Recon Technology, Ltd 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations. The following discussion and analysis of our company’s financial condition and results of operations should be read in conjunction with our unaudited condensed consolidated financial statements and the related notes included elsewhere in this report. This discussion contains forward-looking statements that involve risks and uncertainties. Actual results and the timing of selected events could differ materially from those anticipated in these forward-looking statements as a result of various factors. Overview We are a company with limited liability incorporated in 2007 under the laws of the Cayman Islands. Headquartered in Beijing, we provide products and services to oil and gas companies and their affiliates through Nanjing Recon Technology Co., Ltd. (“Nanjing Recon”) and Beijing BHD Petroleum Technology Co., Ltd. (“BHD” and collectively with Nanjing Recon, the “Domestic Companies” or “VIEs”). As the company contractually controlling the Domestic Companies, we are the center of strategic management, financial control and human resources allocation. Our business is mainly focused on the upstream sectors of the oil and gas industry. We derive our revenues from the sales and provision of (1) hardware products, (2) software products, and (3) services. Our products and services involve most of the key procedures of the extraction and production of oil and gas, and include automation systems, equipment, tools and on-site technical services. Our VIEs provide the oil and gas industry with equipment, production technologies, automation and services. · Nanjing Recon: Nanjing Recon is a high-tech company that specializes in automation services for oilfield companies. It mainly focuses on providing automation solutions to the oil exploration industry, including monitoring wells, automatic metering to the joint station production, process monitor, and a variety of oilfield equipment and control systems. · BHD: BHD is a high-tech company that specializes in transportation equipment and stimulation productions and services. Possessing proprietary patents and substantial industry experience, BHD has built up stable and strong working relationships with the major oilfields in China. Products and Services We provide the following three types of integrated products and services for our customers. Equipment for Oil and Gas Production and Transportation High-Efficiency Heating Furnaces. Crude petroleum contains certain impurities that must be removed before it can be sold, including water and natural gas. To remove the impurities and to prevent solidification and blockage in transport pipes, companies employ heating furnaces. BHD researched, developed and implemented a new oilfield furnace that is advanced, highly automated, reliable, easily operable, safe and highly heat-efficient (90% efficiency). 3 Burner. We serve as an agent for the Unigas Burner, which is designed and manufactured by UNIGAS, a European burning equipment production company. The burner we provide features a high degree of automation, energy conservation, high turn-down ratio, high security and environmental safety. Oil and Gas Production Improvement Techniques Packers of Fracturing. This utility model is used in concert with the security joint, hydraulic anchor, and slide brushing of sand spray in the well. It is used for easy seat sealing and sand uptake prevention. The utility model reduces desilting volume and prevents sand-up, which makes the deblocking processes easier to realize. The back flushing is sand-stick proof. Production Packer. At varying withdrawal points, the production packer separates different oil layers and protects the oil pipe from sand and permeation, promoting the recovery ratio. Sand Prevention in Oil and Water Well. This technique processes additives that are resistant to elevated temperatures into “resin sand” which is transported to the bottom of the well via carrying fluid. The “resin sand” goes through the borehole, pilling up and compacting at the borehole and oil vacancy layer. An artificial borehole wall is then formed, functioning as a means of sand prevention. This sand prevention technique has been adapted to more than 100 wells, including heavy oil wells, light oil wells, water wells and gas wells, with a 100% success rate and a 98% effective rate. Water Locating and Plugging Technique. High water cut affects the normal production of oilfields. Previously, there was no sophisticated method for water locating and tubular column plugging in China. The mechanical water locating and tubular column plugging technique we have developed resolves the problem of high water cut wells. This technique conducts a self-sealing test during multi-stage usage and is reliable to separate different production sets effectively. The water location switch forms a complete set by which the water locating and plugging can be finished in one trip. The tubular column is adaptable to several oil drilling methods and is available for water locating and plugging in second and third class layers. Fissure Shaper. This is our proprietary product that is used along with a perforating gun to effectively increase perforation depth by