As filed with the Securities and Exchange Commission on February 2, 2005
Registration No. 333-121792
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
AMENDMENT NO. 1
FORM SB-2
REGISTRATION STATEMENT
UNDER THE
SECURITIES ACT OF 1933
PACIFICNET INC.
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(Name of Small Business Issuer in its Charter)
DELAWARE 7370 91-2118007
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(State or Other Jurisdiction of (Primary Standard (I.R.S. Employer
Incorporation or Organization) Industrial Classification Identification No.)
Code Number)
601 NEW BRIGHT BUILDING
11 SHEUNG YUET ROAD
KOWLOON BAY, KOWLOON, HONG KONG
011-852-2876-2900
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(Address and Telephone Number of
Principal Executive Offices)
TONY TONG
CHIEF EXECUTIVE OFFICER
PACIFICNET INC.
601 NEW BRIGHT BUILDING
11 SHEUNG YUET ROAD
KOWLOON BAY, KOWLOON, HONG KONG
011-852-2876-2900
---------------------------------------------
(Name, Address and Telephone Number
of Agent for Service)
Copies of all communications to:
MITCHELL S. NUSSBAUM, ESQ.
LOEB & LOEB, LLP
345 PARK AVENUE
NEW YORK, NY 10154
Telephone: (212) 407-4159 Facsimile No. (212) 407-4990
Approximate Date of Proposed Sale to the Public: As soon as possible after this
registration statement becomes effective.
If any of the securities being registered on this Form are to be offered on a
delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, check the following box. [X]
If this Form is filed to register additional securities for an offering pursuant
to Rule 462(b) under the Securities Act, check the following box and list the
Securities Act registration statement number of the earlier effective
registration statement for the same offering. [ ]
If this Form is a post-effective amendment filed pursuant to Rule 462(c) under
the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering [ ]
If this Form is a post-effective amendment filed pursuant to Rule 462(d) under
the Securities Act, check the following box and list the Securities Act
registration number of the earlier effective registration statement for the same
offering. [ ]
If delivery of the prospectus is expected to be made pursuant to Rule 434, check
the following box [ ]
CALCULATION OF REGISTRATION FEE
PROPOSED PROPOSED
MAXIMUM MAXIMUM
AMOUNT TO BE OFFERING PRICE AGGREGATE AMOUNT OF
TITLE OF EACH CLASS OF SECURITIES TO BE REGISTERED REGISTERED(2) PER SHARE OFFERING PRICE REGISTRATION FEE
--------------------------------------------------- ------------- -------------- ----------------- ----------------
Common Stock, $.0001 par value per share 1,532,312 $10.44(1) $15,997,337.28 $1,882.89
Common Stock, $.0001 par value per share, to be
issued upon exercise of warrants 350,000 $12.21 $4,273,500.00 $502.99
Common Stock, $.0001 par value per share, to be
issued upon exercise of warrants 96,462 $3.89 $375,237.18 $44.16
Common Stock, $.0001 par value per share, to be 600,000 $1.45 $870,000 $102.40
issued upon exercise of warrants
--------------------------------------------------- ------------- -------------- ----------------- ----------------
TOTALS 2,578,774 $21,516,074.46 $2,532.44(3)
(1) Estimated solely for purposes of calculating the registration fee in
accordance with Rule 457(c) under the Securities Act of 1933, as amended, using
the average of the high and low prices, as reported on The Nasdaq SmallCap
Market, on December 27, 2004.
(2) In accordance with Rule 416(a), the Registrant is also registering hereunder
an indeterminate number of shares that may be used to prevent dilution resulting
from stock splits, stock dividends or similar transactions.
(3) Of this amount, $2,430.04 has previously been paid.
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR DATES
AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL FILE
A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION STATEMENT
SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF THE
SECURITIES ACT OF 1933, AS AMENDED, OR UNTIL THE REGISTRATION STATEMENT SHALL
BECOME EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION
8(a), MAY DETERMINE. IN ADDITION TO THE SECURITIES REGISTERED HEREBY, THIS
REGISTRATION STATEMENT RELATES TO SECURITIES OFFERED OR ISSUABLE TO PREVENT
DILUTION AS A RESULT OF A STOCK SPLIT, DIVIDEND OR SIMILAR TRANSACTION.
IN ADDITION TO THE SECURITIES REGISTERED HEREBY, THIS REGISTRATION STATEMENT
RELATES TO THE SECURITIES REGISTERED UNDER REGISTRATION NO. 333-113209.
2
SUBJECT TO COMPLETION, DATED FEBRUARY 2, 2005
THE INFORMATION IN THIS PROSPECTUS IS NOT COMPLETE AND MAY BE CHANGED.
THE SELLING STOCKHOLDERS MAY NOT SELL THESE SECURITIES PUBLICLY UNTIL THE
REGISTRATION STATEMENT FILED WITH THE SECURITIES AND EXCHANGE COMMISSION IS
EFFECTIVE. THIS PROSPECTUS IS NOT AN OFFER TO SELL THESE SECURITIES AND IT IS
NOT SOLICITING AN OFFER TO BUY THESE SECURITIES IN ANY STATE WHERE THE OFFER OR
SALE IS NOT PERMITTED.
This prospectus shall not constitute an offer to sell or the
solicitation of an offer to buy, nor shall there be any sale of these securities
in any state in which such offer, solicitation or sale would be unlawful prior
to registration or qualification under the securities laws of any such state.
PROSPECTUS
PACIFICNET INC.
2,702,230 Shares of Common Stock
This prospectus relates to the resale of up to 2,702,230 shares of our
common stock being offered by the selling stockholders. Of the shares covered by
this prospectus, 1,532,312 shares have been issued to the selling stockholders,
1,046,462 shares are issuable upon the exercise of warrants by the selling
stockholders and 123,456 shares are issuable upon the exercise of warrants, that
were previously registered under Registration No. 333-113209. We will not
receive any proceeds from the sale of the shares of common stock by the selling
stockholders. Assuming that all of the warrants held by the selling stockholders
are exercised for cash, we will realize proceeds of approximately $6,400,000.
Our shares of common stock are traded on The Nasdaq Small Cap Market
under the symbol "PACT." The average of the high and low prices of our common
stock, on February __, 2005, was $____.
THIS INVESTMENT INVOLVES A HIGH DEGREE OF RISK. YOU SHOULD PURCHASE
SHARES ONLY IF YOU CAN AFFORD A COMPLETE LOSS OF YOUR INVESTMENT. SEE "RISK
FACTORS" BEGINNING ON PAGE 6 FOR A DISCUSSION OF RISKS APPLICABLE TO US AND AN
INVESTMENT IN OUR COMMON STOCK.
NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES
COMMISSION HAS APPROVED OR DISAPPROVED THESE SECURITIES, OR DETERMINED IF THIS
PROSPECTUS IS TRUTHFUL OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
The date of this prospectus is February __, 2005.
3
TABLE OF CONTENTS
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PAGE
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SUMMARY........................................................................5
FORWARD-LOOKING STATEMENTS.....................................................6
RISK FACTORS...................................................................6
USE OF PROCEEDS...............................................................12
MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS......................12
MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.....................13
DESCRIPTION OF BUSINESS.......................................................19
RECENT DEVELOPMENTS...........................................................24
DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS..................26
EXECUTIVE COMPENSATION........................................................29
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT...............31
SELLING STOCKHOLDERS..........................................................32
DESCRIPTION OF SECURITIES.....................................................36
PLAN OF DISTRIBUTION..........................................................37
INDEX TO INTERIM FINANCIAL STATEMENTS (UNAUDITED)............................Q-1
INDEX TO ANNUAL FINANCIAL STATEMENTS (AUDITED)...............................F-1
4
SUMMARY
We were incorporated in Delaware in 1987. Our business consists of
three groups, all of which operate within the outsourcing and telecommunications
industries in Asia, primarily greater China, which includes the People's
Republic of China, or mainland China, Hong Kong, Macau and Taiwan. Through our
subsidiaries we provide the following outsourcing services, value-added telecom
services (VAS), and communication products distribution services:
o Our outsourcing services include, business processing
outsourcing (BPO), primarily through the operation of call
centers, and information technology outsourcing (ITO) system
integration, which includes software programming.
o We are value-added resellers and providers of telecom VAS,
which comprises interactive voice response (IVR) systems and
voice over Internet Protocol (VoIP), and mobile phone VAS,
such as short messaging services (SMS) and multimedia
messaging services (MMS).
o We provide training and consulting in customer relationship
management (CRM) and software programming.
o We have recently commenced our communication products
distribution service, through wholesale and, to a lesser
extent, retail sale and distribution of calling cards in
China, and we have recently invested in a company that
distributes multimedia interactive self-service kiosks.
We intend to continue to grow our business by acquiring and managing
growing technology and network communications businesses with established
products and customers in Asia. Our goal is to take a leading role in providing
information technology services and network communications, which are rapidly
expanding business sectors in Asia. Our clients include leading telecom
operators, banks, insurance, travel and marketing services companies and telecom
consumers in greater China, such as China Telecom (NYSE: CHA), China Netcom
(NYSE: CN) China Mobile (NYSE: CHL), China Unicom (NYSE: CHU), PCCW (NYSE: PCW),
Hutchison Telecom (NYSE: HTX), Sunday (Nasdaq: SDAY), Sony, Swire Travel and The
Hong Kong Housing Authority.
SERVICES AND PRODUCTS
We provide the following services to our customers, among others:
o OUTSOURCING SERVICES
CALL CENTER SERVICES. Our business processing outsourcing
(BPO) includes operating call centers, and providing CRM,
customer acquisition and retention services, technical
support, telemarketing services, customer service support and
administrative services.
SOFTWARE PROGRAMMING SERVICES. In greater China, we provide
information technology outsourcing (ITO) and software
development services, including R&D, and project management
services.
o TELECOM VALUE-ADDED SERVICES
VOICE AND IP RELATED SERVICES. We provide integration services
in voice and IP related products. We are value-added resellers
of IVR systems, SMS and related VAS, and we provide our
clients with post-sale maintenance and technical support.
WISE-xb, which is our proprietary call center management
system and software package, is used in our call center and is
sold directly to clients for use in their call centers. We
provide mobile phone VAS, such as mobile chat, mobile karaoke,
and color ring back tone.
CONSULTING AND TRAINING SERVICES. We offer comprehensive
operational and managerial training programs for call center
management professionals at all levels, including on-site
training courses and seminars for clients who have their own
call centers.
5
o COMMUNICATION PRODUCTS DISTRIBUTION SERVICE
CALLING CARD AND MOBILE PRODUCTS. We distribute wholesale, and
through our own retail stores, pre-paid calling cards, mobile
subscriber information module (SIM) cards, prepaid
stored-value cards, and international direct dialing (IDD)
calling cards, bundled insurance cards and customer loyalty
membership cards in mainland China.
MULTI-MEDIA KIOSKS. We have an ownership interest in a company
that designs, develops and manufactures multimedia interactive
entertainment and communication kiosk products, including
internet, photo and video entertainment kiosks.
EXECUTIVE OFFICES
Our corporate headquarters and development center is located at 601 New
Bright Building, 11 Sheung Yuet Road, Kowloon Bay, Kowloon, Hong Kong. The
telephone number at our corporate headquarters in Hong Kong is
011-852-2876-2900. We also have a corporate office in the United States located
at 860 Blue Gentian Road, Suite 360, Eagan, MN 55121. The telephone number at
our corporate office in the United States is 1-651-209-3102.
FORWARD-LOOKING STATEMENTS
Statements in this prospectus that are not descriptions of historical
facts are forward-looking statements within the meaning of the "safe harbor"
provisions of the Private Securities Litigation Reform Act of 1995. Reference is
made in particular to the description of our plans and objectives for future
operations and assumptions underlying such plans and objectives and other
forward-looking terminology such as "may," "expects," "believes," "anticipates,"
"intends," "projects," or similar terms, variations of such terms or the
negative of such terms. Forward-looking statements are based on management's
current expectations. Actual results could differ materially from those
currently anticipated due to a number of factors, including those set forth
under "Risk Factors."
RISK FACTORS
Investing in our securities involves a great deal of risk. You should
carefully consider the following factors as well as other information included
in this prospectus before deciding to purchase our common stock. You should pay
particular attention to the fact that we conduct a majority of our operations in
China and are governed by a legal and regulatory environment that in some
respects differs significantly from the environment that may prevail in other
countries. Our business, financial condition or results of operations could be
affected materially and adversely by any or all of these risks.
THE FOLLOWING MATTERS MAY HAVE A MATERIAL ADVERSE EFFECT ON OUR
BUSINESS, FINANCIAL CONDITION, LIQUIDITY, RESULTS OF OPERATIONS OR PROSPECTS,
FINANCIAL OR OTHERWISE. REFERENCE TO THIS CAUTIONARY STATEMENT IN THE CONTEXT OF
A FORWARD-LOOKING STATEMENT OR STATEMENTS SHALL BE DEEMED TO BE A STATEMENT THAT
ANY ONE OR MORE OF THE FOLLOWING FACTORS MAY CAUSE ACTUAL RESULTS TO DIFFER
MATERIALLY FROM THOSE IN SUCH FORWARD-LOOKING STATEMENT OR STATEMENTS.
6
RISKS RELATED TO OUR BUSINESS
WE HAVE A LIMITED OPERATING HISTORY. We were founded and commenced operations in
December 1994, and we were incorporated in July 1999. Our operating history may
be insufficient for you to evaluate our business and future prospects. Although,
since inception, our revenues have grown rapidly through acquisition, we cannot
assure you that we will maintain our profitability or that we will not incur net
losses in the future. We expect that our operating expenses will increase as we
expand. Any significant failure to realize anticipated revenue growth could
result in significant operating losses. We will continue to encounter risks and
difficulties frequently experienced by companies at a similar stage of
development, including our potential failure to:
o implement our business model and strategy and adapt and modify
them as needed;
o increase awareness of our brands, protect our reputation and
develop customer loyalty;
o manage our expanding operations and service offerings,
including the integration of any future acquisitions;
o maintain adequate control of our expenses; and
o anticipate and adapt to changing conditions in the markets in
which we operate as well as the impact of any changes in
government regulation, mergers and acquisitions involving our
competitors, technological developments and other significant
competitive and market dynamics.
If we are not successful in addressing any or all of these risks, our business
may be materially and adversely affected.
THE ACQUISITION OF NEW BUSINESSES IS COSTLY AND SUCH ACQUISITIONS MAY NOT
ENHANCE OUR FINANCIAL CONDITION. Our growth strategy is to acquire companies,
and identify and acquire assets and technologies from businesses in greater
China that have services, products, technologies, industry specializations or
geographic coverage that extend or complement our existing business. We may be
unable to successfully identify or acquire such companies on favorable terms.
Furthermore, any acquisitions we pursue may be subject to approval by the
relevant Chinese government authorities, which approval we may not obtain. Even
if we are able to identify an acquisition or joint venture candidate, the
resources expended may be significant. Any future acquisitions will be subject
to a number of challenges, including:
o the diversion of management time and resources and the
potential disruption of our ongoing business;
o difficulties in maintaining uniform standards, controls,
procedures and policies; and
o potential unknown liabilities associated with acquired
businesses.
We recently acquired a controlling interest in Smartime Holdings
Limited (Smartime), and entered into an agreement to acquire a controlling
interest in GuangZhou Dianxun Digital Network Technology Co., Ltd.(Clickcom). We
expect that acquisitions will strengthen our position as a provider of
outsourced call center, VAS and communication products in Asia. However, we may
not achieve the anticipated benefits of these acquisitions.
OUR COMMUNICATION PRODUCTS ARE PROVIDED CASH-ON-DELIVERY, WHICH LEAVES US
VULNERABLE TO THEFT AND EMPLOYEE EMBEZZLEMENT. The purchase of calling cards,
SIM cards and other mobile phone products are made with cash. Although there is
a low risk that clients will not pay for these services when delivered, our
retail stores maintain large sums of money which might make them robbery
targets. We also face the risk that employees who collect the cash and others
who may be aware that cash is available at these sites might embezzle the money.
Theft or embezzlement could have a material adverse effect on the revenues
generated and the financial condition of our business operations.
7
WE INTEND TO OPERATE EACH OF OUR ACQUIRED BUSINESSES ON A STANDALONE BASIS. We
do not intend to integrate the information or communications systems,
management, or other aspects of the businesses we acquire. If we integrated the
businesses, we might be able to reduce expenses by eliminating duplicative
personnel, facilities, or technology and other costs. In addition, facilities
and technology integration might make inter-company communications and
transactions more efficient. By declining to integrate the acquired businesses,
we might forego opportunities to operate more profitably. Furthermore, our
decision not to integrate these businesses might result in difficulties in
evaluating the effectiveness of our internal control over financial reporting,
which could complicate compliance with Section 404 of the Sarbanes-Oxley Act of
2002.
BECAUSE WE DO NOT HAVE EMPLOYMENT AGREEMENTS WITH MANAGEMENT OF THE ACQUIRED
COMPANIES, OUR BUSINESS OPERATIONS MIGHT BE INTERRUPTED IF THEY WERE TO RESIGN
AND SEEK EMPLOYMENT WITH COMPETITORS. As part of our acquisition strategy we do
not use our own employees or members of our management team to operate the
acquired companies. Key management at these companies have been in place for
several years and have established solid relationships with their customers.
Competition in our industry for executive-level personnel is strong and we can
make no assurance that we will be able to hire, motivate and retain highly
effective executive employees. Although we provide incentives to management to
stay with the acquired business, we have not entered into employment agreements
with them. If such key persons were to resign we might face impairment of
relationships with remaining employees or customers, which might result in
further resignation by employees, which would adversely affect our ability to
provide services, and might cause long-term clients to terminate their
relationship with us, which could have an adverse effect on our business
operations and revenues. Furthermore, non-competition and confidentiality
agreements are hard to enforce in China. Due to the limited enforceability of
these types of agreements, we face the risk that employees of the acquired
subsidiaries might divulge our software and other protected intellectual
property secrets to competitors.
OUR CUSTOMERS ARE CONCENTRATED IN A LIMITED NUMBER OF INDUSTRIES. Our clients
are concentrated primarily in the telecommunications, telemarketing and
technology industries, and to a lesser extent, the insurance and financial
services industries, where the current trend is to outsource certain CRM and
VAS. Our ability to generate revenue depends on the demand for our services in
these industries. An economic downturn, or a slowdown or reversal of the
tendency in any of these industries to rely on outsourcing could have a material
adverse effect on our business, results of operations or financial condition.
THE MARKET IN WHICH WE COMPETE IS HIGHLY COMPETITIVE AND FRAGMENTED AND WE MAY
NOT BE ABLE TO MAINTAIN MARKET SHARE. We expect competition to persist and
intensify in the future. Our competitors are mainly leaders in the CRM services
market, such as PCCW Teleservices (Hong Kong) Limited, China Motion Telecom
International Limited, and Teletech (Hong Kong) Limited. Our competitors also
include small firms offering specific applications, divisions of large entities
and other large independent firms. We face the risk that new competitors with
greater resources than ours will enter our market. Furthermore, increasing
competition among telecom companies in greater China has led to a reduction in
telecommunication services fees that can be charged by such companies. If a
reduction in telecommunication services fees negatively impacts revenues
generated by our clients, they may require us to reduce the price of our
services, or seek competitors of ours that charge less. If we must significantly
reduce the price of our services, the decrease in revenues could adversely
affect our profitability.
KEY EMPLOYEES ARE ESSENTIAL TO GROWING OUR BUSINESS. Tony Tong, our Chairman and
Chief Executive Officer, and Victor Tong, our President, are essential to our
ability to continue to grow through acquisitions. Messrs. Tong and Tong have
established relationships within our industry. Their business contacts have been
critical in identifying, and negotiating with, acquisition candidates. If either
of them were to leave our employ, our growth strategy might be hindered, which
could limit our ability to increase revenues.
8
THE ESTABLISHMENT AND EXPANSION OF INTERNATIONAL OPERATIONS REQUIRES SIGNIFICANT
MANAGEMENT ATTENTION. All of our current, as well as any anticipated future
revenues, are or are expected to be derived from Asia. Our international
operations are subject to risks, including the following, which, if not planned
and managed properly, could materially adversely affect our business, financial
condition and operating results:
o legal uncertainties or unanticipated changes regarding
regulatory requirements, liability, export and import
restrictions, tariffs and other trade barriers;
o longer customer payment cycles and greater difficulties in
collecting accounts receivable;
o uncertainties of laws and enforcement relating to the
protection of intellectual property; and
o potentially uncertain or adverse tax consequences.
OUR OPERATIONS COULD BE CURTAILED IF WE ARE UNABLE TO OBTAIN REQUIRED ADDITIONAL
FINANCING. Since inception our investments and operations primarily have been
financed through sales of our common stock. Subsequent to September 30, 2004, we
completed two private placements of our common stock in which we received
approximately $9,300,000 of gross proceeds. In the future we may need to raise
additional funds through public or private financing, which may include the sale
of equity securities, including securities convertible into our common stock.
The issuance of these equity securities could result in dilution to our
stockholders. If we are unable to raise capital when needed, our business growth
strategy may slow, which could severely limit our ability to increase revenue.
EFFORTS TO COMPLY WITH RECENTLY ENACTED CHANGES IN SECURITIES LAWS AND
REGULATIONS WILL INCREASE OUR COSTS AND REQUIRE ADDITIONAL MANAGEMENT RESOURCES
AND WE STILL MAY FAIL TO COMPLY. As directed by Section 404 of the
Sarbanes-Oxley Act of 2002, the SEC adopted rules requiring public companies to
include a report of management on the company's internal controls over financial
reporting in their annual reports on Form 10-KSB. In addition, the public
accounting firm auditing the company's financial statements must attest to and
report on management's assessment of the effectiveness of the company's internal
controls over financial reporting. This requirement will first apply to our
annual report on Form 10-KSB for our fiscal year ending December 31, 2005. If we
are unable to conclude that we have effective internal controls over financial
reporting or, if our independent auditors are unable to provide us with an
unqualified report as to the effectiveness of our internal controls over
financial reporting as of December 31, 2005 and future year ends as required by
Section 404 of the Sarbanes-Oxley Act of 2002, investors could lose confidence
in the reliability of our financial statements, which could result in a decrease
in the value of our securities. We have only recently begun a formal process to
evaluate our internal controls over financial reporting. Given the status of our
efforts, coupled with the fact that guidance from regulatory authorities in the
area of internal controls continues to evolve, substantial uncertainty exists
regarding our ability to comply by applicable deadlines.
FLUCTUATIONS IN THE VALUE OF THE HONG KONG DOLLAR OR RMB RELATIVE TO FOREIGN
CURRENCIES COULD AFFECT OUR OPERATING RESULTS. We have historically conducted
transactions with customers outside the United States in United States dollars.
Payroll and other costs of foreign operations are payable in foreign currencies,
primarily Hong Kong dollars and Chinese Renminbi. To the extent future revenue
is denominated in foreign currencies, we would be subject to increased risks
relating to foreign currency exchange rate fluctuations that could have a
material adverse affect on our business, financial condition and operating
results. The value of Hong Kong dollars and Chinese Renminbi against the U.S.
dollar and other currencies may fluctuate and is affected by, among other
things, changes in the PRC's political and economic conditions. As our
operations are primarily in Asia, any significant revaluation of Hong Kong
dollars or the Chinese Renminbi may materially and adversely affect our cash
flows, revenues and financial condition. For example, to the extent that we need
to convert U.S. dollars into Hong Kong dollars or Chinese Renminbi for our
operations, appreciation of either currency against the U.S. dollar could have a
material adverse effect on our business, financial condition and results of
operations. Conversely, if we decide to convert our Hong Kong dollars or Chinese
Renminbi into U.S. dollars for other business purposes and the U.S. dollar
appreciates against either currency, the U.S. dollar equivalent of the
respective currency we convert would be reduced. To date, we have not engaged in
any hedging transactions in connection with our international operations.
9
WE HAVE NEVER PAID CASH DIVIDENDS AND ARE NOT LIKELY TO DO SO IN THE FORESEEABLE
FUTURE. We have never declared or paid any cash dividends on our common stock.
We currently intend to retain any future earnings for use in the operation and
expansion of our business. We do not expect to pay any cash dividends in the
foreseeable future but will review this policy as circumstances dictate.
RISKS ASSOCIATED WITH DOING BUSINESS IN GREATER CHINA
THERE ARE SUBSTANTIAL RISKS ASSOCIATED WITH DOING BUSINESS IN GREATER CHINA, AS
SET FORTH IN THE FOLLOWING RISK FACTORS.
OUR OPERATIONS AND ASSETS IN GREATER CHINA ARE SUBJECT TO SIGNIFICANT POLITICAL
AND ECONOMIC UNCERTAINTIES. Changes in laws and regulations, or their
interpretation, or the imposition of confiscatory taxation, restrictions on
currency conversion, imports and sources of supply, devaluations of currency or
the nationalization or other expropriation of private enterprises could have a
material adverse effect on our business, results of operations and financial
condition. Under its current leadership, the Chinese government has been
pursuing economic reform policies that encourage private economic activity and
greater economic decentralization. There is no assurance, however, that the
Chinese government will continue to pursue these policies, or that it will not
significantly alter these policies from time to time without notice.
WE ARE REQUIRED TO OBTAIN LICENSES TO EXPAND OUR BUSINESS INTO MAINLAND CHINA.
Our activities must be reviewed and approved by various national and local
agencies of the Chinese government before they will issue business licenses to
us. There can be no assurance that the current Chinese government, or
successors, will continue to approve and renew our licenses. If we are unable to
obtain licenses or renewals we will not be able to continue our business
operations in mainland China which would have a material adverse effect on our
business, financial condition and results of operations.
WE MAY HAVE LIMITED LEGAL RECOURSE UNDER CHINESE LAW IF DISPUTES ARISE UNDER OUR
CONTRACTS WITH THIRD PARTIES. The Chinese government has enacted some laws and
regulations dealing with matters such as corporate organization and governance,
foreign investment, commerce, taxation and trade. However, their experience in
implementing, interpreting and enforcing these laws and regulations is limited,
and our ability to enforce commercial claims or to resolve commercial disputes
is unpredictable. If our new business ventures are unsuccessful, or other
adverse circumstances arise from these transactions, we face the risk that the
parties to these ventures may seek ways to terminate the transactions, or, may
hinder or prevent us from accessing important information regarding the
financial and business operations of these acquired companies. The resolution of
these matters may be subject to the exercise of considerable discretion by
agencies of the Chinese government, and forces unrelated to the legal merits of
a particular matter or dispute may influence their determination. Any rights we
may have to specific performance, or to seek an injunction under Chinese law, in
either of these cases, are severely limited, and without a means of recourse by
virtue of the Chinese legal system, we may be unable to prevent these situations
from occurring. The occurrence of any such events could have a material adverse
effect on our business, financial condition and results of operations.
WE MUST COMPLY WITH THE FOREIGN CORRUPT PRACTICES ACT. We are required to comply
with the United States Foreign Corrupt Practices Act, which prohibits United
States companies from engaging in bribery or other prohibited payments to
foreign officials for the purpose of obtaining or retaining business. Foreign
companies, including some of our competitors, are not subject to these
prohibitions. Corruption, extortion, bribery, pay-offs, theft and other
fraudulent practices occur from time-to-time in mainland China. If our
competitors engage in these practices they may receive preferential treatment
from personnel of some companies, giving our competitors an advantage in
securing business, or from government officials who might give them priority in
obtaining new licenses, which would put us at a disadvantage. Although we inform
our personnel that such practices are illegal, we can not assure that our
employees or other agents will not engage in such conduct for which we might be
held responsible. If our employees or other agents are found to have engaged in
such practices, we could suffer severe penalties.
10
RISKS RELATED TO OUR TECHNOLOGY AND EQUIPMENT
OUR INSURANCE MAY NOT BE SUFFICIENT TO RESTORE OUR CALL CENTER IF OPERATIONS ARE
INTERRUPTED BY NATURAL DISASTER OR OTHER DESTRUCTION OF OUR FACILITIES OR
EQUIPMENT. Our operations depend on our ability to protect our call centers,
data centers, CRM information, customer database, data warehouse, computer and
telecommunications equipment and software systems against damage from fire,
power loss, telecommunications interruption or failure, hacker attacks, natural
disaster, epidemic, terrorism, act of war and other similar events. In the event
we experience a temporary or permanent interruption at one or more of our call
centers, through casualty, operating malfunction or otherwise, our business
could be materially adversely affected and we may be required to pay contractual
damages to some clients or allow some clients to terminate or renegotiate their
contracts with us. While we maintain certain property and business interruption
insurance, such insurance may not adequately compensate us for all losses that
we may incur and may not be adequate to cover the costs of rebuilding these
centers. If we are unable to restore our operations, our business activities
would cease.
WE MUST RESPOND QUICKLY AND EFFECTIVELY TO NEW TECHNOLOGICAL DEVELOPMENTS. Our
VAS business is highly dependent on our computer and telecommunications
equipment and software systems. Our failure to maintain the superiority of our
technological capabilities or to respond effectively to technological changes
could adversely effect our business, results of operations or financial
condition. Our future success also depends on our ability to enhance existing
software and systems and to respond to changing technological developments. If
we are unable to successfully develop and bring to market new software and
systems in a timely manner, our competitors' technologies or services may render
our products or services noncompetitive or obsolete.
RISKS SPECIFIC TO THIS OFFERING
THE PRICE OF OUR STOCK HAS FLUCTUATED IN THE PAST AND MAY CONTINUE TO DO SO. Our
stock price has fluctuated dramatically. There is a significant risk that the
market price of our common stock will decrease in the future in response to any
of the following factors, some of which are beyond our control:
o variations in our quarterly operating results;
o announcements that our revenue or income are below analysts'
expectations;
o general economic slowdowns;
o changes in market valuations of similar companies;
o sales of large blocks of our common stock;
o announcements by us or our competitors of significant
contracts, acquisitions, strategic partnerships, joint
ventures or capital commitments;
o fluctuations in stock market prices and volumes, which are
particularly common among highly volatile securities of
internationally-based companies.
The price in this offering will fluctuate based on the prevailing market price
of our common stock on The Nasdaq Small Cap Market. Accordingly, the price you
pay in this offering may be higher or lower than the prices paid by other people
participating in this offering.
YOU MAY SUFFER DILUTION UPON THE EXERCISE OF OUTSTANDING OPTIONS AND WARRANTS.
We currently have stock options outstanding to purchase approximately 800,000
shares of common stock and warrants to purchase 1,621,138 shares of common
stock, some of which have exercise prices at or below the price of our shares of
common stock on the public market. To the extent such options or warrants are
exercised, there will be further dilution. In addition, in the event that any
future financing should be in the form of securities convertible into, or
exchangeable for, equity securities, investors may experience additional
dilution upon the conversion or exchange of such securities.
11
USE OF PROCEEDS
We will not receive any proceeds from the sale of the shares of common
stock by the selling stockholders. Assuming that all of the warrants held by
selling stockholders are exercised for cash, we will realize proceeds of
approximately $6,400,000. We would use these funds for general corporate
purposes.
MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our common stock is listed on The Nasdaq SmallCap Market under the
symbol "PACT". The following table sets forth the range of high and low bid
prices of common stock reported by Nasdaq in each fiscal quarter from January 1,
2002 to December 31, 2004. The quotations reflect inter-dealer prices, without
retail mark-up, mark-down or commission, and may not represent actual
transactions.
High Low
---------- ----------
FISCAL 2002
Quarter Ended March 31, 2002 $2.25 $0.65
Quarter Ended June 30, 2002 $2.25 $0.65
Quarter Ended September 30, 2002 $1.75 $0.40
Quarter Ended December 31, 2002 $2.10 $0.45
FISCAL 2003
Quarter Ended March 31, 2003 $3.65 $0.85
Quarter Ended June 30, 2003 $3.90 $2.30
Quarter Ended September 30, 2003 $10.29 $2.18
Quarter Ended December 31, 2003 $6.41 $4.10
FISCAL 2004
Quarter Ended March 31, 2004 $7.11 $4.98
Quarter Ended June 30, 2004 $5.65 $2.71
Quarter Ended September 30, 2004 $3.85 $1.91
October 1, 2004 through December 31, 2004 $14.08 $2.43
As of January 25, 2005, there were 108 record holders of our common
stock. However, the total number of beneficial holders is unknown as they hold
our common stock in street name, and such number is not provided to us by our
Transfer Agent and Registrar. We have not paid any cash dividends on our common
stock, and we currently intend to retain any future earnings to fund the
development and growth of our business.
12
MANAGEMENT'S DISCUSSION AND ANALYSIS
OR PLAN OF OPERATION
FORWARD-LOOKING STATEMENTS. This registration statement contains forward-looking
statements within the meaning of the federal securities laws. These include
statements about our expectations, beliefs, intentions or strategies for the
future, which we indicate by words or phrases such as "anticipate," "expect,"
"intend," "plan," "will," "we believe," "management believes" and similar
language. The forward-looking statements are based on our current expectations
and are subject to certain risks, uncertainties and assumptions, including those
set forth in the discussion under "Description of Business," including the "Risk
Factors" described in that section, and "Management's Discussion and Analysis or
Plan of Operation." Our actual results may differ materially from results
anticipated in these forward-looking statements.
OVERVIEW
We were incorporated in Delaware in 1987. Through our subsidiaries we
provide outsourcing services, including, the operation of call centers, customer
relationship management (CRM) and software development, value-added telecom
services (VAS), primarily consisting of interactive voice response (IVR)
systems, and we distribute calling cards and other telecom products in greater
China. Our goal is to take a leading role in providing information technology
services and network communications, which are rapidly expanding business
sectors, in Asia.
China continues to be one of the fastest-growing and largest markets
for communications services in the world. We believe that Chinese companies are
beginning to focus on customer service, rather than price only, as a major
competitive factor. During the last three years, we have seen strengthening
demand for CRM services among these companies, to gain and retain customers by
providing quality customer services. We believe that the services we provide
position us to compete effectively for business from these companies.
We have increased our business by acquiring growing technology and
network communications businesses in greater China that fit our strategy. Since
December 2003, we have acquired controlling interests in Epro Telecom Holdings
Limited (Epro), Beijing Linkhead Technologies Co., Limited (Linkhead), Guangzhou
Yueshen TaiYang Technology Limited (Yueshen), and Smartime Holdings Limited
(Smartime). Each of these businesses has significantly contributed to broadening
the services we provide. Previously, we concentrated on providing systems
integration and software applications, but were able to generate only limited
revenue. Because of the rapid changes in our company these acquisitions have
caused, our current year financial information cannot usefully be compared with
previous years'.
CRITICAL ACCOUNTING POLICIES.
Our discussion and analysis or plan of operations is based upon our consolidated
financial statements, which have been prepared in accordance with accounting
principles generally accepted in the United States. The preparation of these
financial statements requires us to make estimates and judgments that affect the
reported amounts of assets, liabilities, revenues and expenses, and related
disclosure of contingent assets and liabilities. On an on-going basis, we
evaluate our estimates, including those related to bad debts, inventories,
intangible assets, income taxes and contingencies. We base our estimates on
historical experience and on various other assumptions that we believe to be
reasonable 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. Actual results may differ from these
estimates under different assumptions or conditions.
Management believes the following critical accounting policies reflect the most
significant estimates and assumptions used in the preparation of its
consolidated financial statements.
13
RESEARCH AND DEVELOPMENT
We evaluate research and development costs to identify any research and
development activities that could be objectively measured and recognized as an
asset for accounting purposes at the time they are acquired or at the time they
have developed future economic benefits. Some costs and expenses are recognized
as costs and expenses incurred during the period, provided that (a) there are no
discernible future benefits, (b) costs recorded as assets in prior periods no
longer provide discernible benefits, and (c) allocating costs either on the
basis of association with revenue or among several accounting periods is
considered to serve no useful purposes.
VALUATION OF LONG-LIVED ASSETS INCLUDING GOODWILL AND PURCHASED INTANGIBLE
ASSETS
We review property, plant and equipment, goodwill and purchased intangible
assets for impairment whenever events or changes in circumstances indicate the
carrying value of an asset may not be recoverable. Our asset impairment review
assesses the fair value of the assets based on the future cash flows the assets
are expected to generate. An impairment loss is recognized when estimated
undiscounted future cash flows expected to result from the use of the asset plus
net proceeds expected from disposition of the asset (if any) are less than the
carrying value of the asset. This approach uses our estimates of future market
growth, forecasted revenue and costs, expected periods the assets will be
utilized and appropriate discount rates. Such evaluations of impairment of
long-lived assets including goodwill arising on a business combination and
purchased intangible assets are an integral part of, but not limited to, our
strategic reviews of our business and operations performed in conjunction with
restructuring actions. When an impairment is identified, the carrying amount of
the asset is reduced to its estimated fair value. Deterioration of our business
in a geographic region or within a business segment in the future could also
lead to impairment adjustments as such issues are identified. The accounting
effect of an impairment loss would be a charge to income, thereby reducing our
net profit.
ALLOWANCE FOR DOUBTFUL ACCOUNTS
We evaluate the collectibility of our trade receivables based on a combination
of factors. We regularly analyze our significant customer accounts, and, when we
become aware of a specific customer's inability to meet its financial
obligations to us, such as in the case of bankruptcy filings or deterioration in
the customer's operating results or financial position, we record a specific
reserve for bad debt to reduce the related receivable to the amount we
reasonably believe is collectible. We also record reserves for bad debt for all
other customers based on a variety of factors including the length of time the
receivables are past due, the financial health of the customer, macroeconomic
considerations and historical experience. If circumstances related to specific
customers change, our estimates of the recoverability of receivables could be
further adjusted. In the event that our trade receivables become uncollectible,
we would be forced to record additional adjustments to receivables to reflect
the amounts at net realizable value. The accounting effect of this entry would
be a charge to income, thereby reducing our net profit. Although we consider the
likelihood of this occurrence to be remote based on past history and the current
status of our accounts, there is a possibility of this occurrence.
TAXES ON EARNINGS
We record a valuation allowance to reduce our deferred tax assets to the amount
that is more likely than not to be realized. We have considered future market
growth, forecasted earnings, future taxable income, the mix of earnings in the
jurisdictions in which we operate and prudent and feasible tax planning
strategies in determining the need for a valuation allowance. In the event we
determine that we would not be able to realize all or part of our net deferred
tax assets in the future, an adjustment to the deferred tax assets would be
charged to earnings in the period such determination is made. Likewise, if we
later determine that it is more likely than not that the net deferred tax assets
would be realized, the previously provided valuation allowance would be
reversed.
14
RESULTS OF OPERATIONS
Please refer to our interim financial statements as of September 30, 2004, which
are included at the end of this document beginning on page Q-1 and our audited
financial statements, which are included at the end of this document beginning
on page F-1.
The following table sets forth selected statement of operations data, and their
respective percentages of revenues for the periods indicated.
SELECTED STATEMENT SELECTED STATEMENT
OF OPERATIONS PERCENTAGE OF OF OPERATIONS PERCENTAGE OF
DATA FOR THE REVENUES FOR THE DATA FOR THE REVENUES FOR THE
NINE MONTHS ENDED NINE MONTHS ENDED NINE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, 2004 SEPTEMBER 30, 2004 SEPTEMBER 30, 2003 SEPTEMBER 30, 2003
------------------ ------------------ ------------------ ------------------
Revenues $19,640,000 100.0% $344,000 100.0%
Cost of Revenues (15,724,000) 80.0 (178,000) 51.7
GROSS MARGIN 3,916,000 20.0 166,000 48.3
Selling, general and
administrative expense (2,487,000) 12.7 (1,013,000) (294.5)
Depreciation and amortization (214,000) 1.1 (3,000) 0.9
Provision for written off
fixed assets -- -- (91,000) 26.5
PROFIT/(LOSS) FROM
OPERATIONS 1,215,000 6.2 (941,000) (273.6)
Interest income, net 16,000 0.08 23,000 6.7
Sundry income 136,000 0.7 46,000 13.4
Equity earnings in
undistributed earnings of
investee company 23,000 0.1 -- --
Provision for income taxes -- -- -- --
Minority interest (1,062,000) 5.4 25,000 7.3
Discontinued operations -- -- (185,000) 53.8
NET PROFIT/(LOSS) $328,000 1.68% ($1,032,000) 300.0%
NINE MONTHS ENDED SEPTEMBER 30, 2004 COMPARED TO NINE MONTHS ENDED SEPTEMBER 30,
2003
REVENUES. For the nine months ended September 30, 2004, revenues derived from
the call center and value-added telecom services rendered by the Company's newly
acquired subsidiaries, YueShen, Epro, Linkhead and Smartime, in the aggregate,
contributed to 96% of total revenues. Summarized financial information
concerning each of these subsidiaries is set forth in the following table. The
"Other" column includes our other insignificant subsidiaries and corporate
related items.
-------------------------- --------------- ------------- -------------- ----------------- ------------- --------------
FOR THE NINE MONTHS
ENDED SEPTEMBER 30,
2004 LINKHEAD EPRO YUESHEN SMARTIME OTHER TOTAL
------------------- -------- ---- ------- -------- ----- -----
-------------------------- --------------- ------------- -------------- ----------------- ------------- --------------
Revenues $4,270,000 $6,706,000 $7,793,000 $ 141,000 $ 730,000 $19,640,000
-------------------------- --------------- ------------- -------------- ----------------- ------------- --------------
Operating gain/(loss) 1,133,000 729,000 100,000 14,000 (586,000) 1,390,000
-------------------------- --------------- ------------- -------------- ----------------- ------------- --------------
TOTAL ASSETS $3,252,000 $3,713,000 $ 273,000 $1,032,000 $11,289,000 $19,559,000
-------------------------- --------------- ------------- -------------- ----------------- ------------- --------------
15
COST OF REVENUES AND GROSS MARGIN. The significant increase in cost of revenues
is directly associated with the increase in revenues. The significant decrease
in gross margin as a percentage of revenue is attributable to the changes in
operations, from supplying systems integration and software application in 2003
to becoming value-added telecom services and product providers in 2004. We
believe that our gross margin overall approximates the industry standards. The
decrease in gross margin came primarily from Yueshen, our calling card business,
which, typically for that industry, has lower gross margins. However, we expect
our gross margin percentage to increase gradually as a result of cost reduction
and efficient utilization of assets.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. The increase in selling, general
and administrative expenses reflects the expansion of our operations.
INTEREST INCOME. The decrease in interest is due to a lower average outstanding
bank balance in 2004 than 2003.
EQUITY EARNINGS IN UNDISTRIBUTED EARNINGS OF INVESTEE COMPANY. For the nine
months period ended September 30, 2004, we recorded income of $23,000 with
respect to our 30% ownership interest in Cheer Era Limited, acquired in April
2004.
INCOME TAXES. No tax provision has been recorded for the nine months ended
September 30, 2004, as a result of the cumulative operating losses we generated.
Interim income tax provisions are based upon management's estimate of taxable
income and the resulting consolidated effective income tax rate for the full
year. As a result, such interim estimates are subject to change as the year
progresses and more information becomes available.
MINORITY INTEREST. Minority interest represents the interests of third parties
in our subsidiaries' results. Amounts so recorded were PacSo, $(5,000); Epro,
$451,000; Linkhead, $560,000; YueShen, $48,000; and Smartime, $8,000.
YEAR ENDED DECEMBER 31, 2003 COMPARED TO YEAR ENDED DECEMBER 31, 2002
REVENUES, COST OF REVENUES AND GROSS MARGIN. The decrease in revenues and cost
of revenues from 2002 to 2003 resulted from reduced operations in our IT systems
integration business. The decrease in gross margin for 2003 as compared to 2002,
resulted from a reduction of revenues, not offset by reduced expenses.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. The decrease in selling, general
and administrative expenses is the result of reducing the size of our
operations, which resulted in decreased premises costs and staff costs.
INTEREST INCOME. The decrease in interest income is due to a lower interest rate
in 2003 compared to 2002.
WRITTEN-OFF TANGIBLE AND INTANGIBLE ASSETS. As of each annual balance sheet
date, or whenever events or changes in circumstances indicate the carrying value
of an asset may not be recoverable, we review the carrying amounts of our
tangible and intangible assets to determine whether there is any indication that
those assets have to make provision for the impairment loss. We wrote off
tangible assets of $208,000, and intangible assets of $761,000, which mainly
included research and development. R&D costs and expenses are recognized as
incurred, if there are no discernible future benefits.
PROVISION FOR IMPAIRMENT LOSS OF AFFILIATED COMPANIES. Our provision for
impairment loss of affiliated companies in 2002 related to our investments in
Xmedia ($95,000) and in PacSo ($2,000).
DISCONTINUED OPERATIONS. Discontinued operations represents the net loss
resulting from downsizing our operations in Laptizen during the fourth quarter
of 2001. Revenues were $15,000 and net loss was $107,000 for 2002.
INCOME TAXES. Income tax was recognized for our only subsidiary that generated
operating profit in 2003. The lack of operating profits by all of our
subsidiaries resulted in no income tax recognition in 2002.
MINORITY INTEREST. Minority interest represents the interests of third parties
in our subsidiaries' results. Amounts so recorded included $25,000 for PacSo,
which we owned at the beginning of 2003, and $380,000 and $191,000 for Epro and
Linkhead, respectively, acquired in 2003.
16
CONTRACTUAL OBLIGATIONS
CONTRACTUAL OBLIGATIONS. We have significant cash resources to meet our
contractual obligations as of September 30, 2004, as detailed below:
Payments Due by Period
Contractual Obligations Total Less than 1-3 years 4-5 years After 5 years
1 year
Line of credit (1) $1,277,000 $1,277,000 -- -- --
Bank loans $1,488,000 $1,396,000 $ 92,000 -- --
Operating leases (2) $ 136,000 $ 136,000 -- -- --
Capital leases (3) $ 170,000 $ 81,000 $ 89,000 -- --
------------- ------------- -------------
Total cash contractual
obligations $3,071,000 $2,890,000 $ 181,000
OFF-BALANCE SHEET ARRANGEMENTS
We have no outstanding derivative financial instruments, off-balance
sheet guarantees, interest rate swap transactions or foreign currency forward
contracts. We do not engage in trading activities involving non-exchange traded
contracts.
LIQUIDITY AND CAPITAL RESOURCES
WORKING CAPITAL. Our working capital increased to $4,490,000 at September 30,
2004 as compared to $1,442,000 at December 31, 2003. The increase in working
capital at September 30, 2004 primarily reflects proceeds of a $3,000,000
private placement and a decrease in current liabilities of $817,000.
ISSUANCE OF COMMON STOCK. For the nine month period ended September 30, 2004, we
issued (i) 1,300,000 shares to acquire subsidiaries (ii) 617,285 shares for cash
pursuant to a private placement, and (iii) 39,500 shares as a result of the
exercise of share options for $74,000 in cash and $2,000 in noncash
consideration.
FUTURE LIQUIDITY NEEDS
As of September 30, 2004, we had approximately $1,322,000 in cash.
Since that date we added $9.3 million of proceeds from private placements of our
common stock. We regularly review our cash funding requirements and attempt to
meet those requirements through a combination of cash on hand, cash provided by
operations, available borrowings under bank lines of credit and possible future
public or private equity offerings. We evaluate possible acquisitions of, or
investments in, businesses that are complementary to ours, which transactions
may require the use of cash. We believe that our cash, other liquid assets,
operating cash flows, credit arrangements, access to equity capital markets,
taken together, provide adequate resources to fund ongoing operating
expenditures. In the event that they do not, we may require additional funds in
the future to support our working capital requirements or for other purposes and
may seek to raise such additional funds through the sale of public or private
equity as well as from other sources.
17
CURRENCY EXCHANGE FLUCTUATIONS. All of the Company's revenues are denominated
either in U.S. dollars or Hong Kong dollars, while its expenses are denominated
primarily in Hong Kong dollars and Renminbi ("RMB"), the currency of the
People's Republic of China. The value of the RMB-to-U.S. dollar or Hong Kong
dollar-to-United States dollar and other currencies may fluctuate and is
affected by, among other things, changes in political and economic conditions.
Since 1994, the conversion of Renminbi into foreign currencies, including U.S.
dollars, has been based on rates set by the People's Bank of China, which are
set daily based on the previous day's interbank foreign exchange market rates
and current exchange rates on the world financial markets. Since 1994, the
official exchange rate generally has been stable. Recently there has been
increased political pressure on the Chinese government to decouple the RMB from
the United States dollar. Although a devaluation of the Hong Kong dollar or RMB
relative to the United States dollar would likely reduce the Company's expenses
(as expressed in United States dollars), any material increase in the value of
the Hong Kong dollar or RMB relative to the United States dollar would increase
the Company's expenses, and could have a material adverse effect on the
Company's business, financial condition and results of operations. The Company
has never engaged in currency hedging operations and has no present intention to
do so.
CONCENTRATION OF CREDIT RISK. All of the Company's revenues are derived in Asia
and Greater China. The Company does not have any single customer that accounts
for more than 10% of its revenues or 10% of its purchases. If the Company was
unable to derive any revenue from Asia and Greater China, it would cause a
significant, financially disruptive effect on the normal operations of the
Company. Based on the current economic environment in China, the Company does
not expect any material adverse impact to its business, financial condition and
results of operations.
18
DESCRIPTION OF BUSINESS
OVERVIEW
We were incorporated in the state of Delaware in 1987. Our business
consists of three groups, all of which operate within the outsourcing and
telecommunications industries in Asia, primarily greater China, which includes
the People's Republic of China, or mainland China, Hong Kong, Macau and Taiwan.
Through our subsidiaries we provide outsourcing services, value-added telecom
services (VAS), and communication products distribution services. Our business
process outsourcing (BPO) services, include call centers, provide customer
relationship management (CRM), and telemarketing services, and our information
technology outsourcing (ITO) includes software programming and development. We
are value-added resellers and providers of telecom VAS, which comprises
interactive voice response (IVR) systems, call center management systems, and
VOIP, as well as mobile phone VAS, such as short messaging services (SMS) and
multimedia messaging services (MMS). Recently, we commenced our communication
products distribution service, through wholesale and, to a lesser extent, retail
sale and distribution of calling cards in China, and we have recently invested
in a company that distributes multimedia interactive self-service kiosks. We
intend to continue to grow our business by acquiring and managing growing
technology and network communications businesses with established products and
customers in Asia.
Our business process outsourcing services generate revenues from call
center services, call center management software sales, and training and
consulting. We invoice our call center clients monthly at per seat monthly
rates, a base price plus commission per call, or a per hour charge rate,
depending on the customer's preference. Our call center software clients pay per
license, for which there is usually a one-time charge on sale of the software
and annual maintenance fees for service. We charge per project for our
consulting and training services and for our telecom VAS, which are invoiced
throughout the project. Our telecom VAS often includes a post-sale service
contract for systems integration and consulting services for which we bill
separately. Our calling card and related mobile telecom products are sold
cash-on-delivery.
INDUSTRY OVERVIEW
In China, over the last three years, a trend has developed among
companies to compete for customers and gain customer loyalty by providing
quality customer service, both before and after a sale, instead of relying on
price, alone. This trend, we believe, has prompted rapidly increasing demand for
large-scale customer-contact centers. Together with our subsidiaries, we have
over 10 years experience providing CRM and contact center management in Hong
Kong and China. We believe that our experience positions us to capture the
rapidly growing demand for CRM, contact center services and call center
management systems, such as IVR systems.
At the end of 2002, China Mobile, a leading telecom operator in China,
launched an IVR service. In 2003, the IVR market reached $400 million in China
We believe that due to heavy competition within the SMS market, many of China's
largest internet portals including Sohu, Netease, Sina and Tom have entered the
IVR market. As an IVR systems integrator, increased growth in this market may
mean increased demand for our services.
PRINCIPAL CUSTOMERS
Our principal customers are located in Hong Kong, mainland China and
other regions of Asia. Our key clients consist of leading telecom operators,
banks, insurance, travel, marketing, government, services companies and telecom
consumers.
Our principal clients in each of our business groups are:
o CALL CENTER SERVICES: Hong Kong CSL Limited, PCCW Limited, The
Kong Kong Housing Authority, SmarTone, Sony (So-net), American
Express, New World, SUNDAY Communications Limited, Swire
Travel, and The Hong Kong Housing Authority.
19
o VAS/CONSULTING AND SOFTWARE PROGRAMMING: China Telecom
Corporation Limited, China Mobile (Hong Kong) Limited, China
Unicom Limited, China Netcom, China Railcom, and UTStarcom.
o CALLING CARD AND MOBILE PRODUCT DISTRIBUTION: Shenzhen Longyin
and Zhongyu.
GROWTH STRATEGY
Our objective is to be the leading provider of information technology
and network communications services in greater China. Our strategy to accomplish
this objective focuses on vertical growth to increase revenue and profit margin.
We believe that our continued focus on increasing revenue and profit margin
while minimizing operating costs will allow us to build a strong, profitable and
growing business model.
We believe that the most effective way to accomplish our vertical
growth objective is by acquiring companies and forming joint ventures or other
partnership relationships. We have recently acquired businesses that provide
complementary services to our operations. If we are successful in our vertical
integration strategy, we may be able to enhance our profit margin.
SERVICES
Our goal is to take a leading role in providing information technology
services and network communications, which are rapidly expanding business
sectors in Asia. The services offered by each of our subsidiaries can be
classified within one of the following three business groups:
OUTSOURCING SERVICES
BUSINESS PROCESS OUTSOURCING. Our call center offers 24 hour
staff-answering and automatic-answering service hotlines in our service
areas, handling customer enquiries regarding services, billing, and
technical support, as well as customer complaints. We offer services
targeted at high-value and corporate customers, including dedicated account
executives, on-site visits, and systems for collecting comments and
handling complaints.
o We acquired Epro in December 2003. Epro is a leading provider of
outsourced call-center services with over 13 years of field
experience in greater China. Epro's business consists of the
following three major categories:
OUTSOURCED CALL CENTER SERVICES. Epro's ISO 9001 certified
outsourcing contact center hosts over 1,000 workstations and
500 agents, processing over 100,000 calls daily and provides
multi-lingual inbound and outbound CRM services. The call
center is the largest outsourced call center in Hong Kong.
Epro permits its clients to recruit and hire their own
personnel to work in its call center, for whom Epro provides
managerial services, call center seats, and equipment. Our
inbound call center services include sales inquiry hotline,
telephone orders, technical helpdesk, and customer service.
Certain of our clients also engage us to provide
telemarketing and telesales for their products and for
promotions, to conduct market surveys, and to provide
administrative process, such as appointment setting.
TRAINING AND CONSULTING SERVICES. The Epro Call Center
Training Institute (ECCTI) is a leading provider of Contact
Center Management Consulting and Training services, which
helps clients maximize the return on investment of their CRM
operations. Through ECCTI, we provide on-site training and
consulting services, and we offer courses and seminars for
call center managers and professionals, sales
representatives, customer service representatives and
telemarketing service representatives and in-house trainers.
20
CALL CENTER MANAGEMENT SOFTWARE PRODUCTS AND SOLUTIONS.
WISE-xb Call Center agent performance management and
reporting software is Epro's proprietary call center
management software. Wise-xb has been installed in over 60
customer sites in the PRC. Epro's products also include
Automatic Call Distribution (ACD) System, Unified Messaging
System (UMS), SMS, and VAS.
INFORMATION TECHNOLOGY OUTSOURCING. In September 2004, we acquired Smartime
Holdings Limited (Smartime). Through Soluteck Technology (Shenzhen) Company
Limited, its operating subsidiary in Shenzhen, China, Smartime employs over
200 staff and provides outsourced consulting services and programming
services, including software development, R&D, and project management to
leading telecom, banking and financial services companies including Huawei,
IBM, Bank of East Asia and others.
VALUE-ADDED TELECOM SERVICES
o In December 2003, we acquired 51% of the shares of a private
mainland China company, Beijing Linkhead Technologies Co.,
Limited (Linkhead). Linkhead is a value-added reseller and
provider of VAS, such as IVR system development and integration,
SMS, and voice-portal services. Linkhead is also a channel
partner, or a master reseller, of NMS Communications system
hardware, a leading provider of communications technologies.
Linkhead also acts as a mobile phone systems integrator for
service providers in China, providing the hardware, know-how, and
software for mobile phone VAS, such as mobile chat, mobile
karaoke, and color ring back tone. The service providers
ultimately provide the Linkhead systems to telecom operators,
such as China Unicom and China Netcom.
o In December 2004, we entered into an agreement to acquire
GuangZhou Dianxun Digital Network Technology Co., Ltd.(Clickcom).
Once completed, the acquisition will allow us to offer, directly
to China's telecom operators, a wide variety of wireless internet
services for mobile phones, such as SMS, Wireless Application
Protocol, or WAP, which allows uses to access information
instantly via handheld wireless devices, and Java mobile
applications. The contemplated acquisition of Clickcom is our
first step in entering the VAS service provider market in which
we will be able to design our own mobile phone VAS for
distribution directly to telecom operators.
o PacificNet Solutions Ltd. (PacSo), is a subsidiary that
specializes in systems integration, software application, and
on-line business solution services in greater China. PacSo's
products and services include smart card solutions, web-based
user applications, including kiosks and IVR, and web based
connections to remote or fixed database servers, which are also
referred to as back-end enterprise planning systems.
COMMUNICATION AND TELECOM PRODUCTS
o In April 2004, we acquired a 51% controlling interest in
Guangzhou Yueshen TaiYang Technology Limited (Yueshen). Yueshen
distributes telecom services for mobile phones, such as calling
cards, mobile SIM cards, prepaid stored-value cards, wireless
broadband and internet services for mobile phones. There are
approximately 268.7 million people with mobile phones in China.
Because so few people subscribe to service plans, the mobile
calling card business has become very popular. We sell calling
cards wholesale to distributors who in turn sell to retail shops,
such as newsstands. We have begun to enter the retail calling
card market and have established nine retail stores in the
Guangzhou Metro. Yueshen is the designated distributor of China
Netcom's XiaoLingTone/PHS mobile phone products, prepaid calling
cards, wireless broadband and internet services.
o Also in April 2004, we acquired a 30% interest in Cheer Era
Limited (Cheer Era). Cheer Era is engaged in the business of
designing, developing, and manufacturing interactive multimedia
entertainment and communication kiosk products, including photo
21
and video entertainment kiosks, digital camera photo development
stations, internet, MMS, ring-tone and mobile content download,
payment and delivery stations for mobile phones, and other
coin-operated kiosks and kiosk consumables. These kiosks have
been marketed and sold to restaurants, gaming facilities and
amusement parks in the USA, Korea, China, India, and Southeast
Asia. We sell the kiosks to channel operators who pay a placement
fee or rental fee for the kiosks.
SALES AND MARKETING
We do not engage in any significant marketing activities. We advertise
our services by attending various CRM and VAS trade shows and conferences in
China. There are a limited number of competitors in our industry; accordingly,
new business opportunities are generated mainly through business contacts and by
word of mouth. We rely on our reputation for quality and efficiency among our
customers and leveraging our strategic investors to obtain new business.
COMPETITION
We expect competition to persist and intensify in the future. Our
competitors include small firms offering specific applications, divisions of
large entities, large independent firms. A number of competitors have or may
develop greater capabilities and resources than ours. We also face the risk that
new competitors with greater resources than ours will enter our market. Our
competitors are mainly leaders in the CRM and VAS services market. Competitive
pressures from current or future competitors could cause our services to lose
market acceptance or require a significant reduction in the price of our
services.
RESEARCH AND DEVELOPMENT
We place great emphasis on the continued enhancement of our existing
products and solutions, including designing, development and supporting a
portfolio of converged voice and data enhanced services, products and solutions
to help wireless, wire-line and Internet service providers offer unprecedented
access to communications, information and commerce. We have ongoing research and
development activities with respect to the following products and solutions:
o multi-media information on demand systems, which integrates
the dynamics of the Internet with voice based communication
applications, including text-to-speech and voice recognition
capabilities;
o web-based multimedia call center/ customer relationship
management for service providers and corporations; and
o Wise-xb, which is a Call Center agent performance management
and reporting software. It provides intelligent routing,
comprehensive ACD/ PBX capabilities, Email, IVR, Voice Mail,
Messaging, Conference, Recording, Coaching/ Supervising,
Reporting and Interface.
o voice mail systems; and
o color ringback tone systems; and
o value-added services for mobile users;
EMPLOYEES
As of December 28, 2004, we, together with our subsidiaries, had
approximately 1,000 employees and contractors. We have not experienced any labor
stoppages. None of our employees are covered by collective bargaining
agreements.
22
EXECUTIVE OFFICES
Our executive offices are located at 601 New Bright Building, 11 Sheung
Yuet Road, Kowloon Bay, Kowloon, Hong Kong. Our telephone number is
011-852-2876-2900.
DESCRIPTION OF PROPERTY
A description of our property is as follows:
HONG KONG - We maintain our corporate headquarters, development center and our
Call Center in Hong Kong located at Units 601-603 New Bright Building, 11 Sheung
Yuet Road, Kowloon Bay, Kowloon where we lease approximately 17,739 square feet
for a monthly fee of $16,365 and our branch office is located at Units 2-3, 17th
Floor, Nan Fung Commercial Centre, 19 Lam Lok Street, Kowloon Bay, Hong Kong
where we lease approximately 2,359 square feet for a monthly rental fee of
$1,815.
UNITED STATES - Our current U.S. corporate office is located at 860 Blue Gentian
Road, Suite 360, Eagan, Minnesota 55121, where we sublease space for a monthly
rental fee of $1,000.
CHINA -Our current Chinese corporate office is located at Room 1708, Tower B,
Stars Plaza, Hongli Road, FuTian District, Shenzhen, China where we lease
approximately 1,000 square feet for a monthly rental fee of $449. We lease space
from a shareholder. Our offices are located in Beijing, Shanghai and Shenzhen.
Details are as follows:-
Locations Area (Square Feet)
----------------------------------------------------------------------------------------- ----------------------
1601, 26 Building, 3 Block, Anzhenxili, ChaoYang District, Beijing 4,306
1407, 2# Building, Hengji Plaza, 547 Tianmuxilu, Shanghai 2,153
901, Tower A, Tian An High-Tech Plaza, Tian An Cyber Park, Fu Tian District, Shenzhen 1,076
We believe that our offices are adequate for our current operations.
LEGAL PROCEEDINGS
We are not aware of any material pending or threatened legal
proceedings that involve us.
23
RECENT DEVELOPMENTS
On September 15, 2004, we acquired an 81% controlling interest in
Smartime for $500,000 in cash, 100,000 shares of common stock and a warrant to
purchase up to 50,000 shares of common stock. All of the shares of common stock
are held in escrow pursuant to the terms of an escrow agreement, which provides
that the Common Stock will be released in specified amounts based on Smartime's
achievement of certain earnings criteria over the twelve month period ending on
September 30, 2005. If at the end of the second twelve month period ending on
September 30, 2006, there is a shortfall in Smartime's net income, a portion of
the shares equivalent to the dollar amount of the shortfall divided by $5.00
shall be returned to us.
On November 17, 2004, we consummated a private placement (the "November
Private Placement") for the sale of 588,410 restricted shares of our Common
Stock. With the exception of 482,310 of the shares that are being registered for
resale under this prospectus, no other registration rights were granted pursuant
to the terms of the November Private Placement. The aggregate proceeds from the
sale of the shares in the November Private Placement was $1,829,955. In
connection with the November Private Placement we issued warrants to purchase
117,852 shares of our Common Stock in the aggregate. The exercise price of the
warrants are $3.89 and they are exercisable for a period of five years from the
date of issuance. 96,462 of the shares underlying the warrants issued to certain
investors are being registered for resale on this prospectus.
On December 16, 2004, we consummated a private placement (the "December
Private Placement") for the sale of 1,000,002 restricted shares of our Common
Stock. The aggregate proceeds from the sale of the shares in the December
Private Placement was $7,500,000. In connection with the December Private
Placement we issued warrants to purchase 350,000 shares of our Common Stock in
the aggregate. The exercise price of the warrants are $12.21 and they are
exercisable for a period of five years from the date of issuance. All of the
shares issued and shares underlying the warrants are being registered for resale
on this prospectus.
On December 16, 2004, we entered into an agreement to acquire a
controlling interest in GuangZhou Dianxun Digital Network Technology Co., Ltd.
("Clickcom"), through the purchase of a 51% interest in Clickcom's parent
company, PacificNet Clickcom Limited, a British Virgin Islands Company
("Clickcom-BVI"). PacificNet Holdings agreed to purchase 1,625 shares (the "Sale
Shares") of Clickcom-BVI from Ming Zhang, Jinnan Lai and Dong Liu (the
"Sellers"), and directly subscribed to Clickcom-BVI to purchase 670 shares (the
"Subscribed Shares"). The closing of the transactions is subject to the
completion of various closing conditions specified in the agreement.
The total consideration paid for the Sale Shares was payable as
follows:
(i) USD$650,000
o by delivery of 130,000 shares of common stock, par
value $0.0001 per share (the "Common Stock") of the
Registrant (the "Registrant Shares") to the Sellers.
The Registrant Shares are to be held in an escrow
account with an Escrow Agent designated by PacificNet
Holdings. The Registrant Shares will be released to
Sellers in equal installments of 26,000, the first
installment to be released 45 days after the closing
of the transaction. The remaining installments will
be released within 30 days after the end of each
quarter, provided that Clickcom attains certain net
income milestones by the end of each quarter. The
Sellers will be entitled to receive all of the
Registrant Shares if Clickcom has achieved cumulative
net income for the year ended December 31, 2004 of
not less than USD$600,000 and issuance of warrants to
purchase up to 50,000 shares of the Registrant's
Common Stock. The exercise price of the warrants is
the 5-Day Volume Weighted Average Price of the
Registrant's Common Stock prior to December 16, 2004.
The warrant is exercisable for a period of 3 years.
24
(ii) USD$268,000
o PacificNet Holdings subscribed to Clickcom-BVI to
purchase an additional 670 shares. The total purchase
price for the Subscribed Shares is USD$268,000,
payable within 45 days after the delivery of (i)
stock powers transferring the Sale Shares to
PacificNet Holdings; (ii) stock certificates for the
Sale Shares and the Subscribed Shares; (iii) an
executed Subscription Agreement for the Subscribed
Shares; and (iv) minutes of the Board of Directors
and shareholders of Clickcom and Clickcom-BVI
approving the transaction.
25
DIRECTORS, EXECUTIVE OFFICERS,
PROMOTERS AND CONTROL PERSONS
Set forth below are the names of the directors, executive officers and
key employees of the Company as of January 25, 2005:
Name Age Title
------------------------ ----------- ----------------------------------------
Tony Tong 36 Chairman and Chief Executive Officer
Victor Tong 33 President, Secretary, and Director
ShaoJian (Sean) Wang 39 Chief Financial Officer, Vice President,
and Director
Peter Wang 50 Director
Michael Ha 34 Director
Jeremy Goodwin 31 Director
Tao Jin 37 Director
Our executive officers are appointed at the discretion of our board of
directors with no fixed term. There are no family relationships between or among
any of our executive officers or our directors other than the relationship
between Mr. Tony Tong and Mr. Victor Tong.
The following is a brief description of each director's and executive
officer's business experience:
Mr. Tony Tong, age 36, is the Chairman, CEO, Executive Director, and
founder of PacificNet. From 1995 to 1997, Mr. Tong served as the Chief
Information Officer of DDS Inc., a leading SAP-ERP consulting company in the
USA, which was later acquired by CIBER, Inc. (NYSE: CBR). From 1993 to 1994, Mr.
Tong worked for Information Advantage, Inc. (Nasdaq:IACO), a leading business
intelligence, Data-Mining and CRM technology provider serving Fortune 500
clients. IACO consummated an IPO on Nasdaq in 1997 and was later acquired by
Sterling Software and Computer Associates (NYSE: CA). From 1992 to 1993, Mr.
Tong worked as a Business Process Re-engineering Consultant at Andersen
Consulting (now Accenture, NYSE:ACN). From 1990 to 1991, Mr. Tong worked for ADC
Telecommunications (Nasdaq: ADCT), a global supplier of telecom equipment. Mr.
Tong's R&D achievements include being the inventor and patent holder of US
Patent Number 6,012,066 (granted by the US Patent and Trademark Office) titled
"Computerized Work Flow System, an Internet-based workflow management system for
automated web creation and process management." Mr. Tong also serves on the
board of advisors of Fortune Telecom (listed on Hong Kong Stock Exchange:
0110.HK), a leading distributor of mobile phones, PDAs, telecom services, and
accessories in China and Hong Kong. Mr. Tong is a frequent speaker on technology
investment in China, and was invited to present at the Fourth APEC International
Finance & Technology Summit in 2001. Mr. Tong is the Vice Chairman (PRC) of Hong
Kong Call Centre Association, a Fellow of Hong Kong Institute of Directors, a
consultant on privatization and securitization for China's State-Owned Assets
Supervision and Administration Commission (SASAC), and a frequent speaker for
LexisNexis, a licensed Continued Professional Development (CPD) trainer, on
China investment. Mr. Tong graduated with Bachelor of Mechanical/Industrial
Engineering Degree from the University of Minnesota and served on the Computer
Engineering Department Advisory Board and was an Adjunct Professor at the
University of Minnesota, USA. Tony Tong is the brother of Victor Tong.
Mr. Victor Tong, age 33, currently is the President, Secretary and an
Executive Director of the Company. Mr. Victor Tong gained his consulting,
systems integration, and technical expertise in client/server systems through
his experience at Andersen Consulting (now Accenture), American Express
Financial Advisors (IDS), 3M, and the Superconductivity Center at the University
of Minnesota. In 1994, Victor co-founded Talent Information Management ("TIM").
The Company was originally founded as an operating division of TIM. As the
managing partner, Mr. Tong sold GoWeb consulting division of TIM to a
billionaire in Minnesota USA in late 1997 and became the President of KeyTech, a
leading information technology consulting company based in Minnesota. In 1999,
he was recognized in "CityBusiness 40 Under 40" as one of the future business
and community leaders in Minnesota. Mr. Tong won the Student Commencement
Speaker Award while graduated with honors with a Bachelor of Science in Physics
from the University of Minnesota. Mr. Tong is a guest professor at College of
Software of Beihang University, one of the top software colleges in China.
Victor Tong is the brother of Tony Tong.
26
Mr. ShaoJian (Sean) Wang, age 39, is the Chief Financial Officer, Vice
President of International Business and is one of our Directors. Mr. Wang has
served on our board of directors since 2002. Mr. Wang is also a Director of
Thian Bing Investments Pte Ltd - a Singapore based investment holding company, a
Director on the board of Alliance PKU Co. Ltd - a company owned and controlled
by Guanghua School of Management, Peking University, a Director of the board of
Portcullis International Group - a Singapore based investment consulting
company, and a Director and Partner of the Overseas Chinese Scholar Fund, a
leading venture capital firm headquartered in Zhongguancun Beijing and
Guangzhou, China. Mr. Wang started his professional career as a Market/Financial
analyst with Ecolab Inc. in 1987, where he moved quickly to become Territory
Manager and Marketing Manager. In 1990, Mr. Wang was posted to Ecolab's Asia
Pacific regional headquarters as its Business Development Manager. In 1992, Mr.
Wang was appointed as Country Manager of Ecolab for Indonesia. Mr. Wang is an
investor and Director in Alliance PKU Co. Ltd., which owns two premier companies
in China. Alliance PKU Consulting is a leading management consulting firm in
China, and Beidabiz & E-learning Co. (a venture of Peking University) is a
well-known online education provider. Mr. Wang also advises some local
governments in China. The Municipal government of Yantai appointed him as the
city's representative for investment. He worked with the Wei Fang government on
setting up the Agricultural Development Park. Mr. Wang attended Peking
University and received his MBA degree at the Carlson School of Management,
University of Minnesota, and a B.S. in Economics at Hemline University.
Mr. Peter Wang, age 50, is a Director. Mr. Wang has served on our board
of directors since 2003. Mr. Wang serves as Chief Executive Officer of China
Quatum Communications Ltd., a privately-held company. Mr. Wang was a founder of
Unitech Telecom (now named UTStarcom, NASDAQ: UTSI). Under his management,
UTStarcom created the first digital loop carrier system and installed the first
PHS (Personal Handyphone System) system in China. As an entrepreneur, he has
successfully co-founded and built other ventures in the US, including World
Communication Group and World PCS, Inc. Before forming his own companies, he
worked at AT&T Bell Labs and Racal-Milgo Information System. With AT&T Bell
Labs, he worked on Network Evolution Planning and representing AT&T Network
System Division served on Network Management Protocol Forum. With Racal-Milgo,
he worked on network management system architecture as a senior engineer. As
part of the technologically trained community in China, he was elected Deputy
Chairman of the Association of Privately Owned High-tech Enterprises in China.
He has been elected president of the first Chinese PACS User and Providers Forum
that promotes the international PCS standard worldwide. He also served on the
boards of directors of many U.S. and Chinese companies, specifically Joray
Enterprises Inc., Phoenix Tech Ltd. and World Communication Group. Mr. Wang has
a BS in Computer Science and a MS in Electrical Engineering from University of
Illinois, as well as an MBA in Marketing from Southeast-Nova University.
27
Mr. Michael Chun Ha, age 34, is a Director. Mr. Ha has served on our
board of directors since 2003. Mr. Ha graduated from the Faculty of Law,
University of Hong Kong in 1994 with a bachelor degree in law and was admitted
as a solicitor of the High Court of the Hong Kong Special Administrative Region
in 1997 and a solicitor of the Supreme Court of England and Wales in 1998. From
1995 to 2002, Mr. Ha worked as a lawyer in a number of prestigious international
and Hong Kong law firms, specializing in the areas of corporate finance,
securities offerings, takeovers, cross-border mergers and acquisitions, venture
capital, corporate restructuring, regulatory and compliance issues, project
finance, and general commercial transactions and services in Hong Kong and the
People's Republic of Hong Kong. In 2002, Mr. Ha commenced his own practice in
the trade name of "Ha and Ho Solicitors". Mr. Ha specializes in the areas of
general commercial transactions, corporate finance and civil and criminal
litigation. Mr. Ha has been the company secretary of Shanxi Central
Pharmaceutical International Company Limited, a Hong Kong main board listed
company, and since 2003 Mr. Ha has been a director of a private investment
company, Metro Concord Investment Limited.
Mr. Jeremy Goodwin, age 31, is a Director. Mr. Goodwin is a Vice
President with Global Capital Group. He began his career in 1995 as an intern at
Mees Pierson Investment Finance S.A. in Geneva, Switzerland where he provided
administrative support to the fund raising/private placement team. Noteworthy
transactions executed by the group included assistance on the placements of the
$1.2 Billion Carlyle Partners II Limited Partnership. In 1997 he went to work
for the then parent institution, ABN Amro, in Beijing, China where he
established the Global Clients desk representing the bank's multinational
clients to sovereign regulatory agencies and local financial institutions while
monitoring their working capital needs. During his time there, the office was
approved by the Central Bank of China to operate as a fully licensed branch.
Noteworthy transactions executed by the group included assistance in the
business development and project management for the Royal Dutch Shell Oil
project and the Beijing Capital International Airport listing on the Hong Kong
Stock Exchange arranged by the Hong Kong office of ABN Amro Rothschild. He also
assisted the Singapore Debt Capital Markets team in the business development
origination of Sovereign Euro Debt Issuances for the Ministry of Finance and the
State Development Bank in Beijing for the People's Republic of China. In 1999,
He went to work for ING Barings in London as an International Associate working
directly for the business manager to the CEO. One of his primary assignments was
in Hong Kong with the ING Beijing Investment arm of Baring Private Equity
Partners, a joint venture with the Beijing Municipal Government established in
1994 at the decree of then Chinese Premier Zhu Rong Ji and widely considered the
first domestic Chinese Private Equity fund. Mr. Goodwin received his BS from
Cornell University in 1996 in conjunction with the Institute of Higher
International Studies in Geneva, Switzerland. He later pursued his advanced
degree with Princeton University with a concentration in Chinese affairs which
he completed at the prestigious Nanjing Chinese Studies Center of the Johns
Hopkins School of Advanced International Studies. Jeremy is fluent in written
and spoken Mandarin Chinese, French and has working knowledge of Dutch.
Mr. Tao Jin, age 37, is a Director. Mr. Jin is a Vice President and
Assistant General Counsel of J.P. Morgan Chase Bank. From 1999 to 2002, Mr. Jin
served as a Senior New York Qualified Lawyer for Sullivan & Cromwell, which
represented China Unicom, PetroChina and China Telecom in their IPO's and dual
listings in New York and Hong Kong. From 1996 to 1999, Mr. Jin served as
Associate Lawyer for Cleary, Gottlieb Steen & Hamilton, which represented
various Fortune 500 companies and investment banks in public and private
securities offerings and M&A activities. Mr. Jin received his Juris Doctor in
1996 with high honors from Columbia University, and received B.S. in Psychology
in 1990 from Beijing University.
AUDIT COMMITTEE OF THE BOARD OF DIRECTORS
The Audit Committee is responsible for nominating the Company's
independent auditors and reviewing any matters that might impact the auditors'
independence from the Company; reviewing plans for audits and related services;
reviewing audit results and financial statements; reviewing with management the
adequacy of the Company's system of internal accounting controls, including
obtaining from independent auditors management letters or summaries on such
internal accounting controls; determining the necessity and overseeing the
effectiveness of the internal audit function; reviewing compliance with the U.S.
Foreign Corrupt Practices Act and the Company's internal policy prohibiting
insider trading in its Common Stock; reviewing compliance with the SEC
requirements for financial reporting and disclosure of auditors' services and
audit committee members and activities; reviewing related-party transactions for
potential conflicts of interest; and reviewing with corporate management and
internal and independent auditors the policies and procedures with respect to
corporate officers' expense accounts and perquisites, including their use of
corporate assets.
28
The board of directors has established an audit committee in accordance
with Section 3(a)(58)(A) of the Securities Exchange Act of 1934, as amended. The
members of the Audit Committee are Messrs. Peter Wang, Michael Chun Ha, Jeremy
Goodwin and Tao Jin, each of whom are considered "independent" under the Nasdaq
SmallCap Market listing standards currently in effect.
The board of directors has determined that each of the members of the
audit committee qualify as an "audit committee financial expert" under the
Securities and Exchange Commission's definition.
EXECUTIVE COMPENSATION
SUMMARY COMPENSATION TABLE
The following table sets forth all cash compensation paid or to be paid
by us, as well as certain other compensation paid or accrued, during each of our
last three fiscal years to each named executive officer.
Annual Compensation Long Term Compensation Awards
----------------------------------- -----------------------------
Name/Principal Fiscal Restricted Stock All Other
Position Year Salary ($) Bonus ($) Other ($) Stock Award ($) Options Comp. ($)
-------------------- ---------- ---------- --------- ---------- ---------------- --------- ------------
Tony Tong, CEO 2003 $100,000 - - - 120,000
2002 $110,000 - - $57,900 206,000 -
2001 $106,226 - $15,384 50,000 $53,333(1)
--------------------
(1) Represents amounts received for life and health insurance coverage.
OPTION GRANTS DURING 2003 FISCAL YEAR
(INDIVIDUAL GRANTS)
PERCENT OF TOTAL
NUMBER OF SECURITIES OPTIONS GRANTED TO
UNDERLYING OPTIONS EMPLOYEES IN FISCAL EXERCISE OR
NAME GRANTED YEAR BASE PRICE EXPIRATION DATE
---------------------- ---------------------- --------------------- -------------- ----------------------
Tony Tong, CEO 70,000 64% $2.20 June 23, 2006
50,000 36% $4.25 November 26, 2006
AGGREGATED OPTION EXERCISES DURING 2003 FISCAL YEAR AND FISCAL YEAR-END OPTION VALUES
NO. OF SECURITIES UNDERLYING VALUE ($) OF UNEXERCISED
UNEXERCISED OPTIONS AT IN-THE MONEY OPTIONS AT
FISCAL YEAR END 12/31/03 FISCAL YEAR END 12/31/03
(#) ($)
----------------------------- -----------------------------
SHARES
ACQUIRED VALUE
ON EXERCISE REALIZED
NAME (#) ($) EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
------------------ ------------- ------------ ----------- ------------- ----------- -------------
Tony Tong, CEO 200,000 $394,000 6,000 120,000 $21,090 $274,300
COMPENSATION OF DIRECTORS
DIRECTORS' FEES. All of the Company's directors are reimbursed for
out-of-pocket expenses relating to attendance at meetings. Each director is paid
a sign-on bonus of 10,000 shares of common stock of the Company. Each director
is also entitled to US$500 for each board meeting that such director attends in
person, by conference call, or by committee action and US$200 for each committee
meeting, payable by cash, common stock or stock options of the Company, at the
option of the Company.
ANNUAL RETAINER FEE. Each director is paid an annual retainer fee of
US$10,000 in the form of common stock or stock option of the Company. Such
retainer fee is paid semi-annually in arrears. The number of shares of common
stock issued is based on the average closing market price over the ten trading
days prior to the end of the six month period that the retainer fee is due.
29
EMPLOYMENT CONTRACTS AND TERMINATION OF EMPLOYMENT, AND CHANGE-IN-CONTROL
On December 30, 2002, we entered into an Executive Employment Contract
with Tony Tong. Mr. Tong currently serves as our Chief Executive Officer. The
employment agreement provides for Mr. Tong to earn an annual base salary of
$100,000 in cash, plus $60,000 in stock compensation annually until April 1,
2005. Mr. Tong is also eligible for an annual bonus for each fiscal year during
the term of his contract based on performance standards as the Board or
compensation committee designates. Mr. Tong is entitled to receive a monthly
housing allowance of $2,500, monthly automobile allowance of $500, tax
preparation expenses of $2,000 per year, and cash bonus based on our net profit.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
On March 28 2002, we completed a $3,480,000 private placement by
issuing 2,400,000 shares of restricted common stock at a price of $1.45 per
share to Sino Mart Management Limited ("Sino Mart"), whose executive director is
the father of our chairman and CEO. In addition, we issued Sino Mart a warrant
to purchase up to an additional 600,000 shares of restricted common stock at
$1.45 per share. The fully exercisable warrant expires on April 25, 2005. The
$3,480,000 private placement transaction was approved at a special stockholder
meeting held on March 25, 2002.
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
30
SECURITY OWNERSHIP OF CERTAIN
BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth as of January 25, 2005, the number of
shares of our common stock beneficially owned by (i) each person who is known by
us to be the beneficial owner of more than five percent of the Company's common
stock; (ii) each director; (iii) each of the named executive officers in the
Summary Compensation Table; and (iv) all directors and executive officers as a
group. Unless otherwise indicated, the stockholders listed in the table have
sole voting and investment power with respect to the shares indicated.
NUMBER OF SHARES % OF COMMON STOCK
NAME AND ADDRESS OF BENEFICIAL OWNER** BENEFICIALLY OWNED(1) BENEFICIALLY OWNED***
-------------------------------------- --------------------- ------------------
Kin Shing Li (2) 1,150,000 12.35%
Rm. 3813, Hong Kong Plaza
188 Connaught Road West, Hong Kong
Sino Mart Management Ltd. (3) 1,880,000 18.96%
c/o ChoSam Tong
16E, Mei On Industrial Bldg.
17 Kung Yip Street, Kwai Chung, NT, Hong Kong
ChoSam Tong (4) 1,943,000 19.58%
16E, Mei On Industrial Bldg.
17 Kung Yip Street, Kwai Chung, NT, Hong Kong
Tony Tong (5) 212,891 2.28%
ShaoJian (Sean) Wang (6) 22,500 *
Victor Tong (7) 57,700 *
Peter Wang (8) 22,500 *
Michael Chun Ha (9) 27,500 *
Jeremy Goodwin 0 N/A
Tao Jin 0 N/A
All directors and officers as a group (7 persons) 343,091 3.65%
* Less than one percent.
** The address for each beneficial owner not otherwise specified is: c/o
PacificNet Inc., 860 Blue Gentian Rd., Suite 360, Eagan, MN 55121. USA.
*** Based on 9,312,609 shares issued and outstanding as of January 25, 2005.
In order to calculate the percentage of common stock beneficially owned
by those beneficial owners who have Currently Exercisable Options, such
person's Currently Exercisable Options must be added to the number of
shares issued and outstanding.
(1) Beneficial ownership is determined in accordance with the rules of the
Securities and Exchange Commission and generally includes voting or
investment power with respect to the shares shown. Except as indicated by
footnote and subject to community property laws where applicable, to our
knowledge, the stockholders named in the table have sole voting and
investment power with respect to all common stock shares shown as
beneficially owned by them. A person is deemed to be the beneficial owner
of securities that can be acquired by such person within 60 days upon the
exercise of options, warrants or convertible securities (in any case, the
"Currently Exercisable Options"). Each beneficial owner's percentage
ownership is determined by assuming that the Currently Exercisable
Options that are held by such person (but not those held by any other
person) have been exercised and converted.
(2) Information obtained from the Schedule 13D/A filed by Mr. Kin Shing Li on
October 14, 2003.
(3) Includes currently exercisable warrants to acquire 600,000 shares of
common stock. The warrants were to be sold pursuant to an agreement,
dated October 6, 2003. The purchaser defaulted in payment of the warrants
and, accordingly, the agreement was terminated and the warrants returned
to Sino Mart Management Ltd. Sino Mart Management Ltd. is owned by Mr.
ChoSam Tong, the father of Messrs. Tony Tong and Victor Tong.
(4) Includes shares of common stock of Sino Mart Management Ltd., which is
owned by Mr. ChoSamTong and Currently Exercisable Options to acquire
10,000 shares of common stock.
(5) Includes Currently Exercisable Options to acquire 22,500 shares of common
stock. Excludes 1,250,000 shares owned by Sino Mart Management Ltd., as
to which shares Mr. Tony Tong disclaims beneficial ownership.
(6) Represents shares issuable upon exercise of Currently Exercisable
Options.
(7) Includes Currently Exercisable Options to acquire 22,500 shares of common
stock. Excludes 1,250,000 shares owned by Sino Mart Management Ltd., as
to which shares Mr. Victor Tong disclaims beneficial ownership.
(8) Represents shares issuable upon exercise of Currently Exercisable
Options.
(9) Includes 22,500 shares issuable upon exercise of Currently Exercisable
Options.
31
SELLING STOCKHOLDERS
CONSULTING AGREEMENT
On June 8, 2004, we entered into a consulting agreement with CEOCast,
Inc., our current investor relations and public relations firm. Pursuant to the
terms of the agreement, part of the compensation to CEOCast consisted of the
issuance of 50,000 shares of our Common Stock. We granted CEOCast piggyback
registration rights with respect to those shares. The following table sets forth
as of January 25,2005, information regarding the current beneficial ownership
of our common stock held by CEOCast, and its beneficial ownership assuming sale
of all of the shares offered hereby. Information as to current ownership is
based upon information provided to us by the selling stockholders, which we have
not independently verified. The selling stockholders are not making any
representation that the shares covered by this prospectus will be offered for
sale.
CEOCast has not held any position nor had any material relationship
with us or our affiliates during the past three years.
Number of
Shares Maximum Shares
Beneficially Number of Beneficially Percentage
Owned Prior to Shares to be Owned After Ownership After
Name of Selling Stockholder Offering Sold Offering Offering
-------------------------------------------- --------------- --------------- --------------- ---------------
CEOCast, Inc. 50,000 50,000 0 0
NOVEMBER PRIVATE PLACEMENT
On November 17, 2004, we completed a private placement in which we sold
an aggregate of 588,410 shares of common stock and issued warrants to purchase
up to an aggregate of 117,682 shares of common stock. Pursuant to the terms of
the securities purchase agreement certain of the investors in the private
placement were granted piggyback registration rights with respect to the shares
issued and shares underlying the warrants. The following table sets forth as of
January 25, 2005, information regarding the current beneficial ownership of our
common stock held by the selling stockholders listed below, and their beneficial
ownership assuming sale of all of the shares offered hereby and the sale of all
shares underlying the warrants. Information as to current ownership is based
upon information provided to us by the selling stockholders, which we have not
independently verified. The selling stockholders are not making any
representation that the shares covered by this prospectus will be offered for
sale.
No selling stockholder listed below has held any position nor had any
material relationship with us or our affiliates during the past three years.
Number of
Shares Maximum Shares
Beneficially Number of Beneficially Percentage
Owned Prior to Shares to be Owned After Ownership After
Name of Selling Stockholder Offering Sold Offering Offering
-------------------------------------------- --------------- --------------- --------------- ---------------
Sino Strategic Investment Limited (1) 385,848 385,848 0 0
Sunshine Ocean Investment Limited (2) 192,924 192,924 0 0
---------------
(1) Includes 64,308 shares of common stock issuable upon exercise of a warrant.
(2) Includes 32,154 shares of common stock issuable upon exercise of a warrant.
32
DECEMBER PRIVATE PLACEMENT
On December 16, 2004, we completed a private placement in which we sold
an aggregate of 1,000,002 shares of common stock and issued warrants to purchase
up to an aggregate of 350,000 shares of common stock to the selling stockholders
listed in the table below. The issuance of the two shares was the result of
rounding of fractional shares. We are filing this registration statement
pursuant to the terms of a registration rights agreement between each investor
and us. We also agreed to bear expenses in connection with the registration and
sale of the shares. See "Plan of Distribution."
The following table sets forth as of January 25, 2005, information
regarding the current beneficial ownership of our common stock by the selling
stockholders and their beneficial ownership assuming sale of all of the shares
of common stock offered hereby. Information as to current ownership is based
upon information provided to us by the selling stockholders, which we have not
independently verified. The selling stockholders are not making any
representation that the shares covered by this prospectus will be offered for
sale.
No selling stockholder listed below has held any position nor had any
material relationship with us or our affiliates during the past three years.
Number of
Shares Maximum Shares
Beneficially Number of Beneficially Percentage
Owned Prior to Shares to be Owned After Ownership After
Name of Selling Stockholder Offering Sold Offering Offering
-------------------------------------------- --------------- --------------- --------------- ---------------
SF Capital Partners Ltd.(1) 135,000 135,000 0 0
Bluegrass Growth Fund LP(2) 45,001 45,001 0 0
Bluegrass Growth Fund Ltd.(3) 45,001 45,001 0 0
Omicron Master Fund(4) 115,720 90,000 25,270 0.24%
Iroquois Capital LP(5) 450,001 450,001 0 0
Smithfield Fiduciary LLC(6) 89,999 89,999 0 0
Portside Growth and Opportunity Fund(7) 90,000 90,000 0 0
Satellite Strategic Finance Associates,
LLC(8) 405,000 405,000 0 0
--------------------
(1) Includes 35,000 shares of common stock issuable upon exercise of a
warrant.
(2) Includes 11,667 shares of common stock issuable upon exercise of a
warrant.
(3) Includes 11,667 shares of common stock issuable upon exercise of a
warrant.
(4) Includes (i) 23,333 shares of common stock issuable upon exercise of a
warrant, and (ii) 25,270 shares of common stock issuable upon exercise of
a warrant that were previously registered.
(5) Includes 116,667 shares of common stock issuable upon exercise of a
warrant.
(6) Includes 23,333 shares of common stock issuable upon exercise of a
warrant.
(7) Includes 23,333 shares of common stock issuable upon exercise of a
warrant.
(8) Includes 105,000 shares of common stock issuable upon exercise of a
warrant.
33
JANUARY PRIVATE PLACEMENT
On January 15, 2004, we completed a private placement (the "January
Private Placement") in which we sold an aggregate of 617,285 shares of common
stock and issued warrants to purchase up to an aggregate of 154,320 shares of
common stock to the selling stockholders listed in the table below. The
registration statement (Registration No. 333-113209) covering the shares and
underlying warrant shares in the January Private Placement was declared
effective on April 30, 2004.
The following table sets forth as of January 25, 2005, information
regarding the current beneficial ownership of our common stock by the selling
stockholders from the January Private Placement and their beneficial ownership
assuming sale of all of the shares of common stock offered hereby. Information
as to current ownership is based upon information provided to us by the selling
stockholders, which we have not independently verified. The selling stockholders
are not making any representation that the shares covered by this prospectus
will be offered for sale.
No selling stockholder has held any position nor had any material
relationship with the Company or its affiliates during the past three years.
Name of Shares Maximum Number Number of Shares Percentage
Selling Stockholder Beneficially Owned of Shares Beneficially Ownership After
------------------- Prior to Offering to be Sold Owned Offering
----------------- -------------- After Offering ----------------
--------------
Whalehaven Fund Limited(1) 5,144 5,144 0 0
Omicron Master Fund(2) 115,720 25,720 90,000 *
Excalibur Limited Partnership(3) 15,432 15,432 0 0
Vertical Ventures LLC(4) 25,720 25,720 0 0
Stonestreet LP(5) 25,720 25,720 0 0
Alpha Capital AG(6) 25,720 25,720 0 0
-----------
* Less than one percent.
(1) Represents shares of common stock issuable upon exercise of a
warrant.
(2) Includes (i) 25,720 shares of common stock issuable upon exercise
of a warrant, and (ii) 90,000 shares currently being registered under this
registration statement.
(3) Represents shares of common stock issuable upon exercise of a
warrant.
(4) Represents shares of common stock issuable upon exercise of a
warrant.
(5) Represents shares of common stock issuable upon exercise of a
warrant.
(6) Represents shares of common stock issuable upon exercise of a
warrant.
34
WARRANTS
In connection with a private placement consummated in March 2002,
PacificNet granted warrants to purchase up to 600,000 shares of Common Stock.
The holder of this warrant, Sino Mart Management Limited ("Sino Mart"), was
granted piggyback registration rights with respect to the underlying shares of
Common Stock. The following table sets forth, as of January 25, 2005,
information regarding the current beneficial ownership of PacificNet's Common
Stock by Sino Mart assuming the sale of all of the underlying shares of Common
Stock. Sino Mart beneficially owns approximately 18.96% of the common stock of
the Company. The sole director, officer and shareholder of Sino Mart is the
father of PacificNet's CEO and President.
Number of Shares
Shares Maximum Number Beneficially Percentage
Name of Beneficially Owned of Shares Owned Ownership After
Selling Stockholder Prior to Offering to be Sold After Offering Offering
------------------- ----------------- -------------- -------------- ----------------
Sino Mart Management Limited 1,880,000 600,000 1,280,000 12.91%
35
DESCRIPTION OF SECURITIES
Our current authorized capital stock consists of 125,000,000 shares of
common stock, par value $.0001 per share, of which 9,312,609 shares were issued
and outstanding as of January 25, 2005, and 5,000,000 shares of preferred
stock, par value $.0001 per share, none of which were issued and outstanding as
of January 25, 2005.
COMMON STOCK
The holders of common stock are entitled to one vote for each share
held of record on all matters to be voted on by the stockholders. The holders of
common stock are entitled to receive dividends ratably when, as and if declared
by the board of directors out of funds legally available therefore. In the event
of our liquidation, dissolution or winding up, the holders of common stock are
entitled to share equally and ratably in all assets remaining available for
distribution after payment of liabilities and after provision is made for each
class of stock, if any, having preference over the common stock.
The holders of common stock, as such, have no conversion, preemptive,
or other subscription rights and there are no redemption provisions applicable
to the common stock. All of the outstanding shares of common stock are validly
issued, fully-paid and nonassessable.
PREFERRED STOCK
Under our Restated Certificate of Incorporation, as amended, the Board
of Directors is authorized, subject to any limitations prescribed by the laws of
the State of Delaware, but without any further action by our stockholders, to
provide for the issuance of up to 5,000,000 shares of preferred stock in one or
more series, to establish from time to time the number of shares to be included
in such series, to fix the designations, powers, preferences and rights of the
shares of each such series and any qualifications, limitations or restrictions
thereof, and to increase or decrease the number of shares of any such series
(but not below the number of shares of such series then outstanding) without any
further vote or action by the stockholders. The board of directors may authorize
and issue preferred stock with voting or conversion rights that could adversely
affect the voting power or other rights of the holders of common stock.
36
PLAN OF DISTRIBUTION
We are registering the common stock on behalf of the above selling
stockholders. As used in this prospectus, the term "selling stockholders"
includes pledgees, transferees or other successors-in-interest selling shares
received from the selling stockholders as pledgors, assignees, borrowers or in
connection with other non-sale-related transfers after the date of this
prospectus. This prospectus may also be used by transferees of the selling
stockholders, including broker-dealers or other transferees who borrow or
purchase the shares to settle or close out short sales of shares of common
stock. The selling stockholders will act independently of us in making decisions
with respect to the timing, manner and size of each sale or non-sale related
transfer. We will not receive any of the proceeds of such sales by the selling
stockholders.
The common stock may be sold by the selling stockholders from time to
time in one or more transactions at or on any stock exchange, market or trading
facility on which shares are traded or in private transactions. The sales may be
made at fixed prices or at negotiated prices. The sale of the common stock may
be affected by means of one or more of the following transactions (which may
involve cross or block transactions):
o ordinary brokerage transactions and transactions in which the
broker-dealer solicits purchasers;
o block trades in which the broker-dealer will attempt to sell
the shares as agent but may position and resell a portion of
the block as principal to facilitate the transaction;
o purchases by a broker-dealer as principal and resale by the
broker-dealer for its account;
o an exchange distribution in accordance with the rules of the
applicable exchange;
o privately negotiated transactions;
o settlement of short sales;
o broker-dealers may agree with the Selling Stockholders to sell
a specified number of such shares at a stipulated price per
share;
o a combination of any such methods of sale;
o through the writing or settlement of options or other hedging
transactions, whether through an options exchange or
otherwise; or
o any other method permitted pursuant to applicable law.
The selling stockholders may also sell shares under Rule 144 of the
Securities Act, if available, rather than under this prospectus. To the extent
required, this prospectus may be amended and supplemented from time to time to
describe a specific plan of distribution.
Broker-dealers engaged by the selling stockholders may arrange for
other broker-dealers to participate in sales. Broker-dealers may receive
commissions or discounts from the selling stockholders (or, if any broker-dealer
acts as agent for the purchase of shares, from the purchaser) in amounts to be
negotiated. The selling stockholders do not expect these commissions and
discounts to exceed what is customary in the types of transactions involved.
In connection with the sale of the common stock or interests therein,
the selling stockholders may enter into hedging transactions with broker/dealers
of other financial institutions, which may in turn engage in short sales of the
common stock in the course of hedging the positions they assume. The selling
stockholders may also sell shares of our common stock short and deliver these
shares to close out such short positions, or loan or pledge common stock to
broker/dealers that in turn may sell such securities. The selling stockholders
may also enter into option or other transactions with broker-dealers, or other
financial institutions for the creation of one or more derivative securities,
which require the delivery to such broker-dealer or other financial institution
of shares offered by this prospectus, which shares such broker-dealer or other
financial institution may resell pursuant to this prospectus (as supplemented or
amended to reflect such transaction.)
37
The selling stockholders and any broker-dealers or agents that are
involved in selling the shares may be deemed to be "underwriters" within the
meaning of the Securities Act of 1933, as amended (the "Securities Act") and any
profit on the sale of such securities and any discounts, commissions,
concessions or other compensation received by any such underwriter,
broker/dealer or agent may be deemed to be underwriting discounts and
commissions under the Securities Exchange Act of 1934, as amended (the "Exchange
Act"). The selling stockholders have informed us that they do not have any
agreement or understanding, directly or indirectly, with any person to
distribute the common stock.
Pursuant to the registration rights agreement with the selling
stockholders, all fees and expenses incurred by us incident to the registration
of the common stock will be paid by us, including, without limitation, SEC
filing fees. The selling stockholders will be indemnified by us against certain
losses, claims, damages and liabilities, including certain liabilities under the
Securities Act. We will be indemnified by the selling stockholders severally
against certain civil liabilities, including certain liabilities under the
Securities Act, or will be entitled to contribution in connection therewith.
The selling stockholders will be subject to applicable provisions of
the Exchange Act and the rules and regulations thereunder, which provisions may
limit the timing of purchases and sales of any of the common stock by the
selling stockholders. The foregoing may affect the marketability of such
securities.
To comply with the securities laws of certain jurisdictions, if
applicable, the common stock will be offered or sold in such jurisdictions only
through registered or licensed brokers or dealers.
DISCLOSURE OF COMMISSION POSITION
ON INDEMNIFICATION FOR SECURITIES ACT LIABILITIES
Section 145 of the Delaware General Corporation Law allows companies to
indemnify their directors and officers against expenses, judgments, fines and
amounts paid in settlement under the conditions and limitations described in the
law.
Insofar as indemnification for liabilities arising under the Securities
Act may be permitted to directors, officers or persons controlling the
Registrant, pursuant to the foregoing provisions, or otherwise the Company has
been advised that in the opinion of the Commission, such indemnification is
against public policy as expressed in the Securities Act, and is, therefore,
unenforceable.
LEGAL MATTERS
The validity of the securities offered hereby has been passed upon for
us by Loeb & Loeb LLP, New York, New York.
EXPERTS
Our audited financial statements for the periods ended December 31,
2003 and 2002, have been included in this prospectus in reliance upon the report
of Clancy and Co., P.L.L.C. independent auditors, appearing in this registration
statement, and their authority as experts in accounting and auditing.
WHERE YOU CAN FIND MORE INFORMATION
We file all documents required to be filed pursuant to Sections 13(a),
13(c), 14 or 15(d) of the Exchange Act with the SEC through the Electronic Data
Gathering, Analysis and Retrieval system (EDGAR), and is publicly available
through the SEC's website located at http://www.sec.gov.. This Amendment on Form
SB-2, including all exhibits and schedules and amendments, has been filed with
the SEC through EDGAR. You may also inspect this Amendment on Form SB-2,
including all exhibits, without charge at the SEC's Public Reference Room at 450
Fifth Street, N.W., Washington, D.C. 20549. You may obtain copies of these
materials from the SEC's Public Reference Room at 450 Fifth Street, N.W., Room
1024, Washington D.C. 20549, upon the payment of prescribed fees. You may obtain
information on the operation of the Public Reference Room by calling the SEC at
1-800-SEC-0330.
38
PACIFICNET INC. FINANCIAL STATEMENTS
Interim Financial Statements as of September 30, 2004 Q-3 to Q-21
Audited Financial Statements as of December 31, 2003 and 2002 F-1 to F-21
Q-1
INDEX TO INTERIM FINANCIAL STATEMENTS (UNAUDITED)
Unaudited Condensed Consolidated Balance Sheets
As Of September 30, 2004 And December 31, 2003 Q-3
Unaudited Condensed Consolidated Statements
Of Operations For The Nine Month Periods Ended
September 30, 2004 And 2003 Q-5
Unaudited Condensed Consolidated Statements Of
Cash Flows For The Nine Month Periods Ended
September 30, 2004 And 2003 Q-6
Notes To Condensed Consolidated Financial Statements Q-7 - Q-11
Q-2
PACIFICNET INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands of United States dollars, except par values and share numbers)
SEPTEMBER 30, DECEMBER 31,
2004 2003
---------------- ----------------
(AUDITED)
ASSETS
Current Assets:
Cash and cash equivalents $ 1,322 $ 2,900
Restricted cash - pledged bank deposits 1,993 1,135
Accounts Receivables (net of allowance for doubtful accounts of $0
as of September 30, 2004 and $0 as of December 31, 2003) 4,442 1,890
Inventories 1,313 76
Other Current Assets 1,082 286
---------------- ----------------
Total Current Assets 10,152 6,287
Property and Equipment, net 1,369 466
Goodwill 7,515 420
Investment - at equity 523 --
---------------- ----------------
TOTAL ASSETS $ 19,559 $ 7,173
================ ================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Bank Line of Credit $ 1,277 $ 1,199
Bank Loans - current portion 1,396 1,405
Capital Lease Obligations - current portion 81 152
Accounts Payable 960 1,007
Accrued Expenses 1,948 360
Subscription Payable -- 722
---------------- ----------------
Total Current Liabilities 5,662 4,845
---------------- ----------------
Long-term liabilities:
Bank Loans - non current portion 92 377
Capital Lease Obligations - non current portion 89 149
Shareholders' Loan 115 --
---------------- ----------------
Total Long-Term Liabilities 296 526
---------------- ----------------
Minority Interest in Consolidated Subsidiaries 1,507 (110)
Commitments and Contingencies
Stockholders' Equity:
Preferred stock, par value $0.0001, Authorized - 5,000,000
shares Issued and outstanding - none -- --
Common Stock, par value $0.0001, Authorized - 125,000,000 shares
Issued and outstanding:
September 30, 2004 - 8,370,762 issued; 7,284,608 outstanding
December 31, 2003 - 6,163,977 issued; 5,363,977 outstanding 1 1
Q-3
Treasury Stock, at cost
September 30, 2004 - 836,154 shares;
December 31, 2003 - 800,000 shares (104) (5)
Additional Paid-In Capital 41,743 31,790
Cumulative Other Comprehensive Loss (24) (24)
Accumulated Deficit (29,522) (29,850)
---------------- ----------------
Total Stockholders' Equity 12,094 1,912
---------------- ----------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 19,559 $ 7,173
================ ================
Q-4
PACIFICNET INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED. IN THOUSANDS OF UNITED STATES DOLLARS, EXCEPT PROFIT/(LOSS) PER SHARE AND SHARE AMOUNTS)
THREE MONTHS NINE MONTHS
ENDED SEPTEMBER 30, ENDED SEPTEMBER 30,
2004 2003 2004 2003
------------- ------------- ------------- -------------
Revenues $ 8,054 $ 124 $ 19,640 $ 344
------------- ------------- ------------- -------------
Cost of Revenues (6,682) (95) (15,724) (178)
------------- ------------- ------------- -------------
Gross Margin 1,372 29 3,916 166
Selling, General and Administrative expenses (835) (273) (2,487) (1,013)
Depreciation and amortization (74) -- (214) (3)
Provision for written off of fixed assets -- -- -- (91)
------------- ------------- ------------- -------------
PROFIT/(LOSS) FROM OPERATIONS 463 (244) 1,215 (941)
Interest Income 6 8 16 23
Sundry income 72 46 136 46
Equity earnings in undistributed earnings of
investee company 6 -- 23 --
------------- ------------- ------------- -------------
PROFIT/(LOSS) BEFORE INCOME TAXES, MINORITY
INTEREST AND DISCONTINUED OPERATIONS 547 (190) 1,390 (872)
Provision for income taxes -- -- -- --
Minority Interest (411) 4 (1,062) 25
------------- ------------- ------------- -------------
PROFIT/(LOSS) BEFORE DISCONTINUED OPERATIONS 136 (186) 328 (847)
------------- ------------- ------------- -------------
LOSS FROM DISCONTINUED OPERATIONS -- -- -- (185)
NET PROFIT/(LOSS) AVAILABLE TO COMMON STOCKHOLDERS $ 136 $ (186) $ 328 $ (1,032)
============= ============= ============= =============
BASIC AND DILUTED PROFIT/(LOSS) PER COMMON SHARE:
Profit/(Loss) from continuing operations $ 0.02 $ (0.03) $ 0.05 $ (0.16)
Profit/(Loss) from discontinued operations $ -- $ -- $ -- $ (0.04)
------------- ------------- ------------- -------------
Net Profit/(Loss) $ 0.02 $ (0.03) $ 0.05 $ (0.20)
============= ============= ============= =============
Q-5
PACIFICNET INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands of United States dollars, except loss per share and share amounts)
NINE MONTHS ENDED
SEPTEMBER 30,
2004 2003
---------------- ----------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net profit/(loss) $ 328 $ (1,032)
Adjustment to reconcile net profit/(loss) to net cash used in operating
activities:
Expenses settled by issuance of warrants -- 15
Expenses settled by issuance of common shares -- 42
Equity earnings of investee company (23) --
Provision for written off of fixed assets -- 91
Loss from discontinued operations -- 185
Minority Interest 1,622 (25)
Depreciation and amortization 214 3
Accounts receivable and other current assets (2,386) 226
Inventories (1,237) --
Accounts payable and accrued expenses 611 (158)
---------------- ----------------
Net cash used in operating activities (871) (653)
---------------- ----------------
CASH FLOWS FROM INVESTMENT ACTIVITIES
Restricted cash-pledged bank deposits (858) --
Acquisition of property and equipment (1,039) --
Acquisition of subsidiaries (1,302) --
Acquisition of investee company (385) --
---------------- ----------------
Net cash used in investing activities (3,584) --
---------------- ----------------
CASH FLOWS PROVIDED BY FINANCING ACTIVITIES:
(Repayments)/advances under bank line of credit (50) 367
Repayment of amount borrowed under bank loans and capital
lease obligations (2,415) --
Proceeds from sale of common stock 2,813 --
Post acquisition of share capital - subsidiaries 564 --
Repurchase of treasury shares (99) --
Proceeds from exercise of stock options 74 418
Advances under bank loans 1,990 --
---------------- ----------------
Net cash provided by financing activities 2,877 785
---------------- ----------------
NET(DECREASE)/INCREASE IN CASH AND CASH EQUIVALENTS (1,578) 132
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 2,900 3,694
---------------- ----------------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 1,322 $ 3,826
================ ================
Q-6
CASH PAID FOR:
Interest $ 162 $ 30
Income taxes -- --
NONCASH INVESTING AND FINANCING ACTIVITIES:
Investment in subsidiaries acquired through issuance of common stock $ 6,500 $ --
Common stock issued to satisfy certain liabilities and to settle expenses $ -- $ 57
Common stock issued as a result of exercise of stock options $ 2 $ --
Q-7
PACIFICNET INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts expressed in United States dollars unless otherwise stated)
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been prepared
in accordance with accounting principles generally accepted in the United States
of America for interim financial information and with the instructions to Form
10-QSB. Accordingly, they do not include all the information and footnotes
required by accounting principles generally accepted in the United States of
America for complete financial statements. In the opinion of management, all
adjustments (which include only normal recurring adjustments) necessary to
present fairly the financial position, results of operations and cash flows for
all periods presented have been made.
Preparing financial statements requires management to make estimates and
assumptions that affect the reported amounts of assets, liabilities, revenue,
and expenses. Examples include provisions for returns and impairment losses,
accounting for income taxes, bad debts, and property, plant and equipment lives
for depreciation purposes. Actual results may differ from these estimates. The
results of operations for the nine-month period ended September 30, 2004 are not
necessarily indicative of the operating results that may be expected for the
entire year ending December 31, 2004. These financial statements should be read
in conjunction with the Management's Discussion and Analysis and financial
statements and notes thereto included in the Company's financial statements and
accompanying notes thereto as of and for the year ended December 31, 2003, filed
with the Company's Annual Report on Form 10-KSB.
Certain figures from prior periods have been reclassified to conform to the
current period's presentation.
2. EARNINGS (LOSS) PER SHARE
Basic earnings (loss) per share are based on the weighted average number of
shares of common stock outstanding. Diluted earnings or loss per share is based
on the weighted average number of shares of common stock outstanding and
dilutive common stock equivalents. All earnings per share amounts in these
financial statements are basic earnings (loss) per share as defined by SFAS No.
128, "Earnings Per Share." Diluted weighted average shares outstanding for both
periods in 2003 exclude the potential issuances of common stock upon exercise of
options and warrants because to do so would be antidilutive. Total potential
common shares not included in the computation of dilutive EPS for both periods
in 2004 was 154,320 warrants to purchase common stock because their impact would
be antidilutive based on current market prices.
The computation of basic and diluted profit/(loss) per share is as follows:
(IN THOUSANDS OF UNITED STATES DOLLARS, EXCEPT WEIGHTED SHARES AND PER SHARE AMOUNTS)
THREE MONTHS ENDED NINE MONTHS ENDED
----------------------------- -----------------------------
SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30,
2004 2003 2004 2003
------------ ------------ ------------ ------------
Numerator-net profit /(loss) $ 136 $ (186) $ 328 $ (1,032)
============ ============ ============ ============
Denominator:
Weighted average number of shares used in
computed basic EPS 7,284,615 5,348,572 6,960,854 5,170,079
Net effect of dilutive common shares
517,892 -- 627,365 --
------------ ------------ ------------ ------------
Weighted average shares used in computed
diluted EPS
7,802,507 5,348,572 7,588,219 5,170,079
============ ============ ============ ============
Basic profit/(loss) per share $ 0.02 $ (0.03) $ 0.05 $ (0.20)
Diluted profit/(loss) per share $ 0.02 $ (0.03) $ 0.04 $ (0.20)
Q-8
3. BUSINESS ACQUISITIONS
SMARTIME HOLDINGS LIMITED
-------------------------
On September 15, 2004, the Company, through its subsidiary PacificNet Strategic
Investment Holdings Limited, consummated the acquisition of a 81% controlling
interest (the "Acquisition") in Smartime Holdings Limited, a corporation
incorporated in Hong Kong SAR ("Smartime"). Smartime is engaged in the business
of providing software customization and localization, outsourcing, third-party
alliance and hardware and software distribution to the banking, postal and
telecommunications industries in Hong Kong and China.
The Company acquired the controlling interest in Smartime through the purchase
of 630 shares (the "Shares") of Smartime Holdings Limited("Smartime"). The
consideration for the Acquisition was payable as follows:
(i) USD$500,000, payable in shares of common stock of the Company (the "Common
Stock"), equivalent to 100,000 restricted shares (the "Shares") of Common Stock,
based on a fair market value of $5.00, deliverable within 30 days of signing the
Agreement. All of the Shares deliverable to the Shareholders are being held in
escrow pursuant to the terms of an escrow agreement, which provides that the
Common Stock will be released in installments over the twelve month period
ending on September 30, 2005; provided, that Smartime meets certain net income
milestones during such period. If at the end of the second twelve month period
ending on September 30, 2006, there is a shortfall in Smartime's net income, the
Shareholders shall return to the Company Shares equivalent to the dollar amount
of such shortfall divided by $5.00; and
(ii) warrants to purchase up to 50,000 shares of Common Stock at an exercise
price equal to the 5 day volume weighted average price of the Common Stock
before the signing of the Agreement. The warrants are exercisable for a period
of 3 years from the date of issuance.
GUANGZHOU YUESHEN TAIYANG TECHNOLOGY LIMITED
--------------------------------------------
On April 12, 2004, the Company, through its subsidiary PacificNet Strategic
Investment Holdings Limited, consummated the acquisition of a 51% controlling
interest (the "Acquisition") in Guangzhou YueShen TaiYang Technology Limited, a
newly formed company incorporated in the People's Republic of China ("YueShen").
YueShen is engaged in the business of distributing telecom services, including
calling cards, mobile SIM cards, prepaid stored-value cards, VoIP, IDD calling
cards, bundled insurance cards and customer loyalty membership cards in China.
The Company acquired the controlling interest in YueShen through the purchase of
85 shares (representing 100% of the issued and outstanding shares, the "Shanghai
Shares") of Shanghai Classic Group Limited, the beneficial owner of the 51%
controlling interest in YueShen. The consideration for the Acquisition was an
aggregate value of approximately USD$1,196,143, which was paid in cash and
shares of common stock of the Company (the "Common Stock"), and a warrant to
purchase up to 50,000 shares of Common Stock. The consideration was paid as
follows:
(i) approximately USD$616,195 by delivery of 106,240 shares of Common Stock as
consideration for the purchase of 51 of the Shanghai Shares from Yan Kuan Li
("Ms. Li") within thirty (30) days of the signing of the agreement for the
Acquisition. All of the Common Stock deliverable to Ms. Li is being held in
escrow pursuant to the terms of an escrow agreement, which provides that the
Common Stock will be released in installments over the twelve month period
following the consummation of the Acquisition, provided, that YueShen attains
certain net income milestones during such period. In the event there is a
shortfall in the net income during the period Ms. Li shall return to the Company
shares of Common Stock equivalent to the dollar amount of such shortfall divided
by $5.80; and
(ii) approximately USD$338,303 in cash as consideration for the purchase of 34
of the Shanghai Shares from Avatar Trading, Ltd. ("Avatar") within thirty (30)
days of the closing of the Acquisition; and
(iii) approximately USD$241,645 in cash directly to YueShen within thirty (30)
days of the closing of the Acquisition, as consideration for the purchase of the
YueShen shares by Shanghai.
The cash portion of the purchase price for the Acquisition was from working
capital of the Company.
Q-9
CHEER ERA LIMITED
-----------------
On April 7, 2004, the Company, through its subsidiary PacificNet Strategic
Investment Holdings Limited, consummated the acquisition of 300 shares (the
"Shares"), representing 30% of the issued and outstanding shares of Cheer Era
Limited, a newly formed company incorporated in Hong Kong SAR ("Cheer Era").
Cheer Era is engaged in the business of designing, developing and manufacturing
multimedia entertainment and communication kiosk products, including photo and
video entertainment kiosks, digital camera photo development stations, MMS,
ring-tone and mobile content download, payment and delivery stations for mobile
phones, and other coin-operated kiosks and kiosk consumables. The consideration
for the Shares was an aggregate value of approximately USD$1,156,812, which was
paid in cash and shares of Common Stock, and a warrant to purchase up to 80,000
shares of Common Stock. The consideration was paid as follows:
(i) approximately USD$771,208 by delivery of 149,459 shares of Common Stock as
consideration for the purchase of 100 of the Shares from Apex Legend Limited, a
company incorporated in the British Virgin Islands ("Apex") within thirty (30)
days of the signing of the agreement for the purchase of the Shares. All of the
Common Stock deliverable to Apex is being held in escrow pursuant to the terms
of an escrow agreement, which provides that the Common Stock will be released in
installments over the twelve month period following the consummation of the
purchase and sale of the Shares, provided, that Cheer Era attains certain net
income milestones during such period. In the event there is a shortfall in the
net income during the period, Apex shall return to the Company shares of the
Common Stock equivalent to the dollar amount of such shortfall divided by $6.00;
and
(ii) approximately USD$385,604 in cash directly to Cheer Era within thirty (30)
days of the closing of the purchase and sale of the Shares for the Company's
subscription to purchase 200 of the Shares. The cash used to pay for the Shares
was from working capital of the Company.
4. JOINT VENTURE OPERATIONS
The Company ceased its participation with International Elite Limited (IEL) in
the joint venture company, PacificNet Communications Limited - Macao Commercial
Offshore (the "Joint Venture"). Pursuant to the terms of the Equity Joint
Venture Agreement, signed on December 21, 2002, the Company was required to
obtain the requisite regulatory and shareholder approval to issue 34 million
shares of the Company's common stock in connection with the Joint Venture
transaction. The Company did not receive the necessary regulatory and
shareholder approval to issue the shares. Since the Company was unable to obtain
the appropriate approvals, the board of directors of the Company determined that
it was in the best interest of the Company to terminate its interest in the
Joint Venture. Since the Company did not obtain regulatory and shareholder
approval of the joint venture transaction and the Company does not control the
operating and financing decisions of the joint venture, the Company does not
consolidate the assets, liabilities, revenues and expenses of the joint venture.
The original 800,000 deposit shares held in escrow were canceled and returned to
the Company's treasury. The termination agreement was signed on March 30, 2004.
As such, the results of operations for the nine months ended September 30, 2003,
do not include the activity for the joint venture as previously reported in its
September 30, 2003 quarterly filing.
5. STOCKHOLDERS' EQUITY
Common stock issued.
For the nine month period ended September 30, 2004, the Company issued (i)
1,300,000 shares with total consideration of $6,500,000 to acquire subsidiaries
representing (a)100,000 deposit shares of common stock plus 400,000 shares as a
result of achievement of certain earnings criteria to Epro; b) 350,000 deposit
shares of common stock plus 450,000 shares as a result of achievement of certain
earnings criteria to Linkhead; (ii) 617,285 shares with cash consideration of
$3,000,000 pursuant to a private placement, including warrants to purchase up to
an aggregate of 154,320 common shares of the Company issued to a group of
institutional investors; (iii) 39,500 shares as a result of exercise of stock
options with cash consideration of $74,000 and noncash consideration of
$2,000;(iv) post-acquisition of share capital from subsidiaries of $564,000; and
(v)reduced by repurchase of 28,344 shares with cash consideration of $99,000 by
the Company.
Q-10
COMMON STOCK REPURCHASE PROGRAM.
--------------------------------
The Company's Board of Directors has approved a Corporate Stock Repurchase
Program to purchase up to US$800,000 worth of outstanding shares of its common
stock in open market transactions, from time to time, in compliance with Rule
10b-18 of the Securities Exchange Act of 1934 and all other applicable
securities regulations. The purpose of the repurchase program is to enhance
shareholder value. During the nine months ended September 30, 2004, the Company
repurchased 28,344 shares at an average price of $3.47 per share for
approximately $99,000.
6. STOCK-BASED COMPENSATION
Stock options.
During the three month period ended September 30, 2003, no stock options were
granted.
During the three month period ended September 30, 2004, the Company granted
600,000 stock options to purchase the Company's common stock at $2.00 per share,
which expire on June 23, 2006. No options were granted during the first and
second quarters of 2004. During the three months period ended September 30,
2004, 400,000 stock options were canceled or forfeited, and no options were
exercised. As of September 30, 2004, there were 1,086,100 stock options
outstanding and 394,850 options exercisable. The weighted average exercise price
of the options outstanding and exercisable is $2.05 and $2.08, respectively, and
the weighted average remaining contractual life is 1.64 and 1.45 years,
respectively.
The Company accounts for stock-based compensation using the intrinsic value
method prescribed by Accounting Principles Board Opinion No. 25, "Accounting for
Stock Issued to Employees," under which no compensation cost for stock options
is recognized for stock option awards granted at or above fair market value. Had
compensation expense for the Company's stock-based compensation plans been
determined under FASB No. 123, based on the fair market value at the grant
dates, the Company's pro forma net loss and pro forma net loss per share would
have been reflected as follows at September 30:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30,
2004 2003 2004 2003
--------------- -------------- -------------- --------------
Net profit (loss)
As reported $ 136 $ (186) $ 328 $ (1,032)
Stock-based employee
compensation cost,
net of tax (397) -- (397) (1,133)
-------------- -------------- -------------- --------------
Pro forma $ (261) $ (186) $ (69) $ (2,165)
============== ============== ============== ==============
Profit (loss) per share
Basic
As reported $ 0.02 $ (0.03) $ 0.05 $ (0.20)
============== ============== ============== ==============
Pro forma $ (0.04) $ (0.03) $ (0.01) $ (0.42)
============== ============== ============== ==============
Diluted
As reported $ 0.02 $ (0.03) $ 0.04 $ (0.20)
============== ============== ============== ==============
Pro forma $ (0.03) $ (0.03) $ (0.01) $ (0.42)
============== ============== ============== ==============
Q-11
The fair value of options granted during the three months period ended September
30, 2004, was $1.89 and was estimated on the date of grant using the
Black-Scholes option pricing model with the following weighted-average
assumptions: dividend yield of 0%, expected volatility of 57%, risk-free
interest rate of 2.25%, and an expected life of 2 years.
The fair values of options granted during the three and nine months period ended
September 30, 2003, were $1.62 and $2.04, respectively, and were estimated on
the date of grant using the Black-Scholes option pricing model with the
following weighted-average assumptions: dividend yield of 0%, expected
volatility of 266%, risk-free interest rate of 2.5%, and an expected life of 3
years.
WARRANTS.
During the three months period ended September 30, 2003, no warrants were
granted to purchase the Company's common stock. 154,320 warrants were granted at
$7.15 per share during the second quarter of 2004, and no warrants were
exercised, canceled or forfeited. As of September 30, 2004, there were 954,320
warrants outstanding. The weighted average exercise price of the warrants
outstanding is $2.43 and the weighted average remaining contractual life is 1.32
years.
7. SEGMENT INFORMATION
The Company's reportable segments are operating units, which represent the
operations of the Company's significant subsidiaries. The significant accounting
policies of the Company's subsidiaries are the same as those of the Company. No
information has been presented for the comparative prior period as the
acquisitions of the Company's current significant subsidiaries had not occurred
as of those dates. The operations for the nine months ended September 30, 2003
primarily represent the operations of our subsidiary PacificNet Solutions
Limited. ("PacSo"), which specializes in systems integration, software
application, and e-business solutions services in Hong Kong and Greater China.
Summarized financial information concerning the Company's reportable segments is
shown in the following table. The "Other" column includes the Company's other
insignificant subsidiaries and corporate related items, and, as it relates to
segment profit (loss), income and expense not allocated to reportable segments
(in thousands).
FOR THE NINE MONTHS
ENDED SEPTEMBER 30, 2004 LINKHEAD EPRO YUESHEN SMARTIME OTHER TOTAL
------------------------ -------- ---- ------- -------- ----- -----
Revenues $ 4,270 $ 6,706 $ 7,793 $ 141 $ 730 $19,640
Operating gain/(loss) $ 1,133 $ 729 $ 100 $ 14 $ (586) $ 1,390
Total assets $ 3,252 $ 3,713 $ 273 $ 1,032 $11,289 $19,559
FOR THE THREE MONTHS
ENDED SEPTEMBER 30, 2004 LINKHEAD EPRO YUESHEN SMARTIME OTHER TOTAL
------------------------ -------- ---- ------- -------- ----- -----
Revenues $ 1,489 $ 2,404 $ 3,988 $ 141 $ 32 $ 8,054
Operating gain/(loss) $ 380 $ 278 $ 48 $ 14 $ (173) $ 547
Total assets $ 3,252 $ 3,713 $ 273 $ 1,032 $11,289 $19,559
Q-12
INDEX TO ANNUAL FINANCIAL STATEMENTS (AUDITED)
Report of Independent Public Accountants F-2
Consolidated Balance Sheets - As of December 31, 2003 and 2002 F-3
Consolidated Statements of Operations - For the Years Ended
December 31, 2003 and December 31, 2002 F-4
Consolidated Statements of Changes in Stockholders' Equity
- For the Years Ended December 31, 2003 and December 31, 2002 F-5
Consolidated Statements of Cash Flows - For the Years Ended
December 31, 2003 and December 31, 2002 F-6
Notes to Consolidated Financial Statements F-7 - F-21
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of PacificNet Inc.:
We have audited the accompanying consolidated balance sheets of PacificNet Inc.
(a Delaware Corporation) and Subsidiaries as of December 31, 2003 and 2002, and
the related consolidated statements of operations, changes in stockholders'
equity and cash flows for the years then ended. These financial statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the consolidated
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the consolidated financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by management, as well
as evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of PacificNet Inc. and
Subsidiaries as of December 31, 2003 and 2002, and the results of their
consolidated operations and cash flows for the years then ended in conformity
with accounting principles generally accepted in the United States of America.
/s/ CLANCY AND CO, P.L.L.C.
Phoenix, Arizona
March 30, 2004
F-2
PACIFICNET INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands of United States dollars, except par values and share numbers)
DECEMBER 31, 2003 DECEMBER 31, 2002
-------------------- --------------------
ASSETS
Current Assets:
Cash and cash equivalents $ 2,900 $ 3,694
Restricted cash - pledged bank deposits (Notes 7 and 8) 1,135 --
Accounts Receivables (net of allowance for doubtful accounts of $0 as 1,890 220
of December 31, 2003 and $255 as of December 31, 2002)
Inventories (Note 3) 76 --
Other Current Assets 286 97
-------------------- --------------------
Total Current Assets 6,287 4,011
Property and Equipment, net (Note 6) 466 284
Goodwill (Note 5) 420 19
-------------------- --------------------
TOTAL ASSETS $ 7,173 $ 4,314
-------------------- --------------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Bank Line of Credit (Note 7) $ 1,199 $ 565
Bank Loans-current portion (Note 8) 1,405 --
Capital Lease Obligations - current portion (Note 9) 152 --
Accounts Payable 1,007 224
Accrued Expenses 360 141
Subscription Payable (Note 10) 722 --
-------------------- --------------------
Total Current Liabilities 4,845 930
-------------------- --------------------
Long-term liabilities:
Bank Loans - non current portion (Note 8) 377 --
Capital Lease Obligations - non current portion (Note 9) 149 --
-------------------- --------------------
Total Long-Term Liabilities 526 --
-------------------- --------------------
Total Liabilities 5,371 930
Minority Interest in Consolidated Subsidiary (110) 131
Commitments and Contingencies (Note 7)
Stockholders' Equity:
Preferred stock, par value $0.0001, Authorized - 5,000,000 shares
Issued and outstanding - none -- --
Common Stock, par value $0.0001, Authorized - 125,000,000 shares Issued and
outstanding:
December 31, 2003 - 6,163,977 issued; 5,363,977 outstanding
December 31, 2002 - 4,907,252 shares 1 1
Treasury Stock, at cost (800,000 shares) (5) (5)
Additional Paid-In Capital 31,790 31,253
Cumulative Other Comprehensive Loss (24) (24)
Accumulated Deficit (29,850) (27,972)
-------------------- --------------------
Total Stockholders' Equity 1,912 3,253
-------------------- --------------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 7,173 $ 4,314
-------------------- --------------------
The accompanying notes are an integral part of these consolidated financial statements.
F-3
PACIFICNET INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands of United States dollars, except loss per share and share amounts)
YEAR ENDED DECEMBER 31: 2003 2002
------------ ------------
Revenues $ 1,217 $ 2,319
------------ ------------
Cost of Revenues (698) (1,787)
------------ ------------
Gross Margin 519 532
Selling, General and Administrative expenses (2,758) (2,912)
Depreciation and amortization (76) (264)
Provision for written off of fixed assets (208) --
------------ ------------
LOSS FROM OPERATIONS (2,523) (2,644)
Interest Income 27 33
Sundry income 54 --
------------ ------------
LOSS BEFORE INCOME TAXES, MINORITY INTEREST AND DISCONTINUED OPERATIONS (2,442) (2,611)
Provision for income taxes (Note 12) (32) --
Provision for impairment loss of affiliated companies (Note 5) -- (97)
Minority Interests 596 (106)
------------ ------------
LOSS BEFORE DISCONTINUED OPERATIONS (1,878) (2,814)
------------ ------------
LOSS FROM DISCONTINUED OPERATIONS (NOTE 2) -- (107)
NET LOSS AVAILABLE TO COMMON STOCKHOLDERS $ (1,878) $ (2,921)
------------ ------------
BASIC AND DILUTED LOSS PER COMMON SHARE:
Loss from continuing operations $ (0.36) $ (0.67)
Loss from discontinued operations -- $ (0.03)
------------ ------------
Net loss $ (0.36) $ (0.70)
BASIC AND DILUTED WEIGHTED AVERAGE NUMBER OF SHARES OUTSTANDING 5,234,744 4,191,816
The accompanying notes are an integral part of these consolidated financial statements.
F-4
PACIFICNET INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(In thousands of United States dollars, except loss per share and share amounts)
CUMULATIVE
ADDITIONAL OTHER TOTAL
PREFERRED COMMON PAID-IN COMPREHENSIVE ACCUMULATED TREASURY STOCKHOLDERS'
STOCK STOCK CAPITAL INCOME/(LOSS) DEFICIT STOCK EQUITY
------------ ------------ ------------ ------------ ------------ ------------ -------------
BALANCE AT DECEMBER
31, 2001
(1,634,628
SHARES) $ -- $ -- $ 26,755 $ (22) $ (25,051) $ -- $ 1,682
COMPREHENSIVE LOSS:
Net loss -- -- -- -- (2,921) -- (2,921)
Change in
Cumulative
Effect of
Foreign
Currency
Translation -- -- -- (2) -- -- (2)
-------------
TOTAL COMPREHENSIVE
LOSS (2,923)
-------------
Issuance of common
stock for
services
(337,007 shares) -- -- 263 -- -- -- 263
Issuance of common
stock to
acquire fixed
assets (155,058
shares) -- -- 186 -- -- -- 186
Issuance of common
stock to
satisfy
liabilities
(60,585 shares) -- -- 50 -- -- -- 50
Issuance of common
stock for cash
(2,725,000
shares) -- 1 3,999 -- -- -- 4,000
Treasury Stock
acquired, at
cost (4,970
shares) -- -- -- -- -- (5) (5)
Share adjustment
(56 shares
reduction) -- -- -- -- -- -- --
------------ ------------ ------------ ------------ ------------ ------------ -------------
BALANCE AT DECEMBER
31, 2002
(4,907,252
SHARES) -- 1 31,253 (24) (27,972) (5) 3,253
COMPREHENSIVE LOSS:
Net loss -- -- -- -- (1,878) -- (1,878)
-------------
TOTAL COMPREHENSIVE
LOSS (1,878)
-------------
Shares returned to
the treasury
(800,000 shares) -- -- -- -- -- -- --
Issuance of common
stock to
satisfy
services
(16,725 shares) -- -- 27 -- -- -- 27
Issuance of common
stock for
officer's
exercise of
stock options
as part of
employment
compensation
(200,000 shares) -- -- 100 -- -- -- 100
Exercise of stock
options and
warrants for
cash (240,000
shares) -- -- 410 -- -- -- 410
------------ ------------ ------------ ------------ ------------ ------------ -------------
BALANCE AT DECEMBER
31, 2003
(5,363,977
SHARES) $ -- $ 1 $ 31,790 $ (24) $ (29,850) $ (5) $ 1,912
The accompanying notes are an integral part of these consolidated financial statements.
F-5
PACIFICNET INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands of United States dollars, except loss per share and share amounts)
2003 2002
-------- --------
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss ($1,878) ($2,921)
Adjustment to reconcile net loss to net cash used in operating
activities:
Expenses settled by issuance of common shares 127 313
Minority Interest (596) 98
Loss on disposal of fixed assets 208 142
Provision for impairment of software development costs 761 122
Provision for impairment of affiliated companies -- 97
Provision for write-off of goodwill 19 --
Depreciation 72 154
Amortization 4 110
Changes in:
Accounts receivable and other current assets 272 145
Inventories -- 93
Other payables and accrued expenses 106 (525)
-------- --------
Net cash used in operating activities (905) (2,172)
-------- --------
CASH FLOWS FROM INVESTMENT ACTIVITIES
Increase in restricted cash-pledged bank deposits (975) --
Acquisition of property and equipment (29) (14)
Acquisition of intangible assets (19) --
Acquisition of subsidiaries (211) --
Acquisition of affiliate company interests -- (22)
-------- --------
Net cash used in investing activities (1,234) (36)
-------- --------
CASH FLOWS PROVIDED BY FINANCING ACTIVITIES:
Advances under bank line of credit 634 565
Proceeds from sale of common stock -- 4,000
Proceeds from exercise of stock options and warrants 410 --
Repayment of amount borrowed (465) --
New bank loans 717 --
New finance lease 49 --
Purchases of treasury stock -- (5)
-------- --------
Net cash provided by financing activities 1,345 4,560
-------- --------
EFFECT OF EXCHANGE RATE CHANGES ON CASH -- (2)
-------- --------
NET INCREASE IN CASH AND CASH EQUIVALENTS (794) 2,350
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 3,694 1,344
-------- --------
CASH AND CASH EQUIVALENTS, END OF YEAR $ 2,900 $ 3,694
-------- --------
CASH PAID FOR:
Interest 54 8
Income taxes -- --
NONCASH INVESTING AND FINANCING ACTIVITIES:
Investment in subsidiary acquired through issuance of
subscriptions payable $ 722 $ --
Common stock issued to satisfy certain liabilities and
to settle expenses $ 127 $ 313
Common stock issued to acquire fixed assets $ -- $ 186
The accompanying notes are an integral part of these consolidated financial statements.
F-6
PACIFICNET INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts expressed in United States dollars unless otherwise stated)
1. NATURE OF OPERATIONS
PacificNet Inc. (referred to herein as "PacificNet" or the "Company")
was originally incorporated in the State of Delaware on April 8, 1987.
PacificNet is an Asian information technology solutions provider that
develops and implements full service information technology ("IT")
solutions. In fiscal year 2002, the Company reduced the
business-to-business electronic commerce initiatives to focus on IT
consulting services and the licensing of proprietary software
technologies. The Company provides telecommunication voice and data
network communications products and services. The Company's business
strategy is to expand its role in the rapidly growing business sector,
namely the IT solution provision and network communication businesses,
in the Asian market, particularly the greater PRC region.
Operating Risks - The Company's business is characterized by rapid
technological change, new product and service development and evolving
industry standards. Inherent in the Company's business are various
risks and uncertainties, including limited operating history, uncertain
profitability, history of losses and risks associated with the
Internet, e-commerce and the ability to raise additional capital.
2. BUSINESS DISPOSITIONS AND RESCINDED TRANSACTIONS
Business Disposition - In September 2001, the Board of Directors of the
Company approved a plan not to further invest in Laptizen.com Limited
("Laptizen") subsidiary. Laptizen is a Hong Kong value added reseller
of computer systems. As of December 31, 2001 all activities related to
Laptizen had significantly reduced and the Company planned to liquidate
Laptizen. During the year ended December 31, 2001, the Company
wrote-off associated Laptizen goodwill of $89,000. Revenue and net loss
information related to Laptizen operations is as follows (in
thousands):
YEAR ENDED DECEMBER 31,
-----------------------
2003 2002
-------- --------
Revenues $ - $ 15
Net loss $ - $ (107)
Rescinded transaction - The Company has ceased its participation with
International Elite Limited (IEL) in the joint venture company,
PacificNet Communications Limited - Macao Commercial Offshore (the
"Joint Venture"). Pursuant to the terms of the Equity Joint Venture
Agreement, signed on December 21, 2002, the Company was required to
obtain the requisite regulatory and shareholder approval to issue 34
million shares of the Company's common stock in connection with the
Joint Venture transaction. The Company still has not received the
necessary regulatory and shareholder approval to issue the shares.
Since the Company was unable to obtain shareholder approval, the board
of directors of the Company determined that it was in the best interest
of the Company to terminate its interest in the Joint Venture. Since
the Company has not obtained regulatory and shareholder approval of the
joint venture transaction and the Company does not control the
operating and financing decisions of the joint venture, the Company
does not consolidate the assets, liabilities, revenues and expenses of
the joint venture. The Company will no longer seek approval to issue
the 34 million shares to the Joint Venture and the original 800,000
deposit shares held in escrow were canceled and returned to the
Company's treasury. The termination agreement was signed on March 30,
2004. (See Note 15).
The following 2003 unaudited quarterly interim information has been
restated to present the results of operations for the Company as a
result of the joint venture termination (in thousands):
F-7
March 31 June 30 September 30
------------ ------------ ------------
Revenues $ 92 $ 220 $ 344
Net loss $ (614) $ (846) $ (1,032)
Basic and diluted loss per share $ (0.12) $ (0.15) $ (0.20)
The net effect of the restatement for the 2003 quarterly interim
information was as follows:
March 31 - overstatement of revenues of $1,175,000, understatement of
net loss of $337,000, and understatement of loss per share of $0.06 per
share.
June 30 - overstatement of revenues of $2,334,000, understatement of
net loss of $694,000, and understatement of loss per share of $0.12 per
share.
September 30 - overstatement of revenues of $3,510,000, understatement
of net loss of $1,033,000, and understatement of loss per share of
$0.20.
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
a. Principles of Consolidation and Presentation
--------------------------------------------
The consolidated financial statements are prepared in
accordance with generally accepted accounting principles in
the United States of America and present the financial
statements of the Company and its wholly owned and
majority-owned subsidiaries. All significant intercompany
transactions and balances have been eliminated.
b. Investments in Affiliated Companies
-----------------------------------
Investments in the Company's subsidiaries or joint venture are
fully consolidated in accordance with SFAS No. 94,
"Consolidation of All Majority-Owned Subsidiaries," because
the voting power authorizing all major operating and financing
decisions for the subsidiaries or joint venture rests with the
board of directors of the Company.
c. Revenue Recognition
-------------------
Revenues from services rendered consist primarily of license
and support revenue from consulting, implementation and
training services. Revenue from license agreements is
recognized when:
(i) a signed non-cancelable software license exists,
(ii) delivery has occurred,
(iii) the Company's fee is fixed or determinable, and
(iv) collectibility is probable at the date of sale.
Revenue from support services is recognized when (i) the
services are performed, (ii) collectibility is probable and
(iii) such revenues are contractually nonrefundable. Revenues
from the sale of products and systems is recognized when the
product and system is completed, shipped, and risks and
rewards of ownership have transferred.
d. Allowance for Doubtful Accounts
-------------------------------
The Company presents accounts receivable, net of allowances
for doubtful accounts and returns. The allowances are
calculated based on a detailed review of certain individual
customer accounts, historical rates and an estimate of the
overall economic conditions affecting the Company's customer
base. The Company reviews a customer's credit history before
extending credit. If the financial condition of its customers
were to deteriorate, resulting in an impairment of their
F-8
ability to make payments, additional allowances may be
required. The Company also records reserves for bad debt for
all other customers based on a variety of factors including
the length of time the receivables are past due, the financial
health of the customer, macroeconomic considerations and
historical experience. If circumstances related to specific
customers change, our estimates of the recoverability of
receivables could be further adjusted.
e. Estimates and Assumptions
-------------------------
The preparation of financial statements in accordance with
generally accepted accounting principles requires management
to make estimates and assumptions that affect 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. Actual results could differ from these
estimates.
f. Property and Equipment
----------------------
Property and equipment is stated at cost and depreciated using
the straight-line method over the shorter of the estimated
useful life of the asset or the lease term, ranging from three
to five years.
g. Inventories
-----------
Inventories consist of finished goods and are stated at the
lower of cost or market value. Cost is computed using the
first-in, first-out method and includes all costs of purchase
and other costs incurred in bringing the inventories to their
present location and condition. Market value is determined by
reference to the sales proceeds of items sold in the ordinary
course of business after the balance sheet date or management
estimates based on prevailing market conditions.
h. Foreign Currency Translation
----------------------------
The functional currency of the Company is United States
dollars (US$) and the financial records are maintained and the
financial statements prepared in US$. The functional currency
of the Company's subsidiaries is Hong Kong dollars (HK$) and
the financial records of the subsidiaries are maintained and
the financial statements are prepared in HK$.
The translation of the financial statements into US$ is
performed for balance sheet accounts using the closing
exchange rate in effect at the balance sheet date and for
revenue and expense accounts using an average exchange rate
during each reporting period. The resulting foreign currency
translation gain or loss is included in Cumulative Other
Comprehensive Loss, which is shown separately from retained
earnings in the equity section of the balance sheet.
i. Income taxes
------------
The Company and its subsidiaries account for income taxes
using the liability method, which requires an entity to
recognize deferred tax liabilities and assets. Deferred income
taxes are recognized based on the differences between the tax
bases of assets and liabilities and their reported amounts in
the financial statements, which will result in taxable or
deductible amounts in future years. Further, the effects of
enacted tax laws or rate changes are included as part of
deferred tax expenses or benefits in the year that covers the
enactment in the near-future date. A valuation allowance will
be provided when there is an uncertainty that a deferred tax
benefit will be realized.
j. Goodwill and Purchased Intangible Assets
----------------------------------------
Goodwill and purchased intangible assets determined to have
indefinite useful lives related to acquisitions after June 30,
2001 are not amortized, in accordance with the provisions of
Statement of Financial Accounting Standards (SFAS) SFAS No.
142, "Goodwill and Other Intangible Assets."
F-9
k. Impairment of Long-Lived Assets
-------------------------------
The Company periodically assesses the need to record
impairment losses on long-lived assets, such as property,
plant and equipment, goodwill and purchased intangible assets,
used in operations and its investments when indicators of
impairment are present indicating the carrying value may not
be recoverable. An impairment loss is recognized when
estimated undiscounted future cash flows expected to result
from the use of the asset plus net proceeds expected from
disposition of the asset (if any) are less than the carrying
value of the asset. When an impairment is identified, the
carrying amount of the asset is reduced to its estimated fair
value. All goodwill will no longer be amortized and potential
impairment of goodwill and purchased intangible assets with
indefinite useful lives will be evaluated using the specific
guidance provided by SFAS No. 142 and SFAS No. 144,
"Accounting for the Impairment or Disposal of Long-Lived
Assets." This impairment analysis will be performed at least
annually. For investments in affiliated companies that are not
majority-owned or controlled, indicators or value generally
include revenue growth, operating results, cash flows and
other measures. Management then determines whether there has
been a permanent impairment of value based upon events and
circumstances that have occurred since acquisition. It is
reasonably possible that the impairment factors evaluated by
management will change in subsequent periods, given that the
Company operates in a volatile environment. This could result
in material impairment charges in future periods.
l. Research and Development Costs and Capitalized Software Costs
-------------------------------------------------------------
Expenditures related to the research and development of new
products and processes, including significant improvements and
refinements to existing products are expensed as incurred,
unless they are required to be capitalized.
Software development costs are required to be capitalized when
a product's technological feasibility has been established by
completion of a detailed program design or working model of
the product, and ending when a product is available for
release to customers. For the year ended December 31, 2003,
the Company did not capitalize (2002: $0) any costs related to
the purchase of software and related technologies and content,
which provide new functionality for the Company's existing
software products and the Company wrote off all the costs and
expenses incurred of $761,000 during the year (2002: $93,545).
The Company amortized capitalized software development costs
of $106,837 in 2002.
m. Loss per share
--------------
Basic and diluted earnings or loss per share amounts in the
financial statements are computed in accordance with SFAS No.
128, "Earnings Per Share." Basic earnings or loss per share is
based on the weighted average number of common shares
outstanding. Diluted earnings or loss per share is based on
the weighted average number of common shares outstanding and
dilutive common stock equivalents. Basic earnings/loss per
share is computed by dividing net income/loss available to
common stockholders (numerator) by the weighted average number
of common shares outstanding (denominator) during the period
and excludes the dilutive effect of stock options and warrants
because to do so would be antidilutive. All per share and per
share information are adjusted retroactively to reflect stock
splits and changes in par value.
n. Stock-Based Compensation Plans
------------------------------
The Company has adopted SFAS No. 123, "Accounting for Stock
Based Compensation". As permitted by SFAS No. 123, the Company
measures compensation cost in accordance with Accounting
Principles Board Opinion (APB) No. 25, "Accounting for Stock
Issued to Employees" and related interpretations. Compensation
F-10
cost for stock options, if any, is measured as the excess of
the quoted market price of the Company's stock at the date of
grant over the amount an employee must pay to acquire the
stock. Accordingly, no accounting recognition is given to
stock options granted at fair market value until they are
exercised. Upon exercise, net proceeds including tax benefits
realized, are credited to equity. The pro forma disclosure
requirements of SFAS No. 123 are included in Note 11.
o. Other Comprehensive Income
--------------------------
Comprehensive income includes net earnings as well as
additional other comprehensive income, such as translation
adjustments, in the financial statements and displays the
accumulated balance of other comprehensive income separately
from retained earnings in the equity section of the balance
sheet.
p. Advertising Costs
-----------------
Advertising costs are expensed as incurred and amounted to
$9,114 in 2003 (2002: $4,954).
q. Cash Equivalents
----------------
Highly liquid investments with maturity of three months or
less at the time of acquisition are considered cash
equivalents.
r. Related Party Transactions
--------------------------
A related party is generally defined as (i) any person that
holds 10% or more of the Company's securities including such
person's immediate families, (ii) the Company's management,
(iii) someone that directly or indirectly controls, is
controlled by or is under common control with the Company, or
(iv) anyone who can significantly influence the financial and
operating decisions of the Company. A transaction is
considered to be a related party transaction when there is a
transfer of resources or obligations between related parties.
(See Note 13).
s. Reclassification
----------------
Certain prior period amounts have been reclassified to conform
to the current year presentation. These changes had no effect
on previously reported results of operations or total
stockholders' equity.
t. Fair Value of Financial Instruments
-----------------------------------
For certain of the Company's financial instruments, including
cash and cash equivalents, accounts receivable, bank lines of
credit, accounts payable and accrued liabilities, the carrying
amounts approximate fair value due to their short maturities.
4. RECENT ACCOUNTING PRONOUNCEMENTS
New pronouncements by the Financial Accounting Standards Board (FASB)
that have recently become effective or are yet to be effective are SFAS
No. 145 through SFAS No. 150 and Interpretations No. 45 and No. 46,
none of which are expected to have a significant affect on the
Company's financial statements:
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB
Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and
Technical Corrections." Among other provisions, SFAS No. 145 rescinds
SFAS No. 4, "Reporting Gains and Losses from Extinguishment of Debt."
Accordingly, gains or losses from extinguishment of debt shall not be
reported as extraordinary items unless the extinguishment qualifies as
an extraordinary item under the criteria of Accounting Principles Board
F-11
("APB") Opinion No. 30, "Reporting the Results of Operations--Reporting
the Effects of Disposal of a Segment of a Business, and Extraordinary,
Unusual and Infrequently Occurring Events and Transactions." Gains or
losses from extinguishment of debt that do not meet the criteria of APB
No. 30 should be reclassified to income from continuing operations in
all prior periods presented.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." SFAS No. 146 provides
guidance related to accounting for costs associated with disposal
activities covered by SFAS No. 144 or with exit or restructuring
activities previously covered by Emerging Issues Task Force ("EITF")
Issue No. 94-3, "Liability Recognition for Certain Employee Termination
Benefits and Other Costs to Exit an Activity (including Certain Costs
Incurred in a Restructuring)." SFAS No. 146 supercedes EITF Issue No.
94-3 in its entirety. SFAS No. 146 requires that costs related to
exiting an activity or to a restructuring not be recognized until the
liability is incurred. SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities" was issued in July 2002. SFAS No. 146
addresses significant issues regarding the recognition, measurement and
reporting of costs that are associated with exit and disposal
activities, including restructuring activities, including (1) costs to
terminate contracts that are not capital leases; (2) costs to
consolidate facilities or relocate employees; and (3) termination
benefits provided to employees who are involuntarily terminated under
the terms of a one-time benefit arrangement that is not an ongoing
benefit arrangement or an individual deferred-compensation contract.
The provisions of this Statement will be effective for exit or disposal
activities initiated after December 31, 2002.
In October 2002, the FASB issued SFAS No. 147, "ACQUISITIONS OF CERTAIN
FINANCIAL INSTITUTIONS, AN AMENDMENT OF FASB STATEMENTS NO. 72 AND 144
AND FASB INTERPRETATION NO. 9," which applies to the acquisition of all
or part of a financial institution, except for a transaction between
two or more mutual enterprises. SFAS No. 147 removes the requirement in
SFAS No. 72 and Interpretation 9 thereto, to recognize and amortize any
excess of the fair value of liabilities assumed over the fair value of
tangible and identifiable intangible assets acquired as an
unidentifiable intangible asset. This statement requires that those
transactions be accounted for in accordance with SFAS No. 141,
"BUSINESS COMBINATIONS," and SFAS No. 142, "GOODWILL AND OTHER
INTANGIBLE ASSETS." In addition, this statement amends SFAS No. 144,
"ACCOUNTING FOR THE IMPAIRMENT OR DISPOSAL OF LONG-LIVED ASSETS," to
include certain financial institution-related intangible assets. This
statement is effective for acquisitions for which the date of
acquisition is on or after October 1, 2002, and is not applicable to
the Company.
In November 2002, the FASB issued FASB Interpretation No. 45 ("FIN
45"), "Guarantor's Accounting and Disclosure Requirements for
Guarantees, Including Indirect Guarantees of Indebtedness of Others."
FIN 45 requires that a liability be recorded in the guarantor's balance
sheet upon issuance of a guarantee. In addition, FIN 45 requires
disclosures about the guarantees that an entity has issued, including a
rollforward of the entity's product warranty liabilities. Initial
recognition and measurement provisions of the Interpretation are
applicable on a prospective basis to guarantees issued or modified
after December 31, 2002. The disclosure requirements are effective for
financial statements of interim or annual periods ending after December
15, 2002. As of December 31, 2002, the company did not have any
outstanding guarantees.
In December 2002, the FASB issued SFAS No. 148, "Accounting for
Stock-Based Compensation, Transition and Disclosure," an amendment to
SFAS 123, "Accounting for Stock-Based Compensation," SFAS No. 148
provides alternative methods of transition for a voluntary change to
the fair value based method of accounting for stock-based employee
compensation. SFAS No. 148 also requires that disclosures of the pro
forma effect of using the fair value method of accounting for
stock-based employee compensation be displayed more prominently and in
a tabular format. Additionally, SFAS No. 148 requires disclosure of the
pro forma effect in interim financial statements. The transition and
annual disclosure requirements of SFAS No. 148 are effective for fiscal
year ending after December 31, 2002. The Company has elected to
continue using the intrinsic value method of accounting for stock-based
compensation. Therefore, the amendment to SFAS 123 will not have any
effect on the companies' financial statements.
In January 2003, the FASB issued FASB Interpretation No. 46 ("FIN 46"),
"Consolidation of Variable Interest Entities, an Interpretation of ARB
No. 51." FIN 46 requires certain variable interest entities to be
consolidated by the primary beneficiary of the entity if the equity
investors in the entity do not have the characteristics of a
controlling financial interest or do not have sufficient equity at risk
F-12
for the entity to finance its activities without additional
subordinated financial support from other parties. FIN 46 is effective
for all new variable interest entities created or acquired after
January 31, 2003. For variable interest entities created or acquired
prior to February 1, 2003, the provisions of FIN 46 must be applied for
the first interim or annual period beginning after June 15, 2003.
In April 2003, the FASB issued SFAS No. 149, "Accounting for Amendment
of Statement 133 on Derivative Instruments and Hedging Activities,"
which amends and clarifies financial accounting and reporting for
derivative instruments, including certain derivative instruments
embedded in other contracts and for hedging activities under FASB
Statement No. 133, Accounting for Derivative Instruments and Hedging
Activities. This Statement is generally effective for contracts entered
into or modified after June 30, 2003, and all provisions should be
applied prospectively. This statement does not affect the Company.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and
Equity," which establishes standards for how an issuer classifies and
measures certain financial instruments with characteristics of both
liabilities and equity. It requires that an issuer classify a financial
instrument that is within its scope as a liability (or an asset in some
circumstances). This Statement is effective for financial instruments
entered into or modified after May 31, 2003, and otherwise is effective
at the beginning of the first interim period beginning after June 15,
2003. It is to be implemented by reporting the cumulative effect of a
change in an accounting principle for financial instruments created
before the issuance date of the Statement and still existing at the
beginning of the interim period of adoption. Restatement is not
permitted. This statement does not affect the Company.
5. GOODWILL AND INVESTMENTS IN AFFILIATED COMPANIES
Goodwill consists of the following as of December 31, 2003 (in
thousands):
PURCHASE PRICE / OWNERSHIP % AND
DESCRIPTION AMOUNT BUSINESS DESCRIPTION
-------------------------------------------- ------------ ----------------------------------------------
GOODWILL:
PacificNet Solutions Limited $ 19 60% ownership; IT solution and system
integration that specializes in systems
integration, software application, and
e-business solutions services in Hong Kong
and Greater China.
Epro Telecom Holdings Limited $ 567 $3,500,000 payable in cash and common stock;
50% ownership; Value-added telecom services
(VAS), call center and customer relationship
management (CRM) services in Hong Kong and
Greater China. (See Note 10)
Beijing Linkhead Technologies Co., Ltd $ (147) $4,973,000 payable in cash and common
stock;51% ownership; Value-added services
(VAS), interactive voice response (IVR)
system development and integration, voice
internet portals, computer telephony
integration (CTI), VoIP, internet and mobile
application development, telecom customer
relationship management (CRM) services in
Greater China. (See Note 10)
Less: Goodwill written off (19)
---------
$ 420
---------
F-13
Investments in affiliated companies and goodwill consist of the following as of
December 31, 2002 (in thousands):
COLLATERAL/OWNERSHIP % AND
DESCRIPTION AMOUNT BUSINESS DESCRIPTION
--------------------------------------------- ----------- -----------------------------------------------
INVESTMENTS IN AFFILIATED COMPANIES:
Xmedia Holdings Inc 95 25% ownership; provides new media business
development and marketing to advertisers.
Less: Provision for Impairment (95)
---------
$ -
---------
GOODWILL:
PacificNet Solutions Limited $ 21 60% ownership; IT solution and system
integration that specializes in systems
integration, software application, and
e-business solutions services in Hong Kong
and Greater China.
Less: Provision for Amortization (2)
---------
19
---------
6. PROPERTY AND EQUIPMENT, NET
Property and equipment consists of the following as of December 31 (in
thousands):
2003 2002
--------- ---------
Office furniture, fixtures and leasehold improvements $ 4 $ 47
Computers and office equipment 4,938 463
Motor Vehicles - 16
Less: Accumulated depreciation (4,476) (242)
--------- ---------
Net Property and Equipment $ 466 $ 284
========= =========
Depreciation charged to expense during the years ended December 31,
2003 and 2002 was $72,000 and $154,000
7. COMMITMENTS AND CONTINGENCIES
OPERATING LEASES - The Company leases warehouse and office space under
operating leases for two years with fixed monthly rentals. None of the
leases included contingent rentals. Lease expense charged to operations
for 2003 amounted to $109,000 (2002: $231,000). Future minimum lease
payments under non-cancelable operating leases at December 31:
2004 $ 215
2005 82
---------
$ 297
=========
BANK LINE OF CREDIT - The Company has an overdraft banking facility
from our major bankers, DBS Bank (Hong Kong) Limited and Citibank NA
Hong Kong, in the amount of $1,309,000 (HK $10,200,000), which is
secured by a pledge of the Company's fixed deposits in the amount of
$923,000 (HK$7,000,000), pursuant to the following terms: interest will
be charged at the Hong Kong Prime Rate per annum and payable at the end
of each calendar month or the date of settlement, which ever is
earlier. As of December 31, 2003, the Company utilized US$1,199,000 of
the above-mentioned banking facility.
F-14
(2002): The Company has an overdraft banking facility from our major
banker DBS Bank (Hong Kong) Limited, in the amount of $1,026,000 (HK
$8,000,000), which is secured by a pledge of the Company's fixed
deposits in the amount of $923,000 (HK$7,000,000), pursuant to the
following terms: interest will be charged at the Hong Kong Prime Rate
per annum and payable at the end of each calendar month or the date of
settlement, which ever is earlier. As of December 31, 2002, the Company
utilized US$565,000 of the above-mentioned banking facility
Common stock (contingent shares) - See details in Note 10.
--------------------------------
CONTINGENCIES - From time to time the Company is subject to certain
asserted and unasserted claims encountered in the normal course of
business. It is the Company's belief that the resolution of these
matters will not have a material adverse effect on its financial
position or results of operations, however, the Company cannot provide
assurance that damages that result in a material adverse effect to its
financial position or results of operations will not be imposed in
these matters. The Company accounts for contingent liabilities when it
is probable that future expenditures will be made and such expenditures
can be reasonably estimated.
8. BANK LOANS
Bank loans represent the following at December 31:
2003 2002
--------- ---------
Secured [1] $ 1,776 $ -
Unsecured 6 -
Less: current portion (1,405) -
--------- ---------
Non current portion $ 377 $ -
========= =========
[1] The loans were secured by the following: joint and several personal
guarantees executed by certain directors of the subsidiary of the
Company; corporate guarantee executed by a subsidiary of the Company;
second legal charge over a property owned by a subsidiary of the
Company; charge over certain trade receivables of a subsidiary of the
Company; and pledged bank deposits of a subsidiary of the Company in
the amount of $212,000 (2002: $0).
Aggregate future maturities of borrowing for the next five years are as
follows: (2004: $1,405,000; 2005: $302,000; 2006: $75,000; 2007: $0;
and 2008: $0)
The Company has established lines of credit with quality financial
institutions of approximately $1,540,000 (HKD$12,000,000) to finance
general working capital requirements and trade transactions. Interest
is charged at the bank's prime lending rate plus 0.5%-2% per annum
depending on the reason for the utilization of the line, i.e. overdraft
protection, receivable financing, etc. At December 31, 2003, the
Company had available unused lines of credit of approximately $557,000.
9. CAPITAL LEASE OBLIGATIONS
The Company leases various equipment under capital leases expiring in
various years through 2005. The assets and liabilities under capital
leases are recorded at the lower of the present value of the minimum
lease payments or the fair value of the asset. The assets are
depreciated over the lesser of their related lease terms or their
estimated productive lives and are secured by the assets themselves.
Depreciation of assets under capital leases is included in depreciation
expense for 2003 and 2002.
Aggregate minimum future lease payments under capital leases as of
December 31, 2003 for each of the next five years are as follows:
(2004: $173,000; 2005: $85,000; 2006: $70,000; 2007: $0; and 2008: $0)
F-15
Capital lease obligations represent the following at December 31:
2003 2002
--------- ---------
Total minimum lease payments $ 328 $ -
Interest expense relating to future periods (27) -
--------- ---------
Present value of the minimum lease payments 301
Less: current portion (152) -
--------- ---------
Non current portion $ 149 $ -
========= =========
Following is a summary of fixed assets held under capital leases at
December 31:
2003 2002
--------- ---------
Computers and office equipment $ 268 $ -
Less: accumulated depreciation (205) -
--------- ---------
$ 63 $ -
========= =========
10. BUSINESS ACQUISITIONS AND SUBSCRIPTION PAYABLE
In December 2003, the Company executed agreements and acquired
controlling interests in two subsidiaries. The purchase price was
payable in cash and shares of common stock as follows:
Epro Telecom Holdings Limited [1] $500,000
Beijing Linkhead Technologies Co., Limited [2] $222,500
---------
$722,500
=========
[1] Epro Telecom Holdings Limited - On December 1, 2003, the Company
completed an agreement to acquire a 50% ownership interest for total
consideration of $3,500,000 payable in cash ($500,000) and the issuance
of common stock $3,000,000 (600,000 shares valued at $5.00 per share).
Within 90 days of signing the agreement, the Company is required to pay
$500,000 and within 30 days the Company is required to deliver 100,000
shares ("deposit shares") of common stock to Epro as a refundable
deposit. As of the date of issuance of these financial statements, the
Company has paid the $500,000 and issued the 100,000 deposit shares of
common stock to Epro. The remaining 500,000 shares of common stock are
to be held by an Escrow Agent and released in specified amounts based
on the achievement of certain earnings criteria. Additionally, the
Company has agreed to issue a maximum of 300,000 bonus shares of common
stock per year for achieving net income in excess of $1,000,000 in 2004
and 2005. Epro is also required to return a portion of the shares
equivalent to the dollar amount of the shortfall of net income in years
2004 and 2005.
[2] Beijing Linkhead Technologies Co., Limited - On December 15, 2003,
the Company completed an agreement to acquire a 51% ownership interest
for total consideration of $4,972,500 payable in cash ($222,500) and
the issuance of common stock $4,750,000 (950,000 shares valued at $5.00
per share). Within 30 days of signing the agreement, the Company is
required to pay $222,500 and to deliver 350,000 shares ("deposit
shares") of common stock as a refundable deposit. As of the date of
issuance of these financial statements, the Company has paid the
$222,500 and issued the 350,000 deposit shares of common stock to
Linkhead. The remaining 600,000 shares of common stock are to be held
by an Escrow Agent and released in specified amounts based on the
achievement of certain earnings criteria. Additionally, the Company has
agreed to issue a maximum of 600,000 bonus shares of common stock for
achieving net income in excess of $1,500,000.
The Company has consolidated the financial results of the
above-mentioned companies at December 31, 2003, because concurrent with
signing the agreements, the Company obtained a controlling financial
interest and the normal attributes of ownership expected with an
acquisition such as effective control and ownership of the assets
acquired, liabilities assumed, and the operating and financing
decisions of the acquired companies transferred on that date. Further,
the Company obtained the benefits derived and/or detriments incurred
with respect to the acquired companies. Therefore, since the Company
has a controlling financial interest and controls the operating and
financing decisions of the acquired companies, the Company fully
consolidates their assets, liabilities, revenues and expenses.
F-16
The following unaudited pro forma information is based on the
assumption that the acquisitions took place as of the beginning of the
period, with comparative information for the immediately preceding
period as though the acquisitions had been completed at the beginning
of the period. The financial information for Linkhead has not been
included for 2002 because it was not in existence.
2003 2002
--------- ---------
Net revenues $ 6,825 $ 8,252
========= =========
Net loss $ 1,793 $ 3,396
========= =========
Basic and diluted loss per share $ 0.32 $ 0.80
========= =========
11. STOCKHOLDERS' EQUITY
a. Allotment and repurchase of common stock
COMMON STOCK.
For the year ended December 31, 2003, the Company issued (i) 16,725
shares for cash consideration of $27,000 to settle expenses, (ii)
200,000 shares as a result of providing compensation for the officer
according to the employment contract of $100,000, and (iii) 240,000
shares as a result of exercise of stock options and warrants for cash
consideration of $410,000.
For the year ended December 31, 2002, the Company issued (i) 155,058
shares with a market value of $186,000 to acquire fixed assets, (ii)
60,585 shares with a market value of $50,000 to satisfy certain current
liabilities, (iii) 337,007 shares with a market value of $263,000 to
settle the expenses, and (iv) 2,725,000 shares for private placement of
$4,000,000. The private placements were as follows:
(a) $520,000 Private Placement -- In January 2002, the Company
completed a $520,000 private placement by issuing 325,000 shares of
restricted common stock at a price of $1.60 per share. The issuance of
shares represented 19.9% of the number of shares issued and outstanding
prior to the closing of transaction in January 2002.
(b) $3,480,000 Private Placement -- On March 28 2002, the Company
completed a $3,480,000 private placement by issuing 2,400,000 shares of
restricted common stock at a price of $1.45 per share to Sino Mart
Management Limited ("Sino Mart"), whose executive director is the
father of the Chairman and CEO of the Company. In addition, the Company
issued Sino Mart a warrant to purchase up to an additional 600,000
shares of restricted common stock at $1.45 per share. The warrant is
fully exercisable beginning on April 1, 2002. The $3,480,000 private
placement transaction was approved at a special stockholder meeting
held on March 25, 2002.
TREASURY STOCK.
For the year ended December 31, 2003, the Company returned to treasury
800,000 shares issued as a deposit for a business acquisition that was
terminated. (See Note 2 for details)
For the year ended December 31, 2002, the Company repurchased 4,970
shares of common stock for a total of $5,000.
b. STOCK OPTION PLAN
On December 23, 2003, stockholders of the Company adopted an amendment
to the Stock Option Plan (the "Plan") to increase the number of shares
reserved under the Plan from 1,666,667 to 2,000,000. The purpose of the
Plan is to attract and retain the best available personnel for
positions of responsibility and to provide incentives to such personnel
to promote the success of the business.
F-17
The Plan provides for the grant to directors, officers, employees and
consultants of the Company (including its subsidiaries) of options to
purchase shares of common stock. Options granted under the Plan may be
"incentive stock options" as defined in Section 422 of the Internal
Revenue Code of 1986, as amended (the "Code"), or non-qualified
options. To date, all options granted have been nonqualified options.
The exercise price of incentive stock options may not be less than 100%
of the fair market value of the common stock as of the date of grant.
The number of options outstanding and the exercise price thereof are
subject to adjustment in the case of certain transactions such as
mergers, recapitalizations, stock splits or stock dividends. Options
granted under the Plan fully vest through June 2005.
The status of the Stock Option Plan as of December 31, 2003, is as
follows:
OPTIONS EXERCISE PRICE
---------- --------------
Outstanding, December 31, 2001 123,400 $4.15-$9.375
Granted 221,933 $0.50-$9.375
Canceled (32,733) $0.50-$9.375
----------
Options outstanding, December 31, 2002 312,600 $0.50-$9.375
Granted 963,000 $1.75-$4.25
Exercised (350,000) $0.50-$1.90
Canceled - $0.50-$9.375
Options outstanding, December 31, 2003 925,600 $0.50-$9.375
========== =============
Options exercisable, end of year 145,600 $0.50-$9.375
========== =============
ADDITIONAL INFORMATION ON OPTIONS OUTSTANDING AND EXERCISABLE AS OF
DECEMBER 31, 2003 IS AS FOLLOWS:
WEIGHTED
WEIGHTED AVERAGE AVERAGE REMAINING
EXERCISE PRICE OPTIONS CONTRACTUAL LIFE
---------------- ---------------- -----------------
Options outstanding $3.02 925,600 2.38 years
Options exercisable $1.73 145,600 1.47 years
The fair value of options granted during 2003 and 2002, respectively,
was approximately $2.17 and $1.55 per option based on the Black-Scholes
option pricing model using valuation assumptions of: a) average
remaining contractual life of three years; b) expected volatility of
129.8% and 183.6%, c) dividend yield of 0%; and d) a risk free interest
rate of 2.5 % and 4.00%.
The Company's net loss and net loss per common share would have
increased to the pro forma amounts indicated below if compensation cost
for the Company's stock option had been determined based on fair value
at the grant date for awards in accordance with SFAS No. 123, (in
thousands, except per share amounts):
2003 2002
--------- ---------
Net loss $ (1,878) $ (2,921)
As reported (3,968) (3,097)
Pro forma
Net loss per share
As reported $ (0.36) $ (0.70)
Pro forma (0.76) (0.74)
c. WARRANTS
Fiscal Year 2003: For the year ended December 31, 2003, 100,000
warrants at an exercise price of $1.75 have been exercised.
F-18
Fiscal Year 2002: On March 25, 2002, the Company issued warrants to
purchase up to 600,000 shares of common stock of the Company at an
exercise price of $1.45 per share. The warrants are exercisable through
April 5, 2005. (See Note 13.)
On December 30, 2002, the Company issued warrants to purchase up to
300,000 shares of common stock of the Company at an exercise price of
$1.75 per share. The warrants are exercisable through December 30,
2005.
12. INCOME TAXES
Hong Kong profits tax has been provided at a rate of 17.5% (2002: 16%)
on the estimated assessable profits arising in Hong Kong for each of
the years ended December 31, 2003 and 2002. Provision for Hong Kong
profits tax for 2003 was $32,000 (2002: $0.) There is no provision for
U.S. federal income tax due to the Company's loss position.
Deferred tax asset represents the tax benefit of U.S. net operating
loss carryforwards as follows:
2003 2002
--------- ---------
Non current deferred tax asset $ 1,146 $ 884
Valuation allowance (1,146) (884)
Net deferred tax asset $ - $ -
========= =========
The Company and its subsidiaries are subject to income taxes on an
equity basis on income arising in or derived from the tax jurisdictions
in which they operate. The Company is subject to United States federal
income tax at a rate of 34%. The Hong Kong subsidiaries are subject to
Hong Kong profits tax at a rate of 17.5% (2002: 16%)%. The
reconciliation of the United States federal income tax rate to the
effective income tax rate based on the loss before income taxes in the
consolidated statements of operations is as follows (in thousands):
ENTITY 2003 2002
-------------------------------------------- --------- ---------
Company, including discontinued operations $ (771) $ (1,357)
Hong Kong subsidiaries (1,107) (1,564)
--------- ---------
Total $ (1,878) $ (2,921)
========= =========
No tax benefits have been recorded related to the loss generated by the
Company or any of its subsidiaries. The reconciliation of the United
States federal income tax rate to the effective income tax rat e based
on the loss before income taxes in the consolidated statements of
operations is as follows:
2003 2002
--------- ---------
United States federal income tax rate $ (34.0%) (34.0%)
Tax losses not recognized 9.7 9.6
Effect of different tax rates in foreign
jurisdictions 24.3 24.4
--------- ---------
Effective income tax rate -% -%
--------- ---------
The valuation allowance increased by $456 and $712 at December 31, 2003
and 2002, respectively. The Company has net operating loss
carryforwards of approximately $3,300 available to offset future
income, which expire through 2022. Pursuant to the Tax Reform Act of
1986, annual utilization of the Company's net operating loss
carryforwards may be limited if a cumulative change in ownership of
more than 50% is deemed to occur within any three-year period.
13. RELATED PARTY TRANSACTIONS
Employment Agreement - The Company has an employment agreement with its
President and Chief Executive Officer. The employment agreement
provides for $100,000 cash compensation plus $60,000 annual share
compensation until April 1, 2005. The officer who is also eligible for
an annual bonus for each fiscal year of the Company during the term
F-19
based on performance standards as the Board or compensation committee
designates. The CEO is entitled to receive a monthly housing allowance
of $2,500, monthly automobile allowance of $500, Tax Preparation
expenses of $2,000 per year, and Cash Bonus based on net profit of the
Company. Under the Company's stock option plan, the President and CEO
was granted an option to acquire 200,000 shares at an exercise price
per share of $0.50, which has been exercised during the year.
Fiscal Year 2002: On March 28, 2002, the Company completed a $3,480,000
private placement by issuing 2,400,000 shares of restricted common
stock at a price of $1.45 per share to Sino Mart Management Limited
("Sino Mart"), whose executive director is the father of the chairman
and CEO of the Company. In addition, the Company issued Sino Mart a
warrant to purchase up to an additional 600,000 shares of restricted
common stock at $1.45 per share. The warrant is fully exercisable
beginning on April 1, 2002. The $3,480,000 private placement
transaction was approved at a special stockholder meeting held on March
25, 2002. The Company's issuance of restricted shares and warrant to
Sino Mart represents approximately 62% of the number of shares of the
Company's common stock outstanding after the private placement based on
beneficial ownership on a fully-diluted basis, making Sino Mart the
largest shareholder of the Company.
The Company received $105,450 from Webplus Inc in which one of the
directors of the Company also served as a director of Webplus Inc.
14. SELECTED QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
The following table set forth selected quarterly financial information
for the fiscal 2003 quarters ended December 31, 2003 and for the fiscal
2002 quarters ended December 31, 2002. The operating results for any
given quarter are not necessarily indicative of results for any future
periods (in thousands).
Fiscal 2003 Quarter Ended Fiscal 2002 Quarter Ended
--------------------------------------- -----------------------------------------
31-Mar 30-Jun 30-Sep 31-Dec 31-Mar 30-Jun 30-Sep 31-Dec
------- ------- ------- ------- ------- ------- -------- -------
Revenue $ 92 $ 128 $ 124 $ 873 $1,396 $ 723 $ 187 $ 13
Gross margin/(Loss) 56 82 28 353 298 (256) 99 (121)
Loss from operations (450) (248) (243) (1,582) (303) (340) (483) (1,518)
Other items, net (164) 16 57 736 22 21 5 (15)
Provision for impairment of
affiliated companies - - - - (7) (7) (8) (75)
Loss from discontinued operations - - - - - - - (107)
------- ------- ------- ------- ------- ------- -------- -------
Net loss $ (614) $ (232) $ (186) $ (846) $ (365) $ (376) $(1,251) $ (929)
------- ------- ------- ------- ------- ------- -------- -------
BASIC AND DILUTED LOSS PER SHARE:
Loss from continuing operations $(0.09) $(0.04) $(0.05) $(0.26) $(0.11) $(0.09) $ (0.12) $(0.36)
Other items, net (0.03) - 0.01 0.12 0.01 0.01 - -
Provision for impairment losses
of affiliated companies - - - - - - - (0.02)
Net losses from discontinued
operations - - - - - - 0.01 (0.03)
------- ------- ------- ------- ------- ------- -------- -------
Net losses $(0.12) $(0.04) $(0.04) $(0.14) $(0.14) $(0.10) $ (0.32) $(0.22)
======= ======= ======= ======= ======= ======= ======== =======
F-20
15. EVENTS SUBSEQUENT TO DECEMBER 31, 2003
Private placement of Common Stock - In January, 2004, the Company
closed a $3 million equity private placement in which an aggregate of
617,285 common shares of the Company were issued and warrants to
purchase up to an aggregate of 154,320 common shares of the Company
were issued to a group of institutional investors.
Termination of joint venture - See details in Note 2.
F-21
2,702,230 SHARES OF COMMON STOCK
PACIFICNET INC.
PROSPECTUS
February __, 2005
UNTIL May __, 2005 (90 DAYS AFTER THE DATE OF THIS PROSPECTUS), ALL DEALERS
EFFECTING TRANSACTIONS IN THE REGISTERED SECURITIES, WHETHER OR NOT
PARTICIPATING IN THIS DISTRIBUTION, MAY BE REQUIRED TO DELIVER A PROSPECTUS.
THIS DELIVERY REQUIREMENT IS IN ADDITION TO THE OBLIGATIONS OF DEALERS TO
DELIVER A PROSPECTUS WHEN ACTING AS UNDERWRITERS AND WITH RESPECT TO THEIR
UNSOLD ALLOTMENTS OR SUBSCRIPTIONS.
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
The estimated expenses payable by the Registrant in connection with the
issuance and distribution of the securities being registered are as follows:
SEC Registration Fee.................................. $ 2,532.44
Legal Fees and Expenses............................... $ 50,000.00
Accounting Fees and Expenses.......................... $ 7,000.00
------------
Total........................................ $ 59,532.44
============
INDEMNIFICATION OF OFFICERS AND DIRECTORS
Section 145 of the Delaware General Corporation Law allows companies to
indemnify their directors and officers against expenses, judgments, fines and
amounts paid in settlement under the conditions and limitations described in the
law.
The Certificate of Incorporation and By-Laws of the Registrant provide
that the Registrant shall indemnify any person to the full extent permitted by
the Delaware General Corporation Law (the "DGCL"). Section 145 of the DGCL,
relating to indemnification, is hereby incorporated herein by reference.
RECENT SALES OF UNREGISTERED SECURITIES
The following private placements of the Company's securities were made
in reliance upon the exemption from registration under Section 4(2) of the
Securities Act of 1933, as amended, and/or, Rule 506 of Regulation D or
Regulation S, promulgated under the Securities Act. The Company did not use
underwriters in any of the following private placements.
On November 17, 2004, the Company consummated a private placement (the
"November Private Placement") for the sale of 588,410 restricted shares of our
Common Stock to accredited investors. The aggregate proceeds from the sale of
the shares in the November Private Placement was $1,829,955. In connection with
the November Private Placement we issued warrants to purchase 117,852 shares of
our Common Stock in the aggregate. The exercise price of the warrants are $3.89
and they are exercisable for a period of five years from the date of issuance.
On December 16, 2004, the Company consummated a private placement (the
"December Private Placement") for the sale of 1,000,002 restricted shares of our
Common Stock to a group of institutional investors. The aggregate proceeds from
the sale of the shares in the December Private Placement was $7,500,000. In
connection with the December Private Placement we issued warrants to purchase
350,000 shares of our Common Stock in the aggregate. The exercise price of the
warrants are $12.21 and they are exercisable for a period of five years from the
date of issuance. All of the shares issued and shares underlying the warrants
are being registered for resale on this prospectus.
In January 2004, the Company closed a $3 million equity private
placement in which an aggregate of 617,285 shares of common stock and warrants
to purchase up to an aggregate of 154,320 shares of common stock of the Company
were issued to a group of institutional investors. The warrants are exercisable
until January 15, 2009 at an exercise price of $7.15 per share.
On March 28 2002, the Company completed a $3,480,000 private placement
by issuing 2,400,000 shares of restricted common stock at a price of $1.45 per
share to Sino Mart Management Limited ("Sino Mart"), whose executive director is
the father of the chairman and CEO of the Company. In addition, the Company
issued Sino Mart a warrant to purchase up to an additional 600,000 shares of
restricted common stock at $1.45 per share. The warrant is exercisable until
April 5, 2005.
In January 2002, the Company completed a $520,000 private placement by
issuing 325,000 shares of restricted common stock at a price of $1.60 per share
to an individual investor, Mr. Shu Jen.
II-1
EXHIBITS
EXHIBIT
NUMBER DESCRIPTION
--------------------------------------------------------------------------------
2.1 Share Exchange Agreement by and among Davin Enterprises, Inc., Carl
Tong, Leo Kwok and Acma Strategic Holdings Limited dated December 15,
1997. (1)
2.2 Share Exchange Agreement dated February 17, 2000, between Registrant
and holders of membership interests in PacificNet.com LLC.(2)
2.3 Supplement to Share Exchange Agreement dated April 29, 2000, between
Registrant and holders of membership interests in PacificNet.com LLC.
(2)
2.4 Agreement dated September 30, 2000, among the Company and the
"Purchasers" named therein. (3)
2.5 Supplemental Agreement dated October 3, 2000, among the Company and the
"Purchasers" named therein. (3)
2.6 Deed of Waiver, dated October 3, 2000, by Creative Master Limited in
favor of the Company. (3)
3.1 Certificate of Incorporation, as amended. (4)
3.2 Form of Amended By Laws of the Company. (4)
4 Specimen Stock Certificate of the Company.
4.1 Securities Purchase Agreement, dated as of January 15, 2004, among
PacificNet Inc. and the purchasers identified therein (5)
4.2 Form of Common Stock Warrant issued to each of the purchasers (5)
4.3 Form of Common Stock Warrant issued to each of the purchasers,dated
December 9, 2004 (10)
4.4 Form of Common Stock Warrant issued to each of the purchasers,dated
November 17, 2004 (10)
5.1+ Opinion of Loeb & Loeb LLP regarding legality of the securities
10.1 Form of Indemnification Agreement with officers and directors. (1)
10.2 Amendment to 1998 Stock Option Plan. (8)
10.3 Form of Notice of Stock Option Grant and Stock Option Agreement under
the 1998 Stock Option Plan. (2)
10.4 Amendment dated January 31, 2002 to the Subscription Agreement by and
between the Company and Sino Mart Management Ltd., dated as of December
9, 2001 (6)
10.6 Sub-Lease Agreement dated August 30, 2002.(8)
10.7 Agreement dated on December 1, 2003 for the Sale and Purchase and
Subscription of Shares in Epro Telecom Holdings Limited (9)
10.8 Agreement dated on December 15, 2003 for the Sale and Purchase of
Shares in Beijing Linkhead Technologies Co., Ltd. (9)
10.9 Securities Purchase Agreement, dated as of December 9, 2004, among
PacificNet Inc. and the purchasers identified therein (10)
10.10 Securities Purchase Agreement, dated as of November 17, 2004, among
PacificNet Inc. and the purchasers identified therein (10)
10.11 Agreement for the Sale and Purchase of Shares in Shanghai Classic Group
Limited (4)
10.12 Agreement for the Sale and Purchase of Shares of Cheer Era Limited (11)
10.13 Agreement for the Sale and Purchase of Shares in Smartime Holdings
Limited
14 Code of Ethics (9)
21 List of Subsidiaries
23.1+ Consent of Clancy & Co. P.L.L.C
23.3 Consent of Loeb & Loeb LLP (included in the opinion filed as Exhibit
5.1)
II-2
24.1+ Power of Attorney (Included on signature page to Registration
Statement)
99.2 Subscription Agreement by and between the Company and Sino Mart
Management Ltd., dated as of December 9, 2001 (6)
99.3 19.9% Private Placement Agreement and Amendments between Ho Shu-Jen and
PacificNet.com Inc. (7)
-----------------------
+ Filed herewith.
(1) Incorporated by reference to the Company's Form SB-2 filed on October 21,
1998.
(2) Incorporated by reference to the Company's Form 8-K filed on August 11,
2000.
(3) Incorporated by reference to the Company's Form 8-K filed on October 17,
2000.
(4) Incorporated by reference to the Amendment to Registration Statement on
Form S-3 on Form SB-2/A (Registration No. 333-113209) filed on April 21,
2004.
(5) Incorporated by reference to the Registration Statement on Form S-3 filed
on March 2, 2004
(6) Incorporated by reference to the Company's Form 8-K filed on March 20,
2002.
(7) Incorporated by reference to the Company's Form 10-KSB filed on April 16,
2002.
(8) Incorporated by reference to the Company's 10-KSB filed on March 31, 2003.
(9) Incorporated by referenced to the Company's Form 10-KSB filed on April 2,
2004.
(10) Previously filed as an exhibit to the Form SB-2 Registration Statement
filed on December 30, 2004.
(11) Incorporated by reference to the Company's Form 8-K filed on April 19,
2004.
II-3
UNDERTAKINGS
Undertaking Required by Item 512 of Regulation S-B.
(a) The undersigned registrant hereby undertakes:
(1) To file, during any period in which it offers or sells securities,
a post-effective amendment to this Registration Statement to:
(i) include any prospectus required by Section 10(a)(3) of the
Securities Act;
(ii) reflect in the prospectus any facts or events which,
individually or together, represent a fundamental change in the
information in the Registration Statement. Notwithstanding the
foregoing, any increase or decrease in volume of securities offered (if
the total dollar value of securities offered would not exceed that
which was registered) and any deviation from the low or high end of the
estimated maximum offering range may be reflected in the form of
prospectus filed with the Commission pursuant to Rule 424(b) if, in the
aggregate, the changes in volume and price represent no more 20 percent
change in the maximum aggregate offering price set forth in the
"Calculation of Registration Fee" table in the effective Registration
Statement;
II-4
(iii) include any material information with respect to the
plan of distribution not previously disclosed in the Registration
Statement or any material change to such information in the
registration statement;
PROVIDED, HOWEVER, that paragraphs (a)(1)(I) and (a)(1)(ii) of
this section do not apply if the Registration Statement is on Form S-3,
Form S-8 or Form F-3, and the information required to be included in a
post-effective amendment by those paragraphs is contained in periodic
reports filed with or furnished to the Commission by the registrant
pursuant to section 13 or section 15(d) of the Securities Exchange Act
of 1934 that are incorporated by reference in the Registration
Statement.
(2) That, for the purpose of determining any liability under the
Securities Act, each such post-effective amendment shall be deemed to be a new
registration statement relating to the securities offered therein, and the
offering of such securities offered therein, and the offering of such securities
at that time shall be deemed to be the initial bona fide offering thereof.
(3) To remove from registration by means of a post-effective amendment
any of the securities being registered which remain unsold at the termination of
the offering.
(b) The undersigned registrant hereby undertakes that for purposes of
determining any liability under the Securities Act of 1933, each filing of the
registrant's annual report pursuant to Section 13(a) or Section 15(d) of the
Securities Exchange Act of 1934 (and, where applicable, each filing of an
employee benefit plan's annual report pursuant to section 15(d) of the
Securities Exchange Act of 1934) that is incorporated by reference in the
registration statement shall be deemed to be a new registration statement
relating to the securities offered therein, and the offering of such securities
at that time shall be deemed to be the initial bona fide offering thereof.
(c) Insofar as indemnification for liabilities arising under the Securities Act
may be permitted to directors, officers and controlling persons of the
registrant pursuant to the provisions described in Item 15 hereof or otherwise,
the registrant has been advised that in the opinion of the Securities and
Exchange Commission such indemnification is against public policy as expressed
in the Securities Act and is therefore, unenforceable. In the event that a claim
for indemnification against such liabilities (other than the payment by the
registrant of expenses incurred or paid by a director, officer, controlling
person of the registrant in the successful defense of any action, suit or
proceeding) is asserted by such director, officer or controlling person in
connection with the securities being registered, the registrant will, unless in
the opinion of counsel the matter has been settled by controlling precedent,
submit to a court of appropriate jurisdiction the question whether such
indemnification by it is against public policy as expressed in the Securities
Act and will be governed by the final adjudication of such issue.
II-5
SIGNATURES
In accordance with the requirements of the Securities Act of 1933, the
Registrant certifies that it has reasonable grounds to believe that it meets all
of the requirements for filing this Form SB-2 and has authorized this Amendment
No. 1 to Form SB-2 to be signed on its behalf by the undersigned in the City of
Hong Kong, on February 2, 2005.
PACIFICNET INC.
By: /s/ Tony Tong
-------------------------
Tony Tong, Chairman and
Chief Executive Officer
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature
appears below constitutes and appoints Tony Tong and Victor Tong, and each of
them (with full power of each to act alone), severally, as his or her true and
lawful attorneys-in-fact and agent, with full power of substitution and
resubstitution, for him or her and in his or her name, place, and stead, in any
and all capacities, to sign any and all amendments (including post-effective
amendments, exhibits thereto and other documents in connection therewith) to
this Registration Statement and any subsequent registration statement filed by
the registrant pursuant to Rule 462(b) of the Securities Act of 1933, as
amended, which relates to this Registration Statement, and to file the same,
with all exhibits thereto, and other documents in connection therewith, with the
Securities and Exchange Commission, granting unto said attorneys-in-fact and
agent full power and authority to do and perform each and every act and thing
requisite and necessary to be done in connection therewith, as fully to all
intents and purposes as he might or could do in person, hereby ratifying and
confirming all that said attorneys-in-fact and agent, or any of them, or their
substitute or substitutes, may lawfully do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Act of 1933, as amended,
this Registration Statement has been signed by the following persons in the
capacities and on the dates indicated:
Signature Title Date
-------------------------------- ---------------------------------------- ------------------
/s/ Tony Tong Chairman and Chief Executive Officer February 2, 2005
--------------------------------
Tony Tong
/s/ Victor Tong President and Director February 2, 2005
--------------------------------
Victor Tong
/s/ Shaojian Wang Chief Financial Officer, Principal February 2, 2005
-------------------------------- Accounting Officer, Vice President of
Shaojian Wang International Business and Director
/s/ Peter Wang Director February 2, 2005
--------------------------------
Peter Wang
/s/ Michael Ha Director February 2, 2005
--------------------------------
Michael Ha
/s/ Jeremy Goodwin Director February 2, 2005
--------------------------------
Jeremy Goodwin
/s/ Tao Jin Director February 2, 2005
--------------------------------
Tao Jin
II-6