QKLS QKL Stores Inc (CE)

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

 WASHINGTON, D.C. 20549

 

FORM 10-Q

 

x	Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

For the quarterly period ended September 30, 2015.

 

or

 

o	Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

For the transition period from                      to                   .

 

Commission File Number 001-34998

 

QKL STORES INC.

(Exact name of registrant as specified in its charter)

 

Delaware		75-2180652
(State or Other Jurisdiction of		(I.R.S. Employer
Incorporation or Organization)		Identification No.)

 

4 Nanreyuan Street

Dongfeng Road

Sartu District

Daqing, P.R. China 163311

(Address of Principal Executive Offices including zip code)

 

011-86-459-4607987

(Registrant’s Telephone Number, Including Area Code)

 

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x              No o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every, Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x              No o

 

Indicate by check mark if the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company

 

Large Accelerated Filer o	Accelerated Filer o	Non-Accelerated Filer o	Smaller reporting company x
		(Do not check if a smaller reporting company)

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Securities Exchange Act).

Yes o              No x

 

The Registrant had 1,522,326 shares of common stock outstanding on November 13, 2015.

 

 

 

QKL STORES, INC.

TABLE OF CONTENTS

 

PART I: FINANCIAL INFORMATION		1
Item 1 – Interim Financial Statements		1
Condensed Consolidated Balance Sheets		1
Condensed Consolidated Statements of Income		2
Condensed Consolidated Statements of Cash Flows		3
Notes to Unaudited Condensed Consolidated Financial Statements		4
Item 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations		19
Item 3 – Quantitative and Qualitative Disclosures about Market Risk		27
Item 4 – Controls and Procedures		27
PART II: OTHER INFORMATION		28
Item 1 – Legal Proceedings		28
Item 1A – Risk Factors		28
Item 2 – Unregistered Sales of Equity Securities and Use Of Proceeds		28
Item 3 – Defaults Upon Senior Securities		28
Item 4 – Mine Safety Disclosures		28
Item 5 – Other Information		28
Item 6 – Exhibits		29
Signatures		30

 

 

i

 

 

PART I. FINANCIAL INFORMATION

 

Item 1. Interim Financial Statements

 

QKL STORES INC. AND SUBSIDIARIES

Condensed Consolidated Balance Sheets

 

		September 30, 2015				December 31, 2014
		(Unaudited)
ASSETS
Cash		$	18,789,468			$	9,013,006
Restricted cash			20,506,868				8,623,748
Accounts receivable			936,843				949,211
Inventories			42,851,508				62,605,754
Other receivables			19,565,180				21,375,611
Prepaid expenses			11,232,673				12,114,028
Advances to suppliers			8,524,899				8,653,037
Deferred income tax assets – current portion			2,828,440				2,839,714
Total current assets			125,235,879				126,174,109
Property, plant and equipment, net			34,335,416				37,843,171
Land use rights, net			637,764				684,375
Deferred income tax assets – non-current portion			59,570				61,681
Other assets			11,886				11,880
Total assets		$	160,280,515			$	164,775,216
LIABILITIES AND SHAREHOLDERS’ EQUITY
Short-term loans		$	70,712,467			$	60,201,757
Accounts payable			35,689,016				37,206,633
Cash card and coupon liabilities			14,489,950				14,539,728
Customer deposits received			1,968,447				2,005,136
Accrued expenses and other payables			22,665,590				23,147,611
Income taxes payable			32,516				241,189
Total current liabilities			145,557,986				137,342,054
Total liabilities			145,557,986				137,342,054
Shareholders’ equity
Common stock, $0.001 par value per share, authorized 100,000,000 shares, issued and outstanding 1,522,326 shares at September 30, 2015 and December 31, 2014			1,522				1,522
Series A convertible preferred stock, par value $0.01, authorized 10,000,000 shares, issued and outstanding 529,412 shares at September 30, 2015 and December 31, 2014			5,294				5,294
Additional paid-in capital			93,746,014				93,746,014
Retained earnings – appropriated			8,338,153				8,338,153
Retained earnings			(102,088,725	)			(89,116,190	)
Accumulated other comprehensive income			14,720,271				14,458,369
Total shareholders’ equity			14,722,529				27,433,162
Total liabilities and shareholders’ equity		$	160,280,515			$	164,775,216

 

 

See notes to unaudited condensed consolidated financial statements.

  

QKL STORES INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Income

 

		(Unaudited)								(Unaudited)
		Three Months Ended September 30,								Nine Months Ended September 30,
		2015				2014				2015				2014
Net sales		$	58,624,419			$	61,121,016			$	207,615,214			$	198,809,303
Cost of sales			48,825,220				50,855,098				173,493,113				165,124,579
Gross profit			9,799,199				10,265,918				34,122,101				33,684,724
Operating expenses:
Selling expenses			10,523,974				13,062,967				37,361,946				35,800,120
General and administrative expenses			1,940,631				2,022,426				6,492,514				7,219,674
Total operating expenses			12,464,605				15,085,393				43,854,460				43,019,794
Loss from operations			(2,665,406	)			(4,819,475	)			(9,732,359	)			(9,335,070	)
Non-operating expense:
Interest income			250,179				241,800				540,008				726,416
Interest expense			(1,432,582	)			(891,855	)			(3,760,497	)			(3,670,486	)
Total non-operating expense			(1,182,403	)			(650,055	)			(3,220,489	)			(2,944,070	)
Loss before income taxes			(3,847,809	)			(5,469,530	)			(12,952,848	)			(12,279,140	)
Income taxes			656				11,357				19,687				21,096
Net loss		$	(3,848,465	)		$	(5,480,887	)		$	(12,972,535	)		$	(12,300,236	)
Comprehensive income statement:
Net loss		$	(3,848,465	)		$	(5,480,887	)		$	(12,972,535	)		$	(12,300,236	)
Foreign currency translation adjustment			(335,070	)			675,064				261,902				(57,107	)
Comprehensive loss		$	(4,183,535	)		$	(4,805,823	)		$	(12,710,633	)		$	(12,357,343
Weighted average number of shares outstanding:
Basic			1,522,326				1,522,326				1,522,326				1,522,326
Diluted			1,522,326				1,522,326				1,522,326				1,522,326
Losses per share:
Basic		$	(2.53	)		$	(3.60	)		$	(8.52	)		$	(8.08	)
Diluted		$	(2.53	)		$	(3.60	)		$	(8.52	)		$	(8.08	)

 

See notes to unaudited condensed consolidated financial statements.

 

QKL STORES INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Cash Flows

 

		(Unaudited)
		Nine Months Ended September 30,
		2015				2014
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss		$	(12,972,535	)		$	(12,300,236	)
Depreciation			3,023,678				5,084,837
Amortization			23,903				24,173
Share-based compensation			-				306,309
Deferred income tax			(88,564	)			(8,770	)
Adjustments to reconcile net income to net cash provided by operating activities:
Accounts receivable			(20,739	)			233,589
Inventories			18,546,323				16,845,228
Other receivables			1,111,685				2,599,829
Prepaid expenses			481,141				2,916,696
Advances to suppliers			(173,189	)			2,829,497
Accounts payable			(251,754	)			(1,606,320	)
Cash card and coupon liabilities			461,646				(293,403	)
Customer deposits received			32,921				212
Accrued expenses and other payables			319,512				211,765
Income taxes payable			(206,596	)			32,248
Net cash provided by operating activities			10,287,432				16,875,654
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property, plant and equipment			(742,895	)			(3,229,057	)
Increase of restricted cash			(12,553,657	)			-
Net cash used in investing activities			(13,296,552	)			(3,229,057	)
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of bank borrowings			(71,758,322	)			(16,259,555	)
Bank loan borrowing			84,716,935				35,771,021
Net cash provided by financing activities			12,958,613				19,511,466
Effect of foreign currency translation			(173,031	)			202,404
Net increase in cash			9,949,493				33,360,467
Cash – beginning of period			9,013,006				9,245,212
Cash – end of period		$	18,789,468			$	42,605,679
Supplemental disclosures of cash flow information:
Interest paid		$	3,760,497			$	3,670,486
Income taxes paid		$	228,360			$	65,184

 

See notes to unaudited condensed consolidated financial statements.

 

 

 

QKL STORES INC. AND SUBSIDIARIES

Notes to Unaudited Condensed Consolidated Financial Statements

 

 

NOTE 1 – ORGANIZATION AND BUSINESS OPERATIONS

 

QKL Stores Inc. (“Store”) was incorporated under the laws of the State of Delaware on December 2, 1986. Store currently operates through a wholly owned subsidiary in the British Virgin Islands: Speedy Brilliant Group Ltd. (“Speedy Brilliant (BVI)”), wholly owned subsidiary of Speedy Brilliant (BVI) located in Mainland China: Speedy Brilliant (Daqing) Ltd. (“Speedy Brilliant (Daqing)” or “WFOE”), operating company located in Mainland China: Daqing Qingkelong Chain Commerce & Trade Co., Ltd. (“Qingkelong Chain”), which Store controls, through contractual arrangements between WFOE and Qingkelong Chain, as if Qingkelong Chain were a wholly owned subsidiary of Store, wholly owned operating subsidiary of Qingkelong Chain located in Mainland China: Daqing Qinglongxin Commerce & Trade Co., Ltd (“Qinglongxin Commerce”) and wholly owned operating company located in Mainland China: Daqing Longqing Microcredit Co., Ltd. (“QKL-LQ”), which Qingkelong Chain controls, through arrangement that absorbs operations risk, as if QKL-LQ were a wholly-owned subsidiary of Qingkelong Chain.

 

The Store and its subsidiaries (hereinafter, collectively referred to as the “Company”) are engaged in the operation of retail chain stores in the PRC. The principal business activity of QKL-LQ is money lending.

