Item 5. Other Information
Item 5. Other Information.
None.
Item 6. Exhibits.
The following documents are filed herewith:
Exhibit
Number
Document
3(i).1
Third Amended and Restated Articles of Association of the Registrant (1)
3(ii).1
Third Amended and Restated Memorandum of Association of the Registrant (1)
4.1
Specimen Share Certificate (1)
10.1
Form of Share Option Plan (1)
10.2
Summary translation of lease agreement for product center (2)
10.3
Translation of lease agreement for principal executive office dated December 21, 2009, effective January 1, 2010 (1)
10.4
Distribution agreement with IMD (2)
10.5
Distribution agreement with Timesco (2)
10.6
Translation of distribution agreement with JMS (2)
10.7
Translation of form of independent distributor agreement (1)
10.8
Translation of letter of credit agreement with ICBC (2)
10.9
Translation of Executive Officer Employment Agreement for Ping Chen (1)
10.10
Translation of Executive Officer Employment Agreement for Weibing Yang (1)
10.11
Translation of Executive Officer Employment Agreement for Yanying Qi (2)
10.12
Translation of Executive Officer Employment Agreement for Xiaoqing Wang (2)
10.13
Translation of form of Purchase Agreement with Poverty Aid Office (1)
10.14
Translation of Production Agreement with Friend of Health (Chuzhou) Medical Technology Co., Ltd. (1)
10.15
Description of oral loan contract between BTL and BDL (1)
10.16
Loss Absorption Agreement between BDL, BTL and shareholders of BTL (1)
21.1
Subsidiaries of the Registrant (1)
31.1
Certifications pursuant to Rule 13a-14(a) or 15(d)-14(a) under the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (2)
14
31.2
Certifications pursuant to Rule 13a-14(a) or 15(d)-14(a) under the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (2)
32.1
Certifications pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (2)
32.2
Certifications pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (2)
99.1
Code of Business Conduct and Ethics (1)
99.2
Audit Committee Charter (3)
(1)
Incorporated by reference to the registrant’s registration statement on Form S-1, File no. 333-163041, filed on November 12, 2009, as amended.
(2)
Filed herewith.
(3)
Incorporated by reference to the registrant’s annual report on Form 10-K, File no. 001-34661, filed on September 30, 2010.
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
DEHAIER MEDICAL SYSTEMS LIMITED
November 10, 2011
By:
/s/ Ping Chen
Ping Chen
Chief Executive Officer
(Principal Executive Officer) and
Duly Authorized Officer
15
DEHAIER MEDICAL SYSTEMS LIMITED AND AFFILIATE
INDEX TO FINANCIAL STATEMENTS
PAGE
UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Condensed Consolidated Balance Sheets as of September 30, 2011 and December 31, 2010
F-2
Condensed Consolidated Statements of Income and Comprehensive Income for the nine and three months ended September 30, 2011 and 2010
F-3
Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2011 and 2010
F-4
Notes to the Unaudited Condensed Consolidated Financial Statements
F-5
F-1
DEHAIER MEDICAL SYSTEMS LIMITED AND AFFILIATE
CONDENSED CONSOLIDATED BALANCE SHEETS
（ UNAUDITED ）
September 30,
December 31,
2011
2010
US$
US$
ASSETS
CURRENT ASSETS:
Cash and cash equivalents
2,600,907
5,923,386
Accounts receivable-less allowance for doubtful accounts of $90,546 and $87,555 at September 30, 2011 and December 31, 2010, respectively
15,032,529
9,112,077
Other receivables
3,705,809
3,164,423
Prepayment and other current assets
8,372,633
5,300,825
Inventories, net
6,436,764
6,374,363
Tax receivable
4,789,318
3,518,919
Total Current Assets
40,937,960
33,393,993
Property and equipment, net
3,366,266
3,488,947
Total Assets
44,304,226
36,882,940
LIABILITIES AND EQUITY
CURRENT LIABILITIES:
Short-term borrowings
1,566,350
1,514,620
Accounts payable
38,750
29,318
Advances from customers
465,848
269,189
Accrued expenses and other current liabilities
357,501
330,601
Tax payable
11,356,652
8,327,708
Warranty obligation
311,760
301,464
Due to officer
-
2,358
Total Current Liabilities
14,096,861
10,775,258
OTHER LIABILITIES
Warrants liability
140,751
318,109
Total Liabilities
14,237,612
11,093,367
Commitments and Contingency
Equity
Common shares, $0.002731 par value, 18,307,038 shares authorized, 4,510,000 and 4,500,000 shares issued and outstanding at September 30, 2011 and December 31, 2010, respectively
12,317
12,290
Additional paid in capital
13,196,357
13,137,085
Retained earnings
13,161,198
9,838,452
Accumulated other comprehensive income
2,312,524
1,474,455
Total Dehaier Medical Systems Limited shareholders’ equity
28,682,396
24,462,282
