U.S.
Securities and Exchange Commission
Washington,
DC 20549
Form
10-Q
QUARTERLY
REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE
QUARTERLY PERIOD ENDED
December
31, 2009
Commission
File Number: 1-34131
Sinoenergy
Corporation
(Name of
small business issuer as specified in its charter)
Nevada
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84-1491682
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(State
or other jurisdiction
of
incorporation)
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(I.R.S.
Employer
Identification
Number)
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1603-1604,
Tower B Fortune Centre Ao City
Beiyuan
Road, Chaoyang District,
Beijing,
People’s Republic of China 100107
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(Address
of principal executive offices)
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Issuer’s
telephone number, including area code:
86-10-84928149
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Check
whether the issuer (1) has filed all reports required to be filed by Section 13
or 15(d) of the Exchange Act during the past 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 90 days. Yes
x
No
o
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 90 days. Yes
x
No
o
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
the definitions of "large accelerated filer," "accelerated filer" and "smaller
reporting company" in Rule 12b-2 of the Exchange Act.
Large
accelerated filer
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o
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Accelerated
filer
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o
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Non-accelerated
filer
(Do
not check if smaller reporting company)
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o
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Smaller
reporting company
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x
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Indicate
by checkmark whether the Registrant is a shell company (as defined in Rule 12b-2
of the Exchange Act). Yes
o
No
x
As of
February 13, 2010, the Registrant had 15,922,391 shares of common stock,
par value $0.001 per share, issued and outstanding.
Transitional
Small Business Disclosure Format: Yes
o
No
x
SINOENERGY
CORPORATION AND SUBSIDIARIES
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Page
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Part
I. Financial Information
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Item
1. Consolidated Financial Statements
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Consolidated Balance Sheets
as of December 31, 2009 (Unaudited) and September 30,
2009
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Consolidated Statements of
Operations and Comprehensive Income for the Three Months Ended December
31,
2009
and 2008 (Unaudited)
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Consolidated Statement of
Stockholders’ Equity for the Three Months Ended December 31, 2009
(Unaudited)
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Consolidated Statements of
Cash Flows for the Three Months Ended December 31, 2009 and 2008
(Unaudited)
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Notes to Consolidated
Financial Statements for the Three Months Ended December 31, 2009 and 2008
(Unaudited)
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Item
2. Management’s Discussion and Analysis of Financial Condition and Results
of Operations
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Item
4. Controls and Procedures
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Part
II. Other Information
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38
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Sinoenergy
Corporation and Subsidiaries
Consolidated
Balance Sheets
(In
thousands of United States dollars)
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December
31, 2009
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September
30, 2009
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(unaudited)
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ASSETS
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CURRENT
ASSETS
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Cash
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$
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16,936
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$
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18,237
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Restricted
cash
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1,504
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1,413
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Accounts
receivable, net
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28,283
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29,756
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Inventories
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4,797
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4,619
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Other
receivable, net
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14,360
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17,644
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Due
from related party
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44
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426
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Deposits
and prepayments
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7,593
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8,629
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Deferred
expenses
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29
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63
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TOTAL
CURRENT ASSETS
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73,546
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80,787
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Long-term
investments
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4,839
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4,905
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Property,
plant and equipment, net
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58,054
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54,870
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Intangible
assets
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100
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116
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Land
use rights
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30,249
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30,370
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Other
long term assets
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13,784
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7,672
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Goodwill
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1,906
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1,906
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Deferred
tax asset
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24
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20
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TOTAL
NON-CURRENT ASSETS
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108,956
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99,859
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TOTAL
ASSETS
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$
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182,502
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$
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180,646
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CURRENT
LIABILITIES
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Short-term
bank loan
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$
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47,480
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$
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44,223
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Notes
payable
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4,760
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4,583
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Accounts
payable
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5,501
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5,193
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Advances
from customers
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814
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2,100
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Additional
interest payable under convertible note indenture
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280
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280
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Income
taxes payable
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713
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475
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Construction
payables
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901
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2,982
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Other
payables
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587
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2,801
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Due
to related party
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20,208
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-
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Accrued
expenses
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430
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538
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Deferred
income
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26
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38
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Derivative
liability
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3,591
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-
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Current
portion of long-term notes payable
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10,934
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26,667
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TOTAL
CURRENT LIABILITIES
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96,225
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89,880
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Long-term
bank loan
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26,361
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26,358
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Deferred
tax liabilities
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1,095
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1,095
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TOTAL
LIABILITIES
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123,681
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117,333
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Commitments
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SHAREHOLDERS’
EQUITY
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Common
stock- par value $0.001 per share; Authorized - 50,000,000 shares; Issued
and outstanding- 15,922,391 shares at December 31, 2009 and September 30,
2009
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16
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16
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Additional
paid-in capital
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27,207
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34,543
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Retained
earnings
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8,594
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6,850
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Accumulated
other comprehensive income
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4,777
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4,772
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Total
Parent shareholders’ equity
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40,594
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46,181
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Non-controlling
interest
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18,227
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17,132
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TOTAL
SHAREHOLDERS’ EQUITY
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58,821
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63,313
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TOTAL
LIABILITIES AND SHAREHOLDERS’ EQUITY
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$
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182,502
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$
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180,646
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The
accompanying notes are an integral part of these financial
statements.
Sinoenergy
Corporation and Subsidiaries
Consolidated
Statements of Operations and Comprehensive Income (Unaudited)
(In
thousands of United States dollars except per share information)
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Three Months Ended December
31,
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2009
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2008
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General
and administrative expenses
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INCOME
(LOSS) FROM OPERATIONS
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Rental
income, net of land use right amortization of $61
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Change
in fair value of derivative liability
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Loss
from unconsolidated entity
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OTHER
INCOME (EXPENSES), NET
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INCOME
(LOSS) BEFORE INCOME TAXES AND NONCONTROLLING
INTEREST
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CONSOLIDATED
NET INCOME (LOSS)
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NET
INCOME(LOSS) ATTRIBUTABLE TO COMMON SHAREHOLDERS
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Other
comprehensive income:
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Foreign
currency translation adjustments
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CONSOLIDATED
COMPREHENSIVE INCOME (LOSS)
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Net
(Loss) Income Per Common Share
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Weighted
Average Common Shares Outstanding
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The
accompanying notes are an integral part of these financial
statements.
Sinoenergy
Corporation and Subsidiaries
Consolidated
Statements of Cash Flows (Unaudited)
(In thousands of United States
dollars)
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Three Months Ended December
31,
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CASH
FLOWS FROM OPERATING ACTIVITIES:
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2009
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2008
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Consolidated
net income (loss)
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Adjustments
to reconcile net income to net cash provided by (used in) operating
activities:
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Change
in fair value of derivative liability
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Amortization
of note discount
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Deferred
portion of interest expense
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Amortization
of intangible assets
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Recovery
of doubtful accounts
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Changes
in operating assets and liabilities:
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Accounts
and notes receivable
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Other
receivables, deposits and prepayments
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Net
cash(used) provided by operating activities
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CASH
FLOWS FROM INVESTING ACTIVITIES
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Purchase
of property, plant and equipment
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Prepayment
related to the other long-term assets
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Purchase
of land use right
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Investment
in unconsolidated entities
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Changes
in restricted cash
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Net
cash used in investing activities
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CASH
FLOWS FROM FINANCING ACTIVITIES
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Loan
from related parties
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Net
cash provided by financing activities
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Effect
on cash of changes in exchange rate
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Cash
at beginning of period
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Supplemental
disclosure of cash flow information:
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The
accompanying notes are an integral part of these financial
statements.
Sinoenergy
Corporation and Subsidiaries
Notes
to Consolidated Financial Statements (Unaudited)
December
31, 2009
(a)
Organization
Sinoenergy
Corporation (“Sinoenergy” or the “Company”) was incorporated in Nevada on March
2, 1999 under the name Franklyn Resources III, Inc. (“Franklyn”). The Company’s
corporate name was changed to Sinoenergy Corporation on September 28,
2006.
On June
2, 2006, the Company acquired Sinoenergy Holding Limited (“Sinoenergy Holding”),
a British Virgin Islands corporation. Sinoenergy Holding was the sole
stockholder of Qingdao Sinogas General Machinery Limited Corporation
(“Sinogas”), a wholly foreign-owned enterprise (“WFOE”) registered under laws of
the People’s Republic of China (the “PRC”). Sinoenergy Holding had no business
other than its ownership of Sinogas. As a result of this transaction, Sinoenergy
Holding and its subsidiary, Sinogas, became subsidiaries of the Company and the
business of Sinogas became the business of the Company.
(b)
Subsidiaries of the Company
Set forth
below is a list of the Sinoenergy’s wholly-owned and majority-owned subsidiaries
at December 31, 2009, all of whose financial statements are consolidated with
Sinoenergy. References to the Company include the Company and its
consolidated subsidiaries unless the context indicates otherwise.
The percentage ownership
reflects the percentage ownership by Sinoenergy.
Company
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Ownership
%
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Business
activities
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Sinoenergy
Holding Limited
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100%
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Holding
company
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Qingdao
Sinogas General
Machinery
Limited Corporation (“Sinogas”)
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75.05%
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Production
of compressed natural gas (CNG) facilities, technical consulting in CNG
filling station construction, manufacturing of CNG vehicle conversion
kit
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Qingdao
Sinogas Yuhan
Chemical
Equipment Company Limited (“Yuhan”)
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81%*
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Manufacturing
of customized pressure containers
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Wuhan
Sinoenergy Gas Company Limited (“Wuhan Sinoenergy”)
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90%
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Construction
and operating of CNG stations and the manufacturing and sales of
automobile conversion kits
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Pingdingshan
Sinoenergy Gas
Company
Limited (“Pingdingshan Sinoenergy”)
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90%
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Construction
and operating of CNG stations and the manufacturing and sales of
automobile conversion kits
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Jiaxing
Lixun Automotive
Electronic
Company Limited (“ Jiaxing Lixun”)
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81%*
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Design
and manufacturing of electric control devices for alternative
fuel
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Hubei
Gather Energy
Company
Limited (“Hubei Gather”)
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80%
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Construction
and operating of natural gas processing plants
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Xuancheng
Sinoenergy
Vehicle
Gas Company Limited
(“Xuancheng
Sinoenegy”)
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100%
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Construction
and operating of CNG stations and the manufacturing and sales of
automobile conversion kits
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Qingdao
Jingrun General
Machinery
Company Limited (“Jingrun”)
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100%
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Design
and manufacturing of petroleum refinery equipment and petroleum
machinery
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Qingdao
Sinoenergy General
Machinery
Company Limited
(“Qingdao
Sinoenergy”)
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75.05%
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Manufacturing
and installation of general machinery equipment
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Nanjing
Sinoenergy Gas Company Limited(“Nanjing Sinoenergy”)
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90%
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Construction
and operating of CNG stations and the manufacturing and sales of
automobile conversion kits
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Qingdao
Sinoenergy General Gas Company Limited(“Sinoenergy Gas”)
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90%**
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Construction
and operating of CNG and LNG stations and the manufacturing and sales of
automobile conversion kits
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* This
subsidiary is owned 75% by Sinogas and 25% by Sinoenergy.
** This
subsidiary is owned 40% by Sinogas and 60% by Sinoenergy.
2.
Summary of Significant Accounting Policies
Management’s
Responsibility
Management
acknowledges its responsibility for the preparation of the accompanying interim
consolidated financial statements, which reflect all adjustments, consisting of
normal recurring adjustments, considered necessary in its opinion for a fair
statement of results for the interim period presented. These consolidated
financial statements should be read in conjunction with the summary of
significant accounting policies and notes to consolidated financial statements
included in the Company’s Form 10-K annual report for the fiscal year ended
September 30, 2009. These financial statements have been prepared assuming that
the Company will continue as a going concern. Results for the first quarter of
2010 are not necessarily indicative of results to be expected for the
year.
Basis of
Presentation
The
accompanying consolidated financial statements have been prepared in accordance
with accounting principles generally accepted in the United States.
Principles of
Consolidation
The
accompanying consolidated financial statements include the financial statements
of Sinoenergy Corporation and its wholly-owned subsidiaries and majority-owned
subsidiaries as to which it exercises control. Intercompany transactions and
balances have been eliminated in consolidation.
Use of
Estimates
In
preparing financial statements in conformity with accounting principles
generally accepted in the United States of America, the Company makes estimates,
judgments and assumptions that affect the reported amounts of assets and
liabilities and the disclosure of contingent assets and liabilities at the date
of the financial statements and sales and expenses during the reported periods.
Significant estimates include depreciation and the allowance for doubtful
accounts and other receivables, asset impairment, valuation of warrants and
options, inventory valuation, and the determination of revenue and
costs. We base our estimates on historical experience and on various
other assumptions that we believe are reasonable under the circumstances, the
results of which form the basis for making judgments about the carrying values
of assets and liabilities that are not readily apparent from other sources.
Actual results could differ from those estimates.
Goodwill
Goodwill
represents the excess of the purchase price of business combinations over the
fair value of the net assets acquired and is tested for impairment at least
annually. The impairment test requires allocating goodwill and all other assets
and liabilities to assigned reporting units. The fair value of each reporting
unit is estimated and compared to the net book value of the reporting unit. If
the estimated fair value of the reporting unit is less than the net book value,
including goodwill, then goodwill is written down to the implied fair value of
goodwill through a charge to operations. Because quoted market prices are not
available for the Company’s reporting units, the fair values of the reporting
units are estimated based upon several valuation analyses. The goodwill on the
Company’s financial statements was a result of the transactions pursuant to
which the Company acquired Yuhan, Lixun and Xuancheng Sinoenergy, and relates to
the pressure container, vehicle conversion kits, and CNG station operation
reporting segments.
Cash and Cash
Equivalents
The
Company considers all highly liquid investments with original maturities of
three months or less at the time of purchase to be cash equivalents. As of
December 31, 2009 and September 30, 2009, the Company did not have any cash
equivalents. The Company maintains its cash in bank deposit accounts
that, at times, may be very significant. The Company has not experienced any
losses in such accounts. The Company believes it is not exposed to any
significant credit risk on its cash balances.
Allowance for Doubtful
Accounts
An
allowance for doubtful accounts is maintained for customers (other than related
parties) based on a variety of factors, including the length of time the
receivables are past due, significant one-time events and historical experience.
When circumstances related to customers change, estimates of the recoverability
of receivables are further adjusted.
Inventories
Inventories
are comprised of raw materials, work in process, finished goods and low value
consumable articles. Amounts are stated at the lower of cost or market value.
Substantially all inventory costs are determined using the weighted average
basis. Costs of finished goods include direct labor, direct materials, and
production overhead before the goods are ready for sale. Inventory costs do not
exceed net realizable value.
Long-Term
Investments
Investments
in entities in which the Company owns more than 20% but less than 50% of the
equity and does not have the ability to control, but has the ability to exert
significant influence, are accounted for using the equity method, which includes
recognition of a percentage share of income or loss, dividends, and any
changes in the investment percentage in an investee by an investor.
Property, Plant and
Equipment
Property,
plant and equipment are stated at cost. Depreciation is provided principally by
use of the straight-line method over the useful lives of the related assets.
Expenditures for maintenance and repairs which do not improve or extend the
expected useful life of the assets are expensed to operations while major
repairs and improvements are capitalized.
The
estimated useful lives are as follows:
Buildings
and facilities
|
15-20
years
|
Machinery
and equipment
|
5-20
years
|
Motor
vehicles
|
10-20
years
|
Office
equipment and others
|
5
to 10 years
|
Intangible
Assets
Intangible
assets, including patents and technical know-how, are stated at cost less
accumulated amortization and impairment losses. Amortization is calculated on
the straight-line method over the estimated useful lives of the assets of 10
years.
Land Use
Rights
Land use
rights are stated at cost less accumulated amortization and impairment losses.
Amortization is calculated on the straight-line method over the contractual
useful lives of 50 years.
There is
no private ownership of land in the PRC. All land is owned by the government and
the government grants what is known as a land use right, which is a transferable
right to use the land.
Impairment of
Assets
Impairment
of assets is monitored on a periodic basis, and is assessed based on the
undiscounted cash flows expected to be generated by the underlying assets. In
the event that the carrying amount of assets exceeds the undiscounted future
cash flows (fair value), then the carrying amount of such assets is adjusted to
their fair value.
Capitalization of
Interest
The
Company capitalizes interest incurred in connection with the construction of
assets, principally its CNG stations, during the construction
period. Capitalized interest is recorded as an increase to
construction in progress and, upon completion of the construction, to property
and equipment. The Company capitalized $31,783 and $102,373 of
interest during the three months ended December 31, 2009 and 2008.
Revenue
Recognition
The
Company recognizes revenue when the significant risks and rewards of ownership
have been transferred to the customer, including factors such as when persuasive
evidence that an arrangement exists, delivery has occurred, the sales price is
fixed or determinable and collectability is reasonably assured. The
Company recognizes product sales generally at the time the product is shipped.
CNG station construction and building technical consulting service revenue
related is recognized on the percentage of completion basis. The percentage of
completion method recognizes income as work on a contract (or group of closely
related contracts) progresses. The recognition of revenues and profit
is generally related to costs incurred in providing the services required under
the contract. Revenue is presented net of any sales tax and value
added tax.
Warranty
Reserves
Warranty
reserves represent the Company’s obligation to repair or replace defective
products under certain conditions. The estimate of the warranty reserves
is based on historical experience and industry practice. Based on
experience and industry practice, the Company has established a warranty reserve
rate of 0.2% of gross sales for customized pressure containers and CNG station
facilities and construction segments. The Company periodically reviews this rate
and revises it as necessary.
The
following tables show a reconciliation of the changes in the Company’s product
warranty liability (dollars in thousands).
|
|
Three
months ended December 31,
|
|
|
|
2009
|
|
|
2008
|
|
Product
warranty liability, beginning of period
|
|
|
|
|
|
|
|
|
Reductions
for payments made (in cash or kind) during period
|
|
|
|
|
|
|
|
|
Changes
in liability for warranties issued during the period
|
|
|
|
|
|
|
|
|
Foreign
exchange gain/loss
|
|
|
|
|
|
|
|
|
Product
warranties, end of period
|
|
|
|
|
|
|
|
|
Income
Taxes
The
Company accounts for income taxes using an asset and liability approach whereby
deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases. Deferred tax assets and liabilities are measured using enacted tax rates
applicable to taxable income in the years in which those temporary differences
are expected to be recovered or settled. The effect on deferred tax assets and
liabilities of a change in tax rates is recognized in income in the period
that includes the enactment date.
The
Company recognizes a tax benefit associated with an uncertain tax position when,
in management’s judgment, it is more likely than not that the position will be
sustained upon examination by a taxing authority. For a tax position that meets
the more-likely-than-not recognition threshold, the Company initially and
subsequently measures the tax benefit as the largest amount that it judges to
have a greater than 50% likelihood of being realized upon ultimate settlement
with a taxing authority. The liability associated with unrecognized tax benefits
is adjusted periodically due to changing circumstances, such as the progress of
tax audits, case law developments and new or emerging legislation. Such
adjustments are recognized entirely in the period in which they are identified.
The effective tax rate includes the net impact of changes in the liability for
unrecognized tax benefits and subsequent adjustments as considered appropriate
by management.
Foreign Currency
Translations
The
Company’s functional currency is Renminbi (“RMB”) and its reporting currency is
U.S. dollars. The Company’s balance sheet accounts are translated using the
closing exchange rate in effect at the balance sheet date and operating accounts
are translated using the average exchange rate prevailing during the year.
Equity accounts are translated using the historical rate as incurred.
Translation gains and losses are deferred and accumulated as a component of
accumulated other comprehensive income in shareholders’ equity. Transaction
gains and losses that arise from exchange rate fluctuations from transactions
denominated in a currency other than the functional currency are included in the
statement of operations as incurred.
Fair Value of Financial
Instruments
US GAAP
requires certain disclosures about the fair value of financial instruments. The
Company defines fair value, using the required three-level valuation hierarchy
for disclosures of fair value measurement the enhanced disclosures requirements
for fair value measures. Current assets and current liabilities qualified as
financial instruments and management believes their carrying amounts are a
reasonable estimate of fair value because of the short period of time between
the origination of such instruments and their expected realization and if
applicable, their current interest rate is equivalent to interest rates
currently available. The three levels are defined as
follow:
Level 1—Quoted
prices in active markets for identical assets or liabilities.
Level 2—Inputs,
other than the quoted prices in active markets, are observable either directly
or indirectly.
Level 3—Unobservable
inputs based on the Company's assumptions.
US GAAP
requires the use of observable market data if such data is available without
undue cost and effort.
The
following table presents certain investments and liabilities of the Company’s
financial assets measured and recorded at fair value on the Company’s condensed
consolidated balance sheets on a recurring basis and their level within the fair
value hierarchy as of December 31, 2009 (unaudited):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Level
1
|
|
|
Level
2
|
|
|
Level
3
|
|
|
Total
|
Fair
value of embedded derivatives
|
|
|
-
|
|
|
|
-
|
|
|
$
|
3,590,783
|
|
|
$
|
3,590,783
|
Derivative financial
instruments
The
Company does not use derivative instruments to hedge exposures to cash flow,
market or foreign currency risks. The Company evaluates all of its financial
instruments to determine if such instruments are derivatives or contain features
that qualify as embedded derivatives. For derivative financial instruments that
are accounted for as liabilities, the derivative instrument is initially
recorded at its fair value and is then re-valued at each reporting date, with
changes in the fair value reported in the condensed consolidated statements of
operations. For stock-based derivative financial instruments, the
Company uses both the Black-Scholes-Merton and Binomial option pricing models to
value the derivative instruments at inception and on subsequent valuation
dates. The classification of derivative instruments, including
whether such instruments should be recorded as liabilities or as equity, is
evaluated at the end of each reporting period. Derivative instrument
liabilities are classified in the balance sheet as current or non-current based
on whether or not net-cash settlement of the derivative instrument could be
required within 12 months of the balance sheet date.
Change in accounting
principle
On
October 1, 2009, the Company adopted a new accounting principle effective for
the 2010 fiscal year. The new principle results from a new interpretation of an
existing pronouncement that redefined when an embedded conversion feature is
indexed to an entity’s own stock. The Company’s convertible debt initially had a
conversion feature that requires a reset to the conversion price based on
certain events and the conversion feature is denominated in US currency rather
than the functional currency of the Company (RMB). At December 31, 2009, the
provisions which provided for a reset of the conversion price based on certain
events had been terminated. The newly adopted accounting principles define both
those factors as reasons the conversion feature is no longer indexed to the
company stock. The effect of the change is to cause the conversion feature to
change its classification from equity based to a derivative liability. The
cumulative change to this new accounting has been reflected on October 1 as an
adjustment to additional paid in capital and retained earnings.
The
derivative liabilities were valued using both the probability model using
Black-Scholes-Merton valuation techniques with the following
assumptions:
|
|
December
31,
2009
|
|
|
September
30,
2009
|
|
|
Date
of issuance
September
30,
2007
|
|
Conversion
feature:
|
|
|
|
|
|
|
|
|
|
Risk-free
interest rate
|
|
|
1.48
|
%
|
|
|
1.38
|
%
|
|
|
4.23%
|
%
|
Expected
volatility
|
|
|
109.51
|
%
|
|
|
109.51
|
%
|
|
|
79.64
|
%
|
Expected
life (in years)
|
|
0.25
years
|
﹡
|
|
3.0
years
|
|
5.0
years
|
|
Expected
dividend yield
|
|
|
0
|
|
|
|
0
|
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair
Value:
|
|
|
|
|
|
|
|
|
|
|
|
|
Conversion
feature
|
|
$
|
3,590,783
|
|
|
$
|
2,705,232
|
|
|
$
|
11,946,000
|
|
﹡
At December 31,
2009, the expected life of the convertible debt was less than three
months.
The
risk-free interest rate was based on rates established by the United States
Federal Reserve Bank. The volatility was based on the volatility of
the Company’s common stock since its common stock became publicly
traded. The expected life of the conversion feature of the notes was
based on the term of the notes, including an agreement to repay the notes
following the occurrence of the merger between the Company and Skywide (See Note
17). The expected dividend yield was based on the fact that the Company has not
paid dividends to common shareholders in the past and does not expect to pay
dividends to common shareholders in the future.
The
accounting principle was implemented in the first quarter of 2010 and is
reported as a cumulative change in accounting principle. The
cumulative effect on the accounting for the conversion feature of the notes at
October 1, 2009 is as follows (dollars in thousands):
Derivative
Instrument:
|
|
Additional
Paid-in Capital
|
|
|
Retained
Earnings
|
|
|
Derivative
Liability
|
|
Conversion
feature
|
|
$
|
(7,400)
|
|
|
$
|
6,425
|
|
|
$
|
2,705
|
|
The total
cumulative effect of $975,000 in the statement of shareholders’ equity reflects
the fair value of the derivative liability of $2,705,000 less the net effect of
the associated discount of the convertible note in the amount of
$1,730,000.
On
December 31, 2009, the Company measured the fair value of the conversion feature
and recorded $885,550 as a change in fair value of the liabilities in the
accompanying condensed consolidated financial statements for the three months
ended December 31, 2009.
Noncontrolling
Interest
Noncontrolling
interest refers to the portion of a consolidated subsidiary which is not
wholly-owned by the Company. The Company records the noncontrolling interest
portion of any related profits and losses in consolidation. Other
comprehensive income related to the noncontrolling interest for the three months
ended December 31, 2009 was $0. Noncontrolling interest represented
$18,227 of the total shareholders’ equity at December 31, 2009.
Stock-Based
Compensation
The
Company grants stock options to employees and stock options and warrants to
non-employees in non-capital raising transactions for services and for financing
costs. All grants are recorded at fair value at the grant date. The Company
utilizes the Black-Scholes option pricing model to determine fair value. The
resulting amount is charged to expense on the straight-line basis over the
period in which the Company expects to receive benefit, which is generally the
vesting period. In some cases, our principal stockholder, which is owned by our
chief executive officer and our chairman, both of whom are directors, provided
or agreed to provide stock to executive officers in connection with their
employment. These shares are treated as if the shares were
contributed to and issued by the Company.
Concentration of Credit
Risk
Financial
instruments that potentially subject the Company to significant concentrations
of credit risk consist primarily of trade accounts receivable. While there
are risks associated with any concentration of customers, management believes
that the active system in place to monitor the creditworthiness
of customers will minimize such risks.
The
Company performs ongoing credit evaluations of its debtors, but does not require
collateral, in accordance with industry practice in China.
The
Company maintains its cash accounts with major banks in China. The Chinese
banks do not provide deposit insurance.
Earnings per
Share
Basic EPS
is measured as net income or loss divided by the weighted average common shares
outstanding for the period. Diluted EPS is similar to basic EPS but
presents the dilutive effect on a per share basis of potential common shares
(e.g., convertible securities, options and warrants) as if they had been
converted at the beginning of the periods presented, or issuance date, if
later. Potential common shares that have an anti-dilutive effect (i.e.,
those that increase income per share or decrease loss per share) are excluded
from the calculation of diluted EPS.
The
calculation of diluted weighted average common shares outstanding is based on
the average of the closing price of the Company’s common stock during the
reporting periods, and is applied to options and warrants using the treasury
stock method to determine if they are dilutive. The common stock issuable upon
conversion of convertible notes payable is included on an “if converted” basis
when the preferred stock and convertible notes are dilutive.
Comprehensive Income or
Loss
Comprehensive
income or loss includes all changes in equity except those resulting from
investments by owners and distributions to owners, including adjustments to
minimum pension liabilities, accumulated foreign currency translation, and
unrealized gains or losses on marketable securities.
The
Company’s only component of other comprehensive income is foreign currency
translation gain of $5,000 and $161,000 for the three months ended December 31,
2009 and 2008, respectively. Cumulative other comprehensive income or
loss is recorded as a separate component of shareholders’ equity.
New Accounting
Pronouncements
Effective
July 1, 2009, the FASB ASC became the single official source of
authoritative, nongovernmental U.S. GAAP. The historical U.S. GAAP hierarchy was
eliminated and the ASC became the only level of authoritative U.S. GAAP, other
than guidance issued by the SEC. The Company’s accounting policies were not
affected by the conversion to ASC. However, references to specific accounting
standards in the notes to our consolidated financial statements have been
changed to refer to the appropriate section of the ASC.
In
April 2008, the FASB issued a pronouncement on what now is codified as FASB
ASC Topic 350,
Intangibles —
Goodwill and Other
. This pronouncement amends the factors to be
considered in determining the useful life of intangible assets accounted for
pursuant to previous topic guidance. Its intent is to improve the consistency
between the useful life of an intangible asset and the period of expected cash
flows used to measure its fair value. The adoption of this standard
on October 1, 2009 did not have a material effect on the Company’s consolidated
financial statements.
In June
2008, the FASB amended FASB Topic ASC 815, Sub-Topic 40, “Contracts in Entity’s
Own Equity” to clarify how to determine whether certain instruments or features
were indexed to an entity's own stock under ASC Topic 815. The amendment applies
to any freestanding financial instrument (or embedded feature) that has all of
the characteristics of a derivative, for purposes of determining whether that
instrument (or embedded feature) qualifies for the scope exception. It is also
applicable to any freestanding financial instrument (e.g., gross physically
settled warrants) that is potentially settled in an entity's own stock,
regardless of whether it has all of the characteristics of a derivative, for
purposes of determining whether to apply ASC 815. The Company was
required to adopt this pronouncement on October 1, 2009. The
Company’s financial statements for the three months ended December 31, 2009 and
afterwards reflect the effect of this pronouncement.
In
April 2009, the FASB issued a pronouncement on what is now codified as FASB
ASC Topic 805
, Business
Combinations
. This pronouncement provides new guidance that changes the
accounting treatment of contingent assets and liabilities in business
combinations under previous topic guidance. This pronouncement will
be effective for the Company for any business combinations that occur on or
after October 1, 2009.
In
April 2009, the FASB issued a pronouncement on what is now codified as FASB
ASC Topic 825,
Financial
Instruments
. This pronouncement amends previous topic guidance to require
disclosures about fair value of financial instruments for interim reporting
periods of publicly traded companies, as well as in annual financial statements.
The pronouncement was effective for interim reporting periods ending after
June 15, 2009 and its adoption did not have any significant effect on the
consolidated financial statements.
In
December 2007, the FASB issued pronouncements which are now codified as ASC 805
“
Business Combinations
”
and 810 “
Consolidation
”
(“ASC 810”), which require that ownership interests in subsidiaries held by
parties other than the parent, and the amount of consolidated net income, be
clearly identified, labeled and presented in the consolidated financial
statements. ASC 805 and ASC 810 also require that once a
subsidiary is deconsolidated, any retained non-controlling equity investment in
the former subsidiary be initially measured at fair value. Sufficient
disclosures are required to clearly identify and distinguish between the
interests of the parent and the interests of the non-controlling
owners. ASC 805 and ASC 810 amend ASC 260 to provide that the
calculation of earnings per share amounts in the consolidated financial
statements will continue to be based on the amounts attributable to the parent.
ASC 805 and ASC 810 are effective for financial statements issued for fiscal
years, and interim periods within those fiscal years, beginning on or after
December 15, 2008, and require retrospective adoption of the presentation and
disclosure requirements for existing minority interests. All other
requirements are applied prospectively. The Company adopted ASC 805
and ASC 810 on January 1, 2009.
In
May 2009, the FASB issued a pronouncement on what is now codified as FASB
ASC Topic 855,
Subsequent
Events
. This pronouncement establishes general standards of accounting
for and disclosure of events that occur after the balance sheet date but before
the financial statements are issued or are available to be issued. FASB ASC
Topic 855 provides guidance on the period after the balance sheet date during
which management of a reporting entity should evaluate events or transactions
that may occur for potential recognition or disclosure in the financial
statements, the circumstances under which an entity should recognize events or
transactions occurring after the balance sheet date in its financial statements
and the disclosures that an entity should make about events or transactions that
occurred after the balance sheet date. The pronouncement was effective for the
Company during the annual period ended September 30, 2009. The Company has
evaluated subsequent events for the period from December 31, 2009, the date of
these financial statements, through February 10, 2010, which represents the date
these financial statements are available for filing with the SEC.
In June
2009, the FASB issued ASC Topic 810-10, "
Amendments to FASB Interpretation
No. 46(R)
" (“ASC 810-10”). ASC 810-10 is intended to (1)
address the effects on certain provisions of FASB Interpretation No. 46 (revised
December 2003), “Consolidation of Variable Interest Entities,” as a result of
the elimination of the qualifying special-purpose entity concept in ASC 860-20,
and (2) constituent concerns about the application of certain key provisions of
Interpretation 46(R), including those in which the accounting and disclosures
under the Interpretation do not always provided timely and useful information
about an enterprise's involvement in a variable interest entity. This
statement will be effective for the Company on October 1, 2010. The
Company does not expect the adoption of ASC 810-10 to have a material impact on
its results of operations, financial condition or cash flows.
Other
recent accounting pronouncements issued by the FASB (including its Emerging
Issues Task Force), and the United States Securities and Exchange Commission did
not or are not believed to have a material impact on the Company's present or
future consolidated financial statements.
3.
Restricted Cash
The
balances of restricted cash as at December 31, 2009 and September 30, 2009
represent deposits on a bill of exchange issued by the Company for the purchase
of materials.
4.
Accounts and notes receivable
Accounts
receivable are as follows (dollars in thousands):
|
|
December
31, 2009
|
|
|
September
30, 2009
|
|
Accounts
receivable
|
|
$
|
29,244
|
|
|
$
|
30,903
|
|
Notes
receivable-bank acceptance
|
|
|
251
|
|
|
|
74
|
|
Less:
allowance for doubtful receivables
|
|
|
(1,212
|
)
|
|
|
(1,221)
|
)
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
28,283
|
|
|
$
|
29,756
|
|
5.
Other receivable
Other
receivable are as follows (dollars in thousands):
|
|
December
31, 2009
|
|
|
September
30, 2009
|
|
Rental
receivable
|
|
$
|
2,636
|
|
|
$
|
2,636
|
|
Due
from third parties
|
|
|
8,331
|
|
|
|
9,734
|
|
Others
current accounts
|
|
|
4,291
|
|
|
|
7,133
|
|
Less:
allowance for doubtful receivables
|
|
|
(898
|
)
|
|
|
(1,859)
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
14,360
|
|
|
$
|
17,644
|
|
6.
Deposits and prepayments
Deposits
and prepayments are as follows (dollars in thousands):
|
|
December
31, 2009
|
|
|
September 30,
2009
|
|
|
|
|
|
|
Related
to construction
|
|
$
|
1,960
|
|
|
$
|
1,681
|
Raw
materials
|
|
|
2,698
|
|
|
|
3,000
|
Related
to equipment
|
|
|
390
|
|
|
|
1,303
|
Natural
gas
|
|
|
1,319
|
|
|
|
2,303
|
Others
|
|
|
1,226
|
|
|
|
342
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
7,593
|
|
|
$
|
8,629
|
7.
Inventories
Inventories
are as follows (dollars in thousands):
|
|
December
31, 2009
|
|
|
September 30,
2009
|
|
|
|
|
|
|
|
|
Raw
materials
|
|
$
|
1,978
|
|
|
$
|
2,153
|
|
Work
in progress
|
|
|
946
|
|
|
|
288
|
|
Finished
goods
|
|
|
1,830
|
|
|
|
2,159
|
|
Low
value consumables
|
|
|
43
|
|
|
|
19
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
4,797
|
|
|
$
|
4,619
|
|
8.
Long-term investments
Sinogas
General Luxi Natural Gas Equipment Co., Ltd.
On
October 31, 2008, in order to provide for a supply of raw materials, Sinogas
signed a joint venture agreement with LuXi Chemical Group, a Chinese chemical
company, to set up a company located in Liaocheng City, Shandong province, with
proposed annual production capacity of 4,000 steel bottles used in CNG trailer
manufacturing. The total registered capital is RMB 50 million
(equivalent to $7.32 million based on the exchange rate on December 31, 2009) of
which Sinogas has a 40% interest. This joint venture company commenced operation
in July 2009. At December 31, 2009, Sinogas had contributed $2.93 million, in
full satisfaction of its obligations to this enterprise. For the three months
ended December 31, the joint venture incurred loss at $126,464, of which
$50,586 is allocated to the Company.
9.
Property, Plant and Equipment
Property,
plant and equipment consist of the following (dollars in
thousands):
|
|
December
31, 2009
|
|
|
September
30, 2009
|
|
|
|
|
|
|
|
|
|
|
Buildings
and facility
|
|
$
|
16,975
|
|
|
$
|
15,637
|
|
Machinery
equipment
|
|
|
15,348
|
|
|
|
15,616
|
|
Motor
vehicles
|
|
|
2,751
|
|
|
|
2,241
|
|
Office
equipment and other
|
|
|
328
|
|
|
|
596
|
|
Total
|
|
|
35,442
|
|
|
|
34,090
|
|
|
|
|
|
|
|
|
|
|
Accumulated
depreciation
|
|
|
(2,391
|
)
|
|
|
(2,308)
|
|
|
|
|
33,051
|
|
|
|
31,782
|
|
|
|
|
|
|
|
|
|
|
Construction
in process
|
|
|
25,003
|
|
|
|
23,088
|
|
|
|
|
|
|
|
|
|
|
Net
book value
|
|
$
|
58,054
|
|
|
$
|
54,870
|
|
10.
Land use rights
|
|
December
31, 2009
|
|
|
September 30,
2009
|
|
|
|
|
|
|
|
|
Land
use rights
|
|
|
31,486
|
|
|
|
31,495
|
|
|
|
|
|
|
|
|
|
|
Accumulated
amortization
|
|
|
(1,237
|
)
|
|
|
(1,125)
|
|
|
|
|
|
|
|
|
|
|
Net
book value
|
|
$
|
30,249
|
|
|
$
|
30,370
|
|
The land
use rights include six parcels of land purchased by the Company, which are held
by Sinogas, Jingrun, Xuancheng, Qingdao Sinoenergy, Jiaxing Lixun, and Hubei
Gather. The land use rights are being amortized over the following periods,
during which they are transferable and renewable, subject to government
approval.
Owner
|
Cost
|
|
Expiration
|
Sinogas
|
$
|
20,741
|
|
May
2057
|
Jingrun
|
|
4,124
|
|
December
2056
|
Xuancheng
Sinoenergy
|
|
1,015
|
|
June
2058
|
Qingdao
Sinoenergy
|
|
3,385
|
|
June
2058
|
Jiaxing
Lixun
|
|
368
|
|
June
2058
|
Hubei
Gather
|
|
535
|
|
June
2059
|
Total
|
$
|
31,486
|
|
|
Wuhan
Sinoenergy
|
|
1,318
|
|
*
|
﹡
Wuhan Sinoenergy
has two agreements to purchase land use rights in Wuhan City from different
non-affiliated parties. One agreement provides for a purchase price of
approximately $1.58 million, of which approximately $1.32 million has been paid,
and the title transfer is in the process. The second provides for a purchase
price of approximately $1.32 million, of which approximately $732,000 has been
paid. The acquisition of the land requires government approval. The
amount paid under the purchase agreements is reflected on the balance sheet
under “land use rights.”
The land
use right owned by Sinogas represents two parcels of land located in the central
portion of Qingdao City, on which Sinogas and Yuhan’s offices and
manufacturing facilities are located. The land use right was purchased by the
Company from Beijing Sanhuan, a former shareholder of Sinogas, for a price of
RMB160 million, equivalent to US$23.47 million based on the current exchange
rate. The land is being amortized from May 2007 over a 50-year
term.
On
December 15, 2007, the Company purchased all of the equity of Jingrun, whose
sole asset is the land use right and construction in progress, for approximately
RMB60 million ($8.8 million based on the September 30, 2009 exchange rate).
The cost of the land use right paid by the Company was approximately $4.1
million based on the September 30, 2009 exchange rate.
The land
use right owned by Xuancheng was purchased by the Company from Shanghai CNPC
Enterprises Group for $874,000 based on the September 30, 2009 exchange
rate.
On
January 4, 2008, the Company purchased all of the equity of Qingdao Shan Yang
Tai Chemistry Resources Development Co., Ltd. (“QDSY”), whose sole asset is the
land use right and construction in progress, for approximately RMB43
million. The cost of the land use right paid by the Company was approximately
$1.9 million based on the September 30, 2009 exchange rate.
In June
2008, Jiaxing Lixun acquired a land use right for $368,000, which was used for
construction of a new plant.
In June
2009, Hubei Gather acquired a land use right for $535,000. The land is being
used to construct a mother CNG station in Wuhan which will be used to store CNG
and provide CNG to the Company’s stations.
The
Company made additional payments of approximately $2.9 million with respect to
land use rights owned by the Company.
11.
Goodwill
Goodwill
is as follows (dollars in thousands):
Transactions
|
|
December
31, 2009
|
|
|
September 30,
2009
|
|
|
|
|
|
|
|
|
Purchase
of an additional 80% equity interest in Yuhan
|
|
$
|
995
|
|
|
$
|
995
|
|
Purchase
of 90% equity in Jiaxing Lixun
|
|
|
619
|
|
|
|
619
|
|
Purchase
of a 70% equity in Xuancheng Sinoenergy
|
|
|
258
|
|
|
|
258
|
|
Purchase
of Jingrun
|
|
|
34
|
|
|
|
34
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
1,906
|
|
|
$
|
1,906
|
|
The
Company monitors the impairment of goodwill at least annually. As of
December 31, 2009, there were no indications that the carrying amount of the
goodwill was impaired.
12.
Other long-term assets
Other
long-term assets are as follows (dollars in thousands):
|
|
December
31, 2009
|
|
|
September
30, 2009
|
|
|
|
|
|
|
|
|
Prepaid
CNG land rental
|
|
$
|
3,046
|
|
|
$
|
2,937
|
|
Plant
construction in progress
|
|
|
9,027
|
|
|
|
3,096
|
|
CNG
station equipment on order from overseas
|
|
|
-
|
|
|
|
342
|
|
Others
|
|
|
1,711
|
|
|
|
1,297
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
13,784
|
|
|
$
|
7,672
|
|
13.
Short Term Bank Loan
The
following table summarizes the contractual short-term borrowings between the
banks and the Company as of December 31, 2009 (dollars in
thousands):
Bank
Name
|
|
Purpose
|
|
Borrowing
Date
|
|
Borrowing
Term
|
|
Annual
Interest Rate
|
|
|
Amount
|
|
Bank
of Communication
|
|
Working
Capital
|
|
April
27, 2009
|
|
Eight
months
|
|
|
5.31
|
%
|
|
$
|
4,980
|
|
China
Construction Bank
|
|
Working
Capital
|
|
March
18, 2009
|
|
One
year
|
|
|
5.31
|
%
|
|
|
21,967
|
|
China
Construction Bank
|
|
Working
Capital
|
|
April
20, 2009
|
|
One
year
|
|
|
5.5775
|
%
|
|
|
7,323
|
|
China
Citic Bank
|
|
Working
Capital
|
|
February
6, 2009
|
|
One
year
|
|
|
5.841
|
%
|
|
|
73
|
|
China
Citic Bank
|
|
Working
Capital
|
|
January
4, 2009
|
|
One
year
|
|
|
5.841
|
%
|
|
|
220
|
|
Industrial
Bank Co., Ltd.
|
|
Working
Capital
|
|
May
25, 2009
|
|
One
year
|
|
|
5.841
|
%
|
|
|
381
|
|
Industrial
Bank Co., Ltd.
|
|
Working
Capital
|
|
June
2, 2009
|
|
One
year
|
|
|
5.841
|
%
|
|
|
644
|
|
Bank
of Communication
|
|
Working
Capital
|
|
July
3, 2009
|
|
One
year
|
|
|
5.5755
|
%
|
|
|
146
|
|
China
Merchants Bank
|
|
Working
Capital
|
|
January
19, 2009
|
|
One
year
|
|
|
5.5755
|
%
|
|
|
1,464
|
|
China
Merchants Bank
|
|
Working
Capital
|
|
March
5, 2009
|
|
One
year
|
|
|
5.5755
|
%
|
|
|
439
|
|
China
Merchants Bank
|
|
Working
Capital
|
|
May
8, 2009
|
|
One
year
|
|
|
5.5755
|
%
|
|
|
1,025
|
|
Hankou
Bank
|
|
Working
Capital
|
|
July
21, 2009
|
|
One
year
|
|
|
5.841
|
%
|
|
|
2,930
|
|
CITIC
Bank
|
|
Working
Capital
|
|
August
26, 2009
|
|
One
year
|
|
|
6.372
|
%
|
|
|
2,637
|
|
Bank
of Communication
|
|
Working
Capital
|
|
October
9, 2009
|
|
One
year
|
|
|
5.841
|
%
|
|
|
2,372
|
|
Bank
of Communication
|
|
Working
Capital
|
|
October
26, 2009
|
|
Half
year
|
|
|
5.346
|
%
|
|
|
293
|
|
Bank
of Communication
|
|
Working
Capital
|
|
October
29, 2009
|
|
Half
year
|
|
|
5.346
|
%
|
|
|
586
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
$
|
47,480
|
|
The
following table summarizes the contractual short-term borrowings between various
banks and the Company as of September 30, 2009 (dollars in
thousands):
Bank
Name
|
|
Purpose
|
|
Borrowing
Date
|
|
Borrowing
Term
|
|
Annual
Interest Rate
|
|
|
Amount
|
|
Bank
of Communication
|
|
Working
Capital
|
|
April
27, 2009
|
|
Eight
months
|
|
|
5.31
|
%
|
|
$
|
4,979
|
|
China
Construction Bank
|
|
Working
Capital
|
|
March
18, 2009
|
|
One
year
|
|
|
5.31
|
%
|
|
|
21,965
|
|
China
Construction Bank
|
|
Working
Capital
|
|
April
20, 2009
|
|
One
year
|
|
|
5.5775
|
%
|
|
|
7,322
|
|
China
Citic Bank
|
|
Working
Capital
|
|
February
6, 2009
|
|
One
year
|
|
|
5.841
|
%
|
|
|
73
|
|
China
Citic Bank
|
|
Working
Capital
|
|
January
4, 2009
|
|
One
year
|
|
|
5.841
|
%
|
|
|
220
|
|
Industrial
Bank Co., Ltd.
|
|
Working
Capital
|
|
May
25, 2009
|
|
One
year
|
|
|
5.841
|
%
|
|
|
381
|
|
Industrial
Bank Co., Ltd.
|
|
Working
Capital
|
|
June
2, 2009
|
|
One
year
|
|
|
5.841
|
%
|
|
|
644
|
|
Bank
of Communication
|
|
Working
Capital
|
|
July
3, 2009
|
|
One
year
|
|
|
5.5755
|
%
|
|
|
146
|
|
China
Merchants Bank
|
|
Working
Capital
|
|
January
19, 2009
|
|
One
year
|
|
|
5.5755
|
%
|
|
|
1,464
|
|
China
Merchants Bank
|
|
Working
Capital
|
|
March
5, 2009
|
|
One
year
|
|
|
5.5755
|
%
|
|
|
439
|
|
China
Merchants Bank
|
|
Working
Capital
|
|
May
8, 2009
|
|
One
year
|
|
|
5.5755
|
%
|
|
|
1,025
|
|
Hankou
Bank
|
|
Working
Capital
|
|
July
21, 2009
|
|
One
year
|
|
|
5.841
|
%
|
|
|
2,929
|
|
CITIC
Bank
|
|
Working
Capital
|
|
August
26, 2009
|
|
One
year
|
|
|
6.372
|
%
|
|
|
2,636
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
$
|
44,223
|
|
14.
Notes payable
The
balances of notes payable as at December 31, 2009 and September 30, 2009
represent the obligations in the form of promissory notes with maturity dates of
less than 12 months for the purchase of raw materials.
15.
Advances from Customers
Advances
from customers at December 31, 2009 and September 30, 2009 consist of advances
received for routine sales orders according to the Company’s sales
policy.
16.
Income Taxes Payable
Pursuant
to the PRC income tax laws, the Company’s PRC subsidiaries are generally subject
to enterprise income tax at a statutory rate of 25%. The Company pays its
enterprise tax based on its taxable income determined in accordance with the tax
laws of the PRC. Enterprise tax for the three months
ended December 31, 2009 and 2008 were 25%.
As PRC
subsidiaries that qualify as wholly foreign owned manufacturing enterprises,
Sinogas, Yuhan and Jiaxing Lixun were granted tax preferences. Sinogas and Yuhan
were granted a 100% enterprise income tax exemption for calendar years 2006 and
2007 and a 50% enterprise income tax exemption for 2008 through 2010. Jiaxing
Lixun was granted a 100% tax exemption from August 2007 through
2008 and a 50% enterprise income tax exemption for the calendar years 2009
through 2011.
Under the
current tax laws of the PRC, Wuhan Sinoenergy will be entitled to a two-year
100% tax exemption followed by three years of a 50%
tax exemption once it become profitable. Wuhan Sinoenergy did not achieve
profitability for the year ended September 30, 2009.
No
provision for other overseas tax is made as Sinoenergy Holding Limited, which is
an investment holding company, and has no taxable income in the British Virgin
Islands or the United States.
17. Long
term notes payable
On
September 28, 2007, the Company issued 12% guaranteed senior notes due 2012 in
the principal amount of $16,000,000 and 3.0% guaranteed senior convertible notes
due 2012 in the principal amount of $14,000,000. At December 31,
2009, the 12% guaranteed senior notes had been paid in full. The convertible
notes were initially convertible into common stock at an initial conversion
price of $6.34 per share. The conversion price has been reduced to $4.20 as
described below at December 31, 2009.
In
connection with the issuance of the notes, the Company’s chief executive officer
and its chairman, both of whom are directors, executed non-competition
agreements with the Company, and the Company paid the investors an arrangement
fee of $160,000, which was deducted from the proceeds of the notes.
The
convertible notes were issued pursuant to an indenture between the Company and
DB Trustees (Hong Kong) Limited, as trustee. The convertible notes are due in
September 2012 and bear interest at the stated interest rate of 3% per annum.
Although the stated interest rate is 3% per annum, if the convertible notes are
not redeemed, converted or purchased and cancelled by the maturity date, the
Company is required to redeem the convertible notes at the amount which results
in a yield to maturity of 13.8% per annum, less interest previously paid, plus
any interest accrued on overdue principal (and, to the extent lawful, on overdue
interest) and premium, if any, at a rate which is 3% per annum in excess of the
rate of interest then in effect. As a result, the Company is accruing interest
at the rate of 13.8% per annum. Since the Company is only required to pay
interest currently at the rate of 3%, the remaining 10.8% interest rate is
accrued and treated as deferred interest payable. If the convertible notes are
converted, the deferred interest payable will be credited to additional paid in
capital. Because of the agreement relating to payment of the convertible notes
described below, the principal amount of the notes and the deferred interest are
classified as current liabilities at December 31, 2009.
The
convertible note indenture requires the Company to offer to purchase the Notes
at a price which would generate a 13.8% yield if either of the following events
shall occur:
|
•
|
The
failure of the Company’s common stock to be listed on The NASDAQ Stock
Market.
|
|
|
|
|
•
|
Trading
in the Company’s common stock on any exchange or market has been suspended
for ten or more consecutive trading
days.
|
The
indenture also requires the Company to pay additional interest as
follows:
|
•
|
At
the rate of 3.0% per annum if the Company has not obtained a listing of
its common stock on the NASDAQ Global Market or the NASDAQ Capital Market
by September 19, 2008 and maintained such listing continuously thereafter
as long as the Notes are outstanding. At December 31, 2009, the Company
had met this listing requirement.
|
|
|
|
|
•
|
At
the rate of 1.0% for each 90-day period in which the Company has failed to
comply with the registration obligations under the registration rights
agreement. As of September 30, 2009, the Company had accrued additional
interest totaling $560,000 pursuant to this provision, of which
$280,000 has been paid. The noteholders have waived the right to require
the additional interest from March 31, 2009 through September 30, 2009 and
afterwards.
|
At
December 31, 2009, the holders of the convertible notes have the right to
convert their notes into common stock at a conversion price of $4.20 per share,
reflecting a reduction in the conversion price to $5.125 per share pursuant to a
supplemental indenture dated as of June 23, 2008 and a further adjustment to
$4.20 per share as of March 28, 2009 based on the market price of the Company’s
common stock. As December 31, 2009, the conversion price was subject to
adjustment in the event of a stock distribution or dividend, a reverse split or
combination of shares and the distribution of shares, warrants, assets or
indebtedness to our stockholders. Other adjustment provisions had
been terminated as of December 31, 2009.
The
indenture relating to the convertible notes including the
following:
•
|
If
the Company sells assets and does not reinvest the proceeds in its
business within 180 days (270 days in the case of a sale of real
property), to the extent that such proceeds not so reinvested exceed
$5,000,000, the Company is required to offer the holders of the notes the
right to have the Company use such excess proceed to purchase their notes
at the principal amount plus accrued interest..
|
|
|
•
|
If
there is a change of control, the Company is required to offer to
repurchase the notes at 103% of the principal of the note, plus accrued
interest. A change of control will occur if Bo Huang or Tianzhou Deng own
less than 25% of the voting power of the Company’s voting stock or, with
certain exceptions, a merger or consolidation or sale of substantially all
of the Company’s and its subsidiaries’ assets.
|
|
|
•
|
The
Company is restricted from incurring additional debt unless, after giving
effect to the borrowing, (i) the fixed charge coverage ratio would be
greater than 2.0 to 1.0 through December 31, 2009 and 3.0 to 1.0 if the
debt is incurred thereafter, and (ii) the leverage ratio would not exceed
6.0 to 1.0 through December 31, 2009 and 4.5 to 1.0 if the debt is
incurred thereafter, provided, that Sinogas may continue to maintain debt
under credit facilities of not more than $10,000,000, and may incur
purchase money indebtedness. The fixed charge coverage ratio is the ratio
of the Company’s earnings before interest, taxes, depreciation and
amortization, which is generally known as EBITDA, to consolidated interest
expense, as defined. Leverage ratio means the ratio of outstanding debt to
EBITDA, with the interest component being the consolidated interest
expense, as defined.
|
•
|
The
Company is subject to restriction in paying dividends, purchasing its own
securities or those of its subsidiaries, prepaying subordinated debt, and
making any investment other than any investments in itself and its
subsidiaries engaged in the Company’s business and certain other permitted
investments.
|
|
|
•
|
The
Company is subject to restrictions on incurring liens.
|
|
|
•
|
The
Company cannot enter into, or permit its subsidiaries to enter into,
transactions with affiliates unless it is in writing, in the Company’s
best interest and not less favorable to the Company than it could obtain
from a non-affiliate in an arms’ length transaction, with any transaction
involving more than $1,000,000 requiring audit committee approval and any
transaction involving more than $5,000,000 requiring a written opinion
from an independent financial advisor.
|
|
|
•
|
The
Company shall maintain, as of the last day of each fiscal quarter, (i) a
fixed charge coverage ratio of at least 2.00 to 1.00 through December 31,
2009 and 3.0 to 1.0 thereafter, (ii) a leverage ratio of not more than 6.0
to 1.00 through December 31, 2009 and 4.5 to 1.0 thereafter, and (iii) a
consolidated subsidiary debt to consolidated net tangible asset ratio of
not more than 0.35. The noteholders agreed that they would not take any
action to declare an event of default as long as the Company is in
compliance with the modified covenants.
|
|
|
•
|
The
Company shall make all payments of principal, interest and premium, if
any, without withholding or deduction for taxes, and must offer to
repurchase the notes if they are adversely affected by changes in tax laws
that affect the payments to the
holders.
|
At
December 31, 2009, the Company was not in compliance with the required financial
covenants. In December 2009, the noteholders have waived the requirement on the
financial ratio at September 30, 2009 through March 31,
2010.
The
indentures provide for an event of default should the Company fails to comply
with its obligations under the indentures and certain events of bankruptcy or
similar relief.
The
Company’s obligations are guaranteed by its subsidiaries and are secured by a
lien on the stock of Sinoenergy Holding.
Subject
to certain conditions, and in connection with the proposed merger agreement
between the Company and Skywide Capital Management Limited (“Skywide”), which is
described in Note 19, the holders of the convertible notes have waived default
resulting from the failure of the Company’s common stock to be listed on the
NASDAQ Stock Market.
At the
time of the September 2007 financing, the Company also entered into an investor
rights agreement, as clarified, pursuant to which, as long as an investor holds
at least $2,000,000 principal amount of notes or at least 3% of the issued and
outstanding stock:
|
|
|
|
•
|
The
investor has the right to approve the Company’s annual budget, and the
Company cannot deviate by more than 15% of the amount in the approved
budget.
|
|
|
|
|
•
|
The
Company and its subsidiaries cannot replace or change the substantive
responsibilities of the chief executive officer except in the event of his
incapacity, resignation or retirement.
|
|
|
|
|
•
|
The
Company and its subsidiaries cannot take any action that would result in a
change of control, as defined in the indentures.
|
|
|
|
|
•
|
The
Company and its subsidiaries cannot change the number of board members or
the composition or structure of the board or board committees or delegate
powers to a committee or change the responsibilities and powers of any
committee.
|
|
|
|
|
•
|
The
Company shall, by April 1, 2008, have appointed an independent public
accountant from a list of 16 firms provided by the investors, failing
which the Company shall pay the investors the sum of $2,500,000 on April 1
of each year in which this condition is not met, and the Company shall not
terminate the engagement of such auditor without prior investor approval.
The Company has complied with this condition.
|
|
|
|
|
•
|
The
investors have a right of first refusal on future financings by us and
proposed transfers, with limited exceptions, by Mr. Huang and Mr. Deng.
The investors also have a tag-along right in connection with proposed
sales of stocks by Mr. Huang and Mr.
Deng.
|
The
investor rights agreement, as clarified, also provides that (i) the Company will
not sell shares of its common stock or grant options or warrants or issue
convertible securities with an exercise or conversion price that is less than
$0.80 per share, (ii) the minimum conversion price for the convertible debenture
would be $0.80 per share, (iii) the holders of the convertible notes may call an
event of default if the Company breaches its covenant not to issue shares at a
price which is less than $0.40 per share. If the Company increases its
authorized common stock, the conversion price would decrease to an amount not
less than $0.05 per share. The Company and the investors agreed to use their
commercially reasonable efforts to modify the indenture for the convertible
notes to reflect these provisions of the investor rights agreement.
As a
result of the reduction in the conversion price from $6.34 to $5.125, the
Company recorded an additional beneficial conversion feature of $3,360,905 as a
discount to the notes and additional paid in capital, which is being amortized
as interest expense over the remaining term of the notes commencing April 1,
2008. As a result of the further reduction in the conversion price
from $5.125 to $4.20, the Company recorded an additional beneficial conversion
feature of $3,862,439 as a discount to the notes and additional paid in capital,
which is being amortized as interest expense over the remaining term of the
notes commencing January 1, 2009. Upon prepayment of the convertible
notes, the unamortized portion of the beneficial conversion feature will be
recognized.
Mr. Huang
and Mr. Deng are also prohibited from transferring any shares, with limited
exceptions, until the investors shall have sold, singly or in the aggregate,
more than 5% of the Company’s total outstanding equity on a fully-diluted
basis.
As long
as long as Abax continues to hold more than 5% of the outstanding shares of
common stock on an as-converted basis, (i) Abax shall be entitled to appoint up
to 20% of the voting members (or the next higher whole number if such percentage
does not yield a whole number) of the Company’s board of directors, and (ii) if
the Company fails to meet the net income requirements under the indenture for
the convertible notes, Abax has the right to appoint an additional director. The
Abax director shall be entitled to serve on each committee of the board, except
that, the Abax director shall not serve on the audit committee unless he or she
is an independent director. Mr. Huang and Mr. Deng have agreed to vote their
shares for the election of the Abax directors. The Company is required to amend
its by-laws to provide that a quorum for action by the board shall include at
least one Abax director.
The
Company is required to prepare and file a registration statement covering the
sales of all of the shares of common stock issuable upon conversion of the
convertible notes, subject to any limitation required by Rule 415 of the SEC
pursuant to the Securities Act of 1933 and to have the registration statement
declared effective by March 28, 2008. In the event that the registration
statement has not been declared effective by the SEC on or before March 28, 2008
or if effectiveness of the Registration Statement is suspended at any time other
than pursuant to a suspension notice, for each 90-day period during which the
registration default remains uncured, the Company is required to pay additional
interest at the rate of one percent 1% of the convertible notes, as described
above. As of September 30, 2009, the common stock issuable upon conversion
of the notes had not been registered under the Securities Act of 1933, as
amended. The noteholders have waived the right to require the additional
interest from March 31, 2009 through September 30, 2009.
On
October 5, 2009 and December 17, 2009, the Company entered into agreements with
the holders of its $16,000,000, 12% senior notes and its $14,000,000, 3%
convertible notes. Pursuant to these agreements:
·
|
The
noteholders agreed to waive default of the provisions that require the
Company’s common stock to be publicly traded, that require the Company to
repurchase the notes upon a change of control, and that require the
Company’s common stock to be traded on the NASDAQ Capital Market or the
NASDAQ Global Market.
|
·
|
The
noteholders waived covenant compliance requirements at September 30, 2009
and through March 31, 2010.
|
·
|
The
Company agreed to repay the 12% senior notes in the principal amount of
$16 million. Initially the payments were due by November 30,
2009. The Company paid approximately $14 million by November
30, 2009. As a result of the December agreement, the Company
must pay the remaining balance of approximately $2 million by December 31,
2009. The balance due on these notes was paid on December 23,
2009.
|
·
|
The
Company agreed to pay the convertible notes in the principal amount of $14
million in two installments, with an initial payment of $5 million being
due ten days after the merger with Skywide becomes effective and the
balance 30 days thereafter. The conversion feature of the notes
will be eliminated. The Company will be required to pay interest to
provide the note holders with a yield to maturity of 13.8% per
annum.
|
·
|
The
noteholders reduced the remaining obligation for liquidated damages for
failure to register the shares of common stock issuable upon conversion of
the convertible notes to $280,000, which is to be paid by December 31,
2009. This payment was made on January 7, 2010 with the consent
of the noteholders.
|
·
|
The
provision requiring an adjustment to the conversion price of the notes
based on stated annual earnings of the Company was
eliminated.
|
·
|
The
provisions of the indenture relating to the reduction in the conversion
price of the convertible notes if the Company issues stock at a price, or
issue convertible securities with a conversion or exercise price that is
less than the conversion price (presently $4.20 per share) were
eliminated.
|
A
reconciliation of the original principal amount of the 3% senior convertible
notes to the amounts shown on the balance sheet at December 31, 2009 and
September 30, 2009:
Original
amount
|
|
$
|
14,000
|
|
Beneficial
conversion feature
|
|
|
(177
|
)
|
Balance,
September 30, 2007
|
|
$
|
13,823
|
|
Amortization
of beneficial conversion feature
|
|
|
35
|
|
Interest
paid
|
|
|
(211
|
)
|
Interest
accrued for guaranteed 13.8% return
|
|
|
1,934
|
|
Discount
resulting from reset adjustment effective March 28, 2008
|
|
|
(3,361
|
)
|
Amortization
of discount resulting from reset
|
|
|
373
|
|
Balance,
September 30, 2008
|
|
$
|
12,593
|
|
Interest
accrued for guaranteed 13.8% return
|
|
|
1,932
|
|
Amortization
of beneficial conversion feature
|
|
|
35
|
|
Amortization
of discount resulting from reset
|
|
|
1,519
|
|
Discount
resulting from reset adjustment effective March 28, 2009
|
|
|
(3,862
|
)
|
Interest
paid
|
|
|
(1,804
|
)
|
Balance,
September 30, 2009
|
|
$
|
10,413
|
|
Interest
accrued for guaranteed 13.8% return
|
|
|
483
|
|
Amortization
of beneficial conversion feature
|
|
|
9
|
|
Adjustment-interest
paid
|
|
|
1,376
|
|
Cumulative
change in accounting for conversion feature
|
|
|
(1,730
|
)
|
Amortization
of original discount
|
|
|
597
|
|
Interest
paid
|
|
|
(214
|
)
|
Balance,
December 31, 2009
|
|
$
|
10,934
|
|
18.
Long-term bank loan
The
following table summarizes the contractual long-term borrowings between various
banks and the Company as of December 31, 2009 (dollars in
thousands):
Bank
Name
|
|
Purpose
|
|
Borrowing
Date
|
|
Borrowing
Term
|
|
Annual
Interest Rate
|
|
|
Amount
|
|
Bank
of Communication
|
|
Construction
Capital
|
|
June
27, 2008
|
|
Three
years
|
|
|
8.316
|
%
|
|
$
|
4,394
|
|
China
Construction Bank
|
|
Construction
Capital
|
|
August
28, 2009
|
|
Five
years
|
|
|
5.76
|
%
|
|
|
21,967
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
$
|
26,361
|
|
The
following table summarizes the contractual long-term borrowings between various
banks and the Company as of September 30, 2009 (dollars in
thousands):
Bank
Name
|
|
Purpose
|
|
Borrowing
Date
|
|
Borrowing
Term
|
|
Annual
Interest Rate
|
|
|
Amount
|
|
Bank
of Communication
|
|
Construction
Capital
|
|
June
27, 2008
|
|
Three
years
|
|
|
8.316
|
%
|
|
$
|
4,393
|
|
China
Construction Bank
|
|
Construction
Capital
|
|
August
28, 2009
|
|
Five
years
|
|
|
5.76
|
%
|
|
|
21,965
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
$
|
26,358
|
|
19.
Merger Agreement with Skywide
On
October 12, 2009, the Company entered into an agreement and plan of merger with
Skywide, a corporation which is wholly owned by the Company’s chairman and chief
executive officer, both of whom are also directors. Pursuant to the agreement,
the Company will be merged into Skywide, with Skywide being the surviving
entity, and each shares of common stock of the Company (other than shares owned
by the Company, Skywide, or the two shareholders of Skywide), will be converted
into the right to receive, upon presentation of the certificates for their
common stock, the sum of $1.90. The merger is subject to shareholder
approval.
20.
Related Party Relationships and
Transactions
The
related parties with which the Company had transactions in the three months
ended December 31, 2009 and 2008, are as follows:
Name
of related party
|
|
Relationship
|
Anhui
Gather
|
|
Joint
venture entity with China New Energy in which the Company has a 20%
interest
|
China
New Energy
|
|
80%
shareholder of Anhui Gather and 20% shareolder of Hubei
Gather
|
Beijing
Shanglira Capital Co, Ltd.
|
|
Controlled
by Mr Tianzhou Deng and Mr Bo Huang
|
Skywide
|
|
Owned
by Mr Tianzhou Deng and Mr Bo Huang
|
Significant
transactions between the Company and its related parties during the three
months ended December 31, 2009 and 2008 are as follows:
(1)
Related party receivables (dollars in thousands)
Name
of the Company
|
|
December
31, 2009
|
|
September
30, 2009
|
|
|
|
|
|
China
New Energy
|
|
-None
|
|
$382
(current accounts)
|
Anhui
Gather
|
|
$44
(current accounts)
|
|
$44
(current accounts)
|
(2)
Related party payables (dollars in thousands)
Name
of the Company
|
|
December
31, 2009
|
|
September
30, 2009
|
|
|
|
|
|
Beijing
Shanglira Capital Co, Ltd.
|
|
-$17,208
(current accounts)
|
|
-None
|
Skywide
|
|
-$3,000
(current accounts)
|
|
-None
|
In
October 2009, Beijing Shanglira Capital Co., Ltd. advanced the Company
$17,208,000, and in December 2009, Skywide advanced the Company $3 million. The
loans are unsecured and are payable on demand. The proceeds of the
loans were used primarily to reimburse us for paying the Abax/CCIF senior debt
during the quarter ended December 31, 2009.
(3)
Related party transactions:
On
November 27, 2009, the Company signed agreement with China New Energy pursuant
to which the Company will transfer a 30% interest in Hubei Gather to China New
Energy for $1.5 million.
On
November 23, 2009, the Company signed an agreement with China New Energy
pursuant to which China New Energy will transfer a 30% interest Anhui Gather to
the Company for $1.5 million.
Upon
completion of these two equity transfers, the Company and China New Energy will
each own 50% of both Hubei Gather and Anhui Gather. The effect of
these agreements is that the Company will have exchanged a 30% interest in Hubei
Gather for a 30% interest in Anhui Gather.
21.
Segment Information
Operating
segments are defined as components of an enterprise about which separate
financial information is available that is evaluated regularly by the Company in
deciding how to allocate resources and in assessing performance.
As all
businesses of the Company are carried out in the PRC, the Company is deemed to
operate in one geographical area.
The
segment information set forth below has been derived from our unaudited
financial statements for the three months ended December 31, 2009 and
2008.
Three
Months Ended December 31, 2009
(dollars
in thousands)
|
|
Customized
pressure
containers
|
|
CNG
station
facilities
and construction
|
|
CNG
station
Operation
|
|
Vehicle
conversion
kits
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
General
and administrative expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income
(loss) from operations
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three
Months Ended December 31, 2008
(dollars
in thousands)
|
|
Customized
pressure
containers
|
|
CNG
station
facilities
and construction
|
|
CNG
station
Operation
|
|
Vehicle
conversion
kits
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
General
and administrative expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
22.
Capital Stock
As of
December 31, 2009, the Company had the following shares of common stock reserved
for issuance:
|
•
|
555,359
shares issuable upon exercise of warrants;
|
|
|
|
|
•
|
3,333,334
shares issuable upon conversion of 3% senior convertible
notes;
|
|
|
|
|
•
|
1,000,000
shares issuable upon exercise of stock options or other equity-based
incentives pursuant to the Company’s 2006 long-term incentive plan, of
which options to purchase 790,000 shares were
outstanding.
|
|
|
Number
of shares issuable on exercise of warrants
|
|
|
|
$1.70
Warrants
|
|
$2.40
Warrants
|
|
$4.20
Warrants
|
|
$8.00
Warrants
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance
at September 30, 2009
|
|
|
85,715
|
|
|
369,644
|
|
|
75,000
|
|
|
25,000
|
|
|
555,359
|
|
Issued
during the period
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
Exercised
during the period
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
Balance
at December 31, 2009
|
|
|
85,715
|
|
|
369,644
|
|
|
75,000
|
|
|
25,000
|
|
|
555,359
|
|
As at
December 31, 2009, the weighted average exercise price for all warrants is
$2.79. None of the outstanding warrants is subject to reset provisions other
than as a result of a stock distribution, split or dividend, a reverse split or
combination of shares or other recapitalization, and, in the case of the
warrants to purchase 455,360 shares of common stock issued in the June 2006
private placement, sales of common stock at prices below the exercise
price.
Stock
options
Pursuant
to the 2006 long-term incentive plan, each newly-elected independent director
receives, at the time of his or her election, a five-year option to purchase
15,000 shares of common stock at the fair market value on the date of his or her
election. The plan provides for the annual grant to each independent director of
an option to purchase 2,500 shares of common stock on the first trading day
in April of each calendar year, at market price, subject to stockholder approval
of the plan, commencing in 2007. Pursuant to the automatic grant provisions of
the plan, in June 2006, the Company issued to its independent directors, options
to purchase an aggregate of 60,000 shares of common stock at $1.30 per share,
being the fair market value on the date of grant.
Pursuant
to the 2006 long-term incentive plan, each independent director is to be
granted an option to purchase 2,500 shares of common stock on
the first trading day in April of each calendar year at market price. On
April 1, 2007, the four independent directors were granted stock options to
purchase a total of 10,000 shares of common stock at an exercise price of $4.06
per share, being the fair market value on the date of grant. On April
1, 2008, the four independent directors were granted stock options to purchase a
total of 10,000 shares of common stock at an exercise price of $5.80 per share,
being the fair market value on the date of grant. On April 1, 2009, the
four independent directors were granted stock options to purchase a total of
20,000 shares of common stock at an exercise price of $1.32 per share, being the
fair market value on the date of grant. All of the options granted to the
independent directors become exercisable cumulatively as to 50% of the shares
subject thereto six months from the date of grant and as to the remaining 50%,
eighteen months from the date of grant, and expire on the earlier of (i) five
years from the date of grant, or (ii) seven months from the date such
independent director ceases to be a director if such independent director ceases
to be a director other than as a result of his death or
disability.
On April
9, 2007, pursuant to 2006 long-term incentive plan, the stock option committee
of the board of directors granted five year options to its senior managers and
key management to acquire 590,000 shares of common stock at $4.00 per
share, being the fair market value on the date of grant. These options are fully
vested.
On
January 9, 2008, pursuant to 2006 long-term incentive plan, the stock option
committee of the board of directors granted five year options to its senior
managers and key management to acquire 60,000 shares of common stock at $8.20
per share, being the fair market value on the date of grant. These options vest
as to 50% of the underlying shares of common stock on January 9, 2009 and as to
the remaining 50% on January 9, 2010.
On March
10, 2008, pursuant to 2006 long-term incentive plan, the stock option committee
of the board of directors granted five year options to its senior managers and
key management to acquire 40,000 shares of common stock at $6.20 per share,
being the fair market value on the date of grant. The options vest as to 42% of
the underlying shares of common stock on December 31, 2008, 50% on December 31,
2009 and as to the remaining 8% on March 9, 2010.
On June
1, 2008, pursuant to 2006 long-term incentive plan, the stock option committee
of the board of directors granted five year options to the former chief
financial officer to acquire 75,000 shares of common stock at $5.72 per share,
being the fair market value on the date of grant. On October 18, 2008, the chief
financial officer resigned from the Company and the options were
forfeited.
|
|
Shares subject
to
options
|
|
|
Weighted
Average
exercise price scope
|
|
|
Remaining Contractual
life(years)
|
|
Options
outstanding at September 30, 2009
|
|
|
790,000
|
|
|
$
|
1.32-8.20
|
|
|
|
4.17
|
|
Options
granted during the period
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Options
outstanding at December 31, 2009
|
|
|
790,000
|
|
|
|
1.32-8.20
|
|
|
|
3.92
|
|
Options
exercisable at December 31, 2009
|
|
|
711,800
|
|
|
$
|
3.55
|
|
|
|
4.01
|
|
The fair
value of options granted is estimated on the date of grant using the
Black-Scholes option-pricing model utilizing the assumptions shown in the
following table:
Stock
Options Granted On
|
|
Grant
Date
|
|
April
1, 2009
|
|
|
June
1, 2008
|
|
|
March
10, 2008
|
|
|
January
9, 2008
|
|
|
April
9, 2007
|
|
|
April
1, 2007
|
|
|
June
2, 2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Expected
volatility
|
|
|
46.1
|
%
|
|
|
46.1
|
%
|
|
|
68.32
|
%
|
|
|
80.06
|
%
|
|
|
26.39
|
%
|
|
|
35.16
|
%
|
|
|
50
|
%
|
Risk-free
rate
|
|
|
2.93
|
%
|
|
|
2.93
|
%
|
|
|
4.64
|
%
|
|
|
4.64
|
%
|
|
|
4.64
|
%
|
|
|
4.64
|
%
|
|
|
4.64
|
%
|
Expected
term (years)
|
|
|
5
|
|
|
|
3
|
|
|
|
5
|
|
|
|
5
|
|
|
|
5
|
|
|
|
5
|
|
|
|
3
|
|
Dividend
yield
|
|
|
0
|
%
|
|
|
0
|
%
|
|
|
0
|
%
|
|
|
0
|
%
|
|
|
0
|
%
|
|
|
0
|
%
|
|
|
0
|
%
|
Fair
value per share
|
|
$
|
0.58
|
|
|
$
|
1.94
|
|
|
$
|
3.56
|
|
|
$
|
5.16
|
|
|
$
|
1.24
|
|
|
$
|
1.2
|
|
|
$
|
0.5
|
|
The
share-based compensation expense during the three months ended December 31, 2009
and 2008 was $64,000 and $83,000 respectively, which was charged to operations
as general and administrative expense.
23. Basic
and Diluted Earnings Per Share
Basic
earnings per share is based upon the weighted average number of shares of common
stock outstanding during the period. Diluted earnings per share is based on the
assumption that all dilutive convertible shares, stock options and warrants
were converted or exercised. The number of shares included in determining
diluted earnings per share is computed by applying the treasury stock method.
Under this method, options and warrants are assumed to be exercised at the
beginning of the period (or at the time of issuance, if later), with the funds
obtained thereby being used to purchase common stock at the average market price
during the period.
The
details for the fully diluted outstanding shares for the three months ended
December 31, 2009 and 2008 are as follows:
|
|
Three
months ended December 31, 2009
|
|
Three
months ended December 31, 2008
|
Weighted
average common stock outstanding during period
|
|
|
|
|
Common
stock issuable pursuant to warrants
|
|
Anti-dilutive
|
|
|
Common
stock issuable upon conversion of 3% convertible
notes
|
|
Anti-dilutive
|
|
|
Common
stock issuable upon exercise of options outstanding during the
period
|
|
Anti-dilutive
|
|
|
Total
diluted outstanding shares
|
|
|
|
|
Because
the Company sustained a loss for the three months ended December 31, 2009, the
shares issuable upon exercise of options and warrants and upon conversion of
convertible notes would be anti-dilutive.
24.
Commitments and Contingencies
Litigation
The
Company is a defendant in a class action commenced on October 16, 2009 in the
Supreme Court of the State of New York, Nassau County, by alleged class
representative plaintiffs Stephen Trecaso and Linda Watts against the Company
and its directors which alleges a claim for breach of fiduciary duty, and which
makes a demand for injunctive relief or alternatively, damages arising out of
the merger agreement. The complaint generally alleges that the
company and the board of directors engaged in a defective sales process which
will permit Skywide to buy the Company for an unfair price. The
Company believes that this action is without merit, that it has valid defenses
to the action, and it will vigorously defend the action. As of
February 1, 2010, none of the Company’s directors has been served with process
in this action, except Robert I. Adler. The Company and Mr. Adler
have made motions to dismiss this lawsuit on various grounds which include the
court’s lack of jurisdiction over the Company and the plaintiffs’ failure to
join necessary parties as defendants.
The
Company is a defendant in four other class actions that have been filed against
the Company, its directors and Skywide in the Eighth Judicial District Court of
the State of Nevada in and for Clark County which allege a claim for breach of
fiduciary duty and which also make a demand for injunctive relief for a
meaningful auction with third parties or alternatively, damages arising out of
the merger agreement. The alleged class representative plaintiffs in each of
those four actions and the respective dates of commencement of those actions are
(i) Johan L. Stoltz, October 26, 2009, (ii) Robert E. Guzman, October 27, 2009,
(iii) Carol Karch, October 27, 2009 and (iv) Robert Grabowski, November 2,
2009. As of February 1, 2010, the Company and directors Robert I.
Adler and Greg Marcinkowski have been served in the four actions. The
complaints generally allege that the Company and the board of directors engaged
in a defective sales process which will permit Skywide to buy the Company for an
unfair price and permitted Skywide disclosure of material inside
information. The Company has removed each of those four actions to
the United States District Court for the District of
Nevada. Plaintiffs in those actions have filed motions seeking to
remand the actions back to the Nevada State Courts. The time within
which the company and Messrs. Adler and Marcinkowski must appear, answer or
otherwise move with respect to the complaints in those actions has been extended
to February 16, 2010. The Company believes that these actions are without merit,
that it has valid defenses to the actions and it will vigorously defend these
actions.
Contractual
Obligations
The
Company has the following material contractual obligations and capital
expenditure commitments:
Sinoenergy
Holding and Sinogas signed an agreement to set up Qingdao Sinoenergy Gas in
which Sinoenergy Holding would own 60% and Sinogas would own 40%. As
a result, Qingdao Sinoenergy Gas will be 90% owned by the
Company. Sinoenergy Holding’s commitment is $2,636,000, and Sinogas’
commitment is $1,757,000. As of December 31, 2009, Sinogas had made its full
contribution and the Company’s commitment was $2,636,000.
Lixun has
agreed to contribute $58,574 to Yichang Liyuan Power Technology Company for a
40% equity interest. As of December 31, 2009, Lixun contributed $29,290 and the
Company’s commitment for future funding was $29,290.
Wuhan
Sinoenergy and Pingdingshan Sinoenergy, subsidiaries of the Company, have leased
13 parcels of land in Wuhan City and Pingdingshan City for their CNG stations
under operating lease agreements. The lease terms are from 7 year to 30 years
with annual rental fees of approximately $846,000. Based on land
rental agreements in effect at December 31, 2009, the Company will pay a total
of $5.73 million during through 2039.
Wuhan
Sinoenergy has two agreements to purchase land use rights in Wuhan City from
different non-affiliated parties. One agreement provides for a purchase price of
approximately $1.58 million, of which approximately $1.32 million has been paid,
and the title transfer is in the process. The second provides for a purchase
price of approximately $1.32 million, of which approximately $732,000 has been
paid. The acquisition of the land requires government approval.
The
Company’s commitment for the construction of CNG stations, including stations
being constructed by Wuhan Sinoenergy and Hubei Gather, was $797,000 as of
December 31, 2009.
The
Company’s commitment for the construction of a new plant for Jiaxing Lixun was
$624,000 as of December 31, 2009.
The
Company’s commitment for the purchase of property, plant and equipment,
including property for Wuhan Sinoenergy and Hubei Gather, was $5,794,000 as of
December 31, 2009.
25.
Retirement Benefits
The
full-time contracted employees of the Company are entitled to welfare benefits,
including medical care, labor injury insurance, housing benefits, education
benefits, unemployment insurance and pension benefits through a Chinese
government-mandated multi-employer defined contribution plan. The
Company is required to accrue the employer-portion for these benefits based on
certain percentages of the employees’ salaries. The total provision
for such employee benefits was $76,179 and $101,094 for the three months ended
December 31, 2009 and 2008, respectively, and was recorded as other payables.
The PRC government is responsible for the staff welfare benefits including
medical care, casualty, housing benefits, unemployment insurance and pension
benefits to be paid to these employees. The Company is responsible for the
education benefits to be paid.
From time
to time, the Company may hire some part time workers or short term workers to
satisfy the peak season labor requirement. Those workers have the right to
terminate their work to the Company at any time. For those part time
non-contracted workers, it is difficult for the Company to accurately record the
working time, total wages and then accrue welfare benefits. Based on the common
practice in the PRC, the Company treats those workers as probationary employees,
and does not accrue welfare benefits for them. Although the Company believes
that it is treating these employees in accordance with applicable law, it is
possible that the government may require the Company to accrue the welfare
benefit and may assess a penalty for the underaccrual.
26.
Significant Concentrations
In the
CNG station facilities and construction segment, the Company manufactures, sells
and installs CNG vehicle and gas station equipment. The Company provides
products for third party companies that operate fixed and/or mobile CNG filling
stations and it designs the CNG station construction plans, constructs CNG
stations, and installs CNG station equipment and related systems.
These
products and services are designed to meet the customer
specifications. Sales in this segment are dependent upon the Company
developing a continuing stream of business so that we will not incur a
significant lag between the time we complete one contract and start
another. Although we do not have a long history of operations in this
business, we anticipate that our major customers will vary from period to
period.
In the
three months ended December 31, 2009, two customers of the station facilities
and construction segment each accounted for more than 10% of the total
sales. These customers, who purchased CNG truck trailers, accounted
for approximately 25.8% of total sales. At December 31, 2009, approximately
52.0% of our accounts receivable were from these customers
And in
the three months ended December 31, 2008, one customer of the station facilities
and construction segment accounted for 27.8% of the total sales and at December
31, 2008, approximately 19.5% of the accounts receivable was from this
customer.
The
following table sets forth information as to the sales generated from each of
these customers for the three months ended December 31, 2009 (dollars in
thousands):
Name
|
|
Three
Months Ended
December
31, 2009
|
|
|
Three
Months Ended
December
31, 2008
|
|
|
|
Dollars
|
|
|
Percent
|
|
|
Dollars
|
|
|
Percent
|
|
Wuhan
Lvneng Gas Transportation Co.,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
* Less
than 10%
ITEM
2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
The
following discussion of the results of our operations and financial condition
should be read in conjunction with our financial statements and the related
notes, which appear elsewhere in this quarterly report. The following
discussion includes forward-looking statements. For a discussion of important
factors that could cause actual results to differ from results discussed in the
forward-looking statements, see “Forward Looking Statements.”
FORWARD-LOOKING
STATEMENTS
This
quarterly report on Form 10-Q contains forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933, and Section 21E of the
Securities Exchange Act of 1934. Forward-looking statements include, but are not
limited to, statements that express our intentions, beliefs, expectations,
strategies, predictions or any other statements relating to our future
activities or other future events or conditions. These statements are based on
current expectations, estimates and projections about our business based, in
part, on assumptions made by management. These statements are not guarantees of
future performance and involve risks, uncertainties and assumptions that are
difficult to predict. Therefore, actual outcomes and results may, and are likely
to, differ materially from what is expressed or forecasted in the
forward-looking statements due to numerous factors, including those described
above and those risks discussed from time to time in this prospectus, including
the risks described under “Risk Factors,” and “Management’s Discussion and
Analysis of Financial Condition and Results of Operations” in our annual report
on Form 10-K for the year ended September 30, 2009 and “Management’s Discussion
and Analysis of Financial Condition and Results of Operations” in this Form 10-Q
as well as any other filings we make with the SEC. In addition, such statements
could be affected by risks and uncertainties related to the ability to conduct
business in the PRC, product demand, including our ability to continue to be in
compliance with the financial covenants under the indentures relating to our
senior debt, our working capital deficiency, our ability to collect outstanding
accounts receivable, the demand for CNG and our conversion kits, the prices at
which we purchase and sell CNG at our stations, our ability to develop,
construct and operate a CNG station business, our ability to raise any financing
which we may require for our operations, competition, government regulations and
requirements, pricing and development difficulties, our ability to make
acquisitions and successfully integrate those acquisitions with our business, as
well as general industry and market conditions and growth rates, and general
economic conditions as well as economic conditions that affect the natural gas
industry. Although we believe that the expectations reflected in the
forward-looking statements are reasonable, we cannot guarantee future results,
levels of activity, performance or achievements. Our expectations are as of the
date this annual report is filed, and we do not intend to update any of the
forward-looking statements after the date this quarterly report is filed to
conform these statements to actual results, unless required by law.
OVERVIEW
We
design, manufacture and market a range of pressurized containers for CNG.
Although our initial business involved the manufacturing of customized equipment
and pressure containers, our business has evolved as an increasing market is
developing in the PRC for the use of CNG. Our CNG vehicle and gas station
construction business consists of two divisions (i) the manufacturing of CNG
vehicle and gas station equipment, and (ii) the design of construction plans for
CNG stations, the construction of the CNG stations, and the installation of CNG
station equipment and related systems.
We
continue to manufacture a wide variety of pressure containers for use in
different industries, including the design and manufacture of various types of
pressure containers in the petroleum and chemical industries, the metallurgy and
electricity generation industries and the food and brewery industries and have
the capacity to design and manufacture various types of customized
equipment.
All of
our products and services are manufactured or performed pursuant to agreements
with our customers, which provide the specifications for the products and
services. As a result, our revenue is dependent upon the flow of contracts.
In any fiscal period, a small number of customers may represent a
disproportionately large percentage of our business in one period and a
significantly lower percentage, if any, in a subsequent period.
Commencing
in 2006, we began to construct CNG stations and, commencing in 2008 we began to
operate CNG stations. This aspect of our business is different from our other
business. The business of operating CNG stations requires a substantial capital
investment. For this purpose, we raised approximately $30 million
from the sale of our convertible and fixed rate notes in September 2007. The
indentures relating to these notes have restrictions on our incurring additional
debt. The nature of the operation of the business and the risks associated with
that business are significantly different from the manufacturing of equipment or
the construction of CNG stations for third parties. One aspect of the operation
of CNG stations is the price controls, whereby both the price at which we
purchase CNG and the price at which we sell CNG are subject to price controls by
central government and municipal government. As a result of these price
controls, our gross margin is effectively dependent upon the government’s
pricing policies. The operation of CNG stations is reported as a separate
segment.
In early
2007, we established a division to sell and manufacture CNG vehicle conversion
kits to OEM and sale in the aftermarket. These kits are designed to enable a
gasoline powered vehicle to operate on CNG. We began to generate revenue from
this business segment in the second quarter of calendar 2007. In March 2007, we
purchased a 60% interest in Lixun from its stockholders for $390,000. In July
2007, we paid an additional $400,000 to increase our equity ownership in
Lixun to 70%, and in April 2008 we acquired the remaining 30% for $1,145,000.
Lixun designs and manufactures electric control devices for alternative fuel,
such as compressed natural gas and liquefied petroleum gas vehicles, as well as
a full range of electric devices, such as computer controllers, conversion
switches, spark advancers, tolerance sensors and emulators for use in
multi-powered vehicles. The business of manufacturing electronic parts for
vehicle conversion kits as well as producing conversion kits is reported as a
separate segment.
Our CNG
vehicle and gas station equipment business include two product
lines:
|
•
|
the
manufacture of equipment for CNG vehicles and gas stations,
and
|
|
•
|
the
design of CNG station and construction plans, construction of CNG stations
and installation of CNG station equipment and related
systems.
|
Our
original business was the manufacture and sale of nonstandard equipment and
pressure containers operated by our subsidiary, Qingdao Sinogas Yuhan Chemical
Equipment Co., Ltd. (“Yuhan”), which is owned 75% by Sinogas and a 25% ownership
by us through Sinoenergy Holdings.
Steel and
steel tubing are the major raw materials used in manufacturing CNG facilities
and gas station equipment. We purchase steel plate from a Chinese domestic
manufacturer, and we believe that alternative suppliers are available. Prior to
May 2007, we purchased steel bottles, a key raw material for CNG truck trailers,
exclusively from an Italian supplier, which carried the risk of delays that
could interrupt our manufacturing process. Beginning in May 2007, we also began
to purchase steel tubes from the PRC domestic market and engaged a Korean
company to manufacture the bottles from the steel tubes. In August 2007, we
engaged a PRC company to manufacture these bottles. Although we believe that we
have reduced the risks of interruption of our manufacturing process, we cannot
eliminate the risk entirely.
Our
functional currency is RMB, which is the currency of the PRC, and our reporting
currency is United States dollars. In addition, our purchases from our Italian
supplier are in Euros. When we discuss the amount of our future obligations, we
convert RMB or Euros to dollars at the current exchange rate. However, since the
payment will be made in the future, the amount paid in United States dollars may
be different from the amount set forth in this annual report as a result of
fluctuations in the currency rates.
The
growth of the Chinese economy has been uneven across geographic regions and
economic sectors. Following a period of general economic growth, China, like the
rest of the world, has recently been subject to an economic
downturn. There can be no assurance that the downturn will not
continue to have a negative effect on our business especially if it results in
either a decreased use of products such as ours or in pressure on us to lower
our prices. Our customized pressure container business and our CNG station
facilities and construction business are dependent upon our customers making
significant capital purchases, either for pressure containers or for new CNG
stations. The availability of financing to our customers as well as
the capital requirements of our customers could significantly reduce the need
for these products and services. Since our CNG station business is
dependent upon the development of a market for cars and trucks that run on CNG
rather than gasoline, any economic trends which have the effect of dampening the
market for CNG vehicles could affect our ability both to sell our CNG products
and to sell CNG at our proposed CNG stations. The recent sharp decline in oil
and gasoline prices may affect the need for both CNG stations and conversion
kits that enable gasoline-powered vehicles to operate on
CNG. Although the government of China has encouraged the use of CNG
as part of its effort to reduce pollution in China, the factors described above
may affect the development of the CNG industry in China. We cannot
predict whether or how these factors will affect the market for CNG in the areas
in which we are constructing our CNG filling stations or the market for our
conversion kits. However, these factors were a significant reason for our
reduced gross margin and our net loss for the three months ended December 31,
2009.
We
purchase CNG from government controlled entities. During 2007, we
entered into two joint ventures for the operation of natural gas process plants.
We have an 80% interest in one of these ventures and a 20% interest in the
other. These two facilities are in the early construction stage, and neither of
these ventures has commenced operations. We also have contracted for the
purchase of natural gas which is to be delivered through a
pipeline. The pipeline was completed in December 2009, and is
undergoing completion testing prior to being placed in commercial
operation. These contracts do not have specific delivery quantities
or prices, all of which are to be determined later.
In
September 2007, we issued our 12% senior notes due 2012 in the principal amount
of $16,000,000 and 3.0% senior convertible notes due 2012 in the principal
amount of $14,000,000. The indentures relating to these notes
included financial covenants, which were amended on May 19, 2009. We
were not in compliance with these covenants at September 30, 2009 or December
30, 2009, and the note holders waived compliance with the covenants at both of
these dates. In October and December 2009, we entered into agreements
with the holders of the 12% senior notes and the 3% convertible
notes. Pursuant to these agreements, we paid the 12% senior notes in
full in December 2009. Pursuant to the December 17, 2009 agreement,
(i) we agreed to pay the $14,000,000 convertible notes, including interest to
provide the holders with a 13.8% yield to maturity, after giving effect to
current interest payments made at the annual rate of 3.0% per annum, would be
paid in two installments following completion of the merger with Skywide, with
the first payment of $5,000,000 being due ten days after the effectiveness of
the merger and the balance 30 days thereafter, (ii) the requirement that we meet
certain net income levels for 2008 and 2009 were eliminated, (iii) the
provisions that would have resulted in a reduction in the conversion price of
the convertible notes if we sold common stock or securities convertible into
common stock were eliminated and (v) the liquidated damages due for failing to
register the shares of common stock issuable upon conversion of the notes was
reduced to $280,000, which was due by December 31, 2009, and was paid on January
7, 2010. As a result of our agreement to pay the convertible notes
upon completion of the merger with Skywide, we have classified the principal and
the deferred interest as current at September 30, 2009 and December 31,
2009.
Our
accounts receivable decreased from $29.8 million at September 30, 2009 to $28.3
million at December 31, 2009. At September 30, 2009, our accounts
receivable were outstanding for an average of 225 days, as compared with 124
days at September 30, 2008. At December 31, 2009, our accounts
receivable were outstanding for an average of 211 days. A significant
amount of receivables that were outstanding at September 30, 2008 remained
outstanding on December 31, 2009. In addition, at December 31, 2009,
we had a note receivable of $2.0 million resulting from the termination of a
sublease for which no payments had been made by the tenant. Our
failure to collect our receivables in the normal course of business could impair
our ability to continue in business.
RESULTS
OF OPERATIONS
We are
engaged in four business segments:
(i)
Customized pressure container business
Our
customized equipment and pressure container business is a traditional chemical
equipment manufacturing business with low profit margin. It includes design and
manufacturing of various types of pressure containers for industries such as the
petroleum and chemical, metallurgy, electricity generation and food and beverage
industries.
(ii)
CNG Station Facilities and Construction
Our CNG
station construction business represents:
▪
|
The
manufacture and installation of CNG vehicle and gas station equipment that
is used in the transportation and storage of CNG and the operation of a
CNG station. We provide these services for other companies that operate
CNG stations.
|
▪
|
CNG
station construction service, which includes the design of CNG station
construction plans, construction of CNG stations, and installation of CNG
station equipment and related systems. Because of our emergence into the
CNG filling station business in 2006, we did not receive any CNG station
construction service orders from the beginning of 2007. Our operating
results in this segment reflects contracts which we entered into during or
prior to the beginning of 2007. We anticipate that, at least in the near
term, we will devote most, if not all, of our CNG construction business to
the construction of our own CNG filling
stations.
|
(iii)
CNG station operations
In 2006,
we entered the CNG station business, which involves the design, construction and
equipping of CNG stations and the operation of those stations. As of
February 10, 2010, we were operating twenty-one CNG stations, of which sixteen
are located in Wuhan, two in Pingdingshan and three in Xuancheng. An
additional four stations in Wuhan are in the final stages of construction, and
four
stations in
Wuhan
were in the
preliminary planning stage.
(iv)
Vehicle fuel conversion equipment
We
manufacture conversion kits and electrical control devices that enable vehicles
that are designed to operate on gasoline to operate on CNG.
The
information set forth below represents segment information for the three months
ended December 31, 2009 and 2008.
Three
Months Ended December 31, 2009
(dollars
in thousands)
|
|
Customized
pressure
containers
|
|
CNG
station
facilities
and construction
|
|
CNG
station
Operation
|
|
Vehicle
conversion
kits
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
General
and administrative expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income
(loss) from operations
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three
Months Ended December 31, 2008
(dollars
in thousands)
|
|
Customized
pressure
containers
|
|
CNG
station
facilities
and construction
|
|
CNG
station
Operation
|
|
Vehicle
conversion
kits
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
General
and administrative expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Sales.
Net sales for the
three months ended December 31, 2009 (“December 2009 quarter”) were
approximately $12.5 million, a decrease of approximately $3.4 million, or 21%,
from sales of approximately $8.8 million for the three months ended December 31,
2008 (“December 2008 quarter”). This decrease resulted from the
segment of CNG stations facilities and construction, namely, a decrease of
approximately $3.7 million, or 64%, in sales from the CNG stations facilities
and construction, resulting from the decrease in demand for the construction and
equipping of CNG stations and our change in emphasis as we devoted significant
efforts to the construction of our own stations.
Cost of Sales; Gross Margin.
The cost of sales for the December 2009 quarter was approximately $10.7 million,
a decrease of approximately 4% from approximately $11.1 million for the December
2008 quarter. Our overall gross margin decreased from 30% to 15% from the
December 2008 quarter to the December 2009 quarter for the following
reasons:
|
•
|
Our
gross margin for the customized pressure containers decreased from 29% to
8%. Since these products are customized, with wide range of gross margin
because of the variety of the products. In the December 2009 quarter, we
had to reduce our prices to meet competition during a period of general
economic downturn without a reduction in our cost. As a result
we sustained a significantly lower gross margin in this
segment..
|
|
|
|
|
•
|
Our
gross margin for the CNG station facilities and construction decreased
from 39% to 29% because we had to reduce our prices to meet
competition.
|
|
|
|
|
•
|
Our
gross margin for the operation of our CNG stations decreased from 20% to
8%. The cost of natural gas increased approximately 10% and the freight
costs (the transmission of the CNG to our stations), which are included in
cost of sales, increased approximately 10%, which significantly affected
the gross margin in this segment. The gross margin for this segment
reflects the effects of price controls, which cover both the price at
which we buy and the price at which we sell CNG.
|
|
|
|
|
•
|
As
the market for vehicle conversion kits matured and the demand for these
kits decreased as a result of the economic downturn, our gross margin in
this segment decreased from 29% to
24%.
|
Selling
Expenses
. Selling expenses decreased approximately $182,000,
or approximately 35%, from the December 2008 quarter to the December 2009
quarter. Our selling expenses include land rental for the CNG
stations, and reflects land rented for this segment which was incurred for land
not used in the December 2009 quarter.
General and Administrative
Expenses
. General and administrative expenses increased
approximately $1,108,000, or 82%. This increase includes $600,000 for the
restructuring fee paid to Abax and CCIF in the December 2009 quarter. This
payment was part of our payment of approximately $16 million paid to the
noteholders in the December 2009 quarter. Our general and administrative
expenses include, in addition to the management expenses and depreciation
related to the division, an allocation of corporate expenses, including
expenses
relating
to our status as a public company, such as legal and audit
costs. Management overhead was allocated among the segments based on
the relative time devoted by management to the business of the
segments.
Interest
Expense
. Interest expense for the December 2009 quarter
was approximately $2.1 million, as compared with $1.2 million for the December
2008 quarter. In the December 2009 quarter, we increased our bank
borrowings to expand our CNG station operation and manufacturing plant, which
also increased interest expense. In addition, amortization of original issuance
discount from issuance of the convertible notes was $597,000 in the December
2009 quarter.
Other Income and Other
Expenses
. During the December 2008 quarter, we generated rental
income of approximately $1.3 million for the rental of the land use
rights for Sinogas’ former manufacturing facility. In March 2008,
Sinogas signed a lease agreement with Qingdao Mingcheng Real Estate Co., Ltd
(Qingdao Mingcheng), a non-related party, with a three-year term from January
2008 to December 2010, at a quarterly rental of RMB10 million (equivalent to
$1.46 million based on the exchange rate at December 31, 2008). This lease was
terminated in March 31, 2009. As a result of the failure of the
tenant to pay the rental due, during the year ended September 30, 2009, in
connection with the termination of the lease, we reduced the rental receivable
by approximately $1.8 million, which was 40% of the outstanding balance, and we
reserved an additional $1.0 million with respect to the
receivable. We did not generate any rental receivable in the December
2009 quarter.
At
September 30, 2009, our 3% convertible notes included a provision pursuant to
which the conversion price of the notes can be reduced as a result of our sales
of stock at a price below the conversion price or by our failure to meet certain
net income levels. In addition, the conversion price is reflected in
terms of U.S. dollars, which is our reporting currency, and not RMB, which is
our operating currency. Effective October 1, 2009, we are required to
change the conversion feature classification from equity based to a derivative
liability. The cumulative change to this new accounting has been reflected on
October 1 as an adjustment to additional paid in capital and retained earnings.
For the December 2009 quarter, we incurred a charge of $886,000, reflecting the
change in the value of the derivative liability from September 30, 2009 to
December 31, 2009. This charge is a non-cash charge that did not
affect our operations.
Income Taxes.
Our
income taxes decreased from $568,000 of December 2008 quarter to $346,000 of
December 2009 quarter. Sinogas and Yuhan were granted 50% enterprise
income tax exemption for 2008 through 2010. Lixun was granted a 100% tax
exemption from August 2007 through December 2008 and a 50% enterprise income tax
exemption for 2009 through 2011. In January 2009, the Chinese tax authorities
issued a ruling that a joint venture enterprise incorporated after March 16,
2007 cannot enjoy the tax preferences. Since Lixun is a joint venture
incorporated in July 2007, it cannot enjoy the tax preferences. Lixun was
recognized as a high-tech enterprise, and its tax rate is 15% from January
2008.
Non-controlling
Interest
. The minority interest, of negative $435,000 in
December 2009 quarter and a negative $955,000 in December 2008 quarter,
represents the share of the income of our majority-owned subsidiaries that is
allocated to the subsidiaries’ minority equity owners.
Net Income
(loss)
. As a result of the foregoing, we had a net loss of
approximately $4,681,000, or $0.29 per share (basic and diluted), for December
2009 quarter, as compared with net income of approximately $1,698,000, or $0.11
per share (basic and diluted) for the December 2008 quarter.
Comprehensive Income
(Loss)
. Our comprehensive loss for the December 2009 quarter
was $4,676,000 as compared with comprehensive income of $1,537,000 for the
December 2008 quarter. Other comprehensive income (loss) items include foreign
currency translation adjustments resulting from changes in the currency rates
between the RMB and the United States dollar, or approximately $5,000 in
December 2009 quarter and ($161,000) in December 2008 quarter.
Liquidity
and Capital Resources
At
December 31, 2009, we had cash of approximately $18.4 million, a decrease of
approximately $1.2 million (including restricted cash of $1.5 million), from
September 30, 2009. At December 31, 2009, we had a working capital deficiency of
approximately $22.7 million and shareholders’ equity of approximately $40.6
million, compared with working capital deficiency of approximately $9.1 million
and shareholders’ equity of approximately $46.2 million at September 30, 2009.
The following table sets forth information as to the principal changes in the
components of our working capital (dollars in thousands):
|
31-Dec-09
|
|
30-Sep-09
|
Change
|
|
|
Category
|
Percent
Change
|
ASSETS
|
|
|
|
|
|
|
CURRENT
ASSETS
|
|
|
|
|
|
|
Cash
|
|
$
|
16,936
|
|
|
$
|
18,237
|
|
|
(1,301)
|
|
(7.1%)
|
Restricted
cash
|
|
|
1,504
|
|
|
|
1,413
|
|
|
91
|
|
6.4%
|
Accounts
and notes receivable, net
|
|
|
28,283
|
|
|
|
29,756
|
|
|
(1,473)
|
|
(5.0%)
|
Inventories
|
|
|
4,797
|
|
|
|
4,619
|
|
|
178
|
|
3.9%
|
Other
receivables, net
|
|
|
14,360
|
|
|
|
17,644
|
|
|
(3,284)
|
|
(18.6%)
|
Deposits
and prepayments
|
|
|
7,593
|
|
|
|
8,629
|
|
|
(1,036)
|
|
(12.0%)
|
Due
from related party
|
|
|
44
|
|
|
|
426
|
|
|
(382)
|
|
(89.7%)
|
Deferred
expenses
|
|
|
29
|
|
|
|
63
|
|
|
(34)
|
|
(54.0%)
|
|
|
|
|
|
|
|
|
|
CURRENT
LIABILITIES
|
|
|
|
|
|
|
|
|
Short-term
loans
|
|
$
|
47,480
|
|
|
$
|
44,223
|
|
$
|
3,257
|
|
7.4%
|
Notes
payable
|
|
|
4,760
|
|
|
|
4,583
|
|
|
177
|
|
3.9%
|
Accounts
payable
|
|
|
5,501
|
|
|
|
5,193
|
|
|
308
|
|
5.9%
|
Advances
from customers
|
|
|
814
|
|
|
|
2,100
|
|
|
(1,286)
|
|
(61.2%)
|
Additional
interest on notes
|
|
|
280
|
|
|
|
280
|
|
|
0
|
|
0.0%
|
Income
taxes payable
|
|
|
713
|
|
|
|
475
|
|
|
238
|
|
50.1%
|
Other
payables
|
|
|
1,488
|
|
|
|
5,783
|
|
|
(4,295)
|
|
(74.3%)
|
Due
to related party
|
|
|
20,208
|
|
|
|
0
|
|
|
20,208
|
|
﹡
|
Accrued
expenses
|
|
|
430
|
|
|
|
538
|
|
|
(108)
|
|
(20.1%)
|
Deferred
income
|
|
|
26
|
|
|
|
38
|
|
|
(12)
|
|
(31.6%)
|
Derivative
Liability
|
|
|
3,591
|
|
|
|
0
|
|
|
3,591
|
|
﹡
|
Long-term
Notes payable (current portion)
|
|
|
10,934
|
|
|
|
26,667
|
|
|
(15,733)
|
|
(59.0%)
|
|
|
|
|
|
|
|
|
|
|
Total
current assets
|
|
$
|
73,546
|
|
|
$
|
80,787
|
|
$
|
(7,241)
|
|
(9.0%)
|
Less: total
current liabilities
|
|
|
96,225
|
|
|
|
89,880
|
|
|
6,345
|
|
7.1%
|
|
|
|
|
|
|
|
|
|
|
Net
working capital
|
|
|
(22,679)
|
|
|
|
(9,093)
|
|
|
(13,586)
|
|
149.4%
|
﹡
The percentage
was not included since it is not meaningful.
At
December 31, 2009, we required substantial capital to meet the required payments
toward the $14 million convertible senior notes and to maintain the level of
cash flows needed for continuing operations. We can give no assurance
that we will be able to raise such capital. We have limited financial
resources until such time that we are able to generate additional financing or
cash flow from operations. Our ability to establish profitability and
positive cash flow is dependent upon our ability both to raise
funds
to
finance our immediate cash requirements and to market our products in
anticipation of a recovery in China of those industries we serve, including the
CNG market. If we are unable to raise adequate capital to meet the
payment required to pay the remaining principal and interest on the notes and
cash flows needed for operations, it is likely we would have to substantially
curtail, if not terminate, our business activity.
Our
financial statements have been prepared on a going concern basis, which
contemplates the realization of assets and the satisfaction of liabilities in
the normal course of business. As reflected in our consolidated
financial statements we incurred substantial losses during the three months
ended December 31, 2009 and following our previously reported significant losses
for the year ended September 30, 2009, and we are continuing to incur
losses. We are also liable for substantial repayment of bank notes
and convertible senior notes and well as advance of $20.2 million from related
parties. These factors, among others, may indicate that we will be unable to
continue as a going concern for reasonable period of time.
The
financial statements do not include any adjustments relating to the
recoverability and classification of assets and liabilities that might be
necessary should the Company be unable to continue as a going
concern. Our continuation as a going concern is dependent upon our
ability to obtain additional operating capital, and ultimately, to attain
profitability. There is no assurance that we will be successful in raising
additional funds or that, if we do raise additional funds, that we will be able
to attain profitability or even continue in business.
For the
three months ended December 31, 2009, we used net cash of $720,000 in operating
activities. Working capital decreased by approximately $13.6 million from
September 30, 2009 to December 31, 2009 primarily as a result of funding net
losses and the $3.6 million derivative liability which did not exist at
September 30, 2009 as well as the advance from related parties and the purchase
of property, plant and equipment. The $3.6 million derivative
liability is a non-cash item resulting from the reclassification of our
convertible notes to reflect a derivative liability.
At
December 31, 2009, we were not in compliance with the financial covenants in the
indentures relating to our 3.0% senior convertible notes due 2012 in the
principal amount of $14 million. In October and December 2009, we entered into
two agreements that modified the terms of the notes, the cumulative effect of
which is as follows.
·
|
The
noteholders waived compliance with the covenants at September 30, 2009 and
through March 31, 2010.
|
·
|
We
repaid our 12% senior notes in the principal amount of $16 million prior
to December 31, 2009.
|
·
|
We
agreed to pay the convertible notes in the principal amount of $14 million
in two installments, with an initial payment of $5 million being due ten
days after the merger with Skywide becomes effective and the balance 30
days thereafter. Since the note holders would not be converting
the notes, we would pay interest to provide the note holders with a yield
to maturity of 13.8%, net of payments previously
made.
|
·
|
The
noteholders reduced our remaining obligation for liquidated damages for
failure to register the shares of common stock issuable upon conversion of
the convertible notes to $280,000, which is payable by December 31, 2009.
The payment was made on January 7,
2010.
|
·
|
The
provision that would have resulted in a further decrease in the conversion
price of the convertible notes if we did not meet certain levels of net
income was eliminated.
|
·
|
The
provisions of the indenture relating to the reduction in the conversion
price of the convertible notes if we issue stock at a price, or issue
convertible securities with a conversion or exercise price, that is less
than the conversion price (presently $4.20 per share) were
eliminated.
|
As a
result of these agreements, the $14 million convertible notes classified as
current liabilities at December 31, 2009.
For the
three months ended December 31, 2009, net cash used in operating activities was
$720,000, primarily related to a $1.3 million increase in accounts receivable, a
$5.7 million increase of other receivables, partially offset by a $1.3 million
decrease in advance from customers and $4.3 million decrease in other
payables.
We used
approximately $9.5 million in investing activities for the three months ended
December 31, 2009. This was due primarily to the expansion of our CNG
station operation segment, principally for purchase of property, plant and
equipment at $9.4 million.
Net cash
provided by financing activities was $8.1 million for the three months ended
December 31, 2009, primarily related to $3.2 million in new loans from domestic
banks in China, $20.2 million in the loan from related party, which were offset
by the repayment of $15.3 million in the 12% senior notes.
We will
continue to incur capital expenditures for the CNG station segment in the
future. It is necessary for us to plan, construct and equip each CNG station
before we can generate any revenue.
Our
agreement relating to the $14 million principal amount of convertible notes have
covenants which could impair our ability to raise additional funds. These
covenants include the following:
|
|
|
|
•
|
We
cannot incur any debt unless, after giving effect to the borrowing, (i)
the fixed charge coverage ratio would be greater than 3.5 to 1.0, and (ii)
the leverage ratio would not exceed 3.75 to 1.00, provided, that Sinogas
continue to maintain debt under credit facilities of not more than
$10,000,000, and may incur purchase money indebtedness. The fixed charge
coverage ratio is the ratio of our earnings before interest, taxes,
depreciation and amortization, which is generally known as EBITDA, to
consolidated interest expense, as defined. Leverage ratio means the ratio
of outstanding debt to EBITDA, with the interest component being the
consolidated interest expense, as defined. At December 31, 2009, our fixed
charge coverage ratio was negative 0.77 to 1.00, and our leverage ratio
was negative 13.32 to 1.00.
|
|
|
|
|
•
|
We
must maintain, as of the last day of each fiscal quarter, (i) a fixed
charge coverage ratio of at least 2.00 to 1.00 through December 31, 2009
and 3.0 to 1.00 thereafter, (ii) a leverage ratio of not more than 6.0 to
1.00 through December 31, 2009 and 4.5 to 1.00 thereafter, and (iii) a
consolidated subsidiary debt to consolidated net tangible asset ratio of
not more than 0.35 thereafter. The noteholders agreed that they would not
take any action to declare an event of default as long as the Company is
in compliance with the modified covenants. At December 31,
2009, our fixed charge coverage ratio was negative 0.77 to 1.00, our
leverage ratio was negative 13.32 to 1.00, and our consolidated subsidiary
debt to consolidated net tangible asset ratio was 0.33 to
1.00.
|
|
|
|
|
•
|
Sinogas
cannot incur debt under its credit facilities except to the extent that
such debt does not exceed $10.0 million.
|
|
|
|
|
•
|
We
are subject to restriction in paying dividends, purchasing its own
securities or those of our subsidiaries, prepaying subordinated debt, and
making any investment other any investments in itself and its subsidiaries
engaged in our business and certain other permitted
investments.
|
|
|
|
|
•
|
We
are subject to restrictions on incurring
liens.
|
As of
December 31, 2009, we were not in compliance with the financial covenants;
however, the note holders agreed to waive the covenants at September 30, 2009
and through March 31, 2010 as long as we comply with the covenants in the
December 17, 2009 agreement.
On
October 12, 2009, we entered into an agreement and plan of merger with Skywide,
which is owned by Mr. Deng, chairman and a director, and Mr. Huang, chief
executive officer and a director, pursuant to which, subject to shareholder
approval, we would be merged into Skywide and each share our common stock, other
than shares held by us, Skywide, Mr. Deng or Mr. Huang, would be converted into
the right to receive $1.90 per share.
For the
three months ended December 31, 2008, net cash provided by operating activities
was $0.3 million. The changes in working capital for the three months ended
December 31, 2008, were primarily related to a $5.3 million increase in accounts
receivable which resulted from the increase in our business and longer period
during which our accounts receivables (principally those generated by Sinogas)
are outstanding, a $363,000 decrease of accounts payable, a $314,000 decrease of
advance from customers and $642,000 decrease in other payables, partially offset
by a $3.2 million decrease of inventories because of the lower inventory as of
the calendar year end, and a $306,000 decrease in other receivables and
prepayments, and $1.2 million decrease of interest paid on our long-term
notes.
We used
approximately $6.8 million in investing activities for the three months ended
December 31, 2008. This was due primarily to the expansion of our CNG
station operation segment, principally for purchase of property, plant and
equipment of $4.9 million, and $1.4 million to invest in the unconsolidated
entities.
Net cash
provided by financing activities was $1.4 million for the three months ended
December 31, 2008, related to $1.4 million loans from domestic banks in
China.
Commitments
The
Company has the following material contractual obligations and capital
expenditure commitments:
Sinoenergy
Holding and Sinogas signed an agreement to set up Qingdao Sinoenergy Gas in
which Sinoenergy Holding would own 60% and Sinogas would own 40%. As
a result, Qingdao Sinoenergy Gas will be 90% owned by us. Sinoenergy
Holding’s commitment is $2,636,000, and Sinogas’ commitment is $1,757,000. As of
December 31, 2009, Sinogas had made its full contribution and the Company’s
commitment was $2,636,000.
Jixing
Lixun will contribute $58,574 to Yichang Liyuan Power Technology Company to own
40% equity. As of December 31, 2009, Jiaxing Lixun contributed $29,290, and the
Company’s commitment for future funding was $29,290.
Wuhan
Sinoenergy and Pingdingshan Sinoenergy, subsidiaries of the Company, have leased
13 parcels of land in Wuhan City and Pingdingshan City for their CNG stations
under operating lease agreements. The lease terms are from 7 year to 30 years
with annual rental fees of approximately $846,000. Based on land
rental agreements in effect at December 31, 2009, the Company will pay a total
of $5.73 million during through 2039.
Wuhan
Sinoenergy has two agreements to purchase land use rights in Wuhan City from
different non-affiliated parties. One agreement provides for a purchase price of
approximately $1.58 million, of which approximately $1.32 million has been paid,
and the title transfer is in the process. The second provides for a purchase
price of approximately $1.32 million, of which approximately $732,000 has been
paid. The acquisition of the land requires government approval.
Our
commitment for the construction of CNG stations, including stations being
constructed by Wuhan Sinoenergy and Hubei Gather, was $797,000 as of December
31, 2009.
Our
commitment for the construction of a new plant for Jiaxing Lixun was $624,000 as
of December 31, 2009.
Our
commitment for the purchase of property, plant and equipment, including property
for Wuhan Sinoenergy and Hubei Gather, was $5,794,000 as of December 31,
2009.
CRITICAL
ACCOUNTING POLICIES AND ESTIMATES
Our
discussion and analysis of our financial condition and results of operations is
based upon our consolidated financial statements, which have been prepared in
accordance with accounting principles generally accepted in the United
States.
Use of
Estimates.
In preparing financial statements in conformity
with accounting principles generally accepted in the United States of America,
we are required to make estimates, judgments and assumptions that affect the
reported amounts of assets, liabilities and the disclosure of contingent assets
and liabilities at the date of the financial statements and revenues and
expenses during the reported periods. Significant estimates include depreciation
and the allowance for doubtful accounts and other receivables, asset impairment,
valuation of warrants and options and inventory valuation, and the determination
of revenue and costs for under the percentage of completion method of revenue
recognition. We base our estimates on historical experience and on
various other assumptions that we believe are reasonable under the
circumstances, the results of which form the basis for making judgments about
the carrying values of assets and liabilities that are not readily apparent from
other sources. Actual results could differ from those estimates.
Revenue
Recognition
. We recognize revenue when the significant risks
and rewards of ownership have been transferred to the customer, including
factors such as when persuasive evidence of an arrangement exists, delivery has
occurred, the sales price is fixed or determinable, and collectability is
reasonably assured. We recognize product sales upon delivery. CNG
station construction and revenue related to building technical consulting
service is recognized on the percentage of completion basis. The percentage of
completion method recognizes income as work on a contract (or group of closely
related contracts) progresses. The recognition of revenues and profit
is generally related to costs incurred in providing the services required under
the contract. Revenue is presented net of any sales tax and VAT.
Stock-Based
Compensation
. We grant stock options and stock grants to employees and
stock options or warrants to non-employees in non-capital raising transactions
for services and for financing costs. Share-based payment is
recognized at fair value measured at the grant date. The fair value is
determined using the Black-Scholes option pricing model. The resulting amount is
charged to expense on the straight-line basis over the period we expect to
receive benefit, which is generally the vesting period. In some cases, Skywide,
our principal stockholder, which is owned by our chief executive officer and our
chairman, both of whom are directors, provided or agreed to provide stock to
executive officers in connection with their employment. These shares
are treated as if the shares were contributed to us by Skywide and issued by
us.
Foreign Currency
Translation
. Our functional currency is RMB, and our
reporting currency is United States dollars. Our balance sheet accounts are
translated using the closing exchange rate in effect at the balance sheet date
and operating accounts are translated using the average exchange rate prevailing
during the year. Equity accounts are translated using the historical rate
as incurred. Translation gains and losses are deferred and accumulated as a
component of accumulated other comprehensive income in stockholders’ equity.
Transaction gains and losses that arise from exchange rate fluctuations from
transactions denominated in a currency other than the functional currency are
included in the statements of operations as incurred.
Capitalization of
Interest
. We capitalize interest incurred in connection with
the construction of assets, principally our CNG stations, during the
construction period. Capitalized interest is recorded as an increase
to construction in progress and, upon completion of the construction, to
property.
NEW
ACCOUNTING PRONOUNCEMENTS
Effective
July 1, 2009, the FASB ASC became the single official source of
authoritative, nongovernmental U.S. GAAP. The historical U.S. GAAP hierarchy was
eliminated and the ASC became the only level of authoritative U.S. GAAP, other
than guidance issued by the SEC. The Company’s accounting policies were not
affected by the conversion to ASC. However, references to specific accounting
standards in the notes to our consolidated financial statements have been
changed to refer to the appropriate section of the ASC.
In
April 2008, the FASB issued a pronouncement on what now is codified as FASB
ASC Topic 350,
Intangibles —
Goodwill and Other
. This pronouncement amends the factors to be
considered in determining the useful life of intangible assets accounted for
pursuant to previous topic guidance. Its intent is to improve the consistency
between the useful life of an intangible asset and the period of expected cash
flows used to measure its fair value. This adoption of this pronouncement on
October 1, 2009 did not have a material effect on the Company’s
consolidated financial statements.
In June
2008, the FASB amended FASB Topic ASC 815, Sub-Topic 40, "Contracts in Entity’s
Own Equity” to clarify how to determine whether certain instruments or features
were indexed to an entity's own stock under ASC Topic 815. The amendment applies
to any freestanding financial instrument (or embedded feature) that has all of
the characteristics of a derivative, for purposes of determining whether that
instrument (or embedded feature) qualifies for the scope exception. It is also
applicable to any freestanding financial instrument (e.g., gross physically
settled warrants) that is potentially settled in an entity's own stock,
regardless of whether it has all of the characteristics of a derivative, for
purposes of determining whether to apply ASC 815. The
Company adoptrd this pronouncement on October 1, 2009. The
Company’s financial statements for the three months ended December 31, 2009 and
afterwards reflect the effect of this pronouncement.
In
April 2009, the FASB issued a pronouncement on what is now codified as FASB
ASC Topic 805
, Business
Combinations
. This pronouncement provides new guidance that changes the
accounting treatment of contingent assets and liabilities in business
combinations under previous topic guidance. This pronouncement will
be effective for the Company for any business combinations that occur on or
after October 1, 2009
In
April 2009, the FASB issued a pronouncement on what is now codified as FASB
ASC Topic 825,
Financial
Instruments
. This pronouncement amends previous topic guidance to require
disclosures about fair value of financial instruments for interim reporting
periods of publicly traded companies, as well as in annual financial statements.
The pronouncement was effective for interim reporting periods ending after
June 15, 2009 and its adoption did not have any significant effect on the
consolidated financial statements.
In
December 2007, the FASB issued pronouncements which are now codified as ASC 805
“
Business Combinations
”
and 810 “
Consolidation
”
(“ASC 810”), which require that ownership interests in subsidiaries held by
parties other than the parent, and the amount of consolidated net income, be
clearly identified, labeled and presented in the consolidated financial
statements. ASC 805 and ASC 810 also require that once a
subsidiary is deconsolidated, any retained non-controlling equity investment in
the former subsidiary be initially measured at fair value. Sufficient
disclosures are required to clearly identify and distinguish between the
interests of the parent and the interests of the non-controlling
owners. ASC 805 and ASC 810 amend ASC 260 to provide that the
calculation of earnings per share amounts in the consolidated financial
statements will continue to be based on the amounts attributable to the parent.
ASC 805 and ASC 810 are effective for financial statements issued for fiscal
years, and interim periods within those fiscal years, beginning on or after
December 15, 2008, and require retrospective adoption of the presentation and
disclosure requirements for existing minority interests. All other
requirements are applied prospectively. The Company adopted ASC 805
and ASC 810 on January 1, 2009.
In
May 2009, the FASB issued a pronouncement on what is now codified as FASB
ASC Topic 855,
Subsequent
Events
. This pronouncement establishes general standards of accounting
for and disclosure of events that occur after the balance sheet date but before
the financial statements are issued or are available to be issued. FASB ASC
Topic 855 provides guidance on the period after the balance sheet date during
which management of a reporting entity should evaluate events or transactions
that may occur for potential recognition or disclosure in the financial
statements, the circumstances under which an entity should recognize events or
transactions occurring after the balance sheet date in its financial statements
and the disclosures that an entity should make about events or transactions that
occurred after the balance sheet date. The pronouncement was effective for the
Company during the annual period ended September 30, 2009. The Company has
evaluated subsequent events for the period from September 30, 2009, the
date of these financial statements, through February 10, 2010, which represents
the date these financial statements are available for filing with the
SEC.
In June
2009, the FASB issued ASC Topic 810-10, "
Amendments to FASB Interpretation
No. 46(R)
" (“ASC 810-10”). ASC 810-10 is intended to (1)
address the effects on certain provisions of FASB Interpretation No. 46 (revised
December 2003), “Consolidation of Variable Interest Entities,” as a result of
the elimination of the qualifying special-purpose entity concept in ASC 860-20,
and (2) constituent concerns about the application of certain key provisions of
Interpretation 46(R), including those in which the accounting and disclosures
under the Interpretation do not always provided timely and useful information
about an enterprise's involvement in a variable interest entity. This
statement will be effective for the Company on October 1, 2010. The
Company does not expect the adoption of 810-10 to have a material impact on its
results of operations, financial condition or cash flows.
Other
recent accounting pronouncements issued by the FASB (including its Emerging
Issues Task Force), and the United States Securities and Exchange Commission did
not or are not believed to have a material impact on the Company's present or
future consolidated financial statements.
Item
4. Controls and Procedures
Disclosure
Controls and Procedures
Under the
supervision and with the participation of management, our chief executive
officer and chief financial officer have carried out an evaluation of the
effectiveness of our disclosure controls and procedures, as such term is defined
under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as
amended.
Disclosure
controls and procedures refer to controls and other procedures designed to
ensure that information required to be disclosed in the reports we file or
submit under the Securities Exchange Act is recorded, processed, summarized and
reported within the time periods specified in the rules and forms of the SEC and
that such information is accumulated and communicated to our management,
including our chief executive officer and chief financial officer, as
appropriate, to allow timely decisions regarding required disclosure. In
designing and evaluating our disclosure controls and procedures, management
recognizes that any controls and procedures, no matter how well designed and
operated, can provide only reasonable, not absolute, assurance of achieving the
desired control objectives, and management is required to apply its judgment in
evaluating and implementing possible controls and procedures. It is our
management’s responsibility to establish and maintain adequate internal controls
over financial reporting. Because of the inherent limitations in all control
systems, no evaluation of controls can provide absolute assurance that all
control issues and instances of fraud, if any, within the Company have been
detected.
Management
conducted its evaluation of disclosure controls and procedures under the
supervision of our chief executive officer and our chief financial officer.
Based on that evaluation, our management, including our chief executive and
chief financial officers, concluded that because of the significant deficiencies
in internal control over financial reporting described below, our disclosure
controls and procedures were not effective as of December 31, 2009.
Based
upon that evaluation, our chief executive officer and chief financial officer
concluded that there were material weaknesses in our internal controls over
financial reporting as of the end of the period covered by this
report. In making this assessment, our management used the criteria
set forth by the Committee of Sponsoring Organizations (“COSO”) of the Treadway
Commission in Internal Control — Integrated Framework. Our management concluded
that, as of September 30, 2009, our internal control over financial reporting
was not effective based on these criteria. Our chief executive
officer and chief financial officer identified weaknesses related to our
accounting personnel’s ability to identify various accounting and disclosure
issues, account for transactions that include an equity-based component, and
prepare financial statements and footnotes in accordance with U.S.
GAAP. Until June 2006, we were a privately-owned company engaged with
all of our assets and operations located in China, and our financial statements
were prepared in accordance with PRC GAAP. Since we became a
publicly-traded company, we have significantly expanded the scope of our
business, so that we presently have four business segments. We have
also engaged in two financings, entered into joint ventures, acquired and
disposed of companies and assets, and granted equity-based
incentives. All of these events presented complex accounting issues
which were new to our financial staff. Furthermore, we do not have a
large accounting department and it has been difficult for us to hire qualified
personnel who understand English and Chinese and are familiar with both U.S.
GAAP and PRC GAAP. We are addressing these issues by reviewing and
revising our internal accounting policies and procedures, expanding the
resources allocated to our accounting department, and hiring outside accounting
advisors. We expect resolution of these matters may take several
months. Accordingly, based on the foregoing, the certifying officers
have concluded that our disclosure controls and procedures are not effective at
this time.
The
conclusion of chief executive officer and chief financial officer regarding our
disclosure controls and procedures is based solely on management’s conclusion
that our internal control over financial reporting was not
effective.
Our
material weaknesses related to:
|
•
|
an
insufficient complement of personnel in our corporate accounting and
financial reporting function with an appropriate level of technical
accounting knowledge, experience, and training in the application of US
GAAP commensurate with our complex financial accounting and reporting
requirements and materiality thresholds.
|
|
•
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Lack
of internal audit function - the monitoring function of internal control
is not well performed due to insufficient resources. In addition, the
scope and effectiveness of internal audit function have yet to be
developed.
|
|
|
|
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•
|
Insufficient
or lack of written policies and procedures relating to periodic review of
current policies and procedures and their
implementation.
|
Remediation
and Changes in Internal Control over Financial Reporting
The
Company has discussed the material weaknesses in its internal control over
financial reporting with the audit committee of the board of directors and is in
the process of developing and implementing remediation plans to address the
material weaknesses. During the fiscal year ended September 30, 2009, management
conducted a program to plan the remediation of all identified deficiencies using
a risk-based approach based on the “Internal Control — Integrated
Framework” issued by COSO. These plans contemplate various changes in process,
procedures, policy, training and organizational design, and are currently being
implemented. In addition, the Company intends to hire and/or appoint new
managers in the accounting area and/or engage accounting professionals from
external resources to address internal control weaknesses related to technical
accounting.
The
following specific remedial actions are currently in process, to address the
material weaknesses in our internal control over financial reporting described
above:
|
•
|
Reorganize
and restructure our corporate accounting staff by:
|
|
|
|
|
|
|
•
|
revising
the reporting structure and establishing clear roles, responsibilities,
and accountability;
|
|
|
|
|
|
|
•
|
hiring
additional technical accounting personnel to address our complex
accounting and financial reporting requirements;
|
|
|
|
|
|
|
•
|
assessing
the technical accounting capabilities at our subsidiaries to ensure the
right complement of knowledge, skills, and training;
and
|
|
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|
|
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•
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establishing
internal audit functions,
|
|
|
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|
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•
|
Improve
period-end closing procedures by:
|
|
|
|
|
|
|
•
|
ensuring
that account reconciliations and analyses for significant financial
statement accounts are reviewed for completeness and accuracy by qualified
accounting personnel;
|
|
|
|
|
|
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•
|
implementing
a process that ensures the timely review and approval of complex
accounting estimates by qualified accounting personnel and subject matter
experts, where appropriate;
|
|
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|
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•
|
developing
better monitoring controls for corporate accounting and at our
subsidiaries,
|
|
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•
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documenting
and implementing antifraud programs and controls as well as comprehensive
risk assessment of procedures, programs and controls,
and
|
|
|
|
|
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•
|
making
efforts to develop written policies and procedures, but the progress has
been slowed due to limited resources and personnel
changes.
|
During
2009, we hired an internal audit manager and, we will increase our efforts to
hire qualified personnel. We anticipate that we will be able to
complete the remediation before September 30, 2010.
Other
than as described above, management does not believe that there have been any
other changes in our internal control over financial reporting, which have
materially affected, or are reasonably likely to materially affect, our internal
control over financial reporting.
PART
II. OTHER INFORMATION
Item
1. Legal Proceedings
We are a
defendant in a class action commenced on October 16, 2009 in the Supreme Court
of the State of New York, Nassau County, by alleged class representative
plaintiffs Stephen Trecaso and Linda Watts against us and our directors which
alleges a claim for breach of fiduciary duty, and which makes a demand for
injunctive relief or alternatively, damages arising out of the merger
agreement. The complaint generally, alleges that we and the board of
directors engaged in a defective sales process which will permit Skywide to buy
the company for an unfair price. We believe that this action is
without merit, that we have valid defenses to, and we will vigorously defend,
the action. As of February 1, 2010, none of our directors has been
served with process in this action, except Robert I. Adler. We and
Mr. Adler have made motions to dismiss this lawsuit on various grounds which
include the court’s lack of jurisdiction over the Company and the plaintiffs’
failure to join necessary parties as defendants.
We are a
defendant in four other class actions that have been filed against us, our
directors and Skywide in the Eighth Judicial District Court of the State of
Nevada in and for Clark County which allege a claim for breach of fiduciary duty
and which also make a demand for injunctive relief for a meaningful auction with
third parties or alternatively, damages arising out of the merger
agreement. Skywide has also been named in these
complaints. The alleged class representative plaintiffs in each of
those four actions and the respective dates of commencement of those actions are
(i) Johan L. Stoltz – October 26, 2009, (ii) Robert E. Guzman – October 27,
2009, (iii) Carol Karch – October 27, 2009 and (iv) Robert Grabowski – November
2, 2009. As of February 1, 2010, we and directors Robert I. Adler and
Greg Marcinkowski have been served in the four actions. The
complaints generally allege that we and the board of directors engaged in a
defective sales process which will permit Skywide to buy us for an unfair price
and permitted Skywide disclosure of material inside information. We
have removed each of those four actions to the United States District Court for
the District of Nevada. Plaintiffs in those actions have filed
motions seeking to remand the actions back to the Nevada State
Courts. The time within which we and Messrs. Adler and Marcinkowski
must appear, answer or otherwise move with respect to the complaints in those
actions has been extended to February 16, 2010. We believe that these actions
are without merit, that we have valid defenses to the actions and we will
vigorously defend these actions.
Item
2. Submission of Matters to a Vote of Security Holders.
On
January 19, 2010, we held our 2010 annual meeting of
shareholders. The only item on the agenda was the election of
directors. All of the incumbent directors were
reelected. The following table sets forth the number of shares voted
in favor of each of the directors.
Name
|
No. of Shares
|
Bo
Huang
|
8,492,938
|
Tianzhou
Deng
|
7,600,508
|
Robert
I. Adler
|
7,414,051
|
Renjie
Lu
|
7,414,051
|
Greg
Marcinkowski
|
7,414,051
|
Baoheng
Shi
|
7,414,051
|
Xiang
Dong (Donald) Yang
|
8,494,938
|
Item
3. Other Information
In
October 2009, Beijing Shanglira Capital Co., Ltd., a company controlled by Bo
Huang and Tianzhou Deng advanced us $17,208,000, and in December 2009, Skywide
advanced us $3,000,000. The loans are unsecured and are payable on
demand. The proceeds of the loans were used primarily to reimburse us
for paying the Abax/CCIF senior debt in the quarter ended December 31,
2009.
Item 6.
Exhibits
31.1
|
Certification
of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley
Act
|
31.2
|
Certification
of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley
Act
|
32.1
|
Certification
of Chief Executive and Financial Officer pursuant to Section 906 of the
Sarbanes-Oxley Act
|
SIGNATURES
In
accordance with the requirements of the Exchange Act, the registrant caused this
report to be signed on its behalf by the undersigned, thereunto duly
authorized.
|
SINOENERGY
CORPORATION.
|
|
(Registrant)
|
|
|
Dated:
February 12, 2010
|
s/
Bo Huang
|
|
Bo
Huang, Chief Executive Officer
|
|
|
|
s/
ShiaoMing Sheng
|
Dated:
February 12, 2010
|
Chief
Financial Officer
|
38
Sinoenergy New Com (MM) (NASDAQ:SNEN)
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