between 46% and 80%, shape stratum fissures, improve stratum diversion capability and, as a result, improve our ability to locate oilfields and increase the output of oil wells. Fracture Acidizing. We inject acid to layers under pressure, which can form or expand fissures. The treatment process of the acid is defined as fracture acidizing. The technique is mainly adapted to oil and gas wells that are blocked up relatively deeply, or the ones in low permeability zones. Electronic Break-Down Service. This service resolves block-up and freezing problems by generating heat from the electric resistivity of the drive pipe and utilizing a loop tank composed of an oil pipe and a drive pipe. This technique saves energy and is environmentally friendly. It can increase the production of oilfields that are in the middle and later periods. Automation System and Services Pumping Unit Controller. This controller functions as a monitor to the pumping unit and also collects data for load, pressure, voltage, and startup and shutdown control. RTU Monitor. This monitor collects gas well pressure data. Wireless Dynamometer and Wireless Pressure Gauge. These products replace wired technology with cordless displacement sensor technology. They are easy to install and significantly reduce the work load associated with cable laying. Electric Multi-way Valve for Oilfield Metering Station Flow Control. This multi-way valve is used before the test separator to replace the existing three valve manifolds. It facilitates the electronic control of the connection of the oil lead pipeline with the separator. 4 Natural Gas Flow Computer System. The flow computer system is used in natural gas stations and gas distribution stations to measure flow. Recon Supervisory Control and Data Acquisition System (“SCADA”). Recon SCADA is a system that applies to the oil well, measurement station, and the union station for supervision and data collection. EPC Service of Pipeline SCADA System. This service technique is used for pipeline monitoring and data acquisition after crude oil transmission. EPC Service of Oil and Gas Wells SCADA System. This service technique is used for monitoring and data acquisition of oil wells and natural gas wells. EPC Service of Oilfield Video Surveillance and Control System. This video surveillance technique is used for controlling the oil and gas wellhead area and the measurement station area. Technique Service for “Digital oilfield” Transformation. This service includes engineering technique services such as oil and gas SCADA system, video surveillance and control system and communication systems. Factors Affecting Our Business Business Outlook The oilfield engineering and technical service industry is generally divided into five sections: (1) exploration, (2) drilling and completion, (3) testing and logging, (4) production, and (5) oilfield construction. Thus far our businesses have only been involved in production. Our management plans to expand our core business, move into new markets, and develop new businesses. Management anticipates great opportunities both in new markets and our existing markets. We believe that many existing wells and oilfields need to improve or renew their equipment and service to maintain production and techniques and services like ours will be needed as new oil and gas fields are developed. In the next three years, we will focus on: Measuring Equipment and Service . “Digital oil field” and the management of oil companies are highly regarded. We believe our oilfield SCADA and related technical support services will address the needs of the oil well automation system market, for which we forecast strong needs in the short term. For the coming year, we will also expand our automation business market in China’s biggest oilfield, the Da Qing oilfield. In addition, through early cooperation with CNPC in Turkmenistan, we have developed our experience in this market. Although bidding has not yet commenced, we will continue pursuing overseas business projects in the coming second phase construction , which we expect to occur in 2014 . Gathering and Transferring Equipment . With more new wells developed, our management anticipates that demand for our furnaces and burners will grow more compared to last year, especially in the Xinjiang Oilfield and Zhongyuan oilfield. Fracturing service . We believe we cooperated well with Zhongyuan Oilfield in fiscal year 2013 and expect to continue growing revenue from fracturing and related stimulation services for fiscal year 2014 . New product line . Design and development of down-hole tools has always been an important technique for oilfield companies. Recently, this market has developed very rapidly. After a year test project for our customers, we have developed experience with this technology and our customers have accepted our products and services. We expect revenue from this business in fiscal year 2014 . Growth Strategy As a smaller domestic company, it is our basic strategy to focus on developing our onshore oilfield business, that is, the upstream of the industry. Due to the remote location and difficult environments of China’s oil and gas fields, foreign competitors rarely enter those areas. 