ITEM 1. BUSINESS
History and Development
Wuhan Youji Industries Co. Limited was incorporated in the PRC as a joint stock company with limited liability on June 18, 1994. Wuhan Guodian Chemical Group Co., a wholly-state owned enterprise, owned 54% of Wuhan. In 2003, the PRC government approved a privatization proposal whereby Wuhan Guodian sold its entire interest in Wuhan to various natural persons, including Wuhan’s senior management. In connection with the privatization, Wuhan disposed of its entire interest in Wuhan Youji Factory Three Co. Limited to Wuhan Guodian Ltd. for no additional consideration.
Currently, Wuhan has one subsidiary, Wuhan Youji Import and Export Co. Limited, of which Wuhan holds 51% equity interest. Wuhan Youji Import and Export was established in the PRC and is principally involved in handling the export sales of Wuhan’s products.
The registrant, Cougar Holdings Inc., was incorporated in the State of Nevada on June 2, 1999. On July 1, 2005, Cougar completed and closed the acquisition of all of the capital stock in Wuhan. As part of the acquisition, Cougar acquired 55,835,679 shares of common stock representing all of the issued and outstanding capital stock of Wuhan for 17,150,000 shares of common stock of Cougar issued to the shareholders of Wuhan. Upon the closing of this acquisition, Wuhan Youji became a wholly-owned subsidiary of Cougar and the stockholders of Wuhan Youji became the majority shareholders of Cougar.
Summary
We are principally engaged in the manufacture and distribution of organic chemical products for both local and export sales. Our products are intermediate commodities, which are mainly used in further production of food additives and preservatives for agri-chemical and medical use. Our suppliers are mainly located in the PRC and our customers are located in both the PRC and overseas such as the United States of America and Europe.
We are located in the west of Wuhan City, commonly known as the “thoroughfare to nine provinces.” According to our research of the chemical market in 2006, the sales turnover of our company is the largest in Asia for the following products:
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epichlorohydrin rubber,
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glutaradehyde and acrolein,
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sodium benzoate, and
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benzyl chloride.
We manufacture and distribute approximately 100 products in seven series. Our products are sold in more than twenty PRC provinces and cities and more than twenty countries and regions such as United States, Japan, Europe, Latin America, Southeast Asia and Hong Kong.
Our executive offices are located at 10 Gongnong Road, Qiaokou District, Wuhan, Hubei, China 430035. Our telephone number is (027) 8386-6860.
The PRC Chemical Industry
The chemical industry in the PRC constitutes a basic industrial sector which has been a major
focus for development by the PRC government. In the chemical industry, per capita consumption in the PRC remains significantly lower than that in major OECD countries. We believe that, as the PRC economy undergoes further industrialization and development of consumer markets, demand for chemical products will increase and decrease as general economic activities in the PRC change but on average continue to grow at rates that are high relative to more industrialized countries.
Although historically the PRC government has asserted substantial control over all aspects of the chemical industry, during the past decade, the PRC government has implemented various economic liberalization measures which have materially affected the PRC chemical industry in areas such as cost and allocation of raw materials, product pricing and marketing and distribution of products. China’s entry to the WTO is expected to continue this trend, particularly in areas of import and distribution of raw materials. A portion of the PRC chemical industry remains under various degrees of control by the PRC government. We expect, and are preparing for, liberalization measures to continue and a more competitive environment to develop.
Our Strategy
Our strategy is focused on meeting the significant challenges and taking advantage of the significant opportunities that we expect to encounter as the PRC chemical industry changes and develops in the coming years. Generally, we expect that the PRC economy will for the foreseeable future sustain growth comparable to what has been recorded in recent years. As this economic growth continues, we expect that both industrial and consumer-based demand for chemicals and chemical-based products will grow. We also expect that, generally, the economic liberalization which has been undertaken by the PRC government will continue and is accelerating as a result of China’s entry to the WTO. On this basis, the PRC chemical industry is expected to become increasingly deregulated, thereby providing for market forces and competition to become increasingly important factors in determining our financial performance and growth prospects.
In order to capitalize on these opportunities, we focus on these primary strategic objectives:
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Expanding our international markets by aggressively promoting our company’s and our products’ reputation, including the quality of our products and the efficiency of our customer service. Our goal is to increase our international sales to 50% of our overall revenue. We intend to leverage our relationships with some of the world’s largest and best-known companies - such as Coca-Cola, Proctor & Gamble, BASF and Bayer.
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Becoming more customer-oriented through delivery of superior service. We intend to strengthen the incentive and management of our sales staff and continue to improve the quality of service through the entire sales process, from marketing to after-sales support. We believe that by pursuing and fulfilling these strategic objectives we will achieve significant competitive advantages and strengthen our market position in the PRC and international chemical industries.
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Increasing the production capacity of certain products by acquiring additional capacity and improving the production efficiency of existing facilities through the use of new technologies. Capacity expansion should enable us to build a stronger competitive position in those products through greater economies of scale and market share gains.
For financial information on the operations of our company’s lines of businesses, see Note 23 to the consolidated financial statements commencing on page.
Our Products
Product Line
We produce approximately 100 different types of products representing a broad range of intermediate petrochemicals and petroleum products. The following table shows our 2006 and 2005 net sales by major product as a percentage of total net sales together with the typical uses of these products.
* less than 0.1%
The table below sets forth our principal products, on the basis of revenues within the PRC and internationally for 2006, 2005 and 2004, in thousands:
All of our assets are located in the PRC.
Principal Products
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Sodium benzoate and benzoic acid
Our largest product, sodium benzoate, which accounted for approximately one-quarter of our revenues in 2006, is derived from benzoic acid, a derivative of toluene. Toluene (also called methyl benzene) is a colorless, flammable, organic liquid produced in the petroleum-refining process. The major use of toluene is as a mixture added to gasoline to improve octane ratings. The largest chemical use for toluene is to make benzene and urethane. Companies use toluene as solvents in the production of some material, such as aerosol spray paints, wall paints and adhesives. Toluene is also utilized in the production of benzoic acid. Benzoic acid is produced during the by liquid-phase oxidation of toluene by aerial oxygen in the presence of a cobalt catalyst. Benzoic acid is used as a preservative for foods, beverages and cosmetics.
Sodium benzoate is produced by the neutralization of benzoic acid with sodium hydroxide. A preferable preservative to benzoic acid due to its solubility, sodium benzoate is widely used as a preservative, improving shelf life for certain consumable goods. Sodium benzoate is widely used as a preservative in pharmaceuticals, food and beverages. It is also used as an anticorrosive, particularly as an additive to automotive engine antifreeze coolants and in other waterborne systems. Sodium benzoate is also used in plastics, such as polypropylene, to improve strength and clarity.
It is estimated that the annual international market demand is about 100,000 tons, among which the main consumer market is about 50,000 tons in Asia, 20,000 tons in Europe, 20,000 tons in the United States and 10,000 tons elsewhere. We sold approximately 30,000 tons of sodium benzoate in 2006, among which exports accounted for approximately 10,800 tons. With the growth of food and beverage industry in developing countries, the demand for sodium benzoate will increase further, and the consumption at the same time in the motor vehicle antifreeze fluid will increase.
In 2006, we invested $2.95 million to improve our processing technology. We are currently able to produce 45,000 tons of sodium benzoate per year. By leveraging our production scale and product quality, we have attained 70% of the PRC market and 28% of the global market for sodium benzoate. We are constantly expanding our sales in our traditional markets as in Southeast Asia, in Europe and in the United States, and in developing sales in new markets such as Japan, South America, Africa and Australia.
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Acrolein and glutaraldehyde
Acrolein is a useful intermediate in the production of various compounds including methionine, methionine hydroxy analog, 1,3 propanediol and glutaraldehyde. The principal process for production of acrolein is the oxidation of propylene. Propylene is a major chemical intermediate, produced by catalytic or thermal cracking of hydrocarbons or as a by-product of petroleum refining.
Glutaraldehyde is the extremely important meticulous chemical product having the function of uniting and solidifying protein. It is very useful in such trades as tanning leather, oil field, medical disinfecting, water treatment and papermaking.
Glutaraldehyde is good for tanning leather, a traditional craft in the PRC, reacting fast to the collagen of the cover. The best tanning pharmaceutical for fur and soft leather, glutaraldehyde has gradually captured the industry’s attention in recent years. Experts estimate that 100,000 tons of domestic annual consumption of chrome tanning pharmaceuticals will be replaced by glutaraldehyde if glutaraldehyde production technology is improved reducing production costs.
In the oil industry, glutaraldehyde is a remarkable disinfectant in oil pipelines. In the course of flooding and recovering oil, sulphate fungus that exists in the crude oil can turn into sulphurate hydrogen to corrode the pipeline, and existing oxygen fungus can produce adhesion restricting oil flow. To improve oil production rate and to lengthen the life-span of oil pipelines, the consumption of glutaraldehyde in oil countries will likely increase.
Glutaraldehyde is highly effective for sterilization of medical equipment. It basically does not corrode the metal apparatus and is effective in killing the perispore and hepatitis B virus, suitable for all kinds of operation apparatus. Glutaraldehyde is recommended as the primary disinfecting medicine of infective hepatitis by the World Health Organization. It is recommended by the Chinese Health Ministry as a chemical disinfectant of medical equipment.
As the killing pharmaceutical in water treatment, glutaraldehyde can reduce corrosion to water industry equipment thereby improving efficiency.
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Benzyl chloride, benzyl alcohol and benzaldehyde
Benzyl chloride is an important organic synthesis intermediate, used in medicine, agriculture chemicals, flavors, fragrances and dyestuffs. It is mainly used for producing the fine chemicals of high added value, and the by-product (benzaldehyde) in its production process is an important meticulous industrial chemical. Our annual production is 50,000 tons per year. We estimate global market demand is 350,000 tons and domestic market demand is 70,000 tons.
Benzyl alcohol, a derivative of benzyl chloride, is a fine solvent, used extensively in paints, coatings epoxy resin. It is also used as a raw material for such derived products as the sweeteners and fragrants. We estimate annual global demand of 60,000 tons.
Benzaldehyde, which is produced by oxidation of benzyl alcohol, is used as an intermediate product in the manufacture of dyes, pharmaceuticals, herbicides and other synthetic chemicals, as flavorings for food and as a perfume in soap.
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Epichlorohydrin rubber
A synthetic rubber from epichlorohydrine, epichlorohydrin rubber is noted for its resistance to fuel oil, high and low temperature and aging. It is widely used in the automobile industry. With the development of the automobile industry in the PRC, the demand for epichlorohydrin rubber will likely increase. We are, at present time, one of the few local suppliers of epichlorohydrin rubber in China
Recent Products
We did not introduce any new products in 2006.
Product Pricing
All of our products are priced according to market demand.
Raw Materials
In 2006, total costs of raw materials and energy accounted for approximately 87% of our total cost of sales. In 2006, the costs of raw materials purchased from our five largest suppliers accounted for 65% of our total raw material costs.
Energy
Electricity is our main source of energy. In 2006, we purchased approximately 39.0 million kilowatt hours of electricity. Generally, the price of electricity in the PRC is set by the PRC government. We also generate energy internally. Our power plant consists primarily of several coal-fired power generating units and their total power generation capacity is 7,000 kilowatts at any one time. Our power plant generated an aggregate of 2.2 million kilowatt hours in 2006.
Product Transport
Our products are predominantly shipped within the PRC by third party railway companies. Our products sold outside of the PRC are predominantly transported by third party shipping companies.
Our Competition
PRC
Approximately 68% of our sales revenue in 2006 was generated from sales in the PRC and 32% was generated internationally. Of our international sales, approximately 95% was through Wuhan Youji Import and Export Co. and 5% was through other Chinese import and export companies, such as China Chemical Import and Export (Jiangsu) Co., Anhui Huaan Import and Export Co., Suzhou Hengfa Import and Export Co. In 2005, approximately 62% of our sales revenue was generated from sales in the PRC and 38% was generated internationally. Of such international sales in 2005, approximately 91% was through Wuhan Youji Import and Export Co. and 9% was through other Chinese import and export companies.
In general, we believe that our current primary competitive advantages with respect to most of our products include product quality and diversity, economies of scale and proximity to raw materials and our long-standing relationships with our customers.
Foreign Competition and WTO
Historically, the PRC government has provided the PRC chemical industry with certain protection from foreign competition through three primary practices:
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maintaining relatively high import tariffs,
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imposing import license requirements, and
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controlling the availability of foreign exchange required to pay for imported products.
These tariffs and import restrictions are intended, in part, to protect domestic producers of these
products, such as us and they affect the majority of the product types produced by us. These protective actions, however, are effective only to the extent that they are fully and consistently implemented. To the extent they are not implemented, imported products can have a significant effect on the pricing and demand for our products. Imports remain a significant factor in determining the prices of many of our products.
