ITEM 1. BUSINESS
Overview
We believe that we are one of the most competitive manufacturers of specialty cable products in northeastern China. Our cable products consist of (i) traditional electric power system cable and (ii) an assortment of specialty cable, including marine cable, mining specialty cable and, petrochemical cable. We also have developed the capability to produce other types of specialty cable such as carbon fiber composite cable, submarine cable and certain “new energy” cable, including cable for wind and solar energy. Our traditional cable products are primarily focused on serving end-user applications in the construction, electrical utility, and transportation (including automotive) markets. Our specialty cable products are used primarily in ship building, nuclear power plants, mining and petrochemical operations. We also have the technical capability for large-scale production of marine cable for use in electronic conveyance, controls and lighting on a variety of ships, a segment of the market with significantly higher profit margin potential that we intend to further pursue. Additionally, we recently began developing and producing switch appliances, including high and low voltage distribution cabinet switches and crane electronic control switches, which products compliment our cable product offerings.
We are headquartered in the city of Dalian, a large trading and financial center in northeastern China located at the tip of China’s Liaodong Peninsula. Our sales and marketing activities are conducted through our 14 branch offices located throughout China. Currently, our products are sold through our sales force to over 500 Chinese customers.
We are in the process of constructing a new manufacturing facility located in Dalian’s Changxing Island Harbor Industrial Zone. In December 2009, we completed Phase I of this project (the “Phase I Changxing Facility”) which consists of 45,477 square meters of floor space with a maximum production capacity of approximately 4,000 km of cable per year. This facility commenced production in April 2010 and currently has a production capacity of 2,400 km of cable per year. We estimate that Phase II of this project (the “Phase II Changxing Facility”) will add 89,684 square meters of additional floor space with a maximum production capacity of approximately 6,667 km of cable per year.
We also have a high-quality customer base of companies, including Shougang Group, China Huaneng Group, China National Petroleum Corporation, China Shipbuilding Industry Corporation, and China Ocean Shipping (Group) Company, which enables us to maintain and strengthen our competitive position in the wire and cable industry.
Corporate History and Structure
We are a holding company and conduct substantially all of our production, marketing, finance, research and development, and administrative activities through our indirect subsidiaries and captive manufacturing entity located in the PRC. On May 2, 2005, we were incorporated in the State of Nevada under the name “Frezer, Inc.” which was a former public shell company as defined in Rule 12b-2 of the Securities Exchange Act of 1934, as amended.
On March 13, 2009, we entered into a Share Exchange Agreement with Befut Nevada and Befut International Co. Limited, a British Virgin Islands company (“Befut BVI”) pursuant to which Befut BVI transferred to us all of the outstanding shares of common stock of Befut Nevada in exchange for (i) the issuance to Befut BVI of an aggregate of 117,768,300 or 98.3% of our then outstanding shares of common stock, and (ii) the cancellation of an aggregate of 2,176,170 shares of our common stock then owned by Befut Nevada (the “Share Exchange”). Befut Nevada had acquired such shares from three individuals for an aggregate purchase price of $370,000 pursuant to the terms of a Stock Purchase Agreement dated as of March 2, 2009.
Simultaneously with the Share Exchange, the Company consummated a private placement of 15% convertible promissory notes and warrants to purchase an aggregate of 720,076 shares of our common stock for gross proceeds of $500,000. As of the date of this report, such convertible notes are no longer outstanding.
On June 18, 2009, we changed our name to “BEFUT International Co., Ltd.” and effectuated a 1-for-4.07 reverse stock split of our outstanding shares of common stock. As a result, our ticker symbol was changed to BFTI.OB. Befut BVI is our largest shareholder and currently owns approximately 46.9% of the issued and outstanding common stock of the Company.
Befut Hongkong was incorporated on September 10, 2008 under the laws of Hong Kong and is a wholly-owned subsidiary of Befut Nevada. On February 13, 2009, Befut Hongkong invested 100% of the registered capital to form WFOE, a Chinese company incorporated in the city of Dalian, the People’s Republic of China (the “PRC” or “China”).
We conduct our operations through WFOE and Dalian Befut, a captive manufacturing entity of WFOE. Dalian Befut was incorporated on June 13, 2002 under the laws of the PRC, and is currently owned by eight individual residents of the PRC. Mr. Hongbo Cao, our chairman, president and chief executive officer, and Mr. Tingmin Li are the largest shareholders of Dalian Befut, owning an aggregate of 94.6% of its equity interests. For a discussion of our contractual manufacturing relationship with Dalian Befut, see the section entitled “Business - Manufacturing Process - OEM Agreements.”
Befut Marine, incorporated on April 14, 2006, was previously a direct subsidiary of Dalian Befut. On February 25, 2011, Dalian Befut sold its entire 86.6% equity interest in Befut Marine, to Mr. Fansheng Li, a noncontrolling shareholder of Befut Marine, for RMB 17,320,000 (approximately $2.67 million) in cash. Befut Marine previously conducted all of our production and sales of marine cable. Dalian Befut, as the captive manufacturer for WFOE, will manufacture marine cable for the Company in accordance with the OEM Agreements (defined below).
On July 1, 2009, Dalian Befut formed Befut Zhong Xing, a joint venture under the laws of the PRC, by investing approximately $100,000 (RMB700,000) for its 70% equity interest in Befut Zhong Xing. In July 2010 , Dalian Befut increased its equity interests in Befut Zhong Xing from 70% to 73.5% by contributing RMB 14 million ($2.06 million) to the registered capital of Befut Zhong Xing. The other shareholder is Mr. Chengnian Yan who owns 26.5% of equity interest in Befut Zhong Xing. Befut Zhong Xing manufactures switch appliances, including high-low-voltage distribution cabinet switches and crane electronic control switches.
On July 23, 2010, Dalian Befut acquired 60% of equity interests of Dalian Yuansheng for $88,235 (the registered capital value of such equity interests) from Mr. Chengnian Yan. Dalian Befut also increased the Dalian Yuansheng’s registered capital by RMB 5 million ($735,294), thereby increasing Dalian Befut’s total equity interest to 93.3%. The other shareholder is Mr. Xianjun Cheng who owns 6.7% of equity interest in Dalian Yuansheng. Dalian Yuansheng is engaged in the research and development of carbon fiber composite cable and other specialty cable. One of the principal shareholders of Dalian Yuansheng holds a patent for carbon fiber composite cable which will be transferred to Dalian Yuansheng.
Our corporate organizational chart is set forth below:
* WFOE does not have equity ownership in Dalian Befut. Dalian Befut is a captive manufacturer of WFOE pursuant to the OEM Agreements described below.
Recent Developments
On February 25, 2011, Dalian Befut sold its entire 86.6% equity interest in Befut Marine, a company engaged in the marketing and production of marine cables to Mr. Fansheng Li, a noncontrolling shareholder of Befut Marine, for RMB 17,320,000 (approximately $2.67 million) in cash. As part of the transaction, the applicable certifications required for producing marine cables that were held by Befut Marine were transferred to WFOE. Dalian Befut, as the captive manufacturer for WFOE, will manufacture marine cable for the Company in accordance with the Manufacturing Agreement. As a result, the Company has determined that Dalian Befut’s sale of its entire equity interest in Befut Marine does not have any material adverse effect on the Company’s operation, business and financial position.
In April, 2011, we began construction on the Phase II Changxing Facility. We estimate that the Phase II Changxing Facility will add 89,684 square meters of additional floor space with a maximum production capacity of approximately 6,667 km of cable per year. We believe we have the customer base, technological, manufacturing and research and development capabilities to take advantage of the growing cable and wire market to produce high levels of sales and profits over the next few years.
Our Products
Our products are categorized into three types: traditional cable, specialty cable and switch appliances. The following table provides information about our principal products:
Products
Features
Applications
Traditional Cable
Electric Cable
Thermo-mechanical, electrical and anti-corrosion
Used in the telecommunications industry, auto industry, metal refining industry, electrical and petrochemical industry, transportation industry (including electrified railway and urban rail transportation) and construction industry.
Specialty Cable
Marine Cable
Anti-erosion, anti-stretch and long-life
Used in various capacities in the shipping industry, including the construction of ships, on-water oil platforms and coastal marine projects. It is also capable of meeting other needs on a ship, including power transmission, signal transmission of lighting and information processing equipment, and control systems.
Mine Specialty Cable
Temperature resistant, corrosion protection, soft, low-temperature resistant
Used by mining companies.
Petrochemical Cable
Corrosion protection, long-life, high stretch resistance feature
Used in the petrochemical industry and in offshore construction.
Other Specialty Cable
High-temperature resistant, low-temperature resistant, hard-wear, acid-bases resistant, age-resistant, long-life
Used in steelwork and at iron ore yards.
Switch Appliances
High-low-voltage distribution cabinet switch
Power grids under 20KV
Used between transformer room and production workshop.
Crane electronic control switch
Easy to operate, convenient to maintain, and reliable
Used on various cranes.
We believe that the specialty cable sector is one of the most profitable sectors in the wire and cable industry with significantly higher gross margins of up to 60%. Specialty cable is typically produced for specific uses in harsh conditions that are unsuitable for other traditional cable.
With the completion of the Phase I Changxing Facility, we plan to enhance the development of marine cable (one of our specialty cable products), including submerged cable used to transfer data and telecommunications and marine cable used in shipbuilding. We have recently begun to develop carbon fiber composite cable, which is a new type of cable composed of carbon fiber and a metallic conductor. Carbon fiber is one of the most advanced cable products in China and has the potential for higher gross margins than other types of specialty cable. Carbon fiber composite cable is lighter than pure metal cable and has better electrical conductivity. We believe it can be useful in upgrading China’s power grid. We also believe the use of carbon fiber composite cable could alleviate the pressure on cables caused by natural disasters, including heavy snowfall. We are one of the few manufacturers in China producing carbon fiber composite cable. With this new technology, we expect that carbon fiber composite cable will be one of our primary areas of our focus for growth in the next few years. Additionally, we are developing cable for “new energy” sources such as wind and solar energy, which we believe will also be cable products with high-margin potential.
Dalian Befut, together with its two subsidiaries, Dalian Yuansheng and Befut Zhong Xing, currently hold 17 patents and have 47 pending patent applications with respect to our cable products, and we are the only company in the PRC cable and wire industry holding a patent for watertight cable. The patent for carbon fiber composite cable is owned by Dalian Yuansheng, Dalian Befut’s recently acquired subsidiary.
The following table shows the sales of our products in our three main categories (traditional cable, specialty cable and switch appliances) as a percentage of total sales for the fiscal years ended June 30, 2011, 2010 and 2009:
The following pictures illustrate the physical structure of our traditional cable and marine cable:
Traditional Cable
Marine Cable
Manufacturing
OEM Agreements
We conduct substantially all of our operations through, and generate substantially all of our revenues from Dalian Befut, pursuant to an Original Equipment Manufacturer Agreement, dated February 16, 2009 (the "Manufacturing Agreement") with Dalian Befut, pursuant to which (i) Dalian Befut is the exclusive manufacturer of cable and wire products for WFOE, and may not manufacture products for any other third party without the written consent of WFOE; (ii) WFOE provides all the raw materials and advance related costs to Dalian Befut, as well as provides the design requirements of the products to be manufactured; and (iii) in no event may Dalian Befut use the arrangements under the Manufacturing Agreement for commercial or noncommercial marketing or promotional activities in any form. In addition, on February 16, 2009, WFOE and Dalian Befut entered into (i) an Intellectual Property License Agreement, pursuant to which WFOE shall be permitted to use the intellectual property rights such as trademark, patents and knowhow for the marketing and sale of the products (the “IP Agreement”); and (ii) a Non-competition Agreement, pursuant to which Dalian Befut shall not compete against WFOE (the “Non compete Agreement”, together with the IP Agreement and Manufacturing Agreement, collectively, the “OEM Agreements”). We have no direct ownership interest in Dalian Befut nor do we have voting control of any shares of Dalian Befut. As a result, these OEM Agreements may not be as effective in providing us with control over Dalian Befut as direct ownership of Dalian Befut would be. For example, Dalian Befut may breach the OEM Agreements by deciding not to manufacture products for WFOE, and consequently the Company. In the event of any such breach, we would have to rely on legal remedies under PRC law, which may not always be available or effective to enforce our rights, particularly in light of uncertainties in the PRC legal system. To mitigate such a risk, WFOE has the exclusive right under the OEM Agreements, exercisable in its sole discretion, to purchase all or part of the assets and/or equity of Dalian Befut.
All cash flows generated under the OEM Agreements are maintained in the custody of Dalian Befut instead of in the custody of the Company. There are no prohibitions under applicable PRC law on the transfer of cash from Dalian Befut to WFOE. Accordingly, except for the relevant PRC laws, regulations and government policies on capital outflow, no risks exist as to the movement of cash balances from the Company’s PRC operating subsidiaries or Dalian Befut up to the Company. Transfer of cash may be made from Dalian Befut to WFOE and up to the Company, when necessary to meet the Company’s cash requirements, including, for example, to satisfy any debt obligations or make cash dividends. Such transfers must be made in compliance with applicable PRC laws regarding, among other things, currency controls, tax and payment of dividends.
Changxing Island Manufacturing Facilities
We are in the process of constructing a new manufacturing facility located in Dalian’s Changxing Island Harbor Industrial Zone, which is located approximately 120 kilometers from Dalian. Construction of the Phase I Changxing Facility began in 2006 and was completed in December 2009. We relocated all of our cable manufacturing operations to the Phase I Changxing Facility and commenced operations and product manufacturing at this facility in April 2010. The Phase I Changxing Facility boasts 45,477 square meters of floor space, consisting of 24,964 square meters of production space, 5,326 square meters of warehouse space, 8,264 square meters of office space, and 6,923 square meters of supporting facilities space. The Phase I Changxing Facility has over 70 sets of advanced wiring equipment, 20 of which are newly purchased sets. The Phase I Changxing Facility currently has a production capacity of 2,400 km of cable per year, which is three times the amount we were able to produce at our old manufacturing facility. The Phase I Changxing Facility is estimated to reach its full production capacity of approximately 4,000 km of cable per year by June 30, 2013.
Construction of the Phase II Changxing Facility commenced in April 2011 and is expected to be completed by the end of 2012. The Phase II Changxing Facility will cover 89,684 square meters of floor space, and will be used primarily for the development and production of specialty cable in accordance with our plan to focus our business on specialty cable over the next five years. After completion of the Phase II Changxing Facility, our total production capacity is expected to reach approximately 10,667 km of cable per year.
Previously, our cable manufacturing was conducted at a manufacturing facility located in the city of Dalian with a production capacity of approximately 800 km of cable per year. We now use our old manufacturing facility for the production of switch appliances.
Manufacturing Process
We, through Dalian Befut, utilize sophisticated manufacturing processes and know-how, which enable us to produce a wide array of traditional and specialty cable. Due to our research and development efforts, we believe we are a leader in the material configuration and manufacturing processes for specialty cable.
The following illustration shows the basic steps in the manufacturing process of our cable products:
Raw Materials and Suppliers
Our primary raw materials are copper wire, insulation materials and protective materials. Our main suppliers for copper wire for the fiscal year ended June 30, 2011 are Dalian Lian Zhong Hai Fu Tong Co., Ltd, Tianjin Huabei Cable Factory and Shenyang Tailida Copper Co., Ltd. Our main suppliers for insulation and protective materials for the same period are Zhejiang Wanma Polymer Material Co., Ltd. and Tianjin Wuqing District Houxiang County Jianwei Metal Hardware Factory.
Our principal raw materials are generally available in the market and we have not experienced any raw material shortages in the past. Because of the general availability of these raw materials, we do not believe that we will experience any raw material shortages in the foreseeable future; however, changes in the price of copper, which has a history of volatility, directly affect the prices of our products and may influence the demand for our products. Nonetheless, because we seek to pass the cost of our raw materials (mainly copper wire) on to our customers, we believe our actual margin rate will not be significantly affected even if the price of raw materials increases.
The following is a list of our top suppliers expressed as a percentage of the U.S. dollar amount of total raw materials purchased in the fiscal year ended June 30, 2011:
Distribution, Sales Network and Customers
We sell our products through a team of 24 full-time sales personnel located in Dalian and another 20 full-time sales personnel located at 14 sales branch offices in major cities throughout China, including in Beijing, Shenyang, Tianjin, Jilin, Harbin and Benxi. In addition, we have contracted with five distributors to sell our products. Normally, the contracts we have with the distributors are for one year and are non-exclusive. In the year ended June 30, 2011, most of our sales were generated by our full-time sales personnel, who are responsible for maintaining business relationships with our customers.
As of June 30, 2011, we had a total of approximately 500 customers located throughout China.
In the year ended June 30, 2011, our five largest customers accounted for approximately 18.90% of our total sales, among which COSCO Dalian Shipyard Co., Ltd. was the largest, accounting for 4.77% of our total revenue. These key customers and their respective percentages of our total sales are listed below:
Top 5 Customers for the Fiscal Year Ended June 30, 2011
Top 5 Customers for the Fiscal Year Ended June 30, 2010
Since the Phase I Changxing Facility became operational in April 2010, our increased production capacity has enabled us to adjust our sales strategy to increase our focus on larger customers that desire higher volumes of our products. As a result, in fiscal 2011 we experienced increased total revenue, much of which was derived from sales to these larger customers.
Growth Strategy
Our objective is to become the leading manufacturer of specialty cable products in China. We intend to achieve this objective by pursuing a growth strategy that includes:
Increase focus on high-margin specialty products. To meet the growing demand for specialty cable products, we plan to increase the production of high-margin specialty cable from approximately 52.55% to approximately 60% of our total production volume over the next three to five years. In addition, we plan to produce submarine cable, carbon fiber composite cable and other high-end cable products with high profit margins, increasing our sales and financial performance.
Our sales generated from specialty cable in our fourth fiscal quarter ended June 30, 2011 accounted for 52.55% of our total sales revenue in that quarter. Additionally, current economic policy in China encourages marine construction, mining, petrochemical and new energy industries. Based on these factors, in our fiscal year ending June 30, 2012 we plan to continue devoting more resources to developing, marketing and selling petrochemical and marine cable and investing in our new high-margin product, carbon fiber composite cable.
We currently possess the technology and know-how to produce these new cable products. With regard to submarine cable, however, we likely will be required to make significant additional expenditures to execute this element of our strategy. Such expenditures may include acquisition of land rights close to the coast, construction of a separate production facility on such site and hiring of additional personnel. Such expenditures will require us to obtain additional financing, the success of which cannot be assured.
Expand production capacity. In order to accommodate the increasing demand for our products, we intend to expand our current production capacity of 2,400 km of cable per year to 4,000 km of cable per year by maximizing the production capacity from our Phase I Changxing Facility. Upon its completion, the Phase II Changxing Facility will further increase our production capacity. An increase in production capacity will allow us to produce and sell a higher quantity of products while lowering our manufacturing costs due to economies of scale. The Phase II Changxing Facility will expand our production capacity for specialty cable.
Expand into new markets. We plan to enter into new markets, such as the submarine cable market and the “new energy” cable market, which includes the production of wind and solar energy cable. We entered into the switch appliance market in fiscal 2010. Because switch appliances are not our primary business, the sales of switch appliances only accounts for 4% of our total revenue for the fiscal year ended June 30, 2011.
Increase sales and broaden customer base. We plan to continue to provide high quality cable products to our existing customer base and use our existing customer contacts, industry reputation and experienced sales team to increase our sales of traditional and specialty cable products. In the short-term, we will continue our sales and marketing efforts to increase our sales of our traditional cable products, while our long-term strategy is to concentrate on developing and expanding our sales and customer base for our specialty cable products.
Pursue strategic acquisitions. We will continue to actively consider possible investments in or acquisitions of companies that complement our business strategies and expand our product offerings. As a result of the fragmented nature of the cable and wire industry in China, we believe attractive potential acquisition targets may present themselves. We plan to consider strategic acquisitions as a means to accelerate our growth, increase our sales and expand our market share.
Seasonality
Demand for our traditional cable is generally lower from January to March than from April to December primarily due to the Chinese new year and spring festival which occurs from January to March. Sales of our specialty cable products have not experienced seasonal trends. We believe that our expanding focus on specialty cable products will significantly reduce the impact of seasonality on our overall business.
Research and Development
For the fiscal years ended June 30, 2011 and 2010, we spent $1,118,288 and $880,944 on research and development, respectively. We significantly increased our budget for research and development in fiscal 2011 compared to fiscal 2010, all of which was spent on the research and development of new technologies which are the subject of 47 pending patent applications (including fees associated with the application process). We maintain an internal research and development department staffed with 40 senior technical employees consisting of 31 full-time employees and 9 part-time employees.
Our research and development team is led by Mr. Guoxiang Liu, who was formerly employed by the Shenyang Electric Cable Factory, a state owned enterprise and formerly one of Asia’s largest cable companies. Due to our research and development efforts, we believe we are a leader in the material configuration and manufacturing process of specialty cable. As an ancillary method of our research and development, we also have a research cooperation relationship with Dalian University of Technology to share their technology and research achievements. The general framework for our cooperative partnership with the Dalian University of Technology is set forth in an agreement dated July 10, 2009 (the “Cooperation Agreement”). Pursuant to the Cooperation Agreement, which has a three year term and may be terminated by either party at any time, we agree to collaborate with the Dalian University of Technology on a project basis. We have no financial obligations under the Cooperation Agreement but may fund projects at our discretion.
We plan to continue differentiating ourselves from our competitors by focusing our activities on developing the most advanced products in the cable and wire industry.
Intellectual Property
Trademarks. Dalian Befut is the registered holder of the following trademark, which is registered with the Trademark Office of the State Administration for Industry and Commerce in China.
M∙Q∙E
The registered scope of use of this trademark includes wire products such as wire cable, electric wire, power materials (electric wire and wire cable), and electric resisters for copper wire. The current registered term of the trademark expires on September 6, 2021. Under the PRC Trademark Law, registered trademarks are granted for a term of ten years and are renewable for additional terms. Each renewal is limited to a ten-year term and the registrant must continue to use the trademark and apply for a renewal within six months prior to the expiration of the current term.
In 2008, the trademark above was recognized as a “Famous Trademark” in China through a judicial procedure pursuant to Rules on Famous Trademark Recognition and Protection promulgated by the PRC National Industrial and Commercial Bureau. A Famous Trademark in China entitles the owner of the mark to stronger protection as compared to a general trademark. For example, a holder of a Famous Trademark may prohibit others from using the same or similar mark not only on the same or similar products but also on products in other industries if the use of such mark would cause confusion or be misleading to a reasonable consumer. In addition, in a trademark dispute adjudication, a Famous Trademark itself provides evidence of influence on consumers. In Dalian, there are only ten Famous Trademarks, one of which is our mark.
Patents. Dalian Befut, together with its two subsidiaries, Dalian Yuansheng and Befut Zhong Xing, have seventeen registered patents in China. The following table provides information regarding each patent.
Name of Patent
Type
of
Patent
Patent No.
