-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, CeNjPVFutHpFeRKEMyDtizItKgW9T+Y3psn6GHPmMgqX/Hf97pAEQ8qVi8LrVwn9 QhVCWT2TvFuBaNF9+Ox6dQ== 0000930413-06-007982.txt : 20061114 0000930413-06-007982.hdr.sgml : 20061114 20061114172100 ACCESSION NUMBER: 0000930413-06-007982 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 20060930 FILED AS OF DATE: 20061114 DATE AS OF CHANGE: 20061114 FILER: COMPANY DATA: COMPANY CONFORMED NAME: ZHONGPIN INC. CENTRAL INDEX KEY: 0001277092 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-HELP SUPPLY SERVICES [7363] IRS NUMBER: 542100419 STATE OF INCORPORATION: DE FISCAL YEAR END: 0630 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 333-112111 FILM NUMBER: 061216879 BUSINESS ADDRESS: STREET 1: C/O PRYOR CASHMAN SHERMAN & FLYNN LLP STREET 2: 410 PARK AVENUE CITY: NEW YORK STATE: NY ZIP: 10022 BUSINESS PHONE: 212-326-0846 MAIL ADDRESS: STREET 1: C/O PRYOR CASHMAN SHERMAN & FLYNN LLP STREET 2: 410 PARK AVENUE CITY: NEW YORK STATE: NY ZIP: 10022 FORMER COMPANY: FORMER CONFORMED NAME: STRONG TECHNICAL INC DATE OF NAME CHANGE: 20040121 10-Q 1 c45289_10q.txt UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended September 30, 2006 or [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to ------------------------------------------------ Commission File Number : 333-112111 ------------------------------------------------------- Zhongpin Inc. - -------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) Delaware 54-2100419 - -------------------------------------------------------------------------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 21 Changshe Road, Changge City, Henan Province, The People's Republic of China - -------------------------------------------------------------------------------- (Address of principal executive offices) (Zip Code) 011 86 374-6216633 - -------------------------------------------------------------------------------- (Registrant's telephone number, including area code) Not Applicable - -------------------------------------------------------------------------------- (Former name, former address and former fiscal year, if changed since last report) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past ninety (90) days. YES X NO --- --- Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer or a non-accelerated filer. See definition of "accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check One): Large accelerated filer ___ Accelerated filer ___ Non-accelerated filer X --- Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES NO X --- --- As of November 1, 2006, 11,752,568 shares of the registrant's common stock, and 6,900,000 shares of the registrant's Series A preferred stock, each such share convertible into one share of the registrant's common stock, were outstanding. ZHONGPIN INC. FORM 10-Q INDEX
PART I FINANCIAL INFORMATION PAGE - ------ --------------------- ---- Item 1. Unaudited Financial Statements: Consolidated Balance Sheets as of June 30, 2006 (unaudited) and December 31, 2005.......................................................... 2 Consolidated Statements of Operations and Comprehensive Income (unaudited) for the three and nine months ended September 30, 2006 and 2005.................................................... 3 Consolidated Statement of Changes in Stockholders' Equity (unaudited) for the nine months ended September 30, 2006................................... 4 Consolidated Statements of Cash Flows (unaudited) for the nine months ended September 30, 2006 and 2005.............................................. 5 Notes to Consolidated Financial Statements (unaudited).............................. 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations...................................................... 23 Item 3. Quantitative and Qualitative Disclosures About Market Risk.......................... 37 Item 4. Controls and Procedures............................................................. 37 PART II OTHER INFORMATION - ------- ----------------- Item 1. Legal Proceedings................................................................... 38 Item 1A. Risk Factors........................................................................ 38 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds......................... 38 Item 3. Defaults Upon Senior Securities..................................................... 38 Item 4. Submission of Matters to a Vote of Security Holders................................. 38 Item 5. Other Information................................................................... 38 Item 6. Exhibits ........................................................................... 38 SIGNATURES................................................................................................ 39
i ZHONGPIN INC. PART I - FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS The accompanying unaudited consolidated balance sheets, statements of operations and comprehensive income, of changes in stockholders' equity, and of cash flows and related notes thereto, have been prepared in accordance with generally accepted accounting principles ("GAAP") for interim financial information and in conjunction with the rules and regulations of the Securities and Exchange Commission ("SEC"). Accordingly, they do not include all of the disclosures required by GAAP for complete financial statements. The financial statements reflect all adjustments consisting only of normal, recurring adjustments, which are, in the opinion of management, necessary for a fair presentation for the interim periods. The accompanying financial statements should be read in conjunction with the notes to the aforementioned financial statements and Management's Discussion and Analysis of Financial Condition and Results of Operations and the financial statements and notes thereto included in our Annual Report on Form 10-K, as amended, for the transition period from June 30, 2005 to December 31, 2005. The results of operations for the three- and nine-month periods ended September 30, 2006 are not necessarily indicative of the results to be expected for the entire fiscal year or any other period. ZHONGPIN INC. CONSOLIDATED BALANCE SHEETS (AMOUNTS IN U.S. DOLLARS)
SEPTEMBER 30, 2006 DECEMBER 31, 2005 ------------------ ----------------- ASSETS (Unaudited) Current assets Cash and cash equivalents $ 15,607,487 $ 10,142,394 Accounts receivable and other receivables (net) 14,112,217 10,002,918 Purchase deposits 496,359 220,836 Prepaid expenses and deferred charges 132,246 99,009 Inventories 10,130,309 2,347,312 Tax refund receivables 923,746 644,232 ------------- ------------- Total current assets 41,402,364 23,456,701 Property, plant and equipment (net) 22,749,312 10,212,848 Related party receivables 273,117 267,658 Other receivables -- 632,063 Construction contracts 15,540,565 16,931,178 Intangible assets 5,644,927 1,753,124 ------------- ------------- Total assets $ 85,610,285 $ 53,253,572 ============= ============= LIABILITIES AND EQUITY Current liabilities Bank overdraft $ -- $ 619,579 Accounts payable and other payables 10,809,047 10,278,464 Accrued liabilities 1,409,867 759,420 Short term loans payable 21,950,510 18,995,853 Taxes payable 1,082,532 2,055,925 Deposits from clients 686,682 769,398 Research and development grants payable 1,352,528 2,436,804 Long term loans payable-current portion 145,671 145,671 ------------- ------------- Total current liabilities 37,436,837 36,061,114 Long term loans payable 2,109,951 2,264,448 ------------- ------------- Total liabilities 39,546,788 38,325,562 Minority interest 433,427 411,742 Equity Preferred stock: par value $0.001; 10,000,000 authorized; 6,900,000 shares issued and outstanding 6,900 -- Common stock: par value $0.001; 25,000,000 authorized; 11,752,568 shares issued and outstanding 11,753 11,753 Additional paid in capital 25,219,496 2,102,933 Retained earnings 19,343,693 12,097,834 Accumulated other comprehensive income 1,048,228 303,748 ------------- ------------- Total equity 45,630,070 14,516,268 ------------- ------------- Total liabilities and equity $ 85,610,285 $ 53,253,572 ============= =============
The accompanying notes are an integral part of these consolidated financial statements. 2 ZHONGPIN INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (AMOUNT IN U.S. DOLLARS) (UNAUDITED)
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, ---------------------------- ---------------------------- 2006 2005 2006 2005 ---- ---- ---- ---- Revenues Sales revenues $ 33,829,525 $ 18,188,425 $ 96,100,380 $ 51,184,672 Cost of sales 28,674,782 15,300,514 81,641,757 42,683,518 ------------ ------------ ------------ ------------ Gross profit 5,154,743 2,887,911 14,458,623 8,501,154 Operating expenses General and administrative expenses 2,528,877 297,373 5,007,525 797,542 Operating expenses 883,696 401,293 2,403,932 1,093,956 ------------ ------------ ------------ ------------ Total operating expenses 3,412,573 698,666 7,411,457 1,891,498 ------------ ------------ ------------ ------------ Income from operations 1,742,170 2,189,245 7,047,166 6,609,656 Other income (expense) Interest income 23,456 62,725 268,794 151,994 Other income (expenses) (724) (46,852) 35,512 (50,156) Allowances income 6,664 2,438 1,233,509 46,520 Exchange gain 15,020 -- 33,048 (42,276) Interest expense (300,855) (386,734) (908,670) (1,195,392) ------------ ------------ ------------ ------------ Total other income (expense) (256,439) (368,423) 662,193 (1,089,310) ------------ ------------ ------------ ------------ Net income before taxes 1,485,731 1,820,822 7,709,359 5,520,346 Provision for income taxes 124,625 54,498 441,815 177,287 ------------ ------------ ------------ ------------ Net income after taxes 1,361,106 1,766,324 7,267,544 5,343,059 Minority interest 2,390 4,958 21,685 24,013 ------------ ------------ ------------ ------------ Net income $ 1,358,716 $ 1,761,366 $ 7,245,859 $ 5,319,046 ============ ============ ============ ============ Foreign currency translation adjustment $ 479,389 $ 254,716 $ 744,480 $ 254,716 ------------ ------------ ------------ ------------ Comprehensive income $ 1,838,105 $ 2,016,082 $ 7,990,339 $ 5,573,762 ============ ============ ============ ============ Basic earnings per common share $ 0.07 $ 0.15 $ 0.41 $ 0.45 Diluted earnings per common share $ 0.06 $ 0.15 $ 0.33 $ 0.45 Basic weighted average shares outstanding 11,752,568 11,752,568 11,752,568 11,752,568 Diluted weighted average shares outstanding 23,237,568 11,752,568 21,911,457 11,752,568
The accompanying notes are an integral part of these consolidated financial statements. 3 ZHONGPIN INC. CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY (AMOUNT IN U.S. DOLLARS) (UNAUDITED)
Preferred Stock Common Stock Shares Par value Shares Par value ------ --------- ------ --------- Balance at January 1, 2003 -- $ -- 1 $ 1,816,425 Net income for the year -- -- Dividends paid -- -- -- -- ------------ ------------ ------------ ------------ Balance December 31, 2003 -- -- 1 1,816,425 Net income for the year -- -- -- -- ------------ ------------ ------------ ------------ Balance December 31, 2004 -- -- 1 1,816,425 Merger on May 20 -- -- -- 115,942 Recapitalization on September 15 -- -- 9,999 (1,922,367) Net income for the year Foreign currency translation adjustment -- -- -- -- ------------ ------------ ------------ ------------ Balance December 31, 2005 -- -- 10,000 10,000 Items applied retroactively: Recapitalization on January 30, 2006 -- -- 415,432,354 405,442 Reverse stock split on February 16, 2006 (1:35.349) -- -- (403,689,786) (403,689) ------------ ------------ ------------ ------------ Restated December 31, 2005 -- -- 11,752,568 11,753 Increase in Preferred Stock 6,900,000 6,900 -- -- Warrant expense -- -- -- -- Net income for the period -- -- -- -- Increase in additional paid in capital -- -- -- -- Foreign currency translation adjustment -- -- -- -- ------------ ------------ ------------ ------------ Balance September 30, 2006 6,900,000 $ 6,900 11,752,568 $ 11,753 ============ ============ ============ ============
Accumulated Additional Other Paid In Retained Comprehensive Capital Earnings Income Total ------------ ------------ ------------- ----- Balance at January 1, 2003 $ 182,319 $ 1,935,634 $ -- $ 3,934,378 Net income for the year -- 1,536,272 1,536,272 Dividends paid -- (56,392) -- (56,392) ------------ ------------ ------------ ------------ Balance December 31, 2003 182,319 3,415,514 -- 5,414,258 Net income for the year -- 2,768,473 -- 2,768,473 ------------ ------------ ------------ ------------ Balance December 31, 2004 182,319 6,183,987 -- 8,182,731 Merger on May 20 -- -- -- 115,942 Recapitalization on September 15 1,922,367 -- -- -- Net income for the year 5,913,847 -- 5,913,847 Foreign currency translation adjustment -- -- 303,748 303,748 ------------ ------------ ------------ ------------ Balance December 31, 2005 2,104,686 12,097,834 303,748 14,516,268 Items applied retroactively: Recapitalization on January 30, 2006 (405,442) -- -- -- Reverse stock split on February 16, 2006 (1:35.349) 403,689 -- -- -- ------------ ------------ ------------ ------------ Restated December 31, 2005 2,102,933 12,097,834 303,748 14,516,268 Increase in Preferred Stock -- -- -- 6,900 Warrant expense 12,760 -- -- 12,760 Net income for the period -- 7,245,859 -- 7,245,859 Increase in additional paid in capital 23,103,803 -- 23,103,803 Foreign currency translation adjustment -- -- 744,480 744,480 ------------ ------------ ------------ ------------ Balance September 30, 2006 $ 25,219,496 $ 19,343,693 $ 1,048,228 $ 45,630,070 ============ ============ ============ ============
The accompanying notes are an integral part of these consolidated financial statements. 4 ZHONGPIN INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNT IN U.S. DOLLARS) (UNAUDITED)
NINE MONTHS ENDED SEPTEMBER 30, ------------------------------- 2006 2005 ----- ---- Cash flows from operating activities: Net income $ 7,245,859 $ 5,319,046 Adjustments to reconcile net income to net cash provided by (used in) operations: Minority interest 21,685 219,812 Depreciation 650,132 453,933 Amortization 84,246 30,055 Exchange gain (33,048) -- Provision for allowance for bad debt (76) -- Warrants issued for services 12,760 -- Changes in operating assets and liabilities: Accounts receivable and other receivables (3,482,695) (4,608,438) Purchase deposits (275,523) (26,674) Prepaid expense and deferred charges (33,237) (146,600) Inventories (7,782,998) (2,762,146) Tax refunds receivable (279,514) (18,985) Accounts payable and accrued liabilities 96,754 2,219,295 Taxes payable (973,392) 103,530 Deposits from clients (82,716) 295,535 ------------ ------------ Net cash used in operating activities (4,831,763) 1,078,363 Cash flows from investing activities: Construction in progress (6,725,968) (1,987,626) Additions to fixed assets (5,070,015) (741,326) Additions to intangible assets (3,976,049) -- ------------ ------------ Net cash used in investing activities (15,772,032) (2,728,952) Cash flows from financing activities: Repayment of Bank overdraft (619,579) -- Proceeds from short-term loans 24,390,081 42,565,294 Repayment of short-term loans (21,435,425) (26,475,217) Repayment of long-term loans (154,497) (2,520,850) Proceeds from preferred stock 23,110,703 -- Payments of dividends -- -- ------------ ------------ Net cash provided by financing activities 25,291,283 13,569,227 Effect of rate changes on cash 777,605 254,716 ------------ ------------ Increase (decrease) in cash and cash equivalents 5,465,093 12,173,354 Cash and cash equivalents, beginning of period 10,142,394 5,204,637 ------------ ------------ Cash and cash equivalents, end of period 15,607,487 17,377,991 ============ ============ Supplemental disclosures of cash flow information: Cash paid for interest $ 901,642 $ 1,195,392 Cash paid for income taxes $ 313,540 $ 85,689
The accompanying notes are an integral part of these consolidated financial statements. 5 ZHONGPIN INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for annual financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. The consolidated operating results for the nine months ended September 30, 2006 are not necessarily indicative of the results that may be expected for the year ending December 31, 2006. For further information, refer to the financial statements and footnotes thereto included herein for the three years ended December 31, 2005. 1. ORGANIZATION AND NATURE OF OPERATIONS Zhongpin Inc. ("Zhongpin") was incorporated on February 4, 2003 as Strong Technical Inc. in the State of Delaware for the purpose of operating a personnel outsourcing service that provides skilled workers to industry. On March 30, 2005, an 82.4% controlling interest in our company was acquired by Halter Capital Corporation and all previous operations were discontinued. On January 30, 2006, we acquired Falcon Link Investment Limited ("Falcon") in a stock exchange by issuing 397,676,704 (11,250,000 post-split) shares of our common stock in exchange for all of the issued and outstanding capital stock of Falcon. The acquisition transaction was accounted for as a reverse acquisition resulting in the recapitalization of Falcon. Accordingly, the historical financial statements of Falcon have been retroactively restated to give effect to the recapitalization as if it had occurred at the beginning of the first period presented. Zhongpin and its subsidiaries are collectively referred to herein as "our company," "we," "us" and "our." Falcon was incorporated in the Territory of the British Virgin Islands ("BVI") on July 21, 2005 as a holding company for the purpose of owning all of the equity interests of Henan Zhongpin Food Co., Ltd. ("HZFC"), a People's Republic of China ("PRC") company. Falcon acquired 100% ownership of HZFC by paying 20,940,000 Renminbi ("RMB") ($2,528,986) to the holders of HZFC, who where also the holders of Falcon. The transaction was accounted for as a transfer of entities under common control, wherein HZFC was the continuing entity. The historical financial statements of Falcon are essentially those of HZFC and are shown as if the transfer had taken place at the beginning of the first period presented. HZFC was established in the PRC on May 20, 2005 for the sole purpose of holding the capital stock of Henan Zhongpin Food Share Company Limited ("Food Share") and its subsidiaries. The owners of Food Share formed HZFC by investing 16,000,000 RMB ($1,932,367). HZFC acquired Food Share by paying 15,040,000 RMB ($1,816,425) to the holders of Food Share, who were also the holders of HZFC, in exchange for 100% ownership of Food Share. The transaction was accounted for as a transfer of entities under common control, wherein Food Share was the continuing entity with an increase in registered capital of 960,000 RMB ($115,942). The historical financial statements of HZFC are essentially those of Food Share shown with an increase in capital as if the transfer had taken place at the beginning of the first period presented. Food Share was incorporated in the PRC. It is headquartered in Henan Province in the PRC and its corporate office is in Changge City. Through our subsidiaries, we are principally engaged in the production of pork, pork products and vegetables, and the retail sales of pork, processed pork products, vegetables and other grocery items to customers throughout the PRC and other export countries, either directly or through its subsidiaries. 6 ZHONGPIN INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. ORGANIZATION AND NATURE OF OPERATIONS (continued) On January 30, 2006, we consummated an agreement with the shareholders of Falcon whereby we issued 397,676,704 (11,250,000 post-split) shares of our common stock in exchange for all of the issued and outstanding stock of Falcon. Immediately prior to the transaction there were 17,765,650 (502,578 post-split) shares outstanding as compared to 415,442,354 (11,752,568 post-split) shares outstanding immediately following the transaction. Consequently, Falcon became a wholly-owned subsidiary of our company. The transaction was accounted for as a reverse acquisition resulting in a recapitalization of Falcon, wherein Falcon's historical financial statements became those of our company, retrospectively restated to reflect the adopted capital structure of our company as if the transaction had occurred at the beginning of the first period presented. These financial statements have been adjusted to reflect such restatement. In conjunction with the acquisition of Falcon, on January 31, 2006, we sold for $8.00 per unit 3.45 million units, each consisting of two shares of Series A convertible preferred stock and a five-year warrant to purchase 35.349 (one post-split) common shares at a purchase price of $0.1414467 ($5.00 post split) per share. Each preferred share is convertible into 35.349 (one post-split) common shares. The outstanding shares of Series A convertible preferred stock are convertible into an aggregate of 243,908,100 (6,900,000 post-split) common shares and the outstanding warrants are exercisable to purchase an aggregate of 121,954,050 (3,450,000 post-split) common shares. On February 16, 2006, we amended our articles of incorporation to change our name from Strong Technical, Inc. to Zhongpin Inc. In the same amendment, we changed our authorized common stock to 25,000,000 shares with a par value of $0.001 per share and our authorized preferred stock to 10,000,000 shares with a par value of $0.001 per share. On February 16, 2006, we effected a 1:35.349 reverse split of our outstanding common stock. Immediately prior to the split, 415,442,354 common shares were outstanding as compared to 11,752,568 common shares outstanding immediately following the split. The aggregate number of shares of common stock issuable upon conversion of our outstanding shares of Series A convertible preferred stock was reduced from 243,908,100 common shares to 6,900,000 common shares, and the aggregate number of shares of our common stock issuable upon the exercise of our outstanding warrants was reduced from 121,954,050 common shares to 3,450,000 common shares. The purchase price of the shares issuable exercise of our outstanding warrants was increased to $5.00 per share. Details of Food Share's subsidiaries are as follows:
ZHONGPIN INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DOMICILE/DATE REGISTERED PERCENTAGE NAME OF INCORPORATION CAPITAL OF OWNERSHIP ---- ---------------- ---------- ------------ Henan Zhongpin Industrial Company Limited PRC/Jan. 17, 2004 18,000,000 RMB 88.00% ($2,173,913) Henan Zhongpin Import and Export Trading Company PRC/Aug. 11, 2004 5,060,000 RMB 88.93% ($611,111) Zhumadian Zhongpin Food Company Limited PRC/June 7, 2006 5,000,000 RMB 100.00% ($625,344) Anyang Zhongpin Food Company Limited PRC/Aug. 21, 2006 4,800,000 RMB 100.00% ($606,927)
7 ZHONGPIN INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DOMICILE/DATE REGISTERED PERCENTAGE NAME OF INCORPORATION CAPITAL OF OWNERSHIP ---- ---------------- ---------- ------------ Henan Zhongpin Fresh Food Logistics Company Limited PRC/Sept. 14, 2006 1,500,000 RMB 100.00% ($189,665) Deyang Zhongpin Food Company Limited PRC/Sept. 25, 2006 1,000,000 RMB 100.00% ($126,443) Henan Zhongpin Business Development Company Limited PRC/Sept. 27, 2006 5,000,000 RMB 100.00% ($632,215)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES BASIS OF PRESENTATION The consolidated financial statements include the accounts of Zhongpin Inc. (formerly Strong Technical, Inc.), Falcon Link Investment Limited, Henan Zhongpin Food Co., Ltd., Henan Zhongpin Food Share Company Limited, Henan Zhongpin Industrial Company Limited, Henan Zhongpin Import and Export Trading Company,Zhumadian Zhongpin Food Company Limited, Anyang Zhongpin Food Company Limited, Deyang Zhongpin Food Company Limited, Zhongpin Business Development Company Limited and Zhongpin Fresh Food Logistics Company Limited. All material intercompany accounts and transactions have been eliminated in consolidation. The consolidated financial statements were prepared in accordance with accounting principles generally accepted in the United States of America ("U.S. GAAP"). The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities as of the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. U.S. GAAP differs from that used in the statutory financial statements of our PRC subsidiaries, which were prepared in accordance with the relevant accounting principles and financial reporting regulations as established by the Ministry of Finance of the PRC. Certain accounting principles stipulated under U.S. GAAP are not applicable in the PRC. The Renminbi of the People's Republic of China (RMB) has been determined to be our functional currency. The balance sheets of our company and our subsidiaries were translated at quarter end exchange rates. Expenses were translated at moving average exchange rates in effect during the quarters. The effects of rate changes on assets and liabilities are recorded as accumulated other comprehensive income. FISCAL YEAR Our financial statements have been prepared using December 31 as the fiscal year end. MINORITY INTEREST IN SUBSIDIARIES We record minority interest expense, which reflects the minority shareholders' portion of the earnings of Henan Zhongpin Industrial Company Limited and Henan Zhongpin Import and Export Trading Company. During 2005, Henan Zhongpin Industrial Company Limited increased its registered capital from 8 ZHONGPIN INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) 5,000,000 RMB ($603,864) to 18,000,000 RMB ($2,173,913), which required the minority holders to increase their investment by 1,560,000 RMB ($188,406), effectively increasing the minority interest shown on our balance sheet by $188,406. In June 2006, Zhumadian Zhongpin Food Company Limited was registered with a registered capital of 5,000,000 RMB ($625,344), which is 100%-owned by Henan Zhongpin Food Share Company Limited. In August 2006, Anyang Zhongpin Food Company Limited was registered with a registered capital of 4,800,000 RMB ($606,927), which is 100%-owned by Henan Zhongpin Food Share Company Limited. In September 2006, Henan Zhongpin Fresh Food Logistics Company Limited, Deyang Zhongpin Food Company Limited and Henan Zhongpin Business Development Company Limited were registered with registered capital of 1,500,000 RMB ($189,665), 1,000,000 RMB ($126,443) and 5,000,000 RMB ($632,215), respectively, which are all 100%-owned by Henan Zhongpin Food Share Company Limited. RESTRICTIONS ON TRANSFER OF ASSETS OUT OF THE PRC Dividend payments by HZFC are limited by certain statutory regulations in the PRC. No dividends may be paid by HZFC without first receiving prior approval from the Foreign Currency Exchange Management Bureau. Dividend payments are restricted to 85% of profits, after tax. CONTROL BY PRINCIPAL STOCKHOLDERS Our directors and executive officers and their affiliates or related parties own, beneficially and in the aggregate, the majority of the voting power of the outstanding shares of our common stock. Accordingly, if our directors and executive officers and their affiliates or related parties vote their shares uniformly, they would have the ability to control the approval of most corporate actions, including increasing our authorized capital stock and the dissolution or merger of our company or the sale of our assets. START-UP COSTS In accordance with the provisions of the American Institute of Certified Public Accountants' Statement of Position (SOP) 98-5, "Reporting on the Costs of Start-up Activities," we expense all start-up and organizational costs as they are incurred. USE OF ESTIMATES The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. SIGNIFICANT ESTIMATES Several areas require significant management estimates relating to uncertainties for which it is reasonably possible there will be a material change in the near term. The more significant areas requiring the use of management estimates relate to the valuation of receivables, equipment and accrued liabilities, and the useful lives for amortization and depreciation. 9 ZHONGPIN INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) CASH EQUIVALENTS We consider all highly-liquid debt instruments purchased with a maturity of three months or less to be cash equivalents. ACCOUNTS RECEIVABLE Accounts receivable are stated at cost, net of allowance for doubtful accounts. Based on our experience and current practice in the PRC, management provides for an allowance for doubtful accounts equivalent to those accounts that are not collected within one year plus 5% of receivables less than one year old. INVENTORIES Inventories are stated at the lower of cost, determined on a weighted average basis, and net realizable value. Work-in-progress and finished goods are composed of direct material, direct labor and an attributable portion of manufacturing overhead. Net realizable value is the estimated selling price, in the ordinary course of business, less estimated costs to complete and dispose. LAND USE RIGHTS We adopted the provisions of SFAS No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142"), effective January 1, 2002. Under SFAS 142, goodwill and indefinite lived intangible assets are not amortized, but are reviewed annually for impairment, or more frequently, if indications of possible impairment exist. We have performed the requisite annual transitional impairment tests on intangible assets and determined that no impairment adjustments were necessary. REVENUE RECOGNITION We recognize revenue on the sales of our products as earned when the customer takes delivery of the product according to previously agreed upon pricing and delivery arrangements, and when we believe collectibility is reasonably assured. We sell primarily perishable and frozen food products. As such, any right of return is only for a few days and has been determined to be insignificant by management. Accordingly, no provision has been made for returnable goods. EARNINGS PER SHARE Basic earnings per common share ("EPS") are calculated by dividing net income available to common stockholders by the weighted average number of common shares outstanding during the period. Our Series A convertible preferred stock is a participating security. Consequently, the two-class method of income allocation is used in determining net income available to common stockholders. Diluted EPS is calculated by adjusting the weighted average outstanding shares, assuming conversion of all potentially dilutive securities, such as stock options and warrants. 10 ZHONGPIN INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) The numerators and denominators used in the computations of basic and diluted EPS are presented in the following table:
Three Months Ended Sept. 30, Nine Months Ended Sept. 30, ---------------------------- ---------------------------- 2006 2005 2006 2005 ---- ---- ---- ---- NUMERATOR FOR BASIC AND DILUTED EPS Net income (numerator for Diluted EPS) $ 1,358,716 $ 1,761,366 $ 7,245,859 $ 5,319,046 Net income allocated to preferred stock (502,619) -- (2,484,708) -- ------------ ------------ ------------ ------------ Net income to common stockholders (Basic) $ 856,097 $ 1,761,366 $ 4,761,151 $ 5,319,046 ============ ============ ============ ============ DENOMINATORS FOR BASIC AND DILUTED EPS Common stock outstanding after recapitalization and 1:35.349 reverse stock split 11,752,568 11,752,568 11,752,568 11,752,568 ------------ ------------ ------------ ------------ DENOMINATOR FOR BASIC EPS 11,752,568 11,752,568 11,752,568 11,752,568 Add: Weighted average preferred as if converted 6,900,000 -- 6,133,333 -- ------------ Add: Weighted average stock warrants outstanding 4,585,000 -- 4,025,556 -- ------------ ------------ ------------ ------------ DENOMINATOR FOR DILUTED EPS 23,237,568 11,752,568 21,911,457 11,752,568 ============ ============ ============ ============ EPS - Basic $ 0.07 $ 0.15 $ 0.41 $ 0.45 EPS - Diluted $ 0.06 $ 0.15 $ 0.33 $ 0.45
SHIPPING AND HANDLING COSTS Shipping and handling amounts billed to customers in related sales transactions are included in sales revenues. Direct shipping costs are included in operating expenses, which were approximately $512,600 and $196,600 for the three months ended September 30, 2006 and 2005, respectively, and $1,224,100 and $547,500 for the nine months ended September 30, 2006 and 2005, respectively. Handling costs are included in costs of sales, which were approximately $385,100 and $167,800 for the three months ended September 30, 2006 and 2005, respectively, and $661,900 and $432,800 for the nine months ended September 30, 2006 and 2005, respectively. ADVERTISING COSTS Advertising costs are expensed as incurred. Advertising expenses were approximately $105,000 and $14,400 for the three months ended September 30, 2006 and 2005, respectively, and $199,700 and $57,000 for the nine months ended September 30, 2006 and 2005, respectively. RESEARCH AND DEVELOPMENT COSTS The PRC government has made a cash grant to our company specifically to fund research and development. We have recorded this grant as a liability titled "Research & development grants payable" on our balance sheet. Qualifying research and development costs reduce the liability while non-qualifying research and development costs are expensed as incurred. Research and development costs 11 ZHONGPIN INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) were approximately $784,600 and $398,000 for the three months ended September 30, 2006 and 2005, respectively, and $895,600 and $485,000 for the nine months ended September 30, 2006 and 2005, respectively. PROPERTY AND EQUIPMENT Impairment of long-lived assets is recognized when events or changes in circumstances indicate the carrying amount of an asset, or related groups of assets, may not be recoverable. Under the provisions of SFAS No. 144, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of," we recognize an "impairment charge" when the expected net undiscounted future cash flows from an asset's use and eventual disposition are less than the asset's carrying value and the asset's carrying value exceeds its fair value. Measurement of fair value for an asset or group of assets may be based on appraisal, market values of similar assets or estimated discounted future cash flows resulting from the use and ultimate disposition of the asset or assets. Expenditures for maintenance, repairs and betterments, which do not materially extend the normal useful life of an asset, are charged to operations as incurred. Upon sale or other disposition of assets, the cost and related accumulated depreciation are removed from the accounts and any resulting gain or loss is reflected in income. Depreciation and amortization are provided for financial reporting purposes primarily on the straight-line method over the estimated useful lives, ranging from five to 50 years. OPERATING LEASES Operating leases represent those leases under which substantially all the risks and rewards of ownership of the leased assets remain with the lessors. Rental payments under operating leases are charged to expense on the straight-line basis over the period of the relevant leases. INCOME TAXES Income tax expense is based on reported income before income taxes. Deferred income taxes reflect the effect of temporary differences between assets and liabilities that are recognized for financial reporting purposes and the amounts that are recognized for income tax purposes. In accordance with Statement of Financial Accounting Standard ("SFAS") No. 109, "Accounting for Income Taxes," these deferred taxes are measured by applying currently enacted tax laws. We recorded income tax expenses of $124,625 and $54,498 for the three months ended September 30, 2006 and 2005, respectively, and $441,815 and $177,287 for the nine months ended September 30, 2006 and 2005, respectively. We withhold and pay income taxes on our employees' wages, which fund the Chinese government's sponsored health and retirement programs for all of our employees. For our employees, we were obligated to make contributions to the social insurance bureau under the laws of the PRC for pension and retirement benefits. 12 ZHONGPIN INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 3. BUSINESS ACQUISITIONS Food Share formed Henan Zhongpin Import and Export Trading Company on August 11, 2004 as a joint venture with Li Jun Wei, an individual, to facilitate exporting of our goods. We own 88.93% of Henan Zhongpin Import and Export Trading Company. 4. ACCOUNTS RECEIVABLE AND OTHER RECEIVABLES We accrue an allowance for bad debts related to our receivables. The receivable and allowance balances at September 30, 2006 and December 31, 2005 were as follows: September 30, 2006 December 31, 2005 ------------------ ----------------- Accounts receivable $ 14,873,138 $ 10,337,838 Other receivables 990,704 2,013,757 Allowance for bad debts (1,751,625) (1,716,614) ------------ ------------ $ 14,112,217 $ 10,634,981 ============ ============ Current $ 14,112,217 $ 10,002,918 Non-current -- 632,063 ------------ ------------ $ 14,112,217 $ 10,634,981 ============ ============ Other receivables consist primarily of cash advances to suppliers to ensure preferential pricing and delivery. The advances bear no interest and are expected to be repaid in cash. Repayment is typically required to be made in less than one year. Advances that are not expected to be paid within one year are classified as non-current. 5. INVENTORIES Inventories at September 30, 2006 and December 31, 2005 consisted of: September 30, 2006 December 31, 2005 ------------------ ----------------- Raw materials $ 1,295,199 $ 210,288 Low value consumables & packaging 365,426 147,000 Work-in-progress 1,324,560 290,149 Finished goods 7,145,124 1,699,875 ----------- ----------- Net inventories $10,130,309 $ 2,347,312 =========== =========== 13 ZHONGPIN INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 6. PROPERTY, PLANT AND EQUIPMENT Property, plant and equipment at cost at September 30, 2006 and December 31, 2005 consisted of: September 30, 2006 December 31, 2005 ------------------ ----------------- Machinery and equipment $ 11,935,428 $ 6,832,887 Furniture and office equipment 425,499 253,187 Motor vehicles 332,659 281,371 Buildings 12,972,162 5,084,728 ------------ ------------ Subtotal 25,665,748 12,452,173 Less: accumulated depreciation (2,916,436) (2,239,325) ------------ ------------ Net property and equipment $ 22,749,312 $ 10,212,848 ============ ============ Depreciation expense $ 656,747 $ 602,008 7. INTANGIBLE ASSETS Intangible assets consist of prepaid land use rights. According to the laws of the PRC, the government owns all of the land in the PRC. Companies or individuals are authorized to possess and use the land only through land use rights granted by the PRC government. Accordingly, we paid in advance for certain land use rights. Prepaid land use rights are being amortized and recorded as lease expense using the straight-line method over the use terms of 20 to 50 years. Intangible assets at September 30, 2006 and December 31, 2005 consisted of the following: September 30, 2006 December 31, 2005 ------------------ ----------------- Land use rights $ 5,819,636 $ 1,840,937 Accumulated amortization (174,709) (87,813) ----------- ----------- $ 5,644,927 $ 1,753,124 =========== =========== Amortization expense $ 85,106 $ 37,431 8. RELATED PARTY RECEIVABLES Related party receivables consist of advances made by our company to the minority interest holders of Henan Zhongpin Industrial Company Limited for their investment in the registered capital of that entity. The advances are non-interest bearing and have no fixed repayment terms. Consequently, they are classified as non-current assets. 14 ZHONGPIN INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 9. CONSTRUCTION IN PROGRESS Construction in progress at September 30, 2006 and December 31, 2005 consisted of:
Completion or Estimated Construction Project Completion Date September 30, 2006 December 31, 2005 -------------------- --------------- ------------------ ----------------- Industrial plant February 2006 $ 7,297,295 $ 16,931,178 Production line for chilled pork (in Zhumadian) January 2007 4,570,967 -- Production line for chilled pork (in Anyang) May 2007 3,237,943 -- Land use right of Industrial Park No.4 land December 2007 434,360 -- ------------ ------------ $ 15,540,565 $ 16,931,178 ============ ============
10. LOANS PAYABLE SHORT-TERM LOANS Short-term loans are due within one year. Of the $21.95 million aggregate principal amount of short-term loans at September 30, 2006, loans in the principal amount of $4.86 million were secured by our land and plants located in the PRC and loans in the aggregate principal amount of $17.07 million were guaranteed by Henan Zhongpin Industry Co., Ltd. These loans bear interest at prevailing lending rates in the PRC ranging from 5.85% to 7.34% per annum. At September 30, 2006, there was approximately $56.71 million in available unused lines of credit. LONG-TERM LOANS Our long-term loan bears interest at the rate of 6.0% per annum. The balances of loans payable at September 30, 2006 and December 31, 2005 were as follows: September 30, 2006 December 31, 2005 ------------------ ----------------- Short-Term Loans Payable $21,950,510 $18,995,853 Net Long-Term Loans Payable 2,109,951 2,264,448 Add: Current Portion 145,671 145,671 ----------- ----------- Total Long-Term Loans Payable 2,255,622 2,410,119 ----------- ----------- $24,206,132 $21,405,972 =========== =========== 15 ZHONGPIN INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 10. LOANS PAYABLE (continued) Long-Term Repayment Schedule Payments due in 2006 - current portion $ 36,418 Payments due in 2007 - 75% current portion 145,671 Payments due in 2008 145,671 Payments due in 2009 145,671 Payments due in 2010 145,671 Payments due thereafter 1,636,520 ----------- $ 2,255,622 =========== 11. COMMITMENTS AND CONTINGENCIES LEGAL PROCEEDINGS From time to time, we have disputes that arise in the ordinary course of our business. At September 30, 2006, there was no material legal proceeding to which we were a party or to which any of our property was subject that will have a material adverse effect on our financial condition. REGISTRATION RIGHTS AGREEMENT In connection with the issuance of our Series A convertible preferred stock and warrants on January 30, 2006, we entered into a registration rights agreement with certain investors. The agreement requires us to effect the registration of our common stock issuable upon the conversion of the Series A convertible preferred stock and the exercise of the warrants. If such registration was not effective by June 20, 2006, we were required to pay the investors liquidated damages in an amount equal to 1-1/2% per month times the amount paid by the investors for the purchase of our Series A convertible preferred stock and warrants until such registration becomes effective. This could cost us approximately $414,000 per month until such registration becomes effective. On June 20, 2006, such registration had not become effective, and we accrued a liability in the month of June in the amount of $414,000 plus $138,000 (10/30 times $414,000) plus related interest payable for this contingency because a loss is reasonably possible and a loss amount can reasonably be estimated. During the three months ended September 30, 2006, we accrued a liability in the amount of $414,000 per month, or an aggregate of $1,242,000, plus related interest payable to the general and administrative expenses account. This amount of penalty has not yet been paid to the certain investors in accordance with the registration rights agreement. 12. ALLOWANCES INCOME "Allowances income" consists of grants from the government of the PRC for our participation in specific programs, such as import and export, branding, and city maintenance and construction. We received allowances income as follows: Three Months Ended Nine Months Ended September 30, September 30, ------------------ ------------------------ 2006 2005 2006 2005 ---- ---- ---- ---- Allowance income $6,664 $2,438 $ 1,233,509 $ 46,520 16 ZHONGPIN INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 12. ALLOWANCES INCOME (continued) In addition to paying our company for our participation in ongoing programs, the PRC government has made a cash grant to our company specifically to fund research and development. We recorded this grant as a liability titled "Research & development grants payable" on our balance sheet rather than as revenue. As qualifying research and development costs are incurred, we reduce the liability rather than recording an expense. 13. FAIR VALUE OF FINANCIAL INSTRUMENTS Statement of Financial Accounting Standards No. 107, "Disclosures about Fair Value of Financial Instruments" ("SFAS 107") requires entities to disclose the fair values of financial instruments except when it is not practicable to do so. Under SFAS No. 107, it is not practicable to make this disclosure when the costs of formulating the estimated values exceed the benefit when considering how meaningful the information would be to financial statement users. As a result of the difficulties presented in the valuation of the loans payable to related entities/parties because of their related party nature, estimating the fair value of these financial instruments is not considered practical. The fair values of all other assets and liabilities do not differ materially from their carrying amounts. None of the financial instruments held are derivative financial instruments and none were acquired or held for trading purposes in the first nine months of 2006 or in our 2005 or 2004 fiscal years. 14. NEW ACCOUNTING PRONOUNCEMENTS In February 2006, the Financial Accounting Standards Board ("FASB") issued SFAS No. 155, "Accounting for Certain Hybrid Financial Instruments - an amendment of FASB Statements No. 133 and 140." The statement permits fair value remeasurement for any hybrid financial instrument that contains an embedded derivative that otherwise would require bifurcation, clarifies which interest-only strips are not subject to the requirements of Statement 133, establishes a requirement to evaluate interests in securitized financial assets to identify interests that are freestanding derivatives or that are hybrid financial instruments that contain an embedded derivative requiring bifurcation, clarifies that concentrations of credit risk in the form of subordination are not embedded derivatives, and amends Statement 140 to eliminate the prohibition on a qualifying special-purpose entity from holding a derivative financial instrument that pertains to a beneficial interest other than another derivative financial instrument. The Statement is effective for financial instruments acquired or issued after the beginning of the first fiscal year that begins after September 15, 2006. We expect the Statement will have no material impact on our consolidated financial statements. In February 2006, the FASB issued Staff Position No. FAS 123(R)-4, "Classification of Options and Similar Instruments Issued as Employee Compensation That Allow for Cash Settlement upon the Occurrence of a Contingent Event." This position addresses the classification of options and similar instruments issued as employee compensation that allow for cash settlement upon the occurrence of a contingent event, amending paragraphs 32 and A229 of SFAS No. 123 (revised 2004), "Share-Based Payment." As we have not traditionally paid compensation through the issuance of equity securities, no impact is expected on our consolidated financial statements. In October 2005, the FASB issued Staff Position No. FAS 13-1, "Accounting for Rental Costs Incurred during a Construction Period." This position addresses the accounting for rental costs associated 17 ZHONGPIN INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 14. NEW ACCOUNTING PRONOUNCEMENTS (continued) with operating leases that are incurred during a construction period. Management believes this position has no application to our company. In May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error Corrections ("SFAS No. 154"), which replaced Accounting Principles Board Opinion No. 20, Accounting Changes and SFAS No. 3, Reporting Accounting Changes in Interim Financial Statements. SFAS No. 154 changes the requirements for the accounting for and reporting of a change in accounting principles. It requires retrospective application to prior periods' financial statements of changes in accounting principles, unless it is impracticable to determine either the period-specific effects or the cumulative effect of the change. This statement is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. The impact on our operations will depend on future accounting pronouncements or changes in accounting principles. In March 2005, the FASB issued FASB Interpretation ("FIN") No. 47, "Accounting for Conditional Asset Retirement Obligations." FIN 47 clarifies that the term "Conditional Asset Retirement Obligation" as used in FASB Statement No. 143, "Accounting for Asset Retirement Obligations," refers to a legal obligation to perform an asset retirement activity in which the timing and/or method of settlement are conditional on a future event that may or may not be within the control of the entity. Accordingly, an entity is required to recognize a liability for the fair value of a Conditional Asset Retirement Obligation if the fair value of the liability can be reasonably estimated. FIN 47 is effective no later than the end of the first fiscal year ending after December 15, 2005. Management does not believe the adoption of FIN 47 will have a material effect on our consolidated financial position, results of operations or cash flows. In November 2004, the FASB issued Statement No. 151, "Inventory Costs." SFAS No. 151 requires that items such as idle facility expense, excessive spoilage, double freight, and rehandling costs be recognized as current period charges and that allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the production facilities. The statement is effective for fiscal periods beginning after June 15, 2005. We believe the application of SFAS No. 151 will have no significant impact on our consolidated financial statements. 15. PREFERRED STOCK The principal terms of our Series A convertible preferred stock are as follows. DIVIDENDS. The holders of our Series A convertible preferred stock are entitled to receive, when and as declared by our board of directors, dividends in such amounts as may be determined by our board of directors from time to time out of funds legally available therefor. No dividends (other than those payable solely in common stock) will be paid to the holders of common stock until there shall have been paid or declared and set apart during that fiscal year for the holders of our Series A convertible preferred stock a dividend in an amount per share that the holders would have received for the shares of common stock issuable upon conversion of their shares of Series A convertible preferred stock. PREFERENCE ON LIQUIDATION. In the event of our merger or consolidation or the sale of all or substantially all of our assets or other liquidation of our company, holders of our Series A convertible preferred stock shall get a priority in payment over all other classes of stock. In such event, the Series A convertible preferred stock would be entitled to receive the greater of (i) the original purchase price of the 18 ZHONGPIN INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 15. PREFERRED STOCK (continued) Series A convertible preferred stock or (ii) the amount the holder would get if such holder converted all of such holder's Series A convertible preferred stock into common stock. VOTING. The holder of each share of Series A convertible preferred stock (i) shall be entitled to the number of votes with respect to such share equal to the number of shares of common stock into which such share of Series A convertible preferred stock could be converted on the record date for the subject vote or written consent (or, if there is no such record date, then on the date that such vote is taken or consent is effective) and (ii) shall be entitled to notice of any stockholders' meeting in accordance with our by-laws. APPOINT AND ELECT A DIRECTOR. So long as the number of shares of common stock issuable upon conversion of the outstanding shares of Series A convertible preferred stock is greater than 10% of the number of outstanding shares of common stock (on a fully diluted basis), the holders of record of the shares of Series A convertible preferred stock, exclusively and as a separate class, shall be entitled to elect one of our directors. CONVERSION RIGHT. The holders of Series A convertible preferred stock may convert each share of Series A convertible preferred stock into common stock at an initial conversion price of $0.113157 ($4.00 post-split). The conversion price will be adjusted for stock dividends, stock splits and similar events. AUTOMATIC CONVERSION. Each share of Series A convertible preferred stock will automatically be converted into shares of common stock at the conversion price at the time in effect if (i) we consummate an underwritten public offering of our common stock giving us at least $30 million in net proceeds, (ii)(A) the closing price of our common stock equals or exceeds $0.2828934 ($10.00 post-split) (as adjusted) for the twenty (20) consecutive-trading-day period ending within two (2) days of the date on which we provide notice of such conversion as hereinafter provided and (B) either a registration statement registering for resale the shares of common stock issuable upon conversion of the Series A convertible preferred stock has been declared effective and remains effective and available for resale for the twenty (20)-day period, or Rule 144(k) under the Securities Act of 1933, as amended, is available for the resale of such shares, or (iii) by consent of at least 67% of the then-outstanding shares of Series A convertible preferred stock. PROTECTIVE PROVISIONS. So long as at least 1,750,000 shares of Series A convertible preferred stock are outstanding (subject to adjustment for stock splits, combinations and the like), the holders of a majority of the outstanding shares of Series A convertible preferred stock shall be required (in addition to any consent or approval otherwise required by law) for us to take certain actions, including (1) the liquidation, dissolution or wind up of our company, (2) the amendment, alteration or repeal of any provision of our certificate of incorporation so as to affect the rights, preferences or privileges of the Series A convertible preferred stock, (3) the creation of a new class of preferred stock or any increase in the number of shares of Series A convertible preferred stock that can be issued, or (4) the purchase or redemption, or the payment or declaration of any dividend or the making of any distribution on, any securities junior in priority to the Series A convertible preferred stock; or (5) making any change in the size of our board of directors. 16. WARRANTS In conjunction with the issuance of preferred stock discussed in Note 15, the Company issued warrants for the purchase of 3,450,000 shares of its common stock. 19 ZHONGPIN INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 16. WARRANTS (continued) Also in conjunction with the issuance of preferred stock, the Company issued warrants to purchase 345,000 units at an initial exercise price of $8.00 per unit. The units that may be acquired upon exercise of such warrants consist of two shares of Series A convertible preferred stock and one warrant to purchase one share of common stock at an initial exercise price per share of $5.00. These warrants, if fully exercised and converted, would require the issuance of 1,035,000 common shares. On June 15, 2006, in conjunction with a one year consulting agreement, the Company issued three year warrants to purchase 100,000 common shares at a price of $6.50 per share. The warrants vest monthly over a one year period. These warrants were accounted for using the fair value method, with the expense being recognized ratably over the requisite service period of one year. Consulting expense related to the warrants amounted to $12,760 for the nine months ended September 30, 2006. Stock warrant transactions are summarized as follows: The following table provides certain information with respect to the above referenced warrants outstanding at September 30, 2006: Weighted Number Weighted Average Average Life - Exercise Price Outstanding Exercise Price Years -------------- ----------- -------------- -------------- Warrants $4.00 - $6.50 4,585,000 $4.88 4.55 The following table provides certain information with respect to stock options exercisable at September 30, 2006: Number Weighted Average Exercise Price Outstanding Exercise Price -------------- ----------- ---------------- Warrants $4.00 - $6.50 4,521,000 $4.86 The weighted average fair value at date of grant for warrants granted during 2006 was $0.38, and was estimated using the Black-Scholes option valuation model with the following assumptions: Expected life in years 3 Interest rate 4% Volatility 6.1% Dividend yield 0% 17. SEGMENT REPORTING We operate in two business segments: pork and pork products, and vegetables and fruits. Our pork and pork products segment is involved primarily in the processing of live market hogs into fresh, frozen and processed pork products. Our pork and pork products segment markets its products domestically to our branded stores and to food retailers, foodservice distributors, restaurant operators and noncommercial foodservice establishments, such as schools, hotel chains, healthcare facilities, the military and other food processors, as well as to international markets. 20 ZHONGPIN INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 17. SEGMENT REPORTING (continued) Our vegetables and fruits segment is involved primarily in the processing of fresh vegetables and fruits. We contract with more than 120 farms in Henan Province and nearby areas to produce high-quality vegetable varieties and fruits suitable for export purposes. The proximity of the contracted farms to our operations ensures freshness from harvest to processing. We contract to grow more than 20 categories of vegetables and fruits, including asparagus, sweet corn, broccoli, mushrooms, lima beans and strawberries.
SALES BY SEGMENT (U.S. DOLLARS IN MILLIONS) THREE MONTHS ENDED SEPTEMBER 30, PERCENTAGE -------------------------- NET CHANGE CHANGE 2006 2005 2006/2005 2006/2005 ---- ---- --------- --------- Pork and Pork Products........... $ 31.58 $ 16.69 $ 14.89 89% Vegetables and Fruits............ 2.25 1.50 0.75 50% ------- ------- ------- Total................. $ 33.83 $ 18.19 $ 15.64 86% ======= ======= =======
SALES BY SEGMENT (U.S. DOLLARS IN MILLIONS) NINE MONTHS ENDED SEPTEMBER 30, PERCENTAGE ------------------------- NET CHANGE CHANGE 2006 2005 2006/2005 2006/2005 ---- ---- --------- --------- Pork and Pork Products........... $ 91.65 $ 49.05 $ 42.60 87% Vegetables and Fruits............ 4.45 2.14 2.31 108% ------- ------- ------- Total................. $ 96.10 $ 51.19 $ 44.91 88% ======= ======= =======
OPERATING INCOME BY SEGMENT (U.S. DOLLARS IN MILLIONS) OPERATING MARGIN THREE MONTHS ENDED THREE MONTHS ENDED SEPTEMBER 30, NET SEPTEMBER 30, ---------------------------- CHANGE -------------------------- 2006 2005 2006/2005 2006 2005 ---- ---- --------- ---- ---- Pork and Pork Products....... $ 1.58 $ 2.10 $ (0.52) 5.00% 12.58% Vegetables and Fruits........ 0.16 0.09 0.07 7.11% 6.00% ------ ------ ------- Total............. $ 1.74 $ 2.19 $ (0.45) 5.14% 12.04% ====== ====== =======
21 ZHONGPIN INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 17. SEGMENT REPORTING (continued)
OPERATING INCOME BY SEGMENT (U.S. DOLLARS IN MILLIONS) OPERATING MARGIN NINE MONTHS NINE MONTHS ENDED ENDED SEPTEMBER 30, NET SEPTEMBER 30, ----------------------- CHANGE ------------------ 2006 2005 2006/2005 2006 2005 ---- ---- --------- ---- ---- Pork and Pork Products............ $ 6.66 $ 6.47 $ 0.19 7.27% 13.19% Vegetables and Fruits............. 0.39 0.14 0.25 8.76% 6.54% ------ ------ ------ Total.................. $ 7.05 $ 6.61 $ 0.44 7.34% 12.91% ====== ====== ======
22 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS THE STATEMENTS CONTAINED IN THIS REPORT WITH RESPECT TO OUR FINANCIAL CONDITION, RESULTS OF OPERATIONS AND BUSINESS THAT ARE NOT HISTORICAL FACTS ARE "FORWARD-LOOKING STATEMENTS" WITHIN THE MEANING OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 AND SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED (THE "EXCHANGE ACT"). WE INTEND SUCH FORWARD-LOOKING STATEMENTS TO BE COVERED BY THE SAFE HARBOR PROVISIONS FOR FORWARD-LOOKING STATEMENTS CONTAINED IN SECTION 21E OF THE EXCHANGE ACT. FORWARD-LOOKING STATEMENTS CAN BE IDENTIFIED BY THE USE OF FORWARD-LOOKING TERMINOLOGY, SUCH AS "ESTIMATES," "PROJECTS," "PLANS," "BELIEVES," "EXPECTS," "ANTICIPATES," "INTENDS," OR THE NEGATIVE THEREOF OR OTHER VARIATIONS THEREON, OR BY DISCUSSIONS OF STRATEGY THAT INVOLVE RISKS AND UNCERTAINTIES. MANAGEMENT WISHES TO CAUTION THE READER OF THE FORWARD-LOOKING STATEMENTS THAT SUCH STATEMENTS, WHICH ARE CONTAINED IN THIS REPORT, REFLECT OUR CURRENT BELIEFS WITH RESPECT TO FUTURE EVENTS AND INVOLVE KNOWN AND UNKNOWN RISKS, UNCERTAINTIES AND OTHER FACTORS, INCLUDING, BUT NOT LIMITED TO, ECONOMIC, COMPETITIVE, REGULATORY, TECHNOLOGICAL, KEY EMPLOYEE, AND GENERAL BUSINESS FACTORS AFFECTING OUR OPERATIONS, MARKETS, GROWTH, SERVICES, PRODUCTS, LICENSES AND OTHER FACTORS DISCUSSED IN OUR OTHER FILINGS WITH THE SECURITIES AND EXCHANGE COMMISSION, AND THAT THESE STATEMENTS ARE ONLY ESTIMATES OR PREDICTIONS. NO ASSURANCES CAN BE GIVEN REGARDING THE ACHIEVEMENT OF FUTURE RESULTS, AS ACTUAL RESULTS MAY DIFFER MATERIALLY AS A RESULT OF RISKS FACING OUR COMPANY, AND ACTUAL EVENTS MAY DIFFER FROM THE ASSUMPTIONS UNDERLYING THE STATEMENTS THAT HAVE BEEN MADE REGARDING ANTICIPATED EVENTS. THESE FORWARD-LOOKING STATEMENTS ARE SUBJECT TO NUMEROUS ASSUMPTIONS, RISKS AND UNCERTAINTIES THAT MAY CAUSE OUR ACTUAL RESULTS TO BE MATERIALLY DIFFERENT FROM ANY FUTURE RESULTS EXPRESSED OR IMPLIED BY US IN THOSE STATEMENTS. SOME OF THESE RISKS ARE DESCRIBED IN "RISK FACTORS" IN ITEM 1A OF OUR ANNUAL REPORT ON FORM 10-K, AS AMENDED, FOR THE TRANSITION PERIOD FROM JUNE 30, 2005 TO DECEMBER 31, 2005. THESE RISK FACTORS SHOULD BE CONSIDERED IN CONNECTION WITH ANY SUBSEQUENT WRITTEN OR ORAL FORWARD-LOOKING STATEMENTS THAT WE OR PERSONS ACTING ON OUR BEHALF MAY ISSUE. ALL WRITTEN AND ORAL FORWARD LOOKING STATEMENTS MADE IN CONNECTION WITH THIS REPORT THAT ARE ATTRIBUTABLE TO OUR COMPANY OR PERSONS ACTING ON OUR BEHALF ARE EXPRESSLY QUALIFIED IN THEIR ENTIRETY BY THESE CAUTIONARY STATEMENTS. GIVEN THESE UNCERTAINTIES, WE CAUTION INVESTORS NOT TO UNDULY RELY ON OUR FORWARD-LOOKING STATEMENTS. WE DO NOT UNDERTAKE ANY OBLIGATION TO REVIEW OR CONFIRM ANALYSTS' EXPECTATIONS OR ESTIMATES OR TO RELEASE PUBLICLY ANY REVISIONS TO ANY FORWARD-LOOKING STATEMENTS TO REFLECT EVENTS OR CIRCUMSTANCES AFTER THE DATE OF THIS REPORT OR TO REFLECT THE OCCURRENCE OF UNANTICIPATED EVENTS. FURTHER, THE INFORMATION ABOUT OUR INTENTIONS CONTAINED IN THIS REPORT IS A STATEMENT OF OUR INTENTION AS OF THE DATE OF THIS REPORT AND IS BASED UPON, AMONG OTHER THINGS, THE EXISTING REGULATORY ENVIRONMENT, INDUSTRY CONDITIONS, MARKET CONDITIONS AND PRICES, THE ECONOMY IN GENERAL AND OUR ASSUMPTIONS AS OF SUCH DATE. WE MAY CHANGE OUR INTENTIONS, AT ANY TIME AND WITHOUT NOTICE, BASED UPON ANY CHANGES IN SUCH FACTORS, IN OUR ASSUMPTIONS OR OTHERWISE. GENERAL During the period from March 31, 2005 to January 30, 2006, we did not generate any significant revenue, and accumulated no significant assets, as we explored various business opportunities. On January 30, 2006, in exchange for a controlling interest in our publicly-held "shell" corporation, we acquired all of the issued and outstanding capital stock of Falcon Link Investment Limited ("Falcon Link"). This transaction is commonly referred to as a "reverse acquisition." For financial reporting purposes, Falcon Link was considered the acquirer in such transaction. As a result, our historical financial statements for all periods prior to January 30, 2006 included in this prospectus are those of Falcon Link. 23 OVERVIEW We are principally engaged in the meat and food processing business in the PRC. Currently, we have five processing plants located in Henan Province in the PRC, with a total of seven production lines. Our current total production capacity for chilled pork and frozen pork is 345 metric tons per day, based on an 8-hour working day, or approximately 132,000 metric tons on an annual basis. We also have production capacity for prepared meats of 40 metric tons per 8-hour day (or approximately 14,400 metric tons on an annual basis) and for fruits and vegetables of 35 metric tons per 8-hour day (or approximately 12,600 metric tons on an annual basis). We utilize state-of-the-art equipment in all of our abattoirs and processing facilities. On June 7, 2006, our subsidiary, Henan Zhongpin Food Share Co. Limited ("Henan Zhongpin"), formed a wholly-owned subsidiary, Zhumadian Zhongpin Food Company Limited, through which we plan to invest approximately $14.00 million to construct a new production facility in southern Henan Province. This facility is designed with a production capacity for chilled and frozen pork of 200 metric tons per 8-hour working day, or approximately 72,000 metric tons on an annual basis, of which 60% of production capacity is designed for the production of chilled pork and 40% for the production of frozen pork. We plan to put this new plant into operation in the second quarter of fiscal 2007. On August 21, 2006, a new wholly-owned subsidiary, Anyang Zhongpin Food Company Limited was formed by Henan Zhongpin. Through this subsidiary, we plan to invest approximately $13.50 million to construct a new facility in northern Henan Province with a production capacity of 175 metric tons per 8-hour working day, or approximately 58,000 metric tons on an annual basis. Approximately 60% of the production capacity will be designed for the production of chilled pork and approximately 40% will be designed for the production of frozen pork. We plan to put the new plant into operation in the third quarter of fiscal 2007. On November 6, 2006, Henan Zhongpin entered into a three-year lease agreement with Hei Longjiang Gongzhun Meat Food Co., Lt. ("Hei Longjiang"), providing Henan Zhongpin with the full use of Hei Longjiang's meat processing facilities in Hailun City, Hei Longjiang Province in the PRC. Our rental payment under the lease is 1,900,000 RMB (US $251,116.75) for the first year and 2,100,000 RMB (US $266,497.46) per year for the second and third years of the lease term. The leased facilities include a processing plant with a total of two production lines. The total current production capacity for chilled pork and frozen pork at the facilities is 80 metric tons per day, of which 50 metric tons per day is for chilled pork and 30 metric tons per day is for frozen pork, based on an 8-hour working day, or approximately 27,000 metric tons on an annual basis. On September 14, 2006 and September 27, 2006, Henan Zhongpin formed two wholly-owned subsidiaries, Henan Zhongpin Fresh Food Logistics Company Limited and Henan Zhongpin Business Development Company Limited, respectively. Henan Zhongpin Fresh Food Logistics Company Limited was organized to provide various logistics services, such as storage, sorting, transportation and other related logistics services to our operating subsidiaries and to third parties. Henan Zhongpin Business Development Company Limited was organized to coordinated our retail distribution channel, including the management of our showcase stores, branded stores and supermarket counters, and the promotion of our Zhongpin brand. On September 25, 2006, Henan Zhongpin formed a wholly-owned subsidiary, Deyang Zhongpin Food Company Limited, for the purpose of providing marketing, management, training, quality control and financial services to Zhongpin's third-party suppliers located in the Southwest of the PRC. 24 We plan to expand the production capacity for prepared meat products inside Zhongpin Industry Park, which is located in Changge City, Henan Province, by investing approximately $3.00 million to construct an additional facility at this location with additional production capacity of 30 metric tons per 8-hour working day, or approximately 10,000 metric tons on an annual basis. We expect to put the new facility into operation in the first quarter of fiscal 2007. Our products are sold under the Zhongpin and Shengpin brand names. Our customers include over 14 international or domestic fast food companies in the PRC, over 33 export-registered processing factories and over 1,360 school cafeterias, factory canteens, army posts and national departments. We also sell directly to over 2,480 retail outlets, including supermarkets, within the PRC. Since 2001, we have been one of the "leading agricultural industrial enterprises" in the PRC and are currently ranked by the China Meat Association as the sixth largest producer in the national meat industry. During the past five years, our annual average growth rate approximated 43% percent in terms of revenues and 60% in terms of net profits. We have established distribution networks in more than 20 provinces and four cities with special legal status in the North, East, South and South Midland of the PRC, and also have formed strategic partnerships with leading supermarket chains and the catering industry in the PRC. In addition, we export products to the European Union, Southeast Asia, Russia and South Africa. CRITICAL ACCOUNTING POLICIES Our discussion and analysis of our financial condition and results of operations are based on our consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. We evaluate, on an on-going basis, our estimates for reasonableness as changes occur in our business environment. We base our estimates on experience, the use of independent third-party specialists, and various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. Critical accounting policies are defined as those that are reflective of significant judgments, estimates, and uncertainties, and potentially result in materially different results under different assumptions and conditions. We believe the following are our critical accounting policies: ACCOUNTS RECEIVABLE. We state accounts receivable at cost, net of allowance for doubtful accounts. Based on our past experience and current practice in the PRC, management provides for an allowance for doubtful accounts equivalent to those accounts that are not collected within one year plus 5% of receivables less than one year old. As of September 30, 2006, we were successful in collecting approximately $0.67 million, or approximately 89%, of doubtful accounts that were outstanding at December 31, 2005 for longer than one year. It is the management's belief that the current bad debt allowance adequately reflects an appropriate estimate based on management's judgment. INVENTORY VALUATION. We value our pork inventories at the lower of cost, determined on a weighted average basis, and net realizable value (the estimated market price). When the carcasses are disassembled and transferred from primary processing to various manufacturing departments, we adjust the net realizable value for product specifications and further processing, which becomes the basis for calculating inventory values. In addition, substantially all inventory expenses, packaging, and supplies are valued by the weighted average method. 25 GOODWILL AND OTHER INTANGIBLES. Our identifiable intangible assets are amortized over their useful life, unless the useful life is determined to be indefinite. The useful life of an identifiable intangible asset is based on an analysis of several factors, including contractual, regulatory or legal obligations, demand, competition and industry trends. Goodwill and indefinite-lived intangible assets are not amortized, but are tested annually for impairment. The goodwill impairment test is a two-step process. First, the fair value of each reporting unit is compared with the carrying amount of the reporting unit, including goodwill. The estimated fair value of the reporting unit is determined on the basis of discounted cash flow. If the carrying value exceeds fair value of the reporting unit, then a second step must be completed in order to determine the amount of goodwill impairment that should be recorded. In the second step, the implied fair value of the reporting unit's goodwill is determined by allocating the reporting unit's fair value to all of its assets and liabilities other than goodwill in a manner similar to a purchase price allocation. The resulting implied fair value of the goodwill that results from the application of this second step is then compared to the carrying amount of the goodwill and an impairment charge is recorded for the difference. Annual impairment testing for indefinite-lived intangible assets compares the fair value and carrying value of the intangible. The fair value of indefinite-lived intangible assets is determined on the basis of discounted cash flows. If the carrying value exceeds fair value, the indefinite-lived intangible asset is considered impaired and an impairment charge is recorded for the difference. Intangible assets that are subject to amortization are evaluated for impairment using a process similar to that used to evaluate elements of long-lived assets. The assumptions used in the estimate of fair value are consistent with historical performance and the estimates and assumptions used in determining future profit plans for each reporting unit. We review product growth patterns, market share information, industry trends, changes in distribution channels, and economic indicators in determining the estimates and assumptions used to develop cash flow and profit plan assumptions. INCOME TAXES. We account for income taxes in accordance with Statement of Financial Accounting Standard No. 109, "Accounting for Income Taxes." We compute our provision for income taxes based on the statutory tax rates and tax planning opportunities available to us in the PRC. Significant judgment is required in evaluating our tax positions and determining our annual tax position. RESULTS OF OPERATIONS In fiscal 2006, we intend to continue to focus on the implementation of our strategic plan to continue the growth we have experienced in the last four years. In February 2006, we completed the construction of a new, fresh-chilled meat processing facility in Zhongpin Industrial Park II and are expanding our capability in temperature-controlled, physical logistics systems. On January 31, 2006, we received gross proceeds of $27.6 million from the sale of our Series A convertible preferred stock and warrants. We expect to continue to expand our capital base, to scale up operations and to develop new markets, streamline supply chain management, invest in training and human resources development and accelerate revenue and profit growth. In fiscal 2006, we expect the results of the pork and pork products segment of our business to remain strong. Supply is expected to be ample, but live hog prices are expected to increase slightly. We anticipate that our gross profit margin will decrease slightly during the remainder of fiscal 2006 due to the slight increase in the prices of raw materials. We anticipate strong demand for pork throughout the remainder of fiscal 2006. We also expect to increase our market share in the meat and meat products segment in our target markets in fiscal 2006. 26 The following table sets forth, for the periods indicated, certain statement of operations data:
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, ---------------------------- -------------------------- 2006 2005 2006 2005 ---- ---- ---- ---- (U.S. dollars in thousands) Revenues: Sales revenues $ 33,830 $ 18,188 $ 96,100 $ 51,185 Cost of sales 28,675 15,300 81,642 42,684 -------- -------- -------- -------- Gross profit 5,155 2,888 14,458 8,501 Operating expenses: General and administrative expenses 2,529 298 5,008 798 Operating expenses 884 401 2,404 1,094 -------- -------- -------- -------- Total operating expenses 3,413 699 7,411 1,892 -------- -------- -------- -------- Income from operations 1,742 2,189 7,047 6,609 Other income (expense): Interest income 24 63 269 152 Other income (1) (47) 36 (50) Allowance income 7 2 1,233 46 Exchange gain (loss) 15 -- 33 (42) Interest expense (301) (387) (909) (1,195) -------- -------- -------- -------- Total other income (expense) (256) (369) 662 (1,089) -------- -------- -------- -------- Net income before taxes 1,486 1,820 7,709 5,520 Provision for income taxes 125 54 442 177 -------- -------- -------- -------- Net income after taxes 1,361 1,766 7,267 5,343 Minority interest in gain (loss) 2 5 22 24 -------- -------- -------- -------- Net income 1,359 1,761 7,245 5,319 Foreign currency translation adjustment 479 255 745 255 -------- -------- -------- -------- Comprehensive income $ 1,838 $ 2,016 $ 7,990 $ 5,574 ======== ======== ======== ========
COMPARISON OF THREE MONTHS ENDED SEPTEMBER 30, 2006 AND SEPTEMBER 30, 2005 REVENUE. Total revenue increased from $18.19 million for the three months ended September 30, 2005 to $33.83 million for the three months ended September 30, 2006, which represented an increase of $15.64 million, or approximately 86%. The increase in revenues was primarily due to increased sales in our meat and meat products segment resulting from the effects of the continued increase in the amount of branded stores sales and increased sales to restaurants and non-commercial customers. During the three months ended September 30, 2006, nine new showcase stores, 72 new "branded" retail stores and 106 27 new supermarket counters were opened and we expanded our marketing and sales efforts to include 13 additional second-tier cities and 13 additional third-tier cities domestically. During the three months ended September 30, 2006, revenues from sales to branded stores increased to $15.7 million, which represented an increase of $6.9 million, or approximately 79%, as compared to the three months ended September 30, 2005. During the three months ended September 30, 2006, revenues from sales to food service distributors increased to $6.2 million, which represented an increase of $3.4 million, or approximately 121%, as compared to the three months ended September 30, 2005. During the three months ended September 30, 2006, revenues from sales to restaurants and non-commercial customers increased to $9.3 million, which represented an increase of $4.6 million, or approximately 99%, as compared to the three months ended September 30, 2005. During the three months ended September 30, 2006, revenues from export sales increased to $2.6 million, which represented an increase of $0.7 million, or approximately 37%, as compared to the three months ended September 30, 2005. COST OF SALES. Cost of sales increased from $15.30 million for the three months ended September 30, 2005 to $28.67 million for the three months ended September 30, 2006, which represented an increase of $13.37 million, or approximately 87%. The increase of cost of sales was primarily due to the corresponding increase in sales. The gross profit margin (gross profit divided by total sales revenue) decreased from 15.88% for the three months ended September 30, 2005 to 15.24% for the three months ended September 30, 2006. The decrease in gross profit margin was primarily due to an increase in the cost of raw materials, which was offset, in part, by a slight increase in the market prices for pork products during the three months ended September 30, 2006. GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses increased from $0.30 million for the three months ended September 30, 2005 to $2.53 million for the three months ended September 30, 2006, which represented an increase of $2.23 million, or approximately 743%. As a percentage of revenues, general and administrative expenses increased from 1.63% for the three months ended September 30, 2005 to 7.48% for the three months ended September 30, 2006. The increase in general and administrative expenses was primarily the result of the accrual of a liability in the amount of $1.27 million, or approximately 3.76% of the total revenue for three months ended September 30, 2006, that may be payable to the holders of our Series A convertible preferred stock and related stock purchase warrants because of our failure to register in a timely manner for resale under the Securities Act of 1933, as amended, the shares of our common stock issuable upon the conversion or exercise of such securities. We will continue to accrue a liability in the amount of $414,000 per month plus interest until our registration statement relating to such shares is declared effective by the Securities and Exchange Commission. In addition, the increase in the percentage of general and administrative expenses to revenues resulted from the expansion of our operations and the additional expenses we incurred as a publicly-traded company that is reporting under the U.S. federal securities laws. During the three months ended September 30, 2006, we incurred an additional $0.52 million in legal, accounting and consulting fees and other expenses relating primarily to our preparation for becoming compliant with our obligations under the Sarbanes-Oxley Act of 2002 and, to a lesser extent, to the registration statement we filed under the Securities Act of 1933, as amended, seeking to register the resale of the shares of common stock underlying our Series A convertible preferred stock and warrants and our periodic reporting obligations under the U.S. federal securities laws. In addition, during such period, management compensation and welfare expenses increased approximately $0.18 million as compared to the comparable 2005 period primarily due to the addition of senior executives and technical experts to our management team. At the same time, our advertising expenses also increased approximately $0.09 million compared to the comparable period in fiscal 2005. OPERATING EXPENSES. Operating expenses increased from $0.40 million for the three months ended September 30, 2005 to $0.88 million for the three months ended September 30, 2006, which represented 28 an increase of $0.48 million, or approximately 120%. As a percentage of revenue, operating expenses increased from 2.21% for the three months ended September 30, 2005 to 2.61% for the three months ended September 30, 2006. The increase in operating expenses was primarily the result of increased transportation expenses of $0.32 million due to the increased price of gasoline and an increase of $0.09 million in compensation and welfare expenses within our sales department. INTEREST EXPENSE. Interest expense decreased from $0.39 million for the three months ended September 30, 2005 to $0.30 million for the three months ended September 30, 2006, which represented a decrease of $0.09 million, or approximately 22%. The decrease in interest expense was primarily a result of having adequate cash flow from the equity private placement we consummated in the first quarter of 2006, which enabled us to reduce our higher-interest- bearing bank loans. While our average outstanding bank debt increased by approximately $0.72 million during the three months ended September 30, 2006, from $22.63 million for the three months ended September 30, 2005 to $23.35 million for the three months ended September 30, 2006, our weighted average borrowing rate decreased from 6.84% for the three months ended September 30, 2005 to 5.16% for the three months ended September 30, 2006. INTEREST INCOME, ALLOWANCE INCOME, OTHER INCOME AND EXCHANGE GAIN (LOSS). Interest income, allowances income, other income and exchange gain (loss) increased from $18,311 for the three months ended September 30, 2005 to $44,416 for the three months ended September 30, 2006, which represented an increase of $26,105, or approximately 143%. This increase was primarily due to a decrease in other expenses that would have offset the other income. INCOME TAXES. The effective tax rate in the PRC on income generated from the sale of prepared products is 33% and there is no income tax on income generated from the sale of raw products including raw meat products and raw fruits and vegetable products. The increase of $0.07 million in the provision for income taxes for the three months ended September 30, 2006 over the three months ended September 30, 2005 resulted from an increase of $0.21 million in our income from the sale of prepared products for the three months ended September 30, 2006. COMPARISON OF NINE MONTHS ENDED SEPTEMBER 30, 2006 AND SEPTEMBER 30, 2005 REVENUE. Total revenue increased from $51.18 million for the nine months ended September 30, 2005 to $96.10 million for the nine months ended September 30, 2006, which represented an increase of $44.92 million, or approximately 88%. The increase in revenues was primarily due to increased sales in our meat and meat products segment resulting from the effects of the continued increase in the amount of branded stores sales and increased sales to restaurants and non-commercial customers. During the nine months ended September 30, 2006, 384 new showcase stores, "branded" retail stores and supermarket counters were opened and we expanded our marketing and sales efforts to include 28 additional second-tier cities and 76 additional third-tier cities domestically. During the nine months ended September 30, 2006, revenues from sales to branded stores increased to $46.2 million, which represented an increase of $21.6 million, or approximately 88%, as compared to the nine months ended September 30, 2005. During the nine months ended September 30, 2006, revenues from sales to food service distributors increased to $16.0 million, which represented an increase of $7.7 million, or approximately 93%, as compared to the nine months ended September 30, 2005. During the nine months ended September 30, 2006, revenues from sales to restaurants and non-commercial customers increased to $25.8 million, which represented an increase of $12.8 million, or approximately 99%, as compared to the nine months ended September 30, 2005. During the nine months ended September 30, 2006, revenues from export sales increased to $8.1 million, which represented an increase of $2.8 million, or approximately 53%, as compared to the nine months ended September 30, 2005. Within these four distribution channels, the percentage of growth was highest for restaurant and 29 non-commercial customers. As a percentage of total sales revenue, sales to restaurant and non-commercial customers has grown from 25% for the nine months ended September 30, 2005 to 26% for the nine months ended September 30, 2006, and sales through exports has decreased from 10% for the nine months ended September 30, 2005 to 9% for the nine months ended September 30, 2006. COST OF SALES. Cost of sales increased from $42.68 million for the nine months ended September 30, 2005 to $81.64 million for the nine months ended September 30, 2006, which represented an increase of $38.96 million, or approximately 91%. The gross profit margin (total sales revenue divided by cost of sales) decreased from 16.61% for the nine months ended September 30, 2005 to 15.05% for the nine months ended September 30, 2006. The decrease of gross profit margin was primarily due to an increase in average raw material costs for the nine months ended September 30, 2006 as compared to the nine months ended September 30, 2005. GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses increased from $0.80 million for the nine months ended September 30, 2005 to $5.01 million for the nine months ended September 30, 2006, which represented an increase of $4.21 million, or approximately 528%. As a percentage of revenues, general and administrative expenses increased from 1.56% for the nine months ended September 30, 2005 to 5.21% for the nine months ended September 30, 2006. As discussed above, the increase in general and administrative expenses primarily resulted from the accrual of a liability of $1.82 million, or approximately 1.90% of total revenue for the nine months ended September 30, 2006, due to our failure to register in a timely manner the resale of the common stock underlying our outstanding Series A convertible preferred stock and related stock purchase warrants. In addition, the increase in general and administrative expenses as a percentage of revenue resulted from the expansion of our operations and the additional expenses we are incurring as a publicly-traded company that is reporting under the U.S. federal securities laws. There was an increase of $1.07 million in legal and accounting fees and other expenses relating to our private placement of equity securities, our reverse acquisition of a controlling interest in a publicly-held "shell" company, our on-going public reporting obligations under the U.S. Federal securities laws and our preparation for becoming compliant with our obligations under the Sarbanes-Oxley Act of 2002. In addition, during the nine months ended September 30, 2006, we incurred $0.79 million of additional management compensation and welfare expenses due to the addition of senior executives and technical experts to our management team. During the nine months ended September 30, 2006, our advertising expense also increased approximately $0.13 million as compared to our advertising expense for the nine months ended September 30, 2005. OPERATING EXPENSES. Operating expenses increased from $1.09 million for the nine months ended September 30, 2005 to $2.40 million for the nine months ended September 30, 2006, which represented an increase of $1.31 million, or approximately 120%. As a percentage of revenue, operating expenses increased from 2.14% for the nine months ended September 30, 2005 to 2.50% for the nine months ended September 30, 2006. The increase in operating expenses was primarily the result of increased transportation expenses of $0.68 million due to the increased price of gasoline and an increase of $0.54 million in compensation and welfare expenses within our sales department. INTEREST EXPENSE. Interest expense decreased from $1.20 million for the nine months ended September 30, 2005 to $0.91 million for the nine months ended September 30, 2006, which represented a decrease of $0.29 million, or approximately 24%. The decrease in interest expense was primarily a result of having adequate cash flow from the equity private placement we consummated in the first quarter of 2006, which enabled us to pay back and reduce our higher-interest-bearing bank loans. During the nine months ended September 30, 2006, our weighted average outstanding bank debt decreased by approximately $1.54 million, from $21.80 million for the nine months ended September 30, 2005 to $20.26 million for the nine months ended September 30, 2006. Our weighted average borrowing rate decreased from 7.32% for the nine months ended September 30, 2005 to 6.00% for the nine months ended September 30, 2006. 30 INTEREST INCOME, ALLOWANCE INCOME, OTHER INCOME AND EXCHANGE GAIN (LOSS). Interest income, allowances income, other income and exchange gain (loss) increased from an income of $0.11 million for the nine months ended September 30, 2005 to $1.57 million for the nine months ended September 30, 2006, which represented an increase of $1.46 million or approximately 1,327%. This increase was primarily the result of an increase of $1.19 million in allowance income. The $1.12 million of the $2.23 million cash grant we received from the Chinese central government for the construction of an additional pork production line was recharacterized from a long-term liability to allowance income when the production line was partially completed and placed into operation during the second quarter of 2006. INCOME TAXES. The effective tax rate in the PRC on income generated from the sale of prepared products is 33% and there is no income tax on income generated from the sale of raw products including raw meat products and raw fruits and vegetable products. The increase of $0.26 million in the provision for income taxes for the nine months ended September 30, 2006 over the nine months ended September 30, 2005 resulted from an increase of $0.80 million in our income from the sale of prepared products during the nine months ended September 30, 2006. SEGMENT INFORMATION We operate in two business segments: pork and pork products, and vegetables and fruits. Our pork and pork products segment is involved primarily in the processing of live market hogs into fresh, frozen and processed pork products. Our pork and pork products segment markets its products domestically to our branded stores, food retailers, foodservice distributors, restaurant operators and noncommercial foodservice establishments, such as schools, hotel chains, healthcare facilities, the military and other food processors, as well as to international markets. Our vegetables and fruits segment is involved primarily in the processing of fresh vegetables and fruits. We contract with more than 120 farms in Henan Province and nearby areas to produce high-quality vegetable varieties and fruits suitable for export purposes. The proximity of the contracted farms to our operations ensures freshness from harvest to processing. We contract to grow more than 20 categories of vegetables and fruits, including asparagus, sweet corn, broccoli, mushrooms, lima beans, strawberries and capsicum. The following tables set forth our revenues, sales in metric tons, operating income and production processed in metric tons by segment for the three months ended September 30, 2006 and 2005, and nine months ended September 30, 2006 and 2005, and the percentage increases for each segment between fiscal periods. The data for the three and nine months ended September 30, 2006 are not necessarily indicative of the results to be expected for the entire year, for any other interim period or for any future year.
SALES BY SEGMENT (U.S. DOLLARS IN MILLIONS) THREE MONTHS ENDED SEPTEMBER 30, PERCENTAGE ------------------------------ NET CHANGE CHANGE 2006 2005 2006/2005 2006/2005 ---- ---- --------- --------- Pork and Pork Products........... $ 31.58 $ 16.69 $ 14.89 89% Vegetables and Fruits............ 2.25 1.50 0.75 50% ------- ------- ------- Total................. $ 33.83 $ 18.19 $ 15.64 86% ======= ======= =======
31
SALES BY SEGMENT (IN METRIC TONS) THREE MONTHS ENDED SEPTEMBER 30, PERCENTAGE ---------------------------- NET CHANGE CHANGE 2006 2005 2006/2005 2006/2005 ---- ---- --------- --------- Pork and Pork Products........... 25,552 15,688 9,864 63% Vegetables and Fruits............ 4,347 975 3,372 346% ------- ------- ------- Total................. 29,899 16,663 13,236 79% ======= ======= =======
OPERATING INCOME BY SEGMENT (U.S. DOLLARS IN MILLIONS) OPERATING MARGIN THREE MONTHS ENDED THREE MONTHS ENDED SEPTEMBER 30, NET SEPTEMBER 30, ---------------------------- CHANGE ------------------------- 2006 2005 2006/2005 2006 2005 ---- ---- --------- ---- ---- Pork and Pork Products....... $ 1.58 $ 2.10 $ (0.52) 5.00% 12.58% Vegetables and Fruits........ 0.16 0.09 0.07 7.11% 6.00% ------ ------ ------- Total............. $ 1.74 $ 2.19 $ (0.45) 5.14% 12.04% ====== ====== =======
PRODUCTION PROCESSED BY SEGMENT (IN METRIC TONS) THREE MONTHS ENDED SEPTEMBER 30, ----------------------------- NET PERCENTAGE 2006 2005 CHANGE CHANGE ---- ---- ------ ------ Pork and Pork Products........... 25,626 16,904 8,722 52% Vegetables and Fruits............ 4,226 959 3,267 341% ------ ------ ------ Total................. 29,852 17,863 11,989 67% ====== ====== ======
SALES BY SEGMENT (U.S. DOLLARS IN MILLIONS) NINE MONTHS ENDED SEPTEMBER 30, PERCENTAGE ------------------------------ NET CHANGE CHANGE 2006 2005 2006/2005 2006/2005 ---- ---- --------- --------- Pork and Pork Products........... $ 91.65 $ 49.05 $ 42.60 87% Vegetables and Fruits............ 4.45 2.14 2.31 108% ------- ------- ------- Total................. $ 96.10 $ 51.19 $ 44.91 88% ======= ======= =======
32
SALES BY SEGMENT (IN METRIC TONS) NINE MONTHS ENDED SEPTEMBER 30, PERCENTAGE --------------------------- NET CHANGE CHANGE 2006 2005 2006/2005 2006/2005 ---- ---- --------- --------- Pork and Pork Products........... 77,736 46,332 31,404 68% Vegetables and Fruits............ 6,818 1,832 4,986 272% ------ ------ ------ Total................. 84,554 48,165 36,390 76% ====== ====== ======
OPERATING INCOME BY SEGMENT (U.S. DOLLARS IN MILLIONS) OPERATING MARGIN NINE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, NET SEPTEMBER 30, --------------------------------- CHANGE ------------------------- 2006 2005 2006/2005 2006 2005 ---- ---- --------- ---- ---- Pork and Pork Products....... $ 6.66 $ 6.47 $ 0.19 7.27% 13.19% Vegetables and Fruits........ 0.39 0.14 0.25 8.76% 6.54% ------ ------ ------ Total............. $ 7.05 $ 6.61 $ 0.44 7.34% 12.91% ====== ====== ======
PRODUCTION PROCESSED BY SEGMENT (IN METRIC TONS) NINE MONTHS ENDED SEPTEMBER 30, NET PERCENTAGE ----------------------------- CHANGE CHANGE 2006 2005 2006/2005 2006/2005 ---- ---- --------- --------- Pork and Pork Products........... 80,662 47,679 32,983 69% Vegetables and Fruits............ 7,098 1,696 5,402 319% ------ ------ ------ Total................. 87,760 49,375 38,385 77% ====== ====== ======
ADDITIONAL OPERATING DATA In assessing our existing operations and planning our future growth and the development of our business, management considers, among other factors, our revenue growth and growth in sales volume by market segment, as well as our sales by distribution channel and geographic market coverage. The following table sets forth our revenues by sales channel for the three months ended September 30, 2006 and 2005 and the nine months ended September 30, 2006 and 2005. 33
SALES BY DISTRIBUTION CHANNEL (U.S. DOLLARS IN MILLIONS) THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30, -------------------------------- ------------------------------- DISTRIBUTION CHANNEL 2006 2005 2006 2005 -------------------- --------------------- --------------------- -------------------- --------------------- AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT Branded stores............... $ 15.7 46.5% $ 8.8 48.4% $ 46.2 48.1% $ 24.6 48.1% Food services distributors... 6.2 18.3 2.8 15.4 16.0 16.6 8.3 16.2 Restaurants and non-commercial............. 9.3 27.4 4.7 25.6 25.8 26.8 13.0 25.3 Export ...................... 2.6 7.8 1.9 10.6 8.1 8.5 5.3 10.4 ------ ----- ------ ----- ------ ----- ------ ----- Total................... $ 33.8 100.0% $ 18.2 100.0% $ 96.1 100.0% $ 51.2 100.0% ====== ===== ====== ===== ====== ===== ====== =====
The following table sets forth information with respect to the average number of products offered by our company, the average number of stores in our retail network and the number of provinces and cities in the PRC in which we offered and sold our products for each of the three years ended December 31, 2003, 2004 and 2005 and the nine-months ended September 30, 2006.
NINE MONTHS ENDED YEAR ENDED DECEMBER 31, SEPTEMBER 30, ---------------------------------- ----------------- 2003 2004 2005 2006 ---- ---- ---- ---- No. of products........................... 107 125 168 216 No. of retail stores...................... 712 978 2,100 2,484 Expansion of Market Coverage No. of Provinces....................... 20 20 20 20 No. of first- tier cities.............. 21 23 29 29 No. of second- tier cities............. 32 36 44 72 No. of third- tier cities.............. 85 109 142 218
LIQUIDITY AND CAPITAL RESOURCES We have financed our operations over the three years ended December 31, 2005 and the nine months ended September 30, 2006 primarily through cash from operating activities and borrowings under our lines of credit with various lending banks in the PRC. In January 2006, we completed a private placement of our Series A convertible preferred stock and common stock purchase warrants and received net proceeds of approximately $23.11 million. At December 31, 2003, 2004 and 2005 and at September 30, 2006 we had cash and cash equivalents of $6.14 million, $5.20 million, $10.14 million and $15.61 million, respectively. Net cash used in operating activities was $4.83 million in the nine months ended September 30, 2006. Net cash provided by operating activities in the nine months ended September 30, 2006 consisted primarily of net profit of $7.25 million due to increased revenue. Net cash used in operating activities for the nine months ended September 30, 2006 was primarily attributable to an increase of $7.78 million in inventory. We increased our inventory levels during the period primarily due to our increased sales. In addition, due to the increasing prices of raw materials during the period, we increased the level of our inventories in an effort to improve our gross profit margins during such period. During the nine months ended September 30, 2006, accounts receivable increased by $3.48 million, which consisted of an increase of $4.11 million in accounts receivable due to increased sales, which was offset in part by a reduction of $0.63 million in other accounts receivable. During the nine months ended September 30, 2006, management focused on reducing the average age of our accounts receivable and increasing the rate at which we turn our inventory. Our average accounts receivable turnover days decreased from 34 approximately 44 days during the nine months ended September 30, 2005 to approximately 34 days during the nine months ended September 30, 2006. In addition, our average inventory turnover days decreased from approximately 24 days during the nine months ended September 30, 2005 to approximately 15 days during the nine months ended September 30, 2006. Net cash used in investing activities was $15.77 million in the nine months ended September 30, 2006. At September 30, 2006, our investment in facility construction in progress increased by approximately $6.73 million as compared to the amount of such investment at December, 31, 2005. During the nine months ended September 30, 2006, a total of $5.07 million was invested in the purchase of fixed assets, including the construction in progress of Zhongpin Industrial Park II, which was completed and transferred to fixed assets. In addition, we expended an additional $3.98 million for an investment in land use rights during the nine months ended September 30, 2006. Net cash provided by financing activities was $25.29 million in the nine months ended September 30, 2006. During the nine months ended September 30, 2006, cash provided by financing activities included net proceeds from the issuance of Series A convertible preferred stock and common stock purchase warrants of $23.11 million and net proceeds from short-term loans of $24.39 million. The net cash used in financing activities included the repayment of short-term indebtedness in the aggregate amount of $21.44 million, the repayment of long-term indebtedness in the amount of $0.15 million and the repayment of bank overdrafts of $0.62 million. At September 30, 2006, Henan Zhongpin had short-term bank and governmental loans in the aggregate amount of $21.95 million with a weighted average interest rate per annum of 6.16%, and lines of credit with aggregate credit availability of $56.71 million, as follows:
MAXIMUM CREDIT INTEREST BANK AVAILABILITY AMOUNT BORROWED RATE MATURITY DATE - ---- -------------- --------------- -------- ------------- Agriculture Bank of China.................... $ 18,722,000 $ 1,150,632 6.70% 12/11/2006 505,772 6.70 12/30/2006 796,591 7.02 04/27/2007 2,402,418 7.34 09/10/2007 Industrial and Commercial Bank of China...... 6,241,000 1,896,645 5.85% 03/30/2007 1,896,645 5.85 05/24/2007 China Construction Bank...................... 11,233,000 632,215 6.42% 12/22/2006 632,215 6.42 12/23/2006 632,215 6.42 01/16/2007 CITIC Industrial Bank........................ 6,241,000 5,057,721 5.85% 07/16/2007 Agriculture Development Bank of China........ 14,978,000 3,793,291 5.85% 07/03/2007 2,528,861 5.85 07/17/2007 Bank of China................................ 7,489,000 -- Shanghai Pudong Development Bank of China.... 3,744,000 -- Commercial Bank of China..................... 6,241,000 --
35
MAXIMUM CREDIT INTEREST BANK AVAILABILITY AMOUNT BORROWED RATE MATURITY DATE - ---- -------------- --------------- -------- ------------- Guangdong Development Bank................... 3,744,000 -- City Finance -short-term..................... -- 25,289 0.00% 04/01/2007 ------------ ------------ Total...................... $ 78,633,000 $ 21,950,510 ============ ============ Canadian Government Transfer Loan............ $ 1,853,271 * 05/15/2043 Canadian Government Transfer Loan - Current portion................................... $ 145,671 6.02% 05/15/2007 City Finance................................. $ 256,679 0.00% None
- ---------------- * 58% of the principal amount of this loan bears interest at the rate of 6.02% per annum and the remaining principal amount of this loan is interest free. All repayments are applied first to the interest-bearing portion of this loan. Of our outstanding short-term indebtedness at September 30, 2006, $4.86 million aggregate principal amount of loans was secured by our land and plants located in the PRC and $17.07 million aggregate principle amount of loans was guaranteed by Henan Zhongpin Industrial Co., Ltd. We believe our existing cash and cash equivalents, together with our available lines of credit, will be sufficient to finance our investment to the new facilities, operating requirements and anticipated capital expenditures of approximately $22.10 million over the next 12 months. CONTRACTUAL COMMITMENTS The following table summarizes our contractual obligations at September 30, 2006 and the effect those obligations are expected to have on our liquidity and cash flow in future periods.
PAYMENTS DUE BY PERIOD (IN THOUSANDS) ------------------------------------------------------- LESS THAN MORE THAN CONTRACTUAL OBLIGATIONS TOTAL 1 YEAR 1-3 YEARS 3-5 YEARS 5 YEARS - ----------------------- ----- ------ --------- --------- ------- Long-Term Debt Obligations............... $2,256 $146 $292 $292 $1,526 Capital Lease Obligations................ -- -- -- -- -- Operating Lease Obligations.............. -- -- -- -- -- Purchase Obligations..................... -- -- -- -- -- Other Obligations........................ -- -- -- -- -- ------ ---- ---- ---- ------ Total........................... $2,256 $146 $292 $292 $1,526 ====== ==== ==== ==== ======
INFLATION AND SEASONALITY While demand for our products in general is relatively high before the Chinese New Year in January or February each year and lower thereafter, we do not believe our operations have been materially affected by inflation or seasonality. 36 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK DISCLOSURES ABOUT MARKET RISK. We may be exposed to changes in financial market conditions in the normal course of business. Market risk generally represents the risk that losses may occur as a result of movements in interest rates and equity prices. We currently do not use financial instruments in the normal course of business that are subject to changes in financial market conditions. CURRENCY FLUCTUATIONS AND FOREIGN CURRENCY RISK. Substantially all of our operations are conducted in the PRC, with the exception of our export business and limited overseas purchases of raw materials. Most of our sales and purchases are conducted within the PRC in Renminbi, which is the official currency of the PRC. As a result, the effect of the fluctuations of exchange rates is considered minimal to our business operations. Substantially all of our revenues and expenses are denominated in Renminbi. However, we use the United States dollar for financial reporting purposes. Conversion of Renminbi into foreign currencies is regulated by the People's Bank of China through a unified floating exchange rate system. Although the PRC government has stated its intention to support the value of the Renminbi, there can be no assurance that such exchange rate will not again become volatile or that the Renminbi will not devalue significantly against the U.S. dollar. Exchange rate fluctuations may adversely affect the value, in U.S. dollar terms, of our net assets and income derived from our operations in the PRC. INTEREST RATE RISK. We do not have significant interest rate risk, as our debt obligations are primarily short-term in nature, with fixed interest rates. CREDIT RISK. We have not experienced significant credit risk, as most of our customers are long-term customers with superior payment records. Our receivables are monitored regularly by our credit managers. ITEM 4. CONTROLS AND PROCEDURES DISCLOSURE CONTROLS AND PROCEDURES. Our management, with the participation our chief executive officer and chief financial officer, has evaluated the effectiveness of our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the period covered by this report. Based on such evaluation, our chief executive officer and chief financial officer have concluded that, as of the end of such period, our disclosure controls and procedures are effective in recording, processing, summarizing and reporting, on a timely basis, information required to be disclosed by us in the reports that we file or submit under the Exchange Act. INTERNAL CONTROL OVER FINANCIAL REPORTING. There have not been any changes in our internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. 37 ZHONGPIN INC. PART II - OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS None. ITEM 1A. RISK FACTORS During the three months ended September 30, 2006, there were no material changes to the risk factors previously disclosed in our Annual Report on Form 10-K, as amended, for the transition period from June 30, 2005 to December 31, 2005. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS (a) None. (b) Not Applicable. (c) None. ITEM 3. DEFAULTS UPON SENIOR SECURITIES Not Applicable. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Not Applicable. ITEM 5. OTHER INFORMATION (a) None. (b) None. ITEM 6. EXHIBITS The exhibits required by this item are set forth on the Exhibit Index attached hereto. 38 ZHONGPIN INC. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, we have duly caused this report to be signed on our behalf by the undersigned thereunto duly authorized. ZHONGPIN INC. (Company) Date: November 14, 2006 By: /s/ Xianfu Zhu ------------------------- Xianfu Zhu Chief Executive Officer By: /s/ Yuanmei Ma ------------------------- Yuanmei Ma Chief Financial Officer 39 EXHIBIT INDEX EXHIBIT NUMBER EXHIBIT TITLE - ----------- ---------------------------------------------------------------- 31.1* Certification of our Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2* Certification of our Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1* Certification of our Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2* Certification of our Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. * filed herewith EX-31.1 2 c45289_ex31-1.txt EXHIBIT 31.1 CERTIFICATION Pursuant to 18 U.S.C. 1350 (Section 302 of the Sarbanes-Oxley Act of 2002) I, Xianfu Zhu, Chief Executive Officer of ZHONGPIN INC., certify that: 1. I have reviewed this Quarterly Report on Form 10-Q of ZHONGPIN INC.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. I am responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under my supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to me by others within those entities, particularly during the period in which this report is being prepared; b) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report my conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and c) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. I have disclosed, based on my most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: November 14, 2006 By:/s/ XIANFU ZHU ------------------------ Xianfu Zhu Chief Executive Officer EX-31.2 3 c45289_ex31-2.txt EXHIBIT 31.2 CERTIFICATION Pursuant to 18 U.S.C. 1350 (Section 302 of the Sarbanes-Oxley Act of 2002) I, Yuanmei Ma, Chief Financial Officer of ZHONGPIN INC., certify that: 1. I have reviewed this Quarterly Report on Form 10-Q of ZHONGPIN INC.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. I am responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under my supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to me by others within those entities, particularly during the period in which this report is being prepared; b) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report my conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and c) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. I have disclosed, based on my most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: November 14, 2006 By:/s/ YUANMEI MA ------------------------ Yuanmei Ma Chief Financial Officer EX-32.1 4 c45289_ex32-1.txt EXHIBIT 32.1 (906 Cert) CERTIFICATION Pursuant to 18 U.S.C. 1350 (Section 906 of the Sarbanes-Oxley Act of 2002) In connection with the Quarterly Report on Form 10-Q of ZHONGPIN INC. (the "Company") for the quarter ended September 30, 2006, as filed with the Securities and Exchange Commission on the date hereof (the "Report"), Xianfu Zhu, as Chief Executive Officer of the Company, hereby certifies, pursuant to 18 U.S.C. ss.1350, as adopted pursuant to ss.906 of the Sarbanes-Oxley Act of 2002, that: (1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Date: November 14, 2006 By:/s/ XIANFU ZHU ------------------------ Xianfu Zhu Chief Executive Officer - -------------------------------------------------------------------------------- This certification accompanies each Report pursuant to ss.906 of the Sarbanes-Oxley Act of 2002 and shall not, except to the extent required by the Sarbanes-Oxley Act of 2002, be deemed filed by the Company for purposes of ss.18 of the Securities Exchange Act of 1934, as amended. A signed original of this written statement required by Section 906 has been provided to the Company and will be retained by the Company and furnished to the Securities and Exchange Commission or its staff upon request. EX-32.2 5 c45289_ex32-2.txt EXHIBIT 32.2 (906 cert) CERTIFICATION Pursuant to 18 U.S.C. 1350 (Section 906 of the Sarbanes-Oxley Act of 2002) In connection with the Quarterly Report on Form 10-Q of ZHONGPIN INC. (the "Company") for the quarter ended September 30, 2006, as filed with the Securities and Exchange Commission on the date hereof (the "Report"), Yuanmei Ma, as Chief Financial Officer of the Company, hereby certifies, pursuant to 18 U.S.C. ss.1350, as adopted pursuant to ss.906 of the Sarbanes-Oxley Act of 2002, that: (1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Date: November 14, 2006 By:/s/ YUANMEI MA ------------------------ Yuanmei Ma Chief Financial Officer - -------------------------------------------------------------------------------- This certification accompanies each Report pursuant to ss.906 of the Sarbanes-Oxley Act of 2002 and shall not, except to the extent required by the Sarbanes-Oxley Act of 2002, be deemed filed by the Company for purposes of ss.18 of the Securities Exchange Act of 1934, as amended. A signed original of this written statement required by Section 906 has been provided to the Company and will be retained by the Company and furnished to the Securities and Exchange Commission or its staff upon request. -----END PRIVACY-ENHANCED MESSAGE-----