5 Large domestic oil companies have historically focused on their exploration and development businesses to earn higher margins and keep their competitive advantage. With regard to private oilfield service companies, we estimate that approximately 90% specialize in the manufacture of drilling and production equipment. Thus, the market for technical support and project service is still in its early stage. Our management believes that insists on providing high quality products and service in the oilfield where we have a geographical advantage. This will allow us to avoid conflicts of interest with bigger suppliers of drilling equipment and protect our position within the market segment. Our mission is to increase the automation and safety levels of industrial petroleum production in China and improve the underdeveloped working process and management mode by using advanced technologies. At the same time, we are always looking to improve our business and to increase our earning capability. Industry and Recent Developments Despite uncertainty in the energy industry related to such matters as fluctuating prices and future opportunities for oil companies, our management believes there are still many factors to support our long-term development: The opening of the Chinese oil industry to participation by non-state owned service providers and vendors played an increasingly important role in the high-end oilfield service segment to allow competition based on efficiency and price. As oil and gas fields are depleted, it becomes more challenging to find and convert reserves into usable energy sources. As the industry has permitted competition by private companies and oil companies have formed separate service companies, high-tech service has gradually opened up to private companies. Overseas assets of Chinese oilfield companies increased gradually, and they will provide more opportunity for domestic service companies to participate in foreign projects. Management is focused on these factors and will seek to extend our business on the industrial chain, like providing more integrated services and incremental measures and growing our business from a predominantly up-ground business to include some down-hole services as well. Factors Affecting Our Results of Operations Our operating results in any period are subject to general conditions typically affecting the Chinese oilfield service industry including: · the amount of spending by our customers, primarily those in the oil and gas industry; · growing demand from large corporations for improved management and software designed to achieve such corporate performance; · the procurement processes of our customers, especially those in the oil and gas industry; · competition and related pricing pressure from other oilfield service solution providers, especially those targeting the Chinese oil and gas industry; · the ongoing development of the oilfield service market in China; and · inflation and other macroeconomic factors. Unfavorable changes in any of these general conditions could negatively affect the number and size of the projects we undertake, the number of products we sell, the amount of services we provide, the price of our products and services, and otherwise affect our results of operations. Our operating results in any period are more directly affected by company-specific factors including: · our revenue growth, in terms of the proportion of our business dedicated to large companies and our ability to successfully develop, introduce and market new solutions and services; · our ability to increase our revenues from both old and new customers in the oil and gas industry in China; · our ability to effectively manage our operating costs and expenses; and · our ability to effectively implement any targeted acquisitions and/or strategic alliances so as to provide efficient access to markets and industries in the oil and gas industry in China. 6 Critical Accounting Policies and Estimates Estimates and Assumptions We prepare our unaudited condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States of America (U.S. GAAP), which require us to make judgments, estimates and assumptions. We continually evaluate these estimates and assumptions based on the most recently available information, our own historical experience and various other assumptions that we believe to be reasonable under the circumstances. Since the use of estimates is an integral component of the financial reporting process, actual results could differ from those estimates. An accounting policy is considered critical if it requires an accounting estimate to be made based on assumptions about matters that are highly uncertain at the time such estimate is made, and if different accounting estimates that reasonably could have been used, or changes in the accounting estimates that are reasonably likely to occur periodically, could materially impact the consolidated financial statements. We believe that the following policies involve a higher degree of judgment and complexity in their application and require us to make significant accounting estimates. The following descriptions of critical accounting policies, judgments and estimates should be read in conjunction with our consolidated financial statements and other disclosures included in this quarterly report. Significant accounting estimates reflected in our Company’s unaudited condensed consolidated financial statements include revenue recognition, allowance for doubtful accounts, and useful lives of property and equipment. Consolidation of VIEs We recognize an entity as a VIE if it either (i) has insufficient equity to permit the entity to finance its activities without additional subordinated financial support or (ii) has equity investors who lack the characteristics of a controlling financial interest. We consolidate a VIE as its primary beneficiary when we have both the power to direct the activities that most significantly impact the entity’s economic performance and the obligation to absorb losses or the right to receive benefits from the entity that could potentially be significant to the VIE. We perform ongoing assessments to determine whether an entity should be considered a VIE and whether an entity previous identified as a VIE continues to be a VIE and whether we continue to be the primary beneficiary. Assets recognized as a result of consolidating VIEs do not represent additional assets that could be used to satisfy claims against our general assets. Conversely, liabilities recognized as a result of consolidating these VIEs do not represent additional claims on our general assets; rather, they represent claims against the specific assets of the consolidated VIEs. Revenue Recognition We recognize revenue when the following four criteria are met: (1) persuasive evidence of an arrangement exists, (2) delivery has occurred or services have been provided, (3) the sales price is fixed or determinable, and (4) collectability is reasonably assured. Delivery does not occur until products have been shipped or services have been provided to the customers and the customers have signed a completion and acceptance report, risk of loss has transferred to the customers, customers acceptance provisions have lapsed, or the Company has objective evidence that the criteria specified in customers’ acceptance provisions have been satisfied. The sales price is not considered to be fixed or determinable until all contingencies related to the sale have been resolved. Hardware Revenue from hardware sales is generally recognized when the product is shipped to the customer and when there are no unfulfilled company obligations that affect the customer’s final acceptance of the arrangement. 7 Services The Company provides services to improve software functions and system requirements on separated fixed-price contracts. Revenue is recognized when services are completed and acceptance is determined by a completion report signed by the customer. Deferred income represents unearned amounts billed to customers related to sales contracts. Fair Values of Financial Instruments The carrying amounts reported in the consolidated balance sheets for trade accounts receivable, other receivables, advances to suppliers, trade accounts payable, accrued liabilities, advances from customers and notes payable approximate fair value because of the immediate or short-term maturity of these financial instruments. Long-term receivables and borrowings approximate fair value because their interest rates charged approximate the market rates for financial instruments with similar terms. Receivables Trade receivables are carried at original invoiced amount less a provision for any potential uncollectible amounts. Provisions are applied to trade receivables where events or changes in circumstances indicate that the balance may not be collectible. The identification of doubtful accounts requires the use of judgment and estimates of management. Our management must make estimates of the collectability of our accounts receivable. Management specifically analyzes accounts receivable, historical bad debts, customer creditworthiness, current economic trends and changes in our customer payment terms when evaluating the adequacy of the allowance for doubtful accounts. We believe based on the current economic condition and our history of collections on accounts and notes receivable, our allowance for doubtful accounts was adequate at September 30, 2013. Valuation of Long-Lived Assets We review the carrying values of our long-lived assets for impairment whenever events or changes in circumstances indicate that they may not be recoverable. When such an event occurs, we project undiscounted cash flows to be generated from the use of the asset and its eventual disposition over the remaining life of the asset. If projections indicate that the carrying value of the long-lived asset will not be recovered, we reduce the carrying value of the long-lived asset by the estimated excess of the carrying value over the projected discounted cash flows. In the past, we have not had to make significant adjustments to the carrying values of our long-lived assets, and we do not anticipate a need to do so in the future. However, circumstances could cause us to have to reduce the value of our capitalized assets more rapidly than we have in the past if our revenues were to significantly decline. Estimated cash flows from the use of the long-lived assets are highly uncertain and therefore the