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SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
(X) QUARTERLY REPORT PURSUANT SECTION 13 OF 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2003.
( ) TRANSITION REPORT PURSUANT SECTION 13 OF 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
-------- --------
Commission file number 0-26573
PHYSICAL SPA & FITNESS INC.
(Exact name of small business as specified in its charter)
Delaware 98-0203281
-------------------------------- ------------------
(State or other jurisdiction (IRS Employer
of incorporation or organization) Identification No.)
40/F NatWest Tower, Times Square
No. 1 Matheson Street, Causeway Bay
Hong Kong
(Address of principal executive offices)
(011) (852) 2917-0000
(Issuer's telephone number)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Securities 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 [ ]
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date: June 30, 2003, 10,000,000 shares.
Transitional Small Business Disclosure Format (check one) :
Yes [ ] No [X]
TABLE OF CONTENTS
PART I - FINANCIAL INFORMATION PAGE
----
ITEM 1 - FINANCIAL STATEMENTS
Condensed Consolidated Statements of Operations 1
for the three-month and six-month period
ended June 30, 2003 and 2002 (Unaudited)
Condensed Consolidated Balance Sheets at June 30, 2003 2
(Unaudited)and December 31, 2002
Condensed Consolidated Statements of Cash Flows 3
for the six-month periods ended
June 30, 2003 and 2002 (Unaudited)
Notes to Financial Statements 4
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF 8
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
ITEM 3 - CONTROLS AND PROCEDURES 13
PART II - OTHER INFORMATION
ITEM 1 - LEGAL PROCEEDINGS 14
ITEM 2 - CHANGE IN SECURITIES 14
ITEM 3 - DEFAULTS UPON SENIOR SECURITIES 14
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE 14
OF SECURITY HOLDERS
ITEM 5 - OTHER INFORMATION 14
ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K 14
PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
--------------------------------------------
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
-----------------------------------------------
(In thousands, except share and per share data)
Three months ended June 30 Six months ended June 30
2002 2003 2003 2002 2003 2003
--------- --------- --------- --------- --------- ---------
HK$ HK$ US$ HK$ HK$ US$
Operating Revenues
Fitness service 66,718 63,205 8,103 134,186 126,098 16,166
Beauty treatments 35,087 39,065 5,009 63,506 81,937 10,505
Others -- 193 25 -- 193 25
--------- --------- --------- --------- --------- ---------
Total operating revenues 101,805 102,463 13,137 197,692 208,228 26,696
--------- --------- --------- --------- --------- ---------
Operating Expenses
Salaries and commissions (34,082) (37,547) (4,814) (64,295) (75,844) (9,724)
Rent and related expenses (32,979) (40,215) (5,156) (62,445) (75,158) (9,636)
Depreciation (18,770) (15,799) (2,025) (34,376) (31,809) (4,078)
Other selling and administrative expenses (25,481) (26,590) (3,409) (48,665) (50,789) (6,511)
--------- --------- --------- --------- --------- ---------
Total operating expenses (111,312) (120,151) (15,404) (209,781) (233,600) (29,949)
--------- --------- --------- --------- --------- ---------
Loss from operations (9,507) (17,688) (2,267) (12,089) (25,372) (3,253)
--------- --------- --------- --------- --------- ---------
Non-operating income expenses
Other income, net 84 150 19 197 228 29
Interest expenses (1,174) (1,559) (200) (1,957) (3,129) (401)
--------- --------- --------- --------- --------- ---------
Total non-operating expenses (1,090) (1,409) (181) (1,760) (2,901) (372)
--------- --------- --------- --------- --------- ---------
Loss before income taxes and minority
interests and cumulative effect of
a change in an accounting principle (10,597) (19,097) (2,448) (13,849) (28,273) (3,625)
Provision for income taxes 186 210 27 (88) (252) (32)
--------- --------- --------- --------- --------- ---------
Loss before minority interests and
cumulative effect of a change
in an accounting principle (10,411) (18,887) (2,421) (13,937) (28,525) (3,657)
Minority interests 71 257 32 10 233 29
--------- --------- --------- --------- --------- ---------
Loss before cumulative effect of
a change in an accounting principle (10,340) (18,630) (2,389) (13,927) (28,292) (3,628)
Cumulative effect on prior years (to December
31, 2001) of deferral of sales rebates, net
of income taxes and minority interests -- -- -- 3,857 -- --
--------- --------- --------- --------- --------- ---------
Net loss (10,340) (18,630) (2,389) (10,070) (28,292) (3,628)
Other comprehensive loss
- - Foreign currency translation adjustments -- (1) -- (11) -- --
--------- --------- --------- --------- --------- ---------
Comprehensive loss (10,340) (18,631) (2,389) (10,081) (28,292) (3,628)
========= ========= ========= ========= ========= =========
Loss per share before cumulative effect
of a change in an accounting principle (1.03) (1.86) (0.24) (1.39) (2.83) (0.36)
Cumulative effect on prior years (to December
31, 2001) of deferral of sales rebates -- -- -- 0.39 -- --
--------- --------- --------- --------- --------- ---------
Loss per common share (1.03) (1.86) (0.24) (1.00) (2.83) (0.36)
========= ========= ========= ========= ========= =========
Number of shares of common stock outstanding
(in thousands) 10,000 10,000 10,000 10,000 10,000 10,000
========= ========= ========= ========= ========= =========
Translation of amounts from Hong Kong Dollars ("HK$") into United States Dollars
("US$") for the convenience of the reader has been made at the exchange rate of
US$1.00 = HK$7.8. No representation is made that the Hong Kong Dollar amounts
could have been, or could be, converted into United States Dollars, at that rate
on June 30, 2003 or at any other certain rate.
-1-
PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
--------------------------------------------
AUDITED CONDENSED CONSOLIDATED BALANCE SHEET
-----------------------------------
AS OF DECEMBER 31, 2002
AND
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEET
------------------------------------
AS OF JUNE 30, 2003
(In thousands, except share and per share data)
As of
-------------------------------------------------------
December 31, 2002 June 30, 2003
HK$ HK$ US$
ASSETS
Current assets
Cash and cash equivalents 1,336 2,220 285
Trade receivables 5,672 13,951 1,789
Other receivables 6,326 6,326 811
Rental and utility deposits 30,924 30,923 3,964
Prepayments to vendors and suppliers and other current assets 5,112 7,224 926
Inventories 3,113 3,112 399
Income taxes recoverable - 2,277 292
Held-to-maturity securities, collateralized 3,114 - -
----------------- ----------------- -----------------
Total current assets 55,597 66,033 8,466
----------------- ----------------- -----------------
Marketable securities, collateralized 1,540 3,290 422
Bank deposits, collateralized 13,340 15,464 1,982
Due from a stockholder 10,955 7,170 919
Prepayments for construction-in-progress 1,690 2,070 265
Property, plant and equipment, net 241,768 221,571 28,407
----------------- ----------------- -----------------
Total assets 324,890 315,598 40,461
================= ================= =================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Due to a related company 3,515 1,143 147
Short-term bank loans 12,634 9,194 1,179
Long-term bank loans - current portion 18,255 17,987 2,306
Accounts payable and accrued expenses 73,246 82,329 10,555
Obligations under finance leases - current portion 9,358 9,024 1,157
Deferred income - current portion 76,828 94,179 12,074
Deferred liabilities - current portion 5,616 9,189 1,178
Income taxes payable 3,764 862 111
Taxes other than income 6,023 6,225 798
----------------- ----------------- -----------------
Total current liabilities 209,239 230,132 29,505
----------------- ----------------- -----------------
Deferred income - non-current portion 6,315 7,716 989
Deferred liabilities - non-current portion 7,173 7,835 1,004
Long-term bank loans - non-current portion 3,997 2,830 363
Obligations under finance leases - non-current portion 5,032 2,320 297
Deferred taxation 4,593 4,593 589
Minority interests 7,285 7,208 924
Commitments and contingencies
Stockholders' equity:
Common stock, par value US$0.001 each,
100 million shares of stock authorized;
10 million shares of stock issued and outstanding 78 78 10
Accumulated other comprehensive income 161 161 21
Retained earnings 81,017 52,725 6,759
----------------- ----------------- -----------------
Total stockholders' equity 81,256 52,964 6,790
----------------- ----------------- -----------------
Total liabilities and stockholders' equity 324,890 315,598 40,461
================= ================= =================
Translation of amounts from Hong Kong Dollars ("HK$") into United States Dollars
("US$") for the convenience of the reader has been made at the exchange rate of
US$1.00 = HK$7.8. No representation is made that the Hong Kong Dollar amounts
could have been, or could be, converted into United States Dollars, at that rate
on June 30, 2003 or at any other certain rate.
-2-
PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
--------------------------------------------
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
-----------------------------------------------
FOR THE SIX MONTHS FROM JANUARY 1, 2002 TO JUNE 30, 2002
AND JANUARY 1, 2003 TO JUNE 30, 2003
(in thousands)
Six Months Ended June 30
------------------------------
2002 2003 2003
-------- -------- --------
HK$ HK$ US$
Cash flows from operating activities:
Net loss (10,070) (28,292) (3,628)
Adjustments to reconcile net income (loss) to net cash provided
by operating activities:
Minority interests 116 (233) (29)
Depreciation 34,376 31,809 4,078
Loss(Gain)on disposal of property, plant and equipment 244 (56) (7)
Changes in working capital:
Trade receivables 2,086 (8,122) (1,041)
Rental and utility deposits (3,304) 1 --
Prepayments to vendors and suppliers and other current assets (884) (2,112) (271)
Accounts payable and accrued expenses 39,189 9,083 1,164
Deferred income (2,730) 18,752 2,404
Deferred liabilities 3,417 4,235 543
Income taxes payable/recoverable (638) (5,179) (664)
Taxes other than income 20 202 26
-------- -------- --------
Net cash provided by operating activities 61,822 20,088 2,575
-------- -------- --------
Cash flows from investing activities:
Prepayments for construction-in-progress 5,314 (380) (49)
Acquisition of property, plant and equipment (87,385) (11,589) (1,485)
Acquisition of marketable securities -- (1,750) (224)
Proceeds from disposal of held-to-maturity securities -- 3,114 399
Due from related companies (3,756) (2,372) (304)
(Advances to) Repayment from a stockholder (244) 3,785 485
Sales proceeds from disposal of property, plant and equipment 403 33 4
-------- -------- --------
Net cash used in investing activities (85,668) (9,159) (1,174)
-------- -------- --------
Cash flows from financing activities:
Increase in bank deposits (3,315) (2,124) (272)
Proceeds from (Settlement of) short-term bank loans 8,924 (3,440) (441)
Proceeds from long-term bank loans 20,530 7,338 941
Repayment of long-term bank loans (9,507) (8,773) (1,125)
Assumption of finance lease obligations 7,982 1,800 231
Capital element of finance lease rental payments (3,853) (4,846) (621)
-------- -------- --------
Net cash provided by (used in) financing activities 20,761 (10,045) (1,287)
-------- -------- --------
Net (decrease)increase in cash and cash equivalents (3,085) 884 114
Cash and cash equivalents at beginning of period 4,787 1,336 171
Accumulated other comprehensive income (11) -- --
-------- -------- --------
Cash and cash equivalents at end of period 1,691 2,220 285
======== ======== ========
Translation of amounts from Hong Kong Dollars ("HK$") into United States Dollars
("US$") for the convenience of the reader has been made at the exchange rate of
US$1.00 = HK$7.8. No representation is made that the Hong Kong Dollar amounts
could have been, or could be, converted into United States Dollars, at that rate
on June 30, 2003 or at any other certain rate.
-3-
PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
--------------------------------------------
NOTES TO FINANCIAL STATEMENTS
-----------------------------------------------------
(Amounts in thousands, except share and per share data)
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements include
the accounts of Physical Spa & Fitness Inc. ("the Company") and the
subsidiaries (collectively referred to as the "Group")that it controls.
The Company, through its subsidiaries, operates fitness and spa/beauty
centers in Hong Kong and China. Unless otherwise specified in the text,
references to the Company include the Company and its subsidiaries.
These financial statements should be read in conjunction with the
consolidated financial statements included in the Company's Annual
Report on Form 10-K for the year ended December 31, 2002.
The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles
for interim financial information and with the instructions to Form
10-Q and Article 10 of Regulation S-X. Accordingly, they do not include
all of the information and footnotes required by generally accepted
accounting principles for complete financial statements. In the opinion
of management, all adjustments (consisting of normal recurring
accruals) considered necessary for a fair presentation have been
included. Operating results for the six-month period ended June 30,
2003 are not necessarily indicative of the results that may be expected
for the year ending December 31, 2003.
The balance sheet at December 31, 2002 has been derived from the
audited financial statements at that date but does not include all of
the information and footnotes required by generally accepted accounting
principles for complete financial statements.
2. PREPARATION OF FINANCIAL STATEMENTS
The Group has a negative working capital of HK$153,642 and HK$164,099
as of December 31, 2002 and June 30, 2003. Besides, the Group has net
loss before cumulative effect of a change in accounting principle of
HK$28,292 and HK$13,927 for the six-month periods ended June 30, 2003
and 2002. These conditions raise substantial doubt about the Group's
ability to continue as a going concern.
Continuation of the Group as a going concern is dependent upon
obtaining additional working capital, attaining profitable operations
and exercising tight cost and cash flow controls measures in the
future. The Principal Stockholder has undertaken to make available
adequate funds to the Group as and when required to maintain the Group
as a going concern. In this connection, the Company has worked out a
funding schedule with the Principal Stockholder whereby he agrees to
inject funds of not less than HK$500,000 (US$64,000) each time and
realize his net worth assets to support the Company as and when
required. As a result, the financial statements have been prepared in
conformity with the principles applicable to a going concern.
3. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
Since January 1, 2003, the Group has adopted Statement of Financial
Accounting Standards ("SFAS") No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities", which addresses financial accounting
and reporting for costs associated with exit or disposal activities.
SFAS No. 146 requires that a liability for a cost associated with an
exit or disposal activity be recognized when the liability is incurred.
The adoption of SFAS 146 did not have a material impact on the Group's
operating results or financial position.
-4-
PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
--------------------------------------------
NOTES TO FINANCIAL STATEMENTS
-----------------------------------------------------
(Amounts in thousands, except share and per share data)
3. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS (CONTINUED)
In January 2003, the FASB issued FASB Interpretation No. 46,
"Consolidation of Variable Interest Entities" ("FIN No. 46"). FIN No.
46 applies to variable interest entities created after January 31, 2003
and to variable interest entities in which an enterprise obtains an
interest after that date. It applies in the first fiscal year or
interim period beginning after June 15, 2003, to variable interest
entities in which an enterprise holds an interest that it acquired
before February 1, 2003. The Group is currently assessing the impact of
adoption of FIN No. 46 on its consolidated financial statements.
In April 2003, the FASB issued SFAS No. 149 Amendment of Statement 133
on Derivative Instruments and Hedging Activities. The SFAS No. 149
amends and clarifies financial accounting and reporting for derivative
instruments, including certain derivative instruments embedded in other
contracts (collectively referred to as derivatives) and for hedging
activities under SFAS No. 133, Accounting for Derivative Instruments
and Hedging Activities. Subject to certain exception, this Statement is
effective for contracts entered into or modified after June 30, 2003
and for hedging relationships designated after June 30, 2003 and all
provisions of this Statement should be applied prospectively. The Group
had no derivative instruments outstanding. The management does not
expect the adoption of SFAS No. 149 will have a material impact on the
Group's consolidated financial statements.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and
Equity". The SFAS No.150 improves the accounting for certain financial
instruments that, under previous guidance, issuers could account for as
equity and requires that those instruments be classified as liabilities
in statements of financial position. In addition to its requirements
for the classification and measurement of financial instruments in its
scope, SFAS No. 150 also requires disclosures about alternative ways of
settling the instruments and the capital structure of entities, all of
whose shares are mandatorily redeemable. Most of the guidance in SFAS
No. 150 is effective for all financial instruments entered into or
modified after May 31, 2003, and otherwise is effective at the
beginning of the first interim period beginning after June 15, 2003.
The Group is currently assessing the impact of adoption of SFAS No. 150
on its consolidated financial statements.
-5-
PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
--------------------------------------------
NOTES TO FINANCIAL STATEMENTS
-----------------------------------------------------
(Amounts in thousands, except share and per share data)
4. REPORT ON SEGMENT INFORMATION
The Group's operations are mainly classified into two reportable
business segments: provision of physical fitness and beauty treatment
services. Each separately managed segment offers different products
requiring different marketing and distribution strategies.
Information concerning consolidated operations by business segment and
geographic area is presented in the tables below and on the following
pages:
CONSOLIDATED OPERATIONS BY BUSINESS SEGMENT
THREE MONTHS ENDED JUNE 30 SIX MONTHS ENDED JUNE 30
--------------------------------- ---------------------------------
2002 2003 2003 2002 2003 2003
--------- --------- --------- --------- --------- ---------
HK$ HK$ US$ HK$ HK$ US$
Operating revenues
- Physical fitness 66,718 63,205 8,103 134,186 126,098 16,166
- Beauty treatments 35,087 39,065 5,009 63,506 81,937 10,505
- Others -- 193 25 -- 193 25
--------- --------- --------- --------- --------- ---------
101,805 102,463 13,137 197,692 208,228 26,696
========= ========= ========= ========= ========= =========
Operating (loss) profit
- Physical fitness (8,996) (13,253) (1,699) (4,724) (22,524) (2,888)
- Beauty treatments (1,344) (5,570) (715) (5,346) (5,961) (765)
- Others -- 193 25 -- 193 25
--------- --------- --------- --------- --------- ---------
(10,340) (18,630) (2,389) (10,070) (28,292) (3,628)
Cumulative effect of a change
in accounting principle
included in segment
(loss) profit above -- -- -- (3,857) -- --
Income taxes included in
segment (loss) profit above (186) (210) (27) 88 252 32
Minority interests included
in segment (loss) profit above (71) (257) (32) (10) (233) (29)
--------- --------- --------- --------- --------- ---------
Consolidated loss before income
taxes and minority interests and
the cumulative effect of a change
in accounting principle (10,597) (19,097) (2,448) (13,849) (28,273) (3,625)
========= ========= ========= ========= ========= =========
Depreciation
- Physical fitness 13,571 11,674 1,497 25,820 23,607 3,027
- Beauty treatments 5,199 4,125 528 8,556 8,202 1,051
--------- --------- --------- --------- --------- ---------
18,770 15,799 2,025 34,376 31,809 4,078
========= ========= ========= ========= ========= =========
Property, plant and equipment additions
- Physical fitness 41,564 5,447 698 53,196 7,083 907
- Beauty treatments 32,114 2,525 324 34,189 4,506 578
--------- --------- --------- --------- --------- ---------
73,678 7,972 1,022 87,385 11,589 1,485
========= ========= ========= ========= ========= =========
AS OF DECEMBER 31,2002 AS OF JUNE 30, 2003
---------------------- -------------------
HK$ HK$ US$
Total assets
- Physical fitness 259,912 233,543 29,941
- Beauty treatments 64,978 82,055 10,520
--------- --------- ---------
324,890 315,598 40,461
========= ========= =========
-6-
PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
--------------------------------------------
NOTES TO FINANCIAL STATEMENTS
-----------------------------------------------------
(Amounts in thousands, except share and per share data)
4. REPORT ON SEGMENT INFORMATION (CONTINUED)
CONSOLIDATED OPERATIONS BY GEOGRAPHIC AREA
THREE MONTHS ENDED JUNE 30 SIX MONTHS ENDED JUNE 30
--------------------------------- ---------------------------------
2002 2003 2003 2002 2003 2003
--------- --------- --------- --------- --------- ---------
HK$ HK$ US$ HK$ HK$ US$
Operating revenues
- Hong Kong 92,286 90,122 11,554 179,234 182,810 23,437
- PRC 9,519 12,341 1,583 18,458 25,418 3,259
--------- --------- --------- --------- --------- ---------
101,805 102,463 13,137 197,692 208,228 26,696
========= ========= ========= ========= ========= =========
Operating loss
- Hong Kong (6,618) (14,450) (1,853) (7,011) (20,418) (2,618)
- PRC (2,563) (2,663) (341) (4,998) (4,801) (616)
--------- --------- --------- --------- --------- ---------
Segment loss (9,181) (17,113) (2,194) (12,009) (25,219) (3,234)
Interest income not included
in segment loss above 15 42 5 39 56 7
Interest expenses not included
in segment loss above (1,174) (1,559) (200) (1,957) (3,129) (401)
Income taxes included in
in segment loss above (186) (210) (27) 88 252 32
Minority interests included
in segment loss above (71) (257) (32) (10) (233) (29)
--------- --------- --------- --------- --------- ---------
Consolidated loss before
income taxes and minority
interests and the cumulative
effect of a change in
accounting principle (10,597) (19,097) (2,448) (13,849) (28,273) (3,625)
========= ========= ========= ========= ========= =========
AS OF DECEMBER 31,2002 AS OF JUNE 30, 2003
---------------------- -------------------
HK$ HK$ US$
Segment assets
- Hong Kong 247,305 242,463 31,085
- PRC 77,585 73,135 9,376
--------- --------- ---------
324,890 315,598 40,461
========= ========= =========
5. LONG-TERM BANK LOANS
The Group did not obtain any new bank loans during the three-month
period ended June 30, 2003 and had obtained additional bank loans of
HK$7,338 during the six-month period ended June 30, 2003 from
creditworthy commercial banks in Hong Kong to finance its operations.
These loans are collateralized by the Group's marketable securities,
fixed deposits and personal guarantee from its stockholder.
During the six-month period ended June 30, 2003, the Group repaid
HK$8,773 of its outstanding bank loans. The outstanding loan balances
as of June 30, 2003 were analyzed as follows:
Principal Interest rate Repayable during the
HK$ following periods
4,700 5.57% Within one year
1,833 3.66% Serially from 2003 to 2004
2,435 HK$ prime + 0.25% Serially from 2003 to 2004
1,288 HK$ prime + 3% Serially from 2003 to 2004
4,022 HK$ prime + 1.5% Serially from 2003 to 2005
5,029 6.65% Serially from 2003 to 2004
1,510 HK$ prime + 1.5% Serially from 2003 to 2007
------
20,817
======
Aggregate maturities of the long-term bank loans are as follows:
Principal Payables during the following periods
HK$
17,987 July 2003 to June 2004
2,040 July 2004 to June 2005
360 July 2005 to June 2006
360 July 2006 to June 2007
70 July 2007 to June 2008
------
20,817
======
-7-
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
PRELIMINARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
ALL FORWARD-LOOKING STATEMENTS CONTAINED HEREIN ARE DEEMED BY THE COMPANY TO BE
COVERED BY AND TO QUALIFY FOR THE SAFE HARBOR PROTECTION PROVIDED BY THE PRIVATE
SECURITIES LITIGATION REFORM ACT OF 1995. PROSPECTIVE SHAREHOLDERS SHOULD
UNDERSTAND THAT SEVERAL FACTORS GOVERN WHETHER ANY FORWARD - LOOKING STATEMENT
CONTAINED HEREIN WILL BE OR CAN BE ACHIEVED. ANY ONE OF THOSE FACTORS COULD
CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THOSE PROJECTED HEREIN. THESE
FORWARD - LOOKING STATEMENTS INCLUDE PLANS AND OBJECTIVES OF MANAGEMENT FOR
FUTURE OPERATIONS, INCLUDING PLANS AND OBJECTIVES RELATING TO THE PRODUCTS AND
THE FUTURE ECONOMIC PERFORMANCE OF THE COMPANY. ASSUMPTIONS RELATING TO THE
FOREGOING INVOLVE JUDGMENTS WITH RESPECT TO, AMONG OTHER THINGS, FUTURE
ECONOMIC, COMPETITIVE AND MARKET CONDITIONS, FUTURE BUSINESS DECISIONS, AND THE
TIME AND MONEY REQUIRED TO SUCCESSFULLY COMPLETE DEVELOPMENT PROJECTS, ALL OF
WHICH ARE DIFFICULT OR IMPOSSIBLE TO PREDICT ACCURATELY AND MANY OF WHICH ARE
BEYOND THE CONTROL OF THE COMPANY. ALTHOUGH THE COMPANY BELIEVES THAT THE
ASSUMPTIONS UNDERLYING THE FORWARD - LOOKING STATEMENTS CONTAINED HEREIN ARE
REASONABLE, ANY OF THOSE ASSUMPTIONS COULD PROVE INACCURATE AND, THEREFORE,
THERE CAN BE NO ASSURANCE THAT THE RESULTS CONTEMPLATED IN ANY OF THE FORWARD -
LOOKING STATEMENTS CONTAINED HEREIN WILL BE REALIZED. BASED ON ACTUAL EXPERIENCE
AND BUSINESS DEVELOPMENT, THE COMPANY MAY ALTER ITS MARKETING, CAPITAL
EXPENDITURE PLANS OR OTHER BUDGETS, WHICH MAY IN TURN AFFECT THE COMPANY'S
RESULTS OF OPERATIONS. IN LIGHT OF THE SIGNIFICANT UNCERTAINTIES INHERENT IN THE
FORWARD - LOOKING STATEMENTS INCLUDED THEREIN, THE INCLUSION OF ANY SUCH
STATEMENT SHOULD NOT BE REGARDED AS A REPRESENTATION BY THE COMPANY OR ANY OTHER
PERSON THAT THE OBJECTIVES OR PLANS OF THE COMPANY WILL BE ACHIEVED.
Overview of Company's Business:
The Company, through its predecessor companies and its subsidiaries,
has been an established commercial operator of fitness and spa centers in Hong
Kong and China since 1986. The Company currently operates seventeen facilities:
thirteen in Hong Kong and four in China (including one in Macau). Management
believes that the Company is one of the top providers of fitness facilities and
spa and beauty treatment services in Hong Kong and China, with approximately
100,000 customers. The Company offers to its customers, at each location, access
to a wide range of U.S.- styled fitness and spa services.
The Company was incorporated on September 21, 1988 in the state of
Delaware under the name of "Foreclosed Realty Exchange, Inc", a development
stage company seeking acquisitions with no material assets or liabilities. Prior
to acquisition of Physical Beauty & Fitness Holdings Limited, a British Virgin
Islands corporation ("Physical Limited"), the Company had no revenue producing
operations, but planned to enter into joint ventures and/or acquisitions
originally in the area of real estate, to expand its operations. In October,
1996, the Company closed a transaction with Ngai Keung Luk (Serleo), a 100%
shareholder of Physical Limited, whereby the Company entered into a Share
Exchange Agreement with Ngai Keung Luk (Serleo), pursuant to which the Company
issued 8,000,000 pre-split (6,000,000 post-split) shares of its Common Stock to
Ngai Keung Luk (Serleo) in exchange for all of the outstanding shares of
Physical Limited (the "Closing"). At the Closing, the then current management of
the Company resigned and was replaced by the current management of the Company.
-8-
RESULTS OF OPERATIONS
The Company's revenues are derived from its two main lines of business
of fitness and spa services in the following principal ways: admission fees and
monthly subscription fees from the fitness customers, and the sale of beauty
treatments and skin care products to the beauty patrons.
In respect to fitness services, customers are invited to purchase a
standard fitness card at a fee currently set at HK$600(US$77) for one person.
Each customer will also be charged a monthly due of HK$299 (US$38) for the usage
of the fitness centers. In order to fully utilize the facilities, the Company
grants a special offer of admission fees at HK$200 (US$26) to off-peak
customers.
In respect to beauty services, the customers may purchase single
treatment, or in packages of ten or more treatments, with quantity discounts
available. There is a wide range of beauty treatments available at prices
ranging from HK$400 (US$51) to HK$15,000 (US$1,923).
The following table sets forth selected income data as a percentage of
total operating revenue for the periods indicated.
RESULTS OF OPERATIONS
Three Months Ended Six Months Ended
June 30 June 30
2002 2003 2002 2003
----------- ----------- ----------- -----------
Operating Revenues 100.00% 100.00% 100.00% 100.00%
Total operating expenses 109.34% 117.26% 106.12% 112.18%
Operating loss (9.34%) (17.26%) (6.12%) (12.18%)
Loss before income taxes and
minority interests (10.41%) (18.64%) (7.01%) (13.58%)
Provision for income taxes (0.18%) (0.21%) 0.04% 0.12%
Minority interests (0.07%) (0.25%) (0.01%) (0.11%)
Net loss (10.16%) (18.18%) (5.09%) (13.59%)
=========== =========== =========== ==========
THREE MONTHS ENDED JUNE 30, 2003 (UNAUDITED) COMPARED TO THREE MONTHS ENDED JUNE
30, 2002 (UNAUDITED).
- ----------------------------------------------------------------------------
OPERATING REVENUES. The Company's operating revenues slightly increased
0.6% to HK$102,463,000 (US$13,137,000) in the second quarter of 2003 as compared
to HK$101,805,000 (US$13,052,000) of the same period last year.
Operating revenues derived by the Company's fitness services decreased
5% to HK$63,205,000 (US$8,103,000) compared to HK$66,718,000 (US$8,554,000) of
last year. Fitness revenues as a percentage of total revenues were 62% in the
second quarter of 2003 as compared to 66% in the second quarter of 2002.
Operating revenues from the Company's beauty treatment business totaled
HK$39,065,000 (US$5,009,000) compared to HK$35,087,000 (US$4,498,000) in the
second quarter of 2002, representing an increase of 11%. Beauty treatment
revenues as a percentage of total revenues increased from 34% to 38% in the
second quarter of 2003 as compared to 2002.
-9-
Operating revenues derived from the Company's Hong Kong locations
remain an important contributor to the Company's business, generating
HK$90,122,000 (US$11,554,000), or 88% of total operating revenues in the second
quarter of 2003 as compared to HK$92,286,000 (US$11,832,000) or 91% of total
operating revenues in the second quarter of 2002.
Operating revenues derived from the Company's China locations generated
HK$12,341,000 (US$1,582,000), or 12% of total operating revenues in the second
quarter of 2003 as compared to HK$9,519,000 (US$1,220,000) or 9% of total
operating revenues in the second quarter of 2002.
In Mid-March, 2003, an outbreak of the Severe Acute Respiratory
Syndrome (SARS) occurred in areas such as Vietnam, Toronto, Southern China, Hong
Kong, and Singapore, all of which were badly hit by the disease. Since the
consumers avoided from contacting the SARS virus by staying at home, revenues
and results of the Company, like most retailers, have been affected by weaker
demand in April and May. When the outbreak finally peaked by late May, the
Company started a series of promotional programs to boost up its revenues and
managed to maintain the same level of revenues as the corresponding period of
last year.
OPERATING EXPENSES. The Company's operating expenses for the second
quarter of 2003 totaled HK$120,151,000 (US$15,404,000) compared to
HK$111,312,000 (US$14,271,000) in 2002, representing an increase of 8%. Total
operating expenses, after taking into account all corporate expenses, were 117%
of total operating revenue as compared to 109% of last year. This reflects the
additional costs incurred by the Company in following its business expansion
plan.
Operating expenses associated with the Company's Hong Kong locations
were HK$105,034,000 (US$13,466,000) in the second quarter of 2003, representing
an increase of 6% as compared to HK$99,174,000 (US$12,715,000) in 2002. The
increase was mainly due to additional expenses incurred by the Kornhill center
(opened in late June, 2002) and Citylink, Shatin center (will open in December,
2003), which have not yet commenced operation in the corresponding period of
last year. Hong Kong operating expenses represented 87% of total operating
expenses in the second quarter of 2003 as compared to 89% in 2002.
Operating expenses associated with the Company's China locations were
HK$15,117,000 (US$1,938,000) in the second quarter of 2003, representing an
increase of 25% as compared to HK$12,138,000 (US$1,556,000) in 2002 primarily
due to additional expenses incurred by the enhanced facilities in Shanghai.
Operating expenses in China represented 13% of total operating expenses in the
second quarter of 2003 as compared to 11% of the same period last year.
TOTAL NON-OPERATING EXPENSES. Total non-operating expenses for the
second quarter of 2003 totaled HK$1,409,000 (US$181,000) compared to
HK$1,090,000 (US$140,000) in 2002. This represents an increase of 29% mainly due
to higher interest expenses resulting from increasing bank facilities obtained.
PROVISION FOR INCOME TAXES. Provision for income taxes for the second
quarter of 2003 totaled HK$(210,000) (US$(27,000)) compared to HK$(186,000)
(US$(24,000)) in the second quarter of 2002, reflecting an adjustment of
overprovision in the previous quarter.
NET LOSS. The Company has generated a net loss of HK$18,630,000
(US$2,389,000) for the second quarter of 2003, compared to a net loss of
HK$10,340,000 (US$1,326,000) for 2002, representing an increase of 80%. The loss
was mainly due to the narrowing margin of the existing centers and the
absorption of the pre-opening overhead associated with a proposed new center.
SIX MONTHS ENDED JUNE 30, 2003 (UNAUDITED) COMPARED TO SIX MONTHS ENDED JUNE 30,
2002 (UNAUDITED).
- ----------------------------------------------------------------------------
OPERATING REVENUES. Operating revenues for the first six months of 2003
totaled HK$208,228,000 (US$26,696,000) compared to HK$197,692,000
(US$25,345,000) of last year, representing a moderate increase of 5%.
Operating revenues derived by the Company's fitness services decreased
6% to HK$126,098,000 (US$16,166,000) compared to HK$134,186,000 (US$17,203,000)
in 2002. Fitness revenues as a percentage of total revenues were 61% in the
first six months of 2003 as compared to 68% in the same period last year.
Operating revenues from the Company's beauty treatment business
increased 29% to HK$81,937,000 (US$10,505,000) in the first six months of 2003
compared to HK$63,506,000 (US$8,142,000) of last year. Beauty treatment revenues
as a percentage of total revenues were 39% in the first six months of 2003 as
compared to 32% in the first six months of 2002.
-10-
Operating revenues derived from the Company's Hong Kong locations
remain an important contributor to the Company's business, generating
HK$182,810,000 (US$23,437,000), or 88% of total operating revenues in the six
months ended June 30, 2003 as compared to HK$179,234,000 (US$22,979,000) or 91%
of total operating revenues in the six months ended June 30, 2002.
Operating revenues derived from the Company's China locations generated
HK$25,418,000 (US$3,259,000), or 12% of total operating revenues in the six
months ended June 30, 2003 as compared to HK$18,458,000 (US$2,366,000) or 9% of
total operating revenues in the six months ended June 30, 2002.
OPERATING EXPENSES. The Company's operating expenses for the first six
months of 2003 totaled HK$233,600,000 (US$29,949,000) compared to HK$209,781,000
(US$26,895,000) in the first six months of 2002, representing an increase of
11%. Total operating expenses, after taking into account all corporate expenses,
were 112% of total operating revenue as compared to 106% of last year. This
reflects the additional costs incurred by the new centers during the period
under review.
Operating expenses associated with the Company's Hong Kong locations
were HK$203,203,000 (US$26,052,000) in the six months ended June 30, 2003,
representing an increase of 9% as compared to HK$186,169,000 (US$23,868,000) in
2002. Hong Kong operating expenses represented 87% of total operating expenses
in the six months ended June 30,2003 as compared with 89% of 2002.
Operating expenses associated with the Company's China locations were
HK$30,397,000 (US$3,897,000) in the six months ended June 30, 2003, representing
an increase of 29% as compared to HK$23,612,000 (US$3,027,000) in 2002.
Operating expenses in China represented 13% of total operating expenses in the
six months ended June 30, 2003 as compared with 11% of 2002.
TOTAL NON-OPERATING EXPENSES. Total non-operating expenses for the
first six months of 2003 totaled HK$2,901,000 (US$372,000) compared to
HK$1,760,000 (US$226,000) in the first six months of 2002. This represents an
increase of 65% mainly due to higher interest expenses.
PROVISION FOR INCOME TAXES. Provision for income taxes for the first
six months of 2003 totaled HK$252,000 (US$32,000) compared to HK$88,000
(US$11,000) in the first six months of 2002, representing an increase of 186%.
NET LOSS. The Company reported a net loss of HK$28,292,000
(US$3,628,000) for the first six months of 2003, compared to a net loss of
HK$10,070,000 (US$1,291,000) for the first six months of 2002, representing an
increase of 181%. The increase reflects the additional overhead associated with
the opening of new centers not yet recovered by their additional contribution.
-11-
LIQUIDITY AND CAPITAL RESOURCES
The Company has financed its operations primarily through cash
generated from operations, short-term bank credit, long-term bank loans,
advances from customers relating to prepaid fitness and spa income, and leasing
arrangements with financial institutions.
Cash and cash equivalent balances as of June 30, 2003 and December 31,
2002 were HK$2,220,000 (US$285,000) and HK$1,336,000 (US$171,000), while total
indebtedness at June 30, 2003 was HK$41,355,000 (US$5,302,000) and HK$49,276,000
(US$6,317,000) at December 31, 2002.
Net cash provided by operating activities were HK$105,334,000
(US$13,503,000) and HK$20,088,000 (US$2,575,000) for the six-month periods ended
June 30, 2002 and 2003, respectively. The Company's operating activities are
historically financed by cash flows from operations. Net cash used in investing
activities were HK$120,362,000 (US$15,430,000) and HK$9,159,000 (US$1,174,000)
for the six-month periods ended June 30, 2002 and 2003 respectively, primarily
as a result of expenditures for property, plant and equipment. Net cash provided
by (used in) financing activities, which mainly include proceeds from bank
loans, net interest and repayment, were HK$11,589,000 (US$1,486,000) and
HK$(10,045,000) (US$(1,287,000)) in the six-month periods ended June 30, 2002
and 2003, respectively.
During the six-month period ended June 30, 2003, the Company has not
entered into any transactions using derivative financial instruments or
derivative commodity instruments nor held any marketable equity securities of
publicly traded companies. Accordingly, the Company believes its exposure to
market interest rate risk and price risk is not material. The Company's
long-term loans bear interest rates varying from 3.66% to 8% per annum. The
total balance outstanding as of June 30, 2003 on such loans was HK$20,817,000
(US$2,669,000). The last repayment on the loans is due in 2007. The Company had
total banking facilities available from financial institutions amounting to
approximately HK$47,769,000 (US$6,124,000). These facilities were secured by
certain leasehold property in Hong Kong owned by the Company's subsidiary (Ever
Growth Limited) and a related company, a fixed charge over a subsidiary's
machinery and equipment and a floating charge over its other assets (Physical
Health Centre (Macau) Limited), fixed deposits and securities owned by the
Company's subsidiaries (Physical Health Centre Hong Kong Limited and Physical
Health Centre (E House) Limited), and personal guarantees from Mr. Luk,
respectively.
During the six-month period ended June 30, 2003, the Company purchased
marketable securities of HK$1,750,000 (US$224,000). The Company have no other
material purchases of investments during the period under review.
Consistent with the general practice of the fitness and spa industry,
the Company receives prepaid monthly fees from fitness customers, which are
non-refundable, and spa treatment dues from beauty customers. This practice
creates working capital that the Company generally utilizes for working capital
purposes. However, the unused portion of the pre-paid monthly dues and spa
treatment dues is characterized as deferred income, a liability, for accounting
purposes.
The Company's trade receivable balance at June 30, 2003, was
HK$13,951,000 (US$1,789,000). The Company has never experienced any significant
problems with collection of accounts receivable from its customers.
Capital expenditure for Fiscal Year 2002, and the six-month period
ended June 30, 2003, were HK$126,364,000 (US$16,199,000) and HK$11,588,000
(US$1,485,000) respectively.
And as mentioned in note 2 to the financial statements, the Company has
a negative working capital of HK$153,642,000 (US$19,698,000) and HK$164,099,000
(US$21,039,000) as of December 31, 2002 and June 30, 2003. Besides, it has net
loss before cumulative effect of a change in accounting principle of
HK$28,292,000 (US$3,628,000) and HK$13,927,000 (US$1,786,000) respectively for
the six-month periods ended June 30, 2003 and 2002. These conditions raise
substantial doubt about the Company's ability to continue as a going concern. In
order to maintain it as a going concern, the management is now seeking to
procure additional funding from various sources. If necessary, the management
would delay the capital expansion plan which would have least impact on the
Company's ongoing operation until the cash flow position of the Company is
improved. In addition, the Principal Stockholder has undertaken to make
available adequate funds to the Company as and when required to maintain the
Company as a going concern. In this connection, the Company has worked out a
funding schedule with the Principal Stockholder whereby he agrees to inject
funds of not less than HK$500,000 (US$64,000) each time and realize his net
worth assets to support the Company as and when required. Accordingly, the
Company believes that cash flow generated from its operations, the tight cost
and cash flow control measures and its existing and additional credit facilities
to be sought should be sufficient to satisfy its working capital and capital
expenditure requirements for at least the next 12 months.
CRITICAL ACCOUNTING POLICIES
Besides the accounting policies as described in note 3 to the financial
statements for the year ended December 31, 2002, the management considers that
the Group has not adopted any other critical accounting policies.
-12-
ITEM 3 - CONTROLS AND PROCEDURES
Within the 90-day period prior to the filing of this report, an evaluation was
carried out under the supervision and with participation of the Company's
management, including the Chief Executive Officer and Principal Financial
Officer, of the effectiveness of the disclosure controls and procedures (as
defined in Rule 13a-14(c) under the Securities Exchange Act of 1934). Based on
the evaluation, the Chief Executive Officer and Principal Financial Officer have
concluded that disclosure controls and procedures are, to the best of their
knowledge, effective to ensure that information required to be disclosed by the
Company in reports that it files or submits under the Exchange Act is recorded,
processed, summarized and reported within the time periods specified in
Securities and Exchange Commission rules and forms. Subsequent to the date of
their evaluation, there were no significant changes in the Company's internal
controls or in other factors that could significantly affect these controls,
including any corrective actions with regard to significant deficiencies and
material weaknesses.
-13-
PART II - OTHER INFORMATION
ITEM 1 - LEGAL PROCEEDINGS
NONE
ITEM 2 - CHANGES IN SECURITIES
NONE
ITEM 3 - DEFAULTS UPON SENIOR SECURITIES
NONE
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY
HOLDERS
NONE
ITEM 5 - OTHER INFORMATION
NONE
ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K
NONE
-14-
SIGNATURES
Pursuant to the requirements of the Exchange Act, the registrant has duly caused
this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
PHYSICAL SPA & FITNESS INC.
(Registrant)
Date: August 18, 2003 /s/ Ngai Keung Luk
------------------------------------
Ngai Keung Luk,
Chairman and Chief Executive Officer
Date: August 18, 2003 /s/ Robert Chui
------------------------------------
Robert Chui,
Chief Financial Officer
-15-
CERTIFICATION
I, Ngai Keung Luk, Chairman and Chief Executive Officer and I, Robert Chui,
Chief Financial Officer, certify that:
1. We have reviewed this quarterly report on Form 10-Q of Physical Spa & Fitness
Inc. (the "registrant");
2. Based on our knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on our knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this report;
4. The registrant's other certifying officers and we are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;
5. The registrant's other certifying officers and we have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit committee
of registrant's board of directors (or persons performing the equivalent
functions):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and we have indicated in this
quarterly report whether there were significant changes in internal controls or
in other factors that could significantly affect internal controls subsequent to
the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.
8/18/03 /s/ Ngai Keung Luk
- --------------- -------------------------------------
Date Chairman and Chief Executive Officer
8/18/03 /s/ Robert Chui
- --------------- -------------------------------------
Date Chief Financial Officer