In recent years, the PRC government has implemented a policy of gradually lowering import barriers and reducing tariffs. As part of its WTO accession commitments, the PRC government will gradually eliminate import quotas and import license systems, reduce tariffs, and permit foreign invested enterprises to engage in domestic distribution and retail sales for all of our major products. The PRC will also eliminate state trading for our major products exclusive of petroleum products and chemical fertilizer. We expect those measures to increase competition from imported products.
Although we believe that our products have been and will continue generally to be competitive with imported products in the PRC, increased competition from imported products resulting from the PRC’s WTO accession may still have a material adverse effect on our business and operations. Based on our wide range of production capabilities and our familiarity with regional customers and markets, we believe that we are well-positioned to meet potential foreign competition. The tariff reductions, however, could reduce profit margins or otherwise negatively impact our revenue from certain products, including a small number of our significant products. The ultimate impact of any tariff reductions on our business and results of operations will depend on a variety of factors, including general market conditions for various products, our ability of to increase production efficiency or lower our costs and the extent to which other import barriers remain intact.
The PRC government may also reduce the tariffs imposed on production equipment that we may import in the future, as well as the restrictions on availability of imported raw materials (such as crude oil) currently enforced by the PRC government. We are unable to determine accurately at this time the net effect on our business and results of operations of the PRC’s accession to WTO.
Sales and Marketing
Our products can be freely sold and marketed throughout the PRC and are generally sold to large- and medium-sized manufacturing enterprises and large trading companies in the PRC with whom we typically have long-standing trading relationships. While these long-standing relationships provide us with a generally dependable and stable customer base, we are continuously focusing on developing new customers, with an emphasis on finding additional manufacturing customers. We develop new customers and market our products through our domestic sales network. As part of our efforts to become more customer-oriented, in 2006, we continued to direct greater resources towards developing our sales and marketing capabilities.
In 2006, revenue from sales to our five largest customers accounted for approximately 11.1% of our total sales revenue. In 2005, revenue from sales to our five largest customers accounted for approximately 11.1% of our total sales revenue. In 2004, revenue from sales to our five largest customers accounted for approximately 15% of our total sales revenue.
Our majority-owned subsidiary, Wuhan Youji Import and Export Company, currently acts as our agent for the import of equipment and technology and raw materials and it also purchases all of our products for export. In 2006, 2005 and 2004, our sales revenue from exports through Wuhan Youji Import and Export Company amounted to approximately $29.5 million, $29.6 million and $19.2 million, respectively, which accounted for approximately 35%, 35% and 32% of our total sales revenue, respectively.
Our Suppliers
The main raw materials of our company are toluene, liquid alkali and liquid chlorine. In 2006, we used 48,000 tons of toluene, 19,200 tons of liquid alkali and 18,000 tons of liquid chlorine. In 2005, we used 50,868 tons of toluene, 21,690 tons of liquid alkali and 18,095 tons of liquid chlorine. In 2004, we used 40,400 tons of toluene, 17,860 tons of liquid alkali and 15,600 tons of liquid chlorine.
Toluene is mainly used in manufacturing sodium benzoate and benzyl chloride. Although the toluene market is affected by international crude oil pride and fluctuates greatly, we believe that we have access to meet our needs. During 2006, our largest single supplier supplied 90% of our toluene and our top three suppliers combined supplied a total of 95%. During 2005, our largest single supplier supplied 28% of our toluene and our top three suppliers combined supplied a total of 46%. During 2004, our largest single supplier supplied 26% of our toluene and our top three suppliers combined supplied a total of 72%.
Liquid alkali is mainly used in manufacturing sodium benzoate. During 2006, our largest single supplier supplied 48% of our liquid alkali and our top three suppliers combined supplied a total of 75%. During 2005, our largest single supplier supplied 38% of our liquid alkali and our top three suppliers combined supplied a total of 75%. During 2004, our largest single supplier supplied 34% of our liquid alkali and our top three suppliers combined supplied a total of 68%.
Liquid chlorine is mainly used in manufacturing benzyl chloride and benzaldehyde products. During 2006, our largest single supplier supplied 67% of our liquid chlorine and our top three suppliers combined supplied a total of 97%. During 2005, our largest single supplier supplied 67% of our liquid chlorine and our top three suppliers combined supplied a total of 97%. During 2004, our largest single supplier supplied 39% of our liquid chlorine and our top three suppliers combined supplied a total of 97%.
The main suppliers of raw materials are Nantong Chemical Co., Ltd., Chengdu Xinlong Petrochemical Inc., Chang Ling Branch of China Petrochemical Industry, Jinling Branch of China Petrochemical Industry, the General Salt Chemical Plant of Jianghan Oil Field, Jiujiang Xinkangda Chemical Industry Co. Ltd., Hubei Shuanghuan Scientific Technological Co. Ltd., Henan Kaipu Chemical Industry Co. Ltd. and Xiyang Chemical Co. Ltd. All of our suppliers are within 200 kilometers of us.
We believe that other suppliers are available to us should any of our significant suppliers be unable or unwilling to continue to supply us with all of our raw materials demand.
Our Customers
We do not rely on any single customer. Losing one or two clients will not cause an overall influence on our company. Our largest customer accounted for approximately 4% of our total revenues for 2006, 4% of our total revenues for 2005, and 1% of our total revenues for 2004. Our top three customers combined accounted for about 9.4% of our total revenues for 2006, about 9.6% for 2005 and about 2% for 2004.
Our main clients include manufacturers, retail traders and famous foreign companies listed in “The Fortune 500 Companies”, such as Procter & Gamble (Guangzhou, China), The Coca-Cola (China) Company, Pepsi, TOSOH (a Japanese Company), UNIVAR (a U.S. Company), HENKEL (a German Company), Liaoning Dacheng Nongmu Co. Ltd., Guangzhou Tongchuan Chemical Industry and Trade
Co. Ltd., Zhangjiagang Jinming Chemical Industry Co. Ltd., Hubei Topu Phosphorus Chemical Industry Co. Ltd., Hebei Chengxin Co. Ltd., Guangdong Dadi Food Chemical Industry Co. Ltd., and Sichuan Zhongxing Food Industry Co. Ltd.
Environmental Regulation
We are subject to PRC national, provincial and local environmental protection regulations. According to the PRC Environmental Protection Law, the State Environmental Protection Administration sets national environmental protection standards, while local environmental protection bureau may set stricter local standards. Enterprises must comply with local standards if local environmental protection bureau have set their own standards. The standards regarding the discharge of water, gases and solid waste materials, set by the State Environmental Protection Administration and the local provincial government and the city government for the discharge of these materials are those which regulate our operations.
The State Environmental Protection Administration sets discharge standards for emissions into the air and water and delegates to the local government the responsibility for monitoring enterprises with respect to the discharge of waste water, gases and solid waste materials. The PRC Environmental Protection Law also provides schedules of base-level discharge fees for various polluting substances. If the polluting substances exceed a certain limit, the local government may charge the polluting entity additional discharge fees and issue an order to cease or reduce such discharge levels which, if not obeyed, may result in fines. The PRC Environmental Protection Law also provides that, where pollution is causing environmental damage, the local government has the authority to issue an order requiring the polluting entity to cure the problem within a certain period. Non-compliance with such an order may result in the facility being shut down. We have never incurred any fines, nor have we ever received such an order.
Due to the nature of our business, we produce significant amounts of waste water, gas and solid waste materials in the course of our production. We believe that our environmental protection facilities and surveillance and management systems are adequate to enable us to comply with applicable environmental protection laws and regulations in all material respects. We have made substantial efforts with respect to the prevention and treatment of pollution, including the construction and maintenance of a comprehensive waste water treatment plant, a sludge incinerator and a waste residue dump.
We dispose of solid waste generated by our facilities in accordance with applicable national, provincial and local environmental protection regulations. The PRC Environmental Protection Law regarding the discharge or disposal of solid waste specify that certain toxic wastes may not be buried directly in the ground and measures must be taken to prevent leakage. Violations of such provisions can result in fines. However, we have not been fined for any such violations.
In 2000, we received a Disposal of Pollutants License issued by Wuhan Environmental Protection Agency in 2000. This means that the disposal of waste water, gas and solid waste materials of our company is within the limitation set forth by the governmental Environmental Protection Agency. From then on, the Environmental Protection Agency keeps a close watch at our disposal and reviews our license once a year. If our disposal fails to meet the standards set by the government at any time or if we fail to get though the review, the Environmental Protection Agency will revoke our license, and then any disposal of the waste of the company will be illegal and will get a very severe punishment. By adopting the new process and technology, new products are extracted from byproducts. Thus the discharge of byproducts is reduced, and the comprehensive benefit is improved.
Our facilities are situated beside Wuhan Second Ring Road. With the increase in urbanization of the area and the encroachment of residential communities to our facilities, we may have long-term difficulty in expansion.
Our environmental protection-related expenses consist of pollutant discharge fees. For each of the past three years, our environmental protection-related expenses were approximately $300,000.
We believe that our environmental protection facilities and systems are adequate for us to comply with the existing national, provincial and local environmental protection regulations. However, there can be no assurance that national, provincial or local authorities will not impose additional or more stringent regulations which would require additional expenditure on environmental matters or changes in our processes or systems.
We plan to spend approximately $0.6 million for environmental control facilities for 2007.
Research and Development
We established The Research and Development Centre in 1996, which employs 198 professional engineers and technicians. The task of our research and development is to advance new materials and technology to find new products and improve product quality. Our expenditures for research and development were approximately $22,000, $70,000 and $26,000 in 2006, 2005 and 2004, respectively.
Our Employees
We have approximately 1,094 staff employees and eight officers currently consisting of a chief executive officer, a chief financial officer, a chief operating officer, and five vice general managers, one in charge of domestic sales, one in charge of international sales, one in charge of manufacturing, one in charge of supply, and one in charge of technology. There is no collective bargaining agreement in effect. We believe the relations with our employees are good.
Our Intellectual Property
Patents
We currently have three patents issued in the PRC. Below is a summary of our patents:
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the technology of refining and sublimating benzene formaldehyde
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the manufacturing approaches of aralkyl aether
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the process of refining benzaldehyde
We plan to make over the next twelve months additional patent applications for various refining and manufacturing processes.
Know-how, trade secrets and other intellectual property protection
In addition to the trademark and patent protection secured above and the pending patent applications, we will rely on trade secrets, know-how and continuing technological innovations to develop and maintain our competitive position. It is our policy to require our directors, employees, consultants and parties to collaborative agreements to execute confidentiality agreements upon the commencement of the employment, consulting or collaborative relationships with us. These agreements provide that all confidential information developed or made known during the course of the relationship with us is to be kept confidential except in specific circumstances. In the case of employees, the
agreements provide that all inventions resulting from work performed for us using our property or relating to our business and conceived or completed by the individual during employment are our exclusive property to the extent permitted by law.
ITEM 1A.
ITEM 1A. RISK FACTORS
We face a number of substantial risks. Our business, financial condition or results of operations could be harmed by any of these risks. The trading price of our common stock could decline due to any of these risks, and they should be considered in connection with the other information contained in this Annual Report.
Risks Concerning Our Business
Competition in our industry is intense and is likely to continue to increase, which could result in price reductions, decreased customer orders, reduced product margins and loss of market share, any of which could harm our business.
Our industry is competitive, and we expect competition to intensify in the future. We have many primary competitors located in the PRC and throughout the world. Many of our competitors have significantly greater financial, technical, sales and marketing resources or greater name recognition than we do. As a result, these competitors are able to devote greater resources to the development, promotion, sale and support of their products. In addition, our competitors that have large market capitalizations or cash reserves are in a better position to acquire other companies in order to gain new technologies or products that may displace our products. Any of these potential acquisitions could give our competitors a strategic advantage. In addition, some of our competitors have greater brand name recognition, a more extensive customer base, more developed distribution channels and broader product offerings than we do. These companies can use their broader customer base and product offerings, or adopt aggressive pricing policies, to gain market share. Increased competition in the market may result in price reductions, decreased customer orders, reduced profit margins and loss of market share, any of which could harm our business.
The market for our products is constantly changing as a result of development of alternative products and processing technologies. If we do not respond to changes in a timely manner, our company likely will no longer be competitive.
The market for our products is characterized by rapid technological change, improved products and processing technologies, changing customer requirements and evolving industry standards. Our future success will depend to a substantial extent on our ability to develop, introduce and support cost-effective new products and processing technologies on a timely basis. If we fail to develop and deploy new cost-effective products and processing technologies or enhancements of existing products on a timely basis, or if we experience delays in the development, introduction or enhancement of our products and processing technologies, our products will no longer be competitive and our business will suffer.
The development of new, technologically advanced products and processing technologies is a complex and uncertain process requiring high levels of innovation and highly skilled engineering and development personnel, as well as the accurate anticipation of technological and market trends. We may not be able to identify, develop, manufacture, market or support new or enhanced products or processing technologies on a timely basis, if at all. Furthermore, our new products may never gain market acceptance, and we may not be able to respond effectively to product announcements by competitors, technological changes or emerging industry standards. Our failure to respond to product announcements, technological changes or changes in industry standards would likely prevent our products from gaining market acceptance and harm our business.
We may not be able to pass on all cost increases from rising crude oil prices.
Our principal main raw materials in manufacturing our products are petroleum and petrochemicals. While we try to match materials cost increases with sales price increases, our ability to pass on cost increases to our customers is dependent on market conditions. There may be periods during which we cannot fully cover our cost increases by increases in the sale prices of our products. This may have a material adverse effect on our financial condition, results of operations or cash flows.
Our operations may be adversely affected by the cyclical nature of the petroleum and petrochemical market and by the volatility of prices of crude oil and refined oil products.
Most of our revenues are attributable to petrochemical products which have historically been cyclical and sensitive to the availability and price of feedstocks and general economic conditions. Markets for many of our products are sensitive to changes in industry capacity and output levels, cyclical changes in regional and global economic conditions, the price and availability of substitute products and changes in consumer demand, which from time to time have had a significant impact on product prices in the regional and global markets. Historically, the markets for these products have experienced alternating periods of tight supply, causing prices and margins to increase, followed by periods of capacity additions, possibly resulting in oversupply and declining prices and margins. As tariffs and other import restrictions are reduced and the control of product allocation and pricing is relaxed in the PRC, the markets for many of our products have become increasingly subject to the cyclicality of regional and global markets. Historically, international prices of crude oil have fluctuated widely due to many other factors that are beyond our control. We cannot assure you that future growth in demand for our products will be sufficient to alleviate any existing or future conditions of excess industry capacity or that such conditions will not be sustained or further aggravated by anticipated or unanticipated capacity additions or other events. In addition, we expect that the volatility and uncertainty of the prices of crude oil and petrochemical products will continue. Increasing crude oil prices and declines in prices of petrochemical products may adversely affect our business and results of operations and financial condition.
If we do not successfully establish strong brand identity in the international markets, such as the United States and Europe, we may be unable to achieve widespread acceptance of our products outside of the PRC.
We believe that establishing and strengthening our brands is critical to achieving widespread acceptance of our products and to establishing key strategic relationships. The importance of brand recognition will increase as current and potential competitors enter the market with competing products. Our ability to promote and position our products depends largely on the success of our marketing efforts and our ability to provide high quality products and customer support. These activities are expensive and we may not generate a corresponding increase in customers or revenue to justify these costs. If we fail to establish and maintain our brand, or if our brand value is damaged or diluted, we may be unable to attract new customers and compete effectively.
Our insurance coverage may not be adequate to cover risks related to our production and other operations.
We maintained insurance coverage of approximately $2.8 million on our properties and facilities and $8.2 million on our inventory in 2006. We have no plans to increase this coverage. The book value of our buildings and equipment, including projects under construction, was approximately $13.6 million as of December 31, 2006. The amount of the coverage of our inventory is the same as its book value,
which was approximately $9.6 million as of December 31, 2006. In accordance with what we believe is customary practice among chemical producers in the PRC, we insure only high-risk assets, such as production property and equipment, inventories and hazardous facilities. However, the under insurance of our properties and facilities in accordance with this PRC practice exposes us to substantial risks such that, in the event of a major accident, our insurance recovery may be inadequate.
We do not currently carry third party liability insurance to cover claims in respect of bodily injury, property or environmental damage arising from accidents on our property or relating to our operations. We also do not carry business interruption insurance as such coverage is not customary in the PRC.
Losses incurred or payments required to be made by us which are not fully insured could have a material adverse effect on our financial condition.
Our international sales will likely account for a significant amount of our revenue in the future, which may expose us to political, regulatory, economic, foreign exchange and operational risks.
Because we sell our products worldwide, our business is subject to risks associated with doing business internationally. Significant management attention and financial resources are needed to develop our international sales, support and distribution channels. Our future results could be harmed by a variety of factors related to international operations, including:
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foreign currency exchange rate fluctuations,
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changes in a specific country’s or region’s political or economic condition, particularly in emerging markets,
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unusual or burdensome foreign laws or regulatory requirements or unexpected changes to those laws or requirements,
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trade protection measures and import or export licensing requirements,
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potentially adverse tax consequences,
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longer accounts receivable collection cycles and difficulties in collecting accounts receivables, and
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difficulty in managing widespread sales and distribution operations.
Risks Related to Doing Business in the People’s Republic of China
A slow-down of economic growth in China may adversely affect our growth and profitability.
Our financial results have been, and are expected to continue to be, affected by the growth in China’s economy. Although the economy in China has grown significantly in the past decade, we cannot assure you that growth will continue or that any slow-down will not have a negative effect on our business. Recently, the PRC government has indicated that it intends to introduce measures to control or slow-down the growth of the economy in China. Any slow-down of economic growth in China would likely adversely affect our operating results and financial condition.
Any changes in Chinese laws and regulations may have a material and adverse impact on our business.
Although we believe that our current operations are compliant with applicable PRC laws and regulations, there may be substantial uncertainties regarding the interpretation of existing and new PRC laws and regulations that apply to the chemical industry. It is possible that new laws and regulations will
affect our existing and future business and that the new laws and regulations may be applied retroactively. The PRC authorities retain broad discretion in dealing with violations of laws and regulations, including levying fines, revoking business licenses and requiring actions necessary for compliance. Any such action could have a material adverse effect on our business, results of operations and financial condition.
You may experience difficulties in effecting service of legal process, enforcing foreign judgments or bringing original actions in China based on United States or other foreign laws against us, our management or the members of our board of directors.
We conduct our operations in China and substantially all of our assets are located in China. In addition, all of our directors and our executive officers reside in China, and substantially all of the assets of these persons are located within China. You should note that it is difficult to effect service of process within the United States or elsewhere outside China upon our directors or executive officers, including with respect to matters arising under U.S. federal securities laws or applicable state securities laws. Moreover, our PRC legal counsel has advised us that China does not have treaties with the United States or most other western countries providing for the reciprocal recognition and enforcement of judgment of courts. As a result, court judgments obtained in jurisdictions with which the PRC does not have treaties on reciprocal recognition of judgment and in relation to any matter not subject to a binding arbitration provision may be difficult or impossible to be enforced in the PRC. Furthermore, an original action may be brought in the PRC against our directors or executive officers only if the actions are not required to be arbitrated by PRC law, and only if the facts alleged in the complaint give rise to a cause of action under PRC law.
Governmental control of currency conversion may affect the value of your investment.
We receive substantially all of our revenues in renminbi, which is currently not a fully convertible currency. Our income will primarily be derived from dividend payments and any other distributions by our subsidiaries in China. Under China’s existing foreign exchange regulations, payments of current account items, including profit distributions and interest payments, can be made in foreign currencies without prior approval from the State Administration of Foreign Exchange by complying with certain procedural requirements. The Chinese government, however, may, at its discretion, restrict access in the future to foreign currencies for current account transactions. If this were to occur, we might not be able to receive dividends in foreign currencies from our subsidiaries thereby limiting the ability to pay cash dividends to our shareholders, which could adversely affect the value of your investment in us.
Fluctuation of the RMB could materially affect our financial condition and results of operations.
Substantially all of our revenues derived and expenses and liabilities incurred are in RMB. Thus, our revenues and operating results may be impacted by exchange rate fluctuations. The value of the RMB is subject to changes in the PRC government’s policies and depends to a large extent on China’s domestic and international economic and political developments, as well as supply and demand in the local market. Since 1994, the official exchange rate for the conversion of RMB to US dollars has generally been stable. In July, 2005, China reformed its foreign exchange regime by moving into a managed floating exchange rate system based on market supply and demand with reference to a basket of currencies. RMB would no longer be pegged to the U.S. dollar. A stronger RMB would make China’s imports cheaper and boost domestic consumption. It would also make our products more expensive to foreign buyers. We cannot give any assurance that the value of the RMB will continue to remain stable against the US dollar or any other foreign currency. Accordingly, we may experience economic losses and negative impacts on earnings and equity as a result of foreign exchange rate fluctuations. Furthermore, any devaluation of the RMB may adversely affect the dividends we may pay to our parent, thereby adversely affecting the value of, and dividends payable on, our common stock.
The PRC government will likely open markets to foreign competitors.
Historically, the PRC government has provided the PRC chemical industry with certain protection from foreign competition through three primary practices: maintaining relatively high import tariffs, imposing import license requirements and controlling the availability of foreign exchange required to pay for imported products. These practices affect the majority of the product types produced by us. These tariffs and import restrictions are intended, in part, to protect domestic producers of these products, such as us.
China became a member of the World Trade Organization, or WTO in 2001. As part of its WTO accession commitments, the PRC government will gradually eliminate import quotas and import license systems, reduce tariffs, and permit foreign invested enterprises to engage in domestic distribution and retail for all of our major products. Increased competition from imported products resulting from China’s accession to the WTO may have a material adverse effect on our business and operations. We do, however, believe that our products have been and will continue generally to be competitive with imported products in the PRC. Tariff reductions, however, could reduce our profit margins or otherwise negatively impact our revenue from certain products, including a small number of significant products.
Political and economic policies of the PRC government could affect our business.
The economy of China differs from the economies of most countries belonging to the Organization for Economic Co-operation and Development in a number of respects, including:
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structure;
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level of government;
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level of capital reinvestment;
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control of foreign exchange; and
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allocation of resources.
Before its adoption of reform and open-door policies beginning in 1978, China was primarily a planned economy. Since that time, the PRC government has been reforming the PRC economic system, and has also begun reforming the government structure in recent years. These reforms have resulted in significant economic growth and social progress. Although the PRC government still owns a significant portion of the productive assets in China, economic reform policies since the late 1970s have emphasized autonomous enterprises and the utilization of market mechanisms. We currently expect that the PRC government will continue these reforms, further reduce governmental intervention with enterprises and rely more heavily on market mechanisms to allocate resources. Although we believe these reforms will have a positive effect on our overall and long-term development, we cannot predict whether certain changes to China’s political, economic and social conditions, laws, regulations and policies will have any adverse effect on our current or future business or results of operations.
We may be adversely affected by environmental regulations.
We are subject to PRC national and local environmental protection regulations which currently impose fees for the discharge of waste substances, require the payment of fines for pollution, and provide for the closure by the PRC government of any facility that fails to comply with orders requiring us to cease or improve upon certain activities causing environmental damage. Due to the nature of our business, we produce significant amounts of waste water, gas, and solid waste materials during the course
of our production. We believe our environmental protection facilities and systems are adequate for us to comply with the existing national, provincial, and local environmental protection regulations. However, PRC national, provincial, or local authorities may impose additional or more stringent regulations which would require additional expenditure on environmental matters or changes in our processes or systems.
Risks Concerning Investing In Us
We expect our stock price to be volatile.
The price at which our common stock will trade is likely to be highly volatile and may fluctuate substantially due to many factors, some of which are:
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actual or anticipated fluctuations in our results of operations,
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announcements of technological innovations or significant contracts by us or our competitors,
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introduction of new products by us or our competitors,
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commencement of, or our involvement in, litigation,
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our sale of common stock or other securities in the future,
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conditions and trends in the chemical industry,
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the trading volume of our common stock,
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changes in the estimation of the future size and growth rate of our markets, and
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general economic conditions.
The market for our shares may be illiquid.
There may be only a limited trading market for our common stock. Our common stock is traded on the Bulletin Board. Shares which are “thinly” traded on the Bulletin Board often trade only infrequently and experience a significant spread between the market maker’s bid and asked prices. As a result, our common stock may be illiquid.
Because our executive officers’ and directors’ liabilities are limited, your rights against them in a civil lawsuit may be limited.
We will indemnify any executive officer, director or former executive officer or director to the full extent permitted by Nevada law. This could include indemnification for liabilities under securities laws enacted for stockholder protection, though the SEC thinks this indemnification is against public policy.
Our management owns a majority of our outstanding common stock and their interests may be different from, and conflict with, your own.
The interests of our management could conflict with the interests of our other shareholders. Our executive management beneficially owns approximately 64% of our outstanding common stock. Accordingly, our management has the power to determine the election of our directors and the approval of actions for which the approval of our shareholders is required.
We do not expect to pay dividends to our common shareholders.
We do not anticipate paying cash dividends in the foreseeable future. We presently intend to reinvest our cash back into the company rather than paying dividends to our common stockholders. As a result, your ability to realize any return on your investment in our common stock will likely result only from your sale of some or all of your shares.
The issuance of additional shares of common stock will dilute the interests of our shareholders.
As of March 23, 2007, we had 20,000,000 shares of our common stock outstanding. Our board has the ability, without further shareholder approval, to issue up to 40,000,000 additional shares of common stock. Such issuance may result in a reduction of the book value or market price of our outstanding common stock. Issuance of additional common stock will reduce the proportionate ownership and voting power of the then existing shareholders.
ITEM 1B.
ITEM 1B. UNRESOLVED STAFF COMMENTS
Not applicable.
ITEM 2.
ITEM 2. PROPERTIES
Our Facilities
Our corporate headquarters and production and ancillary facilities are located in the Qiaokou District, Wuhan (the largest city in Central China), capital of Hubei Province, China. Our facilities occupy an area of approximately 111,499 square meters. The total gross floor area of our production and other facilities is approximately 49,721 square meters. We own all of the buildings and facilities on our premises.
We have the right to acquire land transfer rights with respect to the land upon which our buildings and facilities are located. The total cost to acquire this right was $3,933,176. We paid $1,410,200, $993,960 and $491,684 dollars in 2006, 2005 and 2004, respectively. Approximately $2.3 million, the sum of the balance and incidental costs relating to the acquisition, must be paid on or before September 30, 2007. Upon making the final payment, we will have full right to the land through 2055.
Our production facilities are in good operation. We believe that most of our principal production facilities are more advanced than similar facilities of other companies in the PRC. We further believe that, on the whole, our production facilities are adequate for conducting our business.
Our power plant, built in 1989, is equipped with three steam boilers which provided all of our steam requirements through 2006. The power plant has two power generators which generated 2.2 million kilowatt hours of electricity through 2006. Our waste water treatment facility has the capacity to process 5,100 tons of waste water daily, which satisfies our needs.
Maintenance
The maintenance of our production facilities follows a scheduled maintenance program. Our facilities operate 24 hours a day. We undertake maintenance projects, both major and minor, on an as-needed basis. In 2002, we spent approximately $1 million on maintenance of our facilities, which included our biennial maintenance program, general repairs and replacement of spare parts, as well as labor costs and subcontractors’ fees which were primarily paid to third parties. In 2006, 2005 and 2004, we spent approximately $170,000, $170,000 and $160,000, respectively, on facilities, including expenses for general maintenance, replacement of parts and components, and labor cost and subcontractor expenses paid to third parties. Total maintenance expenses accounted for less than 1% of our total cost of sales in 2006, 2005 and 2004, respectively.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
We do not believe there are any pending or threatened legal proceedings that, if adversely determined, would have a material adverse effect on us.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of shareholders during the quarter ended December 31, 2006.
PART II
ITEM 5.
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
Market Information
Our common stock is traded on the Over-the Counter Bulletin Board under the symbol “CGRH.OB.” It began trading on September 20, 2004. The following table represents the range of the high and the low bid quotations, as reported by the Nasdaq Trading and Market Services, for each fiscal quarter since September 20, 2004. These quotations represent prices between dealers, may not include retail mark-ups, mark-downs or commissions, and may not necessarily represent actual transactions.
On March 22, 2007, the closing price of our common stock was $0.45 and we had approximately 171 record owners of our common stock.
Dividends and Dividend Policy
In May 2005, Cougar Holdings declared a distribution dividend of all of its shares of common stock of Western Gems Inc., a wholly owned subsidiary company owning the WC1 and WC2 mineral claims previously owned by Cougar Holdings, to the holders of record of Cougar Holding’s common stock, as of the close of business on May 2, 2005, on the basis of one Western Gems Inc. voting common share for each ten shares of Cougar Holding’s common stock.
Except as set forth above, we have never declared or paid any cash dividends on our common stock. We anticipate that any earnings will be retained for development and expansion of our business and we do not anticipate paying any cash dividends in the foreseeable future. Our board of directors has sole discretion to pay cash dividends based on our financial condition, results of operations, capital requirements, contractual obligations and other relevant factors. Our board of directors has the ability to control whether Wuhan Youji and Wuhan Youji Import and Export shall pay dividends.
Recent Sales of Unregistered Securities
We did not issue any common stock during the quarter ended December 31, 2006.
Repurchase of Securities
We did not repurchase any of our common stock during the quarter ended December 31, 2006.
Performance Graph
The performance graph below is required by the SEC and shall not be deemed to be incorporated by reference by any general statement incorporating by reference this annual report on Form 10-K into any filing under the Securities Act or the Exchange Act except to the extent we specifically incorporate this information by reference and shall not otherwise be deemed soliciting material or filed under such acts.
The graph below matches the cumulative 27-month total return of holders of our common stock with the cumulative total returns of the S & P 500 index and the S & P Diversified Chemicals index. The graph assumes that the value of the investment in our common stock and in each of the indexes (including reinvestment of dividends) was $100 on October 19, 2004 and tracks it through December 31, 2006.
The stock price performance included in this graph is not necessarily indicative of future stock price performance.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
We derived the following selected financial data from our audited consolidated financial statements for the five fiscal years ended December 31, 2002 to December 31, 2006. The following financial data should be read in conjunction with our consolidated financial statements and the accompanying notes and the MD&A included elsewhere herein.
Summary of Operations:
ITEM 7.
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Introductory Note
References to our audited financial statements refer to the audited consolidated financial statements of Cougar Holdings Inc. for the years ended December 31, 2006, 2005 and 2004 accompanying this Form 10-K.
Material Changes in Results of Operations
We are a manufacturer and distributor of organic chemical products for both local and export sales. Because the price of international crude oil has increased significantly, the price of petrochemical products has increased accordingly. With this increase in the price of petrochemical products and energy, cutthroat competition has taken place in the domestic and international market. We have continued to expand our market share and increase revenues. Our gross profit as a percent of sales has declined, however, as a result of the increase in the cost of materials and energy.
The following table sets forth, as a percentage of sales, certain items appearing in our consolidated statements of operations (in thousands):
Net sales
Net sales decreased by $1.6 million, or 1.9%, to $83.3 million in 2006 from $84.9 million in 2005. Net sales increased by $22.9 million, or 36.9%, to $84.9 million in 2005 from $62.0 million in 2004. Net sales for the fourth quarter ended December 31, 2006 increased $2.8 million, or 13.9%, to $22.9 million from $20.0 million for the same period in 2005.
During 2006, as a result of the increased production costs faced by many of our customers, our customers have cut their production reducing demand for our products. Our customers have experienced, similar to our experience, an increase in the cost of raw materials, principally petroleum-based materials, and an increase in the cost of transporting products, again, the result of the increase in the cost of gasoline.
To counter these effects and increase our sales, part of our business strategy is to increase market share by expanding our markets outside of China by aggressively promoting our company’s and our products’ reputation, including the quality of our products and the efficiency of our customer service. Our efforts have so far resulted in improving sales for the second half of 2006 after a significant decline in sales for the first half of 2006 when compared to the same periods for 2005.
Our success in increasing sales over the past three years is attributable to primarily our increase market shares of our product lines:
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Toulene oxidization series - Our revenues increased in this series, principally from our sodium benzoate and benzoic acid products, from $16.2 million in 2003 to $30.8 million in 2006.
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Toulene chlorinazation series - Our revenues increased in this series from $13.7 million in 2003 to $26.0 million in 2006.
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Acrolein series - Our revenues increased in this series, primarily glutaraldehyde, from $1.3 million in 2003 to $8.1 million in 2006.
Cost of sales and gross profit
Cost of sales increased by $1.2 million, or 1.7%, to $72.3 million in 2006 from $71.1 million in 2005. Cost of sales increased as a percent of net sales from 83.7% in 2005 to 86.8% in 2006. Gross profit decreased by $2.8 million, or 20.4%, to $11.0 million in 2006 from $13.8 million in 2005. Gross profit for the fourth quarter ended December 31, 2006 was $3.0 million, a decrease compared to gross profit of $3.6 million for the fourth quarter ended December 31, 2005. In 2006, due to the rising price of raw materials and coal, our gross profit, as a percent of net sales, dropped from 16.3% in 2005 to 13.2% in 2006.
This is a reversal compared to prior years. Cost of sales increased by $18.6 million, or 35.4%, to $71.1 million in 2005 from $52.5 million in 2004. Cost of sales decreased as a percent of net sales from 84.7% in 2004 to 83.7% in 2005. Gross profit increased by $4.4 million, or 46.3%, to $13.9 million in 2005 from $9.5 million in 2004. Our gross profit, as a percent of net sales, increased to 16.3% in 2005 from 15.3% in 2004.
As described above, we have, along with other production facilities in China, experienced a significant increase in the cost of production, which is mainly attributable to an increase in the cost of raw materials, principally petroleum-based materials, and an increase in the cost of transportation.
Administrative expenses
Our administrative expenses have remained relatively stable while our net sales have increased. Our administrative expenses increased by $0.1 million to $2.9 million in 2006 from $2.8 million in 2005, and increased as a percent of net sales, to 3.5% in 2006 from 3.2% in 2005. Our administrative expenses increased by $0.4 million to $2.8 million in 2005 from $2.4 million in 2004, but dropped, as a percent of net sales, from 3.8% in 2004 to 3.2% in 2005.
Selling and distribution expenses
Our selling and distribution expenses are primarily comprised of the cost of the transportation of the products and generally fluctuate directly with our sales. These expenses have increased over the past three years primarily due to the rising cost of fuel. Our selling and distribution expenses remained relatively stable, rising from $4.1 million, or 4.9% of net sales, in 2005 to $4.2 million, or 5.1% of net sales, in 2006. Selling and distribution expenses increased by $1.2 million to $4.1 million in 2005 from $2.9 million in 2004. As a percent of net sales, however, our selling and distribution expenses only marginally increased from 4.7% in 2004 to 4.9% in 2005.
Income from Continuing Operations
Primarily because of the increased cost of the petroleum-based raw materials and the increased cost of coal, our income from continuing operations decreased from $6.5 million, or 7.7% of net sales, in 2005 to $3.7 million, or 4.4% of net sales, in 2006.
Our income from continuing operations increased from $3.9 million, or 6.3% of net sales, in 2004 to $6.5 million, or 7.7% of net sales, in 2005. This was primarily the result of improved gross profit and relative containment of administrative expenses and selling and distribution expenses in 2005 compared to 2004.
Finance Cost
Finance cost is primarily the interest expense of our bank loans. Finance cost was $0.6 million in 2006 and $0.5 million in 2005. As a percent of net sales, our finance cost increased from 0.6% in 2005 to 0.8% in 2006. Finance cost was $0.5 million in 2005 and $0.4 million in 2004. As a percent of net sales, our finance cost dropped from 0.7% in 2004 to 0.6% in 2005.
Tax Expense
Our tax expense is comprised of surplus tax, income tax, and local taxes. Our tax expense was $1.3 million, or 1.5% of net sales, in 2006, $2.3 million, or 2.7% of net sales in 2005, and $1.1 million, or 1.7% of net sales, in 2004.
Net Income
Net income for 2006 was $1.9 million, or 2.3% of net sales. Net income for 2005 was $3.4 million, or 4.0% of net sales. Net income for 2004 was $2.3 million, or 3.6% of net sales.
Liquidity and Capital Resources
The following table sets forth the changes in our cash flows appearing in our consolidated statements of cash flows (in thousands and U.S. dollars):
Our primary source of cash flow is from our operations and bank loans. Our cash position increased to $5.7 million as of December 31, 2006 from $4.6 million as of December 31, 2005. Our cash and cash equivalents are denominated in renminbi. We did not engage in any hedging activities relating to foreign exchange, interest rates or other risks in 2006 or 2005.
Operations
Net cash provided by operating activities was $1.8 million for 2006 compared to $2.3 million for 2005. Net cash used by operating activities for the nine months ended September 30, 2006 was $2.0 million. Cash inflow during 2006 was mainly impacted by the company’s net income before deducting depreciation and other non-cash expenses offset by a significant increase in accounts receivables. Our accounts receivable as of December 31, 2006 increased by almost $2.7 million from December 31, 2005, but declined $2.8 million since September 30, 2006. Our accounts receivable which are more than 60 days old as of December 31, 2006 are $6.4 million, a $1.2 million decrease from $7.6 million as of September 30, 2006.
Net cash provided by operating activities was $2.3 million for the year ended 2005 compared to net cash used in operating activities of $55,000 in 2004. Cash inflow was mainly impacted by the net effect of the increase in net income in 2005 and use of funds in reduction of trade and other payables and accrued liabilities reflecting ongoing growth in the volume of raw materials.
As of December 31, 2006, our current assets were $34.3 million and current liabilities were $23.9 million resulting in a current ratio of approximately 1.44 to 1. As of December 31, 2005, our current assets were $30.8 million and current liabilities were $21.1 million resulting in a current ratio of approximately 1.46 to 1.
