Attached files

file filename
EX-32.2 - CERTIFICATION - XT Energy Group, Inc.f10k2018ex32-2_xiangtian.htm
EX-32.1 - CERTIFICATION - XT Energy Group, Inc.f10k2018ex32-1_xiangtian.htm
EX-31.2 - CERTIFICATION - XT Energy Group, Inc.f10k2018ex31-2_xiangtian.htm
EX-31.1 - CERTIFICATION - XT Energy Group, Inc.f10k2018ex31-1_xiangtian.htm
EX-21.1 - LIST OF SUBSIDIARIES - XT Energy Group, Inc.f10k2018ex21-1_xiangtian.htm
EX-10.37 - EMPLOYMENT AGREEMENT, DATED AS OF OCTOBER 26, BY AND BETWEEN XIANGTIAN (USA) AIR - XT Energy Group, Inc.f10k2018ex10-37_xiangtian.htm
EX-10.36 - ENGLISH TRANSLATION OF AMENDMENT TO EQUITY TRANSFER AGREEMENT, DATED AS OF AUGUS - XT Energy Group, Inc.f10k2018ex10-36_xiangtian.htm
EX-10.35 - ENGLISH TRANSLATION OF EQUITY TRANSFER AGREEMENT, DATED AS OF JUNE 21, 2018, BY - XT Energy Group, Inc.f10k2018ex10-35_xiangtian.htm
EX-10.12 - ENGLISH TRANSLATION OF SHARE TRANSFER AGREEMENT, DATED AS OF SEPTEMBER 30, 2018 - XT Energy Group, Inc.f10k2018ex10-12_xiangtian.htm
EX-10.11 - ENGLISH TRANSLATION OF SHARE TRANSFER AGREEMENT, DATED AS OF SEPTEMBER 30, 2018, - XT Energy Group, Inc.f10k2018ex10-11_xiangtian.htm
EX-10.10 - ENGLISH TRANSLATION OF TERMINATION AGREEMENT, DATED AS OF [ ], 2018, BY AND AMON - XT Energy Group, Inc.f10k2018ex10-10_xiangtian.htm
EX-10.9 - SPOUSAL CONSENT, DATED AS OF SEPTEMBER 30, 2018, BY XU YAN - XT Energy Group, Inc.f10k2018ex10-9_xiangtian.htm
EX-10.8 - SPOUSAL CONSENT, DATED AS OF SEPTEMBER 30, 2018, BY YU XIANBIN - XT Energy Group, Inc.f10k2018ex10-8_xiangtian.htm
EX-10.7 - ENGLISH TRANSLATION OF POWER OF ATTORNEY, DATED AS OF SEPTEMBER 30, 2018, BY ZHO - XT Energy Group, Inc.f10k2018ex10-7_xiangtian.htm
EX-10.6 - ENGLISH TRANSLATION OF POWER OF ATTORNEY, DATED AS OF SEPTEMBER 30, 2018, BY ZHO - XT Energy Group, Inc.f10k2018ex10-6_xiangtian.htm
EX-10.5 - ENGLISH TRANSLATION OF EQUITY PLEDGE AGREEMENT, DATED AS OF SEPTEMBER 30, 2018, - XT Energy Group, Inc.f10k2018ex10-5_xiangtian.htm
EX-10.4 - ENGLISH TRANSLATION OF AGREEMENT ON KNOW-HOW SUB-LICENSE, DATED AS OF SEPTEMBER - XT Energy Group, Inc.f10k2018ex10-4_xiangtian.htm
EX-10.3 - ENGLISH TRANSLATION OF EXCLUSIVE OPTION AGREEMENT, DATED AS OF SEPTEMBER 30, 201 - XT Energy Group, Inc.f10k2018ex10-3_xiangtian.htm
EX-10.2 - ENGLISH TRANSLATION OF AGREEMENT OF EXCLUSIVE MANAGEMENT, CONSULTING AND TRAININ - XT Energy Group, Inc.f10k2018ex10-2_xiangtian.htm
EX-10.1 - ENGLISH TRANSLATION OF FRAMEWORK AGREEMENT ON BUSINESS COOPERATION, DATED AS OF - XT Energy Group, Inc.f10k2018ex10-1_xiangtian.htm

 

 

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

 

FORM 10-K

 

(Mark One)

☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the fiscal year ended July 31, 2018

 

or

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

Commission File Number 000-54520

 

XIANGTIAN (USA) AIR POWER CO., LTD.
(Exact name of registrant as specified in its charter)

 

Nevada   98-0632932

(State or Other Jurisdiction of

Incorporation or Organization)

 

(I.R.S. Employer

Identification No.)

 

No.1, Fuqiao Village, Henggouqiao Town    
Xianning, Hubei, China   437012
(Address of Principal Executive Offices)   (Zip Code)

 

+1 (929) 228-9298

(Registrant’s telephone number, including area code)

 

Securities registered pursuant to Section 12(b) of the Act: None

 

Securities registered under Section 12(g) of the Exchange Act:

 

Common Stock, Par Value $0.001 Per Share

(Title of Class)

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  ☐    No  ☒

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Exchange Act.    Yes  ☐     No  ☒

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act 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  ☒    No   ☐

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files).    Yes  ☒    No  ☐

 

Indicate by check mark if disclosure of delinquent filers in response to Item 405 of Regulation S-K (§ 229.405) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  ☐

 

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 definitions of a “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check One)

 

Large accelerated filer Accelerated filer
Non-accelerated filer Smaller reporting company
    Emerging growth company

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.  ☐

 

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

 

The aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was last sold on the OTC markets on January 31, 2018, the last business day of the registrant’s most recently completed second fiscal quarter, was $651,721,687 based on 167,108,125 shares of common stock at the price of $3.9.

 

As of October 26, 2018, the registrant had 591,042,000 shares of common stock, par value $0.001 per share, outstanding.

 

DOCUMENTS INCORPORATED BY REFERENCE

None.

 

 

 

 

 

Xiangtian (USA) Air Power Co., Ltd.

 

FORM 10-K

 

For the Year Ended July 31, 2018

 

TABLE OF CONTENTS

 

Special Note Regarding Forward-Looking Statements ii
   
Use of Defined Terms iii
   
PART I 1
ITEM 1. Business 1
ITEM 1A. Risk Factors 24
ITEM 1B. Unresolved Staff Comments 35
ITEM 2. Properties 36
ITEM 3. Legal Proceedings 36
ITEM 4. Mine Safety Disclosures 36
     
PART II 37
ITEM 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities 37
ITEM 6. Selected Financial Data 38
ITEM 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 40
ITEM 7A. Quantitative and Qualitative Disclosures About Market Risk 49
ITEM 8. Financial Statements F-1
ITEM 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 50
ITEM 9A. Controls and Procedures 50
ITEM 9B. Other Information 52
     
PART III 53
ITEM 10. Directors, Executive Officers and Corporate Governance 53
ITEM 11. Executive Compensation 57
ITEM 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 61
ITEM 13. Certain Relationships and Related Transactions, and Director Independence 61
ITEM 14. Principal Accounting Fees and Services 63
     
PART IV 64
ITEM 15. Exhibits, Financial Statement Schedules 64
ITEM 16.  Form 10–K Summary 67
     
SIGNATURES 68

 

i

 

 

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

 

This annual report contains forward-looking statements that relate to future events or our future financial performance. Some discussions in this report may contain forward-looking statements that involve risk and uncertainty.

 

A number of important factors could cause our actual results to differ materially from those expressed in any forward-looking statements made in this report. Forward-looking statements are often identified by words like: “believe,” “expect,” “estimate,” “anticipate,” “intend,” “project” and similar expressions or words which, by their nature, refer to future events.

 

In some cases, you can also identify forward-looking statements by terminology such as “may,” “will,” “should,” “plans,” “predicts,” “potential” or “continue” or the negative of these terms or other comparable terminology. These statements are only predictions and involve known and unknown risks, uncertainties and other factors, including the risks in the section entitled “Risk Factors” beginning on page 24, that may cause our or our industry’s actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by these forward-looking statements.

 

Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity or achievements. Except as required by applicable law, including the securities laws of the United States, we do not intend to update any of the forward-looking statements to conform these statements to actual results.

 

The cautions outlined made in this statement and elsewhere in this document should not be construed as complete or exhaustive. In many cases, we cannot predict factors which could cause results to differ materially from those indicated by the forward-looking statements. Additionally, many items or factors that could cause actual results to differ materially from forward-looking statements are beyond our ability to control. We will not undertake an obligation to further update or change any forward-looking statement, whether as a result of new information, future developments, or otherwise.

 

ii

 

 

USE OF DEFINED TERMS

 

Except as otherwise indicated by the context, references in this annual report to:

 

  “Company,” “we,” “us” or “our” are references to the combined business of Xiangtian (USA) Air Power Co., Ltd. and its direct and indirect subsidiaries, variable interest entity and its subsidiaries.
     
  “fiscal year” refers to our fiscal year ending July 31.
     
  “U.S. Dollar,” “$” and “US$” means the legal currency of the United States of America.
     
  “RMB” means Renminbi, the legal currency of China.
     
  “Common Stock” refers to shares of the Company’s common stock, par value $0.001 per share.
     
  “China” or the “PRC” are references to the People’s Republic of China.

  

iii

 

 

PART I

 

ITEM 1. Business

 

Overview

 

We are a holding company incorporated in Nevada. We are engaged in a variety of energy-related businesses through our subsidiaries and controlled entities in China.

 

Xianning Xiangtian Energy Holding Group Co., Ltd. (“Xianning Xiangtian”), our variable interest entity, and its wholly owned subsidiary, Sanhe Xiangtian Electrical Engineering Limited Company (“Sanhe Xiangtian”), are primarily engaged in the sales of air compression equipment and heat pumps as well as the installation of compressed air energy storage power generation systems utilizing our proprietary compressed air energy storage power generation technology.

 

Xiangtian Zhongdian (Hubei) New Energy Co. Ltd. (“Xiangtian Zhongdian”), a majority owned subsidiary of Xianning Xiangtian, is in the business of manufacture and sales of photovoltaic solar (“PV”) panels utilizing our proprietary technology to enhance the power production capabilities of the PV panels.

 

Jingshan Sanhe Xiangtian New Energy Technology Co. Ltd. (“Jingshan Sanhe”), a wholly owned subsidiary of Xianning Xiangtian, mainly produces and sells high-grade synthetic fuels. Tianjin Jiabaili Petroleum Products Co., Ltd. (“Tianjin Jiabaili”), a newly acquired subsidiary of Xianning Xiangtian, is expected to produce synthetic fuels in the first quarter of 2019.

 

Hubei Jinli Hydraulic Co., Ltd. (“Hubei Jinli”), another newly acquired subsidiary of Xianning Xiangtian, is engaged in the manufacture and sale of hydraulic parts and electronic components.

 

Our products are manufactured and sold in China primarily and we are also exploring foreign markets. We benefit from the Chinese government’s incentives for the production of green energy. We operate in a number of facilities in Tianjin city, Hubei and Hebei provinces and have a distribution network of third-party distributors and sales agencies in China.

 

Our Business History and Background

 

We were originally incorporated as Goa Sweet Tours Ltd. in the State of Delaware on September 2, 2008 to provide personalized concierge tour packages to tourists who visit the State of Goa, India. On April 17, 2012, we entered into certain share purchase agreements, with Luck Sky International Investment Holdings Limited, an entity owned and controlled by Zhou Deng Rong, and certain of our former stockholders who owned, in the aggregate, 7,200,000 shares of our Common Stock (90% of the then outstanding shares). Luck Sky International Investment Holdings Limited purchased such shares for an aggregate consideration of $235,000. The sale of such shares closed on May 15, 2012. Since the day of the closing, Zhou Deng Rong had served as our Chief Executive Officer until July 29, 2014, when he was succeeded by Zhiqi Zhang.

 

On May 29, 2012, we changed our name to “Xiangtian (USA) Air Power Co., Ltd.” through our merger with and into a wholly owned subsidiary.

 

On June 26, 2013, Luck Sky Holdings Limited was incorporated as a wholly owned subsidiary of the Company under the laws of British Virgin Islands. It has no operations and has been struck off the register of companies.

 

Pursuant to an agreement and plan of merger, dated as of September 15, 2013, we acquired 100% of the shares of common stock of Lucksky (Hong Kong) Shares Limited, a Hong Kong corporation in exchange for the issuance of shares of our common stock. The acquisition of Lucksky (Hong Kong) Shares Limited was closed on September 20, 2013.

 

On May 30, 2014, the Company purchased 100% of the issued and outstanding shares of common stock of Luck Sky (Hong Kong) Aerodynamic Electricity Limited (“Xiangtian HK”) from its sole shareholder, Zhou Jian, who is also our Chairman of the Board of Director, for 10,000 Hong Kong dollars (approximately US$1,290) in cash. Xiangtian HK had a direct, wholly-owned subsidiary, Luck Sky (Shen Zhen) Aerodynamic Electricity Limited, a corporation registered under the laws of the People’s Republic of China (“Xiangtian Shenzhen”). As a result of the acquisition, Xiangtian HK became our wholly-owned subsidiary and Xiangtian Shenzhen became our indirect subsidiary.

 

1

 

 

On July 25, 2014, we, through Xiangtian Shenzhen, entered into a series of agreements known as variable interest agreements (“VIE Agreements”), pursuant to which we gained control over Sanhe Xiangtian Electrical Engineering Limited Company, a PRC limited liability company established in July 2013 (“Sanhe Xiangtian”).

 

In May 2016, Sanhe Xiangtian established a wholly-owned subsidiary, Xianning Xiangtian, formerly known as Xianning Sanhe Power Equipment Manufacturing Co., in Xianning in Hubei Province, to manufacture and sale of air compression equipment, heat pumps and related products.

 

Effective October 31, 2016, we reincorporated in Nevada as a result of our merger with and into our wholly-owned subsidiary, Xiangtian (USA) Air Power Co., Ltd., a Nevada corporation.

 

In March 2018, Xianning Xiangtian formed Xiangtian Zhongdian, a joint venture in China, with Nanjing Zhongdian Photovoltaic Co. Ltd. 70% equity interest of Xiangtian Zhongdian is held by Xianning Xiangtian. Xiangtian Zhongdian is in the business of manufacturing and sales of PV panels.

 

In April 2018, Xianning Xiangtian formed a wholly owned subsidiary, Jingshan Sanhe, which is engaged in the business of researching, manufacturing and sales of high-grade synthetic products.

 

In June 2018, Xianning Xiangtian acquired 100% equity interest of Tianjin Jiabaili for RMB 6.8 million (US$1.1 million) pursuant to a certain equity transfer agreement dated June 21, 2018, as amended on August 21, 2018.

 

In June 2018, Xianning Xiangtian acquired 100% of the capital stock of Hubei Jinli, a company engaged in the business of manufacturing and sales of hydraulic parts and electronic components in China. See “—Hubei Jinli Acquisition.”

 

On August 9, 2018, Xianning Xiangtian formed a wholly owned subsidiary, Xianning Xiangtian Trade Co., Ltd (“Xiangtian Trade”), to engage in the purchase and sale of chemical raw materials for purpose of providing a staple supply of raw materials for our synthetic fuel operations.

 

Variable Interest Entity Agreements

 

On July 25, 2014, Sanhe Xiangtian and Xiangtian Shenzhen and Sanhe Xiangtian’s shareholders entered into certain VIE Agreements pursuant to which Sanhe Xiangtian became Xiangtian Shenzhen’s contractually controlled affiliate. The VIE Agreements provided Xiangtian Shenzhen with all of the management, control and net profits of Sanhe Xiangtian even though Xiangtian Shenzhen did not actually own any of the equity interest in Sanhe Xiangtian, the purpose and effect of the VIE Agreements is to instill in Xiangtian Shenzhen, the Company’s indirect wholly-owned subsidiary, total management and voting control of Sanhe Xiangtian for all material purposes. The use of VIE agreements is a common structure used to acquire PRC corporations, particularly in certain industries in which foreign investment is restricted or forbidden by the PRC government.

 

On September 30, 2018, we terminated the VIE Agreements as part of our restructuring to facilitate the shift of business focus between entities controlled by the Company. In connection with the termination of the VIE Agreements, Sanhe Xiangtian transferred its 100% equity interest of Xianning Xiangtian to the Sanhe Xiangtian Shareholders and the Sanhe Xiangtian Shareholders transferred their 100% equity interest of Sanhe Xiangtian to Xianning Xiangtian. As a result of the foregoing equity transfers, Sanhe Xiangtian became a wholly owned subsidiary of Xianning Xiangtian.

 

2

 

 

On September 30, 2018, the Company, through Xiangtian Shenzhen and Xiangtian HK, entered into a new series of variable interest entity agreements (“New VIE Agreements”), pursuant to which Xianning Xiangtian became the Company’s new contractually controlled affiliate. The New VIE Agreements allow us to:

 

  exercise effective control over Xianning Xiangtian;

 

  receive substantially all of the economic benefits of Xianning Xiangtian; and

 

  have an exclusive option to purchase all or part of the equity interests in Xianning Xiangtian when and to the extent permitted by the PRC laws.

 

As a result of these contractual arrangements, we have become the primary beneficiary of Xianning Xiangtian, and we treat Xianning Xiangtian as our variable interest entity under U.S. GAAP. We will consolidate the financial results of Xianning Xiangtian in our consolidated financial statements in accordance with U.S. GAAP.  The above reorganization has no effect to the Company’s consolidated financial statements for the current period and thereafter.

 

The following is a summary of the New VIE Agreements:

 

Framework Agreement on Business Cooperation 

 

Pursuant to the Framework Agreement on Business Cooperation between Xiangtian Shenzhen and Xianning Xiangtian, the parties agree to enter into a series of agreements, including Agreement of Exclusive Management, Consulting and Training and Technical Service, Know-How Sub-License Agreement, Equity Pledge Agreement, Exclusive Option Agreement and Power of Attorney. Specifically, Xiangtian Shenzhen will dispatch an operative team to Xianning Xiangtian to assist with Xianning Xiangtian with its planning and managing and regular business operations. The parties agree to share the cooperation profits as set forth in the New VIE Agreements. The term of cooperation is 10 years and may be unilaterally extended by Xiangtian Shenzhen.

 

Agreement of Exclusive Management, Consulting and Training and Technical Service 

 

Pursuant to the Agreement of Exclusive Management, Consulting and Training and Technical Service between Xiangtian Shenzhen and Xianning Xiangtian, Xianning Xiangtian engages Xiangtian Shenzhen to provide consulting, training, management services and technical support exclusively for a term of 10 years, which may be unilaterally extended by Xiangtian Shenzhen. Xianning Xiangtian agrees to pay Xiangtian Shenzhen a service fee equal to one hundred percent (100%) of Xianning Xiangtian’s net income determined pursuant to the generally accepted accounting principles, payable quarterly.

 

Exclusive Option Agreement 

 

Pursuant to the Exclusive Option Agreement among Xiangtian Shenzhen, Xiangtian HK, Xianning Xiangtian and the shareholders holding an aggregate of 100% of Xianning Xiangtian’s equity interest (“Xianning Xiangtian Shareholders”), the Xianning Xiangtian Shareholders irrevocably grant Xiangtian Shenzhen and Xiangtian HK an exclusive option to purchase from them, at its discretion, to the extent permitted under the PRC law, all or part of their equity interest in Xianning Xiangtian, and the purchase price will be the lowest price permitted by applicable PRC laws. The timing, method and times of exercise of this option to purchase is within Xiangtian Shenzhen and Xiangtian HK’s sole discretion. In addition, each of the Xianning Xiangtian Shareholders agrees to waive their respective preemptive right when the other shareholder transfers the equity interest of Xianning Xiangtian to Xiangtian Shenzhen or its designated party. The Xianning Xiangtian Shareholders further agree, among other things, without prior written consent of Xiangtian Shenzhen and Xiangtian HK, not to transfer, sell or pledge their equity interest of Xianning Xiangtian. Without the prior written consent of Xiangtian Shenzhen and Xiangtian HK, Xianning Xiangtian may not amend its articles of association, change the amount and structure of its registered capital or sell any of its assets or beneficial interest.

 

3

 

 

Equity Pledge Agreement  

 

Pursuant to the Equity Pledge Agreement among Xiangtian Shenzhen, Xianning Xiangtian and the Xianning Xiangtian Shareholders, the Xianning Xiangtian Shareholders pledge all of their respective equity interest in Xianning Xiangtian to Xiangtian Shenzhen to guarantee the performance of Xianning Xiangtian’s obligations under the New VIE Agreements, other than this Equity Pledge Agreement. Xiangtian Shenzhen will be deemed to have created the encumbrance of first order in priority on the pledged equity interest. In the event of any breach of the VIE Agreements, other than this Equity Pledge Agreement, or failure to satisfy the guaranteed obligations, Xiangtian Shenzhen will have the right to dispose the pledge equity interest. The Xianning Xiangtian Shareholders may receive dividends or share profits only with prior consent from Xiangtian Shenzhen, and such dividends and profits will be deposited into a bank account designated by and under supervision of Xiangtian Shenzhen and to be used for repayment of any liability due to any breach of the VIE Agreements by Xianning Xiangtian or the Xianning Xiangtian Shareholders. The agreement will remain effective until the termination of the VIE Agreements, other than this Equity Pledge Agreement.

 

Know-How Sub-License Agreement 

 

Pursuant to the Know-How Sub-License Agreement between Xiangtian Shenzhen and Xianning Xiangtian, Xiangtian Shenzhen agrees to grant an exclusive and non-transferable sublicense to use the patents, patent applications and all related trade secrets and technology and improvements on photovoltaic installation and the air energy storage power generation technology but without the sublease right in the territory of China, exclusive of Hong Kong Special Administrative Region, Macao Special Administrative Region and Taiwan Region for the purpose of the agreement. Xianning Xiangtian agrees to pay Xiangtian Shenzhen a quarterly royalty fee equal to five percent (5%) of Xianning Xiangtian’s gross revenue of each quarter. The shareholders of Xianning Xiangtian shall pledge all of their equity interest of Xianning Xiangtian as collateral for the royalty fee payable under this agreement. The agreement will remain effective throughout the entire duration of the operation of Xianning Xiangtian, unless terminated by Xiangtian Shenzhen with a 30-day prior written notice. 

 

Power of Attorney 

 

Pursuant to the Powers of Attorney executed by the Xianning Xiangtian Shareholders, each of the shareholders irrevocably appoints Xiangtian Shenzhen as his attorney-in-fact to exercise any and all rights as a shareholder of Xianning Xiangtian, including, but not limited to, the right to attend shareholders’ meetings, to execute shareholders’ resolutions, to sell, assign, transfer or pledge any or all of his equity interest of Xianning Xiangtian, to vote as a shareholder for all matters, as well as full power to execute equity transfer agreement as referenced in the Exclusive Option Agreement and to perform under the Exclusive Option Agreement and Equity Pledge Agreement without limitation. Xiangtian Shenzhen is also authorized to transfer, allocate or use any cash dividends and non-cash income in accordance with the respective shareholder’s instructions and to exercise all the necessary rights associated with the equity interest at Xiangtian Shenzhen’s sole discretion and without the consent of the Xianning Xiangtian Shareholders. The Powers of Attorney will remain effective as long as the Xianning Xiangtian Shareholders remain the shareholders of Xianning Xiangtian.

 

Spousal Consent Letters 

 

Pursuant to the Spousal Consent Letters, each of the spouses of the Xianning Xiang Shareholders unconditionally and irrevocably agrees to the execution of the Equity Pledge Agreement, Exclusive Option Agreement and Power of Attorney entered by her spouse and the disposal of equity interest of Xianning Xiangtian held by her spouse. Each of the spouses also agree that she will not assert any rights over the equity interest in Xianning Xiangtian held by and registered in the name of her respective spouse. The Xianning Xiangtian Shareholders’ actions to perform, amend or termination the above-mentioned agreements do not need their spouses’ authorization or consent. In addition, in the event that any of the spouses obtains any equity interest in Xianning Xiangtian held by her respective spouse for any reason, such spouse agrees to enter into similar contractual arrangements.

 

Because of the common control among us, Xiangtian Shenzhen and Xianning Xiangtian, for accounting purposes, the execution of the New VIE Agreements has been treated as a combination between entities under common control with no adjustment to the historical basis of their assets and liabilities.

 

Hubei Jinli Acquisition

 

Hubei Jinli is a company engaged in the business of (1) manufacturing and sales of hydraulic parts; (2) processing and sales of non-ferrous metal; (3) sales of electronic components; and (4) information technology consulting services regarding hydraulic parts. The Company intends to (1) upgrade Hubei Jinli’s present equipment and machinery to increase efficiency and otherwise improve its production capacities and (2) start a new production line to manufacture a new hydraulic hybrid system that will facilitate the production of vehicles that combine electrical and hydraulic technologies.

 

4

 

 

On June 21, 2018, Xianning Xiangtian entered into a share purchase agreement, as amended (“Share Purchase Agreement”) with Sheng Zhou and Heping Zhang (collectively, the “Sellers”) to acquire 100% of the capital stock of Hubei Jinli. Pursuant to the Share Purchase Agreement, the aggregate consideration for the acquisition is RMB 150 million (approximately US$23.18 million), consisting of the following: (a) RMB 40 million (approximately US$5.8 million) in cash (the “One-Time Cash Portion”); and (b) cash payments in the aggregate amount of RMB 80.07 million in three installments (the first installment of RMB 25 million (approximately US$3.6 million) payable before June 20, 2019, the second installment of RMB 25 million (approximately US$3.95 million) payable before June 20, 2020, and the last installment of RMB 30.07 million (approximately US$4.4 million) payable before June 20, 2021); and (c) an assumption by Xianning Xiangtian of Hubei Jinli’s existing bank loan from Hubei Xianning Rural Commercial Bank in the principal amount of RMB 29.93 million (approximately US$4.63 million). Should Hubei Jinli’s annual net profit (the “Net Profit”) exceed RMB 10 million (approximately US$1.55 million) during the one-year period from June 21, 2018 to June 20, 2019, Xianning Xiangtian will pay the Sellers 20% of the Net Profit and if the Net Profit reaches RMB 5 million (approximately US$772,654), but less than RMB 10 million (approximately US$1.55 million), Xianning Xiangtian will pay the Sellers 10% of the Net Profit. The acquisition consummated on June 30, 2018.  

 

Tianjin Jiabaili Acquisition

 

Tianjin Jiabaili was formed on April 10, 2007 and owns one patent on ether fuel, its preparation method in China and has obtained all the permits to produce ether fuel. On June 21, 2018, Xianning Xiangtian entered into a share purchase agreement with Wenhe Han and Guifen Wang, as amended, to acquire 100% equity interest of Tianjin Jiabaili for RMB 6.8 million (US$1 million). Pursuant to the agreement, as the lead engineer and key personnel, Wenhe Han is entitled to 10% of annual net profits of Tianjin Jiabaili without any time limitation. On June 30, 2018, the parties consummated the acquisition.

 

Our Corporate Structure

 

All of our business operations are conducted through our subsidiaries, controlled affiliate and its subsidiaries. The chart below presents our corporate structure as of the date of this report:

 

 

Industry Background

 

According to the National Energy Administration, consumption of electricity in China has grown from 5.92 trillion kilowatt-hour (“kWh”) in 2016 to 6.31 trillion kWh in 2017, with consumption in 2017 representing a 6.6 percent increase over 2016. According to China Renewable Energy Outlook 2017 published by China National Renewable energy Centre, in 2016, China’s installed wind and solar PV power generating capacity reached 149 million kWh and 77.42 million kWh, respectively, with their annual energy output accounting for 4.0% and 1.1%, respectively, of the country’s total energy output.

 

China has started the transformation from a coal-based energy system with high environment costs to a low-carbon and environment-friendly energy system. The heavy reliance on coal is cut and replaced with non-fossil energy sources. According to China Renewable Energy Outlook 2017, non-fossil energy will take up 63% of the energy supply in 2050 in China. In the power sector, renewable energy has a share of 26% of electricity production in 2016, and non-fossil fuel accounted for 29.5%. Coal was used for 67% of the power generation with natural gas covering the remaining 3% of the generation. The total primary energy consumption in China was about 4,360 metric ton of coal equivalent in 2016, 65% of which came from coal, 21% from oil and 6% from natural gas. Among all the energy consumed in 2016 in China, 8% was non-fossil energy and 11% was renewable energy.

 

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We are a pioneer in the field of compressed air energy storage in China. The only competitor in China that we are aware of is a pilot project established in Wuhu city in November 2014 by the Chinese Academy of Science, an academic and research institute.

 

We are producing electricity generation systems that combine our compressed air storage technology with PV panels to achieve a continuous supply of power, especially under weather conditions that are unfavorable to the generation of electricity from PV panels alone. We chose to initially utilize PV panels to produce the raw power because China has abundant solar energy resources. Many areas of China have long durations of sunshine; and China has vast vacant spaces that are available for the installation of solar energy systems.

 

The installation of PV systems is developing quickly in China as is the installed PV capacity. China had only one gigawatt (“GW”) of PV installations in 2010. In 2017, the cumulative installed PV capacity reached 130.25 GW compared to 77.42 GW in 2016. According to China’s 13th Five-Year Plan (published in 2015), the Chinese government desires to add 65 GW of PV during the 2016 – 2020 period.

 

The Chinese solar market has grown rapidly, driven by a favorable policy environment intended to meet a greater portion of the country’s growing energy needs from cleaner sources, while also driving demand for domestic solar panel manufacturers. In July 2013, the State Council of China published the Opinion on Promoting the Healthy Development of PV Industry (the “Opinion”) which initiated establishment of the PV systems ON the national level. In addition to setting targets for the increase in installed PV systems, grid-connection, power acquisition, subsidy, and land policies were further detailed in the Opinion. The Opinion standardized the tax benefit and feed-in tariff for the PV industry on a national level and it also set the target of promoting distributed PV (“DPV”) system. The feed in tariffs for large-scale ground mounted power plants are between RMB 0.9 (US$0.14) and RMB 1 (US$0.16) per kWh of energy generated, based on the radiation levels at the location of the plant. Distribution projects get a payment of between RMB 0.62 (US$0.10) to RMB 0.78 yuan (US$0.12) per kWh. These subsidies will be valid for the next 20 years and will benefit project developers such as ourselves, since the subsidies protect the rate of return on PV projects. In October 2013, China adopted a tax benefit policy which allows a refund of 50% value-added tax for selling the solar photovoltaic power products. China also provides other incentives, including free grid connectivity for small and medium-scale distributed PV solar power producers.

 

The promotion of the DPV module is encouraging the manufacture and installation of PV in China. The government started to promote the distributed PV model in the proposal of the Opinion in 2012. The DPV systems are smaller PV system installed on the rooftop of building. This system generally can provide the sufficient energy for the building where it is located. On the national level, the national government allows the DPV system to be connected to the State Grid. In this case, the DPV owner can either use the electricity or sell the electricity to the State Grid with feed-in tariff.

