ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Please read this discussion along with the Consolidated Financial Statements and
Notes found at ITEM 7. "FINANCIAL STATEMENTS."
OVERVIEW
As a result of the completion of merger exercise on October 5 2004, the holding
companies of the 2 businesses i.e., LIN RAY YANG Enterprise Ltd., a British
Virgin Island company ("LRY"), and Sunrise Real Estate Development Group, Inc.,
a Cayman Islands company ("CY-SRRE") became our wholly-owned subsidiaries, and
their respective subsidiaries (SHSY & SHXJY) businesses became our only
business.
Since the former stockholders of LRY and CY-SRRE acquired a majority of our
voting interests in the merger, the transaction was treated as a reverse
acquisition, with LRY and CY-SRRE treated as the acquirer for accounting
purposes. Accordingly, the pre-merger financial statements of LRY and CY-SRRE
are our historical financial statements. Before the completion of the merger
exercise, SRRE had no continuing operations and its historical results would not
be meaningful if combined with the historical results of SHXJY.
As a result of the acquisition, the former owners of CY-SRRE and LRY hold a
majority interest in the combined entity. Generally accepted accounting
principles require in certain circumstances that a company whose stockholders
retain the majority voting interest in the combined business to be treated as
the acquirer for financial reporting purposes. Accordingly, the acquisition has
been accounted for as a "reverse acquisition" arrangement whereby CY-SRRE and
LRY are deemed to have purchased SRRE. However, SRRE remains the legal entity
and the Registrant for Securities and Exchange Commission reporting purposes.
The historical financial statements prior to October 5, 2004 are those of
CY-SRRE and LRY and their subsidiaries. All shares and per share data prior to
the acquisition have been restated to reflect the stock issuance as a
recapitalization of CY-SRRE and LRY.
SRRE and its subsidiaries, namely, CY-SRRE, LRY, SHXJY, SZXJY, BJXJY and SHSY
are collectively referred to as "the Company" hereafter. The principal
activities of the Company are the provision of property brokerage services and
real estate marketing services in Mainland China.
RECENT DEVELOPMENTS
Before 2004, our major business is agency business, whereby our only subsidiary
then, SHXJY was contracted by property developers to market and sell their newly
developed property units; in return we earn a commission fee calculated as a
percentage of the selling price. Our business operation in SHXJY continues to
demonstrate growth in revenue.
In 2004, through another subsidiary, SHSY, we venture into a higher risk
business model whereby our commission was not calculated as a percentage of
selling price anymore; instead, our commission revenue is equivalent to the
price difference between the final selling price and underwriting price. In this
higher risk model named "Underwriting Model", we negotiated with the developer
for an underwriting price as low as possible, with the condition that we
guarantee to acquire all unsold units within certain period. In return, we were
given the flexibility to price the final selling price and earn the price
difference between the final selling price and the underwriting price. The risk
of this kind of arrangement is that, if there is any unsold unit upon the expiry
period, we may have to absorb the unsold units from developers at the
underwriting price and hold them as our stock or investment. As per the terms of
underwriting agreement, there are 2 expiry periods: the first is in the mid of
2005 whereby we committed to sell 60% of the contracted value; the second is by
the end 2005, whereby we committed to the remaining 40% of the contracted value.
12
While we expect revenue to stem from these two subsidiaries businesses, we can
provide no assurance that this will result in any increase in profitability.
RISKS ASSOCIATED WITH FORWARD-LOOKING STATEMENTS INCLUDED IN THIS FORM 10-KSB
In addition to historical information, this Form 10-KSB contains forward-looking
statements. Forward-looking statements are expressions of our current beliefs
and expectations, based on information currently available to us; estimates, and
projections about our industry, and certain assumptions made by our management.
These statements are not historical facts. We use words such as "anticipates,"
"expects," "intends," "plans," "believes," "seeks," "estimates," and similar
expressions to identify our forward-looking statements, which include, among
other things, our anticipated revenue and cost of our agency and investment
business.
Because we are unable to control or predict many of the factors that will
determine our future performance and financial results, including future
economic, competitive, and market conditions, our forward-looking statements are
not guarantees of future performance. They are subject to risks, uncertainties,
and errors in assumptions that could cause our actual results to differ
materially from those reflected in our forward-looking statements. We believe
that the assumptions underlying our forward-looking statements are reasonable.
However, you should not place undue reliance on these forward-looking
statements. They only reflect our view and expectations as of the date of this
Form 10-KSB. We undertake no obligation to publicly update or revise any
forward-looking statement in light of new information, future events, or
otherwise.
RECENTLY ISSUED ACCOUNTING STANDARDS
In December 2003, the Financial Accounting Standards Board (FASB) issued
Interpretation 46R (FIN 46R), a revision to Interpretation 46 (FIN 46),
Consolidation of Variable Interest Entities. FIN 46R clarifies some of the
provisions of FIN 46 and exempts certain entities from its requirements. FIN 46R
is effective at the end of the first interim period ending after March 15, 2004.
Entities that have adopted FIN 46 prior to this effective date can continue to
apply the provisions of FIN 46 until the effective date of FIN 46R or elect
early adoption of FIN 46R. The adoption of FIN 46 and FIN 46R did not have a
material impact on our financial statements.
In December 2004, the Financial Accounting Standards Board (FASB) issued a
revision of FASB Statement No. 123, (FASB 123R) Accounting for Stock-Based
Compensation. This Statement supersedes APB Opinion No. 25, Accounting for Stock
Issued to Employees, and its related implementation guidance. FASB 123R
establishes standards for the accounting for transactions in which an entity
exchanges its equity instruments for goods or services. It also addresses
transactions in which an entity incurs liabilities in exchange for goods or
services that are based on the fair value of the entity, equity instruments or
that may be settled by the issuance of those equity instruments. FASB 123R
focuses primarily on accounting for transactions in which an entity obtains
employee services in share-based payment transactions. FASB 123R does not change
the accounting guidance for share-based payment transactions with parties other
than employees provided in FASB 123 as originally issued and EITF Issue No.
96-18, Accounting for Equity Instruments That Are Issued to Other Than Employees
for Acquiring, or in Conjunction with Selling, Goods or Services. FASB 123R does
not address the accounting for employee share ownership plans, which are subject
to AICPA Statement of Position 93-6, Employers Accounting for Employee Stock
Ownership Plans. We do not believe the adoption of FASB 123R will have a
material impact on our financial statements.
APPLICATION OF CRITICAL ACCOUNTING POLICIES
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Critical accounting policies for us include revenue
recognition, impairment of goodwill, and accounting for income taxes.
13
Goodwill
SFAS 142, Goodwill and Other Intangible Assets, requires that goodwill be tested
for impairment on an annual basis (December 31 for us) and between annual tests
if an event occurs or circumstances change that would more likely than not
reduce the fair value of a reporting unit below its carrying value. These events
or circumstances could include a significant change in the business climate,
legal factors, operating performance indicators, competition, sale or
disposition of a significant portion of the Company. Application of the goodwill
impairment test requires judgment, including the identification of the Company,
assignment of assets and liabilities to Company, assignment of goodwill to the
Company, and determination of the fair value of the Company. The fair value of
Company is estimated using a discounted cash flow methodology. This requires
significant judgments including estimation of future cash flows, which is
dependent on internal forecasts, estimation of the long-term rate of growth for
our business, the useful life over which cash flows will occur, and
determination of our weighted average cost of capital. Changes in these
estimates and assumptions could materially affect the determination of fair
value and/or goodwill impairment for the Company
Income Taxes
SFAS 109, Accounting for Income Taxes, establishes financial accounting and
reporting standards for the effect of income taxes. The objectives of accounting
for income taxes are to recognize the amount of taxes payable or refundable for
the current year and deferred tax liabilities and assets for the future tax
consequences of events that have been recognized in an entity's financial
statements or tax returns. Judgment is required in assessing the future tax
consequences of events that have been recognized in our financial statements or
tax returns. Variations in the actual outcome of these future tax consequences
could materially impact our financial position or our results of operations.
Revenue Recognition
Agency commission revenue from property broking is recognised when the property
developer and the buyer complete a property sales transactions, which is
normally at the time when the property developer receives from the buyer a
portion of the sales proceeds in accordance with the terms of the relevant
property sales agreement.
Revenue from marketing consultancy services is recognized when services are
provided to clients.
RESULTS OF OPERATIONS
We provide the discussion and analysis of our changes in financial condition and
results of operations with comparison to that of last fiscal year only. There
will be no comparison for last fiscal year vis-a-vis the period before as there
was no pro-forma consolidated financial statement prior to the "reverse
acquisition" exercise.
Revenue
Our net revenues after sales tax are mainly agency commission fee derived from
SHXJY. Net revenue was $7.7 million in 2004 compared to $5.3 million in 2003. In
2004, we were contracted to sell property value worth $283 million, which was a
134% increase from last year contracted value of $121 million. We expect we will
experience the similar if not better revenue growth rate in 2005 for our
commissioned agency business.
In 2004, another operating subsidiary, SHSY is contributing minimal gross
revenue of $122,380 as it is still in the early stage of development; in
February 2004, SHSY has won a project to underwrite an office building in
Suzhou. Property Sales Underwriting is comparatively a higher risk business
model compared to our pure commission based agency business, whereby our
commission was not calculated as a percentage of selling price anymore; instead,
our commission revenue is equivalent to the price difference between the final
selling price and underwriting price. In this relatively high risk model,
14
namely, "Underwriting Model", we negotiated with developer for an underwriting
price as low as possible, with the condition that we guarantee to acquire all
unsold units within certain period. In return, we were given the flexibility to
price the final selling price and earn the price difference between the final
selling price and the underwriting price. The risk of this kind of arrangement
is that, if there is any unsold unit upon the expiry period, we may have to
absorb the unsold property units from developers at the underwriting price and
hold it as our stock or investment.
This underwriting project launched in January 2005 after the property develop
obtained the necessary permit for sale. Since then, we have sold almost a
quarter of the underwritten floor areas as of March 23, 2005; this will generate
potential revenue of $3.8 million. The total revenue to be generated from this
project is $15 million. We expect with the inclusion of this underwriting
income, the composition of our group revenue will change tremendously in 2005,
with both agency commission and underwriting income each representing
approximately half of the revenue.
Cost of Revenue
Cost of revenue increased to $4.2 million when compared with that of last
corresponding period. The increase is primarily in tandem with the increase in
sales. Besides, there were other elements for the significant increase in cost
of revenue in 2004;
1. Advertising costs: For most of the projects handled by the Company,
advertising costs are borne by corresponding property developers. For
certain projects in 2004, we committed to bear all advertising costs on our
own in exchange for a higher agency commission rate. All advertising costs
incurred in the promotion of the Company's property projects are expensed
as incurred. Total advertising costs for 2004 was $1.3 million while just
$17,000 was incurred in 2003. Due to the cyclical nature of our business,
we have no guarantee to match the advertising costs to the related revenue;
however, we are confident that advertising costs expensed in 2004 will be
recovered when the related revenue is generated in 2005. Advertising costs
are usually incurred according to the timeline specified in project
budgeting. It is budgeted according to a percentage of our expected sales
amount. Due to the nature of property marketing and sales cycle,
advertising costs are usually incurred two to three months prior to the
formal sales launch activities; in some cases, advertising costs and
activities may take place before year-end, while sales launch activities
were take place after year-end. As advertising costs are expended off as
incurred, there is possibility that advertising costs incurred in current
year are not exactly matching with the related revenue earned.
2. Operating Incentives: Operating Incentive is awarded to the management and
operation team for achieving and exceeding certain preset performance
targets for the year, operating incentive of $165,000 was incurred in this
year.
General and Administrative Expenses
The Company's general & administrative expenses increased by 229% over 2003. The
increase in general and administrative expenses was mainly due to the following
reasons:
1. Regionalized Management Initiative Program: The increase in management
member and sales personnel resulting from the introduction of Regionalized
Management Initiative Program caused the increase in staff costs during the
year. In addition, the rental and other office expenses arising from the
set-up of SHSY, SZXJY and SHXJY's two branches located in Nanchong and
Yangzhou in 2004 also caused the increase in general and administrative
expenses.
2. Establishment of SHSY: The setting up of SHSY in March 2004 is to undertake
higher risk business arrangement with developer, i.e.; underwriting case
and any other property investment project in the future. The running cost
of this subsidiary is amounted to $487,940 in 2004.
3. Business Development Incentive: This incentive was attributed to the
initial management team members for their valuable contribution to the
Company. It was calculated at 0.2% of the total value of properties sold in
2004. During the year, business development incentive of $565,456 was
declared to the initial management team.
15
In addition to the general and administration expenses associated with the new
subsidiaries and branches, the expenses also included housing allowance of
$138,000 given to the top management who are Taiwanese expatriate. As being a
social committed enterprise, we also made contribution to the community by
donating to local schools and providing education subsidies in rural areas. In
2004, the total contribution for the above was $48,000.
LIQUIDITY AND CAPITAL RESOURCES
Source of Cash:
|X| Our principal sources of cash are commission revenue from our agency
business. As agency business will remain the core of our operation, it will
continue to be our primary source of cash. On top of that, we are expecting
another source of operating cash from our newly set-up investment division
as well. We believe these sources will continue to meet our cash
requirements, including debt service, operating expenses and promissory
deposits for various property projects. Although we expect these sources of
cash to be sufficient to fund our planned uses of cash, we can make no
assurance that the expected property sales will be completed as planned.
|X| Another major source of cash is from the injection of capital amounting to
$2 million by LIN RAY YANG Enterprise Ltd., a British Virgin Island company
("BVI LRY").
|X| Proceeds from borrowings were also a key source of cash for SRRE. We have
obtained $1 million under a commercial promissory note. The commercial
promissory note bears interest at a rate of 5% per annum. All outstanding
principal and interest are due at maturity as of December 31, 2004. In
January 2005 the line of maturity of the Note was extended for a year to
December 31, 2005. Interest is due on demand and all outstanding principal
are due at maturity.
|X| We have also entered in a mortgage loan agreement with Suzhou Commercial
Bank. This is a 5- year term loan amounting to $1.48 million. The
arrangement of this term loan is mainly to finance the acquisitions of two
floors of an office building under development in Suzhou, the PRC. The term
loan bears 0.4875% monthly interest with a monthly repayment installment of
$28,510. We may face difficulty in paying back the loan if the
property-underwriting project in Suzhou does not provide the cash source as
planned.
|X| We have also profit sharing partners whom committed to share part of our
investment risk in the property underwriting project spearheading by our
subsidiary, SHSY. The total proceeds from these profit sharing partners are
$972,633. Profit distributable to these profit sharing partners will be
allotted to them respectively after deducting all the costs involved in the
project.
Uses of Cash
|X| Most of our cash resources were used to fund the operating expenses and
personnel related expenses, such as salary and commission paid to sales
forces, advertising cost, maintenance of regional offices and etc.
|X| We also committed in placing performance guarantee deposits to certain
property developers in order to secure the relevant projects.
We expect that moving forward we may utilize more available cash sources to fund
for Performance Guarantee in order to secure higher quality projects and to
allow us to negotiate for better agency commission structure.
Potential Cash Pressure for 2005
|X| Sales Underwriting Agreement
16
Our subsidiary, SHSY has underwritten the sale of Suzhou Hui Long Project
(the building name is called Sovereign Building), a property developed by
an independent developer. Under this underwriting agreement, we negotiated
with developer for an underwriting price, with the condition that we
guarantee to acquire all unsold units within certain period. In return, we
were given the flexibility to price the final selling price and earn the
price difference between the final selling price and the underwriting
price. We are optimistic that we would be able to sell off the committed
units by the date agreed by both parties.
The total sum of the underwriting value is $49 million. We have committed
to sell 60% of the total underwriting value by May 25, 2005. As of March 9,
2005, we have managed to sell off 35% of the committed value since the
launch the sales on January 8, 2005. The management is confident to achieve
the 60% target by May 25, 2005. If we do not meet the 60% target by May 25,
2005, we have to acquire from the independent developer the remaining
unsold units. The requirement to pay the unsold units will partly be funded
by mortgage loans from banks and partly be funded by the proceeds earned
from the sold units.
This report contains certain forward-looking statements and information relating
to us that are based on the beliefs and assumptions made by our management as
well as information currently available to the management. When used in this
document, the words "anticipate", "believe", "estimate", and "expect" and
similar expressions, are intended to identify forward-looking statements. Such
statements reflect our current views with respect to future events and are
subject to certain risks, uncertainties and assumptions. Should one or more of
these risks or uncertainties materialize, or should underlying assumptions prove
incorrect, actual results may vary materially from those described herein as
anticipated, believed, estimated or expected.
RISK FACTORS
SRRE has identified a number of risk factors faced by the Company. These
factors, among others, may cause actual result, events or performance to differ
materially from those expressed in any forward-looking statements made in this
Form 10-KSB or in press releases or other public disclosures. Investors should
be aware of the existence of these factors.
Risk relating to the Group
Risk relating to Property Underwriting Agreement
Shanghai Shangyang Real Estate Consultation Company Limited ("SHSY"), one of our
subsidiaries, has entered into a Property Underwriting Agreement with an
independent property developer to underwrite the Sovereign Building Project, a
commercial building developed by the developer at a fixed underwriting price.
When an unit is sold, the price difference between the ultimate selling price
and the fixed underwriting price will be attributable to SHSY According to the
Property Underwriting Agreement, we have committed to distribute all the units
within a certain period of time. If we fail to sell all the units, we have to
acquire all the unsold units from the developer. Hence, we are bearing a
potential risk of liability, and our future cash flow and liquidity would be
adversely affected.
We may be unable to recognize our income
Generally, we recognize our income after the contracts signed with developers
are fulfilled and confirmations are received from the developers. But, sometimes
we cannot recognize income even we have rendered our services because of the
following reasons:
|X| The developers have not received payments from potential property buyers
who promise to pay the outstanding sum by cash,
|X| The property owners are unable to obtain the mortgage financing from bank,
in the case where property buyer is paying the outstanding sum via mortgage
financing
|X| Even if the property owners obtain the mortgage loan, because the
developers' credit is relatively low, the banks are unwilling to grant the
bridging loan to developer in time,
|X| The developers intend to be in arrears with the sales commission, hence not
granting confirmation to the Company to invoice them according.
Development of new business may stretch our cash flow and strain our operation
efficiency
In end of 2004, We have established a joint venture with SIP Hi-Dragon Real
Estate Development Co., Ltd. - Suzhou Gao Feng Hui Property Management Co., Ltd
to expand our business; our proportion of investment is 80%. The business scope
17
of the new company is to conduct renting service, building management service
and buildings maintenance management service of office buildings, hotel-style
flat, some activities we have little experience of. Such expansion and the need
to integrate operations arising from the expansion may place a significant
strain on our managerial, operational and financial resources, and will further
contribute to an increase need in our financing requirements.
Risk associated with a Guaranteed Return Promotion
In order to sell out the underwritten property of Sovereign Building as
scheduled, we have launched a Promotional Package in end of November 2004. This
promotional package allow buyers and investors to enjoy a 5 or 8 years
guaranteed investment return of 8.5% and 8.8% per annum respectively. The return
is guaranteed by the Suzhou Gao Feng Hui Property Management Co., Ltd ("SZGFH"),
an independent company that we have 80% stake in, whereby SZGFH's principal
activities are the provisions of real estate leasing service and property
management service. However, we may not successfully lease out the targeted
properties at prices higher than that we committed as per the promotional
package. Our failure to do so could adversely affect our financial condition. In
addition, one of our subsidiaries, Shanghai Shang Yang Real Estate Consultation
Co., Ltd., must bear joint liability for the guarantee return agreement that
Suzhou Gao Feng Hui Property Management Co., Ltd enters into with several
property owners. If Gao Feng Hui fails to fulfill the agreement, Shang Yang's
financial condition may be affected adversely.
Our acquisition of new property may involve risks
We acquired two floors of the Sovereign Building this year and financed 50% of
the property acquisition sum via a 5-year term loan with the remainder 50% due
in November 2005. This acquisition involves several risks, including but not
limited to the following:
|X| Acquired property may not perform as well as we expected or ever become
profitable.
|X| Improvements to the properties may ultimately cost significantly more than
we had estimated.
|X| The mentioned loan is a floating rate debt. Accordingly, increases in
interest rates could materially increase our interest expense.
|X| If we are unable to generate sufficient cash flow from operation, when the
remainder 50% of the property acquisition sum is due, our operation would
be adversely affected.
We may be unable to effectively manage our growth
We will need to manage our growth effectively, which may entail devising and
effectively implementing business and integration plans, training and managing
our growing workforce, managing our costs and implementing adequate control and
reporting systems in a timely manner. We may not successfully manage our growth
or in integrating and assimilating any acquired business operations. Our failure
to do so could affect our success in executing our business plan and adversely
affect our revenues, profitability and results of operations.
Dependence on the performance of the property sector in specific geographical
area
The properties we resell and intend to invest are mainly based in Yangtze Delta,
especially in Shanghai. Our future prospects are therefore heavily dependent on
the continued growth of the property sector around Yangtze Delta, and our
business may be affected by any adverse developments in the supply and demand or
housing prices in the property sector around Yangtze Delta. The current level of
property development and investment activity in Yangtze Delta and other markets
is substantial. However, there is no assurance that such property resale and
investment activity in Yangtze Delta or any of the other markets of ours will
continue at this level in the future or that we will be able to benefit from the
future growth of the property market in Yangtze Delta or any of these other
property markets.
Financing considerations
Property sector is a capital-intensive business. Adequate financing is one of
the major factors, which can affect our ability to executive our plan in this
regard. We finance our business mainly from internal funds and bank borrowings,
and currently we are preparing for our listing exercise and raising equity fund.
There is no guarantee that we will always have internal funds available for
future developments or we will not experience difficulties in obtaining
18
financing and renewing credit facilities granted by financial institutions in
the future. And there may be a delay in listing and equity fund raising
activities. Our access to debt or equity financing depends on banks' willingness
to lend and on conditions in the capital markets, and we may not be able to
secure additional sources of financing on commercially acceptable terms, if at
all.
Any rise in interest rate would increase our interest cost
An increase in interest rates will increase the interest expense associated with
our floating-rate debt and the refinancing of any fixed-rate debt originally
financed at a lower rate.
Dependence on qualified personnel
As a small company, our success depends on the service of our executive officers
and other skilled managerial and technical personnel. The loss of the services
of one or more of such employees could have material adverse effect on us. In
addition, as our business continues to grow, we will need to recruit, train and
retain additional qualified employees. If we fail to attract and retain
qualified personnel, our business and prospects would be adversely affected.
Risk relating to partnering developers
We have been recording enormous growth rate this year. Currently, Xin Ji Yang is
our major contributor in term of both revenue and net income. As a service-based
company, Xin Ji Yang depends much on the working relationship and the agency
contracts with its partnering developers. We are exposed to the risk that the
developers may experience financial or other difficulties, which may affect
their ability or will to carry out the development projects and the reselling
contracts, thus delaying or canceling the fulfillment of the agency contracts.
Any of these factors could adversely affect our revenues.
Our controlling shareholders may take actions that are not in public
shareholders' best interests
The Ace Develop Properties Limited directly controls 62% of our outstanding
common stock and Lin Chi-jung, our Chairman, indirectly controls 62% of our
outstanding common stock. Accordingly, under and subject to the Articles of
Incorporation and the Company Law, the Ace Develop Properties Limited and Lin
Chi-Jung, by virtue of their controlling ownership of share interests, will be
able to exercise substantial control over our business by directly or indirectly
voting at either shareholders meetings or the board of directors meetings in
matters of significance to us and our public shareholders, including matters
relating to: |X| Election of directors and supervisors; |X| The amount and
timing of dividends and other distributions; |X| Acquisition of or merger with
another company; and |X| Amendment of the Articles of Incorporation.
Risk relating to the Real Estate Industry in Yangtze Delta and Other Areas of
the PRC
The real estate market in Yangtze Delta and other areas of the PRC
We are subject to real estate market conditions in the PRC generally and Yangtze
Delta in particular. Private ownership of property in the PRC is still at an
early stage of development. Although there is a perception that economic growth
in the PRC and the higher standard of living resulting from such growth will
lead to a greater demand for private properties in the PRC, it is not possible
to predict with certainty that such a correlation exists as many social,
political, economic, legal and other factors may affect the development of the
property market.
The PRC property market, including the Yangtze Delta property market, is
volatile and may experience oversupply and property price fluctuations. The
central and local governments frequently adjust monetary and other economic
policies to prevent and curtail the overheating of the PRC and local economies,
and such economic adjustments may affect the real estate market in Yangtze Delta
and other parts of China. Furthermore, the central and local governments from
time to time make policy adjustments and adopt new regulatory measures in a
direct effort to control the over development of the real estate market in
China, including Yangtze Delta. Such policies may lead to changes in market
conditions, including price instability and imbalance of supply and demand of
residential properties, which may materially adversely affect our business and
financial conditions. Also, there is no assurance that there will not be over
development in the property sector in Yangtze Delta and other parts of China in
the future. Any future over development in the property sector in Yangtze Delta
and other parts of China may result in an oversupply of properties and a fall of
property prices in Yangtze Delta or any of our other markets, which could
adversely affect our business and financial condition.
19
We face Increasing competition which may adversely affect our profitability
In recent years, a large number of property companies have begun undertaking
property sales and investment projects in Yangtze Delta and elsewhere in the
PRC, some of which may have better track record and greater financial and other
resources than we do. The intensity of the competition may adversely affect our
business and financial position. In addition, the real estate market in Yangtze
Delta and elsewhere in the PRC is rapidly changing. If we cannot respond to
changes of the market conditions more swiftly or effectively than our
competitors do, our business and financial position will be adversely affected.
Interest rate and mortgage financing risks
Mortgages are becoming increasingly popular as a means of financing property
purchases in the PRC. An increase in interest rates may significantly increase
the cost of mortgage financing, thus reducing the affordability of mortgages as
a source of financing for residential property purchases. The PRC government has
increased the down payment requirement and imposed certain other conditions
which make mortgage financing unavailable or unattractive to the potential
property purchasers. There is no assurance that the down payment requirement and
other condition will not be further revised upward. If the availability or
attractiveness of mortgage financing is significantly limited, many of our
prospective customers would not be able to purchase the properties and, as a
result, our business and future prospects would be adversely affected.
Risks relating to the PRC
All of our current deal sources are located in China and all of our revenues are
derived from our operations in China. Accordingly, our business, financial
condition, results of operations and prospects are subject, to a significant
extent, to economic, political and legal developments in China.
PRC economic, political policies and social conditions could affect our business
The economy of PRC differs from the economies of most developed countries in a
number ofiirespects, including amount of government involvement, level of
development, growth rate, control of foreign exchange and allocation of
resources. The PRC Government has been reforming the PRC economic system from
planned economy to market oriented economy for more than 20 years, and has also
begun reforming the government structure in recent years. These reforms have
resulted in significant economic growth and social progress. Although we believe
these reforms will have a positive effect on our overall and long-term
development, we cannot predict whether any future changes in PRC's political,
economic and social conditions, laws, regulations and policies will have any
adverse effect on our current or future business, results of operations or
financial condition.
Changes in foreign exchange regulations may adversely affect our ability to
remit dividends and our results of operations and financial condition
Substantially all of our revenues and operating expenses are denominated in
Renminbi. Conversion of Renminbi is under strict government regulation in the
PRC. The Renminbi is currently freely convertible under the "current account",
including trade and service related foreign exchange transactions and payment of
dividends, but not under the "capital account", which includes foreign direct
investment and loans. Under the existing foreign exchange regulations in the
PRC, we will be able to pay dividends in foreign currencies without prior
approval from the State Administration for Foreign Exchange by complying with
certain procedural requirements. However, there is no assurance that the above
foreign policies regarding payment of dividends in foreign currencies will
continue in the future.
Fluctuation of the Renminbi could materially affect the value of, and dividends
payable on, the Shares in foreign currency term
The value of the Renminbi is subject to changes in the PRC Government's policies
and depends to a large extent on China's domestic and international economic and
political developments, as well as supply and demand in the local market. Since
1994, the official exchange rate for the conversion of Renminbi to US dollars
has generally been stable. However, we cannot give any assurance that the value
of the Renminbi will continue to remain stable against the US dollar or any
20
other foreign currency. Since our income and profit are denominated in Renminbi,
any devaluation of the Renminbi would adversely affect the value of, and
dividends, if any, payable on, our Shares in foreign currency terms
The PRC Legal System Embodies Uncertainties
The PRC legal system is a civil law system based on written statutes. Unlike
common law systems, it is a system in which decided legal cases have little
precedent value. In 1979, the PRC government began to promulgate a comprehensive
system of laws and regulations governing economic matters in general. The
overall effect of legislation over the past 25 years has significantly enhanced
the protections afforded to various forms of foreign investment in Mainland
China. Our PRC operating subsidiaries, Xing Ji Yang and Shang Yang, both wholly
foreign-owned enterprises (WFOE) are subject to laws and regulations applicable
to foreign investment in mainland China in general and laws and regulations
applicable to WFOE in particular. However, these laws, regulations and legal
requirements are constantly changing, and their interpretation and enforcement
involve uncertainties. These uncertainties could limit the legal protections
available to us and other foreign investors. In addition, we cannot predict the
effect of future developments in the PRC legal system, including the
promulgation of new laws, changes to existing laws or the interpretation or
enforcement thereof, or the pre-emption of local regulations by national laws.
21