Item 8. Financial Statements and Supplementary Data
The accompanying notes are an integral part
of these consolidated financial statements.
The accompanying notes are an integral part
of these consolidated financial statements.
The accompanying notes are an integral part of these consolidated
financial statements
The accompanying notes are an integral part
of these consolidated financial statements.
Note 1 – Organization
and Basis of Presentation
China Energy Recovery,
Inc. ("CER" or the "Company"), formerly known as MMA Media Inc. and Commerce Development Corporation Ltd.,
was incorporated under the laws of the State of Maryland in May, 1998. On February 5, 2008, the Company changed its name to China
Energy Recovery, Inc after a change in the domicile of incorporation to the State of Delaware. On January 24, 2008, the Company
entered into a Share Exchange Agreement with Poise Profit International, Ltd. ("Poise Profit"), a company incorporated
on November 23, 2007, under the laws of the British Virgin Islands, and the shareholders of Poise Profit. Pursuant to the Share
Exchange Agreement, the Company agreed to acquire all of the issued and outstanding shares of Poise Profit\'s common stock in exchange
for the issuance of 20,757,090 shares, or 81.5% of the Company's common stock on a post 1-for-2 reverse stock split basis, to the
shareholders of Poise Profit. The share exchange transaction (the "Share Exchange") was consummated on April 15, 2008
and Poise Profit became a wholly-owned subsidiary of the Company. On April 16, 2008, the Company conducted a 1-for-2 reverse stock
split pursuant to which two shares of CER's common stock, issued and outstanding on the record date of April 15, 2008, were converted
into one share of CER's common stock.
Poise Profit is an
off-shore holding company and has no operating business activities. Poise Profit owns 100% of HAIE Hi-tech Engineering (Hong Kong)
Company, Limited ("Hi-tech") and CER (Hong Kong) Holdings Limited (“CER Hong Kong”), which were incorporated
in Hong Kong on January 4, 2002 and August 13, 2008, respectively.
In order to restructure
the holding structure of the Company (the “Restructuring”), on December 2, 2008, 100% of the shares of CER Hong Kong
were transferred to Poise Profit from Mr. Qinghuan Wu and his wife, Mrs. Jialing Zhou, and all the contracts between Hi-tech and
Shanghai Hai Lu Kun Lun Hi-tech Engineering Co., Ltd. (“ Shanghai Engineering”), and between Hi-tech and Shanghai Xin
Ye Environmental Protection Engineering Technology Co., Ltd. (“Shanghai Environmental”, which was dissolved in June
2010), were transferred to CER Hong Kong. Thereafter, CER Hong Kong, through its variable interest entities and wholly owned subsidiaries
located in the People's Republic of China ("PRC"), designs, develops, manufactures and markets waste heat boilers and
pressure vessels for the chemical industry, petrochemical industry, oil refining industry, fine chemicals industry, water and power
conservancy purposes, metallurgical industry, environmental protection purposes, waste heat utilization, and power generation from
waste heat recovery.
On November 11, 2008,
CER Energy Recovery (Shanghai) Co., Ltd. (“CER Shanghai”) was incorporated in Shanghai by CER Hong Kong. CER Shanghai’s
registered capital is $5,000,000. As of December 31, 2010, CER Hong Kong had contributed all the registered capital. CER Shanghai
is mainly engaged in the development of energy recovery and environmental protection technologies, and design, installation and
servicing of waste heat recovery systems.
CER Energy Recovery
(Yangzhou) Co., Ltd. (“CER Yangzhou”) was incorporated on August 28, 2009 in Yangzhou by CER Hong Kong. CER Yangzhou’s
registered capital is $20,000,000. As of December 31, 2011, CER Hong Kong had contributed all the registered capital. CER Yangzhou
is mainly engaged in the development and manufacturing of waste heat recovery systems and other related energy efficiency equipment.
On July 2, 2012, CER
Hong Kong and CER Shanghai entered into a share transfer agreement, whereby all of CER Hong Kong’s equity interests in CER
Yangzhou were transferred to CER Shanghai. This share transfer was intended to change CER Yangzhou’s entity from foreign
capital to domestic capital, so as to make it more competitive in the domestic Chinese economy. As a result of the reorganization,
all of CER Hong Kong’s equity interests in CER Yangzhou were transferred to CER Shanghai. As the reorganization was under
common control of the Company, except for income tax for the intra-entity sales of the subsidiary’s shares, it will not have
a material impact on the Company’s consolidated financial position or results of operations of the Company or its subsidiaries
in any material respect. The reorganization was completed on August 21, 2012 and income taxes of $205,179 for the intra-entity
sales of the subsidiary’s shares were recorded in the consolidated statement of income and comprehensive income as of December
31, 2012.
CER, Poise Profit,
CER Hong Kong, Hi-tech, Shanghai Engineering, CER Shanghai, CER Yangzhou are collectively hereinafter referred to as the “Group”.
The basis of presentation
for the Group’s financial statements is accounting principles generally accepted in the United States of America (U.S. GAAP)
and the reporting currency is the U.S. dollar.
The accompanying financial
statements have been prepared assuming the Group will continue as a going concern. However, as of December 31, 2012, the Group
had accumulated deficits of $3 million and reported a negative working capital balance of $36.4 million and had negative cash flows
of $2.5 million for the year ended December 31, 2012. The Group expects such negative working capital to continue into the foreseeable
future and will need to obtain new sales orders and additional financing to fund its daily operations. These factors raise substantial
doubt about the Group’s ability to continue as a going concern. In order to continue its operations, the Group must obtain
additional sales orders to achieve profitable operations, raise more funds, and/or curtail its capital expenditures. The Group
implemented plans to postpone spending for capital expenditures and has been and continues to be in negotiations with several domestic
banks in China and state-owned companies for additional financing. There can be no assurance, however, that such financing will
be successfully completed or completed on terms acceptable to the Group. The Group’s plans of operations, even if successful,
may not result in cash flow sufficient to finance and maintain its business. The financial statements do not include any adjustments
that might result from the outcome of this uncertainty. Please refer to Note 7 – Short Term Loans for additional information.
Note 2 – Summary of Significant Accounting Policies
The principal accounting
policies adopted in the preparation of these consolidated financial statements are set out below:
|
|
(a)
|
Principles of consolidation
|
The accompanying consolidated
financial statements have been prepared in accordance with generally accepted accounting principles in the United States of America
(“US GAAP”). The consolidated financial statements include the financial statements of the Company, its wholly-owned
subsidiaries Poise Profit, CER Hong Kong, Hi-tech, CER Shanghai, and CER Yangzhou; and its variable interest entity (“VIE”) Shanghai
Engineering. All significant inter-company transactions and balances among the Company, its subsidiaries and VIE are eliminated
upon consolidation.
In accordance with
U.S. GAAP, variable interest entities are generally entities that lack sufficient equity to finance their activities without additional
financial support from other parties or whose equity holders lack adequate decision making ability. Each variable interest entity
with which the Company is affiliated must be evaluated to determine who the primary beneficiary of the risks and rewards of ownership
of the variable interest entity. The primary beneficiary is required to consolidate the variable interest entity's financial information
for financial reporting purposes.
Management has concluded
that Shanghai Engineering is a variable interest entity and that CER Hong Kong is the primary beneficiary thereof. Pursuant to
the contractual arrangements described elsewhere in this filing on Form 10-K, the Company recovers substantially all of the profits
of its VIE through service fees charged (particularly under a consulting and service agreement) and has the unilateral ability
to do so through its wholly owned subsidiaries. Through such contractual arrangements, the Company (as applicable, through wholly-owned
subsidiaries) has the power to direct the activities most significant to the economic performance of the VIE and absorbs all, or
substantially all, of the profits or losses. Accordingly, the Company is the primary beneficiary of such arrangements. Under the
requirements of the FASB’s accounting standard regarding VIE, the Company consolidates the financial statements of Shanghai
Engineering.
Under the contractual
arrangements with the VIE, the Company has the power to direct activities of the VIE, and can have assets transferred freely out
of the VIE without any restrictions based on the unilateral decisions of the Company. Therefore, the Company considers that there
is no asset of a consolidated VIE that can be used only to settle obligations of the VIE, except for registered capital and PRC
statutory reserves amounting to $1.38 million as of December 31, 2012. As of December 31, 2012, Shanghai Engineering as the only
VIE of the company, is incorporated as a limited liability company under the PRC Company Law, creditors of the VIE do not have
recourse to the general credit of the Company for any of the liabilities of the consolidated VIE. Currently there is no contractual
arrangement that could require the Company to provide additional financial support to the consolidated VIE. As the Company is conducting
certain business in the PRC through the VIE, the Company may provide such support on a discretionary basis in the future, which
could expose the Company to a loss.
In December 2008,
CER Hong Kong and Shanghai Engineering (the VIE) and its shareholders entered into the following contractual agreements:
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|
·
|
Consulting Services Agreements - These agreements allow CER Hong Kong to manage and operate Shanghai
Engineering, and collect the respective net profits of the VIE. Under the terms of the agreements, CER Hong Kong is the exclusive
provider of advice and consultancy services to Shanghai Engineering, respectively, related to the companies' general business operations,
human resources needs and research and development, among other things. In exchange for such services, each of Shanghai Engineering
must pay to CER Hong Kong the VIE’s net profits. CER Hong Kong will own all intellectual property rights developed or discovered
through research and development in the course of providing services under the agreements but will grant a license to use such
intellectual property back to the respective company if necessary to conduct the business. Shanghai Engineering is required to
cause its respective shareholders to pledge such shareholders' equity interests in the VIE to secure the fee payable by Shanghai
Engineering, under the agreements. The agreements contain affirmative covenants requiring Shanghai Engineering to take certain
actions, such as (but not limited to) delivering periodic financial reports to CER Hong Kong. The agreements also contain negative
covenants preventing Shanghai Engineering from taking certain actions such as (but not limited to) issuing equity, incurring indebtedness
and changing its business. The agreements are effective until terminated and they may be terminated by CER Hong Kong for any or
no reason and by either party for reasons explicitly set forth in the agreements, including (but not limited to) a breach by the
other party or the other party's becoming bankrupt or insolvent. The parties may not assign or transfer their rights or obligations
under the respective agreements without the prior written consent of the other party, except that CER Hong Kong may assign its
rights or obligations under the agreements to an affiliate.
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|
|
·
|
Operating Agreements - Under the agreements, CER Hong Kong guarantees the contractual performance
by the VIE under any agreements with third parties, in exchange for a pledge by Shanghai Engineering of all of its respective assets,
including accounts receivable. CER Hong Kong has the right to approve any transactions that may materially affect the assets, liabilities,
rights or operations of each company and provide, binding advice regarding the VIE’s daily operations, financial management
and employment matters, including the dismissal of employees. In addition, CER Hong Kong has the right to recommend director candidates
and appoint the senior executives the VIE. The agreements expire 10 years from execution unless renewed. CER Hong Kong has the
right to terminate the agreements upon 30 days' written notice but Shanghai Engineering do not have the right to terminate its
agreements during the contract term. CER Hong Kong may freely assign its rights and obligations under the agreements upon written
notice to Shanghai Engineering. Shanghai Engineering may not assign its rights or obligations under the agreements without the
prior written consent of CER Hong Kong.
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|
|
·
|
Proxy Agreements - CER Hong Kong has entered into proxy agreements with all of the shareholders
of Shanghai Engineering under which the shareholders have vested their voting power of the Shanghai Engineering in CER Hong Kong
and agreed to not transfer the shareholders' respective equity interests in the Shanghai Engineering to anyone but CER Hong Kong
or its designee(s). The agreements do not have an expiration date. CER Hong Kong has the right to terminate each of the agreements
upon 30 days' written notice but the shareholders may not terminate the agreements without CER Hong Kong's consent.
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|
|
·
|
Option Agreements - The parties to these agreements are CER Hong Kong, Shanghai Engineering, and
all of the shareholders of Shanghai Engineering. The shareholders of Shanghai Engineering have granted CER Hong Kong or its designee(s)
the irrevocable right and option to acquire all or a portion of such shareholders' equity interests in Shanghai Engineering. The
shareholders have also agreed not to grant such an option to anyone else. The purchase price for a shareholder's equity interest
will be equal to such shareholder's original paid-in price for such equity interest. Pursuant to the terms of the agreements, the
shareholders and Shanghai Engineering have agreed to certain restrictive covenants to safeguard CER Hong Kong's rights under the
respective agreement. The agreements expire 10 years from execution unless renewed. CER Hong Kong may freely assign its rights
and obligations under the agreements upon written notice to Shanghai Engineering. Shanghai Engineering and the shareholders may
not assign their rights or obligations under the agreements without the prior written consent of CER Hong Kong.
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|
|
·
|
Equity Pledge Agreement - The parties to these agreements are CER Hong Kong, Shanghai Engineering,
and all of the shareholders of Shanghai Engineering. The shareholders of Shanghai Engineering have pledged all of their respective
equity interests in the Shanghai Engineering to CER Hong Kong to guarantee Shanghai Engineering’s performances of its respective
obligations under the Consulting Services Agreements. The pledges expire two years after the obligations under the Consulting Services
Agreements described above are fulfilled. CER Hong Kong has the right to collect any and all dividends paid on the pledged equity
interests. Pursuant to the terms of the agreements, the shareholders and Shanghai Engineering have agreed to certain restrictive
covenants to safeguard CER Hong Kong's rights under the agreements. Upon an event of default under the agreements, CER Hong Kong
may vote, control, sell or dispose of the pledged equity interests and may require the shareholders to pay all outstanding and
unpaid amounts due under the Consulting Services Agreements. Pursuant to the terms of the agreements, the shareholders have agreed
to certain restrictive covenants to safeguard CER Hong Kong's rights under the respective agreements. CER Hong Kong may freely
assign its rights and obligations under the agreements upon written notice to the shareholders. The shareholders may not assign
their rights or obligations under the agreements without the prior written consent of CER Hong Kong.
|
The following is a
summary of the consolidated VIE within the Group:
Basic Information
for the consolidated VIE
Shanghai Engineering
Shanghai
Engineering is a company which was
engaged in the business of designing, and installing energy
recovery systems. As of December 31, 2012, the registered capital of Shanghai Engineering was RMB 6,500,000 ($786,500) and
Mr. Wu and his wife held 60% and 40% interests, respectively, in this entity.
Financial Information
The following
condensed financial information of the Group’s consolidated VIE is included as below:
|
|
|
2011
|
|
|
2012
|
|
|
Total assets
|
|
$
|
11,620,801
|
|
|
$
|
24,528,196
|
|
|
Total liabilities
|
|
$
|
16,413,393
|
|
|
$
|
26,088,813
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2011
|
|
|
|
2012
|
|
|
Net revenue
|
|
$
|
44,983,855
|
|
|
$
|
33,504,448
|
|
|
Net income
|
|
$
|
1,699,053
|
|
|
$
|
3,233,402
|
|
VIE Related Risks
It is possible that the contractual arrangements
with the Company, the Company’s VIE and shareholders of its VIEs would not be enforceable in China if PRC government authorities
or courts were to find that such contracts contravene PRC laws and regulations or are otherwise not enforceable for public policy
reasons. In the event that the Company was unable to enforce these contractual arrangements, the Company would not be able to exert
effective control over the affected VIE. Consequently, the VIE’s results of operations, assets and liabilities would not
be included in the Company’s consolidated financial statements. If such were the case, the Company’s cash flows, financial
position and operating performance would be materially adversely affected. The Company’s contractual arrangements with respect
to its consolidated VIE are approved and in place. The Company’s management believes that such contracts are enforceable,
and considers the possibility remote that PRC regulatory authorities with jurisdiction over the Company’s operations and
contractual relationships would find the contracts to be unenforceable.
(b) Use of estimates
In preparing financial
statements in conformity with US GAAP, management is required to make 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 revenues
and expenses during the reported periods. Significant estimates include useful lives of equipment, the provision for impairment
loss of receivables, deferred tax assets and related valuation allowances, and the completion percentages of construction contracts. Actual
results could differ from these estimates.
(c) Concentrations of risk
The Company maintains
cash balances at financial institutions within the U.S., Hong Kong and PRC. Balances at financial institutions or state owned banks
within the PRC are not covered by insurance. Balances at financial institutions within the United States are insignificant and
covered by the Federal Deposit Insurance Corporation for $250,000 per depositor per institution. Balances at financial institutions
within Hong Kong are insignificant. The Company has not experienced any losses in such accounts and believes it is not exposed
to any significant credit risks on its cash in bank accounts.
For the years ended
December 31, 2011 and 2012, the Company’s five top customers accounted for 75% and 59% of the Company's sales, respectively.
Receivables from the five top customers were 80% and 57% of total accounts receivable at December 31, 2011 and 2012 respectively.
Among those customers, the two largest customers were Ningbo Xinfu and Wuxi Green. Ningbo Xinfu accounted for 20% of revenue for
the year ended December 31, 2012 and 0% of receivables as of December 31, 2012. Wuxi Green accounted for 13% of revenue for the
year ended December 31, 2012 and 3% of receivables as of December 31, 2012.
For the years
ended December 31, 2011 and 2012, the five top suppliers provided approximately 27% and 33% of the Company's purchases of raw materials,
respectively. Payables to these five suppliers were 22% and 17% of accounts payable at December 31, 2011 and 2012 respectively.
The Company's operations
are carried out in the PRC. Accordingly, the Company's business, financial condition and results of operations may be influenced
by the political, economic and legal environments in the country, and by the general state of the country's economy. The Company's
operations in the PRC are subject to specific considerations and significant risks not typically associated with companies carrying
out operations in the United States. These include risks associated with, among others, the political, economic and legal environments
and foreign currency exchange. The Company's results may be adversely affected by changes in governmental policies with respect
to laws and regulations, anti-inflationary measures, currency conversion and remittance abroad, and rates and methods of taxation,
among other things.
(d) Foreign currency translations
The reporting and
functional currency of the parent company and of CER Hong Kong is the U.S. dollar. Our subsidiaries, Shanghai Engineering, CER
Shanghai, CER Yangzhou, and Hi-tech use the Chinese Yuan Renminbi ("RMB") as their functional currency. Results of operations
and cash flows are translated at average exchange rates during the period, assets and liabilities are translated at the end of
period exchange rates and equity items are translated at historical exchange rate when the transaction occurred. Translation adjustments
resulting from this process are included in accumulated other comprehensive income (loss) in stockholders' equity. For the years
ended December 31, 2011 and 2012, foreign currency translation from functional to reporting currencies gains amounted to $875,480
and $316,655, respectively.
Transaction gains
and losses that arise from exchange rate fluctuations from transactions denominated in a currency other than the functional currency
are included in the consolidated statements of income and comprehensive income as incurred.
The PRC government
imposes significant exchange restrictions on fund transfers out of the PRC that are not related to business operations. These restrictions
have not had a material impact on the Company because it has not engaged in any significant transactions that are subject to the
restrictions and does not have any significant business activity outside of the PRC.
Accumulated other
comprehensive income amounted to $1,286,126 and $1,602,781 as of December 31, 2011 and December 31, 2012, respectively. The balance
sheet accounts with the exception of equity at December 31, 2011 and December 31, 2012 were translated at RMB6.30 to $1.00 and
RMB 6.23 to $1.00, respectively.
The average translation
rates applied to income and cash flow statement amounts for the years ended December 31, 2011 and 2012 were RMB6.45 to $1.00 and
RMB6.31 to $1.00, respectively.
(e) Cash and restricted cash
Cash includes cash on hand and demand deposits
with banks, which are unrestricted as to withdrawal and use, and which have original maturities less than three months.
Restricted cash represents
a cash portion of the guaranty for the bids on contracts and is deposited in a separate bank account subject to withdrawal restrictions
controlled by the customer to secure the Company’s performance of the project in process. The deposit cannot be drawn or
transferred by the Company until the restriction period has expired. The Company also classified certain cash as restricted that
is not available for immediate use due to its collateralization on certain short term borrowings. As of December 31, 2012, restricted
cash increased by $2,552,396 mainly due to the increase in bank deposits pledged for bank acceptance facilities.
(f) Notes receivable
Notes receivable represent
trade accounts receivable due from various customers where the customers’ banks have guaranteed the payment of the receivables.
The notes are non-interest bearing and normally paid within three to six months. The Company has the ability to submit request
for payment to the customer’s bank earlier than the scheduled payment date, but will incur an interest charge and a processing
fee.
(g) Receivables and provision for impairment
loss of receivables
Receivables include
trade accounts due from customers and revenues earned in excess of amounts billed on EPC contracts (unbilled receivables). Pursuant
to ASC Topic 850, such amounts attributable to related parties are separately presented in the balance sheet. Management regularly
reviews the aging of receivables and changes in payment trends, and records a reserve when collection of amounts due is at risk.
|
Provision for impairment loss of receivables, January 1, 2011
|
|
$
|
625,014
|
|
|
Additions charged to income
|
|
|
1,047,926
|
|
|
Reversals credited to income
|
|
|
(37,824
|
)
|
|
Translation adjustment
|
|
|
56,358
|
|
|
Provision for impairment loss of receivables, December 31, 2011
|
|
$
|
1,691,474
|
|
|
Additions charged to income
|
|
|
3,462,485
|
|
|
Reversals credited to income
|
|
|
(34,038
|
)
|
|
Translation adjustment
|
|
|
62,443
|
|
|
Provision for impairment loss of receivables, December 31, 2012
|
|
$
|
5,182,364
|
|
Accounts receivable
which are expected to be collected after one year are reclassified as long-term accounts receivable. The Company reserved
a provision for long term accounts receivable balances based on the nature of the business and collection history. Total provision
for impairment loss of receivables of $5,182,364 included provision of $1,784,823 and $3,397,541 for long term accounting receivables
for third party and related party, respectively, as of December 31, 2012 (further discussed in Note 3).
(h) Inventories
Inventories are comprised
of raw materials, work in progress and finished goods and are stated at the lower of cost or market value. Costs of work in progress
include direct labor, direct materials, and production overhead before the goods are ready for sale. Management reviews inventories
for obsolescence or cost in excess of market value periodically. The obsolescence, if any, is recorded as a reserve against the
inventory. The cost in excess of market value is written off and recorded as additional cost of revenues.
|
Provision for inventory, January 1, 2011
|
|
$
|
93,195
|
|
|
Additions charged to income
|
|
|
26,763
|
|
|
Realized
|
|
|
(5,471
|
)
|
|
Translation adjustment
|
|
|
5,276
|
|
|
Provision for inventory, December 31, 2011
|
|
$
|
119,763
|
|
|
Additions charged to income
|
|
|
16,186
|
|
|
Realized
|
|
|
(85,100
|
)
|
|
Translation adjustment
|
|
|
491
|
|
|
Provision for inventory, December 31, 2012
|
|
$
|
51,340
|
|
(i) Advances on purchases
Advances on purchases
are money advanced to outside vendors for inventory purchases and property, plant and equipment purchases. This amount is refundable
and bears no interest.
(j) Property, plant
and equipment, net
Property, plant and
equipment are stated at cost. Depreciation is calculated principally by use of the straight-line method over the estimated useful
lives of the related assets. Expenditures for maintenance and repairs, which do not improve or extend the expected useful lives
of the assets, are charged to operations as incurred, while renewals and betterments are capitalized.
Management established
a 5% residual value for property, plant and equipment. The estimated useful lives of the property, plant and equipment are as follows:
|
Plants and Buildings
|
20-38 years
|
|
Transportation equipment
|
3-10 years
|
|
Machinery equipment
|
5-10 years
|
|
Office equipment
|
3-5 years
|
The gain or loss on
disposal of property, plant and equipment is the difference between the net sales proceeds and the carrying amount of the relevant
assets; gains or losses, if any, are recognized in the consolidated statements of income and comprehensive income. The Company
disposed of machinery with a carrying value of $37,370 and two cars with carrying value of $39,041 during the year ended December
31, 2011, and recognized a combined disposal loss of $51,548 from the transactions. There were no disposals of assets during the
year ended December 31, 2012.
(k) Impairment of assets
The Company assesses
the carrying value of long-lived assets at each reporting period, more often when factors indicating impairment are present, and
reduces the carrying value of such assets by the amount of the impairment. The Company determines the existence of such impairment
by measuring the expected future cash flows (undiscounted and without interest charges) and comparing such amount to the net asset
carrying value. An impairment loss, if it exists, is measured as the amount by which the carrying amount of the asset exceeds
the fair value of the asset. There were no impairments of long lived assets recognized for the years ended December 31, 2011 and
2012.
During the fourth
quarter of 2012, as a result of the effects of weakening market conditions on our forecasts and a sustained, significant decline
in the Company’s market capitalization to a level lower than its net book value, we believed that impairment triggering events
existed and performed an impairment analysis for long-lived assets. As of December 31, 2012, the carrying value of net assets was
significantly above the market capitalization of the Company’s ordinary shares.
Considering qualitative
factors including the continuing reduction in our market capitalization for the quarters ended December 31, 2012, we concluded
that a two-step impairment test was required for our reporting unit.
In estimating the
fair value of the reporting unit in the first step of the impairment test, significant management judgment was required. In using
the free cash flow forecasting methodology of valuation, estimates to determine the future income of the reporting unit included
management judgment related to forecasts of future operating results, and expected future growth rates that are used in the cash
flow method of valuation. The sum of the fair value of the reporting unit is also compared to the Company’s external market
capitalization in order for management to assess the appropriateness of such estimates. The underlying assumptions used in the
first step of the impairment test considered the market capitalization as of December 31, 2012 and the current industry environment
and its expected impact on the cash flow of the reporting unit.
Based on the analysis, the Company determined
that impairment was not required as the carrying value of the assets was lower than the future undiscounted net cash flows expected
to result from the use of the assets and their eventual disposition.
(l) Advances from customers
Advances from customers
represent amounts advanced by customers on product or service orders. The product (service) normally is shipped (rendered) within
one year after receipt of the advance payment, and the related sales are recognized in accordance with the Company’s
revenue recognition policy.
(m) Income taxes
Income taxes are accounted
for under the asset and liability method. Deferred income taxes are recognized for temporary differences between the tax bases
of assets and liabilities and their reported amounts in the financial statements, net operating loss carry forwards and credits,
by applying the enacted statutory tax rate in the year in which those temporary differences are expected to be recovered or settled.
Deferred tax assets are reduced by a valuation allowance when it is more likely than not that some portion or all of the deferred
tax assets will not be realized. Current income taxes are provided for in accordance with the laws of the relevant taxing authorities.
In assessing uncertain tax positions, the
Company applies a more likely than not threshold and a two-step approach for the tax position measurement and financial statement
recognition. For the two-step approach, the first step is to evaluate the tax position for recognition by determining if the weight
of available evidence indicates that it is more likely than not that the position will be sustained, including resolution of related
appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount that is greater than
50% likely to be realized upon settlement. As of December 31, 2012, the Company does not have any uncertain tax positions required
to be recognized and measured under the accounting standard for income taxes.
(n) Value added tax
Sales revenue represents
the invoiced value of goods, net of a value-added tax ("VAT"). From January 1, 2012, all of the Company's products and
design service that are sold in the PRC are subject to a Chinese value-added tax at a rate of 17% and 6% respectively of the gross
sales price. This VAT may be offset by VAT paid by the Company on raw materials and other materials. The Company recorded VAT payable
and VAT receivable net of payments in the financial statements. The VAT tax return is filed offsetting the payables against the
receivables.
(o) Operating leases
Leases where substantially
all the rewards and risks of ownership of assets remain with the leasing company are accounted for as operating leases. Payments
made under operating leases are charged to the consolidated statement of income and comprehensive income on a straight line basis
over the lease periods.
(p) Stock based compensation
In accordance with
ASC 718,
Compensation-Stock Compensation
, the Company measures the cost of employee services received in exchange for stock
based compensation at the grant date fair value of the award.
The Company recognizes
the stock based compensation costs, net of a forfeiture rate, on a straight-line basis over the requisite service period for each
award. ASC 718 requires forfeitures to be estimated at the time of grant and revised in subsequent periods if actual forfeitures
differ from those estimates. Stock options to purchase 120,000 shares of common stock were granted to new directors in June 2011.
There were no stock options granted in the year ended December 31, 2012.
Cost of goods acquired
or services received from non-employees is measured based on the fair value of the awards issued on the measurement date as defined
in ASC 505
Equity
. Awards granted to non-employees are remeasured at each reporting date using the fair value as at each
period end. Changes in fair values between the interim reporting dates are attributed consistent with the method used in recognizing
the original stock based compensation costs.
(q) Shipping and handling cost
Shipping and handling
costs are included in selling, general and administrative expenses and totaled $417,282 and $367,450 for the years ended December
31, 2011 and 2012, respectively.
(r) Revenue recognition
The Company derives revenues principally from
|
|
(a)
|
Provision of Engineering, Procurement and Construction ("EPC")
services, which are essentially turnkey contracts where the Company provides all services in the whole construction process from
design, development, engineering, manufacturing, and procurement to installation;
|
|
|
(b)
|
Sales of energy recovery systems; and
|
|
|
(c)
|
Provision of design services.
|
In accordance with the
accounting standard regarding performance of construction-type and certain production-type contracts, and long-term construction-type
contracts, the Company adopted the percentage of completion method to recognize revenues and cost of sales for EPC contracts. EPC
contracts are long-term, complex contracts involving multiple elements, such as design, manufacturing and installation, which all
form one integral EPC project. The energy recovery system involved in an EPC project is highly customized to the specific customer's
facilities and essentially not transferable to any other facilities without significant modification and cost. It would be difficult,
if not impossible, to beneficially use a single element of a specific EPC project on a standalone basis other than in connection
with the facilities for which it was intended. EPC contracts are by nature long-term construction-type contracts, usually
lasting more than one accounting period, and the Company is able to reasonably estimate the progress toward completion, including
contract revenues and contract costs. EPC contacts specify the customers' rights to the goods, the consideration to be paid and
received, and the terms of payment. Specifically, the Company has the right to require a customer to make progress payments upon
completion of determined stages of the project which serve as evidence of the customer's approval and acceptance of the work completed
to date as complying with the terms of the particular EPC contract.
Sales of the Company's
energy recovery systems and related products are essentially product sales. The products consist mainly of waste heat boilers and
other related equipment manufactured according to specific customers' specifications. Once manufactured, the Company ships the
products to its customers in their entirety in one batch. The Company’s service arrangement also includes a limited warranty
to its customers pursuant to which the customers retain between 5% and 10% of the particular contract price as retainage during
the limited warranty period (usually 12-24 months). The Company generally recognizes revenues including retainage from product
sales when (i) persuasive evidence of an arrangement exists, which is generally represented by a contract between the Company and
the customer; (ii) products are shipped; (iii) title and risks of ownership have passed to the customer, which generally occurs
at the time of delivery; (iv) the customer accepts the products upon a quality inspection performed by them; (v) the purchase price
is agreed to between the Company and the customer; and (vi) collectability is reasonably assured. Net revenues represent the invoiced
value of products, less returns and discounts, and are net of value-added tax.
In providing design
services, the Company designs energy recovery systems and other related systems based on a customer's requirements and the deliverable
consists of engineering drawings. The customer may elect to engage the Company to manufacture the designed system or choose to
present the Company's drawings to other manufacturers for manufacturing and installation. The Company recognizes revenues from
design services when the services are provided, the design drawings are delivered, invoices are issued and collectability is reasonably
assured. The Company generally delivers the drawings in one batch.
(s) Fair value of financial instruments
The accounting standard
regarding fair value measurements defines financial instruments and requires fair value disclosures for those financial instruments.
The fair value standard also establishes a three-level valuation hierarchy for disclosures of fair value measurement and enhances
disclosure requirements for fair value measurements. The carrying amounts reported in the accompanying consolidated
balance sheets for current assets and current liabilities such as cash, restricted cash, accounts and notes receivable, short term
loans, accounts payable, and other payables qualify as financial instruments. Management concluded the carrying values of these
financial instruments are reasonable approximations of their respective fair values because of the short period of time between
the origination of such instruments and their expected realization and the current market rates of interest. The three
levels of the valuation hierarchy are defined as follows:
|
¨
|
Level 1
|
Inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active markets. At December 31, 2011 and December 31, 2012, the Company did not have any assets or liabilities classified as Level 1.
|
|
|
|
|
|
¨
|
Level 2
|
Inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the assets or liabilities, either directly or indirectly, for substantially the full term of the financial instruments.
|
|
|
|
|
|
¨
|
Level 3
|
Inputs to the valuation methodology are unobservable and significant to the fair value. Inputs reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date. Consideration is given to the risk inherent in the valuation technique and the risk inherent in the inputs to the model.
|
The measurement basis
for current assets and current liabilities such as cash, restricted cash, accounts and notes receivable, long term accounts receivable,
short term loans, accounts payable, and other payables is carrying value, which approximates fair value. All such current assets
and liabilities with the exception of cash and restricted cash (Level 1) and short term loans (Level 2) would be classified as
Level 3 measurements due to the presence of Company-specific unobservable inputs. The following table presents information about
the company’s fair value financial liabilities classified as Level 2 and Level 3 as of December 31, 2011 and December 31,
2012.
|
|
|
Balance as of December 31, 2012
Fair Value Measurements
|
|
|
|
|
Using Fair Value Hierarchy
|
|
|
|
|
Level 1
|
|
|
Level 2
|
|
|
Level 3
|
|
|
Derivative liability related to loan (Note 12)
|
|
$
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
Derivative liability related to warrant (Note 12)
|
|
$
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
Guaranty contract liability (Note 16)
|
|
$
|
-
|
|
|
|
246,608
|
|
|
|
-
|
|
|
|
|
Balance as of December 31, 2011
Fair Value Measurements
|
|
|
|
|
Using Fair Value Hierarchy
|
|
|
|
|
Level 1
|
|
|
Level 2
|
|
|
Level 3
|
|
|
Derivative liability related to loan (Note 12)
|
|
$
|
-
|
|
|
|
-
|
|
|
|
21,274
|
|
|
Derivative liability related to warrant (Note 12)
|
|
$
|
-
|
|
|
|
-
|
|
|
|
22,806
|
|
|
Guaranty contract liability (Note 16)
|
|
$
|
-
|
|
|
|
89,068
|
|
|
|
-
|
|
A summary of changes in the Level 2-classified guaranty contract
liability related to Zhenjiang Kailin Clean Heat Energy Co., Ltd. (“Zhenjiang Kailin”) project (Note 16) for the year
ended December 31, 2011 and December 31, 2012 is as follows:
|
|
|
Guaranty contract
liability
|
|
|
|
|
|
|
|
Balance at December 31, 2010
|
|
$
|
-
|
|
|
Guaranty contract liability
|
|
|
90,745
|
|
|
Change in fair value of guaranty contract liability
|
|
|
(1,677
|
)
|
|
Balance at December 31, 2011
|
|
$
|
89,068
|
|
|
Guaranty contract liability
|
|
|
233,638
|
|
|
Change in fair value of guaranty contract liability
|
|
|
(76,098
|
)
|
|
Balance at December 31, 2012
|
|
$
|
246,608
|
|
For the year ended December 31, 2011 and December 31, 2012,
the Company recorded change in fair value of guaranty contract liability of $1,677 and $76,098 respectively.
A summary of changes in the Level 3-classified derivative liabilities
related to stock purchase warrants and a loan for the year ended December 31, 2011 and December 31, 2012 is as follows:
|
|
|
Derivative liability
for warrant
|
|
|
Derivative liability
for loan
|
|
|
|
|
|
|
|
|
|
|
Balance at December 31, 2010
|
|
$
|
1,332,760
|
|
|
|
423,307
|
|
|
Warrant cancellation (Note 12)
|
|
|
(15,547
|
)
|
|
|
-
|
|
|
Change in fair value of derivative liability for warrant
|
|
|
(1,294,407
|
)
|
|
|
-
|
|
|
Change in fair value of derivative liability for loan
|
|
|
-
|
|
|
|
(402,033
|
)
|
|
Balance at December 31, 2011
|
|
$
|
22,806
|
|
|
|
21,274
|
|
|
Change in fair value of derivative liability for warrant
|
|
|
(22,806
|
)
|
|
|
-
|
|
|
Change in fair value of derivative liability for loan
|
|
|
-
|
|
|
|
(21,274
|
)
|
|
Balance at December 31, 2012
|
|
$
|
-
|
|
|
|
-
|
|
For the year ended December 31, 2011 and December 31, 2012,
the Company recorded $1,696,440 and $44,080 fair value change of derivative liability respectively.
(t) Segment reporting
The Group has adopted
ASC 280,
Segment Reporting
, for its segment reporting. The group primarily operates in China and measures its business as
a single graphic operating segment.
(u) Subsidy income
The Company, in connection
with its occupancy and use of certain industrial park land, receives from time to time certain subsidies wholly at the discretion
of the management authority of a third party research and development fund related to the industrial park which are not tied to
future tenancy or performance by the Company; receipt of such subsidy income is not contingent upon any further actions or performance
by the Company and the amounts do not have to be refunded under any circumstances. These amounts are not tied to land use rights
or any other transactions. Upon receipt, these incentives are recognized within other income (expense) in the consolidated statements
of income and comprehensive income.
(v) Reclassifications
The Company, effective
with the annual 2011 financial statements included in Form 10-K, reclassified its presentation of revenue and costs of revenue
in the consolidated statements of income and comprehensive income to depict EPC revenue attributable to third party customers,
EPC revenue attributable to related parties, and product revenue given the growth in the number and per-contract revenue associated
with EPC contracts and 2011 amounts have been reclassified to conform to the current presentation.
(w) Recent accounting pronouncements
In December 2011,
the FASB issued
ASU 2011-11
, “Disclosures about Offsetting Assets and Liabilities”. The update under
ASU
2011-11
requires an entity to disclose both gross and net information about instruments and transactions eligible for offset
in the statements of financial position as well as instruments and transactions executed under a master netting or similar arrangement
and was issued to enable users of financial statements to understand the effects or potential effects of those arrangements on
their financial position. The update under
ASU 2011-11
is required to be applied retrospectively and is effective for fiscal
years, and interim periods within those years, beginning on or after January 1, 2013. In January 2013, the FASB issued
ASU
2013-01
, “Balance Sheet (Topic 210): Clarifying the Scope of Disclosures about Offsetting Assets and Liabilities”.
The amendments clarify that the scope of
ASU 2011-11
applies to derivatives accounted for in accordance with
ASC 815
,
Derivatives and Hedging, including bifurcated embedded derivatives, repurchase agreements and reverse repurchase agreements, and
securities borrowing and securities lending transactions that are either offset in accordance with
ASC 210-20-45
or
ASC
815-10-45
or subject to an enforceable master netting arrangement or similar agreement. The effective date is the same as the
effective date of
ASU 2011-11
. The Company is currently evaluating the impact on its financial statements of adopting this
update.
In February 2013, the FASB issued
ASU
2013-02
, “Comprehensive Income: Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income”.
This update does not change the current requirements for reporting net income or other comprehensive income in financial statements.
However, this update requires an entity to provide information about the amounts reclassified out of accumulated other comprehensive
income by component. In addition, an entity is required to present, either on the face of the statement where net income is presented
or in the notes, significant amounts reclassified out of accumulated other comprehensive income by the respective line items of
net income but only if the amount reclassified is required under U.S. GAAP to be reclassified to net income in its entirety in
the same reporting period. For other amounts that are not required under U.S. GAAP to be reclassified in their entirety to net
income, an entity is required to cross-reference to other disclosures required under U.S. GAAP that provide additional detail about
those amounts. This update is effective prospectively for reporting periods beginning after December 15, 2012 for public entities.
The Company is currently evaluating the impact on its financial statements of adopting this update.
In February 2013, the
FASB issued ASU 2013-04, “Obligations Resulting from Joint and Several Liability Arrangements for Which the Total Amount
of the Obligation is Fixed at the Reporting Date”. This update provides guidance for the recognition, measurement, and disclosure
of obligations resulting from joint and several liability arrangements for which the total amount of the obligation within the
scope of this update is fixed at the reporting date, except for obligations addressed within existing guidance in U.S. GAAP. The
guidance requires an entity to measure those obligations as the sum of the amount the reporting entity agreed to pay on the basis
of its arrangement among its co-obligors and any additional amount the reporting entity expects to pay on behalf of its co-obligors.
