT OF FOREIGN ISSUER
PURSUANT TO RULE 13A-16 OR 15D-16 OF
THE SECURITIES EXCHANGE ACT OF 1934
For the six months ended June 30, 1998
CHINA ENERGY RESOURCES CORPORATION
(Exact name of Registrant as specified in its charter)
British Virgin Islands
(Jurisdiction of incorporation or organization)
Citco Building, Wickhams Cay c/o Arimoto, Ogasawara & Mo
P.O. Box 662, Road Town 276 Fifth Avenue, Suite 703
Tortola, British Virgin Islands New York, NY 10001
(Address of principal executive offices)
Indicate by check mark whether the registrant files or will file annual
reports under cover Form 20-F or Form 40-F.
Form 20-F __X__ Form 40-F______
Indicate by check mark whether the registrant by furnishing the information
contained in this Form is also thereby furnishing the information to the
Commission pursuant to Rule 12g3-2(b) under the Securities Exchange Act 1934.
Yes______ No__X___
If "Yes" is marked, indicated below the file number assigned to the
registrant in connection with Rule 12g3-2(b). Not applicable
1
<TABLE>
TABLE OF CONTENTS
<CAPTION>
Page
<S> <C>
SELECTED FINANCIAL DATA 3
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS 7
UNAUDITED FINANCIAL STATEMENTS
Unaudited consolidated statements of operations for the
six months ended June 30, 1998, 1997 and 1996 13
Unaudited consolidated balance sheets at June 30, 1998,
1997 and 1996 14
Unaudited consolidated statements of stockholders' equity
for the six months ended June 30, 1998,1997 and 1996 16
Unaudited consolidated statements of cash flows for the
six months ended June 30, 1998, 1997 and 1996 17
Notes to unaudited consolidated financial statements 19
SIGNATURE 29
2
SELECTED FINANCIAL DATA
Summary Financial and Operating Data
The selected information set forth below should be read in conjunction with
the unaudited consolidated financial statements of the Company included in
this Report. The Company prepares its financial statements in accordance
with U.S. GAAP.
China Energy Resources Corporation ("the Company") was incorporated for the
sole purpose of holding 100% of the capital stock of China Coal Mining
(B.V.I.) Co. Ltd. ("CCM") and being the surviving entity of the merger with
Jackson Holding Corp. ("JHC").
CCM, which was incorporated on August 18, 1995, entered into the joint
venture which created Mishan Hua Xing Coke Limited ("the Operating Company")
on September 16, 1995. The Company was subsequently incorporated on March
15, 1996 to be the sole shareholder of CCM. All of the Company's operations
are conducted through its operating subsidiary, CCM, and in turn through
CCM's interest in the Operating Company. As a result, the Company's
operations and financial condition depend entirely upon the Operating
Company's results of operations and financial condition.
The Operating Company has two wholly-owned coal refining operations, MCCF and
QCCF. The Operating Company derives its revenues principally from two lines
of business within the PRC's coal industry: (1) the production and sale of
metallurgical coke to steel mills and machinery manufacturers; and (2) the
production and sale of steam coal to power plants, with all of such sales to
customers located in the PRC.
MCCF
MCCF engages primarily in the production and sale of metallurgical coke.
MCCF completed its steam coal preparation facility in 1993. Subsequently, in
1995, MCCF completed construction of an additional production facility to
process steam coal into metallurgical coke and foundry coke. This facility
has been designed for annual production capacities of approximately 200,000
tons of steam coal, approximately 85,000 tons of metallurgical coke and
approximately 56,000 tons of foundry coke. Improvements to the facility,
which cost approximately $3,000,000 were financed through an unsecured loan
by a local PRC bank at a fixed term rate of 15.3%. These improvements
enabled MCCF to produce metallurgical coke and foundry coke which it was
unable to do prior to such improvements. Presently, the main product of the
MCCF plant is metallurgical coke.
On June 20, 1995, the Mishan City Municipal Government granted MCCF exclusive
underground rights to mine coal from certain coal reserves located in Mishan
City, within Heilongjiang Province, PRC. MCCF's mining rights were granted
on June 20, 1995 and continue in force for 100 years. MCCF is not presently
involved in the mining of these reserves due to the lack of funds available
for this purpose. MCCF has been engaged in conducting mine site surveys,
clearing the surface of potential mine entrance sites, performing geological
surveys and preparing mining plans. The Company believes that these
activities will enable MCCF to begin its mining operations as soon as
practicable after sufficient funds are available. The costs associated with
mining preparation work have been capitalized as part of MCCF's coal mine use
rights.
As a result of the macro-economic adjustments and related credit policy
advocated by the central PRC government, MCCF was not able to obtain working
capital from local banks after the completion of its production facilities in
1995. Due to this lack of working capital, in June 1996, operation of MCCF
plant was subcontracted to a company under the control of the PRC's Ministry
of Coal. This subcontract was terminated on March 31, 1997 as a result of
successful working capital raise in the end of 1996. However, in March of
1998, MCCF ceased operations due to the depletion of working capital. MCCF
working capital was entirely depleted due to a large amount of uncollected
trade receivables and poor operating management. The situation was
exacerbated by the refusal of local banks and raw coal suppliers to advance
3
further credit. The Company intends to reopen the facilities when the
Company has raised additional finance. At the current stage, MCCF only
retains a minimum workforce and incurs minimum expenses to maintain its
facility. Total production and sales by MCCF during the six months ended
6/30/98 amounted to 14,016 tons of regular and low-end metallurgical coke
generating gross revenue of $347,000.
In addition, during 1997, the Company terminated the services of the MCCF
plant manager, however, prior to his termination, this individual signed
various documents that provided collateral to bank lenders of MCCF over MCCF
assets.
Currently, the local government is assisting the Company to supervise the
daily operations of MCCF. The majority of the workforce has been dismissed
with approximately 55 workers remaining on the premises.
QCCF
QCCF engages in the production and sale of steam coal. The QCCF factory was
constructed in 1993 and employs the "air-heavy medium fluid bed" dry process
of coal preparation, which management believes is a leading production
technology worldwide and is appropriate for production in cold and dry
regions such as the region where QCCF's factory is located. QCCF's annual
production capacity is approximately 750,000 tons of steam coal and the
factory operated at 48%of its capacity in the six months ended 6/30/98.
Historically, a substantial percentage of the sales of QCCF have been to one
customer, Mudanjiang No. 2 Power Plant ("Mudanjiang") in Heilongjiang
Province, PRC. On an annual basis, the PRC government designates the quota
of steam coal that will be purchased for each of its power plants and the
districts from which such coal will be supplied. Each power plant can then
determine which suppliers within each district it will contract with for the
year. QCCF sold 204,532 tons, 166,896 tons, and 145,017 tons of steam coal
to Mudanjiang in the six months ended 6/30/96, 6/30/97 and 6/30/98
respectively. QCCF produced according to purchased orders received.
In order to assure that its customers will receive steam coal on a timely
basis, QCCF needs to secure sufficient transportation capacity. In 1996,
QCCF entered into a cooperative agreement with a unrelated party under the
control of the Railroad Transportation Department whereby QCCF would be
entitled to transportation capacity for 400,000 tons of steam coal annually
in exchange for a negotiated fee.
There was a deceleration in the economic growth rate which resulted in a
corresponding slow down in the demand for coal products in the first half of
1998. The Company is expecting a further decline in the demand for the steam
coal in the second half of 1998. Therefore, QCCF's strategy is to expand its
customer base by selling coal products to machinery manufacturers. In
addition, QCCF is seeking strategic alliance with local transportation
company to increase sales volume.
Following are certain operating results, set forth separately, of the
Company, MCCF and QCCF. These operating results form the basis for the
unaudited Consolidated Statement of Operations Data for the Company.
4
</TABLE>
<TABLE>
The Company:
<CAPTION>
Six Six Six
Months Months Months
Ended Ended Ended
6/30/96 6/30/97 6/30/98
(amounts in thousands)
<S> <C> <C> <C>
Statement of Operations Data (Unconsolidated):
Net Sales $ - $ - $ -
------- ------- -------
Total revenue - - -
Cost of sales - - -
------- ------- -------
Gross profit - - -
Selling, general and administrative expenses - (350) (200)
------- ------- -------
Operating income - (350) (200)
Interest expenses - (315) (226)
Other income - 29 -
------- ------- -------
Income before income taxes and minority interest - (636) (426)
Income tax - - -
------- ------- -------
Income before minority interest - (636) (426)
Minority interest - - -
------- ------- -------
Net income - (636) (426)
Other comprehensive income - 20 15
------- ------- -------
Total comprehensive income$ $ - $ (616) $ (411)
======= ======= ========
</TABLE>
<TABLE>
MCCF:
<CAPTION>
Six Six Six
Months Months Months
Ended Ended Ended
6/30/96 6/30/97 6/30/98
(amounts in thousands)
<S> <C> <C> <C>
Statement of Operations Data:
Net Sales $ 325 $ 383 $ 347
Subcontracting income - 362 -
-------- -------- --------
Total revenue 325 745 347
Cost of sales (243) (525) (371)
-------- -------- --------
Gross Profit 82 220 (24)
Selling, general and administrative expenses (108) (157) (186)
-------- -------- --------
Operating income (26) 63 (210)
Interest expenses (130) (146) (414)
Other income/(expenses) - 5 (49)
-------- -------- --------
Income before income taxes and minority interest (156) (78) (673)
Income tax - - -
-------- -------- --------
Income before minority interest (156) (78) (673)
Minority interest 31 16 134
-------- -------- --------
Net income $ (125) $ (62) $ (539)
======== ======== ========
</TABLE>
5
<TABLE>
QCCF:
<CAPTION>
Six Six Six
Months Months Months
Ended Ended Ended
6/30/96 6/30/97 6/30/98
(amounts in thousands)
<S> <C> <C> <C>
Statement of Operations Data:
Net Sales $ 3,920 $ 3,742 $ 3,339
------- ------- -------
Total revenue 3,920 3,742 3,339
Cost of sales (2,948) (2,248) (1,940)
------- ------- -------
Gross profit 972 1,494 1,399
Selling, general and administrative expenses (463) (284) (706)
------- ------- -------
Operating income 509 1,210 693
Interest expenses (132) (72) (159)
Other income 3 25 3
------- -------- -------
Income before income taxes and minority interest 380 1,163 537
Income tax - - -
------- ------- -------
Income before minority interest 380 1,163 537
Minority interest (76) (233) (107)
------- ------- -------
Net income $ 304 $ 930 $ 430
======= ======= =======
</TABLE>
<TABLE>
Operating Company:
<CAPTION>
Product Mix and Sales Volume
Six Months Ended
6/30/96 6/30/97 6/30/98
<S> <C> <C> <C>
Metallurgical coke:
Sales volume (in tons) 7,736 9,210 4,300
Average sales price per ton $42.01 $41.60 $47.01
Average production cost per ton $31.41 $57.03 $58.32
Low-end metallurgical coke:
Sales volume - - 9,716
Average sales price per ton - - $15.00
Average production cost per ton - - $12.42
Steam coal:
Sales volume (in tons) 255,681 190,954 166,266
Average sales price per ton $15.33 $ 19.59 $20.08
Average production cost per ton $11.53 $ 11.77 $11.67
</TABLE>
Exchange Rate Information
<TABLE>
The following table sets forth the applicable exchange rate used for the
presentation of financial information in this Report and in the financial
statements presented herein:
<CAPTION>
Period Ended Exchange Rate
<S> <C>
June 30, 1996 US$1.00 = Rmb8.2784
June 30, 1997 US$1.00 = Rmb8.2810
June 30, 1998 US$1.00 = Rmb8.2674
</TABLE>
6
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
The analysis on net sales, cost of sales, selling, general and administrative
expenses and interest expenses were made in reference to the separate
operating results of the Company, MCCF and QCCF. The other analysis were
made in reference to the Company's unaudited consolidated statement of
operations and balance sheets for the years.
Results of Operations - Six months ended 6/30/98 Compared to six months
ended 6/30/97
Net sales - Net sales is recorded as gross sales less returns and discounts.
Net sales decreased by 11% from $4,125,000 in the six months ended 6/30/97 to
$3,686,000 in the six months ended 6/30/98.
MCCF's net sales decreased by 9.4% from $383,000 in the six months ended
6/30/97 to $347,000 in the six months ended 6/30/98. The average unit sales
price of metallurgical coke for the six months ended 6/30/98 increased 13%
when compared to the same period last year due to better quality of the
products. However, sales volume decreased 53% from 9,210 tons for the six
months ended 6/30/97 to 4,300 tons for the six months ended 6/30/98 due to
ceased production in March 1998 as a result of working capital shortage.
Starting from mid-1997, MCCF produced and sold low-end metallurgical coke as
an additional coke product in order to increase revenue and fill backlog
orders. Total sales reached $146,000 (9,716 tons) for the first six months
ended 6/30/98.
No subcontracting income in the six months ended 6/30/98 as the agreement was
terminated in March of 1997. In June of 1996, MCCF entered into a
subcontracting agreement with a company under the control of the PRC's
Ministry of Coal. According to this agreement, the subcontracting party (1)
operated the coal production plant ,(2) was obligated to meet all of the
operating expenses of the plant, (3) was entitled to receive all the revenues
from the plant's operation. MCCF received a subcontracting fee of $362,000
for the six months ended 6/30/97.
QCCF's sales of steam coal decreased 11% from $3,742,000 in the six months
ended 6/30/97 to $3,339,000 in the six months ended 6/30/98. The decrease
was attributable to a 13% decrease in sales volume. The decline in sales
volume was primarily due to a deceleration in the economic growth rate which
resulted in a corresponding slow down in the demand for coal products. The
decrease was partially offset by a slight increase in the selling price due
to better quality. Mudanjiang No. 2 Power Plant continued to be the major
customer for QCCF. Sales to Mudanjiang represented 74% of the Company's
total net sales for the six months ended 6/30/98, a decrease of 13% in sales
volume to Mudanjiang No. 2 Power Plant when compared to the same period of
last year.
Cost of sales - The cost of coal sales includes the cost of raw material,
direct labor and benefits, depreciation, transportation and manufacturing
overhead.
MCCF's average unit cost of producing metallurgical coke increased 2% from
$57.03 in the six months ended 6/30/97 to $58.32 in the six months ended
6/30/97 due to the increase in raw material cost.
QCCF's average unit cost of producing steam coal for the two years ended
6/30/97 and 6/30/98 did not change significantly. The overall decrease of
$308,000 in cost of sales was attributable to a reclassification of selling
expenses to selling, general and administrative expenses for the six months
ended 6/30/98 whereas selling expenses was included in cost of sales for the
six months ended 6/30/97.
Gross Profit - Gross Profit decreased from $1,714,000 in the six months
ended 6/30/97 to $1,375,000 in the six months ended 6/30/98. The decrease of
$339,000 was primarily attributable to : (1) decrease in subcontracting
income of 362,000 received by MCCF, and (2) a decrease of $95,000 in gross
margin for QCCF's steam coal. The decrease was partially offset by (3)
increase of $118,000 in MCCF's profit margin generated from higher sales
price of metallurgical coke and additional sales of low-end metallurgical
coke.
7
Selling, general and administrative expenses - Selling, general and
administrative expenses increased 38% from $791,000 in the six months ended
6/30/97 to $1,092,000 in the six months ended 6/30/98. The increase of
$301,000 is attributable to (1) an increase of selling expenses in QCCF of
$286,000 and a reclassification of $185,000 selling expenses for QCCF. The
increase was partially offset by (1) MCCF's decrease in traveling expenses of
$31,000 as the production was halted in March of 1998, (2) the Company
exercised a tighter control in its administrative expenses resulting in a
reduction of $60,000 for the first half of 1998, and (3) decrease of $83,000
as the Company's representative office in Heilingjiang was closed in October
1997.
Interest expenses - Interest expenses increased 50% from $533,000 in the six
months ended 6/30/97 to $799,000 in the six months ended 6/30/98 for the
following reasons: (1) MCCF's interest expenses increased $168,000 as the
Mishan City government and the local bank did not waive the interest in the
six months ended 6/30/98 whereas they did in the six months ended 6/30/97,
and additional $100,000 penalty payment as MCCF defaulted on the payment of
interest and principal in the six months ended 6/30/98, (2) $87,000 increase
in QCCF's interest expenses due to increase in loan borrowings from $966,000
as of 6/30/97 to $2,988,000 as of 6/30/98. The increase was partially
offset by (3) the Company's interest expenses decreased by $89,000 as
$2,500,000 convertible notes were converted into common stock of the Company
in April 1997.
In addition, notional interest on the interest free loan from the Chinese
joint venture partner amounted to $193,000 and $166,000 for the six months
ended 6/30/98 and 6/30/97 respectively, computed at a rate of 16% per annum.
Such interest was capitalized as part of MCCF's coal mine use rights.
Income taxes - Substantially all of the Company's current profits accrue in
the PRC where the applicable tax rate is currently 33%. However, pursuant to
the PRC Income Tax Law, the Operating Company is exempt from income tax for
its first two profitable years. This two-year "tax-holiday" was to begin
with the first profitable year of the Operating Company, measured from its
formation on September 16, 1995. For the following three years, the
Operating Company will pay income tax at a rate of one-half of the then
current tax rate. There is no tax payable in the British Virgin Islands on
dividends paid to CCM and the Company by any of their subsidiaries or
factories. Therefore, there was no provision for income tax for the six
months ended 6/30/98 and 6/30/97.
Net Income - Net income decreased by 331% from $232,000 in the six months
ended 6/30/97 to a net loss of $535,000 in the six months ended 6/30/98. A
decrease of $767,000 was attributable to (1) $355,000 increase in MCCF's and
QCCF's interest expenses, (2) no subcontracting fee was received by MCCF in
the six months ended 6/30/98, and (3) $286,000 increase in QCCF's selling
expenses. The increase was partially offset by (3) $89,000 decrease in
interest expenses for the convertible notes and $143,000 decrease in
administrative expenses as the Company exercised a tighter control and close
down its representative office in Heilongjiang.
Results of Operations - Six months ended 6/30/97 Compared to six months
ended 6/30/96
Net sales - Net sales is recorded as gross sales less returns and discounts.
Net sales slightly decreased from $4,245,000 in the six months ended 6/30/96
to $4,125,000 in the six months ended 6/30/97.
MCCF terminated the subcontracting agreement on March 31, 1997 and resumed
the production and sales of metallurgical coke during the second quarter of
1997. In order to alleviate the immediate problem of obtaining the necessary
transportation capacity, MCCF sold most of the finished products at the
production point to the subcontracting party which in turn sold to its
customers using its own transportation capacity. Since April of 1997, MCCF
has been building up customer base and arranging for transportation capacity
which is the key element for making sales. MCCF produced a total of 9,210
tons of metallurgical coke in the months of May and June of 1997. Since the
production facilities were not totally geared up to produce metallurgical
coke, the quality of the product was below standard. As a result, the unit
sales price of metallurgical coke decreased from $42.01 in the six months
ended 6/30/96 to $41.60 in the six months ended 6/30/97. The production
8
level of MCCF in the six months ended 6/30/96 was below the normal operating
level due to lack of working capital.
QCCF's sales of steam coal decreased $3,920,000 in the six months ended
6/30/96 to $3,742,000 in the six months ended 6/30/97 due to the shortage of
transportation capacity in the month of May 1997. The local government
utilized all of the transportation capacity to transport agricultural products
because the harvest was better than expected. Although QCCF sold
approximately 65,000 tons less steam coal when compared to the six months
ended 6/30/96, its sales price increased 28% due to stricter quality control
of coal inspection and testing processes which resulted in higher customer
satisfaction and fewer discounts and rebates. Sales to Mudanjiang No. 2
Power Plant represented 77% of the Company's total net sales in the six
months ended 6/30/97. Sales to Mudanjiang amounted to 166,896 tons in the
six months ended 6/30/97 as compared to 204,532 tons in the six months ended
6/30/96.
Cost of sales - The cost of coal sales includes the cost of raw material,
direct labor and benefits, depreciation, transportation and manufacturing
overhead.
MCCF's average unit cost of producing metallurgical coke increased 82% from
$31.41 in the six months ended 6/30/96 to $57.03 in the six months ended
6/30/97 due to additional work needed to gear up the coking furnace.
QCCF's average unit cost of producing steam coal increased moderately from
$11.53 in the six months ended 6/30/96 to $11.77 in the six months ended
6/30/97. The increase was attributed to increases in raw material, labor and
benefits, depreciation which was offset by a decrease in transportation cost.
Gross Profit - Gross Profit increased 63% from $1,054,000 in the six months
ended 6/30/96 to $1,714,000 in the six months ended 6/30/97. The increase
was primarily attributable to : (1) $362,000 subcontracting income received
by MCCF in the first quarter of 1997 and (2) QCCF's profit margin reached 40%
in the six months ended 6/30/97 when compared to 25% in the six months ended
6/30/96 due to stricter quality control and high customer satisfaction. The
increase was offset by a loss in profit margin generated by MCCF because its
production facility was gearing up to a normal production level.
Selling, general and administrative expenses - Selling, general and
administrative expenses increased 38% to $791,000 in the six months ended
6/30/97 from $571,000 in the six months ended 6/30/96. The increase of
$220,000 is attributable to (1) MCCF's expenses increased $49,000 as the
selling effort commenced in the second quarter of 1997, (2) the Company
incurred an additional $350,000 administrative and professional expenses
associated with increased reporting obligations of the Company and (3) salary
and benefits of QCCF increased by 13.6%, approximately $10,000, as
management provided incentives to employees. The increase was partially
offset by a proportional decrease in QCCF's selling expenses as a lesser
tonnage of steam coal was sold when compared to the previous year, and the
management of QCCF continues to exercise a tighter control over office and
administrative expenditures.
Interest expenses - Interest expenses increased 103% to $533,000 in the six
months ended 6/30/97 from $262,000 in the six months ended 6/30/96 for the
following reasons: (1) the Company incurred additional $350,000 interest
expenses on the $6,122,500 convertible notes and (2) QCCF's interest
expenses decreased by a $60,000 as they paid down $600,000 loan on March 31,
1997.
A local bank continued its one-time waiver of interest expenses owed by MCCF.
The amounts of forgiven interest were $75,000 in the six months ended 6/30/97
and $ 83,000 in the six months ended 6/30/96. Commencing October 1, 1995,
the Mishan City government agreed to share one-half of the interest owed by
MCCF on certain long-term interest bearing loans. The government's share of
interest expenses was $93,000 in the six months ended 6/30/97 and $99,000 in
the six months ended 6/30/96. This agreement expires on December 31, 1997.
Interest expense was $166,000 for the six months ended 6/30/97 and $234,000
for the six months ended 6/30/96 on the interest free loan from CCM's joint
venture partner at the rate of 16% per annum. Such interest was capitalized
as part of MCCF's coal mine use rights.
9
Income taxes - Substantially all of the Company's current profits accrue in
the PRC where the applicable tax rate is currently 33%. However, pursuant to
the PRC Income Tax Law, the Operating Company is exempt from income tax for
its first two profitable years. This two-year "tax-holiday" was to begin
with the first profitable year of the Operating Company, measured from its
formation on September 16, 1995. For the following three years, the
Operating Company will pay income tax at a rate of one-half of the then
current tax rate. There is no tax payable in the British Virgin Islands on
dividends paid to CCM and the Company by any of their subsidiaries or
factories. Therefore, there was no provision for income tax for the six
months ended 6/30/97 and 6/30/96.
Net Income - Net income increased by 41% from $179,000 in the six months
ended 6/30/96 to $252,000 in the six months ended 6/30/97. The increase was
attributable to (1) MCCF commenced the sales and production of metallurgical
coke in the second quarter of 1997 as the result of obtaining additional
working capital and (2) additional subcontracting fee was received by MCCF in
the first quarter of 1997 and a higher selling price was realized on the
steam coal resulting from better quality control in QCCF. The increase was
partially offset by (3) additional interest expenses for the convertible
notes and decreased sales of steam coal due to lack of transportation
capacity in the month of May and June in 1997.
Liquidity and Capital Resources
As a holding company, the Company's only sources of cash flow are dividends,
if any, paid by the Operating Company and retained net proceeds from its
Regulation S offerings of securities. The Company believes that such sources
of cash flow are sufficient to fund its operating expenses.
After the Company raised $6,122,500 of convertible notes in November 1996 and
January 1997, the Company has applied $2,014,000 out of the net proceeds of
$5,400,000 to MCCF primarily for its working capital needs. MCCF purchased
raw coal and applied in other working capital needs to ramp sales and
production during the period from April to November of 1997. Unfortunately,
due to poor credit management, MCCF was not able to collect its trade
receivables. This created a severe cash flow problem for MCCF at the end of
1997. As a result of the unwillingness of the local banks and raw coal
suppliers to provide credit, MCCF ceased operations in March of 1998 and its
coking facilities are no longer in operational mode due to lack of working
capital to maintain the minimum operational condition.
QCCF has generally satisfied its working capital requirements, capital
expenditures and scheduled debt repayments from its operating cash flows.
During the six months ended 6/30/98, QCCF repaid bank loans of $513,000 and
the outstanding balance of short term loans as of June 30, 1998 was
$2,988,000 and no long-term debt.
Both factories incurred, on an average, 13% on its short-term loans and 14%
on its long-term borrowings in 1997. During the first six months of 1998,
interest on certain local loans related to MCCF was not paid and became
overdue, and as a result, all of MCCF's local long-term bank loans in the
amount of $1,814,000 are currently in default. However, due to management's
plans to restructure the Company, the bank has not made collection efforts to
this date.
Capital Expenditures
The two factories spent $89,000 in the six months ended 6/30/98 to replace
the transportation equipment. The Company does not expect significant
capital expenditure in the second half of 1998.
10
Financing Activities
In November 1996, the Company raised net proceeds of approximately $4,500,000
through an offering of convertible notes and warrants in an exempt
transaction pursuant to Regulation S under the 1933 Act. Subsequently, in
January 1997, the Company raised net proceeds of approximately $900,000 in a
follow-on offering of convertible notes and warrants (on the same terms as
the November 1996 offering) in another exempt transaction pursuant to
Regulation S under the 1933 Act. The convertible notes and the warrants are
referred to hereinafter as the "Notes" and the "Warrants." The aggregate
principal amount of Notes issued in the November 1996 and January 1997
offerings was $6,122,500. Based on a conversion price of $3.50 per share of
Common Stock, the Notes were convertible at the time of issuance into an
aggregate of 1,749,293 shares of Common Stock. In connection with the
purchase of a Note, each purchaser was issued Warrants exercisable for the
same number of shares of Common Stock into which such purchaser's Note was
convertible. Including Warrants issued in payment of offering-related fees,
the Company issued Warrants exercisable for an aggregate of 1,894,150 shares
of Common Stock based on an exercise price of $3.50 per share of Common Stock
at the time of issuance. As of June 30, 1998, Notes in the aggregate
principal amount of $3,237,500 remained outstanding and Warrants to purchase
an aggregate of 1,894,150 shares of Common Stock remained outstanding (based
on the initial conversion price of $3.50 per share).
The Notes bear interest at 8% per annum and the outstanding principal amount
of the Notes and any accrued and unpaid interest thereon are payable on the
maturity date of November 14, 2001. The Warrants became exercisable to
purchase shares of Common Stock on May 14, 1997 and expire on November 14,
1999. The exercise price per share for the Warrants is the same as the
conversion price in effect at such time for the Notes. See "Item 12. Options
to Purchase Securities from Registrant or Subsidiaries."
The proceeds from the offerings are being used primarily as follows:
$2,014,000 for purchase of raw coal and working capital of MCCF, $648,000 for
bank loan repayment in QCCF, $1,268,000 for loan to the former owner of QCCF
government, and $337,000 for the representative office in Heilongjiang,
unauthorized withdrawal of $286,000 by the former Chairman, and $720,000 for
the Company's administrative and reporting expenses with the remaining of
$127,000 of cash on hand.
The Company needs to raise additional financing in order to continue its
operation beyond 1998 and there is no assurance that sufficient funds can be
raised.
Major Events
On August 24, 1998, Mr. Wang Gongquan resigned from the positions of the
Chairman of the Board and President of the Company, and Chairman of the
Board of the Operating Company to refocus his efforts on his investment
company. Total compensation paid to him during the six months ended June 30,
1998 was $25,000.
On September 29, 1998, Mr. C. T. Yeh was elected as the Acting Chariman,
President and Chief Executive Officer of the Company, as Chairman and
Director of the Board of Directors of China Coal Mining (B.V.I.) Co. Ltd. and
as Chairman and Director of the Board of Directors of Mishan Hua Xing Coke
Ltd. The employment shall have an initial term until December 31, 1999, on
which date and each yearly anniversary, the employment shall automatically
renew for an additional one year period, unless notify in writing. The
annual compensation for Mr. Yeh's appointment was $96,000 for 1998 and
$120,000 for 1999. In addition, Mr. Yeh was awarded 120,000 stock option of
the Company. Options shall be exercisable during five years from the date
of grant. Each option shall give the right to option-holder to purchase one
share of common stock of the Company at a price of $1.00. Options shall vest
over the entire employment period. Mr. Yeh, age 58, have more than 25 years
experience in mining and finance areas.
11
Due to the lack of working capital, MCCF ceased operations in March 1998.
Because of its inability to pay wages and suppliers, some employees and raw
coal suppliers took away coke products to satisfy the unpaid wages and raw
coal payments. The total inventory seized by the employees and suppliers
amounted to $158,000 and $ 415,000 respectively which have been accounted for
as a reduction in accrued payroll and accounts payable.
The Company is in the process of negotiating the terms and conditions of an
asset acquisition with Qitaihe local government. Once the terms are
finalized, management will pursue final approval from the Heilongjiang
provincial government.
The water levels of several rivers in the PRC, including the Yangtze and
Songhua rivers, have recently reached unusually high levels and have resulted
in severe flooding along these rivers. To date, the Company has not been
affected by any flooding. Given the geographic location of the Company's
coal factories in Heilongjiang Province, which is relatively further removed
from the immediate vicinity of these rivers compared to the areas currently
affected by the flooding, the Company does not believe that the flooding will
cause any physical damage to its coal mines or its operation facilities. The
Company also does not expect the flooding to have any material adverse
effects on its business.
As part of China's recent reform program, the PRC Ministry of Coal Industry
was dissolved, and the National Coal Industry Bureau was established in March
1998. Following such reorganisation, the National Coal Industry Bureau and
the State Economic and Trade Committee will be jointly responsible for the
planning, regulation and administration of the coal industry. The National
Coal Industry Bureau will no longer directly manage the enterprises under its
jurisdiction. The Company believes that the reorganisation will bring
greater operating autonomy to individual coal enterprises and allow them to
compete in a freer market.
12
<TABLE>
CHINA ENERGY RESOURCES CORPORATION
UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE SIX MONTHS ENDED JUNE 30, 1998, 1997 AND 1996
(Amounts in thousands except per share amounts)
<CAPTION>
Six months ended
June June June
30,1998 30,1997 30, 1996
<S> <C> <C> <C>
Net sales $ 3,686 $ 4,125 $ 4,245
Subcontracting income (note 1) - 362 -
_______ _______ _______
Total revenue 3,686 4,487 4,245
Cost of sales (2,311) (2,773) (3,191)
_______ _______ _______
Gross profit 1,375 1,714 1,054
Selling, general and administrative expense (1,092) (791) (571)
_______ _______ _______
Operating income 283 923 483
Interest expense (799) (533) (262)
Other income/(expenses) (46) 59 3
_______ _______ _______
(Loss)/income before minority interests (562) 449 224
Minority interest 27 (217) (45)
_______ _______ _______
Net (loss)/income (535) 232 179
Other comprehensive income
-foreign currency translation adjustments 15 20 -
_______ _______ _______
Comprehensive (loss)/income $ (520) $ 252 $ 179
_______ _______ _______
(Loss)/earnings per share - Basic and fully diluted$(0.16) $ 0.09
- Basic $ 0.13
_______ _______ _______
Weighted average number of shares outstanding
- Basic and fully diluted 3,248 2,734
- Basic 1,409
_______ _______ _______
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
13
<TABLE>
CHINA ENERGY RESOURCES CORPORATION
UNAUDITED CONSOLIDATED BALANCE SHEETS
JUNE 30, 1998, 1997 AND 1996
(Amounts in thousands except per share amounts)
June 30, June 30, June 30,
1998 1997 1996
<S> <C> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 229 $ 1,608 $ 444
Accounts receivable, net of allowance for doubtful
accounts of $1,578(1997:$211) 2,428 2,155 3,413
Inventories (note 6) 3,304 4,796 2,473
Prepayments, prepaid expenses, and other assets 2,198 1,163 1,640
Amount due from related party - 1,267 -
_______ _______ _______
Total current assets 8,159 10,989 7,970
Property, plant and equipment, net (note 7) 17,899 18,241 17,614
Value added taxes receivable (note 8) 89 - 219
Other assets 333 436 5
_______ _______ _______
Total assets $26,480 $29,666 $25,808
_______ _______ _______
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Short-term borrowings (note 9) $ 4,544 $ 2,491 $ 3,011
Current portion of long-term debt (note 10) 1,814 483 301
Accounts payable 943 769 1,570
Other payables 2,363 1,362 1,799
Plant construction payables 77 434 833
Amount due to PRC joint venture partner - 278 902
Accrued payroll and employee benefits 322 292 364
Accrued interest 2,205 1,862 1,618
Other accrued liabilities 377 181 249
_______ _______ _______
Total current liabilities 12,645 8,152 10,647
Long-term debt (note 10)
Related parties 2,611 2,083 3,092
Other - 966 1,503
Convertible notes (note 11) 2,447 2,254 -
Minority interests 1,715 2,599 2,154
Commitments and contingencies (note 13)
</TABLE>
14
<TABLE>
CHINA ENERGY RESOURCES CORPORATION
UNAUDITED CONSOLIDATED BALANCE SHEETS - continued
JUNE 30, 1998, 1997 AND 1996
(Amounts in thousands except per share amounts)
<CAPTION>
June 30, June 30, June 30,
1998 1997 1996
<S> <C> <C> <C>
Stockholders' equity:
Preferred share, $0.01 par value, 2,000,000 shares
authorized, no share issued and outstanding - - -
Common stock, $0.01 par value, 5,000,000 shares
authorized, 3,248,494 (1997: 3,248,494) shares
issued and outstanding 32 32 23
Additional paid-in capital 11,762 11,726 7,864
Retained earnings (2,510) 1,814 525
Accumulated balance of other comprehensive income
-foreign currency translation adjustments 50 40 -
Advances receivables from related parties (2,272) - -
_______ _______ _______
Total stockholders' equity 7,062 13,612 8,412
_______ _______ ________
Total liabilities and stockholders' equity $26,480 $29,666 $25,808
_______ _______ _______
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
15
<TABLE>
CHINA ENERGY RESOURCES CORPORATION
STATEMENTS OF STOCKHOLDERS' EQUITY
(Amounts in thousands)
<CAPTION>
Accumulated
balance of Advances Total
Additional other receivables stock-
Common stock paid-in Retained comprehensive from related holders'
Shares Amount capital earnings income parties equity
<S> <C> <C> <C> <C> <C> <C> <C>
Issue of shares on
establishment of
China Coal(note 1) 2,290 $ 23 $ 7,864 $ - $ - $ - $ 7,887
Net income - - - 346 - - 346
______ _______ _______ _______ ________ _______ _______
Balance at December
31, 1995 2,290 23 7,864 346 - - 8,233
Merger with Jackson
(note 1) 110 1 47 (2) - - 46
Amount created on
issuance of
convertible notes - - 2,619 - - - 2,619
Net income - - - 1,238 - - 1,238
Other comprehensive
income - - - - 20 - 20
_______ _______ _______ _______ _______ _______ _______
Balance at December
31, 1996 2,400 24 10,530 1,582 20 - 12,156
Issue of shares 848 8 1,232 - - - 1,240
Net loss - - (3,557) - - (3,557)
Other comprehensive
income - - - - 15 - 15
Advances to related
parties - - - - - (2,272) (2,272)
_______ _______ _______ _______ _______ _______ _______
Balance at December
31, 1997 3,248 32 11,762 (1,975) 35 (2,272) 7,582
Net loss - - - (535) - - (535)
Other comprehensive
income - - - - 15 - 15
_______ _______ _______ _______ _______ _______ _______
Balance at June
30, 1998 3,248 $ 32 $11,762 $(2,510) $ 50 $(2,272) $ 7,062
======= ======= ======= ====== ====== ====== ======
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
16
<TABLE>
CHINA ENERGY RESOURCES CORPORATION
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 1998, 1997 AND 1996
(Amounts in thousands)
<CAPTION>
Six months ended
June June June
30 1998 30,1997 30,1996
<S> <C> <C> <C>
Cash flow from operating activities:
Comprehensive(loss)/income $ (520) $ 252 $ 179
Adjustments to reconcile comprehensive (loss)/income
to net cash provided by/(used in) operating
activities:
Minority interest (27) 217 45
Depreciation 389 366 334
OID interest on convertible notes 100 - -
Exchange differences 5 5 -
Value added tax on opening debit balance utilized 51 - -
Changes in assets and liabilities:
Accounts receivable (82) (911) (698)
Inventories 832 (1,724) 494
Prepayments, prepaid expenses and other assets (583) (26) (596)
Amount due from related party - (1,267) -
Accounts payable (686) 51 (63)
Other payables (116) (468) 7
Plant construction payables - - 45
Amount due to PRC joint venture partner - - 99
Accrued payroll and employee benefits (152) (17) 62
Accrued interest 609 961 137
Other accrued liabilities 190 173 209
_______ _______ _______
Net cash provided by/(used in) operating activities 10 (2,388) 254
_______ _______ _______
Cash flow from investing activities:
Purchase of property, plant and equipment (89) (681) (191)
(Addition)/realization of other assets 54 (431) -
_______ _______ _______
Net cash used in investing activities (35) (1,112) (191)
_______ _______ _______
Cash flow from financing activities:
Increase in long-term debt from related parties - 25 117
Repayment of long-term debt from other - (359) -
(Repayment)/increase in short-term borrowings - net (513) (617) 43
Decrease in convertible notes - (93) -
Issuance of common stock - 1,204 -
_______ _______ ________
Net cash (used in)/provided by financing activities (513) 160 160
_______ _______ ________
Increase in cash and cash equivalents (538) (3,340) 223
Cash and cash equivalents at beginning of period 767 4,948 221
_______ ______ _______
Cash and cash equivalents at end of period $ 229 $1,608 $ 444
______ _______ _______
</TABLE>
17
<TABLE>
CHINA ENERGY RESOURCES CORPORATION
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS - continued
FOR THE SIX MONTHS ENDED JUNE 30, 1998, 1997 AND 1996
(Amounts in thousands)
<CAPTION>
Six months ended
June June June
30,1998 30,1997 30,1996
<S> <C> <C> <C>
Supplementary disclosures of cash flow information
Cash paid during the period for:
Interest $ 190 $ 296 $ 262
</TABLE>
See accompanying notes to unaudited consolidated financial statements
18
CHINA ENERGY RESOURCES CORPORATION
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands except per share amounts)
1. ORGANIZATION AND BASIS OF PRESENTATION
China Energy Resources Corporation (the "Company"), a private company
incorporated in the British Virgin Islands, was incorporated on March 15,
1996 for the purpose of holding a 100% interest in China Coal Mining (B.V.I.)
Co. Ltd. ("China Coal") and to enter into an agreement with Jackson Holding
Corp. ("Jackson"), a New York Corporation.
On March 15, 1996 the shareholders in China Coal exchanged their shares in
China Coal for shares in the Company. The exchange of shares has been
accounted for as a reorganization of entities under common control similar to
a pooling of interests. The accompanying financial statements include the
combined results and operations and financial position of the Company, China
Coal and its 80% held subsidiary for all periods presented.
On March 22, 1996, pursuant to an agreement and plan of merger between the
Company and Jackson, Jackson was merged into the Company and the Company
issued 109,850 shares of its common stock to the shareholders of Jackson for
the entire issued share capital of Jackson. Jackson had been established in
1994 for the sole purpose of acquiring or merging with an unspecified
business, and at the time of merger Jackson had no operating assets and had
not engaged in any business activities. The transaction has been accounted
for as a reverse acquisition.
China Coal, a private company incorporated in the British Virgin Islands, was
incorporated on August 18, 1995. Pursuant to a joint venture agreement dated
September 16, 1995 between China Coal and Mishan Coal Chemical Holding
Company ("the Factory"), China Coal acquired for cash of Renminbi 65,600
(approximately $7,886) an 80% interest in a new joint venture company, Mishan
Hua Xing Coke Limited ("MHXC"), incorporated in the People's Republic of
China ("PRC"), which has succeeded to the business of the Factory. In
conjunction with the agreement the former owner contributed land use rights
with a fair value of Renminbi 14,806 (approximately $1,780) and coal mine use
right with a contractual value of Renminbi 95,760 (approximately $11,312) to
MHXC. The former owner provided an interest free loan of Renminbi 65,760
(approximately $7,906) to MHXC to finance the acquisition of the coal mine
use right by MHXC. The coal mine use right and interest free loan are
recorded at estimated fair value determined based on the estimated net
present value of the interest free loan. The joint venture period is 30
years from the date of formation and may be extended by the unanimous
resolution of the board of directors, subject to the approval of the relevant
government authorities. The remaining 20% interest in MHXC is owned by the
former owner of the Factory. The acquisition has been accounted for as a
purchase and the results of the MHXC have been included in the consolidated
financial statements since October 1, 1995. The purchase price approximated
the estimated fair values of MHXC at the date of acquisition.
MHXC operates two production facilities in Heilongjiang Province, PRC; the
Mishan City Coke Factory ("MCCF") and the Qitaihe City Coal Factory ("QCCF").
During 1996 the operation of the MCCF plant was subcontracted to a company
under the control of the central government under an agreement where the
Company received a subcontracting fee of Renminbi 6,000 (approxiamtely $723)
and the other party was entitled to all the revenues from the operations of
the plant and was obligated to meet all the operating expenses of the plant.
MCCF terminated the subcontracting agreement on March 31, 1997 and resumed
the production and sales of metallurgical coke during the second quarter of
1997. In March 1998 MCCF temporarily ceased production (see note 3).
19
CHINA ENERGY RESOURCES CORPORATION
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Amounts in thousands)
2. BASIS OF PREPARATION
The financial statements were prepared in accordance with accounting
principles generally accepted in the United States of America ("U.S. GAAP").
This basis of accounting differs from that used in the statutory accounts of
MHXC, the Company's principal operating subsidiary, which were prepared in
accordance with the accounting principles and the relevant financial
regulations applicable to Sino-foreign equity joint venture enterprises as
established by the Ministry of Finance of China.
The principal adjustments made to conform the statutory accounts of MHXC to
U.S. GAAP included the following:
-Adjustment to record the coal mine use right and interest free loan at
estimated fair value.
-Adjustment to depreciation expense for property, plant and equipment to
reflect more accurately the economic useful life of the assets;
-Adjustment to recognize interest expense on the accruals basis.
-Adjustment to recognize sales and cost of sales upon shipment to customers.
The preparation of financial statements in conformity with US GAAP requires
management to make estimates and assumptions that affect the reported amounts
of assets and liabilities and the disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts
of revenues and expenses during the reporting period. Actual results could
differ from those estimates.
3. GOING CONCERN AND OTHER MATTERS
During 1997 the Company terminated the services of the MCCF plant manager,
however, prior to his termination this individual signed various documents
that provided collateral to bank lenders of MCCF over MCCF assets.
As a result of cash flow shortages, various problems with local management
and other operational issues, the facility at MCCF did not operate at full
capacity resulting in the closure of that facility in March, 1998. The
Company intends to reopen the facilities when the Company has raised
additional finance as the Company anticipates that operating the plant will
generate positive cash flows and, therefore, no provision for impairment is
required.
MHXC also owns the rights to use the coal mine, which at June 30, 1998 are
stated at $7,582, and which are located in Mishan and are planned to supply
coking coal for use in MCCF. The Company continued its efforts in preparing
the mine sites for mining operations and in October 1997 obtained a report
prepared by international mining and geological consultants on the coking
coal reserve base and associated coal quality. This report recommended that
the Company implement various programs to expand the demonstrated coal
reserve base and provide support for coal quality documentation. Due to
inadequate working capital the Company has been in contact with potential
strategic partners to assist in development. The Company needs to complete
additional work on the survey and mining plans before the mine is ready for
use. In the six months ended June 30, 1998, the Company capitalized interest
amounting to $193 in the coal mine use right. No provision for impairment
has been made as it is the Company's intention to develop the rights when
additional finance is available.
20
CHINA ENERGY RESOURCES CORPORATION
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Amounts in thousands)
The Company incurred a loss of $520 in the six months ended June 30, 1998 and
as of June 30, 1998, the Company had net current liabilities of $4,486, which
excludes any long-term debt that may become current in the event the company
is unable to continue as a going concern. These factors among others may
indicate that the Company will be unable to continue as a going concern for a
reasonable period of time.
The financial statements do not include any adjustments relating to the
recoverability of assets and classification of liabilities that might be
necessary should the Company be unable to continue as a going concern. The
Company's continuation as a going concern is dependent upon its ability to
generate sufficient cash flow to meet its obligations on a timely basis, to
obtain additional financing or refinancing as may be required, and ultimately
to attain profitability.
The Company is in discussion with potential investors to obtain equity
financing and with governmental agencies to assist in resolving the
management and operational issues relating to MCCF.
4. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of consolidation - The consolidated financial statements include
the assets, liabilities, revenues and expenses of the Company and its
subsidiaries. All material intra-group transactions have been eliminated.
Cash and cash equivalents - Cash and cash equivalents include cash on hand,
demand deposits and highly liquid instruments with a maturity of three months
or less at the time of purchase.
Inventories - Inventories are stated at the lower of cost, determined by the
average cost method, or market. Finished goods inventories consist of raw
materials, direct labor and overhead associated with the manufacturing
process.
Property, plant and equipment - Property, plant and equipment is stated at
cost. Depreciation is provided to write off the cost of property, plant and
equipment over their estimated useful lives in equal instalments as follows:
<TABLE>
<CAPTION>
<S> <C>
Land use rights 30-50 years
Buildings 8-45 years
Plant and machinery 5-20 years
Transportation vehicles 5-10 years
Railway 50 years
</TABLE>
Coal mine use right - Coal mine use right is stated at estimated fair value
at date of acquisition determined based on the estimated market value of the
interest free loan used to finance the acquisition of the asset plus the
costs of preparing the mine site for its intended mining operations.
Interest is capitalised on the coal mine use right during the period in which
activities are in progress necessary to get the mine ready for its
intended mining operations. In the six months ended June 30, 1998, June 30,
1997 and June 30, 1996, interest capitalised amounted to $193, $166 and $234
respectively. Amortization is provided to write off the value of coal mine
use right over the units extracted compared with estimated total units to be
extracted. The coal mine use right and the Company's other long-lived assets
are reviewed for impairment whenever events or changes in circumstances
indicate that the carrying amount of an asset may not be recoverable.
21
CHINA ENERGY RESOURCES CORPORATION
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Amounts in thousands)
Construction-in-progress represents plant and buildings under construction
and includes cost of construction, purchase of plant and machinery and
interest arising from borrowings used to finance these assets during the
period of construction or installation. No interest was capitalised during
the period. Construction-in-progress is not depreciated until amounts are
reclassified to property when available for use.
Net sales - Net sales represent the invoiced value of products, net of sales
taxes. Sales are recognized when products are shipped to customers.
Foreign currency translation - The consolidated financial statements of the
Company are presented in United States dollars. The Company's principal
operating subsidiary, MHXC, conducts substantially all its business in
Renminbi.
Foreign currency transactions of MHXC are translated into Renminbi at the
applicable rates of exchange quoted by the People's Bank of China (the
"PBOC"), prevailing at the date of the transactions. Monetary assets and
liabilities denominated in foreign currencies are translated into Renminbi
using the applicable PBOC rate prevailing at the relevant balance sheet date.
Substantially all the transactions of MHXC are denominated in Renminbi and
MHXC did not have any material monetary assets or liabilities denominated in
foreign currencies. On consolidation, the assets and liabilities of MHXC are
translated into United States dollars at the year end rates of exchange and
revenues and expenses are translated at average exchange rates prevailing
during the period. Translation adjustments are included as a separate
components of stockholders' equity.
Provisions for doubtful accounts - Provisions for doubtful accounts are
established based on management's assessment of the recoverability of
accounts receivable.
Repairs and maintenance - Repair and maintenance costs are charged against
income in the period in which they are incurred. The expense is allocated to
cost of sales and selling, general and administrative expenses.
Income taxes - Deferred income taxes are provided using the liability method.
Under the liability method, 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 asset or liability in the financial statements. During the period
there were no significant temporary differences.
(Loss) earnings per share - Fully diluted (loss) earnings per share is based
on the net (loss) income for the period and the weighted average number of
common stock outstanding during each period, plus, the dilutive effect, if
any, of certain shares subject to issue in connection with the conversion of
the outstanding convertible notes and warrants. Such convertible notes and
warrants had no dilutive effect on the loss per share for the six months
ended June 30, 1998 but may dilute future earnings per share.
5. INCOME TAXES
Income is subject to taxation in the various countries in which the Company
and its subsidiary operate. The Company is not taxed in the British Virgin
Islands where it is incorporated. The Company's operations are all in China.
22
CHINA ENERGY RESOURCES CORPORATION
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Amounts in thousands)
The Company's subsidiary, MHXC, which is incorporated in China, is subject to
Chinese income taxes at the applicable tax rate (currently 33%) on taxable
income based on income tax laws applicable to foreign enterprises. Pursuant
to the same income tax laws, the subsidiary is fully exempt from Chinese
income tax on its manufacturing operations for two years starting from the
first profit making year, and, accordingly, no income taxes were payable in
respect of 1996. The subsidiary also has a 50% exemption from Chinese income
tax for the subsequent three years. The exemptions applicable to these
subsidiaries will expire in 1999.
6. INVENTORIES
Most of the inventory consists of raw materials. The amount of work-in-
progress, finished goods and consumables are insignificant.
7. PROPERTY, PLANT AND EQUIPMENT
<TABLE>
<CAPTION>
June 30, June 30, June 30,
1998 1997 1996
<S> <C> <C> <C>
Coal mine use right $ 7,582 $ 7,249 $ 6,501
Land use rights 1,791 1,780 1,753
Buildings 6,437 6,378 6,584
Plant and machinery 2,216 2,123 2,064
Transportation vehicles 795 989 675
Railway 1,444 1,247 1,231
______ _______ _______
Total 20,265 19,766 18,808
Less: Accumulated depreciation (2,377) (2,132) (1,224)
Construction in progress 11 607 30
______ _______ _______
Total $17,899 $18,241 $17,614
______ _______ _______
</TABLE>
The coal mine use right is stated at estimated fair value at date of
acquisition determined based on the estimated market value of the interest
free loan used to finance the acquisition of the asset plus the costs of
preparing the mine site for its intended use. The contractual price of the
coal mine use right was $11,312.
Certain property is collaterized for bank borrowings (note 9).
8. VALUE ADDED TAXES RECEIVABLE
Value added tax ("VAT") is applicable to MHXC at a rate of 17% on the gross
sales amounts and credit given at the same rate for VAT paid on purchases.
The net VAT payable is accounted for to the tax authorities.
In accordance with notices issued by the government authorities, the Factory
can deem VAT, at the rate of 14%, to have been paid on the opening inventory
amount at January 1, 1995 (the date VAT was introduced) and applied against
future VAT payable based on criteria to be agreed with the local authorities.
This amount has been established as a receivable. The Company believes that
the amount will be recoverable against future VAT payable subject to approval
as to timing by the tax authorities.
23
CHINA ENERGY RESOURCES CORPORATION
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Amounts in thousands)
9.SHORT-TERM BORROWINGS
Short-term borrowings represent unsecured short-term loans provided by banks
and other lenders to the Company's PRC subsidiary.
<TABLE>
<CAPTION>
June 30,
1998 1997 1996
<S> <C> <C> <C>
Short-term borrowings at the end of period $4,544 $2,491 $3,011
Weighted average interest rate on borrowings at end
of period 13% 17% 17%
</TABLE>
Interest rates are determined periodically by the banks and other lenders in
consultation with the Company's subsidiary and are normally subject to annual
review. There are no formal short-term credit facilities with the banks and
short-term borrowings are negotiated on a loan-by-loan basis.
At June 30, 1998, short-term borrowings of $2,901 and long-term bank loans of
$1,814 were secured over property, plant and equipment with a net book value
of approximately $8,734.
10.LONG-TERM DEBT
<TABLE>
<CAPTION>
June 30,
1998 1997 1996
<S> <C> <C> <C>
Long-term debt, which is unsecured, consists of:
Bank loans at fixed interest rates
(14.04% at June 30, 1998)
Due in 1996 $ - $ - $ 301
Due in 1997 - 483 541
Due in 1998 1,088 241 240
Due in 1999 242 241 240
Due in 2000 242 242 241
After 2000 242 242 241
______ ______ ______
1,814 1,449 1,804
______ ______ ______
Interest free loan from PRC joint venture partner
Due in 2000 - - 1,581
Due in 2001 - - 1,581
Due in 2002 1,337 1,334 1,581
Due in 2003 1,337 1,334 1,581
Due in 2004 1,337 1,334 1,582
Due in 2005 1,336 1,335 -
Due in 2006 1,336 1,335 -
______ ______ _____
6,683 6,672 7,906
Less: notional interest 4,072 4,589 4,814
______ _______ _______
2,611 2,083 3,092
______ _______ _______
Total 4,425 3,532 4,896
Current portion of long-term debt 1,814 483 301
______ _______ _______
Long-term debt, less current portion $ 2,611 $3,049 $4,595
______ _______ _______
</TABLE>
24
CHINA ENERGY RESOURCES CORPORATION
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Amounts in thousands)
All long-term bank loans are authorized by the provincial or local
governments and are administered by the banks.
The interest free loan from the PRC joint venture partner was raised to
partially finance the acquisition of the coal mine use right. At the date
the loan was obtained it was to be repaid by five equal instalments with each
instalment limited to 40% of the income after tax of the relevant year. In
1996 the Company made repayments ahead of the original planned payment
schedule and the scheduled repayments of the remaining balance of the loan
were rateably amended. In addition, the scheduled repayments were postponed
by an agreement dated May 11, 1997 for an additional two years. The loan is
stated in the financial statements at the estimated present value calculated
based on the annual discount rate of 16%, being the estimated annual interest
rate for fixed asset lending in the PRC. This estimate of the market value
of the loan is subject to a high degree of uncertainty because there is no
market for the loan, the loan is not transferrable and the repayment terms
are contingent on future operations of the Company.
With effect from October 1, 1995 the government of Mishan City agreed to
share 50 percent of the interest paid by MCCF on the long-term interest -
bearing loans and certain short-term borrowings. The agreement expires in
December 31, 1997. The interest shared by the local government amounted to
$93 and $99 in the six months ended June 30, 1997 and June 30, 1996
respectively, and none in the six months ended June 30, 1998.
During the first six months of 1998, interest on certain local loans related
to MCCF was not paid and became overdue, and as a result, all of MCCF's local
long-term bank loans in the amount of $1,814 are currently in default and
have been classified as current liabilities. However, due to management's
plans to restructure the Company, the bank has not made collection efforts to
this date. QCCF does not incur any long-term debt.
11. CONVERTIBLE NOTES
At June 30, 1998 the Company had outstanding convertible notes with
detachable warrant hereof amounting to $2,447 which were issued in 1996 and
1997. These notes carry interest at 8 percent per annum and the principal
amount and the accrued interest thereon are payable in 2001.
The holders have the right prior to the payment in full of all principal of
and interest on the notes, to convert any outstanding and unpaid principal
portion of the notes and accrued interest into fully paid and nonassessable
shares of common stock, $0.01 par value per share, of the Company, as such
shares exist on the date of issuance of the notes, or any shares of capital
stock of the Company into which such shares have been changed or reclassified
(the "common stock") at the conversion price as defined in the note. In the
event the holders do not convert the entire principal amount of the notes and
all accrued and unpaid interest earned thereon before the maturity date, then
on that date the Company has the option of compelling the conversion of the
notes or paying to the holders the remaining unpaid principal amount of the
notes and interest thereon.
The conversion price is subject to a floor price and a ceiling price (as
defined in the note agreement) and is equal to 60% of the average closing bid
and ask price for the common stock on any securities exchange or other
securities market on which the common stock is then being traded, for the ten
trading days immediately preceding the conversion date; provided, however,
that in the event of a public offering or private placement of securities of
the Company, resulting in gross proceeds of at least $10,000, consummated
within 18 months of the date of the notes, the floor price shall be adjusted
to equal 60 percent of the offering price per share in such an offering; and
provided, further, that the floor price, as adjusted, (i) shall never be
lower than $3.50 per share (the "floor price") and (ii) shall never exceed
$8.50 per share (the "ceiling price"). At any time prior to the date on
which the common stock is traded on the American Stock Exchange or other U.S.
25
CHINA ENERGY RESOURCES CORPORATION
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Amounts in thousands)
securities exchange or market, the conversion price for the common stock
shall equal $3.50 per share.
The conversion price and number and kind of shares or other securities to be
issued upon conversion is subject to adjustment from time to time upon the
happening of certain events specified in the note agreement while this
conversion right remains outstanding.
The principal amount outstanding on the notes, and all interest accrued and
payable thereon, may be prepaid by the Company, in whole but not in part, on
or after November 15, 1997; provided that the average closing bid price of
the common stock has remained at or above $17.00 per share for thirty
consecutive business days; and provided, further, that written notice of
prepayment is delivered to the holder not more than sixty days nor less than
thirty days prior to the applicable prepayment date. The holder has the
right to exercise any conversion rights it may have hereunder until such time
as any prepayment is made.
Within ten business days after a holder receives notice from the Company that
a qualifying offering has been consummated, the holder may demand in writing
that the principal amount outstanding on the note, and all interest accrued
thereon, be prepaid by the Company, in whole or in part, but any partial
demand shall be in increments of $25. The borrower shall repay the principal
amount outstanding on the note, and all interest accrued on payable thereon,
within 15 days after receipt of such a notice from the holder.
In 1997, the Company issued convertible notes with a face value of $1,000 and
holders converted principal and accrued interest of $2,900 into the Company's
common stock resulting in the issue of 848 shares.
The holder of the warrant detached to the convertible notes is entitled to
purchase from the Company at any time on or after May 14, 1997 or from time
to time before 5:00 p.m. on November 14, 1999 fully paid and nonassessable
shares of common stock, $0.1 par value per share, of the Company, as adjusted
in the event that the following computation results in a greater number of
shares: the quotient obtained by dividing the principal amount of the loan
from the holder to the Company pursuant to a note from the Company to the
holder by the purchase price. The purchase price shall be subject to a floor
price and a ceiling price and shall equal 60% of the average closing bid and
ask price for the common stock on any securities exchange or other securities
market on which the common stock is then being traded, for the ten trading
days immediately preceding the date of exercise; provided, however, that in
the event of a qualifying offering, the floor price shall be adjusted to
equal 60% of the offering price per share in such qualifying offering; and
provided, further, that the floor price, as adjusted, (i) shall never be
lower than $3.50 per share and (ii) shall never exceed $8.50 per share.
12. RELATED PARTY TRANSACTIONS
In 1997 advances totalling $1,768 were made under the authority of the former
Chairman of the Company to the former owner of QCCF which were intended to
establish relationships for potential future business opportunities. As the
terms of the repayment of the advances were unclear, with the death of the
former Chairman current management believes that its ability to realize the
advances has been severely impaired and, accordingly, the amounts have been
written off in 1997. The interim financial statements as of June 30, 1997
has not been restated to reflect the write off at the 1997 year end.
In 1997 the Company advanced $2,272 to the bank of the former owner of QCCF
to settle loans and interest owed by the former owner of QCCF to the bank.
The receivable at December 31, 1997 of $2,272 is repayable on demand and is
interest free.
26
CHINA ENERGY RESOURCES CORPORATION
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Amounts in thousands except per share amounts)
In 1997 the former Chairman of the Company withdrew amounts totalling $286
from MHXC without the authority of the Company. The Chairman died in October
1997 and the Company has been seeking to recover these amounts from his
estate and family. The Company has recorded and expenses of $184 in other
income/(expense) representing the amounts not yet recovered in 1997. The
interim financial statements as of June 30, 1997 has not been restated to
reflect the write off at the 1997 year end.
Substantially all of the sales, purchases, raw materials and purchases of
ancillary items the Company's PRC subsidiary are with state-owned enterprises.
Even though such state-owned enterprises may be regarded as having the same
beneficial owner of the PRC joint venture partner of the Company's subsidiary,
the PRC central government, such state-owned enterprises are frequently under
separate control and do not possess any management, ownership or other interest
in each other. As a result, the Company does not view transactions with such
state-owned enterprises as constituting related party transactions.
13. COMMITMENTS AND CONTINGENCIES
At June 30, 1998, the Company and its subsidiaries had no contracted capital
expenditure.
The Company and its PRC subsidiary do not currently maintain any insurance
coverage on the property, plant and equipment owned by the subsidiary. In
addition, the Company and the subsidiary do not currently carry any business
interruption insurance or any third party liability insurance to cover claims
in respect of bodily injury, property or environmental damages arising from
accidents on the subsidiary's property or relating to its operations.
14. FOREIGN CURRENCY EXCHANGE
The PRC government imposes control over its foreign currency reserves in part
through direct regulation of the conversion of Renminbi into foreign exchange
and through restrictions on foreign trade. The conversion of Renminbi into US
dollars and other foreign currencies is based on the rate set by the People's
Bank of China, which is set based on the previous day's PRC interbank foreign
exchange market rate and with reference to current exchange rates on the
world financial markets. The exchange rate at June 30, 1998 was US$1 =
Rmb8.2674.
Foreign investment enterprises may generally remit out of the PRC profits or
dividends derived from a source within the PRC, subject to the availability
of foreign currency. Except for such profits or dividends, remittance out of
the PRC by foreign investors of any other amount (including proceeds from a
disposition of an investment in the PRC) is subject to the approval of State
Administration of Exchange Control and to the availability of foreign
currency (at the central government or provincial level). In addition, if
there is a deterioration in the PRC's balance of payments or for other
reasons, the PRC may impose restrictions on foreign currency remittances
abroad. No assurance can be given that the Company's PRC subsidiary will be
able or permitted to remit out of the PRC amounts due to the Company.
15. CONCENTRATION OF CREDIT RISK
The subsidiary's trade receivables in respect of sales on credit terms are
subject to a concentration of credit risk with customers in the industrial
sectors of steel making, metallurgy, electricity and other heavy industries.
In addition, the PRC subsidiary has no formal credit terms and its sales are
predominantly to PRC companies. Therefore, the subsidiary's ability to
collect its trade receivables is related to the economic conditions in these
industrial sectors and in the PRC as a whole.
27
CHINA ENERGY RESOURCES CORPORATION
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Amounts in thousands except per share amounts)
16. FINANCIAL INSTRUMENTS
The carrying values of financial instruments, including cash and cash
equivalents and short-term borrowings, were equal to their approximate fair
value as of June 30, 1998 because of the relatively short maturities of these
investments. At June 30, 1998 the fair value of bank loans and interest free
loan from PRC joint venture partner were approximately $1,814 and $2,611
respectively, estimated based on the discount rate the seller would pay to a
credit-worthy third party to assume its obligation.
17. EMPLOYEE RETIREMENT BENEFITS
All the subsidiary's full-time employees are entitled to a retirement pension
calculated with reference to their basic salaries on retirement and their
length of service in accordance with a government managed pension plan. The
PRC government is responsible for the pension obligations of retired staff.
The PRC subsidiary is required to make contributions to the state retirement
plan at 17-25% of the monthly salaries of the current full-time employees
subject to local authorities' discretion. Employees are required to make
contributions at 2%-3% of their basic salary. Contract and part-time
employees are not entitled to such benefits. The expense of such
arrangements to the subsidiary was immaterial for the period. The Company
and its subsidiaries are not obligated under any other post-retirement plans
and post-employment benefits are not material.
18. SEGMENT INFORMATION AND CONCENTRATION OF CREDIT RISK AND MAJOR
CUSTOMERS
The Company through its PRC subsidiary is engaged in one industry segment,
the manufacture and sale of coal products in the PRC where the PRC subsidiary's
operations are located. One customer, Mudanjiang No. 2 Power Plant of
Heilongjiang Province, PRC, accounted for 74%, 77% and 74% of net sales for
the six months ended June 30, 1998, June 30, 1997 and June 30, 1996
respectively. No customer accounted for more than 10% of trade accounts
receivable as of June 30, 1998.
28
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorised.
China Energy Resources Corporation
By: /s/C. T. Yeh
Acting Chairman of the Board and President
Dated: September 29, 1998
29
