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FORM 10-Q

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

For the quarterly period ended June 30, 2018

☐  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

 

Issuer's telephone number:   +86 0537-4268271

CHINA YCT INTERNATIONAL GROUP, INC.

Table of Contents

 

CHINA YCT INTERNATIONAL GROUP, INC.

CONSOLIDATED BALANCE SHEETS

(Unaudited)

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

CHINA YCT INTERNATIONAL GROUP, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(Unaudited)

CHINA YCT INTERNATIONAL GROUP, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted pursuant to the Securities and Exchange Commission's rules and regulations. These unaudited financial statements should be read in conjunction with our audited financial statements and notes thereto for the year ended March 31, 2018 as included in our Annual Report on Form 10-K. 

The consolidated financial statements include the financial statements of China YCT International Group, Inc., Landway Nano and its 97% owned subsidiary, Shandong Spring Pharmaceutical.  All inter-company transactions and balances are eliminated in consolidation.

 

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 may differ from those estimates. Significant accounting estimates reflected in the Company's consolidated financial statements include: the valuation of inventory, the estimated useful lives and impairment of property, equipment, intangible assets, and the valuation of deferred tax assets.

 

The accounts of the Company's Chinese subsidiary are maintained in RMB and the accounts of the U.S. companies are maintained in USD. The accounts of the Chinese subsidiary were translated into USD in accordance with Accounting Standards Codification ("ASC") Topic 830 "Foreign Currency Matters". 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 comprehensive 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 foreign currency transactions are reflected in the statements of comprehensive income.

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

 

 Recent accounting pronouncements

The Company's management has evaluated all the recently issued accounting pronouncements and does not believe that they will have a material effect on the Company's consolidated financial position and results of operations.

 

NOTE 3 - INVENTORIES

The U.S. Tax Cuts and Jobs Act (the "Act") was enacted on December 22, 2017 and introduces significant changes to U.S. income tax law. Effective in 2018, the Tax Act reduces the U.S. statutory tax rate from 35% to 21% and creates new taxes on certain foreign-sourced earnings and certain related-party payments, which are referred to as the global intangible low-taxed income tax and the base erosion tax, respectively.

The reconciliation of income tax expense at the U.S. statutory rate of 21% and 35% in 2018 and 2017, to the Company's effective tax rate is as follows:

 

	Three Months Ended
	June 30,
	2018				2017
U.S. Statutory rate		$	1,295,455			$	1,832,893
Tax rate difference between China and U.S.			246,754				(523,684	)
Effective tax rate		$	1,542,209			$	1,309,209

 

The provisions for income taxes are summarized as follows:

Balances:

(i) Security deposit to related party:

The security deposit to related party of $1,511,350 represents the deposit paid to Shandong Yongchuntang Group Co., Ltd ("Shandong Yongchuntang") on January 4, 2017 for using the direct-sales license issued to Shandong Yongchuntang. The amount is non-interest bearing and not secured. Shandong Yongchuntang owns 3% of the equity of Shandong Spring Pharmaceutical.

(ii) Trade related balance with related party:

On June 30, 2018 and March 31, 2018, purchase deposit to related party of $1,208,005 and $1,412,864, respectively, pertains to a purchase deposit paid in respect of the purchase of healthcare products from Shandong Yongchuntang.

Transactions:

(i) Purchase from related party (See Note 8)

Contingency:

The Company is authorized by Shandong Yongchuntang to sell Shandong Yongchuntang's products using the direct-sales license issued to Shandong Yongchuntang.  As a condition for using the direct-sales license, the Company needs to make a 20% sales increase each year based on 95% of sales in the year 2014.  If the Company cannot meet this sales target in any year from April 1, 2017 to June 30, 2020, a security deposit of approximately $1.6 million will be used as an annual fee for using the direct-sales license.  There is a risk that the Company may fail to meet the sales target and may need to pay approximately $1.6 million in the subsequent years.

The Company sold products through ten distributors during the three months ended June 30, 2018 and 2017. Sales to six distributors represented 15%, 14%, 12%, 12%, 10%, and 10% of total sales for the three months ended June 30, 2018. Sales to four distributors represented 19%, 16%, 11% and 11% of total sales for the three months ended June 30, 2017.

The Company sold 11 and 10 products during the three months ended June 30, 2018 and 2017, respectively. Sales of three products represented 37%, 25%, and 11% of total sales for the three months ended June 30, 2018.  Sales of four products represented 37%, 17%, 11%, and 11% of total sales for the three months ended June 30, 2017. 

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operation

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

 

We were incorporated in the State of Florida in January 1989, and reincorporated in the State of Delaware on April 4, 2007. We operate principally through our wholly-owned subsidiary, Landway Nano Bio-Tech, Inc. ("Landway Nano"), incorporated in Delaware, which, in turn, owns 97% of Shandong Spring Pharmaceutical Co., Ltd. ("Shandong Spring Pharmaceutical "), incorporated in the People's Republic of China (the "PRC"). We, through Shandong Spring Pharmaceutical, are engaged in the business of (i) distributing health care supplement products, (ii) developing, manufacturing, and selling Huoliyuan capsules, a prescription medicine, and (iii) developing the acer truncatum bunge planting bases and selling acer truncatum seed oil in the PRC. Acer truncatum bunge plants are a species of maple tree.

The Company's proprietary product, Huoliyuan capsule, is a China Food and Drug Administration ("CFDA") approved prescription TCM that has a wide range of therapeutic benefits. It is the only TCM of its kind made in slow-release capsule form for improved absorption rate and therapeutic effects.

Since July 2015, the Company has also produced acer truncatum bunge seed oil and sold the product to customers through an Internet direct sales system operated by the Company pursuant to an agreement with Shandong Yongchuntang.  Currently, the acer truncatum bunge seed oil is extracted from acer truncatum pods that are purchased from third party vendors. The Company's self-grown acer truncatum pods will not be ready to be used for production until approximately the fall of 2018. The Company currently has a 5,880 mu (approximately 2,324.77 acres) acer truncatum bunge plantation base coupled with modern production facilities. We believe it is the only company in China able to achieve industrial-scale production and vertically integrated capability for acer truncatum bunge seed oil products.

On March 18, 2017, the Company entered into an Acquisition Agreement on Acer Truncatum Industrial Project (the "Agreement") with Shandong Yongchuntang.  Pursuant to the Agreement, the Company agreed to transfer a 3% equity interest in Shandong Spring Pharmaceutical in exchange for tangible and intangible assets related to the Acer Truncatum Industrial Project (the "Project"), which were owned by Shandong Yongchuntang. As a result of this transaction, Shandong Yongchuntang has become a 3% shareholder of Shandong Spring Pharmaceutical.

Results of Operations

 

The following table sets forth information from our statements of comprehensive income (loss) for the three months ended June 30, 2018 and 2017, in dollars:

Revenue

 

During the three months ended June 30, 2018, we realized $20,888,847 in revenue, representing an increase of 21.9% or $3,753,982 as compared to $17,134,865 for the same period in 2017.  The increase in revenue in RMB was 13.5% as compared to the three months ended June 30, 2017. The other 8.4% of the increase in dollar denominated revenue was attributable to the RMB appreciation during the three months ended June 30, 2018 compared with the same period in 2017. The total 13.5% revenue increase in RMB was due to the increased sales of acer truncatum bunge seed oil and Huoliyuan Capsule, offset by decreased sales of health care products.

Part of our revenues was generated by us as the distributor for the health care products manufactured by Shandong Yongchuntang. We purchase the products from Shandong Yongchuntang, a related party, according to the purchase contract signed between the Company and Shandong Yongchuntang. Pursuant to the renewed one-year contract dated February 20, 2017, the Company agreed to purchase nine products from Shandong Yongchuntang at fixed prices. On February 21, 2018, the Company further renewed the purchase contract with Shandong Yongchuntang for a term of one year ending on February 25, 2019.  Pursuant to this most recently renewed one-year contract, the Company continues to purchase the nine products from Shandong Yongchuntang at fixed prices without changes in any terms of the previous contract. During the three months ended June 30, 2018, 38.4% of our total revenue was generated as the distributor of Shandong Yongchuntang, compared to 45.8% during the three months ended June 30, 2017.  For the three months ended June 30, 2018, our revenue from sales of the health care products was $8,010,598, representing an increase of 2.1% or $165,597 as compared to $7,845,001 for the same period in 2017.  The revenue from sales of health care products measured in RMB was decreased by 5.0% but was offset by 7.1% increase due to more USD converted from RMB because a significant RMB appreciation occurred during the three months ended June 30, 2018 compared with the same period in 2017. The decrease in sales of the health care products in RMB was primarily due to decrease in sales of several more traditional health care products.

The sales of Huoliyuan Capsule accounted for 36.5% of our revenue during the three months ended June 30, 2018, compared to 37.3% during the three months ended June 30, 2017. The sales of the Huoliyuan Capsule during the three months ended June 30, 2018 were $7,630,290, an increase of 19.3% or $1,235,248 as compared to the three months ended June 30, 2017. The revenue from sales of Huoliyuan Capsule denominated in RMB increased by 11.1%. The other 8.2% of the increase in dollar denominated revenue was attributable to the RMB appreciation during the three months ended June 30, 2018 compared with the same period in 2017. The increase in sales of Huoliyuan Capsule in RMB was primarily due to the stabilization of the market competition.

Since July 2015, we have produced acer truncatum bunge seed oil and sold the product to customers through our distributors.  The acer truncatum bunge seed oil was extracted from the acer truncatum pods that were purchased from third party vendors.  Our self-grown acer truncatum pods will not be ready to be used for production until approximately the fall of 2018. During the three months ended June 30, 2018, 25.1% of our total revenue was generated from the sales of acer truncatum oil products, compared to 16.9% during the same period in 2017. During the three months ended June 30, 2018, the sales of acer truncatum bunge seed oil was $5,247,959, representing an increase of 81.3% or $2,353,137 compared to $2,894,822 for the same period in 2017. The revenue from sales of acer truncatum seed oil products denominated in RMB increased by 68.7%. The other 12.6% of the increase in dollar denominated revenue was attributable to the RMB appreciation during the three months ended June 30, 2018 compared with the same period in 2017. The increase in sales of acer truncatum seed oil products in RMB was primarily due to the continuing promotion of our acer truncatum bunge seed oil by organizing conferences to introduce the features and benefits of the product to our distributors and customers.

The following is the sales breakdown by products during the three months ended June 30, 2018 and 2017:

 

Cost of Goods Sold

 

Our costs of goods sold comprised primarily the cost of finished goods that we purchased from Shandong Yongchuntang, the raw materials we purchased from third party vendors, and the manufacturing costs of acer truncatum bunge seed oil and Huoliyuan capsule.  The cost of manufacturing Huoliyuan Capsule was approximately 45.4% and 42.2% of the total cost of goods sold during the three months ended June 30, 2018 and 2017, respectively. The cost of manufacturing acer truncatum bunge seed oil was approximately 17.3% and 15.6% of the total cost of goods sold during the three months ended June 30, 2018 and 2017, respectively.

 

During the three months ended June 30, 2018, our cost of goods sold totaled $11,964,700, representing an increase of $1,677,552 or 16.3% as compared to $10,287,148 during the three months ended June 30, 2017. There was an 8.3% increase in cost in RMB. The other 8.0% of the increase in dollar denominated cost was attributable to the RMB appreciation during the three months ended June 30, 2018 compared with the same period in 2017. The percentages of the costs of goods sold to total revenues decreased from 60.0% for the three months ended June 30, 2017 to 57.3% for the three months ended June 30, 2018. The decrease in the percentages of the costs of goods sold to total revenues was primarily due to the decreased raw material, packaging and manufacturing cost for acer truncatum bunge seed oil products.  

