e424b4
Filed pursuant to Rule 424(b)(4)
Registration No. 333-159651
Registration No. 333-160192
5,500,000
American Depositary Shares
DUOYUAN GLOBAL WATER
INC.
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Representing
11,000,000 Ordinary Shares |
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$16.00 per ADS
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•
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We are offering American depositary shares, or ADSs, each
representing two of our ordinary shares, par value $0.000033 per
share.
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This is our initial public offering and no public market
currently exists for the ADSs or our ordinary shares.
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Trading Symbol: New York Stock Exchange—DGW.
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This investment involves risk. See “Risk Factors”
beginning on page 11.
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Per ADS
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Total
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Public offering price
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$
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16.00
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$
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88,000,000
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Underwriting discount
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$
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1.12
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$
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6,160,000
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Proceeds, before expenses, to Duoyuan Global Water Inc.
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$
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14.88
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$
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81,840,000
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The underwriters have a
30-day
option to purchase up to 825,000 additional ADSs from us to
cover over-allotments, if any.
Neither the Securities and Exchange Commission nor any state
securities commission has approved of anyone’s investment
in these securities or determined if this prospectus is truthful
or complete. Any representation to the contrary is a criminal
offense.
Piper Jaffray
The date of this prospectus is June 24, 2009
TABLE OF
CONTENTS
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F-1
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You should rely only on the information contained in this
prospectus. We have not, and the underwriters have not,
authorized any other person to provide you with different
information. This prospectus is not an offer to sell, nor is it
seeking an offer to buy, these securities in any state where the
offer or sale is not permitted. The information in this
prospectus is complete and accurate as of the date on the front
cover, but the information may have changed since that date.
i
SUMMARY
The items in the following summary are described in more
detail later in this prospectus. This summary provides an
overview of selected information and does not contain all of the
information you should consider. Therefore, you should also read
the more detailed information set out in this prospectus and the
financial statements.
Overview
We are a leading China-based domestic water treatment equipment
supplier. Our product offerings address the key steps in the
water treatment process, such as filtration, water softening,
water-sediment separation, aeration, disinfection and reverse
osmosis. Founded in 1992, we offer a comprehensive set of more
than 80 complementary products across the following three
product categories:
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Circulating Water Treatment
Equipment. We currently produce over 35
products, including electronic water conditioners, fully
automatic filters, circulating water central processors, cyclone
filters and water softeners, used in the process of treating
water and removing buildup in circulating water systems.
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Water Purification Equipment. We
currently produce over 30 products, many of which use
ultraviolet, ozone, membrane-based and electrodeionization, or
EDI, technologies, in the process of treating and purifying
water for various applications and end-user customers, including
residential communities and commercial businesses.
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Wastewater Treatment Equipment. We
currently produce over 15 products, including grit separators,
microporous aerators and belt-type thickener-filter press
mono-block machines, used in the process of treating wastewater,
such as municipal sewage and industrial and agricultural
wastewater.
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With over 80 distributors throughout China in 28 provinces,
including most of China’s key economic regions, we believe
our nationwide distribution network is one of the largest among
water treatment equipment suppliers in China. This extensive
network allows us to be closer to our end-user customers and
enables us to be more responsive to local market demand than
many of our competitors. As one of the first privately owned
companies in China to supply water treatment products and
through joint efforts with our distributors, we have developed a
broad base of end-user customers throughout China, consisting
primarily of wastewater treatment plants, water works
facilities, manufacturing plants, commercial businesses,
residential communities and individual customers.
By leveraging our in-house research and development team, we
continually broaden our market reach by introducing new products
that help us diversify our revenue base, stay current with
technological developments in the water treatment equipment
industry and maintain our competitive advantage. Since 2004, we
have developed more than 65 new products across all three of our
product categories, many of which utilize non-chemical and
energy saving technologies that are, we believe, increasingly
important features to our end-user customers. Of these new
products, more than 35 were introduced into the market in 2008.
In the second half of 2009, we plan to introduce into the market
up to six new or enhanced products across each of our three
product categories. We plan to continue developing new and
enhanced products to maintain and expand our competitive
advantage and market reach.
We believe our manufacturing and assembly operations are complex
and integrated, involving the coordination of raw materials and
components, internal production processes and external
distribution
1
processes. In addition to utilizing common components and
materials within and across product categories, we employ common
manufacturing and assembly practices for our product lines,
providing us a highly scalable and efficient operating
structure. To further save costs, increase operational
efficiencies, improve the quality of our products, and protect
our key technologies, we also produce certain core components
in-house.
Our revenues grew 44.8% from RMB292.9 million in 2006 to
RMB424.0 million in 2007 and 39.8% to RMB592.7 million
($86.7 million) in 2008. Our revenues grew 39.0% from
RMB86.8 million for the three months ended March 31,
2008 to RMB120.6 million ($17.7 million) for the three
months ended March 31, 2009. Our net income grew 55.7% from
RMB52.8 million in 2006 to RMB82.2 million in 2007 and
62.7% to RMB133.8 million ($19.6 million) in 2008. Our
net income grew 92.3% from RMB15.0 million for the three
months ended March 31, 2008 to RMB28.9 million
($4.2 million) for the three months ended March 31,
2009. For the year ended December 31, 2008, our three
product categories, circulating water treatment, water
purification and wastewater treatment, accounted for
approximately 41.5%, 21.6% and 36.2% of our revenue,
respectively. For the three months ended March 31, 2009,
our three product categories, circulating water treatment, water
purification and wastewater treatment, accounted for
approximately 37.5%, 22.4% and 38.4% of our revenue,
respectively.
Industry
Due to urbanization and industrialization in China, the country
faces severe water shortage and natural water resource
pollution. To address those issues, the Chinese government has
enacted stricter environmental standards and invested
significantly in water treatment projects to promote sustainable
economic growth and to provide its population with affordable,
purified water. Accordingly, the demand for water treatment
equipment has experienced and is expected to continue to
experience rapid growth.
According to the Freedonia Group, a market research firm, the
demand for water treatment products in China is estimated to
increase nearly 15.5% per year through 2012. We expect
China’s ongoing industrialization and urbanization will
drive demand for water treatment equipment in China for the
foreseeable future.
Our
Strengths and Strategy
We believe that the following competitive strengths enable us to
compete effectively in and capitalize on the growing water
treatment industry in China:
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strong customer recognition and industry reputation;
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established nationwide distribution network with over 80
distributors in 28 provinces;
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proven research and development capabilities, including the
development of non-chemical, membrane-based and other energy
efficient water treatment processes;
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comprehensive and high-quality product offerings with more than
80 complementary products across our three product
categories; and
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vertically integrated and local cost structure.
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2
Our strategy is to capitalize on our competitive strengths to
expand our current market penetration and to benefit from the
anticipated rapid growth in China’s water treatment
industry. Our strategy consists of the following key elements:
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expand our product offerings and increase sales of integrated
systems;
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focus on advanced technologies to enhance energy saving and
recycling features of our products and reduce their operational
costs;
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increase our market share in China by introducing additional
advanced products, increasing the number of distributors and
actively managing our existing distribution network;
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expand our manufacturing capacity and increase in-house
production; and
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pursue selective strategic acquisitions, focusing on obtaining
complementary products, product line extensions, research and
development capabilities and access to new markets.
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Our
Corporate Structure
We were incorporated on June 21, 2007 under the laws of the
British Virgin Islands and act as a holding company. We conduct
substantially all of our business through our two wholly owned
Chinese subsidiaries: Duoyuan Clean Water Technology Industries
(China) Co., Ltd., or Duoyuan Beijing, and Duoyuan Water
Treatment Equipment Manufacturing (Langfang) Co., Ltd., or
Duoyuan Langfang. We currently do not have any other
subsidiaries or equity interests in any other entity. Our
majority shareholder is Duoyuan Investments Limited, which is a
British Virgin Islands company wholly owned by Wenhua Guo, our
chairman and chief executive officer.
3
The following chart summarizes our corporate structure,
including our subsidiaries, as of the date of this prospectus:
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* |
Reflects the grant of 1,052,631 fully vested ordinary shares
under our 2008 Omnibus Incentive Plan to certain employees,
including members of our executive management team, but
excluding our chief executive officer and chief financial
officer on or prior to the completion of this offering.
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Our Chinese subsidiaries may be foreign owned as a result of
Chinese regulations encouraging or permitting foreign investment
in water treatment equipment manufacturing business in China. As
required under Chinese law, the establishment of our Chinese
subsidiaries was approved by the local counterpart authorized by
the Ministry of Commerce in accordance with the business scale
and total amount of investment.
Office
Location
We were incorporated in the British Virgin Islands on
June 21, 2007. Our principal executive offices are located
at No. 3 Jinyuan Road, Daxing Industrial Development Zone,
Beijing 102600, People’s Republic of China. Our telephone
number at this address is
(8610) 6021-2222.
Our registered office in the British Virgin Islands is located
at P.O. Box 957, Offshore Incorporation Centre, Road
Town, Tortola, British Virgin Islands.
Investor inquiries should be directed to us at the address and
telephone number of our principal executive offices set forth
above. Upon completion of this offering, our website will be
www.duoyuan-hq.com. The information contained on our
website is not incorporated by reference into this prospectus
and is not part of this prospectus. Our agent for service of
process in the United States is CT Corporation System located at
111 Eighth Avenue, 13/F, New York, New York 10011.
4
Conventions
That Apply to This Prospectus
Unless otherwise indicated, references in this prospectus to:
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“ADRs” are to the American depositary receipts that
evidence our ADSs;
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“ADSs” are to our American depositary shares, each of
which represents two ordinary shares;
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“China” and the “PRC” are to the
People’s Republic of China, excluding for the purposes of
this prospectus Hong Kong, Macau and Taiwan;
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“revenue” are to net revenue;
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“RMB” and “Renminbi” are to the legal
currency of China;
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“shares” and “ordinary shares” are to our
ordinary shares, par value $0.000033 per share;
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“U.S. GAAP” are to the generally accepted
accounting principles in the United States of America; and
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“$” and “U.S. dollars” are to the legal
currency of the United States of America.
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Unless the context indicates otherwise, “we,”
“us,” “our company,” “our” and
“Duoyuan Water” refer to Duoyuan Global Water Inc., a
British Virgin Islands company, its predecessor entities and
subsidiaries. See “Corporate Structure.”
Unless otherwise indicated, our financial information presented
in this prospectus has been prepared in accordance with
U.S. GAAP.
Solely for your convenience, this prospectus contains
translations of certain Renminbi amounts into U.S. dollar
amounts at specified rates. All translations from Renminbi to
U.S. dollars were made at the noon buying rate in The City
of New York for cable transfers of Renminbi as certified for
customs purposes by the Federal Reserve Bank of New York. Unless
otherwise stated, translations of Renminbi into
U.S. dollars have been made at the noon buying rate in
effect on March 31, 2009, which was RMB6.8329 to $1.00. We
make no representation that the Renminbi or U.S. dollar
amounts referred to in this prospectus could have been or could
be converted into U.S. dollars or Renminbi, as the case may
be, at any particular rate or at all. See “Risk
Factors—Risks Related to Doing Business in
China—Restrictions on currency exchange may limit our
ability to receive and use our revenue effectively and limit the
ability of our PRC subsidiaries to obtain financing” and
“—Fluctuations in exchange rates could adversely
affect our business and the value of our securities” for
discussions of the effects of currency control and fluctuating
exchange rates on the value of our ADSs. Any discrepancies in
any table between totals and sums of the amounts listed are due
to rounding.
5
The
Offering
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ADSs offered by us |
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5,500,000 ADSs, representing 11,000,000 ordinary shares. |
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Over-allotment option |
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We have granted the underwriters a
30-day
option to purchase up to 825,000 additional ADSs from us to
cover any over-allotments at the initial public offering price
less the underwriting discount and commission. |
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ADSs outstanding immediately after this offering
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5,500,000 ADSs (or 6,325,000 ADSs if the underwriters exercise
the over-allotment option in full). |
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Ordinary shares outstanding immediately after this offering
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42,052,631 ordinary shares (or 43,702,631 ordinary shares if the
underwriters exercise the over-allotment option in full). |
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Offering price per ADS |
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$16.00 per ADS. |
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The ADSs |
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Each ADS represents two ordinary shares, par value $0.000033 per
share. The ADSs initially will be evidenced by ADRs. The
depositary will be the registered holder of the ordinary shares
underlying your ADSs. |
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You will have the rights of an ADR holder as provided in a
deposit agreement among us, the depositary and holders and
beneficial owners of ADSs from time to time. You will be
required to pay fees to the depositary upon issuance and
cancellation of ADSs and distributions of cash or securities and
an annual services fee, and certain fees, charges, costs or
expenses incurred by the depositary. |
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To better understand the terms of our ADSs, including fees,
charges, costs or expenses, you should carefully read the
section in this prospectus entitled “Description of
American Depositary Shares.” We also encourage you to read
the deposit agreement, which is an exhibit to the registration
statement that includes this prospectus. We may amend or
terminate the deposit agreement for any reason without your
consent. If an amendment becomes effective, you will be
considered, by continuing to hold your ADSs, to have agreed to
be bound by the deposit agreement as amended. |
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Use of proceeds |
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We estimate that we will receive net proceeds from this offering
of approximately $80.1 million, after deducting the
underwriting discount and commission and the estimated offering
expenses payable by us. If the underwriters exercise their
over-allotment option in full, we estimate that our net proceeds
will be approximately $92.4 million. |
6
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We intend to use our net proceeds from this offering as follows: |
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• to improve and upgrade our existing manufacturing
facilities and production lines;
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• to build new manufacturing facilities and production
lines to produce new water treatment products;
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• to build a research and development laboratory;
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• to fund potential acquisitions of complementary
businesses as such opportunities may arise from time to
time; and
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• for general corporate purposes.
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Risk factors |
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See “Risk Factors” and other information included in
this prospectus for a discussion of factors you should carefully
consider before deciding to invest in our ADSs. |
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Lock-up |
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We, our directors, executive officers and all of our existing
shareholders have agreed with the underwriters that, without the
prior written consent of
Piper Jaffray & Co., or Piper Jaffray,
subject to certain exceptions, neither we nor any of our
directors, executive officers and existing shareholders will,
for a period of 180 days following the date of this
prospectus, offer, sell or contract to sell any of our ADSs,
ordinary shares or securities convertible into or exchangeable
or exercisable for any of our ADSs or ordinary shares. See
“Underwriting.” |
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Dividend policy |
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We do not anticipate paying any cash dividends in the near
future. |
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Listing |
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Our ADSs have been approved for listing on the New York Stock
Exchange. Our ordinary shares will not be listed on any exchange
or quoted for trading on any over-the-counter trading system. |
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New York Stock Exchange symbol |
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“DGW”. |
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Depositary |
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Deutsche Bank Trust Company Americas. |
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Payment and settlement |
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We expect our ADSs to be delivered against payment on or about
June 29, 2009. |
Unless otherwise indicated, all information in this prospectus:
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reflects a 3 for 1 share split of our ordinary shares
implemented prior to the completion of this offering;
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assumes no exercise of the underwriters’ over-allotment
option;
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7
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reflects the issuance of 1,052,631 fully vested ordinary shares
to be granted on or prior to the completion of this offering to
certain employees, including members of our executive management
team, but excluding our chief executive officer and chief
financial officer, pursuant to our 2008 Omnibus Incentive
Plan; and
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assumes the number of shares of our ordinary shares to be
outstanding immediately after the completion of this offering,
excludes 1,052,631 ordinary shares reserved for future issuances
under our 2008 Omnibus Incentive Plan and 300,000 shares of
our ordinary shares issuable upon the exercise of outstanding
options granted to Stephen C. Park, our Chief Financial Officer,
on the date of this prospectus.
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8
Summary
Combined and Consolidated Financial and Operating Data
The following summary combined and consolidated statements of
income data for the years ended December 31, 2006, 2007 and
2008 and the summary consolidated balance sheet data as of
December 31, 2007 and 2008 have been derived from our
audited combined and consolidated financial statements for the
years ended December 31, 2006, 2007 and 2008 included
elsewhere in this prospectus. The following summary consolidated
statements of income data for the three months ended
March 31, 2008 (unaudited) and 2009 (unaudited) and the
summary consolidated balance sheet data as of March 31,
2009 (unaudited) have been derived from our unaudited
consolidated financial statements for the three months ended
March 31, 2008 and 2009 included elsewhere in this
prospectus. The summary unaudited consolidated statements of
income data for the three months ended March 31, 2008 and
2009 and the summary unaudited consolidated balance sheet data
as of March 31, 2009 were prepared on the same basis as our
audited combined and consolidated financial statements. The
unaudited financial information includes all adjustments,
consisting only of normal and recurring adjustments, as we
consider necessary for a fair presentation of our financial
condition and results of operations for the periods presented.
Our combined and consolidated financial statements are prepared
and presented in accordance with U.S. GAAP. Our historical
results for any period are not necessarily indicative of results
to be expected in any future period. You should read the
following information in conjunction with our combined and
consolidated financial statements and related notes included
elsewhere in this prospectus, “Selected Combined and
Consolidated Financial Data” and “Management’s
Discussion and Analysis of Financial Condition and Results of
Operations.’’
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Year Ended
December 31,
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Three Months Ended
March 31,
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2006
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2007
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2008
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2008
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2008
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2009
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2009
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(UNAUDITED)
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RMB
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RMB
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$
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RMB
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RMB
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RMB
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$
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(in thousands, except share and
per share data)
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Combined and Consolidated Statements of Income Data:
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Revenue
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292,863
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423,962
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592,699
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86,742
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86,822
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120,646
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17,657
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Cost of revenue
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178,125
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272,402
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326,809
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47,829
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52,273
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66,178
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9,685
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Gross profit
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114,738
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151,560
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265,890
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38,913
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34,549
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54,468
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7,972
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Research and development expenses
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12,856
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14,405
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16,370
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2,396
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3,591
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5,110
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748
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Selling expenses
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27,672
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30,698
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37,076
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5,426
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7,450
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8,859
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1,297
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General and administrative expenses
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10,243
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11,034
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35,792
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5,238
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3,466
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829
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121
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Operating income
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63,967
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95,423
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176,652
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25,853
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20,042
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39,670
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5,806
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Impairment loss
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—
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—
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—
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—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Interest expense
|
|
|
7,372
|
|
|
|
5,759
|
|
|
|
3,118
|
|
|
|
456
|
|
|
|
1,047
|
|
|
|
326
|
|
|
|
48
|
|
Other income
|
|
|
2,507
|
|
|
|
4,523
|
|
|
|
1,279
|
|
|
|
187
|
|
|
|
326
|
|
|
|
197
|
|
|
|
29
|
|
Loss from sale of property
|
|
|
—
|
|
|
|
—
|
|
|
|
3,216
|
|
|
|
471
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from continuing operations before income taxes
|
|
|
59,102
|
|
|
|
94,187
|
|
|
|
171,597
|
|
|
|
25,113
|
|
|
|
19,321
|
|
|
|
39,541
|
|
|
|
5,787
|
|
Provision for income taxes
|
|
|
7,403
|
|
|
|
11,799
|
|
|
|
37,830
|
|
|
|
5,536
|
|
|
|
4,277
|
|
|
|
10,608
|
|
|
|
1,553
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from continuing operations
|
|
|
51,699
|
|
|
|
82,388
|
|
|
|
133,767
|
|
|
|
19,577
|
|
|
|
15,044
|
|
|
|
28,933
|
|
|
|
4,234
|
|
Total income (loss) from discontinued operations
|
|
|
1,113
|
|
|
|
(180
|
)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Net income
|
|
|
52,812
|
|
|
|
82,208
|
|
|
|
133,767
|
|
|
|
19,577
|
|
|
|
15,044
|
|
|
|
28,933
|
|
|
|
4,234
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
9
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended
December 31,
|
|
|
Three Months Ended
March 31,
|
|
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
2008
|
|
|
2008
|
|
|
2009
|
|
|
2009
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(UNAUDITED)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
RMB
|
|
|
RMB
|
|
|
$
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands, except share and
per share data)
|
|
|
Earnings per share (basic and diluted)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from continuing operations
|
|
|
—
|
|
|
|
2.75
|
|
|
|
4.46
|
|
|
|
0.65
|
|
|
|
0.50
|
|
|
|
0.96
|
|
|
|
0.14
|
|
Income from discontinued operations
|
|
|
—
|
|
|
|
(0.01
|
)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Net income
|
|
|
—
|
|
|
|
2.74
|
|
|
|
4.46
|
|
|
|
0.65
|
|
|
|
0.50
|
|
|
|
0.96
|
|
|
|
0.14
|
|
Weighted average number of basic and diluted shares outstanding
|
|
|
—
|
|
|
|
30,000,000
|
|
|
|
30,000,000
|
|
|
|
30,000,000
|
|
|
|
30,000,000
|
|
|
|
30,000,000
|
|
|
|
30,000,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of
December 31,
|
|
|
As of March 31,
|
|
|
|
|
|
|
2007
|
|
|
2008
|
|
|
2008
|
|
|
2009
|
|
|
2009
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(UNAUDITED)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
RMB
|
|
|
$
|
|
|
|
|
|
|
RMB
|
|
|
RMB
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
|
Consolidated Balance Sheet Data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
|
|
|
28,053
|
|
|
|
198,518
|
|
|
|
29,053
|
|
|
|
248,253
|
|
|
|
36,332
|
|
|
|
|
|
Total assets
|
|
|
420,243
|
|
|
|
538,086
|
|
|
|
78,749
|
|
|
|
585,792
|
|
|
|
85,731
|
|
|
|
|
|
Total current liabilities
|
|
|
110,316
|
|
|
|
94,393
|
|
|
|
13,814
|
|
|
|
113,165
|
|
|
|
16,562
|
|
|
|
|
|
Total shareholders’/owner’s equity
|
|
|
309,926
|
|
|
|
443,693
|
|
|
|
64,935
|
|
|
|
472,626
|
|
|
|
69,169
|
|
|
|
|
|
10
RISK
FACTORS
You should carefully consider the following risk factors
before you decide to buy our ADSs. You should also consider the
other information in this prospectus. This prospectus also
contains forward-looking statements that involve risks and
uncertainties. Our actual results could differ materially from
those anticipated in these forward-looking statements as a
result of certain factors, including the risks faced by us
described below and elsewhere in this prospectus.
Risks
Related to Our Business
If the
market for water treatment equipment does not grow at the rate
we expect or at all, our sales and profitability may be
materially and adversely affected.
We derive all of our revenue from sales of our products in
China. Our business’ development depends, in large part, on
continued growth in the demand for quality water treatment
equipment in China. Although this market has grown rapidly, the
growth may not continue at the same rate. The Freedonia Group, a
market research firm, projects demand for water treatment
products in China will increase nearly 15.5% per year through
2012. However, developments in our industry are, to a large
extent, outside of our control and any reduced demand for water
treatment equipment, any downturn or other adverse changes in
China’s economy could materially and adversely harm our
sales and profitability.
If we
fail to meet evolving customer demands and requirements for
water treatment equipment, including through product
enhancements or new product introductions, or if our products do
not compete effectively, our financial results may be materially
and adversely affected.
The market for water treatment equipment is characterized by
changing technologies, periodic new product introductions and
evolving customer and industry requirements, including solution
requirements for different contaminants or varying volumes of
water. Our competitors are continuously searching for more cost
effective and efficient water treatment methods and technologies
which, if successful, could render our products obsolete in
whole or in part. Our research and development efforts will
focus on developing new processes, applications and technologies
to enhance our existing products. These include automation of
our circulating water treatment equipment, ozone disinfection
products (such as large ozone generators), ultraviolet usage in
water treatment, sludge carbonization and desalination
membranes, internal designs for belt-type filter press and
high-performance aerators. If we fail to timely develop new
product enhancements and new products or if our products are
rendered obsolete, we may be unable to grow our revenue as
expected and may incur expenses relating to the development or
acquisition of new products and technologies that are not fully
offset by the revenue they generate, which could materially and
adversely affect our financial results.
We may
be unable to successfully expand our manufacturing capacity,
which could result in material delays, quality issues, increased
costs and loss of business opportunities, and if we fail to
accurately gauge demand for our products or our product and
customer initiatives fail, we may have overcapacity, which may
negatively impact our product margins and
profitability.
Many of our distributors aggressively bid for contracts to sell
our water treatment equipment to real property developers,
construction companies and municipalities. If a significant
number of our distributors successfully bid for or obtain such
contracts or projects, we may not have sufficient manufacturing
capacity to meet their increased demand for our products. We
plan to use a substantial
11
portion of our net proceeds from this offering to expand our
manufacturing capacity and upgrade existing facilities to meet
increasing demand. These projects may not be constructed on the
anticipated timetable or within budget. We may also experience
quality control issues as we implement these manufacturing
upgrades and ramp up production. Any material delay in
completing these projects, or any substantial increase in costs
or quality issues in connection with these projects, could
materially and adversely affect our business, financial
condition and results of operations, and result in a loss of
business opportunities. Also, if we fail to successfully gauge
distributor and end-user customer demand for our products or if
our products and customer initiatives fail, we may experience
overcapacity which may negatively impact our product margins and
profitability.
If we
fail to maintain or improve our market position or respond
successfully to changes in the competitive landscape, our
business, financial condition and results of operations may be
materially and adversely affected.
We operate in a highly competitive industry characterized by
rapid technological development and evolving industry standards.
Our competitors include a number of global and China-based
companies that produce and sell products similar to ours. We
compete with both major international conglomerates and local
companies in each of our product categories as follows:
|
|
|
|
•
|
Circulating Water Treatment
Equipment. Our electronic water conditioner
competes primarily with products from three other local
companies: Zhejiang De’an New Technology Development Co.
Ltd. (China), Jiangyin Jialong Environment Technology Co. Ltd.
(China) and Beijing Kejingyuan Huanyu Technology Development Co.
Ltd. (China). Our automatic filter competes primarily with
products from Claude Laval Co. (USA), FILTOMAT Ltd. (Israel) and
Shijiazhuang Yuquan Environmental Protection Equipment Co. Ltd.
(China).
|
|
|
•
|
Water Purification Equipment. Our ozone
generator competes primarily with products from Ozonia Ltd.
(Switzerland), WEDECO AG (Germany) and Shanghai Environmental
Protection Equipment Factory (China). Our industry pure water
equipment with EDI functions compete primarily with products
from GE Water & Process Technologies, CANPURE
Corporation (Canada) and Zhejiang Omex Environmental Engineering
Ltd. (a subsidiary of Dow Chemical).
|
|
|
•
|
Wastewater Treatment Equipment. Our
microporous aerator competes primarily with products from REHAU
(Germany), ITT (Sweden) and Zhejiang Yuhuan Jieda Water
Supply & Disposal Equipment Co. Ltd. (China). Our
belt-type thickener-filter press mono-block machine competes
primarily with products from Wuxi Tongyong Machinery Co. Ltd.
(China), DWT Project Co. Ltd. (Finland) and Passavant-Roediger
GmbH (Germany).
|
Some of our international competitors have stronger brand names,
greater access to capital, longer operating histories, longer or
more established relationships with their customers, stronger
research and development capabilities and greater marketing and
other resources than we do. Some of our domestic competitors
have stronger distribution networks and end-user customer bases,
better access to government authorities and stronger
industry-based backgrounds than us. Due to the evolving markets
in which we compete, additional competitors with significant
market presence and financial resources may enter those markets,
and thereby intensify competition. These competitors may be able
to reduce our market share by adopting more aggressive pricing
policies than we can or by developing technology and services
that gain wider market acceptance than our products. Existing
and potential competitors may also develop relationships with
our distributors in a manner that could significantly harm our
ability to sell, market and develop our products. As a result of
these competitive pressures and expected increases in
competition, we may price our products lower than our
competitors to maintain market
12
share. Any lower pricing may negatively affect our profit
margins. If we fail to maintain or improve our market position
or fail to respond successfully to changes in the competitive
landscape, our business, financial condition and results of
operations may be materially and adversely affected.
Our
future net income may fluctuate significantly from quarter to
quarter, which may cause volatility in the price of our
ADSs.
Our net income may fluctuate from quarter to quarter. For
example, our net income has fluctuated significantly from one
quarter to the next during the nine quarters in the period from
January 1, 2007 to March 31, 2009. Historically,
quarterly fluctuation has been primarily due to lower sales
during the winter months as construction activities decrease.
Our revenue has been the highest during the third quarter and
lowest during the first quarter and we expect our net income to
continue to fluctuate due to seasonality. We may also experience
losses in the future depending on a number of additional
factors, including the extent to which our products continue to
gain or maintain market acceptance, changes in our end-user
customers’ budgets, the rate and size of expenditures we
incur, product and price competition in our market and other
factors, many of which are outside our control. If our revenue
for a particular quarter is lower than we expect, we may be
unable to reduce our fixed costs and operating expenses for that
quarter by a corresponding amount, which would negatively impact
our net income for that quarter. You should not rely on
quarter-to-quarter comparisons of our net income as an
indication of our future performance. Our net income may fall
below the expectations of market analysts and investors in some
future periods and may not be consistent with our past results.
If this occurs, even temporarily, it could cause volatility in
the price of our ADSs.
Our
business is capital intensive and our growth strategy may
require additional capital which may not be available on
favorable terms or at all.
We may require additional cash resources due to changed business
conditions, implementation of our strategy to expand our
manufacturing capacity or potential investments or acquisitions
we may pursue. To meet our capital needs, we may sell additional
equity or debt securities or obtain additional credit
facilities. The sale of additional equity securities could
result in dilution of your holdings. The incurrence of
indebtedness would result in increased debt service obligations
and could require us to agree to operating and financial
covenants that would restrict our operations. Financing may not
be available in amounts or on terms acceptable to us, if at all.
Any failure by us to raise additional funds on terms favorable
to us, or at all, could limit our ability to expand our business
operations and could harm our overall business prospects.
We
depend on distributors for all of our revenue and will rely on
adding distributors for most of our revenue growth. Failure to
maintain relationships with our distributors or to otherwise
expand our distribution network could negatively affect our
ability to effectively sell our products.
We depend on distributors for all of our revenue. We do not have
long-term distribution agreements, and most distribution
agreements have one-year terms. As our existing distribution
agreements expire, we may be unable to renew with our desired
distributors on favorable terms or at all. We compete for
quality distributors with both international conglomerates and
local companies. Our competitors often enter into long-term
distribution agreements that effectively prevent their
distributors from selling our products. In addition, we rotate
our sales and marketing personnel among geographic areas
periodically to reduce our reliance on any single
employee’s relationship with distributors in any market.
This practice may make us less attractive to some distributors.
Any disruption of our distribution network,
13
including our failure to renew our existing distribution
agreements with our desired distributors, could negatively
affect our ability to effectively sell our products.
We may
be unable to effectively manage our distribution network, and
our business, prospects and brand may be materially and
adversely affected by our distributors’
actions.
Our ability to manage the activities of our independent
distributors is limited. Our distributors could take one or more
of the following actions, any of which may have a material
adverse effect on our business, prospects and brand:
|
|
|
|
•
|
sell products that compete with our products, including possibly
counterfeit products utilizing the “Duoyuan” name;
|
|
|
•
|
sell our products outside their designated territory, possibly
in violation of the distribution rights of other distributors;
|
|
|
•
|
fail to adequately promote our products;
|
|
|
•
|
fail to provide proper training and service to our end-user
customers; or
|
|
|
•
|
violate the anti-corruption laws of China, the United States or
other countries.
|
Failure to adequately manage our distribution network, or
non-compliance by distributors with our distribution agreements
could harm our corporate image among our end-user customers and
disrupt our sales, which could result in a failure to meet our
sales goals. Furthermore, we could be liable for actions taken
by our distributors, including any violations of applicable law
in connection with the marketing or sale of our products,
including China’s anti-corruption laws and the U.S. Foreign
Corrupt Practices Act, or the FCPA. In particular, we may be
held liable for actions taken by our distributors even though
all of our distributors are
non-U.S. companies
that are not subject to the FCPA. Our distributors may violate
these laws or otherwise engage in illegal practices with respect
to their sales or marketing of our products. If our distributors
violate these laws, we could be required to pay damages or
fines, which may materially and adversely affect our business,
financial condition and results of operations. In addition, our
brand and reputation, our sales activities or the price of our
ordinary shares and ADSs could be adversely affected if we
become the target of any negative publicity as a result of
actions taken by our distributors.
Our
failure to adequately protect, or uncertainty regarding the
validity, enforceability or scope of, our intellectual property
rights may undermine our competitive position, and litigation to
protect our intellectual property rights may be
costly.
We strive to strengthen and differentiate our product portfolio
by developing new and innovative products and product
improvements. As a result, we regard our intellectual property
as critical to our success. Implementation and enforcement of
intellectual property-related laws in China has historically
been lacking due primarily to ambiguities in Chinese
intellectual property law. Accordingly, protection of
intellectual property and proprietary rights in China may not be
as effective as in the United States or other countries.
Currently, we hold eight Chinese patents, two of which are for
inventions, five are for utility models and one is for design.
We also have three pending Chinese patent applications. We will
continue to rely on a combination of patents, trade secrets,
trademarks and copyrights to protect our intellectual property,
but this protection may be inadequate. For example, our pending
or future patent applications may not be approved or, if
allowed, they may not be of sufficient strength or scope to
protect our intellectual property. As a result, third parties
may use the technologies and proprietary processes that we have
developed and compete with us, which may negatively affect any
competitive advantage we enjoy, dilute our brand and materially
and adversely affect our results of operations.
14
In addition, policing the unauthorized use of our proprietary
technology can be difficult and expensive. Litigation may be
necessary to enforce our intellectual property rights and due to
the relative unpredictability of China’s legal system and
potential difficulties of enforcing a court’s judgment in
China, there is no guarantee litigation would result in an
outcome favorable to us. Furthermore, any such litigation may be
costly and may divert our management’s attention away from
our core business. An adverse determination in any lawsuit
involving our intellectual property is likely to jeopardize our
business prospects and reputation. We have no insurance coverage
against litigation costs so we would be forced to bear all
litigation costs if we cannot recover them from other parties.
All of the foregoing factors could harm our business, financial
condition and results of operations.
Third
party use of our trademarks and the “Duoyuan” name may
dilute their value and materially and adversely affect our
reputation, goodwill and brand.
On July 21, 2008 and August 21, 2008, respectively, we
transferred all our Duoyuan-related trademarks to Duoyuan
Investments Limited, our majority shareholder, which is wholly
owned by Mr. Guo, our chairman and chief executive officer. On
September 17, 2008 and May 27, 2009, respectively,
Duoyuan Investments Limited granted us an exclusive,
royalty-free perpetual license to use these trademarks for our
business. Duoyuan Investments Limited may use these trademarks
for other products, which may create confusion regarding our
brand. In addition, some of our distributors use the Chinese
characters of our name, “Duoyuan”, in their company
name and we may be unable to prevent such use. The use of
“Duoyuan” in their legal names by these distributors
may confuse our end-user customers who may associate our name
with the distributor and incorrectly believe our distributors
are our affiliates. Due to ambiguities in Chinese intellectual
property law, the cost of enforcement and our prior lack of
enforcement, we may be unable to prevent third parties from
using the Duoyuan trademark and our name, Duoyuan.
We may
be exposed to infringement or misappropriation claims by third
parties, which, if determined adversely against us, could
disrupt our business and subject us to significant liability to
third parties.
Our success largely depends on our ability to use and develop
our technology, know-how and product designs without infringing
upon the intellectual property rights of third parties. We may
be subject to litigation involving claims of patent infringement
or violation of other intellectual property rights of third
parties. The holders of patents and other intellectual property
rights potentially relevant to our product offerings may be
unknown to us or may otherwise make it difficult for us to
acquire a license on commercially acceptable terms.
There may also be technologies licensed to and relied on by us
that are subject to infringement or other corresponding
allegations or claims by third parties which may damage our
ability to rely on such technologies. In addition, although we
endeavor to ensure that companies that work with us possess
appropriate intellectual property rights or licenses, we cannot
fully avoid the risks of intellectual property rights
infringement created by suppliers of components used in our
products or by companies we work with in cooperative research
and development activities. Our current or potential
competitors, many of which have substantial resources and have
made substantial investments in competing technologies, may have
obtained or may obtain patents that will prevent, limit or
interfere with our ability to make, use or sell our products in
China or other countries. The defense of intellectual property
claims, including patent infringement suits, and related legal
and administrative proceedings can be both costly and time
consuming, and may significantly divert the efforts and
resources of our
15
technical and management personnel. Furthermore, an adverse
determination in any such litigation or proceeding to which we
may become a party could cause us to:
|
|
|
|
•
|
pay damage awards;
|
|
|
•
|
seek licenses from third parties;
|
|
|
•
|
pay additional ongoing royalties, which could decrease our
profit margins;
|
|
|
•
|
redesign our products; or
|
|
|
•
|
be restricted by injunctions.
|
These factors could effectively prevent us from pursuing some or
all of our business and result in our end-user customers or
potential end-user customers deferring, canceling or limiting
their purchase or use of our products, which may have a material
adverse effect on our business, financial condition and results
of operations.
We may
undertake acquisitions, which may have a material adverse effect
on our ability to manage our business, and may end up being
unsuccessful.
Our growth strategy may involve the acquisition of new
technologies, businesses, products or services or the creation
of strategic alliances in areas in which we do not currently
operate. These acquisitions could require that our management
develop expertise in new areas, manage new business
relationships and attract new types of customers. Furthermore,
acquisitions may require significant attention from our
management, and the diversion of our management’s attention
and resources could have a material adverse effect on our
ability to manage our business. We may also experience
difficulties integrating acquisitions into our existing business
and operations. Future acquisitions may also expose us to
potential risks, including risks associated with:
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the integration of new operations, services and personnel;
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unforeseen or hidden liabilities;
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the diversion of resources from our existing businesses and
technologies;
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our inability to generate sufficient revenue to offset the costs
of acquisitions; and
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potential loss of, or harm to, relationships with employees or
customers, any of which may have a material adverse effect on
our ability to manage our business.
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Failure
to manage our growth could strain our management, operational
and other resources, which may materially and adversely affect
our business, financial condition and results of
operations.
Our growth strategy includes increasing market penetration of
our existing products, developing new products, expanding our
product offerings and providing a comprehensive integrated set
of products. Pursuing these strategies has resulted in, and will
continue to result in, substantial demands on management
resources. In particular, the management of our growth will
require, among other things:
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continued enhancement of our research and development
capabilities;
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continued growth of our manufacturing capacity;
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stringent cost controls and sufficient liquidity;
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strengthening of financial and management controls;
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increased marketing, sales and sales support activities; and
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hiring and training of new personnel.
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We may not be able to effectively manage any expansion in one or
more of these areas, and any failure to do so could harm our
ability to maintain or increase revenue and operating results.
In addition, our growth may require us to make significant
capital expenditures or to incur other significant expenses. If
we are not able to manage our growth successfully, our business,
financial condition and results of operations may be materially
and adversely affected.
The
slowdown of China’s economy caused in part by the recent
challenging global economic conditions may adversely affect our
business, results of operations and financial
condition.
China’s economy has experienced a slowdown after the second
quarter of 2007, when the quarterly growth rate of China’s
gross domestic product reached 11.9%. A number of factors have
contributed to this slowdown, including appreciation of the
Renminbi, which has adversely affected China’s exports, and
tightening macroeconomic measures and monetary policies adopted
by the Chinese government aimed at preventing overheating of
China’s economy and controlling China’s high level of
inflation. The slowdown has been further exacerbated by the
challenging global economic conditions in the financial services
and credit markets, which in recent months has resulted in
extreme volatility and dislocation of the global capital and
credit markets.
It is uncertain how long the challenging global economic
conditions in the financial services and credit markets will
continue and how much of an adverse impact it will have on the
global economy in general and the Chinese economy specifically.
In response to the challenging global financial conditions, in
September 2008 the Chinese government began to loosen economic
measures and monetary policies by reducing interest rates and
decreasing the statutory reserve rates for banks. On
November 5, 2008, the State Council of China announced an
economic stimulus plan in the amount of $585 billion to
stimulate economic growth and bolster domestic demand. The
economic stimulus plan includes, among others, increased
spending on basic infrastructure construction projects for
water, electricity, gas and heat to improve the standard of
living in China and protect the environment. Although the
economic stimulus plan could generate increased demand for our
water treatment equipment, we cannot assure you that the
economic stimulus plan or various macroeconomic measures and
monetary policies adopted by the Chinese government to guide
economic growth and the allocation of resources will be
effective in sustaining the growth of the Chinese economy. The
slowdown of the Chinese economy could lead to a decrease in
business and construction activity nationwide, which could
reduce demand for our products and adversely affect our
business, results of operations and financial condition.
If we
fail to accurately project demand for our products, we may
encounter problems of inadequate supply or oversupply, which
would materially and adversely affect our business, financial
condition and results of operations, as well as damage our
reputation and brand.
Our distributors typically order our products on a purchase
order basis. In addition, our contracts with our distributors
are typically renewable on an annual basis. Our distributor
contracts contain annual sales targets for each distributor, and
we take such targets into account when we formulate our overall
operation plans. We project demand for our products based on
rolling projections from our distributors,
17
distributor inventory levels, and our understanding of
industrial policies and government plans for future residential
developments that may affect demand for water treatment
equipment. The varying sales and purchasing cycles of our
distributors, however, make it difficult for us to accurately
forecast future demand for our products.
If we overestimate demand, we may purchase more raw materials or
components than required. If we underestimate demand, our third
party suppliers may have inadequate raw material or product
component inventories, which could interrupt our manufacturing
and delay shipments, and could result in lost sales. In
particular, we are seeking to reduce our procurement and
inventory costs by matching our inventories closely with our
projected manufacturing needs and by deferring our purchase of
raw materials and components from time to time in anticipation
of supplier price reductions. As we seek to balance reduced
inventory costs and production flexibility, we may fail to
accurately forecast demand and coordinate our procurement and
production to meet demand on a timely basis. Our inability to
accurately predict and to timely meet our demand would
materially and adversely affect our business, financial
conditions and results of operations as well as damage our
reputation and brand.
If we
cannot obtain sufficient raw materials and components that meet
our production standards at a reasonable cost or at all, our
ability to produce and market our products, and thus our
business, could suffer.
The key raw materials and components used in the manufacturing
of our products are steel, rubber, resin and plastics,
standardized mechanical parts and electric machinery. We
purchase a small percentage of our electronic components from
suppliers who import these components. Our other raw materials
and components are purchased from Chinese subsidiaries of
foreign suppliers or local suppliers, each of whom manufacture
these components in China. We produce all other components
internally. We may experience a shortage in the supply of
certain raw materials and components in the future, and if any
such shortage occurs, our manufacturing capabilities and results
of operations could be negatively affected.
For 2006, 2007, 2008 and the three months ended March 31,
2009, purchases from our largest supplier accounted for 27.0%,
21.5%, 18.8% and 19.1%, respectively, of our total purchases of
raw materials and components. For the same periods, our ten
largest suppliers combined accounted for 70.3%, 69.5%, 77.6% and
77.4%, respectively, of our total purchases of raw materials and
components. As of March 31, 2009, our top three suppliers
accounted for 19.1%, 15.7% and 11.9% of our total purchases. If
any supplier is unwilling or unable to provide us with
high-quality raw materials and components in required quantities
and at acceptable costs, we may not be able to find alternative
sources on satisfactory terms in a timely manner, or at all. In
addition, some of our suppliers may fail to meet qualifications
and standards required by our customers now or in the future,
which could impact our ability to source raw materials and
components. Our inability to find or develop alternative supply
sources could result in delays or reductions in manufacturing
and product shipments. We may be required to redesign our
products to conform to the materials and components provided by
these alternative suppliers. Moreover, these suppliers may delay
shipments or supply us with inferior quality raw materials and
components that may adversely impact the performance of our
products. The costs of raw materials could increase and we may
not be able to pass these price increases on to our customers.
If any of these events occur, our ability to produce and market
our products, and thus our business could suffer.
18
Any
interruption in our manufacturing operations or production and
distribution processes could impair our financial performance
and negatively affect our brand.
Our manufacturing operations involve the coordination of raw
materials and components (some sourced from third parties),
internal production processes and external distribution
processes. While these operations are modified on a regular
basis in an effort to improve manufacturing and distribution
efficiency and flexibility, we may experience difficulties in
coordinating the various aspects of our manufacturing processes,
thereby causing downtime and delays. We manufacture, assemble
and store almost all of our products, as well as conduct some of
our primary research and development activities, at a principal
facility located in the Langfang Economic & Technical
Development Zone near Beijing, China. We do not maintain
back-up
facilities, so we depend on this facility for the continued
operation of our business. A natural disaster or other
unanticipated catastrophic event, including power interruptions,
water shortage, storms, fires, earthquakes, terrorist attacks
and wars, could significantly impair our ability to manufacture
our products and operate our business, as well as delay our
research and development activities. Our facility and certain
equipment located in this facility would be difficult to replace
and could require substantial replacement lead-time.
Catastrophic events may also destroy any inventory located in
our facility. The occurrence of such an event could materially
and adversely affect our business. In addition, any stoppage in
production, even if temporary, or delay in delivery to our
customers could severely affect our business or reputation. We
currently do not have business interruption insurance to offset
these potential losses and any interruption in our manufacturing
operations or production and distribution processes could impair
our financial performance and negatively affect our brand.
Our
insurance coverage may be inadequate to protect us against
losses.
Although we maintain property insurance coverage for our
facilities and certain equipment, we do not have any business
liability, loss of data or business interruption insurance
coverage for our operations in China. If any claims for injury
are brought against us, or if we experience any business
disruption, litigation or natural disaster, we might incur
substantial costs and diversion of resources.
Problems
with product quality or product performance could result in a
decrease in customers and revenue, unexpected expenses and loss
of market share.
Our operating results depend, in part, on our ability to deliver
quality products on a timely and cost effective basis. As our
products become more advanced, it may become more difficult to
maintain our quality standards. If we experience deterioration
in the performance or quality of any of our products, including
as a result of the expansion of our manufacturing capabilities,
it could result in delays in delivery, cancellations of orders
or customer returns and complaints, loss of goodwill and harm to
our brand and reputation. Furthermore, our products are
manufactured using raw materials and components that have been
produced by third parties, and when a problem occurs, it may be
difficult to identify the source of the problem. These problems
may lead to a decrease in customers and revenue, harm to our
brand, unexpected expenses, loss of market share, the incurrence
of significant repair costs, diversion of the attention of our
personnel from our product development efforts or customer
relation problems, any one of which may materially and adversely
affect our business, financial condition and results of
operations.
19
Our
products may become subject to recall in the event of defects or
other performance related issues.
Our products may become subject to recall and we may be at risk
for product recall costs which are costs incurred when, either
voluntarily or involuntarily, a product is recalled through a
formal campaign to solicit the return of specific products due
to a known or suspected performance defect. Costs typically
include the cost of the product, part or component being
replaced, the cost of the recall borne by our customers and
labor to remove and replace the defective part or component. Our
products have not been the subject of an open recall. If a
recall decision is made, we will need to estimate the cost of
the recall and record a charge to earnings in that period. In
making this estimate, judgment is required as to the quantity or
volume to be recalled, the total cost of the recall campaign,
the ultimate negotiated sharing of the cost between us and the
customer and, in some cases, the extent to which the supplier of
the part or component will share in the recall cost. As a
result, these estimates are subject to change. Excessive recall
costs or our failure to adequately estimate these costs may
negatively affect our operating results.
If our
end-user customers that use our products successfully assert
product liability claims against us due to defects in our
products, our results of operations may suffer and our
reputation may be harmed.
Our products are used for various purposes, such as treating
municipal sewage and industrial wastewater and purifying water
for food and beverage and pharmaceutical production. These uses
tend to affect large geographic areas and significant numbers of
people, and often have serious impact on the environment and
people’s health and safety and daily lives. Consequently,
the malfunctioning of our products could potentially cause
tremendous damage. If our products are not properly designed or
manufactured or if they do not perform adequately in the
treatment of water, we could be subject to claims for damages
based on theories of product liability and other legal theories.
The costs and resources to defend such claims could be
substantial and, if such claims are successful, we could be
responsible for paying some or all of the damages. We do not
have product liability insurance for our products. In addition,
negative publicity from such claims may also damage our
reputation, regardless of whether such claims are successful.
Any of these consequences resulting from defects in our products
would harm our results of operations, adversely affect our
safety reputation among customers and potential customers,
decrease our overall market share and increase our costs by
requiring us to take additional measures to ensure our safety
precautions are even more visible and effective.
Environmental
claims or failure to comply with any present or future
environmental regulations may require us to spend additional
funds and may harm our results of operations.
We are subject to environmental, health and safety laws and
regulations that affect our operations, facilities and products
in China. Any failure to comply with any present or future
environmental, health and safety laws and regulations could
result in the assessment of damages or imposition of fines
against us, suspension of production, cessation of our
operations or even criminal sanctions. New laws and regulations
could also require us to acquire costly equipment or to incur
other significant expenses. Our failure to control the use of,
or adequately restrict the discharge of, hazardous substances
could subject us to potentially significant monetary damages and
fines or suspension of our business operations, which may harm
our results of operations.
In connection with the construction of our Duoyuan Langfang
manufacturing facilities, which became operational in July 2000,
we obtained the required environmental protection assessment.
Pursuant to the Regulations of Hebei Province on the
Administration and Supervision of Environmental Pollution
Prevention, effective as of March 1, 2008, enterprises
discharging pollutants must obtain a pollutant
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discharging permit from relevant governmental authorities.
According to the attestation issued by the Environmental
Protection Bureau at Langfang Economic and Development Zone
dated May 27, 2009, Duoyuan Langfang does not discharge
waste water, exhausted gas, waste material or noise since its
start of operation and Duoyuan Langfang has obtained all
approvals and permits required by relevant environmental laws
and regulations. However, Duoyuan Langfang may discharge
pollutants in the future and, if so, we may be required to
obtain a pollutant discharging permit from the relevant
environmental protection authority. Any failure to timely obtain
this permit may result in us being reprimanded by the relevant
governmental authorities, which may result in a monetary fine in
an amount equal to three times any illegal gains, or RMB5,000 to
RMB10,000, if we have no illegal gains, subject to the
discretion of the governmental authorities. If we are deemed to
have materially violated the regulation regarding the discharge
of pollutants, the governmental authorities may order us to
rectify the situation of noncompliance within a time limit. If
more stringent regulations are adopted in the future, the
related compliance costs could be substantial. Any failure by us
to control the use of or to adequately restrict the discharge of
hazardous substances could subject us to potentially significant
monetary damages and fines or suspensions in our business
operations.
We may
not possess all of the licenses required to operate our
business, or we may fail to maintain the licenses we currently
hold. This could subject us to fines and other penalties, which
may have a material adverse effect on our business, financial
condition and results of operations.
We are required to hold a variety of permits and licenses to
operate our business in China. We may not possess all of the
permits and licenses required for all of our business
activities. Under PRC laws, public health permit is required for
products related to sanitation and safety of drinking water.
Duoyuan Beijing obtained a health permit from the Chinese
Ministry of Public Health for its Ultraviolet Water Purifier. We
have applied to update Duoyuan Beijing’s health permit to
list Duoyuan Langfang as the actual manufacturing enterprise of
the Ultraviolet Water Purifier. For certain of our water
purification treatment products, we have determined that a
public health permit is not required either because a permit is
not technically required because the water following related
treatment is not meant for human drinking consumption or the
related product is sold as part of an integrated solution and we
possess the requisite public health permit for some key part of
such integrated solution. If governmental officials do not agree
with these determinations, we may be required to apply for a
separate public health permit for some of our water purification
treatment products or some part of our integrated water
purification solution, to stop sales of the product pending
receipt of the permit or subject to fines or penalties of no
more than RMB30,000 for failure to possess the required permit.
In addition, there may be circumstances under which an approval,
permit or license granted by a governmental agency is subject to
change without substantial advance notice, and it is possible
that we could fail to obtain an approval, permit or license that
is required to expand our business as we intend. If we fail to
obtain or to maintain such permits or licenses or renewals are
granted with onerous conditions, we could be subject to fines
and other penalties and be limited in the number or the quality
of the products that we would be able to offer. As a result, our
business, financial condition and results of operations could be
materially and adversely affected.
We
depend heavily on key personnel, and the loss of key employees
and senior management could harm our business.
Our future success depends in significant part upon the
continued contributions of our key technical and senior
management personnel, including Messrs. Wenhua Guo, our
chairman and chief executive officer, Ronglin Qiao, our chief
operating officer and the general manager of our operating
subsidiary Duoyuan Beijing, and Lixin Wang, our chief technology
officer and the general manager of our operating subsidiary
Duoyuan Langfang. It also depends in significant part upon our
ability to attract
21
and retain additional qualified management, technical, sales and
marketing and support personnel for our operations. Competition
for such personnel is intense and we may fail to retain our key
personnel or fail to attract, assimilate or retain other
high-qualified personnel in the future. If we lose a key
employee, if a key employee fails to perform in his or her
current position or if we are not able to attract and retain
skilled employees as needed, our business could suffer. Turnover
in our senior management could significantly deplete
institutional knowledge held by our existing senior management
team and impair our operations, which could harm our business.
In addition, if any of these key personnel joins a competitor or
forms a competing company, we may lose some of our distributors
or end-user customers. In such cases, our profitability and
financial performance may be adversely affected. We have entered
into confidentiality and non-competition agreements with all of
these key personnel. However, if any disputes arise between
these key personnel and us, it is not clear, in light of
uncertainties associated with the Chinese legal system, what the
court decisions will be and the extent to which these court
decisions could be enforced in China, where all of these key
personnel reside and hold some of their assets. See
“—Risks Related to Doing Business in
China—Uncertainties with respect to the Chinese legal
system could limit the legal protections available to you and
us.”
Wenhua
Guo, our chairman and chief executive officer and 77.3%
beneficial owner of our ordinary shares, has substantial
influence over our company, and his interests may not be aligned
with the interests of our other shareholders.
Wenhua Guo, our chairman and chief executive officer,
beneficially owns 77.3% of our ordinary shares prior to this
offering, and he will beneficially own approximately 57.1% of
our ordinary shares following this offering, assuming no
exercise of the underwriters’ over-allotment option. As a
result, he has significant influence over our business,
including decisions regarding mergers, consolidations and the
sale of all or substantially all of our assets, election of
directors and other significant corporate actions. This
concentration of ownership may also have the effect of
discouraging, delaying or preventing a future change of control,
which in turn could prevent our shareholders from recognizing a
gain in the event that a favorable offer is extended and may
materially and adversely affect the market price of our ordinary
shares and ADSs.
Concurrent
positions held by Wenhua Guo, our chairman and chief executive
officer, with other businesses could impede his ability to
devote sufficient time to our business and could pose conflicts
of interest.
Wenhua Guo serves as chairman of Asian Financial, Inc., a public
company. He is also the beneficial owner of 100% of the equity
interest in our majority shareholder, Duoyuan Investments
Limited, which owns a controlling interest in Asian Financial,
Inc. Through its subsidiaries in China, Asian Financial, Inc. is
principally engaged in the manufacture and sale of offset
printing equipment to the Chinese market. Mr. Guo devotes
most of his business time to our affairs and the remainder of
his business time to the affairs of these printing
equipment-related companies. Mr. Guo’s decision-making
responsibilities for these printing equipment-related companies
are also in the areas of public relations, management of human
resources, risk management and strategic planning. As a result,
conflicts of interest may arise from time to time. We will
attempt to resolve any such conflicts of interest in our favor.
Additionally, even though Mr. Guo is accountable to us and
our shareholders as fiduciaries, which requires that he exercise
good faith and due care in handling our affairs, his existing
responsibilities to other entities may limit the amount of time
he can spend on our affairs.
22
The
termination and expiration or unavailability of preferential tax
treatments once available to us may have a material adverse
effect on our operating results.
Prior to January 1, 2008, entities established in China
were generally subject to a 30% state and 3% local enterprise
income tax rate. However, entities that satisfied certain
conditions enjoyed preferential tax treatment. In accordance
with the Foreign Invested Enterprise Income Tax Law, or FIE
Income Tax Law, which was effective until December 31,
2007, both Duoyuan Beijing and Duoyuan Langfang enjoyed
preferential income tax rates. See
“Regulation—Taxation.” Effective January 1,
2008, the PRC National People’s Congress enacted the PRC
Enterprise Income Tax Law, or the new EIT law. The new EIT law
imposes a single uniform income tax rate of 25% on all Chinese
enterprises, including foreign-invested enterprises, and
eliminates or modifies most of the tax exemptions, reductions
and preferential treatment available under the previous tax laws
and regulations. The preferential tax treatment enjoyed by
Duoyuan Beijing expired prior to the effective date of the new
EIT law. As a result, Duoyuan Beijing is subject to the uniform
income tax rate of 25%. The preferential tax treatment enjoyed
by Duoyuan Langfang expired at the end of 2008. As a result, the
tax rate applicable to Duoyuan Langfang increased from the rate
of 12.5% to the uniform rate of 25% in 2009. The expiration and
termination of such preferential tax treatment may have a
material adverse effect on our operating results in 2009.
Moreover, the preferential tax treatment Duoyuan Beijing enjoyed
included a tax holiday for which only manufacturing enterprises
were eligible. This tax holiday was approved by the relevant
local state tax bureau. Although we believe Duoyuan Beijing was
a qualified manufacturing enterprise, the definition of
manufacturing enterprise is unclear and subject to discretionary
interpretation and enforcement by the PRC authorities. If we are
deemed not qualified for prior periods, we may be required to
refund prior tax benefits received.
The
newly enacted Chinese enterprise income tax law will affect tax
exemptions on the dividends we receive and increase the
enterprise income tax rate applicable to us.
We are a holding company incorporated under the laws of the
British Virgin Islands. We conduct substantially all of our
business through our wholly owned Chinese subsidiaries and we
derive all of our income from these subsidiaries. Prior to
January 1, 2008, dividends derived by foreign legal persons
from business operations in China were not subject to the
Chinese enterprise income tax. However, such tax exemption
ceased after January 1, 2008 with the effectiveness of the
new EIT law.
Under the new EIT law, if we are not deemed to be a resident
enterprise for Chinese tax purposes, a withholding tax at the
rate of 10% would be applicable to any dividends paid by our
Chinese subsidiaries to us. However, if we are deemed to have a
“de facto management organization” in China, we would
be classified as a resident enterprise for Chinese tax purposes
and thus would be subject to an enterprise income tax rate of
25% on all of our income, including interest income on the
proceeds from this offering on a worldwide basis. At the
present, the Chinese tax authority has not issued any guidance
on the application of the new EIT law and its implementing
rules on non-Chinese enterprise or group enterprise controlled
entities. As a result, it is unclear what factors will be used
by the Chinese tax authorities to determine whether we are a
“de facto management organization” in China. However,
as substantially all members of our management team are located
in China, we may be deemed to be a resident enterprise and
therefore subject to an enterprise income tax rate of 25% on our
worldwide income, with the possible exclusion of dividends
received directly from another Chinese tax resident. As a result
of such changes, our historical operating results will not be
indicative of our operating results for future periods and the
value of our ordinary shares or ADSs may be adversely affected.
23
The
contractual arrangements entered into between our Chinese
subsidiaries or between us and one of our Chinese subsidiaries
and those arrangements entered into between us or one of our
Chinese subsidiaries and an entity affiliated with us may be
subject to audit or challenge by the Chinese tax authorities. A
finding that we, Duoyuan Beijing or Duoyuan Langfang owe
additional taxes could substantially reduce our net earnings and
the value of your investment.
Under Chinese laws and regulations, arrangements and
transactions among affiliated parties may be subject to audit or
challenge by the Chinese tax authorities. We could face material
and adverse tax consequences if the Chinese tax authorities
determine that the contractual arrangements between our Chinese
subsidiaries or between us and one of our Chinese subsidiaries
or those arrangements entered into between us or one of our
Chinese subsidiaries and an entity affiliated with us do not
represent arm’s-length prices and as a result, adjust any
of the income in the form of a transfer pricing adjustment. A
transfer pricing adjustment could, among other things, result in
a reduction of expense deductions for Chinese tax purposes
recorded by us or our Chinese subsidiaries or an increase in
taxable income, all of which could increase our tax liabilities.
In addition, the Chinese tax authorities may impose late payment
fees and other penalties on us or our Chinese subsidiaries for
under-paid taxes.
We may
be unable to ensure compliance with United States economic
sanctions laws, especially when we sell our products to
distributors over which we have limited control.
The U.S. Department of the Treasury’s Office of
Foreign Assets Control, or OFAC, administers certain laws and
regulations that impose penalties upon U.S. persons and, in
some instances, foreign entities owned or controlled by
U.S. persons, for conducting activities or transacting
business with certain countries, governments, entities or
individuals subject to U.S. economic sanctions, or
U.S. Economic Sanctions Laws. We will not use any proceeds,
directly or indirectly, from sales of our ADSs, to fund any
activities or business with any country, government, entity or
individual with respect to which U.S. persons or, as
appropriate, foreign entities owned or controlled by
U.S. persons, are prohibited by U.S. Economic
Sanctions Laws from conducting such activities or transacting
such business. However, we sell our products through independent
non-U.S. distributors
which are responsible for interacting with the end-users of our
products. Although none of these independent
non-U.S. distributors
are located in or conduct business with countries subject to
U.S. economic sanctions such as Cuba, Sudan, Iran, Syria
and Myanmar, and we may not be able to ensure that such
non-U.S. distributors
comply with any applicable U.S. Economic Sanctions Laws. As
a result of the foregoing, actions could be taken against us
that could materially and adversely affect our reputation and
have a material and adverse effect on our business, financial
condition, results of operations and prospects.
We
will incur increased costs as a result of being a public
company.
Upon completion of this offering, we will become a public
company and expect to incur significant legal, accounting and
other expenses that we did not incur as a private company.
Moreover, the Sarbanes-Oxley Act of 2002, as well as new rules
subsequently implemented by the Securities and Exchange
Commission and the New York Stock Exchange, have imposed
additional requirements on corporate governance practices of
public companies. We expect these new rules and regulations to
increase our legal and financial compliance costs and to make
some corporate activities more time-consuming and costly. For
example, as a result of becoming a public company, we will need
to add independent directors to our board and adopt policies
regarding internal controls and disclosure controls and
procedures. In addition, we will incur additional costs
associated with our public company reporting requirements. It
may also be difficult for us to attract and retain qualified
persons to serve on our board of directors due to increased
risks of liability to our directors under the new rules and
24
regulations. We are currently evaluating and monitoring
developments with respect to these new rules and regulations,
and we cannot predict or estimate with any degree of certainty
the amount or timing of additional costs we may incur.
Although our results of operations, cash flows and financial
condition reflected in our combined and consolidated financial
statements include all of the expenses allocable to our
business, because of the additional administrative and financial
obligations associated with operating as a publicly traded
company, they may not be indicative of the results of operations
that we would have achieved had we operated as a public entity
for all periods presented or of future results that we may
achieve as a publicly traded company with our current holding
company structure. Such variations may be material to our
business.
We may
be exposed to potential risks relating to our internal controls
over financial reporting and our ability to have those controls
attested to by our independent auditors.
Upon the completion of this offering, we will become a public
company in the United States that is or will be subject to, the
Sarbanes-Oxley Act of 2002. As directed by Section 404 of
the Sarbanes-Oxley Act of 2002, or SOX 404, the Securities and
Exchange Commission adopted rules requiring public companies to
include a report of management on the company’s internal
controls over financial reporting in their annual reports,
including
Form 20-F.
In addition, the independent registered public accounting firm
auditing a company’s financial statements must also attest
to and report on management’s assessment of the
effectiveness of the company’s internal controls over
financial reporting as well as the operating effectiveness of
the company’s internal controls. Under current law, we will
be required to include a management report beginning with our
annual report for the 2010 fiscal year. Our management may
conclude that our internal controls over our financial reporting
are not effective. Even if our management concludes that our
internal controls over financial reporting are effective, our
independent registered public accounting firm may still decline
to attest to our management’s assessment or may issue a
report that is qualified if it is not satisfied with our
controls or the level at which our controls are documented,
designed, operated or reviewed, or if it interprets the relevant
requirements differently from us. We can provide no assurance
that we will be in compliance with all of the requirements
imposed by SOX 404 or that we will receive a positive
attestation from our independent auditors. In the event we
identify significant deficiencies or material weaknesses in our
internal controls that we cannot remediate in a timely manner or
we are unable to receive a positive attestation from our
independent auditors with respect to our internal controls,
investors and others may lose confidence in the reliability of
our financial statements. Any of these possible outcomes could
result in an adverse reaction in the financial marketplace due
to a loss of investor confidence in the reliability of our
reporting processes, which could adversely affect the trading
price of our ADSs.
In the
course of preparing our combined and consolidated financial
statements for the years ended December 31, 2006, 2007 and
2008 and as of December 31, 2006, 2007 and 2008, several
material weaknesses, significant deficiencies and control
deficiencies have been identified. If we fail to achieve or
maintain an effective system of internal control over financial
reporting, our ability to accurately and timely report our
financial results or prevent fraud may be adversely
affected.
Prior to completion of this offering, we have been a private
company with limited accounting personnel and other resources
with which to address our internal control and procedures over
financial reporting. In preparing our combined and consolidated
financial statements, several material weaknesses, significant
deficiencies and control deficiencies have been identified, as
defined in the standards established by the U.S. Public
Company Accounting Oversight Board. The material weaknesses
identified in our 2008 audit related to our failure to implement
a month-end process to properly accrue
25
expenditures at period-end and record purchases and sales
following the closing of our books and proper review of these
items. Previously identified material weaknesses mainly related
to: (1) an inability to timely identify disputed balances
or unpaid aged balances of revenue and accounts receivable;
(2) differences and errors in the recording of cost of
revenue and inventory; (3) a lack of effective controls
over the financial reporting process due to an insufficient
complement of personnel with an appropriate level of accounting
knowledge, experience and training in the application of
U.S. GAAP commensurate with our financial reporting
requirements; and (4) inadequate retention and maintenance
of legal and accounting documents. The significant deficiencies
identified in our 2008 audit primarily related to
(1) failure to record inventory balances at the time of
delivery rather than after inspection and (2) sales tax
rebates paid without corresponding official receipts. Previously
observed significant deficiencies included (1) errors in
the classification of expenses and (2) related party
transactions not entered into on arms-length basis. To remedy
these weaknesses and deficiencies, we have adopted several
measures to improve our internal controls over financial
reporting. With respect to the recently identified weaknesses
and deficiencies, we are in the process of implementing
(1) month-end procedures to properly record and review
expenditures, accruals, purchases, and sales activities and
(2) procedures related to better record and track inventory
upon delivery and payment of sales rebates without corresponding
official receipts. With respect to the earlier weaknesses and
deficiencies, we communicate with our distributors on a monthly
basis to reconcile any outstanding receivables balances and
require them to clearly identify the invoice being paid when
sending in payments. This practice has remedied our past
inability to timely identify disputed or unpaid aged balances of
revenue and accounts receivable. To remedy the differences and
errors in the recording of cost of revenue and inventory, we
have assigned a raw material code to each individual raw
material part to correctly identify and value our inventory. We
also hired Stephen C. Park in June 2007 as our chief financial
officer. Mr. Park is experienced in U.S. GAAP and
Securities and Exchange Commission reporting and has been
training our accounting staff on the application of
U.S. GAAP. We have also established an archive room in our
corporate offices in Beijing to retain our legal and accounting
documents and have assigned an individual to organize and
maintain them. To remedy the previously identified significant
deficiencies, we now classify our expenses to conform to
U.S. GAAP and require that all related party transactions
be reviewed by our chief financial officer to determine whether
they are at arms-length before being executed. We are also in
the process of, among other things: (1) hiring additional
qualified accounting personnel with U.S. GAAP accounting
knowledge; (2) establishing an internal audit function; and
(3) supplementing and documenting our accounting policies
and procedures for use by our personnel (including policies and
procedures with respect to: recording and evaluating our
revenue; cost of revenue; accounts receivable; accounts payable
and inventory balances; our quarterly closing and inventory
valuation procedures; and our record and document retention and
maintenance). We are also interviewing outside consultants to
assist us, and our internal audit function, with the foregoing
activities and preparing for future SOX 404 compliance
matters. We will continue to implement measures to remedy these
material weaknesses and deficiencies in order to meet the
deadline imposed by SOX 404. However, if we fail to timely
achieve and maintain the adequacy of our internal controls, we
may not be able to conclude that we have effective internal
controls over financial reporting. Moreover, effective internal
controls over financial reporting are necessary for us to
produce reliable financial reports and are important to help
prevent fraud. As a result, our failure to achieve and maintain
effective internal controls over financial reporting could
result in the loss of investor confidence in the reliability of
our financial statements, which in turn could harm our business
and negatively impact the market price of our ordinary shares.
Furthermore, we anticipate that we will incur considerable costs
and use significant management time and other resources in an
effort to comply with SOX 404.
26
Risks
Related to Doing Business in China
Adverse
changes in political and economic policies of the Chinese
government could impede the overall economic growth of China,
which could reduce the demand for our products and have a
material adverse effect on our business and
prospects.
We conduct all of our operations and generate all of our sales
in China. Accordingly, our business, financial condition,
results of operations and prospects are affected significantly
by economic, political and legal developments in China. The
Chinese economy differs from the economies of most developed
countries in many respects, including:
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the higher level of government involvement;
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the early stage of development of the market-oriented sector of
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the rapid growth rate;
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the higher level of control over foreign exchange; and
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the allocation of resources.
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As the Chinese economy has been transitioning from a planned
economy to a more market-oriented economy, the Chinese
government has implemented various measures to encourage
economic growth and guide the allocation of resources. While the
Chinese economy has grown significantly in the past
30 years, the growth has been uneven geographically among
various sectors of the economy, and during different periods. We
cannot assure you that the Chinese economy will continue to
grow, or that if there is growth, such growth will be steady and
uniform, or that if there is a slowdown, such slowdown will not
have a negative effect on our business. For example, the Chinese
economy experienced high inflation in the second half of 2007
and the first half of 2008. China’s consumer price index
soared 7.9% during the six months ended June 30, 2008 as
compared to the same period in 2007. To combat inflation and
prevent the economy from overheating, the Chinese government
adopted a number of tightening macroeconomic measures and
monetary policies, including increasing interest rates, raising
statutory reserve rates for banks and controlling bank lending
to certain industries or economic sectors. However, due in part
to the challenging global economic conditions facing the
financial services and credit markets and other factors, the
growth rate of China’s gross domestic product has decreased
to 6.8% in the fourth quarter of 2008, down from 11.9% in the
second quarter of 2007. As a result, beginning in September
2008, among other measures, the Chinese government began to
loosen macroeconomic measures and monetary policies by reducing
interest rates and decreasing the statutory reserve rates for
banks. In addition, on November 5, 2008, the State Council
of China announced an economic stimulus plan in the amount of
$585 billion to stimulate economic growth and bolster
domestic demand. The economic stimulus plan includes, among
others, increased spending on basic infrastructure construction
projects for water, electricity, gas and heat to improve the
standard of living in China and protect the environment.
Although the economic stimulus plan could generate increased
demand for our water treatment equipment, we cannot assure you
that the economic stimulus plan or various macroeconomic
measures and monetary policies adopted by the Chinese government
to guide economic growth and the allocation of resources will be
effective in sustaining the growth of the Chinese economy.
The Chinese government will continue to exercise significant
control over economic growth in China through the allocation of
resources, controlling payment of foreign currency denominated
obligations, setting monetary policy and imposing policies that
impact particular industries or companies in different
27
ways. Any adverse change in the economic conditions or
government policies in China could have a material adverse
effect on the overall economic growth and the level of water
treatment investments and expenditures in China, which in turn
could lead to a reduction in demand for our products and
consequently have a material adverse effect on our business and
prospects.
Uncertainties
with respect to the Chinese legal system could limit the legal
protections available to you and us.
We are a holding company, and we conduct our business primarily
through our operating subsidiaries incorporated in China. We and
our operating subsidiaries are generally subject to laws and
regulations applicable to foreign investments in China and, in
particular, laws applicable to foreign-invested enterprises. The
Chinese legal system is based on written statutes, and prior
court decisions may be cited for reference, but have limited
precedential value. Since 1979, a series of new Chinese laws and
regulations have significantly enhanced the protections afforded
to various forms of foreign investments in China. However, since
the Chinese legal system continues to rapidly evolve, the
interpretations of many laws, regulations and rules are not
always uniform and enforcement of these laws, regulations and
rules involve uncertainties, which may limit legal protections
available to you and us. In addition, any litigation in China
may be protracted and result in substantial costs and diversion
of resources and management attention. In addition, all but two
of our directors are residents of China and not of the United
States, and substantially all the assets of these Chinese
persons are located outside the United States. As a result, it
could be difficult for investors to effect service of process in
the United States or to enforce a judgment obtained in the
United States against our Chinese officers, directors and
subsidiaries. There is also uncertainty as to whether the courts
in China would enforce judgments of United States courts against
us or our directors and officers based on the civil liabilities
provisions of the securities laws of the United States or any
other state, or adjudicate an original action brought in China
based upon the securities laws of the United States or any other
state.
The
Chinese government exerts substantial influence over the manner
in which we must conduct our business activities.
The Chinese government has exercised and continues to exercise
substantial control over virtually every sector of the Chinese
economy through regulation and state ownership. Our ability to
operate in China may be harmed by changes in its laws and
regulations, including those relating to taxation, import and
export tariffs, environmental regulations, land-use-rights,
property and other matters. We believe that our operations in
China are in material compliance with all applicable legal and
regulatory requirements. However, the central or local
governments of the jurisdictions in which we operate may impose
new, stricter regulations or interpretations of existing
regulations that would require additional expenditures and
efforts on our part to ensure our compliance with such
regulations or interpretations. Accordingly, government actions
in the future, including any decision not to continue to support
China’s economic reforms and to return to a more centrally
planned economy or regional or local variations in the
implementation of economic policies, could have a significant
effect on economic conditions in China or particular regions
thereof and could require us to divest ourselves of any interest
we then hold in Chinese properties or joint ventures.
Restrictions
on currency exchange may limit our ability to receive and use
our revenue effectively and limit the ability of our PRC
subsidiaries to obtain financing.
All of our revenues and expenses are denominated in Renminbi.
Under Chinese law, the Renminbi is currently convertible under
the “current account,” which includes dividends and
trade and service
28
related foreign exchange transactions, but not under the
“capital account,” which includes foreign direct
investment and loans. Currently, our Chinese operating
subsidiaries may purchase foreign currencies for settlement of
current account transactions, including payments of dividends to
us, without the approval of the State Administration of Foreign
Exchange, or SAFE, by complying with certain procedural
requirements. However, the relevant Chinese government
authorities may limit or eliminate our ability to purchase
foreign currencies in the future. Since a significant amount of
our future revenue will be denominated in Renminbi, any existing
and future restrictions on currency exchange may limit our
ability to utilize revenue generated in Renminbi to fund our
business activities outside China that are denominated in
foreign currencies.
Foreign exchange transactions by Chinese operating subsidiaries
under the capital account continue to be subject to significant
foreign exchange controls and require the approval of or need to
register with Chinese government authorities, including SAFE. In
particular, if our Chinese operating subsidiaries borrow foreign
currency through loans from us or other foreign lenders, these
loans must be registered with SAFE and if the loans exceed
certain borrowing limits, must be approved by SAFE. In addition,
if we finance the subsidiaries by means of additional capital
contributions, these capital contributions must be approved by
certain government authorities, including the Ministry of
Commerce, or their respective local counterparts. These
limitations could affect our Chinese operating
subsidiaries’ ability to obtain foreign exchange through
debt or equity financing.
Failure
to comply with Chinese regulations relating to the establishment
of offshore special purpose companies by Chinese residents may
subject our Chinese resident shareholders to personal liability,
limit our ability to acquire Chinese companies or to inject
capital into our Chinese subsidiaries, limit our Chinese
subsidiaries’ ability to distribute profits to us or
otherwise materially and adversely affect us.
The SAFE issued the Notice on Issues Relating to the
Administration of Foreign Exchange in Fund-Raising and Reverse
Investment Activities of Domestic Residents Conducted via
Offshore Special Purpose Companies in October 2005, which became
effective in November 2005, and an implementing rule in May
2007, collectively the SAFE Rules. According to the SAFE Rules,
Chinese residents, including both legal persons and natural
persons, who reside in China, are required to register with the
SAFE or its local branch before establishing or controlling any
company outside China, referred to in the SAFE Rules as an
“offshore special purpose company,” for the purpose of
financing that offshore company with their ownership interests
in the assets of or their interests in any Chinese enterprise.
In addition, a Chinese resident that is a shareholder of an
offshore special purpose company is required to amend its SAFE
registration with the local SAFE branch with respect to that
offshore special purpose company in connection with the
injection of equity interests or assets of a Chinese enterprise
in the offshore company or overseas fund raising by the offshore
company, or any other material change in the capital of the
offshore company, including any increase or decrease of capital,
transfer or swap of share, merger, division, long-term equity or
debt investment or creation of any security interest. The
registration and filing procedures under SAFE Rules are
prerequisites for other approval and registration procedures
necessary for capital inflow from the offshore entity, such as
inbound investments or shareholder loans, or capital outflow to
the offshore entity, such as the payment of profits or
dividends, liquidating distributions, equity sale proceeds, or
the return of funds upon a capital reduction. The SAFE Rules
retroactively required registration by March 31, 2006 of
direct or indirect investments previously made by Chinese
residents in offshore companies. If a Chinese shareholder with a
direct or indirect stake in an offshore parent company fails to
make the required SAFE registration, the Chinese subsidiaries of
such offshore parent company may be prohibited from making
distributions of profit to the offshore parent and from paying
the offshore parent proceeds from any reduction in capital,
share transfer or liquidation in respect of the Chinese
subsidiaries. Further, failure to comply with the various
29
SAFE registration requirements described above could result in
liability under Chinese law for violation of the relevant rules
relating to foreign exchange.
Currently, our majority shareholder is Duoyuan Investments
Limited, which is wholly owned by Wenhua Guo, our chairman and
chief executive officer and a Chinese resident as defined in the
SAFE Rules. Mr. Guo has registered with the relevant branch
of SAFE, as currently required, in connection with his interests
in us and our acquisitions of equity interests in our Chinese
subsidiaries. Furthermore, as required by SAFE Rules, our 2008
Omnibus Incentive Plan must be filed with the SAFE or its
authorized branch. Mr. Guo is in the process of updating
his SAFE registration to reflect his interest in Duoyuan
Investments Limited and filing the 2008 Omnibus Incentive Plan
with the SAFE. We attempt to comply and attempt to ensure that
Mr. Guo, who is subject to the SAFE Rules and other related
rules, complies with the relevant requirements of the SAFE
Rules. However, we cannot provide any assurances that his
registrations will fully comply with, and he will make all
necessary amendments to his registration to fully comply with,
all applicable registrations or approvals required by the SAFE
Rules. Moreover, because of uncertainty over how the SAFE Rules
will be interpreted and implemented, and how or whether the SAFE
Rules will apply to us, we cannot predict how it will affect our
business operations or future strategies. For example, our
present and prospective Chinese subsidiaries’ ability to
conduct foreign exchange activities, such as the remittance of
dividends and foreign currency denominated borrowings, may be
subject to compliance with the SAFE Rules by Mr. Guo or our
future Chinese resident shareholders. In addition, such Chinese
residents may not always be able to complete the necessary
registration procedures required by the SAFE Rules. We also have
little control over either our present or prospective direct or
indirect shareholders or the outcome of such registration
procedures. The failure or inability by Mr. Guo or our
future Chinese resident shareholders to comply with the SAFE
Rules, if SAFE requires it, may subject them to fines or other
sanctions and may also limit our ability to contribute
additional capital into or provide loans to our Chinese
subsidiaries (including using our net proceeds from this
offering for these purposes), limit our Chinese
subsidiaries’ ability to pay dividends to us, repay
shareholder loans or otherwise distribute profits or proceeds
from any reduction in capital, share transfer or liquidation to
us, or otherwise adversely affect us. Failure by our Chinese
resident shareholders or beneficial owners to comply with SAFE
filing requirements described above could result in liability to
these shareholders or our Chinese subsidiaries under Chinese
laws for evasion of applicable foreign exchange restrictions.
If the
China Securities Regulatory Commission, or CSRC, or another
Chinese regulatory agency, determines that CSRC approval is
required in connection with this offering, this offering may be
delayed or cancelled, or we may become subject to
penalties.
On August 8, 2006, six Chinese regulatory agencies,
including the Ministry of Commerce, the State Assets Supervision
and Administration Commission, the State Administration for
Taxation, the State Administration for Industry and Commerce,
CSRC and the SAFE, jointly issued the Regulation on Mergers and
Acquisitions of Domestic Companies by Foreign Investors, or the
New M&A Rule, which became effective on September 8,
2006. This new regulation, among other things, has certain
provisions that require offshore special purpose vehicles formed
for the purpose of acquiring Chinese domestic companies and
directly or indirectly established or controlled by Chinese
entities or individuals, to obtain the approval of the CSRC
prior to publicly listing their securities on an overseas stock
market. On September 21, 2006, the CSRC published on its
official website a notice specifying the documents and materials
that are required to be submitted for obtaining CSRC approval.
Although we acquired the equity interests in Duoyuan Beijing and
Duoyuan Langfang after the New M&A Rule became effective,
they were established as qualified foreign invested enterprises
prior to the effective date and we acquired such equity
interests from another offshore company. It is not clear how the
provisions in the new regulation regarding the offshore listing
and trading of the securities of a special purpose vehicle apply
to us. We believe, based on the interpretation of the new
regulation and the practice
30
experience of our Chinese legal counsel, Commerce &
Finance Law Offices, that CSRC approval is not required for this
offering and listing of our ADSs on the New York Stock Exchange.
Since the new regulation has only recently been adopted, there
remains some uncertainty as to how this regulation will be
interpreted or implemented. If the CSRC or another Chinese
regulatory agency subsequently determines that the CSRC’s
approval is required for this offering, we may face sanctions by
the CSRC or another Chinese regulatory agency. If this happens,
these regulatory agencies may impose fines and penalties on our
operations in China, limit our operating privileges in China,
delay or restrict the repatriation of our net proceeds from this
offering into China, restrict or prohibit payment or remittance
of dividends to us or take other actions that could have a
material adverse effect on our business, financial condition,
results of operations, reputation and prospects, as well as the
trading price of our ADSs. The CSRC or other Chinese regulatory
agencies may also take actions requiring us, or making it
advisable for us, to delay or cancel this offering before
settlement and delivery of the shares being offered by us.
We may
be unable to complete a business combination transaction
efficiently or on favorable terms due to complicated merger and
acquisition regulations which became effective on
September 8, 2006.
The New M&A Rule also governs the approval process by which
a foreign investor may participate in an acquisition of assets
or equity interests of a Chinese company. Depending on the
structure of the transaction, the new regulation will require
the investors to make a series of applications and supplemental
applications to the government agencies. In some instances, the
application process may require the presentation of economic
data concerning a transaction, including appraisals of the
target business and evaluations of the acquirer, which are
designed to allow the government to assess the transaction.
Government approvals will have expiration dates by which a
transaction must be completed and reported to the government
agencies. Compliance with the new regulations is likely to be
more time consuming and expensive than in the past and the
government can now exert more control over the combination of
two businesses. Accordingly, due to the new regulation, our
ability to engage in business combination transactions has
become significantly more complicated, time consuming and
expensive, and we may not be able to negotiate a transaction
that is acceptable to our shareholders or sufficiently protect
their interests in a transaction. The new regulation allows
Chinese government agencies to assess the economic terms of a
business combination transaction. Parties to a business
combination transaction may have to submit to the Ministry of
Commerce and other relevant government agencies an appraisal
report, an evaluation report and the acquisition agreement, all
of which form part of the application for approval, depending on
the structure of the transaction. The regulations also prohibit
a transaction at an acquisition price obviously lower than the
appraised value of the Chinese business or assets and in certain
transaction structures, require that consideration must be paid
within defined periods, generally not in excess of a year. The
regulation also limits our ability to negotiate various terms of
the acquisition, including aspects of the initial consideration,
contingent consideration, holdback provisions, indemnification
provisions and provisions relating to the assumption and
allocation of assets and liabilities. Transaction structures
involving trusts, nominees and similar entities are prohibited.
Therefore, such regulation may impede our ability to negotiate
and complete a business combination transaction on financial
terms that satisfy our investors and protect our investors
economic interests.
On July 1, 2007, our wholly owned subsidiaries, Duoyuan
Beijing and Duoyuan Langfang, each transferred their respective
50% equity interest in Huanan Duoyuan Water Supply Co. Ltd., or
Duoyuan Huanan, to Duoyuan Asian Water Inc., another offshore
company wholly owned by Wenhua Guo. We obtained the approval
from the Heilongjiang provincial investment promotion bureau for
this transaction. According to the New M&A Rule, this
transaction might require the approval of the Ministry of
Commerce. As the interpretation and implementation of the New
M&A Rule are unclear, if the approval of Ministry of
Commerce is required, the approval that Duoyuan Huanan has
obtained
31
may be deemed incomplete and the purchaser, namely Duoyuan Asian
Water Inc., may need to obtain further approval from the
Ministry of Commerce.
We may
be subject to fines and legal sanctions imposed by SAFE or other
Chinese government authorities if we or our Chinese employees
fail to comply with recent Chinese regulations relating to
employee share options or shares granted by offshore special
purpose companies or offshore listed companies to Chinese
citizens.
On December 25, 2006, the People’s Bank of China, or
PBOC, issued the Administration Measures on Individual Foreign
Exchange Control, and the corresponding Implementation Rules
were issued by SAFE on January 5, 2007. Both of these
regulations became effective on February 1, 2007. According
to these regulations, all foreign exchange matters relating to
employee stock holding plans, share option plans or similar
plans with PRC citizens’ participation require approval
from the SAFE or its authorized branch. On March 28, 2007,
the SAFE issued the Application Procedure of Foreign Exchange
Administration for Domestic Individuals Participating in
Employee Stock Holding Plan or Stock Option Plan of
Overseas-Listed Company, or the Stock Option Rule. Under the
Stock Option Rule, Chinese citizens who are granted share
options or shares by an offshore listed company are required,
through a Chinese agent or Chinese subsidiary of the offshore
listed company, to register with the SAFE and complete certain
other procedures. We and our Chinese employees who may be
granted share options or shares will be subject to the Stock
Option Rule when we become an offshore listed company. On
May 29, 2007, the SAFE issued an operating procedure for
the Circular on Foreign Exchange Issues Related to Equity
Finance and Return Investments by Domestic Residents through
Offshore Special Purpose Vehicles, or SAFE Notice No. 106.
Under SAFE Notice No. 106, employees stock holding plans of
offshore special purpose companies must be filed with the SAFE,
and employees share option plans of offshore special purpose
companies must be filed with the SAFE while applying for the
registration for the establishment of the offshore special
purpose company. After the employees exercise their options,
they must apply for the amendment to the registration with the
SAFE. If we or our Chinese employees fail to comply with these
regulations, we or our Chinese employees may be subject to fines
or other legal sanctions imposed by the SAFE or other Chinese
government authorities. See “Regulation—SAFE
regulations on overseas investment of Chinese residents and
employee share options or stock holding plans.”
Fluctuations
in exchange rates could adversely affect our business and the
value of our securities.
The value of our ADSs will be indirectly affected by the foreign
exchange rate between U.S. dollars and the Renminbi and
between those currencies and other currencies in which our
revenue may be denominated. Because all of our earnings and cash
assets are denominated in Renminbi and our proceeds from this
offering will be denominated in U.S. dollars, fluctuations
in the exchange rate between the U.S. dollar and the
Renminbi will affect the relative purchasing power of these
proceeds, as well as our financial results reported in
U.S. dollar terms without giving effect to any underlying
change in our business, financial condition or results of
operations. Fluctuations in the exchange rate will also affect
the relative value of any dividend we issue after this offering
that will be exchanged into U.S. dollars and earnings from,
and the value of, any U.S. dollar-denominated investments
we make in the future.
Since July 2005, the Renminbi has not been pegged to the
U.S. dollar. Although the People’s Bank of China
regularly intervenes in the foreign exchange market to prevent
significant short-term fluctuations in the exchange rate, the
Renminbi may appreciate or depreciate significantly in value
against the U.S. dollar in the medium to long term.
Moreover, it is possible that in the future the Chinese
32
authorities may lift restrictions on fluctuations in the
Renminbi exchange rate and lessen intervention in the foreign
exchange market.
Very limited hedging transactions are available in China to
reduce our exposure to exchange rate fluctuations. To date, we
have not entered into any hedging transactions in an effort to
reduce our exposure to foreign currency exchange risk. While we
may enter into hedging transactions in the future, the
availability and effectiveness of these transactions may be
limited, and we may not be able to successfully hedge our
exposure at all. In addition, our foreign currency exchange
losses may be magnified by Chinese exchange control regulations
that restrict our ability to convert Renminbi into foreign
currencies.
Currently, we purchase a small percentage of our electronic
components from suppliers who import these components. If the
U.S. dollar appreciates against the Renminbi, our costs
will increase. If we cannot pass the resulting cost increases on
to our customers, our profitability and operating results will
suffer.
We
rely principally on dividends and other distributions on equity
paid by our operating subsidiary to fund cash and financing
requirements, and limitations on the ability of our operating
subsidiary to pay dividends to us could have a material adverse
effect on our ability to conduct our business.
We are a holding company, and we rely principally on dividends
and other distributions on equity paid by our two wholly owned
Chinese operating subsidiaries, Duoyuan Beijing and Duoyuan
Langfang, for our cash and financing requirements, including the
funds necessary to pay dividends and other cash distributions to
our shareholders, service any debt we may incur and pay our
operating expenses. If either of our operating subsidiaries
incurs debt on its own behalf, the instruments governing the
debt may restrict its ability to pay dividends or make other
distributions to us. Furthermore, relevant Chinese laws and
regulations permit payments of dividends by each of our
operating subsidiaries only out of its retained earnings after
tax, if any, determined in accordance with Chinese accounting
standards and regulations.
Under Chinese laws and regulations, each of our operating
subsidiaries is required to set aside a portion of its net
income each year to fund certain statutory reserves. These
reserves, together with the registered equity, are not
distributable as cash dividends. As of December 31, 2006,
2007 and 2008 and as of March 31, 2009, the amount of these
restricted portions was approximately RMB11.4 million,
RMB20.3 million, RMB36.4 million ($5.3 million)
and RMB39.4 million ($5.8 million), respectively. As a
result of these Chinese laws and regulations, each of our
operating subsidiaries is restricted in its ability to transfer
a portion of its net assets to us whether in the form of
dividends, loans or advances. Limitations on the ability of our
operating subsidiaries to pay dividends to us could adversely
limit our ability to grow, make investments or acquisitions that
could be beneficial to our businesses, pay dividends, or
otherwise fund and conduct our business.
We
face risks related to health epidemics and other outbreaks that
may disrupt our operations and have a material adverse effect on
our business and results of operations.
Our business could be materially and adversely affected by the
effects of H1N1 flu (swine flu), avian flu, severe acute
respiratory syndrome or other epidemics or outbreaks. In April
2009, an outbreak of H1N1 flu (swine flu) first occurred in
Mexico and quickly spread to other countries, including the
U.S. and China. In the last decade, China has suffered
health epidemics related to the outbreak of avian influenza and
severe acute respiratory syndrome. Any prolonged occurrence or
recurrence of H1N1 flu (swine flu), avian flu, severe acute
respiratory syndrome or other adverse public health developments
in
33
China may have a material adverse effect on our business and
operations. These health epidemics could result in severe travel
restrictions and closures that would restrict our ability to
ship our products. Potential outbreaks could also lead to
temporary closure of our manufacturing facilities, our
suppliers’ facilities
and/or our
end-user customers’ facilities, leading to reduced
production, delayed or cancelled orders, and decrease in demand
for our products. Any future health epidemic or outbreaks that
could disrupt our operations
and/or
restrict our shipping abilities may have a material adverse
effect on our business and results of operations.
We
face risks related to natural disasters, terrorist attacks or
other events in China that may affect usage of public
transportation, which could have a material adverse effect on
our business and results of operations.
Our business could be materially and adversely affected by
natural disasters, terrorist attacks or other events in China.
For example, in early 2008, parts of China suffered a wave of
strong snow storms that severely impacted public transportation
systems. In May 2008, Sichuan Province in China suffered a
strong earthquake measuring approximately 8.0 on the Richter
scale that caused widespread damage and casualties. The May 2008
Sichuan earthquake may have a material adverse effect on the
general economic conditions in the areas affected by the
earthquake. In July 2008, explosive devices were detonated on
several buses in Kunming, Yunnan Province of China, which
resulted in disruptions to public transportation systems in
Kunming and casualties. Any future natural disasters, terrorist
attacks or other events in China could cause a reduction in
usage of, or other severe disruptions to, public transportation
systems and could have a material adverse effect on our business
and results of operations.
Risks
Related to Our ADSs and This Offering
An
active trading market for our ADSs may fail to develop or be
sustained, which may have a material adverse effect on the
market price and liquidity of our ADSs.
Prior to this initial public offering, there has been no public
market for our ordinary shares or ADSs. Our ADSs have been
approved for listing on the New York Stock Exchange. Our
ordinary shares will not be listed or quoted for trading on any
exchange. The initial public offering price for our ADSs was
determined by negotiations between us and the underwriters and
may not be indicative of the market price for our ADSs after the
initial public offering. We cannot predict the extent to which a
trading market for our ADSs will develop or how liquid that
market may become. If an active trading market for our ADSs does
not develop or is not sustained after this offering, the market
price and liquidity of our ADSs may be materially and adversely
affected.
The
market price of our ADSs is likely to be volatile, leading to
the possibility of their value being depressed at a time when
you want to sell your holdings.
The market prices for our ADSs is likely to be highly volatile
and may be subject to wide fluctuations in response to factors
including the following:
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our earnings releases, actual or anticipated changes in our
earnings, fluctuations in our operating results or our failure
to meet the expectations of financial market analysts and
investors;
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changes in financial estimates by us or by any securities
analysts who might cover our ADSs;
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speculation about our business in the press or the investment
community;
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significant developments relating to our relationships with our
customers or suppliers;
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stock market price and volume fluctuations of other publicly
traded companies and, in particular, those that are in the water
treatment or environmental technology industries;
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customer demand for our products;
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investor perceptions of the water treatment and environmental
technology industries in general and our company in particular;
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the operating and stock performance of comparable companies;
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general economic conditions and trends;
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major catastrophic events;
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announcements by us or our competitors of new products,
significant acquisitions, strategic partnerships or divestitures;
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changes in accounting standards, policies, guidance,
interpretation or principles;
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loss of external funding sources;
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expiration of
lock-up
agreements;
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sales of our ordinary shares or ADSs, including sales by our
directors, officers or significant shareholders; and
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additions or departures of key personnel.
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Securities class action litigation is often instituted against
companies following periods of volatility in their stock price.
This type of litigation could result in substantial costs to us
and divert our management’s attention and resources.
Moreover, securities markets may from time to time experience
significant price and volume fluctuations for reasons unrelated
to operating performance of particular companies. For example,
in early 2008, the securities markets experienced the largest
one-day fall
in world stock markets since September 2001. These market
fluctuations may adversely affect the price of our ADSs and
other interests in our company at a time when you want to sell
your interest in us.
Future
sales or perceived sales of our ordinary shares or ADSs could
depress the price of our ADSs.
We, our directors, executive officers and all of our existing
shareholders have agreed with the underwriters that, without the
prior written consent of Piper Jaffray, subject to certain
exceptions, neither we nor any of our directors, executive
officers and existing shareholders will, for a period of
180 days following the date of this prospectus, offer, sell
or contract to sell any of our ADSs, ordinary shares or
securities convertible into or exchangeable or exercisable for
any of our ADSs or ordinary shares. See
“Underwriting.” The ordinary shares and ADSs subject
to these
lock-up
agreements will
35
become eligible for sale in the public market upon expiration of
these
lock-up
agreements, subject to limitations imposed by Rule 144
under the Securities Act of 1933, as amended, or Securities Act.
See “Shares Eligible for Future Sales.” If the holders
of the ordinary shares or ADSs were to attempt to sell a
substantial amount of their holdings at once, the market price
of our ADSs could decline. Moreover, the perceived risk of this
potential dilution could cause shareholders to attempt to sell
their ordinary shares or ADSs and investors to short the stock,
a practice in which an investor sells shares that he or she does
not own at prevailing market prices, hoping to purchase shares
later at a lower price to cover the sale. As each of these
events would cause the number of ADSs being offered for sale to
increase, our ADSs’ market price would likely further
decline. All of these events could combine to make it very
difficult for us to sell equity or equity-related securities in
the future at a time and price that we deem appropriate.
In addition, all holders of our ordinary shares will, after the
completion of this offering and upon the expiration of the
lock-up
period, have the right to cause us to register the sale of those
shares under the Securities Act. Registration of these shares
under the Securities Act would result in these shares becoming
freely tradable without restriction under the Securities Act
immediately upon the effectiveness of that registration. Sales
of additional registered shares in the public market could cause
the price of our ADSs to decline. For a description of the
registration rights that we have granted, see “Description
of Share Capital—Registration Rights.”
We do
not intend to pay dividends on our ordinary shares for the
foreseeable future.
We have never declared or paid any cash dividends on our
ordinary shares. We intend to retain any future earnings to fund
the operation and expansion of our business and, therefore, we
do not anticipate paying cash dividends on our ordinary shares
in the foreseeable future.
Even
if we pay dividends or other distributions on our ordinary
shares, you may not receive them or any value for them if it is
illegal or impractical to make them available to
you.
The depositary of our ADSs has agreed to pay to you the cash
dividends or other distributions it or the custodian receives on
ordinary shares or other deposited securities after deducting
its fees, charge, and expenses and any taxes withheld, duties or
governmental charges. You will receive these distributions in
proportion to the number of ordinary shares your ADSs represent
as of the record date (which will be as close as practicable to
the record date for our ordinary shares). However, the
depositary is not responsible if it decides that it is illegal
or impractical to make a distribution available to any holders
of ADSs. For example, the depositary may determine that it is
not feasible to distribute certain property through the mail.
Additionally, the value of certain distributions may be less
than the cost of mailing them. In these cases, the depositary
may determine not to distribute such property. We have no
obligation to register under U.S. securities laws any ADSs,
ordinary shares, rights or other securities received through
such distributions. We also have no obligation to take any other
action to permit the distribution of ADSs, ordinary shares,
rights or anything else to holders of ADSs. This means that you
may not receive any distributions we make on our ordinary shares
or any value for them if it is illegal or impractical to make
them available to you. These restrictions may have a material
adverse effect on the value of your ADSs.
36
Your
right to participate in any future rights offerings may be
limited, which may cause dilution of your
holdings.
We may from time to time distribute rights to our shareholders,
including rights to acquire our securities. Under the deposit
agreement, the depositary will not offer you those rights unless
the distribution to ADS holders of both the rights and any
related securities is either registered under the Securities
Act, or exempt from registration under the Securities Act. We
are under no obligation to file a registration statement with
respect to any such rights or securities or to endeavor to cause
such a registration statement to be declared effective.
Moreover, we may not be able to establish an exemption from
registration under the Securities Act. Accordingly, you may be
unable to participate in our rights offerings and may experience
dilution in your holdings.
You
will experience immediate and substantial dilution in the net
tangible book value of ADSs purchased.
The initial public offering price per ADS is substantially
higher than the net tangible book value per ADS prior to this
offering. Therefore, when you purchase ADSs in this offering at
the initial public offering price of $16.00, you will incur
immediate dilution of $8.90 per ADS. See “Dilution.”
In addition, if we issue ordinary shares under our 2008 Omnibus
Incentive Plan, or additional ADSs, you will experience further
dilution. Ordinary shares issuable under our 2008 Omnibus
Incentive Plan may be issued at a purchase price on a per ADS
basis that is less than the initial public offering price per
ADS in this offering.
You
may not be able to exercise your right to vote.
As a holder of ADSs, you may only exercise the voting rights
with respect to the underlying ordinary shares in accordance
with the provisions of the deposit agreement. Under the deposit
agreement, you must vote by giving voting instructions to the
depositary. Upon receipt of your voting instructions, the
depositary will vote the underlying ordinary shares in
accordance with your instructions. Otherwise, you will not be
able to exercise your right to vote unless you withdraw the
shares. Under our fourth amended and restated memorandum and
articles of association, the minimum notice period required for
convening general shareholders’ meetings is seven days.
When a general shareholders’ meeting is convened, you may
not receive sufficient advance notice to withdraw the shares to
allow you to vote with respect to any specific matter. If we ask
for your instructions, the depositary will notify you of the
upcoming vote and will arrange to deliver our voting materials
to you. We cannot assure you that you will receive the voting
materials in time to ensure that you can instruct the depositary
to vote your ordinary shares. In addition, the depositary and
its agents are not responsible for failing to carry out voting
instructions or for the manner of carrying out voting
instructions. This means that you may not be able to exercise
your right to vote and the ordinary shares underlying your ADSs
may not be voted as you requested.
You
may be subject to limitations on transfer of your
ADSs.
Your ADSs represented by the ADRs are transferable on the books
of the depositary. However, the depositary may close its
transfer books at any time or from time to time when it deems
expedient in connection with the performance of its duties. In
addition, the depositary may refuse to deliver, transfer or
register transfers of ADSs generally when our books or the books
of the depositary are closed, or at any time if we or the
depositary thinks it advisable to do so because of any
requirement of law or of any government or governmental body, or
under any provision of the deposit agreement, or for any other
reason.
37
We may
be classified as a passive foreign investment company, which may
result in adverse U.S. federal income tax consequences to
U.S. holders of our ADSs or ordinary shares.
Depending on the value of our ordinary shares and ADSs and the
nature of our assets and income over time, we could be
classified as a passive foreign investment company or PFIC, for
U.S. federal income tax purposes. Based on our projections
of the value of our outstanding ordinary shares and ADSs during
the current taxable year, our use of the proceeds of the initial
public offering of our ADSs and other cash that we will hold and
generate in the ordinary course of our business throughout the
current taxable year, we do not expect to be a PFIC for the
taxable year 2009. However, there can be no assurance that we
will not be a PFIC for the taxable year 2009 or for any future
taxable year, as PFIC status is determined at the end of each
taxable year and depends on the composition of our assets and
income in such year. We will be considered a PFIC for any
taxable year if either (1) at least 75% of our gross income
for the taxable year is passive income or (2) at least 50%
of the value of our assets (based on an average of the quarterly
values of the assets during the taxable year) is attributable to
assets that produce or are held for the production of passive
income. The market value of our assets may be determined in
large part by the market price of our ADSs and ordinary shares,
which is likely to fluctuate after this offering and may
fluctuate considerably. If we were treated as a PFIC for any
taxable year during which a U.S. person held our ADS or
ordinary shares, certain adverse U.S. federal income tax
consequences could apply to such U.S. person. See
“Taxation—U.S. Federal Income Taxation—Passive
Foreign Investment Company.”
We may
use our net proceeds from this offering in ways with which you
may not agree.
We have considerable discretion in the application of our net
proceeds from this offering. You will not have the opportunity,
as part of your investment decision, to assess whether the
proceeds are being used in a manner agreeable to you. You must
rely on our judgment regarding the application of our net
proceeds from this offering. Our net proceeds may be used for
corporate purposes that do not improve our profitability or
increase the price of our ordinary shares or ADSs. Our net
proceeds may also be placed in investments that do not produce
income or that lose value.
As the
rights of shareholders under British Virgin Islands law differ
from those under U.S. law, you may have fewer protections as a
shareholder.
Our corporate affairs will be governed by our fourth amended and
restated memorandum and articles of association, the BVI
Business Companies Act, 2004, or the BVI Act, of the British
Virgin Islands and the common law of the British Virgin Islands.
The rights of shareholders to take legal action against our
directors, actions by minority shareholders and the fiduciary
responsibilities of our directors under British Virgin Islands
law are to a large extent governed by the common law of the
British Virgin Islands and by the BVI Act. The common law of the
British Virgin Islands is derived in part from comparatively
limited judicial precedent in the British Virgin Islands as well
as from English common law, which has persuasive, but not
binding, authority on a court in the British Virgin Islands. The
rights of our shareholders and the fiduciary responsibilities of
our directors under British Virgin Islands law are not as
clearly established as they would be under statutes or judicial
precedents in some jurisdictions in the United States. In
particular, the British Virgin Islands has a less developed body
of securities laws as compared to the United States, and some
states (such as Delaware) have more fully developed and
judicially interpreted bodies of corporate law.
As a result of all of the above, holders of our ADSs may have
more difficulty in protecting their interests through actions
against our management, directors or major shareholders than
they would as shareholders of a U.S. company. For a
discussion of significant differences between the provisions of
the
38
BVI Act and the laws applicable to companies incorporated in the
United States and their shareholders, see “Description of
Share Capital—Differences in Corporate Law.”
British
Virgin Islands companies may not be able to initiate shareholder
derivative actions, thereby depriving shareholders of the
ability to protect their interests.
British Virgin Islands companies may not have standing to
initiate a shareholder derivative action in a federal court of
the United States. The circumstances in which any such action
may be brought, and the procedures and defenses that may be
available in respect to any such action, may result in the
rights of shareholders of a British Virgin Islands company being
more limited than those of shareholders of a company organized
in the United States. Accordingly, shareholders may have fewer
alternatives available to them if they believe that corporate
wrongdoing has occurred. The British Virgin Islands courts are
also unlikely to recognize or enforce against us judgments of
courts in the United States based on certain liability
provisions of U.S. securities law; and to impose
liabilities against us, in original actions brought in the
British Virgin Islands, based on certain liability provisions of
U.S. securities laws that are penal in nature. There is no
statutory recognition in the British Virgin Islands of judgments
obtained in the United States, although the courts of the
British Virgin Islands will generally recognize and enforce the
non-penal judgment of a foreign court of competent jurisdiction
without retrial on the merits. This means that even if
shareholders were to sue us successfully, they may not be able
to recover anything to make up for the losses suffered.
The
laws of the British Virgin Islands provide little protection for
minority shareholders, so minority shareholders will have little
or no recourse if the shareholders are dissatisfied with the
conduct of our affairs.
Under the law of the British Virgin Islands, there is little
statutory law for the protection of minority shareholders other
than the provisions of the BVI Act dealing with shareholder
remedies. The principal protection under statutory law is that
shareholders may bring an action to enforce the constituent
documents of the corporation, our fourth amended and restated
memorandum and articles of association. Shareholders are
entitled to have the affairs of the company conducted in
accordance with the general law and the articles and memorandum.
There are common law rights for the protection of shareholders
that may be invoked, largely dependent on English company law,
since the common law of the British Virgin Islands for business
companies is limited. Under the general rule pursuant to English
company law known as the rule in Foss v. Harbottle,
a court will generally refuse to interfere with the management
of a company at the insistence of a minority of its shareholders
who express dissatisfaction with the conduct of the
company’s affairs by the majority or the board of
directors. However, every shareholder is entitled to have the
affairs of the company conducted properly according to law and
the constituent documents of the corporation. As such, if those
who control the company have persistently disregarded the
requirements of company law or the provisions of the
company’s memorandum and articles of association, then the
courts will grant relief. Generally, the areas in which the
courts will intervene are the following: (1) an act
complained of which is outside the scope of the authorized
business or is illegal or not capable of ratification by the
majority; (2) acts that constitute fraud on the minority
where the wrongdoers control the company; (3) acts that
infringe on the personal rights of the shareholders, such as the
right to vote; and (4) where the company has not complied
with provisions requiring approval of a special or extraordinary
majority of shareholders, which are more limited than the rights
afforded minority shareholders under the laws of many states in
the United States.
39
SPECIAL
NOTE REGARDING FORWARD-LOOKING STATEMENTS
This prospectus contains forward—looking statements,
principally in the sections entitled “Summary,”
“Risk Factors,” “Use of Proceeds,”
“Management’s Discussion and Analysis of Financial
Condition and Results of Operations” and
“Business.” Generally, you can identify these
statements because they include words and phrases like
“expect,” “estimate,”
“anticipate,” “predict,”
“believe,” “plan,” “will,”
“should,” “intend,” and similar expressions
and variations. These statements are only predictions. Although
we do not make forward-looking statements unless we believe we
have a reasonable basis for doing so, we cannot guarantee their
accuracy, and actual results may differ materially from those we
anticipated due to a number of uncertainties, many of which
cannot be foreseen. You should not place undue reliance on these
forward-looking statements, which apply only as of the date of
this prospectus. Our actual results could differ materially from
those anticipated in these forward-looking statements for many
reasons, including, among others, the risks we face that are
described in the section entitled “Risk Factors” and
elsewhere in this prospectus.
We believe it is important to communicate our expectations to
our investors. There may be events in the future, however, that
we are unable to predict accurately or over which we have no
control. The risk factors listed on the previous pages, as well
as any cautionary language in this prospectus, provide examples
of risks, uncertainties and events that may cause our actual
results to differ materially from the expectations we describe
in our forward-looking statements. Before you invest in our
ADSs, you should be aware that the occurrence of the events
described in the previous risk factors and elsewhere in this
prospectus could negatively impact our business, operating
results, financial condition and ADS price.
We have based these forward-looking statements largely on our
current expectations and projections about future events and
financial trends that we believe may affect our financial
condition, results of operations, business strategy and
financial needs. These forward-looking statements include,
without limitation, statements relating to:
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our goals and strategies;
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our future business development, results of operations and
financial condition;
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our ability to maintain a strong relationship with any
particular distributor or end-user customer or to attract new
distributors and end-user customers;
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our ability to control our operating costs and expenses;
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our potential need for additional capital and the availability
of such capital;
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our planned use of proceeds, including our planned expansion of
manufacturing capacity and manufacturing upgrades;
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changes in our management team and other key personnel;
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introduction by our competitors of new or enhanced water
treatment equipment products or services;
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the effect of competition on demand for and prices of our
services and products;
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fluctuations in general economic conditions;
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Chinese government policies relating to the environment and
water treatment sectors;
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Chinese tax policies and regulations; and
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expected growth and change in the environmental and water
treatment industry in China.
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This prospectus also contains data related to the water
treatment sector in China and broad macroeconomic factors that
we believe drive the growth of our industry. These market data
and industry statistics, based on independent industry
publications and other publicly available information, includes
projections that are based on a number of assumptions. The water
treatment sector in China may not expand at the rates projected
by the market data, or at all. The failure of the market to grow
at the projected rates may have a material adverse effect on our
business and the market price of our ADSs. In addition, the
complex and changing nature of the environmental and water
treatment industry in China, and the broad macroeconomic factors
discussed in this prospectus, subjects any projections or
estimates relating to the growth prospects or future conditions
of our market to significant uncertainties. If any one or more
of the assumptions underlying the market data proves to be
incorrect, actual results may differ from the projections based
on these assumptions. You should not place undue reliance on
these forward-looking statements.
The forward-looking statements contained in this prospectus
speak only as of the date of this prospectus or, if obtained
from third-party studies or reports, the date of the
corresponding study or report, and are expressly qualified in
their entirety by the cautionary statements in this prospectus.
Since we operate in an emerging and evolving environment and new
risk factors emerge from time to time, you should not rely upon
forward-looking statements as predictions of future events.
Except as otherwise required by the securities laws of the
United States, we undertake no obligation to update or revise
any forward-looking statements, whether as a result of new
information, future events or otherwise, to reflect events or
circumstances after the date of this prospectus or to reflect
the occurrence of unanticipated events. All forward-looking
statements contained in this prospectus are qualified by
reference to this cautionary statement.
41
USE OF
PROCEEDS
Our net proceeds from this offering will be approximately
$80.1 million after deducting underwriting discounts and
commissions and estimated offering expenses payable by us. If
the underwriters exercise their over-allotment option in full,
our net proceeds will be approximately $92.4 million. We
intend to use our net proceeds from this offering as follows:
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approximately $25 million to improve and upgrade our
existing manufacturing facilities and production lines;
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approximately $45 million to build new manufacturing
facilities and production lines to produce new water treatment
products;
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approximately $10 million to build a research and
development laboratory; and
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the balance for general corporate purposes.
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We may also use our net proceeds from this offering to fund
potential acquisitions of complementary businesses as such
opportunities may arise from time to time, although we do not
presently have specific plans and are not currently engaged in
any discussions or negotiations with respect to any such
transactions. We intend to use the remaining net proceeds from
this offering for general corporate purposes, which may include
expanding our sales efforts, opening new offices and developing
new products and services. Management has not determined the
specific allocation of our net proceeds from this offering and
will have broad discretion in the allocation of our net proceeds.
Depending on future events and other changes in the business
climate, we may determine at a later time to use our net
proceeds for different purposes. Pending their use, our net
proceeds from this offering will be invested in interest bearing
debt instruments or bank deposits. These investments may have a
material adverse effect on the U.S. federal income tax
consequences of your investment in our ADSs. It is possible that
we may become a passive foreign investment company for
U.S. federal tax purposes, which could result in negative
tax consequences for you. For a more detailed discussion of
these consequences, see “Taxation—United States
Federal Income Taxation—Passive Foreign Investment
Company.” Also see “Risk Factors—Risks Related to
Our ADSs and This Offering—We may be classified as a
passive foreign investment company, which could result in
adverse U.S. federal income tax consequences to
U.S. holders of our ADSs or ordinary shares.”
42
DIVIDEND
POLICY
We have not declared or paid any dividends on our ordinary
shares and we do not anticipate paying any cash dividends in the
near future. The timing, amount and form of future dividends, if
any, will depend, among other things, on our future results of
operations and cash flows, our general financial condition and
future prospects, our capital requirements and surplus,
contractual restrictions, the amount of distributions, if any,
received by us from our Chinese subsidiaries, and other factors
deemed relevant by our board of directors. Any future dividends
on our ordinary shares would be declared by and subject to the
discretion of our board of directors.
Holders of our ADSs will be entitled to receive dividends, if
any, subject to the terms of the deposit agreement, to the same
extent as holders of ordinary shares, less the fees and expenses
payable under the deposit agreement, and after deduction of any
applicable taxes. See “Description of American Depositary
Shares.”
43
EXCHANGE
RATE INFORMATION
The following table sets forth the noon buying rates for
U.S. dollars in effect in New York City for cable transfers
of Renminbi as certified for customs purposes by the Federal
Reserve Bank of New York, for the periods indicated.
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Renminbi per U.S. Dollar Noon
Buying Rate
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Average
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High
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Low
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Period-End
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Year ended December 31,
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2004(1)
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8.2768
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8.2774
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8.2764
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8.2765
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2005(1)
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8.1826
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8.2765
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8.0702
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|
|
8.0702
|
|
2006(1)
|
|
|
7.9579
|
|
|
|
8.0702
|
|
|
|
7.8041
|
|
|
|
7.8041
|
|
2007(1)
|
|
|
7.5806
|
|
|
|
7.8127
|
|
|
|
7.2946
|
|
|
|
7.2946
|
|
2008(1)
|
|
|
6.9193
|
|
|
|
7.2946
|
|
|
|
6.7800
|
|
|
|
6.8225
|
|
2009(1)(2)
|
|
|
6.8324
|
|
|
|
6.8470
|
|
|
|
6.8180
|
|
|
|
—
|
|
For the months of
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
November 2008
|
|
|
6.8281
|
|
|
|
6.8373
|
|
|
|
6.8220
|
|
|
|
6.8254
|
|
December 2008
|
|
|
6.8539
|
|
|
|
6.8842
|
|
|
|
6.8225
|
|
|
|
6.8225
|
|
January 2009
|
|
|
6.8360
|
|
|
|
6.8403
|
|
|
|
6.8225
|
|
|
|
6.8392
|
|
February 2009
|
|
|
6.8363
|
|
|
|
6.8470
|
|
|
|
6.8241
|
|
|
|
6.8395
|
|
March 2009
|
|
|
6.8360
|
|
|
|
6.8438
|
|
|
|
6.8240
|
|
|
|
6.8329
|
|
April 2009
|
|
|
6.8304
|
|
|
|
6.8361
|
|
|
|
6.8180
|
|
|
|
6.8180
|
|
May 2009
|
|
|
6.8235
|
|
|
|
6.8326
|
|
|
|
6.8176
|
|
|
|
6.8278
|
|
June(2)
|
|
|
6.8337
|
|
|
|
6.8371
|
|
|
|
6.8264
|
|
|
|
6.8360
|
|
|
|
(1) |
The average rate of exchange is calculated using the average of
the exchange rates on the last day of each month during the
period.
|
|
|
(2) |
Through June 19, 2009.
|
We publish our financial statements in Renminbi. This prospectus
contains translations of Renminbi amounts into U.S. dollars
at specified rates solely for the convenience of the reader.
Unless otherwise noted, all translations from Renminbi to
U.S. dollars were made at the noon buying rate in New York
City for cable transfers in Renminbi per U.S. dollar as
certified for customs purposes by the Federal Reserve Bank of
New York, as of March 31, 2009, which was RMB6.8329 to
$1.00. No representation is made that the Renminbi amounts
referred to in this prospectus could have been or could be
converted into U.S. dollars at any particular rate or at
all.
Since July 2005, the Renminbi has not been pegged solely to the
U.S. dollar. Instead, it is pegged against a basket of
currencies, determined by the People’s Bank of China,
against which it can rise or fall by as much as 0.5% each day.
The Renminbi may appreciate or depreciate significantly in value
against the U.S. dollar in the future. See “Risk
Factors—Risks Related to Doing Business in
China—Fluctuations in exchange rates could adversely affect
our business and the value of our securities.”
44
CAPITALIZATION
The following table sets forth our capitalization as of
March 31, 2009:
|
|
|
|
•
|
on an actual basis; and
|
|
|
•
|
on a pro forma basis, to give effect to the issuance and sale of
5,500,000 ADSs in this offering at the initial public
offering price of $16.00 per ADS, assuming the underwriters do
not exercise their over-allotment option, and after deducting
underwriting discounts and commissions and estimated offering
expenses.
|
You should read this table together with our combined and
consolidated financial statements and related notes included
elsewhere in this prospectus and “Management’s
Discussion and Analysis of Financial Condition and Results of
Operations.”
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of March 31,
2009
|
|
|
|
Actual
|
|
|
Pro Forma
|
|
|
|
RMB
|
|
|
$
|
|
|
RMB
|
|
|
$
|
|
|
|
(in thousands, except share
data)
|
|
|
Notes payable
|
|
|
20,000
|
|
|
|
2,927
|
|
|
|
20,000
|
|
|
|
2,927
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shareholders’ equity
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Ordinary shares, US$0.000033 par value: 1,500,000,000 shares
authorized, 30,000,000 shares issued and outstanding,
actual; 1,500,000,000 shares authorized, 42,052,631 shares
issued and outstanding, pro forma;
|
|
|
7
|
|
|
|
1
|
|
|
|
9
|
|
|
|
1
|
|
Additional paid-in capital
|
|
|
132,456
|
|
|
|
19,385
|
|
|
|
679,894
|
|
|
|
99,503
|
|
Statutory reserves
|
|
|
39,406
|
|
|
|
5,767
|
|
|
|
39,406
|
|
|
|
5,767
|
|
Retained earnings
|
|
|
300,757
|
|
|
|
44,016
|
|
|
|
300,757
|
|
|
|
44,016
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total shareholders’ equity
|
|
|
472,626
|
|
|
|
69,169
|
|
|
|
1,020,066
|
|
|
|
149,287
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total capitalization
|
|
|
492,626
|
|
|
|
72,096
|
|
|
|
1,040,066
|
|
|
|
152,214
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
On or prior to the completion of this offering we will issue
1,052,631 fully vested ordinary shares to certain employees,
including members of our executive management team, but
excluding our chief executive officer and chief financial
officer, pursuant to our 2008 Omnibus Incentive Plan.
On the date of this prospectus, we granted Stephen C. Park,
our chief financial officer, an option to purchase up to
300,000 ordinary shares at the initial public offering
price. One quarter of these options vested on June 24,
2009, with the remainder of the options vesting ratably on a
monthly basis through June 24, 2012.
45
DILUTION
If you invest in our ADSs, your interest will be diluted to the
extent of the difference between the initial public offering
price per ADS and our net tangible book value per ADS after this
offering. Dilution results from the fact that the initial public
offering price per ordinary share is substantially in excess of
the book value per ordinary share attributable to the existing
shareholders for our presently outstanding ordinary shares.
Our net tangible book value as of March 31, 2009 was
approximately $69.2 million, or $2.31 per ordinary
share and $4.61 per ADS. Net tangible book value represents the
amount of our total consolidated tangible assets, minus the
amount of our total consolidated liabilities. Without taking
into account any other changes in such net tangible book value
after March 31, 2009, other than to give effect to
(i) the grant of 1,052,631 fully vested ordinary shares to
certain employees, including members of our executive management
team, but excluding our chief executive officer and chief
financial officer, on or prior to the completion of this
offering under our 2008 Omnibus Incentive Plan, and
(ii) our sale of the ADSs offered in this offering, at the
initial public offering price of $16.00 per ADS, and after
deduction of underwriting discounts and commissions and
estimated offering expenses of this offering payable by us, our
adjusted net tangible book value as of March 31, 2009 would
have increased to $149.3 million, or $3.55 per ordinary
share and $7.10 per ADS. This represents an immediate increase
in net tangible book value of $1.24 per ordinary share and $2.49
per ADS, to the existing shareholders and an immediate dilution
in net tangible book value of $4.45 per ordinary share and $8.90
per ADS, to investors purchasing ADSs in this offering. The
following table illustrates such per share dilution:
|
|
|
|
|
Initial public offering price per ordinary share
|
|
$
|
8
|
.00
|
Initial public offering price per ADS
|
|
$
|
16
|
.00
|
Net tangible book value per ordinary share as of March 31,
2009
|
|
$
|
2
|
.31
|
Increase in net tangible book value per ordinary share
attributable to this offering
|
|
$
|
1
|
.24
|
Pro forma net tangible book value per ordinary share after
giving effect to this offering
|
|
$
|
3
|
.55
|
Amount of dilution in net tangible book value per ordinary share
to new investors in this offering
|
|
$
|
4
|
.45
|
Amount of dilution in net tangible book value per ADS to new
investors in this offering
|
|
$
|
8
|
.90
|
46
The following table summarizes, on a pro forma basis as of
March 31, 2009, the differences between existing
shareholders and the new investors with respect to the number of
ordinary shares purchased from us, the total consideration paid
and the average price per ordinary share paid before deducting
underwriting discounts and commissions and estimated offering
expenses, at the initial public offering price of
$16.00 per ADS. The total number of ordinary shares does
not include ADSs issuable upon the exercise of the
over-allotment option granted to the underwriters.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average
|
|
|
|
|
|
|
Ordinary Shares
|
|
|
|
|
|
|
|
|
Price per
|
|
|
Average
|
|
|
|
Purchased
|
|
|
Total Consideration
|
|
|
Ordinary
|
|
|
Price per
|
|
|
|
Number
|
|
|
Percent
|
|
|
Amount
|
|
|
Percent
|
|
|
Share
|
|
|
ADS
|
|
|
Existing shares
|
|
|
31,052,631
|
(1)
|
|
|
74
|
%
|
|
$
|
1,035
|
|
|
|
0
|
%
|
|
$
|
0.000033
|
|
|
$
|
0.000066
|
|
New investor shares
|
|
|
11,000,000
|
|
|
|
26
|
%
|
|
$
|
88,000,000
|
|
|
|
100
|
%
|
|
$
|
8.00
|
|
|
$
|
16.00
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
42,052,631
|
|
|
|
100
|
%
|
|
$
|
88,001,035
|
|
|
|
100
|
%
|
|
$
|
2.09
|
|
|
$
|
4.19
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
Reflects the issuance of 1,052,631 fully vested ordinary shares
without payment of consideration which will be issued to certain
employees, including members of our executive management team,
but excluding our chief executive officer and chief financial
officer, on or prior to the completion of this offering.
|
As of the date of this prospectus, 2,105,262 ordinary shares
have been reserved for issuances in the future under our 2008
Omnibus Incentive Plan, of which 1,052,631 fully vested ordinary
shares will be issued to certain employees, including members of
our executive management team, but excluding our chief executive
officer and chief financial officer, on or prior to the
completion of this offering. On the date of this prospectus, we
granted Stephen C. Park, our chief financial officer, an
option to purchase up to 300,000 ordinary shares at the
initial public offering price. One quarter of these options
vested on June 24, 2009, with the remainder of the options
vesting ratably on a monthly basis through June 24, 2012.
The data in the table above assumes such options are not
exercised. If we issue additional shares or options that are
exercised under our 2008 Omnibus Incentive Plan, new investors
will experience further dilution.
47
CORPORATE
STRUCTURE
We were incorporated on June 21, 2007 under the laws of the
British Virgin Islands and act as a holding company. We conduct
substantially all of our business through our two wholly owned
Chinese subsidiaries: Duoyuan Beijing, and Duoyuan Langfang. We
currently do not have any other subsidiaries or have equity
interests in any other entity. Our majority shareholder is
Duoyuan Investments Limited, which is a British Virgin Islands
company wholly owned by Wenhua Guo, our chairman and chief
executive officer.
We were incorporated as part of a restructuring of the equity
interests in our two Chinese subsidiaries. As part of the
restructuring, on September 3, 2007 and November 29,
2007, HydroResource Technology Limited, a British Virgin Islands
company wholly owned by Duoyuan Investments Limited, transferred
to us all of its equity interest in Duoyuan Beijing and Duoyuan
Langfang. On July 1, 2007, Duoyuan Beijing and Duoyuan
Langfang transferred each of their respective 50% equity
interest in Huanan Duoyuan Water Supply Co. Ltd., or Duoyuan
Huanan, a company primarily engaged in the construction,
operation and service of local tap water supplying systems, to
Duoyuan Asian Water Inc., a British Virgin Islands company
wholly owned by Wenhua Guo. Duoyuan Beijing and Duoyuan Langfang
had jointly owned Duoyuan Huanan since its inception on
November 15, 2002 and currently do not have any equity
interest in other entities.
On February 5, 2008, Duoyuan Investments Limited sold 20%
of its equity interest in us, or 2,000,000 shares (or
6,000,000 shares, post a 3 for 1 share split implemented
prior to the completion of this offering) of our ordinary
shares, to GEEMF III Holdings MU, an affiliate of Global
Environment Fund, for an aggregate cash purchase price to
Duoyuan Investments Limited of $30.2 million.
48
The following chart summarizes our corporate structure,
including our subsidiaries, as of the date of this prospectus:
|
|
* |
Reflects the grant of 1,052,631 fully vested ordinary shares
under our 2008 Omnibus Incentive Plan to certain employees,
including members of our executive management team, but
excluding our chief executive officer and chief financial
officer on or prior to the completion of this offering.
|
Duoyuan Beijing. Duoyuan Beijing was
incorporated on April 7, 1992 with an initial registered
capital of RMB1.2 million. Wenhua Guo has served as its
chairman since its inception. Its principal business activities
include the marketing, sale and service of water treatment
products. Since its inception, Duoyuan Beijing has undergone a
series of equity transfers, each approved by the Chinese local
approval authorities and registered with the Beijing
Administration for Industry and Commerce. Its registered capital
was increased to $6.0 million in April 2000.
Duoyuan Beijing, originally named Beijing Multiformity
Electronic Co., Ltd., was initially owned by Tian Yi New
Technology Institute, which was affiliated with Wenhua Guo, and
Taiwan Gaodian International Co., Ltd. On January 10, 1999,
Tian Yi New Technology Institute transferred all of its 53%
equity interest in Duoyuan Beijing to Beijing Duoyuan Electric
(Group) Corporation. On February 5, 1999 Beijing Duoyuan
Electric (Group) Corporation transferred 43% of its 53% equity
interest in Duoyuan Beijing to China Duoyuan Communications
(Holding), Inc. and the remaining 10% equity interest to Beijing
Duoyuan Electric Co., Ltd. Additionally, Taiwan Gaodian
International Co. Ltd. transferred all of its 47% equity
interest in Duoyuan Beijing to China Duoyuan Communications
(Holding), Inc., whose name was changed to Duoyuan Technologies,
Inc. on March 17, 1999. On May 19, 2000, Beijing
Duoyuan Electric Co., Ltd. transferred the remaining 10% equity
interest to
49
Duoyuan Technologies, Inc. On June 7, 2001, Duoyuan
Technologies, Inc. changed its name to HydroResource Technology
Limited.
Duoyuan Langfang. Duoyuan Langfang was
incorporated by HydroResource Technology Limited on July 4,
2000 with an initial registered capital of $5.0 million.
Wenhua Guo has served as its chairman since its inception. Its
principal business activities include the development,
manufacturing and after-sale service of water treatment
products. Its registered capital was increased to
$10.0 million on May 22, 2002, which increase was
approved by the Chinese local approval authorities and
registered with the Langfang Administration of Industry and
Commerce.
50
SELECTED
COMBINED AND CONSOLIDATED FINANCIAL DATA
The following selected combined and consolidated statements of
income data for the years ended December 31, 2005, 2006,
2007 and 2008 and the selected consolidated balance sheet data
as of December 31, 2007 and 2008 have been derived from our
audited combined and consolidated financial statements for the
years ended December 31, 2006, 2007 and 2008 included
elsewhere in this prospectus. The following selected
consolidated statements of income data for the three months
ended March 31, 2008 (unaudited) and 2009 (unaudited) and
the selected consolidated balance sheet data as of
March 31, 2009 (unaudited) have been derived from our
unaudited consolidated financial statements for the three months
ended March 31, 2008 and 2009 included elsewhere in this
prospectus. The selected unaudited consolidated statements of
income data for the three months ended March 31, 2008 and
2009 and the selected unaudited consolidated balance sheet data
as of March 31, 2009 were prepared on the same basis as our
audited combined and consolidated financial statements. The
unaudited financial information includes all adjustments,
consisting only of normal and recurring adjustments, as we
consider necessary for a fair presentation of our financial
condition and results of operations for the periods presented.
Our combined and consolidated financial statements are prepared
and presented in accordance with U.S. GAAP. Our historical
results for any period are not necessarily indicative of results
to be expected in any future period. Selected combined financial
data as of December 31, 2004 and for the years ended
December 31, 2004 have been omitted because such
information could not be provided without unreasonable effort or
expense. You should read the following information in
conjunction with our combined and consolidated financial
statements and related notes included elsewhere in this
prospectus and “Management’s Discussion and Analysis
of Financial Condition and Results of Operations.”
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended
December 31,
|
|
|
Three Months Ended
March 31,
|
|
|
|
2005
|
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
2008
|
|
|
2008
|
|
|
2009
|
|
|
2009
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(UNAUDITED)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
RMB
|
|
|
RMB
|
|
|
$
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands, except share and
per share data)
|
|
|
Combined and Consolidated Statements of Income Data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue
|
|
|
229,550
|
|
|
|
292,863
|
|
|
|
423,962
|
|
|
|
592,699
|
|
|
|
86,742
|
|
|
|
86,822
|
|
|
|
120,646
|
|
|
|
17,657
|
|
Cost of revenue
|
|
|
150,256
|
|
|
|
178,125
|
|
|
|
272,402
|
|
|
|
326,809
|
|
|
|
47,829
|
|
|
|
52,273
|
|
|
|
66,178
|
|
|
|
9,685
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
|
79,294
|
|
|
|
114,738
|
|
|
|
151,560
|
|
|
|
265,890
|
|
|
|
38,913
|
|
|
|
34,549
|
|
|
|
54,468
|
|
|
|
7,972
|
|
Research and development expenses
|
|
|
12,762
|
|
|
|
12,856
|
|
|
|
14,405
|
|
|
|
16,370
|
|
|
|
2,396
|
|
|
|
3,591
|
|
|
|
5,110
|
|
|
|
748
|
|
Selling expenses
|
|
|
24,333
|
|
|
|
27,672
|
|
|
|
30,698
|
|
|
|
37,076
|
|
|
|
5,426
|
|
|
|
7,450
|
|
|
|
8,859
|
|
|
|
1,297
|
|
General and administrative expenses
|
|
|
9,409
|
|
|
|
10,243
|
|
|
|
11,034
|
|
|
|
35,792
|
|
|
|
5,238
|
|
|
|
3,466
|
|
|
|
829
|
|
|
|
121
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income
|
|
|
32,790
|
|
|
|
63,967
|
|
|
|
95,423
|
|
|
|
176,652
|
|
|
|
25,853
|
|
|
|
20,042
|
|
|
|
39,670
|
|
|
|
5,806
|
|
Impairment loss
|
|
|
1,263
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Interest expense
|
|
|
7,465
|
|
|
|
7,372
|
|
|
|
5,759
|
|
|
|
3,118
|
|
|
|
456
|
|
|
|
1,047
|
|
|
|
326
|
|
|
|
48
|
|
Other income
|
|
|
2,545
|
|
|
|
2,507
|
|
|
|
4,523
|
|
|
|
1,279
|
|
|
|
187
|
|
|
|
326
|
|
|
|
197
|
|
|
|
29
|
|
Loss from sale of property
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
3,216
|
|
|
|
471
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from continuing operations before income taxes
|
|
|
26,607
|
|
|
|
59,102
|
|
|
|
94,187
|
|
|
|
171,597
|
|
|
|
25,113
|
|
|
|
19,321
|
|
|
|
39,541
|
|
|
|
5,787
|
|
Provision for income taxes
|
|
|
1,318
|
|
|
|
7,403
|
|
|
|
11,799
|
|
|
|
37,830
|
|
|
|
5,536
|
|
|
|
4,277
|
|
|
|
10,608
|
|
|
|
1,553
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from continuing operations
|
|
|
25,289
|
|
|
|
51,699
|
|
|
|
82,388
|
|
|
|
133,767
|
|
|
|
19,577
|
|
|
|
15,044
|
|
|
|
28,933
|
|
|
|
4,234
|
|
Total income (loss) from discontinued operations
|
|
|
667
|
|
|
|
1,113
|
|
|
|
(180
|
)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Net income
|
|
|
25,956
|
|
|
|
52,812
|
|
|
|
82,208
|
|
|
|
133,767
|
|
|
|
19,577
|
|
|
|
15,044
|
|
|
|
28,933
|
|
|
|
4,234
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
51
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended
December 31,
|
|
|
Three Months Ended
March 31,
|
|
|
|
2005
|
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
2008
|
|
|
2008
|
|
|
2009
|
|
|
2009
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(UNAUDITED)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
RMB
|
|
|
RMB
|
|
|
$
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands, except share and
per share data)
|
|
|
Earnings per share (basic and diluted)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from continuing operations
|
|
|
—
|
|
|
|
—
|
|
|
|
2.75
|
|
|
|
4.46
|
|
|
|
0.65
|
|
|
|
0.50
|
|
|
|
0.96
|
|
|
|
0.14
|
|
Income from discontinued operations
|
|
|
—
|
|
|
|
—
|
|
|
|
(0.01
|
)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Net income
|
|
|
—
|
|
|
|
—
|
|
|
|
2.74
|
|
|
|
4.46
|
|
|
|
0.65
|
|
|
|
0.50
|
|
|
|
0.96
|
|
|
|
0.14
|
|
Weighted average number of basic and diluted shares outstanding
|
|
|
—
|
|
|
|
—
|
|
|
|
30,000,000
|
|
|
|
30,000,000
|
|
|
|
30,000,000
|
|
|
|
30,000,000
|
|
|
|
30,000,000
|
|
|
|
30,000,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of
December 31,
|
|
|
As of March 31,
|
|
|
|
2007
|
|
|
2008
|
|
|
2008
|
|
|
2009
|
|
|
2009
|
|
|
|
|
|
|
|
|
|
|
|
|
(UNAUDITED)
|
|
|
|
|
|
|
|
|
|
|
|
|
RMB
|
|
|
$
|
|
|
|
RMB
|
|
|
RMB
|
|
|
$
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
Consolidated Balance Sheet Data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
|
|
|
28,053
|
|
|
|
198,518
|
|
|
|
29,053
|
|
|
|
248,253
|
|
|
|
36,332
|
|
Total assets
|
|
|
420,243
|
|
|
|
538,086
|
|
|
|
78,749
|
|
|
|
585,792
|
|
|
|
85,731
|
|
Total current liabilities
|
|
|
110,316
|
|
|
|
94,393
|
|
|
|
13,814
|
|
|
|
113,165
|
|
|
|
16,562
|
|
Total shareholders’/owner’s equity
|
|
|
309,926
|
|
|
|
443,693
|
|
|
|
64,935
|
|
|
|
472,626
|
|
|
|
69,169
|
|
52
MANAGEMENT’S
DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
You should read the following discussion and analysis
together with our financial condition and results of operations
in conjunction with the section entitled “Selected Combined
and Consolidated Financial Data” and our audited combined
and consolidated financial statements and the related notes
included elsewhere in this prospectus. This discussion contains
forward-looking statements that are subject to risks,
uncertainties and assumptions, including those discussed under
“Risk Factors.” Our actual results may differ
materially from those expressed in or implied by these
forward-looking statements.
Overview
We are a leading China-based domestic water treatment equipment
supplier and offer products to address the key steps in the
water treatment process. Our products include circulating water
treatment equipment, water purification equipment and wastewater
treatment equipment. As one of the first privately owned
companies in China to supply water treatment products and
through joint efforts with our distributors, we have developed a
broad base of end-user customers throughout China, consisting
primarily of wastewater treatment plants, water works
facilities, manufacturing plants, commercial businesses,
residential communities and individual customers. We also have
one of the largest distribution networks for water treatment
equipment suppliers in China. With over 80 distributors
throughout 28 provinces, we believe our extensive network allows
us to be closer to our end-user customers and enables us to be
more responsive to local market demand.
We were incorporated on June 21, 2007 as a holding company
under the laws of the British Virgin Islands. We conduct
substantially all of our business through our two wholly owned
Chinese subsidiaries: Duoyuan Beijing and Duoyuan Langfang.
Duoyuan Beijing’s principal business activities include the
marketing, sale and service of water treatment products. Duoyuan
Langfang’s principal business activities include the
development, manufacturing and after-sale service of water
treatment products. Until the third quarter of 2007, both
companies each held a 50% equity interest in Huanan Duoyuan
Water Supply Co., Ltd., or Duoyuan Huanan, which engaged in the
construction, operation and service of local tap water supplying
systems. Our majority shareholder is Duoyuan Investments
Limited, which is a British Virgin Islands company wholly owned
by Wenhua Guo, our chairman and chief executive officer.
On August 12, 2007, we entered into an agreement to sell
substantially all of the business activities of Duoyuan Huanan,
effective July 1, 2007, to Duoyuan Asian Water Inc., a
company wholly owned by Wenhua Guo, for RMB12.5 million. As
a result, the assets and liabilities and results of operations
of Duoyuan Huanan are classified as a discontinued operation in
our financial statements. See Note 15 to our Notes to
Combined and Consolidated Financial Statements December 31,
2006, 2007 and 2008 included elsewhere in this prospectus.
Outlook
To capitalize on the increased demand for our products, we have
undertaken significant capital expansion and capital improvement
efforts, including renovations to our manufacturing facilities
and corporate headquarters, utilizing cash generated from
operations and existing short-term notes. In 2007, we purchased
various advanced and high-volume equipment to expand and enhance
our manufacturing capabilities, including high-power injection
and molding machines and high-volume microporous aerator
machines. In 2008, we made a RMB9.9 million down-payment
for a new production line to manufacture our belt-type
thickener-filter press mono-block machines (wastewater treatment
equipment)
53
and spent RMB16.2 million upgrading our manufacturing
equipment to produce our products more efficiently. We intend to
use the net proceeds from this offering (1) to improve and
upgrade our existing manufacturing facilities and production
lines, (2) to build new manufacturing facilities and
production lines to meet the increasing demands for our
products, in particular, our circulating water treatment
equipment and wastewater treatment equipment and (3) to
build a research and development laboratory.
We had gross profit margins of over 35% in each of 2006, 2007
and 2008, and the three months ended March 31, 2009, and
remain committed to maintaining our gross profit margins at
comparable levels by continuing to reduce overall production
costs. We have invested, and plan to continue to invest, in
research and development efforts to reduce our costs and raw
material consumption per unit of production. We also have
attempted to source quality product materials and components,
while negotiating favorable pricing and volume discounts from
our suppliers. Finally, we have expended resources and leveraged
our production experience to develop an efficient and flexible
manufacturing and operational infrastructure.
Since 2006, we have expanded our relationships with suppliers by
collaborating with them during each step of the manufacturing
process to ensure the efficient manufacture of sourced
components and to enhance the compatibility of these components
with our production processes. To further save costs, increase
operational efficiencies and protect our key technologies, we
began producing certain core components in-house beginning in
2006, particularly components for our circulating water central
processors and the membrane-based rubber coating for our
microporous aerators.
We also plan to continue expanding our relationships with our
distributors by providing attractive incentives, in-depth
training in the use of our products and assistance with the
promotion of our products. In addition, we have increasingly
focused our sales efforts on distributors that place larger
orders in order to reduce our overall selling expenses.
Through our in-house research and development team, we broaden
our market reach by introducing new products that could become
new sources of revenue for us and help us to diversify our
revenue base. Since 2004, we have developed more than 65 new
products across all three product categories. Of these new
products, more than 35 products were introduced into the market
in 2008. In the second half of 2009, we plan to introduce into
the market up to six new or enhanced products across each of our
three product categories. We plan to continue developing new and
enhanced products to maintain and expand our competitive
advantage and market reach. We intend to use approximately
$10 million of the net proceeds from this offering to build
a research and development laboratory. Our future research and
development efforts will focus on expanding our product
offerings into other similar products and components for
different applications, such as automation of our circulating
water treatment equipment, oxidation disinfection products (such
as large ozone generators), ultraviolet usage in water
treatment, sludge carbonization and desalination membranes,
internal designs for belt-type thickener-filter press mono-block
machines and high-performance microporous aerators.
Our revenue grew 44.8% from RMB292.9 million in 2006 to
RMB424.0 million in 2007 and 39.8% to RMB592.7 million
($86.7 million) in 2008. Our revenue grew 39.0% from
RMB86.8 million for the three months ended March 31,
2008 to RMB120.6 million ($17.7 million) for the three
months ended March 31, 2009. Although we expect that the
challenging global economic conditions, including its impact on
industry in China, will affect our revenue growth for the
remainder of 2009, we believe that our revenue will continue to
grow. While some of our revenues, primarily water treatment
equipment sold to industry, are being impacted by China’s
economic slowdown (which to date has been less dramatic than in
the rest of the world), we believe demand for water treatment
equipment will generally continue to increase. Factors
contributing to our expected revenue growth include the economic
stimulus plan being implemented by the Chinese government in
response to the challenging global
54
economic conditions, our production capacity expansion and a
business-friendly regulatory environment in China.
Principal
Factors Affecting our Financial Performance
We believe that the following factors will continue to affect
our financial performance:
Increasing
Demand for Water Treatment Equipment
An important factor that positively affects our financial
condition is the increasing demand for water treatment equipment
in China. The growth in the water treatment equipment industry
in China has been driven by several factors, including rapid
population growth, industrialization and urbanization, and more
recently, the economic stimulus plan being implemented by the
Chinese government. These factors have led to an increased
demand for affordable purified water. According to the Freedonia
Group, the demand for water treatment products in China is
estimated to increase nearly 15.5% per year through 2012. We
also anticipate that water treatment will become a priority
issue for municipalities, industries and commercial businesses
as the Chinese government imposes stricter environmental and
water quality standards to promote sustainable economic growth.
On November 5, 2008, the State Council of China announced
an economic stimulus plan in the amount of $585 billion to
stimulate economic growth and bolster domestic demand. The
economic stimulus plan includes, among others, increased
spending on basic infrastructure construction projects for
water, electricity, gas and heat to improve the standard of
living in China and protect the environment. We believe that
this increased spending on infrastructure generally, and on the
water infrastructure specifically, will further increase the
demand for our water treatment products as local governments
build facilities to improve their water supplies and treat
wastewater in response to the economic stimulus plan. In recent
months, we have experienced an increase in the demand for our
wastewater treatment products from our distributors as they bid
for contracts to supply these products for the new wastewater
facilities being built. Because of the economic stimulus plan
and the projected increase in demand for affordable purified
water as China continues to industrialize and modernize, we
believe that the water treatment industry, and in turn the
demand for our products, will continue to experience strong
growth for the next couple of years. However, any adverse
changes in China’s economic conditions or any continued
decline in the global economy may adversely affect the demand
for water treatment equipment products. In addition, regulatory
changes could adversely affect the ability of companies such as
ours to service and compete in this market.
We believe that these initiatives should generate strong demand
for water treatment equipment and promising business prospects
for the water treatment equipment industry and our company,
especially as China continues to industrialize and modernize. We
intend to focus our efforts on utilizing our tangible and
intangible resources to expand and strengthen our products and
increase our market share in response to these demands.
Expansion
of our Production Capacity
We need to expand our production capacity to satisfy increased
demand for our products. We intend to use a portion of the net
proceeds from this offering to make capital investments that
improve the efficiency and capacity of our manufacturing
facilities and equipment. Our major projects include in-house
production of certain core components of our current products,
building new manufacturing
55
facilities and production lines to produce new water treatment
products and upgrading our existing manufacturing facilities and
production lines.
Fluctuations
in Raw Material and Components Costs
Our operations require substantial amounts of a variety of raw
materials and components. Some raw materials and components,
especially steel, have been susceptible to fluctuations in price
and availability. Prior to the global economic slowdown which
started in the fall of 2008, costs for our components generally
increased each year. For example, the cost of our key raw
materials, such as steel, rubber and electronic components
increased between 2.1% to 73.7% during the first half of 2008
over the same period in the prior year.
Primarily due to a drop in commodity prices as a result of the
recent global economic slowdown, the cost of our raw materials
decreased between 1.1% to 57.1% in the fourth quarter of 2008
and the first quarter of 2009 as compared to the third quarter
of 2008. We expect raw material costs to remain relatively
unchanged for the remainder of 2009 because of existing supply
agreements. However, once global economic conditions improve and
our existing supply agreements expire, we expect our raw
material costs will increase.
Significant increases in raw materials and components prices
have a direct and negative impact on our gross profits. We
attempt to offset raw materials and components price increases
by producing key components for most of our products at our
manufacturing facilities, sourcing large quantities to achieve
economies of scale, reducing raw material component consumption
per unit through research and development and by focusing on
suppliers within close proximity to our facilities. Ultimately,
we may need to raise finished product prices to recover higher
raw material and component costs and maintain our profit margin.
Changes
in Chinese Enterprise Income Tax Law
We are incorporated in the British Virgin Islands and, under the
current laws of the British Virgin Islands, are not subject to
income taxes. In addition, our Chinese subsidiaries have enjoyed
preferential tax treatment applicable to foreign-invested
manufacturing enterprises established in certain preferred
economic zones in China. The additional tax that would otherwise
have been payable without these preferential tax treatments
totaled RMB12.3 million, RMB19.5 million and
RMB12.4 million ($1.8 million) in 2006, 2007 and 2008,
respectively. However, the PRC Enterprise Income Tax Law and its
implementation rules, or the new EIT laws, both of which became
effective on January 1, 2008, impose a single uniform
income tax rate of 25% for all Chinese enterprises and eliminate
or modify most of the tax exemptions, reductions and
preferential treatment available under the previous tax laws and
regulations. The termination of preferential tax rates from
January 1, 2008 and the termination of the preferential tax
holiday adversely impacted our operating results in 2008 and
will adversely impact our future operating results. As a result
of these changes in Chinese tax laws, our historical operating
results will not be indicative of our operating results for
future periods and the value of our ordinary shares or ADSs may
be adversely affected. See “Regulation —
Taxation.”
56
Components
of Revenue and Expenses
Revenue
We report revenue net of value-added taxes, or VAT, levied on
our products. As of March 31, 2009, our products, all of
which were sold in China, were subject to a VAT at a rate of 17%
of the gross sales price or at a rate approved by the Chinese
government. We offer annual sales rebates to our distributors as
an incentive to increase sales and for early payment. We record
these sales rebates as a reduction of revenue.
We derive substantially all our revenue from circulating water
treatment equipment, water purification equipment and wastewater
treatment equipment sales to our distributors. In 2008, our
three product categories accounted for approximately 41.5%,
21.6% and 36.2% of our revenue, respectively. For the three
months ended March 31, 2009, our three product categories
accounted for approximately 37.5%, 22.4% and 38.4% of our
revenue, respectively. In 2008 and the three months ended
March 31, 2009, our electronic water conditioners and fully
automatic filters (circulating water treatment) and belt-type
thickener-filter press mono-block machines and microporous
aerators (wastewater treatment equipment) each accounted for
more than 10% of our total revenue.
Increases in demand and unit sales in each of our product
categories contributed to our increase in revenue from 2006 to
2008. Until the first quarter of 2009, our circulating water
treatment equipment was our best selling category. Based on
recent sales trends and the economic stimulus plan being
implemented by the Chinese government, we expect that wastewater
treatment equipment will become our best selling category in
2009. We anticipate that, subject to possible fluctuations,
revenue from sales of our circulating water treatment equipment
and water purification equipment will also continue to increase.
A breakdown of our revenue, by product category, is set forth
below:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended
December 31,
|
|
|
Three Months Ended
March 31,
|
|
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
2008
|
|
|
2009
|
|
|
|
RMB
|
|
|
% of revenue
|
|
|
RMB
|
|
|
% of revenue
|
|
|
RMB
|
|
|
$
|
|
|
% of revenue
|
|
|
RMB
|
|
|
% of revenue
|
|
|
RMB
|
|
|
$
|
|
|
% of revenue
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(UNAUDITED)
|
|
|
|
(if thousands, except
percentages)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Circulating water treatment
|
|
|
145,346
|
|
|
|
49.6
|
%
|
|
|
193,259
|
|
|
|
45.6
|
%
|
|
|
245,871
|
|
|
|
35,983
|
|
|
|
41.5
|
%
|
|
|
37,895
|
|
|
|
43.6
|
%
|
|
|
45,209
|
|
|
|
6,616
|
|
|
|
37.5
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Water purification
|
|
|
54,808
|
|
|
|
18.7
|
|
|
|
97,899
|
|
|
|
23.1
|
|
|
|
128,097
|
|
|
|
18,747
|
|
|
|
21.6
|
|
|
|
15,497
|
|
|
|
17.9
|
%
|
|
|
27,000
|
|
|
|
3,951
|
|
|
|
22.4
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Wastewater treatment
|
|
|
88,047
|
|
|
|
30.1
|
|
|
|
135,690
|
|
|
|
32.0
|
|
|
|
214,557
|
|
|
|
31,401
|
|
|
|
36.2
|
|
|
|
32,918
|
|
|
|
37.9
|
%
|
|
|
46,394
|
|
|
|
6,790
|
|
|
|
38.4
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Construction projects
|
|
|
6,197
|
|
|
|
2.1
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Spare parts
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
8,717
|
|
|
|
1,276
|
|
|
|
1.5
|
|
|
|
766
|
|
|
|
0.9
|
|
|
|
2,453
|
|
|
|
359
|
|
|
|
2.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Adjustments
|
|
|
(1,535
|
)
|
|
|
(0.5
|
)
|
|
|
(2,886
|
)
|
|
|
(0.7
|
)
|
|
|
(4,543
|
)
|
|
|
(665
|
)
|
|
|
(0.8
|
)
|
|
|
(254
|
)
|
|
|
(0.3
|
%)
|
|
|
(410
|
)
|
|
|
(60
|
)
|
|
|
(0.3
|
%)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Revenue
|
|
|
292,863
|
|
|
|
100.0
|
%
|
|
|
423,962
|
|
|
|
100.0
|
%
|
|
|
592,699
|
|
|
|
86,742
|
|
|
|
100.0
|
%
|
|
|
86,822
|
|
|
|
100.0
|
%
|
|
|
120.646
|
|
|
|
17,657
|
|
|
|
100.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
In 2006, 2007 and 2008 and the three months ended March 31,
2009, sales to distributors accounted for 97.9%, 100%, 100% and
100% of our revenue, respectively. We use an extensive
distribution network to reach a broad distributor base. We make
sales on a purchase order or short-term agreement basis. We do
not have long-term contracts with any of our distributors or
end-user customers. No single distributor accounted for more
than 3% of our revenue in 2006, 2007 or 2008 or the three months
ended March 31, 2009.
In 2008, we began selling certain spare parts that we previously
gave to our distributors free of charge. For the year ended
December 31, 2008, revenue from spare parts sales was
RMB8.7 million ($1.3 million). For the three months
ended March 31, 2009, revenue from spare parts sales was
RMB2.5 million ($0.4 million). During 2006, we
accounted for revenue derived from long-term construction
projects for the installation of our water treatment equipment.
We did not enter into any contracts for construction projects in
2007, 2008 and the three months ended March 31, 2009, and
we do not anticipate entering into any construction projects in
the future.
57
Adjustments to revenue accounted for 0.5%, 0.7%, 0.8% and 0.3%
of total revenue in 2006, 2007, 2008 and the three months ended
March 31, 2009, respectively, for sales rebates paid to
distributors. We offer annual sales rebates to our distributors
as an incentive to increase sales and for early payment. We
intend to continue this incentive program.
Cost
of Revenue
Our cost of revenue consists primarily of direct costs to
manufacture our products, including component and material
costs, salaries and related manufacturing personnel expenses,
depreciation costs of plant and equipment used for production
purposes, shipping and handling costs, and repair and
maintenance costs. Our costs of revenue were
RMB178.1 million, RMB272.4 million,
RMB326.8 million ($47.8 million) and
RMB66.2 million ($9.7 million) in 2006, 2007, 2008 and
the three months ended March 31, 2009, respectively.
The direct costs of manufacturing a new product are generally
highest when a new product is first introduced due to
start-up
costs associated with manufacturing a new product and generally
higher raw material and component costs due to lower initial
production volumes. As production volumes increase, we typically
improve our manufacturing efficiencies and are able to
strengthen our purchasing power by buying raw materials and
components in greater quantities. In addition, we are able to
lower our raw material and component costs by identifying
lower-cost raw materials and components. Also, when production
volumes become sufficiently large, we often gain further cost
efficiencies by producing additional components in-house.
We purchase a small percentage of our electronic components from
suppliers who import these components. Our other raw materials
and components are purchased from Chinese subsidiaries of
foreign suppliers or local suppliers, each of whom manufacture
these components in China. We produce all other components
internally. As a result, we believe we currently have a
relatively low cost base compared to other water treatment
equipment suppliers, especially when compared to international
water treatment equipment suppliers. Also, the relatively low
operation, labor and raw material costs in China have
historically allowed us to decrease our cost of revenue as we
increase purchase volumes and make improvements in manufacturing
processes. Primarily due to a drop in commodity prices as a
result of the recent global economic slowdown, the cost of our
raw materials decreased between 1.1% to 57.1% in the fourth
quarter of 2008 and the first quarter of 2009 as compared to the
third quarter of 2008. We expect raw material costs to remain
relatively unchanged for the remainder of 2009 because of
existing supply agreements. However, once global economic
conditions improve and our existing supply agreements expire, we
expect our raw material costs will increase.
As we focus on more advanced products and new product lines, we
may find it necessary to use higher-cost raw materials and
components that may not be cheaper in China. We plan to mitigate
future increases in raw material and component costs by using
more common resources across our product lines, increasing
in-house manufacturing of components and adopting more uniform
manufacturing and assembly practices.
Gross
Margins
Our gross profit margins in 2006, 2007, 2008 and the three
months ended March 31, 2009 were 39.2%, 35.7%, 44.9% and
45.1%, respectively. Our gross profit margins are impacted by
changes in the average selling prices of our products, product
sales mix and cost of revenue. The average selling prices of our
products are subject to downward pressures due to the highly
competitive industry in which we operate and most recently, has
also been affected by the challenging global economic
58
conditions. The average selling prices for our products may
decline if competitors lower their prices as a result of
decreased costs or in order to gain market share. From time to
time, we reduce our prices for certain products to compete more
effectively. For example, in 2006, we reduced the average
selling price of our fully automatic filters due to increased
competition, which resulted in a decrease in revenue from this
product line in that year despite increased unit sales.
Alternatively, we increase our average selling prices in certain
circumstances, including when we introduce new or enhanced
products into the market, or to offset the rising costs of raw
materials and components. For example, during the first half of
2008, we raised the prices of all of our products two separate
times by 4.2% to 18.5% to offset the rising costs of raw
materials and components. As a result of the recent challenging
global economic conditions and competitive pressures, however,
we reduced our selling prices in the fourth quarter of 2008 by
3.2% to 4.4% to maintain or increase our market presence.
Since the average selling prices and gross margins of our
products vary by product line, changes in our product sales mix
will also impact our overall gross margins. Our more
sophisticated and technologically advanced products, such as our
fully automatic filters and circulating water central processors
(circulating water treatment equipment), industrial pure water
equipment (water purification equipment), sludge screws and
microporous aerators (wastewater treatment equipment) generally
have higher gross profit margins than our low technology
products such as our cyclone filters (circulating water
treatment equipment) and water decanters (wastewater treatment
equipment). In addition, our new or enhanced products, such as
our new fully automatic filters (circulating water treatment
equipment), which we introduced in March and April 2008,
generally have higher gross profit margins than our older
models. As a result, our gross profit margin for a period is
affected by the proportion of sales of our higher gross profit
margin products compared to sales of our lower gross profit
margins products. For example, our gross profit margin as a
percentage of our revenue increased from 35.7% in 2007 to 44.9%
in 2008, reflecting increased sales in 2008 of a new model of
fully automatic filter, a high margin product, and the sale of
sample products, at or slightly greater than cost, to our
distributors of RMB38.4 million in 2007.
Lastly, our gross profit margins are also affected by changes in
our cost of revenue and our ability to manage such cost as
described in further detail in “— Cost of
Revenue” above.
Research
and Development Expenses
Our research and development expenses consist primarily of costs
associated with the design, development and testing of our
products. Among other things, these costs include employee
compensation and benefits for our research and development
staff, expenditures for purchases of supplies and raw materials,
depreciation expenses related to equipment used for research and
development activities, and other related costs. Our research
and development expenses as a percentage of revenue were 4.4%,
3.4%, 2.8% and 4.2% in 2006, 2007, 2008 and for the three months
ended March 31, 2009, respectively. Although as a
percentage of revenue, research and development expenses have
decreased from 2006 to 2008, the decrease was mainly a function
of our revenue increasing faster than our research and
development expenses. From 2006 to 2008, our research and
development expenses increased by RMB3.5 million, or 27.3%,
from RMB12.8 million in 2006 to RMB16.4 million
($2.4 million) in 2008. Our research and development
expenses increased by RMB1.5 million, or 42.3%, from
RMB3.6 million for the three months ended March 31,
2008 to RMB5.1 million ($0.7 million) for the three
months ended March 31, 2009.
We expect to increase our investment in research and development
and we intend to use approximately $10 million of the net
proceeds from this offering to build a research and development
laboratory. We are committed to creating, developing and
commercializing new and more advanced products.
59
Selling
Expenses
Our selling expenses consist primarily of employee compensation
and benefits for our sales and marketing staff, expenses for
promotional, advertising, travel and entertainment activities,
and depreciation expenses related to equipment used for sales
and marketing activities. Our selling expenses were
RMB27.7 million, RMB30.7 million, RMB37.1 million
($5.4 million) and RMB8.9 million ($1.3 million)
in 2006, 2007, 2008 and the three months ended March 31,
2009, respectively.
Between 2006 and the three months ended March 31, 2009, our
selling expenses increased primarily as a result of increased
sales and marketing activities and the hiring of additional
sales representatives. Our selling expenses as a percentage of
revenue has decreased since 2006, reflecting improved selling
and marketing efficiencies. In the near term, we expect that
certain components of our selling expenses will increase as we
increase our market penetration in China. Specifically, we
expect that advertising expenses will increase as we expand our
advertising into new forms of media, including online
advertising and television. In addition, we anticipate that
industry trade conference and exhibition expenses will increase
as we plan to participate in more industry trade conferences and
exhibitions all across China to develop and enhance our
reputation in the commercial and construction industries. We
also expect salary expenses to increase as we continue to hire
additional sales representatives to help broaden our end-user
customer base. This anticipated increase in selling expenses
will be a direct result of our plan to grow, strengthen and
support our extensive distribution network.
Because we sell all of our products to distributors, we believe
our selling expenses as a percentage of revenue are
significantly lower than manufacturers of water treatment
equipment that primarily sell to end-user customers. While we
intend to continue to sell our products primarily to
distributors, we also seek to build recognition of our brand
through increasing marketing activities, which may increase our
sales and marking expenses.
General
and Administrative Expenses
Our general and administrative expenses consist primarily of
employee compensation and benefits for our general management,
finance and administrative staff, depreciation and amortization
with respect to equipment used for general corporate purposes,
professional, legal and consultancy fees, and other expenses
incurred for general corporate purposes. Our general and
administrative expenses were RMB10.2 million,
RMB11.0 million, RMB35.8 million ($5.2 million)
and RMB0.8 million ($0.1 million) in 2006, 2007, 2008
and the three months ended March 31, 2009, respectively.
In 2008, general and administration expenses included expensed
offering costs of RMB20.5 million ($3.0 million)
resulting from the delay of this public offering. These offering
costs included legal, audit, and other charges related to this
public offering filing.
Our general and administrative expenses decreased by
RMB2.6 million, or 76.1%, from RMB3.5 million for the
three months ended March 31, 2008 to RMB0.8 million
($0.1 million) for the three months ended March 31,
2009, primarily due to an adjustment of estimated costs accrued
at December 31, 2008 in connection with this public
offering.
We expect that our overall general and administrative expenses
will increase after the closing of this offering due to the
continued expansion of our business and the various additional
legal, accounting and other requirements that will be applicable
to us as a public company in the United States. Our general and
administrative expenses as a percentage of revenue were 3.5%,
2.6%, 6.0% and 0.7% for 2006, 2007, 2008 and the three months
ended March 31, 2009, respectively. Excluding the offering
costs related to this public offering filing, our general and
administrative expenses, as a percentage of
60
revenue, would have been 2.6% for 2008. In general, as a
percentage of revenue, we expect that general and administrative
expenses will continue to be approximately 2.5% to 6.0% of our
revenue.
Employee
Share-Based Compensation Expenses
We account for employee share-based compensation expenses based
on the fair value of share option grants at the date of grant,
and we record employee share-based compensation expenses to the
extent that the fair value of those grants are determined to be
greater than the price paid by the employee. We did not incur
any employee share-based compensation expenses in 2006, 2007,
2008 or the three months ended March 31, 2009.
On or prior to the completion of this offering, we will grant
certain employees, including members of our executive management
team, but excluding our chief executive officer and chief
financial officer, 1,052,631 fully vested ordinary shares, for
no consideration, other than par value, which will be deemed
paid by services already rendered to us. As a result of this
ordinary share grant to our employees, we will incur employee
share-based compensation charges of $8.4 million in the
second quarter of 2009, based on the initial public offering
price of $16.00 per ADS.
In addition, pursuant to the terms of our amended and restated
employment agreement with Stephen C. Park, our chief financial
officer, on June 24, 2009, we granted him an option to
purchase up to 300,000 ordinary shares at the initial public
offering price. One quarter of these options vested on
June 24, 2009, with the remainder of the options vesting
ratably on a monthly basis through June 24, 2012. This
grant will result in additional stock-based compensation expense.
Interest
Expense
Interest expense is paid on our outstanding bank debt
obligations on a quarterly basis. Our interest expense as a
percentage of revenue was 2.5%, 1.4%, 0.5% and 0.3% in 2006,
2007, 2008 and the three months ended March 31, 2009,
respectively.
Other
Income
Other income is primarily comprised of interest income earned on
our cash deposits and rental income which we received in 2006,
2007 and the first half of 2008 from the lease of our office
space located at No. 3 Jinyuan Road to Duoyuan Digital
Printing Technology Industries (China) Co. Ltd., an entity
controlled by our chairman and chief executive officer, Wenhua
Guo. For further details, see “Related Party
Transactions — Real Property Related
Transactions.”
Loss
from Sale of Property
In June 2008, we executed the transfer of properties with
Duoyuan Information Terminal Manufacture (Langfang) Co., Ltd. As
a result of costs related to the transfer, we experienced a loss
on the sale of our property in the amount of RMB3.2 million
($0.5 million) in 2008. For further details, see
“Related Party Transactions — Real Property
Related Transactions.”
61
Critical
Accounting Policies
We prepare financial statements in conformity with
U.S. GAAP, which requires us to make estimates and
assumptions that affect the amounts reported in our combined and
consolidated financial statements and related notes. We
periodically evaluate these estimates and assumptions based on
the most recently available information, our own historical
experience and various other assumptions that we believe are
reasonable under the circumstances, the results of which form
the basis for making judgments about the carrying values of
assets and liabilities that are not readily apparent from other
sources. Since the use of estimates is an integral component of
the financial reporting process, actual results could differ
from those estimates. Some of our accounting policies require
higher degrees of judgment than others in their application. We
believe the following accounting policies involve the most
significant judgments and estimates used in the preparation of
our financial statements.
Revenue
Recognition
We primarily generate revenue from water treatment equipment
sales to distributors. We also began generating revenue in 2008
from spare parts sales.
We consider revenue from the sale of our water treatment
equipment realized or realizable and earned upon meeting all of
the following criteria: persuasive evidence of a sale
arrangement exists, delivery has occurred, the price to the
distributor is fixed or determinable, and collectibility of
payment is reasonably assured. These criteria are met at the
time of shipment when the risk of loss passes to the distributor.
We record revenue from spare parts sales at the time of
shipment. Revenue from spare parts sales was RMB8.7 million
($1.3 million) in 2008 and RMB2.5 million
($0.4 million) for the three months ended March 31,
2009.
During 2006, we accounted for revenue derived from long-term
construction projects using the completed contract method of
accounting which recorded results that were not materially
different from using the percentage of completion method of
accounting. We did not enter into any contracts for construction
projects in 2007, 2008 or the three months ended March 31,
2009.
Revenue represents the invoiced value of sold goods, net of VAT.
Our products, all of which are sold in China, are subject to a
Chinese VAT at a rate of 17% of the gross sales price or at a
rate approved by the Chinese local government. This VAT may be
offset by VAT we paid on raw materials and other materials
included in the cost of producing the finished product. The VAT
amounts paid and available for offset are maintained in our
current liabilities.
We offer annual sales rebates to our distributors as an
incentive to increase sales and for early payment. These annual
sales rebates are based upon payments of accounts receivable
received from our distributors for sales made to them. Sales
rebates are recorded as a current liability at the time of the
sale based upon the percentage of sales rebate that each
distributor is estimated to earn for the year. At year-end, the
accrued rebate amount is adjusted to the actual amount earned.
Sales rebates are deducted from revenue in the accompanying
combined and consolidated statements of income.
Accounts
Receivables
During the normal course of business, we extend to some of our
distributors interest-free unsecured credit for an initial term
of 180 days. Depending on a distributor’s credit
history, as well as local market
62
practices, we may extend to some of our distributors an
additional 90 to 180 days of such unsecured credit. Our
accounts receivable turnover in days for 2006, 2007, 2008 and
the three months ended March 31, 2009 were 106, 96, 83 and
97 days, respectively.
Prior to January 1, 2008, we reviewed our accounts
receivables quarterly and determined the amount of allowances,
if any, necessary for doubtful accounts. Historically, we have
not had any bad debt write-offs and, as such, we do not provide
an arbitrary reserve amount for possible bad debts based upon a
percentage of sales or accounts receivable balances. Rather, we
review our accounts receivable balances to determine whether
specific reserves are required due to such issues as disputed
balances with distributors, declines in distributors’
credit worthiness, or unpaid balances exceeding
agreed-upon
terms. Based upon the results of these reviews, we determine
whether a specific provision should be made to provide a reserve
for possible bad debt write-offs. We determined that no
allowances for doubtful accounts were necessary or required in
2006, 2007, 2008 or as of March 31, 2009.
As of January 1, 2008, we communicate with our distributors
each month to identify any potential issues and reassess our
credit limits and terms with them based on their prior payment
history and practice. We also plan to continue building upon our
existing relationships and history with each of our distributors
to assist us in the full and timely collection of outstanding
payments.
As of December 31, 2008 and March 31, 2009, we had
outstanding accounts receivable totaling RMB137.5 million
($20.1 million) and RMB121.6 million
($17.8 million), respectively. We believe that these
outstanding amounts will be collected pursuant to the terms,
conditions, and within the time frames agreed upon between our
distributors and us primarily due to the enhanced collection
measures we implemented on January 1, 2008.
During the reported periods, we did not experience any material
problems relating to distributor payments and had no bad debt
write-offs.
In terms of our liquidity, we reflect the extended interest-free
unsecured credit in our cash flows for the reported periods.
Therefore, we anticipate no changes from past cash flow patterns.
Inventories
We state inventories at the lower of cost or market value. We
determine cost on a weighted average basis and we include all
expenditures incurred in bringing the goods to the point of sale
and putting them in sellable condition. Our accounting for
inventory is described in Note 3 to our Notes to Combined
and Consolidated Financial Statements December 31, 2006,
2007 and 2008 included elsewhere in this prospectus. We evaluate
inventory periodically for possible obsolescence of our raw
materials to determine if a provision for obsolescence is
necessary. We reserved RMB0.6 million for obsolescence at
December 31, 2006 and 2007, and we reserved
RMB0.1 million ($18,752) for obsolescence at
December 31, 2008. We reserved RMB0.1 million
($18,752) for obsolescence at March 31, 2009. Our estimates
for determining the provision for obsolescence may be affected
by technological changes and developments to our product
offerings and changes in governmental regulations.
Valuation
of Share-Based Compensation
We account for share-based compensation to our employees based
on SFAS No. 123(R), and will record compensation
expense over the options’ vesting period to the extent the
fair value of the options.
63
Warranty
Costs
We generally warrant our products against defects for the
initial six months period of use for small equipment to one year
for large equipment. Warranty costs are accrued in other
payables based upon our expectation of such costs. We review
warranty costs on a quarterly basis and determine the amount of
a warranty reserve based upon a review of historical costs. A
reserve for warranty costs of RMB2.2 million
($0.3 million) was provided at December 31, 2008, and
a reserve for warranty costs of RMB2.4 million
($0.4 million) was provided at March 31, 2009. Our
estimates for determining the reserve for warranty costs may be
affected by substandard materials that could be provided by our
suppliers and new product developments.
Internal
Control Over Financial Reporting
Prior to completion of this offering, we have been a private
company with limited accounting personnel and other resources
with which to address our internal control and procedures over
financial reporting. In the course of preparing our combined and
consolidated financial statements, our independent registered
public accounting firm identified and communicated to us several
material weaknesses, significant deficiencies and certain other
control deficiencies. See “Risk Factors — Risks
Related to Our Business — In the course of preparing
our combined and consolidated financial statements for the years
ended December 31, 2006, 2007 and 2008 and as of
December 31, 2006, 2007 and 2008, several material
weaknesses, significant deficiencies and control deficiencies
have been identified. If we fail to achieve or maintain an
effective system of internal control over financial reporting,
our ability to accurately and timely report our financial
results or prevent fraud may be adversely affected.”
The material weaknesses identified in our 2008 audit related to
our failure to implement a month-end process to properly accrue
expenditures at period-end and record purchases and sales
following the closing of our books and proper review of these
items. Previously identified material weaknesses mainly related
to: (1) an inability to timely identify disputed balances
or unpaid aged balances of revenue and accounts receivable;
(2) differences and errors in the recording of cost of
revenue and inventory; (3) a lack of effective controls
over the financial reporting process due to an insufficient
complement of personnel with an appropriate level of accounting
knowledge, experience and training in the application of
U.S. GAAP commensurate with our financial reporting
requirements; and (4) inadequate retention and maintenance
of legal and accounting documents. The significant deficiencies
identified in our 2008 audit primarily related to
(1) failure to record inventory balances at the time of
delivery rather than after inspection and (2) sales tax
rebates paid without corresponding official receipts. Previously
observed significant deficiencies included (1) errors in
the classification of expenses and (2) related party
transactions not entered into on arms-length basis.
To remedy these weaknesses and deficiencies, we have adopted
several measures to improve our internal controls over financial
reporting. With respect to the recently identified weaknesses
and deficiencies, we are in the process of implementing
(1) month-end procedures to properly record and review
expenditures, accruals, purchases and sales activities and
(2) procedures related to better record and track inventory
upon delivery and payment of sales rebates without corresponding
official receipts. With respect to the earlier weaknesses and
deficiencies, we communicate with our distributors on a monthly
basis to reconcile any outstanding receivables balances and
require them to clearly identify the invoice being paid when
sending in payments. This practice has remedied our past
inability to timely identify disputed or unpaid aged balances of
revenue and accounts receivable. To remedy the differences and
errors in the recording of cost of revenue and inventory, we
have assigned a raw material code to each individual raw
material part to correctly identify and value our inventory. We
also hired Stephen C. Park in June 2007 as our chief financial
officer. Mr. Park is experienced in U.S. GAAP and
Securities and Exchange Commission reporting and has been
training our accounting staff on the application of
64
U.S. GAAP. We have also established an archive room in our
corporate offices in Beijing to retain our legal and accounting
documents and have assigned an individual to organize and
maintain them. To remedy the previously identified significant
deficiencies, we now classify our expenses to conform to
U.S. GAAP and require that all related party transactions
be reviewed by our chief financial officer to determine whether
they are at arms-length before being executed. We are also in
the process of, among other things: (1) hiring additional
qualified accounting personnel with U.S. GAAP accounting
knowledge; (2) establishing an internal audit function; and
(3) supplementing and documenting our accounting policies
and procedures for use by our personnel (including policies and
procedures with respect to: recording and evaluating our
revenue; cost of revenue; accounts receivable; accounts payable
and inventory balances; our quarterly closing and inventory
valuation procedures; and our record and document retention and
maintenance). We are also interviewing outside consultants to
assist us, and our internal audit function, with the foregoing
activities and preparing for future SOX 404 compliance matters.
Selected
Quarterly Results of Operations
The following table presents our selected unaudited combined and
consolidated quarterly results of operations for the nine
quarters in the period from January 1, 2007 to
March 31, 2009. You should read the following information
in conjunction with our combined and consolidated financial
statements and related notes included elsewhere in this
prospectus. We have prepared the unaudited combined and
consolidated quarterly financial information on the same basis
as our audited combined and consolidated financial statements.
The unaudited combined and consolidated quarterly financial
information includes all adjustments, consisting only of normal
and recurring adjustments, that we consider necessary for a fair
presentation of our financial position and operating results for
the quarters presented. Our quarterly operating results have
fluctuated and will continue to fluctuate from period to period.
The operating results for any quarter are not necessarily
indicative of the operating results for any future period or for
a full year. Factors that may cause our revenue and operating
results to vary or fluctuate include those discussed in the
“Risk Factor” section of this prospectus.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
March 31,
|
|
|
June 30,
|
|
|
September 30,
|
|
|
December 31,
|
|
|
March 31,
|
|
|
June 30,
|
|
|
September 30,
|
|
|
December 31,
|
|
|
March 31,
|
|
|
|
2007
|
|
|
2007
|
|
|
2007
|
|
|
2007
|
|
|
2008
|
|
|
2008
|
|
|
2008
|
|
|
2008
|
|
|
2009
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
|
(UNAUDITED)
|
|
|
|
(In thousands)
|
|
|
Revenue
|
|
|
81,009
|
|
|
|
99,399
|
|
|
|
143,965
|
|
|
|
99,589
|
|
|
|
86,822
|
|
|
|
161,375
|
|
|
|
194,972
|
|
|
|
149,531
|
|
|
|
120,646
|
|
Cost of revenue
|
|
|
64,583
|
|
|
|
61,593
|
|
|
|
85,197
|
|
|
|
61,029
|
|
|
|
52,273
|
|
|
|
87,248
|
|
|
|
103,675
|
|
|
|
83,614
|
|
|
|
66,178
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
|
16,426
|
|
|
|
37,806
|
|
|
|
58,768
|
|
|
|
38,560
|
|
|
|
34,549
|
|
|
|
74,127
|
|
|
|
91,297
|
|
|
|
65,917
|
|
|
|
54,468
|
|
Research and development expenses
|
|
|
3,144
|
|
|
|
3,793
|
|
|
|
3,612
|
|
|
|
3,856
|
|
|
|
3,591
|
|
|
|
4,005
|
|
|
|
3,999
|
|
|
|
4,776
|
|
|
|
5,110
|
|
Selling expenses
|
|
|
7,103
|
|
|
|
7,921
|
|
|
|
7,677
|
|
|
|
7,997
|
|
|
|
7,450
|
|
|
|
8,290
|
|
|
|
10,537
|
|
|
|
10,799
|
|
|
|
8,859
|
|
General and administrative expenses
|
|
|
2,300
|
|
|
|
3,497
|
|
|
|
3,150
|
|
|
|
2,087
|
|
|
|
3,466
|
|
|
|
3,839
|
|
|
|
3,763
|
|
|
|
24,723
|
|
|
|
829
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income
|
|
|
3,879
|
|
|
|
22,595
|
|
|
|
44,329
|
|
|
|
24,620
|
|
|
|
20,042
|
|
|
|
57,993
|
|
|
|
72,998
|
|
|
|
25,619
|
|
|
|
39,670
|
|
Interest expense
|
|
|
1,365
|
|
|
|
1,445
|
|
|
|
1,447
|
|
|
|
1,502
|
|
|
|
1,047
|
|
|
|
830
|
|
|
|
711
|
|
|
|
530
|
|
|
|
326
|
|
Other income
|
|
|
620
|
|
|
|
617
|
|
|
|
2,707
|
|
|
|
579
|
|
|
|
326
|
|
|
|
448
|
|
|
|
246
|
|
|
|
258
|
|
|
|
197
|
|
Loss from sale of property
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
3,204
|
|
|
|
—
|
|
|
|
11
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from continuing operations before income taxes
|
|
|
3,134
|
|
|
|
21,767
|
|
|
|
45,589
|
|
|
|
23,697
|
|
|
|
19,321
|
|
|
|
54,407
|
|
|
|
72,533
|
|
|
|
25,336
|
|
|
|
39,541
|
|
Provision for income taxes
|
|
|
393
|
|
|
|
2,727
|
|
|
|
5,711
|
|
|
|
2,968
|
|
|
|
4,277
|
|
|
|
10,749
|
|
|
|
12,925
|
|
|
|
9,879
|
|
|
|
10,608
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from continuing operations
|
|
|
2,741
|
|
|
|
19,040
|
|
|
|
39,878
|
|
|
|
20,729
|
|
|
|
15,044
|
|
|
|
43,658
|
|
|
|
59,608
|
|
|
|
15,457
|
|
|
|
28,933
|
|
Discontinued operations net income (loss) from discontinued
operations, net of taxes
|
|
|
168
|
|
|
|
234
|
|
|
|
(582
|
)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
|
2,909
|
|
|
|
19,274
|
|
|
|
39,296
|
|
|
|
20,729
|
|
|
|
15,044
|
|
|
|
43,658
|
|
|
|
59,608
|
|
|
|
15,457
|
|
|
|
28,933
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
65
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
March 31,
|
|
|
June 30,
|
|
|
September 30,
|
|
|
December 31,
|
|
|
March 31,
|
|
|
June 30,
|
|
|
September 30,
|
|
|
December 31,
|
|
|
March 31,
|
|
|
|
2007
|
|
|
2007
|
|
|
2007
|
|
|
2007
|
|
|
2008
|
|
|
2008
|
|
|
2008
|
|
|
2008
|
|
|
2009
|
|
|
|
% of revenue
|
|
|
% of revenue
|
|
|
% of revenue
|
|
|
% of revenue
|
|
|
% of revenue
|
|
|
% of revenue
|
|
|
% of revenue
|
|
|
% of revenue
|
|
|
% of revenue
|
|
|
|
(UNAUDITED)
|
|
|
Revenue
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
Cost of revenue
|
|
|
79.7
|
%
|
|
|
62.0
|
%
|
|
|
59.2
|
%
|
|
|
61.3
|
%
|
|
|
60.2
|
%
|
|
|
54.1
|
%
|
|
|
53.2
|
%
|
|
|
55.9
|
%
|
|
|
54.9
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
|
20.3
|
%
|
|
|
38.0
|
%
|
|
|
40.8
|
%
|
|
|
38.7
|
%
|
|
|
39.8
|
%
|
|
|
45.9
|
%
|
|
|
46.8
|
%
|
|
|
44.1
|
%
|
|
|
45.1
|
%
|
Research and development expenses
|
|
|
3.9
|
%
|
|
|
3.8
|
%
|
|
|
2.5
|
%
|
|
|
3.9
|
%
|
|
|
4.1
|
%
|
|
|
2.5
|
%
|
|
|
2.1
|
%
|
|
|
3.2
|
%
|
|
|
4.2
|
%
|
Selling expenses
|
|
|
8.8
|
%
|
|
|
8.0
|
%
|
|
|
5.3
|
%
|
|
|
8.0
|
%
|
|
|
8.6
|
%
|
|
|
5.1
|
%
|
|
|
5.4
|
%
|
|
|
7.2
|
%
|
|
|
7.3
|
%
|
General and administrative expenses
|
|
|
2.8
|
%
|
|
|
3.5
|
%
|
|
|
2.2
|
%
|
|
|
2.1
|
%
|
|
|
4.0
|
%
|
|
|
2.4
|
%
|
|
|
1.9
|
%
|
|
|
16.6
|
%
|
|
|
0.7
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income
|
|
|
4.8
|
%
|
|
|
22.7
|
%
|
|
|
30.8
|
%
|
|
|
24.7
|
%
|
|
|
23.1
|
%
|
|
|
35.9
|
%
|
|
|
37.4
|
%
|
|
|
17.1
|
%
|
|
|
32.9
|
%
|
Interest expense
|
|
|
1.7
|
%
|
|
|
1.4
|
%
|
|
|
1.0
|
%
|
|
|
1.5
|
%
|
|
|
1.2
|
%
|
|
|
0.5
|
%
|
|
|
0.3
|
%
|
|
|
0.4
|
%
|
|
|
0.3
|
%
|
Other income
|
|
|
0.8
|
%
|
|
|
0.6
|
%
|
|
|
1.9
|
%
|
|
|
0.6
|
%
|
|
|
0.4
|
%
|
|
|
0.3
|
%
|
|
|
0.1
|
%
|
|
|
0.2
|
%
|
|
|
0.2
|
%
|
Loss from sale of property
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
2.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from continuing operations before income taxes
|
|
|
3.9
|
%
|
|
|
21.9
|
%
|
|
|
31.7
|
%
|
|
|
23.8
|
%
|
|
|
22.3
|
%
|
|
|
33.7
|
%
|
|
|
37.2
|
%
|
|
|
16.9
|
%
|
|
|
32.8
|
%
|
Provision for income taxes
|
|
|
0.5
|
%
|
|
|
2.7
|
%
|
|
|
4.0
|
%
|
|
|
3.0
|
%
|
|
|
5.0
|
%
|
|
|
6.6
|
%
|
|
|
6.6
|
%
|
|
|
6.6
|
%
|
|
|
8.8
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from continuing operations
|
|
|
3.4
|
%
|
|
|
19.2
|
%
|
|
|
27.7
|
%
|
|
|
20.8
|
%
|
|
|
17.3
|
%
|
|
|
27.1
|
%
|
|
|
30.6
|
%
|
|
|
10.3
|
%
|
|
|
24.0
|
%
|
Discontinued operations net income (loss) from discontinued
operations, net of taxes
|
|
|
0.2
|
%
|
|
|
0.2
|
%
|
|
|
(0.4
|
%)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
|
3.6
|
%
|
|
|
19.4
|
%
|
|
|
27.3
|
%
|
|
|
20.8
|
%
|
|
|
17.3
|
%
|
|
|
27.1
|
%
|
|
|
30.6
|
%
|
|
|
10.3
|
%
|
|
|
24.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Our net income has fluctuated significantly during the nine
quarters in the period from January 1, 2007 to
March 31, 2009. Historically, quarterly fluctuation has
been primarily due to lower sales during the winter months as
construction activities decrease.
Our third quarter revenues in 2007 and 2008 were sequentially
higher compared to second quarter revenues in 2007 and 2008
primarily due to seasonality as we benefited from an increase in
construction activities which typically begin in the second
quarter. Similarly our sequential revenues in the fourth quarter
and first quarter are lower than the immediately prior quarter
because of seasonality, namely the harsh winter climate and
holiday season in China during those quarters which result in
decreased construction activities.
We introduced over 35 new products in 2008. Seventeen of these
new products were in our circulating water treatment equipment
category. We also introduced 15 new products in our water
purification equipment category and six new products in our
wastewater treatment equipment category. New product
introductions contributed to revenues in each period being
higher than the corresponding periods in the prior years.
Our cost of revenue can vary significantly from quarter to
quarter, but generally it is in proportion to the number of
products we sell in any given quarter. We typically incur higher
costs in the third quarter primarily due to the increase in the
volume of our products sold.
66
For the nine quarters in the period from January 1, 2007 to
March 31, 2009, our gross profit margins ranged from 20.3%
to 46.8%. The gross profit margin of 20.3% in the first quarter
of 2007 was primarily due to the sale of sample products, at or
slightly greater than cost, to our distributors of
RMB38.4 million, resulting in a decrease of revenue of
RMB10.7 million in comparison to revenue that would have
been obtained had the sample products been sold at normal profit
margins. The higher gross profit margins beginning in the second
quarter of 2008 reflect increased sales of our higher margin
products. We also increased our average selling prices two times
in the first half of 2008 to offset the rising costs of our raw
materials and components. However, due to the challenging global
economic conditions and competitive pressures, we lowered our
average selling prices on certain products in the fourth quarter
of 2008. Our gross margins, however, remained relatively
unchanged because of a corresponding decrease in our cost of raw
materials.
Our interest expense decreased each quarter from January 1,
2007 to March 31, 2009, as we continued to repay our
short-term bank notes without taking on additional borrowings.
In the first quarter of 2009, we renewed our remaining
short-term bank note for another one year period at a lower
interest rate from 8.217% to 5.841%.
The significant increase in our provision for income taxes since
the first quarter of 2008 is primarily due to an increase in the
applicable tax rate of Duoyuan Beijing from 12% to the new tax
rate of 25%. This new tax rate for Duoyuan Beijing, which went
into effect on January 1, 2008. We expect that our
provision for income taxes will increase with any increase in
our income from operations.
For the remaining quarters in 2009, we expect that our
wastewater treatment equipment, as a percentage of revenue, will
increase as a result of the economic stimulus plan being
implemented by the Chinese government.
67
Results
of Operations
The following table sets forth selected data from our combined
and consolidated statements of income for the periods indicated,
in Renminbi and as a percentage of revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended
December 31,
|
|
|
Three Months Ended
March 31,
|
|
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
2008
|
|
|
2009
|
|
|
|
RMB
|
|
|
% of revenue
|
|
|
RMB
|
|
|
% of revenue
|
|
|
RMB
|
|
|
$
|
|
|
% of revenue
|
|
|
RMB
|
|
|
% of revenue
|
|
|
RMB
|
|
|
$
|
|
|
% of revenue
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(UNAUDITED)
|
|
|
|
(if thousands, except
percentages)
|
|
|
Revenue
|
|
|
292,863
|
|
|
|
100.0
|
%
|
|
|
423,962
|
|
|
|
100.0
|
%
|
|
|
592,699
|
|
|
|
86,742
|
|
|
|
100.0
|
%
|
|
|
86,822
|
|
|
|
100.0
|
%
|
|
|
120,646
|
|
|
|
17,657
|
|
|
|
100.0
|
%
|
Cost of Revenue
|
|
|
178,125
|
|
|
|
60.8
|
|
|
|
272,402
|
|
|
|
64.3
|
|
|
|
326,809
|
|
|
|
47,829
|
|
|
|
55.1
|
|
|
|
52,273
|
|
|
|
60.2
|
|
|
|
66,178
|
|
|
|
9,685
|
|
|
|
54.9
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross Profit
|
|
|
114,738
|
|
|
|
39.2
|
|
|
|
151,560
|
|
|
|
35.7
|
|
|
|
265,890
|
|
|
|
38,913
|
|
|
|
44.9
|
|
|
|
34,549
|
|
|
|
39.8
|
|
|
|
54,468
|
|
|
|
7,972
|
|
|
|
45.1
|
|
Research and development expenses
|
|
|
12,856
|
|
|
|
4.4
|
|
|
|
14,405
|
|
|
|
3.3
|
|
|
|
16,370
|
|
|
|
2,396
|
|
|
|
2.8
|
|
|
|
3,591
|
|
|
|
4.1
|
|
|
|
5,110
|
|
|
|
748
|
|
|
|
4.2
|
|
Selling expenses
|
|
|
27,672
|
|
|
|
9.5
|
|
|
|
30,698
|
|
|
|
7.3
|
|
|
|
37,076
|
|
|
|
5,426
|
|
|
|
6.3
|
|
|
|
7,450
|
|
|
|
8.6
|
|
|
|
8,859
|
|
|
|
1,297
|
|
|
|
7.3
|
|
General and administrative expenses
|
|
|
10,243
|
|
|
|
3.5
|
|
|
|
11,034
|
|
|
|
2.6
|
|
|
|
35,792
|
|
|
|
5,238
|
|
|
|
6.0
|
|
|
|
3,466
|
|
|
|
4.0
|
|
|
|
829
|
|
|
|
121
|
|
|
|
0.7
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income
|
|
|
63,967
|
|
|
|
21.8
|
|
|
|
95,423
|
|
|
|
22.5
|
|
|
|
176,652
|
|
|
|
25,853
|
|
|
|
29.8
|
|
|
|
20,042
|
|
|
|
23.1
|
|
|
|
39,670
|
|
|
|
5,806
|
|
|
|
32.9
|
|
Impairment loss
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Loss from sale of property
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
3,216
|
|
|
|
471
|
|
|
|
0.5
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Interest expense
|
|
|
7,372
|
|
|
|
2.5
|
|
|
|
5,759
|
|
|
|
1.4
|
|
|
|
3,118
|
|
|
|
456
|
|
|
|
0.5
|
|
|
|
1,047
|
|
|
|
1.2
|
|
|
|
326
|
|
|
|
48
|
|
|
|
0.3
|
|
Other income
|
|
|
2,507
|
|
|
|
0.9
|
|
|
|
4,523
|
|
|
|
1.1
|
|
|
|
1,279
|
|
|
|
187
|
|
|
|
0.2
|
|
|
|
326
|
|
|
|
0.3
|
|
|
|
197
|
|
|
|
29
|
|
|
|
0.2
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from continuing operations before income taxes
|
|
|
59,102
|
|
|
|
20.2
|
|
|
|
94,187
|
|
|
|
22.2
|
|
|
|
171,597
|
|
|
|
25,113
|
|
|
|
29.0
|
|
|
|
19,321
|
|
|
|
22.2
|
|
|
|
39,541
|
|
|
|
5,787
|
|
|
|
32.8
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Provision for income taxes
|
|
|
7,403
|
|
|
|
2.5
|
|
|
|
11,799
|
|
|
|
2.8
|
|
|
|
37,830
|
|
|
|
5,536
|
|
|
|
6.4
|
%
|
|
|
4,277
|
|
|
|
4.9
|
|
|
|
10,608
|
|
|
|
1,553
|
|
|
|
8.8
|
|
Income from continuing operations
|
|
|
51,699
|
|
|
|
17.7
|
|
|
|
82,388
|
|
|
|
19.4
|
|
|
|
133,767
|
|
|
|
19,577
|
|
|
|
22.6
|
%
|
|
|
15,044
|
|
|
|
17.3
|
|
|
|
28,933
|
|
|
|
4,234
|
|
|
|
24.0
|
|
Total income (loss) from discontinued operations
|
|
|
1,113
|
|
|
|
0.3
|
|
|
|
(180
|
)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
|
52,812
|
|
|
|
18.0
|
%
|
|
|
82,208
|
|
|
|
19.4
|
%
|
|
|
133,767
|
|
|
|
19,577
|
|
|
|
22.6
|
%
|
|
|
15,044
|
|
|
|
17.3
|
%
|
|
|
28,933
|
|
|
|
4,234
|
|
|
|
24.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comparison
of Three Months Ended March 31, 2008 and Three Months Ended
March 31, 2009
Revenue
Our revenue increased RMB33.8 million, or 39.0%, from
RMB86.8 million for the three months ended March 31,
2008 to RMB120.6 million ($17.7 million) for the three
months ended March 31, 2009, with revenue increasing in
each of our product categories. Specifically, revenue for our
circulating water treatment equipment, water purification
equipment and wastewater treatment equipment for the three
months ended March 31, 2009 increased by
RMB7.3 million, or 19.3%, RMB11.5 million, or 74.2%,
and RMB13.5 million, or 40.9%, respectively, when compared
to the three months ended March 31, 2008. This increase in
revenue was mainly attributable to increased demand for our
products as a result of governmental regulations mandating the
utilization of water treatment products and stricter enforcement
of environmental protections laws, increased updating or
replacing existing and outdated equipment, and our expanded
production capacity. The demand for our water purification
equipment as a percentage of revenue outpaced the demand for our
circulating water equipment and wastewater treatment equipment
as a result of new models of water purification equipment we
introduced in March and April 2008. We also believe that the
growth rate for our circulating water treatment products was
negatively impacted by the recent challenging global economic
conditions.
Circulating Water Treatment Equipment. Revenue
for our circulating water treatment equipment category increased
for the three months ended March 31, 2009 by
RMB7.3 million, or 19.3%, from RMB37.9 million for the
three months ended March 31, 2008 to RMB45.2 million
($6.6 million) for the three months ended March 31,
2009. This increase was primarily due to the increase in demand
for
68
our new fully automatic filter models and our circulating water
central processors, which was partially offset by a decrease in
demand for our cyclone filters and water softeners. The new
models of our fully automatic filter use less energy and
discharge less waste than our previous models and have wider
uses and applications because of its improved filtration
capabilities. In addition, demand for our circulating water
central processors also increased as a result of design
improvements in 2008.
Water Purification Equipment. Revenue for our
water purification equipment category increased for the three
months ended March 31, 2009 by RMB11.5 million, or
74.2%, from RMB15.5 million for the three months ended
March 31, 2008 to RMB27.0 million ($4.0 million)
for the three months ended March 31, 2009. This increase
was primarily due to the increase in demand for our central
water purifiers, ozone generators and ultraviolet water
purifiers. During 2008, we introduced several new models of
central water purifiers, a new model of our ozone generator and
several new models of our ultraviolet water purifiers. In
addition to new product introductions, each of which we believe
have high quality to price ratios, our increased revenue
resulted from enhanced marketing efforts, greater market
acceptance of our products and stricter enforcement of
governmental regulations mandating a higher nationwide standard
for drinking water.
Wastewater Treatment Equipment. Revenue for
our wastewater treatment equipment category increased for the
three months ended March 31, 2009 by RMB13.5 million,
or 40.9%, from RMB32.9 million for the three months ended
March 31, 2008 to RMB46.4 million ($6.8 million)
for the three months ended March 31, 2009. This increase in
revenue was primarily due to the increase in demand for and
sales of our belt-type thickener-filter press mono-block
machines, sludge screws, online testing equipment and
ultraviolet shelving disinfection system. Demand for our
belt-type thickener-filter press mono-block machines and sludge
screws increased due to the increase in construction of new
municipal wastewater treatment facilities. In 2008, we
introduced our online testing equipment and ultraviolet shelving
disinfection system to address needs resulting from governmental
regulations mandating higher wastewater discharge standards.
Cost
of Revenue
As a percentage of revenue, our cost of revenue decreased from
60.2% to 54.9% for the three months ended March 31, 2008
and 2009, respectively. This decrease was primarily due to the
gradual decrease in raw material costs of 5% to 10% in the
beginning of the fourth quarter of 2008. Due primarily to sales
volume increases, our cost of revenue increased
RMB13.9 million, or 26.6%, from RMB52.3 million for
the three months ended March 31, 2008 to
RMB66.2 million ($9.7 million) for the three months
ended March 31, 2009.
Gross
Profit
As a result of the factors above, our gross profit increased
RMB19.9 million, or 57.7%, from RMB34.5 million for
the three months ended March 31, 2008 to
RMB54.5 million ($8.0 million) for the three months
ended March 31, 2009. As a percentage of revenue, our gross
profit margin increased from 39.8% to 45.1% for the three months
ended March 31, 2008 and 2009, respectively, primarily due
to the decrease in raw material costs that went into effect
during the fourth quarter of 2008 as a result of the challenging
global economic conditions.
69
Research
and Development Expenses
Research and development expenses increased RMB1.5 million,
or 42.3%, from RMB3.6 million for the three months ended
March 31, 2008 to RMB5.1 million ($0.7 million)
for the three months ended March 31, 2009. This increase
was primarily due to a 10% increase in employee salaries and the
salaries of three new employees.
As a percentage of revenue, research and development expenses
remained consistent from 4.1% to 4.2% for the three months ended
March 31, 2008 and 2009, respectively. We continue to be
committed to creating, developing and commercializing new and
more advanced products.
Selling
Expenses
Selling expenses increased RMB1.4 million, or 18.9%, from
RMB7.5 million for the three months ended March 31,
2008 to RMB8.9 million ($1.3 million) for the three
months ended March 31, 2009. This increase was primarily
due to the increase in salaries paid as we hired 20 new
employees from the same prior year period. We also increased our
participation in industry trade conferences and exhibitions,
incurring increased costs related to preparing promotional
materials and transportation costs incurred by our sales
representatives to attend these industry trade conferences and
exhibitions.
As a percentage of revenue, selling expenses decreased from 8.6%
to 7.3% for the three months ended March 31, 2008 and 2009,
respectively. This decrease was primarily due to our increased
sales volume.
General
and Administrative Expenses
General and administrative expenses decreased
RMB2.6 million, or 76.1%, from RMB3.5 million for the
three months ended March 31, 2008 to RMB0.8 million
($0.1 million) for the three months ended March 31,
2009. This decrease was primarily due to a RMB4.3 million
($0.6 million) adjustment of our estimated accrual of costs
provided at December 31, 2008 in connection with this
public offering, which was partially offset by an increase in
property taxes, benefits paid to employees and office rental
expenses.
As a percentage of revenue, general and administrative expenses
decreased from 4.0% to 0.7% for the three months ended
March 31, 2008 and 2009s, respectively. This increase was
mainly due to an adjustment of our estimated accrual of costs in
connection with this public offering filing noted above.
Excluding the impact of this adjustment, as a percentage of
revenue, general and administrative expenses would have been
4.3%.
Operating
Income
As a result of the factors above, our operating income increased
RMB19.6 million ($2.9 million), or 97.9%, from
RMB20.0 million for the three months ended March 31,
2008 to RMB39.7 million ($5.8 million) for the three
months ended March 31, 2009. As a percentage of revenue,
our operating income increased from 23.1% to 32.9% for the three
month ended March 31, 2008 and 2009, respectively.
70
Interest
Expense
Interest expense decreased RMB0.7 million, or 68.8%, from
RMB1.0 million for the three months ended March 31,
2008 to RMB0.3 million ($47,765) for the three months ended
March 31, 2009 as we reduced our outstanding bank debt
obligation in the same period.
Other
Income
Other income decreased RMB0.1 million, or 39.6%, from
RMB0.3 million for the three months ended March 31,
2008 to RMB0.2 million ($28,825) for the three months ended
March 31, 2009. This decrease was primarily the result of
rental income received from a related party which we did not
receive for the three months ended March 31, 2009.
Provision
for Income Taxes
Provision for income taxes increased RMB6.3 million, or
148.0%, from RMB4.3 million for the three months ended
March 31, 2008 to RMB10.6 million ($1.6 million)
for the three months ended March 31, 2009. This increase in
the provision for income taxes was primarily attributable to the
increase in our profits by 104.7% over the same period and the
termination of Duoyuan Langfang’s tax exemption on
December 31, 2008. Our effective tax rates for the three
months ended March 31, 2008 and 2009 were 21.3% and 25.0%,
respectively.
Net
Income
As a result of the foregoing, net income increased
RMB13.9 million, or 92.3%, from RMB15.0 million for
the three months ended March 31, 2008 to
RMB28.9 million ($4.2 million) for the three months
ended March 31, 2009.
Comparison
of 2007 and 2008
Revenue
Our revenue increased RMB168.7 million, or 39.8%, from
RMB424.0 million in 2007 to RMB592.7 million
($86.7 million) in 2008 with revenue increasing in each of
our product categories. Specifically, revenue for our
circulating water treatment equipment, water purification
equipment and wastewater treatment equipment in 2008 increased
by RMB52.6 million, or 27.2%, RMB30.2 million, or
30.8% and RMB78.9 million, or 58.1%, respectively, when
compared to 2007. This increase in revenue was mainly
attributable to increased demand for our products as a result of
governmental regulations mandating the utilization of water
treatment products and stricter enforcement of environmental
protections laws, the increased demand in updating or replacing
existing and outdated equipment, our expanded production
capacity and increased sales to our existing distributors. Also,
demand for our new products, such as our enhanced fully
automatic filters (circulating water treatment equipment),
ultraviolet water purifiers, central water purifiers and ozone
generators (water purification equipment), and online testing
equipment and ultraviolet shelving disinfection system
(wastewater treatment equipment), also attributed to the
increase in revenue in 2008.
Circulating Water Treatment Equipment. Revenue
for our circulating water treatment equipment category increased
in 2008 by RMB52.6 million, or 27.2%, from
RMB193.3 million in 2007 to
71
RMB245.9 million ($36.0 million) in 2008. This
increase was primarily due to the increase in demand for our new
fully automatic filter models. We believe demand for our new
models of fully automatic filters, which we introduced in March
and April 2008, was a result of governmental enforcement of
environmental protection laws mandating the use of energy saving
and low emissions water treatment products. In 2008, we
introduced 17 new models of fully automatic filters that met or
exceeded the environmental standards and we believe we priced
these new models competitively. With greater market awareness
and acceptance, revenue for our fully automatic filters
increased by RMB66.6 million, or 95.8%, from
RMB69.5 million in 2007 to RMB136.1 million
($19.9 million) in 2008.
Water Purification Equipment. Revenue for our
water purification equipment category increased in 2008 by
RMB30.2 million, or 30.8%, from RMB97.9 million in
2007 to RMB128.1 million ($18.7 million) in 2008. This
increase was primarily due to the increase in demand for our
central water purifiers, industrial pure water equipment, ozone
generators and ultraviolet water purifiers. The increase in
demand for our central water purifiers, industrial pure water
equipment and ozone generators, which we believe have high
quality to price ratios, was primarily a result of our enhanced
marketing efforts. Demand for our ultraviolet water purifiers,
which is our basic water purification product, increased
primarily due to stricter enforcement of governmental
regulations mandating a higher nationwide standard for drinking
water. To capitalize on such stricter enforcement, in 2008 we
introduced five new models of our ultraviolet water purifiers to
gain market share and with greater market awareness and
acceptance, demand for our existing and new models of our
ultraviolet water purifiers increased.
Wastewater Treatment Equipment. Revenue for
our wastewater treatment equipment category increased in 2008 by
RMB78.9 million, or 58.1%, from RMB135.7 million in
2007 to RMB214.6 million ($31.4 million) in 2008. This
increase was primarily due to the increase in demand for our
belt-type thickener-filter press mono-block machines, sludge
screws and microporous aerators. Demand for our belt-type
thickener-filter press mono-block machines, sludge screws and
microporous aerators increased as the market expanded with the
construction of new municipal wastewater treatment facilities
and more capital becoming available to governmental agencies and
other enterprises to purchase our products. The stricter
enforcement of environmental regulations also led to the
increase in demand for these products.
Cost
of Revenue
Our cost of revenue increased RMB54.4 million, or 20.0%,
from RMB272.4 million in 2007 to RMB326.8 million
($47.8 million) in 2008. This increase was primarily due to
the increase in volume of our products sold during this period,
contributing to the increase in consumption of raw materials and
components across all three product categories as our revenue
increased by 39.8% from 2007 to 2008.
As a percentage of revenue, the cost of revenue decreased from
64.3% for 2007 to 55.1% for 2008. This decrease was primarily
due to the increase in the sale of products with higher gross
profit margins, in particular, our new fully automatic filter
models and microporous aerators, as a percentage of our total
revenue in 2008 and the sale of sample products, at or slightly
greater than cost, to our distributors in 2007, which increased
our cost of revenue in that year.
Gross
Profit
As a result of the factors above, our gross profit increased
RMB114.3 million, or 75.4%, from RMB151.6 million in
2007 to RMB265.9 million ($38.9 million) in 2008. As a
percentage of revenue,
72
our gross profit margin increased from 35.7% for 2007 to 44.9%
for 2008, primarily due to the increase in sale of our new fully
automatic filter models, a high margin product, in 2008 and the
sale of sample products, at or slightly greater than cost, to
our distributors of RMB38.4 million in 2007, which
decreased our gross profit in that year.
Research
and Development Expenses
Research and development expenses increased RMB2.0 million,
or 13.6%, from RMB14.4 million in 2007 to
RMB16.4 million ($2.4 million) in 2008. This increase
was primarily due to an increase in costs from the purchase of
raw materials in connection with our sample product development.
As a percentage of revenue, research and development expenses
decreased from 3.3% for 2007 to 2.8% for 2008. This decrease was
mainly a function of our revenue increasing faster than our
research and development expenses.
Selling
Expenses
Selling expenses increased RMB6.4 million, or 20.8%, from
RMB30.7 million in 2007 to RMB37.1 million
($5.4 million) in 2008. This increase was primarily due to
the increase in advertising costs and our increased
participation in industry trade conferences and exhibitions and
the related costs of preparing promotional materials, as well as
increased transportation costs incurred by our sales
representatives in connection with attending these industry
trade conferences and exhibitions, from RMB17.8 million in
2007 to RMB23.7 million ($3.5 million) in 2008.
As a percentage of revenue, selling expenses decreased from 7.3%
for 2007 to 6.3% for 2008. This decrease was primarily due to
our increased sales volume, which created economies of scale and
reduced our per unit selling expenses.
General
and Administrative Expenses
General and administrative expenses increased
RMB24.8 million, or 224.4%, from RMB11.0 million in
2007 to RMB35.8 million ($5.2 million) in 2008. This
increase was primarily due to public offering costs totaling
RMB20.5 million ($3.0 million) and an increase in
salaries expense of RMB2.5 million, from
RMB1.8 million in 2007 to RMB4.4 million
($0.6 million) in 2008, as we hired 17 new employees.
As a percentage of revenue, general and administrative expenses
increased from 2.6% for 2007 to 6.0% for 2008. This increase was
mainly attributable to expensing public offering costs as a
result of the delay in this public offering.
Operating
Income
As a result of the factors above, our operating income increased
RMB81.2 million ($11.9 million), or 85.1%, from
RMB95.4 million in 2007 to RMB176.7 million
($25.9 million) in 2008. As a percentage of revenue, our
operating income increased from 22.5% for 2007 to 29.8% for 2008.
73
Interest
Expense
Interest expense decreased RMB2.6 million, or 45.9%, from
RMB5.8 million in 2007 to RMB3.1 million
($0.5 million) in 2008 as we reduced our outstanding bank
debt obligation in 2008.
Other
Income
Other income decreased RMB3.2 million, or 71.7%, from
RMB4.5 million in 2007 to RMB1.3 million
($0.2 million) in 2008. This decrease was primarily the
result of interest income received from our discontinued
operations in 2007 which was not received in 2008.
Loss
on Sale of Property
In June 2008, we executed the transfer of properties with
Duoyuan Information Terminal Manufacture (Langfang) Co., Ltd. As
a result of a business tax incurred on the transfer, we
experienced a loss on the sale of our property in the amount of
RMB3.2 million.
Provision
for Income Taxes
Provision for income taxes increased RMB26.0 million, or
220.6%, from RMB11.8 million in 2007 to
RMB37.8 million ($5.5 million) in 2008. This increase
in the provision for income taxes was primarily attributable to
the increase in our profits by 82.2% over the same period and
the new tax rate for Duoyuan Beijing which went into effective
on January 1, 2008. Our effective tax rates for 2007 and
2008 were 12.8% and 20.9%, respectively.
Total
Income (loss) from Discontinued Operations
Total loss from Duoyuan Huanan, a discontinued operation,
decreased RMB0.2 million, or 100.0%, from
RMB0.2 million in 2007 to a loss of nil in 2008 as the sale
of our discontinued operations became effective on July 1,
2007.
Net
Income
As a result of the foregoing, net income increased
RMB51.6 million, or 62.7%, from RMB82.2 million in
2007 to RMB133.8 million ($19.6 million) in 2008.
Comparison
of 2006 and 2007
Revenue
Our revenue increased RMB131.1 million, or 44.8%, from
RMB292.9 million in 2006 to RMB424.0 million in 2007.
Our revenue increased for each of our product categories in 2007
as compared to 2006. This increase in revenue was mainly
attributable to increased demand for our products as a result of
governmental regulations mandating the utilization of water
treatment products and stricter enforcement of environmental
protections laws, the increased demand in updating or
74
replacing existing and outdated equipment, the growth in the
office and residential construction market, our expanded
production capacity and increased sales to our existing
distributors.
Circulating Water Treatment Equipment. Revenue
for our circulating water treatment equipment category increased
in 2007 by RMB48.0 million, or 33.0%, from
RMB145.3 million in 2006 to RMB193.3 million in 2007.
This increase was primarily due to the increase in demand for
our electronic water conditioners, which was partially offset by
a decrease in demand for our circulating water central
processors and cyclone filters. The increase in demand for our
electronic water conditioners was primarily due to demand for
conditioners that use non-chemical (physical) means to treat
water in circulating water systems. Compared to our water
softeners, which chemically treat water in circulating systems,
our electronic water conditioners are more energy efficient,
safe for the environment and also aid in rust prevention.
Because of these advantages, revenue generated from our
electronic water conditioners outpaced revenue from our water
softeners. The decrease in demand for our circulating water
central processors in 2007 was primarily because our product did
not provide the high quality water output required by our most
demanding end-user customers. Specifically, the original design
for our circulating water central processors did not include a
pre-filtering component and certain electronic components, which
would have provided for a higher quality water output. To
address the concerns of those end-user customers who required a
higher quality water output, our distributors, at their cost,
purchased a separate pre-filtering component to install in our
circulating water central processors. To meet the needs of all
of our end-user customers, including the most demanding, we
modified the design of our circulating water processors to
include a pre-filtering component and advanced electrical
components. We reintroduced our modified circulating water
central processors in October 2008. Actual sales of our
circulating water central processors in 2007 represented a
decrease of approximately RMB31.9 million when compared to
our sales target for that product in the same period. The
decrease in demand for our cyclone filters, a low technology
product, was due to increased domestic competition.
Water Purification Equipment. Revenue for our
water purification equipment category increased in 2007 by
RMB43.1 million, or 78.6%, from RMB54.8 million in
2006 to RMB97.9 million in 2007. This increase was
primarily due to the increase in demand for our ultraviolet
water purifiers, central water purifiers, and industrial pure
water equipment, which was partially offset by a decrease in
demand for our ozone generators. The increase in demand for our
ultraviolet water purifiers, which is our basic water
purification product, was primarily due to stricter enforcement
of governmental regulations mandating a higher nationwide
standard for drinking water. The increase in demand for our
central water purifiers was a result of the growth in office and
residential construction market. Specifically, builders
installed our central water purifiers in newly constructed
office buildings and homes as tenants and homeowners
increasingly demanded a higher quality of tap water. The
increase in demand for our industrial pure water equipment,
which we believe has a high quality to price ratio, was
primarily a result of our enhanced marketing efforts and a
decrease in the average selling price of the product to make it
more cost competitive. The decrease in demand for our ozone
generators was primarily due to increased competition from
international competitors.
Wastewater Treatment Equipment. Revenue for
our wastewater treatment equipment category in 2007 increased by
RMB47.6 million, or 54.1%, from RMB88.0 million in
2006 to RMB135.7 million in 2007. This increase was
primarily due to the increase in demand for our sludge screws
and microporous aerators, which was partially offset by a
decrease in demand for our water decanters. The increase in
demand for our sludge screws was due to increased market
awareness and acceptance of this new product which we introduced
in 2005. The increase in demand for our microporous aerators was
also due to an increased demand for a more sophisticated and
technologically advanced product than those existing in the
market. The decrease in demand for our water decanter, a low
technology product, was due to increased domestic competition.
75
Cost
of Revenue
Our cost of revenue increased RMB94.3 million, or 52.9%,
from RMB178.1 million in 2006 to RMB272.4 million in
2007. This increase was primarily due to the increase in volume
of our products sold during this period.
As a percentage of revenue, the cost of revenue increased from
60.8% for 2006 to 64.3% for 2007. This increase was mainly
attributable to the increase in raw materials and component cost
across all three product categories, particularly for our water
purification equipment, and the upgrading of our existing
production lines for our wastewater treatment equipment,
particularly the production line for our microporous aerators.
Gross
Profit
As a result of the factors above, our gross profit increased
RMB36.8 million, or 32.1%, from RMB114.7 million in
2006 to RMB151.6 million in 2007.
Our gross profit margin decreased from 39.2% in 2006 to 35.7% in
2007 primarily as a result of the increase in the cost of raw
materials and components and the upgrading of our existing
productions lines. Our total purchases of materials and
components increased 54.3% in 2007 compared to 2006 as a result
of an increase in the cost of raw materials and components for
all three product categories. We also upgraded our existing
production lines for our wastewater treatment equipment in the
amount of RMB15.5 million which affected our gross margins.
Our gross margins were also affected by the sale of sample
products, at or slightly greater than cost, to our distributors
of RMB38.4 million in 2007. This sale resulted in a loss of
revenue of up to RMB10.7 million because we sold the sample
products at a discount rather than at normal profit margins.
This reduction of revenue reflected a decrease of 1.6% in our
gross margins.
Research
and Development Expenses
Research and development expenses increased RMB1.5 million,
or 12.0%, from RMB12.9 million in 2006 to
RMB14.4 million in 2007. This increase was primarily due to
an increase in costs from the purchase of raw materials in
connection with our sample product development.
As a percentage of revenue, research and development expenses
decreased from 4.4% in 2006 to 3.3% in 2007. This decrease was
mainly a function of our revenue increasing faster than our
research and development expenses.
Selling
Expenses
Selling expenses increased RMB3.0 million, or 10.9%, from
RMB27.7 million in 2006 to RMB30.7 million in 2007.
This increase was primarily due to the increase in costs
relating to our increased participation in industry trade
conferences and exhibitions and the related costs of preparing
promotional materials, as well as increased transportation costs
incurred by our sales representatives attending these industry
trade conferences and exhibitions, from RMB14.6 million in
2006 to RMB17.8 million in 2007.
76
As a percentage of revenue, selling expenses decreased from 9.5%
in 2006 to 7.3% in 2007. This decrease was primarily due to our
increased sales volume, which created economies of scale,
reducing our per unit selling expenses.
General
and Administrative Expenses
General and administrative expenses increased
RMB0.8 million, or 7.7%, from RMB10.2 million in 2006
to RMB11.0 million in 2007. This increase was primarily due
to a decrease in depreciation expense from RMB3.9 million
in 2006 to RMB3.2 million in 2007 as certain fixed assets
were fully depreciated. This decrease in depreciation expense
was partially offset by a 191.4% increase in expenditures for
general office supplies, from RMB0.5 million in 2006 to
RMB1.6 million in 2007.
As a percentage of revenue, general and administrative expenses
decreased from 3.5% in 2006 to 2.6% in 2007. This decrease was
mainly a function of our revenue increasing faster than our
administrative expenses.
Operating
Income
As a result of the factors above, our operating income increased
RMB31.5 million, or 49.2%, from RMB64.0 million in
2006 to RMB95.4 million in 2007. As a percentage of
revenue, our operating income increased from 21.8% for 2006 to
22.5% for 2007.
Interest
Expense
Interest expense decreased RMB1.6 million, or 21.9%, from
RMB7.4 million in 2006 to RMB5.8 million in 2007 as we
reduced our outstanding bank debt obligation in 2007.
Other
Income
Other income increased RMB2.0 million, or 80.4%, from
RMB2.5 million in 2006 to RMB4.5 million in 2007. This
increase was primarily the result of a non-recurring rental
charge Duoyuan Digital Printing Technology Industries (China)
Co. Ltd., an entity controlled by Wenhua Guo, our chairman and
chief executive officer, for the office space located at
No. 3 Jinyuan Road. Interest income remained relatively
unchanged from 2006 to 2007.
Provision
for Income Taxes
Provision for income taxes increased RMB4.4 million, or
59.4%, from RMB7.4 million in 2006 to RMB11.8 million
in 2007. This increase in the provision for income taxes was
primarily attributable to the increase in our profits by 59.4%
over the same period. Our effective tax rates for 2006 and 2007
were 13.1% and 12.8%, respectively.
Due to various special tax rates, tax holidays and incentives
that have been granted to us in China, our taxes have been
relatively low. The additional amounts of tax that we would have
otherwise been required to pay had we not enjoyed the various
preferential tax treatments would have been RMB12.3 million
in 2006 and RMB19.5 million in 2007.
77
Total
Income (loss) from Discontinued Operations
Total income (loss) from Duoyuan Huanan, a discontinued
operation, decreased RMB1.3 million, or 116.1%, from
RMB1.1 million in 2006 to a loss of RMB0.2 million in
2007. Income (loss) from Duoyuan Huanan’s operations is
classified as discontinued operations as a result of our
agreement, dated August 12, 2007, to sell substantially all
of the business activities and operations of Duoyuan Huanan to
Duoyuan Asian Water Inc., a British Virgin Islands company
wholly owned by our chairman and chief executive officer, Wenhua
Guo. The net loss of RMB0.2 million in 2007 consisted of a
RMB0.6 million loss on the sale of Duoyuan Huanan offset by
net income of RMB0.4 million from Duoyuan Huanan prior to
the sale.
Net
Income
As a result of the foregoing, net income increased
RMB29.4 million, or 55.7%, from RMB52.8 million in
2006 to RMB82.2 million in 2007.
Liquidity
and Capital Resources
We relied primarily on cash flow from operating activities and
our bank notes for our capital requirements in 2006, 2007, 2008
and the three months ended March 31, 2009. We expect that
our future capital expenditures primarily will be to improve and
upgrade our existing manufacturing facilities and production
lines, build new manufacturing facilities and production lines,
and expand our research and development capabilities. We expect
that approximately $80 million of our cash resources will
be required for these projects, the majority of which,
approximately $70 million, will be incurred for the
improvement and upgrading of our existing manufacturing
facilities and production lines and the building of new
manufacturing facilities and production lines. In addition, we
intend to use approximately $10 million to build a research
and development laboratory. Since we have not encountered any
difficulties in meeting our cash obligations to date, we believe
that the net proceeds from this offering, cash flow from
operating activities and our bank notes will be sufficient to
meet our presently anticipated cash needs for at least the next
12 months.
Our long-term liquidity needs will relate primarily to working
capital to pay our suppliers, as well as any increases in
manufacturing capacity or acquisitions of third party businesses
or licenses that we may seek in the future. We expect to meet
these requirements primarily through the proceeds of this
offering and revolving short-term bank borrowings, as well as
our cash flow from operations, which we expect will increase
with the planned increase in our manufacturing capacity. We
believe our working capital is sufficient for these current
requirements, though we may require additional cash due to
changing business conditions or other future developments,
including any investments or acquisitions we may decide to
pursue. If our existing cash is insufficient to meet our
requirements, we may seek to sell additional equity securities
or increase our borrowing level. The actual amount and timing of
our future capital requirements may differ materially from our
estimate depending on our actual results of operations.
As of December 31, 2006, 2007, 2008 and March 31,
2009, we had cash of RMB7.4 million, RMB28.1 million,
RMB198.5 million ($29.1 million) and
RMB248.3 million ($36.3 million), respectively. The
increase in our cash as of December 31, 2008 was primarily
due to the collection of amounts due from related parties
totaling RMB102.0 million. For a description of these
related party receivables, see “Related Party
Transactions — Loans to Related Parties —
Accounts Receivable.” For our current level of borrowing,
see the discussion below on our existing short-term notes. There
is no seasonal fluctuation to our borrowing requirements.
78
Sources
and Uses of Cash
The following table sets forth cash flow data for the periods
indicated:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended
December 31,
|
|
|
Three Months Ended
March 31,
|
|
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
2008
|
|
|
2009
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
$
|
|
|
RMB
|
|
|
RMB
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(UNAUDITED)
|
|
|
|
(In thousands)
|
|
|
Cash flow data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by operating activities
|
|
|
30,785
|
|
|
|
72,070
|
|
|
|
241,686
|
|
|
|
35,371
|
|
|
|
77,616
|
|
|
|
49,735
|
|
|
|
7,279
|
|
Net cash used in investing activities
|
|
|
—
|
|
|
|
(37,031
|
)
|
|
|
(22,221
|
)
|
|
|
(3,252
|
)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Net cash (used in) provided by financing activities
|
|
|
(36,000
|
)
|
|
|
(15,000
|
)
|
|
|
(49,000
|
)
|
|
|
(7,171
|
)
|
|
|
(29,000
|
)
|
|
|
—
|
|
|
|
—
|
|
Net increase (decrease) in cash of discontinued operations
|
|
|
(155
|
)
|
|
|
584
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net changes in cash
|
|
|
(5,370
|
)
|
|
|
20,623
|
|
|
|
170,465
|
|
|
|
24,948
|
|
|
|
48,616
|
|
|
|
49,735
|
|
|
|
7,279
|
|
Cash at beginning of period
|
|
|
12,800
|
|
|
|
7,430
|
|
|
|
28,053
|
|
|
|
4,105
|
|
|
|
28,053
|
|
|
|
198,518
|
|
|
|
29,053
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash at end of period
|
|
|
7,430
|
|
|
|
28,053
|
|
|
|
198,518
|
|
|
|
29,053
|
|
|
|
76,669
|
|
|
|
248,253
|
|
|
|
36,332
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Our outstanding short-term notes as of December 31, 2006,
2007 and 2008 were RMB84.0 million, RMB69.0 million
and RMB20.0 million ($2.9 million), respectively. As
of March 31, 2009, we had one short-term note outstanding
for RMB20.0 million ($2.9 million) with Bank of
Agriculture, Chongwen branch, in China. This note has an
expiration date of less than one year and an interest rate of
5.841% accruing quarterly. This note is secured by our real
property located in Langfang.
Operating
Activities
Net cash provided by operating activities in 2006, 2007, 2008
and the three months ended March 31, 2009 was generated
from our net income of RMB52.8 million,
RMB82.2 million, RMB133.8 million ($19.6 million)
and RMB28.9 million ($4.2 million), respectively,
after adjustment in each year for non-cash items such as
depreciation and amortization, and for changes in various assets
and liabilities such as accounts receivable, accounts payable
and inventories.
Net cash provided by operating activities decreased by
RMB27.9 million from RMB77.6 million for the three
months ended March 31, 2008 to RMB49.7 million
($7.3 million) for the three months ended March 31,
2009. Although net income increased from RMB15.0 million
for the three months ended March 31, 2008 to
RMB28.9 million ($4.2 million) for the three months
ended March 31, 2009, the bulk of the decrease resulted
from the collection of a RMB81.7 million related party
receivable in the three months ended March 31, 2008. By
December 31, 2008, we had collected all outstanding related
party receivables. For a description of these related party
receivables, see “Related Party Transactions —
Loans to Related Parties — Accounts Receivable.”
Also offsetting this decrease in operating cash flow were
increases in cash provided by a decrease in accounts receivable
of RMB16.0 million ($2.3 million) and an increase of
accounts payable of RMB27.2 million ($4.0 million) for
the three months ended March 31, 2009.
Net cash provided by operating activities increased by
RMB169.6 million from RMB72.1 million in 2007 to
RMB241.7 million ($35.4 million) in 2008. This
increase was primarily due to (1) an increase in net income
from RMB82.2 million to RMB133.8 million
($19.6 million) over the same period and (2) cash
provided by the decrease in related party receivables of
RMB102.0 million ($14.9 million) in 2008 as compared
to the increase in related party receivables of
RMB58.5 million in 2007. This increase in operating cash
flow was offset by an increase in inventory of
RMB24.2 million
79
($3.5 million) in 2008 as compared to a decrease in
inventory of RMB40.1 million in 2007. The inventory balance
at December 31, 2007 decreased from December 31, 2006
due to the sale of sample products, at or slightly greater than
cost, to our distributors. The inventory balance at
December 31, 2008 increased from December 31, 2007 due
to an increase in raw materials and finished goods inventories.
We did not sell any sample inventory in 2008.
Net cash provided by operating activities increased from
RMB30.8 million in 2006 to RMB72.1 million in 2007.
This increase was primarily due to: (1) an increase in net
income from RMB52.8 million to RMB82.2 million over
the same period; (2) a decrease in inventories of
RMB40.1 million; and (3) an increase in accounts
payable of RMB11.5 million. The decrease in inventories was
primarily the result of a RMB38.4 million sale of our
sample products, at or slightly greater than cost, to our
distributors. These sample products included models which were
on display at the offices of our distributors. The increase in
accounts payable was primarily due to the increase in sales in
the same period causing our purchase of raw materials and
components to increase, resulting in an increase in our accounts
payable. This increase in operating cash flow was partially
offset by an increase in related party receivables of
RMB58.5 million and an increase in accounts receivable of
RMB41.1 million. The increase in related party receivables
was due to our deposit of RMB44.5 million paid on the
aggregate purchase price of RMB75.6 million for a
manufacturing facility owned by Duoyuan Information Terminal
Manufacture (Langfang) Co., Ltd., an entity controlled by Wenhua
Guo, our chairman and chief executive officer. In connection
with the property swap with Duoyuan Information Terminal
Manufacture (Langfang) Co., Ltd. described in “Related
Party Transactions — Real Property Related
Transactions,” the amount of our deposit will be returned
to us before the completion of this offering. The increase in
accounts receivable was primarily due to a marked increase in
sales volume for our products. In addition, we granted certain
of our distributors preferred credit terms, reducing the amount
of advanced payments due to us as a reward for meeting or
exceeding their sales targets in the prior year.
Investing
Activities
Cash used in our investing activities primarily consist of
purchases of property, plant and equipment and renovation of
existing facilities and buildings. Cash used in investing
activities was nil for the three month ended March 31, 2008
and 2009. Net cash used in investing activities decreased from
RMB37.0 million in 2007 to RMB22.2 million
($3.3 million) in 2008. This decrease was primarily due to
decreased capital expenditures for our Duoyuan Langfang
manufacturing facility. Net cash used in investing activities
increased from nil in 2006 to RMB37.0 million in 2007. Cash
was mainly used to renovate the Duoyuan Langfang manufacturing
facility and the Duoyuan Beijing office building as well as to
purchase additional production equipment.
Financing
Activities
Cash provided by and used in our financing activities consist of
borrowings from and repayments to our short-term notes. In the
three months ended March 31, 2009, the cash impact of
financing activities was nil, and during the three months ended
March 31, 2008 we repaid two short-term notes in the amount
of RMB29.0 million. Net cash used in financing activities
was RMB49.0 million ($7.2 million) in 2008 as we
reduced our outstanding bank debt from the previous year. Net
cash used in financing activities was RMB15.0 million in
2007 as we reduced our outstanding bank debt from the previous
year. Net cash used in financing activities was
RMB36.0 million in 2006 as we reduced our outstanding bank
debt from the previous year.
80
Capital
Expenditures
Our capital expenditures in 2006, 2007 and 2008 were nil,
RMB38.9 million and RMB22.2 million
($3.3 million), respectively. Our capital expenditures in
2007 were used primarily to purchase production equipment and
the renovation of our manufacturing facilities and office
buildings. For 2008, our capital expenditures were primarily
used for the purchase of manufacturing equipment for our
facilities in Langfang. Although we did not have any capital
expenditures for the three months ended March 31, 2009, we
anticipate that we will incur costs in the expansion of our
existing production lines during the remainder of 2009.
Our future capital requirements will depend on many factors
including our rate of revenue growth, the timing and extent of
spending to support research and development efforts, the
expansion of manufacturing and sales activities, and the
introduction of new products. Although we are not currently a
party to any agreement or letter of intent with respect to
potential investments in, or acquisitions of, complementary
businesses, products or technologies, we may enter into these
types of arrangements in the future, which could also require us
to seek additional equity or debt financing. The sale of
additional equity securities or convertible debt securities
would result in additional dilution to our shareholders.
Additional debt would result in increased interest expense and
could result in covenants that would restrict our operations. We
have not made arrangements to obtain additional financing and
there is no assurance that such financing, if required, will be
available in amounts or on terms acceptable to us, if at all.
Contractual
Obligations
The following table sets forth our contractual obligations as of
December 31, 2008:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Payment Due by
December 31,
|
|
|
|
Total
|
|
|
2009
|
|
|
2010
|
|
|
2011
|
|
|
2012
|
|
|
2013
|
|
|
Thereafter
|
|
|
|
(RMB in thousands)
|
|
|
Current debt
|
|
|
20,000
|
|
|
|
20,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Capital lease obligations
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Operating lease obligations
|
|
|
1,124
|
|
|
|
1,124
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Purchase obligations
|
|
|
23,310
|
|
|
|
23,310
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Total
|
|
|
44,434
|
|
|
|
44,434
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Other than the contractual obligations set forth above, we do
not have any other long-term debt obligations, operating lease
obligations, purchase obligations or other long-term
liabilities. As of March 31, 2009, our current debt,
operating lease obligations and purchase obligations totaled
RMB20.0 million ($2.9 million), RMB0.8 million
($0.1 million) and RMB23.3 million
($3.4 million), respectively, for an aggregate amount of
RMB44.2 million ($6.5 million).
Seasonality
The sales of our products fluctuate on a seasonal basis each
year. Our sale numbers tend to be lower during the winter
months, when cold weather slows the pace of construction
activities that involve installation of water treatment
equipment, and higher during the spring, summer and autumn
months when construction projects are more active.
81
Off-Balance
Sheet Arrangements
We do not have any off-balance sheet arrangements.
Related
Party Transactions
For a description of our related-party transactions, see
“Related Party Transactions.”
Recently
Issued Accounting Pronouncements
In February 2007, the FASB issued Statement of Financial
Accounting Standards No. 159, The Fair Value Option for
Financial Assets and Financial Liabilities — including
an amendment of FASB Statement No. 115, or SFAS 159.
SFAS 159 permits companies to choose to measure many
financial instruments and certain other items at fair value that
are not currently required to be measured at fair value. The
objective of SFAS 159 is to provide opportunities to
mitigate volatility in reported earnings caused by measuring
related assets and liabilities differently without having to
apply hedge accounting provisions. SFAS 159 also
establishes presentation and disclosure requirements designed to
facilitate comparisons between companies that choose different
measurement attributes for similar types of assets and
liabilities. SFAS 159 became effective in the first quarter
of fiscal 2009. The adoption of this statement did not have a
material effect on our consolidated financial statements.
In December 2007, the FASB issued Statement of Financial
Accounting Standards No. 141(R), or SFAS 141R,
“Business Combinations.” SFAS 141R retains the
fundamental requirements in SFAS 141 that the acquisition
method of accounting (which SFAS 141 called the purchase
method) be used for all business combinations and for an
acquirer to be identified for each business combination.
SFAS 141R also establishes principles and requirements for
how the acquirer: (1) recognizes and measures in its
financial statements the identifiable assets acquired, the
liabilities assumed, and any non-controlling interest in the
acquiree; (2) improves the completeness of the information
reported about a business combination by changing the
requirements for recognizing assets acquired and liabilities
assumed arising from contingencies; (3) recognizes and
measures the goodwill acquired in the business combination or a
gain from a bargain purchase; and (4) determines what
information to disclose to enable users of the financial
statements to evaluate the nature and financial effects of the
business combination. SFAS 141R applies prospectively to
business combinations for which the acquisition date is on or
after the beginning of the first annual reporting period
beginning on or after December 15, 2008 (for acquisitions
closed on or after January 1, 2009 for us). Early
application is not permitted. On April 1, 2009,
SFAS 141R was amended by FASB Staff Position
FAS 141R-1,
“Accounting for Assets Acquired and Liabilities Assumed in
a Business Combination That Arise from Contingencies”, to
address application issues regarding the accounting and
disclosure provisions for contingencies. The FSP amended
SFAS 141R by replacing the guidance on the initial
recognition and measurement of assets and liabilities arising
from contingencies acquired or assumed in a business combination
with guidance similar to that in SFAS 141, before the 2007
revision. The FSP also amended SFAS 141R’s subsequent
accounting guidance for contingent assets and liabilities
recognized at the acquisition date and amends the disclosure
requirements for contingencies. The amendments to SFAS 141R
coincide with the effective date of SFAS 141R. Since the
application of SFAS 141R is effective prospectively, we
have determined that this statement will not have a material
effect on our consolidated financial statements for any period
prior to December 31, 2008.
In December 2007, the FASB issued Statement of Financial
Accounting Standards No. 160, or SFAS 160,
“Noncontrolling Interests in Consolidated Financial
Statements — an amendment of ARB No. 51”
which requires all entities to report noncontrolling interests
(previously referred to as minority
82
interests) in subsidiaries as a separate component of equity in
the consolidated financial statements. Moreover, SFAS 160
eliminates the diversity that currently exists in accounting for
transactions between an entity and noncontrolling interests by
requiring they be treated as equity transactions. SFAS 160
is effective for fiscal years beginning after December 15,
2008. We have determined that this statement will not have a
material effect on our consolidated financial statements.
In March 2008, the FASB issued Statement of Financial Accounting
Standards No. 161, or SFAS 161 “Disclosures about
Derivative Instruments and Hedging Activities” to expand
the disclosure framework in SFAS 133 “Accounting for
Derivative Instruments and Hedging Activities”. The new
Statement requires companies with derivative instruments to
disclose information about how and why the company uses
derivative instruments; how the company accounts for derivative
instruments and related hedged items under Statement 133; and
how derivative instruments and related hedged items affect the
company’s financial position, financial performance, and
cash flows. The expanded disclosure guidance also requires a
company to provide information about its strategies and
objectives for using derivative instruments; disclose
credit-risk-related contingent features in derivative agreements
and information about counterparty credit risk; and present the
fair value of derivative instruments and related gains or losses
in a tabular format. SFAS 161 is effective for fiscal years
and interim periods within those fiscal years, beginning on or
after December 15, 2008. We have determined that this
statement will not have a material effect on our consolidated
financial statements.
Quantitative
and Qualitative Disclosures about Market Risk
Interest
Rate Risk
We are exposed to interest rate risk due primarily to our
short-term notes. As of March 31, 2009, we had one
short-term note of RMB20.0 million ($2.9 million), in
the aggregate, and cash on hand and in banks of approximately
RMB248.3 million ($36.3 million). Although the
interest rates on our short-term notes are fixed during their
respective terms, the terms are typically 12 months or less
and interest rates are subject to change upon renewal. The
interest rates on our short-term notes are determined by
reference to the benchmark interest rates set by the
People’s Bank of China, or the PBOC. Since April 28,
2006, the PBOC has increased the benchmark interest rate of
Renminbi bank notes with a term of 6 to 12 months 12 times,
seven consecutive increases followed by five consecutive
decreases, by 0.27% on most occasions. As a result, from 2006 to
the three months ended March 31, 2009, the benchmark
interest rate for these Renminbi bank notes increased from 5.85%
to 7.47% then decreased to 5.31% and the interest rate
applicable to us increased from 6.696% to 8.217% then decreased
to 5.841% over the same period. Any future increase in the
PBOC’s benchmark interest rate will result in an increase
in our interest expenses. A 1.0% increase in the annual interest
rates for all of our credit facilities as of March 31, 2009
would decrease income from continuing operations before income
taxes by approximately RMB50,000 ($7,318) for the three months
ended March 31, 2009. We monitor interest rates in
conjunction with our cash requirements to determine the
appropriate level of debt balances relative to other sources of
funds. We have not entered into any hedging transactions in an
effort to reduce our exposure to interest rate risk.
Foreign
Exchange Risk
Although the conversion of the Renminbi is highly regulated in
China, the value of the Renminbi against the value of the
U.S. dollar (or any other currency) may fluctuate and be
affected by, among other things, changes in China’s
political and economic conditions. Under the currency policy in
effect in China today, the Renminbi is permitted to fluctuate in
value within a narrow band against a basket of certain foreign
currencies. China is currently under significant international
pressures to liberalize this
83
currency policy, and if such liberalization occur, the value of
the Renminbi could appreciate or depreciate against the
U.S. dollar.
All of our revenue and expenses are denominated in Renminbi. We
use the Renminbi as the reporting and functional currency for
our financial statements.
Fluctuations in the exchange rate between the U.S. dollar
and the Renminbi will affect the relative purchasing power of
the proceeds from this offering, our balance sheet and our
financial results in U.S. dollars following this offering.
For example, to the extent that we need to convert
U.S. dollars received in this offering into Renminbi for
our operations, appreciation of the Renminbi against the
U.S. dollar would have an adverse effect on the Renminbi
amount that we receive from the conversion. Assuming we were to
convert the net proceeds received in this offering into
Renminbi, a 1.0% increase in the value of the Renminbi against
the U.S. dollar would decrease the amount of Renminbi we
receive by RMB5.5 million. Conversely, if we decide to
convert our Renminbi into U.S. dollars for the purpose of
making dividend payments on our ordinary shares or ADSs or for
other business purposes, appreciation of the U.S. dollar
against the Renminbi would have a negative effect on the
U.S. dollar amount available to us. In addition,
fluctuations in the exchange rate would affect our financial
results translated in U.S. dollar terms without giving
effect to any underlying change in our business or results of
operations.
Since our exposure to foreign exchange risks is limited, we have
not used any forward contracts or currency borrowings to hedge
our exposure and do not currently intend to do so.
Inflation
Inflationary factors, such as increases in the cost of our
products and overhead costs, could impair our operating results.
Although we do not believe that inflation has had a material
impact on our financial position or results of operations to
date, a high rate of inflation in the future may have an adverse
effect on our ability to maintain current levels of gross profit
and selling, general and administrative expenses as a percentage
of revenue if the selling prices of our products do not increase
with these increased costs.
84
INDUSTRY
Overview:
Water Scarcity and Water Resource Development in China
Due to rapid growth in population, urbanization and
industrialization in China, the country faces severe water
shortages and natural water resource pollution. To address those
issues, the Chinese government has enacted stricter
environmental standards and invested significantly in water
treatment projects to promote sustainable economic growth and to
provide its population with affordable, purified water.
Accordingly, the demand for water treatment equipment has
experienced and is expected to continue to experience rapid
growth.
Acute
Water Shortage Problem
According to the U.S. Department of Commerce, the average
annual water resource volume in China is estimated at
approximately 2.8 trillion cubic meters, making China the fourth
largest source of water in the world. However, only 2,200 cubic
meters of water is available per person in China compared with
the average global water availability of 8,800 cubic meters per
person, ranking China 88th in the world. With China’s
population expected to grow to 1.6 billion people by the
mid-21st century, China’s per capita water resource is
expected to decrease to 1,760 cubic meters, which would further
exacerbate current water shortages.
Poor water management in China has also led to significant water
waste. According to the Chinese Ministry of Water Resources, the
percentage of available water used, or the water utilization
rate, for a number of rivers in China, including the Huai River,
Liao River and Yellow River, was approximately 60% in 2007 and
as high as 100% for the Hai River. By comparison, international
standards are set at 30% to 40% with the intention of conserving
water resources. In addition, China also has severe regional
water imbalances, with southern China having approximately
four-fifths of China’s water supply. The region, however,
still lacks sufficient water resources due to extensive water
pollution.
Severe
Natural Water Resource Pollution
According to the National Surface Water Quality Monthly Report
of February 2008 issued by the China National Environmental
Monitoring Center, 49% of China’s seven major water bodies
were designated as Type IV and V water bodies, which
indicates that they are polluted and unsuitable for humans (a
designation of Type I, II or III is required for
drinking water). Furthermore, a November 2006 circular of the
Chinese Ministry of Water Resources stated that of the
71.7 billion tons of wastewater drained into various bodies
of water in China in 2005, two-thirds were released without
being treated resulting in pollution of 90% of the surface water
in urban areas.
Stricter
Environmental Standards
China has enacted numerous water reforms to address the
country’s water shortage and water pollution problems. The
Water Resource Law, amended and put into effect on
October 1, 2002, compared with the Water Resource Law
enacted in 1988, significantly enhances water resource
management systems, water resource protection, water
conservation and legal responsibilities. The amended law is
expected to play an important role in the sustainable use of
water resources in China. We believe stricter water quality
regulations for existing infrastructure will continue to drive
incremental spending in water treatment methods.
85
China has also introduced new policies, Standards for Drinking
Water Quality, effective July 1, 2007, to improve drinking
water standards, including limiting the level of microbe
content, organic matter and disinfectants in drinking water. In
testing tap water for contaminates, the new drinking water
standards raised the number of items classified as potential
pollutants from 35 to 106. Since conventional equipment is
unlikely to comply with these stringent new regulations, this
creates significant opportunities for advanced water treatment
equipment.
Increasing
Water Tariffs Making Water Treatment Projects More
Attractive
According to the Ministry of Water Resources, the average water
tariff of waterworks increased 505% from RMB0.0280 per cubic
meter in 2000 to RMB0.1442 per cubic meter in 2007. Despite
these rising tariffs, considerable room for increases remain as
tariffs still represent approximately 1% of the average
household’s discretionary income. We expect that increases
in water tariffs will lead to higher investment returns on water
treatment investments and therefore spur additional water
treatment projects, including additional purchases of advanced
water treatment equipment not previously economically attractive
to investors.
Increasing
Investment in the Water Treatment Sector
China’s water shortage and pollution control strategies are
driving increased water treatment investment by the Chinese
government and private investors. For example, approximately
3,000 wastewater plants were built in China between 2001 and
2005 according to Frost & Sullivan. In addition, major
water supply projects in China, such as the South-to-North Water
Diversion Project providing for a network of water transfer
canals from the relatively water rich south to the north, will
cost approximately $22 billion before 2013.
According to the municipal south-to-north water diversion
office, the municipal government will spend RMB26 billion
($3.8 billion) on the plants and plans to build and expand
13 facilities by 2014 to process water from the Yangtze River,
with combined capacity of approximately one billion cubic meters
annually.
The Chinese government’s National Environmental Protection
11th Five-Year Plan
(2006-2010),
or the Five-Year Plan, establishes explicit objectives for water
resource protection, drinking water quality improvement and
water treatment development. For example, the plan requires all
urban municipalities to build wastewater treatment facilities
with wastewater treatment rate of no less than 70% and a
nationwide urban wastewater treatment capacity of
100 million tons per day. To accomplish those goals,
planned investment of urban wastewater infrastructure (including
the cost of wastewater treatment, sewers, sludge treatment and
wastewater recycling) in China is expected to be
RMB332 billion between 2006 and 2010 according to the
National Urban Wastewater Treatment and Recycling Facilities
Construction 11th Five-Year Plan.
On November 5, 2008, the State Council of China announced
an economic stimulus plan in the amount of $585 billion to
stimulate economic growth and bolster domestic demand. The
economic stimulus plan includes, among others, increased
spending on basic infrastructure construction projects for
water, electricity, gas and heat to improve the standard of
living in China and protect the environment. Specifically, the
State Council of China established ten measures to promote
economic growth and further expand domestic consumption and
demand. In applicable part, these measures further the Chinese
government’s environmental protection efforts by
encouraging the construction of sewage and waste treatment
facilities and preventing water pollution in key areas. Frost
& Sullivan expects water treatment to be one of the biggest
beneficiaries of this economic stimulus plan. Specifically,
RMB350 billion ($51 billion) has been set aside for
wastewater and solid waste treatment. The
86
conservative expectation would be that 25% of these funds are
specifically targeted for water projects, which would equate to
RMB87.5 billion ($13 billion) going directly to
water-related projects. Many of those projects are connected to
water conditions, stimulating the demand for equipment serving
the water and wastewater treatment sectors in China. Frost
& Sullivan predicts that the Chinese domestic water
treatment industry will grow 12% to 15% in 2009 alone, in part
due to this economic stimulus plan. According to the National
Development and Reform Commission, of the RMB230 billon
($34 billion) the central government has approved on the
stimulus spending over the past two quarters, 10 percent
($3.4 billion) went towards energy conservation, emission
control and environmental protection projects. The government
has earmarked RMB13 billion ($1.9 billion) in the next
three years to expand sewage and garbage disposal facilities to
most townships. It has also allocated RMB4 billion
($585 million) for tackling water pollution in major rivers
such as the Huaihe and the Songhuajiang.
The Chinese government has also implemented market reforms and
encouraged private sector participation to improve operational
efficiencies at municipal wastewater treatment facilities. As a
result of such reforms, two market-based management
models—build-operate-transfer, or BOT, and
transfer-operate-transfer, or TOT—have been developed in an
effort to expand available sources of capital and improve
operational efficiencies within the water sector.
Market
Potential for the Water Treatment Industry in China
According to the Freedonia Group, the global demand for water
treatment products is projected to grow nearly 6.4% per year to
$39.9 billion in 2011, and the demand for water treatment
products in China is estimated to increase nearly 15.5% per year
through 2012. We expect a significant demand for water treatment
equipment in China in the foreseeable future, given China’s
ongoing industrialization and urbanization.
The sources of demand and resulting customers in the Chinese
market for water treatment equipment can be classified into the
following three broad categories: the circulating water
treatment industry, the water purification industry and the
wastewater treatment industry.
Circulating
Water Treatment Industry
According to The China Association of Environmental Protection
Industry, or CAEPI, the market for (1) circulating water
treatment equipment in China will grow from $277 million in
2004 to $1.0 billion in 2010 with a compound annual growth
rate, or CAGR, of 24.1%, and (2) related service revenue,
which includes technical support, consulting services, facility
operation and management, and international trade and financial
services, will grow from $345 million in 2004 to
$1.2 billion 2010 with a CAGR of 23.1%. Many industrial
sectors, such as food and beverages, electronics,
pharmaceuticals and chemical/petroleum processors, require
treated circulating water in their products or as part of their
manufacturing processes. The use of untreated circulating water
in manufacturing processes can result in inconsistent product
quality and substantial equipment degradation, which can lead to
high maintenance or replacement costs. As a result, most
manufacturers treat their process water to maintain a
consistently acceptable degree of purity. Depending on their
process specifications, industrial customers often require a
broad range of treatment technologies to treat water.
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The following chart illustrates the historical and projected
revenue for the circulating water treatment equipment market in
China:
Water
Purification Industry
The water purification industry in China will experience rapid
growth from 2008 to 2010 according to CAEPI. In the municipal
water purification sector, CAEPI forecasts the market for
(1) municipal water purification equipment in China will
grow from $2.8 billion in 2004 to $6.6 billion in 2010
with a CAGR of 15.4%, and (2) related service revenue will
grow from $4.6 billion in 2004 to $8.4 billion in 2010
with a CAGR of 10.4%. Pollution in tap water has become a
serious problem in China. According to the Organization for
Economic Co-operation and Development’s Environmental
Performance Reviews on China, water in nearly half of
China’s major cities fails to meet the national standards
for drinking water. Defects in chemical treatment of tap water
and aging municipal water supply systems have caused additional
pollution. Traditional processes of using chemicals for water
treatment have only limited capability in removing organic
matters in water and may result in the concentration of harmful
substances such as ammonia nitrogen and bio-assimilating organic
carbon and odor in the treated water. Improving the quality of
drinking water has become an urgent task in China.
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The following chart illustrates the historical and projected
revenue for the municipal water purification equipment market in
China:
In the industrial water purification sector, CAEPI forecasts the
market for (1) industrial water purification equipment in
China will grow from $3.1 billion in 2004 to
$6.4 billion in 2010 with a CAGR of 12.8%, and
(2) related service revenue will grow from
$4.3 billion in 2004 to $8.0 billion in 2010 with a
CAGR of 11.1%. The pharmaceutical, chemical, food and beverage,
food processing and electronics industries all require highly
purified water in their manufacturing processes and
significantly affects the business outlook of those industries
in China.
The following chart illustrates the historical and projected
revenue for the industrial water purification equipment market
in China:
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Wastewater
Treatment Industry
The wastewater treatment industry in China has experienced rapid
growth in the last five years due to increasing
industrialization and increasing awareness of environmental
protection. CAEPI forecasts the market for (1) wastewater
treatment equipment in China will grow from $2.1 billion in
2004 to $3.8 billion in 2010 with a CAGR of 10.1%, and
(2) related service revenue will grow from
$3.0 billion in 2004 to $14.6 billion in 2010 with a
CAGR of 30.0%. Chinese regulations regarding the disposal of
aqueous industrial waste, combined with public concern for
industrial pollution, have led to increased awareness on the
part of businesses and public utilities as to the benefits of
wastewater treatment and waste minimization. In response to
higher water prices and rising wastewater discharge fees,
industrial manufacturers have also become aware of the
cost-effectiveness of recycling their wastewater. As a result of
these factors, industrial manufacturers increasingly require
complex systems and equipment to treat and recycle process water
and wastewater.
The following chart illustrates the historical and projected
revenue for the wastewater treatment equipment market in China:
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BUSINESS
Overview
We are a leading China-based domestic water treatment equipment
supplier. Our product offerings address the key steps in the
water treatment process, such as filtration, water softening,
water-sediment separation, aeration, disinfection and reverse
osmosis. Founded in 1992, we offer a comprehensive set of more
than 80 complementary products across three product
categories: circulating water treatment, water purification and
wastewater treatment.
With over 80 distributors throughout China in
28 provinces, we believe our nationwide distribution
network is one of the largest among water treatment equipment
suppliers in China. Our extensive distribution network allows us
to be closer to our end-user customers and enables us to be more
responsive to local market demands than many of our competitors.
Through joint efforts with our distributors, we have developed a
broad base of end-user customers throughout China, consisting
primarily of wastewater treatment plants, water works
facilities, manufacturing plants, commercial businesses,
residential communities and individual customers.
By leveraging our in-house research and development team, we
broaden our market reach by introducing new products that help
us diversify our revenue base, stay current with technological
developments in the water treatment equipment industry and
maintain our competitive advantage. Since 2004, we have
developed more than 65 new products across all three of our
product categories, many of which utilize non-chemical and
energy saving technologies that are, we believe, increasingly
important features to our end-user customers. Of these new
products, more than 35 were introduced into the market in
2008. In the second half of 2009, we plan to introduce into the
market up to six new or enhanced products across each of our
three product categories. We plan to continue developing new and
enhanced products to maintain and expand our competitive
advantage and market reach.
We believe our manufacturing and assembly operations are complex
and integrated, involving the coordination of raw materials and
components, internal production processes and external
distribution processes. In addition to utilizing common
components and materials within and across product categories,
we employ common manufacturing and assembly practices for our
product lines, providing us a highly scalable and efficient
operating structure. To further save costs, increase operational
efficiencies and protect our key technologies, we also produce
certain core components in-house.
We believe we are well-positioned to become the leading supplier
of water treatment equipment for municipal, industrial,
commercial and residential applications in China. Water
treatment in China has been and is expected to continue to be a
fast-growing industry driven by the increasing demand for
affordable, purified water as a result of industrialization and
urbanization. According to the Freedonia Group, demand for water
treatment products in China is projected to increase nearly
15.5% per year through 2012. We also believe water treatment
will become a priority issue for municipalities, industries and
commercial businesses as the Chinese government imposes stricter
environmental and water quality standards to promote sustainable
economic growth.
Our revenues grew 44.8% from RMB292.9 million in 2006 to
RMB424.0 million in 2007 and 39.8% to RMB592.7 million
($86.7 million) in 2008. Our revenues grew 39.0% from
RMB86.8 million for the three months ended March 31,
2008 to RMB120.6 million ($17.7 million) for the three
months ended March 31, 2009. Our net income grew 55.7% from
RMB52.8 million in 2006 to RMB82.2 million in 2007 and
62.7% to RMB133.8 million ($19.6 million) in 2008. Our
net income grew 92.3% from RMB15.0 million for the three
months ended March 31, 2008 to RMB28.9 million
($4.2 million) for the three months ended March 31,
2009. For the year ended December 31, 2008, our
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three product categories: circulating water treatment, water
purification and wastewater treatment accounted for
approximately 41.5%, 21.6% and 36.2%, respectively. For the
three months ended March 31, 2009, our three product
categories, circulating water treatment, water purification and
wastewater treatment, accounted for approximately 37.5%, 22.4%
and 38.4% of our revenue, respectively.
Our
Competitive Strengths
We believe that the following competitive strengths enable us to
compete effectively in and capitalize on the growing water
treatment industry in China:
Strong Customer Recognition and Industry
Reputation. We were one of the first
privately owned domestic companies to supply circulating water
treatment equipment in China when we commenced operations in
1992. We expanded our product offerings to include water
purification equipment in 1998 and wastewater treatment
equipment in 2001. As a company that has been operating for over
17 years, we have been able to secure our position within
the Chinese water treatment equipment market, create strong
customer recognition and enhance our industry reputation. We
believe our strong operating history has allowed us to develop a
broad base of end-user customers, expand our sales channels and
facilitate more rapid acceptance of our new products.
Established Nationwide Distribution
Network. Comprised of over
80 distributors throughout China in 28 provinces,
including most of China’s key economic regions, we believe
our distribution network is one of the largest among water
treatment equipment suppliers in China. Our distribution network
provides us with established access to end-user customers
throughout China, enables us to be responsive to local market
demand and allows us to effectively diversify our end-user
customer base and enhance our ability to provide superior
customer service. By actively managing our distribution network,
we are able to maximize local market penetration and increase
sales opportunities. We complement our distribution network with
over 85 internal sales and marketing personnel and a
coordinated marketing effort, which allows us to proactively
educate current and potential distributors and end-user
customers about the features and benefits of our products.
Proven Research and Development
Capabilities. We have made and will continue
to make significant investments in research and development.
Since 2004, we have developed more than 65 new products across
all three product categories as a result of our research and
development capabilities. Of these new products, more than
35 were introduced into the market in 2008. In the second
half of 2009, we plan to introduce into the market up to six new
or enhanced products across each of our three product
categories. We operate a dedicated research and development
center with 129 professionals and collaborate with leading
universities and institutes in water treatment related research
activities. Our research and development capabilities have
enabled us to stay current with technological developments in
the water treatment equipment industry by developing new
products using advanced technologies, such as non-chemical
(e.g., ozone and ultraviolet rays), membrane-based and
other energy saving water treatment processes. In addition to
developing new products, our research and development efforts
also focus on improving our manufacturing processes, allowing us
to more quickly and efficiently produce our products. We believe
our investment in research and development has enabled us to
continuously expand our product offerings and proactively
anticipate market changes in the water treatment equipment
industry.
Comprehensive and High-Quality Product
Offerings. Unlike most other manufacturers in
China that supply only a limited range of water treatment
equipment products, we have developed a comprehensive and
complementary set of more than 80 complementary products
across three product categories. Our products address the major
steps in the water treatment process, including filtration,
92
water softening, water-sediment separation, aeration,
disinfection and reverse osmosis. In addition, many of our
products utilize non-chemical and energy efficient water
treatment technologies, which we believe are increasingly
important features in water treatment equipment. Our experience
producing various types of water treatment equipment has allowed
us to identify cross-selling opportunities and create production
and marketing synergies among our product lines. We have also
implemented a rigid quality control system for our products, and
have complied with the ISO 9001 Quality Assurance System
Standards since 1996 and the ISO 14001 Environmental Management
System Standards since 1999.
Vertically Integrated and Local Cost
Structure. We employ a vertically integrated
operating model that enables us to efficiently develop,
manufacture and market quality products at competitive prices.
As a result of generally lower operation, labor and raw material
costs in China, we are often able to charge lower prices than
our international competitors while maintaining comparable
quality. We believe our vertically integrated approach,
accentuated by our in-house manufacturing capabilities, allows
us to (1) lower material and component costs through the
use of common components and materials within and across product
categories, (2) improve workflow and quality control
through the use of common manufacturing and assembly practices,
and (3) lower production costs and dependency on key
suppliers through the use of components manufactured in-house.
In addition, we believe manufacturing certain core components
ourselves allows us to better protect our key technologies,
know-how and other intellectual property from our competitors,
while also further improving the quality and performance of our
products to meet the demanding and changing needs of our
end-user customers.
Our
Strategies
Our strategy is to capitalize on our competitive strengths to
expand our current market penetration and to benefit from the
anticipated rapid growth in China’s water treatment
industry. We plan to grow our business by pursuing the following
strategies:
Expand our Product Offerings and Increase Sales of
Integrated Systems. We are focused on
becoming a “one-stop” equipment supplier for our
end-user customers. Many of our end-user customers, especially
municipalities and industries, have complex water purification
or treatment equipment needs that require an integrated,
comprehensive set of water treatment equipment products. We plan
to continue expanding our product offerings to increase the
customization of the integrated systems we offer and address the
key elements of our end-user customers’ water treatment
equipment needs. We believe offering these integrated systems
will promote higher end-user customer satisfaction, higher
margins, the establishment of long-term service contracts to
maintain the systems and increased barriers to entry for
potential competitors.
Focus on Advanced Technologies to Enhance Energy Saving
and Recycling Features of Our Products and Reduce Their
Operational Costs. We are currently utilizing
our research and development capabilities to develop new
processes, applications and technologies to, for example,
further automate our products, introduce low energy consumption
features and develop products that reuse sludge and other waste
materials resulting from wastewater treatment processes. We
believe these automation, energy saving and recycling features
not only improve efficiency but also lower maintenance and
end-user operating costs of our products and increase the life
of our products. We believe there will be a growing demand for
products possessing such features as governments, businesses and
consumers become increasingly focused on sustainable economic
growth and environmental issues.
Increase Our Market Share in China. We
plan to continue to expand our market share of the growing water
treatment equipment industry in China. To do so, we are
developing additional advanced
93
products across our comprehensive product lines, which will
further create cross-selling opportunities and production and
marketing synergies. We also intend to increase our marketing
activities and are actively seeking to increase the number of
distributors carrying our products, specifically new
distributors that will provide us with greater access to a wider
range of end-user customers. In addition, we will continue to
actively manage our existing distribution network by annually
reviewing the performance of each distributor for potential
improvement areas.
Expand Our Manufacturing Capacity and Increase In-house
Production. We currently plan to use a
portion of our net proceeds from this offering to build new
manufacturing facilities and production lines to produce new
water treatment products. We also plan to improve and upgrade
our existing manufacturing facilities and production lines to
enhance our quality control and to meet increasing demand for
our current products. With the increased manufacturing capacity,
we also expect to bring additional production steps in-house and
increase the in-house manufacturing of certain core components
to further improve our cost structure, the protection of our
intellectual property, the quality and performance of our
products and our operational efficiencies.
Pursue Selective Strategic
Acquisitions. While we have experienced
substantial organic growth, we plan to pursue a disciplined and
targeted acquisition strategy to accelerate our growth. Our
strategy will focus on obtaining complementary product
offerings, product line extensions, research and development
capabilities and access to new markets and customers.
94
Our
Products
Our products can be classified into three categories:
circulating water treatment equipment, water purification
equipment and wastewater treatment equipment. The following
table shows an overview of these product categories and their
application:
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Circulating
Water Treatment
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Water
Purification
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Wastewater
Treatment
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Commenced Production
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1992
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1998
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2001
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Number of Products
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Over 35
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Over 30
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Over 15
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2008 Revenue
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RMB245.9 million
($36.0 million)
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RMB128.1 million
($18.7 million)
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RMB214.6 million
($31.4 million)
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Products Offered
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• Fully automatic filter
• Electronic water conditioner
• Circulating water central processor
• Water softener
• Cyclone filter
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• Central water purifier
• Industrial pure water equipment
• Ultraviolet water purifier
• Ozone generator
• Super clean water tank
• Tank water treatment apparatus
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• Belt-type thickener-filter press
mono-block machine
• Microporous aerator
• Sludge screw
• Ultraviolet shelving disinfection
system
• Online testing equipment
• Grit separator
• Water decanter
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Sample Applications
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• Disinfect water in circulating water
systems
• Removal and filtration of buildups
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• Pre-treatment process
• Disinfection process
• Production of industrial-use pure
water
• Production of pure drinking water
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• Separation of sludge and tiny particles
from wastewater
• Aeration of wastewater to kill or remove
organic materials
• Removal of clear liquid from wastewater
storage tanks
• Sterilization and treatment to
discharged wastewater
• Monitoring of wastewater discharge
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Sample Industries /
Uses
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• Industrial cooling
• Air conditioning and refrigeration
• Heat exchange systems
• Water boiler systems
• Hot water supply systems
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• Pharmaceuticals
• Chemicals
• Food and beverage
• Food processing
• Electronics
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• Municipal sewage
• Petroleum
• Paper
• Pharmaceuticals
• Food and beverage
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Circulating
water treatment equipment
We currently produce over 35 products that are used in the
process of treating water and removing buildup in circulating
water systems. Circulating water systems, such as industrial
cooling water systems, air conditioning and refrigeration
systems, heat exchange systems, water boiler systems and hot
water supply systems help control temperatures in heat-producing
equipment and are widely used in engineering designs. The high
temperature of water in circulating water systems causes scale,
algae, microorganisms and other particles to build up inside the
water system over time. This buildup can lead
95
to reduced water flow, corrosion and contamination. We produce
equipment for the removal and filtration of these buildups. Many
of our products in this category are also used to clean and
disinfect water in non-circulating water systems. Compared with
other similar circulating water products which often only
perform one single function, our circulating water treatment
equipment is designed to address multiple issues such as waste,
corrosion and structural problems in one integrated equipment.
The chart below shows the basic process for treating circulating
water. The white boxes represent each stage in the circulating
water treatment process, and the shaded boxes represent
equipment that is used in a specific stage.
Circulating
Water Treatment Process:
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Indicates equipment we produce. |
Circulating water systems usually use tap water as the source
water. If the water to be treated is not tap water,
pre-treatment equipment (such as a grit separator or sand
filter) is used at the initial stage. The source water is passed
through a water softener, which can remove some of the metal
ions present in the water. Circulating water systems are
typically driven by water pumps and ancillary equipment and
contain water-cooling units. A water treatment apparatus is
often attached to a unit in the circulating water treatment
equipment as a bypass system.
96
The following describes our core products and the key features
and competitive benefits of our circulating water treatment
equipment:
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•
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Fully Automatic Filter. Our fully
automatic filter measures impurity concentration levels within
the circulating water system and automatically starts the
cleansing process to collect and remove impurities from the
water system once the concentration reaches a pre-set level.
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Electronic Water Conditioner. Our
electronic water conditioner uses electrodes for scale removal
and prevention, sterilization and algae and corrosion removal.
Additionally, these products, through the use of microcurrents,
can prevent rust formation inside water pipelines by
interrupting certain electrochemical reactions in water and
killing microorganisms.
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•
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Circulating Water Central
Processor. Our circulating water central
processor both disinfects and removes impurities from
circulating water without the use of chemicals. This equipment
applies micro-electrolysis technology to remove metal ions and
generates oxidizing particles to kill microorganisms in the
circulating water system. This equipment is also effective in
scale and algae removal and prevention.
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•
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Water Softener. Our water softener can
be connected to the water supply to remove calcium and magnesium
ions in the water by replacing them with sodium ions, which do
not precipitate. Our water softener can automatically regenerate
ion-exchange resin, a key material used for replacement of metal
ions. Applications include softening hard water in
hot-water or
low-pressure boilers, heat exchangers, refrigerators and
air-conditioning systems.
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Cyclone Filter. Our cyclone filter can
separate and eliminate tiny solids such as grits,
scale-up,
dirt or lime from circulating or non-circulating water systems.
This product can be used at any temperature and can be easily
cleaned and automation can be done easily.
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Water
purification equipment
We currently produce over 30 products, many of which use
ultraviolet, ozone, membrane-based and electrodeionization, or
EDI, technologies, in the process of treating and purifying
water for various applications. By employing both reverse
osmosis and EDI technology, our products are highly effective in
desalinating water and can produce water with high resistance to
electric current, or highly purified water. These products do
not use any chemical agents and, as a result, do not produce
unwanted by-products that may be created in other types of
desalination processes. Products in this category are used in
industries that require highly purified water, such as
pharmaceuticals, chemicals, food and beverages, food processing
and electronics. Some of the products, such as the central water
purifier, ozone generator and ultraviolet water purifier, are
used to produce drinking water for residential communities and
commercial businesses such as hotels. As noted in the
“—Wastewater Treatment Equipment” section below,
our ozone generator and ultraviolet water purifiers are also
used to disinfect water as part of the treatment process for
municipal sewage and industrial and agricultural wastewater.
Compared with other similar water purification products, the
most significant advantage of our water purification equipment
is the comprehensive integrated solution offered. We offer
industrial water purification equipment that integrate design,
manufacture and service functions for the numerous processes
ranging from pretreatment, intermediate treatment (such as
micro-filtration and ultra-filtration and mixed bed), deionized
treatment (such as nano-filtration and reverse osmosis
treatment) to advanced water purification treatment (such as
EDI) and adjustments of water quality parameters.
97
The chart below shows the basic process for industrial or
commercial water purification. The white boxes represent each
stage in the water purification process, and the shaded boxes
represent equipment that is used in a specific stage.
Water
Purification Process:
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* |
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Indicates equipment we produce. |
The water purification process, especially in an industrial
context, generally involves pre-treatment (filtering and
softening of the water), reverse osmosis, disinfection and EDI.
Our products in the water purification category address each
step of this process and can be integrated to provide an
integrated water purification system for our end-user customers.
In the first step of water purification, conventional filtration
equipment, such as sand or carbon filters, pre-treats water to
remove hardness and chlorine. Doing so protects the reverse
osmosis membranes, which are susceptible to damage due to large
amounts of iron, chlorine or other types of impurities typically
found in untreated water. During this step, water may be
processed further by using a water softener to remove hardness.
Water is deemed “hard” when it contains a significant
amount of calcium and magnesium. As such metals precipitate,
hard water will scale on the interior walls of pipes, boilers,
heat exchangers, water tanks or other water reserve facilities,
thereby reducing the life-span of the equipment.
98
The second step is reverse osmosis, a non-chemical separation
process utilizing pressure to force water through filter
membranes that restrict the passage of impurities to produce
purified water on the other side. The third step, EDI, is a
continuous process that applies electric power to dissolve water
molecules into hydrogen ions and hydroxyl ions. This process
enables continuous regeneration of ion-exchange resin, which is
used to remove impure ions to further purify the water.
Depending on the quality of the source water and the required
purity level of the processed water, some of our end-user
customers choose to disinfect water between the reverse osmosis
and the EDI steps. Our ultraviolet water purifier and ozone
generator are used in this intermediate step.
The following describes our core products and the key features
and competitive benefits of our water purification equipment:
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Central Water Purifier. Our central
water purifier uses filtration, ultraviolet disinfection and
separation through reverse osmosis to remove impurities and
microorganisms from raw water. Our central water purifier can
monitor water quality, record data and alert users based on set
parameters.
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Industrial Pure Water Equipment. Our
industrial pure water equipment integrates a number of processes
and technologies, including pre-treatment, softening,
membrane-based separation, disinfection and EDI treatment into
one equipment. Water processed with our industrial pure water
equipment meets or exceeds the requirements mandated by the
Ministry of Machinery Industry of PRC in 1995. Our industrial
pure water equipment is a sophisticated product that includes
many automated control features. It also has low maintenance
expenses and is an eco-friendly product.
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Ultraviolet Water Purifier. Our
ultraviolet water purifier is effective in disinfecting both
drinking water and wastewater. Ultraviolet light alters the DNA
of pathogens, killing them or making it impossible for them to
reproduce. Our ultraviolet water purifier uses ultraviolet rays
to quickly disinfect contaminated water and improve its quality
up to or beyond the applicable hygienic criteria. It is also
suitable for small-scale water supply systems that use water
from rivers, lakes, ponds and wells, especially when elevated
water tanks and water storage tanks are used.
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Ozone Generator. Our ozone generator
produces large amounts of ozone to disinfect water by destroying
microorganisms in water through oxidization. In addition, the
ozone generated by our products can be used for industrial
purposes as an oxidant or a catalyst. Our ozone generator is
compact in design and can produce a high degree of ozone
concentration: 20 mg/L - 150 mg/L when an oxygen
source is used and 12 mg/L - 50 mg/L when an air
source is used.
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Super Clean Water Tank. Similar to the
tank water treatment apparatus, our super clean water tank
integrates filtration, ultraviolet sterilization,
electromagnetic activation and water storage to eliminate heavy
metals and harmful organic materials from tap water through
filtration and absorption by high-quality filtration materials.
Through combination of various water processing techniques, our
super-clean water tank can store sterile super clean water, keep
water in good quality, and eliminate secondary pollution that
may arise in connection with the use of a traditional water tank
or pool.
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Tank Water Treatment Apparatus. Our
tank water treatment apparatus integrates filtration,
ultraviolet sterilization and electromagnetic activation to
effectively remove heavy metals and harmful organic materials
from tap water. By enhancing the activation of water molecules
through high-frequency electromagnetism, it also makes the water
easier to be
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absorbed by the human body. Through the combination of different
processing techniques, this product can eliminate secondary
pollution in water tanks or pools. Our tank water treatment
apparatus also improves water quality, reduces turbidity and
color of the water and improves the taste of water using the
absorption effect of active carbon.
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Wastewater
treatment equipment
We currently produce over 15 products used in the process of
treating wastewater, including municipal sewage and industrial
and agricultural wastewater. Industries such as petroleum,
paper, pharmaceuticals and food and beverage also use our
wastewater treatment equipment to separate solids from liquid in
their manufacturing processes. Our belt-type thickener-filter
press mono-block equipment is used to compress and dehydrate
sludge in the wastewater treatment process for easy
transportability. Compared with other similar water treatment
products, the most significant advantage of our equipment is the
integrated sludge concentration system designed to minimize
space occupancy and lower energy consumption. We also produce
aeration equipment designed to introduce an optimal level of
oxygen to kill harmful microorganisms and to increase the growth
of certain microorganisms that consume organic contaminants
remaining in the wastewater. This equipment facilitates
microorganisms’ digestion of organic contaminants in the
water. To extend the lifespan of our aeration equipment, we
cover or attach our proprietary rubber coating to our aeration
pipes.
The chart below shows the basic process for wastewater
treatment. The white boxes represent each stage in the
wastewater treatment process, and the shaded boxes represent
equipment that is used in a specific stage.
100
Wastewater
Treatment Process:
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Indicates equipment we produce. |
In wastewater treatment, wastewater is processed in multiple
stages before the resulting clear liquid is reintroduced to a
body of water or is otherwise reused. The goal of wastewater
treatment is to reduce or remove organic matter, solids,
disease-causing organisms and other pollutants. After wastewater
is moved to adjusting tanks, large solid objects are screened
and removed by grit equipment. Wastewater is then treated to
physically separate solids and sludge from the liquid, allowing
solid particles to settle to the bottom and greases to float to
the top at the primary sedimentation tank. After that, water is
transmitted to biochemical pools where aerators are used to
introduce an optimal level of oxygen to kill harmful
microorganisms or to increase the growth of certain
microorganisms that consume organic contaminants remaining in
the wastewater. Separation of smaller solids from wastewater is
conducted at the secondary sedimentation stage. Afterwards, the
resulting clear liquid is disinfected to kill harmful
microorganisms before being reintroduced to a body of water or
is otherwise reused. With proper treatment, solids and sludge
collected in the treatment process can be recycled into useful
materials such as fertilizers, coal and methane. We are
currently researching technology for recycling sludge into
reusable materials.
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The following describes our core products and the key features
and competitive benefits of our wastewater treatment equipment:
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Belt-Type Thickener-Filter Press Mono-Block
Machine. After the aeration process, several
of our products are used to separate the remaining solids from
the wastewater. Our belt-type thickener-filter press mono-block
machine uses gravity and compression to thicken and dehydrate
sludge, creating a dry cake of separated solids and water ready
for disinfection. We have developed this machine to minimize
noise, odor and vibration and have also incorporated energy
saving features to minimize operational costs.
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Microporous Aerator. Aeration is a
water treatment process that introduces an optimal level of
oxygen to kill harmful microorganisms or to increase the growth
of certain microorganisms that consume organic contaminants
remaining in the wastewater. This product uses numerous dense
micro-pores to introduce large amounts of oxygen into the
wastewater.
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Sludge Screw. Our sludge screw
separates particles as small as 0.005 to 2 millimeters in
diameter from the wastewater. This machine uses a fast-rotating
helix that generates a strong centrifugal force to separate
solid particles from the wastewater. It also produces a dry cake
of separated solids and water ready for disinfection. We have
developed this machine to minimize noise, odor and vibration and
have also incorporated energy saving features to minimize
operational costs.
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Ultraviolet Shelving Disinfection
System. Our ultraviolet shelving disinfection
system purifies and disinfects wastewater. By using ultraviolet
lamps with high efficiency, high intensity and long lifespan,
this system generates C waveband (wavelength in T254nm)
ultraviolet rays to effectively kill bacteria, pathogens and
viruses in wastewater.
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Online Testing Equipment. Our online
testing equipment monitors water quality. It is an integrated
online automatic monitoring system that employs modern remote
sensing technology and special analyzing software. It can
continuously monitor water quality on a real-time and remote
basis, improving the efficiency of the transmission and analysis
of water quality data. It can also quickly obtain the status of
the water quality of key water bodies in major drainage areas.
Our online testing equipment can be widely used in industrial
sewage discharge monitor stations, automatic water monitor
stations and wastewater plants.
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Grit Separator. Our grit separator is
used in a waste water treatment plant to separate grits from the
mixture exhausted from a grit chamber. The grits are fully
dehydrated and then unloaded to barrels through an outlet while
the water, after being separated from grits, is drained into an
inlet water channel. With a non-axle spiral and without bearings
in the water, our grit separator is easy to install and maintain.
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Water Decanter. Our water decanter is
made of corrosion proof stainless steel and is used to remove
clear water from wastewater storage tanks.
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Manufacturing
and Assembly
Our manufacturing and assembly operations involve the
coordination of raw materials and components, some of which are
sourced from third parties, internal production processes and
external distribution processes. We manufacture, assemble and
test our products at our manufacturing facility in the
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Langfang Economic & Technical Development Zone located
approximately 40 kilometers outside of Beijing, China. We employ
common manufacturing and assembly practices for our production
lines, thus allowing us to leverage our current facility to
expand our range of product offerings. Our manufacturing
facility includes machining, welding and plastic and rubber
workshops, a general-purpose assembly line and an equipment
assembly line, as well as a specialized assembly line for
producing specific electrical components. We currently plan to
use a portion of our net proceeds from this offering to build
new manufacturing facilities and production lines for new water
treatment products. We also plan to improve and upgrade our
existing manufacturing facilities and production lines related
to the following products: ozone generators, sludge screws,
circulating water treatment equipment, water purification
equipment and belt-type thickener-filter press mono-block
machines.
As part of our overall strategy to lower production costs, we
intend to produce more of our components for our products
in-house to increase operational efficiencies. In addition, we
plan to standardize certain components of our products within
and across product lines to enable us to lower raw material and
component costs and create a more efficient workflow. We apply
an enterprise resource planning system to manage our
manufacturing process. Specifically, we integrate all of our
data and processes into a unified system and use a centralized
database to store information on various system modules.
Distribution
and Marketing
Distribution
Network
We sell our products almost exclusively through distributors.
Our nationwide distribution and sales network in China consisted
of over 80 distributors and over 85 internal sales and
marketing personnel. A distributor may distribute one or more of
our products in one or more of our three product categories. Of
these distributors, 57 distribute our circulating water
treatment products, 46 distribute our water purification
products and 35 distribute our wastewater treatment products. We
generally have a diverse group of end-user customers throughout
China for each of our three product categories, and our sales
are not concentrated in one or a few major distributors. We
believe our end-user customer and distributor diversity reduces
our exposure to potential market risks. No single distributor
accounted for more than 2.4%, 2.8%, 2.2% or 2.5% of our sales
for 2006, 2007, 2008 and the three months ended March 31,
2009, respectively. Our top five distributors accounted for
approximately 13.0% of our sales for 2006, 2007 and 2008, and
approximately 10.9% of our sales for the three months ended
March 31, 2009.
We believe that we have established a relatively mature and
stable distribution network. Approximately 80% of our
distributors have been working with us for over three years,
approximately 70% have been working with us for over six years
and approximately 20% have been working with us for over ten
years. Our distribution network provides us with established
access to end-user customers throughout China, enables us to be
responsive to local market demand, allows us to effectively
diversify our end-user customer base and enhances our ability to
further penetrate the market within a short period of time. Our
distributors are employed and compensated on a competitive basis
based on sales performance. We enter into annual agency
agreements with distributors specifying the terms of sales
targets for that given year. At the beginning of each year, we
hold conferences for our distributors for each of our product
lines, during which new products and sales policies are often
released. We also conduct monthly market analysis meetings to
collect market information, analyze the market environment and
solve existing marketing issues. We actively manage our
distribution network. In order to maximize our penetration of
target markets and our sales opportunities, we regularly
evaluate the performance of our distributors and terminate
distributors that fail to meet their sales targets at the end
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of their agreement term. For distributors who meet or exceed
their sales targets, we provide incentives in the form of better
product pricing and extended credit terms.
As indicated in the map above, our distributors are widely
dispersed throughout each major region in China. As of
March 31, 2009, we had 13 distributors in northeast China,
20 distributors in north China, seven distributors in northwest
China, seven distributors in southwest China, 15 distributors in
mid-south China, five distributors in south China and 15
distributors in east China. The expansive reach of our
distribution and sales network allows our end-user customers, no
matter where they are located in China, easy access to our
products and services. If there is substantial economic activity
relating to water treatment in any given province, we divide
that province into several regions. Each year, we designate a
select number of distributors in each region to promote our
products. Our sales personnel often operate from the offices of
our distributors and provide distributors
on-site
support.
Our distributors have the right to sell our products in one or
more of our three product categories in a defined territory. We
ensure that our distributors do not compete with each other in a
defined territory by either assigning them different product
categories or different end-user customer base for the same
product category. We select distributors based on their prior
sales performance. We also make selections based on factors such
as sales experience, knowledge of water treatment equipment,
contacts in the water treatment industry, reputation and market
coverage.
Marketing
We support our distributors’ sales efforts through a
coordinated marketing effort. We promote our products by
participating in biennial government-sponsored environmental
protection equipment
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conferences and annual food and power industry conferences. We
also advertise our products in industry journals, post our
product information on various
e-commerce
websites and distribute brochures and sales manuals to potential
end-user customers. In addition, we promote our products at
monthly symposiums held in engineering design institutes and at
training sessions held for local branch chiefs of the Chinese
environmental protection agency. We continue to foster our
relationships with relevant industry associations (e.g., those
for steel and iron, pharmaceuticals and power generation) and
potential large end-user customers (e.g., oil fields and
wastewater treatment plants) to ensure our products can easily
accommodate the needs of these customers. We provide training to
sales representatives who promote our products on behalf of our
distributors and rotate them annually to avoid entrenchment of
sales personnel with a specific distributor.
We channel most of our sales with end-user customers through our
distribution network, and we acquire many of our sales contracts
through competitive bidding processes for construction projects,
in which our distributors often submit bids on our behalf.
Engineering design institutes are another sales channel for us.
Our distributors promote our products with mid-sized engineering
design institutes while we direct our selling efforts to the
larger institutes. We also hold promotional conferences for our
products at certain design institutes on a monthly basis.
Institutes often recommend our products for use in construction
projects and cross-market our products to their own customers.
When we develop new products, these institutes may install
sample products for our key end-user customers before the
products are introduced on a commercial scale to other customers.
Suppliers
and Raw Materials
The key raw materials and components used in the manufacturing
of our products are steel, rubber, resin and plastics,
standardized mechanical parts and electric machinery. We
purchase a small percentage of electronic components from
suppliers who import these components. Our other raw materials
and components are purchased from Chinese subsidiaries of
foreign suppliers or local suppliers, each of whom manufacture
these components in China. We produce all other components
internally. The use of local suppliers in close proximity to our
facility enables us to closely supervise them, provide technical
training relating to our product requirements and suggest
technical improvements and innovations. Although we outsource
the production of certain non-critical components to third-party
contractors in China, we produce key components for most of our
products, including those with patented applications, at our
manufacturing facility. Producing key components at our
manufacturing facility allows us to ensure product quality,
protect our proprietary rights, reduce unnecessary costs and
enhance the market competitiveness of our products.
We obtain raw materials and components from suppliers through
non-exclusive purchase orders and supply contracts. The purchase
order or contract specifies the price for the raw material or
component and design-related specifications, if any. Although we
allow for adjustments in the price for certain raw materials,
such as steel, under extraordinary circumstances, the prices for
our materials are generally fixed for the effective term of the
purchase agreement. Our contracts with our suppliers are
generally renewable on an annual basis. We typically negotiate
with our suppliers to renew supply contracts at the beginning of
each year, taking into account the quality and consistency of
the materials and services provided. We maintain multiple supply
sources for each of our key raw materials so as to minimize any
potential disruption of our operations and maintain sourcing
stability. For 2006, 2007, 2008 and the three months ended
March 31, 2009, purchases from our largest supplier
accounted for 27.0%, 21.5%, 18.8% and 19.1%, respectively, of
our total purchases of raw materials and components. For the
same periods, our ten largest suppliers combined accounted for
70.3%, 69.5%, 77.6% and 77.4%, respectively, of our total
purchases of raw materials and components. As of March 31,
2009, our top three suppliers accounted for 19.1%, 15.7% and
11.9% of our total purchases.
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Quality
Control
We have implemented a rigid quality control system and devote
significant attention to quality control procedures at every
stage of our manufacturing process. We monitor our manufacturing
process closely and conduct performance and reliability testing
to ensure our products meet our end-user customer expectations.
In addition, we seek regular feedback from our end-user
customers on the quality of our products. Our quality control
group as of March 31, 2009 included four employees that
implement various management systems to improve product quality
and standardization programs, 15 employees that administer
quality-related solutions in the manufacturing process and
29 employees that inspect our raw materials and finished
products prior to shipping. Our quality control process includes:
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Inspection of Raw Materials and
Components. We inspect by random sampling our
raw materials and components, including those purchased from or
designed by third parties, to ensure compliance with quality
standards. We also evaluate the quality and delivery performance
of each supplier periodically and adjust quantity allocations
accordingly.
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In-Process Quality Control. We monitor
every stage of our manufacturing process to verify conformity
with specific quality control requirements. We compile
statistical data for analysis and inspect and conduct
performance testing to ensure compliance with quality standards.
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Outgoing Quality Control. We inspect
each shipment of finished products prior to delivery. Products
that do not meet our quality standards will be re-worked and
subjected again to the same inspection and performance testing
process.
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We passed the ISO 9001 Quality Assurance System Standards in
1996 and the ISO 14001 Environmental Management System Standards
in 1999 and will continue to maintain registration under these
standards.
Our
Customer Support and Services
During the warranty period, we provide installation, training,
technical support, warranty, maintenance and repair services to
our end-user customers. Although these after-sale services to
our end-user customers are not provided for under the terms of
the sales contracts, we provide these services to maintain good
relationships with them. Our distributors often handle simple
maintenance and repair matters for end-user customers, while our
technical service personnel provide customer service for more
complex repairs or training. Our products have warranty periods
of either six months or one year, which we believe are typical
for water treatment products. Services that we provide during
the warranty period include training, telephone support,
replacement of components and
on-site
maintenance and repair. At the end of the warranty period,
maintenance and repair services are provided to end-user
customers by our distributors for a fee charged by and paid to
our distributors. For all of our services to our end-user
customers, our technical service staff attempts to quickly
identify whether an issue can be resolved over the telephone or
if it will require a visit to our end-user customer’s
premises. Solutions to simple problems can be delivered over the
telephone. Otherwise, we will, typically within 24 hours
thereafter, either mail replacement components to our end-user
customer or provide
on-site
operating guidance, training and repair.
During the warranty period, we provide comprehensive after-sales
repair and maintenance services to our end-user customers not
only to satisfy the needs of these customers but also to obtain
systematic feedback on the performance of our products. We
periodically review distributor and end-user customer calls to
ensure that issues raised are resolved to their satisfaction.
Our service staff solicits customer
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satisfaction on a monthly basis through telephone interviews or
on-site
visits. Our service staff compiles data on services provided,
analyzes feedback solicited from end-user customers and suggests
corresponding measures for improvement by working with our
relevant production groups.
Research
and Development
As of March 31, 2009, we had 129 members in our
research and development group. Our research and development
activities are based in our research and development center
located in the Langfang Economic & Technical
Development Zone near Beijing, China. In addition, we have
established a post-doctorate, Chinese government approved
research center that focuses on the development of water
treatment technology. Our research and development center is
comprised of water, chemical, bio-analysis, pollution control,
segregation, membrane and electrical control laboratories.
Through this center, we are cooperating with leading
universities and institutes, such as the Research Center for
Eco-Environmental Sciences of the Chinese Academy of Sciences,
or the Center for Environmental Sciences, and the Chemistry
Department of Tsinghua University, or Tsinghua University, in
water treatment related research activities.
In March 2005, we entered into a cooperative agreement with the
Center for Environmental Sciences to recruit post-doctoral
researchers in the field of water treatment technology
development. In connection with this agreement, we have
established a post-doctorate research center, providing funding
to post-doctoral researchers working on research projects
proposed by us. We pay the Center for Environmental Sciences
management fees for these post-doctoral researchers who stay at
our center for two years. We own all rights, title and interest
in any proprietary information resulting from the post-doctoral
researchers’ work at our center. The Center for
Environmental Sciences may, upon our consent, publish
dissertations or academic articles relating to this proprietary
information.
In March 2005, we also entered into a cooperative agreement with
Tsinghua University to cooperate in the development of
photocatalysis and drinking water purification technologies.
Under the terms of this agreement, we have provided Tsinghua
University with research funding of RMB100,000. Tsinghua
University has the right, title and interest in the proprietary
information and the Company has the right to use any proprietary
information in connection with this agreement. Tsinghua
University may not transfer any proprietary information under
the agreement without our consent.
We believe we have a strong and balanced research and
development team and are not dependent on a small number of key
researchers. Of the 129 members that comprise our research
and development group, 75 have a bachelor’s degree,
47 have a master’s degree and seven have a doctorate
degree. Approximately 17% of our research and development group
have been with us for over ten years.
Drawing upon the talents of our research and development group
and elsewhere, our research and development activities have led
to eight patent grants in China covering a wide range of water
treatment devices, including devices for multi-function water
tank, water purification, centralized water treatment device,
and chemical-oxygen-demand online monitoring.
In addition to improving our existing product offerings, our
research and development efforts focus on the development of new
products, as well as the development of new production
methodologies to improve our manufacturing processes. We follow
advanced project selection procedures prior to the development
of new products, including the use of detailed market and
technological analyses. All new products are subject to rigorous
testing prior to production and sample products are often
delivered to end-user customers for their trial use. We begin
manufacturing new products only after the sample product from a
trial production passes internal inspection and achieves
customer satisfaction. This integrated approach allows us to
identify potential difficulties in commercializing our product
and make
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adjustments as necessary to develop cost-efficient manufacturing
processes prior to mass production. We recognize the importance
of customer satisfaction for our newly-developed products and
continue to seek feedback from our end-user customers even after
the formal launch of a product.
Intellectual
Property
We regard our copyrights, trademarks, trade secrets and other
intellectual property rights as critical to our business. We
rely on trademark and copyright laws, trade secret protection,
non-competition and confidentiality
and/or
licensing agreements with our executive officers, clients,
contractors, research and development personnel and others to
protect our intellectual property rights. We do not possess any
licenses to use third-party intellectual property rights nor do
we license to third-parties any intellectual property rights we
own.
Prior to the trademark transfer described below, through one of
our subsidiaries, Duoyuan Beijing, we have 21 trademarks
registered with the Chinese Trademark Office and five
applications pending for Chinese trademark registration. In
anticipation of this offering, on December 1, 2007, we
entered into four separate agreements to transfer and assign all
of our rights, title and interest in our trademarks to Duoyuan
Investments Limited, our majority shareholder, without monetary
consideration. We entered into these transfer agreements with
our then sole shareholder to reflect and affirm the original
intent and understanding of the parties that not just we, but
any affiliate and subsidiary of Duoyuan Investments Limited,
would have the right to use these trademarks. These trademarks
were transferred to allow Duoyuan Investments Limited, as the
sole owner and holder of the trademarks, to have the right to
license these trademarks to its affiliates and subsidiaries. We
received final regulatory approval for the transfer of these
trademarks on July 21, 2008 and August 21, 2008,
respectively. On September 17, 2008 and May 27, 2009,
respectively, Duoyuan Investments Limited granted us an
exclusive, royalty-free perpetual license to use these
trademarks for our business.
Through Duoyuan Beijing, we have eight patents registered with
the Chinese Patent Office, two of which will expire on September
2010, one of which will expire on October 2010, three of which
will expire on October 2017, one of which will expire on October
2020, and one of which will expire on August 2023. Of the eight
patents, two are for inventions, five are for utility models and
one is for design. In addition, we have three applications
pending for Chinese patent registration. We currently have a
number of consultants that work for us on various technological
issues. Each of these consultants are contractually obligated to
assign to us all intellectual property rights produced by such
consultants during the consulting period.
The protection afforded by our intellectual property may be
inadequate. It may be possible for third parties to obtain and
use, without our consent, intellectual property that we own or
are licensed to use. Unauthorized use of our intellectual
property by third parties, and the expenses incurred in
protecting our intellectual property rights, may adversely
affect our business. See “Risk Factors—Risks Related
to Our Business—Our failure to adequately protect, or
uncertainty regarding the validity, enforceability or scope of,
our intellectual property rights may undermine our competitive
position, and litigation to protect our intellectual property
rights may be costly.”
We may also be subject to litigation involving claims of patent
infringement or violation of other intellectual property rights
of third parties. In May 2005, we implemented and continue to
follow a procedure under which our product development teams are
required to conduct a patent clearance search of Chinese patents
for each product at the beginning of the product development
process. Typically, our research and development engineers
conduct this search with guidance and oversight from our
in-house patent team. The product development project is
approved only if the result of the patent search is that the
proposed product would not infringe on any third party
intellectual property
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uncovered in the search. We believe that our risk of infringing
third party intellectual properties can be effectively reduced
by our adherence to these procedures. To date, we have not been
sued on the basis of, nor have we received any notification from
third parties that allege infringement of their intellectual
property rights. However, due to the complex nature of water
treatment technology patents and the uncertainty of construing
the scope of these patents, as well as the limitations inherent
in our patent searches, the risk of infringing on third party
intellectual properties cannot be eliminated. See “Risk
Factors—Risks Related to Our Business—We may be
exposed to infringement or misappropriation claims by third
parties, which, if determined adversely against us, could
disrupt our business and subject us to significant liability to
third parties.”
Competition
We operate in a highly competitive industry characterized by
rapid technological development and evolving industry standards.
We compete primarily on the basis of customer recognition and
industry reputation, established nationwide distribution
network, research and development strength, comprehensive
product offerings, and a competitive cost structure. We believe
we can continue to compete successfully with international
competitors because of our competitive cost structure and with
local competitors because of our superior technology. Our
established nationwide distribution and customer service network
and knowledge of local markets provide us with an advantage over
international competitors who typically appoint only one
distributor in the Chinese market who is responsible for selling
and servicing their products. In addition, we provide a more
comprehensive set of products than most of our international or
local competitors. In order to maintain and enhance our
competitive advantage, we must continue to focus on competitive
pricing and technological innovation by being at the forefront
of market trends and improving our proprietary manufacturing
processes.
We compete with both major international conglomerates and local
companies in each of our product categories as follows:
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Circulating Water Treatment
Equipment. Our electronic water conditioner
competes primarily with products from three other local
companies: Zhejiang De’an New Technology Development Co.
Ltd. (China), Jiangyin Jialong Environment Technology Co. Ltd.
(China) and Beijing Kejingyuan Huanyu Technology Development Co.
Ltd. (China). Our automatic filter competes primarily with
products from Claude Laval Co. (USA), FILTOMAT Ltd. (Israel) and
Shijiazhuang Yuquan Environmental Protection Equipment Co. Ltd.
(China).
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Water Purification Equipment. Our ozone
generator competes primarily with products from Ozonia Ltd.
(Switzerland), WEDECO AG (Germany) and Shanghai Environmental
Protection Equipment Factory (China). Our industry pure water
equipment with EDI functions compete primarily with products
from GE Water & Process Technologies, CANPURE
Corporation (Canada) and Zhejiang Omex Environmental Engineering
Ltd. (a subsidiary of Dow Chemical).
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Wastewater Treatment Equipment. Our
microporous aerator competes primarily with products from REHAU
(Germany), ITT (Sweden) and Zhejiang Yuhuan Jieda Water
Supply & Disposal Equipment Co. Ltd. (China). Our
belt-type thickener-filter press mono-block machine competes
primarily with products from Wuxi Tongyong Machinery Co. Ltd.
(China), DWT Project Co. Ltd. (Finland) and Passavant-Roediger
GmbH (Germany).
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Although we believe that our competitive strengths provide us
with advantages over many of our competitors, some of our
international competitors have stronger brand names, greater
access to capital, longer operating histories, longer or more
established relationships with their customers, stronger
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research and development capabilities and greater marketing and
other resources than we do; and some of our domestic competitors
have stronger customer bases, better access to government
authorities and stronger industry-based background than us. If
we fail to maintain or improve our market position or fail to
respond successfully to changes in the competitive landscape,
our business, financial condition and results of operations may
suffer.
Properties
Under Chinese law, all of the land in China is either
state-owned or collectively-owned, depending on its location and
the specific laws governing such land. Collectively-owned land
is owned by rural collectives and generally cannot be used for
non-agricultural purposes unless approved by the Chinese
government. Collectively-owned land cannot be transferred,
leased or mortgaged to non-collectives without first being
converted into state-owned land. Individuals and entities may
acquire rights to use state-owned land, or land-use-rights, for
commercial, industrial or residential purposes by means of
mutual agreement, tender, auction or listing for sale from local
land authorities or an existing holder of a land-use-right.
Land-use-rights granted for commercial, industrial and
residential purposes may be granted for a period of up to 40, 50
or 70 years, respectively. This period may be renewed at
the expiration of the initial and any subsequent terms, subject
to compliance with relevant laws and regulations.
Land-use-rights are transferable and may be used as security for
borrowings and other obligations.
We are headquartered at No. 3 Jinyuan Road in the Daxing
Industrial Development Area located in Beijing, China. Prior to
the sale transaction described below, our subsidiary, Duoyuan
Beijing, owned approximately 15,400 square meters of
building area and the right to use the underlying land area of
approximately 7,230 square meters for 50 years
commencing in October 1998. In August 2007, Duoyuan Beijing
entered into a sale agreement to sell its office premises in
Beijing to Duoyuan Information Terminal Manufacture (Langfang)
Co., Ltd., or Langfang Terminal. Since the execution of this
transfer of properties in June 2008, Duoyuan Beijing has leased
back approximately 3,080 square meters of the same Beijing
office space from Langfang Terminal.
Duoyuan Langfang owns a manufacturing facility in the Langfang
Economic & Technical Development Zone near Beijing,
China with a building area of approximately 6,960 square
meters and the right to use the underlying land area of
approximately 16,660 square meters for 50 years
commencing in November 2001. In December 2006, our subsidiary
Duoyuan Langfang acquired a second manufacturing facility in the
Langfang Economic & Technical Development Zone with a
building area of approximately 13,930 square meters and the
right to use the underlying land area of approximately
33,330 square meters for 50 years. Final registration
of this acquisition was completed in June 2008. See
“Related Party Transaction—Real Property Related
Transactions” for more information on these transactions.
As of March 31, 2009, our notes, which total approximately
RMB20.0 million ($2.9 million), are secured by our
property located in Langfang.
Although we believe our existing facilities are adequate for our
current operational needs, we plan to expand our manufacturing
capacity in the future. We currently plan to use a portion of
our net proceeds from this offering to build new manufacturing
facilities and production lines for new water treatment
products. We also plan to improve and upgrade our existing
manufacturing facilities and production lines to meet increasing
demands for ozone generators, sludge screws, circulating water
treatment equipment, water purification equipment and belt-type
thickener-filter press mono-block machines.
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Insurance
We maintain property insurance for some of our premises located
in Langfang. We do not have any business liability, interruption
or litigation insurance coverage for our operations in China.
Insurance companies in China offer limited business insurance
products. While business interruption insurance is available to
a limited extent in China, we have determined that the risks of
interruption, cost of such insurance and the difficulties
associated with acquiring such insurance on commercially
reasonable terms make it impractical for us to have such
insurance. Therefore, we are subject to business and product
liability exposure. Business or product liability claims or
potential regulatory actions could materially and adversely
affect our business and financial condition. See “Risk
Factors—Risks Relating to Our Business—Our insurance
coverage may be inadequate to protect us against losses.”
Employees
We had 796, 756 and 927 employees as of December 31,
2006, 2007 and 2008, respectively, and 931 employees as of
March 31, 2009. The table below sets forth the aggregate
number of employees in our two Chinese subsidiaries categorized
by function and the percentage of each category of our total
employees as of March 31, 2009.
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Functions
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Employees
|
|
|
Percentage
|
|
|
Management
|
|
|
44
|
|
|
|
4.7
|
%
|
Sales and Marketing
|
|
|
152
|
|
|
|
16.3
|
%
|
Production
|
|
|
606
|
|
|
|
65.1
|
%
|
Research and Development
|
|
|
129
|
|
|
|
13.9
|
%
|
|
|
|
|
|
|
|
|
|
Total number of employees
|
|
|
931
|
|
|
|
100.0
|
%
|
|
|
|
|
|
|
|
|
|
We believe our relationship with our employees is good, and we
have not experienced any significant labor disputes. Our
employees are not represented by any collective bargaining
agreement.
We focus on training and developing talent within our
organization rather than recruiting from outside of our company.
We have a moderate employee turnover rate, and over a majority
of our employees have been with us longer than five years. While
we hire labor-intensive workers locally in Langfang, we hire
many recent college graduates at our headquarters in Beijing.
These employees are transferred to our manufacturing and
research and development facility in Langfang after acquiring
familiarity with us and our operations.
We give performance-based bonuses to our employees. The bonuses
for sales representatives are based on the sales performance of
their assigned region, and the bonuses for manufacturing
employees are based on the number of hours worked. We review
profits attributable to a given manufacturing division or sales
department in determining bonuses for their respective
supervisors. As of the date of this prospectus, we have not
granted share options to any of our employees. However, we
intend to issue ordinary shares and/or options to purchase
ordinary shares to certain employees under our 2008 Omnibus
Incentive Plan after this offering. For a description of our
share option plan, see “Management—2008 Omnibus
Incentive Plan.”
As required by Chinese regulations, we participate in various
employee benefit plans that are organized by municipal and
provincial governments, including pension, work-related injury
benefits, medical and unemployment benefit plans. We are
required under Chinese law to make contributions to these
employee benefit plans at specified percentages of the salaries,
bonuses, housing funds and certain allowances of our employees,
up to a maximum amount specified by the local government from
time to time. Members of
111
the retirement plan are entitled to a pension equal to a fixed
proportion of the salary prevailing at the member’s
retirement date. The total amount expensed under our employee
benefit plans in 2008 was RMB6.3 million
($0.9 million) for Duoyuan Beijing and RMB6.8 million
($1.0) for Duoyuan Langfang. The total amount expensed under our
employee benefit plans for the three months ended March 31,
2009 was RMB1.7 million ($0.2 million) for Duoyuan
Beijing and RMB1.8 million ($0.3 million) for Duoyuan
Langfang. Currently, we have made all mandatory employee benefit
contributions for our employees.
Legal
Proceedings
There are no material legal proceedings, regulatory inquiries or
investigations pending or threatened against us.
112
REGULATIONS
This section sets forth a summary of the most significant
regulations or requirements that affect our business activities
in China. Certain of these regulations and requirements, such as
those relating to tax, foreign currency exchange, dividend
distribution, regulation of foreign exchange in certain onshore
and offshore transactions and regulations of overseas listings,
may affect our shareholders’ right to receive dividends and
other distributions from us.
Environmental
Regulations
On December 26, 1989, the Standing Committee of the
National People’s Congress issued the Environment
Protection Law, setting forth the legal framework for
environment protection in China. The Environmental Protection
Law requires the Ministry of Environmental Protection, or MEP,
to implement uniform supervision and administration of
environmental protection work nationwide and establishes
national waste discharge standards. Local environmental
protection bureaus are responsible for environmental protection
in their jurisdictions and may set stricter local standards
which are required to be registered at the MEP. Companies are
required to comply with the stricter of the two standards.
Enterprises producing environmental contamination and other
public hazards must incorporate environmental protection work
into their planning and establish environmental protection
systems. Those enterprises must also adopt effective measures to
prevent contamination and hazards to the environment, such as
waste gas, water, deposits, dusts, pungent gases and radioactive
matters as well as noise, vibration and magnetic radiation.
Enterprises discharging contaminated wastes in excess of the
discharge standards prescribed by MEP must pay non-standard
discharge fees in accordance with state regulations and be
responsible for the relevant cure.
The Prevention and Control Water Pollution Law in China was
issued by the Standing Committee of the National People’s
Congress on May 15, 1996, as amended on February 28,
2008. The Implementing Rule of the Prevention and Control of
Water Pollution Law was issued by the State Council and became
effective on March 20, 2000. These laws provide the legal
scope for the prevention of contamination to ground and
underground waters of rivers, lakes, canals, channels and
reservoirs in China. The environmental protection departments of
all levels of the Chinese government implement uniform
supervision and administration over the prevention and cure of
water contamination. The MEP sets forth the national quality
standards for water environment and the state discharge
standards for contaminated wastes. All new, renovated or rebuilt
construction projects discharging contaminated wastes directly
or indirectly into water must conform to Chinese regulations
relating to the relevant environmental protection administration
of construction projects. Enterprises discharging contaminated
wastes directly or indirectly into water must report and
register their contaminated wastes discharge facilities and
processing facilities and the types, amounts and concentrations
of contaminated wastes discharged under normal operating
conditions and provide technical information regarding the
prevention and cure of water contamination to the local
environmental protection departments.
Government authorities may impose different penalties against
persons or enterprises in violation of the environmental
protection related laws and regulations depending on the
specific circumstances. Such penalties include warnings, fines,
decisions to impose deadlines for a cure, orders to stop
operation, orders to re-install contamination prevention and
cure facilities which have been removed or left unused,
imposition of administrative actions against relevant
responsible persons or orders to close down those enterprises or
authorities. Where the violation committed is serious, persons
in violation may be required to pay damages to victims. Persons
directly responsible may be subject to criminal liability.
113
Our manufacturing processes may generate noise, water waste,
gaseous waste and other industrial waste. We are subject to a
variety of Chinese national and local environmental laws and
regulations related to our operations, including regulations
governing the storage, discharge and disposal of hazardous
substances in the ordinary course of our manufacturing
processes. The major environmental regulations applicable to us
include the Environmental Protection Law, the Prevention and
Control of Water Pollution Law and related Implementation Rules,
the Prevention and Control of Air Pollution Law and related
Implementation Rules, the Prevention and Control of Solid Waste
Pollution Law and the Prevention and Control of Noise Pollution
Law.
Operating
Permits
According to the Drinking Water Sanitation Supervision
Administrative Measures issued by the Chinese Ministry of
Construction and Ministry of Public Health in 1996, any entity
that is to manufacture products related to the sanitation and
safety of drinking water may proceed with production or sales
only after obtaining public health permits from the governmental
authority in charge of public health. In particular, any entity
that seeks to produce water treatment equipment must pass both a
preliminary examination by provincial-level public health
authority and a second examination by the Chinese Ministry of
Public Health, as evidenced by an approval from the Ministry of
Public Health. Duoyuan Beijing obtained a health permit from the
Chinese Ministry of Public Health for its Ultraviolet Water
Purifier. We have applied to update Duoyuan Beijing’s
health permit to list Duoyuan Langfang as the actual
manufacturing enterprise of the Ultraviolet Water Purifier.
Under PRC laws, a public health permit is required for products
related to sanitation and safety of drinking water. For certain
of our water purification treatment products, we have determined
that a public health permit is not required either because a
permit is not technically required because the water following
related treatment is not meant for human drinking consumption or
the related product is sold as part of an integrated solution
and we possess the requisite public health permit for some key
part of such integrated solution. If government officials do not
agree with these determinations, we may be required to apply for
a separate public health permit for some of our water
purification treatment products or some part of our integrated
water purification solution, to stop sales of the product
pending receipt of the permit or subject to fines or penalties
of no more than RMB30,000 for failure to possess the required
permit.
Restriction
on Foreign Businesses
The principal regulation governing foreign ownership of water
treatment equipment manufacturing businesses in China is the
Foreign Investment Industrial Guidance Catalogue which was
issued by the Ministry of Commerce and the National Development
and Reform Commission and became effective on December 1,
2007. Under the regulation, our main business is in an industry
that is currently encouraged or permitted to be invested by
foreign investors. Foreign investment in water treatment
equipment manufacturing business in China is allowed subject to
approval from the Ministry of Commerce
and/or the
local counterpart authorized by the Ministry of Commerce in
accordance with the business scale and total amount of
investment. The establishment of our Chinese subsidiaries was
approved by the competent counterparts of Ministry of Commerce
and each of our subsidiaries has obtained their respective
foreign-invested enterprise approval certificate. Our investment
in our subsidiaries and the equity transfers of our Chinese
subsidiaries were also approved by such government authority and
the relevant approval certificate has been renewed and
registered accordingly.
114
Regulation
of Foreign Currency Exchange and Dividend Distribution
Foreign
currency exchange
The principal regulations governing foreign currency exchange in
China are the Foreign Exchange Control Regulations (1996), as
amended. Under these regulations, the Renminbi is convertible
for current account items, including the distribution of
dividends, interest payments, trade and service-related foreign
exchange transactions. Conversion of the Renminbi for capital
account items, such as direct investment, loans, repatriation of
investment and investment in securities outside China, however,
is still subject to the approval of the SAFE or its competent
local branch.
The dividends paid by a subsidiary to its shareholder are deemed
income of the shareholder and are taxable in China. Pursuant to
the Administration Rules of the Settlement, Sale and Payment of
Foreign Exchange (1996), foreign-invested enterprises in China
may purchase or remit foreign exchange, subject to a cap
approved by the SAFE, for settlement of current account
transactions without the approval of the SAFE. Foreign exchange
transactions under the capital account are still subject to
limitations and require approvals from, or registration with,
the SAFE and other relevant Chinese governmental authorities, or
their competent local branches.
Dividend
distribution
The principal regulations governing distribution of dividends of
foreign holding companies include the Foreign Investment
Enterprise Law (1986), as amended, and the Administrative Rules
under the Foreign Investment Enterprise Law (2001). Under these
regulations, foreign-invested enterprises in China may pay
dividends only out of their accumulated profits, if any,
determined in accordance with Chinese accounting standards and
regulations. In addition, foreign-invested enterprises in China
are required to allocate at least 10% of their respective
accumulated profits each year, if any, to fund certain reserve
funds unless these reserves have reached 50% of the registered
capital of the enterprises. These reserves are not distributable
as cash dividends. Our Chinese subsidiaries, which are all
foreign-invested enterprises, are restricted from distributing
any dividends to us until they have met these requirements set
out in the regulations.
According to the new EIT law and the implementation rules on the
new EIT law, if a foreign legal person is not deemed to be a
resident enterprise for Chinese tax purposes, dividends
generated after January 1, 2008 and paid to this foreign
legal person from business operations in China will be subject
to a 10% withholding tax, unless such foreign legal
person’s jurisdiction of incorporation has a tax treaty
with the PRC that provides for a different withholding
arrangement.
Under the new EIT law and its implementation rules, if an
enterprise incorporated outside China has its “de facto
management organization” located within China, such
enterprise would be classified as a resident enterprise and thus
would be subject to an enterprise income tax rate of 25% on all
of its income on a worldwide basis, with the possible exclusion
of dividends received directly from another Chinese tax resident.
SAFE
regulations on overseas investment of Chinese residents and
employee share options or stock holding plans
According to the SAFE Rules, Chinese residents, including both
legal persons and natural persons, who reside in China, are
required to register with the SAFE or its local branch before
establishing or controlling any company outside China, referred
to in the SAFE Rules as an “offshore special purpose
115
company,” for the purpose of financing that offshore
company with their ownership interests in the assets of or their
interests in any Chinese enterprise. In addition, a Chinese
resident that is a shareholder of an offshore special purpose
company is required to amend its SAFE registration with the
local SAFE branch with respect to that offshore special purpose
company in connection with the injection of equity interests or
assets of a Chinese enterprise in the offshore company or
overseas fund raising by the offshore company, or any other
material change in the capital of the offshore company,
including any increase or decrease of capital, transfer or swap
of share, merger, division, long-term equity or debt investment
or creation of any security interest. The registration and
filing procedures under SAFE Rules are prerequisites for other
approval and registration procedures necessary for capital
inflow from the offshore entity, such as inbound investments or
shareholder loans, or capital outflow to the offshore entity,
such as the payment of profits or dividends, liquidating
distributions, equity sale proceeds, or the return of funds upon
a capital reduction. The SAFE Rules retroactively required
registration by March 31, 2006 of direct or indirect
investments previously made by Chinese residents in offshore
companies. If a Chinese shareholder with a direct or indirect
stake in an offshore parent company fails to make the required
SAFE registration, the Chinese subsidiaries of such offshore
parent company may be prohibited from making distributions of
profit to the offshore parent and from paying the offshore
parent proceeds from any reduction in capital, share transfer or
liquidation in respect of the Chinese subsidiaries. Further,
failure to comply with the various SAFE registration
requirements described above could result in liability under
Chinese law for violation of the relevant rules relating to
foreign exchange.
Our majority shareholder is Duoyuan Investments Limited, which
is wholly owned by Wenhua Guo, our chairman and chief executive
officer and a Chinese resident as defined in the SAFE Rules.
Mr. Guo has registered with the relevant branch of SAFE, as
currently required, in connection with his interests in us and
our acquisitions of equity interests in our Chinese
subsidiaries. Furthermore, as required by SAFE Rules, our 2008
Omnibus Incentive Plan must be filed with the SAFE or its
authorized branch. Mr. Guo is in the process of updating
his SAFE registration to reflect his interest in Duoyuan
Investments Limited and filing the 2008 Omnibus Incentive Plan
with the SAFE. We attempt to comply and attempt to ensure that
Mr. Guo, who is subject to the SAFE Rules and other related
rules, complies with the relevant requirements of the SAFE
Rules. However, we cannot provide any assurances that his
registration will fully comply with, and he will make all
necessary amendments to his registration to fully comply with,
all applicable registrations or approvals required by the SAFE
Rules. Moreover, because of uncertainty over how the SAFE Rules
will be interpreted and implemented, and how or whether the SAFE
Rules will apply to us, we cannot predict how it will affect our
business operations or future strategies. For example, our
present and prospective Chinese subsidiaries’ ability to
conduct foreign exchange activities, such as the remittance of
dividends and foreign currency denominated borrowings, may be
subject to compliance with the SAFE Rules by Mr. Guo or our
future Chinese resident shareholders. In addition, such Chinese
residents may not always be able to complete the necessary
registration procedures required by the SAFE Rules. We also have
little control over either our present or prospective direct or
indirect shareholders or the outcome of such registration
procedures. The failure or inability by Mr. Guo or our
future Chinese resident shareholders to comply with the SAFE
Rules, if SAFE requires it, may subject them to fines or other
sanctions and may also limit our ability to contribute
additional capital into or provide loans to our Chinese
subsidiaries (including using our net proceeds from this
offering for these purposes), limit our Chinese
subsidiaries’ ability to pay dividends to us, repay
shareholder loans or otherwise distribute profits or proceeds
from any reduction in capital, share transfer or liquidation to
us, or otherwise adversely affect us. Failure by our Chinese
resident shareholders to comply with SAFE filing requirements
described above could result in liability to these shareholders
or our Chinese subsidiaries under Chinese laws for evasion of
applicable foreign exchange restrictions.
On December 25, 2006, the People’s Bank of China, or
PBOC, issued the Administration Measures on Individual Foreign
Exchange Control, and the corresponding Implementation Rules
were issued by
116
SAFE on January 5, 2007. Both of these regulations became
effective on February 1, 2007. According to these
regulations, all foreign exchange matters relating to employee
stock holding plans, share option plans or similar plans in
which PRC citizens’ participation require approval from the
SAFE or its authorized branch. On March 28, 2007, SAFE
promulgated the Application Procedure of Foreign Exchange
Administration for Domestic Individuals Participating in
Employee Stock Option Holding Plan or Stock Option Plan of
Overseas Listed Company, or the Stock Option Rule. The purpose
of the Stock Option Rule is to regulate foreign exchange
administration of Chinese citizens who participate in employee
stock holding plans and share option plans of offshore listed
companies. According to the Stock Option Rule, if a Chinese
citizen participates in any employee stock holding plans or
share option plans of an offshore listed company, a Chinese
domestic agent or the Chinese subsidiary of the offshore listed
company is required to file, on behalf of the individual, an
application with the SAFE to obtain approval for an annual
allowance with respect to the purchase of foreign exchange in
connection with stock holding or share option exercises. This
restriction exists because a Chinese citizen may not directly
use offshore funds to purchase stock or exercise share options.
Concurrent with the filing of the required application with the
SAFE, the Chinese domestic agent or the Chinese subsidiary must
obtain approval from the SAFE to open a special foreign exchange
account at a Chinese domestic bank to hold the funds required in
connection with the stock purchase or option exercise, any
returned principal profits upon sales of stock, any dividends
issued on the stock and any other income or expenditures
approved by the SAFE. The Chinese domestic agent or the Chinese
subsidiary also is required to obtain approval from the SAFE to
open an offshore special foreign exchange account at an offshore
trust bank to hold offshore funds used in connection with any
employee stock holding plans.
All proceeds obtained by a Chinese citizen from dividends
acquired from the offshore listed company through employee stock
holding plans or share option plans, or sales of the offshore
listed company’s stock acquired through other methods, must
be remitted back to China after relevant offshore expenses are
deducted. The foreign exchange proceeds from these sales can be
converted into Renminbi or transferred to the individuals’
foreign exchange savings account after the proceeds have been
remitted back to the special foreign exchange account opened at
a Chinese bank. If share options are exercised in a cashless
exercise, the Chinese individuals exercising them are required
to remit the proceeds to the special foreign exchange account.
Although the Stock Option Rule has been promulgated recently and
many issues require further interpretation, we and our Chinese
employees who have been or will be granted share options or
shares will be subject to the Stock Option Rule when we become
an offshore listed company.
Under SAFE Notice No. 106, employees stock holding plans of
offshore special purpose companies must be filed with the SAFE,
and employees share option plans of offshore special purpose
companies must be filed with the SAFE while applying for the
registration for the establishment of the offshore special
purpose company. After the employees exercise their options,
they must apply for the amendment to the registration for the
offshore special purpose company with the SAFE.
If we or our Chinese employees fail to comply with the Stock
Option Rule, we
and/or our
Chinese employees may face sanctions imposed by foreign exchange
authority or any other Chinese government authorities.
Regulation
of Merger and Acquisitions of Domestic Enterprises by Foreign
Investors
On August 8, 2006, six Chinese regulatory agencies,
including the Ministry of Commerce, the State Assets Supervision
and Administration Commission, the State Administration for
Taxation, the State Administration for Industry and Commerce,
the CSRC and the SAFE, jointly issued the Regulations on Mergers
and Acquisitions of Domestic Enterprises by Foreign Investors,
or the New M&A Rule, which became effective on
September 8, 2006. Under the New M&A Rule, equity or
assets merger and
117
acquisition of Chinese enterprises by foreign investors will be
subject to the approval from the Ministry of Commerce or its
competent local branches. This regulation also includes
provisions that purport to require special purpose companies
formed for purposes of offshore listing of equity interests in
Chinese companies to obtain the approval of the CSRC prior to
the listing and trading of their securities on any offshore
stock exchange. As defined in the New M&A Rule, a special
purpose vehicle is an offshore company that is directly or
indirectly established or controlled by Chinese entities or
individuals for the purposes of an overseas listing.
On September 21, 2006, the CSRC published on its official
website procedures regarding its approval of offshore listings
by special purpose vehicles. The CSRC approval procedures
require the filing of a number of documents with the CSRC and it
would take several months to complete the approval process. The
application of the New M&A Rule with respect to offshore
listings of special purpose companies remains unclear with no
consensus currently existing among leading Chinese law firms
regarding the scope of the applicability of the CSRC approval
requirement.
Our Chinese counsel, Commerce & Finance Law Offices
has advised us that, based on the their understanding of current
Chinese laws, regulations and rules, including the New M&A
Rule and the CSRC procedures announced on September 21,
2006:
|
|
|
|
•
|
the CSRC currently has not issued any definitive rule or
interpretation requiring offerings like this offering to be
subject to this new procedure;
|
|
|
•
|
Considering that we established an overseas holding structure
before September 8, 2006, the effective date of the New
M&A Rule, and that Duoyuan Beijing and Duoyuan Langfang
were established as qualified foreign invested enterprises
before that date and we acquired their equity interests from
another offshore company, this regulation does not require us to
submit an application to the CSRC for its approval prior to the
issuance and sale of the ADSs, or the listing and trading of our
ADSs on the New York Stock Exchange, unless we are clearly
required to do so by possible later rules of the CSRC; and
|
|
|
•
|
the issuance and sale of the ADSs and the ordinary shares and
the listing and trading of our ADSs on the New York Stock
Exchange do not conflict with or violate this new regulation.
|
Regulation
of Loans between a Foreign Company and its Chinese
Subsidiary
A loan made by foreign investors as shareholders in a
foreign-invested enterprise is considered to be foreign debt in
China and subject to several Chinese laws and regulations,
including the Foreign Exchange Control Regulations of 1997, the
Interim Measures on Foreign Debts of 2003, or the Interim
Measures, the Statistical Monitoring of Foreign Debts Tentative
Provisions of 1987 and its Implementing Rules of 1998, the
Administration of the Settlement, Sale and Payment of Foreign
Exchange Provisions of 1996, and the Notice of the SAFE in
Respect of Perfection of Issues Relating Foreign Debts, dated
October 21, 2005.
Under these regulations, a shareholder loan in the form of
foreign debt made to a Chinese entity does not require the prior
approval of the SAFE. However, such foreign debt must be
registered with and recorded by the SAFE or its local branch in
accordance with relevant Chinese laws and regulations. Our
Chinese subsidiaries can legally borrow foreign exchange loans
up to their borrowing limits, which is defined as the difference
between the amount of their respective “total
investment” and “registered capital” as approved
by the Ministry of Commerce, or its local counterparts. Interest
payments, if any, on the loans are subject to a 10% withholding
tax unless any such foreign shareholders’ jurisdiction of
incorporation has a tax treaty with China that provides for a
different withholding agreement.
118
Pursuant to Article 18 of the Interim Measures, if the
amount of foreign exchange debt of our Chinese subsidiaries
exceed their respective borrowing limits, we are required to
apply to the relevant Chinese authorities to increase the total
investment amount and registered capital to allow the excess
foreign exchange debt to be registered with the SAFE.
Taxation
Prior to January 1, 2008, entities established in China
were generally subject to a 30% state and 3% local enterprise
income tax rate. However, entities that satisfied certain
conditions enjoyed preferential tax treatment. In accordance
with the FIE Income Tax Law, effective until December 31,
2007, a foreign-invested manufacturing enterprise established in
a coastal economic open zone or in the urban districts of
certain special economic zones were subject to an enterprise
income tax at the reduced rate of 24%. Any foreign-invested
manufacturing enterprise scheduled to operate for a period not
less than ten years were exempted from paying income tax in its
first and second profit making years and is allowed a 50%
reduction in its tax rate in the third, fourth and fifth years.
Duoyuan Beijing, which operates and is registered in Beijing, is
a foreign-invested manufacturing enterprise and was treated as
if established in a coastal economic open zone and, as a result,
had enjoyed a preferential income tax rate of 24% under the FIE
Income Tax Law. In accordance with the FIE Income Tax Law and
the related implementation rules, as a foreign-invested
manufacturing enterprise scheduled to operate for a period not
less than ten years, Duoyuan Beijing had enjoyed a two-year
exemption from the 24% enterprise income tax rate for its first
two profitable years ended December 31, 2003 and 2004 and
thereafter a preferential enterprise income tax rate of 12% for
the succeeding three years ended December 31, 2005, 2006
and 2007.
Duoyuan Langfang is not located in a coastal economic open zone
or a special economic zone and as a result, is subject to the
general 30% enterprise income tax rate. However, as a
foreign-invested manufacturing enterprise scheduled to operate
for a period not less than ten years, pursuant to the FIE Income
Tax Law, it had a two-year exemption from the 30% enterprise
income tax rate for its first two profitable years ended
December 31, 2004 and 2005 and thereafter a preferential
enterprise income tax rate of 15% for the succeeding two years
ended December 31, 2006, 2007 and a preferential enterprise
income tax rate of 12.5% for 2008.
On March 16, 2007, the PRC National People’s Congress
enacted the new EIT law, which, together with its related
implementation rules issued by the PRC State Council on
December 6, 2007, became effective on January 1, 2008.
The new EIT law imposes a single uniform income tax rate of 25%
on all Chinese enterprises, including foreign-invested
enterprises, and eliminates or modifies most of the tax
exemptions, reductions and preferential treatment available
under the previous tax laws and regulations. On
December 26, 2007, the PRC State Council issued a Notice of
the State Council Concerning Implementation of Transitional
Rules for Enterprise Income Tax Incentives, or Circular 39.
According to Circular 39, with the effectiveness of the new EIT
law, the enterprises that were granted a fixed-term tax
exemption or reduction will continue to enjoy the preferential
tax holiday until the expiration of such term. However,
according to Circular 39, certain specifically listed categories
of enterprises with a preferential tax rate of 24% would be
subject to the uniform income tax rate of 25% under the new EIT
law beginning on January 1, 2008.
Duoyuan Beijing, which enjoyed a preferential income tax rate of
24% under the FIE Income Tax Law, will now be subject to an
enterprise income tax rate of 25%. Duoyuan Langfang, which
enjoyed a preferential enterprise income tax rate of 12.5% for
the year ended December 31, 2008 will now be taxed at the
uniform income tax rate of 25% rather than at the general 30%
enterprise income tax rate applicable under the FIE Income Tax
Law. The loss of preferential tax treatments and the increase in
119
Duoyuan Beijing’s income tax rate from 24% to 25% may have
a material adverse effect on our operating results.
We are a holding company incorporated under the laws of the
British Virgin Islands. We conduct substantially all of our
business through our wholly owned Chinese subsidiaries and we
derive all of our income from these subsidiaries. Prior to
January 1, 2008, dividends derived by foreign legal persons
from business operations in China were not subject to the
Chinese enterprise income tax. However, such tax exemption
ceased after January 1, 2008 with the effectiveness of the
new EIT law.
Under the new EIT law, if we are not deemed to be a resident
enterprise for Chinese tax purposes, a withholding tax at the
rate of 10% would be applicable to any dividends paid by our
Chinese subsidiaries to us. However, if we are deemed to have a
“de facto management organization” in China, we would
be classified as a resident enterprise for Chinese tax purposes
and thus would be subject to an enterprise income tax rate of
25% on our worldwide income, including dividend income and
interest income on the proceeds from this offering. At the
present, the Chinese tax authority has not issued any guidance
on the application of the new EIT law and its implementing rules
on non-Chinese enterprise or group enterprise controlled
entities. As a result, it is unclear what factors will be used
by the Chinese tax authorities to determine whether we are a
“de facto management organization” in China. However,
as substantially all members of our management team are located
in China, we may be deemed to be a resident enterprise and
therefore subject to an enterprise income tax rate of 25% on our
worldwide income, with the possible exclusion of dividends
received directly from another Chinese tax resident. As a result
of such changes, our historical operating results will not be
indicative of our operating results for future periods and the
value of our ordinary shares or ADSs may be adversely affected.
Pursuant to the Provisional Regulation of China on Value Added
Tax issued by the State Council in December 1993 and amended to
take effect starting in January 2009, all entities and
individuals that are engaged in the sale of goods, the provision
of repairs and replacement services and the importation of goods
in China are generally required to pay VAT at a rate of 17% of
the gross sales proceeds received, less any deductible VAT
already paid or borne by the taxpayer. Further, when exporting
goods, the exporter is entitled to a portion of or all the
refund of VAT that it has already paid or borne.
120
MANAGEMENT
Directors
and Executive Officers
Members of our board of directors are elected by our
shareholders. Our board of directors consists of five directors.
Our executive officers are appointed by, and serve at the
discretion of, our board of directors.
The following table sets forth information concerning our
directors and executive officers as of the date of this
prospectus. The business address of each of our directors and
executive officers listed below is No. 3 Jinyuan Road,
Daxing Industrial Development Zone, Beijing 102600,
People’s Republic of China. There are no family
relationships between any of our directors and executive
officers.
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Name
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Age
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Position
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Wenhua Guo
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Director, Chairman and Chief Executive Officer
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Christopher P. Holbert
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38
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Director
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Joan M. Larrea*
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44
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Director
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Thomas S. Rooney, Jr.
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49
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Director
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Yuefeng Yu
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63
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Director
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Stephen C. Park
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45
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Chief Financial Officer
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Ronglin Qiao
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42
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Chief Operating Officer
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Lixin Wang
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43
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Chief Technology Officer
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Initially designated by GEEMF III Holdings MU, an affiliate of
Global Environment Fund, pursuant to the Voting Agreement, dated
February 5, 2008, between us, Duoyuan Investments Limited
and GEEMF III Holdings MU.
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Our
Directors
Wenhua Guo. Mr. Guo is the founder
of our company and has served as our chairman and chief
executive officer since the commencement of our operations in
1992. Before Mr. Guo founded our company, he was a physics
teacher at Beijing Chemical Institute. Mr. Guo is the
chairman of Asian Financial, Inc., a public company.
Mr. Guo served as chief executive officer of Asian
Financial Inc. from October 2006 to June 2009. Mr. Guo
obtained a bachelor’s degree in physics from Beijing Normal
University in 1983.
Christopher P. Holbert, Director
. Mr. Holbert has served as our director
since September 2008. Since August 2008, Mr. Holbert has
served as vice president of finance of VisionChina Media Inc.
Since July 2007, Mr. Holbert has served as director, chair
of the audit committee and member of the compensation and
nominating committee of Asian Financial, Inc. From June 2006 to
August 2008, he was the chief financial officer of Techfaith
Wireless Technology Limited. From 2005 to 2006, he was the
director of finance for CDC Corporation. From 2004 to 2005, he
was director of Sarbanes Oxley Compliance at Chinadotcom
Corporation, the predecessor of CDC Corporation. From 2003 to
2004, he was vice president of finance of Newpalm China, a
subsidiary of Chinadotcom Corporation. From 2001 to 2003, he was
the founding partner of Expat-CFO Services Limited, a
Shanghai-based financial consultancy providing advice on doing
business in China. Mr. Holbert has also served as an
auditor and consultant with Deloitte Touche Tohmatsu. He is a
certified public accountant and has 12 years of
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experience in the field of accounting and financial management.
Mr. Holbert received a bachelor’s degree in science
with a concentration in accounting from Bowie State University
in Maryland.
Joan M. Larrea. Ms. Larrea has
served as our director since February 2008. Ms. Larrea also
has served as a director of Deqingyuan Agricultural Technology
Co., Ltd. since May 2007. Since November 2005, Ms. Larrea
has been a managing director at GEF Management Corporation, an
affiliate of Global Environment Fund. Prior to November 2005,
Ms. Larrea served as a principal investment officer at
International Finance Corporation, where she began her career as
an analyst in 1996. Ms. Larrea obtained a bachelor of arts
degree in oriental studies and a master’s degree in
international studies from the University of Pennsylvania in
1985 and 1992, respectively, and a master’s degree in
business administration from the Wharton School, University of
Pennsylvania in 1992. Ms. Larrea was originally appointed
to our board of directors as a designee of GEEMF III Holdings
MU, an affiliate of Global Environment Fund, pursuant to the
Voting Agreement.
Thomas S. Rooney,
Jr. Mr. Rooney has served as our
director since June 2008. Mr. Rooney currently also serves
as a director of EnerTech Environmental, Inc. and SPG Holdings,
Inc. Since May 2009, Mr. Rooney has served as the chief
executive officer of SPG Holdings, Inc. From August 2007 to May
2009, Mr. Rooney was a consultant of RCI Consulting. From
April 2003 to August 2007, Mr. Rooney served as the chief
executive officer of Insituform Technologies, Inc., a
St. Louis, Missouri publicly held corporation. From 2000
until April 2003, Mr. Rooney was senior vice president and
regional manager for Gilbane Building Company. Mr. Rooney
obtained a bachelor of science degree in civil engineering from
Cornell University and a master’s degree in business
administration from the University of Chicago.
Yuefeng Yu. Mr. Yu has served
as our director since August 2008. Since June 2007, Mr. Yu
has served as the vice president of China Association of
Environmental Protection Industry, a nonprofit organization
under the direct management of the Ministry of Environmental
Protection of PRC. From March 2000 to May 2007, Mr. Yu
served as the president and secretary of the Communist Party
Committee of the Chinese Environment News, a newspaper under the
direct management of the Ministry of Environmental Protection of
PRC. Mr. Yu has been engaged in numerous environmental
protection related research projects. From 1994 to 1995, he
organized and completed a research project entitled
“Development Strategies for the Chinese Environmental
Protection Industry”. This project was sponsored and funded
by the World Bank. Mr. Yu received a bachelor’s degree
in chemistry from Jilin University in 1970.
Our
Executive Officers
Stephen C. Park. Mr. Park has been
our chief financial officer since June 2007. Prior to joining
us, Mr. Park served as chief financial officer of Qycell
Corporation from June 2004 to June 2007, where he continued to
serve as a consultant until October 2008. From October 2000 to
May 2004, Mr. Park served as corporate controller and chief
financial officer of Dura Coat Products, Inc. Mr. Park is a
certified public accountant in the State of California and has
practiced at Deloitte and Touche, LLP and Young-Woo Park,
C.P.A., where he was a partner from 1997 to 2000. Mr. Park was
also a consultant at Prudential Insurance Company of America
from April 1996 to May 1997. Mr. Park obtained a bachelor
of arts degree in religion from Pacific Union College in 1989
and a master’s degree in business administration from the
University of Southern California, Los Angeles in 1993.
Ronglin Qiao. Mr. Qiao has been
our chief operating officer since April 2008. Since January
2008, Mr. Qiao has also served as the general manager of
Duoyuan Beijing. Since 1994, Mr. Qiao held various
positions at Duoyuan Beijing, including sales representative,
manager, deputy sales director, vice president and general
manager. From July 1989 to September 1994, Mr. Qiao was a
teacher and a
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product designer at Beijing Mechanical & Electrical
Poly-technique School. Mr. Qiao obtained a bachelor of
science degree in mechanical engineering from Tianjin Normal
University in 1989 and a master’s degree in environmental
engineering from the Chinese Academy of Sciences in 2005.
Lixin Wang. Mr. Wang has been our
chief technology officer since April 2008. Since January 2008,
Mr. Wang has also served as the general manager of Duoyuan
Langfang. Mr. Wang served as vice president of research and
development of Duoyuan Digital Press Technology Industrial
(China) Co., Ltd., a wholly owned subsidiary of Asian Financial,
Inc., from October 2005 to December 2007, where he was director
of research and development from June 2001 to September 2005 and
a member of Asian Financial, Inc.’s board of directors
until April 2007. From January 2001 to May 2001, Mr. Wang
was director of research and development of Duoyuan Electric
Group. Mr. Wang obtained a bachelor’s degree in
science from Bengbu Tank Institute in 1988 and a master’s
degree in wireless engineering from Fuzhou University in 1997.
Board of
Directors
Our directors are not subject to a term of office and hold
office until their resignation, death or incapacity or until
their respective successors have been elected and qualified in
accordance with our fourth amended and restated memorandum and
articles of association. A director will be removed from office
if, among other things, the director (1) becomes bankrupt,
(2) dies or becomes of unsound mind, or (3) is absent
from meetings of our board of directors for six consecutive
months without leave and our board of directors resolves that
the office is vacated. A director is not entitled to any special
benefits upon termination of service with the company.
Our board of directors consists of five members, three of whom
have been determined by us to be independent directors within
the meaning of the independent director guidelines of the New
York Stock Exchange Rules.
Committees
of our Board of Directors
To enhance our corporate governance, we will establish upon
completion of our initial public offering, three committees
under our board of directors: an audit committee, a compensation
committee, and a nominating and corporate governance committee.
We intend to adopt a charter for each of these committees. The
committees will have the following functions and members.
Audit
Committee
Our audit committee will report to our board of directors
regarding the appointment of our independent public accountants,
the scope and results of our annual audits, compliance with our
accounting and financial policies and management’s
procedures and policies relating to the adequacy of our internal
accounting controls. We currently expect that upon completion of
this offering, our audit committee will consist of
Christopher P. Holbert, Thomas S. Rooney, Jr. and
Yuefeng Yu. Mr. Holbert, having accounting and financial
management expertise, will serve as the chairman of the audit
committee. Our board of directors has determined that
Mr. Holbert and Mr. Yu meet the definition of
“independent director” under the applicable
requirements of Rule 303A of the New York Stock Exchange
Rules and
Rule 10A-3
of the Securities Exchange Act of 1934, as amended, or the
Exchange Act. We expect that within one year of our initial
public offering our audit committee will consist solely of
independent directors.
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Our audit committee will be responsible for, among other things:
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the appointment, evaluation, compensation, oversight and
termination of the work of our independent auditor (including
resolution of disagreements between management and the
independent auditor regarding financial reporting);
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an annual performance evaluation of the audit committee;
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establishing procedures for the receipt, retention and treatment
of complaints regarding accounting, internal accounting
controls, auditing matters or potential violations of law, and
the confidential, anonymous submission by our employees of
concerns regarding questionable accounting or auditing matters
or potential violations of law;
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ensuring that it receives an annual report from our independent
auditor describing our internal control procedures and any steps
taken to deal with material control deficiencies and attesting
to the auditor’s independence and describing all
relationships between the auditor and us;
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reviewing our annual audited financial statements and quarterly
financial statements with management and our independent auditor;
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reviewing and approving all proposed related party transactions,
as defined in the Securities and Exchange Commission
Form 20-F,
Item 7.B.;
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reviewing our policies with respect to risk assessment and risk
management;
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meeting separately and periodically with management and our
independent auditor; and
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reporting regularly to our board of directors.
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Compensation
Committee
Our compensation committee will assist the board of directors in
reviewing and approving the compensation structure of our
directors and executive officers, including all forms of
compensation to be provided to our directors and executive
officers. In addition, the compensation committee will review
stock compensation arrangements for all of our other employees.
Members of the compensation committee will not be prohibited
from direct involvement in determining their own compensation.
Our chief executive officer will not be permitted to be present
at any committee meeting during which his or her compensation is
deliberated. We currently expect that upon completion of this
offering, our compensation committee will consist of Christopher
P. Holbert, Thomas S. Rooney, Jr. and Yuefeng Yu, with
Mr. Rooney serving as the chairman of the compensation
committee. Our board of directors has determined that all of the
members of our compensation committee meet the definition of
“independent director” under the applicable
requirements of the New York Stock Exchange Rules. Our
compensation committee will be responsible for, among other
things:
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reviewing and approving corporate goals and objectives relevant
to the compensation of our chief executive officer, evaluating
the performance of our chief executive officer in light of those
goals and objectives and setting the compensation level of our
chief executive officer based on this evaluation;
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reviewing and making recommendations to the board with respect
to the compensation of our executives, incentive compensation
and equity-based plans that are subject to board
approval; and
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providing annual performance evaluations of the compensation
committee.
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Nominating
and Corporate Governance Committee
Our nominating and corporate governance committee will assist
the board of directors in identifying and selecting or
recommending individuals qualified to become our directors,
developing and recommending corporate governance principles and
overseeing the evaluation of our board of directors and
management. We currently expect that upon completion of this
offering our nominating and corporate governance committee will
consist of Christopher P. Holbert, Thomas S. Rooney,
Jr. and Yuefeng Yu, with Mr. Yu serving as the chairman of
the nominating and corporate governance committee. Our board of
directors has determined that all of the members of our
nominating and corporate governance committee meet the
definition of “independent director” under the
applicable requirements of the New York Stock Exchange Rules.
Our nominating and corporate governance committee will be
responsible for, among other things:
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selecting and recommending to our board nominees for election or
re-election to our board, or for appointment to fill any vacancy;
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reviewing annually with our board the current composition of the
board of directors with regards to characteristics such as
independence, age, skills, experience and availability of
service to us;
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selecting and recommending to our board the names of directors
to serve as members of the audit committee and the compensation
committee, as well as the corporate governance and nominating
committee itself;
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advising our board of directors periodically with regards to
significant developments in the law and practice of corporate
governance as well as our compliance with applicable laws and
regulations, and making recommendations to our board of
directors on all matters of corporate governance and on any
remedial action to be taken; and
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monitoring compliance with our code of business conduct and
ethics, including reviewing the adequacy and effectiveness of
our procedures to ensure proper compliance.
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Code of
Business Conduct and Ethics
Upon completion of this offering, our board of directors will
adopt a code of business conduct and ethics applicable to our
directors, officers and employees. We will make our code of
business conduct and ethics publicly available on our website.
Duties of
Directors
Under British Virgin Islands law, our directors have a duty to
act honestly, in good faith and with a view to our best
interests. Our directors also have a duty to exercise the care,
diligence and skills that a reasonably prudent person would
exercise in comparable circumstances. See “Description of
Share
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Capital—Differences in Corporate Law” for additional
information on our directors’ fiduciary duties under
British Virgin Islands law. In fulfilling their duty of care to
us, our directors must ensure compliance with our fourth amended
and restated memorandum and articles of association. We have the
right to seek damages if a duty owed by our directors is
breached.
The functions and powers of our board of directors include,
among others:
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appointing officers and determining the term of office of the
officers;
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authorizing the payment of donations to religious, charitable,
public or other bodies, clubs, funds or associations as deemed
advisable;
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exercising the borrowing powers of the company and mortgaging
the property of the company;
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executing cheques, promissory notes and other negotiable
instruments on behalf of the company; and
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maintaining or registering a register of mortgages, charges or
other encumbrances of the company.
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Interested
Transactions
A director may vote, attend a board meeting or sign a document
on our behalf with respect to any contract or transaction in
which he or she is interested. A director must promptly disclose
the interest to all other directors after becoming aware of the
fact that he or she is interested in a transaction we have
entered into or are to enter into. A general notice or
disclosure to the board or otherwise contained in the minutes of
a meeting or a written resolution of the board or any committee
of the board that a director is a shareholder, director, officer
or trustee of any specified firm or company and is to be
regarded as interested in any transaction with such firm or
company will be sufficient disclosure, and, after such general
notice, it will not be necessary to give special notice relating
to any particular transaction.
Remuneration
and Borrowing
The directors may receive such remuneration as our board of
directors may determine from time to time. Each director is
entitled to be repaid or prepaid all traveling, hotel and
incidental expenses reasonably incurred or expected to be
incurred in attending meetings of our board of directors or
committees of our board of directors or shareholder meetings or
otherwise in connection with the discharge of his or her duties
as a director. The compensation committee will assist the
directors in reviewing and approving the compensation structure
for the directors. See “Related Party Transactions”
for a discussion of loans made by Duoyuan Beijing to its
directors.
Our board of directors may exercise all the powers of the
company to borrow money and to mortgage or charge our
undertakings and property or any part thereof, to issue
debentures, debenture stock and other securities whenever money
is borrowed or as security for any debt, liability or obligation
of the company or of any third party.
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Qualification
A director is not required to hold shares as a qualification to
office.
Limitation
on Liability and Other Indemnification Matters
British Virgin Islands law does not limit the extent to which a
company’s memorandum and articles of association may
provide for indemnification of officers and directors, except to
the extent any such provision may be held by the British Virgin
Islands courts to be contrary to public policy, such as to
provide indemnification against civil fraud or the consequences
of committing a crime.
Under our fourth amended and restated memorandum and articles of
association, we may indemnify our directors, officers and
liquidators against all expenses, including legal fees, and
against all judgments, fines and amounts paid in settlement and
reasonably incurred in connection with civil, criminal,
administrative or investigative proceedings to which they are
party or are threatened to be made a party by reason of their
acting as our director, officer or liquidator. To be entitled to
indemnification, these persons must have acted honestly and in
good faith with a view to the best interest of the company and,
in the case of criminal proceedings, they must have had no
reasonable cause to believe their conduct was unlawful.
Employment
Agreements
We have employment agreements with Wenhua Guo, Stephen
C. Park, Ronglin Qiao and Lixin Wang, which are on
substantially similar terms. The initial term of the agreements
for Mr. Guo, Mr. Qiao and Mr. Wang is two years.
The term of Mr. Park’s employment agreement is for
four years. Each agreement renews annually unless the employment
is terminated by either party to the agreement upon
30 days’ prior written notice in accordance with our
notice policies in effect at that time. We may terminate the
executive officer’s employment immediately if he fails to
substantially perform his duties, engages in dishonest or
fraudulent conduct or breaches his confidentiality agreement
with us. If we terminate Mr. Park’s employment during
the initial term without cause, we must pay him six months of
his current monthly salary, provided he complies with the terms
of his confidentiality agreement.
In addition, each executive officer is subject to a covenant not
to compete that survives for at least 12 months following
termination of his employment. During this period, the executive
officer may not carry on any business or activity in China that
is competitive with our business, solicit or influence a client
to purchase products or services from an entity that competes
with us, or solicit or influence an employee or consultant to
become an employee or consultant of any of our competitors.
Pursuant to confidentiality agreements entered into
simultaneously with each employment agreement, each executive
officer agrees to hold confidential, both during and subsequent
to his employment with us, all proprietary information,
technical data, and trade secrets or know-how obtained from us.
Each executive officer assigns to us all right, title and
interest in any invention developed or conceived during his
employment with us.
Compensation
In 2008, we paid an aggregate of RMB1.2 million
($0.2 million) in cash compensation to our executive
officers and directors. We paid an aggregate of
RMB0.1 million ($20,739) in 2008 for the pension and other
social insurance contributions for our executives officers. To
date, we have not granted our
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executive officers or directors any non-cash compensation.
However, pursuant to our amended and restated employment
agreement with Stephen C. Park, our chief financial officer, on
June 24, 2009, we granted him an option to purchase up to
300,000 ordinary shares at the initial public offering price.
One quarter of these options vested on June 24, 2009, with
the remainder of the options vesting ratably on a monthly basis
through June 24, 2012. These options will cease to vest if
Mr. Park is terminated as an employee for any reason.
Directors who are not employees or who are not designated by
GEEMF III Holdings MU receive annual fees of approximately
$25,000 and fees of $1,500 for each board meeting attended.
Directors who are our employees or are designated by
GEEMF III Holdings MU receive no fees for their services on
the board of directors. All directors are entitled to
reimbursement for their reasonable out-of-pocket travel
expenditures. We are currently evaluating equity grants to be
made to our outside directors on or prior to year-end. No grant
amounts have been determined at the date of this prospectus.
2008
Omnibus Incentive Plan
A description of the provisions of our 2008 Omnibus Incentive
Plan is set forth below. This summary is qualified in its
entirety by the detailed provisions of the 2008 Omnibus
Incentive Plan, which is included as an exhibit to the
registration statement that includes this prospectus.
Our board of directors and our shareholders approved and adopted
the 2008 Omnibus Incentive Plan, reserving 2,105,262 ordinary
shares for future issuances thereunder on September 19,
2008 and September 29, 2008, respectively. The purpose of
the 2008 Omnibus Incentive Plan is to attract and to encourage
the continued employment and service of, and maximum efforts by,
our officers, key employees and other key individuals by
offering those persons an opportunity to acquire or increase a
direct proprietary interest in our operations and future success.
On or prior to the completion of this offering, we will grant
1,052,631 fully vested ordinary shares to certain employees,
including members of our executive management team, but
excluding our chief executive officer and chief financial
officer, for no consideration, other than par value, which will
be deemed paid by services already rendered to us.
Administration
The 2008 Omnibus Incentive Plan is administered by the
compensation committee. Subject to the terms of the 2008 Omnibus
Incentive Plan, the compensation committee may select
participants to receive awards, determine the types of awards
and terms and conditions of awards, and interpret provisions of
the 2008 Omnibus Incentive Plan.
The ordinary shares issued or to be issued under the 2008
Omnibus Incentive Plan consist of authorized but unissued
shares. If any ordinary shares covered by an award are not
purchased or are forfeited, or if an award otherwise terminates
without delivery of any ordinary shares, then the number of
ordinary shares counted against the aggregate number of ordinary
shares available under the plan with respect to the award will,
to the extent of any such forfeiture or termination, again be
available for making awards under the 2008 Omnibus Incentive
Plan.
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Eligibility
Awards may be made under the 2008 Omnibus Incentive Plan to our
employees, officers, directors, consultants or advisers or to
any of our affiliates, and to any other individual whose
participation in the 2008 Omnibus Incentive Plan is determined
to be in our best interests by our board of directors.
Amendment
or Termination of the Plan
Our board of directors may terminate or amend the 2008 Omnibus
Incentive Plan at any time and for any reason. No amendment,
however, may adversely impair the rights of grantees with
respect to outstanding awards. Further, unless terminated
earlier, the 2008 Omnibus Incentive Plan shall terminate on
September 19, 2018. Amendments will be submitted for
shareholder approval to the extent required by applicable stock
exchange listing requirements or other applicable laws.
Options
The 2008 Omnibus Incentive Plan permits the granting of options
to purchase ordinary shares intended to qualify as incentive
share options under the Internal Revenue Code and share options
that do not qualify as incentive share options, or non-qualified
share options.
The exercise price of each share option may not be less than
100% of the fair market value of our ADSs representing ordinary
shares on the date of grant. In the case of certain 10%
shareholders who receive incentive share options, the exercise
price may not be less than 110% of the fair market value of our
ADSs representing ordinary shares on the date of grant. An
exception to these requirements is made for options that we
grant in substitution for options held by employees of companies
that we acquire. In such a case the exercise price is adjusted
to preserve the economic value of the employee’s share
option from his or her former employer.
The term of each share option is fixed by the compensation
committee and may not exceed ten years from the date of grant.
The compensation committee determines at what time or times each
option may be exercised and the period of time, if any, after
retirement, death, disability or termination of employment
during which options may be exercised.
Options may be made exercisable in installments. The award
agreement provides the vesting of the options. Exercisability of
options may be accelerated by the compensation committee.
In general, an optionee may pay the exercise price of an option
by (1) cash or check (in U.S. dollars or Renminbi or
other local currency as approved by the compensation committee,
(2) ordinary shares held for such period of time as may be
required by the compensation committee, (3) delivery of a
notice of a market order with a broker with respect to ordinary
shares then issuable upon exercise of an option, and that the
broker has been directed to pay us a sufficient portion of net
proceeds of the sale in satisfaction of the exercise price,
provided that payment of such proceeds is then made to us upon
settlement of such sale, (4) other property acceptable to
the compensation committee with a fair market value equal to the
exercise price, (5) cashless exercise or (6) any
combination of the foregoing.
Share options granted under the 2008 Omnibus Incentive Plan may
not be sold, transferred, pledged, or assigned other than by
will or under applicable laws of descent and distribution.
However, we may permit limited transfers of non-qualified
options for the benefit of immediate family members of grantees
to help with estate planning concerns or pursuant to a domestic
relations order in settlement of marital property rights.
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Other
Awards
The compensation committee may also award under the 2008 Omnibus
Incentive Plan:
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ordinary shares subject to restrictions;
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deferred ordinary shares, credited as deferred ordinary share
units, but ultimately payable in the form of unrestricted
ordinary shares in accordance with the terms of the grant or
with the participant’s deferral election;
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ordinary share units subject to restrictions;
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unrestricted ordinary shares, which are ordinary shares issued
at no cost or for a purchase price determined by the
compensation committee which are free from any restrictions
under the 2008 Omnibus Incentive Plan;
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dividend equivalent rights entitling the grantee to receive
credits for dividends that would be paid if the grantee had held
a specified number of ordinary shares; or
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a right to receive a number of ordinary shares or, in the
discretion of the compensation committee, an amount in cash or a
combination of ordinary shares and cash, based on the increase
in the fair market value of the ADSs representing ordinary
shares underlying the right during a stated period specified by
the compensation committee.
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Effect
of Certain Corporate Transactions
Certain change of control transactions involving us may cause
awards granted under the 2008 Omnibus Incentive Plan to vest,
unless the awards are continued or substituted for by the
surviving company in connection with the corporate transaction.
Unless otherwise provided in the appropriate option agreement on
the date of grant or provided by our board of directors
thereafter with the consent of the grantee, options granted
under the 2008 Omnibus Incentive Plan become exercisable in full
following (1) a dissolution of our company or a merger,
consolidation or reorganization of our company with one or more
other entities in which we are not the surviving entity,
(2) a sale of substantially all of our assets to another
person or entity, or (3) any transaction (including without
limitation a merger or reorganization in which we are the
surviving entity) which results in any person or entity owning
50% or more of the combined voting power of all classes of our
shares.
Adjustments
for Dividends and Similar Events
The compensation committee will make appropriate adjustments in
outstanding awards and the number of ordinary shares available
for issuance under the 2008 Omnibus Incentive Plan, including
the individual limitations on awards, to reflect ordinary share
dividends, stock splits and other similar events.
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PRINCIPAL
SHAREHOLDERS
The table presented below shows information, as of the date of
this prospectus, with respect to the beneficial ownership of our
ordinary shares by:
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each person known to us to own beneficially more than 5% of our
ordinary shares; and
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each of our directors and executive officers who beneficially
own our ordinary shares.
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Beneficial ownership is determined in accordance with the rules
of the Securities and Exchange Commission and includes voting or
investment power with respect to the securities. Except as
indicated below, and subject to applicable community property
laws, the persons named in the table have sole voting and
investment power with respect to all ordinary shares shown as
beneficially owned by them. A shareholder is also deemed to be,
as of any date, the beneficial owner of all securities that such
shareholder has the right to acquire within 60 days after
that date through (1) the exercise of any option, warrant
or right, (2) the conversion of a security, (3) the
power to revoke a trust, discretionary account or similar
arrangement, or (4) the automatic termination of a trust,
discretionary account or similar arrangement.
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Ordinary Shares
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Beneficially
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Shares
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Owned Prior to
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Beneficially Owned After
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this Offering
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this
Offering(1)
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Number
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%(2)
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Number
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%
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Directors and Executive Officers
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Wenhua
Guo(3)
No. 3 Jinyuan Road
Daxing Industrial Development Zone
Beijing 102600, China
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24,000,000
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77.3
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24,000,000
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57.1
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Stephen C. Park
No. 3 Jinyuan Road
Daxing Industrial Development Zone
Beijing 102600, China
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75,000
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(4)
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*
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(4)
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81,250
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*
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All directors and executive officers as a group
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24,075,000
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77.3
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24,081,250
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57.1
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5% Shareholders
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GEEMF III Holdings
MU(3)
International Financial Services Limited
IFS Court
Twenty Eight, Cybercity
Ebene, Mauritius
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6,000,000
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19.3
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6,000,000
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14.3
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(1) |
Assumes that the underwriters do not exercise their
over-allotment option. The underwriters may choose to exercise
the over-allotment options in full, in part or not at all.
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(2) |
Percentage of beneficial ownership of each listed person prior
to this offering is based on 31,052,631 ordinary shares
outstanding as of the date of this prospectus, including
1,052,631 fully vested ordinary shares which will be issued to
certain employees, including members of our executive management
team, but excluding our chief executive officer and chief
financial officer, on or prior to the completion of this
offering under our 2008 Omnibus Incentive Plan, as well as
ordinary shares underlying options exercisable by such person
within 60 days of the date of this prospectus. Percentage
of beneficial ownership of each listed person after this
offering is based on 42,052,631 ordinary shares outstanding
immediately after the closing of this offering and the ordinary
shares underlying options exercisable by such person within
60 days of the date of this prospectus.
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131
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(3)
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Mr. Guo, our chairman and chief executive officer, is the
sole owner of our shareholder Duoyuan Investments Limited, a
British Virgin Islands company, which owns
24,000,000 shares of our ordinary shares. Duoyuan
Investments Limited owned 10,000,000 ordinary shares (or
30,000,000 ordinary shares post a 3 for 1 share split
implemented prior to the completion of this offering) until
February 5, 2008, at which time it sold 2,000,000 ordinary
shares (or 6,000,000 ordinary shares post a 3 for 1 share split
implemented prior to the completion of this offering) to GEEMF
III Holdings MU, a private company limited by shares organized
under the laws of the Republic of Mauritius, an affiliate of
Global Environment Fund. The Investment Committee of
GEEMF III Holdings MU, comprised of H. Jeffrey
Leonard, Bruce H. MacLeod and Wendell W. Robinson,
holds voting and investment control over the ordinary shares
held by GEEMF III Holdings MU.
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(4)
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On June 24, 2009, we granted Stephen C. Park, our chief
financial officer, an option to purchase up to 300,000 ordinary
shares at the initial public offering price. One quarter of
these options vested on June 24, 2009, with the remainder
of the options vesting ratably on a monthly basis through
June 24, 2012. As of the date of this prospectus, he is
deemed to be the beneficial owner of 81,250 shares.
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As of the date of this prospectus, none of our ordinary shares
are held by record holders in the United States.
None of our existing shareholders have voting rights that will
differ from the voting rights of other shareholders after the
closing of this offering.
132
RELATED
PARTY TRANSACTIONS
Real
Property Related Transactions
Prior to the sale transaction described below, our subsidiary,
Duoyuan Beijing, owned an office building located at No. 3
Jinyuan Road, Daxing Industrial Development Area, Beijing,
China, with 15,400 square meters of building area and
related land-use-rights with respect to approximately
7,230 square meters of land area.
Duoyuan Beijing had leased since December 25, 2002
approximately 3,000 square meters of office space located
at No. 3 Jinyuan Road to Duoyuan Digital Printing
Technology Industries (China) Co. Ltd., or Press China, an
entity controlled by Wenhua Guo, our chairman and chief
executive officer. The annual lease payments totaled
RMB1.1 million in 2006, 2007 and 2008, respectively. This
lease agreement was renewed on December 25, 2007 for a term
of one year ending on December 31, 2008. On June 27,
2008, Duoyuan Beijing and Press China agreed to amend this lease
agreement to reflect a new termination date of June 30,
2008.
On August 3, 2007, Duoyuan Beijing agreed to sell to
Duoyuan Information Terminal Manufacture (Langfang) Co., Ltd.,
or Langfang Terminal, the building and related land-use-rights
to No. 3 Jinyuan Road for RMB75.7 million. Langfang
Terminal is controlled by Wenhua Guo, our chairman and chief
executive officer. Under the related agreement and its amendment
dated December 29, 2007, the purchase price was payable
within six months after the execution of the amendment. On
June 18, 2008, Langfang Terminal received title to the
property. We entered into a lease agreement with Langfang
Terminal, effective July 1, 2008, to lease back portions of
the same office space for RMB93,679 each month. The lease is set
to expire on December 31, 2009.
On December 25, 2006, our subsidiary, Duoyuan Langfang,
agreed to acquire from Langfang Terminal a manufacturing
facility located in the Langfang Economic & Technical
Development Zone with a building area of approximately
13,930 square meters and related land-use-rights with
respect to approximately 33,330 square meters. The purchase
price for the manufacturing facility was RMB75.6 million,
of which RMB44.5 million was paid by Duoyuan Langfang.
Pursuant to the terms of the related agreement, Duoyuan Langfang
was entitled to use the Langfang manufacturing facility
beginning December 25, 2006. On June 19, 2008, Duoyuan
Langfang received title to the property.
As a result of the above sales transactions, which were executed
in December 2006, August 2007 and December 2007, respectively,
and became effective upon approval of the local government
authorities in June 2008, we agreed with Langfang Terminal to
swap the office building and related land-use-rights at
No. 3 Jinyuan Road (owned through Duoyuan Beijing) for the
manufacturing facility located in the Langfang
Economic & Technical Development Zone (being acquired
by Duoyuan Langfang) as the purchase prices determined based on
independent appraisals of RMB75.7 million and
RMB75.6 million, respectively, were nearly identical.
Langfang Terminal paid the RMB100,000 difference to Duoyuan
Beijing. Langfang Terminal has returned the RMB44.8 million
deposited by Duoyuan Langfang in June 2008. See Notes 8 and
17 to our Notes to Combined and Consolidated Financial
Statements December 31, 2006, 2007 and 2008 and Note 6
to our Notes to Unaudited Consolidated Financial Statements
March 31, 2008 and 2009 included elsewhere in this
prospectus.
Spin-off
of Duoyuan Huanan
In November 2002, Duoyuan Beijing and Duoyuan Langfang invested
RMB1.0 million each to establish Huanan Duoyuan Water
Supply Co., Ltd., or Duoyuan Huanan. Both companies thereby held
a 50%
133
equity interest in Duoyuan Huanan. On August 12, 2007, we
entered into an agreement to sell substantially all of the
business activities of Duoyuan Huanan, effective July 1,
2007, to Duoyuan Asian Water Inc., a British Virgin Islands
company wholly owned by Wenhua Guo, our chairman and chief
executive officer, for RMB12.5 million. See Note 15 to
our Notes to Combined and Consolidated Financial Statements
December 31, 2006, 2007 and 2008 included elsewhere in this
prospectus.
Intellectual
Property Transfer
In anticipation of this offering, on December 1, 2007, we
entered into four separate agreements to transfer and assign all
of our rights, title and interest in our trademarks to Duoyuan
Investments Limited, our majority shareholder, without monetary
consideration. We entered into these transfer agreements with
our then sole shareholder to reflect and affirm the original
intent and understanding of the parties that not just we, but
any affiliate and subsidiary of Duoyuan Investments Limited,
would have the right to use these trademarks. These trademarks
were transferred to allow Duoyuan Investments Limited, as the
sole owner and holder of the trademarks, to have the right to
license these trademarks to its affiliates and subsidiaries. We
received final regulatory approval for the transfer of these
trademarks on July 21, 2008 and August 21, 2008,
respectively. On September 17, 2008 and May 27, 2009,
respectively, Duoyuan Investments Limited granted us an
exclusive, royalty-free perpetual license to use these
trademarks for our business.
Loans to
Related Parties
Accounts
Receivable
Both Duoyuan Beijing and Duoyuan Langfang have made certain
loans to Duoyuan Digital Technology Institute (referred to in
this prospectus as Beijing Huiyuan) for the purchase of raw
materials by Beijing Huiyuan. Wenhua Guo is the beneficial owner
of 100% of the equity interest in Beijing Huiyuan. There are no
interest rates or terms of payment associated with these loans
and the loans were not documented. The loans were made available
to the borrower through direct transfers between the
companies’ accounts and were made with the approval of the
then chief financial officer of Duoyuan Beijing and Duoyuan
Langfang.
With respect to the loans made by Duoyuan Langfang to Beijing
Huiyuan, the largest amount outstanding under these loans was
approximately RMB8.9 million and RMB8.8 million during
2005 and 2006, respectively. Beijing Huiyuan paid the total
outstanding balance of RMB8.8 million to Duoyuan Langfang
in July 2007.
With respect to the loans made by Duoyuan Beijing to Beijing
Huiyuan, the largest amount outstanding under these loans was
approximately RMB32.4 million during 2005, 2006 and 2007.
As of December 31, 2007, the amount outstanding under these
loans was approximately RMB27.4 million. Pursuant to a
repayment agreement dated December 10, 2007 between Duoyuan
Beijing, Beijing Huiyuan and Wenhua Guo, Mr. Guo assumed
personal responsibility for repayment in full of Beijing
Huiyuan’s outstanding balance payable to Duoyuan Beijing.
Mr. Guo’s obligation to pay the outstanding balance
was secured by a pledge of his shares of Asian Financial, Inc.,
a public company. Similarly, on December 12, 2007, Mr. Guo
entered into a loan repayment agreement with Duoyuan Huanan and
Duoyuan Beijing to repay Duoyuan Huanan’s obligation to
Duoyuan Beijing that at the time was RMB17.0 million. This
obligation was also collateralized by a pledge of Mr. Guo’s
personal shares in Asian Financial Inc. In December 2007,
RMB0.6 million in interest was paid towards this
obligation. These obligations were settled by March 31,
2008. We do not intend to make any similar loans to Mr. Guo
in the future. See Note 8 to our Notes to Combined and
Consolidated Financial Statements December 31, 2006, 2007
and 2008 included elsewhere in this prospectus.
134
Director
Loans
Duoyuan Beijing made certain loans to its director Wenhua Guo
starting in 2004 and its directors Lixin Wang and Baiyun Sun
starting in 2005 for expenses incurred in connection with
business-related travel. There were no interest rates or terms
of payment associated with these loans and they typically were
repaid within a year or offset by reimbursements payable to
directors and executive officers in the ordinary course of
business. Mr. Wang’s loan was repaid in August 2007
and Mr. Guo’s and Ms. Sun’s loans were
repaid in October 2007. In the future, our audit committee will
review all transactions with any officer, director or 10%
shareholder. The following table sets forth the amount
outstanding under these loans as of the dates set forth below:
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December 31,
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2005
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2006
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RMB
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RMB
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Wenhua Guo
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75,800
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25,800
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Lixin Wang
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10,000
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4,500
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Baiyun Sun
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4,000
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46,000
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There were no outstanding director loans as of December 31,
2007, December 31, 2008 or March 31, 2009.
Employment
Agreements
See “Management—Employment Agreements” for a
detailed description of the terms of our employment agreement
with our named executive officers.
Registration
Rights
After this offering, assuming no exercise by the underwriters of
their over-allotment option, the holders of an aggregate of
30,000,000 ordinary shares will be entitled to registration
rights under a written agreement between us and such holders.
This agreement requires us, upon request of the holders, from
time to time to file registration statements to facilitate
registered sales by those holders of ordinary shares in the
United States. In addition, the agreement provides that these
holders may require us to include their ordinary shares in
registration statements filed by us relating to securities
offerings of ordinary shares in the United States. We are
required to indemnify the holders and any underwriters in
connection with sales of ordinary shares pursuant to any of
these registration statements and we are required to bear all
expenses in connection with these registrations. See
“Description of Share Capital—Registration
Rights” for a more detailed description of these
registration rights. These holders have agreed that, without the
prior written consent of Piper Jaffray on behalf of the
underwriters, they will not, during the period ending
180 days after the date of this prospectus, exercise any of
these registration rights. See “Shares Eligible for Future
Sale—Lock-up
Agreements.”
Shareholders’
Agreements
We are a party to certain agreements with our shareholders prior
to this offering. The agreements:
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•
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provide for restrictions on transfer of ordinary shares prior to
this offering, including a right of first refusal and right of
co-sale to all other shareholders for any ordinary shares that a
shareholder intends to transfer;
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135
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•
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grant the shareholders certain drag-along rights in a share sale
of the company;
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•
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grant registration rights to all shareholders prior to this
offering;
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•
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grant the shareholders certain rights to information with
respect to our company;
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•
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grant certain shareholders the right to nominate a new chief
executive officer;
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•
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require a certain shareholder to provide debt financing to the
company; and
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•
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require the shareholders to vote their shares so as to elect
designees of certain of the shareholders to our board of
directors.
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All of the provisions of these agreements, other than the
provisions granting registration rights to our shareholders
prior to this offering, terminate upon completion of this
offering. See “Description of Share
Capital—Registration Rights” for a detailed
description of these registration rights that will continue
after the completion of this offering.
136
DESCRIPTION
OF SHARE CAPITAL
General
We are a British Virgin Islands company incorporated with
limited liability and our affairs are governed by the provisions
of our memorandum and articles of association, as amended and
restated from time to time, and by the provisions of applicable
British Virgin Islands law.
Our fourth amended and restated memorandum and articles of
association, which became effective on June 2, 2009,
authorize the issuance of up to 1,500,000,000 shares of a
single class, each with a par value of $0.000033. As of the date
of this prospectus, 30,000,000 ordinary shares were issued,
fully paid and outstanding. On or prior to the completion of
this offering, we will issue 1,052,631 fully vested ordinary
shares to certain employees, including members of our executive
management team, but excluding our chief executive officer and
chief financial officer, under our 2008 Omnibus Incentive Plan.
Upon the completion of this offering, we will have 42,052,631
ordinary shares issued and outstanding.
Our ADSs, each representing two of our ordinary shares, have
been approved for listing on the New York Stock Exchange under
the symbol “DGW”. Our ordinary shares will not be
listed on any exchange or quoted for trading on any
over-the-counter trading system.
Initial settlement of our ADSs will take place on the closing
date of this offering through The Depository Trust Company,
or DTC, in accordance with its customary settlement procedures
for equity securities. See “Description of American
Depositary Shares” below for a description of the rights of
ADS holders. Each person owning a beneficial interest in our
ADSs held through DTC must rely on the procedures thereof and on
institutions that have accounts therewith to exercise any rights
of a holder of our ADSs. Persons wishing to obtain certificates
for their ADSs must make arrangements with DTC.
The following is a summary of the material provisions of our
ordinary shares and fourth amended and restated memorandum and
articles of association.
Ordinary
Shares
As of the date of this prospectus, 24,000,000 of our ordinary
shares are owned by Duoyuan Investments Limited, a British
Virgin Islands company wholly owned by Wenhua Guo, our chairman
and chief executive officer. All of our outstanding ordinary
shares are, and the ordinary shares to be issued immediately
prior to this offering will be, fully paid and nonassessable.
Holders of our ordinary shares who are nonresidents of the
British Virgin Islands may freely hold and vote their shares.
The following summarizes the rights of holders of our ordinary
shares:
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•
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each holder of ordinary shares is entitled to one vote per share
on all matters to be voted on by shareholders generally,
including the election of directors;
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•
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there are no cumulative voting rights;
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•
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the holders of our ordinary shares are entitled to dividends and
other distributions as may be declared from time to time by our
board of directors out of funds legally available for that
purpose, if any;
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137
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•
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upon our liquidation, dissolution or winding up, the holders of
ordinary shares will be entitled to share ratably in the
distribution of all of our assets remaining available for
distribution after satisfaction of all our liabilities and the
payment of the liquidation preference of any outstanding
preference shares; and
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•
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the holders of ordinary shares have no preemptive or other
subscription rights to purchase shares of our stock, nor are
they entitled to the benefits of any redemption or sinking fund
provisions.
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Limitation
on Liability and Indemnification Matters
Under British Virgin Islands law, each of our directors and
officers, in performing his or her functions, is required to act
honestly and in good faith with a view to our best interests and
exercise the care, diligence and skill that a reasonably prudent
person would exercise in comparable circumstances. Our fourth
amended and restated memorandum and articles of association
provide that, to the fullest extent permitted by British Virgin
Islands law or any other applicable laws, our directors will not
be personally liable to us or our shareholders for any acts or
omissions in the performance of their duties. Such limitation of
liability does not affect the availability of equitable remedies
such as injunctive relief or rescission. These provisions will
not limit the liability of directors under United States federal
securities laws.
We may indemnify any of our directors or anyone serving at our
request as a director of another entity against all expenses,
including legal fees, and against all judgments, fines and
amounts paid in settlement and reasonably incurred in connection
with legal, administrative or investigative proceedings. We may
only indemnify a director if he or she acted honestly and in
good faith with the view to our best interests and, in the case
of criminal proceedings, the director had no reasonable cause to
believe that his or her conduct was unlawful. The decision of
our board of directors as to whether the director acted honestly
and in good faith with a view to our best interests and as to
whether the director had no reasonable cause to believe that his
or her conduct was unlawful, is in the absence of fraud
sufficient for the purposes of indemnification, unless a
question of law is involved. The termination of any proceedings
by any judgment, order, settlement, conviction or the entry of
no plea does not, by itself, create a presumption that a
director did not act honestly and in good faith and with a view
to our best interests or that the director had reasonable cause
to believe that his or her conduct was unlawful. If a director
to be indemnified has been successful in defense of any
proceedings referred to above, the director is entitled to be
indemnified against all expenses, including legal fees, and
against all judgments, fines and amounts paid in settlement and
reasonably incurred by the director or officer in connection
with the proceedings.
We may purchase and maintain insurance in relation to any of our
directors or officers against any liability asserted against the
directors or officers and incurred by the directors or officers
in that capacity, whether or not we have or would have had the
power to indemnify the directors or officers against the
liability as provided in our fourth amended and restated
memorandum and articles of association.
Insofar as indemnification for liabilities arising under the
Securities Act may be permitted for our directors or officers
under the foregoing provisions, we have been informed that in
the opinion of the Securities and Exchange Commission, such
indemnification is against public policy as expressed in the
Securities Act and is therefore unenforceable as a matter of
United States law.
Differences
in Corporate Law
We were incorporated under, and are governed by, the laws of the
British Virgin Islands. The corporate statutes of the State of
Delaware and the British Virgin Islands are similar, and the
flexibility available under British Virgin Islands law has
enabled us to adopt memorandum and articles of association that
will provide shareholders with rights that do not vary in any
material respect from those they enjoyed
138
under the Delaware General Corporation Law, or Delaware
corporate law. Set forth below is a summary of some of the
differences between provisions of the BVI Act applicable to us
and the laws application to companies incorporated in Delaware
and their shareholders.
Director’s
Fiduciary Duties
Under Delaware corporate law, a director of a Delaware
corporation has a fiduciary duty to the corporation and its
stockholders. This duty has two components: the duty of care and
the duty of loyalty. The duty of care requires that a director
act in good faith, with the care that an ordinarily prudent
person would exercise under similar circumstances. Under this
duty, a director must inform himself of, and disclose to
stockholders, all material information reasonably available
regarding a significant transaction. The duty of loyalty
requires that a director act in a manner he reasonably believes
to be in the best interests of the corporation. He must not use
his corporate position for personal gain or advantage. This duty
prohibits self-dealing by a director and mandates that the best
interest of the corporation and its stockholders take precedence
over any interest possessed by a director, officer or
controlling stockholder and not shared by the stockholders
generally. In general, actions of a director are presumed to
have been made on an informed basis, in good faith and in the
honest belief that the action taken was in the best interests of
the corporation. However, this presumption may be rebutted by
evidence of a breach of one of the fiduciary duties. Should such
evidence be presented concerning a transaction by a director, a
director must prove the procedural fairness of the transaction,
and that the transaction was of fair value to the corporation.
British Virgin Islands law provides that every director of the
company in exercising his powers or performing his duties, shall
act honestly and in good faith and in what the director believes
to be in the best interests of the company. Additionally, the
director shall exercise the care, diligence, and skill that a
reasonable director would exercise in the same circumstances
taking into account the nature of the company, the nature of the
decision and the position of the director and his
responsibilities. In addition, British Virgin Islands law
provides that a director shall exercise his powers as a director
for a proper purpose and shall not act, or agree to the company
acting, in a manner that contravenes British Virgin Islands law
or the memorandum or articles of association of the company.
Amendment
of Governing Documents
Under Delaware corporate law, with very limited exceptions, a
vote of the stockholders is required to amend the certificate of
incorporation. Under British Virgin Islands law, our board of
directors can have broad authority to amend our memorandum and
articles of association. Under our fourth amended and restated
memorandum and articles of association, our board of directors
may amend our memorandum and articles of association by a
resolution of directors so long as the amendment does not:
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•
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restrict the rights of the shareholders to amend the memorandum
and articles of association;
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•
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change the percentage of shareholders required to pass a
resolution of shareholders to amend the memorandum and articles
of association;
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•
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amend the memorandum and articles of association in
circumstances where the memorandum and articles of association
cannot be amended by the shareholders; or
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•
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amend the provisions of the articles of association pertaining
to “rights attaching to shares,” “rights not
varied by the issue of the shares pari passu,”
“variation of rights” and “amendment of
memorandum and articles”.
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139
Written
Consent of Directors
Under Delaware corporate law, directors may act by written
consent only on the basis of a unanimous vote. Under British
Virgin Islands law, directors’ consents need only a
majority of directors signing to take effect.
Written
Consent of Shareholders
Under Delaware corporate law, unless otherwise provided in the
certificate of incorporation, any action to be taken at any
annual or special meeting of stockholders of a corporation, may
be taken by written consent of the holders of outstanding stock
having not less than the minimum number of votes that would be
necessary to take such action at a meeting. As permitted by
British Virgin Islands law, shareholders’ consents need
only a majority of shareholders signing to take effect. Our
fourth amended and restated memorandum and articles of
association provide that shareholders may approve corporate
matters by way of a resolution consented to in writing by a
majority of shareholders entitled to vote thereon.
Shareholder
Proposals
Under Delaware corporate law, a shareholder has the right to put
any proposal before the annual meeting of shareholders, provided
it complies with the notice provisions in the governing
documents. A special meeting may be called by the board of
directors or any other person authorized to do so in the
governing documents, but shareholders may be precluded from
calling special meetings. British Virgin Islands law and our
fourth amended and restated memorandum and articles of
association provide that our directors shall call a meeting of
the shareholders if requested in writing to do so by
shareholders entitled to exercise at least 30% of the voting
rights in respect of the matter for which the meeting is
requested.
Sale
of Assets
Under Delaware corporate law, a vote of the stockholders is
required to approve the sale of assets only when all or
substantially all assets are being sold. In the British Virgin
Islands, shareholder approval is required when more than 50% of
the company’s assets by value are being sold.
Dissolution;
Winding Up
Under Delaware corporate law, unless the board of directors
approves the proposal to dissolve, dissolution must be approved
by shareholders holding 100% of the total voting power of the
corporation. Only if the dissolution is initiated by the board
of directors may it be approved by a simple majority of the
corporation’s outstanding shares. Delaware corporate law
allows a Delaware corporation to include in its certificate of
incorporation a supermajority voting requirement in connection
with dissolutions initiated by the board. As permitted by
British Virgin Islands law and our fourth amended and restated
memorandum and articles of association, we may be voluntarily
liquidated under Part XII of the BVI Act if we have no
liabilities and we are able to pay our debts as they fall due by
resolution of directors and resolution of shareholders.
Redemption
of Shares
Under Delaware corporate law, any stock may be made subject to
redemption by the corporation at its option or at the option of
the holders of such stock provided there remains outstanding
shares with full voting power. Such stock may be made redeemable
for cash, property or rights, as specified in the
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certificate of incorporation or in the resolution of the board
of directors providing for the issue of such stock. As permitted
by British Virgin Islands law, and our fourth amended and
restated memorandum and articles of association, shares may be
repurchased, redeemed or otherwise acquired by us. Our directors
must determine that immediately following the redemption or
repurchase whether we will be able to satisfy our debts as they
fall due and the value of our assets exceeds our liabilities.
Variation
of Rights of Shares
Under Delaware corporate law, a corporation may vary the rights
of a class of shares with the approval of a majority of the
outstanding shares of such class, unless the certificate of
incorporation provides otherwise. As permitted by British Virgin
Islands law, and our fourth amended and restated memorandum and
articles of association, if our share capital is divided into
more than one class of shares, we may vary the rights attached
to any class only with the consent in writing of holders of not
less than three-fourths of the issued shares of that class and
holders of not less than three-fourths of the issued shares of
any other class of shares which may be affected by the variation.
Removal
of Directors
Under Delaware corporate law, a director of a corporation with a
classified board may be removed only for cause with the approval
of a majority of the outstanding shares entitled to vote, unless
the certificate provides otherwise. As permitted by British
Virgin Islands law and our fourth amended and restated
memorandum and articles of association, directors may be removed
by resolution of directors or resolution of shareholders.
Mergers
Under the BVI Act, two or more companies may merge or
consolidate in accordance with the statutory provisions. A
merger means the merging of two or more constituent companies
into one of the constituent companies, and a consolidation means
the uniting of two or more constituent companies into a new
company. In order to merger or consolidate, the directors of
each constituent company must approve a written plan of merger
or consolidation which must be authorised by a resolution of
shareholders.
Shareholders not otherwise entitled to vote on the merger or
consolidation may still acquire the right to vote if the plan of
merger or consolidation contains any provision which, if
proposed as an amendment to the memorandum or articles of
association, would entitle them to vote as a class or series on
the proposed amendment. In any event, all shareholders must be
given a copy of the plan of merger or consolidation irrespective
of whether they are entitled to vote at the meeting or consent
to the written resolution to approve the plan of merger or
consolidation.
Inspection
of Books and Records
Under Delaware corporate law, any shareholder of a corporation
may for any proper purpose inspect or make copies of the
corporation’s stock ledger, list of shareholders and other
books and records. Holders of our shares have no general right
under British Virgin Islands law to inspect or obtain copies of
our list of shareholders or our corporate records. However, we
will provide holders of our shares with annual audited financial
statements. See “Where You Can Find Additional
Information.”
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Conflict
of Interest
The BVI Act provides that a director shall, after becoming aware
that he is interested in a transaction entered into or to be
entered into by the company, disclose that interest to the board
of directors of the company. The failure of a director to
disclose that interest does not affect the validity of a
transaction entered into by the director or the company, so long
as the director’s interest was disclosed to the board prior
to the company’s entry into the transaction or was not
required to be disclosed (for example where the transaction is
between the company and the director himself or is otherwise in
the ordinary course of business and on usual terms and
conditions). As permitted by British Virgin Islands law and our
fourth amended and restated memorandum and articles of
association, a director interested in a particular transaction
may vote on it, attend meetings at which it is considered, and
sign documents on our behalf which relate to the transaction.
Transactions
with Interested Shareholders
Delaware corporate law contains a business combination statute
applicable to Delaware public corporations whereby, unless the
corporation has specifically elected not to be governed by such
statute by amendment to its certificate of incorporation, it is
prohibited from engaging in certain business combinations with
an “interested shareholder” for three years following
the date that such person becomes an interested shareholder. An
interested shareholder generally is a person or group who or
that owns or owned 15% or more of the target’s outstanding
voting stock within the past three years. This has the effect of
limiting the ability of a potential acquirer to make a
two-tiered bid for the target in which all shareholders would
not be treated equally. The statute does not apply if, among
other things, prior to the date on which such shareholder
becomes an interested shareholder, the board of directors
approves either the business combination or the transaction that
resulted in the person becoming an interested shareholder. This
encourages any potential acquirer of a Delaware public
corporation to negotiate the terms of any acquisition
transaction with the target’s board of directors.
British Virgin Islands law has no comparable statute. As a
result, we cannot avail ourselves of the types of protections
afforded by the Delaware business combination statute. However,
although British Virgin Islands law does not regulate
transactions between a company and its significant shareholders,
it does provide that such transactions must be entered into bona
fide in the best interests of the company and not with the
effect of constituting a fraud on the minority shareholders.
Independent
Directors
There are no provisions under Delaware corporate law or under
the BVI Act that require a majority of our directors to be
independent.
Cumulative
Voting
Under Delaware corporate law, cumulative voting for elections of
directors is not permitted unless the company’s certificate
of incorporation specifically provides for it. Cumulative voting
potentially facilitates the representation of minority
shareholders on a board of directors since it permits the
minority shareholder to cast all the votes to which the
shareholder is entitled on a single director, which increases
the shareholder’s voting power with respect to electing
such director. There are no prohibitions to cumulative voting
under the laws of the British Virgin Islands, but our fourth
amended and restated memorandum and articles of association do
not provide for cumulative voting.
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Anti-takeover
Provisions in Our Fourth Amended and Restated Memorandum and
Articles of Association
Some provisions of our fourth amended and restated memorandum
and articles of association may discourage, delay or prevent a
change in control of our company or management that shareholders
may consider favorable, including provisions that authorize our
board of directors to issue preference shares in one or more
series and to designate the price, rights, preferences,
privileges and restrictions of such preference shares.
History
of Securities Issuances
We were incorporated on June 21, 2007 with an authorized
share capital of 50,000 ordinary shares, par value $1.00 per
share. Initially, one share was issued and outstanding and was
held by Duoyuan Investments Limited, our sole shareholder.
Duoyuan Investments Limited is wholly owned by Wenhua Guo, our
chairman and chief executive officer. On December 11, 2007,
in connection with a 10,000-for-1 share split of all of our
ordinary shares, our authorized share capital was increased to
500,000,000 ordinary shares, par value $0.0001 per share, and
Duoyuan Investments Limited’s one share was split into
10,000 ordinary shares. At that time, we also issued and
allotted 9,990,000 additional ordinary shares to Duoyuan
Investments Limited at par value $0.0001 per share. As a result,
Duoyuan Investments Limited held all of the 10,000,000 issued
and outstanding ordinary shares as of December 11, 2007. On
February 5, 2008, Duoyuan Investments Limited sold
2,000,000 shares of our ordinary shares to GEEMF III
Holdings MU, an affiliate of Global Environment Fund, for an
aggregate cash purchase price to Duoyuan Investments Limited of
$30.2 million.
In connection with a 3 for 1 share split of all of our ordinary
shares prior to the completion of this offering, our authorized
share capital increased to 1,500,000,000 ordinary shares par
value $0.000033 per share. As a result, Duoyuan Investments
Limited holds 24,000,000 shares of our ordinary shares and GEEMF
III Holdings MU holds 6,000,000 shares of our ordinary shares.
On or prior to the completion of this offering, we will grant
1,052,631 fully vested ordinary shares to certain employees,
including members of our executive management team, but
excluding our chief executive officer and chief financial
officer, for no consideration, other than par value, which will
be deemed paid by services already rendered to us, under our
2008 Omnibus Incentive Plan. See “Management’s
Discussion and Analysis of Financial Condition and Results of
Operations” for a discussion of this ordinary share
issuance to our employees.
Registration
Rights
Pursuant to an Investor Rights Agreement dated February 5,
2008, we have granted certain registration rights to holders of
our registrable securities, which include ordinary shares owned
by certain of our founder and key investor. Set forth below is a
description of the registration rights granted under the
agreement.
Demand
Registration Rights
Holders of at least 10% of registrable securities have the right
to demand that we file a registration statement covering the
offer and sale of their securities under the Securities Act
during the five years following the consummation of this
offering, subject to certain limitations. We, however, are not
obligated to effect a demand registration (1) during the
period beginning on the 60th day prior to our good faith
estimate of the filing date of, and ending on the 180th day
after the effective date of, a public offering of our securities
initiated by us; (2) if we have already effected three
demand
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registrations; or (3) if the securities to be registered
can be immediately registered on
Form F-3,
as applicable. We have the right to defer filing of a
registration statement for up to 90 days under certain
circumstances but we cannot exercise the deferral right more
than once in any 12 month period.
Form F-3
Registration Rights
When we are eligible to register our ordinary shares using
Form F-3,
holders of registrable securities then outstanding have the
right to request that we file a registration statement under
Form F-3
so long as the aggregate amount of securities to be sold under
the registration statement exceeds $1 million. We, however,
are not obligated to file a registration statement on
Form F-3
(1) during the period beginning on the 30th day prior
to our good faith estimate of the filing date of, and ending on
the 90th day after the effective date of, a public offering
of securities initiated by us, or (2) if we have already
effected two registrations on
Form F-3
within the 12 month period preceding the date of such
request. We may defer filing of a registration statement on
Form F-3
for up to 90 days under certain circumstances, but we
cannot exercise the deferral right more than once in any
12 month period.
Piggyback
Registration Rights
If we propose to file a registration statement for a public
offering of our securities other than certain excluded
registrations, we must offer holders of registrable securities
an opportunity to include in such registration all or any part
of their registrable securities. We must use our best efforts to
cause to be registered all of the registrable securities so
requested to be registered. We have the right to terminate or
withdraw any registration statement initiated by us before the
effective date of such registration statement.
Expenses
of Registration
We will pay all expenses relating to any demand, piggyback or
F-3 registration other than underwriting discounts, selling
commissions and fees and disbursements for counsel for selling
shareholders, if applicable. We are not required to pay the
expenses of a demand registration if such registration request
is subsequently withdrawn at the request of holders of at least
ten percent of the registrable securities to be registered
unless (1) a holder agrees to forfeit its right to one
demand registration or (2) such holders learned of a
material adverse change in the condition, business or prospects
of the company and promptly withdrew the demand registration
request as a result.
Indemnification
We are required to indemnify any selling holders of our
registrable securities and any underwriters engaged in
connection with sales of our ordinary shares pursuant to these
registration rights.
Lock-up
The holders of our registrable securities have agreed that,
without the prior written consent of Piper Jaffray on
behalf of the underwriters, they will not, during the period
ending 180 days after the date of this prospectus, exercise
any of these registration rights. See “Shares Eligible for
Future
Sale—Lock-up
Agreements.”
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DESCRIPTION
OF AMERICAN DEPOSITARY SHARES
American
Depositary Shares
Deutsche Bank Trust Company Americas, as depositary, will
register and deliver the ADSs. Each ADS will represent ownership
of two shares deposited with the office in Hong Kong of Deutsche
Bank AG, Hong Kong Branch, as custodian for the depositary. Each
ADS will also represent ownership of any other securities, cash
or other property which may be held by the depositary. The
depositary’s corporate trust office at which the ADSs will
be administered is located at 60 Wall Street, New York, NY
10005, USA. The principal executive office of the depositary is
located at 60 Wall Street, New York, NY 10005, USA.
The Direct Registration System, or DRS, is a system administered
by DTC pursuant to which the depositary may register the
ownership of uncertificated ADSs, which ownership shall be
evidenced by periodic statements issued by the depositary to the
ADS holders entitled thereto.
As an ADS holder, we will not treat you as one of our
shareholders and you will not have shareholder rights. British
Virgin Islands law governs shareholder rights. The depositary
will be the holder of the shares underlying your ADSs. As a
holder of ADSs, you will have ADS holder rights. A deposit
agreement among us, the depositary and you, as an ADS holder,
and the beneficial owners of ADSs sets out ADS holder rights as
well as the rights and obligations of the depositary. The laws
of the State of New York govern the deposit agreement and the
ADSs.
The following is a summary of the material provisions of the
deposit agreement. For more complete information, you should
read the entire deposit agreement and the form of American
Depositary Receipt. For directions on how to obtain copies of
those documents, see “Where You Can Find More
Information.”
Holding
the ADSs
How
will I hold my ADSs?
You may hold ADSs either (1) directly (a) by having an
American Depositary Receipt, or ADR, which is a certificate
evidencing a specific number of ADSs, registered in your name,
or (b) by holding ADSs in the DRS, or (2) indirectly
through your broker or other financial institution. If you hold
ADSs directly, you are an ADS holder. This description assumes
you hold your ADSs directly. If you hold the ADSs indirectly,
you must rely on the procedures of your broker or other
financial institution to assert the rights of ADS holders
described in this section. You should consult with your broker
or financial institution to find out what those procedures are.
Dividends
and Other Distributions
How
will you receive dividends and other distributions on the
shares?
The depositary has agreed to pay to you the cash dividends or
other distributions it or the custodian receives on shares or
other deposited securities, after deducting its fees and
expenses. You will receive these distributions in proportion to
the number of shares your ADSs represent as of the record date
(which will be as close as practicable to the record date for
our shares) set by the depositary with respect to the ADSs.
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Cash. The depositary will convert any
cash dividend or other cash distribution we pay on the shares or
any net proceeds from the sale of any shares, rights, securities
or other entitlements into U.S. dollars if it can do so on
a reasonable basis, and can transfer the U.S. dollars to
the United States. If that is not possible or lawful or if any
government approval is needed and cannot be obtained, the
deposit agreement allows the depositary to distribute the
foreign currency only to those ADR holders to whom it is
possible to do so. It will hold the foreign currency it cannot
convert for the account of the ADS holders who have not been
paid. It will not invest the foreign currency and it will not be
liable for any interest.
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Before making a distribution, any withholding taxes or other
governmental charges, together with fees and expenses of the
depositary, that must be paid will be deducted. See
“Taxation.” It will distribute only whole
U.S. dollars and cents and will round fractional cents to
the nearest whole cent. If the exchange rates fluctuate
during a time when the depositary cannot convert the foreign
currency, you may lose some or all of the value of the
distribution.
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Shares. The depositary may, upon our
timely instruction, distribute additional ADSs representing any
shares we distribute as a dividend or free distribution to the
extent reasonably practicable and permissible under law. The
depositary will only distribute whole ADSs. It will try to sell
shares which would require it to deliver a fractional ADS and
distribute the net proceeds in the same way as it does with
cash. If the depositary does not distribute additional ADSs, the
outstanding ADSs will also represent the new shares. The
depositary may sell a portion of the distributed shares
sufficient to pay its fees and expenses in connection with that
distribution.
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Elective Distributions in Cash or
Shares. If we offer holders of our shares the
option to receive dividends in either cash or shares, the
depositary, after consultation with us and having received
timely notice of such elective distribution by us, has
discretion to determine to what extent such elective
distribution will be made available to you as a holder of the
ADSs. We must first instruct the depositary to make such
elective distribution available to you and furnish it with
satisfactory evidence that it is legal to do so. The depositary
could decide it is not legal or reasonably practical to make
such elective distribution available to you, or it could decide
that it is only legal or reasonably practical to make such
elective distribution available to some but not all holders of
the ADSs. In such case, the depositary shall, on the basis of
the same determination as is made in respect of the shares for
which no election is made, distribute either cash in the same
way as it does in a cash distribution, or additional ADSs
representing shares in the same way as it does in a share
distribution. The depositary is not obligated to make available
to you a method to receive the elective dividend in shares
rather than in ADSs. There can be no assurance that you will be
given the opportunity to receive elective distributions on the
same terms and conditions as the holders of shares.
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Rights to Purchase Additional
Shares. If we offer holders of our securities
any rights to subscribe for additional shares or any other
rights, the depositary may after consultation with us and having
received timely notice of such distribution by us, make these
rights available to you. We must first instruct the depositary
to make such rights available to you and furnish the depositary
with satisfactory evidence that it is legal to do so. If the
depositary decides it is not legal and practical to make the
rights available but that it is practical to sell the rights,
the depositary will use reasonable efforts to sell the rights
and distribute the net proceeds in the same way as it does with
cash. The depositary will allow
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rights that are not distributed or sold to lapse. In that
case, you will receive no value for them.
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If the depositary makes rights available to you, it will
exercise the rights and purchase the shares on your behalf. The
depositary will then deposit the shares and deliver ADSs to you.
It will only exercise rights if you pay it the exercise price
and any other charges the rights require you to pay.
U.S. securities laws may restrict transfers and
cancellation of the ADSs represented by shares purchased upon
exercise of rights. For example, you may not be able to trade
these ADSs freely in the United States. In this case, the
depositary may deliver restricted depositary shares that have
the same terms as the ADRs described in this section except for
changes needed to put the necessary restrictions in place.
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Other Distributions. Subject to receipt
of timely notice from us with the request to make any such
distribution available to you, and provided the depositary has
determined such distribution is lawful and reasonably
practicable and feasible and in accordance with the terms of the
deposit agreement, the depositary will send to you anything else
we distribute on deposited securities by any means it thinks is
legal, fair and practical. If it cannot make the distribution in
that way, the depositary has a choice: it may decide to sell
what we distributed and distribute the net proceeds in the same
way as it does with cash; or, it may decide to hold what we
distributed, in which case ADSs will also represent the newly
distributed property. However, the depositary is not required to
distribute any securities (other than ADSs) to you unless it
receives satisfactory evidence from us that it is legal to make
that distribution. The depositary may sell a portion of the
distributed securities or property sufficient to pay its fees
and expenses in connection with that distribution.
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The depositary is not responsible if it decides that it is
unlawful or impractical to make a distribution available to any
ADS holders. We have no obligation to register ADSs, shares,
rights or other securities under the Securities Act. We also
have no obligation to take any other action to permit the
distribution of ADSs, shares, rights or anything else to ADS
holders. This means that you may not receive the distributions
we make on our shares or any value for them if it is illegal or
impractical for us to make them available to you.
Deposit,
Withdrawal and Cancellation
How
are ADSs issued?
The depositary will deliver ADSs if you or your broker deposit
shares or evidence of rights to receive shares with the
custodian. Upon payment of its fees and expenses and of any
taxes or charges, such as stamp taxes or stock transfer taxes or
fees, the depositary will register the appropriate number of
ADSs in the names you request and will deliver the ADSs to or
upon the order of the person or persons entitled thereto.
Except for shares deposited by us in connection with this
offering, no shares will be accepted for deposit during a period
of 180 days after the date of this prospectus. The 180-day
lock-up period is subject to adjustment under certain
circumstances as described in the section entitled “Shares
Eligible for Future Sale — Lock-up Agreements.”
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How do
ADS holders cancel an American Depositary Share?
You may turn in your ADSs at the depositary’s corporate
trust office or by providing appropriate instructions to your
broker. Upon payment of its fees and expenses and of any taxes
or charges, such as stamp taxes or stock transfer taxes or fees,
the depositary will deliver the shares and any other deposited
securities underlying the ADSs to you or a person you designate
at the office of the custodian. Or, at your request, risk and
expense, the depositary will deliver the deposited securities at
its corporate trust office, if feasible.
How do
ADS holders interchange between Certificated ADSs and
Uncertificated ADSs?
You may surrender your ADR to the depositary for the purpose of
exchanging your ADR for uncertificated ADSs. The depositary will
cancel that ADR and will send you a statement confirming that
you are the owner of uncertificated ADSs. Alternatively, upon
receipt by the depositary of a proper instruction from a holder
of uncertificated ADSs requesting the exchange of uncertificated
ADSs for certificated ADSs, the depositary will execute and
deliver to you an ADR evidencing those ADSs.
Voting
Rights
How do
you vote?
You may instruct the depositary to vote the deposited
securities. Otherwise, you won’t be able to exercise
your right to vote unless you withdraw the shares your ADSs
represent. However, you may not know about the meeting enough in
advance to withdraw the shares.
If we ask for your instructions and upon timely notice from us,
the depositary will notify you of the upcoming vote and arrange
to deliver our voting materials to you. The materials will
(1) describe the matters to be voted on and
(2) explain how you may instruct the depositary to vote the
shares or other deposited securities underlying your ADSs as you
direct, including an express indication that such instruction
may be given or deemed given in accordance with the last
sentence of this paragraph if no instruction is received, to the
depositary to give a discretionary proxy to a person designated
by us. For instructions to be valid, the depositary must receive
them on or before the date specified. The depositary will try,
as far as practical, subject to the laws of the British Virgin
Islands and the provisions of our constitutive documents, to
vote or to have its agents vote the shares or other deposited
securities as you instruct. The depositary will only vote or
attempt to vote as you instruct. If we timely requested the
depositary to solicit your instructions but no instructions are
received by the depositary from an owner with respect to any of
the deposited securities represented by the ADSs of that owner
on or before the date established by the depositary for such
purpose, the depositary shall deem that owner to have instructed
the depositary to give a discretionary proxy to a person
designated by us with respect to such deposited securities, and
the depositary shall give a discretionary proxy to a person
designated by us to vote such deposited securities. However, no
such instruction shall be deemed given and no such discretionary
proxy shall be given with respect to any matter if we inform the
depositary we do not wish such proxy given, substantial
opposition exits or the matter materially and adversely affects
the rights of holders of the shares.
We cannot assure you that you will receive the voting materials
in time to ensure that you can instruct the depositary to vote
your shares. In addition, the depositary and its agents are not
responsible for failing to carry out voting instructions or for
the manner of carrying out voting instructions. This means
that you may not be able to exercise your right to vote and
there may be nothing you can do if your shares are not voted as
you requested.
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In order to give you a reasonable opportunity to instruct the
depositary as to the exercise of voting rights relating to
deposited securities, if we request the depositary to act, we
will try to give the depositary notice of any such meeting and
details concerning the matters to be voted upon sufficiently in
advance of the meeting date.
Fees and
Expenses
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Persons Depositing or
Withdrawing Shares Must Pay:
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$5.00 (or less) per 100 ADSs (or portion of 100 ADSs)
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Issuance of ADSs, including issuances resulting from a distribution of shares or rights or other property
Cancellation of ADSs for the purpose of withdrawal, including if the deposit agreement terminates
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$0.02 (or less) per ADS
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Any distribution of cash, shares, rights or other entitlements
to you
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A fee equivalent to the fee that would be payable if securities
distributed to you had been shares and the shares had been
deposited for issuance of ADSs
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Distribution of securities distributed to holders of deposited
securities which are distributed by the depositary to ADS holders
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$0.02 (or less) per ADSs per calendar year
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Depositary services
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Registration or transfer fees
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Transfer and registration of shares on our share register to or
from the name of the depositary or its agent when you deposit or
withdraw shares
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Expenses of the depositary
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Cable, telex and facsimile transmissions (when expressly provided in the deposit agreement)
Converting foreign currency to U.S. dollars
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Taxes and other governmental charges the depositary or the
custodian have to pay on any ADS or share underlying an ADS,
including any applicable interest and penalties thereon and any
share transfer or other taxes or governmental charges, for
example, stock transfer taxes, stamp duty or withholding taxes
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As necessary
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Any charges incurred by the depositary or its agents for
servicing the deposited securities
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As necessary
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Deutsche Bank Trust Company Americas, as depositary, has agreed
to reimburse us for a portion of certain expenses we incur that
are related to establishment and maintenance of the ADR program,
including investor relations expenses and stock exchange
application and listing fees. There are limits on the amount of
expenses for which the depositary will reimburse us, but the
amount of reimbursement available to us is not related to the
amounts of fees the depositary collects from investors. Further,
the
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depositary has agreed to reimburse us certain fees payable to
the depositary by holders of ADSs. Neither the depositary nor we
can determine the exact amount to be made available to us
because (i) the number of ADSs that will be issued and
outstanding, (ii) the level of service fees to be charged
to holders of ADSs and (iii) our reimbursable expenses
related to the program are not known at this time.
The depositary collects its fees for issuance and cancellation
of ADSs directly from investors depositing shares or
surrendering ADSs for the purpose of withdrawal or from
intermediaries acting for them. The depositary collects fees for
making distributions to investors by deducting those fees from
the amounts distributed or by selling a portion of distributable
property to pay the fees. The depositary may collect its annual
fee for depositary services by deduction from cash
distributions, or by directly billing investors, or by charging
the book-entry system accounts of participants acting for them.
The depositary may generally refuse to provide fee-attracting
services until its fees for those services are paid.
Payment
of Taxes
You will be responsible for any taxes or other governmental
charges payable on your ADSs or on the deposited securities
represented by any of your ADSs. The depositary may refuse to
register any transfer of your ADSs or allow you to withdraw the
deposited securities represented by your ADSs until such taxes
or other charges are paid. It may apply payments owed to you or
sell deposited securities represented by your ADSs to pay any
taxes owed and you will remain liable for any deficiency. If the
depositary sells deposited securities, it will, if appropriate,
reduce the number of ADSs to reflect the sale and pay to you any
net proceeds, or send to you any property, remaining after it
has paid the taxes. You agree to indemnify us, the depositary,
the custodian and each of our and their respective agents,
directors, employees and affiliates for, and hold each of them
harmless from, any claims with respect to taxes (including
applicable interest and penalties thereon) arising from any tax
benefit obtained for you.
Reclassifications,
Recapitalizations and Mergers
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If we:
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Then:
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Change the nominal or par value of our shares
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The cash, shares or other securities received by the depositary
will become deposited securities.
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Reclassify, split up or consolidate any of the deposited
securities
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Each ADS will automatically represent its equal share of the new
deposited securities.
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Distribute securities on the shares that are not distributed to you
Recapitalize, reorganize, merge, liquidate, sell all or substantially all of our assets, or take any similar action
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The depositary may distribute some or all of the cash, shares or
other securities it received. It may also deliver new ADSs or
ask you to surrender your outstanding ADRs in exchange for new
ADRs identifying the new deposited securities.
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Amendment
and Termination
How
may the deposit agreement be amended?
We may agree with the depositary to amend the deposit agreement
and the form of ADR and the ADSs without your consent for any
reason. If an amendment adds or increases fees or charges,
except for taxes and other governmental charges or expenses of
the depositary for registration fees, facsimile costs,
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delivery charges or similar items, including expenses incurred
in connection with foreign exchange control regulations and
other charges specifically payable by ADS holders under the
deposit agreement, or materially prejudices a substantial
existing right of ADS holders, it will not become effective for
outstanding ADSs until 30 days after the depositary
notifies ADS holders of the amendment. At the time an
amendment becomes effective, you are considered, by continuing
to hold your ADSs, to agree to the amendment and to be bound by
the ADRs and the deposit agreement as amended.
How
may the deposit agreement be terminated?
The depositary will terminate the deposit agreement if we ask it
to do so, in which case the depositary will give notice to you
at least 90 days prior to termination. The depositary may also
terminate the deposit agreement if the depositary has told us
that it would like to resign and we have not appointed a new
depositary within 90 days. In such case, the depositary
must notify you at least 30 days before termination.
After termination, the depositary and its agents will do the
following under the deposit agreement but nothing else: collect
distributions on the deposited securities, sell rights and other
property and deliver shares and other deposited securities upon
cancellation of ADSs after payment of any fees, charges, taxes
or other governmental charges. Six months or more after
termination, the depositary may sell any remaining deposited
securities by public or private sale. After that, the depositary
will hold the money it received on the sale, as well as any
other cash it is holding under the deposit agreement, for the
pro rata benefit of the ADS holders that have not
surrendered their ADSs. It will not invest the money and has no
liability for interest. The depositary’s only obligations
will be to account for the money and other cash. After
termination, our only obligations will be to indemnify the
depositary and to pay fees and expenses of the depositary that
we agreed to pay.
Books of
Depositary
The depositary will maintain ADS holder records at its
depositary office. You may inspect such records at such office
during regular business hours but solely for the purpose of
communicating with other holders in the interest of business
matters relating to the ADSs and the deposit agreement.
The depositary will maintain facilities in New York to record
and process the issuance, cancellation, combination, split-up
and transfer of ADRs.
These facilities may be closed from time to time, to the extent
not prohibited by law or if any such action is deemed necessary
or advisable by the depositary or us, in good faith, at any time
or from time to time because of any requirement of law, any
government or governmental body or commission or any securities
exchange on which the ADRs or ADSs are listed, or under any
provision of the deposit agreement or provisions of, or
governing, the deposited securities, or any meeting of our
shareholders or for any other reason.
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Limitations
on Obligations and Liability
Limits
on our Obligations and the Obligations of the Depositary; Limits
on Liability to Holders of ADSs
The deposit agreement expressly limits our obligations and the
obligations of the depositary. It also limits our liability and
the liability of the depositary. We and the depositary:
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are only obligated to take the actions specifically set forth in
the deposit agreement without gross negligence or willful
misconduct;
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are not liable if either of us is prevented or delayed by law or
circumstances beyond our control from performing our obligations
under the deposit agreement, including, without limitation,
requirements of any present or future law, regulation,
governmental or regulatory authority or share exchange of any
applicable jurisdiction, any present or future provisions of our
memorandum and articles of association, on account of possible
civil or criminal penalties or restraint, any provisions of or
governing the deposited securities or any act of God, war or
other circumstances beyond each of our control as set forth in
the deposit agreement;
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are not liable if either of us exercises, or fails to exercise,
discretion permitted under the deposit agreement;
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are not liable for the inability of any holder of ADSs to
benefit from any distribution on deposited securities that is
not made available to holders of ADSs under the terms of the
deposit agreement, or for any special, consequential or punitive
damages for any breach of the terms of the deposit agreement;
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have no obligation to become involved in a lawsuit or other
proceeding related to the ADSs or the deposit agreement on your
behalf or on behalf of any other party;
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may rely upon any documents we believe in good faith to be
genuine and to have been signed or presented by the proper party;
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disclaim any liability for any action/inaction in reliance on
the advice or information of legal counsel, accountants, any
person presenting shares for deposit, holders and beneficial
owners (or authorized representatives) of ADRs, or any person
believed in good faith to be competent to give such advice or
information;
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disclaim any liability for inability of any holder to benefit
from any distribution, offering, right or other benefit made
available to holders of deposited securities but not made
available to holders of ADSs; and
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disclaim any liability for any indirect, special, punitive or
consequential damages.
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The depositary and any of its agents also disclaim any liability
for any failure to carry out any instructions to vote, the
manner in which any vote is cast or the effect of any vote or
failure to determine that any distribution or action may be
lawful or reasonably practicable or for allowing any rights to
lapse in accordance with the provisions of the deposit
agreement, the failure or timeliness of any notice from us, the
content of any information submitted to it by us for
distribution to you or for any inaccuracy of any translation
thereof, any investment risk associated with the acquisition of
an interest in the deposited securities, the validity or worth
of the deposited securities, the credit-worthiness
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of any third party, or for any tax consequences that may result
from ownership of ADSs, shares or deposited securities.
In the deposit agreement, we and the depositary agree to
indemnify each other under certain circumstances.
Requirements
for Depositary Actions
Before the depositary will issue, deliver or register a transfer
of an ADS, make a distribution on an ADS, or permit withdrawal
of shares, the depositary may require:
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payment of stock transfer or other taxes or other governmental
charges and transfer or registration fees charged by third
parties for the transfer of any shares or other deposited
securities and payment of the applicable fees, expenses and
charges of the depositary;
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satisfactory proof of the identity and genuineness of any
signature or other information it deems necessary; and
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compliance with regulations it may establish, from time to time,
consistent with the deposit agreement, including presentation of
transfer documents.
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The depositary may refuse to issue and deliver ADSs or register
transfers of ADSs generally when the register of the depositary
or our transfer books are closed or at any time if the
depositary or we think it is necessary or advisable to do so.
Your
Right to Receive the Shares Underlying Your ADRs
You have the right to cancel your ADSs and withdraw the
underlying shares at any time except:
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when temporary delays arise because: (1) the depositary has
closed its transfer books or we have closed our transfer books;
(2) the transfer of shares is blocked to permit voting at a
shareholders’ meeting; or (3) we are paying a dividend
on our shares;
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when you owe money to pay fees, taxes and similar
charges; or
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when it is necessary to prohibit withdrawals in order to comply
with any laws or governmental regulations that apply to ADSs or
to the withdrawal of shares or other deposited securities.
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This right of withdrawal may not be limited by any other
provision of the deposit agreement.
Pre-release
of ADSs
The deposit agreement permits the depositary to deliver ADSs
before deposit of the underlying shares. This is called a
pre-release of the ADSs. The depositary may also deliver shares
upon cancellation of pre-released ADSs (even if the ADSs are
canceled before the pre-release transaction has been closed
out). A pre-release is closed out as soon as the underlying
shares are delivered to the depositary. The depositary may
receive ADSs instead of shares to close out a pre-release. The
depositary may pre-release ADSs only under the following
conditions: (1) before or at the time of the pre-release,
the person to
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whom the pre-release is being made represents to the depositary
in writing that it or its customer (a) owns the shares or
ADSs to be deposited, (b) assigns all beneficial rights,
title and interest in such shares or ADSs to the depositary for
the benefit of the owners, (c) will not take any action
with respect to such shares or ADSs that is inconsistent with
the transfer of beneficial ownership, (d) indicates the
depositary as owner of such shares or ADSs in its records, and
(e) unconditionally guarantees to deliver such shares or ADSs to
the depositary or the custodian, as the case may be;
(2) the pre-release is fully collateralized with cash or
other collateral that the depositary considers appropriate; and
(3) the depositary must be able to close out the
pre-release on not more than five business days’ notice.
Each
pre-release
is subject to further indemnities and credit regulations as the
depositary considers appropriate. In addition, the depositary
will limit the number of ADSs that may be outstanding at any
time as a result of pre-release, although the depositary may
disregard the limit from time to time, if it thinks it is
appropriate to do so, including (1) due to a decrease in the
aggregate number of ADSs outstanding that causes existing
pre-release transactions to temporarily exceed the limit stated
above or (2) where otherwise required by market conditions.
Direct
Registration System
In the deposit agreement, all parties to the deposit agreement
acknowledge that the DRS and Profile Modification System, or
Profile, will apply to uncertificated ADSs upon acceptance
thereof to DRS by the DTC. DRS is the system administered by DTC
pursuant to which the depositary may register the ownership of
uncertificated ADSs, which ownership shall be evidenced by
periodic statements issued by the depositary to the ADS holders
entitled thereto. Profile is a required feature of DRS which
allows a DTC participant, claiming to act on behalf of an ADS
holder, to direct the depositary to register a transfer of those
ADSs to DTC or its nominee and to deliver those ADSs to the DTC
account of that DTC participant without receipt by the
depositary of prior authorization from the ADS holder to
register such transfer.
In connection with and in accordance with the arrangements and
procedures relating to DRS/Profile, the parties to the deposit
agreement understand that the depositary will not verify,
determine or otherwise ascertain that the DTC participant which
is claiming to be acting on behalf of an ADS holder in
requesting registration of transfer and delivery described in
the paragraph above has the actual authority to act on behalf of
the ADS holder (notwithstanding any requirements under the
Uniform Commercial Code). In the deposit agreement, the parties
agree that the depositary’s reliance on, and compliance
with, instructions received by the depositary through the
DRS/Profile System and in accordance with the deposit agreement,
shall not constitute negligence or bad faith on the part of the
depositary.
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SHARES
ELIGIBLE FOR FUTURE SALE
Before this offering, there has not been a public market for our
ordinary shares or our ADSs. Although our ADSs have been
approved for listing on the New York Stock Exchange, we cannot
assure you that a significant public market for the ADSs will
develop or be sustained after this offering. We do not expect
that an active trading market will develop for our ordinary
shares not represented by the ADSs. Future sales of substantial
amounts of our ADSs in the public markets after this offering,
or the perception that such sales may occur, could adversely
affect market prices prevailing from time to time. As described
below, only a limited number of our ordinary shares currently
outstanding will be available for sale immediately after this
offering due to contractual and legal restrictions on resale.
Nevertheless, after these restrictions lapse, future sales of
substantial amounts of our ADSs, including ADSs representing
ordinary shares issued upon exercise of outstanding options, in
the public market in the United States, or the possibility of
such sales, could negatively affect the market price in the
United States of our ADSs and our ability to raise equity
capital in the future.
Upon completion of this offering, we will have 42,052,631
outstanding ordinary shares, including ordinary shares
represented by ADSs, assuming no exercise of the
underwriters’ over-allotment option. Upon completion of
this offering, we will have 5,500,000 ADSs outstanding
representing approximately 26.2% of our issued and outstanding
ordinary shares, assuming no exercise of the underwriters’
over-allotment option. All of the ADSs sold in this offering
will be freely transferable by persons other than our
“affiliates” without restriction or further
registration under the Securities Act. Sales of substantial
amount of additional ADSs in the public market could adversely
affect prevailing market prices of our ADSs. Prior to this
offering, there has been no public market for our ordinary
shares or the ADSs, and although our ADSs have been approved for
listing on the New York Stock Exchange, we cannot assure you
that a regular trading market will develop in our ADSs. We do
not expect that a trading market will develop for our ordinary
shares not represented by our ADSs.
Ordinary shares or ADSs purchased by one of our
“affiliates” may not be resold in the United States,
except pursuant to an effective registration statement or an
exemption from registration, including an exemption under
Rule 144 of the Securities Act described below. All of the
ordinary shares held by existing shareholders are
“restricted securities,” as that term is defined in
Rule 144 of the Securities Act. These restricted securities
may be sold in the United States only if they are registered or
if they qualify for an exemption from registration under
Rule 144 or Rule 701 of the Securities Act. These
rules are described below.
Lock-up
Agreements
We have agreed that we will not offer, sell, contract to sell,
pledge or otherwise dispose of, directly or indirectly, to file
with the Securities and Exchange Commission a registration
statement under the Securities Act relating to, any of our
ordinary shares or ADSs, or publicly announce the intention to
make any offer, sale, pledge, disposition or filing, without the
prior written consent of Piper Jaffray for a period of
180 days after the date of this prospectus.
Our executive officers, directors and existing shareholders have
agreed that they will not offer, sell, contract to sell, pledge
or otherwise dispose of, directly or indirectly, any ADSs or
ordinary shares or securities convertible into or exchangeable
or exercisable for any ADSs or ordinary shares, enter into a
transaction that would have the same effect, or enter into any
swap, hedge or other arrangement that transfers, in whole or in
part, any of the economic consequences of ownership of our ADSs,
whether any of these transactions are to be settled by delivery
of our ADSs or other securities, in cash or otherwise, or
publicly disclose the intention to make any offer, sale, pledge
or disposition, or to enter
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into any transaction, swap, hedge or other arrangement, without,
in each case, the prior written consent of Piper Jaffray
for a period of 180 days after the date of this prospectus.
The 180-day
lock-up
period is subject to adjustment under certain circumstances. If
in the event that either (1) during the last 17 days
of the
lock-up
period, we release earnings results or material news or a
material event relating to us occurs or (2) prior to the
expiration of the
lock-up
period, we announce that we will release earnings results during
the 16-day
period beginning on the last day of the
lock-up
period, then in either case the expiration of the
lock-up will
be extended until the expiration of the
18-day
period beginning on the date of the release of the earnings
results or the occurrence of the material news or event, as
applicable, unless Piper Jaffray waives, in writing, such
an extension.
All of our ordinary shares currently issued and held by our
existing shareholders are subject to the
180-day
lock-up
period and will be subject to the volume and other restrictions
of Rule 144 after expiration of the
lock-up
period.
In addition, the 1,052,631 fully vested ordinary shares to be
granted at or prior to completion of this offering are being
granted subject to the 180-day lock-up period. We have also
instructed Deutsche Bank Trust Company Americas, as depositary,
not to accept any deposit of any ordinary shares by, or issue
any ADSs to, the specified individuals who are our current
shareholders, option holders or beneficial owners of our shares
(including intended share recipients in connection with this
offering) for 180 days after the date of this prospectus
(other than in connection with this offering). The foregoing
does not affect the right of ADS holders to cancel this ADSs,
withdraw the underlying ordinary shares and
re-deposit
such shares.
Rule 144
Under Rule 144 of the Securities Act, beginning
90 days after the date of this prospectus, a person who is
not one of our affiliates at any time during the three months
preceding a sale and has beneficially owned restricted shares of
our ordinary shares for at least six months are entitled to sell
an unlimited number of those shares in the United States
provided current public information about us is available and,
after one year, are entitled to sell an unlimited number of
those shares without restriction. Our affiliates who have
beneficially owned restricted shares of our ordinary shares for
at least six months are entitled to sell, within any three-month
period, the number of shares that does not exceed the greater of:
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1% of the number of our ordinary shares then outstanding, which
will equal approximately 420,526 ordinary shares immediately
after this offering; or
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the average weekly reported trading volume of our ordinary
shares in the form of ADSs on the New York Stock Exchange during
the four calendar weeks before a notice of the sale on
Form 144 is filed with the Securities and Exchange
Commission by such person.
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Sales by affiliates under Rule 144 are also subject to
manner-of-sale provisions, notice requirements and the
availability of current public information about us. However,
all of these shares would remain subject to
lock-up
arrangements and would only become eligible for sale when the
lock-up
period expires.
Rule 701
Rule 701 under the Securities Act, as currently in effect,
permits certain resales of shares in reliance upon Rule 144
but without compliance with specified restrictions, including
the holding period requirement, of Rule 144. On or prior to
the completion of this offering, our employees will receive an
aggregate of 1,052,631 shares under our 2008 Omnibus
Incentive Plan and may be entitled to rely on
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the resale provisions of Rule 701. Rule 701 permits
affiliates to sell their Rule 701 shares under
Rule 144 without complying with the holding period
requirements of Rule 144. Rule 701 further provides
that non-affiliates who purchased shares under a written
compensation plan or contract may sell their shares in reliance
on Rule 144 without having to comply with the holding
period, public information, volume limitation or notice
provisions of Rule 144. All holders of Rule 701 shares
are required to wait until 90 days after the date of this
prospectus before selling their shares. However, all
Rule 701 shares are subject to lock-up agreements with the
underwriters and will only become eligible for sale at the
expiration of the lock-up period or upon obtaining the prior
written consent of Piper Jaffray, but in either event, no sooner
than 90 days after this offering.
2008
Omnibus Incentive Plan
We intend to file a registration statement on Form S-8
under the Securities Act covering a total of 1,052,631 ordinary
shares reserved for issuance under our 2008 Omnibus Incentive
Plan. This registration statement is expected to be filed in
June 2009 and will automatically become effective upon filing.
Following this filing, ordinary shares registered under such
registration statement will, subject to the lockup agreements
and volume limitations under Rule 144 applicable to
affiliates, be available for sale in the open market upon grant
or upon the exercise of vested options.
Registration
Rights
After this offering, assuming no exercise by the underwriters of
their over-allotment option, the holders of an aggregate of
30,000,000 ordinary shares will be entitled to registration
rights under a written agreement between us and such holders.
This agreement requires us, upon request of the holders, from
time to time to file registration statements to facilitate
registered sales by those holders of ordinary shares in the
United States. In addition, the agreement provides that these
holders may require us to include their ordinary shares in
registration statements filed by us relating to securities
offerings of ordinary shares in the United States. We are
required to indemnify the holders and any underwriters in
connection with sales of ordinary shares pursuant to any of
these registration statements and we are required to bear all
expenses in connection with these registrations. See
“Description of Share Capital—Registration
Rights” for a more detailed description of these
registration rights. These holders have agreed that, without the
prior written consent of Piper Jaffray on behalf of the
underwriters, they will not, during the period ending
180 days after the date of this prospectus, exercise any of
these registration rights. See
“—Lock-up
Agreements” above.
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TAXATION
The following sets forth the material British Virgin Islands,
Chinese and U.S. federal income tax consequences of an
investment in our ordinary shares or ADSs. It is based upon laws
and relevant interpretations thereof in effect as of the date of
this prospectus, all of which are subject to change. This
discussion does not deal with all possible tax consequences
relating to an investment in our ordinary shares or ADSs, such
as the tax consequences under state, local and other tax laws.
To the extent that the discussion relates to matters of British
Virgin Islands tax law, it represents the opinion of Maples and
Calder, our British Virgin Islands counsel.
British
Virgin Islands Taxation
Under the BVI Act as currently in effect, a holder of ordinary
shares who is not a resident of the British Virgin Islands is
exempt from British Virgin Islands income tax on dividends paid
with respect to the ordinary shares and all holders of ordinary
shares are not liable to the British Virgin Islands for income
tax on gains realized during that year on sale or disposal of
such shares. The British Virgin Islands does not impose a
withholding tax on dividends paid by a company incorporated or
re-registered under the BVI Act.
There are no capital gains, gift or inheritance taxes levied by
the British Virgin Islands on companies incorporated or
re-registered under the BVI Act. In addition, shares of
companies incorporated or re-registered under the BVI Act are
not subject to transfer taxes, stamp duties or similar charges.
There is no income tax treaty or convention currently in effect
between the United States and the British Virgin Islands or
between China and the British Virgin Islands.
People’s
Republic of China Taxation
In 2007, the PRC National People’s Congress enacted the PRC
Enterprise Income Tax Law and related implementation rules, or
the new EIT law, which became effective on January 1, 2008.
The new EIT law imposes a single uniform income tax rate of 25%
on all Chinese enterprises, including foreign-invested
enterprises, and levies a withholding tax rate of 10% on
dividends payable by Chinese subsidiaries to their foreign
shareholders unless any such foreign shareholders’
jurisdiction of incorporation has a tax treaty with China that
provides for a different withholding agreement. Under the new
EIT law, enterprises established outside China but deemed to
have a “de facto management body” within the country
may be considered “resident enterprises” for Chinese
tax purposes and, therefore, may be subject to an enterprise
income tax rate of 25% on their worldwide income. Pursuant to
the implementation rules of the new EIT law, “de facto
management bodies” have material and overall management
control over the business, personnel, accounts and properties of
the enterprise. At the present, the Chinese tax authority has
not issued any guidance on the application of the new EIT law
and its implementing rules on non-Chinese enterprise or group
enterprise controlled entities. As a result, it is unclear what
factors will be used by the Chinese tax authorities to determine
whether we are a “de facto management organization” in
China. However, as substantially all members of our management
team are located in China, and may remain there in the future,
we may be deemed a resident enterprise subject to an enterprise
income tax rate of 25% on our worldwide income, with the
possible exclusion of dividends received directly from another
Chinese tax resident.
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U.S.
Federal Income Taxation
The following is a discussion of certain material
U.S. federal income tax consequences to U.S. holders (as
defined below) of purchasing, owning and disposing of our shares
and ADSs. This discussion does not address any aspects of U.S.
federal gift or estate tax or the state, local or
non-U.S. tax
consequences of an investment in our shares or ADSs.
YOU SHOULD CONSULT YOUR OWN TAX ADVISORS CONCERNING THE
U.S. FEDERAL, STATE, LOCAL AND NON-U.S. TAX CONSEQUENCES OF
PURCHASING, OWNING AND DISPOSING OF OUR SHARES OR ADSs IN YOUR
PARTICULAR SITUATION.
This discussion applies only to those investors that hold shares
or ADSs as capital assets within the meaning of
section 1221 of the Code. This section does not apply to
U.S. holders that may be subject to special tax rules,
including but not limited to:
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dealers in securities or currencies;
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traders in securities that elects to use a mark-to-market method
of accounting for your securities holdings;
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banks, insurance companies or certain financial institutions;
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tax-exempt organizations;
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partnerships or other entities treated as partnerships or other
pass-through entities for U.S. federal income tax purposes
or persons holding ADSs or ordinary shares through such entities;
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regulated investment companies or real estate investment trusts;
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holders liable for alternative minimum tax;
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holders that actually or constructively owns 10% or more of the
total combined voting power of all classes of our shares
entitled to vote;
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holders that holds shares or ADSs as part of a straddle, hedging
or conversion transaction; or
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holders whose functional currency is not the U.S. dollar.
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This section is based on the U.S. Internal Revenue Code of
1986, as amended, or the Code, its legislative history, existing
and proposed U.S. Treasury regulations, published rulings
and other administrative guidance of the U.S. Internal
Revenue Service and court decisions, all as in effect on the
date hereof. These laws are subject to change or different
interpretation by the U.S. Internal Revenue Service or a
court, possibly on a retroactive basis.
For purposes of the U.S. federal income tax discussion
below you are a “U.S. holder” if you beneficially
own our shares or ADSs and are:
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a citizen or resident of the United States for U.S. federal
income tax purposes;
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a corporation, or other entity taxable as a corporation,
organized under the laws of the United States, any state thereof
or the District of Columbia;
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an estate whose income is subject to U.S. federal income
tax regardless of its source; or
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a trust, if (a) a U.S. court can exercise primary
supervision over the trust’s administration and one or more
U.S. persons are authorized to control all substantial
decisions of the trust, or (b) if the trust has a valid
election in effect under applicable U.S. Treasury
regulations to be treated as a U.S. person.
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If a partnership (including for this purpose any entity treated
as a partnership for U.S. tax purposes) is a beneficial
owner of our shares or ADSs, the U.S. tax treatment of a
partner in the partnership generally will depend on the status
of the partner and the activities of the partnership. A holder
of our shares or ADSs that is a partnership or partners in such
a partnership should consult their own tax advisors about the
U.S. federal income tax consequences of holding and
disposing of our shares or ADSs.
For U.S. federal income tax purposes, holders of our ADSs
will be treated as the owners of shares represented by such ADSs.
Taxation
of Dividends and Other Distributions
Subject to the passive foreign investment company, or PFIC,
rules discussed below, the gross amount of any distributions
with respect to your ADSs or shares will generally be treated as
dividend income if the distributions are made from our current
or accumulated earnings and profits, calculated according to
U.S. federal income tax principles. Dividends will
generally be subject to U.S. federal income tax as ordinary
income on the day you actually or constructively receive such
income. If you are a non-corporate U.S. holder, including
an individual, and have held your ADSs or shares for a
sufficient period of time, dividend distributions on our ADSs or
shares will generally constitute qualified dividend income taxed
at a preferential rate (generally 15% for dividend distributions
before January 1, 2011) as long as our ADSs or shares
continue to be readily tradable on the New York Stock Exchange
or another established securities market in the United States.
You should consult your own tax advisor as to the rate of tax
that will be applied to you with respect to dividend
distributions, if any, you receive from us.
Dividends will not be eligible for the dividends-received
deduction allowed to U.S. corporations in respect of
dividends received from other U.S. corporations. If we
distribute non-cash property as a dividend (other than pro rata
distributions of our shares) out of our current or accumulated
earnings and profits (as determined for U.S. federal income tax
purposes), you generally will include in income an amount equal
to the fair market value of the property, on the date that it is
distributed.
Distributions in excess of current and accumulated earnings and
profits, as determined for U.S. federal income tax
purposes, will be treated as a non-taxable return of capital to
the extent of your basis in your shares or ADSs and thereafter
as capital gain. However, we do not plan on calculating our
earnings and profits for U.S. federal income tax purposes,
and U.S. holders therefore should generally assume that any
distributions paid by us are paid out of our earnings and
profits for this purpose.
Taxation
of Dispositions of ADSs or Shares
Subject to the PFIC rules discussed below, if you are a
U.S. holder and you sell or otherwise dispose of your
shares or ADSs, you will recognize capital gain or loss for
U.S. federal income tax purposes equal to the difference
between the amount that you realize and your tax basis in your
shares or ADSs. Prior
160
to January 1, 2011, capital gains of a non-corporate
U.S. holder are generally taxed at a maximum rate of 15%
where the property is held for more than one year. Your ability
to deduct capital losses is subject to limitations.
Passive
Foreign Investment Company
We do not expect to be a PFIC for U.S. federal income tax
purposes for the current tax year or in the foreseeable future.
The determination of whether or not we are a PFIC in respect of
any of our taxable years is a factual determination that cannot
be made until the close of the applicable tax year and that is
based on the types of income we earn and the value and
composition of our assets (including goodwill), all of which are
subject to change. Therefore, we can make no assurances that we
will not be a PFIC in respect of our current taxable year or in
the future. Our special U.S. counsel expresses no opinion
with respect to our expectations contained in this paragraph.
In general, we will be a PFIC in any taxable year if either:
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•
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at least 75% of our gross income for the taxable year is passive
income; or
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•
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at least 50% of the value, determined on the basis of a
quarterly average, of our assets is attributable to assets that
produce or are held for the production of passive income.
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Passive income includes dividends, interest, royalties, rents
(other than certain rents and royalties derived in the active
conduct of a trade or business), the excess of gains over losses
from certain types of transactions in commodities, annuities and
gains from assets that produce passive income. We will be
treated as owning our proportionate share of the assets and
earning our proportionate share of the income of any corporation
which we own, directly or indirectly, at least 25% (by value) of
the stock.
If we are treated as a PFIC, and you are a U.S. holder that
did not make a mark-to-market election, as described below, you
will be subject to special rules with respect to:
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•
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any gain you realize on the sale or other disposition of your
shares or ADSs; and
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•
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any excess distribution that we make to you (generally, any
distributions to you during a single taxable year that are
greater than 125% of the average annual distributions received
by you in respect of the shares or ADSs during the three
preceding taxable years or, if shorter, your holding period for
the shares or ADSs).
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Under these rules:
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•
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the gain or excess distribution will be allocated ratably over
your holding period for the shares and ADSs;
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•
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the amount allocated to the taxable year in which you realized
the gain or excess distribution will be taxed as ordinary income;
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•
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the amount allocated to each prior year in respect of which we
were, or were treated as, a PFIC generally will be taxed at the
highest tax rate in effect for that year; and
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•
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the interest charge generally applicable to underpayments of tax
will be imposed in respect of the tax attributable to each such
year.
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161
Special rules apply for calculating the amount of the foreign
tax credit with respect to excess distributions by a PFIC.
If you own shares in a PFIC that are treated as marketable
stock, you may make a mark-to-market election. Our ADSs or
shares will be “marketable” as long as they remain
regularly traded on a national securities exchange, such as the
New York Stock Exchange. If you make this election in a timely
fashion, you will not be subject to the PFIC rules described
above. Instead, in general, you will include as ordinary income
each year the excess, if any, of the fair market value of your
shares or ADSs at the end of the taxable year over your adjusted
basis in your shares or ADSs. Any ordinary income resulting from
this election would generally be taxed at ordinary income tax
rate and would not be eligible for the reduced rate of tax
applicable to qualified dividend income. You will also be
allowed to take an ordinary loss in respect of the excess, if
any, of the adjusted basis of your shares or ADSs over the fair
market value at the end of the taxable year (but only to the
extent of the net amount of previously included income as a
result of the mark-to-market election). Your basis in the shares
or ADSs will be adjusted to reflect any such income or loss
amounts. You should consult your own tax advisor regarding
potential advantages and disadvantages to you of making a
mark-to-market election with respect to your ADSs or shares.
We do not intend to furnish you with the information that you
would need in order to make a “qualified electing
fund” election to include your share of its income on a
current basis and you will, therefore, not be able to make or
maintain such election with respect to your ADSs or shares.
If you own our shares or ADSs during any year that we are a
PFIC, you must file U.S. Internal Revenue Service
Form 8621 regarding your shares or ADSs and the gain
realized on the disposition of the shares or ADSs. The reduced
tax rate for dividend income, discussed in “Taxation of
Dividends,” is not applicable to dividends paid by a PFIC.
You should consult with your own tax advisor regarding reporting
requirements with respect to your shares or ADSs.
Information
Reporting and Backup Withholding
In general, dividend payments with respect to our ADSs or shares
and the proceeds received on the sale or other disposition of
our ADSs or shares may be subject to information reporting to
the IRS and to backup withholding (currently imposed at a rate
of 28%). Backup withholding will not apply, however, if you
(a) are a corporation or come within certain other exempt
categories and, when required, can demonstrate that fact or
(b) provide a taxpayer identification number, certify as to
no loss of exemption from backup withholding and otherwise
comply with the applicable backup withholding rules. To
establish your status as an exempt person, you will generally be
required to provide certification on IRS
Form W-9.
Any amounts withheld from payments to you under the backup
withholding rules will be allowed as a refund or a credit
against your U.S. federal income tax liability, provided
that you timely furnish the required information to the IRS.
PROSPECTIVE PURCHASERS OF OUR ADSS OR SHARES SHOULD CONSULT
WITH THEIR OWN TAX ADVISORS REGARDING THE APPLICATION OF THE
U.S. FEDERAL INCOME TAX LAWS TO THEIR PARTICULAR SITUATIONS
AS WELL AS ANY ADDITIONAL TAX CONSEQUENCES RESULTING FROM
PURCHASING, HOLDING OR DISPOSING OF OUR ADSS OR SHARES,
INCLUDING THE APPLICABILITY AND EFFECT OF THE TAX LAWS OF ANY
STATE, LOCAL OR
NON-U.S. JURISDICTION,
INCLUDING ESTATE, GIFT, AND INHERITANCE LAWS.
162
ENFORCEABILITY
OF CIVIL LIABILITIES
We are incorporated under the laws of the British Virgin Islands
with limited liability. We are incorporated in the British
Virgin Islands because of certain benefits associated with being
a British Virgin Islands corporation, such as political and
economic stability, an effective judicial system, a favorable
tax system, the absence of exchange control or currency
restrictions and the availability of professional and support
services. However, the British Virgin Islands has a less
developed body of securities laws as compared to the United
States and provides protections for investors to a significantly
lesser extent. In addition, British Virgin Islands companies may
not have standing to sue before the federal courts of the United
States.
Substantially all of our assets are located outside the United
States. In addition, a majority of our directors and officers
are nationals
and/or
residents of countries other than the United States, and all or
a substantial portion of such persons’ assets are located
outside the United States. As a result, it may be difficult for
investors to effect service of process within the United States
upon us or such persons or to enforce against them or against
us, judgments obtained in United States courts, including
judgments predicated upon the civil liability provisions of the
securities laws of the United States or any state thereof.
We have appointed CT Corporation System as our agent to receive
service of process with respect to any action brought against us
in the United States District Court for the Southern District of
New York under the federal securities laws of the United States
or of any State of the United States or any action brought
against us in the Supreme Court of the State of New York in the
County of New York under the securities laws of the State of New
York.
Commerce & Finance Law Offices, our counsel as to
Chinese law, has advised us that there is uncertainty as to
whether the courts of China would (1) recognize or enforce
judgments of United States courts obtained against us or such
persons predicated upon the civil liability provisions of the
securities laws of the United States or any state thereof, or
(2) be competent to hear original actions brought in each
respective jurisdiction, against us or such persons predicated
upon the securities laws of the United States or any state
thereof.
Commerce & Finance Law Offices has advised us that the
recognition and enforcement of foreign judgments are provided
for under the Chinese Civil Procedure Law. Chinese courts may
recognize and enforce foreign judgments in accordance with the
requirements of the Chinese Civil Procedure Law based either on
treaties between China and the country where the judgment is
made or in reciprocity between jurisdictions. China does not
have any treaties or other agreements with the British Virgin
Islands or the United States that provide for the reciprocal
recognition and enforcement of foreign judgments. As a result,
it is uncertain whether a Chinese court would enforce a judgment
rendered by a court in either of these two jurisdictions.
We have been advised by Maples and Calder, our counsel as to
British Virgin Islands law, that the United States and the
British Virgin Islands do not have a treaty providing for
reciprocal recognition and enforcement of judgments of courts of
the United States in civil and commercial matters and that a
final judgment for the payment of money rendered by any general
or state court in the United States based on civil liability,
whether or not predicated solely upon the U.S. federal
securities laws, would not be automatically enforceable in the
British Virgin Islands. We have also been advised by Maples and
Calder that a final and conclusive judgment obtained in
U.S. federal or state courts under which a sum of money is
payable as compensatory damages (i.e., not being a sum claimed
by a revenue authority for taxes or other charges of a similar
nature by a governmental authority, or in respect of a fine or
penalty or multiple or punitive damages) may be the subject of
an action on a debt in the court of the British Virgin Islands
under the common law doctrine of obligation.
163
UNDERWRITING
We are offering the ADSs described in this prospectus through a
number of underwriters.
Piper Jaffray & Co. is acting as sole
book-running manager for this offering and as representative of
the underwriters. We have entered into a firm commitment
underwriting agreement with the representative. Subject to the
terms and conditions of the underwriting agreement, we have
agreed to sell to the underwriters, and each underwriter has
agreed to purchase, the number of ADSs listed next to its name
in the following table:
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Underwriters
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Number of ADSs
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Piper Jaffray & Co.
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3,437,500
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Oppenheimer & Co. Inc.
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1,375,000
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Janney Montgomery Scott LLC
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687,500
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Total
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5,500,000
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The underwriters have advised us that they propose to offer the
ADSs to the public at $16.00 per ADS. The underwriters propose
to offer the ADSs to certain dealers at the same price less a
concession of not more than $0.67 per ADS. The underwriters may
allow, and the dealers may reallow, a concession of not more
than $0.10 per ADS on sales to certain other brokers and
dealers. After this offering, these figures may be changed by
the underwriters.
We have granted to the underwriters an option to purchase up to
an additional 825,000 ADSs from us at the same price to the
public, and with the same underwriting discount, as set forth
above. The underwriters may exercise this option any time during
the 30-day
period after the date of this prospectus, but only to cover
over-allotments, if any. To the extent the underwriters exercise
the option, each underwriter will become obligated, subject to
certain conditions, to purchase approximately the same
percentage of the additional ADSs as it was obligated to
purchase under the purchase agreement.
We estimate that the total fees and expenses payable by us,
excluding underwriting discounts and commissions, will be
approximately $1.7 million.
The following table shows the underwriting fees to be paid to
the underwriters by us in connection with this offering. These
amounts are shown assuming both no exercise and full exercise of
the over-allotment option.
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No
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Full
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Exercise
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Exercise
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Per ADSs underwriting discounts and commissions
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$
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1.12
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$
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1.12
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Total underwriting discounts and commissions
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$
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6,160,000
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$
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7,084,000
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We have agreed to indemnify the underwriters against certain
liabilities, including civil liabilities under the Securities
Act, or to contribute to payments that the underwriters may be
required to make in respect of those liabilities.
Piper Jaffray has informed us that neither it, nor any
other underwriter participating in the distribution of this
offering, will make sales of the ADSs offered by this prospectus
to accounts over which they exercise discretionary authority
without the prior specific written approval of the customer.
We and each of our directors, executive officers and existing
shareholders are subject to
lock-up
agreements that prohibit us and them from offering for sale,
selling, contracting to sell, granting any
164
option for the sale of, transferring or otherwise disposing of
any ADSs, our ordinary shares, options or warrants to acquire
our ordinary shares or any security or instrument related to
such ADS, ordinary share, option or warrant for a period of at
least 180 days following the date of this prospectus
without the prior written consent of Piper Jaffray. The
lock-up
agreement provides exceptions for (1) sales to underwriters
pursuant to the purchase agreement, (2) our sales in
connection with granting of options to purchase up to an
additional 1,052,631 ordinary shares under our 2008 Omnibus
Incentive Plan and (3) certain other exceptions.
In addition, we have instructed Deutsche Bank Trust Company
Americas, as depositary, not to accept any deposit of any
ordinary shares by, or issue any ADSs to, the specified
individuals who are our current shareholders, option holders or
beneficial owners of our shares (including intended share
recipients in connection with this offering) for 180 days
after the date of this prospectus (other than in connection with
this offering). The foregoing does not affect the right of ADS
holders to cancel their ADSs, withdraw the underlying ordinary
shares and re-deposit such shares.
The 180-day
lock-up
period in all of the
lock-up
agreements is subject to extension if (1) during the last
17 days of the
lock-up
period, we announce that we will release earnings results during
the 16-day
period beginning on the last day of the
lock-up
period, or (2) we announce that we will release earnings
results during the
16-day
period beginning on the last day of the
lock-up
period, in which case the restrictions imposed in these
lock-up
agreements shall continue to apply until the expiration of the
18-day
period beginning on the issuance of the earnings release or the
occurrence of the material news or material event, unless
Piper Jaffray waives the extension in writing.
Our ADSs have been approved for listing on the New York Stock
Exchange under the symbol “DGW”.
Prior to this offering, there has been no established trading
market for our ADSs. The initial public offering price for our
ADSs offered by this prospectus was negotiated by us and the
underwriters. The factors considered in determining the initial
public offering price include the history of and the prospects
for the industry in which we compete, our past and present
operations, our historical results of operations, our prospectus
for future earnings, the recent market prices of securities of
generally comparable companies and the general condition of the
securities markets at the time of this offering and other
relevant factors. There can be no assurance that the initial
public offering price of the ADSs will correspond to the price
at which our ADSs will trade in the public market subsequent to
this offering or that an active public market for our ADSs will
develop and continue after this offering.
To facilitate this offering, the underwriters may engage in
transactions that stabilize, maintain or otherwise affect the
price of the ADSs during and after this offering. Specifically,
the underwriters may over-allot or otherwise create a short
position in the ADSs for their own account by selling more ADSs
than we have sold to them. Short sales involve the sale by the
underwriters of a greater number of ADSs than they are required
to purchase in this offering. “Covered” short sales
are sales made in an amount not greater than the
underwriters’ option to purchase additional ADSs in this
offering. The underwriters may close out any covered short
position by either exercising their option to purchase
additional ADSs or purchasing ADSs in the open market. In
determining the source of ADSs to close out the covered short
position, the underwriters will consider, among other things,
the price of ADSs available for purchase in the open market as
compared to the price at which they may purchase ADSs through
the over-allotment option. “Naked” short sales are
sales in excess of this option. The underwriters must close out
any naked short position by purchasing ADSs in the open market.
A naked short position is more likely to be created if the
underwriters are concerned that there may be downward pressure
on the price of the ADSs in the open market after pricing that
could adversely affect investors who purchase in this offering.
165
In addition, the underwriters may stabilize or maintain the
price of the ADSs by bidding for or purchasing ADSs in the open
market and may impose penalty bids. If penalty bids are imposed,
selling concessions allowed to syndicate members or other
broker-dealers participating in this offering are reclaimed if
ADSs previously distributed in this offering are repurchased,
whether in connection with stabilization transactions or
otherwise. The effect of these transactions may be to stabilize
or maintain the market price of the ADSs at a level above that
which might otherwise prevail in the open market. The imposition
of a penalty bid may also affect the price of the ADSs to the
extent that it discourages resales of the ADSs. The magnitude or
effect of any stabilization or other transactions is uncertain.
These transactions may be effected on the New York Stock
Exchange or otherwise and, if commenced, may be discontinued at
any time. Some underwriters and selling group members may also
engage in passive market making transactions in our ADSs.
Passive market making consists of displaying bids on the New
York Stock Exchange limited by the prices of independent market
makers and effecting purchases limited by those prices in
response to order flow. Rule 103 of Regulation M
promulgated by the Securities and Exchange Commission limits the
amount of net purchases that each passive market maker may make
and the displayed size of each bid. Passive market making may
stabilize the market price of the ADSs at a level above that
which might otherwise prevail in the open market and, if
commenced, may be discontinued at any time.
This prospectus in electronic format may be made available on
the websites maintained by one or more of the underwriters or
selling group members, if any, participating in this offering
and one or more of the underwriters participating in this
offering may distribute prospectuses and prospectus supplements
electronically.
From time to time in the ordinary course of their respective
businesses, certain of the underwriters and their affiliates may
in the future engage in commercial banking or investment banking
transactions with us and our affiliates.
Selling
Restrictions
European
Economic Area
In relation to each Member State of the European Economic Area
which has implemented the Prospectus Directive (each, a
“Relevant Member State”), with effect from and
including the date on which the Prospectus Directive is
implemented in that Relevant Member State, no offer of our ADSs
has been made or will be made to the public in that Relevant
Member State, except that, with effect from and including such
date, an offer of our ADSs may be made to the public in the
Relevant Member State at any time:
(a) to legal entities which are authorised or regulated to
operate in the financial markets or, if not so authorised or
regulated, whose corporate purpose is solely to invest in
securities;
(b) to any legal entity which has two or more of
(1) an average of at least 250 employees during the
last financial year; (2) a total balance sheet of more than
€43,000,000 and (3) an annual net turnover of more
than €50,000,000, as shown in its last annual or
consolidated accounts;
(c) to fewer than 100 natural or legal persons (other than
qualified investors as defined in the Prospectus
Directive); or
(d) in any other circumstances which do not require the
publication by us of a prospectus pursuant to Article 3 of
the Prospectus Directive.
166
For the purposes of this provision, the expression an
“offer of our ADSs to the public” in relation to any
ADSs in any Relevant Member State means the communication in any
form and by any means of sufficient information on the terms of
the offer and any ADSs to be offered so as to enable an investor
to decide to purchase any ADSs, as the same may be varied in
that Relevant Member State by any measure implementing the
Prospectus Directive in that Relevant Member State and the
expression “Prospectus Directive” means Directive
2003/71/EC and includes any relevant implementing measure in
each Relevant Member State.
Notice
to Investors in the United Kingdom
The Underwriter represents, warrants and agrees that it has only
communicated or caused to be communicated and will only
communicate or cause to be communicated an invitation or
inducement to engage in investment activity (within the meaning
of section 21 of the Financial Services and Markets Act
2000) in connection with the issue or sale of our ADSs in
circumstances in which Section 21 of such Act does not
apply to us and it has complied with and will comply with all
applicable provisions of such Act with respect to anything done
by it in relation to our ADSs in, from or otherwise involving
the United Kingdom.
Switzerland
This document does not constitute a prospectus within the
meaning of Art. 652a of the Swiss Code of Obligations. Our
ADSs may not be sold directly or indirectly in or into
Switzerland except in a manner which will not result in a public
offering within the meaning of the Swiss Code of Obligations.
Neither this document nor any other offering materials relating
to our ADSs may be distributed, published or otherwise made
available in Switzerland except in a manner which will not
constitute a public offer of our ADSs in Switzerland.
Hong
Kong
Our ADSs may not be offered or sold by means of any document
other than: (i) in circumstances which do not constitute an
offer to the public within the meaning of the Companies
Ordinance (Cap. 32, Laws of Hong Kong), (ii) to
“professional investors” as defined in the Securities
and Futures Ordinance (Cap. 571, Laws of Hong Kong) and any
rules thereunder, or (iii) in other circumstances which do
not result in the document being a “prospectus” within
the meaning of the Companies Ordinance. No advertisement,
invitation or other document relating our ADSs may be issued,
whether in Hong Kong or elsewhere, where such document is
directed at, or the contents are likely to be accessed or read
by, the public of Hong Kong (except if permitted to do so under
the laws of Hong Kong), other than with respect to such ADSs
that is intended to be disposed of only to persons outside of
Hong Kong or only to “professional investors” as
defined in the Securities and Futures Ordinance and any rules
thereunder.
Singapore
This prospectus has not been registered as a prospectus with the
Monetary Authority of Singapore. Accordingly, this prospectus
and any other document or material in connection with the offer
or sale, or invitation for subscription or purchase, of the ADSs
may not be circulated or distributed, nor may the ADSs be
offered or sold, or be made the subject of an invitation for
subscription or purchase, whether directly or indirectly, to
persons in Singapore other than (i) to an institutional
investor under Section 274 of the Securities and Futures
Act, Chapter 289 of Singapore (the “SFA”),
(ii) to a relevant
167
person, or any person pursuant to Section 275(1A), and in
accordance with the conditions, specified in Section 275 of the
SFA or (iii) otherwise pursuant to, and in accordance with
the conditions of, any other applicable provision of the SFA.
Where the ADSs are subscribed or purchased under Section 275 by
a relevant person which is:
(a) a corporation (which is not an accredited investor) the
sole business of which is to hold investments and the entire
share capital of which is owned by one or more individuals, each
of whom is an accredited investor; or
(b) a trust (where the trustee is not an accredited
investor) whose sole purpose is to hold investments and each
beneficiary is an accredited investor,
shares, debentures and units of shares and debentures of that
corporation or the beneficiaries’ rights and interest in
that trust shall not be transferable for six months after that
corporation or that trust has acquired the ADSs under Section
275 except:
(1) to an institutional investor or to a relevant person,
or to any person pursuant to an offer that is made on terms that
such rights or interest are acquired at a consideration of not
less than $200,000 (or its equivalent in a foreign currency) for
each transaction, whether such amount is to be paid for in cash
or by exchange of securities or other assets;
(2) where no consideration is given for the
transfer; or
(3) by operation of law.
168
LEGAL
MATTERS
The validity of the ADSs and certain legal matters as to United
States federal securities and New York law will be passed upon
for us by Hogan & Hartson LLP. Certain legal matters
as to United States federal securities and New York law will be
passed upon for the underwriters by O’Melveny &
Myers LLP. The validity of the ordinary shares represented by
the ADSs offered in this offering and certain other legal
matters as to British Virgin Islands law will be passed upon for
us by Maples and Calder. Certain legal matters as to PRC law
will be passed upon for us by Commerce & Finance Law
Offices and for the underwriters by Tian Yuan Law Firm.
Hogan & Hartson LLP will rely upon
Commerce & Finance Law Offices with respect to matters
governed by PRC law. O’Melveny & Myers LLP will
rely upon Tian Yuan Law Firm with respect to matters governed by
PRC law.
169
EXPERTS
The financial statements as of December 31, 2008 and 2007
and for the years ended December 31, 2008, 2007 and 2006
included in this prospectus have been audited by Grant Thornton,
an independent registered public accounting firm, as stated in
their report appearing elsewhere in this prospectus, and have
been so included in reliance upon the report of this firm given
upon their authority as experts in accounting and auditing.
170
EXPENSES
RELATED TO THIS OFFERING
The following table sets forth an itemization of expenses,
excluding underwriting discounts and commissions, which are
expected to be incurred in connection with this offering.
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Securities and Exchange Commission registration fee
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$
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5,327
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Financial Industry Regulatory Authority, Inc. filing fee
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$
|
10,620
|
|
New York Stock Exchange listing fee
|
|
$
|
150,000
|
|
Legal fees and expenses
|
|
$
|
450,000
|
|
Accounting fees and expenses
|
|
$
|
126,000
|
|
Printing fees and expenses
|
|
$
|
350,000
|
|
Other fees and expenses
|
|
$
|
630,000
|
|
|
|
|
|
|
Total
|
|
$
|
1,721,947
|
|
|
|
|
|
|
All amounts are estimated except the Securities and Exchange
Commission registration fee and the FINRA filing fee.
171
WHERE YOU
CAN FIND MORE INFORMATION
We have filed a registration statement on
Form F-1
with the Securities and Exchange Commission for the ordinary
shares and ADSs we are offering by this prospectus. A related
registration statement on
Form F-6
has also been filed with the Securities and Exchange Commission
to register the ADSs as evidenced by the ADRs. This prospectus
does not include all of the information contained in the
registration statement. You should refer to the registration
statement and its exhibits for additional information. Whenever
we make reference in this prospectus to any of our contracts,
agreements or other documents, the references are not
necessarily complete and you should refer to the exhibits
attached to the registration statement for copies of the actual
contract, agreement or other document. When we complete this
offering, we will also be required to file annual reports on
Form 20-F
within six months of our fiscal year end, and we will submit
other reports and information under cover of
Form 6-K
with the Securities and Exchange Commission. You can read our
Securities and Exchange Commission filings, including the
registration statement, over the Internet at the Securities and
Exchange Commission’s website at
http://www.sec.gov.
You may also read and copy any document we file with the
Securities and Exchange Commission at its public reference
facilities at 100 F Street, NE, Washington, DC 20549.
You may also obtain copies of the documents at prescribed rates
by writing to the Public Reference Section of the Securities and
Exchange Commission at 100 F Street, NE, Washington,
DC 20549. Please call the Securities and Exchange Commission at
1-800-SEC-0330
for further information on the operation of the public reference
facilities.
As a foreign private issuer, we are exempt under the Exchange
Act from, among other things, the rules prescribing the
furnishing and content of proxy statements, and our executive
officers, directors and principal shareholders are exempt from
the reporting and short-swing profit recovery provisions
contained in Section 16 of the Exchange Act. In addition,
we will not be required under the Exchange Act to file periodic
reports and financial statements with the Securities and
Exchange Commission as frequently or as promptly as
U.S. companies whose securities are registered under the
Exchange Act. However, we intend to furnish the depositary with
our annual reports, which will include a review of operations
and annual audited financial statements prepared in conformity
with U.S. GAAP, and all notices of shareholders’
meetings and other reports and communications that are made
generally available to our shareholders. The depositary will
make such notices, reports and communications available to
holders of our ADSs and, upon our request, will mail to all
record holders of our ADSs the information contained in any
notice of a shareholders’ meeting received by the
depositary from us. We also intend to furnish to the Securities
and Exchange Commission under
Form 6-K
quarterly reports containing certain unaudited financial
information.
172
REPORT OF
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Shareholders
Duoyuan Global Water Inc.
We have audited the accompanying consolidated balance sheets of
Duoyuan Global Water Inc., and subsidiaries (the Company) as of
December 31, 2008 and 2007, and the related consolidated
statements of income, shareholders’ equity and cash flows
for the year ended December 31, 2008 and the related
combined and consolidated statements of income,
shareholders’/owner’s equity and cash flows for each
of the years in the two year period ended December 31, 2007.
These financial statements are the responsibility of the
Companies’ 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 included
consideration of internal control over financial reporting as a
basis for designing audit procedures that are appropriate in the
circumstances, but not for the purpose of expressing an opinion
on the effectiveness of the Company’s internal control over
financial reporting. Accordingly, we express no such opinion. An
audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating
the overall financial statement presentation. We believe that
our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated and combined and consolidated
financial statements of Duoyuan Global Water Inc. and
subsidiaries referred to above present fairly, in all material
respects, the consolidated financial position of the Company at
December 31, 2008 and 2007 and the related consolidated
statements of income, shareholders’ equity and cash flows
for the year ended December 31, 2008 and the related
combined and consolidated results of their operations, changes
in shareholders’ /owner’s equity and their cash flows
for each of the years in the two year period ended
December 31, 2007 in conformity with accounting principles
generally accepted in the United States of America.
Hong Kong
March 3, 2009, except for Note 20, as to which the
date is June 1, 2009.
F-2
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
December 31,
|
|
|
December 31,
|
|
|
|
2007
|
|
|
2008
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
ASSETS
|
|
|
|
|
|
|
|
|
|
|
|
|
CURRENT ASSETS:
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
|
|
|
28,052,825
|
|
|
|
198,518,061
|
|
|
$
|
29,097,554
|
|
Accounts receivable
|
|
|
132,408,363
|
|
|
|
137,549,786
|
|
|
|
20,161,200
|
|
Inventories, net of reserve for obsolescence
|
|
|
22,532,294
|
|
|
|
46,726,339
|
|
|
|
6,848,859
|
|
Other receivables
|
|
|
224,528
|
|
|
|
46,500
|
|
|
|
6,815
|
|
Related party receivables
|
|
|
102,010,133
|
|
|
|
—
|
|
|
|
—
|
|
Other current assets
|
|
|
—
|
|
|
|
645,376
|
|
|
|
94,595
|
|
Deposits
|
|
|
—
|
|
|
|
9,990,000
|
|
|
|
1,464,273
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total current assets
|
|
|
285,228,143
|
|
|
|
393,476,062
|
|
|
|
57,673,296
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
PLANT AND EQUIPMENT, net
|
|
|
120,525,932
|
|
|
|
117,681,359
|
|
|
|
17,249,008
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
OTHER ASSETS:
|
|
|
|
|
|
|
|
|
|
|
|
|
Prepaid leases
|
|
|
9,728,689
|
|
|
|
22,481,491
|
|
|
|
3,295,199
|
|
Deferred tax assets
|
|
|
4,759,762
|
|
|
|
4,446,899
|
|
|
|
651,799
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total other assets
|
|
|
14,488,451
|
|
|
|
26,928,390
|
|
|
|
3,946,998
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets
|
|
|
420,242,526
|
|
|
|
538,085,811
|
|
|
$
|
78,869,302
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND SHAREHOLDERS’ EQUITY
|
|
|
|
|
|
|
|
|
|
|
|
|
CURRENT LIABILITIES:
|
|
|
|
|
|
|
|
|
|
|
|
|
Notes payable
|
|
|
69,000,000
|
|
|
|
20,000,000
|
|
|
$
|
2,931,477
|
|
Accounts payable
|
|
|
19,641,355
|
|
|
|
38,696,788
|
|
|
|
5,671,937
|
|
Other payables
|
|
|
7,351,758
|
|
|
|
24,927,232
|
|
|
|
3,653,680
|
|
Related party payables
|
|
|
622,368
|
|
|
|
—
|
|
|
|
—
|
|
Taxes payable
|
|
|
13,700,637
|
|
|
|
10,768,521
|
|
|
|
1,578,383
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total current liabilities
|
|
|
110,316,118
|
|
|
|
94,392,541
|
|
|
|
13,835,477
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
SHAREHOLDERS’ EQUITY:
|
|
|
|
|
|
|
|
|
|
|
|
|
Ordinary shares, US$0.000033 par value: Authorized
shares—1,500,000,000; Issued and
outstanding—30,000,000 shares
|
|
|
7,295
|
|
|
|
7,295
|
|
|
|
1,069
|
|
Additional paid-in capital
|
|
|
132,455,705
|
|
|
|
132,455,705
|
|
|
|
19,414,541
|
|
Statutory reserves
|
|
|
20,268,552
|
|
|
|
36,413,141
|
|
|
|
5,337,214
|
|
Retained earnings
|
|
|
157,194,856
|
|
|
|
274,817,129
|
|
|
|
40,281,001
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total shareholders’ equity
|
|
|
309,926,408
|
|
|
|
443,693,270
|
|
|
|
65,033,825
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and shareholders’ equity
|
|
|
420,242,526
|
|
|
|
538,085,811
|
|
|
$
|
78,869,302
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an integral part of this statement.
F-3
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
December 31,
|
|
|
December 31,
|
|
|
December 31,
|
|
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
REVENUE
|
|
|
292,862,638
|
|
|
|
423,962,115
|
|
|
|
592,699,273
|
|
|
$
|
86,874,206
|
|
COST OF REVENUE
|
|
|
178,124,362
|
|
|
|
272,401,958
|
|
|
|
326,808,954
|
|
|
|
47,901,642
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
GROSS PROFIT
|
|
|
114,738,276
|
|
|
|
151,560,157
|
|
|
|
265,890,319
|
|
|
|
38,972,564
|
|
RESEARCH AND DEVELOPMENT EXPENSES
|
|
|
12,856,680
|
|
|
|
14,405,106
|
|
|
|
16,370,230
|
|
|
|
2,399,447
|
|
SELLING EXPENSES
|
|
|
27,672,287
|
|
|
|
30,697,853
|
|
|
|
37,076,066
|
|
|
|
5,434,381
|
|
GENERAL AND ADMINISTRATIVE EXPENSES:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
General and administrative expenses from operations
|
|
|
10,242,563
|
|
|
|
11,033,611
|
|
|
|
15,300,559
|
|
|
|
2,242,662
|
|
Public offering costs
|
|
|
—
|
|
|
|
—
|
|
|
|
20,491,002
|
|
|
|
3,003,445
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
OPERATING INCOME
|
|
|
63,966,746
|
|
|
|
95,423,587
|
|
|
|
176,652,462
|
|
|
|
25,892,629
|
|
INTEREST EXPENSE
|
|
|
7,371,761
|
|
|
|
5,759,416
|
|
|
|
3,117,818
|
|
|
|
456,991
|
|
OTHER INCOME
|
|
|
2,506,788
|
|
|
|
4,522,689
|
|
|
|
1,278,478
|
|
|
|
187,392
|
|
LOSS FROM SALE OF PROPERTY
|
|
|
—
|
|
|
|
—
|
|
|
|
3,215,744
|
|
|
|
471,344
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
INCOME FROM CONTINUING OPERATIONS BEFORE INCOME TAXES
|
|
|
59,101,773
|
|
|
|
94,186,860
|
|
|
|
171,597,378
|
|
|
|
25,151,686
|
|
PROVISION FOR INCOME TAXES
|
|
|
7,402,546
|
|
|
|
11,798,748
|
|
|
|
37,830,516
|
|
|
|
5,544,964
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
INCOME FROM CONTINUING OPERATIONS
|
|
|
51,699,227
|
|
|
|
82,388,112
|
|
|
|
133,766,862
|
|
|
|
19,606,722
|
|
DISCONTINUED OPERATIONS
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income from discontinued operations, net of taxes
|
|
|
1,113,190
|
|
|
|
401,791
|
|
|
|
—
|
|
|
|
—
|
|
Loss on sale of discontinued operations
|
|
|
—
|
|
|
|
(581,558
|
)
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
TOTAL INCOME (LOSS) FROM DISCONTINUED OPERATIONS
|
|
|
1,113,190
|
|
|
|
(179,767
|
)
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NET INCOME
|
|
|
52,812,417
|
|
|
|
82,208,345
|
|
|
|
133,766,862
|
|
|
$
|
19,606,722
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per share (basic and diluted):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from continuing operations
|
|
|
—
|
|
|
|
2.75
|
|
|
|
4.46
|
|
|
$
|
0.65
|
|
Income from discontinued operations, net of taxes
|
|
|
—
|
|
|
|
(0.01
|
)
|
|
|
—
|
|
|
|
—
|
|
Net income
|
|
|
—
|
|
|
|
2.74
|
|
|
|
4.46
|
|
|
$
|
0.65
|
|
Weighted average number of basic and diluted shares outstanding
|
|
|
—
|
|
|
|
30,000,000
|
|
|
|
30,000,000
|
|
|
|
30,000,000
|
|
The accompanying notes are an integral part of this statement.
F-4
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Additional
|
|
|
|
|
|
|
|
|
|
|
|
|
Ordinary
|
|
|
Paid-In
|
|
|
Statutory
|
|
|
Retained
|
|
|
|
|
|
|
Shares
|
|
|
Capital
|
|
|
Reserves
|
|
|
Earnings
|
|
|
Totals
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
BALANCE, January 1, 2006
|
|
|
—
|
|
|
|
132,463,000
|
|
|
|
6,080,235
|
|
|
|
36,362,411
|
|
|
|
174,905,646
|
|
Net income
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
52,812,417
|
|
|
|
52,812,417
|
|
Statutory reserves
|
|
|
—
|
|
|
|
—
|
|
|
|
5,276,021
|
|
|
|
(5,276,021
|
)
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
BALANCE, December 31, 2006
|
|
|
—
|
|
|
|
132,463,000
|
|
|
|
11,356,256
|
|
|
|
83,898,807
|
|
|
|
227,718,063
|
|
Net income
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
82,208,345
|
|
|
|
82,208,345
|
|
Statutory reserves
|
|
|
—
|
|
|
|
—
|
|
|
|
8,912,296
|
|
|
|
(8,912,296
|
)
|
|
|
—
|
|
Issuance of 30,000,000 shares
|
|
|
7,295
|
|
|
|
(7,295
|
)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
BALANCE, December 31, 2007
|
|
|
7,295
|
|
|
|
132,455,705
|
|
|
|
20,268,552
|
|
|
|
157,194,856
|
|
|
|
309,926,408
|
|
Net income
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
133,766,862
|
|
|
|
133,766,862
|
|
Statutory reserves
|
|
|
—
|
|
|
|
—
|
|
|
|
16,144,589
|
|
|
|
(16,144,589
|
)
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
BALANCE, December 31, 2008
|
|
|
7,295
|
|
|
|
132,455,705
|
|
|
|
36,413,141
|
|
|
|
274,817,129
|
|
|
|
443,693,270
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
BALANCE, December 31, 2008 (US$)
|
|
$
|
1,069
|
|
|
$
|
19,414,541
|
|
|
$
|
5,337,214
|
|
|
$
|
40,281,001
|
|
|
$
|
65,033,825
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an integral part of this statement.
F-5
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
December 31,
|
|
|
December 31,
|
|
|
December 31,
|
|
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
CASH FLOWS FROM OPERATING ACTIVITIES:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
|
52,812,417
|
|
|
|
82,208,345
|
|
|
|
133,766,862
|
|
|
$
|
19,606,722
|
|
Less: Net income from discontinued operations
|
|
|
1,113,190
|
|
|
|
(179,767
|
)
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income from continuing operations
|
|
|
51,699,227
|
|
|
|
82,388,112
|
|
|
|
133,766,862
|
|
|
|
19,606,722
|
|
Adjustments to reconcile net income to cash provided by (used
in) operating activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation
|
|
|
7,872,915
|
|
|
|
8,254,977
|
|
|
|
8,711,905
|
|
|
|
1,276,937
|
|
Amortization
|
|
|
245,835
|
|
|
|
245,833
|
|
|
|
384,756
|
|
|
|
56,395
|
|
Loss from sale of property
|
|
|
—
|
|
|
|
—
|
|
|
|
3,215,744
|
|
|
|
471,344
|
|
(Increase) decrease in assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts receivable
|
|
|
(12,460,201
|
)
|
|
|
(41,102,815
|
)
|
|
|
(5,141,423
|
)
|
|
|
(753,598
|
)
|
Inventories
|
|
|
(11,057,502
|
)
|
|
|
40,123,010
|
|
|
|
(24,194,045
|
)
|
|
|
(3,546,214
|
)
|
Other receivables
|
|
|
1,802,653
|
|
|
|
2,206,304
|
|
|
|
178,028
|
|
|
|
26,094
|
|
Related party receivables
|
|
|
(1,930,070
|
)
|
|
|
(58,539,020
|
)
|
|
|
102,010,133
|
|
|
|
14,952,017
|
|
Deposits
|
|
|
231,515
|
|
|
|
1,143,085
|
|
|
|
(9,990,000
|
)
|
|
|
(1,464,273
|
)
|
Other current assets
|
|
|
—
|
|
|
|
—
|
|
|
|
(645,376
|
)
|
|
|
(94,595
|
)
|
Costs in excess over billings on uncompleted contracts
|
|
|
4,114,932
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Deferred tax assets
|
|
|
(1,087,919
|
)
|
|
|
(101,974
|
)
|
|
|
312,863
|
|
|
|
45,857
|
|
Other non-current assets
|
|
|
(3,500,000
|
)
|
|
|
3,500,000
|
|
|
|
—
|
|
|
|
—
|
|
Increase (decrease) in liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts payable
|
|
|
(11,873,428
|
)
|
|
|
11,528,690
|
|
|
|
19,055,433
|
|
|
|
2,793,028
|
|
Advances from customers
|
|
|
(4,020,858
|
)
|
|
|
(3,893,249
|
)
|
|
|
—
|
|
|
|
—
|
|
Deferred tax liabilities
|
|
|
475,429
|
|
|
|
(742,415
|
)
|
|
|
—
|
|
|
|
—
|
|
Other payables
|
|
|
1,675,293
|
|
|
|
(2,069,639
|
)
|
|
|
17,575,474
|
|
|
|
2,576,105
|
|
Related party payables
|
|
|
—
|
|
|
|
622,368
|
|
|
|
(622,368
|
)
|
|
|
(91,223
|
)
|
Taxes payable
|
|
|
8,015,036
|
|
|
|
3,088,475
|
|
|
|
(2,932,116
|
)
|
|
|
(429,771
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating cash flows provided by continuing operations
|
|
|
30,202,857
|
|
|
|
46,651,742
|
|
|
|
241,685,870
|
|
|
|
35,424,825
|
|
Discontinued operations
|
|
|
582,429
|
|
|
|
25,417,970
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cash flows provided by operating activities
|
|
|
30,785,286
|
|
|
|
72,069,712
|
|
|
|
241,685,870
|
|
|
|
35,424,825
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM INVESTING ACTIVITIES:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Purchase of building
|
|
|
—
|
|
|
|
—
|
|
|
|
(6,020,634
|
)
|
|
|
(882,467
|
)
|
Purchase of equipment
|
|
|
—
|
|
|
|
(38,941,600
|
)
|
|
|
(16,200,000
|
)
|
|
|
(2,374,496
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total investing cash flows used in continuing operations
|
|
|
—
|
|
|
|
(38,941,600
|
)
|
|
|
(22,220,634
|
)
|
|
|
(3,256,963
|
)
|
Discontinued operations
|
|
|
—
|
|
|
|
1,911,057
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cash flows used in investing activities
|
|
|
—
|
|
|
|
(37,030,543
|
)
|
|
|
(22,220,634
|
)
|
|
|
(3,256,963
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM FINANCING ACTIVITIES:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds from short-term notes
|
|
|
109,000,000
|
|
|
|
69,000,000
|
|
|
|
20,000,000
|
|
|
|
2,931,477
|
|
Repayments on short-term notes
|
|
|
(145,000,000
|
)
|
|
|
(84,000,000
|
)
|
|
|
(69,000,000
|
)
|
|
|
(10,113,595
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cash flows used in financing activities
|
|
|
(36,000,000
|
)
|
|
|
(15,000,000
|
)
|
|
|
(49,000,000
|
)
|
|
|
(7,182,118
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NET INCREASE IN CASH OF DISCONTINUED OPERATIONS
|
|
|
(155,651
|
)
|
|
|
583,524
|
|
|
|
—
|
|
|
|
—
|
|
INCREASE IN CASH
|
|
|
(5,370,365
|
)
|
|
|
20,622,693
|
|
|
|
170,465,236
|
|
|
|
24,985,744
|
|
CASH, beginning of period
|
|
|
12,800,497
|
|
|
|
7,430,132
|
|
|
|
28,052,825
|
|
|
|
4,111,810
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH, end of period
|
|
|
7,430,132
|
|
|
|
28,052,825
|
|
|
|
198,518,061
|
|
|
$
|
29,097,554
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an integral part of this statement.
F-6
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
|
|
Note 1—
|
Organization
and description of business
|
Duoyuan Global Water Inc. (the “Company”), indirectly
wholly owned by Wenhua Guo, was incorporated under the laws of
the British Virgin Islands on June 21, 2007, as a holding
company to acquire Duoyuan Clean Water Technology Industries
(China) Co., Ltd. (“Duoyuan Beijing”) and Duoyuan
Water Treatment Equipment Manufacturing (Langfang) Co., Ltd.
(“Duoyuan Langfang”) from Hydroresource Technology
Limited (“HTL”), a company solely owned by Wenhua Guo
which owned 100% of the equity interest of Duoyuan Beijing and
100% of the equity interest of Duoyuan Langfang. Under its
Memorandum of Association, the Company is authorized to issue a
maximum of 1,500,000,000 ordinary shares with a par value of
$0.000033. Duoyuan Beijing and Duoyuan Langfang became the
wholly-owned subsidiaries of the Company (collectively referred
to as the “Group”) on September 3, 2007 and
November 29, 2007, respectively.
Prior to the dates in 2007 that Duoyuan Beijing and Duoyuan
Langfang were acquired by the Company, the accompanying combined
financial statements combine the statements of income,
owner’s equity and cash flows of these companies. As of the
acquisition dates noted above, the companies became subsidiaries
of the Company, resulting in the financial statements of Duoyuan
Beijing and Duoyuan Langfang being consolidated with the
financial statements of the Company.
The Group’s business operations are all conducted in the
People’s Republic of China (“PRC”).
Duoyuan Beijing is located in Beijing and was first established
on April 7, 1992, and approved by the People’s
Government of Chongwen District, Beijing, to do business in
China. Duoyuan Beijing’s principal business activities
include the marketing, sales and service of water environment
protection equipment and water treatment products.
Duoyuan Langfang is located in the city of Langfang, which is in
the province of Hebei, China. Its principal business activities
include the development, manufacturing and after-sale service of
water environment protection equipment and water treatment
equipment. Duoyuan Langfang was established on June 22,
2000, and approved by the Management Committee of the Langfang
Economic & Technical Development Zone to do business
in China.
Huanan Duoyuan Water Supply Co., Ltd. (“Duoyuan
Huanan”) is located in Huanan County in the province of
Heilongjiang, China. It is primarily engaged in the
construction, operations and service of local tap water
supplying systems. Registered with Huanan County Administration
for Industrial and Commerce, Duoyuan Huanan was established on
November 15, 2002. On July 1, 2007, Duoyuan Beijing
and Duoyuan Langfang sold their respective 50% ownership
interests in Duoyuan Huanan to Duoyuan Asian Water Inc., wholly
owned by Wenhua Guo, thereby making Duoyuan Huanan a
discontinued operation for all periods presented (see
Note 15).
F-7
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
|
|
Note 2—
|
Summary
of significant accounting policies
|
Basis of
presentation
The accompanying combined and consolidated financial statements
have been prepared by the Group in accordance with accounting
principles generally accepted in the United States of America
(“US GAAP”). As discussed in Notes 1 and 15, the
results of operations and cash flows of Duoyuan Huanan have been
reported as a discontinued operation for all periods presented.
Unless otherwise indicated, all disclosures in the notes to the
combined and consolidated financial statements relate to
continuing operations.
Basis of
combination and consolidation
The combined and consolidated financial statements include the
combined revenues, expenses and cash flows of Duoyuan Beijing
and Duoyuan Langfang at and for the year ended December 31,
2006 and on a consolidated basis since the dates the companies
became subsidiaries of the Company (see Note 1). All
intercompany transactions and balances have been eliminated in
combination and consolidation.
Transfer
of net assets
Statement of Financial Accounting Standards No. 141
(SFAS 141), “Business Combinations” describes the
method of accounting for a transfer of assets or exchange of
shares between entities under common control. The entity that
receives the net assets or the equity interests shall initially
recognize the assets and liabilities transferred at their
carrying amounts in the accounts of the transferring entity at
the date of transfer. Since the Company and HTL are both under
the common control of Wenhua Guo, the assets and liabilities of
Duoyuan Beijing and Duoyuan Langfang were transferred at their
respective carrying amounts at the date of transfer as discussed
in Note 1.
Use of
estimates
The preparation of financial statements in conformity with US
GAAP requires management to make estimates and assumptions that
affect the amounts reported in the combined and consolidated
financial statements and accompanying notes. Significant
accounting estimates reflected in the combined and consolidated
financial statements include the reserve for doubtful accounts
receivable, reserve for inventory obsolescence, the useful lives
of and impairment of fixed assets and prepaid leases, reserve
for warranty costs and valuation of deferred tax assets.
Management believes that the estimates utilized in preparing its
financial statements are reasonable and prudent. Actual results
could differ from these estimates.
Convenience
translation
The Group’s functional currency is RMB. The Group maintains
its financial statements in the functional currency.
Translations of amounts from RMB into US dollars are solely for
the convenience of the
F-8
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
reader and were calculated at the rate of US$1.00 = RMB6.8225,
representing the noon buying rate in the City of New York for
cable transfers of RMB, intended to imply that the RMB amounts
could have been, or could be, converted, realized or settled
into US dollars at that rate on December 31, 2008.
Cash and
concentration of risk
Cash includes cash on hand and demand deposits in accounts
maintained with state-owned banks within the PRC. Total cash at
December 31, 2007 and 2008, amounted to RMB28,052,825 and
RMB198,518,061 ($29,097,554), respectively of which no deposits
are covered by insurance. The Group has not experienced any
losses in such accounts and believes that it is not exposed to
any risks on its cash in bank accounts.
Accounts
receivable, trade and allowance for doubtful accounts
The Group’s business operations are conducted in the PRC.
During the normal course of business, the Group extends
unsecured credit to its customers. Management reviews its
accounts receivables quarterly and determines the amount of
allowances, if any, necessary for doubtful accounts. Based upon
its reviews, management does not believe, for any dates
presented, that an allowance for doubtful accounts is required.
The changes in the allowance for doubtful accounts are
summarized as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended
December 31,
|
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Balance at beginning of year
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Additions (charged to expense)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Adjustments
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Deductions
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at end of year
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Inventories
Inventories are stated at the lower of cost or market value.
Cost is determined using the weighted average method.
The Group reviews its inventory on an annual basis for possible
obsolescence of its raw materials to determine if a provision
for obsolescence is necessary. A reserve for obsolescence of
RMB646,716 and RMB128,128 ($18,780) was provided at
December 31, 2007 and 2008, respectively.
F-9
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
Plant and
equipment
Plant and equipment are stated at cost less accumulated
depreciation. Depreciation is computed using the straight-line
method over the estimated useful lives of the assets. Estimated
useful lives of the assets are as follows:
|
|
|
|
|
|
|
Buildings and leasehold improvements
|
|
|
5-30
|
|
|
Years
|
Machinery and equipment
|
|
|
5-20
|
|
|
Years
|
Other equipment
|
|
|
5-10
|
|
|
Years
|
Furniture and fixtures
|
|
|
2-10
|
|
|
Years
|
Motor vehicles
|
|
|
5
|
|
|
Years
|
Maintenance, repairs and minor renewals are charged directly to
expenses as incurred. Maintenance, repairs and minor renewals
expenses charged to expense amounted to RMB599,274, RMB182,726
and RMB379,155 ($55,574) for 2006, 2007 and 2008, respectively.
Major additions and betterments to property and equipment are
capitalized.
The cost and related accumulated depreciation and amortization
of assets sold or otherwise retired are eliminated from the
accounts and any gain or loss is included in the statement of
income.
Long-lived
assets
In accordance with Statement of Financial Accounting Standards
No. 144 (SFAS 144), “Impairment of Disposal of
Long-Lived Assets,” the Group evaluates the carrying value
of long-lived assets whenever significant events or changes in
circumstances indicate the carrying value of these assets may be
impaired. The Group evaluates potential impairment of long-lived
assets by comparing the carrying value of the assets to the
expected net future cash flows resulting from the use of the
assets.
Intangible
assets
All land in the PRC is owned by the government and cannot be
sold to any individual or company. However, the government
grants the user a “land use right” to use the land.
The Group has the right to use the land for 50 years and is
being amortized over the period of use granted by the government
using the straight-line method.
Fair
value of financial instruments
Statement of Financial Accounting Standards No. 107
(SFAS 107), “Disclosures about Fair Value of Financial
Instruments” requires disclosure of the fair value of
financial instruments held by the Group. SFAS 107 defines
the fair value of financial instruments as the amount at which
the instrument could be exchanged in a current transaction
between willing parties. The Group considers the carrying amount
of cash, accounts receivable, other receivables, related parties
receivables, deposits, other assets, accounts payable, other
payables, related party payables, and notes payable to
approximate their fair values
F-10
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
because of the short period of time between the origination of
such instruments and their expected realization and their
current market rates of interest.
Revenue
recognition
The Group recognizes revenue when persuasive evidence of an
arrangement exists, delivery has occurred, the price to the
customer is fixed or determinable, and collectibility of payment
is reasonably assured. Customers do not have the right to
return. Accordingly, the Group recognizes revenue upon
documentary evidence of shipment for goods.
While the Group provides after-sales support and services, these
services are not part of the contractual terms in selling or
delivering its products and the services do not have standalone
value to the customers. Accordingly, the Group does not account
for the services as a separate unit of accounting per
EITF 00-21
and does not recognize revenue associated with the support and
services.
During 2006, the Group accounted for long-term construction
projects using the completed contract method of accounting which
recorded results that were not materially different from using
the percentage of completion method of accounting. There were no
long-term construction contracts in progress during 2007 and
2008.
Sales revenue represents the invoiced value of goods, net of a
value-added tax (“VAT”). All of the Group’s
products that are sold in the PRC are subject to a Chinese VAT
at a rate of 17% of the gross sales price or at a rate approved
by the Chinese local government. This VAT may be offset by VAT
paid by the Group on raw materials and other materials included
in the cost of producing its finished product. The VAT amounts
paid and available for offset are maintained in current
liabilities.
The Group provides annual sales rebates to its distributors
based upon payments of accounts receivable received from its
distributors for sales made to them. Sales rebates are recorded
as a current liability at the time of the sale based upon the
percentage of sales rebate that each distributor is estimated to
earn for the year. At year-end, the accrued rebate amount is
adjusted to the actual amount earned. Sales rebates are deducted
from revenues in the accompanying combined and consolidated
statements of income.
Beginning January 26, 2008, the Group began to sell certain
spare parts that previously were given to the distributors free
of charge. Revenue from the sale of spare parts is recorded at
the time of shipment. Revenue for spare parts amounted to
RMB8,717,088 ($1,277,697) for the year ended December 31,
2008.
Warranty
costs
The Group generally warrants its products against defects for
the initial six (6) months period of use for small
equipment to one (1) year for large equipment. Warranty
costs are accrued in other payables based upon an expectation of
such costs. Management reviews its warranty costs on a quarterly
basis and determines the amount of warranty reserve based upon a
review of historical warranty costs. A reserve for warranty
costs of RMB2,200,000 ($322,462) has been established at
December 31, 2008.
F-11
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
Advertising
costs
The Group expenses the cost of advertising as incurred in
selling costs. Advertising costs were RMB10,366,441,
RMB11,111,300 and RMB14,000,000 ($2,052,034) for the years ended
December 31, 2006, 2007 and 2008, respectively.
Research
and development costs
Research and development costs are expensed as incurred in
research and development costs. Research and development
expenses amounted to RMB12,856,680, RMB14,405,106 and
RMB16,370,230 ($2,399,447) for the years ended December 31,
2006, 2007 and 2008, respectively.
Shipping
and handling costs
Shipping and handling costs are expensed as incurred in cost of
revenue. Shipping and handling expenses were RMB5,334,554,
RMB7,861,205 and RMB13,130,790 ($1,924,630) for the years ended
December 31, 2006, 2007 and 2008, respectively.
Major
suppliers
For the years ended December 31, 2006, 2007 and 2008, the
following number of suppliers accounted for more than 10% of the
Group’s purchases: one at 27% in 2006, one at 22% in 2007
and three at 11%, 14% and 19% in 2008. In the event that these
suppliers are not available, alternative suppliers are readily
available.
Earnings
per share
The Group reports earnings per share in accordance with the
provisions of Statement of Financial Accounting Standards
No. 128 (SFAS 128), “Earnings Per Share.”
SFAS 128 requires presentation of basic and diluted
earnings per share in conjunction with the disclosure of the
methodology used in computing such earnings per share.
Basic earnings per share are computed by dividing income
available to common shareholders by the weighted average common
shares outstanding during the period. Diluted earnings per share
take into account the potential dilution that could occur if
securities or other contracts to issue common stock were
exercised and converted into common stock.
Income
taxes
The Group reports under the provisions of Statement of Financial
Accounting Standards No. 109 (SFAS 109),
“Accounting for Income Taxes”, which require an asset
and liability approach to financial accounting and reporting for
income taxes. Deferred income tax assets and liabilities are
computed annually for differences between the financial
statement and tax bases of assets and liabilities that will
result in taxable or deductible amounts in the future based on
enacted tax laws and rates applicable to the periods in which
the differences are expected to affect taxable income. Valuation
allowances are
F-12
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
established when necessary to reduce deferred tax assets to the
amounts expected to be realized. Income tax expense is the tax
payable or refundable for the period plus or minus the change
during the period in deferred tax assets and liabilities.
The Group adopted Financial Accounting Standards Board
(“FASB”) Interpretation No. 48, “Accounting
for Uncertainty in Income Taxes—an Interpretation of FASB
Statement No. 109” (FIN 48), as of
January 1, 2007. A tax position is recognized as a benefit
only if it is “more likely than not” that the tax
position would be sustained in a tax examination, with a tax
examination being presumed to occur. The amount recognized is
the largest amount of tax benefit that is greater than 50%
likely of being realized on examination. For tax positions not
meeting the “more likely than not” test, no tax
benefit is recorded. At the adoption date, the Group applied
FIN 48 to all tax positions for which the statute of
limitations remained open. The Group recognized a liability of
approximately RMB1.2 million ($176,222) for unrecognized
tax benefits in 2007 and 2008. There were no tax positions
subject to FIN 48 considerations prior to 2007. The Group
has elected to record any future interest or penalties from the
uncertain tax position as income tax expense.
Recently
issued accounting pronouncements
In June 2006, the Emerging Issues Task Force (EITF) reached a
consensus on EITF
No. 06-3,
How Taxes Collected from Customers and Remitted to Governmental
Authorities Should Be Presented in the Income Statement (EITF
No. 06-3).
EITF
No. 06-3
permits that such taxes may be presented on either a gross basis
or a net basis as long as that presentation is used
consistently. The Group’s adoption of EITF
No. 06-3
on January 1, 2007 did not impact its consolidated
financial statements. The Group presents the taxes within the
scope of EITF
No. 06-3
on a net basis.
In September 2006, the FASB issued Statement of Financial
Accounting Standards No. 157 (SFAS 157), “Fair
Value Measurements” which addresses the measurement of fair
value by companies when they are required to use a fair value
measure for recognition or disclosure purposes under US GAAP.
SFAS 157 provides a common definition of fair value to be
used throughout US GAAP which is intended to make the
measurement of fair value more consistent and comparable and
improve disclosures about those measures. SFAS 157 was
implemented as of January 1, 2008 and did not have any
effect on the Group’s consolidated financial position,
liquidity, or results of operations.
In February 2007, the FASB issued Statement of Financial
Accounting Standards No. 159 (SFAS 159), “The
Fair Value Option for Financial Assets and Financial
Liabilities—including an amendment of FASB Statement
No. 115”. SFAS 159 permits companies to choose to
measure many financial instruments and certain other items at
fair value that are not currently required to be measured at
fair value. The objective of SFAS 159 is to provide
opportunities to mitigate volatility in reported earnings caused
by measuring related assets and liabilities differently without
having to apply hedge accounting provisions. SFAS 159 also
establishes presentation and disclosure requirements designed to
facilitate comparisons between companies that choose different
measurement attributes for similar types of assets and
liabilities. SFAS 159 will be effective in the first
quarter of fiscal 2009. The Group has determined that this
statement will not have a material effect on its consolidated
financial statements.
In December 2007, the FASB issued Statement of Financial
Accounting Standards No. 141(R) (SFAS 141R),
“Business Combinations”. SFAS 141R retains the
fundamental requirements in SFAS 141 that the acquisition
method of accounting (which SFAS 141 called the purchase
method) be used for all
F-13
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
business combinations and for an acquirer to be identified for
each business combination. SFAS 141R also establishes
principles and requirements for how the acquirer:
(a) recognizes and measures in its financial statements the
identifiable assets acquired, the liabilities assumed, and any
non-controlling interest in the acquiree; (b) improves the
completeness of the information reported about a business
combination by changing the requirements for recognizing assets
acquired and liabilities assumed arising from contingencies;
(c) recognizes and measures the goodwill acquired in the
business combination or a gain from a bargain purchase; and
(d) determines what information to disclose to enable users
of the financial statements to evaluate the nature and financial
effects of the business combination. SFAS 141R applies
prospectively to business combinations for which the acquisition
date is on or after the beginning of the first annual reporting
period beginning on or after December 15, 2008 (for
acquisitions closed on or after January 1, 2009 for the
Group). Early application is not permitted. Since the
application of SFAS 141R is effective prospectively, the
Group has determined that SFAS 141R will not have a
material effect on its consolidated financial statements for any
period prior to December 31, 2008.
In December 2007, the FASB issued Statement of Financial
Accounting Standards No. 160 (SFAS 160),
“Noncontrolling Interests in Consolidated Financial
Statements—an amendment of ARB No. 51” which
requires all entities to report noncontrolling interests
(previously referred to as minority interests) in subsidiaries
as a separate component of equity in the consolidated financial
statements. Moreover, SFAS 160 eliminates the diversity
that currently exists in accounting for transactions between an
entity and noncontrolling interests by requiring they be treated
as equity transactions. SFAS 160 is effective for fiscal
years beginning after December 15, 2008. The Group has
determined that the adoption of this standard will not have a
material effect on its consolidated financial statements.
Note 3—Inventories
Inventories consist of the following:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31,
|
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Raw materials
|
|
|
15,736,718
|
|
|
|
40,525,410
|
|
|
$
|
5,939,965
|
|
Work in process
|
|
|
1,706,685
|
|
|
|
—
|
|
|
|
—
|
|
Finished goods
|
|
|
5,735,607
|
|
|
|
6,329,057
|
|
|
|
927,674
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
23,179,010
|
|
|
|
46,854,467
|
|
|
|
6,867,639
|
|
Reserve for obsolescence
|
|
|
(646,716
|
)
|
|
|
(128,128
|
)
|
|
|
(18,780
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net total
|
|
|
22,532,294
|
|
|
|
46,726,339
|
|
|
$
|
6,848,859
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
F-14
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
The changes in the reserve for obsolete inventory account are
summarized as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended
December 31,
|
|
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Balance at beginning of year
|
|
|
856,145
|
|
|
|
646,716
|
|
|
|
646,716
|
|
|
$
|
94,792
|
|
Deductions
|
|
|
(209,429
|
)
|
|
|
—
|
|
|
|
(518,588
|
)
|
|
|
(76,012
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at end of year
|
|
|
646,716
|
|
|
|
646,716
|
|
|
|
128,128
|
|
|
$
|
18,780
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Note 4—Property
and equipment
Plant and equipment net, consist of the following:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31,
|
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Buildings
|
|
|
109,545,358
|
|
|
|
91,388,689
|
|
|
$
|
13,395,191
|
|
Leasehold Improvements
|
|
|
10,167,654
|
|
|
|
150,000
|
|
|
|
21,986
|
|
Plant and machinery
|
|
|
30,249,471
|
|
|
|
46,419,371
|
|
|
|
6,803,865
|
|
Office equipment
|
|
|
14,378,593
|
|
|
|
10,914,960
|
|
|
|
1,599,847
|
|
Motor vehicles
|
|
|
2,362,573
|
|
|
|
2,250,238
|
|
|
|
329,826
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
166,703,649
|
|
|
|
151,123,258
|
|
|
|
22,150,715
|
|
Less: accumulated depreciation
|
|
|
(46,177,717
|
)
|
|
|
(33,441,899
|
)
|
|
|
(4,901,707
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Plant and equipment, net
|
|
|
120,525,932
|
|
|
|
117,681,359
|
|
|
$
|
17,249,008
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The depreciation expense for the years ended December 31,
2006, 2007 and 2008, amounted to RMB7,872,915, RMB8,254,977 and
RMB8,711,905 ($1,276,937), respectively.
The land use rights consist of the following:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31,
|
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Land use rights
|
|
|
11,028,840
|
|
|
|
23,000,000
|
|
|
$
|
3,371,198
|
|
Less: accumulated amortization
|
|
|
(1,300,151
|
)
|
|
|
(518,509
|
)
|
|
|
(75,999
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Prepaid leases, net
|
|
|
9,728,689
|
|
|
|
22,481,491
|
|
|
$
|
3,295,199
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total amortization expense for the years ended December 31,
2006, 2007 and 2008, amounted to RMB245,835, RMB245,833 and
RMB384,756 ($56,395), respectively. The expected amortization
expense for the next five years is RMB523,685 ($76,759) each
year.
F-15
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
|
|
Note 6—
|
Supplemental
disclosure of cash flow information
|
Interest expense paid amounted to RMB7,371,761, RMB5,759,416 and
RMB3,117,818 ($456,991) for the years ended December 31,
2006, 2007 and 2008, respectively.
Income tax payments amounted to nil, RMB10,612,162 and
RMB40,449,769 ($5,928,878) for the periods ended
December 31, 2006, 2007 and 2008, respectively. Taxes paid
in 2007 were related to taxes due for 2005 and 2006. Taxes paid
in 2008 were related to taxes due for 2007 and the first three
quarters of 2008.
Deposits are monies advanced to a vendor for construction of a
production line.
|
|
Note 8—
|
Related
party transactions
|
Wenhua Guo has control and ownership in various entities which
are described in this note and other notes to the financial
statements. Management believes that all transactions with these
related parties are at arms length. The Group’s related
party balances consist of the following:
Amounts
due from related parties
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31,
|
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Duoyuan Asian Water Inc.
|
|
|
13,114,046
|
|
|
|
—
|
|
|
$
|
—
|
|
Duoyuan Digital Printing Technology Industry (China) Co.,
Ltd.
|
|
|
281,037
|
|
|
|
—
|
|
|
|
—
|
|
Duoyuan Information Terminal Manufacture (Langfang) Co.,
Ltd.
|
|
|
44,781,037
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
58,176,120
|
|
|
|
—
|
|
|
$
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The related party receivable from Duoyuan Asian Water Inc.
(“Duoyuan Asian Water”) at December 31, 2007 was
principally composed of the balance due as a result of the
Group’s sale of Duoyuan Huanan to Duoyuan Asian Water (see
Note 15).
The related party receivable from Duoyuan Digital Printing
Technology Industry (China) Co., Ltd. (“Duoyuan Digital
Printing”) at December 31, 2007 represented office
rental payments due.
The related party receivable from Duoyuan Information Terminal
Manufacture (Langfang) Co., Ltd. (“Duoyuan Facsimile”)
at December 31, 2007 represented an amount of RMB281,037
($41,193) paid to Duoyuan Facsimile as a deposit for office
rental and also included an amount of RMB44,500,000 ($6,522,536)
paid to Duoyuan Facsimile as a deposit to acquire a building and
land use right.
F-16
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
The Group did not charge interest on these receivables. The
related party receivables from Duoyuan Asian Water, Duoyuan
Digital Printing and Duoyuan Facsimile that were outstanding at
December 31, 2007 were received in full on March 28,
2008, February 4, 2008 and June 19, 2008, respectively.
Amounts
due from a director
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31,
|
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Wenhua Guo
|
|
|
43,834,013
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
43,834,013
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The related party receivable from Wenhua Guo at
December 31, 2007 was based upon the following two
agreements. On December 10, 2007, Wenhua Guo entered into a
loan repayment agreement (“Agreement 1”) with Duoyuan
Digital Technology Institute (“Beijing Huiyuan”) and
Duoyuan Beijing as of December 31, 2007 to repay Beijing
Huiyuan’s obligation to Duoyuan Beijing that at the time
amounted to RMB27,363,962 ($4,010,841). This obligation was
collateralized by a pledge of Wenhua Guo’s personal shares
in Asian Financial Inc., a public company. The Group did not
charge interest on this receivable.
Similarly, on December 12, 2007, Wenhua Guo entered into a
loan repayment agreement (“Agreement 2”) with Duoyuan
Huanan and Duoyuan Beijing to repay Duoyuan Huanan’s
obligation to Duoyuan Beijing that at the time amounted to
RMB17,040,051 ($2,497,626). This obligation was also
collateralized by a pledge of Wenhua Guo’s personal shares
in Asian Financial Inc., a public company. In December 2007,
RMB570,000 ($83,547) in interest was paid towards this
obligation thereby reducing the Group’s related party
receivable balance from Agreement 2 to RMB16,470,051
($2,414,079) at December 31, 2007. These obligations were
settled by March 31, 2008.
Amounts
due to a related party
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31,
|
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Duoyuan Investments Limited
|
|
|
622,368
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
622,368
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The related party payable to Duoyuan Investments Limited at
December 31, 2007 primarily represented auditing fees paid
on behalf of the Group by Duoyuan Investments Limited. The Group
settled this obligation on September 25, 2008.
F-17
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
Other
related party transactions
On December 25, 2006, Duoyuan Langfang entered into a
purchase agreement with Duoyuan Facsimile to acquire a building
and land use right (“Property A”) from Duoyuan
Facsimile for RMB75,600,000 ($11,080,982). On August 3,
2007, Duoyuan Beijing entered into a sales agreement with
Duoyuan Facsimile to sell the building and land use right
(“Property B”) of Duoyuan Beijing to Duoyuan Facsimile
for RMB75,700,000 ($11,095,639). By virtue of the two above
agreements, the Group and Duoyuan Facsimile entered into a
related party agreement to transfer properties to one another.
As of December 31, 2007, a deposit of RMB44,500,000
($6,522,536) was paid to Duoyuan Facsimile by Duoyuan Langfang
for Property A. That amount was returned to the Group by Duoyuan
Facsimile before June 28, 2008, as the agreed upon prices
of the properties involved were nearly identical. Further, there
were no net material gains or losses arising from the properties
transferred as the respective net book values of the properties
were similar. Independent appraisals performed on said
properties and reported on December 24, 2007 valued
Property A and Property B at RMB75,600,000 and RMB75,700,000,
respectively. The transfer of properties between the Group and
Duoyuan Facsimile was made effective on June 18, 2008 upon
approval of the local governments.
On December 1, 2007, Duoyuan Beijing entered into certain
agreements to transfer all of its trademarks to Duoyuan
Investments Limited, the Group’s majority shareholder.
Final regulatory approval of the transfer was completed in
October 2008. In turn, Duoyuan Investments Limited will grant
the Group exclusive, royalty-free perpetual licenses to use and
to sublicense these trademarks.
Following the transfer of properties between the Group and
Duoyuan Facsimile, the Group entered into an agreement with
Duoyuan Facsimile, effective July 1, 2008, to lease office
space at the Beijing property for RMB93,679 ($13,731) each
month, to be paid quarterly. The lease agreement is set to
expire on December 31, 2009, at which time the agreement
can be renewed for another one-year term. The Group has the
option to renew the lease agreement every year for a period of
one year.
On February 5, 2008, the Company and Wenhua Guo were
parties to a share purchase agreement (the
“Agreement”) between Duoyuan Investments Limited (the
“Seller”), a British Virgin Island company wholly
owned by Wenhua Guo that owns 100% of the Company, and GEEMF III
Holdings MU (the “Buyer”), a private company organized
under the laws of the Republic of Mauritius. Upon the terms and
conditions of the Agreement, the Seller sold 6,000,000 ordinary
shares in the Company, representing a 20% equity interest, to
the Buyer for an aggregate cash purchase price to the Seller of
$16,100,000, plus a potential earn-out payment payable to the
Seller if certain financial and non-financial milestones with
respect to the Company are reached in 2008.
Other related party transactions are described in Note 15.
F-18
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
Notes payable represent amounts due to one bank. The notes
consist of the following:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31,
|
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Loan amount from Bank of Agriculture
|
|
|
20,000,000
|
|
|
|
20,000,000
|
|
|
$
|
2,931,477
|
|
Maturity date
|
|
|
January 18, 2008
|
|
|
January 16, 2009
|
Interest rate per annum, paid quarterly
|
|
|
6.732
|
%
|
|
8.217%
|
Loan amount from Bank of Agriculture
|
|
|
29,000,000
|
|
|
|
|
|
|
|
|
|
Maturity date
|
|
|
February 6, 2008
|
|
|
|
|
|
|
|
|
|
Interest rate per annum, paid quarterly
|
|
|
6.732
|
%
|
|
|
|
|
|
|
|
|
Loan amount from Bank of Agriculture
|
|
|
20,000,000
|
|
|
|
|
|
|
|
|
|
Maturity date
|
|
|
September 20, 2008
|
|
|
|
|
|
|
|
|
|
Interest rate per annum, paid quarterly
|
|
|
8.019
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
69,000,000
|
|
|
|
20,000,000
|
|
|
$
|
2,931,477
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
All notes are secured by real estate owned by Duoyuan Facsimile,
a related party, following the properties transfer between the
Group and Duoyuan Facsimile. The note payable at
December 31, 2008 was paid in full by the Group on its
maturity date of January 16, 2009.
Other payables consist of the following:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31,
|
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Professional fees payable for public offering
|
|
|
—
|
|
|
|
14,141,518
|
|
|
$
|
2,072,777
|
|
Housing fund payable
|
|
|
5,865,350
|
|
|
|
5,865,350
|
|
|
|
859,707
|
|
Warranty reserve
|
|
|
—
|
|
|
|
2,200,000
|
|
|
|
322,462
|
|
Others
|
|
|
1,486,408
|
|
|
|
2,720,364
|
|
|
|
398,734
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
7,351,758
|
|
|
|
24,927,232
|
|
|
$
|
3,653,680
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
F-19
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
Other income consists of the following:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31,
|
|
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Interest income
|
|
|
1,239,698
|
|
|
|
1,318,405
|
|
|
|
743,735
|
|
|
$
|
109,012
|
|
Rental income
|
|
|
1,124,149
|
|
|
|
3,204,284
|
|
|
|
533,971
|
|
|
|
78,267
|
|
Others
|
|
|
142,941
|
|
|
|
—
|
|
|
|
772
|
|
|
|
113
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
2,506,788
|
|
|
|
4,522,689
|
|
|
|
1,278,478
|
|
|
$
|
187,392
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The provision for income taxes consists of taxes on current
income from continuing operations plus unrecognized tax benefits
from the application of FIN 48 plus changes in deferred
taxes for the periods ended:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31,
|
|
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Current
|
|
|
8,015,035
|
|
|
|
12,643,137
|
|
|
|
37,517,653
|
|
|
$
|
5,499,106
|
|
Deferred
|
|
|
(612,489
|
)
|
|
|
(844,389
|
)
|
|
|
312,863
|
|
|
|
45,858
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
7,402,546
|
|
|
|
11,798,748
|
|
|
|
37,830,516
|
|
|
$
|
5,544,964
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
All income tax expenses are shown above and are calculated under
the Income Tax Law of the PRC for Foreign Investment Enterprises
and Foreign Enterprises.
The charges for taxation are based on the results for the year
as adjusted for items which are non-assessable or disallowed.
They are calculated using tax rates that have been enacted or
granted at the balance sheet dates.
The significant components of deferred tax expenses (benefits)
are:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31,
|
|
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Depreciation
|
|
|
(913,558
|
)
|
|
|
247,737
|
|
|
|
(2,887
|
)
|
|
$
|
(423
|
)
|
Change in valuation allowance
|
|
|
(28,265
|
)
|
|
|
(549,899
|
)
|
|
|
(39,924
|
)
|
|
|
(5,852
|
)
|
Other, net
|
|
|
329,334
|
|
|
|
(542,227
|
)
|
|
|
355,674
|
|
|
|
52,133
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(612,489
|
)
|
|
|
(844,389
|
)
|
|
|
312,863
|
|
|
$
|
45,858
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred tax assets and deferred tax liabilities reflect the tax
effects of temporary differences between the carrying amounts of
assets and liabilities for financial reporting purposes and the
amounts used for
F-20
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
income tax purpose. The following represents the significant
components of deferred tax assets and liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31,
|
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Deferred tax assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation
|
|
|
2,935,153
|
|
|
|
2,938,040
|
|
|
$
|
430,640
|
|
Licensing rights amortization
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Reserve for inventory obsolescence
|
|
|
71,956
|
|
|
|
32,032
|
|
|
|
4,695
|
|
Accrued expenses
|
|
|
1,508,859
|
|
|
|
1,508,859
|
|
|
|
221,159
|
|
Other temporary differences
|
|
|
315,750
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred tax assets
|
|
|
4,831,718
|
|
|
|
4,478,931
|
|
|
|
656,494
|
|
Valuation allowance on deferred tax assets
|
|
|
(71,956
|
)
|
|
|
(32,032
|
)
|
|
|
(4,695
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred tax assets, net of valuation allowance
|
|
|
4,759,762
|
|
|
|
4,446,899
|
|
|
|
651,799
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred tax liabilities
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net deferred tax assets
|
|
|
4,759,762
|
|
|
|
4,446,899
|
|
|
$
|
651,799
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2007, net deferred tax assets decreased by
RMB403,550 ($59,150) as a result of PRC tax rates enacted during
2007 that were effective as of January 1, 2008. Deferred
tax assets and liabilities created previous to 2007 were
calculated at rates which differ from the rates that became
effective as of January 1, 2008. Management believes that
the deferred tax assets are fully realizable as the Group is
projected to be profitable during the periods that these tax
values would be realized.
Unrecognized
tax benefits
Under FIN 48, a reconciliation of the beginning and ending
amount of unrecognized tax benefits is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended
December 31,
|
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Balance at beginning of year
|
|
|
—
|
|
|
|
1,202,277
|
|
|
$
|
176,222
|
|
Additions based on tax positions related to the current year
|
|
|
1,202,277
|
|
|
|
—
|
|
|
|
—
|
|
Additions for tax positions of prior years
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Reductions for tax positions of prior years
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Reductions as result of lapse of applicable statute of
limitations
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Settlements
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at end of year
|
|
|
1,202,277
|
|
|
|
1,202,277
|
|
|
$
|
176,222
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
F-21
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
The Group does not expect the total amount of unrecognized tax
benefits to significantly increase or decrease in the next
twelve months. At December 31, 2007 and 2008, there is no
interest expense accrued for unrecognized tax benefits. Accrued
penalties amounted to RMB438,831 ($64,321) at December 31,
2008 and were included in taxes payable.
British
Virgin Islands income taxes
Under the current laws of the British Virgin Islands, the
Company is not subject to tax on its income or capital gains.
Chinese
income taxes
Duoyuan Beijing and Duoyuan Langfang are governed by the Income
Tax Law of the PRC concerning Foreign Investment Enterprises
(“FIEs”) and Foreign Enterprises and various local
income tax laws.
Under Chinese Income Tax Laws, prior to January 1, 2008,
FIEs were subject to an income tax at an effective rate of 33%
(30% state income taxes plus 3% local income taxes) on income as
reported in their statutory financial statements after
appropriate tax adjustments. Upon approval by the PRC tax
authorities, FIEs scheduled to operate for a period of
10 years or more and engaged in manufacturing and
production could be exempt from income taxes for two years,
commencing with their first profitable year of operations, after
taking into account any losses brought forward from prior years,
and thereafter with a 50% exemption for the next three years.
Duoyuan Beijing has been a FIE since its inception. This entity
status allowed Duoyuan Beijing a two-year income tax exemption,
commencing with its first profitable year of operations, and a
50% income tax reduction for the following three years.
Accordingly, Duoyuan Beijing had an income tax exemption for the
calendar years ended December 31, 2003 and 2004, and a 50%
income tax reduction for the calendar years ended
December 31, 2005, 2006 and 2007. The normal tax rate for
Duoyuan Beijing was 24% as determined by its status as a FIE
operating for more than 10 years and implementing the
preferential policies of the coastal areas.
Duoyuan Langfang has been a FIE since its inception. This entity
status allowed Duoyuan Langfang a two-year income tax exemption,
commencing with its first profitable year of operations, and a
50% income tax reduction for the following three years.
Accordingly, Duoyuan Langfang had an income tax exemption for
the calendar years ended December 31, 2004 and 2005, and a
50% income tax reduction for the calendar years ended
December 31, 2006, 2007 and 2008. Also, Duoyuan Langfang is
located in a Special Economic & Technical Development
Zone and the local tax authority has offered a special tax rate
to Duoyuan Langfang for doing business in the special zone. With
the approval of the local government, Duoyuan Langfang is exempt
from local income taxes for five years, commencing with its
first profitable year of operations, and a 50% local income tax
reduction for the following five years. As such, Duoyuan
Langfang had a local income tax exemption for the years ended
December 31, 2004 through 2008, and has a 50% local income
tax reduction for the years ended December 31, 2009 through
2013.
F-22
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
The estimated tax savings due to this tax exemption for the
years ended December 31, 2006, 2007 and 2008, amounted to
RMB12,295,474, RMB19,519,043 and RMB12,355,280 ($1,810,961),
respectively.
Beginning January 1, 2008, the new Enterprise Income Tax
(“EIT”) law replaced the income tax laws for Domestic
Enterprises (“DEs”) and FIEs. The new standard EIT
rate of 25% replaced the 33% rate (or other reduced rates
previously granted by tax authorities) currently applicable to
both DEs and FIEs. The new standard rate of 25% was applied to
calculate certain deferred tax benefits that are expected to be
realized in future periods.
The following table reconciles the Group’s effective tax
rates for the periods ended:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31,
|
|
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
BVI income taxes
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
China income taxes
|
|
|
33.0
|
|
|
|
33.0
|
|
|
|
25.0
|
|
Local income tax adjustment
|
|
|
(6.9
|
)
|
|
|
(7.3
|
)
|
|
|
—
|
|
Tax exemption
|
|
|
(13.0
|
)
|
|
|
(12.9
|
)
|
|
|
(4.1
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Effective income tax rates
|
|
|
13.1
|
%
|
|
|
12.8
|
%
|
|
|
20.9
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Note 13—
|
Statutory
reserves
|
As stipulated by the relevant PRC laws and regulations
applicable to the Company’s subsidiaries in the PRC, the
Group is required to make appropriations from net income as
determined in accordance with accounting principles and the
relevant financial regulations applicable to PRC enterprises
(“PRC GAAP”) to non-distributable reserves (also
referred to as “statutory reserves”) which included a
statutory surplus reserve and a statutory welfare reserve as of
December 31, 2005. Based upon revised PRC law which took
effect on January 1, 2006, the Group is no longer required
to make appropriations to the statutory welfare reserve but
appropriation to the statutory surplus reserve are still
required to be made at not less than 10% of the profit after tax
as determined under PRC GAAP. The appropriations to statutory
surplus reserve are required until the balance reaches 50% of
the subsidiaries’ registered capital. Statutory capital of
the Company’s subsidiaries is RMB132,463,000.
The statutory surplus reserve is used to offset any future
extraordinary losses, as defined by PRC GAAP. The statutory
welfare reserve can only be used for the collective welfare of
the employees of subsidiaries. These reserves represent
appropriations of retained earnings determined according to PRC
law and may not be distributed.
F-23
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
The following reconciles the statutory reserves for the periods
ended:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31,
|
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Beginning of year
|
|
|
11,356,256
|
|
|
|
20,268,552
|
|
|
$
|
2,970,839
|
|
Plus increases
|
|
|
8,912,296
|
|
|
|
16,144,589
|
|
|
|
2,366,375
|
|
Less reductions (payments)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
End of year
|
|
|
20,268,552
|
|
|
|
36,413,141
|
|
|
$
|
5,337,214
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Note 14—
|
Segment
reporting
|
The Group is engaged in the manufacture and distribution of
water environment protection equipment and water treatment
products. The Group has two reportable segments, manufacturing
and distribution, based on the type of business process. Duoyuan
Langfang manufactures water environment protection equipment and
water treatment products and Duoyuan Beijing markets and
distributes those products. Each reportable segment derives its
revenues from the sale of its products: Duoyuan Langfang sells
its products to Duoyuan Beijing and Duoyuan Beijing sells its
products to distributors. Intersegment sales are eliminated in
the combined and consolidated financial statements.
The Group’s chief operating decision makers have been
identified as the Chief Executive Officer and other members of
senior executive management, who use the financial information
at the segment level when making decisions about allocating
resources and assessing the performance of the Group.
All of the Group’s revenues from external distributors and
long-lived assets are located in the PRC.
For the years ended December 31, 2006, 2007 and 2008, the
Group does not have any customers that individually represent
over 10% of total revenues.
The following is a summary of the financial information of the
reportable segments reconciled to the amounts reported in the
combined and consolidated financial statements.
F-24
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue by Product
Category
|
|
Year Ended
December 31
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Circulating Water Treatment
|
|
|
145,345,641
|
|
|
|
193,259,949
|
|
|
|
245,870,598
|
|
|
$
|
36,038,197
|
|
Water Purification
|
|
|
54,807,778
|
|
|
|
97,898,726
|
|
|
|
128,097,436
|
|
|
|
18,775,733
|
|
Wastewater Treatment
|
|
|
88,046,581
|
|
|
|
135,689,615
|
|
|
|
214,557,564
|
|
|
|
31,448,525
|
|
Construction Projects
|
|
|
6,196,581
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Spare Parts
|
|
|
—
|
|
|
|
—
|
|
|
|
8,717,088
|
|
|
|
1,277,697
|
|
Sales Rebates
|
|
|
(1,533,943
|
)
|
|
|
(2,886,175
|
)
|
|
|
(4,543,413
|
)
|
|
|
(665,946
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Revenue
|
|
|
292,862,638
|
|
|
|
423,962,115
|
|
|
|
592,699,273
|
|
|
$
|
86,874,206
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue
|
|
Year Ended December 31
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Duoyuan Beijing
|
|
|
292,862,638
|
|
|
|
423,962,115
|
|
|
|
592,699,273
|
|
|
$
|
86,874,206
|
|
Duoyuan Langfang
|
|
|
206,225,320
|
|
|
|
272,982,747
|
|
|
|
424,449,531
|
|
|
|
62,213,196
|
|
Elimination
|
|
|
(206,225,320
|
)
|
|
|
(272,982,747
|
)
|
|
|
(424,449,531
|
)
|
|
|
(62,213,196
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Revenue
|
|
|
292,862,638
|
|
|
|
423,962,115
|
|
|
|
592,699,273
|
|
|
$
|
86,874,206
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating Income
|
|
Year Ended December 31
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Duoyuan Beijing
|
|
|
45,276,761
|
|
|
|
66,012,214
|
|
|
|
102,268,041
|
|
|
$
|
14,989,819
|
|
Duoyuan Langfang
|
|
|
18,270,891
|
|
|
|
27,317,205
|
|
|
|
96,253,974
|
|
|
|
14,108,314
|
|
Elimination
|
|
|
419,094
|
|
|
|
2,094,168
|
|
|
|
(21,869,553
|
)
|
|
|
(3,205,504
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Operating Income
|
|
|
63,966,746
|
|
|
|
95,423,587
|
|
|
|
176,652,462
|
|
|
$
|
25,892,629
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest Expense
|
|
Year Ended December 31
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Duoyuan Beijing
|
|
|
7,349,079
|
|
|
|
5,749,827
|
|
|
|
3,117,818
|
|
|
$
|
456,991
|
|
Duoyuan Langfang
|
|
|
22,682
|
|
|
|
9,589
|
|
|
|
—
|
|
|
|
—
|
|
Elimination
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Interest Expense
|
|
|
7,371,761
|
|
|
|
5,759,416
|
|
|
|
3,117,818
|
|
|
$
|
456,991
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation
|
|
Year Ended December 31
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Duoyuan Beijing
|
|
|
4,273,085
|
|
|
|
3,609,561
|
|
|
|
1,826,589
|
|
|
$
|
267,730
|
|
Duoyuan Langfang
|
|
|
3,599,830
|
|
|
|
4,645,416
|
|
|
|
6,885,316
|
|
|
|
1,009,207
|
|
Elimination
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Depreciation
|
|
|
7,872,915
|
|
|
|
8,254,977
|
|
|
|
8,711,905
|
|
|
$
|
1,276,937
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
F-25
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income Tax Expense
|
|
Year Ended December 31
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Duoyuan Beijing
|
|
|
4,844,060
|
|
|
|
8,398,052
|
|
|
|
25,476,423
|
|
|
$
|
3,734,177
|
|
Duoyuan Langfang
|
|
|
2,558,486
|
|
|
|
3,400,696
|
|
|
|
12,354,093
|
|
|
|
1,810,787
|
|
Elimination
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Income Tax Expense
|
|
|
7,402,546
|
|
|
|
11,798,748
|
|
|
|
37,830,516
|
|
|
$
|
5,544,964
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Assets
|
|
Year Ended December 31
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Duoyuan Beijing
|
|
|
278,817,239
|
|
|
|
285,289,298
|
|
|
|
322,149,097
|
|
|
$
|
47,218,629
|
|
Duoyuan Langfang
|
|
|
117,286,386
|
|
|
|
158,639,700
|
|
|
|
262,280,451
|
|
|
|
38,443,452
|
|
Elimination
|
|
|
(33,765,759
|
)
|
|
|
(23,686,472
|
)
|
|
|
(46,343,737
|
)
|
|
|
(6,792,779
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Assets
|
|
|
362,337,866
|
|
|
|
420,242,526
|
|
|
|
538,085,811
|
|
|
$
|
78,869,302
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Capital Expenditures
|
|
Year Ended December 31
|
|
2006
|
|
|
2007
|
|
|
2008
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Duoyuan Beijing
|
|
|
—
|
|
|
|
10,000,000
|
|
|
|
—
|
|
|
$
|
—
|
|
Duoyuan Langfang
|
|
|
—
|
|
|
|
28,941,600
|
|
|
|
22,220,634
|
|
|
|
3,256,963
|
|
Elimination
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Capital Expenditures
|
|
|
—
|
|
|
|
38,941,600
|
|
|
|
22,220,634
|
|
|
$
|
3,256,963
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Note 15—
|
Discontinued
operations
|
On August 12, 2007, the Group entered into an agreement to
sell all of the business activities and operations of Duoyuan
Huanan to Duoyuan Asian Water, a company controlled by Wenhua
Guo, as of July 1, 2007. The sale price was RMB12,500,000
($1,832,173), resulting in a loss of RMB581,558 ($85,241) on the
sale which included RMB1,057,500 ($155,002) of income tax
expense.
The following table presents the components of discontinued
operations reported in the combined and consolidated statements
of income:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended
December 31,
|
|
|
|
2006
|
|
|
2007
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Net Sales
|
|
|
7,346,708
|
|
|
|
3,780,920
|
|
|
$
|
554,184
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from operations
|
|
|
1,655,356
|
|
|
|
675,748
|
|
|
$
|
99,047
|
|
Provision for income taxes
|
|
|
542,166
|
|
|
|
273,957
|
|
|
|
40,155
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Discontinued Operations
|
|
|
1,113,190
|
|
|
|
401,791
|
|
|
$
|
58,892
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
F-26
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
|
|
Note 16—
|
Current
vulnerability due to certain concentrations
|
The Group’s operations are carried out in the PRC.
Accordingly, the Group’s businesses, financial conditions
and results of operations may be influenced by the political,
economic and legal environments in the PRC, and by the general
state of the PRC’s economy.
The Group’s operations in the PRC are subject to specific
considerations and significant risks not typically associated
with companies in North America and Western Europe. These
include risks associated with, among others, the political,
economic and legal environments and foreign currency exchange.
The Group’s results may be adversely affected 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.
Lease
commitment
As of December 31, 2008, the Group was obligated in the
amount of RMB1,124,149 ($164,477) during 2009 for an operating
lease from Duoyuan Facsimile which expires on December 31,
2009.
Capital
commitments
As of December 31, 2008, the Group had outstanding capital
commitments for construction of a production line totaling
RMB23,310,000 ($3,416,636) which are expected to be paid during
2009 and 2010.
|
|
Note 18—
|
Share
purchase agreement
|
On February 5, 2008, the Company and Wenhua Guo were
parties to a share purchase agreement (the
“Agreement”) between Duoyuan Investments Limited (the
“Seller”), a British Virgin Island company wholly
owned by Wenhua Guo that owns 100% of the Company, and GEEMF III
Holdings MU (the “Buyer”), a private company organized
under the laws of the Republic of Mauritius. Upon the terms and
conditions of the Agreement, the Seller sold 6,000,000 ordinary
shares in the Company, representing a 20% equity interest, to
the Buyer for an aggregate cash purchase price to the Seller
plus a potential earn-out payment payable to the Seller if
certain financial and non-financial milestones with respect to
the Company are reached in 2008.
|
|
Note 19—
|
Employee
stock compensation
|
In September 2008, the Group’s board of directors and
shareholders approved and adopted the 2008 Omnibus Incentive
Plan, reserving 2,105,262 ordinary shares for future issuances
thereunder. The purpose of the 2008 Omnibus Incentive Plan is to
attract and to encourage the continued employment and services
of, and maximum efforts by, the Group’s officers, key
employees and other key individuals
F-27
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
COMBINED AND CONSOLIDATED FINANCIAL
STATEMENTS—(Continued)
DECEMBER
31, 2006, 2007 and 2008
by offering those persons an opportunity to acquire or increase
a direct proprietary interest in the Group’s operations and
future success.
On or prior to the completion of an initial public offering, the
Group intends to grant 1,052,631 fully vested ordinary shares to
certain employees, including members of the Group’s
executive management team, but excluding the chief executive
officer and chief financial officer, for no consideration, other
than par value, which will be deemed paid by services already
rendered to the Group. In addition, pursuant to an amended and
restated employment agreement with the Group’s chief
financial officer, the Group will grant him an option to
purchase up to 300,000 ordinary shares at the initial offering
price. One quarter of these options will vest on June 24,
2009, with the remainder of his options vesting ratably on a
monthly basis through June 24, 2012. Each of these grants
will result in stock-based compensation expense in accordance
with SFAS No. 123(R).
Note 20 —
Subsequent Event
The Board of Directors approved a 3 for 1 stock split on
June 1, 2009. The number of shares and per share amounts in
these consolidated and combined and consolidated financial
statements reflect the 3 for 1 stock split.
F-28
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
March 31,
|
|
|
March 31,
|
|
|
|
2008
|
|
|
2009
|
|
|
2009
|
|
|
|
(AUDITED)
|
|
|
(UNAUDITED)
|
|
|
(UNAUDITED)
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
ASSETS
|
|
|
|
|
|
|
|
|
|
|
|
|
CURRENT ASSETS:
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
|
|
|
198,518,061
|
|
|
|
248,253,067
|
|
|
$
|
36,332,021
|
|
Accounts receivable
|
|
|
137,549,786
|
|
|
|
121,587,191
|
|
|
|
17,794,376
|
|
Inventories, net of reserve for obsolescence
|
|
|
46,726,339
|
|
|
|
63,436,781
|
|
|
|
9,284,020
|
|
Other receivables
|
|
|
46,500
|
|
|
|
121,727
|
|
|
|
17,815
|
|
Other current assets
|
|
|
645,376
|
|
|
|
372,800
|
|
|
|
54,559
|
|
Deposits
|
|
|
9,990,000
|
|
|
|
9,990,000
|
|
|
|
1,462,044
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total current assets
|
|
|
393,476,062
|
|
|
|
443,761,566
|
|
|
|
64,944,835
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
PLANT AND EQUIPMENT, net
|
|
|
117,681,359
|
|
|
|
115,232,833
|
|
|
|
16,864,411
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
OTHER ASSETS:
|
|
|
|
|
|
|
|
|
|
|
|
|
Prepaid leases
|
|
|
22,481,491
|
|
|
|
22,350,570
|
|
|
|
3,271,023
|
|
Deferred tax assets
|
|
|
4,446,899
|
|
|
|
4,446,899
|
|
|
|
650,807
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total other assets
|
|
|
26,928,390
|
|
|
|
26,797,469
|
|
|
|
3,921,830
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets
|
|
|
538,085,811
|
|
|
|
585,791,868
|
|
|
$
|
85,731,076
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND SHAREHOLDERS’ EQUITY
|
|
|
|
|
|
|
|
|
|
|
|
|
CURRENT LIABILITIES:
|
|
|
|
|
|
|
|
|
|
|
|
|
Notes payable
|
|
|
20,000,000
|
|
|
|
20,000,000
|
|
|
$
|
2,927,015
|
|
Accounts payable
|
|
|
38,696,788
|
|
|
|
65,927,331
|
|
|
|
9,648,514
|
|
Other payables
|
|
|
24,927,232
|
|
|
|
13,652,545
|
|
|
|
1,998,060
|
|
Taxes payable
|
|
|
10,768,521
|
|
|
|
13,585,546
|
|
|
|
1,988,255
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total current liabilities
|
|
|
94,392,541
|
|
|
|
113,165,422
|
|
|
|
16,561,844
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
SHAREHOLDERS’ EQUITY:
|
|
|
|
|
|
|
|
|
|
|
|
|
Ordinary shares, US$0.000033 par value: Authorized
shares—1,500,000,000; Issued and
outstanding—30,000,000 shares
|
|
|
7,295
|
|
|
|
7,295
|
|
|
|
1,068
|
|
Additional paid-in capital
|
|
|
132,455,705
|
|
|
|
132,455,705
|
|
|
|
19,384,991
|
|
Statutory reserves
|
|
|
36,413,141
|
|
|
|
39,405,875
|
|
|
|
5,767,079
|
|
Retained earnings
|
|
|
274,817,129
|
|
|
|
300,757,571
|
|
|
|
44,016,094
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total shareholders’ equity
|
|
|
443,693,270
|
|
|
|
472,626,446
|
|
|
|
69,169,232
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and shareholders’ equity
|
|
|
538,085,811
|
|
|
|
585,791,868
|
|
|
$
|
85,731,076
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an integral part of this statement.
F-29
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
March 31,
|
|
|
|
2008
|
|
|
2009
|
|
|
2009
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
REVENUE
|
|
|
86,822,021
|
|
|
|
120,645,689
|
|
|
$
|
17,656,586
|
|
COST OF REVENUE
|
|
|
52,272,592
|
|
|
|
66,178,046
|
|
|
|
9,685,206
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
GROSS PROFIT
|
|
|
34,549,429
|
|
|
|
54,467,643
|
|
|
|
7,971,380
|
|
RESEARCH AND DEVELOPMENT EXPENSES
|
|
|
3,591,252
|
|
|
|
5,109,680
|
|
|
|
747,805
|
|
SELLING EXPENSES
|
|
|
7,450,406
|
|
|
|
8,859,005
|
|
|
|
1,296,522
|
|
GENERAL AND ADMINISTRATIVE EXPENSES
|
|
|
3,465,859
|
|
|
|
828,512
|
|
|
|
121,253
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
OPERATING INCOME
|
|
|
20,041,912
|
|
|
|
39,670,446
|
|
|
|
5,805,800
|
|
INTEREST EXPENSE
|
|
|
1,047,178
|
|
|
|
326,370
|
|
|
|
47,765
|
|
OTHER INCOME
|
|
|
325,900
|
|
|
|
196,962
|
|
|
|
28,825
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
INCOME FROM OPERATIONS BEFORE INCOME TAXES
|
|
|
19,320,634
|
|
|
|
39,541,038
|
|
|
|
5,786,860
|
|
PROVISION FOR INCOME TAXES
|
|
|
4,276,939
|
|
|
|
10,607,862
|
|
|
|
1,552,468
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NET INCOME
|
|
|
15,043,695
|
|
|
|
28,933,176
|
|
|
$
|
4,234,392
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted earnings per share:
|
|
|
0.50
|
|
|
|
0.96
|
|
|
$
|
0.14
|
|
Weighted average number of basic and diluted shares outstanding:
|
|
|
30,000,000
|
|
|
|
30,000,000
|
|
|
|
30,000,000
|
|
The accompanying notes are an integral part of this statement.
F-30
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Additional
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Ordinary
|
|
|
Paid-In
|
|
|
Statutory
|
|
|
Retained
|
|
|
|
|
|
|
|
|
|
Shares
|
|
|
Capital
|
|
|
Reserves
|
|
|
Earnings
|
|
|
Totals
|
|
|
|
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
RMB
|
|
|
|
|
|
BALANCE, January 1, 2009
|
|
|
7,295
|
|
|
|
132,455,705
|
|
|
|
36,413,141
|
|
|
|
274,817,129
|
|
|
|
443,693,270
|
|
|
|
|
|
Net income
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
28,933,176
|
|
|
|
28,933,176
|
|
|
|
|
|
Statutory reserves
|
|
|
—
|
|
|
|
—
|
|
|
|
2,992,734
|
|
|
|
(2,992,734
|
)
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
BALANCE, March 31, 2009
|
|
|
7,295
|
|
|
|
132,455,705
|
|
|
|
39,405,875
|
|
|
|
300,757,571
|
|
|
|
472,626,446
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
BALANCE, March 31, 2009 (US$)
|
|
$
|
1,068
|
|
|
$
|
19,384,991
|
|
|
$
|
5,767,079
|
|
|
$
|
44,016,094
|
|
|
$
|
69,169,232
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an integral part of this statement.
F-31
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
March 31,
|
|
|
|
2008
|
|
|
2009
|
|
|
2009
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
CASH FLOWS FROM OPERATING ACTIVITIES:
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
|
15,043,695
|
|
|
|
28,933,176
|
|
|
$
|
4,234,392
|
|
Adjustments to reconcile net income to cash provided by (used
in) operating activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation
|
|
|
2,023,282
|
|
|
|
2,448,526
|
|
|
|
358,344
|
|
Amortization
|
|
|
67,677
|
|
|
|
130,921
|
|
|
|
19,160
|
|
(Increase) decrease in assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts receivable
|
|
|
(7,450,399
|
)
|
|
|
15,962,595
|
|
|
|
2,336,138
|
|
Inventories
|
|
|
(6,410,034
|
)
|
|
|
(16,710,442
|
)
|
|
|
(2,445,586
|
)
|
Other receivables
|
|
|
189,496
|
|
|
|
(75,227
|
)
|
|
|
(11,010
|
)
|
Related party receivables
|
|
|
81,740,927
|
|
|
|
—
|
|
|
|
—
|
|
Other current assets
|
|
|
(11,580,407
|
)
|
|
|
272,576
|
|
|
|
39,892
|
|
Increase (decrease) in liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts payable
|
|
|
(132,893
|
)
|
|
|
27,230,543
|
|
|
|
3,985,210
|
|
Other payables
|
|
|
10,131,132
|
|
|
|
(11,274,687
|
)
|
|
|
(1,650,059
|
)
|
Related party payables
|
|
|
2,215,243
|
|
|
|
—
|
|
|
|
—
|
|
Taxes payable
|
|
|
(8,221,421
|
)
|
|
|
2,817,025
|
|
|
|
412,274
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cash flows provided by operating activities
|
|
|
77,616,298
|
|
|
|
49,735,006
|
|
|
|
7,278,755
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM INVESTING ACTIVITIES
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM FINANCING ACTIVITIES:
|
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds from short-term notes
|
|
|
20,000,000
|
|
|
|
20,000,000
|
|
|
|
2,927,015
|
|
Repayments on short-term notes
|
|
|
(49,000,000
|
)
|
|
|
(20,000,000
|
)
|
|
|
(2,927,015
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cash flows used in financing activities
|
|
|
(29,000,000
|
)
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
INCREASE IN CASH
|
|
|
48,616,298
|
|
|
|
49,735,006
|
|
|
|
7,278,755
|
|
CASH, beginning of period
|
|
|
28,052,825
|
|
|
|
198,518,061
|
|
|
|
29,053,266
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH, end of period
|
|
|
76,669,123
|
|
|
|
248,253,067
|
|
|
$
|
36,332,021
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an integral part of this statement.
F-32
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
|
|
Note 1—
|
Basis of
presentation
|
The accompanying unaudited consolidated financial statements as
of March 31, 2008 and 2009 and for the three months ended
March 31, 2008 and 2009 of the Group include the accounts
of the Company and its wholly-owned subsidiaries, Duoyuan
Beijing and Duoyuan Langfang, and should be read in conjunction
with the audited combined and consolidated financial statements
and accompanying footnotes of the Group as of December 31,
2007 and 2008, and for each of the three years for the period
ended December 31, 2008. All significant intercompany
transactions have been eliminated in consolidation. In the
opinion of management, the accompanying unaudited consolidated
financial statements contain all material adjustments,
consisting principally of normal recurring adjustments,
necessary for a fair presentation of the Group’s interim
results. Certain information and footnote disclosures required
for complete financial statements prepared in accordance with
accounting principles generally accepted in the United States of
America have been condensed or omitted pursuant to applicable
rules and regulations. The operating results for the interim
periods are not necessarily indicative of the results to be
expected for the full year.
Convenience
translation
The Group’s functional currency is RMB. The Group maintains
its financial statements in the functional currency.
Translations of amounts from RMB into US dollars are solely for
the convenience of the reader and were calculated at the rate of
US$1.00 = RMB6.8329, representing the noon buying rate in the
City of New York for cable transfers of RMB, intended to imply
that the RMB amounts could have been, or could be, converted,
realized or settled into US dollars at that rate on
March 31, 2009.
|
|
Note 2—
|
Significant
accounting policies
|
Major
suppliers
As of March 31, 2009, there were three (3) suppliers:
one at 11.9%, one at 15.7% and one at 19.1%, that accounted for
more than 10% of the Group’s purchases. In the event that
these suppliers are not available, alternative suppliers are
readily available.
Income
taxes
The provision for income taxes is comprised of the Group’s
current tax liability and change in deferred income tax assets
and liabilities. Deferred income taxes are determined based on
the differences between the financial reporting and tax bases of
assets and liabilities and are measured using the currently
enacted tax rates and laws.
The Group recorded a provision for income taxes of RMB4,276,939
and RMB10,607,862 ($1,552,468) for the three month periods ended
March 31, 2008 and 2009, respectively. The income tax
expense is comprised primarily of enterprise income taxes
related to the business operations of the Group’s PRC
F-33
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
MARCH 31,
2008 and 2009
subsidiaries. The increase of RMB6,330,923 ($926,535) in the
Group’s income tax expense results from an increase in the
Group’s income subject to PRC taxes.
The effective tax rate for the three months ended March 31,
2009 increased 3.7% from 21.3% for the three months ended
March 31, 2008 to 25.0%.
Notes payable represent amounts due to one bank. The notes
consist of the following:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2009
|
|
|
|
December 31, 2008
|
|
|
(UNAUDITED)
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Loan amount from Bank of Agriculture
|
|
|
20,000,000
|
|
|
|
20,000,000
|
|
|
$
|
2,927,015
|
|
Maturity date
|
|
|
January 16, 2009
|
|
|
January 15, 2010
|
Interest rate per annum, paid quarterly
|
|
|
8.217
|
%
|
|
5.841%
|
|
|
|
|
|
|
|
|
|
|
20,000,000
|
|
|
|
20,000,000
|
|
|
|
2,927,015
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
All notes are secured by real estate with the carrying amount of
RMB28,475,141 ($4,167,358) at March 31, 2009.
Other payables consist of the following:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2009
|
|
|
|
December 31, 2008
|
|
|
(Unaudited)
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Professional fees payable for public offering
|
|
|
14,141,518
|
|
|
|
1,651,803
|
|
|
$
|
241,743
|
|
Housing fund payable
|
|
|
5,865,350
|
|
|
|
5,865,350
|
|
|
|
858,398
|
|
Warranty reserve
|
|
|
2,200,000
|
|
|
|
2,400,000
|
|
|
|
351,242
|
|
Others
|
|
|
2,720,364
|
|
|
|
3,735,392
|
|
|
|
546,677
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
24,927,232
|
|
|
|
13,652,545
|
|
|
$
|
1,998,060
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Note 5—
|
Segment
reporting
|
For the three months ended March 31, 2008 and 2009, the
Group does not have any customers that individually represent
over 10% of total revenues.
The following is a summary of the financial information of the
reportable segments reconciled to the amounts reported in the
combined and consolidated financial statements.
F-34
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
MARCH 31,
2008 and 2009
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue by Product
Category
|
|
Three Months Ended March
31
|
|
2008
|
|
|
2009
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Circulating Water Treatment
|
|
|
37,895,299
|
|
|
|
45,208,889
|
|
|
$
|
6,616,354
|
|
Water Purification
|
|
|
15,496,667
|
|
|
|
27,000,171
|
|
|
|
3,951,495
|
|
Wastewater Treatment
|
|
|
32,918,205
|
|
|
|
46,393,675
|
|
|
|
6,789,749
|
|
Spare Parts
|
|
|
766,396
|
|
|
|
2,452,616
|
|
|
|
358,942
|
|
Sales Rebates
|
|
|
(254,546
|
)
|
|
|
(409,662
|
)
|
|
|
(59,954
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Revenue
|
|
|
86,822,021
|
|
|
|
120,645,689
|
|
|
$
|
17,656,586
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue
|
|
Three Months Ended March
31
|
|
2008
|
|
|
2009
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Duoyuan Beijing
|
|
|
86,822,021
|
|
|
|
120,645,689
|
|
|
$
|
17,656,586
|
|
Duoyuan Langfang
|
|
|
61,102,329
|
|
|
|
88,511,687
|
|
|
|
12,953,751
|
|
Elimination
|
|
|
(61,102,329
|
)
|
|
|
(88,511,687
|
)
|
|
|
(12,953,751
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Revenue
|
|
|
86,822,021
|
|
|
|
120,645,689
|
|
|
$
|
17,656,586
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating Income
|
|
Three Months Ended March
31
|
|
2008
|
|
|
2009
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Duoyuan Beijing
|
|
|
11,755,754
|
|
|
|
15,417,372
|
|
|
$
|
2,256,344
|
|
Duoyuan Langfang
|
|
|
8,216,597
|
|
|
|
20,159,921
|
|
|
|
2,950,419
|
|
Addition
|
|
|
69,561
|
|
|
|
4,093,153
|
|
|
|
599,036
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Operating Income
|
|
|
20,041,912
|
|
|
|
39,670,446
|
|
|
$
|
5,805,799
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest Expense
|
|
Three Months Ended March
31
|
|
2008
|
|
|
2009
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Duoyuan Beijing
|
|
|
1,047,178
|
|
|
|
326,370
|
|
|
$
|
47,765
|
|
Duoyuan Langfang
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Elimination
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Interest Expense
|
|
|
1,047,178
|
|
|
|
326,370
|
|
|
$
|
47,765
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation
|
|
Three Months Ended March
31
|
|
2008
|
|
|
2009
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Duoyuan Beijing
|
|
|
803,289
|
|
|
|
90,860
|
|
|
$
|
13,298
|
|
Duoyuan Langfang
|
|
|
1,219,993
|
|
|
|
2,357,666
|
|
|
|
345,046
|
|
Elimination
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Depreciation
|
|
|
2,023,282
|
|
|
|
2,448,526
|
|
|
$
|
358,344
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
F-35
DUOYUAN
GLOBAL WATER INC. AND SUBSIDIARIES
NOTES TO
UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
MARCH 31,
2008 and 2009
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income Tax Expense
|
|
Three Months Ended March
31
|
|
2008
|
|
|
2009
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Duoyuan Beijing
|
|
|
3,004,510
|
|
|
|
4,562,416
|
|
|
$
|
667,713
|
|
Duoyuan Langfang
|
|
|
1,272,429
|
|
|
|
6,045,446
|
|
|
|
884,755
|
|
Elimination
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Income Tax Expense
|
|
|
4,276,939
|
|
|
|
10,607,862
|
|
|
$
|
1,552,468
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Assets
|
|
Three Months Ended March
31
|
|
2008
|
|
|
2009
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Duoyuan Beijing
|
|
|
254,299,841
|
|
|
|
338,705,824
|
|
|
$
|
49,569,850
|
|
Duoyuan Langfang
|
|
|
164,009,627
|
|
|
|
308,182,390
|
|
|
|
45,102,722
|
|
Elimination
|
|
|
(8,031,185
|
)
|
|
|
(61,096,346
|
)
|
|
|
(8,941,496
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Assets
|
|
|
410,278,283
|
|
|
|
585,791,868
|
|
|
$
|
85,731,076
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Capital Expenditures
|
|
Three Months Ended March
31
|
|
2008
|
|
|
2009
|
|
|
|
RMB
|
|
|
RMB
|
|
|
US$
|
|
|
Duoyuan Beijing
|
|
|
—
|
|
|
|
—
|
|
|
$
|
—
|
|
Duoyuan Langfang
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Elimination
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Capital Expenditures
|
|
|
—
|
|
|
|
—
|
|
|
$
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Lease
commitment
As of March 31, 2009, the Group was obligated under an
operating lease from Duoyuan Facsimile, which relates to a
building, requiring minimum rentals in 2009 of RMB843,112
($123,390).
The Board of Directors approved a 3 for 1 stock split on
June 1, 2009. The number of shares and per share
amounts in these consolidated financial statements reflect the 3
for 1 stock split.
F-36
5,500,000 American Depositary
Shares
DUOYUAN GLOBAL WATER
INC.
Representing 11,000,000
Ordinary Shares
PROSPECTUS
Until July 19, 2009, all dealers that effect transactions
in these securities, whether or not participating in this
offering, may be required to deliver a prospectus. This is in
addition to the dealers’ obligation to deliver a prospectus
when acting as underwriters and with respect to their unsold
allotments or subscriptions.
Piper Jaffray
June 24, 2009