 

The solar panel industry in China is competitive, with around 20 to 30 companies providing installation services and 50 manufacturers. In 2018, 8 of the 10 largest PV panel manufacturers in the world were located in China. However, we believe that we are the only company to offer an electrical generation system that combines compressed air energy storage power generation technology.

 

Since 2016, China’s air-source heat pump industry has grown significantly. According to the 2017 China’s Air-Source Heat Pump Industry Development Report by hp.hvacrhome.com, a heat pump industry information website, the market sales of air-source heat pump products in 2017 exceeded RMB 160 billion (US$23.5 billion), and the annual growth rate of the industry is 61.0%. The air-source heat pump heating equipment particularly is experiencing growth from the “coal to electricity” project initiated by the Chinese government in northern rural provinces. The air-source heat pump water heater had market sales of RMB 100 billion (US$14.7 billion) for 1.281 million units, which accounted for an 11.9% of market share of the air-source heat pump water heater sales volume, but only 2.3% by number of units sold.

 

The global methanol market is expected grow at a significant rate during the forecast period, driven mainly by the increasing use of methanol (in the form of fuel and antifreeze agent) in the automotive industry. The methanol industry has experienced an explosive growth, primarily in China and the United States. Methanol is used directly as an affordable transportation fuel for automobile engines due to its efficient combustion, ease of distribution, and easy availability. It can be blended with gasoline to generate a fuel that is efficient and can boost octane number with lower emissions when compared to conventional gasoline. Methanol gasoline blends have widespread use in China and have been introduced in several countries outside of China as well. Asia-Pacific is the leading and fastest growing market for methanol, in terms of value and volume, and this trend is expected to continue till 2023. China is the largest and fastest growing market in the region. The demand for methanol is highly dependent on the increasing production of feedstock and growth in methanol production in China. Furthermore, rapid research and development in the use of methanol as an alternative fuel for vehicles is also paving the way for the growth of its market in the region.

 

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Our Competitive Advantages

 

Green Energy Products

 

Our current strong market position and potential future growth of green energy products can be attributed to the following key factors and competitive strengths:

 

China has the largest and fastest growing market of methanol fuel in the world. The demand for methanol is highly dependent on the increasing production of feedstock and growth in methanol production in China. Furthermore, rapid research and development in the use of methanol as an alternative fuel for vehicles is also paving the way for the growth of its market in the region.

 

Our green energy products are used directly as an affordable transportation fuel for vehicles without change the engine’s design due to efficient combustion, ease of distribution, and easy availability. It can be blended with gasoline or diesel to generate a fuel that is efficient and can boost octane number with lower emissions when compared to conventional gasoline. Vehicles using our green energy products produce lower carbon dioxide emissions and the same or lower levels of hydrocarbon and oxides of nitrogen emissions.

 

We own a patent on ether fuel and its preparation method in China. In addition, we have filed our patent applications for our gasoline and diesel synthetic fuel products with the PRC National Intellectual Property Administration.

 

We have developed cooperative relationships with individuals affiliated with Chendu Institute of Petrochemical Technology to assist us on researching and developing our synthetic fuel products to meet the market demand.

 

Hydraulic Parts and Electronic Components

 

We have built long-term relationships with our customers and established good reputation among the industry.

 

Air Compression Technology

 

We believe that we possess the following competitive advantages that allow us to maintain our strong market position with respect to our air compression technology:

 

Environmental Protection: We believe that if alternative energy sources cannot be fully utilized, including instances when the electricity they produce cannot be economically stored or the source is unstable, then some productive capacity will be wasted. We utilize compressed air energy storage equipment in conjunction with the power generation system of alternative energy sources to produce electricity, which is a novel approach and provides customers with an advanced power generation capability with no carbon or toxic emissions. When power generated by the alternate energy sources, such as solar energy or wind energy, becomes unstable or fluctuates, the compressed air power generation system can start functioning and ensure a stable power supply and better utilize the productive capacity of the alternate energy source. Our compressed air energy storage power generation technology provides a new and unique method for alternative energy source power generation.

 

Flexibility: Our compressed air technology can be used with any other power sources. We can use solar energy, wind energy, geothermal energy, tidal energy, water energy and all the available natural energy as a raw power in conjunction with our compressed air energy storage technology. The collected mechanical energy from the raw power source is converted into compressed air and is then converted and released into direct current power. Through our ultra-wide voltage and high-performance power inverter, we produce an output of stable power in compliance with the Chinese national interconnection standards. In addition, our high-grade synthetic fuel products can be mixed into gasoline or diesel reducing exhaust emissions of carbon monoxide—a regulated pollutant lined to smog, acid rain, global warming and other environmental problems.

 

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Enhancement of Use of PV Panels and other Energy Sources: The use of the compressed air energy storage technology helps overcome structural limitations of the use of PV panels and providing power to the State Grid. The use of PV panels is limited by the capacity of the State Grid, which limits the amount of energy that can be purchased from the PV industry and other sources of alternate energy that lack the capacity to efficiently store electricity but produce more power that can be used when generated. The expansion of the capacity of the PV industry could be constrained by the inability of the power grid to purchase the additional energy and the compressed air energy storage technology allows the energy to be stored until the electricity can be sold to the State Grid when PV panels are not producing electricity, such as when there is insufficient sunshine.

 

Patent Protection:  Sanhe Xiangtian obtained a Chinese patent in August 2014 for utility module regarding photovoltaic power generation system. In addition, the patents, patent applications and related know-how and trade secrets are subject to an exclusive license for worldwide use to Xiangtian Shenzhen, our indirect wholly-owned subsidiary.

 

Government Incentives: The development of alternative sources of energy to reduce the amount of pollution in China caused by burning fossil fuels, particularly the use of coal to generate electric power, is a priority of the Chinese government. The Chinese government offers tax and rebate incentives for the construction of PV production facilities and has become stricter regarding the construction of power plants that rely on coal.

 

Technical Advantage Compared to Conventional Battery Technologies: The use of conventional batteries to store excess electricity produced by solar power or other alternative energy sources is less attractive than the compressed air energy storage power generation technology. The most important disadvantages to standard batteries are that industrial batteries lose their capacity to store electricity over time, and also present environmental risks with respect to their production and disposal. Tank storage technology is estimated to have a 30 year lifespan and the steel can be recycled.

 

Technical Advantage Compared to Conventional Solar Panels and Inverter/Converters: Our patented technologies increase the efficiency of PV panels to generate direct current (“DC”) by enhancing their ability to operate at levels of lower sunlight and also increase the efficiency of the inverter/converter that converts the DC to alternating current (“AC”) by operating at a wider range of DC than conventional inverter/converters. One licensed patent applies to the array of the PV panels.

 

Technical Advantage Compared to Conventional Grid-Connected Photovoltaic Power Generation: We adopted smart micro-grid technology which increases the efficiency of the power generation of the PV systems and significantly reduced the project costs of power plants. The micro-grid technology also helps us improve the flexibility of PV systems, realize real zero emission of our power plant, improve reliability and help restore power more quickly when the macro-grid is down.

 

Reduced Electrical Costs: Customers who generate electricity using alternate energy systems that are intermittent or subject to periods of low production need to be linked to the State Grid to meet their power requirements. Our compressed air energy storage power generation system allows consumers to limit or eliminate their reliance on the State Grid by producing power during periods of peak pricing by the State Grid and storing the surplus energy produced by their alternate energy systems when prices charged by the State Grid are less expensive.

 

Scalability: The compressed air energy storage power generation system in conjunction with a PV panel installation is easily expanded thru the addition of additional solar panels, more storage tanks and/or bigger generators and engines.

 

Strong Design Ability: The extensive experience and specialty in prior large projects by our design and engineering team helps the Company design our heat pump products with more efficiency and stability.

 

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Our Growth Strategy

 

We believe demand for electricity and solar energy production will continue to grow domestically and globally, thus affording us opportunity to grow and expand our business operations.

 

We intend to pursue the following strategies:

 

  1) Sell systems to construct large-scale power plants that sell power to the State Grid or service zones that are off the grid and benefit from government subsidy policies;
     
  2) Sell power system to industrial consumers with large electricity demand, in excess of one megawatt, to establish their own power generation facilities to benefit from government subsidy polices and to reduce operating costs by being off the State Grid, reducing their purchase from the grid during peak periods or being able to store energy when the grid is not purchasing power;
     
  3) Sell systems to industrial and mining companies operating in remote locations which lack connections to the State Grid to create self-sufficient systems;
     
  4) Complete development of prototypes and commercialize smaller air compression power generation systems designed for stand-alone homes and smaller factories and commercial structures;
     
  5) Produce, sell and install PV products without air compression technology;
     
  6) Produce and sell PV panels;
     
  7) Produce and sell air transfer heat pumps;
     
  8) Research, develop, produce and sell high-grad synthetic fuel products; and
     
  9) Produce and sell hydraulic parts and electronic components.

 

Products

 

Air Compression Power Generation System

 

Our air compression power generation systems are combined with a PV installation that is custom-designed for industrial users such as factories and power plants. We also offer PV systems without the air compression generation technology based on certain technological innovations that we believe increase the efficiency of our PV systems compared to those of competitors.

 

The air compression power generation systems can be used with multiple forms of natural energy production, including solar, wind, biomass, geothermal and tidal and the selection of the appropriate natural source depends on their relative availability at the customer’s location. Although use of any of these natural energy sources is feasible, we have initially focused on linking our air compression technology to PV installations. The installation of the solar power systems generally requires the lowest investment and shortest building time, in part because the area for building the facility is flexible as solar installations can be used anywhere outdoors and not taking up customer’s room. Wind power is not stable as the turbines may be inoperable at low or high winds. Nuclear and hydropower facilities are only feasible for producing power for the State Grid and are not feasible for factories and homes.

 

1. Basic PV Installation. Conventional PV power generation technology is designed based upon the assumption that the minimum sun exposure would be 200W and the range of maximum power point tracking is from DC480v to DC580v. When sun exposure is reduced and voltage drops below the DC480v, the problem with the conventional system is that it stops working; and the residual power in the photovoltaic panels that are generated under the lower light exposure cannot be utilized. The Company’s new intelligent photovoltaic technology improves power generation and shortens investment recovery time. The PV system uses a variable PV array technology and wide voltage intelligent inverter device developed by the Company. Customers can produce an additional 15% - 30% electricity each year as the system can operate in lower light environments than conventional PV technology.

 

We sell the PV installation that includes the solar panels installation and solar energy generation converter equipment with proprietary technology without the air compression for customers who do not need to store energy. The conversion advantage provides a higher capacity that allows the solar array to be used more effectively.

 

2. Compressed Air Energy Storage Technology. The power consumption rate of PV systems interconnected into the State Grid varies greatly and the active energy cannot be fully consumed, which causes significant energy waste. Generally, systems interconnected to the State Grid consume only 70% of the produced power and enterprises not connected to the State Grid consume only 60% - 70% of the produced power, and the residual power is wasted. Utilizing our compressed air energy storage system with photovoltaic power generation system improves the efficiency of power generation and reduces the waste of residual power.

 

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Our air compression energy storage generation technology is also designed for customers whose alternative energy source provides intermittent or unstable power. The systems are sold in conjunction with a PV installation. A portion of the electricity produced by the PV panels is used to compress air into the cylinders, which effectively store the energy until it is released. The system includes compression equipment, storage tanks and a modified engine that is linked to a generator. The surplus power generated by the air compression technology may either be used by the customer in its operations or sold to the State Grid.

 

The following chart illustrates an air compression power generation system that is linked with a PV installation, although the compression system can be linked to other alternative energy sources, such as wind farms, biomass, tidal or geothermal.

 

 

Air Source Heat Pump System

 

In 2017 we developed an Air Source Heat Pump System (the “ASHP”), a system which transfers heat from outside to inside of a building, or vice versa. Under the principles of vapor compression refrigeration, an ASHP uses a refrigerant system involving a compressor and a condenser to absorb heat at one place and release it at another. The ASHP efficiently converts electrical energy into heat energy and can be used as a space heater or cooler. Our ASHP meets the national standard and technical requirements, and has obtained a series of certifications from the China Quality Certification Center and the Beijing East Allreach Certification Center Co. Ltd.

 

Sales of the ASHP commenced in September 2017 after receipt of the latest certification. We are selling the ASHP through third-party distributors and through employees for direct sales. We use a third party to manufacture the products.

 

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As the Chinese central government is emphasizing sustainable development, and enhancing environmental remediation, local governments are also seeking to replace the traditional coal-fired heating with clean energy heating. We believe that a large potential market exists for the ASHP.

 

PV Panels

 

We manufacture three models of PV panels in standard sizes at our factory in Xianning city, Hubei province, China.

 

Electricity Generation Process

 

  1. Energy collection – photovoltaic power generation.

 

Photovoltaic power generation is greatly affected by the amount of sunlight the PV system receives. The changes in the intensity of sunlight affect the power generation, which causes direct current to fluctuate. Therefore, actions to offset the fluctuation are essential. When fluctuation or disruption in photovoltaic power occurs, or during the night or when power in the storage system is exhausted, the power supply must be converted to a voltage transformer. However, based upon the current power supply equipment in power plants, energy cannot be instantly converted on a per megawatt basis. Therefore, frequent conversions are needed, which might obstruct system security and power production. Our design of the AC/DC non-contact converter rectifier can resolve this issue at a low cost. If DC power is below DC430v, DC offset is automatically incorporated into the electricity network and the transformer photovoltaic power will be shared with the power supply. The inverter won’t lose electricity and the entire system will not fluctuate or have the power shut off.

 

The system offers double power selection by utilizing a backup switch to ensure that the power supply does not stop. Should the generation of the solar power become unstable or intermittent, the system switches to operate using the air compression generation technology or, if available, to rely on the State Grid.

 

  2. Compression Storage System

 

A. Compressor – fills storage tanks with air.

 

B. Plasma Heater – heats air being stored into tanks to a temperature of 300 to 400 degrees Fahrenheit to increase the amount of stored energy.

 

C. Storage Tanks – stores compressed air. Our storage tanks are built with carbon steel to withstand higher pressures. Each one megawatt of generated electricity requires 2 tanks, each with an average capacity of 30 m3 of compressed air. The standard tank is 50 meters long and 1.5 meters in diameter. The energy capacity per tank is dependent on the temperature and pressure of the air and the capacity of the e cylinder. The quality of the storage tanks is based on International Organization for Standardization (“ISO”) standards.

 

D. Air Engine – We utilize our patented technology to modify diesel engines purchased from outside vendors to enable the engine to operate on compressed air. A pressure regulator within the air engine turns the generator on. Unlike a conventional combustion engine that explodes fossil fuel to create energy, the compressed air engine utilizes the heat and compression of the air to release energy.

 

E. Generator – Our proprietary generator utilizes patented and other proprietary technology was developed in 2012 for our air compression storage generation system. The device affords stability by maintaining a consistent supply despite changes in the air pressure that may cause inefficiency in the engine (for example, a piston misfiring). Our tests indicated that the generator is more efficient than the industry standard in maintaining a stable flow of voltage.

 

The air compression technology is used to produce electricity primarily at night or at other times when the electricity produced by the PV panels is intermittent or unstable. At such times, the compressed air is sent first from the storage tanks to the thermal heater, then to the engine. The engine then spins a flywheel attached to the generator.

 

We have achieved significant improvement through research and testing on the air compression power generation system. We developed enhanced air compression (liquid power) generation system based on the original models. The primary mechanism is to utilize the compressed air as a power source and the green biodegradable medium of oil as a power transmitter to support the engine running and generating power. The tested output comprehensive conversion efficiency reached 46%-65%. The research improved the conversion efficiency of our air power generation system, laying the foundation for mass industrialization and commercial marketization.

 

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In order to obtain government approval of the commercialization of our air compression energy storage products, we have submitted three enterprise standards, namely, air compression (liquid power) power generation system, air compression (liquid power) power generation unit and air compression radial engine. We are establishing an enterprise standard because these products have no ISO or other qualifying standard for the industry. The certification is therefore based on our design specifications.

 

We hope that future air power compressed products in this field will follow and adhere to our standards, which we anticipate will become the industrial standards and national standards. We expect that if we set the industry and national standards, our market competitiveness will be enhanced. The declaration we submitted for these three standards is being reviewed by the Provincial Industrial and Information Department of the Sanhe Technical Service Bureau.

 

Synthetic Fuel and Related Products

 

Fuel Additives

 

We develop, produce and sell fuel additives that are blended in gasoline to extend supplies and reduce emissions. Green Energy No.1 and Green Energy No. 2 are two fuel additives we developed are to be blended in gasoline and diesel, respectively, to generate a fuel that is efficient and can boost octane number with lower emissions. Their major component is methanol. The patents for these two products are pending in China. 4 production lines in Jingshan facility are designed for the manufacturing of Green Energy No. 1. The Company has not start to manufacture Green Energy No.2 since we are looking for a factory with certificates and legal document the government requires for manufacturing chemical products.

 

Engine Lubricant

 

Green Energy No. 3 is an engine lubricant to reduce friction and wear on moving parts and to clean the engine from sludge. Compared to the traditional chemical lubricant and nanoscale lubricant, Green Energy No. 3 contains rare metals and biodegradable elements, which creates a protection layer for the engine, maximizes the burning rate of the fuels and repairs the scratches from frictions.

 

Methanol Fuel

 

Green Energy No. 4 is an alternative fuel based on methanol. It can replace the existing coal, natural gas and compressed natural gas and provide its customers a more economical and safer alternative choice. We plan to produce Green Energy No. 4 in Tianjin Jiabaili in the upcoming fiscal year. This product is designed and aimed to target the rural market in China, mainly in the restaurant cooking application and other similar applications. The main raw material is methanol which is abundant in the market place. Green Energy No. 4 will be sold through our existing sales network of dealers and distributors throughout China.

 

Hydraulic Parts

 

Our hydraulic parts line of products mainly includes hydraulic cylinders, diesel pumps, motor oil pumps and hydraulic valves. We also design and manufacture hydraulic pump stations, cylinders and high-pressure valves of various specifications according to customer requirements. Operation lines are mainly consisted of various computer numeric control machines and other fabrication equipment.

 

The main raw materials for our hydraulic products include aluminum alloy, steel, natural rubber, silicone rubber, nitrile rubber and other materials which are readily available on the market.

 

Projects

 

We assist our clients to install air compression power generation systems combined with a PV installation that is custom-designed for industrial users such as factories and power plants. We also offer PV systems without the air compression generation technology.

 

As of the date of this report, we had a cumulative total of 17 projects, of which 16 are completed and 1 is in process.

 

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The table below summarizes our projects as of the date of this report:

 

No.   Project Location   Capacity   Contract Amount 
(including value-added tax)
  Time of 
Completion
  Revenue 
Recognized
  Cost 
Recognized
1  

Binzhou, Shandong

  8.5 MW  

$20,290,835

 

(RMB 126,000,000)

  June 2015  

$17,402,419

 

(RMB 107,692,308)

 

$14,954,205

 

(RMB 92,541,899)

2  

Xianning, Hubei

(Phase I)

  6 MW  

$10,628,553

 

(RMB 66,000,000)

  March 2016  

$8,705,527

 

(RMB 56,410,256)

 

$7,752,526

 

(RMB 50,234,981)

3  

Weihai, Shandong

  1 MW  

$1,288,307

 

(RMB 8,000,000)

  February 2015  

$1,104,915

 

(RMB 6,837,607)

 

$914,236

 

(RMB 5,657,615)

4  

Dezhou, Shandong

  2 MW  

$2,641,029

 

(RMB 16,400,000)

  July 2015  

$2,265,077

 

(RMB 14,017,094)

 

$1,863,028

 

(RMB 11,529,076)

5   Zhuji, Zhejiang   0.15 MW  

$206,129

 

(RMB 1,280,000)

  March 2016  

$168,834

 

(RMB 1,094,017)

 

$126,494

 

(RMB 819,658)

6   Fuzhou, Fujian   10 KW  

$14,493

 

(RMB 90,000)

  February 2016  

$11,871

 

(RMB 76,923)

 

$10,903

 

(RMB 70,649)

7   Sanhe, Hebei   12 KW  

$11,273

 

(RMB 70,000)

  April 2016  

$9,233

 

(RMB 59,829)

 

$7,256

 

(RMB 47,019)

8  

Jiamusi, Heilongjiang

  1 MW  

$1,280,680

 

(RMB 8,500,000)

  February 2017  

$234,489

 

(RMB 1,598,291)

 

$206,902

 

(RMB 1,410,256)

9   Xianning, Hubei   3 MW  

$3,390,035

 

(RMB 22,500,000)

  April 2017  

$2,821,396

 

(RMB 19,230,769)

 

$2,365,504

 

(RMB 16,123,384)

10   Xianning, Hubei   90 KW  

$104,700

 

(RMB 720,000)

  March 2017  

$90,285

 

(RMB 615,385)

 

$80,594

 

(RMB 549,335)

11   Xianning, Hubei   165 KW  

$145,138

 

(RMB 1,000,000)

  March 2017  

$125,395

 

(RMB 854,701)

 

$97,157

 

(RMB 662,225)

12  

Xianning, Hubei

(Phase II of

Project

No. 2)

  4 MW  

$4,520,046

 

(RMB 30,000,000)

  July 2017  

$3,761,862

 

(RMB 25,641,026)

 

$3,356,260

 

(RMB 22,876,421)

13   Sanhe Kelitai   75KW  

$83,044

 

(RMB 562,500)

  January 2018  

$39,341

 

(RMB 255,769)

 

$34,096

 

(RMB 221,667)

14   Sanhe Kelitai   93KW  

$100,229

 

(RMB 678,900)

  January 2018  

$16,924

 

(RMB 110,029)

 

$14,606

 

(RMB 94,956)

15   Dezhou Dongdi   1.879W  

$2,412,905

 

(RMB 15,687,000)

  July 2017  

$2,080,090

 

(RMB 13,523,276)

 

$1,737,581

 

(RMB 11,296,525)

16   Shuangyashan, Heilongjiang   300KW  

$313,783

 

(RMB 2,040,000)

  May 2018  

$270,503

 

(RMB 1,758,621)

 

$181,156

 

(RMB 1,177,747)

17   Jingyu, Jilin   93KW  

$3,848,230

 

(RMB 25,018,500)

 

In Process

 

$2,921,987

 

(RMB 18,996,696)

 

$2,642,492

 

(RMB 17,179,615)

 

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Marketing

 

We market our products through third-party distributors in 24 provinces in China and through employees for direct sales. The distributors sell our products and receive commissions based on the value of the contracts. We utilize three classes of distributors based on the size of their territory – province, city and town. The distributors target factories and power plants, as well as local governments which may encourage local industry to utilize alternate energy sources. Our marketing focus is on:

 

1) Large scale power plants that sell power to the State Grid or service zones that are off the grid and benefit from government subsidy policies.
   
2) Industrial concerns with large electricity demand, in excess of one megawatt, to establish their own power generation facilities to benefit from government subsidy policy to reduce operating costs by either being off the State Grid, reducing their purchased from the grid during peak periods or being able to store energy when the grid is not purchasing power.
   
3) Industrial and mining companies operating in remote locations which lack connections to the State Grid to create self-sufficient systems.
   
4) We intend to commence marketing a smaller air energy compression generation and PV system to smaller commercial structures and stand-alone homes using existing distribution networks.
   
5) We promote our green energy products through events marketing strategies. We started event marketing campaigns of green energy products since June 2018 and has held events in 18 provinces in China. Hubei Jinli has long-term relationship with customers and we do not have any marketing events.

 

Manufacturing

 

We produce and assemble our PV installations and air energy compression generation systems at our factory in Xianning city, Hubei province, China. We produce many components, including the brackets and supports for the PV panels, an ultra-wideband voltage power inverter and converter, parts to modify the engines to operate using air compression, low-speed aerodynamic generators, and isothermal air compressor and thermal heaters. Other parts, such as solar panels, power cords, engines, carbon fiber tanks and generators and compressors are purchased from third parties and used to assemble our systems.

 

Our factory in Xianning has a production facility of 7,500 square meters for our core-technology air compression equipment that can supply solar energy systems. We produce the engine generators, related components, and the PV panels. The factory has a total capacity of up to 7 megawatts each month, based on one eight-hour shift working six days per week. Capacity can readily be expanded by adding additional shifts or building up to three more production lines at our facility.

 

Xianning Xiangtian completed its advanced production line with an annual capacity of 200 megawatts of PV panels in September 2017. We engage one factory to assemble a series of our heat pump products under our name. All of our heat pump products have been certified by China Quality Certification Center.

 

Hubei Jinli has a production facility of 6,800 square meters for the manufacture of hydraulic parts and electronic components.

 

Our Tianjin Jiabaili production facility is licensed to produce methanol gasoline, methanol diesel and other fuel products. It is located in Jixian District of Tianjin City. As per our development plan, this facility will start the equipment installation by November 2018. Productions in this facility are expected to commence in 2019.

 

Jingshan Sanhe has four production lines on an 11,000-square-meters facility and capacities to complete manufacturing, labelling and packaging. It is the main facility for our Green Energy No. 1 products. In addition, this facility also serves the purposes of research and sales with an office space of 3,400 square meters.

 

Suppliers

 

We are not heavily dependent on any single supplier for any important product. We purchase our solar panels from six suppliers, engines from one supplier, and carbon fiber storage tanks from two suppliers. We believe that many suitable alternate producers of these products are available should we need an alternate supplier. We also purchase electrical components to the inverter/converters, generators, compressors and control panels that we manufacture and believe that alternate suppliers of such components are also readily available.

 

We purchase our heat pumps from a single manufacturer but believe that an alternative supplier could be used should the need arise.

 

We purchase the raw material for high-grade synthetic fuel products from three suppliers. We also incorporated Xiangtian Trade to buy chemical raw material that provide a stable supply for synthetic fuel product operation.

 

We purchase the raw materials for our hydraulic parts and electronic components from five suppliers.

 

Intellectual Property

 

Trademarks

 

We have registered in the PRC four trademarks which we use on our products sold in China.

 

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Patents 

 

Sanhe Xiangtian obtained a patent in August 2014 for utility module regarding photovoltaic power generation system. It was also granted a patent from the PRC National Intellectual Property Administration on biodiesel esterification heterogeneous catalyst and preparation method in 2018.

 

On July 25, 2014, Xiangtian Shenzhen, our Chinese subsidiary, obtained an exclusive, worldwide, royalty-free license from Zhou Deng Rong and Zhou Jian and a second exclusive, worldwide royalty free license from LuckSky Group to 48 Chinese patents and 13 patent applications and trade secrets, including the technology underlying the patent applications for power stations, commercial buildings and residences in China, but not for other uses, including wind towers, vehicles and trains (the “Technology”). The Technology represents all of licensors’ patents with respect to PV power generation installations, the air energy storage power generation technology and trade secrets. Effective as of July 31, 2015, Beijing XiangTian Huachuang Aerodynamic Force Technology Research Institute Company (“XiangTian Huachuang”) granted Xiangtian Shenzhen an exclusive worldwide license to four foreign patents related to air energy storage power generation technology. XiangTian Huachuang obtained three patents in Japan and one patent in Australia in March 2015. XiangTian Huachuang is owned 30% by Zhou Jian and 70% by Zhou Deng Rong.

 

Xiangtian Shenzhen granted an exclusive sub-license to the use and exploitation of the Technology in China to Sanhe Xiangtian in July 2014, which sub-license provides for a licensing fee of five percent of Sanhe Xiangtian’s revenues. On September 30, 2018, Xiangtian Shenzhen terminated the exclusive sub-license to the use and exploitation of the Technology in China to Sanhe Xiangtian and granted Xianning Xiangtian an exclusive and non-transferable sub-license to use and exploitation of the Technology but without the sublease right in the territory of China, exclusive of Hong Kong, Macao and Taiwan for the purpose of the agreement. Xianning Xiangtian agreed to pay Xiangtian Shenzhen a quarterly royalty fee equal to five percent (5%) of Xianning Xiangtian’s gross revenue of each quarter.

 

Tianjin Jiabaili also owns a patent on ether fuel, its preparation method in China. In addition, patent applications for our gasoline and diesel synthetic fuels have been filed with the PRC National Intellectual Property Administration.

 

Hubei Jinli is owner of 10 patents in the PRC on hydraulic related devices or components.

 

We take reasonable steps to protect our proprietary information and trade secrets, such as limiting disclosure of proprietary plans, methods and other similar information on a need-to-know basis and requiring employees with access to our proprietary technology to enter into confidentiality arrangements. We believe that our proprietary technology and trade secrets are adequately protected.

 

Research and Development

 

Our Technology was originally developed principally by Zhou Deng Rong. Sanhe Xiangtian obtained the legal right to use and develop the Technology through the Agreement on Know-How Sub-License executed on July 25, 2014 with Xiangtian Shenzhen, and Xiangtian Shenzhen was granted a license to use and sublease the Technology through licensing agreements with Zhou Deng Rong, Zhou Jian, and LuckSky Group, owners of the Technology. Sanhe Xiangtian’s right to use and develop the Technology was terminated on September 30, 2018. Xianning Xiangtian then obtained the legal right to use and develop the Technology through the Agreement on Know-How Sub-License executed on September 30, 2018 with Xiangtian Shenzhen.

 

As of July 31, 2018, and July 31, 2017, our research and development department had 1 and 5 employees, respectively. The Company is focusing on the development of its project installation team and sales promotion team.

 

We have established cooperative relationships with individuals affiliated with Chendu Institute of Petrochemical Technology to assist us on researching and developing our synthetic fuel products.

 

Warranty

 

We provide a five-year limited warranty on all models of compressed air energy generators produced by us, and on the parts, we manufacture, such as the inverter/converter and plasma heater. Components that we purchase from third party suppliers, such as the PV panels, storage tanks and the unmodified portions of the engines, are governed by the suppliers’ warranties.

 

We provide limited warranties on hydraulic parts and electronic components.

 

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Competition

 

The Company’s business operates in highly competitive markets and industries. These competitors and the degree of competition vary widely by product lines, end markets, geographic scope and/or geographic locations. Although each of the Company’s segments has numerous competitors, given the Company’s market and product breadth, no single competitor competes with the Company with respect to all products manufactured and sold by the Company.

 

We compete against larger, better capitalized and better known competitors that have become, or are becoming, vertically integrated in the PV industry value chain, from module manufacturing to PV system sales and installation, such as Yingli Green Energy, one of the largest vertically integrated PV module suppliers in the world. In 2017, 8 of the 10 largest PV panel manufacturers in the world were located in China. The ability of the vertically integrated competitors to produce modules and sometimes also be polysilicon manufacturers gives them a cost advantage with respect to the price of PV modules, which we purchase, and which could erode our competitive advantage resulting from our PV installation and air compression technologies. Furthermore, we face competition from conventional energy and non-solar renewable energy providers.

 

With respect to large integrated PV system projects, we compete primarily in terms of price, design and construction experience, aesthetics and conversion efficiency. We face competition from other providers of renewable energy solutions, including developers of PV, solar thermal and concentrated solar power systems, and developers of other forms of renewable energy projects, including wind, hydropower, geothermal, biomass, and tidal. We also face competition from other engineering and construction contractor (“EPC”) and joint venture type arrangements between EPC companies and solar companies. While the decline in PV modules prices over the last several years has increased demand in solar electricity worldwide, competition at the systems level can be intense, thereby exerting downward pressure on systems level profit margins industry-wide, to the extent competitors are willing and able to bid aggressively low prices for new projects and power purchase agreements (“PPAs”), using low cost assumptions for modules, components, installation, maintenance and other costs. We face intense competition in the PV system markets and our PV and compressed air energy generation systems compete with different solar energy systems as well as other renewable energy sources in the alternative energy market.

 

Stimulated by the policy promotion initiated by the Chinese government in 2017, the output value of air source heat pump heating (including household and commercial) reached RMB 9.04 billion (US $1.33 billion), accounting for 52.4% of the industry, and began to occupy the largest share according to 2018 industry report by China Energy Conservation Association. Midea, Gree, A.O. Smith, and Haier were the top four brands who sold the most air-source heat pumps as they are major household appliances brands in China. We expect more companies to enter the market which will increase competition.

 

Although air power technologies are being researched and developed in some countries, such as China, Italy, Germany, the United States, and France, air compression energy storage products in China have not been commercialized significantly. However, there are a few companies in China, such as Jontia Energy Investment Group, who are developing the relevant products.

 

The sale of our air compression products is also affected by the cost of producing electricity from PV panels operating alone and other sources. The purchase and installation of our air compression technology requires the customer to incur substantial up from costs and the relative inexpensive electricity produced from ample supplies of PV panels in China have inhibited demand for the air compression systems that supplement production of electricity by PV panels.

 

With respect to our synthetic fuel business and Green Energy products, we compete with large state-owned enterprises and well-established oil companies, which have offered a wider range of oil products and have greater name recognition. They may have greater customer loyalty bases and these competitors may be able to respond more quickly to new or changing opportunities. Our competitors have substantially greater resources, experience in product commercialization, and obtaining regulatory approvals for their products, operating experience, research and development, marketing capabilities, and manufacturing capabilities that we do. We will face competition from companies marketing existing products or developing new products in synthetic fuel industry. In addition, our competitors may be able to undertake more extensive promotional activities, and adopt more aggressive advertising campaigns than what we are able to provide to Green Energy products at the present. Further, the synthetic fuel industry also compete with other forms of energy available to customers, primarily based on price. These alternate forms of energy include electricity, coal, natural gas and bio-fuels.

 

Principal methods of competition in both hydraulic parts and electronic components are technology, innovation, price, geographic coverage, service and product performance. The Company participates in a number of highly competitive markets in this industry. The Company believes its hydraulic part and electronic component product have achieved unique positions in their markets; however, we encounter competition in varying degrees in all product groups and for each product line.

 

Environmental Matters

 

We have installed various types of anti-pollution equipment in our facilities to reduce, treat, and where feasible, recycle the wastes generated in our manufacturing process. We contain and treat waste water generated in our production process. The other major environmental contaminant we generate is gaseous waste. We treat such gas in our special facilities to reduce the contaminant level to below the applicable environmental protection standard before discharging the gas into the atmosphere. Our operations are subject to regulation and periodic monitoring by local environmental protection authorities. The Chinese national and local environmental laws and regulations impose fees for the discharge of waste substances above prescribed levels, impose fines for serious violations and provide that the Chinese national and local governments may at their own discretion close or suspend the operation of any facility that fails to comply with orders requiring it to cease or remedy operations causing environmental damage.

 

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In May 2014, as required by PRC law, we obtained the Environmental Assessment Report on Construction Projects for the manufacturing space that we lease from Dong Yi Glass Machine Company Limited, which is used as our second factory and offices. This report was issued by an independent qualified evaluation company with a conclusion that the operations conducted by Sanhe Xiangtian comply with relevant environmental laws in China, which would not cause detrimental environmental impacts. However, since our primary manufacturing and office space leased from LuckSky Group in Sanhe City has a zoning restriction that only permits agricultural use, we moved the manufacturing factory to Xianning, Hubei and the Sanhe Xiangtian facility will be used for product sales.

 

Facilities in Jingshan Sanhe and Tianjin Jiabaili have passed the governmental testing and safety production license and hazardous chemicals registration certificate have been obtained.

 

No penalties have been imposed on us, our subsidiaries or controlled entities, and we are in the process of obtaining necessary environmental permits for our production facilities. We are not aware of any pending or threatened environmental investigation proceeding or action by any governmental agency or third party.

 

Insurance

 

We maintain property and casualty insurance, product liability insurance and equipment and operation line insurance.

 

PRC Governmental Regulations

 

This section sets forth a summary of the most significant regulations or requirements that affect our business activities in China. Other regulations and requirements, such as those relating to foreign currency exchange, dividend distribution, regulation of foreign exchange in certain onshore and offshore transactions, and regulations of overseas listings, may affect our shareholders’ right to receive dividends and other distributions from us.

 

Renewable Energy Law and Other Government Directives

 

In February 2005, China enacted its Renewable Energy Law, which became effective on January 1, 2006 (the “2006 Renewable Energy Law”). The 2006 Renewable Energy Law sets forth the national policy to encourage and support the use of solar and other renewable energy and the use of on-grid generation. On December 26, 2009, the Standing Committee of the National People’s Congress adopted an amendment to the 2006 Renewable Energy Law (the “Amended Renewable Energy Law”), which became effective on April 1, 2010. While the 2006 Renewable Energy Law has laid the legal foundation for developing renewable energy in China, the Amended Renewable Energy Law has introduced practical implementing measures to enhance such development.

 

The Amended Renewable Energy Law details the principles, main content and key issues of the renewable energy development and utilization plans, further elaborates the requirements for grid companies to purchase the full amount of electricity generated from renewable energy by setting out the responsibilities and obligations of the government, the power companies and the grid companies, respectively, and also clarifies that the state will set up a special fund, referred to as the renewable energy development fund, to compensate the difference between the tariff for electricity generated from renewable energy and that generated from conventional energy sources. The proceeds of the renewable energy development fund may also be used to support renewable energy scientific research, finance rural clean energy projects, build independent power systems in remote areas and islands, and build information networks to exploit renewable energy. It is anticipated that China will publish more detailed implementing rules for the Amended Renewable Energy Law and make corresponding changes to those existing implementing rules relating to renewable energy.

 

China’s Ministry of Construction issued a directive in June of 2005, which seeks to expand the use of solar energy in residential and commercial buildings and encourages the increased application of solar energy in townships. In addition, China’s State Council promulgated a directive in June of 2005, which sets forth specific measures to conserve energy resources and encourage exploration, development and use of solar energy in China’s western areas, which are not fully connected to electricity transmission grids, and other rural areas. In July 2007, China’s State Electricity Regulatory Commission issued the Supervision Regulations on the Purchase of All Renewable Energy by Power Grid Enterprises which became effective on September 1, 2007. To promote the use of renewable energy for power generation, the regulations require that electricity grid enterprises must set up connections between the grids and renewable power generation systems and purchase all the electricity generated by renewable power generation systems in a timely manner. The regulations also provide that power dispatch institutions shall give priority to renewable power generation companies in respect of power dispatch services provision.

 

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On August 31, 2007, the National Development and Reform Commission of China (“NDRC”) implemented the National Medium and Long-Term Programs for Renewable Energy, which highlights the government’s long-term commitment to the development of renewable energy.

 

On April 1, 2008, the PRC Energy Conservation Law came into effect. Among other objectives, this law encourages the utilization and installation of solar power facilities in buildings for energy-efficiency purposes.

 

In July 2010, the Ministry of Housing and Urban-Rural Development issued the City Illumination Administration Provisions (the “Illumination Provisions”). The Illumination Provisions encourage the installation and use of renewable energy system such as PV systems in the process of construction and re- construction of city illumination projects.

 

On July 24, 2011, the NDRC issued the Notice on Improving the On-grid Tariff Policy for Photovoltaic Generation. Under this notice, it is required that a uniform national benchmark on-grid tariff for solar energy photovoltaic generation be formulated. Furthermore, for PV projects that had been approved before July 1, 2011 and would be completed by December 31, 2011, the feed-in tariff would be RMB1.15/kWh, including value-added tax (“VAT”). Except for PV projects that are constructed in Tibet, for PV projects that are approved after July 1, 2011 and PV projects that had been approved before July 1, 2011 but would not be completed by December 31, 2011, the feed-in tariff including VAT would be RMB1/kWh.

 

On March 14, 2012, the Ministry of Finance (“MOF”), the NDRC and the National Energy Administration (the “NEA”) jointly issued interim measures for the management of additional subsidies for renewable-energy power prices, according to which relevant renewable-energy power generation enterprises are entitled to apply for subsidies for their renewable power generation projects that satisfy relevant requirements set forth in the measures.

 

On January 1, 2013, the State Council adopted a Circular on the Twelfth Five-Year Plan for the Energy Development, which sets out key development objectives for the industry during the 12th Five-Year Plan. In accordance with this plan, to optimize the structure of energy consumption, the proportion of non- fossil energy consumption shall be increased to 11.4 percent of total energy consumption by 2015. On December 26, 2016, the Thirteenth Five-Year Plan for the Energy Development was issued and according to the new plan, the proportion of non- fossil energy consumption shall be increased to 15 percent of total energy consumption by 2020.

 

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On September 23, 2013, the MOF and the State Administration of Taxation jointly issued the notice that ordered a 50% refund of VAT on sales by PV manufacturers of their PV products. This VAT refund will be effective from October 1, 2013 through December 31, 2015. On July 25, 2016, the MOF and the State Administration of Taxation n issued Circular 81, Notice on the Implementation of the VAT Policy for Photovoltaic Power Generation from January 1, 2016 to December 31, 2018.

 

On November 26, 2013, the MOF announced Circular 103, which provides that the electricity generated by the distributed PV system for its own use is exempted from paying for governmental charges. On the same date, the NEA promulgated the “Interim Measures for the Administration of PV Power Generation,” which clarify that the state department in charge of energy and its local counterparts are responsible for the supervision of PV projects.

 

In February 2014, the Certification and Accreditation Administration of China and the NEA jointly issued the “Implementation Opinions on Strengthening the Testing and Certification of PV Products.” The implementation opinions provide that only certified PV products may be connected to the public grid or receive government subsidies. The institutions that certify PV products must be approved by the Certification and Accreditation Administration. According to the implementation opinions, PV products that are subject to certification include PV battery parts, inverters, control devices, confluence devices, energy storage devices and independent PV systems.

 

On April 2, 2015, the MOF issued the Interim Measures for the Administration of Special Funds for Renewable Energy Development, which is aimed to standardize and strengthen the management of special funds for renewable energy development, and improve the efficiency of capital use.

 

In 2016, the Chinese government enacted the “Helping the Poor” Project. The National Poverty Alleviation Office has set an objective for the provinces and cities to alleviate poverty in the next three years through government investment to construct household power stations for poor families and to subsidize electricity charges for poor families to alleviate poverty.

 

May 5, 2017, National Development and Reform Commission, National Energy Administration published Circular 870, New Energy Microgrid Demonstration Project List, and 28 new energy microgrid demonstration projects were approved. It might results the new PV installations brought by this batch of projects are 899MW, and the newly added electric energy storage capacity exceeds 150MW.

 

December 19, 2017, National Development and Reform Commission issued Circular 2196, Notice on the Price Policy of Photovoltaic Power Generation Projects in 2018, which regulated that, according to the current technological progress and cost reduction of the photovoltaic industry, the on-grid tariff of photovoltaic power plants put into operation after January 1, 2018 will be reduced. The on-grid tariffs of Class I, II and III resource zones will be adjusted to 0.55 yuan per kWh, 0.65 yuan, 0.75 yuan (including tax). Since 2019, the photovoltaic power generation projects that have been included in the annual scale management of financial subsidies have all executed the corresponding benchmark electricity prices according to the commissioning time.

 

January 1, 2018, Ministry of Industry and Information Technology issued the Circular 2, Photovoltaic Manufacturing Industry Specification Conditions, it sets the comprehensive regulation of the photovoltaic manufacturing industry. According to Circular 2, photovoltaic manufacturing enterprises shall meet the following conditions: shall be legally incorporated and established in the territory of the People’s Republic of China, with independent legal personality; have the independent production, supply and after-sales service capabilities of solar photovoltaic products; have independent research and development institutions, technical centers or high-tech enterprises above the provincial level. The annual cost for R&D and process improvement is not less than 3% of total sales and not less than RMB 10 million. When the declaration conforms to the list of specifications, the actual production in the previous year is not less than 50% of the actual capacity of the previous year. Besides, Photovoltaic manufacturing enterprises shall strictly follow the requirements of pollutant discharge permits and relevant technical specifications, and shall strictly implement the environmental impact assessment system. The exhaust gas and wastewater shall comply with national and local atmospheric and water pollutant discharge standards and total control requirements.

 

Environmental Regulations

 

We are subject to a variety of governmental regulations related to the storage, use and disposal of hazardous materials. The major environmental regulations applicable to us include the Environmental Protection Law of the PRC, the Law of the PRC on the Prevention and Control of Water Pollution and its implementation rules, the Law of the PRC on the Prevention and Control of Air Pollution and its implementation rules, the Law of PRC on the Prevention and Control of Solid Waste Pollution and the Law of the PRC on the Prevention and Control of Noise Pollution and the PRC Law on Appraising Environment Impacts.

 

In addition, under the Environmental Protection Law of the PRC, the Ministry of Environmental Protection sets national pollutant emission standards. However, provincial governments may set stricter local standards, which are required to be registered at the State Administration for Environmental Protection. Enterprises are required to comply with the stricter of the two standards.

 

The relevant laws and regulations generally impose discharge fees based on the level of emission of pollutants. These laws and regulations also impose fines for violations of laws, regulations or decrees and provide for possible closure by the central or local government of any enterprise which fails to comply with orders requiring it to rectify the activities causing environmental damage.

 

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Foreign Investment Regulations

 

Investment activities in the PRC by foreign investors are principally governed by the Guidance Catalog of Industries for Foreign Investment, or the Catalog, which was promulgated and is amended from time to time by the Ministry of Commerce and the National Development and Reform Commission. On June 28, 2018, Ministry of Commerce and the National Development and Reform Commission announced the amendment of the Catalog 2018.

 

Industries listed in the Catalogue are divided into three categories: encouraged, restricted and prohibited. Industries not listed in the Catalogue are generally deemed as constituting a fourth “permitted” category. Establishment of wholly foreign-owned enterprises is generally allowed in the encouraged and permitted industries. Some restricted industries are limited to equity or contractual joint ventures, while in some cases Chinese partners are required to hold the majority interests in such joint ventures. In addition, restricted category projects are subject to higher-level government approvals. Foreign investors are not allowed to invest in industries in the prohibited category. Industries not listed in the Catalogue are generally open to foreign investment unless specifically restricted by other PRC regulations.

 

On October 8, 2016, the Ministry of Commerce issued the Interim Measures for Record-filing Administration of the Establishment and Change of Foreign-invested Enterprises, or FIE Record-filing Interim Measures, which became effective on the same day and was further amended in July 2017. Pursuant to FIE Record-filing Interim Measures, the establishment and change of FIEs are subject to record filing procedures, instead of prior approval requirements, provided that the establishment or change does not involve special entry administration measures. If the establishment or change of FIE matters is subject to the special entry administration measures, the approval of the Ministry of Commerce or its local counterparts is still required. Pursuant to the Announcement (2016) No. 22 of the National Development and Reform Commission and the Ministry of Commerce issued on October 8, 2016, the special entry administration measures for foreign investment apply to restricted and prohibited categories specified in the Catalog and the encouraged categories which are subject to certain requirements relating to equity ownership and senior management.

 

Licenses and Permits Required for Our Business

 

Safety Production License, according to Regulation on Work Safety Permits (2014), the state applies a work safety licensing system to enterprises engaged in mining, construction, and the production of dangerous chemicals, fireworks and crackers, and civil explosives.

 

Undertake (Repair, Test) Power Facility Permit, according to Measures for the Administration of Installation (Repair, Trial) Power Facilities License (2009), anyone engaged in the installation, repair or testing of power facilities activities within the territory of the People’s Republic of China shall obtain a permit in accordance with the provisions of these Measures. Except as otherwise stipulated by the SERC, no unit or individual may engage in the installation, maintenance or testing of power facilities without obtaining a permit.

 

Secrecy Qualification, according to Management Measures of Secrecy Qualification Examination and Certification for Weapons and Equipment Research and Production Units (“Circular 8”) issued by National Defense Science and Technology Bureau of PRC, for units engaged in the research and production of classified weapons and equipment, a confidentiality qualification examination and certification system shall be implemented. Units engaged in the research and production of classified weapons and equipment should obtain the corresponding confidentiality qualifications.

 

Product Quality

 

Pursuant to the Product Quality Law of China promulgated by the National People’s Congress Standing Committee in 1993 and amended in 2000 and 2009 respectively, a seller must establish and practice a check-for-acceptance system for replenishment of such seller’s inventory, and examine the quality certificates and other marks and must also adopt measures to keep the products for sale in good quality. Pursuant to the Product Quality Law of China, where a defective product causes physical injury to a person or damage to such person’s property, the victim may claim for damages against the manufacturer or the seller of the product. If the seller pays the damages and it is the manufacturer that should bear the liability, the seller has a right of recourse against the manufacturer. Similarly, if the manufacturer pays damages and it is the seller that should bear the liability, the manufacturer has a right of recourse against the seller. Violations of the Product Quality Law of China could result in various penalties, including the imposition of fines, suspension of business operations, revocation of business licenses and criminal liabilities.

 

Tort Liability Law

 

Pursuant to the Tort Liability Law of China, which was promulgated by the National People’s Congress Standing Committee on December 30, 2009 and became effective on July 1, 2010, producers are liable for damages caused by defects in their products and sellers are liable for damages attributable to their fault. If the defects are caused by the fault of third parties such as the transporter or storekeeper, producers and sellers have the right to claim for compensation from these third parties after paying the damages. The producers and sellers are obligated to take remedial measures such as issuing warnings or recalling the products in a timely manner if defects are found in products that are in circulation. If the products are manufactured and sold with defects that cause death or severe personal injury to others, the injured person has the right to claim punitive damages.

 

Regulations Relating to Taxation

 

The PRC Enterprise Income Tax Law imposes a uniform enterprise income tax rate of 25% on all PRC resident enterprises, including foreign invested enterprises, unless they qualify for certain exceptions. The enterprise income tax is calculated based on the PRC resident enterprise’s global income as determined under PRC tax laws and accounting standards. If a non-resident enterprise sets up an organization or establishment in the PRC, it will be subject to enterprise income tax for the income derived from such organization or establishment in the PRC and for the income derived from outside the PRC but with an actual connection with such organization or establishment in the PRC.

 

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The PRC Enterprise Income Tax Law and its implementation rules permit certain “high and new technology enterprises strongly supported by the state” that independently own core intellectual property and meet statutory criteria, to enjoy a reduced 15% enterprise income tax rate. In January 2016, the SAT, the Ministry of Science and Technology and the Ministry of Finance jointly issued the Administrative Rules for the Certification of High and New Technology Enterprises specifying the criteria and procedures for the certification of High and New Technology Enterprises.

 

Pursuant to the PRC Provisional Regulations on Value-Added Tax and their implementation regulations, unless otherwise specified by relevant laws and regulations, any entity or individual engaged in the sale of goods, provision of processing, repairs and replacement services and importation of goods into China is generally required to pay a value-added tax, or VAT, at the rate of 17% on revenues generated from sales of goods, less any deductible VAT already paid or borne by such entity.

 

Pursuant to the PRC Enterprise Income Tax Law and its implementation rules, if a non-resident enterprise has not set up an organization or establishment in the PRC, or has set up an organization or establishment but the income derived has no actual connection with such organization or establishment, it will be subject to a withholding tax on its PRC-sourced income at a rate of 10%.

 

Pursuant to the Arrangement between the Mainland China and the Hong Kong Special Administrative Region for the Avoidance of Double Taxation and Tax Evasion on Income, the withholding tax rate in respect to the payment of dividends by a PRC enterprise to a Hong Kong enterprise is reduced to 5% from a standard rate of 10% if the Hong Kong enterprise directly holds at least 25% of the PRC enterprise.

 

Pursuant to the Notice of the SAT on the Issues concerning the Application of the Dividend Clauses of Tax Agreements, or Circular 81, a Hong Kong resident enterprise must meet the following conditions, among others, in order to enjoy the reduced withholding tax: (i) it must directly own the required percentage of equity interests and voting rights in the PRC resident enterprise; and (ii) it must have directly owned such percentage in the PRC resident enterprise throughout the 12 months prior to receiving the dividends. Furthermore, the Administrative Measures for Tax Convention Treatment for Non-resident Taxpayers, which became effective in November 2015 and replaced Administrative Measures for Non-Resident Enterprises to Enjoy Treatments under Tax Treaties (For Trial Implementation), provide that any non-resident enterprise meeting conditions for enjoying the convention treatment may be entitled to the convention treatment itself when filing a tax return or making a withholding declaration through a withholding agent, subject to the subsequent administration by the tax authorities.

 

Pursuant to the Law on the Administration of Tax Collection of the PRC which was enacted by the Standing Committee of the National People’s Congress on September 4, 1992 and most recently amended in April 2015, if a taxpayer fails to pay tax pursuant to applicable tax laws or regulations, the tax authorities may, subject to the specific circumstances in each case, impose penalties on such taxpayer, including without limitation, imposing surcharge or imposing a fine of not more than five times the amount of the underpaid tax.

 

Regulations Relating to Labor and Employment

 

Pursuant to the PRC Labor Law effective in 1995 and amended in 2009, and the PRC Labor Contract Law effective in 2008 and amended in 2012, a written labor contract is required when an employment relationship is established between an employer and an employee. Other labor-related regulations and rules of China stipulate the maximum number of working hours per day and per week as well as the minimum wages. An employer is required to set up occupational safety and sanitation systems, implement the national occupational safety and sanitation rules and standards, educate employees on occupational safety and sanitation, prevent accidents at work and reduce occupational hazards.

 

An employer is obligated to sign an indefinite term labor contract with an employee if the employer continues to employ the employee after two consecutive fixed-term labor contracts, with certain exceptions. The employer also has to pay compensation to the employee if the employer terminates an indefinite term labor contract, with certain exceptions. Except where the employer proposes to renew a labor contract by maintaining or raising the conditions of the labor contract and the employee is not agreeable to the renewal, an employer is required to compensate the employee when a definite term labor contract expires. Furthermore, under the Regulations on Paid Annual Leave for Employees issued by the State Council in December 2007and effective as of January 2008, an employee who has served an employer for more than one year and less than ten years is entitled to a 5-day paid vacation, those whose service period ranges from 10 to 20 years are entitled to a 10-day paid vacation, and those who have served for more than20 years are entitled to a 15-day paid vacation. An employee who does not use such vacation time at the request of the employer must be compensated at three times their normal salaries for each waived vacation day.

 

Pursuant to the Regulations on Occupational Injury Insurance effective in 2004, as amended in 2010, and the Interim Measures concerning the Maternity Insurance for Enterprise Employees effective in 1995, PRC companies must pay occupational injury insurance premiums and maternity insurance premiums for their employees.

 

Pursuant to the Interim Regulations on the Collection and Payment of Social Insurance Premiums effective in1999 and the Interim Measures concerning the Administration of the Registration of Social Insurance effective in 1999, basic pension insurance, medical insurance and unemployment insurance are collectively referred to as social insurance. Both PRC companies and their employees are required to contribute to the social insurance plans. The aforesaid measures are reiterated in the Social Insurance Law of China effective in July 2011, which stipulates the system of social insurance of China, including basic pension insurance, medical insurance, unemployment insurance, occupational injury insurance and maternity insurance. Pursuant to the Regulations on the Administration of Housing Fund effective in 1999, as amended in 2002, PRC companies must register with applicable housing fund management centers and establish a special housing fund account in an entrusted bank.

 

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Regulations on Foreign Exchange

 

The principal regulations governing foreign currency exchange in China are the Foreign Exchange Administration Regulations, most recently amended in August 2008. Under the PRC foreign exchange regulations, payments of current account items, such as profit distributions and trade and service-related foreign exchange transactions, can be made in foreign currencies without prior approval from State Administration of Foreign Exchange (“SAFE”) by complying with certain procedural requirements. By contrast, approval from or registration with appropriate government authorities is required where RMB is to be converted into foreign currency and remitted out of China to pay capital expenses such as the repayment of foreign currency-denominated loans. In November 2012, SAFE promulgated the Circular of Further Improving and Adjusting Foreign Exchange Administration Policies on Foreign Direct Investment which substantially amends and simplifies the current foreign exchange procedure. Pursuant to this circular, the SAFE improves foreign exchange administration in direct investment by repealing or adjusting certain approval items for foreign exchange administration in direct investment. On March 30, 2015, SAFE promulgated Circular on Reforming the Management Approach regarding the Settlement of Foreign Exchange Capital of Foreign-invested Enterprises, or SAFE Circular No. 19, which came into effect on June 1, 2015. According to SAFE Circular No. 19, the foreign currency capital contribution to a foreign invested enterprise, or an FIE, in its capital account may be converted into RMB on a discretional basis. Furthermore, on June 15, 2016, SAFE promulgated Circular on Reforming and Regulating Policies on the Control over Foreign Exchange Settlement of Capital Accounts, or SAFE Circular No. 16. SAFE Circular No 16 provides, in addition to foreign currency capital, enterprises registered in the PRC may also convert their foreign debts, as well as repatriated funds raised through overseas listing, from foreign currency to RMB on a discretional basis. SAFE Circular No. 16 also reiterates that the use of capital so converted shall follow “the principle of authenticity and self-use” within the business scope of the enterprise. According to SAFE Circular No. 16, the RMB funds so converted shall not be used for the purposes of, whether directly or indirectly, (i) paying expenditures beyond the business scope of the enterprises or prohibited by laws and regulations; (ii) making securities investment or other investments (except for banks’ principal-secured products); (iii) granting loans to nonaffiliated enterprises, except as expressly permitted in the business license; and (iv) purchasing non-self-used real estate (except for the foreign invested real estate enterprises).

 

SAFE Regulations on Offshore Special Purpose Companies Held by PRC Residents

 

SAFE Circular on Relevant Issues Relating to Domestic Resident’s Investment and Financing and Roundtrip Investment through Special Purpose Vehicles, or SAFE Circular No. 37, issued by SAFE and effective in July 2014, regulates foreign exchange matters in relation to the use of special purpose vehicles, or SPVs, by PRC residents or entities to seek offshore investment and financing and conduct round trip investment in China. Under SAFE Circular No. 37, a SPV refers to an offshore entity established or controlled, directly or indirectly, by PRC residents or entities for the purpose of seeking offshore financing or making offshore investment, using legitimate domestic or offshore assets or interests, while “round trip investment” refers to the direct investment in China by PRC residents or entities through SPVs, namely, establishing foreign-invested enterprises to obtain the ownership, control rights and management rights. SAFE Circular No. 37 requires that, before making contribution into an SPV, PRC residents or entities are required to complete foreign exchange registration with the SAFE or its local branch. SAFE Circular No. 37 further provides that option or share-based incentive tool holders of a non-listed SPV can exercise the options or share incentive tools to become a shareholder of such non-listed SPV, subject to registration with SAFE or its local branch. SAFE Circular No. 37 was issued to replace the Notice on Relevant Issues Concerning Foreign Exchange Administration for PRC Residents Engaging in Financing and Roundtrip Investments via Overseas Special Purpose Vehicles, or SAFE Circular No. 75. SAFE promulgated the Notice on Further Simplifying and Improving the Administration of the Foreign Exchange Concerning Direct Investment, or SAFE Circular No. 13, in February 2015, which took effect on June 1, 2015. SAFE Circular No. 13 has amended SAFE Circular No. 37 by requiring PRC residents or entities to register with qualified banks instead of SAFE or its local branch in connection with their establishment of an SPV. PRC residents who have contributed legitimate domestic or offshore interests or assets to SPVs but have yet to obtain SAFE registration before the implementation of SAFE Circular No. 37 shall register their ownership interests or control in such SPVs with SAFE or its local branch. An amendment to the registration is required if there is a material change involving the SPV registered, such as any change of basic information (including change of such PRC residents, change of name and operation term of the SPV), increases or decreases in investment amount, transfers or exchanges of shares, or mergers or divisions. failure to disclose controllers of foreign-invested enterprise that is established through round-trip investment, may result in restrictions on the foreign exchange activities of the relevant foreign-invested enterprises, including payment of dividends and other distributions, such as proceeds from any reduction in capital, share transfer or liquidation, to its offshore parent company or affiliates and the capital inflow from the offshore parent company, and may also subject the relevant PRC residents or entities to penalties under PRC foreign exchange administration regulations.

 

Regulations on Dividend Distribution

 

Wholly foreign-owned companies in China, such as our PRC subsidiary, may pay dividends only out of their accumulated profits after tax as determined in accordance with PRC accounting standards. Remittance of dividends by a wholly foreign-owned enterprise out of China is subject to examination by commercial banks. Wholly foreign-owned companies are not permitted to pay dividends unless they set aside at least 10% of their respective accumulated profits after-tax each year, if any, to fund certain reserve funds, until such time as the accumulative amount of such fund reaches 50% of their registered capital. In addition, these companies also may allocate a portion of their after-tax profits based on PRC accounting standards to other funds at their discretion. These statutory reserve funds and other funds are not distributable as cash dividends. Our PRC subsidiary is a wholly foreign-owned enterprise subject to the described regulations.

 

Regulations on Overseas Listings

 

On August 8, 2006, six PRC regulatory agencies, including the China Securities Regulatory Commission (“CSRC”), jointly promulgated the 2006 M&A Rules: Provisions on Merger and Acquisition of Domestic Enterprises by Foreign Investors, which became effective on September 8, 2006 and were amended on June 22, 2009. Under the 2006 M& A Rules, the prior approval of the CSRC is required for the overseas listing of offshore special purpose vehicles that are directly or indirectly controlled by PRC companies or individuals and used for the purpose of listing PRC onshore interests on an overseas stock exchange. Although the application of the 2006 M&A Rules remains unclear to a certain extent, we believe, based on the advice of our PRC counsel, Beijing Docvit Law Firm, that we are not required to obtain CSRC approval for the listing and trading of our ordinary shares on the Nasdaq Capital Market. However, there remains some uncertainty as to how this regulation could be interpreted or implemented in the context of an overseas offering.

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We cannot assure you that relevant PRC government agencies, including the CSRC, would reach the same conclusion as we do. If the CSRC or other PRC regulatory agency subsequently determines that we need to obtain the CSRC’s approval for this offering or if the CSRC or any other PRC government authorities promulgate any interpretation or implementing rules that would require the CSRC or other governmental approvals for this offering, we could face sanctions by the CSRC or other PRC regulatory agencies.

 

The 2006 M&A Rules also establish procedures and requirements that could make certain acquisitions of Chinese companies by foreign investors more time-consuming and complex, including requirements in some instances that the Ministry of Commerce be notified in advance of any change-of control transaction in which a foreign investor takes control of a Chinese domestic enterprise.

 

Regulations Relating to Intellectual Property Rights

 

The PRC has adopted comprehensive legislation governing intellectual property rights, including trademarks, patent and copyrights.

 

Patent. Patents in the PRC are principally protected under the Patent Law of the PRC. The duration of a patent right is either 10 years or 20 years from the date of its application, depending on the type of patent right.

 

Trademark. Registered trademarks are protected under the Trademark Law of the PRC and related rules and regulations. Trademarks are registered with the Trademark Office of the State Administration for Industry and Commerce. If a pending trademark that is identical or similar to a registered trademark or a trademark under preliminary examination and approval for use in the same or similar category of commodities or services, the application for such trademark could be rejected. Trademark registrations are effective for a renewable ten-year period, unless otherwise revoked.

 

Copyright. Copyright in the PRC, including copyrighted software, is principally protected under the Copyright Law of the PRC and related rules and regulations. Under the Copyright Law, the term of protection for copyrighted software is 50 years.

 

Regulations Relating to Property Lease

 

In December 2010, the Ministry of Housing and Urban-Rural Development issued the Administrative Measures for Leasing of Commodity Housing, effective on February 1, 2011. According to the Administrative Measures for Leasing of Commodity Housing, the landlords and tenants are required to enter into lease with specific provisions, including but not limited to, the floor space per tenant cannot be less than the minimum living space stipulated by the local government, no kitchens, lavatories, balconies or basement storerooms can be rented out as residence, and the lease should be registered with the relevant construction or housing governmental authorities at municipal or county level within 30 days after its execution. If the lease is extended or terminated or if there is any change to the registered items, the landlord and the tenant are required to make an amended registration, an extension of registration or a deregistration with the relevant construction or housing authorities within 30 days after the occurrence of such amendment, extension or termination.

 

Product Quality Certification

 

Our air energy storage power generation products require certification by the National Quality Supervision Department of China. As our air compression products are nonstandard, there is no ISO or other qualifying standard for the industry. The certification is therefore based on our design specifications. We have provided the government with our design specifications and begun discussions with the standard. We believe that there is no material risk that the government will not accept our product as the government is encouraging new technology in power generation.

 

Employees

 

As of October 26, 2018, we had approximately 293 full-time employees and 2 part-time employees. All our employees are based in China, except for our Chief Financial Officer, who is based in New York. We consider our employee relations to be good.

 

Seasonality

 

Our business is not seasonal, except to the extent that construction projects in northern China are more likely to be delayed by weather.

 

Website Access to our SEC Reports

 

You may obtain a copy of the following reports, free of charge through the SEC’s website at www.sec.gov as soon as reasonably practicable after electronically filing them with, or furnishing them to, the SEC: our previous Annual Reports on Form 10-K; our Quarterly Reports on Form 10-Q; our Current Reports on Form 8-K; and amendments to those reports filed or furnished pursuant to Section 13(a) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”).

 

The public may also read and copy any materials filed with the SEC at the SEC’s Public Reference Room at 100 F Street, N.E., Washington, D.C. 20549. The Public Reference Room may be contact at (800) SEC-0330. You may also access our other reports on the SEC website https://www.sec.gov.

 

We do not have a website for our SEC filings, but we will provide electronic or paper copies of our filings free of charge upon request. We plan to set up a new website and make available free of charge on this website all of our filings and reports as soon as practical after the electronic filings with the SEC.

 

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ITEM 1A. Risk Factors

 

You should carefully consider the risks described below, which constitute all of the material risks facing us. If any of the following risks actually occur, our business could be harmed. You should also refer to the other information about us contained in this annual report including our financial statements and released notes.

 

Our business operations are conducted entirely in the PRC. Because China’s economy and its laws, regulations and policies are different from those typically found in the west and are continually changing, we face certain risks, including but not limited to those summarized below.

 

Risks Related to our Business

 

Our business may be affected by the economic growth of China.

 

Demand for our products is affected by the general economic conditions in China. Our projects generally require significant upfront capital expenditures, and our customers may rely on internally generated funds or on financing for the purchase of our systems. As a result of weakened macroeconomic conditions and in particular the adverse credit market conditions, our customers may experience difficulty in generating capital or in obtaining financing on attractive terms or at all. To the extent that any of the foregoing should occur, our revenues and our growth could be adversely affected.

 

We are an early stage company with a limited operating history. Our limited operating history may not provide an adequate basis to judge our future prospects and results of operations, and may increase the risk of your investment.

 

You must consider the risks and difficulties we face as an early stage company with limited operating history. We have limited experience and operating history in the related industry. Our limited history may not provide a meaningful basis for investors to evaluate our business, financial performance and prospects. Potential clients may not be familiar with our market and may have difficulty distinguishing our products from those of our competitors. Convincing potential new clients of the value of our services is critical to increasing the volume of sales and to the success of our business. If we fail to expand the market for our products, our business and results of operations will be harmed.

 

A substantial increase in the cost of solar panels could adversely affect our growth.

 

We partially rely on third parties to supply our solar panels. Some of our competitors are vertically integrated and produce their own, giving them a cost advantage which limits the advantage of our solar installation and air energy storage power generation technologies. In addition, solar panels are in ample supply due to increased capacity, particularly in China, in recent years. A shortage of supply could result in increased costs and increase the cost advantage of our vertically integrated competitors.

 

We rely on one single supplier for Green Energy No.3 products. We might be affected by changes in the stability of the product offerings.

 

If we fail to manage our relationships with third-party suppliers, or otherwise fail to procure products at favorable terms, our business and growth prospects may suffer. Green Energy No.3 is one of the Company’s main products in the future. Currently, we have cooperated with a third party supplier for this product and Sanhe Xiang sells products after packaging. If the current supplier increases the price, our profit might be negatively affected. Besides, the supplier might be lack of the relevant environmental approvals from the government and that may subject them to fines and penalties by the supervisory authority or stop order from operation, as a result of which, our business might be materially and adversely affected.

 

We are dependent on our executive officers. Any loss in their services without suitable replacement may adversely affect our operations.

 

Zhou Deng Hua has served as our Chief Executive Officer since April 30, 2016 and has been a member of our Board of Directors since June 2, 2012. Zhiqi Zhang, the Company’s former Chief Executive Officer remains as our general counsel. Zhou Jian, became Chairman of the Board in July 2014. Yanhong Xue has served as our Chief Financial Officer since July 19, 2018. Our continued success is dependent, to a large extent, on our ability to retain their services.

 

The continued success of our business is also dependent on our key management and operational personnel. We rely on their experience in the alternate energy industry, product development, sales and marketing and on their relationships with our customers and suppliers.

 

The loss of the services of any of our executive directors or executive officers without suitable replacement or the inability to attract and retain qualified personnel will adversely affect our operations and hence, our revenue and profits.

 

Zhou Dengrong, the former CEO, was involved in an alleged allegation of pyramid marketing campaign in 2013. But we believe this has nothing related to the Company and will have no effect on any aspect of the operations of our company.

  

We have identified material weaknesses in our internal control over financial reporting, and our business and stock price may be adversely affected if we do not adequately address those weaknesses or if we have other material weaknesses or significant deficiencies in our internal control over financial reporting.

 

We have identified material weaknesses in our internal control over financial reporting. In particular, we concluded that the Company’s management, including our Chief Executive Officer and our Chief Financial Officer, has identified material weaknesses in the control environment of the Company. The material weaknesses include, but are not limited to a (i) lack of accounting personnel with appropriate knowledge of accounting principles generally accepted in the United States of America, or U.S. GAAP, (ii) lack of comprehensive accounting policies and procedures manual in accordance with U.S. GAAP, and (iii) lack of a risk assessment process. See “Controls and Procedures.”

 

Although we are undertaking steps to address these material weaknesses, the existence of a material weakness is an indication that there is more than a remote likelihood that a material misstatement of our financial statements will not be prevented or detected in the current or any future period. Management is committed to remediating the material weakness in a timely fashion. We have begun the process of executing remediation plans that address the material weakness in internal control over financial reporting. Specifically, we established Audit Committee, Nominating and Corporate Governance Committee and Compensation Committee in July 2017, engaged a third-party consultant to start the internal control implementation project since 2017. We will continue to improve our internal control during the next fiscal year.

 

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In addition, we may in the future identify further material weaknesses in our internal control over financial reporting that we have not discovered to date. Although we are engaged in remediation efforts with respect to the material weaknesses, the existence of one or more material weaknesses could result in errors in our financial statements, and substantial costs and resources may be required to rectify these or other internal control deficiencies. If we cannot produce reliable financial reports, investors could lose confidence in our reported financial information, the market price of our Common Stock could decline significantly, we may be unable to obtain additional financing to operate and expand our business, and our business and financial condition could be harmed. We cannot assure you that we will be able to remediate these material weaknesses in a timely manner.

 

If we do not manage our growth, we may not be able to operate our business effectively.

 

With the Green Energy products and after the acquisitions of Hubei Jinli and Tianjin Jiabaili, we expect significant expansion will be required to address potential growth in our customer base, the breadth of our service offerings, and other opportunities. This expansion could strain our management, operations, systems and financial resources. To manage any future growth of our operations and personnel, we must improve and effectively utilize operational, management, marketing and financial systems and successfully recruit, hire, train and manage personnel and maintain close coordination among our technical, finance, marketing, sales and recruitment staffs. We also will need to manage an increasing number of complex relationships with customers, strategic partners, advertisers and other third parties. Our failure to manage growth could disrupt our operations and ultimately prevent us from generating the revenue we expect.

 

We were granted license intellectual property rights in our products, including patents and trademarks, from third party owners. If such owners do not properly maintain or enforce the intellectual property underlying such licenses, our competitive position and business prospects could be harmed. Our licensors may also seek to terminate our license.

 

We are a party to a number of licenses that give us rights to third-party intellectual property that is necessary or useful to our business. We are using Xiangtian International Investment Group Co., Ltd.’s trademark of “”and “”. Our success will depend in part on the ability of our licensors to obtain, maintain and enforce our licensed intellectual property. Our licensors may not successfully prosecute any applications for or maintain intellectual property to which we have licenses, may determine not to pursue litigation against other companies that are infringing such intellectual property, or may pursue such litigation less aggressively than we would. Without protection for the intellectual property we license, other companies might be able to offer similar products for sale, which could adversely affect our competitive business position and harm our business prospects. If we lose any of our right to use third-party intellectual property, it could adversely affect our ability to commercialize our technologies, products or services, as well as harm our competitive business position and our business prospects.

 

We may not be able to prevent others from unauthorized use of our intellectual property, which could harm our business and competitive position.

 

We regard our patents, trademarks, domain names, know-how, proprietary technologies and similar intellectual property as critical to our success, and we rely on a combination of intellectual property laws and contractual arrangements, including confidentiality and non-compete agreements with our employees and others to protect our proprietary rights. Thus, we cannot assure you that any of our intellectual property rights would not be challenged, invalidated, circumvented or misappropriated, or such intellectual property will be sufficient to provide us with competitive advantages. In addition, because of the rapid pace of technological change in our industry, parts of our business rely on technologies developed or licensed by third parties, and we may not be able to obtain or continue to obtain licenses and technologies from these third parties on reasonable terms, or at all.

 

It is often difficult to register, maintain and enforce intellectual property rights in China. Statutory laws and regulations are subject to judicial interpretation and enforcement and may not be applied consistently due to the lack of clear guidance on statutory interpretation. Confidentiality and non-compete agreements may be breached by counterparties, and there may not be adequate remedies available to us for any such breach. Accordingly, we may not be able to effectively protect our intellectual property rights or to enforce our contractual rights in China. Preventing any unauthorized use of our intellectual property is difficult and costly and the steps we take may be inadequate to prevent the misappropriation of our intellectual property. In the event that we resort to litigation to enforce our intellectual property rights, such litigation could result in substantial costs and a diversion of our managerial and financial resources. We can provide no assurance that we will prevail in such litigation. In addition, our trade secrets may be leaked or otherwise become available to, or be independently discovered by, our competitors. To the extent that our employees or consultants use intellectual property owned by others in their work for us, disputes may arise as to the rights in related know-how and inventions. Any failure in protecting or enforcing our intellectual property rights could have a material adverse effect on our business, financial condition and results of operations.

 

The marketplace is highly competitive. If we cannot promote products that the market and companies are willing to accept, we will not be able to compete successfully and our business may be adversely affected, creating the possibility that we may never be able to generate any revenues.

 

We have many potential competitors in the relevant marketplace. We acknowledge that the competition is competent, experienced, and has greater financial and marketing resources than we do at the present. Our ability to compete may be adversely affected by the ability of these competitors to devote greater resources to the development, promotion, and marketing of their products than are available to us for our products.

 

Some of our competitors may also offer a wider range of products and have greater name recognition. They may have greater customer loyalty bases and these competitors may be able to respond more quickly to new or changing opportunities. In addition, our competitors may be able to undertake more extensive promotional activities, and adopt more aggressive advertising campaigns than what we are able to provide to Green Energy products at the present.

 

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The methanol industry is an industry that is changing rapidly which can result in unexpected developments that could negatively impact our operations and the value of our units. 

 

The methanol industry has grown significantly in the last decade. This rapid growth has resulted in significant shifts in supply and demand of methanol over a very short period of time. As a result, past performance by the methanol plant or the methanol industry generally might not be indicative of future performance. We may experience a rapid shift in the economic conditions in the methanol industry which may make it difficult to operate the methanol plant profitably. If changes occur in the methanol industry that make it difficult for us to operate the methanol plant profitably, it could result in a reduction in the value of our units.

 

Changes and advances in ethanol production technology could require us to incur costs to update our plant or could otherwise hinder our ability to compete in the ethanol industry or operate profitably. 

 

Advances and changes in the technology of ethanol production are expected to occur.  Such advances and changes may make the ethanol production technology installed in our plant less desirable or obsolete.  These advances could also allow our competitors to produce ethanol at a lower cost than we are able.  If we are unable to adopt or incorporate technological advances, our ethanol production methods and processes could be less efficient than our competitors, which could cause our plant to become uncompetitive or completely obsolete.  If our competitors develop, obtain or license technology that is superior to ours or that makes our technology obsolete, we may be required to incur significant costs to enhance or acquire new technology so that our ethanol production remains competitive. Alternatively, we may be required to seek third-party licenses, which could also result in significant expenditures. These third-party licenses may not be available or, once obtained, they may not continue to be available on commercially reasonable terms.  These costs could negatively impact our financial performance by increasing our operating costs and reducing our net income.

 

Increased use of fuel cells, plug-in hybrids and electric cars may lessen the demand for fuels.  

 

A number of automotive, industrial and power generation manufacturers are developing alternative clean power systems using fuel cells, plug-in hybrids, electric cars or clean burning gaseous fuels. Electric car technology has recently grown in popularity, especially in urban areas, which has led to an increase in recharging stations which may make electric car technology more widely available in the future. This additional competition from alternate sources could reduce the demand for our fuel products, resulting in lower fuel prices which could negatively impact our results of operations and financial condition.

 

Changes in environmental regulations or violations of these regulations could be expensive and reduce our profitability.  We might not have all environmental approvals for our business.

 

We are subject to extensive air, water and other environmental laws and regulations.  In addition, some of these laws require our plant to operate under a number of environmental permits. We might not have all environmental approvals for our business. These laws, regulations and permits can often require expensive pollution control equipment or operational changes to limit actual or potential impacts to the environment.  A violation of these laws and regulations or permit conditions can result in substantial fines, damages, criminal sanctions, permit revocations and/or plant shutdowns.  In the future, we may be subject to legal actions brought by environmental advocacy groups and other parties for actual or alleged violations of environmental laws or our permits.  Additionally, any changes in environmental laws and regulations could require us to spend considerable resources in order to comply with future environmental regulations. The expense of compliance could be significant enough to reduce our profitability and negatively affect our financial condition.

 

Failure to obtain regulatory approvals or permits could adversely affect our operations.

 

We might not have all operating approvals or fire inspection approvals, which are material to our business. We will need to obtain and maintain numerous regulatory approvals and permits in order to operate our business. Besides, new legislation could be implemented that would require additional or new regulatory approvals. Obtaining necessary approvals and permits could be a time-consuming and expensive process, and we may not be able to obtain them on a timely basis or at all. In the event that we fail to ultimately obtain all necessary permits, we may be forced to delay operations of the facility and the receipt of related revenues or abandon the project altogether and lose the benefit of any development costs already incurred, which would have an adverse effect on our results of operations. In addition, governmental regulatory requirements may substantially increase our construction costs, which could have a material adverse effect on our business, results of operations and financial condition. If there is a delay in obtaining any required regulatory approvals or if we fail to obtain and comply with any required regulatory approvals, the operation of our facilities or the sale of our chemical products s could be delayed. For example, many countries require registration of chemicals before they can be distributed in the country, and a failure to register our chemicals would limit our ability to expedite sales into these markets. In addition, we may be required to make capital expenditures on an ongoing basis to comply with increasingly stringent environmental, health and safety laws, regulations and permits. We could also experience delays in obtaining approval for the sale of our waste streams as nutrients for animal feed, which would hinder our ability to reduce our cost of goods by restricting our ability to turn a disposal cost into a source of revenue.

 

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We use hazardous materials in our business and any claims relating to improper handling, storage or disposal of these materials or noncompliance with applicable laws and regulations could adversely affect our business and results of operations.

 

We use chemicals materials in our business and are subject to a variety of laws and regulations governing the use, generation, manufacture, storage, handling and disposal of these materials. Although we have implemented safety procedures for handling and disposing of these materials and waste products, we cannot be sure that our safety measures are compliant with legal requirements or adequate to eliminate the risk of accidental injury or contamination. In the event of contamination or injury, we could be held liable for any resulting damages, and any liability could exceed our insurance coverage. There can be no assurance that we will not violate environmental, health and safety laws as a result of human error, accident, equipment failure or other causes. Compliance with applicable environmental laws and regulations is expensive and time consuming, and the failure to comply with past, present, or future laws could result in the imposition of fines, third-party property damage, product liability and personal injury claims, investigation and remediation costs, the suspension of production, or a cessation of operations. Our liability in such an event may exceed our total assets. Liability under environmental laws can be joint and several and without regard to comparative fault. Environmental laws could become more stringent over time, imposing greater compliance costs and increasing risks and penalties associated with violations, which could impair our research, development or production efforts and harm our business. Accordingly, violations of present and future environmental laws could restrict our ability to expand facilities, or pursue certain technologies, and could require us to acquire equipment or incur potentially significant costs to comply with environmental regulations.

 

Expansion into new business may expose us to new challenges and more risks.

 

Since the acquisition of new business, the expansion involves new risks and challenges. Our lack of familiarity with these products and lack of relevant client data relating to these products may make it more difficult for us to keep pace with the evolving client demands, identify and recruit new third-party merchants and manage inventory. If we cannot successfully address challenges in connection with product offering expansion, we may not be able to maintain our relationships with current client or develop new customers. Our operating results may be adversely affected.

 

If we are unable to provide high quality client experience, our business and reputation may be materially and adversely affected.

 

The success of our business largely depends on our ability to provide quality client experience, which in turn depends on a variety of factors. If our clients are not satisfied with our products or services, or the prices at which we offer the products or otherwise fail to meet our clients’ requests, our reputation and client loyalty could be adversely affected.  If we are unable to continue to maintain our client experience and provide high quality client service, we may not be able to retain existing clients or attract new clients, which could have a material adverse effect on our business, financial condition and results of operations.

 

We may be subject to product liability claims if property or human are harmed by the products.

 

Some of our products are harmful to property, for example, car. As a result, production and sales of such products could expose us to liability claims relating property damage and may require product recalls or other actions.

 

Government regulation is evolving and unfavorable changes could harm our business.

 

We are subject to general business regulations and laws, as well as regulations and laws specifically governing our business. Existing and future laws and regulations may impede our growth. These regulations and laws may cover taxation, privacy, pricing, content, copyrights, distribution, environmental regulation, electronic contracts and other communications, competition, and quality of products and etc. It is not clear how existing laws governing issues such as property ownership, and etc. Unfavorable regulations and laws might affect our business and financial condition.

 

Risks Related to our Securities

 

The market price for our common stock may be volatile.

 

The trading prices of our common stock are likely volatile and could fluctuate widely due to factors beyond our control. This may happen because of broad market and industry factors, like the performance and fluctuation in the market prices or the underperformance or deteriorating financial results of internet or other companies based in China that have listed their securities in the United States in recent years. The securities of some of these companies have experienced significant volatility since their initial public offerings, including, in some cases, substantial decline in their trading prices. The trading performances of other Chinese companies’ securities after their offerings may affect the attitudes of investors toward Chinese companies listed in the United States, which consequently may impact the trading performance of our common stock, regardless of our actual operating performance. In addition, any negative news or perceptions about inadequate corporate governance practices or fraudulent accounting, corporate structure or other matters of other Chinese companies may also negatively affect the attitudes of investors towards Chinese companies in general, including us, regardless of whether we have conducted any inappropriate activities. In addition, securities markets may from time to time experience significant price and volume fluctuations that are not related to our operating performance, which may have a material adverse effect on the market price of our common stock.

 

In addition to the above factors, the price and trading volume of our common stock may be highly volatile due to multiple factors, including the following: 

 

  regulatory developments affecting us, our users, or our industry;
     
  regulatory uncertainties with regard to our variable interest entity arrangements;

 

  announcements of studies and reports relating to our products and services or those of our competitors;

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  actual or anticipated fluctuations in our quarterly results of operations and changes or revisions of our expected results;
     
  changes in financial estimates by securities research analysts;
     
  conditions of the industries we are operating in;
     
  announcements by us or our competitors of new product and service offerings, acquisitions, strategic relationships, joint ventures or capital commitments;
     
  additions to or departures of our senior management;
     
  detrimental negative publicity about us, our management or our industry;
     
  fluctuations of exchange rates between the RMB and the U.S. dollar;
     
  release or expiry of lock-up or other transfer restrictions on our outstanding shares of common stock; and
     
  sales or perceived potential sales of additional shares of common stock.

 

Our common stock has been very thinly traded, liquidity is limited, and we may be unable to obtain listing of our common stock on a more liquid market.

 

Our Common Stock is quoted on the OTCQB, which provides significantly less liquidity than a securities exchange (such as the NYSE MKT, New York Stock Exchange or the Nasdaq). There is uncertainty that we will ever be accepted for a listing on a national securities exchange.

 

There is currently a very limited volume of trading in our Common Stock, and on many days there has been no trading activity. The purchasers of shares of our Common Stock may find it difficult to resell their shares at prices quoted in the market or at all.

 

Two persons have significant voting power and may take actions that may not be in the best interests of other stockholders.

 

Zhou Jian, our Chairman, and Zhou Deng Hua, our Chief Executive Officer, who are also on our Board of Directors, control 62.9% of our voting securities. If Zhou Jian and Zhou Deng Hua act together, they will be able to exert significant control over the Company’s management and affairs requiring stockholder approval, including approval of significant corporate transactions. This concentration of ownership may have the effect of delaying or preventing a change in control and might adversely affect the market price of the Common Stock. This concentration of ownership may not be in the best interests of all of the Company’s stockholders.

 

Certain judgments which may be obtained against us by our stockholders in the future may not be enforceable. 

 

We conduct substantially all of our operations in China and substantially all of our assets are located in China. In addition, most of our directors and executive officers reside within China, and most of the assets of these persons are located within China. As a result, it may be difficult or impossible for you to effect service of process within the United States upon these individuals, or to bring an action against us or against these individuals in the United States in the event that you believe your rights have been infringed under the U.S. federal securities laws or otherwise. Even if you are successful in bringing an action of this kind, the laws of the PRC may render you unable to enforce a judgment against our assets or the assets of our directors and officers.

 

Risks Related to Doing Business in the PRC

 

We may be affected by environmental changes in China and global climate change or by legal, regulatory or market responses to such changes.

 

The growing political and scientific sentiment is that increased concentrations of carbon dioxide and other greenhouse gases in the atmosphere are influencing global weather patterns. Concern over climate change, including global warming, and environmental degradation in China has led to legislative and regulatory initiatives directed at limiting greenhouse gas emissions and subsidizing alternate energy production, which have been beneficial to our business. Laws enacted that directly or indirectly affect electricity generation or our production, distribution, and cost of raw materials could all impact our business and financial results. Reductions in the subsidies provided by the government of the PRC for the use of our products would adversely affect our operations, revenue and growth.

 

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We face the risk that changes in the policies of the PRC government could have a significant impact upon the business we may be able to conduct in the PRC and the profitability of such business.

 

The PRC’s economy is in a transition from a planned economy to a market-oriented economy subject to five-year and annual plans adopted by the central government that set national economic development goals. Policies of the PRC government can have significant effects on the economic conditions of the PRC. The PRC government has confirmed that economic development will follow the model of a market economy. Under this direction, we believe that the PRC will continue to strengthen its economic and trading relationships with foreign countries and business development in the PRC will follow market forces. While we believe that this trend will continue, we cannot assure you that this will be the case. A change in policies by the PRC government could adversely affect our interests by, among other factors: changes in laws, regulations or the interpretation thereof, confiscatory taxation, restrictions on currency conversion, imports or sources of supplies, or the expropriation or nationalization of private enterprises. Although the PRC government has been pursuing economic reform policies for more than two decades, we cannot assure you that the government will continue to pursue such policies or that such policies may not be significantly altered, especially in the event of a change in leadership, social or political disruption, or other circumstances affecting the PRC’s political, economic and social environment.

 

Introduction of new laws or changes to existing laws by the PRC government may adversely affect our business.

 

The PRC legal system is a codified legal system made up of written laws, regulations, circulars, administrative directives and internal guidelines. Unlike common law jurisdictions like the U.S., decided cases (which may be taken as reference) do not form part of the legal structure of the PRC and thus have no binding effect on subsequent cases with similar issues and fact patterns.

 

Inflation in the PRC could negatively affect our profitability and growth.

 

While the PRC economy has experienced rapid growth, such growth has been uneven among various sectors of the economy and in different geographical areas of the country. Rapid economic growth can lead to growth in the money supply and rising inflation. In order to control inflation in the past, the PRC government has imposed controls on bank credits, limits on loans for fixed assets and restrictions on state bank lending. Such an austere policy can lead to a slowing of economic growth, which may have an adverse effect on our business operations and financial condition.

 

Governmental control of currency conversion may affect the value of your investment.

 

The PRC government imposes controls on the convertibility of Renminbi, or RMB, into foreign currencies and, in certain cases, the remittance of currency out of the PRC. We receive all of our revenues in RMB, which is currently not a freely convertible currency. Shortages in the availability of foreign currency may restrict our ability to remit sufficient foreign currency to pay expenses and dividends, or otherwise satisfy foreign currency dominated obligations. Under existing PRC foreign exchange regulations, payments of current account items, including profit distributions, interest payments and expenditures from the transaction, can be made in foreign currencies without prior approval from the PRC State Administration of Foreign Exchange, or SAFE, by complying with certain procedural requirements. However, approval from appropriate governmental authorities is required where RMB is to be converted into foreign currency and remitted out of PRC to pay capital expenses such as the repayment of bank loans denominated in foreign currencies.

 

The PRC government also may at its discretion restrict access in the future to foreign currencies for current account transactions. If the foreign exchange control system prevents us from obtaining sufficient foreign currency to satisfy our currency demands, we may not be able to pay certain of our expenses as they come due.

 

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The fluctuation of RMB may materially and adversely affect your investment.

 

The value of the RMB against the U.S. dollar and other currencies may fluctuate and is affected by, among other things, changes in the PRC’s political and economic conditions. As we rely entirely on revenues earned in the PRC, any significant revaluation of RMB may materially and adversely affect our cash flows, revenues and financial condition. For example, to the extent that we need to convert U.S. dollars we receive from an offering of our securities into RMB for our operations, appreciation of the RMB against the U.S. dollar could cause the RMB equivalent of U.S. dollars to be reduced and therefore could have a material adverse effect on our business, financial condition and results of operations. Conversely, if we decide to convert our RMB into U.S. dollars for the purpose of making dividend payments on our Common Stock or for other business purposes and the U.S. dollar appreciates against the RMB, the U.S. dollar equivalent of the RMB we convert would be reduced. Recently, the RMB has depreciated against the U.S. dollar. In addition, the depreciation of significant U.S. dollar denominated assets could result in a change to our operations and a reduction in the value of these assets.

 

Failure to comply with the U.S. Foreign Corrupt Practices Act and Chinese Anti-Corruption laws could subject us to penalties and other adverse consequences.

 

We are required to comply with China’s anti-corruption laws and the United States Foreign Corrupt Practices Act, which generally prohibits U.S. companies from engaging in bribery or other prohibited payments to foreign officials for the purpose of obtaining or retaining business. In addition, we are required to maintain records that accurately and fairly represent our transactions and have an adequate system of internal accounting controls. Foreign companies, including some of our competitors, are not subject to these prohibitions. Corruption, extortion, bribery, pay-offs, theft and other fraudulent practices occur from time-to-time in mainland China. If our competitors engage in these practices, they may receive preferential treatment from personnel of some companies, giving our competitors an advantage in securing business or from government officials who might give them priority in obtaining new licenses, which would put us at a disadvantage. Although we inform our personnel that such practices are illegal, we cannot assure you that our employees or other agents will not engage in such conduct for which we might be held responsible. If our employees or other agents are found to have engaged in such practices, we could suffer severe penalties and other consequences that may have a material adverse effect on our business, financial condition and results of operations. In addition, our brand and reputation, our sales activities or the price of our ordinary shares could be adversely affected if we become the target of any negative publicity as a result of actions taken by our employees or other agents.

 

Restrictions under PRC law on our PRC subsidiary’s ability to make dividends and other distributions could materially and adversely affect our ability to grow, make investments or complete acquisitions that could benefit our business, pay dividends to you, and otherwise fund and conduct our businesses.

 

Substantially all of our revenues are earned by our PRC subsidiary. However, PRC regulations restrict the ability of our PRC subsidiary to make dividend and other payments to its offshore parent company. PRC legal restrictions permit payments of dividend by our PRC subsidiary only out of its accumulated after-tax profits, if any, determined in accordance with PRC accounting standards and regulations. Our PRC subsidiary is also required under PRC’s laws and regulations to set aside at least 10% of its after-tax profits to fund certain statutory reserve until the reserve reaches 50% of its registered capital. Allocations to these statutory reserve funds can only be used for specific purposes and are not transferable to us in the form of loans, advances or cash dividends. Any limitations on the ability of our PRC subsidiary to transfer funds to us could materially and adversely limit our ability to grow, make investments or acquisitions that could be beneficial to our business, pay dividends and otherwise fund and conduct our business.

 

The approval of the China Securities Regulatory Commission, or the CSRC, could be required in connection with this offering. Any requirement to obtain prior CSRC approval could delay, or create uncertainties regarding, this offering, and our failure to obtain this approval, if required, could have an adverse effect on our business, results of operations, reputation and trading price of our ordinary shares.

 

On August 8, 2006, six PRC regulatory authorities, including the CSRC, jointly promulgated the Regulations on Mergers and Acquisitions of Domestic Enterprises by Foreign Investors, or the 2006 M& A Rules, which were later amended on June 22, 2009. According to the 2006 M& A Rules, an offshore special purpose vehicle, or SPV, refers to an overseas company controlled directly or indirectly by domestic companies or individuals for purposes of overseas listing of equity interests in domestic companies (defined as enterprises in the PRC other than foreign-invested enterprises). The 2006 M& A Rules require that the overseas listing by the SPV must be approved by the CSRC.

 

However, the applicability of the 2006 M& A Rules with respect to CSRC approval is unclear. Accordingly, the application of the 2006 M& A Rules with respect to this offering and our corporate structure for this offering established under contractual arrangements remains unclear. We believe that the 2006 M& A Rules do not require that we obtain prior CSRC approval for the listing and trading of our Ordinary shares on the Nasdaq Global Market, given that

 

(i)our PRC subsidiary, Xiangtian Shenzhen, was incorporated as a wholly foreign-owned enterprise by means of direct investment rather than by merger or acquisition by our company of the equity interest or assets of any “domestic company” as defined under the 2006 M& A Rules, and no provision in the 2006 M& A Rules classifies the contractual arrangements between our company, our PRC subsidiary and any of our consolidated affiliated entities as a type of acquisition transaction falling under the 2006 M& A Rules;

 

(ii)we do not hold any equity interests in Xianning Xiangtian or any of their PRC subsidiaries; and

 

(iii)the CSRC currently has not issued any definitive rule concerning whether offerings like the offering contemplated by our company under this prospectus are subject to prior CSRC approval.

 

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However, if the CSRC subsequently determines that its prior approval is required, we could face regulatory actions or other sanctions from the CSRC or other PRC regulatory agencies. These regulatory agencies could impose fines and penalties on our operations, limit our operating privileges, delay or restrict our sending the proceeds from this offering into China, or take other actions that could have an adverse effect on our business, financial condition, results of operations, reputation and prospects, as well as the trading price of our ordinary shares. The CSRC or other PRC regulatory agencies also could take actions requiring us, or making it advisable for us, to halt this offering before settlement and delivery of the ordinary shares offered hereby.

 

We cannot predict when the CSRC would promulgate additional rules or other guidance, if at all. If implementing rules or guidance are issued prior to the completion of this offering and consequently we conclude that we are required to obtain CSRC approval, this offering will be delayed until we obtain CSRC approval, which could take several months or longer. Moreover, the implementing rules or guidance, to the extent issued, could fail to resolve current ambiguities under the 2006 M& A Rules. Uncertainties or negative publicity regarding the 2006 M& A Rules could have an adverse effect on the trading price of our Ordinary shares.

 

Under the PRC enterprise income tax law, we could be classified as a “resident enterprise” of China. Such classification could result in unfavorable tax consequences to us and our non-PRC shareholders.

 

Under the PRC Enterprise Income Tax Law (2017), and the Implementation Rules to the EIT Law, or the Implementation Rules, both of which became effective on January 1, 2008, an enterprise established outside of the PRC with “de facto management bodies” within the PRC is considered a resident enterprise and is subject to PRC enterprise income tax at the rate of 25% on its global income. The Implementation Rules define the term “de facto management bodies” as “establishments that carry out substantial and overall management and control over the manufacturing and business operations, personnel, accounting, properties, etc. of an enterprise”. The only detailed guidance currently available regarding the definition of “de facto management body” as well as the determination of the tax residence of offshore incorporated enterprises whose primary controlling shareholder is a PRC company or a PRC corporate group, and such enterprises’ tax administrations are set forth in two notices, the Notice On Issues Relating to Determination of Chinese-Controlled Offshore Enterprise as PRC Resident Enterprises by applying the “De Facto Management Body”, or Circular 82, and the Administrative Measures of Enterprise Income of Chinese Controlled Offshore Incorporated Resident Enterprise (Trial), or Circular 45, issued by the PRC State Administration of Taxation, or the Circulars. The Circulars provide that a foreign enterprise controlled by a PRC enterprise or a PRC enterprise group would be classified as a “resident enterprise” with its “de facto management body” located within China if all of the following requirements are satisfied: (i) the enterprise’s day-to-day operations management is primarily exercised in China, (ii) decisions relating to the enterprise’s financial and human resource matters are made or subject to approval by organizations or personnel in China, (iii) the enterprise’s primary assets, accounting books and records, company seals, board and shareholders’ meeting minutes are located or maintained in China, and (iv) 50% or more of voting board members or senior executives of the enterprise habitually reside in China. If all of these criteria are met, the relevant offshore enterprise controlled by PRC enterprises or PRC enterprise groups would be deemed to have its “de facto management body” in China and therefore be deemed a PRC resident enterprise.

 

The Circulars made clarification in the areas of resident status determination, post-determination administration, as well as the exercise of competent tax authorities’ procedures. The Circulars also specify that when provided with a copy of PRC tax resident determination certificate from a resident Chinese controlled offshore incorporated enterprise, a payer of PRC-sourced dividends, interest, royalties, etc. should not withhold 10% income tax on such payments to such Chinese controlled offshore incorporated enterprise. Although the Circulars apply only to offshore enterprises controlled by PRC enterprises and not those controlled by PRC individuals such as us, the determination criteria and administration clarification made in the Circulars reflect the PRC State Administration of Taxation’s general position on how the “de facto management body” test should be applied in determining the tax residency status of offshore enterprises and how the administration measures should be implemented.

 

There is no assurance that the PRC State Administration of Taxation will not apply the same or similar criteria as stated in the Circulars to determine whether the “de facto management body” of an offshore incorporated enterprise controlled by PRC individuals (like us) is located within the PRC in the future. If the PRC authorities were to determine that we should be treated as a PRC resident enterprise for the purpose of PRC enterprise income tax, a 25% enterprise income tax on our global income could significantly increase our tax burden and adversely affect our financial condition and results of operations. Pursuant to the New EIT Law and the Implementation Rules, dividends generated after January 1, 2008 and payable by a foreign-invested enterprise in China to its foreign enterprise investors will be subject to a 10% withholding tax, unless any such foreign investor’s jurisdiction of incorporation has a tax treaty with China that provides for a reduced withholding arrangement.

 

We are a US holding company and substantially all of our income comes from dividends from our PRC subsidiary through our Hong Kong holding company. To the extent these dividends are subject to withholding tax, the amount of funds available to us to meet our cash requirements, including the payment of dividends to our shareholders, will be reduced. The Implementation Rules provide that, (i) if the enterprise that distributes dividends is domiciled in the PRC, or (ii) if gains are realized from transferring equity interests of enterprises domiciled in the PRC, then such dividends or capital gains are treated as PRC-sourced income. It is not clear how “domicile” might be interpreted under the New EIT Law, and it could be interpreted as the jurisdiction where the enterprise is a tax resident. Therefore, if we are considered to be a PRC resident enterprise for tax purposes, any dividends we pay to our overseas corporate shareholders as well as gains realized by such shareholders from the transfer of our ordinary shares could be regarded as PRC-sourced income and as a result subject to PRC withholding tax at a rate of up to 10%, subject to the provisions of any applicable tax treaty. If dividends we pay to our overseas individual shareholders, or gains realized by such holders from the transfer of our ordinary shares, are treated as China sourced income, the withholding rate would be 20%, subject to the provisions of any applicable tax treaty. If we are required under the New EIT Law to withhold PRC income tax on any dividends paid to our non-PRC shareholders or if gains from dispositions of our ordinary shares are subject to PRC tax, your investment in our ordinary shares could be adversely affected.

 

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We face uncertainties with respect to indirect transfers of equity interests in PRC resident enterprises by their non-PRC holding companies.

 

We face uncertainties regarding the reporting on and consequences of previous private equity financing transactions involving the transfer and exchange of shares in our company by non-resident investors. In February 2015, the SAT issued the Bulletin on Issues of Enterprise Income Tax on Indirect Transfers of Assets by Non-PRC Resident Enterprises, or SAT Bulletin 7, as amended in 2017. Pursuant to this bulletin, an “indirect transfer” of assets, including equity interests in a PRC resident enterprise, by non-PRC resident enterprises may be recharacterized and treated as a direct transfer of PRC taxable assets, if such arrangement does not have a reasonable commercial purpose and was established for the purpose of avoiding payment of PRC enterprise income tax. As a result, gains derived from such indirect transfer may be subject to PRC enterprise income tax. According to SAT Bulletin 7, “PRC taxable assets” include assets attributed to an establishment in China, immovable properties located in China, and equity investments in PRC resident enterprises, in respect of which gains from their transfer by a direct holder, being a non-PRC resident enterprise, would be subject to PRC enterprise income taxes.

 

When determining whether there is a “reasonable commercial purpose” of the transaction arrangement, features to be taken into consideration include: whether the main value of the equity interest of the relevant offshore enterprise derives from PRC taxable assets; whether the assets of the relevant offshore enterprise mainly consist of direct or indirect investment in China or if its income mainly derives from China; whether the offshore enterprise and its subsidiaries directly or indirectly holding PRC taxable assets have real commercial nature which is evidenced by their actual function and risk exposure; the duration of existence of the business model and organizational structure; the replicability of the transaction by direct transfer of PRC taxable assets; and the tax situation of such indirect transfer and applicable tax treaties or similar arrangements.

 

In respect of an indirect offshore transfer of assets of a PRC establishment, the resulting gain is to be included with the enterprise income tax filing of the PRC establishment or place of business being transferred, and would consequently be subject to PRC enterprise income tax at a rate of 25%. Where the underlying transfer relates to the immovable properties located in China or to equity investments in a PRC resident enterprise, which is not related to a PRC establishment or place of business of a non-resident enterprise, a PRC enterprise income tax of 10% would apply, subject to available preferential tax treatment under applicable tax treaties or similar arrangements, and the party who is obligated to make the transfer payments has the withholding obligation. Where the payer fails to withhold any or sufficient tax, the transferor is required to declare and pay such tax to the tax authority by itself within the statutory time limit. Late payment of applicable tax will subject the transferor to default interest. SAT Bulletin 7 does not apply to transactions of sale of shares by investors through a public stock exchange where such shares were acquired from a transaction through a public stock exchange.

 

There is uncertainty as to the application of SAT Bulletin 7. We face uncertainties as to the reporting and other implications of certain past and future transactions where PRC taxable assets are involved, such as offshore restructuring, sale of the shares in our offshore subsidiaries or investments. Our company may be subject to filing obligations or taxed if our company is transferor in such transactions, and may be subject to withholding obligations if our company is transferee in such transactions under SAT Bulletin 7 or transfer of shares in our company by investors that are non-PRC resident enterprises, our PRC subsidiaries may be requested to assist in the filing under SAT Bulletin 7. As a result, we may be required to expend valuable resources to comply with SAT Bulletin 7 or to request the relevant transferors from whom we purchase taxable assets to comply with these circulars, or to establish that our company should not be taxed under these circulars, which may have a material adverse effect on our financial condition and results of operations.

 

PRC laws and regulations establish complex procedures for some acquisitions of Chinese companies by foreign investors, which could make it more difficult for us to pursue growth through acquisitions in China.

 

PRC laws and regulations, such as the 2006 M& A Rules, the Anti-Monopoly Law promulgated by the PRC National People’s Congress in 2007 and the Notice on the Establishment of the Security Review System in Mergers and Acquisitions of Domestic Enterprises by Foreign Investors promulgated by the State Council, or the Security Review Rule, establish procedures and requirements that could make some acquisitions of Chinese companies by foreign investors and companies more time-consuming and complex, including requirements in some instances that various governmental authorities be notified in advance of any change-of-control transaction in which a foreign investor takes control of a PRC domestic enterprise. For example, on February 3, 2011, the State Council promulgated the Security Review Rule, which provides, among other things, that merger and acquisition transactions by foreign investors of PRC enterprises in sensitive sectors or industries, such as Internet information service industry, which our operations fall within, could be subject to security review. Consequently, any such transaction could be blocked due to their effect on the national defense security, national economic stability, basic social life order, or capacity of indigenous research and development of key technologies. On August 25, 2011, the Ministry of Commerce promulgated the Regulations on Implementing the Security Review System in Mergers and Acquisition of Domestic Enterprises by Foreign Investors, which, among other things, set forth detailed provisions on how the security review of relevant transactions would be conducted, and provide for that foreign investors could not for any reason evade the security review process through entrustment, phased-in investment, leasing, loans and control agreement, and overseas transactions. We could expand our business in part by acquiring complementary businesses. Complying with the requirements of the relevant PRC laws and regulations to complete such transactions could be time-consuming, and any required approval processes could delay or inhibit our ability to complete such transactions, which could affect our ability to expand our business or maintain our market share.

 

Increases in labor costs in the PRC may adversely affect our business and results of operations.

 

The economy of China has been experiencing increases in inflation and labor costs in recent years. As a result, the average wages in the PRC are expected to continue to grow. In addition, we are required by PRC laws and regulations to pay various statutory employee benefits, including pensions, housing fund, medical insurance, work-related injury insurance, unemployment insurance and maternity insurance to designated government agencies for the benefit of our employees. The relevant government agencies may examine whether an employer has made adequate payments of the requisite statutory employee benefits, and those employers who fail to make adequate payments could be subject to late payment fees, fines and/ or other penalties. If the relevant PRC authorities determine that we should make supplemental social insurance and that we are subject to fines and legal sanctions, our business, financial condition and results of operations could be adversely affected.

 

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The enforcement of stricter labor laws and regulations in the PRC could adversely affect our business and our profitability.

 

We have been subject to stricter regulatory requirements in terms of entering into labor contracts with our employees and paying various statutory employee benefits, including pensions, housing fund, medical insurance, work-related injury insurance, unemployment insurance and childbearing insurance to designated government agencies for the benefit of our employees.

 

Pursuant to the PRC Labor Contract Law, or the Labor Contract law, that became effective in January 2008, as amended on December 28, 2012 and effective as of July 1, 2013, and its implementation rules that became effective in September 2008, employers are subject to stricter requirements in terms of signing labor contracts, minimum wages, paying remuneration, determining the term of employees’ probation and ability to unilaterally terminating labor contracts. In the event that we decide to terminate the employment of any of our employees or otherwise change our employment or labor practices, the Labor Contract Law and its implementation rules could limit our ability to effect these changes in a desirable or cost-effective manner, which could adversely affect our business and results of operations.

 

On October 28, 2010, the Standing Committee of the National People’s Congress promulgated the PRC Social Insurance Law, or the Social Insurance Law, which became effective on July 1, 2011. According to the Social Insurance Law, employees must participate in pension insurance, work-related injury insurance, medical insurance, unemployment insurance and maternity insurance and the employers must, together with their employees or separately, pay the social insurance premiums for such employees.

 

According to our current internal system, we only pay social insurance for part of our employees and some of our employees have not signed the Labor Contract. This is in violation of Social Security Law and Labor Contract law. Moreover, base number or the rate of the social insurance premium payment had been changed when we pay for employee’s social insurance premium, which could lead to imposition of penalties on the personnel directly in charge and other personnel subject to direct liability.

 

As the interpretation and implementation of labor-related laws and regulations are still evolving, we could be liable for payments and fines arising from our delinquent payments of previous social insurance and that we did not anticipate. Moreover, we cannot assure you that our employment practices do not and will not violate labor-related laws and regulations in China, which could subject us to labor disputes or government investigations. If we are deemed to have violated relevant labor laws and regulations, our business and results of operations could be adversely affected.

 

Our shareholders might violate foreign exchange regulations.

 

Our shareholders have not completed required registrations with the local counterpart of SAFE in relation to our financing and restructuring and the subsequent changes to our shareholding structure. Failure to comply with the registration procedures set forth in SAFE Circular No. 37 and SAFE Circular No. 13, misrepresent on or failure to disclose controllers of foreign-invested enterprise that is established through round-trip investment, may result in restrictions on the foreign exchange activities of the relevant foreign-invested enterprises, including payment of dividends and other distributions, such as proceeds from any reduction in capital, share transfer or liquidation, to its offshore parent company or affiliates and the capital inflow from the offshore parent company, and may also subject the relevant PRC residents or entities to penalties under PRC foreign exchange administration regulations.

 

The business scope of WFOE might affect dividend distribution of our company

 

Currently, the business scope of WFOE is technical development of air energy and electrical equipment, electronic products, communication equipment, household appliances, transfer of self-developed technical achievements; import and export of goods and technology (excluding import distribution), while WFOE mainly provides technical and consulting service to the VIE company according to the Agreement on Exclusive Management, Consulting and Training and Technical Services between WFOE and VIE company to transfer the domestic companies’ profit to WFOE. According to Regulations on the Administration of Enterprise Legal Person Registration of the People’s Republic of China (2018), if the operator exceeds the approved business scope or operating mode and engages in business activities, he shall be warned according to the seriousness of the circumstances, confiscate the illegal income, and impose a fine of not more than three times the amount of illegal income, but the maximum amount is not more than 30,000 RMB, and there is no illegal income. A fine of not more than 10,000 RMB is imposed. At the same time, in violation of other relevant provisions of the state, if they engage in illegal business operations, they shall be ordered to suspend business for rectification, confiscate illegal income, and impose a fine of not more than three times the amount of illegal income, but the maximum amount is not more than 30,000 RMB. If there is no illegal income, a fine of not more than 10,000 RMB shall be imposed. If the circumstances are serious, the business license shall be revoked.

 

We might be reversed affected by the change of real estate property right.

 

Some of our factory and office are owned by our company and some of them is still under being constructing. It is not predictable that we will definitely get the real estate rights certificate. The reason might be that we may not be able to obtain environmental protection approval documents, fire certification, and other government approvals. Besides, we leased offices and factor from third party, which also might be affected by the termination of third party or other factors from the regulatory level.

  

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We could be adversely affected by the complexity, uncertainties and changes in PRC regulation of Secrecy Qualification.

 

According to Management Measures of Secrecy Qualification Examination and Certification for Weapons and Equipment Research and Production Units (“Circular 8”) issued by National Defense Science and Technology Bureau of PRC, for units engaged in the research and production of classified weapons and equipment, a confidentiality qualification examination and certification system shall be implemented. Units engaged in the research and production of classified weapons and equipment should obtain the corresponding confidentiality qualifications. According to PRC laws, company which are invested by foreign investment shall not obtain the Secrecy Qualification. Hubei Jinli,is engaging producing some of the military product parts and obtained the Secrecy Qualification. Currently, Hubei Jinli is 100% held by Xianning Xiangtian and the shareholders of Xianning Xiangtian, Mr. Jian Zhou and Dengrong Zhou, are both holding Chinese nationality. Hubei Jinli is not invested by foreign company and its shareholding is not held by foreign company. Therefore, we believe Hubei Jinli is entitled to continue using the Secrecy Qualification. However, there is no assurance that we will be able to renew our Secrecy Qualification upon its expiration. Failure to renew our Secrecy Qualification will have material adverse impact on Hubei Jinli’s operating results and financial condition.

 

Risks Related to the New VIE Agreements

 

The PRC government may determine that the New VIE Agreements are not in compliance with applicable PRC laws, rules and regulations.

 

Details of the New VIE Agreements are set out in the under “Business – Variable Interest Entity Agreements with Xianning Xiangtian.” There are risks involved with the operation of our business in reliance on the New VIE Agreements, including the risk that the New VIE Agreements may be determined by PRC regulators or courts to be unenforceable. Our PRC counsel has provided a legal opinion that the New VIE Agreements are binding and enforceable under PRC law, but has further advised that if the New VIE Agreements were for any reason determined to be in breach of any existing or future PRC laws or regulations, the relevant regulatory authorities would have broad discretion in dealing with such breach, including:

 

  imposing economic penalties;
     
  discontinuing or restricting the operations of Xianning Xiangtian;

 

  imposing conditions or requirements in respect of the New VIE Agreements with which Xianning Xiangtian may not be able to comply;
     
  requiring our Company to restructure the relevant ownership structure or operations;
     
  taking other regulatory or enforcement actions that could adversely affect our Company’s business; and
     
  revoking the business licenses and/or the licenses or certificates of Xianning Xiangtian, and/or voiding the New VIE Agreements.

 

Any of these actions could adversely affect our ability to manage, operate and gain the financial benefits of Xianning Xiangtian, which would have a material adverse impact on our business, financial condition and results of operations.

 

Our ability to control Xianning Xiangtian under the New VIE Agreements may not be as effective as direct ownership.

 

We conduct our business in the PRC and currently generate virtually all of our revenues through the New VIE Agreements. Our plans for future growth are based substantially on growing the operations of Xianning Xiangtian. However, the New VIE Agreements may not be as effective in providing us with control over Xianning Xiangtian as direct ownership. The New VIE Agreements provide us with day-to-day control over the operations of Xianning Xiangtian as we provide Xianning Xiangtian with complete business support and technical support and related management, training and consulting services. Under the current VIE arrangements, as a legal matter, if Xianning Xiangtian fails to perform its obligations under these contractual arrangements, we may have to (i) incur substantial costs and resources to enforce such arrangements, and (ii) rely on legal remedies under PRC law, which we cannot be sure would be effective. Therefore, if we are unable to effectively control Xianning Xiangtian, it may have an adverse effect on our ability to achieve our business objectives and grow our revenues.

 

As the New VIE Agreements are governed by PRC law, we would be required to rely on PRC law to enforce our rights and remedies under them; however, PRC law may not provide us with the same rights and remedies as are available in contractual disputes governed by the law of other jurisdictions.

 

The New VIE Agreements are governed by PRC law and provide for the resolution of disputes through the arbitration institute in the PRC. If Xianning Xiangtian or its shareholders fail to perform the obligations under the New VIE Agreements, we would be required to resort to legal remedies available under PRC law, including seeking specific performance or injunctive relief, or claiming damages. We cannot be sure that such remedies would provide us with effective means of causing Xianning Xiangtian or its shareholders to meet their obligations, or recovering any losses or damages as a result of non-performance. Further, the legal environment in China is not as developed as in other jurisdictions. Uncertainties in the application of various laws, rules, regulations or policies in PRC legal system could limit our liability to enforce the New VIE Agreements and protect our interests.

 

Any failure by our variable interest entity or its shareholders to perform their obligations under the New VIE Agreements would have a material adverse effect on our business. 

 

If our variable interest entity or its shareholders fail to perform their respective obligations under the contractual arrangements, we may have to incur substantial costs and expend additional resources to enforce such arrangements. We may also have to rely on legal remedies under PRC laws, including seeking specific performance or injunctive relief, and claiming damages, which we cannot assure you will be effective under PRC laws. For example, if the shareholders of Xianning Xiangtian were to refuse to transfer their equity interest in Xianning Xiangtian to us or our designee if we exercise the purchase option pursuant to these contractual arrangements, or if they were otherwise to act in bad faith toward us, then we may have to take legal actions to compel them to perform their contractual obligations.

 

34

 

 

All the agreements under our contractual arrangements are governed by PRC laws and provide for the resolution of disputes through arbitration in China. Accordingly, these contracts would be interpreted in accordance with PRC laws and any disputes would be resolved in accordance with PRC legal procedures. The legal system in the PRC is not as developed as in some other jurisdictions, such as the United States. As a result, uncertainties in the PRC legal system could limit our ability to enforce these contractual arrangements. Meanwhile, there are very few precedents and little formal guidance as to how contractual arrangements in the context of a consolidated variable interest entity should be interpreted or enforced under PRC laws. There remain significant uncertainties regarding the ultimate outcome of such arbitration should legal action become necessary. In addition, under PRC laws, rulings by arbitrators are final and parties cannot appeal arbitration results in court unless such rulings are revoked or determined unenforceable by a competent court. If the losing parties fail to carry out the arbitration awards within a prescribed time limit, the prevailing parties may only enforce the arbitration awards in PRC courts through arbitration award recognition proceedings, which would require additional expenses and delay. In the event that we are unable to enforce these contractual arrangements, or if we suffer significant delay or other obstacles in the process of enforcing these contractual arrangements, we may not be able to exert effective control over our variable interest entity, and our ability to conduct our business may be negatively affected.

 

The payment arrangement under the New VIE Agreements may be challenged by the PRC tax authorities.

 

We generate our revenues through the payments we receive pursuant to the New VIE Agreements. Currently, all of our operations reside in the VIE which is required to pay our wholly-owned subsidiary, Xiangtian Shenzhen, 100% of the total annual net profit, as defined. We could face adverse tax consequences if the PRC tax authorities determine that the New VIE Agreements were not entered into based on arm’s length negotiations. For example, PRC tax authorities may adjust our income and expenses for PRC tax purposes which could result in our being subject to higher taxes liability, or cause other adverse financial consequences.

 

We may lose the ability to use and enjoy assets held by our variable interest entity that are material to the operation of our business if the entity goes bankrupt or becomes subject to a dissolution or liquidation proceeding.

 

Our variable interest entity holds certain assets that are material to the operation of our business. Under the contractual arrangements, our variable interest entity may not and its shareholders may not cause it to, in any manner, sell, transfer, mortgage or dispose of its assets or its legal or beneficial interests in the business without our prior consent. However, in the event our variable interest entity’s equity holders breach the these contractual arrangements and voluntarily liquidate our variable interest entity, or our variable interest entity declares bankruptcy and all or part of its assets become subject to liens or rights of third-party creditors, or are otherwise disposed of without our consent, we may be unable to continue some or all of our business activities, which could materially and adversely affect our business, financial condition and results of operations. If our variable interest entity undergoes a voluntary or involuntary liquidation proceeding, independent third-party creditors may claim rights to some or all of these assets, thereby hindering our ability to operate our business, which could materially and adversely affect our business, financial condition and results of operations.

 

If the chops of our PRC subsidiary, variable interest entity and its subsidiaries are not kept safely, are stolen or are used by unauthorized persons or for unauthorized purposes, the corporate governance of these entities could be severely and adversely compromised.

 

In China, a company chop or seal serves as the legal representation of the company towards third parties even when unaccompanied by a signature. Each legally registered company in China is required to maintain a company chop, which must be registered with the local Public Security Bureau. In addition to this mandatory company chop, companies may have several other chops which can be used for specific purposes. The chops of our PRC subsidiary, variable interest entity or its subsidiaries are generally held securely by personnel designated or approved by us in accordance with our internal control procedures. To the extent those chops are not kept safely, are stolen or are used by unauthorized persons or for unauthorized purposes, the corporate governance of these entities could be severely and adversely compromised and those corporate entities may be bound to abide by the terms of any documents so chopped, even if they were chopped by an individual who lacked the requisite power and authority to do so. In addition, if the chops are misused by unauthorized persons, we could experience disruption to our normal business operations. We may have to take corporate or legal action, which could involve significant time and resources to resolve while distracting management from our operations.

 

PRC regulation of loans to, and direct investment in, PRC entities by offshore holding companies and governmental control of currency conversion could limit our use of the proceeds we receive from this offering to fund our expansion or operations.

 

As an offshore holding company with PRC subsidiaries, we may transfer funds to our PRC subsidiaries or finance our operating entity by means of loans or capital contributions. Any loans to our PRC subsidiaries, which are foreign-invested enterprises, cannot exceed statutory limits based on the difference between the amount of our investments and registered capital in such subsidiaries, and shall be registered with SAFE, or its local counterparts. Furthermore, any capital increase contributions we make to our PRC subsidiaries, which are foreign-invested enterprises, shall be approved by China’s Ministry of Commerce, or its local counterparts. We may not be able to obtain these government registrations or approvals on a timely basis, if at all. If we fail to receive such registrations or approvals, our ability to provide loans or capital to increase contributions to our PRC subsidiaries may be negatively affected, which could adversely affect our liquidity and our ability to fund and expand our business.

 

ITEM 1B. Unresolved Staff Comments

 

None.

 

35

 

 

ITEM 2. Properties

 

Sanhe Xiangtian leases its principal office, factory and dormitory from LuckSky Group in Sanhe City, Hebei Province. LuckSky Group is owned by Zhou Deng Rong, our former Chief Executive Officer, and Zhou Jian, our General Manager and Chairman of the Board. The space in the office, factory and dormitory being leased are 1296, 5160 and 1200 square meters, respectively. The office and factory space are leased for a rent of $102,295 (RMB 697,248) per year and the dormitory is leased for a rent of $19,014 (RMB 129,600) per year. The leases expire in April 30, 2024 and are subject to renewal with a prior two-month written notice. LuckSky Group is in the process of obtaining the land use approval and ownership certificate of the leased building.

 

On April 28, 2012, Zhou Jian obtained the land use right to 44.3 acres of agricultural land where Sanhe Xiangtian’s principal office, factory and dormitory are located for 18 years and 8 months, starting May 1, 2012. The annual price paid for such land use rights is $5,200 (RMB 34,510). On May 1, 2012, Zhou Jian signed a commitment letter that allowed Xiangtian Kelitai, Yanjiao Branch, a division of LuckSky Group to use this agricultural land. LuckSky Group constructed the buildings on such agricultural land. In the event we are unable to use our principal factory and office space as a result of this usage issue, the lease provides that LuckSky Group will use every effort to complete and perfect the ownership and usage rights, or provide Sanhe Xiangtian with equivalent space.

 

Sanhe Xiangtian leased another office in Sanhe City from Sanhe Dong Yi with the lease term expiring on June 14, 2019 for a rent of approximately $7,000 (RMB 48,000) per year.

 

On July 27, 2018, Xianning Xiangtian entered into a lease with Xianning Lucksky Aerodynamic Electricity Ltd. The space in the factory in Xianning in Hubei province being leased is 3,128 square meters. The factory space is leased for a rent of $17,561 (RMB 114,172) per year. The lease starts on August 1, 2018 and expires on July 31, 2020 and is subject to renewal with a prior one-month written notice.

 

On April 20, 2018, Jianshan Sanhe entered into a lease with Hubei Shuangxin Energy Technology Co, Ltd. Pursuant to the agreement, Jianshan Sanhe obtained the land use right of 59,956 square meters of office and factory for 5 years, starting April 19, 2018. The annual lease payment is RMB 3 million (US$0.4 million).

 

Hubei Jinli owns a factory with an area of 6,025.44 square meters and office building with an area of 1,899 square meters. The land use right runs from May 6, 2008 to November 11, 2056.

 

Tianjin Jiabaili leased the land use right of a land located at Jixian of Tianjin City for its factory from August 8, 2006 to August 8, 2026. The annual lease payment is RMB 3,000 (US$440). On July 9, 2018, Tianjin Jiabaili entered into a 5-year lease agreement with an individual for office space. Pursuant to the lease, Tianjin Jiabaili will pay an annual rent of RMB136,000 (US$20,918).

 

Xiangtian Zhongdian entered into a lease agreement with Xianning Lucksky Aerodynamic Electricity Ltd. for factory space and research center of 4,628 square meters with a one-year term. Pursuant to the lease, the annual payment is RMB168,922 (US$25,982).

 

ITEM 3. Legal Proceedings

 

There are no material pending legal proceedings to which we are a party or to which any of our property is subject and to the best of our knowledge, no such actions against us are contemplated or threatened.

 

ITEM 4. Mine Safety Disclosures

 

Not applicable.

 

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PART II

 

ITEM 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Repurchases of Equity Securities

 

Market Information

 

Our Common Stock is quoted on the OCTQB tier of the OTC Markets (“OTCQB”) under the symbol “XTNY.”

 

The following table shows, for each quarter of the 2018 and 2017 fiscal years, the range of reported high and low bid quotations of our Common Stock as reported by the OTCQB. The quotations from the OTCQB reflect inter-dealer prices without retail mark-up, mark-down, or commissions and may not represent actual transactions.

 

   High   Low 
         
2018:        
Fourth quarter, ended July 31, 2018  $4.64   $4.64 
Third quarter, ended April 30, 2018   4.20    4.20 
Second quarter ended January 31, 2018   3.90    3.90 
First quarter ended October 31, 2017   2.78    2.78 
           
2017:          
Fourth quarter, ended July 31, 2017  $4.00   $2.71 
Third quarter, ended April 30, 2017   3.18    2.20 
Second quarter ended January 31, 2017   5.00    2.21 
First quarter ended October 31, 2016   5.36    2.00 

 

The last reported sale price for our Common Stock on OTCQB on October 26, 2018 was $3.90 per share.

 

VSTOCK Transfer, LLC is our stock transfer agent. They can be contacted by telephone at (212) 828-8436 and by facsimile at (646) 536-3179.

 

Holders

 

As of October 26, 2018, 591,042,000 shares of Common Stock were issued and outstanding and there were 364 shareholders of record of our Common Stock.

 

Recent Sales of Unregistered Securities

 

None.

 

Dividends

 

We have never declared or paid any cash dividends on our Common Stock. For the foreseeable future, we intend to retain any earnings to finance the development and expansion of our business, and we do not anticipate paying any cash dividends on Common Stock. Any future determination to pay dividends will be at the discretion of the Board of Directors and will be dependent upon then existing conditions, including our financial condition and results of operations, capital requirements, contractual restrictions, business prospects, and other factors that the board of directors considers relevant.

 

The payment of dividends is contingent on the ability of our PRC based operating subsidiary to obtain approval to send monies out of the PRC. RMB is not a freely convertible currency. The PRC government imposes controls on the convertibility of renminbi into foreign currencies and, in certain cases, the remittance of currency out of the PRC. Shortages in the availability of foreign currency may restrict our ability to remit sufficient foreign currency to pay dividends.

 

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Securities Authorized for Issuance under Equity Compensation Plans

 

In June 2017, the Company’s Board of Directors adopted without the approval of the stockholders a stock incentive plan, the Xiangtian (USA) Air Power Co. Ltd. 2017 Stock Incentive Plan, but has no pension plan, non-equity incentive plan or deferred compensation arrangement. We have not made any awards under the plan. We adopted the plan to attract and retain members of management, directors or key employees. No securities have been issued under the plan.

 

Plan category  Number of securities to be issued upon exercise of outstanding options, warrants and rights   Weighted-average exercise price of outstanding options, warrants and rights   Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a)) 
   (a)   (b)   (c) 
Equity compensation plans approved by security holders        -                    -    - 
Equity compensation plans not approved by security holders             30,000,000 
Total             30,000,000 

 

ITEM 6. SELECTED FINANCIAL DATA

 

You should read the following selected consolidated financial data below in conjunction with Management’s Discussion and Analysis of Financial Condition and Results of Operations and the consolidated financial statements, the accompanying notes and other financial information included elsewhere in this annual report. The selected consolidated financial data in this section are not intended to replace the consolidated financial statements and are qualified in their entirety by the consolidated financial statements and the accompanying notes included elsewhere in this elsewhere in this annual report.

 

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The consolidated statements of operations data for the years ended July 31, 2018, 2017, and 2016 and the consolidated balance sheets data as of July 31, 2018 and 2017 are derived from our audited consolidated financial statements included elsewhere in this annual report. The consolidated statements of operations data for the years ended July 31, 2015 and 2014 and the consolidated balance sheets data as of July 31, 2016, 2015 and 2014 are derived from our audited consolidated financial statements included in our prior annual reports. Our historical results are not necessarily indicative of the results that may be expected in any future period.

 

   Year Ended July 31, 
   2018   2017   2016   2015   2014 
Consolidated statement of operations data:                    
Revenue  $15,269,788   $9,521,371   $10,839,955   $20,772,028   $- 
Cost of revenue   12,631,464    8,543,207    9,642,803    17,781,011    - 
Gross profit   2,638,324    978,164    1,197,152    2,991,017    - 
Operating expenses   3,487,755    5,393,633    1,723,863    1,237,953    750,606 
Income (loss) from operations   (849,431)   (4,415,469)   (526,711)   1,753,064    (750,606)
Other income (expenses), net   (269,844)   9,551    145,209    (178,764)   (44,520)
Income (loss) before income taxes   (1,119,275)   (4,405,918)   (381,502)   1,574,300    (795,126)
Income tax expense   (180,147)   (158,241)   (226,682)   (916,840)   113,932 
Net income (loss)   (1,299,422)   (4,564,159)   (608,184)   657,460    (681,194)
Less: Net income attributable to non-controlling interest   66,883    -    -    -    - 
Net income (loss) attributable to common stockholders   (1,366,305)  $(4,564,159)  $(608,184)  $657,460   $(681,194)
Net income (loss) per share attributable to common stockholders                         
Basic & Diluted   (0.00)  $(0.01)  $(0.00)  $0.00   $(0.00)

 

   As of July 31, 
   2018   2017   2016   2015   2014 
                     
Consolidated balance sheet data:                    
Cash  $14,245,783   $1,156,969   $1,226,220   $502,029   $556,788 
Notes receivable   1,303,443    -    -    -    - 
Accounts receivable, net   5,142,780    1,142,631    2,848,904    4,720,093    - 
Inventories, net   5,141,533    550,413    2,080,853    1,463,856    1,142,726 
Advances to suppliers   1,101,472    1,168,867    4,594,299    5,173,680    7,490,564 
Costs and estimated earnings in excess of earnings   2,883,408    2,916,902    710,652    -    - 
Loan receivables   1,759,428    -    -    -    - 
Other current assets   1,881,586    12,308    617,685    1,693,818    1,921,347 
Total current assets   33,459,433    6,948,090    12,078,613    13,553,476    11,111,425 
                          
Property, plant and equipment, net   11,966,233    4,330,333    4,520,735    7,679,323    6,779,256 
Intangible assets, net   9,260,643    -    -    -    - 
Deposit for property, plant and equipment   -    2,080,436    178,617    90,826    1,590,581 
Goodwill   4,133,143    -    -    -    - 
Other non-current assets   208,498    -    -    -    - 
Total assets   59,027,950    13,358,859    16,777,965    21,323,625    19,481,262 
Total current liabilities   48,365,755    9,352,725    8,275,631    9,086,256    7,884,626 
Capital lease obligations - non-current   -    -    -    2,687,887    2,718,106 
Investment payable - non-current   7,205,133    -    -    -    - 
Total stockholders’ equity  $3,457,062   $4,006,134   $8,502,334   $9,549,482   $8,878,530 

 

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ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

Overview

  

The Company is engaged in a variety of energy-related businesses through its subsidiaries and controlled entities in China. One of the businesses is in the field of compressed air energy storage in China and produces electricity generation systems that combine its compressed air storage technology with PV panels to achieve a continuous supply of power under weather conditions that are unfavorable to the generation of electricity from PV panels alone. The sales and installation of power generation systems and PV systems and the sales of PV Panels, air compression equipment and heat pump products have been carried through the Company’s variable interest entity, Xianning Xiangtian, and its subsidiaries.

 

In March 2018, the Company formed a joint venture, Xiangtian Zhongdian, with Nanjing Zhongdian Photovoltaic Co. Ltd and owns 70% equity interest of Xiangtian Zhongdian. Xiangtian Zhongdian is in the business of manufacturing and sales of PV panels.

 

In April 2018, the Company formed a wholly-owned subsidiary, Jingshan Sanhe, which is engaged in the business of research, manufacturing and sales of high-grade synthetic products.

 

In June 2018, the Company acquired Hubei Jinli, which is engaged in the business of manufacturing and sales of hydraulic parts and electronic components. In the same month, the Company also acquired Tianjin Jiabaili Petroleum Products Co. Ltd. (“Tianjin Jiabaili”), which is engaged in the business of manufacturing and sales of petroleum products.

 

In August 2018, the Company formed a wholly-owned subsidiary, Xiangtian Trade, which is engaged in the business of trading chemical raw materials that provide a stable supply for fuel product operation. Xiangtian Trade has no operations since it was incorporated.

 

Reorganization

 

On September 30, 2018, Xiangtian Shenzhen terminated its VIE Agreements as part of its restructuring to facilitate the shift of business focus between entities controlled by the Company. Upon the completion of the restructuring, our headquarters have been relocated to Xianning, Hubei province, China. The Company’s previous headquarters in the city of Sanhe, Hebei province, are designated as our sales office.

 

40

 

 

In connection with the termination of the VIE Agreements, on September 30, 2018, Sanhe Xiangtian transferred its 100% equity interest of Xianning Xiangtian to the Sanhe Xiangtian Shareholders and the Sanhe Xiangtian Shareholders transferred their 100% equity interest of Sanhe Xiangtian to Xianning Xiangtian. As a result of the foregoing equity transfers, Sanhe Xiangtian became a wholly owned subsidiary of Xianning Xiangtian.

 

On the same day, the Company, through Xiangtian Shenzhen and Xiangtian HK, entered into the New VIE Agreements, pursuant to which Xianning Xiangtian became the Company’s new contractually controlled affiliate. The New VIE Agreements allow us to:

 

exercise effective control over Xianning Xiangtian;

 

receive substantially all of the economic benefits of Xianning Xiangtian; and

 

have an exclusive option to purchase all or part of the equity interests in Xianning Xiangtian when and to the extent permitted by the laws of PRC.

 

As a result of these contractual arrangements, the Company has become the primary beneficiary of Xianning Xiangtian, and it treats Xianning Xiangtian as its variable interest entity under U.S. GAAP. The Company will continue to consolidate the financial results of Xianning Xiangtian in our consolidated financial statements in accordance with U.S. GAAP. The above reorganization has no effect to the Company’s consolidated financial statements for the current period and thereafter.

 

Results of Operations

 

The following discussion should be read in conjunction with the audited consolidated financial statement of the Company for the years ended July 31, 2018, 2017 and 2016 and related notes thereto.

 

The Year Ended July 31, 2018 Compared to the Year Ended July 31, 2017

 

Revenue

 

Our revenue consisted of installation of power generation systems and the sales of PV Panels, air compression equipment, heat pump products, high-grade synthetic fuel products, hydraulic parts and electronic components for the year ended July 31, 2018.

 

Total revenues increased by $5,748,417, or 60.4%, to $15,269,788 for the year ended July 31, 2018 as compared to $9,521,371 for the year ended July 31, 2017. The overall increase was primarily attributable to the increase of our sales of PV panels, air compression equipment, heat pumps, high-grade synthetic fuel, and hydraulic parts and electronic components offset by the decrease in revenue of the installation of power generation systems.

 

Our revenue from our revenue categories is summarized as follows:

 

   For the Year ended
July 31, 2018
   For the Year ended
July 31, 2017
   Change   Change (%) 
                 
Revenue                
Installation of power generation systems  $5,456,463   $7,299,943   $(1,843,480)   (25.3)%
PV panels and others   5,583,858    2,221,428    3,362,430    151.4%
Air compression equipment   1,101,744    -    1,101,744    100.0%
Heat pumps   1,533,845    -    1,533,845    100.0%
High-grade synthetic fuel   1,351,215    -    1,351,215    100.0%
Hydraulic parts and electronic components   242,663    -    242,663    100.0%
Total revenue  $15,269,788   $9,521,371   $5,748,417    60.4%

 

41

 

 

Installation of power generation systems revenue decreased by $1,843,480 or 25.3% from $7,299,943 for the year ended July 31, 2017 to $5,456,463 for the year ended July 31, 2018 as our customers started using their own installation team while only purchasing the PV panels, air compression equipment and heat pumps from us during the year ended July 31, 2018. The change is consistent with the increase in sales of PV panels by $3,362,430 or 151.4%, increase in sales of air compression equipment by $1,101,744 or 100% and the increase in sales of heat pumps by $1,533,845 or 100% for the year ended July 31, 2018 as compared to the year ended July 31, 2017. These three types of products are parts of the installation of power generation systems, which were not sold separately during the year ended July 31, 2017 while we sold them as separate components during the year ended July 31, 2018, which resulted in the increase of sales revenues. We expect our air compression systems and products sales will go down in the future as the demand for them is lower as compared to our PV products since the cost of PV electricity is generally cheaper. The increase in sales of PV panels is also attributable to the establishment of Xiangtian Zhongdian in March 2018, which is in the business of manufacturing and sales of PV panels, and contributed $3,682,011 of revenues for the year ended July 31, 2018.

 

During the quarter ended July 31, 2018, the Company recognized sales and installation of power generation systems of approximately $2.1 million with gross profit of approximately $343,000 and sales of PV panels of approximately $1.5 million with gross profit of approximately $245,000. The completion of installation and delivery of products occurred during the quarter ended July 31, 2017. These revenues were contributed from the same customer and being deferred and recognized during the quarter ended July 31, 2018 mainly because the collectability were assured after additional inspections of the Company’s projects and products with payment approval in September 2018 before the issuance of the Company’s financial statements for the fiscal year 2018. The Company also performed an impairment test on the deferred cost as of July 31, 2017 and determined no allowance on deferred cost were deemed necessary as the Company’s products can easily be dismantled and resold above its deferred cost if the Company were unable to pass the second inspections.

 

Sales of high-grade synthetic fuel increased by $1,351,215 or 100% for the year ended July 31, 2018 as compared to the year ended July 31, 2017 due to our establishment of Jingshan Sanhe in April 2018 which is engaged in the business of researching, manufacturing and sales of high-grade synthetic fuel products. We expect our sales of high-grade synthetic fuel will continue to increase significantly as we expand our product offering to include synthetic fuel for diesel vehicles, which just passed the testing inspection.

 

Sales of hydraulic parts and electronic components increased by $242,663 or 100% for the year ended July 31, 2018 as compared to the year ended July 31, 2017 due to our acquisition of Hubei Jinli in June 2018 which is engaged in the business of manufacturing and sales of hydraulic parts and electronic components.

 

Cost of Revenue

 

Total cost of revenue increased by $4,088,257, or 47.9%, to $12,631,464 for the year ended July 31, 2018 as compared to $8,543,207 for the year ended July 31, 2017. The increase in cost of revenue was in line with the increase of revenue.

 

Our cost of revenue from our revenue categories are summarized as follows:

 

   For the Year ended
July 31, 2018
   For the Year ended
July 31, 2017
   Change   Change (%) 
                 
Cost of revenue                
Installation of power generation systems  $4,721,798   $6,332,093   $(1,610,295)   (25.4)%
PV panels and others   4,860,179    2,211,114    2,649,065    119.8%
Air compression equipment   910,680    -    910,680    100.0%
Heat pumps   1,100,448    -    1,100,448    100.0%
High-grade synthetic fuel   834,070    -    834,070    100.0%
Hydraulic parts and electronic components   204,289    -    204,289    100.0%
Total cost of revenue  $12,631,464   $8,543,207   $4,088,257    47.9%

 

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Gross Profit

 

Our gross profit from our major revenue categories are summarized as follows:

 

   For the Year ended
July 31, 2018
   For the Year ended
July 31, 2017
   Change   Change (%) 
                 
Installation of power generation systems                
Gross profit  $734,665   $967,850   $(233,185)   (24.1)%
Gross margin   13.5%   13.3%   0.2%     
                     
PV panels and others                    
Gross profit  $723,679   $10,314   $713,365    12.5%
Gross margin   13.0%   0.5%   12.5%     
                     
Air compression equipment                    
Gross profit  $191,064   $-   $191,064    100.0%
Gross margin   17.3%   -%   17.3%     
                     
Heat pumps                    
Gross profit  $433,397   $-   $433,397    100.0%
Gross margin   28.3%   -%   28.3%     
                     
High-grade synthetic fuel                    
Gross profit  $517,145   $-   $517,145    100.0%
Gross margin   38.3%   -%   38.3%     
                     
Hydraulic parts and electronic components                    
Gross profit  $38,374   $-   $38,374    100.0%
Gross margin   15.8%   -%   15.8%     
                     
Total                    
Gross profit  $2,638,324   $978,164   $1,660,160    169.7%
Gross margin   17.3%   10.3%   7.0%     

 

Our gross profit increased by $1,660,160, or 169.7%, to $2,638,324 during the year ended July 31, 2018, from $978,164 for the year ended July 31, 2017. The increase in gross profit was primarily due to the significant increase of revenues contributed by Xiangtian Zhongdian, established in March 2018, Jingshan Sanhe, established in April 2018, and Hubei Jinli, acquired in June 2018.

 

For the years ended July 31, 2018 and 2017, our overall gross profit percentage was 17.3% and 10.3%, respectively. The increase in gross profit percentage was primarily due to the increase of revenue for our high-grade synthetic fuel products, which were new products sold by our Company from 2018 and generally have a higher gross profit percentage.

 

Gross profit percentage for our installation of power generation systems revenue was consistent at 13.5% and 13.3% for the years ended July 31, 2018 and 2017, respectively, due to the fact there we were trying to stay competitive in our operations of bidding our installation projects while ensuring that we maintain our profitability within similar profit range.

 

Gross profit percentage for PV panels and others revenue was 13.0% and 0.5% for the years ended July 31, 2018 and 2017, respectively. The increase of gross profit percentage was mainly due to recognizing an inventory obsolescence loss of $337,000 for the year ended July 31, 2017 that drove down our gross profit percentage to 0.5% for the year ended July 31, 2017 while we did not have such inventory obsolescence losses for the year ended July 31, 2018.

 

Operating Expenses

 

Total operating expenses decreased by $1,905,878 or 35.3% from $5,393,633 during the year ended July 31, 2017 to $3,487,755 during the year ended July 31, 2018. The decrease in operating expenses were mainly attributable to the decrease in provision for doubtful accounts of $1,395,152, the increase of recovery for doubtful accounts of $119,003, and the decrease of impairment of advance to suppliers of $1,404,565 offset by the increase of selling expenses of $268,212 and the increase of general and administrative expenses of $744,630 for the year ended July 31, 2018 as compared to the year ended July 31, 2017.

 

The increase of selling expenses of approximately $268,000 is mainly attributable to the increase of sales agent and commission fees of approximately $125,000, the increase of commissions to our sales staff of approximately $62,000, the increase of travel expenses of approximately $33,000, the increase of shipping expenses of approximately $25,000, and the increase of other miscellaneous selling expenses, such as meals and entertainment, deprecation, and advertising of approximately $23,000. The above increases are mainly attributable to the increased operations from Xiangtian Zhongdian, established in March 2018, Jingshan Sanhe, established in April 2018, and Hubei Jinli, acquired in June 2018.

43

 

 

The increase of general and administrative (“G&A”) expenses of approximately $745,000 is mainly attributable to the increase of rental expenses of approximately $146,000, the increase of depreciation and amortization expense of approximately $144,000, the increase of salary and social insurance expenses of approximately $134,000, the increase of professional fees such as legal, audit and consulting of approximately $99,000, the increase of product inspection expense of approximately $140,000, the increase of late filing U.S. tax return penalty of approximately $80,000, and the increase of other miscellaneous G&A expenses $1,000. The above increases are mainly attributable to the increased operations from Xiangtian Zhongdian, established in March 2018, Jingshan Sanhe, established in April 2018, Hubei Jinli, acquired in June 2018 and Tianjin Jiabaili acquired in June 2018.

 

Research and Development (“R&D”)

 

For the year ended July 31, 2018 and 2017, we have incurred R&D expense of $3,677 and $0, respectively. We have not incurred any significant expenses for research and development from inception through July 31, 2018. Company employees only conduct basic research and do not work on a specific plan or project to which expenses can be allocated.

 

Other income (expenses), net

 

Total other income (expenses) decreased by $279,395 from $9,551 of other income during the year ended July 31, 2017 to $269,844 of other expenses during the year ended July 31, 2018. The decrease in total income (expenses) mainly attributable to related parties loan and third parties loan that we obtained in 2018 to pay for the initial acquisition payments in relation to the acquisition of Hubei Jinli and Tianjin Jiabaili in June 2018. In addition, Hubei Jinli has existing bank loans prior to our acquisition. As a result, we have incurred approximately $256,000 interest expenses for the year ended July 31, 2018 as compared to $0 for the year ended July 31, 2017. Furthermore, the acquisition of Hubei Jinli also includes three installment payments to be due on each of the June 20 of 2019, 2020 and 2021, which resulted in amortization of debt discount of our investment payable of approximately $43,000 for the year ended July 31, 2018 as compared to $0 for the year ended July 31, 2017.

 

Income tax expense

 

Our income tax expense was $180,147 and $158,241 for the years ended July 31, 2018 and 2017, respectively. Although we had net loss before income taxes, our income tax expense was incurred by our profitable variable interest entity and its subsidiaries in both periods and we have provided 100% allowance on net operating losses for our variable interest entity and its subsidiaries for which it has incurred losses.

 

Net loss

 

Our net loss decreased by $3,264,737, or 71.5%, to $1,299,422 for the year ended July 31, 2018, from $4,564,159 for the year ended July 31, 2017. Such change was the result of the combination of the changes as discussed above.

 

The Year Ended July 31, 2017 Compared to the Year Ended July 31, 2016

 

Revenue

 

We recognized revenue of $9,521,371 and $10,839,955 for the years ended July 31, 2017 and 2016, a decrease of 12%. For the year ended July 31, 2017, sales of inventories totaled $2,177,783 compared to zero for the year ended July 31, 2016.

 

For the years ended July 31, 2017 and 2016, the gross revenue recognized under completed-contract method was $6,894,866 and $9,997,256, respectively. For the years ended July 31, 2017 and 2016, the gross revenue recognized under percentage-of-completion method was $405,077 and $874,510, respectively.

 

Cost of Revenue

 

We have recognized $8,543,207 and $9,642,803 cost of revenue for the years ended July 31, 2017 and 2016. The decrease in cost of revenue was in line with the decrease in revenue.

 

44

 

 

Gross Profit

 

Gross profit was $978,164 and $1,197,152 for the years ended July 31, 2017 and 2016.

 

Operating Expenses

 

For the year ended July 31, 2017, we incurred total operating expenses in the amount of $5,393,633, which was mainly comprised of selling expenses of $33,436, professional fees of $820,990, salary expenses of $912,635, rental fees of $159,052, depreciation expenses of $259,232, accounts receivable allowance of $1,395,143, prepayment impairment loss of $1,404,555, warranty provision of $65,833 and general and administrative expenses of $342,757.

 

For the year ended July 31, 2016, we incurred total operating expenses in the amount of $1,723,863, which was mainly comprised of selling expenses of $24,184, professional fees of $657,045, salary expenses of $501,294, rental fees of $133,835, depreciation expenses of $64,952, accounts receivable impairment loss of $60,242 and general and administrative expenses of $282,311.

 

The substantial increase of $3,669,770, or 213% in 2017, was primarily due to an increase of $411,341 in salary expenses and $194,134 in depreciation expenses for a larger scale of operations in Sanhe Xiangtian and Xianning Xiangtian; an increase of $163,945 professional expense (including an increase in the audit fee by $110,000 and corporate consulting fee by $53,945), an increase of warranty provision of $65,833, accounts receivable allowance of $1,334,901, prepayment impairment loss of $1,404,555, and others of $95,061.

 

We have not incurred any expenses for research and development from inception through July 31, 2017. Company employees only conduct basic research and do not work on a specific plan or project to which expenses can be allocated.

 

Liquidity and Capital Resources

 

Capital Resources

 

In assessing our liquidity, we monitor and analyze our cash on-hand and our operating and capital expenditure commitments. Our liquidity needs are to meet our working capital requirements, operating expenses and capital expenditure obligations. Debt financing in the form of loans from related parties have been utilized to finance our working capital requirements. As of July 31, 2018, our working capital deficiency was approximately $14.9 million. Although we believe that we can realize our current assets in the normal course of business, our ability to repay our current obligations will depend on the future realization of our current assets and the future operating revenues generated from our operations.

 

We expect to realize the balance of our current assets within the normal operating cycle of a twelve-month period. If we are unable to realize our current assets within the normal operating cycle of a twelve-month period, we may have to consider supplementing its available sources of funds through the following sources:

 

 

we will continuously seek equity financing to support our working capital;
     
  other available sources of financing from PRC banks and other financial institutions;
     
  financial support and credit guarantee commitments from our related parties or to obtain due date extension of approximately $10.0 million current payable balance as of July 31, 2018 from our related parties.
     
  capital contribution from our related parties by executing a registered capital increase plan in Xianning Xiangtian, which Zhou Jian, subsequent to July 31, 2018, has provided RMB 100,000,000 (approximately $14.7 million) capital contribution in Xianning Xiangtian.

 

Based on the above considerations, our management is of the opinion that we have sufficient funds to meet our working capital requirements and debt obligations as they become due one year from the date of this report. However, there is no assurance that management will be successful in our plans. There are a number of factors that could potentially arise that could undermine our plans, such as changes in the demand for our products or installations, PRC government policy, economic conditions, and competitive pricing in the industries that we operated in.

 

45

 

 

The following summarizes the key components of our cash flows for the years ended July 31, 2018, 2017 and 2016.

 

   For the Years Ended July 31, 
   2018   2017   2016 
Net cash (used in) provided by operating activities  $(389,902)  $944,246   $375,668 
Net cash used in investing activities   (7,178,565)   (1,813,140)   (246,139)
Net cash provided by financing activities   21,316,253    947,729    918,644 
Effect of exchange rate change on cash   (658,972)   (148,086)   (323,982)
Net change in cash  $13,088,814   $(69,251)  $724,191 

 

Comparison of Fiscal Years Ended July 31, 2018 to July 31, 2017

 

As of July 31, 2018, and 2017, we had a cash balance of $14,245,783 and $1,156,969, respectively.

 

Operating activities

 

Net cash used in operating activities was approximately $0.4 million for the year ended July 31, 2018 as compared to net cash provided by operating activities of approximately $0.9 million for the year ended July 31, 2017.

 

Cash used in operating activities for the year ended July 31, 2018 was mainly due to net loss of approximately $1.3 million, the increase in notes receivable of approximately $1.4 million as our customers used bank notes to pay for our products which notes will be cashed out within the 3-6 month maturities, the increase in accounts receivable of approximately $1.5 million due to the PV panels credit sales which were made near year end but may not be collected until after the year end, the increase in inventories of approximately $4.4 million which were stocked up in anticipation of our sales after year end, the increase of prepaid expense of approximately $1.6 million as we incurred more VAT credit on our inventories that we can use to offset our sales VAT payables, which is in line with the increase of inventories, offset by the non-cash effect of depreciation and amortization of approximately $0.5 million, the decrease in advance to suppliers of approximately $0.2 million, the increase in accounts payable of approximately $0.4 million as we increased our purchase of our inventories on credit, the increase in other payable and tax payables of approximately $0.6 million as we incurred more payables due to increase of our operations, and the increase of advance from customers of approximately $8.2 million which we received prior to the year-end.

 

Cash provided by operating activities for the year ended July 31, 2017 was mainly due to various non-cash items, such as depreciation expense, provision for warranty expense, allowance for doubtful accounts, impairment of advance to suppliers and inventories, of approximately $3.5 million, the decrease of accounts receivable of approximately $0.3 million, the decrease of inventories of approximately $1.2 million, the decrease of advance to suppliers of approximately $2.0 million, the decrease in other receivables of approximately $0.3 million, the decrease in other current assets of approximately $0.1 million, the increase in accounts payable of approximately $0.2 million and the increase in other payables and taxes payable of approximately $0.3 million offset by net loss of approximately $4.6 million, the increase in costs and estimated earnings in excess of billings of approximately $2.2 million, decrease in advance from customers of approximately $149,000.

 

Investing activities

 

Net cash used in investing activities was approximately $7.2 million for the year ended July 31, 2018 as compared to net cash used in investing activities of approximately $1.8 million for the year ended July 31, 2017.

 

Cash used in investing activities for the year ended July 31, 2018 was mainly due to the partial investment payments of approximately $6.8 million that we made in relation to the acquisition of Hubei Jinli and Tianjin Jiabaili, purchase of property and equipment of approximately $0.5 million for our business expansion in Jingshan Xiangtian and Xiangtian Zhongdian, deposit for an equity investment of approximately $0.5 million which we have already requested for a refund, and loan to a former shareholder of Hubei Jinli which were already repaid by the former shareholder after July 31, 2018, offset by the proceeds from sales of our equipment of approximately $0.9 million.

 

Cash used in investing activities for the year ended July 31, 2017 was mainly due to the purchase of property and equipment of approximately $2.0 million offset by the decrease in other assets of approximately $0.2 million.

 

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Financing activities

 

Net cash provided by financing activities was approximately $21.3 million for the year ended July 31, 2018 as compared to net cash provided by financing activities of approximately $0.9 million for the year ended July 31, 2017.

 

Cash provided by financing activities for the year ended July 31, 2018 was mainly due to the borrowings from related parties and directors of approximately $1.4 million, proceeds from third party loan of approximately $0.2 million, proceeds from related parties loans of approximately $21.1 million offset by the payments of short-term bank loan of $1.4 million.

 

Cash provided by financing activities for the year ended July 31, 2017 was mainly due to the borrowings from related parties and directors of approximately $0.9 million.

 

Comparison of Fiscal Years Ended July 31, 2017 to July 31, 2016

 

As of July 31, 2017 and 2016, we had a cash balance of $1,156,969 and $1,226,220, respectively. During the years ended July 31, 2017 and 2016, net cash generated from operating activities totaled $944,246 and $375,668, respectively. Net cash used in investing activities totaled $1, 813,140 and $246,139 during the fiscal years ended July 31, 2017 and 2016, respectively. Net cash generated from financing activities during the fiscal years ended July 31, 2017 and 2016 totaled $947,729 and $918,644, respectively. The resulting change in cash for the fiscal year ended July 31, 2017 was a decrease of $69,251, which was primarily due to cash inflows from related parties, increase in accounts receivable and decrease in inventory, albeit the cash outflow in purchase of property and equipment, compared to an increase of $724,191 for the fiscal year ended July 31, 2016, which was primarily due to cash inflows from related parties, decrease in accounts receivable and inventory and increase in accounts payable, albeit the cash outflow from decrease in advance form customers and loan made to third parties.

