Wetouch Technology Inc. 10-K

ITEM 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion should be read in conjunction with the consolidated financial statements and accompanying notes included in Part II, Item 8 of this Annual Report. The following discussion contains forward-looking statements that involve risks and uncertainties about our business and operations. Our actual results and the timing of selected events may differ materially from those anticipated in these forward-looking statements as a result of various factors, including those we describe under Item 1A. Risk Factors” and elsewhere in this Annual Report. See “Special Note Regarding Forward-Looking Statements.” Overview We were originally incorporated under the laws of the state of Nevada in August 1992. On October 9, 2020, we entered into the Share Exchange Agreement with BVI Wetouch and all the shareholders of BVI Wetouch, to acquire all the issued and outstanding capital stock of BVI Wetouch in exchange for the issuance to such shareholders an aggregate of 28 million shares of our common stock. The Reverse Merger closed on October 9, 2020. As a result of the Reverse Merger, BVI Wetouch became our wholly-owned subsidiary. Through our wholly-owned subsidiaries, BVI Wetouch, HK Wetouch, and Sichuan Vtouch, we are engaged in the research, development, manufacturing, sales and servicing of medium to large sized projected capacitive touchscreens. We are specialized in large-format touchscreens, which are developed and designed for a wide variety of markets and used in by the financial terminals, automotive, POS, gaming, lottery, medical, HMI, and other specialized industries. Our product portfolio comprises medium to large sized projected capacitive touchscreens ranging from 7.0 inch to 42 inch screens. On July 16, 2023, the Company’s board of directors approved a reverse stock split of the Company’s common stock at a ratio of 1-for-20. On July 16, 2023, the Company filed a certificate of change (with an effective date of July 16, 2023) with the Nevada Secretary of State pursuant to Nevada Revised Statutes 78.209 to effectuate a 1-for-20 reverse stock split of its outstanding common stock. On September 11, 2023, the Company received notice from FINRA/OTC Corporate Actions the reverse split would take effect at the open of business on September 12, 2023, and the reverse stock that split took effect on that date. All share information included in this Form 10-K has been reflected as if the reverse stock split occurred as of the earliest period presented. Effects of COVID-19 There has been a global pandemic of a novel strain of coronavirus (COVID-19) that first emerged in China in December 2019 and has spread globally. In March 2020, the World Health Organization declared COVID-19 as a global pandemic. The COVID-19 pandemic has resulted in quarantines, travel restrictions, and the temporary closures of stores and business facilities in China for the first half year of 2020, along with various government-initiated COVID-19 containment measures implemented intermittently. Since the end of 2022, the Chinese government has eased the COVID-19 restrictions. Although we are currently fully functional, potential impact on our results of operations will also depend on future developments and information that may emerge regarding the duration and severity of COVID-19 and the actions taken by governmental authorities and other entities to contain COVID-19 or to mitigate its impacts, almost all of which are beyond our control. The Company has several shutdowns during the first quarter of 2023. To serve our customers while also providing for the safety of our employees and service providers, we have modified numerous aspects of our logistics, transportation, supply chain, purchasing, and after-sale processes. The Company has taken proactive measures to promote products to new customers and entering more regions during the year ended December 31, 2022. The World Health Organization (WHO) announced on May 5, 2023 that COVID-19 is no longer a public health emergency of international concern. In the long term, the aftermath of the COVID-19 pandemic is likely to adversely affect the economies and financial markets of many countries and may result in a global economic downturn or a recession. This would likely adversely affect demand on some of our products or services, which may, in turn negatively impact our results of operations. 50 Highlights for the Year Ended December 31, 2023 ● Revenues were $39.7 million, an increase of 4.7% from $37.9 million for the year ended December 31, 2022 ● Gross profit was $17.2 million, an increase of 22.8% from $14.0 million for the year ended December 31, 2022 ● Gross profit margin was 43.3%, as compared to 37.0% for the year ended December 31, 2022 ● Net income was $8.3 million, a decrease of 4.6% from $8.7 million for the year ended December 31, 2022 ● Total volume shipped was 1,967,316 units, an increase of 2.6% from 1,916,976 units for the year ended December 31, 2022 Results of Operations The following table sets forth, for the periods indicated, statements of income data: (in US Dollar millions, except percentage) For the Years Ended December 31, Change 2023 2022 % Revenues $ 39.7 $ 37.9 4.7 % Cost of revenues (22.5 ) (23.9 ) (5.9 )% Gross profit 17.2 14.0 22.8 % Total operating expenses (4.5 ) (2.6 ) 73.1 % Operating income 12.7 11.4 11.4 % Total other income (expense), net (0.3 ) 0.7 142.9 % Income before income taxes 12.4 12.1 2.5 % Income tax expense (4.1 ) (3.4 ) 20.6 % Net income $ 8.3 $ 8.7 (4.6 )% For the Years Ended December 31, 2023 and 2022 Revenues Revenues were $39.7 million in the year ended December 31, 2023, an increase of $1.8 million, or 4.7%, compared with $37.9 million in the same period of last year. This was mainly due to the increase of 2.6% in sales volume, and an increase of 7.1% in the average selling price of our products in RMB, and 5.2% negative impact from exchange rate due to depreciation of RMB against US dollars, as compared with those of the same period of last year. For the Years Ended December 31, 2023 2022 Change Change Amount % Amount % Amount % (in US Dollar except percentage) Revenue from sales to customers in the PRC $ 27,646,722 69.6 % $ 26,440,376 69.7 % $ 1,206,346 4.6 % Revenue from sales to customers overseas 12,059,217 30.4 % 11,482,736 30.3 % 576,481 5.0 % Total Revenues $ 39,705,939 100 % $ 37,923,112 100 % $ 1,782,827 4.7 % For the Years Ended December 31, 2023 2022 Change Change Unit % Unit % Unit % (in Unit, except percentage) Units sold to customers in the PRC 1,330,013 67.6 % 1,295,097 67.6 % 34,916 2.7 % Units sold to customers overseas 637,303 32.4 % 621,879 32.4 % 15,424 2.5 % Total Units Sold 1,967,316 100 % 1,916,976 100 % 50,340 2.6 % PRC Dom estic Market For the year ended December 31, 2023, revenue from the PRC domestic market increased by $1.2 million or 4.6%, as a combined result of (i) the increase of 2.7% in sales volume, and an increase of 6.8% in the average sales price of our products in RMB, and (ii) 5.2% negative impact from exchange rate due to depreciation of RMB against US dollars, as compared with those of the same period of last year. 51 The increase of 6.8% in sales price in RMB was mainly due to the marketing initiatives to enhance sales of new models of higher-end products such as multi-functional printer touchscreens, industrial control computer touchscreens, medical touchscreens, and POS touchscreens in - Southwest and East China during the year ended December 31, 2023. Due to our proactive efforts to market new models and efforts to obtain new customers and penetrate into new regions, our sales increased by 23.3% in Southwest China, and 13.4% in East China, partially offset by a decrease of 23.4% in South China during the year ended December 31, 2023. Overseas Market For the year ended December 31, 2023, revenue from overseas market was $12.1 million as compared to $11.5 million of the same period of 2022, an increase of $0.6 million, or 5.0%, mainly due to an increase of 2.5% in sales volume and an increase of 7.8% in average selling price in RMB for gaming touchscreens and industrial control computer touchscreens. The Company had more pricing control capability due to the higher demand during the year ended December 31, 2023. The following table summarizes the breakdown of revenues by categories in US dollars: Revenues For the Years Ended December 31, 2023 2022 Change Change Amount % Amount % Amount Margin% (in US Dollars, except percentage) Product categories by end applications Automotive Touchscreens $ 9,780,713 24.6 % $ 9,293,357 24.5 % $ 487,356 5.2 % Industrial Control Computer Touchscreens 7,884,224 19.9 % 7,991,356 21.1 % (107,132 ) (1.3 )% POS Touchscreens 6,613,501 16.7 % 6,556,348 17.3 % 57,153 0.9 % Gaming Touchscreens 5,619,228 14.2 % 5,199,118 13.7 % 420,110 8.1 % Medical Touchscreens 5,799,489 14.6 % 5,050,067 13.3 % 749,422 14.8 % Multi-Functional Printer Touchscreens 4,008,784 10.1 % 3,822,054 10.1 % 186,730 4.9 % Others* - 0.0 % 10,812 0.0 % (10,812 ) (100.0 )% Total Revenues $ 39,705,939 100.0 % $ 37,923,112 100.0 % $ 1,782,827 4.7 % *Others include applications in self-service kiosks, ticket vending machines and financial terminals. The Company continued to shift production mix from traditional lower-end products to high-end touchscreens used in industrial control computers, gaming machines, and automobiles, primarily due to (i) greater growth potential of computer screen models in China, and (ii) stronger demand and better quality demand from consumers’ recognition of higher-end touchscreens made with better materials. 52 Gross Profit and Gross Profit Margin Years Ended December 31, Change (in millions, except percentage) 2023 2022 Amount % Gross Profit $ 17.2 $ 14.0 $ 3.2 22.8 % Gross Profit Margin 43.3 % 37.0 % 6.3 % Gross profit was $17.2 million during the year ended December 31, 2023, compared to $14.0 million in the same period of 2022. Our gross profit margin increased to 43.3% during the year ended December 31, 2023 as compared to 37.0% for the same period of 2022, primarily due to the increase in sales of 4.7%, particularly high-end products such as industrial control computer touchscreens, automotive touchscreens, and gaming touchscreens for the year ended December 31, 2023, the decrease of 1.4% in material costs, partially offset by the increase in labor cost of 9.0% for the year ended December 31, 2023. Selling Expenses Years Ended December 31, Change (in millions, except percentage) 2023 2022 Amount % Selling Expenses $ 0.6 $ 1.3 $ (0.7 ) (53.8 )% as a percentage of revenues 1.5 % 3.5 % (2.0 )% Selling expenses were $0.6 million for the years ended December 31, 2023, compared to $1.3 million in the same period in 2022, representing a decrease of $0.7 million, or 53.8%. During the year ended December 31, 2022, the Company incurred more marketing expenses to reduce the negative impact of tighter COVID-19 control in China during the second half of 2022. General and Administrative Expenses Years Ended December 31, Change (in millions, except percentage) 2023 2022 Amount % General and Administrative Expenses $ 3.8 $ 1.3 $ 2.5 192.3 % as a percentage of revenues 9.6 % 3.4 % 6.2 % General and administrative expenses were $3.8 million for the year ended December 31, 2023, compared to $1.3 million in the same period in 2022, representing an increase of $2.5 million, or 192.3%. The increase was primarily due to the increase in accrued underwriting fees of $2.5 million in connection with a private placement. On March 18, 2023, the Company entered into a private placement consent agreement with Representatives of the private placement taken place on January 19, 2023 on the agent fees of US$1.2 million, payable only on the completion of the underwriting offering. The Company made the full payment in February, 2024 (see Note 8). And In May, 2023, the Company entered into two third-party consulting service agreements for a fee of $1.35 million and $3.1 million respectively, payable only on the completion of the underwriting offering. The Company made the full payment in February, 2024 (see Note 8). 53 Research and Development Expenses Years Ended December 31, Change (in US dollars, except percentage) 2023 2022 Amount % Research and Development Expenses $ 84,551 $ 85,251 $ (700 ) (0.8 )% as a percentage of revenues 0.0 % 0.0 % 0.0 % Research and development expenses were $84,551 for the year ended December 31, 2023 compared to $85,251 in the same period in 2022. Operating Income Total operating income was $12.7 million for the year ended December 31, 2023 as compared to $11.4 million of the same period of last year due to higher gross profit and lower selling expenses, partially offset by higher general and administrative expenses. Other Expenses Years Ended December 31, Change (in US dollars, except percentage) 2023 2022 Amount % Other expenses $ 47,328 $ 0.0 $ N/A as a percentage of revenues 0.0 % 0.0 % 0.0 % During the year ended December 31, 2023, the Company accrued litigation compensation of RMB324,501 ($45,828) and court fee of RMB10,627 ($1,500). Loss on Conversion of Notes Payable Years Ended December 31, Change (in millions, except percentage 2023 2022 Amount % Loss on conversion of notes payable $ 0.0 $ 0.1 $ (0.1 ) (100.0 )% as a percentage of revenues 0.0 % 0.3 % (0.3 )% Loss on conversion of notes payable were $0.1 million for the years ended December 31, 2022, as lenders of convertible promissory notes converted certain principal, accrued and unpaid interest and default charges totaling $1,038,426 into 69,228 shares of common stock of the Company, including two notes fully converted. As a result, the Company recorded a loss on the conversion of notes payable of $0.1 million accordingly. Gain (loss) on Changes in Fair Value of Common Stock Purchase Warrants Years Ended December 31, Change (in millions, except percentage) 2023 2022 Amount % Gain (loss) on changes in fair value of common stock purchase warrants $ (0.1 ) $ 0.9 $ (1.0 ) 111.1 % as a percentage of revenues (0.3 )% 2.4 % (2.7 )% Loss on changes in fair value of common stock purchase warrants was $0.1 million for the year ended December 31, 2023, as compared to a gain of $0.9 million in the same period of 2022. Income Taxes Years Ended December 31, Change (in millions, except percentage) 2023 2022 Amount % Income before Income Taxes $ 12.3 $ 12.1 $ 0.2 1.7 % Income Tax (Expense) (4.1 ) (3.4 ) (0.7 ) 20.6 % Effective income tax rate 25.4 % 27.7 % (2.3 )% The effective income tax rate for the year ended December 31, 2023 and 2022 was 25.4% and 27.7%, respectively. 54 Our PRC subsidiary had $98.0 million of cash and cash equivalents of December 31, 2023, which are planned to be indefinitely reinvested in the PRC. The distributions from our PRC subsidiary are subject to the U.S. federal income tax at 21%, less any applicable foreign tax credits. Due to our policy of indefinitely reinvesting our earnings in our PRC business, we have not provided for deferred income tax liabilities related to PRC withholding income tax on undistributed earnings of our PRC subsidiaries. Net Income As a result of the above factors, we had a net income of $8.3 million in the year ended December 31, 2023 compared to a net income of $8.7 million in the same period of 2022. Liquidity and Capital Resources Historically, our primary uses of cash have been to finance working capital needs. We expect that we will be able to meet our needs to fund operations, capital expenditures and other commitments in the next 12 months primarily with our cash and cash equivalents, operating cash flows and bank borrowings. We may, however, require additional cash resources due to changes in business conditions or other future developments. If these sources are insufficient to satisfy our cash requirements, we may seek to sell additional equity or debt securities or obtain a credit facility. The sale of additional equity or equity-linked securities could result in additional dilution to stockholders. The incurrence of indebtedness would result in increased debt service obligations and could result in operating and financial covenants that would restrict operations. Financing may not be available in amounts or on terms acceptable to us, or at all. As of December 31, 2023, we had current assets of $106.8 million, consisting of $98.0 million in cash, $7.4 million in accounts receivable, $0.2 million in inventories, and $1.1 million in prepaid expenses other current assets. Our current liabilities as of December 31, 2023, were $6.3 million, which is comprised of $0.6 million in accounts payable, $0.5 million in loans from a third party, $4.0 million in accrued expenses and other current liabilities and $1.2 million in convertible promissory notes payable. The following is a summary of our cash flows provided by (used in) operating, investing, and financing activities for the years ended December 31, 2023 and 2022: Years Ended December 31, (in US Dollar millions) 2023 2022 Net cash provided by operating activities $ 12.7 $ 8.6 Net cash used in investing activities (2.3 ) - Net cash provided by (used in) financing activities 40.0 (0.7 ) Effect of foreign currency exchange rate changes on cash and cash equivalents (3.6 ) (2.8 ) Net increase in cash and cash equivalents 46.8 5.1 Cash and cash equivalents at the beginning of period 51.2 46.2 Cash and cash equivalents at the end of period $ 98.0 $ 51.3 Operating Activities Net cash provided by operating activities was $12.7 million for the year ended December 31, 2023, as compared to $8.6 million used in operating activities for the same period of the last year, a change of $4.1 million, primarily due to (i) an increase of $2.4 million in accrued expenses and other current liabilities, a decrease of $2.8 million in accounts receivable and $0.4 million in inventories, and a decrease of $0.1 million in amortization of discounts and issuance cost of the Notes, partially offset by (ii) a decrease of $0.5 million in net income for the year ended December 31, 2023, (iii) a decrease of $1.3 million in accounts payable, an increase of $0.5 million in prepaid expenses and other current assets, and an increase of $1.0 million in loss on changes in fair value of common stock purchase warrant liability. 55 Investing Activities Net cash used in investing activities for the year ended December 31, 2023 was $2.3 million for the purchase of property, plant and equipment. There were nil investing activities for the year ended December 31, 2022. Financing Activities Net cash provided by financing activities was $40.0 million for the year ended December 31, 2023, consisting of $40.0 million proceeds from a private placement, partially offset by the repayment of $55,000 in convertible promissory note payable. Net cash used in the financing activities was $0.7 million for the year ended December 31, 2022, including $1.4 million of repayment of convertible promissory note payable, partially offset by proceeds of a third party loan of $0.4 million. Our Days Sales Outstanding (“DSO”) decreased to 75 days for the year ended December 31, 2023 from 81 days for the year ended December 31, 2022. The following table provides an analysis of the aging of accounts receivable as of December 31, 2023 and 2022: December 31, 2023 December 31, 2022 Current $ 3,740,488 $ 1,252,152 1-3 months past due 2,635,045 4,998,596 4-6 months past due 1,079,719 2,806,973 7-12 months past due - 20 greater than 1 year past due - - Total accounts receivable $ 7,455,252 $ 9,057,741 The majority of the Company’s revenues and expenses were denominated primarily in RMB, the currency of the People’s Republic of China. There is no assurance that exchange rates between the RMB and the U.S. Dollar will remain stable. Inflation has not had a material impact on the Company’s business. Holding Company Structure Wetouch is a holding company and a company incorporated in Nevada with no material operations of its own. We conduct substantially all of our operations through our subsidiary established in mainland China. Our equity structure is a direct holding structure, that is, Wetouch, a Nevada corporation listed in the U.S., controls Sichuan Vtouch though BVI Wetouch. See “Item 1. Business – Corporate History and Structure ” for more details. We face various risks and uncertainties relating to doing business in China. Our business operations are primarily conducted in China, and we are subject to complex and evolving PRC laws and regulations. For example, we face risks associated with regulatory approvals on offshore offerings, anti-monopoly regulatory actions, and oversight on cybersecurity and data privacy, which may impact our ability to conduct certain businesses, accept foreign investments, or list and conduct offerings on a United States or other foreign exchange. These risks could result in a material adverse change in our operations and the value of our common stock, significantly limit or completely hinder our ability to continue to offer securities to investors, or cause the value of such securities to significantly decline. For a detailed description of risks relating to doing business in China, see “ Item 1.A. Risk Factors—Risks Related to Doing Business in China .” 56 The PRC government’s significant discretion and authority in regulating our operations and its oversight and control over offerings conducted overseas by, and foreign investment in, China-based issuers could significantly limit or completely hinder our ability to offer or continue to offer securities to investors. Implementation of industry-wide regulations in this nature may cause the value of our securities to significantly decline or become worthless. For more details, see “ Item 1.A. Risk Factors—Risks Relating to Doing Business in China— Changes in China’s economic, political or social conditions or government policies could have a material adverse effect on our business and operations. The PRC government has recently indicated an intent to exert more oversight and control over overseas securities offerings and other capital markets activities and foreign investment in China-based companies like us. Any such action, once taken by the PRC government, could significantly limit or completely hinder our ability to offer or continue to offer securities to investors and cause the value of such securities to significantly decline or in extreme cases, become worthless .” Risks and uncertainties arising from the legal system in China, including risks and uncertainties regarding the enforcement of laws and quickly evolving rules and regulations in China, could result in a material adverse change in our operations and cause our Common Stock to decrease in value or become worthless. For more details, see “ Item 1.A. Risk Factors—Risks Relating to Doing Business in China— Uncertainties with respect to the PRC legal system, including uncertainties regarding the enforcement of laws and sudden and unexpected changes in laws and regulations in China, could adversely affect us and limit the legal protections available to you and us .” Cash and Other Assets Transfers between the Holding Company and Its Subsidiaries As of March 31, 2024, Wetouch had made cumulative capital contributions of RMB346.0 million (US$ 51.9 million) to its PRC subsidiary through intermediate holding companies, and were accounted as long-term investments of Wetouch. These funds have been used by the Company’s PRC subsidiary for its operations. To date, there have not been any dividends or other distributions from our PRC subsidiary to Wetouch, both of which are located outside of mainland China. Wetouch, as a holding company, may rely on dividends and other distributions on equity paid by its PRC subsidiary for its cash and financing requirements, including the funds necessary to pay dividends and other cash distributions to its stockholders, subject to Wetouch’s charter and M&A and Nevada law or to service any expenses and other obligations it may incur. Within our direct holding structure, the cross-border transfer of funds from Wetouch to its PRC subsidiary is permitted under laws and regulations of the PRC currently in effect. Specifically, Wetouch is permitted to provide funding to its PRC subsidiary in the form of shareholder loans or capital contributions, subject to satisfaction of applicable government registration, approval and filing requirements in China. There are no quantity limits on Wetouch’s ability to make capital contributions to its PRC subsidiary under the PRC law and regulations. However, the PRC subsidiary may only procure stockholder loans from HK Wetouch in an amount equal to the difference between its registered capital and total investment amount as recorded in the Chinese Foreign Investment Comprehensive Management Information System or 2.5 times of its net assets, at the discretion of such PRC subsidiary. For additional information, see “ Item 1.A. Risk Factors—Risks Related to Doing Business in China PRC regulation of loans to and direct investment in PRC entities by offshore holding companies and governmental control of currency conversion may delay or prevent us from using the proceeds of any offerings or financings to make loans or additional capital contributions to our Chinese subsidiaries, which could materially and adversely affect our liquidity and our ability to fund and expand our business .” 57 The PRC Enterprise Income Tax Law (the “EIT Law”) and its implementation rules provide that a withholding tax at a rate of 10% will be applicable to dividends payable by PRC companies to non-PRC-resident enterprises unless reduced under treaties or arrangements between the PRC central government and the governments of other countries or regions where the non-PRC resident enterprises are tax resident. Pursuant to the tax agreement between mainland China and the Hong Kong Special Administrative Region, the withholding tax rate in respect to the payment of dividends by a PRC enterprise to a Hong Kong enterprise may be reduced to 5% from a standard rate of 10%. However, if the relevant tax authorities determine that our transactions or arrangements are for the primary purpose of enjoying a favorable tax treatment, the relevant tax authorities may adjust the favorable withholding tax in the future. Accordingly, there is no assurance that the reduced 5% withholding rate will apply to dividends received by our Hong Kong subsidiary from our PRC subsidiaries. This withholding tax will reduce the amount of dividends we may receive from our PRC subsidiaries. There is no assurance that the PRC government will not intervene or impose restrictions on the ability of us or our subsidiary to transfer cash. Most of our cash is in Renminbi, and the PRC government could prevent the cash maintained in our bank accounts in mainland China from leaving mainland China, could restrict deployment of the cash into the business of our subsidiaries and restrict the ability to pay dividends. For details regarding the restrictions on our ability to transfer cash between us, and our subsidiaries, see “ Item 1A. Risk Factors—Risks Related to Doing Business in China — “Governmental control of currency conversion may limit our ability to utilize our revenues effectively and affect the value of your investment .” We currently do not have cash management policies that dictate how funds are transferred between our holding company and our subsidiaries. Restrictions on Our Ability to Transfer Cash Out of China and to U.S. Investors Our PRC subsidiary’s ability to distribute dividends is based upon its distributable earnings. Current PRC regulations permit our PRC subsidiary to pay dividends to its shareholders only out of its accumulated profits, if any, as determined in accordance with PRC accounting standards and regulations. In addition, under PRC law, our PRC subsidiary is required to set aside at least 10% of its after-tax profits each year, if any, to fund certain statutory reserve funds until such reserve funds reach 50% of its registered capital. These reserves are not distributable as cash dividends. If our PRC subsidiary incurs debt on its own behalf in the future, the instruments governing such debt may restrict its ability to pay dividends to Wetouch. To address persistent capital outflows and the RMB’s depreciation against the U.S. dollar in the fourth quarter of 2016, the People’s Bank of China and the State Administration of Foreign Exchange, or SAFE, implemented a series of capital control measures in the subsequent months, including stricter vetting procedures for China-based companies to remit foreign currency for overseas acquisitions, dividend payments and shareholder loan repayments. The PRC government may continue to strengthen its capital controls and our PRC subsidiary’s dividends and other distributions may be subject to tightened scrutiny in the future. The PRC government also imposes controls on the conversion of RMB into foreign currencies and the remittance of currencies out of mainland China. Therefore, we may experience difficulties in completing the administrative procedures necessary to obtain and remit foreign currency for the payment of dividends from our profits, if any. COMMITMENTS AND CONTINGENCIES Legal Proceedings From time to time, the Company is a party to various legal actions arising in the ordinary course of business. The Company accrues costs associated with these matters when they become probable and the amount can be reasonably estimated. Legal costs incurred in connection with loss contingencies are expensed as incurred. For a discussion of the Company’s legal proceedings, see Note 14 to the Financial Statements in Item 8. Capital Expenditure Commitment As of December 31, 2023, the Company has no capital expenditure commitment. 58 Off-Balance Sheet Arrangements We had no off-balance sheet arrangements as of December 31, 2023. Critical Accounting Policies 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 prepare our financial statements in conformity with U.S. GAAP, which requires us to make judgments, estimates and assumptions. We continually evaluate these estimates and assumptions based on the most recently available information, our own historical experiences 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 our expectations as a result of changes in our estimates. Some of our accounting policies require a higher degree of judgment than others 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 accompanying notes and other disclosures included in this registration statement. When reviewing our financial statements, you should consider (i) our selection of critical accounting policies, (ii) the judgments and other uncertainties affecting the application of such policies and (iii) the sensitivity of reported results to changes in conditions and assumptions. Revenue recognition The Company adopted Accounting Standards Codification (“ASC”) 606 using the modified retrospective approach. The adoption of this standard did not have a material impact on the Company’s consolidated financial statements. Therefore, no adjustments to opening retained earnings were necessary. ASC 606, Revenue from Contracts with customers, establishes principles for reporting information about the nature, amount, timing and uncertainty of revenue and cash flows arising from the entity’s contracts to provide goods or services to customers. The core principle requires an entity to recognize revenue to depict the transfer of goods or services to customers in an amount that reflects the consideration that it expects to be entitled to receive in exchange for those goods or services recognized as performance obligations are satisfied. ASC 606 requires the use of a five-step model to recognize revenue from customer contracts. The five-step model requires that the Company (i) identify the contract with the customer, (ii) identify the performance obligations in the contract, (iii) determine the transaction price, including variable consideration to the extent that it is probable that a significant future reversal will not occur, (iv) allocate the transaction price to the respective performance obligations in the contract, and (v) recognize revenue when (or as) the Company satisfies the performance obligation. The application of the five-step model to the revenue streams compared to the prior guidance did not result in significant changes in the way the Company records its revenue. The Company has assessed the impact of the guidance by reviewing its existing customer contracts and current accounting policies and practices to identify differences that would result from applying the new requirements, including the evaluation of its performance obligations, transaction price, customer payments, transfer of control and principal versus agent considerations. Based on the assessment, the Company concluded that there was no change to the timing and pattern of revenue recognition for its current revenue streams. In accordance to ASC 606, the Company recognizes revenue when it transfers its goods and services to customers in an amount that reflects the consideration to which the Company expects to be entitled in such exchange. The Company accounts for the revenue generated from sales of its products primarily to its customers in PRC and overseas, as the Company is acting as a principal in these transactions, is subject to inventory risk, has latitude in establishing prices, and is responsible for fulfilling the promise to provide customers the specified goods, which the Company has control of the goods and has the ability to direct the use of goods to obtain substantially all the benefits. All of the Company’s contracts have one single performance obligation as the promise is to transfer the individual goods to customers, and there is no separately identifiable other promises in the contracts. The Company’s revenue streams are recognized at a point in time when title and risk of loss passes and the customer accepts the goods, which generally occurs at delivery. The Company’s products are sold with no right of return and the Company does not provide other credits or sales incentive to customers. The Company’s sales are net of value added tax (“VAT”) and business tax and surcharges collected on behalf of tax authorities in respect of product sales. 59 Contract Assets and Liabilities Payment terms are established on the Company’s pre-established credit requirements based upon an evaluation of customers’ credit quality. Contract assets are recognized for in related accounts receivable. Contract liabilities are recognized for contracts where payment has been received in advance of delivery. The contract liability balance can vary significantly depending on the timing when an order is placed and when shipment or delivery occurs. As of December 31, 2022 and 2021, other than accounts receivable and advances from customers, the Company had no other material contract assets, contract liabilities or deferred contract costs recorded on its consolidated balance sheet. Costs of fulfilling customers’ purchase orders, such as shipping, handling and delivery, which occur prior to the transfer of control, are recognized in selling, general and administrative expense when incurred. The Company generally warrants that its products will substantially conform to the agreed-upon specifications for three years from the date of shipment. The Company’s liability is limited to either a credit equal to the purchase price or replacement of the defective part. Returns, after sales services and technical support under warranty have historically been immaterial. As such, the Company does not record a specific warranty reserve or consider activities related to such warranty, if any, to be a separate performance obligation. Disaggregation of Revenues The Company disaggregates its revenue from contracts by geography, as the Company believes it best depicts how the nature, amount, timing and uncertainty of the revenue and cash flows are affected by economic factors. The Company’s disaggregation of revenues for the years ended December 31, 2022 and 2021 are disclosed in Note 14 to the financial statements. Use of estimates In preparing the consolidated financial statements in conformity with accounting principles generally accepted in the United States of America (“US GAAP”), management makes 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. These estimates are based on information as of the date of the consolidated financial statements. Significant estimates required to be made by management include, but are not limited to, the allowance for estimated uncollectible receivables, inventory valuations, useful lives of property, plant and equipment, intangible assets, the recoverability of long-lived assets, provision necessary for contingent liabilities, revenue recognition and realization of deferred tax assets. Actual results could differ from those estimates. Inventories Inventory consists of raw materials, work-in-process and finished goods and is stated at the lower of cost or net realizable value. Cost is determined using a weighted average. For work-in-process and manufactured inventories, cost consists of raw materials, direct labor and an allocated portion of the Company’s production overhead. The Company writes down excess and obsolete inventory to its estimated net realizable value based upon assumptions about future demand and market conditions. For finished goods and work-in-process, if the estimated net realizable value for an inventory item, which is the estimated selling price in the ordinary course of business, less reasonably predicable costs to completion and disposal, is lower than its cost, the specific inventory item is written down to its estimated net realizable value. Net realizable value for raw materials is based on replacement cost. Provisions for inventory write-downs are included in the cost of revenues in the consolidated statements of operations. Inventories are carried at this lower cost basis until sold or scrapped. Nil and $74,100 inventory write-off was recorded for the year ended December 31, 2023 and 2022, respectively. 60 Convertible Promissory Notes The Company accounts for its convertible promissory notes according to guidance of ASU 2020-06, “Debt—Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging— Contracts in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity”, which simplifies the accounting for convertible instruments by eliminating the requirement to separate embedded conversion features from the host contract when the conversion features are not required to be accounted for as derivatives under Topic 815. The Company analyzes the convertible notes for the existence of a beneficial conversion feature. The Company considered the three characteristics of a derivative instrument listed in ASC 815-10-15-83: (i) having one or more underlyings and one or more notional amounts or payment provisions or both; (ii) requiring no initial net investment; and (iii) permitting net settlement. Since the Company’s notes have fixed interest rate, specified notional principal and settlement date, which no other events would affect specified settlement, and the Company received net proceeds after issuance costs and discount, which the Company recorded as the net proceeds or net settled investment, the management assessed that the Notes did not do not meet the definition of a derivative instruments and an embedded feature would not be bifurcated. The discounts on the convertible notes, are amortized to interest expense, using the effective interest method, over the terms of the related convertible notes. Common stock purchase warrants The Company also analyzed the Warrants in accordance with ASC 815, to determine whether the Warrants meet the definition of a derivative and, if so, whether the Warrants meet the scope exception of ASC 815-40, which is that contracts issued or held by the reporting entity that are both (1) indexed to its own stock and (2) classified in stockholders’ equity shall not be considered to be derivative instruments for purposes of ASC 815-40. The Company concluded that the Warrants issued in November and December 2021 financing should be treated as a derivative liability because the Warrants are entitled to a price adjustment provision to allow the exercise price to be increased or reduced in the event the Company issues or sells any additional shares of common stock at a price per share more or less than the then-applicable exercise price or without consideration, which is typically referred to as a “Down-round protection” or “anti-dilution” provision. According to ASC 815-40, the “Down-round protection” provision is not considered to be an input to the fair value of a fixed-for-fixed option on equity shares which leads the Warrants to fail to be qualified as indexed to the Company’s own stock and then to fail to meet the scope exceptions of ASC 815. Therefore, the Company accounted for the Warrants as derivative liabilities under ASC 815. Pursuant to ASC 815, derivatives are measured at fair value and re-measured at fair value with changes in fair value recorded in earnings at each reporting period. The Company used a Black-Scholes-pricing model to estimate the fair values of common stock purchase warrants at the balance sheet dates. As of December 31, 2023 and 2022, the Company recorded $378,371 and $256,957 common stock purchase warrant liability, respectively, and loss of $121,413 and gain of $871,677 on change of fair value of common stock purchase warrant liability for the year ended December 31, 2023 and 2022, respectively. Income taxes The Company accounts for current income taxes in accordance with the laws of the relevant tax authorities. Deferred income taxes are recognized when temporary differences exist between the tax bases of assets and liabilities and their reported amounts in the consolidated financial statements. 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 income in the period including the enactment date. Valuation allowances are established, when necessary, to reduce deferred tax assets to the amount expected to be realized. 61 An uncertain tax position is recognized only if it is “more likely than not” that the tax position would be sustained in a tax examination. The amount recognized is the largest amount of tax benefit that is greater than 50% likely of being realized on examination. For tax positions not meeting the “more likely than not” test, no tax benefit is recorded. Penalties and interest incurred related to underpayment of income tax are classified as income tax expense in the period incurred. No significant penalties or interest relating to income taxes have been incurred during the years ended December 31, 2023 and 2022. The Company does not believe there was any uncertain tax provision at December 31, 2023 and 2022. The Company’s operating subsidiaries in China are subject to the income tax laws of the PRC. No significant income was generated outside the PRC for the fiscal years ended December 31, 2023 and 2022. As of December 31, 2023, all of the Company’s tax returns of its PRC Subsidiaries remain open for statutory examination by PRC tax authorities. Property, plant and equipment, net Property, plant and equipment are stated at cost less accumulated depreciation and amortization. Depreciation and amortization of property and equipment is provided using the straight-line method over their expected useful lives, as follows: Useful life Buildings 20 years Machinery and equipment 10 years Office and electric equipment 3 years Vehicles 10 years Expenditures for maintenance and repairs, which do not materially extend the useful lives of the assets, are charged to expense as incurred. Expenditures for major renewals and betterments which substantially extend the useful life of assets are capitalized. The cost and related accumulated depreciation of assets retired or sold are removed from the respective accounts, and any gain or loss is recognized in the consolidated statements of income and other comprehensive income in other income or expenses. Impairment of long-lived Assets Long-lived assets, such as property, plant and equipment, land use rights, are reviewed for impairment when events or changes in circumstances indicate that the carrying value of such assets may not be recoverable. Recoverability of a long-lived asset or asset group to be held and used is measured by a comparison of the carrying amount of an asset or asset group to the estimated undiscounted future cash flows expected to be generated by the asset or asset group. If the carrying value of an asset or asset group exceeds its estimated undiscounted future cash flows, an impairment charge is recognized by the amount that the carrying value exceeds the estimated fair value of the asset or asset group. Fair value is determined through various valuation techniques including discounted cash flow models, quoted market values and third party independent appraisals, as considered necessary. Assets to be disposed are reported at the lower of carrying amount or fair value less costs to sell, and are no longer depreciated. No impairment of long-lived assets was recognized for any of the years presented. Comprehensive income Comprehensive income (loss) consists of two components, net income and other comprehensive income (loss). The foreign currency translation gain or loss resulting from translation of the financial statements expressed in RMB to US$ is reported in other comprehensive income (loss) in the consolidated statements of income and comprehensive income. Recently issued accounting guidance The Company considers the applicability and impact of all accounting standards updates (“ASUs”). Management periodically reviews new accounting standards that are issued. 62 The Company considers the applicability and impact of all accounting standards updates (“ASUs”). Management periodically reviews new accounting standards that are issued. In August 2020, the FASB issued ASU No. 2020-06 (“ASU 2020-06”) “Debt—Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging—Contracts in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity.” ASU 2020-06 will simplify the accounting for convertible instruments by reducing the number of accounting models for convertible debt instruments and convertible preferred stock. Limiting the accounting models results in fewer embedded conversion features being separately recognized from the host contract as compared with current U.S. GAAP. Convertible instruments that continue to be subject to separation models are (1) those with embedded conversion features that are not clearly and closely related to the host contract, that meet the definition of a derivative, and that do not qualify for a scope exception from derivative accounting, and (2) convertible debt instruments issued with substantial premiums for which the premiums are recorded as additional paid-in capital. ASU 2020-06 also amends the guidance for the derivatives scope exception for contracts in an entity’s own equity to reduce form-over-substance-based accounting conclusions. For public business entities, the amendments in ASU 2020-06 are effective for public entities which meet the definition of a smaller reporting company are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2023, including interim periods within those fiscal years. Early application of the guidance will be permitted for all entities for fiscal years beginning after December 15, 2020, including interim periods within those fiscal years. The Company adopted ASU 2020-06 effective January 1, 2021. In June 2016, the FASB issued ASU 2016-13, Financial Instruments – Credit Losses (Topic 326), which introduces new guidance for the accounting for credit losses on instruments within its scope. The new guidance introduces an approach based on expected losses to estimate credit losses on certain types of financial instruments. It also modifies the impairment model for available-for-sale (AFS) debt securities and provides for a simplified accounting model for purchased financial assets with credit deterioration since their origination. The pronouncement will be effective for public business entities that are SEC filers in fiscal years beginning after December 15, 2022, including interim periods within those fiscal years. Early application of the guidance will be permitted for all entities for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. The Company adopted ASU 2016-13 utilizing the modified retrospective transition method on January 1, 2022. The adoption of ASU 2016-13 did not have a material impact on the Company’s consolidated financial statements. In December 2019, the FASB issued ASU 2019-12, “Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes”. The amendment simplifies the accounting for income taxes by eliminating some exceptions to the general approach in ASC 740, Income Taxes. It also clarifies certain aspects of the existing guidance to promote more consistent application, among other things. The guidance is effective for interim and annual reporting periods beginning within 2021 with early adoption permitted. In October 2021, the FASB issued ASU No. 2021-08, which will require companies to apply the definition of a performance obligation under ASC Topic 606 to recognize and measure contract assets and contract liabilities (i.e., deferred revenue) relating to contracts with customers that are acquired in a business combination. Under current U.S. GAAP, an acquirer generally recognizes assets acquired and liabilities assumed in a business combination, including contract assets and contract liabilities arising from revenue contracts with customers, at fair value on the acquisition date. ASU No. 2021-08 will result in the acquirer recording acquired contract assets and liabilities on the same basis that would have been recorded by the acquiree before the acquisition under ASC Topic 606. ASU No. 2021-08 is effective for fiscal years beginning after December 15, 2022, with early adoption permitted. The Company adopted ASU No. 2021-08 on January 1, 2023. The adoption of ASU No. 2021-08 did not have a material impact on the Company’s consolidated financial statements. In November 2021, the FASB issued ASU No. 2021-10, Government Assistance (Topic 832). This ASU requires business entities to disclose information about government assistance they receive if the transactions were accounted for by analogy to either a grant or a contribution accounting model. The disclosure requirements include the nature of the transaction and the related accounting policy used, the line items on the balance sheets and statements of operations that are affected and the amounts applicable to each financial statement line item and the significant terms and conditions of the transactions. The ASU is effective for annual periods beginning after December 15, 2021. The disclosure requirements can be applied either retrospectively or prospectively to all transactions in the scope of the amendments that are reflected in the financial statements at the date of initial application and new transactions that are entered into after the date of initial application. The ASU is currently not expected to have a material impact on the Company’s financial results or financial position. From time to time, the FASB or other standards setting bodies issue new accounting pronouncements. Updates to the FASB ASCs are communicated through issuance of ASUs. Unless otherwise discussed, the Company believes that the recently issued guidance, whether adopted or to be adopted in the future, is not expected to have a material impact on its consolidated financial statements upon adoption. 63 Recently issued accounting pronouncements not yet adopted In March 2020, the FASB issued ASU No. 2020-04, “Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting”, which provides optional expedients and exceptions for applying U.S. GAAP on contract modifications and hedge accounting to contracts, hedging relationships, and other transactions that reference LIBOR or another reference rate expected to be discontinued because of reference rate reform, if certain criteria are met. These optional expedients and exceptions provided in ASU No. 2020-04 are effective for the Company as of March 12, 2020 through December 31, 2022. In December 2022, the FASB issued ASU 2022-06, Reference Rate Reform (Topic 848): Deferral of the Sunset Date of Topic 848 (“ASU 2022-06”), which deferred the application dates of Topic 848 to December 31, 2024. The Group currently does not have any financial instrument that reference to LIBOR and does not anticipate the adoption will have a material impact to the Group’s combined and consolidated financial statements. In November 2023, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2023-07, Improvements to Reportable Segment Disclosures (Topic 280). This ASU updates reportable segment disclosure requirements by requiring disclosures of significant reportable segment expenses that are regularly provided to the Chief Operating Decision Maker (“CODM”) and included within each reported measure of a segment’s profit or loss. This ASU also requires disclosure of the title and position of the individual identified as the CODM and an explanation of how the CODM uses the reported measures of a segment’s profit or loss in assessing segment performance and deciding how to allocate resources. The ASU is effective for annual periods beginning after December 15, 2023, and interim periods within fiscal years beginning after December 15, 2024. Adoption of the ASU should be applied retrospectively to all prior periods presented in the financial statements. Early adoption is also permitted. This ASU will likely result in the group including the additional required disclosures when adopted. The Group is currently evaluating the provisions of this ASU and expect to adopt them for the year ending December 31, 2024. In December 2023, the FASB issued ASU No. 2023-09, Improvements to Income Tax Disclosures (Topic 740). The ASU requires disaggregated information about a reporting entity’s effective tax rate reconciliation as well as additional information on income taxes paid. The ASU is effective on a prospective basis for annual periods beginning after December 15, 2024. Early adoption is also permitted for annual financial statements that have not yet been issued or made available for issuance. The Group has evaluated this ASU and expects to add additional disclosures to our combined and consolidated financial statements, once adopted. ITEM 7A. Quantitative and Qualitative Disclosure About Market Risk As a “smaller reporting company” as defined by Item 10 of Regulation S-K, we are not required to provide information required by this Item. ITEM 8. Financial Statements and Supplementary Data Please see the financial statements beginning on page F-1 following the signature pages in this Annual Report on Form 10-K and incorporated herein by reference. ITEM 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure Not Applicable. 64