Non-controlling interest
1,384,218
1,327,291
Total equity
30,066,614
25,789,573
Total liabilities and equity
44,304,226
36,882,940
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
F-2
DEHAIER MEDICAL SYSTEMS LIMITED AND AFFILIATE
CONDENSED CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
(UNAUDITED)
For the nine months ended
September 30,
For the three months ended
September 30,
2011
2010
2011
2010
US$
US$
US$
US$
Revenue
16,354,533
12,930,769
5,689,043
5,458,818
Costs of revenue
(10,098,506
)
(7,776,867
)
(3,272,012
)
(3,199,072
)
Gross profit
6,256,027
5,153,902
2,417,031
2,259,746
Service income
215,069
274,154
58,641
92,648
Service expenses
(83,355
)
(108,825
)
(21,983
)
(40,479
)
General and administrative expense
(1,412,859
)
(875,840
)
(396,692
)
(355,431
)
Selling expense
(1,093,013
)
(834,279
)
(398,520
)
(351,469
)
Operating Income
3,881,869
3,609,112
1,658,477
1,605,015
Financial expenses (including interest expense of $53,915, $48,255, $26,922 and $21,452 for the nine and three months ended September 30, 2011 and 2010, respectively)
(57,689
)
(98,411
)
(30,217
)
(43,725
)
Change in fair value of warrants liability
177,358
114,806
27,491
96,412
Income before provision for income taxes and non-controlling interest
4,001,538
3,625,507
1,655,751
1,657,702
Provision for income tax
(667,400
)
(543,749
)
(270,758
)
(245,569
)
Net income
3,334,138
3,081,758
1,384,993
1,412,133
Non-Controlling interest in income
(11,392
)
(14,561
)
(5,738
)
(4,570
)
Net income attributable to Dehaier Medical Systems Limited
3,322,746
3,067,197
1,379,255
1,407,563
Net Income
3,334,138
3,081,758
1,384,993
1,412,133
Other comprehensive income
Foreign currency translation adjustments
838,069
412,050
326,694
284,892
Comprehensive Income
4,172,207
3,493,808
1,711,687
1,697,025
Comprehensive income attributable to the non-controlling interest
(56,927
)
(40,871
)
(22,682
)
(22,334
)
Comprehensive income attributable to Dehaier Medical Systems Limited
4,115,280
3,452,937
1,689,005
1,674,691
Earnings per share
-Basic
0.74
0.79
0.31
0.31
-Diluted
0.74
0.77
0.31
0.30
Weighted average number of common shares used in computation
-Basic
4,507,582
3,887,868
4,510,000
4,500,000
-Diluted
4,507,582
3,981,094
4,510,000
4,657,500
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
F-3
DEHAIER MEDICAL SYSTEMS LIMITED AND AFFILIATE
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
For the nine months ended
September 30,
2011
2010
US$
US$
Cash flows from operating activities
Net income
3,334,138
3,081,758
Adjustments to reconcile net income to net cash used in operating activities
Stock-based compensation expense
59,300
-
Depreciation and amortization
333,580
261,438
Change in fair value of warrants liability
(177,358
)
114,806
Recovery of doubtful accounts
-
(30,336
)
Recovery of inventory obsolescence
-
(5,756
)
Provision for warranty reserve
-
3,689
Changes in assets and liabilities:
Increase in accounts receivable
(5,920,452
)
(2,153,214
)
Increase in prepayments and other current assets
(3,071,808
)
(4,433,546
)
Increase in other receivables
(541,386
)
(1,608,240
)
Increase in inventories
(62,401
)
(1,969,143
)
Increase in tax receivable
(1,270,399
)
(1,088,309
)
Increase (Decrease) in accounts payable
9,432
(56,675
)
Increase in advances from customers
196,659
262,372
Increase (Decrease) in accrued expenses and other current liabilities
26,900
(80,286
)
Increase in tax payable
3,028,944
2,005,420
Net cash used in operating activities
(4,054,851
)
(5,696,022
)
Cash flows from investing activities
Capital expenditures and other additions
(95,742
)
(839,456
)
Advances to related parties
(2,358
)
(3,861
)
Net cash used in investing activities
(98,100
)
(843,317
)
Cash flows from financing activities
Proceeds from bank loan
1,542,680
-
Repayment of bank loan
(1,533,604
)
-
Net proceeds from issuance of common shares
-
9,944,207
Net cash provided by financing activities
9,076
9,944,207
Effect of exchange rate fluctuations on cash and cash equivalents
821,396
407,861
Net (decrease) increase in cash and cash equivalents
(3,322,479
)
3,812,729
Cash and cash equivalents at beginning of period
5,923,386
1,151,721
Cash and cash equivalents at end of period
2,600,907
4,964,450
Supplemental cash flow information
Income tax paid
13,344
17,197
Interest paid
53,915
48,255
Non-Cash transaction of investing and financing activities
Issuance of common shares for investment relations activities
59,300
-
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
F-4
DEHAIER MEDICAL SYSTEMS LIMITED AND AFFILIATE
NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1.
ORGANIZATION AND PRINCIPAL ACTIVITIES
Dehaier Medical Systems Limited (“Dehaier”) was incorporated in the British Virgin Islands in 2003 as a limited liability company. Dehaier distributes and provides after-sale services for medical equipment in China mainly through its majority-owned subsidiary Beijing Dehaier Medical Technology Co. Limited (“BDL”) and its affiliate Beijing Dehaier Technology Limited (“BTL”). On October 23, 2003, Dehaier established a wholly-owned subsidiary in Hong Kong, De-haier Medical Systems (Hong Kong) Limited (“DHK”) (collectively, the “Company”). Both BDL and BTL were incorporated in the People’s Republic of China (“PRC”). The Company distributes branded, proprietary medical equipment, such as sleep apnea machines, patient monitors, air compressors, and oxygen generators; moreover, standard product registration, product certification and quality management system have been established in the Company. ISO13485 industry standard has also already been passed. It also has the distribution rights for a number of international medical equipment suppliers for products including anesthesia equipment, patient monitors, mobile C-arm X-ray machines and other medical equipment accessories.
2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying condensed consolidated financial statements of the Company are prepared in accordance with accounting principles generally accepted in the United States of America (“US GAAP”).
In the opinion of the Company’s management, the unaudited condensed consolidated financial statements include all adjustments necessary to present fairly the condensed consolidated financial position, results of operations and cash flows of the Company for the periods presented. The results of operations for the nine and three months ended September 30, 2011 are not necessarily indicative of operating results expected for the full year or future interim periods. These unaudited condensed consolidated financial statements should be read in conjunction with the audited financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2010, filed on March 7, 2011.
Basis of Consolidation
The condensed consolidated financial statements include the accounts of Dehaier, BDL, its majority-owned subsidiary, and its wholly-owned subsidiary, DHK as well as BTL. All significant inter-company transactions and balances are eliminated in consolidation.
A group of shareholders, including the Chief Executive Officer, originally held more than 50% of the voting ownership interest of Dehaier, BDL and BTL. BTL is a variable interest entity (“VIE”), and BDL is the primary beneficiary. BTL owns a building, which is pledged as collateral for BDL’s bank loans. In exchange, BDL loans money to BTL to finance its operations. BTL’s primary operation is to provide repairs and transportation services to BDL’s customers. Because of these arrangements, BDL is the primary beneficiary of BTL, as the entity that is most closely associated with BTL. Dehaier has included BTL in its condensed consolidated financial statements through the consolidation with BDL since December 31, 2006. Dehaier, BDL and BTL were under common control until October 31, 2009, when each share of preferred share was converted into a common share. Because the Chief Executive Officer held more than 50% of the voting ownership interest of each of Dehaier, BDL, BTL and DHK at December 31, 2006, the Company initially measured the assets, liabilities and non-controlling interest of the VIE at the amounts at which they were carried in the accounts of the reporting entity that controls the VIE.
F-5
DEHAIER MEDICAL SYSTEMS LIMITED AND AFFILIATE
NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Basis of Consolidation-Continued
On October 31, 2009, BDL reconsidered whether it is the primary beneficiary of BTL when Dehaier’s preferred stock was converted into common shares. While such conversion dilutes the Chief Executive Officer ’ s interest in BDL such that BDL and BTL are not under common control after October 31, 2009, BDL still has the obligation to absorb the expected losses of BTL. BTL is still a VIE because all of its activities either involve or are conducted on behalf of the reporting enterprise and its related parties. BDL is BTL’s only customer referral source. On March 3, 2010, BDL entered into a Loss Absorption Agreement memorializing the understanding that BDL would continue to loan money to BTL as needed to fund its working capital such that BDL would absorb BTL’s losses. Management makes ongoing reassessments of whether BDL is the primary beneficiary of BTL.
The carrying amount and classification of BTL’s assets and liabilities included in the Condensed Consolidated Balance Sheets are as follows:
September 30,
December 31,
2011
2010
US$
US$
Total current assets
497,104
497,732
Total assets
1,530,233
1,562,554
Total current liabilities
146,015
235,263
Total liabilities
146,015
235,263
The accounts of BTL are consolidated in the accompanying financial statements pursuant to Accounting Standards Codification (“ASC”) 810-10, “Consolidation”. As a VIE, BTL’s revenues are included in the Company’s service income, and its income from operations is consolidated with the Company’s. Because of the arrangements, the Company had a pecuniary interest in BTL that requires consolidation of the Company’s and BTL’s financial statements.
