Zungui Haixi Corporation (TSX VENTURE:ZUN), a China-based manufacturer of
sportswear and casual footwear, today announced its financial results for the
three and nine months ended March 31, 2010. All amounts in this release are in
Canadian dollars unless otherwise indicated.
"We are pleased to report our third quarter results showing consistent revenue
growth," indicated Mr. Jixu Cai, Chief Executive Officer of Zungui. "During the
quarter we laid the foundation for our growth strategy and opened 18 new
corporate-owned stores in April, 2010 and held a successful sportswear sales
fair with a 38% increase in orders. Our revenue and net income grew 28% and 21%
in RMB, respectively, in the quarter."
Highlights for the Third Quarter and Year-To-Date:
-- Revenue increased 7% to $33.3 million for the quarter and 20% to $113.3
million for the year-to-date;
-- In RMB, revenue increased 28% to RMB 218.7 million for the quarter and
30% to RMB 725.5 million for the nine months ended March 31, 2010;
-- Gross margin of 26.7% for the third quarter and 26.6% for the nine
months ended March 31, 2010 compared to 27.2% and 26.9% for the
comparative periods of 2009, respectively;
-- Net income increased 1% to $5.2 million for the quarter and 19% to $18.4
million for the nine months ended March 31, 2010;
-- Net income increased 21% to RMB 34.1 million for the quarter and 29% to
RMB 117.6 million for the nine months ended March 31, 2010;
-- Diluted earnings per share of 8 cents compared to 10 cents for the same
quarter last year based on a 24% increase in the weighted average number
of shares outstanding in the period; and,
-- Diluted earnings per share increased 7% to 33 cents for the nine months
compared to 31 cents for the same period of 2009 on a 11% increase in
the weighted average number of shares outstanding in the period.
The results were impacted by the movement of the Chinese currency relative to
the Canadian dollar. During the third quarter ended March 31, 2010 the average
foreign exchange rate used to convert one Chinese Renminbi ("RMB") was 0.1524
expressed in Canadian dollars compared to 0.1821 for the same quarter of 2009.
If the 2010 third quarter results were converted at the prior year's average
exchange rate for the quarter, 2010 third quarter earnings per share would have
been 10 cents. For the nine months ended March 31, 2010, the average foreign
exchange rate used to convert one RMB was 0.1558 expressed in Canadian dollars
compared to 0.1695 for the same period last year. If the 2010 nine month results
were converted at the prior year's average exchange rate for 2009, 2010 nine
month earnings per share would have been 36 cents, resulting in a 16% increase
in earnings per share.
Conference Call
Zungui will host a conference call to discuss the third quarter results at 9am
(EST) May 27, 2010. The details are as follows:
Dial-in number: 1-888-789-9572
Participant passcode: 1730361
Taped rebroadcast (until midnight on June 10, 2010): 1-800-408-3053
Taped replay access passcode: 1146631.
About Zungui Haixi
Zungui Haixi Corporation, through its wholly owned subsidiaries, is engaged in
the manufacture and sale of athletic footwear, apparel and accessories, and also
casual footwear, in the People's Republic of China. Both product lines are
marketed under the ZUNGUI brand. Zungui Haixi distributes its products to
consumers throughout China through an extensive network of retail outlets which
exclusively carry ZUNGUI branded products. There are 62,259,500 common shares
issued and outstanding.
Caution Regarding Forward-Looking Statements
Certain statements in this press release contain forward-looking information
that involve risk and uncertainties. Statements other than statements of
historical fact contained in this press release may be forward-looking
statements within the meaning of certain securities laws, including, without
limitation, statements involving management's expectations, intentions and
beliefs concerning the domestic PRC sportswear industry, the competitive
landscape in this industry and the general economy, statements regarding the
future financial position or results of the Company, business strategies,
proposed acquisitions, growth opportunities, budgets, litigation, projected
costs and plans and objectives of or involving the Company. Such statements
should be considered forward-looking statements, Wherever possible, words such
as "may", "would", "could", "will", "anticipate", "believe", "plan", "expect",
"intend", "estimate", "aim", "endeavour", "project", "continue" and similar
expressions have been used to identify forward-looking statements.
These forward-looking statements reflect management's current beliefs and
business judgement with respect to future events and are based on information
currently available to management. Forward-looking statements involve
significant known and unknown risks, uncertainties and assumptions, and you
should not place undue reliance on these forward-looking statements. Although
management believes its current beliefs and assumptions are reasonable, many
factors could cause Zungui's actual results, performance or achievements to be
materially different from any future results, performance or achievements that
may be expressed or implied by such forward-looking statements, including,
without limitation, those listed in the "Risk Factors" section of the Company's
other filings with Canadian securities regulatory authorities at www.sedar.com.
Should one or more of these risks or uncertainties materialize, or should
assumptions underlying the forward-looking statements prove incorrect, actual
results, performance or achievements could vary materially from those expressed
or implied by the forward-looking statements contained in this press release.
The forward-looking statements contained in this press release are expressly
qualified in their entirety by this cautionary statement. These forward-looking
statements are made as of and speak as of the date of this press release and the
Company does not intend to, or assume any obligation to, update or revise these
forward-looking statements to reflect new information, events, results or
circumstances or otherwise after the date on which such statement is made as to
reflect the occurrence of unanticipated events, except as required by law,
including securities laws.
Zungui Haixi Corporation
Management's Discussion and Analysis of Financial Condition and Results of
Operations
For the three and nine months ended March 31, 2010
All amounts in Canadian dollars unless otherwise stated
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION
The following management's discussion and analysis of financial condition and
results of operation (the "MD&A") of Zungui Haixi Corporation ("Zungui" or
"Company") is prepared for the three and nine months ended March 31, 2010 and
2009. Zungui became the parent company of Southern Trends International Holding
Company Limited ("Southern"), through a share exchange agreement completed in
conjunction with the completion of the Company's initial public offering on
December 21, 2009. All figures presented for periods prior to December 21, 2009
refer to Southern financial statements. The MD&A should be read in conjunction
with the audited consolidated financial statements of Southern for the period
ending June 30, 2009 and related notes contained in the final long form
prospectus filed on December 11, 2009 on SEDAR at www.sedar.com. The
consolidated financial statements were prepared in accordance with Canadian
generally accepted accounting principles ("GAAP") and are presented in thousands
of Canadian dollars unless otherwise noted.
Disclosure contained in this MD&A is current to May 26, 2010 the date of
approval of the MD&A and financial statements by the Board of Directors.
Certain statements in this MD&A contain forward-looking information that involve
risk and uncertainties. Statements other than statements of historical fact
contained in this MD&A may be forward-looking statements within the meaning of
certain securities laws, including, without limitation, statements involving
management's expectations, intentions and beliefs concerning the domestic PRC
sportswear industry, the competitive landscape in this industry and the general
economy, statements regarding the future financial position or results of the
Company, business strategies, proposed acquisitions, growth opportunities,
budgets, litigation, projected costs and plans and objectives of or involving
the Company. Such statements should be considered forward-looking statements,
Wherever possible, words such as "may", "would", "could", "will", "anticipate",
"believe", "plan", "expect", "intend", "estimate", "aim", "endeavour",
"project", "continue" and similar expressions have been used to identify
forward-looking statements.
These forward-looking statements reflect management's current beliefs and
business judgement with respect to future events and are based on information
currently available to management. Forward-looking statements involve
significant known and unknown risks, uncertainties and assumptions, and you
should not place undue reliance on these forward-looking statements. Although
management believes its current beliefs and assumptions are reasonable, many
factors could cause Zungui's actual results, performance or achievements to be
materially different from any future results, performance or achievements that
may be expressed or implied by such forward-looking statements, including,
without limitation, risks related to: failure to maintain or promote the ZUNGUI
brand; dependency on distributors and retailers for product sales and brand
promotion; difficulty in continuing to grow Zungui's distribution network;
failure to effectively integrate additional corporate-owned and managed retail
outlets; strong competition; the loss, or decrease in, sales to Zungui's major
distributors; dependency on certain of its key executives, design, technical and
other personnel; failure to successfully implement plans to expand production
capacity and improve production efficiency; failure to execute growth strategy;
reliance on subcontractors; fluctuations in the price, availability and quality
of raw materials; exposure to credit risks of distributors; selling prices;
failure to accurately track inventory levels or sales figures; failure to
optimize and adjust product mix; failure to anticipate and respond in a timely
manner to fashion trends and changes in consumer tastes in the PRC; liability
for unpaid contributions to the social security insurance program; increases in
labour costs and labour disputes; protection of trademarks and other proprietary
rights; damage to administrative or production facilities, fire or other
calamities; proof of title; exposure to environmental liability; exposure to
product liability, property damage or personal injury claims; closure of retail
outlets; failure to obtain additional financing; risks associated with state
ownership; exposure to fluctuations in the economic conditions in the PRC;
fluctuations in foreign exchange rates; changes in Zungui's tax treatment;
limitations in the ability to repatriate profits or convert currency; limited
shareholders' rights in China; risks relating to a developing legal system;
intellectual property rights protection and enforcement; requirements for
permits and business licenses; risks relating to the appropriation of land used
in Zungui's operations;
natural disasters; reliance on third-party sources and industry publications;
volatile market price; return on an investment in common shares; risks relating
to holding companies; limited recourse against certain securityholders;
compliance with financial reporting and other requirements as a public company;
language barriers between certain directors and officers of the Company;
influence by the principal securityholder; future sales of common shares;
conflicts of interest and dilution of common shares. See the "Risk Factors"
section of the Company's other filings with Canadian securities regulatory
authorities at www.sedar.com. Should one or more of these risks or uncertainties
materialize, or should assumptions underlying the forward-looking statements
prove incorrect, actual results, performance or achievements could vary
materially from those expressed or implied by the forward-looking statements
contained in this MD&A. The forward-looking statements contained in this MD&A
are expressly qualified in their entirety by this cautionary statement. These
forward-looking statements are made as of and speak as of the date of this MD&A
and the Company does not intend to, or assume any obligation to, update or
revise these forward-looking statements to reflect new information, events,
results or circumstances or otherwise after the date on which such statement is
made as to reflect the occurrence of unanticipated events, except as required by
law, including securities laws.
Overview
Zungui is principally engaged in the manufacture and sale of athletic footwear,
apparel and accessories ("Sportswear Product Line") and casual leather footwear
("Casual Product Line"). Both product lines are marketed in the PRC under the
well-recognized ZUNGUI brand. Zungui distributes its products to consumers
throughout the PRC through three corporate-owned retail outlets and through 47
distributors, who in turn sell products via an extensive network of 1,731 retail
outlets as of March 31, 2010, 1,410 of which offer the Sportswear Product Line
and 321 of which offer the Casual Product Line. All retail outlets exclusively
sell products which carry the ZUNGUI brand.
During the three and nine months ended March 31, 2010, the expansion of the
retail outlets continued and the Company focused on revenue growth and increased
profitability. It provided services and training to distributors to help meet
customer needs and increase their sales. For the three and nine months ended
March 31, 2010, revenue grew 7% and 20% to $33.3 million and $113.3 million in
Canadian dollars, respectively, compared to the same periods in the prior year.
Revenue grew 28% and 30% in Renminbi ("RMB") to RMB 218.7 million and RMB 725.5
million, respectively, compared to the same periods last year with the
difference attributable to the Chinese currency fluctuations relative to the
Canadian dollar reporting currency in 2009 and 2010.
Statement of Operations
The following table sets forth selected financial information for the periods
indicated. The selected financial information has been derived from the
Company's unaudited interim consolidated financial statements for the three and
nine month periods ended March 31, 2010.
For the three months For the nine months ended
Earnings Data ended March 31 March 31
----------------------------------- ----------- --------------------------
2010 2009 2010 2009
------------ ----------- ------------ ------------
Revenue $ 33,342 $ 31,104 $ 113,332 $ 94,381
Cost of sales 24,442 22,656 83,186 69,007
---------- ---------- ---------- ----------
Gross profit 8,900 8,448 30,146 25,374
Selling expenses 459 750 1,563 2,509
General and
administrative
expenses 1,243 757 2,934 1,712
Other expense (income),
net 15 (16) (16) (33)
Income taxes 1,989 1,813 7,264 5,736
---------- ---------- ---------- ----------
Net income $ 5,194 $ 5,144 $ 18,401 $ 15,450
Earnings per share -
basic and diluted $ 0.08 $ 0.10 $ 0.33 $ 0.31
Balance Sheet Data As at March 31, 2010 As at June 30, 2009
------------------ ---------------------------------------------
Cash $ 68,250 $ 23,757
Inventories 4,807 2,984
Property, plant and equipment 4,639 5,331
Total assets 103,124 56,079
Working capital 78,416 29,844
Retained earnings 50,422 32,021
Total shareholders' equity 83,055 35,175
Factors Affecting Results of Operations
Foreign Currency
All of the Company's revenues and expenses, other than the Canadian head office
expenses, are generated in the People's Republic of China (PRC). Accordingly,
the results of operations are impacted by the fluctuation of the Renminbi
("RMB") against the Canadian dollar when converted for financial reporting
purposes. The weighted average exchange rate for one RMB, expressed in Canadian
dollars, for the three months ended March 31, 2010 and 2009 was 0.1524 and
0.1821 and for the nine months ended March 31, 2010 and 2009 was 0.1558 and
0.1695. The movement of the Chinese currency relative to the Canadian dollar in
the three and nine months ended March 31, 2010 resulted in the statement of
operations in Canadian currency being 16% and 8% less than would have been
reported if the Company had used the average exchange rate for the same periods
of 2009, respectively.
Financial Highlights in RMB
The following table sets forth selected financial information for the Company
for the periods indicated in RMB which is the Company's functional currency for
its wholly owned subsidiary in China. The Canadian head office's functional
currency is Canadian dollars. The Company uses Canadian dollars as its reporting
currency. This information has been derived from the Company's records
supporting the unaudited interim consolidated financial statements for the three
months and nine months ended March 31, 2010 and 2009, immediately prior to their
conversion to Canadian dollars.
For the three months ended For the nine months ended
In RMB March 31 March 31
---------------- -------------- --------------- ------------
2010 2009 2010 2009
---------------- -------------- --------------- ------------
Revenue RMB 218,725 RMB 170,783 RMB 725,541 RMB 558,982
Cost of sales 160,339 124,397 532,612 408,838
---------------- -------------- --------------- ------------
Gross profit 58,386 46,386 192,929 150,144
Net income 34,063 28,237 117,616 91,048
Weighted average
exchange rate
for one RMB,
expressed in
Canadian
dollars 0.1524 0.1821 0.1558 0.1695
Revenues
The Company's revenues consist of sales from footwear, apparel and accessories
sold within the PRC. The Company provides sales rebates and advertising
contributions to its distributors that are deducted from its gross revenue to
derive its net revenue.
Cost of Sales
The Company's cost of sales consists of internal and external production costs.
Internal production costs include raw materials, labour and manufacturing costs.
Outsourced production costs refer to the cost of procuring finished footwear,
apparel and accessories, which represents amounts paid to subcontracted
manufacturers in the PRC.
Seasonality
The results of the Company are generally not subject to seasonality.
Selling and general and administrative expenses
The Company's selling and general and administrative expenses consist of
advertising expenses, research and development expenses and salaries for
administrative staff and management.
Outlook
The PRC domestic footwear market remains a high growth industry consistent with
the growth of the PRC's economy. Zungui's focus is on the domestic market and
the Company allocates its resources and efforts to meet the demands of China's
growing local markets. Zungui is currently working to increase its presence in
Tier 2 and 3 Cities, with populations ranging up to 5 million people, throughout
the PRC, where both population and disposable income are growing. This increased
presence will be achieved by opening additional corporate-owned and managed
retail outlets and by assisting distributors in expanding their retail presence.
Corporate-owned and managed retail outlets typically offer higher margins than
sales through distributors as well as greater operating flexibility. By
increasing the number of corporate-owned and managed retail outlets, Zungui
believes it can focus its growth strategy in certain regions while complementing
its current distribution network. The Company expects to add 100 corporate-owned
and managed retail outlets, during the period April to December, 2010 and 250
retail outlets from distributors in calendar 2010.
Results of Operations Three and Nine Months Ended March 31, 2010 compared to
March 31, 2009
(Amounts in thousands of dollars, unless specified otherwise)
Revenue
The Company's revenues consist of sales from footwear, apparel and accessories
sold domestically within the PRC. The Company derives its revenue from two
distribution channels: wholesale and corporate-owned and managed retail outlets.
The number of retail outlets increased 8% to 1,731 during the nine months ended
March 31, 2010. During the three months ended March 31, 2010, 15 net new retail
outlets were opened by distributors compared to 14 net new retail outlets during
the same period last year. The Company currently has three corporate-owned and
managed retail outlets with the balance being leased or owned by distributors or
third-party retailers. No additional corporate-owned and managed retail outlets
were opened during the nine months ended March 31, 2010.
Revenue by Product Line
For the three months For the nine months
ended March 31 ended March 31
----------------------------------------------------------------
% of % of % of % of
2010 Total 2009 Total 2010 Total 2009 Total
--------- ------ -------- ------ -------- ------ -------- ------
Footwear $ 27,897 83.7 $ 25,889 83.2 $ 96,138 84.8 $ 78,819 83.5
Apparel and
accessories 5,445 16.3 5,215 16.8 17,194 15.2 15,562 16.5
--------- ------ -------- ------ -------- ------ -------- ------
Total $ 33,342 100.0 $ 31,104 100.0 $113,332 100.0 $ 94,381 100.0
--------- ------ -------- ------ -------- ------ -------- ------
--------- ------ -------- ------ -------- ------ -------- ------
Total revenue increased 7% to $33.3 million for the three months ended March 31,
2010 compared to $31.1 million for the same period last year. In RMB, revenue
increased 28% to RMB 218.7 million for the three month period ended March 31,
2010 compared to RMB 170.8 million for the same quarter last year. The
strengthening of the Canadian dollar during the quarter relative to the RMB
reduced the percentage increase in revenue by 21% when reported in Canadian
dollars. Footwear revenue increased 8% to $27.9 million for the three months
ended March 31, 2010 compared to the same period last year, and was comprised of
$24.0 million in revenue from athletic footwear and $3.9 million from casual
footwear. The growth in revenue was the result of increased number of retail
outlets, demand for the Company's products and price increases implemented late
in the quarter.
Total revenue increased 20% to $113.3 million for the nine months ended March
31, 2010 compared to $94.4 million for the nine months ended March 31, 2009. For
the nine months period ended March 31, 2010, revenue increased 30% to RMB 725.5
million compared to RMB 559.0 million for the same period last year. The
strengthening of the Canadian dollar for the nine months ended March 31, 2010
relative to the RMB reduced the percentage increase in revenue by 10% when
reported in Canadian dollars.
In RMB, the Company's revenue per average number of retail outlets increased 15%
to RMB 0.1 million during the three months ended March 31, 2010 compared to the
same period last year and increased 17% to RMB 0.4 million for the nine months
ended March 31, 2010 compared to the same period of 2009. Market demand for
sportswear and casual products as well as increased consumer spending in the PRC
has contributed to the growth rate in sales. For each of the three months ended
March 31, 2010 and 2009, 99.7% of the Company's revenue was derived from its
wholesale distribution channel.
Cost of Sales
For the three months ended March 31
--------------------------------------------
% of % of
2010 Total 2009 Total
------------ --------- ----------- ---------
Footwear (internal production)
Raw materials $ 9,780 40.0 $ 9,741 43.0
Labour 1,423 5.8 1,012 4.5
Manufacturing costs 628 2.6 507 2.2
------------ --------- ----------- ---------
Subtotal 11,831 48.4 11,261 49.7
Footwear (outsourced production) 8,588 35.1 7,490 33.1
Apparel and accessories
(outsourced production) 4,023 16.5 3,905 17.2
------------ --------- ----------- ---------
Total $ 24,442 100.0 $ 22,656 100.0
------------ --------- ----------- ---------
------------ --------- ----------- ---------
For the nine months ended March 31
--------------------------------------------
% of % of
2010 Total 2009 Total
------------ --------- ----------- ---------
Footwear (internal production)
Raw materials $ 29,966 36.0 $ 29,920 43.4
Labour 3,634 4.4 3,246 4.7
Manufacturing costs 1,643 2.0 1,327 1.9
------------ --------- ----------- ---------
Subtotal 35,243 42.4 34,493 50.0
Footwear (outsourced production) 35,140 42.2 22,888 33.2
Apparel and accessories
(outsourced production) 12,803 15.4 11,626 16.8
------------ --------- ----------- ---------
Total $ 83,186 100.0 $ 69,007 100.0
------------ --------- ----------- ---------
------------ --------- ----------- ---------
During the three months ended March 31, 2010, cost of sales increased 8% to
$24.4 million from $22.7 million for the third quarter of 2009 relative to the
7% increase in revenue. In RMB, cost of sales increased 29% to RMB 160.3 million
for the three months ended March 31, 2010 compared to RMB 124.4 million for the
same quarter in 2009 relative to the 28% increase in revenue.
During the nine months ended March 31, 2010, cost of sales increased by 21% to
$83.2 million from $69.0 million for the same period last year which is
comparable to the 20% increase in revenue for the same period. and In RMB, cost
of sales increased 30% to RMB 532.6 million for the nine months ended March 31,
2010 compared to RMB 408.8 million for the same period last year consistent with
the 30% increase in revenue for the period.
During the quarter, the Company began remitting social insurance premiums on all
employees which increased the cost of sales by approximately $0.4 million in the
quarter and year-to-date. Raw materials accounted for 82.7% and 85.0% of the
cost of sales on internally produced footwear for the three and nine months
ended March 31, 2010, respectively compared to 86.5% and 86.7% for the three and
nine months ended March 31, 2009. The average cost of raw materials did not
materially change during the periods.
Outsourced production accounted for approximately 35% and 55% of footwear
requirements during the three and nine months ended March 31, 2010 compared to
51% and 56% for the same periods last year, respectively. During the quarter,
the Company was able to reduce the outsourced production of the finished goods
due to the build up of inventory as at December 31, 2009. The Company resumed a
higher level of outsourced production in the latter part of the quarter.
Gross Profit
For the three months For the nine months
ended March 31 ended March 31
----------------------------------------------------------------
Gross Gross Gross Gross
Margin Margin Margin Margin
2010 % 2009 % 2010 % 2009 %
----------------------------------------------------------------
Footwear $ 7,478 26.8 $ 7,138 27.6 $ 25,755 26.8 $ 21,438 27.2
Apparel and
accessories 1,422 26.1 1,310 25.1 4,391 25.5 3,936 25.1
------- ------- ------- -------
Total $ 8,900 26.7 $ 8,448 27.2 $ 30,146 26.6 $ 25,374 26.9
--------- --------- --------- ---------
--------- --------- --------- ---------
The gross margin declined in the quarter for the three and nine months ending
March 31, 2010 compared to the same periods last year primarily a result of the
inclusion of the social insurance premium payments in the cost of sales for
production workers. The majority of the gross profit is derived from the sales
of footwear which is consistent with the revenue breakdown.
Selling Expenses
For the three months ended For the nine months ended
March 31 March 31
-----------------------------------------------------------
2010 2009 Decrease 2010 2009 Decrease
--------- -------- ---------- --------- -------- ----------
Selling Expenses $ 459 $ 750 (39%) $ 1,563 $ 2,509 (38%)
Selling expenses decreased 39% to $0.5 million for the three months ended March
31, 2010 compared to the same period last year and were $1.6 million and $2.5
million for the nine months ended March 31, 2010 and 2009, respectively, as the
Company spent less on advertising during both the three and nine months periods.
Selling expenses represented 1.4% and 2.4% of total revenue for the three months
ended March 31, 2010 and 2009, respectively, and 1.4% and 2.7% for the nine
months ended March 31, 2010 and 2009.
General and Administrative Expenses
For the three months ended For the nine months ended
March 31 March 31
-----------------------------------------------------------
2010 2009 Increase 2010 2009 Increase
--------- -------- --------- ---------- -------- ----------
General and
Administrative
Expenses $ 1,243 $ 757 64% $ 2,934 $ 1,712 71%
Corporate expenses related to being a public company, including salaries,
directors fees, audit fees and stock compensation expenses totalled $0.4 million
and $0.7 million during the three and nine months ended March 31, 2010,
respectively. Additional management bonuses were paid out in China during the
quarter totalling $0.1 million. General and administrative expenses represented
3.7% and 2.4% of total revenue for the three months ended March 31, 2010 and
2009, respectively and 2.6% and 1.8% for the nine months ended March 31, 2010
and 2009, respectively.
Other Expense (Income), net
For the three months ended For the nine months ended
March 31 March 31
-------------------------------------------------------------
2010 2009 Decrease 2010 2009 Decrease
--------- --------- --------- ---------- --------- ----------
Other expense
(income), net $ 15 $ (16) 194% $ (16) $ (33) 52%
Other expense (income), comprised primarily of interest income, is shown net of
interest expense of $0.03 million and $0.04 million for the three months ended
March 31, 2010 and 2009, respectively, and net of interest expense of $0.1
million for each of the nine months ended March 31, 2010 and 2009, respectively.
Income Tax Expense
For the three months ended For the nine months ended
March 31 March 31
-----------------------------------------------------------
2010 2009 Increase 2010 2009 Increase
--------- -------- --------- ---------- -------- ----------
Income tax
expense $ 1,989 $ 1,813 10% $ 7,264 $ 5,736 27%
The statutory income tax rate in the PRC is 25%. However, due to non-deductible
expenses, the effective tax rate is 28% and 26% for the three months ended March
31, 2010 and 2009 and 28% and 27% for the nine months ended March 31, 2010 and
2009.
Net Income
For the three months ended For the nine months ended
March 31 March 31
-----------------------------------------------------------
2010 2009 Increase 2010 2009 Increase
--------- -------- ---------- --------- -------- ----------
Net income $ 5,194 $ 5,144 1% $ 18,401 $ 15,450 19%
Net income increased marginally to $5.2 million for the three months ended March
31, 2010 compared to $5.1 million for the same period last year. In RMB, net
income increased 21% to RMB 34.1 million for the three months ended March 31,
2010 compared to RMB 28.2 million in the third quarter of 2009. Net income
increased during the quarter as a result of a $0.5 million increase in gross
profit and a reduction of selling expenses of $0.3 million which were offset by
an increase in general and administrative expenses of $0.5 million and
additional income taxes of $0.2 million.
Net income increased 19% to $18.4 million for the nine months ended March 31,
2010 compared to $15.5 million for the same period of 2009. For the nine months,
net income in RMB increased 29% to RMB 117.6 million compared to RMB 91.0
million for the nine months ended March 31, 2009. Net income increased for the
nine months as a result of an increase in gross profit of $4.8 million and lower
selling expenses of $0.9 million offset by higher general and administrative
expenses of $1.2 million and additional income taxes of $1.5 million.
Basic and Diluted Earnings Per Share
Basic and diluted earnings per share was 8 cents for the three months ended
March 31, 2010 compared to 10 cents for the same quarter last year. Basic and
diluted earnings per share was 33 cents for the nine months ended March 31, 2010
compared to 31 cents for the same period of 2009. There were 62,259,500 shares
issued and outstanding as at March 31, 2010. The weighted average number shares
outstanding during the three and nine months ended March 31, 2010 was 62,166,672
and 55,477,581, respectively. As a result of the application of continuity of
interest accounting, all periods prior to the initial public offering completed
on December 21, 2009 are deemed to have 50,000,000 shares issued and outstanding
for the purpose of determining earnings per share.
Reorganization and Share Capital
On December 21, 2009, the Company completed a share exchange agreement with
Southern whereby the 10,000 issued and outstanding common shares of Southern
were exchanged for 50,000,000 common shares of the Company. On June 25, 2009,
Southern, an investment holding company, acquired 100% ownership interest in
Honorable Int'l Investment Co., Limited ("Honorable") which is an investment
holding company based in Hong Kong. Honorable acquired 100% interest in
Mengshida Shoes Co., Ltd Shishi City on July 25, 2008. Mengshida manufactures
and sells athletic footwear and related apparel and accessories as well as
leisure leather shoes in the People's Republic of China (the "PRC").
These reorganization transactions were accounted for on a continuity of interest
basis of accounting whereby the various assets and liabilities are accounted for
at the carrying value in the combining companies' records. Current and
comparative consolidated financial results are presented as if the companies
have always been combined. The number of common shares outstanding has been
restated for the purpose of determining earnings per share to reflect the
reorganization.
The Company's fiscal year end is June 30, 2010. Accordingly these consolidated
financial statements are for the three and nine month periods ended March 31,
2010 with comparative figures for the same periods in 2009.
Initial Public Offering
On December 21, 2009, the Company completed its initial public offering ("IPO")
by issuing 11,500,000 common shares at a price of $3.25 per common share,
resulting in net proceeds of $33,040 after deducting the underwriters' fees and
other related expenses of the offering.
The Company granted the underwriters an over-allotment option exercisable for a
period of 30 days from closing of the IPO to purchase up to an additional
1,725,000 common shares at the issue price.
In addition, the underwriters received compensation options entitling them to
acquire up to 7% of the number of common shares issued under the IPO including
any shares exercised under the over-allotment option. Each compensation option
will be exercisable for common shares at $3.25 per share until December 21,
2011.
On January 12, 2010, the underwriters exercised the over-allotment option to
purchase 759,500 common shares at $3.25 and, as a result, received an additional
7% or 53,165 compensation options. Net proceeds of $2,278 were received after
deducting the underwriters' fees and other related expenses of the offering.
Each compensation option will be exercisable for common shares at $3.25 per
share until January 12, 2012.
Summary of Quarterly Results
The quarterly data that is available is disclosed as follows:
Mar 31 Dec 31 Sept 30 June 30 Mar 31 Dec 31 Sept 30
Quarter Ended 2010 2009 2009 2009 2009 2008 2008
--------- -------- -------- -------- -------- -------- --------
Revenue $ 33,342 $ 36,960 $ 43,030 $ 44,349 $ 31,104 $ 33,950 $ 29,327
Net income 5,194 5,550 7,657 7,597 5,144 5,293 5,013
Earnings per
share -
basic and
diluted $ 0.08 $ 0.11 $ 0.15 $ 0.15 $ 0.10 $ 0.11 $ 0.10
Liquidity
The purpose of liquidity management is to ensure there is sufficient cash to
meet all of the Company's financial commitments and obligations as they fall
due. The Company believes that it has the flexibility to obtain, from current
cash holdings and ongoing operations, the funds needed to fulfill its cash
requirements during the current financial year. The Company's main source of
funds is from the sales of its products to distributors and cash on hand. The
Company's use of funds is primarily for its operating expenses including the
payment for its production of footwear and outsourced production to third party
suppliers.
The Company has a one year bank loan of $0.4 million that is due in July 16,
2010 and bears interest at the higher of 5.31% or the lending rate per Bank of
China, reset every three months.
Through the Company's growth and expansion as well as the initial public
offering completed on December 21, 2009, it has increased its cash on hand from
$23.8 million as at June 30, 2009 to $68.3 million as at March 31, 2010.
The Company commences its manufacturing of most products at the time that it
enters into a binding production contract with the distributor to limit its
inventory levels. Finished goods inventory increased during the period to $4.1
million as at March 31, 2010 from $1.6 million as at June 30, 2009 but was lower
than the $5.4 million as at March 31, 2009 all in spite of the 20% increase in
the nine month revenue during the period. The higher level of finished goods
inventory was a result of increased production during the quarter with
subsequent shipping of the inventory in April, 2010.
Accounts receivable decreased during the quarter to $23.7 million compared to
$28.7 million as at December 31, 2009 as sales were higher during the second
quarter of 2010 in preparation for higher retail sales during the Chinese New
Year. The accounts receivable balance as at March 31, 2009 was $16.0 million.
The increase in accounts receivable from the March 31, 2009 balance is
reflective of the Company's 20% increase in revenue, currency fluctuations and
the expanded payment terms offered to certain distributors to provide support to
them to open more retail stores. The Company has not experienced any increase in
bad debts or increased provision for allowance for doubtful accounts.
At present, there are no known demands, commitments, events or uncertainties
that would adversely affect the trends and expected fluctuations in the
Company's liquidity. The Company believes it has the funds required, with the
net proceeds from the initial public offering completed on December 21, 2009, to
meet its business objectives and working capital and other cash requirements for
at least twelve months. However, there can be no assurances that these funds
will be sufficient and the Company may have to evaluate additional means of
financing, including additional debt or equity financing.
Net cash provided by operating activities for the three and nine months ended
March 31, 2010 was $10.6 million and $13.7 million, respectively. During the
three months ended March 31, 2010, the decrease in the accounts receivable and
inventory balances generated a source of cash. The growth in the business has
been the main driver of the increased cash generated from operating activities
and the decreased working capital requirement for the nine months. Net cash
generated by financing activities was $1.5 million and $35.4 million for the
three and nine months ended March 31, 2010. No dividends were paid out during
fiscal 2010 or the nine months ended March 31, 2009. Net cash generated during
the three and nine months ended March 31, 2010 and 2009 was $10.2 million, $5.5
million, $44.5 million and $16.4 million, respectively.
Working capital increased from $29.8 million (RMB 281.1 million) as at June 30,
2009 to $78.4 million (RMB 511.5 million) as at March 31, 2010 as a result of
the growth in revenue and profitability and the proceeds from the initial public
offering.
Risk Factors
An additional risk factor was identified during the second quarter of 2010 being
the Chinese government can issue income tax rules which have a retroactive
application. On December 15, 2009, the State Administration of Taxation issued a
taxation circular that has retroactive application to January 1, 2008. The
Company's preliminary assessment is that this taxation circular has no financial
impact to the Company.
For further risk factors see "Risk Factors" as contained in the Company's final
long form prospectus filed on December 11, 2009 on SEDAR at www.sedar.com.
Capital Expenditures
The Company's capital expenditures primarily relate to its investment in the
equipment required in its production lines. The Company expects to use a portion
of the net proceeds from the Offering to further invest in equipment as well as
to construct a new building. The Company is reassessing its plans on the
construction of the new building to expand its planned capacity from six to ten
storeys. If successful, this will delay completion of the project to June, 2011.
Use of Proceeds
The Company completed its initial public offering on December 21, 2009 and
received net cash proceeds of $34,759 after deducting the underwriter fees but
prior to the issue costs of $1,719. On January 12, 2010, the Company received a
further $2,278 of net cash proceeds from the exercise of the over-allotment
option. As of March 31, 2010, there has been no variance in the Company's
disclosure of its intended use of proceeds from the final prospectus dated
December 11, 2009 and filed on SEDAR at www.sedar.com.
Disbursed as
of March 31 Update as of
Intended Use of Proceeds As disclosed 2010 March 31 2010
------------- ------------ --------------
Retail and Distribution Network
Expansion $ 16,000 $ - $ 16,000
Increase Production Capacity 7,000 - 7,000
Brand Recognition, Awareness and
Image 9,000 366 8,634
Working Capital 2,800
-----------
Net Proceeds $ 34,800
-------------
-------------
While the Company intends to use the net proceeds as stated above, circumstances
may arise where, for sound business reasons and in order to account for currency
fluctuations, a reallocation of monies may be necessary or advisable.
Off-Balance Sheet Arrangements
The Company has no off-balance sheet arrangements.
Related Party Transactions
Directors of Mengshida have jointly provided personal guarantees to indemnify
Mengshida on certain potential tax exposures including related interest and
penalties for periods prior to 2006. As a result, the Company has recorded an
other receivables from the directors of $1.2 million as at March 31, 2010 and
June 30, 2009.
A loan was received from a director of Honorable for $0.4 million and $0.5
million as at March 31, 2010 and June 30, 2009, respectively. The loan is not
secured, is interest free and payable on demand.
Directors of Mengshida have jointly made personal guarantees to indemnify the
Company for any premiums for social insurance in arrears in excess of RMB
4,465,000. One of the Directors has pledged 2,000,000 common shares of the
Company owned by him for any potential liability that may become payable under
this undertaking.
A corporation owned 50% by one of Zungui's Directors received $400,000 in cash
and 700,000 stock options of the Company in trust for various parties as
consideration for services rendered in connection with the initial public
offering. The stock options were granted at $3.25 and vest in equal amounts over
three years. A company controlled by the same Director received 440,000 of the
700,000 stock options granted by the Company. The above transactions were
conducted in the normal course of business and are measured at the exchange
amount, which is the amount of consideration established and agreed to by the
parties.
Financial Instruments and Other Instruments
The Company held cash of $68.3 million on its balance sheet as at March 31,
2010. The Company does not have any cash equivalents or invested assets. The
Company does not currently utilize any other instruments such as derivative
financial instruments to reduce its exposure to interest rate risk. The
Company's location in the Fujian Province is in close proximity to a large
number of suppliers of raw materials required in the manufacturing of the
Company's products creating procurement efficiency and, as a result, the Company
does not need to enter into any forward future contracts to purchase raw
materials. All of the Company's financial assets and financial liabilities are
short term in nature and are measured on an ongoing basis at fair value or
amortized cost.
Adoption of New Accounting Policies
The Company has a stock based compensation plan. The Company estimates the fair
value of options granted to employees, non-employees directors and consultants
using the Black-Scholes option pricing model. The Company recognizes the fair
value as a compensation expense over the period that the stock options vest,
with a corresponding increase to contributed surplus. When these stock options
are exercised, the amount of the proceeds together with the amount recorded in
contributed surplus, is recorded in share capital.
Future Accounting Changes
Transition to IFRS
Canada's Accounting Standards Board ratified a strategic plan that will result
in Canadian GAAP, as used by public companies, being evolved and converged with
International Financial Reporting Standards ("IFRS") over a transitional period
to be complete by 2011. The Company will be required to report using IFRS
effective for interim and annual financial statements relating to the fiscal
year ended June 30, 2012.
The Company expects the transition to IFRS to have an impact on financial
reporting, business processes and information systems. The Company began a
preliminary assessment during the third quarter of 2010. The Company will invest
in training and resources through the transition process to facilitate a timely
conversion.
Business Combinations, Consolidations and Non-Controlling Interests
In January 2009, the CICA issued Handbook Section 1582, Business Combinations
replacing Section 1581, Business Combinations. Section 1582 will apply to a
transaction in which the acquirer obtains control of one or more businesses (as
defined in the Section). Most assets acquired and liabilities assumed, including
contingent liabilities that are considered to be probable, will be measured at
fair value. A bargain purchase will result in the recognition of a gain.
Acquisition costs will be expensed. These standards are applicable to interim
and annual financial statements of the Company beginning on July 1, 2011. The
Company is in the process of evaluating the impact of these standards.
In January 2009, the CICA issued Handbook Section 1601, Consolidated Financial
Statements and 1602, Non-Controlling Interests replacing Section 1600,
Consolidated Financial Statements. Section 1601 establishes standards for the
preparation of consolidated financial statements and Section 1602 establishes
standards for accounting for a non-controlling interest. These standards are
applicable to interim and annual financial statements of the Company beginning
on July 1, 2011. The Company is in the process of evaluating the impact of these
standards.
Financial Instruments
In June 2009, the CICA revised section 3862 to include a hierarchy concept in
measuring financial instruments, a requirement to provide disclosure concerning
the fair value measurements of assets and liabilities for each hierarchy level
and amendments to the liquidity disclosure requirements. The recommendations are
effective for the Company's 2010 year end financial statements and MD&A. The
Company is in the process of evaluating the impact of the revision to this
standard.
Zungui Haixi Corporation
Consolidated Balance Sheets
(Unaudited)
(Expressed in thousands of Canadian Dollars)
(Basis of Presentation - Note 1)
March 31 2010 June 30 2009
Current assets
Cash $ 68,250 $ 23,757
Accounts receivable, net 23,721 22,202
Prepaid expenses 453 510
Inventories (Note 4) 4,807 2,984
Other receivables (Note 7) 1,191 1,234
Future income taxes 63 61
------------------------------
Total current assets 98,485 50,748
Property, plant and equipment (Note 5) 4,639 5,331
------------------------------
Total assets $ 103,124 $ 56,079
------------------------------
------------------------------
Current liabilities
Accounts payable and accrued liabilities $ 15,917 $ 15,624
Bank loan (Note 6) 446 511
Taxes payable 3,266 4,287
Due to related party (Note 7) 440 482
------------------------------
Total current liabilities 20,069 20,904
Shareholders' equity
Share capital (Note 8) 33,451 -
Paid-in capital (Note 8) - -
Contributed surplus (Note 8) 3,168 1,174
Surplus reserve funds 1,938 1,938
Retained earnings 50,422 32,021
Accumulated other comprehensive income (loss) (5,924) 42
------------------------------
Total shareholders' equity 83,055 35,175
------------------------------
Total liabilities and shareholders' equity $ 103,124 $ 56,079
------------------------------
------------------------------
Contingencies (Note 12)
The accompanying notes are an integral part of these consolidated financial
statements
Approved By the Board
(Signed) "Michael W. Manley"
Director
(Signed) "Patrick A. Ryan"
Director
Zungui Haixi Corporation
Consolidated Statements of Income and Comprehensive Income
(Unaudited)
(Expressed in thousands of Canadian Dollars, except per share data)
Three Months Ended Nine Months Ended
March 31 March 31
2010 2009 2010 2009
------------------------------------------------------
Revenue (Note 11) $ 33,342 $ 31,104 $ 113,332 $ 94,381
Cost of sales 24,442 22,656 83,186 69,007
------------------------------------------------------
Gross profit 8,900 8,448 30,146 25,374
------------------------------------------------------
Selling expenses 459 750 1,563 2,509
General and
administrative
expenses 1,243 757 2,934 1,712
Other expense
(income), net 15 (16) (16) (33)
------------------------------------------------------
1,717 1,491 4,481 4,188
------------------------------------------------------
Income before income
taxes 7,183 6,957 25,665 21,186
Income taxes 1,989 1,813 7,264 5,736
------------------------------------------------------
Net income 5,194 5,144 18,401 15,450
------------------------------------------------------
Other comprehensive
income (loss):
Unrealized gain
(loss) on
translation to
Canadian reporting
currency (2,016) 806 (5,966) 4,069
------------------------------------------------------
Comprehensive income $ 3,178 $ 5,950 $ 12,435 $ 19,519
------------------------------------------------------
------------------------------------------------------
Basic and diluted
earnings per share
(Note 8) $ 0.08 $ 0.10 $ 0.33 $ 0.31
------------------------------------------------------
Weighted average
number shares
outstanding during
the period 62,166,672 50,000,000 55,477,581 50,000,000
-------------------------------------------------------
-------------------------------------------------------
The accompanying notes are an integral part of these consolidated financial
statements
Zungui Haixi Corporation
Consolidated Statements of Shareholders' Equity
(Unaudited)
(Expressed in thousands of Canadian Dollars)
Share Paid-in Contributed Retained
Capital Capital Surplus Earnings
Balance at June 30, 2008 $ - $ 1,174 $ - $ 8,974
Reorganization of
capital (Note 8) - (1,174) 1,174 -
Net income for the six
months - - - 10,306
Exchange difference on
translation to Canadian
reporting currency - - - -
---------------------------------------------------
Balance at December 31,
2008 - - 1,174 19,280
Net income for the three
months - - - 5,144
Exchange difference on
translation to Canadian
reporting currency - - - -
---------------------------------------------------
Balance at March 31,
2009 $ - $ - $ 1,174 $ 24,424
---------------------------------------------------
---------------------------------------------------
Balance at June 30, 2009 $ - $ - $ 1,174 $ 32,021
Issuance of share
capital (Note 8) 33,040 - - -
Stock based compensation
expense (Notes 8 and 9) (1,816) - 1,829 -
Net income for the six
months - - - 13,207
Exchange difference on
translation to Canadian
reporting currency - - - -
---------------------------------------------------
Balance at December 31,
2009 31,224 - 3,003 45,228
Issuance of share
capital (Note 8) 2,278 - - -
Stock based compensation
expense (Notes 8 and 9) (51) - 165 -
Net income for the three
months - - - 5,194
Exchange difference on
translation to Canadian
reporting currency - - - -
---------------------------------------------------
Balance at March 31,
2010 $ 33,451 $ - $ 3,168 $ 50,422
---------------------------------------------------
---------------------------------------------------
Accumulated
Other
Surplus Reserve Comprehensive
Fund Income Total
Balance at June 30, 2008 $ 1,938 $ (1,612) $ 10,474
Reorganization of
capital (Note 8) - - -
Net income for the six
months - - 10,306
Exchange difference on
translation to Canadian
reporting currency - 3,263 3,263
--------------------------------------------------
Balance at December 31,
2008 1,938 1,651 24,043
Net income for the three
months - - 5,144
Exchange difference on
translation to Canadian
reporting currency - 806 806
--------------------------------------------------
Balance at March 31,
2009 $ 1,938 $ 2,457 $ 29,993
--------------------------------------------------
--------------------------------------------------
Balance at June 30, 2009 $ 1,938 $ 42 $ 35,175
Issuance of share
capital (Note 8) - - 33,040
Stock based compensation
expense (Notes 8 and 9) - - 13
Net income for the six
months - - 13,207
Exchange difference on
translation to Canadian
reporting currency - (3,950) (3,950)
--------------------------------------------------
Balance at December 31,
2009 1,938 (3,908) 77,485
Issuance of share
capital (Note 8) - - 2,278
Stock based compensation
expense (Notes 8 and 9) - - 114
Net income for the three
months - - 5,194
Exchange difference on
translation to Canadian
reporting currency - (2,016) (2,016)
--------------------------------------------------
Balance at March 31,
2010 $ 1,938 $ (5,924) $ 83,055
----------------------------------------------------
----------------------------------------------------
The accompanying notes are an integral part of these consolidated financial
statements
Zungui Haixi Corporation
Consolidated Statements of Cash Flows
(Unaudited)
(Expressed in thousands of Canadian Dollars unless otherwise noted)
For the Three Months For the Nine Months
Ended March 31 Ended March 31
2010 2009 2010 2009
----------------------------------------------
Cash flows from operating
activities
Net income $ 5,194 $ 5,144 $ 18,401 $ 15,450
Items not affecting cash:
Depreciation 114 129 337 365
Future income taxes - - (10) (8)
Provision for doubtful
accounts (45) 11 119 36
Stock based compensation 114 - 127 -
Loss on disposal of
property, plant and
equipment (1) - (1) -
Changes in non-cash working
capital
Accounts receivable 4,242 (812) (4,633) (1,624)
Prepaid expenses (4) (117) (5) (348)
Inventories 5,513 (2,503) (2,303) (2,647)
Other receivables (46) (41) (117) (115)
Accounts payable and
accrued liabilities (3,919) 3,780 2,178 2,827
Taxes payable (529) (665) (398) (530)
----------------------------------------------
Net cash provided by
operating activities 10,633 4,926 13,679 13,406
Cash flows from investing
activities
Property, plant and
equipment (291) - (313) (9)
----------------------------------------------
Net cash used in investing
activities (291) - (297) (9)
Cash flows from financing
activities
Proceeds from bank loans - - - 443
Repayment of bank loans - - - (443)
Due to related party - - - 438
Increase in share capital,
net 1,466 - 35,431 -
----------------------------------------------
Net cash provided by
financing activities 1,466 - 35,431 438
----------------------------------------------
Effect of exchange rate
changes on cash (1,581) 607 (4,320) 2,602
----------------------------------------------
Net increase in cash 10,227 5,533 44,493 16,437
Cash, beginning of the
period 58,023 15,928 23,757 5,024
----------------------------------------------
Cash, end of the period $ 68,250 $ 21,461 $ 68,250 $ 21,461
----------------------------------------------
----------------------------------------------
Supplemental disclosure of
cash information
Interest paid in cash $ 5 $ 9 $ 18 $ 31
Income taxes paid in cash 2,541 2,334 7,730 6,229
The accompanying notes are an integral part of these consolidated financial
statements
Zungui Haixi Corporation
Notes to Consolidated Financial Statements
For the three and nine month periods ended March 31, 2010 and 2009
(Unaudited)
(Expressed in thousands of Canadian Dollars except per share and share
amounts)
1. NATURE OF BUSINESS AND BASIS OF PRESENTATION
Zungui Haixi Corporation ("Zungui" or "Company") was incorporated under the
Ontario Business Corporation Act on August 11, 2009. Zungui is a holding company
listed on TSX Venture Exchange. Through its subsidiaries, Zungui manufactures
and sells sports footwear and related apparel and accessories as well as leisure
leather shoes in the People's Republic of China ( the "PRC" or "China").
Zungui's wholly owned subsidiaries include Southern Trends International Holding
Company Ltd. ("Southern"), Honorable Int'l Investment Co., Limited ("Honorable")
and Mengshida Shoes Co., Ltd. Shishi City ("Mengshida").
On December 21, 2009, the Company completed a share exchange agreement with
Southern whereby the 10,000 issued and outstanding common shares of Southern
were exchanged for 50,000,000 common shares of the Company. On June 25, 2009,
Southern, an investment holding company, acquired 100% ownership interest in
Honorable which is an investment holding company based in Hong Kong. Honorable
acquired 100% interest in Mengshida on July 25, 2008.
These reorganization transactions were accounted for on a continuity of interest
basis of accounting whereby the various assets and liabilities are accounted for
at the carrying value in the combining companies' records. Current and
comparative consolidated financial results are presented as if the companies
have always been combined. The number of common shares outstanding has been
restated for the purpose of determining earnings per share to reflect the
reorganization.
The Company's fiscal year end is June 30, 2010. Accordingly these consolidated
financial statements are for the three and nine month periods ended March 31,
2010 with comparative figures for the same periods in 2009.
2. INITIAL PUBLIC OFFERING
On December 21, 2009, the Company completed its initial public offering ("IPO")
by issuing 11,500,000 common shares at a price of $3.25 per common share,
resulting in net proceeds of $33,040 after deducting the underwriters' fees and
other related expenses of the offering.
The Company granted the underwriters an over-allotment option exercisable for a
period of 30 days from closing of the IPO to purchase up to an additional
1,725,000 common shares at the issue price.
In addition, the underwriters received compensation options entitling them to
acquire up to 7% of the number of common shares issued under the IPO including
any shares exercised under the over-allotment option. Each compensation option
will be exercisable for common shares at $3.25 per share until December 21,
2011.
On January 12, 2010, the underwriters exercised the over-allotment option to
purchase 759,500 common shares at $3.25 and, as a result, received an additional
7% or 53,165 compensation options. Net proceeds of $2,278 were received after
deducting the underwriters' fees and other related expenses of the offering.
Each compensation option will be exercisable for common shares at $3.25 per
share until January 12, 2012.
3. SIGNIFICANT ACCOUNTING POLICIES
These interim consolidated financial statements have been prepared in accordance
with Canadian generally accepted accounting principles ("GAAP") for interim
financial statements and are consistent with the accounting policies and methods
of computation as were used in the preparation of the annual consolidated
financial statements of Southern for the three years ended December 31, 2008 and
the six months period ended on June 30, 2009. These interim consolidated
financial statements do not contain all the information and disclosures required
by GAAP applicable for annual consolidated financial statements and accordingly
should be read in conjunction with Southern's audited consolidated financial
statements which appear in Zungui's final long form prospectus dated December
11, 2009 and available on SEDAR at www.sedar.com. The results of the operations
for the interim periods are not necessarily indicative of the full-year results.
(a) Foreign currency translation
The Company's primary economic activities are in China and the functional
currency is Chinese Renminbi ("RMB") for its wholly owned subsidiary located in
China. The Canadian head office's functional currency is Canadian dollars. The
Company uses Canadian dollars as its reporting currency. The financial
statements are translated into the reporting currency using the current rate
method. Under this method, revenue and expenses of the Company are translated
into the reporting currency using the weighted average exchange rates for the
period and assets and liabilities are translated using the exchange rate at the
end of the period. Capital transactions are translated using historical rates.
All resulting exchange differences are reported as accumulated other
comprehensive income (loss), which is presented as a separate component of
shareholders' equity.
The weighted average exchange rate for one RMB expressed in Canadian dollars for
the three months ended March 31, 2010 and 2009 is 0.1524 and 0.1821,
respectively and is 0.1558 and 0.1695 for the nine months ended March 31, 2010
and 2009, respectively.
(b) Adoption of new accounting policies
Stock based compensation
The Company has a stock based compensation plan which is described in Note 9.
The Company estimates the fair value of options granted to employees,
non-employee directors and consultants using the Black-Scholes option pricing
model. The Company recognizes the fair value as a compensation expense over the
period that the stock options vest, with a corresponding increase to contributed
surplus. When these stock options are exercised, the amount of the proceeds
together with the amount recorded in contributed surplus, is recorded in share
capital.
(c) Future accounting changes
(i) Transition to IFRS
Canada's Accounting Standards Board ratified a strategic plan that will result
in Canadian GAAP, as used by public companies, being evolved and converged with
International Financial Reporting Standards ("IFRS") over a transitional period
to be complete by 2011. The Company will be required to report using IFRS for
interim and annual financial statements relating to the fiscal year ended June
30, 2012.
The Company expects the transition to IFRS to have an impact on financial
reporting, business processes and information systems. The Company began a
preliminary assessment during the third quarter of 2010. The Company will invest
in training and resources through the transition process to facilitate a timely
conversion.
(ii) Business Combinations, Consolidations and Non-Controlling Interests
In January 2009, the CICA issued Handbook Section 1582, Business Combinations
replacing Section 1581, Business Combinations. Section 1582 will apply to a
transaction in which the acquirer obtains control of one or more businesses (as
defined in the Section). Most assets acquired and liabilities assumed, including
contingent liabilities that are considered to be probable, will be measured at
fair value. A bargain purchase will result in the recognition of a gain.
Acquisition costs will be expensed. These standards are applicable to interim
and annual financial statements of the Company beginning on July 1, 2011. The
Company is in the process of evaluating the impact of these standards.
In January 2009, the CICA issued Handbook Section 1601, Consolidated Financial
Statements and 1602, Non-Controlling Interests replacing Section 1600,
Consolidated Financial Statements. Section 1601 establishes standards for the
preparation of consolidated financial statements and Section 1602 establishes
standards for accounting for a non-controlling interest. These standards are
applicable to interim and annual financial statements of the Company beginning
on July 1, 2011. The Company is in the process of evaluating the impact of these
standards.
(c) Future accounting changes
(iii) Financial Instruments
In June 2009, the CICA revised section 3862 to include a hierarchy concept in
measuring financial instruments, a requirement to provide disclosure concerning
the fair value measurements of assets and liabilities for each hierarchy level
and amendments to the liquidity disclosure requirements. The recommendations are
effective for the Company's 2010 year end financial statements. The Company is
in the process of evaluating the impact of the revision to this standard.
4. INVENTORIES
Inventories consist of:
----------------------------------------------------------------------------
March 31, 2010 June 30, 2009
----------------------------------------------------------------------------
Raw materials $ 498 $ 1,091
Work in progress 208 332
Finished goods 4,101 1,561
----------------------------------------------------------------------------
Total inventory $ 4,807 $ 2,984
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Inventories expensed as cost of goods sold were $24,049 and $22,641 for the
three months ended March 31, 2010 and 2009, respectively, and $82,763 and
$68,959 for the nine months ended March 31, 2010 and 2009, respectively. No
inventory writedowns occurred during these periods.
5. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consist of:
----------------------------------------------------------------------------
March 31, 2010
----------------------------------------------------------------------------
Accumulated
Cost Depreciation Net Book Value
----------------------------------------------------------------------------
Plant and building $ 5,574 $ 1,872 $ 3,702
Machinery and production
equipment 1,462 1,005 457
Automobiles and trucks 366 166 200
Office equipment 367 87 280
----------------------------------------------------------------------------
Total $ 7,769 $ 3,130 $ 4,639
----------------------------------------------------------------------------
----------------------------------------------------------------------------
----------------------------------------------------------------------------
June 30, 2009
----------------------------------------------------------------------------
Accumulated
Cost Depreciation Net Book Value
----------------------------------------------------------------------------
Plant and building $ 6,376 $ 1,920 $ 4,456
Machinery and production
equipment 1,660 1,052 608
Automobiles and trucks 404 163 241
Office equipment 120 94 26
----------------------------------------------------------------------------
Total $ 8,560 $ 3,229 $ 5,331
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Depreciation expense of $114 and $337 for the three and nine months ended March
31, 2010, respectively and $129 and $365 for the three and nine months ended
March 31, 2009, respectively. Buildings with the net book value of $3,660 as of
March 31, 2010 are provided as collateral for the bank loan (Note 6).
6. BANK LOAN
On July 23, 2008, the Company signed a one year term loan agreement with Bank of
Agriculture Shishi branch to borrow $443 (RMB 3,000,000) at a floating interest
rate of the aggregate of the bank prime rate plus an additional 20% of the bank
prime rate. The loan matured and was fully repaid on July 17, 2009.
On July 17, 2009, the Company signed a one year term loan agreement with Bank of
Agriculture Shishi branch to borrow $511 (RMB 3,000,000). The interest rate is
the higher of 5.31% per annum or the lending rate per Bank of China, reset every
3 months. Interest is payable on a quarterly basis.
Interest expense was $31 and $100 for the three and nine months ended March 31,
2010, respectively and was $40 and $117 for the three and nine months ended
March 31, 2009, respectively.
The bank loan is collateralized by the Company's buildings as referred to in Note 5.
7. RELATED PARTY TRANSACTIONS
(a) Directors of Mengshida have jointly made personal guarantees to
indemnify Mengshida on certain potential tax exposures including the
related interest and penalties arising in periods prior to 2006.
Accordingly, the Company has recorded an other receivables from
Directors.
----------------------------------------------------------------------------
March 31, 2010 June 30, 2009
----------------------------------------------------------------------------
Other receivables $ 1,191 $ 1,234
----------------------------------------------------------------------------
(b) Due to related party consists of a loan from a Director of Honorable
totalling $440 (Hong Kong $3,200,000 and RMB 100,000) as at March 31,
2010 and $482 (Hong Kong $3,200,000 and RMB 100,000) as at June 30,
2009. This loan is unsecured, is interest free and is payable on demand.
(c) The Directors of Mengshida have jointly made personal guarantees to
indemnify Mengshida for any premiums for social insurance in arrears in
excess of RMB 4,465,000 as discussed in Note 12. One of the Directors
has pledged 2,000,000 common shares of the Company owned by him for any
potential liability that may become payable under this undertaking.
(d) A corporation 50% owned by one of Zungui's Directors received $400,000
in cash and 700,000 stock options of the Company in trust for various
parties as consideration for services rendered in connection with the
initial public offering. The stock options were granted at $3.25 and
vest in equal amounts over three years. A company controlled by the same
Director received 440,000 of the 700,000 stock options granted by the
Company. The above transactions were conducted in the normal course of
business and are measured at the exchange amount, which is the amount of
consideration established and agreed to by the parties.
8. SHARE CAPITAL, PAID IN CAPITAL AND CONTRIBUTED SURPLUS
(a) Share Capital:
As at March 31, 2010 the authorized share capital of Zungui was unlimited common
shares with no par value.
----------------------------------------------------------------------------
Weighted
Average
Shares Stock Compensation Exercise
Share Capital Issued Options Options Price Amount
----------------------------------------------------------------------------
Balance as at
August 11, 2009 1 - - - $ -
Share exchange
transaction
(Note 1) 50,000,000 - - - -
Initial public
offering (Notes
2 and 8(a)(i)) 11,500,000 - - - 33,040
Cancellation of
share (1) - - - -
Stock options
(Note 8(b)): - - - -
Granted - 1,660,000 - $ 3.25 (1,005)
Underwriter
options (Note
8(c)) - - 805,000 3.25 (811)
----------------------------------------------------------------------------
Balance as at
December 31,
2009 61,500,000 1,660,000 805,000 - $ 31,224
Over-allotment
option (Notes 2
and 8(a)(ii)) 759,500 - - 3.25 2,278
Underwriter
options (Note
8(c)) - - 53,165 3.25 (51)
Stock options:
Forfeited - (10,000) - 3.25 -
Balance as at
March 31, 2010 62,259,500 1,650,000 858,165 - 33,451
----------------------------------------------------------------------------
----------------------------------------------------------------------------
(i) The expenses of the initial public offering, including underwriters'
fees and other related expenses, were $4,335.
(ii) On January 12, 2010, the underwriters exercised the over-allotment
option and purchased 759,500 common shares at $3.25. The expenses of
the over-allotment option, including underwriters' fees and other
related expenses, were $190.
(iii) As a result of the reorganization as described and the application of
the continuity of interest accounting, all periods prior to the
initial public offering completed on December 21, 2009 are deemed
to have 50,000,000 shares issued and outstanding for the purposes
of calculating earnings per share.
(b) Stock Options:
In conjunction with the initial public offering, on December 21, 2009 the
Company granted 700,000 stock options at an exercise price of $3.25 to
consultants (see Note 7(d)). The consultant's stock options vest equally over a
three year period and as at March 31, 2010, none were vested nor exercisable.
The stock options expire on December 21, 2014. The per share fair value of these
grants was $1.44. Stock based compensation in the amount of $1,005 was deducted
from share capital as part of the expenses of the offering.
In addition, 960,000 stock options were granted to employees and non-employee
Directors as further discussed in Note 9.
(c) Underwriter Options:
As described in Note 2, the Company granted the underwriters an over-allotment
option to purchase up to an additional 1,725,000 common shares at $3.25 that
expires within 30 days of the closing of the IPO. No stock based compensation
was recorded for this option. The Company also granted the underwriters an
option to purchase 805,000 common shares ("compensation options") at $3.25 for a
period of 24 months. The per share fair value of these grants was $1.01. Stock
based compensation in the amount of $811 was deducted from share capital as part
of the expenses of the offering.
On January 12, 2010, the underwriters earned an additional 53,165 common shares
("compensation options") at $3.25 for a period of 24 months in conjunction with
the exercise of the over-allotment option. The per share fair value of these
grants was $0.97. Stock based compensation in the amount of $51 was deducted
from share capital as part of the expenses of the offering.
The fair value of the option grants in (b) and (c) above were estimated at the
date of the grant using a Black-Scholes option pricing model with the following
weighted average assumptions:
----------------------------------------------------------------------------
Three Months Ended Nine Months Ended
March 31, 2010 March 31, 2010
----------------------------------------------------------------------------
Risk-free interest rate 1.27 1.27-2.46
Dividend yield 0.0% 0.0%
Expected volatility 54.3% 54.3%
Expected option life (in years) 2 2 - 4
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Expected volatility is based on the historical volatility of companies in
comparable industries. The risk-free interest rate is based on yields of
Government of Canada T-bills with similar maturities. The expected option life
was estimated based on vesting schedule and the expiry date for the compensation
options.
(d) Paid in Capital:
As part of the reorganization referred to in Note 1, the paid in capital of
Mengshida of $1,174 became the contributed surplus of the Company.
According to the registration document filed with the PRC government agency on
April 30, 2008, the Company is required to increase its additional capital
investment in Mengshida to $3,003 (RMB 20,000,000) within 2 years from the date
of the filing. On December 28, 2009 $1,760 (RMB 11,223,825) in additional
capital was injected to fulfill this requirement.
9. STOCK BASED COMPENSATION
The Company has a stock option plan to incent directors, officers, consultants
and employees. In accordance with the stock option plan, the term of any stock
option grant cannot exceed five years and no more than 10% of Company's common
shares are reserved for stock option grants. On December 21, 2009, the Company
granted 960,000 stock options at an exercise price of $3.25 to Company employees
and directors with an expiry date of December 21, 2014. The stock options vest
equally over a three year period and as at March 31, 2010, none were vested nor
exercisable. The per share fair value of these grants was $1.44. During the
three months ended March 31, 2010, no additional stock options were granted and
10,000 options were forfeited.
The fair value of the options grants was estimated at the date of the grant
using a Black-Scholes option pricing model with the following weighted average
assumptions:
----------------------------------------------------------------------------
Nine Months Ended
March 31, 2010
----------------------------------------------------------------------------
Risk-free interest rate 2.46
Dividend yield 0.0%
Expected volatility 54.3%
Expected option life (in years) 4
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Expected volatility is based on the historical volatility of companies in
comparable industries. The risk-free interest rate is based on yields of
Government of Canada T-bills with similar maturities. During the three and nine
months ended March 31, 2010, stock based compensation expense was $114 and $127.
10. MAJOR CUSTOMERS AND SUPPLIERS
The Company sells products to various customers. There were no customers that
purchased more than 10% of the Company's products for the three or nine month
periods ended March 31, 2010 and 2009.
During the three month period ended March 31, 2010, purchases from three
suppliers, each represented 10% ($1,745), 9% ($1,509) and 8% ($1,420) of total
purchases. During the three month period ended March 31, 2009, purchases from
three suppliers represented 16% ($4,719), 15% ($4,096) and 15% ($3,549) of the
total purchases. During the nine month period ended March 31, 2010, purchases
from three suppliers, each represented 16% ($13,075), 16% ($13,009) and 16%
($12,989) of total purchases. During the nine month period ended March 31, 2009,
purchases from three suppliers represented 15% ($10,428), 12% ($8,388) and 10%
($6,513) of the total purchases.
11. REVENUE
----------------------------------------------------------------------------
Three Months Ended Nine Months Ended
March 31, March 31,
2010 2009 2010 2009
----------------------------------------------------------------------------
Revenue
Footwear $ 27,897 $ 25,889 $ 96,138 $ 78,819
Apparel and accessories 5,445 5,215 17,194 15,562
----------------------------------------------------------------------------
Revenue $ 33,342 $ 31,104 $ 113,332 $ 94,381
----------------------------------------------------------------------------
----------------------------------------------------------------------------
12. CONTINGENCIES
Pursuant to the relevant laws and regulations of the PRC, the Company makes
contributions to the local Labour and Social Security Bureaus based on a rate
determined by the local bureaus. The process of determining this rate involves
uncertainties and judgments on the part of the Bureaus. Significant estimates
and judgement are applied by management to determine the appropriate amount of
social insurance to be paid. The Directors of Mengshida have jointly made
personal guarantees to indemnify the Company for any premiums for social
insurance in arrears and all related fines, penalties, interest and other
payments in excess of RMB 4,465,000 ($664) that the Company may be required to
make relating to periods prior to December 31, 2009 in the event of a dispute or
settlement with the applicable government authorities. See Note 7(c).
13. FINANCIAL INSTRUMENTS
Financial assets and financial liabilities are measured on an ongoing basis at
fair value or amortized cost. Fair value estimates are made at a specific point
in time, using available information about the financial instrument. These
estimates are subjective in nature and involve uncertainties and the exercise of
significant judgement. The fair value of financial assets and financial
liabilities approximates their carrying value due to their short term maturity.
The classification of the financial instruments as well as their carrying values
is shown in the table below:
----------------------------------------------------------------------------
Other Total
Held for Loans and Financial Carrying
March 31, 2010 Trading Receivables Liabilities Value
----------------------------------------------------------------------------
Financial assets
Cash $ 68,250 $ - $ - $ 68,250
Accounts receivable - 23,721 - 23,721
Other receivables - 1,191 - 1,191
----------------------------------------------------------------------------
$ 68,250 $ 24,912 $ - $ 93,162
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Financial
liabilities
Accounts payable and
accrued liabilities $ - $ - $ 15,917 $ 15,917
Bank loan - - 446 446
Due to related party - - 440 440
----------------------------------------------------------------------------
$ - $ - $ 16,803 $ 16,803
----------------------------------------------------------------------------
----------------------------------------------------------------------------
----------------------------------------------------------------------------
June 30, 2009
Other Total
Held for Loans and Financial Carrying
Trading Receivables Liabilities Value
----------------------------------------------------------------------------
Financial assets
Cash $ 23,757 $ - $ - $ 23,757
Accounts receivable - 22,202 - 22,202
Other receivables - 1,234 - 1,234
----------------------------------------------------------------------------
$ 23,757 $ 23,436 $ - $ 47,193
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Financial
liabilities
Accounts payable and
accrued liabilities $ - $ - $ 15,624 $ 15,624
Bank loan - - 511 511
Due to related party - - 482 482
----------------------------------------------------------------------------
$ - $ - $ 16,617 $ 16,617
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Financial risk management
Financial risk is the risk to the Company's earnings that arises from
fluctuations in market risk (including interest rate risk, foreign currency
risk), credit risk and liquidity risk and the degree of volatility of these
rates. The Company's business practices seek to minimize any potential adverse
effects on the Company's financial performance.
The Company's financial instruments that are included in the consolidated
balance sheets are comprised of cash, accounts receivable, other receivables,
accounts payable and accrued liabilities, bank loans and due to related party.
As at the balance sheet date, there are no significant differences between the
carrying value of these items and their estimated fair values because they are
short-term in nature.
Market risk
Interest risk
Interest rate risk is the risk that the fair value or future cash flows of a
financial instrument will fluctuate because of changes in market interest rates.
The Company's exposure to interest rate fluctuations is primarily related to the
bank loan from Bank of Agriculture Shishi branch under its existing term loan
which bears interest at a floating rate that is reset every three months. The
Company does not use any derivative financial instruments to reduce its exposure
to interest rate risk.
The potential effect of a 100 basis points increase or decrease in interest
rates on the Company's bank loan would impact the Company's net income assuming
all other variables remain constant would be $1 and $1 for the three months
ended March 31, 2010 and 2009, respectively and $4 and $4 for the nine months
ended March 31, 2010 and 2009, respectively.
Foreign Currency risk
Foreign currency risk is the risk that the fair value or future cash flows of a
financial instrument will fluctuate because of changes in foreign currency
exchange rates. The Company has no financial instrument related to currency
risk. The translation of foreign operations to the reporting currency is not
taken into account.
Credit risk
Credit risk is the risk that a counterparty to a financial instrument will
default on its obligations. The Company's maximum exposure to credit risk
consists of the carrying value of its cash, accounts receivable and other
receivables. The Company places its cash with a PRC regulated financial
institution.
Credit risk with respect to accounts receivable is mitigated through the sales
to numerous different customers. No customer accounted for more than 10% of
total sales. In addition, the Company evaluates the financial position of its
customers and regularly reviews their credit limit. Allowances are established
with regards to potential losses. The Company was not exposed to any particular
credit risk concentration for the three or nine months ended March 31, 2010 and
2009, respectively.
Liquidity risk
Liquidity risk is the risk that the Company is not able to meet its financial
obligations as they become due. The Company finances its operations through a
combination of the cash flows from operating activities and bank loans. The
Company's goal is to maintain an optimal level of liquidity through the active
management of the assets and liabilities as well as the cash flows. As at March
31, 2010, the Company had a $446 bank loan with a July 16, 2010 due date,
$15,917 in accounts payable and accrued liabilities and due to related party
$440. All financial liabilities, except for bank loan, have contractual
maturities of less than one month as of March 31, 2010.
14. CAPITAL DISCLOSURE
The Company's objectives when managing capital is to safeguard the entity's
ability to continue as a going concern and continue to provide returns and
benefits for its shareholders. The Company's capital is defined as
interest-bearing bank loans and shareholders' equity as presented on the
consolidated balance sheet excluding accumulated other comprehensive income
(loss). The Company's capital is as follows:
----------------------------------------------------------------------------
March 31, 2010 June 30, 2009
----------------------------------------------------------------------------
Bank loan $ 446 $ 511
Shareholders' equity excluding accumulated
other comprehensive income (loss) 88,979 35,133
----------------------------------------------------------------------------
$ 89,425 $ 35,644
----------------------------------------------------------------------------
----------------------------------------------------------------------------
The Company does not establish quantitative return on capital criteria for
management or internally imposed restrictions, but rather promotes
year-over-year sustainable profitable growth. The Company may adjust its capital
mix in order to manage its capital structure.
The Company is subject to externally imposed capital requirements for the paid
in capital of Mengshida. There has been no change with respect to the overall
capital risk management strategy during the three and nine month periods ended
March 31, 2010.
15. SEGMENTED INFORMATION
The Company's business is considered as operating in one segment based upon the
Company's organizational structure, the way in which the operation is managed
and evaluated, the availability of separate financial results and materiality
considerations. All revenues are generated in China and substantially all of the
Company's capital assets are located in China.
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