Inventor’s
Name
Date of
Application
Date of
Publication
and Term
Intelligent reactive power
compensation for automatic
screen
Utility model
ZL200720184912.4
Dalian Befut Wire & Cable Manufacturing Co., Ltd
12/14/2007
10/15/2008; Term: 10 years from 10/15/2008 to 10/14/2018
Automatic Protection Ni-mh Battery Screen
Utility model
ZL200720184913.9
12/14/2007
01/07/2009
Term: 10 years from 01/07/2009 to 01/06/2019
New tide-proof power cable
Utility model
ZL200820015254.0
Guoxiang Liu,
Hongming Wu,
Ying Zhao and Hongbo Cao
08/29/2008
06/10/2009
Term: 10 years from 06/10/2009 to 06/09/2019
Sonar watertight cable
Utility model
ZL200820015255.5
08/29/2008
06/10/2009
Term: 10 years from 06/10/2009 to 06/09/2019
Environmentally friendly wire & cable of low-smoke, halogen-free, fire-retardant insulation
Utility model
ZL200820015256.X
08/29/2008
06/10/2009
Term: 10 years from 06/10/2009 to 06/09/2019
Mine fire-retardant rubber branch of the pre-cable
Utility model
ZL200820015332.7
09/01/2008
06/10/2009
Term: 10 years from 06/10/2009 to 06/09/2019
High-temperature plastic extrusion die-tool
Utility model
ZL200820015331.2
Guoxiang Liu,
Hongming Wu,
Ying Zhao and Hongbo Cao
08/29/2008
08/12/2009
Term: 10 years from 08/12/2009 to 08/12/2019
High-strength silicone rubber motor lead wire
Utility model
ZL201020271860.6
Hongming Wu, Yuanfeng Liu, Lan Luan, Zhou yong Han, Ying Zhang, Hongbo Cao
07/27/2010
04/20/2011
Term:10 years
from
04/20/2011 to 04/20/2021
Aviation fluoroplastic insulated shielded wire
Utility model
ZL201020271862.5
07/27/2010
04/20/2011
Term:10 years
from
04/20/2011 to 04/20/2021
PVC insulated nylon shielded wire
Utility model
ZL201020271858.9
07/27/2010
02/09/2011
Term:10 years
from
02/09/2011 to 02/09/2021
A carbon fiber hotline
Utility model
ZL201020271844.7
07/27/2010
02/09/2011
Term:10 years
from
02/09/2011 to 02/09/2021
Glass fiber and carbon fiber composite core for power cable
Utility model
ZL200920012806.7
Dalian Yuansheng Technology Development Co., Ltd.
04/10/2009
04/28/2010
Term:10 years from 04/28/2010 to
04/28/2020
A modular carbon fiber cable for embedded in heating floor
Utility model
ZL201020283590.X
08/06/2010
03/23/2011
Term:10 years from 03/23/2011 to 03/23/2021
New dual-core convoluted carbon fiber composite cable
Utility model
ZL201020283661.7
08/06/2010
03/23/2011
Term:10 years from 03/23/2011 to 03/23/2021
A single conductor carbon fiber geothermal cable
Utility model
ZL201020283662.1
08/06/2010
03/23/2011
Term:10 years from 03/23/2011 to 03/23/2021
A new type of carbon fiber electric boiler
Utility model
ZL201020283664.0
08/06/2010
03/23/2011
Term:10 years from 03/23/2011 to 03/23/2021
A new type of carbon fiber electric kettle
Utility model
ZL201020283665.5
08/06/2010
03/23/2011
Term:10 years from 03/23/2011 to 03/23/2021
In addition to the registered patents, Dalian Befut, together with its two subsidiaries, Dalian Yuansheng and Befut Zhong Xing, have pending applications for 47 additional patents as set forth in the table below.
Name of Patent
Type of
Patent
Patent No.
Inventor’s
Name
Date of
Application
Date of
Acceptance
of the
Application
by the PRC
IP Office
Status of
Application
Pre-fabricated
branched cable
Utility model
200920247890.0
Hongbo Cao
11/06/2009
11/06/2009
Patent Pending
Thermocouple compensation cable with flame retardant
Utility model
200920247891.5
11/06/2009
11/06/2009
Patent Pending
BXVW outdoor weather-proof sheathed cable
Utility model
200920247892.X
11/06/2009
11/06/2009
Patent Pending
Measurement and computer input cable
Utility model
200920247894.9
11/06/2009
11/06/2009
Patent Pending
Fluoroplastic -46 insulated shielded wire
Utility model
200920247889.8
11/06/2009
11/06/2009
Patent Pending
Halogen-free flame-retardant thermocouple compensation cable
Utility model
200910219723.X
Hongbo Cao
11/10/2009
11/10/2009
Patent Pending
Flame-retardant BXVW outdoor weather-proof sheathed cable
Utility model
200910219732.9
11/10/2009
11/10/2009
Patent Pending
Flame-retardant silicon rubber insulated and sheathed measurement and computer input cable
Utility model
200910219731.4
11/10/2009
11/10/2009
Patent Pending
High-strength silicone rubber motor lead wire
Invention model
200910219726.3
11/10/2009
11/10/2009
Patent Pending
High-strength silicone rubber motor lead wire
Utility model
200910219726.4
11/10/2009
11/10/2009
Patent Pending
Aviation fluoroplastic -46 insulated, shielded wire
Utility model
200910219727.8
11/10/2009
11/10/2009
Patent Pending
Flame-retardant, fire-resistant, halogen-free pre-fabricated branched cable
Utility model
200910219719.3
11/10/2009
11/10/2009
Patent Pending
Shielded instrumentation cable for communication equipment
Utility model
200910219842.5
Hongbo Cao
11/13/2009
11/13/2009
Patent Pending
Shielded signal cable for metro communication
Utility model
200910219843.X
11/13/2009
11/13/2009
Patent Pending
A new type of wind cable
Utility model
200910219840.6
11/13/2009
11/13/2009
Patent Pending
Safety explosion-proof type computer input cables
Utility model
200910219841.0
11/13/2009
11/13/2009
Patent Pending
A new type of control cable for nuclear power station
Utility model
200910219914.6
Hongbo Cao
11/17/2009
11/17/2009
Patent Pending
New type wind cable
Utility model
200920248142.4
11/17/2009
11/17/2009
Patent Pending
Computer input cables
Utility model
200920248147.7
11/17/2009
11/17/2009
Patent Pending
Flexible shielded control cable for marine engine
Invention model
200910219917.X
11/17/2009
11/17/2009
Patent Pending
Flexible shielded control cable for marine engine
Utility model
200910219917.5
11/17/2009
11/17/2009
Patent Pending
Shielded signal cable for metro communication
Utility model
200920248141.X
11/17/2009
11/17/2009
Patent Pending
A type of high-temperature fire-resistant shielded cable
Invention patent
201010228208.0
Hongbo Cao
07/16/2010
07/16/2010
Patent Pending
Aluminum-plastic composite shielded halogen-free fire-retardant cable
Utility model
201020502130.2
Dalian Befut Wire & Cable Manufacturing Co., Ltd
08/24/2010
08/24/2010
Patent
Pending
Halogen-free low-smoke fire-retardant extension type of cable with steel armor
Utility model
201020502119.6
08/24/2010
08/24/2010
Patent Pending
Intrinsically safe explosion-proof type computer input cable
Utility model
201020502128.5
08/24/2010
08/24/2010
Patent Pending
Fire-retardant fire-resistant halogen-free pre-fabricated branched cable
Utility model
201020502111.X
Hongbo Cao
08/24/2010
08/24/2010
Patent Pending
Fire-resistant control cable
Utility model
201020502103.5
08/24/2010
08/24/2010
Patent Pending
Crane control cable
Utility model
201020293825.4
Dalian Befut Wire & Cable Manufacturing Co., Ltd
08/17/2010
08/17/2010
Patent Pending
Waterproof power cable
Utility model
201020293822.0
08/17/2010
08/17/2010
Patent Pending
Wind energy cable
Utility model
201020293823.5
08/17/2010
08/17/2010
Patent Pending
Polyolefin shielded halogen-free low-smoke fire-retardant thermocouple cable
Utility model
201020293814.6
Hongbo Cao
08/17/2010
08/17/2010
Patent Pending
High-temperature fire-resistant control cable
Utility model
201020293815.0
Dalian Befut Wire & Cable Manufacturing Co., Ltd
08/17/2010
08/17/2010
Patent Pending
A carbon fiber composite core electric heating cable and processing technology
Invention patent
201010246591.2
Dalian Yuansheng Technology Development Co., Ltd.
08/16/2010
12/15/2010
Patent Pending
A self-extinguishing carbon fiber cable
Invention patent
201010246585.7
08/16/2010
12/15/2010
Patent Pending
New type of carbon fiber composite wire for heat energy transmission
Invention patent
201010246584.2
08/16/2010
02/16/2011
Patent Pending
Method to repair surface layer of carbon fiber cable
Invention patent
201010246583.8
08/16/2010
12/08/2010
Patent Pending
A Carbon Fiber Cable for Human Health
Utility Model
201020283674.4
08/06/2010
08/06/2010
Patent Pending
New Type Cable Made of Carbon Fiber Reinforced Material
Utility Model
201020283671.0
08/06/2010
08/06/2010
Patent Pending
A Carbon Fiber Composite Material Pultrusion Technology Products
Utility Model
201020283673.X
08/06/2010
08/06/2010
Patent Pending
A New Type Carbon Fiber Cable for Mining
Utility Model
201020283663.6
08/06/2010
08/06/2010
Patent Pending
Pultrusion Process Positioning Dipping Device
Utility Model
201020283672.5
08/06/2010
08/06/2010
Patent Pending
Carbon Fiber Far Infrared Electric Heating Blanket
Utility Model
201020283569.0
08/06/2010
08/06/2010
Patent Pending
A New Type of Mining Cable Hook
Utility Model
201020283566.7
08/06/2010
08/06/2010
Patent Pending
A New Type of Carbon Fiber Composite Board
Utility Model
201020283563.3
08/06/2010
08/06/2010
Patent Pending
New Type Carbon Fiber Composite Cable Body for Electric Power Transmission
Utility Model
201020283578.X
08/06/2010
08/06/2010
Patent Pending
A Carbon Fiber Composite Cable
Utility Model
201020283588.3
08/06/2010
08/06/2010
Patent Pending
Under the PRC Patent Law, a patent is valid for a term of twenty years in the case of an invention and a term of ten years in the case of utility models and designs. Our pending patents are for both utility models and inventions. Any use of a patent without consent or a proper license from the patent owner constitutes an infringement of patent rights. We cannot assure you that any patent applications filed by us will be approved in the future.
With respect to intellectual property rights such as trademarks and patents as described above and know-how for the marketing and sale of the products manufactured by Dalian Befut, WFOE and Dalian Befut have entered into an Intellectual Property License Agreement, pursuant to which, WFOE is permitted to use Dalian Befut’s trademarks, patents (except newly issued patents not existing as of the date of the agreement) and know-how for nominal consideration. After any of the above patent applications are granted, WFOE intends to either enter into a similar Intellectual Property License Agreement with Dalian Befut or we will arrange for the transfer of such patents from Dalian Befut to WFOE in the future.
Competition
Currently, there are approximately 7,000 manufacturers in China producing a variety of types of cable and wire. Among these manufacturers, we estimate that approximately 2,000 manufacturers have the capability to produce specialty cable, approximately 40 of such manufacturers have the capability to produce nuclear cable and approximately 20 have the capability to produce marine cable. Unlike most other competitors, we are capable of producing both nuclear cable and marine cable. In addition, we are one of the few manufacturers in China producing carbon fiber composite cable.
Our competitors include manufacturers that have the ability to conduct comprehensive cable and wire production, such as Far East Cable Co., Limited (“Far East”), Shangshang Cable Co., Ltd., as well as manufacturers that can produce specialty cable, such as Yangzhou Marine Cable Manufacturing Factory (“Yangzhou Marine”). Far East is our largest competitor in the sector of traditional electrical cable and wire and is a leader in terms of market share. We believe our competitive advantage over Far East is in specialty cable production, a segment in which we have more qualification certificates and market share. In terms of specialty cable, Yangzhou Marine is our major competitor. It entered into this market earlier than we did and currently has a strong competitive advantage on qualification certificates and market share. However, Yangzhou Marine's primary market is mostly in the adjacent provinces, such as Jiangsu and Zhejiang, areas in which we have not focused our sales and marketing efforts.
Competitive Advantages
We believe we have the following competitive advantages:
·
We have a strong research and development team. We believe we have an exceptional research and development team with highly skilled personnel, many of whom are former employees of the Shenyang Electric Cable Factory, a state owned enterprise and formerly one of Asia’s largest cable companies. Our team also includes experts from Dalian Science and Technology University.
·
We have the unique ability to produce certain types of specialty cable. We are one of a few manufacturers in China producing carbon fiber composite cable, an advanced cable product that can be utilized for upgrading China’s power grid. The patent for carbon fiber composite cable is held by Dalian Yuansheng, Dalian Befut’s recently acquired subsidiary. Additionally, we are the only company in the PRC cable and wire industry holding a patent for watertight cable. These specialty cable products are high-margin products with great market potential in the cable and wire industry.
·
We have modern production facilities. Our Phase I Changxing Facility has greatly increased our production capacity. We believe that such expansion provides us with a significant advantage in terms of production scale and capacity in northeastern China. The addition of the Phase II Changxing Facility will make our production capabilities even more competitive. The construction of the Phase II Changxing Facility commenced in April 2011 and is expected to be complete by December 31, 2012.
·
We have a strong internal sales force. We primarily sell our products to our customers through our internal sales force of 44 people with minimal reliance on distributors or outside sales personnel. We believe this approach enables us to enjoy lower sales costs and higher profit margins than many of our competitors.
·
Our geographic location allows us to better serve our regional customer base. There are currently more than 100 companies located in northern China that, on average, purchase at least $7 million of specialty cable per year. As most of our competitors are located in southern China, our geographic location provides us with a significant advantage over them with respect to attracting large customers in northern China due to lower transportation costs, regional relationships and similar cultural backgrounds.
Certifications
We have obtained qualifications in specialty cable production and we are a nationally-designated enterprise for coal mining and mechanical products. Additionally, we have obtained classification society certifications from the China Classification Society, RINA Italy Classification Society, American Bureau of Shipping, Germanischer Lloyd, Nippon Kaiji Kyokai and Korean Register of Shipping for our marine cable. We have also received a MIL-Spec Quality Management System certification. As of June 30, 2011, we are one of 29 designated suppliers of China National Petroleum Corporation, one of the largest companies in the world with very strict standards of selecting cable and wire suppliers, further evidencing the quality of our cable products.
Environmental Compliance
We are subject to environmental regulations that are generally applicable to manufacturing companies in the PRC. For example, we obtained necessary approvals for our new manufacturing facilities. We are also subject to periodic inspection by environmental regulators and must follow specific procedures in some of our processes. As of the date of this report, we are in material compliance with the environmental regulations and approved practices applicable to us.
Employees
We currently have 300 employees in total, of whom 291 are full-time and 9 are part-time.
Government Regulation
We are subject to the recent PRC State Administration of Foreign Exchange (“SAFE”) regulations regarding offshore financing activities by PRC residents. SAFE issued a public notice in October 2005 requiring PRC domestic residents to register with the local SAFE branch before establishing or controlling any company outside of China for the purpose of capital financing with assets or equities of PRC companies, referred to in the notice as an “offshore special purpose company.” For details, please see the risk factor - “Recent PRC regulations relating to the establishment of offshore special purpose companies by PRC domestic residents may subject our PRC resident beneficial owners to personal liability, limit our ability to inject capital into our PRC subsidiaries, limit our subsidiaries’ ability to increase their registered capital or distribute profits to us, or may otherwise adversely affect us.” under “ITEM 1A.
ITEM 1A. RISK FACTORS
An investment in our common stock involves a high degree of risk. You should carefully consider the following information about these risks, together with the other information contained in this report before investing in our common stock. If any of the events anticipated by the risks described below occur, our results of operations and financial condition could be adversely affected which could result in a decline in the market price of our common stock, causing you to lose all or part of your investment.
Risks Related to our Business
Adverse capital and credit market conditions may significantly affect our ability to meet liquidity needs, access to capital and cost of capital.
The capital and credit markets may experience extreme volatility and disruption from time to time, including, among other things, extreme volatility in securities prices, severely diminished liquidity and credit availability, ratings downgrades of certain investments and declining valuations of others. Adverse market conditions may limit our ability to replace, in a timely manner, maturing liabilities and access the capital necessary to operate and grow our business. As such, we may be forced to delay raising capital or bear an unattractive cost of capital which could decrease our profitability and significantly reduce our financial flexibility. Demand for our products is vulnerable to economic downturns. The worsening of economic conditions could result in a decrease in or cancellation of orders for our products. We are unable to predict the duration and severity of any disruption in financial markets and global adverse economic conditions and the effect such events might have on our business. Our results of operations, financial condition, cash flows and capital position could be materially adversely affected by disruptions in the financial markets. Further, any decreased collectability of accounts receivable or early termination of sales contracts due to the current deterioration in economic conditions could negatively impact our results of operations.
Quarterly operating results may fluctuate due to factors beyond our control, including customer demand and raw materials pricing.
Our quarterly results of operations may fluctuate as a result of a number of factors, including fluctuation in the demand for our products and changes in the price of copper, which directly affect the prices of our products and may influence demand. Quarter-to-quarter comparisons of results of operations have been and will be impacted by the volume of such orders and shipments. In addition, our operating results each quarter could be adversely affected by the following factors, among others, such as variations in the mix of product sales, price changes in response to competitive factors, increases in raw material costs and increases in utility costs (particularly electricity). Demand for our traditional cable products are subject to seasonality factors which can affect our quarter to quarter results as well.
Fluctuating copper prices impact our business and operating results.
Copper is the principal raw material used in the manufacture of our products. The copper industry is highly volatile and cyclical in nature. Copper prices, which have increased over the past several years followed by more recent sharp declines, have varied significantly and may vary significantly in the future. This affects our business both positively and negatively, as higher copper prices generate higher sales for us since we pass the incremental costs onto our customers, while lower copper prices will reduce the sales price of our products. The price of copper is influenced by factors including general economic conditions, industry capacity utilization, import duties and other trade restrictions. We cannot predict copper prices in the future or the effect of fluctuations in the costs of copper on our future operating results. In accordance with customary practice in our industry, we seek to mitigate the impact of changing raw material prices by passing price increases and decreases onto our customers by adjusting our prices to reflect changes in raw material prices. We may not be able to adjust our product prices rapidly enough in the short-term to recover the costs of increases in raw materials. Our future profitability may be adversely affected to the extent we are unable to pass on higher raw material costs to our customers.
We face substantial competition in our business and our failure to compete effectively may adversely affect our ability to generate revenue.
The wire and cable industry in China is competitive and highly fragmented with more than 7,000 companies. The principal elements of competition in the market are, in our opinion, pricing, payment terms, product availability and quality. While we believe that we have attained a competitive position with respect to all of these factors, our major competitors such as Far East Cable Co., Limited and Yangzhou Marine Cable Factory may have substantially greater resources than us and may be better able to successfully endure downturns in our industry or primary market segments. In periods of reduced demand for our products, we reduce our selling prices to maintain or increase market share or maintain selling prices, which may result in loss of market share. Under either situation, we would experience a reduction in our sales and overall profitability. In addition, we cannot assure you that additional competitors will not enter our markets, or that we will be able to compete successfully against existing or new competition.
We may not be able to effectively control and manage our growth.
If our business and primary markets, including shipbuilding, nuclear power and mining, continue to grow and develop as we expect, it will be necessary for us to finance and manage expansion in an orderly fashion. We may face challenges in managing the production and sale of expanding product offerings and in integrating acquired businesses with our own. Such events will increase demands on our existing management and facilities. Failure to manage this growth and expansion could interrupt or adversely affect our operations, cause production backlogs, longer product development time frames and administrative inefficiencies.
In the past several years we have derived a significant portion of our revenues from a small group of customers. If we were to become dependent again upon a few customers, such dependency could negatively impact our business, operating results and financial condition.
Previously, our customer base has been highly concentrated. For the year ended June 30, 2011 and 2010, our five largest customers accounted for 18.9% and 46% of our total sales, respectively, and the largest customer accounted for approximately 4.77% and 10.0% of our total sales in such periods, respectively. As our customer base may change from year-to-year, during such years that the customer base is highly concentrated, the loss of, or reduction of our sales to, any of such major customers could have a material adverse effect on our business, operating results and financial condition. Moreover, our success will depend in part upon our ability to obtain orders from new customers, as well as the financial condition and success of our customers and general economic conditions.
Shortages or disruptions in the availability of raw materials, especially copper, could have a material adverse effect on our business.
Copper, protective materials and insulation materials are our principal raw materials used in the manufacture of our cable products. Copper, our principal raw material, accounted for approximately 85.13% of our raw material purchases during the fiscal year ended June 30, 2011. We expect that copper will continue to account for a significant portion of our raw material purchases in the future. The price of raw materials fluctuate because of general economic conditions, global supply and demand and other factors causing monthly variations in the costs of our raw materials purchases. These macro-economic factors, together with labor and other business interruptions experienced by certain raw material suppliers, have contributed to periodic shortages in the supply of raw materials to other industry participants. Likewise, we could suffer shortages in the future, although we do not expect shortages of any material nature in the foreseeable future. If we are unable to procure adequate supplies of raw material to meet our future production needs and customer demand, shortages could result in a material loss of customers and revenues and adversely impact our results of operations. In addition, supply shortages or disruptions or the loss of key suppliers may cause us to procure our raw materials from less cost effective sources and may have a material adverse affect on our business, revenues and results of operations.
We depend on a few suppliers for a significant portion of our principal raw materials and we do not have any long-term supply contracts with our raw materials suppliers. Interruptions of production at our key suppliers may affect our results of operations and financial performance.
We rely on a limited number of suppliers for most of the raw materials we use. During the fiscal year ended June 30, 2011, our purchases from our five largest suppliers of raw materials represented approximately 65.55% of our total raw material purchases. Purchases from our five largest suppliers of raw materials were approximately 77% and 62% in 2010 and 2009, respectively. Interruptions or shortages of supplies from our key suppliers of raw materials could disrupt production or impact our ability to increase production and sales. We do not have long-term or volume purchase agreements with our suppliers. Although there is a large pool of suppliers available to provide our raw materials, including copper, our principal raw material, we may have limited options in the short-term for alternative supply if our existing suppliers fail for any reason, including their business failure or financial difficulties, to continue the supply of materials or components. Moreover, identifying and accessing alternative sources may increase our costs. Interruptions at our key suppliers could negatively impact our results of operations, financial performance and the price of our common stock.
Due to increased volatility of raw material prices, the timing lag between the raw material purchase and product pricing can negatively impact our profitability.
Volatility in the prices of raw materials, among other factors, may adversely impact our ability to accurately forecast demand and may have a material adverse impact on our results of operations. For example, our manufacturing activities are determined, and raw materials purchases are scheduled, upon forecasted demand while sales prices are determined at the time of order placement, subject to adjustment at fulfillment. The lag between the point when raw materials are acquired in advance and the point when products are actually priced may impact us both positively and negatively, resulting in increased or decreased profitability. In addition, we routinely maintain a certain level of finished goods inventories to meet near term expected demand. Pricing for the sale of these inventories is generally based on current raw material prices. Rapid declines in the price of raw materials may result in our inventories being carried at costs in excess of net realizable value and may have an adverse effect on our results of operations and the price of our common stock.
