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EX-31.2 - Wonder Auto Technology, Incv201563_ex31-2.htm
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EX-31.1 - Wonder Auto Technology, Incv201563_ex31-1.htm
EX-32.2 - Wonder Auto Technology, Incv201563_ex32-2.htm

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10−Q
(Mark One)
 
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended: September 30, 2010
 
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from ____________ to _____________
 
Commission File Number: 001-34440

WONDER AUTO TECHNOLOGY, INC.
(Exact Name of Registrant as Specified in Its Charter)

Nevada
 
88-0495105
(State or other jurisdiction of incorporation
or organization)
 
(I.R.S. Employer Identification No.)

No. 16 Yulu Street
Taihe District, Jinzhou City, Liaoning
People’s Republic of China, 121013
 (Address of principal executive offices, Zip Code)
 
(86) 416-518-6632
 (Registrant’s telephone number, including area code)
 

(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes  x  No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes  ¨   No  ¨

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  ¨
 
Accelerated filer  x
Non-accelerated filer  ¨ (Do not check if a smaller reporting company)
  
Smaller reporting company  ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes  ¨  No x

The number of shares outstanding of each of the issuer’s classes of common stock, as of November 9, 2010 is as follows:
 
Class of Securities
 
Shares Outstanding
Common Stock, $0.001 par value
 
33,859,994

 
 

 
 
TABLE OF CONTENTS
 
PART I
FINANCIAL INFORMATION
         
Item 1.
 
Financial Statements
 
3
Item 2.
 
Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
41
Item 3.
 
Quantitative and Qualitative Disclosures About Market Risk
 
54
Item 4.
 
Controls and Procedures
 
55
         
PART II
OTHER INFORMATION
         
Item 1.
 
Legal Proceedings
 
56
Item 1A.
 
Risk Factors
 
56
Item 2.
 
Unregistered Sales of Equity Securities and Use of Proceeds
 
72
Item 3.
 
Defaults Upon Senior Securities
 
72
Item 4.
 
(Removed and Reserved)
 
73
Item 5.
 
Other Information
 
73
Item 6.
 
Exhibits
 
73

 
2

 

PART I
FINANCIAL INFORMATION
 
ITEM 1.    FINANCIAL STATEMENTS.

Wonder Auto Technology, Inc.

Condensed Consolidated Financial Statements
For the three and nine months ended
September 30, 2010 and 2009
(Stated in US dollars)

 
3

 
 
Wonder Auto Technology, Inc.
Condensed Consolidated Financial Statements
Three and nine months ended September 30, 2010 and 2009

Index to Condensed Consolidated Financial Statements
 
   
Pages
     
Condensed Consolidated Statements of Income and Comprehensive Income
 
5 - 6
     
Condensed Consolidated Balance Sheets
 
7 - 8
     
Condensed Consolidated Statements of Cash Flows
 
9 - 11
     
Condensed Consolidated Statement of Equity
 
12
     
Notes to Condensed Consolidated Financial Statements
 
13 - 40

 
4

 

Wonder Auto Technology, Inc.
Condensed Consolidated Statements of Income and Comprehensive Income
For the three and nine months ended September 30, 2010 and 2009
(Unaudited)
(Stated in US Dollars)

   
Three months ended
   
Nine months ended
 
   
September 30,
   
September 30,
 
   
2010
   
2009
   
2010
   
2009
 
                         
Sales revenue
  $ 78,830,081     $ 58,961,604     $ 210,909,240     $ 148,588,838  
Cost of sales
    58,143,590       45,007,159       157,445,544       112,320,802  
                                 
Gross profit
    20,686,491       13,954,445       53,463,696       36,268,036  
                                 
Other operating income
    310,470       -       310,470       -  
                                 
Operating expenses
                               
Administrative expenses (including share-based compensation of $1,477,694 and $4,433,082 for the three and nine months ended September 30, 2010, respectively, $Nil for the three and nine months ended September 30, 2009)
    5,725,170       2,594,285       15,743,569       7,662,331  
Research and development expenses (including share-based compensation of $91,782 and $275,346 for the three and nine months ended September 30, 2010 respectively, $Nil for the three and nine months ended September 30, 2009)
    1,871,228       487,572       4,759,547       1,408,479  
Selling expenses (including share-based compensation of $65,419 and $196,257 for the three and nine months ended September 30, 2010 respectively, $Nil for the three and nine months ended September 30, 2009)
    2,786,725       2,080,438       7,241,364       4,811,601  
                                 
      10,383,123       5,162,295       27,744,480       13,882,411  
                                 
Income from operations
    10,613,838       8,792,150       26,029,686       22,385,625  
Other income
    238,750       149,146       818,859       827,043  
Government grants
    337,484       397,277       758,175       749,815  
Gain on disposal of a non-consolidated affiliate - Note 3(a)
    5,264,070       -       5,264,070       -  
Equity in net income of non-consolidated affiliates
    (26,264 )     -       755,697       -  
Net finance costs - Note 5
    (2,797,927 )     (1,481,640 )     (4,509,445 )     (3,511,726 )
                                 
Income before income taxes and noncontrolling interests
    13,629,951       7,856,933       29,117,042       20,450,757  
Income taxes - Note 6
    (1,169,689 )     (939,622 )     (3,764,878 )     (2,492,651 )
                                 
Net income before noncontrolling interests
    12,460,262       6,917,311       25,352,164       17,958,106  
                                 
Net income attributable to noncontrolling interests
    (519,736 )     (410,290 )     (984,809 )     (903,823 )
                                 
Net income attributable to Wonder Auto Technology, Inc. common stockholders
  $ 11,940,526     $ 6,507,021     $ 24,367,355     $ 17,054,283  

See the accompanying notes to condensed consolidated financial statements

 
5

 

Wonder Auto Technology, Inc.
Condensed Consolidated Statements of Income and Comprehensive Income (Cont’d)
For the three and nine months ended September 30, 2010 and 2009
(Unaudited)
(Stated in US Dollars)

   
Three months ended
   
Nine months ended
 
   
September 30,
   
September 30,
 
   
2010
   
2009
   
2010
   
2009
 
                         
Net income before noncontrolling interests
  $ 12,460,262     $ 6,917,311     $ 25,352,164     $ 17,958,106  
Other comprehensive income
                               
Foreign currency translation adjustments
    3,308,856       167,348       3,956,918       112,056  
                                 
Comprehensive income
    15,769,118       7,084,659       29,309,082       18,070,162  
Comprehensive income attributable to noncontrolling interests
    (524,551 )     (421,159 )     (1,020,239 )     (904,590 )
                                 
Comprehensive income attributable to Wonder Auto Technology, Inc. common stockholders
  $ 15,244,567     $ 6,663,500     $ 28,288,843     $ 17,165,572  
                                 
Earnings per share attributable to Wonder Auto Technology, Inc. common stockholders :- basic and diluted - Note 7
  $ 0.35     $ 0.24     $ 0.72     $ 0.63  
                                 
Weighted average number of shares outstanding :-
                               
basic and diluted
    33,859,994       26,959,994       33,859,994       26,959,994  

See the accompanying notes to condensed consolidated financial statements

6

 
Wonder Auto Technology, Inc.
Condensed Consolidated Balance Sheets
As of September 30, 2010 and December 31, 2009
(Stated in US Dollars)

   
September 30,
   
December 31,
 
   
2010
   
2009
 
   
(Unaudited)
   
(Audited)
 
             
ASSETS
           
Current assets
           
Cash and cash equivalents
  $ 60,584,677     $ 82,414,287  
Restricted cash
    61,397,716       15,753,748  
Trade receivables, net
    99,576,892       49,522,583  
Bills receivable
    29,407,254       21,965,065  
Other receivables, prepayments and deposits
    26,849,488       14,826,460  
Inventories - Note 8
    82,597,331       51,119,562  
Amounts due from related companies - Note 9
    10,705,234       -  
Deferred taxes
    1,359,564       1,186,410  
                 
Total current assets
    372,478,156       236,788,115  
Restricted cash
    586,800       -  
Intangible assets, net - Note 10
    169,498,636       32,907,720  
Property, plant and equipment, net - Note 11
    115,524,991       73,770,329  
Land use rights
    16,055,135       10,618,853  
Deposits for acquisition of property, plant and equipment
    6,267,490       7,435,563  
Investment in a non-consolidated affiliate
    482,044       -  
Deferred taxes
    -       731,575  
                 
TOTAL ASSETS
  $ 680,893,252     $ 362,252,155  

See the accompanying notes to condensed consolidated financial statements

 
7

 

Wonder Auto Technology, Inc.
Condensed Consolidated Balance Sheets (Cont’d)
As of September 30, 2010 and December 31, 2009
(Stated in US Dollars)

   
September 30,
   
December 31,
 
   
2010
   
2009
 
   
(Unaudited)
   
(Audited)
 
             
LIABILITIES AND EQUITY
           
             
LIABILITIES
           
Current liabilities
           
Trade payables
  $ 75,676,958     $ 34,126,534  
Bills payable
    80,533,510       29,388,653  
Other payables and accrued expenses
    19,928,937       14,886,909  
Provision for warranty - Note 12
    2,963,394       2,272,322  
Income tax payable
    1,698,611       892,340  
Secured borrowings - Note 13
    118,407,527       57,082,779  
Payable to Jinheng Holdings - Note 14
    109,455,856       -  
Payable to Achieve Gain - Note 14
    6,328,380       -  
Early retirement benefits cost
    364,319       353,584  
                 
Total current liabilities
    415,357,492       139,003,121  
Secured borrowings - Note 13
    20,879,357       20,908,721  
Deferred revenue - government grants
    3,046,527       3,315,762  
Early retirement benefits cost
    317,543       550,397  
Deferred tax
    1,960,309       -  
                 
TOTAL LIABILITIES
    441,561,228       163,778,001  
                 
COMMITMENTS AND CONTINGENCIES - Note 16
               
                 
STOCKHOLDERS’ EQUITY
               
Preferred stock: par value $0.0001 per share; authorized 10,000,000 shares in 2010 and 2009; none issued and outstanding
    -       -  
Common stock: par value $0.0001 per share authorized 90,000,000 shares in 2010 and 2009; issued and outstanding 33,859,994 shares in 2010 and 2009
    3,386       3,386  
Additional paid-in capital
    142,447,387       137,542,702  
Statutory and other reserves
    10,186,701       10,186,701  
Accumulated other comprehensive income
    13,568,539       9,647,051  
Retained earnings
    59,637,951       35,270,596  
                 
TOTAL WONDER AUTO TECHNOLOGY, INC. STOCKHOLDERS’ EQUITY
    225,843,964       192,650,436  
                 
NONCONTROLLING INTERESTS
    13,488,060       5,823,718  
                 
TOTAL EQUITY
    239,332,024       198,474,154  
                 
TOTAL LIABILITIES AND EQUITY
  $ 680,893,252     $ 362,252,155  

See the accompanying notes to condensed consolidated financial statements

 
8

 

Wonder Auto Technology, Inc.
Condensed Consolidated Statements of Cash Flows
For the nine months ended September 30, 2010 and 2009
(Unaudited)
(Stated in US Dollars)

   
Nine months ended September 30,
 
   
2010
   
2009
 
             
Cash flows from operating activities
           
Net income before noncontrolling interests
  $ 25,352,164     $ 17,958,106  
Adjustments to reconcile net income before noncontrolling interests to net cash provided by operating activities :
               
Depreciation
    5,548,149       4,239,790  
Amortization of intangible assets and land use rights
    1,255,735       297,888  
Share-based compensation - Note 15
    4,904,685       -  
Deferred taxes
    (220,804 )     111,617  
Loss on disposal of property, plant and equipment
    150,342       59,490  
Gain on disposal of investment in a non-consolidated affiliate
    (5,264,070 )     -  
(Recovery) provision for doubtful debts
    (145,514 )     303,738  
Provision for obsolete inventories
    318,509       26,149  
Exchange gain on translation of monetary assets and liabilities
    351,488       387,701  
Equity in net income of non-consolidated affiliates
    (755,697 )     -  
Deferred revenue amortized
    (331,228 )     (193,408 )
                 
Changes in operating assets and liabilities :-
               
Trade receivables
    (12,041,879 )     (4,366,425 )
Bills receivable
    (5,570,898 )     (11,649,801 )
Other receivables, prepayments and deposits
    (8,546,131 )     1,694,880  
Inventories
    (3,604,756 )     (2,926,673 )
Amounts due from related companies
    1,774,567       -  
Trade payables
    (1,164,201 )     9,010,565  
Other payables and accrued expenses
    2,187,827       (4,604,814 )
Early retirement benefits costs
    (236,423 )     (325,977 )
Provision for warranty
    632,762       203,981  
Income tax payable
    807,815       886,176  
                 
Net cash flows provided by operating activities
  $ 5,402,442     $ 11,112,983  

See the accompanying notes to condensed consolidated financial statements

 
9

 

Wonder Auto Technology, Inc.
Condensed Consolidated Statements of Cash Flows (Cont’d)
For the nine months ended September 30, 2010 and 2009
(Unaudited)
(Stated in US Dollars)
   
Nine months ended September 30,
 
   
2010
   
2009
 
Cash flows from investing activities
           
Payments to acquire intangible assets
  $ (7,838 )   $ (146,600 )
Payments to acquire and for deposits for acquisition of property, plant and equipment and land use right
    (14,656,971 )     (6,463,215 )
Proceeds from sales of property, plant and equipment
    -       29,125  
Proceeds from sales of Money Victory Limited
    -       5,950,000  
Net cash paid to acquire Applaud - Note 3(a)
    (14,862,577 )     -  
Net cash inflow from disposal of Applaud - Note 3(a)
    20,849,393       -  
Net cash paid to acquire Jinheng BVI - Note 3(a)
    (40,944,167 )      -  
Net cash inflow from disposal of Jinzhou Jiade - Note 3(b)
    2,866,442       -  
Net cash paid to acquire Wonder Auto Parts - Note 3(c)
    (376,285 )     -  
Net cash paid to acquire of Vital Glee - Note 3(d)
    (7,996,011 )     -  
Capital contribution to Wonder Auto Parts
    (64,337 )        
Settlement of advance to Winning
    8,013,693       -  
Net cash paid to acquire Yearcity
    -       (9,936,057 )
Net cash paid to acquire Jinzhou Wanyou
    -       (1,705,437 )
                 
Net cash flows used in investing activities
    (47,178,658 )     (12,272,184 )
                 
Cash flows from financing activities
               
Government grants received
    -       769,006  
Increase (decrease) in bills payable
    42,282,319       (1,381,350 )
(Increase) decrease in restricted cash
    (41,812,861 )     2,888,474  
Proceeds from secured borrowings
    88,142,550       64,274,001  
Repayment of secured borrowings
    (69,554,771 )     (52,193,550 )
 
               
Net cash flows provided by financing activities
    19,057,237       14,356,581  
 
               
Effect of foreign currency translation on cash and cash equivalents
    889,369       63,215  
                 
Net (decrease) increase in cash and cash equivalents
    (21,829,610 )     13,260,595  
                 
Cash and cash equivalents - beginning of period
    82,414,287       8,159,156  
                 
Cash and cash equivalents - end of period
  $ 60,584,677     $ 21,419,751  

See the accompanying notes to condensed consolidated financial statements

 
10

 

Wonder Auto Technology, Inc.
Condensed Consolidated Statements of Cash Flows (Cont’d)
For the nine months ended September 30, 2010 and 2009
(Unaudited)
(Stated in US Dollars)

   
Nine months ended September 30,
 
   
2010
   
2009
 
             
Supplemental disclosures for cash flow information :
           
Cash paid for :
           
Interest
  $ 3,851,198     $ 3,382,425  
Income taxes
  $ 2,955,401     $ 1,489,450  
                 
Cash investing activities :
               
Acquisitions (Note 3)
               
Fair value of assets acquired
  $ 167,695,922     $ -  
Fair value of liabilities assumed
  $ 101,845,650     $ -  
                 
Non-cash investing and financing activities :
               
Acquisition of Yearcity by offsetting with receivable from disposal of an non-consolidated affiliate
  $ -     $ 5,950,000  
Settlement of amount due to Hony Capital II, L.P. (“Hony Capital”) by offsetting with amount due from Hony Capital
  $ -     $ 7,626,804  

See the accompanying notes to condensed consolidated financial statements

 
11

 

Wonder Auto Technology, Inc.
Condensed Consolidated Statement of Equity
(Unaudited)
(Stated in US Dollars)

   
Wonder Auto Technology, Inc. stockholders
             
                           
Accumulated
                   
               
Additional
   
Statutory
   
other
                   
   
Common stock
   
paid-in
   
and other
   
comprehensive
   
Retained
   
Noncontrolling
       
   
No. of shares
   
Amount
   
capital
   
reserves
   
income
   
earnings
   
interests
   
Total
 
Balance, December 31, 2009
    33,859,994     $ 3,386     $ 137,542,702     $ 10,186,701     $ 9,647,051     $ 35,270,596     $ 5,823,718     $ 198,474,154  
Noncontrolling interests arising from acquisition of Jinheng BVI
    -       -       -       -       -       -       4,174,053       4,174,053  
Noncontrolling interests arising from Jinzhou Huayi
    -       -       -       -       -       -       2,470,050       2,470,050  
Net income
    -       -       -       -       -       24,367,355       984,809       25,352,164  
Foreign currency translation adjustment
    -       -       -       -       3,921,488       -       35,430       3,956,918  
Share-based compensation - Note 15
    -       -       4,904,685       -       -       -       -       4,904,685  
                                                                 
Balance, September 30, 2010
    33,859,994     $ 3,386     $ 142,447,387     $ 10,186,701     $ 13,568,539     $ 59,637,951     $ 13,488,060     $ 239,332,024  

See the accompanying notes to condensed consolidated financial statements

 
12

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

1.
Basis of presentation

The accompanying unaudited condensed consolidated financial statements of Wonder Auto Technology, Inc. (the “Company”) and its subsidiaries have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission (the “SEC”) including the instructions to Form 10-Q and Regulation S-X.  Certain information and note disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (USGAAP) have been condensed or omitted from these statements pursuant to such rules and regulation and, accordingly, they do not include all the information and notes necessary for comprehensive consolidated financial statements and should be read in conjunction with our audited consolidated financial statements for the year ended December 31, 2009, included in our Annual Report on Form 10-K for the year ended December 31, 2009.

In the opinion of the management of the Company, all adjustments, which are of a normal recurring nature, necessary for a fair statement of the results for the three-months and nine-months periods have been made.  Results for the interim periods presented are not necessarily indicative of the results that might be expected for the entire fiscal year.

2.
Corporate information and description of business

The Company was incorporated in the State of Nevada on June 8, 2000. The Company’s shares are listed for trading on the Nasdaq Global Market in the United States.

The Company is principally engaged in the design, development, manufacture and marketing of automotive electrical parts, specifically starters and alternators, manufacturing of engine valves and tappets and automotive safety products for motor vehicles, mainly in the People’s Republic of China (the “PRC”). The major target markets of the Company’s products are the PRC, South Korea and Brazil.

The products of the Company are suitable for use in a variety of automobiles.  However, most of the Company’s products are used in passenger cars with smaller engines having displacement below 1.6 liters.  The Company has also manufactured and sold rectifier and regulator products for use in alternators as well as various rods and shafts for use in shock absorbers, alternators and starters.

The Company’s customers include automakers, engine manufacturers and, increasingly, auto parts suppliers.

The raw materials used in the Company’s production are mainly divided into four categories, metal parts, semiconductors, chemicals and packaging materials.

 
13

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

2.
Corporate information and description of business (Cont’d)

As of September 30, 2010, the Company has twenty-two subsidiaries :-

Company name
 
Place/date of 
incorporation or 
establishment
 
The
Company's 
effective
ownership 
interest
   
Common stock/ 
registered capital
 
Principal activities
 
                     
Wonder Auto Limited (“Wonder”)
 
British Virgin Islands (“BVI”) / April 16, 2004
    100 %  
Ordinary shares: Authorized: 50,000 shares of $1 each, Paid up: 245 shares of $1 each
 
Investment holding
 
                       
Jinzhou Halla Electrical Equipment Co., Ltd. (“Jinzhou Halla”)
 
The PRC /  
March 21, 1996
    100 %  
Registered capital of $31,900,000 and fully paid up
 
Manufacturing and selling of starters and alternators
 
                       
Jinzhou Dongwoo Precision Co., Ltd. (“Jinzhou Dongwoo”)
 
The PRC /  
April 23, 2003
    50 % *  
Registered capital of $2,800,000 and fully paid up
 
Manufacturing and selling of accessories of alternators
 
                       
Jinzhou Wanyou Mechanical Parts Co., Ltd. (“Jinzhou Wanyou”)
 
The PRC /
September 21, 2006
    100 %  
Registered capital $54,950,000 and fully paid up
 
Manufacturing and selling of rods and shafts
 
                       
Jinzhou Wonder Motor Co., Ltd. (“Wonder Motor”)
 
The PRC /
September 24, 2007
    100 %  
Registered capital of $3,500,000 and fully paid up
 
Development stage company
 
                       
Jinzhou Wonder Auto Electrical Equipment Co., Ltd. (“Jinzhou Wonder”)
 
The PRC /
September 24, 2007
    100 %  
Registered capital of $5,500,000 and fully paid up
 
Manufacturing and selling of accessories of starters and alternators
 
                       
Jinzhou Hanhua Electrical System Co., Ltd. (“Jinzhou Hanhua”)
 
The PRC /  
April 23, 2003
    50 % *  
Registered capital of $2,369,000 and fully paid up
 
Manufacturing and selling of accessories of starters
 
                       
Jinzhou Karham Electrical Equipment Co., Ltd. (Jinzhou Karham”)
 
The PRC /  
May 20, 2006
    65 %  
Registered capital of $950,000 and fully paid up
 
Manufacturing and selling of accessories of starters
 
                       
Fuxin Huirui Mechanical Co., Ltd. (“Fuxin Huirui”)
 
The PRC /
September 24, 2007
    100 %  
Registered capital of $3,000,000 and fully paid up
 
Manufacturing and selling of accessories of alternators
 
 
 
14

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

2.
Corporate information and description of business (Cont’d)

 
Company name
 
Place/date of 
incorporation or 
establishment
 
The
Company's 
effective
ownership 
interest
   
Common stock/ 
registered capital
 
Principal activities
                   
Yearcity Limited (“Yearcity”)
 
BVI /  
March 10, 2005
    100 %  
Authorized: 50,000 shares of $1 each, Paid up: 100 shares of $1 each
 
Investment holding
                     
Jinan Worldwide Auto Accessories Co., Ltd. (“Jinan Worldwide”)
 
The PRC /  
February 1956
    100 %  
Registered capital of $20,700,000 and fully paid up
 
Manufacturing and selling of valves and tappets
                     
Friend Birch Limited (“Friend Birch”)
 
Hong Kong /
November 9, 2005
    100 %  
Ordinary shares: Authorized and fully paid up: 10,000 shares of HK$1 each
 
Investment holding
                     
Jinzhou Lida Auto Parts Co., Ltd. (“Jinzhou Lida”)
 
The PRC /  
October 23, 2008
    100 %  
Registered capital of $1,000,000 and fully paid up
 
Manufacturing and selling of accessories of rods and shafts
                     
Vital Glee Development Limited (“Vital Glee”)
 
BVI /
November 30, 2009
    100 %  
Registered capital of $50,000 and fully paid up
 
Investment holding
                     
Jinzhou Lide Shock Absorber Co., Ltd. (“Jinzhou Lide”)
 
The PRC /
April 26, 2010
    100 %  
Registered capital of $1,200,000 and fully paid up
 
Manufacturing and selling of automotive shock absorber manufacturing business
                     
Jinzhou Huayi Spinning Technology Co., Ltd. (“Jinzhou Huayi”)
 
The PRC /
August 25, 2010
    45 %*  
Registered capital of RMB30,000,000 and fully paid up
 
Manufacturing and selling of accessories of alternators
                     
Jinheng (BVI) Limited (“Jinzhou BVI”)
 
BVI /  October 14, 2003
 
    100 %  
Ordinary shares: Authorized :100,000 shares of HK$0.01 each
Paid up: 10,309 shares of $0.01 each
 
Investment holding
                     
Jinheng (Hong Kong) Ltd. (“Jinheng HK”)
 
Hong Kong /   
March 28, 2003
    100 %  
Ordinary shares: Authorized: 1,000 shares of HK$1 each
Paid up: 70 shares of HK$1 each
 
Investment holding
 

 
15

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

2.
Corporate information and description of business (Cont’d)

Jinzhou Jinheng Automotive Safety System Co., Ltd. (“Jinheng Automotive”)
 
The PRC /  
January 3, 1997
    100 %  
Registered capital of HK$185,000,000 and fully paid up
 
Manufacture and sales of automotive safety products
 
                       
Shenyang Jinbei Jinheng Automotive Safety System Co., Ltd. (“Shenyang Jinbei”)
 
The PRC /  
November 23, 2003
    55.56 %  
Registered capital of RMB27,000,000 and fully paid up
 
Manufacture and sales of automotive safety products
 
                       
Beijing Jinheng Sega Automotive Spare Parts Ltd. (“Beijing Sega”)
 
The PRC /   
October 14, 2005
    100 %  
Registered capital RMB20,000,000 and fully paid up
 
Manufacture and sales of automotive safety products
 
                       
Harbin Hafei Jinheng Automotive Safety System Co., Ltd. (“Hafei Jinheng”)
 
The PRC /  
December 3, 2003
    90 %  
Registered capital of RMB13,000,000 and fully paid up
 
Manufacture and sales of automotive safety products
 

 
*
The Company obtained the control over those subsidiaries by appointing more than half of the members in the board of directors in accordance with those subsidiaries’ Memorandum and Articles of Association of which a valid board action only requires the approval of more than half of board members.

3.
Acquisitions and dispositions

 
(a)
Acquisition and disposition of Applaud and acquisition of Jinheng BVI

On January 18, 2010, Wonder and Yearcity entered into two separate agreements with Novophalt (China) Limited, a company incorporated in BVI, and Wonder Employee Capital Limited (“WECL”), a company incorporated in BVI, for acquisition of their 20.90% and 17.46% equity interests in Applaud Group Limited (“Applaud”) at considerations of HK$62,915,086 (equivalent to approximately $8.12 million) and HK$52,534,672 (equivalent to approximately $6.78 million) respectively.  Both considerations were settled in January, 2010.  Since Mr. Zhao, a director of the Company, is the sole director and owner of WECL, the acquisition of 17.46% equity interest in Applaud from WECL constituted as a related party transaction.

Applaud, a company incorporated in BVI, is an investment holding company which only holds 50.62% equity interest in Jinheng Automotive Safety Technology Holdings Limited (“Jinheng Holdings”).  As a result of acquisition of 38.36% equity interest in Applaud, the Company effectively holds 19.42% equity interest in Jinheng Holdings. Jinheng Holdings is a high-tech automotive parts supplier that is primarily engaged in developing, manufacturing and selling components of automotive passive safety restraint systems (airbag and seatbelt), automotive engine electronic injection management systems (EMS), and components of diesel engines. Jinheng Holdings is listed on the Main Board of Hong Kong Stock Exchange.

 
16

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

3.
   Acquisitions and dispositions (Cont’d)

 
(a)
Acquisition and disposition of Applaud and acquisition of Jinheng BVI (Cont’d)

On July 10, 2010, Wonder and Yearcity entered into a conditional sale and purchase agreement (the “Disposal Agreement”) with Jin Ying Limited (“Jin Ying”), a company incorporated in BVI, pursuant to which Wonder and Yearcity agreed to dispose 38.36% total equity interest in Applaud at a total consideration of HK$162 million (equivalent to approximately $20.85 million).  The completion of the Disposal Agreement is conditioned upon the completion of a conditional acquisition agreement entered into between Vital Glee and Jinheng Holdings on July 10, 2010 (the “Acquisition Agreement”) pursuant to which Vital Glee agreed to acquire Jinheng Holdings’s 100% equity interest in Jinheng BVI, at a cash consideration of HK$1,130 million (approximately $145.43 million). The consideration is scheduled to be paid by Vital Glee in four installments. The Company obtained control over Jinheng BVI on September 10, 2010 by appointing the sole director to Jinheng BVI. Jinheng BVI is an investment holding company and through its subsidiaries engages in manufacture and sales of automotive safety products.

In accordance with the Acquisition Agreement, both parties agreed that Jinheng BVI’s equity interests in Shanxi Winner Auto-Parts Limited (“Shanxi Winner”) and Shenyang Jinheng Jinsida Automobile Electronic Co., Ltd. (“Jinsida”) was transferred to Jinheng Holdings or its subsidiaries and all the non-trade current accounts with Jinheng Holdings or its subsidiaries were written off as part of the transactions contemplated by the Acquisition Agreement before the acquisition by Vital Glee.

Since Mr. Zhao, a director and a shareholder of the Company, is the director and shareholder of Jinheng Holdings, the acquisition of 100% equity interest in Jinheng BVI from Jinheng Holdings constituted as a related party transaction.

The management considers the disposal of Applaud and acquisition of Jinheng BVI as business combination achieved in stages. According to ASC 805-10-25-10, the Company should remeasure its previously held equity interest in Applaud at its acquisition date fair value and recognized the resulting gain in the statements of income and comprehensive income. Accordingly, the fair value of the Company’s interest in Applaud amounting to $20.85 million, representing 19.42% effective interest in Jinhneg Holdings, was determined with reference to the market capitalization of Jinheng Holdings at the date of acquisition. Upon the completion of the disposal in September 2010, the Company recorded a gain on disposal of a non-consolidated affiliate of $5,264,070 in the condensed consolidated statements of income and comprehensive income.

 
17

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

3.
Acquisitions and dispositions (Cont’d)

 
(a)
Acquisition and disposition of Applaud and acquisition of Jinheng BVI (Cont’d)

Condensed financial data of Applaud up to the date of disposal is as follows :-

   
Three months ended
   
Nine months ended
 
   
September 30,
   
September 30,
 
   
(Unaudited)
   
(Unaudited)
 
   
2010
   
2009
   
2010
   
2009
 
                         
Summary of Operations:-
                       
Revenues
  $ 24,845,691     $ -     $ 102,704,666     $ -  
Gross profit
    3,136,291       -       20,009,885       -  
Income from operations
    76,814       -       6,352,567       -  
Net (loss) income
  $ (96,468 )   $ -     $ 1,884,199     $ -  
                                 
Net (loss) income attributable to the Company
  $ (37,004 )   $ -     $ 722,753     $ -  

The following table summarizes the allocation of the purchase price reflecting the amounts assigned to each of Jinheng BVI’s major classes of assets acquired and liabilities assumed at the date of acquisition :-

   
September 10,
 
   
2010
 
       
Current assets
  $ 56,186,018  
Property, plant and equipment, net
    34,027,386  
Inventories
    27,155,484  
Land use rights
    5,917,440  
Intangible asset - Trademark
    19,235,942  
Intangible asset - Patented technical know-how
    11,077,828  
Other intangible assets
    2,914,025  
Goodwill
    89,974,694  
Current liabilities
    (85,801,178 )
Dividend payable to Jinheng Holdings
    (7,458,800 )
Long-term debts
    (1,967,580 )
Deferred income taxes
    (1,661,674 )
Noncontrolling interests
    (4,174,053 )
         
Net assets acquired
  $ 145,425,532  

 
18

 
 
Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

3. 
Acquisitions and dispositions (Cont’d)

 
(a)
Acquisition and disposition of Applaud and acquisition of Jinheng BVI (Cont’d)

Satisfied by:-

Cash payment
  $ 44,612,275  
Outstanding amount
    100,813,257  
         
    $ 145,425,532  
         
Analysis of net outflow of cash and cash equivalents in respect of acquisition of a subsidiary :
  $ 44,612,275  
Cash payment        
Cash and cash equivalents acquired
    (3,668,108 )
         
Net cash outflow
  $ 40,944,167  

The trademark is deemed to have an infinite life and is not being amortized.  The patented technical know-how is amortized on a straight-line basis over its estimated useful life of 10 years from the date of acquisition.

As of September 30, 2010, the condensed consolidated balance sheets include goodwill identified upon the acquisition of 100% equity interest in Jinheng BVI amounting to $90 million which represents the excess of the initial purchase price of $145.4 million over the attributable share of fair value of acquired identifiable net assets of Jinheng BVI of $55.4 million at the time of acquisition on September 10, 2010. None of the goodwill recognized is expected to be deductible for income tax purposes. The Company acquired Jinheng BVI to enter the new automotive spare parts market and enjoy the growth opportunity of this business segment in future.

Based on an independent third-party appraisal, there were no other significant identifiable intangible assets (such as favorable or unfavorable lease arrangements) noted.  The excess of purchase price over the fair value of net tangible and intangible assets acquired, representing consideration paid for intangible assets which do not meet either the separability criterion or the contractual-legal criterion in accordance with ASC 805, was recorded as goodwill.

The following unaudited pro forma financial information presents the combined results of operations of the Company with the operations of Jinheng BVI for nine months ended September 30, 2010, as if the acquisition had occurred as of the beginning of fiscal year 2009:

   
(Pro Forma)
 
   
Nine months ended September 30
 
   
2010
   
2009
 
             
Revenue
  $ 310,309,097     $ 226,061,942  
Net income attributable to Wonder Auto Technology, Inc. common stockholders
  $ 26,114,507     $ 28,242,708  
Earnings per share: basic and diluted
  $ 0.77     $ 1.05  
 
 
19

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

3.
Acquisitions and dispositions (Cont’d)

 
(a)
Acquisition and disposition of Applaud and acquisition of Jinheng BVI (Cont’d)

This unaudited pro forma financial information is presented for informational purposes only.  The unaudited pro forma financial information may not necessarily reflect the future results of operations or the results of operations had the Company owned and operated this business as of the beginning of the period presented.

(b) 
Disposition of Jinzhou Jiade

On March 1, 2010, the Company disposed of its 100% equity interest in Jinzhou Jiade Machinery Co., Ltd. (“Jinzhou Jiade”) to two independent third parties at a total cash consideration of $2,980,959 which was settled in June, 2010. The following table summarizes the net assets of Jinzhou Jiade disposed of during the nine months ended September 30, 2010 :-

Net assets disposed of :-
 
Unaudited
 
       
Property, plant and equipment, net
  $ 1,709,036  
Land use right
    472,200  
Current assets
    1,693,493  
Current liabilities
    (1,881,860 )
Goodwill
    988,090  
         
      2,980,959  
Gain on disposal of interest in a subsidiary
    -  
         
Total consideration, satisfied by cash
  $ 2,980,959  
         
Analysis of net inflow of cash and cash equivalents in respect of disposal of a subsidiary :
       
Cash consideration
  $ 2,980,959  
Cash and cash equivalents disposed of
    (114,517 )
         
Net cash inflow
  $ 2,866,442  

 
(c) 
Acquisition of Wonder Auto Parts

On March 28, 2010, Jinzhou Halla entered into an equity transfer agreement (the “Equity Transfer Agreement”) with Jinzhou Economic and Technological Development Zone Bohai Iron Core Centre, a company incorporated in PRC for acquisition of its 25% equity interest in Jinzhou Wonder Auto Parts Co., Ltd (“Wonder Auto Parts”) at a consideration of RMB2,565,000 (equivalent to approximately $0.38 million). The consideration was settled in June, 2010.  Wonder Auto Parts is engaged in manufacturing and selling iron core for alternators.  

Investments in entities over which the Company does not have control, but has significant influence, are accounted for using the equity method of accounting.  The Company’s investment in Wonder Auto Parts is reported in the condensed consolidated balance sheets as investment in a non-consolidated affiliate.

 
20

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

3. 
Acquisitions and dispositions (Cont’d)

(c)           Acquisition of Wonder Auto Parts (Cont’d)

Condensed financial data of Wonder Auto Parts is as follows :-

   
Three months ended
   
Nine months ended
 
   
September 30,
   
September 30,
 
   
(Unaudited)
   
(Unaudited)
 
   
2010
   
2009
   
2010
   
2009
 
                         
Summary of Operations:-
                       
Revenues
  $ 1,017,399     $ -     $ 1,961,993     $ -  
Gross profit
    175,779       -       368,918       -  
Income from operations
    53,825       -       129,532       -  
Net income
  $ 42,960     $ -     $ 131,775     $ -  
                                 
Net income attributable to the Company
  $ 10,740     $ -     $ 32,944     $ -  

 
(d)
Acquisition of Vital Glee

On June 24, 2010, Friend Birch entered into a purchase agreement with Achieve Gain Group Limited (“Achieve Gain”), a company incorporated in BVI, pursuant to which Friend Birch agreed to acquire 100% equity interest in Vital Glee, for a total consideration of $15 million of which $8.7 million was settled in June 2010. The remaining consideration will be divided into 2 equal installments and will be settled by December 31, 2010 and June 30, 2011 respectively. The Company obtained control over Vital Glee on July 1, 2010 by appointing the sole director to Vital Glee. Vital Glee is an investment holding company and through its subsidiary, Jinzhou Lide engaged in automotive shock absorber manufacturing business.

The following table summarizes the allocation of the purchase price reflecting the amounts assigned to each of Vital Glee’s major classes of assets acquired and liabilities assumed at the date of acquisition :-

   
July 1,
 
   
2010
 
       
Current assets
  $ 613,756  
Property, plant and equipment, net
    480,890  
Intangible asset - Trademark
    6,457,707  
Intangible asset - Customer contracts
    1,909,036  
Intangible asset - Technical know-how
    1,220,425  
Goodwill
    5,100,551  
Deferred income taxes
    (782,365 )
         
Net assets acquired
  $ 15,000,000  
 
 
21

 
Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

3. 
Acquisitions and dispositions (Cont’d)

(d) 
Acquisition of Vital Glee (Cont’d)

Satisfied by:-

Cash payment
  $
8,700,000
 
Outstanding amount
   
6,300,000
 
         
    $
15,000,000
 
         
Analysis of net outflow of cash and cash equivalents in respect of acquisition of a subsidiary :
       
Cash payment
  $
8,700,000
 
Cash and cash equivalents acquired
   
(703,989
)
         
Net cash outflow
  $
7,996,011
 

The trademark is deemed to have an infinite life and not being amortized.  The customer contracts and technical know-how are amortized on a straight-line basis over their estimated useful lives of 10 years from the date of acquisition.

As of September 30, 2010, the condensed consolidated balance sheets include goodwill identified upon the acquisition of 100% equity interest in Vital Glee amounting to $5.1 million which represents the excess of the initial purchase price of $15.0 million over the attributable share of fair value of acquired identifiable net assets of Vital Glee of $9.9 million at the time of acquisition on June 30, 2010. None of the goodwill recognized is expected to be deductible for income tax purposes. The Company acquired Vital Glee to obtain the production know-how related to shock absorbers and the trademark of WATG.

Based on an independent third-party appraisal, there were no other significant identifiable intangible assets (such as favorable or unfavorable lease arrangements) noted.  The excess of purchase price over the fair value of net tangible and intangible assets acquired, representing consideration paid for intangible assets which do not meet either the separability criterion or the contractual-legal criterion in accordance with ASC 805, was recorded as goodwill.

No unaudited pro forma financial information was presented as Vital Glee and its subsidiaries did not have any operations before acquisition by the Company.

 
22

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

4.
Summary of significant accounting policies

Principles of consolidation

The condensed consolidated financial statements include the accounts of the Company and its subsidiaries.  All significant inter-company accounts and transactions have been eliminated in consolidation.

Customer Contracts

Customer contracts are stated at cost less accumulated amortization. Amortization is provided on a straight-line basis over their estimated useful lives of 1 to 10 years from the date of acquisition.

Know-how

Know-how with infinite useful life is determined to have an indefinite useful life pursuant to the purchase contracts.  It is not subject to amortization until its useful life is determined to be no longer indefinite.

Know-how with infinite useful life is stated at cost of purchase less any identified impairment losses in the annual impairment test.

Know-how with finite useful life is stated at cost less accumulated amortization.  Amortization is provided on a straight-line basis over their estimated useful lives of 5-10 years.

Concentrations of credit risk

Financial instruments that potentially subject the Company to significant concentrations of credit risk consist principally of cash and cash equivalents, restricted cash and trade and bills receivables.  As of September 30, 2010, substantially all of the Company’s cash and cash equivalents and restricted cash for issuing bills were held by major financial institutions located in the PRC, which management believes are of high credit quality.  With respect to trade and bills receivables, the Company extends credit based on an evaluation of the customer’s financial condition.  The Company generally does not require collateral for trade receivables and maintains an allowance for doubtful accounts of trade receivables.

Regarding bills receivable, they are undertaken by the banks to honor the payments at maturity and the customers are required to place deposits with the banks equivalent to certain percentage of the bill’s amount as collateral.  These bills receivable can be sold to any third party at a discount before maturity.  The Company does not maintain allowance for bills receivable in the absence of bad debt experience and the payments are undertaken by the banks.

 
23

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

4. 
Summary of significant accounting policies (Cont’d)

Concentrations of credit risk (Cont’d)

During the reporting periods, customers representing 10% or more of the Company’s consolidated sales are :-

   
Three months ended
   
Nine months ended
 
   
September 30,
   
September 30,
 
   
(Unaudited)
   
(Unaudited)
 
   
2010
   
2009
   
2010
   
2009
 
                         
Harbin Dongan Automotive Engine Manufacturing Company Limited
  $ 2,944,342     $ 6,252,524     $ 15,331,153     $ 15,863,696  
Beijing Hyundai Motor Company
    4,386,480       9,313,686       13,270,843       23,416,316  
                                 
    $ 7,330,822     $ 15,566,210     $ 28,601,996     $ 39,280,012  

Impairment of long-lived assets

Long-lived assets are tested for impairment in accordance with ASC 360-10-45 “Impairment or Disposal of Long-Lived Assets” (previously SFAS No. 144).  The Company periodically evaluates potential impairment whenever events or changes in circumstances indicate that the carrying amount of the assets may not be recoverable.  The Company recognizes impairment of long-lived assets and investment in an affiliate in the event that the net book values of such assets exceed the future undiscounted cashflows attributable to such assets.  During the reporting periods, the Company has not identified any indicators that would require testing for impairment.

Fair value of financial instruments

ASC 820 requires the disclosure of the estimated fair value of financial instruments including those financial instruments for which the fair value option was not elected.  Except for secured borrowings disclosed as below, the carrying amounts of the financial assets and liabilities approximate to their fair values due to short maturities or because the applicable interest rates approximate the current market rates :-

   
As of September 30, 2010
   
As of December 31, 2009
 
   
(Unaudited)
   
(Audited)
 
   
Carrying
         
Carrying
       
   
amount
   
Fair value
   
amount
   
Fair value
 
                         
Secured borrowings
  $ 139,286,884     $ 139,608,235     $ 77,991,500     $ 79,500,520  

The fair values of secured borrowings are estimated using discounted cash flow analyses, based on the Company’s current incremental borrowing rates for similar types of borrowing arrangements.

 
24

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

4. 
Summary of significant accounting policies (Cont’d)

Recently issued accounting pronouncements

Accounting for Transfers of Financial Assets (Included in amended Topic ASC 860 “Transfers and Servicing”, previously Statement of Financial Accounting Standards (“SFAS”) No. 166, “Accounting for Transfers of Financial Assets - an Amendment of Financial Accounting Standard Board (“FASB”) Statement No. 140.”).  The amended topic addresses information a reporting entity provides in its financial statements about the transfer of financial assets; the effects of a transfer on its financial position, financial performance, and cash flows; and a transferor’s continuing involvement in transferred financial assets.  Also, the amended topic removes the concept of a qualifying special purpose entity, limits the circumstances in which a transferor derecognizes a portion or component of a financial asset, defines participating interest and enhances the information provided to financial statement users to provide greater transparency. The amended topic is effective for the first annual reporting period beginning after November 15, 2009 and was effective for us as of January 1, 2010.  The adoption of this amended topic has no material impact on the Company’s financial statements.

Consolidation of Variable Interest Entities - Amended (Included in amended Topic ASC 810 “Consolidation”, previously SFAS 167 “Amendments to FASB Interpretation No. 46(R)”).  The amended topic requires an enterprise to perform an analysis to determine the primary beneficiary of a variable interest entity; to require ongoing reassessments of whether an enterprise is the primary beneficiary of a variable interest entity and to eliminate the quantitative approach previously required for determining the primary beneficiary of a variable interest entity.  The amended topic also requires enhanced disclosures that will provide users of financial statements with more transparent information about an enterprise’s involvement in a variable interest entity. The amended topic is effective for the first annual reporting period beginning after November 15, 2009 and will be effective for us as of January 1, 2010.  The adoption of this amended topic has no material impact on the Company’s financial statements.

The FASB issued Accounting Standards Update (ASU) No. 2009-13, Revenue Recognition (Topic 605): Multiple Deliverable Revenue Arrangements - A Consensus of the FASB Emerging Issues Task Force.”  This update provides application guidance on whether multiple deliverables exist, how the deliverables should be separated and how the consideration should be allocated to one or more units of accounting.  This update establishes a selling price hierarchy for determining the selling price of a deliverable.  The selling price used for each deliverable will be based on vendor-specific objective evidence, if available, third-party evidence if vendor-specific objective evidence is not available, or estimated selling price if neither vendor-specific or third-party evidence is available.  The Company will be required to apply this guidance prospectively for revenue arrangements entered into or materially modified after January 1, 2011; however, earlier application is permitted.  The management is in the process of evaluating the impact of adopting this ASU on the Company’s financial statements.
 
 
25

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

4. 
Summary of significant accounting policies (Cont’d)

Recently issued accounting pronouncements (Cont’d)

The FASB issued ASU 2010-06, Improving Disclosures about Fair Value Measurements.  ASU 2010-06 amends ASC Topic 820 to require the following additional disclosures regarding fair value measurements: (i) the amounts of transfers between Level 1 and Level 2 of the fair value hierarchy; (ii) reasons for any transfers in or out of Level 3 of the fair value hierarchy and (iii) the inclusion of information about purchases, sales, issuances and settlements in the reconciliation of recurring Level 3 measurements.  ASU 2010-06 also amends ASC Topic 820 to clarify existing disclosure requirements, requiring fair value disclosures by class of assets and liabilities rather than by major category and the disclosure of valuation techniques and inputs used to determine the fair value of Level 2 and Level 3 assets and liabilities.  With the exception of disclosures relating to purchases, sales, issuances and settlements of recurring Level 3 measurements, ASU 2010-06 was effective for interim and annual reporting periods beginning after December 15, 2009.  The disclosure requirements related to purchases, sales, issuances and settlements of recurring Level 3 measurements will be effective for financial statements for annual reporting periods beginning after December 15, 2010.  The management is in the process of evaluating the effect of disclosure requirements related to purchases, sales, issuances and settlements of recurring Level 3 measurements on the Company’s financial statements is currently not yet in a position to determine such effects.

The FASB issued ASU No. 2010-02, “Consolidation (Topic 810) Accounting and Reporting for Decreases in Ownership of a Subsidiary - a Scope Clarification”. This amendment affects entities that have previously adopted Topic 810-10 (formally SFAS 160).  It clarifies the decrease in ownership provisions of Subtopic 810-10 and removes the potential conflict between guidance in that Subtopic and asset derecognition and gain or loss recognition guidance that may exist in other US GAAP.  An entity will be required to follow the amended guidance beginning in the period that it first adopts FAS 160 (now included in Subtopic 810-10).  For those entities that have already adopted FAS 160, the amendments are effective at the beginning of the first interim or annual reporting period ending on or after December 15, 2009.  The amendments should be applied retrospectively to the first period that an entity adopted FAS 160. The adoption of this ASU update has no material impact on the Company’s financial statements.

In February 2010, the FASB issued ASU 2010-09, Subsequent Events: Amendments to Certain Recognition and Disclosure Requirements, which amends FASB ASC Topic 855, Subsequent Events.  The update provides that SEC filers, as defined in ASU 2010-09, are no longer required to disclose the date through which subsequent events have been evaluated in originally issued and revised financial statements.  The update also requires SEC filers to evaluate subsequent events through the date the financial statements are issued rather than the date the financial statements are available to be issued.  The Company adopted ASU 2010-09 upon issuance. The adoption of this ASU has no material impact on the Company’s financial statements.

 
26

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

5.
Net finance costs

   
Three months ended
   
Nine months ended
 
   
September 30,
   
September 30,
 
   
(Unaudited)
   
(Unaudited)
 
   
2010
   
2009
   
2010
   
2009
 
                         
Interest income
  $ (300,775 )   $ (178,901 )   $ (495,451 )   $ (669,569 )
Interest expenses
    1,387,940       1,052,799       3,934,307       3,260,773  
Bills discounting charges
    960,201       39,951       1,067,246       358,779  
Bank charges
    55,106       135,080       139,556       316,170  
Net exchange loss (gain)
    681,670       413,808       (180,711 )     183,292  
Finance charges from early retirement benefits cost
    13,785       18,903       44,498       62,281  
                                 
    $ 2,797,927     $ 1,481,640     $ 4,509,445     $ 3,511,726  
 
6.
Income taxes

United States

Wonder Auto Technology, Inc. is subject to the United States of America Tax law at tax rate of 34%.  No provision for US federal income taxes has been made as the Company had no taxable income in this jurisdiction for the reporting period.

BVI

Wonder, Yearcity, Vital Glee and Jinheng BVI were incorporated in the BVI and, under the current laws of the BVI, are not subject to income taxes.

Hong Kong

Jinheng HK and Friend Birch are incorporated in Hong Kong and subject to profit tax rate of 16.5% on the assessable profits during the reporting period.

PRC

The PRC’s legislative body, the National People’s Congress, adopted the unified CIT Law on March 16, 2007.  This new tax law replaces the existing separate income tax laws for domestic enterprises and foreign-invested enterprises and became effective on January 1, 2008.  Under the new tax law, a unified income tax rates is set at 25% for both domestic enterprises and foreign-invested enterprises. However, there will be a transition period for enterprises, whether foreign-invested or domestic, that are currently receiving preferential tax treatments granted by relevant tax authorities.  Enterprises that are subject to an enterprise income tax rate lower than 25% may continue to enjoy the lower rate and will transit into the new tax rate over a five year period beginning on the effective date of the CIT Law.  Enterprises that are currently entitled to exemptions for a fixed term will continue to enjoy such treatment until the exemption term expires.  Preferential tax treatment will continue to be granted to industries and projects that qualify for such preferential treatments under the new tax law.

 
27

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

6. 
Income taxes (Cont’d)

PRC (cont’d)

Pursuant to the income tax rules and regulations of the PRC, provision for PRC income tax of the PRC subsidiaries is calculated based on the following rates : -

       
Period ended September 30,
 
   
Notes:-
 
2010
   
2009
 
                 
Jinzhou Halla and Jinheng Automotive
 
(a)
    15 %     15 %
                     
Jinzhou Wanyou
 
(b)
    12.5 %     12.5 %
                     
Jinzhou Karham
 
(b)
    12.5 %     0 %
                     
Fuxin Huirui
 
(b)
    12.5 %     0 %
                     
Jinan Worldwide
 
(b)
    12.5 %     12.5 %
                     
Shenyang Jinbei
 
(b)
    12 %     10 %
                     
Jinzhou Dongwoo, Wonder Motor, Jinzhou Wonder, Jinzhou Hanhua, Jinzhou Lida, Jinzhou Lide, Jinzhou Huayi, Beijing Sega and Hafei Jinheng
        25 %     25 %

Notes :-

 
(a)
Jinzhou Halla and Jinheng Automotive are an “encouraged hi-tech enterprise” and entitle to reduce the tax rate to 15% from 2009 to 2011.

 
(b)
Entities entitled to a tax holiday in which they are fully exempted from the PRC income tax for 2 years starting from their first profit-making year after netting off accumulated tax losses, followed by a 50% reduction in the PRC income tax for the next 3 years (“tax holidays”). Any unutilised tax holidays will continue until expiry while tax holidays were deemed to start from January 1, 2008, even if the entity was not yet making profit after netting off its accumulated tax losses. Jinzhou Karham and Fuxin Huirui are in the third year of tax holidays. Shenyang Jinbei is in the fourth year of tax holidays.  Jinzhou Wanyou and Jinan Worldwide are in the fourth year and fifth year of their tax holidays, respectively.
 
 
28

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

7. 
Earnings per share

 
During the reporting periods, certain share-based awards were not included in the computation of diluted earnings per share because they were anti-dilutive. Accordingly, the basic and diluted earnings per share are the same.

8. 
Inventories
   
September 30,
   
December 31,
 
   
2010
   
2009
 
   
(Unaudited)
   
(Audited)
 
             
Raw materials
  $ 23,095,886     $ 11,018,873  
Work-in-progress
    9,019,985       5,123,749  
Finished goods
    52,151,427       36,282,415  
                 
      84,267,298       52,425,037  
Provision for obsolete inventories
    (1,669,967 )     (1,305,475 )
                 
Net
  $ 82,597,331     $ 51,119,562  

9. 
Amounts due from related companies
   
September 30,
   
December 31,
 
   
2010
   
2009
 
   
(Unaudited)
   
(Audited)
 
             
Shenyang Brilliance Jinbei Automotive Co., Ltd. (“Brilliance Jinbei”) - Note 9(a)
  $ 9,645,732       -  
Shenyang Jinbei Johnson Controls Automotive Interiors Co., Ltd. (“Jinbei Johnson”) - Note 9(a)
    374,519       -  
Shenyang Jinbei Vehicle Manufacturing Co., Ltd (“Jinbei Vehicle”) - Note 9(a)
    71,417       -  
Hafei Motor Co., Ltd. (“Hafei Motor”) - Note 9(b)
    613,566       -  
                 
    $ 10,705,234     $ -  

Notes :-

 
(a)
Brilliance Jinbei, Jinbei Johnson and Jinbei Vehicle are the subsidiaries of Shenyang Jinbei Automotive Company Limited (“Jinbei Automotive”), which is the minority stockholder of Shenyang Jinbei.

 
(b)
Hafei Motor is the minority stockholder of Hafei Jinheng.

 
(c)
All the amounts due from related companies are trade-related, interest free, unsecured and expected to be recovered within one year.
 
 
29

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

10. 
Intangible assets
   
September 30,
   
December 31,
 
   
2010
   
2009
 
   
(Unaudited)
   
(Audited)
 
             
Costs :-
           
Goodwill
  $ 118,300,691     $ 24,188,350  
Customer contracts
    1,958,089       49,053  
Know-how with infinite useful life
    1,873,887       1,683,645  
Know-how with finite useful life
    23,149,322       7,073,874  
Trademarks and patents
    25,791,983       417,905  
                 
      171,073,972       33,412,827  
Accumulated amortization
    (1,575,336 )     (505,107 )
                 
Net
  $ 169,498,636     $ 32,907,720  

11.           Property, plant and equipment
   
September 30,
   
December 31,
 
   
2010
   
2009
 
   
(Unaudited)
   
(Audited)
 
Costs :-
           
Buildings
  $ 47,217,516     $ 34,951,440  
Plant and machinery
    65,552,599       45,801,702  
Furniture, fixtures and equipment
    6,881,745       1,211,966  
Tools and equipment
    7,302,079       5,898,090  
Leasehold improvements
    1,236,872       1,058,371  
Motor vehicles
    2,380,950       1,937,461  
                 
      130,571,761       90,859,030  
Accumulated depreciation
    (23,792,201 )     (19,505,275 )
Construction in progress
    8,745,431       2,416,574  
                 
Net
  $ 115,524,991     $ 73,770,329  

 
(i)
Pledged property, plant and equipment

As of September 30, 2010, certain property, plant and equipment with aggregate net book value of $24,127,164 were pledged to bank to secure general banking facilities (note 13(a)).

 
(ii)
Construction in Progress

Construction in progress mainly comprises capital expenditures for construction of the Company’s new offices and factories.
 
12. 
Provision for warranty
   
(Unaudited)
 
       
Balance as of January 1, 2010
  $ 2,272,322  
Claims paid for the period
    (1,387,353 )
Additional provision for the period
    2,020,115  
Translation adjustments
    58,310  
         
Balance as of September 30, 2010
  $ 2,963,394  
 
 
30

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

13. 
Secured borrowings
   
September 30,
   
December 31,
 
   
2010
   
2009
 
   
(Unaudited)
   
(Audited)
 
             
Short-term borrowings
           
Short-term loans - Note 13(i)
  $ 112,156,900     $ 53,164,080  
Long-term loans - current portion
    6,250,627       3,918,699  
                 
      118,407,527       57,082,779  
                 
Long-term borrowings - Note 13(ii)
               
Interest bearing:-
               
     - at 3.50% per annum
    2,990,480       -  
     - at 5.35% per annum
    1,047,900       1,026,900  
     - at 5.47% per annum
    14,820,300       13,496,400  
     - at 6.95% per annum
    8,271,304       10,304,120  
                 
      27,129,984       24,827,420  
Less: current maturities
    (6,250,627 )     (3,918,699 )
                 
      20,879,357       20,908,721  
                 
    $ 139,286,884     $ 77,991,500  

Notes :-

 
(i)
The weighted-average interest rate for short-term loans as of September 30, 2010 and December 31, 2009, were 4.40% and 5.28%, respectively.

 
(ii)
Long term borrowings are repayable as follows :-

   
September 30,
   
December 31,
 
   
2010
   
2009
 
   
(Unaudited)
   
(Audited)
 
             
Within one year
  $ 6,250,627     $ 3,918,699  
After one year but within two years
    8,111,477       7,109,424  
After two years but within three years
    6,730,004       7,109,424  
After three years but within four years
    4,313,835       3,499,148  
After four years but within five years
    1,026,438       2,163,825  
After five years
    697,603       1,026,900  
                 
    $ 27,129,984     $ 24,827,420  

As of September 30, 2010, the Company’s had total bank lines of credit and borrowings there under as follows :-

Facilities granted
 
Granted
   
Amount utilized
   
Unused
 
                   
Secured borrowings
  $ 168,684,884     $ 139,286,884     $ 29,398,000  
 
 
31

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

13. 
Secured borrowings (Cont’d)

The above secured borrowings were secured by the following :-

 
(a)
Property, plant and equipment with carrying value of $24,127,164 (note 11);

 
(b)
Land use rights with carrying value of $5,170,901;

 
(c)
Restricted cash amount of $27,619,650;

 
(d)
Guarantees executed by third parties;

(e) 
Guarantees executed by Jinheng Holdings;

(f) 
Guarantees executed by Yuncong Ma, the Company’s director; and

 
(g)
Guarantees executed by a related company of which Mr. Qingjie Zhao (“Mr. Zhao”), a director of the Company, is a director and a shareholder.

During the reporting periods, there was no covenant requirement under the banking facilities granted to the Company.
 
14.
Payable to Jinheng Holdings and Achieve Gain

 
The amounts due to Jinheng Holdings and Achieve Gain represent dividend payable and the outstanding amounts payable for acquiring Jinheng BVI and Vital Glee. The amounts are interest-free, unsecured and expected to be settled within one year.
 
15. 
Share-based compensation

The Company granted share options to employees, directors and consultants as reward for services.

Stock option plan

In November 24, 2009, the Board of Directors approved the Wonder Auto Technology, Inc. 2009 Equity Incentive Plan (the “2009 Plan”).  The exercise price of the options granted, pursuant to the 2009 Plan, must be at least equal to the fair market value of the Company’s common stock at the date of grant. The 2009 plan will terminate on November 25, 2012.

Pursuant to the 2009 Plan, the Company issued 1,674,400 options with an exercise price of $11.48 per share on November 24, 2009.  One third of the options will vest and become exercisable on each of the filing dates of the Company’s Annual Reports on Form 10-K for fiscal years 2009, 2010 and 2011, respectively, upon the achievement of certain income thresholds which are set to be $23 million for fiscal year 2009, $34.5 million for fiscal year 2010 and $42.3 million for fiscal year 2011.

 
32

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

15. 
Share-based compensation (Cont’d)

A summary of share option plan activity for the nine months ended September 30, 2010 is presented below :-

   
 
Number of
stock
   
Weighted
average
exercise price
per stock
   
Weighted
average
remaining
contractual
   
 
Aggregate
intrinsic
 
   
options
   
option
   
term in years
   
value (1)
 
                         
Outstanding as of December 31, 2009
    1,674,400     $ 11.48       1.6     $ -  
- Granted
    -       -               -  
- Exercised
    -       -               -  
- Forfeited
    -       -               -  
- Expired
    -       -               -  
                                 
Outstanding as of September 30, 2010
    1,674,400       11.48       1.1       -  
                                 
Exercisable as of September 30, 2010
    558,133       11.48       0.1       -  
                                 
Options vested or expected to vest as of September 30, 2010
    558,133     $ 11.48       0.1     $ -  

 
(1)
No aggregate intrinsic value as the exercise price of options ($11.48) is in excess of the values of the Company’s closing stock price as of September 30, 2010 ($8.51).

The grant-date fair values of options granted for 2009, 2010 and 2011 are $3.47, $7.22 and $8.91 per share respectively. Compensation expense of $1,634,895 and $4,904,685 arising from abovementioned share options granted was recognized for three months ended September 30, 2010 and nine months ended September 30, 2010 respectively.

The fair values of the above option awards were estimated on the date of grant using theBlack-Scholes Option Valuation Model and graded vesting method together with the followingassumptions.

   
2009
   
2010
   
2011
 
                   
Expected volatility
    80.02 %     127.81 %     140.72 %
Expected dividends
 
Nil
   
Nil
   
Nil
 
Expected life
 
1.4 years
   
2.4 years
   
3.4 years
 
Risk-free interest rate
    0.28 %     0.73 %     1.22 %

As of September 30, 2010, there were unrecognized compensation costs of $4,862,793 relatedto the above non-vested share options which is expected to be recognized over the 1.6 years.
 
 
33

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

16.
Commitments and contingencies

 
(a)
Capital commitment

As of September 30, 2010, the Company had capital commitments amounting to $2,932,841 in respect of the acquisition of property, plant and equipment which were contracted for but not provided in the financial statements.

 
(b)
Operating lease arrangement

As of September 30, 2010, the Company had no non-cancelable operating leases for its property, plant and equipment, machineries and office.

The rental expense relating to the operating leases was $Nil and $499,784 for the nine months ended September 30, 2010 and 2009 respectively.

 
(c)
Guarantee

During the period, the Company has acted as guarantor for bank loans amounting to approximately $18.0 million granted to two independent third parties. These third parties also provided guarantees for bank loans amounting to approximately $15.8 million granted to the Company (Note 13(d)).  None of our directors, director nominees or executive officers are involved in the normal operation of, or investing in the business of the guaranteed third parties.  All the third parties have a healthy financial position as of September 30, 2010.

All the above guarantees have no recourse provision that would enable the Company to recover from third parties of any amounts paid under the guarantees and any assets held either as collateral or by third parties that the Company can obtain or liquidate to recover all or a portion of the amounts paid under the guarantees.

 
34

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

16.
Commitments and contingencies (Cont’d)

 
(c)
Guarantee (Cont’d)

If the third parties fail to perform under their contractual obligation, the Company will make future payments including the contractual principal amounts, related interests and penalties.

The following table summarizes the Company’s maximum exposure as of September 30, 2010 in relation to the guarantees given to the third parties :-

Guarantee
 
Banking
facilities date
   
 
Expiry date
   
Interest rate
(per annum)
   
Loans
amount
   
Principal
repaid up to
September 30,
2010
   
Outstanding
as of
 September 30,
2010
   
Outstanding
interest
expense as of
September 30,
2010
   
Interest
expense from
October 1,
2010 to expiry
date
   
 
Estimated
maximum
exposure
 
                                                       
Third party A
    5.2010       4.2011       5.31 %   $ 2,994,000     $ -     $ 2,994,000     $ 26,497     $ 92,739     $ 3,113,236  
Third party B
    8.2010       7.2011       5.31 %     4,491,000       -       4,491,000       39,745       198,727       4,729,472  
      1.2010       12.2010       5.31 %     3,742,500       -       3,742,500       49,682       49,682       3,841,864  
      3.2010       2.2011       5.31 %     4,491,000               4,491,000       19,873       99,363       4,610,236  
      11.2009       10.2010       5.31 %     2,245,500       -       2,245,500       19,873       9,936       2,275,309  
                                                                         
                            $ 17,964,000     $ -     $ 17,964,000     $ 155,670     $ 450,447     $ 18,570,117  

Management has assessed the fair value of the obligation arising from the above financial guarantees and considered it is immaterial to the consolidated financial statements.  Therefore, no obligations and charges in respect of the above guarantees were recognized during the reporting periods and as of September 30, 2010.

The Company has never incurred costs to settle liabilities in relation to these guarantee agreements.  As of September 30, 2010, the Company had not accrued a liability for these guarantees because the likelihood of incurring a payment obligation in connection with these guarantees is remote.

 
35

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

17.
Defined contribution plan

Pursuant to the relevant PRC regulations, the Company is required to make contributions at a rates of 30.6% to 45% of employees’ salaries and wages to a defined contribution retirement scheme organized by a state-sponsored social insurance plan in respect of the retirement benefits for the Company’s employees in the PRC.  The only obligation of the Company with respect to retirement scheme is to make the required contributions under the plan.  No forfeited contribution is available to reduce the contribution payable in the future years. The defined contribution plan contributions were charged to the condensed consolidated statements of income.  The Company contributed $3,250,625 and $2,266,795 for the nine months ended September 30, 2010 and 2009 respectively.

 
36

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

18.
Segment information

The Company uses the “management approach” in determining reportable operating segments.  The management approach considers the internal organization and reporting used by the Company’s chief operating decision maker for making operating decisions and assessing performance as the source for determining the Company’s reportable segments.  Management, including the chief operating decision maker, reviews operating results solely by monthly revenue of alternators, starters, rods and shafts, valves and tappets and automotive safety products and operating results of the Company and, as such, the Company has determined that the Company has four operating segments as defined by ASC 280, “Segments Reporting” (previously SFAS 131) :- Alternators, starters, rods and shafts valves and tappets and automotive safety products.

   
Alternators
   
Starters
   
Rods and shafts
   
Valves and Tappets
   
Automotive safety products
   
Total
 
   
Nine months ended
   
Nine months ended
   
Nine months ended
   
Nine months ended
   
Nine months ended
   
Nine months ended
 
   
September 30,
   
September 30,
   
September 30,
   
September 30,
   
September 30,
   
September 30,
 
   
(Unaudited)
   
(Unaudited)
   
(Unaudited)
   
(Unaudited)
   
(Unaudited)
   
(Unaudited)
 
   
2010
   
2009
   
2010
   
2009
   
2010
   
2009
   
2010
   
2009
   
2010
   
2009
   
2010
   
2009
 
                                                                         
Revenue from external customers
  $ 64,931,638     $ 53,010,493     $ 64,554,360     $ 48,357,149     $ 24,413,133     $ 14,433,097     $ 47,594,072     $ 32,788,099     $ 9,416,037     $ -     $ 210,909,240     $ 148,588,838  
Interest income
    148,044       75,488       141,488       66,597       92,827       11,046       49,829       516,242       4,607       -       436,795       669,373  
Interest expenses
    1,858,762       1,257,505       1,716,208       1,203,520       402,314       88,077       824,715       1,070,450       199,554       -       5,001,553       3,619,552  
Amortization
    110,753       109,970       92,550       82,390       909,939       1,374       88,610       88,445       9,381       -       1,211,233       282,179  
Depreciation
    1,279,412       1,222,557       1,410,197       955,531       527,968       332,057       1,794,894       1,624,895       350,879       -       5,363,350       4,135,040  
Segment profit
    8,089,177       7,414,933       6,426,267       5,645,040       4,489,760       3,249,381       9,493,227       4,831,344       1,479,487       -       29,977,918       21,140,698  
Expenditure for segment assets
  $ 1,580,508     $ 2,162,837     $ 1,576,916     $ 1,904,149     $ 3,883,777     $ 831,898     $ 5,250,273     $ 1,308,329     $ 1,063,999     $ -     $ 13,355,473     $ 6,207,213  

   
Alternators
   
Starters
   
Rods and shafts
   
Valves and Tappets
   
Automotive safety
products
   
Total
 
   
Three months ended
   
Three months ended
   
Three months ended
   
Three months ended
   
Three months ended
   
Three months ended
 
   
September 30,
   
September 30,
   
September 30,
   
September 30,
   
September 30,
   
September 30,
 
   
(Unaudited)
   
(Unaudited)
   
(Unaudited)
   
(Unaudited)
   
(Unaudited)
   
(Unaudited)
 
   
2010
   
2009
   
2010
   
2009
   
2010
   
2009
   
2010
   
2009
   
2010
   
2009
   
2010
   
2009
 
                                                                         
Revenue from external customers
  $ 22,687,922     $ 21,201,583     $ 23,029,802     $ 20,070,969     $ 9,364,046     $ 4,755,762       14,332,274     $ 12,933,290     $ 9,416,037     $ -     $ 78,830,081     $ 58,961,604  
Interest income
    111,003       41,017       107,466       37,489       25,115       5,826       20,455       94,496       4,607       -       268,646       178,828  
Interest expenses
    890,008       405,001       860,070       457,216       139,928       27,254       258,581       203,279       199,554       -       2,348,141       1,092,750  
Amortization
    42,621       33,419       31,884       30,716       354,943       458       29,619       29,485       9,381       -       468,448       94,078  
Depreciation
    429,501       365,577       491,774       399,831       192,935       113,336       604,041       543,814       350,879       -       2,069,130       1,422,558  
Segment profit
    2,733,165       2,850,327       2,042,618       2,177,896       1,695,581       914,798       2,921,968       2,149,597       1,479,487       -       10,872,819       8,092,618  
Expenditure for segment assets
  $ 272,366     $ 959,561     $ 147,721     $ 851,950     $ 1,719,008     $ 541,006     $ 2,027,398     $ 737,103     $ 1,063,999     $ -     $ 5,230,492     $ 3,089,620  

   
Alternators
   
Starters
   
Rods and shafts
   
Valves and Tappets
   
Automotive safety products
   
Total
 
   
September 30,
   
December 31,
   
September 30,
   
December 31,
   
September 30,
   
December 31,
   
September 30,
   
December 31,
   
September 30,
   
December 31,
   
September 30,
   
December 31,
 
   
2010
   
2009
   
2010
   
2009
   
2010
   
2009
   
2010
   
2009
   
2010
   
2009
   
2010
   
2009
 
   
(Unaudited)
   
(Audited)
   
(Unaudited)
   
(Audited)
   
(Unaudited)
   
(Audited)
   
(Unaudited)
   
(Audited)
   
(Unaudited)
   
(Audited)
   
(Unaudited)
   
(Audited)
 
                                                                         
Segment assets
  $ 114,145,498     $ 99,396,049     $ 95,948,121     $ 90,140,219     $ 88,879,831     $ 61,480,760     $ 94,472,629     $ 71,258,841     $ 261,117,066     $ -     $ 654,563,145     $ 322,275,869  
 
 
37

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

18.
Segment information (Cont’d)

A reconciliation is provided for unallocated amounts relating to corporate operations which is not included in the segment information.

   
Three months ended
   
Nine months ended
 
   
September 30,
   
September 30,
 
   
(Unaudited)
   
(Unaudited)
 
   
2010
   
2009
   
2010
   
2009
 
                         
Total consolidated revenue
  $ 78,830,081     $ 58,961,604     $ 210,909,240     $ 148,588,838  
                                 
Total profit for reportable segments
  $ 10,872,819     $ 8,092,618     $ 29,977,918     $ 21,140,698  
Unallocated amounts relating to
                               
operations :
                               
Interest income
    32,129       73       58,656       196  
Equity in net (loss) income of
                               
non-consolidated affiliates
    (37,004 )     -       722,754       -  
Gain on disposal of a
                               
non-consolidated affiliate
    5,264,070       -       5,264,070       -  
Other income
    -       1,744       -       3,109  
Finance costs
    (872 )     (412 )     (1,513 )     (1,277 )
Amortization
    (14,915 )     (5,237 )     (44,502 )     (15,709 )
Depreciation
    (62,331 )     (36,089 )     (184,799 )     (104,750 )
Share-based compensation
    (1,634,895 )     -       (4,904,685 )     -  
Other general expenses
    (789,050 )     (195,764 )     (1,770,857 )     (571,510 )
                                 
Income before income taxes and
                               
noncontrolling interests
  $ 13,629,951     $ 7,856,933     $ 29,117,042     $ 20,450,757  
 
   
September 30,
   
December 31,
 
   
2010
   
2009
 
   
(Unaudited)
   
(Audited)
 
             
Assets
           
             
Total assets for reportable segments
  $ 654,563,145     $ 322,275,869  
Cash and cash equivalents
    21,519,418       28,037,032  
Other receivables
    99,779       8,177,536  
Deposits for acquisition of property, plant and equipment
    73,239       96,863  
Inventories
    132,882       185,354  
Intangible assets
    362,232       383,719  
Land use right
    931,926       927,240  
Property, plant and equipment
    3,210,631       2,168,542  
                 
    $ 680,893,252     $ 362,252,155  
 
 
38

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

18.
Segment information (Cont’d)

All of the Company’s long-lived assets are located in the PRC.  Geographic information about the revenues, which are classified based on the customers, is set out as follows :-

   
Three months ended
   
Nine months ended
 
   
September 30,
   
September 30,
 
   
(Unaudited)
   
(Unaudited)
 
   
2010
   
2009
   
2010
   
2009
 
                         
PRC
  $ 70,974,774     $ 52,654,205     $ 187,573,501     $ 132,783,338  
South Korea
    1,301,032       1,997,778       4,469,847       4,403,311  
Brazil
    2,551,018       1,509,202       6,609,562       4,873,493  
Mexico
    464,782       -       1,734,501       10,725  
United States
    3,053,248       524,373       9,562,274       2,347,994  
Others
    485,227       2,276,046       959,555       4,169,977  
                                 
Total
  $ 78,830,081     $ 58,961,604     $ 210,909,240     $ 148,588,838  
 
19.
Related party transactions

Apart from the information as disclosed in notes 3, 9, 13 and 14 to the financial statements, the Company has entered into following transactions with its related parties :-

   
Three months ended
September 30,
   
Nine months ended
September 30,
 
   
2010
   
2009
   
2010
   
2009
 
                         
Sales of air bags systems or other automotive components to :-
                       
- Brilliance Jinbei
  $ 1,486,954     $ -     $ 1,486,954     $ -  
- Jinbei Vehicle
  $ 12,249     $ -     $ 12,249     $ -  
                                 
Purchase of raw materials from:-
                               
- Wonder Auto Parts
  $ 639,016     $ -     $ 1,362,179     $ -  
 
 
39

 

Wonder Auto Technology, Inc.
Notes to Condensed Consolidated Financial Statements
(Stated in US Dollars)

20.
Subsequent events

The Company evaluated all events or transactions that occurred through the date the financial statements were issued and have determined that, except for the transactions described below, there are no material subsequent events or transactions which would require recognition or disclosure in the condensed consolidated financial statements.

 
(a)
On November 3, 2010, Yearcity entered into a purchase agreement with two independent third parties pursuant to which it agreed to acquire their 65% equity interest in a company  for a total consideration of RMB25,605,100 (equivalent to approximately $3.83 million) of which RMB12,802,550 (equivalent approximately to $1.91 million) was settled in November 2010. The remaining consideration will be settled in December, 2010. This company is engaged in manufacturing and selling of engine valves for automotive business.

 
(b)
On November 8, 2010, Friend Birch entered into a share purchase agreement with China Wonder Limited (“China Wonder”), under which Friend Birch agreed to acquire from China Wonder its 100% equity interest in Creative Legend Group Limited, a British Virgin Islands corporation (“Creative Legend”) for a total cash consideration of RMB30 million (equivalent to approximately $4.48 million). Creative Legend, through its Chinese subsidiaries, is primarily engaged in the manufacturing of machinery equipment mainly used in automotive industry.

Since Mr. Zhao, a director and a shareholder of the Company, is an executive director and 10.4% stockholder of China Wonder, the acquisition of 100% equity interest in Creative Legend from China Wonder constituted a related party transaction and was approved by the independent members of the Company’s board of directors.

 
40

 
 
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

Special Note Regarding Forward-Looking Statements

This Quarterly Report on Form 10-Q, including the following “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” contains forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended.  Forward-looking statements include, but are not limited to, statements pertaining to financial items, plans, strategies or objectives of management for future operations, our financial condition or prospects, and any other statement that is not historical fact, including any statement which is preceded by the word “anticipate,” “assume,” “believe,” “estimate,” “expect,” “intend,” or similar expressions. Specifically, statements in this Quarterly Report on Form 10-Q relating to the following, among other things, are forward-looking statements:

·
our expectations regarding the market for our automotive products;
·
our expectations regarding the continued growth of the automotive industry;
·
our beliefs regarding the competitiveness of our automotive products;
·
our expectations regarding the expansion of our manufacturing capacity;
·
our expectations with respect to increased revenue and earnings growth and our ability to increase our production volumes;
·
our future business development, results of operations and financial condition;
·
competition from other manufacturers of automotive electrical products;
·
the loss of any member of our management team;
·
our ability to integrate acquired subsidiaries and operations into existing operations;
·
market conditions affecting our equity capital;
·
our ability to successfully implement our selective acquisition strategy;
·
changes in general economic conditions; and
·
changes in accounting rules or the application of such rules.

For all forward-looking statements, we claim the protection of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are not guarantees and are based on our present intentions and on our present expectations and assumptions. These statements, intentions, expectations and assumptions involve risks and uncertainties, which are beyond our control, which could cause actual results or events to differ materially from those we anticipate or project.

Additional disclosures regarding factors that could cause our results and performance to differ from results or performance anticipated by this Report are discussed below under “Item 1A. – Risk Factors” and in other reports that we file with the SEC, including without limitation our Annual Report on Form 10-K for the fiscal year ended December 31, 2009, or the 2009 Form 10-K. Readers are urged to carefully review and consider the various disclosures made by us in this Report and our other filings with the SEC. These reports attempt to advise interested parties of the risks and factors that may affect our business, financial condition and results of operations and prospects.

Also, forward-looking statements represent our estimates and assumptions only as of the date of this report. You should not place undue reliance on these forward-looking statements, as events described or implied in such statements may not occur.
 
We assume no obligation to update any forward-looking statements publicly even if new information becomes available in the future.

Certain Terms

Except as otherwise indicated by the context, references in this report to “Company,” “WATG,” “we,” “us” and “our” are references to the combined business of Wonder Auto Technology, Inc., a Nevada corporation, and its subsidiaries on a consolidated basis.  Unless the context otherwise requires, all references to:
 
 
41

 

·
“Jinzhou Dongwoo” are references to Jinzhou Dongwoo Precision Co., Ltd., a corporation incorporated in the People’s Republic of China and an indirect, 50% owned subsidiary of the Company;
  
·
“Jinzhou Halla” are references to Jinzhou Halla Electrical Equipment Co., Ltd., a corporation incorporated in the People’s Republic of China and an indirect, wholly owned subsidiary of the Company;
   
·
“Jinzhou Wanyou” are references to Jinzhou Wanyou Mechanical Parts Co., Ltd., a corporation incorporated in the People’s Republic of China and an indirect, wholly owned subsidiary of the Company;
  
·
“Jinzhou Jinheng” are references to Jinzhou Jinheng Automotive Safety System Co., Ltd., a corporation incorporated in the People’s Republic of China and an indirect, wholly owned subsidiary of the Company;

·
“Jinan Worldwide” are references to Jinan Worldwide Auto-Accessory Limited., a corporation incorporated in the People’s Republic of China and an indirect, wholly owned subsidiary of the Company;

·
“Jinzhou Lide” are references to Jinzhou Jinzhou Lide Auto Shock Absorber Co., Ltd, a corporation incorporated in the People’s Republic of China and an indirect, wholly owned subsidiary of the Company;

·
“Jinzhou Huayi” are references to Jinzhou Huayi Xuanya Technology Co., Ltd, a corporation incorporated in the People’s Republic of China and an indirect, 45% owned subsidiary of the Company;

·
“Jinbei Jinheng” are references to Shenyang Jinbei Jinheng Automotive Safety System Co. Limited, a corporation incorporated in the People’s Republic of China and an indirect, 45% owned subsidiary of the Company;

·
“SEC” are references to the United States Securities and Exchange Commission;
   
· 
“Exchange Act” are to the Securities Exchange Act of 1934, as amended.
   
· 
“China” and “PRC” are references to People’s Republic of China;
   
· 
“RMB” are references to Renminbi, the legal currency of China; and
   
·
“U.S. dollar,” “$” and “US$” are references to the legal currency of the United States.

Overview 

Wonder Auto Technology, Inc. is a Nevada holding company whose China-based operating subsidiaries are primarily engaged in business of designing, developing, manufacturing and selling automotive electric parts, automotive safety products, suspension products and engine components. Our products include alternators, starters, airbags and pretensioners, steering wheels, engine valves and tappets, and rods and shafts for use in shock absorber systems. We have been producing alternators and starters in China since 1997, and according to the China Association of Automobile Manufacturers, in 2009 we ranked second and fourth in sales revenue in the Chinese market for automobile alternators and starters, respectively. Our subsidiary Jinzhou Jinheng has been designing and developing airbags for over 10 years.  We believe that we are the largest Chinese brand airbag manufacturer in terms of sales volume in 2009 and the biggest Chinese brand pretensioner manufacturer. Our subsidiary Jinan Worldwide has been producing engine valves and tappets for over 50 years. We believe we are now one of the largest manufacturers of engine valves and tappets in China. Our subsidiary Jinzhou Wanyou is supplying rods and shafts to suspension system manufacturers worldwide. We believed that we are one of the largest independent suppliers of rods and shafts for suspension system manufacturers in the world in terms of sales volume.

Our products are used in a wide range of passenger and commercial automobiles, and we are especially focused on the fast-growing small- to-medium sized engine passenger vehicle market in China. We sell our products primarily within China to well-known domestic and international automobile original equipment manufacturers, or OEMs, engine manufacturers and automotive parts suppliers. However, we are increasingly exporting our products to international markets.

 
42

 

Business Segment Information
 
Our business operations can be categorized into four segments based on the type of products we manufacture and sell, specifically (i) alternators, (ii) starters, (iii) rods and shafts, (iv) engine valves and tappets, and (v) airbags and pretensioners.

We manufacture and sell both our alternators and starters using largely the same facilities, personnel and other resources in our subsidiary Jinzhou Halla. Rods and shafts are mainly manufactured by our subsidiary Jinzhou Wanyou. Valves and tappets are manufactured by our subsidiary Jinan Worldwide. Airbags and pretensioners are developed and manufactured by our subsidiary Jinzhou Jinheng.  Our newly acquired subsidiary Jinheng BVI (defined below) also primarily manufactures automobile airbags, safety belts and steering wheels.

Additional information regarding our products can be found at Note 17 in our unaudited consolidated financial statements contained under Part I, Item I “FINANCIAL STATEMENTS” above.

Third Quarter Financial Performance Highlights

Despite the overall economic slowdown in the global economy, we continued to experience strong demand for our products during the third fiscal quarter of 2010, which resulted in continued growth in our sales revenue and net income. The automobile market in China, especially the market for small-to-medium engine automobiles, continued to expand in the third quarter of 2010 due, in part, to the implementation of new PRC consumption tax regulations and the promulgation of new regulations which urge government agencies to use tax breaks and incentives and preferential oil-pricing policies to encourage consumers to buy low-emission automobiles. We were able to capitalize on these policies and the overall growth trend in our market segments during the third fiscal quarter of 2010.
 
The following are some financial highlights for the third quarter of 2010:

·
Sales revenue increased 33.7% year-over-year to approximately $78.8 million;
·
Gross profit rose 48.2% year-over-year to approximately $20.7 million from approximately $14.0 million;
·
Net income attributable to Wonder Auto increased 83.5% year-over-year to approximately $11.9 million;
·
EPS was approximately $0.35, representing a 45.8% increase from approximately $0.24 compared with the third quarter of 2009;
·
Non-GAAP Net income attributable to Wonder Auto increased 108.6% year-over-year to approximately $13.6 million;
·
Non-GAAP EPS was approximately $0.40, representing a 66.1% increase from approximately $0.24 in the third quarter of 2009;
·
Sales revenue in China increased approximately $18.3 million, or 34.8% year-over-year, from approximately $52.7 million in the third quarter of 2009, or increased to 90.0% of total sales revenue from 89.3% in the third quarter of 2009.
·
Sales revenue from outside the PRC increased approximately $1.5 million, or 24.5% year-over-year, from approximately $6.3 million in the third quarter of 2009 to approximately $7.9 million for the third quarter of 2010. 

 
43

 

Our net income for the periods ended September 30, 2010 and 2009 was $11.9 million and $6.5 million, respectively. Our earnings per share for the periods ended September 30, 2010 and 2009 was $0.35 and $0.24, respectively. Our net income and earnings per share were materially impacted by non-cash share-based employee compensation recognized pursuant to Accounting Standard Codification (“ASC”) 718. On November 24, 2009, we granted options to purchase a total of 1,674,400 shares of our common stock to certain officers, directors and employees with an exercise price of $11.48 per share. As a result, we incurred a non-cash share-based employee compensation of $1.6 million and $4.9 million in the three and nine months ended September 30, 2010, respectively. In the table below, we have presented a non-GAAP financial disclosure to provide a quantitative analysis of the impact of the non-cash employee compensation on our net income and earnings per share. We caution readers that “Non-GAAP net income attributable to the company” and “Non-GAAP EPS” are non-GAAP measures and do not purport to be alternatives to operating income, net income or earnings per share as a measure of operating performance. Management believes that these measures are useful to investors and other users of our financial information in evaluating operating profitability because non-cash shared-based employee compensation does not require the use of current assets and management does not include it in its analysis of our financial results or how we allocate our resources. It is management’s intent to provide this non-GAAP financial information to enhance understanding of our GAAP financial statements and it should be considered by the reader in addition to, but not instead of, the financial statements prepared in accordance with GAAP. The non-GAAP measure of “Non-GAAP net income attributable to the company” and “Non-GAAP EPS” presented herein may be determined or calculated differently by other companies.

(all amounts in thousands of U.S. dollars)
 
(Unaudited)
 
Three Months Ended
September 30,
   
Nine Months Ended
September 30,
 
   
2010
   
2009
   
2010
   
2009
 
Net income attributable to Wonder Auto Technology, Inc. common stockholders
    11,941       6,507       24,367       17,054  
Share-based compensation
    1,635       -       4,905       -  
Non-GAAP net income attributable to Wonder Auto Technology, Inc. common stockholders
    13,575       6,507       29,272       17,054  
GAAP EPS
    0.35       0.24       0.72       0.63  
Non-GAAP EPS
    0.40       0.24       0.86       0.63  

Recent Development

On July 1, 2010, we acquired 100% of the equity interests in Vital Glee Development Limited, a corporation duly formed under the laws of British Virgin Islands (“Vital Glee”), for consideration of $15 million. The consideration is contingent on whether Vital Glee can achieve minimum net income of $1.6 million in the twelve months following the acquisition date. Vital Glee holds 100% of the equity interests in Jinzhou Lide, which is a manufacturer of shock absorber systems based in China. In connection with the acquisition of Vital Glee, we acquired patents, technical know-how and customer contracts, as well as the use of rights of the trademark “Wonder” for shock absorbers. In addition as a result of our acquisition of Vital Glee, we now have direct sales channels to OEMs for shock absorbers; whereas in the past we sold shock absorbers to distributors that then resold them to OEMs.

On July 2, 2010, we appointed Mr. Qingdong Zeng as our Chief Strategy Officer.  In such position, Mr. Zeng will oversee daily operations of our accounting, research and development, legal affairs and human resource functions and assist our Chief Executive Officer in the development and implementation of our overall strategies. Mr. Zeng has been our director since June 10, 2010 and our since December 2009. He has also been the president of our subsidiary Jinzhou Wanyou Mechanical Parts Co., Ltd. since September 2006.

As previously disclosed, on July 10, 2010, our wholly-owned subsidiary Vital Glee entered into a conditional disposal agreement (the “Conditional Disposal Agreement”) with Jinheng Automotive Safety Technology Holdings Limited (“Jinheng Holdings”), under which Vital Glee agreed to acquire from Jinheng Holdings its 100% equity interest in Jinheng (BVI) Ltd., a British Virgin Islands corporation (“Jinheng BVI”) for a total cash consideration of HK $1,130 million (approximately US$145.43 million). Jinheng BVI, through its Chinese subsidiaries, is primarily engaged in the manufacturing of automobile airbags, safety belts and steering wheels. From January 18, 2010 through July 10, 2010 we had a 20.02% equity interest in Jinheng Holdings through our strategic investment in the Applaud Group Limited (the “Applaud Group”). Additionally, Mr. Qingjie Zhao, our chairman, chief executive officer and president is on the board of directors of Jinheng Holdings. We disposed of our interest in the Applaud Group on July 10, 2010.
 
On September 10, 2010, Vital Glee completed the acquisition of Jinheng BVI pursuant to the terms of the Conditional Disposal Agreement. Under the Conditional Disposal Agreement, Vital Glee paid HK $348 million (approximately US$44.6 million) and issued three non-interest bearing promissory notes in the respective amounts of HK $169.5 million (approximately US$21.85 million), HK $169.5 million (approximately US$21.83 million) and HK $452 million (approximately US$58.22 million) to Jinheng Holdings, which will become payable at the 30th, 90th and 180th days after September 14, 2010, respectively.

 
44

 

Results of Operations

Three Months Ended September 30, 2010 Compared to Three Months Ended September 30, 2009

The following table sets forth key components of our results of operations for the periods indicated, in dollars and as a percentage of sales revenue.

(All amounts, other than percentages, in thousands of U.S. dollars)
 
Item
 
3-Month Period Ended
September 30, 2010
(Unaudited)
   
3-Month Period Ended
September 30, 2009
(Unaudited)
 
   
In
thousands
   
As a
percentage of
sales revenue
   
In
thousands
   
As a
percentage of
sales revenue
 
Sales revenue
  $ 78,830       100 %   $ 58,962       100 %
Cost of sales
    58,144       73.8 %     45,007       76.3 %
Gross profit
    20,686       26.2 %     13,954       23.7 %
Operating expenses
                               
Administrative expenses (included share-based compensation of $1,478 in 2010, $- in 2009)
    5,725       7.3 %     2,594       4.4 %
 Research and development costs (included share-based compensation of $275 in 2010, $- in 2009)
    1,871       2.4 %     488       0.8 %
Selling expenses (included share-based compensation of $65 in 2010, $- in 2009)
    2,787       3.5 %     2,080       3.5 %
Total operating expenses
    10,383       13.5 %     5,162       8.8 %
 Income before income taxes and non-controlling interests
    13,630       17.3 %     7,857       13.3 %
Income taxes
    1,170       1.5 %     940       1.6 %
Net income attributable to non-controlling interests
    520       0.7 %     410       0.7 %
 Net Income attributable to Wonder Auto Technology, Inc. common stockholders
    11,941       15.1 %     6,507       11.0 %
 
Sales Revenue. Our sales revenue is generated from sales of our alternator and starter products, rods and shafts, and engine valves and tappets. Sales revenue increased by approximately $19.9 million, or 33.7%, to approximately $78.8 million for the three months ended September 30, 2010, compared with approximately $59.0 million for the same period last year.  This increase was mainly due to the $9.4 million of sales revenue from the acquisition of Jinheng BVI, and partly attributable to the higher sales volume resulting from increased sales of our organic products to both new and existing customers both within and outside China and our expanded manufacturing capacity which allowed us to meet such increased demand.

 
45

 

Sales revenue from China increased by approximately $18.3 million, or 34.8%, to approximately $71.0 million in the third quarter of 2010, as compared to approximately $52.7 million for the same period last year. This increase was mainly attributable to the higher sales volume driven by the increased market demand for our products from both new and existing customers in the growing automobile market in China.  Sales revenue outside China increased by approximately $1.5 million, or 24.5%, to approximately $7.9 million in the third quarter of 2010, as compared to approximately $6.3 million for the same period last year. This increase was mainly attributable to the increased volume from our existing customers’ contracts worldwide as a result of greater customer acceptance of our products. Export sales accounted for approximately 10% of our total sales revenue in this quarter.

Sales Revenue by Product Segments
(all amounts, other than percentages, in thousands of U.S. dollars)

  
 
Three Months Ended September 30,
   
Percent change
 
Components of Sales Revenue
 
2010
   
2009
     
2010 v. 2009
 
Alternator
 
$
22,688
   
$
21,202
     
7.0
%
Starter
   
23,030
     
20,071
     
14.7
%
Rod and shaft
   
9,364
     
4,756
     
96.9
%
Engine valve and tappet
   
14,332
     
12,933
     
10.8
%
Airbags and pretensioners
   
9,416
     
-
     
100
%
Total sales revenue
   
78,830
     
58,962
     
33.7
%

Revenue By Geographic Areas
(all amounts in thousands of U.S. dollars)

  
 
Three Months Ended
September 30,
 
   
2010
   
2009
 
PRC
 
$
70,975
   
$
52,654
 
South Korea
   
1,301
     
1,998
 
Brazil
   
2,551
     
1,509
 
Mexico
   
465
     
-
 
United States
   
3,053
     
524
 
Others
   
485
     
2,276
 
Total
   
78,830
     
58,962
 

Sales revenue from alternators and starters was $22.7 million and $23.0 million respectively, in the three months ended September 30, 2010, as compared to $21.2 million and $20.1 million in the same quarter last year, respectively. Sales in China continue to be our major source of sales for alternators and starters. Sales revenue from sales of alternators and starters in China increased by approximately $5.8 million or 15.0% to approximately $44.4 million in the three months ended September 30, 2010 from $38.6 million in the same quarter in 2009. The increase mainly resulted from the overall growth in the automobile market in China, especially the market for mid-to-small engine automobiles.

Sales revenue from rods and shafts was $9.4 million in the three months ended September 30, 2010, an increase of $4.6 million from the same period last year. The increase was mainly due to export sales increases of approximately $3.0 million. Sales of engine valve and tappet were approximately $14.3 million in the third quarter of 2010, up $1.4 million from the same period last year. This increase was mainly attributable to an approximately $918,221 increase in domestic sales driven by increased sales volume.

Sales revenue from airbags and pretensioners was $9.4 million in the three months ended September 30, 2010.

Cost of Sales. Our cost of sales is primarily comprised of the costs of our raw materials, labor and overhead. Our cost of sales increased by approximately $13.1 million, or 29.2%, to approximately $58.1 million for the three months ended September 30, 2010 from approximately $45.0 million during the same period in 2009. This was mainly due to the consolidation of Jinheng BVI operating results, and the increase of our sales volume. As a percentage of sales revenue, the cost of sales decreased by approximately 2.5% to 73.8 % during the three months ended September 30, 2010 from 76.3 % for the same period of 2009. The percentage decrease in the third quarter of 2010 was mainly attributable to the improved gross margin on sales of our engine valves and tappets products resulting from the increased percentage of sales to the heavy duty engine sector which demands products that are usually sold at a higher per unit profit margin as compared the products used in lighter trucks and partly attributable to the improved gross margin on sales of rods and shafts.

 
46

 

Gross Profit. Our gross profit is equal to the difference between our sales revenue and our cost of sales. Our gross profit increased by approximately $6.7 million, or 48.2%, to approximately $20.7 million for the three months ended September 30, 2010, compared with approximately $14.0 million for the same period in 2009 as a result of increased sales volume driven by the strong market demand for our products.  Gross margin was 26.2% for the three-month period ended September 30, 2010, as compared to 23.7% of the same period last year.  Such increase was mainly due to the factors as discussed above.
 
Total Operating Expenses. Our total operating expenses increased by approximately $5.2 million, or 101.1%, to approximately $10.4 million for the three months ended September 30, 2010, as compared to approximately $5.2 million for the same period in 2009. As a percentage of sales revenue, our total expenses increased to 13.2% for the three months ended September 30, 2010, compared from 8.8% for the same period last year. The percentage increase was primarily due to the consolidation of Jinheng BVI for this quarter, and the increase of non-cash share-based compensation, and research and development expenses as discussed below.
 
Administrative Expenses. Administrative expenses consist of the costs associated with staff and support personnel who manage our business activities, and professional fees paid to third parties. Our administrative expenses increased by approximately $3.1 million, or 120.7%, to approximately $5.7 million for the three months ended September 30, 2010, from approximately $2.6 million for the same period last year. This increases were mainly due to the consolidation of the operating results of Vital Glee and Jinheng BVI for this quarter, third party professional fees paid in connection with such acquisitions, and the non-cash share-based compensation of approximately $1.6 million incurred this quarter as a result of the employee stock option grants awarded in November 2009, with the remainder being mostly due to the consolidation of Jinzhou Huayi. As a percentage of sales revenue, administrative expenses increased to 7.3% for the three months ended September 30, 2010, from 4.4% for same period last year. The increases were mainly due to the non-cash share-based compensation and the third party professional fees paid in connection with acquisitions.

Research and Development Expenses. Research and development expenses consist of amounts spent on developing new products and enhancing our existing products, and expenses of the R&D staff and support personnel. Our research and development expenses increased by approximately $1.4 million, or 283.8%, to approximately $1.9 million for the three months ended September 30, 2010, from $487,572 for the same period last year. As a percentage of sales revenue, research and development expenses increased to 2.4% for the three months ended September 30, 2010, from 0.8% for the same period last year. The increases were mainly due to the increased expenses associated with development of alternative energy vehicle components, with highly integrated automotive safety technology.

Selling Expenses. Selling expenses include the cost of salaries and fringe benefits of sales personnel, provision for products warranties, freight, warehouse expenses, advertising and promotional materials, sales commissions and other sales related costs. Our selling expenses increased by approximately $706,287, or 33.9%, to approximately $2.8 million for the three months ended September 30, 2010, from approximately $2.1 million for the same period last year. As a percentage of sales revenue, selling expenses remained stable at 3.5% for three months ended September 30, 2010 and 2009. The increases were mainly due to increased freight costs resulting from increased sales volume, as well as increased salary costs due to additional hires, higher commission costs due to increased sales and costs associated with advertising and promotional activities as discussed above, with the remainder being mostly due to the non-cash share-based compensation of $65,419 as a result of the employee stock option grants made in November 2009.

Net finance costs. Net finance costs include interest income, interest expenses, bill discounting charges and net exchange (gain) loss. Our net finance costs increased by $1.3 million, or 88.8% to $2.8 million for the three months ended on September 30, 2010 from $1.5 million for the same period last year. The increase of net finance costs was mainly due to increases in bills discounting charges of $920,250 and increases in interest expenses of $335,141 as compared to the same period last year.

Gain on disposal of Applaud. On July 10, 2010, we disposed of our investment in the Applaud Group for a total consideration of approximately $20.9 million which was determined by the current stock price of the Applaud Group as quoted on the Hong Kong Stock Exchange, and recorded a gain on disposal of a non-consolidated affiliate of approximately $5.3 million for the third quarter of 2010.

 
47

 
 
Income before Income Taxes and Non-controlling Interests. Income before income taxes and non-controlling interests increased by approximately $5.8 million or 73.5%, to approximately $13.6 million during the three months ended September 30, 2010 from approximately $7.9 million during the same period in 2009.  Income before income taxes as a percentage of sales revenue increased to 17.3% during the three months ended September 30, 2010, as compared to 13.3% for the same period last year due to the factors described above.
 
Income taxes. Our income taxes increased by $230,067, or 24.5%, to approximately $1.2 million for the three months ended September 30, 2010 from $939,622 for the same period last year due to our increased sales. Our effective income tax rate was approximately 8.6% for the third quarter in 2010, as compared to 12.0% for the same period last year.  Our income tax rate declined in part because under British Virgin Islands law we were not required to pay taxes on the $5.3 million gain on our disposal of the Applaud Group.

Net Income attributable to Non-controlling Interests. Our financial statements reflect an adjustment to our consolidated group net income, and our net income attributable to non-controlling interests increased by $109,446, or 26.7% to $519,736 for the third quarter in 2010 from $410,290 for the same period last year, reflecting the net income attributable to non-controlling interests held by third parties in Jinzhou Dong Woo, Jinzhou Hanhua, Jinzhou Karham, Jinzhou Huayi and Jinbei Jinheng.

Net Income attributable to Wonder Auto Technology, Inc. common stockholders. Our net income attributable to Wonder Auto Technology, Inc. common stockholders increased by approximately $5.4 million, or 83.5%, to approximately $11.9 million during the three months ended September 30, 2010 from approximately $6.5 million during the same period last year, as a result of the factors described above. 

Nine Months Ended September 30, 2010 Compared to Nine months Ended September 30, 2009
The following table sets forth key components of our results of operations for the periods indicated, in dollars and as a percentage of sales revenue.

(All amounts, other than percentages, in thousands of U.S. dollars)
 
Item
 
9-Month Period Ended
September 30, 2010
(Unaudited)
   
9-Month Period Ended
September 30, 2009
(Unaudited)
 
  
 
In
thousands
   
As a
percentage of
sales revenue
   
In
thousands
   
As a
percentage of
sales revenue
 
Sales revenue
  $ 210,909       100.0 %   $  148,589       100.0 %
Cost of sales
    157,446       74.7 %     112,321       75.6 %
Gross profit
    53,464       25.3 %     36,268       24.4 %
Operating expenses
                               
Administrative expenses (included share-based compensation of 4,433 in 2010, $- in 2009)
    15,744       7.5 %     7,662       5.2 %
 Research and development costs (included share-based compensation of 275 in 2010, $- in 2009)
    4,760       2.3 %     1,408       0.9 %
Selling expenses (included share-based compensation of 196 in 2010, $- in 2009)
    7,241       3.4 %     4,812       3.2 %
Total operating expenses
    27,744       13.2 %     13,882       9.3 %
 Income before income taxes and non-controlling interests
    29,117       13.8 %     20,451       13.8 %
Income taxes
    3,765       1.8 %     2,493       1.7 %
Net income attributable to non-controlling interests
    985       0.5 %     904       0.6 %
 Net Income attributable to Wonder Auto Technology, Inc. common stockholders
    24,367       11.6 %     17,054       11.5 %

 
48

 
 
Sales Revenue. Sales revenue increased by approximately $62.3 million, or 41.9%, to approximately $210.9 million for the nine months ended September 30, 2010, compared with approximately $148.6 million for the same period last year. This increase was mainly attributable to the higher sales volumes resulting from increased sales of our organic products to both new and existing customers both within and outside China and our expanded manufacturing capacity which allowed us to meet such increased demand, with the remainder being attributable to the $9.4 million of sales revenue from acquisition of Jinheng BVI.

Sales revenue from China increased by approximately $54.8 million, or 41.3%, to approximately $187.6 million in the nine months ended September 30, 2010, as compared to approximately $132.8 million for the same period last year. Sales revenue outside China increased by approximately $7.5 million, or 47.6%, to approximately $23.3 million in the nine months ended September 30, 2010, compared with approximately $15.8 million for the same period last year.

Sales Revenue by Product Segments
(all amounts, other than percentages, in thousands of U.S. dollars)
  
 
Nine Months Ended September 30,
   
Percent change
 
Components of Sales Revenue
 
2010
   
2009
     
2010 v. 2009
 
Alternator
 
$
64,932
   
$
53,010
     
22.5
%
Starter
   
64,554
     
48,357
     
33.5
%
Rod and shaft
   
24,413
     
14,433
     
69.1
%
Engine valve and tappet
   
47,594
     
32,788
     
45.2
%
Airbag and pretensioner
   
9,416
     
-
     
100
%
Total sales revenue
   
210,909
     
148,589
     
41.9
%

Revenue By Geographic Areas
(all amounts in thousands of U.S. dollars)
  
 
Nine Months Ended
September 30,
 
   
2010
   
2009
 
PRC
 
$
187,574
   
$
132,783
 
South Korea
   
4,470
     
4,403
 
Brazil
   
6,610
     
4,873
 
Mexico
   
1,735
     
11
 
United States
   
9,562
     
2,348
 
Others
   
960
     
4,170
 
Total
   
210,909
     
148,589
 
 
Sales revenue from alternators and starters was $64.9 million and $64.6 million respectively, in the nine months ended September 30, 2010, as compared to $53.0 million and $48.4 million in the same period last year, respectively. Sales in China continue to be our major source of sales for alternators and starters. Sales revenue from sales of alternators and starter in China increased by approximately $28.1 million or 29.4% to approximately $123.6 million in the nine months ended September 30, 2010 from $95.5 million of the same period in 2009. The increase mainly resulted from more demands for alternators and starters for mid-to-small sized engine vehicles.
  
Sales revenue from rods and shafts was $24.4 million in the nine months ended September 30, 2010, an increase of $10.0 million from the same period last year. The increases in and outside China were approximately $6.1 million and $3.9 million respectively. Sales of engine valve and tappet were approximately $47.6 million in the nine months ended September 30, 2010, up $14.8 million from the same period last year. The increases in and outside China were approximately $12.1 million and $2.8 million respectively.

 
49

 

Cost of Sales. Our cost of sales increased by approximately $45.1 million, or 40.2%, to approximately $157.4 million for the nine months ended September 30, 2010 from approximately $112.3 million during the same period in 2009.  This increase was mainly due to the increase of our sales volume, and partly to the consolidation of operating results of Jinheng BVI. As a percentage of sales revenue, the cost of sales decreased slightly by approximately 0.9% to 74.7% during the nine months ended September 30, 2010 from 75.6% for the same period of 2009.
 
Gross Profit. Our gross profit increased by approximately $17.2 million, or 47.4%, to approximately $53.5 million for the nine months ended September 30, 2010, compared with approximately $36.3 million for the same period in 2009.  Gross margin was 25.3% for the nine-month period ended September 30, 2010, as compared to 24.4% of the same period last year.  Gross margin for our engine valves and tappets increased for the nine months ended September 30, 2010 due to the fact that during this period, we sold more engine valves and tappets used in heavy trucks which generally have higher margins than those used in lighter trucks. The increase in gross margin for our engine valves and tappets was offset by a decrease in gross margin for our alternator and starter products. For this period, more of our sales revenue was derived from sales of alternators and starters used in engines with mid-to-small displacement, which generally have a lower per unit profit margin than our alternators and starters made for engines with larger displacement.
 
Total Operating Expenses. Our total operating expenses increased by approximately $13.9 million, or 99.9%, to approximately $27.8 million for the nine months ended September 30, 2010, as compared to approximately $13.9 million for the same period in 2009. As a percentage of sales revenue, our total expenses increased to 13.2% for the nine months ended September 30, 2010, compared from 9.3% for the same period last year. The percentage increase was primarily attributable to the facts as discussed below.
 
Administrative Expenses.  Our administrative expenses increased by approximately $8.1 million, or 105.5%, to approximately $15.7 million for the nine months ended September 30, 2010, from approximately $7.7 million for the same period last year. The increases in amount were mainly due to the non-cash stock-based compensation of approximately of $4.4 million incurred in the nine months ended September 30, 2010 as a result of the employee stock option grants made in November 2009, with the remainder being mostly due to the consolidation of operating results of Vital Glee, Jinheng BVI, and Jinzhou Huayi, and the increased professional fees related to our acquisitions. As a percentage of sales revenue, administrative expenses increased to 7.5% for the nine months ended September 30, 2010, from 5.2% for same period last year. The increases in percentage were mainly due to the non-cash stock based compensation and the increase in professional fees paid to the third parties.

Research and Development Expenses.  Our research and development expenses increased by $3.4 million, or 237.9%, to approximately $4.8 million for the nine months ended September 30, 2010, from $1.4 million for the same period last year. As a percentage of sales revenue, research and development expenses increased to 2.3% for the nine months ended September 30, 2010, from 0.9% for the same period last year. The increases were mainly due to the increased expenses associated with development of alternative energy vehicle components, with highly integrated safety technology.

Selling Expenses.  Our selling expenses increased by approximately $2.4 million, or 50.5%, to approximately $7.2 million for the nine months ended September 30, 2010, from approximately $4.8 million for the same period last year. As a percentage of sales revenue, selling expenses increased to 3.4% for the nine months ended September 30, 2010, from 3.2% for the same period last year. The increases were mainly due to increased freight costs resulting from increased sales volume, as well as increased salary costs due to additional hires, higher commission costs due to increased sales and costs associated with advertising and promotional activities, with the remainder being mostly due to the non-cash share-based compensation of $196,257 as a result of the employee stock option grants made in November 2009.

Net finance costs. Our net finance cost increased by $997,719, or 28.4% to $4.5 million for the nine months ended September 30, 2010 from $3.5 million for the same period last year. The increases in net finance costs were mainly due to increases in bills discounting charges of $708,467 and increases in interest expenses of $673,534, which was offset by the net exchange gain of $364,003.

 
50

 

Gain on disposal of Applaud. On July 10, 2010, we disposed of our investment in the Applaud Group for a total consideration of approximately $20.9 million, and recorded a gain on disposal of a non-consolidated affiliate of approximately $5.3 million for the third quarter 2010.
  
Income before Income Taxes and Non-controlling Interests. Income before income taxes and non-controlling interests increased by approximately $8.7 million or 42.4%, to approximately $29.1 million during the nine months ended September 30, 2010 from approximately $20.5 million during the same period in 2009.  Income before income taxes as a percentage of sales revenue remained stable at 13.8% for the nine months ended September 30, 2010 and 2009, due to the factors described above.
 
Income taxes. Our income taxes increased by approximately $1.3 million, or 51.0%, to approximately $3.8 million for the nine months ended September 30, 2010 from $2.5 million for the same period last year. Our effective income tax rate was approximately 12.9% for the nine months ended September 30, 2010, as compared to 12.2% for the same period last year.

Net Income attributable to Non-controlling Interests. Our financial statements reflect an adjustment to our consolidated group net income, and our net income attributable to non-controlling interests increased $80,896, or 9.0% to $984,809 for the nine months ended September 30, 2010 from $903,823 for the same period last year, reflecting the net income attributable to non-controlling interests held by third parties in Jinzhou Dong Woo, Jinzhou Hanhua, Jinzhou Karham, Jinzhou Huayi, and Jinbei Jinheng.

Net Income attributable to Wonder Auto Technology, Inc. common stockholders. Our net income attributable to Wonder Auto Technology, Inc. common stockholders increased by approximately $7.3 million, or 42.9%, to approximately $24.4 million during the nine months ended September 30, 2010 from approximately $17.1 million during the same period last year, as a result of the factors described above.

Liquidity and Capital Resources

As of September 30, 2010, we had cash and cash equivalents of approximately $60.6 million and restricted cash of $33.8 million. The following table sets forth a summary of our cash flows for the periods indicated:

Statement of Cash Flow
(All amounts in thousands of U.S. dollars) 
   
Nine Months
Ended
 
   
September 30,
 
   
2010
   
2009
 
             
Net cash (used in) provided by operating activities
  $ 5,402     $ 11,113  
Net cash (used in) investing activities  
  $ (47,179 )   $ (12,272 )
Net cash (used in) provided by financing activities  
  $ 19,057     $ 14,357  
Effect of foreign currency translation on cash and cash equivalents
  $ 889     $ 63  
Net cash flow  
  $ (21,830 )   $ 13,261  

Operating Activities:

Net cash provided by operating activities was approximately $5.4 million for the nine-month period ended September 30, 2010 compared to approximately $11.1 million of net cash provided by operating activities for the same period in 2009. The primary reasons for the decrease in cash provided by operating activities for the nine months ended September 30, 2010 as compared to the same period last year were: (1) other receivables, prepayments and deposits decreased to approximately negative $8.5 million for the nine months ended September 30, 2010, as compared approximately $1.7 million for the same period last year and (2) trade payables decreased to approximately negative $1.2 million for the nine months ended September 30, 2010, as compared to approximately $9.0 million for the same period last year.

 
51

 

Investing Activities:

Our main uses of cash for investing activities during the nine months ended September 30, 2010 were for the acquisition of property, plant and equipment and the acquisition of Jinheng BVI.

Net cash used in investing activities for the nine months ended September 30, 2010 was approximately $47.2 million as compared to approximately $12.3 million in the same period in 2009. The increase in the net cash used in investing activities was mainly due to the approximately $40.9 million used in the acquisition of Jinheng BVI.

Financing Activities:

Our financing activities include new bank loans, repayment of bank loans, settlement of bills payable, and pledges of restricted cash for issuing bills payable.

Net cash provided by financing activities was approximately $19.1 million for the nine months ended September 30, 2010 as compared to $14.4 million of net cash provided by financing activities for same period in 2009. The increase in net cash provided by financing activities were mainly due to: (1) the increase in bills payable to approximately $42.3 million for the nine months ended September 30, 2010, as compared to approximately negative $1.4 million for the same period of last year and (2) the increase in proceeds from secured borrowings to approximately $88.1 million for the nine months ended September 30, 2010, as compared to approximately $64.2 million for the same period last year.

Our debt-to-equity ratio was 58.2% as of September 30, 2010. We plan to maintain our debt-to-equity ratio below 60%, increase long-term loans, and decrease short-term loans.

As of September 30, 2010, the amount, maturity date and term of each of our bank loans are as follows.
 
 (All amounts in millions of U.S. dollars)
 
  
 
Amounts
 
Maturity Date
 
Term
Bank of China*
  $ 4.5  
November 26, 2010
 
1 year
Bank of China*
    3.0  
August 15, 2011
 
1 year
Bank of China*†
    8.8  
June 28, 2014
 
5 years
Bank of China*
    1.5  
May 23, 2011
 
1 year
Bank of China*
    3.0  
June 6, 2011
 
1 year
Bank of China*†
    4.2  
December 29, 2014
 
5 years
Bank of China*†
    1.8  
December 29, 2014
 
5 year
Bank of China*
    0.6  
October 21, 2010
 
3 months
Bank of China*
    0.8  
October 14, 2010
 
6 months
Bank of China*
    1.5  
October 18, 2010
 
6 months
Bank of China*
    1.5  
October 25, 2010
 
6 months
Bank of China*
    0.8  
December 10, 2010
 
6 months
Bank of China*
    1.6  
January 4, 2011
 
6 months
Bank of China*
    1.6  
February 14, 2011
 
6 months
Bank of China*†
    1.3  
October 8, 2014
 
5 year
Bank of China*†
    1.7  
November 18, 2012
 
2 year
China CITIC Bank*
    3.0  
October 21, 2010
 
1 year
China construction Bank*
    2.7  
Otocber 10,2010
 
1 year
China construction Bank*
    1.5  
January 31, 2011
 
1 year
China construction Bank*
    6.0  
April 12, 2011
 
1 year
China construction Bank*
    2.5  
September 28, 2011
 
1 year
DEG - Deutsche Investitions und
Entwicklungsgesellschaft MBH **
    8.3  
October 15, 2013
 
7 years
Bank of Jinan *
    4.5  
May 28, 2011
 
1 year
China CITIC Bank*
    0.9  
June 11, 2011
 
1 year
Huaxia Bank*
    3.0  
June 28, 2011
 
1 year
Huaxia Bank*
    3.0  
August 1, 2011
 
1years
SZD Bank*
    3.7  
March 17, 2010
 
1 year
Huaxia Bank*
    4.5  
March 31, 2011
 
1 year
Huaxia Bank*
    1.5  
January 27, 2011
 
1 year
Jinan Changqing*
    1.0  
August 17, 2017
 
6 years
Bank of Jinzhou*
    1.5  
November 8, 2011
 
1 year
Bank of Jinzhou*
    2.2  
March 14, 2011
 
1 year
Bank of Jinzhou*
    3.0  
March 17, 2011
 
1 year
Bank of Jinzhou*
    0.9  
December 3, 2010
 
1 year
Bank of Jinzhou*
    1.5  
May 27, 2011
 
1 year
Bank of Jinzhou*
    6.0  
May 30, 2011
 
1 year
Bank of Jinzhou*
    4.5  
September 24, 2011
 
1 year
Bank of Jinzhou*
    1.5  
November 8, 2011
 
1 year
Bank of Jinzhou*
    1.5  
November 8, 2011
 
1 year
Bank of Jilin*
    3.0  
March 17, 2011
 
1 year
China Merchants Bank
    1.5  
February 3, 2011
 
1 year
Shenyang Electricity Co.,Ltd.
    2.2  
March 14, 2011
 
1 year
Bank of Communications*
    25.8  
December 10, 2011
 
1 year
 Total
    139.3        
 
* The loans are denominated in RMB, we used the exchange rate of $1 = RMB6.7613
** The loans are denominated in Euro, we used the exchange rate of 1 Euro = RMB9.1174 and repayment in semi-annual installment.
† Repayment in annual installment.
 
 
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We repaid several bank loans in the total amount of approximately $30.0 million in the third quarter of 2010. We plan to replace these loans with new bank loans in approximately the same aggregate amounts. We have established strategic cooperation relationships with two major banks in China, each of which has agreed to provide us with long-term loans in the total amount of no more than 50% of the total considerations for our acquisitions within the automobile industry. We believe that our current available working capital, after receiving the aggregate proceeds of the capital raising activities and bank loans referenced above, should be adequate to sustain our operations at our current levels through at least the next twelve months.

Obligations under Material Contract

Below is a table setting forth our contractual obligations as of September 30, 2010:
 
(All amounts in thousands of U.S. dollars)
  
 
Total
   
Less than
1 year
   
1-3 years
   
3-5 years
   
More than
5 years
 
Long term debt obligations
  $ 27,130     $ 6,251     $ 14,841     $ 5,340     $ 698  
Capital commitment
     2,933       2,933        -        -        -  
Operating lease obligations
     -        -        -        -        -  
Purchase obligations
     -        -        -        -        -  
Total
  $ 30,063     $ 9,184     $ 14,841     $ 5,340     $ 698  

 
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Critical Accounting Policies 

Our discussion and analysis of our financial condition and results of operations is based upon our condensed consolidated financial statements, which have been prepared in accordance with GAAP. The preparation of these condensed consolidated financial statements requires us to make estimates, judgments and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and the related disclosure of contingent assets and liabilities. We base our estimates on historical experience and on various other assumptions that we believe are reasonable under the circumstances. Our estimates form the basis for our judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates.
 
An accounting policy is considered to be critical if it requires an accounting estimate to be made based on assumptions about matters that are highly uncertain at the time the estimate is made, and if different estimates that reasonably could have been used, or changes in the accounting estimate that are reasonably likely to occur, could materially impact the condensed consolidated financial statements. We believe that our critical accounting policies reflect the more significant estimates and assumptions used in the preparation of the condensed consolidated financial statements.
 
For a discussion of our critical accounting policies and estimates, see “Critical Accounting Policies and Estimates” included in our Annual Report on Form 10-K for the year ended December 31, 2009 under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” We have made no significant changes to our critical accounting estimates since December 31, 2009.

Recently issued accounting pronouncement

See Note 4, Summary of significant accounting policies, for a discussion of recently issued accounting pronouncements applicable to us.

Off-Balance Sheet Arrangements  
 
We do not have any off-balance arrangements.

ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

Interest Rate Risk

We are exposed to interest rate risk primarily with respect to our short-term bank loans and long-term bank loans. Although the interest rates, which are based on the banks’ prime rates with respect to our short-term loans are fixed for the terms of the loans, the terms are typically three to twelve months for short-term bank loans and interest rates are subject to change upon renewal.  There were no material changes in interest rates for short-term bank loans renewed during the three months ended September 30, 2010.

A hypothetical 1.0% increase in the annual interest rates for all of our credit facilities under which we had outstanding borrowings at September 30, 2010, would decrease net income before provision for income taxes by approximately $1.4 million for the twelve months ended September 30, 2010.  Management monitors the banks’ prime rates in conjunction with our cash requirements to determine the appropriate level of debt balances relative to other sources of funds.  We have not entered into any hedging transactions in an effort to reduce our exposure to interest rate risk.

Foreign Exchange Risk
 
While our reporting currency is the U.S. Dollar, all of our consolidated revenues and consolidated costs and expenses are denominated in Renminbi.  All of our assets are denominated in RMB except for cash.  As a result, we are exposed to foreign exchange risk as our revenues and results of operations may be affected by fluctuations in the exchange rate between U.S. Dollars and RMB.  If the RMB depreciates against the U.S. Dollar, the value of our RMB revenues, earnings and assets as expressed in our U.S. Dollar financial statements will decline.  Assets and liabilities are translated at exchange rates at the balance sheet dates and revenue and expenses are translated at the average exchange rates and shareholders’ equity is translated at historical exchange rates.  Any resulting translation adjustments are not included in determining net income but are included in determining other comprehensive income, a component of shareholders’ equity.  

 
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The value of the Renminbi against the U.S. dollar and other currencies is affected by, among other things, changes in China’s political and economic conditions. Since July 2005, the Renminbi has not been pegged to the U.S. dollar, but has been permitted to fluctuate within a narrow and managed band with reference to a portfolio of currencies. Additionally, the People’s Bank of China regularly intervenes in the foreign exchange market to prevent significant short-term fluctuations in the exchange rate, but the Renminbi may appreciate or depreciate significantly in value against the U.S. dollar in the medium to long term.  Moreover, it is possible that in the future, PRC authorities may lift restrictions on fluctuations in the Renminbi exchange rate and lessen intervention in the foreign exchange market.
 
Inflation

Inflationary factors such as increases in the cost of our product and overhead costs may adversely affect our operating results.  Although we do not believe that inflation has had a material impact on our financial position or results of operations to date, a high rate of inflation in the future may have an adverse effect on our ability to maintain current levels of gross margin and selling, general and administrative expenses as a percentage of net revenues if the selling prices of our products do not increase with these increased costs.

ITEMS 4. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures. We maintain a system of disclosure controls and procedures. The term “disclosure controls and procedures,” as defined by regulations of the SEC, means controls and other procedures that are designed to ensure that information required to be disclosed in the reports that we file or submit to the SEC under the Exchange Act, is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by us in the reports that we file or submit to the SEC under the Exchange Act is accumulated and communicated to our management, including our principal executive officer and our principal financial officer, or persons performing similar functions, as appropriate to allow timely decisions to be made regarding required disclosure. Each of Qingjie Zhao, our President and Chief Executive Officer, and Meirong Yuan, our Chief Financial Officer, have evaluated the design and operating effectiveness of our disclosure controls and procedures as of September 30, 2010. Based upon their evaluation, these executive officers have concluded that our disclosure controls and procedures are effective as of September 30, 2010.  

Changes in Internal Control over Financial Reporting. There has been no change to our internal control over financial reporting during the quarter ended September 30, 2010 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 
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PART II
OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

From time to time, we may become involved in various lawsuits and legal proceedings which arise in the ordinary course of business. However, litigation is subject to inherent uncertainties, and an adverse result in these or other matters may arise from time to time that may harm our business. We are currently not aware of any such legal proceedings or claims that we believe will have a material adverse affect on our business, financial condition or operating results.
 
ITEM 1A. RISK FACTORS

RISKS RELATED TO OUR BUSINESS

The global economic crisis could further impair the automotive industry thereby limiting demand for our products and affecting the overall availability and cost of external financing for our operations.

The continuation or intensification of the recent global economic crisis and turmoil in the global financial markets may adversely impact our business, the businesses of our customers and our potential sources of capital financing. Our automotive parts are primarily sold to automakers, engine manufacturers and auto parts suppliers. The recent global economic crisis harmed most industries and has been particularly detrimental to the automotive industry. Since virtually all of our sales are made to auto industry participants, our sales and business operations are dependent on the financial health of the automotive industry and could suffer if our customers experience, or continue to experience, a downturn in their business. In addition, the lack of availability of credit could lead to a further weakening of the Chinese and global economies and make capital financing of our operations more expensive or impossible altogether. Presently, it is unclear whether and to what extent the economic stimulus measures and other actions taken or contemplated by the Chinese government and other governments throughout the world will mitigate the effects of the crisis on the automotive industry and other industries that affect our business. These conditions have not presently impaired our ability to access credit markets and finance our operations. However, the impact of the current crisis on our ability to obtain capital financing in the future, and the cost and terms of the financing, is unclear. Furthermore, deteriorating economic conditions including business layoffs, downsizing, industry slowdowns and other similar factors that affect our customers could have further negative consequences for the automotive industry and result in lower sales, price reductions in our products and declining profit margins. The economic situation also could harm our current or future lenders or customers, causing them to fail to meet their obligations to us. No assurances can be given that the effects of the current crisis will not damage on our business, financial condition and results of operations.

A contraction in automotive sales and production could have a material adverse affect on our results of operations and liquidity and on the viability of our supply base.

Automotive sales and production are highly cyclical and depend, among other things, on general economic conditions and consumer spending and preferences (which can be affected by a number of issues including fuel costs and the availability of consumer financing). As the volume of automotive production fluctuates, the demand for our products also fluctuates. The global automotive sales and production deteriorated substantially in the second half of 2008 and are not expected to rebound significantly in the near term. While the China automotive sales and production maintained modest growth momentum in 2008 and continued to grow in 2009 and thus far in 2010, the growth rate was down from previous years. A contraction in automotive sales and production could harm our results of operations and liquidity. In addition, our suppliers would also be subject to many of the same consequences which could pressure their results of operations and liquidity. Depending on an individual supplier’s financial condition and access to capital, its viability could be challenged which could impact its ability to perform as we expect and consequently our ability to meet our own commitments.

 
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Escalating pricing pressures from our customers may adversely affect our business.

Pricing pressure in the automotive supply industry has been substantial and is likely to continue. Many vehicle manufacturers seek price reductions in both the initial bidding process and during the term of the contract. Price reductions have impacted our sales and profit margins and are expected to continue to do so in the future. If we are not able to offset continued price reductions through improved operating efficiencies and reduced expenditures, those price reductions may have a material adverse effect on our results of operations.

If we fail to accurately project market demand for our products, our business expansion plan could be jeopardized and our financial condition and results of operations will suffer.

If actual customer orders are less than our projected market demand, we will likely suffer overcapacity problems and may have to leave capacity idle, which may reduce our overall profitability and hurt our financial condition and results of operations. Even though our business increasingly has included more international sales, we derive most of our sales revenue from sales of our products in China. The continued development of our business depends, in large part, on continued growth in the automotive industry, especially in China. Although China’s automotive industry has grown rapidly in the past, it may not continue to grow at the same growth rate or at all in the future. However, the developments in our industry are, to a large extent, outside of our control and any reduced demand for automotive parts products and services, any other downturn or other adverse changes in China’s automotive industry could severely harm our business.

Our business is capital intensive and our growth strategy may require additional capital which may not be available on favorable terms or at all.

We believe that our current cash and cash flows from operations are sufficient to meet our present and reasonably anticipated cash needs. We may, however, require additional cash resources due to changed business conditions, implementation of our strategy to expand our manufacturing capacity or other investments or acquisitions we may decide to pursue. If our own financial resources are insufficient to satisfy our capital requirements, we may seek to sell additional equity or debt securities or obtain additional credit facilities. The sale of additional equity securities could result in dilution to our stockholders. The incurrence of indebtedness would result in increased debt service obligations and could require us to agree to operating and financial covenants that would restrict our operations. Given the current global economic crisis, financing may not be available in amounts or on terms acceptable to us, if at all. Any failure by us to raise additional funds on terms favorable to us, or at all, could limit our ability to expand our business operations and could harm our overall business prospects.

Due to our rapid growth in recent years, our past results may not be indicative of our future performance so evaluating our business and prospects may be difficult.

Our business has grown and evolved rapidly in recent years as demonstrated by our growth in annual sales revenue from approximately $48.1 million in 2005 to $211.0 million in 2009. We may not be able to achieve similar growth in future periods, and our historical operating results may not provide a meaningful basis for evaluating our business, financial performance and prospects. Moreover, our ability to achieve satisfactory manufacturing results at higher volumes is unproven. Therefore, you should not rely on our past results or our historical rate of growth as an indication of our future performance.

We face risks associated with future investments or acquisitions.

An important element of our growth strategy is to invest in or acquire businesses that will enable us, among other things, to expand the products we offer to our existing target customer base, lower our costs for raw materials and components and capitalize on opportunities to expand into new markets. We recently acquired controlling interests in several complementary businesses, including Friend Birch Limited and its subsidiaries and Jinheng BVI which we expect to contribute to our future growth. In the future, we may be unable to identify other suitable investment or acquisition candidates or may be unable to make these investments or acquisitions on commercially reasonable terms, if at all.

If we complete an investment or acquisition, we may not realize the anticipated benefits from the transaction. Integrating an acquired business is distracting and time consuming, as well as a potentially expensive process. We are currently in the process of integrating our operations with the operations of recently acquired companies. The successful integration of these companies and any other acquired businesses require us to:

 
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·
integrate and retain key management, sales, research and development, production and other personnel;

·
incorporate the acquired products or capabilities into our offerings from an engineering, sales and marketing perspective;

·
coordinate research and development efforts;

·
integrate and support pre-existing supplier, distribution and customer relationships; and

·
consolidate duplicate facilities and functions and combine back office accounting, order processing and support functions.

Acquisitions involve a number of risks and present financial, managerial and operational challenges, including:

·
successfully commercializing our strategic investments;

·
increased expenses, including travel, legal, administrative and compensation expenses resulting from newly hired employees;

·
increased costs to integrate personnel, customer base and business practices of the acquired company with our own;

·
adverse effects on our reported operating results due to possible write-down of goodwill associated with acquisitions;

·
potential disputes with sellers of acquired businesses, technologies, services, products and potential liabilities;

·
potential liabilities as a result of assumption of liabilities of acquired companies; and

·
dilution to our earnings per share if we issue common stock in any acquisition.

Moreover, geographic distance between business operations, the compatibility of the technologies and operations being integrated and the disparate corporate cultures being combined also present significant challenges. Acquired businesses are likely to have different standards, controls, contracts, procedures and policies, making it more difficult to implement and harmonize company-wide financial, accounting, billing, information and other systems. Our focus on integrating operations may also distract attention from our day-to-day business and may disrupt key research and development, marketing or sales efforts. Performance problems with an acquired business, technology, product or service could also have a material adverse impact on our reputation as a whole. Any acquired business, technology, product or service could significantly under-perform relative to our expectations. In addition, although we have conducted due diligence with respect to our recently acquired companies, there may still be unidentified issues and hidden liabilities, which could have a material adverse effect on our business, liquidity, financial condition and results of operations. If we cannot overcome these challenges, we may not realize actual benefits from past and future acquisitions, which will impair our overall business results.

Our acquisition strategy also depends on our ability to obtain necessary government approvals. See “–Risks Related to Doing Business in China – We may be unable to complete a business combination transaction efficiently or on favorable terms due to complicated merger and acquisition regulations which became effective on September 8, 2006.”

 
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We may not be able to realize the potential financial or strategic benefits of strategic acquisitions or investments, which could hurt our ability to grow our business and harm our financial condition.

As part of our growth strategy, we will continue to explore and make strategic investments in businesses that are complementary or additive to our core business and product offerings.  For instance, on September 10, 2010, through our subsidiary Vital Glee, we acquired Jinheng BVI, which manufactures airbag safety devices for automobiles.  We expect to utilize Jinheng BVI to further strengthen and broaden our research and development expertise, expand customer base and improve value-added services. However, the success of the acquisition depends on various factors over which we may have limited or no control. Mergers and acquisitions and strategic investments are inherently subject to significant risks. For instance, the commercial aspects and goals of our acquisition may not materialize as desired or yield the commercial benefits sought.  Moreover, regardless of whether the commercial aspects and goals of the acquisition prove to be positive, an acquisition of or a strategic investment in another company comes with the typical investment risks, such as the partial or total loss of investment in the worst case.  Our inability to pinpoint and make favorable strategic investments, from both a commercial and investment perspective and our inability to effectively manage the associated risks could materially and adversely affect our business, financial condition and results of operations. In the case of Jinheng BVI, it may decline in value and/or may not meet our desired objectives. If we do not successfully manage the risks associated with this and other acquisitions and strategic investments, our business, financial condition and results of operations could be materially and adversely affected.

If we fail to comply with covenants in our loan agreements, our lenders may allege a breach of a covenant and seek to accelerate the loan or exercise other remedies, which could strain our cash flow and harm our business, liquidity and financial condition.

In connection with loans made to us by several commercial lenders, we have entered into loan agreements which impose upon us certain financial and operating covenants. The financial covenants require us to satisfy certain financial metrics and maintain financial ratios deemed appropriate by our lenders. The operating covenants often require us to take certain actions, such as keeping current on our debt payments, delivering reports to our lenders and so forth, or refraining from taking actions without the lender’s consent or at all, such as incurring additional debt, making capital expenditures, paying dividends or distributions or acquiring other businesses or assets. Even though we strive to comply with our covenants, we have failed in the past, and may fail in the future, to do so and our lenders may notify us of such non-compliance and seek to accelerate a loan or exercise other remedies. For instance, under our loan agreement with DEG - Deutsche Investitions - und Entwicklungsgesellschaft mbH, or DEG, dated November 24, 2006, we agreed not to make certain acquisitions without prior consent of DEG. For some of our recent acquisitions, we did not obtain prior approval from DEG, but instead have subsequently informed DEG about the acquisitions. We have not received from DEG any written notice of non-compliance or breach as we believe our subsequent notices have remedied any problems. However, we cannot assure you that DEG will not, in the future, send a notice of breach to us and require acceleration of the loan, in which case we currently believe we have adequate cash to meet the payment obligation. If, in the future, we fail to comply with our loan agreement covenants, and we receive a notice of non-compliance or default, we will attempt to cure any non-compliance and/or negotiate appropriate waivers with our lenders. If we cannot cure any non-compliance or obtain a waiver, our lenders may declare us to be in default, which would give them the right to accelerate our outstanding indebtedness. If any larger amount of our indebtedness is accelerated as a result of a default, we may be forced to repay our loans earlier than expected, which would have a material adverse effect on our business, liquidity and financial condition.

Any interruption in our production processes could impair our financial performance and negatively affect our brand.

We manufacture or assemble our products primarily at our facilities in Jinzhou and Jinan, China. Our manufacturing operations are complicated and integrated, involving the coordination of raw material and component sourcing from third parties, internal production processes and external distribution processes. While these operations are modified on a regular basis in an effort to improve manufacturing and distribution efficiency and flexibility, we may experience difficulties in coordinating the various aspects of our manufacturing processes, thereby causing downtime and delays. We have also been steadily increasing our production capacity and have limited experience operating at these higher production volume levels. In addition, we may encounter interruption in our manufacturing processes due to a catastrophic loss or events beyond our control, such as fires, explosions, labor disturbances or violent weather conditions. Any interruptions in our production or reduction in production capabilities at our facilities could result in our inability to produce our products, which would reduce our sales revenue and earnings for the affected period. If there is a stoppage in production at any of our facilities, even if only temporary, or delays in delivery times to our customers, our business and reputation could be severely affected. Any significant delays in deliveries to our customers could lead to increased returns or cancellations and cause us to lose future sales. We currently do not have business interruption insurance to offset these potential losses, delays and risks so a material interruption of our business operations could severely damage our business.

 
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Part of our strategy involves the development of new products, and if we fail to timely develop new products or we incorrectly gauge the potential market for new products, our financial results will be adversely affected.

We plan to utilize our in-house research and development capabilities to develop new products that could become new sources of sales revenue for us in the future and help us to diversify our revenue base. For example, we acquired the research and development center owned by Friend Birch Limited which is focused on developing new technology for rods and shafts. Our future research and development efforts will continue to be focused on expanding our product offerings beyond our current products into other similar products and components for different applications, such as hub motors for electric bicycles and electric vehicles. If we fail to timely develop new products or if we miscalculate market demand for new products that we develop, we may not be able to grow our sales revenue at expected growth rates and may incur expenses relating to the development of new products that are not offset by sufficient sales revenue generated by these new products.

Exporting our products outside of China is an important component of our overall growth strategy, which could subject us to various economic, political, regulatory, legal and foreign exchange risks.

We currently sell most of our products in China. Our overseas sales accounted for 9.6%, 16.2% and 10.7% of our total sales revenue in 2007, 2008 and 2009, respectively. We plan to selectively enter international markets in which an opportunity to sell our products has been identified. The marketing, distribution and sale of our products overseas expose us to a number of risks, including:

 
·
fluctuations in currency exchange rates;

 
·
difficulty in designing products that are compatible with product standards in foreign countries;

 
·
greater difficulty in accounts receivable collection;

 
·
increased marketing and sales costs;

 
·
difficulty and costs of compliance with foreign regulatory requirements and different commercial and legal requirements;

 
·
an inability to obtain, maintain or enforce intellectual property rights in foreign countries;

 
·
changes to import and export regulations, including quotas, tariffs and other trade barriers, delays or difficulties in obtaining export and import licenses, repatriation controls on foreign earnings and currency conversion restrictions; and

 
·
difficulty in engaging and retaining distributors and agents who are knowledgeable about, and can function effectively in, overseas markets.

If we cannot effectively manage these risks, our ability to conduct or expand our business abroad would be impaired, which may in turn hamper our business, financial condition and prospects.

If we cannot keep pace with market changes and produce automotive parts with new technologies in a timely and cost-efficient manner to meet our customers’ requirements and preferences, the growth and success of our business will be hindered.

The automotive parts market in China is characterized by increasing demand for new and advanced technologies, evolving industry standards, intense competition and wide fluctuations in product supply and demand. If we cannot keep pace with market changes and produce automotive parts incorporating new technologies in a timely and cost-efficient manner to meet our customers’ requirements and preferences, the growth and success of our business will suffer.

 
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From time to time, new products, product enhancements or technologies may replace or shorten the life cycles of our products or cause our customers to defer purchases of our existing products. Shorter product life cycles may require us to invest more in developing and designing new products and to introduce new products more rapidly, which may increase our costs of product development and decrease our profitability. In addition, we may not be able to make such additional investments and any additional investments we make in new product development and introductions may not be successful.

Even if we develop and introduce new products, their market acceptance is not assured and depends on:

 
·
the perceived advantages of our new products over existing competing products;

 
·
our ability to attract vehicle manufacturers who are currently using our competitors’ products;

 
·
product cost relative to performance; and

 
·
the level of customer service available to support new products.

Therefore, commercial acceptance by customers of our products may not occur at our expected rate or level, and we may not be able to successfully adapt existing products to effectively and economically meet customer demand, thus impairing the return from our investments. We may also be required under applicable accounting standards to recognize a charge for the impairment of assets to the extent our existing products become uncompetitive or obsolete or if any new products fail to achieve commercial acceptance. Any such charge may jeopardize our ability to operate profitably.

Failure to adequately protect our intellectual property rights may undermine our competitive position, and litigation to protect our intellectual property rights may be costly.

We strive to strengthen and differentiate our product portfolio by developing new and innovative products and product improvements. As a result, we believe that the protection of our intellectual property will become increasingly important to our business. Implementation and enforcement of intellectual property-related laws in China has historically been lacking due primarily to ambiguities in PRC intellectual property law. Accordingly, protection of intellectual property and proprietary rights in China may not be as effective as in the United States or other countries. Currently, we hold 64 PRC patents that relate to various product configurations and product components. We will continue to rely on a combination of patents, trade secrets, trademarks and copyrights to provide protection in this regard, but this protection may be inadequate. For example, our pending or future patent applications may not be approved or, if allowed, they may not be of sufficient strength or scope. As a result, third parties may use the technologies and proprietary processes that we have developed and compete with us, which could negatively affect any competitive advantage we enjoy, dilute our brand and harm our operating results.

In addition, policing the unauthorized use of our proprietary technology can be difficult and expensive. Litigation may be necessary to enforce our intellectual property rights and given the relative unpredictability of China’s legal system and potential difficulties enforcing a court judgment in China, there is no guarantee litigation would result in an outcome favorable to us. Furthermore, any such litigation may be costly and may divert management attention away from our core business. An adverse determination in any lawsuit involving our intellectual property is likely to jeopardize our business prospects and reputation. We have no insurance coverage against litigation costs so we would be forced to bear all litigation costs if we cannot recover them from other parties. All of the foregoing factors could harm our business and financial condition.

We may be exposed to infringement or misappropriation claims by third parties, which, if determined adversely against us, could disrupt our business and subject us to significant liability to third parties.

Our success largely depends on our ability to use and develop our technology, know-how and product designs without infringing upon the intellectual property rights of third parties. We may be subject to litigation involving claims of patent infringement or violation of other intellectual property rights of third parties. The holders of patents and other intellectual property rights potentially relevant to our product offerings may be unknown to us or may otherwise make it difficult for us to acquire a license on commercially acceptable terms.

 
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We have not registered and do not own the logo . Wonder Auto Group Limited, a Hong Kong company controlled by Mr. Qingjie Zhao, our chairman, chief executive officer and president that is now dormant, has registered the “” trademark in Hong Kong. Jinzhou Wonder Auto Suspension System Co., Ltd. has registered the trademarks “” and “” in China. We have not been able to register the logo in China because it is similar to the trademarks registered by Jinzhou Wonder Auto Suspension System Co., Ltd. An independent third party entity has registered the “Jinzhou Halla” trademark in China. We currently do not sell any products or services using the marks similar to the trademarks registered by Jinzhou Wonder Auto Suspension System Co., Ltd. or the “Jinzhou Halla” trademarks. We have entered into an agreement with Jinzhou Wonder Auto Suspension System Co., Ltd. Under this agreement, Jinzhou Wonder Auto Suspension System Co., Ltd. has agreed not to bring any legal action against us for using the mark “” in China. However, we cannot assure you that no action will be brought against us based on our use of “”.

There may also be technologies licensed to and relied on by us that are subject to infringement or other corresponding allegations or claims by others which could damage our ability to rely on such technologies. In addition, although we endeavor to ensure that companies that work with us possess appropriate intellectual property rights or licenses, we cannot fully avoid the risks of intellectual property rights infringement created by suppliers of components used in our products or by companies with which we work in cooperative research and development activities.

Our current or potential competitors, many of which have substantial resources and have made substantial investments in competing technologies, may have obtained or may obtain patents that will prevent, limit or interfere with our ability to make, use or sell our products in China or other countries. The defense of intellectual property claims, including patent infringement suits, and related legal and administrative proceedings can be both costly and time consuming, and may significantly divert the efforts and resources of our technical and management personnel. Furthermore, an adverse determination in any such litigation or proceeding to which we may become a party could cause us to:

 
·
pay damage awards;

 
·
seek licenses from third parties;

 
·
pay additional ongoing royalties, which could decrease our profit margins;

 
·
redesign our products; or

 
·
be restricted by injunctions.

These factors could effectively prevent us from pursuing some or all of our business objectives and result in our customers or potential customers deferring, canceling or limiting their purchase or use of our products, which could have a material adverse effect on our financial condition and results of operations.

We rely on certain technologies licensed to us from third parties and the loss of these licenses or failure to renew such licenses on a timely basis could interrupt our production and have a material adverse impact on our business.

We rely on certain technologies licensed to us from third parties for manufacturing our products. Through our licensing arrangements, we are able to integrate third party technologies into our products. We can also produce and sell products that are more suitable for specific types of vehicles utilizing these licensed technologies. If certain licenses are terminated, or not timely renewed, the production of our products using the licensed technologies would be disrupted and our business and financial condition could be damaged. If any of our licensors is alleged to have infringed on any other party’s proprietary right, we may be prevented from using the technology in question, thus disrupting our production.

 
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We may be subject to contractual obligations that limit our ability to sell our automotive parts in certain markets.

When we enter into commercial arrangements, we strive to negotiate the most favorable contractual provisions for our company with respect to both pricing and other terms. In some commercial arrangements, we have negotiated exclusivity, preferred vendor and non-competition arrangements that are favorable to our company. In other instances, counterparties to some of our commercial arrangements have imposed such provisions upon us. For instance, in one of our commercial arrangements, we are restricted from selling certain products using intellectual property licensed from the other party to some foreign companies, joint ventures with foreign companies and companies in countries where the licensor has business. While we believe that our commercial arrangements, when considered in their entirety, are favorable to our business, certain commercial arrangements may restrict our ability to freely sell our products on terms favorable to us or at all, which could have a negative impact on our sales revenue and our ability to grow and expand our business.

If we fail to maintain or improve our market position or respond successfully to changes in the competitive landscape, our business and results of operations will suffer.

Our competition includes a number of global and PRC-based manufacturers and distributors that produce and sell products similar to ours. We compete primarily on the basis of quality, technological innovation and price. Our main competitors include Shanghai Valeo Automotive Electrical Systems Co., Ltd., a joint venture of Shanghai Auto Industrial Group and Valeo Group, Hubei Shendian Auto Motor Co., Ltd., a joint venture of Hubei Shendian Auto Electrical Equipment Co., Ltd., Zhongqi Changdian Co., Ltd. and Remy International, Inc., Bosch Group, Mitsubishi Motors Corporation and Denso Corporation. Many of our competitors have longer operating histories, greater name recognition, larger global market share, access to larger customer bases and significantly greater economies of scale, as well as greater financial, sales and marketing, manufacturing, distribution, technical and other resources than we do. As a result of these competitive pressures and expected increases in competition, we may price our products lower than our competitors in order to maintain market share. Any lower pricing may negatively affect our profit margins. If we fail to maintain or improve our market position and respond successfully to changes in the competitive landscape, our business and results of operations may suffer.

A large percentage of our sales revenue is derived from sales to a limited number of customers, and our business will suffer if sales to these customers decline.

A significant portion of our sales revenue historically has been derived from a limited number of customers. Our top five customers accounted for approximately 35.6% of our sales in 2008 and 37.8% in 2009. Any significant reduction in demand for vehicles manufactured by any of these major customers and any decrease in their demand for our products could harm our sales and business operations. The loss of one or more of these customers could damage our business, financial condition and results of operations.

If we cannot obtain sufficient raw materials and components at a reasonable cost, our ability to produce and market our products, and thus our business, could suffer.

We purchase raw materials and component parts for our products from various suppliers located primarily in Asia, most of which are located in China and a few of which are located in South Korea. The raw materials we use to produce our starters and alternators fall into four general categories: metal parts, semiconductors, chemicals, and packaging materials. The main raw materials we use to produce our rods, shafts, engine valves and tappets are iron and steel rods. The majority of our raw materials and components are purchased from suppliers in China, including Jiangsu Senyuan Special Steel Co., Ltd., Yingkou Die-Casting Products Co., Ltd., Tianjin Jingda Rea Special Enameled Wire Co. Ltd., Zhejiang Huanfang Auto Electrical Appliance Co. Ltd., and Zhejiang Yuhuan Solenoid Co., Ltd. Purchases from our top five raw materials and component parts suppliers accounted for approximately 32% of our total purchases in 2009. We may experience a shortage in the supply of certain raw materials and components in the future, and if any such shortage occurs, our manufacturing capabilities and operating results could be negatively affected. If any supplier is unwilling or unable to provide us with high-quality raw materials and components in required quantities and at acceptable costs, we may not be able to find alternative sources on satisfactory terms in a timely manner, or at all. In addition, some of our suppliers may fail to meet qualifications and standards required by our customers now or in the future, which could impact our ability to source raw materials and components. Our inability to find or develop alternative supply sources could result in delays or reductions in manufacturing and product shipments. Moreover, these suppliers may delay shipments or supply us with inferior quality raw materials and components that may adversely impact the performance of our products. The prices of raw materials and components needed for our products could also increase, and we may not be able to pass these price increases on to our customers. If any of these events occur, our competitive position, reputation and business could suffer.

 
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If our customers and/or the ultimate consumers of the vehicles that use our products successfully assert product liability claims against us due to defects in our products, our operating results may suffer and our reputation may be harmed.

Our products are used primarily in low emission passenger vehicles. Significant property damage, personal injuries and even death can result from malfunctioning vehicles. If our products are not properly designed, built or installed or if people are injured because of our products, we could be subject to claims for damages based on theories of product liability and other legal theories. The costs and resources to defend such claims could be substantial and, if such claims are successful, we could be responsible for paying some or all of the damages. We have maintained product liability insurance only for products manufactured by Jinzhou Wanyou, which are sold in the United States and Canada. Negative publicity from such claims may also damage our reputation, regardless of whether such claims are successful. Any of these consequences resulting from defects in our products would hurt our operating results and, in turn, the value of our common stock.

Our products may become subject to recall in the event of defects or other performance related issues.

Like many other participants in the automotive industry, we are at risk for product recall costs which are costs incurred when, either voluntarily or involuntarily, a product is recalled through a formal campaign to solicit the return of specific products due to a known or suspected performance defect. Costs typically include the cost of the product, part or component being replaced, the cost of the recall borne by our customers and labor to remove and replace the defective part or component. Our products have not been the subject of an open recall. If a recall decision is made, we will need to estimate the cost of the recall and record a charge to earnings in that period. In making this estimate, judgment is required as to the quantity or volume to be recalled, the total cost of the recall campaign, the ultimate negotiated sharing of the cost between us and the customer and, in some cases, the extent to which the supplier of the part or component will share in the recall cost. As a result, these estimates are subject to change. Excessive recall costs or our failure to adequately estimate these costs may negatively affect our operating results.

We depend heavily on key personnel, and loss of key employees and senior management could harm our business.

Our future business and results of operations depend in significant part upon the continued contributions of our key technical and senior management personnel, including Qingjie Zhao, our chairman, chief executive officer and president, Meirong Yuan, our director, chief financial officer and treasurer, Yuncong Ma, our chief operating officer, Qingdong Zeng, our Chief Strategy Officer and director, Seuk Jun Kim, our vice president of new product development, Yuguo Zhao, our vice president of sales and marketing and Yongdong Liu, our vice president of production. They also depend in significant part upon our ability to attract and retain additional qualified management, technical, marketing and sales and support personnel for our operations. If we lose a key employee, if a key employee fails to perform in his or her current position or if we are not able to attract and retain skilled employees as needed, our business could suffer. Turnover in our senior management could significantly deplete institutional knowledge held by our existing senior management team and impair our operations.

In addition, if any of these key personnel joins a competitor or forms a competing company, we may lose some of our customers. We have entered into confidentiality and non-competition agreements with all of these key personnel. However, if any disputes arise between these key personnel and us, it is not clear, in light of uncertainties associated with the PRC legal system, what the court decisions will be and the extent to which these court decisions could be enforced in China, where all of these key personnel reside and hold some of their assets. See “– Risks Related to Doing Business in China – Uncertainties with respect to the PRC legal system could limit the legal protections available to you and us.”

Certain of our existing stockholders have substantial influence over our company, and their interests may not be aligned with the interests of our other stockholders.

 
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Mr. Qingjie Zhao, our chairman, chief executive officer and president, beneficially owns approximately 19.4% of our common stock. As a result, he has significant influence over our business, including decisions regarding mergers, consolidations and the sale of all or substantially all of our assets, election of directors and other significant corporate actions. This concentration of ownership may also have the effect of discouraging, delaying or preventing a future change of control, which could deprive our stockholders of an opportunity to receive a premium for their shares as part of a sale of our company and might reduce the price of our shares.

Mr. Qingjie Zhao’s association with other businesses could impede his ability to devote ample time to our business and could pose conflicts of interest.

Mr. Qingjie Zhao, our chairman, chief executive officer and president, owns 10.4% of China Wonder Limited, a company listed on the Alternative Investment Market of the London Stock Exchange, which is principally engaged in the manufacture and sale of specialty packaging machinery to the PRC pharmaceutical market. He also serves as an executive director of Jinheng Holdings, a company listed on the Hong Kong Stock Exchange in which we had a 20.02% indirect ownership and from which our subsidiary, Vital Glee, purchased Jinheng BVI. In addition, Mr. Zhao serves as the chairman of Jinzhou Wonder Alternative Energy Automobile Technology Co., Ltd., which is principally engaged in the research and manufacture of electrical vehicles, Jinzhou Qingjie Electrical Power Technology Co., Ltd., which has no current operations but will engage in the battery business, and Jinzhou Wonder Packing Machinery Co., Ltd., which is principally engaged in pharmaceutical packaging. Mr. Zhao devotes most of his business time to our affairs and the remainder of his business time to the affairs of other companies. Mr. Zhao’s decision-making responsibilities for these companies are similar in the areas of public relations, management of human resources, risk management and strategic planning. Also, we may enter into agreement with these parties to sell or buy goods and services to or from them. As a result, conflicts of interest may arise from time to time. We will attempt to resolve any such conflicts of interest in our favor. Additionally, even though Mr. Zhao is accountable to us and our stockholders as a fiduciary, which requires that he exercise good faith and due care in handling our affairs, his existing responsibilities to other entities may limit the amount of time he can spend on our affairs.

Problems with product quality or product performance could result in a decrease in customers and revenue, unexpected expenses and loss of market share.

Our operating results depend, in part, on our ability to deliver quality products on a timely and cost-effective basis. As our products become more advanced, it may become more difficult to maintain our quality standards. If we experience deterioration in the performance or quality of any of our products, it could result in delays in shipments, cancellations of orders or customer returns and complaints, loss of goodwill and harm to our brand and reputation. Furthermore, our products are used together with components and in motor vehicles that have been developed and maintained by third parties, and when a problem occurs, it may be difficult to identify the source of the problem. In addition, some automobile parts and components may not be fully compatible with our products and may not meet our or our customers’ quality, safety, security or other standards. The use by customers of our products with incompatible or otherwise substandard components is largely outside of our control and could result in malfunctions or defects in our products and result in harm to our brand. These problems may lead to a decrease in customers and revenue, harm to our brand, unexpected expenses, loss of market share, the incurrence of significant warranty and repair costs, diversion of the attention of our engineering personnel from our product development efforts, customer relation problems or loss of customers, any one of which could materially adversely affect our business.

Environmental claims or failure to comply with any present or future environmental regulations may require us to spend additional funds and may harm our results of operations.

We are subject to environmental, health and safety laws and regulations that affect our operations, facilities and products in each of the jurisdictions in which we operate. Some of our newly incorporated Chinese subsidies have not obtained pollutant discharge permits required by Chinese laws. Other than the foregoing, we believe that we are in material compliance with all material environmental, health and safety laws and regulations related to our products, operations and business activities. Although we have not suffered material environmental claims in the past, the failure to comply with any present or future regulations could result in the assessment of damages or imposition of fines against us, suspension of production, cessation of our operations or even criminal sanctions. New regulations could also require us to acquire costly equipment or to incur other significant expenses. Our failure to control the use of, or adequately restrict the discharge of, hazardous substances could subject us to potentially significant monetary damages and fines or suspension of our business operations, which could cause damage to our business.

 
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We have limited insurance coverage and do not carry any business interruption insurance, third-party liability insurance for our manufacturing facilities or insurance that covers the risk of loss of our products in shipment.

Operation of our facilities involves many risks, including equipment failures, natural disasters, industrial accidents, power outages, labor disturbances and other business interruptions. Furthermore, if any of our products are faulty, then we may become subject to product liability claims or we may have to engage in a product recall. We do not carry any business interruption insurance, product recall or third-party liability insurance for our manufacturing facilities or with respect to our products to cover claims pertaining to personal injury or property or environmental damage arising from defaults with our products, product recalls, accidents on our property or damage relating to our operations. We have obtained product liability insurance only for products manufactured by Jinzhou Wanyou which are sold to customers in the United States and Canada. Therefore, our existing insurance coverage may not be sufficient to cover all risks associated with our business. As a result, we may be required to pay for financial and other losses, damages and liabilities, including those caused by natural disasters and other events beyond our control, out of our own funds, which could have a material adverse effect on our business, financial condition and results of operations.

Furthermore, under the shipping terms of some of our customer contracts, we bear the risk of loss in shipment of our products. We do not insure this risk. While we believe that the shipping companies that we use carry adequate insurance or are sufficiently solvent to cover any loss in shipment, but there can be no assurance that we will be adequately reimbursed upon the loss of a significant shipment of our products.

Our holding company structure may hinder the payment of dividends.

Wonder Auto Technology, Inc. has no direct business operations, other than its ownership of our subsidiaries. While we have no current intention of paying dividends, should we decide in the future to do so, as a holding company, our ability to pay dividends and meet other obligations depends upon the receipt of dividends or other payments from our operating subsidiaries and other holdings and investments. In addition, our operating subsidiaries, from time to time, may be subject to restrictions on their ability to make distributions to us due to restrictive covenants in loan agreements, restrictions on the conversion of local currency into U.S. dollars or other hard currency and other regulatory restrictions as discussed below. If future dividends are paid in Renminbi, fluctuations in the exchange rate for the conversion of Renminbi into U.S. dollars may reduce the amount received by U.S. stockholders upon conversion of the dividend payment into U.S. dollars.

PRC regulations currently permit the payment of dividends only out of accumulated profits as determined in accordance with PRC accounting standards and regulations. Our subsidiaries in China are also required to set aside a portion of their after tax profits according to PRC accounting standards and regulations to fund certain reserve funds. Currently, our subsidiaries in China are the only sources of sales revenue or investment holdings for the payment of dividends. If they do not accumulate sufficient profits under PRC accounting standards and regulations to first fund certain reserve funds as required by PRC accounting standards, we will be unable to pay any dividends.

China passed a new Enterprise Income Tax Law, or the New EIT Law, and its implementing rules, both of which became effective on January 1, 2008, which provide that dividends sourced from China payable to “non-resident enterprises” shall be subject to Chinese enterprise income tax at a rate of 10%. Such dividend tax rate may be reduced by applicable tax treaties or arrangements.

Under the New EIT Law and its implementation rules, dividend payments between qualified Chinese resident enterprises are exempted from enterprise income tax. However, due to the short history of the New EIT Law, it remains unclear as to the detailed qualification requirements for such exemption and whether dividend payments from our Chinese subsidiaries to us will be exempted from enterprise income tax if we are considered as a Chinese resident enterprise for tax purposes.

 
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RISKS RELATED TO DOING BUSINESS IN CHINA

Adverse changes in political and economic policies of the PRC government could impede the overall economic growth of China, which could reduce the demand for our products and damage our business.

We conduct substantially all of our operations and generate most of our revenue in China. Accordingly, our business, financial condition, results of operations and prospects are affected significantly by economic, political and legal developments in China. The PRC economy differs from the economies of most developed countries in many respects, including:

 
·
the higher level of government involvement;
 
·
the early stage of development of the market-oriented sector of the economy;
 
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the rapid growth rate;
 
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the higher level of control over foreign exchange; and
 
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the allocation of resources.

As the PRC economy has been transitioning from a planned economy to a more market-oriented economy, the PRC government has implemented various measures to encourage economic growth and guide the allocation of resources. While these measures may benefit the overall PRC economy, they may also have a negative effect on us.

Although the PRC government has in recent years implemented measures emphasizing the utilization of market forces for economic reform, the PRC government continues to exercise significant control over economic growth in China through the allocation of resources, controlling payment of foreign currency-denominated obligations, setting monetary policy and imposing policies that impact particular industries or companies in different ways.

Any adverse change in the economic conditions or government policies in China could have a material adverse effect on the overall economic growth and the level of automotive investments and expenditures in China, which in turn could lead to a reduction in demand for our products and consequently have a material adverse effect on our business and prospects.

Uncertainties with respect to the PRC legal system could limit the legal protections available to you and us.

We conduct substantially all of our business through our operating subsidiaries in China. Our operating subsidiaries are generally subject to laws and regulations applicable to foreign investments in China and, in particular, laws applicable to foreign-invested enterprises. The PRC legal system is based on written statutes, and prior court decisions may be cited for reference, but have limited precedential value. Since 1979, a series of new PRC laws and regulations have significantly enhanced the protections afforded to various forms of foreign investments in China. However, since the PRC legal system continues to rapidly evolve, the interpretations of many laws, regulations and rules are not always uniform and enforcement of these laws, regulations and rules involve uncertainties, which may limit legal protections available to you and us. In addition, any litigation in China may be protracted and result in substantial costs and diversion of resources and management attention. In addition, all of our executive officers and all but one of our directors are residents of China and not of the United States, and substantially all the assets of these persons are located outside the United States. As a result, it could be difficult for investors to effect service of process in the United States or to enforce a judgment obtained in the United States against our Chinese officers, directors and subsidiaries.

The PRC government exerts substantial influence over the manner in which we must conduct our business activities.

The PRC government has exercised and continues to exercise substantial control over virtually every sector of the Chinese economy through regulation and state ownership. Our ability to operate in China may be harmed by changes in its policies, laws and regulations, including those relating to taxation, import and export tariffs, environmental regulations, land use rights, property and other matters. We believe that our operations in China are in material compliance with all applicable legal and regulatory requirements. However, the central or local governments of the jurisdictions in which we operate may impose new, stricter regulations or interpretations of existing regulations that would require additional expenditures and efforts on our part to ensure our compliance with such regulations or interpretations.

 
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Accordingly, government actions in the future, including any decision not to continue to support recent economic reforms and to return to a more centrally planned economy or regional or local variations in the implementation of economic policies, could have a significant effect on economic conditions in China or particular regions thereof and could require us to divest ourselves of any interest we then hold in Chinese properties or joint ventures.

Restrictions on currency exchange may limit our ability to receive and use our sales revenue effectively.

Most of our sales revenue and expenses are denominated in Renminbi. Under PRC law, the Renminbi is currently convertible under the “current account,” which includes dividends and trade and service-related foreign exchange transactions, but not under the “capital account,” which includes foreign direct investment and loans. Currently, our PRC operating subsidiaries may purchase foreign currencies for settlement of current account transactions, including payments of dividends to us, without the approval of the State Administration of Foreign Exchange, or SAFE, by complying with certain procedural requirements. However, the relevant PRC government authorities may limit or eliminate our ability to purchase foreign currencies in the future. Since a significant amount of our future revenue will be denominated in Renminbi, any existing and future restrictions on currency exchange may limit our ability to utilize revenue generated in Renminbi to fund our business activities outside China that are denominated in foreign currencies.

Foreign exchange transactions by PRC operating subsidiaries under the capital account continue to be subject to significant foreign exchange controls and require the approval of or need to register with PRC government authorities, including SAFE. In particular, if our PRC operating subsidiaries borrow foreign currency through loans from us or foreign lenders, these loans must be registered with SAFE, and if we finance the subsidiaries by means of additional capital contributions, these capital contributions must be approved by certain government authorities, including the Ministry of Commerce, or their respective local counterparts. These limitations could affect our PRC operating subsidiaries’ ability to obtain foreign exchange through debt or equity financing.

Fluctuations in exchange rates could adversely affect our business and the value of our securities.

The value of our common stock will be indirectly affected by the foreign exchange rate between U.S. dollars and the Renminbi and between those currencies and other currencies in which our sales may be denominated. Because substantially all of our earnings and cash assets are denominated in Renminbi and our financial results are reported in U.S. dollars, fluctuations in the exchange rate between the U.S. dollar and the Renminbi will affect our balance sheet and our earnings per share in U.S. dollars. In addition, appreciation or depreciation in the value of the Renminbi relative to the U.S. dollar would affect our financial results reported in U.S. dollar terms without giving effect to any underlying change in our business or results of operations. Fluctuations in the exchange rate will also affect the relative value of any dividend we issue that will be exchanged into U.S. dollars and earnings from, and the value of, any U.S. dollar-denominated investments we make in the future.

Since July 2005, the Renminbi has no longer been pegged to the U.S. dollar, but is permitted to fluctuate within a narrow and managed band with reference to a portfolio of currencies. Additionally, the People’s Bank of China regularly intervenes in the foreign exchange market to prevent significant short-term fluctuations in the exchange rate, but the Renminbi may appreciate or depreciate significantly in value against the U.S. dollar in the medium to long term. Moreover, it is possible that in the future the PRC authorities may lift restrictions on fluctuations in the Renminbi exchange rate and lessen intervention in the foreign exchange market.

Very limited hedging transactions are available in China to reduce our exposure to exchange rate fluctuations. To date, we have not entered into any hedging transactions in an effort to reduce our exposure to foreign currency exchange risk. While we may enter into hedging transactions in the future, the availability and effectiveness of these transactions may be limited, and we may not be able to successfully hedge our exposure at all. In addition, our foreign currency exchange losses may be magnified by PRC exchange control regulations that restrict our ability to convert Renminbi into foreign currencies.

Currently, some of our raw materials, components and major equipment are imported. In the event that the U.S. dollars appreciate against Renminbi, our costs will increase. If we cannot pass the resulting cost increases on to our customers, our profitability and operating results will suffer. In addition, since our sales to international customers are growing, we are increasingly subject to the risk of foreign currency depreciation.

 
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Failure to comply with PRC regulations relating to the establishment of offshore special purpose companies by PRC residents may subject our PRC resident stockholders to personal liability, limit our ability to acquire PRC companies or to inject capital into our PRC subsidiaries, limit our PRC subsidiaries' ability to distribute profits to us or otherwise materially adversely affect us.

In October 2005, SAFE issued the Notice on Relevant Issues in the Foreign Exchange Control over Financing and Return Investment Through Special Purpose Companies by Residents Inside China, generally referred to as Circular 75, which required PRC residents to register with the competent local SAFE branch before establishing or acquiring control over an offshore special purpose company, or SPV, for the purpose of engaging in an equity financing outside of China on the strength of domestic PRC assets originally held by those residents. Internal implementing guidelines issued by SAFE, which became public in June 2007 (known as Notice 106), expanded the reach of Circular 75 by (1) purporting to cover the establishment or acquisition of control by PRC residents of offshore entities which merely acquire “control” over domestic companies or assets, even in the absence of legal ownership; (2) adding requirements relating to the source of the PRC resident's funds used to establish or acquire the offshore entity; (3) covering the use of existing offshore entities for offshore financings; (4) purporting to cover situations in which an offshore SPV establishes a new subsidiary in China or acquires an unrelated company or unrelated assets in China; and (5) making the domestic affiliate of the SPV responsible for the accuracy of certain documents which must be filed in connection with any such registration, notably, the business plan which describes the overseas financing and the use of proceeds. Amendments to registrations made under Circular 75 are required in connection with any increase or decrease of capital, transfer of shares, mergers and acquisitions, equity investment or creation of any security interest in any assets located in China to guarantee offshore obligations, and Notice 106 makes the offshore SPV jointly responsible for these filings. In the case of an SPV which was established, and which acquired a related domestic company or assets, before the implementation date of Circular 75, a retroactive SAFE registration was required to have been completed before March 31, 2006; this date was subsequently extended indefinitely by Notice 106, which also required that the registrant establish that all foreign exchange transactions undertaken by the SPV and its affiliates were in compliance with applicable laws and regulations. Failure to comply with the requirements of Circular 75, as applied by SAFE in accordance with Notice 106, may result in fines and other penalties under PRC laws for evasion of applicable foreign exchange restrictions. Any such failure could also result in the SPV's affiliates being impeded or prevented from distributing their profits and the proceeds from any reduction in capital, share transfer or liquidation to the SPV, or from engaging in other transfers of funds into or out of China.

We recently acquired Yearcity Limited and its subsidiary Jinan Worldwide, as well as Fuxin Huirui and have not registered these companies with the relevant branch of SAFE, as currently required. We plan to make the proper registration in the next few months.  We have asked our stockholders who are PRC residents as defined in Circular 75 to register with the relevant branch of SAFE, as currently required, in connection with their equity interests in us and our acquisitions of equity interests in our PRC subsidiaries. However, we cannot provide any assurances that they can obtain the above SAFE registrations required by Circular 75 and Notice 106. Moreover, because of uncertainty over how Circular 75 will be interpreted and implemented, and how or whether SAFE will apply it to us, we cannot predict how it will affect our business operations or future strategies. For example, our present and prospective PRC subsidiaries’ ability to conduct foreign exchange activities, such as the remittance of dividends and foreign currency-denominated borrowings, may be subject to compliance with Circular 75 and Notice 106 by our PRC resident beneficial holders.

In addition, such PRC residents may not always be able to complete the necessary registration procedures required by Circular 75 and Notice 106. We also have little control over either our present or prospective direct or indirect stockholders or the outcome of such registration procedures. A failure by our PRC resident beneficial holders or future PRC resident stockholders to comply with Circular 75 and Notice 106, if SAFE requires it, could subject these PRC resident beneficial holders to fines or legal sanctions, restrict our overseas or cross-border investment activities, limit our subsidiaries' ability to make distributions or pay dividends or affect our ownership structure, which could adversely affect our business and prospects.

We may be unable to complete a business combination transaction efficiently or on favorable terms due to complicated merger and acquisition regulations which became effective on September 8, 2006.

 
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On August 8, 2006, six Chinese regulatory agencies promulgated the Regulation on Mergers and Acquisitions of Domestic Companies by Foreign Investors, which became effective on September 8, 2006, or the M&A Regulations. The M&A Regulations, among other things, govern the approval process by which a Chinese company may participate in an acquisition of assets or equity interests. Depending on the structure of the transaction, the regulations will require the Chinese parties to make a series of applications and supplemental applications to government agencies. In some instances, the application process may require the presentation of economic data concerning a transaction, including appraisals of the target business and evaluations of the acquirer, which are designed to allow the government to assess the transaction. Government approvals will have expiration dates by which a transaction must be completed and reported to the government agencies. Compliance with the regulations is likely to be more time consuming and expensive than in the past and the government can now exert more control over the combination of two businesses. Accordingly, due to the M&A Regulations, our ability to engage in business combination transactions has become significantly more complicated, time consuming and expensive, and we may not be able to negotiate a transaction that is acceptable to our stockholders or sufficiently protect their interests in a transaction.

The M&A Regulations allow Chinese government agencies to assess the economic terms of a business combination transaction. Parties to a business combination transaction may have to submit to the Ministry of Commerce and other relevant government agencies an appraisal report, an evaluation report and the acquisition agreement, all of which form part of the application for approval, depending on the structure of the transaction. The regulations also prohibit a transaction at an acquisition price obviously lower than the appraised value of the PRC business or assets and in certain transaction structures, require that consideration must be paid within defined periods, generally not in excess of a year. The regulations also limit our ability to negotiate various terms of an acquisition, including aspects of the initial consideration, contingent consideration, holdback provisions, indemnification provisions and provisions relating to the assumption and allocation of assets and liabilities. Transaction structures involving trusts, nominees and similar entities are prohibited. Therefore, the M&A Regulations may impede our ability to negotiate and complete a business combination transaction on financial terms that satisfy our investors and protect our stockholders’ economic interests.

In addition to the above risks, in many instances, we will seek to structure transactions in a manner that avoids the need to make applications or a series of applications with Chinese regulatory authorities under the M&A Regulations. If we fail to effectively structure an acquisition in a manner that avoids the need for such applications or if the Chinese government interprets the requirements of the M&A Regulations in a manner different from our understanding of such regulations, then acquisitions that we have effected may be unwound or subject to rescission. Also, if the Chinese government determines that the structure of any of our acquisitions does not comply with these regulations, then we may also be subject to fines and penalties.

Failure to comply with Chinese regulations regarding the registration requirements for employee stock ownership plans or share option plans may subject the PRC plan participants or us to fines and other legal or administrative sanctions.

In December 2006, the People’s Bank of China promulgated the Administrative Measures for Individual Foreign Exchange, which set forth the respective requirements for foreign exchange transactions by Chinese individuals under either the current account or the capital account. In January 2007, SAFE issued the Implementation Rules of the Administrative Measures for Individual Foreign Exchange, which, among other things, specified approval requirements for certain capital account transactions such as a Chinese citizen’s participation in the employee stock ownership plans or stock option plans of an overseas publicly-listed company. On March 28, 2007, SAFE promulgated the Processing Guidance on Foreign Exchange Administration for Domestic Individuals Participating in Employee Stock Holding Plans or Stock Option Plans of Overseas-Listed Companies. Under this rule, PRC citizens who are granted stock options by an overseas publicly-listed company are required, through a qualified PRC domestic agent or PRC subsidiary of such overseas publicly-listed company, to register with SAFE and complete certain other procedures. We and our Chinese employees who receive stock option grants will be subject to this rule. Our board of directors has adopted the Wonder Auto Technology, Inc. 2008 Equity Incentive Plan. If we or the Chinese optionees fail to comply with these regulations, we or these optionees may be subject to fines and other legal or administrative sanctions.

PRC regulation of loans and direct investment by offshore holding companies to PRC entities may delay or prevent us from making loans or additional capital contributions to our PRC operating subsidiaries.

 
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As an offshore holding company of our PRC operating subsidiaries, we may make loans to our PRC subsidiaries. Any loans to our PRC subsidiaries are subject to approval by relevant governmental authorities in China and other requirements under relevant PRC regulations.

We may also decide to finance our PRC subsidiaries by means of capital contributions. According to the relevant PRC regulations on foreign-invested enterprises in China, depending on the amount of total investment and the type of business in which a foreign-invested enterprise is engaged, capital contributions to foreign-invested enterprises in China are subject to approval by the Ministry of Commerce or its local branches. We may not obtain these government approvals on a timely basis, if at all, with respect to future capital contributions by us to our PRC subsidiaries. If we fail to receive such approvals, our ability to capitalize our PRC operations may be negatively affected, which could materially and adversely affect our liquidity and our ability to fund and expand our business.

Under the New EIT Law, we may be classified as a “resident enterprise” of China. Such classification will likely result in unfavorable tax consequences to us and our non-PRC stockholders.

On March 16, 2007, the National People’s Congress of China passed the New EIT Law, and on November 28, 2007, the State Council of China passed the New EIT Law Implementing Rules which took effect on January 1, 2008. Under the New EIT Law, an enterprise established outside of China with “de facto management bodies” within China is considered a “resident enterprise,” meaning that it can be treated in a manner similar to a Chinese enterprise for enterprise income tax purposes.  The implementing rules of the New EIT Law define de facto management as “substantial and overall management and control over the production and operations, personnel, accounting, and properties” of the enterprise.

On April 22, 2009, the State Administration of Taxation issued the Notice Concerning Relevant Issues Regarding Cognizance of Chinese Investment Controlled Enterprises Incorporated Offshore as Resident Enterprises pursuant to Criteria of de facto Management Bodies, or the Notice, further interpreting the application of the New EIT Law and its implementation for a non-Chinese enterprise or group of controlled offshore entities.  Pursuant to the Notice, an enterprise incorporated in an offshore jurisdiction and controlled by a Chinese enterprise or group will be classified as a “non-domestically incorporated resident enterprise” if (i) its senior management in charge of daily operations reside or perform their duties mainly in China; (ii) its financial or personnel decisions are made or approved by bodies or persons in China; (iii) its substantial assets and properties, accounting books, corporate chops, board and shareholder minutes are kept in China; and (iv) at least half of its directors with voting rights or senior management are resident in China.  A resident enterprise would be subject to an enterprise income tax rate of 25% on its worldwide income and must pay a withholding tax at a rate of 10% when paying dividends to its non-PRC shareholders.  However, it remains unclear as to whether the Notice is applicable to an offshore enterprise incorporated by a Chinese natural person.  Nor are detailed measures on imposition of tax from non-domestically incorporated resident enterprises are available. Therefore, it is unclear how tax authorities will determine tax residency based on the facts of each case.

We may be deemed to be a resident enterprise by Chinese tax authorities.  If the PRC tax authorities determine that we are a “resident enterprise” for PRC enterprise income tax purposes, a number of unfavorable PRC tax consequences could follow. First, we may be subject to the enterprise income tax at a rate of 25% on our worldwide taxable income as well as PRC enterprise income tax reporting obligations. In our case, this would mean that income such as interest on financing proceeds and non-China source income would be subject to PRC enterprise income tax at a rate of 25%. Second, although under the New EIT Law and its implementing rules dividends paid to us from our PRC subsidiaries would qualify as “tax-exempt income,” we cannot guarantee that such dividends will not be subject to a 10% withholding tax, as the PRC foreign exchange control authorities, which enforce the withholding tax, have not yet issued guidance with respect to the processing of outbound remittances to entities that are treated as resident enterprises for PRC enterprise income tax purposes.  Finally, it is possible that future guidance issued with respect to the new “resident enterprise” classification could result in a situation in which a 10% withholding tax is imposed on dividends we pay to our non-PRC shareholders and with respect to gains derived by our non-PRC shareholders from transferring our shares.  We are actively monitoring the possibility of “resident enterprise” treatment for the 2010 tax year and are evaluating appropriate organizational changes to avoid this treatment, to the extent possible.

If we were treated as a “resident enterprise” by PRC tax authorities, we would be subject to taxation in both the U.S. and China, and our PRC tax may not be creditable against our U.S. tax.

 
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RISKS RELATED TO THE MARKET FOR OUR STOCK GENERALLY

The price of our common stock may fluctuate significantly, which could negatively affect us and holders of our common stock.

The trading price of our common stock may fluctuate significantly in response to a number of factors, many of which are beyond our control. For instance, if our financial results are below the expectations of securities analysts and investors, the market price of our common stock could decrease, perhaps significantly. Other factors that may affect the market price of our common stock include announcements relating to significant corporate transactions; fluctuations in our quarterly and annual financial results; operating and stock price performance of companies that investors deem comparable to us; and changes in government regulation or proposals relating to us. In addition, since the middle of 2008, the U.S. securities markets have experienced significant price and volume fluctuations. These fluctuations often have been unrelated to the operating performance of companies in these markets. Market fluctuations and broad market, economic and industry factors may negatively affect the price of our common stock, regardless of our operating performance. You may not be able to sell your shares of our common stock at or above your purchase price, or at all. Any volatility of or a significant decrease in the market price of our common stock could also negatively affect our ability to make acquisitions using common stock. Further, if we were to be the object of securities class action litigation as a result of volatility in our common stock price or for other reasons, it could result in substantial costs and diversion of our management’s attention and resources, which could negatively affect our financial results.

The market price of our stock may be affected by low volume.

Our common stock has a relatively low average daily volume. Reported average daily trading volume in our common stock for the three month period ended November 1, 2010, was approximately 0.5 million shares. Without a significantly larger average trading volume, our common stock will be less liquid than the common stock of companies with higher trading volume, as a result, the trading prices for our common stock may be more volatile.

We do not intend to pay dividends on shares of our common stock for the foreseeable future.

We have never declared or paid any cash dividends on shares of our common stock. We intend to retain any future earnings to fund the operation and expansion of our business and, therefore, we do not anticipate paying cash dividends on shares of our common stock in the foreseeable future.

Certain provisions of our Articles of Incorporation may make it more difficult for a third party to effect a change-of-control.

Our Articles of Incorporation authorizes the board of directors to issue up to 10,000,000 shares of preferred stock. The preferred stock may be issued in one or more series, the terms of which may be determined at the time of issuance by the board of directors without further action by the stockholders. These terms may include preferences as to dividends and liquidation, conversion rights, redemption rights and sinking fund provisions. The issuance of any preferred stock could diminish the rights of holders of our common stock, and therefore could reduce the value of such common stock. In addition, specific rights granted to future holders of preferred stock could be used to restrict our ability to merge with, or sell assets to, a third party. The ability of the board of directors to issue preferred stock could make it more difficult, delay, discourage, prevent or make it more costly to acquire us or effect a change-in-control, which in turn could prevent our stockholders from recognizing a gain in the event that a favorable offer is extended and could materially and negatively affect the market price of our common stock.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

During the three-month period ended September 30, 2010, we made no unregistered sales of our equity securities.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

None.

 
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ITEM 4. (REMOVED AND RESERVED)
   

ITEM 5.  OTHER INFORMATION

None.

ITEM 6.  EXHIBITS

EXHIBITS.

3.1
 
Articles of Incorporation of the Company as filed with the Secretary of State of Nevada. Incorporated by reference to Exhibit 3.1 to the Company’s registration statement on Form SB-2 filed on December 11, 2001 in commission file number 333-74914.
     
3.2
 
Certificate of Amendment to Articles of Incorporation. Incorporated by reference to Exhibit 3.1 to the Company’s current report on Form 8-K filed on February 13, 2006.
     
3.3 
 
Certificate of Amendment to Articles of Incorporation. Incorporated by reference to appendix A to the Company’s definitive information statement on Schedule 14C filed on July 31, 2006.
     
3.4
 
Amended and Restated Bylaws of the Company. Incorporated by reference to Exhibit 3.2 to the Company’s current report on Form 8-K filed on July 9, 2007.
     
10.1
 
Employment Contract, dated July 2, 2010, by and between the Company and Qingdong Zeng.  Incorporated by reference to Exhibit 10.1 to the Company’s current report on Form 8-K filed on July 7, 2010.
     
10.2
 
English Summary of the conditional sale and purchase agreement, dated July 10, 2010, by and among Wonder Auto Limited, Yearcity Limited and Jin Ying Limited. Incorporated by reference to Exhibit 10.1 to the Company’s current report on Form 8-K filed on July 13, 2010.
     
10.3
 
English Summary of the conditional disposal agreement, dated July 10, 2010, by and among Vital Glee Development Limited and Jinheng Automotive Safety Technology Holdings Limited. Incorporated by reference to Exhibit 10.2 to the Company’s current report on Form 8-K filed on July 13, 2010.
     
10.4
 
English Summary of the trademark license agreement, dated July 10, 2010, by and between Jinheng Automotive Electronic (Hong Kong) Limited and Jinzhou Jinheng Automobile Safety System Co., Ltd. Incorporated by reference to Exhibit 10.3 to the Company’s current report on Form 8-K filed on July 13, 2010.
     
10.5
 
English Summary of the supply agreement, dated July 10, 2010, by and between Beijing Jinheng Great Idea Automotive Electronic Systems Co., Ltd. and Jinzhou Jinheng Automobile Safety System Co., Ltd. Incorporated by reference to Exhibit 10.4 to the Company’s current report on Form 8-K filed on July 13, 2010.
     
10.6
 
English Summary of the supply agreement, dated July 10, 2010, by and between Shanxi Winner Auto-Parts Limited and Jinzhou Jinheng Automobile Safety System Co., Ltd. Incorporated by reference to Exhibit 10.5 to the Company’s current report on Form 8-K filed on July 13, 2010.
     
31.1*
  
Certification of Principal Executive Officer filed pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
     
31.2*
   
Certification of Principal Financial Officer filed pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
       
32.1*
  
Certification of Principal Executive Officer furnished pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
     
32.2*
  
Certification of Principal Financial Officer furnished pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

* Filed herewith.

 
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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized.

DATED: November 9, 2010

 
WONDER AUTO TECHNOLOGY, INC.
   
   
/s/ Meirong Yuan
   
Meirong Yuan
   
Chief Financial Officer
   
(On behalf of the Registrant and as
   
Principal Financial Officer)

 
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EXHIBIT INDEX

3.1
 
Articles of Incorporation of the Company as filed with the Secretary of State of Nevada. Incorporated by reference to Exhibit 3.1 to the Company’s registration statement on Form SB-2 filed on December 11, 2001 in commission file number 333-74914.
     
3.2
 
Certificate of Amendment to Articles of Incorporation. Incorporated by reference to Exhibit 3.1 to the Company’s current report on Form 8-K filed on February 13, 2006.
     
3.3
 
Certificate of Amendment to Articles of Incorporation. Incorporated by reference to appendix A to the Company’s definitive information statement on Schedule 14C filed on July 31, 2006.
     
3.4
 
Amended and Restated Bylaws of the Company. Incorporated by reference to Exhibit 3.2 to the Company’s current report on Form 8-K filed on July 9, 2007.
     
10.1
 
Employment Contract, dated July 2, 2010, by and between the Company and Qingdong Zeng.  Incorporated by reference to Exhibit 10.1 to the Company’s current report on Form 8-K filed on July 7, 2010.
     
10.2
 
English Summary of the conditional sale and purchase agreement, dated July 10, 2010, by and among Wonder Auto Limited, Yearcity Limited and Jin Ying Limited. Incorporated by reference to Exhibit 10.1 to the Company’s current report on Form 8-K filed on July 13, 2010.
     
10.3
 
English Summary of the conditional disposal agreement, dated July 10, 2010, by and among Vital Glee Development Limited and Jinheng Automotive Safety Technology Holdings Limited. Incorporated by reference to Exhibit 10.2 to the Company’s current report on Form 8-K filed on July 13, 2010.
     
10.4
 
English Summary of the trademark license agreement, dated July 10, 2010, by and between Jinheng Automotive Electronic (Hong Kong) Limited and Jinzhou Jinheng Automobile Safety System Co., Ltd. Incorporated by reference to Exhibit 10.3 to the Company’s current report on Form 8-K filed on July 13, 2010.
     
10.5
 
English Summary of the supply agreement, dated July 10, 2010, by and between Beijing Jinheng Great Idea Automotive Electronic Systems Co., Ltd. and Jinzhou Jinheng Automobile Safety System Co., Ltd. Incorporated by reference to Exhibit 10.4 to the Company’s current report on Form 8-K filed on July 13, 2010.
     
10.6
 
English Summary of the supply agreement, dated July 10, 2010, by and between Shanxi Winner Auto-Parts Limited and Jinzhou Jinheng Automobile Safety System Co., Ltd. Incorporated by reference to Exhibit 10.5 to the Company’s current report on Form 8-K filed on July 13, 2010.
     
31.1*
  
Certification of Principal Executive Officer filed pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
     
31.2*
  
Certification of Principal Financial Officer filed pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
     
32.1*
  
Certification of Principal Executive Officer furnished pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
     
32.2*
  
Certification of Principal Financial Officer furnished pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

* Filed herewith.

 
75