pacific_forms1-121307.htm
As
filed with the Securities and Exchange Commission on December 17,
2007
Registration
No. 333-134127
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
POST-EFFECTIVE
AMENDMENT NO. 1
to
FORM
S-1
REGISTRATION
STATEMENT
UNDER
THE
SECURITIES ACT OF 1933
PacificNet
Inc.
(Exact
name of Registrant as specified in its charter)
Delaware
|
|
3669
|
|
91-2118007
|
(State
or Other Jurisdiction of
Incorporation
or Organization)
|
|
(Primary
Standard Industrial
Classification
Code Number)
|
|
(I.R.S.
Employer
Identification
Number)
|
23/F,
Tower A, Timecourt, No.6 Shuguang Xili
Chaoyang
District, Beijing, China 100028
(Address,
including zip code, and telephone number,
including
area code, of Registrant’s principal executive offices)
Tony
Tong
Chief
Executive Officer
PacificNet
Inc.
23/F,
Tower A, Timecourt, No.6 Shugang Xili
Chaoyang
District, Beijing, China 100028
0086-10-59225000
(Name,
address, including zip code, and telephone number,
including
area code, of agent for service)
Copies
to:
Mitchell
S. Nussbaum, Esq.
Loeb
& Loeb LLP
345
Park Avenue
New
York, New York 10154
Approximate
date of commencement of proposed sale to the public: From time to time
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. o
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. o
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
statement number of the earlier effective registration statement for the
same
offering. o
If
delivery of the prospectus is expected to be made pursuant to Rule 434, check
the following box. o
CALCULATION
OF REGISTRATION
FEE
Title
of each class of securities to be registered
|
|
Amount
to be registered
|
|
|
Proposed
maximum offering price per share
|
|
|
Proposed
maximum aggregate offering price
|
|
|
Amount
of registration fee
|
|
Common
Stock, $.0001 par value per share
|
|
|
800,000
|
(1)(2)
|
|
$ |
10.00 |
(3) |
|
$ |
8,000,000
|
|
|
$ |
856.00
|
|
Common
Stock, $.0001 par value per share
|
|
|
416,000
|
(2)(4) |
|
$ |
12.20 |
(5) |
|
$ |
5,075,200
|
|
|
$ |
543.05
|
|
Common
Stock, $.0001 par value per share
|
|
|
104,000
|
|
|
$ |
10.00 |
(7) |
|
$ |
1,040,000
|
|
|
$ |
111.28
|
|
Common
Stock, $.0001 par value per share
|
|
|
26,000
|
(6) |
|
$ |
7.49 |
(8) |
|
$ |
194,740
|
|
|
$ |
20.84
|
|
Common
Stock, $.0001 par value per share
|
|
|
400,000
|
(9) |
|
$ |
10.00 |
(3) |
|
$ |
4,000,000
|
|
|
$ |
428.00
|
|
Common
Stock, $.0001 par value per share
|
|
|
208,000
|
(9) |
|
$ |
12.20 |
(5) |
|
$ |
2,537,600
|
|
|
$ |
271.52
|
|
Common
Stock, $.0001 par value per share
|
|
|
52,000
|
(9) |
|
$ |
10.00 |
(3) |
|
$ |
520,000
|
|
|
$ |
55.64
|
|
TOTALS
|
|
|
2,006,000
|
|
|
|
|
|
|
$ |
21,367,540
|
|
|
$ |
2,286.33
|
(10) |
(1) Represents
the shares of our common stock issuable upon conversion of convertible
debentures due March 13, 2009 and issuable in lieu of cash payments of monthly
redemption amounts.
(2) Pursuant
to Rule 416 of the Securities Act of 1933, as amended, the shares of common
stock offered hereby also include such presently indeterminate number of shares
of our common stock as shall be issued by us to the selling shareholders as
a
result of stock splits, stock dividends or similar transactions.
(3)
Estimated solely for purposes of calculating the registration fee in
accordance with Rule 457(g) under the Securities Act of 1933, as amended, based
on the higher of (a) the conversion price of the convertible debentures, (b)
the
offering price of securities of the same class included in this Registration
Statement, or (c) the price of securities of the same class as determined using
the average of the high and low prices, as reported on The Nasdaq National
Market, within five business days of the filing of this Registration
Statement.
(4) Represents
shares of our common stock issuable upon the exercise of outstanding
warrants.
(5) Estimated
solely for purposes of calculating the registration fee in accordance with
Rule
457(g) under the Securities Act of 1933, as amended, based on the higher of
(a)
the exercise price of the warrants, (b) the offering price of securities of
the
same class included in this Registration Statement, or (c) the price of
securities of the same class as determined using the average of the high and
low
prices, as reported on The Nasdaq National Market, within five business days
of
the filing of this Registration Statement.
(6) Represents
shares of our common stock that may be issued in the form of the payment of
interest on the convertible debentures due March 13, 2009.
(7)
Assuming the debentures remain outstanding for three years and based upon the
higher of (a) the highest conversion price at which shares issuable as interest
on the convertible debentures will be issued, (b) the offering price of
securities of the same class included in this Registration Statement, or (c)
the
price of securities of the same class as determined using the average of the
high and low prices, as reported on The Nasdaq National Market, within five
business days of the filing of this Registration Statement.
(8)
Estimated solely for purposes of calculating the registration fee in accordance
with Rule 457(c) under the Securities Act of 1933, as amended based on the
average of the high and low prices, as reported on The Nasdaq National Market,
within five business days of the filing of this Registration
Statement.
(9)
Under
the terms of the registration rights agreement, we are required to register
150%
of the shares of common stock issuable upon conversion of the debentures, the
warrants, and interest on the convertible debentures.
(10)
Previously paid.
Pursuant
to Rule 429 under the Securities Act of 1933, the prospectus included in this
registration statement is a combined prospectus relating also to Registration
Statement No. 333-121792 previously filed by the registrant on Form SB-2 and
declared effective on February 4, 2005. This Registration Statement, upon
effectiveness, also constitutes Post-Effective Amendment No. 2 to Registration
Statement No. 333-121792, and such post-effective amendment shall hereafter
become effective concurrently with the effectiveness of this Registration
Statement and in accordance with Section 8(c) of the Securities Act of
1933.
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.
EXPLANATORY
NOTE
This
Post-Effective Amendment No. 1 on Form S-1 contains an updated prospectus
relating to (i) the current business operations of the registrant, (ii) restated
audited financial statements for the fiscal years ended December 31, 2006,
2005
and 2004, and (iii) the disclosure of certain material events since the filing
and effectiveness of the original registration statement on Form S-1 (Reg No.
333-134127). The securities being offered by the selling
stockholders named in the prospectus contained herein were registered on the
original registration statement that was declared effective by the Securities
and Exchange Commission on December 8, 2006. All filing fees payable
in connection with the registration of the securities being offered for resale
herein were previously paid in connection with the filing of the original
registration statement.
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.
SUBJECT
TO COMPLETION, DATED December 17, 2007
PROSPECTUS
PACIFICNET
INC.
3,106,767
Shares of Common Stock
This
prospectus relates to the resale of up to 3,106,767 shares of our common stock
being offered by the selling stockholders. Of the shares covered by
this prospectus, 756,293 shares have been issued, 690,908 shares are
issuable upon the conversion of convertible debentures, 985,918 shares are
issuable upon the exercise of warrants, 104,000 shares may be issued for the
payment of interest on the convertible debentures and 569,648 shares have been
registered pursuant to our obligation in our registration rights agreement
to
register 150% of the shares of common stock issuable upon conversion of the
debentures, warrants and interest on the debentures. Of the shares of
common stock included in this prospectus, 1,152,228 of the shares were
previously registered. 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 $10,606,647.
Our
shares of common stock are traded on The Nasdaq Global Market under the symbol
“PACT.” The last reported sale price of our common stock on December
11, 2007, was $4.87.
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 5 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 ________, 2007.
TABLE
OF CONTENTS
Page
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PROSPECTUS
SUMMARY
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1
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RISK
FACTORS
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8
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USE
OF PROCEEDS
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22
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SELLING
STOCKHOLDERS
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23
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PLAN
OF DISTRIBUTION
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26
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SELECTED
FINANCIAL DATA
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28
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SUPPLEMENTARY
FINANCIAL INFORMATION
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30
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MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
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31
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BUSINESS
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63
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MANAGEMENT
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84
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SECURITY
OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
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95
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CERTAIN
RELATIONSHIPS AND RELATED TRANSACTIONS
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96
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MARKET
FOR OUR COMMON STOCK, DIVIDENDS AND RELATED STOCKHOLDER
INFORMATION
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97
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DESCRIPTION
OF CAPITAL STOCK
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99
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TRANSFER
AGENT AND REGISTRAR
|
100
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LEGAL
MATERS
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100
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EXPERTS
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100
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|
WHERE
YOU CAN FIND MORE INFORMATION
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100
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INDEX
TO CONSOLIDATED FINANCIAL STATEMENTS
|
F-1
|
PROSPECTUS
SUMMARY
This
summary highlights selected information appearing elsewhere in this prospectus.
While this summary highlights what we consider to be the most important
information about us, you should carefully read this prospectus and the
registration statement of which this prospectus is a part in their entirety
before investing in our common stock, especially the risks of investing in
our
common stock, which we discuss later in “Risk Factors,” and our financial
statements and related notes beginning on page F-1. Unless the context requires
otherwise, the words “we,” “us” and “our” refer to PacificNet Inc. and its
subsidiaries.
About
PacificNet Inc.
OVERVIEW
PacificNet
Inc. is a leading provider of gaming technology, e-commerce and Customer
Relationship Management (CRM) in China. Our goal is to take a leading
role in providing gaming technology and CRM, which are rapidly expanding
business sections in Asia. Our gaming products are specially designed
for the Chinese and Asian gamers and we focus on integrating localized Chinese
and Asian themes and content, advanced graphics, digital sound effects and
popular domestic music, with secondary bonus games and jackpots. Our gaming
clients include the leading hotels, casinos, and gaming operators in Macau,
Asia, and Europe.
Through
our subsidiaries we invest in and operate companies that provide outsourcing
services, telecom value-added services (VAS) and telecom products and services.
Our business process outsourcing (BPO) services group includes call centers,
providing customer relationship management (CRM), and telemarketing services.
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 voice over internet protocol (VOIP), as well as mobile phone VAS,
such as short messaging services (SMS) and multimedia messaging services (MMS).
Our telecom products and services include IT and distribution services, and
online mobile phone distribution,. Our ecommerce and CRM clients include the
leading telecom companies, banks, insurance, travel, marketing and business
services companies and telecom consumers in Greater China such as China Telecom,
China Mobile, Unicom, PCCW, Hutchison Telecom, Bell24, Motorola, Nokia, SONY,
TCL, Huawei, American Express, Citibank, HSBC, Bank of China, Bank of East
Asia,
DBS, TNT, China and Hong Kong government.
PacifcNet
employs approximately 1,200 staff in our various subsidiaries throughout China
with offices in Hong Kong, Beijing, Shanghai, Shenzhen, Guangzhou, Macau and
Zhuhai China, USA, and the Philippines.
PacificNet’s
Business Units
We
categorize our current operations into two business units consisting of our
gaming technology business, which includes electronic gaming machines, mobile
games and i-gaming software, and our legacy business, which includes CRM,
e-commerce and telecom products.
Gaming
Technology Business Operating Subsidiaries
—
|
PacificNet
Games Limited (PacGames), is a leading provider of Asian
multi-player electronic gaming machines, gaming technology solutions,
gaming related maintenance, IT and distribution services for the
leading
hotel, casino and slot hall operators based in Macau, China and other
Asian gaming markets.
|
—
|
Take1
Technologies (www.take1technologies.com) , is in the business of
designing and manufacturing electronic multimedia entertainment kiosks,
coin-op kiosks and machines, electronic gaming machines (EGM), bingo
and
slot machines, AWP (Amusements With Prizes) games, server-based
downloadable games systems, and Video Lottery Terminals (VLT) such
as Keno
and Bingo machines, including hardware, software, and
cabinets.
|
Legacy
Business Operating Subsidiaries
—
|
Pacific
Solutions Technology, is a CMM Level 3 certified software
development center with over 200 software programmers located in
Shenzhen,
China, and specializes in the development of client-server systems,
internet e-commerce software, online and casino gaming systems and
slot
machines, banking and telecom applications using Microsoft Visual
C++,
Java, and other rapid application development tools.
|
—
|
PacificNet
Epro (www.EproTel.com.hk): CRM Call Center and Customer Services
Outsourcing
|
—
|
PacificNet
Clickcom (www.clickcom.com.cn), MOABC.com : VAS,SP,( SMS,
WAP)
|
—
|
Guangzhou
Wanrong (www.my2388.com) : VAS, SP, (SMS,MMS,IVR,WAP, Java
Games)
|
—
|
PacificNet
Communications Limited,
|
—
|
iMobile,
(www.imobile.com.cn, www.18900.com,
wap.17wap.com)
|
PacificNet's
Gaming Products
Our
gaming products include:
-
Multi-player
Electronic Table Games: Baccarat, Sicbo, Fish-Prawn-Crab, and Roulette
Machines, server based games (SBG) with multiple client betting
stations.
-
Slot
Machines
-
Bingo
and Keno Machines
-
Video
Lottery Terminals (VLTs)
-
Server-Based
Gaming Machines (SBG)
-
Amusement
With Prices (AWP) Machines
-
Online
iGaming Software Development
-
Client-Server
Gaming Systems
-
CMM
Level 3 Certified Gaming Software Development Center in China with 200
Professional Software Developers
-
Gaming
Systems, Cabinet Design and Sales, Parts Sales, OEM Games. We design and
sell
gaming machine cabinets, replacement parts.
PacificNet
Gaming Technology
1.
Participation games: Company-owned gaming machines that we
lease based upon any of the following payment methods: (1) a percentage of
the
net win of the gaming machines, (2) fixed daily fees, or (3) in the case of
wide-area progressive gaming machines, a percentage of the amount wagered or
a
combination of a fixed daily fee and a percentage of the amount
wagered.
2.
Wide Area Game Network, Community Gaming: Electronically linked gaming
machines that are located across multiple casinos within a gaming jurisdiction.
The linked gaming machines contribute to and compete for large, system-wide
progressive jackpots and are designed to increase gaming machine play for
participating casinos by giving the players the opportunity to win a larger
jackpot than on a stand-alone gaming machine.
3.
Local Area Progressive Jackpots (LAP) participation games:
Electronically linked gaming machines that are located within a single casino
to
a progressive jackpot for that specific casino.
4.
Video Lottery Terminals: Video gaming machines featured with localized
Chinese and Asian themes and contents, advanced graphics, digital sound effects
and music and incorporate many of the same features from our other gaming
machines.
5.
Server-based Gaming: A gaming system in which game content and
peripherals are configured, maintained and refreshed over a network that links
groups of gaming machines to a remote server that also enables custom
configuration by operators and central determination of game
outcomes.
Gaming
Market Overview on Macau, China
As
of the
end of 2006, Macau (a Special Administrative Region of the People's Republic
of
China) became the largest and fastest-growing gaming market in the world in
total revenues. According to statistics provided by the Macau
government, in 2006, Macau's gaming revenues exceeded US$7 billion (MOP 56.2
billion patacas), surpassing the Las Vegas Strip gaming revenues of US$6.6
billion. Macau borders Zhuhai City of Guangdong Province of China, one of the
country's wealthiest and most developed regions and is an hour away from Hong
Kong via ferry. In 2006, the number of tourists visiting Macau reached an
all-time record of 22 million, an increase of 17 percent compared with 2005,
of
which 55% or 12 million visitors were from mainland China. At the end of 2006,
there were 22 casinos, 83 hotels and similar establishments in Macau with close
to 13,000 rooms. By 2010, the number of tourists is expected to nearly double
to
nearly 30 million visitors per year. Approximately one billion people live
within a three-hour flight of Macau. Numerous hotel, gaming, and other projects
are in the works in Macau which are expected to add over 10,000 guest rooms
and
over 20,000 live entertainment seats in eight separate venues. The number of
hotel-casinos in operation and in development in Macau continues to grow,
including well-known Chinese names such as Galaxy and Melco, and famous Las
Vegas names such as the Sands, the Venetian, Wynn Resort and Crown Macau. With
the disposable income of the average Chinese on the rise, Macau's gaming and
entertainment market is expected to grow for years to come. Macau is the only
area in China where gambling is legal.
RECENT
DEVELOPMENTS
ACQUISITION
OF GUANGDONG POLY BLUE EXPRESS COMMUNICATIONS CO.LTD
On
September 5, 2007, we entered into an agreement to acquire a 51% equity interest
in Guangdong Poly Blue Express Communications Co., Ltd. (Guangdong
Poly). Guangdong Poly is a leading operator approved by China's
Welfare Lottery Center to develop and operate real-time electronic paperless
lottery services in China, in accordance with the rules and regulations set
by
China's Welfare Lottery Center. US$2 million, of which US$1 million was payable
in PACT restricted shares and US$1 million payable in cash. The
acquisition was closed on October 25, 2007.
SALE
OF GUANGZHOU 3G
As
part
of our strategy to move away from telecom VAS, on April 30, 2007, through our
wholly-owned subsidiary, PacificNet Strategic Investment Holdings Limited (“PSI
Holdings”), we entered into a stock purchase and sale agreement with Heyspace
International Limited to sell PSI Holdings’ 51% interest in Guangzhou 3G's
parent company, Pacific 3G Information & Technology Co. Limited. The
purchase price was $6,000,000 payable in installments over a six month period
or
earlier if Heyspace completed its initial public offering prior to October
31,
2007. On November 25, 2007, we entered into a memorandum of
understanding (“MOU”) with Heyspace. Pursuant to the MOU, we agreed
with Heyspace that for a period commencing on November 25,
2007 through March 31, 2008, we are free to seek new buyers to
purchase PSI Holdings’ share ownership in Guangzhou 3G at a consideration and
term which at a minimum will not cause any disposal loss to us. In
addition, Heyspace agreed to return to us the 51% ownership of Guangzhou3G
which
Heyspace had agreed to purchase, but did not complete its payment obligations
under the stock purchase and sale agreement.
COMPLETION
OF $5 MILLION PRIVATE PLACEMENT FINANCING FOR GAMING TECHNOLOGY EXPANSION IN
MACAU AND ASIA
On
February 6, 2007, PacGames entered into a definitive agreement for a $5 million
financing in the form of secured convertible note with Pope Asset Management,
LLC (Pope), an institutional investor. Proceeds from the financing will be
used
to provide PacGames with additional working capital in expanding its gaming
technology operations, funding for strategic acquisitions in China and funding
for general corporate purposes. The $5 million convertible note issued by
PacGames to Pope matures on February 6, 2010, and may be converted into 26%
to
32% ownership interest in PacGames based on reaching certain net income
milestones during fiscal year 2007. The interest rate on the convertible note
will initially be set at 8%, and shall increase to 15% if the note is not
converted prior to maturity.
FORMING
A CALL CENTER JOINT VENTURE WITH BELLSYSTEM24 IN SHANGHAI,
CHINA
On
January 5, 2007, we entered into a joint venture agreement with Bellsystem24,
the largest telemarketing call center in Japan, to form a new joint venture
company called BELL-PACT Consulting Limited. The new joint venture company
is
jointly owned 40% by PacificNet and 60% by Bellsystem24. The joint venture
will
offer CRM call center consulting and training services, technical and business
consulting services, network product sales, software development, system
integration, as well as value-added services and other relevant services out
of
Shanghai catering to the Greater China markets.
ADDITIONAL
ACQUISITION OF TAKE1 TECHNOLOGIES IN Q1 2007
On
January 5, 2007, we entered into a Securities Subscription Agreement to exercise
an option to acquire an additional 31% interest in Take1 Technologies Limited
(“Take1”). On March 5, 2007, we consummated the purchase for $721,887 (paid
entirely with shares of PacificNet: 149,459 PACT Shares, valued at $4.83 per
share). As a result, we became the majority and controlling shareholder of
Take1
with our ownership percentage increased from 20% to 51%.
PRIVATE
PLACEMENT OF CONVERTIBLE DEBENTURES AND WARRANTS
On
March
13, 2006, we completed a private placement in which we sold $8,000,000 in
convertible debentures and issued warrants to purchase up to an aggregate of
400,000 shares of common stock. The debentures are convertible at any time
into
shares of our common stock at an initial fixed conversion price of $10.00 per
share, subject to adjustments for certain dilutive events. The debentures are
due March 13, 2009. The warrants are exercisable for a period of five years
at
an exercise price of $12.20 per share. We will pay interest in shares, provided
that certain conditions are met, or in cash at the rate of 6% for the second
year the debentures are outstanding and then 7% for the third year.
Under
the
terms of a registration rights agreement entered into at the time of the private
placement, the Company was obligated to file a registration statement with
respect to the shares issuable under the debenture and the warrants by April
30,
2006, and have the registration statement declared effective by the SEC no
later
than June 28, 2006. Due to various factors, the Company did not file the
registration statement until May 15, 2006, and it was not declared effective
until December 8, 2006. Therefore, under the terms of the registration rights
agreement, the Company was obligated to pay liquidated damages to
the investors at the rate of 2% of the principal amount of the debenture
each month beginning on June 28, 2006 until the effectiveness of the
registration statement, which was equal to $1,120,000, in the
aggregate.
In
February 2007, upon reaching an agreement on the amount and payment of accrued
liquidated damages, the Company signed a Settlement and Release Agreement with
each of the investors. Under the terms of the Settlement and Release Agreements,
the Company paid an aggregate $140,000 in cash as satisfaction in full of
liquidated damages owed to Basso Fund Ltd., Basso Multi-Strategy Holding Fund
Ltd., and Basso Private Opportunities Holding Fund Ltd.. Partial liquidated
damages owed to Whalehaven Capital Fund Ltd. were paid in the amount of $35,000
in cash, with the remaining liquidated damages in the amount of $105,000 paid
in
the form of a new convertible debenture due February 2009 (the “Amended
Debenture”), on substantially the same terms as the original debentures, except
that interest only is paid on the new debentures until October 2008 and
beginning in November 2008 until February 2009, when the Amended Debentures
are
due, the monthly redemption amount under the Amended Debentures shall be equal
to $315,000. The remaining investors also agreed to accept the aggregate
$840,000 in liquidated damages owed to them in the form of the Amended
Debentures for the amount of their respective portion of the liquidated damages.
The Company also agreed to amend the original debentures to shorten the term
for
payment of the original principal amount to a 22 month term. As a result the
monthly redemption amount for the original debentures increased from $320,000
to
$ $363,638. All other terms and conditions of the original debenture remains
in
full force and effect.
In
July
2007, we failed to timely make scheduled principal and interest payments under
the Amended Debenture in the aggregate amount of $8,000,000. Pursuant to the
terms of the Amended Debenture, we were obligated to make monthly redemption
payments commencing on January 1, 2007, until the Amended Debenture was redeemed
in full. On August 1, 2007, the Company made the July monthly redemption and
interest payments to all of the debenture holders. The Company has
calculated the amount of the direct financial obligation as accelerated and
increased to be $3,079,091.
RESIGNATION
AND WITHDRAWAL OF AUDIT REPORTS BY CLANCY AND CO., P.L.L.C.
On
January 18, 2007, we were verbally informed by our principal independent
accountant, Clancy and Co. P.L.L.C. (“Clancy”) that it was resigning from its
engagement with us, which resignation was effective immediately. Clancy provided
written confirmation to us on January 19, 2007. On February 7, 2007, our audit
committee approved the appointment of Kabani & Company, Inc. (“Kabani”), as
the our new independent public accountant and Kabani was engaged by the audit
committee on the same day.
On
March
12, 2007, we received an e-mail communication, to which was attached a letter
dated February 17, 2007 (“March 12 Letter”) from Clancy suggesting that certain
of the criteria by which an option grant date is determined may not have been
satisfied in connection with our fixing of the grant date for
options. Subsequently, on March 16, 2007,Clancy sent a further
written communication in which it stated that their audit reports regarding
the
financial statements for the years ended December 31, 2004 and 2005 (but not
2003) were withdrawn. On March 22, 2007, we filed a
Current Report on 8-K under Item 4.02 Non-Reliance on Previously Issued
Financial Statement or a Related Audit Report or Completed Interim
Review, disclosing that the Clancy’s audit reports for the fiscal years ended
December 31, 2005 and 2004 had been withdrawn. On April 4, 2007, we
filed Amendment No. 2 to the Form 10-KSB/A for the fiscal year ended December
31, 2005, to remove Clancy’s audit report and to include a legend that stated
“The financial statements of PacificNet Inc. and its subsidiaries for the fiscal
years ended December 31, 2005 and 2004 are unaudited.”
After
completion of an independent investigation by the audit committee of the issues
presented by Clancy, it was determined that it was necessary to restate our
financial statements for the years ended December 31, 2006, 2005 and
2004. In July 2007, our audit committee engaged Kabani to perform the
re-audit for those years. On October 25, 2007, we filed Amendment No.
3 to the Form 10-KSB/A for the fiscal year ended December 31, 2005, which
included restated financial statements for the years ended December 31, 2005
and
2004, and an audit report issued by Kabani. On November 14, 2007, we
filed Amendment No. 1 to the Form 10-K.A for the fiscal year ended December
31,
2006, which included restated financial statements for the years ended December
31, 2006, 2005 and 2004, and an audit report issued by Kabani.
NASDAQ
NOTICE OF DELISTING OR FAILURE TO SATISFY A CONTINUED LISTING RULE
OR
STANDARD
On
March
30, 2007, we received a letter from The Nasdaq Stock Market indicating that
as a
result of the withdrawal of the audit reports for our financial statements
for
the fiscal years ended December 31, 2005 and 2004, by Clancy, we were not in
compliance with the Nasdaq requirements for continued listing set forth in
Nasdaq Marketplace Rule 4310(c)(14). Nasdaq Marketplace Rule
4310(c)(14) requires that annual reports filed with Nasdaq contain audited
financial statements.
Accordingly,
our securities were subject to delisting on April 11, 2007, unless we
appealed the NASDAQ Staff’s determination by requesting a hearing before the
Nasdaq Listing Qualifications Panel (the “Panel”). We had a hearing
with the Panel on May 17, 2007, at which time we presented a plan of compliance
to the Panel with respect to the timeline for the re-instatement of audited
financial statements for the fiscal years ended December 31, 2005 and
2004.
On
July
2, 2007, we received a letter (the “Appeal Letter”) from The Nasdaq Stock Market
indicating that, as a result of our appeal of the initial determination of
the
NASDAQ Staff of the Listing Qualifications department to seek the delisting
of
PacificNet’s common stock from the Nasdaq Global Market due to non-compliance
with certain of Nasdaq’s listing maintenance rules, we had been granted an
extension for such compliance , subject to the conditions contained in the
Appeal Letter and that the Company provides certain other confirmations to
the
Nasdaq regarding the Company’s stock option granting practices and board member
independence. Among other things, one of the conditions for continued
listing set forth in the Appeal Letter was that we re-file the Form 10-K for
the
fiscal year ended December 31, 2006, and any required amendments to the Form
10-Q for the quarter ended March 31, 2007 and all required restatements, and
in
addition that we file the Form 10-KSB for each of the fiscal years ended
December 31, 2005 and 2004, in a form acceptable to the SEC, with appropriate
audit opinions no later than September 27, 2007.
On
August
16, 2007, we received a letter from the Nasdaq Office of Appeals informing
us
that the Nasdaq Listing and Hearing Review Council (the “Listing Council”)
determined to call for a review of the July 2, 2007 decision of the Panel and
also determined to stay the decision to suspend our securities from trading
pending further action by the Listing Council. We were permitted to
submit any information that we wished the Listing Council to consider in its
review and on October 26, 2007 we submitted an updated plan of compliance and
a
list of all relevant Form 8-K’s we had filed since April 2007.
Due
to
the significant amount of work required to re-audit the years involved, but
also
due to the lack of cooperation from current management of subsidiaries we
disposed of during 2006, we were unable to complete the filings by September
27,
2007. On October 25, 2007, we filed Amendment No. 3 to the Form
10-KSB/A for the fiscal year ended December 31, 2005, which included restated
financial statements for the years ended December 31, 2005 and 2004, and an
audit report issued by Kabani. On November 14, 2007, we filed
Amendment No. 1 to the Form 10-K.A for the fiscal year ended December 31, 2006,
which included restated financial statements for the years ended December 31,
2006, 2005 and 2004, and an audit report issued by Kabani.
About
This Offering
This
prospectus relates to the resale by the selling stockholders identified in
this
prospectus of up to 3,106,767 shares of common stock. Of the shares
covered by this prospectus, 756,293 shares have been issued, 690,908 shares
are issuable upon the conversion of convertible debentures, 985,918 shares
are issuable upon the exercise of warrants, 104,000 shares may be issued
for the
payment of interest on the convertible debentures and 569,648 shares have
been
registered pursuant to our obligation in our registration rights agreement
to
register 150% of the shares of common stock issuable upon conversion of the
debentures, warrants and interest on the debentures. Of the shares of
common stock included in this prospectus, 1,152,228 of the shares were
previously registered. All of the shares, when sold, will be sold by
these selling stockholders. The selling stockholders may sell their shares
of
common stock from time to time at prevailing market prices.
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3,106,767
shares
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Common
Stock Outstanding at December 11, 2007
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11,984,072
shares
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Use
of Proceeds
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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 $10,606,647.
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NASDAQ
ticker symbol
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PACT
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Executive
Offices
We
have
executive offices located in Hong Kong, Macau, Beijing, Shenzhen and Guangzhou,
China, Aberdeen, South Dakota, U.S.A. and Glendale, California,
U.S.A.
PacificNet
Limited Hong Kong Office: 601 New Bright Building, 11 Sheung Yuet Road, Kowloon
Bay, Kowloon, Hong Kong. Tel: 011-852-2876-2900, Fax: 011-852-27930689 and
E-mail: [email protected].
PacificNet
Macau office: Unit A-C, 12th Floor, Edificio Commercial I Tak, No.
126, Rua Da Pequim, Macau, China. Tel: +853 28704154
PacificNet
Beijing Office: 23/F, Building A, TimeCourt, No.6 Shuguang Xili, Chaoyang
District, Beijing, China Postal Code: 100028. Tel:86-010-59225020, Fax:
86-010-59225001 and Email: [email protected].
PacificNet
Shenzhen Office: Room 901, Tower A, Tian An High-Tech Plaza, Tian An Cyber
Park,
Fu Tian District, Shenzhen, China Postal Code: 518040. Tel:011-86-7553360672,
Fax: 011-86-7553360675 and Email: [email protected].
PacificNet
Guangzhou Office: 15/F, Building A, Huajian Plaza, No. 233 Tianfu Road, Tianhe
District, Guangzhou, China Postal Code: 510630. Tel: 011-86-020-85613432, Fax:
011-86-020-81613659 and Email: [email protected].
PacificNet
Inc. California Office: 655 N. Central Ave., 17th Floor, Glendale,
CA
91203, USA. Tel: +1- 818-649-7500, Fax: +1-646-349-1096
We
maintain a website at http://www.PacificNet.com. Information
contained on or accessed through our website is not intended to constitute
and
shall not be deemed to constitute part of this prospectus.
RISK
FACTORS
Investing
in our securities involves a great deal of risk. Careful consideration should
be
made of 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.
RISKS
RELATED TO OUR BUSINESS
We
have a limited operating history and recently experienced a significant increase
in revenue that may not be sustained.
Our
business operations commenced in 1994, and subsequently the business was
incorporated as a Delaware corporation in 1999. Our operating history may be
insufficient to evaluate our business and future prospects. Although our
revenues have grown rapidly in the past three years, primarily as a result
of
our increased acquisition activity and entry into the gaming business, we cannot
assure investors 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 in implementing our business model, including
our potential failure to:
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Increase
awareness of our brands, protect our reputation and develop customer
loyalty
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Manage
our expanding operations and service offerings, including the integration
of any future acquisitions
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Maintain
adequate control of our expenses
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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
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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 and abroad that have services,
products, technologies, industry specializations or geographic coverage that
extend or complement our existing business. The process to undertake a potential
acquisition is time-consuming and costly. We expend significant resources to
undertake business, financial and legal due diligence on our potential
acquisition target and there is no guarantee that we will acquire the company
after completing due diligence. Any future acquisitions will be subject to
a
number of challenges, including:
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Diversion
of management time and resources and the potential disruption of
our
ongoing business
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Difficulties
in maintaining uniform standards, controls, procedures and
policies
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Potential
unknown liabilities associated with acquired businesses
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Difficulty
of retaining key alliances on attractive terms with partners and
suppliers
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Difficulty
of retaining and recruiting key personnel and maintaining employee
morale
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Our
acquisitions could result in the use of substantial amounts of cash, potentially
dilutive issuances of equity securities, significant amortization expenses
related to goodwill and other intangible assets and exposure to undisclosed
or
potential liabilities of acquired companies. During the fiscal year ended
December 31, 2006, we acquired controlling interests in Guangzhou Wanrong,
iMobile and PacGames. We expect that these acquisitions will strengthen our
position as a provider of VAS communication products: internet mobile phone
distribution and gaming technology in Asia. Although our agreements provide
that
the consideration is payable upon the acquired company attaining certain income
milestones annually, there is no guarantee that these milestones will be
reached. If they are not reached as anticipated, the time, cost and capital
to
acquire the company may outweigh the anticipated benefits from consolidation
of
their income. To the extent that the goodwill arise from the acquisitions
carried on the financial statements do not pass the annual goodwill impairment
test, excess goodwill will be charged to future earnings.
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.
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 has been in place for several years and has 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 retain the 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, and might cause
long-term clients to terminate their relationship with us. Furthermore, we
have
not entered into any non-competition and confidentiality agreements with these
employees and management. Due to the limited enforceability of these types
of
agreements in China, we face the risk that employees of the acquired
subsidiaries might divulge our software and other protected intellectual
property secrets to competitors.