Gross Profit

Gross profit for the three months ended June 30, 2018 was $8,924,147, an increase of 30.3% or $2,076,430 as compared to the same period for the prior year. The overall gross profit as a percentage of net revenues was approximately 42.7% for the three months ended June 30, 2018, a slight increase from 40.0% for the same period of 2017. The gross profit as percentage of net revenues for the health care products was approximately 44.4% for the three months ended June 30, 2018, a slight decrease from 44.7% for the same period of 2017.  The gross profit as percentage of net revenues for Huoliyuan was approximately 28.7% for the three months ended June 30, 2018, decreased from 32.1% for the same period of 2017. The gross profit as percentage of net revenues for acer truncatum bunge seed oil was approximately 60.5% for the three months ended June 30, 2018, increased from 44.5% for the same period of 2017. The lower gross profit as percentage of net revenue for Huoliyuan during the three months ended June 30, 2018 was primarily due to the increased raw material and manufacturing costs. The higher gross profit as percentage of net revenue for the acer truncatum bunge seed oil during the three months ended June 30, 2018 was primarily due to the decreased raw material, packaging and manufacturing cost.

The comparison of the gross profits for the three months ended June 30, 2018 and 2017 as follows:

 

Research and Development Expenses

 

Our R&D expenses for the three months ended June 30, 2018 were $322,733 or approximate 1.5% of total corresponding revenue, an increase of $258,355 or 401.3%, as compared to $64,378 or approximately 0.4% of total corresponding revenue for the three months ended June 30, 2017. The increase in R&D expenses was primarily due to the increased cost of the materials used by the R&D department.

 

Our long-term goal is to utilize advanced biological technology to refine and extract the beneficial compounds in plants that have traditionally been known to have medicinal benefits, primarily gingko and acer trunkatum bunge plants. As of June 30, 2018, we had 27 staff in R&D department.

 

Operating expenses

Our selling expenses consist primarily of sales commissions, advertising and promotion expenses, freight charges and related compensation. Our selling expenses for the three months ended June 30, 2018 were $1,391,603 or 6.7% of our total revenue for the period, representing slight decrease on the percentage of total revenue from 7.2% for the prior year's quarter ended June 30, 2017. Our selling expenses for the three months ended June 30, 2018 increased by 12.6% or $155,311 as compared to the same period in the prior year. There was a 4.8% increase in selling expenses in RMB.  The other 7.8% of the increase in dollar denominated amount was attributable to the RMB appreciation during the three months ended June 30, 2018 compared with the same period in 2017. The increase in selling expenses was primarily due to the increase in shipping cost and sales commission as a result of increased sales, and salary expense.

Our G&A expenses for the three months ended June 30, 2018 were $1,081,049 or 5.2% of our total revenue for the period, representing a slight decrease on the percentage of total revenue from 5.3% for the prior year's quarter ended June 30, 2017.  Our G&A expenses for the three months ended June 30, 2018 increased by 19.0% or $172,644 as compared to the same period in the prior year.  There was a 10.8% increase in G&A expenses in RMB. The other 8.2% of the increase in dollar denominated amount was attributable to the RMB appreciation during the three months ended June 30, 2018, compared with the same period in 2017. The increase in G&A expenses was primarily due to the increase in depreciation and consulting expenses.

Net Income

As a result of above, during the three months ended June 30, 2018, we realized net income of $4,626,626, representing a 17.8% or $698,998 increase, compared to $3,927,628 during the three months ended June 30, 2017. The increase was mainly due to the higher revenue from sales of acer truncatum bunge seed oil and Huoliyuan Capsule and the lower production cost for acer truncatum bunge seed oil.

Income Taxes

Income tax expense increased by $233,000 during the three months ended June 30, 2018, as compared to the prior quarter ended June 30, 2017, as a result of the increase in income from operation.

Comprehensive Income (Loss)

Our business operates entirely in Chinese RMB, but we report our results in our SEC filings in U.S. Dollars. The conversion of our accounts from RMB to Dollars results in translation adjustments, which are reported as a middle step between net income and comprehensive income. The net income is added to the retained earnings on our balance sheet while the translation adjustment is added to a line item on our balance sheet labeled "Accumulated other comprehensive income (loss)," since it is more reflective of changes in the relative values of U.S. and Chinese currencies than of the success of our business. During the three months ended June 30, 2018, the effect of converting our financial results to Dollars was a loss of $5,537,362 to our other comprehensive income, as compared to income of $1,655,501 during the three months ended June 30, 2017 as a result of the currency exchange rate fluctuation.

 

Noncontrolling interest

Since March 18, 2017, Shandong Yongchuntang has become a 3% shareholder of Shandong Spring.  During the three months ended June 30, 2018, $27,322 of comprehensive loss was attributable to Shandong Yongchuntang.
               

Liquidity and Capital Resources

Our principal sources of liquidity were generated from our operations. As of June 30, 2018, we had $31,776,537 in working capital, an increase of $3,693,599 or 13.2% as compared to $28,082,938 in working capital as of March 31, 2018. The increase in working capital primarily resulted from our increased cash inflow from higher net income and the decreased balances in purchase deposits to related party and increased balance in tax payable offset by increased cash outflow, resulting from increased balance in accounts receivable, inventory and decreased balance in accounts payable and advance from customers as of June 30, 2018.

Based on our current operating plan, we believe that existing cash and cash equivalents balances, and the funds to be generated by operations will be sufficient to meet our working capital and capital requirements for our current operations for at least the next 12 months. Our operations produced positive cash flow of $4,164,039 during the three months ended June 30, 2018. We had accounts receivable of $364,809 outstanding as of June 30, 2018. We expect our marketing activities to continue to help generate positive cash flow.  The development of our own acer truncatum bunge planting bases and expanded manufacturing of acer truncatum bunge seed oil products have put some pressure on our cash flow. We may be required to seek additional capital and reduce certain spending as needed on an ongoing basis. There can be no assurance that any additional financing will be available on acceptable terms.

In order to fully implement our business plan, however, we will require capital contributions far in excess of our current asset value. Our budget for bringing our manufacturing facility to an operating level that assures profitability is $5 million. Our expectation, therefore, is that we will seek to access the capital markets in both the U.S. and China to obtain the funds we need. At present we have no commitment from any source for additional funds and there can be no assurance that the funds will be available on terms acceptable to us.

 

The following table sets forth a summary of our cash flows for the periods indicated:

Operating Activities

 

Net cash provided by operating activities was $4,164,039 for the three months ended June 30, 2018, which was a decrease of 25.0% or $1,390,207 from the $5,554,246 net cash provided by operating activities for the same period of the prior year. The decrease primarily resulted from increased cash outflow from the increased balance in accounts receivable and inventory and decreased balance in advance from customers and accounts payable offset by increased cash inflow, resulting from higher net income and decreased balance in purchase deposit to related party and increased balance in tax payable.

Investing Activities

 

During the three months ended June 30, 2018, our net cash used in investing activities was $255,151, as compared to $1,210,838 of net cash used for the three months ended June 30, 2017. The cash used in investing activities for the three months ended June 30, 2018 of $255,151 was primarily attributable to the acquisition of property, plant and equipment of $70,793, and capital expenditures of $184,358 in acer truncatum bunge planting. The cash used in investing activities for the three months ended June 30, 2017 of $1,210,838 was primarily attributable to the acquisition of property, plant and equipment of $2,080,416, and capital expenditures of $1,215,128 in acer truncatum bunge planting, and offsetting by cash receipt of $2,084,706 from disposal of acer truncatum bunge plants. The decrease in net cash used by investing activities was primarily due to the lower capital expenditures in acquisition of property, plant and equipment and acer truncatum planting during the three months ended June 30, 2018 compared with the same period in 2017.

Financing Activities

 

No net cash was generated or used by financing activities over the three months ended June 30, 2018 and 2017.

 

The term "internal control over financial reporting" (defined in SEC Rule 13a-15(f)) refers to the process of a company that is designed 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. The Company's management, with the participation of the Chief Executive Officer and Chief Financial Officer, has evaluated any changes in the Company's internal control over financial reporting that occurred during the quarter ended June 30, 2018, and they have concluded that there was no change to the Company's internal control over financial reporting that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting.