CHINA AUTOMOTIVE SYSTEMS, INC.
INDEX
Annual Report - FY 2010
Page
PART I
Item 1.
Item 1A.
Item 1B.
Item 2.
Item 3.
Item 4.
PART II
Item 5.
Item 6.
Item 7.
Item 7A.
Item 8.
Item 9.
Item 9A.
Item 9B.
PART III
Item 10.
Item 11
Item 12.
Item 13.
Item 14.
PART IV
Item 15.
Business
Risk Factors
Unresolved Staff Comments
Properties
Legal Proceedings
(Removed and Reserved)
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer
Purchases of Equity Securities
Selected Financial Data
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Quantitative and Qualitative Disclosures about Market Risk
Financial Statements and Supplementary Data
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Controls and Procedures
Other Information
Directors, Executive Officers and Corporate Governance
Executive Compensation
Security Ownership of Certain Beneficial Owners and Management and Related
Stockholder Matters
Certain Relationships and Related Transactions, and Director Independence
Principal Accounting Fees and Services
Exhibits, Financial Statement Schedules
Financial Statements
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Annual Report - FY 2010
CAUTIONARY STATEMENT
This Annual Report on Form 10-K contains forward-looking statements within the meaning of Section 27A of the
Securities Act of 1933, and Section 21E of the Securities Exchange Act of 1934. These statements relate to future
events or the Company’s future financial performance. The Company has attempted to identify forward-looking
statements by terminology including “anticipates,” “believes,” “expects,” “can,” “continues,” “could,” “estimates,”
“expects,” “intends,” “may,” “plans,” “potential,” “predicts,” “should” or “will” or the negative of these terms or other
comparable terminology. Such statements are subject to certain risks and uncertainties, including the matters set forth
in this report or other reports or documents the Company files with the Securities and Exchange Commission from time
to time, which could cause actual results or outcomes to differ materially from those projected. Although the Company
believes that the expectations reflected in the forward-looking statements are reasonable, the Company cannot
guarantee future results, levels of activity, performance or achievements. Undue reliance should not be placed on these
forward-looking statements which speak only as of the date hereof. The Company’s expectations are as of the date this
Form 10-K is filed, and the Company does not intend to update any of the forward-looking statements after the date
this Annual Report on Form 10-K is filed to confirm these statements to actual results, unless required by law.
ITEM 1.
BUSINESS
COMPANY HISTORY
PART I
China Automotive Systems, Inc., “China Automotive” or the “Company,” was incorporated in the State of Delaware on
June 29, 1999 under the name Visions-In-Glass, Inc. On or around March 5, 2003, the Company acquired all of the
issued and outstanding equity interests of Great Genesis Holdings Limited, “Genesis,” a corporation organized under
the laws of the Hong Kong Special Administrative Region, China, by issuance of 20,914,250 shares of common stock
to certain sellers. After the acquisition, the Company continued the operations of Genesis. On May 19, 2003, the
Company changed its name from Visions-In-Glass, Inc. to China Automotive Systems, Inc. Presently, Genesis owns
interests in eight Sino-joint ventures in the People’s Republic of China, “China” or the “PRC,” which manufacture
power steering systems and/or related products for different segments of the automobile industry. Unless the context
indicates otherwise, the Company uses the terms “the Company,” “we,” “our” and “us” to refer to Genesis and China
Automotive collectively on a consolidated basis.
BUSINESS OVERVIEW
The Company is a holding company and has no significant business operations or assets other than its interest in
Genesis. All operations are conducted through Genesis and Henglong USA, its wholly-owned subsidiaries (the
abbreviated names of subsidiaries and joint ventures are defined in the organization chart below), as well as through
seven Sino-foreign joint ventures in China, Henglong, Jiulong, Shenyang, Zhejiang, USAI, Wuhu and Jielong and a
wholly-owned subsidiary in China, Hengsheng. All of these seven non-wholly owned joint ventures (Henglong, Jiulong,
Shenyang, Zhejiang, USAI, Wuhu and Jielong) are under the Company’s control. The Testing Center is a
wholly-owned subsidiary of Henglong, and Beijing Henglong is a joint venture formed by Hengsheng. Set forth below
is an organizational chart as at December 31, 2010.
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CHINA AUTOMOTIVE SYSTEMS, INC. [NASDAQ:CAAS]
↓100%
Henglong USA Corporation
↓100%
Great Genesis Holdings Limited
↓
↓70%
Shenyang Jinbei
Henglong
Automotive
Steering System
Co., Ltd.
↓51%
Zhejiang
Henglong &
Vie
Pump-Manu
Co., Ltd.
↓80%
Jingzhou
Henglong
Automotive
Parts Co.,
Ltd.
↓81%
Shashi Jiulong
Power
Steering
Gears
Co., Ltd.
“Henglong”1 “Jiulong”2
“Shenyang”3 “Zhejiang”4 “USAI”5
↓83.34%
Universal
Sensor
Application,
Inc.
↓77.33%
Wuhu Henglong
Automotive
Steering
System Co.,
Ltd.
“Wuhu”6
↓85%
Wuhan
Jielong
Electric Power
Steering Co.,
Ltd.
“Jielong”7
↓80.00%
Jingzhou
Henglong
Automotive
Technology
(Testing)
Center
“Testing
Center” 9
Annual Report - FY 2010
↓100.00%
Jingzhou
Hengsheng
Automotive
System
Co., Ltd.
“Hengsheng”8
↓50.00%
Beijing
Henglong
Automotive
System Co.,
Ltd.
“Beijing
Henglong”10
1. Henglong was established in 1997 and is mainly engaged in the production of rack and pinion power steering
gear for cars and light duty vehicles. On March 31, 2008, the Company’s wholly-owned subsidiary, Genesis,
and Wiselink Holdings Limited, “Wiselink,” both controlled by Hanlin Chen and his family, entered into an
equity transfer agreement, the “Henglong Agreement,” pursuant to which Wiselink transferred and assigned its
35.5% equity interest in Henglong, one of the Company’s currently consolidated subsidiaries, to Genesis for a
total consideration of $32,090,000. The Company now holds an 80% equity interest in Henglong. Under the
terms of the Henglong Agreement, Genesis is deemed to be the owner of Henglong commencing from January
1, 2008. The Henglong acquisition is considered to be a business combination of companies under common
control and is being accounted for as a pooling of interests.
2.
Jiulong was established in 1993 and is mainly engaged in the production of integral power steering gear for
heavy-duty vehicles.
3. Shenyang was established in 2002 and focuses on power steering parts for light duty vehicles.
4. Zhejiang was established in 2002 to focus on power steering pumps.
5. USAI was established in 2005 and is mainly engaged in the production and sales of sensor modules. In 2008,
Genesis and Shanghai Hongxi Investment Inc., “Hongxi,” the other shareholder of USAI, agreed to increase
USAI’s capital to $2,600,000 from $1,800,000. The increased capital was wholly funded by Genesis.
Therefore, the capital contributed by Genesis in USAI increased to $2,166,900 from $1,366,900, accounting
for 83.34% of the total capital; while the capital contributed by Hongxi remained unchanged, accounting for
16.66% of the total capital.
6. Wuhu was established in 2006 and is mainly engaged in the production and sales of automobile steering
systems.
7.
Jielong was established in 2006 and is mainly engaged in the production and sales of electric power steering
gear, “EPS.”
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Annual Report - FY 2010
8. On March 7, 2007, Genesis established Hengsheng, its wholly-owned subsidiary, to engage in the production
and sales of automotive steering systems. The registered capital of Hengsheng at the time of establishment was
$10,000,000. On February 10, 2010, the registered capital of Hengsheng was increased to $16,000,000.
9.
In December 2009, Henglong, a subsidiary of Genesis, formed the Testing Center, which is mainly engaged in
the research and development of new products. The registered capital of the Testing Center is RMB
30,000,000, approximately equivalent to $4,393,544.
10. On January 24, 2010, Genesis entered into a joint venture contract with Beijing Hainachuan Auto Parts Co.,
Ltd., to establish Beijing Henglong as a joint venture company to design, develop and manufacture both
hydraulic and electric power steering systems and parts. On September 16, 2010, both parties agreed to change
the joint venture company’s investor into Hengsheng from Genesis, and left the other terms of the joint venture
contract unchanged. Under PRC laws, the establishment of Beijing Henglong and the effectiveness of the
equity joint venture contract have been approved by Administration For Industry and Commerce in Beijing.
The Company has business relationships with more than sixty vehicle manufacturers, including FAW Group and
Dongfeng Auto Group, two of the five largest automobile manufacturers in China; Shenyang Brilliance Jinbei Co., Ltd.,
the largest light vehicle manufacturer in China; Chery Automobile Co., Ltd, the largest state owned car manufacturer in
China, and BYD Auto Co., Ltd and Zhejiang Geely Automobile Co., Ltd., the largest privately owned car
manufacturers in China. From 2008, the Company has supplied power steering pumps and power steering gear to the
Sino-Foreign joint ventures established by General Motors (GM), Citroen and Volkswagen. In 2009, the Company
began to supply power steering gear to Chrysler North America.
INTELLECTUAL PROPERTY RIGHTS
Intellectual Property rights, “IP,” are important in helping the Company maintain its competitive position. Currently,
the Company owns IP rights, including two trademarks covering automobile parts, “HL” and “JL,” and more than
eighty five patents registered in China covering power steering technology. The Company is in the process of
integrating new advanced technologies such as electronic chips in power steering systems into its current production
line and is pursuing aggressive strategies in technology to maintain a competitive edge within the automobile industry.
In 2001, the Company signed a Ten-Year Licensing Agreement with Bishop Steering Technology Limited, a leader in
automotive steering gear technology innovation which offers advanced technology for steering valves within the
contract period. Before expiration, the Company plans to negotiate with Bishop Steering Technology Limited to renew
the agreement. The Company does not anticipate that there will be a significant adverse impact if the Company fails to
renew as the Company has already developed independent R&D capabilities in steering valves. In 2003, the Company
signed a Technology Transfer Agreement with Nanyang Ind. Co. Ltd., a leading steering column maker, for the
technology necessary for electronic power steering (EPS) systems. In addition, the Company established with Tsinghua
University a steering systems research institute designed to develop Electronic Power Steering (EPS) and Electronic
Hydraulic Steering Systems (EHPS). In December 2009, the Company, through Henglong, a subsidiary of Genesis,
formed Henglong Testing Center to engage in the research and development of new products, such as EPS, integral
Rack and Pinion power steering and high pressure power steering, to optimize current products design and to develop
new, cost-saving manufacturing processes.
STRATEGIC PLAN
The Company’s short to medium term strategic plan is to focus on both domestic and international market expansion.
To achieve this goal and higher profitability, the Company focuses on brand recognition, quality control, decreasing
costs, research and development and strategic acquisitions. Set forth below are the Company’s programs:
o Brand Recognition. Under the Henglong and Jiulong brands, the Company offers four separate series of power
steering sets and 310 models of power steering sets, steering columns, steering oil pumps and steering hoses.
o Quality Control. The Henglong and Jiulong manufacturing facilities obtained the ISO/TS 16949 System
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Annual Report - FY 2010
Certification in January 2004, a well-recognized quality control system in the auto industry developed by
TUVRheindland of Germany.
o Decreasing Cost. By improving the Company’s production ability and enhancing equipment management,
optimizing the process and products structure, perfecting the supplier system and cutting production cost, the
Company’s goal is to achieve a more competitive profit margin.
o Research and Development. By partnering with Bishop Steering Technology Limited, Nanyang Ind. Co. Ltd. and
Tsinghua University for the development of advanced steering systems, the Company’s objective is to gain
increased market share in China.
o
International Expansion. The Company has entered into agreements with several international vehicle
manufacturers and auto parts modules suppliers and carried on preliminary negotiations regarding future
development projects.
o Acquisitions. The Company is exploring opportunities to create long-term growth through new ventures or
acquisitions of other auto component manufacturers. The Company will seek acquisition targets that fulfill the
following criteria:
companies that can be easily integrated into product manufacturing and corporate management;
companies that have strong joint venture partners that would become major customers; and
companies involved with power steering systems
CUSTOMERS
The Company’s ten largest customers represented 77.4% of the Company’s total sales for the year ended December 31,
2010. The following table sets forth information regarding the Company’s ten largest customers.
Name of Major Customers
Chery Automobile Co., Ltd
BYD Auto Co., Ltd
Dongfeng Auto Group Co., Ltd
Zhejiang Geely Holding Co., Ltd
Brilliance China Automotive Holdings Limited
Beiqi Foton Motor Co., Ltd.
China FAW Group Corporation
Great Wall Motor Company Limited
Chrysler Group LLC
Anhui Jianghuai Automobile Group
Total
Percentage of Total
Revenue in 2010
12.3 %
11.0 %
8.8 %
8.5 %
8.3 %
8.3 %
7.2 %
5.0 %
4.5 %
3.5 %
77.4 %
The Company primarily sells its products to the above-mentioned original equipment manufacturing, “OEM,”
customers; it also has excellent relationships with them, including as their first-ranking supplier and developer for new
product development for new models. While the Company intends to continue to focus on retaining and winning this
business, it cannot ensure that it will succeed in doing so. It is difficult to keep these contracts as a result of severe price
competition and customers’ diversification of their supply base. The Company’s business would be materially and
adversely affected if it loses one or more of these major customers.
SALES AND MARKETING
The Company’s sales and marketing team has 130 sales persons, which are divided into an OEM team, a sales service
team and a working group dedicated to international business. These sales and marketing teams provide a constant
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Annual Report - FY 2010
interface with the Company’s key customers. They are located in all major vehicle producing regions to more
effectively represent the Company’s customers’ interests within the Company’s organization, to promote their
programs and to coordinate their strategies with the goal of enhancing overall service and satisfaction. The Company’s
ability to support its customers is further enhanced by its broad presence in terms of sales offices, manufacturing
facilities, engineering technology centers and joint ventures.
The Company’s sales and marketing organization and activities are designed to create overall awareness and
consideration of, and therefore to increase sales of, the Company’s modular systems and components. To achieve that
objective, the Company organized delegations to visit the United States, Korea, India and Japan and has supplied power
steering gear to Chrysler North America. Through these activities, the Company has generated potential business
interest as a strong base for future development.
DISTRIBUTION
The Company’s distribution system covers all of China. The Company has established sales and service offices with
certain significant customers to deal with matters related to such customers in a timely fashion. The Company also
established distribution warehouses close to major customers to ensure timely deliveries. The Company maintains strict
control over inventories. Each of these sales and service offices sends back to the Company through e-mail or fax
information related to the inventory and customers’ needs. The Company guarantees product delivery in 8 hours for
those customers who are located within 200 km from the Company’s distribution warehouses, and 24 hours for
customers who are located outside of 200 km from the Company’s distribution warehouses. Delivery time is a very
important competitive factor in terms of customer decision making, together with quality, pricing and long-term
relationships.
EMPLOYEES AND FACILITIES
As of December 31, 2010, the Company employed approximately 3,908 persons, including approximately 2,348 by
Henglong and Jiulong, approximately 338 by Shenyang, approximately 336 by Zhejiang, approximately 52 by USAI,
approximately 166 by Wuhu, approximately 268 by Hengsheng, and 5 by Henglong USA.
As of December 31, 2010, each of Henglong and Jiulong, Shenyang, Zhejiang, Wuhu, Jielong, and Hengsheng has a
manufacturing and administration area of 278,092 square meters, 35,354 square meters, 32,000 square meters, 83,700
square meters, 79,920 square meters, and 170,520 square meters, respectively.
Hubei Province, which is home to Dongfeng, one of the largest automakers in China, provides an ample supply of
inexpensive but skilled labor to automotive-related industries. The annual production of the Company’s main product,
power steering gear, was approximately 3,100,000 units and 2,200,000 units in 2010 and 2009 respectively. Although
the production process continues to rely heavily on manual labor, the Company has invested substantially in high-level
production machinery to improve capacity and production quality. Approximately $58 million was spent over the last
three years to purchase professional-grade equipment and extend workshops—approximately 85% of which has been
used in the production process as of December 31, 2010.
RAW MATERIALS
The Company purchases various manufactured components and raw materials for use in its manufacturing processes.
The principal components and raw materials the Company purchases include castings, finished sub-components,
aluminum, steel, fabricated metal electronic parts and molded plastic parts. The most important raw material is steel.
The Company enters into purchase agreements with local suppliers. The annual purchase plans are determined at the
beginning of the calendar year but are subject to revision every three months as a result of customers’ orders. A
purchase order is made according to monthly production plans. This protects the Company from building up inventory
when the orders from customers change.
The Company’s purchases from its ten largest suppliers represented in the aggregate 26.2% of all components and raw
Page | 6
Annual Report - FY 2010
materials it purchased for the year ended December 31, 2010, and none of them provided more than 10% of total
purchases.
All components and raw materials are available from numerous sources. The Company has not, in recent years,
experienced any significant shortages of manufactured components or raw materials and normally does not carry
inventories of these items in excess of what is reasonably required to meet its production and shipping schedules.
RESEARCH AND DEVELOPMENT
In 2006, the Company signed a five-year consulting and licensing agreement with Bishop Steering Technology Ltd,
one of the leading design firms in power steering systems. Bishop’s technology in power steering systems is currently
used by carmakers such as BMW and Mercedes Benz. Pursuant to the agreement, the Company has implemented the
Bishop steering valve technology into the Henglong brand R&P power steering gear. Before expiration, the Company
plans to negotiate with Bishop Steering Technology Limited to renew the agreement. The Company does not anticipate
that there will be a significant adverse impact if the Company fails to renew as the Company has already developed
independent R&D capabilities in steering valves.
The Company owns a Hubei Provincial-Level Technical Center, which has been approved by the Hubei Economic
Commission. The center has a staff of about 290, including 24 senior engineers, 2 foreign experts and 200 engineers,
primarily focused on steering system R&D, tests, production process improvement and new material and production
methodology application.
In addition, the Company has partnered with Tsinghua University to establish a steering system research center, called
Tsinghua Henglong Automobile Steering Research Institute, for the purposes of R&D and experimentation for
Electronic Power Steering, “EPS.”
The Company believes that its engineering and technical expertise, together with its emphasis on continuing research
and development, allow it to use the latest technologies, materials and processes to solve problems for its customers
and to bring new, innovative products to market. The Company believes that continued research and development
activities, including engineering, are critical to maintaining its pipeline of technologically advanced products. The
Company has aggressively managed costs in other portions of its business in order to increase its total expenditures for
research and development activities, including engineering, at approximately $7,990,000, $2,560,000, and $2,260,000
for the years ended December 31, 2010, 2009, and 2008, respectively. The significant increase in 2010 is mainly due to
the large expenditure in EPS R&D, because the Company believes demands for the new EPS products will increase
significantly in the future. In 2010, the sales of newly developed products accounted for about 18% of total sales.
COMPETITION
The automotive components industry is extremely competitive. Criteria for the Company’s customers include quality,
price/cost competitiveness, system and product performance, reliability and timeliness of delivery, new product and
technology development capability, excellence and flexibility in operations, degree of global and local presence,
effectiveness of customer service and overall management capability. The power steering system market is fragmented
in China, and the Company has seven major competitors. Of these competitors, two are Sino-foreign joint ventures
while the other five are state-owned. Like many competitive industries, there is pressure on downward selling prices.
The Company’s major competitors, including Shanghai ZF and FKS, are component suppliers to specific automobile
manufacturers. Shanghai ZF is the joint venture of SAIC and ZF Germany, which is an exclusive supplier to
SAIC-Volkswagen and SAIC-GM. First Auto FKS is a joint venture between First Auto Group and Japan’s Koyo
Company and its main customer is FAW-Volkswagen Company.
While the Chinese government limits foreign ownership of auto assemblers to 50%, there is no analogous limitation in
the automotive components industry. Thus, opportunities exist for foreign component suppliers to set up factories in
China. These overseas competitors employ technology that may be more advanced and may have existing relationships
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Annual Report - FY 2010
with global automobile assemblers, but they are generally not as competitive as the Company in China in terms of
production cost and flexibility in meeting client requirements.
CHINESE AUTOMOBILE INDUSTRY
The Company is a supplier of automotive parts and most of its operations are located in China. An increase or decrease
in the output and sales of Chinese vehicles could result in an increase or decrease of the Company’s results of
operations. According to the latest statistics from the China Association of Automobile Manufacturers, “CAAM,” in
2010, the output and sales volume of vehicles in China have reached 18.26 million and 18.06 million units, respectively,
an increase of 32.44% and 32.37% compared to 2009, driven by government stimulus measures including favorable tax
rebates on fuel-efficient vehicles as well as subsidies for rural purchases. The output and sales volume of passenger
vehicles have reached 13.90 million and 13.76 million units respectively, with an increase of 33.83% and 33.17%
compared to 2009. The output and sales volume of commercial vehicles have reached 4.36 million and 4.30 million
units, respectively, an increase of 28.19% and 29.90% compared to 2009. Accordingly, the Company’s sales of steering
gear for passenger vehicles, commercial vehicles and steering pumps in 2010 increased by 37.2%, 43.8% and 0.4%,
respectively, compared with the year 2009.
Industry analysts expect market growth to slow in 2011 now that incentives have expired. In addition, some PRC cities,
like Beijing, have introduced policies to limit the number of cars purchased each month to deal with gridlocked streets,
which we expect to have a longer-term impact on the development of the automobile industry in China.
Despite these challenges, management believes that the continuing development of the highway system will have a
significant positive long-term impact on the manufacture and sale of private automobiles in the PRC. Statistics from the
Ministry of Communications show that 213,000 kilometers of highway and 8,980 kilometers of expressway were built
in 2010. Total highways and expressways in the PRC now amount to 3,984,000 kilometers and 74,000 kilometers,
respectively.
ENVIRONMENTAL COMPLIANCE
The Company is subject to the requirements of U.S. federal, state, local and non-U.S., including China’s,
environmental and occupational safety and health laws and regulations. These include laws regulating air emissions,
water discharge and waste management. The Company has an environmental management structure designed to
facilitate and support its compliance with these requirements globally. Although it is the Company’s intent to comply
with all such requirements and regulations, it cannot provide assurance that it is at all times in compliance. The
Company has made and will continue to make capital and other expenditures to comply with environmental
requirements, although such expenditures were not material during the past two years. Environmental requirements are
complex, change frequently and have tended to become more stringent over time. Accordingly, the Company cannot
assure that environmental requirements will not change or become more stringent over time or that its eventual
environmental cleanup costs and liabilities will not be material.
During 2010, the Company did not make any material capital expenditures relating to environmental compliance.
FINANCIAL INFORMATION AND GEOGRAPHIC AREAS
Financial information about sales and long-term assets by major geographic region can be found in Note 36, “Segment
Information.” The following table summarizes the percentage of sales and total assets by major geographic regions:
Net Sales
Year Ended December 31
2009
2008
2010
Long-term Assets
Year Ended December 31
2009
2010
Geographic region:
United States
China
5.0 %
95.0 %
2.4 %
97.6 %
0.3 %
99.7 %
0.02 %
99.98 %
0.05 %
99.95 %
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Annual Report - FY 2010
Total
100 %
100 %
100 %
100 %
100 %
WEBSITE ACCESS TO SEC FILINGS
The Company files electronically with (or furnishes to) the SEC its annual reports on Form 10-K, quarterly reports on
Form 10-Q, current reports on Form 8-K and amendments to those reports pursuant to Section 13(a) of the Securities
Exchange Act of 1934. The Company makes available free of charge on its web site (www.caasauto.com) all such
reports as soon as reasonably practicable after they are filed.
The SEC maintains an Internet site that contains reports, proxy information and information statements, and other
information regarding issuers that file electronically with the SEC. The address of that website is http://www.sec.gov.
The materials are also available at the SEC’s Public Reference Room, located at 100 F Street, Washington, D.C. 20549.
The public may obtain information through the public reference room by calling the SEC at 1-800-SEC-0330.
ITEM 1A. RISK FACTORS
Any investment in the Company’s securities involves a high degree of risk. You should carefully consider the risks
described below, together with the information contained elsewhere in this prospectus, before you make a decision to
invest in the Company. The Company’s business, financial conditions and results of operations could be materially and
adversely affected by many risk factors. Because of these risk factors, actual results might differ significantly from
those projected in any forward-looking statements. Factors that might cause such differences include, among others,
the following:
RISKS RELATED TO THE COMPANY’S BUSINESS AND INDUSTRY
Because the Company is a holding company with substantially all of its operations conducted through its subsidiaries,
its performance will be affected by the performance of its subsidiaries.
The Company almost has no operations independent of those of Genesis and its subsidiaries, and the Company’s
principal assets are its investments in Genesis and its subsidiaries. As a result, the Company is dependent upon the
performance of Genesis and its subsidiaries and will be subject to the financial, business and other factors affecting
Genesis as well as general economic and financial conditions. As substantially all of the Company’s operations are and
will be conducted through its subsidiaries, the Company will be dependent on the cash flow of its subsidiaries to meet
its obligations.
Because virtually all of the Company’s assets are and will be held by operating subsidiaries, the claims of the
Company’s stockholders will be structurally subordinate to all existing and future liabilities and obligations, and trade
payables of such subsidiaries. In the event of the Company’s bankruptcy, liquidation or reorganization, its assets and
those of its subsidiaries will be available to satisfy the claims of the Company’s stockholders only after all of its and its
subsidiaries’ liabilities and obligations have been paid in full.
The Senior Convertible Notes are the Company’s unsecured obligations, but are not obligations of its subsidiaries. In
addition, the subsidiaries’ secured bank loans and notes payable are senior to the Senior Convertible Notes.
With the automobile parts markets being highly competitive and many of the Company’s competitors having greater
resources than it does, the Company may not be able to compete successfully.
The automobile parts industry is a highly competitive business. Criteria for the Company’s customers include:
o quality;
o price/cost competitiveness;
o
o
o new product and technology development capability;
system and product performance;
reliability and timeliness of delivery;
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Annual Report - FY 2010
o excellence and flexibility in operations;
o degree of global and local presence;
o effectiveness of customer service; and
o overall management capability.
The Company’s competitors include independent suppliers of parts, as well as suppliers formed by spin-offs from the
Company’s customers, who are becoming more aggressive in selling parts to other vehicle manufacturers. Depending
on the particular product, the number of the Company’s competitors varies significantly. Many of the Company’s
competitors have substantially greater revenues and financial resources than it does, as well as stronger brand names,
consumer recognition, business relationships with vehicle manufacturers, and geographic presence than it has. The
Company may not be able to compete favorably and increased competition may substantially harm its business,
business prospects and results of operations.
Internationally, the Company faces different market dynamics and competition. The Company may not be as successful
as its competitors in generating revenues in international markets due to the lack of recognition of its products or other
factors. Developing product recognition overseas is expensive and time-consuming and the Company’s international
expansion efforts may be more costly and less profitable than it expects. If the Company is not successful in its target
markets, its sales could decline, its margins could be negatively impacted and it could lose market share, any of which
could materially harm the Company’s business, results of operations and profitability.
The cyclical nature of automotive production and sales could result in a reduction in automotive sales, which could
adversely affect the Company’s business and results of operations.
The Company’s business relies on automotive vehicle production and sales by its customers, which are highly cyclical
and depend on general economic conditions and other factors, including consumer spending and preferences and the
price and availability of gasoline. They also can be affected by labor relations issues, regulatory requirements, and
other factors. In addition, in the last two years, the price of automobiles in China has generally declined. Additionally,
the volume of automotive production in China has fluctuated from year to year, which gives rise to fluctuations in the
demand for the Company’s products. Therefore, any significant economic decline could result in a reduction in
automotive production and sales by the Company’s customers and could have a material adverse effect on the
Company’s results of operations. Moreover, if the prices of automobiles do not remain low, then demand for
automobile parts could fall and result in lower revenues and profitability.
Increasing costs for manufactured components and raw materials may adversely affect the Company’s profitability.
The Company uses a broad range of manufactured components and raw materials in its products, including castings,
electronic components, finished sub-components, molded plastic parts, fabricated metal, aluminum and steel, and resins.
Because it may be difficult to pass increased prices for these items on to the Company’s customers, a significant
increase in the prices of the Company’s components and materials could materially increase the Company’s operating
costs and adversely affect its profit margins and profitability.
Pricing pressure by automobile manufacturers on their suppliers may adversely affect the Company’s business and
results of operations.
Recently, pricing pressure from automobile manufacturers has been prevalent in the automotive parts industry in China.
Virtually all vehicle manufacturers seek price reductions each year. Although the Company has tried to reduce costs
and resist price reductions, these reductions have impacted the Company’s sales and profit margins. If the Company
cannot offset continued price reductions through improved operating efficiencies and reduced expenditures, price
reductions will have a material adverse effect on the Company's results of operations.
The Company’s business, revenues and profitability would be materially and adversely affected if it loses any of its
large customers.
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Annual Report - FY 2010
For the year ended December 31, 2010, approximately 12.3% of the Company’s sales were to Chery Automobile Co.,
Ltd, approximately 11.0% were to BYD Auto Co., Ltd, approximately 8.8% were to Dongfeng Auto Group Co., Ltd,
and approximately 8.5% were to Zhejiang Geely Holding Co., Ltd, the Company’s four largest customers. In total,
these four largest customers accounted for 40.6% of the total sales. The loss of, or significant reduction in purchases by,
one or more of these major customers could adversely affect the Company’s business.
The Company may not be able to collect receivables incurred by customers.
Although the Company currently sells its products on credit, the Company’s ability to receive payment for its products
depends on the continued creditworthiness of its customers. The Company’s customer base may change if its sales
increase because of the Company’s expanded capacity. If the Company is not able to collect its receivables, its
revenues and profitability will be adversely affected.
The Company may be subject to product liability and warranty and recall claims, which may increase the costs of
doing business and adversely affect the Company’s financial condition and liquidity.
The Company may be exposed to product liability and warranty claims if its products actually or allegedly fail to
perform as expected or the use of its products results, or is alleged to result, in bodily injury and/or property damage.
The Company started to pay some of its customers’ increased after-sales service expenses due to consumer rights
protection policies of “recall” issued by the Chinese government in 2004, such as the recalling flawed vehicles policy.
Beginning in 2004, automobile manufacturers unilaterally required their suppliers to pay a “3-R Guarantees” service
charge for repair, replacement and refund in an amount of about 2%–6% of the total amount of parts supplied.
Accordingly, the Company has experienced and will continue to experience higher after sales service expenses. Product
liability, warranty and recall costs may have a material adverse effect on the Company’s financial condition.
The Company is subject to environmental and safety regulations, which may increase the Company’s compliance costs
and may adversely affect its results of operation.
The Company is subject to the requirements of environmental and occupational safety and health laws and regulations
in China. The Company cannot provide assurance that it has been or will be at all times in full compliance with all of
these requirements, or that it will not incur material costs or liabilities in connection with these requirements.
Additionally, these regulations may change in a manner that could have a material adverse effect on the Company’s
business, results of operations and financial condition. The capital requirements and other expenditures that may be
necessary to comply with environmental requirements could increase and become a material expense of doing business.
Non-performance by the Company’s suppliers may adversely affect its operations by delaying delivery or causing
delivery failures, which may negatively affect demand, sales and profitability.
The Company purchases various types of equipment, raw materials and manufactured component parts from its
suppliers. The Company would be materially and adversely affected by the failure of its suppliers to perform as
expected. The Company could experience delivery delays or failures caused by production issues or delivery of
non-conforming products if its suppliers fail to perform, and it also faces these risks in the event any of its suppliers
becomes insolvent or bankrupt.
The Company’s business and growth may suffer if it fails to attract and retain key personnel.
The Company’s ability to operate its business and implement its strategies effectively depends on the efforts of its
executive officers and other key employees. The Company depends on the continued contributions of its senior
management and other key personnel. The Company’s future success also depends on its ability to identify, attract and
retain highly skilled technical staff, particularly engineers and other employees with mechanics and electronics
expertise, and managerial, finance and marketing personnel. The Company does not maintain a key person life
insurance policy on Mr. Hanlin Chen or Mr. Qizhou Wu. The loss of the services of any of the Company’s key
employees or the failure to attract or retain other qualified personnel could substantially harm the Company’s business.
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Annual Report - FY 2010
The Company’s management controls approximately 70.95% of its outstanding common stock and may have conflicts
of interest with the Company’s minority stockholders.
As of June 28, 2011, members of the Company’s management beneficially own approximately 70.95% of the
outstanding shares of the Company’s common stock. As a result, these majority stockholders have control over
decisions to enter into any corporate transaction and have the ability to prevent any transaction that requires the
approval of stockholders, which could result in the approval of transactions that might not maximize overall
stockholders’ value. Additionally, these stockholders control the election of members of the Company’s board, have the
ability to appoint new members to the Company’s management team and control the outcome of matters submitted to a
vote of the holders of the Company’s common stock. The interests of these majority stockholders may at times conflict
with the interests of the Company’s other stockholders. The Henglong Transaction was a transaction involving the
Company and a counterparty controlled by Mr. Hanlin Chen, the Company’s Chairman and controlling stockholder.
The Company regularly engages in transactions with entities controlled by one or more of its officers and directors.
Covenants contained in the Securities Purchase Agreement and the Senior Convertible Notes restrict the Company’s
operating flexibility.
In connection with the Convertible Notes, the Company entered into a series of binding covenants and contractual
provisions that limits the Company’s operating flexibility. For example, the Securities Purchase Agreement prohibits
the Company from paying cash dividends on common stock without the approval of the holders of the Senior
Convertible Notes. Also, if the Weighted Average Price (WAP) for twenty (20) consecutive trading days is less than
$3.187, the Convertible Notes holders shall have the right, in their sole discretion, to require that the Company redeem
all or any portion of the Convertible Notes. The portion of this Convertible Notes subject to redemption in connection
with the share price change of the underlying common stock will be redeemed by the Company in cash at a price equal
to the sum of the conversion amount being redeemed and the Other Make Whole Amount as mentioned below in Note
13. Also, upon the consummation of a change of control as defined in the Convertible Notes agreements, the
Convertible Notes holders may require the Company to redeem all or any portion of the Convertible Notes. These
binding covenants and contractual provisions limit the Company’s ability to declare or pay dividends, issue other notes
or debt, issue certain types of securities, engage in certain types of intercompany loans or enter into other types of
fundamental transactions. These restrictions could limit the Company’s ability to operate and may harm the equity
interest of shareholders.
There is a limited public float of the Company’s common stock, which can result in the Company’s stock price being
volatile and prevent the realization of a profit on resale of the Company’s common stock or derivative securities.
There is a limited public float of the Company’s common stock. As of June 28, 2011, approximately 29.05% of the
Company’s outstanding common stock is considered part of the public float. The term “public float” refers to shares
freely and actively tradable on the NASDAQ Capital Market and not owned by officers, directors or affiliates, as such
term is defined under the Securities Act. As a result of the limited public float and the limited trading volume on some
days, the market price of the Company’s common stock can be volatile, and relatively small changes in the demand for
or supply of the Company’s common stock can have a disproportionate effect on the market price for its common stock.
This stock price volatility could prevent a security holder seeking to sell the Company’s common stock or derivative
securities from being able to sell them at or above the price at which the stock or derivative securities were bought, or
at a price which a fully liquid market would report.
Provisions in the Company’s certificate of incorporation and bylaws and the General Corporation Law of Delaware
may discourage a takeover attempt.
Provisions in the Company’s certificate of incorporation and bylaws and the General Corporation Law of Delaware, the
state in which it is organized, could make it difficult for a third party to acquire the Company, even if doing so might be
beneficial to the Company’s stockholders. Provisions of the Company’s certificate of incorporation and bylaws impose
various procedural and other requirements, which could make it difficult for stockholders to effect certain corporate
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Annual Report - FY 2010
actions and possibly prevent transactions that would maximize stockholders’ value.
The need to complete a restatement of certain previously issued historical financials could result in securities class
action suits against the Company and/or delisting from the Nasdaq Stock Market.
On March 17, 2011, the Company announced that it had identified historical accounting errors relating to the
accounting treatment of the Company’s convertible notes issued on February 15, 2008, the “Convertible Notes.” The
accounting errors have resulted in the misstatement of certain charges since the first quarter of 2009. The Company
undertook a review to determine the total amount of the errors and the accounting periods in which the errors occurred.
The Company’s review was overseen by the audit committee of the board of directors of the Company, the “Audit
Committee”, with the assistance of management and accounting consultants engaged by management. The Audit
Committee concluded on March 12, 2011 that the Company’s previously issued audited consolidated financial
statements as of and for the year ended December 31, 2009, and related auditors’ report, and unaudited interim
consolidated financial statements as of and for the quarterly periods ended March 31, June 30 and September 30, 2010
should no longer be relied upon because of these errors in the financial statements. The Company’s board of directors
agreed with the Audit Committee’s conclusions. After analyzing the size and timing of the errors, the Company
determined that, in the aggregate, the errors were material and would require the Company to restate certain of its
previously issued financial statements.
The need to complete these restatements may subject the Company to additional risk from securities class action suits
against the Company. In addition, as the process of restating the historical forms has delayed the filing of the
Company’s annual report on Form 10-K for the year ended December 31, 2010 and the quarterly report on Form 10-Q
for the three-month period ended March 31, 2011, the Company is currently not in Compliance with the Nasdaq Listing
Rules, which require that a listed company be current in its filing with the U.S. Securities and Exchange Commission.
If the Company is not able to regain compliance with Nasdaq Listing Rules, the Company may be delisted from the
Nasdaq Stock Market, “Nasdaq.” If the company were to be sued and/or delisted from Nasdaq, shareholder value will
be negatively impacted.
Failure to achieve and maintain effective internal control over financial reporting could have a material adverse effect
on the Company’s business, results of operations and the trading price of its shares.
The Company is subject to reporting obligations under the U.S. securities laws. The Securities and Exchange
Commission, the “SEC,” as required by Section 404 of the Sarbanes-Oxley Act of 2002, has adopted rules requiring
public companies to include a report of management in its annual report that contains an assessment by management of
the effectiveness of such company’s internal control over financial reporting. In addition, beginning with the year
ended December 31, 2007, an independent registered public accounting firm for an accelerated filer must attest to and
report on the effectiveness of the company’s internal control over financial reporting.
The Company’s management has conducted an evaluation of the effectiveness of its internal control over financial
reporting and concluded that the Company’s internal control over financial reporting was not effective as of December
31, 2010 and material weaknesses were noted because: (i) the Company did not have sufficient personnel with
appropriate levels of accounting knowledge and experience to address complex U.S. GAAP accounting issues, and to
prepare and review financial statements and related disclosures under U.S. GAAP; and (ii) the Company did not have
formalized closing procedures and adequate period-end review procedures to ensure a) proper preparation of the
period-end financial statement closing entries and b) consistency of application of accounting policies and
completeness and accuracy of the financial statement disclosures. If the Company fails to maintain the effectiveness or
fails to remediate the deficiencies of its internal control over financial reporting, the Company may not be able to
conclude on an ongoing basis that it has effective internal control over financial reporting in accordance with the
Sarbanes-Oxley Act.
Effective internal controls are necessary for the Company to produce reliable financial reports. For the deficiencies
identified in this fiscal year, the Company’s management team is evaluating remediation measures that can be
undertaken to address these material weaknesses and will continue such evaluation so that it may institute a
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Annual Report - FY 2010
comprehensive remediation plan in order to maintain effective internal control over financial reporting. Any failure to
achieve and maintain effective internal control over financial reporting could result in the loss of investor confidence in
the reliability of the Company’s financial statements, which in turn could negatively impact the trading price of the
Company’s shares. Furthermore, the Company may need to incur additional costs and use additional management and
other resources in an effort to comply with Section 404 of the Sarbanes-Oxley Act and other requirements going
forward.
The Company does not pay cash dividends on its common stock.
The Company has never paid common stock cash dividends and does not anticipate doing so in the foreseeable future.
In addition, the Securities Purchase Agreement prohibits the Company from paying cash dividends on common stock
without the approval of the holders of the Senior Convertible Notes.
RISKS RELATED TO DOING BUSINESS IN CHINA AND OTHER COUNTRIES BESIDES THE UNITED
STATES
Inflation in China could negatively affect the Company’s profitability and growth.
China’s economy has experienced rapid growth. Rapid economic growth could lead to growth in the money supply and
rising inflation. If prices for the Company’s products rise at a rate that is insufficient to compensate for the rise in the
cost of supplies, it may harm the Company’s profitability. In order to control inflation in the past, the Chinese
government has imposed controls on bank credit, limits on loans for fixed assets and restrictions on state bank lending.
Such policies can lead to a slowing of economic growth. Rises in interest rates by the central bank would likely slow
economic activity in China which could, in turn, materially increase the Company’s costs and also reduce demand for
the Company’s products.
The Chinese government’s macroeconomic policies could have a negative effect on the Company’s business and results
of operations.
The Chinese government has implemented various measures from time to time to control the rate of economic growth
in the PRC. Some of these measures may have a negative effect on the Company over the short or long term. Recently,
to cope with high inflation and economic imbalances, the Chinese government has tightened monetary policy and
implemented floating exchange rate policy. In addition, in order to alleviate some of the effects of unbalanced growth
and social discontent, the Chinese government has enacted a series of social programs and anti-inflationary
measures. These, in turn, have increased the costs on the financial and manufacturing sectors, without having
alleviated the effects of high inflation and economic imbalances. The Chinese government’s macroeconomic policies,
even if effected properly, may significantly slow down China’s economy or cause great social unrest, all of which
would have a negative effect on the Company’s business and results of operations.
The economic, political and social conditions in China could affect the Company’s business.
Most of the Company’s business, assets and operations are located in China. The economy of China differs from the
economies of most developed countries in many respects, including government involvement, level of development,
growth rate, control of foreign exchange and allocation of resources. The economy of China has been transitioning
from a planned economy to a more market-oriented economy. Although the Chinese government has implemented
measures emphasizing the utilization of market forces for economic reform, the reduction of state ownership of
productive assets and the establishment of sound corporate governance in business enterprises, a substantial portion of
productive assets in China is still owned by the Chinese government.
In addition, the Chinese government continues to play a significant role in regulating industry by imposing industrial
policies. It also exercises significant control over China’s economic growth through the allocation of resources,
controlling payment of foreign currency-denominated obligations, setting monetary policy and providing preferential
treatment to particular industries or companies. Therefore, the Chinese government’s involvement in the economy
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Annual Report - FY 2010
could adversely affect the Company’s business operations, results of operations and/or financial condition.
Because the Company’s operations are mostly located outside of the United States and are subject to Chinese laws, any
change of Chinese laws may adversely affect its business.
Most of the Company’s operations are in the PRC, which exposes it to risks, such as exchange controls and currency
restrictions, currency fluctuations and devaluations, changes in local economic conditions, changes in Chinese laws and
regulations, exposure to possible expropriation or other PRC government actions, and unsettled political conditions.
These factors may have a material adverse effect on the Company’s operations or on its business, results of operations
and financial condition.
The Company’s international expansion plans subject it to risks inherent in doing business internationally.
The Company’s long-term business strategy relies on the expansion of its international sales outside China by targeting
markets, such as the United States. Risks affecting the Company’s international expansion include challenges caused
by distance, language and cultural differences, conflicting and changing laws and regulations, foreign laws,
international import and export legislation, trading and investment policies, foreign currency fluctuations, the burdens
of complying with a wide variety of laws and regulations, protectionist laws and business practices that favor local
businesses in some countries, foreign tax consequences, higher costs associated with doing business internationally,
restrictions on the export or import of technology, difficulties in staffing and managing international operations, trade
and tariff restrictions, and variations in tariffs, quotas, taxes and other market barriers. These risks could harm the
Company’s international expansion efforts, which could in turn materially and adversely affect its business, operating
results and financial condition.
The Company faces risks associated with currency exchange rate fluctuations; any adverse fluctuation may adversely
affect its operating margins.
Although the Company is incorporated in the State of Delaware, in the United States, the majority of its current
revenues are in Chinese currency. Conducting business in currencies other than U.S. dollars subjects the Company to
fluctuations in currency exchange rates that could have a negative impact on its reported operating results. Fluctuations
in the value of the U.S. dollar relative to other currencies impact the Company’s revenues, cost of revenues and
operating margins and result in foreign currency translation gains and losses. Historically, the Company has not
engaged in exchange rate hedging activities. Although the Company may implement hedging strategies to mitigate this
risk, these strategies may not eliminate its exposure to foreign exchange rate fluctuations and involve costs and risks of
their own, such as ongoing management time and expertise requirements, external costs to implement the strategy and
potential accounting implications.
If relations between the United States and China worsen, the Company’s stock price may decrease and the Company
may have difficulty accessing the U.S. capital markets.
At various times during recent years, the United States and China have had disagreements over political and economic
issues. Controversies may arise in the future between these two countries. Any political or trade controversies between
the United States and China could adversely affect the market price of the Company’s common stock and its ability to
access U.S. capital markets.
The Chinese government could change its policies toward private enterprise, which could adversely affect the
Company’s business.
The Company’s business is subject to political and economic uncertainties in China and may be adversely affected by
China’s political, economic and social developments. Over the past several years, the Chinese government has pursued
economic reform policies including the encouragement of private economic activity and greater economic
decentralization. The Chinese government may not continue to pursue these policies or may alter them to the
Company’s detriment from time to time. Changes in policies, laws and regulations, or in their interpretation or the
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Annual Report - FY 2010
imposition of confiscatory taxation, restrictions on currency conversion, restrictions or prohibitions on dividend
payments to stockholders, devaluations of currency or the nationalization or other expropriation of private enterprises
could have a material adverse effect on the Company’s business. Nationalization or expropriation could result in the
total loss of the Company’s investment in China.
Government control of currency conversion and future movements in exchange rates may adversely affect the
Company’s operations and financial results.
The Company receives most of its revenues in Chinese Renminbi (RMB). A portion of such revenues will be converted
into other currencies to meet the Company’s foreign currency obligations. Foreign exchange transactions under the
Company’s capital account, including principal payments in respect of foreign currency-denominated obligations,
continue to be subject to significant foreign exchange controls and require the approval of the State Administration of
Foreign Exchange in China. These limitations could affect the Company’s ability to obtain foreign exchange through
debt or equity financing, or to obtain foreign exchange for capital expenditures.
The Chinese government controls its foreign currency reserves through restrictions on imports and conversion of RMB
into foreign currency. In July 2005, the Chinese government has adjusted its exchange rate policy from “Fixed Rate” to
“Floating Rate.” During July 2005 to December 2010, the exchange rate between the RMB and the U.S. dollar has
appreciated from RMB 1.00 to US$0.1205 to RMB 1.00 to US$0.1510. The Company believes that this significant
appreciation will continue for the near future. Significant appreciation of the RMB is likely to decrease the income of
export products and decrease the Company’s cash flow.
Because the Chinese legal system is not fully developed, the Company and its security holders’ legal protections may
be limited.
The Chinese legal system is based on written statutes and their interpretation by the Supreme People’s Court. Although
the Chinese government introduced new laws and regulations to modernize its business, securities and tax systems on
January 1, 1994, China does not yet possess a comprehensive body of business law. Because Chinese laws and
regulations are relatively new, interpretation, implementation and enforcement of these laws and regulations involve
uncertainties and inconsistencies and it may be difficult to enforce contracts. In addition, as the Chinese legal system
develops, changes in such laws and regulations, their interpretation or their enforcement may have a material adverse
effect on the Company’s business operations. Moreover, interpretative case law does not have the same precedential
value in China as in the United States, so legal compliance in China may be more difficult or expensive.
It may be difficult to serve the Company with legal process or enforce judgments against its management or the
Company.
Most of the Company’s assets are located in China and twelve of its directors and officers are non-residents of the
United States, and all or substantial portions of the assets of such non-residents are located outside the United States.
As a result, it may not be possible to effect service of process within the United States upon such persons to originate
an action in the United States. Moreover, there is uncertainty that the courts of China would enforce judgments of U.S.
courts against the Company, its directors or officers based on the civil liability provisions of the securities laws of the
United States or any state, or an original action brought in China based upon the securities laws of the United States or
any state.
The Company may be subject to fines and legal sanctions imposed by State Administration of Foreign Exchange (SAFE)
or other Chinese government authorities if it or its Chinese directors or employees fail to comply with recent Chinese
regulations relating to employee share options or shares granted by offshore listed companies to Chinese domestic
individuals.
On December 25, 2006, the People’s Bank of China, or PBOC, issued the Administration Measures on Individual
Foreign Exchange Control, and the corresponding Implementation Rules were issued by SAFE on January 5, 2007.
Both of these regulations became effective on February 1, 2007. According to these regulations, all foreign exchange
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Annual Report - FY 2010
matters relating to employee stock holding plans, share option plans or similar plans with Chinese domestic
individuals’ participation require approval from the SAFE or its authorized branch. On March 28, 2007, the SAFE
issued the Application Procedure of Foreign Exchange Administration for Domestic Individuals Participating in
Employee Stock Holding Plan or Stock Option Plan of Overseas-Listed Company, or the Stock Option Rule. Under the
Stock Option Rule, Chinese domestic individuals who are granted share options or shares by an offshore listed
company are required, through a Chinese agent or Chinese subsidiary of the offshore listed company, to register with
the SAFE and complete certain other procedures. As the Company is an offshore listed company, its Chinese domestic
directors and employees who may be granted share options or shares shall become subject to the Stock Option Rule.
Under the Stock Option Rule, employees stock holding plans, share option plans or similar plans of offshore listed
companies with Chinese domestic individuals’ participation must be filed with the SAFE. After the Chinese domestic
directors or employees exercise their options, they must apply for the amendment to the registration with the SAFE.
The Company is reviewing the procedures for such SAFE registration. If the Company or its Chinese domestic
directors or employees fail to comply with these regulations, the Company or its Chinese domestic directors or
employees may be subject to fines or other legal sanctions imposed by the SAFE or other Chinese government
authorities.
Capital outflow policies in China may hamper the Company’s ability to declare and pay dividends to its stockholders.
China has adopted currency and capital transfer regulations. These regulations may require the Company to comply
with complex regulations for the movement of capital. Although the Company’s management believes that it will be in
compliance with these regulations, should these regulations or the interpretation of them by courts or regulatory
agencies change, the Company may not be able to pay dividends to its stockholders outside of China. In addition, under
current Chinese law, the Company’s joint-ventures and wholly-owned enterprise in China must retain a reserve equal to
10% of its net income after taxes, not to exceed 50% of its registered capital. Accordingly, this reserve will not be
available to be distributed as dividends to the Company’s stockholders. The Company presently does not intend to pay
dividends for the foreseeable future. The Company’s board of directors intends to follow a policy of retaining all of its
earnings to finance the development and execution of its strategy and the expansion of its business.
The Company may face severe operating environment during times of economic recession.
The sales volume of the Company’s core products is largely influenced by the demand for its customers’ end products
which are mostly sold in the Chinese markets. Future economic crises, either within China or without, may lead to a
drastic drop in demand for the Company’s products.
ITEM 1B. UNRESOLVED STAFF COMMENTS
Not Applicable.
ITEM 2. PROPERTIES
The Company’s headquarters are located at No. 1 Henglong Road, Yu Qiao Development Zone, Shashi District, Jing
Zhou City Hubei Province, the PRC. Set forth below are the manufacturing facilities operated by each joint venture.
The Company has forty-five to fifty years long-term rights to use the lands and buildings.
Name of
Entity
Product
Henglong Automotive Parts
Jiulong
Power Steering Gear
Total Area
(M2)
225,221
13,393
39,478
Shenyang Automotive Steering Gear
Steering Pumps
Zhejiang
35,354
32,000
Building Area
(M2)
Original Cost of
Equipment
Site
20,226 $
13,707 $
23,728 $
5,625 $
20,000 $
32,550,000 Jingzhou City, Hubei Province
- Wuhan City, Hubei Province
23,950,000 Jingzhou City, Hubei Province
4,120,000 Shenyang City, Liaoning Province
10,560,000 Zhuji City, Zhejiang Province
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Annual Report - FY 2010
Electric Power Steering
Sensor Modular
79,920
Jielong
USAI
-
Hengsheng Automotive Steering Gear 170,520
83,700
Wuhu
Automotive Steering Gear
679,586
Total
- $
- $
26,000 $
12,600 $
121,886 $
5,500,000 Wuhan City, Hubei Province
880,000 Wuhan City, Hubei Province
11,490,000 Jingzhou City, Hubei Province
2,120,000 Wuhu City, Anhui Province
91,170,000
The Company is not involved in investments in (i) real estate or interests in real estate, (ii) real estate mortgages, and
(iii) securities of or interests in persons primarily engaged in real estate activities, as all of its land rights are used for
production purposes.
ITEM 3. LEGAL PROCEEDINGS.
The Company is not a party to any pending or to the best of the Company’s knowledge, any threatened legal
proceedings. No director, officer or affiliate of the Company, or owner of record of more than five percent of the
securities of the Company, or any associate of any such director, officer or security holder is a party adverse to the
Company or has a material interest adverse to the Company in reference to pending litigation.
PART II
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS
AND ISSUER PURCHASES OF EQUITY SECURITIES
MARKET PRICES OF COMMON STOCK
The Company’s common stock has been traded on the NASDAQ Capital Market under the symbol “CAAS.” The high
and low bid intra-day prices of the common stock in 2010 and 2009 were reported on NASDAQ for the time periods
indicated on the table below. Accordingly, the table below contains the high and low bid closing prices of the common
stock as reported on the NASDAQ for the time periods indicated.
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
STOCKHOLDERS
Price Range
2010
2009
High
Low
High
Low
$
$
$
$
27.17 $
25.15 $
20.70 $
17.98 $
14.18 $
14.60 $
13.60 $
13.10 $
3.94 $
6.64 $
9.90 $
22.49 $
2.30
3.35
5.14
8.00
The Company’s common shares are issued in registered form. Securities Transfer Corporation in Frisco, Texas is the
registrar and transfer agent for the Company’s common stock. As of June 28, 2011, there were 28,083,534 shares of the
Company’s common stock outstanding and the Company had approximately 63 stockholders of record.
DIVIDENDS
The Company has never declared or paid any cash dividends on its common stock and it does not anticipate paying any
cash dividends in the foreseeable future. The Company currently intends to retain future earnings, if any, to finance
operations and the expansion of its business. Any future determination to pay cash dividends will be at the discretion of
the Board of Directors and will be based upon the Company’s financial condition, operating results, capital
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Annual Report - FY 2010
requirements, plans for expansion, restrictions imposed by any financing arrangements and any other factors that the
Board of Directors deems relevant.
SECURITIES AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION PLANS
The securities authorized for issuance under equity compensation plans at December 31, 2010 are as follows:
Plan category
Equity compensation plans
approved by security holders
Number of securities to be
issued upon exercise of
outstanding options
Weighted average
exercise price of
outstanding options
Number of securities
remaining available for
future issuance
2,200,000 $
4.97
1,743,650
The stock option plan was approved at the 2004 Annual Meeting of Stockholders, and the maximum common shares
for issuance under this plan are 2,200,000 with a term of 10 years.
PERFORMANCE GRAPH
Company Stock Performance
The information contained below shall not be deemed incorporated by reference in any filing under the Securities Act
of 1933, as amended, or the Securities Exchange Act of 1934, as amended, the “Exchange Act,” whether made before
or after the date hereof and irrespective of any general incorporation language in any such filing (except to the extent
that the Company specifically incorporates this information by reference) and shall not otherwise be deemed
“soliciting material” or “filed” with the Securities and Exchange Commission or subject to Regulation 14A or 14C, or
to the liabilities of Section 18 of the Exchange Act (except to the extent that the Company specifically requests that this
information be treated as soliciting material or specifically incorporate this information by reference).
The following graph shows a five-year comparison of the cumulative total stockholder return on the Company’s
common stock as compared to the cumulative total return of two other indexes: a custom composite index (“Peer
Group”), and the Standard & Poor’s 500 Composite Stock Price Index. The companies included in the Peer Group are:
SORL Auto Parts, Inc., China Yuchai International Limited, Standard Motor Products Inc. and Dorman Products, Inc.
These comparisons assume an initial investment of $100 and the reinvestment of dividends.
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Annual Report - FY 2010
CAAS
S&P 500 1
Peer Group
Peer + CAAS
$
$
$
$
2005
100 $
100 $
100 $
100 $
2006
187 $
116 $
118 $
130 $
As of December 31,
2007
116 $
122 $
122 $
121 $
2008
51 $
77 $
65 $
62 $
2009
280 $
97 $
154 $
176 $
2010
204
112
307
289
1 Data Source: Standard & Poor's
The graph and other information furnished in the section titled “Share Performance” under this Part II, Item 5 of this
Form 10-K shall not be deemed to be “soliciting” material or to be “filed” with the Securities and Exchange
Commission or subject to Regulation 14A or 14C, or to the liabilities of Section 18 of the Securities Exchange Act of
1934, as amended.
ITEM 6. SELECTED FINANCIAL DATA
The selected consolidated statement of income (loss) and cash flows data for the years ended December 31, 2010, 2009
and 2008 and the selected balance sheet data as of December 31, 2010 and 2009 are derived from the Company’s
audited consolidated financial statements included elsewhere in this Annual Report. The selected consolidated financial
data for the years ended December 31, 2007 and 2006 and the selected balance sheet data as of December 31, 2008,
2007 and 2006 are derived from the Company’s audited consolidated financial statements not included in this Annual
Report.
The following selected historical financial information should be read in conjunction with the Company’s consolidated
financial statements and related notes and the information contained in “Management’s Discussion and Analysis of
Financial Condition and Results of Operations.”
Year Ended December 31,
2006
2007
2008
As Restated
2009
As Restated
2010
$ 95,766,439 $ 133,597,003 $
45,323,048
32,909,814
24,611,397
20,424,308
20,737,277
12,026,135
163,179,286 $
41,470,073
25,207,560
16,996,576
255,597,553 $
61,742,626
25,648,736
36,932,395
345,925,182
80,302,710
27,384,338
54,047,404
$ 4,811,704 $
8,859,906 $
10,244,130 $
(26,440,871 ) $
51,738,113
Statement of income (loss)
data:
Net sales
Gross profit
Operating expenses
Income from operations
Net income (loss)
attributable to parent
company
Earnings (loss) per share
— basic
— diluted
$
$
0.21
0.21
0.37
0.37
0.35
0.35
(0.98 )
(0.98 )
1.65
1.10
Statement of Cash flows
data:
Net cash flows provided
by operating activities
Net cash flows used in
investing activities
Net cash flows provided
by/used in financing
activities
$ 7,969,150 $ 11,324,473 $
16,373,966 $
34,956,534 $
38,552,161
$ (1,219,103 ) $ (13,159,277 ) $
(22,356,060 ) $
(17,335,687 ) $
(32,596,741 )
$ 7,470,971 $
(7,429,025 ) $
21,981,953 $
(11,290,625 ) $
(1,394,578 )
Page | 20
Annual Report - FY 2010
2006
2007
2008
2009
2010
As Restated
As Restated
December 31,
Balance sheet data:
Cash and cash equivalents
Total assets
Total liabilities
Total stockholders’ equity
$ 27,418,500 $ 19,487,159
152,108,538 182,984,687
75,615,581 92,583,555
$ 76,492,957 $ 90,401,132
37,113,375
$
231,888,141
129,252,311
$ 102,635,830
43,480,176 $ 49,424,979
$
314,382,572 405,215,361
232,529,179 256,975,570
81,853,393 $ 148,239,791
$
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The following discussion and analysis should be read in conjunction with the Company’s consolidated financial
statements and the related notes thereto and other financial information contained elsewhere in this Form 10-K.
GENERAL OVERVIEW
China Automotive Systems, Inc., including, when the context so requires, its subsidiaries and the subsidiaries’ interests
in the Sino-foreign joint ventures described below, is referred to herein as the “Company.” The Company, through its
Sino-foreign joint ventures, engages in the manufacture and sales of automotive systems and components in the
People’s Republic of China, the “PRC” or “China,” as described below.
Genesis, a company incorporated on January 3, 2003 under The Companies Ordinance in Hong Kong as a limited
liability company, is a wholly-owned subsidiary of the Company.
Henglong USA Corporation, “HLUSA,” which was incorporated on January 8, 2007 in Troy, Michigan, is a
wholly-owned subsidiary of the Company, and mainly engages in marketing of automotive parts in North America, and
provides after sales service and research and development support accordingly.
The Company owns the following aggregate net interests in ten Sino-foreign joint ventures organized in the PRC as of
December 31, 2010, 2009 and 2008.
Name of Entity
Jingzhou Henglong Automotive Parts Co., Ltd., “Henglong”
Shashi Jiulong Power Steering Gears Co., Ltd., “Jiulong”
Shenyang Jinbei Henglong Automotive Steering System Co.,
Ltd., “Shenyang”
Zhejiang Henglong & Vie Pump-Manu Co., Ltd., “Zhejiang”
Universal Sensor Application Inc., “USAI”
Wuhu HengLong Auto Steering System Co., Ltd., “Wuhu”
Wuhan Jielong Electric Power Steering Co., Ltd., “Jielong”
Jingzhou Hengsheng Automotive System Co., Ltd,
“Hengsheng”
Jingzhou Henglong Automotive Technology (Testing) Center,
“Testing Center”
Beijing Hainachun HengLong Automotive Steering System
Co., Ltd, “Beijing HengLong”
Aggregate Net Interest
2009
2008
2010
80.00 %
81.00 %
70.00 %
51.00 %
83.34 %
77.33 %
85.00 %
80.00 %
81.00 %
70.00 %
51.00 %
83.34 %
77.33 %
85.00 %
80.00 %
81.00 %
70.00 %
51.00 %
83.34 %
77.33 %
85.00 %
100.00 %
100.00 %
100.00 %
80.00 %
80.00 %
50.00 %
—
—
—
RESTATEMENT OF CONSOLIDATED FINANCIAL STATEMENTS
Page | 21
Annual Report - FY 2010
On March 17, 2011, the Company announced that it had identified historical accounting errors relating to the
accounting treatment of the Company’s Convertible Notes. The accounting errors have resulted in the misstatement of
certain charges arising from fair value adjustments and other changes to derivative liabilities since the first quarter of
2009. The Company undertook a review to determine the total amount of the errors and the accounting periods in
which the errors occurred. The Company’s review determined that the errors resulted from the Company’s failure to
properly apply the requirements of Accounting Standard Codification (ASC) 815 (“ASC 815”), with respect to the
conversion feature embedded in the convertible notes, effective January 1, 2009. Additionally, management has also
identified accounting errors in accumulated depreciation and deferred tax assets reported and accrued payroll and
related costs. A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial
reporting, such that there is a reasonable possibility that a material misstatement of the company's annual or interim
financial statements will not be prevented or detected on a timely basis. After analyzing the size and timing of the
errors, the Company determined that, in the aggregate, the errors were material and would require the Company to
restate certain of its previously issued financial statements, including its previously issued audited consolidated
financial statements as of and for the fiscal year ended December 31, 2009, including restated comparative financial
statements for 2008, and related auditors’ report, and unaudited interim consolidated financial statements as of and for
the quarterly periods ended March 31, June 30 and September 30, 2010.
The effects of the restatement on selected income statement line items for the years ended December 31, 2009 and 2008,
are as follows:
Increase/(Decrease) in
income statement line items
2009
2008
10,925,094 $
(10,925,094)
(10,192,837)
(5,897,514)
(43,698,892)
(50,328,663)
(390,462)
(49,855,134)
5,788,628
(5,788,628)
(5,861,783)
(1,752,495)
(201,365)
(1,880,705)
269,953
(2,191,111)
(1.85)
(1.76) $
(0.13)
(0.11)
$
$
Cost of Sales
Gross profit
Selling expenses
Financial income (expenses)
Gain on change in fair value of derivative
Income before income taxes
Income taxes
Net income attributable to parent company
Income per share – basic
Income per share – diluted
RESULTS OF OPERATIONS
Net Sales and Cost of Sales
2010 Versus 2009 (As Restated) Comparative
For the years ended December 31, 2010 and 2009, net sales and cost of sales are summarized as follows:
Net Sales
2010
2009
Change
2010
Cost of sales
2009
As Restated
Change
Henglong
Jiulong
Shenyang
Zhejiang
Wuhu
$ 197,226,807 $ 153,459,876 $ 43,766,931 28.5 % $ 150,622,578 $ 112,141,910 $ 38,480,668 34.3 %
92,095,265 61,613,116 30,482,149 49.5 80,664,101 53,368,639 27,295,462 51.1
39,691,553 32,492,844 7,198,709 22.2 33,644,820 27,051,979 6,592,841 24.4
26,193,095 24,193,366 1,999,729 8.3 18,630,742 18,926,080
(295,338 ) -1.6
33,057,878 26,496,148 6,561,730 24.8 31,330,114 25,769,456 5,560,658 21.6
Page | 22
Annual Report - FY 2010
Other
Sectors
7,955,758 31,899,848 401.0
Eliminations (88,139,142 ) (53,464,330 ) (34,674,812 ) 64.9 (89,125,489 ) (51,358,895 ) (37,766,594 ) 73.5
$ 345,925,182 $ 255,597,553 $ 90,327,629 35.3 % $ 265,622,472 $ 193,854,927 $ 71,767,545 37.0 %
Total
45,799,726 10,806,533 34,993,193 323.8 39,855,606
Net Sales
Net sales were $345,925,182 for the year ended December 31, 2010, compared with $255,597,553 for the year ended
December 31, 2009, an increase of $90,327,629, or 35.3%, mainly due to the increases in the income of Chinese
residents and significant government investment, including incentives to buyers, leading to an increase in demand of
passenger vehicles and commercial vehicles, and the resultant increase in the Company’s sales of steering gear and
pumps. Further analysis is as follows:
─
─
─
─
─
─
Net sales for Henglong was $197,226,807 for the year ended December 31, 2010, compared with
$153,469,876 for the year ended December 31, 2009, representing an increase of $43,766,931, or 28.5%.
Net sales increase was mainly due to increased sale volumes with a sales increase of $56,708,725, the
impact from the decrease in sales price of $15,532,900 and the effect of foreign currency translation with a
sales increase of $2,591,106.
Net sales for Jiulong was $92,095,265 for the year ended December 31, 2010, compared with $61,613,116
for the year ended December 31, 2009, representing an increase of $30,482,149, or 49.5%. The net sales
increase was mainly due to increased sale volumes with a sales increase of $25,273,955, the impact from the
increase in sales price of $4,159,962 and the effect of foreign currency translation with a sales increase of
$1,048,232.
Net sales for Shenyang was $39,691,553 for the year ended December 31, 2010, compared with
$32,492,844 for the year ended December 31, 2009, representing an increase of $7,198,709, or 22.2%. The
net sales increase was mainly due to increased sale volumes with a sales increase of $8,770,764, the impact
from the decrease in sales price of $2,077,612, and the effect of foreign currency translation with a sales
increase of $505,557.
Net sales for Zhejiang was $26,193,095 for the year ended December 31, 2010, compared with $24,193,366
for the year ended December 31, 2009, representing an increase of $1,999,729, or 8.3%. The net sales
increase was mainly due to decreased sale volumes with a sales decrease of $233,616, the impact from the
increase in sales price of $1,875,753 and the effect of foreign currency translation with a sales increase of
$357,592.
Net sales for Wuhu was $33,057,878 for the year ended December 31, 2010, compared with $26,496,148
for the year ended December 31, 2009, representing an increase of $6,561,730, or 24.8%. The net sales
increase was mainly due to increased sale volumes with a sales increase of $7,006,394, the impact from the
decrease in sales price of $878,314 and the effect of foreign currency translation with a sales increase of
$433,650.
Net sales for Other Sectors was $45,799,726 for the year ended December 31, 2010, compared with
$10,806,533 for the year ended December 31, 2009, representing an increase of $34,993,193 or 323.8%.
The net sales increased mainly due to the development of new market, such as the US market and electronic
power steering market. For the U.S. market, net sales were $16,950,000 in 2010, compared with $6,430,000
in 2009, representing an increase of $10,520,000. For the new products in the China market, net sales were
$28,850,000 in 2010, compared with $4,380,000 in 2009, representing an increase of $24,470,000.
Cost of Sales
For the year ended December 31, 2010, the cost of sales was $265,622,472, compared with $193,854,927 for the same
Page | 23
Annual Report - FY 2010
period of 2009, an increase of $71,767,545, or 37.0%, mainly due to the increase of sales. Further analysis is as
follows:
─
─
─
─
─
Cost of sales for Henglong was $150,622,578 for the year ended December 31, 2010, compared with
$112,141,910 for the year ended December 31, 2009, representing an increase of $38,480,668, or 34.3%.
The cost of sales increase was mainly due to increased sale volumes with a cost of sales increase of
$40,349,480, decreased unit price with a cost of sales decrease of $3,808,979, and the effect of foreign
currency translation with a cost increase of $1,940,167.
Cost of sales for Jiulong was $80,664,101 for the year ended December 31, 2010, compared with
$53,368,639 for the year ended December 31, 2009, representing an increase of $27,295,462, or 51.1%. The
cost of sales increase was mainly due to increased sales volumes with a cost of sales increase of
$21,512,660, increased unit price with a cost of sales increase of $4,859,034, and the effect of foreign
currency translation with a cost increase of $923,768.
Cost of sales for Shenyang was $33,644,820 for the year ended December 31, 2010, compared with
$27,051,979 for the year ended December 31, 2009, representing an increase of $6,592,841, or 24.4%. The
cost of sales increase was mainly due to increased sales volumes with a cost of sales increase of $7,257,738,
decreased unit price with a cost of sales decrease of $1,086,994, and the effect of foreign currency
translation with a cost increase of $422,097.
Cost of sales for Zhejiang was $18,630,742 for the year ended December 31, 2010, compared with
$18,926,080 for the year ended December 31, 2009, representing a decrease of $295,338, or 1.6%. The cost
of sales decrease was mainly due to decreased sales volumes with a cost of sales decrease of $188,586,
decreased unit price with a cost of sales decrease of $394,748, and the effect of foreign currency translation
with a cost increase of $287,996.
Cost of sales for Wuhu was $31,330,114 for the year ended December 31, 2010, compared with
$25,769,456 for the year ended December 31, 2009, representing an increase of $5,560,658, or 21.6%. The
cost of sales increase was mainly due to increased sales volumes with a cost of sales increase of $6,846,269,
decreased unit price with a cost of sales decrease of $1,718,865, and the effect of foreign currency
translation with a cost increase of $433,254.
─
Cost of sales for Other Sectors was $39,855,606 for the year ended December 31, 2010, compared with
$7,955,758 for the year ended December 31, 2009, representing an increase of $31,899,848, or 401.0%,
mainly due to the sales volume increase.
Gross margin was 23.2% for the year ended December 31, 2010, a 1 percentage point decrease from 24.2% for the
same period of 2009, primarily due to declines in sales price in excess of unit cost reductions.
Gain on Other Sales
Gain on other sales consisted of net amount retained from sales of materials and other assets. For the year ended
December 31, 2010, gain on other sales were $1,129,032, compared to $838,505 for the year ended December 31, 2009,
an increase of $290,527, or 34.6%, due to increased sales of materials.
Selling Expenses
For the years ended December 31, 2010 and 2009, selling expenses are summarized as follows:
2010
Years Ended December 31
2009
As Restated
Increase (Decrease) Percentage
Page | 24
Annual Report - FY 2010
Salaries and wages
Office expense
Transportation expense
Rent expense
Other expense
Total
$ 2,247,519 $
1,129,348
4,690,313
1,085,128
211,567
$ 9,363,875 $
2,563,384 $
841,748
3,703,818
699,206
84,384
7,892,540 $
(315,865 )
287,600
986,495
385,922
127,183
1,471,335
-12.3 %
34.2
26.6
55.2
150.7
18.6 %
Selling expenses were $9,363,875 for the year ended December 31, 2010, compared to $7,892,540 for 2009, an
increase of $1,471,335, or 18.6%. Items that increased in 2010 compared to 2009 were office expenses, transportation
expense, rent expenses, and other expense. The major item that decreased was salaries and wages.
The increase in office expenses was due to increased sales, which led to increases in office supplies, travel expenses
and meeting expenses.
The increase in transportation expense was due to increased sales and a rise in the price of oil, which led to increases in
domestic transportation prices.
The increase in rent expense was due to increased sale volumes, which led to increases in the area of product
warehouses in different places.
The salaries of salesmen, including bonuses for meeting sales target, were indexed with their sales performance. During
2010, revenue increased by 35.3% over the last year, compared with the increase of 56.6% in 2009, a decrease of 21.3
percentage points. As the salesmen did not meet their target, correspondingly their salaries decreased.
General and Administrative Expenses
For the years ended December 31, 2010 and 2009, general and administrative expenses are summarized as follows:
Salaries and wages
Labor insurance expenses
Maintenance and repair expenses
Taxes
Provision/(income) for bad debts
Office expense
Depreciation and amortization expense
Listing expenses1
Others expenses
Total
Years Ended December 31
2010
2009
$ 4,681,335 $ 4,623,631 $
2,086,319 2,123,071
679,858 1,214,160
1,179,092 1,120,948
120,483
(2,558,818 )
958,542 1,189,475
691,721 2,955,159
1,939,774 1,589,236
258,863
$ 10,029,211 $ 15,195,026 $
371,388
Increase
(Decrease)
Percentage
57,704
(36,752 )
(534,302 )
58,144
(2,679,301 )
(230,933 )
(2,263,438 )
350,538
112,525
(5,165,815 )
1.2 %
-1.7
-44.0
5.2
-2223.8
-19.4
-76.6
22.1
43.5
-34.0 %
1 Listing expenses consisted of the costs associated with legal, accounting and auditing fees for operating a
public company. The expenses also included share-based compensation expense for options granted to
members of the audit committee.
General and administrative expenses were $10,029,211 for the year ended December 31, 2010, compared to
$15,195,026 for the year ended December 31, 2009, a decrease of $5,165,815, or 34.0%.
Page | 25
Annual Report - FY 2010
The expense items that significantly increased in 2010 compared to 2009 were listing expenses and other expenses. The
expense items that significantly decreased in 2010 compared to 2009 were provision for bad debt expenses,
maintenance and repair expenses, office expenses and depreciation and amortization expense.
The increase of listing expenses was mainly due to the increase of auditing expenses. The increase in professional fees
was mainly due to increased cost in the requirement of compliance with being a publicly listed entity and the need to
evaluate the Company’s internal control over financial reporting.
The increase of other expenses was primarily due to expansion of the scale of operation, and increases of the costs
associated with legal, insurance, and accounting service.
The Company recorded provision for bad debts based on specific identification methods. The decrease in provision for
bad debts in 2010 was mainly due to further improvement of OEMs’ financial positions resulting from the Chinese
government’s continuous stimulation measures on the automobile industry, such as subsidies to rural area consumers
and fuel efficient car buyers and reduction in purchase taxes. As a result, the Company collected about $2,600,000 of
accounts receivable in 2010, which was not expected to be collectible in prior years and bad debts provision has been
provided for. As a result, the provision for bad debts was negative.
The decrease of maintenance and repair expenses was mainly due to certain office facilities having maintenance and
repair last year and none this year, thus the maintenance of office facilities and repair were reduced in 2010.
The decrease of depreciation and amortization expense was mainly due to certain fixed assets of the Company not
needing to be depreciated in 2010 as they have been fully depreciated.
Research and Development Expenses
Research and development expenses, “R & D” expenses, were $7,991,252 for the year ended December 31, 2010,
compared to $2,561,170 for the year ended December 31, 2009, an increase of $5,430,084, or 212.0%.
The global automotive parts industry is highly competitive; winning and maintaining new business requires suppliers to
rapidly produce new and innovative products on a cost-competitive basis. In 2010, foreign OEMs significantly
increased their demand for Electronic Steering Gear, “EPS”, but the related technology in China is still in the research
and development and testing stage. In order to market “EPS” quickly, the Company invested more in the R&D of
“EPS” in 2010, including focusing the Company’s senior technicians and advanced manufacture equipment on “EPS,”
establishing the “EPS” trail-production department, introducing technology expectations and purchasing advanced
technology and test equipment. At present, the Company has developed several types of “EPS” that apply to
small-engine cars, and has supplied some quantity of “EPS.”
Income from Operations
Income from operations was $54,047,404 for the year ended December 31, 2010, compared to $36,932,395 for the year
ended December 31, 2009, an increase of $17,115,009, or 46.3%, mainly consisting of an increase of $18,560,084, or
30.1%, in gross profit, an increase of $290,527, or 34.6%, in gain on other sales, such as raw materials, and an increase
of operating expenses of $1,735,602, or 6.8%.
Other Income, Net
Other income was $543,242 for the year ended December 31, 2010, compared to $94,534 for the year ended December
31, 2009, an increase of $448,708, or 474.7%, primarily as a result of increased government subsidies.
The Company’s government subsidies consisted of interest subsidy and investment subsidy. Interest subsidy is the
refund by the Chinese government of interest charged by banks to companies which are entitled to such subsidies.
Investment subsidy is subsidy to encourage foreign investors to set up technologically advanced enterprises in China.
Page | 26
Annual Report - FY 2010
During the year ended December 31, 2009, the Company received $94,534 for interest subsidy, and no investment
subsidy. During the year ended December 31, 2010, the Company’s received $311,291 for interest subsidy, and
$231,951 for investment subsidy.
Interest subsidies apply only to loan interest related to production facilities expansion. During 2008 and 2009, the
Company had used the special loans to improve different products’ production lines technologically in order to enlarge
production capability and enhance quality. The expansion projects were completed and new facilities were put into use
at the end of 2009 and 2010, respectively.
The Chinese government also provided incentives to foreign investors for setting up technologically advanced
enterprises in China. Henglong, a subsidiary of the Company, has received $231,951 of government subsidies because
it is a technologically advanced enterprise.
Financial Expenses
Financial expenses were $3,360,837 for the year ended December 31, 2010, compared to financial expenses of
$7,883,714 for 2009, a decrease of $4,522,877, or 57.4%, primarily as a result of a decrease in interest expense related
to the Convertible Notes. Convertible Notes holders are entitled to require the Company to redeem all or any portion of
the Convertible Notes in cash, if the weighted average price, “WAP,” is less than $3.187 for twenty (20) consecutive
trading days at any time following February 15, 2009. In March 2009, due to a default on the WAP under the aforesaid
contractual provision, the “WAP Default,” the Company accreted $3,900,000 of the remaining discount on the
Convertible Notes immediately and accrued an additional $520,000 of interest expenses for WAP Default. Please see
Note 13 to the Consolidated Financial Statements under Item 15 of this Annual Report for more details.
Gain (Loss) on Change in Fair Value of Derivatives
During the year ended December 31, 2010, the gain on change in fair value of the derivatives embedded in the
Convertible Notes was $20,171,698, as compared to a loss of $43,074,327 for the year ended December 31, 2009, an
increase of $63,246,025. The derivative liability was marked to market each period.
During the year ended December 31, 2009, the increase of loss on change in fair value of derivatives was primarily due
to the increase in the intrinsic value of the embedded conversion feature in the Convertible Notes as a result of the
increase in the market price of the Company’s common stock which rose from $3.39 at the beginning of 2009 to $18.71
at December 31, 2009. Upon the adoption of ASC 815-10 on January 1, 2009, the Company is required to bifurcate the
embedded conversion feature of the Convertible Note payable as a derivative liability.
During the year ended December 31, 2010, the Company’s common stock market price dropped to $13.62 from $18.71
at the beginning of the year, which significantly decreased the intrinsic value of the embedded conversion option of
the Convertible Notes. As a result, the fair value of compound derivative liabilities decreased significantly and
correspondingly, the gain on change in fair value of derivatives increased. Please see Note 14 to the Consolidated
Financial Statements under Item 15 of this Annual Report for more details.
Income (Loss) before Income Taxes
Income before income taxes was $71,401,507 for the year ended December 31, 2010, compared to a loss of
$13,931,112 for the year ended December 31, 2009, an increase of $85,332,619, consisting of increased income from
operations of $17,115,009, increased other income of $448,708, decreased finance expenses of $4,522,877, and
increased gain on change in fair value of derivative of $63,246,025.
Income taxes
Income tax expense was $8,484,205 for the year ended December 31, 2010, compared to $4,720,013 for the year ended
Page | 27
Annual Report - FY 2010
December 31, 2009, an increase of $3,764,192, mainly because of: (1) an increase in income before income tax in the
PRC market that was not offset by losses before income tax in the U.S. market and the Company made a provision for
deferred income tax assets in the U.S. (see Note 10); (2) while there was a gain before income tax in the U.S. for the
year ended December 31, 2010 (and loss for the year ended December 31, 2009) mainly due to a change in the fair
value of convertible notes, the Company cannot recognize such gain as a deferred income tax as if it was a permanent
change; and (3) a decrease of foreign government tax return. For a full reconciliation of the Company’s effective tax
rate to the U.S. federal statutory rate of 35% and further explanation of the Company’s provision for taxes, see Note 29
to the consolidated financial statements in Item 15.
Net income
Net income was $62,917,302 for the year ended December 31, 2010, compared to a loss of $18,651,125 for the year
ended December 31, 2009, an increase of $81,568,427, consisting of increased income before income taxes of
$85,332,619, and an increase of income tax expenses of $3,764,192.
Net Income Attributable to Noncontrolling Interests
The Company recorded net income attributable to noncontrolling interests of $11,179,189 for the year ended December
31, 2010, compared to $7,789,746 for the year ended December 31, 2009, an increase of $3,389,443, or 43.5%.
The Company owns different equity interests in eight Sino-foreign joint ventures, through which it conducts its
operations. All the operating results of these eight Foreign Investment Enterprises were consolidated in the Company’s
financial statements as of December 31, 2010 and 2009. The Company records the net income attributable to
noncontrolling interests of the respective Sino-foreign joint ventures for each period.
In 2010, net income attributable to noncontrolling interests increased compared to 2009, primarily resulting from
increased net income of joint ventures.
Net Income Attributable to Parent Company
Net income attributable to parent company was $51,738,113 for the year ended December 31, 2010, compared to a loss
attributable to parent company of $26,440,871 for the year ended December 31, 2009, an increase of $78,178,984,
consisting of increased net income of $81,568,427, and an increased net income attributable to noncontrolling interests
of $3,389,443.
2009 (As Restated) Versus 2008 (As Restated) Comparative
Net Sales and Cost of Sales
For the years ended December 31, 2009 and 2008, net sales and cost of sales are summarized as follows:
Net Sales
2009
2008
Change
2009
Cost of sales
2008
Change
As Restated As Restated
$ 153,459,876 $ 92,991,655 $ 60,468,221 65.0 % $ 112,141,910 $ 66,713,130 $ 45,428,780 68.1 %
61,613,116 42,708,266 18,904,850 44.3 53,368,639 36,518,790 16,849,849 46.1
32,492,844 25,007,497 7,485,347 29.9 27,051,979 20,745,291 6,306,688 30.4
24,193,366 15,778,456 8,414,910 53.3 18,926,080 11,532,146 7,393,934 64.1
26,496,148 19,953,632 6,542,516 32.8 25,769,456 19,564,043 6,205,413 31.7
10,806,533
901,474 9,905,059 1098.8
7,955,758
271,271 7,684,487 2832.8
Henglong
Jiulong
Shenyang
Zhejiang
Wuhu
Other
Sectors
Page | 28
Annual Report - FY 2010
Eliminations (53,464,330 ) (34,161,694 ) (19,302,636 ) 56.5 (51,358,895 ) (33,635,458 ) (17,723,437 ) 52.7
$ 255,597,553 $ 163,179,286 $ 92,418,267 56.6 % $ 193,854,927 $ 121,709,213 $ 72,145,714 59.3 %
Total
Net Sales
Net sales were $255,597,553 for the year ended December 31, 2009, compared with $163,179,286 for the year ended
December 31, 2008, an increase of $92,418,267, or 56.6%, mainly due to the increases in the income of Chinese
residents and significant government investment leading to an increase in demand of passenger vehicles and
commercial vehicles, and the resultant increase in the Company’s sales of steering gear and pumps. Further analysis as
follows:
─
─
─
─
─
─
Net sales for Henglong was $153,459,876 for the year ended December 31, 2009, compared with
$92,991,655 for the year ended December 31, 2008, representing an increase of $60,468,221, or 65.0%. The
net sales increase was mainly due to increased sale volumes with a sales increase of $69,715,775, the impact
from the decrease in sales price of $9,947,637, and the effect of foreign currency translation with a sales
increase of $700,083.
Net sales for Jiulong was $61,613,116 for the year ended December 31, 2009, compared with
$42,708,266 for the year ended December 31, 2008, representing an increase of $18,904,850, or
44.3%. The net sales increase was mainly due to increased sale volumes with a sales increase of
$18,404,951, the impact from the increase in sales price of $130,078, and the effect of foreign currency
translation with a sales increase of $369,821.
Net sales for Shenyang was $32,492,844 for the year ended December 31, 2009, compared with
$25,007,497 for the year ended December 31, 2008, representing an increase of $7,485,347, or 29.9%. The
net sales increase was mainly due to increased sale volumes with a sales increase of $8,377,434, the impact
from the decrease in sales price of $1,080,739, and the effect of foreign currency translation with a sales
increase of $188,652.
Net sales for Zhejiang was $24,193,366 for the year ended December 31, 2009, compared with $15,778,456
for the year ended December 31, 2008, representing an increase of $8,414,910, or 53.3%. The net sales
increase was mainly due to increased sale volumes with a sales increase of $10,805,036 and the impact from
the decrease in sales price of $2,509,713 and the effect of foreign currency translation with a sales increase
of $119,587.
Net sales for Wuhu was $26,496,148 for the year ended December 31, 2009, compared with $19,953,632
for the year ended December 31, 2008, representing an increase of $6,542,516, or 32.8%. The net sales
increase was mainly due to increased sale volumes with a sales increase of $7,529,848 and the impact from
the decrease in sales price of $1,316,608 and the effect of foreign currency translation with a sales increase
of $329,276.
Net sales for Other Sectors was $10,806,533 for the year ended December 31, 2009, compared with
$901,474 for the year ended December 31, 2008, representing an increase of $9,905,059 or 1,098.8%. The
net sales increased mainly due to the development of new market. For the U.S. market, net sales for Other
Sectors was $6,430,000 in 2009, compared with $490,000 in 2008, representing an increase of $5,940,000
for the China market, net sales for Other Sectors was $4,380,000 in 2009, compared with $410,000 in 2008,
representing an increase of $3,970,000.
Cost of Sales
For the year ended December 31, 2009, the cost of sales was $193,854,927, compared with $121,709,213 for the same
period of 2008, an increase of $72,145,714, or 59.3%, mainly due to the increase of sales. Further analysis as follows:
Page | 29
Annual Report - FY 2010
─
─
─
─
─
Cost of sales for Henglong was $112,141,910 for the year ended December 31, 2009, compared with
$66,713,130 for the year ended December 31, 2008, representing an increase of $45,428,780, or 68.1%. The
cost of sales increase was mainly due to increased sale volumes with a cost of sales increase of $49,863,805,
decreased unit price with a cost of sales decrease of $4,926,540, and the effect of foreign currency
translation with a cost increase of $491,515.
Cost of sales for Jiulong was $53,368,639 for the year ended December 31, 2009, compared with
$36,518,790 for the year ended December 31, 2008, representing an increase of $16,849,849, or 46.1%. The
cost of sales increase was mainly due to increased sales volumes with a cost of sales increase of
$16,694,668, decreased unit price with a cost of sales decrease of $149,951, and the effect of foreign
currency translation with a cost increase of $305,132.
Cost of sales for Shenyang was $27,051,979 for the year ended December 31, 2009, compared with
$20,745,291 for the year ended December 31, 2008, representing an increase of $6,306,688, or 30.4%. The
cost of sales increase was mainly due to increased sales volumes with a cost of sales increase of $7,220,078,
decreased unit price with a cost of sales decrease of $1,067,236, and the effect of foreign currency
translation with a cost increase of $153,846.
Cost of sales for Zhejiang was $18,926,080 for the year ended December 31, 2009, compared with
$11,532,146 for the year ended December 31, 2008, representing an increase of $7,393,934, or 64.1%. The
cost of sales increase was mainly due to increased sales volumes with a cost of sales increase of $8,039,211,
decreased unit price with a cost of sales decrease of $726,987, and the effect of foreign currency translation
with a cost increase of $81,710.
Cost of sales for Wuhu was $25,769,456 for the year ended December 31, 2009, compared with
$19,564,043 for the year ended December 31, 2008, representing an increase of $6,205,413, or 31.7%. The
cost of sales increase was mainly due to increased sales volumes with a cost of sales increase of $6,879,711,
decreased unit price with a cost of sales decrease of $714,992, and the effect of foreign currency translation
with a cost increase of $40,694.
─
Cost of sales for Other Sectors was $7,955,758 for the year ended December 31, 2009, compared with
$271,271 for the year ended December 31, 2008, representing an increase of $7,684,487, or 2832.8%. The
cost of sales increase was mainly due to an increase in sales.
Gross margin was 24.2% for the year ended December 31, 2009, a 1.2% decrease from 25.4% for the same period of
2008, primarily due to declines in unit cost in excess of sales price reductions.
Gain on Other Sales
Gain on other sales consisted of net amount retained from sales of materials and other assets. For the year ended
December 31, 2009, gain on other sales were $838,505, compared to $734,063 for the year ended December 31, 2008,
an increase of $104,442, or 14.2%, due to increased sales of materials.
Selling Expenses
For the years ended December 31, 2009 and 2008, selling expenses are summarized as follows:
Salaries and wages
Office expense
2009
Years Ended December 31
2008
Increase (Decrease) Percentage
As Restated As Restated
1,413,708 $
$
861,838
2,563,384 $
841,748
1,149,676
(20,090 )
81.3 %
-2.3
Page | 30
Annual Report - FY 2010
Transportation expense
Rent expense
Other expense
Total
3,703,818
699,206
84,384
7,892,540 $
2,158,793
384,167
189,372
5,007,878 $
$
1,545,025
315,039
(104,988 )
2,884,662
71.6
82.0
-55.4
57.6 %
Selling expenses were $7,892,540 for the year ended December 31, 2009, compared to $5,007,878 for 2008, an
increase of $2,884,662, or 57.6%. Major items that increased greatly in 2009 compared to 2008 were salaries and
wages, transportation expense, and rent expenses. The major item that decreased greatly was other expenses.
The salaries of salesmen were indexed with their selling performance. During 2009, sales had a 56.6% increase over
2008, correspondingly increasing the salaries of salesmen.
The increase in transportation expense was due to increased sales and a rise in the price of oil, which led to increases in
domestic transportation prices.
The increase in rent expense was due to increased marketing activities, which led to increases in the area of product
warehouses and offices in different places.
The decrease in other expenses was mainly due to the Company’s strengthening its control of material consumption in
the marketing activities in 2009.
General and Administrative Expenses
For the years ended December 31, 2009 and 2008, general and administrative expenses are summarized as follows:
Salaries and wages
Labor insurance expenses
Maintenance and repair expenses
Taxes
Provision for bad debts
Office expense
Depreciation and amortization expense
Listing expenses1
Others expenses
Total
Years Ended December 31
2008
2009
$ 4,623,631 $ 4,105,613 $
2,123,071 1,667,287
1,214,160 1,268,055
690,918
1,120,948
989,584
120,483
1,189,475 1,403,241
2,955,159 5,846,290
1,589,236 1,624,161
348,641
$ 15,195,026 $ 17,943,790 $
258,863
Increase (Decrease) Percentage
518,018
455,784
(53,895 )
430,030
(869,101 )
(213,766 )
(2,891,131 )
(34,925 )
(89,778 )
(2,748,764 )
12.6 %
27.3
-4.3
62.2
-87.8
-15.2
-49.5
-2.2
-25.8
-15.3 %
1 Listing expenses consisted of the costs associated with legal, accounting and auditing fees for operating a public
company.
General and administrative expenses were $15,195,026 for the year ended December 31, 2009, compared to
$17,943,790 for the year ended December 31, 2008, a decrease of $2,748,764, or 15.3%.
The expense items that significantly increased in 2009 compared to 2008 were salaries and wages, labor insurance
expenses, and tax expenses. The expense items that significantly decreased were office expenses, provision for bad
debts expenses and depreciation and amortization expense.
The increased salaries and wages were due to increased staff and performance bonuses resulting from enlarged business
size and improved earnings.
Page | 31
Annual Report - FY 2010
The Company’s labor insurance expenses were pension, medicare, injury insurance, unemployment insurance, and
housing fund expenses. The increase in labor insurance expenses for 2009 was a result of an increase in the number of
employees.
The Company’s tax expense was property tax such as land use right, housing property tax, vehicle and vessel usage
license plate tax. The increase in tax expense was a result of an increase in the property usage of the Company.
The decrease in office expenses has resulted from the control of such expenses by the Company’s management in 2009.
The Company recorded provision for bad debts based on aging of accounts receivable, and then specific identification
methods. The decrease in provision for bad debts in 2009 was mainly due to certain domestic automobile
manufacturers having begun to recover from the financial crisis in 2008 under the support of a series of government
policies and having improved their financial conditions, thus, the provision for bad debts provided in 2009 was
decreased compared with the year of 2008.
The decrease in depreciation and amortization expense was mainly due to certain fixed assets of the Company not
needing to be depreciated in 2009 as they have been fully depreciated.
Research and Development Expenses
Research and development expenses were $2,561,170 for the year ended December 31, 2009, compared to $2,255,892
for the year ended December 31, 2008, an increase of $305,278, or 13.5%.
The global automotive parts industry is highly competitive; winning and maintaining new business requires suppliers to
rapidly produce new and innovative products on a cost-competitive basis. In order to maintain the Company’s
competitiveness, the Company needs to invest more in R&D expenses. In 2009, the Company not only developed new
products for foreign OEMs, but also increased R&D expenses for power steering gear for domestic OEMs.
Income from Operations
Income from operations was $36,932,395 for the year ended December 31, 2009, compared to $16,996,576 for the year
ended December 31, 2008, an increase of $19,935,819, or 117.3%, mainly consisting of an increase of $20,272,553, or
48.9%, in gross profit, an increase of $104,442, or 14.2%, in gain on other sales, and an increase of operating expenses
of $441,176, or 1.8%.
Other Income
Other income was $94,534 for the year ended December 31, 2009, compared to $1,067,309 for the year ended
December 31, 2008, a decrease of $972,775, or 91.1%, primarily as a result of decreased government subsidies.
The Company’s government subsidies consisted of interest subsidy and investment subsidy. Interest subsidy is the
refund from the Chinese government of interest charged by banks to companies which are entitled to such subsidies.
Investment subsidy is the subsidy to encourage foreign investors to set up technologically advanced enterprises in
China.
During the year ended December 31, 2009, the Company received $94,534 for interest subsidy, and no investment
subsidy. During the year ended December 31, 2008, the Company’s received $264,978 for interest subsidy, and
$802,331 for investment subsidy.
Interest subsidies apply only to loan interest related to production facilities expansion. During 2007 and 2008, the
Company had used special loans to improve different product lines in order to enlarge production capability and
enhance quality. The expansion projects were completed and new facilities were put into use at the end of 2008 and
2009, respectively.
Page | 32
Annual Report - FY 2010
The Chinese government also provided incentives to foreign investors for setting up technologically advanced
enterprises in China. Genesis, a foreign investor, has reinvested in Jiulong and Henglong with its profit distribution.
Because these two entities were technologically advanced enterprises entitled to such subsidies, therefore, Genesis
received $802,331 of investment subsidy in 2008.
Since such government subsidy was similar to an investment income, the Company recorded it as other income.
Financial Expenses
Financial expenses were $7,883,714 for the year ended December 31, 2009, compared to financial expenses of
$3,048,713 for 2008, an increase of $4,835,001, or 158.6%, primarily as a result of an increase in interest expenses for
discount of Convertible Notes. In 2009, due to the Company’s WAP Default, the Convertible Notes can be call upon
anytime to redeem the convertible notes, thus, the Company accreted $3,900,000 of remaining discount of Convertible
Notes immediately and accrued an additional $520,000 of interest expenses for WAP Default. Please see Note 13 in the
Notes to the Consolidated Financial Statements under Item 15 of this Annual Report for more details.
Gain (Loss) on Change in Fair Value of Derivative
During the year ended December 31, 2009, the loss on change in fair value of the derivatives embedded in the
Convertible Notes was $43,074,327, as compared to a gain of $796,649 for the year ended December 31, 2008, a
decrease of $43,870,976.
During the year ended December 31, 2009, the loss on change in fair value of the derivatives resulted form the change
in fair value of embedded conversion option in the Convertible Notes payable.
During the year ended December 31, 2008, the gain on change in fair value of the derivatives resulted form the change
in fair value of warrants liabilities.
During the year ended December 31, 2009, the increase in loss on change in fair value of derivatives was primarily due
to the increase in the intrinsic value of the embedded conversion feature in the Convertible Note payable as a result of
the increase in the market price of the Company’s common stock which rose from $3.39 at the beginning of 2009 to
$18.71 at December 31, 2009. Upon the adoption of ASC 815 on January 1, 2009, the Company is required to bifurcate
the embedded conversion feature of the Convertible Note payable.
During the year ended December 31, 2008, conversion option was not included in the Company’s Convertible Notes
embedded in derivatives liabilities. The only derivative liabilities were warrants liabilities. The significant decrease in
the fair value of warrants liabilities was due to a reduction of the remaining terms of the contract and the fact that the
stock price ($3.39) of the Company on the reported date being far below the exercise price.
Income (Loss) Before Income Taxes
Loss before income taxes was $13,931,112 for the year ended December 31, 2009, compared to income before income
taxes of $15,811,821 for the year ended December 31, 2008, a decrease of $29,742,933, or 188.1%, consisting of
increased income from operations of $19,935,819, decreased other income of $972,775, increased finance expenses of
$4,835,001, and increased loss on change in fair value of derivative of $43,870,976.
Income Taxes
Income tax expense was $4,720,013 for the year ended December 31, 2009, compared to $455,830 for the year ended
December 31, 2008, an increase of $4,264,183, mainly because of: (1) an increase in income before income tax in the
PRC market that was not offset by losses before income tax in the U.S. market and the Company made a provision for
deferred income tax assets in the U.S. (see Note 10); (2) while there was a loss before income tax in the U.S. mainly
Page | 33
Annual Report - FY 2010
due to a change in the fair value of convertible notes, the Company cannot recognize such loss as a deferred income tax
asset or a tax benefit as if it was a permanent change; and (3) a decrease of foreign government tax return. For a full
reconciliation of the Company’s effective tax rate to the U.S. federal statutory rate of 35% and further explanation of
the Company’s provision for taxes, see Note 29 to the consolidated financial statements in Item 15.
Net Income
Net loss was $18,651,125 for the year ended December 31, 2009, compared to net income of $15,355,991 for the year
ended December 31, 2008, a decrease of $34,007,116, consisting of decreased income before income taxes of
$29,742,933, and an increase of $4,264,183 due to increased income tax expenses.
Net Income Attributable to Noncontrolling Interests
The Company recorded net income attributable to noncontrolling interests of $7,789,746 for the year ended December
31, 2009, compared to $5,111,861 for the year ended December 31, 2008, an increase of $2,677,885, or 52.4%.
The Company owns different equity interests in eight Sino-foreign joint ventures, through which it conducts its
operations. All the operating results of these eight Foreign Investment Enterprises were consolidated in the Company’s
financial statements as of December 31, 2009 and 2008. The Company records the net income attributable to
noncontrolling interests of the respective Sino-foreign joint ventures for each period.
In 2009, net income attributable to noncontrolling interests has increased compared to 2008, primarily resulting from
increased net income from Sino-foreign joint ventures.
Net Income Attributable to Parent Company
Net loss attributable to parent company was $26,440,871 for the year ended December 31, 2009, compared to net
income attributable to parent company of $10,244,130 for the year ended December 31, 2008, a decrease of
$36,685,001, consisting of decreased net income of $34,007,116, and an increased net income attributable to
noncontrolling interests of $2,677,885.
LIQUIDITY AND CAPITAL RESOURCES
Capital Resources and Use of Cash
The Company has historically financed its liquidity requirements from a variety of sources, including short-term
borrowings under bank credit agreements, bankers’ acceptance, issuances of capital stock and internally generated cash.
As of December 31, 2010, the Company had cash and cash equivalents of $49,424,979, compared to $43,480,176 and
$37,113,375 as of December 31, 2009 and 2008, an increase of $5,944,803 and $6,366,801, respectively.
The Company had working capital of $54,191,797 as of December 31, 2010, compared to $12,486,023 as of December
31, 2009, an increase of $41,705,774, mainly due to increased profits of operation and decreased compound derivative
liabilities.
Capital Source
The Company’s capital source is multifaceted, such as bank loans and banker’s acceptance bill facilities. In financing
activities and operation activities, the Company’s banks require the Company to sign lines of credit agreement and
repay such facilities within one year. On the condition that the Company can provide adequate mortgage security and
has not violated the terms of the line of credit agreement, such one year facilities can be extended for another year.
The Company had bank loans maturing in less than one year of $6,794,812 and bankers’ acceptances of $52,790,874 as
of December 31, 2010.
Page | 34
Annual Report - FY 2010
The Company currently expects to be able to obtain similar bank loans and bankers’ acceptance bills in the future if it
can provide adequate mortgage security following the termination of the above mentioned agreements (See the table in
section (a) Bank loan). If the Company is not able to do so, it will have to refinance such debt as it becomes due or
repay that debt to the extent it has cash available from operations or from the proceeds of additional issuances of capital
stock. Owing to depreciation, the value of the mortgages securing the above-mentioned bank loans and banker's
acceptance bills will be devalued by approximately $10,900,000. If the Company wishes to obtain the same amount of
bank loans and banker's acceptance bills, it will have to provide $10,900,000 additional mortgages as of the maturity
date of such agreements (See the table in section (a) Bank loan). The Company still can obtain a reduced line of credit
with a reduction of $7,000,000, which is 64.9% (the mortgage rates) of $10,900,000, if it cannot provide additional
mortgages. The Company expects that the reduction of bank loans will not have a material adverse effect on its
liquidity.
On February 15, 2008, the Company issued $35,000,000 of Convertible Notes to Lehman Brothers Commercial
Corporation Asia Limited, LBCCA, and YA Global Investments, L.P., YA Global, maturing in 5 years. According to
the terms of the Senior Convertible Notes (as described in Note 13 of the financial statements), Convertible Notes may
be required to be repaid in cash on or prior to their maturity. For example, Convertible Notes holders are entitled to
require the Company redeem all or any portion of the Convertible Notes in cash, if the Weighted Average Price (WAP)
for twenty (20) consecutive trading days is less than $3.187 at any time following February 15, 2009, the “WAP
Default,” by delivering written redemption notice to the Company within five (5) business days after the receipt of the
Company’s notice of the WAP Default.
As a result of the 2008 and 2009 worldwide financial crisis, the Company’s stock’s WAP for twenty (20) consecutive
trading days ended on March 16, 2009 was below $3.187. On March 17, 2009, the Company delivered two WAP
Default notices to the Convertible Notes holders. On March 27, 2009, the Company received a letter dated March 26,
2009 via fax from YA Global, one of the Convertible Notes holders, electing to require the Company to redeem all the
three Convertible Notes it held in the total principal amount of $5,000,000, together with interest, late charges, if any,
and the Other Make Whole Amount as defined in Section 5(d) of the Convertible Notes. After negotiation, on April 15,
2009, the Company paid YA Global $5,041,667 for the total principal amount ($5,000,000), together with interest and
late charges. YA Global has waived its entitlement to the Other Make Whole Amount.
Following the WAP Default notices, the Company received a letter from the provisional liquidator acting on behalf of
LBCCA, the “LBCCA Liquidator,” requesting that it be granted an extension until April 24, 2009 to consider its rights
under the Convertible Notes. The Company granted an extension to April 15, 2009. The LBCCA Liquidator requested
another extension to April 24, 2009. On April 24, 2009, LBCCA’s lawyers sent three Holder Redemption Notices via
fax electing to redeem the entire outstanding principal of $30,000,000, together with interest, late charges, if any, and
the Other Make Whole Amount, to be paid on July 23, 2009. The Company discussed settlement with the LBCCA
Liquidator, and on or about July 22, 2009, the Company and the LBCCA Liquidator agreed to extend the applicable
holder mandatory redemption date for two months to September 23, 2009 to give more time to the Company and the
LBCCA Liquidator to pursue settlement discussion. The Company received a letter dated September 22, 2009 from the
LBCCA Liquidator stating that upon the Company’s acceptance of the revocation, all holder redemption notices dated
April 24, 2009 shall be immediately revoked as if they were never issued, and the letter and the revocation did not
purport to amend, restate or supplement any other terms and conditions under the three Notes and Securities Purchase
Agreement dated 1 February 2008 between the Company and the LBCCA Liquidator. The Company accepted such
revocation on September 23, 2009.
The Company’s ability to redeem the Convertible Notes and meet its payment obligations depends on its cash position
and its ability to refinance or generate significant cash flow, which is subject to general economic, financial and
competition factors and other factors beyond the Company’s control. The Company cannot assure you that it has
sufficient funds available or will be able to obtain sufficient funds to meet its payment obligations under the
Convertible Notes, and the Company’s redemption of the Convertible Notes would result in a material adverse effect
on its liquidity and capital resources, business, results of operations or financial condition.
Page | 35
Annual Report - FY 2010
Bank Arrangements
As of December 31, 2010, the principal outstanding under the Company’s credit facilities and lines of credit was as
follows:
Bank
Due Date
Amount
available
Amount
used
Comprehensive credit facilities Bank of China
Dec-11 $ 7,700,787 $
—
Comprehensive credit facilities China Construction Bank
Oct-12 12,079,665 5,616,138
Comprehensive credit facilities CITIC Industrial Bank
Aug-11 15,099,582 14,621,668
Comprehensive credit facilities Shanghai Pudong Development Bank
Nov-11 15,099,582 9,737,116
Comprehensive credit facilities Jingzhou Commercial Bank
Dec -11 15,099,582 5,132,952
Comprehensive credit facilities Industrial and Commercial Bank of China Mar-11 12,079,665 3,874,553
Comprehensive credit facilities Hua Xia Bank
Dec-11 7,549,791 6,039,833
Comprehensive credit facilities Guangdong Development Bank
Jun-11 12,532,653 6,039,833
Comprehensive credit facilities 1 China Everbright Bank
Aug-11 4,529,875 8,523,593
Total
$ 101,771,182 $ 59,585,686
1 The amount available for use is increased to the amount of cash pledged with the bank.
The Company may request the banks to issue notes payable or bank loans within its credit line using a 364-day
revolving line.
The Company refinanced its short-term debt during early 2010 at annual interest rates of 5.31% to 5.96%, and maturity
terms of six to twelve months. Pursuant to the comprehensive credit line arrangement, the Company pledged equipment
with an assessed value of $30,700,000, land use rights and buildings as security for its comprehensive credit facility
with the Bank of China; pledged land use rights and buildings with an assessed value of $12,200,000 as security for its
comprehensive credit facility with Shanghai Pudong Development Bank; pledged land use rights and equipment with
an assessed value of $23,700,000 as security for its revolving comprehensive credit facility with Jingzhou Commercial
Bank; pledged land use rights and buildings with an assessed value of $3,100,000,and accounts receivables with an
assessed value of $1,500,000 as security for its comprehensive credit facility with Industrial and Commercial Bank of
China; pledged land use rights ,buildings and equipment with an assessed value of $30,500,000 as security for its
comprehensive credit facility with China Construction Bank; pledged land use rights and buildings with an assessed
value of $14,600,000 as security for its comprehensive credit facility with China CITIC Bank; pledged land use rights
and buildings with an assessed value of $7,700,000 as security for its comprehensive credit facility with China
Everbright Bank; pledged accounts receivables with an assessed value of $6,000,000 as security for its comprehensive
credit facility with Guangdong Development Bank; “Henglong,” a subsidiary of the Company, its comprehensive credit
facility with Hua Xia Bank was secured by “Jiulong,” another subsidiary of the Company.
Cash Requirements
The following table summarizes the Company’s expected cash outflows resulting from financial contracts and
commitments. The Company has not included information on its recurring purchases of materials for use in its
Page | 36
manufacturing operations. These amounts are generally consistent from year to year, closely reflecting the Company’s
levels of production, and are not long-term in nature, which are less than three months.
Payment Due Dates
Annual Report - FY 2010
Short-term bank loan
Notes payable
Convertible Notes payable
Interest, including make-whole amount
on convertible notes 1
Other contractual purchase
commitments, including information
technology
Total
1-3 years
3-5 years
More than 5
Years
Total
6,794,812 $
Less than 1
year
$
6,794,812 $
52,790,874 52,790,874
30,000,000 30,000,000
7,406,000
7,406,000
— $
—
—
— $
—
—
—
15,480,128 13,802,597 1,677,531
$ 112,471,814 $ 110,794,283 $ 1,677,531 $
—
— $
—
—
—
—
—
1
Interest, including make-whole amount on convertible notes, is computed based on the contractual rate as per the
convertible note agreement.
Short-term Bank Loans
The following table summarizes the contract information of short-term borrowings between the banks and the
Company as of December 31, 2010.
Bank
China Construction Bank
China CITIC Bank1
Industrial and Commercial
Bank of China2
Total
Borrowing
Date
Purpose
Working
Capital
Working
Capital
Working
Capital
Jun 17, 10
26-May-10
12-Nov-10
Borrowing
Term
(Year)
Annual
Percentage
Rate
Date of
Interest
Payment
Pay
Date of
Maturity
Payment
Amount
Payable on
Due Date
1
1
5.31 %
monthly Jun 17, 11 $ 3,019,917
Pay
5.31 %
monthly 26-May-11 2,264,937
Pay
0.5
5.96 %
monthly 12-May-11 1,509,958
$ 6,794,812
1 The Company has repaid $2,264,937 of short-term borrowings to China CITIC Bank on May 26, 2011.
2 The Company has repaid $1,509,958 of short-term borrowings to Industrial and Commercial Bank of China on
May 12, 2011, and Industrial and Commercial Bank of China loaned $1,509,958 to the Company again on that
day at an annual interest rate of 6.31%, and maturity term of six months.
The Company must use the loans for the purpose described in the table. If the Company fails, it will be charged a
penalty interest at 100% of the specified loan rate. The Company has to pay interest at the interest rate described in the
table on the 20th of each month. If the Company fails, it will be charged a compounded interest at the specified rate.
The Company has to repay the principal outstanding on the specified date in the table. If it fails, it will be charged a
penalty interest at 50% of the specified loan rate. Management believes that the Company had complied with such
financial covenants as of December 31, 2010, and will continue to comply with them.
Notes Payable
The following table summarizes the contract information of issuing notes payable between the banks and the Company
Page | 37
as of December 31, 2010:
Purpose
Term (Month) Due Date
Amount Payable on Due
Date
Annual Report - FY 2010
Working Capital
Working Capital
Working Capital
Working Capital
Working Capital
Working Capital
Total
3-6
3-6
3-6
3-6
3-6
3-6
Jan-11
Feb-11
Mar-11
Apr-11
May-11
Jun-11
$
$
9,895,511
8,911,018
8,755,190
7,695,351
9,653,163
7,880,641
52,790,874
The Company must use notes payable for the purpose described in the table. If it fails, the banks will no longer issue
the notes payable, and it may have an adverse effect on the Company’s liquidity and capital resources. The Company
has to deposit sufficient cash in the designated account of the bank on the due date of notes payable for payment to the
suppliers. If the bank has advanced payment for the Company, it will be charged a penalty interest at 150% of the
specified loan rate. Management believes that the Company had complied with such financial covenants as of
December 31, 2010, and will continue to comply with them.
Cash flows
(a) Operating activities
Compared with the net cash generated from operations during the year ended December 31, 2009 and 2008 of
$34,956,534 and $16,373,966, respectively, net cash generated from operations during the year ended December 31,
2010 was $38,552,161. Operating income increased for all periods.
The primary factors for the increase for cash generated from operations were the increased gross profit and certain
suppliers accepting installment payment schedules rather than paying at one time. These factors were offset
by accepting installment payment schedules with certain customers.
For the years ended December 31, 2010, 2009 and 2008, according to the terms of payment and prepayment between
customers and the Company, the credit terms on sale of goods between customers and the Company generally ranged
from 3 - 4 months, which resulted in increased accounts receivable as sales increased. Therefore, cash flow decreased
in the amount of approximately $14.5 million, $44 million and $7 million in each period, respectively. The Company
believes that this is a normal capital circulation and it will not have a material adverse effect on future cash flows.
During the years ended December 31, 2010, 2009 and 2008, according to the terms of payment between customers and
the Company, customers can choose to pay for goods with a bank bill. Therefore, cash flow decreased in the amount of
approximately $18.6 million, $15 million and $2.3 million in each period respectively. Since the notes receivable were
based on credit standing with the respective bank, they may be turned into cash any time the Company elects, if
necessary. Therefore, the increase of notes receivable will not have a material adverse effect on the Company’s future
operating activities.
(b) Investing activities
The Company expended $32,596,741 in investment activities during the year ended December 31, 2010, as compared
to $17,335,687 and $22,356,060 during the years ended December 31, 2009 and 2008.
During the years ended December 31, 2010, 2009, and 2008, the Company invested cash for equipment purchases and
building facilities to expand production to meet market needs. Cash used for equipment purchases and building
facilities in 2010, 2009 and 2008 were $28,024,638, $17,498,957 and $12,245,383, respectively.
Page | 38
Annual Report - FY 2010
For the year ended December 31, 2010, the Company invested $3,095,414 in Beijing to set up a jointly operated
company with Beijing Hainachuan to expand the market share of the Company.
For the year ended December 31, 2008, the Company purchased 35.5% equity interest of Henglong with $10,000,000
of cash and issuance of 3,023,542 shares of common stock of the Company.
(c) Financing activities
During the years ended December 31, 2010 and 2009, the Company expended $1,394,578 and $11,290,625 in
financing activities, respectively, and provided $21,981,953 through financing activities for the year ended December
31, 2008.
During the year ended December 31, 2010, the Company acquired net cash of $1,420,279 from the bank. For the years
ended December 31, 2009 and 2008, the Company repaid bank loans of $2,196,367 and $7,567,697.
During the years ended December 31, 2010, 2009, and 2008, the Company’s subsidiaries in China paid dividends of
$3,614,252, $4,176,583 and $6,198,489 to their minority interest holders.
As of December 31, 2009, the Company repaid YA Global $5,000,000 for its Convertible Notes upon its request, for
the year ended December 31, 2008, the Company issued $30,000,000 and $5,000,000 Convertible Notes to Lehman
Brothers Commercial Corporation Asia Limited, LBCCA, and YA Global Investments, L.P., YA Global, respectively.
OFF-BALANCE SHEET ARRANGEMENTS
At December 31, 2010, 2009, and 2008, the Company did not have any transactions, obligations or relationships that
could be considered off-balance sheet arrangements.
COMMITMENTS AND CONTINGENCIES
The following table summarizes the Company’s contractual payment obligations and commitments as of December 31,
2010:
2011
2012
2013
2014
Thereafter
Total
Payment Obligations by Period
$
110,000 $
— $
— $
— $
— $
110,000
13,692,59
7 1,677,531
—
—
— 15,370,128
7,406,000
21,208,59
—
$
7 $ 1,677,531 $
—
— $
—
— $
— 7,406,000
— $ 22,886,128
Obligations for service
agreements
Obligations for purchasing
agreements
Interest and make-whole on
Convertible Notes
Total
SUBSEQUENT EVENTS
On March 1, 2011, an investor converted $6,428,571 principal amount of the Convertible Notes at a conversion price of
$7.0822 per share, and the Company issued 907,708 shares of its common stock to the investor. No additional
consideration was paid for the conversion of the convertible notes into common stock. After conversion, the
investor returned such Convertible Note to the Company for cancellation.
INFLATION AND CURRENCY MATTERS
China’s economy has experienced rapid growth recently. Rapid economic growth could lead to growth in the money
Page | 39
Annual Report - FY 2010
supply and rising inflation. If prices for the Company’s products rise at a rate that is insufficient to compensate for the
rise in the cost of supplies, it may harm the Company’s profitability. In order to control inflation in the past, the
Chinese government has imposed controls on bank credit, limits on loans for fixed assets and restrictions on state bank
lending. Such policies can lead to a slowing of economic growth. Rises in interest rates by the central bank would
likely slow economic activity in China which could, in turn, materially increase the Company’s costs and also reduce
demand for the Company’s products.
Foreign operations are subject to certain risks inherent in conducting business abroad, including price and currency
exchange controls, and fluctuations in the relative value of currencies. During 2010, the Company supplied products to
North America and settled in cash in U.S. dollars. As a result, appreciation or currency fluctuation of the RMB against
the U.S. dollar would increase the cost of export products, and adversely affect the Company’s financial performance.
In July 2005, the Chinese government adjusted its exchange rate policy from “Fixed Rate” to “Floating Rate.” During
July 2005 to December 2010, the exchange rate between RMB and U.S. dollar appreciated from RMB 1.00 to
US$0.1205 to RMB 1.00 to US$0.1510. This significant appreciation of the RMB may continue for in the near term, as
the Chinese government attempts to slow the rate of inflation in the PRC. Significant appreciation of the RMB is likely
to decrease the income of export products, thus decreasing the Company’s cash flow.
RECENT ACCOUNTING PRONOUNCEMENTS
See Note 3 to the accompanying Consolidated Financial Statements under Item 15 of this Annual Report on Form 10-K
for a discussion of recent accounting pronouncements.
SIGNIFICANT ACCOUNTING POLICIES AND CRITICAL ACCOUNTING ESTIMATES
The Company prepares its consolidated financial statements in accordance with accounting principles generally
accepted in the United States of America. The preparation of these financial statements requires the use of estimates
and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amount of revenues and expenses during the reporting
period. Management periodically evaluates the estimates and judgments made. Management bases its estimates and
judgments on historical experience and on various factors that are believed to be reasonable under the circumstances.
Actual results may differ from these estimates as a result of different assumptions or conditions. The following critical
accounting policies affect the more significant judgments and estimates used in the preparation of the Company’s
consolidated financial statements.
The Company considers an accounting estimate to be critical if:
It requires the Company to make assumptions about matters that were uncertain at the time it was making the
estimate, and
Changes in the estimate or different estimates that the Company could have selected would have had a material
impact on the Company’s financial condition or results of operations.
The table below presents information about the nature and rationale for the Company critical accounting estimates:
Balance
Sheet
Caption
Critical
Estimate
Item
Nature of Estimates Required
Assumptions/Approaches
Used
Key Factors
Page | 40
Warranty
obligations
Accrued
liabilities
and other
long-term
liabilities
Valuation of
long- lived
assets and
investments
Property,
plant and
equipment,
intangible
assets and
other
long-term
assets
Accounts
and notes
receivables
Provision for
doubtful
accounts and
notes
receivable
Deferred
income
taxes
Recoverability
of deferred tax
assets
Annual Report - FY 2010
The Company bases its estimate
on historical trends of units sold
and payment amounts,
combined with its current
understanding of the status of
existing claims and discussions
with its customers.
• VM (Vehicle
Manufacturer) sourcing
• VM policy decisions
regarding warranty
claims
Estimating warranty requires
the Company to forecast the
resolution of existing claims
and expected future claims on
products sold. VMs (Vehicle
Manufacturer) are increasingly
seeking to hold suppliers
responsible for product
warranties, which may impact
the Company’s exposure to
these costs.
The Company is required from
time-to-time to review the
recoverability of certain of its
assets based on projections of
anticipated future cash flows,
including future profitability
assessments of various product
lines.
The Company estimates cash
flows using internal budgets
based on recent sales data,
independent automotive
production volume estimates
and customer commitments.
• Future production
estimates
• Customer preferences
and decisions
Estimating the provision for
doubtful accounts and notes
receivable requires the
Company to analyze and
monitor each customer’s credit
standing and financial
condition regularly. The
Company grants credit to its
customers, generally on an
open account basis. It will have
material adverse effect on the
Company’s cost disclosure if
such assessment were
improper.
The Company is required to
estimate whether recoverability
of its deferred tax assets is
more likely than not based on
forecasts of taxable earnings in
the related tax jurisdiction.
•Customers’ credit
standing and financial
condition
The Company grants credit to its
customers for three to four
months based on each
customer’s current credit
standing and financial data. The
Company assesses allowance on
an individual customer basis,
under normal circumstances.
The Company records provision
for bad debts based on specific
identification methods.
The Company uses historical
and projected future operating
results, based upon approved
business plans, including a
review of the eligible
carryforward period, tax
planning opportunities and other
relevant considerations.
• Tax law changes
• Variances in future
projected profitability,
including by taxing
entity
Warranty
The Company is required to
liabilities and
compound
derivative
liabilities
estimate the fair value of
warranty liabilities and
compound derivative liabilities
at conception and completion
of each reporting period.
Convertible
notes
payable,
warranty
liabilities,
compound
derivative
liabilities
The Company uses
Black-Scholes option pricing
model to determine fair value of
warrant; uses Monte Carlo
simulation (“MCS”) valuation
techniques to determine fair
value of compound derivative
liabilities.
• Expected volatility
• Risk-free rate
•interest market risk
•Credit risk
• Redemption activities
before maturity
Page | 41
Annual Report - FY 2010
In addition, there are other items within the Company’s financial statements that require estimation, but are not as
critical as those discussed above. These include the allowance for reserves for excess and obsolete inventory. Although
not significant in recent years, changes in estimates used in these and other items could have a significant effect on the
Company’s consolidated financial statements.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK.
The Company is exposed to market risk from changes in interest rates and foreign currency exchange rates. For
purposes of specific risk analysis, the Company uses sensitivity analysis to determine the effects that market risk
exposures may have.
FOREIGN CURRENCY RISK
The Company’s reporting currency is the U.S. dollar and the majority of its revenues will be settled in RMB and U.S.
dollars. Most of the Company’s assets are denominated in RMB except for cash and accounts receivable. As a result,
the Company is exposed to foreign exchange risk as its revenues and results of operations may be affected by
fluctuations in the exchange rate between the U.S. dollar and the RMB.
The value of the RMB fluctuates and is affected by, among other things, changes in China's political and economic
conditions. In addition, the RMB is not readily convertible into U.S. dollars or other foreign currencies. All foreign
exchange transactions continue to take place either through the Bank of China or other banks authorized to buy and sell
foreign currencies at the exchange rate quoted by the People’s Bank of China. The conversion of RMB into foreign
currencies such as the U.S. dollar has been generally based on rates set by the People's Bank of China, which are set
daily based on the previous day's interbank foreign exchange market rates and current exchange rates on the world
financial markets. On December 31, 2010 and 2009, the exchange rates of RMB against U.S. dollar were 6.6227 and
6.8282, respectively. This floating exchange rate, and any appreciation of the RMB that may result from such rate,
could have various adverse effects on the Company’s business.
The Company’s currency exchange rate risks come primarily from the sales of products to international customers. If
the RMB appreciates against foreign currencies, it will make the Company’s sales income decrease. In order to mitigate
the currency exchange rate risk, the Company has inserted a currency exchange rate fluctuation compensation provision
in its sales contracts with its international customers to the effect that both parties will bear 50% of such loss when the
fluctuation is over 8% within that contract year.
CREDIT RISK
Financial instruments that potentially subject the Company to concentrations of credit risk consist primarily of trade
accounts receivable. The Company does not require collateral or other security to support client receivables since most
of its customers are large, well-established companies. The Company's credit risk is also mitigated because its
customers are all selected enterprises supported by the local government. Two customers accounted for more than 10%
of the Company’s consolidated revenues in 2010, which consisted of Chery Automobile Co., Ltd. and BYD
Automobile Co., Ltd., which accounted for 12.3% and 11.0%, respectively. The Company maintains an allowance for
doubtful accounts for any potential credit losses related to its trade receivables. The Company does not use foreign
exchange contracts to hedge the risk in receivables denominated in foreign currencies and the Company does not hold
or issue derivative financial instruments for trading or speculative purposes.
ITEM 8.
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
FINANCIAL STATEMENTS
Page | 42
Annual Report - FY 2010
The following financial statements are set forth at the end of this Annual Report.
1. Report of Registered Public Accounting Firm, PricewatershouseCoopers Zhong Tian CPAs Limited Company
2. Report of Registered Public Accounting Firm, Schwartz Levitsky Feldman LLP
3. Consolidated Balance Sheets as of December 31, 2010 and 2009
4. Consolidated Statements of Income/(Loss) for the years ended December 31, 2010, 2009 and 2008
5. Consolidated Statements of Comprehensive Income/(Loss) for the years ended December 31, 2010, 2009 and 2008
6. Consolidated Statements of Changes in Stockholders’ Equity for the years ended December 31, 2010, 2009 and 2008
7. Consolidated Statements of Cash Flows for the years ended December 31, 2010, 2009 and 2008
8. Notes to Consolidated Financial Statements
9. Financial Statement Schedule – Condensed Financial Information of Registrant
SELECTED QUARTERLY FINANCIAL DATA
Selected quarterly financial data for the past two years are summarized in the following table.
First
Second
Third
Fourth
Quarterly Results of Operations
2010
2009
2009
As Restated As Restated As Restated As Restated As Restated As Restated
As Restated
$ 84,232,689 $ 44,697,446 $ 85,081,138 $ 62,484,279 $ 76,102,844 $ 64,654,369 $ 100,508,511 $ 83,761,459
22,535,017 10,903,345 19,810,260 16,305,928 18,173,560 15,485,743 19,783,873 19,047,610
2010
2010
2009
2010
2009
15,890,489
(1,040,108 )
3,066,343
(4,106,451 )
7,092,507 13,712,956 11,660,281 12,171,373 9,654,436 12,272,586 8,525,170
1,901,559 30,418,967
9,925,476 18,285,666 (8,023,843 ) 15,252,777 (22,454,317 )
1,383,697
2,811,362
2,653,651
2,350,280 2,036,762
2,951,204 1,715,636
517,862 27,607,605
7,271,825 15,935,386 (10,060,605 ) 12,301,573 (24,169,953 )
Net Sales
Gross Profit
Operating
Income /(loss)
Net
Income/(loss)
Net income
attributable to
noncontrolling
interest
Net income
/(loss)attributable
to Parent
company
Earnings/(loss)
Per Share
attributable to
Parent company
$
Basic
$
Diluted
(0.15 ) $
(0.15 ) $
0.02 $
0.02 $
0.88 $
0.28 $
0.23 $
0.23 $
0.51 $
0.26 $
(0.37 ) $
(0.37 ) $
0.39 $
0.22 $
(0.89 )
(0.89 )
ITEM 9.
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
As disclosed in the Company’s current reports on Form 8-K and Form 8-K/A filed on December 13, 2010 and January
7, 2011, respectively, the Company changed its independent registered public accountants effective for the fiscal year
ended December 31, 2010. There were no disagreements or reportable events related to the change in accountants.
ITEM 9A. CONTROLS AND PROCEDURES.
(A) DISCLOSURE CONTROLS AND PROCEDURES
The Company’s management, under the supervision and with the participation of its chief executive officer and chief
financial officer, Messrs. Wu Qizhou and Li Jie, respectively, evaluated the effectiveness of the Company’s disclosure
controls and procedures as of December 31, 2010, the end of the period covered by this Report. The term “disclosure
Page | 43
Annual Report - FY 2010
controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as
amended, or the Exchange Act, means controls and other procedures of a company that are designed to ensure that
information required to be disclosed by a company in the reports, such as this Form 10-K, that it files or submits under
the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules
and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure
that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is
accumulated and communicated to the company’s management, including its principal executive and principal financial
officers, as appropriate to allow timely decisions regarding required disclosure. Based on that evaluation, Messrs. Wu
and Li concluded that the Company’s disclosure controls and procedures were not effective as of December 31, 2010.
The Company’s disclosure controls and procedures are designed to provide reasonable, not absolute, assurance that the
objectives of its disclosure control system are met. Because of inherent limitations in all control systems, no evaluation
of controls can provide absolute assurance that all control issues, if any, within a company have been detected.
(B) MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
Management of the Company, under the supervision of the chief executive officer and chief financial officer, is
responsible for establishing and maintaining adequate internal control over financial reporting.
Internal control over financial reporting, as defined in Rules 13a-15(f) and 15d-15(f) promulgated under the Exchange
Act, is a process designed by, or under the supervision of, the chief executive officer and chief financial officer and
effected by the board of directors, management and other personnel to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of the consolidated financial statements for external reporting
purposes in accordance with U.S. GAAP. Internal control over financial reporting includes those policies and
procedures that:
a. pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions
and dispositions of the Company’s assets;
b. provide reasonable assurance that transactions are recorded as necessary to permit preparation of the
consolidated financial statements in accordance with U.S. GAAP, and that the Company’s receipts and
expenditures are being made only in accordance with appropriate authorization of the Company’s
management and board of directors; and
c. provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or
disposition of the Company’s assets that could have a material effect on the consolidated financial
statements.
Management has assessed the effectiveness of internal control over financial reporting as of December 31, 2010. In
making its assessment of internal control over financial reporting, management, under the supervision and with the
participation of the chief executive officer and chief financial officer, used the criteria set forth by the Committee of
Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control—Integrated Framework.
On March 17, 2011, the Company announced that it had identified historical accounting errors relating to the
accounting treatment of the Company’s Convertible Notes. The accounting errors have resulted in the misstatement of
certain charges arising from fair value adjustments and other changes to derivative liabilities since the first quarter of
2009. The Company undertook a review to determine the total amount of the errors and the accounting periods in
which the errors occurred. The Company’s review determined that the errors resulted from the Company’s failure to
properly apply the requirements of Accounting Standard Codification (ASC) 815 (“ASC 815”), with respect to the
conversion feature embedded in the convertible notes, effective January 1, 2009. Additionally, management has also
identified accounting errors in accumulated depreciation and deferred tax assets reported and accrued payroll and
related costs. A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial
reporting, such that there is a reasonable possibility that a material misstatement of the company's annual or interim
Page | 44
Annual Report - FY 2010
financial statements will not be prevented or detected on a timely basis. After analyzing the size and timing of the
errors, the Company determined that, in the aggregate, the errors were material and would require the Company to
restate certain of its previously issued financial statements, including its previously issued audited consolidated
financial statements as of and for the fiscal year ended December 31, 2009, including restated comparative financial
statements for 2008, and related auditors’ report, and unaudited interim consolidated financial statements as of and for
the quarterly periods ended March 31, June 30 and September 30, 2010, including restated comparative financial
statements for the respective quarterly periods in 2009.
The following material weaknesses in internal control over financial reporting have been identified as of December 31,
2010.
1. The Company did not have sufficient personnel with appropriate levels of accounting knowledge and
experience to address complex U.S. GAAP accounting issues, and to prepare and review financial
statements and related disclosures under U.S. GAAP. Specifically, the Company's controls did not
operate effectively to ensure the appropriate and timely analysis of and accounting for unusual and
non-routine transactions and certain financial statement accounts, including, but not limited to, accounting
and disclosure for the convertible notes and accounting for deferred taxes.
2. The Company did not have formalized closing procedures and adequate period-end review procedures to
ensure a) proper preparation of the period-end financial statement closing entries and b) consistency of
application of accounting policies and completeness and accuracy of the financial statement disclosures.
Specifically, the Company's controls did not operate effectively to ensure the appropriate and timely
analysis and monitoring of the underlying information relating to its period-end financial reporting process
and preparation of its consolidated financial statements.
These flaws represented material weaknesses in the Company’s internal control over financial reporting as of
December 31, 2010. For these reasons, Messrs. Wu and Li concluded that the Company’s internal control over
financial reporting was not effective as of December 31, 2010.
In order to address the material weaknesses identified above, the Company has taken certain remedial action to
strengthen its internal control over financial reporting. The Company has: (a) engaged external consulting professionals
in the area of accounting advisory to assist it in reviewing the accounting treatment of the convertible notes; (b)
performed additional review of period-end closing procedures by conducting a detailed and extensive review of
non-routine and complex transactions and agreements, and carried out more comprehensive accounting reconciliation
processes; and (c) required the finance team to perform extensive research to enhance their knowledge on the relevant
U.S. GAAP interpretations and application, including, but not limited to, accounting and disclosure for the convertible
notes and accounting for deferred taxes. The Company also plans to: (a) hire key individuals in the corporate
accounting function with in-depth knowledge and experience in U.S. GAAP; (b) provide more training on U.S. GAAP
to accounting and other relevant personnel; and (c) establish and develop comprehensive financial period-end closing
procedures to ensure the proper preparation of quarterly and annual consolidated financial statements, note disclosures
and related information in compliance with accounting standards and guidance.
Management believes that the measures described above will satisfactorily address the referenced material weaknesses.
Under the direction of the Audit Committee, management will continue to review and make necessary changes to the
system of internal controls and the control environment, as well as policies and procedures to improve the overall
effectiveness of internal control over financial reporting.
The effectiveness of the Company's internal control over financial reporting as of December 31, 2010 has been audited
by PricewaterhouseCoopers ZhongTian CPAs Limited Company, an independent registered public accounting firm, as
stated in their report which is included in Item 15 of this Form 10-K.
(C) CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING
Page | 45
There have been no changes in the Company’s internal control over financial reporting during the fourth quarter of the
year ended December 31, 2010, that have materially affected, or are reasonably likely to materially affect, the
Company’s internal control over financial reporting.
Annual Report - FY 2010
ITEM 9B. OTHER INFORMATION.
None.
PART III
ITEM 10.
DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE.
The following table and text set forth the names and ages of all directors and executive officers of the Company as of
December 31, 2010. The Board of Directors is comprised of only one class. All of the directors will serve until the next
annual meeting of stockholders and until their successors are elected and qualified, or until their earlier death,
retirement, resignation or removal. Also provided herein are brief descriptions of the business experience of each
director and executive officer during the past five years and an indication of directorships held by each director in other
companies subject to the reporting requirements under the federal securities laws.
Name
Age
Position(s)
Hanlin Chen
Robert Tung
Guangxun Xu
Bruce C. Richardson
Qizhou Wu
Jie Li
Yiu Wong Andy Tse
Shengbin Yu
Shaobo Wang
Yijun Xia
Daming Hu
Haimian Cai
53
54
60
53
46
41
40
57
48
48
52
47
Chairman of the Board
Director
Director
Director
Chief Executive Officer and Director
Chief Financial Officer
Senior Vice President
Senior Vice President
Senior Vice President
Vice President
Chief Accounting Officer
Vice President, Former Director
BIOGRAPHIES OF DIRECTORS AND EXECUTIVE OFFICERS
Directors
Hanlin Chen has served as the chairman of the board or directors and an executive officer since March 2003. Mr. Chen
is a standing board member of Political Consulting Committee of Jingzhou City and vice president of Foreign Investors
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Annual Report - FY 2010
Association of Hubei Province. He was the general manager of Shashi Jiulong Power Steering Gears Co., Ltd. from
1993 to 1997. Since 1997, he has been the Chairman of the Board of Henglong Automotive Parts, Ltd. Mr. Hanlin
Chen is the brother-in-law of the Company’s Senior Vice President, Mr. Andy Yiu Wong Tse.
Qizhou Wu has served as a director and an executive officer since September 2003, and the chief executive officer
since September 2007. Prior to that position he served as the Chief Operating Officer since March 2003. He was the
Executive General Manager of Jiulong from 1993 to 1999 and GM of Henglong Automotive Parts, Ltd. from 1999 to
2002. Mr. Wu graduated from Tsinghua University in Beijing with a Master’s degree in Automobile Engineering.
Robert Tung has been an independent director of the Company since September 2003 and a member of the
Company’s Audit, Compensation and Nominating Committees. Mr. Tung is currently the president of Multi-Media
Communications, Inc., and vice president of Herbal Blends International, LLC. Mr. Tung holds a M.S. in Chemical
Engineering from the University of Virginia. Since 2003, Mr. Tung has been actively developing business in China.
Currently, Mr. Tung is the China Operation Vice President of Iraq Development Company of Canada, a leading North
American corporation engaging in oil field and infrastructure development in the Republic of Iraq. In addition, Mr.
Tung holds the Grand China sales representative position of TRI Products, Inc., a well known North American iron
ores and scrap metals supplier. Mr. Tung is also actively involved in minerals, iron ore and petroleum derivatives
purchase and trading.
Guangxun Xu has served as an independent director of the Company since December 2009. Mr. Xu has also been an
independent director of iNet School, a Korean company. Prior to that, he has been the Chief Representative of
NASDAQ in China in the past two years and was a managing director with the NASDAQ Stock Market International,
Asia for over 10 years. With a professional career in the finance field spanning over 25 years, Mr. Xu’s practice
focuses on providing package services on US and UK listings, advising on and arranging for Private Placements, PIPEs
and IPOs, pre-IPO restructuring, M&A, Corporate and Project Finance, corporate governance, post-IPOIR and
compliance, Risk Control, etc. He holds an MBA from Middlesex University, London. He is also on the Audit
Committee.
Bruce C. Richardson joined the Company as an independent director in December 2009. In November, 2010 Mr.
Richardson joined Corin Group, a UK orthopedics firm, as China Managing Director. Prior to joining Corin Group, Mr.
Richardson served as a manager with Redwood Capital from July 2009. Prior to joining Redwood Capital, he served as
chief financial officer and company secretary of Dalian RINO Environmental Engineering from October 2007 until
September 2008, and as a Managing Director of Xinhua Finance in Shanghai from April 2006 until September 2007.
He began his career with Arthur Andersen in New York, where he worked from 1989 to 1994 before returning to China.
Mr. Richardson earned a BA in Classics from the University of Notre Dame in 1980, and graduated with an MA in
International Management from the University of Texas at Dallas in 1986. He was awarded a graduate study grant by
the US National Academy of Sciences in 1987 and completed a year of post-graduate research on PRC accounting at
People’s University in 1988. He is also the Chairman of the Audit Committee.
Haimian Cai was an independent director from September 2003 to December 2009, and also a member of the
Company’s Audit, Compensation and Nominating Committees. Dr. Cai is a technical specialist in the automotive
industry. Prior to that, Dr. Cai was a staff engineer in ITT Automotive Inc. Dr. Cai has written more than fifteen
technical papers and co-authored a technical book regarding the Powder Metallurgy industry for automotive application.
Dr. Cai has more than ten patents including pending patents. Dr. Cai holds a B.S. Degree in Automotive Engineering
from Tsinghua University and a M.S. and Ph. D. in manufacturing engineering from Worcester Polytechnic Institute.
Since December 2009, Mr. Cai has not served as Independent Director and a member of the Company’s Audit
Committee, Compensation and Nominating Committees, because he was nominated as vice president of the Company.
Executive Officers
Jie Li has served as the chief financial officer since September 2007. Prior to that position he served as the corporate
secretary from December 2004. Prior to joining the Company in September 2003, Mr. Li was the assistant president of
Jingzhou Jiulong Industrial Inc. from 1999 to 2003 and the general manger of Jingzhou Tianxin Investment
Page | 47
Annual Report - FY 2010
Management Co. Ltd. from 2002 to 2003. Mr. Li has a Bachelor's degree from the University of Science and
Technology of China. He also completed his graduate studies in economics and business management at the Hubei
Administration Institute.
Yiu Wong Andy Tse has served as a senior vice president of the Company since March 2003. He has also served as
chairman of the board of Shenyang. He was the vice GM of Jiulong from 1993 to 1997 and the vice GM of Henglong.
Mr. Tse has over 10 years of experience in automotive parts sales and strategic development. Mr. Tse has an MBA
from the China People University. He is brother in-law to Hanlin Chen
Shengbin Yu has served as a senior vice president of the Company and had overall charge of the production since
March 2003. Mr. Yu was the Vice-G.M. of Jiulong from 1993 to 1996 and Executive Vice-G.M. of Henglong from
1997 to 2003.
Shaobo Wang has served as a senior vice president of the Company and had overall charge of the technology since
March 2003. He was the Vice-G.M. of Jiulong from 1993 to 2003. Mr. Wang graduated from Tsinghua University in
Beijing with a bachelor degree in Automobile Engineering.
Yijun Xia has served as a vice president of the Company since December 2009. He has also served as the general
manager of the Henglong since April 2005. Prior to that position he served as the Vice-G.M. of Henglong from
December 2002. Mr. Xia graduated from Wuhan University of Water Transportation Engineering with a bachelor
degree in Metal Material and Heat Treatment.
Daming Hu has served as the chief accounting officer since September 2007 and had overall charge of the financial
report. During March 2003 to August 2007, he served as Chief Financial Officer of the Company. Mr. Hu was the
Finance Manager of Jiulong from 1996 to 1999 and Finance Manager of Heng Long from 1999 to 2002. Mr. Hu
graduated from Zhongnan University of Economics and Law with bachelor’s degree in accounting.
BOARD COMPOSITION AND COMMITTEES
Audit Committee and Independent Directors
The Company has a standing Audit Committee of the Board of Directors established in accordance with Section
3(a)(58)(A) of the Exchange Act, as amended. The Audit Committee is operated under a written charter. The Audit
Committee consists of the following individuals, all of whom the Company considers to be independent, as defined
under the SEC’s rules and regulations and the Nasdaq’s definition of independence: Robert Tung, Guangxun Xu, Bruce
C. Richardson, and William Thomson. Mr. William Thomson was the Chairman of the Audit Committee until he
ceased to be a director of the Company as of July 8, 2010 and Bruce C. Richardson is now the Chairman of the Audit
Committee. The Board has determined that Mr. William Thomson and Bruce C. Richardson are the Audit Committee
financial experts, as defined in Item 407(d)(5) of Regulation S-K, serving on the Company’s audit committee.
Compensation Committee
The Company has a standing Compensation Committee of the Board of Directors. The Compensation Committee is
responsible for determining compensation for the Company’s executive officers. Four of the Company’s independent
directors, as defined under the SEC’s rules and regulations and the Nasdaq’s definition of independence, Robert Tung,
Guangxun Xu, Bruce C. Richardson, and William Thomson, served on the Compensation Committee until July 8, 2010
when William Thomson ceased to be a director of the Company. Since July 8, 2010, Mr. Robert Tung has been the
Chairman of the Compensation Committee. The Board has determined that all members of the Compensation
Committee are independent directors under the rules of the Nasdaq Stock Market, as applicable. The Compensation
Committee administers the Company’s benefit plans, reviews and administers all compensation arrangements for
executive officers, and establishes and reviews general policies relating to the compensation and benefits of the
Company’s officers and employees. The Compensation Committee operates under a written charter that is made
available on the Company’s website, www.caasauto.com.
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Annual Report - FY 2010
The Company’s Compensation Committee is empowered to review and approve the annual compensation and
compensation procedures for the executive officers of the Company. The primary goals of the Compensation
Committee of the Company’s Board of Directors with respect to executive compensation are to attract and retain the
most talented and dedicated executives possible and to align executives’ incentives with stockholder value creation.
The Compensation Committee evaluates individual executive performance with a goal of setting compensation at levels
the committee believes are comparable with executives in other companies of similar size and stage of development
operating in similar industry while taking into account the Company’s relative performance and its strategic goals.
The Company has not retained a compensation consultant to review its policies and procedures with respect to
executive compensation. The Company conducts an annual review of the aggregate level of its executive compensation,
as well as the mix of elements used to compensate its executive officers. The Company compares compensation levels
with amounts currently being paid to executives in its industry and most importantly with local practices in China. The
Company is satisfied that its compensation levels are competitive with local conditions.
Nominating Committee
The Company has a standing Nominating Committee of the Board of Directors. Director candidates are nominated by
the Nominating Committee. The Nominating Committee will consider candidates based upon their business and
financial experience, personal characteristics, and expertise that are complementary to the background and experience
of other Board members, willingness to devote the required amount of time to carry out the duties and responsibilities
of Board membership, willingness to objectively appraise management performance, and any such other qualifications
the Nominating Committee deems necessary to ascertain the candidates’ ability to serve on the Board. The Nominating
Committee will not consider nominee recommendations from security holders, other than the recommendations
received from a security holder or group of security holders that beneficially owned more than five (5) percent of the
Company’s outstanding common stock for at least one year as of the date the recommendation is made. Four of the
Company’s independent directors, as defined under the SEC’s rules and regulations and the Nasdaq’s definition of
independence, Robert Tung, Guangxun Xu, Bruce C. Richardson, and William Thomson served on the Nominating
Committee until July 8, 2010 when William Thomson ceased to be a director of the Company. Since December 17,
2009, Mr. Guangxun Xu has been the Chairman of the Nominating Committee.
Stockholder Communications
Stockholders interested in communicating directly with the Board of Directors, or individual directors, may email the
Company’s independent director Mr. Bruce C. Richardson at bcrichardson@hotmail.com. Mr. Richardson will review
all such correspondence and will regularly forward to the Board copies of all such correspondence that deals with the
functions of the Board or committees thereof or that he otherwise determines requires their attention. Directors may at
any time review all of the correspondence received that is addressed to members of the Board of Directors and request
copies of such correspondence. Concerns relating to accounting, internal controls or auditing matters will immediately
be brought to the attention of the Audit Committee and handled in accordance with procedures established by the Audit
Committee with respect to such matters.
Family Relationships
Mr. Hanlin Chen and Mr. Yiu Wong Andy Tse are brothers-in-law.
Code of Ethics and Conduct
The Board of Directors has adopted a Code of Ethics and Conduct which is applicable to all officers, directors and
employees. The Code of Ethics and Conduct was filed as an exhibit to the Form 10-K for the year ended December 31,
2009, which was filed with the Securities and Exchange Commission on March 25, 2010.
Section 16(a) Beneficial Ownership Compliance
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Annual Report - FY 2010
Section 16(a) of the Securities Exchange Act of 1934, as amended, requires the Company’s executive officers and
directors and persons who own more than 10% of a registered class of the Company’s equity securities to file with the
Securities and Exchange Commission initial statements of beneficial ownership, reports of changes in ownership and
annual reports concerning their ownership of common stock and other of the Company’s equity securities, on Forms 3,
4 and 5 respectively. Executive officers, directors and greater than 10% stockholders are required by Commission
regulations to furnish the Company with copies of all Section 16(a) reports they file. To the best of the Company’s
knowledge, based solely upon a review of the Form 3, 4 and 5 filed, no officer, director or 10% beneficial shareholder
failed to file on a timely basis any reports required by Section 16(a) of the Securities Exchange Act of 1934, as
amended.
ITEM 11
EXECUTIVE COMPENSATION.
COMPENSATION DISCUSSION AND ANALYSIS
In 2003, the Board of Directors established a Compensation Committee consisting only of independent Board members,
which is responsible for setting the Company’s policies regarding compensation and benefits and administering the
Company’s benefit plans. At the end of fiscal year 2010, the Compensation Committee consisted of Robert Tung,
Guangxun Xu, and Bruce Carlton Richardson. The members of the Compensation Committee approved the amount and
form of compensation paid to executive officers of the Company and set the Company’s compensation policies and
procedures during these periods.
The primary goals of the Company’s compensation committee with respect to executive compensation are to attract and
retain highly talented and dedicated executives and to align executives’ incentives with stockholder value creation. The
Compensation Committee evaluates individual executive’s work experience, time and involvement in the Company,
position and personal performance, all with a goal to setting compensation levels that are comparable with executives at
companies that are of the same size and stage of development and operate in the same area and industry.
The Compensation Committee will conduct an annual review of the aggregate level of the Company’s executive
compensation, as well as the mix of elements used to compensate the Company’s executive officers. The Company
compares compensation levels with amounts currently being paid to executives at similar companies in the same area
and the same industry. Most importantly, the Company compares compensation levels with local practices in China.
The Company believes that its compensation levels are competitive with local conditions.
Elements of compensation
The Company’s executive compensation consists of the following elements:
Base Salary
Base salaries for the Company’s executives are established to be amounts of compensation that are similar to those paid
by other companies to executives in similar positions and with similar responsibilities. Base salaries are adjusted from
time to time to realign salaries with market levels after taking into account individual responsibilities, performance and
experience. The Compensation Committee established a salary structure to determine base salaries and is responsible
for initially setting executive officer compensation in employment arrangements with each individual. The base salary
amounts are intended to reflect the Company’s philosophy that the base salary should attract experienced individuals
who will contribute to the success of the Company’s business goals and represent cash compensation that is
commensurate with the compensation of individuals at similarly situated companies.
The Company’s Board of Directors and Compensation Committee have approved the current salaries for executives:
$150,000 for the Chairman, $100,000 for the CEO, and $60,000 for other officers in 2010.
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Annual Report - FY 2010
Performance Bonus
a.
b.
Grantees: Hanlin Chen, Qizhou Wu, Shengbin Yu, Shaobo Wang, Andy Tse, Jie Li, and Daming Hu;
Conditions: (i) based on the Company’s consolidated financial statements, the year over year growth rates
of net sales, net profits and earnings per share for 2010 must exceed 20%; and (ii) the average growth rate
of the foregoing indicators must exceed that of China auto industry in 2010 published by CAAM;
c. Bonus: 50% of each officer’s annual salary in 2010.
Awards for performance bonus of $305,000 were accrued in 2010 and have not been paid by the end of 2010.
Stock Option Awards
The stock options plan proposed by management, which aims to incentivize and retain core employees, to meet
employees’ benefits, the Company’s long term operating goals and shareholder benefits, was approved at the 2004
Annual Meeting of Stockholders, and the maximum common shares for issuance under this plan is 2,200,000 with a
period of 10 years.
The Company has not granted any stock option to management in 2010 and 2009. The stock option granted for
management in 2008 was as follows, which was approved by the Board of Directors and Compensation Committee.
a.
b.
Total Number of Options Granted: 298,850
Exercise Price Per Option: $2.93, the closing price of the common shares of the Company on December 9,
2008
c. Date of Grant: December 10, 2008
d.
e. Vesting Schedule
Expiration Date: on or before December 9, 2011
(i) On December 10, 2008, 1/3 of the granted stock option shall be vested and become exercisable
(ii) On December 10, 2009, another 1/3 of the granted stock option shall be vested and become
exercisable
(iii) On December 10, 2010, remaining 1/3 of the granted stock option shall be vested and become
exercisable
Other Compensation
Other than the base salary for the Company’s executive officers, the performance bonus and the stock option awards
referred to above, the Company does not have any other benefits and perquisites for its executive officers. However,
the Compensation Committee in its discretion may provide benefits and perquisites to these executive officers if it
deems advisable to do so.
Compensation Committee
The Company has a standing Compensation Committee of the Board of Directors as described under Item 10(c) above.
The Compensation Committee is responsible for determining compensation for the Company’s executive officers. Four
of the Company’s independent directors, as defined under the SEC’s rules and regulations and the Nasdaq’s definition
of independence, Robert Tung, Guangxun Xu, Bruce C. Richardson, and William Thomson, served on the
Compensation Committee until July 8, 2010 when William Thomson ceased to be a director of the Company. Since
July 8, 2010, Mr. Robert Tung has been the Chairman of the Compensation Committee.
Compensation Committee Interlocks and Insider Participation
None of the Company’s executive officers has served as a member of a compensation committee, or other committee
serving an equivalent function, of any other entity whose executive officers serve as a director of the Company or
Page | 51
Annual Report - FY 2010
member of the Company’s compensation committee.
Compensation Committee Report
The Compensation Committee of the Board of Directors of the Company has reviewed and discussed the
Compensation Discussion and Analysis contained in this Annual Report on Form 10-K with management. Based on the
Company’s Compensation Committee’s review of and the discussions with management with respect to the
Compensation Discussion and Analysis, the Company’s Compensation Committee recommended to the Board of
Directors that the Compensation Discussion and Analysis be included in this Annual Report on Form 10-K for filing
with the SEC.
The foregoing report is provided by the following directors, who constitute the Compensation Committee: Robert Tung,
Guangxun Xu, and Bruce C. Richardson.
Compensation Tables
Executive Officers
The compensation that executive officers received for their services for fiscal years ended 2010, 2009 and 2008 were as
follows:
Salary1
Bonus2
Option awards3
Name and principal position
Hanlin Chen (Chairman)
Year
2010 $
2009 $
2008 $
150,000 $
150,000 $
150,000 $
Qizhou Wu (CEO)
Jie Li (CFO)
Haimian Cai (Vice President)
Shengbin Yu (Senior Vice President)
2010 $
2009 $
2008 $
100,000 $
100,000 $
100,000 $
2010 $
2009 $
2008 $
2010 $
2009 $
2008 $
2010 $
2009 $
2008 $
60,000 $
60,000 $
60,000 $
96,000 $
40,000 $
34,000 $
60,000 $
60,000 $
60,000 $
75,000 $
75,000 $
— $
50,000 $
50,000 $
— $
30,000 $
30,000 $
— $
— $
96,000 $
— $
30,000 $
30,000 $
— $
Total
225,000
225,000
150,000
150,000
150,000
100,000
— $
— $
— $
— $
— $
— $
— $
— $
38,654 $
90,000
90,000
98,654
— $
65,550 $
51,225 $
96,000
201,550
85,225
— $
— $
— $
90,000
90,000
60,000
1 Salary – The Company’s Board of Directors and Compensation Committee have approved the current annual
salaries for executives: $150,000 for the Chairman, $100,000 for the CEO, and $60,000 for other officers in
2010.
2 Performance Bonus – Awards for performance bonus of $305,000 were accrued in 2010 and have not been
paid by the end of 2010.
3 Stock Option Awards – The stock options plan proposed by management, which aims to incentivize and
retain core employees, to meet employees’ benefits, the Company’s long term operating goals and shareholder
benefits, was approved at the 2004 Annual Meeting of Stockholders, and the maximum common shares for
issuance under this plan is 2,200,000 with a period of 10 years.
In accordance with ASC Topic 718 (formerly SFAS No. 123R), the cost of the above mentioned stock options
Page | 52
Annual Report - FY 2010
issued to management was measured on the grant date based on their fair value. The fair value is determined
using the Black-Scholes option pricing model and certain assumptions. Please see Note 24 to the Consolidated
Financial Statements under Item 15 of this Annual Report for more details.
For detailed information on option exercises and stock vested, please see Note 24 to the Consolidated Financial
Statements under Item 15 of this Annual Report for more details.
Compensation for Directors
Based on the number of the board of directors’ service years, workload and performance, the Company decides on their
pay. The management believes that the pay for the members of the Board of Directors was appropriate as of December
31, 2010. The compensation that directors received for serving on the Board of Directors for fiscal year 2010 was as
follows:
Name
William E. Thomson
Robert Tung
Guangxun Xu
Bruce C. Richardson
Fees earned or paid in cash Option awards1
$
$
$
$
23,000 $
40,000 $
30,000 $
32,000 $
- $
115,125 $
115,125 $
115,125 $
Total
23,000
155,125
145,125
147,125
1 Other than the cash payment based on the number of a director’s service years, workload and performance, the
Company grants 7,500 option awards to each director every year. In accordance with ASC Topic 220 (formerly
SFAS No. 123R), the cost of the above mentioned stock options issued to directors was measured on the grant
date based on their fair value. The fair value is determined using the Black-Scholes option pricing model and
certain assumptions. Please see Note 24 to the Consolidated Financial Statements under Item 15 of this Annual
Report for more details.
The cost of the above-mentioned compensation paid to directors was measured based on investment, operating,
technology, and consulting services they provided. All other directors did not receive compensation for their service on
the Board of Directors.
ITEM 12.
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS.
As used in this section, the term beneficial ownership with respect to a security is defined by Rule 13d-3 under the
Securities Exchange Act of 1934, as amended, as consisting of sole or shared voting power, including the power to vote
or direct the vote, and/or sole or shared investment power, including the power to dispose of or direct the disposition of,
with respect to the security through any contract, arrangement, understanding, relationship or otherwise, subject to
community property laws where applicable. The percentage ownership is based on 28,083,534 shares of common stock
outstanding at June 28, 2011.
Name/Title
Total Number of Shares Percentage Ownership
Hanlin Chen, Chairman 1
Qizhou Wu, CEO and Director
Jie Li, CFO
Li Ping Xie 2
Tse, Yiu Wong Andy, Sr. VP, Director
Shaobo Wang, Sr. VP
Shengbin Yu, Sr. VP
Yijun Xia, VP
Daming Hu, CAO
Robert Tung, Director
17,767,314
1,399,736
5,133
17,767,314
372,704
156,104
207,429
3,734
9,000
—
63.27 %
4.98 %
0.02 %
63.27 %
1.33 %
0.56 %
0.74 %
0.01 %
0.03 %
— %
Page | 53
Haimian Cai, Director
William E. Thomson, Director
Wiselink Holdings Limited 3
All Directors and Executive Officers (12 persons)
Annual Report - FY 2010
3,750
—
3,023,542
19,924,904
0.01 %
— %
10.77 %
70.95 %
1
2
Includes 1,491,425 shares of common stock beneficially owned by Mr. Chen’s wife, Ms. Xie and 3,023,542
beneficially held in Wiselink Holdings Limited.
Includes 13,252,347 shares of common stock beneficially owned by Ms. Xie’s husband, Mr. Chen and
3,023,542 beneficially held in Wiselink Holdings Limited.
3 Wiselink Holdings Limited is a company controlled by Mr. Chen.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR
INDEPENDENCE.
For the information required by Item 13 please refer to Consolidated Financial Statements notes 2 and 32 “ Certain
Relationships And Related Transactions ” and “ Related Party Transactions. ”
The Company’s Audit Committee’s charter provides that one of its responsibilities is to review and approve related
party transactions defined as those transactions required to be disclosed under Item 404 of Regulation S-K of the rules
and regulations under the Exchange Act. Although the Company does not currently have a formal written set of
policies and procedures for the review, approval or ratification of related person transactions, the Company does have
written procedures in place to identify related party transactions that may require Audit Committee approval. These
procedures include submission of a forecast summary of transactions with related parties annually. Where a related
party transaction is identified, the Audit Committee reviews and, where appropriate, approves the transaction based on
whether it believes that the transaction is at arms length and contains terms that are no less favorable than what the
Company could have obtained from an unaffiliated third party.
ITEM 14.
PRINCIPAL ACCOUNTING FEES AND SERVICES.
The following table sets forth the aggregate fees for professional audit services rendered by Schwartz Levitsky
Feldman LLP for the audit of the Company’s annual financial statements, and fees billed for other services for the
fiscal years 2010 and 2009. The Audit Committee has approved all of the following fees.
Audit Fees
Audit-Related Fees 1
Tax Fees 2
Total Fees Paid
Fiscal Year Ended
2010
78,000
—
—
78,000
$
$
2009
265,000
—
8,400
273,400
$
$
The following table sets forth the aggregate fees for professional audit services rendered by PricewaterhouseCoopers
Zhong Tian CPAs Limited Company (“PwC”) for the audit of the Company’s annual financial statements, and fees
billed for other services for the fiscal years 2010 and 2009. The Audit Committee has approved all of the following
fees.
Audit Fees
Fiscal Year Ended
2010
823,000
$
2009
$
—
Page | 54
Audit-Related Fees 1
Tax Fees 2
Total Fees Paid
Annual Report - FY 2010
—
—
823,000
$
$
—
—
—
1
2
Includes accounting and reporting consultations related to financial and internal control procedures.
Includes fees for service related to tax compliance services, preparation and filing of tax returns and tax
consulting services.
AUDIT COMMITTEE’S PRE-APPROVAL POLICY
During the fiscal years ended December 31, 2010, 2009 and 2008, the Audit Committee of the Board of Directors
adopted policies and procedures for the pre-approval of all audit and non-audit services to be provided by the
Company’s independent auditor and for the prohibition of certain services from being provided by the independent
auditor. The Company may not engage the Company’s independent auditor to render any audit or non-audit service
unless the service is approved in advance by the Audit Committee or the engagement to render the service is entered
into pursuant to the Audit Committee’s pre-approval policies and procedures. On an annual basis, the Audit Committee
may pre-approve services that are expected to be provided to the Company by the independent auditor during the fiscal
year. At the time such pre-approval is granted, the Audit Committee specifies the pre-approved services and establishes
a monetary limit with respect to each particular pre-approved service, which limit may not be exceeded without
obtaining further pre-approval under the policy. For any pre-approval, the Audit Committee considers whether such
services are consistent with the rules of the Securities and Exchange Commission on auditor independence.
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES.
(a)(1) FINANCIAL STATEMENTS
PART IV
1. Report of Independent Registered Public Accounting Firm, PricewatershouseCoopers Zhong Tian CPAs Limited
Company
2. Report of Registered Public Accounting Firm, Schwartz Levitsky Feldman LLP
3. Consolidated Balance Sheets as of December 31, 2010 and 2009
4. Consolidated Statements of Income (Loss) for the years ended December 31, 2010, 2009 and 2008
5. Consolidated Statements of Comprehensive Income (Loss) for the years ended December 31, 2010, 2009 and
2008
6. Consolidated Statements of Changes in Stockholders’ Equity for the years ended December 31, 2010, 2009 and
2008
7. Consolidated Statements of Cash Flows for the years ended December 31, 2010, 2009 and 2008
8. Notes to Consolidated Financial Statements
(2) FINANCIAL STATEMENT SCHEDULE
I Condensed Financial Information of Registrant
Page | 55
Annual Report - FY 2010
EXHIBITS
The following is a list of exhibits filed as part of this Annual Report on Form 10-K. Where so indicated by footnote,
exhibits that were previously filed are incorporated by reference.
Exhibit
Number
Description
3.1(i)
Certificate of Incorporation (incorporated by reference from the filing on Form 10KSB File No. 000-33123)
3.1(ii)
Bylaws (incorporated by reference from the Form 10KSB for the year ended December 31, 2002)
10.5
10.6
10.7
10.8
10.9
10.10
10.11
10.12
10.13
10.14
Joint-venture Agreement, dated March 31, 2006, as amended on May 2, 2006, between Great Genesis
Holdings Limited and Wuhu Chery Technology Co., Ltd. (incorporated by reference to the exhibit 10.8 to
the Company’s Form 10Q Quarterly Report on May 10, 2006)
Securities Purchase Agreement dated February 1, 2008 among us, Lehman Brothers Commercial
Corporation Asia Limited, and YA Global Investments, L.P. (incorporated by reference to the Company’s
Form 10-K for the year ended December 31, 2007)
Securities Purchase Agreement dated February 15, 2008 between the Company and the investors.
(incorporated by reference to the Company’s Form 10-K for the year ended December 31, 2007)
Escrow Agreement dated February 15, 2008 among us, U.S. Bank National Association, Lehman Brothers
Commercial Corporation Asia Limited, and YA Global Investments, L.P. (incorporated by reference to the
Company’s Form 10-K for the year ended December 31, 2007)
Registration Rights Agreement dated February 15, 2008 among us, Lehman Brothers Commercial
Corporation Asi Limited, and YA Global Investments, L.P. (incorporated by reference to the Company’s
Form 10-K for the year ended December 31, 2007)
Senior Convertible Note dated February 15, 2008 in the original principal amount of $8,571,429 issued by
the Company in favor of TFINN & CO. as nominee for Lehman Brothers Commercial Corporation Asia
Limited. (incorporated by reference to the Company’s Form 10-K for the year ended December 31, 2007)
Senior Convertible Note dated February 15, 2008 in the original principal amount of $6,428,571 issued by
the Company in favor of TFINN & CO. as nominee for Lehman Brothers Commercial Corporation Asia
Limited. (incorporated by reference to the Company’s Form 10-K for the year ended December 31, 2007)
Senior Convertible Note dated February 15, 2008 in the original principal amount of $15,000,000 issued by
the Company in favor of TFINN & CO. as nominee for Lehman Brothers Commercial Corporation Asia
Limited. (incorporated by reference to the Company’s Form 10-K for the year ended December 31, 2007)
Closing Warrant to purchase 564,799 shares of common stock at $8.8527 per share, dated February 15,
2008, issued by the Company in favor of TFINN & CO. as nominee for Lehman Brothers Commercial
Corporation Asia Limited. (incorporated by reference to the Company’s Form 10-K for the year ended
December 31, 2007)
Escrow Warrant to purchase 564,799 shares of common stock at $8.8527 per share, dated February 15, 2008,
issued by the Company in favor of TFINN & CO. as nominee for Lehman Brothers Commercial Corporation
Asia Limited. (incorporated by reference to the Company’s Form 10-K for the year ended December 31,
2007)
Page | 56
Annual Report - FY 2010
10.15
10.16
10.17
10.18
10.19
Senior Convertible Note dated February 15, 2008 in the original principal amount of $1,428,571 issued by
the Company in favor of YA Global Investments, L.P. (incorporated by reference to the Company’s Form
10-K for the year ended December 31, 2007)
Senior Convertible Note dated February 15, 2008 in the original principal amount of $1,071,429 issued by
the Company in favor of YA Global Investments, L.P. (incorporated by reference to the Company’s Form
10-K for the year ended December 31, 2007)
Senior Convertible Note dated February 15, 2008 in the original principal amount of $2,500,000 issued by
the Company in favor of YA Global Investments, L.P. (incorporated by reference to the Company’s Form
10-K for the year ended December 31, 2007)
Closing Warrant to purchase 94,133 shares of common stock at $8.8527 per share, dated February 15, 2008,
issued by the Company in favor of YA Global Investments, L.P. (incorporated by reference to the
Company’s Form 10-K for the year ended December 31, 2007)
Escrow Warrant to purchase 94,133 shares of common stock at $8.8527 per share, dated February 15, 2008,
issued by the Company in favor of YA Global Investments, L.P. (incorporated by reference to the Company’s
Form 10-K for the year ended December 31, 2007)
10.20
Translation of the Equity Transfer Agreement dated March 31, 2008 in English (incorporated by reference to
exhibit 99.1 of the Company’s Form 8-K filed on April 2, 2008)
10.21
English Translation of the Sino-Foreign Equity Joint Venture Contract dated January 24, 2010 between Great
Genesis Holdings Limited and Beijing Hainachuan Auto Parts Co., Ltd. (incorporated by reference to the
Company’s Form 10-K for the year ended December 31, 2009 filed on March 25, 2010)
21
Schedule of Subsidiaries*
23.1
Consent of PricewaterhouseCoopers Zhong Tian CPAs Limited Company*
23.2
Consent of Schwartz Levitsky Feldman LLP*
31.1
Rule 13a-14(a) Certification*
31.2
Rule 13a-14(a) Certification*
32.1
Section 1350 Certification*
32.2
Section 1350 Certification*
* Filed herewith
Page | 57
Annual Report - FY 2010
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
TO THE BOARD OF DIRECTORS AND STOCKHOLDERS OF
CHINA AUTOMOTIVE SYSTEMS, INC.:
In our opinion, the consolidated financial statements listed in the index appearing under Item 15(a)(1) present fairly, in
all material respects, the financial position of China Automotive Systems, Inc. and its subsidiaries at December 31,
2010, and the results of their operations and their cash flows for the year in the period ended December 31, 2010 in
conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion,
the financial statement schedule listed in the index appearing under Item 15(a)(2) presents fairly, in all material respects,
the information set forth therein when read in conjunction with the related consolidated financial statements. Also, in
our opinion, the Company did not maintain, in all material respects, effective internal control over financial reporting as
of December 31, 2010, based on criteria established in Internal Control—Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission ("COSO") because material weaknesses in
internal control over financial reporting related to 1) the Company did not have sufficient personnel with appropriate
levels of accounting knowledge and experience to address complex U.S. GAAP accounting issues, and to prepare and
review financial statements and related disclosures under U.S. GAAP, and 2) the Company did not have formalized
closing procedures and adequate period-end review procedures to ensure a) proper preparation of the period-end
financial statement closing entries and b) consistency of application of accounting policies and completeness and
accuracy of the financial statement disclosures, existed as of that date. A material weakness is a deficiency, or a
combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a
material misstatement of the annual or interim financial statements will not be prevented or detected on a timely basis.
The material weaknesses referred to above are described in Management's Annual Report on Internal Control over
Financial Reporting appearing under Item 9A. We considered these material weaknesses in determining the nature,
timing, and extent of audit tests applied in our audit of the 2010 consolidated financial statements, and our opinion
regarding the effectiveness of the Company's internal control over financial reporting does not affect our opinion on
those consolidated financial statements. The Company's management is responsible for these financial statements and
financial statement schedule, for maintaining effective internal control over financial reporting and for its assessment of
the effectiveness of internal control over financial reporting included in management's report referred to above. Our
responsibility is to express opinions on these financial statements, on the financial statement schedule, and on the
Company's internal control over financial reporting based on our integrated audit. We conducted our audits in
accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards
require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are
free of material misstatement and whether effective internal control over financial reporting was maintained in all
material respects. Our audits of the financial statements included examining, on a test basis, evidence supporting the
amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement presentation. Our audit of internal control over
financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk
that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control
based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in
the circumstances. We believe that our audit provide a reasonable basis for our opinions.
A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding
the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with
generally accepted accounting principles. A company's internal control over financial reporting includes those policies
and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the
transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are
recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting
principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of
management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on
the financial statements.
Page | 58
Annual Report - FY 2010
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements.
Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may
deteriorate.
We do not express an opinion or any other form of assurance on management's statement referring to the
management’s actions and plan to remediate the material weaknesses included in the management’s report on internal
control over financial reporting.
/s/ PricewaterhouseCoopers Zhong Tian CPAs Limited Company
PricewaterhouseCoopers Zhong Tian CPAs Limited Company
Shanghai, People’s Republic of China
June 28, 2011
Page | 59
Annual Report - FY 2010
Schwartz Levitsky Feldman llp
CHARTERED ACCOUNTANTS
LICENSED PUBLIC ACCOUNTANTS
TORONTO · MONTREAL
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of
China Automotive Systems, Inc. and Subsidiaries
We have audited the accompanying restated consolidated balance sheets of China Automotive Systems, Inc. and
subsidiaries as at December 31, 2009 and 2008 and the related restated consolidated statements of earnings (operations),
comprehensive income (loss), cash flows and changes in stockholders’ equity for the years ended December 31, 2009
and 2008. These consolidated financial statements are the responsibility of the management of China Automotive
Systems, Inc. Our responsibility is to express an opinion on these consolidated financial statements based on our
audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United
States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the
consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
The company is not required to have nor were we engaged to perform, an audit of its internal control over financial
reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit
procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the
effectiveness of the company’s internal controls over financing reporting. Accordingly, we express no such opinion.
In our opinion, these consolidated financial statements referred to above present fairly, in all material respects, the
financial position of China Automotive Systems, Inc. and subsidiaries as of December 31, 2009 and 2008 and the
results of its earnings and its cash flows for the years ended December 31, 2009 and 2008 in conformity with generally
accepted accounting principles in the United States of America.
/s/ Schwartz Levitsky Feldman LLP
“SCHWARTZ LEVITSKY FELDMAN LLP”
Canada Chartered Accountants
Licensed Public Accountants
Toronto, Ontario, Canada
March 16, 2010 except for note 2
which is as of June 23, 2011
1167 Caledonia Road
Toronto, Ontario M6A 2X1
Tel: 416 785 5353
Fax: 416 785 5663
Page | 60
Annual Report - FY 2010
China Automotive Systems, Inc. and Subsidiaries
Consolidated Balance Sheets
December 31, 2010 and 2009
ASSETS
Current assets:
Cash and cash equivalents
Pledged cash deposits
Accounts and notes receivable, net - unrelated parties
Accounts and notes receivable, net - related parties
Advance payments and others - unrelated parties
Advance payments and others - related parties
Inventories
Current deferred tax assets
Total current assets
Non-current assets:
Property, plant and equipment, net
Intangible assets, net
Other receivables, net - unrelated parties
Other receivables, net - related parties
Advance payment for property, plant and equipment - unrelated parties
Advance payment for property, plant and equipment - related parties
Long-term investments
Non-current deferred tax assets
Total assets
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Bank loans
Accounts and notes payable - unrelated parties
Accounts and notes payable - related parties
Convertible Notes payable
Compound derivative liabilities
Customer deposits
Accrued payroll and related costs
Accrued expenses and other payables
Accrued pension costs
Taxes payable
Amounts due to shareholders/directors
Total current liabilities
Long-term liabilities:
Advances payable
Total liabilities
Commitments and Contingencies
Stockholders’ Equity
Preferred stock, $0.0001 par value - Authorized - 20,000,000 shares
Issued and Outstanding – None
2010
December 31,
2009
As Restated -
note 2
$
$
$
$ 49,424,979
20,983,891
190,392,146
5,466,842
2,892,068
1,334,069
36,870,272
3,199,117
310,563,384
75,380,747
662,089
2,450,970
350,464
1,839,537
7,534,440
3,162,136
3,271,594
$ 405,215,361
$
6,794,812
146,649,497
1,867,926
30,000,000
25,271,808
720,883
4,927,200
29,072,710
3,851,988
6,860,946
353,817
256,371,587
603,983
256,975,570
43,480,176
12,742,187
153,421,353
1,441,939
2,413,556
-
27,415,697
3,866,353
244,781,261
58,529,447
561,389
998,808
65,416
3,789,724
2,579,319
79,084
2,998,124
314,382,572
5,125,802
105,958,006
1,537,827
30,000,000
45,443,506
1,918,835
4,578,446
22,472,452
3,778,187
11,482,177
-
232,295,238
233,941
232,529,179
$
—
$
—
Page | 61
Annual Report - FY 2010
Common stock, $0.0001 par value - Authorized - 80,000,000 shares
Issued and Outstanding – 27,175,826 shares and 27,046,244 shares at December
31, 2010 and 2009, respectively
Additional paid-in capital
Retained earnings-
Appropriated
Unappropriated
Accumulated other comprehensive income
Total parent company stockholders' equity
Non-controlling interests
Total stockholders' equity
Total liabilities and stockholders' equity
2,717
28,565,153
8,767,797
58,979,851
15,957,500
112,273,018
35,966,773
148,239,791
$ 405,215,361
$
2,704
27,515,064
8,324,533
7,685,002
11,187,733
54,715,036
27,138,357
81, 853,393
314,382,572
The accompanying notes are an integral part of these consolidated financial statements.
Page | 62
Annual Report - FY 2010
China Automotive Systems, Inc. and Subsidiaries
Consolidated Statements of Income (Loss)
Years Ended December 31, 2010, 2009 and 2008
Net product sales
Unrelated parties
Related parties
Cost of product sold
Unrelated parties
Related parties
Gross profit
Net gain on other sales
Operating expenses:
Selling expenses
General and administrative expenses
R&D expenses
Total Operating expenses
Operating income
Other income, net
Financial expenses
Gain (loss) on change in fair value of derivative
Income (loss) before income taxes
Income tax expense
Net income (loss)
Net income attributable to noncontrolling interest
Net income (loss) attributable to parent company
Allocation to convertible notes holders
Net income (loss) attributable to parent company’s
common shareholders
Net income (loss) attributable to parent company’s
common shareholders per share –
Basic
Diluted
2010
Year Ended December 31
2009
As Restated -
note 2
2008
As Restated -
note 2
$
$ 334,264,680
11,660,502
345,925,182
$
249,705,389
5,892,164
255,597,553
158,503,876
4,675,410
163,179,286
246,369,792
19,252,680
265,622,472
80,302,710
1,129,032
9,363,875
10,029,211
7,991,252
27,384,338
54,047,404
543,242
(3,360,837 )
20,171,698
71,401,507
8,484,205
62,917,302
11,179,189
$ 51,738,113
(6,994,306 )
$
179,856,225
13,998,702
193,854,927
61,742,626
838,505
7,892,540
15,195,026
2,561,170
25,648,736
36,932,395
94,534
(7,883,714 )
(43,074,327 )
(13,931,112 )
4,720,013
(18,651,125 )
7,789,746
(26,440,871 )
-
$
113,807,269
7,901,944
121,709,213
41,470,073
734,063
5,007,878
17,943,790
2,255,892
25,207,560
16,996,576
1,067,309
(3,048,713 )
796,649
15,811,821
455,830
15,355,991
5,111,861
10,244,130
(1,328,374 )
44,743,807
(26,440,871 )
8,915,756
$
$
1.65
1.10
$
$
(0.98 )
(0.98 )
$
$
0.35
0.35
Weighted average number of common shares outstanding
–
Basic
Diluted
27,098,258
31,565,422
26,990,649
26,990,649
25,706,364
25,706,453
The accompanying notes are an integral part of these consolidated financial statements.
China Automotive Systems, Inc. and Subsidiaries
Consolidated Statements of Comprehensive Income (Loss)
Years Ended December 31, 2010, 2009 and 2008
Page | 63
Annual Report - FY 2010
Year Ended December 31
2010
$ 62,917,302 $
2009
As Restated -
note 2
(18,651,125 )
2008
As Restated -
note 2
15,355,991
$
5,707,902
68,625,204
82,638
(18,568,487 )
6,571,019
21,927,010
12,117,324
7,812,156
6,544,838
$ 56,507,880 $
(26,380,643 ) $
15,382,172
Net income (loss)
Other comprehensive income:
Foreign currency translation gain, net of tax
Comprehensive income (loss)
Comprehensive income attributable to noncontrolling
interest
Comprehensive income (loss) attributable to parent
company
The accompanying notes are an integral part of these consolidated financial statements.
China Automotive Systems, Inc. and Subsidiaries
Consolidated Statements of Changes in Stockholders’ Equity
Years Ended December 31, 2010, 2009 and 2008
Common Stock
Balance at January 1
Issuance of common stock
Exercise of stock option
Balance at December 31
2010
2009
As Restated -
note 2
2008
As Restated -
note 2
$
$
2,704 $
—
13
2,717 $
2,698 $
—
6
2,704 $
2,396
302
—
2,698
Additional paid-in capital
Balance at January 1
Issuance of common stock
Issuance of stock options
Exercise of stock option
Purchase 35.5% equity interest in Jingzhou Henglong held by
related party
Balance at December 31
$ 27,515,064 $
—
595,402
454,687
26,648,154 $
—
446,676
420,234
30,125,951
22,089,698
345,426
—
—
$ 28,565,153 $
—
27,515,064 $
(25,912,921 )
26,648,154
Retained earnings—Appropriated
Balance at January 1
Appropriation of retained earnings
Balance at December 31
Unappropriated
Balance at January 1 – as previously reported
Accumulated effect of adopted ASC815-40
Balance at January 1 – as adjusted
Net income (loss)
$
$
8,324,533 $
443,264
8,767,797 $
7,525,777 $
798,756
8,324,533 $
7,525,777
—
7,525,777
$
7,685,002 $
—
7,685,002
51,738,113
34,060,876 $
863,753
34,924,629
(26,440,871 )
23,816,746
—
23,816,746
10,244,130
Page | 64
Annual Report - FY 2010
Appropriation of retained earnings
Balance at December 31
(443,264 )
$ 58,979,851 $
(798,756 )
7,685,002 $
—
34,060,876
Accumulated Other Comprehensive Income
Balance at January 1
Net foreign currency translation adjustment
Balance at December 31
Total parent company stockholders' equity
Non-controlling interest
Balance at January 1
Net foreign currency translation adjustment
Net income
Distribution of retained earnings
Capital contribution
Related party sold its 35.5% equity interest in Jingzhou
Henglong
Balance at December 31
Total stockholders' equity
$ 11,187,733
4,769,767
$ 15,957,500 $
$ 112,273,018 $
11,127,505 $
60,228
11,187,733 $
54,715,036 $
5,989,463
5,138,042
11,127,505
79,365,010
$ 27,138,357 $
938,135
11,179,189
(3,288,908 )
—
23,270,820 $
22,410
7,789,746
(3,944,619 )
—
23,174,071
1,432,977
5,111,861
(1,016,733)
745,723
—
$ 35,966,773 $
$ 148,239,791 $
—
27,138,357 $
81,853,393 $
(6,177,079 )
23,270,820
102,635,830
The accompanying notes are an integral part of these consolidated financial statements.
China Automotive Systems, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
Years Ended December 31, 2010, 2009 and 2008
2010
Year Ended December 31
2009
As Restated -
note 2
2008
As Restated -
note 2
$ 62,917,302 $
Cash flows from operating activities:
Net income (loss)
Adjustments to reconcile net income (loss) to net cash
provided by operating activities:
Stock-based compensation
Depreciation and amortization
Deferred income taxes
Provision for inventories
Provision (Reversal) for doubtful accounts
Amortization for discount of Convertible Notes payable
(Gain) Loss on change in fair value of derivative
Loss on disposal of fixed assets
Other operating adjustments
Changes in operating assets and liabilities:
(Increase) decrease in:
Pledged cash deposits
Accounts and notes receivable
Advance payments and other
595,402
9,497,618
620,880
431,652
(2,373,520 )
—
(20,171,698 )
690,256
14,810
(7,656,455 )
(33,055,864 )
(1,721,067 )
(18,651,125 ) $
15,355,991
446,676
8,684,169
(1,676,731 )
1,031,751
901,680
3,891,148
43,074,327
22,970
(235,076 )
345,426
9,924,992
(704,430 )
17,304
1,030,738
138,432
(796,649 )
34,874
(32,341 )
(5,994,298 )
(58,735,311 )
(968,719 )
(1,776,424 )
(9,335,776 )
(417,973 )
Page | 65
Annual Report - FY 2010
Inventories
Increase (decrease) in:
Accounts and notes payable
Customer deposits
Accrued payroll and related costs
Accrued expenses and other payables
Accrued pension costs
Taxes payable
Advances payable
Net cash provided by operating activities
Cash flows from investing activities:
(Increase) decrease in other receivables
Cash received from equipment sales
Cash paid to acquire property, plant and equipment
Cash paid to acquire intangible assets
Equity investment
Net cash used in investing activities
(8,679,749 )
(1,849,579 )
(4,972,389 )
36,821,221
(1,232,590 )
206,373
6,295,860
(45,692 )
(4,963,593 )
361,015
38,552,161
(1,695,321 )
383,924
(28,024,638 )
(165,292 )
(3,095,414 )
(32,596,741 )
48,178,260
1,682,384
1,055,134
8,375,518
(31,847 )
5,755,520
(317 )
34,956,534
207,014
280,270
(17,498,957 )
(324,014 )
—
(17,335,687 )
8,319,472
89,046
(201,499 )
3,526,628
(69,998 )
(3,974,905 )
(126,553 )
16,373,966
(353,834 )
368,707
(12,245,383 )
(125,550 )
(10,000,000 )
(22,356,060 )
Cash flows from financing activities:
Bank loans borrowed
Repayment of bank loans
Dividends paid to the minority interest holders of
Joint-venture companies
Increase (decrease) in amounts due to
shareholders/directors
Exercise of stock option
Capital contribution from the minority interest holders
of Joint-venture companies
Issuance (redemption) of Convertible Notes
Net cash provided by (used in) financing activities
Cash and cash equivalents affected by foreign
currency
Net change in cash and cash equivalents
Net increase in cash and cash equivalents
Cash and equivalents at beginning of year
Cash and equivalents at end of year
8,215,091
(6,794,812 )
6,590,317
(8,786,684 )
5,545,314
(13,113,011 )
(3,614,252 )
(4,176,583 )
(6,198,489 )
344,695
454,700
(337,915 )
420,240
2,416
—
—
—
(1,394,578 )
—
(5,000,000 )
(11,290,625 )
745,723
35,000,000
21,981,953
1,383,961
36,579
1,626,357
5,944,803
43,480,176
$ 49,424,979 $
6,366,801
37,113,375
43,480,176 $
17,626,216
19,487,159
37,113,375
The accompanying notes are an integral part of these consolidated financial statements
China Automotive Systems, Inc. and Subsidiaries
Consolidated Statements of Cash Flows (continued)
Years Ended December 31, 2010, 2009 and 2008
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for interest
Cash paid for income taxes
$ 2,044,713 $ 1,475,307 $ 1,266,204
$ 6,685,443 $ 4,048,120 $ 4,126,048
Year Ended December 31
2010
2009
2008
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Annual Report - FY 2010
SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
Year Ended December 31
2009
2010
2008
Issuance of common stock to acquire 35.5% interest in Henglong's
equity
$
- $
- $ 22,090,000
The accompanying notes are an integral part of these consolidated financial statements.
China Automotive Systems, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
Years Ended December 31, 2010, 2009 and 2008
1. Organization and Business
China Automotive Systems, Inc., “ China Automotive,” was incorporated in the State of Delaware on June 29,
1999 under the name of Visions-In-Glass, Inc. China Automotive, including, when the context so requires, its
subsidiaries and the subsidiaries’ interests in the Sino-foreign joint ventures described below, is referred to herein as the
“Company.” The Company is primarily engaged in the manufacture and sale of automotive systems and components,
as described below.
Great Genesis Holdings Limited, a company incorporated on January 3, 2003 under The Companies Ordinance
in Hong Kong as a limited liability company, “Genesis,” is a wholly-owned subsidiary of the Company.
Henglong USA Corporation, “HLUSA,” which was incorporated on January 8, 2007 in Troy, Michigan, is a
wholly-owned subsidiary of the Company, and mainly engages in marketing of automotive parts in North America, and
provides after-sales service and research and development support accordingly.
The Company owns the following aggregate net interests in seven Sino-foreign joint ventures, a wholly-owned
subsidiary and two joint ventures organized in the PRC as of December 31, 2010, 2009, and 2008.
Jingzhou Henglong Automotive Parts Co., Ltd., “Henglong”
Shashi Jiulong Power Steering Gears Co., Ltd., “Jiulong”
Shenyang Jinbei Henglong Automotive Steering System Co., Ltd.,
“Shenyang”
Zhejiang Henglong & Vie Pump-Manu Co., Ltd., “Zhejiang”
Universal Sensor Application Inc., “USAI”
Wuhan Jielong Electric Power Steering Co., Ltd., “Jielong”
Wuhu HengLong Auto Steering System Co., Ltd., “Wuhu”
Jingzhou Hengsheng Automotive System Co., Ltd., “Hengsheng”
Jingzhou Henglong Automotive Technology (Testing) Center,
“Testing Center”
2010
2009
2008
80.00 %
81.00 %
80.00 %
81.00 %
70.00 %
51.00 %
83.34 %
85.00 %
77.33 %
70.00 %
51.00 %
83.34 %
85.00 %
77.33 %
80.00 %
81.00 %
70.00 %
51.00 %
83.34 %
85.00 %
77.33 %
100.00 %
100.00 %
100.00 %
80.00 %
80.00 %
Beijing Henglong Automotive System Co., Ltd., “Beijing Henglong”
50.00 %
—
—
—
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Annual Report - FY 2010
2. Restatement of Previously Issued Consolidated Financial Statements
The Company has restated its previously issued Annual Report on Form 10-K for the year ended December 31,
2009, including its consolidated financial statements, for matters related to the following previously reported items:
cost of sales and sales expenses, accrued payroll and related costs, financial expenses and related liabilities
(Convertible Notes payable and accrued interest); gain (loss) on the change in fair value of derivative liabilities; and
derivative liabilities. The accompanying financial statements for the year ended December 31, 2009 have been restated
to reflect those corrections. The opening retained earning as of January 1, 2009 has also been adjusted to reflect the
adjustments that were made to accumulated depreciation, deferred tax assets and accrued payroll and its related cost.
These adjustments were reflected in the Annual Report on Form 10-K/A for the year ended December 31, 2009.
The following table reconciles previously reported net income attributable to parent company to the restated amounts:
Net income - As Previously Reported
Increase in previously reported cost of sales due to
warranty expenses reclassification (1)
Decrease in selling expenses due to warranty expenses
reclassification (1)
Decrease (Increase) in cost of sales due to the increase of
accrued payroll and related costs (2)
Increase in financial expenses, increase of related liabilities
(Convertible Notes payable and accrued interest) (3)
Increase in loss on the change in fair value of derivative
liabilities, increase of derivative liabilities (3)
Subtotal
Increase in Income tax benefit (expense) (4)
Decrease in net income attributable to non-controlling
interest due to the effect of restatement (5)
Total reduction in net income attributable to parent
company for the year ended December 31, 2009 and 2008
As Restated
$
$
$
$
$
$
$
$
$
$
$
Year Ended
December 31,
2009
23,414,263 $
Year Ended
December 31,
2008
12,435,241
Total Cumulative
Adjustments
December 31,
2009
(10,192,837 ) $
(5,788,628 ) $
(15,981,465 )
10,192,837 $
5,788,628 $
15,981,465
(732,257 ) $
73,155 $
(659,102 )
(5,897,514 ) $
(1,752,495 ) $
(7,650,009 )
(43,698,892 ) $
(50,328,663 ) $
390,462 $
(201,365 ) $
(1,880,705 ) $
(269,953 ) $
(43,900,257 )
(52,209,368 )
120,509
83,067 $
(40,453 ) $
42,614
(49,855,134 ) $
(26,440,871 ) $
(2,191,111 ) $
10,244,130
(52,046,245 )
(1) Previously, the warranty expenses were recorded as selling expenses. As restated, they were recorded as cost of
sales. These adjustments caused an increase in cost of sales and a corresponding decrease in selling expenses of
$10,192,837 and $5,788,628 in 2009 and 2008 respectively. These reclassifications did not have any impact on the
Company’s consolidated net income (loss), as restated, for the years ended December 31, 2008 and 2009.
(2) The Company’s Joint Venture subsidiaries, Jingzhou Henglong, Shashi Jiulong and Wuhu Henglong, recorded
payroll and bonus expenses on a cash basis. As restated, these expenses were recorded under the accrual basis. This
payroll payable cut-off caused an increase in $732,257 of cost of sales in 2009 and a decrease of $73,155 of cost of
sales in 2008.
(3) Previously, the conversion feature embedded in the Company’s Convertible Notes was not bifurcated as a
derivative. In accordance with the guidance set forth under ASC 815-40-15 (formerly EITF 07-05, effective on January
1, 2009), as in the Company’s Convertible Notes agreement there are non-standard anti-dilution provisions that give
investors a level of protection that is not afforded to typical holders of outstanding shares and is not based on inputs to
fair value of a “fixed for fixed” option, and as the conversion feature in the Company’s Convertible Notes is not
considered to be indexed to its own stock, thus, it does not fall within the scope exception criteria included in ASC
Page | 68
Annual Report - FY 2010
815-10-15-74. As a result, the embedded conversion feature required bifurcation, classification in liabilities and
measurement at fair value. According to ASC 815, the Company is required to re-measure the bifurcated derivative at
fair value from the issuance date of Convertible Notes payable (February 15, 2008), with changes reflected in its
income, until the Convertible Notes are settled. This adjustment caused an increase of $43,698,892 in loss on the
change in fair value of derivative liabilities for 2009. The Company has also accounted for this change in accounting
principle by reflecting the cumulative effect as an adjustment to its beginning retained earnings on January 1, 2009. The
cumulative effect adjustment that the Company made is the difference between the amounts that the Company
recognized related to the Convertible Notes Payable before the initial application of the amended principle and the
amounts that would have been recognized if the amended standard had been applied from the issuance date of the
Convertible Notes Payable, which was February 15, 2008 (See Note 3).
Additionally, the Company has reviewed the various puts that were embedded in the Convertible Notes and concluded
that these puts were not required to be bifurcated as the payoff was based on interest rates and not indexed to anything
else. This adjustment caused a decrease of $201,365 in gain on the change in fair value of derivative liabilities in 2008.
As result of the combined effect of the above-mentioned factors, in 2008, the adjustment for the financial expenses was
an increase of $1,752,495, mainly due to the provision for the annual redemption which was the difference between the
coupon interest (3%) amount and the annual redemption interest (11%) amount due on the first annual redemption date
(February 15, 2010) using the effective interest rate method. In 2009, the financial expenses adjustment was an increase
of $5,897,514, comprising of an increase in amortization expenses of $3,172,470 and an increase of $2,725,044 in
interest expenses for the provision for the annual redemption.
(4) Tax adjustment was an increase in income tax benefit of $390,462 in 2009 and an increase in income tax expense in
$269,953 in 2008. The breakdown is as follows:
A. Deferred Tax Assets related to Accounts Receivable Provision
Previously, as of December 31, 2008 and 2009, deferred tax assets related to the Company’s accounts receivable
provision were not recorded. As the doubtful debt provisions were either reversed subsequently when the related
receivables had been collected, or the related tax benefits had been realized when the bad debts were subsequently
approved by the tax bureau for PRC tax deduction purposes, the doubtful debt provision should be treated as temporary
difference as of December 31, 2008 and 2009. As the Company has been consistently profitable, the deferred tax assets
related to accounts receivable provision should be recorded.
B. Prepaid income tax for Unrealized Profit
Previously, the Company did not account for the income tax paid for its intra-group unrealized profits as a deferred
charge in its 2008 and 2009 financial statements. The prepaid tax as a result of the intra-group unrealized profits at year
end should be recorded as a deferred charge in the consolidated financial statements.
C. Withholding Tax
According to PRC tax law, from January 1, 2008, withholding taxes are levied on dividends distributed by domestic
companies to its foreign investors when the dividends are remitted out of China. Accordingly, deferred tax liability
against the distribution of post January 1, 2008 earned profit is required in accordance with ASC 740 Income Taxes,
unless the “indefinite reversal criterion” under ASC 740-30-25 is met. Therefore, deferred tax liability was provided
against earned profit after January 1, 2008 for PRC Joint Ventures, based on the Company’s best estimates.
D. Deferred tax assets or liability
Deferred tax assets arising from accrued interest relates to the Company’s operations in the U.S. Based on the
Company’s current operations in the U.S., the management believes that the deferred tax assets in the U.S. are not
likely to be realized in the future. Accordingly, a valuation allowance has been provided against the deferred tax assets.
Page | 69
Annual Report - FY 2010
Gain (loss) on the change in fair value of the Company’s derivatives was a permanent difference, and not deferred tax
assets or liability, thus, there was no effect on income tax.
Deferred tax assets that arise from payroll accruals relate to PRC Joint Venture subsidiaries.
Prior to the restatement, the Company did not appropriately accrue the withholding taxes for the distribution of post
January 1, 2008 earned profit in PRC Joint Venture subsidiaries in 2008 and 2009. As part of these retained profits will
be distributed to the Company, such withholding taxes should be accrued.
As a result of the above adjustments, the effects on income tax benefits (expenses) for 2009 are summarized as follows:
Deferred tax assets related to accounts receivable provision (A)
Deferred tax assets related to intra-group unrealized profits for
purchases and sales (B)
Deferred tax liability related to the withholding taxes for the
Company’s PRC subsidiaries distribution of dividends to its
foreign investors (C)
Deferred tax assets related to accrued provision (A)
Income tax for paid (D)
Deferred tax assets related to accrued interest of Convertible Notes
(D)
Total
Deferred
tax assets
and related
liabilities
Valuation
allowance
Effect
on income
tax benefit
(expense)
$
(66,579 ) $
- $
(66,579 )
339,584
-
339,584
(184,477 )
226,268
75,666
-
-
-
(184,477 )
226,268
75,666
953,765
1,344,227 $
(953,765 )
(953,765 ) $
$
-
390,462
As a result of the above adjustments, the effects on income tax benefit (expense) for 2008 are summarized as follows:
Deferred tax assets related to accounts receivable provision
Deferred tax assets related to intra-group unrealized profits for
purchases and sales
Deferred tax liability related to the withholding taxes for the
Company’s PRC subsidiaries distribution of dividends to its
foreign investors
Deferred tax assets related to accrued interest of Convertible Notes
$
Total
$
Deferred
tax assets
and related
liabilities
Valuation
allowance
Effect
on income
tax benefit
(expense)
127,977 $
- $
127,977
(25,366 )
-
(25,366 )
(372,564 )
713,555
443,602 $
-
(713,555 )
(713,555 ) $
(372,564 )
-
(269,953 )
(5) As a result of the above adjustments, Net income attributable to noncontrolling interest decreased by $83,067 in
2009 and increased by $40,453 in 2008.
The effects of the adjustments on the Company’s previously issued 2009 consolidated financial statement are
summarized as follows:
Selected Consolidated Balance Sheet information as of December 31, 2009
Page | 70
Current Assets:
Current deferred tax assets
Total current assets
Long-term Assets:
Property, plant and equipment, net
Non-current deferred tax assets
Total Assets
Current Liabilities:
Convertible Notes payable
Compound derivative liabilities
Accrued payroll and related costs
Accrued expenses and other payables
Taxes payable
Total current liabilities
Total Liabilities
Annual Report - FY 2010
Previously
Reported
Increase
(Decrease)
Restated
$
$
1,381,868 $
242,296,776 $
2,484,485 $
3,866,353
2,484,485 $ 244,781,261
60,489,798
2,172,643
313,032,957
(1,960,351 )
825,481
58,529,447
2,998,124
1,349,615 314,382,572
28,640,755
880,009
3,040,705
17,708,681
11,365,016
179,953,823
180,187,764
1,359,245
44,563,497
1,537,741
4,763,771
117,161
30,000,000
45,443,506
4,578,446
22,472,452
11,482,177
52,341,415 232,295,238
52,341,415 232,529,179
Stockholders’ equity:
Retained earnings-
Unappropriated- January 1, 2009
Accumulated effect of adoption of ASC 815-40
Net income (loss) attributable to parent company- for the year
ended December 31, 2009
Unappropriated-December 31, 2009
Foreign currency translation gain –December 31, 2009
Accumulated other comprehensive income-December 31, 2009
Total parent company stockholders' equity
Non-controlling interests January 1, 2009
Net income attributable to noncontrolling interest- December 31,
2009
Foreign currency translation gain (loss) - December 31, 2009
Non-controlling interests-December 31, 2009
Total stockholders' equity
Total liabilities and stockholders' equity
36,026,516
—
(1,965,640 )
863,753
34,060,876
863,753
23,414,263
58,642,023
60,239
11,187,744
105,672,068
23,222,566
(49,855,134 )
(50,957,021 )
(11 )
(11 )
(50,957,032 )
48,254
(26,440,871 )
7,685,002
60,228
11,187,733
54,715,036
23,270,820
7,872,813
22,365
27,173,125
132,845,193
313,032,957 $
(83,067 )
45
(34,768 )
(50,991,800 )
7,789,746
22,410
27,138,357
81,853,393
1,349,615 $ 314,382,572
$
Selected Consolidated Statement of income (loss) information for the year ended December 31, 2009
Cost of product sold
Gross profit
Selling expenses
Income from operations
Financial income (expenses)
Gain (loss) on change in fair value of derivative
Income (loss) before income taxes
$
Previously
Reported
182,929,833 $
72,667,720
18,085,377
37,664,652
(1,986,200 )
624,565
36,397,551
Increase
(Decrease)
Restated
10,925,094 $ 193,854,927
61,742,626
(10,925,094 )
7,892,540
(10,192,837 )
36,932,395
(732,257 )
(7,883,714 )
(5,897,514 )
(43,074,327 )
(43,698,892 )
(13,931,112 )
(50,328,663 )
Page | 71
Income taxes
Net income (loss)
Net income attributable to noncontrolling interest
Net income (loss) attributable to parent company
Income (loss) per share – basic
Income (loss) per share – diluted
Annual Report - FY 2010
5,110,475
31,287,076
7,872,813
(390,462 )
(49,938,201 )
(83,067 )
4,720,013
(18,651,125 )
7,789,746
23,414,263 $
(49,855,134 ) $
(26,440,871 )
0.87 $
(1.85 ) $
0.78 $
(1.76 ) $
(0.98 )
(0.98 )
$
$
$
Selected Consolidated Statements of Cash Flows information for the year ended December 31, 2009
Operating activities:
Net income (loss)
Deferred income taxes
Amortization for discount of convertible note payable
(Gain) loss on change in fair value of derivative
Accrued payroll and related costs
Accrued expenses and other payables
Taxes payable
Previously
Reported
Increase
(Decrease)
Restated
$
31,287,076 $
(1,169,108 )
718,678
(624,565 )
322,877
5,650,474
5,638,359
(49,938,201 ) $
(507,623 )
3,172,470
43,698,892
732,257
2,725,044
117,161
(18,651,125 )
(1,676,731 )
3,891,148
43,074,327
1,055,134
8,375,518
5,755,520
Selected Consolidated Statement of income (loss) information for the year ended December 31, 2008
Cost of product sold
Gross profit
Selling expenses
Income from operations
Financial income (expenses)
Gain (loss) on change in fair value of derivative
Income (loss) before income taxes
Income taxes
Net income
Net income attributable to noncontrolling interest
Net income (loss) attributable to parent company
Income (loss) per share – basic
Income (loss) per share – diluted
Previously
Reported
115,920,585 $
47,258,701
10,869,661
16,923,421
(1,296,218 )
998,014
17,692,526
185,877
17,506,649
5,071,408
12,435,241 $
0.48 $
0.46 $
$
$
$
$
Increase
(Decrease)
Restated
5,788,628 $ 121,709,213
41,470,073
(5,788,628 )
5,007,878
(5,861,783 )
16,996,576
73,155
(3,048,713 )
(1,752,495 )
796,649
(201,365 )
15,811,821
(1,880,705 )
455,830
269,953
15,355,991
(2,150,658 )
5,111,861
40,453
10,244,130
(2,191,111 ) $
0.35
(0.13 ) $
0.35
(0.11 ) $
Selected Consolidated Statements of Cash Flows information for the year ended December 31, 2008
Operating activities:
Net income
Deferred income taxes
Amortization for discount of convertible note payable
(Gain) loss on change in fair value of derivative
Previously
Reported
Increase
(Decrease)
Restated
$
17,506,649 $
(974,383 )
424,665
(998,014 )
(2,150,658 ) $ 15,355,991
(704,430 )
138,432
(796,649 )
269,953
(286,233 )
201,365
Page | 72
Annual Report - FY 2010
Accrued payroll and related costs
Accrued expenses and other payables
(128,344 )
1,487,900
(73,155 )
2,038,728
(201,499 )
3,526,628
3. Basis of Presentation and Significant Accounting Policies
Basis of Presentation - For the years ended December 31, 2010, 2009, and 2008, the accompanying consolidated
financial statements include the accounts of the Company and its two subsidiaries and nine joint ventures, which are
described in Note 1. Significant inter-company balances and transactions have been eliminated upon consolidation. The
consolidated financial statements have been prepared in accordance with generally accepted accounting principles in
the United States of America. The Company has no voting control in Beijing Henglong, thus such investment was
accounted for using the equity method.
During early 2003, the Directors of the Company and the other joint venture partners in the Company’s Sino-foreign
joint ventures executed “Act in Concert” agreements, resulting in the Company’s ownership of voting control in such
Sino-foreign joint ventures. Consequently, effective January 1, 2003, the Company changed from equity accounting to
consolidation accounting for its investments in Sino-foreign joint ventures for the year ended December 31, 2003. Prior
to January 1, 2003, the Company used the equity method pursuant to the provision in ASC Topic 810 (formerly EITF
96-16), as described as follows.
Henglong was formed in 1997. The Company increased its shareholdings from 44.5% to 80% in 2008 and the
remaining 20% is owned by Jingzhou Jiulong Machinery and Electronic Manufacturing Co., Ltd., “JLME.” The highest
authority of the joint venture is the Board of Directors, which is comprised of five directors, four of which, 80%, are
appointed by the Company, and one of which, 20%, is appointed by Jiulong Machinery and Electronic Manufacturing
Co., Ltd., “JLME.” As for day-to-day operating matters, approval by more than two-thirds of the members of the Board
of Directors, 67%, is required. Both the Chairman of the Board of Directors and general manager are appointed by the
Company.
Jiulong was formed in 1993, with 81% owned and controlled by the Company, 10% owned by JLME, and 9% owned
by Jingzhou Tianxin Investment Consulting Co., Ltd., “Tianxin.” The highest authority of the joint venture is the Board
of Directors, which is comprised of five directors, four of which, 80%, are appointed by the Company, and one of
whom, 20%, is appointed by JLME. As for day-to-day operating matters, approval by more than two-thirds of the
members of the Board of Directors, 67%, is required. The Chairman of the Board of Directors is appointed by JLME.
The general manager is appointed by the Company.
Shenyang was formed in 2002, with 70% owned and controlled by the Company, and 30% owned by Shenyang
Automotive Industry Investment Corporation, “JB Investment.” The highest authority of the joint venture is the Board
of Directors, which is comprised of seven directors, four of whom, 57%, are appointed by the Company, and three of
whom, 43%, are appointed by JB Investment. As for day-to-day operating matters, approval by more than two-thirds of
the members of the Board of Directors, 67%, is required. The Chairman of the Board of Directors is appointed by the
Company. The general manager is appointed by the Company.
Zhejiang was formed in 2002, with 51% owned by Genesis, which is wholly-owned and controlled by the Company,
and 49% owned by Zhejiang Vie Group, “ZVG.” The highest authority of the joint venture is the Board of Directors,
which is comprised of seven directors, four of whom, 57%, are appointed by the Company and three of whom, 43%,
are appointed by ZVG. As for day-to-day operating matters, approval by more than two-thirds of the members of the
Board of Directors, 67%, is required. The Chairman of the Board of Directors is appointed by ZVG. The general
manager is appointed by the Company.
USAI was formed in 2005. As at December 31, 2008, 83.34% was owned by the Company. The highest authority of
the joint venture is the Board of Directors, which is comprised of three directors, two of whom, 67%, are appointed by
the Company, one of whom, 33%, is appointed by Hongxi. As for day-to-day operating matters, approval by more than
two-thirds of the members of the Board of Directors, 67%, is required. The Chairman of the Board of Directors is
appointed by the Company. The general manager is appointed by the Company.
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Annual Report - FY 2010
Jielong was formed in April 2006, with 85% owned by the Company, and 15% owned by Hong Kong Tongda,
“Tongda.” The highest authority of the joint venture is the Board of Directors, which is comprised of three directors,
two of whom, 67%, are appointed by the Company, and one of whom, 33%, is appointed by Tongda. As for day-to-day
operating matters, approval by more than two-thirds of the members of the Board of Directors, 67%, is required. The
Chairman of the Board of Directors is appointed by the Company. The general manager is appointed by the Company.
Wuhu was formed in May 2006, with 77.33% owned by the Company, and 22.67% owned by Wuhu Chery Technology
Co., Ltd., “Chery Technology.” The highest authority of the joint venture is the Board of Directors, which is comprised
of five directors, three of whom, 60%, are appointed by the Company, and two of whom, 40%, are appointed by Chery
Technology. As for day-to-day operating matters, approval by more than two-thirds of the members of the Board of
Directors, 67%, is required. The directors of the Company and the other joint venture partner of Wuhu executed “Act in
Concert” agreement, resulting in the Company having voting control in the joint venture. The Chairman of the Board of
Directors is appointed by the Company. The general manager is appointed by the Company.
Testing Center was formed in December 2009, as a wholly-owned subsidiary of Henglong The highest authority of the
entity is the Board of Directors, which is comprised of three directors, all of them are appointed by the Company.
Beijing Henglong was formed in 2010, with 50% owned by the Company and 50% owned by Beijing Hainachuan Auto
Parts Co. Ltd.,"Hainachuan.” The highest authority of the joint venture is the Board of Directors, which is comprised
of seven directors, four of whom, 57%, are appointed by the Company, and three of whom, 43%, are appointed by
Hainachuan. As for day-to-day operating matters, approval by more than two-thirds of the members of the Board of
Directors, 67%, is required. The Chairman of the Board of Directors is appointed by Hainachuan. The general manager
is appointed by the Company.
The minority partners of each of the joint ventures are all private companies not controlled, directly or indirectly, by
any PRC municipal government or other similar government entity.
Use of Estimates - The preparation of financial statements in conformity with accounting principles generally accepted
in the United States requires management to make estimates and assumptions that affect the reported amounts of assets
and liabilities, disclosure of contingent assets and liabilities at the date of the financial statements, and the reported
amounts of revenues and expenses during the reporting periods. The Company is of an opinion that the significant
items were long term assets and investment, the realizable value of accounts receivable and inventories, useful lives of
property, plant and equipment, accruals, warranty liabilities and deferred tax assets. Actual results could differ from
those estimates.
Cash and Cash Equivalents - Cash and cash equivalents include all highly-liquid investments with an original maturity
of three months or less at the date of purchase.
Pledged Cash Deposits - Pledged as guarantee for the Company's notes payable and restricted to use. The Company
regularly pays some of its suppliers by bank notes. The Company (the drawer) has to deposit a cash deposit, equivalent
to 30%- 40% of the face value of the relevant bank note, in a bank (the drawer) in order to obtain the bank note.
Allowance for doubtful accounts - In order to determine the value of the Company’s accounts receivable, the Company
records a provision for doubtful accounts to cover estimated credit losses. Management reviews and adjusts this
allowance periodically based on historical experience and its evaluation of the collectability of outstanding accounts
receivable. The Company evaluates the credit risk of its customers utilizing historical data and estimates of future
performance.
Inventories - Inventories are stated at the lower of cost and net realizable value. Cost is calculated on the
moving-average basis and includes all costs to acquire and other costs to bring the inventories to their present location
and condition. The Company evaluates the net realizable value of its inventories on a regular basis and records a
provision for loss to reduce the computed moving-average cost if it exceeds the net realizable value.
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Annual Report - FY 2010
Advance Payments - These amounts represent advances to acquire various assets to be utilized in the future in the
Company’s normal business operations, such as machine equipment, raw materials and technology. Such amounts are
paid according to their respective contract terms, Advance payment for machinery and equipment is classified as
advance payment for property, plant and equipment in the consolidated balance sheet and advance payment of raw
materials and technology are classified as advance payments and others in the consolidated balance sheet.
Property, Plant and Equipment - Property, plant and equipment are stated at cost. Major renewals and improvements
are capitalized; minor replacements and maintenance and repairs are charged to operations. Depreciation is calculated
on the straight-line method over the estimated useful lives of the respective assets as follows:
Category
Estimated Useful Life (Years)
Land use rights and buildings:
Land use rights
Buildings
Machinery and equipment
Electronic equipment
Motor vehicles
45-50
25
6
4
8
Assets under construction - represent buildings under construction and plant and equipment pending installation— are
stated at cost. Cost includes construction and acquisitions, and interest charges arising from borrowings used to finance
assets during the period of construction or installation and testing. No provision for depreciation is made on assets
under construction until such time as the relevant assets are completed and ready for their intended commercial use.
Gains or losses on disposal of property, plant and equipment are determined as the difference between the net disposal
proceeds and the carrying amount of the relevant asset, and are recognized in the consolidated statements of income on
the date of disposal. Gains or losses on disposal of property, plant and equipment has not been material for the years
ended December 31, 2010, 2009 and 2008.
Interest Costs Capitalized - Interest costs incurred in connection with specific borrowings for the acquisition,
construction or installation of property, plant and equipment are capitalized (if significant) and depreciated as part of
the asset’s total cost when the respective asset is placed into service.
However, for the fiscal year ended December 31, 2010, 2009 and 2008, interest costs which were incurred before
achieving the expected usage as result of using such specific borrowings for the acquisition, construction or installation
of property, plant and equipment were not significant, so the Company did not capitalize interest costs.
Intangible Assets - Intangible assets, representing patents and technical know-how acquired, are stated at cost less
accumulated amortization and impairment losses. Amortization is calculated on the straight-line method over the
estimated useful life of 5 to 15 years.
Long-Lived Assets - The Company has adopted the provisions of ASC Topic 360 (formerly SFAS No.144),
“Accounting for the Impairment or Disposal of Long-Lived Assets.” Property, plant and equipment and definite life
intangible assets are reviewed periodically for impairment losses whenever events or changes in circumstances indicate
that the carrying amount of an asset may not be fully recoverable. If required, an impairment loss is recognized as the
difference between the carrying value and the fair value of the assets.
In assessing long-lived assets for impairment, management considered the Company’s product line portfolio, customers
and related commercial agreements, labor agreements and other factors in grouping assets and liabilities at the lowest
level for which identifiable cash flows are largely independent. The Company considers projected future undiscounted
cash flows, trends and other factors in its assessment of whether impairment conditions exist. Whilst the Company
believes that its estimates of future cash flows are reasonable, different assumptions regarding such factors as future
automotive production volumes, customer pricing, economics and productivity and cost saving initiatives, could
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Annual Report - FY 2010
significantly affect its estimates. In determining fair value of long-lived assets, management uses appraisals,
management estimates or discounted cash flow calculations.
Long-Term Investments - Investments in which the Company owns less than 20% of the investee company and does
not have the ability to exert significant influence are stated at cost, and are reviewed periodically for realization.
Investments in which the Company owns 20% - 50% of the investee company and does have the ability to exert
significant influence are accounted for using the equity method.
In 2010, the Company set up a joint venture with Beijing Hainachuan, Beijing Henglong. Beijing Henglong is an entity
over which the Company has significant influence, but which it does not control. Investment in Beijing Henglong is
accounted for by the equity method of accounting. Under this method, the Company’s income (loss) from investment in
Beijing Henglong is recognized in the consolidated statements of income (loss). Unrealized gains on transactions
between the Company and Beijing Henglong are eliminated to the extent of the Company’s interest in Beijing
Henglong, if any; unrealized losses are also eliminated unless the transaction provides evidence of an impairment of the
asset transferred. When the Company’s share of losses in Beijing Henglong equals or exceeds its interest in Beijing
Henglong, the Company does not recognize further losses, unless the Company has incurred obligations or made
payments on behalf of Beijing Henglong.
The Company continually reviews its investment in Beijing Henglong to determine whether a decline in fair value
below the carrying value is other than temporary. The primary factors the Company considers in its determination are
the length of time that the fair value of the investment is below the Company’s carrying value and the financial
condition, operating performance and near term prospects of the investee. In addition, the Company considers the
reason for the decline in fair value, including general market conditions, industry-specific or investee-specific reasons,
changes in valuation subsequent to the balance sheet date and the Company’s intent and ability to hold the investment
for a period of time sufficient to allow for a recovery in fair value. If the decline in fair value is deemed to be other than
temporary, the carrying value of the security is written down to fair value. No impairment losses were recorded in the
three years ended December 31, 2010.
Revenue from Product Sales Recognition - The Company recognizes revenue when the significant risks and rewards of
ownership have been transferred to the customer pursuant to PRC law, including factors such as when persuasive
evidence of an arrangement exists, delivery has occurred, the sales price is fixed or determinable, sales and value added
tax laws have been complied with, and collectability is probable. The Company recognizes product sales generally at
the time the product is installed on OEMs’ production line, and a small number of product sales is recognized at the
time the product is shipped. Concurrent with the recognition of revenue, the Company reduces revenue for estimated
product returns. Revenue is presented net of any sales tax and value added tax.
Revenue from Materials and Other Assets Sales Recognition – Normally, the Company purchases materials only for its
production. Occasionally, some materials will be sold to other suppliers in case of temporary inventory overage of such
materials and to make a profit on any price difference. The Company is essentially the agent in these transactions
because it does not have any risk of product return. When there is any quality or quantity loss, the suppliers are
obligated to restitution. Income generated from selling materials is recorded as the net amount retained, that is, the
amount billed to the customers less the amount paid to suppliers, in the consolidated statement of income (loss) in
accordance with the provisions of ASC Topic 350 (formerly EITF 99-19).
Revenue from other asset sales represents gains or losses from other assets, for example, used equipment. Income
generated from selling other assets is recorded as the sales amount less carrying value of the assets. The Company has
classified such revenue from materials and other asset sales into gain on other sales in its consolidated statement of
operations.
Sales Taxes - The Company is subject to value added tax, “VAT.” The applicable VAT tax rate is 17% for products
sold in the PRC. The amount of VAT liability is determined by applying the applicable tax rate to the invoiced amount
of goods sold less VAT paid on purchases made with the relevant supporting invoices. VAT is collected from
customers by the Company on behalf of the PRC tax authorities and is therefore not charged to the consolidated
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Annual Report - FY 2010
statements of operations.
Product Warranties - The Company provides for the estimated cost of product warranties when the products are sold.
Such estimates of product warranties were based on, among other things, historical experience, product changes,
material expenses, service and transportation expenses arising from the manufactured product. Estimates will be
adjusted on the basis of actual claims and circumstances.
For the years ended December 31, 2010, 2009 and 2008, the warranties activities were as follows:
Balance at the beginning of year
Additions during the year
Settlement within the year
Foreign currency translation
Balance at end of year
2010
Year Ended December 31
2009
$ 9,092,464 $ 6,335,613 $ 4,919,491
13,285,612 10,192,749 5,861,782
(8,715,820 ) (7,442,982 ) (4,797,457 )
351,797
$ 13,944,392 $ 9,092,464 $ 6,335,613
282,136
7,084
2008
Pension - Most of the operation and employees of the Company are located in China. The Company records pension
costs and various employment benefits in accordance with the relevant Chinese social security laws, which is
approximately at a total of 31% of salary as required by local governments. Base salary levels are the average salary
determined by the local governments.
Concentration of Credit Risk - Financial instruments that potentially subject the Company to significant concentrations
of credit risk consist primarily of trade accounts receivable. The Company performs ongoing credit evaluations with
respect to the financial condition of its debtors, but does not require collateral. In order to determine the value of the
Company’s accounts receivable, the Company records a provision for doubtful accounts to cover probable credit losses.
Management reviews and adjusts this allowance periodically based on historical experience and its evaluation of the
collectability of outstanding accounts receivable.
Interest Rate Risk- Bank loans and Convertible Notes payable are charged at fixed interest rates.
Income Taxes - The Company accounts for income taxes using the liability method whereby deferred income taxes are
recognized for the tax consequences of temporary differences by applying statutory tax rates applicable to future years
to differences between the financial statement carrying amounts and the tax bases of certain assets and liabilities,
changes in deferred tax assets and liabilities, if any, include the impact of any tax rate changes enacted during the year.
ASC Topic 350 (formerly SFAS No.109), “Accounting for Income Taxes,” requires that deferred tax assets be reduced
by a valuation allowance if, based on all available evidence, it is considered more likely than not that some portion or
all of the recorded deferred tax assets will not be realized in future periods. If the amount of the Company’s taxable
income or income tax liability is a determinant of the amount of a grant, the grant is treated as a reduction of the
income tax provision in the year the grant is realized. Additionally, the Company accounts for uncertainty in income
taxes using a two-step approach to recognize and measure uncertain tax positions. The first step is to evaluate the tax
position for recognition by determining if the weight of available evidence indicates that it is more likely than not that
the position will be sustained on audit, including resolution of related appeals or litigation processes, if any. The second
step is to measure the tax benefit as the largest amount that is more than 50% likely of being realized upon settlement.
The Company classifies the liability for unrecognized tax benefits as current to the extent that the Company anticipates
payment (or receipt) of cash within one year. Interest and penalties related to uncertain tax positions are recognized in
the provision for income taxes.
Research and Development Costs - Research and development costs are expensed as incurred.
Advertising, Shipping and Handling Costs - Advertising, shipping and handling costs are expensed as incurred and
recorded in sale expenses.
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Annual Report - FY 2010
Income Per Share - Basic income per share is computed by dividing net income attributable to ordinary shareholders by
the weighted average number of ordinary shares outstanding during the period using the two-class method. Under the
two-class method, net income is allocated between ordinary shares and other participating securities (convertible note
holders) based on their participating rights. Diluted income per share is calculated by dividing net income attributable
to ordinary shareholders, as adjusted for the effects on income of participating securities as if they were dilutive
ordinary shares, if any, by the weighted average number of ordinary and dilutive ordinary equivalent shares outstanding
during the period. Ordinary equivalent shares consist of ordinary shares issuable upon the conversion of the
Convertible Notes using the if-converted method, and shares issuable upon the exercise of stock options and warrants
for the purchase of ordinary shares using the treasury method. Ordinary equivalent shares are not included in the
denominator of the diluted earnings per share calculation when inclusion of such shares would be antidilutive.
Comprehensive Income - The Company has adopted ASC Topic 220 (formerly SFAS No. 130), “Reporting
Comprehensive Income.” ASC Topic 220 establishes standards for the reporting and display of comprehensive income,
its components and accumulated balances in a full set of general purpose financial statements. ASC Topic 220 defines
comprehensive income to include all changes in equity except those resulting from investments by owners and
distributions to owners, including adjustments to minimum pension liabilities, accumulated foreign currency translation,
and unrealized gains or losses on marketable securities.
Financial Instruments – Financial instruments consist of cash, evidence of ownership in an entity, and contracts that
both (i) impose on one entity a contractual obligation to deliver cash or another financial instrument to a second entity,
or to exchange other financial instruments on potentially unfavorable terms with the second entity, and (ii) conveys to
that second entity a contractual right (a) to receive cash or another financial instrument from the first entity, or (b) to
exchange other financial instruments on potentially favorable terms with the first entity. Inputs to the valuation
methodology for Level 1 are quoted prices (unadjusted) for identical assets or liabilities in active markets. Inputs to the
valuation methodology for Level 2 include quoted prices for similar assets and liabilities in active markets, and inputs
that are observable for the assets or liability, either directly or indirectly, for substantially the full term of the financial
instruments. Inputs to the valuation methodology for Level 3 are unobservable and significant to the fair value.
Consideration is also given to the risk inherent in the valuation technique and the risk inherent in the inputs to the
model.
Effective on January 1, 2009, the Company adopted the provisions of ASC 815 Derivatives and Hedging Activities that
address the determination of whether an instrument meets the definition of a derivative being indexed to a company’s
own stock for purposes of applying the scope exception as provided for in accordance with ASC 815-15. Upon
adoption of the standard on the effective date, the embedded conversion option that is embedded in the Company’s
Convertible Notes payable no longer met the definition of being indexed to its own stock because it embodied certain
anti-dilution protections that are not based on input to the fair value of a fixed-for-fixed option. As a result, the
embedded conversion feature required bifurcation, classification in liabilities and measurement at fair value at each
reporting period, with changes reflected in earnings, until the Convertible Notes are settled.
The Company has accounted for this change in accounting principle by reflecting the cumulative effect as an
adjustment to its beginning retained earnings during the year ended December 31, 2009. The cumulative effect
adjustment that the Company made is the difference between the amounts that it has recognized on the Convertible
Notes Payable prior to the adoption of ASC 815-40 and the amounts that would have been recognized if the amended
guidance had been effective on the issuance date of the Convertible Notes payable, which was February 15, 2008. The
following table illustrates the differences that comprise the cumulative effect:
Financial Instrument:
Convertible Notes Payable
Derivative liabilities
As
Recorded
(Effective Date January 1, 2009)
As
Adjusted
Cumulative
Effect
$
34,339,807
—
$
31,108,852
2,367,202
$
3,230,955
(2,367,202 )
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Annual Report - FY 2010
$
34,339,807
$
33,476,054
$
863,753
The following table illustrates the reallocation as if the amended provisions of ASC 815 had been in effect on the
financing date:
Financial Instrument:
Convertible Notes Payable
Derivative liabilities
Warrants
Original
Allocation
(Financing Date February 15, 2008)
Amended
Allocation
$
$
34,201,374
—
798,626
35,000,000
$
$
28,379,704
5,821,670
798,626
35,000,000
$
$
Difference
5,821,670
(5,821,670 )
—
—
The cumulative effect of the change in accounting principle on the effective date reflects (i) the difference in the
financing date allocation of proceeds, (ii) the resulting change in the amortization of the debt discount that results from
the revised allocation, and (iii) the changes in the fair values of the derivative liabilities that would have been recorded
had the amended standard been in effect since the financing date.
Fair Value Measurements – For purposes of fair value measurements, the Company applies the applicable provisions of
ASC 820 Fair Value Measurements. Accordingly, fair value for the Company’s financial accounting and reporting
purposes represents the estimated price that would be received to sell an asset or paid to transfer a liability in an orderly
transaction between market participants at the designated measurement date. With an objective to increase consistency
and comparability in fair value measurements and related disclosures, the Financial Accounting Standard Board
established the fair value hierarchy which prioritizes the inputs to valuation techniques used to measure fair value into
three broad levels.
Level 1 Inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities that the reporting entity
has the ability to access at the measurement date. An active market for the asset or liability is a market in which
transactions for the asset or liability occur with sufficient frequency and volume to provide pricing information on an
ongoing basis. A quoted price in an active market provides the most reliable evidence of fair value and shall be used to
measure fair value whenever available. As at December 31, 2009 and 2010, the Company does not have any fair value
assets and liabilities classified as Level 1.
Level 2 Inputs are inputs other than quoted prices included within Level 1 that are observable for the asset or liability,
either directly or indirectly. If the asset or liability has a specified (contractual) term, a Level 2 input must be
observable for substantially the full term of the asset or liability. As at December 31, 2009 and 2010, the Company
does not have any fair value assets and liabilities classified as Level 2.
Level 3 Inputs are unobservable inputs for the asset or liability. Unobservable inputs are used to measure fair value to
the extent that observable inputs are not available, thereby allowing for situations in which there is little, if any, market
activity for the asset or liability at the measurement date. However, the fair value measurement objective remains the
same, that is, an exit price from the perspective of a market participant that holds the asset or owes the liability.
Therefore, unobservable inputs shall reflect the reporting entity’s own assumptions about the assumptions that market
participants would use in pricing the asset or liability (including assumptions about risk). Accordingly, the compound
derivative liabilities are classified as Level 3 as the inputs reflected management’s best estimate of what market
participants would use in pricing the asset or liability at the measurement date.
The following table presents information about the Company’s financial liabilities classified as Level 3 as of December
31, 2009 and December 31, 2010.
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Annual Report - FY 2010
Carrying Value
Balance as of December 31, 2010
Fair Value Measurements
Using Fair Value Hierarchy
Derivative liability, current
$
25,271,808 $
-
$
Level 1
Level 2
-
$
Level 3
25,271,808
Balance as of December 31, 2009 - As Restated
Fair Value Measurements
Using Fair Value Hierarchy
Carrying Value
Derivative liability, current
$
45,443,506 $
-
$
Level 1
Level 2
-
$
Level 3
45,443,506
For a summary of changes in Level 3 derivative liabilities for the years ended December 31, 2009 and for the three
months ended December 31, 2010, please see note 14.
The following presents the carry value and the estimated value of the other receivables and advance payable at
December 31, 2010:
Convertible Note
Other receivables
Advance payable
$
$
$
Carry Value
30,000,000 $
2,801,434 $
603,983 $
Fair Value
30,000,000
2,660,000
570,000
Other receivables and advance payable are recorded at cost, which is discounted from the contractual balance. The
carrying value of other receivables and advance payable, which is estimated based upon future cash flows,
approximates fair value at December 31, 2009 and December 31, 2010.
Stock-Based Compensation - The Company may issue stock options to employees and stock options or warrants to
non-employees in non-capital raising transactions for services and for financing costs.
In July 2004, the Company adopted a stock incentive plan. The maximum number of common shares for issuance
under this plan is 2,200,000 with a period of 10 years. The stock incentive plan provides for the issuance, to the
Company’s officers, directors, management and employees, of options to purchase shares of the Company’s common
stock. Since the adoption of the stock incentive plan, the Company has issued 456,350 stock options and 1,743,650
stock options remain to be issuable in the future. As of December 31, 2010, the Company had 236,768 stock options
outstanding.
The Company has adopted ASC Topic 718 (formerly SFAS 123R), “Accounting for Stock-Based Compensation,”
which establishes a fair value method of accounting for stock-based compensation plans. In accordance with guidance
now incorporated in ASC Topic 718, the cost of stock options and warrants issued to employees and non-employees is
measured on the grant date based on the fair value. The fair value is determined using the Black-Scholes option pricing
model. The resulting amount is charged to expense on the straight-line basis over the period in which the Company
expects to receive the benefit, which is generally the vesting period.
Registration Payment Arrangements - The Company has entered into registration payment arrangements with certain
investors that provide for the payment of damages for failures to register common shares underlying the investor’s
financial instruments. ASC Topic 825 (formerly FASB Staff Position 00-19-2), Accounting for Registration Payment
Arrangements, provides for the exclusion of registration payments, such as the liquidated damages, from the
consideration of classification of financial instruments. Rather, such registration payments would be accounted for
pursuant to ASC Topic 450 (formerly FASB No. 5), “Accounting for Contingencies,” which is the Company’s current
accounting practice. That is, all registration payments will require recognition when they are both probable and
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Annual Report - FY 2010
reasonably estimable. The Company does not currently believe that damages are probable.
As the investors may sell the Convertible Notes and shares underlying freely pursuant to Rule 144, thus there are no
liquidated damages.
Foreign Currencies - The Company’s subsidiaries based in PRC and Genesis maintain their books and records in
Renminbi, their functional currency. In accordance with guidance now incorporated in ASC Topic 830 (formerly FAS
52), foreign currency transactions in RMB are reflected using the temporal method. Under this method, all monetary
items are translated into the functional currency at the rate of exchange prevailing at the balance sheet date.
Non-monetary items, including shareholder equity, are translated at historical rates. Income and expenses are translated
at the rate in effect on the transaction dates. Transaction gains and losses, if any, are included in the determination of
net income for the period. The parent company (CAAS) and Henglong USA Corporation (HLUSA), maintain their
books and records in U.S. dollars, “USD,” the currency of U.S.A., their functional currency.
In translating the financial statements of the Company’s China subsidiaries and Genesis from their functional currency
into the Company's reporting currency of United States dollars, balance sheet accounts are translated using the closing
exchange rate in effect at the balance sheet date and income and expense accounts are translated using an average
exchange rate prevailing during the reporting period. Adjustments resulting from the translation, if any, are included in
cumulative other comprehensive income (loss) in stockholders’ equity.
Certain Relationships And Related Transactions-
The following related parties are related through common ownership with the major shareholders of the Company:
Jingzhou Henglong Fulida Textile Co., Ltd., “Jingzhou”
Xiamen Joylon Co., Ltd., “Xiamen Joylon”
Shanghai Tianxiang Automotive Parts Co., Ltd., “Shanghai Tianxiang”
Shanghai Fenglong Materials Co., Ltd., “Shanghai Fenglong”
Changchun Hualong Automotive Technology Co., Ltd., “Changchun Hualong”
Jiangling Tongchuang Machining Co., Ltd., “Jiangling Tongchuang”
Beijing Hualong Century Digital S&T Development Co., Ltd., “Beijing Hualong”
Jingzhou Jiulong Material Co., Ltd., “Jiulong Material”
Shanghai Hongxi Investment Inc., “Hongxi”
Hubei Wiselink Equipment Manufacturing Co., Ltd., “Hubei Wiselink”
Jingzhou Tongyi Special Parts Co., Ltd., “Jingzhou Tongyi”
Jingzhou Derun Agricultural S&T Development Co., Ltd., “Jingzhou Derun”
Jingzhou Tongying Alloys Materials Co., Ltd., “Jingzhou Tongying”
WuHan Dida Information S&T Development Co., Ltd., “WuHan Dida”
Hubei Wanlong Investment Co., Ltd., “Hubei Wanlong”
Jiangling Yude Machining Co., Ltd., “Jiangling Yude”
Wiselink Holdings Limited., “Wiselink”
Principal policies of the Company in connection with transaction with related parties are as follows:
Products sold to related parties – The Company sold products to related parties at fair market prices, and also granted
them credit of three to four months on an open account basis. These transactions were consummated under similar
terms as the Company's other customers.
Materials purchases from related parties – The Company purchased materials from related parties at fair market prices,
and also received from them credit of three to four months on an open account basis. These transactions were
consummated under similar terms as the Company's other suppliers.
Equipment and production technology purchased from related parties - The Company purchased equipment and
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Annual Report - FY 2010
production technology from related parties at fair market prices, or reasonable cost plus pricing if fair market prices are
not available and was required to pay in advance based on the purchase agreement between the two parties, because
such equipment manufacturing and technology development was required for a long period. These transactions were
consummated under similar terms as the Company's other suppliers.
Recent Accounting Pronouncements
In April 2010, the FASB issued an authoritative pronouncement on the effect of denominating the exercise price of a
share-based payment award in the currency of the market in which the underlying equity securities trades and that
currency is different from (1) entity’s functional currency, (2) functional currency of the foreign operation for which
the employee provides services, and (3) payroll currency of the employee. The guidance clarifies that an employee
share-based payment award with an exercise price denominated in the currency of a market in which a substantial
portion of the entity’s equity securities trades should be considered an equity award assuming all other criteria for
equity classification are met. The pronouncement will be effective for interim and annual periods beginning on or after
December 15, 2010, and will be applied prospectively. Affected entities will be required to record a cumulative
catch-up adjustment for all awards outstanding as of the beginning of the annual period in which the guidance is
adopted. The adoption of this pronouncement does not have a significant impact on the Company’s consolidated
financial position, results of operations or cash flows.
In July 2010, the FASB issued new disclosure guidance related to the credit quality of financing receivables and the
allowance for credit losses. The guidance will require companies to provide more information about the credit quality
of their financing receivables in the disclosures to financial statements including, but not limited to, significant
purchases and sales of financing receivables, aging information and credit quality indicators. The Company adopted
this accounting standard upon its effective date for years ending on or after December 15, 2010. The Company has
evaluated the new disclosure requirement in accordance with the accounting guidance and the adoption did not have a
significant impact on the Company’s financial position, results of operations or cash flows.
In December 2010, FASB issued revised guidance on the “Disclosure of Supplementary Pro Forma Information for
Business Combinations.” The revised guidance specifies that if a public entity presents comparative financial
statements, the entity should disclose revenue and earnings of the combined entity as though the business
combination(s) that occurred during the current year had occurred as of the beginning of the comparable prior annual
reporting period only. The revised guidance also expands the supplemental pro forma disclosures to include a
description of the nature and amount of material, nonrecurring pro forma adjustments directly attributable to the
business combination included in the reported pro forma revenue and earnings. The revised guidance is effective
prospectively for business combinations for which the acquisition date is on or after the beginning of the first annual
reporting period beginning on or after December 15, 2010. The Company has not early adopted the new guidance and
the adoption will not have a significant impact on the Company’s financial position, results of operations or cash flows.
In October 2009, the FASB issued Accounting Standards Update (ASU) No. 2009-13 Revenue Recognition (ASC 605):
Multiple-Deliverable Revenue Arrangement, which changes the requirements for establishing separate units of
accounting in a multiple element arrangement and requires the allocation of arrangement consideration to each
deliverable based on the relative selling price. The selling price for each deliverable is based on vendor-specific
objective evidence (VSOE) if available, third-party evidence if VSOE is not available, or best estimated selling price if
neither VSOE or third-party evidence is available. ASU 2009-13 is effective for revenue arrangements entered into in
fiscal years beginning on or after June 15, 2010. The adoption of the guidance is not expected to have a significant
impact on the Company’s financial position, results of operations or cash flows.
In January 2010, the FASB issued new standards in ASC 820, Fair Value Measurements and Disclosures. These
standard required new disclosures on the amount and reason for transfers in and out of Level 1 and 2 fair value
measurements. The standards also require disclosure of activities, including purchases, sales, issuances, and settlements
within the Level 3 fair value measurements. The standard also clarifies existing disclosure requirements on levels of
disaggregation and disclosures about inputs and valuation techniques. The new disclosures regarding Level 1 and 2 fair
value measurements and clarification of existing disclosures are effective for the Company beginning with its first
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Annual Report - FY 2010
interim filing in 2010. The disclosures about the rollforward of information in Level 3 are required for the Company
with its first interim filing in 2011. The Company is currently evaluating the impact these standards will have on its
financial condition, results of operations, or cash flows.
In January 2010, the FASB issued ASU No. 2010-01, Equity (ASC 505): Accounting for distributions to Shareholders
with Components of Stock and Cash (A Consensus of the FASB Emerging Issues Task Force). This amendment to
ASC 505 clarifies the stock portion of a distribution to shareholders that allow them to elect to receive cash or stock
with a limit on the amount of cash that will be distributed is not a stock dividend for purposes of applying ASC 505 and
260. Effective for interim and annual periods ending on or after December 15, 2009, and would be applied on a
retrospective basis. The adoption of the guidance did not have a material effect on the financial position, results of
operations or cash flows of the Company.
4. Accounts and Notes Receivable
The Company’s accounts receivable at December 31, 2010 and 2009 are summarized as follows:
Accounts receivable
Notes receivable
Less: allowance for doubtful accounts
Balance at end of year
December 31,
2010
2009
$ 122,379,968 $ 104,120,926
76,407,523 56,062,744
198,787,491 160,183,670
(5,320,378 )
$ 195,858,988 $ 154,863,292
(2,928,503 )
Notes receivable represents accounts receivable in the form of bills of exchange whose acceptances and settlements are
handled by banks.
As of December 31, 2010, the Company has pledged $7,500,000 of accounts receivable as security for its
comprehensive credit facility with the banks in China.
The activity in the Company’s allowance for doubtful accounts of accounts receivable during the years ended
December 31, 2010, 2009 and 2008 are summarized as follows:
Balance at beginning of year
Amounts provided for during the year
Amounts reversed of collection during the year
Foreign currency translation
Balance at end of year
5. Other Receivables
2008
2010
Year Ended December 31
2009
$ 5,320,378 $ 4,910,478 $ 3,827,838
25,729 1,171,429 1,670,964
(829,886 )
(765,201 )
241,562
3,672
$ 2,928,503 $ 5,320,378 $ 4,910,478
(2,582,693 )
165,089
The Company’s other receivables at December 31, 2010 and 2009 are summarized as follows:
Other receivables
Less: allowance for doubtful accounts
Balance at end of year
December 31,
2010
3,501,967 $
(700,533 )
2,801,434 $
2009
1,804,334
(740,110 )
1,064,224
$
$
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Annual Report - FY 2010
Other receivables consist of amounts advanced to both related and unrelated parties, primarily as unsecured demand
loans, with no stated interest rate or due date.
The activity in the Company’s allowance for doubtful accounts of other receivable during the year ended December 31,
2010, 2009 and 2008 are summarized as follows:
Balance at beginning of year
Amounts provided for during the year
Amounts reversed of collection during the year
Foreign currency translation
Balance at end of year
6. Inventories
$
$
Year Ended December 31
2009
659,837 $
113,905
(34,287 )
655
740,110 $
2010
740,110 $
102,522
(165,066 )
22,967
700,533 $
2008
652,484
62,856
(104,120 )
48,617
659,837
The Company’s inventories at December 31, 2010 and 2009 consisted of the following:
December 31,
Raw materials
Work in process
Finished goods
Less: provision for loss
Balance at end of year
$
$
$
2010
11,905,832
7,702,816
19,191,311
38,799,959
(1,929,687 )
36,870,272
$
2009
10,683,448
6,824,137
12,017,195
29,524,780
(2,109,083 )
27,415,697
Provision for inventories valuation amounted to $0.4 million, $1 million and $0.02 million for the years ended
December 31, 2010, 2009 and 2008, respectively.
7. Long-term Investments
On December 31, 2010 and 2009, the Company’s balance of long-term investment was $3,162,136 and $79,084,
respectively. As discussed in note 3, for the long-term investments that the Company has no voting control, such
investments were accounted for using the equity method or cost method, respectively.
On January 24, 2010, the Company invested $ 3,095,414 to establish a joint venture company with the other
shareholder, Beijing Hainachuan Henglong steering System Co., Ltd., “Beijing Henglong,” the Company owns 50%
equity, as discussed in Note 1. The Company accounted its operation results with the equity method. On December 31,
2010, the Company has $3,080,598 of net equity in Beijing Henglong. Summarized statement of balance sheet data of
Beijing Henglong for the years ended December 31 is as follows:
Current assets
Other assets
Total assets
Current liabilities
Other liabilities
December 31,
2010
2009
$ 4,462,788 $
4,530,395
$ 8,993,183 $
$
586,678 $
2,245,308
—
—
—
—
—
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Shareholders’ equity
Total liabilities and shareholders’ equity
Annual Report - FY 2010
6,161,197
$ 8,993,183 $
—
—
Summarized statement of operations data for the years ended December 31 is as follows:
Net Sales
2010
2009
2008
2010
Gross Margin
2009
2008
Net Income(Loss)
2010
2009
2008
Beijing
Henglong
$ — $ — $ — $ — $
— $
— $ (29,631 ) $ — $ —
The Company’s share of net assets and net income is reported in the consolidated financial statements as “long-term
investment” on the consolidated balance sheets and “other income” on the consolidated statements of operations. The
Company’s consolidated financial statement contains the loss of non-consolidated affiliates of $14,816 and $0 at
December 31, 2010 and 2009, respectively.
8. Property, Plant and Equipment
The Company’s property, plant and equipment at December 31, 2010 and 2009 are summarized as follows:
December 31,
2010
2009
As Restated
Costs:
Land use rights and buildings
Machinery and equipment
Electronic equipment
Motor vehicles
Construction in progress
Less: Accumulated depreciation
Balance at end of year
$
$
$
36,983,940
81,905,845
5,840,308
2,902,738
4,686,699
132,319,530
(56,938,783 )
75,380,747
$
33,100,702
62,982,885
5,054,502
2,634,696
1,939,256
105,712,041
(47,182,594 )
58,529,447
Depreciation charges for the years ended December 31, 2010, 2009 and 2008 were $9,416,451, $8,429,863 and
$9,672,948, respectively.
As of December 31, 2010, the Company has pledged $41,000,000 of property, plant and equipment as security for its
comprehensive credit facilities with the banks in China.
9. Intangible Assets
The activity in the Company’s intangible asset account during the years ended December 31, 2010 and 2009 are
summarized as follows:
Costs:
Patent technology
Management software license
Less: Accumulated amortization
December 31,
2010
2009
509,221
$ 1,536,268 $ 1,384,037
438,359
2,045,489 1,822,396
(1,383,400 ) (1,261,007 )
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Annual Report - FY 2010
Balance at end of the year
$
662,089 $
561,389
For the years ended 2010, 2009 and 2008, amortization expenses were $81,167, $254,306 and $252,044, respectively.
The estimated aggregated amortization expense for the five succeeding years is $650,000 with $130,000 for each year.
10. Deferred Income Tax Assets
In accordance with the provisions of ASC Topic 740 “Income Taxes” (formerly SFAS 109), the Company assesses, on
a quarterly basis, its ability to realize its deferred tax assets. Based on the more likely than not standard in the guidance
and the weight of available evidence, the Company believes a valuation allowance against its deferred tax assets is
necessary. In determining the need for a valuation allowance, the Company considered the following significant factors:
an assessment of recent years’ profitability and losses; the Company’s expectation of profits based on margins and
volumes expected to be realized (which are based on current pricing and volume trends); the long period - ten years or
more in all significant operating jurisdictions — before the expiry of net operating losses, noting further that a portion
of the deferred tax asset is composed of deductible temporary differences that are subject to an expiry period until
realized under tax law. The Company will continue to evaluate the provision of valuation allowance in future periods.
The components of deferred income tax assets at December 31, 2010 and 2009 were as follows:
Losses carryforward (U.S.)
Losses carryforward (PRC)
Product warranties and other reserves
Property, plant and equipment
Accrued make-whole interest expense for convertible notes
Share-based compensation
Bonus accrual
All other
Valuation allowance (1)
Total deferred tax assets (2)
December 31,
2010
2,422,312 $
804,147
2,871,844
3,271,594
2,320,938
366,464
182,970
144,303
12,384,571
(5,913,860 )
6,470,711 $
$
$
2009
As Restated
2,089,985
659,774
3,164,674
3,112,550
1,667,320
289,705
306,030
395,649
11,685,687
(4,821,210 )
6,864,477
(1) The net operating loss carry forwards for the U.S. entity for income tax purposes is available to reduce future years'
taxable income. These carry forwards will expire, if not utilized, in 20 years. Net operating loss carryforwards for
non-U.S. entities can be carried forward for 5 years to offset taxable income. However, as of December 31, 2010,
valuation allowance was $5,913,860, including $5,109,713 allowance for the Company’s deferred tax assets in the U.S.
and $804,147 allowance for the Company’s non-U.S. deferred tax assets. Based on the Company’s current operations
in the U.S., management believes that the deferred tax assets in the US are not likely to be realized in the future. For the
non-U.S. deferred tax assets, pursuant to certain tax laws and regulations in China, the management believes such
amount will not be used to offset future taxable income.
(2) Approximately $3,271,594 and $2,998,124 of deferred income tax asset as of December 31, 2010 and 2009,
respectively, is included in non-current deferred tax assets in the accompanying consolidated balance sheets. The
remaining $3,199,117 and $3,866,353 of deferred income tax asset as of December 31, 2010 and 2009 respectively, is
included in the current deferred tax assets.
The activity in the Company’s valuation allowance for deferred tax assets during the year ended December 31, 2010,
2009 and 2008 are summarized as follows:
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Annual Report - FY 2010
Year Ended December 31
2009
2008
2010
$ 4,821,210 $
1,269,127
(200,500 )
24,023
$ 5,913,860 $
As Restated As Restated
1,921,954
1,545,976
(27,020 )
18,754
3,459,664
3,459,664 $
1,452,022
(91,037 )
561
4,821,210 $
Balance at beginning of year
Amounts provided for during the year
Amounts recovered during the year
Foreign currency translation
Balance at end of year
11. Bank Loans
At December 31, 2010, the Company, through its Sino-foreign joint ventures, had outstanding fixed-rate short-term
bank loans’ principal of $6,794,812, with weighted average interest rate at 5.25 % per annum. Interest is to be paid on
the twentieth day of each month and the principal repayment is at maturity. These loans are secured with some of the
property and equipment of the Company and are repayable within one year. Details as follows:
(1)
(2)
(3)
On May 26, 2010, China CITIC Bank loaned $2,264,937 to the Company at an annual interest rate of
5.31%, and maturity term of twelve months. The Company has repaid $2,264,937 of short-term
borrowings to China CITIC Bank on May 26, 2011.
On November 12, 2010, Industrial and Commercial Bank of China loaned $1,509,958 to the Company
at an annual interest rate of 5.96%, and maturity terms of six month. The Company has repaid
$1,509,958 of short-term borrowings to Industrial and Commercial Bank of China on May 12, 2011,
and Industrial and Commercial Bank of China loaned $1,509,958 to the Company again on that day at
annual interest rate of 6.31%, and maturity term of six months.
On June 17, 2010, China Construction Bank loaned $3,019,917 to the Company at an annual interest
rate of 5.31%, and maturity term of twelve months. The Company has adequate funds to repay to China
Construction Bank at maturity date, and China Construction Bank has agreed to continue lending to the
Company, if the Company needs.
At December 31, 2009, the Company, through its Sino-foreign joint ventures, had outstanding fixed-rate short-term
bank loans’ principal of $5,125,802, with weighted average interest rate at 5.68 % per annum. Interest is to be paid on
the twentieth day of each month and the principal repayment is at maturity. These loans are secured with some of the
property and equipment of the Company and are repayable within one year. The Company has repaid such loans at
maturity dates in 2010.
12. Accounts and notes payable
The Company’s accounts and notes payable at December 31, 2010 and 2009 are summarized as follows:
Accounts payable
Notes payable
Balance at end of year
December 31,
2010
2009
$ 95,726,549 $ 69,454,231
52,790,874 38,041,602
$ 148,517,423 $ 107,495,833
Notes payable represent accounts payable in the form of bills of exchange whose acceptances and settlements are
handled by banks.
The Company has pledged cash deposits, accounts receivable and certain property plant and machinery as security for
its comprehensive credit facility with the banks in China.
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Annual Report - FY 2010
13. Convertible Notes payable
In February 2008, the Company sold to two accredited institutional investors $35 million of Convertible Notes, the
"Convertible Notes,” with a scheduled maturity date of February 15, 2013. The Convertible Notes, including any
accrued but unpaid interest, are convertible into common shares of the Company at a conversion price of $8.8527 per
share, subject to adjustment upon the occurrence of certain events.
The Convertible Notes bear annual interest rates of 3%, 3.5%, 4%, 4.5% and 5% for each year of 2008, 2009, 2010,
2011 and 2012, respectively. The interest on the Convertible Notes shall be computed commencing from the issuance
date and will be payable in cash in arrears semi-annually on January 15, and July 15 of each year with the first interest
payable date being July 15, 2008. From and after the occurrence and during the continuance of an Event of Default
defined in the relevant Convertible Notes agreements, the interest rate then in effect shall be increased by two percent
(2%) until the event of default is remedied.
The holders of the Convertible Notes will be entitled to convert any portion of the conversion notes into shares of
common stock at the conversion price at any time or times on or after the thirtieth (30th) day after the issuance date and
prior to the thirtieth (30th) Business Day prior to the expiry date of the Convertible Notes. A penalty will be paid if
share certificates are not delivered timely after any conversion.
The Company will have the right to require the Convertible Notes holders to convert a portion of the conversion
amount then remaining under the Convertible Notes obligation into shares of common stock, “ Mandatory
Conversion,” if at any time during a six-month period, the beginning day of each such six-month period, a “Mandatory
Conversion Period Start Date,” the arithmetic average of the weighted average price of the common stock for a period
of at least thirty (30) consecutive trading days following the Mandatory Conversion Period Start Date equals or exceeds
the percentage set forth in the chart below multiplied by $8.8527as applicable to the indicated six month period:
0-6 months:
6-12 months:
12-18 months:
18-24 months:
24-30 months:
30-36 months:
36-42 months:
42-48 months:
125 %
125 %
135 %
135 %
145 %
145 %
155 %
155 %
The Company will not effect a Mandatory Conversion of more than twelve percent (12%) of the original principal
amount of the Convertible Notes, with the applicable accrued but unpaid interest, in any six month period or
twenty-four percent (24%) of the original principal amount of the Convertible Notes, with the applicable accrued but
unpaid interest, in any twelve (12) month period.
The Company will not effect any conversion of the Convertible Notes, and each holder of the Convertible Notes will
not have the right to convert any portion of the Convertible Notes to the extent that after giving effect to such
conversion, such holders would beneficially own in excess of 4.99% of the number of shares of Common Stock
outstanding immediately after giving effect to such conversion.
On each six month anniversary of the issuance date beginning August 15, 2008, the conversion price will be adjusted
downward to the Reset Reference Price, as defined below, if the weighted average price for the twenty (20) consecutive
trading days immediately prior to the applicable six month anniversary ( the “Reset Reference Price”) is less than 95%
of the conversion price in effect as of such applicable six month anniversary date. The foregoing notwithstanding, the
conversion price will not be reduced via such reset provision to less than $7.0822. The conversion price is also subject
to weighted-average antidilution adjustments, but in no event will the conversion price be reduced to less than $6.7417.
If and whenever on or after the issuance date, the Company issues or sells its shares of Common Stock or other
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Annual Report - FY 2010
convertible securities, except for certain defined exempt issuances, for a consideration per share less than a price equal
to the conversion price in effect on the issuance date immediately prior to such issue or sale, the original conversion
price then in effect shall be adjusted by a weighted-average antidilution formula.
As indicated above, according to the terms of the Convertible Notes, the conversion price was reset to $7.0822 as of
August 15, 2008 based on the weighted average price of the stock on that date. In accordance with ASC Topic 470
(formerly EITF 00-27), a contingency feature that cannot be measured at inception of the instrument should be
recorded when the contingent event occurs. Therefore, on the date of the reset, the difference in the number of indexed
shares prior to the reset was compared to the indexed shares subsequent to the reset and this incremental number of
shares was multiplied by the commitment date stock price to determine the incremental intrinsic value that resulted
from the adjustment to the conversion price. At the commitment date, as the effective conversion price was higher than
the market value of the stock, no beneficial conversion feature was present and therefore, no beneficial conversion
charge was recorded.
As of August 15, 2008, the number of indexed shares was 3,953,596 and 4,941,967 at the inception conversion price
and reset conversion price, respectively. At the commitment date, the stock price was $6.09, and the “effective”
conversion price was $6.93. Accordingly, since the effective conversion price was higher than the market value of the
stock, the debt instruments are not considered "in the money" and no beneficial conversion feature is present.
Upon the occurrence of an event of default with respect to the Convertible Notes, the Convertible Note holders may
require the Company to redeem all or any portion of the Convertible Notes. Each portion of the Convertible Notes
subject to redemption by the Company will be redeemed by the Company at a price equal to the sum of (i) the
conversion amount to be redeemed and (ii) the Other Make Whole Amount. The “Other Make Whole Amount” will
mean a premium to the conversion amount such that the total amount received by the Convertible Notes holder upon
redemption represents a gross yield to the Convertible Notes holders on the original principal amount as of the
redemption date equal to thirteen percent (13%), with interest computed on the basis of actual number of days elapsed
over a 360-day year. The events of default includes the Company’s failure to cure a conversion failure by delivery of
the required number of shares of Common Stock, the Company’s failure to pay to the Convertible Notes holder any
amount of principal, interest, late charges or other amounts when and as due under the Convertible Notes and other
events as defined in the Convertible Notes agreements. Any amount of principal, interest or other amount due under the
Convertible Notes which is not paid when due shall result in a late charge of 18% being incurred and payable by the
Company until such amount has been paid.
Upon the consummation of a change of control as defined in the Convertible Notes agreements, the Convertible Notes
holder may require the Company to redeem all or any portion of the Convertible Notes. The portion of the Convertible
Notes subject to redemption shall be redeemed by the Company in cash at a price equal to the sum of the conversion
amount of being redeemed and the Other Make Whole Amount as defined above.
On each of February 15, 2010 and February 15, 2011, the Convertible Notes holders had the right, in their sole
discretion, to require that the Company redeem the Convertible Notes in whole but not in part, by delivering written
notice thereof to the Company. The portion of this Convertible Notes subject to redemption pursuant to this annual
redemption right will be redeemed by the Company in cash at a price equal to the sum of the conversion amount being
redeemed and the Annual Redemption Make Whole Amount. The “Annual Redemption Make Whole Amount” will
mean a premium to the conversion amount such that the total amount received by the Convertible Notes holder upon
any annual redemption represents a gross yield on the original principal amount of eleven percent (11%), with interest
computed on the basis of actual number of days elapsed over a 360-day year. The Convertible Notes holders did not
exercise their right on either of these dates.
In the event that the Company has not completed the necessary filings to list the conversion shares on its principal
market by the date that is ninety (90) days after the issuance date or has not so listed the conversion shares by the date
that is ninety (90) days after the issuance date or the shares of the Company’s common stock are terminated from
registration under the Securities Act of 1933, the Convertible Notes holders will have the right, in their sole discretion,
to require that the Company redeem all or any portion of the Convertible Notes. The portion of the Convertible Notes
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Annual Report - FY 2010
subject to redemption in connection with this listing default will be redeemed by the Company in cash at a price equal
to the sum of the conversion amount being redeemed and the Other Make Whole Amount as mentioned above.
However, since the Convertible Notes and the underlying shares were registered or the Convertible Notes holders can
otherwise sell under Rule 144, such default did not occur.
At any time following February 15, 2009, if the Weighted Average Price (WAP) for twenty (20) consecutive trading
days is less than 45% of the Conversion Price in effect on the Issuance Date, as adjusted, namely $3.187, the
Convertible Notes holder shall have the right, in its sole discretion, to require that the Company redeem all or any
portion of the Convertible Notes. The portion of this Convertible Notes subject to redemption in connection with the
share price change of the underlying common stock will be redeemed by the Company in cash at a price equal to the
sum of the conversion amount being redeemed and the Other Make Whole Amount as mentioned above.
Since the Company’s stock Weighted Average Price for twenty (20) consecutive trading days ended on March 16, 2009
was below $3.187, which is less than 45% of the Conversion Price in effect as of the Issuance Date, as adjusted, the
“ WAP Default” , each Convertible Notes holder had the right, at its sole discretion, to require that the Company
redeem all or any portion of the Convertible Notes by delivering written redemption notice to the Company within five
(5) business days after the receipt of the Company’s notice of the WAP Default.
On March 17, 2009, the Company delivered two WAP Default notices to the Convertible Notes holders. On March 27,
2009, the Company received a letter from YA Global, one of the Convertible Notes holders, electing to require the
Company to redeem all the three Convertible Notes it held in the total principal amount of $5,000,000, together with
interest, late charges, and the Other Make Whole Amount as defined in Section 5(d) of the Convertible Notes. After
negotiation, the Company and YA Global reached a settlement agreement on April 8, 2009 and under the terms of the
settlement agreement, the Company paid on April 15, 2009 a redemption amount of $5,041,667 to YA Global and YA
Global waived its entitlement to the Other Make Whole Amount.
Following the WAP Default notices, the Company received a letter from the provisional liquidator acting on behalf of
Lehman Brothers Commercial Corporation Asia Limited, the “LBCCA Liquidator,” the other Convertible Notes holder,
requesting an extension until April 24, 2009 to consider its rights under the Convertible Notes. The Company granted
an extension to April 15, 2009. The LBCCA Liquidator further requested another extension to April 24, 2009. On April
24, 2009, LBCCA’s lawyers sent three Holder Redemption Notices via fax electing to redeem the entire outstanding
principal of $30,000,000, together with interest, late charges, if any, and the Other Make Whole Amount, to be paid on
July 23, 2009. The Company discussed settlement with the LBCCA Liquidator, and on or about July 22, 2009, the
Company and the LBCCA Liquidator agreed to extend the applicable holder mandatory redemption date for two
months to September 23, 2009 to give more time to pursue settlement discussion. The Company received a letter dated
September 22, 2009 from the LBCCA Liquidator stating that upon the Company’s acceptance of the revocation, all
holder redemption notices dated April 24, 2009 shall be immediately revoked as if they were never issued, and the
letter and the revocation did not purport to amend, restate or supplement any other terms and conditions under the three
Notes and the Securities Purchase Agreement dated 1 February 2008 between the Company and LBCCA Liquidator.
The Company accepted such revocation on September 23, 2009.
In connection with the Convertible Notes, the Company issued 1,317,864 detachable warrants, the “Warrants,” to
purchase from the Company shares of common stock of the Company at the exercise price of $8.8527 per share. The
Warrants are exercisable immediately and expired on February 15, 2009. The Warrants require net cash settlement in
the event that there is a fundamental transaction, contractually defined as a merger, sale of substantially all assets,
tender offer or share exchange. Due to this contingent redemption provision, in accordance with guidance now
incorporated in ASC Topic 480 (formerly SFAS 150), the warrants require liability classification and must be recorded
at fair value each reporting period. As of the issuance date, i.e., February 15, 2008, the fair value of warrants was
$798,626, which was determined using the Black-Scholes option pricing model.
On February 15, 2009, the warrants expired unexercised and the warrants were forfeited. Accordingly, the value of the
warrants has been recorded in the income statement as a loss on change in fair value of derivative. (See note 28)
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Annual Report - FY 2010
On the issuance date, February 15, 2008, the Company has evaluated the Convertible Notes for terms and conditions
that would be considered to be features of embedded derivatives. Generally, such features would be required to be
separated from the host contract and accounted for as derivative financial instruments when certain conditions are met.
Certain features, such as the conversion option, were found to be exempt, as they satisfied the conditions as set forth in
ASC Topic 815 (formerly the paragraph 11(a) of SFAS 133) for instruments that are being (1) indexed with the
Company’s own stock, and (2) classified as equity in financial position statement. Other features, such as puts were not
required to be bifurcated from the debt host as they are clearly and closely associated with the risk of the debt-type host
instrument.
As more fully discussed in Note 3, as of January 1, 2009, the Company adopted and applied the guidance as set forth
under to ASC 815 Derivatives and Hedging Activities. As a result of adopting the provisions of ASC 815-40(EITF
07-5), the Company was required to bifurcate the embedded conversion feature from the Convertible Debt and classify
that financial instrument in liabilities, at fair value. The Company has accounted for this change in accounting principle
by reflecting the cumulative effect as an adjustment to its beginning retained earnings during the year ended December
31, 2009. The cumulative effect adjustment that the Company made is the difference between the amounts that it has
recognized on the Convertible Notes Payable (prior to the adoption of ASC815-40) and the amounts that would have
been recognized if the amended guidance had been effective on the issuance date of the Convertible Notes Payable,
which was February 15, 2008. The following table reflects the cumulative effect of the differences:
Convertible notes payable
Value allocated to debt
Warrants（1）
Compound Embedded Derivative（2）
face value of Convertible Notes payable
Unamortized discount
Unamortized value as of December 31, 2008
Unamortized value as of January 1, 2009
Original Allocation
34,201,374
$
798,626
-
35,000,000
660,193
34,339,807
-
$
$
$
$
Revised
Allocation
28,379,704
798,626
5,821,670
35,000,000
3,891,148
-
31,108,852
$
(1) The discount on original issuance reflects the fair value of the warrants of $798,626 at issuance date
(2) Reflects the fair value of the embedded conversion feature of $5,821,670
As indicated above, on the date of the Convertible Note issuance, allocation of basis in the financing arrangement to the
warrants has resulted in an original issue discount to the face value of the Convertible Notes in the amount of $798,626,
of which the amount will be accreted to its face value over the term of the Convertible Note using the effective method.
As of December 31, 2008, the interest expense recorded by the Company was $138,433, and the unamortized discount
was $660,193. On January 1, 2009, the Company adopted and applied the provision of ASC 815 Derivatives and
Hedging Activities (effective on January 1, 2009). The accounting for the cumulative effect change in this accounting
principle resulted in a discount of $6,620,296, including $798,626 discount resulting from Warrants and $5,821,670
from the embedded conversion feature of the original unamortized discount and the subsequent amortization using the
effective interest method. On January 1, 2009, unamortized discount was $3,891,148.
As indicated above, due to the Company’s WAP Default on March 17, 2009, the Convertible Notes holders have the
option to elect to exercise their rights to require the Company to redeem the Convertible Notes. The remaining amount
of $3,891,148 unamortized discount on the Convertible Note was recorded to its full face value and the redemption
make-whole amount of $520,000. On April 8, 2009, the Company and YA Global reached a settlement agreement,
whereby under the terms of the settlement agreement, the Company paid a redemption amount of $5,000,000 of
principal and $41,667 of interest to YA Global, and accrual of $571,181 for make-whole redemption interest to YA
Global was waived. On September 22, 2009, LBCCA Liquidator revoked the redemption notices that were sent on
April 24, 2009, and continued to hold the Company’s Convertible Notes, of which the face value was $30,000,000. The
Company accepted such revocation on September 23, 2009.
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Annual Report - FY 2010
On December 31, 2010 and 2009, the Company has accreted the Convertible Notes to their full face value, including
make-whole redemption amount of $36,631,251 and $34,763,771, respectively.
14. Compound derivative liabilities
Effective on January 1, 2009, the Company adopted the provisions of ASC 815 Derivatives and Hedging Activities that
address the determination of whether an instrument meets the definition of a derivative being indexed to a company’s
own stock for purposes of applying the scope exception as provided for in accordance with ASC 815-15. Upon
adoption of the standard on the effective date, the embedded conversion option that is embedded in the Company’s
Convertible Notes Payable (see Note 13) no longer met the definition because it embodied certain anti-dilution
protections that are not based on input to the fair value of a fixed-for-fixed option. As a result, the embedded
conversion feature required bifurcation, classification in liabilities and measurement at fair value at each reporting
period, with changes reflected in earnings, until the Convertible Notes are settled.
The Company’s derivative financial instruments (liabilities) consisted of a compound embedded derivative that
originated in connection with its Convertible Notes Payable (as described in Note 13) and Warrant (as described in
Note 17). Derivative liabilities are carried at fair value.
The following table summarizes the fair value of derivative liabilities as of December 31, 2010 and 2009:
Financial Instrument
Derivative liability
Common shares to which the derivative liability is linked
December 31，
2010
2009
As Restated
$ 25,271,808 $
4,235,972
45,443,506
4,235,972
Changes in the fair value of derivative liabilities are recorded in gain (loss) on change in fair value of derivative in the
income statement. The following tables summarize the components of gain (loss) on change in fair value of derivative
arising from fair value adjustments during the years ended December 31, 2010, 2009 and 2008:
Balances at January 1
Cumulative effect change in accounting principle
Subtotal
Fair value adjustments
Balances at December 31
2010
2009
2008
$ 45,443,506 $
—
45,443,506
As Restated As Restated
—
— $
—
2,367,202
—
2,367,202
(20,171,698 )
43,076,304
$ 25,271,808 $ 45,443,506 $
—
—
Estimating fair values of derivative financial instruments requires the development of significant and subjective
estimates that may, and are likely to, change over the duration of the instrument with related changes in internal and
external market factors. In addition, option-based techniques are highly volatile and sensitive to changes in the trading
market price of the Company’s common stock, which has a high estimated volatility. Since derivative financial
instruments are initially and subsequently carried at fair values, the Company’s income will reflect the volatility in
these estimate and assumption changes.
The following table sets forth the range of inputs for each significant assumption and the equivalent, or averages, of
each significant assumption as of December 31, 2010 and 2009 and January 1, 2009 (effective date of accounting
principle change):
Page | 92
December 31, 2010 Assumptions:
Volatility
Market adjusted interest rates
Credit risk adjusted rates
Implied expected life (years)
December 31, 2009 Assumptions:
Volatility
Market adjusted interest rates
Credit risk adjusted rates
Implied expected life (years)
January 1, 2009 Assumptions:
Volatility
Market adjusted interest rates
Credit risk adjusted rates
Implied expected life (years)
Annual Report - FY 2010
Range
Low
High
Equivalent
43.14 %
5.14 %
14.75 %
—
76.00 %
20.15 %
15.82 %
—
63.00 %
9.64 %
15.11 %
1.73
Range
Low
High
Equivalent
68.86 %
6.40 %
13.39 %
—
81.94 %
7.87 %
14.20 %
—
76.71 %
7.05 %
13.63 %
1.96
Range
Low
High
Equivalent
63.09 %
4.14 %
21.58 %
—
91.15 %
17.01 %
24.97 %
—
74.02 %
7.15 %
23.20 %
4.27
The Monte Carlo Simulations technique requires the use of inputs that range across all levels in the fair value hierarchy.
As a result, the technique is a Level 3 valuation technique in its entirety. The calculations of fair value utilized the
Company’s trading market values on the calculation dates. The contractual conversion prices were adjusted to give
effect to the value associated with the down-round, anti-dilution protection. Expected volatility for each interval in the
Monte Carlo Simulations process was established based upon the Company’s historical volatility for historical periods
consistent with the term of each interval in the calculation. Market adjusted interest rates give effect to expected trends
or changes in market interest rates by reference to historical trends in LIBOR. Credit risk adjusted rates, or yields, were
developed using bond curves, risk free rates, market and industry adjustment factors for companies with similar credit
standings as the Company’s.
15. Accrued expenses and other payables
The Company’s accrued expenses and other payables at December 31, 2010 and 2009 are summarized as follows:
Accrued expenses
Accrued interest (1)
Other payables
Warranty reserves
Dividend payable to minority interest shareholders of Joint-ventures
Balance at end of year
December 31,
2010
2009
As Restated
$ 3,627,768 $
7,143,751
2,826,354
13,944,392
1,530,445
$ 29,072,710 $
4,160,433
5,751,270
1,706,946
9,092,464
1,761,339
22,472,452
(1)On December 31, 2010 and 2009, the Company’s balance of accrued interest was $7,143,751 and $5,751,270,
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Annual Report - FY 2010
respectively, consisting $6,631,251 and $4,763,771 of an accrued provision on make-whole redemption interest (see
Note 16) pursuant to the term of Convertible Notes. Remaining interest was accrued interest, including coupon interest
of Convertible Notes and bank loans interest.
16. Accrued make-whole redemption interest expense for Convertible Notes
In February 2008, the Company sold to two accredited institutional investors $35 million of convertible notes, the
"Convertible Notes,” with a scheduled maturity date of February 15, 2013. Pursuant to the term of the Convertible
Notes, on each of February 15, 2010 and February 15, 2011, the Convertible Note holders have the right, in their sole
discretion, to require that the Company redeem the Convertible Notes in whole but not in part, by delivering written
notice thereof to the Company. The portion of this Convertible Note subject to redemption pursuant to this annual
redemption right will be redeemed by the Company in cash at a price equal to the sum of the conversion amount being
redeemed and the Annual Redemption Make Whole Amount. The “Annual Redemption Make Whole Amount” will
mean a premium to the conversion amount such that the total amount received by the Convertible Note holder upon any
annual redemption represents a gross yield on the original principal amount of eleven percent (11%), with interest
computed on the basis of actual number of days elapsed over a 360-day year. The make-whole redemption interest is
recorded under accrued interest (see note 15).
For the years ended December 31, 2010, 2009, and 2008, the accrued provision on make-whole redemption interest
pursuant to the term of Convertible Notes were as follows:
Year Ended December 31
2009
2008
2010
Balance at beginning of year
Amounts provided for during the year
Amount waived during the year
Balance at end of year
17. Warrants
$ 4,763,771 $
1,867,480
—
$ 6,631,251 $
As Restated As Restated
—
2,038,729
—
2,038,729
2,038,729 $
3,296,223
(571,181 )
4,763,771 $
In connection with the Convertible Notes, the Company issued 1,317,864 detachable warrants to purchase from the
Company shares of common stock at the exercise price of $8.8527 per share, subject to adjustments upon certain events
occurring as defined in the debt agreement. The Warrants were exercisable immediately and expired on February 15,
2009.
The exercise price or the number of shares to be converted by the Warrant will be adjusted in the event of no effective
Registration Statement or delayed effectiveness of the Registration Statement. In addition a damage penalty will be
paid if the delivery of share certificates occurs upon the Warrants conversion.
The Company will not effect any conversion of a Warrant, and each holder of any Warrant will not have the right to
convert any portion of such Warrant to the extent that after giving effect to such conversion, each of these two holders
would beneficially own in excess of 4.99% of the number of shares of Common Stock outstanding immediately after
giving effect to such conversion.
If and whenever on or after the issuance date, the Company issues or sells its shares of common stock or other
convertible securities for a consideration per share less than a price equal to the exercise price of a Warrant in effect on
the issuance date immediately prior to such issue or sale, the exercise price of such Warrant then in effect will be
adjusted.
The warrants issued in connection with the financial arrangement were derivative instruments. The warrants require net
cash settlement in the event that there is a fundamental transaction, contractually defined as a merger, sale of
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Annual Report - FY 2010
substantially all assets, tender offer or share exchange.
In accordance with guidance now incorporated in ASC Topic 480 (formerly SFAS 150), it appears that the warrants
require liability classification due to the possible cash redemption upon the event of an all cash acquisition. This
guidance clarifies that warrants that contain any redemption features, including contingent redemption features, must be
recorded as liabilities and marked to fair value each reporting period. As of the issuance date, i.e., February 15, 2008,
the fair value of warrants was $798,626. Such warrant liabilities were adjusted to its estimated fair value at the
completion of each reporting period until the maturity of February 15, 2009.
The warrant agreements contain strike price adjustment provisions. In accordance with Section 8(iii) of the warrant
agreements, if the conversion rate of any outstanding Convertible Instruments, including the Convertible Notes
themselves changes at any time, the warrant exercise price in effect at the time of the change will be adjusted based on
the weighted average formula provided in Section 8(a) of the warrant agreement. As the conversion price of the
Convertible Notes was reset to $7.0822 on August 15, 2008, the first six-month anniversary from the inception date of
the Convertible Notes, the warrants exercise price was adjusted to $8.55 accordingly.
As of August 15, 2008, the Company valued the warrant using conversion price at inception and reset respectively. The
fair value of the warrant is $489,718 at the inception conversion price of $8.8527, and $551,131 at the reset conversion
price of $8.55, respectively.
On February 15, 2009, the warrants expired unexercised and the warrants were forfeited. Accordingly, the value of the
warrants has been recorded in the income statement as gain or loss on change in fair value of derivative. (See note 28)
As of the Issuance Date (February 15, 2008), the Reset date (August 15, 2008) and the end of each reporting period, the
fair value of liabilities in connection with warrants was calculated using the Black-Scholes option pricing model and
based on the following assumptions:
February
15, 2008
Issuance
date
August 15,
2008
Prior to
reset
August 15,
2008
Subsequent to
reset
December
31, 2008
Year end
date
February
15, 2009
Maturity
date
Warrants indexed to common
stock
Strike price Trading market
price
Strike price
Strike price adjustment
Effective strike for
Black-Scholes model
1,317,864
1,317,864
1,317,864
1,317,864
1,317,864
$
$
6.09 $
8.8527 $
-
6.03 $
8.8527 $
- $
6.03 $
8.8527 $
(0.3027 ) $
3.39 $
8.8527 $
(0.3027 ) $
3.30
8.8527
(0.3027 )
$
8.8527 $
8.8527 $
8.5500 $
8.5500 $
8.5500
Term:
Estimated Term (Year)
Volatility Historical volatility
for effective term
Risk-free rate
Dividend yield rates
Fair value of warrants
$
18. Accrued pension costs
1.00
0.50
0.50
0.13
54.60 %
2.02 %
0.00 %
798,626 $
64.00 %
1.99 %
0.00 %
489,718 $
64.00 %
1.99 %
0.00 %
551,131 $
92.36 %
0.11 %
0.00 %
1,977 $
—
—
—
—
—
Most of the employees are located in China. The Company records pension costs and various employment benefits in
accordance with the relevant Chinese social security laws, which is approximately a total of 31% of salary as required
by local governments. Base salary levels are the average salary determined by the local governments.
Page | 95
The activities in the Company’s pension account during the year ended December 31, 2010 and 2009 are summarized
as follows:
Annual Report - FY 2010
Balance at beginning of year
Amounts provided during year
Settlement during the year
Foreign currency translation
Balance at end of year
19. Taxes payable
December 31,
2010
2009
$ 3,778,187 $ 3,806,519
4,308,616 3,738,373
(4,350,721 ) (3,770,220 )
3,515
$ 3,851,988 $ 3,778,187
115,906
The Company’s taxes payable at December 31, 2010 and 2009 are summarized as follows:
Value-added tax payable
Income tax payable
Other tax payable
Balance at end of year
20. Amounts Due to Shareholders/Directors
December 31,
2010
2009
$ 3,203,808 $
3,273,776
383,362
As Restated
9,290,149
1,851,103
340,925
$ 6,860,946 $ 11,482,177
The activity in the amounts due to shareholders/directors during the years ended December 31, 2010 and 2009 is
summarized as follows:
Balance at beginning of the year
Increase (decrease) during the year
Foreign currency translation
Balance at end of year
December 31,
2010
$
$
— $
344,695
9,122
353,817 $
2009
337,370
(337,915 )
545
—
The amounts due to shareholders/directors were unsecured, interest-free and repayable on demand mainly resulted from
expenses paid on behalf of the Company by shareholders/directors.
21. Advances payable
On December 31, 2010 and 2009, advances payable of the Company was $603,983 and $233,941, respectively.
The amounts mainly represent advances made by the Chinese government to the Company as subsidy on interest on
loans related to improvement of the production techniques and the quality of products.
The balances are unsecured, interest-free and will be repayable to the Chinese government if the usage of such advance
does not continue to qualify for the subsidy (see notes 26).
22. Non-controlling interests
The Company’s activities in respect of the change in non-controlling interests at December 31, 2010, 2009 and 2008
Page | 96
are summarized as follows:
Balance at beginning of year
Net foreign currency translation adjustment
Net income attributable to non controlling interest
Distribution of retained earnings
Capital contribution
Related party sold its 35.5% equity interest in Jingzhou Henglong
(1)
Balance at end of year
Annual Report - FY 2010
Year Ended December 31
2009
2008
2010
$ 27,138,357 $
938,136
11,179,189
(3,288,909 )
—
As Restated As Restated
23,174,071
1,432,977
5,111,861
(1,016,733 )
745,723
23,270,820 $
22,410
7,789,746
(3,944,619 )
—
—
$ 35,966,773 $
—
27,138,357 $
(6,177,079 )
23,270,820
(1) On March 31, 2008, the Company’s wholly-owned subsidiary, Genesis, and Wiselink, both controlled by Hanlin
Chen and his family, entered into an equity transfer agreement, pursuant to which Wiselink agreed to transfer and
assign its 35.5% equity interest in Jingzhou Henglong, one of the Company’s currently consolidated subsidiaries, to
Genesis for a total consideration of $32,090,000.
Under the terms of the above agreement, Genesis is deemed to be the owner of the equity concerned commencing from
January 1, 2008. In accordance with ASC Topic 805 (formerly SFAS 141(R)), the acquisition is considered as a
business combination of companies under common control and is being accounted for in a manner similar to that of
pooling of interests.
As of January 1, 2008, the net book value of 35.5% equity of Henglong, which was transferred from minority
shareholders, was $6,177,079.
23. Acquisition of the equity of Henglong
On March 31, 2008, Wiselink Holdings Limited, “Wiselink,” Great Genesis Holdings Limited, “Genesis,” a
wholly-owned subsidiary of China Automotive Systems, Inc., “the Company” and other parties entered into an equity
transfer transaction, the “Acquisition,” documented by an Equity Transfer Agreement, the “Agreement,” pursuant to
which Wiselink agreed to transfer and assign a 35.5% equity interest in Jingzhou Henglong Automotive Parts Co. Ltd.,
“Henglong” to Genesis for a total consideration of $32,090,000, the “Consideration.”
Under the terms of the Agreement, the Consideration is to be paid as follows: $10,000,000 was paid in cash by Genesis
to Wiselink on April 30, 2008, and the balance of the purchase price ($22,090,000) was paid by issuance of 3,023,542
shares of common stock of the Registrant, in its capacity as the 100% parent company of Genesis.
On April 22, 2008 and June 30, 2008, the Company issued 1,170,000 and 1,853,542 shares of common stock,
respectively, at an issuance price of $7.3060, par value of $0.0001. The difference between issuance price and par value
was credited into additional paid-in capital.
Under the terms of the Agreement, 3,023,542 shares of common stock were paid as the portion of 35.5% equity of
Henglong’s consideration and the value per share was $7.3060, which was calculated based on the Volume Weighted
Average Price (VWAP) for twenty (20) consecutive trading days prior to the announcement date (January 22, 2008).
In accordance with ASC Topic 805 (formerly SFAS 141(R)), the acquisition of Henglong’s 35.5% is considered as a
business combination of companies under common control and is being accounted for in a manner similar to that of
pooling of interests. The Company’s consolidated financial statement recognizes Henglong’s 35.5% equity from
January 1, 2008. The difference between the acquisition consideration of $32,090,000 and 35.5% equity of Henglong
of $6,177,079, which was $25,912,921, has been debited to additional paid-in capital. Since Henglong is a consolidated
subsidiary of the Company, the historical consolidated financial statement of the Company has contained the assets,
Page | 97
Annual Report - FY 2010
liabilities and other financial data of Henglong.
24. Stock options
In July 2004, the Company adopted a stock incentive plan. The maximum number of common shares for issuance
under this plan is 2,200,000 with a term of 10 years. The stock incentive plan provides for the issuance, to the
Company’s officers, directors, management and employees who served over three years or have given outstanding
performance, of options to purchase shares of the Company’s common stock. Since the adoption of the stock incentive
plan, the Company has issued 456,350 stock options under this plan, and there remain 1,743,650 stock options issuable
in the future as of December 31, 2010.
Under the aforementioned plans, the grantors of stock options granted will have an exercise price equal to the closing
price of the Company’s common stock traded on NASDAQ on the date of grant, and will expire two to five years after
the grant date. Except for the 298,850 options granted to management on December 2008, which become exercisable
on a ratable basis over the vesting period (3 years), the others were exercisable immediately on the grant date. Stock
options will be settled in shares of the Company’s common stock upon exercise and are recorded in the Company’s
consolidated balance sheets under the caption “Additional paid-in capital.” As of December 31, 2010, the Company has
sufficient unissued registered common stock for settlement of stock incentive plan mentioned above.
The fair value of stock options was determined at the date of grant using the Black-Scholes option pricing model. The
Black-Scholes option model requires management to make various estimates and assumptions, including expected term,
expected volatility, risk-free rate, and dividend yield. The expected term represents the period of time that stock-based
compensation awards granted are expected to be outstanding and is estimated based on considerations including the
vesting period, contractual term and anticipated employee exercise patterns. Expected volatility is based on the
historical volatility of the Company’s stock. The risk-free rate is based on the U.S. Treasury yield curve in relation to
the contractual life of stock-based compensation instrument. The dividend yield assumption is based on historical
patterns and future expectations for the Company dividends.
Assumptions used to estimate the fair value of stock options on the grant dates are as follows:
Issuance Date
Expected volatility Risk-free rate Expected term (years) Dividend yield
July 8, 2010
September 10, 2009
December 10, 2008
June 25, 2008
151.6 %
153.6 %
134.39 %
98.29 %
1.79 %
2.38 %
1.21 %
3.34 %
5
5
3
5
0.00 %
0.00 %
0.00 %
0.00 %
The stock options granted during 2010 and 2009 were exercisable immediately, the fair value on the grant date using
the Black-Scholes option pricing model was $345,375 and $196,650, respectively, have been recorded as compensation
costs.
The stock options granted during 2008 were 321,350 shares, in which 22,500 shares were exercisable immediately, and
1/3 of the 298,850 options were exercisable in each of 2008, 2009 and 2010. The stock options' fair value on the grant
date using the Black-Scholes option pricing model was $845,478, of which $345,426, $250,026, and $250,026 have
been recognized as compensation costs in 2008, 2009 and 2010, respectively.
The activities of stock options are summarized as follows, including granted, exercised and forfeited.
Shares
Weighted-Average
Exercise Price
Weighted-Average
Contractual
Term (years)
Outstanding - January 1, 2008
Granted
Exercised
67,500 $
321,350
—
7.26
3.12
—
4.7
3.1
—
Page | 98
Cancelled
Outstanding - December 31, 2008
Granted
Exercised
Cancelled
Outstanding - December 31, 2009
Granted
Exercised
Cancelled
Outstanding - December 31, 2010
Annual Report - FY 2010
—
388,850 $
22,500
(63,000 )
(4,500 )
343,850 $
22,500
(129,582 )
-
236,768 $
—
3.84
8.45
6.67
2.93
3.67
16.80
3.48
-
4.98
—
3.4
5
4.7
3
3.3
5
3.2
-
3.5
The following is a summary of the range of exercise prices for stock options that are outstanding and exercisable at
December 31, 2010:
Range of Exercise Prices
Outstanding Stock
Options
Weighted Average
Remaining Life
Weighted Average
Exercise Price
Number of Stock
Options Exercisable
$2.00 - $4.49
$4.50 - $10.00
$10.01 - $18.00
176,768
37,500
22,500
236,768
0.94 $
2.23 $
4.52 $
2.93
7.50
16.8
176,768
37,500
22,500
236,768
As of December 31, 2010, 2009 and 2008, the total intrinsic value of Company’s stock options that were outstanding
was $2,119,510, $5,171,504 and $86,765 respectively; and the total intrinsic value of Company’s stock options that
were exercisable was $2,119,510, $3,611,947 and $45,824 respectively. There was no intrinsic value for all the options
on the grant date as their exercise prices were the market prices. The average weighted fair value for each stock
option granted was $15.35, $8.74 and $2.63 in 2010, 2009 and 2008, respectively.
25. Retained earnings
Appropriated
Pursuant to the relevant PRC laws and regulations of Sino-foreign joint venture enterprises, the profits distribution of
the Company’s Sino-foreign subsidiaries, which are based on their PRC statutory financial statements, other than the
financial statement that was prepared in accordance with generally accepted accounting principles in the United States
of America, are available for distribution in the form of cash dividends after these subsidiaries have paid all relevant
PRC tax liabilities, provided for losses in previous years, and made appropriations to statutory surplus at 10%.
When the statutory surplus reserve reaches 50% of the registered capital of a company, additional reserve is no longer
required. However, the reserve cannot be distributed to joint venture partners. Based on the business licenses of the
Sino-foreign joint ventures, the registered capital of Henglong, Jiulong, Shenyang, Zhejiang, USAI, Jielong, Wuhu, and
Hengsheng are $10,000,000, $4,283,170 (RMB35,000,000), $8,132,530 (RMB67,500,000), $7,000,000, $2,600,000,
$6,000,000, $3,750,387 (RMB30,000,000), and $10,000,000 respectively.
The Company recorded $443,264 and $798,756 statutory surplus reserve for the year 2010 and 2009. The Company did
not record statutory surplus reserve for the year 2008 as statutory surplus reserve reached 50% of the registered capital
of subsidiaries for distribution of profit.
26. Other Income
The Company recorded government subsidies as other income. As of December 31, 2010, 2009, and 2008, the
Page | 99
Annual Report - FY 2010
Company has received such subsidies in the amounts of $543,242, $94,534, and $1,067,309, respectively.
The Company’s government subsidies consisted of interest subsidy and investment subsidy. Interest subsidy is the
refund by the Chinese government of special loan interest charged by banks to companies which are entitled to such
subsidies, such as the company improving its production capacity and product quality under the support of such loan.
Investment subsidy is a subsidy to encourage foreign investors to set up technologically advanced enterprises in China.
As of the year ended December 31, 2010, 2009 and 2008, the Company received interest subsidies in the amounts of
$311,291, $94,534, and $264,978, respectively, and investment subsidies of $231,951, $0, and $802,331, respectively.
Interest subsidies apply to loan interest related to optimized production technology. During 2007, 2008, 2009 and 2010,
the Company had used this special loan to improve its different products’ production line technologically in order to
enlarge the production capability and enhance quality, and the Company has received government subsidies in these
years. Some of these improvement projects were completed in 2008, 2009, and 2010, the remaining are still in progress.
Improved production technologies were already produced benefits. Therefore, the Company recorded received
government subsidies related to completed improvement program as other income, and received government subsidies
related to uncompleted improvement program as advance payable.
Chinese government also provided incentives to foreign investors for setting up technologically advanced enterprises in
China. During 2010 and 2008, the Company recognized $231,951 and $802,331, respectively, of investment subsidiary.
Genesis, as a foreign investor, has received such subsidies for re-investment in Jiulong and Henglong with their profit
distribution, and both entities were technologically advanced enterprises and entitled to such subsidies.
27. Financial income (expenses)
During the years ended December 31, 2010, 2009 and 2008, the Company recorded financial income (expenses) which
were summarized as follows:
Year Ended December 31
2009
2008
2010
As Restated As Restated
Interest expenses, net (1)
Foreign exchange gain (loss), net
Income (loss) of note discount, net
Amortization for discount of Convertible Notes payable (2)
Handling charge
Total
$ (2,920,564 ) $
(348,823 )
70,308
—
(161,758 )
$ (3,360,837 ) $
(3,811,426 ) $
10,296
(82,757 )
(3,891,148 )
(108,679 )
(7,883,714 ) $
(3,277,492 )
305,578
150,654
(138,433 )
(89,020 )
(3,048,713 )
(1) Interest expenses relate mainly to accrual on make-whole redemption interest pursuant to the terms of Convertible
Notes. Remaining was coupon interest of Convertible Notes and bank loans interest. For the years ended December
31, 2010, 2009, and 2008, the Company’s accrual on make-whole redemption interest was $1,867,480, $2,725,042,
and $2,038,729, respectively.
(2) On March 17, 2009, due to the Company’s WAP Default, the remaining balance of $3,891,148 on the
unamortized discount on the Convertible Notes was accreted to its full face value (see note 13).
28. Gain (Loss) on change in fair value of derivative
As of December 31, 2010, 2009 and 2008, following is the summary of Company’s recorded gain (loss) on change in
fair value of derivatives:
Page | 100
Income from changes in the fair value of warrant liabilities
Income (loss) from changes in the fair value of compound
derivative liabilities
Total
Annual Report - FY 2010
Year Ended December 31
2009
2010
As Restated
$
— $
20,171,698
1,977 $
(43,076,304 )
2008
As Restated
796,649
—
$ 20,171,698 $
(43,074,327 ) $
796,649
Gain on the change of the fair value of warrant liability and compound derivative liabilities mentioned above, see note
17 and 14.
29. Income Taxes
The Company’s subsidiaries registered in the PRC are subject to state and local income taxes within the PRC at the
applicable tax rate of 25% on the taxable income as reported in their PRC statutory financial statements in accordance
with the relevant income tax laws applicable to foreign invested enterprise.
PRC withholding tax on undistributed dividends
Pursuant to the New China Income Tax Law and the Implementing Rules (New CIT) which are effective as of
January 1, 2008, dividends generated after January 1, 2008 and payable by a foreign-invested enterprise to its foreign
investors will be subject to a 10% withholding tax if the foreign investors are considered as non-resident enterprises
without any establishment or place within China or if the dividends payable have no connection with the establishment
or place of the foreign investors within China, unless any such foreign investor’s jurisdiction of incorporation has a tax
treaty with China that provides for a different withholding arrangement.
Genesis, the Company’s wholly owned subsidiary and the direct holder of the equity interests in the Company’s Joint
Venture subsidiaries in China, is incorporated in Hong Kong. According to the Mainland and Hong Kong Taxation
Arrangement, dividends paid by a foreign-invested enterprise in China to its direct holding company in Hong Kong will
be subject to withholding tax at a rate of no more than 5% (if the foreign investor owns directly at least 25% of the
shares of the foreign-invested enterprise). Under the New CIT Law and the Implementing Rules, if Genesis is regarded
as a non-resident enterprise and therefore is required to pay a 5% withholding tax for any dividends payable to it from
Joint Venture subsidiaries.
The Company provides for deferred income taxes on the unremitted earnings of foreign subsidiaries unless such
earnings are deemed to be permanently reinvested outside the United States. During the years ended December 31,
2010, 2009 and 2008, the Company has a gross U.S. deferred income taxes of $0.2 million, $0.18 million and $0.37
million on foreign earnings of $4 million, $3.7 million and $7.4 million that it consider not permanently reinvested
outside the United States, respectively.
As of December 31, 2010, the Company still has undistributed earnings of approximately $73 million from investment
in foreign subsidiaries that are considered permanently reinvested. The determination of the amount of deferred taxes
on these earnings is not practicable since the computation would depend on a number of factors that cannot be known
until a decision to repatriate the earnings is made.
During 2009, Jiulong was awarded the title of Advanced Technology Enterprises, based on the PRC income tax law, it
was subject to enterprise income tax at a rate of 15% for 2008, 2009 and 2010. In 2011, the Company expected Jiulong
to qualify for Advanced Technology Enterprises and continue to be taxed at the 15% tax rate. However, this is subject
to re-assessment by the government, and if approved, its term extended for another three years. If Jiulong fails to pass
the re-assessment by the government, it would be subject to a tax rate of 25%.
During 2008, Henglong was awarded the title of Advanced Technology Enterprises, based on the PRC income tax law,
Page | 101
Annual Report - FY 2010
it was subject to enterprise income tax at a rate of 15% for 2008, 2009 and 2010. In 2011, the Company expected
Henglong to qualify for Advanced Technology Enterprises and continue to be taxed at the 15% tax rate. However, this
is subject to re-assessment by the government, and if approved, its term extended for another three years. If Henglong
fails to pass the re-assessment by the government, it would be subject to a tax rate of 25%.
On January 1, 2003, Shenyang was granted an enterprise income tax holiday of a 100% enterprise income tax
exemption for two years commencing from 2003, a 75% enterprise national income tax deduction and a 100% local
income tax deduction for the next three years thereafter, from 2005 to 2007, and a 50% enterprise national income tax
deduction, from January 1, 2008, for income tax purposes and was subject to enterprise income tax at a rate of 18%.
During 2009, Shenyang was awarded the title of Advanced Technology Enterprises, based on the PRC income tax law,
it was subject to enterprise income tax at a rate of 15% for 2009, 2010 and 2011.
On January 1, 2004, Zhejiang was granted an enterprise income tax holiday of a 100% enterprise income tax exemption
for two years commencing from 2004, and a 50% enterprise national income tax deduction, and a 50% local income tax
deduction for the next three years thereafter, from 2006 to 2008, for income tax purposes. During 2008, Zhejiang is
subject to enterprise income tax at a rate of 16.5%, which is comprised of 15% enterprise national income tax and 1.5%
local income tax. During 2009, Zhejiang was awarded the title of Advanced Technology Enterprise, based on the PRC
income tax law, it was subject to enterprise income tax at a rate of 15% for 2009, 2010 and 2011.
Wuhu, Jielong and Hengsheng have an enterprise income tax exemption in 2008 and 2009, and Wuhu is subject to
income tax at a rate of 11%, 12%, and 12.5% for the next three years thereafter, from 2010 to 2012, and Jielong and
Hengsheng are subject to 12.5% for the next three years thereafter, form 2010 to 2012.
There is no assessable profit for USAI and Testing Center in 2010, 2009, and 2008. Based on PRC income tax laws,
they are subject to income tax at a rate of 12.5% for 2011 and 2012 (if there is a taxable profit).
No provision for Hong Kong tax is made as Genesis is an investment holding company, and has no assessable income
in Hong Kong for the years 2010, 2009 and 2008. The enterprise income tax of Hong Kong is 16.5%.
No provision for US tax is made as the Company has no assessable income in the US for the year 2010, 2009, and 2008.
The enterprise income tax of US is 35%.
The provision for income taxes was calculated as follows:
Year Ended December 31
2009
2008
2010
Tax rate
Income (loss) before income taxes
Federal tax (benefit) at statutory rate
Fair value change in convertible bond
Accumulated accretion cost
Effect of differences in foreign tax rate
Tax benefit from income tax return
Provision on deferred income tax - US
Provision on deferred income tax - PRC
Other differences
Total income tax expense
As Restated As Restated
35 %
35 %
35 %
$ 71,401,507 $
$ 24,990,527 $
(7,060,094 )
-
(10,901,349 )
(180,731 )
1,062,704
29,946
543,202
$ 8,484,205 $
(13,931,112 ) $ 15,811,821
5,534,137
(278,827 )
48,451
(3,569,821 )
(2,762,823 )
1,214,786
322,923
(52,996 )
455,930
(4,875,889 ) $
13,866,951
2,268,652
(6,711,498 )
(1,053,092 )
1,185,693
175,853
(136,657 )
4,720,013 $
The Company is subject to examination in the United States and China. The Company's tax years for 2000 through
2010 are still open for examination in China. The Company's tax years for 2003 through 2010 are still open for
examination in the United States.
Page | 102
Annual Report - FY 2010
30. Income (Loss) Per Share
Basic income per share is calculated by dividing net income attributable to the parent by the weighted average number
of common shares outstanding during the period. Diluted income per share is calculated based on the treasury stock
method, assuming the issuance of common shares, if dilutive, resulting from the exercise of options and warrants. The
dilutive effect of convertible securities is reflected in diluted earnings per share by application of the “if converted”
method.
The calculations of diluted income per share attributable to Parent company were:
Numerator:
Net income (loss) attributable to the parent Company
Allocation to convertible notes holders
Net income (loss) attributable to the parent Company’s
common shareholders – Basic
Dilutive effect of:
Add back allocation to convertible notes holders
Interest expenses of Convertible Notes payable
Gain on change in fair value of derivative
Net income (loss) attributable to the parent Company’s
common shareholders - Diluted
Denominator:
Weighted average ordinary shares outstanding - Basic
Dilutive effects of stock options
Dilutive effect of convertible notes
Denominator for dilutive income/(loss) per share - Diluted
Net income (loss) per share attributable to the parent
Company’s common shareholders
Basic
Diluted
Year Ended December 31
2010
2009
As Restated
2008
As Restated
$ 51,738,113 $
(6,994,306 )
(26,440,871 ) $ 10,244,130
(1,328,374 )
-
44,743,807
(26,440,871 )
8,915,756
6,994,306
3,048,730
(20,171,698 )
—
—
—
—
—
—
$ 34,615,145 $
(26,440,871 )
$
8,915,756
27,098,258
231,192
4,235,972
31,565,422
26,990,649
—
—
26,990,649
25,706,364
89
—
25,706,453
1.65
1.10
(0.98 )
(0.98 )
0.35
0.35
During the year ended December 31, 2009, the options outstanding have not been included in the computation of
diluted income per share; the shares issuable upon conversion of Convertible Notes also have not been included in the
computation, because such inclusion would have an anti-dilutive effect.
During the year ended December 31, 2008, the shares issuable upon conversion of Convertible Notes have not been
included in the computation because such inclusion would have an anti-dilutive effect.
31. Significant Concentrations
The Company grants credit to its customers including Xiamen Joylon, Shanghai Fenglong and Jiangling Yude which
are the Company’s related parties. The Company’s customers are mostly located in the PRC.
A significant portion of the Company’s business is conducted in China where the currency is the RMB. Regulations in
China permit foreign owned entities to freely convert the RMB into foreign currency for transactions that fall under the
Page | 103
Annual Report - FY 2010
"current account," which includes trade related receipts and payments, interest and dividends. Accordingly, the
Company’s Chinese subsidiaries may use RMB to purchase foreign exchange for settlement of such "current account"
transactions without pre-approval. However, pursuant to applicable regulations, foreign-invested enterprises in China
may pay dividends only out of their accumulated profits, if any, determined in accordance with Chinese accounting
standards and regulations. In calculating accumulated profits, foreign investment enterprises in China are required to
allocate at least 10% of their accumulated profits each year, if any, to fund certain reserve funds, including mandated
employee benefits funds, unless these reserves have reached 50% of the registered capital of the enterprises.
Transactions other than those that fall under the "current account" and that involve conversion of RMB into foreign
currency are classified as "capital account" transactions; examples of "capital account" transactions include
repatriations of investment by or loans to foreign owners, or direct equity investments in a foreign entity by a China
domiciled entity. "Capital account" transactions require prior approval from China's State Administration of Foreign
Exchange, or SAFE, or its provincial branch to convert a remittance into a foreign currency, such as U.S. Dollars, and
transmit the foreign currency outside of China.
This system could be changed at any time and any such change may affect the ability of the Company or its
subsidiaries in China to repatriate capital or profits, if any, outside China. Furthermore, SAFE has a significant degree
of administrative discretion in implementing the laws and has used this discretion to limit convertibility of current
account payments out of China. Whether as a result of a deterioration in the Chinese balance of payments, a shift in the
Chinese macroeconomic prospects or any number of other reasons, China could impose additional restrictions on
capital remittances abroad. As a result of these and other restrictions under the laws and regulations of the People's
Republic of China, or the PRC, the Company’s China subsidiaries are restricted in their ability to transfer a portion of
their net assets to the parent. The Company has no assurance that the relevant Chinese governmental authorities in the
future will not limit further or eliminate the ability of the Company’s Chinese subsidiaries to purchase foreign
currencies and transfer such funds to the Company to meet its liquidity or other business needs. Any inability to access
funds in China, if and when needed for use by the Company outside of China, could have a material and adverse effect
on the Company’s liquidity and its business.
In 2010, the Company’s ten largest customers accounted for 81.2% of the Company’s consolidated sales, with 2
customers each accounting for more than 10% of consolidated sales, i.e., 13.1% and 12.6% of consolidated sales, or an
aggregate of 25.7% of consolidated sales.
In 2009, the Company’s ten largest customers accounted for 80.2% of the Company’s consolidated sales, with four
customers each accounting for more than 10% of consolidated sales, i.e., 14.8%, 12.0%, 10.4% and 10.0% of
consolidated sales, or an aggregate of 47.2% of consolidated sales.
In 2008, the Company’s ten largest customers accounted for 78.4% of the Company’s consolidated sales, with four
customers each accounting for in excess of 10% of consolidated sales, i.e., 15.1%, 11.9%, 11.4% and 10.6% of
consolidated sales, or an aggregate of 49.1% of consolidated sales.
At December 31, 2010, 2009 and 2008, approximately 15.1%、31.9% and 34.2% of accounts receivable were from
trade transactions with the aforementioned customers.
32. Related Party Transactions
The Company’s related party transactions include product sales, material purchases and purchases of equipment and
technology. These transactions were consummated under similar terms as those with the Company's customers and
suppliers. On some occasions, the Company’s related party transactions also include purchase/sale of capital stock of
the joint ventures and sale of property, plant and equipment.
Related sales and purchases: During the years ended December 31, 2010, 2009 and 2008, the joint-ventures entered
into related party transactions with companies with common directors as shown below:
Page | 104
Merchandise Sold to Related Parties
Xiamen Joylon
Shanghai Fenglong
Jiangling Yude
Total
Materials Purchased from Related Parties
Honghu changrun
Shanghai Fenglong
Jiangling Tongchuang
Jingzhou Tongyi
Jingzhou Tongying
Hubei Wiselink
Total
Annual Report - FY 2010
Years Ended December 31
2009
2010
2008
$ 9,871,977 $ 4,850,977 $ 2,143,418
400,001
166,885
526,182
1,262,343
641,186 2,365,107
$ 11,660,502 $ 5,892,164 $ 4,675,410
Years Ended December 31
2009
2010
2008
$
81,266 $
—
— $
17,273
9,547
136,990
9,187,392 7,078,698 5,485,206
285,347
9,198,373 6,216,739 1,984,854
—
$ 19,252,680 $ 13,998,702 $ 7,901,944
196,876
489,116
785,649
-
Technology Purchased from Related Parties
Years Ended December 31
2009
2008
2010
Changchun Hualong
$
178,972
$
248,916
$
321,892
Equipment Purchased from Related Parties
Years Ended December 31
2009
2008
2010
Hubei Wiselink
$
1,873,898
$
3,962,690
$
3,031,072
Purchase of 35.5% equity interest in Jinzhou Henglong during the year ended December 31, 2008 (refer to note 22).
Related receivables, advance payments and account payable: As at December 31, 2010 and 2009, accounts receivables,
advance payments and account payable between the Company and related parties are as shown below:
Accounts receivables from Related Parties
Xiamen Joylon
Shanghai Fenglong
Jiangling Yude
Total
December 31,
2010
5,046,397 $
212,658
207,787
5,466,842 $
2009
1,214,682
193,595
33,662
1,441,939
$
$
Page | 105
Other Receivables from Related Parties
Jiangling Tongchuang
WuHan Dida
Jiulong Material
Jiangling Yude
Jingzhou Tongying
Total
Less: provisions for bad debts
Balance at end of year
Annual Report - FY 2010
December 31,
2010
2009
$
$
— $
59,846
564,074
136,393
154,225
914,538
(564,074 )
350,464 $
3,515
61,901
537,300
—
—
602,716
(537,300 )
65,416
Other receivables from related parties are primarily unsecured demand loans, with no stated interest rate or due date.
Accounts payable from Related Parties
Shanghai Tianxiang
Jiangling Tongchuang
Hubei Wiselink
Jingzhou Tongyi
Jingzhou Tongying
Total
Advanced equipment payments to Related Parties
Hubei Wiselink
Advance payments to related parties and others
Jiangling Tongchuang
Jingzhou Tongyi
Honghu changrun
Total
December 31,
2010
2009
$
$
629,183 $
263,246
509,898
51,561
414,038
1,867,926 $
610,246
63,314
328,366
9,136
526,765
1,537,827
December 31,
2010
7,534,440 $
2009
2,579,319
$
December 31,
2010
2009
$
$
405,266 $
875,619
53,184
1,334,069 $
—
—
—
—
Related parties pledged certain land use rights and buildings as security for the Company’s comprehensive credit
facility.
The Company's related parties, such as Jingzhou Ful ida, Hubei Wiselink, Jingzhou Derun, and Wuhan Dida, pledged
certain land use rights and buildings as security for the Company’s comprehensive credit facility.
Page | 106
Annual Report - FY 2010
As of June 28, 2011, the date the Company issued the financial statements, Hanlin Chen, Chairman, owns 63.27% of
the common stock of the Company and has the effective power to control the vote on substantially all significant
matters without the approval of other stockholders.
33. Commitments and Contingencies
Legal Proceedings - The Company is not currently a party to any threatened or pending legal proceedings, other than
incidental litigation arising in the ordinary course of business. In the opinion of management, the ultimate disposition
of these matters will not have a material adverse effect on the Company's consolidated financial position, results of
operations or cash flows.
The following table summarizes the Company‘s major contractual payment obligations and commitments as of
December 31, 2010:
2011
2012
2013
2014
Thereafter
Total
Payment Obligations by Period
Obligations for service
agreements
$
110,000 $
— $
— $
— $
— $
110,000
Obligations for
purchasing agreements 13,692,597 1,677,531
Interest and
make-whole on
Convertible Notes
Total
—
$ 21,208,597 $ 1,677,531 $
7,406,000
—
—
— 15,370,128
—
— $
—
— $
—
7,406,000
— $ 22,886,128
34. Off-Balance Sheet Arrangements
At December 31, 2010 and 2009, the Company did not have any transactions, obligations or relationships that could be
considered off-balance sheet arrangements.
35. Subsequent Events
On March 1, 2011, an investor converted $6,428,571 principal amount of the Convertible Notes at a conversion price of
$7.0822 per share, and the Company issued 907,708 shares of its common stock to the investor. No additional
consideration was paid for the conversion of the Convertible Notes into common stock. After conversion, the investor
has returned such Convertible Note to the Company for cancellation.
36. Segment reporting
The accounting policies of the product sectors are the same as those described in the summary of significant accounting
policies except that the disaggregated financial results for the product sectors have been prepared using a management
approach, which is consistent with the basis and manner in which management internally disaggregates financial
information for the purposes of assisting them in making internal operating decisions. Generally, the Company
evaluates performance based on stand-alone product sector operating income and accounts for inter segment sales and
transfers as if the sales or transfers were to third parties, at current market prices.
During the years ended December 31, 2010, 2009 and 2008 the Company had nine product sectors, five of them were
principal profit makers, which were reported as separate sectors which engaged in the production and sales of power
steering (Henglong), power steering (Jiulong), power steering (Shenyang), power pumps (Zhejiang), and power
steering (Wuhu). The other four sectors which were established in 2005, 2006 and 2007, respectively, engaged in the
production and sales of sensor modular (USAI), electronic power steering (Jielong), power steering (Hengsheng), and
Page | 107
Annual Report - FY 2010
provider of after sales and R&D services (HLUSA). Since the revenues, net income and net assets of these four sectors
are less than 10% of its segment in the consolidated financial statements, the Company incorporated these four sectors
into “other sectors.”
The Company’s product sectors information is as follows:
Net Sales
Years Ended December 31
2009
2010
Net Income (Loss)
Years Ended December 31
2008
2010
2009
2008
As Restated
As Restated
$ 197,226,807
92,095,265
39,691,553
26,193,095
33,057,878
Henglong
Jiulong
Shenyang
Zhejiang
Wuhu
Other
Sectors
45,799,726
Eliminations (88,139,142 )
$ 153,459,876
61,613,116
32,492,844
24,193,366
26,496,148
$ 92,991,655 $ 30,563,088
42,708,266 4,951,566
25,007,497 4,212,843
15,778,455 5,186,404
812,360
19,953,632
$
10,806,533
(53,464,330 )
901,475 2,001,257
(34,161,694 ) 1,000,819
$
25,922,760
3,463,037
2,874,063
2,998,220
47,270
1,303,104
(2,105,565 )
14,917,965
534,665
2,110,574
2,749,649
(473,960 )
(816,507 )
(100,441 )
Total
Segments
Corporate
345,925,182
—
255,597,553
—
163,179,286 48,728,337
— 14,188,965
34,502,889
(53,154,014 )
18,921,945
(3,565,954 )
Total
consolidated $ 345,925,182
255,597,553
163,179,286 $ 62,917,302
$
(18,651,125 )
$
15,355,991
Inventories
As of December 31
2009
2010
Total Assets
As of December 31
2008
2010
2009
As Restated
2008
As Restated
$ 11,430,420
7,200,613
4,016,731
5,415,478
3,093,618
9,542,913
—
$ 13,686,928
8,628,835
2,871,316
3,260,930
2,146,381
1,870,357
—
$ 10,916,373 $ 188,019,911
71,193,527
7,580,848
36,496,737
3,466,623
30,208,969
4,880,351
26,702,478
1,372,951
59,959,568
554,230
— 130,232,180
$ 156,393,126
59,675,929
32,163,383
25,955,363
18,182,769
27,593,057
120,621,288
$
(3,829,501 ) (5,049,050 ) (2,199,621 ) (137,598,009 ) (126,202,343 )
108,162,809
47,408,460
23,524,620
23,868,680
10,182,645
18,757,115
117,023,895
(117,040,083 )
$ 36,870,272
$ 27,415,697
$ 26,571,755 $ 405,215,361
$ 314,382,572
$
231,888,141
Henglong
Jiulong
Shenyang
Zhejiang
Wuhu
Other Sectors
Corporate
Eliminations
Total
consolidated
Depreciation and Amortization
Years Ended December 31
Capital Expenditures
Years Ended December 31
Page | 108
Annual Report - FY 2010
2010
2009
2008
2010
2009
2008
$ 3,302,493
Henglong
2,219,799
Jiulong
521,475
Shenyang
1,031,155
Zhejiang
359,472
Wuhu
Other Sectors
2,043,884
Total Segments 9,478,278
19,340
Corporate
$ 3,777,978
2,068,581
543,930
895,241
352,770
974,832
8,613,332
70,837
$ 4,575,115 $ 3,012,270
2,569,716 9,736,642
701,120 1,223,395
1,147,517 1,287,999
401,379 1,586,144
416,957 14,438,894
9,811,804 31,285,344
—
113,188
$ 5,378,814
1,671,141
218,297
2,486,501
150,212
7,918,006
17,822,971
—
$ 2,277,253
3,407,505
269,207
501,557
716,239
5,199,172
12,370,933
10,000,000
Total
consolidated
$ 9,497,618
$ 8,684,169
$ 9,924,992 $ 31,285,344
$ 17,822,971
$ 22,370,933
Financial information segregated by geographic region is as follows:
Net Sales
Years Ended December 31
2009
2010
Long-term assets
December 31
2008
2010
2009
As Restated
Geographic region:
$ 13,113,735
United States
332,811,447
China
Total consolidated $ 345,925,182
6,205,816
$
249,391,737
$ 255,597,553
488,260 $
18,787
$
162,691,026 90,699,507
$ 163,179,286 $ 90,718,294
$
$
32,233
66,009,565
66,041,798
China Automotive Systems, Inc. (Unconsolidated – based on the parent Company)
Balance Sheets of Registrant
December 31, 2010 and 2009
SCHEDULE I
ASSETS
Current assets:
Cash and cash equivalents
Total current assets
Non-current assets:
Other receivables — 3rd parties
Other receivables — intercompany
Long-term investments
Total assets
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Convertible Notes payable (Note 2)
Compound derivative liabilities (Note 2)
December 31,
2010
2009
$
451,391
451,391
$
256,583
256,583
89,361
54,566,152
120,262,911
$ 175,369,815
2,544
57,055,182
78,938,442
$ 136,252,751
$
30,000,000
25,271,808
$
30,000,000
45,443,506
Page | 109
Accrued expenses and other payables (Note 3)
Total current liabilities
Total liabilities
Commitments and Contingencies
Stockholders' equity：
Preferred stock, $0.0001 par value - Authorized - 20,000,000 shares Issued and
Outstanding – None
Common stock, $0.0001 par value - Authorized - 80,000,000 shares Issued and
Outstanding – 27,175,826 shares and 27,046,244 shares at December 31, 2010
and 2009, respectively
Additional paid-in capital
Retained earnings-
Appropriated
Unappropriated
Accumulated other comprehensive income
Total stockholders' equity
Total liabilities and stockholders' equity
The accompanying notes are an integral part of these financial statements
Annual Report - FY 2010
7,824,989
63,096,797
63,096,797
6,094,209
81,517,715
81,517,715
2,717
28,565,153
2,704
27,515,064
8,767,797
58,979,851
15,957,500
112,273,018
$ 175,369,815
8,324,533
7,685,002
11,187,733
54,715,036
$ 136,252,751
China Automotive Systems, Inc. (Unconsolidated – based on the parent Company)
Statements of Income (Loss) of Registrant
Years Ended December 31, 2010, 2009 and 2008
2010
Years Ended December 31
2009
2008
Operating expenses:
General and administrative expenses (Note 4)
Total Operating expenses
Operating loss
Financial expenses (Note 5)
Gain (loss) on change in fair value of derivative (Note 5)
Income (loss) before income taxes and equity in earnings
of affiliated companies
Equity in earnings of affiliated companies
Income (loss) before income taxes
Income tax
Net income (loss)
$
$
1,939,772
1,939,772
(1,939,772 )
(3,048,515 )
20,171,698
15,183,411
36,554,702
51,738,113
-
51,738,113
$
$
1,452,118
1,452,118
(1,452,118 )
(7,687,507 )
(43,074,327 )
(52,213,952 )
25,773,081
(26,440,871 )
-
(26,440,871 )
$
$
1,870,373
1,870,373
(1,870,373 )
(2,723,155 )
796,649
(3,796,879 )
14,041,009
10,244,130
-
10,244,130
The accompanying notes are an integral part of these financial statements
China Automotive Systems, Inc. (Unconsolidated – based on the parent Company)
Statement of Cash Flow of Registrant
Years Ended December 31, 2010, 2009 and 2008
Years Ended December 31
2009
2008
2010
Page | 110
Cash flows from operating activities:
Net income (loss)
Adjustments to reconcile net income (loss) to net cash
used in operating activities:
Stock-based compensation
Amortization for discount of Convertible Notes payable
(Gain) loss on change in fair value of derivative
Equity in earnings of affiliated companies
Changes in operating assets and liabilities:
Increases in accrued expenses and other payables
Net cash provided by (used in) operating activities
Cash flows from investing activities:
(Increase) decrease in other receivables
Equity investment in Henglong USA Corporation
Net cash provided by (used in) investing activities
Cash flows from financing activities:
Exercise of stock option
Issuance (redemption) of Convertible Notes
Net cash provided by (used in) financing activities
Net change in cash and cash equivalents
Net increase in cash and cash equivalents
Cash and equivalents at beginning of year
Cash and equivalents at end of year
1,730,780
(2,662,105 )
2,402,213
2,402,213
454,700
—
454,700
194,808
256,583
451,391
$
Annual Report - FY 2010
$
51,738,113
$
(26,440,871 )
$
10,244,130
595,402
—
(20,171,698 )
(36,554,702 )
446,676
3,891,148
43,074,327
(25,773,081 )
345,426
138,432
(796,649 )
(14,041,009 )
2,635,654
(1,474,016 )
(33,209,554 )
(300,000 )
(33,509,554 )
3,462,462
(1,339,339 )
6,050,445
—
6,050,445
420,240
(5,000,000 )
(4,579,760 )
—
35,000,000
35,000,000
131,346
125,237
256,583
$
16,430
108,807
125,237
$
SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
Issuance of common stock to acquire 35.5% interest in Henglong's
equity
$
- $
- $ 22,090,000
Year Ended December 31
2009
2008
2010
The accompanying notes are an integral part of these financial statements
China Automotive Systems, Inc.
Notes to Condensed Financial Statements
NOTE 1—Basis of Presentation
China Automotive Systems, Inc., a Delaware corporation, is the parent company of all China Automotive Systems, Inc.
subsidiaries and joint ventures. The accompanying condensed financial statements reflect the financial position, results
of operations and cash flows of China Automotive Systems, Inc. on a separate, parent company basis. All subsidiaries
and joint ventures of China Automotive Systems, Inc. are reflected as investments accounted for using the equity
method. For accounting policies and other information, see the Notes to Consolidated Financial Statements included
elsewhere herein.
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Annual Report - FY 2010
NOTE 2— Convertible Notes payable and Compound derivative liabilities
Convertible Notes payable and compound derivative liabilities arose from the issuance of convertible notes in February
15, 2008. For detail information, see Note 13 and 14 to Consolidated Financial Statements included elsewhere herein.
NOTE 3—Accrued expenses and other payables
A majority balance of accrued expenses and other payables is accrued interest for the convertible notes. Balance of
accrued interest as of December 31, 2010 and 2009 was $7,143,751 and $5,751,270, respectively. For detail
information, see Note 15 to Consolidated Financial Statements included elsewhere herein.
NOTE 4— General and administrative expenses
General and administrative expenses mainly consisted of the costs associated with legal, accounting and auditing fees
for operating a public company. The expenses also included share-based compensation expense for options granted to
the audit committee.
NOTE 5— Financial income (expenses) and Gain (loss) on change in fair value of derivative
Financial expenses and gain (loss) on change in fair value of derivative resulted from the issuance of the convertible
notes in February 15, 2008. For detail information, see Notes 27 and 28 to Consolidated Financial Statements included
elsewhere herein.
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