Use of Estimates
The preparation of the condensed consolidated financial statements in conformity with US GAAP 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 dates of the condensed consolidated financial statements and the reported amounts of revenues and expenses during the reporting periods. Estimates are adjusted to reflect actual experience when necessary. Significant accounting estimates reflected in the Company’s condensed consolidated financial statements include revenue recognition, allowance for doubtful accounts, inventory obsolescence, warranty obligation, warrants liability, stock-based compensation and useful lives of property and equipment. Actual results could differ from those estimates.
Accounts Receivable
Accounts receivable are recorded at net realizable value. Accounts receivable terms typically are net 60-180 days from the end of the month in which the services were provided, or when goods were delivered. The company generally does not require collateral or other security to support accounts receivable. An allowance, if required, is based on a combination of historical experience, aging analysis, and an evaluation of the collectibility of specific accounts. Receivables are considered past due after 3 years and written off. In accordance with the accounting policies, management has determined that allowances of $90,546 (RMB 578,068) and $87,555 (RMB 578,068) were required at September 30, 2011 and December 31, 2010, respectively.
F-6
DEHAIER MEDICAL SYSTEMS LIMITED AND AFFILIATE
NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Advances to Suppliers and Advances from Customers
The Company, as is the common practice in the PRC, often makes advance payments to suppliers for unassembled parts or receives advance payments from customers. Advances to suppliers were $7,522,544 and $4,515,737 at September 30, 2011 and December 31, 2010, respectively, which were included in prepayment and other current assets. Advances from customers were $465,848 and $269,189 as of September 30, 2011 and December 31, 2010, respectively. None of these advances was from or to any related party.
Fair Value of Financial Instruments
The carrying amounts reported in the condensed consolidated financial statements for current assets and current liabilities approximate fair value due to the short-term nature of these financial instruments.
The Company adopted the provisions of ASC topic 815, ”Derivatives and Hedging”. ASC topic 815 provides a framework for determining whether an instrument is indexed to an entity’s own stock. ASC topic 815 became effective for the Company when warrants were issued in connection with the Company’s initial public offering. Such warrants are indexed to the Company’s stock, which is traded in US dollars. Since the Company’s functional currency is the RMB, such warrants are considered liabilities. The fair value of the warrants liability is measured each reporting period with the resulting change in fair value recorded in the condensed consolidated statement of income and comprehensive income (see Note 10).
The accounting standards regarding fair value of financial instruments and related fair value measurements define fair value, establish a three-level valuation hierarchy for disclosures of fair value measurement, and enhance disclosure requirements for fair value measures.
The three levels are defined as follows:
·
Level 1 inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active markets.
·
Level 2 inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument.
·
Level 3 inputs to the valuation methodology are unobservable and significant to the fair value measurement.
Warrant liabilities qualify as financial instruments.
Financial assets and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement. The fair value of the warrants was determined using the Black Scholes Model, as level 2 inputs, and management recorded the change in earnings. As a result, the derivative liability is carried on the condensed consolidated balance sheets at its fair value (see Note 10).
F-7
DEHAIER MEDICAL SYSTEMS LIMITED AND AFFILIATE
NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Inventories
Inventories are stated at the lower of cost or market and consist of assembled and unassembled parts relating to medical devices. The Company reviews its inventory annually for possible obsolete goods and to determine if any reserves are necessary. The reserves for obsolescence were $50,524 (RMB 322,559) and $48,855 (RMB 322,556) for September 30, 2011 and December 31, 2010, respectively.
Property and Equipment
Property and equipment are recorded at cost less accumulated depreciation and amortization. Depreciation and amortization are calculated on a straight-line basis over the following estimated useful lives:
Leasehold improvements
Shorter of the useful lives or the lease term
Building and land use rights
20-40 years
Machinery and equipment
10-15 years
Furniture and office equipment
5 years
Motor vehicles
5 years
Impairment of Long-Lived Assets
The Company reviews its long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may no longer be recoverable. When these events occur, the Company measures impairment by comparing the carrying value of the long-lived assets to the estimated undiscounted future cash flows expected to result from the use of the asset and eventual disposition. If the sum of the expected future cash flows is less than the carrying amount of the asset, an impairment loss, equal to the excess of the carrying amount over the fair value of the asset, is recognized. Management has determined no impairment exists at the balance sheet dates.
Revenue Recognition
The Company recognizes revenues when all the followings conditions have been satisfied:
·
Persuasive evidence of an arrangement exists;
·
Delivery and/or installation has occurred (e.g., risks and rewards of ownership has passed);
·
The sales price is fixed or determinable; and
·
Collectibility is reasonably assured.
All revenues are based on firm customer orders with fixed terms and conditions. Because the products are assembled to the customers’ specification, there is no right of return. The Company does not provide its customers with price protection or cash rebates. For products that include software, the software is an off-the-shelf package and an integral part of the products being delivered. The Company does not provide any significant post-sale customer support services and does not provide customers with upgrades. The software is incidental to the product as a whole. For products that do not require installation, revenues are recognized when the products are delivered. For products that require installation, revenues are recognized when the installation is completed.
F-8
DEHAIER MEDICAL SYSTEMS LIMITED AND AFFILIATE
NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Revenue Recognition-Continued
For all service income, the Company recognizes the revenue upon the completion of the repairs when the equipment has been returned to and accepted by the customers.
In the PRC, value added tax (VAT) of 17% of the invoice amount is collected in respect of the sales of goods on behalf of tax authorities. The VAT collected is not revenue of the Company; instead, the amount is recorded as a liability on the balance sheet until such VAT is paid to the authorities.
Foreign Currency Translation
The accounts of Dehaier, BDL, BTL and DHK are measured using the currency of the primary economic environment in which the entity operates (the “functional currency”). The accompanying condensed consolidated financial statements are presented in US dollars. Foreign currency transactions are translated into US dollars using fixed exchange rates in effect at the time of the transaction. Generally, foreign exchange gains and losses resulting from the settlement of such transactions are recognized in the condensed consolidated statements of income and comprehensive income. The foreign currency accounts of DHK, BDL and BTL are translated in accordance with ASC 830-10, “Foreign Currency Matters”. Assets and liabilities are translated at current exchange rates quoted by the People’s Bank of China at the balance sheet dates and revenues and expenses are translated at average exchange rates in effect during the periods. Resulting translation adjustments are recorded as other comprehensive income (loss) and accumulated as a separate component of equity.
Warranty Costs
The Company provides for the estimated cost of product warranties at the time revenue is recognized. The Company’s warranty obligation is affected by product failure rates and material usage and service delivery costs incurred in correcting product failure. Should actual product failure rates, material usage or service delivery costs differ from the Company’s estimates, the Company may be required to revise its estimated product warranty liability. The term of the product warranty is generally twelve months. Warranty expenses for the nine months ended September 30, 2011 and 2010, and for the three months ended September 30, 2011 and 2010 were $163,538 $111,076, $56,890 and $45,654, respectively.
Earnings per Share
The Company follows the provisions of ASC 260-10, “Earnings per Share”. Basic earnings per share is computed by dividing net income attributable to holders of common shares by the weighted average number of common shares outstanding during the years. Diluted earnings per share reflect the potential dilution that could occur if securities or other contracts to issue common shares were exercised or converted into common shares. The average stock price for the previous three quarters of 2011 did not exceed the exercise price of the outstanding warrants, therefore none of the outstanding warrants were included in the diluted earnings per share.
F-9
DEHAIER MEDICAL SYSTEMS LIMITED AND AFFILIATE
NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Value Added Tax
The Company reports revenues net of PRC’s value added tax for all the periods presented in the condensed consolidated statements of income and comprehensive income.
Income Taxes
The Company uses the asset and liability method of accounting for income taxes in accordance with ASC 740-10, “Accounting for Income Taxes.” Under this method, income tax expense is recognized for the amount of: (i) taxes payable or refundable for the current year; and, (ii) deferred tax consequences of temporary differences resulting from matters that have been recognized in an entity’s financial statements or tax returns. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in the results of operations in the period that includes the enactment date. A valuation allowance is provided to reduce the deferred tax assets reported if, based on the weight of available positive and negative evidence, it is more likely than not that some portion or all of the deferred tax assets will not be realized. As of each of September 30, 2011 and December 31, 2010, the Company was not required to record any deferred tax assets or liabilities.
ASC 740-10 prescribes a recognition threshold and measurement attribute for the financial statement recognition of a tax position taken or expected to be taken on a tax return. Under ASC 740-10, a tax benefit from an uncertain tax position taken or expected to be taken may be recognized only if it is “more likely than not” that the position is sustainable upon examination, based on its technical merits. The tax benefit of a qualifying position under ASC 740-10 would equal the largest amount of tax benefit that is greater than 50% likely of being realized upon ultimate settlement with a taxing authority having full knowledge of all the relevant information. A liability (including interest and penalties, if applicable) is established in the financial statements to the extent a current benefit has been recognized on a tax return for matters that are considered contingent upon the outcome of an uncertain tax position. Related interest and penalties, if any, are included as components of income tax expense and income taxes payable. The Company is awaiting resolution of certain complex tax issues and has not yet filed its previous years’ Value Added Tax (“VAT”) returns for some of its customers. However, all the potential VAT liabilities on these VAT returns were accrued and included in the accompanying condensed consolidated financial statements.
The implementation of ASC 740-10 resulted in no material liability for unrecognized tax benefits and no material change to the beginning retained earnings of the Company. As of each of September 30, 2011 and December 31, 2010, the Company did not have a liability for any unrecognized tax benefits. The Company recognizes interest and penalties, if any, related to unrecognized tax benefits as income tax expense in the statement of operations. During each of the nine months ended September 30, 2011 and 2010, the Company did not incur any interest or penalties.
Income tax returns for years prior to 2008 are no longer subject to examination by tax authorities.
F-10
DEHAIER MEDICAL SYSTEMS LIMITED AND AFFILIATE
NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Reclassification
Certain reclassifications have been made to the prior year financial statements to conform to the current year presentation. These modifications did not have any impact to the Company’s Condensed Consolidated statement of income and Comprehensive income.
F-11
DEHAIER MEDICAL SYSTEMS LIMITED AND AFFILIATE
NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
3.
PREPAYMENT AND OTHER CURRENT ASSETS
Prepayment and other current assets consist of the following:
September 30,
December 31,
2011
2010
US$
US$
Advances to suppliers
959,204
1,071,101
Prepayment for equipment purchases
6,563,340
3,444,636
Other prepaid expenses
850,089
785,088
8,372,633
5,300,825
4.
PROPERTY AND EQUIPMENT, NET
Property and equipment consist of the following:
September 30,
December 31,
2011
2010
US$
US$
Buildings
1,332,995
1,288,972
Land use rights
304,498
294,442
Plant and machinery
2,936,955
2,782,706
Automobiles
43,328
41,897
Office and computer equipment
440,155
388,416
5,057,931
4,796,433
Less: Accumulated depreciation and amortization
(1,691,665
)
(1,307,486
)
Property and equipment, net
3,366,266
3,488,947
At September 30, 2011 and December 31, 2010, BTL’s building was pledged to a bank as collateral for short-term borrowings of RMB10,000,000 (US$1,547,170) and RMB10,000,000 (US$1,514,620), respectively (see Note 6).
Depreciation and amortization expenses were $333,580, $261,438, $113,604 and $89,124, for the nine and three months ended September 30, 2011 and 2010, respectively.
Land Use Rights
There is no private ownership of land in the PRC. Land is owned by the government and the government grants land use rights for specified terms. The Company’s land use rights are reported at the purchase price (RMB1,944,000 in 2002).
F-12
DEHAIER MEDICAL SYSTEMS LIMITED AND AFFILIATE
NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
5.
TAX RECEIVABLE
Tax receivable consists of the following:
September 30,
December 31,
2011
2010
US$
US$
Value added tax receivable
4,789,318
3,518,919
Enterprises or individuals who sell commodities, engage in repair and maintenance or import and export goods in the PRC are subject to a VAT in accordance with Chinese laws. The standard VAT is 17% of the gross sales price. A credit is available whereby VAT paid on the purchases of unassembled medical components of the Company’s product used in contract and production can be used to offset the VAT due on sales of the product.
The tax receivable as of September 30, 2011 and December 31, 2010 represents VAT credit on the purchased products. These amounts can be used to offset the VAT due on sales of the finished product.
6.
SHORT-TERM BORROWINGS
The Company has a line of credit for RMB10,000,000 (USD1,574,620 at December 31, 2010 and USD1,566,350 at September 30, 2011) with a commercial bank in the PRC to finance its working capital. The credit line bears interest at a variable rate and is due on June 15, 2012. Any outstanding loan balance must be repaid before annual renewal. Average interest rates for the nine months ended September 30, 2011 and 2010 were 6.94% and 5.84%, respectively. Pursuant to the terms of the agreement, the line of credit is secured by BTL’s building (see Note 4) and guaranteed by BDL and an officer of the Company.
7.
NON-CONTROLLING INTEREST
Non-controlling interest consists of the following:
September 30,
December 31,
2011
2010
US$
US$
Original paid-in capital
384,211
384,211
Retained Earnings
733,654
722,262
Accumulated other comprehensive income
266,353
220,818
1,384,218
1,327,291
F-13
DEHAIER MEDICAL SYSTEMS LIMITED AND AFFILIATE
NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
8.
COMMITMENTS AND CONTINGENCY
Common Shares
On March 22, 2010, the founders of the Company placed an aggregate of 600,000 common shares of the Company into escrow. Such shares equaled 40% of the maximum number of shares sold in the initial public offering (“IPO”). The shares were required to remain in escrow until the Company filed its Form 10-K with the Securities and Exchange Commission for the year ended December 31, 2010. The shares in escrow (the “Make-Good Shares”) were accounted for as an element of the IPO, and the Company would not recognize any compensation expense upon the return of such Make-Good Shares to the holders. To the extent the Company’s earnings per share for the year ended December 31, 2010 were less than $0.80, the Company would redeem, pro rata, such shares to the extent needed to raise earnings per share to $0.80. Alternatively, if the closing price of the common shares was equal to at least 2.5 times of the IPO offering price for five trading days in any ten trading day period, then the Make-Good Shares would be returned to the founders. During the period from IPO date to December 31, 2010, there was no day on which the closing price of the common shares was higher than 2.5 times of the IPO offering, so the Make-Good Shares were not returned to the founders prior to the end of 2010. For the year ended December 31, 2010, the earnings per share of the Company were $1.09. Thus, the Company did not need to redeem any of the Make-Good Shares. These shares were returned to the founders on May 5, 2011 and are included as part of the calculation of the basic and diluted earnings per share for all the periods presented in the accompanying condensed consolidated financial statements.