We
may not be able to attract or retain the management or employees necessary
to
remain competitive in our industries. 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 and in developing
and
expanding our gaming operations.
Our
future success depends on the retention and continued contributions of our
key
management, finance, marketing, and staff personnel, many of whom would be
difficult or impossible to replace. Our success is also tied to our ability
to
recruit additional key personnel in the future. We may not be able to retain
our
current personnel or recruit any additional key personnel required. The loss
of
services of any of our personnel could have a material adverse effect on our
business, financial condition, results of operations and prospects. If either
of
them were to leave our employ, our growth strategy might be hindered, which
could limit our ability to increase revenue.
The
establishment and expansion of international operations requires significant
management attention.
All
of
our current, as well as any anticipated future revenue, 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:
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Legal
uncertainties or unanticipated changes regarding regulatory requirements,
liability, export and import restrictions, tariffs and other trade
barriers
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Longer
customer payment cycles and greater difficulties in collecting accounts
receivable
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Uncertainties
of laws and enforcement relating to the protection of intellectual
property and potentially uncertain or adverse tax
consequences
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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. During the fiscal year ended December 31, 2006,
we
completed a financing in which we placed $8,000,000 in convertible debentures
and issued warrants to purchase up to 400,000 shares of common stock. 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.
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 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, revenue and financial
condition. For example, we may need to convert U.S. dollars into Hong Kong
dollars or Chinese renminbi as appreciation of either currency against the
U.S.
dollar could have a material adverse effect on results of our business,
financial condition and 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.
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
RELATED TO OUR GAMING BUSINESS
If
we fail to keep pace with rapid innovations in product design and related
marketing strategies, or if we are unable to quickly adapt our development
and
manufacturing processes to release innovative products or systems, our business
could be negatively impacted.
Our
future success depends to a large extent upon our ability to continue to rapidly
design and market technologically sophisticated and entertaining products that
achieve high levels of player acceptance. Our revenues depend on the earning
power and life span of our games. Newer game themes tend to have a shorter
life
span than more legacy game themes, and as a result, we face pressure to design
and deploy successful game themes to maintain our revenue stream and to remain
competitive. Our ability to develop new and innovative products could be
adversely affected by :an inability to roll out new games, services or systems
on schedule as a result of delays in connection with regulatory product approval
in the applicable jurisdictions, or otherwise.
Our
future success also depends upon our ability to adapt our manufacturing
capabilities and processes to meet the demands of producing new and innovative
products. Because our newer products are generally more technologically
sophisticated than those we have produced in the past, we must continually
refine our production capabilities to meet the needs of continuing product
innovation. In addition, the shorter lifespan of newer products means that
we
must update our production capabilities more frequently and rapidly than in
the
past. If we cannot adapt our manufacturing infrastructure to meet the needs
of
our product innovations, or if we are unable to make upgrades to our production
capacity in a timely manner, our business could be negatively
impacted.
If
the current popularity and acceptance of gaming declines, our business plans
and
operation could be would be negatively impacted.
The
gaming industry can be affected by public opinion of gaming. Our success depends
on continually developing and successfully marketing new games and gaming
machines with strong and sustained player appeal. A new game or gaming machine
will be accepted by casino operators only if we can show that it is likely
to
produce more revenues to the operator than competitors’ products. Gaming
machines can be installed in casinos on a trial basis, and only after a
successful trial period are the machines purchased by the casinos. Participation
gaming machines are replaced by casino operators if the gaming machines do
not
meet and sustain revenue and profitability expectations. Therefore, these gaming
machines are particularly susceptible to pressure from competitors, declining
popularity, changes in economic conditions and increased taxation and are at
risk of replacement by the casinos, which would end our recurring revenues
from
these machines.
We
cannot
assure you that the new products that we introduce will achieve any significant
degree of market acceptance, that the acceptance will be sustained for any
meaningful period. In the event that there is a decline in public acceptance
of
gaming, either through unfavorable legislation affecting the introduction of
gaming into emerging markets, or through legislative and regulatory changes,
including tax increases, in existing gaming markets, our ability to continue
to
sell and lease our gaming machines in those markets and jurisdictions would
be
adversely affected.
The
gaming industry is intensely competitive. We face competition from a number
of
companies, some of which have greater resources, and if we are unable to compete
effectively, our business could be negatively impacted.
Competition
among gaming machine manufacturers is based on, among other things, competitive
pricing and financing terms made available to customers, appeal of game themes
and features to the end player and product quality, features and functionality
of hardware and software. The gaming technology provider market is saturated,
with IGT, Aristocrat, WMS, Bally Gaming and Systems, and, to a lesser extent,
Konami and Progressive Gaming Corporation comprising the primary competition.
The competition is intense due to the number of providers, as well as the
limited number of casino operators and jurisdictions in which they operate.
Pricing, product feature and function, accuracy and reliability are amongst
the
factors in determining a provider’s success in selling its system. While there
are a number of established, well-financed companies producing machines in
the
field, a single competitor, IGT, dominates the PRC domestic market for gaming
machines. Certain of these competitors have access to greater financial,
marketing and product development resources we. do, and as a result, may be
better positioned to compete in the marketplace.
In
addition, new competitors may enter our key markets. Obtaining space and
favorable placement on casino gaming floors is a competitive factor in our
industry. Competitors with a larger installed base of gaming machines than
ours
have an advantage in retaining the most space and best positions in casinos.
These competitors may also have the advantage of being able to convert their
installed machines to newer models in order to maintain their share of casino
floor space. In addition, some of our competitors have developed and sell or
otherwise provide to customers centralized player tracking and accounting
systems which allow operators to accumulate accounting and performance data
about the operation of gaming machines. We do not offer a centralized player
tracking and accounting system and that has put us at a competitive
disadvantage.
The
unpredictable growth of non−legacy gaming markets may affect our business and
prospects.
The
continued growth of non−legacy gaming markets for gaming machines and systems
depends heavily on the public’s acceptance of gaming in these markets, as well
as the ongoing development of the regulatory approval process by national and
local governmental authorities. A portion of our growth is directly tied to
our
ability to access these new markets. We cannot predict which new jurisdictions
or markets, if any, will approve the operation of electronic gaming machines,
the timing of any such approval, the public’s acceptance of our gaming machines
in these markets or our market share or profitability in these markets. Any
decline in the popularity of our gaming products with players, or if we are
unsuccessful in developing new products, services or systems, will have a
negative impact on our revenues.
The
gaming industry is heavily regulated and changes in regulation by gaming
authorities may adversely impact our ability to operate the
business.
The
manufacture and distribution of gaming machines, development of systems and
the
conduct of gaming operations are subject to extensive national, provincial
local
and foreign regulation by various gaming authorities.
Our
ability to continue to operate in certain jurisdictions could be adversely
affected by:
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Unfavorable
public referendums
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Unfavorable
legislation affecting or directed at manufacturers or gaming operators,
such as Referendums to increase taxes on gaming
revenues
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Adverse
changes in or finding of non−compliance with applicable governmental
gaming regulations
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Delays
in approvals from regulatory
agencies
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Limitations,
conditioning, suspension or revocation of any of our gaming
licenses
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Unfavorable
determinations or challenges of suitability by gaming regulatory
authorities with respect to our officers, directors, major stockholders
or
key personnel
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Although
the laws, rules and regulations of the various jurisdictions in which we operate
vary in their technical requirements, virtually all jurisdictions require
licenses, permits, qualification documentation, including evidence of integrity
and financial stability, and other forms of approval to engage in gaming
operations or the manufacture and distribution of gaming machines. Delays in,
amendments to, or repeals of legislation approving gaming in jurisdictions
in
which we operate or plan to commence operations, or delays in approvals of
our
customers’ operations, may adversely affect our operations
Our
officers, directors, major stockholders and key personnel are also subject
to
significant regulatory scrutiny. In the event that gaming or governmental
authorities determine that any person is unsuitable to act in such capacity
with
respect to the Company, we could be required to terminate our relationship
with
such person. To our knowledge, the Company and our key personnel have obtained,
or applied for, all government licenses, registrations, findings of suitability,
permits and approvals necessary to conduct their respective activities in the
various jurisdictions that we operate. However, there can be no assurance those
licenses, registrations, findings of suitability, permits or approvals will
be
renewed in the future, or that new forms of approval necessary to operate in
emerging or existing markets will be granted.
Furthermore,
some jurisdictions require gaming manufacturers to obtain government approval
before engaging in some transactions, such as business combinations,
reorganizations, borrowings, stock offerings and repurchases. Obtaining licenses
and approvals can be time consuming and costly. We cannot assure you that we
will be able to obtain or maintain all necessary registrations, licenses,
permits, approvals or findings of suitability or that the approval process
will
not result in delays or changes to our business plans.
Our
intellectual property protections may be insufficient to properly safeguard
our
technology.
The
gaming industry is constantly employing new technologies in both new and
existing markets. We rely on a combination of patent and other technical
security measures to protect our products, and we intend to file patents for
protection of such technologies. Our success may depend in part on our ability
to obtain trademark protection for the names or symbols under which we market
our products and to obtain copyright protection and patent protection of our
proprietary software and other game innovations. We also rely on trade secrets
and proprietary know-how. We enter into confidentiality agreements with our
employees regarding our trade secrets and proprietary information. We cannot
assure you that we will be able to build and maintain goodwill in our trademarks
or obtain trademark or patent protection, that any trademark, copyright or
issued patent will provide competitive advantages for us or that our
intellectual properties will not be successfully challenged or circumvented
by
competitors. Furthermore, despite various confidentiality agreements and other
trade secret protections, our trade secrets and proprietary know-how could
become known to, or independently developed by, competitors.
Notwithstanding
these safeguards, our competitors may still be able to obtain our technology
or
to imitate our products. Furthermore, others may independently develop products
similar or superior to ours.
Expenses
incurred with respect to monitoring, protecting and defending our intellectual
property rights could adversely affect our business.
Competitors
and other third parties may infringe on our intellectual property rights, or
may
allege that we have infringed on their intellectual property rights. Monitoring
infringement and/or misappropriation of intellectual property can be difficult
and expensive, and we may not be able to detect any infringement or
misappropriation of our proprietary rights. We may also incur significant
litigation expenses protecting our intellectual property or defending our use
of
intellectual property, reducing our ability to fund product initiatives. These
expenses could have an adverse effect on our future cash flow and results of
operations. Litigation can also divert management focus from running the
day−to−day operations of the business. There can be no assurances that certain
of our products, including those with currently pending patent applications,
will not be determined to have infringed upon an existing third party
patent.
The
intellectual property rights of others may prevent us from developing new
products or entering new markets.
The
gaming industry is characterized by the rapid development of new technologies,
which requires us to continuously introduce new products using these
technologies and innovations, as well as to expand into new markets that may
be
created. Therefore, our success depends in part on our ability to continually
adapt our products and systems to incorporate new technologies and to expand
into new markets that may be created by new technologies. However, to the extent
technologies are protected by the intellectual property rights of others,
including our competitors, we may be prevented from introducing products based
on these technologies or expanding into new markets created by these
technologies. If our products use processes or other subject matter that is
claimed under existing patents, or if other companies obtain patents claiming
subject matter that we use, those companies may bring infringement actions
against us. We might then be forced to discontinue the affected products or
be
required to obtain licenses from the company holding the patent, if it is
willing to give us a license, to develop, manufacture or market our products.
We
also might then be limited in our ability to market new products. We might
also
be found liable for treble damage claims relating to past use of the patented
subject matter if the infringement is found to be willful.
If
the
intellectual property rights of others prevent us from taking advantage of
innovative technologies, our financial condition, operating results or prospects
may be harmed.
The
discontinuation or limitation of any existing licenses from third parties could
adversely affect our business.
Some
of
our most popular games and gaming machine features, including certain branded
games and ticket-in, ticket-out cashless gaming functionality, are based on
trademarks and other intellectual properties licensed from third parties. Our
future success may depend upon our ability to obtain, retain and/or expand
licenses for additional popular intellectual properties in a competitive market.
In the event that we cannot renew and/or expand this or other existing licenses,
we may be required to discontinue the games using the licensed technology or
bearing the licensed marks, or limit our use of such items.
Our
gaming technology, particularly our wide area progressive networks and centrally
determined systems, may experience losses due to technical
difficulties or fraudulent activities.
Our
success depends on our ability to avoid, detect, replicate and correct software
and hardware errors and fraudulent manipulation of our gaming machines and
associated software. To the extent any of our gaming machines or software
experience errors or fraudulent manipulation, our customers may replace our
products and services with those of our competitors. In addition, the occurrence
of errors in, or fraudulent manipulation of, our gaming machines or software
may
give rise to claims for lost revenues and related litigation by our customers
and may subject us to investigation or other action by gaming regulatory
authorities, including suspension or revocation of our gaming licenses or
disciplinary action. Additionally, in the event of such issues with our gaming
machines or software, substantial engineering and marketing resources may be
diverted from other areas to rectify the problem.
Our
business is subject to other economic, market, and regulatory
risks:
We
face
risks associated with doing business in international markets related to
political and economic instability and related foreign currency fluctuations.
Unstable governments and changes in current legislation may affect the gaming
market with respect to gaming regulation, taxation, and the legality of gaming
in some markets, as we experienced with the Russian market in fiscal
2006.
Customer
financing is becoming an increasing prevalent component of the sales process
and
therefore increases business risk of non-payment, especially in emerging
markets. In some instances, our gaming machines are installed in casinos on
a
trial basis, and only after a successful trial period are the machines purchased
by the customers. These customer financing arrangements delay our receipt of
cash and can negatively impact our ability to enforce our rights upon default
if
the customer is from a foreign country.
Our
competitors have begun to provide free game theme conversions to customers
in
connection with product sales. While we intend to continue to charge our
customers for game theme conversions including CPU-NXT upgrade kits, we cannot
be sure that competitive pressure will not cause us to increase the number
of
free game theme conversions we offer to our customers, which would decrease
the
revenue we expect to receive for game theme conversions.
RISKS
RELATED TO OUR CRM AND TELECOM VAS PRODUCTS AND SERVICES
A
substantial portion of our business depends on mobile telecommunications
operators in China and any loss or deterioration of such relationships may
result in severe disruptions to our business operations.
We
rely
entirely on the networks and gateways of China Mobile and China Unicom to
provide our wireless value-added services. Thus, we face certain risks in
conducting our wireless value-added services business. Currently, China Mobile
and China Unicom are the only mobile telecommunications operators in China
that
have platforms for wireless value-added services. Our agreements with them
are
generally for a period of less than one year and generally do not have automatic
renewal provisions. If neither of them is willing to continue to cooperate
with
us, we will not be able to conduct our existing wireless value-added services
business. Furthermore, our agreements with China Mobile and China Unicom are
subject to negotiation upon expiration. If any of the mobile telecommunications
operators decides to change its content or transmission fees or its share of
revenue, or does not comply with the terms of the agreement, our revenue and
profitability could be materially adversely affected.
The
mobile telecommunications operations may launch and may have already launched
competing services or could discontinue the use of external content aggregators
such as ourselves entirely at any time.
Due
to
our reliance on the mobile telecommunications operators for our wireless
value-added services, any loss or deterioration of our relationship with any
of
the mobile telecommunications operators may result in severe disruptions to
our
VAS business operations and the loss of a significant portion of our
revenue.
Our
financial condition and results of operations may be materially affected by
the
changes in policies or guidelines of the mobile telecommunications
operators.
The
mobile telecommunications operators in China may, from time to time, issue
certain operating policies or guidelines, requesting or stating its preference
for certain actions to be taken by all wireless value-added service providers
using their platforms. Due to our reliance on the mobile telecommunications
operators, a significant change in their policies or guidelines may have a
material adverse effect on us. For example, some mobile telecommunications
operators recently revised their billing policies to request all wireless
value-added service providers to confirm the subscription status of those users
who have not been active for three months. Such change in policies or guidelines
may result in lower revenue or additional operating costs for us, and we cannot
assure investors that our financial condition and results of operations will
not
be materially adversely affected by any policy or guideline change by the mobile
telecommunications operators in the future.
We
may be subject to adverse actions for any breach or perceived breach by us
of
the policies or guidelines imposed by the mobile telecommunications operator
with respect to content provided on or linked through our
websites.
The
mobile telecommunications operators in China may impose policies or guidelines
to govern or restrict the content provided by all wireless value-added service
providers, including content developed by us or content supplied by others
to
us. The mobile telecommunications operators from time to time have requested
wireless value-added services providers, including us, to remove objectionable
content or links to or from websites with certain categories of content,
including content that they may deem to be sexually explicit. We aggregate
and
develop content that we consider attractive to our targeted user base, and
we
cannot assure investors that the mobile telecommunications operators will not
from time to time find certain portions of our content to be objectionable.
In
the case of a breach or perceived breach of such policies or guidelines, the
mobile telecommunications operators may require us to reduce or curtail the
content on our Internet portal, which may reduce our portal traffic, and the
mobile telecommunications operators may have the right to impose monetary fines
upon us, or terminate our cooperation with them. In addition, we would be liable
to the mobile telecommunications operators for their economic losses pursuant
to
our agreements with these operators if we were found to be in breach of the
policies or guidelines promulgated by them. As a result of the occurrence of
any
of the above, our financial condition and results of operations may be
materially adversely affected.
Our
dependence on the substance and timing of the billing systems of the mobile
telecommunications operators may require us to estimate portions of our reported
revenue for wireless value-added services from time to time. As a result,
subsequent adjustments may have to be made to our wireless value-added services
revenue in our financial statements.
As
we do
not bill our wireless value-added services users directly, we depend on the
billing systems and records of the mobile telecommunications operators to record
the volume of our wireless value-added services provided, charge our users
through mobile telephone bills and collect payments from our users and pay
us.
In addition, we do not generally have the ability to independently verify or
challenge the accuracy of the billing systems of the mobile telecommunications
operators. Generally, within 20 to 60 days after the end of each month, a
statement from each of the mobile telecommunications operators confirming the
value of wireless value-added services they bill to users in that month will
be
delivered to us, and generally within 60 days after such delivery, we will
be
paid by the mobile telecommunications operators for the wireless value-added
services, net of their revenue share, transmission fees and applicable business
taxes, for that month based on such statements.
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 revenue generated and the financial condition of our
business operations.
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 revenue 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
revenue could adversely affect our profitability.
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.
Currency
fluctuations and restrictions on currency exchange may adversely affect our
business, including limiting our ability to convert Chinese renminbi into
foreign currencies and, if Chinese renminbi were to decline in value, reducing
our revenue in U.S. dollar terms.
Our
reporting currency is the U.S. dollar and our operations in China and Hong
Kong
use their respective local currencies as their functional currencies. The
majority of our revenue derived and expenses incurred are in Chinese renminbi
with a relatively small amount in Hong Kong dollars and U.S. dollars. We are
subject to the effects of exchange rate fluctuations with respect to any of
these currencies. For example, the value of the renminbi depends to a large
extent on Chinese government policies and China's domestic and international
economic and political developments, as well as supply and demand in the local
market. Since 1994, the official exchange rate for the conversion of renminbi
to
U.S. dollars had generally been stable and the renminbi had appreciated slightly
against the U.S. dollar. However, on July 21, 2005, the Chinese government
changed its policy of pegging the value of Chinese renminbi to the U.S. dollar.
Under the new policy, Chinese renminbi may fluctuate within a narrow and managed
band against a basket of certain foreign currencies. As a result of this policy
change, Chinese renminbi appreciated approximately 2.5% against the US. dollar
in 2005. It is possible that the Chinese government could adopt a more flexible
currency policy, which could result in more significant fluctuation of Chinese
renminbi against the U.S. dollar. We can offer no assurance that Chinese
renminbi will be stable against the U.S. dollar or any other foreign
currency.
The
income statements of our international operations are translated into U.S.
dollars at the average exchange rates in each applicable period. To the extent
the U.S. dollar strengthens against foreign currencies, the translation of
these
foreign currencies denominated transactions results in reduced revenue,
operating expenses and net income for our international operations. Similarly,
to the extent the U.S. dollar weakens against foreign currencies, the
translation of these foreign currency denominated transactions results in
increased revenue, operating expenses and net income for our international
operations. We are also exposed to foreign exchange rate fluctuations as we
convert the financial statements of our foreign subsidiaries into U.S dollars
in
consolidation. If there is a change in foreign currency exchange rates, the
conversion of the foreign subsidiaries' financial statements into U.S dollars
will lead to a translation gain or loss which is recorded as a component of
other comprehensive income. In addition, we have certain assets and liabilities
that are denominated in currencies other than the relevant entity's functional
currency. Changes in the functional currency value of these assets and
liabilities create fluctuations that will lead to a transaction gain or loss.
We
have not entered into agreements or purchased instruments to hedge our exchange
rate risks, although we may do so in the future. The availability and
effectiveness of any hedging transaction may be limited and we may not be able
to successfully hedge our exchange rate risks.
Although
Chinese governmental policies were introduced in 1996 to allow the
convertibility of Chinese renminbi into foreign currency for current account
items, conversion of Chinese renminbi into foreign exchange for capital items,
such as foreign direct investment, loans or securities, requires the approval
of
the State Administration of Foreign Exchange, or SAFE, which is under the
authority of the People's Bank of China. These approvals, however, do not
guarantee the availability of foreign currency. We cannot be sure that we will
be able to obtain all required conversion approvals for our operations or that
Chinese regulatory authorities will not impose greater restrictions on the
convertibility of Chinese renminbi in the future. Because a significant amount
of our future revenue may be in the form of Chinese renminbi, our inability
to
obtain the requisite approvals or any future restrictions on currency exchanges
could limit our ability to utilize revenue generated in Chinese renminbi to
fund
our business activities outside China, or to repay foreign currency obligations,
including our debt obligations, which would have a material adverse effect
on
our financial condition and results of operation.
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 PRC 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 PRC 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 cannot 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.
PRC
laws and regulations restrict foreign investment in China’s telecommunications
services industry and substantial uncertainties exist with respect to our
contractual agreements with Dianxun-DE, Sunroom-DE, Wanrong-DE and iMobile-DE
to
uncertainties regarding the interpretation and application of current or futures
PRC laws and regulations.
Since
we
are deemed to be foreign persons or foreign funded enterprises under PRC laws
and cannot directly invest in telecommunications companies, we operate our
IVR,
call center and telecom value-added services business in China through operating
companies or variable interest entities (VIEs) owned by PRC citizens. We control
these companies and operate these businesses through contractual arrangements
with the respective operating companies and their individual shareholders,
but
we have no equity control over these companies. Although we believe we are
in
compliance with current PRC regulations, we cannot be sure that the PRC
government would view these operating arrangements to be in compliance with
PRC
licensing, registration or other regulatory requirements, with existing policies
or with requirements or policies that may be adopted in the future. In the
opinion of our in-house PRC legal counsel, our current ownership structure,
the
contractual arrangements among our wholly owned subsidiaries and the operating
company and their shareholders comply with all existing applicable PRC laws,
rules and regulations. Because this structure has not been challenged or
examined by PRC authorities, they have not commented on it and uncertainties
exist as to whether the PRC government may interpret or apply the laws governing
these arrangements in a way that is contrary to the opinion of our in-house
PRC
counsel. If we, or the operating companies, were found to be in violation of
any
existing PRC laws or regulations, the relevant regulatory authorities would
have
broad discretion to deal with such violation, including, but not limited to
the
following:
|
·
|
Levying
fines
|
|
·
|
Confiscating
income
|
|
·
|
Revoking
licenses
|
|
·
|
Shutting
down servers or blocking websites
|
|
·
|
Requiring
a restructure of ownership or operations
|
|
·
|
Requiring
the discontinuance of wireless VAS and online advertising
businesses
|
We
may
also encounter difficulties in obtaining performance under or enforcement of
related contracts. Any of these or similar actions could cause significant
disruption to our business operations or render us unable to conduct a
substantial portion of our business operations and may materially adversely
affect our business, financial condition and results of operations.
Our
contractual agreements with Dianxun-DE or Sunroom-DE, Wanrong-DE and iMobile-DE
may not be as effective in providing operational control as direct ownership
of
these businesses.
We
depend
on operating companies in which we have little or no equity ownership interest
and must rely on contractual agreements to control and operate these businesses.
Our contractual agreements with each of the operating companies may not be
as
effective in providing and maintaining control over the operating companies
and
their business operations as direct ownership of these businesses. For example,
we may not be able to take control of the operating company upon the occurrence
of certain events, such as the imposition of statutory liens, judgments, court
orders, death or capacity. Furthermore, if the operating companies fail to
perform as required under those contractual agreements, we will have to rely
on
the PRC legal system to enforce those agreements and due to the uncertainties
that exist under PRC Law about the structure of our acquisition, and there
is no
guarantee that we will be successful in an enforcement action. In addition,
the
PRC government may propose new laws or amend current laws that may be
detrimental to our current contractual agreements with our operating companies,
which may in turn have a material adverse effect on our business
operations.
The
PRC government may prevent us from advertising or distributing content that
it
believes is inappropriate.
China
has
enacted regulations governing Internet access and the distribution of news
and
other information. In the past, the Chinese government has stopped the
distribution of information over the Internet or through VAS that it believes
to
violate PRC law, including content that it believes is obscene, incites
violence, endangers national security, is contrary to the national interest
or
is defamatory. In addition, we may need the permission of the Chinese government
prior to publishing certain news items, such as news relating to national
security. Furthermore, the Ministry of Public Security has the authority to
cause any local Internet service provider to block any website maintained
outside China at its sole discretion. If the PRC government were to take any
action to limit or prohibit the distribution of information through our network
or via our VAS, or to limit or regulate any current or future content or
services available to users on our network, our business could be significantly
harmed. We are also subject to potential liability for content on our website
that is deemed inappropriate and for any unlawful actions of our subscribers
and
other users of our systems. Furthermore, we are required to delete content
that
clearly violates the laws of China and report content that we suspect may
violate PRC law. It is difficult to determine the type of content that may
result in liability for us, and if we are wrong, we may be prevented from
operating our website.
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
gaming, telecom and VAS businesses are 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 affect 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
RELATED TO OUR COMMON STOCK
Efforts
to comply with recently enacted changes in securities laws and regulations
will
increase our costs and require additional management resources. Our failure
to
comply could adversely affect our stock price.
We
have
rapidly grown by acquisition over the last three years. We do not integrate
the
business operations of our target companies and therefore have separate
administration and accounting personnel at each subsidiary location. Due to
the
number of new subsidiaries we have acquired, we have faced significant
challenges with the timely reporting of information necessary to complete the
financial statements to be filed with the Securities and Exchange Commission.
Furthermore, concerns about our stock option granting practices and recording
of
such grants, led to the withdrawal of the previously issued audit reports for
December 31, 2005 and 2004 by our previous independent auditors, Clancy and
Co.,
P.L.L.C. These actions have required us to re-evaluate our disclosure controls
and procedures and conclude that they are ineffective. We have sought to improve
our existing disclosure controls and procedures and to that end, have
substantially increased our accounting and administrative resources. Our failure
to timely file our annual and quarterly reports may have an adverse affect
on
our stock price and may put our common stock in jeopardy of being
delisted.
As
directed by Section 404 of the Sarbanes-Oxley Act of 2002, public companies
are
required to include a report of management on the company's internal controls
over financial reporting in their annual reports on Form 10-K and the public
accounting firm auditing a 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-K for our fiscal year ending December 31,
2007. Throughout the year, we have been evaluating 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. If we are unable to conclude that
we
have effective internal controls over financial reporting as of December 31,
2007, as required by Section 404 of the Sarbanes-Oxley Act, we could experience
delays or inaccuracies in our reporting of financial information, or
non-compliance with SEC reporting and other regulatory requirements. This could
subject us to regulatory scrutiny and result in a loss of public confidence
in
our management, which could, among other things, adversely affect our stock
price.
We
issued $8,000,000 in convertible debentures due in 2009, or possibly earlier,
which we may not be able to repay in cash and could result in dilution of our
basic earnings per share.
In
March
2006, we issued $8 million in convertible debentures due March 2009. The
debentures are convertible at any time into shares of our common stock at an
initial fixed conversion price of $10.00 per share, subject to adjustments
for
certain events. If any event of default occurs under the debentures or other
related documents, the holders may elect to accelerate the payment of the
outstanding principal amount of the debenture, plus accrued, but unpaid
interest, liquidated damages or other amounts, which shall become immediately
due and payable. In 2007, we began to redeem up to $363,638 every month, plus
accrued, but unpaid interest, liquidated damages and penalties. We may choose
to
pay such redemption amount in cash, or, subject to meeting certain conditions,
we may pay all or a part of the redemption amount in shares of common stock.
We
may not have enough cash on hand or have the ability to access cash to pay
the
redemption amount, or upon acceleration of the debenture in the case of an
event
of default, or at maturity. In addition, the redemption of the debentures with
our shares or the conversion of the debentures into shares of common stock
could
result in dilution of our basic earnings per share.
We
may have to pay liquidated damages and our debenture may be declared in default
if we are unable to re-instate use of the prospectus contained in our
Registration Statement on Form S-1
On
March
27, 2007, we suspended use of the prospectus contained in our Registration
Statement on Form S-1 (File No. 333-134127) that was declared effective on
December 8, 2006, due to the lack of fiscal year end 2005 and 2004 audited
financial statements. As a result 3,152,228 shares of common stock registered
there under, are not freely tradable upon resale. Under the terms of our
registration rights agreement with the holders of the debentures, we are subject
to paying liquidated damages equal to 2% of the debenture amount on a monthly
basis, up to a maximum of 20% per holder, in the event we suspend use of the
prospectus for longer than 15 consecutive calendar days or more than an
aggregate of 30 calendar days during any 12-month period. Moreover, at the
election of the debenture holder, our debenture could be declared in default,
resulting in acceleration of the amounts due, if such suspension continues
more
than 20 consecutive trading days or 60 non-consecutive trading days during
any
12-month period. We may not have cash on hand, or have the ability to
access cash to pay the debenture in full if any of our debenture holders declare
our debentures in default and demand acceleration of their
debenture. If the debenture holders refuse to negotiate with
us, our failure to pay upon, demand could result in the debenture holders
bringing claims against us for payment, which may include severe penalty
payments. If they are successful in such claims, we may suffer significant
losses, which may severely curtail our ability to continue business
operations.
If
we are not successful in defending against a lawsuit by one of our debenture
holders our business operations could be severely
curtailed.
One
of
our debenture holders has filed a complaint against us in the Supreme Court
of
the State of New York claiming that we are in default for failure to timely
make
payments under the debentures. The debenture holder is
demanding payment of $3,253,163.80 in the aggregate,
together with any accrued but unpaid interest through the date of judgment
and
reimbursement of attorney fees and other costs and expenses incurred
together with costs and disbursements of the action and such other further
relief afforded by the Court. Although we intend to vigorously
defend ourselves against this action, if the debenture holder is
successful in its claims or, if based upon advice from legal counsel we choose
to settle this litigation, such payments could put a severe strain on our
available cash and we could suffer significant losses, which could curtail
our
ability to continue our business.
If
we are unable to regain compliance with the Nasdaq rules for continued listing,
are securities may be de-listed from the Nasdaq Global
Market.
We
are
currently subject to possible delisting procedures by the NASDAQ Stock Market
for failing to have audited financials for the fiscal years ended December
31,
2005 and 2004. Although our financial statements for those periods
have been re-audited and we have filed with the Securities and Exchange
Commission amendments to our Annual Reports on Form 10-K and Form 10-KSB for
the
years ended December 31, 2006 and 2005, respectively, the Nasdaq
Listing and Hearings Council, upon a review of our record, could make a
determination to de-list our securities. If such a determination is
made, we may seek to have our securities quoted on the Over-the Counter Bulletin
Board, but there is no assurance that we will be able to do so in a timely
fashion and as a result there may be no active public market for our common
stock.
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:
|
·
|
Variations
in our quarterly operating results
|
|
·
|
Announcements
that our revenue or income are below analysts'
expectations
|
|
·
|
General
economic slowdowns
|
|
·
|
Changes
in market valuations of similar
companies
|
|
·
|
Sales
of large blocks of our common stock
|
|
·
|
Announcements
by us or our competitors of significant contracts, acquisitions,
strategic
partnerships, joint ventures or capital
commitments
|
|
·
|
Fluctuations
in stock market prices and volumes, which are particularly common
among
highly volatile securities of companies with primarily international-based
operations
|
Future
sales of shares could have an adverse effect on the market price of our common
stock
As
of
December 11, 2007, we had 11,984,072 shares of common stock
outstanding, which shares will be available to be sold in the public market
in
the near future, subject to, with respect to shares of common stock held
by
affiliates and shares issued between 12 and 24 months ago, the volume
restrictions and/or manner of sale requirements of Rule 144 under the Securities
Act. Under this prospectus we are registering 3,106,767 shares of our
common stock for sale by the selling stockholders named herein, which will
become freely tradable without restriction or further registration when the
Registration Statement on Form S-1, of which this prospectus is part is declared
effective by the SEC. Sales by our current shareholders of a
substantial number of shares could significantly reduce the market price
of our
common stock.
As
of
December 11, 2007, we had warrants outstanding to purchase 1,007,138 shares
of
our common stock. To the extent that the warrants are exercised, they may
be
exercised at prices below the price of our shares of common stock on the
public
market, resulting in a significant number of shares entering the public market
and the dilution of our common stock. In the event that any future financing
should also 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.
USE
OF PROCEEDS
This
prospectus relates to shares of our common stock that may be offered and sold
from time to time by certain selling stockholders. There will be no proceeds
to
us from the sale of shares of common stock in this offering. Assuming that
all
of the warrants held by selling stockholders are exercised for cash, we will
realize proceeds of approximately $10,606,647. We would use these funds for
general corporate purposes.
SELLING
STOCKHOLDERS
We
are
registering for resale shares of our common stock (i) held by the selling
stockholders identified below and (ii) issuable to the selling stockholders
upon
the conversion of outstanding debentures or exercise of outstanding warrants,
or
that may be issued in the form of interest payments on such debentures. We
are
registering the shares to permit the stockholders and their pledgees, donees,
transferees and other successors-in-interest that receive their shares from
a
stockholder as a gift, partnership distribution or other non-sale related
transfer after the date of this prospectus to resell the shares when and as
they
deem appropriate.
The
following table set forth:
|
·
|
the
name of the stockholders,
|
|
·
|
the
number and percent of shares of our common stock that the stockholders
beneficially owned prior to the offering for resale of the shares
under
this prospectus,
|
|
·
|
the
number of shares of our common stock that may be offered for resale
for
the account of the stockholders under this prospectus,
and
|
|
·
|
the
number and percent of shares of our common stock to be beneficially
owned
by the stockholders after the offering of the resale shares (assuming
all
of the offered resale shares are sold by the
stockholders).
|
The
number of shares in the column “Maximum Number of Shares to be Sold” represents
all of the shares that each stockholder may offer under this prospectus. We
do
not know how long the stockholders will hold the shares before selling them
or
how many shares they will sell, and we currently have no agreements,
arrangements or understandings with any of the stockholders regarding the sale
of any of the resale shares. The shares offered by this prospectus may be
offered from time to time by the stockholders listed below.
This
table is prepared solely based on information supplied to us by the listed
stockholders, any Schedules 13D or 13G and Forms 3 and 4, and other public
documents they have filed with the SEC, and assumes the sale of all of the
shares offered hereby. The applicable percentages of beneficial ownership are
based on an aggregate of 11,984,072 shares of our common stock issued
and outstanding on November 30, 2007 or subject to issuance upon exercise of
the
warrants, adjusted as may be required by rules promulgated by the
SEC.
No
selling stockholder listed below has held any position nor had any material
relationship with the us or our affiliates during the past three years, except
that C.E. Unterberg, Towbin LLC acted as placement agent in the convertible
debenture financing consummated in March 2006. C.E. Unterberg, Towbin Capital
Partners I, L.P. is an entity associated with C.E. Unterberg, Towbin LLC.
CEOCast was our investor and public relations firm at the time of the
issuance of the shares.
Name
of Selling Stockholder
|
|
Shares
Beneficially
Owned
Prior
to
Offering
|
|
|
Maximum
Number
of
Shares to
be
Sold
|
|
|
Number
of Shares
Beneficially
Owned
After
Offering
|
|
|
Percentage
Ownership
After
Offering
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
SF
Capital Partners Ltd.(1)
|
|
|
135,000
|
|
|
|
135,000
|
|
|
|
0
|
|
|
|
0
|
|
Bluegrass
Growth Fund LP(2)
|
|
|
11,667
|
|
|
|
11,667
|
|
|
|
0
|
|
|
|
0
|
|
Bluegrass
Growth Fund Ltd.(3)
|
|
|
11,667
|
|
|
|
11,667
|
|
|
|
0
|
|
|
|
0
|
|
Omicron
Master Trust(4)
|
|
|
33,515
|
|
|
|
33,515
|
|
|
|
0
|
|
|
|
0
|
|
Iroquois
Capital LP(5)
|
|
|
641,455
|
|
|
|
641,455
|
|
|
|
0
|
|
|
|
0
|
|
Smithfield
Fiduciary LLC(6)
|
|
|
566,667
|
|
|
|
566,667
|
|
|
|
0
|
|
|
|
0
|
|
Portside
Growth and Opportunity Fund(7)
|
|
|
23,333
|
|
|
|
23,333
|
|
|
|
0
|
|
|
|
0
|
|
Satellite
Strategic Finance Associates, LLC(8)
|
|
|
105,000
|
|
|
|
105,000
|
|
|
|
0
|
|
|
|
0
|
|
CEOCast,
Inc. (9)
|
|
|
20,000
|
|
|
|
20,000
|
|
|
|
0
|
|
|
|
0
|
|
Sino
Strategic Investment Limited (10)
|
|
|
385,848
|
|
|
|
385,848
|
|
|
|
0
|
|
|
|
0
|
|
Sunshine
Ocean Investment Limited (11)
|
|
|
192,924
|
|
|
|
192,924
|
|
|
|
0
|
|
|
|
0
|
|
C.E.
Unterberg, Towbin Capital Partners I, L.P. (12)
|
|
|
75,000
|
|
|
|
75,000
|
|
|
|
0
|
|
|
|
0
|
|
Alpha
Capital AG (13)
|
|
|
175,720
|
|
|
|
175,720
|
|
|
|
0
|
|
|
|
0
|
|
Whalehaven
Capital Fund Limited (14)
|
|
|
150,000
|
|
|
|
150,000
|
|
|
|
0
|
|
|
|
0
|
|
Basso
Private Opportunities Holding Fund Ltd. (15)
|
|
|
26,130
|
|
|
|
26,130
|
|
|
|
0
|
|
|
|
0
|
|
Basso
Fund Ltd. (16)
|
|
|
20,909
|
|
|
|
20,909
|
|
|
|
0
|
|
|
|
0
|
|
Basso
Multi-Strategy Holding Fund Ltd. (17)
|
|
|
57,500
|
|
|
|
57,500
|
|
|
|
0
|
|
|
|
0
|
|
DKR
SoundShore Oasis Holding Fund Ltd.(18)
|
|
|
225,000
|
|
|
|
225,000
|
|
|
|
0
|
|
|
|
0
|
|
C.E.
Unterberg, Towbin LLC (19)
|
|
|
16,000
|
|
|
|
16,000
|
|
|
|
0
|
|
|
|
0
|
|
Whalehaven
Fund Limited (20)
|
|
|
5,144
|
|
|
|
5,144
|
|
|
|
0
|
|
|
|
0
|
|
Rockmore
Investment Master Fund Ltd. (21)
|
|
|
15,538
|
|
|
|
15,538
|
|
|
|
0
|
|
|
|
0
|
|
Excalibur
Limited Partnership (22)
|
|
|
15,432
|
|
|
|
15,432
|
|
|
|
0
|
|
|
|
0
|
|
Vertical
Ventures LLC (23)
|
|
|
25,720
|
|
|
|
25,720
|
|
|
|
0
|
|
|
|
0
|
|
Stonestreet
LP
(24)
|
|
|
25,720
|
|
|
|
25,720
|
|
|
|
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.
Bluegrass Growth Fund Partners is the managing partner of Bluegrass
Growth
Fund LP. By virtue of such relationship, Bluegrass Growth Fund Partners
may be deemed to have voting and dispositive power over the shares
owned
by Bluegrass Growth Fund LP. Bluegrass Growth Fund Partners disclaims
beneficial ownership of such shares. Mr. Brian Shatz has delegated
authority from the partners of Bluegrass Growth Fund Partners with
respect
to the shares of common stock owned by Bluegrass Growth Fund LP.
As such,
Mr. Shatz is deemed to have voting and dispositive power over the
shares
of common stock owned by Bluegrass Growth Fund LP. Mr. Shatz disclaims
beneficial ownership of such shares of our common stock and has no
legal
right to maintain such delegated authority.
|
|
|
(3)
|
Includes
11,667 shares of common stock issuable upon exercise of a warrant.
Mr.
Brian Shatz is a director of Bluegrass Growth Fund, Ltd. and has
delegated
authority from the shareholders of Bluegrass Growth Fund, Ltd. with
respect to the shares of common stock owned by Bluegrass Growth Fund,
Ltd.
As such, Mr. Shatz is deemed to have voting and dispositive power
over the
shares of common stock owned by Bluegrass Growth Fund, Ltd. Mr. Shatz
disclaims beneficial ownership of such shares of our common stock
and has
no legal right to maintain such delegated
authority.
|
(4)
|
Includes
33,515 shares of common stock issuable upon exercise of a warrant.
Omicron Capital, L.P., a Delaware limited partnership (“Omicron Capital”),
serves as investment manager to Omicron Master Trust, a trust formed
under
the laws of Bermuda (“Omicron”), Omicron Capital, Inc., a Delaware
corporation (“OCI”), serves as general partner of Omicron Capital, and
Winchester Global Trust Company Limited (“Winchester”) serves as the
trustee of Omicron. By reason of such relationships, Omicron Capital
and
OCI may be deemed to share dispositive power over the shares of our
common
stock owned by Omicron, and Winchester may be deemed to share voting
and
dispositive power over the shares of our common stock owned by Omicron.
Omicron Capital, OCI and Winchester disclaim beneficial ownership
of such
shares of our common stock. As of the date of this prospectus, Mr.
Olivier
H. Morali, an officer of OCI, and Mr. Bruce T. Bernstein, a consultant
to
OCI, have delegated authority from the board of directors of OCI
regarding
the portfolio management decisions with respect to the shares of
our
common stock owned by Omicron. By reason of such delegated authority,
Messrs. Morali and Bernstein may be deemed to share dispositive power
over
the shares of our common stock owned by Omicron. Messrs. Morali and
Bernstein disclaim beneficial ownership of such shares of our common
stock
and nether of such persons has any legal right to maintain such delegated
authority. No other person has sole or shared voting or dispositive
power
with respect to the shares of our common stock being offered by Omicron,
as those terms are used for purposes under Regulation 13D-G of the
Securities exchange Act of 1934, as amended. Omicron and Winchester
re not
“affiliates” of one another, as that term is used for purposes of the
Exchange Act or of any other person named in this prospectus as a
selling
stockholder. No person or “group” (as that term is used in Section 13(d)
of the Exchange Act or the SEC’s Regulation 13D-G) controls omicron and
Winchester.
|
|
|
(5)
|
Includes
(i) 74,788 shares of common stock issued; (ii) 225,212 shares of
common
stock issuable upon conversion of the convertible debenture; and
(iii)
266,667 shares of common stock issuable upon exercise of
warrants.
|
|
|
(6)
|
Includes
23,333 shares of common stock issuable upon exercise of a
warrant. Highbridge Capital Management, LLC is the trading
manager of Smithfield Fiduciary LLC and has voting control and investment
discretion over the securities held by Smithfield Fiduciary LLC.
Glenn
Dubin and Henry Swieca control Highbridge Capital Management, LLC
and have
voting control and investment discretion over the securities held
by
Smithfield Fiduciary LLC. Each of Highbridge Capital Management,
LLC,
Glenn Dubin and Henry Swieca disclaims beneficial ownership of the
securities held by Smithfield Fiduciary LLC.
|
|
|
(7)
|
Includes
23,333 shares of common stock issuable upon exercise of a warrant.
Ramius
Capital Group, L.L.C. (“Ramius Capital”) is the investment adviser of
Portside Growth and Opportunity Fund (“Portside”) and consequently has
voting control and investment discretion over securities held by
Portside.
Ramius Capital disclaims beneficial ownership of the shares held
by
Portside. Peter A. Cohen, Morgan B. Stark, Thomas W. Strauss and
Jeffrey
M. Solomon are the sole managing members of C4S & Co., L.L.C., the
sole managing member of Ramius Capital. As a result, Messrs. Cohen,
Stark,
Straus and Solomon may be considered beneficial owners of any shares
deemed to be beneficially owned by Ramius Capital. Messrs. Cohen,
Stark,
Strauss and Solomon disclaim beneficial ownership of these
shares.
|
|
|
(8)
|
Includes
105,000 shares of common stock issuable upon exercise of a
warrant.
|
|
|
(9)
|
Rachel
Glicksman has voting control and investment discretion over the securities
held by CEOCast, Inc.
|
|
|
(10)
|
Includes
64,308 shares of common stock issuable upon exercise of a
warrant.
|
|
|
(11)
|
Includes
32,154 shares of common stock issuable upon exercise of a
warrant.
|
|
|
(12)
|
Includes
(i) 12,466 shares of common stock; (ii) 37,534 shares of common stock
issuable upon conversion of the convertible debenture; and (iii)
25,000
shares of common stock issuable upon exercise of a
warrant.
|
|
|
(13)
|
Includes
(i) 24,931 shares of common stock; (ii) 75,069 shares of common
stock
issuable upon conversion of the convertible debenture; and (iii)
75,720
shares of common stock issuable upon exercise of a
warrant.
|
|
|
(14)
|
Includes
(i) 24,931 shares of common stock (ii) 75,069 shares of common
stock
issuable upon conversion of the convertible debenture; and (iii)
50,000
shares of common stock issuable upon exercise of a
warrant.
|
|
|
(15)
|
Includes
13,630 shares of common stock issuable upon conversion of the convertible
debenture and 12,500 shares of common stock issuable upon exercise
of a
warrant. Basso Capital Management, L.P. (“Basso”) is the
Investment Manager to Basso Private Opportunities Holding Fund
Ltd.
(“Fund”). Howard Fischer is a managing member of Basso GP LLC,
the General Partner of Basso. Mr. Fischer has ultimate
responsibility for trading with respect to the Fund.
|
|
|
(16)
|
Includes
10,909 shares of common stock issuable upon conversion of the convertible
debenture and 10,000 shares of common stock issuable upon exercise
of a
warrant. Basso Capital Management, L.P. (“Basso”) is the
Investment Manager to Basso Fund Ltd. (“Fund”). Howard Fischer
is a managing member of Basso GP LLC, the General Partner of
Basso. Mr. Fischer has ultimate responsibility for trading with
respect to the Fund.
|
|
|
(17)
|
Includes
30,000 shares of common stock issuable upon conversion of the convertible
debenture and 27,500 shares of common stock issuable upon exercise
of a
warrant. Basso Capital Management, L.P. (“Basso”) is the
Investment Manager to Basso Multi-Strategy Holding Fund Ltd.
(“Fund”). Howard Fischer is a managing member of Basso GP LLC,
the General Partner of Basso. Mr. Fischer has ultimate
responsibility for trading with respect to the Fund.
|
|
|
(18)
|
Includes
(i) 37,394 shares of common stock; (ii) 112,606 shares of common
stock
issuable upon conversion of the convertible debenture; and (iii)
75,000
shares of common stock issuable upon exercise of a warrant. The
investment
manager of DKR SoundShore Oasis Holding Fund Ltd. (the “Fund”) is DKR
Oasis Management Company LP (the “Investment Manager”). The Investment
Manager has the authority to do any and all acts on behalf of the
Fund,
including voting any shares held by the Fund. Mr. Seth Fischer
is the
managing partner of Oasis Management Holdings LLC, one of the general
partners of the Investment Manager. Mr. Fischer has ultimate
responsibility for trading with respect to the Fund. Mr. Fischer
disclaims
beneficial ownership of the shares.
|
|
|
(19)
|
Includes
shares of common stock issuable upon exercise of
warrants.
|
|
|
(20)
|
Includes
shares of common stock issuable upon exercise of
warrants.
|
|
|
(21)
|
Includes
shares of common stock issuable upon exercise of
warrants.
|
|
|
(22)
|
Includes
shares of common stock issuable upon exercise of
warrants.
|
|
|
(23)
|
Includes
shares of common stock issuable upon exercise of
warrants.
|
|
|
(24)
|
Includes
shares of common stock issuable upon exercise of
warrants.
|
PLAN
OF DISTRIBUTION
Each
Selling Stockholder (the “Selling Stockholders”) of the common stock and
any of their pledgees, assignees and successors-in-interest may, from time
to
time, sell any or all of their shares of common stock on the Nasdaq National
Market or any other stock exchange, market or trading facility on which the
shares are traded or in private transactions. These sales may be at fixed or
negotiated prices. A Selling Stockholder may use any one or more of the
following methods when selling shares:
|
·
|
ordinary
brokerage transactions and transactions in which the broker-dealer
solicits purchasers;
|
|
·
|
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;
|
|
·
|
purchases
by a broker-dealer as principal and resale by the broker-dealer for
its
account;
|
|
·
|
an
exchange distribution in accordance with the rules of the applicable
exchange;
|
|
·
|
privately
negotiated transactions;
|
|
·
|
settlement
of short sales entered into after the effective date of the registration
statement of which this prospectus is a
part;
|
|
·
|
broker-dealers
may agree with the Selling Stockholders to sell a specified number
of such
shares at a stipulated price per
share;
|
|
·
|
through
the writing or settlement of options or other hedging transactions,
whether through an options exchange or
otherwise;
|
|
·
|
a
combination of any such methods of sale;
or
|
|
·
|
any
other method permitted pursuant to applicable
law.
|
The
Selling Stockholders may also sell shares under Rule 144 under the Securities
Act of 1933, as amended (the “Securities Act”), if available, rather than
under this prospectus.
Broker-dealers
engaged by the Selling Stockholders may arrange for other brokers-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
purchaser of shares, from the purchaser) in amounts to be negotiated, but,
except as set forth in a supplement to this Prospectus, in the case of an agency
transaction not in excess of a customary brokerage commission in compliance
with
NASDR Rule 2440; and in the case of a principal transaction a markup or markdown
in compliance with NASDR IM-2440.
In
connection with the sale of the common stock or interests therein, the Selling
Stockholders may enter into hedging transactions with broker-dealers or 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 the common stock short and deliver these
securities to close out their short positions, or loan or pledge the common
stock to broker-dealers that in turn may sell these securities. The Selling
Stockholders may also enter into option or other transactions with
broker-dealers or other financial institutions or 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).
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 in connection with such sales. In such event, any commissions
received by such broker-dealers or agents and any profit on the resale of the
shares purchased by them may be deemed to be underwriting commissions or
discounts under the Securities Act. Each Selling Stockholder has informed the
Company that it does not have any written or oral agreement or understanding,
directly or indirectly, with any person to distribute the Common Stock. In
no
event shall any broker-dealer receive fees, commissions and markups which,
in
the aggregate, would exceed eight percent (8%).
The
Company is required to pay certain fees and expenses incurred by the Company
incident to the registration of the shares. The Company has agreed to indemnify
the Selling Stockholders against certain losses, claims, damages and
liabilities, including liabilities under the Securities Act.
Because
Selling Stockholders may be deemed to be “underwriters” within the meaning of
the Securities Act, they will be subject to the prospectus delivery requirements
of the Securities Act including Rule 172 thereunder. In addition, any securities
covered by this prospectus which qualify for sale pursuant to Rule 144 under the
Securities Act may be sold under Rule 144 rather than under this prospectus.
There is no underwriter or coordinating broker acting in connection with the
proposed sale of the resale shares by the Selling Stockholders.
We
agreed
to keep this prospectus effective until the earlier of (i) the date on which
the
shares may be resold by the Selling Stockholders without registration and
without regard to any volume limitations by reason of Rule 144(k) under the
Securities Act or any other rule of similar effect or (ii) all of the shares
have been sold pursuant to this prospectus or Rule 144 under the Securities
Act
or any other rule of similar effect. The resale shares will be sold only through
registered or licensed brokers or dealers if required under applicable state
securities laws. In addition, in certain states, the resale shares may not
be
sold unless they have been registered or qualified for sale in the applicable
state or an exemption from the registration or qualification requirement is
available and is complied with.
Under
applicable rules and regulations under the Exchange Act, any person engaged
in
the distribution of the resale shares may not simultaneously engage in market
making activities with respect to the common stock for the applicable restricted
period, as defined in Regulation M, prior to the commencement of the
distribution. In addition, the Selling Stockholders will be subject to
applicable provisions of the Exchange Act and the rules and regulations
thereunder, including Regulation M, which may limit the timing of purchases
and
sales of shares of the common stock by the Selling Stockholders or any other
person. We will make copies of this prospectus available to the Selling
Stockholders and have informed them of the need to deliver a copy of this
prospectus to each purchaser at or prior to the time of the sale (including
by
compliance with Rule 172 under the Securities Act).
SELECTED
FINANCIAL DATA
The
selected financial data presented below summarizes certain financial data which
has been derived from and should be read in conjunction with our consolidated
financial statements and footnotes thereto included in the section beginning
on
page F-1. The information for the nine months
ended September 30, 2006 and 2007 was derived from our unaudited
financial statements but, in the opinion of management, reflects all adjustments
necessary for a fair presentation of the results of such periods. You should
read this data together with our financial statements and related notes included
elsewhere in this prospectus and the information under “Management’s Discussion
and Analysis of Financial Condition and Results of Operations.”
Consolidated
Statements of Operations:
|
|
Nine
Months Ended September 30,
|
|
|
Years
Ended December 31.
|
|
|
|
2007
|
|
|
2006
|
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
2002
|
|
|
|
(Unaudited)
|
|
|
(audited)
(Restated)
|
|
|
(audited)
(Restated)
|
|
|
(audited)
(Restated)
|
|
|
(audited)
(Restated)
|
|
|
(audited)
(Restated)
|
|
|
(audited)
|
|
Statement
of Operations Data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
revenue
|
|
$ |
28,090
|
|
|
$ |
32,332
|
|
|
$ |
42,738
|
|
|
$ |
17,307
|
|
|
$ |
10,857
|
|
|
$ |
849
|
|
|
$ |
2,319
|
|
Cost
of revenues
|
|
|
20,816
|
|
|
|
27,710
|
|
|
|
36,217
|
|
|
|
13,221
|
|
|
|
7,887
|
|
|
|
507
|
|
|
|
1,787
|
|
Operating
expenses: Selling, general and administrative
|
|
|
5,395
|
|
|
|
4,067
|
|
|
|
11,126
|
|
|
|
5,447
|
|
|
|
5,244
|
|
|
|
2,546
|
|
|
|
3,176
|
|
Earning/(loss)
from operations
|
|
|
1,284
|
|
|
|
252
|
|
|
|
(7,533 |
) |
|
|
(5,608 |
) |
|
|
(6,242 |
) |
|
|
(2,489 |
) |
|
|
(2,644 |
) |
Net
Profit (Loss)
|
|
|
(639 |
) |
|
|
604
|
|
|
|
(12,415 |
) |
|
|
(5,145 |
) |
|
|
(5,424 |
) |
|
|
(1,783 |
) |
|
|
(2,921 |
) |
Basic
earnings/(loss) per share
|
|
$ |
(0.06 |
) |
|
$ |
0.02
|
|
|
$ |
(1.08 |
) |
|
$ |
(0.58 |
) |
|
$ |
(0.92 |
) |
|
$ |
(0.34 |
) |
|
$ |
(0.70 |
) |
Diluted
earnings/(loss) per share
|
|
$ |
(0.06 |
) |
|
$ |
0.02
|
|
|
$ |
(1.08 |
) |
|
$ |
(0.58 |
) |
|
$ |
(0.92 |
) |
|
$ |
(0.34 |
) |
|
$ |
(0.70 |
) |
Shares
used in computing earnings:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
weighted average shares
|
|
|
11,805,686
|
|
|
|
11,171,608
|
|
|
|
11,538,664
|
|
|
|
10,156,809
|
|
|
|
7,015,907
|
|
|
|
5,234,744
|
|
|
|
4,191,816
|
|
Diluted
weighted average shares
|
|
|
11,858,870
|
|
|
|
11,171,608
|
|
|
|
11,538,664
|
|
|
|
10,156,809
|
|
|
|
7,015,907
|
|
|
|
5,234,744
|
|
|
|
4,191,816
|
|
(1)
The
number of shares taking into effect a 5-for 1 reverse stock split effected
in
January 2003.
Consolidated
Balance Sheets:
|
|
As
of September 30,
|
|
|
As
of December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
2002
|
|
|
|
(Unaudited)
|
|
|
(audited)
(Restated)
|
|
|
(audited)
(Restated)
|
|
|
(audited)
(Restated)
|
|
|
(audited)
(Restated)
|
|
|
(audited)
(Restated)
|
|
|
(audited)
|
|
Balance
Sheet Data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash,
cash equivalents and marketable securities
|
|
$ |
4,889
|
|
|
$ |
7,439
|
|
|
$ |
1,900
|
|
|
$ |
3,486
|
|
|
$ |
9,433
|
|
|
$ |
3,776
|
|
|
$ |
3,694
|
|
Working
capital
|
|
|
12,393
|
|
|
|
28,106
|
|
|
|
(1,280 |
) |
|
|
9,198
|
|
|
|
12,711
|
|
|
|
1,171
|
|
|
|
3,081
|
|
Total
assets
|
|
|
42,963
|
|
|
|
67,070
|
|
|
|
36,926
|
|
|
|
42,996
|
|
|
|
29,442
|
|
|
|
6,442
|
|
|
|
4,314
|
|
Total
stockholders’ equity
|
|
$ |
14,968
|
|
|
$ |
36,405
|
|
|
$ |
13,977
|
|
|
$ |
23,204
|
|
|
$ |
24,108
|
|
|
$ |
1,253
|
|
|
$ |
3,253
|
|
SUPPLEMENTARY
FINANCIAL INFORMATION
The
supplementary financial information presented below summarizes certain financial
data which has been derived from and should be read in conjunction with our
consolidated financial statements and footnotes thereto included in the section
beginning on page F-1.
(in
thousands, except per share data)
|
|
First
Quarter
|
|
|
Second
Quarter
|
|
|
Third
Quarter
|
|
|
Fourth
Quarter
|
2007
(unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
revenue
|
|
$ |
9,267
|
|
|
$ |
9,021
|
|
|
$ |
9,802
|
|
|
$ |
N/A
|
|
Gross
Margin
|
|
$ |
2,539
|
|
|
$ |
2,361
|
|
|
$ |
2,374
|
|
|
$ |
N/A
|
|
Basic
net earnings (loss) per share
|
|
$ |
0.03
|
|
|
$ |
(0.10
|
) |
|
$ |
(0.02 |
) |
|
$ |
N/A
|
|
Diluted
net earnings (loss) per share
|
|
$ |
0.03
|
|
|
$ |
(0.09 |
) |
|
$ |
(0.02 |
) |
|
$ |
N/A
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2006
(Audited) (Restated)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
revenue
|
|
$ |
6,672
|
|
|
$ |
13,214
|
|
|
$ |
10,525
|
|
|
$ |
12,327
|
|
Gross
Margin
|
|
$ |
1,352
|
|
|
$ |
1,777
|
|
|
$ |
1,107
|
|
|
$ |
2,285
|
|
Basic
net earnings (loss) per share
|
|
$ |
0.07
|
|
|
$ |
0.07
|
|
|
$ |
(0.09 |
) |
|
$ |
(1.08
|
|
Diluted
net earnings (loss) per share
|
|
$ |
0.07
|
|
|
$ |
0.07
|
|
|
$ |
(0.09 |
) |
|
$ |
(1.08 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005
(Audited) (Restated)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
revenue
|
|
$ |
3,595
|
|
|
$ |
4,793
|
|
|
$ |
4,312
|
|
|
$ |
4,607
|
|
Gross
Margin
|
|
$ |
636
|
|
|
$ |
1,000
|
|
|
$ |
823
|
|
|
$ |
1,627
|
|
Basic
net earnings (loss) per share
|
|
$ |
0.04
|
|
|
$ |
0.06
|
|
|
$ |
0.05
|
|
|
$ |
0.08 |
|
Diluted
net earnings (loss) per share
|
|
$ |
0.04
|
|
|
$ |
0.06
|
|
|
$ |
0.05
|
|
|
$ |
0.08 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2004
(Audited) (Restated)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
revenue
|
|
$ |
1,280
|
|
|
$ |
2,954
|
|
|
$ |
2,943
|
|
|
$ |
3,680 |
|
Gross
Margin
|
|
$ |
658
|
|
|
$ |
683
|
|
|
$ |
723
|
|
|
$ |
906 |
|
Basic
net earnings (loss) per share
|
|
$ |
0.02
|
|
|
$ |
0.01
|
|
|
$ |
0.02
|
|
|
$ |
0.06 |
|
Diluted
net earnings (loss) per share
|
|
$ |
0.02
|
|
|
$ |
0.01
|
|
|
$ |
0.02
|
|
|
$ |
0.04 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
MANAGEMENT’S
DISCUSSION AND ANALYSIS
OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
THE
FOLLOWING DISCUSSION SHOULD BE READ IN CONJUNCTION WITH THE INFORMATION
CONTAINED IN THE FINANCIAL STATEMENTS OF THE COMPANY AND THE NOTES THERETO
APPEARING ELSEWHERE HEREIN AND IN CONJUNCTION WITH THE MANAGEMENT'S DISCUSSION
AND ANALYSIS SET FORTH IN THE COMPANY'S QUARTERLY REPORT ON FORM 10- FOR THE
QUARTER ENDED SEPTEMBER 30, 2007 AND ANNUAL REPORT ON FORM 10-K/A FOR THE YEAR
ENDED DECEMBER 31, 2006.
PRELIMINARY
NOTE REGARDING FORWARD-LOOKING STATEMENTS
The
statements contained in this prospectus that are not purely historical are
forward-looking statements within the meaning of Section 27A of the Securities
Act of 1933, as amended, and Section 21E of the Securities Exchange Act of
1934,
as amended. These include statements about the Company's expectations, beliefs,
intentions or strategies for the future, which are indicated by words or phrases
such as "anticipate," "expect," "intend," "plan," "will," "the Company
believes," "management believes" and similar words or phrases. The
forward-looking statements are based on the Company's 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." The Company's actual results could differ materially from
results anticipated in these forward-looking statements. All forward-looking
statements included in this document are based on information available to
the
Company on the date hereof, and the Company assumes no obligation to update
any
such forward-looking statements.
FACTORS
THAT COULD AFFECT FUTURE RESULTS
Factors
that might cause actual results, performance or achievements to differ
materially from those projected or implied in such forward-looking statements
include, among other things:
—
|
the
impact of competitive products;
|
—
|
changes
in laws and regulations;
|
—
|
adequacy
and availability of insurance coverage;
|
—
|
limitations
on future financing;
|
—
|
increases
in the cost of borrowings and unavailability of debt or equity
capital;
|
—
|
the
inability of the Company to gain and/or hold market
share;
|
—
|
exposure
to and expense of resolving and defending liability claims and other
litigation;
|
—
|
consumer
acceptance of the Company's
products;
|
—
|
managing
and maintaining growth;
|
—
|
customer
demands;
|
—
|
market
and industry conditions,
|
—
|
the
success of product development and new product introductions into
the
marketplace;
|
—
|
the
departure of key members of management, and
|
—
|
the
effect of the United States War on Terrorism, as well as other risks
and
uncertainties that are described from time to time in the Company's
filings with the Securities and Exchange
Commission.
|
Regarding
one of our subsidiaries, for example, Epro is engaged in the business of
providing outsourced call center services with over 15 years of field experience
in Hong Kong and China. The factors that could affect current and future results
are as follows:
—
|
insufficient
sales forces for business development & account
servicing;
|
—
|
lack
of PRC management team in operation;
|
—
|
less
familiarity on partners' product knowledge;
|
—
|
deployment
costs of a new HR application and the costs to upgrade the call center
computer system;
|
—
|
increasing
operations costs (cost of salaries, rent, interest rates & inflation)
under rising economy in Hong Kong;
|
—
|
insufficient
brand awareness initiatives in the market;
|
—
|
salary
increases due to an active labor market in Hong Kong and GuangZhou;
and
|
—
|
increasing
competition of call center solutions in the Hong Kong and PRC
markets.
|
CRITICAL
ACCOUNTING POLICIES AND ESTIMATES
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 accounts
receivable reserves, provisions for impairment losses of affiliated companies
and other intangible assets, income taxes and contingencies. We base our
estimates on historical experience and on various other assumptions that are
believed 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 our more significant
estimates and assumptions used in the preparation of our consolidated financial
statements:
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 earnings, thereby reducing our net earnings. 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.
In
the
beginning of the third quarter of 2006, the Chinese government announced that
it
would implement several new policies regarding mobile phone value-added service
providers effective from July 10, 2006. These policies include a “double
confirmation” policy and the requirement that value-added service providers
provide one-month trial subscriptions. By requiring that mobile phone customers
“double-confirm” their intention to purchase services, and by requiring free
subscriptions, the Chinese government has negatively affected value-added
service providers.
Inventory
Our
inventory purchases and commitments are made in order to build inventory to
meet
forecasted demand for our products. We perform a detailed assessment of
inventory for each period, which includes a review of, among other factors,
demand requirements, product life cycle and development plans, component cost
trends, product pricing and quality issues. Based on this analysis, we record
adjustments to inventory for excess, obsolescence or impairment, when
appropriate, to reflect inventory at net realizable value. Revisions to our
inventory adjustments may be required if actual demand, component costs or
product life cycles differ from our estimates. In the event we were unable
to
sell our products, the demand for our products diminished, and/or other
competitors offered similar or better products, we would be forced to record
an
adjustment to inventory for impairment or obsolescence to reflect inventory
at
net realizable value. The accounting effect of this entry would be a charge
to
earnings, thereby reducing our net earnings.
Income
Taxes
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, and 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. We currently
have
recorded a full valuation allowance against net deferred tax assets as we
currently believe it is more likely than not that the deferred tax assets will
not be realized. 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.
Contingencies
We
may be
subject to certain asserted and unasserted claims encountered in the normal
course of business. It is our belief that the resolution of these matters will
not have a material adverse effect on our financial position or results of
operations, however, we cannot provide assurance that damages that result in
a
material adverse effect on our financial position or results of operations
will
not be imposed in these matters. We account for contingent liabilities when
it
is probable that future expenditures will be made and such expenditures can
be
reasonably estimated.
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 earnings, thereby reducing
our
net earnings.
Convertible
Debt
The
fair
value of these derivative instruments, as determined by applying the
Black-Scholes valuation model, is adjusted quarterly. The Black-Scholes
valuation model requires the input of highly subjective assumptions, including
the expected stock price volatility. Additionally, although the Black-Scholes
model meets the requirements of SFAS 133, the fair values generated by the
model may not be indicative of the actual fair values as our derivative
instruments have characteristics significantly different from traded options.
Accordingly, the results obtained could be significantly different if other
assumptions were used. The effect of this entry would be a charge to net
earnings, thereby either increasing or reducing our net earnings based upon
the
assumptions used and the results obtained.
NATURE
OF THE BUSINESS OPERATIONS OF THE COMPANY
PacificNet
Inc. is a leading provider of gaming technology, e-commerce, and Customer
Relationship Management (CRM) in China. Our goal is to take a leading
role in providing gaming technology and CRM, which are rapidly expanding
business sections in Asia. Our gaming products are specially designed
for the Chinese and Asian gamers and we focus on integrating localized Chinese
and Asian themes and content, advanced graphics, digital sound effects and
popular domestic music, with secondary bonus games and jackpots. Our gaming
clients include the leading hotels, casinos, and gaming operators in Macau,
Asia, and Europe.
