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EX-32 - EXHIBIT 32 - SORL Auto Parts Incv417658_ex32.htm
EX-31.1 - EXHIBIT 31.1 - SORL Auto Parts Incv417658_ex31-1.htm
EX-31.2 - EXHIBIT 31.2 - SORL Auto Parts Incv417658_ex31-2.htm

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

x QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 for the quarterly period ended June 30, 2015

 

¨ TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT

For the transition period from _________ to _________

 

Commission file number 000-11991

 

SORL AUTO PARTS, INC.

(Exact name of registrant as specified in its charter)

 

DELAWARE 30-0091294
(State or other jurisdiction of incorporation or
organization)
(IRS Employer Identification No.)

 

No. 1169 Yumeng Road

Ruian Economic Development District

Ruian City, Zhejiang Province

People’s Republic Of China

(Address of principal executive offices)

 

 

 

86-577-6581-7720

(Registrant’s telephone number)

 

 

 

N/A

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

 

Indicate by check mark whether the registrant (1) 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 x 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 definition of “accelerated filer”, “large accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large Accelerated Filer ¨ Accelerated Filer ¨ Non-Accelerated Filer ¨ Smaller Reporting Company x

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act):

Yes ¨ No x

 

APPLICABLE ONLY TO CORPORATE ISSUERS

 

Indicate the number of shares outstanding of each of the issuer classes of common stock, as of the latest practicable date:

 

As of August 14, 2015 there were 19,304,921 shares of Common Stock outstanding

 

 

 

 

SORL AUTO PARTS, INC.

FORM 10-Q

For the Quarter Ended June 30, 2015

 

INDEX

 

    Page
     
PART I. FINANCIAL INFORMATION (Unaudited)  
     
Item 1. Financial Statements:  
     
  Consolidated Balance Sheets as of June 30, 2015 (Unaudited) and December 31, 2014 3
     
  Consolidated Statements of Income and Comprehensive Income for the Three and Six Months Ended June 30, 2015 and 2014 (Unaudited) 4
     
  Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2015 and 2014 (Unaudited) 5
     
  Consolidated Statements of Changes in Equity for the Six Months Ended June 30, 2015 (Unaudited) 6
     
  Notes to Consolidated Financial Statements (Unaudited) 7
     
Item 2. Management’s Discussion and Analysis or Financial Condition and Results of Operations 19
     
Item 3. Quantitative and Qualitative Disclosures About Market Risk 28
     
Item 4. Controls and Procedures 28
     
PART II. OTHER INFORMATION 29
     
Item 1. Legal Proceedings. 29
     
Item 1A. Risk Factors. 29
     
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds. 29
     
Item 3. Defaults Upon Senior Securities. 29
     
Item 4. Mine Safety Disclosures. 29
     
Item 5. Other Information. 29
     
Item 6. Exhibits 30
     
SIGNATURES 31

 

 2 

 

 

SORL Auto Parts, Inc. and Subsidiaries

Consolidated Balance Sheets

June 30, 2015 and December 31, 2014

 

   June 30, 2015   December 31, 2014 
   (Unaudited)     
Assets          
Current Assets          
Cash and cash equivalents  US$ 11,624,065   US$ 14,009,597 
Accounts receivable, net   76,562,017    68,171,387 
Bank acceptance notes from customers   13,675,163    17,626,704 
Short term investments   58,690,792    34,838,757 
Inventories   73,357,006    84,186,766 
Prepayments, including $267,746 and $83,206 due from related parties at June 30, 2015 and December 31, 2014, respectively.   4,712,578    4,663,002 
Current portion of prepaid capital lease interest   190,898    282,280 
Other current assets   1,021,339    1,282,182 
Deferred tax assets   3,036,623    1,868,371 
Total Current Assets   242,870,481    226,929,046 
           
Property, plant and equipment, net   42,153,811    43,550,927 
Land use rights, net   14,244,540    14,421,729 
Intangible assets, net   31,515    37,661 
Security deposits on lease agreement   1,869,368    1,867,719 
Non-current portion of prepaid capital lease interest   26,726    99,180 
Total Non-Current Assets   58,325,960    59,977,216 
Total Assets  US$  301,196,441   US$ 286,906,262 
           
Liabilities and Equity          
Current Liabilities          
Accounts payable and bank acceptance notes to vendors, including $139,621 and $136,609 due to related parties at June 30, 2015 and December 31, 2014, respectively.  US$ 9,411,489   US$13,867,316 
Deposit received from customers   25,124,561    19,045,172 
Short term bank loans   18,135,575    9,539,476 
Income tax payable   1,699,942    1,101,103 
Accrued expenses   12,738,311    13,561,163 
Current portion of capital lease obligations   3,738,737    3,735,438 
Other current liabilities, including $22,973 and $17,681 due to related parties at June 30, 2015 and December 31, 2014, respectively.   2,433,690    2,131,527 
Total Current Liabilities   73,282,305    62,981,195 
           
Non-Current Liabilities          
Non-current portion of capital lease obligations   1,869,369    3,735,437 
Total Non-Current Liabilities   1,869,369    3,735,437 
Total Liabilities   75,151,674    66,716,632 
           
Equity          
           
Preferred stock - no par value; 1,000,000 authorized; none issued and outstanding as of June 30, 2015 and December 31, 2014   -    - 
Common stock - $0.002 par value; 50,000,000 authorized,19,304,921 issued and outstanding as of June 30, 2015 and December 31, 2014   38,609    38,609 
Additional paid-in capital   42,199,014    42,199,014 
Reserves   12,564,853    12,019,532 
Accumulated other comprehensive income   27,695,092    27,516,206 
Retained earnings   121,702,088    116,935,053 
Total SORL Auto Parts, Inc. Stockholders' Equity   204,199,656    198,708,414 
Noncontrolling Interest In Subsidiaries   21,845,111    21,481,216 
Total Equity   226,044,767    220,189,630 
Total Liabilities and Equity  US$301,196,441   US$286,906,262 

 

The accompanying notes are an integral part of these unaudited consolidated financial statements

 

 3 

 

 

SORL Auto Parts, Inc. and Subsidiaries

Consolidated Statements of Income and Comprehensive Income

For The Three and Six Months Ended June 30, 2015 and 2014 (Unaudited)

 

   Three Months Ended June 30,   Six Months Ended June 30, 
   2015   2014   2015   2014 
                 
Sales  US$ 59,274,878   US$65,723,746   US$111,472,844   US$ 115,717,035 
Include: sales to related parties   1,057,724    1,345,506    2,069,648    1,635,583 
Cost of sales   42,746,432    47,209,861    81,213,324    81,816,214 
                     
Gross profit   16,528,446    18,513,885    30,259,520    33,900,821 
                     
Expenses:                    
Selling and distribution expenses   5,086,089    6,473,111    10,437,087    12,178,605 
General and administrative expenses   7,430,223    4,710,874    10,149,595    9,027,028 
Research and development expenses   1,857,470    2,200,558    3,570,091    3,691,757 
                     
Total operating expenses   14,373,782    13,384,543    24,156,773    24,897,390 
                     
Other operating income   483,091    549,130    1,068,808    925,262 
                     
Income from operations   2,637,755    5,678,472    7,171,555    9,928,693 
                     
                     
Interest income   409,836    48,835    520,791    60,635 
Other income   620,547    213,292    713,938    251,596 
Interest expenses   (242,544)   (236,974)   (409,200)   (722,730)
Other expenses   (160,420)   (472,320)   (531,108)   (710,154)
                     
Income before provision for income taxes   3,265,174    5,231,305    7,465,976    8,808,040 
                     
Provision for income taxes   794,144    651,210    1,792,422    1,164,445 
                     
Net income  US$ 2,471,030   US$4,580,095   US$5,673,554   US$7,643,595 
                     
Net income attributable to noncontrolling interest in subsidiaries   208,955    447,621    361,198    740,818 
                     
Net income attributable to common stockholders  US$2,262,075   US$4,132,474   US$5,312,356   US$6,902,777 
                     
Comprehensive income:                    
                     
Net income  US$2,471,030   US$4,580,095   US$5,673,554   US$7,643,595 
                     
Foreign currency translation adjustments   994,826    (25,135)   181,583    4,332,856 
                     
Comprehensive income   3,465,856    4,554,960    5,855,137    11,976,451 
                     
Comprehensive income attributable to noncontrolling interest in subsidiaries   275,327    445,057    363,895    1,143,053 
                     
Comprehensive income attributable to common stockholders  US$3,190,529   US$4,109,903   US$5,491,242   US$10,833,398 
                     
Weighted average common share - Basic   19,304,921    19,304,921    19,304,921    19,304,921 
                     
Weighted average common share - Diluted   19,304,921    19,304,921    19,304,921    19,304,921 
                     
EPS - Basic  US$0.12   US$0.21   US$0.28   US$0.36 
                     
EPS - Diluted  US$0.12   US$0.21   US$0.28   US$0.36 

 

The accompanying notes are an integral part of these unaudited consolidated financial statements

 

 4 

 

 

SORL Auto Parts, Inc. and Subsidiaries

Consolidated Statements of Cash Flows

For The Six Months Ended June 30, 2015 and 2014 (Unaudited)

 

   Six Months Ended June 30, 
   2015   2014 
         
Cash Flows From Operating Activities          
Net income  US$5,673,554   US$7,643,595 
Adjustments to reconcile net income to net cash          
from operating activities:          
Allowance for doubtful accounts   3,910,282    1,194,754 
Depreciation and amortization   3,911,272    3,732,381 
Deferred income tax   (1,163,808)   (307,429)
(Gain) or loss on disposal of property and equipment   (48,940)   28,075 
Changes in assets and liabilities:          
Accounts receivable   (12,214,909)   (11,133,975)
Bank acceptance notes from customers   3,957,535    (3,098,660)
Other currents assets   261,966    325,030 
Inventories   10,876,719    (4,449,536)
Prepayments   (678,866)   (743,265)
Prepaid capital lease interest   163,751    252,772 
Accounts payable and bank acceptance notes to vendors   (4,685,074)   (254,762)
Income tax payable   596,297    296,017 
Deposits received from customers   6,047,663    (488,943)
Other current liabilities and accrued expenses   (532,514)   2,624,773 
Net Cash Flows Provided By (Used In) Operating Activities   16,074,928    (4,379,173)
           
Cash Flows From Investing Activities          
Change in short term investments   (23,761,197)   - 
Acquisition of property and equipment   (1,420,785)   (2,061,662)
Proceeds of disposal of property and equipment   48,956    53,437 
Net Cash Flows Used In Investing Activities   (25,133,026)   (2,008,225)
           
Cash Flows From Financing Activities          
Proceeds from bank loans   24,913,667    22,292,424 
Repayment of bank loans   (16,309,191)   (15,904,045)
Repayment of capital lease   (1,864,595)   (1,847,655)
Net Cash Flows Provided By Financing Activities   6,739,881    4,540,724 
           
Effects on changes in foreign exchange rate   (67,315)   624,776 
           
Net change in cash and cash equivalents   (2,385,532)   (1,221,898)
           
Cash and cash equivalents - beginning of the period   14,009,597    28,241,983 
           
Cash and cash equivalents - end of the period  US$11,624,065   US$27,020,085 
           
Supplemental Cash Flow Disclosures:          
Interest paid  US$465,309   US$722,728 
Income taxes paid  US$2,359,836   US$1,171,310 

 

The accompanying notes are an integral part of these unaudited consolidated financial statements

 

 5 

 

 

SORL Auto Parts, Inc. and Subsidiaries

Consolidated Statements of Changes in Equity

For The Six Months Ended June 30, 2015 (Unaudited)

 

           Additional           Accumulated Other   Total SORL
Auto
Parts, Inc.
         
   Number   Common   Paid-in       Retained   Comprehensive   Stockholders'   Noncontrolling   Total 
   of Share   Stock   Capital   Reserves   Earnings   Income   Equity   Interest   Equity 
Beginning Balance - January 1, 2015   19,304,921   $38,609   $42,199,014   $12,019,532   $116,935,053   $27,516,206   $198,708,414   $21,481,216   $220,189,630 
                                              
Net income   -    -    -    -    5,312,356    -    5,312,356    361,198    5,673,554 
                                              
Foreign currency translation adjustment   -    -    -    -    -    178,886    178,886    2,697    181,583 
                                              
Transfer to reserve   -    -    -    545,321    (545,321)   -    -    -    - 
                                              
Ending Balance – June 30, 2015   19,304,921   $38,609   $42,199,014   $12,564,853   $121,702,088   $27,695,092   $204,199,656   $21,845,111   $226,044,767 

 

The accompanying notes are an integral part of these unaudited consolidated financial statements

 

 6 

 

 

SORL Auto Parts, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

June 30, 2015

(Unaudited)

NOTE A - DESCRIPTION OF BUSINESS

 

SORL Auto Parts, Inc. (together with its subsidiaries, “we,” “us,” “our” or the “Company” or “SORL”), a Delaware corporation incorporated on March 24, 1982, is principally engaged in the manufacture and distribution of vehicle brake systems and other key safety-related components, through its 90% ownership of Ruili Group Ruian Auto Parts Co., Ltd. (the “Joint Venture” or “Ruian”) and 60% ownership of SORL International Holding, Ltd. ("SIH") in Hong Kong. The Company distributes products both in China and internationally under SORL trademarks. The Company’s product range includes 65 categories and over 2000 different specifications.

 

 The Joint Venture was formed in the People’s Republic of China (“PRC” or “China”) as a Sino-Foreign joint venture on January 17, 2004, pursuant to the terms of a Joint Venture Agreement between the Ruili Group Co., Ltd. (the “Ruili Group”) and Fairford Holdings Limited (“Fairford”), a wholly owned subsidiary of the Company. The Ruili Group was incorporated in China in 1987 and specializes in the development, production and sale of various kinds of automotive parts. Fairford and the Ruili Group contributed 90% and 10%, respectively, of the paid-in capital of the Joint Venture.

 

On November 11, 2009, the Company entered into a joint venture agreement with MGR Hong Kong Limited (“MGR”), a Hong Kong-based global auto parts distribution specialist firm and a Taiwanese investor. The new joint venture was named SORL International Holding, Ltd. or SIH. SORL holds a 60% interest in SIH, MGR holds a 30% interest, and the Taiwanese investor holds a 10% interest. SIH is primarily devoted to expanding SORL's international sales network in the Asia-Pacific region and creating a larger footprint in Europe, the Middle East and Africa with a goal to create a truly global distribution network. Based in Hong Kong, SIH is expanding and establishing channels of distribution in international markets with SORL's primary products, including spring brake chambers, clutch servos, air dryers, relay valves and hand brake valves.

 

On February 8, 2010, the Company sold 1,000,000 shares of its common stock to selected institutional investors at a price of $10.00 per share pursuant to a registered direct offering. This transaction provided net proceeds of approximately $9.4 million.

 

On August 31, 2010, the Company, through the Joint Venture, executed an agreement to acquire the assets of the hydraulic brake, power steering, and automotive electrical operations of the Ruili Group (a related party under common control). As a result of this acquisition, the Company’s product offerings expanded to both commercial and passenger vehicles’ brake systems and other key safety-related auto parts. The purchase price was RMB 170 million, or approximately US $25 million. The transaction was accounted for using the book value of assets acquired, consisting primarily of machinery and equipment, inventory, accounts receivable and patent rights, used or usable in connection with the acquired segment of the auto parts business of Ruili Group. The Company purchased the machinery and equipment, inventory, and accounts receivable at book values of US $8.0 million, US $8.0 million and US $5.2 million, respectively. The Company did not acquire any of the assets of Ruili Group other than those in the segment of its business described above. The excess of consideration over the carrying value of net assets received has been recorded as a decrease in the additional paid-in capital of the Company.

 

The acquisition was accounted for as a transaction between the entities under common control because the CEO of the Company owned 63% of the registered capital of the Ruili Group, and ,together with his wife and brother, owned more than 50% of the outstanding common stock of SORL. This results in the acquisition being accounted for using the historical costs of the financial statements of the Seller. The consolidated financial statements have been prepared as if the acquisition took place at the earliest time presented, that is, as of January 1, 2009. The asset purchase was deemed to be the acquisition of a business.

 

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NOTE B - BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES

 

(1) BASIS OF PRESENTATION

 

The consolidated financial statements include the accounts of the Company and its majority owned subsidiaries. All intercompany balances and transactions have been eliminated in the consolidation. Certain information and footnote disclosures normally included in financial statements prepared in conjunction with generally accepted accounting principles have been condensed or omitted as permitted by the rules and regulations of the United States Securities and Exchange Commission (“SEC”), although the Company believes that the disclosures contained in this report are adequate to make the information presented not misleading. The consolidated balance sheet information as of December 31, 2014 was derived from the consolidated audited financial statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014. These consolidated financial statements should be read in conjunction with the annual consolidated audited financial statements and the notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014, and other reports filed with the SEC.

 

The accompanying unaudited interim consolidated financial statements reflect all adjustments of a normal and recurring nature which are, in the opinion of management, necessary to present fairly the financial position, results of operations and cash flows of the Company for the interim periods presented. The results of operations for these periods are not necessarily comparable to, or indicative of, results of any other interim period or for the fiscal year taken as a whole.

 

(2) SIGNIFICANT ACCOUNTING POLICIES

 

a. ACCOUNTING METHOD

 

The Company uses the accrual method of accounting for financial statement and tax return purposes.

  

b. USE OF ESTIMATES

 

The preparation of financial statements in conformity with U.S generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Management makes its best estimate of the outcome for these items based on historical trends and other information available when the financial statements are prepared. Changes in estimates are recognized in accordance with the accounting rules for the estimate, which is typically in the period when new information becomes available to management. Actual results could differ from those estimates.

 

c. FAIR VALUE OF FINANCIAL INSTRUMENTS

 

For certain of the Company’s financial instruments, including cash and cash equivalents, short term investments, trade receivables and payables, prepaid expenses, deposits and other current assets, short-term bank borrowings, and other payables and accruals, the carrying amounts approximate fair values due to their short maturities.

 

d. REVENUE RECOGNITION

 

Revenue from the sale of goods is recognized when the risks and rewards of ownership of the goods have transferred to the buyer. The transfer is decided by several factors, including factors such as when persuasive evidence of an arrangement exits, delivery has occurred, the sales price is fixed and determinable, and collection is probable. Revenue consists of the invoice value for the sale of goods and services net of value-added tax, rebates and discounts and returns. The Company nets sales return in gross revenue, i.e., the revenue shown in the income statement is the net sales.

 

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e. COST OF SALES

 

Cost of sales consists primarily of materials costs, applicable local government levies, freight charges, purchasing and receiving costs, inspection costs, employee compensation, depreciation and related costs, which are directly attributable to production. Write-down of inventories to lower of cost or market is also recorded in cost of sales, if any.

 

f. SHORT TERM INVESTMENTS

 

The Company's short term investments include term deposits with an original maturity from three months to one year with financial institutions. The balances of short term investments were $58,690,792 and $34,838,757 as of June 30, 2015 and December 31, 2014, respectively.

  

g. FOREIGN CURRENCY TRANSLATION

 

The Company maintains its books and accounting records in RMB, the currency of the PRC. The Company’s functional currency is also RMB. The Company has adopted FASB ASC 830-30 in translating financial statement amounts from RMB to the Company’s reporting currency, United States dollars (“US$”). All assets and liabilities are translated at the current rate. The shareholders’ equity accounts are translated at the appropriate historical rate. Revenue and expenses are translated at the weighted average rates in effect on the transaction dates.

  

Translation adjustments resulting from this process are included in accumulated other comprehensive income in the statement of stockholders’ equity. Transaction gains and losses that arise from exchange rate fluctuations on transactions denominated in a currency other than the functional currency are included in the results of operations as incurred.

  

h. RECLASSIFICATIONS

 

Certain prior year amounts have been reclassified to conform to the current period presentation. These reclassifications had no impact on net earnings and financial position.

 

NOTE C – RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

 

In April 2015, the FASB issued ASU 2015-03, “Interest - Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs”. The amendments in the ASU are intended to simplify the presentation of debt issuance costs. These amendments require that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. The recognition and measurement guidance for debt issuance costs are not affected by the amendments in this ASU. The amendments in this ASU are effective for financial statements issued for fiscal years beginning after December 15, 2015, and interim periods within those fiscal years. Early adoption is permitted for financial statements that have not been previously issued. The Company is currently in the process of evaluating the impact of the adoption on its consolidated financial statements.

 

In July 2015, the FASB issued ASU 2015-11, “Inventory (Topic 330): Simplifying the Measurement of Inventory”. The amendments in ASU 2015-11 require an entity to measure in scope inventory at the lower of cost and net realizable value. Net realizable value is the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. Subsequent measurement is unchanged for inventory measured using last-in, first-out (LIFO) or the retail inventory method. The amendments do not apply to inventory that is measured using LIFO or the retail inventory method. The amendments apply to all other inventory, which includes inventory that is measured using first-in, first-out (FIFO) or average cost. The amendments in this ASU are effective for public business entities for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. For all other entities, the amendments are effective for fiscal years beginning after December 15, 2016, and interim periods within fiscal years beginning after December 15, 2017. A reporting entity should apply the amendments prospectively with earlier application permitted as of the beginning of an interim or annual reporting period. The Company is currently in the process of evaluating the impact of adoption on its consolidated financial statements.

  

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NOTE D - RELATED PARTY TRANSACTIONS

 

The Company continues to purchase packaging materials from the Ruili Group. The Ruili Group is the minority stockholder of Joint Venture and is collectively controlled by Mr. Xiao Ping Zhang, his wife Ms. Shu Ping Chi, and his brother Mr. Xiao Feng Zhang. In addition, the Company purchases from two other related parties, Guangzhou Kormee Automotive Electronic Control Co., Ltd. (“Guangzhou Kormee”) and Ruian Kormee Vehicle Brake Co., Ltd. (“Ruian Kormee”). Guangzhou Kormee is controlled by the Ruili Group and Ruian Kormee is the wholly-owned subsidiary of Guangzhou Kormee. The Company also sells certain automotive products to Guangzhou Kormee, Ruian Kormee and the Ruili Group. MGR holds a 30% interest in SIH. The stockholders of MGR are the management of SIH.

 

The following related party transactions are reported for the three months and six months ended June 30, 2015 and 2014:

 

   Three Months Ended June 30,   Six Months Ended June 30, 
   2015   2014   2015   2014 
PURCHASES FROM:                    
Guangzhou Kormee Automotive Electronic Control Co., Ltd.  $88,134   $934,065   $374,549   $1,472,020 
Ruian Kormee Vehicle Brake  Co., Ltd.   403,456    420,691    478,059    769,957 
Ruili Group Co., Ltd.   817,962    1,109,426    1,628,826    2,043,053 
Total Purchases  $1,309,552   $2,464,182   $2,481,434   $4,285,030 
                     
SALES TO:                    
Guangzhou Kormee Automotive Electronic Control Co., Ltd.  $167,874   $934,064   $262,770   $974,711 
Ruian Kormee Vehicle Brake  Co., Ltd.   10,435    30,266    27,750    55,739 
Ruili Group Co., Ltd.   1,057,724    381,176    2,069,648    605,133 
Total Sales  $1,236,033   $1,345,506   $2,360,168   $1,635,583 

 

During the three and six months ended June 30, 2015, for the sales mentioned above, the sales to Guangzhou Kormee and Ruian Kormee were sales of scrap materials and were included in other operating income in the consolidated statements of income and comprehensive income. The sales to Ruili Group were included in sales in the consolidated statements of income and comprehensive income.

 

 10 

 

 

   June 30, 2015   December 31, 2014 
PREPAYMENTS          
Guangzhou Kormee Automotive Electronic Control Co., Ltd.  $267,746   $ 
Ruian Kormee Vehicle brake  Co., Ltd.       83,206 
Total  $267,746   $83,206 
           
ACCOUNTS PAYABLE          
Ruian Kormee Vehicle Brake Co., Ltd.  $125,361   $ 
Guangzhou Kormee Automotive Electronic Control Co., Ltd.       59,011 
Ruili Group Co., Ltd.   14,260    77,598 
Total  $139,621   $136,609 
           
OTHER PAYABLES          
MGR Hong Kong Limited  $18,153   $17,681 
Ruili Group Co., Ltd.   4,820     
Total  $22,973   $17,681 

 

The Company entered into several lease agreements with related parties, see Note M for more details.

 

In addition, the Company provided a guarantee for the credit line granted to Ruili Group by the Bank of Ningbo in the amount of RMB108,000,000 (approximately US$17,182,404) for the period from September 26, 2013 to September 25, 2014, which was renewed in 2014 for a term from August 22, 2014 to August 21, 2015. The Company also provides a guarantee for Ruili Group related to the credit line granted by China Zheshang Bank in the amount of RMB 146,960,000 (approximately US$24,016,996) for the period from December 9, 2014 to December 9, 2015.

 

 11 

 

 

NOTE E - ACCOUNTS RECEIVABLE

 

Accounts receivable, net consisted of the following:

 

   June 30, 2015   December 31, 2014 
Accounts receivable  $86,907,254   $74,646,974 
Less: allowance for doubtful accounts   (10,345,237)   (6,475,587)
Account receivable, net  $76,562,017   $68,171,387 

 

No customer individually accounted for more than 10% of our revenues or accounts receivable for the six months ended June 30, 2015. The changes in the allowance for doubtful accounts at June 30, 2015 and December 31, 2014 are summarized as follows:

 

   June 30, 2015   December 31, 2014 
Beginning balance  $6,475,587   $3,813,415 
Add: Increase to allowance   3,869,650    2,662,172 
           
Ending balance  $10,345,237   $6,475,587 

 

NOTE F - INVENTORIES

 

At June 30, 2015 and December 31, 2014, inventories consisted of the following:

 

   June 30, 2015   December 31, 2014 
Raw materials  $7,160,780   $11,934,720 
Work in process   29,824,695    30,020,125 
Finished goods   36,539,812    42,400,202 
Less: Write-down of inventories   (168,281)   (168,281)
Total inventory  $73,357,006   $84,186,766 

 

 12 

 

 

NOTE G - PROPERTY, PLANT AND EQUIPMENT

 

Property, plant and equipment consisted of the following at June 30, 2015 and December 31, 2014:

 

   June 30, 2015   December 31, 2014 
Machinery  $53,845,391   $51,619,990 
Molds   1,427,251    1,425,992 
Office equipment   2,177,164    2,257,208 
Vehicles   2,083,079    2,040,061 
Buildings   9,161,044    9,152,959 
Machinery held under capital lease   29,012,601    29,012,601 
Leasehold improvements   574,876    562,521 
Sub-Total   98,281,406    96,071,332 
           
Less: Accumulated depreciation   (56,127,595)   (52,520,405)
           
Property, plant and equipment, net  $42,153,811   $43,550,927 

 

Depreciation expense charged to operations was $3,663,280 and $3,481,100 for the six months ended June 30, 2015 and June 30, 2014, respectively.

 

NOTE H - DEFERRED TAX ASSETS AND DEFERRED TAX LIABILITIES

 

Deferred tax assets consisted of the following as of June 30, 2015 and December 31, 2014:

 

   June 30, 2015   December 31, 2014 
Deferred tax assets - current          
Allowance for doubtful accounts  $1,971,190   $990,496 
Revenue (net of cost)   27,359     
Unpaid accrued expenses   112,856    180,392 
Warranty   925,218    848,566 
Deferred tax assets   3,036,623    2,019,454 
Valuation allowance        
Net deferred tax assets - current  $3,036,623   $2,019,454 
           
Deferred tax liabilities - current          
Revenue (net of cost)  $    $151,083 
Deferred tax liabilities - current       151,083 
           
Net deferred tax assets - current  $3,036,623   $1,868,371 

 

Deferred taxation is calculated under the liability method in respect of taxation effect arising from all timing differences, which are expected with reasonable probability to be realized in the foreseeable future. The Company and its subsidiaries do not have income tax liabilities in the United States as the Company had no U.S. taxable income for the reporting period. The Company’s subsidiaries registered in the PRC are subject to income taxes within the PRC at the applicable tax rate.

 

 13 

 

 

NOTE I – SHORT-TERM BANK LOANS

 

Bank loans represented the following as of June 30, 2015 and December 31, 2014:

 

   June 30, 2015   December 31, 2014 
Secured  $18,135,575   $9,539,476 

 

The Company obtained those short term loans from Bank of China, Bank of Ningbo, China Construction Bank, OCBC Bank and Agricultural Bank of China, respectively, to finance general working capital as well as new equipment acquisition. Interest rate for the loans ranged from 0.32% to 5.35% per annum. The maturity dates of the loans, as extended, ranged from September 16, 2015 to May 14, 2016. As of June 30, 2015 and December 31, 2014, the Company’s accounts receivables of $8,625,000 and $12,328,735, respectively, were pledged as collateral under loan arrangements. For the three months ended June 30, 2015 and 2014, the interest expenses for short-term bank loans were $134,430 and $176,710, respectively. For the six months ended June 30, 2015 and 2014, the interest expenses for short-term bank loans were $161,721 and $366,590, respectively.

 

Corporate or personal guarantees:
$3,548,333   Guaranteed by the Ruili Group, a related party;
$11,587,193   Guaranteed by the Ruili Group, a related party, Mr. Xiao Ping Zhang and Ms. Shu Ping Chi, both principal shareholders; and
$3,000,049   Guaranteed by the Ruili Group, a related party, Mr. Xiao Ping Zhang and Ms. Shu Ping Chi, both principal shareholders and Jia Rui Zhang, the daughter of Mr. Xiao Ping Zhang and Ms. Shu Ping Chi.

 

NOTE J –CAPITAL LEASE OBLIGATIONS

 

   June 30, 2015   December 31, 2014 
         
Total capital lease obligations  $5,608,106   $7,470,875 
Less: Current portion   (3,738,737)   (3,735,438)
Non-current portion  $1,869,369   $3,735,437 

 

On September 13, 2011, the Company entered into a leasing agreement with International Far Eastern Leasing Co., Ltd., a subsidiary of China Sinochem Corporation, for a term of 60 months and an interest rate of 7.95% per annum, payable monthly in arrears, pursuant to which the Company mortgaged its equipment. To reduce its financing expenses, the Company entered into a new leasing agreement with International Far Eastern Leasing Co., Ltd. in December 2012 and terminated the original agreement. The lease inception date of the new lease agreement is January 4, 2013 and the termination date was January 4, 2017. The duration of the new agreement was 48 months with an interest rate of 6.4% per annum and was secured with the Company’s equipment in the original cost of $28,396,853. The capital lease obligation obtained by the Company was RMB 91,428,571 (approximately $14,545,950) and the Company is required to maintain a security deposit of RMB 11,428,571 (approximately $1,818,244). The Company prepaid all interests of RMB 10,705,357 (approximately $1,703,212) after the discount and is obligated for the payment of RMB 1,904,761.9 (approximately $303,041) monthly. The prepaid interest for capital lease obligation is amortized over the life of capital lease agreement using the effective interest method.

 

 14 

 

 

NOTE K - INCOME TAXES

 

The Joint Venture is registered in the PRC, and is therefore subject to state and local income taxes within the PRC at the applicable tax rate on the taxable income as reported in the PRC statutory financial statements in accordance with relevant income tax laws.

 

In 2009, the Company was awarded the “High-Tech Enterprise” certificate by the Chinese government. The High-Tech Enterprise certificate was valid for three years and provided the Company with a reduced tax rate of 15%.. The Company passed the re-assessment of the “High-Tech Enterprise” designation by the government in 2012 and continued to be taxed at a 15% rate in 2012 through 2014. Upon the expiration of the “High-Tech Enterprise” certificate in 2015, the Company is undergoing the re-assessment of the certificate by the government and is currently subject to a tax rate of 25%.

 

The reconciliation of the effective income tax rate of the Company to the statutory income tax rate in the PRC for the six months ended June 30, 2015 and 2014 is as follows:

 

   Six Months Ended
June 30, 2015
   Six Months Ended
June 30, 2014
 
         
US Statutory income tax rate   35.00%   35.00%
           
Valuation allowance recognized with respect to the loss in the US company   -35.00%   -35.00%
           
HK Statutory income tax rate   16.50%   16.50%
           
Valuation allowance recognized with respect to the loss in the HK company   -16.50%   -16.50%
           
China Statutory income tax rate   25.00%   25.00%
           
Effects of income tax exemptions and reliefs       -10.00%
           
Effects of additional deduction allowed for Research and Development expenses   -5.97%   -3.14%
           
Other items   4.98%   1.36%
           
Effective tax rate   24.01%   13.22%

 

Income taxes are calculated on a separate entity basis. Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company’s net deferred tax assets and liabilities are approximately as mentioned above at June 30, 2015. There currently is no tax benefit recorded for the United States. The U.S. tax authority may examine the tax returns of the Company three years after the date such taxes were due. In the six months ended June 30, 2015, there were no penalties and interest, which generally are recorded in the general and administrative expenses or in the tax expenses. The provisions for income taxes for the six months ended June 30, 2015 and 2014, respectively, are summarized as follows:

 

 15 

 

 

   Six Months Ended
June 30, 2015
   Six Months Ended
June 30, 2014
 
         
Current  $2,956,230   $1,471,873 
Deferred   (1,163,808)   (307,428)
           
Total  $1,792,422   $1,164,445 

 

ASC 740-10 requires recognition and measurement of uncertain income tax positions using a “more-likely-than-not” approach. The management evaluated the Company’s tax positions and considered that no provision for uncertainty in income taxes was necessary as of June 30, 2015 and December 31, 2014.

 

NOTE L - NONCONTROLLING INTEREST IN SUBSIDIAIRES

 

Non-controlling interest in subsidiaries represents a 10% non-controlling interest, owned by the Ruili Group, in Ruian, and a 40% non-controlling interest, owned by the Company’s Joint Venture partners, in SIH. Net income attributable to non-controlling interests in subsidiaries amounted to $361,198 and $740,818 for the six months ended June 30, 2015 and 2014, respectively.

 

   June 30, 2015   June 30, 2014 
           
10% non-controlling interest in Ruian  $605,914   $784,422 
           
40% non-controlling interest in SIH   (244,716)   (43,604)
           
Total  $361,198   $740,818 

 

NOTE M – OPERATING LEASES WITH RELATED PARTIES

 

In December 2006, Ruian entered into a lease agreement with Ruili Group for the lease of two apartment buildings. These two apartment buildings are for Ruian’s management personnel and staff, respectively. The lease term is from January 2013 to December 2016. This lease was amended in 2013, with a new lease term from January 1, 2013 to December 31, 2022. The annual lease expense is RMB2,100,000 (approximately $333,688).

 

In May 2009, Ruian entered into a lease agreement with Ruili Group for the lease of a manufacturing plant. The lease term is from September 2009 to May 2017. In August 2010, a new lease agreement was signed between Ruian and Ruili Group, under which Ruian leased 32,410 square meters manufacturing plant for its newly purchased Passenger Vehicle Brake Systems business. The lease term is from September 2009 to August 2020. This lease was amended in 2013. The amended lease term is from January 1, 2013 to December 31, 2017. The annual lease expense is RMB8, 137,680 (approximately $1,293,070).

 

The lease expenses were $835,150 and $814,389 for the six months ended June 30, 2015 and 2014, respectively.

 

NOTE N - WARRANTY CLAIMS

 

Warranty claims were $1,042,859 and $1,143,342 for the six months ended June 30, 2015 and 2014, respectively. Warranty claims are classified as accrued expenses on the balance sheet. The changes of accrued warranty expenses for the six months ended June 30, 2015 was as follows:

 

Beginning balance at January 1, 2015  $5,657,106 
Aggregate increase for new warranties issued during current period   1,042,859 
Aggregate reduction for payments made   (734,252)
Ending balance at June 30, 2015:  $5,965,713 

 

 16 

 

 

NOTE O – SEGMENT INFORMATION

 

The Company produces brake systems and other related components for different types of commercial vehicles (“Commercial Vehicle Brake Systems”). On August 31, 2010, the Company through Ruian, executed an Asset Purchase Agreement to acquire, and purchased, a segment of the passenger vehicle auto parts business (“Passenger Vehicle Brake Systems”) of Ruili Group. As a result of this acquisition, the Company's product offerings were expanded to both commercial and passenger vehicles' brake systems and other key safety-related auto parts.

 

The Company has two operating segments: Commercial Vehicle Brake Systems and Passenger Vehicle Brake Systems.

 

All of the Company’s long-lived assets are located in the PRC and Hong Kong. The Company and its subsidiaries do not have long-lived assets in the United States for the reporting periods.

 

   For The Six Months Ended June 30, 
   2015   2014 
         
NET SALES TO EXTERNAL CUSTOMERS          
Commercial vehicles brake systems  $90,002,644   $93,874,970 
Passenger vehicles brake systems   21,470,200    21,842,065 
Net sales  $111,472,844   $115,717,035 
INTERSEGMENT SALES          
Commercial vehicles brake systems  $   $ 
Passenger vehicles brake systems        
           
Intersegment sales  $   $ 
GROSS PROFIT          
Commercial vehicles brake systems  $23,944,802   $26,177,323 
Passenger vehicles brake systems   6,314,718    7,723,498 
Gross profit  $30,259,520   $33,900,821 
Other operating income   1,068,808    925,262 
Selling and distribution expenses   10,437,087    12,178,605 
General and administrative expenses   10,149,595    9,027,028 
Research and development expenses   3,570,091    3,691,757 
Income from operations   7,171,555    9,928,693 
Interest income   520,791    60,635 
Other Income   713,938    251,596 
Interest expenses   (409,200)   (722,730)
Other expenses   (531,108)   (710,154)
           
Income before income tax expense  $7,465,976   $8,808,040 
CAPITAL EXPENDITURE          
Commercial vehicles brake systems  $1,154,889   $1,670,876 
Passenger vehicles brake systems   265,896    390,786 
Total  $1,420,785   $2,061,662 
DEPRECIATION AND AMORTIZATION          
Commercial vehicles brake systems  $3,162,162   $3,022,678 
Passenger vehicles brake systems   749,110    709,703 
Total  $3,911,272   $3,732,381 

 

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   June 30, 2015   December 31, 2014 
     
TOTAL ASSETS          
Commercial vehicles brake systems  $237,553,633   $234,186,022 
Passenger vehicles brake systems   63,642,808    52,720,240 
Total  $301,196,441   $286,906,262 

 

   June 30, 2015   December 31, 2014 
     
LONG LIVED ASSETS          
Commercial vehicles brake systems  $46,001,685   $48,956,149 
Passenger vehicles brake systems   12,324,275    11,021,067 
           
Total  $58,325,960   $59,977,216 

 

NOTE P – CONTINGENCIES

 

(1) According to the laws of China, the Chinese government owns all the land in China. Companies and individuals are authorized to possess and use the land only through land use rights granted by the Chinese government. The Company purchased the land use rights and the building on the land from Ruili Group for approximately $20 million on September 28, 2007. The Company has not yet obtained the land use right certificate nor the property ownership certificate of the building. There is no new development of negotiation regarding taxes related to the land use rights. Although the Company plans to conclude negotiations with the local government and to obtain the land use right certificate as soon as practicable, the Company is unable to predict when the negotiations will be resolved or concluded. There is no assurance that the Company can obtain the land use right certificate. The Company reserved the relevant tax amount of RMB 4,560,000 (approximately $745,220). This amount was determined based on a 3% tax rate on the consideration paid for the land use right in the transaction, which the Company considered as the most probable amount of tax liability. This amount also represented the maximum amount of tax the Company expects to pay if the negotiation with the local government ultimately is not successful. Even if it is unable to resolve the tax issues, there will be no potential adverse implication on the Company.

 

(2) The Company provided the guarantee for the credit line granted to Ruili Group by the Bank of Ningbo in the amount of RMB108,000,000 (approximately $17,182,404) for the period from September 26, 2013 to September 25, 2014, which was renewed in 2014 for a term from August 22, 2014 to August 21, 2015. The Company also provides the guarantee for Ruili Group related to the credit line granted by China Zheshang Bank in the amount of RMB 146,960,000 (approximately $24,016,996) from December 9, 2014 to December 9, 2015.

 

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

 

The following is management’s discussion and analysis of certain significant factors that have affected our financial position and operating results during the periods included in the accompanying consolidated unaudited financial statements, as well as information relating to the plans of our current management. The following discussion and analysis should be read in conjunction with our consolidated unaudited financial statements and the related notes thereto and other financial information contained elsewhere in this Form 10-Q.

 

FORWARD-LOOKING STATEMENTS

 

This quarterly report on Form 10-Q includes forward-looking statements. Any statements contained in this report that are not statements of historical fact may be deemed to be forward-looking statements. Generally, the words “believe,” “anticipate,” “may,” “will,” “should,” “expect,” “intend,” “estimate,” “continue,” and similar expressions, or the negative thereof, or comparable terminology, are intended to identify forward-looking statements. Such statements are subject to certain risks and uncertainties, including the matters set forth in this report or other reports or documents we file with SEC from time to time, which could cause actual results or outcomes to differ materially from those anticipated. Some of the factors that could cause actual results to differ include: risks associated with global economic or market conditions; our ability to effectively implement our business strategy; our ownership and management structure; our ability to retain and expand our customer base and generate revenue from their orders; our ability to handle downward pricing pressures on our products; our ability to accurately or effectively plan our production or supply needs; our ability to meet delivery deadlines for our products; our ability to develop new products; our ability to obtain financing on favorable terms; our ability to protect our intellectual property rights and not infringe on the intellectual property rights of others; competitive pressures; risks associated with a disruption at our sole manufacturing site; increased costs of components and raw materials; risks associated with product liability and warranty and recall claims; compliance costs related to environmental and safety regulations; risks related to non-performance by our suppliers; risks associated with international operations, including fluctuations in foreign currency exchange rates; and risks associated with China’s legal, environmental, political and economic policies. For a discussion of these and all other known risks and uncertainties that could cause actual results to differ from those contained in the forward-looking statements, see “Risk Factors” in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2014, which is available on the SEC’s website at www.sec.gov. Undue reliance should not be placed on these forward-looking statements that speak only as of the date hereof. We undertake no obligation to revise or update these forward-looking statements.

 

OVERVIEW

 

The Company manufactures and distributes automotive brake systems and other key safety-related components to automotive original equipment manufacturers, or OEMs, and the related aftermarket both in China and internationally for use primarily in different types of commercial vehicles, such as trucks and buses, and in passenger vehicles. Management believes that it is the largest manufacturer (by sales volume) of automotive brake systems in China for commercial vehicles such as trucks and buses.

 

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

 

For a summary of our accounting policies and estimates, see Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies and Estimates” in our Annual Report on Form 10-K for the year ended December 31, 2014.

 

 19 

 

 

See Note K to the attached Unaudited Consolidated Financial Statements for the information regarding changes in taxation by the government of China.

 

Results of Operations

 

Results of operations for the three months ended June 30, 2015 as compared to the three months ended June 30, 2014.

 

Sales

 

   Three Months Ended   Three Months Ended 
   June 30, 2015   June 30, 2014 
   (U.S.  dollars in millions) 
Commercial Vehicle Brake Systems  $46.8    78.9%  $53.9    82.0%
Passenger Vehicle Brake Systems  $12.5    21.1%  $11.8    18.0%
                     
Total  $59.3    100.0%  $65.7    100.0%

 

Net sales were $59,274,878 and $65,723,746 for the three months ended June 30, 2015 and 2014, respectively, a decrease of $6.4 million or 9.8%. The decrease was mainly due to the decreased sales of commercial vehicle brake systems to China market and international market. 

 

The sales from Commercial Vehicle Brake Systems decreased by $7.1 million or 13.2%, to $46.8 million for the second fiscal quarter of 2015, compared to $53.9 million for the same period of 2014. The decline of the production and sales of the commercial vehicles for the second fiscal quarter of 2015 in the automobile industry impacted the sales of the Commercial Vehicle Brake Systems.

 

The sales from Passenger Vehicle Brake Systems increased by $0.7 million or 5.9%, to $12.5 million for the second fiscal quarter of 2015, compared to $11.8 million for the same period of 2014. The increase was mainly due to the increased sales to existing customers in the second fiscal quarter of 2015.

 

A breakdown of net sales revenue for these markets for the second fiscal quarter of the 2015 and 2014, respectively, is set forth below:

 

   Three
Months
   Percent   Three
Months
   Percent     
   Ended   of   Ended   of     
   June 30,
2015
   Total
Sales
   June 30,
2014
   Total
Sales
   Percentage
Change
 
   (U.S. dollars in millions)     
China OEM market  $28.4    47.9%  $31.9    48.6%   -11.0%
China Aftermarket  $14.0    23.6%  $15.4    23.4%   -9.1%
International market  $16.9    28.5%  $18.4    28.0%   -8.2%
Total  $59.3    100.0%  $65.7    100.0%   -9.7%

 

Considering the decline of the production and sales of the commercial vehicles for the second fiscal quarter of 2015 in the automobile industry, our sales to the Chinese OEM market decreased by 11.0% from the second fiscal quarter of 2014, to $28.4 million.

 

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Our sales to the China aftermarket decreased by $1.4 million or 9.1%, to $14.0 million for the second fiscal quarter of 2015, compared to $15.4 million for the same period of 2014. The usage of heavy-duty trucks in the construction of real estate development projects and infrastructure projects was reduced in China in the second quarter of 2015, which resulted in the reduced replacement of auto parts. We will continue with our strategies to further optimize our sales network and to help further penetrate into new markets. Accelerated urbanization and the Chinese government’s increased support for public transportation favor our expansion in the bus aftermarket.

 

Our international sales decreased by $1.5 million or 8.2%, to $16.9 million for the second fiscal quarter of 2015, as compared to $18.4 million for the same period of 2014. The decrease in export sales was mainly due to the truck production decline and currency depreciation in some countries.

 

Cost of Sales and Gross Profit

 

Cost of sales for the three months ended June 30, 2015 were $42,746,432 a decrease of $4,463,429 or 9.5% from $47,209,861 for the three month period ended June 30, 2014. Our gross profit decreased by 10.7% from $18,513,885 for the period of 2014 to $16,528,446 for the three month period ended June 30, 2015.

 

Gross margin decreased to 27.9% from 28.2% for the three month period ended June 30, 2015 compared with 2014. One of the reasons of these decrease is that, to strengthen our competitiveness and increase our market share, we introduced price discounts in the aftermarket and international market in 2015. The increased labor cost also decreased our gross margin for the three months ended June 30, 2015. We intend to focus in 2015 on increasing production efficiency, improving the technologies of products, and improving our product portfolio, to help us to maintain or increase our gross profit margins.

 

Cost of sales from Commercial Vehicle Brake Systems for the three months period ended June 30, 2015 were $34.2 million, a decrease of $5.3 million or 13.3% from $39.5 million for the same period last year. The gross profit from Commercial Vehicle Brake Systems decreased by 13.4% from $14.4 million for three month period ended June 30, 2014 to $12.5 million for the three month period ended June 30, 2015. Gross margin from Commercial Vehicle Brake Systems decreased to 26.7% from 26.8% for the three months period ended June 30, 2015 compared to the three months period ended June 30, 2014.

 

Cost of sales from Passenger Vehicle Brake Systems for the three months period ended June 30, 2015 were $8.5 million, an increase of $0.8 million or 10.2% from $7.7 million for the three month period ended June 30, 2014. The gross profit from Passenger Vehicle Brake Systems decreased by 1.3% from $4.1 million for the three month period ended June 30, 2014 to $4.0 million for the three month period ended June 30, 2015. Gross margin from Passenger Vehicle Brake Systems decreased to 32.1% from 34.6% for the three months ended June 30, 2015 compared to the three months period ended June 30, 2014.

 

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Selling and Distribution Expenses

 

Selling and distribution expenses were $5,086,089 for the three months ended June 30, 2015, as compared to $6,473,111 for the same period of 2014, a decrease of $1,387,022 or 21.4%.

 

The decrease was mainly due to decreased freight expense. As a percentage of sales revenue, selling expenses decreased to 8.6% for the three months ended June 30, 2015, as compared to 9.8% for the same period in 2014.

 

General and Administrative Expenses

 

General and administrative expenses were $7,430,223 for the three months ended June 30, 2015, as compared to $4,710,874 for the same period of 2014, an increase of $2,719,349 or 57.7%. The increase was mainly due to the increase in allowance for doubtful accounts during this quarter. As a percentage of sales revenue, general and administrative expenses increased to 12.5% for the three months ended June 30, 2015, as compared to 7.2% for the same period in 2014.

 

Research and Development Expenses

 

Research and development expenses include payroll, employee benefits, and other headcount-related expenses associated with product development. Research and development expenses also include third-party development costs. For the three months ended June 30, 2015, research and development expenses were $1,857,470, as compared to $2,200,558 for the same period of 2014, a decrease of $343,088.

 

Other Operating Income

 

Other operating income was $483,091 for the three months ended June 30, 2015, as compared to $549,130 for the three months ended June 30, 2014, a decrease of $66,039. The decrease was mainly due to a decrease in sales of raw material scraps for the three months ended June 30, 2015.

 

Depreciation and Amortization

 

Depreciation and amortization expense increased to $1,974,208 for the three months ended June 30, 2015, compared with that of $1,879,071 for the same period of 2014, an increase of $95,137. The increase in depreciation and amortization expense was primarily due to the addition of purchased production equipment.

 

Interest income

 

The interest income for the three months ended June 30, 2015, increased by $361,001 to $409,836 from $48,835 for the same period of 2014, mainly due to increased short term investments during the period.

 

Interest Expenses

 

The interest expenses for the three months ended June 30, 2015, increased by $5,570 to $242,544 from $236,974 for the same period of 2014, mainly due to increased interest expenses related to the discount of bank acceptance notes received from customers.

 

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Income Tax

 

The Joint Venture is registered in the PRC, and is therefore subject to state and local income taxes within the PRC at the applicable tax rate on the taxable income as reported in the PRC statutory financial statements in accordance with relevant income tax laws.

 

The Company increased its investment in the Joint Venture as a result of its financing in December, 2006. In accordance with the Income Tax Law of the People’s Republic of China on Foreign-invested Enterprises and Foreign Enterprises, the Joint Venture is eligible for additional preferential tax treatment. For the years 2007 and 2008, the Joint Venture was entitled to an income tax exemption on all pre-tax income generated by the Company above its pre-tax income generated in the year 2006. Thereafter, the Joint Venture would enjoy a 50% exemption from the effective income tax rate on any pre-tax income above its 2006 pre-tax income, to be recognized in the years 2009, 2010 and 2011. The above taxation exemption was superseded, because the Joint Venture has been awarded the "High-Tech Enterprise" certificate by the Chinese government. The High-Tech Enterprise certificate is valid for three years and provides for a reduced tax rate for years 2009 through 2011. The Company used a tax rate of 25% for the first three quarters of 2012. In December 2012, the Joint Venture passed the re-assessment of the High-Tech Enterprise certificate by the government, according to the relevant PRC income tax laws. Accordingly, it continues to be taxed at a 15% rate in 2012 through 2014. Upon the expiration of the “High-Tech Enterprise” certificate in 2015, the Company is undergoing the re-assessment of the certificate by the government and is currently subject to a tax rate of 25%.

 

Income tax expense was $794,144 for the three months ended June 30, 2015, as compared to $651,210 for the three months ended June 30, 2014.

 

Net Income Attributable to Non-Controlling Interest in Subsidiaries

 

Net income attributable to noncontrolling interest in subsidiaries amounted to $208,955 and $447,621 for the second fiscal quarter ended June 30, 2015 and 2014, respectively.

 

Net Income Attributable to Stockholders

 

The net income attributable to stockholders for the fiscal quarter ended June 30, 2015, decreased by $1,870,399, to $2,262,075 from $4,132,474 for the fiscal quarter ended June 30, 2014 due to the factors discussed above. Earnings per share (“EPS”), both basic and diluted, for the fiscal quarter ended June 30, 2015 and 2014, were $0.12 and $0.21, respectively.

 

Results of operations for the six months ended June 30, 2015 as compared to the six months ended June 30, 2014.

 

Sales

 

   Six Months Ended   Six Months Ended 
   June 30, 2015   June 30, 2014 
   (U.S.  dollars in millions)
Commercial Vehicle Brake Systems  $90.0    80.7%  $93.9    81.2%
Passenger Vehicle Brake Systems  $21.5    19.3%  $21.8    18.8%
                     
Total  $111.5    100.0%  $115.7    100.0%

 

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Net sales were $111,472,844 and $115,717,035 for the six months ended June 30, 2015 and 2014, respectively, a decrease of $4.2 million or 3.7%. The decrease was due to the decreased sales to China OEM market.

 

The sales from Commercial Vehicle Brake Systems decreased by $3.9 million or 4.1%, to $90.0 million for the six months ended June 30, 2015, compared to $93.9 million for the six months ended June 30, 2014. The decline of the production and sales of the commercial vehicles in 2015 in the automobile industry impacted the sales of the Commercial Vehicle Brake Systems.

 

The sales from Passenger Vehicle Brake Systems decreased by $0.3 million or 1.7%, to $21.5 million for the six months ended June 30, 2015, compared to $21.8 million for the same period of 2014. The decrease was mainly due to the adjustment of our customer structure in 2015, namely reducing or suspending sales to customers who have long term overdue payment or who makes relatively small amount of orders.

 

A breakdown of net sales revenues for China OEM markets, China aftermarket and international market for the six months ended June 30, 2015 and 2014, respectively, is set forth below:

 

   Six Months   Percent   Six Months   Percent    
   Eded   of   Ended   of    
   June 30,
2015
   Total
Sales
   June 30,
2014
   Total
Sales
   Percentage
Change
 
   (U.S. dollars in million)     
China OEM market  $54.3    48.7%  $60.5    52.3%   -10.2%
China Aftermarket  $26.4    23.7%  $25.9    22.4%   1.9%
International market  $30.8    27.6%  $29.3    25.3%   5.1%
Total  $111.5    100.0%  $115.7    100.0%   -3.6%

 

Considering the decline of the production and sales of the commercial vehicles for the six months ended June 30, 2015 in the automobile industry, our sales to the Chinese OEM market decreased by 10.2% to $54.3 million for the six months ended June 30, 2015, compared to $60.5 million for the same period in 2014.

 

Our sales to the China aftermarket increased by $0.5 million or 1.9%, to $26.4 million for the six months ended June 30, 2015, compared to $25.9 million for the same period of 2014. The increased new vehicle sales in China and the expiration of OEM warranties helped to drive our aftermarket business. Sales of our new model products, applicable to both the Chinese OEM Market and Chinese Aftermarket, also increased during the six months ended June 30, 2015. We will continue with our strategies to further optimize our sales network and to help further penetrate into new markets. Accelerated urbanization and the Chinese government’s increased support for public transportation favor our expansion in the bus aftermarket.

 

Our export sales increased by $1.5 million or 5.1%, to $30.8 million for the six months ended June 30, 2015, as compared to $29.3 million for the same period of 2014. A part of our strategy is to strengthen and extend our distribution networks to increase our exposure with end users. The increase in export sales was mainly due to our broadened customer base.

 

Cost of Sales and Gross Profit

 

Cost of sales for the six months ended June 30, 2015 were $81,213,324, a decrease of $602,890 or 0.7% from $81,816,214 for the same period last year. Our gross profit decreased by 10.7% from $33,900,821 for the six months ended June 30, 2014 to $30,259,520 for the same period of 2015.

 

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Gross margin decreased to 27.1% from 29.3% for the six months ended June 30, 2015, as compared with the same period of 2014. One of the reasons of the decrease is that, to strengthen our competitiveness and increase our market share, we started the price promotion in the aftermarket and international market for the six months ended June 30, 2015. The increased labor cost also decreased our gross margin for the six months ended June 30, 2015. We intend to focus in 2015 on increasing production efficiency, improving the technologies of products, and improving our product portfolio, to help us to maintain or increase our gross profit margins.

 

Cost of sales from Commercial Vehicle Brake Systems for the six months ended June 30, 2015 were $66.1 million, a decrease of $1.6 million or 2.4% from $67.7 million for the same period of 2014. The gross profit from Commercial Vehicle Brake Systems decreased by 8.5% from $26.2 million for the six months ended June 30, 2014 to $23.9 for the same period of 2015. Gross margin from Commercial Vehicle Brake Systems decreased to 26.6% from 27.9% for the six months ended June 30, 2015 compared with the same period of 2014.

 

Cost of sales from Passenger Vehicle Brake Systems for the six months ended June 30, 2015 were $15.2 million, an increase of $1.0 million or 7.3% from $14.1 million for the same period of 2014. The gross profit from Passenger Vehicle Brake Systems decreased by18.2% from $7.7 for the six months ended June 30, 2014 to $6.3 for the same period of 2015. Gross margin from Passenger Vehicle Brake Systems decreased to 29.4% from 35.4% for the six months ended June 30, 2015, as compared with the same period in 2014.

 

Selling and Distribution Expenses

 

Selling and distribution expenses were $10,437,087 for the six months ended June 30, 2015, as compared to $12,178,605 for the same period of 2014, a decrease of $1,741,518 or 14.3%.

 

The decrease was mainly due to decreased freight expense and salaries of the sales force. As a percentage of sales revenue, selling expenses decreased to 9.4% for the six months ended June 30, 2015, as compared to 10.5% for the same period in 2014.

 

General and Administrative Expenses

 

General and administrative expenses were $10,149,595 for the six months ended June 30, 2015, as compared to $9,027,028 for the same period of 2014, an increase of $1,122,567, or 12.4%.

 

The increase was mainly due to the increase in allowance for doubtful accounts during this quarter. As a percentage of sales revenue, general and administrative expenses increased to 9.1% for the six months ended June 30, 2015, as compared to 7.8% for the same period in 2014.

 

Research and Development Expenses

 

Research and development expenses include payroll, employee benefits, and other headcount-related expenses associated with product development. Research and development expenses also include third-party development costs. For the six months ended June 30, 2015, research and development expenses were $3,570,091, as compared to $3,691,757 for the same period of 2014, a decrease of $121,666.

 

Other Operating Income

 

Other operating income was $1,068,808 for the six months ended June 30, 2015, as compared to $925,262 for the six months ended June 30, 2014, an increase of $143,546. The increase was mainly due to an increase in sales of raw material scrap for the six months ended June 30, 2015.

 

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Depreciation and Amortization

 

Depreciation and amortization expenses increased to $3,911,272 for the six months ended June 30, 2015, compared with that of $3,732,381 for the same period of 2014, an increase of $178,891. The increase in depreciation and amortization expenses was primarily due to the purchase of production equipment.

 

Interest income

 

The interest income for the six months ended June 30, 2015, increased by $460,156 to $520,791 from $60,635 for the same period of 2014, mainly due to increased short term investments during the period.

 

Interest Expenses

 

The interest expenses for the six months ended June 30, 2015, decreased by $313,530 to $409,200 from $722,730 for the same period of 2014, mainly due to decreased interest rate and decreased amount of average loans outstanding during the period. In addition, the interest expenses related to the discount of bank acceptance notes received from customers also decreased.

 

Income Tax

 

The Joint Venture is registered in the PRC, and is therefore subject to state and local income taxes within the PRC at the applicable tax rate on the taxable income as reported in the PRC statutory financial statements in accordance with relevant income tax laws.

 

The Company increased its investment in the Joint Venture as a result of its financing in December, 2006. In accordance with the Income Tax Law of the People's Republic of China on Foreign-invested Enterprises and Foreign Enterprises, the Joint Venture was eligible for additional preferential tax treatment for the years 2007 and 2008. In those years, the Joint Venture was entitled to an income tax exemption on all pre-tax income generated by the Company above its pre-tax income generated in the year 2006. This tax exemption was superseded as a result of the Joint Venture having been awarded the "High-Tech Enterprise" certificate by the Chinese government. The High-Tech Enterprise certificate is valid for three years and provides for a reduced tax rate for years 2009 through 2011. The Company used a tax rate of 25% for the first three quarters of 2012. In December 2012, the Joint Venture passed the re-assessment of the High-Tech Enterprise certificate by the government, according to the relevant PRC income tax laws. Accordingly, it continues to be taxed at a 15% rate in 2012 through 2014. Upon the expiration of the “High-Tech Enterprise” certificate in 2015, the Company is undergoing the re-assessment of the certificate by the government and is currently subject to a tax rate of 25%.

 

Income tax expense was $1,792,422 for the six months ended June 30, 2015, as compared to $1,164,445 for the six months ended June 30, 2014.

 

Net Income Attributable to Non-Controlling Interest in Subsidiaries

 

Net income attributable to non-controlling interest in subsidiaries amounted to $361,198 and $740,818 for the six months ended June 30, 2015 and 2014, respectively.

 

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Net Income Attributable to Stockholders

 

The net income attributable to stockholders for the six months ended June 30, 2015, decreased by $1,590,421, to $5,312,356 from $6,902,777 for the six months ended June 30, 2014. EPS, both basic and diluted, for the six months ended June 30, 2015 and 2014, were $0.28 and $0.36, respectively.

 

FINANCIAL CONDITION

 

Liquidity and Capital Resources

 

As of June 30, 2015, the Company had cash and cash equivalents of $11,624,065, as compared to cash and cash equivalents of $14,009,597 as of December 31, 2014. The Company had working capital of $169,588,176 at June 30, 2015, as compared to working capital of $163,947,851 at December 31, 2014, reflecting current ratios of 3.31:1 and 3.60:1, respectively.

 

OPERATING - Net cash provided by operating activities was $16,074,928 for six months ended June 30, 2015 an increase of $20,454,101, as compared with $4,379,173 of net cash used in operating activities in the same period in 2014. Such increase was primarily due to the increased cash inflow resulted by changes in inventories and deposits received from customers.

 

INVESTING - During the six months ended June 30, 2015, the Company expended net cash of $25,133,026 in investing activities mainly for short term investments. For the six months ended June 30, 2014, the Company expended net cash of $2,008,225 in investing activities.

 

FINANCING - During the six month period ended June 30, 2015, the cash provided by financing activities was $6,739,881. Cash provided by financing activities was $4,540,724 for the six months ended June 30, 2014.

 

The Company has taken a number of steps to improve the management of its cash flow. We place more emphasis on collection of accounts receivable from our customers. We maintain good relationships with local banks. We believe that our current cash and cash equivalents and anticipated cash flow generated from operations and our bank lines of credit will be sufficient to finance our working capital requirements for the foreseeable future.

 

OFF-BALANCE SHEET ARRANGEMENTS

 

As of June 30, 2015, we did not have any material commitments for capital expenditures or have any transactions, obligations or relationships that could be considered off-balance sheet arrangements.

 

According to the laws of China, the government owns all the land in China. Companies and individuals are authorized to possess and use the land only through land use rights granted by the Chinese government. The Company purchased the land use rights from the Ruili Group, a related party. The Company also purchased a building on the land in the same transaction. The purchase price of land use right and building amounted to approximately $20 million.

 

The Company has been negotiating with the government for a reduction in or exemption from the tax being sought by the government in connection with the transfer of the land use rights. Because of the change in personnel of the local government, there is no new development of negotiations regarding taxes related to the land use rights. Due to the lack of resolution of that issue, the land use right certificate and the property ownership certificate have not been issued to the Company. There is no assurance that we can conclude the negotiations with the government and obtain a favorable result. We will continue negotiations in furtherance of our effort and to obtain the land use rights certificate as soon as practicable.

 

Even if the Company is unable to timely resolve obtain the land use right certificate for the land and related building, the Company believes that there will be no potential adverse implication on the Company for the following reasons.

 

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1.        The Company acquired the land use rights in a transaction between the Company and the Ruili Group, a related party. The Ruili Group, as the original land use right owner, has granted the land use right to the Company by contract which is supported by valid consideration.

 

2.        No third party would oppose the Company’s use of the land, because no third party has any interest in the land use right or property ownership right, other than the Ruili Group and the government.

 

a)      The Company intends to enter into an agreement with Ruili Group pursuant to which the Ruili Group will represent and warrant that the Company will have the right to use the land and related building, even before the land use certificate is transferred. The Company, however, can offer no assurances that the parties will ultimately enter into such an agreement.

 

b)      According to the laws of China, the government owns all the land and the buildings attached to the land in China. Once the land use right is granted to Ruili Group, Ruili Group has the right to assign its land use rights to any third parties, including the Company, without interference from the government. Therefore, it is unlikely that the government will oppose the Company’s right to use the land and related building.

 

c)      The Company has reserved tax payables in the amount of RMB 4,560,000 (approximately US$724,580) on its consolidated balance sheets under the line item “accrued expenses” as if no reduction or exemption of tax is approved. This amount was determined based on a 3% tax rate on the consideration paid for the land use right in the transaction, which the Company considered as the most probable amount of tax liability. This amount also represented the maximum amount of tax the Company expects to pay if the negotiation with the local government ultimately is not successful.

 

CONTRACTUAL OBLIGATIONS

 

As of June 30, 2015, we had no material changes outside the ordinary course of business in our contractual obligations

 

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

Not Applicable.

 

ITEM 4. CONTROLS AND PROCEDURES

 

Evaluation of Disclosure Controls and Procedures:

 

We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our reports pursuant to the Exchange Act, is recorded, processed, summarized and reported within the time periods specified in the rules and forms, and that such information is accumulated and communicated to us, including our chief executive officer and chief financial officer, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, we recognize that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, as ours are designed to do, and we necessarily were required to apply our judgment in evaluating whether the benefits of the controls and procedures that we adopt outweigh their costs. As required by Rules 13a-15(b) and 15d-15(b) of the Exchange Act, an evaluation as of June 30, 2015 was performed under the supervision and with the participation of the Company’s management, including the Chief Executive Officer (“CEO”) and the Chief Financial Officer (“CFO”), of the effectiveness of the design and operation of the Company’s disclosure controls and procedures (as defined in Rules 13a-15(b) and 15d-15(b) of the Exchange Act). Based on this evaluation, the Company’s management, including the CEO and CFO, concluded that the Company’s disclosure controls and procedures, as of June 30, 2015, were effective, in all material respects, for the purpose stated above.

 

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Changes in Internal Control over Financial Reporting:

 

There were no changes in the Company’s internal control over financial reporting during the three months ended June 30, 2015 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

PART II OTHER INFORMATION

 

ITEM 1. LEGAL PROCEEDINGS

 

We are involved in litigation matters and are subject to claims arising in the ordinary course of business that we do not believe will have a material adverse effect upon our business, financial condition or results of operations, although we can offer no assurance as to the ultimate outcome of any such matters.

 

ITEM 1A. RISK FACTORS

 

Part I, Item 1A. “Risk Factors” in our annual report on Form 10-K for the year ended December 31, 2014 includes a detailed discussion of risk factors that could materially affect our business, financial condition or results of operations. There have been no material changes from the risk factors disclosed in that report.

 

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

 

None.

 

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

 

None.

 

ITEM 4. MINE SAFETY DISCLOSURES

 

Not applicable.

 

ITEM 5. OTHER INFORMATION

 

None.

 

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ITEM 6. EXHIBITS

 

3.1 Amended and Restated Articles of Incorporation, as further amended (approved May 27, 2010). (1)
   
3.2 Amended and Restated Bylaws effective as of March 14, 2009. (2)
   
31.1 Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
   
31.2 Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
   
32 Certification of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (3)

 

EX-101.INS XBRL Instance Document
   
EX-101.SCH XBRL Taxonomy Extension Schema
   
EX-101.CAL XBRL Taxonomy Extension Calculation Linkbase
   
EX-101.DEF XBRL Taxonomy Extension Definition Linkbase
   
EX-101.LAB XBRL Taxonomy Extension Label Linkbase
   
EX-101.PRE XBRL Taxonomy Extension Presentation

 

(1)Incorporated herein by reference from the Registrant’s Form 8-K Current Report filed with the Securities and Exchange Commission, on June 1, 2010.

 

(2)Incorporated herein by reference from the Registrant’s Form 8-K Current Report as filed with the Securities and Exchange Commission, on March 17, 2009.

 

(3)Furnished in accordance with Item 601(b) (32) of Regulation S-K, this Exhibit is not deemed “filed” for purposes of Section 18 of the Exchange Act or otherwise subject to the liabilities of that section. Such certifications will not be deemed incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Exchange Act, except to the extent that the registrant specifically incorporates it by reference.

 

 30 

 

  

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 thereunto duly authorized.

 

Dated : August 14, 2015 SORL AUTO PARTS, INC.
   
  By: /s/ Xiao Ping Zhang
  Name: Xiao Ping Zhang
  Title: Chief Executive Officer
  (Principal Executive Officer)
   
  By: /s/ Zong Yun Zhou
  Name: Zong Yun Zhou
  Title: Chief Financial Officer
  (Principal Accounting Officer)

 

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