Leases
The lease commitments are for office premises and a warehouse facility, all of which are classified as operating leases. These non-cancelable leases have lease terms expiring through December 2012. Approximate future minimum lease payments under these leases at September 30, 2011, are as follows:
Future payment for the twelve months ending September 30,
US$
2012
88,114
2013
713
Total minimum lease payments
88,827
Rent expenses for the nine and three months ended September 30, 2011 and 2010, were $131,229, $77,702, $59,074 and $21,097, respectively.
Rent expenses paid to the spouse of the Chief Executive Officer for the nine and the three months ended September 30, 2011 and 2010 were $0, $11,638, $0 and $7,472, respectively.
Contingency
The Labor Contract Law of the People’s Republic of China, requires employers to assure the liability of the severance payments if employees are terminated and have been working for the employers for at least two years. The Company has estimated its possible severance payments of approximately $217,000 and $188,000 as of September 30, 2011 and December 31, 2010, respectively, which have not been reflected in its condensed consolidated financial statements, because it is more likely than not that this will not be paid or incurred.
F-14
DEHAIER MEDICAL SYSTEMS LIMITED AND AFFILIATE
NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
9.
EQUITY
On March 8, 2011, Dehaier issued 10,000 unregistered common shares for investment relationship activities provided. The fair value of the shares on the issuance date based on the closing price was $59,300.
10.
WARRANTS LIABILITY
On April 21, 2010, the Company issued to Anderson & Strudwick Incorporated (“A&S”) 150,000 warrants, as a portion of the placement commission for the IPO. On the same day, the Company granted a total of 7,500 warrants to Hawk Associates Inc. (“Hawk”), the Company’s investor relations consultancy. The Company had 157,500 warrants outstanding as of September 30, 2011. All the warrants issued to A&S have the right to purchase one common share for an exercise price of $10.00 per share with a term of 5 years. All the warrants granted to Hawk have the right to purchase one common share for an exercise price of $9.60 per share with a term of 5 years.
The fair value of the outstanding warrants at September 30, 2011 for A&S was calculated using the Black Scholes Model with the following assumptions:
Notes
Fair value per share
$
2.03
(1)
Exercise price
$
10.00
(2)
Risk free rate
0.96
%
(3)
Dividend yield
-
(4)
Expected term/contractual life (number of years)
3.559
(5)
Expected volatility
113.5
%
(6)
The fair value of the outstanding warrants at September 30, 2011 for Hawk was calculated using the Black Scholes Model with the following assumptions:
Notes
Fair value per share
$
2.03
(1)
Exercise price
$
9.60
(2)
Risk free rate
0.96
%
(3)
Dividend yield
-
(4)
Expected term/contractual life (number of years)
3.559
(5)
Expected volatility
113.5
%
(6)
The following table sets forth by level within the fair value hierarchy our financial assets and liabilities that were accounted for at fair value on a recurring basis as of September 30, 2011.
Carrying Value at
September 30, 2011
Fair Value Measurement at
September 30, 2011
Level 1
Level 2
Level 3
Warrants liability
$
140,751
$
-
$
140,751
$
-
F-15
DEHAIER MEDICAL SYSTEMS LIMITED AND AFFILIATE
NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
10.
WARRANTS LIABILITY (CONTINUED)
The following is a reconciliation of the beginning and ending balances of warrants liability measured at fair value on a recurring basis using Level 2 inputs:
Beginning balance, January 1, 2011
$
318,109
Warrants issued
-
Fair value change of the issued warrants included in earnings
$
(177,358
)
Ending balance, September 30, 2011
$
140,751
(1) Fair Value of Underlying Common Shares
The $2.03 is the closing price of the Company’s common shares on September 30, 2011.
(2) Exercise price
The exercise price of the warrants was determined by the Company’s board of directors.
(3) Risk-free interest rate
Risk-free interest rate was estimated based on the yield to maturity of U.S. Treasury notes with a maturity period close to the term of the warrants.
(4) Dividend yield
Dividend yield of 0% was estimated by management of the Company.
(5) Life to Expiration
Life to expiration was based on contractual term of the warrants.
(6) Volatility
The volatility of the underlying common shares during the life of the warrants was estimated based on the historical stock price volatility of listed comparable companies over a period comparable to the expected term of the warrants.
The fair value of the each A&S warrant at September 30, 2011 was $0.94. The total fair value of such warrants was $140,751 at September 30, 2011.
The fair value of the warrants for A&S was $270,000 on the date of grant which was recognized as IPO expense. The decrease in the fair value of the warrants during the period was recognized as a change in fair value of warrants liability which was included in condensed consolidated statements of income and comprehensive income.
The fair value of each Hawk warrant at September 30, 2011 was $0.95. The total fair value of such warrants was $7,146, which has not been reflected in the Company’s condensed consolidated financial statements due to immateriality. The fair value of the warrants for Hawk was $15,000 at the grant date. The decrease in fair value of the warrants resulted in a loss of $7,856, which has not been reflected in the Company’s condensed consolidated financial statements due to immateriality.
F-16
DEHAIER MEDICAL SYSTEMS LIMITED AND AFFILIATE
NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
11.
STATUTORY SURPLUS RESERVES
A PRC company is required to make appropriations to statutory surplus reserve, based on after-tax net income determined in accordance with generally accepted accounting principles of the PRC (“PRC GAAP”). Appropriations to the statutory surplus reserve is required to be at least 10% of the after tax net income determined in accordance with PRC GAAP until the reserve is equal to 50% of the entity’s registered capital.
The statutory surplus reserve fund is non-distributable other than during liquidation and can be used to fund previous years’ losses, if any, and may be utilized for business expansion or converted into share capital by issuing new shares to existing shareholders in proportion to their shareholding or by increasing the par value of shares currently held by them, provided that the remaining statutory surplus reserve balance after such issue is not less than 25% of the registered capital.
Since Dehaier is a British Virgin Islands company, it will not be subject to the statutory surplus reserve provisions. BDL is a joint-venture company and the statutory surplus reserve provisions will be determined by its board of directors. As of September 30, 2011, BDL’s board of directors has not yet made such determination. Therefore, no amount was allocated to the statutory surplus reserve account.
BTL appropriated 10% of its net profits as statutory surplus reserve, which is included as part of the non-controlling interest in the equity section. For the six months ended September 30, 2011 statutory surplus reserve activity was as follows:
US$
Balance at December 31, 2010
72,226
Addition to statutory reserves
1,139
Balance at September 30, 2011
73,365
12.
INCOME TAXES
British Virgin Islands
Dehaier is a tax-exempt company incorporated in the British Virgin Islands. BDL and BTL were incorporated in the PRC and are governed by the PRC laws.
Hong Kong
DHK is subject to Hong Kong profits tax at a rate of 17.5% on its assessable profits. No Hong Kong profits tax has been provided as the Company did not have any taxable profit that was earned in or derived from Hong Kong during the years presented.
F-17
DEHAIER MEDICAL SYSTEMS LIMITED AND AFFILIATE
NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
12.
INCOME TAXES (CONTINUED)
PRC
PRC enterprise income tax is calculated based on the Enterprise Income Tax Law (the “EIT Law”). Under the EIT Law, a unified enterprise income tax rate of 25% and unified tax deduction standards will be applied equally to both domestic-invested enterprises and foreign-invested enterprises.
Under the current PRC laws, PRC government grants a preferential income tax rate of 15% to government-certified high technology companies, and under the new standard the period of validity for the certification of high technology companies is three years. In 2009, BDL updated its certification for “high technology” company. Therefore, BDL used a 15% income tax rate to calculate the income tax expense for the nine months ended September 30, 2011 and 2010. The high technology certification will expire and be renewed by 2012.
The tax rate for BTL is 25% in 2011 and 2010.
13.
CONCENTRATIONS
Major Customers
For the nine months ended September 30, 2011 and 2010, and for the three months ended September 30, 2011 and 2010, approximately 10%, 11%, 22% and 19% of the Company’s revenues were received from one customer.
At September 30, 2011 and 2010, receivables from four customers were approximately 10%, 9%, 8%, 8% and 11%, 11%, 8%, 8%, respectively.
Revenues
For the nine months ended September 30, 2011 and 2010, and for the three months ended September 30, 2010 and 2011, the Company’s three top selling products accounted, in the aggregate, for approximately 75%, 51%, 87% and 53%, respectively, of its total net revenues.
The following represents the revenues by products, all derived from operations in the PRC:
For the nine months ended
September 30,
For the three months ended
September 30,
2011
2010
2011
2010
US$
US$
US$
US$
Products
Medical Devices
7,989,738
8,280,617
924,358
3,077,051
Respiratory and Oxygen Homecare
3,494,243
2,489,467
1,487,615
1,120,620
Technical Service
4,870,552
2,160,685
3,277,070
1,261,147
16,354,533
12,930,769
5,689,043
5,458,818
F-18