As filed with the Securities and Exchange Commission on July 29, 2005
Registration No. 333-120431
================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Amendment No. 3 to
Form SB - 2
REGISTRATION STATEMENT
Under
THE SECURITIES ACT OF 1933
CHINA DIGITAL WIRELESS, INC.
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(Exact name of registrant as specified in its charter)
Nevada 90-0093373
(State or other jurisdiction (IRS Employer incorporation or
of organization) identification No.)
7374
(Primary Standard Industrial
Classification Code Number)
429 Guangdong Road
Shanghai 200001
People's Republic of China
Ph: (86-21) 6336-8686
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(Address, including zip code, and telephone number, including area
code, of registrant's principal executive offices)
The Corporation Trust Company of Nevada
6100 Neil Road, Suite 500
Reno, Nevada 89511
Ph: (775) 688-3061
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(Name, address, including zip code, and telephone number,
including area code, of agent for service)
With copies to:
Preston Gates & Ellis LLP
Attention: Gary J. Kocher, Esq.
Kristy T. Harlan, Esq.
925 Fourth Avenue, Suite 2900
Seattle, Washington 98104
Ph: (206) 623-7580
Fax: (206) 623-7022
Approximate date of commencement of proposed sale to the public: As soon as
practicable after the effective date of this registration statement.
If any of the securities being registered on this form are to be offered on a
delayed or continuous basis pursuant to Rule 415 under the Securities Act, check
the following box. [X]
If this Form is filed to register additional securities for an offering pursuant
to Rule 462(b) under the Securities Act, check the following box and list the
Securities Act Registration Statement number of the earlier effective
Registration Statement for the same offering. [_]
If this Form is a post-effective amendment filed pursuant to Rule 462(c) under
the Securities Act, check the following box and list the Securities Act
Registration Statement number of the earlier effective Registration Statement
for the same offering. [_]
If this Form is a post-effective amendment filed pursuant to Rule 462(d) under
the Securities Act, check the following box and list the Securities Act
Registration Statement number of the earlier effective Registration Statement
for the same offering. [_]
If delivery of the prospectus is expected to be made pursuant to Rule 434, check
the following box. [_]
The Registrant hereby amends this registration statement on such date or dates
as may be necessary to delay its effective date until the registrant shall file
a further amendment which specifically states that this registration statement
shall thereafter become effective in accordance with section 8(a) of the
Securities Act of 1933 or until the registration statement shall become
effective on such date as the Securities and Exchange Commission, acting
pursuant to said section 8(a), may determine.
2,737,381 Shares
CHINA DIGITAL WIRELESS, INC.
Common Stock
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This is an offering of 2,737,381 shares of common stock by the selling
stockholders. The shares are being registered to permit public secondary trading
of the shares that are being offered by the selling stockholders named in this
prospectus. We will not receive any of the proceeds from the sale of the shares.
The selling stockholders may, but are not obligated to, offer all or part
of their shares for resale from time to time through public or private
transactions, at either prevailing market prices or at privately negotiated
prices.
Our common stock is currently quoted on the NASD's Over-the-Counter
Bulletin Board under the symbol "CHDW." On July 28, 2005, the last reported
sales price on our common stock was $3.12 per share.
Investing in our common stock involves risks. See "Risk Factors" beginning
on page 6 to read about factors you should consider before buying shares of our
common stock.
Neither the Securities and Exchange Commission nor any state securities
commission has approved or disapproved of these securities or passed upon the
adequacy or accuracy of this prospectus. Any representation to the contrary is a
criminal offense.
The date of this prospectus is July 29, 2005.
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ABOUT THIS PROSPECTUS
You should rely only on the information contained in this document or any
other document to which we refer you. Neither we nor the selling stockholders
have authorized anyone to provide you with different information. If anyone
provides you with different or inconsistent information, you should not rely on
it. Neither we nor the selling stockholders are making an offer to sell these
securities in a jurisdiction where the offer or sale is not permitted. The
information contained in this document is current only as of its date,
regardless of the time of delivery of this prospectus or of any sales of shares
of common stock. Our business, financial condition, results of operations and
prospects may have changed since that date.
The information in this prospectus is not complete and may be changed. The
selling stockholders may not sell the securities until the registration
statement filed with the Securities and Exchange Commission is effective. This
prospectus is not an offer to sell these securities and is not soliciting an
offer to buy these securities in any state where the offer or sale is not
permitted.
TABLE OF CONTENTS
PROSPECTUS SUMMARY.............................................................3
CHINA DIGITAL WIRELESS, INC...............................................3
THE OFFERING..............................................................5
RISK FACTORS...................................................................6
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS.............................19
MARKET FOR COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND DIVIDEND POLICY.....19
MANAGEMENT'S DISCUSSION AND ANALYSIS OF PLAN OF OPERATION.....................20
BUSINESS......................................................................33
DIRECTORS AND EXECUTIVE OFFICERS..............................................45
PRINCIPAL STOCKHOLDERS........................................................49
CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS..........................50
DESCRIPTION OF OUR CAPITAL STOCK..............................................51
SELLING STOCKHOLDERS..........................................................52
SHARES ELIGIBLE FOR FUTURE SALE...............................................53
PLAN OF DISTRIBUTION..........................................................53
INDEPENDENT PUBLIC ACCOUNTANTS................................................54
LEGAL MATTERS.................................................................54
EXPERTS.......................................................................55
INTERESTS OF NAMED EXPERTS AND COUNSEL........................................55
WHERE YOU CAN FIND MORE INFORMATION...........................................55
INDEX TO FINANCIAL STATEMENTS................................................F-1
2
PROSPECTUS SUMMARY
This summary highlights selected information about us and the offering that
is contained elsewhere in this prospectus. You should read the entire prospectus
before making an investment decision, especially the information presented under
the heading "Risk Factors" and the financial statements and related notes
included elsewhere in this prospectus, as well as the other documents to which
we refer you. Except as otherwise indicated by the context, references in this
prospectus to "we," "us," "our," or the "company" are to the combined business
of China Digital Wireless, Inc. and its wholly-owned direct subsidiary, Sifang
Holdings Company Limited, or Sifang Holdings, and its wholly-owned subsidiary,
Shanghai TCH Data Technology Co., LTD, or TCH, and in each case do not include
the selling stockholders.
CHINA DIGITAL WIRELESS, INC.
Our Business
Value-added Information Services. We render value-added information
services in China by purchasing content from third-party providers and
reformatting that content. Our value-added information services enable wireless
receiver (mobile phone and pager) users in China to access financial information
and various entertainment-related services. We contract with our affiliated
wireless service providers to transmit the reformatted content to customers of
China's various network operators.
The primary focus of our value-added information services is on providing
wireless receiver users in China with access to financial information. We derive
the vast majority of our value-added information services revenue from our
financial information business. Our financial information software, Sifang
Gutong, allows our customers to access stock and currency exchange information
and execute stock trades.
Leveraging our experience and understanding of the wireless value-added
services market in China, we purchase and reformat content, applications and
technologies that we believe are popular in the Chinese wireless market. To
further enhance and differentiate our services, we have entered into, and will
continue to actively pursue, collaborative relationships with third parties to
customize, market and provide access to their content through various wireless
technologies to Chinese consumers. In addition, all of our services are promoted
by our sales force and supported by our customer service team, each of which is
strategically based in Shanghai.
We began providing our entertainment-related services, including icons,
screen savers, multiplayer games, Western horoscopes, jokes, and sports and
entertainment news during the latter part of 2003. These services are ancillary
to our financial information services and they represent only a small percentage
of our value-added information services revenue at the present time.
We primarily conduct our business in China solely through our wholly-owned
subsidiary, Sifang Holdings, and its wholly-owned subsidiary, TCH. In order to
meet ownership requirements under Chinese law that restrict us, as a foreign
company, from operating in certain industries such as value-added
telecommunication and Internet services, we have entered into information
service and cooperation agreements with two of our affiliates that are
incorporated in the People's Republic of China: Shanghai Sifang Information
Technology Co., Ltd., or Sifang Information, and Shanghai Tianci Industrial
Group Co., Ltd., or Tianci.
3
The original stockholder structure of Sifang Holdings was identical to the
current stockholder structure of Sifang Information, and each of Sifang
Information and Tianci are owned approximately 69% through direct and indirect
ownership by Tai Caihua, our president and the chairman of our board of
directors. We hold no ownership interest in Sifang Information or Tianci. Sifang
Information and Tianci contract with China Mobile Communications Corporation, or
China Mobile, and China United Telecommunications Corporation, or China Unicom,
respectively, to provide wireless value-added information services to wireless
receiver customers in China via China Mobile and China Unicom. Sifang
Information transmits those services to customers of China Mobile and China
Unicom on behalf of itself and Tianci pursuant to a signed agreement between
Sifang Information, Tianci and TCH, respectively.
Distribution. We distribute various mobile phone brands in the Shanghai,
China region. We distribute mobile phones manufactured primarily by SAMSUNG
Electronics Co., Ltd., or Samsung, and to a lesser extent, by Motorola, Inc., or
Motorola. We began distributing Motorola mobile phones in early 2002 and Samsung
mobile phones in November 2002. We began discontinuing our Motorola mobile phone
distribution business on June 30, 2004. We will remain a distributor, for the
Shanghai region, of nine different mobile phone models manufactured by Samsung,
and plan to increase our sales of Samsung mobile phones. Six of the Samsung
models we distribute are compatible with the CDMA network and three are
compatible with the GSM network. We plan to pre-install the end-user portion of
our Sifang Gutong software in all of the Samsung mobile phones we distribute,
and market our stock information, stock trading, and currency exchange services
by placing brochures touting those services in the packaging of those Samsung
mobile phones before we distribute the phones to retailers. We believe this
process will increase name recognition of our financial information and stock
trading services with wireless receiver users.
There are three main first-tier wholesalers of Samsung phones in China:
Shanghai Taili Communication Equipment Co., Ltd., Shenzhen Tianyin Communication
Development Co., Ltd., and Guangzhou Yingtai Data Power Technology Co., Ltd.
These wholesalers contract, through local branches, with sub-wholesalers to
distribute each model in a defined area. We have contracts with Shanghai branch
offices of the three main first-tier wholesalers on whom we rely, making us a
sub-wholesaler distributor of nine Samsung mobile phone models in the Shanghai
region. We sell approximately 52% of our mobile phones to three retailers.
Our Corporate Information
We originally began operations as a Colorado corporation known as Boulder
Brewing Company, or Boulder Brewing. Boulder Brewing was incorporated in
Colorado on May 8, 1980 and operated as a microbrewery of various beers. Boulder
Brewing was unable to become profitable within any segment of its core business,
became illiquid, and was forced to divest itself of all of its assets. Boulder
Brewing became dormant without any operations or assets in the second quarter of
1990.
In September 2001, Boulder Brewing changed its state of incorporation from
Colorado to Nevada through a merger and changed its name to Boulder
Acquisitions, Inc., or Boulder Acquisitions. The articles of incorporation and
bylaws of the Nevada corporation became the articles of incorporation and bylaws
of the surviving corporation. From the date of reincorporation until June 23,
2004 Boulder Acquisitions had no material operations or assets.
On June 23, 2004, we completed a stock exchange transaction with the
stockholders of Sifang Holdings. The exchange was consummated under Nevada and
Cayman Islands law pursuant to the terms of a Securities Exchange Agreement
dated effective as of June 23, 2004 by and among Boulder Acquisitions, Sifang
Holdings and the stockholders of Sifang Holdings. Pursuant to the Securities
Exchange Agreement, we issued 13,782,636 shares of our common stock, par value
$0.001 per share, to the stockholders of Sifang Holdings, representing
approximately 89.7% of our post-exchange issued and outstanding common stock, in
exchange for 100% of the outstanding capital stock of Sifang Holdings. We
presently carry on the business of Sifang Holdings' wholly-owned subsidiary,
Shanghai TCH Data Technology Co., Ltd., a Chinese corporation, or TCH.
Effective August 6, 2004, we changed our name from Boulder Acquisitions,
Inc. to China Digital Wireless, Inc. The name change was undertaken in order to
provide us with a name that is more indicative of the business operations we
conduct.
Our corporate headquarters is located at 429 Guangdong Road, Shanghai,
200001, Peoples Republic of China. Our telephone number is (86-21) 6336-8686.
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THE OFFERING
Common stock outstanding prior to this offering......... 17,018,692 shares
Common stock offered by us.............................. 0 shares
Common stock offered by the selling stockholders........ 2,737,381 shares
Total shares of common stock offered.................... 2,737,381 shares
Common stock to be outstanding after the offering....... 17,018,692 shares
Risk factors............................................ See "Risk Factors" and other information
included in this prospectus for a discussion
of factors you should consider before
deciding to invest in shares of our common
stock.
5
RISK FACTORS
An investment in our securities involves a high degree of risk. You should
carefully consider the following risks and the other information set forth
elsewhere in this prospectus, including our financial statements and related
notes, before you decide to purchase shares of our common stock. If any of these
risks occur, our business, financial condition and results of operations could
be adversely affected. As a result, the trading price of our common stock could
decline, perhaps significantly, and you could lose part or all of your
investment.
Risks Related to Our Business
Risks Related to Our Wireless Value-Added Information Services Business
We depend upon contractual arrangements with our affiliated value-added mobile
phone service providers, Sifang Information and Tianci, for the success of our
business. These arrangements may not be as effective in providing operational
control as direct ownership of these businesses and may be difficult to enforce.
Because we conduct our business only in China, and because we are
restricted by the Chinese government from owning telecommunications or Internet
operations in China, we depend on our affiliated value-added mobile phone
service providers, Sifang Information and Tianci, in which we have no direct
ownership interest, but with which we have entered into information service and
cooperation agreements, to provide those services to mobile phone users in China
through contractual agreements with the mobile operators, China Mobile and China
Unicom. These arrangements may not be as effective in providing control over our
value-added information services to mobile phone users in China as would be
direct ownership of these businesses. For example, Sifang Information or Tianci
could fail to take actions required to operate our business, such as entering
into service contracts with China Mobile or China Unicom. Moreover, a portion of
the fees for our services are paid by the mobile operators directly to Sifang
Information and Tianci, which are then obligated to transfer all of those fees
to us, in return for a small fee. If Sifang Information or Tianci fails to
perform their obligations under these agreements, we may have to rely on legal
remedies under Chinese law, which we cannot assure you would be effective or
sufficient.
In the opinion of our Chinese counsel, Grandall Legal Group (Shanghai),
Sifang Information and Tianci each possesses such licenses, permits,
certificates, authorities and approvals, issued by appropriate governmental
agencies or bodies in the People's Republic of China, as are necessary to
conduct its business as presently conducted as well as to perform its
obligations under any contracts between it and China Mobile and China Unicom,
respectively. In addition, to the best knowledge of Grandall Legal Group
(Shanghai), TCH is not in breach of or in default under any laws of the People's
Republic of China or any approval, consent, waiver, authorization, exemption,
permission, endorsement or license granted by any People's Republic of China
governmental agencies. There are, however, substantial uncertainties regarding
the interpretation and application of current and future Chinese laws and
regulations, as discussed below.
We depend on one software developer for a significant portion of our software
development, as well as for important marketing relationships.
We rely on Shanghai Chengao Industrial Co., Ltd., or Chengao, to develop a
significant portion of our software, including our Sifang Gutong software. We
also rely on Chengao to provide us with an important marketing relationship
regarding the mobile phone version of our Sifang Gutong software. If we lose our
relationship with Chengao, we could have a difficult time finding a suitable
replacement in the short term.
6
Our corporate structure could be deemed to be in violation of current or future
Chinese laws and regulations which could adversely affect our ability to operate
our business effectively or at all.
In connection with China's entry into the World Trade Organization, or WTO,
foreign investment in telecommunications and Internet services in China was
liberalized to allow for 30.0% foreign ownership in value-added
telecommunication and Internet services in 2002, 49.0% in 2003, and 50.0%
thereafter. In order to meet these ownership requirements, we have entered into
information service and cooperation agreements with Sifang Information and
Tianci. We do not have any direct ownership interest in Sifang Information or
Tianci. The original stockholder structure of Sifang Holdings was identical to
the current stockholder structure of Sifang Information, and each of Sifang
Information and Tianci are beneficially owned 69% by Tai Caihua, our president
and the chairman of our board of directors. It is possible that the relevant
Chinese authorities could, at any time, assert that any portion or all of TCH's,
Sifang Information's, or Tianci's existing or future ownership structure and
businesses violate existing or future Chinese laws, regulations or policies. It
is also possible that the new laws or regulations governing the
telecommunication or Internet sectors in China that have been adopted or may be
adopted in the future will prohibit or restrict foreign investment in, or other
aspects of, TCH's, Sifang Information's or Tianci's current or proposed
businesses and operations. In addition, these new laws and regulations may be
retroactively applied. In any such case, we could be required to restructure our
operations, which could adversely affect our ability to operate our business
effectively or at all.
We depend on China Mobile and China Unicom for delivery of our value-added
information services to mobile phone users in China, and the termination or
alteration of Sifang Information's and Tianci's various contracts with either of
them or their provincial or local affiliates could materially and adversely
impact our business.
Our affiliated value-added mobile phone service providers, Sifang
Information and Tianci, contract with the two principal mobile phone operators
in China, China Mobile and China Unicom, to offer our wireless value-added
information services to mobile phone users through these mobile phone operators,
which service nearly all of China's approximately 282.2 million mobile phone
subscribers. Given their dominant market position, our affiliated value-added
mobile phone service providers' negotiating leverage with these operators is
limited. If our affiliated value-added mobile phone service providers' various
contracts with either operator are terminated or adversely altered, it may be
impossible for our affiliated value-added mobile phone service providers to find
appropriate replacement operators with the requisite licenses and permits,
infrastructure and customer base to offer our services, and our business would
be significantly impaired.
Our value-added information services are provided to mobile phone users in
China pursuant to contracts with Sifang Information and Tianci have with China
Mobile and China Unicom and their provincial or local affiliates. Each of these
contracts is non-exclusive, and has a limited term (generally one year). Our
affiliates usually renew these contracts or enter into new ones when the prior
contracts expire, but on occasion the renewal or new contract can be delayed by
periods of one month or more. The terms of these contracts vary, but the
operators are generally entitled to terminate them in advance for a variety of
reasons or, in some cases, for no reason in their discretion. For example,
several of our affiliates' contracts with the mobile operators can generally be
terminated if:
o our affiliate fails to achieve performance standards which are
established by the applicable operator from time to time;
o our affiliate breaches its obligations under the contracts, which
include, in many cases, the obligation not to deliver content that
violates the operator's policies and applicable law;
o the operator receives high levels of customer complaints about our
affiliate's services; or
o the operator sends written notice to our affiliate that it wishes to
terminate the contract at the end of the applicable notice period.
Our affiliates may also be compelled to alter their arrangements with these
mobile operators in ways which adversely affect our business. China Mobile and
China Unicom have unilaterally changed their policies as applied to third-party
7
service providers in the past, and may do so again in the future. We may not be
able to adequately respond to negative developments in the contractual
relationships between our affiliates and China Mobile or China Unicom in the
future because we do not have a contractual relationship with China Mobile or
China Unicom.
Our business could be adversely affected if China Mobile or China Unicom or both
begin providing their own wireless value-added services.
Our wireless value-added information services business may be adversely
affected if China Mobile or China Unicom or both decide to begin providing their
own wireless value-added services to mobile phone users. In that case, we would
face enhanced competition, and our services could be fully or partially denied
access to their networks.
We depend in part on China Mobile and China Unicom to maintain accurate records
and to continue to pay our affiliated value-added wireless service providers.
We depend in part on China Mobile and China Unicom to maintain accurate
records of the fees paid by mobile phone users and to pay our affiliated
value-added wireless service providers. Specifically, the mobile operators
provide our affiliates with monthly statements that do not provide itemized
information regarding which of our services are being paid for. Our business and
results of operation could be adversely affected if these mobile phone companies
miscalculate the revenue generated from our services and our affiliates' portion
of that revenue, or refuse to pay our affiliates altogether.
Our revenues and cost of services are affected by billing and transmission
failures which are often beyond our control.
Our affiliates do not collect fees for our services owed to them by China
Mobile and China Unicom in a number of circumstances, including if:
o the delivery of our service to a customer is prevented because his or
her phone is turned off for an extended period of time, the customer's
prepaid phone card has run out of value or the customer has ceased to
be a customer of the applicable operator;
o China Mobile or China Unicom experiences technical problems with their
networks which prevent the delivery of our services to the customer;
o we experience technical problems with our technology platform that
prevent delivery of our services;
o our affiliates experience technical problems with their technology
platforms that prevent delivery of our services; or
o the customer refuses to pay for our service due to quality or other
problems.
These situations are known in the industry as billing and transmission
failures, and we do not recognize any revenue for services which are
characterized as billing and transmission failures. The failure rate can vary
among the operators, and by province, and also has fluctuated significantly in
the past. If actual billing and transmission failures exceed our estimates, our
revenues could be materially adversely affected.
China Mobile and China Unicom may impose higher service or network fees on our
affiliated value-added service providers if we are unable to satisfy customer
usage and other performance criteria.
Fees for our wireless value-added information services are charged on a
monthly subscription or per use basis. Based on our contractual arrangement and
those of our wireless value-added service providers, we rely on China Mobile and
China Unicom to bill and collect fees for our services from mobile phone users.
China Mobile and China Unicom generally charge our affiliated value-added
service providers service fees of 15% and 30% of the revenues generated by their
services, respectively. To the extent that the number of messages sent by Sifang
Information over China Mobile's network exceeds the number of messages their
8
customers send to it, Sifang Information must pay per message network fees,
which decrease in several provinces as the volume of customer usage of our
services increases. The number of messages sent by Sifang Information will
exceed those sent by end-users, for example, if a user sends Sifang Information
a single message to order a game but Sifang Information in turn must send that
user several messages to confirm his or her order and deliver the game itself.
Tianci's service fees owed to China Unicom could also rise if Tianci fails to
meet certain customer usage, revenue and other performance criteria. We cannot
be certain that our affiliates will be able to continue to satisfy these
criteria in the future or that the mobile operators will keep the criteria at
their current levels. Any increase in China Mobile's or China Unicom's network
fees and service charges could reduce our gross margins.
China Mobile and China Unicom may terminate their relationships with our
affiliates if our affiliates fail to achieve minimum customer usage, revenue and
other criteria.
Our business could be adversely affected if our affiliated value-added
mobile phone service providers fail to achieve minimum customer usage, revenue
and other criteria imposed or revised by China Mobile and China Unicom at their
discretion from time to time. China Mobile and China Unicom, through their
national and local offices, have historically preferred to work only with a
small group of the best performing wireless value-added service providers, based
upon the uniqueness of the service offered by each provider, total number of
users, usage and revenue generated in the applicable province or municipality,
the rate of customer complaints, and marketing expenditures in the applicable
province or municipality.
The services our affiliated value-added mobile phone service providers offer and
the prices they charge are subject to approval by China Mobile and China Unicom,
and if requested approvals are not granted in a timely manner, our business
could be adversely affected.
Our affiliated value-added mobile phone service providers must obtain
approval from China Mobile and China Unicom with respect to each service that
they propose to offer to their customers and the pricing for each such service.
In addition, any changes in the pricing of our affiliates' existing services
must be approved in advance by these operators. There can be no assurance that
such approvals will be granted in a timely manner or at all. Moreover, under
some of our affiliates' contracts with the operators, prices cannot be changed
more than once every six months and prices must be within fixed parameters,
depending on the service. Any failure of our affiliates to obtain, or any delay
in obtaining, such approvals could place us at a competitive disadvantage in the
market and adversely affect our business.
We operate in a rapidly evolving industry, which makes it difficult for
investors to evaluate our business.
We began commercially offering wireless value-added information services to
mobile phone and pager users in China in January 2002, and since that time, the
technologies and services used in the wireless value-added information services
industry in China have developed rapidly. As a result of this rapid and
continual change in the industry, the prospects of our value-added information
service business should be considered in light of the risks and difficulties
frequently encountered by businesses in an early stage of development. These
risks include our ability to:
o attract and retain users for our wireless value-added information
services;
o expand the content and services that we offer and, in particular,
develop and aggregate innovative new content and service offerings;
o respond effectively to rapidly evolving competitive and market
dynamics and address the effects of mergers and acquisitions among our
competitors;
o build relationships with strategic partners; and
o increase awareness of our brand and user loyalty.
Due to these factors, there can be no certainty that we will maintain or
increase our current share of the highly competitive wireless value-added
information services market in which we operate.
9
The success of much of our wireless value-added information services is
significantly dependent on our ability to obtain and reformat desirable content
and technology from third parties.
We obtain much of our content, including financial information, games,
logos, music, news and other information, from third parties. Furthermore, we
expect that we will develop and purchase technology in connection with our
development of next generation services such as MMS, JAVA and BREW. As the
market for wireless value-added information services develops, content and
technology providers may attempt to increase their profits from distribution
arrangements by demanding greater fees or a share of revenues, which would
adversely affect our financial performance. Many of our arrangements with
content and technology providers are non-exclusive, have a term of one year, and
are subject to renewal. If our competitors are able to obtain such content in a
similar or superior manner or to develop, purchase or license the same
technologies, it could adversely affect the popularity of our services and our
negotiating leverage with third-party providers.
If we fail to establish and maintain economically attractive relationships
with content and technology providers and to thereafter successfully reformat
their products, we may not be able to attract and retain customers or maintain
or improve our financial performance.
We depend on our Sifang Gutong software continuing to be compatible with new
mobile phone models.
There can be no assurance that our Sifang Gutong software will be
compatible with new mobile phones developed by manufacturers such as Samsung. If
the software is no longer compatible, we will be forced to engage Chengao or an
alternative software developer to develop software that is compatible with the
new mobile phones or we will have to develop the software ourselves. If we are
unable to either engage a software developer or develop software in house that
is compatible with new mobile phones, we will lose a significant portion of our
value-added information services revenue, including all of the pre-charged
subscription fee revenues we receive pursuant to our information services and
cooperation agreement among us, Chengao, and Sifang Information.
We face intense competition from other wireless value-added service providers.
The Chinese market for wireless value-added services is intensely
competitive. We believe there are more than 800 service providers (including the
three groups discussed below) as of June 30, 2004. We compete directly or
indirectly with three groups of wireless value-added service providers in China:
o portal service providers, which have established expertise in Internet
content and have subsequently branched into mobile space. The portals
serve as content aggregators offering a variety of wireless
value-added services;
o dedicated service providers, whose businesses focus on offering a
variety of wireless content directly to mobile phone users; and
o niche service providers, which focus primarily on a particular market
segment or application that often builds on a pre-existing sector
competency.
We have faced direct or indirect competition from all three groups since
our entry into this market. Moreover, there are low barriers to entry for new
competitors in the wireless value-added services market. As a result, our
existing or potential competitors may in the future achieve greater market
acceptance and gain additional market share, which in turn could reduce our
revenues.
Most of our value-added information services revenues are derived from the
Shanghai municipal area and surrounding provinces, and the termination or
alteration of our affiliates' contracts with the mobile operators, or a general
economic downturn in those areas, could have a particularly adverse effect on
our business.
Per capita income levels and mobile phone penetration rates (i.e., the
number of mobile subscribers divided by the population of China) in China are
generally higher in the coastal and southern provinces, and most of our revenues
10
are derived from those areas, including the municipality of Shanghai and the
provinces of Beijing and Jiangsu. If our affiliates' contracts with the mobile
operators with respect to those areas are terminated or adversely modified, or
if there is a general economic downturn in those areas, it could have a
particularly adverse effect on our business.
We depend on key personnel for the success of our business. Our business may be
severely disrupted if we lose the services of our key executives and employees
or fail to add new senior and middle managers to our management.
Our future success is heavily dependent upon the continued service of our
key executives, particularly Tai Caihua, our president and chairman of our board
of directors, Fu Sixing, our chief executive officer, Lu Qin, our chief
financial officer, and Qian Fang, our chief technology officer. Each of our
executive officers has entered into a non-competition agreement with TCH.
Management will spend approximately 30% of its time managing Sifang Information.
We also rely on a number of key technology staff for the operation of our
company. Our future success is also dependent upon our ability to attract and
retain qualified senior and middle managers to our management team.
If one or more of our current or future key executives and employees are
unable or unwilling to continue in their present positions, we may not be able
to easily replace them, and our business may be severely disrupted. In addition,
if any of these key executives or employees joins a competitor or forms a
competing company, which is a high risk given the competitive nature of our
industry, we could lose customers and suppliers and incur additional expenses to
recruit and train personnel and it could disrupt our operations.
Rapid growth and a rapidly changing operating environment strain our limited
resources.
As our value-added information services customer base increases, we will
need to increase our investment in our technology infrastructure, facilities and
other areas of operations, in particular our product development, customer
service and sales and marketing departments, which are important to our future
success. If we are unable to manage our growth and expansion effectively, the
quality of our services and our customer support could deteriorate and our
business may suffer. Our future success will depend on, among other things, our
ability to:
o develop and quickly introduce new services, adapt our existing
services and maintain and improve the quality of all of our services,
particularly as new mobile technologies such as 3G are introduced;
o expand the percentage of our value-added information services revenues
which are recurring and are derived from monthly subscription based
services;
o continue to enter into and maintain relationships with desirable
content providers;
o continue training, motivating and retaining our existing employees and
attract and integrate new employees, including our senior management,
most of whom have been with our company for less than one year;
o develop and improve our operational, financial, accounting and other
internal systems and controls; and
o maintain adequate controls and procedures to ensure that our periodic
public disclosure under applicable laws, including U.S. securities
laws, is complete and accurate.
Any failures of the mobile telecommunications network, the Internet or our
technology platform may reduce use of our services.
Both the continual accessibility of China Mobile's and China Unicom's
mobile networks and the performance and reliability of China's Internet
infrastructure are critical to our ability to attract and retain our value-added
information services customers . Moreover, our business depends on our ability
to maintain the satisfactory performance, reliability and availability of our
technology platform. The servers which constitute the principal system hardware
11
for our operations are located in one location in Shanghai. Any server
interruptions, break-downs or system failures, including failures caused by
sustained power shutdowns, floods or fire causing loss or corruption of data or
malfunctions of software or hardware equipment, or other events outside our
control that could result in a sustained shutdown of all or a material portion
of the mobile networks, the Internet or our technology platform, could adversely
impact our ability to provide our services to our value-added information
services customers and decrease our revenues.
Computer viruses and hacking may cause delays or interruptions on our systems
and may reduce use of our services and harm our reputation.
Computer viruses and hacking may cause delays or other service
interruptions on our systems. "Hacking" involves efforts to gain unauthorized
access to information or systems or to cause intentional malfunctions or loss or
corruption of data, software, hardware or other computer equipment. In addition,
the inadvertent transmission of computer viruses could expose us to a material
risk of loss or litigation and possible liability. We may be required to expend
significant capital and other resources to protect our systems against the
threat of such computer viruses and hacking and to rectify any damage to our
systems. Moreover, if a computer virus or hacking which affects our systems is
highly publicized, our reputation could be materially damaged and usage of our
services may decrease.
We may be held liable for information we purchase and reformat.
We may face liability for defamation, negligence, copyright, patent or
trademark infringement and other claims based on the reformatted content to
which we provide access through our wireless value-added information services.
For example, SMS news updates provided by us could possibly be deemed to contain
state secrets in violation of applicable Chinese law. In addition, third parties
could assert claims against us for losses incurred in reliance on information
distributed by us. We may incur significant costs in investigating and defending
these claims, even if they do not result in liability.
We may not be able to adequately protect our intellectual property, and we may
be exposed to infringement claims by third parties.
We rely on contractual restrictions on disclosure to protect our
intellectual property rights. Monitoring unauthorized use of our information
services is difficult and costly, and we cannot be certain that the steps we
take will effectively prevent misappropriation of our technology and content.
Our management may determine in the future to make application for copyright,
trademark or trade secret protection if management determines that such
protection would be beneficial and cost-effective.
From time to time, we may have to resort to litigation to enforce our
intellectual property rights, which could result in substantial costs and
diversion of our resources. In addition, third parties may initiate litigation
against us for alleged infringement of their proprietary rights. In the event of
a successful claim of infringement and our failure or inability to develop
non-infringing technology or content or license the infringed or similar
technology or content on a timely basis, our business could suffer. Moreover,
even if we are able to license the infringed or similar technology or content,
license fees that we pay to licensors could be substantial or uneconomical.
We have limited business insurance coverage.
The insurance industry in China is still at an early stage of development.
Insurance companies in China offer limited business insurance products, and do
not, to our knowledge, offer business liability insurance. As a result, we do
not have any business liability insurance coverage for our operations. Moreover,
while business disruption insurance is available, we have determined that the
risks of disruption and cost of the insurance are such that we do not require it
at this time. Any business disruption, litigation or natural disaster might
result in substantial costs and diversion of resources.