The guidance in this update also requires an entity to disclose the nature and amount of the obligation as well as other information
about those obligations. This update is effective for fiscal years, and interim periods within those years, beginning after December
15, 2013. For nonpublic entities, the amendments are effective for fiscal years ending after December 15, 2014, and interim periods
and annual periods thereafter. This update should be applied retrospectively to all prior periods presented for those obligations
resulting from joint and several liability arrangements within the Update’s scope that exist at the beginning of an entity’s
fiscal year of adoption. An entity may elect to use hindsight for the comparative periods (if it changed its accounting as a result
of adopting the amendments in this Update) and should disclose that fact. Early adoption is permitted. The Company is currently
evaluating the impact on its financial statements of adopting this update.
In March 2013, the
FASB issued ASU 2013-05, “Parent’s Accounting for the Cumulative Translation Adjustment upon Derecognition of Certain
Subsidiaries or Groups of Assets within a Foreign Entity or of an Investment in a Foreign Entity”. This update provides that
when a reporting entity (parent) ceases to have a controlling financial interest in a subsidiary or group of assets that is a nonprofit
activity or a business (other than a sale of in substance real estate or conveyance of oil and gas mineral rights) within a foreign
entity, the parent is required to apply the guidance in Subtopic 830-30 to release any related cumulative translation adjustment
into net income. Accordingly, the cumulative translation adjustment should be released into net income only if the sale or transfer
results in the complete or substantially complete liquidation of the foreign entity in which the subsidiary or group of assets
had resided. For an equity method investment that is a foreign entity, a pro rata portion of the cumulative translation adjustment
should be released into net income upon a partial sale of such an equity method investment. However, this treatment does not apply
to an equity method investment that is not a foreign entity. In those instances, the cumulative translation adjustment is released
into net income only if the partial sale represents a complete or substantially complete liquidation of the foreign entity that
contains the equity method investment. Additionally, the amendments in this update clarify that the sale of an investment in a
foreign entity includes both (1) events that result in the loss of a controlling financial interest in a foreign entity (that is,
irrespective of any retained investment) and (2) events that result in an acquirer obtaining control of an acquiree in which it
held an equity interest immediately before the acquisition date (sometimes also referred to as a step acquisition). Accordingly,
the cumulative translation adjustment should be released into net income upon the occurrence of those events. This update is effective
prospectively for fiscal years (and interim reporting periods within those years) beginning after December 15, 2013. Early adoption
is permitted. The Company is currently evaluating the impact on its financial statements of adopting this update.
Note 3 – Accounts Receivable, Net
|
|
|
December 31,
|
|
|
December 31,
|
|
|
|
|
2011
|
|
|
2012
|
|
|
Current accounts receivable - third parties
|
|
$
|
11,639,138
|
|
|
$
|
14,726,322
|
|
|
Current accounts receivable - related parties
|
|
|
9,088,157
|
|
|
|
1,605,100
|
|
|
Current accounts receivable
|
|
|
20,727,295
|
|
|
|
16,331,422
|
|
|
Subtract: Provision for impairment loss of receivables
|
|
|
-
|
|
|
|
-
|
|
|
Current accounts receivable, net
|
|
$
|
20,727,295
|
|
|
$
|
16,331,422
|
|
Current receivables
include revenue recognized in excess of amounts billed for EPC contracts recognized using the percentage of completion method.
As of December 31, 2011 and 2012, the receivables related to revenue recognized in excess of amounts billed amounted to approximately
$18,085,048 and $13,288,072, respectively.
|
|
(b)
|
Long-term Accounts Receivable
|
The Company classifies amounts which
are
expected to be
collected after one year as long-term accounts receivable.
Long-term accounts
receivable, net, which are presented in the below table net of the discounting effect for interest (see Note 16 for further description)
as of December 31, 2011 and December 31, 2012, respectively.
|
|
|
December 31,
|
|
|
December 31,
|
|
|
|
|
2011
|
|
|
2012
|
|
|
|
|
|
|
|
|
|
|
Long term accounts receivable - third parties
|
|
$
|
1,691,474
|
|
|
|
5,808,663
|
|
|
Subtract: Provision for impairment loss of receivables
|
|
|
(1,691,474
|
)
|
|
|
(1,784,823
|
)
|
|
Total
|
|
|
-
|
|
|
|
4,023,840
|
|
|
|
|
|
|
|
|
|
|
|
|
Long term accounts receivable - related party
|
|
|
-
|
|
|
|
10,006,522
|
|
|
Subtract: Provision for impairment loss of receivables
|
|
|
-
|
|
|
|
(3,397,541
|
)
|
|
Total
|
|
$
|
-
|
|
|
|
6,608,981
|
|
Long-term accounts
receivable, net consisted of, receivables from Zhenjiang Kailin of $6,608,981 and Jiangsu SOPO of $4,023,840 as of December 31,
2012. No revenue recognized in excess of amounts billed or billable as of December 31, 2012.
Due to delay and certain
technical issues encountered by CER, CER agreed with Zhenjiang Kailin, a related party, to extend the original payment due date
on a project completed at the end of May 2012 from August 31, 2012 to December 31, 2013 in four installment payments with no stated
interest rate (refer to Note 16 for more details about the Zhenjiang Kailin receivable collection schedule). The extension of the
repayment term was without interest and was effectively a sales concession CER granted to Zhenjiang Kailin as a result of the project
delay and technical issues encountered. The discount impact of $1,509,668 for the outstanding accounts receivable as a result of
this payment extension was recorded as a deduction to revenue in the first quarter of 2012. The effective interest rate of the
receivable based on the revised payment term was 10.65% based on the terms and credit risk of Zhenjiang Kailn at that time.
In July 2012, Zhenjiang
Kailin incurred an accident during the operation of its waste heat recovery system. The production was suspended in the second
half of July and August 2012. As a result, CER further agreed with Zhenjiang Kailin to extend its first installment payment of
$4,815,300 due to CER in August 2012 to December 31, 2012. CER recorded discount impact of $199,631 for the extension of the first
installment as reductions to revenue in the statement of operations and comprehensive income in the second quarter of 2012.
In October 2012, Zhenjiang
Kailin repaid part of the first installment in an amount of $3,178,098 through financing arrangement obtained from CGN (Note 16).
The remaining $1,637,202 which was originally due by 31 December 2012 was defaulted as Zhenjiang Kailin’s business in fourth
quarter of 2012 was not as good as expected, with the less market demand in the Chinese domestic chemical market.
The revised payment
schedule was listed below, which did not include the payment for “upgrade contract”.
|
Maturity date
|
|
Amount due
|
|
|
December 31, 2012
|
|
|
4,815,300
|
|
|
June 30, 2013
|
|
|
2,889,180
|
|
|
September 30, 2013
|
|
|
3,210,200
|
|
|
December 31, 2013
|
|
|
3,367,897
|
|
|
Total Payment Schedule
|
|
|
14,282,577
|
|
|
Payment of the first installment in October 2012 through Zhenjiang Kailin’s financing arrangement with CGN (Note 16)
|
|
|
(3,178,098
|
)
|
|
Outstanding Payment as of December 31, 2012
|
|
$
|
11,104,479
|
|
As
a result of the deteriorating domestic market demand and Zhenjiang Kailin’s financial condition, CER performed an impairment
analysis on the remaining outstanding balance due as of December 31, 2012. In March 2013, Zhenjiang Kailin provided a commitment
letter to CER for a total repayment of RMB 77 million (approximately equivalent to $12.4 million) in the following 7 years, including
an annual minimum repayment of RMB 10 million (approximately equivalent to $1.6 million) from 2013 to 2018 and RMB 17 million (approximately
equivalent to $2.8 million) in 2019
in accordance with its business forecasts to fully repay
the outstanding payment of $11,104,479 plus payment of $1,290,232 for the upgrade contract due to CER. Although CER acknowledged
the receipt of the commitment letter, it was not a legally enforceable agreement between CER and Zhenjiang Kailin, and CER can
continue to assert its rights under the repayment schedule disclosed above.
Based on the impairment
analysis CER performed, including the assessment of Zhenjiang Kailin’s business forecast, CER expected that Zhenjiang Kailin
will be able to fully repay all outstanding amounts over the next 7 years with an annual minimum repayment of RMB 10 million from
2013 to 2018 and RMB 17 million in 2019. A provision for impairment loss on long term receivable of $3,397,541 was recorded based
on management’s best estimate of future cash flow, i.e., Zhenjiang Kailin will repay RMB 10 million or RMB 17 million annually
over the next 7 years, discounted at the long term receivable’s original effective interest rate of 10.65%. The impairment
loss has been included in the Selling, General and Administrative (“SG&A”) Expenses of the CER’s financial
statements. The Company will reassess the provision for impairment of receivable at each reporting period and record any changes
as an adjustment to the provision for impairment loss and corresponding SG&A expense.
For the year ended
December 31, 2012, the discounts reflected as reductions to revenue for payment extension terms were $ 1,709,299 and the accretion
of $926,209 was recorded as interest income in the statement of operations and comprehensive income. After the Company recorded
provision for impairment loss of receivable as of December 31, 2012, the Company will cease to accrete interest income subsequent
to December 31, 2012. The Company will reassess the provision for impairment of receivable together with unearned interest income
of $783,090 at each reporting period and records additional provision for impairment or recovery of the receivable to SG&A
expense in the subsequent reporting periods.
A reconciliation of
the accounts receivable (including both current and non-current portions) from Zhenjiang Kailin as at December 31, 2012 is as follows:
|
|
|
December 31,
|
|
|
|
|
2012
|
|
|
|
|
|
|
|
Total payment amount
|
|
|
11,104,479
|
|
|
Accretion for interest income
|
|
|
926,209
|
|
|
Upgrade Contract (Note16)
|
|
|
1,290,233
|
|
|
Less - Unearned interest income
|
|
|
(1,709,299
|
)
|
|
Less - provision for impairment loss of receivables
|
|
|
(3,397,541
|
)
|
|
Total accounts receivables
|
|
$
|
8,214,081
|
|
|
|
|
|
|
|
|
Accounts receivable, net - related party
|
|
|
1,605,100
|
|
|
Long term accounts receivable, net - related party
|
|
|
6,608,981
|
|
|
Total accounts receivables
|
|
$
|
8,214,081
|
|
Of the total balance
of $8,214,081, $6,608,981 represented the non-current balance due from Zhenjiang Kailin which is to be collected over one year;
the remaining $1,605,100 is included in current receivables due from a related party.
Long term accounts
receivable, net due from third party of $4,023,840 represents a balance due from Jiangsu SOPO. On October 18, 2011, CER signed
a contract for the manufacture, design, and installation of a major dock storage and tube project with Jiangsu SOPO, a third party
customer of CER and related party of Zhenjiang Kailin. The contract value was estimated to be approximate RMB 50 million (approximately
$7.9 million), including the procurement part of RMB 40 million (approximately $6.3 million) and construction part of RMB 10 million
(approximately $1.6 million) and the final contract value would be determined based on the actual spending for the completion of
the project. Due to the strong relationship between CER and Jiangsu SOPO, CER was retained as the contractor, and was allowed to
sub-contract substantially all of the work to a third party sub-contractor. Jiangsu SOPO has agreed to CER’s retention of
10% as a profit margin (based upon the final contract value), or approximately an 11% markup on costs of the project. CER has concluded
that gross recognition of the revenue is appropriate as it is the primary obligor and certain of the costs represent CER product.
The project was started
at the beginning of 2012 and had been fully completed by the end of June 2012. As of December 31, 2012, the best estimation by
CER management of the final contract price was RMB 57.1 million (approximately $9 million) which was based on historical experience,
industry knowledge and robust communication with Jiangsu SOPO.
The original payment
schedule of this contract was “payable upon completion” and in April 2012, CER and Jiangsu SOPO entered into an agreement
to extend the payment terms to be 36 installments due on a monthly basis starting from May 2012. Under this revised payment schedule,
Jiangsu SOPO was required to pay the project price of RMB 57.1 million (approximately $9 million) plus interest over time of RMB
6.4 million (approximately $1 million), for a total of RMB 63.5 million (approximately $10 million). For the year ended December
31, 2012, $8,288,387 in revenue was recognized in relation to this EPC project and the interest income was $385,706. The receivable
from Jiangsu SOPO as of December 31, 2012 was $7,078,250, among which $4,023,840 was classified as long-term accounts receivable.
Note 4 – Inventories, Net
As of December 31, 2011 and 2012, inventories, net consisted
of the following:
|
|
|
December 31,
|
|
|
December 31
,
|
|
|
|
|
2011
|
|
|
2012
|
|
|
|
|
|
|
|
|
|
|
Raw materials
|
|
$
|
1,601,998
|
|
|
$
|
2,905,820
|
|
|
Work in progress
|
|
|
12,978,418
|
|
|
|
5,375,159
|
|
|
Finished goods
|
|
|
217,659
|
|
|
|
220,127
|
|
|
Inventory cost
|
|
$
|
14,798,075
|
|
|
$
|
8,501,106
|
|
|
Less: inventory provision
|
|
|
(119,763
|
)
|
|
|
(51,340
|
)
|
|
Inventory, net
|
|
$
|
14,678,312
|
|
|
$
|
8,449,766
|
|
The cost of inventory is calculated on a weighted-average
basis. As of December 31, 2011 and December 31, 2012, inventory provisions of $119,763 and $51,340 were included in the above
amounts, respectively. Additions and reversals to such provisions have been included in cost of revenues for the years ended December
31, 2011 and 2012.
Note 5 – Property, Plant and Equipment, Net
As of December 31, 2011 and 2012, property, plant and equipment,
net consisted of the following:
|
|
|
December 31,
2011
|
|
|
December 31,
2012
|
|
|
Plants & buildings
|
|
$
|
21,416,681
|
|
|
$
|
20,158,503
|
|
|
Machinery equipment
|
|
|
4,496,365
|
|
|
|
4,893,660
|
|
|
Transportation equipment
|
|
|
366,270
|
|
|
|
363,378
|
|
|
Office equipment
|
|
|
839,790
|
|
|
|
991,810
|
|
|
Accumulated depreciation
|
|
|
(2,137,381
|
)
|
|
|
(3,483,171
|
)
|
|
Subtotal
|
|
|
24,981,725
|
|
|
|
22,924,180
|
|
|
Construction in progress
|
|
|
1,177,877
|
|
|
|
5,275,709
|
|
|
Property, plant and equipment, net
|
|
$
|
26,159,602
|
|
|
$
|
28,199,889
|
|
Depreciation expense
for the years ended December 31, 2011 and 2012 was $1,385,834 and $1,553,632, respectively.
Note 6 – Intangible Assets
|
|
|
December 31,
|
|
|
December 31,
|
|
|
|
|
2011
|
|
|
2012
|
|
|
Cost:
|
|
|
|
|
|
|
|
|
|
Land use rights
|
|
$
|
5,023,217
|
|
|
$
|
5,080,188
|
|
|
Software
|
|
|
152,896
|
|
|
|
201,380
|
|
|
Less: Accumulated amortization
|
|
|
(176,230
|
)
|
|
|
(351,116
|
)
|
|
Intangible assets, net
|
|
$
|
4,999,883
|
|
|
$
|
4,930,452
|
|
Intangible assets
mainly represent the software and purchase of usage rights for land in Yangzhou, China, where our manufacturing plant is located.
The Company obtained the usage title of its first land parcel in December 2009. The land use right was recorded at cost of RMB
16,623,260 (approximately $2,438,632 at the then-existing exchange rate) and is being amortized over the lease term of 50 years
starting from November 2009 when it was acquired. In July 2011, the Company obtained the usage title of another parcel of land.
The land use right was recorded at cost of RMB 15,027,027 (approximately $2,331,869 at the then-existing exchange rate) and is
being amortized over the lease term of 50 years starting from July 2011. Amortization expense for intangible assets recorded for
the years ended December 31, 2011 and 2012 amounted to $95,827 and $170,733, respectively. The remaining balance of intangible
assets represents the net value of purchased software.
The Company estimates amortization expense
of intangible assets for the next five years as follows:
|
|
|
Amortization
|
|
|
|
|
|
|
|
2013
|
|
$
|
156,139
|
|
|
2014
|
|
|
127,702
|
|
|
2015
|
|
|
109,468
|
|
|
2016
|
|
|
101,604
|
|
|
2017
|
|
|
101,604
|
|
|
Thereafter
|
|
|
4,333,935
|
|
|
Total
|
|
$
|
4,930,452
|
|
Note 7 – Short-term Loans
Short-Term Borrowings and letter of
credit
A tabular reconciliation of the Company’s
short term borrowings including balances outstanding at December 31, 2011 and 2012 and activity during the year (including letters
of credit) is as follows. Where borrowings are denominated in Renminbi, the U.S. dollar outstanding balance at the respective period
end, translated at the applicable period-end exchange rate, is included in the tabular presentation.
|
|
|
Borrowing
|
|
Borrowing
date
|
|
Interest
rate
|
|
Maturity
date
|
|
Balance at
Dec. 31,
2011
|
|
Balance at
Dec. 31,
2012
|
|
Pledge or guarantee
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)
|
|
RMB 29 million – Shanghai Pudong Development Bank, Shanghai Branch
|
|
Aug. 31, 2011
|
|
7.544%
|
|
May 31, 2012
|
|
RMB 29,000,000
(USD 4,602,590)
|
|
RMB 0 (repaid March 28, 2012)
|
|
Collateralized by CER’s office building in Zhangjiang, Shanghai.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(2)
|
|
RMB 9.5 million – Bank of China, Yizheng Branch
|
|
Nov. 17, 2011
|
|
7.216%
|
|
Oct. 19, 2012
|
|
RMB 9,500,000
(USD 1,507,745)
|
|
RMB 0 (repaid October 23, 2012)
|
|
Guaranteed by Qinghuan Wu, Jialing Zhou, CER Shanghai, Shanghai Engineering, and
|
|
|
|
RMB 11.5 million – Bank of China, Yizheng Branch
|
|
Nov. 23, 2011
|
|
7.216%
|
|
Nov. 16, 2012
|
|
RMB 11,500,000
(USD 1,825,165)
|
|
RMB 0 (repaid November 13, 2012)
|
|
Yizheng Auto Industrial Park Investment and Development Co., Ltd., and pledged by a land use right in Yizheng, China.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(3)
|
|
RMB 6.68 million - Industrial and Commercial Bank of China Limited, Zhangjiang Branch
|
|
Dec. 29, 2011
|
|
6.405%
|
|
June 28, 2012
|
|
RMB 6,680,000
(USD 1,060,183)
|
|
RMB 0 (repaid June 20, 2012)
|
|
Collateralized by a pledge of several bank acceptance notes* owned by CER Shanghai in the amount of RMB 7,430,000.
|
|
(4)
|
|
RMB 5 million - Shanghai Pudong Zhanjiang Micro-credit Co.
|
|
Dec. 2011
|
|
12.000%
|
|
June 9, 2012
|
|
RMB 5,000,000
(USD 793,550)
|
|
RMB 0 (repaid April 16, 2012)
|
|
Collateralized by a building in Shanghai owned by Jiangsu SOPO; guaranteed by Mr. Qinghuan Wu.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(5)
|
|
RMB 1.38 million - Industrial and Commercial Bank of China Limited, Zhangjiang Branch
|
|
Jan. 16, 2012
|
|
6.405%
|
|
July 15, 2012
|
|
-
|
|
RMB 0 (repaid June 20, 2012)
|
|
Collateralized by a pledge of several bank acceptance notes* owned by CER Shanghai in the amount of RMB 1,530,000.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(6)
|
|
RMB 10 million - Shanghai Pudong Zhanjiang Micro-credit Co., Ltd.
|
|
Feb. 29, 2012
|
|
12.000%
|
|
Feb. 20, 2013
|
|
-
|
|
RMB 1,900,000 (USD 304,696) (repaid February 21, 2013)
|
|
Collateralized by accounts receivable from Zhenjiang Kailin; also collateralized by CER’s office building in Zhangjiang Shanghai in case of default in repayment.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(7)
|
|
RMB 29 million - Bank of Communication, Shanghai Branch
|
|
Mar. 20, 2012
|
|
7.544%
|
|
Mar. 15, 2013
|
|
-
|
|
RMB 29,000,000 (USD 4,654,790) (repaid Mar. 15, 2013)
|
|
Collateralized by
CER’s office
building in
|
|
|
|
RMB 11 million - Bank of Communication, Shanghai Branch
|
|
Apr. 12, 2012
|
|
7.544%
|
|
Apr. 12, 2013
|
|
-
|
|
RMB 11,000,000 (USD 1,765,610) (repaid Mar. 15, 2013)
|
|
Zhangjiang,
Shanghai and
guaranteed by
Qinghuan Wu.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(8)
|
|
RMB 5 million - Industrial and Commercial Bank of China Limited, Zhangjiang Branch.
|
|
Mar. 23, 2012
|
|
6.405%
|
|
Sept. 28, 2012
|
|
-
|
|
RMB 0 (repaid August 24, 2012)
|
|
Collateralized by several bank acceptance notes* owned by CER Shanghai in the amount of RMB 5,600,000 (approximately $890,000).