estimation of the need to impair these assets is reasonably likely to change in the future. Should the economy or acceptance of our assets change in the future, it is likely that our estimate of the future cash flows from the use of these assets will change by a material amount. There were no impairments at June 30, 2013 and September 30, 2013. Share-Based Compensation The Company accounts for share-based compensation in accordance with ASC Topic 718, Share-Based Payment. Under the fair value recognition provisions of this topic, share-based compensation cost is measured at the grant date based on the fair value of the award and is recognized as expense with graded vesting on a straight–line basis over the requisite service period for the entire award. The Company has elected to recognize compensation expenses using the Binomial Lattice valuation model estimated at the grant date based on the award’s fair value. 8 Results of Operations Three Months Ended September 30, 2013 Compared to Three Months Ended September 30, 2012 Revenues For the Three Months Ended September 30, Increase / Percentage 2012 2013 (Decrease) Change Hardware -non-related parties ¥ 8,438,964 ¥ 9,174,015 ¥ 735,051 8.7 % Hardware - related parties 532,051 116,473 (415,578) (78.1) % Service 83,177 - (83,177) (100) % Software - 1,923,077 1,923,077 100 % Software – related parties - 299,145 299,145 100 % Total revenues ¥ 9,054,192 ¥ 11,512,710 ¥ 2,458,518 27.2 % Revenues . Our total revenues increased by 27.2%, or approximately ¥2 . 4 million ($0.4 million), from ¥ 9.1 million for the three months ended September 30, 2012 to ¥11 .5 million ($1.9 million) for the same period of 2013. The changes in our revenues for the three-month period were due to the following factors: (1) Hardware business. During the three-month ended September 30, 2013, the increase in hardware revenue was mainly caused by higher sales of furnaces. (2) Service business. Service revenue for three months ended September 30, 2012 consisted mainly of minor maintenance services, which were provided upon request by customers. Our fracturing business is still proceeding, and we also obtained new contracts of this business. Since all projects are still under going, no revenue from fracturing service was recorded this quarter. Besides, we successfully achieved access certification of Sinopec HuaBei Oilfield branch, which means we can provide fracturing service with broad solid customer base. (3) Hardware – related parties. Sales of hardware from related parties decreased because we used to develop business on Ji Dong oilfield through some local agent companies. After we achieved business entrance certification in the name of Recon and could cooperate with oilfield customers directly two years ago, revenue from related-parties decreased. Nevertheless, because local agencies might still purchase automation products from Recon, there will likely be revenue from related parties, and revenue of both hardware and software from related parties is likely to fluctuate from year to year. (4) Software business. The software sales increased approximately ¥1.9 million ($0.3 million). We record revenue as software sales if (1) the customer signs a separate software contract with us, or (2) the customer accepts VAT invoices for software. The amount of our revenues categorized as software sales may fluctuate because certain software may be sold with hardware at times as a whole product and not separately priced 9 Cost and Margin For the Three Months Ended September 30, Increase / Percentage 2012 2013 (Decrease) Change Total revenues ¥ 9,054,192 ¥ 11,512,710 ¥ 2,458,518 27.2 % Cost of revenues 6,608,767 6,221,610 (387,157) (5.9) % Gross profit ¥ 2,445,425 ¥ 5,291,100 ¥ 2,845,675 116.4 % Margin % 27.0 % 46.0 % 19.0 % — Cost of revenues . Our cost of revenues includes raw materials and costs related to design, implementation, delivery and maintenance of products and services. All materials and components we need can be purchased or manufactured by subcontracts. Usually the prices of electronic components do not fluctuate dramatically due to market competition and will not significantly affect our cost of revenues. However, specialized equipment and incentive chemical products may be directly influenced by metal and oil price fluctuations. Additionally, the prices of some imported accessories mandated by our customers can also impact our cost. Our cost of revenues decreased from approximately ¥ 6.6 million in the three months ended September 30, 2012 to approximately ¥6.2 million ($1 million) for the same period of 2013, a decrease of approximately ¥ 0 .4 million ($0.1 million), or 5.9%. As a percentage of revenues, our cost of revenues decreased from 73.0% in 2012 to 54.0% in 2013. This decrease was mainly caused by lower software business costs . Gross profit . Our gross profit increased to approximately ¥5.3 million ($ 0. 