If we fail to accurately project market demand for our products, our business expansion plans could be jeopardized and our business, financial condition and results of operations will be adversely affected.
To increase our production capacity, especially for specialty cable products, we are constructing a new manufacturing facility in the industrial zone of Changxing Island (the “Project”), located approximately 120 kilometers from Dalian. Phase I of the Project, comprising approximately 25,000 square meters of production facilities, became operational in April 2010 and has increased our annual production capacity from 800 km to 2,400 km. We plan to increase our production capacity of specialty cable products in Phase II of the Project, the construction of which is expected to be completed by the end of 2012. Our decision to increase our manufacturing capacity was based primarily on our goal to focus on specialty cables as our main business in the next five years. If actual customer orders are less than our projected market demand of specialty cables, we may suffer overcapacity problems and may have to leave capacity idle, which can reduce our overall profitability and hurt our financial condition and results of operations.
The cost of complying with new environmental laws in China may have a material adverse effect on our operations and financial condition.
As a manufacturer, we are subject to various Chinese environmental laws and regulations on air emission, waste water discharge, solid wastes and noise. Although we believe that our operations are in substantial compliance with current environmental laws and regulations, we may not be able to comply with these regulations at all times as the Chinese environmental legal regime is evolving and becoming more stringent. If the Chinese government imposes more stringent regulations in the future, we will have to incur additional and potentially substantial costs and expenses in order to comply with new regulations, which may negatively affect our results of operations. If we fail to comply with any of the present or future environmental regulations in any material aspects, we may suffer from negative publicity and may be required to pay substantial fines or suspend or even cease operations until compliance is achieved.
We do not maintain a reserve fund for warranty or defective products claims. Our costs could substantially increase if we experience a significant number of warranty claims.
We provide customers with warranties against technical defects in our products. The warranties require us to replace or repair defective components or refund the purchase price to the customer. We have not established any reserve funds for potential warranty claims since we have strict quality control procedures and, historically, have experienced few warranty claims for our products. If we experience an increase in warranty claims or if our repair and replacement costs associated with warranty claims increase significantly, it would have a material adverse effect on our financial condition and results of operations.
If we fail to adequately protect or enforce our intellectual property rights, we may be exposed to intellectual property infringement and the value of our intellectual property rights could diminish.
Our success, competitive position and future revenues will depend in part on our ability to obtain and maintain patent protection for our products, methods, processes and other technologies, to preserve our trade secrets, to prevent third parties from infringing on our proprietary rights and to operate without infringing the proprietary rights of third parties. Dalian Befut, together with its two subsidiaries, Dalian Yuansheng and Befut Zhong Xing, hold seventeen registered patents in the PRC and have 47 patents applications that are pending approval, which may take up to two years. However, we cannot assure you such patents will be issued, or that existing or future issued patents will be sufficient to provide us with meaningful protection or commercial advantage.
If we need to initiate litigation or administrative proceedings, such actions may be costly and may divert management attention as well as expend other resources which could otherwise have been devoted to our business. An adverse determination in any such litigation will impair our intellectual property rights and may harm our business, prospects and reputation. In addition, historically, implementation of PRC intellectual property-related laws has been lacking, primarily because of ambiguities in the PRC laws and difficulties in enforcement. Accordingly, intellectual property rights and confidentiality protections in China may not be as effective as in the United States or other countries, which increases the risk that we may not be able to adequately protect our intellectual property. Moreover, litigation may be necessary in the future to enforce our intellectual property rights. Future litigation could result in substantial costs and diversion of our management’s attention and resources, and could disrupt our business, as well as have a material adverse effect on our financial condition and results of operations. Given the relative unpredictability of China’s legal system and potential difficulties enforcing a court judgment in China, there is no guarantee that we would be able to halt any unauthorized use of our intellectual property through litigation.
The occurrence of any acts of God, war, terrorist attacks and other emergencies which are beyond our control may have a material adverse effect on our business operations and financial condition.
Acts of God, war, terrorist attacks and other emergencies which are beyond our control may have a material adverse effect on the economy and infrastructure in the PRC and on the livelihood of the Chinese population. While we have property damage insurance, we do not carry business disruption insurance, which is not readily available in China. Any disruption of the operations in our factories would have a significant negative impact on our ability to manufacture and deliver products, which would cause a potential diminution in sales, the cancellation of orders, damage to our reputation and potential lawsuits.
We cannot give assurance that any acts of God such as floods, earthquakes, drought or any war, terrorist attack or other hostilities in any part of the PRC or even the world, potential or threatened, will not, directly or indirectly, have a material adverse effect on our business, financial condition and operating results.
If we are unable to design, manufacture, and market our products in a timely and efficient manner, we may not remain as competitive.
Most of our products are characterized by short product development cycles and target the unique requirements of our customers. Accordingly, we devote a substantial amount of resources to product development. To compete successfully, we must develop and offer new and/or improved products that are suitable to evolving customer needs. We may experience performance difficulties, which may result in delays, setbacks and cost overruns. Our inability to develop and offer new and/or improved products or to achieve customer acceptance of these products could limit our ability to compete in the market or to grow revenues at desired rates of growth.
If we cannot renew or extend our mandatory certifications, we will be unable to manufacture or sell some or all of our products, which would adversely affect our business, financial condition and results of operations.
According to The Rule Regarding the Administration on Compulsory Products Certification promulgated by the General Administration of Quality Supervision, Inspection and Quarantine of the PRC on December 3, 2001 and effective from May 1, 2002, products that impact health and safety of human beings, life and health of animals and plants and environmental protection and public safety that are listed in the Index of the PRC Compulsory Production Certification (the “Index”) are subject to applicable national standards, technical rules and implementation procedures. China Compulsory Certification (“CCC”) is a mandatory requirement for the production, distribution and exportation of any of the products that are listed in the Index. Certain of our cable and wire products are subject to such certification and we have maintained effective CCC status on those products accordingly.
We cannot assure you that such certificates can be obtained without delay, or can be obtained at all. If we cannot obtain the necessary renewal of our CCC status or new certificates for any of our new products that may be listed on the Index, we may be required to suspend or even cease operations, which would have a material adverse effect on our business and financial condition.
Our success depends on our management team and other key personnel, the loss of any of whom could disrupt our business operations.
We depend, to a large extent, on the abilities and participation of our current management team, but have a particular reliance upon Mr. Hongbo Cao, our CEO, President and Chairman of the Board of Directors of the Company. The loss of the services of Mr. Cao, for any reason, may have a material adverse effect on our business and prospects. We cannot assure you that the service of Mr. Cao will continue to be available to us, or that we will be able to find a suitable replacement for him. We do not carry key man life insurance for our key personnel.
The wire and cable industry is specialized and requires the employment of personnel with significant technical and operational experience in the industry. Accordingly, we must attract and retain qualified personnel in order to remain competitive. Our ability to effectively implement our business strategy will depend upon, among other factors, the successful recruitment and retention of additional management and other key personnel that have the necessary scientific, technical and operational skills and experience in the cable and wire industry. These individuals are difficult to find in the PRC and we may not be able to retain such skilled employees. If we are unable to hire individuals with the requisite experience, we may not be able to produce enough products to optimize profits, research and development initiatives may be delayed and we may encounter disruptions in production and research which will negatively impact our financial condition, results of operations and share price.
Matters relating to or arising from our recent restatements and weaknesses in our internal controls has had and may continue to have a material adverse effect on our business, operating results and financial condition, including increased costs and diversion of management’s attention.
In connection with the restatement of our previously issued financial statements for the fiscal years ended June 30, 2009 and 2010 and the fiscal quarters ended September 30, 2010, December 31, 2010 and March 31, 2011 and our assessments of our disclosure controls and procedures under Item 307 of Regulation S-K, management concluded that as of June 30, 2010, September 30, 2010, December 31, 2010 and March 31, 2011, our disclosure controls and procedures were not effective and that we had a material weakness in our internal control over financial reporting that resulted in certain misstatements and insufficient disclosure of certain required information in our financial statements by certain inexperienced staff, which required the restatement of our financial statements for the affected periods mentioned above. Please refer to the discussion under Item 9A, “Controls and Procedures” for further discussion of our material weaknesses as of June 30, 2011. Should we be unable to remediate those or any other material weaknesses promptly and effectively, such weaknesses could adversely impact our public disclosures regarding our business, financial condition or results of operations, result in a material misstatement of our financial statements, cause us to fail to meet our financial reporting obligations or prevent us from providing reliable and accurate financial reports or avoiding or detecting fraud. This, in turn, could result in a loss of investor confidence in the accuracy and completeness of our financial reports, which could have an adverse effect on our stock price. Any litigation or other proceeding or adverse publicity relating to the restatement or material weaknesses could have a material adverse effect on our business and operating results.
We are currently expending significant efforts and expense to correct the material weakness in our internal control over financial reporting but there is no guarantee that we will be able to remediate the weakness in a timely and effective manner. In addition, we have incurred substantial unanticipated costs for accounting and legal fees and may continue to incur accounting and legal fees in connection with these matters, and our management’s time and attention has been diverted from our other business operations, which could harm our business.
Our inability to successfully integrate other businesses we acquire could have adverse consequences on our business.
An important element of our growth strategy is to invest in or acquire businesses that will expand our product offerings, customer and geographic markets. However, we may be unable to identify suitable investment or acquisition candidates or may be unable to make these investments or acquisitions on commercially reasonable terms, if at all. Future acquisitions may result in greater administrative burdens and operating costs. We cannot assure you that we will be able to manage or integrate acquired companies or businesses successfully. The process of integrating acquired businesses may be disruptive to our business and may cause an interruption of or a loss of momentum in our business as a result of the following factors, among others:
·
loss of key employees or customers;
·
possible inconsistencies in standards, controls, procedures and policies among the combined companies and the need to implement company-wide financial, accounting, information, production and other systems;
·
failure to maintain the quality of products that the companies have historically provided;
·
failure to effectively coordinate research and development efforts;
·
effectively coordinating sales, marketing and distribution functions, including the cross-selling of products;
·
the need to coordinate geographically diverse organizations, and
·
the diversion of management's attention from our day-to-day business as a result of the need to deal with any disruptions and difficulties and the need to add management resources to do so.
These disruptions and difficulties, if they occur, may cause us to fail to realize the cost savings, revenue enhancements and other benefits that we may expect from such acquisitions and may cause material adverse short- and long-term effects on our operating results and financial condition.
Risks Related to Doing Business in the PRC
Substantially all of our assets and operations are located in the PRC, and substantially all of our revenue is derived from sales of products in the PRC. Accordingly, our results of operations and financial position are subject to a significant degree to economic, political and legal risks in the PRC, including the following risks:
Changes in the policies of the PRC government could have a significant impact upon the business we may be able to conduct in the PRC and the profitability of such business.
The PRC’s economy is in a transition from a planned economy to a market-oriented economy subject to five-year and annual plans adopted by the government that set national economic development goals. Policies of the PRC government can have significant effects on economic conditions in China. The PRC government has confirmed that economic development will follow the model of a market economy, such as the United States. Under this direction, we believe that the PRC will continue to strengthen its economic and trading relationships with foreign countries and business development in the PRC will follow market forces. While we believe that this trend will continue, we cannot assure you that this will be the case. Our interests may be adversely affected by changes in policies by the PRC government, including:
·
changes in laws, regulations or their interpretation;
·
confiscatory taxation;
·
restrictions on currency conversion, imports or sources of supplies; and
·
expropriation or nationalization of private enterprises.
Although the PRC government has been pursuing economic reform policies for more than two decades, we cannot assure you that the government will continue to pursue such policies or that such policies may not be significantly altered, especially in the event of a change in leadership, social or political disruption, or other circumstances affecting the PRC's political, economic and social life.
The PRC laws and regulations governing our current business operations are sometimes vague and uncertain. Any changes in such PRC laws and regulations may have a material and adverse effect on our business.
There are substantial uncertainties regarding the interpretation and application of PRC laws and regulations, including, but not limited to, the laws and regulations governing our business, and the enforcement and performance of our arrangements with customers in the event of the imposition of statutory liens, death, bankruptcy and criminal proceedings. We and any future subsidiaries are considered foreign persons or foreign funded enterprises under PRC laws, and as a result, we are required to comply with PRC laws and regulations. These laws and regulations are sometimes vague and may be subject to future changes, and their official interpretation and enforcement may involve substantial uncertainty. The effectiveness of newly enacted laws, regulations or amendments may be delayed, resulting in detrimental reliance by foreign investors. New laws and regulations that affect existing and proposed future businesses may also be applied retroactively. We cannot predict what effect the interpretation of existing or new PRC laws or regulations may have on our businesses.
We derive substantially all of our revenues from sales of our products in the PRC and any downturn in the Chinese economy could have a material adverse effect on our business and financial condition.
All of our business operations are conducted in the PRC and substantially all of our revenues are generated from sales in the PRC. We anticipate that revenues from sales of our products in the PRC will continue to represent a substantial proportion of our total revenues in the near future. Any significant decline in the condition of the PRC economy could, among other things, adversely affect consumer buying power and discourage consumption of our products, which in turn would have a material adverse effect on our revenues and profitability.
Inflation in the PRC could negatively affect our profitability and growth.
While the PRC economy has experienced rapid growth, it has been uneven among various sectors of the economy and in different geographical areas of the country. Rapid economic growth can lead to growth in the money supply and rising inflation. If prices for our products do not rise at a rate that is sufficient to fully absorb inflation-driven increases in our costs of supplies, our profitability can be adversely affected.
According to the International Monetary Fund or IMF, the inflation rate in China fluctuated on an annual basis from a low rate of -1.4% in 1999 to the highest rate of 5.9% in 2008. The inflation rate was -0.7% and 3.3% in 2009 and 2010, respectively. These fluctuations and economic factors have led to the adoption by the Chinese government, from time to time, of various corrective measures designed to restrict the availability of credit or regulate growth and contain inflation. In order to control inflation in the past, the PRC government has imposed controls on bank credits, limits on loans for fixed assets and restrictions on state bank lending. The implementation of these and other similar policies can impede economic growth and thereby harm the market for our products.
Our subsidiaries are subject to restrictions on paying dividends and making other payments to us; as a result, we might therefore, be unable to pay dividends to you.
We are a holding company incorporated in the State of Nevada and do not have any assets or conduct any business operations other than our investments in our subsidiaries, Befut Nevada, Befut Hongkong and WFOE. As a result of our holding company structure, we rely on WFOE, our subsidiary in the PRC, for payments of dividends, if any. PRC regulations currently permit payment of dividends only out of accumulated profits, as determined in accordance with PRC accounting standards and regulations. Our subsidiaries are also required to set aside a portion of its after-tax profits according to PRC accounting standards and regulations to fund certain reserve funds. We may experience difficulties such as lengthy processing time from the foreign exchange administrative bureau’s side and formality requirement on paperwork in completing the administrative procedures necessary to obtain and remit foreign currency. Furthermore, if any of our subsidiaries incurs debt on its own in the future, the instruments governing the debt may restrict its ability to pay dividends or make other payments. If we are unable to receive any profits from the operations of our subsidiaries in the PRC, we may be unable to pay dividends on our common stock.
Cash flows generated by Dalian Befut, our captive OEM manufacturer, generally stay at the Dalian Befut operating level as working capital. However, transfer of cash from Dalian Befut, as well as from our PRC subsidiaries, may be made up to the Company when necessary to meet the Company’s cash requirements, including, for example, for the satisfaction of any debt obligations or payment of cash dividends. There are generally no PRC laws or regulations that prohibit the transfer of cash balances from the Company’s subsidiaries or Dalian Befut to the Company, as long as such transfers are made in compliance with applicable PRC laws regarding, among other things, currency controls, tax and payment of dividends.
Capital outflow policies in the People’s Republic of China may hamper our ability to remit income to the United States and all our net assets are restricted assets subject to PRC’s capital outflow policies.
The PRC government imposes controls on the convertibility of Renminbi (RMB) into foreign currencies and, in certain cases, the remittance of currency outside of the PRC. We receive substantially all of our revenues in RMB. Under the existing PRC foreign exchange regulations, payments of current account items, including profit distributions, interest payments and expenditures from trade-related transactions, can be made in foreign currencies without prior approval from the PRC State Administration of Foreign Exchange by complying with certain procedural requirements. However, approval from appropriate government authorities is required in those cases in which RMB to be converted into foreign currency and remitted out of the PRC to pay capital expenses, such as the repayment of bank loans denominated in foreign currencies. The PRC government also may at its discretion restrict access in the future to foreign currencies for current account transactions. If the foreign exchange control system prevents us from obtaining sufficient foreign currency to satisfy our currency demands, we may not be able to pay dividends in foreign currencies to our shareholders.
Since all our consolidated subsidiaries, business operations, revenues and assets are located in China, approximately 100% of the total net assets of all our consolidated and non-consolidated subsidiaries are subject to Chinese government’s limitations on the transferability of RMB to foreign currencies and remittance of RMB out of China.
Although we do not import goods into or export goods out of the People’s Republic of China, fluctuation of the RMB may indirectly affect our financial condition by affecting the volume of cross-border money flow.
The value of the RMB fluctuates and is subject to changes in political and economic conditions in the People’s Republic of China. Since July 2005, the conversion of RMB into foreign currencies, including U.S. dollars, has been based on rates set by the People’s Bank of China which are set based upon the interbank foreign exchange market rates and current exchange rates of a basket of currencies on the world financial markets. As of June 30, 2010, the exchange rate between the RMB and the U.S. dollar was 6.7909 RMB to every one U.S. dollar.
Governmental control of currency conversion may affect the value of your investment.
The PRC government imposes controls on the convertibility of Renminbi, or RMB, into foreign currencies and, in certain cases, the remittance of currency out of the PRC. We receive substantially all of our revenues in RMB, which is currently not a freely convertible currency. Shortages in the availability of foreign currency may restrict our ability to remit sufficient foreign currency to pay dividends, or otherwise satisfy foreign currency denominated obligations. Under existing PRC foreign exchange regulations, payments of current account items, including profit distributions, interest payments and expenditures from the transaction, can be made in foreign currencies without prior approval from the PRC State Administration of Foreign Exchange, or SAFE, by complying with certain procedural requirements. However, approval from appropriate governmental authorities is required where RMB is to be converted into foreign currency and remitted out of PRC to pay capital expenses such as the repayment of bank loans denominated in foreign currencies.
The PRC government also may at its discretion restrict access in the future to foreign currencies for current account transactions. If the foreign exchange control system prevents us from obtaining sufficient foreign currency to satisfy our currency demands, we may not be able to pay certain of our expenses as they come due.
The fluctuation of RMB may materially and adversely affect your investment.
The value of the RMB against the U.S. dollar and other currencies may fluctuate and is affected by, among other things, changes in the PRC's political and economic conditions. As we rely entirely on revenues earned in the PRC, any significant revaluation of RMB may materially and adversely affect our cash flows, revenues and financial condition. For example, to the extent that we need to convert U.S. dollars we receive from an offering of our securities into RMB for our operations, appreciation of the RMB against the U.S. dollar could lead the RMB equivalent of the U.S. dollars be reduced and therefore could have a material adverse effect on our business, financial condition and results of operations. Conversely, if we decide to convert our RMB into U.S. dollars for the purpose of making dividend payments on our common stock or for other business purposes and the U.S. dollar appreciates against the RMB, the U.S. dollar equivalent of the RMB we convert would be reduced. In addition, the depreciation of significant U.S. dollar denominated assets could result in a charge to our income statement and a reduction in the value of these assets.
Recent PRC regulations relating to the establishment of offshore special purpose companies by PRC domestic residents may subject our PRC resident beneficial owners to personal liability, limit our ability to inject capital into our PRC subsidiaries, limit our subsidiaries’ ability to increase their registered capital or distribute profits to us, or may otherwise adversely affect us.
SAFE issued a public notice in October 2005 requiring PRC domestic residents to register with the local SAFE branch before establishing or controlling any company outside of China for the purpose of capital financing with assets or equities of PRC companies, referred to in the notice as an “offshore special purpose company.” PRC domestic residents who are stockholders of offshore special purpose companies and have completed round trip investments but did not make foreign exchange registrations for overseas investments before November 1, 2005 were retroactively required to register with the local SAFE branch before March 31, 2006. PRC resident stockholders are also required to amend their registrations with the local SAFE in certain circumstances. Internal implementing guidelines issued by SAFE, which became public in June 2007 (known as Notice 106), expanded the reach of Circular 75. After consultation with China counsel, we do not believe that any of our PRC domestic resident stockholders are subject to the SAFE registration requirement, however, we cannot provide any assurances that all of our stockholders who are PRC residents will not be required to make or obtain any applicable registrations or approvals required by these SAFE regulations in the future. The failure or inability of our PRC resident stockholders to comply with the registration procedures set forth therein may subject us to fines and legal sanctions, restrict our cross-border investment activities, or limit our PRC subsidiaries’ ability to distribute dividends or obtain foreign-exchange-dominated loans to our company.
As it is uncertain how the SAFE regulations will be interpreted or implemented, we cannot predict how these regulations will affect our business operations or future strategy. For example, we may be subject to more stringent review and approval process with respect to our foreign exchange activities, such as remittance of dividends and foreign-currency-denominated borrowings, which may adversely affect our results of operations and financial condition. In addition, if we decide to acquire a PRC domestic company, we cannot assure you that we or the owners of such company, as the case may be, will be able to obtain the necessary approvals or complete the necessary filings and registrations required by the SAFE regulations. This may restrict our ability to implement our acquisition strategy and could adversely affect our business and prospects.
The PRC’s labor law restricts our ability to reduce our workforce in the PRC in the event of an economic downturn and may increase our production costs.
In June 2007, the National People’s Congress of the PRC enacted new labor law legislation called the Labor Contract Law, which became effective on January 1, 2008. The legislation formalized workers’ rights concerning overtime hours, pensions, layoffs, employment contracts and the role of trade unions. Considered one of the strictest labor laws in the world, among other things, this new law provides for specific standards and procedures for the termination of an employment contract and places the burden of proof on the employer. In addition, the law requires the payment of a statutory severance pay upon the termination of an employment contract in most cases, including the case of the expiration of a fixed-term employment contract. Further, the law requires an employer to conclude an “employment contract without a fixed-term” with any employee who either has worked for the same employer for 10 consecutive years or more or has had two consecutive fixed-term contracts with the same employer. An “employment contract without a fixed term” can no longer be terminated on the ground of the expiration of the contract, although it can still be terminated pursuant to the standards and procedures set forth under the new law. Because of the lack of implementing rules for the new law and the precedents for the enforcement of such a law, the standards and procedures set forth under the law in relation to the termination of an employment contract have raised concerns among foreign investment enterprises in the PRC that such “employment contract without a fixed term” might in fact become a “lifetime, permanent employment contract.” Finally, under this law, downsizing of either more than 20 people or more than 10% of the workforce may occur only under specified circumstances, such as a restructuring undertaken pursuant to the PRC’s Enterprise Bankruptcy Law, or where a company suffers serious difficulties in production and/or business operations, or where there has been a material change in the objective economic circumstances relied upon by the parties at the time of the conclusion of the employment contract, thereby making the performance of such employment contract not possible. To date, there has been very little guidance and precedents as to how such specified circumstances for downsizing will be interpreted and enforced by the relevant PRC authorities. All of our employees working for us exclusively within the PRC are covered by the new law and thus, our ability to adjust the size of our operations when necessary in periods of recession or less severe economic downturns may be curtailed. Accordingly, if we face future periods of decline in business activity generally or adverse economic periods specific to our business, this new law can be expected to exacerbate the adverse effect of the economic environment on our results of operations and financial condition.
Recent PRC regulations relating to acquisitions of PRC companies by foreign entities may create regulatory uncertainties that could restrict or limit our ability to operate. Our failure to obtain the prior approval of the China Securities Regulatory Commission, or CSRC, may cause a material and adverse effect on our business, results of operations and financial conditions.
On August 8, 2006, six PRC regulatory agencies, the PRC Ministry of Commerce, or MOFCOM, the State Assets Supervision and Administration Commission, or SASAC, the State Administration for Taxation, the State Administration for Industry and Commerce, the China Securities Regulatory Commission, or CSRC, and the SAFE, jointly adopted the Regulations on Mergers and Acquisitions of Domestic Enterprises by Foreign Investors, or New M&A Rule, which became effective on September 8, 2006. The New M&A Rule purports, among other things, to require offshore special purpose vehicles, or SPVs, formed for overseas listing purposes through acquisitions of PRC domestic companies and controlled by PRC companies or individuals, to obtain the approval of the CSRC prior to publicly listing their securities on an overseas stock exchange.
On September 21, 2006, pursuant to the New M&A Rule and other PRC laws and regulations, the CSRC, in its official website, promulgated relevant guidance with respect to the issues of listing and trading of domestic enterprises’ securities on overseas stock exchanges, or the Administrative Permits, including a list of application materials with respect to the listing on overseas stock exchanges by SPVs.
There are substantial uncertainties regarding the interpretation and application of current or future PRC laws and regulations, including the New M&A Rule. The interpretation and application of the New M&A Rule remain unclear, and we cannot assure you that the restructuring transactions pursuant to which Dalian Befut became the captive manufacturer of WFOE does not require approval from the CSRC, and if it does, what will be the penalties, if any, imposed as a result of our failure to obtain such approval. These uncertainties could inhibit our new business activities because the CSRC has declined to officially clarify the applicability of this New M&A Rule to us and the share exchange transaction consummated on March 13, 2009. If CSRC approval was required for us to consummate the share exchange, our failure to obtain or delay in obtaining the CSRC approval would subject us to sanctions imposed by the CSRC and other PRC regulatory agencies. These sanctions could include fines and penalties on our operations in China, restriction or limitation on our ability to pay dividend outside of China, and other forms of sanctions that may cause a material and adverse effect on our business, results of operations and financial conditions. However, the New M&A Rule does not stipulate the specific penalty terms, so we are not able to predict what penalties we may face, and how such penalties will affect our business operations or future strategy.
The New M&A Rule also established additional procedures and requirements that are expected to make merger and acquisition activities by foreign investors more time-consuming and complex, including requirements in some instances that the MOFCOM be notified in advance of any change-of-control transaction in which a foreign investor takes control of a PRC domestic enterprise that owns well-known trademarks or China’s traditional brands. We may grow our business in part by acquiring other cable and wire manufacturers. Complying with the requirements of the New M&A Rule in completing this type of transaction could be time-consuming, and any required approval processes, including Ministry of Commerce approval, may delay or inhibit our ability to complete such transactions, which could affect our ability to expand our business or maintain our market share.
Because our principal assets are located outside of the United States and because all of our directors and officers reside outside of the United States, it may be difficult for you to use the United States Federal securities laws to enforce your rights against us and our officers and most of our directors or to enforce judgments of United States courts against us or our officers and most of our directors in the PRC.
All of our present officers and directors reside outside of the United States. In addition, our operating subsidiaries are located in the PRC and substantially all of their assets are located outside of the United States. It may therefore be difficult for investors in the United States to enforce their legal rights based on the civil liability provisions of the United States Federal securities laws against us and our officers and most of our directors in the courts of either the United States or the PRC and, even if civil judgments are obtained in courts of the United States, to enforce such judgments in PRC courts. Further, it is unclear if extradition treaties now in effect between the United States and the PRC would permit effective enforcement against us or our officers and most of our directors of criminal penalties, under the United States Federal securities laws or otherwise.
Failure to comply with the U.S. Foreign Corrupt Practices Act could subject us to penalties and other adverse consequences.
We are required to comply with the United States Foreign Corrupt Practices Act, which generally prohibits United States companies from engaging in bribery or other prohibited payments to foreign officials for the purpose of obtaining or retaining business. Foreign companies, including some that may compete with us, are not subject to these prohibitions, and therefore may have a competitive advantage over us. Corruption, extortion, bribery, pay-offs, theft and other fraudulent practices may occur in the PRC. If our competitors engage in these practices they may receive preferential treatment, giving our competitors an advantage in securing business, which would put us at a disadvantage. We can make no assurance that our employees or other agents will not engage in such conduct for which we might be held responsible. If our employees or other agents are found to have engaged in such practices, we could suffer severe penalties and other consequences that may have a material adverse effect on our business, financial condition and results of operations.
We control Dalian Befut, our captive PRC manufacturer, through certain OEM Agreements which may not be as effective in providing control over Dalian Befut as direct ownership or VIE arrangement, and if Dalian Befut or its shareholders breach the OEM Agreements, we would have to rely on legal remedies under PRC law, which may not be available or effective, to enforce or protect our rights.
We conduct substantially all of our operations, and generate substantially all of our revenues, through an Original Equipment Manufacturer Agreement, an Intellectual Property Rights License Agreement and a Non-competition Agreement (collectively, the “OEM Agreements”) with Dalian Befut that provide us, through our ownership of Befut Hongkong and its direct ownership of WFOE, with control over Dalian Befut and its subsidiaries, Befut Zhong Xing and Dalian Yuansheng. We have no direct ownership interest in Dalian Befut nor do we have voting control of shares of Dalian Befut. As a result, Dalian Befut’s shareholders, unlike those of a variety interest entity, or VIE, can dispose of their shares at their sole discretion. We depend on Dalian Befut to hold and maintain contracts with our customers. Dalian Befut also owns or leases, as the case may be, substantially all of the intellectual property, facilities and other assets relating to the operation of our business, and employs the personnel for substantially all of our business. Although we have been advised by Jun He Law Offices, PRC legal counsel we engaged during our corporate restructuring in connection with going public in the United States, that the rights, duties and obligations under each of the OEM Agreements with Dalian Befut are valid, binding and enforceable under PRC laws and regulations in effect, these OEM Agreements may not be as effective in providing us with control over Dalian Befut as direct ownership of Dalian Befut would be or if Dalian Befut was the VIE of WFOE. In addition, Dalian Befut may breach the OEM Agreements by, for example, deciding not to make contractual payments to WFOE, and consequently to the Company. In the event of any such breach, we would have to rely on legal remedies under PRC law, which may not always be available or effective to enforce our rights, particularly in light of uncertainties in the PRC legal system.
Risks Related to an Investment in our Stock.
Shares of our common stock lack a significant trading market.
Our common stock is quoted on the Over The Counter Bulletin Board, or OTCBB, under the symbol “BFTI”. This market tends to be highly illiquid. There can be no assurance that an active trading market in our common stock will develop, or if such a market develops, that it will be sustained. In addition, there is a greater chance for market volatility for securities that trade on the OTCBB as opposed to securities that trade on a national exchange. This volatility may be caused by a variety of factors, including the lack of readily available quotations, the absence of consistent administrative supervision of “bid” and “ask” quotations, and generally lower trading volume. The price at which investors purchase shares of our common stock may not be indicative of the price that will prevail in the trading market. Investors may be unable to sell their shares of common stock at or above their purchase price, which may result in substantial losses.
The limited public trading market may cause volatility in our stock price.
The quotation of our common stock on the OTCBB does not assure that a meaningful, consistent and liquid trading market currently exists, and in recent years such market has experienced extreme price and volume fluctuations that have particularly affected the market prices of many smaller companies like us. As a result, our common stock is subject to significant volatility. Sales of substantial amounts of our common stock, or the perception that such sales might occur, could adversely affect prevailing market prices of our common stock.
We have not paid any cash dividends and no cash dividends will be paid in the foreseeable future.
We do not anticipate paying cash dividends on our common stock in the foreseeable future and we may not have sufficient funds legally available to pay dividends. Even if the funds are legally available for distribution, we may nevertheless decide not to pay, or may be unable to pay, any dividends. We intend to retain all earnings for our company’s operations.
The market price for our common stock may be volatile and subject to wide fluctuations, which may adversely affect the price at which you can sell our shares.
The market price for our common stock may be volatile and subject to wide fluctuations in response to factors including the following:
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actual or anticipated fluctuations in our quarterly operations results;
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changes in financial estimates by securities research analysts;
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conditions in foreign or domestic cable and wire industry;
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changes in the economic performance or market valuations of other companies in the same industry;
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announcements by us or our competitors of new products, acquisitions, strategic partnerships, joint ventures or capital commitments;
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addition or departure of key personnel;
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fluctuations of exchange rates between the RMB and the U.S. dollar;
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intellectual property litigation;
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general economic or political conditions in the PRC; and
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Other events or factors, many of which are beyond our control.
In addition, the securities market has from time to time experienced significant price and volume fluctuations that are not related to the operating performance of particular companies. These market fluctuations may also materially and adversely affect the market price of our stock, regardless of our actual operating performance.
Our common stock may be considered a “penny stock,” and thereby be subject to additional sale and trading regulations that may make it more difficult to sell.
Our common stock may be deemed to be “penny stock” as that term is defined under the Securities Exchange Act of 1934, as amended. Penny stocks generally are equity securities with a price of less than $5.00 (other than securities registered on certain national securities exchanges or quoted on the NASDAQ system, provided that current price and volume information with respect to transactions in such securities is provided by the exchange or system). Penny stock rules impose additional sales practice requirements on broker-dealers who sell to persons other than established customers and “accredited investors.” The term “accredited investor” refers generally to institutions with assets in excess of $5,000,000 or individuals with a net worth in excess of $1,000,000 or annual income exceeding $200,000 or $300,000 jointly with their spouse.
The penny stock rules require a broker-dealer, prior to a transaction in a penny stock not otherwise exempt from the rules, to deliver a standardized risk disclosure document in a form prepared by the SEC, which provides information about penny stocks and the nature and level of risks in the penny stock market. Moreover, broker/dealers are required to determine whether an investment in a penny stock is a suitable investment for a prospective investor. A broker/dealer must receive a written agreement to the transaction from the investor setting forth the identity and quantity of the penny stock to be purchased. These requirements may reduce the potential market for our common stock by reducing the number of potential investors. This may make it more difficult for investors in our common stock to sell shares to third parties or to otherwise dispose of them. This could cause our stock price to decline.
Our officers, directors and affiliates control us through their positions and stock ownership and their interests may differ from other stockholders.
Our Chairman, President and CEO, Mr. Hongbo Cao, has the voting rights on 13,934,072, or 46.9%, of our issued and outstanding common stock. As a major stockholder, he is able to influence the outcome of stockholder votes on various matters, including the election of directors and extraordinary corporate transactions, including business combinations. The interests of Mr. Cao may differ from other stockholders.
We may require additional financing in the future and our operations could be curtailed if we are unable to obtain required additional financing when needed.
We may need to obtain additional debt or equity financing to fund future capital expenditures. Additional equity may result in dilution to the holders of our outstanding shares of capital stock. Additional debt financing may include conditions that would restrict our freedom to operate our business, such as conditions that:
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limit our ability to pay dividends or require us to seek consent for the payment of dividends;
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increase our vulnerability to general adverse economic and industry conditions;
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require us to dedicate a portion of our cash flow from operations to payments on our debt, thereby reducing the availability of our cash flow to fund capital expenditures, working capital and other general corporate purposes; and
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limit our flexibility in planning for, or reacting to, changes in our business and our industry.
We cannot guarantee that we will be able to obtain any additional financing on terms that are acceptable to us, or at all.
Techniques employed by manipulative short sellers in Chinese small cap stocks may drive down the market price of our common stock.
Short selling is the practice of selling securities that the seller does not own but rather has, supposedly, borrowed from a third party with the intention of buying identical securities back at a later date to return to the lender. The short seller hopes to profit from a decline in the value of the securities between the sale of the borrowed securities and the purchase of the replacement shares, as the short seller expects to pay less in that purchase than it received in the sale. As it is therefore in the short seller’s best interests for the price of the stock to decline, many short sellers (sometime known as “disclosed shorts”) publish, or arrange for the publication of, negative opinions regarding the relevant issuer and its business prospects in order to create negative market momentum and generate profits for themselves after selling a stock short. While traditionally these disclosed shorts were limited in their ability to access mainstream business media or to otherwise create negative market rumors, the rise of the Internet and technological advancements regarding document creation, videotaping and publication by weblog (“blogging”) have allowed many disclosed shorts to publicly attack a company’s credibility, strategy and veracity by means of so-called research reports that mimic the type of investment analysis performed by large Wall Street firm and independent research analysts. These short attacks have, in the past, led to selling of shares in the market, on occasion in large scale and broad base. Issuers with business operations based in China and who have limited trading volumes and are susceptible to higher volatility levels than U.S. domestic large-cap stocks, can be particularly vulnerable to such short seller attacks.
These short seller publications are not regulated by any governmental, self-regulatory organization or other official authority in the U.S., are not subject to the certification requirements imposed by the Securities and Exchange Commission in Regulation AC (Regulation Analyst Certification) and, accordingly, the opinions they express may be based on distortions of actual facts or, in some cases, fabrications of facts. In light of the limited risks involved in publishing such information, and the enormous profit that can be made from running just one successful short attack, unless the short sellers become subject to significant penalties, it is more likely than not that disclosed short sellers will continue to issue such reports.
If we are attacked by any short sellers, while we intend to strongly defend our public filings against any attack, often times we could be constrained, either by principles of freedom of speech, applicable state law (often called “Anti-SLAPP statutes”), or issues of commercial confidentiality, in the manner in which we can proceed against the relevant short seller. You should be aware that in light of the relative freedom to operate that such persons enjoy - oftentimes blogging from outside the U.S. with little or no assets or identity requirements - should we be targeted for such an attack, our stock will likely suffer from a temporary, or possibly long term, decline in market price should the rumors created not be dismissed by market participants.
A recent SEC investor bulletin regarding reverse mergers may drive down the market price of our common stock.
On June 9, 2011, the SEC issued an investor bulletin in which it explained the process by which a company becomes a public company by means of a reverse merger, described the potential risks of investing in a reverse merger company and detailed recent enforcement actions taken by it against certain reverse merger companies. In particular the investor bulletin raised specific concerns with respect to foreign companies that access the U.S. markets through the reverse merger process, as we did. The SEC investor bulletin could lead investors in our common stock to sell their shares and may cause other investors not to invest in us, thus driving down the market price of our common stock or making it more difficult for us to raise funds in the future.
ITEM 1B.
ITEM 1B. UNRESOLVED STAFF COMMENTS.
This item is not applicable to us as we are a smaller reporting company.
ITEM 2.
ITEM 2. PROPERTIES.
Under PRC law, all land in the PRC is owned by either the state or by rural collectives, which grant a “land use right” to an individual or entity after a purchase price for such land use right is paid to the government. The land use right grants the holder the right to use the land for a specified long-term period of time and other rights that are incidental to the ownership of the land. Land and buildings are regarded as two separate properties in China. Land users may use the land and own the buildings and improvements on it, but the sovereignty of the land is retained by the State or rural collectives.
We lease a parcel of land of approximately 14,040 square meters in Dalian from Dalian Wanbao Industrial Co. Ltd., which is the location of our manufacturing base of switch appliance products. The lease is for a term from October 1, 2001 through October 1, 2051 at an aggregate rent of RMB250,000 (approximately $367,647). We own three factory buildings with 661.5 square meters, 1,531.05 square meters and 4,014.72 square meters of floor space, respectively, which are built upon this leased property.
We lease an area of 685.62 square meters of executive office space in the Xigang District in Dalian from Liaoning Ning’an Real Estate Co., Ltd. The lease is for a three-year term beginning of February 1, 2010 at an aggregate rent of RMB315,000 (approximately $46,323). Prior to such lease, we leased an area of 480 square meters in Xigang District from an individual, Yurong Yao, at an annual rent of RMB 336,000 (approximately $49,412) from April 1, 2006 to April 1, 2009. After the lease expired, we paid rent based on the same terms on monthly basis until our new lease mentioned above commenced.
We have obtained the land use right certificate and building ownership certificates for our completed Phase I Changxing Facility, which includes factory facilities located in Xingang County, Lingang Industrial District of Changxing Island. In addition, we also obtained the land use right certificate for the land reserved for our Phase II Changxing Facility.
The land and properties that we use are owned or leased by Dalian Befut.
Set forth in the following table is the detailed information of the properties that we currently use:
Nature of
the
Property
Property
Location and
Production
Segment
Address
Area
(square
meters)
Ownership Status and
Term
Land
Dalian
Switch Appliance Products
Qipanzi County, Gezhenbao Town of Ganjingzi District, Dalian
14,040
Leased from Dalian Wanbao Industrial Co. Ltd. at an aggregate rent of RMB2,500,000 (approximately $367,647) for 50 years from Oct. 1 2001 through Oct. 1, 2051
Building
Dalian
Switch Appliance Products (Warehouse)
Qipanzi County, Gezhenbao Town of Ganjingzi District, Dalian
661.5
Building Ownership Certificate: Dagan Cun Fang Zi Di 205010073
Building
Dalian
Switch Appliance Products (Office)
Qipanzi County, Gezhenbao Town of Ganjingzi District, Dalian
1,531.05
Building Ownership Certificate : Dagan Cun Fang Zi Di 205010074
Building
Dalian
Switch Appliance Products (Workshop)
Qipanzi County, Gezhenbao Town of Ganjingzi District, Dalian
4,014.72
Building Ownership Certificate : Dagan Cun Fang Zi Di 205010075
Building
Dalian
Office
No.4-12, 17-20, 27 Floor, Liang Jiu International Building,
No.5 Heyi Street, Xigang District, Dalian
685.62
Lease from Liaoning Ning’an Real Estate Co., Ltd. at an aggregate rent of RMB315,000 (approximately $46,323) in total for 3 years from Feb.1, 2010 through Feb. 1, 2013
Land
Dalian
Traditional and Specialty Cable
Xingang Village, Sub-street office, Changxing Island, Dalian
120,953.0
Land use right (Certificate #:Da Guo Yong (2009) No. 06067) expires on Sep. 9, 2056
Land
Dalian
Traditional and Specialty Cable
Xingang Village, Sub-street office, Changxing Island, Dalian
30,290.0
Land use right (Certificate #:Da Guo Yong (2009) No. 06066) expires on Sep. 9, 2056
Building
Dalian
Traditional and Specialty Cable (Doorman Room)
No.20, Shimen Street, Lingang Industrial District, Changxing Island, Dalian
63.96
Building Ownership Certificate# 2009001864
Building
Dalian
Traditional and Specialty Cable (Factory)
No.20, Shimen Street, Lingang Industrial District, Changxing Island, Dalian
2,744.56
Building Ownership Certificate# 2009001865
Building
Dalian
Traditional and Specialty Cable (Factory)
No.20, Shimen Street, Lingang Industrial District, Changxing Island, Dalian
3,836.56
Building Ownership Certificate# 2009001866
Building
Dalian
Traditional and Specialty Cable (Factory)
No.20, Shimen Street, Lingang Industrial District, Changxing Island, Dalian
3,836.56
Building Ownership Certificate# 2009001867
Building
Dalian
Traditional and Specialty Cable (Office)
No.20, Shimen Street, Lingang Industrial District, Changxing Island, Dalian
2,001.63
Building Ownership Certificate# 2009001868
Building
Dalian
Traditional and Specialty Cable (Office)
No.8, Qifeng Street, Lingang Industrial District, Changxing Island, Dalian
8,508.70
Building Ownership Certificate# 2009001869
Building
Dalian
Traditional and Specialty Cable (Warehouse)
No.8, Qifeng Street, Lingang Industrial District, Changxing Island, Dalian
5,332.50
Building Ownership Certificate# 2009001870
Building
Dalian
Traditional and Specialty Cable (Factory)
No.8, Qifeng Street, Lingang Industrial District, Changxing Island, Dalian
7,293.27
Building Ownership Certificate# 2009001871
Building
Dalian
Traditional and Specialty Cable (Factory)
No.8, Qifeng Street, Lingang Industrial District, Changxing Island, Dalian
9,526.87
Building Ownership Certificate# 2009001872
Mortgaged Property
Dalian Befut entered into a long term loan agreement with China Development Bank Corporation in November 2009. In order to secure the loan, Dalian Befut mortgaged certain of its land use rights and owned buildings as set forth in the table below:
Loan
Amount
Lending
Institution
Contract
Period
Type of
Guarantee
Interest Rate
Property under Mortgage
RMB100 million ($14.7 million)
China Develop-ment Bank Corp.
November 2, 2009 to November 1, 2016
Mortgage
The interest rate is a variable rate equal to 5% per annum above the floating base interest for loans of the same term promulgated by the PRC’s central bank.
Dalian Befut’s land : (Certificate #:Da Guo Yong (2009) No. 06066 and Da Guo Yong (2009) No. 06067)
Dalian Befut’s buildings: ( Certificate# 2009001864, 2009001865, 2009001866, 2009001867, 2009001868, 2009001869, 2009001870, 2009001871, 2009001872)
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS.
From time to time, we may become involved in various lawsuits and legal proceedings which arise in the ordinary course of business. Litigation is subject to inherent uncertainties, and an adverse result in these or other matters may arise from time to time that may harm our business. However, we are currently not aware of any such legal proceedings or claims that we believe will have, individually or in the aggregate, a material adverse affect on our business, financial condition or operating results.
ITEM 4.
ITEM 4. (REMOVED AND RESERVED).
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES.
Our common stock was approved for quotation on the OTC Bulletin Board on September 28, 2006 and initially traded under the symbol FRZR.OB. In connection with a 1-for-20 reverse stock split consummated on February 26, 2008, our symbol on the OTC Bulletin Board was changed to FREZ.OB.
On June 18, 2009, in connection with our name change and a 1-for-4.07 reverse stock split effective the same day, our symbol was changed to BFTI.OB.
The table below sets forth the reported high and low bid prices for the past two fiscal years. The bid prices shown reflect quotations between dealers, without adjustment for markups, markdowns or commissions, and may not represent actual transactions in our securities. Shares of our common stock are very thinly traded, and the price if traded may be highly volatile and may not reflect the value of the Company.
* Source: Quarterly Trade & Quote Summary Report ordered from www.otcbb.com.