Investing
Net cash used in investing activities was $3.2 million for 2006 compared to $2.7 million for 2005 and $1.3 million for the nine months ended September 30, 2005. Cash used in investing activities for 2006 was approximately $1.4 million towards acquisition of our land use rights and approximately $1.7 million towards property, plant and equipment. We accrued additional cost of $1.3 million for the land use right which represents taxes and fees payable to the government. The balance due on the land use rights was $2.3 million as of December 31, 2006, which is due September 30, 2007.
Net cash used for investing activities increased by $0.5 million to $3.1 million in 2006 from $2.7 million in 2005. Our investing activities in 2006, 2005 and 2004 were essentially $3.2 million, $2.7 million and $4.1 million, respectively, for our continued expansion of our facilities and the payments towards our land transfer rights. Our overall expenditures for the purchase of property, plant and equipment amounted to $1.8 million, $2.3 million and $3.0 million in 2006, 2005 and 2004, respectively. We anticipate our capital expenditure for 2007 to be approximately $3.0 million. The capital for these expenditures is expected to be financed by our short term bank debt and operating income.
Financing
Net cash provided by financing activities was $2.4 million for 2006 compared to net cash used in financing activities of $0.6 million for 2005 and $2.4 million for the nine months ended September 30, 2006. This change was the result of an increase in bank loans of approximately $2.7 million - from $6.2 million as of December 31, 2005 to $8.9 million as of December 31, 2006. No new bank loans were negotiated during the fourth quarter of 2006. Net cash provided by financing activities was $2.4 million for the nine months ended September 30, 2006.
Net cash used for financing activities in 2005 was $0.6 million compared to net cash used for financing activities of $0.1 million in 2005. Net cash used for financing activities in 2005 was $0.6 million mainly reflecting short term bank borrowing of $6.2 million and repayments of $6.7 million.
We have historically relied on short term funding to satisfy our short-term obligations through the refinancing of indebtedness and other measures. We have a short term loan of $5.1 million from the Commercial Bank of China with the interest of 5.85% per year and a short term loan of $3.8 million from China Merchants’ Bank with the interest of 5.58% per year. All of our short-term borrowings were denominated in renminbi. As at December 31, 2006, the outstanding amount under these loans was $8.9 million. With cash generated from our operations, we believe that we have more than sufficient resources to meet our foreseeable working capital needs. Our ability to obtain external financing in the future and the cost of such financing are subject to a variety of uncertainties, including:
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obtaining the PRC government approvals required to access domestic or international financing or to undertake any project involving significant capital investment;
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our future results of operations, financial condition and cash flows;
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the cost of financing and the condition of financial markets; and
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the potential changes in monetary policy of the PRC government with respect to bank interest rates and lending practices.
Critical Accounting Policies
We prepare our consolidated financial statements in accordance with accounting principles generally accepted in the United States of America. We have identified the accounting policies below as critical to our business operations and the understanding of our results of operations. For a detailed discussion on the application of these and other accounting policies, see Note 3 to our audited consolidated financial statements. The application of these policies may require management to make judgments and estimates that affect the reported amount of assets and liabilities, disclosure of contingent assets and liabilities at the date of our financial statements, and the reported amounts of revenue and expenses during the reporting period. Management uses historical experience and all available information to make these estimates and judgments, and different amounts could be reported using different assumptions and estimates.
Revenue Recognition. Our revenue recognition policy is critical because our revenue is a key component to our results. We follow very specific and detailed accounting guidelines in measuring revenue. However, certain judgments affect the application of our revenue policy. Should changes in conditions cause management to determine these criteria are not met for certain future transactions, revenue recognized for any reporting period could be adversely affected.
Provision for Accounts Receivables. Accounts receivables are carried at original invoice amount less provision for impairment. We specifically analyze historical bad debts, ageing receivables, customer concentrations, customer credit-worthiness, current economic trends and changes in our customer
payment terms when evaluating the adequacy of the allowance for doubtful accounts. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required.
Inventories. Inventories are stated at the lower of cost or net realizable value. We estimate net realizable value based on intended use, current market value and inventory ageing analyses. We write down our inventory for estimated obsolescence or unmarketable inventory equal to the difference between the cost of inventory and the estimated market value based upon assumptions about future demand and market conditions. If actual market conditions are less favorable than those projected by management, additional inventory write-downs may be required.
Impairment of Long-Lived Assets. We review long-lived assets for possible impairment by evaluating whether the carrying amount of assets exceed its recoverable amount. Our judgment regarding the existence of impairment indicators is based on legal factors, market conditions and operational performance of our assets. Future adverse changes in legal environment, market conditions or poor operating results could result in losses or an inability to recover the carrying value of the long-lived assets, thereby possibly requiring an impairment charge in the future.
Deferred Income Taxes. Deferred income tax is provided in full, using the liability method, on temporary differences arising between the tax bases of assets and liabilities and their carrying values in the financial statements. Currently enacted tax rates are used in determination of deferred income tax. Deferred tax assets are recognized to the extent that it is probable that future taxable income will be available against which the temporary differences can be utilized.
Off-Balance Sheet Arrangements
We have no off-balance sheet arrangements that have or are reasonably likely to have a current or future material effect on us.
Contractual Obligations
We have entered into certain long-term contractual obligations that will require various payments over future periods as follows:
Recently Issued Accounting Pronouncements
In February 2006, the FASB issued SFAS No. 155 “Accounting for Certain Hybrid Financial Instruments: an amendment of FASB Statements No. 133 and 140”. SFAS No. 155 simplifies the accounting for certain derivatives embedded in other financial instruments by allowing them to be accounted for as a whole if the holder elects to account for the whole instrument on a fair value basis. SFAS No. 155 also clarifies and amends certain other provisions of SFAS No. 133 and SFAS No. 140. SFAS No. 155 is effective for all financial instruments acquired, issued or subject to a remeasurement
event occurring in fiscal years beginning after September 15, 2006. Earlier adoption is permitted, provided the entity has not yet issued financial statements, including for interim periods, for that fiscal year. We do not expect the adoption of SFAS No. 155 to have a material impact on our financial statements, as we currently have no financial instruments within the scope of SFAS No. 155.
In March 2006, the FASB released SFAS No. 156 “Accounting for Servicing of Financial Assets: an amendment of FASB Statement No. 140” to simplify accounting for separately recognized servicing assets and servicing liabilities. SFAS No. 156 permits an entity to choose either the amortization method or the fair value measurement method for measuring each class of separately recognized servicing assets and servicing liabilities after they have been initially measured at fair value. SFAS No. 156 applies to all separately recognized servicing assets and liabilities acquired or issued after the beginning of an entity’s fiscal year that begins after September 15, 2006. We do not anticipate the adoption of SFAS No. 156 will have a material impact on our financial statements.
In July 2006, the FASB issued FIN 48 “Accounting for Uncertainty in Income Taxes”. This interpretation requires that the entity recognizes in its financial statements the impact of a tax position, if that position is more likely than not of being sustained on audit, based on the technical merits of the position. The provisions of FIN 48 is effective for fiscal years beginning after December 15, 2006, with the cumulative effect of the change in accounting principle recorded as an adjustment to opening retained earnings. We are currently evaluating the impact of adopting FIN 48 on our financial statements.
In September 2006, the FASB issued SFAS No. 157 “Fair Value Measurement”. SFAS No. 157 defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. This Statement shall be effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. Earlier application is encouraged, provided that the reporting entity has not yet issued financial statements for that fiscal year, including any financial statements for an interim period within that fiscal year. The provisions of this statement should be applied prospectively as of the beginning of the fiscal year in which this statement is initially applied, except in some circumstances where the statement shall be applied retrospectively. We are currently evaluating the impact of adopting SFAS No. 157 on our financial statements.
The FASB released SFAS No. 158 “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans: an amendment of FASB Statements No. 87, 88, 106, and 132(R) “ which requires an employer to recognize the over funded or under funded status of defined benefit and other postretirement plans as an asset or liability in its statement of financial position and to recognize changes in that funded status in the year in which the changes occur through an adjustment to comprehensive income. The disclosure requirements are effective as of the end of the fiscal year ending after December 15, 2006. This statement also requires an employer to measure the funded status of a plan as of the date of its year-end statement of financial position, with limited exceptions with effective as of the end of the fiscal year ending after June 15, 2007. We are currently evaluating the impact of adopting SFAS No. 158 on our financial statements.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Interest Rate Risk
Our bank loans expose our earnings to changes in short-term interest rates, since interest rates on the underlying obligations are either variable or fixed for such a short period of time as to effectively become variable. Our short term bank borrowing increased from $6.2 million as of December 31, 2005 to $8.9 million as of December 31, 2006. The impact on earnings of a hypothetical 10% increase or decrease in our interest rate on our outstanding debt would have been approximately $51,000 and $36,000 in 2006 and 2005, respectively. Actual results may differ.
Foreign Exchange Risk
Substantially all of our revenues derived and expenses and liabilities incurred are in renminbi. Thus, our revenues and operating results may be impacted by exchange rate fluctuations in the currencies of China, Taiwan and Hong Kong. See “Risk Factors - Fluctuation of the RMB could materially affect our financial condition and results of operations.” In July 2005, the PRC government reformed its foreign exchange regime by moving into a managed floating exchange rate system based on market supply and demand with reference to a basket of currencies. A stronger renminbi, although intended to reduce China’s trade surplus, make its imports cheaper, and boost domestic consumption, would also make our products more expensive to foreign buyers.
We have not tried to reduce our exposure to exchange rate fluctuations by using hedging transactions. However, we may choose to do so in the future. Accordingly, we may experience economic losses and negative impacts on earnings and equity as a result of foreign exchange rate fluctuations. The effect of foreign exchange rate fluctuation during the year ended December 31, 2006 was not material to us. See Note 3, under the captions “Foreign currency translation” and “Fair value of financial instruments” to the consolidated financial statements commencing on page.
Commodity Risk
Our principal main raw materials in manufacturing our products are petroleum and petrochemical products and, accordingly, we are exposed to market risk from price changes in crude oil and refined oil products. As of the date of this Annual Report, crude oil prices were trading at around $65 per barrel. Rising global demand for crude oil and geopolitical concerns, including violence in Iraq and rising resource nationalism in South America, create uncertainty and possibility of rising prices for the principal source raw material for our products’ raw materials.
We have not tried to reduce our exposure to such risk by using hedging transactions like forward commodity contracts. We may, however, do so in the future. Historically, we were unable to pass these cost increases on to our customers. Starting in 2005, we were permitted to raise the sales prices of our products and pass a portion of the cost increase on to our customers. We have been unable to pass along all of this cost increase. Our ability to increase the prices for our products will depend to a great extent on market competition and demand. See “Risk Factors - We may not be able to pass on all cost increases from rising crude oil prices.” and “Risk Factors - Our operations may be adversely affected by the cyclical nature of the petroleum and petrochemical market and by the volatility of prices of crude oil and refined oil products.”
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The financial statements required by this item are set forth on pages to and are incorporated herein by this reference.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
ITEM 9A.
ITEM 9A. CONTROLS AND PROCEDURES
Disclosure Controls and Procedures
Prior to the acquisition of Wuhan Youji on July 1, 2005, Cougar Holdings was an exploration stage company formed to explore its properties in Canada for the presence of gemstones. Prior to the acquisition, Cougar Holdings’ activities had consisted solely of the staking of mining claims and Cougar Holdings had not developed any mining properties into a producing mine, nor did it ever earn revenue from any of the properties. During the quarter ended June 30, 2005, Cougar Holdings transferred its mineral claims and, as of June 30, 2005, no longer owned any mineral claims or had any properties to explore. Cougar Holdings’ operations prior to July 1, 2005 necessitate disclosure controls and procedures substantially different than now demanded by our operations as a result of the acquisition of Wuhan Youji.
To address the significant change in the size and scope of operations of our company after the acquisition of Wuhan Youji, our management, in conjunction with our accounting and legal advisors, have established disclosure controls and procedures to ensure that:
•
the information required to be disclosed by us in our SEC reports is accumulated and communicated to our management, including our chief executive officer and chief financial officer, as appropriate, to allow timely decisions regarding required disclosure, and
•
the information required to be disclosed in our SEC reports is consistently recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.
None of the current members of management or the board of directors was a member of management or the board of directors of Cougar Holdings as of June 30, 2005. Nonetheless, our management was assured by prior management of Cougar Holdings’ compliance with its obligations under the Securities Exchange Act of 1934.
In conjunction with the foregoing, as of the end of the period covered by this report, our company conducted an evaluation, under the supervision and with the participation of our chief executive officer and chief financial officer, of our disclosure controls and procedures (as defined in Rules 13a-15(e) of the Exchange Act). Based on this evaluation, our chief executive officer and chief financial officer concluded that our company’s disclosure controls and procedures are effective to ensure that information required to be disclosed by us in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms.
Limitations on the Effectiveness of Controls
A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resources constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within a company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the control.
The design of any system of controls also is based in part upon certain assumptions about the likelihood of future events, and there can only be reasonable assurance that any design will succeed in achieving its stated goals under all potential future conditions. Over time, control may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.
Internal Control over Financial Reporting
On December 15, 2006, the SEC announced that it has further postponed the compliance date for reporting on internal control over financial reporting by non-accelerated filers regarding amendments to its rules under the Securities Exchange Act of 1934 that were adopted pursuant to Section 404 of the Sarbanes-Oxley Act of 2002. These registrants were scheduled to include in their annual report, a report by management on the company’s internal control over financial reporting and an accompanying auditor’s report, for fiscal years ending on or after July 15, 2005. However, due to the SEC’s announced postponement, they must now begin to comply in their annual reports for fiscal years ending on or after December 15, 2007. As a result, our management has deferred preparation for compliance with the internal control documentation, evaluation, and reporting provisions of Section 404 and plans to proceed with the project in 2007.
In conjunction with the foregoing, there was no change in our internal controls, which are included within disclosure controls and procedures, during our most recently completed fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal controls.
ITEM 9B.
ITEM 9B. OTHER INFORMATION
None.
PART III
ITEM 10.
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
Executive Officers and Directors
Our executive officers are appointed by, and serve at the designation of, the Board of Directors. All of our executive officers are employed on a full-time basis. No family relationship exists between any of our executive officers or directors. Our executive officers, together with their respective ages and certain biographical information, are as set forth below.
NAME
AGE
POSITION
Yuankun Gao
President and Director
Xingwen Diao
Chairman of the Board
Zitong Li
Chief Executive Officer and Director
Fenggang Wu
Chief Financial Officer and Director
Limin Chen
Chief Operating Officer and Director
Hongdun Zhou
Director
Guangyuan Hu
Secretary
Yuankun Gao, President and Director. Mr. Gao was Cougar Holdings’ Chairman of the Board
from August 2005 to September 2006 and continues to serve as a director. He has been the President of Cougar Holdings since August 2005. Mr. Gao has been the Chairman of the Board of Directors and the President of Linuo Group Co. Limited, a companies group engaged in multi-business operations in China since 1992. He is also the owner of Wuhan Linuo Investment Co. Limited which is a major shareholder of Wuhan Youji Industries Co. Limited. Mr. Gao began his career in 1981 as a marketing manager at Shandong Yinan Industries Supply and Marketing Corporation after obtaining his master degree from business school of Shandong University. From 1986 to 1992 he worked as the managing director of Shandong Lunan Medical Glass General Corporation. From 1992 to 1994 he worked as the deputy chief of Shandong Institute of Medical Machinery Research. Mr. Gao is also the Chairman of Shandong Jinan Association of Industrial and Commercial Enterprises, Vice Chairman of Jinan Committee of Political Consultative Conference, and the Chairman of Shandong Union of Private Enterprises.
Xingwen Diao, Chairman of the Board. Mr. Diao has been Cougar Holdings’ Chairman of the Board of Directors since September 2006. Mr. Diao has been the Chief Executive Officer of Wuhan Linuo Chemicals Group since March 2004 and has substantial experience in administration, marketing and human resources, serving as General Manager of the Marketing Department, General Manager of the Human Resources Department and Vice General Manager of Linuo Pharmaceutical Group (2003) and Chief Executive Officer of Xian Flanders Venture Capital Investment Co. (a joint-venture company) (from 2001-2002 ), Vice General Manager of Xian Ginwa Enterprises Group (2000-2001), Manager of the Human Resources Department of Xian Janssen Pharmaceutical Co. (1996-2000), Manager of the Department of Sales of Science Development attached to The Fourth Military Medical University (1988-1996).
Zitong Li, Chief Executive Officer and Director. Mr. Li has been Cougar Holdings’ Chief Executive Officer and a director since September 2006. Mr. Li has served Vice President and a Director of Wuhan Youji Industries Co. Limited since 1994. Mr. Li earned his M.B.A from Peoples University of China and a Masters of Economics Degree from Huazhong Technology University.
Fenggang Wu, Chief Financial Officer and Director. Mr. Wu has been Cougar Holdings’ Chief Financial Officer and a director since September 2006. Mr. Wu has been Secretary of the Board of Directors of Linuo Group, Vice General Manager of Shandong Linuo Investment Co. and Vice Director of the Security Research Institute of Shandong Economy College. Mr. Wu earned his Ph. D. in Tianjin Management College, Tianjin University and did his post doctorial research in People’s University of China. Mr. Wu served as an officer of Foreign Exchange Bureau of Shandong Province (2001-2002) and an officer of Shandong Branch of People’s Bank of China (1994-1998).
Limin Chen, Chief Operating Officer and Director. Mr. Chen has been the Chief Operating Officer and a director of Cougar Holdings since August 2005. Mr. Chen has been our Senior Engineer and a vice president and director of Wuhan Youji since 1994.
Hongdun Zhou, Director. Mr. Zhou served as Cougar Holdings’ Chief Executive Officer from June 2005 to September 2006, served as a member of the Board of Directors since June 2005 and was appointed Vice-Chairman of the Board in August 2005. Mr. Zhou has been the President and Managing Director of Wuhan Youji Industries Co. Limited since 1994, a director of Wuhan Youji’s majority-owned subsidiary, Wuhan Youji Import & Export Co., since September 2001. Mr. Zhou began his career in 1968 as a technical staff member at Wuhan Youji Hecheng Chemical Plant (presently known as Wuhan Youji Industries Co. Limited.) after graduating from college. Subsequently, he has held the positions of Deputy Manager and Director at Wuhan Youji Hecheng Chemical Plant. Mr. Zhou has been recognized as a Most Outstanding Entrepreneur in Hubei Province four times. He is also a representative of People’s Congress of both the Qiaokou District of Wuhan and the City of Wuhan.
Guangyuan Hu, Secretary. Mr. Hu has been the Secretary of Cougar Holdings since August 2005. Mr. Hu has served as the corporate secretary and a director of Wuhan Youji since November 2003 and has been the President of Wuhan Linuo Investment Co. Limited since July 2003. Mr. Hu has substantial experience in financing and financial management and control of a company. Serving as a credit manager of Standard Chartered Bank and Construction Bank of China for about 10 years, Mr. Hu is also experienced in banking management, project financing and investment.
Code of Conduct
Cougar Holdings adopted a Code of Ethics that applies to our executive officers and directors. We will provide, without charge, a copy of the Code of Ethics on the written request of any person addressed to us at, Cougar Holdings Inc., 10 Gongnong Rd, Qiaokou District, Wuhan 430035, PRC.
The other information required by this item is incorporated by reference to the Proxy Statement.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item is incorporated by reference to the Proxy Statement.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
The information required by this item is incorporated by reference to the Proxy Statement.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
The information required by this item is incorporated by reference to the Proxy Statement.
ITEM 14.
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
The information required by this item is incorporated by reference to the Proxy Statement.
PART IV
ITEM 15.
ITEM 15. EXHIBITS; FINANCIAL STATEMENT SCHEDULES
Exhibits
(1) Incorporated by reference to the Form 8-K/A-1 filed on September 8, 2005.
(2) Incorporated by reference to the Form 8-K filed on May 2, 2005.
(3) Incorporated by reference to the Form 10-SB filed on March 7, 2003.
(4) Incorporated by reference to the Form 8-K filed on April 29, 2005.
(5) Incorporated by reference to the Form 10-KSB filed on October 13, 2005.
(6) Incorporated by reference to the Form 10-KSB/A-1 filed on October 27, 2005.
* Filed herewith.
Financial Statement Schedules
The financial statement schedules required by Part IV, Item 15, are included immediately after the signature page of this Form 10-K.
SIGNATURES
In accordance with Section 13 or 15(d) of the Securities and Exchange Act of 1934, as amended, Cougar Holdings Inc. has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
COUGAR HOLDINGS INC.
By
/s/ ZITONG LI
Zitong Li
Chief Executives Officer
Date: April 9, 2007
In accordance with Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
Item 15
Cougar Holdings Inc.
Financial Statements Schedules :-
Valuation and Qualifying Accounts
Three years ended December 31, 2006
COUGAR HOLDINGS INC.
CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2006 and 2005
Index to Consolidated Financial Statements
Pages
Report of Independent Registered Public Accounting Firm
Consolidated Statements of Operations
Consolidated Balance Sheets
-F-4
Consolidated Statements of Cash Flows
-F-6
Consolidated Statements of Stockholders’ Equity
Notes to Consolidated Financial Statements
-F-29
Report of Independent Registered Public Accounting Firm
To the Board of Directors and Stockholders of
Cougar Holdings Inc.
We have audited the accompanying consolidated balance sheets of Cougar Holdings Inc. (the “Company”) and its subsidiaries as of December 31, 2006 and 2005, and the related consolidated statements of operations, stockholders’ equity and cash flows for each of the three years in the period ended December 31, 2006. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these 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 financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the 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.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of the Company and its subsidiaries as of December 31, 2006 and 2005, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2006 in conformity with accounting principles generally accepted in the United States of America.
/s/ PKF
Certified Public Accountants
Hong Kong, China
March 2, 2007
- -
Cougar Holdings Inc.
Consolidated Statements of Operations
(Stated in US Dollars)
See notes to consolidated financial statements
- -
Cougar Holdings Inc.
Consolidated Balance Sheets
(Stated in US Dollars)
- -
Cougar Holdings Inc.
Consolidated Balance Sheets (cont’d)
(Stated in US Dollars)
See notes to consolidated financial statements
- -
Cougar Holdings Inc.
Consolidated Statements of Cash Flows
(Stated in US Dollars)
- -
Cougar Holdings Inc.
Consolidated Statements of Cash Flows (cont’d)
(Stated in US Dollars)
See notes to consolidated financial statements
- -
Cougar Holdings Inc.
Consolidated Statements of Stockholders’ Equity
(Stated in US Dollars)
See notes to consolidated financial statements
- -
Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
1. Corporation information
Cougar Holdings Inc. (the “Company”) was incorporated in the State of Nevada on June 2, 1999. The Company was organized to explore properties in British Columbia, Canada, for gemstones and other commercial grade minerals. The Company’s shares are quoted for trading on the OTC Bulletin Board in the United States of America.
On June 9, 2005, an agreement for acquisition of 100% ownership in Wuhan Youji Industries Co., Limited (“Wuhan Youji”) was entered into by and among the Company, Hudson Capital Corporation (“Hudson”), a stockholder of the Company, Wuhan Youji and the shareholders of Wuhan Youji (“Wuhan Shareholders”) whereby the Company would acquire 55,835,679 shares of common stock representing 100% of the issued and outstanding common stock of Wuhan Youji for 17,150,000 shares of voting common stock of the Company issued to the Wuhan Shareholders (“Acquisition Agreement”).
The aforesaid transaction was completed on July 1, 2005 and thereafter Wuhan Youji became a wholly owned subsidiary of the Company and the Wuhan Shareholders became the majority stockholders of the Company. This transaction constituted a reverse takeover transaction (the “RTO”). As part of the RTO, Hudson returned 747,751 shares of the Company’s voting common stock for cancellation for $1.
Wuhan Youji was incorporated in the People’s Republic of China (the “PRC”) as a joint stock company with limited liability on June 18, 1994. Upon incorporation, its capital comprised of 46,529,679 shares of common stock of PRC’s Renminbi (“RMB”) 1 each of which 30,369,679 shares were held by a PRC state owned enterprise (“SOE”).
In 2003, the relevant PRC government authorities approved a privatization proposal whereby the SOE sold its entire interest in Wuhan Youji’s common stock (30,369,679 shares representing approximately 54% equity interest at the time of privatization) to various natural persons including the Wuhan Youji’s senior management. In connection with the privatization, Wuhan Youji also disposed of a subsidiary to the SOE.
Wuhan Youji holds 51% ownership in its subsidiary, Wuhan Youji Import and Export Co. Limited (“Wuhan I&E”). The remaining 49% equity interest is held by certain Wuhan Shareholders, which include Wuhan Youji’s senior management. Wuhan I&E was established in the PRC on July 24, 2001 with limited liability and is principally involved in handling the export sales of the Company’s products.
Pursuant to the RTO, the Company ended its exploration stage and, through Wuhan Youji, is engaged in the manufacture and distribution of organic intermediate commodities.
On July 1, 2005, the Board of Directors of the Company approved a change of fiscal year end date from June 30 to December 31, with all the required filings submitted to the United States Securities and Exchange Commission.
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
2. Description of business
The Company is principally engaged in the manufacture and distribution of approximately 100 different types of intermediate petrochemicals and petroleum products for the PRC and other overseas markets. The Company’s products are organic intermediate commodities, which are mainly used in further production of food additives and preservatives for agri-chemical and medical uses.
The key raw materials are toluene, liquid alkali and liquid chlorine. Toluene is mainly used in manufacturing sodium benzoate and benzyl chloride. Liquid alkali is mainly used in manufacturing sodium benzoate. Liquid chlorine is mainly used in manufacturing benzyl chloride and benzaldehyde products.
The suppliers of the Company are mainly situated in the PRC whilst the customers are located in both the PRC and overseas including Japan, Korea, the United States of America and Europe. Our customers include manufacturers, retail traders and some famous foreign companies.
3. Summary of significant accounting policies
Basis of presentation and consolidation
On July 1, 2005, the RTO was completed. Accordingly, the purchase method under reverse takeover accounting is adopted for the preparation of consolidated financial statements. It means that the consolidated financial statements are issued under the name of the legal parent, the Company, but a continuation of the consolidated financial statements of Wuhan Youji. The comparative figures represent the financial position of Wuhan Youji and the results of its operations and its cash flows.
The accompanying consolidated financial statements of the Company have been prepared in accordance with generally accepted accounting principles in the United States of America.
The consolidated financial statements include the accounts of the Company and its subsidiaries. All significant inter-company accounts and transactions have been eliminated in consolidation.
The results of subsidiaries acquired or disposed of during the years are included in the consolidated income statement from the effective date of acquisition or up to the effective date of disposal.
Minority interests
Minority interests resulted from the consolidation of a 51% owned subsidiary, Wuhan I&E.
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
3. Summary of significant accounting policies (cont’d)
Use of estimates
In preparing financial statements in conformity with accounting principles generally accepted in the United States of America, management makes estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the dates of the financial statements, as well as the reported amounts of revenues and expenses during the reporting periods. These accounts and estimates include, but are not limited to, the valuation of accounts receivable, inventories, deferred income taxes and the estimation on useful lives of property, plant and equipment. Actual results could differ from those estimates.
Concentrations of credit risk
Financial instruments that potentially subject the Company to significant concentrations of credit risk consist principally of cash and cash equivalents, restricted cash and trade and other receivables. As of December 31, 2006 and 2005, substantially all of the Company’s cash and cash equivalents and restricted cash were held by major financial institutions located in the PRC, which management believes are of high credit quality. With respect to trade receivables, the Company extends credit based on an evaluation of the customer’s financial condition, generally without requiring collateral. The Company maintains an allowance of doubtful accounts for trade and other receivables.
During the reporting periods, no customers contributed 10% or more of the Company’s consolidated revenue.
Cash and cash equivalents
Cash and cash equivalents include all cash, deposits in banks and other highly liquid investments with initial maturities of three months or less to be cash equivalents. As of December 31, 2006 and 2005, the cash and cash equivalents were denominated in RMB and are not freely convertible into foreign currencies.
Restricted Cash
Restricted cash consists primarily of bank deposits held as collateral for purchase of raw materials from a supplier and in connection with staff housing fund. More details are set out in notes 8 and 13b.
Marketable equity securities
Marketable equity securities represent the available-for-sale equity securities and are carried at current fair values by reference to their market prices. The change in fair values is taken to accumulated other comprehensive income.
There is no significant market price risk as there was no significant fluctuation on market prices and the marketable equity securities are not significant to the Company.
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
3. Summary of significant accounting policies (cont’d)
Investments in unlisted equity securities
The unlisted equity securities are held for long-term purposes. The management considers they have no other-than-temporary impairment and are carried at cost in the absence of availability of market prices. Only dividends are recognized as income.
Allowance of doubtful accounts
The Company establishes an allowance of doubtful accounts based on management’s assessment of the collectibility of trade and other receivables. A considerable amount of judgment is required in assessing the realization of these receivables, including the current creditworthiness of each customer and the related ageing analysis.
Based on the above assessment, during the reporting periods, the management establishes the general provisioning policy, which is considered to be adequate, for the potentially uncollectible amounts as follows :-
For trade receivables, the percentage is applied on the gross amount. For other receivables, the percentage is applied on the balance after excluding those debts which are not considered doubtful by the management.
Bad debts are written off when identified. The Company extends unsecured credit to customers ranging from one to two months in the normal course of business. The Company does not accrue interest on trade receivable.
Inventories
Inventories are stated at the lower of cost or market. Cost is determined on a weighted average basis and includes all expenditures incurred in bringing the goods to the point of sale and putting them in a saleable condition. In assessing the ultimate realization of inventories, the management makes judgments as to future demand requirements compared to current or committed inventory levels. The reserve requirements generally increase as the projected demand requirements decrease due to market conditions and product life cycle changes. During the reporting periods, the Company made provision on a specific basis.
- -
Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
3. Summary of significant accounting policies (cont’d)
Property, plant and equipment
Property, plant and equipment are stated at cost less accumulated depreciation. Cost represents the purchase price of the asset and other costs incurred to bring the asset into its existing use.
Depreciation is provided on the straight-line basis over the assets’ estimated useful lives. The principal annual rates are as follows :-
Construction in progress represents buildings and machinery under construction, which is stated at cost and is not depreciated. Cost comprises the direct costs of construction. Construction in progress is reclassified to the appropriate category of property, plant and equipment when completed and ready for use.
Maintenance or repairs are charged to expense as incurred. Upon sale or disposition, the applicable amounts of asset cost and accumulated depreciation are removed from the accounts and the net amount less proceeds from disposal is charged or credited to income.
Land use rights
Land use rights are stated at cost less accumulated amortization. Amortization is provided using the straight-line method over the respective terms of the leases.
Impairment of long-lived assets
Long-lived assets are tested for impairment whenever events or changes in circumstances indicate that the carrying amount of the assets may not be recoverable. The Company recognizes impairment of long-lived assets in the event that the net book values of such assets exceed the future undiscounted cashflows attributable to such assets. During the reporting periods, the Company has not identified any indicators that would require testing for impairment.
Stock-based compensation
The Company has adopted SFAS 123, “Accounting for Stock-Based Compensation”. Under SFAS 123, equity instruments to acquire goods or services from nonemployees must be accounted for based on the fair value of the consideration received or the fair value of the equity instruments issued, whichever is more reliably measurable.
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
3. Summary of significant accounting policies (cont’d)
Revenue recognition
Revenue is recognized when it is probable that the economic benefits will flow to the Company and when the revenue can be measured reliably, on the following basis :-
(i) revenue from sales of the Company’s products is recognized when the significant risks and rewards of ownership have been transferred to the buyer at the time of delivery and the sales price is fixed or determinable and collection is reasonably assured;
(ii) interest income is recognized on an accrual basis; and
(iii) government subsidies that compensate the Company for certain research and development, environmental and general expenses incurred are recognized as income at the time when the approval documents are obtained from the relevant Government authorities and when they are received.
Advertising, transportation, research and development expenses
Advertising, transportation, research and development, and other product-related costs are charged to expense as incurred.
Advertising expenses amounting to nil, $6,924 and $5,783 during 2006, 2005 and 2004 respectively are included in selling and distribution costs.
Transportation expenses amounting to $3,413,478, $2,782,208 and $1,964,460 during 2006, 2005 and 2004 respectively are included in selling and distribution costs.
Income taxes
The Company uses the asset and liability method of accounting for income taxes pursuant to SFAS No. 109 “Accounting for Income Taxes”. Under the asset and liability method of SFAS 109, deferred tax assets and liabilities are recognized for the future tax consequences attributable to temporary differences between the financial statements carrying amounts of existing assets and liabilities and loss carryforwards and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled.
Dividends
Dividends are recorded in Company’s financial statements in the period in which they are declared.
Off-balance sheet arrangements
The Company does not have any off-balance sheet arrangements.
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
3. Summary of significant accounting policies (cont’d)
Comprehensive income
The Company has adopted SFAS 130, “Reporting Comprehensive Income”, which establishes standards for reporting and display of comprehensive income, its components and accumulated balances. Components of comprehensive income (loss) include net income, foreign currency translation adjustments and unrealized gains (losses) on marketable equity securities.
Foreign currency translation
The functional currency of the Company is RMB and RMB is not freely convertible into foreign currencies. The Company maintains its financial statements in the functional currency. Monetary assets and liabilities denominated in currencies other than the functional currency are translated into the functional currency at rates of exchange prevailing at the balance sheet date. Transactions denominated in currencies other than the functional currency are translated into the functional currency at the exchanges rates prevailing at the dates of the transaction. Exchange gains or losses arising from foreign currency transactions are included in the determination of net income for the respective periods.
For financial reporting purposes, the financial statements of the Company which are prepared using the functional currency have been translated into United States dollars. Assets and liabilities are translated at the exchange rates at the balance sheet dates and revenue and expenses are translated at the average exchange rates and stockholders’ equity is translated at historical exchange rates. Any translation adjustments resulting are not included in determining net income but are included in foreign exchange adjustment to other comprehensive income, a component of stockholders’ equity. The exchange rates were RMB1 for $0.1282, $0.1240 and $0.1207 in effect at December 31, 2006, 2005 and 2004 respectively. The average exchange rates for each of the three years in the period ended December 31, 2006 were RMB 1 for $0.1256, $0.1219 and $0.1207 respectively. There is no significant fluctuation in exchange rate for the conversion of RMB to US dollars after the balance sheet date.
Fair value of financial instruments
The carrying values of the Company’s financial instruments, including cash and cash equivalents, restricted cash, marketable equity securities, amounts due from related parties, trade and other receivables, deposits, dividend payable, trade and other payables approximate their fair values due to the short-term maturity of such instruments. The carrying amount of investments in unlisted equity securities approximate their fair values in the absence of the impairment. The carrying amounts of short-term bank borrowings approximate their fair values because the applicable interest rates approximate current market rates.
It is the management’s opinion that the Company is not exposed to significant interest, price or credit risks arising from these financial instruments.
In respect of foreign currency risk, the Company is exposed to this risk arising from export sales transactions and recognized trade receivables as they will affect the future operating results of the Company. The Company did not have any hedging activities during the reporting period.
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
3. Summary of significant accounting policies (cont’d)
Fair value of financial instruments (cont’d)
In addition, the functional currency of the Company is RMB and the exchange difference on translation to US dollars for reporting purpose is taken to accumulated other comprehensive income.
Basic and diluted earnings per share
The Company reports basic earnings per share in accordance with SFAS No. 128, “Earnings Per Share”. Basic earnings per share is computed using the weighted average number of shares outstanding during the periods presented. The weighted average number of shares of the Company represents the common stock outstanding during the years. The weighted average number of shares outstanding for 2004 represents the number of shares issued by the Company for the RTO (Note 1).
Recently issued accounting pronouncements
In February 2006, the FASB issued SFAS No. 155 “Accounting for Certain Hybrid Financial Instruments: an amendment of FASB Statements No. 133 and 140”. SFAS No. 155 simplifies the accounting for certain derivatives embedded in other financial instruments by allowing them to be accounted for as a whole if the holder elects to account for the whole instrument on a fair value basis. SFAS No. 155 also clarifies and amends certain other provisions of SFAS No. 133 and SFAS No. 140. SFAS No. 155 is effective for all financial instruments acquired, issued or subject to a remeasurement event occurring in fiscal years beginning after September 15, 2006. Earlier adoption is permitted, provided the entity has not yet issued financial statements, including for interim periods, for that fiscal year. The Company does not expect the adoption of SFAS No. 155 to have a material impact on its financial statements, as it currently has no financial instruments within the scope of SFAS No. 155.
In March 2006, the FASB released SFAS No. 156 “Accounting for Servicing of Financial Assets: an amendment of FASB Statement No. 140” to simplify accounting for separately recognized servicing assets and servicing liabilities. SFAS No. 156 permits an entity to choose either the amortization method or the fair value measurement method for measuring each class of separately recognized servicing assets and servicing liabilities after they have been initially measured at fair value. SFAS No. 156 applies to all separately recognized servicing assets and liabilities acquired or issued after the beginning of an entity’s fiscal year that begins after September 15, 2006. The Company does not anticipate the adoption of SFAS No. 156 will have a material impact on its financial statements.
In July 2006, the FASB issued FIN 48 “Accounting for Uncertainty in Income Taxes”. This interpretation requires that the entity recognizes in its financial statements the impact of a tax position, if that position is more likely than not of being sustained on audit, based on the technical merits of the position. The provisions of FIN 48 is effective for fiscal years beginning after December 15, 2006, with the cumulative effect of the change in accounting principle recorded as an adjustment to opening retained earnings. The Company is currently evaluating the impact of adopting FIN 48 on its financial statements.
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
3. Summary of significant accounting policies (cont’d)
Recently issued accounting pronouncements (cont’d)
In September 2006, the FASB issued SFAS No. 157 “Fair Value Measurement”. SFAS No. 157 defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. This Statement shall be effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. Earlier application is encouraged, provided that the reporting entity has not yet issued financial statements for that fiscal year, including any financial statements for an interim period within that fiscal year. The provisions of this statement should be applied prospectively as of the beginning of the fiscal year in which this statement is initially applied, except in some circumstances where the statement shall be applied retrospectively. The Company is currently evaluating the impact of adopting SFAS No. 157 on its financial statements.
The FASB released SFAS No. 158 “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans: an amendment of FASB Statements No. 87, 88, 106, and 132(R) “ which requires an employer to recognize the over funded or under funded status of defined benefit and other postretirement plans as an asset or liability in its statement of financial position and to recognize changes in that funded status in the year in which the changes occur through an adjustment to comprehensive income. This statement is effective for fiscal year ending after December 15, 2006. The adoption of this statement does not have any impact on the Company’s financial statements.
4. Reverse takeover
Pursuant to the Acquisition Agreement dated June 9, 2005, the Company acquired 100% ownership interest in Wuhan Youji, in consideration for the issuance by the Company of 17,150,000 common shares. The acquisition of Wuhan Youji has been accounted for using the reverse takeover accounting basis whereby Wuhan Youji being the accounting parent and the Company being the accounting subsidiary. The net assets of the Company at the completion date on July 1, 2005 are as follows :-
During the period from July 1, 2005 to December 31, 2005, the Company did not generate any revenue and incurred expenses of $124,208.
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
5. Finance costs
6. Income taxes
The components of the income from continuing operations before income taxes are :-
The components of the provision (benefit) for income taxes from continuing operations are :-
The effective income tax expenses differs from the PRC statutory income tax rate of 33% from continuing operations in the PRC as follows :-
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
6. Income taxes (cont’d)
Deferred tax assets as of December 31, 2006 and 2005 are composed of the following :-
As of December 31, 2006 and 2005, the Company had recognized the temporary differences arising from the general provision for doubtful debts of approximately $3,703,000 and $3,891,000 respectively, and accrued liabilities of approximately $66,000 and $71,000 respectively.
As of December 31, 2006, the Company has incurred operating losses of $182,862 in the United States which, if unutilized, will expire through to 2026. Future tax benefits arising as a result of these losses have been offset by a valuation allowance.
7. Earnings per share
The Company has no dilutive instruments. Accordingly, the basic and diluted earnings per share are the same.
8. Restricted cash
Note a: In 2006 and 2005, one of the suppliers requested the Company to place deposit of $641,000 and $620,000 respectively with a bank as security for supply of raw materials for a period from December 1, 2006 to November 30, 2007 and November 22, 2005 to November 21, 2006 respectively.
9. Amounts due from related parties
The amounts arise from trading transactions with two stockholders of the Company (Note 22) and are unsecured, interest-free and repayable within one year.
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
10. Inventories
Provision (recovery of provision) for obsolete inventories of $244, ($10) and $232 were charged (credited) to operations in 2006, 2005 and 2004 respectively.
11. Prepaid expenses and deposits
Note a : Certain suppliers request the Company to pay deposits as security in advance of delivery of raw materials. These deposits will be used to offset the subsequent billings.
12. Property, plant and equipment and Land use rights
a. Property, plant and equipment
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
12. Property, plant and equipment and Land use rights (cont’d)
a. Property, plant and equipment (cont’d)
During the respective years, depreciation is included in :-
During 2006, 2005 and 2004, property, plant and equipment with carrying amounts of $61,265, $308 and $36,954 were disposed of at nil considerations resulting in losses of same amounts respectively.
b. Land use rights
In December 2004, the Company entered into an agreement with the SOE to purchase land use rights at a total consideration of $3,933,176. $1,410,200, $993,960 and $491,684 were paid in 2006, 2005 and 2004 respectively. The remaining balance of $1,037,332 together with the incidental costs relating to the acquisition of $1,229,244 aggregating to $2,266,576 is payable on September 30, 2007. The Company cannot freely transfer the lands before making final payment to the SOE.
As of December 31, 2005, the Company was in the process of application for the land use right certificates from the relevant PRC government authority. Such certificates were subsequently obtained in January 2006. These land use rights cover the usage of the lands for a period of 50 years from January 2006 to December 2055.
Amortization of $103,034 was charged as expenses in 2006. No amortization was charged as expenses in 2005 as the lease terms commenced in January 2006.
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
13. Other payables and accrued liabilities
Notes :-
a. As detailed in Note 1, Wuhan Youji was formerly a subsidiary of SOE and privatized in 2003. In connection with the privatization, Wuhan Youji has undertaken to compensate its employees for loss of benefits. Such compensation was calculated based on the relevant PRC regulations and is payable to staff at the time of termination of employment or retirement.
b. Pursuant to the relevant PRC’s regulations, each of the Company and its employees are required to contribute not less than 5% of their salaries to the housing fund. This fund is deposited into a bank (Note 8) in the name of Wuhan Youji and can only be used at the time when the employees purchase their houses. The obligation of the Company is only limited to those contributions made by the Company.
c. Other staff welfare represents accrued staff medical, industry injury claims, labor and unemployment insurances. Such contribution is based on certain percentage of salaries.
14. Dividend payable
This dividend payable represents the dividends declared by Wuhan Youji before privatization in 2003. All of the eligible stockholders are also stockholders of the Company except SOE. As of December 31, 2006, $1,726,861 was payable to SOE whilst the remaining balance of $884,580 was payable to those eligible Company’s stockholders.
To-date no demand for payment was made by these stockholders. The Company is under the obligation to pay such dividend and will honor such obligation upon the stockholders’ requests. As the dividend is payable on demand, the dividend payable is classified as a current liability.
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
15. Short-term bank loans
The Company uses unsecured short term bank loans to finance its working capital. As of December 31, 2006, the Company drew down unsecured short term bank loans of approximately $8.9 million (2005: $6.2 million) which were interest-bearing at an average rate of 5.688% (2005: 5.385%) per annum and with maturity of less than one year from December 31, 2006. All the bank loan facilities did not have any covenant for the Company during the reporting periods. As of December 31, 2006, the Company had fully utilized the bank loan facilities (2005: unused bank loan facilities to the extent of $620,000).
16. Commitments and contingencies
a. Operating lease arrangement
As of December 31, 2006, the Company had 2 non-cancelable operating leases for its warehouse facilities. The leases will expire in 2008 and 2020 respectively and the expected payments are as follows :-
Rental expense relating to the operating leases was $42,157, $40,486 and $51,824 in 2006, 2005 and 2004 respectively.
b. Environmental
The Company’s operations are subject to the laws and regulations in the PRC relating to the generation, storage, handling, emission, transportation and discharge of certain materials, substances and waste into the environment, and various other health and safety matters. Governmental authorities have the power to enforce compliance with their regulations, and violators may be subject to fines, injunctions or both. The Company must devote substantial financial resources to ensure compliance, and the management believes that it is in substantial compliance with all the applicable laws and regulations.
The Company has not incurred any significant expenditure for environmental remediation, is currently not involved in any environmental remediation and has not accrued any amounts for environmental remediation relating to its operations. Under existing legislation, management believes that there are no probable liabilities that will have a material adverse effect on the financial position or operating results of the Company.
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
16. Commitments and contingencies (cont’d)
b. Environmental (cont’d)
The Company incurred normal routine pollutant discharge fees of $204,328, $248,209 and $291,000 in 2006, 2005 and 2004 respectively. These costs are included in cost of sales.
c. Capital commitment
On August 30, 2006, Wuhan Youji and Velsicol Chemical Corporation (“Velsicol”), a company incorporated in the US and a technology leader in high performance plasticizers, food additives and industrial intermediates, entered into an agreement to establish a PRC company, Velsicol Wuhan Youji Chemical Company Limited (“Velsicol Wuhan Youji”), to produce and market benzoate esters and polymeric plasticizers in Wuhan, Hubei Province of the PRC (the “Agreement”). Wuhan Youji has agreed to invest $445,900, representing 49% of the new company’s registered capital, according to the Agreement. As of December 31, 2006, the Company has not contributed any capital to Velsicol Wuhan Youji.
17. Common stock
Authorized
On April 29, 2005, the directors of the Company resolved that the number of shares of common stock the Company was authorized to issue was reduced from 200,000,000 shares of common stock of par value of $0.001 per share to 60,000,000 shares of common stock of par value of $0.001 per share.
Common stock issued for the RTO
On July 1, 2005, the RTO was completed and the Company issued 17,150,000 common shares to the Wuhan Shareholders. As detailed in note 1, it constituted a reverse takeover transaction. Accordingly, the number of shares outstanding for 2004 represents the number of shares issued by the Company for the acquisition of Wuhan Youji (i.e. 17,150,000 shares).
The 2,850,000 common shares of the Company immediately prior to the RTO were regarded as the shares issued for the RTO.
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
18. Stock incentive plans
Pursuant to the 2004 and 2005 Stock Incentive Plans of the Company adopted on October 18, 2004 and April 29, 2005 respectively, the Company may issue or grant options to acquire the Company’s common stock from time to time to the key employees, consultants, and non-employee directors of the Company. A total of 400,000 shares and 800,000 shares of the Company’s common stock may be issued under the 2004 and 2005 Stock Incentive Plans respectively. The 2004 and 2005 Stock Incentive Plans may be amended, suspended, or terminated by the directors.
Prior to the RTO, 400,000 and 789,750 shares of the Company’s common stock were issued to the President and Director of the Company, and other three independent consultants, at issue prices of $0.02 and $0.115 respectively for their consulting services to be rendered to the Company. The prices of the issuance of common stock were determined by reference to the closing market prices at the dates of the relevant agreements.
Such shares form part of the 2,850,000 common shares as detailed in note 17 and was included as the shares issued for the RTO.
19. Statutory and other reserves
The statutory and other reserves comprised statutory surplus reserve, statutory public welfare fund and discretionary surplus reserve of the Company’s subsidiaries in the PRC.
Statutory surplus reserve
In accordance with the relevant laws and regulations of the PRC and the subsidiaries’ articles of association, the subsidiaries are required to appropriate 10% of their net income, after offsetting any prior years’ losses, to the statutory surplus reserve. When the balance of such reserve reaches 50% of the subsidiaries’ share capital, any further appropriation is optional.
The statutory surplus reserve can be used to offset prior years’ losses, if any, and may be converted into share capital by issuing new shares to shareholders in proportion to their existing shareholding or by increasing the par value of the shares currently held by them, provided that the remaining balance of the reserve after such issue is not less than 25% of share capital. The statutory surplus reserve is non-distributable.
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
19. Statutory and other reserves (cont’d)
Statutory public welfare fund
In accordance with the subsidiaries’ articles of association, 5%-10% of their net income is to be appropriated to statutory public welfare fund. The statutory public welfare fund can only be utilized on capital items for the collective benefits of the subsidiaries’ employees such as construction of canteen and other staff welfare facilities. Title of these capital items will remain with the subsidiaries. This fund is non-distributable other than in liquidation.
Statutory public welfare fund is transferred out to discretionary surplus reserve upon utilization for the collective benefits of the employees.
Discretionary surplus reserve
In accordance with the subsidiaries’ articles of association, the appropriation of net income to the discretionary surplus reserve and its utilization are made in accordance with the recommendation of their board of directors and is subject to shareholders’ approval at their general meeting.
20. Accumulated other comprehensive income
The components of accumulated other comprehensive income are as follows
Note : The above other comprehensive income/(loss) has no tax impact during the reporting periods.
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
21. Defined contribution plan
The Company has a defined contribution plan for all qualified employees in the PRC. The employer and its employees are each required to make contributions to the plan at the rates specified in the plan. The only obligation of the Company with respect to retirement scheme is to make the required contributions under the plan. No forfeited contribution is available to reduce the contribution payable in the future years. The defined contribution plan contributions were charged to the consolidated statement of operations. The Company contributed $334,602, $321,379 and $332,582 for the years ended December 31, 2006, 2005 and 2004 respectively.
22. Related parties transactions
In addition to the transactions and balances disclosed elsewhere in these financial statements, during the reporting periods, the Company had the following material related parties’ transactions :-
Note : a: The outstanding trade balances and their terms and conditions are set out in note 9.
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
23. Segment information
The nature of the Company’s products and their production processes are substantially similar. The Company has two reportable segments, local and export sales, based on the type of customers and their distribution methods. Information for the two segments is disclosed under FAS 131, “Disclosures about Segments of an Enterprise and Related Information” as below :-
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
23. Segment information (cont’d)
A reconciliation is provided for unallocated amounts relating to corporate operations which is not included in the segment information.
All of the Company’s long-lived assets are located in the PRC. Geographic information about the revenues, which are classified based on location of the customers, is set out as follows :-
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Cougar Holdings Inc.
Notes to Consolidated Financial Statements
(Stated in US Dollars)
24. Comparative amounts
Certain amounts included in prior years’ consolidated balance sheet and the consolidated statements of operations and cash flows have been reclassified to conform to the current year’s presentation. These reclassifications had no effect on reported total assets, liabilities, shareholders’ equity or net income.
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