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(9)
|
|
RMB 10 million - China CITIC Bank Yizheng branch.
|
|
Jun. 6, 2012
|
|
7.544%
|
|
Jun. 6, 2013
|
|
-
|
|
RMB 10,000,000 (USD 1,605,100)
|
|
Guaranteed by Jiangsu SOPO, and guaranteed by Mr. Qinghuan Wu.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(10)
|
|
USD 1.15 million – Industrial and Commercial Bank of China Limited, Zhangjiang Branch.
|
|
Jun. 15, 2012
|
|
2.4789%
|
|
Sep. 14, 2012
|
|
-
|
|
USD 0 (repaid September 14, 2012)
|
|
Collateralized by cash deposit in the amount of RMB 7,710,000 (approximately $1,213,631).
|
|
(11)
|
|
RMB 4 million - Bank of Shanghai
|
|
Sep 11, 2012
|
|
7.2%
|
|
Sep 10, 2013
|
|
-
|
|
RMB 4,000,000 (USD 642,040 )
|
|
Guaranteed by Mr.
Qinghuan Wu and
Mrs. Jialing Zhou,
and among which
|
|
|
|
RMB 4 million - Bank of Shanghai
|
|
Oct. 16, 2012
|
|
7.2%
|
|
Oct. 15, 2013
|
|
-
|
|
RMB 4,000,000 (USD 642,040 )
|
|
RMB 5,000,000 is
collateralized by a
building owned by
Mr. Wu and his son,
|
|
|
|
RMB 7 million - Bank of Shanghai
|
|
Oct. 26, 2012
|
|
6.72%
|
|
Jan. 25, 2013
|
|
-
|
|
RMB 7,000,000 (USD 1,123,570 ) (repaid RMB 5,320,000 February 5, 2013)
|
|
and RMB
10,000,000 is
guaranteed by
Shanghai Chuang
Ye Jie Li Financing
Guarantee Co., Ltd
(Shanghai Chuangye)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(12)
|
|
RMB 95,000 – Shanghai Pudong Development Bank, Shanghai Branch
|
|
Jul. 12, 2012
|
|
6.44%
|
|
Nov. 9, 2012
|
|
-
|
|
RMB 0 (repaid November 9, 2012)
|
|
Collateralized by a pledge of several bank acceptance notes* owned by Shanghai Engineering in the amount of RMB 100,000.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(13)
|
|
RMB 30 million-Shanghai Rural Commercial Bank
|
|
Nov. 20, 2012
|
|
6.9%
|
|
Nov. 19, 2013
|
|
-
|
|
RMB 30,000,000 (USD 4,815,300)
|
|
Guaranteed by Mr. Qinghuan Wu, and collateralized by a building in Shanghai owned by Jiangsu SOPO.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(14)
|
|
RMB 5 million-China Construction Bank, Yizheng Branch
|
|
Oct. 25, 2012
|
|
6.3%
|
|
Oct. 24, 2013
|
|
-
|
|
RMB 5,000,000 (USD 802,550)
|
|
Guaranteed by CER Shanghai, and collateralized by a mechanical equipment book valued at RMB 20,171,625 owned by CER Yangzhou.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(15)
|
|
RMB 25 million – China CITIC Bank, Yangzhou Branch.
|
|
Dec. 04, 2012
|
|
-
|
|
Mar. 03, 2013
|
|
-
|
|
RMB 25,000,000 (USD 4,012,750) (repaid Mar. 04, 2013)
|
|
Guaranteed by Jiangsu SOPO, and guaranteed by Mr. Qinghuan Wu.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Bank Short term loan
|
|
|
|
|
|
|
|
RMB 61,680,000
(USD 9,789,233)
|
|
RMB 126,900,000 (USD 20,368,719)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(16)
|
|
RMB 21 million letter of credit – China Construction Bank
|
|
Sept. 30, 2011
|
|
5.02%
|
|
Jan. 6, 2012
|
|
RMB 21,000,000
(USD 3,332,910)
|
|
RMB 0 (repaid January 6, 2012)
|
|
Collateralized by machinery of CER Yangzhou.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(17)
|
|
RMB 7.98 million letter of credit – Industrial and Commercial Bank of China
|
|
Dec. 12, 2011
|
|
6.71%
|
|
May 28, 2012
|
|
RMB 7,980,000
(USD 1,266,506)
|
|
RMB 0 (repaid May 15, 2012)
|
|
Collateralized by a building in Shanghai owned by Jiangsu SOPO.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
RMB 7.9 million letter of credit – Industrial and Commercial Bank of China
|
|
May 18, 2012
|
|
6.405%
|
|
Sep. 17, 2012
|
|
-
|
|
RMB 0 (repaid September 29, 2012)
|
|
Collateralized by a building in Shanghai owned by Jiangsu SOPO.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Letters Of Credit
|
|
|
|
|
|
|
|
RMB 28,980,000
(USD 4,599,416)
|
|
Nil
|
|
|
|
(18)
|
|
RMB 10 million – China Great Wall Industry Corporation
|
|
Sep. 6, 2012
|
|
4.13%
|
|
Dec. 20, 2012
|
|
-
|
|
RMB 0 (repaid Dec. 24, 2012)
|
|
Equivalent worth of equipment.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
RMB 20 million – China Great Wall Industry Corporation
|
|
Sep. 25, 2012
|
|
4.13%
|
|
Mar. 15, 2013
|
|
-
|
|
RMB 20,000,000 (USD 3,210,200 ) (repaid Mar. 25, 2013)
|
|
Equivalent worth of equipment.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less: Debt Issue Cost
|
|
-
|
|
RMB 337,299 (USD 54,140)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Product Financing
|
|
Nil
|
|
RMB 19,662,701 (USD 3,156,060)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Short term loan
|
|
RMB 90,660,000
(USD 14,388,649)
|
|
RMB 146,562,701 (USD 23,524,779)
|
|
|
*The Group’s bank acceptance notes
are reported in “Notes receivable” in the consolidated balance sheet and represent short-term notes receivable typically
received from customers as a form of payment. The Group can discount such notes receivable for early payment, typically at a small
percentage discount to face value. The Group typically uses the notes to collateralize short-term borrowings as a means of matching
timing of cash inflows and outflows, or transfers the notes to settle payables to suppliers.
Descriptions of bank short-term borrowings
|
|
(1)
|
On August 31, 2011, CER Shanghai borrowed RMB 29,000,000 (approximately $4,500,000 at the
then-existing exchange rate) from the Shanghai Pudong Development Bank, Luwan Branch. The loan was collateralized by CER’s
office building in Zhangjiang, Shanghai. The term of the loan was 9 months. The loan agreement provided for quarterly interest
payments at an annual interest rate of 7.544% and the total principal and interest were repaid on March 28, 2012.
|
|
|
(2)
|
On December 9, 2010, CER Yangzhou entered into a three-year loan facility with the Bank of China,
Yizheng Branch. The facility is RMB 30,000,000 (approximately $4,500,000 at the then-existing exchange rate). Any amounts due under
the loan are repayable no later than November 24, 2013. The loan facility has been guaranteed by Qinghuan Wu, the Company’s
Chief Executive Officer; Jialing Zhou, a former director of the Company and wife of Mr. Wu; one of the Group’s subsidiaries
and the Group’s VIE, CER Shanghai and Shanghai Engineering, respectively; and Yizheng Auto Industrial Park Investment and
Development Co., Ltd. The Company has also collateralized the loan facility with its land use right in Yizheng. By the end of 2010,
the Company drew down RMB 21,000,000 (approximately $3,171,000 at the then-existing exchange rate) under the facility as a short-term
loan, due in one year, with an annual interest rate of 5.838%. On June 20, 2011, the Company drew down RMB 9,152,782 (approximately
$1,414,288 at the then-existing exchange rate) under the facility as a short-term loan, due in six months, with an annual interest
rate of 5.56%. On November 15, 2011 and November 18, 2011, CER Yangzhou repaid RMB 9,500,000 (approximately $1,497,572) and RMB
11,500,000 (approximately $1,809,656), respectively. On December 20, 2011, CER Yangzhou repaid RMB 9,152,782 (approximately $1,444,773).
On November 17, 2011 and November 23, 2011, CER Yangzhou drew down RMB 9,500,000 (approximately $1,497,000 at the then-existing
exchange rate) and RMB 11,500,000 (approximately $1,810,000 at the then-existing exchange rate), respectively, under the three-year
loan facility. The loans are due in one year and carry an annual interest rate of 7.216%. CER (Yangzhou) repaid RMB 9,500,000 (approximately
$1,511,545) on October 23, 2012, and repaid RMB 6,000,000 (approximately $952,124) on November 1, 2012, respectively. CER Yangzhou
repaid the remaining RMB 5,500,000 on November 13, 2012.
|
|
|
(3)
|
On December 29, 2011, CER Shanghai borrowed RMB 6,680,000 (approximately $1,057,682 at the then-existing
exchange rate) from Industrial and Commercial Bank of China Limited, Zhangjiang Branch. The loan carries an annual interest rate
of 6.405%. The term of the loan is six months commencing from December 29, 2011 to June 28, 2012. The loan is secured by a pledge
of several bank acceptance notes owned by CER Shanghai in the amount of RMB 7,430,000 (approximately $1,176,433). The total principal
and interest were repaid by several installments as of June 20, 2012.
|
|
|
(4)
|
In December 2011, CER Shanghai borrowed RMB 5,000,000 (approximately $789,639) at the then-existing
exchange rate) from Shanghai Pudong Zhanjiang Micro-credit Co., Ltd. The loan is collateralized by a building in Shanghai
owned by Jiangsu SOPO, and guaranteed by Mr. Qinghuan Wu, the Chairman and Chief Executive Officer of CER. The loan carries an
annual interest rate of 12% and the due date of the loan is June 9, 2012. The loan was drawn down in two installments, with RMB
2,000,000 (approximately $315,353) and RMB 3,000,000 (approximately $474,286) being drawn down on December 15, 2011 and December
22, 2011, respectively. The total amount of principal and interest amounting to RMB 5,043,333 (approximately $801,038) was repaid
on April 16, 2012.
|
|
|
(5)
|
On January 16, 2012, CER Shanghai borrowed RMB 1,380,000 (approximately $217,989 at the then-existing
exchange rate) from Industrial and Commercial Bank of China Limited, Zhangjiang Branch. The loan carries an annual interest rate
of 6.405%. The term of the loan is six months commencing from January 16, 2012 to July 15, 2012. The loan was collateralized by
several bank acceptance notes owned by CER Shanghai in the amount of RMB 1,530,000 (approximately $242,949). The total amount of
principal and interest were repaid by several installments as of June 20, 2012.
|
|
|
(6)
|
On February 27, 2012, CER Shanghai signed a loan contract to borrow RMB 10 million from Shanghai
Pudong Zhanjiang Micro-credit Co., Ltd. On February 29, 2012, CER Shanghai drew down $1,589,345 (RMB 10 million at the exchange
rate at that time). The loan is guaranteed by Mr. Qinghuan Wu, the Chairman and Chief Executive Officer of CER and collateralized
by the accounts receivable of CER Shanghai. If there is any default in repayment, CER Shanghai agrees to further secure the loan
by way of CER’s office building in Zhangjiang, Shanghai. The loan carries an annual interest rate of 12% and the due date
of the loan is February 20, 2013. CER Shanghai began to repay RMB 900,000 per month to Shanghai Pudong Zhanjiang Micro-credit Co.,
Ltd from April 2012. Amounts totaling RMB 8,100,000 had been repaid as of December 31, 2012. On February 21, 2013, the remaining
RMB 1,900,000 (approximately $304,696) was repaid.
|
|
|
(7)
|
On March 6, 2012, CER Shanghai entered into a short-term comprehensive loan facility with the Bank
of Communication, Shanghai Branch. The facility is RMB 57,000,000 (approximately $9,000,000). CER Shanghai is entitled to draw
down RMB 40,000,000 (approximately $6,300,000) as a short-term loan or RMB 57,000,000 (approximately $9,000,000) as bank acceptance
notes after making a cash deposit of RMB 17,000,000 (approximately $2,700,000) to the bank. On March 20, 2012, CER Shanghai drew
down RMB 29 million to replace the existing Shanghai Pudong Development Bank, Shanghai Branch loan. On April 12, 2012, CER Shanghai
drew down RMB 11 million. These amounts are due in one year and carry an annual interest rate of 7.544%. The loan has been collateralized
by CER’s office building in Zhangjiang, Shanghai and guaranteed by Qinghuan Wu, the Company’s Chief Executive Officer.
On March 05, 2013, and March 15, 2013, CER shanghai repaid the RMB 15 million and RMB 25 million, respectively, which represents
the total principals of this loan.
|
|
|
(8)
|
On March 29, 2012, CER Shanghai entered into a loan contract to borrow RMB 5,000,000 (approximately
$795,000 at the exchange rate at that time) from Industrial and Commercial Bank of China Limited, Zhangjiang Branch. The loan carries
an annual interest rate of 6.405%. The term of the loan is six months commencing from March 29, 2012. The loan is collateralized
by several bank acceptance notes owned by CER Shanghai in the amount of RMB 5,600,000 (approximately $890,000). The total amount
of principal and interest were repaid by several installments as of September 30, 2012.
|
|
|
(9)
|
On March 30, 2012, CER Yangzhou entered into a 2 year comprehensive credit facility with the China
CITIC Bank,
Yizheng
Branch. The facility is RMB 20,000,000 (approximately $3,175,000). This comprehensive
line of credit can be used from March 30, 2012 to March 30, 2014. This facility is guaranteed by Jiangsu SOPO and guaranteed by
Mr. Qinghuan Wu, the Company’s Chief Executive Officer. On June 6, 2012, CER Yangzhou drew down RMB 10 million (approximately
$1,587,900) as a short-term loan. This amount is due in one year and carries an annual interest rate of 7.544%. On February 20,
2013, CER Yangzhou drew down RMB 10 million (approximately $1,592,000). The maturity date of this loan is October 24, 2013, and
bears an annual interest rate of 6.6%.
|
|
|
(10)
|
On June 15, 2012, CER Shanghai entered into an import financing agreement with the Industrial and
Commercial Bank of China, which paid for certain procured imports on behalf of CER Shanghai. CER Shanghai is entitled to authorize
Industrial and Commercial Bank of China to make a payment amounting to $1.15 million to an overseas supplier for import purchases.
This amount is collateralized by a cash deposit in the amount of RMB 7,710,000 (approximately $1,213,631). This loan bears an annual
interest rate of 2.4789%. The term of the loan is three months commencing from June 15, 2012 to September 14, 2012. The total amount
of principal and interest were repaid on September 14, 2012.
|
|
|
(11)
|
On September 5, 2012, Shanghai Engineering entered into a comprehensive facility contract with
Bank of Shanghai. The total amount is RMB 15,000,000 (approximately $2,364,625 at the then-existing exchange rate). This amount
is due in one year and carries an annual interest rate of 7.2%. The loan is guaranteed by Mr. Qinghuan Wu, the Company’s
Chief Executive Officer and Mrs. Jialing Zhou, Mr. Wu’s wife, and among which RMB 5,000,000 is collateralized by a building
located in Shanghai, which is owned by Mr. Qinghuan Wu and his son. In addition, the remaining amount of RMB 10,000,000 of this
loan is guaranteed by Shanghai Chuang Ye Jie Li Financing Guarantee Co., Ltd (“Shanghai Chuangye”), after making a
cash deposit of 5% of the total guarantee amount to Shanghai Chuangye. Shanghai Chuangye charged a 3% fee and required a counter-guarantee
by CER Yangzhou and CER Shanghai. Shanghai Chuangye also required second tier collateralization by the aforementioned building
owned by Mr. Wu and his son and 60% of Mr. Wu’s ownership interest in Shanghai Engineering. Since this building had previously
been collateralized under a facility agreement entered into with Ningbo Bank, Shanghai branch, this borrowing with the Bank of
Shanghai has replaced the existing Ningbo Bank facility. On September 11, 2012, October 16, 2012 and October 26, 2012, the Company
drew down RMB 4,000,000, RMB 4,000,000 and RMB 7,000,000 with an annual interest rate of 7.2%, 7.2% and 6.72%, respectively. On
February 5, 2013,the Company repaid RMB 5,320,000 , which is part of RMB 7,000,000. Meanwhile, the Company made a security deposit
amounting to RMB 2,280,000 to obtain new bank acceptance drafts amounting to RMB 7,600,000 (approximately $1,206,349).
|
|
|
(12)
|
On July 12, 2012, Shanghai Engineering borrowed RMB 95,000 (approximately $15,115 at the then-existing
exchange rate) from Shanghai Pudong Development Bank, Shanghai Branch. The loan carries an annual interest rate of 6.44%. The term
of the loan is four months commencing from July 12, 2012 to November 9, 2012. The loan is secured by a pledge of several bank acceptance
notes owned by Shanghai Engineering in the amount of RMB 100,000 (approximately $15,911). Shanghai Engineering repaid RMB 95,000
on November 9, 2012.
|
|
|
(13)
|
On November 20, 2012, Shanghai Engineering, a consolidated variable interest entity of CER, entered
into a one-year comprehensive credit facility of RMB 30,000,000 (approximately $4,732,458 with Shanghai Rural Commercial Bank,
which can be used for working capital or similar purposes. The period of the comprehensive line of credit is from November 20,
2012 to November 19, 2013, and carries an annual interest rate of 6.9%. This facility is guaranteed by Mr. Qinghuan Wu, the Company’s
Chief Executive Officer, and collateralized by a building in Shanghai owned by Jiangsu SOPO (Group) Company Limited (“Jiangsu
SOPO”), a non-affiliated third party of CER.
|
|
|
(14)
|
On October 25, 2012, CER Yangzhou entered into a one-year short term loan contract to borrow RMB
5,000,000 (approximately $793,059) with China Construction Bank, Yizheng Branch. The loan carries an annual interest rate of 6.3%.
The term of the loan commence from October 25, 2012 to October 24, 2013. This loan is guaranteed by CER Shanghai, and collateralized
by a mechanical equipment book valued at RMB 20,171,625 owned by CER Yangzhou.
|
|
|
(15)
|
On December 04, 2012, CER Yangzhou drew down bank acceptance notes amounting to RMB 25,000,000
(approximately $3,975,511) after making a cash deposit of RMB 15,000,000 (approximately $2,385,307) to the bank. Meanwhile, CER
Yangzhou endorsed the notes to CER Shanghai and CER Shanghai discounted the notes at the bank. The expiration date is March 03,
2013. On March 04, 2013, CER Yangzhou repaid RMB 25,000,000 (approximately $3,980,000)
|
Interest expense on
short-term loans for the year ended December 31, 2011 and 2012 was $437,530 and $1,069,674, respectively.
Descriptions of letters of credit
|
|
(16)
|
CER, through its subsidiary, CER Yangzhou imports goods from CER Hong Kong, which are purchased
from overseas suppliers. CER Yangzhou issued a forward letter of credit (“L/C”) to CER Hong Kong for import purchases
in September 2011. The L/C is collateralized by the machinery of CER Yangzhou’s plant. On September 30, 2011, CER Hong Kong
discounted the L/C from Standard Chartered Bank’s Hong Kong branch in the amount of RMB 21,000,000 ($3,240,000 at the exchange
rate at such date). The due date of the L/C is January 6, 2012. The discount rate is 5.02% annually. CER Yangzhou repaid RMB 21,000,000
on January 6, 2012.
|
|
|
(17)
|
On November 29, 2011, CER Shanghai issued a forward letter of credit (“L/C”) to CER
Yangzhou for the purchase of goods. The L/C is collateralized by a building in Shanghai, which is owned by Jiangsu SOPO. On December
12, 2011, CER Yangzhou discounted the L/C from Industrial and Commercial Bank of China Limited, Zhangjiang Branch in the amount
of RMB 7,980,000 (approximately $1,260,000 at the exchange rate at the time). The due date of the L/C was May 28, 2012. The discount
rate was 6.71% annually. The total amount of the letter of credit was repaid on May 15, 2012. On May 18, 2012, CER Shanghai renewed
the issuance of a forward letter of credit amounting to RMB 7,900,000 (approximately $ 1,235,586) to CER Yangzhou for purchase
of goods. The discount rate was 6.405% annually. The due date of the renewed L/C is September 17, 2012. CER Yangzhou repaid RMB 7,900,000
on September 29, 2012.
|
Interest expense on
letters of credit for the year ended December 31, 2011 and 2012 was $46,811 and $74,191, respectively.
Descriptions of Product Financing
|
|
(18)
|
On August 10, 2012, CER signed two contracts with China Great Wall Industry Corporation (“Great
Wall”) for sales and repurchases of certain goods within a 6-month period which in substance are a product financing arrangement.
According to these two agreements, CER (Yangzhou) will sell certain equipment to Great Wall at a price of RMB 32,454,780 (approximately
$5,108,707). The funding to CER consists of three components, two of which are letters of credit totaling RMB 30,000,000 (approximately
$4,773,300); the rest is cash. At the same time, Great Wall agreed to resell the equipment to CER (Shanghai) at a price of RMB
33,038,966 (approximately $5,200,664) via a delayed collection arrangement as set forth below, where such amounts represent payments
due from CER to Great Wall (or a bank, if the letters of credit are tendered for cash equal to the principal or face value less
the bank’s discount)
|
|
|
|
RMB
|
|
|
USD
|
|
|
December 20, 2012
|
|
|
10,180,000
|
|
|
|
1,633,991
|
|
|
March 15, 2013
|
|
|
20,360,000
|
|
|
|
3,267,984
|
|
|
April 7, 2013
|
|
|
2,498,965
|
|
|
|
401,109
|
|
|
Total
|
|
|
33,038,965
|
|
|
|
5,303,084
|
|
In September, 2012, Great Wall
issued two letters of credit in the amount of RMB 10 million (approximately $1.6 million) and RMB 20 million (approximately $3.2
million) from Industrial and Commercial Bank of China Co., Ltd., Beijing West Railway Station Branch to CER (Yangzhou) in accordance
with the aforementioned agreements, respectively. Then CER (Yangzhou) discounted them to draw down RMB 9.8 million (approximately
$1.6 million) on September 6, 2012, with the maturity date of December 24, 2012, and draw down RMB 19.4 million (approximately
$3.1 million) on September 25, 2012, with the maturity date of March 15, 2013, respectively, for a total amount of RMB 29.2 (approximately
$4.7 million) million. The amount of RMB 29.2(approximately $4.7 million) million was recorded as short term loan and RMB 0.8 million
(approximately $0.13 million) as debt issue cost which is amortized over the term the product financing at an effective interest
rate of 5.37%. For the year ended December 31, 2012, the amortization of debt issue cost was RMB 462,701(approximately $73,343).
The final payment amounting to RMB 2,454,780 (approximately $401,109) will be paid by Great Wall in April, 2013. The price difference
between sales and repurchase of the goods of RMB 584,185 (approximately $91,957) represents interest to be paid to Great Wall.
The Company calculated this portion of interest with an effective interest rate of 4.13%. For the year ended December 31, 2012,
the interest payable of RMB 363,223 (approximately $57,574) was recorded as accrued expenses and other liabilities. In addition,
China Energy Recovery, Inc., the parent company, guaranteed the repayment of CER Shanghai. There is no other collateral in the
contract. This product financing arrangement was entered into to offset concerns related to the Company’s liquidity given
the extension of payment terms on accounts receivable due from Zhenjiang Kailin, which are further discussed in Note 16 and the
Company’s $5 million long term loan with Hold and Opt Investments Limited (“Hold and Opt”) originally due on
September 29, 2012, and subsequently extended with a new maturity date of no later than December 15, 2012. The Company repaid this
loan on December 13, 2012.
Formerly convertible debt (presented
as current portion of long term loans)
|
Borrowing
|
|
Borrowing
date
|
|
Interest
rate
|
|
Maturity
date
|
|
Balance at
Dec. 31, 2011
|
|
Balance at
Dec. 31, 2012
|
|
Pledge or
guarantee
|
|
$ 5 million – Hold And Opt Investments Limited
|
|
Dec. 31, 2010
|
|
15.100%
|
|
Sept. 29, 2012
|
|
USD 4,850,945
|
|
USD 0
(repaid Dec.13, 2012)
|
|
Collateralized by 8,000,006 of Qinghuan Wu's shares in CER.
|
On May 21, 2009, the Company entered into
a term loan agreement (“Convertible Notes Agreement”) with Hold and Opt, an investment company (the “Lender”).
Pursuant to the Convertible Notes Agreement, the lender provided term loan financing (“Convertible Notes”) to
the Company in an amount of up to $5,000,000 within 6 months of the making, which may be drawn from time to time, in
whole or in installments, upon notice, but once repaid shall not be subject to reborrowing. The proceeds from this Convertible
Note were used for the construction of the Company’s new plant located in Yangzhou, China including, the purchase of land
for the plant, buildings, equipment, and for the facilitating of financing loans from one or more in-China banks and other institutional
lenders. Any amount borrowed will bear interest at 9.5%, payable every six months, calculated and compounded quarterly. Each draw
is due twenty-four (24) months after the draw down date, together with any accrued and unpaid interest. The Company drew down $5,000,000
on September 29, 2009. The Convertible Notes could be converted to 2,777,778 shares of common stock at the conversion price of
$1.80. In addition, the Company issued the Lender a five-year common stock purchase warrant (“Warrants”) to purchase
up to 1,388,889 shares of the Company’s common stock, which is that number of shares of the Company’s common stock
equal to 50% of the principal sum of these Convertible Note divided by the conversion price of $1.80.
The Lender may recall a Convertible Note
after the first anniversary of the draw down at a redemption price equal to the outstanding principal plus any accrued and unpaid
interest upon the closing by the Company of any debt and/or equity financing (except for debt financings with banks or institutional
lenders in China), in an amount up to 50% of the amount financed. Additionally, upon occurrence of certain events, the Lender can
demand the entire outstanding principal, together with any accrued and unpaid interest to be immediately repaid in full or in part.
The Company can also prepay the Convertible Note at any time it desires with accrued and unpaid interest.
The embedded conversion feature of the
Convertible Notes was accounted for as an embedded derivative in accordance with ASC 815 “
Derivatives and Hedging”
because the conversion price is denominated in USD, which is a currency other than the Company’s functional currency, RMB.
The conversion feature was accounted for as a derivative liability on the balance sheet and classified as a current liability based
on the timing of the cash flows derived from the convertible notes. The Convertible Notes were recorded with a discount equal to
the fair value of the conversion feature at the transaction date and were accreted to the redemption value of the Convertible Notes
from the draw down date to September 30, 2011 (the date of extinguishment of the conversion feature) using the effective interest
rate method. The change in fair value of the conversion feature derivative liability of $203,916 was recorded in the consolidated
statement of income and comprehensive income for the year ended December 31, 2011, with no similar amount for the year ended December
31, 2012 due to the termination of the derivative. The interest expense recognized for accretion to the redemption value of the
Convertible Notes was $159,363 and $149,055 for the year ended December 31, 2011 and 2012, respectively.
The value of the Warrants at the grant
date on May 21, 2009 was accounted for as a commitment fee for obtaining the Convertible Notes, and therefore the value was recorded
as deferred financing cost to be amortized over the period from the grant date to September 30, 2011 (the date of extinguishment
of the conversion feature) of the Convertible Notes. For the year ended December 31, 2011, $215,623 of deferred financing costs
were amortized and charged to interest expense, with no amounts recognized in 2012 due to the cessation of recognition of remaining
costs in 2011. The Warrants were recorded as derivative liabilities in accordance with ASC 815,
Derivatives and Hedging
,
because the exercise price of the warrants is denominated in USD, which is a currency other than the Company’s functional
currency, RMB. Changes in fair value of the warrants (Note 12) for the year ended December 31, 2011 and 2012 were recorded
in the consolidated statement of income and comprehensive income.
On December 31, 2010, the Company entered
into a loan agreement with the Lender to replace and continue the prior lending arrangement which was entered into on May 21, 2009,
to extend the term until which the principal amount of $5,000,000 is due to September 29, 2012, and to change certain of the terms
of the loan. The aggregate principal amount of the loan extension is $5,000,000, and bears interest at the annual rate of 15.1%,
calculated on a monthly compounded basis. The loan may be prepaid by the Company, without penalty. The loan agreement provides
for the typical events of default (which includes default in payment of any part of the principal of or interest, performance or
compliance with the collateral agreement, assets attached or seized by any third person and or any part of the loan agreement being
declared null and void or its enforceability being challenged), including a cross default clause, and the Company has made various
representations and given various covenants to the lender, which includes the audit of the Company’s annual financial statements
and review of the interim financial statements as well as the timely filing of such statements, including any extension periods
permitted under SEC rules and regulations. The Lender continues to have a right of first refusal with respect to future debt and
equity fundings and a right to consent to certain debt and equity fundings by the Company and its subsidiaries and affiliates.
As a guarantor of the payments under the loan extension, Mr. Wu, the Chief Executive Officer of the Company, pledged 8,000,006
of his shares in CER for the repayment of the principal due under the loan agreement.
On October 22, 2012, CER entered into an
extension to continuation and loan arrangement with Hold And Opt, effective as of September 29, 2012 (“Loan Date”). At
the Loan Date, both principal and interest due under the loan agreement remained outstanding. The extended maturity date for the
Loan Amount is November 30, 2012, with a grace period not to extend beyond December 15, 2012. CER shall make a mandatory prepayment
of $3,000,000 by no later than November 10, 2012. The outstanding principal and interest amount under this extension agreement
shall bear interest at a rate of 1.5% per month, commencing on the Loan Date, and continuing until the principal is paid in full. CER
repaid $2,000,000 and $3,850,000 on October 31, 2012 and December 13, 2012, respectively, and then repaid $206,011 in January,
2013, for a total repayment amount of $6,056,011, which represents all principal, interest, penalties and exchange rate differential
payments.
The conversion feature expired, and there
is no conversion term on the modified convertible debt described above, since September 30, 2011.
The Company has accounted for the replacement
and extension of the loan agreement as a modification as the changes are not substantial such that there has been no accounting
extinguishment in accordance with ASC 470,
“Debt – Modifications and Extinguishments.”
Accordingly a new
effective interest rate was determined based on the carrying amount of the original debt and the revised cash flows of the new
debt.
Since the loan is fixed in United States
dollars, the lender will receive compensation when the Renminbi exchange rate increases against the US dollar as compared to the
rate fixed at the borrowing date. Accordingly, the Company has accounted for this indexed feature as an embedded derivative and
recognized a derivative liability in the amounts of $21,274 and $0 as of December 31, 2011 and 2012, respectively. There are no
derivative liabilities under the compensation terms of the loan agreement as the original loan is due. The change in fair value
of the derivative liability of $21,274 was recorded in the consolidated statements of income and comprehensive income for
the year ended December 31, 2012.
Note 8 – Notes Payable
Notes payable represents bank acceptance
drafts that are non-interest bearing and due within six months. The balance of the bank acceptance drafts is $1,396,648 and $168,657
as of December 31, 2011 and 2012, respectively.
|
|
|
Notes Payable
|
|
Draw down
date
|
|
Maturity
date
|
|
Balance at Dec.
31, 2012
|
|
Pledge or
guarantee
|
|
(1)
|
|
RMB 8.8 million – Industrial and Commercial Bank of China Limited, Shanghai Zhangjiang Branch
|
|
May. 30, 2012
|
|
Nov. 29, 2012
|
|
RMB 0
(repaid November 1, 2012)
|
|
Collateralized by a building in Shanghai owned by Jiangsu SOPO.
|
|
(2)
|
|
RMB 4.7 million – China CITIC Bank, Yangzhou Branch.
|
|
May. 23, 2012
|
|
Nov 23, 2012
|
|
RMB 0
(repaid Nov. 23)
|
|
Guaranteed by Jiangsu SOPO, and guaranteed by Mr. Qinghuan Wu, the Company’s Chief Executive Officer.
|
|
|
RMB 3.1 million – China CITIC Bank, Yangzhou Branch.
|
|
Apr. 24, 2012
|
|
Oct. 24, 2012
|
|
RMB 0
(repaid Oct. 24, 2012)
|
|
|
(3)
|
|
RMB 1.16 million – Bank of China, Yizheng Branch
|
|
Oct. 31, 2012
|
|
Apr. 26, 2013
|
|
RMB 1,050,757
(USD 168,657)
|
|
Pledged by 4 notes receivables, amounting to RMB 1.35 million.
|
|
|
|
Total notes payable
|
|
|
|
|
|
RMB 1,050,757
(USD 168,657)
|
|
|
|
|
(1)
|
On November 24, 2011, bank acceptance drafts amounting to RMB 8.8 million (approximately $1.4 million)
were arranged with Industrial and Commercial Bank of China Limited, Shanghai Zhangjiang Branch by CER Shanghai to settle its purchases
from certain customers. The bank acceptance drafts are collateralized by a building in Shanghai owned by Jiangsu SOPO. The total
amount of the bank acceptance drafts was repaid on May 22, 2012. On May 30, 2012, CER Shanghai renewed the issuance of the same
amount of bank acceptance drafts from Industrial and Commercial Bank of China Limited. The expiration date was November 29, 2012.
On November 1, 2012, the Company repaid RMB 8.8 million (approximately $1.4 million).
|
|
|
(2)
|
On March 30, 2012, CER Yangzhou entered into a 2 year comprehensive credit facility with the China
CITIC Bank, Yangzhou Branch. The facility is RMB 20,000,000 (approximately $3,175,000). The period of the comprehensive line of
credit is from March 30, 2012 to March 30, 2014. This facility is guaranteed by Jiangsu SOPO, and guaranteed by Mr. Qinghuan Wu,
the Company’s Chief Executive Officer. On April 24, 2012, CER Yangzhou drew down bank acceptance notes amounting to RMB 3,100,178
(approximately $493,269) after making a cash deposit of RMB 1,860,107(approximately $294,882) to the bank. On May 23, 2012, CER
Yangzhou drew down bank acceptance notes amounting to RMB 4,700,000 (approximately $747,817) after making cash deposit of RMB 2,820,000
(approximately $448,690) to the bank. The expiration date was November 23, 2012. On October 23, 2012 and November 23, CER Yangzhou
repaid RMB 3,100,178 (approximately $493,269) and RMB 4,700,000 (approximately 746,000), respectively.
|
|
|
(3)
|
On October 31, 2012, bank acceptance drafts amounting to RMB 1,050,757 (approximately $168,657)
were arranged with Bank of China, Yizheng Branch by CER Yangzhou. The bank acceptance drafts were pledged by several notes receivable
for a total amount of RMB 1.35 million. The maturity date of these bank acceptance drafts is April 26, 2013.
|
Note 9 – Taxation
USA
The Company is subject to U.S. income tax
at a rate of 34% on its assessable profits.
Hong Kong
CER (Hong Kong) subsidiaries were subject
to Hong Kong profit tax at a rate of 16.5% on their assessable profits. No Hong Kong profit tax has been assessed as the Group
did not have assessable profit that was earned in or derived within the legal boundaries of Hong Kong during the periods presented.
PRC
The New Enterprise Income Tax ("EIT")
law was effective January 1, 2008 and the standard EIT rate is 25%. Pursuant to the PRC tax law, net operating losses
can be carried forward 5 years to offset future taxable income.
For the quarter ended March 31, 2012, the
Group’s Hong Kong subsidiary, CER (Hong Kong), had, for the first time, estimated taxable profits earned in the PRC; CER
(Hong Kong) has generated estimated taxable profits since then. As such, CER (Hong Kong) is to be regarded under the PRC tax laws
as having permanent establishment for business activities carried out in the PRC, and would be subject to PRC tax at the standard
EIT rate of 25%. In 2012, given the Group is likely to be regarded as having permanent establishment, CER (Hong Kong) recognized
taxes, included in the consolidated tax provision, of $773,186. The primary reason for CER (Hong Kong)’s generation of taxable
income was the non-deductibility, under PRC tax law, of a $1.5 million expense incurred for a penalty payment to an EPC construction
contract related party customer which is further described in Note 16 and income tax for the intra-entity sales of the subsidiary’s
shares further described in Note 1. This tax provision, as well as increases in PRC tax expense for the Group’s profitable
subsidiaries, were primarily responsible for the significant increase in the Group’s effective tax rate for 2012 compared
to 2011.
Pursuant to the PRC income tax laws, Shanghai
Engineering and CER Shanghai are subject to enterprise income tax at a statutory rate of 15% and 12.5% respectively, each for a
three year period ending in 2014, as they were recognized as high and new technology entities (“HNTEs”) in April, 2011.
CER Yangzhou is subject to enterprise income tax at a statutory rate of 25%.
A reconciliation of the Company’s
statutory rate in the jurisdiction of domicile to the actual effective tax rate for all periods presented is as follows.
|
|
|
2011
|
|
|
2012
|
|
|
Statutory U.S. Federal rate
|
|
|
34.00
|
%
|
|
|
34.00
|
%
|
|
Tax differential from statutory rate applicable to entities in the PRC
|
|
|
(18.45
|
)%
|
|
|
(4.81
|
%)
|
|
Permanent differences
|
|
|
(20.28
|
)%
|
|
|
32.82
|
%
|
|
Effect of change in the tax rates
|
|
|
-
|
|
|
|
1.00
|
%
|
|
Valuation allowance for deferred tax assets
|
|
|
31.80
|
%
|
|
|
29.97
|
%
|
|
Effect of intra-entity sales
|
|
|
-
|
|
|
|
18.47
|
%
|
|
Effective tax rate
|
|
|
27.07
|
%
|
|
|
111.45
|
%
|
The primary driver of the Company’s
effective tax rate, and year-over-year changes in the effective tax rate, is adjustments to the valuation allowance offsetting
those deferred tax assets of the Company’s subsidiaries and VIE which more likely than not will not be realized based upon
a recent history of losses and the uncertainties and subjectivity regarding projections of future taxable income. While China Energy
Recovery,, Inc. is a Delaware corporation subject to U.S. Federal income tax (to the extent of any taxable profits), all of the
Company’s earned profits and substantial business are derived from the PRC. Further, while the Company’s Hong Kong
subsidiary CER Hong Kong earns profits, such profits are earned outside the legal boundaries of Hong Kong and therefore are not
subject to tax under the Hong Kong tax law. Therefore, the income mix between the PRC and non-PRC entities is the second largest
driver of differences between the statutory rate and the effective tax rate. The effect of permanent differences consists primarily
of entertainment expenses in excess of the prescribed cap, the penalty to for the economic losses suffered by Zhenjiang Kailin
resulting from project delay (further discussed in Note 16) and the gains recognized from reductions in the fair value of the Company’s
derivative liabilities (these gains were larger in 2011); such gains and losses are not subject to income tax.
Deferred tax assets and liabilities, without
taking into consideration the offsetting of balances, are as follows:
|
|
|
December 31, 2011
|
|
|
December 31, 2012
|
|
|
Deferred tax assets, non-current:
|
|
|
|
|
|
|
|
|
|
Tax loss carry forwards
|
|
|
4,329,036
|
|
|
|
4,312,392
|
|
|
Kailin Discount
|
|
|
-
|
|
|
|
523,814
|
|
|
Deferred revenue
|
|
|
22,267
|
|
|
|
30,826
|
|
|
Provision for impairment loss of receivables and provision for inventory
|
|
|
307,591
|
|
|
|
240,651
|
|
|
Valuation allowance
|
|
|
(3,986,275
|
)
|
|
|
(4,319,270
|
)
|
|
Total deferred tax assets
|
|
|
672,619
|
|
|
|
788,413
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred tax liabilities, non-current:
|
|
|
|
|
|
|
|
|
|
Taxable temporary difference related to derivative liabilities
|
|
|
(50,679
|
)
|
|
|
-
|
|
|
Total deferred tax liabilities
|
|
|
(50,679
|
)
|
|
|
-
|
|
The net balances of deferred tax assets
and liabilities after offsetting are as follows:
|
|
|
December 31, 2011
|
|
|
December 31, 2012
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred tax assets, non-current, net
|
|
|
621,940
|
|
|
|
788,413
|
|
On February 22, 2008, the Ministry of Finance
(“MOF”) and the State Administration of Taxation (“SAT”) jointly issued Cai Shui [2008] Circular 1 (“Circular
1”). According to Article 4 of Circular 1, distributions of accumulated profits earned by a foreign investment enterprise
(“FIE”) prior to January 1, 2008 to foreign investor(s) in 2008 or after will be exempt from withholding tax (“WHT”)
while distribution of the profit earned by an FIE after January 1, 2008 to its foreign investor(s) shall be subject to WHT at a
rate up to 10% (lower rate is available under the protection of tax treaties). Since the Company intends to indefinitely reinvest
its earnings to further expand the businesses in mainland China, the foreign invested enterprises do not intend to declare dividends
to their immediate foreign holding companies in the foreseeable future. As a result, if any dividends are declared out of the cumulative
retained earnings as of December 31, 2007, they should be exempt from WHT. Accumulated profits of non-US subsidiaries as of December
31, 2011 and 2012 were approximately $1,102,139 (RMB 7,687,921), and $1,942,799 (RMB 12,256,631), respectively, and they are considered
to be indefinitely reinvested. Moreover, the Company’s liquidity position does not require transfers of cash outside of the
PRC to the parent jurisdiction (U.S.), as all business activity and debt is carried on in the PRC. The Company has not paid dividends
on its common shares and does not have an intention of doing so in the foreseeable future. Accordingly, no provision has been made
for deferred taxes. No dividends were declared out of cumulative retained earnings as of December 31, 2011 or 2012.
Pre-tax (loss) income was generated in the following jurisdictions
for 2011 and 2012:
|
|
|
2011
|
|
|
2012
|
|
|
PRC
|
|
$
|
2,341,534
|
|
|
$
|
(757,078
|
)
|
|
Hong Kong
|
|
|
453,592
|
|
|
|
3,022,606
|
|
|
United States
|
|
|
(58,816
|
)
|
|
|
(929,946
|
)
|
|
Total pre-tax (loss) income
|
|
$
|
2,736,310
|
|
|
$
|
1,335,582
|
|
For the years ended December 31, 2011 and 2012, PRC tax expense
primarily represents tax provisions on the taxable profits of CER Shanghai and Shanghai Engineering.
|
|
|
2011
|
|
|
2012
|
|
|
U.S. income tax expense / (benefit)
|
|
$
|
-
|
|
|
$
|
-
|
|
|
H.K. income tax expense / (benefit)
|
|
|
-
|
|
|
|
773,186
|
|
|
PRC deferred income tax expense / (benefit)
|
|
|
(450,164
|
)
|
|
|
(157,433
|
)
|
|
PRC current income tax expense / (benefit)
|
|
|
1,190,806
|
|
|
|
622,536
|
|
|
Total income tax expense
|
|
$
|
740,642
|
|
|
$
|
1,238,289
|
|
The Company is incorporated in the U.S.
and incurred a net operating loss for income tax purposes for the years ended December 31, 2011 and 2012. The net operating loss
carry forwards for the U.S. income tax purposes were approximately $8,355,602 and $9,180,572 at December 31, 2011 and 2012, respectively,
which may be available to reduce future years' taxable income. These carry forwards will expire, if not utilized, in 20 years from
origination. Management believes that the realization of the benefits arising from these accumulated net operating losses is uncertain
due to the Company's limited operating history, continuing losses for United States income tax purposes, and the fact that substantially
all of the Company’s business activity is derived from the PRC. Accordingly, the Company has offset all of the gross deferred
tax assets for such net operating losses with additional valuation allowances recorded through income tax expense, which are a
significant driver of the Company’s effective tax rate, given the history of loss and the uncertainty regarding the future.
Remaining net deferred tax assets consist only of those supported by reversing deferred tax liabilities, as well as any deferred
tax assets related to the PRC that management has concluded are more likely than not of being realized.
As of
December
31
, 2012, the Company did not have any material uncertain tax positions subject to the provisions of
ASC 740-10; as such, there are no liabilities for unrecognized tax benefits. As described earlier in this Note, the Group provided
for PRC EIT tax on profits earned by the Group’s Hong Kong subsidiary in the PRC.
Note 10 – Earnings per Share
The Company reports earnings per share
in accordance with the provisions of ASC 260,
“Earnings Per Share.”
This standard requires presentation of basic
and diluted earnings per share in conjunction with the disclosure of the methodology used in computing such earnings per share.
Basic earnings (loss) per share excludes dilution and is computed by dividing net income (loss) available to common stockholders
by the weighted average common shares outstanding during the period under the two-class method. Diluted earnings per share takes
into account the potential dilution that could occur if securities or other contracts to issue common stock were exercised and
converted into common stock. In computing the dilutive effect of convertible securities, the number of shares is adjusted for the
additional common stock to be issued as if the convertible securities are converted at the beginning of the period (or at the time
of issuance, if later). In computing the dilutive effect of options and warrants, the treasury method is used. Under this method,
options and warrants are assumed to be exercised at the beginning of the period and as if funds obtained thereby were used to purchase
common stock at the average market price during the period. The following table lists the potentially dilutive securities
at December 31, 2012 related to our compensation plans under which shares of our common stock are authorized for issuance.
|
Potentially Dilutive Securities
|
|
Number of Securities
to be Issued
|
|
|
Reference
Index
|
|
Dilutive securities from warrants issued as part of financing with Series A preferred stock
|
|
|
1,852,820
|
|
|
Note 12
|
|
Dilutive securities from warrants issued with convertible notes
|
|
|
1,388,889
|
|
|
Note 12
|
|
Dilutive securities from options to Ye Tian
|
|
|
500,000
|
|
|
Note 13
|
|
Dilutive securities from options to Estelle Lau
|
|
|
60,000
|
|
|
Note 13
|
|
Dilutive securities from options to Sum Kung
|
|
|
60,000
|
|
|
Note 13
|
|
Dilutive securities from options to Jules Silbert
|
|
|
60,000
|
|
|
Note 13
|
|
Total potentially dilutive securities
|
|
|
3,921,709
|
|
|
|
For the year ended December 31, 2011, warrants
to purchase 3,241,709 shares of the Company’s common stock and options to purchase 590,000 shares were excluded from the
diluted earnings per share calculation because of their anti-dilutive effects.
For the year ended December 31, 2012, warrants
to purchase 3,241,709 shares of the Company’s common stock and options to purchase 650,000 shares were excluded from the
diluted earnings per share calculation because of their anti-dilutive effects due to the low share price as of December 31, 2012.
The following is a reconciliation of the
basic and diluted earnings per share computations for the years ended December 31, 2011 and 2012.
|
|
|
For the year ended December 31,
|
|
|
|
|
|
2011
|
|
|
|
2012
|
|
|
Numerator:
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
1,995,668
|
|
|
$
|
97,293
|
|
|
Amount allocated to preferred stockholders
|
|
|
(6,795
|
)
|
|
|
(331
|
)
|
|
Net income available to common stock holders
|
|
|
|
|
|
|
|
|
|
-Basic and diluted
|
|
|
1,988,873
|
|
|
|
96,962
|
|
|
Denominator:
|
|
|
|
|
|
|
|
|
|
Denominator for basic earnings per share
|
|
|
|
|
|
|
|
|
|
-Weighted average common shares outstanding
|
|
|
31,033,148
|
|
|
|
31,077,632
|
|
|
-Weighted average dilutive shares
|
|
|
-
|
|
|
|
-
|
|
|
Denominator for diluted earnings per share
|
|
|
31,033,148
|
|
|
|
31,077,632
|
|
|
Basic earnings per share
|
|
$
|
0.06
|
|
|
$
|
0.003
|
|
|
Diluted earnings per share
|
|
|
0.06
|
|
|
|
0.003
|
|
Note 11 – Convertible Preferred Stock
Series A Convertible Preferred Stock
On April 15, 2008 and as a condition to
closing of the Share Exchange, CER entered into Securities Purchase Agreements with 25 accredited investors pursuant to which CER
issued and sold an aggregate of 7,874,241 units at a unit price of $1.08 (the "Financing"). Each unit consisted of one
share of CER's Series A convertible preferred stock, par value of $0.001, and one warrant to purchase one-half of one share of
CER's common stock at an exercise price of $1.29 per share. After the 1-for-2 reverse stock split conducted on April 16, 2008,
the 7,874,241 shares of the Company’s Series A convertible preferred stock are convertible into 3,937,121 shares of common
stock and the warrants are exercisable into 1,968,561 shares of the Company's common stock at an exercise price of $2.58 per share.
The issuance costs of $1,859,902, including commissions, legal fees and transaction expenses were taken from the gross proceeds.
The net proceeds were allocated between the Series A convertible preferred stocks and warrants based on their relative fair values.
As of the closing date, the fair value of Series A convertible preferred stock was estimated at $1.68 where as the fair value of
the warrants was estimated at $0.85. As a result, an aggregate amount of $5,307,539 was allocated to Series A convertible preferred
stocks and $1,336,739 was allocated to the warrants. The fair value of the warrants was initially valued using the binomial model
with assumptions such as, stock price, volatility, expected term, dividend, risk-free interest rate, etc.
The rights, preferences and privileges
with respect to the Series A convertible preferred stock are as follows:
Voting
Holders of Series
A convertible preferred stock are entitled to the number of votes equal to the number of shares of common stock into which such
shares of preferred stock could be converted and to vote as a single class.
Dividends
Holders of Series
A convertible preferred stock are entitled to dividends when dividends are declared for common stockholders. There have been no
dividends declared to date.
Liquidation
In the event of any
liquidation, dissolution or winding up of the Company, the holders of Series A convertible preferred stock shall be entitled to
receive the amount of the original issue price per share (as adjusted for the 1-for-2 reverse stock split) for each Series A convertible
preferred stock, plus all declared and unpaid dividends.
Conversion
Each share of Series
A convertible preferred stock is convertible into common stock on a one-for-one basis, anytime at the option of the holder. The
current conversion price is $2.16 after taking into effect the 1-for-2 reverse stock split, and the conversion price is subject
to adjustment in accordance with the anti-dilution clause.
Adjustment of Series A Convertible
Preferred Stock Conversion Price and Warrant Exercise Price
In accordance to the anti-dilution clause
of the afore-mentioned Financing, if the Company shall issue additional shares without consideration or for consideration per share
less than the conversion price and/or the warrant exercise price immediately prior to the issuance, such conversion price
and exercise price shall be adjusted.
For the years ended 2011 and 2012,
no
shares of Series A convertible preferred stock were converted.
As of December 31, 2011 and 2012, the Company
had 200,000 shares of Series A convertible preferred stock issued and outstanding.
Note 12 – Warrant and Derivative Liabilities
Under authoritative FASB Accounting Standards
Codification guidance pertaining to whether an instrument (or embedded feature) is indexed to an entity’s own stock, instruments
that do not have fixed settlement provisions are deemed to be derivative instruments. The conversion feature embedded derivative
extinguished in 2011 and embedded derivative related to exchange rate settlement differentials of the Company’s convertible
note (described in Note 7), the related warrants issued with the convertible note, and the warrants issued in connection with Series
A convertible preferred stock do not have fixed settlement provisions because their conversion and exercise prices are denominated
in USD, which is a currency other than the Company’s functional currency, RMB. Additionally, the Company was required to
include the reset provision in order to protect the holders from potential dilution associated with future financings. In accordance
with the FASB authoritative guidance, the conversion feature embedded derivative and exchange rate settlement differential embedded
derivative of the Convertible Notes were separated from the host contract (i.e. the Convertible Notes) and recognized as derivative
liabilities in the balance sheet, and the derivatives associated with warrants issued in connection with the Convertible Notes
and Series A preferred stocks have been recorded as warrant liabilities in the balance sheet to be re-measured at the end of every
reporting period with changes in fair value reported in the consolidated statements of income and other comprehensive income.
As of September 30, 2011, the conversion
feature expired on the formerly convertible debt and there is no longer any conversion term on the modified loan as described in
Note 7.
The derivative liabilities were valued
using both the Black-Scholes and Binomial valuation techniques with the following assumptions. We calculated the fair value of
the derivative liability related to the convertible notes on exchange rate at repayment versus exchange rate at loan origination
differential, which relates to the repayment of the notes and is distinct and separate from the embedded derivative liability formerly
recorded for the now-expired conversion feature, based on the following key assumptions. As at December 31, 2012, the fair value
of derivative liabilities associated with convertible notes was $0 as the terms of exchange rate differential payment expired on
September 29, 2012. Accordingly, the amount to be paid due to the exchange difference in the principal was $70,760, which was recorded
in accrued expenses and other liabilities as of December 31, 2012.
Derivative liability from convertible notes
(exchange rate settlement differential)
|
|
December 31, 2011
|
|
|
December 31, 2012
|
|
|
|
|
|
|
|
|
|
|
Estimated forward rate
|
|
|
6.34
|
|
|
|
-
|
|
|
Discount rate
|
|
|
0.64
|
%
|
|
|
-
|
|
|
Discount factor
|
|
|
0.995
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair value
|
|
$
|
21,274
|
|
|
$
|
-
|
|
Derivative liability associated with warrants issued in connection
with convertible notes:
|
|
|
December 31, 2011
|
|
|
December 31, 2012
|
|
|
Number of shares exercisable
|
|
|
1,388,889
|
|
|
|
1,388,889
|
|
|
Stock price
|
|
|
0.38
|
|
|
|
0.15
|
|
|
Exercise price
|
|
|
1.8
|
|
|
|
1.8
|
|
|
Expected dividend yield (d)
|
|
|
-
|
|
|
|
-
|
|
|
Expected life (in years) (c)
|
|
|
2.39
|
|
|
|
1.39
|
|
|
Risk-free interest rate (a)
|
|
|
0.32
|
%
|
|
|
0.19
|
%
|
|
Expected volatility (b)
|
|
|
61
|
%
|
|
|
47.5
|
%
|
|
Fair Value:
|
|
|
|
|
|
|
|
|
|
Derivative liability - warrants issued in connection with Convertible Notes
|
|
|
20,920
|
|
|
|
-
|
|
|
|
(a)
|
The risk-free interest rate is based on U.S. Treasury securities with compatible life terms.
|
|
|
(b)
|
Due to the short trading history of the Company’s stock, the Company uses the volatility
of comparable guideline companies to estimate volatility.
|
|
|
(c)
|
The expected life of the conversion feature of the notes was based on the term of the notes and
the expected life of the warrants was determined by the expiration date of the warrants.
|
|
|
(d)
|
The expected dividend yield was based on the fact that the Company has not paid dividends to common
shareholders in the past and does not expect to pay dividends to common shareholders in the future.
|
Note 13 - Stock-Based Compensation
Stock Option Plan
In September 2008, the board of directors
approved the Company’s Stock Option Plan and granted 335,000 options to acquire the Company’s common stock at $2.90
per share to five non-employee directors and consultants under the 2008 Plan. The option plan has been revised and approved
at the shareholders’ meeting as of November 20, 2011
(there were no significant changes impacting
valuation or accounting for share based compensation)
. Detailed terms of the plan are described as follows with each grant.
Stock Options
On June 24, 2009, the Company appointed
one independent director and granted him stock options to purchase 500,000 shares of the Company’s common stock. The options
would vest and become exercisable in eight equal installments evenly spread out during the three year period beginning from
July 1, 2009. On September 7, 2009, the Company appointed another independent director and granted her a stock option to purchase
60,000 shares of the Company’s common stock. The options would vest and become exercisable in eight equal installments evenly
spread out during the two year period beginning from October 1, 2009.
On June 7, 2011, the Board of Directors
resolved to modify these option grants and adjusted the exercise price of one incumbent director’s options from $1.22 to
$0.73 per share and another director’s options from $1.58 to $0.73 per share. The Board also resolved to accelerate the vesting
period of one retired director, such that all the shares underlying the option were deemed vested as of June 7, 2011. The total
incremental compensation cost in respect of such acceleration and option modification was $202,106, which was recorded in the second
quarter of 2011.
On June 13, 2011, with the resignation
of two former directors, the Company appointed another two directors and granted them both stock options to purchase 60,000 shares
of the Company’s common stock. The options will vest and become exercisable in eight equal quarterly installments evenly
spread out during the two year period beginning from July 1, 2011. Unvested options shall be terminated and forfeited upon the
termination of a holder’s director status.
The Company used the Black-Scholes Model
to value the options at the time they were granted and to revalue the options when the option agreement terms were changed. The
following table summarizes the assumptions used in the Black-Scholes Model when calculating the fair value of the options at the
grant dates
(for 2011, as there were no grants in 2012)
or revaluation dates. The contractual
term of all options granted by the Company is 10 years.
|
Fair value per share
|
|
|
$ 0.39- $ 0.47
|
|
|
Expected Term(Years)
|
|
|
4.00-5.56
|
|
|
Exercise Price
|
|
|
$0.73
|
|
|
Expected Volatility
|
|
|
72%-76%
|
|
|
Risk Free Interest Rate
|
|
|
1.16%-1.82%
|
|
Since the Company does not have a sufficient
applicable history of employee stock options activity, the Company uses the simplified method to estimate the life of the options
by taking the sum of the vesting period and the contractual life and then calculating the midpoint which is the estimated term
of the options.
For the years ended December 31, 2011 and
2012, the Company vested in 177,500 and 60,000 shares respectively and recognized $260,224 and $28,266 of compensation expense,
respectively.
As of December, 2012, the remaining compensation
expense related to non-vested awards not yet recognized is $14,133 and the weighted-average period is six months.
Following is a summary of options outstanding
and exercisable for each of the Company’s four individual stock option grants to directors at December 31, 2012. There are
no other grants to directors or employees.
|
Outstanding Options
|
|
|
Exercisable Options
|
|
|
Exercise
|
|
|
Number
|
|
|
Remaining
|
|
|
|
|
|
Number
|
|
|
Remaining
|
|
|
price
|
|
|
|
|
|
contractual
|
|
|
Exercise
|
|
|
|
|
|
contractual
|
|
|
|
|
|
|
|
|
term (years)
|
|
|
price
|
|
|
|
|
|
term (years)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
0.73
|
|
|
|
60,000
|
|
|
|
6.75
|
|
|
$
|
0.73
|
|
|
|
60,000
|
|
|
|
6.75
|
|
|
$
|
0.73
|
|
|
|
500,000
|
|
|
|
6.50
|
|
|
$
|
0.73
|
|
|
|
500,000
|
|
|
|
6.50
|
|
|
$
|
0.73
|
|
|
|
60,000
|
|
|
|
8.50
|
|
|
$
|
0.73
|
|
|
|
45,000
|
|
|
|
8.50
|
|
|
$
|
0.73
|
|
|
|
60,000
|
|
|
|
8.50
|
|
|
$
|
0.73
|
|
|
|
45,000
|
|
|
|
8.50
|
|
|
|
Total
|
|
|
|
680,000
|
|
|
|
|
|
|
|
|
|
|
|
650,000
|
|
|
|
|
|
Following is a summary of the option activity:
|
Outstanding as of December 31, 2010
|
|
|
560,000
|
|
|
Granted
|
|
|
120,000
|
|
|
Forfeited
|
|
|
-
|
|
|
Exercised
|
|
|
-
|
|
|
Outstanding as of December 31, 2011
|
|
|
680,000
|
|
|
Granted
|
|
|
-
|
|
|
Forfeited
|
|
|
-
|
|
|
Exercised
|
|
|
-
|
|
|
Outstanding as of December 31, 2012
|
|
|
680,000
|
|
|
Vested and exercisable as of December 31, 2012
|
|
|
650,000
|
|
Note 14 – Other Non-operating Expense (Income), Net
Other non-operating expenses (income) consist
primarily of foreign exchange losses on purchasing transactions and subsidy income.
|
|
|
For the year ended December 31,
|
|
|
|
|
2011
|
|
|
2012
|
|
|
|
|
|
|
|
|
|
|
Foreign exchange losses (income)
|
|
|
1,340,484
|
|
|
|
(126,136
|
)
|
|
Other non-operating income
|
|
|
(917,120
|
)
|
|
|
(202,853
|
)
|
|
Total other non-operating expenses (income), net
|
|
$
|
423,364
|
|
|
($
|
328,989
|
)
|
During the year ended December 31, 2011,
CER purchased imported equipment via advance payments to suppliers through the holding company CER Hong Kong, which then resold
the equipment to mainland PRC inter-company subsidiaries (CER Shanghai and CER Yangzhou). With RMB appreciation against the US
dollar from RMB 6.62 to $1 to RMB 6.30 to $1 over the year ended December 31, 2011, an exchange loss of $1.3 million was realized
for the year ended December 31, 2011 due to the large amount of import transactions related to CER Yangzhou, whereas due to the
slight appreciation of RMB against USD over the year ended December 31, 2012, an exchange gain of $126,136 was realized for the
year ended December 31, 2012.