Through
our subsidiaries we also invest in and operate companies that provide
outsourcing services, telecom value-added services (VAS) and telecom products
and services. Our business process outsourcing (BPO) services group includes
call centers, providing customer relationship management (CRM), and
telemarketing services. 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 voice over internet protocol (VOIP), as well
as
mobile phone VAS, such as short messaging services (SMS) and multimedia
messaging services (MMS). Our telecom products and services include IT and
distribution services, and online mobile phone distribution,. Our ecommerce
and
CRM clients include the leading telecom companies, banks, insurance, travel,
marketing and business services companies and telecom consumers in Greater
China
such as China Telecom, China Mobile, Unicom, PCCW, Hutchison Telecom, Bell24,
Motorola, Nokia, SONY, TCL, Huawei, American Express, Citibank, HSBC, Bank
of
China, Bank of East Asia, DBS, TNT, China and Hong Kong
government. Our ecommerce and CRM clients include the leading
telecom companies, banks, insurance, travel, marketing and business services
companies and telecom consumers in Greater China such as China Telecom, China
Mobile, Unicom, PCCW, Hutchison Telecom, Bell24, Motorola, Nokia, SONY, TCL,
Huawei, American Express, Citibank, HSBC, Bank of China, Bank of East Asia,
DBS,
TNT, China and Hong Kong government.
PacifcNet
employs approximately 1,200 staff in our various subsidiaries throughout China
with offices in Hong Kong, Beijing, Shanghai, Shenzhen, Guangzhou, Macau and
Zhuhai China, USA, and the Philippines.
PacificNet’s
Business Units
We
categorize our current operations as two business units consisting of our gaming
technology business, which includes electronic gaming machines, mobile games
and
i-gaming software, and our legacy business, which includes CRM, e-commerce
and
telecom products.
Gaming
Technology Business Operating Susidiaries
—
|
PacificNet
Games Limited (PacGames), is a leading provider of Asian
multi-player electronic gaming machines, gaming technology solutions,
gaming related maintenance, IT and distribution services for the
leading
hotel, casino and slot hall operators based in Macau, China and other
Asian gaming markets.
|
—
|
Take1
Technologies (www.take1technologies.com) , is in the business of
designing and manufacturing electronic multimedia entertainment kiosks,
coin-op kiosks and machines, electronic gaming machines (EGM), bingo
and
slot machines, AWP (Amusements With Prizes) games, server-based
downloadable games systems, and Video Lottery Terminals (VLT) such
as Keno
and Bingo machines, including hardware, software, and
cabinets.
|
Legacy
Business Operating Subsidiaries
—
|
Pacific
Solutions Technology, is a CMM Level 3 certified software
development center with over 200 software programmers located in
Shenzhen,
China, and specializes in the development of client-server systems,
internet e-commerce software, online and casino gaming systems and
slot
machines, banking and telecom applications using Microsoft Visual
C++,
Java, and other rapid application development tools.
|
—
|
PacificNet
Epro (www.EproTel.com.hk): CRM Call Center and Customer Services
Outsourcing
|
—
|
PacificNet
Clickcom (www.clickcom.com.cn), MOABC.com : VAS,SP,( SMS,
WAP)
|
—
|
Guangzhou
Wanrong (www.my2388.com) : VAS, SP, (SMS,MMS,IVR,WAP, Java
Games)
|
—
|
PacificNet
Communications Limited,
|
—
|
iMobile,
(www.imobile.com.cn, www.18900.com,
wap.17wap.com)
|
PacificNet's
Gaming Products
Our
gaming products include:
-
Multi-player
Electronic Table Games: Baccarat, Sicbo, Fish-Prawn-Crab, and Roulette
Machines, server based games (SBG) with multiple client betting
stations.
-
Slot
Machines
-
Bingo
and Keno Machines
-
Video
Lottery Terminals (VLTs)
-
Server-Based
Gaming Machines (SBG)
-
Amusement
With Prices (AWP) Machines
-
Online
iGaming Software Development
-
Client-Server
Gaming Systems
-
CMM
Level 3 Certified Gaming Software Development Center in China with 200
Professional Software Developers
-
Gaming
Systems, Cabinet Design and Sales, Parts Sales, OEM Games. We design and
sell
gaming machine cabinets, replacement parts.
PacificNet
Gaming Technology
1.
Participation games: Company-owned gaming machines that we
lease based upon any of the following payment methods: (1) a percentage of
the
net win of the gaming machines, (2) fixed daily fees, or (3) in the case of
wide-area progressive gaming machines, a percentage of the amount wagered or
a
combination of a fixed daily fee and a percentage of the amount
wagered.
2.
Wide Area Game Network, Community Gaming: Electronically linked gaming
machines that are located across multiple casinos within a gaming jurisdiction.
The linked gaming machines contribute to and compete for large, system-wide
progressive jackpots and are designed to increase gaming machine play for
participating casinos by giving the players the opportunity to win a larger
jackpot than on a stand-alone gaming machine.
3.
Local Area Progressive Jackpots (LAP) participation games:
Electronically linked gaming machines that are located within a single casino
to
a progressive jackpot for that specific casino.
4.
Video Lottery Terminals: Video gaming machines featured with localized
Chinese and Asian themes and contents, advanced graphics, digital sound effects
and music and incorporate many of the same features from our other gaming
machines.
5.
Server-based Gaming: A gaming system in which game content and
peripherals are configured, maintained and refreshed over a network that links
groups of gaming machines to a remote server that also enables custom
configuration by operators and central determination of game
outcomes.
Gaming
Market Overview on Macau, China
As
of the
end of 2006, Macau (a Special Administrative Region of the People's Republic
of
China) became the largest and fastest-growing gaming market in the world in
total revenues. According to statistics provided by the Macau
government, in 2006, Macau's gaming revenues exceeded US$7 billion (MOP 56.2
billion patacas), surpassing the Las Vegas Strip gaming revenues of US$6.6
billion. Macau borders Zhuhai City of Guangdong Province of China, one of the
country's wealthiest and most developed regions and is an hour away from Hong
Kong via ferry. In 2006, the number of tourists visiting Macau reached an
all-time record of 22 million, an increase of 17 percent compared with 2005,
of
which 55% or 12 million visitors were from mainland China. At the end of 2006,
there were 22 casinos, 83 hotels and similar establishments in Macau with close
to 13,000 rooms. By 2010, the number of tourists is expected to nearly double
to
nearly 30 million visitors per year. Approximately one billion people live
within a three-hour flight of Macau. Numerous hotel, gaming, and other projects
are in the works in Macau which are expected to add over 10,000 guest rooms
and
over 20,000 live entertainment seats in eight separate venues. The number of
hotel-casinos in operation and in development in Macau continues to grow,
including well-known Chinese names such as Galaxy and Melco, and famous Las
Vegas names such as the Sands, the Venetian, Wynn Resort and Crown Macau. With
the disposable income of the average Chinese on the rise, Macau's gaming and
entertainment market is expected to grow for years to come. Macau is the only
area in China where gambling is legal.
RESULTS
OF OPERATIONS FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2007 COMPARED
TO
SEPTEMBER 30, 2006.
REVENUES
Revenues
for the three and nine months ended September 30, 2007 amounted to $9,802,000
and $28,090,000, a year-over-year decline of 7% and 13% as compared to
$10,525,000 and $32,332,000 for the same periods of prior year, respectively.
The year-over-year decrease in revenues was mainly due to contraction of the
Company’s low margin Mobile phone wholesaling businesses in Greater China.
Segmented financial information of the three business operating groups is set
out below followed by a brief discussion of each business group.
THREE
AND NINE MONTHS ENDED SEPTEMBER 30, 2007 COMPARED TO THREE AND NINE MONTHS
ENDED
SEPTEMBER 30, 2006
|
Group
1
|
Group
2
|
Group
3
|
Group
4
|
TOTAL
|
For
The Three Months Ended September 30, 2007
|
Outsourcing
Services
|
Telecom
Value-Added
Services
|
Products
(Telecom
& Gaming)
|
Other
Business
|
|
In
thousands of US Dollars
|
($)
|
($)
|
($)
|
($)
|
($)
|
Revenues
|
3,971
|
470
|
5,305
|
56
|
9,802
|
Income
/ (Loss) from Operations
|
189
|
444
|
201
|
(697)
|
137
|
|
Group
1
|
Group
2
|
Group
3
|
Group
4
|
TOTAL
|
For
The Three Months Ended September 30, 2006
|
Outsourcing
Services
|
Telecom
Value-Added
Services
|
Products
(Telecom
& Gaming)
|
Other
Business
|
|
In
thousands of US Dollars
|
($)
|
($)
|
($)
|
($)
|
($)
|
Revenues
|
3,733
|
40
|
6,411
|
341
|
10,525
|
Income
/ (Loss) from Operations
|
188
|
1
|
(191)
|
(616)
|
(618)
|
|
Group
1
|
Group
2
|
Group
3
|
Group
4
|
TOTAL
|
For
The Nine Months Ended September 30, 2007
|
Outsourcing
Services
|
Telecom
Value-Added
Services
|
Products
(Telecom
& Gaming)
|
Other
Business
|
|
In
thousands of US Dollars
|
($)
|
($)
|
($)
|
($)
|
($)
|
Revenues
|
6,937
|
9,243
|
11,700
|
210
|
28,090
|
Income
/ (Loss) from Operations
|
830
|
793
|
1,824
|
(2,163)
|
1,284
|
|
Group
1
|
Group
2
|
Group
3
|
Group
4
|
TOTAL
|
For
The Nine Months Ended September 30, 2006
|
Outsourcing
Services
|
Telecom
Value-Added
Services
|
Products
(Telecom
& Gaming)
|
Other
Business
|
|
In
thousands of US Dollars |
($)
|
($)
|
($)
|
($)
|
($)
|
Revenues
|
10,312
|
106
|
18,262
|
3,758
|
32,438
|
Income
/ (Loss) from Operations
|
734
|
4
|
98
|
(584)
|
252
|
(1)
|
Outsourcing
services: Revenues for the three and nine months ended September 30,
2007 were $3,971,000 and $11,700,000, representing a year-over-year
increase of 6% and 13% as compared to $3,733,000 and $10,312,000
for the
same periods of last year. The increase was mainly derived from
the inbound service, in-sourcing operations and telemarketing management,
from which the sales revenues amounted to $635,000, $1,136,000 and
$651,000 for the third quarter of this year, a quarter-over-quarter
increase of 32%, 2% and 43%, respectively as compared to the same
period
of prior year. On the other hand, sales revenues from software
business decreased to $518,000, a decrease of 24% as compared to
$667,000
for the same period of prior year. Revenue from outsourcing services
accounted for 41% of the Company's total revenues for the third quarter
of
FY2007.
|
(2)
|
Telecom
Value-added Services (VAS): Revenues for the three and nine months
ended
September 30, 2007 was $470,000 and $1,429,000 respectively, a significant
year-over-year increase of 1,075% and 1,248% as compared to $40,000
and
$106,000 for the same periods of last year. The increase was mainly
due to
the sales revenues from WAP based mobile phone games and traditional
SP
businesses, which accounted for 77% of the Company's total VAS revenues
for the third quarter of FY2007.
|
(3)
|
Products
(Telecom & Gaming): Revenues for the three and nine months ended
September 30, 2007 were $5,326,000, and $14,751,000, representing
a
year-over-year decrease of 17% and 19% as compared to $6,411,000
and
$18,262,000 for the same periods of 2006, respectively. Decrease
in
Products revenues, which accounted for 54% of the Company's total
revenues
for the third quarter of FY2007, is largely due to contraction of
the
Company’s mobile phone wholesaling businesses in Greater
China.
|
Gaming
technology revenues derived from selling Multi-player Electronic Gaming Machine
to casino operators amounted to $977,000, and accounted for 18% of total
Products revenues for the third quarter of FY2007. With the internet
gaming license granted by First Cagavan and Cagavan Economic Zone Authority
(CEZA) of the Philippines, the company is widely recognized as a well positioned
emerging gaming technology provider, both online and land-based. Moreover,
successful penetration of the Cambodia gaming market brought some initial orders
of 150 betting stations for the fourth quarter of 2007, plus further orders
of
500-2000 betting stations in 2008.
Revenues
from sales of Electronic Slot Machines amounted to $456,000, and accounted
for
9% of the total Products Revenues for the third quarter of FY 2007, a sequential
decrease of 64% as compared to the second quarter of FY2007. Decrease
was largely due to allocation of precious technical resources to after-sale
service of the deliveries made during the second quarter and work in progress
of
backlog orders from operators in Europe. The company continued to
take advantage of the Italy’s new Comma 6A gaming legislation in entering the
largest European slot market, Italy, as an exclusive supplier of electronic
slot
machines to various leading gaming operators in Europe. Besides, our
subsidiary, Take 1, has unveiled a new line of gaming machine products,
Electronic Bingo Machines, at the Global Gaming Expo (G2E) Las Vegas, and
received TST Certification for Gaming Accreditation.
As
planned, the company continues to scale down its low-margin mobile phone
wholesaling business and distribution business in Greater China. Revenues from
sales of mobile phone for the three and nine months ended September 30, 2007,
amounted to $3,893,00 and $9,903,000, a decline of 39% and 46% as compared
to
$6,411,000 and $18,262,000 for the same periods of 2006.
During
the third quarter, the company’s subsidiary - iMobile had signed a new agreement
with Mototola (China) to become the latter’s authorized distributor of MOTO
accessory products for the MOTO Customer Service Network, MOTO Branded Stores
and distribution channels in Southern China.
COST
OF REVENUES
Cost
of
revenues for the three and nine months ended September 30, 2007 were $7,428,000
and $20,816,000, representing a decrease of 21% and 25% from $9,418,000 and
$27,710,000 for the same periods last year, respectively. Cost of revenues
as a percentage of the corresponding revenues was approximately 76% for the
third quarter of FY2007 as compared to 89% for the same period of prior
year.
(1)
|
Outsourcing
services: Cost of revenues from outsourcing services for the three
and
nine months ended September 30, 2007 amounted to $3,270,000 and
$9,128,000, an increase of 9% and 14% respectively as compared with
2006. Increase in cost of revenues was largely due to headcount
increase at service staff level.
|
(2)
|
Telecom
Value-added Services (VAS): Cost of revenues from VAS for the three
and
nine months ended September 30, 2007 was $161,000 and $475,000, an
increase of 437% and 533% as compared with 2006. Increase is in
line with sales growth of WAP-based mobile phone
games.
|
(3)
|
Products
(Telecom & Gaming): Cost of revenues derived from Products for the
three months ended September 30, 2007 amounted to $3,987,000 and
$11,190,000, a reduction of 36% and 36% respectively, compared with
the
same periods of 2006. Approximately 92% of the cost of revenues
related to Products for the third quarter of FY2007 was derived from
the
sales of mobile phones, and 8% was derived from the sales of electronic
gaming machines.
|
GROSS
PROFIT
Gross
profit for the three and nine months ended September 30, 2007 was $2,374,000
and
$7,274,000, a year-over-year increase of 114 % and 57%, respectively, as
compared to $1,107,000 and $4,622,000 for the same periods of prior year. Gross
margin was 24% and 26% for the three and nine months ended September 30, 2007
as
compared to 11% and 12% for the same period of prior year, respectively.
Quarterly improvement in gross margin was attributed to higher margin for
Multiplayer Gaming Machines (57%) and Electronic Slot Machines
(70%).
SELLING,
GENERAL AND ADMINISTRATIVE EXPENSES
Selling,
general and administrative expenses (SG&A) totaled $2,030,000 and $5,395,000
for the three and nine months ended September 30, 2007, a decrease of 60% and
an
increase of 44% respectively as compared to $1,580,000 and $4,067,000 for the
same periods of prior year. SG&A consists primarily of indirect
staff salaries, office rental, insurance, advertising expenditures and
traveling costs.
(1)
|
Outsourcing
services: SG&A attributed to outsourcing services for the three and
nine months ended September 30, 2007 amounted to $480,000 and $1,671,000,
a decrease of 5% and an increase of 13% as compared to $506,000 and
$1,479,000 for the same periods of prior
year.
|
(2)
|
Telecom
Value-added Services (VAS): SG&A attributed to VAS for the three and
nine months ended September 30, 2007 amounted to negative $154,000
and
$68,000, as compared to $9,000 and $27,000 for the same periods of
prior
year.
|
(3)
|
Products
(Telecom & Gaming): SG&A attributed to Products for the three and
nine months ended September 30, 2007 amounted to $1,018,000 and
$1,419,000, an increase of 422% and 191% as compared to $195,000
and
$487,000 for the same periods of prior year. Increase in
SG&A was primarily due to additional headcount and office expenses
incurred by newly opened Zhuhai R&D center and Macau sales center, for
sustained development of the gaming technology business
growth.
|
SELLING,
GENERAL AND ADMINISTRATIVE EXPENSES
|
|
Three
months ended September 30, 2007
|
|
|
Three
months ended September 30, 2006
|
|
|
Percentage
Change
|
|
(in
thousands, except percentages)
|
|
($)
|
|
|
($)
|
|
|
(%)
|
|
Remuneration
|
|
|
1,004
|
|
|
|
690
|
|
|
|
45
|
|
Office
|
|
|
370
|
|
|
|
246
|
|
|
|
50
|
|
Travel
|
|
|
95
|
|
|
|
88
|
|
|
|
7
|
|
Entertainment
|
|
|
66
|
|
|
|
35
|
|
|
|
89
|
|
Professional
(legal and consultant)
|
|
|
139
|
|
|
|
71
|
|
|
|
96
|
|
Audit
|
|
|
583
|
|
|
|
16
|
|
|
|
3,578
|
|
Selling
|
|
|
110
|
|
|
|
51
|
|
|
|
117
|
|
Recovery
of provisions for doubtful accounts from subsequent
collections
|
|
|
(424 |
) |
|
|
(28 |
) |
|
|
1,440
|
|
Other
|
|
|
88
|
|
|
|
98
|
|
|
|
(12 |
) |
Total
|
|
|
2,030
|
|
|
|
1,268
|
|
|
|
60
|
|
SELLING,
GENERAL AND ADMINISTRATIVE EXPENSES
|
|
Nine
months ended September 30, 2007
|
|
|
Nine
months ended September 30, 2006
|
|
|
Percentage
Change
|
|
(in
thousands, except percentages)
|
|
($)
|
|
|
($)
|
|
|
(%)
|
|
Remuneration
|
|
|
3,222
|
|
|
|
1,908
|
|
|
|
69
|
|
Office
|
|
|
1,015
|
|
|
|
685
|
|
|
|
48
|
|
Travel
|
|
|
358
|
|
|
|
211
|
|
|
|
70
|
|
Entertainment
|
|
|
165
|
|
|
|
90
|
|
|
|
84
|
|
Professional
(legal and consultant)
|
|
|
499
|
|
|
|
273
|
|
|
|
83
|
|
Audit
|
|
|
720
|
|
|
|
154
|
|
|
|
369
|
|
Selling
|
|
|
295
|
|
|
|
187
|
|
|
|
58
|
|
Recovery
of doubtful accounts from subsequent collections
|
|
|
(1,115 |
) |
|
|
-
|
|
|
|
n/a
|
|
Other
|
|
|
236
|
|
|
|
251
|
|
|
|
-6
|
|
Total
|
|
|
5,395
|
|
|
|
3,757
|
|
|
|
44
|
|
INCOME
/ (LOSS) FROM OPERATIONS
On
a
year-over-year basis, income from operations amounted to $137,000 and $1,284,000
for the three and nine months ended September 30, 2007, as compared to
($618,000) and $252,000 for the same periods of prior year
respectively.
Significant
increase in operating income was mainly derived due to higher margin gaming
revenues, which accounted for 7% of the total operating income for the third
quarter of FY2007.
INCOME
TAXES
The
income tax provisions for the three and nine months ended September 30, 2007
were $46,000 and $0 as compared to ($40,000) and ($70,000) for the same periods
of prior year. 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. We, however, expect our income taxes to increase as our
net income increases and the tax holidays we have benefited from in Hong Kong
and the PRC expire.
MINORITY
INTERESTS
Minority
interests for the three and nine months ended September 30, 2007 totaled
$130,000 and $1,004,000 respectively as compared with $12,000 and $527,000
for
the same period of prior year, representing minority ownership interests in
subsidiaries consolidated in the Company’s consolidated financial
statement.
NET
INCOME
On
a
year-over-year basis, Net Income amounted to ($220,000) and $639,000 for the
three and nine months ended September 30, 2007 respectively, as compared to
($1,115,000) and $604,000 for the same period of prior
year. Quarterly Net Loss was directly associated with Loss on
disposal, which amounted to $356,000 for the third quarter of FY 2007. However,
as the company focused on the high-margin Gaming Technology Business, this
year,
Net Income from sales of Electronic Gaming Machines reached $35,000 and $190,000
respectively for the three and nine months ended September 30,
2007.
CASH
Net
cash
and cash equivalents at September 30, 2007 were approximately $4.9 million,
an
increase of approximately $3.0 million as compared to December 31, 2006.
This was primarily due to successful collection of certain doubtful
debts.
CONTRACTUAL
OBLIGATIONS
Contractual
obligations as of September 30, 2007 are detailed below:
Payments
Due by Period
Contractual
Obligations
|
|
Total
|
|
|
Less
than 1 year
|
|
|
1-5
years
|
|
|
After
5 years
|
|
Line
of credit
|
|
$ |
181
|
|
|
$ |
181
|
|
|
$ |
|
|
|
$ |
|
|
Bank
Loans
|
|
|
2,819
|
|
|
|
768
|
|
|
|
670
|
|
|
|
1,381
|
|
Operating
leases
|
|
|
758
|
|
|
|
603
|
|
|
|
155
|
|
|
|
-
|
|
Capital
leases
|
|
|
152
|
|
|
|
90
|
|
|
|
62
|
|
|
|
-
|
|
Total
cash contractual obligations
|
|
$ |
3,910
|
|
|
$ |
1,642
|
|
|
$ |
887
|
|
|
$ |
1,381
|
|
In
addition to above, the terms of the convertible note obligate the Company to
pay
monthly 2% of outstanding principal as liquidated damages and 30% of the
outstanding principal as mandatory default amount from the date of
ineffectiveness of registration statement. As of September 30, 2007, the Company
has accrued three months of liquidated damages and mandatory default amount
or
approximately $2,697,000, although the Company may not have to pay the full
amount of liquidated damages. The amount has been reflected in the consolidated
financial statements as a separate line item on the consolidated balance sheet
as “liquidated damages liability”.
OFF-BALANCE
SHEET ARRANGEMENTS
We
had no
off-balance sheet guarantees, interest rate swap transactions or foreign
currency forward contracts. We did not engage in trading activities involving
non-exchange traded contracts during the third quarter of 2006.
There
were no off-balance sheet guarantees, interest rate swap transactions, foreign
currency forward contracts or long term purchase commitments outstanding as
of
September 30, 2007. Further, the Company had not engaged in any non-exchange
trading activities during third quarter of 2007.
RESULTS
OF OPERATIONS FOR THE YEAR ENDED DECEMBER 31, 2006 COMPARED TO THE YEAR ENDED
DECEMBER 31, 2005
RESTATEMENT
On
March
19, 2007 the Company's predecessor auditor, Clancy and Co. P.L.L.C., withdrew
its opinion on our previously filed financial statements for the years ended
December 31, 2005 and 2004 due to uncertainties around certain option grants
during the said period. Despite independent investigation in this connection
commissioned by our Audit Committee resulting in extra stock-based compensation
charges of approximately $0.3 million, $1.2 million and $0.1 million to each
of
the years ended December 31, 2005, 2004 and 2003, respectively, the predecessor
auditor did not re-instate its opinion.
The
Company engaged the incumbent auditors to conduct a re-audit of the
financial statements for the years ended December 31, 2005 and
2004. Upon completion of the re-audit, the Company has restated the
opening balances of the financial statements for the year ended December 31,
2006 as previously filed on May 11, 2007 and as amended on November 13, 2007
with the ending balances of the audited financial statements for the years
ended
December 31, 2005 and 2004 as reported in the form 10-KSB/A that was filed
with
the SEC on October 25, 2007.
In
the
course of the financial statements restatement for the year ended December
31,
2006, management has decreased total non-current assets by $1 million worth
of
goodwill as a result of the re-audit restatement to the ending goodwill balances
as at December 31, 2005. Further, management has also decreased total
selling, general and administrative expenses by an aggregate of $6.3
million. Said decrease mainly comprises of extra goodwill impairment
amounting to approximately $3.7 million and $2.6 million, respectively, already
charged to the restated Selling, General and Administrative expenses for the
years ended December 31, 2005 and 2004. An impairment of investment
of $1.2 million was also recorded for the year ended December 31, 2006 for
an
entity disposed in 2006.
REVENUES
Revenues
for the year ended December 31, 2006 were $42,738,000, which represents a
year-over-year increase of 147% as compared to $17,307,000 for the same periods
of prior year.
The
increase in revenues was mainly due to the growth in Products (Telecom &
Gaming) and Other Business Groups, which posted a year-over-year increase of
712% and 325% respectively. In aggregate, the newly acquired subsidiaries during
2006 contributed to 18% of the total revenues. Revenues for the fourth quarter
of the year were $9,573,000, an increase of 989% as compared to $4,812,000
for
the fourth quarter of 2005; or a decrease of 11.2% as compared to $10,785,000
for the third quarter of the year. Segmented financial information of the four
business operating groups is set out below followed by a brief discussion of
each business group.
For
the year ended December 31, 2006
(in
thousands of US Dollars, except percentages)
|
Group
1.
Outsourcing
Services
($)
Restated
|
Group
2.
Telecom
Value-Added Services
($)
Restated
|
Group
3.
Products
(Telecom & Gaming)
($)
Restated
|
Group
4.
Other
Business
($)
Restated
|
Total
($)
Restated
|
Revenues
|
14,146
|
1,555
|
23,385
|
3,652
|
42,738
|
(%
of Total Revenues)
|
33%
|
4%
|
55%
|
8%
|
100%
|
Income
/ (Loss) from Operations
|
677
|
(44)
|
(1,054)
|
(5,889)
|
(6,310)
|
For
the year ended December 31, 2005
(in
thousands of US Dollars, except percentages)
|
Group
1.
Outsourcing
Services
($)
Restated
|
Group
2.
Telecom
Value-Added Services
($)
Restated
|
Group
3.
Products
(Telecom & Gaming)
($)
Restated
|
Group
4.
Other
Business
($)
Restated
|
Total
($)
Restated
|
Revenues
|
13,568
|
|
2,880
|
859
|
17,307
|
(%
of Total Revenues)
|
78%
|
|
17%
|
5%
|
100%
|
Income
/ (Loss) from Operations
|
686
|
|
(106)
|
(6,188)
|
(5,608)
|
(1)
OUTSOURCING SERVICES
Revenues
for the year ended December 31, 2006 were $14,146,000, a year-over-year decrease
of 4% as compared to $13,568,000 for the year ended December 31, 2005.
Outsourcing services revenues made up 33% of the Company’s total revenues for
the FY 2006 which was primarily due to 13% growth in the call center related
revenues as compared to the same period in 2005. Revenues from outsourcing
services for the fourth quarter of the year were $3,833,000, an increase of
5%
as compared to $3,645,000 for the fourth quarter of 2005; or an increase of
3%
as compared to $3,733,000 for the third quarter of 2006.
During
2006, the outsourcing contract center in Hong Kong was close to full
utilization. Pricing was highly competitive but demand for outbound calling
lists, in-sourcing operators and sub-contract call center facilities management,
for American Express and MetLife, remained strong. New contracts won during
the
year included customer service operation management training for NanJing
Airlines, web-based quality management services and supplier quality management
services for McDonalds Corporation, and CRM consulting and call center training
services for China Telecom’s Xinjiang Branch and China Unicom’s Shanghai Branch.
Under the project service agreement, the Company will enhance the CRM service
level and telemarketing management capability of China Unicom’s customer service
center called the “10010 Information Hotline.”
(2)
TELECOM VALUE-ADDED SERVICES (VAS)
Revenues
for the year ended December 31, 2006 were $1,555,000 as compared to $0 for
the
year ended December 31, 2005 as a result of reclassifications induced by Note
16. Our acquisitions in 2006 contributed to the increase in revenues and made
the company a major mobile internet contents provider in China. Revenues from
VAS for the fourth quarter of the year were $1,448,000, a sequential increase
of
4,520% from $40,000 for the third quarter of 2006. VAS revenues made up 13.9%
of
the Company’s total revenues for the fourth quarter of the year.
(3)
PRODUCTS (TELECOM & GAMING)
Revenues
for the year ended December 31, 2006 were $23,385,000, a significant
year-over-year increase of 712% from $2,880,000 for the year ended December
31,
2005. Revenues from the products group for the fourth quarter of the year were
$5,124,000, an increase of 735.9% as compared to $613,000 for the fourth quarter
of 2005; or a decrease of 20% as compared to $6,411,000 for the third quarter
of
2006. The Product revenues made up 55% of the Company’s total revenues for the
FY 2006.
During
the year, substantially all of the products group revenue derived from the
Company’s mobile phone distribution business in Greater China. The Company owned
one of the largest on-line mobile phone distribution portal in China and was
one
of the top five largest mobile phone wholesalers in Hong Kong. New agreements
had been entered into with Motorola to become its designated channel partner
and
after-sale service provider for Motorola mobile products and accessories in
China. Economies of scale continued to drive year-over-year revenue increase
of
the products group.
Also
included in the products group was the Company’s high potential gaming
technology business. In spite of rather insignificant revenue contribution
in
2006, the acquisition of Able Entertainment in Macau, along with its
exceptionally talented R&D team in Zhuhai, by PacificNet Games Limited
(PacGames) during the year had given the Company major first movers advantage
into the fast growing Asian gaming technology provider market. With PacGames’
world class multi-player electronic table game machines customized to the taste
of Asian gaming customers, the Company has managed to build up excellent
relationships with leading casino operators in Macau and the rest of Asia in
no
time.
(4)
OTHER BUSINESS
Revenues
for other business for the year ended December 31, 2006 was $3,652,000, an
increase of 325% as compared to $859,000 for the year ended December 31, 2005.
Incremental revenues were largely derived from new air conditioning installation
contracts won by the Company’s subcontracting business in Hong
Kong.
COST
OF REVENUES AND GROSS MARGIN
Cost
of
revenues for the year ended December 31, 2006 was $36,217,000, which represents
a year-over-year increase of 174% as compared to $13,221,000 for the year ended
December 31, 2005.
The
increase in the cost of revenues was directly associated with the corresponding
increase in revenues. Cost of revenues, as a percentage of revenues, was 85%
for
the year ended December 31, 2006 as compared with 76% for the year ended
December 31, 2005. The improvement in cost of revenues was attributable to
the
Company’s constant pursuit of higher margin businesses. The cost of revenues in
services and product sales for the year ended December 31, 2006 increased by
34%
and 66% respectively as compared to 79% and 21% for the same periods of prior
year.
Gross
profit for the year ended December 31, 2006 was $6,521,000, which represents
a
year-over-year increase of 60% as compared to $4,086,000 for the same periods
of
prior year, resulting from our newly acquired subsidiaries in 2006 and call
centre business. Gross profit for the fourth quarter of the year was $1,899,000,
a year-over-year increase of 10% from $1,724,000 for the same period in 2005;
or
a sequential increase of 72% for the third quarter of 2006. Gross margin was
15%
for the year ended December 31, 2006, compared to 24% for the year ended
December 31, 2005.
Going
forward, decline of gross margin is expected to continue as a result of the
new
strategic initiative of moving away from the highly competitive legacy telecom
business into the new niche gaming technology business. Assistance will be
sought from financial advisors and bankers to help dispose of the legacy
businesses units, including but not limited to disposition, spin-offs, mergers
and sale back to founders.
(1)
OUTSOURCING SERVICES
In
2006,
year-over-year cost of revenues for outsourcing services increased by 5% to
$10,908,000 (2005: $10,366,000). Gross profit was 1% lower at $3,238,000 (2005:
$3,202,000). Gross margin for outsourcing services was 23% for the year ended
December 31, 2006, as compared to 24% for the year ended December 31, 2005.
Gross profit for outsourcing services accounted for 50% of the total gross
profit for the year ended December 31, 2006, as compared to 79% for the same
period in 2005. Gross profit of $950,000 for the fourth quarter represented
a
year-over-year reduction of 11% to the same period in 2005; but a sequential
increase of 30% as compared to $732,000 for the third quarter of 2006 due to
the
increasing demand for outsourcing contact center services, especially from
the
industries of telecom, banking, market research and fast-moving consumer goods,
among others. Year-over-year gross profit erosion was primarily due to a
combination of aggressive pricing and higher cost of labor in the highly
competitive Hong Kong market. Extra call center space and depreciation of newly
acquired fixed assets for operations purposes also contributed to a higher
cost
of revenues. Gross margin for this segment mainly depends on the facilities
management services.
(2)
TELECOM VALUE-ADDED SERVICES (VAS)
Cost
of
revenues and gross profit for VAS were $1,138,000 and $416,000 for the year
ended December 31, 2006 respectively, as compared to $0and $0 for the year
ended
December 31. For the fourth quarter of 2006, VAS gross profit was $118,000
as
compared to $0 for the same period in 2005; or a sequential increase of 372%
as
compared to $87,000 for the third quarter of 2006. The increase in
year-over-year gross profit is due to a major VAS acquisition in
2006.
(3)
PRODUCTS (TELECOM & GAMING)
Increase
of 755% in year-over-year cost of revenues for products (telecom & gaming)
to $22,002,000 (2005: $2,572,000) was commensurate with its 61% year-over-year
revenue growth. Gross profit was 349% higher at $1,384,000 (2005: $307,000)
in
absolute terms. Gross margin of mobile phone distribution business in China
and
Hong Kong largely remained steady on a year-over-year basis. Gross profit for
products (telecom & gaming) accounted 21% and 8% of the total gross profit
both for the year ended December 31, 2006 and 2005 respectively. Gross profit
of
$583,000 for the fourth quarter represented a year-over-year increase of 122%
as
compared to the same period in 2005; or a sequential increase of 163% as
compared to $222,000 for the third quarter of 2006.
Slight
year-over-year gross margin improvement from 24% (2005) to 15% (2006) can be
attributed to the newly acquired gaming technology business. Gross margin
contribution of the gaming technology provider business was not apparent in
2006
due to its startup nature and had relative insignificant revenue throughout
the
year.
(4)
OTHER BUSINESS
A
year-over-year increase of 666% in cost of revenues to $2,169,000 for the year
ended December 31, 2006 (2005: $283,000) for Other Business is largely driven
by
subcontracting revenue growth. 95% of cost of revenues in 2006 was attributable
to the new installation contracts won by the Company, gross margins of which
remained almost steady at 24% from year to year.
SELLING,
GENERAL AND ADMINISTRATIVE EXPENSES
Selling,
General and Administrative expenses (“SG&A”) totaled $11,126,000 for the
year ended December 31, 2006, which represents a year-over-year increase of
104%
as compared to $5,447,000 for the year ended December 31, 2005. The increase
in
selling, general and administrative expenses reflected the expansion of our
operations of which expenses were incurred by our newly acquired subsidiaries
and the expansion of the call centre business. In addition to making several
key
acquisitions in 2006, we laid the foundation for a strong future, by hiring
additional personnel in key areas to support our accounting and back-office
functions, as well as implemented the systems to allow the Company to better
measure the performance of each of its units.
On
the
other hand, due to the reclassifying of certain former subsidiaries that the
Company disposed of during 2006, extra provisions for doubtful accounts of
approximately $6,173,000 was include in SG&A., which accounted for 55% of
the total SG&A(Restated).
SELLING,
GENERAL AND
ADMINISTRATIVE
EXPENSES
|
|
Total
for
the year
ended
December
31,
2006
|
|
|
Total
for
the year
ended
December
31,
2005
|
|
|
Percentage
change
|
|
(in
thousands, except percentages)
|
|
($)
|
|
|
($)
|
|
|
(%)
|
|
|
|
Restated
|
|
|
Restated
|
|
|
Restated
|
|
|
|
|
|
|
|
|
|
|
|
Remuneration
and related expenses
|
|
|
3,083
|
|
|
|
1,664
|
|
|
|
85
|
|
Office
(majority is rental and utilities)
|
|
|
1,047
|
|
|
|
758
|
|
|
|
38
|
|
Travel
|
|
|
291
|
|
|
|
225
|
|
|
|
29
|
|
Entertainment
|
|
|
151
|
|
|
|
78
|
|
|
|
94
|
|
Professional
(legal and consultant)
|
|
|
446
|
|
|
|
327
|
|
|
|
36
|
|
Audit
|
|
|
174
|
|
|
|
138
|
|
|
|
26
|
|
Selling
|
|
|
243
|
|
|
|
147
|
|
|
|
65
|
|
BAD
DEBTS
|
|
|
6,173
|
|
|
|
1,178
|
|
|
|
424
|
|
Other
|
|
|
(482 |
) |
|
|
931
|
|
|
|
(152 |
) |
Total
|
|
|
11,126
|
|
|
|
5,447
|
|
|
|
104
|
|
(1)
OUTSOURCING SERVICES
Selling,
General and Administrative expenses for outsourcing services were $2,495,000
for
the year ended December 31, 2006, an increase of 10% from $2,262,000 for the
year ended December 31, 2005. Due to the increase in the demand for
telemarketing and call center services, the Company purchased a call center
facility in China, to support the rapidly growing business of the company.
However, in order to meet clients’ diversified needs, a wide array of supporting
services are provided, including professional inbound services, outbound
services, facilities management and in sourcing services. The expansion of
call
centre services also leaded to the increase number of headcounts.
|
|
Group
1.
|
|
|
|
Outsourcing
Services
|
|
|
|
Total
for
the year
ended
December
31,
2006
|
|
|
Total
for
the year
ended
December
31,
2005
|
|
|
Percentage
change
|
|
(in
thousands, except percentages)
|
|
($)
|
|
|
($)
|
|
|
(%)
|
|
|
|
Restated
|
|
|
Restated
|
|
|
Restated
|
|
|
|
|
|
|
|
|
|
|
|
Remuneration
and related expenses
|
|
|
1,207
|
|
|
|
785
|
|
|
|
54
|
|
Office
(majority is rental and utilities)
|
|
|
535
|
|
|
|
566
|
|
|
|
(5 |
) |
Travel
|
|
|
33
|
|
|
|
56
|
|
|
|
(42 |
) |
Entertainment
|
|
|
39
|
|
|
|
38
|
|
|
|
4
|
|
Professional
(legal and consultant)
|
|
|
62
|
|
|
|
47
|
|
|
|
33
|
|
Audit
|
|
|
21
|
|
|
|
18
|
|
|
|
15
|
|
Selling
|
|
|
33
|
|
|
|
5
|
|
|
|
512
|
|
BAD
DEBTS
|
|
|
402
|
|
|
|
628
|
|
|
|
(36 |
) |
Other
|
|
|
163
|
|
|
|
118
|
|
|
|
38
|
|
Total
|
|
|
2495
|
|
|
|
2,262
|
|
|
|
10
|
|
(2)
TELECOM VALUE-ADDED SERVICES (VAS)
Selling,
General and Administrative expenses for VAS were $326,000 for the year ended
December 31, 2006 as compared to $0 in 2005. The increase of SG&A expense
resulted from acquisitions during the year.
|
|
Group
2.
|
|
|
|
Telecom
Value-Added Services
|
|
|
|
Total
for
the year
ended
December
31,
2006
|
|
|
Total
for
the year
ended
December
31,
2005
|
|
|
Percentage
change
|
|
(in
thousands, except percentages)
|
|
($)
|
|
|
($)
|
|
|
(%)
|
|
|
|
Restated
|
|
|
Restated
|
|
|
Restated
|
|
|
|
|
|
|
|
|
|
|
|
Remuneration
and related expenses
|
|
|
189
|
|
|
|
-
|
|
|
|
n/a
|
|
Office
(majority is rental and utilities)
|
|
|
64
|
|
|
|
-
|
|
|
|
n/a
|
|
Travel
|
|
|
36
|
|
|
|
-
|
|
|
|
n/a
|
|
Entertainment
|
|
|
20
|
|
|
|
-
|
|
|
|
n/a
|
|
Professional
(legal and consultant)
|
|
|
0
|
|
|
|
-
|
|
|
|
n/a
|
|
Audit
|
|
|
0
|
|
|
|
-
|
|
|
|
n/a
|
|
Selling
|
|
|
5
|
|
|
|
-
|
|
|
|
n/a
|
|
BAD
DEBTS
|
|
|
1
|
|
|
|
-
|
|
|
|
n/a
|
|
Other
|
|
|
11
|
|
|
|
-
|
|
|
|
n/a
|
|
Total
|
|
|
326
|
|
|
|
-
|
|
|
|
n/a
|
|
(3)
PRODUCTS (TELECOM & GAMING)
Selling,
General and Administrative expenses for products (telecom & gaming) were
$2,370,000 for the year ended December 31, 2006, a significant increase of
474%
as compared to $413,000 for the year ended December 31, 2005. Increase is
primarily due to new acquisitions during the year.
|
|
Group
3.
|
|
|
|
Products
(Telecom & Gaming)
|
|
|
|
Total
for
the year
ended
December
31,
2006
|
|
|
Total
for
the year
ended
December
31,
2005
|
|
|
Percentage
change
|
|
(in
thousands, except percentages)
|
|
($)
|
|
|
($)
|
|
|
(%)
|
|
|
|
Restated
|
|
|
Restated
|
|
|
Restated
|
|
|
|
|
|
|
|
|
|
|
|
Remuneration
and related expenses
|
|
|
315
|
|
|
|
-
|
|
|
|
n/a
|
|
Office
(majority is rental and utilities)
|
|
|
158
|
|
|
|
-
|
|
|
|
n/a
|
|
Travel
|
|
|
47
|
|
|
|
-
|
|
|
|
n/a
|
|
Entertainment
|
|
|
40
|
|
|
|
-
|
|
|
|
n/a
|
|
Professional
(legal and consultant)
|
|
|
19
|
|
|
|
10
|
|
|
|
99
|
|
Audit
|
|
|
0
|
|
|
|
-
|
|
|
|
n/a
|
|
Selling
|
|
|
95
|
|
|
|
-
|
|
|
|
n/a
|
|
BAD
DEBTS
|
|
|
1,627
|
|
|
|
377
|
|
|
|
332
|
|
Other
|
|
|
69
|
|
|
|
27
|
|
|
|
155
|
|
Total
|
|
|
2,370
|
|
|
|
413
|
|
|
|
473
|
|
(4)
OTHER BUSINESS
Selling,
General and Administrative expenses were $5,935,000 for the year ended December
31, 2006, an increase of 114% as compared to $2,772,000 in 2005. Year-over-year
corporate level remuneration related expenses increased from approximately
$246,000 to $535,000 as a result of strengthening of internal
controls.
|
|
Group
4.
|
|
|
|
Other
Business
|
|
|
|
Total
for
the year
ended
December
31,
2006
|
|
|
Total
for
the year
ended
December
31,
2005
|
|
|
Percentage
change
|
|
(in
thousands, except percentages)
|
|
($)
|
|
|
($)
|
|
|
(%)
|
|
|
|
Restated
|
|
|
Restated
|
|
|
Restated
|
|
|
|
|
|
|
|
|
|
|
|
Remuneration
and related expenses
|
|
|
1,372
|
|
|
|
879
|
|
|
|
56
|
|
Office
(majority is rental and utilities)
|
|
|
290
|
|
|
|
193
|
|
|
|
51
|
|
Travel
|
|
|
175
|
|
|
|
169
|
|
|
|
4
|
|
Entertainment
|
|
|
51
|
|
|
|
40
|
|
|
|
28
|
|
Professional
(legal and consultant)
|
|
|
365
|
|
|
|
271
|
|
|
|
35
|
|
Audit
|
|
|
153
|
|
|
|
120
|
|
|
|
27
|
|
Selling
|
|
|
110
|
|
|
|
142
|
|
|
|
(22 |
) |
BAD
DEBTS
|
|
|
4,143
|
|
|
|
173
|
|
|
|
2,289
|
|
Other
|
|
|
(724 |
) |
|
|
787
|
|
|
|
(192 |
) |
Total
|
|
|
5935
|
|
|
|
2772
|
|
|
|
114
|
|
DEPRECIATION
AND AMORTIZATION EXPENSES
Depreciation
and amortization expenses were $1,463,000 for the year ended December 31, 2006,
representing a year-over-year increase of 430% as compared $276,000 for the
same
periods of prior year.
Depreciation
|
|
For
the year ended
December
31, 2006
|
|
|
For
the year ended
December
31, 2005
|
|
|
Percentage
change
|
|
(in
thousands of US Dollars, except percentages)
|
|
($)
Restated
|
|
|
($)
Restated
|
|
|
(%)
Restated
|
|
Group
1. Outsourcing Services
|
|
|
67
|
|
|
|
16
|
|
|
|
319
|
|
Group
2. Telecom Value-Added Services
|
|
|
134
|
|
|
|
14
|
|
|
|
857
|
|
Group
3. Products (Telecom & Gaming)
|
|
|
38
|
|
|
|
|
|
|
|
|
|
Group
4. Other Business
|
|
|
89
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
328
|
|
|
|
30
|
|
|
|
993
|
|
Amortization
|
|
For
the year ended
December
31, 2006
|
|
|
For
the year ended
December
31, 2005
|
|
|
Percentage
change
|
|
(in
thousands of US Dollars, except percentages)
|
|
($)
Restated
|
|
|
($)
Restated
|
|
|
(%)
Restated
|
|
Group
1. Outsourcing Services
|
|
|
|
|
|
210
|
|
|
|
(100 |
) |
Group
2. Telecom Value-Added Services
|
|
|
|
|
|
36
|
|
|
|
(100 |
) |
Group
3. Products (Telecom & Gaming)
|
|
|
29
|
|
|
|
|
|
|
|
|
|
Group
4. Other Business
|
|
|
1,106
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
1,135
|
|
|
|
246
|
|
|
|
361
|
|
OPERATING
LOSS
Disposing
or spin-off of the
legacy telecom and VAS business units has been an integral part of the Company’s
efforts to become a leading Asian gaming technology provider. Management,
thus,
found making conservative provisions for certain long outstanding receivables
with those legacy business units was necessary under the circumstances.
As a result, an aggregate of $8 million of allowance for doubtful
debts
was charged at the year end, in which approximately $6 million was related
to
long outstanding trade receivables, $1 million related to mostly long
outstanding other receivables extended to set up domestic enterprises in
China,
and the rest $1 million related to subsidiary loans for business development
purposes.
Excluding
all non-cash and nonrecurring items as set out below, non-GAAP net loss of
$1,619,000, as compared to net income of $2,489,000 of the same period last
year. Decrease is primarily due to adverse regulatory changes and highly
competitive market environments as previously discussed.
(in
thousands of US Dollars)
|
|
Group
1.
Outsourcing
Services
($)
Restated
|
|
|
Group
2.
Telecom
Value-
Added
Services
($)
Restated
|
|
|
Group
3.
Products
(Telecom
&
Gaming)
($)
Restated
|
|
|
Group
4.
Other
Business
and
Corporate
($)
Restated
|
|
|
Total
for the
year
ended
December
31, 2006
($)
Restated
|
|
|
Total
for the
year
ended
December
31, 2005
($)
Restated
|
|
Operating
profits before non-cash accounting provisions
|
|
|
1,079
|
|
|
|
(43
|
)
|
|
|
573
|
|
|
|
(1,504
|
)
|
|
|
105
|
|
|
|
1,788
|
|
Allowance
for doubtful accounts (1)
|
|
|
(402
|
)
|
|
|
(1
|
)
|
|
|
(1,627
|
)
|
|
|
(4,143
|
)
|
|
|
(6,173
|
)
|
|
|
(3,425
|
)
|
Goodwill
impairment (2)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(3,689
|
)
|
Stock-based
compensation expenses (3)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(242
|
)
|
|
|
(242
|
)
|
|
|
(282
|
)
|
Operating
profits
|
|
|
677
|
|
|
|
(44
|
)
|
|
|
(1,054
|
)
|
|
|
(5,889
|
)
|
|
|
(6,310
|
)
|
|
|
(5,608
|
)
|
|
1.
|
The
Company’s policy is to provide 50% and 100% provisions for trade and other
receivables over 180 days and 360 days respectively under allowance
for
doubt accounts. As a result, over $1 million in provisions were made
for
the aging trade receivable in each of the Company’s legacy mobile phone
distribution business unit and subcontracting business unit in Hong
Kong,
and $0.5 million for the outstanding trade receivable of the Company’s
data center business unit. The Company also has a policy to review
all
other receivables on an individual basis in addition to the aforementioned
provision by aging policy. As a result, approximately $2.3 million
worth
of provisions were provided for potential loss of long outstanding
accounts arising either as a result of setting up domestic businesses
under private name for operations on behalf of the Company’s subsidiaries
in China or specific accounts that are in dispute. Such accounts
were
considered doubtful should the Company dispose of those legacy business
units in the near future as prescribed by its well-publicized business
transformation strategy.
|
|
2.
|
Stock-based
compensation expenses of $242,473 are due to adoption of SFAS123R
during
the year.
|
INTEREST
INCOME / (EXPENSES), NET
Interest
income/(expense), net
|
|
For
the year ended
December
31,
2006
|
|
|
For
the year ended
December
31,
2005
|
|
|
Percentage
change
|
|
In
thousands of US Dollars, except percentages
|
|
($)
|
|
|
($)
|
|
|
(%)
|
|
|
|
Restated
|
|
|
Restated
|
|
|
Restated
|
|
Interest
income
|
|
|
162
|
|
|
|
223
|
|
|
|
(27
|
)
|
Interest
expense
|
|
|
(1,354
|
)
|
|
|
(123
|
)
|
|
|
507
|
|
Interest
income/(expense), net
|
|
|
(1,192
|
)
|
|
|
100
|
|
|
|
106
|
|
Interest
income was $162,000 for the year ended December 31, 2006, a decrease of 27%
as
compared to $223,000 for the year ended December 31, 2005, of which 86%
($139,000) was generated from lending and fixed-rate bank deposits. Interest
expenses were $1,354,000 for the year ended December 31, 2006, an increase
of
1001% as compared to $123,000 for the year ended December 31, 2005. Most of
the
interest expenses were attributed to bank loans and bank overdraft during the
year.
|
|
For
the
year
ended
December
31,
2006
|
|
|
For
the
year
ended
December
31,
2005
|
|
|
Percentage
change
|
|
Interest
Income (in thousands, except percentages)
|
|
($)
|
|
|
($)
|
|
|
(%)
|
|
|
|
Restated
|
|
|
Restated
|
|
|
Restated
|
|
Group
1. Outsourcing Services
|
|
|
|
|
|
5
|
|
|
|
(100
|
)
|
Group
2. Telecom Value-Added Services
|
|
|
|
|
|
|
|
|
|
|
|
Group
3. Products (Telecom & Gaming)
|
|
|
140
|
|
|
|
152
|
|
|
|
(8
|
)
|
Group
4. Other Business
|
|
|
22
|
|
|
|
66
|
|
|
|
(67
|
)
|
Total
|
|
|
162
|
|
|
|
223
|
|
|
|
(27
|
)
|
|
|
For
the
year
ended
December
31,
2006
|
|
|
For
the
year
ended
December
31,
2005
|
|
|
Percentage
change
|
|
Interest
Expense (in thousands, except percentages)
|
|
($)
|
|
|
($)
|
|
|
(%)
|
|
|
|
Restated
|
|
|
Restated
|
|
|
Restated
|
|
Group
1. Outsourcing Services
|
|
|
309
|
|
|
|
105
|
|
|
|
194
|
|
Group
2. Telecom Value-Added Services
|
|
|
1
|
|
|
|
(1
|
)
|
|
|
(200
|
)
|
Group
3. Products (Telecom & Gaming)
|
|
|
56
|
|
|
|
6
|
|
|
|
833
|
|
Group
4. Other Business
|
|
|
988
|
|
|
|
13
|
|
|
|
7,500
|
|
Total
|
|
|
1,354
|
|
|
|
123
|
|
|
|
1,001
|
|
SUNDRY
INCOME/EXPENSE
Sundry
income known as non-operating income is defined as the external income
(miscellaneous income) that results from factors outside of our operating
subsidiaries’ control and such income does not related to each subsidiaries’
core operating business. Income from the sale of various investments is one
of
the typical examples. (See Note 11 for details)
For
the
year ended December 31, 2005, the non-operating income or sundry income was
$289,000 included in Statement of Operations was mainly derived from the
investment income of $260,000, Leasehold income $6,000, Software service income
$(11,000) and various others totaling $34,000.
For
the
year ended December 31, 2006, the non-operating income or sundry income was
$105,000 mainly derived from leasehold income of $76,000 and various others
totaling $29,000.
Sundry
Income (Net)
|
|
For
the
year
ended
December
31,
2006
|
|
|
For
the
year
ended
December
31,
2005
|
|
|
Percentage
change
|
|
|
|
($)
|
|
|
($)
|
|
|
(%)
|
|
(in
thousands, except percentages)
|
|
Restated
|
|
|
Restated
|
|
|
Restated
|
|
Group
1. Outsourcing Services
|
|
|
|
|
|
57
|
|
|
|
(100
|
)
|
Group
2. Telecom Value-Added Services
|
|
|
|
|
|
|
|
|
|
|
|
Group
3. Products (Telecom & Gaming)
|
|
|
|
|
|
20
|
|
|
|
(100
|
)
|
Group
4. Other Business
|
|
|
105
|
|
|
|
212
|
|
|
|
(50
|
)
|
Total
|
|
|
105
|
|
|
|
289
|
|
|
|
(64
|
)
|
SHARE
OF PROFIT OF ASSOCIATED COMPANIES
We
recorded the total gain of $17,000 for the year ended 2006 with respect to
$(295,000) for 20% ownership interest in Take1 Technology (Cheer Era Limited),
acquired in April 2004, $(19,000) for MOABC, the new acquired subsidiary in
October 2006, with 20% ownership interest, and $331,000 for PacGames, acquired
45% ownership interest in September 2006 (we now owned 51% interest of
PacGames).
INCOME
TAXES
The
income taxes expenses for the Company’s subsidiaries were $63,000 for the year
ended December 31, 2006. The provision of income taxes depends on the tax rate
and tax exemption. Pursuant to the PRC Income Tax Laws, the Company’s
subsidiaries and VIEs are generally subject to Enterprise Income Taxes (“EIT”)
at a statutory rate of 33%, which comprises 30% national income tax and 3%
local
income tax. Certain subsidiaries and VIEs are qualified for preferred high
technology or software enterprise tax status, and they are subject to
preferential tax rate of 15% under PRC Income Tax Rules. In addition, Guangzhou
3G-WOFE, as a new High Technology Foreign Investment Enterprises and under
PRC
Income Tax Laws, is entitled to a two-year tax exemption in 2005 and
2006.
|
|
For
the
year
ended
December
31,
2006
|
|
|
For
the
year
ended
December
31,
2005
|
|
|
Percentage
Change
|
|
Income
Tax (in thousands, except percentages)
|
|
($)
|
|
|
($)
|
|
|
(%)
|
|
Group
1. Outsourcing Services
|
|
|
|
|
|
42
|
|
|
|
(100
|
)
|
Group
2. Telecom Value-Added Services
|
|
|
|
|
|
|
|
|
|
|
|
Group
3. Products (Telecom & Gaming)
|
|
|
|
|
|
|
|
|
|
|
|
Group
4. Other Business
|
|
|
63
|
|
|
|
13
|
|
|
|
425
|
|
Total
|
|
|
63
|
|
|
|
55
|
|
|
|
15
|
|
MINORITY
INTERESTS
Minority
interests for the year ended December 31, 2006 was $153,000. Minority interests
represented the interests of third parties in our subsidiaries’
results.
NET
LOSS
Net
loss
for the year ended December 31, 2006 was $12,805,000 as a result of a number
of
nonrecurring items. Segmented details are set out
below:
Net
Earnings (in thousands, except percentages)
|
|
Group
1.
Outsourcing
Services
($)
Restated
|
|
|
Group
2.
Telecom
Value-
Added
Services
($)
Restated
|
|
|
Group
3.
Products
(Telecom
&
Gaming)
($)
Restated
|
|
|
Group
4.
Other
Business
($)
Restated
|
|
|
Total
for the
year
ended
December
31, 2006
($)
Restated
|
|
|
Total
for the
year
ended
December
31, 2005
($)
Restated
|
|
|
Percentage
Change
(%)
Restated
|
|
Operating
profits
|
|
|
677
|
|
|
|
(44
|
)
|
|
|
(1,054
|
)
|
|
|
(5,889
|
)
|
|
|
(6,310
|
)
|
|
|
(5,608
|
)
|
|
|
13
|
|
Interest
income/(expenses), net
|
|
|
-
|
|
|
|
1
|
|
|
|
140
|
|
|
|
(1,333
|
)
|
|
|
(1,192
|
)
|
|
|
100
|
|
|
|
(1,292
|
)
|
Loss
in change in fair value of warrants
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
(214
|
)
|
|
|
(214
|
)
|
|
|
-
|
|
|
|
n/a
|
|
Maximum
liquidated damage in connection with convertible debenture covenant
breach
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
(3,817
|
)
|
|
|
(3,817
|
)
|
|
|
-
|
|
|
|
n/a
|
|
Sundry
income
|
|
|
1
|
|
|
|
-
|
|
|
|
50
|
|
|
|
54
|
|
|
|
105
|
|
|
|
289
|
|
|
|
(64
|
)
|
Earnings
before Income Taxes, Minority Interest and Discontinued
Operations
|
|
|
678
|
|
|
|
(43
|
)
|
|
|
(864
|
)
|
|
|
(11,199
|
)
|
|
|
(11,428
|
)
|
|
|
(5,219
|
)
|
|
|
119
|
|
CONTRACTUAL
OBLIGATIONS
CONTRACTUAL
OBLIGATIONS
Cash
resources required to satisfy short and long term contractual obligations as
of
December 31, 2006 are tabulated below:
Payments
Due by Period
Contractual
Obligations (in thousands)
|
|
Total
|
|
|
Less
than
1
year
|
|
|
1-5
years
|
|
|
After
5
years
|
|
Line
of credit
|
|
$
|
855
|
|
|
$
|
855
|
|
|
|
--
|
|
|
|
--
|
|
Bank
Loans
|
|
$
|
2,211
|
|
|
$
|
576
|
|
|
$
|
866
|
|
|
$
|
769
|
|
Operating
leases
|
|
$
|
1,444
|
|
|
$
|
680
|
|
|
$
|
764
|
|
|
|
--
|
|
Capital
leases
|
|
$
|
244
|
|
|
$
|
120
|
|
|
$
|
124
|
|
|
|
--
|
|
Total
cash contractual obligations
|
|
$
|
4,754
|
|
|
$
|
2,231
|
|
|
$
|
1,754
|
|
|
$
|
769
|
|
OFF-BALANCE
SHEET ARRANGEMENTS
There
were no off-balance sheet guarantees, interest rate swap transactions, foreign
currency forward contracts or long term purchase commitments outstanding as
of
December 31, 2006. Further, the Company had not engaged in any non-exchange
trading activities during 2006.
RESULTS
OF OPERATIONS (RESTATED) FOR THE YEAR ENDED DECEMBER 31, 2005 COMPARED TO
DECEMBER 31, 2004
RESTATEMENT
On
March
19, 2007 the Company's predecessor auditor, Clancy and Co. P.L.L.C., withdrew
its opinion on our previously filed financial statements for the years ended
December 31, 2005 and 2004 due to uncertainties around certain option grants
during the said period. Despite independent investigation in this connection
commissioned by our Audit Committee resulting in extra stock-based compensation
charges of approximately $0.3 million, $1.2 million and $0.1 million to each
of
the years ended December 31, 2005, 2004 and 2003, respectively, the predecessor
auditor did not re-instate its opinion.
The
Company engaged the incumbent auditors to conduct a reaudit of the
financial statements for the years ended December 31, 2005 and 2004. In the
course of the reaudit, management determined that the Company had never had
control over Yueshen, a 51% owned subsidiary in the context of FAS 94. As a
result of excluding Yueshen from the Company's consolidated
statement operations, net revenues of the Company for each of the years
ended December 31, 2005 and 2004 were reduced by $13.3 million and $12.5
million, respectively. Accordingly, gross profit of the Company for each of
the
years ended December 31, 2005 and 2004 were reduced by $0.5 million and $1
million, respectively.
Due
to
time lapse and the lack of cooperation on the part of current management of
certain former subsidiaries that the Company disposed of during 2006, extra
provisions for doubtful accounts of approximately $3.5 million and $281,000
were
charged to the restated operating expenses for the years ended December 31,
2005
and 2004 to compensate for the lack of audit evidence for certain deposits,
prepayments and receivables alike.
Further,
extra goodwill impairment amounting to approximately $3.7 million and $2.6
million, respectively, have been moved forward from fiscal year 2006 for
charging to the restated Selling, General and Administrative expenses for the
years ended December 31, 2005 and 2004 with the benefit of the hindsight of
knowing the corporate restructure that took place in fiscal year 2006. In the
course of the reaudit, the Company has also increased the restated Selling,
General and Administrative expenses for the year ended December 31, 2005 to
account for approximately $600,000 of previously unaccrued 2005 bonus paid
by a
former subsidiary (ChinaGoHi) in 2006.
In
summary, the above, combined with others, has a net effect of reducing the
net
profits (FY2005: $2.6M; FY2004: $774,000) into deficits (FY2005: -$5.1M; FY2004:
-$5.4M) .
The
following table sets forth selected statement of operations data as a percentage
of revenue for the periods indicated.
|
|
YEAR
ENDED DECEMBER 31,
|
|
|
|
2005
(%)
|
|
|
2004
(%)
|
|
|
|
Restated
|
|
|
Restated
|
|
Revenues
|
|
|
100
|
|
|
|
100
|
|
Cost
of Revenues
|
|
|
(66.5 |
) |
|
|
(72.5 |
) |
Gross
Margin
|
|
|
33.5
|
|
|
|
27.5
|
|
Selling,
general and administrative expense
|
|
|
(33.5 |
) |
|
|
(31.1 |
) |
Depreciation
and amortization
|
|
|
(1.1 |
) |
|
|
(0.6 |
) |
Loss
from operations
|
|
|
(13.9 |
) |
|
|
(27.1 |
) |
Interest
(expenses) income, net
|
|
|
(0.3 |
) |
|
|
(0.4 |
) |
Sundry
income
|
|
|
2.1
|
|
|
|
3.1
|
|
Provision
for income taxes
|
|
|
(0.9 |
) |
|
|
(0.6 |
) |
Share
of profit of associated companies
|
|
|
2.8
|
|
|
|
0.5
|
|
Minority
interest
|
|
|
(6.9 |
) |
|
|
(7.5 |
) |
Discontinued
operations
|
|
|
0.0
|
|
|
|
0.0
|
|
NET
LOSS
|
|
|
(16.6 |
) |
|
|
(32.0 |
) |
REVENUES
Revenues
for the year ended December 31, 2005 were amounted to $31,086,000, which
represented a year-over-year increase of 83% as compared to $16,942,000 for
the
year ended December 31, 2004. The increase in revenues was mainly due to
revenues derived from the value-added telecom services rendered by the Company's
newly acquired subsidiaries, Guangzhou3G ($5,141,000), Clickcom ($660,000)
and Lion Zone ($1,190,000). In the aggregate, the three newly acquired
subsidiaries contributed to22 % of the total revenues. Revenues from the VAS
and
IVR segment can vary from quarter to quarter due to new product launches and
the
seasonality of certain product lines. Segmented financial information of the
four business operating groups is set out below followed by a brief discussion
of each business group.
YEAR
ENDED DECEMBER 31, 2005 COMPARED TO YEAR ENDED DECEMBER 31,
2004.
For
the year ended December 31, 2005 (in thousands of US Dollars, except
percentages
|
|
Group
1.
Outsourcing
Business
|
|
|
Group
2.
Value-Added
Telecom
Business
|
|
|
Group
3.
Communication
Products
Distribution
Business
|
|
|
Group
4.
Other
Business
|
|
|
Total
|
|
|
|
($)
Restated
|
|
|
($)
Restated
|
|
|
($)
Restated
|
|
|
($)
Restated
|
|
|
($)
Restated
|
|
Revenues
|
|
|
13,568
|
|
|
|
13,779
|
|
|
|
2,880
|
|
|
|
859
|
|
|
|
31,086
|
|
(%
of Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues)
|
|
|
44 |
% |
|
|
44 |
% |
|
|
9 |
% |
|
|
3 |
% |
|
|
100 |
% |
Income
/ (Loss) from Operations
|
|
|
686
|
|
|
|
1,274
|
|
|
|
(106 |
) |
|
|
(6,187 |
) |
|
|
(4,333 |
) |
For
the year ended December 31, 2004 (in thousands of US Dollars, except
percentages
|
|
Group
1.
Outsourcing
Business
|
|
|
Group
2.
Value-Added
Telecom
Business
|
|
|
Group
3.
Communication
Products
Distribution
Business
|
|
|
Group
4.
Other
Business
|
|
|
Total
|
|
|
|
($)
Restated
|
|
|
($)
Restated
|
|
|
($)
Restated
|
|
|
($)
Restated
|
|
|
($)
Restated
|
|
Revenues
|
|
|
9,821
|
|
|
|
6,084
|
|
|
|
849
|
|
|
|
188
|
|
|
|
16,942
|
|
(%
of Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues)
|
|
|
58 |
% |
|
|
36 |
% |
|
|
5 |
% |
|
|
1 |
% |
|
|
100 |
% |
Income
/ (Loss)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
from
Operations
|
|
|
862
|
|
|
|
1,655
|
|
|
|
(286 |
) |
|
|
(6,819 |
) |
|
|
(4,588 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)
OUTSOURCING SERVICES
Revenues
for the year ended December 31, 2005 were $13,568,000, a year-over-year increase
of 39% as compared to $9,821,000 for the year ended December 31, 2004.
Outsourcing services revenues accounted for 44% of the Company's total revenues
for FY 2005 due to its subsidiary being selected by China's State Administration
of Taxation to provide integrated call center services training for the tax
bureau's "123661" customer services center in Shenzhen and it is believed that
the contact center expansion in Guangzhou will lead to over 40% annual revenue
growth in the coming years.
One
of
the reasons the revenues increased is the continuous rapid growth on computer
software product from which the revenues amounted to $3,678,000, representing
27% of total outsourcing revenues in FY2005, a year-over-year increase of 337%
as compared to $841,000 for the same periods of prior year.
Besides,
providing a seamless solution and multi-media channels for clients to
communicate with their customers for building better customer relationship
generated more sales revenues. The combination of its innovative infomercials
along with our growing call center operations generated about $8,118,000
revenues in FY2005, accounted for 60% of total outsourcing revenues, It is
a
strong vote of confidence in our future development in China's growing CRM
call
center market due to our expansion from B2B outsourced call center services
into
B2C infomercial services market for vertical industries which a growing number
of domestic and multinational companies across a number of industries are
selecting us to enhance customer services. This demand for CRM services reflects
the increasingly competitive nature of the Chinese marketplace where customers
choose a provider not solely based upon price, but also on customer services.
We
believe that our CRM contact center has emerged as the new competitive advantage
for the market leaders in China and we are well positioned to benefit from
this
trend.
(2)
VALUE-ADDED TELECOM SERVICES (VAS)
Revenues
for the year ended December 31, 2005 was $13,779,000 a significant
year-over-year increase of 126% as compared to $6,084,000 for the year ended
December 31, 2004. Revenues from 3G, Clikcom and Lion Zone in 2005 contributed
to the increase in revenues for this business segment, which amounted to
$5,141,000, $660,000 and $1,190,000 respectively, accounted for 37%, 5% and
9%
of total VAS revenues, and helped us enter the mobile Internet market in
China.
VAS
revenues accounted for 44% of the Company's total revenues for FY 2005.
Presently, approximately 80% of mobile phone users use VAS in
China.
Based
on
CPCT industry control machines and Media Server which supports access from
both
PSTN and VoIP, soft switch and 3G networks, the Company's revenue in the sales
of voice cards continued to grow and amounted to $6,453,000 in FY 2005, a
year-over-year increase of 23% compared to $5,230,000 in FY 2004. These phone
cards sold through the VAS segment differ from the calling cards sales in the
Communication Distribution Business as described below in that those phone
cards
are geared towards the end user and include prepaid calling cards, IDD long
distance calling cards, internet access cards, bundled cross-selling insurance
cards, shopping discount cards, travel and hotel reservation cards,
entertainment cards, and customer loyalty membership cards. For example, the
Bank of China Shanghai selected PacificNet Epro to provide CRM and call center
management training, to enhance agent productivity, to improve call center
service quality, and to revise the strategic market positioning for the
bank.
On
the
other hand, revenues from providing telecom information services to customers
under partner with China Mobile, China Telecom and other communication service
providers for the year ended December 31, 2005 increased to $5,741,000,
accounted for 42% of the total VAS revenues and 18% of the total Revenues in
FY
2005.
(3)
COMMUNICATION PRODUCTS DISTRIBUTION
Revenues
from Communication Products Distribution for the year ended December 31, 2005
were $2,880,000, a year-over-year increase of 242% as compared to $841,000
for
the year ended December 31, 2004. Communication products distribution revenues
made up 9% of the Company's total revenues for the year ended December 31,
2005.
The increased Distribution revenue was mainly due to the expanding of market
promotion activities to meet the increasing market growth in communication
products distribution services.
(4)
OTHER BUSINESS
Revenues
for the year ended December 31, 2005 were $860,000, a significant year-over-year
increase of 357% as compared to $196,000 for the year ended December 31, 2004.
This increased revenue was mainly due to the web maintenance service by
PacificNet Limited which generated revenues of $523,000 in FY 2005, an increase
of 179% as compared to $188,000 in FY2004. Moreover the incorporation of
PacificNet Power on Jan 2005 increased the revenues ($336,000) in FY
2005.
COST
OF REVENUES AND GROSS MARGIN
Cost
of
revenues for the year ended December 31, 2005 was $20,678,000, an increase
of
68% from $12,286,000 for the year ended December 31, 2004. The slight increase
in the cost of revenues was directly associated with the increase in revenue.
Cost of revenue, as a percentage of revenue, was 67% for the year ended December
31, 2005 as compared with 73% for the year ended December 31, 2004. The decrease
in cost as a percentage of revenues was attributable to the changes in
operations, from supplying systems integration and software applications in
2004
to becoming value-added telecom services and product providers in
2005.
Gross
profit for the year ended December 31, 2005 was $10,408,000 an increase of
124%
as compared to $4,656,000 for the year ended December 31, 2004, resulting from
gross margin contributions from our newly acquired subsidiaries in 2005:
Guangzhou3G ($3,000,000), Clickcom ($597,000) and Lion Zone ($1,190,000), which
accounted for 29%, 6% and 11% of total Gross Profit.
Our
gross
margin overall was 33% in the year ended December 31, 2005 (2004:27%) and
approximated the industry standards. The slight increase in gross margin came
primarily from providing telecom information services which had generated Gross
profit of $8,499,000 and Gross margins of 40%.
(1)
OUTSOURCING SERVICES
As
compared to prior year, cost of revenues for outsourcing services increased
to
$10,366,000, 48% higher at $6,984,000 in FY 2004. Gross profit was 13% higher
at
$3,202,000 (2004: $2,837,000).The increase in Gross profit was mainly due to
the
increasing demand for outsourcing contact center services, especially from
the
industries of telecom, banking, market research and fast-moving consumer goods,
among others. From the perspective of high-margin IT Solutions, EPRO enjoyed
growth in FY2005 from its self-developed Contact Center System - WISE-xb Contact
Center System and TNT Hong Kong selected this contact center solution with
customer management capabilities to improve efficiency and enhance customer
satisfaction.
(2)
VALUE-ADDED TELECOM SERVICES (VAS)
As
compared to prior year, cost of revenues for VAS increased to $7,457,000 in
FY
2005, an increase of 70% as compared to $4,399,000 in FY 2004. The increased
cost of VAS revenues was mainly derived from our newly acquired subsidiaries
in
the year of 2005, Guangzhou3G, Clickcom and Lion Zone, the cost of revenues
form
which amounted to $2,141,000, $63,000 and $0 respectively. In the aggregate,
the
cost of VAS revenues from the three newly acquired subsidiaries contributed
to
30 % of the total cost of VAS revenues in FY 2005.
The
Gross
profit amounted to $6,322,000 for the year ended December 31, 2005, a
significant increase of 275% as compared to $1,686,000 for the same periods
of
2004. The increased gross profit was mainly due to the new acquisitions in
the
year of 2005, Guangzhou3G, Clickcom and Lion Zone, from which the Gross profit
amounted to $3,000,000, $597 and $1,190,000 respectively. The acquisitions
for
the newly companies helped our company moved our strategic consolidation in
China's CRM and VAS market, and increased our customer base and improved our
gross margin. the continued profitability in the sale of phone cards.
Furthermore, our company increased market share in the voice/IVR supplier
market.
(3)
COMMUNICATION PRODUCTS DISTRIBUTION
Cost
of
revenues from communication products distribution for the year ended year ended
December 31, 2005 amounted to $2,572,000, a significant year-over-year increase
of 206% as compared to $841,000 for the same periods of 2004. The increased
cost
of revenue was associated with the increased revenues from communication
products distribution as the expanding of promotion market activities. Gross
profit was 4,001% higher at $307,000 (2004: $7,000).
(4)
OTHER BUSINESS
Cost
of
revenues and Gross profit for PacificNet Power for the year ended December
31,
2005 was $283,000 and $577,000, a significant increase of 356% and 358% compared
to $62,000 and $126,000 respectively for the year ended December 31, 2004.
This
was mainly due to the incorporation of PacificNet Power on Jan 2005, which
generated about $269,000 cost of revenues and $67,000 Gross
Profit.
SELLING,
GENERAL AND ADMINISTRATIVE EXPENSES
Selling,
General and Administrative expenses ("SG&A") totaled $10,420,000 for the
year ended December 31, 2005, which represents a year-over-year increase of
98%
as compared to $5,267,000 for the year ended December 31, 2004. The significant
increase in selling, general and administrative expenses reflected the expansion
of our operations of which expenses were incurred by our newly acquired
subsidiaries: Guangzhou3G ($922,000), Clickcom ($611,000) and Lion Zone
($3,097,000), and the expansion of the management team. In addition to making
several key acquisitions in 2005, we laid the foundation for a strong future,
by
hiring additional personnel in key areas to support our accounting and
back-office functions, as well as implemented the systems to allow the Company
to better measure the performance of each of its units.
(1)
OUTSOURCING SERVICES
Selling,
General and Administrative expenses for outsourcing services were $2,261,000
for
the year ended December 31, 2005, an increase of 19% from $1,907,000 for the
year ended December 31, 2004. For the increase in the demand for telemarketing
and call center services, PacificNet Epro purchased a new 250-seat call center
facility in China to support the rapidly growing business of the company, which
caused an increase of 8% from $1,618,000 for the year ended December 31, 2004
to
$1,752,000 for the year ended December 31, 2005, accounted for 78% of the total
SG&A from outsourcing services. However, a wide array of supporting services
are provided, including professional inbound services, outbound services,
facilities management and IVRS support services, to meet clients' diversified
needs.
(2)
VALUE-ADDED TELECOM SERVICES (VAS)
Selling,
General and Administrative expenses for VAS increased from $22,000 for the
year
ended December 31, 2004 to $4,973,000 for the year ended December 31, 2005.The
increase of SG&A expense resulted from the increasing size of our operations
which included premises cost and staff costs from the three new acquisitions,
Guangzhou3G, Clickcom and LionZone, of which SG&A amounted to $922,000,
$611,000 and $3,097,000 respectively, and accounted for 30%, 20% and 38% of
the
total SG&A from VAS.
(3)
COMMUNICATION PRODUCTS DISTRIBUTION
Selling,
General and Administrative expenses for this group were $413,000 for the year
ended December 31, 2005, a significant year-over-year increase of 57 %
as compared to $263,000 for the year ended December 31, 2004. The increased
SG&A was mainly derived from bad debts ($223,000), and Sunday expenses
($11,000) by PacificNet Communications as the expanding of Market
share.
(4)
OTHER BUSINESS
Selling,
General and Administrative expenses were $2,773,000 for the year ended December
31, 2005, a year-over-year decrease of 9.8% as compared to $3,075,000 for the
same periods of FY 2004.
DEPRECIATION
AND AMORTIZATION EXPENSES
Depreciation
and amortization expenses were $351,000 for the year ended December 31, 2005,
which represented an increase of 241% as compared to $103,000 for the year
ended
December 31, 2004.
OPERATING
LOSS
Operating
Loss of $4,333,000 for the year ended December 31, 2005, a decrease of 6% as
compared to $4,588,000 from the year ended December 31, 2004. Operating Loss
margins for the year ended December 31, 2005 was14% as compared to 27% in the
previous year. Annual operating loss of $(686,000), $(1,274,000) and $106,000
generated from the Company's three business units: (1) CRM Outsourcing Services,
(2) Value-Added Services (VAS) and (3) Telecom Distribution Services, as
compared to $(862,000), $(1,655,000), and $287,000 for the same periods of
prior
year.
INTEREST
INCOME / (EXPENSES), NET
Interest
income was $226,000 for the year ended December 31, 2005, an increase of 304%
as
compared to $56,000 for the year ended December 31, 2004. Interest income was
mainly due to $152,000 (67% of total interest income) of PacificNet
Communications from lending and fixed-rate bank deposits ($2,039,000), to
$45,000 of PacificNet Strategic Investment Holdings Limited from bank deposits
($362,000).
Interest
expense was $144,000 for the year ended December 31, 2005, an increase of 16%
as
compared to $124,000 for the year ended December 31, 2004. Interest expenses
were greatly derived from bank loans ($108,000) and bank overdraft ($943,000)
by
Epro which generated $97,000 interest expense, as a percentage of 67% of the
total interest expense.
SUNDRY
INCOME/EXPENSE
Sundry
income known as non-operating income is defined as the external income
(miscellaneous income) that results from factors outside of our operating
subsidiaries' control and such income does not related to each subsidiaries'
core operating business. Income from the sale of various investments is one
of
the typical examples. (See Note 11 for details)
For
the
year ended December 31, 2004, the non-operating income or sundry income was
$521,000 included in Statement of Operations was mainly derived from Linkhead's
consulting services income from system integration services totaling $345,000,
from PacificNet Communications' Investment income totaling $55,000, from
leasehold income totaling $104,000 and from others totaling
$17,000.
For
the
year ended December 31, 2005, the non-operating income or sundry income was
$655,000 included in Statement of Operations was mainly derived from the
consulting services income of $368,000, investment income of $260,000, leasehold
income of $6,000 and various others totaling $21,000.
INCOME
TAXES
The
income taxes expenses for the Company's subsidiaries were $272,000 and $106,000
for the years ended December 31, 2005 and 2004 respectively. The provision
of
income taxes was the result of the operating profit generated by Epro
($631,899), Smartime ($53,243) and ChinaGoHi ($648,266), from which the income
taxes amounted to $27,000, $15,000 and $195,000 respectively. Pursuant to the
PRC Income Tax Laws, the Company's subsidiaries and VIEs are generally subject
to Enterprise Income Taxes ("EIT") at a statutory rate of 33%, which comprises
30% national income tax and 3% local income tax. Some of these subsidiaries
and
VIEs are qualified new technology enterprises and under PRC Income Tax Laws,
they are subjected to a preferential tax rate of 15%. Guangzhou3G-DE as software
enterprise comprises 15% tax rate for one year during 2005 and it can continue
to apply 15% tax rate after this is expired. In addition, Guangzhou 3G-WOFE,
as
a new High Technology Foreign Investment Enterprises and under PRC Income Tax
Laws, is entitled to a two-year tax exemption in 2005 and 2006. In order to
improve the technology market in China, another of our high-tech subsidiaries,
Linkhead, is entitled a three-year tax exemption followed by three years with
a
50% reduction in the tax rate, commencing the first operating year. Therefore,
Linkhead's taxes have been remitted during January 1, 2003 to December 31,
2005
but it pays taxes at 7.5% from January 1, 2006 to December 31,
2008.
MINORITY
INTERESTS
Minority
interests for the years ended December 31, 2005 and 2004 totaled $2,132,000
and
$1,271,000 respectively. Minority interests represented the interests of third
parties in our subsidiaries' results.
NET
LOSS
Net
loss
for the year ended December 31, 2005 was $5,145,000 as compared to net loss
of
$5,425,000 for the year ended December 31, 2004. Net loss of $(585,000),
$(1,440,000) and $113,000 was generated from the Company's three business
units: (1) CRM Outsourcing Services, (2) Value-Added Services (VAS) and
(3) Telecom Distribution Services, represented a decrease of 17 %, 28 % and
(76)
% respectively as compared to $(705,000), $(1,988,000) and $480,000 respectively
for the year ended December 31, 2004.
CONTRACTUAL
OBLIGATIONS
CONTRACTUAL
OBLIGATIONS
We
have
significant cash resources to meet our contractual obligations as of December
31, 2005, as detailed bellows (in thousands of US Dollars):
Payments
Due by Period
Contractual
Obligations
|
|
|
|
|
|
|
|
|
|
|
|
|
(in
thousands)
|
|
Less
than 1 year
|
|
|
1-5
years
|
|
|
After
5 years
|
|
|
Total
|
|
|
|
Restated
|
|
|
Restated
|
|
|
Restated
|
|
|
Restated
|
|
Line
of credit
|
|
$
|
1,059
|
|
|
|
0
|
|
|
|
0
|
|
|
$
|
1,059
|
|
Bank
Loans
|
|
$
|
188
|
|
|
$
|
6
|
|
|
|
0
|
|
|
$
|
194
|
|
Operating
leases
|
|
$
|
571
|
|
|
$
|
1,444
|
|
|
|
0
|
|
|
$
|
2,015
|
|
Capital
leases
|
|
$
|
126
|
|
|
$
|
78
|
|
|
|
0
|
|
|
$
|
204
|
|
Total
cash contractual
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
obligations
|
|
$
|
1,944
|
|
|
|
1,528
|
|
|
|
0
|
|
|
$
|
3,472
|
|
OFF-BALANCE
SHEET ARRANGEMENTS
We
had no
outstanding derivative financial instruments, off-balance sheet guarantees,
interest rate swap transactions or foreign currency forward contracts. We did
not engage in trading activities involving non-exchange traded contracts during
2005.
LIQUIDITY
AND CAPITAL RESOURCES
Net
cash
and cash equivalents at September 30, 2007 were approximately $4.9 million,
an
increase of approximately $3.0 million compared to December 31, 2006. This
change resulted from cash used in operations of $1.6 million, cash used in
investing activities of $0.4 million and cash provided by financing activities
of $1.8 million.
Significant
components of cash flows from operations are as follows:
(Amounts
in millions of US Dollars)
|
|
|
|
Net
loss
|
|
$ |
(0.64 |
) |
Non-cash
and/or nonrecurring items
|
|
|
2.88
|
|
Other
changes in assets and liabilities
|
|
|
(7.33 |
) |
Net
cash used in discontinued operations
|
|
|
6.70
|
|
Net
cash used in operations
|
|
$ |
1.61
|
|
Other
significant sources (uses) of cash as of September 30, 2007 were $5.9 million
proceeds from issuance of convertible debenture, $3.7 million repayment of
convertible debenture, $2.1 million loans receivables from third parties,
$1.4
million from provision for allowance for doubtful accounts.
WORKING
CAPITAL
The
Company’s working capital increased by 9.3% to positive $12,393,000 at September
30, 2007, as compared to negative $1,280,000 at December 31, 2006. The increase
in working capital primarily resulted from $2,989,000 increase in cash and
cash
equivalent, and the increase of $3,426,000 in other current
assets.
ISSUANCE
OF COMMON STOCK
During
the year ended December 31, 2006, the Company had the following equity
transactions (i) 394,000 shares as a result of exercise of stock options
with
cash consideration of $237,000; (ii) 618,112 shares for acquisition of
subsidiaries valued at $4,346,000; and (iii) 275,000 shares returned by
ChinaGoHi valued at $1,672,000, due to a termination agreement signed with
ChinaGoHi in November 2006 (as filed in an 8K dated November 28, 2006); (iv)
repurchase of 24,200 shares from Yueshen with a market value of
$124,223.
FUTURE
LIQUIDITY NEEDS
As
of
December 31, 2006 and September 30, 2007, we had approximately $1,900,000
and
$4,889,000 respectively in cash. 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.
On
February 06, 2007, our subsidiary, PacificNet Games Limited (PacGames) entered
into a definitive agreement for a $5 million financing in the form of secured
convertible debt with Pope Asset Management, LLC (Pope), an institutional
investor. Proceeds from the financing will be used to provide PacGames with
additional working capital in expanding its gaming technology operations,
funding for strategic acquisitions in China and funding for general corporate
purposes.
CHANGES
IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE.
On
January 19, 2007, we were informed by our principal independent accountant,
Clancy and Co. P.L.L.C. (“Clancy”) that is was resigning from its engagement
with us, which resignation was effective immediately. Clancy was engaged by
us
on March 12, 2002 and resigned as of January 19, 2007.
There
were no disagreements between Clancy and us on any matter of accounting
principles or practices, financial statement disclosure, or auditing scope
or
procedure, during the two fiscal years ended December 31, 2004 and 2005 and
subsequently up to the date of resignation which disagreements, if not resolved
to Clancy’s satisfaction, would have caused Clancy to make reference to the
subject matter of the disagreement in connection with its report issued in
connection with the audit of our financial statements. None of the reportable
events described under Item 304(a)(1)(v)(A)-(D) of Regulation S-K occurred
within the two fiscal years ended December 31, 2004 and 2005 and subsequently
up
to the date of resignation. The audit report of Clancy on the financial
statements as of December 31, 2005 did not contain any adverse opinion or
disclaimer of opinion, and such audit report was not qualified or modified
as to
uncertainty, audit scope or accounting principles.
On
February 7, 2007, the audit committee approved the appointment of Kabani &
Company, Inc. (“Kabani”), as our new independent public accountant. Kabani was
engaged by the audit committee on the same day. We did not consult with Kabani
on any matters described in Item 304(2) of Regulation S-K during two fiscal
years ended December 31, 2004 and 2005 and subsequently up to the date of
Kabani’s engagement.
Seasonality
and Quarterly Fluctuations
Several
of our businesses experience fluctuations in quarterly performance.
Traditionally, the first quarter from January to March is a low season for
our
call center business due to the long Lunar New Year holidays in China Revenues
and income from gaming products, call center and telecom value-added services
tend to be higher in the fourth quarter due to special holiday promotions.
Internet/Direct Commerce revenues also tend to be higher in the fourth quarter
due to increased consumer spending during that period. Revenues from the gaming
and VAS can vary from quarter to quarter due to new product launches and the
seasonality of certain product lines
Sales
of
our gaming machines to Macau and other Asian casinos and gaming operators are
generally strongest in Q3 and Q4 and slowest in the Chinese New Year holiday
season in Q1. In addition, quarterly revenues and net income may increase when
we receive a larger number of approvals for new games from regulators and gaming
operators than in other quarters, when a game or platform that achieves
significant player appeal is introduced or if gaming is permitted in a
significant new jurisdiction. In addition, as further technology advancements
become available for the gaming industry, replacement or conversion of gaming
machines will be impacted once any such advanced technology is approved by
regulators.
QUANTITATIVE
AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS
We
are
exposed to various market risks arising from adverse changes in market rates
and
prices, such as foreign exchange fluctuations and interest rates, which could
impact our results of operations and financial position. We do not currently
engage in any hedging or other market risk management tools, and we do not
enter
into derivatives or other financial instruments for trading or speculative
purposes.
Foreign
Currency Exchange Rate Risk
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
Chinese renminbi ("RMB"). 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 inter-bank foreign exchange market rates
and current exchange rates on the world financial markets. Since 1994, the
official exchange rate for the conversion of renminbi to U.S. dollars had
generally been stable and the renminbi had appreciated slightly against the
U.S.
dollar. However, on July 21, 2005, the Chinese government changed its policy
of
pegging the value of Chinese renminbi to the U.S. dollar. Under the new policy,
Chinese renminbi may fluctuate within a narrow and managed band against a basket
of certain foreign currencies. Recently there has been increased political
pressure on the Chinese government to decouple the renminbi from the United
States dollar. At the recent quarterly regular meeting of People's Bank of
China, its Currency Policy Committee affirmed the effects of the reform on
Chinese renminbi exchange rate. Since February 2006, the new currency rate
system has been operated; the currency rate of renminbi has become more flexible
while basically maintaining stable and the expectation for a larger appreciation
range is shrinking. Although a devaluation of the Hong Kong dollar or renminbi
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 renminbi 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. For
fluctuations in period to period exchange rates, the translation adjustment
is
required to translate from local functional currency to the USD reporting
currency (not RMB to HKD to USD). The Company has never engaged in currency
hedging operations and has no present intention to do so.
Interest
Rate Risk
Changes
in interest rates may affect the interest paid (or earned) and therefore affect
our cash flows and results of operations. We are exposed to interest rate change
risk with respect to Epros' (one of our subsidiaries) credit facility with
a
commercial lender. However, we do not believe that this interest rate change
risk is significant.
Inflation
Inflation
has not had a material impact on the Company's business in recent
years.
Concentration
of Credit Risk
Credit
risk represents the accounting loss that would be recognized at the reporting
date if counterparties failed completely to perform as contracted.
Concentrations of credit risk (whether on or off balance sheet) that arise
from
financial instruments exist for groups of customers or counterparties when
they
have similar economic characteristics that would cause their ability to meet
contractual obligations to be similarly affected by changes in economic or
other
conditions as described below:
|
·
|
The
Company's business is characterized by rapid technological change,
new
product and service development, and evolving industry standards
and
regulations. Inherent in the Company's business are various risks
and
uncertainties, including the impact from the volatility of the stock
market, limited operating history, uncertain profitability and the
ability
to raise additional capital.
|
|
·
|
All
of the Company's revenue is derived from Asia and Greater China.
Changes
in laws and regulations, or their interpretation, or the imposition
of
confiscatory taxation, restrictions on currency conversion, 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.
|
|
·
|
If
the Company is unable to derive any revenues from Greater China,
it would
have a significant, financially disruptive effect on the normal operations
of the Company.
|
*
A
substantial portion of the operations of business operations depend on mobile
telecommunications operators (operators) in China and any loss or deterioration
of such relationship may result in severe disruptions to their business
operations and the loss of a significant portion of the Company's revenue.
The
VIEs rely entirely on the networks and gateways of these operators to provide
its wireless value-added services. Specifically these operators are the only
entities in China that have platforms for wireless value-added services. The
Company's agreements with these operators are generally for a period of less
than one year and generally do not have automatic renewal provisions. If neither
of them is willing to continue to cooperate with the Company, it would severely
affect the Company's ability to conduct its existing wireless value-added
services business.
BUSINESS
OVERVIEW
We
were
incorporated in the state of Delaware in 1987. Through our
subsidiaries, we are a leading provider of gaming technology, e-commerce, and
Customer Relationship Management (CRM) in China. Our goal is to take
a leading role in providing gaming technology and CRM, which are rapidly
expanding business sections in Asia.
Our
operations include the following four groups:
|
·
|
Customer
Relationship Management (CRM) and Outsourcing Services. We provide
(1)
Business Process Outsourcing (BPO), such as call centers, CRM and
telemarketing services and (2) IT Outsourcing (ITO), such as software
programming and development
services.
|
|
·
|
Telecom
Value-Added Services (VAS). We are value-added resellers and providers
of
Content Providing (CP), Platform Providing (PP) and Service Providing
(SP)
telecom VAS, such as interactive voice response (IVR) systems, call
center
management systems and voice over internet protocol (VOIP), as well
as
mobile phone VAS, such as short messaging services (SMS) and multimedia
messaging services (MMS).
|
|
·
|
Telecom
and Gaming Products and Services. Our telecom and gaming products
and
services include distribution services, multimedia interactive
self-service kiosk distribution, online mobile phone distribution,
and the
design, manufacture, and marketing of gaming machines (Asian multi-player
electronic gaming machines). In addition to gaming machines, we also
offer
the leading hotel, casino and slot hall operators based in Macau,
China
and other Asian gaming markets a wide range of gaming technology
solutions
including gaming related
maintenance.
|
|
·
|
Other
Business Services. We have a number of subsidiaries that we use primarily
for administration, internal control and acquisition purposes. One
of
these subsidiaries is engaged in the air-conditioning subcontracting
business.
|
Beginning
in late 2006, we launched our gaming product and technology business in Macau
and Asia. Through our subsidiaries, including PacificNet Games Limited
(“PacGames”) and Take1 Technologies Limited (“Take1”), we design, manufacture,
and market electronic gaming machines (EGM), video lottery terminals (“VLTs”),
Amusement with Prizes (AWP) machines, keno and bingo machines. We are also
involved in gaming operations, in which we place participation games, including
gaming machines linked to wide-area progressive (“WAP”) jackpot systems,
local-area progressive (“LAP”) jackpot systems and non-linked, stand-alone
gaming machines in legal gaming venues. We also license our game themes to
third
parties. We serve the gaming industry in Macau, Asia and Europe. We
manufacture our gaming machines exclusively in Macau and China and we have
development and distribution offices in Macau and Asia. We intend to continue
to
grow our business by acquiring and managing growing technology businesses with
specialized gaming hardware and software products that provide our customers
with state-of-the-art marketing, data management, accounting, security and
gaming software applications and tools to more effectively cope with their
fast
growing Asian gaming operations.
We
seek
to develop games and gaming machines that offer high entertainment value and
generate greater revenues for casinos and other gaming machine operators than
what is currently offered by our competitors. Our gaming machines feature
advanced graphics, digital sound and engaging game themes, and incorporate
secondary bonus rounds and jackpot features. In designing our games and gaming
machines, our designers, engineers, artists and development personnel build
upon
our years of experience in designing and developing entertaining and exciting
games from multi-media entertainment kiosks, photo sticker kiosks, mobile phone
kiosks, coin-op amusement kiosks, jukeboxes, to internet and mobile games and,
now, to gaming machines for the casino industry.
In
addition to our gaming operations, through our subsidiaries we also invest
in
and operate companies that provide outsourcing services, telecom value-added
services (VAS) and telecom products and services. Our business process
outsourcing (BPO) services group includes call centers, providing customer
relationship management (CRM), and telemarketing services. 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
voice over internet protocol (VOIP), as well as mobile phone VAS, such as short
messaging services (SMS) and multimedia messaging services (MMS). Our telecom
products and services include IT and distribution services, and online mobile
phone distribution,. We also have a number of subsidiaries that we use primarily
for administration, internal control and acquisition purposes.
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 client'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 products (telecom &
gaming) service group generates revenue from two main streams. We generate
revenue from the sale of entertainment kiosks and cell phones (which are sold
cash-on-delivery), and we generate revenue from the sale of Asian multi-player
electronic gaming machines and gaming technology solutions. Going forward,
we
intend to earn gaming operations revenue from offering our customers a wide
range of lease and rental options, and earn royalty income from game content
licensing agreement.
CORPORATE
STRUCTURE
We
conduct our business operations
through our Gaming Technology Business Unit and our Legacy Business
Unit.
(I) GAMING
TECHNOLOGY BUSINESS
TAKE1
TECHNOLOGIES GROUP LIMITED ("TAKE1”_)
Take1
Technologies (http://www.take1technologies.com), is in the business of designing
and manufacturing electronic multimedia entertainment kiosks, coin-op kiosks
and
machines, electronic gaming machines (EGM), bingo and slot machines, AWP
(Amusements With Prizes) games, server-based downloadable games systems, and
Video Lottery Terminals (VLT) such as Keno and Bingo machines, including
hardware, software, client- server systems and cabinets. Take1 is a leading
designer, developer and manufacturer of multimedia entertainment and
communication kiosk products including photo and video entertainment kiosks,
digital camera photo development stations, multimedia messaging services (MMS)
and mobile content download stations for mobile phones, and other coin-operated
peripherals and consumables. Take1 Technologies is based in Hong Kong and
markets and distributes its products around the world including the USA, Canada,
Mexico, Europe, China, and Southeast Asia.
PACIFICNET
GAMES LIMITED
PacificNet
Games Limited (PacGamesis a leading provider of Asian multi-player electronic
gaming machines, gaming technology solutions, gaming related maintenance, IT
and
distribution services for the leading hotel, casino and slot hall operators
based in Macau, China and other Asian gaming markets. PacGames products include
multi-player electronic gaming machines such as Baccarat, Fish-Prawn-Crab,
Sib-Bo Cussec, Roulette, and other multi-player electronic gaming machines,
as
well as other legacy slot machines.
PacificNet's
software R&D and outsourcing unit, Pacific Solutions Technology, is a CMM
Level 3 certified software development center with over 200 software programmers
located in Shenzhen, China, and specializes in the development of high-end
client-server application software, internet e- commerce software, online and
casino gaming systems and slot machines, banking and telecom applications using
Microsoft Visual C++, Java, and other rapid application development
tools.
(II)
LEGACY BUSINESS
(A)
CUSTOMER RELATIONSHIP MANAGEMENT AND OUTSOURCING SERVICES
GROUP
1)
PACIFICNET EPRO HOLDINGS LIMITED
PacificNet
Epro Holdings Limited (referred to herein as "Epro"), a company incorporated
in
the Hong Kong Special Administrative Region of the PRC, is engaged in the
business of providing call center and customer relationship management (CRM)
services, mobile marketing and promotion services, call center training,
management and consulting services, call center software, IVR systems, mobile
payment and mobile point of sale (POS) solutions, Internet e-commerce and mobile
commerce, mobile applications based on short messaging services (SMS),
multimedia messaging services (MMS), outsourced telemarketing and customer
support services, and other mobile value-added services (VAS). Epro's business
serves Hong Kong and the PRC's telecom operators, banks, insurance, and other
financial services companies in the PRC. Epro's clients include major telecom
operators, banks, insurance and financial services companies in Greater China,
such as China Telecom (NYSE: CHA), China Unicom (NYSE: CHU), PCCW (NYSE: PCW),
CSL, SmarTone Telecom, Sunday Communications (NASDAQ: SDAY), Hutchison Whampoa
Limited (HKSE: 0013.HK), Swire Coca-Cola, Samsung, Dun & Bradstreet, DBS,
Dao Heng Insurance, Shenzhen Development Bank, Hong Kong Government Housing
Authority and Hong Kong Post.
2)
PACIFIC SMARTIME SOLUTIONS LIMITED / PACIFIC SOLUTIONS TECHNOLOGY (SHENZHEN)
CO.
LTD.
Pacific
Smartime Solutions Limited (referred to herein as "Smartime") is an IT
outsourcing company incorporated in Hong Kong that operates through its China
subsidiary Pacific Solutions Technology ( Shenzhen ) Co. Ltd. (referred to
herein as: Soluteck Shenzhen), which is a leading provider of outsourcing
services including software development, R&D, and project management
services in China. Smartime employs over 280 staff and provides outsourcing
services to the leading telecom, banking and financial services companies in
China, including Huawei, IBM, and Bank of East Asia. In December 2004, Smartime
launched a new software development outsourcing center in Shenzhen, located
in a
Grade A office building, currently occupying two floors (total 26,000 square
feet) with the capacity to expand to two additional floors. Each of the two
floors will have the capacity to house about 200 employees. PacificNet's
software R&D and outsourcing unit, Pacific Solutions Technology, is a CMM
Level 3 certified software development center with over 200 software programmers
located in Shenzhen, China, and specializes in the development of high-end
client-server application software, internet e- commerce software, online and
casino gaming systems and slot machines, banking and telecom applications using
Microsoft Visual C++, Java, and other rapid application development
tools.
3)
PACIFICNET SOLUTIONS LIMITED (Incorporated in Hong Kong)
PacificNet
Solutions Ltd. (referred to herein as "PacSo"), incorporated in Hong Kong is
a
subsidiary that specializes in systems integration, software application, and
e-business solutions services in Hong Kong and Greater China. The scope of
PacSo's products and services includes smart card solutions, web based front-end
applications and web based connections to backend enterprise planning
systems.
(B)
TELECOM VALUE-ADDED SERVICES (VAS) GROUP
SERVICE
PROVIDER COMPANIES
1)
GUANGZHOU WANRONG INFORMATION TECHNOLOGY CO., LIMITED (Incorporated in the
PRC)
On
January 31, 2006, we consummated an agreement to acquire a 51% majority interest
in Guangzhou Wanrong Information Technology Co., Ltd. ("Guangzhou Wanrong,),
one
of the leading value-added telecom service providers in China. Since its
inception in 2003, Guangzhou Wanrong has achieved strong growth in its VAS
including SMS, WAP, JAVA, MMS, IVR, multimedia entertainment download services,
media interactive products, mobile email services, life, sports, entertainment,
and business information services. Guangzhou Wanrong was granted nationwide
SMS
service numbers "2388" for China Mobile and "9928" for China
Unicom.
(C)
TELECOM PRODUCTS GROUP
1)
PACIFICNET COMMUNICATIONS LIMITED
PacificNet
Communications Limited (referred to herein as "PacCom"), incorporated in Hong
Kong, is a wholly owned subsidiary of PacificNet that specializes in the sales
and distribution of mobile communication products, accessories, phone cards
and
mobile SIM cards, and telecom related services in Hong Kong and Greater
China.
2)
PACIFICNET IMOBILE (BEIJING) TECHNOLOGY CO., LIMITED (Incorporated in the
PRC)
On
February 6, 2006, we entered into an agreement to acquire a 51% majority
interest in PacificNet iMobile (Beijing) Technology Co., Ltd ("iMobile"), one
of
the leading Internet information portal and e-commerce distributors for mobile
phone and accessories and mobile related value-added service providers in China.
iMobile operates its e-commerce business via two Internet portals,
"http://www.iMobile.com.cn" and "http://www.18900.com" and one WAP portal
"17wap.com" for mobile phone browsing. In addition, iMobile's 18900.com
operation is the designated Internet distributor for Motorola, Nokia, and NEC's
mobile products in China. 18900.com is the leading Internet e-commerce
distributor of mobile products in China, and provides Internet, email, customer
service centers, pre-sale and post-sale services, logistics and cash-on-delivery
(COD) services to mobile related products in China. iMobile's 18900.com
e-commerce operations combines both online Internet services with its offline
customer services network composed of a nationwide chain of logistic and
customer centers covering 22 provinces and 40 major cities in China, including
Beijing, Shanghai, Chongqing, Tianjin, Chengdu, Dalian, Qingdao, Guangzhou,
Shenzhen, Zhuhai, Dongguan, Hangzhou, Suzhou, Ningbo, Wenzhou, Nanjing, Wuhan,
Xi'an, Harbin, Qiqihaer, Hunan and Changsha. iMobile’s Internet portal has been
one of the top ranked traffic sites and has achieved about 5.4 million
registered online users and over 1,200,000 active users, with 10 million daily
page views and 40,000 blog postings per day, which makes iMobile the top ranked
site in its category in China. It is expected this acquisition was structured
in
the same manner as our other acquisitions, with operation and services
agreements between Beijing Xing Chang Xin Science and Technology Development
Co.
Limited Incorporated DE and PacificNet Imobile (Beijing) Technology, Co. Ltd.
WOFE.
OTHER
BUSINESS ENTITIES
1)
PACIFICNET LIMITED (INCORPORATED IN HONG KONG)
PacificNet
Limited is incorporated in Hong Kong as a wholly owned subsidiary of PacificNet
Inc. Its primary purpose is to handle the general administrative operations
of
PacificNet in Hong Kong. Its subsidiaries also include certain insignificant
business units such as data center and air-conditioning
subcontracting.
2)
PACIFICNET STRATEGIC INVESTMENT HOLDINGS LIMITED (Incorporated in the
BVI)
PacificNet
Strategic Investment Holdings Limited (referred to herein as "PacInvest"),
incorporated in the British Virgin Islands (BVI), is a wholly owned subsidiary
of PacificNet that specializes in strategic investment, direct investment,
mergers and acquisitions, joint venture development, and other financial and
investment services in Hong Kong and Greater China. Its primary purpose is
to
help PacificNet identify strategic investment opportunities, process deal flow,
conduct due diligence, negotiate terms and valuation, monitor investment
performance and conduct synergy development, with a focus in Chinese investment
opportunities related to PacificNet's business.
3)
PACIFIC FINANCIAL SERVICES LIMITED (Incorporated in Hong Kong)
Pacific
Financial Services Limited incorporated in Hong Kong in November 2005, is a
wholly owned subsidiary of PacificNet Inc. Its primary purpose is to provide
financial services in Hong Kong.
4)
PACIFICNET TECHNOLOGY (SHENZHEN) LIMITED (Incorporated in the
PRC)
PacificNet
Technology (Shenzhen) Limited (referred to herein as "PacSZ") is incorporated
in
the PRC as a wholly owned foreign enterprise (WOFE), is a wholly owned
subsidiary of PacificNet Limited Hong Kong. Its primary purpose is to provide
administrative support back-office, IT support and software development
services, to support PacificNet's operations in China, and to conduct the
general administrative operations of PacificNet in China.
5)
PACIFICNET BEIJING LIMITED (Incorporated in the PRC)
PacificNet
Beijing Limited (referred to herein as "PacBJ") incorporated in the PRC as
a
wholly owned foreign enterprise (WOFE) is a wholly owned subsidiary of
PacificNet Limited Hong Kong. Its primary purpose is to provide administrative
back-office support, IT support and software development services, to support
PacificNet's operations in China, and to conduct the administrative operations
of PacificNet in China.
GAMING
TECHNOLOGY INDUSTRY OVERVIEW
Gaming
and casino operators constantly seek to increase revenue growth and
profitability at their casinos or slot halls. The importance of gaming machine
revenue to casino operators’ profitability has created demand for gaming
machines that have the ability to generate superior net win. As a result, the
pace of innovation in game design continues to accelerate, and gaming equipment
manufacturers have increasingly focused on enhancing the overall entertainment
value and appeal of games and gaming machines. We believe the development of
electronic gaming machines with localized Chinese and Asian themes and contents
will present the largest opportunity for us as one of the few domestic Chinese
and Asian gaming machine developers. We believe that server-based gaming will
be
the next significant technology development in the gaming machine industry.
Server-based gaming initiatives will require regulatory approval in gaming
jurisdictions prior to any implementation.
VLTs
are
sold, leased to, or operated as participation games by government agencies
that
desire to raise revenue for the jurisdictions in which they operate. Most VLTs
are linked to a central computer for accounting and security purposes and are
monitored by state lotteries or other government authorities. Unlike gaming
machines designed for the casino market, most VLTs are located in places where
casino-type gaming is not the principal attraction, such as racetracks, bars
and
restaurants. In the recent years, many countries in Europe have enacted
legislation permitting VLTs.
GAMING
BUSINESS STRATEGY
Our
business strategy is to increase our market penetration in major regulated
gaming jurisdictions worldwide by developing entertaining products and providing
outstanding service. We plan to do this by leveraging our product development
expertise to introduce innovative new games. We have almost 5 years of
experience developing multi-media entertainment kiosks, fun, humorous and
exciting internet and mobile games in Macau, Hong Kong, China, and other Asian
countries. Over the past few years, we have enhanced our game development
efforts by adding key management, design personnel and software engineers to
our
product development group. We have expanded new gaming software and hardware
R&D facilities in Beijing, Shenzhen, Zhuhai and Macau and organized our game
development teams into workgroup units to help promote innovation while
maintaining a focused development approach in an effort to maximize the
localized Chinese entertainment value of our products. We believe that our
proven game development capabilities, combined with the additional
functionalities and enhanced features of our new gaming platform, will enable
us
to increase our market share in the fast growing gaming markets in Macau, China,
and Asia.
ENTRY
INTO GAMING TECHNOLOGY BUSINESS
During
the year we took decisive measures to address the negative impact on our overall
profitability as a result of China Mobile’s VAS policy change and the
increasingly competitive telecom products market in China. These measures
included considering strategic alternatives for our low-margin telecom
businesses, such as sales, spin-offs and mergers and turning our focus to the
higher margin and rapidly expanding gaming and entertainment industries. To
do
this, in September 2006, we opened an office in Macau. By leveraging the
entertainment software and hardware development expertise of our CRM and telecom
businesses in combination with the access to market of our newly-acquired
PacificNet Games Limited subsidiary, we seek to brand ourselves as a leading
gaming technology provider in the emerging gaming markets in Macau and Asia.
We
believe that due to the success of our new generation Asian oriented gaming
software, our gaming business has begun to draw the attention of some other
first tier gaming operators in Macau, North Asia, South America and Italy.
Going
forward, while we are focused on increasing market share in the aforementioned
rapidly growing gaming markets, we intend to take full benefit of our
first-mover advantage in the Asian market by entering into long term gaming
software licensing and servicing agreements with both land-based and on-line
gaming operators in those less developed Southern Asian gaming markets, in
particular the Philippines and Cambodia.
Our
business strategy is to increase our market penetration in major regulated
gaming jurisdictions worldwide by developing entertaining products and providing
outstanding service. We plan to do this by leveraging our product development
expertise to introduce innovative new games. We have almost 5 years of
experience developing multi-media entertainment kiosks, fun, humorous and
exciting internet and mobile games in Macau, Hong Kong, China, and other Asian
countries. Over the past few years, we have enhanced our game development
efforts by adding key management, design personnel and software engineers to
our
product development group. We have expanded new gaming software and hardware
R&D facilities in Beijing, Shenzhen, Zhuhai and Macau and organized our game
development teams into workgroup units to help promote innovation while
maintaining a focused development approach in an effort to maximize the
localized Chinese entertainment value of our products. We believe that our
proven game development capabilities, combined with the additional
functionalities and enhanced features of our new gaming platform, will enable
us
to increase our market share in the fast growing gaming markets in Macau, China,
and Asia.
RECENT
DEVELOPMENTS
ACQUISITION
OF GUANGDONG POLY BLUE EXPRESS COMMUNICATIONS CO.LTD
On
September 5, 2007, we entered into an agreement to acquire an aggregate of
51%
equity interest in Guangdong Poly Blue Express Communications Co., Ltd.
(Guangdong Poly). Guangdong Poly is a leading operator approved by
China's Welfare Lottery Center to develop and operate real-time electronic
paperless lottery services in China, in accordance to the rules and regulations
set by China's Welfare Lottery Center. Total consideration payable for the
purchase of Guangdong Poly was US$2 million, in which US$1 million payable
in
PACT restricted shares and US$1 million payable in cash. The
acquisition was closed on October 25, 2007.
SALE
OF GUANGZHOU 3G
As
part
of our strategy to move away from telecom VAS, on April 30, 2007, through our
wholly-owned subsidiary, PacificNet Strategic Investment Holdings Limited (“PSI
Holdings”), we entered into a stock purchase and sale agreement with Heyspace
International Limited to sell PSI Holdings’ 51% interest in Guangzhou 3G's
parent company, Pacific 3G Information & Technology Co. Limited. The
purchase price is $6,000,000 payable in installments over a six month period
or
earlier if Heyspace completes its initial public offering prior to October
31,
2007. On November 25, 2007, we entered into a memorandum of
understanding (“MOU”) with Heyspace. Pursuant to the MOU, we agreed
with Heyspace that for a period commencing on November 25,
2007 through March 31, 2008, we are free to seek new buyers to
purchase PSI Holdings’ share ownership in Guangzhou 3G at a consideration and
term which at a minimum will not cause any disposal loss to us. In
addition, Heyspace agreed to return to us the 51% ownership of Guangzhou3G
which
Heyspace had agreed to purchase, but did not complete its payment obligations
under the stock purchase and sale agreement.
COMPLETION
OF $5 MILLION PRIVATE PLACEMENT FINANCING FOR GAMING TECHNOLOGY EXPANSION IN
MACAU AND ASIA
On
February 6, 2007, PacGames entered into a definitive agreement for a $5 million
financing in the form of secured convertible note with Pope Asset Management,
LLC (Pope), an institutional investor. Proceeds from the financing will be
used
to provide PacGames with additional working capital in expanding its gaming
technology operations, funding for strategic acquisitions in China and funding
for general corporate purposes. The $5 million convertible note issued by
PacGames to Pope matures on February 6, 2010, and may be converted into 26%
to
32% ownership interest in PacGames based on reaching certain net income
milestones during fiscal year 2007. The interest rate on the convertible note
will initially be set at 8%, and shall increase to 15% if the note is not
converted prior to maturity.
FORMING
A CALL CENTER JOINT VENTURE WITH BELLSYSTEM24 IN SHANGHAI,
CHINA
On
January 5, 2007, we entered into a joint venture agreement with Bellsystem24,
the largest telemarketing call center in Japan, to form a new joint venture
company called BELL-PACT Consulting Limited. The new joint venture company
is
jointly owned 40% by PacificNet and 60% by Bellsystem24. The joint venture
will
offer CRM call center consulting and training services, technical and business
consulting services, network product sales, software development, system
integration, as well as value-added services and other relevant services out
of
Shanghai catering to the Greater China markets.
ADDITIONAL
ACQUISITION OF TAKE1 TECHNOLOGIES IN Q1 2007
On
January 5, 2007, we entered into a Securities Subscription Agreement to exercise
an option to acquire an additional 31% interest in Take1 Technologies Limited
(“Take1”). On March 5, 2007, we consummated the purchase for $721,887 (to be
paid entirely with shares of PacificNet: 149,459 PACT Shares, valued at $4.83
per share). As a result, we became the majority and controlling shareholder
of
Take1 with our ownership percentage increased from 20% to 51%.
PRIVATE
PLACEMENT OF CONVERTIBLE DEBENTURES AND WARRANTS
On
March
13, 2006, we completed a private placement in which we sold $8,000,000 in
convertible debentures and issued warrants to purchase up to an aggregate of
400,000 shares of common stock. The debentures are convertible at any time
into
shares of our common stock at an initial fixed conversion price of $10.00 per
share, subject to adjustments for certain dilutive events. The debentures are
due March 13, 2009. The warrants are exercisable for a period of five years
at
an exercise price of $12.20 per share. We will pay interest in shares, provided
that certain conditions are met, or in cash at the rate of 6% for the second
year the debentures are outstanding and then 7% for the third year.
Under
the
terms of a registration rights agreement entered into at the time of the private
placement, the Company was obligated to file a registration statement with
respect to the shares issuable under the debenture and the warrants by April
30,
2006, and have the registration statement declared effective by the SEC no
later
than June 28, 2006. Due to various factors, the Company did not file the
registration statement until May 15, 2006, and it was not declared effective
until December 8, 2006. Therefore, under the terms of the registration rights
agreement, the Company was obligated to pay liquidated damages to
the investors at the rate of 2% of the principal amount of the debenture
each month beginning on June 28, 2006 up to a maximum of 20% per holder, in
the
event we suspend use of the prospectus for longer than 15 consecutive calendar
days or more than an aggregate of 30 calendar days during any 12-month period.
Moreover, at the election of the debenture holder, our debenture could be
declared in default, resulting in acceleration of the amounts due, if such
suspension continues more than 20 consecutive trading days or 60 non-consecutive
trading days during any 12-month period. which was equal to $1,120,000, in
the
aggregate as at December 31, 2006.
In
February 2007, upon reaching an agreement on the amount and payment of accrued
liquidated damages, the Company signed a Settlement and Release Agreement with
each of the investors. Under the terms of the Settlement and Release Agreements,
the Company paid an aggregate $140,000 in cash as satisfaction in full of
liquidated damages owed to Basso Fund Ltd., Basso Multi-Strategy Holding Fund
Ltd., and Basso Private Opportunities Holding Fund Ltd.. Partial liquidated
damages owed to Whalehaven Capital Fund Ltd. were paid in the amount of $35,000
in cash, with the remaining liquidated damages in the amount of $105,000 paid
in
the form of a new convertible debenture due February 2009, on substantially
the
same terms as the original debentures, except that interest only is paid on
the
new debentures until October 2008 and beginning in November 2008 until February
2009, when the new debentures are due, the monthly redemption amount under
the
new debentures shall be equal to $315,000. The remaining investors also agreed
to accept the aggregate $840,000 in liquidated damages owed to them in the
form
of the new convertible debentures for the amount of their respective portion
of
the liquidated damages. The Company also agreed to amend the original debentures
to shorten the term for payment of the original principal amount to a 22 month
term. As a result the monthly redemption amount for the original debentures
increased from $320,000 to $ 363,638. All other terms and conditions of the
original debenture remains in full force and effect.
In
July
2007, we failed to timely make scheduled principal and interest payments under
the Amended Debenture in the aggregate amount of $8,000,000. Pursuant to the
terms of the Amended Debenture, we were obligated to make monthly redemption
payments commencing on January 1, 2007, until the Amended Debenture was redeemed
in full. On August 1, 2007, the Company made the July monthly redemption and
interest payments to all of the debenture holders. The Company has
calculated the amount of the direct financial obligation as accelerated and
increased to be $3,079,091.
RESIGNATION
AND WITHDRAWAL OF AUDIT REPORTS BY CLANCY AND CO., P.L.L.C.
On
January 18, 2007, we were verbally informed by our principal independent
accountant, Clancy and Co. P.L.L.C. (“Clancy”) that it was resigning from its
engagement with us, which resignation was effective immediately. Clancy provided
written confirmation to us on January 19, 2007. On February 7, 2007, our audit
committee approved the appointment of Kabani & Company, Inc. (“Kabani”), as
the our new independent public accountant and Kabani was engaged by the audit
committee on the same day.
On
March
12, 2007, we received an e-mail communication, to which was attached a letter
dated February 17, 2007 (“March 12 Letter”) from Clancy suggesting that certain
of the criteria by which an option grant date is determined may not have been
satisfied in connection with our fixing of the grant date for
options. Subsequently, on March 16, 2007,Clancy sent a further
written communication in which it stated that their audit reports regarding
the
financial statements for the years ended December 31, 2004 and 2005 (but not
2003) were withdrawn. On March 22, 2007, we filed a
Current Report on 8-K under Item 4.02 Non-Reliance on Previously Issued
Financial Statement or a Related Audit Report or Completed Interim
Review, disclosing that the Clancy’s audit reports for the fiscal years ended
December 31, 2005 and 2004 had been withdrawn. On April 4, 2007, we
filed Amendment No. 2 to the Form 10-KSB/A for the fiscal year ended December
31, 2005, to remove Clancy’s audit report and to include a legend that stated
“The financial statements of PacificNet Inc. and its subsidiaries for the fiscal
years ended December 31, 2005 and 2004 are unaudited.”
After
completion of an independent investigation by the audit committee of the issues
presented by Clancy, it was determined that it was necessary to restate our
financial statements for the years ended December 31, 2006, 2005 and
2004. In July 2007, our audit committee engaged Kabani to perform the
re-audit for those years. On October 25, 2007, we filed Amendment No.
3 to the Form 10-KSB/A for the fiscal year ended December 31, 2005, which
included restated financial statements for the years ended December 31, 2005
and
2004, and an audit report issued by Kabani. On November 14, 2007, we
filed Amendment No. 1 to the Form 10-K.A for the fiscal year ended December
31,
2006, which included restated financial statements for the years ended December
31, 2006, 2005 and 2004, and an audit report issued by Kabani.
NASDAQ
NOTICE OF DELISTING OR FAILURE TO SATISFY A CONTINUED LISTING RULE
OR
STANDARD
On
March
30, 2007, we received a letter from The Nasdaq Stock Market indicating that
as a
result of the withdrawal of the audit reports for our financial statements
for
the fiscal years ended December 31, 2005 and 2004, by Clancy, we were not in
compliance with the Nasdaq requirements for continued listing set forth in
Nasdaq Marketplace Rule 4310(c)(14). Nasdaq Marketplace Rule
4310(c)(14) requires that annual reports filed with Nasdaq contain audited
financial statements.
Accordingly,
our securities were subject to delisting on April 11, 2007, unless we
appealed the NASDAQ Staff’s determination by requesting a hearing before the
Nasdaq Listing Qualifications Panel (the “Panel”). We had a hearing
with the Panel on May 17, 2007, at which time we presented a plan of compliance
to the Panel with respect to the timeline for the re-instatement of audited
financial statements for the fiscal years ended December 31, 2005 and
2004.
On
July
2, 2007, we received a letter (the “Appeal Letter”) from The Nasdaq Stock Market
indicating that, as a result of our appeal of the initial determination of
the
NASDAQ Staff of the Listing Qualifications department to seek the delisting
of
PacificNet’s common stock from the Nasdaq Global Market due to non-compliance
with certain of Nasdaq’s listing maintenance rules, we had been granted an
extension for such compliance , subject to the conditions contained in the
Appeal Letter and that the Company provides certain other confirmations to
the
Nasdaq regarding the Company’s stock option granting practices and board member
independence. Among other things, one of the conditions for continued
listing set forth in the Appeal Letter was that we re-file the Form 10-K for
the
fiscal year ended December 31, 2006, and any required amendments to the Form
10-Q for the quarter ended March 31, 2007 and all required restatements, and
in
addition that we file the Form 10-KSB for each of the fiscal years ended
December 31, 2005 and 2004, in a form acceptable to the SEC, with appropriate
audit opinions no later than September 27, 2007.
On
August
16, 2007, we received a letter from the Nasdaq Office of Appeals informing
us
that the Nasdaq Listing and Hearing Review Council (the “Listing Council”)
determined to call for a review of the July 2, 2007 decision of the Panel and
also determined to stay the decision to suspend our securities from trading
pending further action by the Listing Council. We were permitted to
submit any information that we wished the Listing Council to consider in its
review and on October 26, 2007 we submitted an updated plan of compliance and
a
list of all relevant Form 8-K’s we had filed since April 2007.
Due
to
the significant amount of work required to re-audit the years involved, but
also
due to the lack of cooperation from current management of subsidiaries we
disposed of during 2006, we were unable to complete the filings by September
27,
2007. On October 25, 2007, we filed Amendment No. 3 to the Form
10-KSB/A for the fiscal year ended December 31, 2005, which included restated
financial statements for the years ended December 31, 2005 and 2004, and an
audit report issued by Kabani. On November 14, 2007, we filed
Amendment No. 1 to the Form 10-K.A for the fiscal year ended December 31, 2006,
which included restated financial statements for the years ended December 31,
2006, 2005 and 2004, and an audit report issued by Kabani.
PRODUCTS
AND SERVICES OFFERED
Gaming
Technology Business
Through
our gaming technology subsidiaries in Macau, China, we design, manufacture
and
market innovative electronic gaming machines, bingo machines, AWP and VLTs
for
customers in legalized gaming jurisdictions in Macau, Asia, and Europe. Our
video gaming machines include localized Chinese and Asian themes, contents,
advanced graphics and digital sound effects and music. Amusing, entertaining
or
familiar graphics and musical themes with Chinese and Asian contents add to
the
player appeal of our games in Asia.
For
our
gaming technology operations, we generate revenue in two principal ways. First,
we generate product sales revenues from the sale to casinos and other licensed
gaming machine operators of new and used gaming machines and VLTs, conversion
kits (including theme and/or operating system conversions), parts, and original
equipment manufacturing (“OEM”) for third parties. Second, we earn gaming
operations revenues from leasing participation gaming machines and VLTs, and
earn royalties that we receive from third parties under license agreements
to
use our game content.
Product
Sales
We
offer
the following gaming technology products for sale:
|
·
|
Electronic
gaming machines (EGM). Our line of electronic gaming machines combine
localized Chinese and Asian themes and content, advanced graphics,
digital
sound effects and music, and secondary bonus
games.
|
|
·
|
Multi-player
Electronic Table Games
|
|
·
|
Multi-player
Electronic Baccarat Machines
|
|
·
|
Multi-player
Electronic Sicbo Machines
|
|
·
|
Multi-player
Electronic Roulette Machines
|
|
·
|
Multi-player
Electronic Fish-Prawn-Crab Machines
|
|
·
|
Electronic
Bingo Machines
|
|
·
|
Video
Lottery Terminals (VLTs)
|
|
·
|
Server-Based
Gaming Machines (SBG)
|
|
·
|
Amusement
With Prices (AWP) Machines
|
|
·
|
Online
Gaming Software Development
|
|
·
|
Client-Server
Gaming Systems
|
|
·
|
CMM
Level 3 Certified Gaming Software Development Center in
China
|
|
·
|
Cabinet
Design and Sales, Parts Sales, OEM Games. We design and sell gaming
machine cabinets, replacement
parts.
|
Gaming
Technology Operations
Our
gaming technology operations business includes the following:
1. Participation
games
Company-owned
gaming machines that we lease based upon any of the following payment methods
are referred to as participation games: (1) a percentage of the net win of
the
gaming machines, (2) fixed daily fees, or (3) in the case of wide-area
progressive gaming machines, a percentage of the amount wagered or a combination
of a fixed daily fee and a percentage of the amount wagered.
2. Wide
Area Game Network, Community
Gaming
Wide
Area
Progressive Jackpots (WAP) participation games electronically link gaming
machines that are located across multiple casinos within a gaming jurisdiction.
The linked gaming machines contribute to and compete for large, system-wide
progressive jackpots and are designed to increase gaming machine play for
participating casinos by giving the players the opportunity to win a larger
jackpot than on a stand-alone gaming machine.
3. Local
Area Progressive Jackpots (LAP)
participation games
A
LAP
system electronically links gaming machines that are located within a single
casino to a progressive jackpot for that specific casino. Our LAP products
are
designed to give the player the chance to win multiple progressive
jackpots.
4. Video
Lottery
Terminals
Our
VLTs
include video gaming machines featured with localized Chinese and Asian themes
and contents, advanced graphics, digital sound effects and music and incorporate
many of the same features from our other gaming machines. We offer a variety
of
multi-game and single-themed VLTs. Our VLTs may be operated as stand-alone
units
or may interface with central monitoring computers operated by government
agencies. Our VLTs typically are located in places where casino-type gaming
is
not the principal attraction, such as racetracks, bars and restaurants. We
began
offering VLTs in 2007. In certain jurisdictions, VLT operators purchase our
VLTs
and we classify the revenue from these purchases as product sales revenues.
In
other jurisdictions, VLT operators lease our VLTs and pay us a lease rate based
on the net earnings of the gaming machine. We classify the lease payments as
gaming operations revenues. We do not include VLTs in our installed base of
participation games.
5. Server-based
Gaming
PacificNet
believes that server-based gaming (“SBG”) will be the next significant
technology development in the gaming machine industry. Server-based gaming
refers to a gaming system in which game content and peripherals are configured,
maintained and refreshed over a network that links groups of gaming machines
to
a remote server that also enables custom configuration by operators and central
determination of game outcomes. Server-based gaming initiatives will require
regulatory approval in gaming jurisdictions prior to any implementation and
represent a significant addition to our existing portfolio of product offerings.
Our implementation for SBG emphasizes localized Chinese and Asian game themes
and excitement for the Asian players. In a networked environment, we believe
game play will no longer be limited to an individual gaming machine; rather,
we
believe SBG will permit game play to be communal among multiple
players.
Legacy
Business
Our
goal
is to take a leading role in providing customer relationship management (CRM)
and gaming technology, 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:
1.
CRM
OUTSOURCING SERVICES
A)
BUSINESS PROCESS OUTSOURCING
Epro
operates our call center offering 24 hour staff-answering and
automatic-answering service hotlines in our service areas, handling customer
inquiries regarding services, billing, and technical support, as well as
customer complaints. We offer services targeted at high-value and corporate
customers. We provide them with dedicated account executives, on-site visits,
and systems for collecting comments and handling complaints. Epro is a leading
provider of outsourced call-center services with over 15 years of field
experience in greater China.
Epro's
business consists of the following three major categories:
(i) OUTSOURCED
CALL CENTER SERVICES Epro's ISO 9001 certified outsourcing contact center hosts
over 1,000 workstations and 1,200 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 which
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 functions, such as appointment
setting.
(ii) 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 to 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.
(iii)
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.
B)
INFORMATION TECHNOLOGY OUTSOURCING
Through
Pacific Solutions Technology (Shenzhen) Company Limited, Smartime provides
outsourced consulting services and programming services, including software
development, R&D, and project management to leading telecom, banking and
financial services companies that include Huawei, IBM, Bank of East Asia and
others.
PacSo
specializes in systems integration, software application, and e-business
solutions services in Hong Kong and Greater China. The scope of PacSo's products
and services includes smart card solutions, web based front-end applications
and
web based connections to backend enterprise planning systems.
C)
TELECOM VALUE-ADDED SERVICES
Guangzhou3G-WOFE
is one of the largest value-added telecom and information services providers
in
China with both voice (IVR and call center) and data (SMS, MMS, WAP, JAVA,
GPRS)
connections to the four major telecom operators: China Mobile, China Unicom,
China Telecom, and China Netcom, covering both mobile and fixed-line networks.
Guangzhou 3G also offers a wide variety of IVR and other wireless and
fixed-line, value-added telecom services including color ring back tone (CRBT)
services, background music (BGM) services, VICQ mobile instant messaging
services, sports and soccer news, weather forecasts, stock prices, jokes, short
stories, dramas, songs and mobile karaoke, mobile TV, games, entertainment,
as
well as community-oriented services, such as chat line and dating services.
Mobile and fixed-line phone users can access Guangzhou 3G IVR services through
one of the four major telecom operators' networks.
D)
TELECOM PRODUCTS
PacCom
specializes in the sales and distribution of mobile communication products,
accessories, phone cards and mobile SIM cards, and telecom related services
in
Hong Kong and Greater China.
iMobile's
Internet portal has been one of the top ranked traffic sites and has achieved
about 5.4 million registered online users and over 1,200,000 active users,
with
10 million daily page views and 40,000 blog postings per day, which makes
iMobile the top ranked site in its category in China.
FINANCIAL
INFORMATION ABOUT OUR BUSINESS SEGMENTS
We
identify and classify our operating segments based on reporting entities that
exhibit similar long-term financial performance based on the nature of the
products and services with similar economic characteristics such as margins,
business practices and target market. The operating segments are classified
into
four major segments which include outsourcing services, telecom value-added
services, product (telecom & gaming) services and other
business.
PRINCIPAL
CUSTOMERS
Our
principal customers in each of our business groups 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.
1. GAMING
CUSTOMERS
Our
gaming customers include some of the leading casinos, hotels, gaming operators,
bingo, slot and AWP operators in Macau, SE Asia, and Europe. Some of the famous
casinos that are using our gaming products include: Sociedade de Jogos de Macau
(SJM), Sociedade de Turismo e Diversoes de Macau (STDM), Casino Lisboa, Holiday
Inn Macau, Jai Alai Casino Macau, Galaxy Waldo Casino Macau (Galaxy
Entertainment Group), and other land-based gaming operators and bingo operators
in the Philippines, Asia and Europe.
2.
OUTSOURCING SERVICES (INCLUDING BPO, ITO, CALL CENTER SERVICES)
CUSTOMERS
The
following is a brief description of some of the Company's customers in the
outsourcing services group:
PCCW
LIMITED - A leading telecommunications carrier and service provider in Hong
Kong.
BANK
OF
CHINA GROUP INSURANCE COMPANY (BOCGI) - BOCGI owns 6 branches and one wholly
owned subsidiary life insurance company (Bank of China Group Life Assurance
Company Ltd.) in Hong Kong and Mainland China.
AMERICAN
EXPRESS BANK (HONG KONG) - A diversified worldwide travel, financial and network
Services Company founded in 1850. It is a world leader in charge and credit
cards, Travelers Cheques, financial planning, business services, insurance
and
international banking.
ACNIELSEN
(CHINA) LTD. - The world's leading provider of market research, information
and
analysis to the consumer products and services industries, primarily in retail
measurement, consumer panel research, customized research and media measurement,
as well as to government and social services.
HSBC
-
One of the largest banking and financial services organizations in the world.
HSBC's international network comprises over 9,500 offices in 76 countries and
territories in Europe, the Asia-Pacific region, the Americas, the Middle East
and Africa.
SONY
-
Sony Corporation is a leading manufacturer of audio, video, game, communications
and information technology products for the consumer and professional markets.
Sony is one of the leading multi-national corporations in Asia, with 38
companies spanning 15 countries and supported by a family of over 40,000
employees. Sony Corporation of Hong Kong Limited is a wholly owned subsidiary
of
Sony. In 1999, the e-commerce website http://www.SonyStyle.com.hk was launched
to enable convenient on-line shopping in Sony style. For more information,
please see Sony's web sites: http://www.sony.net, Sony Hong Kong
http://www.sony.com.hk and e-commerce website
http://www.SonyStyle.com.hk.
BELLSYSTEM24,
Japan - Established in 1982, Bellsystem24 (http://www.bell24.com) is the largest
telemarketing call center services company in Japan, with over 5,000 clients,
27,348 communication service representatives and 33 offices in Japan.
Bellsystem24 has built a client base of multinational firms and industry leaders
by developing and nurturing long-term relationships. Bellsystem24's commitment
to quality, technological innovation, and value-added services has made it
the
leading provider of outsourced customer care and marketing solutions in Japan.
Bellsystem24 focuses on developing long-term strategic relationships with
clients in customer-intensive industries, including telecommunications, cable,
broadband, satellite broadcasting, Internet services, technology, and financial
services. Through a nationwide network of contact centers utilizing a unique
blend of one-on-one marketing media, knowledge-based tools, advanced technology,
and expert recruiting, staffing, training, and certifications, Bellsystem24
has
fostered a leading position in the customer care industry.
MCDONALD'S
- McDonald's Restaurants (Hong Kong) Limited was established in 1975. The first
McDonald's restaurant, which offered customers the very first American Big
Mac
Meal in Hong Kong, was located at Paterson Street, Causeway Bay. Today there
are
over 200 McDonald's restaurants in Hong Kong, and more than 10,000 McDonald's
staff. In addition to the McDonald's restaurants, McDonald's also opened in
Hong
Kong, in a bid to meet the needs of different customers.
HONG
KONG
GOVERNMENT - Hong Kong Housing Authority - The Hong Kong Housing Authority
(HA)
was established as a statutory body in April 1973 under Hong Kong's Housing
Ordinance. Within the Government's overall housing policy framework, the HA
determines and implements public housing programs.
CHINA
GOVERNMENT - State Administration of Taxation - Shenzhen. The Shenzhen Municipal
Office of the State Administration of Taxation (www.szgs.gov.cn) operates 29
units with more than 2000 officers, servicing over 207,759 taxpayers. The
bureau's main responsibilities include the collection and management of various
accessed taxes including tax refunds for exported goods, value-added taxes,
excise duty taxes, business income tax, sales tax, individual income tax, and
the stamp duty on securities
3.
TELECOM VALUE-ADDED SERVICES CUSTOMERS
CHINA
TELECOM - The largest fixed service telecommunications provider in China, which
includes data, Internet, and the XiaoLingTong PAS wireless system.
CHINA
NETCOM - One of the four major telecom carriers in China, which includes fixed
line, data, Internet, and the XiaoLingTong wireless system.
CHINA
MOBILE - The largest mobile operator in China.
CHINA
UNICOM - One of the major mobile operators in China operating both GSM and
CDMA
mobile networks, long-distance call, local call, data communication including
Internet service and IP phone, value-added telecom service, wireless paging
and
a variety of relevant services.
NOKIA
-
Nokia is the world leader in mobile communications, driving the growth and
sustainability of the broader mobility industry. Nokia connects people to each
other and the information that matters to them with easy-to-use and innovative
products like mobile phones, devices, and solutions for imaging, games, media
and businesses. Nokia provides equipment, solutions and services for network
operators and corporations.
MOTOROLA
- Motorola is one of the top mobile brands in China in popularity and market
share.
4.
TELECOM PRODUCTS
Our
telecom products customers include: China Telecom, China Netcom, China Mobile,
China Unicom, and major mobile phone manufacturers such as Motorola and
Nokia.
SALES
AND MARKETING
We
advertise our services by attending various GAMING, 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.
GOVERNMENT
REGULATION
We
operate our business in China under a legal regime that consists of the State
Council, which is the highest authority of the executive branch of the PRC
central government, and several ministries and agencies under its leadership,
including:
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The
Ministry of Information Industry (MII)
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The
China Securities Regulatory Commission
(CSRC)
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The
Ministry of Culture
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The
General Administration of Press and Publication of the P.R.
China
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The
State Copyright Bureau
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The
State Administration of Industry and Commerce
(SAIC)
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The
Ministry of Public Security
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The
Ministry of Commerce
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The
State
Council and these ministries and agencies have issued a series of rules that
regulate a number of different substantive areas of our business, which are
discussed below.
FOREIGN
OWNERSHIP RESTRICTION ON BUSINESSES ENGAGED IN PROVIDING INTERNET
CONTENT
We
cannot
hold the licenses and obtain the approvals necessary to operate the website
because those licenses and approvals cannot be held by foreign entities or
majority foreign-owned entities. PRC regulations currently limit foreign
ownership of companies that provide Internet content services to 50%. This
limitation extends to our IVR, call center e-commence and telecom VAS and to
our
business of providing financial information and data to Internet users. To
comply with this foreign ownership restriction, with respect to our Internet
content services, we operate our website in China for example through Beijing
Xing Chang Xin Science and Technology Development Co. Limited ("Xinchangxin")
which is 100% owned by Mr. Liu Lei and Gao Chunhui, the Chairman and CEO of
Xinchangxin, who are both PRC citizen. Under PRC law, BEIJING PACIFICNET IMOBILE
TECHNOLOGY CO., LTD., PRC registered wholly owned foreign enterprise
(IMOBILE-WOFE), conducts it VAS and e-commerce operations with Beijing Xing
Chang Xin Science and Technology Development Co. Limited ("Imobile-DE"), a
PRC
registered Domestic Enterprise (DE), through a series of contractual agreements.
Under these agreements, the shareholders of Imobile-DE are required to transfer
their ownership in these entities to our subsidiaries when permitted by PRC
laws
and regulations and all voting rights are assigned to us. Through Imobile-WOFE,
we have also entered into a consulting and services agreements with Imobile-DE,
under which Imobile-WOFE provides technical services and other services to
Imobile-DE in exchange for all of the net income of Imobile-DE. In addition,
the
shareholders of Imobile-DE have pledged their shares in Imobile-DE as collateral
for non-payment of fees for the services we provide.
There
are
substantial uncertainties regarding the interpretation and application of
current or future PRC laws and regulations with respect to our acquisition
model. In the opinion of our in-house PRC legal counsel, our current ownership
structure, the contractual arrangements among our wholly owned subsidiaries
and
the operating company and their shareholders comply with all existing applicable
PRC laws, rules and regulations. We cannot assure that the PRC regulatory
authorities will not ultimately take a view that is contrary to the opinion
of
our PRC legal counsel. If the PRC government finds that the agreements that
establish the structure of our operations in China do not comply with PRC
government restrictions on foreign investment in our industry, we could be
subject to severe penalties.
LICENSES
AND PERMITS
There
are
a number of aspects of our business which require us to obtain licenses from
a
variety of PRC regulatory authorities. For example, in order to host our
website, Xinchangxin is required to hold an Internet content provider, or ICP,
license issued by the Ministry of Information Industry or its local offices.
Xinchangxin currently holds an ICP license issued by Ministry of Information
Industry Beijing department.
REGULATION
OF INTERNET CONTENT
The
PRC
government has promulgated measures relating to Internet content through a
number of ministries and agencies, including the Ministry of Information
Industry, the Ministry of Culture and the State Press and Publications
Administration. These measures specifically prohibit Internet activities that
result in the publication of any content which is found to, among other things,
propagate obscenity, gambling or violence, instigate crimes, undermine public
morality or the cultural traditions of the PRC, or compromise State security
or
secrets. If an ICP license holder violates these measures, the PRC government
may revoke its ICP license and shut down its websites. Xinchangxin's ICP license
expressly states that it is not allowed to publish news, among other things,
in
relation to its Internet content provision. Specifically, Shenzhen, Beijing
and
Guangzhou branches of the General Administration of Press and Publication of
the
PRC, the government authority regulating news publication, confirmed with us
that so long as we do not provide general news on politics, society or culture,
or establish a "news column," or provide such information under express heading
of "news," we are not required to obtain a license to publish financial or
economic related news content.
REGULATION
OF INFORMATION SECURITY
Internet
content in China is also regulated and restricted by the PRC government to
protect State security. The National People's Congress, China's national
legislative body has enacted a law that may subject to criminal punishment
in
China any effort to: (1) gain improper entry into a computer or system of
strategic importance; (2) disseminate politically disruptive information; (3)
leak State secrets; (4) spread false commercial information; or (5) infringe
intellectual property rights.
The
Ministry of Public Security has promulgated measures that prohibit use of the
Internet in ways which, among other things, result in a leakage of State secrets
or a spread of socially destabilizing content. The Ministry of Public Security
has supervision and inspection rights in this regard and we may be subject
to
the jurisdiction of the local security bureaus. If an ICP license holder
violates these measures, the PRC government may revoke its ICP license and
shut
down its websites.
INTELLECTUAL
PROPERTY RIGHTS
The
State
Council and the State Copyright Bureau have promulgated various regulations
and
rules relating to protection of software in China. Under these regulations
and
rules, software owners, licensees and transferees should register their rights
in software with the State Copyright Bureau or its local offices and obtain
software copyright registration certificates. Although such registration is
not
mandatory under PRC law, software owners, licensees and transferees are
encouraged to go through the registration process. Therefore persons with
registered software rights may receive better protection. We have registered
all
of our self-developed software with the State Copyright Bureau.
PRC
law
requires owners of Internet domain names to register their domain names with
qualified domain name registration agencies approved by the Ministry of
Information Industry and obtain a registration certificate from such
registration agencies. A registered domain name owner has an exclusive use
right
over its domain name. Unregistered domain names may not receive proper legal
protections and may be misappropriated by unauthorized third parties. Our
primary domain names are registered with CNNIC, a domain name registration
agency approved by the Ministry of Information Industry. In addition, we have
registered another domain name, www.FMM88.com, with the Internet Corporation
for
Assigned Names and Numbers, or ICANN, an internationally organized, non-profit
corporation that has responsibility for Internet Protocol (IP) address space
allocation.
PRIVACY
PROTECTION
PRC
law
does not prohibit Internet content providers from collecting and analyzing
personal information from their users. On our website, our users are required
to
accept a user agreement whereby they agree to provide certain personal
information to us. PRC law prohibits Internet content providers from disclosing
to any third parties any information transmitted by users through their networks
unless otherwise permitted by law. If an Internet content provider violates
these regulations, the Ministry of Information Industry or its local offices
may
impose penalties and the Internet content provider may be liable for damages
caused to its users.
ADVERTISING
REGULATION
PRC
law
requires entities conducting advertising activities to obtain an advertising
permit from the SAIC's local offices. Entities conducting advertising activities
without such permit may be charged a fine or imposed other penalties by the
SAIC's local offices. Currently, foreign investors cannot own more than 70%
equity interest in an advertising agency.
INTERNATIONAL
REGULATION
Many
foreign jurisdictions permit the importation, sale and/or operation of gaming
equipment in casino and non-casino environments. Where importation is permitted,
some countries prohibit or restrict the payout feature of the legacy slot
machine or limit the operation of slot machines to a controlled number of
casinos or casino-like locations. Each gaming machine must comply with the
individual jurisdiction’s regulations. Some jurisdictions require the licensing
of gaming machine operators and manufacturers. We manufacture and supply gaming
equipment to various international markets including Asia, Australia, Canada,
Europe, South America and South Africa. We have the required licenses to
manufacture and distribute our products in the foreign jurisdictions in which
we
do business.
COMPETITION
Competition
in our Gaming Technology Business:
The
electronic gaming machine (EGM) market is intensely competitive and is
characterized by the continuous introduction of new game titles and new
technologies. Our ability to compete successfully in this market is based,
in
large part, upon our ability to:
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Create
an expanding and constantly refreshed portfolio of games with high
earnings performance
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Offer
gaming machines that consistently out-perform gaming machines manufactured
by our competitors
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Identify
and develop or obtain rights to commercially marketable intellectual
properties
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Adapt
our products for use with new
technologies
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In
addition, successful competition in this market is based upon:
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Engineering
innovation and reliability
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Mechanical
and electronic reliability
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Brand
recognition
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Marketing
and customer support
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Competitive
prices and lease terms
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We
estimate that about 25 companies in the world manufacture gaming machines and
video lottery terminals (VLTs) for legalized gaming markets. Of these companies,
we believe that International Game Technology (“IGT”), Shuffle Master/
StarGames, WMS Industries, Bally Technologies (formerly Alliance Gaming),
Aristocrat Technologies, Novomatic, Atronic Casino Technology, and Lottomatica’s
recently acquired subsidiary G-Tech Holdings have a majority of this worldwide
market. In the video gaming machine market, we compete with market leader IGT,
as well as Aristocrat Technologies, Bally Technologies, Atronic Casino
Technology, Progressive Gaming, Konami, Franco and Unidesa. In the VLT market,
we compete primarily with IGT, G-Tech Holdings and Scientific Games. Aruze
Corp.
is a world leader in the manufacturing of Pachi-Slot, Pachi-Com, Reel Spinning
Slots and Video Gaming Devices. Aruze Corp. also develops Arcade Games,
Amusement Games and Consumer Game Software.
Our
competitors vary in size from small
companies with limited resources to a few large corporations with greater
financial, marketing and product development resources than ours. The larger
competitors, particularly IGT, have an advantage in being able to spend greater
amounts than us to develop new technologies, games and features that are
attractive to players and customers. In addition, some of our competitors have
developed, sell or otherwise provide to customers security, centralized player
tracking and accounting systems which allow casino operators to accumulate
accounting and performance data about the operation of gaming machines. We
do
not currently offer these systems. Several of our competitors pooled their
intellectual property patents that provide cashless gaming alternatives,
specifically ticket-in ticket-out technology, so that when a casino patron
cashes out from a gaming machine they may receive a printed ticket instead
of
coins.
Competition
in our Legacy Businesses
We
expect
competition to persist and intensify in the future. Our competitors include
small firms offering specific applications, divisions of large entities and
large independent firms. A number of competitors have or may develop greater
capabilities and resources than ours. We 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 markets. 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.
1.
OUTSOURCING SERVICES (INCLUDING BPO, ITO, AND CALL CENTER SERVICES)
COMPETITORS:
PCCW
is
one of Asia's leading integrated communications services companies, providing
local telephony and broadband services to businesses.
Chinasoft
International Limited, or ICSS, is a leading e-government solution provider
and
software developer in the PRC, and has entered the software outsourcing,
interrelated systems integration, consultancy and training services
industry.
2.
TELECOM VALUE-ADDED SERVICES (VAS) COMPETITORS:
TOM
Online Inc. (NASDQ: TOMO), is a leading wireless Internet company in China
providing value-added multimedia products and services, targeting the young
and
trendy demographics. The company's primary business activities include wireless
value-added services and online advertising. The company offers an array of
services such as SMS, MMS, WAP, wireless IVR (interactive voice response)
services, content channels, search and classified information, and free and
fee-based advanced email.
SINA
Corporation (NASDAQ:SINA), is a leading online media company and value-added
information service (VAS) provider for China and for Chinese communities
worldwide offering Internet users and government and business clients an array
of services.
GAMING
MACHINE MANUFACTURING
We
manufacture all of our gaming machines at our facilities in Shenzhen and Zhuhai,
China. In 2007, we began reconfiguring our assembly lines in order to lower
our
product lead times and effectively increase our practical capacity with added
production efficiencies.
Manufacturing
commitments are generally based on sales orders from customers. In some cases,
however, component parts are purchased and assembled into finished goods that
are inventoried in order to be able to quickly fill anticipated customer orders.
Our manufacturing process generally consists of assembling component parts to
complete a gaming machine. We generally warranty our gaming machines sold
internationally for a period of 180 days to one year.
The
raw
materials used in manufacturing our gaming machines include various metals,
plastics, wood, glass and numerous component parts, including electronic
subassemblies, main boards and circuit boards, money acceptors, and LCD screens.
We believe that our sources of supply of component parts and raw materials
are
generally adequate.
In
order
to improve the efficiency of our manufacturing processes and reduce time to
market, we continue to make improvements in sourcing and supply management,
in
inventory and warehouse management, and other manufacturing processes We also
have ongoing manufacturing initiatives, such as enhanced strategic sourcing
and
supplier management, value engineering the product and designing product for
both ease of manufacturability and installation, that we expect will help
improve gross margins in future quarters.
The
European Union (“EU”) has adopted the Restriction on the Use of Certain
Hazardous Substances in Electrical and Electronic Equipment (“RoHS”) directive
to facilitate the recycling of electrical and electronic equipment sold in
the
EU. The RoHS directive restricts the use of lead, mercury, and certain other
substances in electrical and electronic products placed on the market in the
EU
after July 1, 2006. We have worked with our suppliers to develop RoHS-compliant
products and, as of the effective date of the directive, we were able to provide
RoHS-compliant gaming machines to the EU. We expect that any cost increases
incurred due to the RoHS directive will be offset by savings from design and
other changes we made to our component parts.
RESEARCH
AND DEVELOPMENT
Our
gaming research and development department is dedicated to developing fun and
exciting electronic table games and slot machines that focus on enhancing Asian
player entertainment value and to introducing leading, innovative systems
products that increase our customers’ revenue stream and facilitates operating
efficiencies. Our dedicated Zhuhai (China) R&D center has approximately 31
employees who possesses significant experience in software development and
content design. Our current emphasis is on developing new technologies to expand
and improve functionalities of Multiplayer Electronic Gaming Machines, Online
Game Software Development, Slot Machines, including software, hardware and
cabinets, and developing new game content through third parties to refresh
and
grow our installed base of gaming devices.
We
conduct extensive testing on the products we offer to ensure they meet the
key
performance and quality standards as required by gaming regulators. In addition,
our R&D personnel constantly work with our customers on responding to their
needs and to also ensure compatibility with other products currently available
in the market. Moreover, we closely monitor the evolving standards in the gaming
industry so that we are able to respond and address new technologies as they
emerge.
INTELLECTUAL
PROPERTY
We
believe our trademarks, intellectual property rights, and propriety Asian gaming
software product development expertise are significant assets. Currently, we
have over five customized Asian gaming products. This portfolio took over three
years to develop and is expected to be a main focus of our R&D resources in
2007 and beyond. Our firm will continue to evolve as we look towards the next
generation of server-based gaming products. In addition to internally developed
and acquired emerging gaming technologies, we will also rely on strategic
partnerships to obtain access to intellectual property.
We
intend
to vigorously protect the investment in our intellectual property and the unique
features of our products and services by actively applying to intellectual
property patent protection. However, we cannot ensure that intellectual property
rights will not be infringed.
EXECUTIVE
OFFICES
We
have
executive offices located in Hong Kong, Macau, Beijing, Shenzhen and Guangzhou,
China, Aberdeen, South Dakota, U.S.A. and Glendale, California,
U.S.A.
PacificNet
Limited Hong Kong Office: 601 New Bright Building, 11 Sheung Yuet Road, Kowloon
Bay, Kowloon, Hong Kong. Tel: 011-852-2876-2900, Fax: 011-852-27930689 and
E-mail: [email protected].
PacificNet
Macau office: Unit A-C, 12th Floor, Edificio Commercial I Tak, No.
126, Rua Da Pequim, Macau, China. Tel: +853 28704154
PacificNet
Beijing Office: 23/F, Building A, TimeCourt, No.6 Shuguang Xili, Chaoyang
District, Beijing, China Postal Code: 100028. Tel:86-010-59225020, Fax:
86-010-59225001 and Email: [email protected].
PacificNet
Shenzhen Office: Room 901, Tower A, Tian An High-Tech Plaza, Tian An Cyber
Park,
Fu Tian District, Shenzhen, China Postal Code: 518040. Tel:011-86-7553360672,
Fax: 011-86-7553360675 and Email: [email protected].
PacificNet
Guangzhou Office: 15/F, Building A, Huajian Plaza, No. 233 Tianfu Road, Tianhe
District, Guangzhou, China Postal Code: 510630. Tel: 011-86-020-85613432, Fax:
011-86-020-81613659 and Email: [email protected].
PacificNet
Inc. South Dakota Office: 416 Production Street North, Aberdeen, SD 57401,
USA. Tel: +1 (605) 229-6678, Fax: +1 (605)
229-0394 Email: [email protected]
PacificNet
Inc. California Office: 655 N. Central Ave., 17th Floor, Glendale,
CA
91203, USA. Tel: +1- 818-649-7500, Fax: +1-646-349-1096
We
maintain a website at http://www.PacificNet.com. Information
contained on or accessed through our website is not intended to constitute
and
shall not be deemed to constitute part of this prospectus.
LEGAL
PROCEEDINGS
Johnson
Controls Hong Kong Limited (JCHKL) vs. PacificNet Power
Limited
On
January 19, 2007, Johnson Controls Hong Kong Limited filed a civil claim
against
PacificNet Power Limited (a 51% owned subsidiary of PacificNet) in the High
Court of the Hong Kong Special Administrative Region seeking HK$4,800,000
as
payment for services rendered to replace 3 sets of rane water-cooled chillers,
together with energy saving performance (the "Chiller System"), at the Fortress
Tower in Hong Kong.
In
connection with the claim, PacificNet Power reviewed a letter from its client,
China Weal Property Management Ltd., dated January 22, 2007 stating that
the
construction work by JCHKL had not been completed as of the date of the letter,
and that certain violations itemized in a letter issued by the Hong Kong
Environment Protection Department (EPD) (Noise Abatement Notice No. N806030)
addressed to JCHKL with respect to acoustic problems with JCHKL’s equipment had
not been abated.
The
board
of directors of PacificNet Power Limited has reviewed the case with its client,
China Weal Property Management Ltd., and our Hong Kong legal counsel and
it is
our belief that the project work undertaken JCHKL is defective in numerous
aspects. As a result, we believe the construction work has not been
completed by JCHKL, and therefore, JCHKL is not entitled to payment for its
services.
On
February 13, 2007, we instructed our Hong Kong legal counsel to issue a Defense
and Counterclaim to JCHKL to counter-claim that ( i) JCHKL's construction
work
has not complied with the applicable rules and regulations of various government
authorities in Hong Kong; (ii) the Chiller System provided by JCHKL was
defective and merchantable unfit and JCHKL has failed and/or refused to rectify
such defective works; and (iii) JCHKL shall return the work deposit in the
amount of HK$1,500,000 to PacificNet Power Limited and shall
compensate and keep PacificNet Power Limited indemnified against all the
loss
and damages suffered as a result of any claims from the China Weal Property
Management Ltd..
The
case
is now in the discovery stage before proceeding to the stage of fixing a
date
for trial in the High Court of Hong Kong and we intend to vigorously defend
ourselves against the allegations. We are unable to predict the outcome of
these
actions, or a reasonable estimate of the range of possible loss, if
any.
PacificNet
Power Limited vs Johnson Controls Hong Kong Limited
(JCHKL)
On
or
about December, 2005, Johnson Controls Hong Kong Limited approached PacificNet
Power Limited (a 51% owned subsidiary of PacificNet) and made a representation
that they had submitted a tender to “The Incorporated Owners of Nan Fung Centre,
Tsuen Wan (“the Employer”) for the “construction and replacement works of
existing air-cooled chiller plant by new water-cooled chiller plant for Tsuen
Wan Nan Fung Centre and energy saving performance contract” (“the Contract”).
JCHKL invited and induced PacificNet Power Limited to act as the main contractor
for the Contract and it would then act as a sub-contractor.
PacificNet
Power also expressly made known to JCHKL that the said construction and
replacement works and the guaranteed energy saving should meet all the tender
requirements if PacificNet Power accepted the invitation to act as the main
contractor for the Contract, and PacificNet Power further said that if there
should be any quality defects with the system and/ or the construction work,
the
Employer and/ or their prospective tenants would claim against JCHKL and
JCHKL
should compensate.
PacificNet
Power however received some correspondences and complaints from the Employer
about the poor and/ or sub-standard works done by JCHKL. PacificNet Power,
after
separate investigation, discovered the poor workmanship and sub-standard
works
done by JCHKL. Accordingly, the Employer and/ or their representatives have
delayed the monthly installments payment to PacificNet Power.
On
April
23, 2007, we instructed our lawyers to issue a letter to the Defendant
requesting and demanding them, being the sub-contractor of the Construction
and
Replacement Works Contract, to take immediate rectification action within
seven
days from the date of the said letter to (i) rectify and complete all
outstanding defective works of the Construction and Replacement Works Contract;
(ii) replace the water-cooled chiller plant and/or equipments which are not
conformed with the requirements of the tender documents previously submitted
by
the Defendant to the Employer; and (iii) improve the poor performance of
energy
saving of the new water-cooled chiller plant.
Despite
the said letter, JCHKL had failed and/ or refused to rectify and complete
all
outstanding works and/ or replace the defective system. And therefore PacificNet
Power claims against JCHKL for: (i) refund HK$6,414,300.00, being the Contract
Price paid by PacificNet Power to JCHKL; (ii) costs and expenses incurred
by
PacificNet Power to rectify all defective works of the Contract; (iii) all
damage and loss suffered by PacificNet Power, and further and other
relief.
On
July
25, 2007, JCHKL issued a Defense and Counterclaim to PacificNet Power to
argue
that: (i) they had carried out the works according to the Contract terms;
(ii)
the works had been approved by PKL Consultants Limited, the consultant
representative of the Employer; and (iii) a sum of HK$30,000 is still due
and
owing by PacificNet Power to JCHKL.
The
case
is now in the discovery stage before proceeding to the stage of fixing a
date
for trial in the High Court of Hong Kong. We are unable to predict the outcome
of these actions, or a reasonable estimate of the range of possible loss,
if
any.
PacificNet
Inc. vs. HLB Hodgson Impey Cheng (HLB or Defendant), a firm of Chartered
Accountants and Certified Public Accountants in Hong Kong
On
September 20, 2007, PacificNet Inc. filed a claim against its former auditors
HLB Hodgson Impey Cheng (HLB), a firm of Chartered Accountants and Certified
Public Accountants, in the High Court of the Hong Kong Special Administrative
Region seeking refund of the professional fees, compensation of professional
fees and expenses for Company to engage and deploy new auditors to take
over the
incomplete audit works from the Defendant and returning and/or providing
all
relevant accounting records, vouchers, audit program and working papers
retained
by the Defendant and losses and damages incurred.
The
case
is now in the pleadings stage. We are unable to predict the outcome of these
actions, or a reasonable estimate of the range of possible loss, if
any.
Iroquois
Master Fund, Ltd. vs. Pacificnet Inc.
On
or
about October 3, 2007 Iroquois Master Fund, Ltd. filed a complaint in the
Supreme Court of the State of New York against PacificNet Inc., claiming
that
the Company is in default under the Amended and Restated Convertible Debenture
due March 2009 (the Amended Debenture”) in the principal amount of $3,000,000
and the Convertible Debenture due February 2009 (the “New Debenture”) in the
principal amount of $420,000.
Iroquois
Master Fund, Ltd. is seeking damages of $3,253,163.80 in the aggregate, together
with any accrued but unpaid interest through the date of
judgment. Iroquois Master Fund, Ltd. has also demanded reimbursement
of its attorney fees and other costs and expenses incurred together with
costs
and disbursements of this action.
On
or
about December 5, 2007, PacificNet filed its answer denies that PacificNet
is in
default and assert an agreement that would enable it to bring the interest
payments up to date by the issuance of stock in the near
future.
EMPLOYEES
As
of
December 11, 2007, together with our subsidiaries, we had approximately 1,900
employees and contractors. We have not experienced any labor stoppages. None
of
our employees are covered by collective bargaining agreements. The breakdown
of
number of employees for each of the business units of the Company is as
follows:
COMPANY
AND SUBSIDIARIES EMPLOYEES
|
|
NUMBER
OF EMPLOYEES
|
|
PacificNet
Epro (Epro Telecom Holdings Limited)
|
|
|
1,400
|
|
Beijing
Linkhead Technologies Company Limited (Discontinued)
|
|
|
50
|
|
Smartime
/ Soluteck Technology (Shenzhen) Company Limited
|
|
|
170
|
|
Moabc
|
|
|
30
|
|
Guangdong
Ploy
|
|
|
20
|
|
iMobile
|
|
|
70
|
|
PacificNet
Games Limited
|
|
|
50
|
|
Wanrong
|
|
|
40
|
|
PacificNet
Beijing
|
|
|
30
|
|
PacificNet
Shenzhen
|
|
|
25
|
|
PacificNet
Limited (Hong Kong)
|
|
|
12
|
|
Take
1
|
|
|
12
|
|
PacificNet
Inc.
|
|
|
9
|
|
PacificNet
Guangzhou
|
|
|
3
|
|
Total
|
|
|
1,921
|
|
MANAGEMENT
Set
forth
below are the names of the directors and executive officers of the
Company as of November 30, 2007:
Name
|
Age
|
Title
|
Tony
Tong
|
39
|
Chairman
and Chief Executive Officer
|
Victor
Tong
|
36
|
President,
Secretary, and Director
|
Daniel
Lui
|
43
|
Chief
Financial Officer
|
Shaojian
(Sean) Wang
|
41
|
Director
|
Michael
Ha
|
37
|
Independent
Director
|
Jeremy
Goodwin
|
33
|
Independent
Director
|
Tao
Jin
|
38
|
Independent
Director
|
Ho-Man
(Mike) Poon
|
34
|
Independent
Director Nominee
|
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 board of director, key positions and
brief biography:
MR.
TONY
TONG, is the Chairman, CEO, Executive Director, and co-founder of PacificNet
since 1999. 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 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, is the President of PacificNet, and has served on our board as
an
Executive Director since 2002. Mr. Victor Tong gained his consulting, systems
integration, and technical expertise through his experience at Andersen
Consulting (now Accenture, NYSE:ACN), American Express Financial Advisors (IDS),
3M, and the Superconductivity Center at the University of Minnesota. In 1994,
Mr. Victor co-founded Talent Information Management (“TIM”), a leading internet
application development and consulting company in Minnesota. PacificNet.com
was
originally founded as an operating division of TIM. In 1997, Mr. Tong
successfully sold GoWeb, an internet consulting division of TIM to Key
Investment, a leading technology and media investment company owned by Vance
Opperman, a billionaire in Minnesota who founded West Publishing. Mr. Tong
became the President of KeyTech, a leading information technology consulting
company based in Minnesota. In 1999, he was recognized in “City Business 40
Under 40” as one of the future business and community leaders in Minnesota. Mr.
Tong won the Student Commencement Speaker Award and graduated with honors
with a Bachelor of Science in Physics from the University of Minnesota. Mr.
Tong
was an adjunct professor at the College of Software of Beihang University,
one
of the top software colleges in China. Victor Tong is the brother of Tony
Tong.
MR.
DANIEL LUI, has served as Chief Financial Officer since March 1, 2007. Mr.
Lui
joined PacificNet with over 17 years of professional and commercial accounting
experience, 7 years of which was in Mainland China. He carries the credentials
of Chartered Accountant (Alberta, Canada) and CPA-inactive (Washington, USA).
Mr. Lui was Vice President of Finance and Company Secretary of Fiberxon Inc.,
a
leading communications subsystem maker, where he was in charge of Fiberxon’s
Finance, Company Secretarial, and Information Technology departments from 2002
to 2007. Prior to joining Fiberxon, Mr. Lui was Chief Financial Officer of
China
Motion NetCom Ltd., a wholly owned subsidiary of China Motion Telecom
International Limited, a Hong Kong Exchange listed company, engaged in long
distance call resale business from 2000 to 2001. Prior to that, Mr. Lui
was Financial Advisory Services Manager of PricewaterhouseCoopers and Auditor
at
KPMG. Mr. Lui received his Bachelors of Business Administration degree from
the
University of Hawaii at Manoa in 1987 and Masters of Business Administration
from University of Alberta in Canada in 1994.
MR.
SHAOJIAN (SEAN) WANG, has served on our board as a Director since 2002. From
2002 to May 2006, Mr. Wang also served as Chief Financial Officer of PacificNet.
Mr. Wang is now President and Chief Operating Officer of Hurray! Holding Co.,
Ltd. (NASDAQ:HRAY), a NASDAQ-listed Chinese VAS company. Previously, Mr. Sean
Wang was COO and acting Chief Financial Officer (CFO) at GoVideo and Opta
Corporation, a public listed consumer Electronics Company in the US controlled
by TCL, a leading consumer electronics maker in China. From 1987 to 2002, he
served as a country manager at Ecolab, Inc. and as the managing director at
Thian Bing Investments PTE, Ltd. From 1993 to 2002, Mr. Wang served as managing
director of Thian Bing Investments PTE, Ltd. where he managed the
Singapore-based company’s multi-million dollar investment operations and
identified strategic and investment opportunities. Mr. Sean Wang attended Peking
University and received a BS in Economics from Hamline University and an MBA
from Carlson School of Management, University of Minnesota.
MR.
MICHAEL CHUN HA, has served on our board as an Independent Director 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 lawyer
in a number of international and Hong Kong prestigious 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” and the
firm specializes in the areas of general commercial transactions, corporate
finance and civil and criminal litigations. Mr. Ha is also the company secretary
of, Shanxi Central Pharmaceutical International Company Limited, a Hong Kong
main board listed company from year 2000 and a director of a private investment
company, Metro Concord Investment Limited, from year 2002.
MR.
JEREMY GOODWIN, has served on our board as an Independent Director since
December 24, 2004. Jeremy Goodwin is founder of China Diligizer and Managing
Partner of 3G Capital Partners. He began his career in 1995 at Mees Pierson
Investment Finance S.A. in Geneva, Switzerland where he supported the fund’s
private placement/private equity finance 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. In 1999, Mr. Goodwin was employed
with
ING Barings in London as an International Associate. 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, has served on our board as an Independent Director since January 6, 2005.
Mr. Jin is a resident partner at Jun He Law Offices (www.JunHe.com), a leading
Chinese law firm specializing in commercial legal practice with over 160 lawyers
and offices in Beijing, Shanghai, Shenzhen, Dalian, Haikou and New York. Founded
in April 1989, Jun He was one of the first private law firms formed in China,
and has been a pioneer in the re-established Chinese legal profession with
a
focus in representing foreign clients in business activities throughout China.
Over the past few years, Jun He has been honored a number of times as one of
the
best law firms in China by the Ministry of Justice of China. With a team of
more
than 160 well-trained lawyers, Jun He is one of the largest and most established
law firms in China. Prior to joining Jun He, Mr. Jin served as Vice President
and Assistant General Counsel of J.P. Morgan Chase Bank, as the head legal
counsel for capital markets transactions in Asia, and for JPMorgan’s M&A
transactions in China. Mr. Jin joined Jun He as a partner in 2005.>>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.
MR.
HO-MAN (MIKE) POON, is a nominee for independent director of PacificNet. Mr.
Poon is a Chartered Financial Analyst (CFA). He is the first session graduate
of
the EMBA course of the Tsinghua University and holds a Bachelor degree from
the
University of Hong Kong. He has been registered as dealing director and
investment advisor since 2002. He has over 11 years experience in the equity
and
capital markets of the Greater China Region, ranging from direct investment,
fund management, securities brokerage and financial advisory. He is experienced
in deal structuring, especially in relation to transactions of the listed
companies in Hong Kong. Since 2002, he has served as the Chairman and
the Chief Executive Officer of the Friedmann Pacific group of companies, which
is a private financial groups covering investment, securities brokerage and
financial services. He is a member of the Hong Kong Society of Financial Analyst
and the member of the Hong Kong Institute of Directors.
EXECUTIVE
COMPENSATION
This
compensation discussion describes the material elements of compensation awarded
to, earned by, and paid to each of our executive officers listed in the Summary
Compensation Table below (the "named executive officers") during the last
completed fiscal year. This compensation discussion focuses on the information
contained in the following tables and related footnotes and narrative primarily
for the last completed fiscal year, but we have also described compensation
actions taken before or after the last completed fiscal year to the extent
it
enhances the understanding of our executive compensation
disclosure.
The
compensation committee currently oversees the design and administration of
our
executive compensation program.
Objectives
and Philosophy
In
General. The objectives of our compensation programs are
to:
|
·
|
Provide
our executive officers with both cash and equity incentives to motivate
them to further the interests of the company and our
stockholders
|
|
·
|
Provide
employees with long-term incentives to assist in creating a culture
of
corporate ownership, which we believe will assist in retaining these
employees
|
|
·
|
Provide
stability during our growth stage
|
Generally,
the compensation of our executive officers is composed of an annual base salary
annual incentive compensation and equity awards in the form of stock options,
other benefits and perquisites, post-termination severance and acceleration
of
stock option vesting for certain named executive officers upon termination
and/or a change in control. