XOTC:HBMK Quarterly Report 10-Q Filing - 6/30/2012

Effective Date 6/30/2012

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

FORM 10-Q

þ
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended June 30, 2012

£
TRANSITION REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from _______ to _______
 
Commission File Number: 000-53231

HUBEI MINKANG PHARMACEUTICAL LTD.
(Exact name of registrant as specified in its charter)
 
Nevada
 
26-24106855
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)
     
55 Ubi Ave. 3, #03-01, Mintwell Building
Singapore
 
 
408864
(Address of principal executive offices)
 
(Zip Code)
 
+65-6747-7883
Registrant’s telephone number, including area code
 
N/A
(Former name, former address and former fiscal year, if changed since last report)
 
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 of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.Yes  þ   No  £
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).Yes  £   No  þ
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer,” “non-accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer o Accelerated filer  o
       
Non-accelerated filer o Smaller reporting company þ
(Do not check if a smaller reporting company)       
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes  £   No  þ
 
State the number of shares outstanding of each of the issuer’s classes of common equity, as of the latest practicable date.  44,177,439 shares of common stock as of August 3, 2012.
 


 
 

 
TABLE OF CONTENTS
 
USE OF NAMES     2  
           
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS     2  
           
PART I – FINANCIAL INFORMATION        
           
Item 1.
Financial Statements
    3  
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
    4  
Item 3.
Quantitative and Qualitative Disclosures About Market Risk.
    11  
Item 4.
Controls and Procedures.
    11  
           
PART II – OTHER INFORMATION        
           
Item 1.
Legal Proceedings
    13  
Item 1A.
Risk Factors
    13  
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
    13  
Item 3.
Defaults upon Senior Securities
    13  
Item 4.
Mine Safety Disclosures
    13  
Item 5.
Other Information
    13  
Item 6.
Exhibits
    14  
 
 
1

 

USE OF NAMES

In this annual report, the terms “Hubei Minkang,” “Company,” “we,” or “our,” unless the context otherwise requires, mean Hubei Minkang Pharmaceutical Ltd. and its subsidiaries, if any.

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

Certain statements made in this quarterly report on Form 10-Q constitute “forward-looking statements” as that term is defined in applicable securities laws. Forward-looking statements are projections in respect of future events or our future financial performance. In some cases, you can identify forward-looking statements by terminology such as “may,” “should,” “intend,” “expect,” “plan,” “anticipate,” “believe,” “estimate,” “predict,” “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, which may cause our or our industry’s actual results, levels of activity or performance to be materially different from any future results, levels of activity or performance expressed or implied by these forward-looking statements. These risks and uncertainties include: (1) a continued downturn in international economic conditions; (2) any adverse occurrence with respect to our patented technology; (3) our ability to bring new products to market; (4) market demand for our products; (5) shifts in industry capacity; (6) product development or other initiatives by our competitors; (7) fluctuations in the availability and cost of materials required to produce our products; (8) potential negative financial impact from claims, lawsuits and other legal proceedings or challenges; and (9) other factors beyond our control.  Important factors that you should also consider, include, but are not limited to, the factors discussed under “Risk Factors” in our annual report on Form 10-K for the fiscal year ended December 31, 2011 filed with the Securities and Exchange Commission on April 16, 2012.

Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity or performance. These forward-looking statements speak only as of the date on which they are made, and except to the extent required by applicable law, including the securities laws of the United States, we undertake no obligation to update any forward-looking statements to reflect events or circumstances after the date on which the statement is made or to reflect the occurrence of unanticipated events.  In addition, we cannot assess the impact of each factor on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements.  All subsequent written and oral forward-looking statements attributable to the Company or persons acting on its behalf are expressly qualified in their entirety by the cautionary statements contained in this quarterly report.
 
 
2

 
 
PART I – FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS

Our unaudited financial statements included in this Form 10-Q are as follows:

F-2 
Consolidated Balance Sheets as of June 30, 2012 (unaudited) and December 31, 2011;
F-3
Consolidated Statements of Income and Comprehensive Income for the three and six months ended June 30, 2012 and 2011 (unaudited);
F-4
Consolidated Statement of Stockholders’ Equity for the interim period ended June 30, 2012 (unaudited);
F-5
Consolidated Statements of Cash Flows for the six months ended June 30, 2012 and 2011 (unaudited); and
F-6 
Notes to the Consolidated Financial Statements (unaudited).

It is the opinion of management that the unaudited interim consolidated financial statements for the three and six months ended June 30, 2012 and 2011 include all adjustments necessary in order to ensure that the unaudited interim consolidated financial statements are not misleading. These unaudited interim financial statements reflect all adjustments which are, in the opinion of management, necessary to present fairly the financial position, results of operations and cash flows for the interim periods presented in accordance with accounting principles generally accepted in the United States of America. Except where noted, these unaudited interim consolidated financial statements follow the same accounting policies and methods of their application as our Company’s audited annual financial statements for the year ended December 31, 2011. All adjustments are of a normal recurring nature. These unaudited interim consolidated financial statements should be read in conjunction with our Company’s audited annual financial statements as of and for the year ended December 31, 2011, which were attached to the Company’s Annual Report on Form 10-K filed with the SEC on April 16, 2012.
 
 
3

 

Hubei Minkang Pharmaceutical Ltd.
 
June 30, 2012 and 2011
 
Index to the Consolidated Financial Statements
 
Contents  
Page(s)
 
       
Consolidated Balance Sheets at June 30, 2012 (Unaudited) and December 31, 2011
    F-2  
         
Consolidated Statements of Income and Comprehensive Income for the Three Months and Six Months Ended June 30, 2012 and 2011 (Unaudited)
    F-3  
         
Consolidated Statement of Stockholders’ Equity for the Interim Period Ended June 30, 2012 (Unaudited)
    F-4  
         
Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2012 and 2011 (Unaudited)
    F-5  
         
Notes to the Consolidated Financial Statements (Unaudited)
    F-6  
 
 
F-1

 
Hubei Minkang Pharmaceutical Ltd.
 
 Consolidated Balance Sheets
 
   
June 30,
2012
   
December 31,
2011
 
   
(Unaudited)
       
             
ASSETS
CURRENT ASSETS:
           
Cash
  $ 3,453,731     $ 3,104,846  
Restricted cash, unearned government grant
    458,753       468,009  
Banker's acceptance notes receivable
    498,572       1,639,353  
Accounts receivable, net
    1,780,088       2,118,047  
Advance on purchases
    393,942       583,776  
Inventories
    3,505,661       2,461,454  
Prepayments and other current assets
    114,286       67,400  
                 
Total Current Assets
    10,205,033       10,442,885  
                 
PROPERTY, PLANT AND EQUIPMENT
               
Property, plant and equipment
    6,033,446       5,690,992  
Accumulated depreciation
    (1,131,341 )     (943,987 )
                 
PROPERTY, PLANT AND EQUIPMENT, net
    4,902,105       4,747,005  
                 
LAND USE RIGHTS
               
Land use rights
    2,454,065       2,437,006  
Accumulated amortization
    (368,110 )     (341,181 )
                 
LAND USE RIGHTS, net
    2,085,955       2,095,825  
                 
PURCHASED FORMULAE
               
Purchased formulae
    1,906,625       1,893,371  
Accumulated amortization
    (1,429,968 )     (1,325,360 )
                 
PURCHASED FORMULAE, net
    476,657       568,011  
                 
Total Assets
  $ 17,669,750     $ 17,853,726  
                 
 LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
               
Loans payable
  $ 3,167,414     $ 3,145,396  
Accounts payable
    2,619,014       2,463,908  
Customer deposits
    503,189       1,030,445  
Taxes payable
    -       203,039  
Advances from stockholders
    352,427       505,480  
Working capital advances
    -       786,349  
Deferred revenue from government grant
    458,753       468,009  
Due to related party
    105,099       -  
Accrued expenses and other current liabilities
    1,583,871       1,721,133  
                 
Total Current Liabilities
    8,789,767       10,323,759  
                 
otal Liabilities
    8,789,767       10,323,759  
                 
COMMITMENTS AND CONTINGENCIES
               
                 
STOCKHOLDERS' EQUITY:
               
   Preferred stock, $0.001 par value: 10,000,000 shares authorized;
               
none issued or outstanding
    -       -  
   Common stock, $0.001 par value: 168,750,000 shares authorized;
               
44,177,439 and 43,047,169 shares issued and outstanding, respectively
   
44,177
     
43,047
 
Additional paid-in capital
    4,229,539       3,439,480  
Retained earnings
    3,247,836       2,744,600  
Acumulated other comprehensive income:
               
 Foreign currency translation gain
    1,358,431       1,302,840  
                 
Total Stockholders' Equity
    8,879,983       7,529,967  
                 
Total Liabilities and Stockholders' Equity
  $ 17,669,750     $ 17,853,726  
 
See accompanying notes to the consolidated financial statements.
 
 
F-2

 
Hubei Minkang Pharmaceutical Ltd.
 
 Consolidated Statements of Income and Comprehensive Income
 
 
For the Three Months
   
For the Three Months
   
For the Six Months
 
For the Six Months
 
 
Ended
   
Ended
   
Ended
   
Ended
 
   
June 30, 2012
   
June 30, 2011
   
June 30, 2012
   
June 30, 2011
 
 
(Unaudited)
   
(Unaudited)
   
(Unaudited)
   
(Unaudited)
 
                         
Net Revenues
  $ 3,098,242     $ 2,305,372     $ 5,786,181     $ 5,123,785  
                                 
Cost of Goods Sold
                               
Cost of goods sold
    1,363,152       1,105,594       2,827,456       2,643,523  
Inventory obsolescence adjustments
    -       50,210       -       50,210  
                                 
Cost of Goods Sold
    1,363,152       1,155,804       2,827,456       2,693,733  
                                 
Gross Margin
    1,735,090       1,149,568       2,958,725       2,430,052  
                                 
Operating Expenses
                               
Advertising expenses
    34,427       706       43,367       6,805  
Selling expenses
    489,709       404,738       836,599       821,571  
Professional fees
    25,536       -       91,385       -  
Research and development
    20,140       4,608       29,471       11,030  
General and administrative expenses
    752,148       535,190       1,407,049       1,017,265  
                                 
Total operating expenses
    1,321,960       945,242       2,407,871       1,856,671  
                                 
Income from Operations
    413,130       204,326       550,854       573,381  
                                 
OTHER (INCOME) EXPENSE:
                               
Government grants - energy conservation
    (7,267 )     -       (12,532 )     -  
Interest income
    (4,085 )     (17,449 )     (8,321 )     (19,878 )
Interest expense
    58,676       46,982       114,484       68,738  
Other (income) expense
    (12,642 )     4,905       (7,394 )     (4,664 )
                                 
Other (income) expense, net
    34,682       34,438       86,237       44,196  
                                 
Income before Income Tax Provision
    378,448       169,888       464,617       529,185  
                                 
Income Tax Provision
    (91,364 )     31,845       (38,619 )     121,670  
                                 
Net Income
    469,812       138,043       503,236       407,515  
                                 
Other Comprehensive Income
                               
Foreign currency translation gain
    4,496       115,764       55,591       176,319  
                                 
Total other comprehensive income
    4,496       115,764       55,591       176,319  
                                 
Comprehensive Income
  $ 474,308     $ 253,807     $ 558,827     $ 583,834  
                                 
Net Income Per Common Share - Basic and Diluted
  $ 0.01     $ 0.00     $ 0.01     $ 0.01  
                                 
Weighted average common shares outstanding:
                         
 - basic and diluted
    43,618,514       33,500,000       43,332,842       33,500,000  
  
See accompanying notes to the consolidated financial statements.
 
 
F-3

 
Hubei Minkang Pharmaceutical Ltd.
 
Consolidated Statement of Stockholders' Equity
For the Interim Period Ended June 30, 2012
(Unaudited)
 
   
Common Stock, $0.001 Par Value
   
Additional
         
Comprehensive Income
   
Total
 
   
Number of
         
Paid-in
   
Retained
   
Foreign Currency
   
Stockholders'
 
   
Shares
   
Amount
   
Capital
   
Earnings
   
Translation Gain
   
Equity
 
                                     
Balance, December 31, 2010
    33,500,000     $ 33,500     $ 3,586,500     $ 2,958,645     $ 999,287     $ 7,577,932  
                                                 
Reverse acqusition adjustment
    9,547,169       9,547       (147,020 )                     (137,473 )
                                                 
Comprehensive income
                                               
Net loss
                            (214,045 )             (214,045 )
Other comprehensive income
                                               
Foreign currency translation gain
                                    303,553       303,553  
                                                 
Total comprehensive income
                                            89,508  
                                                 
Balance, December 31, 2011
    43,047,169       43,047       3,439,480       2,744,600       1,302,840       7,529,967  
                                                 
Issuance of common shares for cash at $0.70 per share
    1,130,270       1,130       790,059                       791,189  
                                                 
Comprehensive income
                                               
 Net income
                            503,236               503,236  
 Other comprehensive income
                                               
Foreign currency translation gain
                              55,591       55,591  
                                                 
Total comprehensive income
                                            558,827  
                                                 
Balance, June 30, 2012
    44,177,439     $ 44,177     $ 4,229,539     $ 3,247,836     $ 1,358,431     $ 8,879,983  
 
 
See accompanying notes to the consolidated financial statements.
 
 
F-4

 
Hubei Minkang Pharmaceutical Ltd.
 
 Consolidated Statements of Cash Flows
 
 
For the Six Months
   
For the Six Months
 
 
Ended
   
Ended
 
   
June 30, 2012
   
June 30, 2011
 
 
(Unaudited)
   
(Unaudited)
 
             
CASH FLOWS FROM OPERATING ACTIVITIES:
           
Net income
  $ 503,236     $ 407,515  
Adjustments to reconcile net income to net cash provided by (used in) operating activities
 
Depreciation expense
    182,213       154,882  
Amortization expense - land use rights
    24,541       23,976  
Amortization expense - purchased formulae
    95,331       93,138  
Changes in operating assets and liabilities:
               
Banker's acceptance notes receivable
    1,152,257       (348,522 )
Accounts receivable
    352,786       1,046,657  
Advance on purchases
    193,921       -  
Inventories
    (1,026,977 )     (413,047 )
Prepayments and other current assets
    (9,332 )     (166,771 )
Accounts payable
    321,465       (275,501 )
Customer deposits
    (534,470 )     772,213  
Taxes payable
    (242,467 )     (748,391 )
Deferred revenue from government grant
    (12,531 )     -  
Accrued expenses and other current liabilities
    (329,745 )     (558,064 )
Due to related Party
    105,099       -  
                 
Net cash provided by (used in) operating activities
    775,327       (11,915 )
                 
CASH FLOWS FROM INVESTING ACTIVITIES:
               
Release of restricted cash
    12,531       -  
Purchases of property, plant and equipment
    (304,083 )     (81,126 )
                 
Net cash used in investing activities
    (291,552 )     (81,126 )
                 
CASH FLOWS FROM FINANCING ACTIVITIES:
               
Proceeds from loans payable
    2,375,560       3,094,538  
Repayment of loans payable
    (2,375,560 )     (866,471 )
Amounts received from (repayment made to) stockholders
    (156,592 )     -  
Proceeds from (repayment of) working capital advances
    (791,853 )     -  
Proceeds from sale of common stock
    791,189       -  
                 
Net cash provided by (used in) financing activities
    (157,256 )     2,228,067  
                 
Effect of exchange rate changes on cash
    22,366       33,967  
                 
Net change in cash
    348,885       2,168,993  
                 
Cash at beginning of the period
    3,104,846       1,394,805  
                 
Cash at end of the period
  $ 3,453,731     $ 3,563,798  
                 
SUPPLEMENTAL DISCLOSURE OF CASH FLOWS INFORMATION:
         
Interest paid
  $ 114,484     $ 68,738  
                 
Income tax paid
  $ 173,030     $ 333,121  
 
See accompanying notes to the consolidated financial statements.
 
 
F-5

 
 
Hubei Minkang Pharmaceutical Ltd.
June 30, 2012 and 2011
Notes to the Consolidated Financial Statements
(Unaudited)

Note 1 – Organization and Operations

Hubei Minkang Pharmaceutical Ltd. (formerly Nexgen Petroleum Corp., Blackrock Petroleum Corp. or DGT Corp.)

Hubei Minkang Pharmaceutical Ltd. (formerly Nexgen Petroleum Corp., Blackrock Petroleum Corp. or DGT Corp.) (the “Company”) was incorporated on April 17, 2006 under the laws of the State of Nevada.  Through various acquisitions and name changes, the Company engaged in the business of acquiring, exploring and developing oil and gas properties.

On October 20, 2010, the Company changed to its current name, Hubei Minkang Pharmaceutical Ltd. to reflect its intended acquisition of HBMK Pharmaceutical Limited (“HBMK”), a BVI corporation.

The Company discontinued its oil and gas exploration business upon consummation of the share exchange agreement (“Share Exchange Agreement”) with HBMK and all of the shareholders of HBMK on September 21, 2011.

HBMK Pharmaceutical Limited and subsidiary

HBMK Pharmaceutical Limited

HBMK Pharmaceutical Limited was incorporated on June 29, 2010 under the laws of the Territory of the British Virgin Islands (“BVI”).  HBMK was formed by the stockholders of Sensori Holdings (S) Pte Ltd., the sole stockholder of Hubei Minkang Pharmaceutical Co., Ltd. for the sole purpose of acquiring all of the registered and contributed capital of Hubei Minkang Pharmaceutical Co., Ltd.

Prior to October 12, 2010, the date of recapitalization, HBMK was inactive and had no assets or liabilities.

Hubei Minkang Pharmaceutical Co., Ltd.

Hubei Minkang Pharmaceutical Co., Ltd. (“Minkang”) was incorporated on December 18, 2003 under the laws of the People’s Republic of China (“PRC”).  Minkang engages in the research, development, manufacturing and distribution of traditional Chinese medicine.

Merger of Minkang

On October 12, 2010, HBMK acquired all of the registered and contributed capital of Minkang from Sensori Holdings (S) Pte Ltd., Minkang’s then sole stockholder in exchange for 3,620,000 shares of the HBMK’s common stock.  The number of shares issued represented 100% of the issued and outstanding common stock immediately after the consummation of the Minkang acquisition.

As a result of the ownership interests of the former stockholder of Minkang, for financial statement reporting purposes, the merger between HBMK and Minkang has been treated as a reverse acquisition with Minkang deemed the accounting acquirer and HBMK deemed the accounting acquiree under the purchase method of accounting in accordance with section 805-10-55 of the FASB Accounting Standards Codification. The reverse merger is deemed a capital transaction and the net assets of Minkang (the accounting acquirer) are carried forward to HBMK (the legal acquirer and the reporting entity) at their carrying value before the acquisition.  The acquisition process utilizes the capital structure of HBMK and the assets and liabilities of Minkang which are recorded at historical cost.  The equity of the combined entity is the historical equity of Minkang retroactively restated to reflect the number of shares issued by HBMK in the transaction.
 
 
F-6

 

Acquisition of HBMK Pharmaceutical Limited and Subsidiary Recognized as a Reverse Acquisition

On July 8, 2011, Hubei entered into a share exchange agreement (the “Share Exchange Agreement”) with HBMK and all of the shareholders of HBMK and consummated the Share Exchange Agreement on September 21, 2011, with the HBMK stockholders representing 100% of then issued and outstanding capital stock of HBMK.  Pursuant to the terms of the Share Exchange Agreement, Hubei acquired all of the issued and outstanding shares of capital stock of HBMK from HBMK’s then stockholders in exchange for 33,500,000 shares of the Hubei’s common stock.  The number of shares issued represented approximately 77.8% of the issued and outstanding common stock immediately after the consummation of the Share Exchange.

As a result of the ownership interests of the former stockholders of HBMK, for financial statement reporting purposes, the merger between Hubei and HBMK has been treated as a reverse acquisition with HBMK deemed the accounting acquirer and Hubei deemed the accounting acquiree under the purchase method of accounting in accordance with section 805-10-55 of the FASB Accounting Standards Codification. The reverse merger is deemed a capital transaction and the net assets of HBMK (the accounting acquirer) are carried forward to Hubei (the legal acquirer and the reporting entity) at their carrying value before the combination.  The acquisition process utilizes the capital structure of Hubei and the assets and liabilities of HBMK which are recorded at historical cost.  The equity of the combined entity is the historical equity of HBMK retroactively restated to reflect the number of shares issued by Hubei in the transaction.

Note 2 – Summary of Significant Accounting Policies

Basis of Presentation - Unaudited Interim Financial Information

The accompanying unaudited interim consolidated financial statements and related notes have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information, and with the rules and regulations of the United States Securities and Exchange Commission (“SEC”) to Form 10-Q and Article 8 of Regulation S-X.  Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements.  The unaudited interim financial statements furnished reflect all adjustments (consisting of normal recurring accruals) which are, in the opinion of management, necessary to a fair statement of the results for the interim periods presented.  Interim results are not necessarily indicative of the results for the full year.  These unaudited interim consolidated financial statements should be read in conjunction with the consolidated financial statements of the Company for the year ended December 31, 2011 and notes thereto contained in the Company’s Annual Report on Form 10-K filed with the SEC on April 16, 2012.
 
Principles of Consolidation

The consolidated financial statements include all accounts of the Company and its entities as of the reporting period ending date(s) and for the reporting period(s) as follows:

Entity
 
Jurisdiction, Place of Incorporation
 
Attributable Interest
 
           
HBMK Pharmaceutical Limited
 
The Territory of the British Virgin Islands
    100 %
             
Hubei Minkang Pharmaceutical Co., Ltd.
 
PRC
    100 %

All inter-company balances and transactions have been eliminated.

Reclassification

Certain amounts in the prior period financial statements have been reclassified to conform to the current period presentation.   These reclassifications had no effect on reported losses.
 
 
F-7

 

Use of Estimates and Assumptions

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America 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.

The Company’s significant estimates and assumptions include the fair value of financial instruments; allowance for doubtful accounts, normal production capacity, inventory valuation and obsolescence; the carrying value, recoverability and impairment of long-lived assets, including the values assigned to and the estimated useful lives of property, plant and equipment, land use rights, and purchased formulae; interest rates; revenue and government grant realized or realizable and earned; sales returns and allowances; value added tax rate, income tax rate and related tax provision; foreign currency exchange rate and functional currency of foreign subsidiaries.  Those significant accounting estimates or assumptions bear the risk of change due to the fact that there are uncertainties attached to those estimates or assumptions, and certain estimates or assumptions are difficult to measure or value.

Management bases its estimates on historical experience and on various assumptions that are believed to be reasonable in relation to the financial statements taken as a whole under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources.

Management regularly evaluates the key factors and assumptions used to develop the estimates utilizing currently available information, changes in facts and circumstances, historical experience and reasonable assumptions. After such evaluations, if deemed appropriate, those estimates are adjusted accordingly.

Actual results could differ from those estimates.

Fair Value of Financial Instruments

The Company follows paragraph 820-10-35-37 of the FASB Accounting Standards Codification (“Paragraph 820-10-35-37”) to measure the fair value of its financial instruments and paragraph 825-10-50-10 of the FASB Accounting Standards Codification for disclosures about fair value of its financial instruments. Paragraph 820-10-35-37 establishes a framework for measuring fair value in accounting principles generally accepted in the United States of America (U.S. GAAP), and expands disclosures about fair value measurements. To increase consistency and comparability in fair value measurements and related disclosures, Paragraph 820-10-35-37 establishes a fair value hierarchy which prioritizes the inputs to valuation techniques used to measure fair value into three (3) broad levels.  The three (3) levels of fair value hierarchy defined by Paragraph 820-10-35-37 are described below:

Level 1
Quoted market prices available in active markets for identical assets or liabilities as of the reporting date.
   
Level 2
Pricing inputs other than quoted prices in active markets included in Level 1, which are either directly or indirectly observable as of the reporting date.
   
Level 3
Pricing inputs that are generally observable inputs and not corroborated by market data.

Financial assets are considered Level 3 when their fair values are determined using pricing models, discounted cash flow methodologies or similar techniques and at least one significant model assumption or input is unobservable.

The fair value hierarchy gives the highest priority to quoted prices (unadjusted) in active markets for identical assets or liabilities and the lowest priority to unobservable inputs.  If the inputs used to measure the financial assets and liabilities fall within more than one level described above, the categorization is based on the lowest level input that is significant to the fair value measurement of the instrument.

The carrying amounts of the Company’s financial assets and liabilities, such as cash, restricted cash – unearned government grants, banker’s acceptance notes receivable, accounts receivable, advance on purchases, prepayments and other current assets, accounts payable, customer deposits, taxes payable, deferred revenue from government grants, accrued expenses and other current liabilities approximate their fair values because of the short maturity of these instruments.
 
 
F-8

 

The Company’s loans payable approximate the fair value of such instruments based upon management’s best estimate of interest rates that would be available to the Company for similar financial arrangements at June 30, 2012 and December 31, 2011.

Transactions involving related parties cannot be presumed to be carried out on an arm's-length basis, as the requisite conditions of competitive, free-market dealings may not exist. Representations about transactions with related parties, if made, shall not imply that the related party transactions were consummated on terms equivalent to those that prevail in arm's-length transactions unless such representations can be substantiated.

It is not, however, practical to determine the fair value of advances from stockholders, if any, due to their related party nature.

Fair Value of Non-Financial Assets or Liabilities Measured on a Recurring Basis
 
The Company identifies potentially excess and slow-moving inventories by evaluating turn rates, inventory levels and other factors.  Excess quantities are identified through evaluation of inventory aging, review of inventory turns and historical sales experiences. The Company provides lower of cost or market reserves for such identified excess and slow-moving inventories. The Company establishes a reserve for inventory shrinkage, if any, based on the historical results of physical inventory cycle counts.

Carrying Value, Recoverability and Impairment of Long-Lived Assets

The Company has adopted paragraph 360-10-35-17 of the FASB Accounting Standards Codification for its long-lived assets. The Company’s long-lived assets, which include property, plant and equipment, land use rights, and purchased formulae are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable.

The Company assesses the recoverability of its long-lived assets by comparing the projected undiscounted net cash flows associated with the related long-lived asset or group of long-lived assets over their remaining estimated useful lives against their respective carrying amounts. Impairment, if any, is based on the excess of the carrying amount over the fair value of those assets.  Fair value is generally determined using the asset’s expected future discounted cash flows or market value, if readily determinable.  If long-lived assets are determined to be recoverable, but the newly determined remaining estimated useful lives are shorter than originally estimated, the net book values of the long-lived assets are depreciated over the newly determined remaining estimated useful lives.

The Company considers the following to be some examples of important indicators that may trigger an impairment review: (i) significant under-performance or losses of assets relative to expected historical or projected future operating results; (ii) significant changes in the manner or use of assets or in the Company’s overall strategy with respect to the manner or use of the acquired assets or changes in the Company’s overall business strategy; (iii) significant negative industry or economic trends; (iv) increased competitive pressures; (v) a significant decline in the Company’s stock price for a sustained period of time; and (vi) regulatory changes.  The Company evaluates acquired assets for potential impairment indicators at least annually and more frequently upon the occurrence of such events.

The key assumptions used in management’s estimates of projected cash flow deal largely with forecasts of sales levels, gross margins, and operating costs of the manufacturing facilities.  These forecasts are typically based on historical trends and take into account recent developments as well as management’s plans and intentions.  Any difficulty in manufacturing or sourcing raw materials on a cost effective basis would significantly impact the projected future cash flows of the Company’s manufacturing facilities and potentially lead to an impairment charge for long-lived assets.  Other factors, such as increased competition or a decrease in the desirability of the Company’s products, could lead to lower projected sales levels, which would adversely impact cash flows.  A significant change in cash flows in the future could result in an impairment of long lived assets.

The impairment charges, if any, is included in operating expenses in the accompanying consolidated statements of income and comprehensive income (loss).
 
 
F-9

 

Cash Equivalents

The Company considers all highly liquid investments with maturities of three months or less at the time of purchase to be cash equivalents.

Restricted Cash, Unearned Government Grants

The Company follows paragraph 210-10-45-4 of the FASB Accounting Standards Codification for restricted cash, unearned government grants. Restricted cash, unearned government grants represents grants received from the City of Yichang government to be used in the Company’s environmental protection and improvement projects.

Banker’s Acceptance Notes Receivable

The Company accepts bankers’ acceptance notes in payment of accounts receivable with certain customers.  These notes are usually of a short term nature, approximately three to nine months in length.  They are non-interest bearing, are due on the date of maturity; are paid by the customers’ bank or credit worthy issuer upon presentation.

Accounts Receivable and Allowance for Doubtful Accounts

Accounts receivable are recorded at the invoiced amount, net of an allowance for doubtful accounts.  The Company follows paragraph 310-10-50-9 of the FASB Accounting Standards Codification to estimate the allowance for doubtful accounts.  The Company performs on-going credit evaluations of its customers and adjusts credit limits based upon payment history and the customer’s current credit worthiness, as determined by the review of their current credit information; and determines the allowance for doubtful accounts based on historical write-off experience, customer specific facts and economic conditions.

Outstanding account balances are reviewed individually for collectability.  The allowance for doubtful accounts is the Company’s best estimate of the amount of probable credit losses in the Company’s existing accounts receivable. Bad debt expense is included in general and administrative expenses, if any.  Pursuant to paragraph 310-10-50-2 of the FASB Accounting Standards Codification account balances are charged off against the allowance after all means of collection have been exhausted and the potential for recovery is considered remote.  The Company has adopted paragraph 310-10-50-6 of the FASB Accounting Standards Codification and determine when receivables are past due or delinquent based on how recently payments have been received.

There was no allowance for doubtful accounts at June 30, 2012 or December 31, 2011.

The Company does not have any off-balance-sheet credit exposure to its customers.

Advance on Purchases

Advance on purchases primarily represents amounts paid to vendors for future delivery of products ranging from three (3) months to nine (9) months, all of which are fully or partially refundable depending upon the terms and conditions of the purchase agreements.
 
 
F-10

 

Inventories

Inventory Valuation

The Company values inventories, consisting of raw materials, packaging material and finished goods, at the lower of cost or market.  Cost is determined on the first-in and first-out (“FIFO”) method for raw materials and packaging materials and the weighted average cost method for finished goods. Cost of finished goods comprises direct labor, direct materials, direct production cost and an allocated portion of production overhead. The Company reduces inventories for the diminution of value, resulting from product obsolescence, damage or other issues affecting marketability, equal to the difference between the cost of the inventory and its estimated market value.  Factors utilized in the determination of estimated market value include (i) current sales data and historical return rates, (ii) estimates of future demand, (iii) competitive pricing pressures, (iv) new product introductions, (v) product expiration dates, and (vi) component and packaging obsolescence.

Normal Capacity and Period Costs of Underutilized or Idle Capacity of the Production Facilities

The Company follows paragraph 330-10-30-3 of the FASB Accounting Standards Codification for the allocation of production costs and charges to inventories.  The Company allocates fixed production overhead to inventories based on the normal capacity of the production facilities expected to be achieved over a number of periods or seasons under normal circumstances, taking into account the loss of capacity resulting from planned maintenance.  Judgment is required to determine when a production level is abnormally low (that is, outside the range of expected variation in production).  Factors that might be anticipated to cause an abnormally low production level include significantly reduced demand, labor and materials shortages, and unplanned facility or equipment down time.  The actual level of production may be used if it approximates normal capacity.  In periods of abnormally high production, the amount of fixed overhead allocated to each unit of production is decreased so that inventories are not measured above cost.  The amount of fixed overhead allocated to each unit of production is not increased as a consequence of abnormally low production or idle plant and  unallocated overheads of underutilized or idle capacity of the production facilities are recognized as period costs in the period in which they are incurred rather than as a portion of the inventory cost.

Inventory Obsolescence and Markdowns

The Company evaluates its current level of inventories considering historical sales and other factors and, based on this evaluation, classify inventory markdowns in the income statement as a component of cost of goods sold pursuant to Paragraph 420-10-S99 of the FASB Accounting Standards Codification to adjust inventories to net realizable value. These markdowns are estimates, which could vary significantly from actual requirements if future economic conditions, customer demand or competition differ from expectations. Other significant estimates include the allocation of variable and fixed production overheads. While variable production overheads are allocated to each unit of production on the basis of actual use of production facilities, the allocation of fixed production overhead to the costs of conversion is based on the normal capacity of the Company’s production facilities, and recognizes abnormal idle facility expenses as current period charges. Certain costs, including categories of indirect materials, indirect labor and other indirect manufacturing costs which are included in the overhead pools are estimated. The management of the Company determines its normal capacity based upon the amount of operating hours of the manufacturing machinery and equipment in a reporting period.

Property, Plant and Equipment

Property, plant and equipment are recorded at cost.  Expenditures for major additions and betterments are capitalized.  Maintenance and repairs are charged to operations as incurred.  Depreciation of property, plant and equipment is computed by the straight-line method (after taking into account their respective estimated residual values) over the assets estimated useful lives ranging from five (5) years to twenty (20) years.  Upon sale or retirement of property, plant and equipment, the related cost and accumulated depreciation are removed from the accounts and any gain or loss is reflected in the statements of income and comprehensive income (loss).  Leasehold improvements, if any, are amortized on a straight-line basis over the term of the lease or the estimated useful lives, whichever is shorter.  Upon becoming fully amortized, the related cost and accumulated amortization are removed from the accounts.

Construction in progress represents direct costs of construction or the acquisition cost of long-lived assets. Under U.S. GAAP, all costs associated with construction of long-lived assets should be reflected as long-term as part of construction-in-progress. Capitalization of these costs ceases and the construction in progress is transferred to property, plant and equipment when substantially all of the activities necessary to prepare the long-lived assets for their intended use are completed. No depreciation is provided until the construction of the long-lived assets is complete and ready for their intended use.
 
 
F-11

 

Planned Major Maintenance Activities

The Company follows the guidance of paragraph 360-10-25-5 of the FASB Accounting Standards Codification (“Paragraph 360-10-25-5”), which prohibits the use of the accrue-in-advance method of accounting for planned major maintenance activities. Paragraph 360-10-25-5 also requires disclosures regarding the method of accounting for planned major maintenance activities and the effects of implementing the Paragraph 360-10-25-5.  The guidance in Paragraph 360-10-25-5 affects the Company with regard to its manufacturing facility requiring periodic major maintenance to meet the Certification of Good Manufacturing Practices (“GMP”) requirement every five (5) years in connection with its pharmaceutical products manufacturing license as mandated by China State Food and Drug Administration (“SFDA”).  As a result, the Company has retroactively applied the required change in accounting, electing the deferral method of accounting for planned major maintenance activities.  The deferral method requires the capitalization of planned major maintenance costs at the point they occur and the depreciation and amortization of these costs over their estimated useful lives or the period until future maintenance activities of five (5) years are repeated, whichever is shorter.

Land Use Rights

Land use rights represent the cost to obtain the rights to use certain parcels of land in the City of Yichang, Hubei Province, PRC.  Land use rights are carried at cost and amortized on a straight-line basis over the lives of the rights of fifty (50) years.  Upon becoming fully amortized, the related cost and accumulated amortization are removed from the accounts.

Purchased Formulae

The Company has adopted paragraph 350-30-25-3 of the FASB Accounting Standards Codification for purchased formulae.  Under the requirements, the Company amortizes the costs of purchased formulae over their estimated useful lives of ten (10) years.  Upon becoming fully amortized, the related cost and accumulated amortization are removed from the accounts.

Customer Deposits

Customer deposits primarily represent amounts received from customers for future delivery of products, all of which were fully or partially refundable depending upon the terms and conditions of the sales agreements.

Related Parties

The Company follows subtopic 850-10 of the FASB Accounting Standards Codification for the identification of related parties and disclosure of related party transactions.

Pursuant to Section 850-10-20 the related parties include a. affiliates of the Company; b. entities for which investments in their equity securities would be required, absent the election of the fair value option under the Fair Value Option Subsection of Section 825–10–15, to be accounted for by the equity method by the investing entity; c. trusts for the benefit of employees, such as pension and profit-sharing trusts that are managed by or under the trusteeship of management; d. principal owners of the Company; e. management of the Company; f. other parties with which the Company may deal if one party controls or can significantly influence the management or operating policies of the other to an extent that one of the transacting parties might be prevented from fully pursuing its own separate interests; and g. other parties that can significantly influence the management or operating policies of the transacting parties or that have an ownership interest in one of the transacting parties and can significantly influence the other to an extent that one or more of the transacting parties might be prevented from fully pursuing its own separate interests.
 
 
F-12

 

The financial statements shall include disclosures of material related party transactions, other than compensation arrangements, expense allowances, and other similar items in the ordinary course of business. However, disclosure of transactions that are eliminated in the preparation of consolidated or combined financial statements is not required in those statements. The disclosures shall include:  a. the nature of the relationship(s) involved; b. a description of the transactions, including transactions to which no amounts or nominal amounts were ascribed, for each of the periods for which income statements are presented, and such other information deemed necessary to an understanding of the effects of the transactions on the financial statements; c. the dollar amounts of transactions for each of the periods for which income statements are presented and the effects of any change in the method of establishing the terms from that used in the preceding period; and d. amounts due from or to related parties as of the date of each balance sheet presented and, if not otherwise apparent, the terms and manner of settlement.

Commitment and Contingencies

The Company follows subtopic 450-20 of the FASB Accounting Standards Codification to report accounting for contingencies. Certain conditions may exist as of the date the consolidated financial statements are issued, which may result in a loss to the Company but which will only be resolved when one or more future events occur or fail to occur.  The Company assesses such contingent liabilities, and such assessment inherently involves an exercise of judgment.  In assessing loss contingencies related to legal proceedings that are pending against the Company or unasserted claims that may result in such proceedings, the Company evaluates the perceived merits of any legal proceedings or unasserted claims as well as the perceived merits of the amount of relief sought or expected to be sought therein.

If the assessment of a contingency indicates that it is probable that a material loss has been incurred and the amount of the liability can be estimated, then the estimated liability would be accrued in the Company’s consolidated financial statements.  If the assessment indicates that a potential material loss contingency is not probable but is reasonably possible, or is probable but cannot be estimated, then the nature of the contingent liability, and an estimate of the range of possible losses, if determinable and material, would be disclosed.

Loss contingencies considered remote are generally not disclosed unless they involve guarantees, in which case the guarantees would be disclosed.  Management does not believe, based upon information available at this time, that these matters will have a material adverse effect on the Company’s consolidated financial position, results of operations or cash flows. However, there is no assurance that such matters will not materially and adversely affect the Company’s business, financial position, and results of operations or cash flows.

Revenue Recognition

The Company follows paragraph 605-10-S99-1 of the FASB Accounting Standards Codification for revenue recognition.  The Company recognizes revenue when it is realized or realizable and earned.  The Company considers revenue realized or realizable and earned when all of the following criteria are met: (i) persuasive evidence of an arrangement exists, (ii) the product has been shipped or the services have been rendered to the customer, (iii) the sales price is fixed or determinable, and (iv) collectability is reasonably assured.

The Company derives the majority of its revenue from sales contracts with customers with revenues being generated upon the shipment of goods.  Persuasive evidence of an arrangement is demonstrated via invoice, product delivery is evidenced by warehouse shipping log as well as a signed bill of lading from trucking or rail company and title transfers when the goods arrive at their destination, based on free on board (“FOB”) destination; the sales price to the customer is fixed upon acceptance of the purchase order and there is no separate sales rebate, discount, or volume incentive.  When the Company recognizes revenue, no provisions are made for returns because, historically, there have been very few sales returns and adjustments that have impacted the ultimate collection of revenues.
 
 
F-13

 

Net sales of products represent the invoiced value of goods, net of value added taxes (“VAT”).  The Company is subject to VAT which is levied on all of the Company’s products at the rate of 17% on the invoiced value of sales.  Sales or Output VAT is borne by customers in addition to the invoiced value of sales and Purchase or Input VAT is borne by the Company in addition to the invoiced value of purchases to the extent not refunded for export sales, if any.
 
 Shipping and Handling Costs

The Company accounts for shipping and handling fees in accordance with paragraphs 605-45-45-19 through 605-45-45-23 of the FASB Accounting Standards Codification.  While amounts charged to customers for shipping products are included in revenues, the related costs are classified in cost of goods sold as incurred.
 
Advertising Costs

Advertising costs are expensed as incurred.
 
Research and Development

The Company follows paragraph 730-10-25-1 of the FASB Accounting Standards Codification (formerly Statement of Financial Accounting Standards No. 2 “Accounting for Research and Development Costs”) and paragraph 730-20-25-11 of the FASB Accounting Standards Codification (formerly Statement of Financial Accounting Standards No. 68 “Research and Development Arrangements”) for research and development costs.  Research and development costs are charged to expense as incurred.  Research and development costs consist primarily of remuneration for research and development staff, depreciation and maintenance expenses of research and development equipment, material and testing costs for research and development as well as research and development arrangements with unrelated third party research and development institutions.  The research and development arrangements usually involve specific research and development projects.  Often times, the Company makes non-refundable advances upon signing of these research and development arrangements.  The Company adopted paragraph 730-20-25-13 and 730-20-35-1 of the FASB Accounting Standards Codification (formerly Emerging Issues Task Force Issue No. 07-3 “Accounting for Nonrefundable Advance Payments for Goods or Services to be Used in Future Research and Development Activities”) for those non-refundable advances.  Non-refundable advance payments for goods or services that will be used or rendered for future research and development activities are deferred and capitalized.  Such amounts are recognized as an expense as the related goods are delivered or the related services are performed.  The management continues to evaluate whether the Company expect the goods to be delivered or services to be rendered.  If the management does not expect the goods to be delivered or services to be rendered, the capitalized advance payment are charged to expense.

Government Grants

Receipts of government grants (i) to construct environmental protection and improvement projects and (ii) to encourage research and development and (iii) to subsidize energy conservation activities which are non-refundable are credited to unearned government grants upon receipt. The grants are used for purchases of assets, to subsidize the research and development and energy conservation expenses incurred, for compensation expenses already incurred or for good performance of the Company.

Grants applicable to the construction of the environmental protection and improvement projects are recorded as a credit to the total cost of pollution prevention projects upon completion of the pollution prevention projects.  For research and development expenses, the Company matches and offsets the government grants with the expenses of the research and development activities as specified in the grant approval document in the corresponding period when such expenses are incurred and records related government grants as credit to research and development and pollution prevention project cost accordingly.  For government grants received as compensation for expenses already incurred are recognized as income in the period they become recognizable.
 
 
F-14

 

Foreign Currency Transactions

The Company applies the guidelines as set out in Section 830-20-35 of the FASB Accounting Standards Codification (“Section 830-20-35”) for foreign currency transactions.  Pursuant to Section 830-20-35 of the FASB Accounting Standards Codification, foreign currency transactions are transactions denominated in currencies other than U.S. Dollar, the Company’s reporting currency or Chinese Yuan or Renminbi, the Company’s functional currency.  Foreign currency transactions may produce receivables or payables that are fixed in terms of the amount of foreign currency that will be received or paid.  A change in exchange rates between the functional currency and the currency in which a transaction is denominated increases or decreases the expected amount of functional currency cash flows upon settlement of the transaction. That increase or decrease in expected functional currency cash flows is a foreign currency transaction gain or loss that generally shall be included in determining net income for the period in which the exchange rate changes. Likewise, a transaction gain or loss (measured from the transaction date or the most recent intervening balance sheet date, whichever is later) realized upon settlement of a foreign currency transaction generally shall be included in determining net income for the period in which the transaction is settled. The exceptions to this requirement for inclusion in net income of transaction gains and losses pertain to certain intercompany transactions and to transactions that are designated as, and effective as, economic hedges of net investments and foreign currency commitments.  Pursuant to Section 830-20-25 of the FASB Accounting Standards Codification, the following shall apply to all foreign currency transactions of an enterprise and its investees: (a) at the date the transaction is recognized, each asset, liability, revenue, expense, gain, or loss arising from the transaction shall be measured and recorded in the functional currency of the recording entity by use of the exchange rate in effect at that date as defined in section 830-10-20 of the FASB Accounting Standards Codification; and (b) at each balance sheet date, recorded balances that are denominated in currencies other than the functional currency or reporting currency of the recording entity shall be adjusted to reflect the current exchange rate.

Net gains and losses resulting from foreign exchange transactions, if any, are included in the Company’s statements of income and comprehensive income (loss).
 
Income Tax Provision

The Company accounts for income taxes under Section 740-10-30 of the FASB Accounting Standards Codification, which requires recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements or tax returns.  Under this method, deferred tax assets and liabilities are based on the differences between the financial statement and tax bases of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse.  Deferred tax assets are reduced by a valuation allowance to the extent management concludes it is more likely than not that the assets will not be realized.  Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled.  The effect on deferred tax assets and liabilities of a change in tax rates is recognized in the consolidated statements of income and comprehensive income (loss) in the period that includes the enactment date.

The Company adopted section 740-10-25 of the FASB Accounting Standards Codification (“Section 740-10-25”). Section 740-10-25 addresses the determination of whether tax benefits claimed or expected to be claimed on a tax return should be recorded in the financial statements.  Under Section 740-10-25, the Company may recognize the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position.  The tax benefits recognized in the financial statements from such a position should be measured based on the largest benefit that has a greater than fifty (50) percent likelihood of being realized upon ultimate settlement.  Section 740-10-25 also provides guidance on de-recognition, classification, interest and penalties on income taxes, accounting in interim periods and requires increased disclosures.

The estimated future tax effects of temporary differences between the tax basis of assets and liabilities are reported in the accompanying consolidated balance sheets, as well as tax credit carry-backs and carry-forwards. The Company periodically reviews the recoverability of deferred tax assets recorded on its consolidated balance sheets and provides valuation allowances as management deems necessary.

Management makes judgments as to the interpretation of the tax laws that might be challenged upon an audit and cause changes to previous estimates of tax liability. In addition, the Company operates within multiple taxing jurisdictions and is subject to audit in these jurisdictions. In management’s opinion, adequate provisions for income taxes have been made for all years. If actual taxable income by tax jurisdiction varies from estimates, additional allowances or reversals of reserves may be necessary.
 
 
F-15

 

Uncertain Tax Positions

The Company did not take any uncertain tax positions and had no adjustments to the unrecognized tax liabilities or benefits pursuant to the provisions of Section 740-10-25 for the interim period ended June 30, 2012 or 2011.

Foreign Currency Translation

The Company follows Section 830-10-45 of the FASB Accounting Standards Codification (“Section 830-10-45”) for foreign currency translation to translate the financial statements of the foreign subsidiary from the functional currency, generally the local currency, into U.S. Dollars.  Section 830-10-45 sets out the guidance relating to how a reporting entity determines the functional currency of a foreign entity (including of a foreign entity in a highly inflationary economy), re-measures the books of record (if necessary), and characterizes transaction gains and losses. Pursuant to Section 830-10-45, the assets, liabilities, and operations of a foreign entity shall be measured using the functional currency of that entity. An entity’s functional currency is the currency of the primary economic environment in which the entity operates; normally, that is the currency of the environment, or local currency, in which an entity primarily generates and expends cash.

The functional currency of each foreign subsidiary is determined based on management’s judgment and involves consideration of all relevant economic facts and circumstances affecting the subsidiary. Generally, the currency in which the subsidiary transacts a majority of its transactions, including billings, financing, payroll and other expenditures, would be considered the functional currency, but any dependency upon the parent and the nature of the subsidiary’s operations must also be considered.  If a subsidiary’s functional currency is deemed to be the local currency, then any gain or loss associated with the translation of that subsidiary’s financial statements is included in accumulated other comprehensive income. However, if the functional currency is deemed to be the U.S. Dollar, then any gain or loss associated with the re-measurement of these financial statements from the local currency to the functional currency would be included in the consolidated statements of income and comprehensive income (loss). If the Company disposes of foreign subsidiaries, then any cumulative translation gains or losses would be recorded into the consolidated statements of income and comprehensive income (loss).  If the Company determines that there has been a change in the functional currency of a subsidiary to the U.S. Dollar, any translation gains or losses arising after the date of change would be included within the statement of income and comprehensive income (loss).

Based on an assessment of the factors discussed above, the management of the Company determined the relevant subsidiary’s local currency to be the functional currency for its foreign subsidiary.

The financial records of the Company are maintained in their local currency, the Renminbi (“RMB”), which is the functional currency.  Assets and liabilities are translated from the local currency into the reporting currency, U.S. dollars, at the exchange rate prevailing at the balance sheet date.  Revenues and expenses are translated at weighted average exchange rates for the period to approximate translation at the exchange rates prevailing at the dates those elements are recognized in the financial statements.  Foreign currency translation gain (loss) resulting from the process of translating the local currency financial statements into U.S. dollars are included in determining accumulated other comprehensive income in the statement of stockholders’ equity.

RMB is not a fully convertible currency.  All foreign exchange transactions involving RMB must take place either through the People’s Bank of China (the “PBOC”) or other institutions authorized to buy and sell foreign exchange.  The exchange rate adopted for the foreign exchange transactions are the rates of exchange quoted by the PBOC.  Commencing July 21, 2005, China adopted a managed floating exchange rate regime based on market demand and supply with reference to a basket of currencies.  The exchange rate of the US dollar against the RMB was adjusted from approximately RMB 8.28 per U.S. dollar to approximately RMB 8.11 per U.S. dollar on July 21, 2005.  Since then, the PBOC administers and regulates the exchange rate of the U.S. dollar against the RMB taking into account demand and supply of RMB, as well as domestic and foreign economic and financial conditions.
 
 
F-16

 

Unless otherwise noted, the rate presented below per U.S. $1.00 was the midpoint of the interbank rate as quoted by OANDA Corporation (www.oanda.com) contained in its financial statements.  Management believes that the difference between RMB vs. U.S. dollar exchange rate quoted by the PBOC and RMB vs. U.S. dollar exchange rate reported by OANDA Corporation were immaterial.  Translations do not imply that the RMB amounts actually represent, or have been or could be converted into, equivalent amounts in U.S. dollars.  Translation of amounts from RMB into U.S. dollars has been made at the following exchange rates for the respective periods:

   
June 30,
 2012
 
December 31,
2011
   
June 30,
2011
   
December 31,
 2010
 
                             
Balance sheets
 
6.3143
   
6.3585
     
6.4630
     
6.6118
 
                             
Statements of income and comprehensive income
 
6.3141
   
6.4640
     
6.4924
         

Comprehensive Income (Loss)

The Company has applied section 220-10-45 of the FASB Accounting Standards Codification (“Section 220-10-45”) to present comprehensive income (loss).  Section 220-10-45 establishes rules for the reporting of comprehensive income (loss) and its components.  Comprehensive income (loss), for the Company, consists of net income and foreign currency translation adjustments and is presented in the Company’s consolidated statements of income and comprehensive income (loss) and stockholders’ equity.
 
Net Income (Loss) per Common Share

Net income (loss) per common share is computed pursuant to section 260-10-45 of the FASB Accounting Standards Codification.  Basic net income (loss) per common share is computed by dividing net income (loss) by the weighted average number of shares of common stock outstanding during the period.  Diluted net income (loss) per common share is computed by dividing net income (loss) by the weighted average number of shares of common stock and potentially outstanding shares of common stock during the period to reflect the potential dilution that could occur from common shares issuable through contingent share arrangements, stock options and warrants.

There were no potentially dilutive common shares outstanding for the interim period ended June 30, 2012 or 2011.

Cash Flows Reporting

The Company adopted paragraph 230-10-45-24 of the FASB Accounting Standards Codification for cash flows reporting, classifies cash receipts and payments according to whether they stem from operating, investing, or financing activities and provides definitions of each category, and uses the indirect or reconciliation method (“Indirect method”) as defined by paragraph 230-10-45-25 of the FASB Accounting Standards Codification to report net cash flow from operating activities by adjusting net income to reconcile it to net cash flow from operating activities by removing the effects of (a) all deferrals of past operating cash receipts and payments and all accruals of expected future operating cash receipts and payments and (b) all items that are included in net income that do not affect operating cash receipts and payments.  The Company reports the reporting currency equivalent of foreign currency cash flows, using the current exchange rate at the time of the cash flows and the effect of exchange rate changes on cash held in foreign currencies is reported as a separate item in the reconciliation of beginning and ending balances of cash and cash equivalents and separately provides information about investing and financing activities not resulting in cash receipts or payments in the period pursuant to paragraph 830-230-45-1 of the FASB Accounting Standards Codification.

Subsequent Events

The Company follows the guidance in Section 855-10-50 of the FASB Accounting Standards Codification for the disclosure of subsequent events. The Company will evaluate subsequent events through the date when the financial statements are issued.  Pursuant to ASU 2010-09 of the FASB Accounting Standards Codification, the Company as an SEC filer considers its financial statements issued when they are widely distributed to users, such as through filing them on EDGAR.
 
 
F-17

 

Recently Issued Accounting Pronouncements

FASB Accounting Standards Update No. 2011-05

In June 2011, the FASB issued the FASB Accounting Standards Update No. 2011-05 “Comprehensive Income” (“ASU 2011-05”), which was the result of a joint project with the IASB and amends the guidance in ASC 220, Comprehensive Income, by eliminating the option to present components of other comprehensive income (OCI) in the statement of stockholders’ equity. Instead, the new guidance now gives entities the option to present all non-owner changes in stockholders’ equity either as a single continuous statement of comprehensive income or as two separate but consecutive statements. Regardless of whether an entity chooses to present comprehensive income in a single continuous statement or in two separate but consecutive statements, the amendments require entities to present all reclassification adjustments from OCI to net income on the face of the statement of comprehensive income.

The amendments in this Update should be applied retrospectively and are effective for public entity for fiscal years, and interim periods within those years, beginning after December 15, 2011.

FASB Accounting Standards Update No. 2011-08

In September 2011, the FASB issued the FASB Accounting Standards Update No. 2011-08 “Intangibles—Goodwill and Other: Testing Goodwill for Impairment” (“ASU 20112012-08”). This Update is to simplify how public and nonpublic entities test goodwill for impairment. The amendments permit an entity to first assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the two-step goodwill impairment test described in Topic 350. Under the amendments in this Update, an entity is not required to calculate the fair value of a reporting unit unless the entity determines that it is more likely than not that its fair value is less than its carrying amount.

The guidance is effective for interim and annual periods beginning on or after December 15, 2011. Early adoption is permitted.

FASB Accounting Standards Update No. 2011-10

In December 2011, the FASB issued the FASB Accounting Standards Update No. 2011-10 “Property, Plant and Equipment: Derecognition of in Substance Real Estate-a Scope Clarification” (“ASU 2011-09”). This Update is to resolve the diversity in practice as to how financial statements have been reflecting circumstances when parent company reporting entities cease to have controlling financial interests in subsidiaries that are in substance real estate, where the situation arises as a result of default on nonrecourse debt of the subsidiaries.

The amended guidance is effective for annual reporting periods ending after June 15, 2012 for public entities. Early adoption is permitted.

FASB Accounting Standards Update No. 2011-11

In December 2011, the FASB issued the FASB Accounting Standards Update No. 2011-11 “Balance Sheet: Disclosures about Offsetting Assets and Liabilities” (“ASU 2011-11”). This Update requires an entity to disclose information about offsetting and related arrangements to enable users of its financial statements to understand the effect of those arrangements on its financial position. The objective of this disclosure is to facilitate comparison between those entities that prepare their financial statements on the basis of U.S. GAAP and those entities that prepare their financial statements on the basis of IFRS.

The amended guidance is effective for annual reporting periods beginning on or after January 1, 2013, and interim periods within those annual periods.

FASB Accounting Standards Update No. 2011-12

In December 2011, the FASB issued the FASB Accounting Standards Update No. 2011-12 “Comprehensive Income:  Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05” (“ASU 2011-12”). This Update is a deferral of the effective date pertaining to reclassification adjustments out of accumulated other comprehensive income in ASU 2011-05. FASB is to going to reassess the costs and benefits of those provisions in ASU 2011-05 related to reclassifications out of accumulated other comprehensive income. Due to the time required to properly make such a reassessment and to evaluate alternative presentation formats, the FASB decided that it is necessary to reinstate the requirements for the presentation of reclassifications out of accumulated other comprehensive income that were in place before the issuance of Update 2011-05.
 
 
F-18

 

All other requirements in Update 2011-05 are not affected by this Update, including the requirement to report comprehensive income either in a single continuous financial statement or in two separate but consecutive financial statements. Public entities should apply these requirements for fiscal years, and interim periods within those years, beginning after December 15, 2011.

Other Recently Issued, but Not Yet Effective Accounting Pronouncements

Management does not believe that any other recently issued, but not yet effective accounting pronouncements, if adopted, would have a material effect on the accompanying financial statements.
 
Note 3 – Restricted Cash – Unearned Government Grant

Restricted cash – unearned government grant at June 30, 2012 and December 31, 2011 consisted of the following:

   
June 30,
2012
   
December 31,
2011
 
                 
Restricted cash – unearned government grant
 
$
458,753
   
$
468,009
 
                 
             
 
 
$
458,753
   
$
468,009
 

Management has estimated that the Company will complete certain environmental protection and improvement projects and earn the entire grant currently held in the restricted cash in 2012.
 
Note 4 – Inventories

Inventories at June 30, 2012 and December 31, 2011 consisted of the following:

   
June 30,
2012
   
December 31,
2011
 
                 
Raw materials
 
$
876,227
   
$
508,126
 
                 
Packaging materials
   
204,555
     
184,801
 
                 
Work in process
   
1,358,611
     
727,415
 
                 
Finished goods
   
1,066,268
     
1,041,112
 
                 
             
 
 
$
3,505,661
   
$
2,461,454
 

Slow-moving or obsolescence markdowns

There were no slow-moving or inventory obsolescence adjustments for the interim period ended June 30, 2012 or 2011.
 
 
F-19

 

Lower of cost or market adjustments

There were no lower of cost or market adjustments for the interim period ended June 30, 2012 or 2011.

Note 5 – Property, Plant and Equipment

Property, plant and equipment, stated at cost, less accumulated depreciation at June 30, 2012 and December 31, 2011 consisted of the following:

   
Estimated Useful
 Life (Years)
 
June 30,
2012
   
December 31,
 2011
 
                     
Buildings and leasehold improvements (i)
 
20
 
$
3,687,137
   
$
3,656,766
 
                     
Construction in progress (ii)
   
 
 
182,584
     
180,920
 
                     
Machinery and equipment
 
7
   
1,866,937
     
1,564,822
 
                     
Vehicles
 
5
   
 176,196
     
 174,971
 
                     
Office equipment
 
5-8
   
120,592
     
113,513
 
                 
         
6,033,446
     
5,690,992
 
                     
Less accumulated depreciation (iii)
       
(1,131,341
)
   
(943,987
)
                 
       
$
4,902,105
   
$
4,747,005
 

(i)            Capitalized Interest

 For the interim period ended June 30, 2012 and 2011, Minkang did not capitalize any interest to fixed assets.

(ii)          Construction-in-progress

 Minkang is in the process of constructing a pollution prevention station, which is recorded as construction in progress included in the consolidated balance sheets.

(iii)         Depreciation and Amortization Expense

 Depreciation and amortization expense for the interim period ended June 30, 2012 and 2011 was $182,213 and $154,822, respectively.
 
 
F-20

 

Note 6 – Land Use Rights

Minkang

In 2004 and 2008, Minkang entered into a series of agreements with the Chinese government, whereby the Company paid RMB 15,495,700 to acquire the rights to use 37,919.86 square meters of land in the aggregate for approximately 50 years and obtained the land use right certificates expiring from February 23, 2054 through November 5, 2058.  The purchase price and related acquisition costs are being amortized over the term of the right of approximately fifty (50) years.

Land use rights, stated at cost, less accumulated amortization at June 30, 2012 and December 31, 2011, consisted of the following:

   
June 30,
 2012
   
December 31,
2011
 
                 
Land use rights
 
$
2,454,065
   
$
2,437,006
 
                 
Accumulated amortization
   
(368,110
)
   
(341,181
)
                 
   
$
2,085,955
   
$
2,095,825
 

Amortization Expense

Amortization expense for the interim period ended June 30, 2012 and 2011 was $24,541 and $23,976, respectively.

Note 7 – Purchased Formulae

Purchased formulae, stated at cost, less accumulated amortization at June 30, 2012 and December 31, 2011, consisted of the following:

   
June 30,
2012
   
December 31,
 2011
 
                 
Purchased formulae
 
$
1,906,625
   
$
1,893,371
 
                 
Accumulated amortization
   
(1,429,968
)
   
(1,325,360
)
             
   
$
476,657
   
$
568,011
 

Amortization Expense

Amortization expense for the interim period e 31, 2012 and 2011 was $95,331 and $93,138, respectively.
 
 
F-21

 

Note 8 – Loans Payable

Loans payable at June 30, 2012 and December 31, 2011 consisted of the following:

   
June 30,
2012
   
December 31,
2011
 
                 
Loan payable of RMB10,000,000 from Bank of Communications Limited, Yichang City Branch, collateralized by certain of Minkang’s buildings and land use rights, with interest at 110% of the bank’s benchmark rate, payable monthly, with principal due May 5, 2012 which was repaid in full on May 7, 2012.
 
$
-
   
$
1,572,698
 
                 
Loan payable of RMB5,000,000 to Hubei Bank Corporation Limited, collateralized by certain of the Company’s buildings and land use rights, with interest at 110% of the bank’s benchmark payable monthly, with principal due and repaid in full on January 11, 2012.
   
-
     
786,349
 
                 
Loan payable of RMB5,000,000 to Hubei Bank Corporation Limited, collateralized by certain of the Company’s buildings and land use rights, with interest at 110% of the bank’s benchmark payable monthly, with principal due on January 11, 2013.
   
791,853
     
-
 
                 
Loan payable of RMB5,000,000 to Hubei Bank Corporation Limited, collateralized by certain of the Company’s buildings and land use rights, with interest at 110% of the bank’s benchmark payable monthly, with principal due April 7, 2012 which was repaid in full on April 1, 2012.
   
-
     
786,349
 
                 
Loan payable of RMB5,000,000 to Hubei Bank Corporation Limited, collateralized by certain of the Company’s buildings and land use rights, with interest at 110% of the bank’s benchmark payable monthly, with principal due on April 5, 2013.
   
791,853
     
-
 
                 
Loan payable of RMB10,000,000 from Bank of Communications Limited, Yichang City Branch, collateralized by certain of Minkang’s buildings and land use rights, with interest at 120% of the bank’s benchmark rate, payable monthly, with principal due May 7, 2013.
   
1,583,708
     
-
 
           
 
   
$
3,167,414
   
$
3,145,396
 

 
F-22

 
 
Note 9 – Related Party Transactions

Related parties

Related parties with whom the Company had transactions are:

Related Parties
 
Relationship
     
KOH, SOCK HUA
 
Stockholder of the Company
     
LEE, TONG TAI
 
Chief Executive Officer and stockholder of the Company
     
KOH, CHEOH NGUAN
 
Stockholder of the Company
     
Sensori Holdings (S) Pte Ltd.
 
An entity owned and controlled by significant stockholders of the Company

Advances from Stockholders

From time to time, stockholders of the Company advance funds to the Company for working capital purpose.  Those advances are unsecured, non-interest bearing and due on demand.

Advances from stockholders at June 30, 2012 and December 31, 2011 consisted of the following:

   
June 30,
2012
   
December 31,
2011
 
                 
Advances from stockholders
 
$
352,427
   
$
505,480
 
                 
   
$
352,427
   
$
505,480
 
 
Note 10 – Working Capital Advances

On September 26, 2011, Minkang received non-interest bearing working capital advances of RMB5 million from an unrelated third party individual. On April 25, 2012, Minkang fully repaid the working capital advance in the amount of RMB 5,000,000 (approximately $791,189).
 
 
F-23

 

Note 11 – Unearned and Earned Government Grants

Unearned government grants at June 30, 2012 and December 31, 2011 and earned government grants for the interim period ended June 30, 2012 and 2011 were as follows:

   
Earned Government Grants at
 
Unearned Government Grants at
 
   
June 30,
2012
   
June 30,
2011
 
June 30,
2012
 
December 31,
 2011
 
                         
Energy conservation
  $ -     $ -     $ -     $ -  
                                 
Pollution prevention projects
  $ 12,532     $ -     $ 458,753     $ 468,009  
                                 
    $ 12,532     $ -     $ 458,753     $ 468,009  
 
Note 12 – Stockholders’ Equity

Shares Authorized

Upon formation the aggregate number of shares which the Corporation shall have authority to issue is one hundred million (100,000,000) shares, consisting of two classes to be designated, respectively, “Common Stock” and “Preferred Stock,” with all of such shares having a par value of $0.001 per share. The total number of shares of Common Stock that the Corporation shall have authority to issue is ninety million (90,000,000) shares. The total number of shares of Preferred Stock that the Corporation shall have authority to issue is ten million (10,000,000) shares.

On September 7, 2007, the Company filed a Certificate of Change to the Certificate of Incorporation pursuant to NRS 78.209 with the Secretary of State of Nevada, effective September 20, 2007, and changed its authorized capital from 90,000,000 shares of common stock with a par value of $0.001 and 10,000,000 shares of preferred stock with a par value of $0.001 to 1,350,000,000 shares of common stock with a par value of $0.001 and 10,000,000 shares of preferred stock with a par value of $0.001.

On September 29, 2010, the Company filed a Certificate of Change to the Certificate of Incorporation pursuant to NRS 78.209 with the Secretary of State of Nevada, effective October 20, 2010, and changed its authorized capital from 1,350,000,000 shares of common stock with a par value of $0.001 and 10,000,000 shares of preferred stock with a par value of $0.001 to 168,750,000 shares of common stock with a par value of $0.001 and 10,000,000 shares of preferred stock with a par value of $0.001.

Common Stock

Immediately prior to the consummation of the Share Exchange Agreement on September 21, 2011, the Company had 9,547,169 common shares issued and outstanding.

Upon consummation of the Share Exchange Agreement on September 21, 2011, the Company issued 33,500,000 shares of its common stock for the acquisition of 100% of the issued and outstanding capital stock of HBMK.

On April 27, 2012, the Company completed a private placement financing involving the sale of 1,130,270 restricted shares of the common stock (each a “share”) of the Company to one individual at $0.70 per share for gross proceeds of $791,189.
 
 
F-24

 
 
Note 13 – Stamp Tax on Minkang’s Change of Ownership

Minkang was billed a one-time stamp tax of RMB2 million and RMB1,356,505.95 on August 31, 2011 and September 14, 2011, respectively, or RMB3,356,505.95 in aggregate in connection with its ownership change from Sensori Holdings (S) Pte Ltd. to HBMK.

Note 14 – Concentrations and Credit Risk

Customer and Credit Concentrations

Customer concentrations for the interim period ended June 30, 2012 and 2011 and credit concentrations at June 30, 2012 and December 31, 2011 are as follows:

   
Net Sales for the Interim Period Ended
   
Accounts Receivable at
 
   
June 30,
2012
   
June 30,
2011
   
June 30,
 2012
   
December 31,
 2011
 
                         
Customer #0999
    55.8 %     61.1 %     - %     19.5 %
                                 
Customer #0579
    7.7 %     8.8 %     9.6 %     6.3 %
                                 
Customer #1162
    0.9 %     3.4 %     14.8 %     9.0 %
                                 
Customer #1212
    2.7 %     - %     22.1 %     0.4 %
 
                               
      67.1 %     73.3 %     46.5 %     35.2 %

A reduction in sales from or loss of such customers would have a material adverse effect on the Company’s results of operations and financial condition.
 
 
F-25

 

Product Concentration

Product concentrations for the six months ended June 30, 2012 and 2011 are as follows:

   
June 30,
2012
   
June 30,
2011
 
             
Product # 1
    67.7 %     60.8 %
                 
Product # 2
    7.6 %     18.5 %
                 
      75.3 %     79.3 %
Credit Risk

Financial instruments that potentially subject the Company to significant concentration of credit risk consist primarily of cash and cash equivalents.

As of June 30, 2012, substantially all of the Company’s cash was held by major financial institutions located in the PRC, none of which are insured.  However, the Company has not experienced losses on these accounts and management believes that the Company is not exposed to significant risks on such accounts.

Note 15 - Foreign Operations

Operations

Substantially all of the Company’s operations are carried out and all of its assets are located in the PRC.  Accordingly, the Company’s business, financial condition and results of operations may be influenced by the political, economic and legal environments in the PRC.  The Company’s business may be influenced by changes in governmental policies with respect to laws and regulations, anti-inflationary measures, currency fluctuation and remittances and methods of taxation, among other things.

Interest Rate

The tight monetary policy currently instituted by the PRC government and increases in interest rate would have a material adverse effect on the Company’s results of operations and financial condition.  In particular, the Company is exposed to fluctuations in interest rates due to the fact that interest rates on all of Minkang’s borrowings were based on 110% of the banks’ benchmark rate, a 1% increase in average interest rates on the Company’s borrowings would increase future interest expense by approximately RMB200,000 (approximately $32,000) per year based on the outstanding balances of RMB20 million (approximately $3.2 million) of loans payable at June 30, 2012.

The Company is currently not using any interest rate collars or hedges to manage or reduce interest rate risk.  As a result, any increase in interest rates on the variable rate borrowings would increase interest expense and reduce net income.
 
Foreign Currency Risk

The Company is exposed to fluctuations in foreign currencies for transactions denominated in currencies other than RMB, the Company’s PRC subsidiary’s functional currency.
 
The Company had no foreign currency hedges in place at June 30, 2012 to reduce such exposure.

Note 16 – Subsequent Events

The Company has evaluated all events that occurred after the balance sheet date through the date when the financial statements were issued.  The Management of the Company determined that there were no reportable subsequent events to be disclosed.
 
 
F-26

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

The following discussion of our financial condition, changes in financial condition and results of operations for the three and six months ended June 30, 2012 and 2011 should be read in conjunction with our unaudited interim consolidated financial statements and related notes for the three and six months ended June 30, 2012 and 2011.  The following discussion contains forward-looking statements that involve risks, uncertainties and assumptions.  Our actual results may differ materially from those anticipated in these forward-looking statements as a result of many factors, including, but not limited to, a continued downturn in international economic conditions; any adverse occurrence with respect to our patented technology; our ability to bring new products to market; market demand for our products; shifts in industry capacity; product development or other initiatives by our competitors; fluctuations in the availability and cost of materials required to produce our products; potential negative financial impact from claims, lawsuits and other legal proceedings or challenges; and other factors beyond our control.

Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted.  It is suggested that these financial statements be read in conjunction with the financial statements and notes thereto included in the Company’s December 31, 2011 audited financial statements, which were attached to our Annual Report on Form 10-K filed with the SEC on April 16, 2012.  The results of operations for the periods ended June 30, 2012 and the same period last year are not necessarily indicative of the operating results for the full years.

Overview

We were incorporated in the State of Nevada on April 17, 2006, under the name DGT Corp. and commenced operations shortly thereafter.  We intended to provide professional digital photo editing services for photo studios targeting potential customers in North America, with plans to expand globally.

In late 2007 we determined to change our business plan from the professional digital photo editing services and intended to focus our activities on the oil and gas industry as an exploration and development company.

However, as we were not as successful as hoped at developing our oil and gas interests in Morgan County, Tennessee up to the time immediately prior to the closing of the share exchange agreement as discussed below and had no sources of revenue from our business plan, we determined to seek out a new business opportunity to increase value for our shareholders.

Our shares of common stock were quoted for trading on the Over-the-Counter Bulletin Board (the “OTCBB”) on December 22, 2006, under the symbol “DGTR”.  On September 20, 2007, our Company and its wholly owned subsidiary, Blackrock Petroleum Corp. merged and our name changed to Blackrock Petroleum Corp.  Our trading symbol on the OTCBB was changed to “BRPC”.  On May 21, 2008, we underwent another merger with our wholly owned subsidiary Nexgen Petroleum Corp.  At that time our name was changed to Nexgen Petroleum Corp. and our trading symbol on the OTCBB was changed to “NXPE” effective June 9, 2008.  On October 20, 2010, we merged with our wholly owned subsidiary, Hubei Minkang Pharmaceutical Ltd., and as result of such merger our name changed to Hubei Minkang Pharmaceutical Ltd. our trading symbol on the OTCBB was changed to “HBMK” effective October 21, 2010.

Effective September 20, 2007, a forward stock split of our authorized, issued and outstanding common stock was undertaken on a fifteen (15) to one (1) basis.  As a result, our authorized capital increased from 90,000,000 shares of common stock with a par value of $0.001 and 10,000,000 shares of preferred stock with a par value of $0.001 to 1,350,000,000 shares of common stock with a par value of $0.001 and 10,000,000 shares of preferred stock with a par value of $0.001.  Our issued and outstanding share capital increased from 9,000,000 shares of common stock to 135,000,000 shares of common stock.

On April 18, 2008, Mr. Hsien Loong Wong, President, CEO and a director of the Company, who held in aggregate 94,500,000 post forward stock split shares of common stock of the Company, voluntarily agreed to surrender for cancellation in aggregate 80,000,000 shares of common stock in order to encourage equity investment into the Company.  The cancellation of these 80,000,000 shares took place on April 18, 2008, resulting in Mr. Wong reducing his share holdings to only 14,500,000 shares registered in his name at that time.
 
 
4

 

Effective October 20, 2010, a reverse stock split of our authorized, issued and outstanding common stock was undertaken on a one (1) to eight (8) basis.  As a result, our authorized capital decreased from 1,350,000,000 shares of common stock with par value of $0.001 per share and 10,000,000 shares of preferred stock with par value of $0.001 per share to 168,750,000 shares of common stock with par value of $0.001 per share and 10,000,000 shares of preferred stock with par value of $0.001 per share.  Our issued and outstanding capital decreased from 64,765,941 shares of common stock to 8,095,747 shares of common stock.

On July 8, 2011, we entered into a share exchange agreement with HBMK Pharmaceutical Limited (“HBMK”), a BVI corporation, and all of the shareholders of HBMK (the “Vendors”), which was disclosed in the Company's Current Report on Form 8-K filed with the SEC on July 11, 2011.  The closing of the share exchange agreement occurred on September 21, 2011.  Pursuant to the terms of the share exchange agreement, we acquired all of the issued and outstanding shares of capital stock of HBMK from the Vendors in exchange for the issuance of 33,500,000 shares of our common stock to the Vendors on a pro rata basis in accordance with each Vendor’s percentage ownership in HBMK.

As a result of the closing of the share exchange agreement, HBMK has become our direct wholly-owned subsidiary and Hubei Minkang Pharmaceutical Co., Ltd. (“Hubei Minkang PRC”) has become our indirect wholly-owned subsidiary as HBMK is the sole owner of Hubei Minkang PRC, a company organized under the laws of the People’s Republic of China.

Our current business is conducted through Hubei Minkang PRC, which is a large-scale pharmaceutical company that mainly produces and markets Traditional Chinese Medicines (“TCM”) and some chemical pharmaceuticals, which most are able to be purchased Over-the-Counter (“OTC”) and some by prescription only.  Hubei Minkang PRC has three Good Manufacturing Practice (“GMP”) certifications, with seven production lines capable of producing 10 different product types including pills, tablets, capsules, granules, oral liquids, syrups, mixtures and injections, in more than 400 formulations and dosages.

We maintain our statutory registered agent’s office at Nevada Agency & Transfer Company, 50 West Liberty Street, Suite 880, Reno, Nevada, 89501 and our business office is located at 55 Ubi Ave. 3, #03-01, Mintwell Building, Singapore  408864. This is our mailing address as well.

Plan of Operations

We intend to focus on the business operations of our subsidiary Hubei Minkang PRC.  Hubei Minkang PRC is a modern pharmaceutical company that is engaged in the research, development, manufacture and marketing of TCM and some chemical pharmaceuticals in the PRC as well as markets its products to the US, Japan, Canada, Singapore, Malaysia, Thailand and Hong Kong among other countries.

During the next 12 months, management anticipates proceeding with expansion plans to acquire at least a 51% interest of a sales distribution company for approximately $1.5 million and to increase commercialization of Hubei Minkang PRC’s products including the marketing distribution of existing and potential future products which is anticipated to cost approximately $700,000.  However, if we are not able to raise the required funds for such expansion plans, then we may have to delay some or all of our expansion plans.

Our strategy for executing our mission of producing high quality TCM products in an environmentally friendly manner using advanced technology and techniques, and distributing the products throughout China and the world is to:

    
focus production on its highest margin products;

    
continuously improve production facilities and process;
 
    
lower production costs while maintaining product quality;

    
increase direct sales while reducing distribution costs;

    
acquire control of raw material supply;

    
develop and acquire new products for manufacture; and

    
expand distribution throughout China and overseas.
 
 
5

 

Results of Operations

The following table sets forth our results of operations for the three month and six month periods ended June 30, 2012 and 2011.
 
   
Three months ended
June 30,
   
Six months ended
June 30,
 
   
2012
   
2011
   
2012
   
2011
 
                         
Net Revenues
  $ 3,098,242     $ 2,305,372     $ 5,786,181     $ 5,123,785  
                                 
Costs of Goods Sold
                               
     Cost of Goods Sold
    1,363,152       1,105,594       2,827,456       2,643,523  
     Inventory obsolescence adjustments
    -       50,210       -       50,210  
                                 
Cost of Goods Sold
    1,363,152       1,155,804       2,827,456       2,693,733  
                                 
Gross Margin
    1,735,090       1,149,568       2,958,725       2,430,052  
                                 
Operating Expenses
                               
     Advertising expenses
    34,427       706       43,367       6,805  
     Selling expenses
    489,709       404,738       836,599       821,571  
     Professional fees
    25,536       -       91,385       -  
     Research & development
    20,140       4,608       29,471       11,030  
     General and administrative expenses
    752,148       535,190       1,407,049       1,017,265  
                                 
     Total operating expenses
    1,321,960       945,242       2,407,871       1,856,671  
                                 
Income from Operations before Other (Income) Expense
    413,130       204,326       550,854       573,381  
                                 
Other (Income) Expense
                               
     Government grants – energy conservation
    (7,267 )     -       (12,532 )     -  
     Interest income
    (4,085 )     (17,449 )     (8,321 )     (19,878 )
     Interest expense
    58,676       46,982       114,484       68,738  
     Other (income) expense
    (12,642 )     4,905       (7,394 )     (4,664 )
                                 
          Other (income) expense, net
    34,682       34,438       86,237       44,196  
                                 
Income from Operations before Income Tax Provisions
    378,448       169,888       464,617       529,185  
                                 
Income Tax Provision (Benefit)
    (91,364 )     31,845       (38,619 )     121,670  
                                 
Net Income
    469,812       138,043       503,236       407,515  
                                 
Other Comprehensive Income
                               
      Foreign currency translation gain
    4,496       115,764       55,591       176,319  
                                 
          Total other comprehensive income
    4,496       115,764       55,591       176,319  
                                 
Comprehensive Income
    474,308       253,807       558,827       583,834  
 
 
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Three Months Ended June 30, 2012 Compared to Three Months Ended June 30, 2011

Revenues

Hubei Minkang PRC had sales of $3,098,242 and total cost of goods sold of $1,363,152 for the three month period ended June 30, 2012 as compared to sales of $2,305,372 and total cost of goods sold of $1,155,804 for the three month period ended June 30, 2011.  The increase in sales was due to increased sales of Yinxing Dame Zhusheye. Yinxing Dame Zhusheye accounted for $2,468,446 of sales revenue in the three month period ended June 30, 2012 and $1,593,318 of sales revenue in the three month period ended June 30, 2011.  An Ka Huangmin Jiaonang, a capsule related drug, accounted for $47,311 of sales revenue in the three month period ended June 30, 2012 and $288,391 of sales revenue in the three month period ended June 30, 2011.  The significant decrease in sales of An Ka Huangmin Jiaonang was due to the China State Food and Drug Administration imposing stricter rules about quality of capsules, which caused a shortage of capsule supply and the price of capsules increased dramatically; and therefore, the Company has temporarily stopped the production of An Ka Huangmin Jiaonang, which caused the decrease in such sales.

Expenses

Advertising Expenses:  Advertising expenses were $34,427 and $706 for the three month periods ended June 30, 2012 and 2011, respectively.  The increase was due to the Company signing financial public relations agreement totaling $30,000 during the three month period ended June 30, 2012.

Selling Expenses:  Selling expenses were $489,709 and $404,738 for the three month periods ended June 30, 2012 and 2011, respectively.  The increase was due to an increase in commission fees to sales personnel.

Professional Fees:  Professional fees were $25,536 and $Nil for the three month periods ended June 30, 2012 and 2011, respectively.  This increase was due to the professional fees associated with the Company’s reporting obligations and capital raising efforts.

Research and Development:  Research and Development expenses were $20,140 and $4,608 for the three month periods ended June 30, 2012 and 2011, respectively.  The increase was due to the Company hiring more research and development personnel during 2012 compared to 2011.

General and Administrative Expenses:  General and Administrative expenses were $752,148 and $535,190 for the three month periods ended June 30, 2012 and 2011, respectively.  This increase was due to the increase in office expense and director fees during the three month period ended June 30, 2012.

Interest Expenses:  Interest expenses were $58,676 and $46,982 for the three month periods ended June 30, 2012 and 2011, respectively.  This increase was due to the increase in loans in the three month period ended June 30, 2012 as compared to loans outstanding as at June 30, 2011, which increased interest expenses.

Net Income

The net income was $469,812 and $138,043 for three month periods ended June 30, 2012 and 2011, respectively.  The increase in net income of $331,769 resulted primarily from an increase in the sales of Yinxing Dame Zhusheye, which was offset by a decrease in the sales of An Ka Huangmin Jiaonang, an increase in selling expenses, increase in professional fees, increase in research and development expenses and an increase in general and administrative expenses. The sales of Yinxing Dame Zhusheye increased by $875,128 for the three month period ended June 30, 2012, compared to the three month period ended June 30, 2011.  The sales of An Ka Huangmin Jiaonang decreased by $241,080 for the three month period ended June 30, 2012, compared to the three month period ended June 30, 2011.