 

The Company is a regional supermarket chain that currently operates 25 supermarkets, 16 hypermarkets and 4 department stores in northeastern China and Inner Mongolia. The Company’s supermarkets and hypermarkets sell a broad selection of merchandise including groceries, fresh food and non-food items. A supermarket offers various daily necessities on a self-service basis and averages 2,500 square meters in sales area. A hypermarket is similar to a supermarket but has a larger operating scale, and is typically over 4,500 square meters in sales area. The Company currently has 5 distribution centers servicing its supermarkets.

 

The Company is the first supermarket chain in northeastern China and Inner Mongolia that is a licensee of the Independent Grocers Alliance, or IGA, a United States-based global grocery network. As a licensee of IGA, the Company is able to engage in group bargaining with suppliers and have access to more than 2,000 private IGA brands, including many that are exclusive IGA brands.

 

Principles of Consolidation and Presentation

 

The condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”). The condensed consolidated financial statements include the financial statements of QKL Stores Inc., and its wholly owned subsidiaries. All intercompany accounts, transactions, and profits have been eliminated upon consolidation.

 

The accompanying interim unaudited condensed consolidated financial statements (“Interim Financial Statements”) of the Company and its wholly owned subsidiaries have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and are presented in accordance with the requirements of Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, these Interim Financial Statements do not include all of the information and notes required by GAAP for complete financial statements. These Interim Financial Statements should be read in conjunction with the consolidated financial statements and notes thereto for the fiscal year ended December 31, 2014 included in the Company’s Form 10-K. In the opinion of management, the Interim Financial Statements included herein contain all adjustments, including normal recurring adjustments, considered necessary, in management’s opinion, to present fairly the Company’s financial position, the results of operations and cash flows for the interim periods presented. The operating results and cash flows of the interim periods presented herein are not necessarily indicative of the results to be expected for any other interim period or the full year.

 

As of September 30, 2015, the Company has a negative working capital of $20,322,107 and a loss from operations of $12,972,535. The Company may need additional cash resources to operate during the upcoming 12 months, and the continuation of the Company may be dependent upon the continuing financial support from the financial institutions, investors, directors and/or stockholders of the Company. During the nine month duration of September 30, 2015, the Company has successfully borrowed $84,716,935 from financial institutions. However, there is no assurance that loans, equity or debt offerings will be successful in raising sufficient funds to assure the eventual profitability, operation continuity, and/or future business plan development of the Company. The financial statements do not include any adjustments relating to the recoverability and classification of recorded assets, or the amounts of and classification of liabilities that might be necessary in the event the Company cannot continue in existence.

 

 

NOTE 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Use of Estimates

 

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and 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 materially differ from those estimates.

 

Segment Reporting

 

The Company operates in one industry segment, operating retail chain stores. ASC 280, Segment Reporting, establishes standards for reporting information about operating segments. Given the economic characteristics of the similar nature of the products sold, the type of customer and the method of distribution, the Company operates as one reportable segment as defined by ASC 280, Segment Reporting.

 

Revenue Recognition

 

The Company earns revenue by selling merchandise primarily through its retail stores. Revenue is recognized when merchandise is purchased by and delivered to the customer and is shown net of estimated returns during the relevant period. The allowance for sales returns is estimated based upon historical experience.

 

Cash received from the sale of cash cards (aka “gift cards”) is recorded as a liability, and revenue is recognized upon the redemption of the cash card or when it is determined that the likelihood of redemption is remote (“cash card breakage”) and no liability to relevant jurisdictions exists. The Company determines the cash card breakage rate based upon historical redemption patterns and recognizes cash card breakage on a straight-line basis over the estimated cash card redemption period. The Company recognized approximately nil in cash card breakage revenue for the nine months and three months ended September 30, 2015 and 2014.

 

The Company records sales tax collected from its customers on a net basis, and therefore excludes it from revenue as defined in ASC 605, Revenue Recognition.

 

Included in revenue are sales of returned merchandise to vendors specializing in the resale of defective or used products, which accounted for less than 0.5% of net sales in each of the periods reported.

 

Cost of Sales

 

Cost of sales includes the cost of merchandise, related cost of packaging and shipping cost, and the distribution center costs.

 

 

Selling Expenses

 

Selling expenses include store-related expense, other than store occupancy costs, as well as advertising, depreciation and amortization, utilities, labour costs, preliminary expenses and certain expenses associated with operating the Company’s corporate headquarters.

 

Advertising Costs

 

Advertising costs are expensed as incurred. Advertising expense, net of reimbursement from suppliers, amounted to $108,108 and $127,205 respectively for the nine months ended September 30, 2015 and 2014, and amounted to $73,969 and $66,631 respectively for the three months ended September 30, 2015 and 2014, respectively. Advertising expense is included in selling expenses in the accompanying condensed consolidated statements of income. The Company receives co-operative advertising allowances from vendors in order to subsidize qualifying advertising and similar promotional expenditures made relating to vendors’ products. These advertising allowances are recognized as a reduction to selling expenses when the Company incurs the advertising cost eligible for the credit. Co-operative advertising allowances recognized as a reduction to selling expenses amounted to nil for the nine months and three months ended September 30, 2015 and 2014.

 

Vendor Allowances

 

The Company receives allowances for co-operative advertising and volume purchase rebates earned through programs with certain vendors. The Company records a receivable for these allowances which are earned but not yet received when it is determined the amounts are probable and reasonably estimable, in accordance with ASC 605. Amounts relating to the purchase of merchandise are treated as a reduction of inventory cost and reduce cost of goods sold as the merchandise is sold. Amounts that represent a reimbursement of costs incurred, such as advertising, are recorded as a reduction in selling and administrative expense. The Company performs detailed analyses to determine the appropriate amount of vendor allowances to be applied as a reduction of merchandise cost and selling expenses.

 

Inventories

 

Inventories primarily consist of merchandise inventories and are stated at lower of cost or market and net realizable value. Cost of inventories is calculated on the weighted average basis which approximates cost.

 

Management regularly reviews inventories and records valuation reserves for damaged and defective returns, inventories with slow-moving or obsolescence exposure and inventories with carrying value that exceeds market value. Because of its product mix, the Company has not historically experienced significant occurrences of obsolescence.

 

Inventory shrinkage is accrued as a percentage of revenues based on historical inventory shrinkage trends. The Company performs physical inventory count of its stores once per quarter and cycle counts inventories at its distribution centers once per quarter throughout the year. The reserve for inventory shrinkage represents an estimate for inventory shrinkage for each store since the last physical inventory date through the reporting date.

 

These reserves are estimates, which could vary significantly, either favorably or unfavorably, from actual results if future economic conditions, consumer demand and competitive environments differ from expectations.

 

 

Income Taxes

 

The Company follows ASC 740, Income Taxes, which requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements or tax returns. Under this method, deferred income taxes are recognized for the tax consequences in future years of differences between the tax bases of assets and liabilities and their financial reporting amounts at each period end based on enacted tax laws and statutory tax rates, applicable to the periods in which the differences are expected to affect taxable income. Valuation allowances are established, when necessary, to reduce deferred tax assets to the amount expected to be realized.

 

The Company adopted ASC 740-10-25 on January 1, 2007, which provides criteria for the recognition, measurement, presentation and disclosure of uncertain tax position. The Company must recognize the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such a position are measured based on the largest benefit that has a greater than 50% likelihood of being realized upon ultimate resolution. The Company did not recognize any additional liabilities for uncertain tax positions as a result of the implementation of ASC 740-10-25.

 

Fair Value Measurements

 

ASC 820 defines fair value as the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. When determining the fair value measurements for assets and liabilities required or permitted to be recorded at fair value, the Company considers the principal or most advantageous market in which it would transact and it considers assumptions that market participants would use when pricing the asset or liability.

 

ASC 820 establishes a fair value hierarchy that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. A financial instrument’s categorization within the fair value hierarchy is based upon the lowest level of input that is significant to the fair value measurement. ASC 820 establishes three levels of inputs that may be used to measure fair value: 

 

·

Level 1 – Valuations based on unadjusted quoted prices in active markets for identical assets or liabilities that the Company holds. An active market for the asset or liability is a market in which transactions for the asset or liability occur with sufficient frequency and volume to provide pricing information on an ongoing basis.

 

·

Level 2 – Valuation based on quoted prices in markets that are not active for which all significant inputs are observable, either directly or indirectly.

 

·

Level 3 – Valuations based on inputs that are unobservable and significant to the overall fair value measurement.

 

The Company adopted ASC 820, Fair Value Measurements and Disclosures, on January 1, 2008 for all financial assets and liabilities and non-financial assets and liabilities that are recognized or disclosed at fair value in the consolidated financial statements on a recurring basis (at least annually). ASC 820 defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. The Company has also adopted ASC 820, on January 1, 2009 for non financial assets and non financial liabilities, as these items are not recognized at fair value on a recurring basis. The adoption of ASC 820 for all financial assets and liabilities and non-financial assets and non-financial liabilities did not have any impact on the Company’s consolidated financial statements.

 

 

Financial instruments include cash, accounts receivable, prepayments and other receivables, short-term borrowings from banks, accounts payable and accrued expenses and other payables. The carrying amounts of cash, accounts receivable, prepayments and other receivables, short-term loans, accounts payable and accrued expenses approximate their fair value due to the short-term maturities of these instruments. See footnote 7 regarding the fair value of the Company’s warrants, which are classified as Level 3 liabilities in the fair value hierarchy.

 

Recently Issued Accounting Guidance

 

The FASB has issued Accounting Standards Update (ASU) No. 2015-01, Income Statement - Extraordinary and Unusual Items (Subtopic 225-20): Simplifying Income Statement Presentation by Eliminating the Concept of Extraordinary Items.

 

The FASB issued this ASU as part of its initiative to reduce complexity in accounting standards. The objective of the simplification initiative is to identify, evaluate, and improve areas of U.S. GAAP for which cost and complexity can be reduced while maintaining or improving the usefulness of the information provided to the users of financial statements.

 

This ASU eliminates from U.S. GAAP the concept of extraordinary items. Subtopic 225-20, Income Statement - Extraordinary and Unusual Items, required that an entity separately classify, present, and disclose extraordinary events and transactions. Presently, an event or transaction is presumed to be an ordinary and usual activity of the reporting entity unless evidence clearly supports its classification as an extraordinary item.

 

If an event or transaction meets the criteria for extraordinary classification, an entity is required to segregate the extraordinary item from the results of ordinary operations and show the item separately in the income statement, net of tax, after income from continuing operations. The entity also is required to disclose applicable income taxes and either present or disclose earnings-per-share data applicable to the extraordinary item.

 

The FASB heard from stakeholders that the concept of extraordinary items causes uncertainty because it is unclear when an item should be considered both unusual and infrequent. Additionally, some stakeholders said that although users find information about unusual or infrequent events and transactions useful, they do not find the extraordinary item classification and presentation necessary to identify those events and transactions. Other stakeholders noted that it is extremely rare in current practice for a transaction or event to meet the requirements to be presented as an extraordinary item.

 

This ASU will also align more closely U.S. GAAP income statement presentation guidance with IAS 1, Presentation of Financial Statements, which prohibits the presentation and disclosure of extraordinary items.

 

The amendments in this ASU are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. A reporting entity may apply the amendments prospectively. A reporting entity also may apply the amendments retrospectively to all prior periods presented in the financial statements. Early adoption is permitted provided that the guidance is applied from the beginning of the fiscal year of adoption. The effective date is the same for both public business entities and all other entities.

The FASB has issued an Accounting Standards Update (ASU) No. 2015-02, Consolidation (Topic 810): Amendments to the Consolidation Analysis, which is intended to improve targeted areas of consolidation guidance for legal entities such as limited partnerships, limited liability corporations, and securitization structures (collateralized debt obligations, collateralized loan obligations, and mortgage-backed security transactions).

 

The ASU focuses on the consolidation evaluation for reporting organizations (public and private companies and not-for-profit organizations) that are required to evaluate whether they should consolidate certain legal entities.

 

 

 

In addition to reducing the number of consolidation models from four to two, the new standard simplifies the FASB Accounting Standards Codification™ and improves current GAAP by:

 

- Placing more emphasis on risk of loss when determining a controlling financial interest. A reporting organization may no longer have to consolidate a legal entity in certain circumstances based solely on its fee arrangement, when certain criteria are met.

 

- Reducing the frequency of the application of related-party guidance when determining a controlling financial interest in a variable interest entity (VIE).

 

- Changing consolidation conclusions for public and private companies in several industries that typically make use of limited partnerships or VIEs.

 

The ASU will be effective for periods beginning after December 15, 2015, for public companies. For private companies and not-for-profit organizations, the ASU will be effective for annual periods beginning after December 15, 2016; and for interim periods, beginning after December 15, 2017. Early adoption is permitted, including adoption in an interim period.

 

The FASB has issued Accounting Standards Update (ASU) No. 2015-03, Interest - Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs. The amendments in this ASU require that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. The recognition and measurement guidance for debt issuance costs are not affected by the amendments in this ASU.

 

For public business entities, the amendments are effective for financial statements issued for fiscal years beginning after December 15, 2015, and interim periods within those fiscal years. For all other entities, the amendments are effective for financial statements issued for fiscal years beginning after December 15, 2015, and interim periods within fiscal years beginning after December 15, 2016.

 

Early adoption of the amendments is permitted for financial statements that have not been previously issued.

 

The amendments should be applied on a retrospective basis, wherein the balance sheet of each individual period presented should be adjusted to reflect the period-specific effects of applying the new guidance. Upon transition, an entity is required to comply with the applicable disclosures for a change in an accounting principle. These disclosures include the nature of and reason for the change in accounting principle, the transition method, a description of the prior-period information that has been retrospectively adjusted, and the effect of the change on the financial statement line items (i.e., debt issuance cost asset and the debt liability).

 

The FASB has issued Accounting Standards Update (ASU) No. 2015-04, Compensation - Retirement Benefits (Topic 715): Practical Expedient for the Measurement Date of an Employer’s Defined Benefit Obligation and Plan Assets. For an entity with a fiscal year-end that does not coincide with a month-end, the amendments in this ASU provide a practical expedient that permits the entity to measure defined benefit plan assets and obligations using the month-end that is closest to the entity’s fiscal year-end and apply that practical expedient consistently from year to year. The practical expedient should be applied consistently to all plans if an entity has more than one plan. Employee benefit plans are not within the scope of the amendments.

 

If a contribution or significant event (such as a plan amendment, settlement, or curtailment that calls for a remeasurement in accordance with existing requirements) occurs between the month-end date used to measure defined benefit plan assets and obligations and an entity’s fiscal year-end, the entity should adjust the measurement of defined benefit plan assets and obligations to reflect the effects of those contributions or significant events. However, an entity should not adjust the measurement of defined benefit plan assets and obligations for other events that occur between the month-end measurement and the entity’s fiscal year-end that are not caused by the entity (e.g., changes in market prices or interest rates).

 

If an entity applies the practical expedient and a contribution is made between the month-end date used to measure defined benefit plan assets and obligations and the entity’s fiscal year-end, the entity should not adjust the fair value of each class of plan assets for the effects of the contribution. Instead, the entity should disclose the amount of the contribution to permit reconciliation of the total fair value of all the classes of plan assets in the fair value hierarchy to the ending balance of the fair value of plan assets.

 

An entity is required to disclose the accounting policy election and the date used to measure defined benefit plan assets and obligations in accordance with the amendments in this ASU.

 

The amendments are effective for public business entities for financial statements issued for fiscal years beginning after December 15, 2015, and interim periods within those fiscal years. For all other entities, the amendments are effective for financial statements issued for fiscal years beginning after December 15, 2016, and interim periods within fiscal years beginning after December 15, 2017. Earlier application is permitted. The amendments should be applied prospectively.

 

IFRS does not have a practical expedient that permits an entity to measure defined benefit plan assets and obligations as of the month-end that is closest to the entity’s fiscal year-end (or the month-end that is closest to the date of a significant event that occurred in an interim period), whereas the amendments in this Update provide that practical expedient.

 

The FASB has issued Accounting Standards Update No. 2015-05, Intangibles - Goodwill and Other - Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Fees Paid in a Cloud Computing Arrangement. Existing GAAP does not include explicit guidance about a customer’s accounting for fees paid in a cloud computing arrangement. Examples of cloud computing arrangements include: (a) software as a service; (b) platform as a service; (c) infrastructure as a service; and (d) other similar hosting arrangements.

 

The amendments add guidance to Subtopic 350-40, Intangibles - Goodwill and Other - Internal-Use Software, which will help entities evaluate the accounting for fees paid by a customer in a cloud computing arrangement. The guidance already exists in the FASB Accounting Standards Codification™ in paragraphs 985-605-55-121 through 55-123, but it is included in a Subtopic applied by cloud service providers to determine whether an arrangement includes the sale or license of software.

 

The amendments provide guidance to customers about whether a cloud computing arrangement includes a software license. If a cloud computing arrangement includes a software license, then the customer should account for the software license element of the arrangement consistent with the acquisition of other software licenses. If a cloud computing arrangement does not include a software license, the customer should account for the arrangement as a service contract. The amendments do not change the accounting for a customer’s accounting for service contracts. As a result of the amendments, all software licenses within the scope of Subtopic 350-40 will be accounted for consistent with other licenses of intangible assets.

 

For public business entities, the amendments will be effective for annual periods, including interim periods within those annual periods, beginning after December 15, 2015. For all other entities, the amendments will be effective for annual periods beginning after December 15, 2015, and interim periods in annual periods beginning after December 15, 2016. Early adoption is permitted for all entities.

 

An entity can elect to adopt the amendments either: (1) prospectively to all arrangements entered into or materially modified after the effective date; or (2) retrospectively. For prospective transition, the only disclosure requirements at transition are the nature of and reason for the change in accounting principle, the transition method, and a qualitative description of the financial statement line items affected by the change. For retrospective transition, the disclosure requirements at transition include the requirements for prospective transition and quantitative information about the effects of the accounting change.

 

 

The FASB has issued ASU No. 2015-06, Earnings Per Share (Topic 260): Effects on Historical Earnings per Unit of Master Limited Partnership Dropdown Transactions (a consensus of the FASB Emerging Issues Task Force). The amendments apply to master limited partnerships subject to the Master Limited Partnerships Subsections of Topic 260, Earnings per Share, that receive net assets through a dropdown transaction.

 

The amendments specify that for purposes of calculating historical earnings per unit under the two-class method, the earnings (losses) of a transferred business before the date of a dropdown transaction should be allocated entirely to the general partner. In that circumstance, the previously reported earnings per unit of the limited partners (which is typically the earnings per unit measure presented in the financial statements) would not change as a result of the dropdown transaction. Qualitative disclosures about how the rights to the earnings (losses) differ before and after the dropdown transaction occurs for purposes of computing earnings per unit under the two-class method also are required.

 

Current GAAP does not contain guidance for master limited partnerships that specifies how historical earnings per unit should be affected when a dropdown transaction occurs that is accounted for as a transaction between entities under common control.

 

The amendments are effective for fiscal years beginning after December 15, 2015, and interim periods within those fiscal years. Earlier application is permitted. The amendments should be applied retrospectively for all financial statements presented.

 

The FASB has issued Accounting Standards Update 2015-07, Fair Value Measurement (Topic 820): Disclosures for Investments in Certain Entities That Calculate Net Asset Value per Share (or Its Equivalent). The amendments apply to reporting entities that elect to measure the fair value of an investment using the net asset value per share (or its equivalent) practical expedient.

 

Topic 820, Fair Value Measurement, permits a reporting entity, as a practical expedient, to measure the fair value of certain investments using the net asset value per share of the investment. Currently, investments valued using the practical expedient are categorized within the fair value hierarchy on the basis of whether the investment is redeemable with the investee at net asset value on the measurement date, never redeemable with the investee at net asset value, or redeemable with the investee at net asset value at a future date. For investments that are redeemable with the investee at a future date, a reporting entity must consider the length of time until those investments become redeemable to determine the classification within the fair value hierarchy.

 

The amendments remove the requirement to categorize within the fair value hierarchy all investments for which fair value is measured using the net asset value per share practical expedient. The amendments also remove the requirement to make certain disclosures for all investments that are eligible to be measured at fair value using the net asset value per share practical expedient. Rather, those disclosures are limited to investments for which the entity has elected to measure the fair value using that practical expedient.

 

The amendments are effective for public business entities for fiscal years beginning after December 15, 2015, and interim periods within those fiscal years. For all other entities, the amendments are effective for fiscal years beginning after December 15, 2016, and interim periods within those fiscal years. A reporting entity should apply the amendments retrospectively to all periods presented. The retrospective approach requires that an investment for which fair value is measured using the net asset value per share practical expedient be removed from the fair value hierarchy in all periods presented in an entity’s financial statements. Earlier application is permitted.

 

The FASB has issued ASU No. 2015-08, Business Combinations (Topic 805): Pushdown Accounting-Amendments to SEC Paragraphs Pursuant to Staff Accounting Bulletin No. 115. This ASU amends various SEC paragraphs of the FASB Accounting Standards Codification^TM pursuant to the issuance of SEC Staff Accounting Bulletin No. 115.

 

The FASB has issued Accounting Standards Update (ASU) No. 2015-10, Technical Corrections and Improvements. The amendments cover a wide range of Topics in the FASB Accounting Standards Codification™ (Codification). The amendments generally fall into one of the types of amendments listed below.

 

1. Amendments Related to Differences between Original Guidance and the Codification. These amendments arose because of differences between original guidance (e.g., FASB Statements, EITF Issues, and so forth) and the Codification. These amendments principally carry forward pre-Codification guidance or subsequent amendments into the Codification. Many times, either the writing style or phrasing of the original guidance did not directly translate into the Codification format and style. As a result, the meaning of the guidance might have been unintentionally altered. Alternatively, amendments in this section may relate to guidance that was codified without some text, references, or phrasing that, upon review, was deemed important to the guidance.

 

2. Guidance Clarification and Reference Corrections. These amendments provide clarification through updating wording, correcting references, or a combination of both. In most cases, the feedback suggested that, without these enhancements, guidance may be misapplied or misinterpreted.

 

3. Simplification. These amendments streamline or simplify the Codification through minor structural changes to headings or minor editing of text to improve the usefulness and understandability of the Codification.

 

4. Minor Improvements. These amendments improve the guidance and are not expected to have a significant effect on current accounting practice or create a significant administrative cost to most entities.

 

The amendments represent changes to clarify the Codification, correct unintended application of guidance, or make minor improvements to the Codification that are not expected to have a significant effect on current accounting practice or create a significant administrative cost to most entities. In addition, some of the amendments will make the Codification easier to understand and easier to apply by eliminating inconsistencies, providing needed clarifications, and improving the presentation of guidance in the Codification.

 

Transition guidance varies based on the amendments. The amendments that require transition guidance are effective for all entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. Early adoption is permitted, including adoption in an interim period. All other amendments will be effective upon issuance.

 

The FASB has issued Accounting Standards Update (ASU) No, 2015-11, Inventory (Topic 330): Simplifying the Measurement of Inventory.

 

Topic 330, Inventory, currently requires an entity to measure inventory at the lower of cost or market. Market could be replacement cost, net realizable value, or net realizable value less an approximately normal profit margin.

 

The amendments do not apply to inventory that is measured using last-in, first-out (LIFO) or the retail inventory method. The amendments apply to all other inventory, which includes inventory that is measured using first-in, first-out (FIFO) or average cost.

 

An entity should measure in scope inventory at the lower of cost and net realizable value. Net realizable value is the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. Subsequent measurement is unchanged for inventory measured using LIFO or the retail inventory method.

 

The amendments more closely align the measurement of inventory in GAAP with the measurement of inventory in International Financial Reporting Standards.

 

For public business entities, the amendments are effective for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. For all other entities, the amendments are effective for fiscal years beginning after December 15, 2016, and interim periods within fiscal years beginning after December 15, 2017. The amendments should be applied prospectively with earlier application permitted as of the beginning of an interim or annual reporting period.

 

The FASB has issued Accounting Standards Update (ASU) No. 2015-14, Revenue from Contracts with Customers (Topic 606): Deferral of the Effective Date. In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606). The amendments in ASU 2015-14 defer the effective date of ASU 2014-09 for all entities by one year. Public business entities, certain not-for-profit entities, and certain employee benefit plans should apply the guidance in ASU 2014-09 to annual reporting periods beginning after December 15, 2017, including interim reporting periods within that reporting period. Earlier application is permitted only as of annual reporting periods beginning after December 15, 2016, including interim reporting periods within that reporting period. All other entities should apply the guidance in ASU 2014-09 to annual reporting periods beginning after December 15, 2018, and interim reporting periods within annual reporting periods beginning after December 15, 2019. All other entities may apply the guidance in ASU 2014-09 earlier as of an annual reporting period beginning after December 15, 2016, including interim reporting periods within that reporting period. All other entities also may apply the guidance in ASU 2014-09 earlier as of an annual reporting period beginning after December 15, 2016, and interim reporting periods within annual reporting periods beginning one year after the annual reporting period in which the entity first applies the guidance in ASU 2014-09.

 

The Company has considered all new accounting pronouncements and has concluded that there are no new pronouncements that may have a material impact on results of operations, financial condition, or cash flows, based on current information.

 

 

NOTE 3 – OTHER RECEIVABLES

 

Other receivables consisted of the following:

 

		September 30, 2015 (Unaudited)				December 31, 2014
Deposits		$	4,225,936			$	4,875,360
Purchase deposits			12,077				13,933
Input value added tax receivables			3,432,344				3,959,813
Rebates receivables			3,809,996				4,395,500
Loans to customers			7,893,647				7,910,445
Others			191,180				220,560
Total other receivables		$	19,565,180			$	21,375,611

 

 

NOTE 4 – PROPERTY, PLANT AND EQUIPMENT, NET

 

Property, plant and equipment consisted of the following:

 

		September 30, 2015 (Unaudited)				December 31, 2014
Buildings		$	6,912,440			$	6,960,774
Shop equipment			19,314,584				19,449,637
Office equipment			4,356,532				4,386,994
Motor vehicles			1,562,298				1,573,222
Car park			24,676				24,849
Leasehold improvements			24,529,781				24,701,300
Construction in progress			12,529,910				12,617,522
Total property, plant and equipment			69,230,221				69,714,298
Less: accumulated depreciation and amortization			(34,894,805	)			(31,871,127	)
Total property, plant and equipment, net		$	34,335,416			$	37,843,171

 

The depreciation expenses for the nine months ended September 30, 2015 and 2014 were $3,023,678 and $5,084,837, respectively.

 

 

NOTE 5 – ACCRUED EXPENSES AND OTHER PAYABLES

 

Accrued expenses and other payables consisted of the following:

 

		September 30, 2015 (Unaudited)				December 31, 2014
Accrued expenses		$	16,054,678			$	16,396,107
VAT and other PRC tax payable			217,384				222,007
Repair, maintenance, and purchase of equipment payable			2,701,401				2,758,851
Employee promoters bond deposit			3,692,127				3,770,646
Total accrued expenses and other payables		$	22,665,590			$	23,147,611

 

 

NOTE 6 – EARNINGS PER SHARE

 

The Company calculates earnings per share in accordance with ASC 260, Earnings Per Share, which requires a dual presentation of basic and diluted earnings per share. Basic earnings per share are computed using the weighted average number of shares outstanding during the fiscal year. Potentially dilutive common shares consist of convertible preferred stock (using the if-converted method) and exercisable warrants and stock options outstanding (using the treasury method). Holder of Series A convertible preferred stock participate in dividends of the Company on the same basis as holders of the Company’s common stock and is therefore included in the calculation of basic earnings per share using the two class method.

 

The following table sets forth the computation of basic and diluted (loss) earnings per common stock: 

 

		(Unaudited)								(Unaudited)
		Three Months Ended September 30,								Nine Months Ended September 30,
		2015				2014				2015				2014
Net loss to QKL Stores, Inc. for computing basic net income per share		$	(3,848,465	)		$	(5,480,887	)		$	(12,972,535	)		$	(12,300,236	)
Undistributed earnings allocated to Series A Convertible Preferred Stock			-				-				-
Net loss attributable to ordinary shareholders for computing basic net loss per ordinary share		$	(3,848,465	)		$	(5,480,887	)		$	(12,972,535	)		$	(12,300,236	)
Weighted-average shares of common stock outstanding
Basic			1,522,326				1,522,326				1,522,326				1,522,326
Dilutive shares:
Conversion of series A convertible preferred stock			22,059				22,059				22,059				22,059
Dilutive effect of stock warrants and options			-				-				-				-
Anti-dilutive effect of preferred stock			(22,059	)			(22,059	)			(22,059	)			(22,059	)
Diluted			1,522,326				1,522,326				1,522,326				1,522,326
Basic earnings per share		$	(2.53	)		$	(3.60	)		$	(8.52	)		$	(8.08	)
Diluted earnings per share		$	(2.53	)		$	(3.60	)		$	(8.52	)		$	(8.08	)

 

The 82,208 options were not included in the computation of diluted net earnings per share as their effects would have been anti-dilutive since the average share price for the three months and nine months ended September 30, 2015 and 2014 were lower than the options and warrants exercise price.

 

 

NOTE 7 – STOCK WARRANTS

 

Series A and Series B Stock Warrants

 

As a result of a completed sale of 9,117,647 units for cash proceeds of $15,500,000 on March 28, 2008, the Company issued Series A stock warrants of 242,611 and Series B stock warrants of 241,705 which can be converted on a one-for-one basis into shares of the Company’s common stock. The stock warrants have a five year life and the Series A warrants are exercisable at an equivalent price of $81.60 per share and the Series B are exercisable at an equivalent price of $102.00 per share. These stock warrants expired on March 28, 2014 pursuant to the warrant agreements.

 

The Company used the Black-Scholes option pricing model to determine the fair value of the Series A and B stock warrants on March 28, 2008 (assumptions used – expected life of 5 years, volatility of 89%, risk free interest rate of 2.51%, and expected dividend yield of 0%).

 

Effective January 1, 2009, the Company adopted the provisions of FASB ASC Topic 815, “Derivatives and Hedging” (“ASC 815”) (previously EITF 07-5, “Determining Whether an Instrument (or an Embedded Feature) is Indexed to an Entity’s Own Stock”). As a result of adopting ASC 815, warrants to purchase 484,315 of the Company’s common stock previously treated as equity pursuant to the derivative treatment exemption were no longer afforded equity treatment as there was a down-round protection (full-ratchet down round protection). As a result, the warrants were not considered indexed to the Company’s own stock, and as such, all future changes in the fair value of these warrants were recognized in earnings until such time as the warrants are exercised or expire. The Company reclassified the fair value of these warrants from equity to liability, as if these warrants were treated as a derivative liability. On January 1, 2009, the Company recorded as a cumulative effect adjustment of decreasing additional paid-in capital of $6,020,000 and beginning retained earnings of $2,792,017 and $8,812,017 to warrant liabilities to recognize the fair value of such warrants. The fair value of the warrants was $44,304,034 on December 31, 2009. The Company recognized $35,492,017 loss from the change in fair value of warrants for the year ended December 31, 2009.

 

The Company amended Series A and Series B stock warrant agreements deleting the down-round protection (full-ratchet down round protection) provision on March 24, 2010. As a result of this amendment, the Company is no longer required to treat Series A and Series B warrants as a liability and was reclassified to equity as of March 24, 2010 (assumption used – expected life of 3 years, volatility of 57%, and risk free interest rate of 1.67%, and expected dividend yield of 0%). Based on the revaluation, the Company recognized $7,801,649 of income related to this transaction and reclassified $36,502,385 to equity for the year ended December 31, 2010.

 

Warrant C

 

On January 22, 2010, the Company issued a warrant (“Warrant C”) to a non-related individual in exchange for consulting services relating to operational and managerial experience. Warrant C can be converted into 8,333 shares of the Company’s common stock at an exercise price of $120 per share. Warrants C has a five year term and became exercisable 180 days from the date of issuance of Warrant C.

 

The Company recognized share-based compensation cost based on the grant-date fair value estimated in accordance with ASC 505-50 “equity based payments to non-employees”. The fair value of these stock warrants on the date of grant was estimated using the Black-Scholes method (assumption used – expected life of 2.75 years, volatility of 54%, and risk free interest rate of 1.25%, and expected dividend yield of 0%). The Company recognized $558,180 of compensation expense related to this transaction.

 

A summary of the Company’s stock warrant activities are as follows:

 

		Shares				Weighted Average Exercise Price				Weighted Average Remaining Contractual Term
Balance – December 31, 2014			8,333			$	120.00			$	0.06
Exercised			-				-				-
Cancelled			-				-				-
Balance – September 30, 2015			8,333			$	120.00			$	0.00

 

 

NOTE 8 – SHARED BASED COMPENSATION

 

Under the 2009 Omnibus Securities and Incentive Plan, on September 14, 2009, the Company entered into stock option agreements with its three independent directors, granting each director options to purchase 833 shares of the Company’s common stock at an exercise price of $192.00 per share. The options vest in approximately equal amounts on the three subsequent anniversary dates of the grant and expire on the fifth anniversary of the date of agreement of or the date the option is fully exercised. On January 30, 2010, the Company entered into amendment agreements with its three directors to correct the exercise price to $180.00, which was the fair market value on the date of the grant. The correction of this error was considered immaterial.

 

Under the 2009 Omnibus Securities and Incentive Plan, on June 26, 2010, the Company granted its Chief Operating Officer, Alan Stewart and 20 employees options to acquire 86,250 shares of the Company's common stock at an exercise price of $105.60 per share. The options vest in approximately equal amounts on the four subsequent anniversary dates of the grant and expire on the eighth anniversary of the date of agreement of or the date the option is fully exercised. On June 17, 2011, Mr. Alan Stewart resigned from his position as Chief Operating Officer of QKL Stores Inc. This has no material impact on the Company’s consolidated financial statements.

 

Under the 2009 Omnibus Securities and Incentive Plan, on December 2, 2010, the Company granted its Chief Financial Officer, Tsz-Kit Chan options to acquire 4,167 shares of the Company's common stock at an exercise price of $82.08 per share. The options vest in approximately equal amounts on the four subsequent anniversary dates of the grant and expire on the eighth anniversary of the date of agreement of or the date the option is fully exercised.

 

The Company accounts for its share-based compensation in accordance with ASC 718 and recognizes compensation expense using the fair-value method on a straight-line basis over the requisite service period for share option awards and non-vested share awards granted which vested during the period. The fair value for these awards was estimated using the Black-Scholes option pricing model on the date of grant with the following assumptions:

 

		September 14, 2009				June 26, 2010				December 2, 2010
Expected life (years)			3.5				3.25				3.25
Expected volatility			41.2	%			53	%			44.9	%
Risk-free interest rate			1.69	%			1.49	%			0.96	%
Dividend yield			-				-				-

 

The expected volatilities are based on the historical volatility of the Company’s common stock. The observation is made on a weekly basis. The observation period covered is consistent with the expected life of the options. The expected life of stock options is based on the minimum vesting period required. The risk-free rate is consistent with the expected terms of the stock options and is based on the United States Treasury yield curve in effect at the time of grant.

 

 

Stock-based compensation expenses recognized was nil for the nine months ended September 30, 2015. A summary of the Company’s stock options activities under the 2009 Omnibus Securities and Incentive Plan are as follows:

 

		Shares				Weighted Average Exercise Price				Weighted Average Remaining Contractual Term(Years)				Intrinsic Value
Outstanding – December 31, 2014			82,208			$	104.41				-			$	-
Granted			-				-				-				-
Exercised			-				-				-				-
Forfeited			-				-				-				-
			-				-				-				-
Outstanding– September 30, 2015			82,208			$	104.41				-			$	-
Exercisable – September 30, 2015			82,208			$	104.41				-			$	-

 

As of September 30, 2015, there was nil of total unrecognized compensation cost related to non-vested share option awards granted.

 

 

NOTE 9 - COMMITMENTS AND CONTINGENCIES

 

Operating Leases

 

Certain of our real properties and equipment are operated under lease agreements. Rental expense under operating leases was as follows:

 

		(Unaudited)								(Unaudited)
		Three Months Ended  September 30								Nine Months Ended September 30
		2015				2014				2015				2014
Rent expense		$	2,011,502			$	1,443,206			$	6,705,008			$	5,734,770
Less: Sublease income			(506,490	)			(491,912	)			(1,857,133	)			(983,552	)
Total rent expense, net		$	1,505,012			$	951,294			$	4,847,875			$	4,751,218

 

Annual minimum payments under operating leases are as follows:

 

As of September 30,		Minimum Lease Payment				Sublease Income				Net Minimum Lease Payment
2016		$	12,043,519				1,926,543				10,116,976
2017			11,908,446				-				11,908,446
2018			11,026,437				-				11,026,437
2019			10,696,817				-				10,696,817
2020			10,272,926				-				10,272,926
Thereafter			76,651,039				-				76,651,039
Total		$	132,599,184				1,926,543				130,672,641

 

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

The following discussion and analysis of the QKL Stores Inc. and subsidiaries (“we”, “our”, “us”) financial condition and results of operations includes information with respect to our plans and strategies for our business and should be read in conjunction with our interim unaudited condensed consolidated financial statements and related notes (“Interim Financial Statements”) included herein and our consolidated financial statements and related notes, and Management’s Discussion and Analysis of Financial Condition and Results of Operations contained in our Form 10-K for the fiscal year ended December 31, 2014.

 

Overview

 

We are a regional supermarket chain that currently operates 24 supermarkets, 17 hypermarkets and 4 department stores in northeastern China and Inner Mongolia. Our supermarkets and hypermarkets sell a broad selection of merchandise including groceries, fresh food and non-food items. A supermarket offers various daily necessities on a self-service basis and averages 2,500 square meters in sales area. A hypermarket is similar to a supermarket but has a larger operating scale, and is typically over 4,500 square meters in sales area. We currently have 5 distribution centers servicing our supermarkets.

 

We are the first supermarket chain in northeastern China and Inner Mongolia that is a licensee of the Independent Grocers Alliance, or IGA, a United States-based global grocery network. As a licensee of IGA, we are able to engage in group bargaining with suppliers and have access to more than 2,000 private IGA brands, including many that are exclusive IGA brands.

 

Our expansion strategy emphasizes growth through geographic expansion in northeastern China and Inner Mongolia, where we believe local populations can support profitable supermarket operations, and where we believe competition from large foreign and national supermarket chains, which generally have resources far greater than ours, is limited. Our strategies for profitable operations include buy-side initiatives to reduce supply costs; focusing on merchandise with higher margins, such as foods we prepare ourselves and private label merchandise; and increasing reliance on the benefits of membership in the international trade group IGA.

 

We completed the initial steps in the execution of our expansion plan in March 2008, when we raised financing through the combination of our reverse merger and private placement and also raised additional financing in our public offering in the fourth quarter of 2009. Under our expansion plan, we opened:

 

·

ten new stores in 2008 that have in the aggregate approximately 42,000 square meters of space

 

·

seven new stores in 2009 that have, in the aggregate, approximately 32,000 square meters of space

 

·

nine new stores in 2010 that have in the aggregate approximately 74,189 square meters of space

 

·

fourteen new stores in the 2011 that have in the aggregate approximately 101,000 square meters of space

 

·

one new store in 2012 that has approximately 5,700 square meters of space

 

·

five new stores in 2014 that have, in the aggregate approximately 46,051 square meters of space

 

We are making improvements to our logistics and information systems to support our supermarkets. We expect to finance our expansion plan from funds generated from operations and bank loans.

 

  

On March 28, 2012, QKL-China formed QKL-LQ for money lending business. Currently, the business activity of QKL-LQ is immaterial.

 

On June 11, 2012, we completed a 1-for-3 reverse stock split of our common stock (the “2012 Stock Split”), such that for each three shares outstanding prior to the 2012 Stock Split there was one share outstanding after the 2012 Stock Split.

 

On February 4, 2013, we completed a 1-for-8 reverse stock split of our common stock (the “2013 Stock Split”), such that for each eight shares outstanding prior to the 2013 Stock Split there was one share outstanding after the 2014 Stock Split.

 

Our Operations in China

 

Our headquarters and all of our stores are located in the provinces of northeastern China and Inner Mongolia. The economy of this area has grown rapidly over the last four to five years and we believe that the national government is committed to enhancing economic growth in the region. In December 2003, a major economic-development plan for northeastern China, the “Plan for Revitalizing Northeast China,” was announced by an office of the national government’s State Council.

 

Based on our own research, we believe there are approximately 200 to 300 small and medium-sized cities in northeast China without modern supermarket chains. We believe the number of supermarket customers and the demand for supermarkets in these cities are likely to grow significantly over the next several years as the region continues to experience urbanization.

 

Our Strategy for Growth and Profitability

 

Our strategic plan includes the following principal components: expanding by opening stores in new strategic locations, and improving profitability by decreasing the cost through resource purchase, setting up distribution centers and increasing the percentage of our sales attributable to private label merchandise, membership sales and gift card sales.

 

Expanded Operations

 

As of September 30, 2015, we operated 24 supermarkets, 17 hypermarkets, 4 department stores, and 5 distribution centers, located in Daqing, Harbin, Changchun and Jiamusi. We are making improvements to our logistics and information systems to support our supermarkets. We expect to finance our expansion plan from funds generated from operations and bank loans.

 

Private Label Merchandise

 

Some of the merchandise we sell is made to our specifications by manufacturers using the QKL brand name. We refer to such merchandise as “private label” merchandise. With private label merchandise, we entrust the manufacturer to make the product and to select the name and design. Under our agreements with the private label manufacturer, the private label manufacturers cannot sell the product to any other party. Sales of private label merchandise accounted for approximately 6.0% of our total revenues for the first three months and nine months ended September 30, 2015 and 2014. In June 2008, we established a specialized department for designing and purchasing private label merchandise, in which 7 full-time employees currently work. Our goal is to increase private label sales to 20% of our total revenues.

 

Principal Factors Affecting Our Results

 

The following factors have had, and we expect they will continue to have, a significant effect on our business, financial condition and results of operations.

  

Seasonality – Our business is subject to seasonality, with increased sales in the first quarter and fourth quarter, due to increases in shopping and consumer activity as a result of the holidays such as New Year (January 1), Chinese Lunar New Year (January or February), the Dragon Festival (February 2), Women’s Day (March 8), the Back to School Day (March 1), National Day (October 1), Mid-Autumn Festival (September or October) and Christmas (December 25).

 

Timing of New Store Openings – Growth through new store openings is a fundamental part of our strategy. Our new stores typically operate at a loss for approximately three months due to start-up inventory and other costs, promotional discounts and other marketing costs and strategies associated with new store openings, rental expenses and costs related to hiring and training new employees. Our operating results, and in particular our gross margin, have and will continue to vary based in part on the pace of our new store openings.

 

Locations for New Store – Good commercial space that meets our standards, in locations that meet our needs, may be scarce in some of the cities we wish to enter. One option for entering certain target markets within our intended timeframe may be to begin operations in a location that is not optimal and wait for an opportunity to move to a better location. Alternatively, we may seek to enter into a target market through acquisitions. As such, the timing and costs associated with entry into new markets can be difficult to predict. Identifying and pursuing opportunities will be a resource-intensive challenge, and if we do not perform or if actual costs of entering new markets exceed our expectations, our total revenues, cash flows, and liquidity could suffer.

 

Logistics of Geographic Expansion – Opening additional stores in cities further from our headquarters in Daqing will mean that the transportation of our supplies and personnel among our stores will become more difficult and subject to disruption. To alleviate this, we have opened a new distribution center in Shenyang in November 2011. We started using our regional purchasing systems in 2008. All fresh food is ordered by individual stores based on their needs from local vendors designated by our headquarters or regional purchasing department and is delivered directly by the local vendors to individual stores. A portion of our non-perishable food and non-food items are distributed from our distribution center to our different stores, and the remaining portion is purchased by our regional purchasing department or headquarters and delivered directly to individual stores. Long-distance transportation for both food and non-food items from our distribution center to our stores can be challenging in the winter as the roads can be covered with snow. As we expand in territories further from our existing or planned distribution facilities, the costs of delivering food and merchandise may become less predictable and more volatile.

 

Human Resources – In our experience, it takes approximately three months to train new employees to operate a new store. Training and supervision is organized by experienced teachers in our training school. The management team for a new store is hired first and is trained in our training school, where they learn our culture and operations. Employees are hired afterwards, and are trained by both our teachers and the management team. In addition, the management team and the employees are sent to existing stores to get practical training from the employees and management team members in those stores. Eventually, local employees must learn to perform the training and supervisory roles themselves. If we do not perform well in response to these challenges, our operating costs will rise and our margins will fall.

 

Shortages of Trained Staff in Our New Locations – Opening stores in locations with little or no competition from other large supermarkets is a major part of our strategy. However, there are disadvantages to this approach, which relate to human resources. Where competitors operate supermarkets nearby, their trained staff is a potential source for our own human resources needs, especially if we offer a superior compensation package. Cities that have no large supermarkets also have no sources of trained employees. Although we believe we have a good training school, from time to time we have to send experienced management team members from our headquarters or other stores to new stores to provide assistance. This increases our cost of operating and decreases our gross margin.

 

Critical Accounting Estimates

 

As discussed in Part II, Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations, of our Annual Report on Form 10-K for the fiscal year ended December 31, 2014, we consider our estimates on revenue recognition, vendor allowances, and inventory valuation to be the most critical in understanding the judgments that are involved in preparing our consolidated financial statements. There have been no significant changes to these estimates in the nine months ended September 30, 2015.

 

Recently Issued Accounting Guidance

 

See Note 2 to condensed consolidated financial statements included in Item 1, Interim Financial Statements, of this Quarterly Report on Form 10-Q.

 

Results of Operations

 

Three months ended September 30, 2015 compared with three months ended September 30, 2014

 

The following table sets forth selected items from our condensed consolidated statements of income by dollar and as a percentage of our net sales for the periods indicated:

 

		(Unaudited)								(Unaudited)
		Three Months Ended								Three Months Ended
		September 30, 2015								September 30, 2014
		Amount				% of Net Sales				Amount				% of Net Sales
Net sales		$	58,624,419				100.0	%		$	61,121,016				100.0	%
Cost of sales			48,825,220				83.3				50,855,098				83.2
Gross profit			9,799,199				16.7				10,265,918				16.8
Selling expenses			10,523,974				18.0				13,062,967				21.4
General and administrative expenses			1,940,631				3.3				2,022,426				3.3
Operating loss			(2,665,406	)			(4.5	)			(4,819,475	)			(7.9	)
Interest income			250,179				0.4				241,800				0.4
Interest expense			1,432,582				2.4				891,855				1.5
Loss before income taxes			(3,847,809	)			(6.6	)			(5,469,530	)			(8.9	)
Income taxes			656				0.0				11,357				0.0
Net loss		$	(3,848,465	)			(6.6	)%		$	(5,480,887	)			(9.0	)%

 

Net Sales – Net sales decreased by $2.5 million, or 4.1%, to $58.6 million for the three months ended September 30, 2015 from $61.1 million for the three months ended September 30, 2014. The change in net sales was primarily attributable to the following:

 

§

Same store sales represents sales from stores that were opened for at least one year before the beginning of the comparison period, or by January 1, 2014. Same store (42 stores) sales generated approximately $54.8 million in sales in the third quarter of 2015, a decrease of $4.4 million, or 7.4% compared with $59.2 million in net sales in the third quarter of 2014.

 

 

§

New store sales increased, reflecting the opening of 3 new stores since January 1, 2014. These stores generated approximately $3.8 million in sales in the third quarter of 2015

 

§

The number of stores including supermarkets/hypermarkets and department stores at September 30, 2015 was 45 versus 47 at September 30, 2014.

 

Cost of Sales – Our cost of sales for the three months ended September 30, 2015 was approximately $48.8 million, representing a decrease of $2.0 million, or 4.0%, from approximately $50.9 million for the same period in 2014. The decrease was due to the decrease in volume of sales. Our cost of sales primarily consists of the cost for our merchandise; it also includes costs related to packaging and shipping and the distribution center costs.

 

Gross Profit – Gross profit, or total revenue minus cost of sales, decreased by $0.5 million, or 4.5%, to $9.8 million, or 16.7% of net sales, in the third quarter of 2015 from $10.3 million, or 16.8% of net sales, in the third quarter of 2014. The change in gross profit was primarily attributable to a decrease in net sales of $2.5 million and a decrease in cost of sales of $2.0 million in the third quarter of 2015 compared to the third quarter of 2014. The decrease in gross profit relative to net sales was due to competitions arising from the increasing challenge from the online shopping that have significant pricing pressure on our selling of high margin products.

 

New stores tend to be less profitable during their early months of operation. In addition, China’s retail industry in general, and its supermarket industry in particular, are becoming more competitive every year. In this competitive marketplace, it is likely that we will focus on providing our customers with low prices in order to increase our market share and long-term sales volume.

 

Selling Expenses –Selling expenses decreased by $2.5 million, or 19.4%, to $10.5 million, or 18.0% of net sales, in the third quarter of 2015, and $13.1 million, or 21.4% of net sales, in the third quarter of 2014. In specific, labor costs decreased by $0.3 million or 5.2%, to $5.5 million in the third quarter of 2015 from $5.8 million in the third quarter of 2014. Promotion expenses decreased by $0.3 million, or 20.0%, to $1.2 million in the third quarter of 2015 from $1.5 million in the third quarter of 2014. Utilities decreased by $0.2 million, or 11.8%, to $1.5 million in the first quarter of 2015 from $1.7 million in the third quarter of 2014. Preliminary expenses in relation to new store opening was nil and $1.5 million in the third quarter of 2015 and 2014 respectively.

 

General and Administrative Expense –General and administrative expenses decreased by $0.1 million, or 4.0%, to $2.0 million, or 3.3% of net sales, in the third quarter of 2015 from $1.9 million, or 3.3% of net sales, in the third quarter of 2014. There is no significant change to our general and administrative expense.

 

Income Taxes –The provision for income taxes was $656 for the third quarter of 2015 compared with $11,357 for the third quarter of 2014.

 

Net Loss – Our net loss for the third quarter of 2015 was $3.8 million, or $2.53 per diluted share, from net loss of $5.5 million, or $3.60 per diluted share in the prior year period. The number of shares used in the computation of diluted EPS was 1,522,326 for the third quarter of 2015 and 2014.

 

 

Nine months ended September 30, 2015 compared with nine months ended September 30, 2014

 

The following table sets forth selected items from our condensed consolidated statements of income by dollar and as a percentage of our net sales for the periods indicated:

 

		(Unaudited) Nine Months Ended September 30, 2015								(Unaudited) Nine Months Ended September 30, 2014
		Amount				% of Net Sales				Amount				% of Net Sales
Net sales		$	207,615,214				100.0	%		$	198,809,303				100.0	%
Cost of sales			173,493,113				83.6				165,124,579				83.1
Gross profit			34,122,101				16.4				33,684,724				16.9
Selling expenses			37,361,946				18.0				35,800,120				18.0
General and administrative expenses			6,492,514				3.1				7,219,674				3.6
Operating loss			(9,732,359	)			(4.7	)			(9,335,070	)			(4.7	)
Interest income			540,008				0.3				726,416				0.4
Interest expense			3,760,497				1.8				3,670,486				1.8
Income loss before income taxes			(12,952,848	)			(6.2	)			(12,279,140	)			(6.2	)
Income taxes			19,687				0.0				21,096				0.0
Net loss		$	(12,972,535	)			(6.2	)%		$	(12,300,236	)			(6.2	)%

 

Net Sales – Net sales increased by $8.8 million, or 4.4%, to $207.6 million for the nine months ended September 30, 2015 from $198.8 million for the nine months ended September 30, 2014. The change in net sales was primarily attributable to the following:

 

§

Same store sales represent sales from stores that were opened for at least one year before the beginning of the comparison period, or by January 1, 2014. Same store (40 stores) sales generated approximately $180.3 million sales in the first nine months of 2015, an increase of $0.9 million, or 0.5% compared with $179.4 million net sales in the first nine months of 2014.

 

§

New store sales increased, reflecting the opening of 5 new stores since January 1, 2014. These stores generated approximately $24.4 million sales in the first nine months of 2015.

 

§

The number of stores including supermarket/hypermarket and department stores at September 30, 2015 was 45 versus 47 at September 30, 2014.

 

Cost of Sales – Our cost of sales for the nine months ended September 30, 2015 was approximately $173.5 million, representing an increase of $8.4 million, or 5.1%, from approximately $165.1 million for the same period in 2014. The increase was due to the increase in volume of sales. Our cost of sales primarily consists of the cost for our merchandise; it also includes costs related to packaging and shipping and the distribution center costs.

 

Gross Profit – Gross profit, or total revenue minus cost of sales, increased by $0.4 million, or 1.3%, to $34.1 million, or 16.4% of net sales, in the first nine months of 2015 from $33.7 million, or 16.9% of net sales, in the first nine months of 2014. The change in gross profit was primarily attributable to net sales increased by $8.8 million and an increase in cost of sales of $8.4 million in the first nine months of 2015 compared to the first nine months of 2014. The decrease in gross profit relative to net sales was due to competitions arising from the increasing challenge from the online shopping that have significant pricing pressure on our selling of high margin products.

 

 

New stores tend to be less profitable during their early months of operation. In addition, China’s retail industry in general, and its supermarket industry in particular, are becoming more competitive every year. In this competitive marketplace, it is likely that we will focus on providing our customers with low prices in order to increase our market share and long-term sales volume.

 

Selling Expenses – Selling expenses increased by $1.6 million, or 4.4%, to $37.4 million, or 18.0% of net sales, in the first nine months of 2015 from $35.8 million, or 18.0% of net sales in the first nine months of 2014. In specific, labor costs increased by $0.9 million or 5.5%, to $17.4 million in the first nine months of 2015 from $16.5 million in the first nine months of 2014. Promotion expenses increased by $0.5 million, or 15.2%, to $3.8 million in the first nine months of 2015 from $3.3 million in the first nine months of 2014. Utilities increased by $0.4 million, or 8.7%, to $5.0 million in the first nine months of 2015 from $4.6 million in the first nine months of 2014.

 

General and Administrative Expense –General and administrative expenses decreased by $0.7 million, or 10.1%, to $6.5 million, or 3.1% of net sales, in the first nine months of 2015 from $7.2 million, or 3.6% of net sales, in the first nine months of 2014. The decrease was mainly due to the control of our administrative expenses.

 

Income Taxes –The provision for income taxes was $19,687 for the first nine months of 2015 compared with $21,096 for the first nine months of 2014.

 

Net Income – Net loss for the first nine months of 2015 was $13.0 million, or $8.52 per diluted share compared with net loss of $12.3 million, or $8.08 per diluted share, in the prior year period. The number of shares used in the computation of diluted EPS was 1,522,326 for the first nine months of 2015 and 2014, respectively.

 

Liquidity and Capital Resources

 

Our principal liquidity requirements are for working capital and capital expenditures. We fund our liquidity requirements primarily through cash on hand, cash flow from operations and borrowings from our revolving credit facility. We believe our cash on hand, future funds from operations and borrowings from our revolving credit facility will be sufficient to fund our cash requirements for at least the next twelve months. There is no assurance, however, that we will be able to generate sufficient cash flow or that we will be able to maintain our ability to borrow under our revolving credit facility.

 

At September 30, 2015, we had $39.3 million of cash compared to $42.6 million at September 30, 2014. The following table sets forth a summary of our cash flows for the periods indicated:

 

		(Unaudited)
		Nine Months Ended September 30,
		2015				2014
Net cash provided by operating activities		$	10,287,432			$	16,875,654
Net cash used in investing activities			(13,296,552	)			(3,229,057	)
Net cash provided by financing activities			12,958,613				19,511,466
Effect of foreign currency translation			(173,031	)			202,404
Net increase in cash		$	9,776,462			$	33,360,467

 

  

Seasonality

 

The seasonality of our business historically provides greater cash flow from operations during the holiday and winter selling season, with the fourth quarter net sales traditionally generating the strongest profits of each year. Typically, we use operating cash flow and borrowings under our revolving credit facility to fund inventory increases in anticipation of the holidays and our inventory levels are at their highest in the months leading up to Chinese Spring Festival. As holiday sales significantly reduce inventory levels, this reduction, combined with net income, historically provides us with strong cash flow from operations at the end of each year.

 

Operating Activities –Net cash provided by operating activities for the nine months ended September 30, 2015 and 2014 was $10.3 million and $16.9 million, respectively. The decrease in cash provided by operating activities for the nine months ended September 30, 2015 compared to the same period in 2014 primarily reflects the decrease in net income for the nine months ended September 30, 2015.

 

Investing Activities – Net cash used in investing activities for the first nine months of 2015 was $13.3 million and net cash used in investing activities for the first nine months of 2014 was $3.2 million. The increase in cash used in investing activities for the nine months ended September 30, 2015 compared to the same period in 2014 primarily reflects the increase in restricted cash of $12.6 million for the nine months ended September 30, 2015. Capital expenditures represented substantially all of the net cash used in investing activities for each period. Our capital spending is primarily for new store openings and store-related remodeling.

 

Financing Activities – Net cash provided by financing activities for the first nine months of 2015 and 2014 was $13.0 million and $19.5 million, respectively. Cash provided by financing activities was sourced from short-term bank loans.

 

Loan Facility - On February 13, 2015, QKL Chain entered into a working capital agreement with China CITIC Bank. Under this agreement, QKL Chain borrowed $16.3 million (RMB100 million). The loan is repayable on February 12, 2016 with the current interest rate of 5.89%.

 

On February 28, 2015, QKL Chain entered into a working capital agreement with China CITIC Bank. Under this agreement, QKL Chain borrowed $6.7 million (RMB41 million). The loan is repayable on February 27, 2016 with the current interest rate of 5.95%.

 

On March 18, 2015, QKL Chain entered into a working capital agreement with China CITIC Bank. Under this agreement, QKL Chain borrowed $16.3 million (RMB100 million). The loan is repayable on March 17, 2016 with the current interest rate of 5.89%.

 

On March 26, 2015, QKL Chain entered into a working capital agreement with China CITIC Bank. Under this agreement, QKL Chain borrowed $5.2 million (RMB32 million). The loan is repayable on March 25, 2016 with the current interest rate of 5.95%.

 

The loans from China CITIC Bank were secured by pledged deposit of $20.5 million.

 

On December 4, 2014, QKL Chain entered into a working capital agreement with Industrial and Commercial Bank of China Limited. Under this agreement, QKL Chain borrowed $16.3 million (RMB100 million). The loan is repayable on December 3, 2015 with the current interest rate of 6.72%.

 

On March 30, 2015, QKL Chain entered into a working capital agreement with Industrial and Commercial Bank of China Limited. Under this agreement, QKL Chain borrowed $16.3 million (RMB100 million). The loan is repayable on March 29, 2016 with the current interest rate of 6.42%.

 

Future Capital Requirements – We had cash on hand of $18.8 million as of September 30, 2015. We expect capital expenditures for the remainder of 2015 primarily to fund the opening of new stores, store-related remodeling and relocation.

 

We believe we will be able to fund our cash requirements, for at least the next 12 months from cash on hand, operating cash flows and borrowings from our revolving credit facility. However, our ability to satisfy our cash requirements depends upon our future performance, which in turn is subject to general economic conditions and regional risks, and to financial, business and other factors affecting our operations, including factors beyond our control. There is no assurance that we will be able to generate sufficient cash flow or that we will be able to maintain our ability to borrow under our credit facility.

 

If we are unable to generate sufficient cash flow from operations to meet our obligations and commitments, we will be required to refinance or restructure our indebtedness or raise additional debt or equity capital. Additionally, we may be required to sell material assets or operations, suspend or further reduce dividend payments or delay or forego expansion opportunities. We might not be able to implement successful alternative strategies on satisfactory terms, if at all.

 

Off-Balance Sheet Arrangements and Contractual Obligations – Our material off-balance sheet arrangements are operating lease obligations. We excluded these items from the balance sheet in accordance with generally accepted accounting principles in the United States of America (“GAAP”). Operating lease commitments consist principally of leases for our retail store facilities and distribution center. These leases frequently include options which permit us to extend the terms beyond the initial fixed lease term. With respect to most of those leases, we intend to renegotiate those leases as they expire.

 

In the ordinary course of business, we enter into arrangements with vendors to purchase merchandise in advance of expected delivery. Because most of these purchase orders do not contain any termination payments or other penalties if cancelled, they are not included as outstanding contractual obligations.

 

Item 3. Quantitative and Qualitative Disclosures about Market Risk

 

Pursuant to Item 305(e) of Regulation S-K (§ 229.305(e)), the Company is not required to provide the information required by this Item as it is a “smaller reporting company,” as defined by Rule 229.10(f)(1).

 

Item 4. Controls and Procedures

 

Evaluation of Disclosure Controls and Procedures – We conducted an evaluation, under the supervision and with the participation of our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), of the effectiveness of the design and operation of our disclosure controls and procedures (as such term is defined in Rules13a15(e) and 15d15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) as of the end of the period covered by this report. Based on such evaluation, our CEO and CFO have concluded that, as of the end of such period, our disclosure controls and procedures are not effective, at a reasonable assurance level, in recording, processing, summarizing and reporting, on a timely basis, information required to be disclosed by us in the reports that we file or submit under the Exchange Act and are not effective in ensuring that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is accumulated and communicated to our management, including our CEO and CFO, as appropriate to allow timely decisions regarding required disclosure.

 

In particular, we did not maintain effective controls over the financial reporting process due to an insufficient complement of personnel with a level of accounting knowledge, experience and training in the application of U.S. GAAP commensurate with the Company’s financial requirements. Also, there is an insufficient quantity of dedicated resources and experienced personnel involved in the general controls over information technology on our new ERP system implementation. The lack of sufficient and adequately trained personnel resulted in ineffective top level review, which in turn may affect the timeliness of our periodic financial reporting.

 

 

The conclusion that our internal control over financial reporting was not effective was based on material weaknesses we identified in relation to our financial closing process.

 

Remediation Measures for Material Weaknesses – We have begun to take steps to remediate the material weaknesses described above in “Evaluation of Disclosure Controls and Procedures” and plan to implement the new measures described below in our ongoing efforts to address the internal control deficiencies described above. We plan to further develop policies and procedures governing the hiring and training of personnel to better ensure sufficient personnel with the requisite knowledge, experience and training in the application of generally accepted accounting principles commensurate with our financial reporting and U.S. GAAP requirements. We plan to utilize qualified internal control consultants and supervisors to ensure that our staff has adequate professional knowledge and to monitor the need for additional or better qualified staff. In addition, we plan to utilize appropriate training programs on accounting principles and procedures to better ensure the adequacy of our accounting and finance personnel. We plan to continue to develop our corporate culture toward emphasizing the importance of internal controls and to ensure that all personnel involved in maintaining proper internal controls recognize the importance of strictly adhering to accounting principles accepted in the United States of America. We plan to continue to provide additional training to the Company’s internal audit staff on appropriate controls and procedures necessary to document and evaluate our internal control procedures.

 

Changes in Internal Control over Financial Reporting – During the third quarter ended September 30, 2015, no changes occurred with respect to our internal control over financial reporting that materially affected, or are reasonably likely to materially affect, internal control over financial reporting.

 

 

PART II. OTHER INFORMATION

 

ITEM 1. LEGAL PROCEEDINGS

 

None.

 

ITEM 1A. RISK FACTORS

 

As a smaller reporting company, the Company is not required to make disclosures under this Item 1A.

 

ITEM 2: UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

 

None.

 

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

 

None.

 

ITEM 4. MINE SAFETY DISCLOSURES

 

Not applicable.

 

ITEM 5. OTHER INFORMATION

 

None.

 

  

ITEM 6: EXHIBITS

 

The exhibits listed on the Exhibit Index are provided as part of this report.

 

EXHIBIT INDEX

 

Exhibit No.		Name of Exhibit
31.1		Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2		Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1		Certification of Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101		The following financial statements from QKL Stores Inc.’s Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2015 formatted in XBRL (eXtensible Business Reporting Language): (i) the Condensed Consolidated Balance Sheets; (ii) the Condensed Consolidated Statements of Income; (iii) the Condensed Consolidated Statements of Cash Flows; and (iv) the Notes to Unaudited Condensed Consolidated Financial Statements, tagged in detail.

 

 

 

SIGNATURES

 

Pursuant to the requirements of Section 13 or 15(d) 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 authorized.

 

	QKL STORES INC.
Dated: November 16, 2015	By:	/s/ Zhuangyi Wang
		Zhuangyi Wang
		Chief Executive Officertnc
		(Principal Executive Officer)
	By:	/s/ Tsz-Kit Chan
		Tsz-Kit Chan
		Chief Financial Officer
		(Principal Financial and Accounting Officer)

 

 

 

Exhibit 31.1

 

 

Certification of Chief Executive Officer

Pursuant to Rule 13A-14(A)/15D-14(A)

of the Securities Exchange Act of 1934

 

I, Zhuangyi Wang, Chief Executive Officer (Principal Executive Officer), certify that:

 

1.  I have reviewed this Quarterly Report on Form 10-Q for the period ended September 30, 2015 of QKL Stores Inc.;

 

2.  Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

 

3.  Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

 

4.  The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

 

a. designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

 

b. designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

 

c. evaluated the effectiveness of registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

 

d. disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

 

5.  The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

 

a. all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

 

b. any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls over financial reporting.

 

Dated: November 16, 2015	By:	/s/Zhuangyi Wang
		Zhuangyi Wang
		Chief Executive Officer

 

 

 

 

 

Exhibit 31.2

 

 

Certification of Chief Financial Officer

Pursuant to Rule 13A-14(A)/15D-14(A)

of the Securities Exchange Act of 1934

 

I, Tsz-Kit Chan, Chief Financial Officer (Principal Financial and Accounting Officer), certify that:

 

1.  I have reviewed this Quarterly Report on Form 10-Q for the period ended September 30, 2015 of QKL Stores Inc.;

 

2.  Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

 

3.  Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

 

4.  The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

 

a. designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

 

b. designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

 

c. evaluated the effectiveness of registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

 

d. disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

 

5.  The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

 

a. all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

 

b. any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls over financial reporting.

 

Dated: November 16, 2015	By:	/s/Tsz-Kit Chan
		Tsz-Kit Chan
		Chief Financial Officer (Principal Financial and Accounting Officer)

 

 

 

 

 

Exhibit 32.1

 

 

 

CERTIFICATION PURSUANT TO

18 U.S.C. SECTION 1350 AND EXCHANGE ACT RULES 13a-14(b) AND 15d-14(b)

 (Section 906 of the Sarbanes-Oxley Act of 2002)

 

 

In connection with the Quarterly Report of QKL Stores Inc. on Form 10-Q for the period ended September 30, 2015, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), each of the undersigned do hereby certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:

 

(1) the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

 

(2) the information contained in the Report fairly presents, in all material respects, the financial condition and results of the operations of the Company.

 

Dated: November 16, 2015	By:	/s/Zhuangyi Wang
		Zhuangyi Wang
		Chief Executive Officer

 

 

Dated: November 16, 2015	By:	/s/Tsz-Kit Chan
		Tsz-Kit Chan
		Chief Financial Officer