12
Risks Related to the Wireless Value-Added Services Industry
Our ability to generate revenues could suffer if the Chinese market for wireless
value-added services does not develop as anticipated.
The wireless value-added services market in China has evolved rapidly over
the last four years, with the introduction of new services, development of
consumer preferences, market entry by new competitors and adaptation of
strategies by existing competitors. We expect each of these trends to continue,
and we must continue to adapt our strategy to successfully compete in our
market.
In particular, we currently offer a wide range of wireless value-added
information services for mobile phones using 2.5G technologies. There can be no
assurance, however, that these 2.5G technologies and any services compatible
with them will be accepted by consumers or promoted by the mobile operators.
Moreover, there are numerous other technologies in varying stages of
development, such as third generation mobile technologies, which could radically
alter or eliminate the market for SMS or 2.5G services.
Accordingly, it is extremely difficult to accurately predict consumer
acceptance and demand for various existing and potential new offerings and
services, and the future size, composition and growth of this market.
Furthermore, given the limited history and rapidly evolving nature of our
market, we cannot predict the price that wireless subscribers will be willing to
pay for our services or the services of our affiliated value-added service
providers or whether subscribers will have concerns about security, reliability,
cost and quality of service associated with wireless services. If acceptance of
our wireless value-added information services is different than anticipated, our
ability to maintain or increase our revenue and profits could be materially and
adversely affected.
The popularity of our services which operate with next generation technology
standards are necessarily dependent on the market penetration of mobile phones
that are compatible with those standards, which is beyond our control.
Mobile phone users can access our MMS, WAP, JAVA, BREW and other services
which operate with next generation technology standards only if they purchase
mobile phones that are compatible with those standards. In particular, mobile
phones that are 2.5G-compatible have historically been significantly more
expensive in China than mobile phones using older technology such as GSM.
Although the prices of 2.5G-compatible mobile phones have been dropping rapidly
in recent quarters, we cannot be certain whether this trend will continue or the
extent to which existing users will be willing to upgrade their mobile phones to
obtain the latest technology. The pricing, marketing and other factors which
affect the sales of more sophisticated mobile phones are all outside of our
control, and weak sales of mobile phones for which we have developed services
could adversely affect our business.
The telecommunication laws and regulations in China are evolving and subject to
interpretation and will likely change in the near future. If we are found to be
in violation of current or future Chinese laws or regulations, we could be
subject to severe penalties.
Although wireless value-added services are subject to general regulations
regarding telecommunication services, we believe that currently there are no
Chinese laws at the national level explicitly governing wireless value-added
services, such as our services related to MMS, WAP, JAVA, and BREW, and no
Chinese government authority has been specifically designated to regulate these
services. Many providers of wireless value-added services have obtained various
value-added telecommunication services licenses, such as the licenses possessed
by our Chinese affiliates, Sifang Information and Tianci. These value-added
telecommunication licenses were issued by the local Shanghai Municipal
Telecommunications Administration Bureau, and may not be sufficient to offer
wireless value-added services on a national basis. Sifang Information and Tianci
are in the process of applying with the Ministry of Information Industries for
13
an inter-provincial value-added telecommunication license in accordance with the
Ministry's general regulations regarding telecommunication services. However, we
cannot predict whether either will be granted that license. Moreover, we cannot
be certain that any local or national value-added telecommunication license
requirements will not conflict with one another or that any given license will
be deemed sufficient by the relevant governmental authorities for the provision
of this category of service. It is also possible that new national legislation
might be adopted to regulate such services.
If we or our affiliates are found to be in violation of any existing or
future Chinese laws or regulations regarding wireless value-added services or
Internet access, the relevant Chinese authorities have the power to, among other
things:
o levy fines;
o confiscate our income or the income of our affiliated value-added
service providers;
o revoke our business license or the business licenses of our affiliated
value-added service providers;
o shut down our servers or the servers of our affiliated value-added
service providers or block any Web sites that we or our affiliated
value-added service providers may operate;
o require us to discontinue any portion or all of our wireless
value-added information services business; or
o require our affiliated value-added service providers to discontinue
any portion or all of their wireless value-added services business.
The Chinese government, China Mobile or China Unicom may prevent us from
distributing, and we may be subject to liability for, content that any of them
believe is inappropriate.
China has enacted regulations governing telecommunication service
providers, Internet access and the distribution of news and other information.
In the past, the Chinese government has stopped the distribution of information
over the Internet that it believes violates Chinese law, including content that
is obscene, incites violence, endangers national security, is contrary to the
national interest, or is defamatory. In addition, our affiliated value-added
service providers may not publish certain news items, such as news relating to
national security, without permission from the Chinese government. Furthermore,
the Ministry of Public Security has the authority to cause any local Internet
service provider to block any Web site maintained outside China at its sole
discretion. China Mobile and China Unicom also have their own policies regarding
the distribution of inappropriate content by wireless value-added service
providers and have recently punished certain providers for distributing content
deemed by them to be obscene. Such punishments have included censoring of
content, delaying payments of fees by the mobile operators to the offending
service provider, forfeiture of fees owed by the mobile operators to the
offending service provider and suspension of the service on the mobile
operators' networks. Accordingly, even if our affiliated wireless value-added
service providers comply with Chinese governmental regulations relating to
licensing and foreign investment prohibitions, if the Chinese government, China
Mobile or China Unicom were to take any action to limit or prohibit the
distribution of information or to limit or regulate any current or future
content or services available to users, our revenues could be reduced and our
reputation harmed.
The Chinese government is expected to grant licenses to offer wireless
services in China to China Telecom, China Netcom and possibly other parties with
which our affiliated wireless value-added service providers have not yet
developed close relationships. If those parties receive licenses and are
successful in the market but our affiliates are unable to develop cooperative
relationships with them, our business could be adversely affected.
It is also possible that China Telecom, China Netcom and any other parties
receiving wireless licenses may decide to offer wireless value-added services
created by them, rather than by third-party service providers such as our
affiliated wireless value-added service providers. In that case, our business
could be adversely affected.
14
Risks Related to Doing Business in China
A downturn in the Chinese economy may slow down our growth and profitability.
The growth of the Chinese economy has been uneven across geographic regions
and economic sectors. There can be no assurance that growth of the Chinese
economy will be steady or that any downturn will not have a negative effect on
our business. Our profitability, will decrease if expenditures for wireless
value-added services decrease due to a downturn in the Chinese economy. More
specifically, increased penetration of wireless value-added services in the less
economically developed central and western provinces of China will depend on
those provinces achieving certain income levels so that mobile phones and
related services become affordable to a significant portion of the population.
Government regulation of the telecommunications and Internet industries may
become more complex.
Government regulation of the telecommunications and Internet industries is
highly complex. New regulations could increase our costs of doing business and
prevent us from efficiently delivering our services. These regulations may stop
or slow down the expansion of our wireless value-added information services
customer base and limit access to our services.
The uncertain legal environment in China could limit the legal protections
available to you.
The Chinese legal system is a civil law system based on written statutes.
Unlike common law systems, it is a system in which decided legal cases have
little precedential value. In the late 1970s, the Chinese government began to
promulgate a comprehensive system of laws and regulations governing economic
matters. The overall effect of legislation enacted over the past 20 years has
significantly enhanced the protections afforded to foreign invested enterprises
in China. However, these laws, regulations and legal requirements are relatively
recent and are evolving rapidly, and their interpretation and enforcement
involve uncertainties. These uncertainties could limit the legal protections
available to foreign investors, such as the right of foreign invested
enterprises to hold licenses and permits such as requisite business licenses.
Any recurrence of severe acute respiratory syndrome, or SARS, or another
widespread public health problem, could adversely affect our business and
results of operations.
A renewed outbreak of SARS or another widespread public health problem in
China, where all of our revenue is derived, and in Shanghai, where our
operations are headquartered, could have a negative effect on our operations.
Our operations may be impacted by a number of health-related factors, including
the following:
o quarantines or closures of some of our offices which would severely
disrupt our operations;
o the sickness or death of our key officers and employees; and
o a general slowdown in the Chinese economy.
Any of the foregoing events or other unforeseen consequences of public
health problems could adversely affect our business and results of operations.
Changes in China's political and economic policies could harm our business.
The economy of China has historically been a planned economy subject to
governmental plans and quotas and has, in certain aspects, been transitioning to
a more market-oriented economy. Although we believe that the economic reform and
the macroeconomic measures adopted by the Chinese government have had a positive
effect on the economic development of China, we cannot predict the future
direction of these economic reforms or the effects these measures may have on
our business, financial position or results of operations. In addition, the
Chinese economy differs from the economies of most countries belonging to the
Organization for Economic Cooperation and Development, or OECD. These
differences include:
15
o economic structure;
o level of government involvement in the economy;
o level of development;
o level of capital reinvestment;
o control of foreign exchange;
o methods of allocating resources; and
o balance of payments position.
As a result of these differences, our business may not develop in the same
way or at the same rate as might be expected if the Chinese economy were similar
to those of the OECD member countries.
Restrictions on currency exchange may limit our ability to receive and use our
revenues effectively.
Because almost all of our future revenues may be in the form of Renminbi,
any future restrictions on currency exchanges may limit our ability to use
revenue generated in Renminbi to fund any future business activities outside
China or to make dividend or other payments in U.S. dollars. Although the
Chinese government introduced regulations in 1996 to allow greater
convertibility of the Renminbi for current account transactions, significant
restrictions still remain, including primarily the restriction that
foreign-invested enterprises may only buy, sell or remit foreign currencies,
after providing valid commercial documents, at those banks authorized to conduct
foreign exchange business. In addition, conversion of Renminbi for capital
account items, including direct investment and loans, is subject to governmental
approval in China, and companies are required to open and maintain separate
foreign exchange accounts for capital account items. We cannot be certain that
the Chinese regulatory authorities will not impose more stringent restrictions
on the convertibility of the Renminbi, especially with respect to foreign
exchange transactions.
The value of our securities will be affected by the foreign exchange rate
between U.S. dollars and Renminbi.
The value of our common stock will be affected by the foreign exchange rate
between U.S. dollars and Renminbi. For example, to the extent that we need to
convert U.S. dollars into Renminbi for our operational needs and should the
Renminbi appreciate against the U.S. dollar at that time, our financial position
and the price of our common stock may be adversely affected. Conversely, if we
decide to convert our Renminbi into U.S. dollars for the purpose of declaring
dividends on our common stock or for other business purposes and the U.S. dollar
appreciates against the Renminbi, the U.S. dollar equivalent of our earnings
from our subsidiaries in China would be reduced.
Risks Related to the Mobile Phone Distribution Industry
We are dependent on three main first-tier wholesalers to supply all of our
mobile phones.
Our performance depends on whether we can continue to secure contracts with
the three first-tier wholesalers of Samsung mobile phones on whom we rely. We
have no long-term purchase contracts or other contracts that provide continued
supply, pricing or access to new mobile phone models and any of the first-tier
wholesalers on whom we rely could discontinue selling to us at any time. We may
not be able to acquire new Samsung models in the future and we may not be able
to acquire the models that we need in sufficient quantities or on terms that are
acceptable to us in the future. As a result, our revenues may decrease.
Our performance is dependent on the popularity of Samsung's mobile phone models.
We primarily distribute mobile phones manufactured by Samsung and thus are
dependant on Samsung's ability to create and deliver high quality mobile phone
models in a cost effective and timely manner. Samsung is a leading manufacturer
of mobile phones based on both the CDMA network and the GSM network in China.
There can be no assurance that Samsung will continue to create high quality
mobile phone models that are popular with consumers. As a result, our revenues
16
may decrease. In addition, our success depends on our ability to anticipate and
respond to changing mobile phone model trends and consumer demands in a timely
manner. The models we distribute must appeal to a broad range of consumers whose
preferences cannot always be predicted with certainty and may change between
sales seasons. If we misjudge which mobile phone models will be popular or the
market for the models we distribute, our sales may decline or we may be required
to sell our models at lower prices.
We rely on cash flow to purchase mobile phones from wholesalers, and any
significant decrease in cash flow could have a negative impact on our ability to
meet customer demand.
It is important that we have sufficient cash flow to purchase enough mobile
phones from the first-tier wholesalers on whom we rely. If our cash flow
decreases significantly, we will not be able to purchase a sufficient quantity
of inventory to meet our customers' demands, which would have a negative impact
on our sales, and may cause the first-tier wholesalers on whom we rely to look
to other sub-wholesalers to distribute their mobile phones. This development
would have a negative impact on our revenues.
Our customers are under no obligation to do business with us, and if they
terminate or materially reduce their relationship with us it would adversely
impact our business.
One of the factors the first-tier wholesalers on whom we rely consider when
determining who they will use as a sub-wholesaler is the sub-wholesaler's
relationship with retailers. Currently approximately 67% of our mobile phone
sales are made to five retailers. We have no long-term sales contracts or other
contracts that provide continued selling or pricing and any of the retailers we
supply could discontinue buying from us at any time. If we lose our
relationships with our five largest retailers, we will have a difficult time
finding new large retailers to purchase our Samsung mobile phones and may lose
our relationships with the first-tier wholesalers on whom we rely. This would
have a negative impact on our business.
We face certain risks relating to customer service, and any resulting problems
could adversely affect our sales.
Any material disruption or slowdown in our order processing systems
resulting from labor disputes, mechanical problems, human error or accidents,
fire, natural disasters, or comparable events could cause delays in our ability
to receive and distribute orders and may cause orders to be lost or to be
shipped or delivered late. As a result, customers may cancel orders or refuse to
receive goods on account of late shipments, which would result in a reduction in
our net sales and could result in increased administrative and shipping costs.
We face risks associated with the concentration of our distribution operations
in one location.
We conduct all of our distribution operations from one facility in
Shanghai, China. Any disruption in the operations at our distribution center
could have a negative impact on our business.
We face competition from distributors selling other mobile phone models.
Despite the fact that we distribute nine Samsung mobile phone models in the
Shanghai, China region, we face competition from distributors of different
models of mobile phones manufactured by Samsung in the Shanghai region and from
distributors of phones manufactured by companies other than Samsung that
distribute in the Shanghai region.
Competition is based on a variety of factors including maintenance of
product quality, competitive pricing, delivery efficiency, customer service and
satisfaction levels and the ability to anticipate technological changes and
changes in customer preferences. The first-tier wholesalers on whom we rely or
Samsung may acquire, startup, or expand their own distribution systems to sell
directly to our customers.
17
Risks Related to our Common Stock
The market price for our common stock may be volatile.
The market price for our common stock is likely to be highly volatile and
subject to wide fluctuations in response to factors including the following:
o actual or anticipated fluctuations in our quarterly operating results;
o announcements of new services by us or our competitors;
o changes in financial estimates by securities analysts;
o conditions in the wireless value-added services market;
o changes in the economic performance or market valuations of other
companies involved in wireless value-added services or distribution of
mobile phones;
o announcements by our competitors of significant acquisitions,
strategic partnerships, joint ventures or capital commitments;
o additions or departures of key personnel;
o potential litigation; or
o conditions in the mobile phone market.
In addition, the securities markets have from time to time experienced
significant price and volume fluctuations that are not related to the operating
performance of particular companies. These market fluctuations may also
materially and adversely affect the market price of our common stock.
Stockholders could experience substantial dilution.
We may issue additional shares of our capital stock to raise additional
cash for working capital. If we issue additional shares of our capital stock,
our stockholders will experience dilution in their respective percentage
ownership in the company.
We have no present intention to pay dividends.
Neither during the preceding two fiscal years nor during the three month
period ended March 31, 2005 did we pay dividends or make other cash
distributions on our common stock, and we do not expect to declare or pay any
dividends in the foreseeable future. We intend to retain any future earnings for
working capital and to finance current operations and expansion of our business.
A large portion of our common stock is controlled by a small number of
stockholders.
A large portion of our common stock is held by a small number of
stockholders. As a result, these stockholders are able to influence the outcome
of stockholder votes on various matters, including the election of directors and
extraordinary corporate transactions including business combinations. In
addition, the occurrence of sales of a large number of shares of our common
stock, or the perception that these sales could occur, may affect our stock
price and could impair our ability to obtain capital through an offering of
equity securities. Furthermore, the current ratios of ownership of our common
stock reduce the public float and liquidity of our common stock which can in
turn affect the market price of our common stock.
We may be subject to "penny stock" regulations.
The Securities and Exchange Commission, or SEC, has adopted rules that
regulate broker-dealer practices in connection with transactions in "penny
stocks." Penny stocks generally are equity securities with a price of less than
$5.00 (other than securities registered on certain national securities exchanges
or quoted on the NASDAQ system, provided that current price and volume
information with respect to transactions in such securities is provided by the
exchange or system). Penny stock rules require a broker-dealer, prior to a
18
transaction in a penny stock not otherwise exempt from those rules, to deliver a
standardized risk disclosure document prepared by the SEC, which specifies
information about penny stocks and the nature and significance of risks of the
penny stock market. A broker-dealer must also provide the customer with bid and
offer quotations for the penny stock, the compensation of the broker-dealer, and
our sales person in the transaction, and monthly account statements indicating
the market value of each penny stock held in the customer's account. In
addition, the penny stock rules require that, prior to a transaction in a penny
stock not otherwise exempt from those rules, the broker-dealer must make a
special written determination that the penny stock is a suitable investment for
the purchaser and receive the purchaser's written agreement to the transaction.
These disclosure requirements may have the effect of reducing the trading
activity in the secondary market for stock that becomes subject to those penny
stock rules. Whenever any of our securities become subject to the penny stock
rules, holders of those securities may have difficulty in selling those
securities.
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
This prospectus contains forward-looking statements that involve risks and
uncertainties. These statements relate to future events or our future financial
performance. In some cases, you can identify forward-looking statements by
terminology such as "may," "will," "could," "expect," "plan," "intend,"
"anticipate," "believe," "estimate," "predict," "potential," or "continue," or
the negative of such terms or other comparable terminology. These statements are
only predictions and are subject to certain risks and uncertainties, which could
cause actual results to differ materially from those projected due to a number
of factors beyond our control. Actual events or results may differ materially.
In evaluating these statements, you should specifically consider various
factors, including the risks outlined in the "Risk Factors" section above. These
factors may cause our actual results to differ materially from any
forward-looking statement.
Although we believe that the expectations reflected in the forward-looking
statements are reasonable, we cannot guarantee future results, levels of
activity, performance or achievements. You are cautioned not to place undue
reliance on these forward-looking statements, which speak only as of the date
hereof. We are under no duty to update any of the forward-looking statements
after the date of this prospectus to conform such statements to actual results
or to changes in our expectations.
Factors that might cause actual results, performance or achievements to
differ materially from those projected or implied in such forward-looking
statements include, among other things: (i) the impact of competitive products;
(ii) changes in law and regulations; (iii) adequacy and availability of
insurance coverage; (iv) limitations on future financing; (v) increases in the
cost of borrowings and unavailability of debt or equity capital; (vi) the effect
of adverse publicity regarding our products; (vii) our inability to gain and/or
hold market share; (viii) exposure to and expense of resolving and defending
product liability claims and other litigation; (ix) consumer acceptance of our
products; (x) managing and maintaining growth; (xi) customer demands; (xii)
market and industry conditions including pricing and demand for products, (xiii)
the success of product development and new product introductions into the
marketplace; (xiv) the departure of key members of management; (xv) our ability
to efficiently market its products; as well as other risks and uncertainties
that are described from time to time in our filings with the SEC.
MARKET FOR COMMON EQUITY,
RELATED STOCKHOLDER MATTERS AND DIVIDEND POLICY
Our common stock is traded on the NASD's Over-the-Counter Bulletin Board
under the symbol "CHDW." On August 6, 2004 we changed our name from Boulder
Acquisitions, Inc. to China Digital Wireless, Inc. and changed our symbol from
"BAQI" to "CHDW." On July 28, 2005, the last reported sales price for our common
stock was $3.12 per share.
19
The following table sets forth, for the quarters indicated, the range of
closing high and low bid prices of our common stock as reported by the NASD
Over-the-Counter Bulletin Board, as adjusted for all previously effected stock
splits.
Common Stock
-----------------------
By Quarter Ended High Low
---------------- -------- -------
Fiscal 2003
-------------------------------------------------
March 31, 2003................................ $.00 $.00
June 30, 2003................................. $.42 $.23
September 30, 2003............................ $.42 $.42
December 31, 2003............................. $.42 $.42
Fiscal 2004
-------------------------------------------------
March 31, 2004................................ $5.00 $.42
June 30, 2004................................. $4.05 $2.30
September 30, 2004............................ $3.90 $1.98
December 31, 2004............................. $4.85 $2.80
Fiscal 2005
-------------------------------------------------
March 31, 2005................................ $4.25 $3.42
June 30, 2005................................. $5.20 $1.40
September 30, 2005 (through July 28, 2005).... $3.12 $1.41
------------------------
As of June 30, 2005 there were 17,018,692 shares of our common stock
outstanding held by approximately 2,554 stockholders of record.
We did not pay any cash dividends on our common stock in fiscal 2003 or
2004 nor have dividends been paid or declared in fiscal 2005. We do not
anticipate paying any cash dividends on our common stock in the foreseeable
future. We currently intend to retain future earnings, if any, to finance
operations and the expansion of our business.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF PLAN OF OPERATION
The following discussion should be read in conjunction with our financial
statements and the notes thereto and the other financial information appearing
elsewhere in this document.
Overview of Business Background
Sifang Holdings was formed under the laws of the Cayman Islands on February
9, 2004 for the purpose of holding a 100% equity interest in TCH. TCH was
established as a foreign investment enterprise in Shanghai under the laws of the
PRC on May 25, 2004, with a registered capital of $7.2 million.
Sifang Information is a Shanghai-based privately owned enterprise
established under the laws of the PRC on August 14, 1998. Sifang Information is
engaged in the business of pager and mobile phone distribution and provides
value added information services to the customers in the Shanghai metropolitan
area. In March 2004, Sifang Information spun off its mobile phone distribution
business and the majority of its value added information services business by
presenting a set of carve-out financial statements for the years ended December
31, 2002 and 2003 and three months ended March 31, 2004 as if the spun-off
business had been a stand-alone company for two years and one quarter. On March
31, 2004, Sifang Information transferred the spun-off business into TCH. Being a
receiving entity under common control, TCH initially recognized all the assets
and liabilities transferred at their carrying amounts in the accounts of Sifang
Information at the date of transfer under the guidance of SFAS No. 141, Appendix
D. On May 26, 2004 Sifang Information exchanged 100% of equity interest in TCH
20
for a 100% equity interest in Sifang Holdings. Since the ultimate owners of the
three entities were the same owners and the three entities remained under common
control, the ownership exchange transaction was accounted for at historical
costs under the guidance of SFAS No. 141, Appendix D. Prior to May 26, 2004,
there were no activities in Sifang Holdings. As a result of exchanging the
ownership between TCH and Sifang Holdings, TCH's historical financial statements
become the historical financial statements of Sifang Holdings.
Sifang Information operates in a business segment that is subject to
certain restrictions imposed by the government of the PRC. For example, paging
facilities, radio transmitting stations and transmitting equipment owned by
Sifang Information are not allowed to be owned by foreign investment enterprises
in accordance with PRC government regulations. Therefore, Sifang Information
still maintains a small part of its business and paging facilities in order to
stay in compliance with relevant regulations and laws in PRC.
As a result of the spin-off, TCH engages in the business of mobile phone
distribution and the provision of pager and mobile phone (collectively "wireless
receiver") users with access to certain information reformatted by TCH. TCH
purchases mobile phones from first tier distributors and sells them to retailers
with a mark-up. In the process of providing value-added information services
through entering into monthly subscription agreements with various users, TCH
purchases trading activity information from stock exchanges, comments and
analysis on PRC stock markets provided by certain reputable security and
investment companies, lottery information, weather forecast, and other
value-added products and reformats the aforementioned information through
decoding and recoding and then has the reformatted information transmitted by
Sifang Information, via service contracts, to pager users. The information is
constantly saved in TCH's server in order for mobile phone users to dial in via
China Mobile or China Unicom. By signing a monthly subscription agreement,
wireless users agree to make advance payments for either three or six-month
subscription periods.
Critical Accounting Policies
We prepare our consolidated financial statements in accordance with
accounting principles generally accepted in the United States of America. The
preparation of these financial statements requires the use of estimates and
assumptions that affect the reported amounts of assets and liabilities and the
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amount of revenues and expenses during the reporting
period. Management periodically evaluates the estimates and judgments made.
Management bases its estimates and judgments on historical experience and on
various factors that are believed to be reasonable under the circumstances.
Actual results may differ from these estimates as a result of different
assumptions or conditions.
The following critical accounting policies affect the more significant
judgments and estimates used in the preparation of our consolidated financial
statements.
Revenue Recognition
We derive revenues from the sale of mobile phones and the provision of
wireless information services that are used on mobile phones, pagers and prepaid
phone cards. We additionally earn commission income, or Agency Income, from the
sale of CDMA mobile phones on the behalf of a related party. We recognize
revenues net of related business taxes and value added taxes.
Mobile Phone Sales
Revenues generated from the sale of mobile phones are recognized when the
products are shipped to the distributor or retailer and when persuasive evidence
of an arrangement exists, delivery of the products has occurred, customer
acceptance has been obtained, which means the significant risks and rewards of
ownership have been transferred to the customer, the price is fixed or
determinable and collectibility is reasonably assured.
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Services
We recognize service revenues over the term of the noted agreement and or
when the services have been provided to the end user.
Information Services - TCH. By signing a subscription agreement, wireless
receiver users agree to make payments for three- to six-month subscriptions in
advance. We record the proceeds as deferred revenue and amortize the deferred
revenue over the subscription period. When customers buy a pre-charged service
card, we record the proceeds as deferred revenue. When a customer starts to use
this card to access to our server and starts to use a pager to access the
aforementioned information, we identify the subscription period and amortizes
the deferred revenue over the subscription period.
Information Services - Installing Agent. We have an installing agent
install our software on mobile phones, which are owned by the retailer. The
retailer sells these phones for a premium covering a fee to be paid to the
installing agent and pre-charged six-month subscription fees to be paid to us.
After a customer using such a phone dials into the server to access the desired
information, the server records a unique identification number installed on the
mobile phone, which indicates that a specific phone user starts his or her
subscription period. After we receive a detailed list from the installing agent
regarding the number of phones that have been installed with our software, we
match this information with a detailed list from the retailer setting forth how
many such phones have been sold. Based on the number of such phones sold, we
record accounts receivable and deferred revenue. At the date on which a customer
starts to dial into the server, the six-month subscription period begins and we
amortize deferred revenue accordingly.
Information Services - China Mobile and / or Unicom. Since April 2004, the
revenue generated from selling pre-charged cards has gradually decreased while
the revenue generated through monthly subscriptions with China Mobile and/or
China Unicom (collectively, "Mobile Operators") has gradually increased as the
Mobile Operators' billing systems have been enhanced. Our affiliates, Sifang
Information and Tianci, contract with the Mobile Operators for the transmission
of our value-added information services. The Mobile Operators bill and collect
from customers and then pass those fees (net of billing and collection service
fees charged by the Mobile Operators) to Sifang Information and Tianci who in
turn pass those fees to us. We recognize net revenues based on the total amount
paid by our customers, for which the Mobile Operators bill and collect on our
behalf. There is a time lag ranging from 10 days to 45 days between the end of
the service period and the date the Mobile Operators send out their billing
statements due to the segregated billing systems of each of the provincial
subsidiaries of the Mobile Operators. We received the December invoice before
the issuance of our financial statements to reconcile the monthly revenues to
the Mobile Operators billing statement. We have not recognized service revenue
based on the records provided by its own server but have performed a
reconciliation on a monthly basis of the revenues recognized by our server to
the Mobile Operator's billing statement. In addition, the Mobile Operators
charge a network usage fee based on a fixed per message fee multiplied by the
excess of messages sent over messages received. This type of service is not
covered by a monthly service subscription and we have no control whether or not
it will occur Network usage fees charged by the Mobile Operators are reduced for
messages received by us because the Mobile Operators separately charge the
sender a fee for these transmissions.
We record the revenue from China Mobile / China Unicom on a net basis in
compliance with EITF 99-19, "Reporting Revenues Gross as a Principal versus Net
as an Agent" because we:
o are not the primary obligor in the arrangement, as we rely on Sifang
Information to transmit the information services to the end user;
o have limited ability to adjust the cost of services by adjusting the
design or marketing of the service,
o have limited ability to determine prices, as we must follow the price
policy within ranges prescribed by Mobile Operators; and
o have limited ability to assume risk of non-payment by customers.
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Our dependence on the substance and timing of the billing systems of the
mobile telecommunications operators may require us to estimate portions of our
reported revenue for wireless Internet services from time to time. As a result,
subsequent adjustments may have to be made to our wireless Internet service
revenue in our financial statements. As we do not bill our wireless Internet
services users directly, we depend on the billing systems and records of the
mobile telecommunications operators to record the volume of our wireless
Internet services provided, charge our users through mobile telephone bills and
collect payments from our users and pay us.
Accounts Receivable and Concentration of Credit Risk
During the normal course of business, we extend unsecured credit to our
retailers and distributors who are mainly located in the Shanghai metropolitan
area. Typically, for mobile phone distributors, the credit terms require payment
to be made within 30 days of the sale. We do not require collateral from our
customers. Our policy is to provide for delinquent
We regularly evaluate and monitor the creditworthiness of each customer on
a case-by-case basis. We include any account balances that are determined to be
uncollectable in the overall allowance for doubtful accounts. After all attempts
to collect a receivable have failed, the receivable is written off against the
allowance. Based on the information available to management, we believe that our
allowance for doubtful accounts was adequate as of March 31, 2005 and 2004.
However, actual write-offs might exceed the recorded allowance.
Cash and Cash Equivalents
We consider all highly liquid investments with maturities of three months
or less to be cash equivalents. We maintain our cash accounts at credit worthy
financial institutions.
Inventories
Inventories consist principally of mobile phones manufactured by name brand
manufacturers with various features and are stated at the lower of cost
(weighted-average) or market.
Rebates and Credits Receivable
In 2004 our major vendor began providing sales rebates and credits if we
fulfill certain sales volumes prescribed by the vendor in order to induce our
distributors to sell more of our products. As a result, we are entitled to
receive certain rebates and credits for the inventory held and sold by us within
the specified period of time as defined by our vendor through submitting the
necessary application forms. In general, once the vendor approves these
applications the amounts of these rebates and credits will be deducted from our
accounts payable to our vendor and decrease the cost of goods sold or inventory
held correspondingly.
Impairment of Long-Lived Assets
We apply the provisions of Statement of Financial Accounting Standard No.
144, "Accounting for the Impairment or Disposal of Long-Lived Assets," or SFAS
No. 144, issued by the Financial Accounting Standards Board, or FASB. SFAS No.
144 requires that long-lived assets be reviewed for impairment whenever events
or changes in circumstances indicate that the carrying amount of an asset may
not be recoverable through the estimated undiscounted cash flows expected to
result from the use and eventual disposition of the assets. Whenever any such
impairment exists, an impairment loss will be recognized for the amount by which
the carrying value exceeds the fair value. There was no impairment of long-lived
assets in the years ended December 31, 2004 and 2003 and the three months ended
March 31, 2005.
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Income Taxes
We account for income taxes in accordance with Statement of Financial
Accounting Standards No 109, "Accounting for Income Taxes," or SFAS No. 109.
SFAS No. 109 requires an entity to recognize deferred tax liabilities and
assets. Deferred tax assets and liabilities are recognized for the future tax
consequence attributable to the difference between the tax bases of assets and
liabilities and their reported amounts in the financial statements. Deferred tax
assets and liabilities are measured using the enacted tax rate expected to apply
to taxable income in the years in which those temporary differences are expected
to be recovered or settled. The effect on deferred tax assets and liabilities of
a change in tax rates is recognized in income in the period that included the
enactment date. We establish a valuation when it is more likely than not that
the assets will not be recovered.
TCH is registered at Pudong District in Shanghai and subject to a favorable
income tax rate of 15% compared to a normal income tax rate of 33% (30% for the
central government and 3% for the local government) under current PRC tax laws.
However, Sifang Information registered in the Shanghai downtown area and has
been treated by the Shanghai Municipal Administration of Labor as an enterprise
that provides unemployed and handicapped people with jobs. Accordingly, Sifang
Information is entitled to be subject to a favorable income tax rate of 15% and
qualifies for income tax exemption for three years from January 1, 2000 to
December 31, 2002, and 50% of income tax reduction for three years from January
1, 2003 to December 31, 2005. The income tax provisions presented in our
financial statements are based on the historical actual income tax rates of
Sifang Information at 7.5% for the year ended December 31, 2003. The income tax
provision presented for the year ended December 31, 2004 is based on 7.5% for
the months of January to June and 15% for the months of July to December. The
income tax provision presented for the three months ended March 31, 2005 is
based on $799,898. The deferred tax assets are determined based on the
historical income tax rates applicable at the TCH level.
There is no income tax for companies domiciled in the Cayman Islands.
Accordingly, Sifang Holdings financial statements do not present any income tax
provisions related to Cayman Islands tax jurisdiction.
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ materially
from those estimates. Discussion and Analysis of Operating Results
Three Months Ended March 31, 2005 Comparing to Three Months Ended March 31,
2004
Total revenues
Total revenues in the three months ended March 31, 2005 increased by
approximately $1,032,656, representing an approximately 21.8% increase, to
$5,775,362 as compared to $4,742,706 for the same period of the prior year. The
increase was due mainly to our marketing effort and further facilitated by
Samsung's marketing promotion. Total revenues consist of product sales, product
sales to related parties, information service revenues, and advertising service
revenue, net. In the Chinese telecommunication market, mobile phones have
rapidly replaced beepers and pagers as the mobile communication device preferred
by consumers, resulting in an increase in mobile phone distribution. In the
three months ended March 31, 2005, Samsung's mobile phones accounted for about
97% of our total product sales and other name brands mobile phones accounted for
the remaining 3%, compared to the same period of the prior year, in which
Samsung's mobile phones accounted for 94% of our total product sales and other
brands accounted for the balance. During 2005 market competition for mobile
phone sales intensified, causing us to decrease our overall mark-up ratio to
3.4% in order to maintain our market position, in comparison to a mark-up ratio
of 5.0% for the same period the prior year.
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Product sales
Revenue from product sales in the three months ended March 31, 2005
decreased by approximately $1,429,685, representing an approximately 68.2%
decrease, to $669,191 as compared to $2,098,876 for the same period of the prior
year. In 2005, we have promoted distribution of mobile phones through our
related party, Shanghai Shantian by establishing its market channel and facility
from the fiscal year 2004. As we have focused our marketing efforts on Shanghhai
Shantian there was a decline in the mobile phones sales to direct customers.
Product sales to a related party
As discussed above, we distributed Samsung mobile phones to our related
party, Shanghai Shantian, in which Sifang Information holds a 51% equity
interest. During the three months period ended March 31, 2005, we sold
$4,060,514 worth of mobile phones to Shantian, with an average mark-up of
approximately 2.4 % as compared to an average mark-up of 3.4% for the products
sold to all of our other customers.
Information service revenue
Total service revenue net of related business tax and surcharge for the
three months ended March 31, 2005 increased by $211,127 representing
approximately a 24.3% decrease, to $657,703 compared to $868,830 for the same
period of the prior year. Value-added service revenue from mobile phone users
for the three months ended March 31, 2005 decreased by $70,867 to $450,098
compared to $520,965 for the same period of the prior year, representing a 13.6%
decrease. The decrease was due mainly to the decline of our financial
value-added service basically based on Chinese security market, which was not
performing well. The Chinese stock market along with inactive stock exchanges
hindered our growth in this segment of business. In addition, service revenue
from pager users for the three months ended March 31, 2005 decreased by $140,260
to $ 207,605 compared to $347,865 for the same period of the prior year,
representing approximately a 40.3% decrease. We believe that service revenue
from pager users will continue to decrease given the increased popularity of
mobile phones over beepers and pagers. We project that the decrease in service
revenue from pager users will likely plateau at a certain level as most lower
income pager users still like to use pagers to access our information services.
Advertising service revenue, net
During the three months ended March 31, 2005, TCH rendered advertisement
designing and producing services to Shanghai Tianci Real Estate Co. Ltd.
("Tianci Real Estate") for publicity and promoting its apartment.
Cost of goods sold
The cost of goods sold for the three months ended March 31, 2005 increased
by $890,314 to $4,569,793 compared to $3,679,479 for the same period of the
prior year, representing an approximately 24.2 % increase. The increase was
consistent with the increases in revenue from product sales.
Cost of service
The cost of service for the three months ended March 31, 2005 decreased by
$82,016 to $170,808 compared to $253,824 for the same period of the prior year,
representing an approximately 32.7% decrease. The costs of service consist of
value-added service costs and advertising service costs. The decline was due
25
mainly to the decrease of information fees paid to content providers for the
value-added service. The breakdown of our service business has changed and the
proportion of beep services that are related to financial service has decreased,
resulting in a decrease in associated costs pertaining to the security
information fee paid. During 2005, we continued to maintain current fee
structures and establish collaborative relationships or partnerships with
Chinese mobile operators and certain information content providers.
Gross profit
After taking into account the cost of goods sold and cost of service, our
gross profit for the three months ended March 31, 2005 increased by
approximately $225,358 to approximately $1,034,761, representing approximately a
27.9% increase, compared to gross profit of $809,403 for the same period of the
prior year. The increase in gross profit was primarily attributable to the
proceeds generated in the new advertising service during the first quarter of
2005.
The following table summarizes certain information related to the various
components of revenue.
Information
Service - Information
Advertising Mobile Phone Mobile Service -
Income Distribution Phone Pager Total
------------ ------------ ------------ ------------ ------------
For the quarter ended March 31, 2005
Revenue ............................ $ 459,131 $ 4,729,705 $ 450,098 $ 207,605 $ 5,846,539
Cost ............................... 71,177 4,569,793 103,327 67,482 4,811,778
Gross profit ....................... 387,954 159,912 346,771 140,123 1,034,761
Gross profit ratio ................. 84.5% 3.4% 77.0% 67.5% 17.7%
For the quarter ended March 31, 2004
Revenue ............................ $ -- $ 3,873,876 $ 520,965 $ 347,865 $ 4,742,706
Cost ............................... -- 3,679,479 72,018 181,806 3,933,303
Gross profit ....................... -- 194,397 448,947 166,059 809,403
Gross profit ratio ................. -- 5.0% 86.2% 47.7% 17.1%
Selling expenses
Selling expenses for the three months ended March 31, 2005 increased by
$7,053 to $43,289 compared to $36,236 for the same period of the prior year,
representing a 19.5% increase. This increase was due to the fees charged related
to our beeper service. We have moved our marketing focus from beeper and pager
users to mobile phone users in line with changing consumer demands. Salaries
paid to our marketing team were $1,273 and $5,499 in the three months ended
March 31, 2005 and the same period of the prior year, respectively.
General and administrative expenses
General and administrative expenses for the three months ended March 31,
2005 increased by $65,858 to $192,039 compared to $126,181 for the same period
of the prior year, representing a 52.2% increase. The increase was due mainly to
the audit and retainer fees for listing.
General and administrative expenses incurred at the TCH level in the three
months ended March 31, 2005 decreased from $126,181 to $102,002, representing a
slight decrease. The decrease was primarily attributable to the decrease of
account receivable from our clients, resulting in the recovery of provisions for
bad debts, and cost control, which lead to the decline of utility expenses and
communication fees.
26
The other cash-based expenses incurred at the parent level in the three
months ended March 31, 2005 of $90,037, represented payments for the audit fees,
a retainer fee and other consultant fees.
Interest income (expense)
During the three months ended March 31, 2005, interest income derived from
deposits in banks was $465.
Income tax
The income tax provisions presented in the Company's financial statements
are based on the historical actual income tax rates of Sifang Information at
7.5% for the three months ended March 31, 2004 and 15% for the three months
ended March 31, 2005. In the three months ended March 31, 2004 and 2005, income
tax expense was $48,524 and $133,490 respectively, based on pretax income of
$646,986 and $799,898.
Net income
We recorded net income of $666,408 for the three months ended March 31,
2005, a $67,946 increase in net income compared to a net income of $598,462 for
the same period of the prior year, representing an approximately 11.4% increase.
The increase in net income was attributable to (i) the expansion of our mobile
phone distribution business, and (ii) the startup of our new advertising
business.
Earnings per share
The earnings per share for the three months ended March 31, 2005 was $0.039
compared to $0.043 for the same period of the prior year. The decrease was due
mainly to the increase in the weighted average number of common shares
outstanding, even though the company was able to increase net income.
Fiscal Year Ended December 31, 2004 Compared to the Fiscal Year Ended
December 31, 2003
Total revenues
Total revenues for our 2004 fiscal year increased by approximately
$7,488,572, representing an approximately 44.0% increase, to $24,520,950 as
compared to $17,032,378 for the same period of the prior year. The increase was
due mainly to our marketing effort and further facilitated by Samsung's
marketing promotion. Total revenues consist of product sales, product sales to
related parties and service revenue, net. In the Chinese telecommunication
market, mobile phones have rapidly replaced beepers and pagers as the mobile
communication device preferred by consumers, resulting in an increase in mobile
phone distribution. For our 2004 fiscal year, Samsung's mobile phones accounted
for about 97% of our total product sales and other name brands mobile phones
accounted for the remaining 3%, compared to our 2003 fiscal year, in which
Samsung's mobile phones accounted for 99.6% of our total product sales and other
brands accounted for the balance. During 2004 market competition for mobile
phone sales intensified, causing us to decrease our overall mark-up ratio to
6.4% in order to maintain our market position, in comparison to a mark-up ratio
of 8.2% for the same period the prior year.
Product sales
Revenue from product sales for our 2004 fiscal year decreased by
approximately $2,471,881, representing an approximately 18.3% decrease, to
$11,057,398 as compared to $13,529,279 for the same period of the prior year.
The decrease was due mainly to the spun-off business of THC.
27
Product sales to related parties
Before January 1, 2004 we only distributed CDMA mobile phones in the
Shanghai area. Beginning in January 2004 we entered into the GSM mobile phone
distribution business. Since the retail market channel related to our GSM mobile
phone distribution was developed and maintained by Shanghai Shantian, in which
Sifang Information holds a 51% equity interest, all of our Samsung GSM mobile
phones were sold to Shanghai Shantian, which made Shanghai Shantian our second
tier distributor in the first half of 2004. During our 2004 fiscal year, we sold
a total of $9,891,691 worth of mobile phones to related parties, including
$9,178,674 worth of mobile phones to Shanghai Shantian, and $713,017 to Tianci
and Shanghai Tianci Industry Co.Ltd with a total competitive mark-up on average
of approximately 4.8 % as compared to an average mark-up ratio of 7.8% for the
products sold to all of our other customers.
Service revenue, net
Total service revenue net of related business tax for our 2004 fiscal year
increased by $68,762, representing approximately a 2.0% increase, to $3,571,861
compared to $3,503,099 for the same period of the prior year. It was due mainly
to the increase of mobile phone value-added services and the revenue derived
from agent service income.
Value-added service revenue from mobile phone users for our 2004 fiscal
year increased by $1,090,855 to $2,388,178 compared to $1,297,323 for the same
period of the prior year, representing a material increase, which resulted in
the overall increase in our service revenue. Approximately $1,973,842 of the
service revenue from mobile phone users was attributable to prepaid service fees
generated by an installing agent, Chengao Industry Co. Ltd, who installed the
software on a retailer's (Beijing Jianghe Communication Co., Ltd) inventories
and collected proceeds from the retailer and transferred the proceeds to the
Company, representing a $745,057 increase compared to the same period of the
prior year. The remaining $404,336 portion of the service revenue was generated
by our SMS service, representing a material increase compared to the same period
of the prior year. The increase was mainly due to the aggressive expansion of
our subscriber base as the result of the Company's marketing campaigns. In
addition, service revenue from pager users for our 2004 fiscal year decreased by
$1,226,307 to $ 979,469 compared to $2,205,776 for the same period of the prior
year, representing approximately a 55.6% decrease. We believe that service
revenue from pager users will continue to decrease given the increased
popularity of mobile phones over beepers and pagers. We project that the
decrease in service revenue from pager users will likely plateau at a certain
level as most lower income pager users still like to use pagers to access our
information services.
Moreover, On July 16, 2004, Tianci, a related party to TCH, entered into an
agreement with China Unicom to promote CDMA mobile phones and agent service for
China Unicom. Under the agreement, Tianci is entitled to receive a sales
commission from China Unicom of $15.70 per unit, $3.62 per SIM card based on
sales to customers who agree to subscribe for monthly service for a minimum
period of two years at a minimum monthly service fee of $3.38. Tianci then
entered into an agent agreement with TCH pursuant to which TCH agreed to sell
the CDMA mobile phones, SIM cards and monthly service subscriptions on behalf of
Tianci and, consequently, is entitled to receive sales commissions from Tianci
based on the terms agreed upon between Tainci Group and China Unicom. The agent
relationship began in August 2004 at the same time as a sales promotion
initiated by China Unicom. We recognized agent service income of $204,214 during
the send half year of our 2004 fiscal year at the TCH level.
Total cost of goods sold
The total cost of goods sold for our 2004 fiscal year increased by
$8,230,371 to $19,608,832 compared to $12,424,454 for the same period of the
prior year, representing an approximately 57,8% increase. The increase was
consistent with the increases in revenue from product sales.
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Cost of service
The cost of service for our 2004 fiscal year increased by $29,675 to
$1,045,993 compared to $1,016,318 for the same period of the prior year,
representing an approximately 2.9% increase. In addition, software amortization
for mobile phone value-added service generated in the 2004 fiscal year
represented a $42,338 increase compared to the prior year. During 2004, we
continued to strive to expand the content offered by our value-added services
while maintaining current fee structures and to establish collaborative
relationships or partnerships with Chinese mobile operators and certain
information content providers.
Gross profit
After taking into account the cost of goods sold and cost of service, our
gross profit for our 2004 fiscal year increased by approximately $274,519 to
approximately $3,866,125, representing approximately a 7.6% increase, compared
to gross profit of $3,591,606 for the same period of the prior year. The
increase in gross profit was primarily attributable to the following factors (i)
the gross profit derived from mobile phone distribution and mobile phone
information services increased significantly, which offset the decrease in pager
information service income; (ii) the agent service income generated in the
second half of 2004.
The following table presents in summary certain information related to the
various components of revenue.
Information
Information Service -
Agency Mobile Phone Mobile Service -
Income Distribution Phone Pager Total
------------ ------------ ------------ ------------ ------------
For the year ended December 31, 2004
Revenue ............................ $ 204,214 $ 20,949,089 $ 2,388,178 $ 979,469 $ 24,520,950
Cost ............................... -- 19,608,832 498,194 547,799 20,654,825
Gross profit ....................... 204,214 1,340,257 1,889,984 431,670 3,866,125
Gross profit ratio ................. 100.0% 6.4% 79.1% 44.1% 15.8%
For the year ended December 31, 2003
Revenue ............................ $ -- $ 13,529,279 $ 1,297,323 $ 2,205,776 $ 17,032,378
Cost ............................... -- 12,424,454 287,464 728,854 13,440,772
Gross profit ....................... -- 1,104,825 1,009,859 1,476,922 3,591,606
Gross profit ratio ................. -- 8.2% 77.8% 67.0% 21.1%
Other income, net
On July 16, 2004, Tianci, a related party to TCH, entered into an agreement
with China Unicom to promote CDMA mobile phones and agent service for China
Unicom. Under the agreement, Tianci is entitled to receive a sales commission
from China Unicom of $15.70 per unit, $3.62 per SIM card based on sales to
customers who agree to subscribe for monthly service for a minimum period of two
years at a minimum monthly service fee of $3.38. Tianci then entered into an
agent agreement with TCH pursuant to which TCH agreed to sell the CDMA mobile
phones, SIM cards and monthly service subscriptions on behalf of Tianci and,
consequently, is entitled to receive sales commissions from Tianci based on the
terms agreed upon between Tainci Group and China Unicom. The agent relationship
began in August 2004 at the same time as a sales promotion initiated by China
Unicom. As the sales commission revenue from this business is more uncertain in
nature, we reported this revenue as other income instead of regular revenue. We
recognized agency income of $204,214 in the 2004 fiscal year at the TCH level.
29
Selling expenses
Selling expenses for our 2004 fiscal year increased by $93,202 to $246,639
compared to $153,437 for the same period of the prior year, representing
approximately a 61% increase. This increase was due to promotion expenses for
value-added information services related to mobile phone users. Advertising fees
and expenses for a series of marketing campaigns increased by $41,183 in our
2004 fiscal year, from $18,909 to $60,092, representing a material increase in
comparison to the prior year. We have moved our marketing focus from beeper and
pager users to mobile phone users in line with changing consumer demands.
Salaries paid to the Company's marketing team in the 2004 fiscal year rose from
$33,836 to $84,946, representing a 151% increase in comparison to the prior
year.
General and administrative expenses
General and administrative expenses for our 2004 fiscal year increased by
$1,365,428 to $1,656,841 compared to $291,413 for the same period of the prior
year, representing a material increase. The increase was due mainly to the
reorganization and recapitalization transaction and related audit and legal
fees.
General and administrative expenses incurred at the TCH level in the 2004
fiscal year increased from $286,058 to $456,445, representing a 52.5% increase.
These general and administrative expenses were comprised of salaries paid to the
management, which increased from $94,437 to $117,800, representing a $23,363
increase, and office expenses, which rose from $11,888 to $20,015, representing
a $8,127 increase.
During our 2004 fiscal year there was stock-based compensation of
$1,014,000 related to the reverse merger generated at parent level, consisting
of 167,895 shares issued to a consultant in lieu of cash payment at a fair
market value of $604,000 and the issuance of 166,667 redeemable shares pursuant
to a stock purchase agreement resulting in a charge of $410,000 representing the
premium between the trading price ($3.60 per share) and the pre-negotiated stock
purchase price ($1.14 per share) of the purchased shares. The other cash-based
expenses incurred in the 2004 fiscal year of $205,376, represented payments for
the audit fees, a retainer fee and other consultant fees.
Interest income (expense)
During our 2003 fiscal year, we borrowed funds from Sifang Information for
temporary working capital and mobile phone distribution. As a result, we paid
interest totaling $12,082 to Sifang Information during the 2003 fiscal year.
During our 2004 fiscal year, the interest income derived from deposits in
banks was $1,955.
Income tax
TCH is subject to taxation under the laws of the PRC, and the statutory
income tax rate for 2003 and 2004 fiscal years was 33%. The income tax
provisions presented on our financial statements are based on the historical
actual income tax rates of Sifang Information at 7.5% for the 2003 fiscal year
and the six months ended June 30, 2004. The income tax provision presented for
the six months ended December 31, 2004 are based on a 15% effective rate. In our
2003 and 2004 fiscal years, income tax expense was $246,694 and $369,971,
respectively, based on pretax income of $3,134,674 and $1,964,600 (which
included the stock compensation of $1,014,000 incurred in the U.S.). Since the
loss of approximately $1,014,000 incurred in the U.S. did not offset the taxable
income in China, a portion of income tax expense totaling $169,643, which was
incurred in China, was based on taxable income of approximately $2,979,023.
Net income
We recorded net income of $1,594,629 for our 2004 fiscal year, a $1,293,351
decrease in net income compared to net income of $2,887,980 for the same period
of the prior year, representing approximately a 45% decrease. The decrease in
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net income was attributable to (i) the increase in general and administrative
expenses for the period compared to general and administrative expenses for the
same period of the prior year (we incurred a $1,014,423 charge for services
performed by consultants related to the reverse merger and related activities,
and the issuance of common stock in 2004), and (ii) the decrease of the gross
profit generated from mobile phone distribution and our pager service business.
Earnings per share
Earnings per share for our 2004 fiscal year decreased by $0.11 to $0.10
compared to $0.21for the same period of the prior year. The decrease was due
mainly to the decrease in our net income and the increase in the total
outstanding shares of our common stock, as the weighted average number of shares
of common stock outstanding for the 2004 fiscal year increased by approximately
12.1%, compared the weighted average number of common stock outstanding for the
same period of the prior year.
Liquidity and Capital Resources
Our cash balance decreased from approximately $1,249,000 as of March 31,
2004 to approximately $404,202 as of March 31, 2005. This decrease in cash and
cash equivalents was due primarily to the increase in the inventories, advances
to suppliers for future purchases of inventory, and advances to related parties
for investment activities.
Net cash generated in operating activities was $311,208 during the three
months ended by March 31, 2005 compared to $534,333 during the same period of
the prior year. The increase in cash generated from operations resulted
primarily from the collection of accounts receivable and slower payment of
payables, which was offset by substantial inventory purchases.
Net cash used in investing activities for the three months ended March 31,
2005 increased to $1,482,475 compared to $998,445 for the same period of the
prior year, representing a $484,030 increase. The increase in cash used in
investing activities was mainly due to the start up of the new advertising
business in the current quarter.
Net cash provided by financing activities for the three months ended March
31, 2005 was $1,500,000 compared to $0 for the same period of the prior year.
The $1,500,000 relates to proceeds for shares that were issued in fiscal 2004
but were held in escrow until the Company filed a Registration Statement on Form
SB-2 with the SEC. The Company treated the proceeds held in escrow as a current
asset as the entire amount was released from escrow in March 2005 and paid to
the Company.
We believe that current cash balance and cash flows from operations, if
any, will be sufficient to meet present growth strategies and related working
capital. In regards to the capital expenditures, we have sufficient funds to
expand our operations. We plan to utilize a combination of internally generated
funds from operations with potential debt and/or equity financings to fund its
longer-term growth over a period of two to five years. The availability of
future financings will depend on market conditions. There is no assurance that
the future funding will be available.
Our cash balance decreased from approximately $1,713,748 as of December 31,
2003 to approximately $75,511 as of December 31, 2004. This decrease in cash and
cash equivalents was due primarily to the decrease in net income and the
increase in the amount due from parent.
Net cash used in operating activities was $1,788,915 during 2004, compared
to net cash provided by operating activities of $1,383,597 during the prior
year. We believe that the decrease of net cash provided by operating activities
was due mainly to the decrease of $1,293,351 in net income and the increase of
$4,497,420 in cash due from and advanced to a related party, partially offset by
cash generated from a non-cash expense of $1,014,423 and a change of $1,911,527
in inventories. Net income of $1,594,629 for the 2004 fiscal year compared to
net income of $2,887,980 for the 2003 fiscal year represented a decrease of
$1,293,351. The amount due from a related party increased from $0 to $4,742,688
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in the 2004 fiscal year compared to the prior year, representing a large portion
of cash used in operating activities. The cash used in accounts receivable
increased by $2,276,245 in the 2004 fiscal year compared to net cash used of
$1,790,616 in the 2003 fiscal year, representing a change of $485,629. However,
the change in accounts payable was in a net cash used position ended the year
December 31, 2004, representing an increase of approximately $55,730 compared to
positive cash inflow of $111,569 for the same period of the prior year. The
change in deferred revenue at December 31, 2004 was less than the change in
deferred revenue for the same period of the prior year. The cash generated in
the change of other current liabilities increased to $404,769 compared to
$25,737 in the prior year, representing a $379,032 increase.
Net cash used in investing activities for the 2004 fiscal year increased to
$132,155 compared to $259,858 for the same period of the prior year,
representing a $ 127,703 decrease. The decrease in cash used in investing
activities was due mainly to the decrease of $127,703 cash used in the purchase
of property and equipment
Net cash provided by financing activities for the 2004 fiscal year was
$282,570 compared to cash used in $604,062 for the 2003 fiscal year. We believe
that the increase was due mainly to the proceeds from issuing redeemable common
stocks and restricted common stocks in the 2004 fiscal year.
Management estimates that our current cash balance and cash flow provided
by operating activities will be sufficient to meet our growth strategies and
working capital for the next twelve months. We may continue to lend money to
Sifang Information on an as-needed basis for Nokia's mobile phone provincial
distribution business. However, management expects to collect certain amounts
due form Sifang Information after the termination of the provincial franchise
agreement signed with Nokia.
Management predicts that in the upcoming year, the cash needed for our
growth strategy and related working capital requirements will be derived from
the cash generated from operating activities and financing activities. We plan
to utilize a combination of internally generated funds from operations with
potential debt and/or equity financings to fund our longer-term growth over a
period of two to five years. We intend to conduct a private placement to raise
approximate $5 million from investors and a long-term debt financing, as an
alternative way, for the purpose of developing our new projects and expanding
current operations, which focus on digital television and mobile phone
distribution. No assurance can be given that we will succeed in our plan of
financing.
The forecast of the period of time through which our financial resources
will be adequate to support operations is a forward-looking statement that
involves risks and uncertainties. The actual funding requirements may differ
materially from this as a result of a number of factors including plans to fully
support our expansion.
Recent Accounting Pronouncements
In January 2003, the FASB issued FASB Interpretation No. 46 (FIN 46),
"Consolidation of Variable Interest Entities." FIN 46, as amended by FIN 46(R),
issued in January 2003, requires an investor with a majority of the variable
interests in a variable interest entity to consolidate the entity and also
requires majority and significant variable interest investors to provide certain
disclosures. A variable interest entity is an entity in which the equity
investors do not have a controlling financial interest or the equity investment
at risk is insufficient to finance the entity's activities without receiving
additional subordinated financial support from other parties. The provisions of
FIN 46(R) are applicable for fiscal years ending after December 15, 2004. We do
not have any variable interest entities that must be consolidated.
In December 2003, the FASB issued Interpretation No. 46R, or FIN 46R, a
revision to FIN 46, "Consolidation of Variable Interest Entities." FIN 46R
clarifies some of the provisions of FIN46 and exempts certain entities from its
requirements. FIN 46R is effective at the end of the first interim period ending
after March 15, 2004. Entities that have adopted FIN 46 prior to this effective
date can continue to apply the provisions of FIN 46 until the effective date of
FIN 46R. The adoption of FIN 46R did not have any effect on the Company's
consolidated financial statements.
In March 2004, the FASB issued EITF Issue No. 03-1, "The Meaning of
Other-Than-Temporary Impairment and Its Application to Certain Investments," or
EITF 03-1, which provides new guidance for assessing impairment losses on debt
and equity investments. Additionally, EITF 03-1 includes new disclosure
requirements for investments that are deemed to be temporarily impaired. In
September 2004, the FASB delayed the accounting provisions of EITF 03-1. The
Company will evaluate the effect, if any, of EITF 03-1 when final guidance is
released.
In November 2004, the FASB issued Statement of Financial Accounting
Standards (SFAS) No. 151, Inventory Costs, which clarifies the accounting for
abnormal amounts of idle facility expense, freight, handling costs, and wasted
material. SFAS No. 151 will be effective for inventory costs incurred during
fiscal years beginning after June 15, 2005. We do not believe the adoption of
SFAS No. 151 will have a material impact on our consolidated financial
statements.
32
In December 2004, the FASB issued SFAS No. 123-R, Share Based Payments,
which requires that the compensation cost relating to share-based payment
transactions (including the cost of all employee stock options) be recognized in
the financial statements. The cost will be measured based on the estimate fair
value of the equity or liability instruments issued. SFAS 123-R covers a wide
range of share-based compensation arrangements including share options,
restricted share plans, performance-based awards, share appreciation rights, and
employee share purchase plans. Management believes the adoption of this
pronouncement will not have a material effect on our consolidated financial
statements.
Also, in December 2004, the FASB issued SFAS 153, "Exchanges of Nonmonetary
Assets, an amendment of APB Opinion No. 29, Accounting for Nonmonetary
Transactions." The amendments made by SFAS No. 153 are based on the principle
that the exchange of nonmonetary assets should be measured using the estimated
fair market value of the assets exchanged. SFAS No. 153 eliminates the narrow
exception for nonmonetary exchanges of similar productive assets, and replaces
it with a broader exception for exchanges of nonmonetary assets do not have
commercial substance. A nonmonetary exchange has "commercial substance" if the
future cash flows of the entity are expected to change significantly as a result
of the transaction. This pronouncement is effective for monetary exchanges in
fiscal periods beginning after June 15, 2005. Management believes the adoption
of this pronouncement will not have a material effect on our consolidated
financial statements.
Other recent accounting pronouncements issued by the FASB (including its
Emerging Issues Task Force), the AICPA, and the SEC did not or are not believed
by management to have a material impact on the Company's present or future
consolidated financial statements.
Quantitative and Qualitative Disclosures About Market Risk
Substantially all our revenues and expenses are denominated in Renminbi,
but a portion of our cash is kept in U.S. dollars. Although we believe that, in
general, our exposure to foreign exchange risks should be limited, our cash
flows and revenues will be affected by the foreign exchange rate between U.S.
dollars and Renminbi. For example, to the extent that we need to convert U.S.
dollars into Renminbi for our operational needs and should the Renminbi
appreciate against the U.S. dollar at that time, our cash flows would be reduced
which could materially adversely affect our business. Conversely, if we decide
to convert our Renminbi into U.S. dollars for the purpose of declaring dividends
on our ordinary shares or for other business purposes and the U.S. dollar
appreciates against the Renminbi, the U.S. dollar equivalent of our earnings
from our subsidiaries in China would be reduced.
We have experienced minute foreign exchange gains or losses to date.
However, we do not engage in any hedging activities, and we may in the future
experience economic loss as a result of any foreign currency exchange rate
fluctuations.
BUSINESS
General
Our current operations include providing value added information services
and cellular phone distribution through our Chinese operating subsidiary.
Overview
Value-Added Information Services. We render value-added information
services in China by purchasing content from third-party providers and
reformatting that content. Our value-added information services enable wireless
receiver (mobile phone and pager) users in China to access financial information
and various entertainment-related services. We contract with our affiliated
wireless service providers to transmit the reformatted content to customers of
China's various network operators.
33
The primary focus of our value-added information services is on providing
wireless receiver users in China with access to financial information. We derive
the vast majority of our value-added information services revenue from our
financial information business. Our financial information software, Sifang
Gutong, allows our customers to access stock and currency exchange information
and execute stock trades. We are one of the largest stock information and
trading value-added information service providers in China.
We began providing our entertainment-related services, including icons,
screen savers, multiplayer games, Western horoscopes, jokes, and sports and
entertainment news during the latter part of 2003. These services are ancillary
to our financial information services and they represent only a small portion of
our value-added information services revenue at the present time.
Leveraging our experience and understanding of the wireless value-added
services market in China, we have consistently purchased and reformatted
content, applications and technologies that are popular in the Chinese wireless
market. To further enhance and differentiate our services, we have entered into,
and will continue to actively pursue, collaborative relationships with third
parties to customize, market and provide access to their content through various
wireless technologies to Chinese consumers. In addition, all of our services are
promoted by our sales force and supported by our customer service team, each of
which is strategically based in Shanghai.
In order to meet ownership requirements under Chinese law that restrict us,
as a foreign company, from operating in certain industries such as value-added
telecommunication and Internet services, we have entered into information
service and cooperation agreements with two of our affiliates that are
incorporated in the People's Republic of China: Sifang Information and Tianci.
We hold no ownership interest in Sifang Information or Tianci. Sifang
Information and Tianci contract with China Mobile Communications Corporation, or
China Mobile, and China United Telecommunications Corporation, or China Unicom,
respectively, to provide wireless value-added information services to wireless
receiver customers in China via China Mobile and China Unicom. Sifang
Information transmits those services to customers of China Mobile and China
Unicom on behalf of itself and Tianci pursuant to a signed agreement between
Sifang Information and Tianci.
Distribution. We distribute various mobile phone brands in the Shanghai,
China region. We distribute mobile phones manufactured primarily by Samsung, and
to a lesser extent, by Motorola. We began distributing Motorola mobile phones in
early 2002 and Samsung mobile phones in November 2002. We began discontinuing
our Motorola mobile phone distribution business on June 30, 2004. We will remain
a distributor, for the Shanghai region, of nine different mobile phone models
manufactured by Samsung, and plan to increase our sales of Samsung mobile
phones.
Six of the Samsung models we distribute are compatible with the CDMA
network and three of the Samsung models we distribute are compatible with the
GSM network. We plan to pre-install the end-user portion of our Sifang Gutong
software in all of the Samsung mobile phones we distribute, and market our stock
information, stock trading, and currency exchange services by placing brochures
touting those services in the packaging of those Samsung mobile phones before we
distribute the phones to retailers. We believe this process will increase name
recognition of our financial information and stock trading services with
wireless receiver users.
There are three main first-tier wholesalers of Samsung phones in China:
Shanghai Taili Communication Equipment Co., Ltd., Shenzhen Tianyin Communication
Development Co., Ltd., and Guangzhou Yingtai Data Power Technology Co., Ltd.
These wholesalers contract, through local branches, with sub-wholesalers to
distribute each model in a defined area. We have contracts with Shanghai branch
offices of the three main first-tier wholesalers on whom we rely, making us a
sub-wholesaler distributor of nine Samsung mobile phone models in the Shanghai
region. We sell approximately 52% of our mobile phones to three retailers.
34
Our Business Strategy
Our objective is to maintain and strengthen our position both as a provider
of wireless value-added information services and as a distributor of mobile
phones in the Shanghai region. In order to achieve our objective, we plan to,
among other things, increase the number of subscribers to our value-added
information services by increasing the number of mobile phones we distribute and
pre-installing those phones with the end-user portion of our Sifang Gutong
software. Key strategies for achieving our goal are to:
o Continue to expand and diversify our portfolio of wireless value-added
information services, including new SMS, 2.5G and other next
generation services such as those compatible with 3G;
o Increase investment in sales, marketing and branding, both in
conjunction with network operators and through independent activities,
in order to promote customer awareness of our wireless value-added
information services in China;
o Continue to strengthen our relationships with China Mobile and China
Unicom by increasing our sales presence at the national and local
levels and through joint marketing and promotion activities;
o Expand our marketing channels by continuing to develop integrated
marketing campaigns with traditional media outlets;
o Continue to be a sub-wholesaler of Samsung mobile phones and increase
the number of models of mobile phones that we distribute; and
o Work on establishing relationships with new mobile phone manufacturers
and wholesalers in order to diversify our distribution business.
Our Value-Added Information Services
Financial Services
Our primary focus with regard to value-added information services is the
provision of financial information services utilizing our Sifang Gutong
software. This software, developed by Chengao, utilizes the JAVA and BREW
platforms. JAVA and BREW utilize the more advanced 2.5G technology standard,
which enables high-capacity wireless data transmissions. As a result, services
offered over these platforms are more sophisticated and offer users higher
quality graphics and richer content and interactivity, commanding a premium
price over our other services. Our Sifang Gutong software enables our mobile
phone and pager customers to access quotes and retrieve customized
investment-related information, as well as access our currency exchange
information.
Sifang Gutong provides our mobile phone and pager customers with the
ability to receive streaming real-time quotes, including stocks, most active
issues, largest gainers and losers, and mutual funds for securities trading on
the Shenzhen and Shanghai stock exchanges. Our Sifang Gutong software available
to mobile phone users includes a stock trading function that enables our mobile
phone customers to directly place orders to buy and sell securities listed on
the two aforementioned stock exchanges. Our trading window corresponds with the
hours that securities markets are open from 9:30 a.m. to 11:30 a.m., and from
1:00 p.m. to 3:00 p.m., Beijing Time.
We receive a continuous direct feed of detailed quote data, market
information and news. Our customers can create customized lists of stocks for
quick access to current trading information. Through our relationships with
financial information companies such as Shanghai Stock Information Company, we
also provide access to breaking news, charts, market commentary and analysis.
The value-added financial information we offer can only be accessed by a
customer on whose mobile phone or pager the end-user portion of our Sifang
Gutong software has been installed. We plan to pre-install the end-user portion
of our Sifang Gutong software in all of the Samsung mobile phones that we
distribute. With regard to mobile phones and pagers not distributed by us, we
will provide installation of our Sifang Gutong software free of charge upon
request.
35
Pursuant to the request of a Beijing retailer, we entered into an agreement
with Chengao and Sifang Information whereby Chengao installs the end-user
portion of our Sifang Gutong software into mobile phones owned by the retailer.
The retailer sells these phones at a premium price to consumers. In return for
the premium price, the consumers receive our value-added information services
for six months free of charge. The retailer passes the premium back to Chengao,
who retains a small installation fee and then passes the remainder on to us.
This relationship helps us market our value-added information services and
enables us to establish relationships with new customers.
Other Services
We also provide icons and screen savers, multiplayer action games, Western
horoscopes, jokes and event-driven or entertainment news updates. These services
represent only a small portion of our value-added information services revenues
at the present time. However, we believe that providing wireless receiver users
in China access to entertainment-related services increases our ability to
retain our financial information subscribers and expand our subscriber base, and
we expect the entertainment-related services portion of our value-added
information services business will grow over time.
o Horoscopes. With this service, users can obtain daily Western
horoscopes via their mobile phones or pagers.
o Games. We offer interactive SMS, JAVA and WAP-based games that can be
played on the screens of mobile phones. These games are designed to be
easy to play on the dial pad of a mobile phone and to maximize the
graphics available on mobile phone screens. Our current game offerings
include our popular titles Ant Kingdom and English Island. Ant
Kingdom, designed for the WAP platform, is a role-playing game set in
the kingdom of Ant. Players begin play as a soldier, and as they gain
experience in the game, gradually build their character to higher
levels such as captain, officer and eventually, king. The goal of the
game is to be the king. In English Island, a JAVA-based educational
game, players are given English words and must spell them correctly.
Every time a player spells a word correctly, the player's score
increases. The faster a player can spell words correctly, the higher
the score he can achieve.
o Jokes. We send users of this service a variety of jokes on demand or
via automatic daily messages.
o News. We automatically send periodic SMS messages on recent
event-driven news, sports (especially soccer), or entertainment events
to subscribers of this service. Mobile phone users can also download
desired information on demand. We obtain our news content from
government affiliated media companies, such as XinhuaNet and other
local media.
Content Relationships
Our content collaborators authorize the inclusion of their content in one
or more of our value-added information services for a fixed fee which we pay
directly to the provider. Our agreements with our content collaborators usually
have a one-year term, and are non-exclusive. Currently, our key content
collaborators are:
o Shanghai Stock Information Company.
o Xinhua News Agency (Shanghai).
o Shanghai Wanguo Stock Information Company.
o Shanghai Yibang Stock Information Company.
o Shanghai Shiji Stock Information Company.
o Korea Techall Co., Ltd. (which provides game content).
o Shanghai Shenfa Software Co., Ltd. (which provides game content).
Marketing Relationships
Sifang Information and Tianci, our affiliated value-added mobile phone
service providers, have marketing relationships with China Mobile and China
36
Unicom. We sell and market our services principally through China Mobile and
China Unicom. We also sell and market through Sifang Information's Web site,
www.sifang.net, and promotional events, direct marketing, media advertising and
other activities.
We are also focused on expanding our marketing channels by developing
integrated marketing campaigns with traditional media outlets and multinational
corporations. For example, we have been involved in several marketing campaigns
with Motorola whereby our wireless value-added services are promoted in their
in-store and media advertising in China, and Motorola is in turn promoted
through our services.
We sell all of our paging value-added information services through our
affiliated value-added paging service provider, Sifang Information. We contract
directly with end users to settle all payments from pager users. We market our
paging value-added information services through traditional media outlets,
including newspapers and magazines, and directly to end-users.
Operator Channels
General. All of our paging value-added information services are provided
through the paging network owned by Sifang Information. We contract directly
with the pager users to collect all fees generated from our value-added
information services. We have an information service and cooperation agreement
with Sifang Information that provides us exclusive access to their paging
network for ten years. This agreement is automatically renewable for additional
one year terms unless we decide to terminate. All of our mobile phone
value-added information services are provided to mobile phone users by Sifang
Information through the networks of China Mobile and China Unicom. Previously,
mobile phone users paid for our services by purchasing pre-paid services cards.
Now, our services are billed to mobile phone customers in one of two ways: (1)
certain of our customers pay for our services in advance when they purchase our
services and a mobile phone together in a premium package (through our
relationship with Chengao and Sifang Information), and (2) our other customers
(who do not purchase our services as part of any such premium package) are
billed by the mobile operators, who collect the fees for our services, including
both our data access and short message services, from their mobile phone
subscribers. The mobile operators then pass those fees (net of fees charged by
the mobile operator) to our affiliated value-added service providers, Sifang
Information and Tianci, who in turn pass those fees to us in return for a small
fee pursuant to the terms of information service and cooperation agreements
between us and each of them.
Our management team utilizes our experience in China to develop close ties
with the key personnel of the mobile operators at the central and provincial
levels. As of March 31, 2005, we had approximately [two] sales professionals
strategically located in provinces and municipalities concentrated in the
eastern and southern regions of China to work closely with the mobile operators
at the local level, where pricing and important marketing and operational
decisions are made. Our sales network enables us to work closely with operators
to facilitate the approval required for new service offerings and for related
pricing and to enjoy enhanced marketing and promotional support. We are also
able to gain insight into developments in the local markets and the competitive
landscape, as well as new market opportunities. Our sales professionals are
well-incentivized; most of their compensation is tied to usage of our services
in the applicable region.
Coordinated Marketing Campaigns. Our affiliated wireless service providers
cooperate in marketing campaigns with China Mobile and China Unicom. These
network operators distribute literature marketing us and our affiliates.
Non-Operator Channels
We also focus on non-mobile operator sales and marketing activities, such
as:
o promoting Sifang Information's Web site, www.sifang.net, to potential
users as a fun, easy-to-access place to request our wireless content
and applications;
37
o engaging in direct marketing to mobile phone users by, for example,
including advertising inserts in users' bills from Shanghai Mobile and
Shanghai Unicom;
o engaging in direct marketing to stock market investors by, for
example, including advertising inserts in investors' bills from
brokerage companies such as GF Securities Co., Ltd., Guotai Junan
Securities Co., Ltd., Everbright Securities Co., Ltd. and Guoxin
Securities Co., Ltd.;
o utilizing our database of users to create targeted marketing
campaigns;
o advertising in traditional media outlets such as newspapers and
magazines; and
o we plan to pre-install the Samsung mobile phones we distribute with
the end-user portion of our Sifang Gutong software, and place
brochures touting our stock information, stock trading and currency
exchange services in the packaging of those phones, before
distributing them to retailers.
Customer Research
We spent $18,909 and $60,092 on marketing and advertising fees for our
mobile phone distribution and value-added services business in fiscal 2003 and
2004, respectively. Our sales, marketing and product development activities are
supported by our five-member customer research department. This department
focuses our sales efforts in the following three distinct phases:
Customer Acquisition. Our customer research department analyzes the success
rates of various national and local marketing campaigns in which we are
involved, including by user segment and cost per user, in order to determine
which campaigns are the most effective. Using phone surveys, focus groups and
analyses of usage patterns, the department also considers demographic and other
market factors to identify product mixes and product categories which are
suitable for the current market environment.
Customer Conversion. To enhance our ability to convert one-time or
occasional customers into regular users of our services, our customer research
department analyzes customer and product churn rates across the market, average
revenue per user data and other information. In this way, it can identify
different customer segments and develop targeted marketing campaigns for those
segments, including cross-selling and up-selling marketing campaigns.
Customer Retention. Our customer research department evaluates ways to
maximize user interest in our services through, for example, providing feedback
to our product developers to improve product features based on customer
information and bundling older services with newly launched services. It also
creates various reward programs designed to enhance customer loyalty.
Customer Services
We pride ourselves in providing high quality customer service. Our
dedicated customer service center based in Shanghai provides our users real-time
support and is staffed by 20 full-time professionals. The center currently
operates everyday from 7:00 a.m. to 10:00 p.m. We strive to achieve the fastest
response times and highest customer satisfaction levels in the industry.
Competitive Landscape
There are currently three broad categories of wireless service providers in
China:
o Portal service providers, which have established expertise in Internet
content and have subsequently branched into mobile space. The portals
serve as content aggregators offering a variety of wireless
value-added services. These national portal operators include Sohu,
NetEase, SINA, and Tom.com.
o Dedicated service providers, whose businesses focus on offering a
variety of wireless content directly to mobile users. These providers
include Linktone, Newpalm and Mtone Wireless.
38
o Niche service providers, which focus on a particular market segment or
application that often builds on a pre-existing sector competency.
These providers include Tencent, Enorbus, and Solute. We belong in
this category because of our focus on financial information services.
We may also face competition from international wireless service providers.
As the mobile operators are becoming more selective in choosing their
service providers to promote high quality content, ensure high levels of
customer service and limit the number of providers with which they have to deal,
scale is becoming more important, and we believe the industry will likely
experience consolidation with the leading nationwide providers gaining more
market share at the expense of smaller local providers. Nationwide providers may
also acquire some of their smaller competitors to gain access to local
relationships with the mobile operators in China or new product expertise.
Competition
We estimate that we compete with between ten and 20 other sub-wholesalers
for the rights to distribute Samsung phones in the Shanghai region. The three
main competitive factors the wholesalers consider in granting a sub-wholesaler
the rights to distribute a particular model include:
Available Cash Flow. Sub-wholesalers must be able to pay for the mobile
phones they desire to purchase from first-tier wholesalers. First-tier
wholesalers will be hesitant to grant rights to distribute a particular model to
a sub-wholesaler if that sub-wholesaler does not have sufficient capital to make
large purchases. We believe that having adequate cash flow gives us a
competitive advantage.
Relationships with Retailers. The wholesalers look to the types of
relationships sub-wholesalers have with large retailers when deciding which
sub-wholesaler to utilize. We have strong relationships with three large
retailers in Shanghai and sell approximately 52% of our mobile phones to these
three retailers.
Relationships with Wholesalers. We have relationships with the three major
wholesalers of Samsung phones in China and have been sub-wholesalers for those
three wholesalers for more than a year.
Employees
The following table summarizes the functional distribution of our employees
as of December 31, 2003 and 2004:
December 31,
Department 2003 2004
Business Development 5 5
Customer Research 5 5
Customer Service 20 20
Finance 3 3
Human Resources 2 2
Investor Relations 2 2
Legal and Administrative 2 2
Sales and Marketing 25 25
Product Development 20 20
Technical Support 10 10
Total 94 94
All of our personnel are employed full-time and none of them are
represented under collective bargaining agreements. We consider our relations
with our employees to be good.
39
Facilities
We currently occupy two office spaces in the Shanghai region. We lease the
first office space, located at 429 Guangdong Road, Shanghai, People's Republic
of China 200001, for approximately $41,000 a year, pursuant to an operating
lease that expires in December 2006. This office space contains our corporate
headquarters, and is approximately 250 square meters. We own the second office
space, located at 689 Laoshandong Road, Shanghai, People's Republic of China
200120, which houses our administration, technical team and servers, and is
approximately 800 square meters. We believe that these two properties are
adequately covered by insurance. In addition, we believe that we will be able to
obtain adequate facilities, principally through the leasing of appropriate
properties, to accommodate our future expansion plans.
Legal Proceedings
No legal proceedings have been or are currently being undertaken for or
against the company, nor are we aware of any contemplated proceedings.
Wireless Technology Standards in China
Several different wireless technology standards have been developed which
operate at different frequencies with both analog and digital radio signals.
First generation wireless telephone systems employ analog technology, while
newer systems employ digital technology. Digital wireless technology, commonly
referred to as second generation technology, or 2G, multiplies the number of
users that can be served by the same band of spectrum using analog technology.
The wireless technologies most relevant in China currently include:
o Global System for Mobile Communications, or GSM - initially developed
in order to facilitate unification and integration of
telecommunications within the European Union has become widespread
throughout most Asian countries. GSM technology breaks audio signals
into sequential pieces of data of a defined length, places each piece
into an information conduit at specific intervals and then
reconstructs the pieces at the end of the conduit. A key component of
the GSM system is the SIM card. Data stored on the card identifies the
subscriber to the mobile network as well as the service authorized for
that subscriber. Since the identity of the subscriber is held on the
card, any mobile phone can be used in conjunction with the SIM card.
o Code Division Multiple Access, or CDMA - a digital technology standard
which has been used in commercial operation by several operators in
certain countries such as the United States and Korea. Unlike GSM,
CDMA technology is a continuous transmission technology which uses a
coding system to mix discrete audio signals together during
transmission and then separates those signals at the end of
transmission.
Prior to the commercial rollout of third generation, or 3G, networks, 2.5G
technology standards have been developed for both the GSM and CDMA technologies
to offer higher data transmission speeds, enabling the use of more data
intensive products. Current 2.5G wireless technologies include:
o General Packet-Switched Radio Service, or GPRS - offers faster data
transmission with speeds ranging from 56 kilobits per second, or Kbps,
to 114 Kbps via a GSM network. GPRS supports a wide range of
bandwidths and is particularly suited for sending and receiving small
bursts of data, such as e-mail and Web browsing, as well as large
volumes of data. GPRS also makes it possible for users to make
telephone calls and transmit data simultaneously.
o CDMA 1x RTT - an advanced CDMA-based technology which allows
transmission of data at speeds of up to 144 Kbps, compared to a
maximum of 64 Kbps for second generation CDMA networks.
3G represents several technology standards developed by The International
Telecommunications Union. Third generation technology has been developed for
both the GSM standard and CDMA standard.
40
Wireless value-added services can be offered through all of these
technology standards and most commonly include:
o Short Messaging Services, or SMS - a service that enables a user to
send and receive text messages comprised of words or numbers or an
alphanumeric combination. SMS was created when it was incorporated
into the GSM standard.
o Wireless Application Protocol, or WAP - a software protocol standard
that defines a standardized means of transmitting Internet-based
content and data to handheld devices such as mobile phones and pagers
with secure access to e-mail and text-based Web pages. WAP supports
most wireless networks including GSM and CDMA.
o Multimedia Messaging Services, or MMS - a method of transmitting
graphics, video clips, sound files and short text messages over
wireless networks using the WAP protocol. MMS, however, is not the
same as e-mail in that MMS is based on the concept of multimedia
messaging. An MMS message is coded so that the images, sounds and text
are displayed in a predetermined order as one singular message.
Furthermore, MMS does not support attachments as e-mail does.
o JAVA - a general programming environment that creates applications for
the Internet or any other distributed networks. JAVA applications are
intended to be independent of the hardware platform.
Market Overview
Wireless Value-Added Services as a Revenue Driver for the Mobile Operators
As the wireless market in China continues to develop, an increasing portion
of the mobile operators' users have relatively low per capita incomes. These
subscribers generally yield lower levels of average revenue per user, or ARPU,
because they are primarily users of pre-paid services. In addition, China's
wireless market is becoming increasingly competitive, as demonstrated by the
recent CDMA promotions by China Unicom, as well as the intra-city wireless
offerings by China's two fixed-line operators, China Telecom and China Netcom,
which offer users limited mobile services within a city based on Personal
Handyphone Service or Personal Access System technology. In addition, China
Telecom, China Netcom and possibly other parties are expected to be awarded two
wireless licenses, although the timing of such grants is unclear. Both China
Telecom and China Netcom are large, established companies with significant
assets and the entry by them or other companies into the Chinese wireless market
could lead to further competition among the mobile operators. Due to these
pressures on the traditional voice-related businesses of the mobile operators,
SMS and other wireless value-added services have become a key differentiator and
increasingly important driver for the growth prospects of China Mobile and China
Unicom. We believe wireless value-added services will play a key role in the
mobile operators' competitive positioning when attracting and retaining users as
well as in their efforts to reverse declining ARPU levels.
Against this competitive backdrop, the market for wireless value-added
services in China has expanded significantly and is expected to continue to grow
at a fast pace. Currently, SMS services continue to represent the bulk of the
wireless value-added services market in China. This market is increasingly
shifting towards next generation technologies, with mobile operators upgrading
their networks to GPRS and CDMA 1x RTT and users upgrading to next generation
mobile phones that can operate with technologies such as MMS and WAP. China
Mobile and China Unicom have recognized this opportunity and are collaborating
with select service providers, including us, to further develop 2.5G
applications and services.
Operators' Wireless Value-Added Services Initiatives in China
China Mobile was the first to enter the market by introducing a popular
trial SMS program in connection with the Sydney Olympic Games in August 2000.
China Mobile later established its Monternet(TM) platform in November 2000.
China Unicom started its Uni-Info platform in May 2001. Monternet(TM) and
Uni-Info offer mobile phone users a single access point to order and pay for
wireless value-added services.
41
From the inception of Monternet(TM) and Uni-Info, China Mobile and China
Unicom have outsourced almost all content and applications for their platforms,
meaning that these operators, much like NTT DoCoMo and SK Telecom, rely almost
entirely upon third-party service providers to drive their network traffic,
supply attractive wireless services and increase revenue from their wireless
value-added services. In turn, the operators focus on the operation of their
networks. For their part, wireless value-added service providers in China rely
on the two operators, China Mobile and China Unicom, for the network
distribution of their content and services, billing and collection, and
remittance of revenues. Both operators have established similar fee
arrangements.
In addition to their working relationships with third-party service
providers, China's mobile operators will likely form closer alliances with
mobile phone vendors in order to standardize user friendly access to and
functionality for wireless value-added services in all mobile phones.
Government Regulation
The following is a summary of the principal governmental laws and
regulations that are or may be applicable to wireless service providers like us
in China. The scope and enforcement of many of the laws and regulations
described below are uncertain. We cannot predict the effect of further
developments in the Chinese legal system, including the promulgation of new
laws, changes to existing laws or the interpretation or enforcement of laws,
particularly with regard to wireless value-added services, which is an emerging
industry in China.
Regulation of Telecommunication Services
The telecommunications industry, including certain wireless value-added
services, is highly-regulated in China. Regulations issued or implemented by the
State Council, the Ministry of Information Industries, and other relevant
government authorities cover many aspects of telecommunications network
operation, including entry into the telecommunications industry, the scope of
permissible business activities, interconnection and transmission line
arrangements, tariff policy and foreign investment.
The principal regulations governing the telecommunications services
business in China include:
o Telecommunications Regulations (2000), or the Telecom Regulations. The
Telecom Regulations categorize all telecommunications businesses in
China as either infrastructure telecommunications businesses or
value-added telecommunications businesses. The latter category
includes SMS and other wireless value-added services. Under the
Telecom Regulations, certain services are classified as being of a
value-added nature and require the commercial operator of such
services to obtain an operating license, including telecommunication
information services, online data processing and translation
processing, call centers and Internet access. The Telecom Regulations
also set forth extensive guidelines with respect to different aspects
of telecommunications operations in China.
o Regulations for the Administration of Foreign-Invested
Telecommunications Enterprises (2002), or the FI Telecom Regulations.
The FI Telecom Regulations set forth detailed requirements with
respect to capitalization, investor qualifications and application
procedures in connection with the establishment of a foreign-invested
telecom enterprise. Under the FI Telecom Regulations, a foreign entity
is prohibited from owning more than 50% of the total equity in any
value-added telecommunications business in China, subject to certain
geographic limitations.
o Administrative Measures for Telecommunications Business Operating
License (2001), or the Telecom License Measures. Under the Telecom
License Measures, an approved value-added telecommunications service
provider must conduct its business in accordance with the
specifications recorded on its Telecom Business Operating License.
42
In addition to regulations promulgated at the national level by the Chinese
government, the Shanghai municipal government has issued provisional regulations
requiring SMS service providers to obtain licenses from or register with the
local Ministry of Information Industries branch office before providing SMS
service within the city. At this time, it is unclear whether national
regulations will be promulgated regulating SMS services.
Our affiliates, Sifang Information and Tianci, each have a value-added
telecommunication services license issued by the Shanghai Municipal
Telecommunications Administration Bureau, which is the local office of the
Ministry of Information Industries. They are each also in the process of
applying for an inter-provincial value-added telecommunication license with the
Ministry of Information Industries.
Other Laws and Their Application
Regulation of Internet Content Services. As a wireless value-added
information services provider, we do not engage in the Internet portal business
which typically involves the provision of extensive Internet content services,
including Chinese language Web navigational and search capabilities, content
channels, web-based communications and community services and a platform for
e-commerce, such as auction houses. Sifang Information registered with the
Shanghai Telecommunication Administration Bureau in January 2001 to provide
commercial services at the www.sifang.net web site.
As a commercial ICP provider, Sifang Information is prohibited from posting
or displaying any content that:
o opposes the fundamental principles determined in China's Constitution;
o compromises state security, divulges state secrets, subverts state
power or damages national unity;
o harms the dignity or interests of the state;
o incites ethnic hatred or racial discrimination or damages inter-ethnic
unity;
o sabotages China's religious policy or propagates heretical teachings
or feudal superstitions;
o disseminates rumors, disturbs social order or disrupts social
stability;
o propagates obscenity, pornography, gambling, violence, murder or fear
or incites the commission of crimes;
o insults or slanders a third party or infringes upon the lawful rights
and interests of a third party; or
o includes other content prohibited by laws or administrative
regulations.
Failure to comply with these prohibitions may result in the closing of Sifang
Information's Web site.
Regulation of News Dissemination through SMS Services. Pursuant to a
circular issued by the Shanghai Communications Administration, distribution of
news content through wireless applications like SMS must be approved by relevant
government agencies. Both Sifang Information and Tianci have all necessary
approvals.
Regulation of Advertisements. The State Administration of Industry and
Commerce, or the SAIC, is the government agency responsible for regulating
advertising activities in China. The SAIC has not promulgated regulations
specifically aimed at wireless advertising through a media other than the
Internet, such as through SMS services. One provisional regulation issued by
Shanghai municipal government prohibits service providers from sending SMS
advertisements without the client's consent.
As part of our non-mobile operator marketing activities, we have developed
integrated marketing campaigns with traditional media outlets such as magazines
and newspapers and multinational corporations through certain cross-selling
efforts with companies, including Motorola and Samsung. If the SAIC were to
treat our integrated marketing campaigns or other activities as being
advertising activities, we would need to apply to the local SAIC for an
advertising license to conduct wireless advertising business (through SMSs, for
example). We can give no assurance that such application would be approved by
the SAIC. Failure to obtain such approval could result in penalties including
being banned from engaging in online advertising activities, confiscation of
illegal earnings and fines.
43
Foreign Exchange Controls. The principal regulations governing foreign
exchange in China are the Foreign Exchange Control Regulations (1996) and the
Administration of Settlement, Sale and Payment of Foreign Exchange Regulations
(1996), or the Foreign Exchange Regulations. Under the Foreign Exchange
Regulations, Renminbi is freely convertible into foreign currency for current
account items, including the distribution of dividends. Conversion of Renminbi
for capital account items, such as direct investment, loans and security
investment, however, is still subject to the approval of the State
Administration of Foreign Exchange, or SAFE.
Under the Foreign Exchange Regulations, foreign-invested enterprises are
required to open and maintain separate foreign exchange accounts for capital
account items (but not for other items). In addition, foreign-invested
enterprises may only buy, sell and/or remit foreign currencies at those banks
authorized to conduct foreign exchange business after providing valid commercial
documents and, in the case of capital account item transactions, obtaining
approval from SAFE.
Intellectual Property and Proprietary Rights
We rely primarily on a combination of copyright laws and contractual
restrictions to establish and protect our intellectual property rights. We
require our employees to enter into agreements requiring them to keep
confidential all information relating to our customers, methods, business and
trade secrets during and after their employment with us. Our employees are
required to acknowledge and recognize that all inventions, trade secrets, works
of authorship, developments and other processes, whether or not patentable or
copyrightable, made by them during their employment are our property. They also
sign agreements to substantiate our sole and exclusive right to those works and
to transfer any ownership that they may claim in those works to us.
While we actively take steps to protect our proprietary rights, such steps
may not be adequate to prevent the infringement or misappropriation of our
intellectual property. This is particularly the case in China where the laws may
not protect our proprietary rights as fully as in the United States.
Infringement or misappropriation of our intellectual property could materially
harm our business. Sifang Information has registered the following Internet and
WAP domain name www.sifang.net.
Shanghai Sifang Communication Company, or Sifang Communication, has
registered one trademark with China's Trademark Office. That trademark is our
logo, a square (the English translation of "Sifang" is "square"). China's
trademark law utilizes a "first-to-file" system for obtaining trademark rights.
As a result, the first applicant to file an application for registration of a
mark will preempt all other applicants. Prior use of unregistered marks, except
"well known" marks, is generally not a basis for legal action in China. We may
not be able to successfully defend or claim any legal rights in any trademarks
for which we apply in the future.
Pursuant to a license agreement between our affiliate, Sifang
Communication, and us, we have the right to use our registered trademark, our
square logo, whenever necessary. We also acquired all of Sifang Information's
interest in the Sifang Gutong software pursuant to the terms of the spin-off of
Sifang Information's business divisions focusing on value-added information
services and distribution of mobile phones. We have the right to use the word
"Sifang" and to market ourselves through www.sifang.net with regard to both of
the spun-off divisions.
Many parties are actively developing and seeking patent protection for
wireless services-related technologies. We expect these parties to continue to
take steps to protect these technologies, including seeking patent protection.
There may be patents issued or pending that are held by others and that cover
significant parts of our technology, business methods or services. Disputes over
rights to these technologies are likely to arise in the future. We cannot be
certain that our products do not or will not infringe valid patents, copyrights
or other intellectual property rights held by third parties. We may be subject
to legal proceedings and claims from time to time relating to the intellectual
property of others.
44
DIRECTORS AND EXECUTIVE OFFICERS
The following table provides information about our executive officers and
directors and their respective ages and positions as of June 30, 2005. The
directors listed below will serve until the next annual meeting of the China
Digital Wireless stockholders:
Name Age Positions Held
---- --- --------------
Tai Caihua 48 President and Chairman of the Board
Shi Ying 45 Director
Huang Tianqi 33 Director, Chief Technology Officer
Jing Weiping 41 Director
Mao Ming 43 Director
Song Jing 29 Director
Fu Sixing 44 Director, Chief Executive Officer
Yu Ruijie 42 Director
Zhang Xiaodong 37 Director
Huang Wei 42 Director
Qian Fang 44 Chief Financial Officer
Jiang Hong Ming 51 Director
Juchen Li 40 Director
Yuan Feng 48 Director
Tai Caihua has served as our President, and Chairman of our board of
directors since June 23, 2004. Mr. Tai has been (i) the President and sole
director of our wholly owned subsidiary, Sifang Holdings, since February 2004;
(ii) Chairman of the board of directors of Sifang Holdings' wholly owned
subsidiary, TCH, since our inception in May 2004; (iii) director and General
Manager of Shanghai Tianci Industry (Group) Co., Ltd., one of our affiliates,
since January 1994 and (iv) a director of Sifang Information, one of our
affiliates, since December 2001. Mr. Tai holds a Masters of Business
Administration from the Macau University of Science and Technology.
Shi Ying has served as a member of our board of directors since June 24,
2004. Ms. Shi has been the Head of Operations and a member of the board of
directors of TCH since our inception in May 2004. For the past eight years she
has headed the operations department of Sifang Information. Ms. Shi graduated
from the Shanghai Sports College with a Bachelors degree.
Huang Tianqi has served as our Chief Technology Officer since June 23, 2004
and a member of our board of directors since June 24, 2004. Mr. Huang has served
as Chief Technology Officer of Sifang Holdings and Vice-General Manager, Chief
Technology Officer and a director of TCH since their inceptions in February 2004
and May 2004, respectively. Mr. Huang also serves as the Vice-General Manager
and a member of the board of directors of Sifang Information. Before becoming
Vice-General Manager, Mr. Huang was the Chief Technology Officer at Sifang
Information for seven years. Mr. Huang graduated from Nanjing University of
Posts and Telecommunications with a Bachelors Degree and from Shanghai Jiao Tong
University with a Masters of Science Degree.
Jing Weiping has served as a member of our board of directors since June
24, 2004. Mr. Jing has served as a member of the board of directors of TCH since
our inception in May 2004 and as a director of Sifang Information since 2001.
Mr. Jing has served as the Manager of the Technology Assurance Department of
Sifang Information for the past nine years. Mr. Jing received his Bachelors
Degree from Dong Hua University.
Mao Ming has served as a member of our board of directors since June 24,
2004. He has been (i) the General Manager and a member of the board of directors
of TCH since our inception in May 2004; and (ii) the General Manager and a
director of Sifang Information since January 1998. Mr. Mao graduated from China
PLA Measurement College with a Bachelors Degree and from the Macau University of
Science and Technology with a Masters of Business Administration.
45
Song Jing has served as a member of our board of directors since June 24,
2004. Mr. Song has served as Vice-General Manager and a member of the board of
directors of TCH since our inception in May 2004 and as General Manager of
Shanghai Shan Tian Telecommunication Co., Ltd., an affiliate of ours, since
November 2003. Previously, Mr. Song served as director and General Manager of
Shanghai Zhong Si Hua Hao Co., Ltd. for one year and Assistant General Manager
of both Shanghai Hua Si Trading Co., Ltd. and Shanghai Qi Shi Trading Co., Ltd
for five years. Mr. Song holds a Masters of Business Administration from Joseph
L. Rotman School of Management, University of Toronto.
Fu Sixing has served as our Chief Executive Officer since June 23, 2004 and
a member of our board of directors since June 24, 2004. Mr. Fu has served as
Executive Manager of Sifang Holdings and as the Head of the Research and
Development Department and a director of TCH since their inceptions in February
2004 and May 2004, respectively. During the past seven years, Mr. Fu has served
as (i) the Assistant to the General Manager of Shanghai Tianci Industry (Group)
Co., Ltd.; (ii) a director and the General Manager of Shanghai Sifang Health
Technology Co., Ltd. and (iii) Directorate Secretary of Sifang Information. Mr.
Fu received a Bachelors of Science in Physics from Nanjing University, a Masters
of Social Science in Economics from Huadong Normal University and a Doctorate of
Business Administration from the University of Southern California.
Yu Ruijie has served as a member of our board of directors since June 24,
2004. Mr. Yu has served (i) as Head of the Systems Department and a director of
TCH since our inception in May 2004 and (ii) as the Head of the Systems
Department of Sifang Information since January 1994. Mr. Yu received a Bachelors
Degree in Computer Science from Shanghai University of Engineering Science.
Zhang Xiaodong has served as a member of our board of directors since June
24, 2004. Mr. Zhang has served as the Head of the Projection Department of TCH
since our inception in May 2004. Mr. Zhang also serves as a director and the
Head of the Projection Department of Sifang Information. For the past nine
years, Mr. Zhang has served as Head of the Wireless Engineering Department at
Sifang Information. Mr. Zhang graduated from Shanghai Jiao Tong University with
a Bachelors Degree and received a Masters Degree from the Macao University of
Science and Technology.
Huang Wei has served as a member of our board of directors since June 24,
2004. Mr. Huang has served as (i) the Vice-General Manager of TCH since our
inception in May 2004 and (ii) Vice-General Manager and a director of Sifang
Information since 1993. Mr. Huang graduated from Nanjing University of Air Force
and Politics with a Bachelors Degree in Logistics.
Qian Fang has served as our Chief Financial Officer since January 1, 2005.
Ms. Qian has served as Manager of Accounting of TCH since 1999. Ms. Qian
graduated from China Cable-TV University with a Bachelors Degree in Accounting
and is a Certified Public Accountant.
Jiang Hong Ming has served as a member of our board of directors and a
member of the audit committee of the board of directors since April 2005. Mr.
Jiang worked as a certified public accountant at Shanghai Hua Cheng Certified
Public Accountants from 1998 to 2003 and has been a director at Shanghai Hua
Cheng Certified Public Accountants since 2003. Mr. Jiang received a Bachelors
Degree from Shanghai TV Cable University.
Yuan Feng has served as a member of our board of directors and a member of
the audit committee of the board of directors since April 2005. Mr. Yuan has
been the General Manager of Shanghai Guan Tong Telecommunication Technology Ltd.
since 1996. Mr. Yuan received a Bachelors Degree in Telecommunications from
Chinese PLA Telecommunication Engineering College.
46
Juchen Li has served as a member of our board of directors and a member of
the audit committee of the board of directors since April 2005. Mr. Juchen
founded Beijing Mon Long Software Developing Ltd. in 1997 and has served as that
company's chairman and chief technology officer. In 1985, Mr. Juchen received a
Bachelors Degree in Computer Science from Chinese PLA Armored Force College, and
worked as a teacher at that college from 1985 to 1997.
Board Composition and Committees
The board of directors is currently composed of thirteen members, including
Tai Caihua, Song Jin, Shi Ying, Mao Ming, Fu Sixing, Huang Tianqi, Huang Wei,
Jing Weiping, Yu Ruijie, Zhang Xiaodong, Jiang Hong Ming, Juchen Li and Yuan
Feng. All Board action requires the approval of a majority of the directors in
attendance at a meeting at which a quorum is present.
We currently do not have standing nominating or compensation committees. We
intend, however, to establish a compensation committee of the board of directors
as soon as practicable. We envision that the compensation committee will be
primarily responsible for reviewing and approving our salary and benefits
policies (including stock options), including compensation of executive
officers. We established an audit committee of the board of directors in April
2005. The audit committee is primarily responsible for reviewing the services
performed by our independent auditors, evaluating our accounting policies and
our system of internal controls.
Director Compensation
Our directors are not paid for attendance at meetings of the board of
directors nor for their service on any committee of the board.
Indebtedness of Directors and Executive Officers
None of our directors or officers or their respective associates or
affiliates is indebted to us.
Family Relationships
Except as set forth herein, there are no family relationships among our
directors or officers. Mr. Tai Caihua, President and a member of our Board of
Directors is married to Ms. Shi Ying, a member of our Board of Directors and Ms.
Ying is also a sibling of Huang Wei, a member of our Board of Directors.
Executive Compensation
The following table sets forth all cash compensation paid to our chief
executive officer for services rendered in all capacities to the Company during
the noted periods. No other executive officers received salary and bonus
compensation in excess of $100,000 during fiscal 2004.
47
Summary Compensation Table
Long Term
Annual Compensation
Compensation Awards
------------ ---------------------
Securities Underlying
Name and Principal Position Year Salary ($) Options (#)
-------------------------------- ------ ------------ ---------------------
Tai Caihua(1) 2004 $28,992 --
Chief Executive Officer/Director
Timothy P. Halter (2) 2004 -- 131,722(4)
Chief Executive Officer/Director
2004 -- --
Glenn Little (3) 2003 -- --
Chief Executive Officer/Director 2002 -- --
------------------------
(1) Began service as Chief Executive Officer and a director of the Company in
June 2004.
(2) Appointed Chief Executive Officer in March 2004 and resigned as an officer
and director of the Company in June 2004.
(3) Resigned as Chief Executive Officer and a director of the Company in March
2004.
(4) On February 23, 2004, Mr. Halter was granted a warrant for 200,000 shares
of common stock at an exercise price of $0.20 per share. On April 28, 2004,
a one-for-two reverse stock split was declared by the Company and exercise
price and number of shares subject to the warrant were adjusted
accordingly. Mr. Halter exercised this warrant in full on June 14, 2004.
Subsequent to exercising this warrant, the Company declared a 1.31722 for
1stock split. As adjusted for these splits, this represents 131,722 shares
of common stock issuable upon the exercise of this warrant.
Stock Option Grants in Last Fiscal Year
The following table sets forth information for each of the executive
officers of the Company named in the Summary Compensation Table with respect to
options granted during fiscal 2004 to such officers.
Percent of
Total
Number of Options
Securities Granted
Underlying to Employees Exercise or
Options in Base Price Expiration
Name Granted (#) Fiscal Year ($/Share) Date
Tai Caihua -- -- -- --
Timothy P. Halter 131,722(1) 100% $0.3037 February 23, 2007
Glenn Little -- -- -- --
(1) On February 23, 2004, Mr. Halter was granted a warrant for 200,000 shares of
common stock at an exercise price of $0.20 per share. On April 28, 2004, a
one-for-two reverse stock split was declared by the Company and exercise price
and number of shares subject to the warrant were adjusted accordingly. Mr.
Halter exercised this warrant in full on June 14, 2004. Subsequent to exercising
this warrant, the Company declared a 1.31722 for 1 stock split. As adjusted for
these splits, this represents 131,722 shares of common stock issuable upon the
exercise of this warrant.
48
Aggregated Option Exercises in Last Fiscal Year and Fiscal Year-End Option
Values
The following table sets forth information for each of the named executive
officers with respect to option exercises during fiscal 2004. No options were
held by any of the named executive officers as of December 31, 2005.
Shares
Acquired on Value
Exercise Realized
Name (#) ($)
Tai Caihua -- --
Timothy P. Halter 131,722(1) $157,579.03
Glenn Little -- --
(1) On February 23, 2004, Mr. Halter was granted a warrant for 200,000 shares of
common stock at an exercise price of $0.20 per share. On April 28, 2004, a
one-for-two reverse stock split was declared by the Company and exercise price
and number of shares subject to the warrant were adjusted accordingly. Mr.
Halter exercised this warrant in full on June 14, 2004. Subsequent to exercising
this warrant, the Company declared a 1.31722 for 1 stock split. As adjusted for
these splits, this represents 131,722 shares of common stock issuable upon the
exercise of this warrant.
PRINCIPAL STOCKHOLDERS
The following table sets forth, as of March 31, 2005, the beneficial
ownership of our common stock by (i) each director and executive officer of
China Digital, (ii) each person known to China Digital to be the beneficial
owner of five percent or more of the outstanding shares of our common stock, and
(iii) all directors and officers of China Digital as a group. Unless otherwise
indicated, the person or entity listed in the table is the beneficial owner of,
and has sole voting and investment power with respect to, the shares indicated.
Amount and Nature of Beneficial Ownership (1)
---------------------------------------------
Number Percent of
Name and Address(2) of Shares (3) Voting Stock (4)
------------------- ------------- ----------------
Tai Caihua ((5)) 11,301,764 66.4%
Shi Ying ((6)) 11,301,764 66.4%
Halter Financial Group, Inc. (7) 1,271,287 7.5%
Chinamerica Fund, LP 877,193 5.2%
Mao Ming 413,480 2.4%
Song Jing 413,480 2.4%
Huang Tianqi 275,652 1.6%
Jing Weiping 275,652 1.6%
Fu Sixing 275,652 1.6%
Yu Ruijie 275,652 1.6%
Zhang Xiaodong 275,652 1.6%
Huang Wei 275,652 1.6%
Directors and executive officers
as a group (10 persons) 13,782,636
81.0%
------------------------------------
(1) On March 31, 2005, there were 17,018,692 shares of our common stock
outstanding. Each person named above has sole investment and voting power
with respect to all shares of our common stock shown as beneficially owned
by the person, except as otherwise indicated below.
(2) Unless otherwise indicated, the address of each stockholder is c/o China
Digital Wireless, Inc., 429 Guangdong Road, Shanghai, China 200001.
(3) Under applicable rules promulgated by the SEC pursuant to the Securities
Exchange Act of 1934, as amended, or the Exchange Act, a person is deemed
the "beneficial owner" of a security with regard to which the person,
directly or indirectly, has or shares (a) the voting power, which includes
the power to vote or direct the voting of the security, or (b) the
investment power, which includes the power to dispose or direct the
disposition of the security, in each case irrespective of the person's
economic interest in the security. Under these SEC rules, a person is
deemed to beneficially own securities which the person has the right to
acquire within 60 days, including through (x) the exercise of any option or
warrant or (y) the conversion of another security.
(4) In determining the percent of our common stock owned by a person (a) the
numerator is the number of shares of our common stock beneficially owned by
the person, including shares the beneficial ownership of which may be
acquired within 60 days upon the exercise of options or warrants or
conversion of convertible securities, and (b) the denominator is the total
of (i) the 17,018,692 shares of our common stock outstanding on March 31,
2005 and (ii) any shares of our common stock which the person has the right
to acquire within 60 days upon the exercise of options or warrants or
conversion of convertible securities. Neither the numerator nor the
denominator include shares which may be issued upon the exercise of any
other options or warrants or the conversion of any other convertible
securities.
49
(5) Includes 1,791,743 shares held by Mr. Tai's wife, Shi Ying. Mr. Tai
disclaims beneficial ownership of those shares. (6) Includes 9,510,021
shares held by Ms. Shi's husband, Tai Caihua. Ms. Shi disclaims beneficial
ownership of those shares. (7) Includes 116,720 shares held by Timothy P.
Halter, the president and sole stockholder of Halter Financial Group, Inc.
CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS
During the normal course of our business, we incurred debt from related
parties and loaned money to related parties, including Sifang Information, for
financing purposes. In 2002, we borrowed funds from Sifang Information to start
our mobile phone distribution business. At December 31, 2002, the outstanding
balance of the loan was $604,062, and interest expense incurred on the borrowed
amount was $36,245. During 2003, we paid off all outstanding balances and loaned
certain amounts to Sifang Information, which amounts were repaid by Sifang
Information before year end. We continued to borrow funds from and lend funds to
Sifang Information, however, as of December 31, 2003, all such amounts had been
repaid. Interest expense incurred on amounts borrowed from Sifang Information
for the year ended December 31, 2003 was $12,082.
We purchased a building located at 689 Laoshandong Road, Shanghai, People's
Republic of China 200120, from our related party, Shanghai Fude Industry Co.,
for a price of $910,925. This building now houses our technical team and our
servers.
During the 2004 fiscal year, TCH purchased local brand mobile phones from
Shanghai Sifang Telecommunication Co. Ltd. ("Sifang Telecom") valued at
$390,340, and all these mobile phones were sold to retailers in 2004.
During the 2004 fiscal year, TCH sold Samsung GSM mobile phones valued at
$9,178,674 at a 4% gross profit margin to Shantian. Accounts receivable include
$1,583,512 due from Shantian. During the 2004 fiscal year, TCH also sold mobile
phones to other related parties, which included Tianci Industy and Tianci Group
for $136,310 and $576,707 at gross profit margins of 17% and 16% respectively.
On July 16, 2004, the Tianci Group entered into an agency agreement with
TCH to sell CDMA mobile phones owned by China Unicom. TCH obtains the same
commission structure that Tianci Group earns from China Unicom. For each phone
sold, TCH receives $15.70 per unit, sales commission of $3.62 per SIM card. TCH
recognized commission income of $204,214 in the year ended December 31, 2004
from the Tianci Group, which is recorded in service revenues, net on the income
statement.
In accordance with terms contained in signed service agreements between TCH
and Sifang Information giving TCH the right to use Sifang Information's facility
(which may not be owned by foreign investors at the present time under Chinese
law) to transmit the reformatted information we paid service fees of
approximately $567,000 in each of the 2003 and 2004 fiscal years. The service
agreements are in effect for ten years and became effective on June 1, 2004. The
annual payments for the services should continue to approximate $567,000 per
year. During the 2004 fiscal year, Sifang Information also provided other
management support and marketing services to TCH for $36,462 and none for the
year ended December 31, 2003. TCH earned information service revenues net of
costs from China Mobile / China Unicom that were passed through from Sifang
Information and are recorded in Service revenue, net on the income statement.
For the 2004 fiscal year, the total revenues generated were $846,416 and total
costs of services were $421,476 and none for the 2003 fiscal year. TCH earned
paging service revenues net of costs that were passed through from Sifang
Information and are recorded in Service revenue, net on the income statement.
For the 2004 fiscal year, the total revenues generated were $964,869 and total
cost of services were $533,199 and none for the year ended December 31, 2003.
TCH launched a smart card project as a joint cooperation project with Sifang
Information in June 2004. However, the project was abandoned in the fourth
quarter of 2004 due to government regulations. No revenue was generated from the
project in 2004.
50
Sifang signed a lease agreement with Tianci Real Estate to lease its
apartment for office use, which was assumed by TCH as a part of the carve out
transaction. The original lease term was from May 1, 2003 to April 30, 2008. The
lease agreement was terminated on September 30, 2004. The related rental expense
for the years ended December 31, 2003 and 2004 was $20,540 and $30,810,
respectively.
As a result of the spin-off transaction, cash collections received and
payments made Sifang Information on behalf of TCH, resulted in a net receivable
of $2,910,956 due from Sifang Information at December 31, 2004. The amount due
from related party also consists of $501,000 relating to the value added
information services provided to Sifang Information and sold to China Unicom and
another $371,000 relating to the paging revenues that are collected by Sifang
Information on behalf of TCH. In the first quarter of 2005, TCH has collected
$3.2 million from Sifang Information subsequent to March 31, 2005. We believe
that the collection of the remaining balance of $582,956 from Sifang Information
is reasonably assured and accordingly, no allowance has been recorded as of
December 31, 2004. We also advanced US$1,205,000 to provide Sifang Information's
needs for working capital in order to complete spin-off procedures in the PRC.
The outstanding balance was fully collected in March 2005.
On February 23, 2004, we sold 987,915 shares of restricted common stock for
gross proceeds of $300,000, pursuant to a subscription agreement, to Halter
Financial Group, Inc., an entity owned by Timothy P. Halter, a former member of
the Board of Directors and the Company's former Chief Executive Officer.
Additionally, in consideration for agreeing to serve as an officer and director
of the Company, Timothy P. Halter was granted a warrant to purchase up to
131,722 shares of common stock of the Company (as adjusted for stock splits).
The warrant was exercised on June 14, 2004, and we received gross proceeds of
$40,000 upon exercise.
On February 23, 2004, we agreed to pay Little and Company Investment
Securities, an entity owned by Glenn A. Little, our former controlling
stockholder, officer and director, $30,000 in consulting fees related to the
transaction discussed in the previous paragraph and in consideration for
maintaining the corporate entity. To formalize this obligation, we issued a
$30,000 non-interest bearing promissory note maturing on February 23, 2005.
Concurrent with the transaction discussed in the previous paragraph, we and
Little and Company Investment Securities executed an Exchange Agreement whereby
we issued 98,792 shares of common stock in satisfaction of the outstanding
promissory note.
On June 23, 2004, we entered into a Stock Purchase Agreement with Halter
Financial Group, Inc. pursuant to which we sold 166,667 shares of common stock
of the Company in exchange for $190,000. Timothy P. Halter is the sole
stockholder and President of Halter Financial Group, Inc. Pursuant to the Stock
Purchase Agreement, we granted to Halter Financial Group, Inc. an option to
require the Company to purchase up to 166,667 shares of common stock of the
Company at a price of $1.14 per share, such option being exercisable at any time
after the date that is six months after the Company filed a registration
statement on Form SB-2 with the SEC, (which registration statement was declared
effective on February 8, 2005) registering the shares purchased by Halter
Financial Group, Inc., up to and including the earlier of (i) the date that such
registration statement is declared effective by the SEC or (ii) Halter Financial
Group, Inc.'s shares are eligible for resale under Rule 144 under the Securities
Act of 1933.
DESCRIPTION OF OUR CAPITAL STOCK
The following description is a summary of the material terms of our capital
stock. This summary is subject to and qualified in our entirety by our Articles
of Incorporation, as amended, and Bylaws as amended, and by the applicable
provisions of Nevada law.
The authorized capital stock of the company consists of 100,000,000 shares
of common stock, having a par value of $0.001 per share.
51
Common Stock. Each outstanding share of common stock entitles the holder
thereof to one vote per share on all matters. The Articles of Incorporation do
not permit cumulative voting for the election of directors, which means that the
holders of more than 50% of such outstanding shares voting for the election of
directors can elect all of the directors to be elected, if they so choose; in
such event, the holders of the remaining shares will not be able to elect any of
our directors. Stockholders do not have preemptive rights to purchase shares in
any future issuance of our common stock.
The holders of shares of our common stock are entitled to dividends out of
funds legally available when and as declared by our board of directors. Our
board of directors has not declared a dividend during the two preceding fiscal
years or during calendar 2005 and does not anticipate declaring a dividend in
the foreseeable future. In the event of liquidation, dissolution or winding up
of the affairs of the company, holders are entitled to receive, ratably, the net
assets available to stockholders after payment of all creditors.
All of the issued and outstanding shares of our common stock are duly
authorized, validly issued, fully paid, and non-assessable. To the extent that
additional shares of our common stock are issued, the relative interests of
existing stockholders will be diluted.
Transfer Agent and Registrar. Our transfer agent is Securities Transfer
Corporation, 2591 Dallas Parkway, Suite 102, Frisco, Texas 75034.
SELLING STOCKHOLDERS
The following table sets forth the names of the selling stockholders and
for each selling stockholder the number of shares and percentage of common stock
beneficially owned as of February 4, 2005, the number of shares being registered
and the percentage to be owned after this offering assuming all of shares
covered by this prospectus are sold and no other purchases of our common stock
are made by the selling stockholders. All information with respect to share
ownership has been furnished by the selling stockholders. The shares being
offered are being registered to permit public secondary trading of the shares
and each selling stockholder may offer all or part of the shares owned for
resale from time to time. A selling stockholder is under no obligation, however,
to sell any shares immediately pursuant to this prospectus, nor is a selling
stockholder obligated to sell all or any portion of the shares at any time.
Therefore, no estimate can be given as to the number of shares of common stock
that will be sold pursuant to this prospectus or the number of shares that will
be owned by the selling stockholders upon termination of the offering made
hereby. The numbers and percentages are based on 17,018,692 shares of our common
stock outstanding.
Shares of Percentage
Common Owned
Shares of Stock Upon
Common Stock Percentage to be Completion
Selling Stockholders Owned Owned Registered of Offering
Halter Financial Group, Inc............... 1,154,567 6.8 1,154,567 -0-
John Zhang................................ 167,895 * 167,895 -0-
Marat Rosenberg .......................... 57,367 * 34,367 *
Little & Company Investment Securities....
192,259 1.1 64,763 *
Gary Evans................................ 175,439 1.0 175,439 -0-
Chinamerica Acquisition, LLC.............. 263,157 1.5 263,157 -0-
Chinamerica Fund, LP...................... 877,193 5.2 877,193 -0-
----------------
* Indicates less than 1%
52
SHARES ELIGIBLE FOR FUTURE SALE
Upon completion of the offering, we will have 17,018,692 shares of common
stock outstanding. A current stockholder who is an "affiliate" of the company,
defined in Rule 144 as a person who directly, or indirectly through one or more
intermediaries, controls, or is controlled by, or is under common control with,
the company, will be required to comply with the resale limitations of Rule 144.
Purchasers of shares in the offering, other than affiliates, may resell
their shares immediately. Sales by affiliates will be subject to the volume and
other limitations of Rule 144, including certain restrictions regarding the
manner of sale, notice requirements, and the availability of current public
information about the company. The volume limitations generally permit an
affiliate to sell, within any three month period, a number of shares that does
not exceed the greater of one percent of the outstanding shares of common stock
or the average weekly trading volume during the four calendar weeks preceding
his sale. A person who ceases to be an affiliate at least three months before
the sale of restricted securities beneficially owned for at least two years may
sell the restricted securities under Rule 144 without regard to any of the Rule
144 limitations.
PLAN OF DISTRIBUTION
The 2,737,381 shares being offered by the selling stockholders may be sold
or distributed from time to time by the selling stockholders or their
transferees directly to one or more purchasers or through brokers, dealers, or
underwriters who may act solely as agents or may acquire shares as principals.
Such sales or distributions may be made at prevailing market prices, at prices
related to such prevailing market prices, or at variable prices negotiated
between the sellers and purchasers that may vary. The distribution of the shares
may be effected in one or more of the following methods:
o ordinary brokerage transactions, including long or short sales;
o transactions involving cross or block trades, or otherwise on the OTC
Bulletin Board;
o purchases by brokers, dealers, or underwriters as principals and subsequent
resale by the purchasers for their own accounts pursuant to this
prospectus;
o sales "at the market" to, or through, market makers or into an existing
market for the shares;
o sales not involving market makers or established trading markets, including
direct sales to purchasers or sales effected through agents;
o transactions involving options, swaps, or other derivatives, whether
exchange-listed or otherwise; or o transactions involving any combination
of the foregoing or any other legally available means.
In addition, a selling stockholder may enter into hedging transactions with
one or more broker-dealers who may engage in short sales of shares in the course
of hedging the positions they assume with the selling stockholder. A selling
stockholder may also enter into options or other transactions with one or more
broker-dealers requiring the delivery of the shares by such broker-dealers with
the possibility that such shares may be resold thereafter pursuant to this
prospectus.
A broker, dealer, underwriter, or agent participating in the distribution
of the shares may receive compensation in the form of discounts, concessions, or
commissions from the selling stockholders and/or purchasers of the shares for
whom such person may act as an agent, to whom such person may sell as principal,
or both; and such compensation as to a particular person may be in excess of
customary commissions. The selling stockholders and any broker-dealers acting in
connection with the sale of the shares being registered may be deemed to be
underwriters within the meaning of Section 2(11) of the Securities Act of 1933,
as amended, or the Securities Act, and any profit realized by them on the resale
of shares as principals may be deemed underwriting compensation under the
Securities Act. We know of no existing arrangements between any of the selling
stockholders and any other stockholder, broker, dealer, underwriter, or agent
relating to the sale or distribution of the shares, nor can we presently
estimate the amount, if any, of such compensation.
53
Although we will receive no proceeds from the sale of shares pursuant to
this prospectus, we have agreed to bear the costs and expenses of the
registration of the shares, including legal and accounting fees, and such costs
and expenses are estimated to be approximately $230,000.
We have informed the selling stockholders that while they are engaged in a
distribution of the shares included in this prospectus they will be required to
comply with certain anti-manipulative rules contained in Regulation M under the
Exchange Act. With certain exceptions, Regulation M prohibits any selling
stockholder, any affiliated purchaser, and any broker-dealer or other person who
participates in such distribution from bidding for or purchasing, or attempting
to induce any person to bid for or purchase, any security that is the subject of
the distribution until the entire distribution is complete. Regulation M also
prohibits any bids or purchases made in order to stabilize the price of a
security in connection with the distribution of that security.
INDEPENDENT PUBLIC ACCOUNTANTS
On January 4, 2005, the board of directors approved resolutions to replace
our independent registered public auditors, BDO Shanghai Zhonghua Certified
Public Accountant, with Grobstein, Horwath & Company, LLP, which we appointed
effective as of January 6, 2005.
During June 2004, we completed a stock exchange transaction with the
stockholders of Sifang Holdings Co. Ltd., or Sifang, resulting in Sifang
becoming our wholly owned subsidiary. This stock exchange transaction also
resulted in a recapitalization of the company with Sifang becoming the survivor
of the transaction for accounting purposes. Upon this recapitalization, our
independent public accountant, S.W. Hatfield, CPA, resigned effective July 9,
2004. As a result of S.W. Hatfield's resignation, our board of directors
appointed BDO Shanghai Zhonghua Certified Public Accountant as our independent
public accountant.
On January 4, 2005, the board of directors approved resolutions to replace
our independent registered public auditors, BDO Shanghai Zhonghua Certified
Public Accountant, with Grobstein, Horwath & Company, LLP, which we appointed
effective as of January 6, 2005.
Hatfield audited our financial statements for the fiscal year ended
December 31, 2003. Hatfield's report for that period did not contain an adverse
opinion or a disclaimer of opinion, and was not qualified or modified as to
uncertainty, audit scope or accounting principles. During our fiscal year ended
December 31, 2003 and from January 1, 2004 through July 9, 2004, there were no
disagreements with Hatfield on any matter of accounting principles or practices,
financial statement disclosure, or auditing scope or procedure, which, if not
resolved to the satisfaction of Hatfield, would have caused them to make
reference to the subject matter in their report.
BDO Shanghai Zhonghua audited Sifang's financial statements for the fiscal
year ended December 31, 2003. BDO Shanghai Zhonghua's reports for that period
did not contain an adverse opinion or a disclaimer of opinion, and was not
qualified or modified as to uncertainty, audit scope or accounting principles.
During our fiscal year ended December 31, 2003 through January 6, 2005, there
were no disagreements with BDO Shanghai Zhonghua Certified Public Accountant on
any matter of accounting principles or practices, financial statement
disclosure, or auditing scope or procedure, which, if not resolved to the
satisfaction of BDO Shanghai Zhonghua Certified Public Accountant, would have
caused them to make reference to the subject matter in their report.
LEGAL MATTERS
Certain legal matters in this offering, including the legality of the
common stock offered pursuant to this prospectus, will be passed upon for us and
the selling stockholders by Kummer Kaempfer Bonner & Renshaw.
54
EXPERTS
The financial statements of the company included in this prospectus have
been audited by BDO Shanghai Zhonghua Certified Public Accountants, independent
registered public accounting firm, as stated in the opinion, which has been
rendered upon the authority of said firm as experts in accounting and auditing.
INTERESTS OF NAMED EXPERTS AND COUNSEL
No "Expert" or "Counsel" as defined by Item 509 of Regulation S-B
promulgated pursuant to the Securities Act, whose services were used in the
preparation of this Form SB-2, was hired on a contingent basis, will receive a
direct or indirect interest in the company or was a promoter, underwriter,
voting trustee, director, officer or employee of China Digital.
WHERE YOU CAN FIND MORE INFORMATION
We have filed a registration statement on Form SB-2 with the SEC under the
Securities Act of 1933 with respect to the shares of common stock offered in
this offering prospectus. This prospectus, which is a part of the registration
statement, does not contain all of the information set forth in the registration
statement, or the exhibits which are part of the registration statement. You
should refer to the registration statement and its exhibits for additional
information that is not contained in this prospectus. Whenever we make reference
in this prospectus to any of our contracts, agreements or other documents, you
should refer to the exhibits attached to the registration statement for copies
of the actual contract, agreement or other document.
WE ARE SUBJECT TO THE INFORMATIONAL REQUIREMENTS OF THE SECURITIES EXCHANGE
ACT OF 1934, AS AMENDED, AND WE ARE REQUIRED TO FILE REPORTS, ANY PROXY
STATEMENTS AND OTHER INFORMATION WITH THE SEC. YOU CAN READ OUR SEC FILES,
INCLUDING THIS REGISTRATION STATEMENT, OVER THE INTERNET AT THE SEC'S WEB SITE
AT HTTP://WWW.SEC.GOV. YOU MAY ALSO READ AND COPY ANY DOCUMENTS WE FILE WITH THE
SEC AT ITS PUBLIC REFERENCE FACILITY AT 450 FIFTH STREET, N.W., WASHINGTON, D.C.
20549. YOU MAY ALSO OBTAIN COPIES OF THE DOCUMENTS AT PRESCRIBED RATES BY
WRITING TO THE PUBLIC REFERENCE SECTION OF THE SEC AT 450 FIFTH STREET, N.W.,
WASHINGTON, D.C. 20549. PLEASE CALL THE SEC AT 1-800-SEC-0330 FOR FURTHER
INFORMATION ON THE OPERATION OF THE PUBLIC REFERENCE FACILITY.
55
INDEX TO FINANCIAL STATEMENTS
Unaudited Consolidated Financial Statements
Consolidated Balance Sheets as of March 31, 2005 and
December 31, 2004.......................................................F-2
Consolidated Statements of Income and Comprehensive Income
for the Three Months Ended March 31, 2005 and 2004......................F-3
Consolidated Statements of Shareholders' Equity for the Twelve Months
Ended December 31, 2004 and Three Months Ended March 31, 2005...........F-4
Consolidated Statements of Cash Flows for the Three Months Ended
March 31, 2005 and 2004.................................................F-5
Notes to Financial Statements................................................F-6
Consolidated Financial Statements
Reports of Independent Registered Public Accounting Firms...................F-18
Consolidated Balance Sheets as of December 31, 2004 and 2003................F-19
Consolidated Statements of Income and Comprehensive Income for the
Twelve Months Ended December 31, 2004 and 2003.........................F-20
Consolidated Statements of Shareholders' Equity for the Twelve Months
Ended December 31, 2004 and 2003.......................................F-21
Consolidated Statements of Cash Flows for the Twelve Months Ended
December 31, 2004 and 2003.............................................F-22
Notes to Financial Statements...............................................F-23
F-1
CHINA DIGITAL WIRELESS INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
December 31, March 31,
2004 2005
------------ ------------
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 75,511 $ 404,242
Accounts receivable, net of allowance for doubtful accounts of
$47,922 and $27,237 4,619,809 3,044,340
Inventories 101,696 895,270
Deferred tax assets 28,772 11,336
Common stock proceeds held in escrow 1,500,000 0
Amounts due from related parties 4,987,956 4,259,643
Advances & deposits to suppliers 150,412 1,472,016
------------ ------------
Total current assets 11,464,156 10,086,847
------------ ------------
Property and equipment, net 1,198,509 1,181,277
Deposit for business acquisition -- 2,160,335
------------ ------------
Total assets $ 12,662,665 $ 13,428,459
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 55,839 $ 929,301
Deferred revenue 617,694 172,275
VAT payable 213,535 87,918
Income tax payable 312,763 210,577
Due to related parties 100,260 51,350
Other liabilities 287,025 235,083
------------ ------------
Total current liabilities 1,587,116 1,686,504
------------ ------------
Shareholders' equity:
Common stock - $0.001 par value, 100,000,000 shares
authorized, 17,018,692 shares issued and outstanding 17,019 17,019
Additional paid-in capital 4,229,974 4,229,974
Retained earnings 6,828,281 7,494,689
Accumulated other comprehensive income 275 273
------------ ------------
Total shareholders' equity 11,075,549 11,741,955
------------ ------------
Total liabilities and shareholders' equity $ 12,662,665 $ 13,428,459
============ ============
See accompanying notes to consolidated financial statements
F-2
CHINA DIGITAL WIRELESS INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
AND COMPREHENSIVE INCOME
Three Months ended March 31,
----------------------------
2004 2005
------------ ------------
(unaudited) (unaudited)
Revenues:
Product sales $ 2,098,876 $ 669,191
Product sales to related parties 1,775,000 4,060,514
Information service revenue 868,830 657,703
Advertising service revenue, net -- 387,954
------------ ------------
Total revenues 4,742,706 5,775,362
------------ ------------
Cost of goods sold 1,940,054 605,888
Cost of goods sold to related parties 1,739,425 3,963,905
Cost of information services 253,824 170,808
------------ ------------
Total cost of goods sold 3,933,303 4,740,601
------------ ------------
Gross profit 809,403 1,034,761
------------ ------------
Operating expenses:
Sales and marketing 36,236 43,289
General and administrative 126,181 192,039
------------ ------------
Total operating expenses 162,417 235,328
------------ ------------
Income from operations 646,986 799,433
Interest income 0 465
------------ ------------
Income before income taxes 646,986 799,898
Income tax provision 48,524 133,490
------------ ------------
Net income $ 598,462 $ 666,408
============ ============
Other comprehensive income
Translation adjustments $ (330) $ (2)
------------ ------------
Comprehensive income $ 598,132 $ 666,406
============ ============
Basic earnings (loss) per share $ 0.04 $ 0.04
Weighted average shares of common stock outstanding 13,782,636 17,018,692
See accompanying notes to consolidated financial statements.
F-3
CHINA DIGITAL WIRELESS INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(In U.S. dollars, except share data)
Additional Other Total
Common Stock Paid-in Retained Comprehensive Shareholders'
Shares Amount Capital Earnings Income (Loss) Equity
------------- ------------- ------------- ------------- ------------- -------------
Balance at December 31, 2003 13,782,636 $ 13,783 $ 1,436,217 $ 5,233,652 $ 12 $ 6,683,664
Recapitalization and
reorganization 1,585,705 1,586 308,465 -- -- 310,051
Shares issued for consulting
services 167,895 168 604,254 -- -- 604,422
Shares issued for proceeds of
$190,000 and consulting
services 166,667 167 599,834 -- -- 600,001
Shares issued for net proceeds
of $1.5 million 1,315,789 1,315 1,498,685 -- -- 1,500,000
Offset by issuing cost -- -- (217,481) -- -- (217,481)
Net income -- -- -- 1,594,629 -- 1,594,629
Translation adjustment -- -- -- -- 263 263
------------- ------------- ------------- ------------- ------------- -------------
Balance at December 31, 2004 17,018,692 $ 17,019 $ 4,229,974 $ 6,828,281 $ 275 $ 11,075,549
Net income (unaudited) -- -- -- 666,408 -- 666,408
Translation adjustment
(unaudited) -- -- -- -- (2) (2)
------------- ------------- ------------- ------------- ------------- -------------
Balance at March 31, 2005 17,018,692 $ 17,019 $ 4,229,974 $ 7,494,689 $ 273 $ 11,741,955
============= ============= ============= ============= ============= =============
See accompanying notes to consolidated financial statements.
F-4
CHINA DIGITAL WIRELESS INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
Three Months ended March 31,
----------------------------
2004 2005
------------ ------------
(unaudited) (unaudited)
Cash flows from operating activities:
Net income $ 598,462 $ 666,408
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation 68,856 67,684
Bad debt expenses 48,624 (20,685)
Deferred tax assets (3,647) 17,437
Changes in assets and liabilities:
Accounts receivable (1,348,027) 1,596,154
Inventories 1,305,562 (793,574)
Advances & deposits to suppliers (659,649) (1,321,604)
Accounts payable 229,243 873,462
Deferred revenue (4,711) (445,419)
VAT payable 83,414 (125,617)
Income tax payable 0 (102,186)
Due to related parties 0 (48,910)
Other liabilities 216,206 (51,942)
------------ ------------
Net cash provided by operating activities 534,333 311,208
------------ ------------
Cash flows from investing activities:
Purchase of property and equipment (35,570) (50,452)
Amount due from related parties (962,875) (1,432,023)
------------ ------------
Net cash used in investing activities (998,445) (1,482,475)
------------ ------------
Cash flows from financing activities:
Escrow receivable 0 1,500,000
------------ ------------
Net cash provided by (used in) financing activities 0 1,500,000
------------ ------------
Foreign currency translation (330) (2)
------------ ------------
Net increase (decrease) in cash and cash equivalents (464,442) 328,731
Cash and cash equivalents, beginning of the period 1,713,748 75,511
------------ ------------
Cash and cash equivalents, end of the period $ 1,249,306 $ 404,242
============ ============
Supplemental disclosure of cash flow information:
Cash paid during the year for:
Interest $ 0 0
Income taxes 48,524 218,239
See accompanying notes to consolidated financial statements.
F-5
NOTE 1 - ORGANIZATION AND BUSINESS BACKGROUND
China Digital Wireless, Inc. ("CDW") formerly known as Boulder
Acquisitions, Inc. sells mobile phones to retailers, distributors, and related
parties and provides information services to users of mobile phones and pagers.
Substantially all of China Digital Wireless, Inc. operations are in Shanghai,
People's Republic of China (PRC).
In order to meet ownership requirements under Chinese law that restrict
a foreign company from operating in certain industries such as value-added
telecommunication and Internet services, CDW's subsidiary has entered into
information service and cooperation agreements with two of CDW's affiliates that
are incorporated in the China: Sifang Information and Tianci. CDW holds no
ownership interest in Sifang Information or Tianci. Sifang Information and
Tianci contract with China Mobile Communications Corporation, or China Mobile,
and China United Telecommunications Corporation, or China Unicom, respectively,
to provide wireless value-added information services to wireless receiver
customers in China via China Mobile and China Unicom. Sifang Information
transmits those services to customers of China Mobile and China Unicom on behalf
of itself and Tianci pursuant to a signed agreement between Sifang Information
and Tianci.
Recapitalization and Reorganization
On June 23, 2004, Boulder Acquisitions, Inc. ("Boulder Acquisitions")
entered into a stock exchange agreement with Sifang Holdings Co. Ltd. ("Sifang
Holdings") and certain shareholders. Pursuant to the stock exchange agreement,
Boulder Acquisitions issued 13,782,636 shares of its common stock in exchange
for a 100% equity interest in Sifang Holdings, making Sifang Holdings a wholly
owned subsidiary of Boulder Acquisitions.
Boulder Acquisitions was incorporated under the laws of the State of
Colorado on May 8, 1980 as Boulder Brewing Company ("Boulder Brewing"). Boulder
Brewing was the successor to a general partnership formed in 1979. From the
initial inception of the original partnership through 1990, Boulder Brewing was
in the business of operating a microbrewery in Boulder, Colorado. During 1990,
as a result of various debt defaults, Boulder Brewing's assets were foreclosed
upon and all business operations were ceased. Boulder Brewing has effectively
had no operations, assets or liabilities since its fiscal year ended December
31, 1990.
In September 2001, Boulder Brewing changed its state of incorporation
from Colorado to Nevada by means of a merger with and into Boulder Acquisitions,
a Nevada corporation formed on September 6, 2001 solely for the purpose of
effecting the reincorporation. The Articles of Incorporation and Bylaws of the
Nevada corporation are the Articles of Incorporation and Bylaws of the surviving
corporation. Such Articles of Incorporation eliminated the provision for Boulder
Acquisitions to issue preferred stock.
The above stock exchange transaction resulted in those shareholders of
Sifang Holdings obtaining a majority voting interest in Boulder Acquisitions.
Generally accepted accounting principles in the United States of America require
that the company whose shareholders retain the majority interest in a combined
business be treated as the acquirer for accounting purposes. Consequently, the
stock exchange transaction has been accounted for as a recapitalization of
Sifang Holdings as Sifang Holdings acquired a controlling equity interest in
Boulder Acquisitions, as of June 23, 2004. The reverse acquisition process
utilizes the capital structure of Boulder Acquisitions and the assets and
liabilities of Sifang Holdings recorded at historical cost.
Sifang Holdings is the continuing operating entity for financial
reporting purposes, and the financial statements prior to June 23, 2004
represent Sifang Holdings' financial position and results of operations. As of
June 23, 2004, Boulder Acquisitions had only cash of $310,051, and shareholders'
equity of $310,051 with 1,585,705 shares of common stock outstanding, all of
which were included in the consolidated financial statements of Sifang Holdings.
Please see the shareholders' equity statement for the period from January 1,
2004 to March 31, 2005. Although Sifang Holdings is deemed to be the acquiring
corporation for financial accounting and reporting purposes, the legal status of
Boulder Acquisitions as the surviving corporation did not change. Subsequent to
June 30, 2004, Boulder Acquisitions changed its name to China Digital Wireless,
Inc.
F-6
Business History
CDW's business is primarily conducted through its wholly-owned
subsidiary Sifang Holdings Co., Ltd., (Sifang Holdings) and its wholly-owned
subsidiary TCH Data Technology Co., Ltd. (TCH). Sifang Holdings was established
under the laws of the Cayman Islands on February 9, 2004 for the purpose of
acquiring a 100% equity interest in TCH. TCH was established as a foreign
investment enterprise in Shanghai under the laws of the PRC on May 25, 2004,
with registered capital of $7.2 million.
CDW's current operations were originally a business division of
Shanghai Sifang Information Technology Co. (Sifang Information). Sifang
Information is a Shanghai-based privately owned enterprise established under the
laws of the PRC on August 14, 1998. Sifang Information is engaged in the
business of pager and mobile phone distribution and provides value added
information services to the customers in the Shanghai metropolitan area. In
March 2004, Sifang Information spun off its mobile phone distribution business
and the majority of its value added information services business to TCH. As the
acquiring entity under common control, TCH initially recognized all the assets
and liabilities transferred at their carrying amounts in the accounts of Sifang
Information at the date of transfer under the guidance of SFAS No. 141, Appendix
D.
On May 26, 2004, Sifang Information exchanged 100% of the equity
interest in TCH for 100% of the equity interest in Sifang Holdings. Since the
ultimate owners of the three entities were the same owners and the three
entities remained under common control, the ownership exchange transaction was
accounted for at historical costs under the guidance of SFAS No. 141, Appendix
D. Prior to May 26, 2004, there were no activities in Sifang Holdings. As a
result of the exchange of ownership between TCH and Sifang Holdings, TCH's
historical financial statements became the historical financial statements of
Sifang Holdings.
As a result of the spin-off, TCH engages in the business of mobile
phone distribution and provides pager and mobile phone users with access to
certain value-added information reformatted by TCH. TCH purchases mobile phones
from first tier distributors and sells them to retailers and distributors with a
mark-up. In the process of providing value-added information services through
entering into monthly subscription agreements with various users, TCH purchases
trading activity information from stock exchanges, comments and analysis on PRC
stock markets provided by certain reputable security and investment companies,
lottery information, weather forecast, and other value-added products and
reformats the aforementioned information through decoding and recoding and then
has the reformatted information transmitted by Sifang Information, via service
contracts, to pager users. The value-added information is constantly saved on
TCH's server in order for mobile phone users to dial in via China Mobile or
China Unicom. By signing a monthly subscription agreement, wireless receiver
users agree to make advance payments for our services for either three or
six-month subscription periods.
In the spin-off process, the cost of sales included in the Company's
financial statements is directly related to the product revenue and the cost of
services is directly related to different types of service. The business taxes
(similar to sales taxes in the U.S.) are related only to service revenue at a
tax rate of approximately 3.3%. The selling expenses are allocated based on the
relationship between expense and revenue (such as commission) and payroll
records. The general and administrative expenses are allocated based on
management hours spent and payroll records. The income tax provision has been
calculated on a separate company basis and is in line with the historical actual
income tax provision at the Sifang Information level assuming that all income
taxes had been paid by Sifang Information and no income tax liability was in
existence in the periods reported in the accompanying financial statements.
Management believes that the costs, operating expenses, interest expense, and
income tax provision included in the Company's financial statements are a
reasonable representation of the costs and expenses that would have been
incurred if the Company had performed these functions as a stand-alone company.
F-7
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
These unaudited consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United States of
America ("GAAP") for interim financial information and the instructions to Form
10-QSB and Article 10 of Regulation S-X. Accordingly, they do not include all of
the information and footnotes required by GAAP for complete financial
statements. In the opinion of management, all adjustments (consisting of normal
recurring accruals) considered necessary for a fair presentation of the
Company's financial condition and results of operations for the interim periods
presented in this Form 10-QSB have been included. Operating results for the
interim periods are not necessarily indicative of financial results for the full
year. These unaudited consolidated financial statements should be read in
conjunction with the audited consolidated financial statements and notes thereto
included in the Company's Annual Report on Form 10-KSB for the year ended
December 31, 2004.
The Company's consolidated financial statements for the three months
ended March 31, 2004 have been derived from the historical financial statements
and accounting records of Sifang Information using the historical operating
results and the historical basis of the assets and liabilities transferred to
the Company in accordance with accounting principles generally accepted in the
United States of America. Management believes that the assumptions underlying
the accompanying financial statements are reasonable. However, the financial
statements that are derived from Sifang Information's financial records may not
necessarily reflect the Company's results of operations and cash flows had the
Company been a stand-alone company.
Principles of Consolidation:
The consolidated financial statements for the three months ended March
31, 2005 and March 31, 2004 include the accounts of CDW, its wholly owned
subsidiary Sifang Holdings, and its wholly owned subsidiary TCH, collectively,
the "Company"). Substantially all of CDW's revenues are derived from the
operations of TCH, which represents substantially all of CDW's consolidated
assets and liabilities as of March 31, 2005 and March 31, 2004. All significant
intercompany accounts and transactions have been eliminated.
Foreign Currency Translations and Transactions
The Renminbi ("RMB"), the national currency of the PRC, is the primary
currency of the economic environment in which the operations of TCH are
conducted. The Company uses the United States dollar ("U.S. dollars") for
financial reporting purposes.
The Company translates TCH's assets and liabilities into U.S. dollars
using the rate of exchange prevailing at the balance sheet date, and the
statement of income is translated at average rates during the reporting period.
Adjustments resulting from the translation of TCH's financial statements from
RMB into U.S. dollars are recorded in shareholders' equity as part of
accumulated comprehensive income. Gains or losses resulting from transactions in
currencies other than RMB are reflected in the statement of income for the
reporting periods.
Revenue Recognition
The Company derives revenues from the sale of mobile phones,
advertisement designing service and the provision of wireless information
services that are used on cell phones, pagers and prepaid phone cards. The
Company additionally earns commission income ("Agency Income") from the sale of
CDMA mobile phones on the behalf of a related party. The Company recognizes its
revenues net of related business taxes and value added taxes.
Mobile Phone Sales:
Revenues generated from the sale of mobile phones are recognized when
the products are shipped to the distributor or retailer and when persuasive
evidence of an arrangement exists, delivery of the products has occurred,
customer acceptance has been obtained, which means the significant risks and
rewards of ownership have been transferred to the customer, the price is fixed
or determinable and collectibility is reasonably assured.
F-8
Advertising Servicing Revenue, Net:
Advertising revenues are derived from advertisement designing,
masterminding and producing services. The Company recognizes service revenues
over the term of noted agreement at the time of completion of the services.
Information Services:
The Company recognizes service revenues over the term of the noted
agreement and or when the services have been provided to the end user.
i) Information Services - TCH:
By signing a subscription agreement, wireless receiver users agree to
make payments for three to six-month subscriptions in advance. TCH records the
proceeds as deferred revenue and amortizes the deferred revenue over the
subscriptions period. When customers buy a pre-charged service card, the Company
records the proceeds as deferred revenue. When a customer starts to use this
card to access to the Company's server and starts to use a pager to access the
aforementioned information, the Company identifies the subscription period and
amortizes the deferred revenue over the subscription period.
ii) Information Services - Installing Agent.
In response to a retailer's request, the Company has an installing
agent install the Company's software on mobile phones, which are owned by the
retailer. The retailer sells these phones for a premium covering a fee to be
paid to the installing agent and pre-charged six-month subscription fee to be
paid to the Company. After a customer using such a phone dials into the server
to access the desired information, the server records a unique identification
number installed on the mobile phone, which indicates that a specific phone user
starts his or her subscription period. After the Company receives a detailed
list from the installing agent regarding the number of phones that have been
installed with the Company's software, the Company matches this information with
a detailed list from the retailer setting forth how many such phones have been
sold. Based on the number of such phones sold, the Company records accounts
receivable and deferred revenue correspondingly. At the date on which a customer
starts to dial into the server, the six-month subscription period begins and the
Company amortizes deferred revenue accordingly.
iii) Information Services - China Mobile and / or Unicom:
Since April 2004, the revenue generated from selling pre-charged cards
has gradually decreased while the revenue generated through monthly
subscriptions with China Mobile and/or China Unicom (collectively, "Mobile
Operators") has gradually increased as the Mobile Operators' billing systems
have been enhanced. The Company's affiliates, Sifang Information and Shanghai
Tianci Industrial Group Co., Ltd. ("Tianci"), contract with the Mobile Operators
for the transmission of the Company's value-added information services. The
Mobile Operators bill and collect from customers and then pass those fees (net
of billing and collection service fees charged by the Mobile Operators) to
Sifang Information and Tianci who in turn pass those fees to the Company. The
Company recognizes net revenues based on the total amount paid by its customers,
for which the Mobile Operators bill and collect on behalf of the Company. There
is a time lag ranging from 10 days to 45 days between the end of the service
period and the date the Mobile Operators send out their billing statements due
to the segregated billing systems of each provincial subsidiaries of the Mobile
Operators. The Company has not recognized service revenue based on the records
provided by its own server but has performed a reconciliation on a monthly basis
of the revenues recognized by the Company's server to the Mobile Operator's
billing statement. In addition, the Mobile Operators charge a network usage fee
based on a fixed per message fee multiplied by the excess of messages sent over
messages received (This type of service is not covered by a monthly service
subscription and the Company has no control whether it will occur or not.).
Network usage fees charged by the Mobile Operators are reduced for messages
received by the Company because the Mobile Operators separately charge the
sender a fee for these transmissions.
The Company records the revenue from China Mobile / China Unicom on a
net basis in compliance with EITF 99-19, "Reporting Revenues Gross as a
Principle versus Net as an Agent" because the Company:
F-9
o Is not the primary obligor in the arrangement, as it relies on
Sifang Information to transmit the information services to the
end user
o Has limited ability to adjust the cost of services by
adjusting the design or marketing of the service,
o Has limited ability to determine prices, the Company must
follow the price policy within ranges prescribed by Mobile
Operators, and
o Has limited ability to assume risk of non-payment by
customers.
The Company's dependence on the substance and timing of the billing
systems of the mobile telecommunications operators may require us to estimate
portions of our reported revenue for wireless Internet services from time to
time. As a result, subsequent adjustments may have to be made to our wireless
Internet service revenue in our financial statements. As we do not bill our
wireless Internet services users directly, we depend on the billing systems and
records of the mobile telecommunications operators to record the volume of our
wireless Internet services provided, charge our users through mobile telephone
bills and collect payments from our users and pay us.
Cash and Cash Equivalents
The Company considers all highly liquid investments with maturities of
three months or less to be cash equivalents. The Company maintains its cash
accounts at credit worthy financial institutions.
Accounts Receivable and Concentration of Credit Risk
During the normal course of business, the Company extends unsecured
credit to retailers and distributors who are mainly located in the Shanghai
metropolitan area. Typically, for mobile phone distributors, credit terms
require payment to be made within 30 days of the sale. The Company does not
require collateral from its customers. The Company's policy is to provide for an
allowance for doubtful accounts that is based on 5% of total trade accounts
receivable less amounts due from related parties and from the installing agent.
The Company regularly evaluates and monitors the creditworthiness of
each customer on a case-by-case basis. The Company includes any account balances
that are determined to be uncollectible in the overall allowance for doubtful
accounts. After all attempts to collect a receivable have failed, the receivable
is written off against the allowance. The Company believes that its allowance
for doubtful accounts was adequate as of March 31, 2004 and 2005. However,
actual write-offs might exceed the recorded allowance.
The following table presents activities in the allowance for doubtful accounts.
December 31, March 31,
------------ ------------
2004 2005
------------ ------------
(Unaudited)
Beginning balance $ 28,158 $ 47,922
Additions charged to expense 19,764 --
Recovered -- (20,685)
Actual write off -- --
------------ ------------
Ending balance $ 47,922 $ 27,237
============ ============
Inventories
Inventories consist principally of mobile phones manufactured by name
brand manufacturers with various features and are stated at the lower of cost
(weighted-average) or market.
Rebates and Credits Receivable
In 2004, the Company's major vendor began providing rebates and credits
if the Company meets certain sales volume levels prescribed by the vendor. As a
result, the Company is entitled to receive certain rebates and credits for the
inventory held and sold by the Company within the specified period of time as
defined by its vendor through submitting the necessary application forms. In
F-10
general, once the vendor approves these applications the amounts of these
rebates and credits will be deducted from the Company's accounts payable to its
vendor and decrease the cost of goods sold or inventory held correspondingly.
Capitalization of Software Costs
The Company's software is developed by an independent third party to
enable pager users to accept certain recoded information which is transmitted,
through affiliates, by the Company and enables mobile phone users to dial into
the Company's server. The software is for internal use and gives the Company the
ability to provide value added information services. In accordance with SOP 98-1
"Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use," the Company capitalizes the external cost incurred to develop
this internal-use software by an engineering company at the application
development stage and amortizes that cost over the estimated economic life of
the software (two or three years) which is consistent with the expected life of
a particular type of mobile phone.
Property and equipment
Property and equipment are recorded at cost and are stated net of
accumulated depreciation. Depreciation expense is determined using the
straight-line method over the estimated useful lives of the assets as follows:
Buildings 20 years
Software 2-3 years
Vehicles and other equipment 2-5 years
Maintenance and repairs are charged directly to expense as incurred,
whereas betterment and renewals are generally capitalized in their respective
property accounts.
Impairment of Long-Lived Assets
The Company applies the provisions of Statement of Financial Accounting Standard
No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets" ("SFAS
No. 144"), issued by the Financial Accounting Standards Board ("FASB"). SFAS No.
144 requires that long-lived assets be reviewed for impairment whenever events
or changes in circumstances indicate that the carrying amount of an asset may
not be recoverable through the estimated undiscounted cash flows expected to
result from the use and eventual disposition of the assets. Whenever any such
impairment exists, an impairment loss will be recognized for the amount by which
the carrying value exceeds the fair value.
Fair Value of Financial Instruments
The carrying amount of cash and cash equivalents, accounts receivable, advances
and deposits to supplier, accounts payable and other current liabilities are
reasonable estimates of their fair value because of the short maturity of these
items.
F-11
Stock Based Compensation
The Company utilizes FAS 123 "Accounting for Stock-Based Compensation," when
accounting for stock based compensation and recognizes the fair value impact of
the compensation granted to employees and consultants as a charge to net income
in the period that the services associated with the compensation are incurred.
The Company does not currently have a stock option plan.
Value Added Tax
TCH is subject to value added tax ("VAT") imposed by the PRC on TCH's
domestic product sales. The output VAT is charged to customers who purchase
mobile phones from TCH and the input VAT is paid when TCH purchases mobile
phones from its vendors. The VAT rate ranges from 13% to 17%, depending on the
types of products purchased and sold. The input VAT can be offset against the
output VAT.
Income Taxes
The Company accounts for income taxes in accordance with Statement of
Financial Accounting Standards No 109, "Accounting for Income Taxes" ("SFAS No.
109"). SFAS No. 109 requires an entity to recognize deferred tax liabilities and
assets. For the future tax consequence attributable to the difference between
the tax bases of assets and liabilities and their reported amounts in the
financial statements. Deferred tax assets and liabilities are measured using the
enacted tax rate expected to apply to taxable income in the years in which those
temporary differences are expected to be recovered or settled. The effect on
deferred tax assets and liabilities of a change in tax rates is recognized in
income in the period that includes the enactment date. The Company establishes a
valuation when it is more likely than not that that the assets will not be
recovered.
The Company's Chinese subsidiary TCH is registered at Pudong District
in Shanghai and subject to a favorable income tax rate of 15% compared to a
normal income tax rate of 33% (30% for the central government and 3% for the
local government) under current PRC tax laws. However, Sifang Information is
registered in the Shanghai downtown and the area has been treated by the
Shanghai Municipal Administration of Labor as an enterprise that provides
unemployed and handicapped people with jobs. Accordingly, Sifang Information is
entitled to a favorable income tax rate of 15% and qualifies for an income tax
exemption for three years from January 1, 2000 to December 31, 2002, and a 50%
income tax reduction for three years from January 1, 2003 to December 31, 2005.
The income tax provisions presented in the Company's financial statements are
based on the historical actual income tax rates of SFT at 7.5% for the three
months ended March 31, 2004. The income tax provision presented for the three
months ended March 31, 2005 is based on 15% . The deferred tax assets are
determined based on the historical income tax rates applicable at the TCH level.
There is no income tax for companies domiciled in the Cayman Islands.
Accordingly, the Company's financial statements do not present any income tax
provisions related to Cayman Islands tax jurisdiction.
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ materially
from those estimates.
Comprehensive Income (Loss)
The Company has adopted Statement of Financial Accounting Standard No.
130, "Reporting Comprehensive Income" ("SFAS No. 130"), issued by the FASB. SFAS
No. 130 establishes standards for reporting and presentation of comprehensive
income (loss) and its components in a full set of general-purpose financial
statements. The Company has chosen to report comprehensive income (loss) in the
statements of income and comprehensive income. Comprehensive income (loss) is
comprised of net income and all changes to stockholders' equity except those due
to investments by owners and distributions to owners.
F-12
Earnings (Loss) Per Share
The Company presents earnings per share in accordance with the
Statement of Financial Accounting Standards No. 128, "Earnings per Share" ("SFAS
No. 128"). Basic earnings (loss) per share includes no dilution and is computed
by dividing income (loss) available to common shareholders by the weighted
average number of shares outstanding during the period. Diluted earnings (loss)
per share reflects the potential dilution of securities that could share in the
earnings of an entity if they were converted. The Company did not have any
potentially dilutive common share equivalents as of March 31, 2004 and 2005.
NOTE 3 - Equity Transactions
On June 23, 2004, the Company issued 167,895 shares of its common stock
to a consultant for services relating to the reverse merger that was completed
in fiscal 2004. The trading price of the Company's common stock on June 23, 2004
was $3.60 per share, accordingly, the fair value of 167,895 shares was $604,422.
On June 23, 2004, the Company issued 166,667 shares of its common stock
in exchange for services performed by an existing major shareholder of Boulder
Acquisitions for his consulting services involved with the reverse merger. The
common stock was issued at a price of $1.14 per share in exchange for gross
proceeds of $190,000 based on a stock purchase agreement. The $1.14 per share
price was pre-negotiated between the Company and the shareholder before the
reverse merger had been completed. Pursuant to the stock purchase agreement, the
Company granted the existing shareholder an option which required the Company to
purchase up to the aforementioned 166,667 shares of common stock at a price of
$1.14 per share, such option being exercisable at any time after the date that
is six months after the Company files a registration statement on Form SB-2 with
the SEC, registering the shares purchased by the existing shareholder, up to and
including the earlier of the date that such registration statement is declared
effective by the SEC or the existing shareholder's shares are eligible for
resale under Rule 144 under the Securities Act of 1933. According to Topic D-98
from the SEC, "Classification and Measurement of Redeemable Securities," these
shares should be presented outside the permanent equity section. However, on
November 12, 2004, the Company filed a Registration Statement on Form SB-2 with
the SEC, for registration of these securities to be sold to the public by a
small business issuers. On February 8, 2005, the SEC approved the registration
filing and accordingly, the Company has recorded these shares in shareholders'
equity as the contingency surrounding these shares expired as of February 8,
2005. On June 23, 2004, the trading price at the end of the day was $3.60 per
share. Due to the relationship between the parties, the difference between the
price of $1.14 per share and the price of $3.60 per share was recorded as
compensation by presenting $410,001 in additional paid-in capital and in general
and administrative expenses.
On June 28, 2004, the Company issued, in aggregate, 1,315,789 shares of
its common stock to three investors at a price of $1.14 per share in exchange
for gross proceeds of $1,500,000 based on a stock purchase agreement. The $1.14
per share price was pre-negotiated between the Company and the investor before
the reverse merger had been completed. Pursuant to the signed stock purchase
agreement, the Company granted to each of the three investors an option which
requires the Company to purchase up to the aforementioned 1,315,789 shares, in
aggregate, of common stock at a price of $1.14 per share, such option being
exercisable at any time after the date that is six months after the Company
files a Registration Statement on Form SB-2 with the SEC, registering the shares
purchased by the existing stockholder, up to and including the earlier of the
date that such registration statement is declared effective by the SEC or the
existing shareholder's shares are eligible for resale under Rule 144 under the
Securities Act of 1933. As of December 31, 2004, the proceeds of $1.5 million
were held in an escrow account with an agent who is related to a shareholder. As
of December 31, 2004, the Company has treated the proceeds held in escrow as a
current asset as the entire amount was released from escrow in March 2005 and
paid to the Company. According to Topic D-98 from SEC, "Classification and
Measurement of Redeemable Securities," these shares should be presented outside
the permanent equity section. However, on November 12, 2004, the Company filed a
Registration Statement on Form SB-2 with the SEC, for registration of these
securities to be sold to the public by small business issuers. On February 8,
2005, the SEC declared the registration statement effective. Accordingly, the
Company has recorded these shares in shareholders' equity as the contingency
surrounding these shares expired as of February 8, 2005.
In connection with the June 28, 2004, issuance of common stock, the
Company incurred share issue costs of $217,481 and accounted for it as a
reduction of additional paid-in capital.
F-13
NOTE 4 - Related Party Transactions
Related Party Relationships
The following related parties are related through common ownership with
the major shareholder of the Company.
Merchandise Sold to Related Parties
Three months Ended March 31,
2004 2005
------------ ------------
(Unaudited) (Unaudited)
Shanghai Shantian Telecommunication Co. Ltd. ("Shantian") $ 1,775,000 $ 4,060,514
------------ ------------
$ 1,775,000 $ 4,060,514
============ ============
During the three months ended March 31, 2005, TCH sold Samsung GSM
mobile phones valued at $4,060,514 (2004 - $1,775,000) at a 2.4% (2004 - 2%)
gross profit margin to Shantian. Accounts receivable include $2,526,838 (2004
$1,583,512) due from Shantian.
Advertising Services Rendered to Related Party
Three months Ended March 31,
2004 2005
------------ ------------
(Unaudited) (Unaudited)
Shanghai Tianci Real Estate Co. Ltd. $ -- $ 459,131
------------ ------------
$ -- $ 459,131
============ ============
In January 2005, Shanghai Sifang Media Co., Ltd ("Sifang Media") and
TCH entered into the "Bank Digital TV's Cooperation Agreement", where TCH will
assist in the promotion of TV ads for Tianci Real Estate. TCH received a fee of
approximately $459,000 for providing the service from January 2005 to March 31,
2005. There is an "Advertisement Agency Contract" between Tianci Real Estate and
Sifang Media, which continues until November 2005 and it is expected that TCH
will earn additional advertising service revenue during the term of the
Advertising Agency Contract.
Service Provided by Related Party
Three months Ended March 31,
2004 2005
------------ ------------
(Unaudited) (Unaudited)
Shanghai SFT Co., Ltd. ("Sifang Information") $ 141,960 $ 121,556
------------ ------------
$ 141,960 $ 121,556
============ ============
In accordance with terms contained in signed service agreements between
TCH and Sifang Information giving TCH the right to use Sifang Information's
facility (which may not be owned by foreign investors at the present time) to
transmit the reformatted information the Company paid service fees of
approximately $141,960 and $90,618 for the three months ended March 31, 2004 and
2005 respectively. The annual payments for the services have declined from
approximately $567,000 to approximately $362,472 from January 1, 2005.
During the three months ended March 31, 2005, Sifang Information also
provided other management support and marketing services to TCH for $30,938.
F-14
Amounts Due from Related Parties
December 31, 2004 March 31, 2005
----------------- -----------------
(unaudited)
Shanghai SFT Co., Ltd. $ 4,987,956 $ 4,259,643
----------------- -----------------
$ 4,987,956 $ 4,259,643
================= =================
In order to develop the Company's mobile phone distribution business,
the Company is applying to become Nokia's distributor (provincial level) of
mobile phones. On March 20, 2005 TCH signed an agreement with Sifang Information
for cooperation on Nokia mobile phone's distribution, as TCH will act as the
agent to sell Nokia phones on Sifang Information's behalf. Currently, the final
approval from Nokia has not been received. As at March 31, 2005, TCH advanced
$3,020,600 (RMB25,000,000) to Sifang Information so that when Sifang Information
is approved to distribute Nokia's products there is enough working capital
available to purchase Nokia mobile phones and to establish marketing for channel
distribution.
The Company advanced US$ 1,239,043 (2004 - $1,205,000) to provide
Sifang Information with working capital in order to complete spin-off procedures
in the PRC. The Company's management believes that the collection of the
remaining balance from Sifang Information is reasonably assured and accordingly,
no allowance has been recorded as of March 31, 2005.
Deposit for Business Acquisition
In March 2005, TCH signed an agreement with Tianci Group to act as an
agent for assisting with TCH's proposal to acquire assets and a related business
from Shanghai Oriental New Window Company Limited ("Shanghai ONW"), whose main
business was digital mobile television and digital media services. To initiate
the acquisition, TCH advanced Tianci Group RMB 20,000,000 (equivalent to
approximately $2,418,000). As of March 31, 2005, there remains a receivable of
$2,160,335 from the Tianci Group. The acquisition will be under the nominal name
of Tianci Group. After the completion of the acquisition, all related assets and
the business will transfer from Tianci Group to TCH with no mark up.
F-15
Due to Related Parties
December 31, 2004 March 31, 2005
----------------- -----------------
(unaudited)
Shanghai Tianci Real Estate Co. Ltd $ 51,350 $ 51,350
Shanghai Tianci Industry Group Co. Ltd. 48,910 --
----------------- -----------------
$ 100,260 $ 51,350
================= =================
The balance of $51,350 owed to Tianci Real Estate at March 31, 2005
represents rental payments for fiscal 2003 and 2004. The rental agreement was
cancelled as of September 30, 2004. The $48,910 owed to the Tianci Group was
paid during the three months ended March 31, 2005. The above amounts due to
related parties are unsecured, non-interest bearing and due on demand.
NOTE 5 - SEGMENT REPORTING
The Company currently operates in three principal business segments.
Management believes that the following table presents the useful information to
the chief operation decision makers for measuring business performance and
financing needs and preparing the corporate budget, etc. As most of the
Company's customers are located in the Shanghai metropolitan area and the
Company's revenues are generated in Shanghai, no geographical segment
information is presented.
Advertising Mobile Phone Mobile Phone Beep Pagers
Income Distribution Service Service Corporate Total
------------ ------------ ------------ ------------ ------------ ------------
Three months ended
March 31, 2004
Revenue $ -- $ 3,873,876 $ 520,965 $ 347,865 $ -- $ 4,742,706
Gross profit -- 194,397 448,947 166,059 -- 809,403
Depreciation -- -- 54,544 -- 14,312 68,856
Interest Income (Expense) -- -- -- -- -- --
Net Income -- 124,152 359,611 114,699 -- 598,462
Expenditures for long-lived -- -- 35,570 -- -- 35,570
assets
Total Assets, as at December -- 2,721,741 2,443,657 -- 7,497,267 12,662,665
31, 2004
Three months ended
March 31, 2005
Revenue $ 387,954 $ 4,729,705 $ 450,098 $ 207,605 $ 0 $ 5,775,362
Gross profit 387,954 159,912 346,771 140,124 0 1,034,761
Depreciation -- -- 53,371 -- 14,313 67,684
Interest Income (Expense) -- -- -- -- 465 465
Net Income 323,211 97,491 253,167 99,037 106,498 666,408
Expenditures for long-lived -- -- 50,452 -- -- 50,452
assets
Total Assets, as at March -- 8,377,108 300,822 -- 4,750,529 13,428,459
31, 2005
F-16
NOTE 6 -EMPLOYEE WELFARE AND RETIREMENT BENEFITS
The PRC has been undergoing significant reforms with regard to its
employee welfare and fringe benefits administration. Any enterprise operating in
the PRC is subject to government-mandated employee welfare and retirement
benefit contribution as a part of operating expense to the State Administration
of Labor Affairs. In accordance with PRC laws and regulations, TCH participates
in a multi-employer defined contribution plan pursuant to which TCH is required
to provide employees with certain retirement, medical and other fringe benefits.
PRC regulations require TCH to pay the local labor administration bureau a
monthly contribution at a stated contribution rate based on the monthly basic
compensation of qualified employees. The local labor administration bureau,
which manages various investment funds, will take care of employee retirement,
medical and other fringe benefits. TCH has no further commitments beyond its
monthly contribution. TCH contributed a total of $14,849 and $ 12,782 to these
funds as part of selling, general and administrative expenses for the three
months ended March 31, 2004 and 2005, respectively.
F-17
REPORT OF INDEPENDENT REGISTERED ACCOUNTING FIRM
To the Shareholders and Board of Directors
China Digital Wireless, Inc. and Subsidiary
We have audited the accompanying consolidated balance sheet of China Digital
Wireless, Inc. and Subsidiary (the "Company") as of December 31, 2004 and the
related consolidated statements of income and comprehensive income,
shareholders' equity and cash flows for the year then ended. These consolidated
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audit.
We conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the
consolidated financial statements are free of material misstatement. The Company
is not required to have, nor were we engaged to perform, an audit of its
internal controls over financial reporting. Our audit included consideration of
internal controls 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 consolidated financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall consolidated financial statement
presentation. We believe that our audit provides a reasonable basis for our
opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of China
Digital Wireless, Inc. and Subsidiary as of December 31, 2004, and the
consolidated results of their operations and cash flows for the year then ended
in conformity with accounting principles generally accepted in the United States
of America.
GROBSTEIN, HORWATH & COMPANY LLP
Sherman Oaks, California
March 14, 2005
[LETTERHEAD OF BDO SHANGHAI ZHONGHUA]
Report of Independent Registered Public Accounting Firm
The Board of Directors
China Digital Wireless, Inc. (formerly, Sifang Holdings Co. Ltd.)
We have audited the accompanying consolidated balance sheets of China Digital
Wireless, Inc. (formerly, Sifang Holdings Co. Ltd.) as of December 31, 2003 and
the related consolidated statements of income and comprehensive income,
stockholders' equity and cash flows for the year then ended. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audit.
We conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board in the United States of America. Those standards
require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatements. 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
audit provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of China Digital
Wireless, Inc (formerly, Sifang Holdings Co. Ltd.), as of December 31, 2003 and
the results of its operations and its cash flows for the year then ended, in
conformity with accounting principles generally accepted in the United States of
America.
/s/ BDO Shanghai Zhonghua
BDO Shanghai Zhonghua
Certified Public Accountants
Shanghai, PRC
June 1, 2004
F-18
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
December 31, December 31,
2003 2004
------------ ------------
ASSETS
Current assets:
Cash and cash equivalents $ 1,713,748 $ 75,511
Accounts receivable, net of allowance for doubtful
accounts of $25,651 and $47,922 2,363,327 4,619,809
Inventories 1,591,223 101,696
Deferred tax assets 4,955 28,772
Common stock proceeds held in escrow 0 1,500,000
Amounts due from a related party -- 4,987,956
Deposits paid 245,268 --
Other current assets 175,850 150,412
------------ ------------
Total current assets 6,094,371 11,464,156
------------ ------------
Property and equipment, net 1,354,238 1,198,509
------------ ------------
Total assets $ 7,448,609 $ 12,662,665
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 111,569 $ 55,839
Deferred revenue 537,046 617,694
VAT payable 0 213,535
Income tax payable 0 312,763
Due to related parties 20,540 100,260
Other current liabilities 95,790 287,025
------------ ------------
Total current liabilities 764,945 1,587,116
------------ ------------
Shareholders' equity:
Common stock - $0.001 par value, 100,000 000 shares
authorized, 17,018,692 (2003 - 13,782,636) shares
issued and outstanding 13,783 17,019
Additional paid-in capital 1,436,217 4,229,974
Retained earnings 5,233,652 6,828,281
Accumulated other comprehensive income 12 275
------------ ------------
Total shareholders' equity 6,683,664 11,075,549
------------ ------------
Total liabilities and shareholders' equity $ 7,448,609 $ 12,662,665
============ ============
See accompanying notes to consolidated financial statements
F-19
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
AND COMPREHENSIVE INCOME
Years Ended December 31,
----------------------------
2003 2004
------------ ------------
Revenues:
Product sales $ 13,529,279 $ 11,057,398
Product sales to related parties 0 9,891,691
Service revenue, net 3,503,099 3,571,861
------------ ------------
Total revenues 17,032,378 24,520,950
------------ ------------
Cost of goods sold 12,424,454 10,196,443
Cost of goods sold to related parties 0 9,412,389
Cost of service 1,016,318 1,045,993
------------ ------------
Total cost of goods sold 13,440,772 20,654,825
------------ ------------
Gross profit 3,591,606 3,866,125
------------ ------------
Operating expenses:
Sales and marketing 153,437 246,639
General and administrative 291,413 1,656,841
------------ ------------
Total operating expenses 444,850 1,903,480
------------ ------------
Income from operations 3,146,756 1,962,645
Interest income (expense) (12,082) 1,955
------------ ------------
Income before income taxes 3,134,674 1,964,600
Income tax provision 246,694 369,971
------------ ------------
Net income $ 2,887,980 $ 1,594,629
============ ============
Other comprehensive income
Translation adjustments $ 381 $ 263
Comprehensive income $ 2,888,361 $ 1,594,892
============ ============
Basic earnings (loss) per share $ 0.21 $ 0.10
Weighted average shares of common stock outstanding 13,782,636 15,458,000
See accompanying notes to consolidated financial statements.
F-20
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(In U.S. dollars, except share data)
Additional Other Total
Common Stock Paid-in Retained Comprehensive Shareholders'
Shares Amount Capital Earnings Income (Loss) Equity
------------- ------------- ------------- ------------- ------------- -------------
Balance at December 31, 2002 13,782,636 $ 13,783 $ 1,436,217 $ 2,345,672 $ (369) $ 3,795,303
Net income -- -- -- 2,887,980 -- 2,887,980
Translation adjustment -- -- -- -- 381 381
------------- ------------- ------------- ------------- ------------- -------------
Balance at December 31, 2003 13,782,636 13,783 1,436,217 5,233,652 12 6,683,664
Recapitalization and
reorganization 1,585,705 1,586 308,465 -- -- 310,051
Shares issued for consulting
service 167,895 168 604,254 -- -- 604,422
Shares issued for proceeds of
$190,000 166,667 167 599,834 -- -- 600,001
Shares issued for net proceeds
of $1.5 million 1,315,789 1,315 1,498,685 -- -- 1,500,000
Offset by issuing cost -- -- (217,481) -- -- (217,481)
Net income -- -- -- 1,594,629 -- 1,594,629
Translation adjustment -- -- -- -- 263 263
------------- ------------- ------------- ------------- ------------- -------------
Balance at December 31, 2004 17,018,692 $ 17,019 $ 4,229,974 $ 6,828,281 $ 275 $ 11,075,549
============= ============= ============= ============= ============= =============
See accompanying notes to consolidated financial statements.
F-21
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31,
--------------------------
2003 2004
----------- -----------
Cash flows from operating activities:
Net income $ 2,887,980 $ 1,594,629
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Depreciation 234,055 287,232
Bad debt expenses 0 19,764
Issuance of common stock to consultants for services 0 1,014,423
Loss on disposal of fixed assets 5,361 652
Deferred tax assets 601 (23,817)
Changes in assets and liabilities:
Accounts receivable (1,790,616) (2,276,245)
Inventories (422,000) 1,489,527
Amounts due from a related party 0 (4,742,688)
Deposits paid (245,268) 0
Other current assets 62,522 25,438
Accounts payable 111,569 (55,730)
Deferred revenue 493,116 80,648
Income tax payable 0 312,763
Due to related parties 20,540 79,720
Other current liabilities 25,737 404,769
----------- -----------
Net cash provided by (used in) operating activities 1,383,597 (1,788,915)
----------- -----------
Cash flows from investing activities:
Purchase of property and equipment (259,858) (132,155)
----------- -----------
Net cash used in investing activities (259,858) (132,155)
----------- -----------
Cash flows from financing activities:
Recapitalization and reorganization 0 310,051
Proceeds from issuing common stock 0 1,690,000
Common stock proceeds held in escrow 0 (1,500,000)
Issuing cost 0 (217,481)
Due to a related party (604,062) 0
----------- -----------
Net cash provided by financing activities (604,062) 282,570
----------- -----------
Foreign currency translation 381 263
----------- -----------
Net increase (decrease) in cash and cash equivalents 520,058 (1,638,237)
Cash and cash equivalents, beginning of the period 1,193,690 1,713,748
----------- -----------
Cash and cash equivalents, end of the period $ 1,713,748 $ 75,511
=========== ===========
Supplemental disclosure of cash flow information:
Cash paid during the year for:
Interest $ 12,082 $ 0
Income taxes $ 246,093 $ 76,339
Non-cash financing activity:
Issuance of common stock to consultants for consulting services $ 0 $ 1,014,423
=========== ===========
See accompanying notes to consolidated financial statements.
F-22
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - ORGANIZATION AND BUSINESS BACKGROUND
China Digital Wireless, Inc. ("CDW," formerly known as Boulder Acquisitions,
Inc.) through its subsidiary sells mobile phones to retailers, distributors, and
related parties and provides information services to users of mobile phones and
pagers. Substantially all operations are conducted in Shanghai, People's
Republic of China (PRC).
In order to meet ownership requirements under Chinese law that restrict a
foreign company, from operating in certain industries such as value-added
telecommunication and Internet services, CDW's subsidiary has entered into
information service and cooperation agreements with two of CDW's affiliates that
are incorporated in China: Shanghai SFT Co. Ltd. ("Sifang Information") and
Shanghai Tianci Industry Co. Ltd ("Tianci Industry"). CDW holds no ownership
interest in Sifang Information or Tianci Industry. Sifang Information and Tianci
Industry contract with China Mobile Communications Corporation, or China Mobile,
and China United Telecommunications Corporation, or China Unicom, respectively,
to provide wireless value-added information services to wireless receiver
customers in China via China Mobile and China Unicom. Sifang Information
transmits those services to customers of China Mobile and China Unicom on behalf
of itself and Tianci Industry pursuant to a signed agreement between Sifang
Information and Tianci Industry.
Recapitalization and Reorganization
On June 23, 2004, Boulder Acquisitions, Inc. ("Boulder Acquisitions") entered
into a stock exchange agreement with Sifang Holdings Co. Ltd. ("Sifang
Holdings") and certain shareholders. Pursuant to the stock exchange agreement,
Boulder Acquisitions issued 13,782,636 shares of its common stock in exchange
for a 100% equity interest in Sifang Holdings, making Sifang Holdings a wholly
owned subsidiary of Boulder Acquisitions.
Boulder Acquisitions was incorporated under the laws of the State of Colorado on
May 8, 1980 as Boulder Brewing Company ("Boulder Brewing"). Boulder Brewing was
the successor to a general partnership formed in 1979. From the initial
inception of the original partnership through 1990, Boulder Brewing was in the
business of operating a microbrewery in Boulder, Colorado. During 1990, as a
result of various debt defaults, Boulder Brewing's assets were foreclosed upon
and all business operations were ceased. Boulder Brewing has effectively had no
operations, assets or liabilities since its fiscal year ended December 31, 1990.
In September 2001, Boulder Brewing changed its state of incorporation from
Colorado to Nevada by means of a merger with and into Boulder Acquisitions, a
Nevada corporation formed on September 6, 2001 solely for the purpose of
effecting the reincorporation. The Articles of Incorporation and Bylaws of the
Nevada corporation are the Articles of Incorporation and Bylaws of the surviving
corporation. Such Articles of Incorporation eliminated the provision for Boulder
Acquisitions to issue preferred stock.
The above stock exchange transaction resulted in those shareholders of Sifang
Holdings obtaining a majority voting interest in Boulder Acquisitions. Generally
accepted accounting principles in the United States of America require that the
company whose shareholders retain the majority interest in a combined business
be treated as the acquirer for accounting purposes. Consequently, the stock
exchange transaction has been accounted for as a recapitalization of Sifang
Holdings as Sifang Holdings acquired a controlling equity interest in Boulder
Acquisitions, as of June 23, 2004. The reverse acquisition process utilizes the
capital structure of Boulder Acquisitions and the assets and liabilities of
Sifang Holdings recorded at historical cost.
Sifang Holdings is the continuing operating entity for financial reporting
purposes, and the financial statements prior to June 23, 2004 represent Sifang
Holdings' financial position and results of operations. As of June 23, 2004,
Boulder Acquisitions had only cash of $310,051, and shareholders' equity of
$310,051 with 1,585,705 shares of common stock outstanding, all of which were
included in the consolidated financial statements of Sifang Holdings. See the
shareholders' equity statement for the period from January 1, 2004 to December
31, 2004. Although Sifang Holdings is deemed to be the acquiring corporation for
financial accounting and reporting purposes, the legal status of Boulder
Acquisitions as the surviving corporation did not change. Subsequent to June 30,
2004, Boulder Acquisitions changed its name to China Digital Wireless, Inc.
F-23
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Business History
CDW's business is primarily conducted through its wholly-owned subsidiary Sifang
Holdings Co., Ltd., (Sifang Holdings) and its wholly-owned subsidiary TCH Data
Technology Co., Ltd. (TCH). Sifang Holdings was established under the laws of
the Cayman Islands on February 9, 2004 for the purpose of holding a 100% equity
interest in TCH. TCH was established as a foreign investment enterprise in
Shanghai under the laws of the PRC on May 25, 2004, with registered capital of
$7.2 million.
CDW's current operations were originally a business division of Sifang
Information. Sifang Information is a Shanghai-based privately owned enterprise
established under the laws of the PRC on August 14, 1998. Sifang Information is
engaged in the business of pager and mobile phone distribution and provides
value added information services to the customers in the Shanghai metropolitan
area. In March 2004, Sifang Information spun off its mobile phone distribution
business and the majority of its value added information services business to
TCH. As the acquiring entity under common control, TCH initially recognized all
the assets and liabilities transferred at their carrying amounts in the accounts
of Sifang Information at the date of transfer under the guidance of SFAS No.
141, Appendix D.
On May 25, 2004, Sifang Information transfered its 100% equity interest in TCH
in exchange for 100% equity interest in Sifang Holdings. Since the ultimate
owners of the three entities were the same owners and the three entities
remained under common control, the ownership exchange transaction was accounted
for at historical costs under the guidance of SFAS No. 141, Appendix D. Prior to
May 25, 2004, there were no activities in Sifang Holdings. As a result of the
exchange of ownership between TCH and Sifang Holdings, TCH's historical
financial statements became the historical financial statements of Sifang
Holdings.
As a result of the spin-off, TCH engages in the business of mobile phone
distribution and provides pager and mobile phone users with access to certain
value-added information reformatted by TCH. TCH purchases mobile phones from
first tier distributors and sells them to retailers and distributors with a
mark-up. In the process of providing value-added information services through
monthly subscription agreements with various users, TCH purchases trading
activity information from stock exchanges, comments and analysis on PRC stock
markets provided by certain reputable security and investment companies, lottery
information, weather forecast, and other value-added products and reformats the
aforementioned information through decoding and recoding and then has the
reformatted information transmitted by Sifang Information, via service
contracts, to pager users. The value-added information is constantly saved on
TCH's server in order for mobile phone users to dial in via China Mobile or
China Unicom. By signing a monthly subscription agreement, wireless receiver
users agree to make advance payments for our services for either three or
six-month subscription periods.
In the spin-off process, the cost of sales included in the Company's financial
statements is directly related to the product revenue and the cost of services
is directly related to different types of service. The business taxes (similar
to sales taxes in the U.S.) are related only to service revenue at a tax rate of
F-24
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
approximately 3.3%. The selling expenses are allocated based on the relationship
between expense and revenue (such as commission) and payroll records. The
general and administrative expenses are allocated based on management hours
spent and payroll records. The income tax provision has been calculated on a
separate company basis and is in line with the historical actual income tax
provision at the Sifang Information level assuming that all income taxes had
been paid by Sifang Information and no income tax liability was in existence in
the periods reported in the accompanying financial statements. Management
believes that the costs, operating expenses, interest expense, and income tax
provision included in the Company's financial statements are a reasonable
representation of the costs and expenses that would have been incurred if the
Company had performed these functions as a stand-alone company.
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The consolidated financial statements have been prepared in accordance with
accounting principles generally accepted in the United States of America (GAAP)
and pursuant to the rules and regulations of the Securities and Exchange
Commission (SEC) for annual financial statements. The consolidated financial
statements, in the opinion of management, include all adjustments necessary for
a fair statement of the consolidated results of operations, financial position
and cash flows for each period presented.
The Company's consolidated financial statements for the year ended December 31,
2003 have been derived from the historical financial statements and accounting
records of Sifang Information using the historical operating results and the
historical basis of the assets and liabilities transferred to the Company in
accordance with accounting principles generally accepted in the United States of
America. Management believes that the assumptions underlying the accompanying
financial statements are reasonable. However, the financial statements that are
derived from Sifang Information's financial records may not necessarily reflect
the Company's results of operations and cash flows had the Company been a
stand-alone company.
Principles of Consolidation
The consolidated financial statements for the year ended December 31, 2004
include the accounts CDW, its wholly owned subsidiary Sifang Holdings, and its
wholly owned subsidiary TCH (collectively the "Company"). Substantially all of
the Company's revenues are derived from the operations of TCH, which represents
substantially all of the Company's consolidated assets and liabilities as of
December 31, 2004. All significant intercompany accounts and transactions have
been eliminated.
Foreign Currency Translations and Transactions
The Renminbi ("RMB"), the national currency of the PRC, is the primary currency
of the economic environment in which the operations of the Company are
conducted. The Company uses the United States dollar ("U.S. dollars") for
financial reporting purposes.
The Company translates it's assets and liabilities into U.S. dollars using the
rate of exchange prevailing at the balance sheet date, and the statement of
income is translated at average rates during the reporting period. Adjustments
resulting from the translation of its financial statements from RMB into U.S.
dollars are recorded in shareholders' equity as part of accumulated
comprehensive income. Gains or losses resulting from transactions in currencies
other than RMB are reflected in the statement of income for the reporting
periods.
F-25
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Revenue Recognition
The Company derives revenues from the sale of mobile phones and the provision of
wireless information services that are used on mobile phones, pagers and prepaid
phone cards. The Company additionally earns commission income ("Agency Income")
from the sale of CDMA mobile phones on the behalf of a related party. The
Company recognizes its revenues net of related business taxes and value added
taxes.
Mobile Phone Sales:
Revenues generated from the sale of mobile phones are recognized when the
products are shipped to the distributor or retailer and when persuasive evidence
of an arrangement exists, delivery of the products has occurred, customer
acceptance has been obtained, which means the significant risks and rewards of
ownership have been transferred to the customer, the price is fixed or
determinable and collectibility is reasonably assured.
Services:
The Company recognizes service revenues over the term of the noted agreement and
or when the services have been provided to the end user.
i) Information Services - TCH:
By signing a subscription agreement, wireless receiver users agree to make
payments for three- to six-month subscriptions in advance. The Company records
the proceeds as deferred revenue and amortizes the deferred revenue over the
subscription period. When customers buy a pre-charged service card, the Company
records the proceeds as deferred revenue. When a customer starts to use this
card to access to the Company's server and starts to use a pager to access the
aforementioned information, the Company identifies the subscription period and
amortizes the deferred revenue over the subscription period.
ii) Information Services - Installing Agent:
The Company has an installing agent install the Company's software on mobile
phones, which are owned by the retailer. The retailer sells these phones for a
premium covering a fee to be paid to the installing agent and pre-charged
six-month subscription fees to be paid to the Company. After a customer using
such a phone dials into the server to access the desired information, the server
records a unique identification number installed on the mobile phone, which
indicates that a specific phone user starts his or her subscription period.
After the Company receives a detailed list from the installing agent regarding
the number of phones that have been installed with the Company's software, the
Company matches this information with a detailed list from the retailer setting
forth how many such phones have been sold. Based on the number of such phones
sold, the Company records accounts receivable and deferred revenue. At the date
on which a customer starts to dial into the server, the six-month subscription
period begins and the Company amortizes deferred revenue accordingly.
iii) Information Services - China Mobile and / or Unicom:
Since April 2004, the revenue generated from selling pre-charged cards has
gradually decreased while the revenue generated through monthly subscriptions
with China Mobile and/or China Unicom (collectively, "Mobile Operators") has
gradually increased as the Mobile Operators' billing systems have been enhanced.
The Company's affiliates, Sifang Information and Shanghai Tianci Industrial
F-26
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Group Co., Ltd. ("Tianci Group"), contract with the Mobile Operators for the
transmission of the Company's value-added information services. The Mobile
Operators bill and collect from customers and then pass those fees (net of
billing and collection service fees charged by the Mobile Operators) to Sifang
Information and Tianci Group who in turn pass those fees to the Company. The
Company recognizes net revenues based on the total amount paid by its customers,
for which the Mobile Operators bill and collect on behalf of the Company. There
is a time lag ranging from 10 days to 45 days between the end of the service
period and the date the Mobile Operators send out their billing statements due
to the segregated billing systems of each of the provincial subsidiaries of the
Mobile Operators. The Company received the December invoice before the issuance
of the financial statements to reconcile the monthly revenues to the Mobile
Operators billing statement. The Company has not recognized service revenue
based on the records provided by its own server but has performed a
reconciliation on a monthly basis of the revenues recognized by the Company's
server to the Mobile Operator's billing statement. In addition, the Mobile
Operators charge a network usage fee based on a fixed per message fee multiplied
by the excess of messages sent over messages received. This type of service is
not covered by a monthly service subscription and the Company has no control
whether or not it will occur Network usage fees charged by the Mobile Operators
are reduced for messages received by the Company because the Mobile Operators
separately charge the sender a fee for these transmissions.
The Company records the revenue from China Mobile / China Unicom on a net basis
in compliance with EITF 99-19, "Reporting Revenues Gross as a Principle versus
Net as an Agent" because the Company:
o Is not the primary obligor in the arrangement, as it relies on
Sifang Information to transmit the information services to the
end user
o Has limited ability to adjust the cost of services by
adjusting the design or marketing of the service,
o Has limited ability to determine prices, the Company must
follow the price policy within ranges prescribed by Mobile
Operators, and
o Has limited ability to assume risk of non-payment by
customers.
The Company's dependence on the substance and timing of the billing systems of
the mobile telecommunications operators may require us to estimate portions of
our reported revenue for wireless Internet services from time to time. As a
result, subsequent adjustments may have to be made to our wireless Internet
service revenue in our financial statements. As we do not bill our wireless
Internet services users directly, we depend on the billing systems and records
of the mobile telecommunications operators to record the volume of our wireless
Internet services provided, charge our users through mobile telephone bills and
collect payments from our users and pay us.
Cash and Cash Equivalents
The Company considers all highly liquid investments with maturities of three
months or less to be cash equivalents. The Company maintains its cash accounts
at credit worthy financial institutions.
Accounts Receivable and Concentration of Credit Risk
During the normal course of business, the Company extends unsecured credit to
retailers and distributors who are mainly located in the Shanghai metropolitan
area. Typically, for mobile phone distributors, credit terms require payment to
be made within 30 days of the sale. The Company does not require collateral from
its customers. The Company's policy is to provide for delinquent accounts
F-27
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
receivable balances as an allowance for doubtful accounts that is based on 5% of
total trade accounts receivable less amounts due from related parties and from
the installing agent.
The Company regularly evaluates and monitors the creditworthiness of each
customer on a case-by-case basis. The Company includes any account balances that
are determined to be uncollectible in the overall allowance for doubtful
accounts. After all attempts to collect a receivable have failed, the receivable
is written off against the allowance. The Company believes that its allowance
for doubtful accounts was adequate as of December 31, 2003 and 2004. However,
actual write-offs might exceed the recorded allowance.
As of December 31, 2004, accounts receivable resulting from pre-charged fees
amounted to $2,125,777, which was collected in March 2005.
The following table presents activities in the allowance for doubtful accounts.
December 31
------------------------
2003 2004
------------------------
Beginning balance $ 30,143 $ 28,158
Additions charged to expense -- 19,764
Recovered (4,492) --
Actual write off -- --
---------- ----------
Ending balance $ 25,651 $ 47,922
========== ==========
Inventories
Inventories consist principally of mobile phones manufactured by name brand
manufacturers with various features and are stated at the lower of cost
(weighted-average) or market.
Rebates and Credits Receivable
In 2004 the Company's major vendor began providing rebates and credits if the
Company meets certain sales volume levels prescribed by the vendor. As a result,
the Company is entitled to receive certain rebates and credits for the inventory
held and sold by the Company within the specified period of time as defined by
its vendor through submitting the necessary application forms. In general, once
the vendor approves these applications the amounts of these rebates and credits
will be deducted from the Company's accounts payable to its vendor and decrease
the cost of goods sold or inventory held correspondingly.
Capitalization of Software Costs
The Company's software is developed by an independent third party to enable
pager users to accept certain recoded information which is transmitted, through
affiliates, by the Company and enables mobile phone users to dial into the
Company's server. The software is for internal use and gives the Company the
ability to provide value added information services. In accordance with SOP 98-1
"Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use," the Company capitalizes the external cost incurred to develop
this internal-use software by an engineering company at the application
development stage and amortizes that cost over the estimated economic life of
the software (two or three years) which is consistent with the expected life of
a particular type of mobile phone.
F-28
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Property and equipment
Property and equipment are recorded at cost and are stated net of accumulated
depreciation. Depreciation expense is determined using the straight-line method
over the estimated useful lives of the assets as follows:
Buildings 20 years
Software 2-3 years
Vehicles and other equipment 2-5 years
Maintenance and repairs are charged directly to expense as incurred, whereas
betterment and renewals are generally capitalized in their respective property
accounts. When an item is retired or otherwise disposed of, the cost and
applicable accumulated depreciation are removed and the resulting gain or loss
is recognized and reflected as an item before operating income (loss).
Impairment of Long-Lived Assets
The Company applies the provisions of Statement of Financial Accounting Standard
No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets" ("SFAS
No. 144"), issued by the Financial Accounting Standards Board ("FASB"). SFAS No.
144 requires that long-lived assets be reviewed for impairment whenever events
or changes in circumstances indicate that the carrying amount of an asset may
not be recoverable through the estimated undiscounted cash flows expected to
result from the use and eventual disposition of the assets. Whenever any such
impairment exists, an impairment loss will be recognized for the amount by which
the carrying value exceeds the fair value. There was no impairment of long-lived
assets in the years ended December 31, 2003 and 2004.
Fair Value of Financial Instruments
The carrying amount of cash, notes receivable, accounts receivable, other
receivables, advances to vendor, accounts payable and accrued liabilities are
reasonable estimates of their fair value because of the short maturity of these
items.
Advertising Expenses:
Advertising expenses are expensed in the period incurred. Advertising expenses
for the years ended December 31, 2004 and 2003 were $ 60,092 and $ 18,909,
respectively.
Stock Based Compensation
The Company utilizes FAS 123 "Accounting for Stock-Based Compensation," when
accounting for stock based compensation and recognizes the fair value impact of
the compensation granted to employees and consultants as a charge to net income
in the period that the services associated with the compensation are incurred.
The Company does not currently have a stock option plan.
Value Added Tax
TCH is subject to value added tax ("VAT") imposed by the PRC on TCH's domestic
product sales. The output VAT is charged to customers who purchase mobile phones
from TCH and the input VAT is paid when TCH purchases mobile phones from its
vendors. The VAT rate ranges from 13% to 17%, in general, depending on the types
of products purchased and sold. The input VAT can be offset against the output
VAT.
F-29
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Income Taxes
The Company accounts for income taxes in accordance with Statement of Financial
Accounting Standards No 109, "Accounting for Income Taxes" ("SFAS No. 109").
SFAS No. 109 requires an entity to recognize deferred tax liabilities and
assets. Deferred tax assets and liabilities are recognized for the future tax
consequence attributable to the difference between the tax bases of assets and
liabilities and their reported amounts in the financial statements. Deferred tax
assets and liabilities are measured using the enacted tax rate expected to apply
to taxable income in the years in which those temporary differences are expected
to be recovered or settled. The effect on deferred tax assets and liabilities of
a change in tax rates is recognized in income in the period that includes the
enactment date. The Company establishes a valuation when it is more likely than
not that the assets will not be recovered.
The Company's Chinese subsidiary TCH is registered at Pudong District in
Shanghai and subject to a favorable income tax rate of 15% compared to a normal
income tax rate of 33% (30% for the central government and 3% for the local
government) under current PRC tax laws. However, Sifang Information is
registered in the Shanghai downtown area and has been treated by the Shanghai
Municipal Administration of Labor as an enterprise that provides unemployed and
handicapped people with jobs. Accordingly, Sifang Information is entitled to a
favorable income tax rate of 15% and qualifies for an income tax exemption for
three years from January 1, 2000 to December 31, 2002, and a 50% income tax
reduction for three years from January 1, 2003 to December 31, 2005. The income
tax provisions presented in the Company's financial statements are based on the
historical actual income tax rates of SFT at 7.5% for the year ended December
31, 2003. The income tax provision presented for the year ended December 31,
2004 is based on 7.5% for the months of January to June and 15% for the months
of July to December. The deferred tax assets are determined based on the
historical income tax rates applicable at the TCH level.
There is no income tax for companies domiciled in the Cayman Islands.
Accordingly, the Company's financial statements do not present any income tax
provisions related to Cayman Islands tax jurisdiction.
Use of Estimates
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ materially from those
estimates.
Comprehensive Income (Loss)
The Company adopted Statement of Financial Accounting Standard No. 130,
"Reporting Comprehensive Income" ("SFAS No. 130"), issued by the FASB. SFAS No.
130 establishes standards for reporting and presentation of comprehensive income
(loss) and its components in a full set of general-purpose financial statements.
The Company has chosen to report comprehensive income (loss) in the statements
of income and comprehensive income. Comprehensive income (loss) is comprised of
net income and all changes to stockholders' equity except those due to
investments by owners and distributions to owners.
F-30
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Earnings (Loss) Per Share
The Company presents earnings per share in accordance with the Statement of
Financial Accounting Standards No. 128, "Earnings per Share" ("SFAS No. 128").
Basic earnings (loss) per share includes no dilution and is computed by dividing
income (loss) available to common shareholders by the weighted average number of
shares outstanding during the period. Diluted earnings (loss) per share reflects
the potential dilution of securities that could share in the earnings of an
entity, similar to fully diluted earnings (loss) per share. The Company did not
have any potentially dilutive common share equivalents as of December 31, 2003
or 2004.
Reclassifications
Certain amounts included in the prior year's consolidated financial statements
have been reclassified to conform to the current year presentation. Such
reclassifications did not have any effect on reported net income and are
immaterial to the financial statements as a whole.
Recent Accounting Pronouncements
In December 2003, the FASB issued Interpretation No. 46R ("FIN 46R"), a revision
to FIN 46, "Consolidation of Variable Interest Entities". FIN 46R clarifies some
of the provisions of FIN46 and exempts certain entities from its requirements.
FIN 46R is effective at the end of the first interim period ending after March
15, 2004. Entities that have adopted FIN 46 prior to this effective date can
continue to apply the provisions of FIN 46 until the effective date of FIN 46R.
The adoption of FIN 46R did not have any effect on the Company's consolidated
financial statements.
In March 2004, the FASB issued EITF Issue No. 03-1, "The Meaning of
Other-Than-Temporary Impairment and Its Application to Certain Investments"
("EITF 03-1") which provides new guidance for assessing impairment losses on
debt and equity investments. Additionally, EITF 03-1 includes new disclosure
requirements for investments that are deemed to be temporarily impaired. In
September 2004, the FASB delayed the accounting provisions of EITF 03-1. The
Company will evaluate the effect, if any, of EITF 03-1 when final guidance is
released.
In November 2004, the FASB issued Statement of Financial Accounting Standards
(SFAS) No. 151, Inventory Costs, which clarifies the accounting for abnormal
amounts of idle facility expense, freight, handling costs, and wasted material.
SFAS No. 151 will be effective for inventory costs incurred during fiscal years
beginning after June 15, 2005. We do not believe the adoption of SFAS No. 151
will have a material impact on our consolidated financial statements.
In December 2004, the FASB issued SFAS No. 123-R, Share Based Payments, which
requires that the compensation cost relating to share-based payment transactions
(including the cost of all employee stock options) be recognized in the
financial statements. The cost will be measured based on the estimate fair value
of the equity or liability instruments issued. SFAS 123-R covers a wide range of
share-based compensation arrangements including share options, restricted share
plans, performance-based awards, share appreciation rights, and employee share
purchase plans. Management believes the adoption of this pronouncement will not
have a material effect on our consolidated financial statements.
Also, in December 2004, the FASB issued SFAS 153, "Exchanges of Nonmonetary
Assets, an amendment of APB Opinion No. 29, Accounting for Nonmonetary
Transactions." The amendments made by SFAS No. 153 are based on the principle
that the exchange of nonmonetary assets should be measured using the estimated
F-31
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
fair market value of the assets exchanged. SFAS No. 153 eliminates the narrow
exception for nonmonetary exchanges of similar productive assets, and replaces
it with a broader exception for exchanges of nonmonetary assets do not have
commercial substance. A nonmonetary exchange has "commercial substance" if the
future cash flows of the entity are expected to change significantly as a result
of the transaction. This pronouncement is effective for monetary exchanges in
fiscal periods beginning after June 15, 2005. Management believes the adoption
of this pronouncement will not have a material effect on our consolidated
financial statements.
Other recent accounting pronouncements issued by the FASB (including its
Emerging Issues Task Force), the AICPA, and the SEC did not or are not believed
by management to have a material impact on the Company's present or future
consolidated financial statements.
NOTE 3 - Equity Transactions
On June 23, 2004, the Company issued 167,895 shares of its common stock to a
consultant for services relating to the reverse merger that was completed in
fiscal 2004. The trading price of the Company's common stock on June 23, 2004
was $3.60 per share, accordingly, the fair value of 167,895 shares was $604,422.
On June 23, 2004, the Company issued 166,667 shares of its common stock in
exchange for services performed by an existing major shareholder of Boulder
Acquisitions for his consulting services involved with the reverse merger . The
common stock was issued at a price of $1.14 per share in exchange for gross
proceeds of $190,000 based on a stock purchase agreement. The $1.14 per share
price was pre-negotiated between the Company and the shareholder before the
reverse merger had been completed. Pursuant to the stock purchase agreement, the
Company granted the existing shareholder an option which required the Company to
purchase up to the aforementioned 166,667 shares of common stock at a price of
$1.14 per share, such option being exercisable at any time after the date that
is six months after the Company files a registration statement on Form SB-2 with
the SEC, registering the shares purchased by the existing shareholder, up to and
including the earlier of the date that such registration statement is declared
effective by the SEC or the existing shareholder's shares are eligible for
resale under Rule 144 under the Securities Act of 1933. According to Topic D-98
from the SEC, "Classification and Measurement of Redeemable Securities," these
shares should be presented outside the permanent equity section. However, on
November 12, 2004, the Company filed a Registration Statement on Form SB-2 with
the SEC, for registration of these securities to be sold to the public by a
small business issuers. On February 8, 2005, the SEC approved the registration
filing and accordingly, the Company has recorded these shares in shareholders'
equity as the contingency surrounding these shares expired as of February 8,
2005. On June 23, 2004, the trading price of the Company's stock at the end of
the day was $3.60 per share. Due to the relationship between the parties, the
difference between the price of $1.14 per share and the price of $3.60 per share
was recorded as compensation by presenting $410,001 in additional paid-in
capital and in general and administrative expenses.
On June 28, 2004, the Company issued, in aggregate, 1,315,789 shares of its
common stock to three investors at a price of $1.14 per share in exchange for
gross proceeds of $1,500,000 based on a stock purchase agreement. The $1.14 per
share price was pre-negotiated between the Company and the investors before the
reverse merger had been completed. Pursuant to the signed stock purchase
agreement, the Company granted to each of the three investors an option which
requires the Company to purchase up to the aforementioned 1,315,789 shares, in
aggregate, of common stock at a price of $1.14 per share, such option being
exercisable at any time after the date that is six months after the Company
files a Registration Statement on Form SB-2 with the SEC, registering the shares
purchased by the existing stockholder, up to and including the earlier of the
date that such registration statement is declared effective by the SEC or the
existing shareholder's shares are eligible for resale under Rule 144 under the
Securities Act of 1933. As of December 31, 2004, the proceeds of $1.5 million
F-32
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
were held in an escrow account with an agent who is related to a shareholder. As
of December 31, 2004, the Company has treated the proceeds held in escrow as a
current asset as the entire amount was released from escrow in March 2005 and
paid to the Company. According to Topic D-98 from SEC, "Classification and
Measurement of Redeemable Securities," these shares should be presented outside
the permanent equity section. However, on November 12, 2004, the Company filed a
Registration Statement on Form SB-2 with the SEC, for registration of these
securities to be sold to the public by small business issuers. On February 8,
2005, the SEC declared the registration statement effective. Accordingly, the
Company has recorded these shares in shareholders' equity as the contingency
surrounding these shares expired as of February 8, 2005.
In connection with the June 28, 2004, issuance of common stock, the Company
incurred share issue costs of $217,481 and accounted for it as a reduction of
additional paid-in capital.
NOTE 4 - PROPERTY AND EQUIPMENT
A summary of property and equipment at cost is as follows:
December 31,
--------------------------
2003 2004
--------------------------
Buildings $ 943,368 $ 943,391
Software 391,660 489,103
Vehicles 65,484 65,485
Other equipment 424,891 455,453
----------- -----------
1,825,403 1,953,432
Accumulated depreciation (471,165) (754,923)
----------- -----------
$ 1,354,238 $ 1,198,509
=========== ===========
Depreciation expense for the years ended December 31, 2003 and 2004 was $234,055
and $287,232, respectively.
As of December 31, 2004, in accordance with the "Business and Related Assets
Transfer Agreement" signed by TCH and Sifang Information, the ownership of the
building suite and two motor vehicles, (collectively known as "Assets") are
recorded on TCH's books of record. The net book value of the pledged assets was
$853,743. The property is pledged as security for a $2.5 million line of credit
held under the credit facility agreement between Sifang Information and the
bank. The line of credit is recorded on Sifang Information's books and has a
balance of $2,416,334 as of December 31, 2004. However, the two parties have
declared that the ownership of the "Assets" should be TCH's as of the balance
sheet date and have signed a legal agreement, as noted above. Sifang Information
is expected to pay off the line of credit balance in May 2005 and at that point
they will transfer the legal title of the property and the motor vehicles within
one week after the pledge is to be released by the bank.
F-33
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
NOTE 5 - RELATED PARTY TRANSACTIONS
Related Party Relationships
The following related parties are related through common ownership with the
major shareholder of the Company:
================================================================================
Shanghai SFT Co., Ltd. ("Sifang Information")
Shanghai Tianci Industry Co. Ltd. ("Tianci Industry")
Shanghai Tianci Industry Group Co. Ltd. ("Tianci Group")
Shanghai Shantian Telecommunication Co. Ltd. ("Shantian")
Shanghai Sifang Telecommunication Co. Ltd. ("Sifang Telecom")
Shanghai Tianci Real Estate Co. Ltd. ("Tianci Real Estate")
Merchandise Sold to Related Parties
Years Ended December 31,
------------------------
2003 2004
------------------------
Shanghai Shantian Telecommunication Co. Ltd. $ -- $9,178,674
Shanghai Tianci Industry Group Co. Ltd. -- 136,310
Shanghai Tianci Industry Co. Ltd. -- 576,707
---------- ----------
$ -- $9,891,691
========== ==========
During the year ended December 31, 2004, TCH sold Samsung GSM mobile phones
valued at $ 9,178,674 at a 4% gross profit margin to Shantian. Accounts
receivable include $1,583,512 due from Shantian. During the year ended December
31, 2004 TCH also sold mobile phones to other related parties, which included
Tianci Industy and Tianci Group for $136,310 and $576,707 at gross profit
margins of 17% and 16% respectively.
Agency Income from a Related Party
The Tianci Group entered into an agency agreement with TCH to sell CDMA mobile
phones owned by China Unicom. TCH obtains the same commission structure that
Tianci Group earns from China Unicom. For each phone sold, TCH receives $15.70
per unit, sales commission of $3.62 per SIM card. TCH recognized commission
income of $204,214 in the year ended December 31, 2004 from the Tianci Group,
which is recorded in service revenues, net on the income statement.
Purchase from Related Party
Years Ended December 31,
------------------------
2003 2004
------------------------
Shanghai Sifang Telecommunication Co. Ltd. $ -- $ 390,340
========== ==========
During the year ended December 31, 2004, TCH purchased local brand mobile phones
from Sifang Telecom valued at $390,340, and all these mobile phones were sold to
retailers in 2004.
F-34
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Service Provided by Related Party
Years Ended December 31,
------------------------
2003 2004
------------------------
Shanghai SFT Co., Ltd. $ 567,840 $ 604,314
========== ==========
In accordance with terms contained in signed service agreements between TCH and
Sifang Information giving TCH the right to use Sifang Information's factility
(which may not be owned by foreign investors at the present time) to transmit
the reformatted information the Company paid service fees of approximately $
567,000 in each of the years ended December 31, 2003 and 2004. The service
agreements are in effect for ten years and became effective on June 1, 2004. The
annual payments for the services should continue to approximate $567,000 per
year.
During the year ended December 31, 2004, Sifang Information also provided other
management support and marketing services to TCH for $36,462 and none for the
year ended December 31, 2003.
TCH earned information service revenues net of costs from China Mobile / China
Unicom that were passed through from Sifang Information and are recorded in
Service revenue, net on the income statement. For the year ended December 31,
2004, the total revenues generated were $846,416 and total cost of services were
$421,476 and none for the year ended December 31, 2003.
TCH earned paging service revenues net of costs that were passed through from
Sifang Information and are recorded in Service revenue, net on the income
statement. For the year ended December 31, 2004, the total revenues generated
were $964,869 and total cost of services were $533,199 and none for the year
ended December 31, 2003.
Leasing from Related Parties
Sifang signed a leasing agreement with the Tianci Real Estate for leasing its
apartment for office use, which was assumed by TCH as a part of the carve out
transaction. The original leasing term was from May 1, 2003 to April 30, 2008.
The lease agreement was terminated on September 30, 2004. The related rental
expense for the years ended December 31, 2003 and 2004 was $20,540 and $30,810,
respectively.
Amounts Due from a Related Party
As a result of the spin-off transaction, cash collections received and payments
made Sifang Information on behalf of TCH, resulted in a net receivable of
$2,910,956 due from Sifang Information at December 31, 2004. The amount due from
related party also consists of $501,000 relating to the value added information
services provided to Sifang Information and sold to China Unicom and another
$371,000 relating to the paging revenues that are collected by Sifang
Information on behalf of TCH. In the first quarter of 2005, TCH has collected
$3.2 million from Sifang Information subsequent to March 31, 2005 The Company's
management believes that the collection of the remaining balance of $582,956
from Sifang Information is reasonably assured and accordingly, no allowance has
been recorded as of December 31, 2004.
The Company also advanced US$1,205,000 to provide Sifang Information's needs for
working capital in order to complete spin-off procedures in the PRC. The
outstanding balance was fully collected in March 2005.
F-35
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Due to Related Parties
Years Ended December 31,
-------------------------
2003 2004
----------- -----------
Shanghai Tianci Real Estate Co. Ltd $ 20,540 $ 51,350
Shanghai Tianci Industry Group Co. Ltd. -- 48,910
----------- -----------
$ 20,540 $ 100,260
=========== ===========
The balance owed to Tianci Real Estate represents rental payments for fiscal
2003 and 2004. The rental agreement was cancelled as of September 30, 2004. The
balance owed to Tianci Group represents cash paid in advance for mobile phone
purchases. All of the above amounts due to related parties are unsecured,
non-interest bearing and due on demand.
NOTE 6 - INCOME TAXES
The income (loss) generated in the Cayman Islands and China before income taxes
in 2003 and 2004, respectively, was as follows:
Years Ended December 31,
-------------------------
2003 2004
----------- -----------
Loss in Cayman Islands before income taxes $ -- $(1,199,738)
Income in China before income taxes 3,134,674 3,164,338
----------- -----------
$ 3,134,674 $ 1,964,600
=========== ===========
The income tax provision was as follows:
Years Ended December 31,
-------------------------
2003 2004
----------- -----------
Current:
Cayman Islands $ -- $ --
China 246,093 389,102
----------- -----------
Deferred:
Cayman Islands -- --
China 601 (19,131)
----------- -----------
$ 246,694 $ 369,971
=========== ===========
F-36
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
The difference between the effective income tax rate and the expected
federal statutory rate was as follows:
Year ended Year ended
December 31, December 31,
2003 2004
---------------------------------------------
Statutory rate 33.0% 33.0%
Income tax holiday (25.5) (21.9)
Permanent differences 0.4 7.7
Change in valuation allowance -- --
-------- --------
Effective income tax rate 7.9% 18.8%
--------------------------------------------------------------------------------
The primary components of temporary differences which give rise to the Company's
deferred tax assets are as follows:
Year Ended December 31,
-----------------------
2003 2004
---------- ----------
Allowance for receivables $ 1,973 $ 7,188
Accrued liabilities 2,982 21,584
---------- ----------
4,955 28,772
Valuation allowance -- --
---------- ----------
Net deferred tax assets $ 4,955 $ 28,772
========== ==========
NOTE 8 - SEGMENT REPORTING
The Company currently operates in three principal business segments. Management
believes that the following table presents the useful information to the chief
operation decision makers for measuring business performance and financing needs
and preparing the corporate budget, etc. As most of the Company's customers are
located in the Shanghai metropolitan area and the Company's revenues are
generated in Shanghai, no geographical segment information is presented.
Mobile Mobile
Agency Phone Phone Pagers
Income Distribution Service Service Corporate Total
------------ ------------ ------------ ------------ ------------ ------------
2003
Revenue -- $ 13,529,279 $ 1,297,323 $ 2,205,776 $ -- $ 17,032,378
Gross profit -- 1,104,825 1,009,859 1,476,922 -- 3,591,606
Depreciation -- -- 187,171 -- 46,884 234,055
Interest expense -- (12,082) -- -- -- 12,082
Net income -- 848,218 766,918 1,272,844 -- 2,887,980
Expenditures for long-lived -- -- 194,374 -- 65,484 259,858
assets
Total assets -- 2,039,505 2,196,789 286,376 2,925,939 7,448,609
F-37
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
2004
Revenue $ 204,214 20,949,089 2,388,178 979,469 -- 24,520,950
Gross profit 204,214 1,340,257 1,889,984 431,670 -- 3,866,125
Depreciation -- -- 229,979 -- 57,253 287,232
Interest income -- -- -- -- 1,955 1,955
Net income 165,757 802,854 1,271,078 176,742 821,801 1,594,629
Total assets -- 2,721,741 2,443,657 -- 7,497,267 12,662,665
Expenditures for long-lived -- -- 132,155 -- -- 132,155
assets
NOTE 9 - CONCENTRATION OF CUSTOMERS AND VENDORS
Customers and vendors who account for 10% or more of revenues, accounts
receivable, purchases and accounts payable are presented as follows:
Customer Revenues Accounts Receivable
2003 2004 2003 2004
A - 37% - 34%
B 12% 11% 1% 7%
C 16% 5% 2% 3%
D 14% 6% 2% 4%
E 7% 8% 76% 46%
--- --- --- ---
49% 67% 81% 94%
Vendor Purchases Accounts Payable
2003 2004 2003 2004
A (Shantian, a related party) 36% 33% 0 96%
B 31% 0 0 0
C 23% 32% 0 4%
D 0 17% 0 0
90% 82% 0 100%
On December 31, 2004, the agreement between the installation agent and the
Company was terminated and not renewed. For the year ended December 31, 2004,
the Company earned $2,058,681 (2003 - $1,271,113) of information service
revenues from the installation agent.
NOTE 10 -EMPLOYEE WELFARE AND RETIREMENT BENEFITS
The PRC has been undergoing significant reforms with regard to its employee
welfare and fringe benefits administration. Any enterprise operating in the PRC
is subject to government-mandated employee welfare and retirement benefit
contribution as a part of operating expense to the State Administration of Labor
Affairs. In accordance with PRC laws and regulations, TCH participates in a
F-38
CHINA DIGITAL WIRELESS, INC. AND SUBSIDIARY
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
multi-employer defined contribution plan pursuant to which TCH is required to
provide employees with certain retirement, medical and other fringe benefits.
PRC regulations require TCH to pay the local labor administration bureau a
monthly contribution at a stated contribution rate based on the monthly basic
compensation of qualified employees. The local labor administration bureau,
which manages various investment funds, will take care of employee retirement,
medical and other fringe benefits. TCH has no further commitments beyond its
monthly contribution. TCH contributed a total of $58,501 and $39,391 to these
funds as part of selling, general and administrative expenses for the years
ended December 31, 2003 and 2004, respectively.
F-39
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
INDEMNIFICATION OF DIRECTORS AND OFFICERS
The company's Articles of Incorporation, filed as Exhibit 3.1 hereto,
provide that we may indemnify our directors and officers to the fullest extent
permitted under Nevada law against any and all expenses, liabilities or other
matters pursuant to which the company may indemnify such person under Nevada
law. The company's Bylaws, filed as Exhibit 3.2 hereto, provide that we will
indemnify our directors to the fullest extent permitted under Nevada law and
may, if and to the extent authorized by the company's board of directors, so
indemnify our officers and any other person whom we have the power to indemnify
against any liability, reasonable expense or other matter whatsoever. The effect
of these provisions is potentially to indemnify the company's directors and
officers from all costs and expenses of liability incurred by them in connection
with any action, suit or proceeding in which they are involved by reason of
their affiliation with the company. Pursuant to Nevada law, a corporation may
indemnify a director, provided that such indemnity shall not apply on account
of:
(a) acts or omissions of the director finally adjudged to be
intentional misconduct or a knowing violation of the law;
(b) unlawful distributions; or
(c) any transaction with respect to which it was finally adjudged
that such director personally received a benefit in money,
property, or services to which the director was not legally
entitled.
The company's Bylaws also permit us to maintain insurance on behalf of any
person whom the company has the power to indemnify under Nevada law or the
company's Articles of Incorporation or Bylaws.
OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
Expenses incurred or (expected) relating to this Registration Statement and
distribution are as follows: The amounts set forth are estimates except for the
SEC registration fee:
Amount
SEC registration fee $ 1,529.50
Printing and engraving expenses* 5,000.00
Professional fees and expenses* 200,000.00
Transfer agent's and registrar's fees and expenses* 1,500.00
Miscellaneous* 2,500.00
------------
Total* $ 226,529.50
------------------------
*Estimates
The Registrant will bear all of the expenses shown above.
RECENT SALES OF UNREGISTERED SECURITIES
Set forth below is information regarding the issuance and sales of the
company's securities without registration for the past three (3) years from the
date of this Registration Statement. No such sales involved the use of an
underwriter, no advertising or public solicitation were involved, the securities
bear a restrictive legend and no commissions were paid in connection with the
sale of any securities.
On February 23, 2004, the company sold 987,915 shares of restricted common
stock for gross proceeds of $300,000, pursuant to a subscription agreement, to
Halter Financial Group, Inc., an entity owned by Timothy P. Halter, a former
member of the Board of Directors and the Company's former Chief Executive
Officer. Additionally, in consideration for agreeing to serve as an officer and
director of the Company, Timothy P. Halter was granted a warrant to purchase up
to 131,722 shares of common stock of the company (as adjusted for stock splits).
II-1
On February 23, 2004, the company agreed to pay Little and Company
Investment Securities, an entity owned by Glenn A. Little, its former
controlling stockholder, officer and director, $30,000 in consulting fees
related to the transaction discussed in the previous paragraph and in
consideration for maintaining the corporate entity. To formalize this
obligation, the company issued a $30,000 non-interest bearing promissory note
maturing on February 23, 2005. Concurrent with the transaction discussed in the
previous paragraph, the company and Little and Company Investment Securities
executed an Exchange Agreement whereby the company issued 98,792 shares of
common stock in satisfaction of the outstanding promissory note.
On June 23, 2004 the company issued 167,895 shares of its common stock to a
consultant in lieu of a cash payment for services relating to the reverse merger
that was completed in fiscal 2004. The trading price of the Company's common
stock on June 23, 2004 was $3.60 per share, accordingly, the fair value of
167,895 shares was $604,422.
On June 23, 2004, the company issued 166,667 shares of its common stock to
Halter Financial Group, Inc., an existing stockholder, at a price of $1.14 per
share in exchange for gross proceeds of $190,000 based on a stock purchase
agreement.
On June 23, 2004, the company completed a stock exchange transaction with
the stockholders of Sifang Holdings Co., Ltd. The exchange was consummated under
Nevada and Cayman Islands law pursuant to the terms of a Securities Exchange
Agreement dated effective as of June 23, 2004 by and among Boulder Acquisitions,
Sifang Holdings and the stockholders of Sifang Holdings. Pursuant to the
Securities Exchange Agreement, we issued 13,782,636 shares of our common stock
to the stockholders of Sifang Holdings, representing approximately 89.7% of our
post-exchange issued and outstanding common stock, in exchange for 100% of the
outstanding capital stock of Sifang Holdings.
The company issued the foregoing shares in private transactions or private
placements intending in reliance upon Regulation D and Section 4(2) of the
Securities Act of 1933, as amended (the "Act"). The investors were not solicited
through any form of general solicitation or advertising, the transactions being
non-public offerings, and the sales were conducted in private transactions where
the investor identified an investment intent as to the transaction without a
view to an immediate resale of the securities; the shares were "restricted
securities" in that they were both legended with reference to Rule 144 as such
and the investors identified they were sophisticated as to the investment
decision and in most cases we reasonably believed the investors were "accredited
investors" as such term is defined under Regulation D based upon statements and
information supplied to us in writing and verbally in connection with the
transactions. We never utilized an underwriter for an offering of our securities
and no sales commissions were paid to any third party in connection with the
above-referenced sales. Other than the securities mentioned above, we have not
issued or sold any securities.
EXHIBITS
Exhibit
Number Description
3.1* Articles of Incorporation of the Registrant.
3.2** Second Amended and Restated Bylaws of the Registrant.
4.1**** Common Stock Specimen.
5.1**** Legal Opinion of Kummer Kaempfer Bonner & Renshaw.
10.1** Securities Exchange Agreement by and among Boulder
Acquisitions, Inc., Sifang Holdings Co., Ltd. and the
stockholders of Sifang Holdings Co., Ltd. dated effective as
of June 23, 2004.
10.2*** Information Service and Cooperation Agreement by and among
Shanghai Sifang Information Technology Co. Ltd. and Shanghai
TCH Data Technology Co. Ltd. dated as of June 1, 2004.
10.3*** Information Service and Cooperation Agreement by and among
Shanghai Sifang Information Technology Co. Ltd. and Shanghai
TCH Data Technology Co. Ltd. dated as of June 1, 2004.
10.4*** Information Service and Cooperation Agreement by and among
Shanghai Sifang Information Technology Co. Ltd., Shanghai
Chengao Industrial Co. Ltd. and Shanghai TCH Data Technology
Co. Ltd. dated as of June 1, 2004.
II-2
10.5*** Information Service and Cooperation Agreement by and among
Shanghai Tianci Industrial (Group), Co. Ltd. and Shanghai TCH
Data Technology Co. Ltd. dated as of June 1, 2004.
10.6*** Business and Related Assets Transfer Agreement between
Shanghai Sifang Information Technology Co. Ltd. and Shanghai
TCH Data Technology Co. Ltd. dated as of May 26, 2004.
10.7** Stock Purchase Agreement by and between Halter Financial
Group, Inc. and Boulder Acquisitions, Inc. dated as of June
23, 2004.
10.8** Stock Purchase Agreement by and between Chinamerica Fund, LP
and Boulder Acquisitions, Inc. dated as of June 28, 2004.
10.9** Stock Purchase Agreement by and between Chinamerica
Acquisition, LLC and Boulder Acquisitions, Inc. dated as of
June 28, 2004.
10.10** Stock Purchase Agreement by and between Gary Evans and Boulder
Acquisitions, Inc. dated as of June 28, 2004.
10.11 Selling Stockholders Agreement by and among Boulder
Acquisitions, Inc. and the Selling Stockholders listed on
Schedule A thereto dated as of June 28, 2004.
21.1**** Subsidiaries of the Registrant.
23.1 Consent of BDO Shanghai Zhonghua, registered public accounting
firm.
23.2**** Consent of Kummer Kaempfer Bonner & Renshaw (filed as part of
Exhibit 5.1).
23.3 Consent of Grobstein, Horwath & Company, LLP, registered
public accounting firm.
24.1**** Power of Attorney for all directors other than Jiang Hong
Ming, Juchen Li and Yuan Feng.
24.2 Power of Attorney for Jiang Hong Ming, Juchen Li and Yuan
Feng. Reference is made to the signature pages of this
Registration Statement
----------------------
* Filed as an exhibit to the Registrant's Annual Report on Form 10-KSB for
the fiscal year ended December 31, 2001, which was filed with the
Commission on January 28, 2002, and which is incorporated herein by
reference.
** Filed as an exhibit to the Registrant's Current Report on Form 8-K dated
July 8, 2004, and which is incorporated herein by reference.
*** Filed as an exhibit to the Registrant's Quarterly Report on Form 10-QSB
for the period ended June 30, 2004 as filed with the Commission on August
23, 2004, and which is incorporated herein by reference.
**** Previously filed.
UNDERTAKINGS
The undersigned registrant hereby undertakes:
1) To file, during any period in which offers or sales are being made, a
post-effective amendment to this registration statement:
(a) To include any prospectus required by section 10(a)(3) of the
Securities Act of 1933;
(b) To reflect in the prospectus any facts or events which, individually
or in the aggregate, represent a fundamental change in the information
set forth in the registration statement. Notwithstanding the
foregoing, any increase or decrease in volume of securities offered
(if the total dollar value of securities offered would not exceed that
which is being registered) and any deviation from the high or low end
of the estimated maximum range, may be reflected in the form of
prospectus filed with the Commission pursuant to Rule 424(b) if, in
the aggregate, the changes in volume and price represent no more than
a 20% change in the maximum aggregate offering price set forth in the
"Calculation of Registration Fee" table in the effective registration
statement; and
(c) To include any additional or changed material information on the plan
of distribution.
II-3
2) For determining liability under the Securities Act of 1933, to treat each
post-effective amendment as a new registration statement of the securities
offered, and the offering of the securities at that time to be the initial bona
fide offering.
3) To file a post-effective amendment to remove from registration any of the
securities being registered, which remain unsold at the end of the offering.
4) Insofar as indemnification for liabilities arising under the Securities Act
may be permitted to directors, officers or controlling persons of the company
pursuant to the foregoing provisions or otherwise, the company has been advised
that, in the opinion of the Securities and Exchange Commission, such
indemnification is against public policy as expressed in that Act and is,
therefore, unenforceable.
In the event that a claim for indemnification against such liabilities
(other than the payment by us of expenses incurred or paid by a director,
officer or controlling person of us in the successful defense of any action,
suit or proceeding) is asserted by such director, officer or controlling person
in connection with the securities being registered, we will, unless in the
opinion of our counsel the matter has been settled by controlling precedent,
submit to a court of appropriate jurisdiction the question whether such
indemnification by us is against public policy as expressed in the Securities
Act and we will be governed by the final adjudication of such issue.
II-4
SIGNATURES
In accordance with the requirements of the Securities Act of 1933, the
Registrant certifies that it has reasonable grounds to believe that it meets all
of the requirements for filing on Form SB-2 and authorizes this registration
statement to be signed on its behalf by the undersigned, thereunto duly
authorized, in the City of Shanghai, People's Republic of China. China Digital
Wireless, Inc.
By: /s/ Tai Caihua Date: July 29, 2005
--------------------------------------------
Tai Caihua, President and Chairman of the Board
By: /s/ Qian Fang Date: July 29, 2005
--------------------------------------------
Qian Fang, Chief Financial Officer
In accordance with the requirements of the Securities Act of 1933, this
registration statement has been signed by the following persons in the
capacities and on the date stated.
By: /s/ Tai Caihua Date: July 29, 2005
-------------------------------
Tai Caihua, Director
By: * Date: July 29, 2005
--------------------------------
Shi Ying, Director
By: * Date: July 29, 2005
--------------------------------
Huang Tianqi, Director
By: * Date: July 29, 2005
--------------------------------
Jing Weiping, Director
By: * Date: July 29, 2005
--------------------------------
Mao Ming, Director
By: * Date: July 29, 2005
--------------------------------
Song Jing, Director
By: * Date: July 29, 2005
--------------------------------
Fu Sixing, Director
By: * Date: July 29, 2005
--------------------------------
Yu Ruijie, Director
By: * Date: July 29, 2005
--------------------------------
Zhang Xiaodong, Director
By: * Date: July 29, 2005
--------------------------------
Huang Wei, Director
* By: /s/ Tai Caihua Date: July 29, 2005
------------------------------
Tai Caihua, As Attorney-in-fact
II-5
We, the below signed directors and officers of China Digital Wireless,
Inc., do hereby constitute and appoint Tai Caihua our true and lawful attorney
in fact and agent to do any and all acts and things in our name in the
capacities indicated which he may deem necessary or advisable to enable the
company to comply with the Securities Act of 1933, as amended, and any rules,
regulations and requirements of the Securities and Exchange Commission in
connection with this Registration Statement, including specifically, but not
limited to, the power and authority to sign for us, or any of us in our names in
the capacities indicated and any and all amendments (including post-effective
amendments) to this Registration Statement; and we do hereby ratify and confirm
all that he shall do or cause to be done by virtue hereof.
In accordance with the requirements of the Securities Act of 1933, this
registration statement has been signed by the following persons in the
capacities and on the date stated.
By: /s/ Hiang Hong Ming Date: July 29, 2005
--------------------------------
Hiang Hong Ming, Director
By: /s/ Juchen Li Date: July 29, 2005
--------------------------------
Juchen Li, Director
By: /s/ Yuan Feng Date: July 29, 2005
--------------------------------
Yuan Feng, Director