Common and Preferred Stock
We are authorized by our Articles of Incorporation, as amended, to issue an aggregate of 210,000,000 shares of capital stock, of which 200,000,000 are shares of common stock, par value $0.001 per share (the "Common Stock") and 10,000,000 are shares of preferred stock, par value $0.001 per share (the “Preferred Stock”).
Common Stock
All outstanding shares of Common Stock are of the same class and have equal rights and attributes. The holders of Common Stock are entitled to one vote per share on all matters submitted to a vote of our stockholders. All stockholders are entitled to share equally in dividends, if any, as may be declared from time to time by the Board of Directors out of funds legally available. In the event of liquidation, the holders of Common Stock are entitled to share ratably in all assets remaining after payment of all liabilities. The stockholders do not have cumulative or preemptive rights.
Preferred Stock
Our Articles of Incorporation, as amended, authorize the issuance of up to 10,000,000 shares of Preferred Stock with designations, rights and preferences determined from time to time by its Board of Directors. Accordingly, our Board of Directors is empowered, without stockholder approval, to issue Preferred Stock with dividend, liquidation, conversion, voting, or other rights which could adversely affect the voting power or other rights of the holders of the Common Stock. In the event of issuance, the Preferred Stock could be utilized, under certain circumstances, as a method of discouraging, delaying or preventing a change in control of the Company. Although we have no present intention to issue any shares of our authorized Preferred Stock, there can be no assurance that the Company will not do so in the future.
The description of certain matters relating to the securities of the Company is a summary and is qualified in its entirety by the provisions of the Company's Articles of Incorporation and By-Laws, copies of which have been filed or incorporated by reference as exhibits to this report.
Holders
As of September 19, 2011, there were approximately 573 shareholders of record of our common stock and an indeterminate number of beneficial holders who held our Common Stock in street name.
Transfer Agent and Registrar
Our independent stock transfer agent is Corporate Stock Transfer, Inc., located in Denver, Colorado. Their mailing address is 3200 Cherry Creek Dr. South, Suite 430, Denver, CO 80209. Their phone number is 303-282-4800 and fax number is 303-282-5800.
Dividends
Our board of directors has not declared a dividend on our common stock during the last two fiscal years or the subsequent interim period. It is the present intention of our board to utilize all available funds for the development of the Company's business.
The payment of dividends, if any, is at the discretion of the Board of Directors and is contingent on the Company's revenues and earnings, capital requirements, financial conditions and the ability of our subsidiary, WFOE, to obtain approval to send monies out of the PRC. The PRC's national currency, the Yuan or Renminbi, is not a freely convertible currency.
Penny Stock Regulations
Our securities are subject to the SEC's “penny stock” rules. The penny stock rules may affect the ability of owners of our shares to sell them. There may be a limited market for penny stocks due to the regulatory burdens on broker-dealers. The market among dealers may not be active. The mark-ups or commissions charged by the broker-dealers might be greater than any profit an investor may make. Because of large spreads market makers quote, investors may be unable to sell the stock immediately back to the dealer at the same price the dealer sold the stock to the investor.
Our securities are also subject to the SEC’s rule that imposes special sales practice requirements upon broker-dealers that sell such securities to other than established customers or accredited investors. For purposes of the rule, the phrase “accredited investor” means, in general terms, institutions with assets exceeding $5,000,000 or individuals having net worth in excess of $1,000,000 or having an annual income that exceeds $200,000 (or that, combined with a spouse’s income, exceeds $300,000). For transactions covered by the rule, the broker-dealer must make a special suitability determination for the purchaser and receive the purchaser’s written agreement to the transaction prior to the sale. Consequently, the rule may affect the ability of purchasers of our securities to buy or sell in any market.
Recent Sales of Unregistered Securities
In connection with the 1-for-4.07 reverse stock split (the “Reverse Split”) of our common stock effective June 18, 2009, in order to preserve our number of outstanding round-lot shareholders our board of directors authorized the issuance of shares of common stock (in an amount equal to the difference between the number of shares a shareholder was to receive after the Reverse Split and 100) to each shareholder owning at least 100 shares but less than 407 shares of our common stock on June 17, 2009. Accordingly, we issued an aggregate of 28,893 shares of common stock to various shareholders in the fiscal year ended June 30, 2010. These issuances were exempt from registration pursuant to Section 4(2) of the Securities Act.
On June 7, 2010, we issued 200,007 shares of common stock upon the conversion of an outstanding convertible promissory note. This issuance was exempt from registration pursuant to Section 3(9) of the Securities Act.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA.
This item is not applicable to us as we are a smaller reporting company.
ITEM 7.
ITEM 7.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
The following discussion of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and the notes to those financial statements appearing elsewhere in this report.
Certain statements in this report constitute “forward-looking statements”. Such forward-looking statements include statements, which involve risks and uncertainties, regarding, among other things, (a) our projected sales, profitability, and cash flows, (b) our growth strategies, (c) anticipated trends in our industries, (d) our future financing plans, and (e) our anticipated needs for, and use of, working capital. They are generally identifiable by use of the words “may,” “will,” “should,” “anticipate,” “estimate,” “plan,” “potential,” “project,” “continuing,” “ongoing,” “expect,” “believe,” “intend,” or the negative of these words or other variations on these words or comparable terminology. Actual events or results may differ materially from those discussed in forward-looking statements as a result of various factors, including, without limitation, the risks and matters described in this report generally. In light of these risks and uncertainties, there can be no assurance that the forward-looking statements contained in this filing will in fact occur. You should not place undue reliance on these forward-looking statements.
The forward-looking statements speak only as of the date on which they are made, and, except to the extent required by federal securities laws, we undertake no obligation to update any forward-looking statement to reflect events or circumstances after the date on which the statement is made or to reflect the occurrence of unanticipated events. Further, the information about our intentions contained in this report is a statement of our intention as of the date of this report and is based upon, among other things, the existing regulatory environment, industry conditions, market conditions and prices, the economy in general and our assumptions as of such date. We may change our intentions, at any time and without notice, based upon any changes in such factors, in our assumptions or otherwise.
Unless the context indicates otherwise, as used in the following discussion, the words “Company”, “we,” “us,” and “our,” each refer to (i) BEFUT International Co., Ltd. (f/k/a Frezer, Inc.), a corporation incorporated in the State of Nevada; (ii) BEFUT Corporation, a corporation incorporated in the State of Nevada and a wholly owned subsidiary of the Company (“Befut Nevada”); (ii) Hongkong BEFUT Co., Ltd. (“Befut Hongkong”), a wholly-owned subsidiary of Befut Nevada, incorporated under the laws of Hong Kong; (iii) Befut Electric (Dalian) Co., Ltd. (“WFOE”), a corporation incorporated under the laws of the People’s Republic of China (the “PRC”), and a wholly-owned subsidiary of Befut Hongkong; (vi) Dalian Befut Wire and Cable Manufacturing Co., Ltd. (“Dalian Befut”), a corporation incorporated under the laws of the PRC, which is a captive manufacturer of WFOE pursuant to a series of contractual agreements; (vii) Dalian Marine Cable Co., Ltd. (“Befut Marine”), a corporation incorporated under the laws of the PRC, which was 86.6% owned by Dalian Befut as of February 25, 2011; (viii) Dalian Befut Zhong Xing Switch Co., Ltd. (“Befut Zhong Xing”), a corporation incorporated under the laws of the PRC, and that is 73.5% owned by Dalian Befut; and (ix) Dalian Yuansheng Technology Co., Ltd. (“Dalian Yuansheng”), a corporation incorporated under the laws of the PRC, and that is 93.3% owned by Dalian Befut.
Unless the context otherwise requires, all references to (i) “PRC” and “China” are to the People’s Republic of China; (ii) “U.S. dollar,” “$” and “US$” are to United States dollars; and (iii) “RMB”, “Yuan” and Renminbi are to the currency of the PRC or China.
Overview
We believe that we are one of the most competitive manufacturers of specialty cables in northeastern China. For the fiscal year ended June 30, 2011, approximately 43% of our revenues were generated from traditional cable, about 53% of revenues were generated from specialty cable and about 4% of revenues were generated from our switch application business. Our cable products consist of (i) traditional electric power system cable and (ii) an assortment of specialty cable, including marine cable, mining specialty cable, and petrochemical cable. Our switch application business consists mainly of high and low voltage distribution cabinet switches and crane electronic control switches, which products complement our cable product offerings.
OEM Agreements
We conduct substantially all of our operations through, and generate substantially all of our revenues from Dalian Befut, pursuant to an Original Equipment Manufacturer Agreement, dated February 16, 2009 (the "Manufacturing Agreement") with Dalian Befut, pursuant to which (i) Dalian Befut is the exclusive manufacturer of cable and wire products for WFOE, and may not manufacture products for any other third party without the written consent of WFOE; (ii) WFOE provides all the raw materials and advance related costs to Dalian Befut, as well as provides the design requirements of the products to be manufactured; and (iii) in no event may Dalian Befut use the arrangements under the Manufacturing Agreement for commercial or noncommercial marketing or promotional activities in any form. In addition, on February 16, 2009, WFOE and Dalian Befut entered into (i) an Intellectual Property Rights License Agreement, pursuant to which WFOE shall be permitted to use the intellectual property rights such as trademark, patents and knowhow for the marketing and sale of the products (the “IP Agreement”); and (ii) a Non-competition Agreement, pursuant to which Dalian Befut shall not compete against WFOE (the “Non compete Agreement”, together with the IP Agreement and Manufacturing Agreement, collectively, the “OEM Agreements”). We have no direct ownership interest in Dalian Befut nor do we have voting control of any shares of Dalian Befut. As a result, these OEM Agreements may not be as effective in providing us with control over Dalian Befut as direct ownership of Dalian Befut would be. For example, Dalian Befut may breach the OEM Agreements by deciding not to manufacture products for WFOE, and consequently the Company. In the event of any such breach, we would have to rely on legal remedies under PRC law, which may not always be available or effective to enforce our rights, particularly in light of uncertainties in the PRC legal system. To mitigate such a risk, WFOE has the exclusive right under the OEM Agreements, exercisable in its sole discretion, to purchase all or part of the assets and/or equity of Dalian Befut.
All cash flows generated under the OEM Agreements are maintained in the custody of Dalian Befut instead of in the custody of the Company. There are no prohibitions under applicable PRC law on the transfer of cash from Dalian Befut to WFOE. Accordingly, except for the relevant PRC laws, regulations and government policies on capital outflow, no risks exist as to the movement of cash balances from the Company’s PRC operating subsidiaries or Dalian Befut up to the Company. Transfer of cash may be made from Dalian Befut to WFOE and up to the Company, when necessary to meet the Company’s cash requirements, including, for example, to satisfy any debt obligations or make cash dividends. Such transfers must be made in compliance with applicable PRC laws regarding, among other things, currency controls, tax and payment of dividends.
Recent Developments
On February 25, 2011, Dalian Befut sold its entire 86.6% equity interest in Befut Marine, a company engaged in the marketing and production of marine cables for Dalian Befut, to Mr. Fansheng Li, a noncontrolling shareholder of Befut Marine, for RMB 17,320,000 (approximately $2.68 million) in cash. As part of the transaction, the applicable certifications required for producing marine cables that were held by Befut Marine were transferred to WFOE. Dalian Befut, as the captive manufacturer for WFOE, will manufacture marine cable for the Company in accordance with the Manufacturing Agreement. As a result, the Company has determined that Dalian Befut’s sale of its entire equity interest in Befut Marine does not have any material adverse effect on the Company’s operation, business and financial position.
In April, 2011, we started construction on Phase II of our new production facilities on Changxing Island (the “Phase II Changxing Facility”). We estimate that the Phase II Changxing Facility will have a maximum annual production capacity of 6,667 km. At June 30, 2011, we believe we have the customer base and technological, manufacturing and research and development capabilities to take advantage of the growing cable and wire market to produce high levels of sales and profits over the next few years.
Results of Operations
Fiscal year ended June 30, 2011 compared to the fiscal year ended June 30, 2010
Sales
Our sales for the fiscal year ended June 30, 2011 were $55,597,912, representing an increase of $24,339,250, or 78%, as compared to the fiscal year ended June 30, 2010. Approximately 46% of the total increased sales was attributable to increased sales of our traditional cable products, 48% was attributable to increased sales of our specialty cable products and 6% was attributable to increased sales of our switch appliance business.
The increase in sales was primarily due to two factors: (i) an approximately 38% increase in our total sales volume driven by the increased demand for petrochemical and mining cable, and (ii) higher sales prices of our cable products and switch appliances, which were primarily the result of an approximately 10% increase in the average price of copper, our primary raw material, which we passed on to our customers. Copper constitutes approximately 70%-80% of the raw material components in our cable products.
The percentage of total sales that was attributable to sales of specialty cable, traditional cable and switch appliances for the fiscal year ended June 30, 2011 was approximately 53%, 43% and 4%, representing a decrease of about 3%, an increase about 2% and an increase about 2%, respectively, as compared to the fiscal year ended June 30, 2010. Fluctuations in product percentages are mainly due to the changes in the product requirements of our customers.
Cost of Sales
Cost of sales includes the expenses incurred to produce inventory for sale, including raw materials, direct labor, depreciation of manufacturing facilities and machinery, overheads, amortization of land use right as well as changes in reserves for shrinkage and inventory obsolescence. Our cost of sales for the year ended June 30, 2011 was $40,680,706, an increase of $17,723,998, or 77%, as compared to the fiscal year ended June 30, 2010.
Gross Profit
Gross profit for the fiscal year ended June 30, 2011 was $14,917,206, representing an increase of $6,615,252, or 80%, as compared to the fiscal year ended June 30, 2010. Gross profit margin was 26.83% for the fiscal year ended June 30, 2011, representing an increase of 1.02%, as compared to fiscal year ended June 30, 2010. The increase of gross profit margin was primarily due to the increase margin of our petrochemical cable, which have a significantly increase of 7%, as compared to the same period in 2010. The gross profit margin of each category of our products for the fiscal year ended June 30, 2011 was approximately 36% for specialty cable, 17% for traditional cable and 9% for switch appliances as compared to gross profit margins of approximately 34% for specialty cable, 17% for traditional cable and 10% for switch appliances for fiscal year ended June 30, 2010.
Selling, General and Administrative Expenses
Our selling, general and administrative expenses consist primarily of salaries and bonuses for sales personnel, advertising and promotion expenses, freight charges, related compensation and professional fees, and amortization expenses. Selling expenses were $439,750 in the fiscal year ended June 30, 2011, as compared to $80,090 in the fiscal year ended June 30, 2010, representing an increase of $359,660, or 449%. The increase in selling expenses was mainly due to the increase in transportation expenses, entertainment expenses and travel expenses. General and administrative expenses were $5,481,562 for the fiscal year ended June 30, 2011, an increase of $1,599,907, or 41%, as compared to the fiscal year ended June 30, 2010. The increase of approximately $623,123 of general and administrative expenses from WFOE was mainly due to the manufacturing overhead recorded as general and administrative expense instead of cost of sales since WFOE did not generate any sales for the last six months of fiscal 2011. The increase of approximately $476,384 of general and administrative expenses from Dalian Yuansheng was due to the increased inspection and R&D expenses related to our carbon fiber products.
Income from Operations
Our operating income was $8,995,894 for the fiscal year ended June 30, 2011, an increase of $4,655,685, or 107%, as compared to $4,340,209 for the fiscal year ended June 30, 2010. This increase was a direct result of a significant increase in the gross profit of specialty cables, our leading product.
Government Subsidy
In the fiscal year ended June 30, 2011, we received subsidies from various PRC governmental bureaus in the aggregate amount of $2,076,750, representing an increase of $1,371,148, or 194%, as compared to subsidies of $705,602 received in the fiscal year ended June 30, 2010. The increase of approximately $1,698,686 in government subsidies was due to the tax extension the Company received from the local tax bureau on May 20, 2011 and the Company’s recording of the accrued income tax for calendar years 2009 and 2010 into government subsidy income. The decrease in the amount of subsidies we received for our “Sanyuan” trademark as a “famous trademark” and marine cable business partially offset the increase in government subsidies received in fiscal 2011.
Interest Expenses
Interest expense was $2,028,033 for the fiscal year ended June 30, 2011, an increase of $1,630,333, or 410%, as compared to $397,700 for the fiscal year ended June 30, 2010. The increase of the interest expense was mainly due to a 7 year long-term bank loan in the amount of $14.8 million we obtained from the PRC National Development Bank Joint Equity Corporation at the end of 2009 and the significant increase of average short-term bank loans for the fiscal year ended June 30, 2011, as compared to the fiscal year ended June 30, 2010. Meanwhile, the interest expense was recorded for the fiscal year ended June 30, 2011, but capitalized for the same period in 2010.
Income Taxes
In the fiscal year ended June 30, 2011, our business operations were conducted solely by WFOE, Dalian Befut and its subsidiaries, and as such, we were governed by the PRC Enterprise Income Tax Laws (the “EIT Law”). China enterprise income tax is calculated based on taxable income determined under Chinese generally accepted accounting principles. In accordance with the EIT Law, a Chinese domestic company is subject to taxes, including but not limited to: (i) an enterprise income tax rate of 25% and (ii) a value added tax of 17% on the goods sold.
Provision for income taxes was $672,337 for the fiscal year ended June 30, 2011, a decrease of $234,746, or 26%, compared to $907,083 for the fiscal year ended June 30, 2010.
Net Income
Net income for the fiscal year ended June 30, 2011 was $9,602,026, an increase of $5,089,850, or 113%, as compared to net income of $4,512,176 for the fiscal year ended June 30, 2010. The increase was mainly attributable to the increase of $4,655,685 in income from operations, the increase of $1,371,148 in government subsidy income and the increase of $267,359 in income from discontinued operations, which was partially offset by an increase in interest expense of $1,630,333.
Outlook
Our management team believes that we will experience annual sales growth of over 30% in our fiscal year ending June 30, 2012. Our growth projections for fiscal 2012 and beyond are based on several factors, including the following:
·
We have invested $5.5 million to purchase approximately150,000 square meters of land (including the land reserved for the construction of the Phase II Changxing Facility) and $14.5 million on the construction of the Phase I Changxing Facility, which has increased our annual production capacity from 800 km to 2,400 km, and is expected to reach an maximum annual production capacity of 4,000 km by June 2013.
·
We commenced construction of the Phase II Changxing Facility in April, 2011. We will invest approximately $27 million on the construction of the Phase II Changxing Facility, which is slated for completion by December 31, 2012 and will eventually have a maximum annual production capacity of 6,667 km.
·
We had 30 large customers in fiscal 2011, each with specialty cable purchase orders totaling least $7 million per year, as compared to 23 large customers in fiscal 2010. In addition, we have relationships with at least 30 potential customers that also qualify as “large” customers. Based on discussions and sales orders with our new and existing large customers, we believe we can achieve approximately $74 million in sales for fiscal 2012. We expect our increased production capacity, industry reputation and the increased demand in wire and cable market to contribute to higher sales for us in 2012.
·
At June 30, 2011, our working capital was approximately $11.59 million, which we believe to be sufficient to meet the financing needs of our recent developments. In 2009, we secured a $14.7million long-term loan from China Development Bank Corporation, primarily to finance the construction of our new production facilities on Changxing Island. To support the high level of growth we expect in fiscal 2012, we intend to consummate a debt and/or equity financing, if we can obtain terms acceptable to us.
·
We will continue to consider strategic acquisitions of, or investments in, companies that complement our growth strategies and can expand our product offerings. On July 23, 2010, Dalian Befut acquired its subsidiary, Dalian Yuansheng, which is expected to provide Dalian Befut with the conductive carbon fiber raw materials necessary for the production of carbon fiber composite cable products. The use of carbon fiber raw materials is strongly supported by the PRC government’s 12th Five-Year Plan. . On May 25, 2011, Dalian Befut was selected as an anchor tenant in the Puwan New Area development zone, where it will build a new facility to develop carbon fiber composite materials.
Liquidity and Capital Resources
Selected Measures of Liquidity and Capital Resources
The following table sets forth certain relevant measures regarding our liquidity and capital resources:
We have historically financed our operations and capital expenditures through cash flows from operations and bank loans.
Our approximately $6.98 million increase in working capital from June 30, 2010 to June 30, 2011 was primarily due to the increase of $22.38 million of current assets, which was partially offset by the increase of $15.4 million of current liabilities. The increase of current assets mainly includes the increase of $3.79 million of cash and cash equivalents and restricted cash, the increase of $8.87 million of account receivables, the increase of $3.44 million of loans to unrelated parties, and the increase of $2.1 million of inventory. The increase of current liabilities mainly includes the increase of $5.55 million of short term bank loans, the increase of $3 million of loans from unrelated parties, the increase of $2.74 million of advance from customers and the increase of $3.09 million of trade notes payable.
We intend to use our available funds as working capital and to expand and develop our current business operations. We believe that our available funds will provide us with sufficient capital for at least the next twelve months; however, to the extent we expand our operations or make acquisitions, we may require additional funding, which may include debt and/or equity financing. There can be no assurance that any additional financing will be available on terms acceptable to us, if at all. Any equity financing may result in dilution to existing stockholders and any debt financing may include restrictive covenants.
Cash Flows
We had a net increase of $1,404,973 in cash and cash equivalents from June 30, 2010 to June 30, 2011. The following table summarizes such changes:
Operating Activities
We used net cash of $47,861 for our operating activities in the fiscal year ended June 30, 2011, representing a decrease of $7,616,231, or 159%, as compared to net cash of $7,568,370 provided in the fiscal year ended June 30, 2010. Although the net income for the fiscal year ended June 30, 2011 was $9,602,026, representing a significant increase of $5,089,850, or 113%, as compared to net income of $4,512,176 for the fiscal year ended June 30, 2010, we still used net cash of $47,861 for our operating activities. The negative operating cash flow was primarily due to the increase of accounts receivable and inventory that we incurred as a result of significantly higher sales, as described earlier. The increase of approximately $1.9 million of inventory was mainly due to the increase of raw materials and finished goods in our expanded manufacturing operations. The increase of approximately $1.7 million in exempted income taxes was due to the tax exemption we received from the local tax bureau on May 20, 2011.
Investing Activities
The net cash used in our investment activities in the fiscal year ended June 30, 2011 was $5,915,290, representing a decrease of $7,938,173, or 57%, as compared to $13,853,463 of net cash used in investment activities in the fiscal year ended June 30, 2010. The decrease was mainly due to, among other things, less cash used to pay property and equipment expenses, and cash in the amount of approximately $2.47 million received from the sale of Dalian Befut’s entire equity interest in Befut Marine, which was partially offset by cash outflows, such as loans for approximately $3.3 million made to unrelated parties, including Dalian Haide Electric Power Equipment Co., Ltd., one of our research and development partners, to fund their working capital requirements. As of June 30, 2011, we had $4,495,767 in outstanding in loans to unrelated parties, as described in Note 6 to our consolidated financial statements.
Financing Activities
The net cash provided by our financing activities in the fiscal year ended June 30, 2011 was $7,270,485, representing a decrease of $101,882, or 1.4%, as compared to $7,372,367 of net cash provided in the fiscal year ended June 30, 2010. The increase was mainly due to approximately $4.55 million less in long and short term bank loans and approximately $2.84 million more in borrowings from unrelated parties in the fiscal year ended June 30, 2011, as compared in the fiscal year ended June 30, 2010. Approximately $11.3 million in cash provided by financing activities was primarily from additional short term bank loans obtained during the period.
Financial Obligations
As of June 30, 2011, our outstanding loans were as follows:
* Variable interest rate equal to 30% per annum above the floating base rate issued by the People’s Bank of China.
^ Variable interest rate equal to 10% per annum above the floating base rate issued by the People’s Bank of China.
+ Variable interest rate equal to 50% per annum above the floating base rate issued by the People’s Bank of China.
# Variable interest rate equal to 5% per annum above the floating base rate issued by the People’s Bank of China.
Accounts Receivable
The balance of our accounts receivable was $18,166,580, net of allowance for doubtful accounts of $87,480, as of June 30, 2011, as compared to $9,292,310, net of allowance for doubtful accounts of $83,295, as of June 30, 2010. The days’ sales in receivables for the fiscal year ended June 30, 2011 were 89 days, compared to 103 days for the fiscal year ended June 30, 2010.
Inventories
Inventories consisted of the following as of June 30, 2011 and June 30, 2010, respectively:
We had total inventory of $4,607,431 as of June 30, 2011, representing an increase of $2,063,642, or 81.1%, as compared to inventory of $2,543,789 as of June 30, 2010. Days’ sales in inventory for the fiscal year ended June 30, 2011 were 32 days, compared to 40 days for the fiscal year ended June 30, 2010.
Off-Balance Sheet Arrangements
At June 30, 2011, we did not have any off-balance sheet arrangements.
Foreign Currency Exchange
For the fiscal year ended June 30, 2011, the U.S. Dollar and RMB exchange rate fluctuated from RMB 6.7909 to 1 U.S. Dollar to RMB 6.4716 to 1 U.S. Dollar, an increase of approximately 5% in the value of the RMB. As a result of the minimum appreciation of the RMB during this period, the Company believes that currency fluctuations have not had a material impact on the Company’s cash flows, revenues and financial condition.
Critical Accounting Policies and Use of Estimates
Management's discussion and analysis of its financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with United States generally accepted accounting principles (“US GAAP”). Our financial statements reflect the selection and application of accounting policies which require management to make significant estimates and judgments. See Note 2 to our consolidated financial statements, “Summary of Significant Accounting Policies.” We believe that the following paragraphs reflect the more critical accounting policies that currently affect our financial condition and results of operations:
Use of Estimates and Assumption
The preparation of consolidated financial statements in accordance with US GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Significant estimates include allowance for doubtful accounts and income taxes. Actual results could differ from those estimates.
Revenue Recognition
The Company derives its revenues primarily from the design, manufacture and sale of industrial wires and cables in the PRC. In accordance with the provisions of ASC Topic 605, revenue is recognized when products are shipped, title and risk of loss is passed to the customers and collection is reasonably assured. Payments received before the above criteria are satisfied are recorded as advance from customers.
Cash and Cash Equivalents
In accordance with FASB ASC Topic 230, "Statement of Cash Flows", the Company considers all highly liquid instruments with original maturities of three months or less to be cash equivalents.
Accounts Receivable
Accounts receivable are recorded net of allowance for doubtful accounts. The Company provides an allowance for doubtful accounts equal to the estimated uncollectible amounts. Periodically, management assesses customer credit history and relationships as well as performs accounts receivable aging analysis. Based on the results, management determines whether certain balances are deemed uncollectible at the end of period. Using its past collection experience, the Company reserves 0.3% of accounts receivable balances that have been outstanding for less than one year, 3% of accounts receivable balances that have been outstanding for more than one year but less than two years, and 10% of accounts receivable balances that have been outstanding for more than two years. The Company generally provides customers with credit terms of three to four months. However, we provide our “large” customers, those with average annual specialty cable orders of over $7 million, with credit terms of five to six months. We generally do not conduct further business with customers that have significant unpaid accounts receivable balances beyond 12 months, unless we receive advance payments from such customers. As of June 30, 2011, the amount of our receivables ages less than one year, 1-2 years and more than two years was $18,150,807, $76,421 and $26,832, respectively.
As of June 30, 2011 and 2010, the Company had accounts receivable of $18,166,580 and $9,292,310, net of allowance for doubtful accounts of $87,480 and $83,295, respectively.
Consolidation
Pursuant to ASC 810-10-15-14, an entity is deemed to be a variable interest entity, or VIE, and thus to be consolidated by its primary beneficiary, if, by intention, any one of the following conditions is present:
A.
The total equity investment at risk in the legal entity to be consolidated is insufficient to permit the entity to finance its activities without additional subordinated financial support from other parties, including equity holders; or
B.
As a group, holders of the equity investment at risk lack any one of the following characteristics of a controlling financial interest:
1. The power, through voting rights or similar rights to direct the activities of an entity that most significantly impact that entity’s economic performance.
2. The obligation to absorb the expected losses of the legal entity. Such an obligation does not exist if the shareholders/investors are directly or indirectly protected from losses or are guaranteed a return on their investment by the legal entity itself or by other parties involved with the legal entity.
3. The right to receive expected residual returns of the legal entity. Such right is not considered to be present if the residual returns are capped by the legal entity's governing documents or by other arrangements with other variable interest holders or the legal entity itself.
Under the OEM Agreements, Dalian Befut can only manufacture products for WFOE and cannot compete with WFOE in the same or similar lines of business. Dalian Befut is a captive manufacturer with the sole business purpose of providing manufacturing services to WFOE and is solely dependent on the business provided by WFOE, its primary beneficiary. As WFOE controls all of the potential and future risks and benefits of Dalian Befut, WFOE has the power to significantly impact the economic performance of Dalian Befut. Furthermore, while Messrs. Hongbo Cao and Tingmin Li are the two controlling shareholders of Dalian Befut, collectively owning an aggregate of 98.6% of the equity interests in Dalian Befut, the Company believes that, due to the OEM Agreements, WFOE, instead of Messrs. Cao and Li, has the power to direct the activities of Dalian Befut to significantly impact the economic performance of Dalian Befut. Based on the aforementioned assessment, Dalian Befut is a VIE of the Company under ASC 810-10-15-14-B.1. above, and as such, is consolidated into the Company. Although the Company is only required to meet one criteria under ASC 810-10-15-14 in order to consolidate Dalian Befut, the Company believes that facts and circumstances exist that would allow it to meet certain other qualifying criteria set forth in ASC 810-10-15-14.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
This item is not applicable to us as we are a smaller reporting company.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Balance sheets, as of June 30, 2011 and 2010, and statements of operations, stockholders’ equity and cash flows for each of the two years in the period ended June 30, 2011 and 2010, together with the related notes and the report of independent registered public accounting firms, are set forth on the “F” pages of this report.
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
As required by Rule 13a-15 under the Exchange Act, our management, including our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures as of June 30, 2011.
Disclosure controls and procedures refer to controls and other procedures designed to ensure that information required to be disclosed in the reports we file or submit under the Securities Exchange Act is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the SEC and that such information 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. In designing and evaluating our disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating and implementing possible controls and procedures.
In connection with the preparation of our responses to comments received from the SEC, we identified certain reporting errors and omissions in our previously issued financial statements. We subsequently determined that a restatement was required for our consolidated financial statements for the years ended June 30, 2010 and 2009, and for the quarters ended September 30, 2010, December 31, 2010 and March 31, 2011 respectively. As a result of the foregoing, management determined that a material weakness existed with respect to our financial reporting. This weakness was a result of our insufficient disclosure of certain required information by inexperienced staff, which required the restatement of our consolidated financial statements as of and for the years ended June 30, 2010 and 2009, and for the quarters ended September 30, 2010, December 31, 2010 and March 31, 2011 respectively.
As a result of the material weakness identified with respect to our financial reporting, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures were not effective as of June 30, 2011. As of the date of this report, we are undertaking steps to correct the aforementioned material weakness by:
•
Establishing policies and procedures of transaction level and type to improve our internal control environment;
•
Implementing a financial closing process check list including major book closure steps to perform consolidation and reviews; and
•
Recruiting qualified accounting professionals with sufficient US GAAP knowledge to enhance the quality of our financial reporting preparation.
Management Report on Internal Control Over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting to provide reasonable assurance regarding the reliability of our financial reporting and the preparation of financial statement for external purposes in accordance with U.S. GAAP. Internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of our assets; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with U.S. GAAP, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of our assets that could have a material effect on the financial statements.
Any system of internal control, no matter how well designed, has inherent limitations, including the possibility that a control can be circumvented or overridden and misstatements due to error or fraud may occur and not be detected in a timely manner. Also, because of changes in conditions, internal control effectiveness may vary over time. Accordingly, even an effective system of internal control will provide only reasonable assurance with respect to financial statement preparation. In addition, the design of any system of controls is based in part on certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Over time, controls may become inadequate because of changes in conditions or deterioration in the degree of compliance with policies or procedures. Therefore, any current evaluation of controls can not and should not be projected to future periods.
Management assessed our internal control over financial reporting as of June 30, 2011, the end of our fiscal year of 2011. In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in “Internal Control Integrated Framework.” The COSO framework summarizes each of the components of a company’s internal control system, including (i) the control environment, (ii) risk assessment, (iii) control activities, (iv) information and communication, and (v) monitoring.
Based on this COSO framework, we originally concluded, as set forth in our Annual Report on Form 10-K for the year ended June 30, 2010, that our internal control over financial reporting was effective as of June 30, 2010. However, due to our ongoing efforts to remediate the material weaknesses that required the restatement of our consolidated financial statements for the years ended June 30, 2010 and 2009, and the quarters ended September 30, 2010, December 31, 2010 and March 31, 2011, we have assessed, again under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, determined that there existed a material weakness in our internal controls over financial reporting as of June 30, 2011. Management has determined that the design and operation of internal control over financial reporting that we had in place during fiscal 2011 was not effective to allow our management, employees and consultants, in the normal course of performing their assigned functions, to prevent or detect misstatements on a timely and reasonable basis. That material weakness continues to be due to our short staffing of accounting professionals with sufficient knowledge of US GAAP and relevant disclosure requirements.
Based on management's assessment using the COSO criteria, management has concluded that our internal control over financial reporting was not effective as of June 30, 2011 to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external reporting purposes in accordance with U.S. GAAP.
Changes in Internal Control
Since becoming aware of the material weakness described above after the quarter ended March 31, 2011, we have undertaken the aforementioned steps to remediate the weakness in our internal controls over financial reporting. Except for such efforts, there was no change in our internal control over financial reporting that occurred during the quarter ended June 30, 2011 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
Auditor Attestation
This annual report does not include an attestation report of our registered public accounting firm regarding internal control over financial reporting. Management's report was not subject to attestation by our registered public accounting firm pursuant to rules of the SEC that permit us to provide only management's report in this annual report.
ITEM 9B.
ITEM 9B. OTHER INFORMATION
None.
PART III
ITEM 10.
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE.
General
Listed below are the names and ages of the Company’s directors and executive officers for the fiscal year ended June 30, 2011 along with their positions, offices and term:
Name
Age
Title
Director or Officer Since
Hongbo Cao
Chairman of the Board, Chief Executive Officer and President
March 13, 2009
Mei Yu
Director, Chief Financial and Accounting Officer and Treasurer
March 13, 2009
Haiyang Lu
Secretary
March 13, 2009
Yining Xia
Former Director
March 13, 2009 - September 23, 2010
All of our directors hold offices until his or her earlier resignation, removal from office, death or incapacity or other circumstances when their successors are duly elected. Officers serve at the discretion of the board of directors.
The following sets forth biographical information regarding the above directors and executive officers.
Mr. Hongbo Cao, Chairman of the Board, Chief Executive Officer and President. Mr. Cao has served as Chairman of Dalian Befut, our captive manufacturer, since December 2006. Prior to that, he also served as the CEO of Dalian Befut since June 2002, and therefore has significant experience in the cable and wire industry in China. He was formerly the CEO of Dalian Xincheng Power Equipment Co., Ltd. from 1985 to 2002. Mr. Cao is also a director of Befut Nevada, our direct intermediary subsidiary. Mr. Cao is a licensed senior economist in China. He received a Master’s Degree in Political Economics from Liaoning Normal University in China in 2000 and a Bachelor’s Degree in Law from Dongbei University of Finance and Economics in China in 1998. We believe Mr. Cao’s industry, commercial, financial, management and legal experience qualifies him to serve as our Chairman.
Ms. Mei Yu, Director, Chief Financial Officer and Treasurer. Ms. Yu has served as Director of Finance of Dalian Befut, our captive manufacturer, since 1997. Ms.Yu is a graduate of Dongbei University of Finance and Economics in Financial Management in 1991. She has over 17 years of experience in accounting and finance in China and has been familiar with Dalian Befut’s financial condition.
Mr. Haiyang Lu, Secretary. Mr. Lu has been the head of the Strategic Development Department of Dalian Befut and a CEO Assistant of Dalian Befut from 2006. Prior to that, he was Manager of Planning for Dalian Yuandian Advertisement Co., Ltd. in 2003 and Manager of Business Planning for Dalian Tianwei Medicine Co., Ltd. from 2004 to 2006. Mr. Lu received a Bachelor’s Degree in Marketing and Sales from Bohai University in China.
Mr. Yining Xia, Former Director. Mr. Xia resigned as a member of our board of directors on September 23, 2010. Mr. Xia previously served as Director (from 2001 to 2007) and Associate Director (from 2000 to 2001) of TIAA-CREF, one of the largest financial services companies in the United States. Prior to that, he served as Assistant Vice President of Citi Group from 1999 to 2000. Mr. Xia is currently President of Allport America, Inc., a consulting firm he founded. Mr. Xia is also a director of Befut Nevada, the Company’s direct intermediary subsidiary. Mr. Xia obtained a PhD in Mathematics from the Ohio State University in 1990 and a Master’s Degree in Mathematics from Jilin University in China in 1986.
Listed below are the names and ages of Dalian Befut’s directors and executive officers for the fiscal year ended June 30, 2011 along with their positions, offices and terms:
Name
Age
Title
Director or Officer Since
Hongbo Cao
Chairman of the Board, Chief Executive Officer and President
March 13, 2009
Mei Yu
Director, Chief Financial and Accounting Officer and Treasurer
March 13, 2009
Haiyang Lu
Director of the Strategic Development Department, CEO Assistant and Director of Human Resource Department
March 13, 2009
Ling Yan
Financial Controller
October 1, 2010
Ms. Ling Yan, Financial controller. Ms. Yan has served as Financial Controller of Dalian Befut, our captive manufacturer, since October 1, 2010. Prior to that, she was senior auditor of Ernst & Young from 2005 to 2010. Ms. Yan received a Bachelor’s Degree in Accounting from Dongbei University of Finance and Economics in China.
Family Relationships
There are no family relationships among our directors or executive officers.
Director or Officer Involvement in Certain Legal Proceedings
To our knowledge, our directors and executive officers were not involved in any legal proceedings as described in Item 401(f) of Regulation S-K in the past ten years.
Section 16(a) Beneficial Ownership Reporting Compliance
Section 16(a) of the Securities Exchange Act of 1934, as amended, requires the Company’s directors, executive officers and persons who own more than 10% of the Company’s Common Stock to file reports of ownership and changes in ownership on Forms 3, 4 and 5 with the SEC. Directors, executive officers and greater than 10% stockholders are required by SEC rules to furnish the Company with copies of Section 16(a) forms they file. Based upon a review of the filings made on their behalf during the fiscal year ended June 30, 2011, as well as an examination of the SEC’s EDGAR system Form 3, 4, and 5 filings and the Company’s records, the following table sets forth exceptions to timely filings:
Name
Reporting Event
Hongbo Cao
Form 4 reporting the transfer of certain shares of common stock of the Company on November 4, 2010. Such Form 4 was filed with the SEC on September 26, 2011.
Befut BVI
Form 4 reporting the transfer of certain shares of common stock of the Company on November 4, 2010. Such Form 4 was filed with the SEC on September 26, 2011.
Tingmin Li
Form 4 reporting the transfer of certain shares of common stock of the Company on November 4, 2010. Such Form 4 was filed with the SEC on September 26, 2011.
Mei Yu
Form 4 reporting the receipt of certain shares of common stock of the Company on November 4, 2010. Such Form 4 was filed with the SEC on September 26, 2011.
Code of Ethics
We have adopted a code of ethics that applies to our officers, directors and employees, including our Chief Executive Officer and Chief Financial Officer and other senior executives. A copy of the Code of Ethics is filed as exhibit 14.1 to this report.
Audit Committee
We have not yet appointed an audit committee. Our board of directors currently acts as our audit committee. At the present time, we believe that the members of our board of directors are collectively capable of analyzing and evaluating our financial statements and understanding internal controls and procedures for financial reporting.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
We strive to provide our named executive officers (as defined in Item 402 of Regulation S-K) with a competitive base salary that is in line with their roles and responsibilities when compared to peer companies of comparable size in similar locations.
It is not uncommon for PRC private companies in northeastern China to have base salaries as the sole form of compensation. The base salary level is established and reviewed based on the level of responsibilities, the experience and tenure of the individual and the current and potential contributions of the individual. The base salary is compared to the list of similar positions within comparable peer companies and consideration is given to the executive’s relative experience in his or her position. Base salaries are reviewed periodically and at the time of promotion or other changes in responsibilities.
We plan to implement a more comprehensive compensation program, which takes into account other elements of compensation, including, without limitation, short and long term compensation, cash and non-cash, and other equity-based compensation such as stock options. We expect that this compensation program will be comparable to the programs of our peer companies and aimed to retain and attract talented individuals.
Summary of Executive Compensation
The following is a summary of the compensation paid for the fiscal years indicated to our chief executive officer during the fiscal years ended June 30, 2011 and 2010, respectively.
Narrative Disclosure to Summary Compensation Table
As of June 30, 2011, we had not entered into any employment agreements with our named executive officers.
Outstanding Equity Awards At Fiscal Year-End
As of June 30, 2011, there were no outstanding equity awards to any of our named executive officers or directors.
Compensation of Directors
As of the date of this report, we have no formal or informal arrangements or agreements to compensate our directors for services they provide as directors.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENTAND RELATED STOCKHOLDERS MATTERS
The following table sets forth as of September 19, 2011, the number of shares of our common stock beneficially owned by (i) each person who is known by us to be the beneficial owner of more than five percent of our outstanding common stock, (ii) each director, (iii) each executive officer and (iv) all directors and executive officers as a group. Unless otherwise indicated, the stockholders listed in the table have sole voting and investment power with respect to the shares indicated.
(1)
The address of each of the beneficial owner is c/o Dalian Befut Wire & Cable Manufacturing Co., Ltd., 27th Floor, Liangjiu International Tower, 5 Heyi Street, Dalian City, 116011, P. R. China.
(2)
When calculating the percentage of shares for all the persons listed and all directors and officers as a group, the denominator is the number of shares of our common stock outstanding as of September 19, 2011, namely, 29,715,640 shares of common stock.
(3)
BEFUT International Co. Limited (“Befut BVI”) directly owns 13,934,072 shares of our common stock. Mr. Hongbo Cao, as the sole director of Befut BVI, has sole voting and investment control over the shares of common stock owned by Befut BVI.
(4)
Mr. Hongbo Cao, as the sole director of Befut BVI, has sole voting and investment control over the shares of common stock owned by Befut BVI and, as a result, may be deemed to be the beneficial owner of the 13,934,072 shares of our common stock owned by Befut BVI. In addition, Mr. Hongbo Cao is the beneficial owner of 6,180,740 shares of our common stock pursuant to the Stockholders Agreement entered into by and among the stockholders of Befut BVI (the “Befut BVI Stockholders Agreement”) which provides that, upon request by any stockholder, Befut BVI is required to distribute to such stockholder their pro rata amount of our common stock owned by Befut BVI. Mr. Cao, as a 44.4% equity holder of Befut BVI, has the right to receive 6,180,740 shares of our common stock from Befut BVI.
(5)
Mr. Tingmin Li, as a 44.4% equity holder of Befut BVI, has the right to receive 6,180,740 shares of our common stock from Befut BVI upon request pursuant to the Befut BVI Stockholders Agreement.
Securities Authorized for Issuance Under Equity Compensation Plans
None.
Changes in Control
Not Applicable.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE.
Dalian Befut made several loans to Dalian Yuansheng which is 93.3% owned by Dalian Befut during the fiscal years ended June 30, 2010 and 2011. These loans are based on good-faith, non-interest bearing and payable on demand. The balance outstanding as of June 30, 2010 and 2011 was $472,838 and $281,514, respectively. The amount of $472,838 was paid in full during the fiscal year 2011 through several payments. The amount of $281,514 was eliminated in consolidated balance sheet for the fiscal year 2011.
Other than the above transactions or as otherwise set forth in this report or in any reports filed by the Company with the SEC, there have been no related party transactions, or any other transactions or relationships required to be disclosed pursuant to Item 404 of Regulation S-K. The Company is currently not a subsidiary of any company.
Our Board conducts an appropriate review of and oversees all related party transactions on a continuing basis and reviews potential conflict of interest situations where appropriate. The Board has not adopted formal standards to apply when it reviews, approves or ratifies any related party transaction. However, the Board believes that the related party transactions are fair and reasonable to the Company.
Independence of the Board of Directors
We have no independent directors as that term is defined by Rule 5605(a)(2) of the NASDAQ Listing Rules.
ITEM 14.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
We paid or accrued the following fees in each of the prior two fiscal years to our principal accountants:
PATRIZIO & ZHAO, LLC
In the event that we should require substantial non-audit services, the Board of Directors would approve such services and the fees therefore.
PART IV
ITEM 15.
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a)
The following documents are filed as part of this report:
Financial Statements
The following financial statements of BEFUT International Co., Ltd. and Report of Independent Registered Public Accounting Firms are presented in the “F” pages of this report:
(b)
Exhibits
See the Exhibit Index following the signature page of this report, which Index is incorporated herein by reference.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
September 27, 2011
/s/ Hongbo Cao
Hongbo Cao, Chairman of the Board of Directors
President and CEO
(principal executive officer)
September 27, 2011
/s/ Mei Yu
Mei Yu, Director, Chief Financial Officer and Treasurer
(principal financial officer and principal
accounting officer)
BEFUT International Co., Ltd.
Exhibit Index to Annual Report on Form 10-K
For the Fiscal Year Ended June 30, 2011
3.1
Amended and Restated Articles of Incorporation of the Company. (1)
3.2
Bylaws of the Company. (2)
4.1
Form of Convertible Note issued to the investors in our private placement dated March 13, 2009. (3)
4.2
Form of Warrant issued to the investors in our private placement dated March 13, 2009. (3)
10.1
Share Exchange Agreement, dated March 13, 2009 by and between the Company, Befut Nevada and Befut BVI. (3)
10.2
Securities Purchase Agreement, dated as of March 13, 2009 by and among the Company and the Investors. (3)
10.3
Original Equipment Manufacturer Agreement, dated February 16, 2009 by and between WFOE and Dalian Befut (3)
10.4
Intellectual Property License Agreement, dated February 16, 2009 by and between WFOE and Dalian Befut. (3)
10.5
Non-competition Agreement, dated February 16, 2009 by and between WFOE and Dalian Befut. (3)
10.6
Lease between Dalian Befut and Dalian Wanbao Industrial Co. Ltd. (4)
10.7
RMB Loan Agreement dated November 2, 2009 by and between Dalian Befut and China Development Bank Corporation. (5)
10.8
Pledge Contract dated November 2, 2009 by and between Hongbo Cao and China Development Bank Corporation. (6)
10.9
Pledge Contract dated November 2, 2009 by and between Tingmin Li and China Development Bank Corporation. (6)
10.10
Mortgage Contract dated November 2, 2009 by and between Dalian Befut and China Development Bank Corporation regarding Land Use Right. (6)
10.11
Mortgage Contract dated November 2, 2009 by and between Dalian Befut and China Development Bank Corporation regarding Building Ownership. (6)
10.12
Loan Contract (English translation), dated 12/21/2010, between Dalian Befut and Bank of East Asia (China) Co., Ltd (Dalian Branch).
10.13
Cooperation Agreement (English translation), dated March 18, 2011, among Dalian Befut, Dalian Long Yu Engineering Construction Co., Ltd. and Dalian Marine Equipment Industrial Zone Co., Ltd.
14.1
Code of Ethics.
21.1
List of Subsidiaries.
31.1
Certification of the principal executive officer pursuant to Exchange Act Rules 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2
Certification of the principal financial officer and the principal accounting officer pursuant to Exchange Act Rules 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1
Certification of the principal executive officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2
Certification of the principal financial officer and treasurer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
99.1
Befut BVI Stockholders Agreement, dated March 13, 2009. (7)
(1)
Filed as an exhibit to the Company's Current Report on Form 8-K, as filed with the SEC on June 18, 2009, and incorporated herein by this reference.
(2)
Filed as an exhibit to the Company's Registration Statement on Form 10-SB, as filed with the SEC on June 1, 2005, and incorporated herein by this reference.
(3)
Filed as an exhibit to the Company's Current Report on Form 8-K, as filed with the SEC on March 19, 2009, and incorporated herein by this reference.
(4)
Filed as an exhibit to the Company's Current Report on Form 10-K, as filed with the SEC on October 9, 2009, and incorporated herein by this reference.
(5)
Filed as an exhibit to the Company's Quarterly Report on Form 10-Q, as filed with the SEC on February 12, 2010, and incorporated herein by this reference.
(6)
Filed as an exhibit to the Company’s Annual Report on Form 10-K, as filed with the SEC on September 28, 2010, and incorporated herein by reference.
(7)
Filed as an exhibit to the Company’s Amendment No. 1 to Annual Report on Form 10-K/A, as filed with the SEC on September 19, 2011, and incorporated herein by reference.
BEFUT INTERNATIONAL CO., LTD.
CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2011 AND 2010
BEFUT INTERNATIONAL CO., LTD.
Consolidated Financial Statements
June 30, 2011 and 2010
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders
BEFUT International Co., Ltd.
We have audited the accompanying consolidated balance sheets of BEFUT International Co., Ltd. (the “Company”) as of June 30, 2011 and 2010, and the related consolidated statements of operations, comprehensive income, changes in equity, and cash flows for the years then ended. 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. The Company is not required to have, nor were we engaged to perform an audit of its internal control over financial reporting. Our audit includes consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements, 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 consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of BEFUT International Co., Ltd. as of June 30, 2011 and 2010, and the consolidated results of their operations and their consolidated cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America.
/s/ Patrizio & Zhao, LLC
Parsippany, New Jersey
September 27, 2011
BEFUT INTERNATIONAL CO., LTD.
Consolidated Balance Sheets
The accompanying notes are an integral part of these consolidated financial statements.
BEFUT INTERNATIONAL CO., LTD.
Consolidated Statements of Operations
The accompanying notes are an integral part of these consolidated financial statements.
BEFUT INTERNATIONAL CO., LTD.
Consolidated Statements of Operations (continued)
The accompanying notes are an integral part of these consolidated financial statements.
BEFUT INTERNATIONAL CO., LTD.
Consolidated Statements of Comprehensive Income
The accompanying notes are an integral part of these consolidated financial statements.
BEFUT INTERNATIONAL CO., LTD.
Consolidated Statements of Changes in Equity
The accompanying notes are an integral part of these consolidated financial statements.
BEFUT INTERNATIONAL CO., LTD.
Consolidated Statements of Cash Flows
The accompanying notes are an integral part of these consolidated financial statements.
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 1 - Organization and Nature of Business
BEFUT International Co., Ltd., formerly known as Frezer, Inc. (“Frezer”), a former public shell company as defined in Rule 12b-2 of the Securities Exchange Act of 1934, as amended, was established under the laws of Nevada on May 2, 2005. The accompanying consolidated financial statements include the financial statements of BEFUT International Co., Ltd. and its subsidiaries (collectively, the “Company”). The Company’s primary business is to design, manufacture and sell industrial wires and cables.
On March 13, 2009, Frezer entered into and consummated a series of transactions whereby (a) Frezer acquired 100% of the outstanding shares of common stock of BEFUT Corporation, a company incorporated in the State of Nevada on January 14, 2009 (“Befut Nevada”), constituting all of the capital stock of Befut Nevada, from Befut International Co. Limited, a British Virgin Islands company (“Befut BVI”) in exchange for the issuance to Befut BVI of an aggregate of 117,768,300 shares of Frezer’s common stock and the cancellation of an aggregate of 2,176,170 shares of Frezer’s common stock and (b) Frezer raised $500,000 in gross proceeds from the sale to four investors of convertible promissory notes of Frezer in the aggregate principal amount of $500,000 and warrants to purchase an aggregate of 720,076 shares of Frezer’s common stock. The acquisition was accounted for as a reverse acquisition under the purchase method for business combinations. On June 18, 2009, the Company effectuated a name change from its original name “Frezer, Inc.” to “BEFUT International Co., Ltd.”
Hongkong BEFUT Co., Ltd. (“Befut Hongkong”) was incorporated on September 10, 2008 under the laws of Hong Kong and is a wholly-owned subsidiary of Befut Nevada. On February 13, 2009, Befut Hongkong invested 100% of the registered capital to form Befut Electric (Dalian) Co., Ltd. (“WFOE”), a Chinese company incorporated in the city of Dalian, the People’s Republic of China (the “PRC” or “China”).
On February 16, 2009, WFOE entered into a series of agreements, the purpose of which was to restructure Dalian Befut Wire & Cable Manufacturing Co., Ltd. (“Dalian Befut”) in accordance with applicable PRC law so that Dalian Befut could raise capital and grow its business (the “Restructuring”). Dalian Befut was incorporated on June 13, 2002 under the laws of the PRC. The Restructuring included the following arrangements: First, WFOE entered into an Original Equipment Manufacturer Agreement (the “OEM Agreement”) with Dalian Befut containing the following material provisions: (i) Dalian Befut may not manufacture products for any person or entity other than WFOE without the written consent of WFOE; (ii) WFOE is to provide all raw materials and advance related costs to Dalian Befut, as well as provide design requirements for products to be manufactured; (iii) WFOE is responsible for marketing and distributing the products manufactured by Dalian Befut and will keep all related profits and revenues; and (iv) WFOE has an exclusive right, exercisable in its sole discretion, to purchase all or part of the assets and/or equity of Dalian Befut at a mutually agreed price to the extent permitted by applicable PRC law. In addition, on February 16, 2009, WFOE entered into two ancillary agreements with Dalian Befut: (i) an Intellectual Property License Agreement, pursuant to which WFOE shall be permitted to use intellectual property rights such as trademarks, patents and know-how for the marketing and sale of the products manufactured by Dalian Befut; and (ii) a Non-competition Agreement, pursuant to which Dalian Befut shall not compete against WFOE.
On April 14, 2006, Dalian Marine Cable Co., Ltd. (“Dalian Marine Co.”) was incorporated in the PRC by Dalian Befut. Its current shareholders are Dalian Befut (owning 86.6% of the equity interest) and three individual shareholders. Dalian Marine Co. was formed to conduct marketing activities and produce marine cables for Dalian Befut.
On July 1, 2009, Dalian Befut, our captive manufacturer, formed a joint venture under the laws of the PRC, Dalian Befut Zhong Xing Switch Co., Ltd. (“Befut Zhong Xing”), with pre-registered capital of RMB1,000,000 (approximately $147,000). Dalian Befut invested RMB700,000 (approximately $103,000) for its 70% equity interest in Befut Zhong Xing. In January, 2010, Dalian Befut increased its investment capital to RMB14.7 million (approximately $2 million) with a transfer of intangible assets to Befut Zhong Xing on 1/1/2010 and raised its equity ownership percentage in Befut Zhong Xing to 73.5%.Befut Zhong Xing manufactures switch appliances, including high/low voltage distribution cabinet switches and crane electronic control switches. The noncontrolling interest also increased its equity investment by contributing additional cash of RMB 5,000,000 (approximately $733,350). There were no equity transactions (purchasing or selling the noncontrolling interest) between the Company and the noncontrolling interest shareholders for the year ended June 30, 2011.
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 1 - Organization and Nature of Business (continued)
Dalian Yuansheng was established on June 3, 2009 with a registered capital of RMB 1,000,000 (approximately $146,700). Two individual shareholders, Chengnian Yan and Xianjun Cheng, owned 60% and 40% of Dalian Yuansheng, respectively. On July 23, 2010, Dalian Befut contributed RMB 5,000,000 (approximately $735,294) and purchased the original 60% interest from Chengnian Yan at RMB 600,000 (approximately $88,235). As a result, Dalian Befut became 93.3% owner of Dalian Yuansheng. For the year ended June 30, 2010, the Company consolidated the financial statements of Dalian Yuansheng with intercompany transactions, including investment in Dalian Yuansheng of RMB 5,600,000 (approximately $823,529), eliminated and reported noncontrolling interest per ASC 810-10 as part of the Company’s equity. The purchase of Chengnian Yan’s interest in Dalian Yuansheng at RMB 600,000 (approximately $88,235) was recorded as an equity transaction at cost and no gain or loss was recorded.
On February 25, 2011, Dalian Befut sold its entire 86.6% equity interest in Dalian Marine Co. to Mr. Fansheng Li, a noncontrolling shareholder of Dalian Marine Co., for RMB 17,320,000 (approximately $2.67 million) in cash. As part of the transaction, the applicable certifications required for producing marine cables were transferred to WFOE. As Dalian Befut will continue to manufacture marine cables for the Company, the Company has determined that Dalian Befut’s sale of its equity interests in Dalian Marine Co. did not have any material impact on the Company’s financial position and operations.
Note 2 - Summary of Significant Accounting Policies
Basis Of Presentation
As disclosed in Note 1, WFOE entered into an Original Equipment Manufacturer Agreement, an Intellectual Property License Agreement and a Non-competition Agreement (collectively, the “OEM Agreements”) with Dalian Befut. Under FASB ASC 810-10 (formerly FIN 46R), Dalian Befut is the variable interest entity, or VIE, of WFOE by virtue of the OEM Agreements. As Dalian Befut’s sole purpose and objective is to provide resources and benefits to WFOE, WFOE is the primary beneficiary that can consolidate Dalian Befut. Therefore, Dalian Befut and its controlled subsidiaries, Dalian Marine Co., Dalian Yuansheng and Befut Zhong Xing, are consolidated into the Company’s financial statements. The accompanying consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United Stated of America (“US GAAP”). All inter-company transactions and balances have been eliminated in consolidation.”
In preparing the accompanying unaudited consolidated financial statements, the Company evaluated the period from June 30, 2011 through the date the financial statements were issued for material subsequent events requiring recognition or disclosure. No such events were identified for this period.
Use of Estimates
The preparation of consolidated financial statements in accordance with US GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Significant estimates include allowance for doubtful accounts and income taxes. Actual results could differ from those estimates.
Revenue Recognition
The Company derives its revenues primarily from designing and manufacturing of industrial wires and cables. In accordance with the provisions of ASC Topic 605, revenue is recognized when products are shipped, title and risk of loss is passed to the customers and collection is reasonably assured. Payments received before the above criteria are satisfied are recorded as advance from customers.
Cash and Cash Equivalents
In accordance with FASB ASC Topic 230, "Statement of Cash Flows", the Company considers all highly liquid instruments with original maturities of three months or less to be cash equivalents.
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 2 - Summary of Significant Accounting Policies (continued)
Restricted Cash
Restricted cash represents time deposits pledged against short-term bank facilities. Restricted cash is classified as current assets as the maturity of the short-term bank facilities is within one year.
Accounts Receivable
Accounts receivable are recorded net of allowance for doubtful accounts. The Company provides an allowance for doubtful accounts equal to the estimated uncollectible amounts. Periodically, management assesses customer credit history and relationships as well as performs accounts receivable aging analysis. Based on the results, management determines whether certain balances are deemed uncollectible at the end of period. Using its past collection experience, the Company reserves 0.3% of accounts receivable balances that have been outstanding for less than one year, 3% of accounts receivable balances that have been outstanding for more than one year but less than two years, and 10% of accounts receivable balances that have been outstanding for more than two years. The Company generally provides customers with credit terms of three to four months. However, the Company provides them “large” customers, those with average annual specialty cable orders of over $7 million, with credit terms of five to six months. The Company generally does not conduct further business with customers that have significant unpaid accounts receivable balances beyond 12 months, unless we receive advance payments from such customers. As of June 30, 2011, the amount of our receivables aged less than one year, 1-2 years and more than two years was $18,150,807, $76,421 and $26,832 respectively.
As of June 30, 2011 and 2010, the Company had accounts receivable of $18,166,580 and $9,292,310, net of allowance for doubtful accounts of $87,480 and $83,295, respectively.
Inventory
Inventory is stated at the lower of cost or market. Cost is determined using the weighted-average cost method. Provisions are made for excess, slow moving and obsolete inventory as well as inventory whose carrying value is in excess of net realizable value. Management continually evaluates the recoverability based on assumptions about customer demand and market conditions. If actual market conditions are less favorable than those projected by management, additional inventory reserves or write-downs may be required that could negatively impact our gross margin and operating results.
Advance Payments - Research and Development
As a common practice in the business environment of China, the Company is required to make advance payments for goods or services that will be used in future research and development activities. The Company made the original advance payments for research and development to a third party in August 2008 for the development of twenty patents. The Company realizes the advance payments when certain progress targets are achieved, including, but not limited to, obtaining the intellectual property certificate issued by the PRC State Intellectual Property Office and passing the two-year declaration period, and related costs have been incurred and reported by the third party to the Company. Such advance payments are amortized as research and development expense in the years in which the patents have passed the two- year declaration period. As of June 30, 2011 and 2010, the Company determined that these advance payments are recoverable.
Property and Equipment
Property and equipment are stated at cost. Depreciation is calculated based on the straight-line method over the estimated useful lives of the assets as follows:
Estimated Useful Life
Vehicles
5 to 10 years
Furniture, machinery and equipment
5 to 10 years
Buildings and improvements
20 to 40 years
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 2 - Summary of Significant Accounting Policies (continued)
Property and Equipment (continued)
Construction in progress primarily represents the construction costs of plant, machinery and equipment. Costs incurred are capitalized and transferred to property and equipment upon completion, at which time depreciation commences.
Cost of repairs and maintenance is expensed as incurred. Gain or loss on disposal of property and equipment, if any, is recognized in the consolidated statements of operations.
Interest Cost Capitalized
The Company capitalizes interest costs incurred on funds used to construct property, plant and equipment. The capitalized interest is recorded as part of the asset to which it relates and is amortized over the asset’s estimated useful life. Interest cost capitalized was $-0- and $802,637 for the years ended June 30, 2011 and 2010, respectively.
Long-lived Assets
In accordance with FASB ASC Topic 360-10, “Accounting for the Impairment or Disposal of Long-Lived Assets”, the Company reviews the recoverability of its long-lived assets on a periodic basis in order to identify business conditions, which may indicate a possible impairment. The assessment for potential impairment is based primarily on the Company’s ability to recover the carrying value of its long-lived assets from expected future discounted cash flows. If the total of the expected future discounted cash flows is less than the total carrying value of the assets, a loss is recognized for the difference between the fair value (computed based upon the expected future discounted cash flows) and the carrying value of the assets.
Intangible Assets
Intangible assets are stated at cost. Intangible assets with finite life are amortized over their estimated useful life using straight-line method whereas intangible assets with infinite life are not subject to amortization. Impairment test is performed at a minimum once a year to determine possible impairment loss. Estimated useful life of intangible assets is as follows:
Impairment of Intangible Assets
The Company applies the provisions of FASB ASC Topic 350 “Goodwill and Other Intangible Assets” which addresses how goodwill and other acquired intangible assets should be accounted for in financial statements. In this regard, the Company tests these intangible assets for impairment annually or more frequently if indicators of potential impairment are present. Such circumstances could include, but are not limited to: (1) a significant decrease in the market value of an asset, (2) a significant adverse change in the extent or manner in which an asset is used, or (3) an accumulation of costs significantly in excess of the amount originally expected for the acquisition of an asset. The Company measures the carrying amount of the asset against the estimated discounted future cash flows associated with it at a risk-free rate of interest. Should the present value of the expected future net cash flows be less than the carrying value of the asset being evaluated, an impairment loss would be recognized. The impairment loss would be calculated as the amount by which the carrying value of the asset exceeds its fair value. The fair value is measured based on quoted market prices, if available. If quoted market prices are not available, the estimate of fair value is based on various valuation techniques, including the discounted value of estimated future cash flows. The evaluation of asset impairment requires the Company to make assumptions about future cash flows over the life of the asset being evaluated. These assumptions require significant judgment and actual results may differ from assumed and estimated amounts.
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 2 - Summary of Significant Accounting Policies (continued)
Cost of Sales
Cost of sales includes the expenses incurred to produce inventory for sale, including raw materials, direct labor, depreciation of manufacturing facilities and machinery, overheads, amortization of land use right as well as changes in reserves for shrinkage and inventory obsolescence.
Research and Development
Research and development costs are expensed when incurred. Research and development costs for the years ended June 30, 2011 and 2010 were $1,118,288 and $880,944, respectively.
Advertising Costs
The Company expenses the cost of advertising as incurred. Advertising costs for the years ended June 30, 2011 and 2010 were insignificant.
Income Taxes
Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statements carrying amounts of existing assets and liabilities and their respective tax bases, and operating loss and tax credit carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.
A valuation allowance is provided to reduce the carrying amount of deferred tax assets if it is considered more likely than not that some portion, or all, of the deferred tax assets will not be realized. No differences were noted between the book and tax bases of the Company’s assets and liabilities, respectively. Therefore, there are no deferred tax assets or liabilities for the years ended June 30, 2011 and 2010. The standard corporate income tax rate was 25%.
In December, 2009, the Company completed the construction of Phase I of its new production base on Changxing Island and therefore became qualified as High-Tech enterprise. In accordance with the Income Tax Law of the People’s Republic of China, a High-Tech enterprise is eligible for a 2 year tax exemption and a 50% tax reduction for 3 years thereafter. The Company was approved for such preferred tax treatment on May 20, 2011. The tax exemption was retroactively effective from January 1, 2009 through December 31, 2010. The 50% tax reduction became effective on January 1, 2011 and is valid through December 31, 2013.
Value Added Taxes
Under the Provisional Regulations of the People's Republic of China on Value Added Tax, the Company is responsible for collecting value added taxes on sales of products and to pay value added taxes on purchases of raw materials, which will be remitted to the central government. Sales and cost of sales are reported on a net basis excluding value added taxes.
Fair value of Financial Instruments
The carrying amounts of the Company’s financial instruments, which include cash and cash equivalents, accounts receivable, accounts payable, accrued expenses and other obligations, approximate their fair value due to the short-term maturities of the related instruments.
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 2 - Summary of Significant Accounting Policies (continued)
Consolidation
Pursuant to ASC 810-10-15-14, an entity is deemed to be a variable interest entity, or VIE, and thus to be consolidated by its primary beneficiary, if, by intention, any one of the following conditions is present:
A. The total equity investment at risk in the legal entity to be consolidated is insufficient to permit the entity to finance its activities without additional subordinated financial support from other parties, including equity holders; or
B. As a group, holders of the equity investment at risk lack any one of the following characteristics of a controlling financial interest:
1.
The power, through voting rights or similar rights to direct the activities of an entity that most significantly impact that entity’s economic performance.
2.
The obligation to absorb the expected losses of the legal entity. Such an obligation does not exist if the shareholders/investors are directly or indirectly protected from losses or are guaranteed a return on their investment by the legal entity itself or by other parties involved with the legal entity.
3.
The right to receive expected residual returns of the legal entity. Such right is not considered to be present if the residual returns are capped by the legal entity's governing documents or by other arrangements with other variable interest holders or the legal entity itself.
On February 16, 2009, WFOE entered into an Original Manufacturer Agreement (the "Manufacturing Agreement") with Dalian Befut, pursuant to which (i) Dalian Befut is the exclusive manufacturer of cable and wire products for WFOE, and may not manufacture products for any other third party without the written consent of WFOE; (ii) WFOE provides all the raw materials and advance related costs to Dalian Befut, as well as provide the design requirements of the products to be manufactured; and (iii) in no event may Dalian Befut use the arrangements under the Manufacturing Agreement for commercial or noncommercial marketing or promotional activities in any form. In addition, on February 16, 2009, WFOE and Dalian Befut entered into (i) an Intellectual Property Rights License Agreement, pursuant to which WFOE shall be permitted to use the intellectual property rights such as trademark, patents and knowhow for the marketing and sale of the products (the “IP Agreement”); and (ii) a Non-competition Agreement, pursuant to which Dalian Befut shall not compete against WFOE (the “Noncompete Agreement”, together with the IP Agreement and Manufacturing Agreement, collectively, the “OEM Agreements”). Under the OEM Agreements, Dalian Befut can only manufacture products for WFOE and cannot compete with WFOE in the same or similar lines of business. Dalian Befut is a captive manufacturer with the sole business purpose of providing manufacturing services to WFOE and is solely dependent on the business provided by WFOE, its primary beneficiary. As WFOE controls all of the potential and future risks and benefits of Dalian Befut, WFOE has the power to significantly impact the economic performance of Dalian Befut. Furthermore, while Messrs. Hongbo Cao and Tingmin Li are the two controlling shareholders of Dalian Befut, collectively owning an aggregate of 90% of the equity interests in Dalian Befut, the Company believes that, due to the OEM Agreements, WFOE, instead of Messrs. Cao and Li, has the power to direct the activities of Dalian Befut to significantly impact the economic performance of Dalian Befut. Based on the aforementioned assessment, Dalian Befut is a VIE of the Company under ASC 810-10-15-14-B.1. above, and as such, is consolidated into the Company. Although the Company is only required to meet one criteria under ASC 810-10-15-14 in order to consolidate Dalian Befut, the Company believes that facts and circumstances exist that would allow it to meet certain other qualifying criteria set forth in ASC 810-10-15-14.
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 2 - Summary of Significant Accounting Policies (continued)
Foreign Currency Translation and Transactions
The Company has evaluated the determination of its functional currency based on the guidance in ASC Topic, “Foreign Currency Matters,” which provides that an entity’s functional currency is the currency of the primary economic environment in which the entity operates; normally, that is the currency of the environment in which an entity primarily generates and expends cash.
On its own, the Company raises financing in the U.S. dollar, pays its own operating expenses primarily in the U.S. dollar, paid dividends to its shareholders of common stock and expects to receive any dividends that may be declared by its subsidiaries in U.S. dollars.
Therefore, it has been determined that the Company’s functional currency is the U.S. dollar based on the expense and financing indicators, in accordance with the guidance in ASC 830-10-85-5.
The Company uses United States dollars (“U.S. Dollar” or “US$” or “$”) for financial reporting purposes. The subsidiaries within the Company maintain their books and records in Renminbi (“RMB”), the currency of the currency of China, the economic environment in which the Company’s primary subsidiaries conduct their operations. Assets and liabilities of the subsidiaries in RMB are translated into U.S. Dollars using the applicable exchange rates prevailing at the balance sheet date. Items on the statements of income and comprehensive income and cash flows are translated at average exchange rates during the reporting period. Equity accounts are translated at historical rates. Adjustments resulting from the translation of the Company’s financial statements are recorded as accumulated other comprehensive income.
The exchange rates used to translate amounts in RMB into US Dollars for the purposes of preparing the condensed combined financial statements were as follows:
Comprehensive Income
The Company has adopted FASB ASC Topic 220, “Reporting Comprehensive Income”, which establishes rules for the reporting and display of comprehensive income, its components and accumulated balances. ASC 220 defines comprehensive income to include all changes in equity, including adjustments to minimum pension liabilities, accumulated foreign currency translation, and unrealized gains or losses on available-for-sale marketable securities, except those resulting from investments by owners and distributions to owners.
Earnings Per Share
In accordance with ASC Topic 260, “Computation of Earnings Per Share” and ASC 260, “Participating Securities and the Two-Class Method under FASB Statement No. 128” (“EITF No. 03-6”),basic earnings per share is computed by dividing net income attributable to ordinary shareholders by the weighted average number of ordinary shares outstanding during the year. The Company’s Series A redeemable convertible preferred shares are participating securities. Diluted earnings per share is calculated by dividing net income attributable to ordinary shareholders as adjusted for the effect of dilutive ordinary equivalent shares, if any, by the weighted average number of ordinary and dilutive ordinary equivalent shares outstanding during the year. Ordinary equivalent shares consist of the ordinary shares issuable upon the conversion of the convertible preferred shares (using the if-converted method) and ordinary shares issuable upon the exercise of outstanding share options (using the treasury stock method).
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 2 - Summary of Significant Accounting Policies (continued)
Recent Accounting Pronouncements
In April 2010, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2010-17, Revenue Recognition-Milestone Method (Topic 605) - Revenue Recognition (ASU 2010-17). ASU 2010-17 provides guidance on defining the milestone and determining when the use of the milestone method of revenue recognition for research or development transactions is appropriate. It provides criteria for evaluating if the milestone is substantive and clarifies that a vendor can recognize consideration that is contingent upon achievement of a milestone as revenue in the period in which the milestone is achieved, if the milestone meets all the criteria to be considered substantive. ASU 2010-17 is effective for us in fiscal 2012 and should be applied prospectively. The adoption of this ASU will not have a material impact on the Company’s consolidated financial statements.
In January 2010, the FASB issued the following ASC Updates:
● ASU No. 2010-01- Equity (Topic 505): Accounting for Distributions to Shareholders with Components of Stock and Cash. This Update clarifies that the stock portion of a distribution to shareholders that allows them to elect to receive cash or stock with a potential limitation on the total amount of cash that all shareholders can elect to receive in the aggregate is considered a share issuance that is reflected in EPS prospectively and is not a stock dividend for purposes of applying Topics 505 and 260 (Equity and Earnings Per Share). The amendments in this Update are effective for interim and annual periods ending on or after December 15, 2009 with retrospective application.
● ASU No. 2010-02- Consolidation (Topic 810): Accounting and Reporting for Decreases in Ownership of a Subsidiary. This Update amends Subtopic 810-10 and related guidance to clarify that the scope of the decrease in ownership provisions of the Subtopic and related guidance applies to (i) a subsidiary or group of assets that is a business or nonprofit activity; (ii) a subsidiary that is a business or nonprofit activity that is transferred to an equity method investee or joint venture; and (iii) an exchange of a group of assets that constitutes a business or nonprofit activity for a noncontrolling interest in an entity, but does not apply to: (i) sales of in substance real estate; and (ii) conveyances of oil and gas mineral rights. The amendments in this Update are effective beginning in the period that an entity adopts FAS 160 (now included in Subtopic 810-10).
● ASU No. 2010-06- Fair Value Measurements and Disclosures (Topic 820): Improving Disclosures about Fair Value Measurements. This Update amends Subtopic 820-10 that requires new disclosures about transfers in and out of Levels 1 and 2 and activity in Level 3 fair value measurements. This Update also amends Subtopic 820-10 to clarify certain existing disclosures. The new disclosures and clarifications of existing disclosures are effective for interim and annual reporting periods beginning after December 15, 2009, except for the disclosures about purchases, sales, issuances, and settlements in the roll forward of activity in Level 3 fair value measurements, which are effective for fiscal years beginning after December 15, 2010.
The Company expects that the adoption of the above Updates issued in January 2010 did not and will not have any significant impact on its financial position and results of operations.
In January 2010, the FASB expanded the disclosure requirements for fair value measurements relating to the transfers in and out of Level 2 measurements and amended the disclosure for the Level 3 activity reconciliation to be presented on a gross basis. In addition, valuation techniques and inputs should be disclosed for both Levels 2 and 3 recurring and nonrecurring measurements. The new requirements are effective for interim and annual reporting periods beginning after December 15, 2009, except for the disclosures about the Level 3 activity reconciliation which are effective for fiscal years beginning after December 15, 2010. The Company adopted the new disclosure requirements on January 1, 2010 except for the disclosure related to the Level 3 reconciliation, which will be adopted on January 1, 2011. The adoption will not have an impact on its consolidated financial condition, results of operations or cash flows.
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 2 - Summary of Significant Accounting Policies (continued)
Recent Accounting Pronouncements (continued)
In October 2009, the FASB issued an amendment to the accounting and disclosure for revenue recognition. The amendment modifies the criteria for recognizing revenue in multiple element arrangements. Under the guidance, in the absence of vendor-specific objective evidence (“VSOE”) or other third party evidence (“TPE”) of the selling price for the deliverables in a multiple-element arrangement, this amendment requires companies to use an estimated selling price (“ESP”) for the individual deliverables. Companies shall apply the relative-selling price model for allocating an arrangement’s total consideration to its individual deliverables. Under this model, the ESP is used for both the delivered and undelivered elements that do not have VSOE or TPE of the selling price. The guidance is effective for the fiscal year beginning on or after June 15, 2010, and will be applied prospectively to revenue arrangements entered into or materially modified after the effective date. The Company intends to adopt the new guidance prospectively beginning January 1, 2011 and is currently evaluating the impact the adoption will have on its consolidated financial statements.
On July 1, 2009, the FASB officially launched the FASB Accounting Standards Codification (“ASC”), which has become the single official source of authoritative nongovernmental US GAAP, in addition to guidance issued by the Securities and Exchange Commission. The ASC is designed to simplify US GAAP into a single, topically ordered structure. All guidance contained in the ASC carries an equal level of authority. The ASC is effective for all interim and annual periods ending after September 15, 2009.
Reclassification
Certain amounts as of June 30, 2010 were reclassified for comparative presentation purposes.
Note 3- Restricted Cash
Cash balances in the amount of $3,565,859 and $1,181,095 were restricted as of June 30, 2011 and 2010, respectively, as collateral for the construction loan obtained from the PRC National Development Bank Joint Equity Corporation, which is detailed in Note 16. The balance of $773,500 as of June 30, 2011 was restricted as collateral for the short-term bank loan obtained from Bank of East Asia. The balance of $1,547,000 as of June 30, 2011 was restricted as collateral for trade notes payable issued by Bank of Jinzhou.
Note 4- Inventory
Inventory consisting of material, labor and manufacturing overhead as of June 30, 2011 and 2010 consists of the following:
Note 5- Due From Factor
Due from factor as of June 30, 2011 and 2010 consist of the following:
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 5- Due From Factor (continued)
Pursuant to the factoring agreement, with recourse against the Company in the event of a loss, Bank of China acts as its factor for some of its receivables, which are assigned on a pre-approved basis. The factoring charge amounts to $7,731. The advances for factored receivables are made pursuant to a revolving credit and security agreement, which expires on September 29, 2011.
Note 6- Loans to Unrelated Parties
As of June 30, 2011, the Company had outstanding loans to unrelated parties in the aggregate amount of $4,495,767, consisting of $4,031,667 to Dalian Haide Electric Power Equipment Co., Ltd, a research and development partner of the Company (“Dalian Haide”) and $464,100 to Dalian Shipping Supporting Industrial Park Co., Ltd, a customer of the Company. These loans are made to primarily fund working capital requirements and are payable on demand. In addition, the loans are unsecured and non-interest bearing.
As of June 30, 2010, the Company had outstanding loans to unrelated parties in the aggregate amount of $1,054,090, consisting of $531,544 to Dalian Haide and $522,546 to Dalian Chenglian Electrical Installation Engineering Co., Ltd, a customer of the Company.
Note 7- Bank Loan Security Deposits
The Company obtained financing from various banks through third party guarantors. The Company is responsible to provide security deposits to third party guarantors per the agreements between the Company and the third guarantors. The balance of such bank loan security deposits as of June 30, 2011 and 2010 consist of the following:
Note 8- Advance Payments for Inventory
As a common practice in the business environment of China, the Company is required to make advance payments for to certain vendors for inventory. The advances for the purchase of inventory amounted to $2,024,943 and $399,868 as of June 30, 2011 and 2010, respectively.
Note 9- Property and Equipment
Property and equipment as of June 30, 2011 and 2010 consist of the following:
Depreciation expense for the years ended June 30, 2011 and 2010 was $1,888,994 and $410,043, respectively.
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 10 - Advance Payments - Research and Development
As a common practice in the business environment of China, the Company is required to make advance payments for goods or services that will be used in future research and development activities. The Company made the original advance payments for research and development to Dalian Haide in August 2008 for the development of twenty patents. The Company realizes the advance payments when certain progress targets are achieved, including, but not limited to, obtaining the intellectual property certificate issued by the PRC State Intellectual Property Office and passing the two-year declaration period, and related costs have been incurred and reported by the third party to the Company. Such advance payments are amortized as research and development expense in the years in which the patents have passed the two- year declaration period. As of June 30, 2011 and 2010, the Company determined that these advance payments are recoverable.
Note 11 - Intangible Assets
Intangible assets as of June 30, 2011 and 2010 consist of the following
Amortization expense for the years ended June 30, 2011 and 2010 was $1,311,959 and $1,234,713, respectively.
Note 12 - Accounts Payable and Accrued Expenses
Accounts payable and accrued expenses as of June 30, 2011 and 2010 consist of the following:
The carrying value of accounts payable and accrued expenses approximate their fair values due to the short-term nature of these obligations.
Note 13 - Short-Term Bank Loans
Short-term bank loans consist of the following:
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 13 - Short-Term Bank Loans (continued)
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 14 - Loans From Unrelated Parties
These loans are based on good-faith, and are non-interest bearing and payable on demand. There are no financial or non-financial covenants associated with these loans. The proceeds from these loans are utilized for working capital. As of June 30, 2011 and 2010, the Company had outstanding loans from unrelated parties of $3,364,992 and $370,000, respectively.
Note 15 - Trade Notes Payable
Trade notes payable consist of non-interest bearing promissory notes issued in connection with the acquisition of certain inventory. Balances outstanding as of June 30, 2011 and 2010 were $3,094,000 and $-0-, respectively.
Note 16 - Long-Term Bank Loans
Long-term bank loans consist of the following:
Note 17 - Government Subsidy Income
Government subsidy income for the years ended June 30, 2011 and 2010 consists of the following:
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 18 -Earnings Per Share
The Company presents earnings per share on a basic and diluted basis. Basic earnings per share are computed by dividing income available to common shareholders by the weighted average number of common shares outstanding. Diluted earnings per share are computed by dividing income available to common shareholders by the weighted average number of shares outstanding plus the dilutive effect of potential securities. All shares and per share data have been adjusted retroactively to reflect the recapitalization of the Company pursuant to the Share Exchange Agreement with Befut Nevada.
Note 19- Stockholders’ Equity And Related Financing Agreements
On March 13, 2009, as part of the reverse merger transaction, the Company acquired, from Befut BVI, 100% of the outstanding shares of common stock of Befut Nevada. In exchange, Befut BVI was issued 117,768,300 shares of the Company’s common stock, under a Share Exchange Agreement (“SEA”) pursuant to an exemption under Section 4(2) of the Securities Act of 1933, as amended, for issuances not involving a public offering. As a result of the transaction, Befut Nevada became a wholly-owned subsidiary of the Company.
On March 13, 2009, the Company completed a private financing totaling $500,000, for which convertible promissory notes were issued, with four accredited investors (the “March 2009 Financing”). Consummation of the March 2009 Financing was a condition to the completion of the share exchange transaction with Befut BVI and the Befut BVI Stockholders under the SEA. The securities offered in the March 2009 Financing were sold pursuant to a Securities Purchase Agreement (the “Purchase Agreement”) by and among the Company and the investors named in the Purchase Agreement.
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 19- Stockholders’ Equity And Related Financing Agreements (continued)
In accordance with the Purchase Agreement, the Company issued securities consisting of: (i) 3,130,869 shares of the Company’s common stock $0.001 par value per share in connection with the private financing; and (ii) Five (5) year warrants to purchase 720,076 shares of the Company’s common stock at an initial exercise price of $0.1916 per share.
On June 18, 2009, the Company effectuated a 1 for 4.07 reverse stock split of its outstanding common stock (the “Reverse Split”). The Reverse Split did not alter the number of shares of the common stock the Company is authorized to issue, but rather simply reduced the number of shares of its common stock issued and outstanding. Any fractional shares issued as a result of the Reserve Split were rounded up. In addition, any shareholder owning at least 100 shares but less than 407 shares of the Company’s common stock on June 17, 2009, would own at least 100 shares after giving effect to the Reverse Split.
On March 13, 2009, the Company issued convertible notes in an aggregate principal amount of $500,000, at an annual interest of 15%. On March 12, 2010, the maturity date of the convertible notes, the Company repaid convertible notes in the amount of $370,000 and an interest payment of $55,500. The remaining convertible notes in the aggregate principal amount of $130,000 were converted into 200,000 shares of common stock of the Company at the conversion price of $0.65 per share on May 6, 2010.
During the year ended June 30, 2009, the Company received cash contributions from shareholders in the amount of $5,301,971 and intangible assets with an aggregate fair value of $11,383,050 in exchange for ownership, both of which were accounted for as additional paid-in-capital. During the year ended June 30, 2009, two shareholders of the Company, Tingmin Li and Hongbo Cao, contributed two patents into the Company as increases to their respective capital contributions. The two patents were Intelligent Reactive Power Compensation and Automatic Protection Ni-mh Battery Screen, which were valued as $11,383,050 in total by a professional valuation firm. The contribution was treated as capital transaction per ASC 505-10.
Note 20- Income Taxes
The Company is a Nevada corporation and conducts all of its business through its Chinese subsidiaries. The Company’s business is conducted solely in the PRC. As the Company is a U.S. holding company, it has not recorded any income for the years ended June 30, 2011 and 2010, there was no provision or benefit for U.S. income tax purpose.
The Company is governed by the Income Tax Law of the PRC concerning private-run enterprises, which are generally subject to a statutory tax rate of 25% and were previously, until January 2008, subject to a statutory tax rate of 33% (30% state income tax plus 3% local income tax) on income reported in the statutory statements after appropriate tax adjustments.
On March 16, 2007, the National People’s Congress of China approved the Corporate Income Tax Law of the PRC (the “New CIT Law”), which became effective from January 1, 2008. Under the New CIT Law, the corporate income tax rate applicable to all companies, including both domestic and foreign-invested companies, is 25%, replacing the previous applicable tax rate of 33%. For the years ended June 30, 2011 and 2010, the income tax provision for the Company was $672,337 and $907,083, respectively.
The Company’s provision for income taxes consists of:
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 20- Income Taxes (continued)
A reconciliation of the provision for income taxes with amounts determined by applying the statutory income tax rate to income before income taxes is as follows:
In July 2006, the FASB issued FASB Interpretation No.48, Accounting for Uncertainty in Income Taxes (FIN 48). FIN 48 clarifies the accounting for income taxes by prescribing a minimum probability threshold that a tax position must meet before a financial statement benefit is recognized. The minimum threshold is defined in FIN 48 as a tax position that is more likely than not to be sustained upon examination by the applicable taxing authority, including resolution of any related appeals or litigation processes, based on the technical merits of the position. The Company does not recognize any benefits in the financial statements for the years ended June 30, 2011 and 2010.
The Company was granted an extension from the local tax bureau on May 20, 2011. Accordingly the Company recorded the accrued income tax for year of the 2009 and 2010 years into government subsidy income.
Note 21 - Employee Welfare Plan
The Company has established an employee welfare plan in accordance with applicable Chinese laws and regulations. Full-time employees of the Company in the PRC participate in a government-mandated multi-employer defined contribution plan pursuant to which certain pension benefits, medical care, unemployment insurance and other welfare benefits are provided to employees. PRC labor regulations require the Company to accrue for these benefits based on a certain percentage of the employees’ salaries.
Note 22 - Risk Factors
The Company's operations are carried out in the PRC. Accordingly, the Company's business, financial condition and results of operations may be influenced by the political, economic and legal conditions in the PRC. The Company's business may also be influenced by changes in governmental policies with respect to laws and regulations, anti-inflationary measures, currency conversion and remittance abroad, and rates and methods of taxation, among other things.
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 23 - Risk of Concentration and Credit Risk
For the years ended June 30, 2011, five vendors accounted for approximately 66% of the Company’s purchases of raw materials, while for the fiscal year ended June 30 2010, five vendors accounted for approximately 77% of the Company’s purchases of raw materials. Total purchases from these vendors were $29.88 million and $18.27 million for the years ended June 30, 2011 and 2010, respectively.
For the fiscal year ended June 30, 2011, ten customers accounted for $18.35 million in sales, or approximately 33% of the Company’s total sales. For the fiscal year ended June 30, 2010, five customers accounted for $13.22 million in sales, or approximately 46% of the Company’s total sales.
Financial instruments which potentially subject the Company to credit risk consist principally of cash on deposit with financial institutions. Management believes that the financial institutions that hold the Company’s cash and cash equivalents are financially sound and minimal credit risk exists with respect to these investments.
Note 24 - Supplemental Cash Flow Disclosures
The following is supplemental information relating to the consolidated statements of cash flows:
Note 25 - Disposal of A Subsidiary - Dalian Marine
On February 21, 2011, the stockholders of Dalian Befut determined to sell Dalian Befut’s 86.6% equity interests in Dalian Marine Co. (“Dalian Marine”), an entity qualified to manufacture marine cables, as the result of recurring operating losses at Dalian Marine. Dalian Marine has not conducted operating activities since its inception in April 2006, and, as a result, had incurred annual losses arising from its general and administrative expenses until it received governmental subsidies in 2010 totaling RMB 1.5 million.
On February 25, 2011, Dalian Befut completed the sale of its 86.6% equity interest to Mr. Fansheng Li, or the purchaser, a non-controlling shareholder of Dalian Marine prior to the sale and a non-affiliate of Dalian Befut and the Company, for $2,644,764 (RMB17,320,000) in cash. In connection with the sale, Dalian Marine transferred to WFOE the applicable certifications required to produce marine cables in order for WFOE to be eligible to manufacture marine cables. Notwithstanding the transfer of certifications, the purchaser, as the new majority shareholder of Dalian Marine, is able to obtain, pursuant to current industry policy in the PRC, new certificates for the manufacture of marine cables and/or wires from the relevant government(s) within a shorter time frame as compared to forming a new entity for the same purpose. The assets of Dalian Marine as of the date of disposal consisted primarily of a $3 million receivable from Dalian Befut for the payment made by Dalian Marine on behalf of Dalian Befut for the purchase of the manufacturing facilities used by Dalian Befut; cash of approximately RMB17.8 million (approximately $2.7 million) representing the registered capital of Dalian Marine; and income in the aggregate amount of RMB 1.5 million (approximately $231,900) for the three and nine months ended March 31, 2011, which was mainly comprised of the governmental subsidies received from two local governmental bureaus for research and development activities with respect to new cable and wire products.
The Company does not expect Dalian Befut’s sale of its entire equity interest in Dalian Marine to have any material impact on the Company’s financial position and operating results as Dalian Marine did not conduct any manufacturing activities. Further, Dalian Befut will continue to be WFOE’s OEM manufacturer and WFOE will be authorized to manufacture marine cable for the Company. The Company recognized a gain of $99,148 on the disposal of Dalian Marine. Such income was treated as an unusual item since it is deemed to be unusual in nature or would be infrequent in occurrence.
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 26 - Parent Only Financial Statements and Notes to Financial Statements
BEFUT International CO., Ltd., as the parent company, obtained control over its subsidiaries through a series of reverse acquisitions that were treated as capital transactions, rather than as business combinations. The transactions were considered acquisitions of net assets recorded at cost in exchange for the issuance of equity securities. Under Rule 5-04 and 12-04 of Regulation S-X, the Company’s parent only financial statements are presenting as follows:
Balance Sheets
(Parent Only)
See Notes to Financial Statements.
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 26 - Parent Only Financial Statements and Notes to Financial Statements (continued)
Statements of Income
(Parent Only)
See Notes to Financial Statements.
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 26 - Parent Only Financial Statements and Notes to Financial Statements (continued)
Statements of Cash Flows
(Parent Only)
See Notes to Financial Statements.
BEFUT INTERNATIONAL CO., LTD.
Notes to Consolidated Financial Statements
Note 26 - Parent Only Financial Statements and Notes to Financial Statements (continued)
Notes to Financial Statements
(Parent Only)
1. Basis of Presentation
The accompanying financial statements (the “Parent Company Financial Statements”), including the notes thereto, should be read in conjunction with the consolidated financial statements of BEFUT International Co., Ltd. and the notes thereto.
The Parent Company Financial Statements are prepared in accordance with accounting principles generally accepted in the U.S., which require the Company to make estimates and assumptions regarding valuations of certain financial instruments, the potential outcome of litigation and other matters that affect the Parent Company Financial Statements and related disclosures. The Company believes that the estimates utilized in the preparation of the Parent Company Financial Statements are prudent and reasonable. Actual results could differ materially from these estimates.
2. Due from intercompany
The Company has transactions with its consolidated subsidiaries determined on an agreed-upon basis.
3. Shareholders’ Equity
For a discussion of shareholders’ equity, see Note 19 to the Company’s consolidated financial statements.