UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

x        QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

                             For the quarterly period ended December 31, 2011

 

¨         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: 0-53600

 

CHINA YCT INTERNATIONAL GROUP, INC.

(Exact name of registrant as specified in its charter)

 

Delaware	65-2954561
(State or other jurisdiction of incorporation or	(IRS Employer Identification No.)
organization)
c/o Shandong Spring Pharmaceutical Co., Ltd Economic
Development Zone.
Gucheng Road Sishui County Shandong Province PR China	273200
(Address of principal executive offices)	(Zip Code)

 

Issuer's telephone number: 406-282-3188

 

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 S   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 S    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

Non-accelerated filer (Do not check if a smaller reporting company)  Smaller reporting company S

 

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

 

The number of shares outstanding of the issuer’s common stock on February 7, 2012 was 73,830,610.

  

 

CHINA YCT INTERNATIONAL GROUP, INC.

FORM 10-Q/A

 QUARTERLY PERIOD ENDED JUNE 30, 2011

 

INDEX

TABLE OF CONTENTS

 

				Page
		PART I - FINANCIAL INFORMATION
Item 1:		Financial Statements		3
Item 2:		Management's Discussion and Analysis of Financial Condition and Results of Operations		16
Item 3:		Quantitative and Qualitative Disclosures About Market Risk		24
Item 4:		Controls and Procedures		24
		PART II - OTHER INFORMATION
Item 1:		Legal Proceedings		25
Item 1A:		Risk Factors		25
Item 2:		Unregistered Sales of Equity Securities and Use of Proceeds		25
Item 3:		Defaults Upon Senior Securities		25
Item 4:		Removed and Reserved		26
Item 5:		Other Information		26
Item 6:		Exhibits		26

 

 

Item 1. Financial Statement

 

CHINA YCT INTERNATIONAL GROUP, INC.

CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE MONTHS AND NINE MONTHS ENDED DECEMBER 31, 2011 AND 2010 (UNAUDITED)

 

Table of Contents

 

			Page
	Consolidated Balance Sheets as of December 31, 2011 (Unaudited) and March 31, 2011		4
	Consolidated Statements of Income for the three months and nine months ended December 31, 2011 and 2010 (Unaudited)		5
	Consolidated Statement of Stockholders’ Equity as of December 31, 2011 (Unaudited) and March 31, 2011		6
	Consolidated Statements of Cash Flows for the nine months Ended December 31, 2011 and 2010 (Unaudited)		7
	Notes to Consolidated Financial Statement (Unaudited)		8-15

 

 

CHINA YCT INTERNATIONAL GROUP, INC.

CONDENSED CONSOLIDATED BALANCE SHEET

 

						UNIT: USD$
		December 31, 2011				March 31, 2011
		(Unaudited)				(Audited)
Assets
Current assets:
Cash and cash equivalent		$	18,443,850			$	6,046,804
Prepaid accounts			67,627				15,602,258
Inventory			2,483,981				59,183
Other receivable from related parties			-				-
Total current assets			20,995,458				21,708,245
Plant, property and equipment, net			9,784,841				9,629,558
Construction in progress			219,752				211,189
Intangible assets, net			70,561,663				63,755,346
Total assets			101,561,714				95,304,338
Liabilities and Stockholders’ Equity (Deficit)
Liabilities:
Current liabilities:
Accounts payable			-				-
Tax payable			1,334,321				1,634,801
Other payable			1,753,911				229,561
Total current liabilities			3,088,232				1,864,362
Contingency			23,391,902				23,391,902
Total liabilities			26,480,134				25,256,264
Stockholders’ Equity
Preferred stock, par value $500.00 per share; 45 shares authorized and issued at December 31, 2011 and March 31, 2011			22,500				22,500
Common stock, par value $0.001 per share; 29,476,409 shares authorized and issued; at December 31, 2011 and March 31, 2011, respectively			29,525				29,503
Common stock subject to return, par value $0.001 per share; 44,254,952 shares authorized and issued; at December 31, 2011 and March 31, 2011, respectively			44,255				44,255
Additional paid-in capital			4,130,999				4,119,910
Additional paid-in capital subject to return			32,748,644				32,748,644
Statutory reserve			956,633				956,633
Retained earnings			34,255,258				30,085,336
Accumulated other comprehensive income			2,893,766				2,041,293
Total stockholders’ equity			75,081,580				70,048,074
Total liabilities and stockholders’ equity		$	101,561,714			$	95,304,338

 

 

The accompanying notes are an integral part of the consolidated financial statements.

 

CHINA YCT INTERNATIONAL GROUP, INC.

CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS

(Unaudited)

 

														UNIT: USD$
		FOR THE THREE MONTHS								FOR THE NINE MONTHS
		ENDED								ENDED
		December 31,				December 31,				December 31,				December 31,
		2011				2010				2011				2010
Sales Revenue		$	10,112,489			$	9,886,824			$	26,477,760			$	21,301,142
Cost of Goods Sold			4,712,730				4,613,157				11,894,299				10,788,613
Gross Profit			5,399,758				5,273,667				14,583,461				10,512,529
Selling Expenses			713,694				843,458				2,505,249				1,776,853
G&A Expense			2,050,421				352,096				5,651,412				855,011
R&D Expenses			183,693				111,221				577,514				233,210
Total expense			2,947,808				1,306,775				8,734,175				2,865,074
Income from operation			2,451,951				3,966,892				5,849,286				7,647,455
Interest income (Expense)			65,818				18,273				209,953				18,273
Other income (Expense)			-				580,211				-				580,211
Profit before tax			2,517,769				4,565,376				6,059,239				8,245,939
Income tax			992,840				1,141,919				1,878,207				2,085,719
Net income			1,524,929				3,423,457				4,181,032				6,160,220
Other comprehensive income
Foreign currency translation adjustment			216,785				510,647				852,472				2,199,600
Compenhensive income		$	1,741,714			$	3,934,104			$	5,033,504			$	8,359,820
Basic and diluted income per common share
Basic and Diluted			0.02				0.12				0.06				0.21
Weighted average number of common shares outstanding
Basic and Diluted			73,780,610				29,473,902				73,780,610				29,473,902

 

 

The accompanying notes are an integral part of the consolidated financial statements.

 

CHINA YCT INTERNATIONAL GROUP, INC.

 

CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(Unaudited)

 

																																		UNIT: USD$
CHINA YCT INTERNATIONAL		Preferred Stock																Additional
GROUP, INC.		Series A								Common shares								paid in				Statutory				Accumulated				Retained
		Shares				Amount				Shares				Amount				Capital				Reserve				OCI				Earnings				Total
Balance - March 31, 2011			45			$	22,500				73,758,388			$	73,758			$	36,868,554			$	956,633			$	2,041,293			$	30,085,336			$	70,048,074
Issuance of common shares to independent directors											22,222				22				11,089																11,111
Adjustment to net income																															-11,111				-11,111
Net income for the year																															793,869				793,869
Foreign currency translation adjustment																											219,508								219,508
Balance - June 30, 2011			45			$	22,500				73,780,610			$	73,780			$	36,879,643			$	956,633			$	2,260,801			$	30,868,094			$	71,061,451
Net income for the year																															1,862,233				1,862,233
Foreign currency translation adjustment																											416,179								416,179
Balance - September 30, 2011			45			$	22,500				73,780,610			$	73,780			$	36,879,643			$	956,633			$	2,676,980			$	32,730,327			$	73,339,863
Net income for the year																															1,524,929				1,524,929
Foreign currency translation adjustment																											216,785								216,785
Balance - December 31, 2011			45			$	22,500				73,780,610			$	73,780			$	36,879,643			$	956,633			$	2,893,766			$	34,255,258			$	75,081,580

 

 

The accompanying notes are an integral part of the consolidated financial statements.

 

CHINA YCT INTERNATIONAL GROUP, INC.

CONDENSED CONSOLIDATED STATEMENT OF CASH FLOW

(Unaudited)

 

						UNIT: USD$
		NINE MONTH ENDED
		December 31, 2011				December 31, 2010
Cash Flows From Operating Activities:
Net income			4,181,032			$	6,160,220
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization			5,315,531				463,077
Issue of common shares as compensation			-				19,760
Changes in operating assets and liabilities:
Inventory			(2,424,798	)			197,645
Advance to suppliers
Other receivable from related parties
Accounts payable			-				(2,299,928	)
Customer deposit
Taxes payable			(300,480	)			278,575
Accrued expenses and other payables			1,524,351				43,005
Net cash provided by (used in) operating activities			8,295,636				4,862,354
Cash flows from investing activities:
Addition to plant and equipment			(511,491	)			(563,183	)
Loan repaid from (provided to) related party							-
Prepayment/deposit to Jining Tianruitong for purchasing of drug patents			4,107,691				(15,354,102	)
Net cash provided by (used in) investing activities			3,596,200				(15,917,285	)
Effect of exchange rate changes on cash and cash equivalents			505,210				1,046,836
Net increase (decrease) in cash and cash equivalents			12,397,046				(10,008,095	)
Cash and cash equivalents at beginning of period			6,046,804				11,911,933
Cash and cash equivalents at ending of period			18,443,850			$	1,903,839
Supplemental disclosures of cash flow information:
Cash paid during the periods for:
Interest			-				-
Income taxes			2,178,687			$	2,144,058

 

 

The accompanying notes are an integral part of the consolidated financial statements.

 

NOTE 1 - ORGANIZATION AND PRINCIPAL ACTIVITIES

 

China YCT International Group, Inc. (“China YCT”) was incorporated in the State of Florida, in the United States (the “US”) in January 1989, and reincorporated in the State of Delaware on April 4, 2007.   China YCT principally operates through directly owned subsidiaries: Landway Nano Bio-Tech, Inc. (100% owned), incorporated in Delaware,, and Shandong Spring Pharmaceutical Co., Ltd. (“Shandong Spring”), (100% owned), incorporated in the People’s Republic of China (“PRC”). China YCT International Group, Inc. and its subsidiaries are collectively referred to as the “Company.”

 

China YCT, through its wholly owned subsidiary, Shandong Spring, is engaged in the business of developing, manufacturing and selling its own medicine from gingko extract, and other dietary supplement products in the PRC.

 

NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Basis of presentation

 

The consolidated financial statements of the Company are prepared in accordance with accounting principles generally accepted in the United States of America (“US GAAP”).

 

Principles of consolidation

 

The consolidated financial statements include the financial statements of China YCT, Landway Nano and its wholly owned subsidiary, Shandong Spring. All inter-company transactions and balances are eliminated in consolidation.

 

Use of estimates

 

The preparation of financial statements in conformity with US GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements, as well as the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Significant accounting estimates reflected in the Company’s consolidated financial statements include: the valuation of inventory, and estimated useful lives and impairment of property and equipment and intangible assets.

 

Cash and cash equivalents

 

For purposes of the statement of cash flow, the Company considers all highly liquid investments with an original maturity of three months or less to be cash equivalents.

 

Inventory

 

Inventory is primarily composed of raw materials and packing materials for manufacturing, work in process, and finished goods. Inventories are valued at the lower of cost or market with cost determined on a weighted average basis. Management compares the cost of inventory with the market value and an allowance is made for writing down the inventory to its market value, if lower than cost.

 

Property and equipment

 

Property and equipment are stated at cost. The cost of an asset comprises its purchase price and any directly attributable costs of bringing the asset to its present working condition and locations for its intended use. Depreciation is calculated using the straight-line method over the following useful lives:

 

Buildings	30-35 years
Machinery, equipment and automobiles	7-15 years
Furniture and fixtures	7-10 years

 

Expenditures for maintenance and repairs are charged to expense as incurred. Additions, renewals and betterments are capitalized.

 

 

Intangible Assets

 

(i) Land Use Rights:

 

All land in the PRC is owned by the government and cannot be sold to any individual or company.  However, the government may grant a “land use right” to occupy, develop and use land. The Company records land use rights obtained as intangible assets at cost, which is amortized evenly over the grant period of 50 years.

 

(ii) Patent:

 

In March 2010, the Company purchased one patent from Shandong YCT Corp. The patent is the Company’s exclusive right to use an aglycone type and purification method of biotransformation in the gingko product manufacturing process for a period of 20 years from the patent application date. The patent was recorded at cost when purchased, and is being amortized over the shorter of its remaining legal life, 16.5 years, or its useful life, on a straight-line basis.

 

On February 28, 2011, the Company acquired U.S. patent No. 6,475,531 B1 titled “Safe Botanical Drug for Treatment and Prevention of Influenza and Increasing Immune Function” through a purchase agreement with L.Y. Research Corp., a New Jersey Corporation.

 

According to the purchase agreement between the Company and L.Y. Research Corp., the Company acquired the patent from L.Y. Hong Kong Biotech Limited (LYHK), L.Y. Research Corp’s wholly owned subsidiary incorporated in Hong Kong, China, in exchange for 44,254,952 shares of common stock at the acquisition date. In addition, 11,063,968 shares of common stock will be issued to the seller upon the occurrence of the quotation of the Company’s common stock on the OTCQB or OTCBB; and 20,546,711 shares will be issued to the seller upon the receipt by the Company of a minimum of $20,000,000 in gross proceeds from a debt or equity financing, or a series of debt and/or equity financings (the “Financing”); or upon the quotation of its common stock on NASDAQ or a major stock exchange located outside of the United States (collectively, “Events”). The total consideration of $56,140,567 was calculated by multiplying the total of 75,865,631 common stock shares by the Company’s quoted stock price of $0.74 per share on February 28, 2011. T is being amortized over the shorter of its remaining legal life, 9.9 years, or its useful life, on a straight-line basis.

 

In October 2011, two patents were transferred to the Company based on a purchase agreement signed with Jining Tianruitong Technology development Company, Limited on October 26, 2010; which are “Treatment to ischemic encephalopathy and its preparation method” (ZL200510045001.9) and “Chinese herbal medicine compound to treat renal insufficiency and its preparation” (ZL200710013301.8). The patents were recorded at cost when purchased, and are being amortized over the shorter of the remaining legal lives, 13.75 years and 14.95 years, respectively; or their useful lives, on a straight-line basis.

 

Revenue recognition

 

The Company’s revenue recognition policies are in compliance with Staff Accounting Bulletin (“SAB”) 104, included in the Codification as ASC 605, Revenue Recognition. Sales revenue is recognized at the date of shipment to customers when a formal arrangement exists, the price is fixed or determinable, the delivery is completed, no other significant obligations of the Company exist and collectability is reasonably assured. Payments received before all of the relevant criteria for revenue recognition are recorded as customer deposits.

 

Unearned revenue

 

Revenue from the sale of goods or services is recognized at the time that goods are delivered or services are rendered. Receipts in advance for goods to be delivered or services to be rendered in a subsequent period are carried forward as unearned revenue.

 

Impairment of long-lived assets

 

The Company reviews its long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may no longer be recoverable. An impairment loss, measured based on the fair value of the asset, is recognized if expected future undiscounted cash flows are less than the carrying amount of the assets.

 

Income taxes

 

The Company accounts for income tax under the asset and liability method as stipulated by Accounting Standards Codification (“ASC”) 740 formerly Statement of Financial Accounting Standards (”SFAS”) No. 109, “Accounting for Income Taxes”, which requires recognition of deferred tax assets and liabilities for the expected future tax consequences of the events that have been included in the financial statements or tax returns.  Deferred Income taxes are recognized for all significant temporary differences between tax and financial statements bases of assets and liabilities.  Valuation allowances are established against net deferred tax assets when it is more likely than not that some portion or all of the deferred tax asset will not be realized. There were no deferred tax amounts at December 31, 2011 and March 31, 2011, respectively.

 

 

Value-added tax

 

Sales revenue represents the invoiced value of goods, net of a Value-Added Tax (“VAT”). All of the Company’s products that are sold in the PRC are subject to a Chinese value-added tax at a rate of 4% of the gross sales price. This VAT may be offset by VAT paid by the Company on raw materials and other materials included in the cost of producing their finished product.

 

The Company recorded net VAT Payable in amount of $310,431 and $489,962 as of December 31, 2011 and March 31, 2011.

 

Research and development

 

Research and development costs are related primarily to the Company’s developing its intellectual property. Research and development costs are expensed as incurred. The costs of material and equipment that are acquired or constructed for research and development activities and have alternative future uses are classified as plant and equipment and depreciated over their estimated useful lives.

 

The research and development expense for the three months ended December 31, 2011 and 2010 was $183,693 and $111,221, respectively.

 

The research and development expense for the nine months ended December 31, 2011 and 2010 was $577,514 and $233,210, respectively.

 

Advertising costs

 

Advertising costs for newspaper and television are expensed as incurred.  

 

The Company incurred advertising costs of $157,721 and $0 for the three months ended December 31, 2011 and 2010, respectively.

 

The Company incurred advertising costs of $390,452 and $169 for the nine months ended December 31, 2011 and 2010, respectively.

 

Mailing and handling costs

 

The Company accounts for mailing and handling fees in accordance with the FASB ASC 605-45 (Emerging Issues Task Force (EITF) Issue No. 00-10, Accounting for Shipping and Handling Fees and Costs). The Company includes shipping and handling fees billed to customers in net revenues. Amounts incurred by the Company for freight are included in cost of goods sold.

 

For the three months ended December 31, 2011 and 2010, the Company incurred $1,475 and $429,498 mailing and handling costs, respectively.

 

For the nine months ended December 31, 2011 and 2010, the Company incurred $662,629 and $890,233 mailing and handling costs, respectively.

 

Stock Based Compensation

 

The Company measures compensation expense for its non-employee stock-based compensation under FASB ASC 718. The fair value of the stock issued is used to measure the transaction, as this is more reliable than the fair value of the services received. Fair value is measured as the value of the Company’s common stock on the date that the commitment for performance by the counterparty has been reached or the counterparty’s performance is complete. The fair value of the equity instrument is charged directly to compensation expense.

 

Net income (loss) per share (“EPS”)

 

Basic EPS excludes dilution and is computed by dividing net income (loss) attributable to common stockholders by the weighted average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock (convertible preferred stock, forward contracts, warrants to purchase common stock, contingently issuable shares, common stock options and warrants and their equivalents using the treasury stock method) were exercised or converted into common stock.

 

There are 31,610,679 and nil common stock equivalents available for dilution purposes as of December 31, 2011 and 2010, respectively.

 

 

Risks and uncertainties

 

The Company’s operations are carried out in the PRC. Accordingly, the Company’s business, financial condition and results of operations may be influenced by the political, economic and legal environments in the PRC, and by the general state of the PRC’s economy. The Company’s operations in the PRC are subject to specific considerations and significant risks not typically associated with companies in the North America and Western Europe. These include risks associated with, among others, the political, economic and legal environments and foreign currency exchange. The Company’s results may be adversely affected by changes in governmental policies with respect to laws and regulations, anti-inflationary measures, currency conversion and remittance abroad, and rates and methods of taxation, among other things.

 

Fair Value of Financial Instruments

 

For certain of the Company’s financial instruments, including cash and cash equivalents, restricted cash, accounts receivable, accounts payable, accrued liabilities and short-term debt, the carrying amounts approximate their fair values due to their short maturities.

 

As of December 31, 2011, the Company did not identify any financial instruments that are required to be presented on the balance sheet at fair value other than those whose carrying amounts approximate fair value due to their short maturities.

 

Foreign currency translation

 

The accounts of the Company’s Chinese subsidiary are maintained in the RMB and the accounts of the U.S. parent company are maintained in the USD. The accounts of the Chinese subsidiary were translated into USD in accordance with Accounting Standards Codification (“ASC”) Topic 830 “Foreign Currency Matters,” with the RMB as the functional currency for the Chinese subsidiary. According to Topic 830, all assets and liabilities were translated at the exchange rate on the balance sheet date; stockholders’ equity is translated at historical rates and statement of income items are translated at the weighted average exchange rate for the period. The resulting translation adjustments are reported under other comprehensive income in accordance with ASC Topic 220, “Comprehensive Income.” Gains and losses resulting from the translations of foreign currency transactions and balances are reflected in the statements of income.

 

Translation adjustments resulting from this process amounted to $2,893,765 and $2,199,600 as of December 31, 2011 and 2010, respectively.

 

The following exchange rates were adopted to translate the amounts from RMB into United States dollars (“USD$”) for the respective periods:

 

			Dec 31, 2011				Mar 31, 2010				Dec 31, 2010
Three Months End RMB Exchange Rate (RMB/USD$)			6.3009				6.5564				6.6227
Average Period RMB Exchange Rate (RMB/USD$)			6.3403				6.7111				6.7762

 

Recent accounting pronouncements

 

In June 2011, FASB issued an amendment to the FASB Codification Topic 220 – Presentation of Comprehensive Income. The objective of this Update is to improve the comparability, consistency, and transparency of financial reporting and to increase the prominence of items reported in other comprehensive income. To increase the prominence of items reported in other comprehensive income and to facilitate convergence of U.S. generally accepted accounting principles (GAAP) and International Financial Reporting Standards (IFRS), the FASB decided to eliminate the option to present components of other comprehensive income as part of the statement of changes in stockholders equity. The amendments require that all non-owner changes in stockholders’ equity be presented either in a single continuous statement of comprehensive income or in two separate but consecutive statements. In the two-statement approach, the first statement should present total net income and its components followed consecutively by a second statement that should present total other comprehensive income, the components of other comprehensive income, and the total of comprehensive income. The amendments in this Update should be applied retrospectively. For public entities, the amendments are effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. For nonpublic entities, the amendments are effective for fiscal years ending after December 15, 2012, and interim and annual periods thereafter. Early adoption is permitted, and the amendments do not require any transition disclosures. The Company decided to adopt the amendment for the year starting with June 1, 2012. The Company does not expect the adoption of this pronouncement to have a significant impact on tis financial condition or results of operations.

 

 

In May 2011, FASB issued an amendment to FASB Codification Topic 820 - Fair Value Measurement. The amendments in this Update apply to all reporting entities that are required or permitted to measure or disclose the fair value of an asset, a liability, or an instrument classified in a reporting entity's shareholders' equity in the financial statements. The amendments in this Update result in common fair value measurement and disclosure requirements in U.S. GAAP and IFRSs. Consequently, the amendments change the wording used to value measurements. For many of the requirements, the Board does not intend for the amendments in this Update to result in a change in the application of the requirements in Topic 820. Some of the amendments clarify the Board’s intent about the application of existing fair value measurement requirements. Other amendments change a particular principle or requirement for measuring fair value or for disclosing information about fair value measurements. The amendments in this Update are to be applied prospectively. For public entities, the amendments are effective during interim and annual periods beginning after December 15, 2011. For nonpublic entities, the amendments are effective for annual periods beginning after December 15, 2011. Early application by public entities is not permitted. Nonpublic entities may apply the amendments in this Update early, but no earlier than for interim periods beginning after December 15, 2011. The Company does not expect any significant impact in tis financial statements when it is adopted for the year starting from June 1, 2012. The Company does not expect the adoption of this pronouncement to have a significant impact on tis financial condition or results of operations.

 

In April 2011, FASB issued an amendment to FASB Codification Topic 310 – Receivables: A Creditor's Determination of Whether a Restructuring Is a Troubled Debt Restructuring. The amendment requires that, in evaluating whether a restructuring constitutes a troubled debt restructuring, a creditor must separately conclude that both exist: (1) the restructuring constitutes a concession. (2) The debtor is experiencing financial difficulties. The amendments to Topic 310 clarify the guidance on a creditor's evaluation of whether it has granted a concession as well as on a creditor's evaluation of whether a debtor is experiencing financial difficulties. In addition, the amendments to Topic 310 clarify that a creditor is precluded from using the effective interest rate test in the debtor's guidance on restructuring of payables when evaluating whether a restructuring constitutes a troubled debt restructuring. The amendments in this Update are effective for the first interim or annual period beginning on or after June 15, 2011, and should be applied retrospectively to the beginning of the annual period of adoption. As a result of applying these amendments, an entity may identify receivables that are newly considered impaired. For purposes of measuring impairment of those receivables, an entity should apply the amendments prospectively for the first interim or annual period beginning on or after June 15, 2011. As entity should disclose the total amount of receivables and the allowance for credit losses as of the end of the period of adoption related to those receivables that are newly considered impaired under Section 310-10-35 for which impairment was previously measured under Subtopic 450-20, Contingencies-Loss Contingencies. An entity should disclose the information required by paragraphs 310-10-50-33 through 50-34, which was deferred by Accounting Standards Update No. 2011-01, Receivables (Topic 310): Deferral of the Effective Date of disclosures about Troubled Debt Restructurings in Update No. 2010-20, for interim and annual periods beginning on or after June 15, 2011. For nonpublic entities, the amendments in this Update are effective for annual periods ending on or after December 15, 2012, including interim periods within those annual periods. Early adoption is permitted for public and nonpublic entities. A nonpublic entity may early adopt the amendments for any interim period of the fiscal year of adoption. A nonpublic entity that elects early adoption should apply the provisions of this Update retrospectively to restructurings occurring on or after the beginning of the fiscal year of adoption. The Company decides to adopt the amendment for the year starting from June 1, 2012, and the Company does not expect the adoption of this pronouncement to have a significant impact on its financial condition or results of operations.

 

NOTE 3 – PREPAID ACCOUNTS

 

The prepaid account in amount of $67,627 is a cash payment to Jining Tianruitong Technology Development Limited Company. On October 26, 2010, Shandong Spring Pharmaceutical signed an agreement to purchase three patents relating to Chinese herbal formulas from Jining Tianruitong Technology Development Limited Company for $15,557,318. Pursuit to this agreement, the Company made an advance payment of $15,557,318 in October 2010. Subsequently, this purchase agreement was amended and restated on March 14, 2011. According to the amended terms, $10,050,910 of the total purchase price is returned to the Company by the owner of the patents because certain governmental approvals for the transfer patents were not completed and the patents are being purchased as a group. As of December 31, 2011, only $67,627 remains in the prepaid account. The rest of the prepayment has been returned.

 

NOTE 4 - INVENTORY

 

Inventory consists of finished goods, work-in-process, and raw materials. No allowance for inventory was made for the nine months ended December 31, 2011 and 2010.

The components of inventories as of December 31, 2011, and March 31, 2011 were as follows:

 

		Period Ended
		Dec 31, 2011				Mar 31, 2011
Raw materials		$	869,101			$	8,699
Work-in-progress			539,529				27,225
Finished goods		$	1,075,351			$	23,259
Total Inventories		$	2,483,981			$	59,183

 

 

NOTE 5 - PLANT, PROPERTY AND EQUIPMENT, NET

 

The components of property and equipment as of December 31, 2011 and March 31, 2011 were as follows:

 

		Period Ended,
		December 31,				March 31,
		2011				2011
Machinery & Equipment		$	537,897			$	516,935
Furniture & Fixture			164,364				96,156
Building			10,098,970				9,685,212
Subtotal			10,801,231				10,298,303
Less: Accumulated Depreciation			(1,016,390	)			(668,745	)
Total plant, property and equipment, net		$	9,784,841			$	9,629,558

 

The depreciation expense for the three months ended December 31, 2011 and 2010 was $27,885 and 24,066, respectively.

 

The depreciation expense for the nine months ended December 31, 2011 and 2010 was $155,283 and $100,992, respectively.

 

NOTE 6 – CONSTRUCTION IN PROGRESS

 

Construction in progress represents direct costs of construction or acquisition and design fees incurred for the Company’s new plant and equipment. Capitalization of these costs ceases and the construction in progress is transferred to plant and equipment when substantially all the activities necessary to prepare the assets for their intended use are completed. No depreciation is made until construction is completed and put into use.

 

NOTE 7 - MAJOR CUSTOMER AND VENDOR

 

The Company currently sells two types of products: non-medical and medical products. Under the current sales model, the Company markets and sells non-medical products through distribution agents, and sells medical products through a certified medicine sales agent. According to the contracts with the agents, the Company does not make any credit sales; therefore, does not carry any accounts receivable balance.

 

For the three months ended December 31, 2011, the purchases from the two major vendors were $4,189,376, representing 86% of the Company’s total purchases for the quarter.

 

For the nine months ended December 31, 2011, the purchases from the two major vendors was $9,743,034, representing 81% of the Company’s total purchased for the period. For the nine months ended December 31, 2010, the purchase from the one major vendor, Shandong YCT was $6,272,395, representing 62% of the Company’s total purchases in the nine months.

 

		For the nine months ended
		December 31, 2011
Name of vendor		Amount				%
Shandong Kangyuan		$	5,506,197				46	%
Shandong YCT			4,236,837				35	%
Purchase from two largest suppliers		$	9,743,034				81	%

 

NOTE 8 - INTANGIBLE ASSETS, NET

 

The intangible assets of the Company consist of land use right and purchased patents.

 

Net land use right and purchased patent were as follows:

 

 

		Amortization				As of,
		Period				Dec 31, 2011				Mar 31, 2011
Land use right			50 years			$	1,610,564			$	1.547,801
Less: Accumulated amortization							(169,677	)			(139,821	)
Land use right, net							1,440,887				1,407,980
Patent 1			16.5 years				7,300,544				7,016,045
Less: Accumulated amortization for Patent 1							(824,076	)			(337,476	)
Patent 1, net							6,476,468				6,678,569
Patents (non-US No. ZL200510045001.9)			13.75 years				9,839,864				-
Less: Accumulated amortization for Patent (non-US No. ZL200510045001.9)							(178,906	)			-
Patent (non-US No. ZL200510045001.9), net							9,660,958				-
Patents (non-US No. ZL200710013301.8)			14.95 years				1,587,075				-
Less: Accumulated amortization for Patent (non-US No. ZL200710013301.8)							(26,600	)			-
Patent (non-US No. ZL200710013301.8), net							1,560,475				-
Patent (U.S. No. 6,475,531 B1)			9.9 years				56,140,567				56,140,567
Less: Accumulated amortization for Patent (U.S. No. 6,475,531 B1)							(4,717,693	)			(471,769	)
Patent (U.S. No. 6,475,531 B1), net							51,422,874				55,668,798
Intangible assets, net						$	70,561,663			$	63,755,346

 

The book value of the land use right was $1,610,564 and $1,547,801 at December 31, 2011 and 2010. The increase of the book value in the amount of $62,763 resulted from the foreign exchange gains due to currency exchange rare fluctuations.

 

The book value of Patent – exclusive technology was $7,300,544 and $7,016,045 at December 31, 2011 and 2010. The increase of the book value in the amount of $284,499 resulted from the foreign exchange gains due to currency exchange rate fluctuations.

 

On October 1, 2011, two patents were transferred to the Company. The book value for patent – “Treatment to ischemic encephalopathy and its preparation method” (ZL 200510045001.9) is amounted to $9,839,864; and the book value for patent – “Chinese herbal medicine compound to treat renal insufficiency and its preparation” (ZL 200710013301.8) is amounted to $1,587,075.

 

The amortization expense of land use right for the three months ended December 31, 2011 and 2010 was $9,439 and $18,433, respectively. The amortization expense of patents for the three months ended December 31, 2011 and 2010 was $1,756,648 and $176,513, respectively.

 

The amortization expense of land use right for the nine months ended December 31, 2011 and 2010 was $29,856 and $26,573, respectively. The amortization expense of patents for the nine months ended December 31, 2011 and 2010 was $4,938,030 and $261,331, respectively.

 

 

NOTE 9 - TAX PAYABLE

 

Tax payable at December 31, 2011 and March 31, 2011 were as follows:

 

		As of
		December 31, 2011				March 31, 2011
Corporate Income Tax		$	999,052			$	1,141,293
Value-Added Tax			310,431				489,962
Other Tax & Fees			24,838				3,546
Total Tax Payable		$	1,334,321			$	1,634,801

 

NOTE 10 - INCOME TAXES

 

Shandong Spring Pharmaceutical Co., Ltd is subject to the Enterprise income tax (“EIT”) at a statutory rate of 25%.

 

For the three months ended December 31, 2011 and 2010, Shandong Spring Pharmaceutical Co., Ltd. recorded income tax provisions of $992,840 and $1,141,919, respectively.

 

For the nine months ended December 31, 2011 and 2010, Shandong Spring Pharmaceutical Co., Ltd. recorded income tax provisions of $1,878,207 and $2,085,719, respectively.

 

NOTE 11 – CONTINGENT LIABILITY AND EQUITY SUBJECT TO RETURN

 

On February 28, 2011, the Company entered into a purchase agreement with L.Y. Research Corp., a New Jersey corporation (“LY Research”); and the purchase agreement was amended and restated on August 15, 2011 (the “Purchase Agreement”). Pursuant to the terms of the Purchase Agreement, the Company acquired a patent (the “LY Patent”) from L.Y. (HK) Biotech Limited, a wholly owned company by L.Y. Research corp., in exchange for 44,254,952 shares of common stock at the acquisition date. In addition, 11,063,968 shares of common stock will be issued to the seller upon the occurrence of the quotation of the Company’s common stock on the OTCQB or OTCBB; and 20,546,711 shares will be issued to the seller upon the receipt by the Company of a minimum of $20,000,000 in gross proceeds from a debt or equity financing, or a series of debt and/or equity financings (the “Financing”); or upon the quotation of its common stock on NASDAQ or a major stock exchange located outside of the United States (collectively, “Events”). On September 9, 2011, the Company’s stock became quoted at OTCQB, therefore, 11,063,968 shares of common stock became issuable on September 9, 2011. Because the Company hasn’t issued the common stock to the seller as of December 31, 2011, the issuance of the 11,063,968 shares of common stock will be reflected when it occurs in the quarter ended March 31, 2012.

 

On October 21, 2011, the Purchase Agreement was further amended to state that if either of the Events should not occur within one year from October 21, 2011; the shares issued pursuant to the Purchase Agreement shall be returned to the Company and the LY Patent shall be returned to LY Research and the Purchase Agreement, as amended, shall be cancelled and of no further force or effect. The amendment also states that LY Research waives its right as the majority shareholder to vote and to receive any dividends or other distributions from the Company until the occurrence of either of the Events. As a result, the initial consideration of $32,748,665, the equivalent of 44,254,952 shares of common stock transferred at transaction date, is reclassified as a temporary equity which may subject to return. The total equity may subject to return consists of $44,255 common stock subject to return and $32,748,644 additional paid-in capital subject to return.

 

 

Item 2. Management’s Discussion and Analysis of Financial Condition and Result of Operations.

 

You should read the following discussion together with our consolidated financial statements and the related notes included elsewhere in this Form 10-Q and our audited financial statements included in our Annual Report on Form 10-K. This discussion contains forward-looking statements. These forward-looking statements are based on information available at the time the statements are made and/or management’s belief as of that time with respect to future events and involve risks and uncertainties that could cause actual results and outcomes to be materially different. Important factors that could cause such differences include but are not limited to: competitive factors, general economic conditions, customer relations, relationships with vendors, the interest rate environment, governmental regulation and supervision, seasonality, distribution networks, product introductions and acceptance, technological change, changes in industry practices, onetime events and other factors described herein and in other filings made by the company with the Securities and Exchange Commission. While we may elect to update forward-looking statements at some point in the future, we specifically disclaim any obligation to do so, and therefore, you should not rely on these forward-looking statements as representing our views as of any date subsequent to the date this Form 10-Q is filed with the Securities and Exchange Commission.

 

Overview

 

China YCT International Group, Inc. (“CYIG”) was incorporated in the State of Florida in January 1989, and reincorporated in the State of Delaware on April 4, 2007. China YCT principally operates through two of its wholly-owned subsidiaries: Landway Nano Bio-Tech, Inc., incorporated in Delaware, and Shandong Spring Pharmaceutical Co., Ltd. (“Shandong Spring”), incorporated in the People’s Republic of China (the “PRC”). China YCT International Group, Inc. and its subsidiaries are collectively referred to as the “Company” or CYIG. CYIG, through its wholly-owned subsidiary, Shandong Spring, is engaged in the business of developing, manufacturing and marketing gingko and distributing other dietary supplement products in the PRC.

 

Recent Events

 

On October 21, 2011, the Company entered into an Amendment Agreement with L.Y. Research to amend the purchase agreement, dated as of February 28, 2011, and amended and restated as of August 15, 2011 (the “Purchase Agreement”) with respect to the acquisition of U.S. Patent #6,475,531B titled “Safe Botanical Drug for Treatment and Prevention of Influenza and Increasing Immune Function” (the “LY Patent”).

 

The Amendment Agreement added the following terms:

 

(1)	In the event that the Company cannot, within one year from October 21, 2011, either (i) raise a minimum of $20M in gross proceeds from a debt or equity financing, or a series of debt and/or equity financings, or (ii) list its common stock on NASDAQ or a major foreign stock exchange, then the shares issued pursuant to the Purchase Agreement shall be returned to the Company and the LY Patent shall be returned to LY Research and the Purchase Agreement, as amended, shall be cancelled and of no further force or effect; and
(2)	LY Research agrees that it waives its right to (i) vote the shares and (ii) receive any dividends or other distributions from the Company until the earlier of (a) completion of the financing or (b) the listing of the shares of common stock of the Company on NASDAQ or a major foreign stock exchange.

 

Pursuant to the Purchase Agreement, on February 28, 2011, the Company acquired U.S. Patent #6,475,531B from L.Y. Hong Kong Biotech Limited (LYHK), L.Y. Research’s wholly-owned subsidiary incorporated in Hong Kong, China.  This patent will be used for research and development activities. The Company acquired this patent in order to obtain the approval for production of herbal drug from US FDA and China SFDA.

 

The LY Patent has not been used for the production of health care products and is not related to our current line of health care products (mainly the gingko products). We will use the LY Patent to apply for the IND (Investigational New Drug) of PBLG. After the clinical research and trials (Step 1, 2, 3) and qualified by the Chinese FDA, we intend to make application of new medicine to the Chinese FDA. Add health care product. Concurrently with such development, we intend to manufacture and market a health care product based on the patent that will not require FDA approval. We estimate that the commercialization of the patent to offer drugs that require FDA approval will not occur for three to four years and will require additional capital. The commercialization of the patent to offer health care products that do not require FDA approval will take one to two years. In each case, we anticipate that we will need to construct manufacturing facilities. The commercialization of the LY Patent will also require us to obtain additional financing, of which there can be no assurance.

 

 

Conducting clinical studies in China via Shandong Spring will save substantial R&D expenses compared to conducting such studies in the United States. According to the August 18, 2007 issue of World Journal, the average cost of the research and development for a new chemical drug is $980 million US dollars, of which 70 % will be used for clinical studies, and the average time of developing a new drug was 14.2 years in 2007.  CYIG could not afford such cost. In 2004, US FDA released Guidance for industry Botanical drug products. According to this guidance, presentation of the prior use of the herbal drugs in foreign countries will help the approval of the application for the production permit. Following the guidance, CYIG intends to prepare and submit a report of the historical use of Ban Lan Gen (“BLG”), an herbal anti-biotic, used to cool and clear skin irritations and reduce fevers and sore throats, or pure Ban Lan Gen (“PBLG”) in China to the US FDA, which we expect will accelerate the process of FDA approval. In the future, CYIG hopes to raise more capital for the research and development of the drug through offerings of debt or equity, but there can be no assurance such offerings will be successful. Simultaneously, CYIG will conduct the clinical studies following the standards of the US FDA in China, where the cost of conducting clinical trials is lower than in the United States. The conduct of clinical studies in foreign countries following the standards of the US FDA is permitted by the US FDA, and we believe that obtaining approval for an herbal drug from the FDA is easier than the approval of a chemical drug. In addition, CYIG would submit an application to China’s SFDA for the drug as an over the counter drug, which is permitted for sale in China.

 

Comparing Three Months Ended December 31, 2011 and 2010:

 

The following table sets forth information from our statements of operations for the three months ended December 31, 2011 and 2010, in U.S. dollars:

 

		Three Months Ended
		December 31,								$				%
		2011				2010				Change				Change				Notes
Revenues			10,112,489				9,886,824				225,665				2.3	%
Cost of Sales			(4,712,730	)			(4,613,157	)			(99,573	)			2.2	%
Gross Profit			5,399,758				5,273,667				126,091				2.4	%
Operating Expenses			(2,947,808	)			(1,306,775	)			(1,641,033	)			125.6	%			(1	)
Operating Income			2,451,951				3,966,892				(1,514,941	)			(38.2	%)
Interest Income, net			65,818				18,273				47,545				260.2	%
Other Income			-				580,211				(580,211	)			(100.0	%)
Income Tax Provision			(992,840	)			(1,141,919	)			149,079				(13.1	%)
Net Income			1,524,929				3,423,457				(1,898,528	)			(55.5	%)
Comprehensive Income (Loss)			1,741,714				3,934,104				(2,192,390	)			(55.7	%)

 

(1) The 126% increase of operating expense was primarily the increase in amortization expense associated with the newly acquired US Patent (U.S. No. 6,475,531 B1).  For the three months ended December 31, 2011, the amortization expense for the US Patent No. 6,475,531 B1 alone was $1,415,307.

 

Net sales

 

During the three months ended December 31, 2011, we had net sales of $10,112,489, which is consistence with the net sales of 9,886,824 for the same period in 2010, with a slight increase of $225,665, or 2.3%.  Since late last fiscal year, we have made great effort on marketing and developing new customers for our self-produced drug – Huoliyuan Capsule.  As a result, we obtained new customers and expanded our sales of Huoliyuan Capsules.

 

 Product Mix

 

The following table presents the breakdown of revenues by product mix:

 

 

Cost of Sales and Gross Margin

 

During the three months ended December 31, 2011, we had cost of sales of $4,712,730, as compared with cost of sales of $4,613,157 during the same period in 2010, an increase of approximately $99,573, or 2.3%, reflecting an increase in net sales. The gross profit rose to $5,399,758 for the three months ended December 31, 2011, or a 2.4% increase compared with $5,373,667 during the same period in 2010.  Our gross margin increased to 53.4% during the three months ended December 31, 2011, which remained consistence from 53.3% during the three months ended December 31, 2010.   The percentage of our cost of sales over the sales for the Health care supplements decreased slightly to 45.8% for the three months ended December 31, 2011 from 46.3% for the same period in 2010 because we obtained a more favorable sales contract with Shandong YCT since late last fiscal year.  Our cost of sales over the sales for the Huoliyuan Capsules increased slightly to 48.8% for the three months ended December 31, 2011 from 47.1% for the same period in 2010..

 

Selling Expenses

 

Our selling expenses decreased by $129,764, or 15.4%, to $713,694 for the three months ended December, 2011, from $843,458 for the same period of 2010. As a percentage of sales, selling expenses decreased to 7.1% for the three months ended December 31, 2011 from 8.5% for the same period in 2010. The decrease of selling expenses was primarily due to a decrease in sales commission.

 

General and Administrative Expenses

 

Our general and administrative expenses were $2,050,421 during the three months ended December 31, 2011, compared with $352,096 during the three months ended December 31, 2010, an increase of $1,698,325 or approximately 482.3%. The increase in general and administrative expenses was principally due to the amortization expense accrued for the acquired US Patent (U.S. No. 6,475,531 B1). During the three months ended December 31, 2011, the amortization expense of this patent was $1,415,308.

 

Research and Development Expenses

 

Research and development expenses were $183,693 during the three months ended December 31, 2011 compared with $111,221 during the three months ended December 31, 2010, an increase of $72,462, or 65.2%, reflecting the increased expenses related to making investments in research and development of new technologies and products that can be utilized to refine and extract the beneficial compounds I plants, primarily gingko.

 

Interest Income (Expense), Net

 

Interest income increased by $47,545 during the three months ended December 31, 2011, compared to the three months ended December 31, 2010. The increase in interest income resulted from increased bank deposit of $16,435,853.   There was no interest expense as we did not borrow money from bank or other parties.

 

Income Tax

 

Income tax was $992,840 during the three months ended December 31, 2011, as compared to $1,141,919 for the same period of 2010, a decrease of $149,079, or approximately 13.1%. The decrease was primarily due to the decreased taxable income during the three months ended December 31, 2011.

 

Net Income 

 

		Revenue
		Three Months Ended December 31,
		2011												2010				Change in				Change in
			Amount				%				Amount				%				Amount				%
Health care supplements			3,398,462				33.6	%			5,507,466				55.7	%			(2,109,004	)			-38.3	%
Drugs (Huoliyuan Capsule)			6,192,876				61.2	%			4,379,358				44.3	%			1,813,518				41.4	%
Other (External contract work)			521,151				5.2	%			-				0.0	%			521,151				100.0	%
Total Revenue			10,112,489				100.0	%			9,886,824				100.0	%			225,665				2.3	%

 

 

As a result of the above factors, we had a net income of $1,524,929 during the three months ended December 31, 2011, compared with a net income of $3,423,457 during the three months ended December 31, 2010.

 

		Nine Months Ended
		December 31,								$				%
		2011				2010				Change				Change
Revenues			26,477,760				21,301,142				5,176,618				24.3	%
Cost of Sales			(11,894,299	)			(10,788,613	)			(1,105,686	)			10.2	%
Gross Profit			14,583,461				10,512,529				4,070,932				38.7	%
Operating Expenses			(8,734,175	)			(2,865,074	)			(5,869,101	)			204.8	%
Operating Income			5,849,286				7,647,455				(1,798,169	)			-23.5	%
Interest Income, net			209,953				18,273				191,680				1049.0	%
Other Income			-				580,211				(580,211	)			-100.0	%
Income Tax Provision			(1,878,207	)			(2,085,719	)			207,512				-9.9	%
Net Income			4,181,032				6,160,220				(1,979,188	)			-32.1	%
Comprehensive Income (Loss)			5,033,504				8,359,820				(3,326,316	)			-39.8	%

 

Comprehensive Income

 

As a result of a currency translation adjustment, our comprehensive income was $1,741,714 during the three months ended December 31, 2011, compared with comprehensive income of $3,934,104 during the three months ended December 31, 2010 due to exchange rate fluctuations from the translation of our Chinese subsidiary from Chinese RMB, their functional currency, to US dollar, our reporting currency.

 

 Comparing Nine Months Ended December 31, 2011 and 2010:

 

The following table sets forth information from our statements of operations for the nine months ended December 31, 2011 and 2010, in U.S. dollars:

 

Net sales

 

During the nine months ended December 31, 2011, we had net sales of $26,477,760, as compared with net sales of $21,301,142 during the same period in 2010, an increase of $5,176,618, or 24.3%, due to the 71.1% increase in sales of Huoliyuan Capsules and 17.6% increase in addition of external contract works, offset by 25.7% decrease in sales of Health products.

 

Revenues by product mix

 

The following table presents the breakdown of revenues by product mix:

 

 

		Revenue
		Nine Months Ended December 31,
		2011												2010				Change in				Change in
			Amount				%				Amount				%				Amount				%
Health care supplements			9,249,104				34.9	%			12,674,554				59.5	%			(3,425,450	)			-27.0	%
Drugs (Huoliyuan Capsule)			15,615,134				59.0	%			8,626,588				40.5	%			6,988,546				81.0	%
Other (External contract work)			1,613,522				6.1	%			-				0.0	%			1,613,522				100.0	%
Total Revenue			26,477,760				100.0	%			21,301,142				100.0	%			5,176,618				24.3	%

 

Cost of Sales and Gross Margin

 

During the nine months ended December 31, 2011, we had cost of sales of $11,894,299, as compared with cost of sales of $10,788,613 during the same period in 2010, an increase of approximately $1,105,686, or 10.2%, reflecting the increase in net sales. The gross profit rose to $14,583,461 for the nine months ended December 31, 2011, or a 38.7% increase compared with $10,512,529 during the same period in 2010. Our gross margin increased to 55.1% during the nine months ended December 31, 2011 from 49.4% during the same period in 2010.   The increase was mainly attributed to the larger sales volume of our self-produced drug and the cost reduction from production cost of Huoliyuan capsules. The percentage of our cost of sales over the sales the Huoliyuan Capsules was down to 46.0% for the nine months ended December 31, 2011 from 51.2% for the same period in 2010 because our production process is more mature and more optimized.  In addition, beginning with the fiscal year of 2011, we obtained new contracts from external customers to process and package their semi-finished products.  Although sales from these products are not a major component of the total sales, the gross margin from these sales were rather high.

 

Selling Expenses

 

Our selling expenses increased by $728,396, or 41.0%, to $2,505,249 for the nine months ended December 31, 2011, from $1,776,853 for the same period of 2010. As a percentage of sales, selling expenses increased from 8.3% for the nine months ended December 31, 2010 to 9.5% for the same period of 2011. The increase of selling expenses was primarily due to an increase in advertising and promotion expenses related to marketing and promotional activities in Huoliyuan Capsule market.

 

General and Administrative Expenses

 

Our general and administrative expenses were $5,651,412 during the nine months ended December 31, 2011, compared with $855,011 during the nine months ended December 31, 2010, an increase of $4,796,401 or approximately 561.0%. The increase in general and administrative expenses was principally due to the amortization expense recorded for the acquired US Patent (U.S. No. 6,475,531 B1). During the nine months ended December 31, 2011, the amortization expense of this patent was $4,245,924.

 

Research and Development Expenses

 

Research and development expenses were $577,514 during the nine months ended December 31, 2011 compared with $233,210 during the same period in 2010, an increase of $344,304, or 147.6%, reflecting the increased expenses related to making investments in research and development of new technologies and products that can be utilized to refine and extract the beneficial components from plants, primarily gingko.

 

Interest Income

 

Interest income increased by $191,680 for the nine months ended December 31, 2011. The increase in interest income resulted from increased bank deposit of $16,435,853.

 

Income Tax

Income tax was $1,878,207 during the nine months ended December 31, 2011, as compared to $2,085,719 for the same period of 2010, a decrease of $207,512, or approximately 9.9%. The decrease was primarily due to the lower taxable income during the nine months ended December 31, 2011.

 

 

Net Income

 

		FOR THE THREE MONTHS ENDED								FOR THE NINE MONTHS ENDED
		December 31, 2011 (Pro forma)				December 31, 2010				December 31, 2011 (Pro forma)				December 31, 2010
Sales Revenue		$	10,112,489			$	9,886,824			$	26,477,760			$	21,301,142
Cost of Goods Sold			4,712,730				4,613,157				11,894,299				10,788,613
Gross Profit			5,399,758				5,273,667				14,583,461				10,512,529
Selling Expenses			713,694				843,458				2,505,249				1,776,853
G&A Expense			635,114				352,096				1,405,491				855,011
R&D Expenses			183,693				111,221				577,514				233,210
Total expense			1,532,501				1,306,775				4,488,254				2,865,074
Income from operation			3,867,258				3,966,892				10,095,207				7,647,455
Interest income (Expense)			65,818				18,273				209,953				18,273
Other income (Expense)			-				580,211				-				580,211
Profit before tax			3,933,076				4,565,376				10,305,160				8,245,939
Income tax			992,840				1,141,919				1,878,207				2,085,719
Net income			2,940,236				3,423,457				8,426,953				6,160,220
Basic and diluted income per common share
Basic and Diluted			0.10				0.12				0.29				0.21
Weighted average number of common shares outstanding
Basic and Diluted			29,525,523				29,473,902				29,525,523				29,473,902

As a result of the factors described above, we generated net income of $4,181,032 during the nine months ended December 31, 2011, as compared with net income of $6,160,220 during the same period in 2010.

 

The amortization of the acquired LY Patent has material impact on the Company’s net income. To assist the assessment of such impact to the Company’s net income and Earnings Per Share (EPS), the following pro forma consolidated statement of operations is provided as supplemental information. The pro forma consolidated statement of operations excludes the amortization expense of the acquired LY Patent from the G&A expense as if the acquisition and amortization of the patent did not occur.

 

PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS

(Unaudited)

 

Comprehensive Income

 

As a result of a currency translation adjustment, our comprehensive income was $5,033,504 during the nine months ended December 31, 2011, compared with $8,359,820 during the nine months ended December 31, 2010, which is mainly attributable to the exchange rate fluctuations from translating our Chinese subsidiaries from Chinese RMB, their functional currency, to US dollar, our reporting currency.

 

 

Liquidity and Capital Resources

 

Summary consolidated balance sheet data: (in US$, except for percentages)

 

		As of
		December 31, 2011				March 31, 2011				Changes in				Changes in
		(Unaudited)				(Audited)				Amount				%				Note
Cash and cash equivalent			18,443,850				6,046,804				12,397,046				205	%
Prepaid accounts			67,627				15,602,258				(15,534,631	)			-100	%			(1	)
Inventory			2,483,981				59,183				2,424,798				4097	%			(2	)
Plant, property and equipment, net			9,784,841				9,629,558				155,283				2	%
Construction in progress			219,752				211,189				8,563				4	%
Intangible assets, net			70,561,663				63,755,346				6,806,317				11	%			(3	)
Total assets			101,561,714				95,304,338				6,257,376				7	%
Accounts payable			-				-				-				-
Tax payable			1,334,321				1,634,801				(300,480	)			-18	%			(4	)
Other payable			1,753,911				229,561				1,524,350				664	%			(5	)
Total current liabilities			3,088,232				1,864,362				1,223,870				66	%
Contingency liabilities			23,391,902				23,391,902				-				0	%
Total liabilities			26,480,134				25,256,264				1,223,870				5	%
Total equity			75,081,580				70,048,074				5,033,505				7	%

 

(1)	In the nine months ended December 31, 2011, the decrease in prepaid accounts of $15,534,631 was mainly as a result of refund from Jining Tianruitong Technology Development Limited Company. In addition, the prepaid amount was decreased for the transferring of the patents.
(2)	The increase in inventory of $2,424,798 was mainly due to the increased production of Huoliyuan Capsules which increased raw materials, work-in-progress, and finished goods at December 31, 2011.
(3)	The increasing in intangible assets of $6,806,317 was due to the two patents transferred in based on the purchase agreement signed in October 2010. The addition to the intangible assets was offset by the recognition of amortization cost for the patents.
(4)	The decrease in tax payable of $300,480 was primarily due to the decreased taxable income during the nine months ended December 31, 2011 as a result of the significant amortization expense for the acquired US patent.
(5)	The increasing in other payables of $1,524,350 was mostly the remaining balance for the two patents purchased.

 

The Company does not have any accounts receivable balance at December 31, 2011, due to the sales model of our product mix. The Company currently sells two types of products: non-medical and medical products. Neither product’s sales are associated with any accounts receivable balance.

 

Under the current sales model, the Company markets and sells non-medical products through distribution agents.  All customers are dealt with through the Company's distribution agents. When a customer places an order, the order is entered into the Company's ordering system and confirmed by designated distributors. The distributor collects payment from the customer before the order is confirmed. The confirmed order is reviewed by the Company’s sales department and the products are shipped directly to the customer from the Company. According to the sales agreements between the Company and its distributors, the Company is guaranteed to receive the full payment from distributors for all the products shipped to customers within one month from delivery. The Company reconciles its sales to the distributors' records and recognizes revenue at the end of each month. In the meantime, the same amount of cash associated with the Company’s sales of non-medical products is transferred to the Company's bank account from the distributors. Therefore, there is no accounts receivable balance associated with the Company’s non-medical product sales at the end of each quarter.

 

 

For the sales of medical products, the Company makes sales through a certified medicine sales agent. According to the contract with the agent, the Company collects cash before shipping the medical products to the agent. Since there are no credit sales, there is no accounts receivable balance associated with the Company’s medical product sales at quarter end.

 

In order to fully implement our business plan, however, we will require capital contributions in excess of our current asset value and the surplus capital, which we believe will be generated from operations. Bringing our manufacturing facility to an operating level that should make the manufacturing operation profitable to produce our current products is estimated to require an additional $10 million. In order to develop the Influenza Patent and offer a drug that would require Chinese FDA approval and a health care product that would not require such approval, we will require an additional $20 million. To fully implement our business plan, including development of a facility to utilize our proprietary method of extracting flavones from ginkgo by using enzyme technology, we will need a total of $40 million. Therefore, we expect to access the capital markets in both the United States and China and/or seek bank financing to obtain the funds. At present, we have no commitment or understanding from any source for additional debt or equity capital and there can be no assurance that the funds will be available on acceptable terms.

 

As of December 31, 2011, we had $18,443,850 in cash and cash equivalents, compared to $6,046,804, as of March 31, 2011. There was an increase in cash and cash equivalents of $12,397,046. The net increase in cash and cash equivalents between December 31, 2011 and March 31, 2011 was mainly due to a refund of our previous payment for acquisition of three patents from Jining Tianruitong Technology Development Limited Company.  On October 26, 2010, we signed an agreement to purchase three patents relating to Chinese herbal formulas from Jining Tianruitong Technology Development Limited Company for $15.6M. Pursuit to this agreement, we made an advance payment of $15,600,000 in October 2010, and the agreement’s effectiveness was conditioned on the patents’ registration for transfer of title with the Chinese Patent Office. Subsequently, this purchase agreement was amended and restated on March 14, 2011.  According to the amended agreement, $10,100,000 of the total purchase price was returned to us from Jining Tianruitong Technology Development Limited Company because certain governmental approvals were not completed for the transfer of patents, which should be purchased as a group. Under the amended agreement, the balance of the purchase price was to be paid in three equal annual installments in October 2011, 2012 and 2013. We are applying for the governmental approvals for the transfer of the remaining patents and expect to complete the transfer in the fourth quarter of the fiscal year ending March 31, 2012.  Two of the patents had been transferred to the Company in October 2011.

 

Operations

 

For the nine months ended December 31, 2011, cash provided by operations was $9,295,626, an increase of 70.6% compared to cash provided by operations of $4,862,354 for the same period in 2010.   The primary reason for the change was due to the recognized amortization expense of $4,245,924 associated with the US patent.

 

Investments

 

Cash provided by investing activities was $3,596,200 for the nine months ended December 31, 2011 as compared to cash used in investing activities of $15,917,285 for the same period in 2010. The increase was mainly due to the refund of $10.6M from Jining Tianruitong Technology Development Limited Company during the nine months ended December 31, 2011.

 

Financing

 

There were no financing activities for the nine months ended December 31, 2011.

 

Off-Balance Sheet Arrangements

 

We do not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on their financial condition or results of operations.

 

Critical Accounting Policies

 

This section should be read together with the Summary of Significant Accounting Policies included as Note 2 to the consolidated financial statements included in our Annual Report on Form 10-K for the year ended March 31, 2011 and 10-Qs filed with the SEC.

 

We prepare our financial statements in conformity with U.S. GAAP, which requires us to make estimates and assumptions that affect our reporting of, among other things, assets and liabilities, contingent liabilities and revenues and expenses. We continually evaluate these estimates and assumptions based on the most recently available information, our own historical experiences and other factors that we believe to be relevant under the circumstances. Since our financial reporting process inherently relies on the use of estimates and assumptions, our actual results could differ from our expectations. This is especially true with some accounting policies that require higher degrees of judgment than others in their application. We consider the policies discussed below to be critical to an understanding of our audited and unaudited consolidated financial statements because they involve the greatest reliance on our management’s judgment.

 

 

Principles of consolidation

 

The consolidated financial statements for the nine months ended December 31, 2011 and 2010 include the accounts of China YCT International Group, Inc and Shandong Spring Pharmaceutical Company. Our consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States of America (“US GAAP”).  All significant inter-company balances and transactions are eliminated in consolidation.

 

Revenue recognition

 

Our revenue recognition policies are in compliance with Staff Accounting Bulletin (“SAB”) 104, included in the Codification as ASC 605, Revenue Recognition. Sales revenue is recognized at the date of shipment to customers when a formal arrangement exists, the price is fixed or determinable, the delivery is completed, no other significant obligations of the Company exist and collectability is reasonably assured. Payments received before all of the relevant criteria for revenue recognition are recorded as customer deposits.

 

Inventories

 

Inventory is primarily composed of raw materials and packing materials for manufacturing, work in process, and finished goods. Inventories are valued at the lower of cost or market with cost determined on a weighted average basis. Management compares the cost of inventory with the market value and an allowance is made to write down the inventory to market value, if lower than cost.

 

Stock Based Compensation

 

The Company measures compensation expense for its non-employee stock-based compensation under FASB ASC 718.  The fair value of the stock issued is used to measure the transaction, as this is more reliable than the fair value of the services received. Fair value is measured as the value of the Company’s common stock on the date that the commitment for performance by the counterparty has been reached or the counterparty’s performance is complete. The fair value of the equity instrument is charged directly to compensation expense.

 

Recent Accounting Pronouncements

 

In June 2011, FASB issued an amendment to the FASB Codification Topic 220 – Presentation of Comprehensive Income.  The objective of this Update is to improve the comparability, consistency, and transparency of financial reporting and to increase the prominence of items reported in other comprehensive income. To increase the prominence of items reported in other comprehensive income and to facilitate convergence of U.S. generally accepted accounting principles (GAAP) and International Financial Reporting Standards (IFRS), the FASB decided to eliminate the option to present components of other comprehensive income as part of the statement of changes in stockholders' equity. The amendments require that all non-owner changes in stockholders' equity be presented either in a single continuous statement of comprehensive income or in two separate but consecutive statements.

 

In May 2011, FASB issued an amendment to FASB Codification Topic 820 - Fair Value Measurement. The amendments in this Update apply to all reporting entities that are required or permitted to measure or disclose the fair value of an asset, a liability, or an instrument classified in a reporting entity's shareholders' equity in the financial statements. The amendments in this Update result in common fair value measurement and disclosure requirements in U.S. GAAP and IFRSs.

 

In April 2011, FASB issued an amendment to FASB Codification Topic 310 – Receivables: A Creditor's Determination of Whether a Restructuring Is a Troubled Debt Restructuring. The amendment requires that, in evaluating whether a restructuring constitutes a troubled debt restructuring, a creditor must separately conclude that both exist: (1) the restructuring constitutes a concession. (2) The debtor is experiencing financial difficulties. The amendments to Topic 310 clarify the guidance on a creditor's evaluation of whether it has granted a concession as well as on a creditor's evaluation of whether a debtor is experiencing financial difficulties. In addition, the amendments to Topic 310 clarify that a creditor is precluded from using the effective interest rate test in the debtor's guidance on restructuring of payables when evaluating whether a restructuring constitutes a troubled debt restructuring.

 

 

Item 3. Quantitative and Qualitative Disclosures about Market Risk

 

A smaller reporting company is not required to provide the information required by this Item.

 

Item 4. Controls and Procedures

 

Evaluation of Disclosure Controls and Procedures.

 

 

Our Chief Executive Officer and Chief Financial Officer carried out an evaluation of the effectiveness of our disclosure controls and procedures as of December 31, 2011. Pursuant to Rule 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934, “disclosure controls and procedures” means controls and other procedures that are designed to insure that information required to be disclosed by China YCT International Group in the reports that it files with the Securities and Exchange Commission is recorded, processed, summarized and reported within the time limits specified in the Commission’s rules.  “Disclosure controls and procedures” include, without limitation, controls and procedures designed to insure that information China YCT International Group is required to disclose in the reports it files with the Commission is accumulated and communicated to our Chief Executive Officer and Chief Financial Officer as appropriate to allow timely decisions regarding required disclosure. The Company’s management made an assessment that the internal controls over financial reporting were not effective as of March 31, 2011 because the Company lacked a full time finance person who has a United States CPA license, is familiar with GAAP and has English language skills. As an interim solution, the Company engaged two part time consultants who are qualified financial professionals. In addition, we require that all of the accounting personnel in the accounting department take a minimum of 24 CPE credits annually that focus on US GAAP and internal financial reporting standards. Therefore, management believes that we have remediated the weakness and can remove the assessment going forward. Our Chief Executive Officer and Chief Financial Officer concluded that we have remediated the weakness and China YCT International Group’s system of disclosure controls and procedures was effective as of December 31, 2011 for the purposes described in this paragraph. Based on their evaluation, our Chief Executive Officer and Chief Financial Officer concluded that China YCT International Group’s system of disclosure controls and procedures and our internal controls over financial reporting were effective as of December 31, 2011 for the purposes described in this paragraph.

 

Changes in Internal Controls.

 

 There was no change in internal controls over financial reporting (as defined in Rule 13a-15(f) and 15d-15(f) under the Exchange Act) identified in connection with the evaluation described in the preceding paragraph that occurred during the three months ended December 31, 2011 that has materially affected or is reasonably likely to materially affect China YCT International Group’s internal control over financial reporting. Pursuant to Rule 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934, the term “internal control over financial reporting” is defined as a process designed by, or under the supervision of, the issuer's principal executive and principal financial officers, or persons performing similar functions, and effected by the issuer's board of directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles and includes those policies and procedures that:

 

	·	Pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of the assets of the issuer;
	·	Provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the issuer are being made only in accordance with authorizations of management and directors of the issuer; and
	·	Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the issuer's assets that could have a material effect on the financial statements.

 

PART II. OTHER INFORMATION

 

Item 1. Legal Proceedings

 

There are no material pending legal proceedings to which the Company is a party.

 

Item 1A. Risk Factors

 

A smaller reporting company is not required to provide the information required by this Item.

 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

 

None

 

Item 3. Defaults Upon Senior Securities.

 

None

 

 

Item 4. Removed and Reserved

 

Item 5. Other Information

 

None

 

Item 6. Exhibits

 

31.1	Rule 13a-14(a)/ 15d-14(a) Certification of Chief Executive Officer
31.2	Rule 13a-14(a)/ 15d-14(a) Certification of Chief Financial Officer
32.1	Section 1350 Certification of Chief Executive Officer
32.2	Section 1350 Certification of Chief Financial Officer

 

XBRL Exhibit

101.INS XBRL Instance Document.

101.SCH XBRL Taxonomy Extension Schema Document.

101.CALXBRL Taxonomy Extension Calculation Linkbase Document.

101.DEF XBRL Taxonomy Extension Definition Linkbase Document.

101.LAB XBRL Taxonomy Extension Label Linkbase Document.

101.PRE XBRL Taxonomy Extension Presentation Linkbase Document.

 

SIGNATURES

 

In accordance with Section 13 or 15(d) of the Exchange Act, the Registrant has caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

CHINA YCT INTERNATIONAL GROUP, LTD.
Date: February 16, 2012
/s/ Yan Tinghe
Yan Tinghe Chief Executive Officer
(Principal Executive Officer)
/s/ Li Chuanmin
Li Chuanmin Chief Financial Officer
(Principal Financial Officer