9 million) for the three months ended September 30, 2013 from approximately ¥2.4 million for the same period in 2012. Our gross profit as a percentage of revenue increased to 46.0% for the three months ended September 30, 2013 from 27.0% for the same period in 2012. This was mainly because software sales had higher gross margin and accounted for an increased percentage of our total revenue during the three months ended September 30, 2013 compared to the same period last year . In more detail: For the Three Months Ended September 30, Increase / Percentage 2012 2013 (Decrease) Change Total revenues-hardware and software- non related parties ¥ 8,438,964 ¥ 11,097,092 ¥ 2,658,128 31.5 % Cost of revenues -hardware and software- non related parties 5,766,562 6,118,674 352,112 6.1 % Gross profit ¥ 2,672,402 ¥ 4,978,418 ¥ 2,306,016 86.3 % Margin % 31.7 % 44.9 % 13.2 % — Cost of revenue from hardware -related parties decreased, causing gross profit from non-related parties increased, was mainly because revenue from software business, which usually has a higher margin, accounted larger proportion of our revenue. 10 For the Three Months Ended September 30, Increase / Percentage 2012 2013 (Decrease) Change Total revenues-hardware - related parties ¥ 532,051 ¥ 415,618 ¥ (116,433) (21.9) % Cost of revenues -hardware - related parties 821,585 102,936 (718,649) (87.5) % Gross profit ¥ (289,534) ¥ 312,682 ¥ 602,216 (208.0) % Margin % (54.4) % 75.2 % 129.7 % — Cost of revenue from hardware -related parties decreased as revenue decreased. Gross margin increased mainly because software business with higher margin accounted for a larger percentage this period . Operating Expenses For the Three Months Ended September 30, Increase / Percentage 2012 2013 (Decrease) Change Selling and distribution expenses 1,268,798 1,353,922 85,124 6.7 % % of revenue 14.0 % 11.8 % (2.3) % N/A General and administrative expenses 1,983,111 2,741,923 758,812 38.3 % % of revenue 21.9 % 23.8 % 1.9 % N/A Research and development expenses 1,533,329 692,600 (840,729) (54.8) % % of revenue 16.9 % 6.0 % (10.9) % N/A Operating expenses ¥ 4,785,238 ¥ 4,788,445 ¥ 3,207 0.1 % Selling and distribution expenses . Selling and distribution expenses consist primarily of salaries and related expenditures of our sales and marketing organization, sales commissions, costs of our marketing programs including advertising and trade shows, and an allocation of our facilities and depreciation expenses. Selling expenses increased by 6.7%, from approximately ¥ 1.3 million for the three months ended September 30, 2012 to approximately ¥ 1.4 million ($0.2 million) for the same period of 2013. This increase was primarily from increased service charges. Selling expenses were 14.0% of total revenues in the three months ended September 30, 2012 and 11.8% of total revenues in the same period of 2013. General and administrative expenses . General and administrative expenses consist primarily of costs in human resources, facilities costs, depreciation expenses, professional advisor fees, audit fees, option expenses and other expenses incurred in connection with general operations. General and administrative expenses increased by 38.3%, or ¥ 0.8 million ($0.1 million), from approximately ¥ 2 million in the three months ended September 30, 2012 to approximately ¥ 2.7 million ($ 0. 5 million) in the same period of 2013. General and administrative expenses were 21.9% of total revenues in 2012 and 23.8% of total revenues in 2013. The increase in general and administrative expenses was mainly due to increase in allowance for doubtful accounts, legal fees and traveling expenses. Research and development (“R&D”) expenses . Research and development expenses consist primarily of salaries and related expenditures of our research and development projects . Research and development expenses decreased by 54.8%, from approximately ¥ 1.5 million for the three months ended September 30, 2012 to approximately ¥ 0. 7 million ($0.1 million) for the same period of 2013. This decrease was primarily due to the less input of materials and equipment of R&D on our furnaces and fracturing services. 11 Net Income For the Three Months Ended September 30, Increase / Percentage 2012 2013 (Decrease) Change Income (loss) from operations ¥ (2,339,813) ¥ 502,655 ¥ 2,842,468 (121.5) % Interest and other income (expense) 33,153 (88,974) (122,127) (368.4) % Income (loss) before income tax (2,306,660) 413,681 2,720,341 (117.9) % Provision for income tax 31,624 207,327 175,703 555.6 % Net Income(loss) (2,338,284) 206,354 2,544,638 (108.8) % Less: Net income attributable to non-controlling interest 5,882 159,910 154,028 2,618.6 % Net Income(loss) attributable to ordinary shareholders ¥ (2,344,166) ¥ 46,444 ¥ 2,390,610 (102.0) % Income (loss) from operations . Income from operations was approximately ¥ 0.5 million ($ 0. 1 million) for the three months ended September 30, 2013, compared to loss of ¥ 2.3 million for the same period of 2012. This increase in income from operations can be attributed primarily to the increased revenue, gross margins and decreases in percentage of revenue for selling and distribution expenses as well as research and development expenses. Interest and other income (expense). Interest and other expense was ¥88,974 ($14,499) for the three months ended September 30, 2013, compared to interest and other income of ¥ 33,153 for the same period of 2012. The ¥122,127 ($19,902) increase in interest and other expense was primarily due to increase in loss from investment offset by increase in subsidy income and interest income, and decrease in interest expense and foreign currency exchange . Provision for income tax . We provide for income tax based upon the liability method of accounting pursuant to US GAAP. Under this approach, deferred income taxes are recorded to reflect the tax consequences on future years of differences between the tax basis of assets and liabilities and their financial reporting amounts. A valuation allowance is recorded against deferred tax assets if it is not likely that the asset will be realized. We have not been subject to any income taxes in the United States or the Cayman Islands. Enterprises doing business in the PRC are generally subject to federal (state) enterprise income tax at a rate of 25%; however, Nanjing Recon and BHD were granted the certification of High Technology Enterprise and are taxed at a rate of 15% for taxable income generated. Provision for income tax for the three months ended September 30, 2012 was ¥31,624 and provision for income tax was ¥ 2 07,327 ($33,786) for the three months ended September 30, 213. This increase of provision for income tax was mainly due to the income from operations for the three months ended September 30, 2013. Net income (loss) . As a result of the factors described above, net income was ¥206,354 ($33,628) for the three months ended September 30, 2013, an increase of above ¥2.5 million ($0.4 million) from net loss of ¥2 . 3 million for the same period of 2012. Net income (loss) attributable to ordinary shareholders . As a result of the factors described above, net income attributable to ordinary shareholders was ¥ 46, 444 ($7,569) for the three months ended September 30, 2013, an increase of approximately ¥2.4 million ($0.4 million) from net loss attributable to ordinary shareholders of ¥2.3 million for same period of 2012. 12 Adjusted EBITDA Adjusted EBITDA . We define adjusted EBITDA as net income (loss) adjusted for income tax expense, interest expense, loss from investment, non-cash stock compensation expense, depreciation and amortization. We think it is useful to an equity investor in evaluating our operating performance because: (1) it is widely used by investors in our industry to measure a company’s operating performance without regard to items such as interest expense, depreciation and amortization, which can vary substantially from company to company depending upon accounting methods and book value of assets, capital structure and the method by which the assets were acquired; and (2) it helps investors more meaningfully evaluate and compare the results of our operations from period to period by removing the impact of our capital structure and asset base from our operating results. For the Three Months Ended September 30, 2012 2013 Increase / Percentage 2013 RMB RMB (Decrease) Change USD Reconciliation of Adjusted EBITDA to Net Income(loss) Net income (loss) ¥ (2,338,284) ¥ 206,354 ¥ 2,544,638 (108.8) % $ 33,628 Provision for income taxes 31,624 207,327 175,703 555.6 % 33,786 Interest expense and foreign currency adjustment 63,296 126,959 63,663 100.6 % 20,690 Loss from investment - 374,614 374,614 100 % 61,048 Stock compensation expense 454,805 414,954 (39,851) (8.8) % 67,622 Depreciation and amortization 72,379 150,368 77,989 107.8 % 24,504 Adjusted EBITDA ¥ (1,716,180) ¥ 1,480,576 ¥ 3,196,756 (186.3) % $ 241,278 Adjusted EBITDA improved by approximately ¥ 3.2 million ($0.5 million) to approximately ¥ 1.5 million ($0.2 million) for the three months ended September 30, 2013 compared to approximately ¥ 1.7 million loss for the same period in 2012. This was due to improved operation. Compared to net income attributable to ordinary shareholders, we believe EBITDA more accurately reflects our operations. Liquidity and Capital Resources Cash and Cash Equivalents . Cash and cash equivalents consist of cash on hand, demand deposits and highly liquid short-term debt investments with stated maturities of no more than six months. As of September 30, 2013, we had cash and cash equivalents in the amount of approximately ¥6.7 million ($1.1 million). Indebtedness . As of September 30, 2013, except for approximately ¥ 0. 5 million ($0.1 million) of short-term borrowings from third parties, approximately ¥0.3 million ($ 0.04 million) of short-term borrowings from related parties, ¥0.9 million ($0.1 million) in lease commitments and ¥17.56 million ($2.9 million) in commercial loans from local banks, we did not have any finance leases or purchase commitments, guarantees or other material contingent liabilities. 13 Holding Company Structure . We are a holding company with no operations of our own. All of our operations are conducted through our Domestic Companies. As a result, our ability to pay dividends and to finance any debt that we may incur is dependent upon the receipt of dividends and other distributions from the Domestic Companies. In addition, Chinese legal restrictions permit payment of dividends to us by our Domestic Companies only out of their accumulated net profit, if any, determined in accordance with Chinese accounting standards and regulations. Under Chinese law, our Domestic Companies are required to set aside a portion (at least 10%) of their after-tax net income (after discharging all cumulated loss), if any, each year for compulsory statutory reserve until the amount of the reserve reaches 50% of our Domestic Companies’ registered capital. These funds may be distributed to shareholders at the time of each Domestic Company’s wind up. Off-Balance Sheet Arrangements . We have not entered into any financial guarantees or other commitments to guarantee the payment obligations of any third parties. In addition, we have not entered into any derivative contracts that are indexed to our own shares and classified as shareholders’ equity, or that are not reflected in our financial statements. Furthermore, we do not have any retained or contingent interest in assets transferred to an unconsolidated entity that serves as credit, liquidity or market risk support to such entity. Moreover, we do not have any variable interest in an unconsolidated entity that provides financing, liquidity, market risk or credit support to us or engages in leasing, hedging or research and development services with us. Capital Resources . To date we have financed our operations primarily through cash flows from operations, bank loans and short-term borrowings. As of September 30, 2013, we had total assets of approximately ¥133.1 million ($21.7 million), which includes cash amounting to approximately ¥6.7 million ($1.1 million), net accounts receivable from third parties amounting to approximately ¥35.9 million ($5.8 million), and net accounts receivable from related parties amounting to approximately ¥18.6 million ($3 million). Working capital amounted to approximately ¥79.4 million ($12.9 million), and shareholders’ equity amounted to approximately ¥82 million ($13.3 million) . Cash from Operating Activities . Net cash used in operating activities was approximately ¥8.0 million ($1.3 million) for the three months ended September 30, 2013. This was a decrease of approximately ¥8.2 million ($1.3 million) compared to net cash provided by operating activities of approximately ¥0.2 million for the three months ended September 30, 2012. In more detail: Net cash used in operating activities totaled approximately ¥8.0 million ($1.3 million) for the three months ended September 30, 2013, was primarily attributable to net income adjusted to reconcile to net cash provided by operating activities of ¥1.1 million ($0.2 million). Net cash used in changes in operating assets and liabilities resulted in a net cash use of ¥9.2 million ($1.5 million), which mainly due to: 1) ¥2.1 million ($0.3 million) change in other receivable , which was mainly due to increase of loans to third parties and business advance to staff related to oilfield and on-site installation and inspection of projects; 2) ¥2.1 million ($0.3 million) change in purchase advance, a ¥4.7 million ($0.8 million) change in inventory and a ¥2.9 million ($ 0. 5 million) change in trade accounts payable, were mainly because we purchased goods for our coming projects; 3) ¥2.6 million ($ 0. 4 million) changes in other payables was mainly due to settlement of professional fees and payments to related parties; 4) Offset by a ¥2.8 million ($0.5 million) change in trade accounts receivable as we strengthen cash collection of receivables; and 5) Offset by a ¥2.6 million ($ 0. 4 million) change in notes receivable as we collected the full amount of them. Cash from Investing Activities . Net cash used in investing activities was ¥6,720 ($1,095) for the three months ended September 30, 2013, a decrease of ¥374,686 ($61,060) from ¥381,406 for the same period of 2012. The decrease was due to decrease in purchase of property and equipment. Cash from Financing Activities . Net cash provided by financing activities amounted to approximately ¥2.3 million ($0.4 million) for the three months ended September 30, 2013, compared to cash flows used in financing activities of approximately ¥1.1 million for the three months ended September 30, 2012. During the three-month period ended September 30, 2013, we repaid approximately ¥5.2 million ($0.9 million) short term borrowings to related parties and received ¥7.56 million ($1.2 million) loan proceeds from a commercial bank, which was guaranteed by one of our officers and major shareholders of the Company . 14 Working Capital . Total working capital as of September 30, 2013 amounted to approximately ¥79.4 million ($12.9 million), compared to approximately ¥82 million as of June 30, 2013. Total current assets as of September 30, 2013 amounted to approximately ¥123.1 million ($20.1million), a decrease of approximately ¥5.6 million ($ 0. 9 million) compared to approximately ¥128.7 million at June 30, 2013. The decrease in total current assets at September 30, 2013 compared to June 30, 2013 was mainly due to decrease of trade accounts receivable and offset by increase in inventory . Current liabilities amounted to approximately ¥43.7 million ($7.1 million) at September 30, 2013, in comparison to approximately ¥46.7 million at June 30, 2013. This reduction of liabilities was attributable mainly to payment of trade accounts payable and repayment of short-term borrowings of related parties, and offset by increase in short-term bank loans . Item 3. Quantitative and Qualitative Disclosures about Market Risk. Not applicable.