 

As of July 31, 2017, we had current liabilities of $9,352,725, which was mainly comprised of accounts payable and accrued liabilities of $5,015,806, amount due to directors of $500,247, amount due to related parties of $2,352,821, advance from customers of $471,880, other payables of $467,463 and income tax payable of $544,508. As of July 31, 2016, we had current liabilities of $8,275,631, which was mainly comprised of accounts payable and accrued liabilities of $4,851,630, amount due to directors of $414,876, amount due to related parties of $1,716,734, advance from customers of $620,814, other payables of$234,791 and income tax payable of $436,786.

 

We had net assets of $4,006,134 and $8,502,334 as of July 31, 2017 and 2016, respectively.

 

Commitments and Contingencies

 

In the normal course of business, we are subject to loss contingencies, such as legal proceedings and claims arising out of its business, that cover a wide range of matters, including, among others, government investigations and tax matters. In accordance with ASC No. 450-20, “Loss Contingencies”, we will record accruals for such loss contingencies when it is probable that a liability has been incurred and the amount of loss can be reasonably estimated.

 

Contractual Obligations

 

As of July 31, 2018, the future minimum payments under certain of our contractual obligations were as follows:

 

       Payments Due In 
Contractual obligations  Total   Less than 1 year   1 – 3 years   3 – 5 years   Thereafter 
Purchase obligations  $130,695   $130,695   $-   $-   $- 
Operating leases obligations   2,931,629    660,819    1,163,861    1,014,706    92,243 
Long-term debt obligations*   12,138,584    4,064,278    8,074,306    -    - 
Loans obligations   24,123,597    24,123,597    -    -    - 
Due to related parties and third party   4,230,118    4,230,118    -    -    - 
Total  $43,554,623   $33,209,507   $9,238,167   $1,014,706   $92,243 

  

*Represent future value of acquisition payments in relation to our acquisitions of Hubei Jinli and Tianjin Jiabaili.

 

47

 

 

Off-Balance Sheet Arrangements

 

We have no off-balance sheet arrangements including arrangements that would affect our liquidity, capital resources, market risk support and credit risk support or other benefits.

 

Critical Accounting Policies and Estimates

 

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires our management to make assumptions, estimates and judgments that affect the amounts reported, including the notes thereto, and related disclosures of commitments and contingencies, if any. We have identified certain accounting policies that are significant to the preparation of our financial statements. These accounting policies are important for an understanding of our financial condition and results of operation. Critical accounting policies are those that are most important to the portrayal of our financial conditions and results of operations and require management’s difficult, subjective, or complex judgment, often as a result of the need to make estimates about the effect of matters that are inherently uncertain and may change in subsequent periods. Certain accounting estimates are particularly sensitive because of their significance to financial statements and because of the possibility that future events affecting the estimate may differ significantly from management’s current judgments. While our significant accounting policies are more fully described in Note 2 to our consolidated financial statements included elsewhere in this report, we believe the following critical accounting policies involve the most significant estimates and judgments used in the preparation of our financial statements.

 

Use of Estimates and Assumptions

 

The preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities as of the date of the consolidated financial statements and the reported amounts of revenues and expenses during the periods presented. Significant accounting estimates reflected in our consolidated financial statements include the estimated cost used to calculate the percentage of completion recognized in our revenues, the useful lives of property, plant and equipment, impairment of long-lived assets, allowance for accounts receivable doubtful accounts, allowance for inventory obsolescence reserve, allowance for advance to suppliers doubtful accounts, allowance for deferred tax assets, fair value of the assets and the liabilities of the entity acquired through our business combination, valuation of warranty reserves, contingent consideration liabilities, and the accrual of potential liabilities. Actual results could differ from these estimates.

 

Revenue Recognition

 

Revenues are generated from (i) the sale and installation of power generation systems and (ii) the sale of products, which consists of PV panels, air compression equipment, heat pump products, high-grade synthetic fuel products, and hydraulic parts and electronic components.

 

Sale and installation of power generation systems

 

Sales of power generation system in conjunction of system installation are generally recognized using the completed-contract method and revenue is recognized when the contract is substantially complete and when collectability is reasonably assured.

 

For certain contracts that are longer term primarily due to the licensing process, the percentage-of-completion method is used, therefore, take into account the costs, estimated earnings and revenue to date on contracts not yet completed. Revenue recognized is that percentage of the total contract price that costs expended to date bear to anticipated final total costs, based on current estimates of costs to complete. Contract costs include all direct material and labor costs and those indirect costs related to contract performance, such as indirect labor and supplies. Adjustments to the original estimates of the total contract revenue, total contract costs, or the extent of progress toward completion are often required as work progresses. Such changes and refinements in estimation are reflected in reported results of operations as they occur; if material, the effects of changes in estimates are disclosed in the notes to the consolidated financial statements.

 

The key assumptions used in the estimate of costs to complete relate to the unit material cost, the quantity of materials to be used, the installation cost and those indirect costs related to contract performance. The estimate of unit material cost is reviewed and updated on a quarterly basis, based on the updated information available in the supply markets. The estimate of material quantity to be used for completion and the installation cost is also reviewed and updated on a quarterly basis, based on the updated information on the progress of project execution. If the supply market conditions or the progress of project execution were different, it is likely that materially different amounts of contract costs would be used in the percentage of completion method of accounting. Thus the uncertainty associated with those estimates may impact our consolidated financial statements. Selling, general, and administrative costs are charged to expense as incurred. At the time a loss on a contract becomes known, the entire amount of the estimated ultimate loss is recognized in the consolidated financial statements. Claims for additional contract costs are recognized upon a signed change order from the customer.

 

48

 

 

Sales of products

 

Sales of products is recognized when the following four revenue recognition criteria are met: (i) persuasive evidence of an arrangement exists, (ii) delivery has occurred or services have been rendered, (iii) the selling price is fixed or determinable, and (iv) collectability is reasonably assured.

 

Warranty

 

We generally provide limited warranties for work performed under its contracts. The warranty periods typically extend for a limited duration following substantial completion of our work on a project. At the time a sale is recognized, we record estimated future warranty costs. Such estimated costs for warranties are included in the individual project cost estimates for purposes of accounting for long-term contracts. Generally, the estimated claim rates of warranty are based on actual warranty experience or our best estimate.

 

Recent Accounting Pronouncements

 

See Note 2 of our notes to consolidated financial statements for a discussion of recently issued accounting standards.

 

Item 7A - Quantitative and Qualitative Disclosures About Market Risk

 

Quantitative and Qualitative Disclosures about Market Risk

 

Interest Rate Risk

 

We are exposed to interest rate risk while we have short-term bank loans outstanding. Although interest rates for our short-term loans are typically fixed for the terms of the loans, the terms are typically twelve months and interest rates are subject to change upon renewal.

 

Credit Risk

 

Credit risk is controlled by the application of credit approvals, limits and monitoring procedures. We manage credit risk through in-house research and analysis of the Chinese economy and the underlying obligors and transaction structures. We identify credit risk collectively based on industry, geography and customer type. In measuring the credit risk of our sales to our customers, we mainly reflect the “probability of default” by the customer on its contractual obligations and considers the current financial position of the customer and the exposures to the customer and its likely future development.

 

Liquidity Risk

 

We are also exposed to liquidity risk which is risk that it is unable to provide sufficient capital resources and liquidity to meet its commitments and business needs. Liquidity risk is controlled by the application of financial position analysis and monitoring procedures. When necessary, we will turn to other financial institutions and related parties to obtain short-term funding to meet the liquidity shortage.

 

Foreign Exchange Risk

 

While our reporting currency is the US dollar, almost all of our consolidated revenues and consolidated costs and expenses are denominated in RMB. All of our assets are denominated in RMB except for some cash and cash equivalents and accounts receivables. As a result, we are exposed to foreign exchange risk as our revenues and results of operations may be affected by fluctuations in the exchange rate between US dollar and RMB. If the RMB depreciates against the US dollar, the value of our RMB revenues, earnings and assets as expressed in our US dollar financial statements will decline. We have not entered into any hedging transactions in an effort to reduce our exposure to foreign exchange risk.

 

Inflation

 

Inflationary factors such as increases in the costs of our products and overhead costs may adversely affect our operating results. Inflation in China has recently increased substantially. The inflation rate in China was reported at 2.48% for 2018, 1.56% percent for 2017 and 2.0% for 2016 (see http://www.statista.com/statistics/270338/inflation-rate-in-china/).

 

These factors have led to the adoption by the Chinese government, of various corrective measures designed to restrict the availability of credit or regulate growth and contain inflation. Price inflation can affect our ability to maintain current levels of gross margin and selling and distribution, general and administrative expenses as a percentage of net revenues if we are unable to pass along raw material price increases to customers. Accordingly, inflation in China may weaken our competitiveness domestically or in international markets.

 

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ITEM 8. Financial Statements

 

Index to Consolidated Financial Statements

  

  Page
   
Reports of Independent Registered Public Accounting Firms F-2 - F-4
   
Reports of Independent Registered Public Accounting Firms on Internal Control over Financial Reporting F-5 - F-6
   
Consolidated Balance Sheets as of July 31, 2018 and 2017 F-7
   
Consolidated Statement of Operations and Comprehensive Loss for the Years Ended July 31, 2018, 2017 and 2016 F-8
   
Consolidated Statement of Changes in Stockholders’ Equity for the Years Ended July 31, 2018, 2017, and 2016 F-9
   
Consolidated Statements of Cash Flows for the Years Ended July 31, 2018, 2017 and 2016 F-10
   
Notes to Consolidated Financial Statements F-11 - F-43

 

F-1

 

          

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

 

To the Board of Directors and
Stockholders of Xiangtian (USA) Air Power Co., Ltd

 

Opinion on the Financial Statements

 

We have audited the accompanying consolidated balance sheet of Xiangtian (USA) Air Power Co., Ltd and Subsidiaries (the “Company”) as of July 31, 2018, and the related consolidated statements of operations and comprehensive loss, change in stockholders’ equity, and cash flows for the year ended July 31, 2018, and the related notes (collectively referred to as the financial statements). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of July 31, 2018, and the results of its operations and its cash flows for the year ended July 31, 2018, in conformity with accounting principles generally accepted in the United States of America.

 

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company’s internal control over financial reporting as of July 31, 2018, based on criteria established in Internal Control—Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated October 30, 2018, expressed an adverse opinion.

 

Basis for Opinion

 

These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

 

We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audit included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audit also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audit provides a reasonable basis for our opinion.

 

/s/ Friedman LLP
   
We have served as the Company’s auditor since 2018.
   
New York, New York
   
October 30, 2018  

 

F-2

 

 

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

  

To the Board of Directors and Stockholders of

Xiangtian (USA) Air Power Co., Ltd.

 

We have audited the accompanying consolidated balance sheet of Xiangtian (USA) Air Power Co., Ltd. and subsidiaries (the “Company”) as of July 31, 2017, and the related consolidated statements of operations and comprehensive loss, changes in stockholders’ equity, and cash flows for the year then ended. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audit.

 

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.

 

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Xiangtian (USA) Air Power Co., Ltd. and subsidiaries as of July 31, 2017, and the consolidated results of its operations and its cash flows for the year ended July 31, 2017, in conformity with accounting principles generally accepted in the United States of America.

     

/s/ Weinberg & Company, P.A.

Los Angeles, California

October 31, 2017

  

F-3

 

 

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

 

To the Board of Directors and Stockholders of 
Xiangtian (USA) Air Power Co., Ltd and its Subsidiaries

 

We have audited the accompanying consolidated balance sheet of Xiangtian (USA) Air Power Co., Ltd and its Subsidiaries as of July 31, 2016, and the related consolidated statements of operations and comprehensive income (loss), stockholders’ equity, and cash flows for each of the years in the two-year period ended July 31, 2016. Xiangtian (USA) Air Power Co., Ltd.’s management is responsible for these financial statements. Our responsibility is to express an opinion on these financial statements based on our audit.

 

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.

 

In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Xiangtian (USA) Air Power Co., Ltd and Subsidiaries as of July 31, 2016 and 2015, and the results of its operations and its cash flows for each of the years in the two-year period ended July 31, 2016, in conformity with accounting principles generally accepted in the United States of America.

 

We also have audited, in accordance with the standards of the Public Accounting Oversight Board (United States) Xiangtian (USA) Air Power Co., Ltd and Subsidiaries’ internal control over financial reporting as of July 31, 2016, based on criteria establish in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated October 24, 2016, expressed a disclaimer of opinion.

 

/s/ Yichien Yeh, CPA

 

Yichien Yeh, CPA
Oakland Gardens, NY 
October 24, 2016

 

F-4

 

 

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

 

ON INTERNAL CONTROL OVER FINANCIAL REPORTING

   

To the Board of Directors and
Stockholders of Xiangtian (USA) Air Power Co., Ltd

   

Adverse Opinion on Internal Control over Financial Reporting

 

We have audited Xiangtian (USA) Air Power Co., Ltd and Subsidiaries (the “Company”) internal control over financial reporting as of July 31, 2018, based on criteria established in Internal Control—Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). In our opinion, because of the effect of the material weaknesses described in the following paragraph on the achievement of the objectives of the control criteria, the Company has not maintained effective internal control over financial reporting as of July 31, 2018, based on criteria established in Internal Control—Integrated Framework (2013) issued by COSO.

 

A material weakness is a control deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the Company’s annual or interim financial statements will not be prevented or detected on a timely basis. The following material weaknesses have been identified and included in management’s assessment:

 

  1. Ineffective Control Environment. The Company did not maintain an effective control environment, which is the foundation necessary for effective internal control over financial reporting. Specifically, the Company (i) had an insufficient number of personnel appropriately qualified to perform control design, execution and monitoring activities; (ii) had an insufficient number of personnel with an appropriate level of U.S. GAAP knowledge and experience and ongoing training in the application of U.S. GAAP and SEC disclosure requirements commensurate with the Company’s financial reporting requirements; (iii) had inadequate segregation of duties consistent with control objectives; and (iv) did not formally document policies and controls to enable management and other personnel to understand and carry out their internal control responsibilities including the lack of closing checklists, budget-to-actual analyses, balance sheet variation analysis, proforma financial statements, and the usage of key spreadsheets for monitoring. Additionally, the Company did not have an adequate process in place to complete its testing and assessment of the design and operating effectiveness of internal control over financial reporting in a timely manner.

 

2.Ineffective controls over financial statement close and reporting process. The Company did not maintain effective controls over its financial statement close and reporting process. Specifically, the Company: (i) had insufficient preparation and review procedures for disclosures accompanying the Company’s financial statements; (ii) did not have controls to monitor and provide appropriate oversight of a third-party consulting firm used to prepare its financial statements, and (iii) did not have effective controls over the completeness, existence and accuracy of related party disclosures.

 

  3. Inadequate controls over recording of sales and accounts receivable. The Company did not maintain effective controls over the completeness, accuracy, and valuation of revenue and accounts receivable. Specifically, the Company had not implemented effective controls to ensure that (i) that all revenue recognition criteria have been satisfied prior to revenue being recognized, including that collectability is reasonably assured; (ii) sales invoices are prepared and issued in a timely manner; (iii) the aging of accounts receivables is monitored to verify the completeness and accuracy of computations for the valuation of accounts receivables reserves; (iv) the analysis of the completed contract verse the percentage of completion method of accounting for contract revenues is accurate and complete; (v) the Company didn’t have written confirmation of receipt from the customers regarding some product sales; and (vi) the Company didn’t establish formal procedures to update customer information in the finance system.

 

4.Inadequate controls over inventory valuation. The Company did not maintain effective controls over the completeness and accuracy of its accounting estimates related to inventory. Specifically, documented processes do not exist for adjustments for excess, defective and obsolete inventory and lower of cost or net realizable value considerations.

 

5.Inadequate controls over tax return filing. The Company did not file tax returns timely.

 

6.Inadequate controls over interest expense accrual. The Company did not maintain effective controls over the accuracy of interest expense. Specifically, documented processes do not exist to accrue interest expense in a timely manner.

 

F-5

 

    

7.Inadequate controls over business acquisitions and investments. The Company did not have a formal policy and procedures in place on business acquisitions and investments.

 

  8. Inadequate controls over information technology. (i) Formal policy regarding user management and system backup hadn’t been established; (ii) Approval process of account opening on finance application wasn’t documented; (iii) Periodic account review on finance system were missing; (iv) Administrator account application access and data base was shared by finance team; (v) Reviewing of the operation log of finance system was missing; (vi) Proper password policy for finance system was not in place; (vii) Appropriate security control on access to operating system was missing; (viii) Backup status review and availability testing on backup data weren’t conducted on regular basis.

 

These material weaknesses were considered in determining the nature, timing, and extent of audit tests applied in our audit of the 2018 financial statements, and this report does not affect our report dated October 30, 2018, on those financial statements.

 

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated balance sheet and the related consolidated statement of operations and comprehensive loss, change in stockholders’ equity, and cash flows of the Company, and our report dated October 30, 2018, expressed an unqualified opinion.

 

Basis for Opinion

 

The Company’s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

 

We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

 

Definition and Limitations of Internal Control over Financial Reporting

 

A company’s internal control over financial reporting is a process 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. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

 

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

   

/s/ Friedman LLP

   
New York, New York
   
October 30, 2018  

 

F-6

 

 

Xiangtian (USA) Air Power Co., Ltd. and Subsidiaries

Consolidated Balance Sheets

(Stated in U.S. Dollars)

 

  

July 31,

2018

  

July 31,

2017

 
ASSETS        
Current assets        
Cash  $14,245,783   $1,156,969 
Notes receivable   1,303,443    - 
Accounts receivable, net   5,142,780    1,142,631 
Inventories, net   5,141,533    550,413 
Advances to suppliers   1,101,472    1,168,867 
Costs and estimated earnings in excess of billings   2,883,408    2,916,902 
Prepaid expenses   1,364,501    - 
Other receivables   77,228    12,308 
Loan receivables   1,759,428    - 
Deposit for investment   439,857    - 
Total current assets   33,459,433    6,948,090 
           
Other assets          
Property, plant and equipment, net   11,966,233    4,330,333 
Intangible assets, net   9,260,643    - 
Deposit for property, plant and equipment   -    2,080,436 
Prepaid expenses - non-current   208,498    - 
Goodwill   4,133,143    - 
Total other assets   25,568,517    6,410,769 
           
Total assets  $59,027,950   $13,358,859 
           
LIABILITIES AND STOCKHOLDERS’ EQUITY          
Current liabilities          
Short-term loan - bank  $733,095   $- 
Current maturities of long-term loan   3,069,113    - 
Short-term loan - third party   175,943    - 
Short-term loans - related parties   20,145,446    - 
Accounts payable   5,349,445    5,015,806 
Advance from customers   8,326,929    471,880 
Other payables and accrued liabilities   2,424,228    467,463 
Other payables - related parties and director   4,230,118    2,853,068 
Income taxes payable   898,424    544,508 
Current maturities of investment payable   2,505,871    - 
Current maturities of investment payable - related parties   507,143    - 
Total current liabilities   48,365,755    9,352,725 
           
Other liabilities          
Investment payable   6,700,774    - 
Investment payable - related parties   504,359    - 
Total other liabilities   7,205,133    - 
           
Total liabilities   55,570,888    9,352,725 
           
Commitments and contingencies          
           
Equity          
Preferred stock:  $0.001 par value, 100,000,000 shares authorized, none issued and outstanding   -    - 
Common stock:  $0.001 par value, 1,000,000,000 shares authorized, 591,042,000 shares issued and outstanding as of July 31, 2018 and 2017   591,042    591,042 
Additional paid-in capital   9,860,068    9,962,555 
Subscription receivable   (310,000)   (310,000)
Statutory reserves   108,487    - 
Accumulated deficit   (6,743,399)   (5,377,094)
Accumulated other comprehensive loss   (932,061)   (860,369)
Total Xiangtian (USA) Air Power Co. Ltd. common shareholders’ equity   2,574,137    4,006,134 
           
Noncontrolling interest   882,925    - 
           
Total equity   3,457,062    4,006,134 
           
Total liabilities and equity  $59,027,950   $13,358,859 

 

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

 

F-7

 

 

Xiangtian (USA) Air Power Co., Ltd. and Subsidiaries

Consolidated Statements of Operations and Comprehensive Loss

(Stated in U.S. Dollars)

 

   For the Years Ended July 31, 
   2018   2017   2016 
Revenue:            
Significant customer, former related party  $1,155,524   $6,798,985   $8,705,527 
Other customers   13,956,373    2,551,798    1,323,231 
Other related parties   157,891    170,588    811,197 
Total revenue   15,269,788    9,521,371    10,839,955 
                
Cost of revenue   12,631,464    8,543,207    9,642,803 
                
Gross profit   2,638,324    978,164    1,197,152 
                
OPERATING EXPENSES:               
Selling expenses   301,648    33,436    24,184 
General and administrative expenses   3,305,110    2,560,480    1,639,437 
(Recovery) provision for doubtful accounts   (119,003)   1,395,152    60,242 
Impairment of advances to suppliers   -    1,404,565    - 
Total operating expenses   3,487,755    5,393,633    1,723,863 
                
Loss from operations   (849,431)   (4,415,469)   (526,711)
                
OTHER INCOME (EXPENSE)               
Other income, net   22,114    8,222    144,933 
Interest income   7,837    1,329    276 
Interest expense   (299,795)   -    - 
Total other (expense) income, net   (269,844)   9,551    145,209 
                
Loss before income taxes   (1,119,275)   (4,405,918)   (381,502)
                
Income tax expense   (180,147)   (158,241)   (226,682)
                
Net loss   (1,299,422)   (4,564,159)   (608,184)
                
Less:  Net income attributable to non-controlling interest   66,883    -    - 
                
Net loss attributable to Xiangtian (USA) Air Power Co. Ltd.  $(1,366,305)  $(4,564,159)  $(608,184)
                
Net loss  $(1,299,422)  $(4,564,159)  $(608,184)
                
Foreign currency translation adjustment   (114,539)   (180,921)   (694,964)
                
Total comprehensive loss   (1,413,961)   (4,745,080)   (1,303,148)
                
Less:  Comprehensive income attributable to non-controlling interest   24,036    -    - 
                
Comprehensive loss attributable to Xiangtian (USA) Air Power Co. Ltd.  $(1,437,997)  $(4,745,080)  $(1,303,148)
                
Net loss per common share - basic and diluted  $(0.00)  $(0.01)  $(0.00)
                
Weighted average number of common shares outstanding - basic and diluted   591,042,000    591,042,000    591,042,000 

 

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

 

F-8

 

 

Xiangtian (USA) Air Power Co., Ltd. and Subsidiaries

Consolidated Statements of Changes in Stockholders’ Equity

(Stated in U.S. Dollars)

 

                                   Accumulated         
                   Additional       Accumulated deficit   other         
   Preferred stock   Common stock   paid-in   Subscription   Statutory       comprehensive   Noncontrolling     
   Shares   Par Value   Shares   Par value   capital   receivable   reserves   Unrestricted   income (loss)   interest   Total 
BALANCE, July 31, 2015   -   $-    591,042,000   $591,042   $9,457,675   $(310,000)  $-   $(204,751)  $15,516   $-   $9,549,482 
Rent contributed by shareholders   -    -    -    -    6,000    -    -    -    -    -    6,000 
Contributed from shareholders   -    -    -    -    250,000    -    -    -    -    -    250,000 
Foreign currency translation adjustment   -    -    -    -    -    -    -    -    (694,964)   -    (694,964)
Net loss   -    -    -    -    -    -    -    (608,184)   -    -    (608,184)
BALANCE, July 31, 2016   -    -    591,042,000    591,042    9,713,675    (310,000)   -    (812,935)   (679,448)   -    8,502,334 
Rent contributed by shareholders   -    -    -    -    6,000    -    -    -    -    -    6,000 
Cancellation of lease obligation to shareholders recorded as capital contribution   -    -    -    -    242,880    -    -    -    -    -    242,880 
Foreign currency translation adjustment   -    -    -    -    -    -    -    -    (180,921)   -    (180,921)
Net loss   -    -    -    -    -    -    -    (4,564,159)   -    -    (4,564,159)
BALANCE, July 31, 2017   -    -    591,042,000    591,042    9,962,555    (310,000)   -    (5,377,094)   (860,369)   -    4,006,134 
Rent contributed by shareholders   -    -    -    -    6,000    -    -    -    -    -    6,000 
Contribution from noncontrolling interest   -    -    -    -    -    -    -    -    -    858,889    858,889 
Allocation of acquired statutory reserves   -    -    -    -    (108,487)   -    108,487    -    -    -    - 
Foreign currency translation adjustment   -    -    -    -    -    -    -    -    (71,692)   (42,847)   (114,539)
Net loss attributable to Xiangtian (USA) Air Power Co., Ltd.   -    -    -    -    -    -    -    (1,366,305)   -    -    (1,366,305)
Net income attributable to noncontrolling interest   -    -    -    -    -    -    -    -    -    66,883    66,883 
BALANCE, July 31, 2018   -   $-    591,042,000   $591,042   $9,860,068   $(310,000)  $108,487   $(6,743,399)  $(932,061)  $882,925   $3,457,062 

 

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

F-9

 

 

Xiangtian (USA) Air Power Co., Ltd. and Subsidiaries

Consolidated Statements of Cash Flows

(Stated in U.S. Dollars)

 

   For the Years Ended July 31, 
   2018   2017   2016 
Cash flows from operating activities:            
Net loss  $(1,299,422)  $(4,564,159)  $(608,184)
Adjustments to reconcile net loss to net cash (used in) provided by operating activities:               
Depreciation expense   439,314    281,722    266,773 
Amortization expense   88,534    -    - 
Deferred tax expense   9,469    -    - 
Provision for warranty reserve   -    65,833    - 
(Recovery of) allowance for doubtful accounts   (119,003)   1,395,152    60,242 
Impairment of advances to supplies   -    1,404,565    - 
Impairment of inventories   -    337,000    - 
Gain on termination of capital lease   -    -    (128,379)
Gain from sales of equipment   (30,923)   -    - 
Amortization of debt discount   43,328    -    - 
Rent contributed by shareholders   6,000    6,000    6,000 
Changes in operating assets and liabilities               
Notes receivable   (1,367,420)   -    - 
Accounts receivable   (1,484,806)   292,492    1,758,079 
Inventories   (4,360,895)   1,188,831    503,892 
Advances to suppliers   198,312    2,020,867    485,715 
Costs and estimated earnings in excess of billings   (8,114)   (2,206,250)   - 
Prepaid expenses   (1,648,103)   -    - 
Other receivables   (59,506)   302,927    43,289 
Other current assets   -    129,463    594,895 
Due from related party   -    -    583,124 
Accounts payable   372,445    164,176    1,881,936 
Advance from customers   8,243,425    (148,934)   (5,213,700)
Other payables and taxes payable   587,463    274,561    115,154 
Deferred tax liability   -    -    26,832 
Net cash provided by (used in) operating activities   (389,902)   944,246    375,668 
                
Cash flows from investing activities:               
Cash acquired through business combination   36,806    -    - 
Payment on businesses acquired   (6,780,190)   -    - 
Purchases of property and equipment   (582,463)   (1,989,195)   (91,814)
Proceeds from sales of equipment   923,436    -    - 
Deposit for investment   (461,447)   -    - 
Purchase of intangible assets   (5,537)   -    - 
Other assets   -    176,055    (154,325)
Loan to third party   (309,170)   -    - 
Net cash used in investing activities   (7,178,565)   (1,813,140)   (246,139)
                
Cash flows from financing activities:               
Borrowings from related parties and directors   1,381,757    947,729    668,644 
Capital contribution from shareholders   -    -    250,000 
Payments of short-term loan - bank   (1,384,340)   -    - 
Proceeds from third party loan   184,579    -    - 
Proceeds from related party loans   21,134,257    -    - 
Net cash provided by financing activities   21,316,253    947,729    918,644 
                
Effect of exchange rate change on cash   (658,972)   (148,086)   (323,982)
                
Net change in cash   13,088,814    (69,251)   724,191 
                
Cash - beginning of year   1,156,969    1,226,220    502,029 
                
Cash - end of year  $14,245,783   $1,156,969   $1,226,220 
                
Supplemental disclosure of cash flow information:               
Interest paid  $27,016   $-   $- 
Income tax paid  $20,446   $46,405   $140,171 
                
Supplemental non-cash investing and financing information:               
Cancellation of lease obligation recorded as capital contribution  $-   $242,880   $- 
Rent contributed by shareholders  $6,000   $6,000   $6,000 
Businesses acquired through investment payables  $11,619,514   $-   $- 
Contingent liability obligated from business combinations  $347,777   $-   $- 
Loan to third party offset with investment payable  $943,150   $-   $- 
Receipt of intangible assets from non-controlling interest capital contribution  $858,887   $-   $- 
Receipt of property, plant and equipment from deposit made in prior year  $2,151,703   $-   $- 

 

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

 

F-10

 

 

Xiangtian (USA) Air Power Co. Ltd. and Subsidiaries

Notes to Consolidated Financial Statements

 

Note 1 – Nature of business and organization

 

Xiangtian (USA) Air Power Co., Ltd. (the “Company” or “Xiangtian USA”) was incorporated in the State of Delaware on September 2, 2008 as Goa Sweet Tours Ltd. On April 17, 2012, the Company entered into Share Purchase Agreements, by and among, Luck Sky International Investment Holdings Limited (“Lucky Sky”), an entity owned and controlled by Deng Rong Zhou, Executive director and former CEO, and certain of the Company’s former stockholders who owned, in the aggregate, 7,200,000 shares of the Company’s common stock (90% of the then outstanding shares). On May 15, 2012, Luck Sky purchased all 7,200,000 shares for an aggregate of $235,000. Effective May 29, 2012, the Company’s name was changed to “Xiangtian (USA) Air Power Co., Ltd.”. Effective October 31, 2016, the Company reincorporated in the State of Nevada.

 

On May 30, 2014, the Company entered into the Stock Purchase Agreement with Mr. Zhou Jian, the sole shareholder of Luck Sky (Hong Kong) Aerodynamic Electricity Limited (“Xiangtian HK”) and acquired Luck Sky Aerodynamic and Luck Sky (Shenzhen) Aerodynamic Electricity Limited (“Xiangtian Shenzhen”), its subsidiary organized in the PRC. As a result, Xiangtian HK became the Company’s wholly owned subsidiary and Xiangtian Shenzhen became the Company’s indirect subsidiary through Xiangtian HK.

 

The Company is engaged in a variety of energy-related businesses through its subsidiaries and controlled entities in China. One of the businesses is in the field of Compressed Air Energy Storage in China and produces electricity generation systems that combine its compressed air storage technology with photovoltaic (PV) panels to achieve a continuous supply of power under weather conditions that are unfavorable to the generation of electricity from PV panels alone. The sales and installation of power generation systems and PV systems and the sales of PV Panels, air compression equipment and heat pump products have been carried through the Company’s variable interest entities (“VIE”), Sanhe Luck Sky Electrical Engineering Co., Ltd. (“Sanhe Xiangtian”) and Xianning Xiangtian Energy Holding Group Co. Ltd. (“Xianning Xiangtian”), formerly known as Xianning Sanhe Power Equipment Manufacturing Co. Ltd.

 

In March 2018, the Company formed a joint venture in Xiangtian Zhongdian (Hubei) New Energy Co. Ltd. (“Xiangtian Zhongdian”), which the Company contributed 70% ownership interest with the remaining 30% ownership owned by Nanjing Zhongdian Photovoltaic Co. Ltd. Xiangtian Zhongdian is in the business of manufacturing and sales of PV panels.

 

In April 2018, the Company formed a wholly owned subsidiary, Jingshan Sanhe Xiangtian New Energy Technology Co. Ltd. (“Jingshan Sanhe”), which engaged in the business of researching, manufacturing and sales of high-grade synthetic products.

 

In June 2018, the Company acquired Hubei Jinli Hydraulic Co., Ltd. (“Hubei Jinli”), which engaged in the business of manufacturing and sales of hydraulic parts and electronic components, and acquired Tianjin Jiabaili Petroleum Products Co. Ltd. (“Tianjin Jiabaili”), which engaged in the business of manufacturing and sales of petroleum products (Note 3 – Business combinations).

 

In August 2018, the Company formed a wholly owned subsidiary, Xianning Xiangtian Trade Co. Ltd. (“Xiangtian Trade”), which engaged in the business of trading chemical raw materials that provide a stable supply for product operation. Xiangtian Trade has no operations since it was incorporated.

 

All of the Company’s operations are through its variable interest entities located in the Peoples’ Republic of China (PRC).

 

F-11

 

 

Xiangtian (USA) Air Power Co. Ltd. and Subsidiaries

Notes to Consolidated Financial Statements

 

The accompanying consolidated financial statements reflect the activities of Xiangtian USA and each of the following entities:

 

Name  Background  Ownership
Xiangtian HK  ●     A Hong Kong company  100% owned by Xiangtian USA
Xiangtian BVI  ●     A British Virgin Islands company  100% owned by Xiangtian USA
Xiangtian Shenzhen  ●     A PRC limited liability company and deemed a wholly foreign owned enterprise (“WFOE”)  100% owned by Xiangtian HK
Sanhe Xiangtian ●     A PRC limited liability company

●     Incorporated on July 8, 2013

●     Sales and installation of power generation systems and PV systems and sales of PV Panels, air compression equipment and heat pump products

  VIE of Xiangtian Shenzhen prior to September 30, 2018 and became subsidiary of Xiangning Xiangtian on September 30, 2018 and thereafter
Xianning Xiangtian 

●     A PRC limited liability company 

●     Incorporated on May 30, 2016

●     Manufacturing and sales of air compression equipment and heat pump products

  100% owned by Sanhe Xiangtian prior to September 30, 2018 and became VIE of Xiangtian Shenzhen on September 30, 2018 and thereafter
Xiangtian Zhongdian 

●     A PRC limited liability company

●     Incorporated on March 7, 2018

●     Manufacturing and sales of PV panels

  70% owned by Xianning Xiangtian
Jingshan Sanhe 

●     A PRC limited liability company

●     Incorporated on April 17, 2018

●     Researching, manufacturing and sales of high-grade synthetic products

  100% owned by Xianning Xiangtian
Hubei Jinli 

●     A PRC limited liability company

●     Incorporated on December 27, 2004 and acquired on June 30, 2018

●     Manufacturing and sales of hydraulic parts and electronic components

  100% owned by Xianning Xiangtian
Tianjin Jiabaili 

●     A PRC limited liability company

●     Incorporated on April 10, 2007 and acquired on June 30, 2018

●     Manufacturing and sales of petroleum products

  100% owned by Xianning Xiangtian
Xiangtian Trade 

●     A PRC limited liability company

●     Incorporated on August 9, 2018

●     Trading chemicals raw materials that provide a stable supply for product operation

  100% owned by Xianning Xiangtian

 

Reorganization

 

On September 30, 2018, Xiangtian Shenzhen terminated its variable interest entity agreements (the “VIE Agreements”) as part of its restructuring to facilitate the shift of business focus between entities controlled by the Company. After the restructuring, the Company’s headquarter will be located in the city of Xianning, Hubei Province, and Sanhe Xiangtain, the Company’s previous headquarter, located in the city of Sanhe, Hebei Province, will be restructured as our sales office. The VIE Agreements include the following:

 

Framework Agreement on Business Cooperation, dated July 25, 2014, by and between Xiangtian Shenzhen and Sanhe Xiangtian;

 

Exclusive Management, Consulting and Training and Technical Service Agreement, dated July 25, 2014, by and between Xiangtian Shenzhen and Sanhe Xiangtian;

 

Exclusive Option Agreement, dated July 25, 2014, by and among Xiangtian Shenzhen, Sanhe Xiangtian and all the shareholders of Sanhe Xiangtian (“Shanhe Xiangtian Shareholders”);

 

Equity Pledge Agreement, dated July 25, 2014, by and among Xiangtian Shenzhen, Sanhe Xiangtian and the Shanhe Xiangtian Shareholders;

 

Know-How Sub-License Agreement, dated July 25, 2014, by and between Xiangtian Shenzhen and Sanhe Xiangtian; and

 

Powers of Attorney of the Sanhe Xiangtian Shareholders dated July 25, 2014.

 

F-12

 

 

Xiangtian (USA) Air Power Co. Ltd. and Subsidiaries

Notes to Consolidated Financial Statements

 

In connection with the termination of the VIE Agreements, on September 30, 2018, Sanhe Xiangtian transferred its 100% equity interest of Xianning Xiangtian to the Sanhe Xiangtian Shareholders and the Sanhe Xiangtian Shareholders transferred their 100% equity interest of Sanhe Xiangtian to Xianning Xiangtian. As a result of the foregoing equity transfers, Sanhe Xiangtian became a wholly owned subsidiary of Xianning Xiangtian.

 

On the same day, the Company, through Xiangtian Shenzhen and Xiangtian HK, entered into a new series of variable interest entity agreements (“New VIE Agreements”), pursuant to which Xianning Xiangtian became the Company’s new contractually controlled affiliate. The New VIE Agreements allow us to:

 

exercise effective control over Xianning Xiangtian;

 

receive substantially all of the economic benefits of Xianning Xiangtian; and

 

have an exclusive option to purchase all or part of the equity interests in Xianning Xiangtian when and to the extent permitted by the laws of People’s Republic of China (the “PRC”).

 

As a result of these contractual arrangements, the Company has become the primary beneficiary of Xianning Xiangtian, and it treats Xianning Xiangtian as its variable interest entity under U.S. GAAP. The Company will continue to consolidate the financial results of Xianning Xiangtian in its consolidated financial statements in accordance with U.S. GAAP. The above reorganization has no effect to the Company’s consolidated financial statements for the current period and thereafter.

 

The following is a summary of the New VIE Agreements:

 

Framework Agreement on Business Cooperation

 

Pursuant to the Framework Agreement on Business Cooperation between Xiangtian Shenzhen and Xianning Xiangtian, the parties agree to enter into a series of agreements, including Agreement of Exclusive Management, Consulting and Training and Technical Service, Know-How Sub-License Agreement, Equity Pledge Agreement, Exclusive Option Agreement and Power of Attorney. Specifically, Xiangtian Shenzhen will dispatch an operative team to Xianning Xiangtian to assist with Xianning Xiangtian with its planning and managing and regular business operations. The parties agree to share the cooperation profits as set forth in the New VIE Agreements. The term of cooperation is 10 years and may be unilaterally extended by Xiangtian Shenzhen.

 

Agreement of Exclusive Management, Consulting and Training and Technical Service

 

Pursuant to the Agreement of Exclusive Management, Consulting and Training and Technical Service between Xiangtian Shenzhen and Xianning Xiangtian, Xianning Xiangtian engages Xiangtian Shenzhen to provide consulting, training, management services and technical support exclusively for a term of 10 years, which may be unilaterally extended by Xiangtian Shenzhen. Xianning Xiangtian agrees to pay Xiangtian Shenzhen a service fee equal to one hundred percent (100%) of Xianning Xiangtian’s net income determined pursuant to the generally accepted accounting principles, payable quarterly.

 

Exclusive Option Agreement

 

Pursuant to the Exclusive Option Agreement among Xiangtian Shenzhen, Xiangtian HK, Xianning Xiangtian and the shareholders holding an aggregate of 100% of Xianning Xiangtian’s equity interest (“Xianning Xiangtian Shareholders”), the Xianning Xiangtian Shareholders irrevocably grant Xiangtian Shenzhen and Xiangtian HK an exclusive option to purchase from them, at its discretion, to the extent permitted under the PRC law, all or part of their equity interest in Xianning Xiangtian, and the purchase price will be the lowest price permitted by applicable PRC laws. The timing, method and times of exercise of this option to purchase is within Xiangtian Shenzhen and Xiangtian HK’s sole discretion. In addition, each of the Xianning Xiangtian Shareholders agrees to waive their respective preemptive right when the other shareholder transfers the equity interest of Xianning Xiangtian to Xiangtian Shenzhen or its designated party. The Xianning Xiangtian Shareholders further agree, among other things, without prior written consent of Xiangtian Shenzhen and Xiangtian HK, not to transfer, sell or pledge their equity interest of Xianning Xiangtian. Without the prior written consent of Xiangtian Shenzhen and Xiangtian HK, Xianning Xiangtian may not amend its articles of association, change the amount and structure of its registered capital or sell any of its assets or beneficial interest.

 

F-13

 

 

Xiangtian (USA) Air Power Co. Ltd. and Subsidiaries

Notes to Consolidated Financial Statements

 

Equity Pledge Agreement

 

Pursuant to the Equity Pledge Agreement among Xiangtian Shenzhen, Xianning Xiangtian and the Xianning Xiangtian Shareholders, the Xianning Xiangtian Shareholders pledge all of their respective equity interest in Xianning Xiangtian to Xiangtian Shenzhen to guarantee the performance of Xianning Xiangtian’s obligations under the New VIE Agreements, other than this Equity Pledge Agreement. Xiangtian Shenzhen will be deemed to have created the encumbrance of first order in priority on the pledged equity interest. In the event of any breach of the VIE Agreements, other than this Equity Pledge Agreement, or failure to satisfy the guaranteed obligations, Xiangtian Shenzhen will have the right to dispose the pledge equity interest. The Xianning Xiangtian Shareholders may receive dividends or share profits only with prior consent from Xiangtian Shenzhen, and such dividends and profits will be deposited into a bank account designated by and under supervision of Xiangtian Shenzhen and to be used for repayment of any liability due to any breach of the VIE Agreements by Xianning Xiangtian or the Xianning Xiangtian Shareholders. The agreement will remain effective until the termination of the VIE Agreements, other than this Equity Pledge Agreement.

 

Know-How Sub-License Agreement

 

Pursuant to the Know-How Sub-License Agreement between Xiangtian Shenzhen and Xianning Xiangtian, Xiangtian Shenzhen agrees to grant an exclusive and non-transferable sublicense to use the patents, patent applications and all related trade secrets and technology and improvements on photovoltaic installation and the air energy storage power generation technology (“Technology”) but without sublease right in the territory of China, exclusive of Hong Kong Special Administrative Region, Macao Special Administrative Region and Taiwan Region for the purpose of the agreement. Xianning Xiangtian agrees to pay Xiangtian Shenzhen a quarterly royalty fee equal to five percent (5%) of Xianning Xiangtian’s gross revenue of each quarter. The shareholders of Xianning Xiangtian shall pledge all of their equity interest of Xianning Xiangtian as collateral for the royalty fee payable under this agreement. The agreement will remain effective throughout the entire duration of the operation of Xianning Xiangtian, unless terminated by Xiangtian Shenzhen with a 30-day prior written notice.

 

Power of Attorney

 

Pursuant to the Powers of Attorney executed by the Xianning Xiangtian Shareholders, each of the shareholders irrevocably appoints Xiangtian Shenzhen as his attorney-in-fact to exercise any and all rights as a shareholder of Xianning Xiangtian, including, but not limited to, the right to attend shareholders’ meetings, to execute shareholders’ resolutions, to sell, assign, transfer or pledge any or all of his equity interest of Xianning Xiangtian, to vote as a shareholder for all matters, as well as full power to execute equity transfer agreement as referenced in the Exclusive Option Agreement and to perform under the Exclusive Option Agreement and Equity Pledge Agreement without limitation. Xiangtian Shenzhen is also authorized to transfer, allocate or use any cash dividends and non-cash income in accordance with the respective shareholder’s instructions and to exercise all the necessary rights associated with the equity interest at Xiangtian Shenzhen’s sole discretion and without the consent of the Xianning Xiangtian Shareholders. The Powers of Attorney will remain effective as long as the Xianning Xiangtian Shareholders remain the shareholders of Xianning Xiangtian.

 

Spousal Consent Letters

 

Pursuant to the Spousal Consent Letters, each of the spouses of the Xianning Xiang Shareholders unconditionally and irrevocably agrees to the execution of the Equity Pledge Agreement, Exclusive Option Agreement and Power of Attorney entered by her spouse and the disposal of equity interest of Xianning Xiangtian held by her spouse. Each of the spouses also agree that she will not assert any rights over the equity interest in Xianning Xiangtian held by and registered in the name of her respective spouse. The Xianning Xiangtian Shareholders’ actions to perform, amend or termination the above-mentioned agreement do not need their spouses’ authorization or consent. In addition, in the event that any of the spouses obtains any equity interest in Xianning Xiangtian held by her respective spouse for any reason, such spouse agrees to enter into similar contractual arrangements.

 

F-14

 

 

Xiangtian (USA) Air Power Co. Ltd. and Subsidiaries

Notes to Consolidated Financial Statements

 

Note 2 – Summary of significant accounting policies

 

Liquidity

 

In assessing the Company’s liquidity, the Company monitors and analyzes its cash on-hand and its operating and capital expenditure commitments. The Company’s liquidity needs are to meet its working capital requirements, operating expenses and capital expenditure obligations. Debt financing in the form of loans payable and loans from related parties have been utilized to finance the working capital requirements of the Company. As of July 31, 2018, the Company’s working capital deficiencies was approximately $14.9 million. Although the Company believes that it can realize its current assets in the normal course of business, the Company’s ability to repay its current obligations will depend on the future realization of its current assets and the future operating revenues generated from its operations.

 

The Company expects to realize the balance of its current assets within the normal operating cycle of a twelve-month period. If the Company is unable to realize its current assets within the normal operating cycle of a twelve-month period, the Company may have to consider supplementing its available sources of funds through the following sources:

 

  the Company will continuously seek equity financing to support its working capital;
     
  other available sources of financing from PRC banks and other financial institutions;
     
  financial support and credit guarantee commitments from the Company’s related parties or to obtain due date extension of approximately $10.0 million current payable balance as of July 31, 2018 from its related parties.
     
  capital contribution from the Company’s related parties by executing a registered capital increase plan in Xianning Xiangtian, which Mr. Jian Zhou, subsequent to July 31, 2018, has provided RMB 100,000,000 (approximately $14.7 million) capital contribution in Xianning Xiangtian.

 

Based on the above considerations, the Company’s management is of the opinion that it has sufficient funds to meet the Company’s working capital requirements and debt obligations as they become due one year from the date of this report. However, there is no assurance that management will be successful in their plans. There are a number of factors that could potentially arise that could undermine the Company’s plans, such as changes in the demand for the Company’s products or installations, PRC government policy, economic conditions, and competitive pricing in the industries that the Company operated in.

 

Basis of presentation

 

The consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”). The Company’s consolidated financial statements are expressed in U.S. dollars.

 

Principles of consolidation

 

The consolidated financial statements include the financial statements of the Company, its subsidiaries, the VIEs for which the Company or its subsidiary is the primary beneficiary and the VIEs’ subsidiaries. All inter-company accounts and transactions have been eliminated in consolidation.

 

Use of estimates and assumptions

 

The preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities as of the date of the consolidated financial statements and the reported amounts of revenues and expenses during the periods presented. Significant accounting estimates reflected in the Company’s consolidated financial statements include the estimated cost used to calculate the percentage of completion recognized in the Company’s revenues, the useful lives of property, plant and equipment, impairment of long-lived assets, allowance for accounts receivable doubtful accounts, allowance for inventory obsolescence reserve, allowance for advance to suppliers doubtful accounts, allowance for deferred tax assets, fair value of the assets and the liabilities of the entity acquired through its business combination, valuation of warranty reserves, contingent consideration liabilities, and the accrual of potential liabilities. Actual results could differ from these estimates.

 

F-15

 

 

Xiangtian (USA) Air Power Co. Ltd. and Subsidiaries

Notes to Consolidated Financial Statements

 

Variable interest entities

 

Lucksky Holding (Group) Co. Ltd (“LuckSky Group”) was established in 2000 by Mr. Zhou Deng Rong after he obtained a series of patents and developed the compressed air energy storage and related technology. Sanhe Xiangtian, a corporation incorporated under the laws of the PRC, was established in July 2013 and was under common control with LuckSky Group. In July 2014, LuckSky Group transferred to Sanhe Xiangtian its assets and liabilities related to its compressed air energy storage power generation technology and PV panel installations which are recorded at their historical cost basis.

 

On July 25, 2014, Xiangtian Shenzhen, Sanhe Xiangtian, and Mr. Zhou Jian and Mr. Zhou Deng Rong, the owners of 97% and 3%, respectively, of Sanhe Xiangtian, entered into a series of agreements known as variable interest agreements (the “VIE Agreements”) pursuant to which Sanhe Xiangtian became Xiangtian Shenzhen’s contractually controlled affiliate. The purpose and effect of the VIE Agreements between Sanhe Xiangtian and Xiangtian Shenzhen enables the Company to substantially influence the daily operations and financial affairs of Sanhe Xiangtian, appoint its senior executives, and approve all matters requiring shareholder approval. As a result of these contractual arrangements, which obligates Xiangtian Shenzhen to absorb a majority of the risk of loss from the activities of Sanhe Xiangtian and enables Xiangtian Shenzhen to receive a majority of its expected residual returns, the Company accounts for Sanhe Xiangtian as a variable interest entity (VIE).

 

Simultaneously, the Company entered into a common stock purchase agreement with Zhou Jian and Zhou Deng Rong, the owners of 97% and 3%, respectively, of Sanhe Xiangtian, in consideration for the execution of the VIE Agreements. Pursuant to the Stock Purchase Agreement, the Company issued Zhou Jian and Zhou Deng Rong 264,850,740 and 8,191,260 shares, respectively, of the Company’s common stock, representing 51.4% of its issued and outstanding shares of common stock.

 

The principal terms of the agreements entered into among Sanhe Xiangtian and Xiangtian Shenzhen, the primary beneficiary, are described below: 

 

 

Framework Agreement on Business Cooperation, entered between Xiangtian Shenzhen and Sanhe Xiangtian, pursuant to which Xiangtian Shenzhen and Sanhe Xiangtian have agreed to enter into a series of VIE agreements and to cooperate in all prospective of Sanhe Xiangtian’s business operation and management.

 

 

Exclusive Management, Consulting and Training and Technical Service Agreement, entered between Xiangtian Shenzhen and Sanhe Xiangtian, pursuant to which Xiangtian Shenzhen has agreed to provide Sanhe Xiangtian with complete business support and technical support and related management, training and consulting services. In consideration for such services, Xiangtian Shenzhen is entitled to receive an amount equal to 100% of Sanhe Xiangtian’s net income.

 

 

Exclusive Option Agreement, entered among Xiangtian HK, Xiangtian Shenzhen, Zhou Deng Rong, Zhou Jian and Sanhe Xiangtian, pursuant to which Zhou Deng Rong and Zhou Jian, the owners of Sanhe Xiangtian, have granted to Xiangtian Shenzhen and Xiangtian HK the irrevocable right and option to acquire all of their equity interests in Sanhe Xiangtian.

 

 

 

Equity Pledge Agreement, entered among Xiangtian Shenzhen, Zhou Deng Rong, Zhou Jian, and Sanhe Xiangtian, pursuant to which Zhou Deng Rong and Zhou Jian, the owners of Sanhe Xiangtian, have pledged all of their rights, titles and interests in Sanhe Xiangtian to Xiangtian Shenzhen to guarantee Sanhe Xiangtian’s performance of its obligations under all the other VIE Agreements. 

 

F-16

 

 

Xiangtian (USA) Air Power Co. Ltd. and Subsidiaries

Notes to Consolidated Financial Statements

 

 

Know-How Sub-License Agreement, entered between Xiangtian Shenzhen and Sanhe Xiangtian, pursuant to which Xiangtian Shenzhen has granted Sanhe Xiangtian an exclusive right to use and develop a series of aerodynamics related patents and technologies with respect to electrical generation for commercial and residential structures, not including automobile and wind towers. Xiangtian Shenzhen possesses the rights licensed under this agreement through two license agreements dated July 25, 2014 with Zhou Deng Rong, Zhou Jian and Lucksky Group, the owners of the aforesaid patents and technologies. For the sublicense contemplated under this Agreement, Sanhe Xiangtian will pay Xiangtian Shenzhen an annual royalty fee of five percent of revenue. For the year ended July 31, 2018, the annual royalty fee was waived by Xiangtian Shenzhen; and 

 

  Power of Attorney. Pursuant to a power of attorney, each of the Sanhe Xiangtian stockholders agreed to irrevocably entrust Xiangtian Shenzhen with the stockholder voting rights and other stockholder rights for representing them to exercise such rights at the stockholders’ meeting of Sanhe Xiangtian in accordance with applicable laws and its Article of Association, including, but not limited to, the right to sell or transfer all or any of their equity interest in Sanhe Xiangtian, and appoint and vote for the directors and Chairman of Sanhe Xiangtian as the authorized representative of the Sanhe Xiangtian stockholders. The term of each proxy and voting agreement is as long as each of the Sanhe Xiangtian stockholders is a shareholder of Sanhe Xiangtian and is binding on any transferee.

 

The Framework Agreement and the Exclusive Management Agreement have initial terms of ten years but each contains a renewal provision that allows Xiangtian Shenzhen to extend the term of such agreements at its sole option by written notice with no limitation as to such extensions. The other agreements are of unlimited duration.

 

On September 30, 2018, Xiangtian Shenzhen terminated the VIE Agreements as part of its restructuring to facilitate the shift of business focus between entities controlled by the Company and re-entered the New VIE Agreements (See Note 1 - Nature of business and organization).

 

The Company’s total assets and liabilities presented in the consolidated financial statements represent substantially all of total assets and liabilities of the VIE because the other entities in the consolidation are non-operating holding entities with nominal assets and liabilities. The following financial statement amounts and balances of the VIE were included in the accompanying consolidated financial statements as of July 31, 2018 and 2017 and for the years ended July 31, 2018, 2017 and 2016, respectively:

 

  

July 31,

2018

  

July 31,

2017

 
         
Total assets  $58,808,950   $13,070,348 
Total liabilities  $53,781,159   $8,498,122 

 

  

For the

year ended
July 31,

2018

  

For the

year ended
July 31,

2017

  

For the

year ended

July 31,

2016

 
             
Revenues  $15,269,788   $9,502,952   $10,839,955 
Net loss  $(380,049)  $(4,124,909)  $(263,796)

 

Business Combinations

 

The purchase price of an acquired company is allocated between tangible and intangible assets acquired and liabilities assumed from the acquired business based on their estimated fair values, with the residual of the purchase price recorded as goodwill. The results of operations of the acquired business are included in the Company’s operating results from the date of acquisition.

 

Cash

 

Cash denominated in Renminbi (RMB) with a US dollar equivalent of $14,207,358 and $1,154,188 at July 31, 2018 and 2017, respectively, were held in accounts at financial institutions located in the PRC‚ which is not freely convertible into foreign currencies. In addition, these balances are not covered by insurance. While management believes that these financial institutions are of high credit quality, it also continually monitors their credit worthiness The Company and its subsidiaries and VIE have not experienced any losses in such accounts and do not believe the cash is exposed to any significant risk.

 

F-17

 

 

Xiangtian (USA) Air Power Co. Ltd. and Subsidiaries

Notes to Consolidated Financial Statements

 

Notes Receivable

 

Notes receivable represents commercial notes due from various customers where the customers’ banks have guaranteed the payments. The notes are noninterest bearing and normally paid within three to six months. The Company has the ability to submit requests for payments to the customer’s banks earlier than the scheduled payments date, but will incur an interest charge and a processing fee.

 

Accounts Receivable, net

 

Accounts receivables, net, are recognized and carried at original invoiced amount less an allowance for any uncollectible accounts. The Company uses the aging method to estimate the valuation allowance for anticipated uncollectible receivable balances. Under the aging method, bad debts determined by management are based on historical experience as well as the current economic climate and are applied to customers’ balances categorized by the number of months the underlying invoices have remained outstanding. Management reviews its receivables on a regular basis to determine if the bad debt allowance is adequate, and adjusts the allowance when necessary. Delinquent account balances are written-off against allowance for doubtful accounts after management has determined that the likelihood of collection is not probable. The Company’s management continues to evaluate the reasonableness of the valuation allowance policy and update it if necessary.

 

Inventories, net

 

Inventories, net, consist of raw materials, work in progress and finished goods and are stated at the lower of cost or net realizable value using the weighted average method. When appropriate, allowances to inventories are recorded to write down the cost of inventories to their net realizable value. For the year ended July 31, 2017, an allowance of $341,609 was recorded for inventories and reflected as cost of sales on the accompanying statement of operations. For the years ended July 31, 2018 and 2016, there were no such allowances.

 

Advances to Suppliers, net

 

Advances to suppliers, net, are cash deposited or advanced to outside vendors or services providers for future inventory purchases or future services. This amount is refundable and bears no interest. For any advances to suppliers determined by management that such advances will not be in receipts of inventories or refundable, the Company will recognize an allowance account to reserve such balances. Management reviews its advances to suppliers on a regular basis to determine if the allowance is adequate, and adjusts the allowance when necessary. Delinquent account balances are written-off against allowance for doubtful accounts after management has determined that the likelihood of collection is not probable. The Company’s management continues to evaluate the reasonableness of the valuation allowance policy and update it if necessary.

 

Costs and Estimated Earnings in Excess of Billings

 

Costs and estimated earnings in excess of billings represents revenues recognized in excess of amounts billed. At the time a loss on a contract becomes known, the entire amount of the estimated ultimate loss is recognized in the consolidated financial statements.

 

Loans Receivables

 

Loans receivables represents interest free advances to the former shareholder of Hubei Jinli by the Company prior to the acquisition of Hubei Jinli on June 30, 2018. These advances are unsecured and due on demand. Full outstanding balance of $1,759,428 of loan receivables has been repaid in August 2018.

 

F-18

 

 

Xiangtian (USA) Air Power Co. Ltd. and Subsidiaries

Notes to Consolidated Financial Statements

 

Property, Plant and equipment, net

 

Property, plant and equipment are stated at cost net of accumulated depreciation and impairment losses. Depreciation is provided over the estimated useful lives of the assets using the straight-line method from the time the assets are placed in service. Estimated useful lives are as follows, taking into account the assets’ estimated residual value:

 

 

Classification  Estimated Useful Life  Estimated Residual Value
Plant and buildings  5-20 years  0-5%
Machinery equipment  5-10 years  0-5%
Computer and office equipment  3-10 years  0-5%
Vehicles  5-10 years  0-5%
Plant improvement  20 years  0-5%

 

The cost and related accumulated depreciation of assets sold or otherwise retired are eliminated from the accounts and any gain or loss is included in the consolidated statements of operations and other comprehensive loss. Expenditures for maintenance and repairs are charged to earnings as incurred, while additions, renewals and betterments, which are expected to extend the useful life of assets, are capitalized.

 

Construction-in-progress represents contractor and labor costs, design fees and inspection fees in connection with the construction of the Company’s production warehouses, cafeteria, and employee dormitory. No depreciation is provided for construction-in-progress until it is completed and placed into service.

 

Intangible assets, net

 

Intangible assets, net, are stated at cost, less accumulated amortization. Amortization expense is recognized on the straight-line basis over the estimated useful lives of the assets as follows:

 

Classification  Estimated Useful Life
Land use rights  50 years
Technology know-hows  10 years
Patents, licenses and certifications  3-10 years

 

All land in the PRC is owned by the government; however, the government grants “land use rights.” The Company has obtained rights to use various parcels of land for 50 years through the acquisition of Hubei Jinli in June 2018.

 

Technology know-hows, including LSC Hand-Held Diesel Pump, CB-39 Motor Oil Pump, 0-16 MPa series hydraulic cylinder, brake cylinder and hydraulic value, and certain special operating licenses were acquired through the acquisition of Hubei Jinli and Tianjin Jinbaili in June 2018 with estimated finite useful lives between 4.5 years to 10 years.

 

Certain PV panel certifications were contributed by the Company’s noncontrolling interest shareholders as capital contribution in March 2018 with an estimated finite useful lives of 10 years.

 

The Company also acquired a safety production license with a finite useful of 3 years in June 2018.

 

Goodwill

 

Goodwill represents the excess of the consideration paid of an acquisition over the fair value of the net identifiable assets of the acquired subsidiaries at the date of acquisition. Goodwill is not amortized and is tested for impairment at least annually, more often when circumstances indicate impairment may have occurred. Goodwill is carried at cost less accumulated impairment losses. If impairment exists, goodwill is immediately written off to its fair value and the loss is recognized in the consolidated statements of operations and comprehensive loss. Impairment losses on goodwill are not reversed. As of July 31, 2018, no impairment of long-lived assets was recognized.

 

F-19

 

 

Xiangtian (USA) Air Power Co. Ltd. and Subsidiaries

Notes to Consolidated Financial Statements

 

Impairment for Long-Lived Assets

 

Long-lived assets, including plant and equipment and intangible with finite lives are reviewed for impairment whenever events or changes in circumstances (such as a significant adverse change to market conditions that will impact the future use of the assets) indicate that the carrying value of an asset may not be recoverable. The Company assesses the recoverability of the assets based on the undiscounted future cash flows the assets are expected to generate and recognize an impairment loss when estimated undiscounted future cash flows expected to result from the use of the asset plus net proceeds expected from disposition of the asset, if any, are less than the carrying value of the asset. If an impairment is identified, the Company would reduce the carrying amount of the asset to its estimated fair value based on a discounted cash flows approach or, when available and appropriate, to comparable market values. As of July 31, 2018 and 2017, no impairment of long-lived assets was recognized.

 

Subscription receivable

 

Subscription receivable represents unpaid capital contribution from its shareholders.

 

Fair Value Measurement

 

The Company applies the provisions of ASC Subtopic 820-10, “Fair Value Measurements”, for fair value measurements of financial assets and financial liabilities and for fair value measurements of nonfinancial items that are recognized or disclosed at fair value in the financial statements. ASC 820 also establishes a framework for measuring fair value and expands disclosures about fair value measurements.

 

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. When determining the fair value measurements for assets and liabilities required or permitted to be recorded at fair value, the Company considers the principal or most advantageous market in which it would transact and it considers assumptions that market participants would use when pricing the asset or liability.

 

ASC 820 establishes a fair value hierarchy that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. ASC 820 establishes three levels of inputs that may be used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to measurements involving significant unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy are as follows: