EX-99.1 4 e601516_ex99-1.txt FINANCIAL STATEMENTS SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED FINANCIAL STATEMENTS DECEMBER 31, 2005 SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED C O N T E N T S PAGE ------------ REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM 1 BALANCE SHEET 2 STATEMENT OF OPERATIONS 3 STATEMENT OF COMPREHENSIVE INCOME 4 STATEMENT OF STOCKHOLDERS' EQUITY 5 STATEMENT OF CASH FLOWS 6 NOTES TO FINANCIAL STATEMENTS 7 - 11 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Stockholders and Board of Directors Shouguang Yuxin Chemical Industry Co., Limited Shouguang City, Shandong Province We have audited the accompanying balance sheet of Shouguang Yuxin Chemical Industry Co., Limited as of December 31, 2005 and the related statements of operations, comprehensive income, stockholders' equity and cash flows for the year then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Shouguang Yuxin Chemical Industry Co., Limited as of December 31, 2005 and the results of its operations and its cash flows for the year then ended, in conformity with accounting principles generally accepted in the United States. /s/ Morison Cogen LLP January 2, 2007 -1- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED BALANCE SHEET DECEMBER 31, 2005 ASSETS CURRENT ASSETS Cash and cash equivalents $ 3,132,607 Accounts receivable 128,679 Prepayments and other receivables 44,329 Inventories 800,548 Prepaid land lease 496 Due from related party 46,321 ------------ 4,152,980 PROPERTY, PLANT AND EQUIPMENT, Net 820,553 DUE FROM RELATED PARTIES 620,000 PREPAID LAND LEASE, Net of current portion 23,312 ------------ TOTAL ASSETS $ 5,616,845 ============ LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES Accounts payable and accrued expenses $ 114,432 Due to director 49,380 Taxes payable 372,274 ------------ TOTAL LIABILITIES 536,086 ------------ STOCKHOLDERS' EQUITY PAID-IN CAPITAL 1,329,592 RETAINED EARNINGS - UNAPPROPRIATED 3,102,994 RETAINED EARNINGS - APPROPRIATED Statutory Common Reserve Fund 365,496 Statutory Public Welfare Fund 182,748 CUMULATIVE TRANSLATION ADJUSTMENT 99,929 ------------ TOTAL STOCKHOLDERS' EQUITY 5,080,759 ------------ TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 5,616,845 ============ The accompanying notes are an integral part of these financial statements. -2- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED STATEMENT OF OPERATIONS YEAR ENDED DECEMBER 31, 2005 REVENUE Net sales $ 9,776,858 Maintenance service income 1,371,535 ------------ 11,148,393 ------------ OPERATING EXPENSES Cost of revenue 7,013,513 General and administrative expenses 797,879 ------------ 7,811,392 ------------ INCOME FROM OPERATIONS 3,337,001 ------------ OTHER INCOME Rental income 14,666 Interest income 415 ------------ 15,081 ------------ INCOME BEFORE INCOME TAXES 3,352,082 INCOME TAXES 1,048,512 ------------ NET INCOME $ 2,303,570 ============ The accompanying notes are an integral part of these financial statements. -3- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED STATEMENT OF COMPREHENSIVE INCOME YEAR ENDED DECEMBER 31, 2005 NET INCOME $ 2,303,570 OTHER COMPREHENSIVE INCOME Foreign currency translation adjustment 99,929 ------------ COMPREHENSIVE INCOME $ 2,403,499 ============ The accompanying notes are an integral part of these financial statements. -4- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED STATEMENT OF STOCKHOLDERS' EQUITY YEAR ENDED DECEMBER 31, 2005
Retained Earnings - Appropriated -------------------------------- Additional Retained Statutory Statutory Cumulative Paid-in Earnings - Common Public Translation capital Unappropriated Reserve Fund Welfare Fund Adjustment Total ------------ -------------- ------------ ------------ ------------ ------------ BALANCE AT JANUARY 1, 2005 $ 1,329,592 $ 1,118,744 $ 152,616 $ 76,308 $ -- $ 2,677,260 Initial capitalization -- -- -- -- -- -- Cumulative translation adjustment -- -- -- -- 99,929 99,929 Transfer to reserve funds -- (319,320) 212,880 106,440 -- -- Net income for the year ended December 31, 2005 -- 2,303,570 -- -- -- 2,303,570 ------------ ------------ ------------ ------------ ------------ ------------ BALANCE AT DECEMBER 31, 2005 $ 1,329,592 $ 3,102,994 $ 365,496 $ 182,748 $ 99,929 $ 5,080,759 ============ ============ ============ ============ ============ ============
The accompanying notes are an integral part of these financial statements. -5- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED STATEMENT OF CASH FLOWS YEAR ENDED DECEMBER 31, 2005 CASH FLOWS FROM OPERATING ACTIVITIES Net income $ 2,303,570 Adjustments to reconcile net income to net cash provided by operating activities Depreciation and amortization 61,632 Increase in assets Accounts receivable (3,971) Prepayments and other receivables (29,276) Inventories (397,585) Increase (decrease) in liabilities Accounts payable and accrued expenses (85,364) Tax payable 120,327 ------------ Net cash provided by operating activities 1,969,333 ------------ CASH FLOWS FROM INVESTING ACTIVITIES Purchase of property, plant and equipment (13,807) ------------ CASH FLOWS FROM FINANCING ACTIVITIES Increase in due to related parties (656,757) ------------ EFFECTS OF EXCHANGE RATE CHANGE ON CASH 62,825 ------------ NET INCREASE IN CASH 1,361,594 CASH AND CASH EQUIVALENTS - BEGINNING OF YEAR 1,771,013 ------------ CASH AND CASH EQUIVALENTS - END OF YEAR $ 3,132,607 ============ SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION Cash paid during the period for: Income taxes $ 941,720 ============ The accompanying notes are an integral part of these financial statements. -6- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED NOTES TO FINANCIAL STATEMENTS DECEMBER 31, 2005 NOTE 1 - NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Nature of the Business Shouguang Yuxin Chemical Industry Co., Limited (the "Company"), was incorporated in Shouguang City, Shangdong Province, the People's Republic of China (the "PRC") on October 30, 2000 for the purpose of manufacturing chemical products for use in the oil industry and paper manufacturing industry. Operations commenced in January 2004. Reporting Currency The Company's functional currency is Renminibi ("RMB"); however, the reporting currency is the United States dollar ("USD"). Revenue Recognition In accordance with Securities and Exchange Commission ("SEC") Staff Accounting Bulletin ("SAB") No. 104, Revenue Recognition, the Company recognizes revenue when persuasive evidence of a customer or distributor arrangement exists or acceptance occurs, receipt of goods by customer occurs, the price is fixed or determinable, and the sales revenues are considered collectible. Subject to these criteria, the Company generally recognizes revenue at the time goods are delivered to the customer, and when the customer takes ownership and assumes risk of loss based on shipping terms. Maintenance service income for oil pipelines is recognized when services are rendered. Rental income is recognized on a straight-line basis over the terms of the rental agreement. Estimates The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires the use of estimates based on management's knowledge and experience. The more significant areas requiring the use of management estimates and assumptions relate to mineral reserves that are the basis for future cash flow estimates and units-of-production depreciation and amortization calculations. Accordingly, actual results could differ from those estimates. Foreign Currency Translation Assets and liabilities of the Company have been translated using the exchange rate at the balance sheet date. The average exchange rate for the period has been used to translate revenues and expenses. Translation adjustments are reported separately and accumulated in a separate component of equity (cumulative translation adjustment). Comprehensive Income The Company follows the Statement of Financial Accounting Standard ("SFAS") No. 130, Reporting Comprehensive Income. Comprehensive income is a more inclusive financial reporting methodology that includes disclosure of certain financial information that historically has not been recognized in the calculation of net income. Fair Value of Financial Instruments The fair value of financial instruments classified as current assets or liabilities, including cash, receivables and payables, approximates carrying value due to the short-term maturity of the instruments. Cash Equivalents The Company considers all short-term securities purchased with a maturity of three months or less to be cash equivalents. -7- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED NOTES TO FINANCIAL STATEMENTS DECEMBER 31, 2005 NOTE 1 - NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued) Concentration of Credit Risk Certain financial instruments potentially subject the Company to concentrations of credit risk. These financial instruments consist primarily of cash and accounts receivable. The Company places its temporary cash investments with high credit quality financial institutions to limit its credit exposure. Concentrations of credit risk with respect to accounts receivable are limited since the Company performs ongoing credit evaluations of its customers' financial condition and due to the generally short payment terms. Accounts Receivable The Company considers accounts receivable to be fully collectible; accordingly, the Company has not provided for an allowance for doubtful accounts. As amounts become uncollectible, they will be charged to an allowance or operations in the period when a determination of uncollectibility is made. Asset Retirement Obligation The Company follows SFAS No. 143, Accounting for Asset Retirement Obligations, which established a uniform methodology for accounting for estimated reclamation and abandonment costs. SFAS No. 143 requires the fair value of a liability for an asset retirement obligation to be recognized in the period in which the legal obligation associated with the retirement of the long-lived asset is incurred. When the liability is initially recorded, the offset is capitalized by increasing the carrying amount of the related long-lived asset. Over time, the liability is accreted to its present value each period, and the capitalized cost is depreciated over the useful life of the related asset. To settle the liability, the obligation is paid, and to the extent there is a difference between the liability and the amount of cash paid, a gain or loss upon settlement is recorded. Currently, there are no reclamation or abandonment obligations associated with the land being utilized for exploitation. Property, Plant and Equipment Property, plant and equipment are stated at cost less accumulated depreciation. Depreciation is provided to write off the cost of property, plant and equipment over their estimated useful lives using the straight-line method at the following rates per annum: Buildings 20 years Plant and machinery 8 years Office furniture and equipment 8 years The gain or loss arising on the disposal or retirement of an asset is determined as the difference between the sales proceeds and the carrying amount of the asset and is recognized in the income statement. Prepaid Land Lease Prepaid land lease is stated at cost and amortized over the period of the lease on the straight-line basis. Inventories Inventories consist of finished goods and raw materials. Raw materials are used in the production of chemical products, oilfield chemical additives, paper making chemicals and pesticide intermediates. Inventories are stated at the lower of cost and net realizable value. Cost which comprises direct materials and, where applicable, direct labor costs and those overhead costs that have been incurred in bringing the inventories and work in progress to their present locations and condition, is calculated using the first-in, first-out method. Net realizable value is based on estimated selling prices less estimated selling expenses. -8- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED NOTES TO FINANCIAL STATEMENTS DECEMBER 31, 2005 NOTE 1 - NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued) Income Taxes The Company accounts for income taxes under SFAS No. 109, Accounting for Income Taxes, which requires an asset and liability approach to financial accounting and reporting for income taxes. Under the liability method, deferred income tax assets and liabilities are computed annually for temporary differences between the financial statements and tax bases of assets and liabilities that will result in taxable or deductible amounts in the future based on enacted tax laws and rates applicable to the periods in which the differences are expected to affect taxable income. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized. Income tax expense is the tax payable or refundable for the period plus or minus the change during the period in deferred tax assets and liabilities. Employee Benefits The Company participates in employee social security plans, including pension, medical, housing and other welfare benefits, organized by the government authorities in accordance with relevant regulations. Except for the above social security benefits, the Company has no additional commitment to other employee welfare benefits. According to the relevant regulations, premium and welfare benefit contributions are remitted to the social welfare authorities and are calculated based on percentages of the total salary of employees, subject to a certain ceiling. Contributions to the plans are charged to the income statement as incurred, which was approximately $19,000 for the year ended December 31, 2005. Start-up Costs Start-up costs are expensed when incurred. Advertising Costs Advertising costs are expensed as incurred. Shipping and Handling Fees and Costs The Company follows Emerging Issues Task Force ("EITF") No. 00-10, Accounting for Shipping and Handling Fees and Costs. The Company does not charge its customers for shipping and handling. The Company classifies shipping and handling costs as part of the cost of net sales. For the year ended December 31, 2005, shipping and handling costs were $362,465. Recoverability of Long Lived Assets The Company follows SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets. The Statement requires that long-lived assets and certain identifiable intangibles be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable. The Company is not aware of any events or circumstances which indicate the existence of an impairment which would be material to the Company's annual financial statements. -9- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED NOTES TO FINANCIAL STATEMENTS DECEMBER 31, 2005 NOTE 2 - INVENTORIES Inventories consist of the following: Raw materials $ 723,824 Finished goods 76,724 ------------ $ 800,548 ============ NOTE 3 - PROPERTY, PLANT AND EQUIPMENT Property, plant and equipment consist of the following: Buildings $ 830,180 Plant and machinery 52,824 Office furniture and equipment 102,854 ------------ 985,858 Less: Accumulated depreciation 165,305 ------------ $ 820,553 ============ Depreciation and amortization expense for the year ended December 31, 2005 was $63,025. NOTE 4 - PREPAID LAND LEASE The prepaid land lease represents land use rights granted for the usage of a piece of land located in the PRC for a term of 50 years. The prepaid lease is amortized on a straight-line basis over the term of the lease. NOTE 5 - DUE FROM RELATED PARTIES Amounts represent receivables due from three companies whose shareholder and director is also a shareholder and director of the Company. The amounts due are unsecured with no stated repayment terms. NOTE 6 - DUE TO DIRECTOR The amount due is unsecured, interest-free and with no stated repayment terms. NOTE 7 - RETAINED EARNINGS - APPROPRIATED In accordance with the relevant PRC regulations and the Company's Articles of Association, the Company is required to allocate its profit after tax to the following reserves: Statutory Common Reserve Funds The Company is required each year to transfer 10% of the profit after tax as reported under the PRC statutory financial statements to the statutory common reserve funds until the balance reaches 50% of the registered share capital. This reserve can be used to make up any loss incurred or to increase share capital. Except for the reduction of losses incurred, any other application should not result in this reserve balance falling below 25% of the registered capital. -10- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED NOTES TO FINANCIAL STATEMENTS DECEMBER 31, 2005 NOTE 7 - RETAINED EARNINGS - APPROPRIATED (Continued) Statutory Public Welfare Funds The Company is required each year to transfer 5% of the profit after tax as reported under the PRC statutory financial statements to the statutory public welfare funds. This reserve is restricted to capital expenditure for employees' collective welfare facilities that are owned by the Company. The statutory public welfare funds are not available for distribution to the shareholders (except on liquidation). Once capital expenditure for staff welfare facilities has been made, an equivalent amount must be transferred from the statutory public welfare funds to the discretionary common reserve funds. NOTE 8 - INCOME TAXES As discussed in Note 1, the Company utilizes the asset and liability method of accounting for income taxes in accordance with SFAS No. 109. The statutory PRC tax rate is equivalent to the Company's effective tax rate. No provision for deferred taxes has been made as there were no material temporary differences at December 31, 2005. NOTE 9 - MAJOR SUPPLIER During 2005, the Company purchased 51% of its products from four suppliers. At December 31, 2005, amounts due to those suppliers included in accounts payable were $36,828. This concentration makes the Company vulnerable to a near-term severe impact, should the relationships be terminated. NOTE 10 - CUSTOMER CONCENTRATION The Company sells a substantial portion of its product to a limited number of customers. During the year ended December 31, 2005, sales to the Company's four largest customers, based on net sales made to such customers, aggregated $7,962,694, or approximately 80% of total net sales, and sales to the Company's largest customer represented approximately 46% of total net sales. At December 31, 2005, amounts due from these customers were $94,240. This concentration makes the Company vulnerable to a near-term severe impact, should the relationships be terminated. NOTE 11 - SUBSEQUENT EVENT On February 20, 2006, the Company declared dividends in the amount of $3,172,200, which was paid on March 15, 2006. -11- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED FINANCIAL STATEMENTS SEPTEMBER 30, 2006 SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED C O N T E N T S PAGE --------- BALANCE SHEETS 1 STATEMENTS OF OPERATIONS 2 STATEMENTS OF COMPREHENSIVE INCOME 3 STATEMENT OF STOCKHOLDERS' EQUITY 4 STATEMENTS OF CASH FLOWS 5 NOTES TO FINANCIAL STATEMENTS 6 - 10 SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED BALANCE SHEETS September 30, December 31, 2006 2005 ------------ ------------ (Unaudited) (Audited) ASSETS CURRENT ASSETS Cash and cash equivalents $ 2,312,835 $ 3,132,607 Accounts receivable 136,561 128,679 Prepayments and other receivables 11,394 44,329 Inventories 419,686 800,548 Prepaid land lease 506 496 Due from related party 47,294 46,321 ------------ ------------ 2,928,276 4,152,980 PROPERTY, PLANT AND EQUIPMENT, Net 790,376 820,553 DUE FROM RELATED PARTIES 1,266,000 620,000 PREPAID LAND LEASE, Net of current portion 23,421 23,312 ------------ ------------ TOTAL ASSETS $ 5,008,073 $ 5,616,845 ============ ============ LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES Accounts payable and accrued expenses $ 448,816 $ 114,432 Due to director 50,417 49,380 Taxes payable 460,468 372,274 ------------ ------------ TOTAL LIABILITIES 959,701 536,086 ------------ ------------ STOCKHOLDERS' EQUITY PAID-IN CAPITAL 1,329,592 1,329,592 RETAINED EARNINGS - UNAPPROPRIATED 1,684,042 3,102,994 RETAINED EARNINGS - APPROPRIATED Statutory Common Reserve Fund 571,761 365,496 Statutory Public Welfare Fund 285,880 182,748 CUMULATIVE TRANSLATION ADJUSTMENT 177,097 99,929 ------------ ------------ TOTAL STOCKHOLDERS' EQUITY 4,048,372 5,080,759 ------------ ------------ TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 5,008,073 $ 5,616,845 ============ ============ See accompanying notes to financial statements. -1- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED STATEMENTS OF OPERATIONS FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005 AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005 (UNAUDITED)
Three Months Three Months Nine Months Nine Months Ended Ended Ended Ended September 30, September 30, September 30, September 30, 2006 2005 2006 2005 -------------- -------------- -------------- -------------- REVENUE Net sales $ 4,379,013 $ 2,653,029 $ 11,507,636 $ 6,777,071 Maintenance service income -- 122,916 106,168 1,116,470 -------------- -------------- -------------- -------------- 4,379,013 2,775,945 11,613,804 7,893,541 -------------- -------------- -------------- -------------- OPERATING EXPENSES Cost of revenue 3,333,678 1,889,785 8,362,876 4,886,769 General and administrative expenses 38,507 121,203 114,643 744,040 -------------- -------------- -------------- -------------- 3,372,185 2,010,988 8,477,519 5,630,809 -------------- -------------- -------------- -------------- INCOME FROM OPERATIONS 1,006,828 764,957 3,136,285 2,262,732 -------------- -------------- -------------- -------------- OTHER INCOME Rental income 3,770 3,691 11,248 10,951 Interest income 160 85 423 302 -------------- -------------- -------------- -------------- 3,930 3,776 11,671 11,253 -------------- -------------- -------------- -------------- INCOME BEFORE INCOME TAXES 1,010,758 768,733 3,147,956 2,273,985 INCOME TAXES 378,845 234,642 1,085,311 725,077 -------------- -------------- -------------- -------------- NET INCOME $ 631,913 $ 534,091 $ 2,062,645 $ 1,548,908 ============== ============== ============== ==============
See accompanying notes to financial statements. -2- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED STATEMENTS OF COMPREHENSIVE INCOME FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005 AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005 (UNAUDITED)
Three Months Three Months Nine Months Nine Months Ended Ended Ended Ended September 30, September 30, September 30, September 30, 2006 2005 2006 2005 -------------- -------------- -------------- -------------- NET INCOME $ 631,913 $ 534,091 $ 2,062,645 $ 1,548,908 OTHER COMPREHENSIVE INCOME Foreign currency translation adjustment 41,742 97,598 77,168 97,795 -------------- -------------- -------------- -------------- COMPREHENSIVE INCOME $ 673,655 $ 631,689 $ 2,139,813 $ 1,646,703 ============== ============== ============== ==============
See accompanying notes to financial statements. -3- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED STATEMENT OF STOCKHOLDERS' EQUITY FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006
Retained Earnings - Appropriated -------------------------------- Statutory Retained Statutory Public Cumulative Paid-in Earnings - Common Welfare Translation Capital Unappropriated Reserve Fund Fund Adjustment Total ------------ ------------ ------------ ------------ ------------ ------------ BALANCE AT DECEMBER 31, 2005 (AUDITED) $ 1,329,592 $ 3,102,994 $ 365,496 $ 182,748 $ 99,929 $ 5,080,759 Capital contribution -- -- -- -- -- -- Dividend distribution -- (3,172,200) -- -- -- (3,172,200) Cumulative translation adjustment -- -- -- -- 77,168 77,168 Transfer to reserve funds -- (309,397) 206,265 103,132 -- -- Net income for the nine months ended September 30, 2006 -- 2,062,645 -- -- -- 2,062,645 ------------ ------------ ------------ ------------ ------------ ------------ BALANCE AT SEPTEMBER 30, 2006 (UNAUDITED) $ 1,329,592 $ 1,684,042 $ 571,761 $ 285,880 $ 177,097 $ 4,048,372 ============ ============ ============ ============ ============ ============
See accompanying notes to financial statements. -4- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED STATEMENTS OF CASH FLOWS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005 (UNAUDITED) 2006 2005 ----------- ----------- CASH FLOWS FROM OPERATING ACTIVITIES Net income $ 2,062,645 $ 1,548,908 Adjustments to reconcile net income to net cash provided by operating activities Depreciation and amortization 47,153 45,827 (Increase) decrease in assets Accounts receivable (5,118) 93,424 Prepayments and other receivables 33,432 3,364 Inventories 392,559 32,701 Increase (decrease) in liabilities Accounts payable and accrued expenses 327,736 (99,323) Taxes payable 79,359 39,966 ----------- ----------- Net cash provided by operating activities 2,937,766 1,664,867 ----------- ----------- CASH FLOWS FROM INVESTING ACTIVITIES Purchase of property, plant and equipment -- (13,823) ----------- ----------- CASH FLOWS FROM FINANCING ACTIVITIES Decrease in due to/from related party (624,900) (609,917) Dividend distribution (3,186,990) -- ----------- ----------- Net cash used in financing activities (3,811,890) (609,917) ----------- ----------- EFFECTS OF EXCHANGE RATE CHANGE ON CASH 54,352 61,989 ----------- ----------- NET INCREASE (DECREASE) IN CASH (819,772) 1,103,116 CASH AND CASH EQUIVALENTS - BEGINNING OF PERIOD 3,132,607 1,771,013 ----------- ----------- CASH AND CASH EQUIVALENTS - END OF PERIOD $ 2,312,835 $ 2,874,129 =========== =========== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION Cash paid during the period for: Income taxes $ 1,036,024 $ 710,227 =========== =========== See accompanying notes to financial statements. -5- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED NOTES TO FINANCIAL STATEMENTS SEPTEMBER 30, 2006 AND 2005 (UNAUDITED) NOTE 1 - NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Nature of the Business Shouguang Yuxin Chemical Industry Co., Limited (the "Company"), was incorporated in Shouguang City, Shangdong Province, the People's Republic of China (the "PRC") on October 30, 2000 for the purpose of manufacturing chemical products for use in the oil industry and paper manufacturing industry. Operations commenced in January 2004. Reporting Currency The Company's functional currency is Renminibi ("RMB"); however, the reporting currency is the United States dollar ("USD"). Revenue Recognition In accordance with Securities and Exchange Commission ("SEC") Staff Accounting Bulletin ("SAB") No. 104, Revenue Recognition, the Company recognizes revenue when persuasive evidence of a customer or distributor arrangement exists or acceptance occurs, receipt of goods by customer occurs, the price is fixed or determinable, and the sales revenues are considered collectible. Subject to these criteria, the Company generally recognizes revenue at the time goods are delivered to the customer, and when the customer takes ownership and assumes risk of loss based on shipping terms. Maintenance service income for oil pipelines is recognized when services are rendered. Rental income is recognized on the straight-line basis over the terms of the rental agreement. Estimates The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires the use of estimates based on management's knowledge and experience. The more significant areas requiring the use of management estimates and assumptions relate to mineral reserves that are the basis for future cash flow estimates and units-of-production depreciation and amortization calculations. Accordingly, actual results could differ from those estimates. Foreign Currency Translation Assets and liabilities of the Company have been translated using the exchange rate at the balance sheet date. The average exchange rate for the period has been used to translate revenues and expenses. Translation adjustments are reported separately and accumulated in a separate component of equity (cumulative translation adjustment). Comprehensive Income The Company follows the Statement of Financial Accounting Standard ("SFAS") No. 130, Reporting Comprehensive Income. Comprehensive income is a more inclusive financial reporting methodology that includes disclosure of certain financial information that historically has not been recognized in the calculation of net income. Fair Value of Financial Instruments The fair value of financial instruments classified as current assets or liabilities, including cash, receivables and payables, approximates carrying value due to the short-term maturity of the instruments. Cash Equivalents The Company considers all short-term securities purchased with a maturity of three months or less to be cash equivalents. -6- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED NOTES TO FINANCIAL STATEMENTS SEPTEMBER 30, 2006 AND 2005 (UNAUDITED) NOTE 1 - NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued) Concentration of Credit Risk Certain financial instruments potentially subject the Company to concentrations of credit risk. These financial instruments consist primarily of cash and accounts receivable. The Company places its temporary cash investments with high credit quality financial institutions to limit its credit exposure. Concentrations of credit risk with respect to accounts receivable are limited since the Company performs ongoing credit evaluations of its customers' financial condition and due to the generally short payment terms. Accounts Receivable The Company considers accounts receivable to be fully collectible; accordingly, the Company has not provided for an allowance for doubtful accounts. As amounts become uncollectible, they will be charged to an allowance or operations in the period when a determination of uncollectibility is made. Asset Retirement Obligation The Company follows SFAS No. 143, Accounting for Asset Retirement Obligations, which established a uniform methodology for accounting for estimated reclamation and abandonment costs. SFAS No. 143 requires the fair value of a liability for an asset retirement obligation to be recognized in the period in which the legal obligation associated with the retirement of the long-lived asset is incurred. When the liability is initially recorded, the offset is capitalized by increasing the carrying amount of the related long-lived asset. Over time, the liability is accreted to its present value each period, and the capitalized cost is depreciated over the useful life of the related asset. To settle the liability, the obligation is paid, and to the extent there is a difference between the liability and the amount of cash paid, a gain or loss upon settlement is recorded. Currently, there are no reclamation or abandonment obligations associated with the land being utilized for exploitation. Property, Plant and Equipment Property, plant and equipment are stated at cost less accumulated depreciation. Depreciation is provided to write off the cost of property, plant and equipment over their estimated useful lives using the straight-line method at the following rates per annum: Buildings 20 years Plant and machinery 8 years Office furniture and equipment 8 years Motor vehicles 5 years The gain or loss arising on the disposal or retirement of an asset is determined as the difference between the sales proceeds and the carrying amount of the asset and is recognized in the income statement. Prepaid Land Lease Prepaid land lease is stated at cost and amortized over the period of the lease on the straight-line basis. Inventories Inventories consist of finished goods and raw materials. Raw materials are used in the production of chemical products, oilfield chemical additives, paper making chemicals and pesticide intermediates. Inventories are stated at the lower of cost and net realizable value. Cost which comprises direct materials and, where applicable, direct labor costs and those overhead costs that have been incurred in bringing the inventories and work in progress to their present locations and condition, is calculated using the first-in, first-out method. Net realizable value is based on estimated selling prices less estimated selling expenses. -7- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED NOTES TO FINANCIAL STATEMENTS SEPTEMBER 30, 2006 AND 2005 (UNAUDITED) NOTE 1 - NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued) Income Taxes The Company accounts for income taxes under SFAS No. 109, Accounting for Income Taxes, which requires an asset and liability approach to financial accounting and reporting for income taxes. Under the liability method, deferred income tax assets and liabilities are computed annually for temporary differences between the financial statements and tax bases of assets and liabilities that will result in taxable or deductible amounts in the future based on enacted tax laws and rates applicable to the periods in which the differences are expected to affect taxable income. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized. Income tax expense is the tax payable or refundable for the period plus or minus the change during the period in deferred tax assets and liabilities. Employee Benefits The Company participates in employee social security plans, including pension, medical, housing and other welfare benefits, organized by the government authorities in accordance with relevant regulations. Except for the above social security benefits, the Company has no additional commitment to other employee welfare benefits. According to the relevant regulations, premium and welfare benefit contributions are remitted to the social welfare authorities and are calculated based on percentages of the total salary of employees, subject to a certain ceiling. Contributions to the plans are charged to the income statement as incurred, which was approximately $5,000 for the three months ended September 2006 and 2005, and $15,000 for the nine months ended September 30, 2006 and 2005. Start-up Costs Start-up costs are expensed when incurred. Advertising Costs Advertising costs are expensed as incurred. Shipping and Handling Fees and Costs The Company follows Emerging Issues Task Force ("EITF") No. 00-10, Accounting for Shipping and Handling Fees and Costs. The Company does not charge its customers for shipping and handling. The Company classifies shipping and handling costs as part of the cost of net sales. For the three months ended September 30, 2006 and 2005, shipping and handling costs were $67,040 and $62,768 and for the nine months ended September 30, 2006 and 2005, shipping and handling costs were $197,023 and $185,019. Recoverability of Long Lived Assets The Company follows SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets. The Statement requires that long-lived assets and certain identifiable intangibles be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable. The Company is not aware of any events or circumstances which indicate the existence of an impairment which would be material to the Company's annual financial statements. -8- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED NOTES TO FINANCIAL STATEMENTS SEPTEMBER 30, 2006 AND 2005 (UNAUDITED) NOTE 2 - INVENTORIES Inventories consist of the following: 2006 2005 ------------ ------------ Raw materials $ 311,475 $ 723,824 Finished goods 108,211 76,724 ------------ ------------ $ 419,686 $ 800,548 ============ ============ NOTE 3 - PROPERTY, PLANT AND EQUIPMENT Property, plant and equipment consist of the following: 2006 2005 ------------ ------------ Buildings $ 847,587 $ 830,180 Plant and machinery 53,932 52,824 Office furniture and equipment 55,004 53,874 Motor vehicles 50,006 48,980 ------------ ------------ 1,006,529 985,858 Less: Accumulated depreciation 216,153 165,305 ------------ ------------ $ 790,376 $ 820,553 ============ ============ Depreciation and amortization expense was $15,536 and $15,274 for the three months ended September 30, 2006 and 2005, and $47,153 and $45,827 for the nine months ended September 30, 2006 and 2005. NOTE 4 - PREPAID LAND LEASE The prepaid land lease represents land use rights granted for the usage of a piece of land located in the PRC for a term of 50 years. The prepaid lease is amortized on a straight-line basis over the term of the lease. NOTE 5 - DUE FROM RELATED PARTIES Amounts represent receivables due from three companies whose shareholder and director is also a shareholder and director of the Company. The amounts due are unsecured with no stated repayment terms. NOTE 6 - DUE TO DIRECTOR The amount due is unsecured, interest-free and with no stated repayment terms. -9- SHOUGUANG YUXIN CHEMICAL INDUSTRY CO., LIMITED NOTES TO FINANCIAL STATEMENTS SEPTEMBER 30, 2006 AND 2005 (UNAUDITED) NOTE 7 - RETAINED EARNINGS - APPROPRIATED In accordance with the relevant PRC regulations and the Company's Articles of Association, the Company is required to allocate its profit after tax to the following reserves: Statutory Common Reserve Funds The Company is required each year to transfer 10% of the profit after tax as reported under the PRC statutory financial statements to the statutory common reserve funds until the balance reaches 50% of the registered share capital. This reserve can be used to make up any loss incurred or to increase share capital. Except for the reduction of losses incurred, any other application should not result in this reserve balance falling below 25% of the registered capital. Statutory Public Welfare Funds The Company is required each year to transfer 5% of the profit after tax as reported under the PRC statutory financial statements to the statutory public welfare funds. This reserve is restricted to capital expenditure for employees' collective welfare facilities that are owned by the Company. The statutory public welfare funds are not available for distribution to the shareholders (except on liquidation). Once capital expenditure for staff welfare facilities has been made, an equivalent amount must be transferred from the statutory public welfare funds to the discretionary common reserve funds. NOTE 8 - INCOME TAXES As discussed in Note 1, the Company utilizes the asset and liability method of accounting for income taxes in accordance with SFAS No. 109. The statutory PRC tax rate is equivalent to the Company's effective tax rate. No provision for deferred taxes has been made as there were no material temporary differences at September 30, 2006. NOTE 9 - MAJOR SUPPLIER During 2006, the Company purchased 55% of its products from four suppliers. At September 30, 2006, amounts due to those suppliers included in accounts payable were $113,940. This concentration makes the Company vulnerable to a near-term severe impact, should the relationships be terminated. NOTE 10 - CUSTOMER CONCENTRATION The Company sells a substantial portion of its product to a limited number of customers. During the nine months ended September 30, 2006, sales to the Company's four largest customers, based on net sales made to such customers, aggregated $9,264,408, or approximately 81% of total net sales, and sales to the Company's largest customer represented approximately 37% of total net sales. At September 30, 2006, amounts due from these customers were $35,911. This concentration makes the Company vulnerable to a near-term severe impact, should the relationships be terminated. -10-