Other non-operating income mainly consisted
of subsidy income received by CER Yangzhou from a research and development fund administered by the Yizheng industrial park and
subsidy income received by CER Shanghai and Shanghai Engineering from a transformation and upgrading fund administered by the Shanghai
local bureau of finance. This subsidy income is not tied to any specific element of the business, and cannot be reclaimed by the
research and development fund.
Note 15 – Interest Expense, Net
For a detailed discussion of borrowings and balances underlying
interest expense, see Notes 7.
|
|
|
For the year ended December 31,
|
|
|
|
|
2011
|
|
|
2012
|
|
|
Interest on current portion of long term loan
|
|
|
647,760
|
|
|
|
698,298
|
|
|
Interest on long-term loans
|
|
|
200,476
|
|
|
|
-
|
|
|
Amortization of deferred financing costs
|
|
|
215,623
|
|
|
|
-
|
|
|
Accretion to face value on loans
|
|
|
241,233
|
|
|
|
149,055
|
|
|
Interest on short-term loans and letters of credit
|
|
|
484,341
|
|
|
|
1,143,865
|
|
|
Expense of common stock issued for settlement of exchange rate loss related to long term loan
|
|
|
144,498
|
|
|
|
-
|
|
|
Common stock issued in for consulting services
|
|
|
40,308
|
|
|
|
-
|
|
|
Bank note discount interest
|
|
|
85,195
|
|
|
|
221,263
|
|
|
Interest capitalized
|
|
|
(14,729
|
)
|
|
|
(134,579
|
)
|
|
Expense of exchange rate differential payment in relation to formerly convertible debt
|
|
|
-
|
|
|
|
70,760
|
|
|
Amortization of debt issue cost
|
|
|
-
|
|
|
|
73,343
|
|
|
Interest income
|
|
|
(228,102
|
)
|
|
|
(43,829
|
)
|
|
Accretion of SOPO interest income
|
|
|
-
|
|
|
|
(385,706
|
)
|
|
Accretion of Kailin interest income
|
|
|
-
|
|
|
|
(926,209
|
)
|
|
Warrant cancellation
|
|
|
(15,547
|
)
|
|
|
-
|
|
|
Total interest expense, net
|
|
$
|
1,801,056
|
|
|
$
|
866,261
|
|
Note 16 – Related Party Transactions
On October 20, 2011,
CER (Hong Kong) entered into an advanced payment agreement amounting to $669,800 with Haide, a company controlled by Mr. Qinghuan
Wu. The substance of this arrangement was a short term borrowing from a related party. Pursuant to the agreement, Haide on behalf
of CER (Hong Kong) paid to certain vendors $450,000 on October 20, 2011 and $219,800 on November 1, 2011, respectively. The terms
of the agreement provide for zero interest. CER (Hong Kong) repaid $550,000 to Haide on November 25, 2011. As of December 31, 2012,
the remaining balance of $119,800 was recorded in accrued expenses and other liabilities.
In March 2012, Mrs.
Jialing Zhou, a significant shareholder and wife of Mr. Qinghuan Wu, provided an interest-free loan of RMB 1,900,000 (approximately
$251,856) to Shanghai Engineering in several installments. The total amount was repaid as of September 30, 2012.
In December 2012,
Mrs. Jialing Zhou, a significant shareholder and wife of Mr. Qinghuan Wu, provided an interest-free loan of RMB 7,200,000 (approximately
$1,155,698) to Shanghai Engineering in several installments.
Zhenjiang Kailin
EPC project
On January 8, 2011,
CER signed a contract for the design, manufacture, and installation of a major waste heat recovery system with Zhenjiang Kailin.
The contract was valued at RMB 300 million (approximately $46 million), including the engineering part of RMB 8 million (approximately
$1 million), the procurement part of RMB 240 million (approximately $37 million) and the construction part of RMB 52 million (approximately
$8 million). This project was completed by the end of May, 2012. Transactions between CER and Zhenjiang Kailin are presented as
related party transactions because the Chairman, Chief Executive Officer and majority shareholder of Green Asia Resources, Inc.
(“Green Asia”), the parent company of Zhenjiang Kailin, is the owner of, and at that time, a significant creditor,
Hold and Opt (as discussed in Note 7, Short-Term Loans) and is a less than 5% shareholder of CER. Our executive officer own, as
a result of a private placement and prior consulting arrangement, a small number (less than 1%) of shares in Green Asia, and, at
the time the contract was signed, a less than 5% shareholder of both CER and Green Asia was a member of CER’s Board of Directors.
Management of each company is different and the directors at Green Asia and Zhenjiang Kailin are independent of CER. For the year
ended December 31, 2011 and 2012, revenue earned from the contract amounted to $32,503,158 and $6,598,459, respectively. The difference
between the original contract value of $46 million and total revenue recognized of $39 million mainly represented Value Added Tax
of $5.5 million and discount impact from long term receivables as a result of sales concession of $1.7 million (Note 3). The cost
of revenues associated with the original contract and the additional agreements entered into was $27,890,750 and $8,529,606 for
the year ended December 31, 2011 and 2012, respectively. The revenue, less the sales concession and penalty incurred, was not fully
offset by the upgrade contract revenue agreed to; further, additional incurred costs reduced the margin on the project to negative
29% for the year ended December 31, 2012.
Guarantees for
Zhenjiang Kailin project to CGN Energy Service Co., Ltd.
(“CGN Energy”).
On November 25, 2011,
CER Yangzhou entered into the first of three guaranty contracts with CGN Energy regarding the Zhenjiang Kailin’s financing
arrangement with a third party, CGN Energy. CER Yangzhou and Zhenjiang Kailin agreed to engage CGN Energy to provide financing
for a portion of the project contract price. As part of this financing arrangement, CER sold certain equipment integral to the
Zhenjiang Kailin project to CGN Energy at a price of RMB24.1 million (approximately $3.82 million). As the financing party, CGN
Energy resold the equipment to Zhenjiang Kailin via a structured payment arrangement covering a 24 month period at a price of RMB
29.8 million (approximately $4.73 million). The substance of this transaction is Zhenjiang Kailin obtaining financing from CGN
Energy to make payment to CER. CER Yangzhou entered into a guarantee contract with CGN Energy for the equipment sold, which was
installed as part of the sulfuric acid waste heat recovery project. Under the guarantee contract, if there is a default by Zhenjiang
Kailin, CGN Energy can assert claims in the following order: First in guarantee order is Zhenjiang Kailin’s pledge for payment
of its structured note with CGN Energy; Second in guarantee order is Jiangsu SOPO, a third party customer of CER and related party
of Zhenjiang Kailin: Lastly, if there is any remaining balance, CER Yangzhou is guaranteeing CGN Energy for the remaining payment.
The guarantee provided CGN Energy with an unconditional and irrevocable guarantee with joint responsibility to ensure that Zhenjiang
Kailin will fulfill the duties and responsibilities to pay CGN Energy on time under this financing arrangement.
On March 20, 2012,
CER and Zhenjiang Kailin agreed to engage CGN Energy to provide second financing for another portion of the project contract price
(similar to the financing arrangement with CGN Energy in November 2011). CER sold certain equipment integral to the project to
CGN Energy at a price of RMB30 million (approximately $4.8 million). As the financing party, CGN Energy resold the equipment to
Zhenjiang Kailin via a structured payment arrangement covering a 24 month period at a price of RMB 37.7 million (approximately
$6 million). CER Yangzhou also entered into a second guaranty contract with CGN Energy for the equipment sold, which was installed
as part of the sulfuric acid waste heat power generation project. The guarantee contract is of the same term as the first financing
arrangement, Zhenjiang Kailin’s pledge for payment of its structured note with CGN Energy is in the first guarantee order,
Jiangsu SOPO in second guarantee order and CER Yangzhou in the third guarantee order, which provided CGN Energy with an unconditional
and irrevocable guarantee with joint responsibility to ensure that Zhenjiang Kailin will fulfill the duties and responsibilities
to pay CGN Energy on time under the project contract.
On October 18, 2012,
CER Yangzhou entered into the third guaranty contract with Zhenjiang Kailin and CGN Energy in connection with a third financing
for Zhenjiang Kailin project (similar to the financing arrangement with CGN Energy in November 2011 and March 2012). CER Shanghai
and Shanghai Engineering signed two contracts to sell certain equipment to CGN Energy each at a price of RMB9.9 million (approximately
$1.57 million), for a total amount RMB 19.8 million (approximately $3.14 million), which was subsequently resold to Zhenjiang Kailin.
As the financing party, CGN Energy resold the equipment to Zhenjiang Kailin via a structured payment arrangement covering a 30
month period at a price of RMB23.4 million ( approximately $3.7 million). CER Yangzhou entered into a guaranty contract with CGN
Energy for the equipment sold, which was installed as part of in the sulfuric acid waste heat power generation project. Same as
the other two guarantee contracts disclosed above, if there is any default by Zhenjiang Kailin, CGN Energy must first look for
recourse from Zhenjiang Kailin’s pledge for payment of its structured note with CGN Energy; then Jiangsu SOPO, a third party
customer of CER and related party of Zhenjiang Kailin; and finally CER Yangzhou, which provided CGN Energy with an unconditional
and irrevocable guarantee with joint responsibility to ensure that Zhenjiang Kailin will fulfill the duties and responsibilities
to pay CGN Energy on time under the waste heat power generation project contract.
Except for the
guarantees for Zhenjiang Kailin project provided to CGN Energy and Bank of Jiangsu and product warranty for 12 months after
completion, there are no other guarantees for any other elements of the Zhenjiang Kailin project. The Company assessed the
arrangement under ASC 605-35 revenue recognition criteria and concluded the criteria, particularly the criterion regarding
collectability being reasonably assured, were met. As a similar guaranty could be obtained from a third party financial
institution and performance of the contract was probably completed, the Company separated the deliverable represented by the
guaranty from the rest of the contract price and recognized the initial fair value of the guaranty liability arising from the
guaranty contract as deferred revenue based on the quote guarantee fee percentage for loans with similar terms from financial
institutions.
As of December 31,
2012, the deferred revenue was $246,608. This amount will be amortized to revenue according to applicable U.S. GAAP accounting
requirements as the underlying structured payment obligation is satisfied by Zhenjiang Kailin’s payments to CGN Energy. As
of December 31, 2012, Zhenjiang Kailin has made all required payments to CGN Energy in compliance with the payment schedule.
Zhenjiang Kailin
EPC project penalty and upgrade contract
On May 8, 2012, CER
and Zhenjiang Kailin entered into an agreement whereby CER was to pay Zhenjiang Kailin RMB 8.9 million (approximately $1.5 million)
as a penalty (“the penalty”) for the economic losses suffered by Zhenjiang Kailin resulting from project delays past
the originally expected completion date of December 31, 2011. The original contract for the construction of the facility did not
contain any provisions for late completion or liquidated damages. As part of this agreement, CER agreed to assume additional costs
to bring the capacity of the sulfuric acid waste heat recovery system to original specifications and to install additional electric
utilities. The penalty payment is included in the accrued expenses and other liabilities as of December 31, 2012.
Also, during the second
quarter of 2012, the two parties signed an upgrade contract for the same facility valued at RMB 8 million (approximately $1.3 million).
The purpose of the enhancements contemplated in this contract was to raise the capacity of the system from 800k tons to 900k tons
of sulfuric acid per year. This enhancement project was completed at the end of May 2012 and permits $1.3 million of additional
billings which were included in accounts receivable due from Zhenjiang Kailin and provision for impairment loss of receivable
was recorded as of December 31, 2012.
Zhenjiang Kailin
payment schedule and discounting of receivables
As described in Note
3 regarding accounts receivable, due to delay and certain technical issues encountered by CER, CER agreed with Zhenjiang Kailin,
a related party, to extend the original payment due date on a project completed at the end of May 2012 from August 31, 2012 to
December 31, 2013 in four installment payments with no stated interest rate. Therefore, CER agreed to extend Zhenjiang Kailin’s
payment schedule as a sales concession CER granted to Zhenjiang Kailin and recorded the discount impact of $1,509,668 due to the
payment extension as a deduction of revenue in the first quarter of 2012. The effective interest rate being used was 10.65%.
In July 2012, Zhenjiang
Kailin incurred an accident during the operation of its waste heat recovery system. The production was suspended during the second
half of July and August 2012. CER further agreed with Zhenjiang Kailin to extend its first installment of $4,815,300 due to CER
in August 2012 to December 31, 2012. CER recorded discount impact of $199,631 for the extension of the first installment as reductions
to revenue in the statement of operations and comprehensive income in the second quarter of 2012.
The discounts were
reflected as reductions to revenue in the statement of income and comprehensive income arising from these extension of payment
terms were $1,709,299 for the year ended December 31, 2012; the accretion for interest income included in interest income was $926,209
for the year ended December 31, 2012 (there was no accretion for the year ended December 31, 2011).
In October 2012, Zhenjiang
Kailin repaid part of the first installment of $3,178,098 through a financing arrangement with CGN. The remaining $1,637,202 which
was originally due by December 31 2012 was defaulted as Zhenjiang Kailin’s business in fourth quarter of 2012 did not perform
as expected, with the less demand in the Chinese domestic chemical market.
The revised payment schedule was listed
below, which did not include the payment for “upgrade contract”.
|
Maturity date
|
|
Amount due
|
|
|
December 31, 2012
|
|
|
4,815,300
|
|
|
June 30, 2013
|
|
|
2,889,180
|
|
|
September 30, 2013
|
|
|
3,210,200
|
|
|
December 31, 2013
|
|
|
3,367,897
|
|
|
Total Payment Schedule
|
|
|
14,282,577
|
|
|
Payment of the first installment in October 2012 through financing arrangement with CGN (Note 16)
|
|
|
(3,178,098
|
)
|
|
Outstanding Payment as of December 31, 2012
|
|
$
|
11,104,479
|
|
As a result of the
deteriorating domestic market demand and Zhenjiang Kailin’s financial condition, CER performed an impairment analysis on
the remaining outstanding balance due as of December 31, 2012. In March 2013, Zhenjiang Kailin provided a commitment letter to
CER for a total repayment of RMB 77 million (approximately equivalent to $12.4 million) in the following 7 years, including an
annual minimum repayment of RMB 10 million (approximately equivalent to $1.6 million) from 2013 to 2018 and RMB 17 million (approximately
equivalent to $2.8 million) in 2019 in accordance with its business forecasts to fully repay the outstanding payment due to CER.
Although CER acknowledged the receipt of the commitment letter, it was not a legally enforceable agreement between CER and Zhenjiang
Kailin, and CER can continue to assert its rights under the repayment schedule disclosed above.
Based on the impairment
analysis CER performed, including the assessment of Zhenjiang Kailin’s business forecast, CER expected that Zhenjiang Kailin
will be able to fully repay all outstanding amounts over the next 7 years with an annual minimum repayment of RMB 10 million from
2013 to 2018 and RMB 17 million in 2019. A provision for impairment loss on long term receivable of $3,397,541 was recorded based
on the management’s best estimate of future cash flow, i.e., Zhenjiang Kailin will repay RMB 10 million or RMB 17 million
annually over the next 7 years, discounted at the long term receivable’s original effective interest rate of 10.65%. The
impairment loss has been included in the SG&A expenses of the CER’s financial statements. The Company will reassess the
provision for impairment of receivable at each reporting period and record any changes as an adjustment to the provision for impairment
loss and corresponding SG&A expense.
For the year ended
December 31, 2012, the discounts reflected as reductions to revenue for payment extension terms were $ 1,709,299 and the accretion
of $926,209 was recorded as interest income in the statement of operations and comprehensive income. After the Company recorded
provision for impairment loss of receivable as of December 31, 2012, the Company will cease to accrete interest income subsequent
to December 31, 2012. The Company will reassess the provision for impairment of receivable together with unearned interest income
of $783,090 at each reporting period and records additional provision for impairment or recovery of the receivable to SG&A
expenses in the subsequent reporting periods.
A reconciliation of
the accounts receivable (including both current and non-current portions) from Zhenjiang Kailin as at December 31, 2012 is as follows:
|
|
|
December 31,
|
|
|
|
|
2012
|
|
|
|
|
|
|
|
Total outstanding payment amount
|
|
|
11,104,479
|
|
|
Accretion for interest income
|
|
|
926,209
|
|
|
Upgrade Contract (Note16)
|
|
|
1,290,233
|
|
|
Less - unearned interest income
|
|
|
(1,709,299
|
)
|
|
Less - provision
|
|
|
(3,397,541
|
)
|
|
Total accounts receivables
|
|
$
|
8,214,081
|
|
|
|
|
|
|
|
|
Accounts receivable, net - related party
|
|
|
1,605,100
|
|
|
Long term accounts receivable, net - related party
|
|
|
6,608,981
|
|
|
Total accounts receivables
|
|
$
|
8,214,081
|
|
Of the total balance
of $8,214,081, $6,608,981 represented the non-current balance due from Zhenjiang Kailin which is to be collected over one year;
the remaining $1,605,100 is included in current receivables due from a related party.
Pursuant to applicable
construction contract accounting and other accounting guidance, the additional $1.3 million of revenue for the system upgrade project,
the $1.5 million penalty for economic losses incurred by CER’s customer, and the discount effects arising from the payment
term extensions in May and July 2012 were added to (or subtracted from, for the latter two items) the total contract revenue for
the Zhenjiang Kailin project. The Company re-assessed all developments regarding this project, including the three guaranty arrangements
with CGN Energy entered into and the extensions afforded to Zhenjiang Kailin for remaining payments, under ASC 605-35 revenue recognition
criteria and concluded the criteria, particularly the criterion regarding collectability being reasonably assured, were met.
Guarantees for
Zhenjiang Kailin to Bank of Jiangsu (This guarantee was not related to Zhenjiang Kailin project discussed above.)
On January 14, 2013,
CER Shanghai entered into a guaranty contract with Bank of Jiangsu Co., Ltd. Zhenjiang Branch (“Bank of Jiangsu”) to
guaranty borrowings made by Zhenjiang Kailin under a comprehensive facility contract between Bank of Jiangsu and Zhenjiang Kailin.
The maximum amount of guaranty is RMB 30,000,000 (approximately $4.8 million). On January 14, 2013, Zhenjiang Kailin and Bank of
Jiangsu entered into a six month comprehensive facility contract. The loan bears an annual interest rate of 7.8%. The term of the
comprehensive line of credit is from January 09, 2013 to July 09, 2013. During this period, if there is any default by Zhenjiang
Kailin, CER Shanghai will provide Bank of Jiangsu with an unconditional and irrevocable guarantee with joint responsibility to
ensure that Zhenjiang Kailin will fulfill the duties and responsibilities to repay any amounts of principal and interest due and
all other related expenses on time under the facility contract. In addition, Jiangsu SOPO (Group) Company Limited (“Jiangsu
SOPO”), a third party customer of CER and related party of Zhenjiang Kailin, also guaranteed this loan and assumed the equal
responsibility with CER Shanghai.
Note 17 – Retirement Benefits
As stipulated by the
relevant laws and regulations applicable to enterprises operating in the PRC, the Company and its PRC subsidiaries and affiliates
are required to maintain a defined contribution retirement plan for all of its employees who are residents of the PRC. The PRC
subsidiaries contribute to a statutory government retirement plan approximately 22% of the base salary of each of its employees
and have no further obligations for the actual pension payments or post-retirement benefits beyond the annual contributions. The
statutory government retirement plan is responsible for the entire pension obligations payable for all past and present employees.
The Company made contributions
of $675,672 and $698,645 for employment benefits, including statutory contributions for the years ended December 31, 2011 and 2012,
respectively.
Note 18 – Statutory Reserves
As stipulated by the
relevant laws and regulations applicable to enterprises operating in the PRC, the Company’s PRC subsidiaries and affiliates
are required to make annual appropriations to a statutory surplus reserve fund. Specifically, these subsidiaries and affiliates
are required to deposit 10% of their profits after taxes, as determined in accordance with the PRC accounting standards applicable
to these subsidiaries and affiliates, to a statutory surplus reserve until such reserve reaches 50% of their registered capital.
The transfer to these
reserves must be made before distribution of any dividends to shareholders. For the years ended December 31, 2011 and 2012, there
were $376,794 and $0 transferred to statutory reserves for these subsidiaries and affiliates of the Company generating profits.
Statutory reserves were $509,596 as of December 31, 2012.
The surplus reserve
fund is non-distributable other than during liquidation and can be used to fund previous years' losses, if any, and may be utilized
for business expansion or converted into share capital by issuing new shares to existing shareholders in proportion to their shareholding
or by increasing the par value of the shares currently held by them, provided that the remaining reserve balance after such issuance
is not less than 50% of the registered capital. The remaining required contributions to the statutory reserves were
approximately $ 12,387,167 as of December 31, 2012.
Note 19 – Commitments and Contingencies
The following table sets forth our contractual
obligations as of December 31, 2012:
|
|
|
Payments Due by Period
|
|
|
|
|
Total
|
|
|
Less than 1 year
|
|
|
1-3 years
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Purchasing obligations
|
|
|
18,485,754
|
|
|
|
18,424,488
|
|
|
|
61,266
|
|
|
Capital investment obligations
(1)
|
|
|
19,568,094
|
|
|
|
8,326,350
|
|
|
|
11,241,744
|
|
|
Total
|
|
$
|
38,053,848
|
|
|
$
|
26,750,838
|
|
|
$
|
11,303,010
|
|
|
|
(1)
|
With the ongoing Phase II construction of CER’s Yangzhou facility and other deployment needs,
capital expenditures for 2013 are expected to range from $19 million to $21 million. The capital investment contractual obligation
which cannot be terminated was about $8.3 million.
|
On May 8,
2012, CER and Zhenjiang Kailin entered into an agreement whereby CER will pay Zhenjiang Kailin RMB 8.9 million (approximately $1.5
million) as a penalty for the economic loss suffered by Zhenjiang Kailin resulting from project delays past the originally expected
completion date of December 31, 2011. The penalty is included in accrued expenses and other liabilities. See Note 16 for further
details.
As of December 31, 2012, we
have entered into three financial guarantees to guarantee the payment obligations of one related party Zhenjiang Kailin. CER and
Zhenjiang Kailin agreed to engage CGN Energy to provide financing for the portion of the project contract price. CER sold certain
equipment integral to the project to CGN Energy. As the financing party, CGN Energy resold the equipment to Zhenjiang Kailin via
a structured payment arrangement. If there is any default by Zhenjiang Kailin, CGN Energy must first look for recourse from Zhenjiang
Kailin’s pledge for payment of its structured note with CGN Energy; then Jiangsu SOPO, a third party customer of CER and
related party of Zhenjiang Kailin; finally CER Yangzhou, which provided CGN Energy with an unconditional and irrevocable guarantee
with joint responsibility to ensure that Zhenjiang Kailin will fulfill the duties and responsibilities to pay CGN Energy on time
under the waste heat power generation project contract. The three guarantees consisted of the following:
|
Date
|
|
Guarantee Contract Amount
|
|
|
Outstanding Guarantee
Contract Amount as of
December 31, 2012
|
|
|
November 25, 2011
|
|
|
4,699,733
|
|
|
|
2,348,261
|
(a)
|
|
March 20, 2012
|
|
|
6,048,017
|
|
|
|
4,536,013
|
(b)
|
|
October18, 2012
|
|
|
3,755,934
|
|
|
|
3,630,736
|
(c)
|
|
Subtotal
|
|
$
|
14,503,684
|
|
|
$
|
10,515,010
|
|
|
|
(a)
|
On November 25, 2011, CER Yangzhou entered into the first of two guaranty contracts regarding the
Zhenjiang Kailin contract with third party CGN Energy Service Co., Ltd. (“CGN Energy”). CER Yangzhou and Zhenjiang
Kailin agreed to engage CGN Energy to provide financing for a portion of the project contract price. CER sold certain equipment
integral to the project to CGN Energy at a price of RMB24.1 million (approximately $3.82 million). As the financing party, CGN
Energy resold the equipment to Zhenjiang Kailin via a structured payment arrangement covering a 24 month period at a price of RMB
29.28 million (approximately $4.69 million).
|
|
|
(b)
|
On March 20, 2012, CER and Zhenjiang Kailin agreed to engage CGN Energy to provide financing for
another portion of the project contract price (similar to the financing arrangement with CGN Energy in 2011). CER sold certain
equipment integral to the project to CGN Energy at a price of RMB30 million (approximately $4.8 million). As the financing party,
CGN Energy resold the equipment to Zhenjiang Kailin via a structured payment arrangement covering a 24 month period at a price
of RMB 37.7 million (approximately $6 million).
|
|
|
(c)
|
On October 18, 2012, CER Yangzhou entered into a guaranty contract with Zhenjiang Kailin and CGN
Energy in connection with a third financing for Zhenjiang Kailin project (similar to the financing arrangement with CGN Energy
in 2011). CER Shanghai and Shanghai Engineering signed two contracts to CGN Energy each at a price of RMB9.9 million (approximately
$1.57 million), which was subsequently resold to Zhenjiang Kailin, for a total amount RMB 19.8 million (approximately $3.14 million).
As the financing party, CGN Energy resold the equipment to Zhenjiang Kailin via a structured payment arrangement covering a 30
month period at a price of RMB23.4 million ( approximately $3.7 million).
|
Note 20 – Subsequent Events
In conjunction with
the preparation of these financial statements, an evaluation of subsequent events was performed through the filing date.
On
January 14, 2013, CER Shanghai entered into a guaranty contract with Bank of Jiangsu to guaranty borrowings made by Zhenjiang Kailin
under a comprehensive facility contract between Bank of Jiangsu and Zhenjiang Kailin
with
a period from January 9, 2013 to July 9, 2013. The maximum amount of guaranty is RMB 30 million (approximately $4.8 million).
On January 18, 2013,
CER signed two contracts with Great Wall for sales and repurchases of certain goods within an 8-month period which in substance
are a product financing arrangement. According to these two agreements, CER Yangzhou sold certain equipment to Great Wall at a
price of RMB 29,241,034 (approximately $ 4,693,585) and, at the same time, Great Wall resold the equipment to CER Shanghai at a
price of RMB 33,625,000 (approximately $5,397,271) via a delayed collection arrangement. On March 28, Great Wall issued bank acceptance
drafts amounting to RMB 14 million to CER Yangzhou, and CER Yangzhou has discounted them.
On January 28, 2013,
Shanghai Engineering entered into a one-year comprehensive credit facility with China Merchants Bank, Shanghai branch. The facility
is for RMB 20,000,000 (approximately $3,174,603). This facility is collateralized by a building located in Shanghai, which is owned
by Mr. Qinghuan Wu., CER’s Chief Executive Officer, and guaranteed by CER Shanghai, CER Yangzhou, and Mr. Qinghuan Wu. The
interest rate is 6% per annum. On March 25, 2013, Shanghai Engineering drew down RMB 10 million (approximately $1,590,000).
On March 01, 2013 and
March 04, 2013, CER Yangzhou drew down RMB 4 million and RMB 4 million from Yizheng JiaHe Rural Micro-Finance Co., LTD, respectively.
The duration of these loans is for one year and bears an interest rate of 2% per month. This facility is guaranteed by CER Shanghai,
and also guaranteed by Mr. Qinghuan Wu, the Chief Executive Officer of CER.
On March 13, 2013, CER
Shanghai entered into a three-year comprehensive loan facility with the Shanghai Pudong Development Bank, Luwan Branch. The facility
is for RMB 48,000,000 (approximately $7,600,000), and the interest rate under this facility will be 5% above the People’s
Bank of China’s benchmark rate, which is 6% within one year, and 6.15% from one to three years. CER Shanghai is entitled
to draw down RMB 30 million as a three-year medium term loan by collateralizing CER’s office building in Zhangjiang, Shanghai;
and draw down RMB 10 million as a one-year short term loan by being guaranteed by China National Investment and Guaranty Co., Ltd.;
the remaining RMB 8 million will be drawn down as bank acceptances after making a cash deposit of no less than 50%, or letters
of guarantee after making a cash deposit of no less than 30%. In addition, this loan facility is guaranteed by Mr. Qinghuan Wu,
the Chief Executive Officer of CER. This loan will replace an existing comprehensive facility amounting to RMB 40 million signed
with Bank of Communication, Shanghai Branch, which was collateralized by the aforementioned office building. On March 15, 2013,
and March 22, 2013, CER Shanghai drew down RMB 20 million and RMB 10 million, respectively, as a medium term loan. These loans
will be repaid within three years in several installments, and bears an annual interest rate of 6.46%. On March 26, 2013, CER drew
down bank acceptances amounting to RMB 14 million after making a cash deposit of RMB 7 million to Shanghai Pudong Development Bank.
On March 8, 2013, Bank
of China Jiangsu Branch approved CER's application for a loan facility of RMB 130 million (equivalent to approximately $21 million).
The effective duration of the loan facility will be five years and CER Yangzhou's land use right and fixed assets will be pledged
as collateral. The interest rate will be 20% above the People’s Bank of China’s benchmark rate, which at the current
time is 6% within one year, 6.15% from one to three years, and 6.4% from three to five years.
Note 21 – Restricted Net Assets
Relevant PRC laws
and regulations permit PRC companies to pay dividends only out of their retained earnings, if any, as determined in accordance
with PRC accounting standards and regulations. Additionally, the Company’s VIE subsidiaries can only distribute dividends
upon approval of the shareholders after they have met the PRC requirements for appropriation to statutory reserve. The statutory
general reserve fund requires annual appropriations of 10% of net after-tax income should be set aside prior to payment of any
dividends. As a result of these and other restrictions under PRC laws and regulations, the PRC subsidiaries and affiliates are
restricted in their ability to transfer a portion of their net assets to the Company either in the form of dividends, loans or
advances, which restricted portion amounted to approximately $26,303,122 of the Company’s total consolidated net assets as
of December 31, 2012. Even though the Company currently does not require any such dividends, loans or advances from the PRC subsidiaries
and affiliates for working capital and other funding purposes, the Company may in the future require additional cash resources
from our PRC subsidiaries and affiliates due to changes in business conditions, to fund future acquisitions and developments, or
merely declare and pay dividends to or distributions to the Company’s shareholders.
Additional Information — Condensed Financial Statements
of the Company
The
Company is required to include the condensed financial statements of the parent company in accordance with Regulation S-X, Rule
5-04 promulgated by the United States Securities and Exchange Commission.
The separate condensed
financial statements of the Company as presented below have been prepared in accordance with Securities and Exchange Commission
Regulation S-X Rule 5-04 and Rule 12-04 and present the Company’s investments in its subsidiaries under the equity method
of accounting. Such investments are presented on the separate condensed balance sheets of the Company as ‘Investments in
subsidiaries.” Subsidiaries’ income or losses are included as the Company’s “Share of income from subsidiaries”
on the statement of income and comprehensive income..
As of December 31,
2011 and 2012, there were no material contingencies, significant provisions for long-term obligations, or guarantees of the Company,
except for those which have been separately disclosed in the consolidated financial statements, if any.
FINANCIAL INFORMATION OF CHINA ENERGY
RECOVERY, INC.
Condensed Statement of Income
and Comprehensive Income
|
|
|
For the years ended December 31,
|
|
|
|
|
2011
|
|
|
2012
|
|
|
|
|
|
|
|
|
|
|
REVENUES
|
|
$
|
-
|
|
|
$
|
4,000
|
|
|
|
|
|
|
|
|
|
|
|
|
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
|
|
|
(392,244
|
)
|
|
|
(59,680
|
)
|
|
|
|
|
|
|
|
|
|
|
|
LOSS FROM OPERATIONS
|
|
|
(392,244
|
)
|
|
|
(55,680
|
)
|
|
|
|
|
|
|
|
|
|
|
|
OTHER INCOME (EXPENSES):
|
|
|
|
|
|
|
|
|
|
Change in fair value of warrant liabilities
|
|
|
1,294,407
|
|
|
|
22,806
|
|
|
Change in fair value of derivative liabilities
|
|
|
231,103
|
|
|
|
21,274
|
|
|
Non-operating expenses, net
|
|
|
(76
|
)
|
|
|
(232
|
)
|
|
Interest expense
|
|
|
(1,192,006
|
)
|
|
|
(918,114
|
)
|
|
Total other income (expenses)
|
|
|
333,428
|
|
|
|
(874,266
|
)
|
|
|
|
|
|
|
|
|
|
|
|
LOSS FROM OPERATIONS BEFORE INCOME TAXES
|
|
|
(58,816
|
)
|
|
|
(929,946
|
)
|
|
|
|
|
|
|
|
|
|
|
|
INCOME TAX EXPENSE
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
|
|
Equity share of income from subsidiaries and VIE
|
|
|
2,054,484
|
|
|
|
1,027,239
|
|
|
|
|
|
|
|
|
|
|
|
|
NET INCOME
|
|
|
1,995,668
|
|
|
|
97,293
|
|
|
COMPREHENSIVE INCOME
|
|
$
|
1,995,668
|
|
|
$
|
97,293
|
|
FINANCIAL INFORMATION OF CHINA ENERGY
RECOVERY, INC.
Condensed Balance Sheets
|
|
|
December 31, 2011
|
|
|
December 31, 2012
|
|
|
ASSETS
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CURRENT ASSETS:
|
|
|
|
|
|
|
|
|
|
Cash
|
|
$
|
4,497
|
|
|
$
|
2,025
|
|
|
Other current assets and receivables
|
|
|
4,900
|
|
|
|
4,900
|
|
|
Other receivables - intercompany
|
|
|
3,383,664
|
|
|
|
140,277
|
|
|
Deferred financing costs, current
|
|
|
-
|
|
|
|
-
|
|
|
Advances on purchases
|
|
|
229
|
|
|
|
229
|
|
|
Total current assets
|
|
|
3,393,290
|
|
|
|
147,431
|
|
|
|
|
|
|
|
|
|
|
|
|
NON-CURRENT ASSETS:
|
|
|
|
|
|
|
|
|
|
Long term investment
|
|
|
8,771,925
|
|
|
|
9,799,164
|
|
|
Total non-current assets
|
|
|
8,771,925
|
|
|
|
9,799,164
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets
|
|
$
|
12,165,215
|
|
|
$
|
9,946,595
|
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND SHAREHOLDERS' EQUITY
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CURRENT LIABILITIES:
|
|
|
|
|
|
|
|
|
|
Accounts payable
|
|
$
|
1,255
|
|
|
$
|
1,255
|
|
|
Other payables - intercompany
|
|
|
-
|
|
|
|
2,645,606
|
|
|
Accrued liabilities
|
|
|
368,365
|
|
|
|
283,555
|
|
|
Derivative liability, current
|
|
|
21,274
|
|
|
|
-
|
|
|
Short term loans
|
|
|
4,850,945
|
|
|
|
-
|
|
|
Total current liabilities
|
|
|
5,241,839
|
|
|
|
2,930,416
|
|
|
|
|
|
|
|
|
|
|
|
|
NON-CURRENT LIABILITIES:
|
|
|
|
|
|
|
|
|
|
Warrant liabilities
|
|
|
22,806
|
|
|
|
-
|
|
|
Derivative liability
|
|
|
-
|
|
|
|
-
|
|
|
Convertible note
|
|
|
-
|
|
|
|
-
|
|
|
Total non-current liabilities
|
|
|
22,806
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
|
|
SHAREHOLDERS' EQUITY:
|
|
|
|
|
|
|
|
|
|
Convertible preferred stock (US$0.001 par value; 50,000,000 shares authorized, 200,000 and 200,000 shares issued and outstanding as of December 31, 2011 and 2012, respectively)
|
|
|
189
|
|
|
|
189
|
|
|
Common stock (US$0.001 par value; 100,000,000 shares authorized, 31,085,859 and 31,085,859 shares issued and outstanding as of December 31, 2011 and 2012, respectively)
|
|
|
31,085
|
|
|
|
31,085
|
|
|
Treasury Stock (Nil and 33,853 shares repurchased as of December 31, 2011 and December 31, 2012, respectively)
|
|
|
-
|
|
|
|
(9,950
|
)
|
|
Additional paid-in-capital
|
|
|
7,904,590
|
|
|
|
7,932,856
|
|
|
Accumulated deficit
|
|
|
(1,035,294
|
)
|
|
|
(938,001
|
)
|
|
Total shareholders' equity
|
|
|
6,900,570
|
|
|
|
7,016,179
|
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and shareholders' equity
|
|
$
|
12,165,215
|
|
|
$
|
9,946,595
|
|
FINANCIAL INFORMATION OF CHINA ENERGY
RECOVERY, INC.
Condensed Statements of Cash Flows
|
|
|
For the years ended December 31,
|
|
|
|
|
2011
|
|
|
2012
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM OPERATING ACTIVITIES:
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
1,995,668
|
|
|
$
|
97,293
|
|
|
Adjustments to reconcile net income to cash provided by (used in) operating activities:
|
|
|
|
|
|
|
|
|
|
Stock based compensation
|
|
|
260,224
|
|
|
|
28,266
|
|
|
Change in fair value of warrants
|
|
|
(1,294,407
|
)
|
|
|
(22,806
|
)
|
|
Change in fair value of conversion feature
|
|
|
(231,103
|
)
|
|
|
(21,274
|
)
|
|
Cancellation of warrants
|
|
|
(15,547
|
)
|
|
|
-
|
|
|
Amortization of deferred financing costs
|
|
|
215,623
|
|
|
|
-
|
|
|
Interest expense on convertible notes
|
|
|
159,363
|
|
|
|
149,055
|
|
|
Common stock issued for consulting services
|
|
|
40,308
|
|
|
|
-
|
|
|
Restricted common stock issued for long-term loan
|
|
|
144,498
|
|
|
|
-
|
|
|
Investment income
|
|
|
(2,054,484
|
)
|
|
|
(1,027,239
|
)
|
|
Change in operating assets and liabilities:
|
|
|
|
|
|
|
|
|
|
Other current assets and receivables
|
|
|
511,516
|
|
|
|
3,243,387
|
|
|
Accrued expenses and other liabilities
|
|
|
249,615
|
|
|
|
2,560,796
|
|
|
Net cash provided by (used in) operating activities
|
|
|
(18,726
|
)
|
|
|
5,007,478
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS USED IN FINANCING ACTIVITIES:
|
|
|
|
|
|
|
|
|
|
Common stock repurchase
|
|
|
-
|
|
|
|
(9,950
|
)
|
|
Repayment of Convertible notes
|
|
|
-
|
|
|
|
(5,000,000
|
)
|
|
Net cash used in financing activities
|
|
|
-
|
|
|
|
(5,009,950
|
)
|
|
|
|
|
|
|
|
|
|
|
|
EFFECTS OF EXCHANGE RATE CHANGES ON CASH
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
|
|
DECREASE IN CASH
|
|
|
(18,726
|
)
|
|
|
(2,472
|
)
|
|
|
|
|
|
|
|
|
|
|
|
CASH, beginning
|
|
|
23,223
|
|
|
|
4,497
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH, ending
|
|
$
|
4,497
|
|
|
$
|
2,025
|
|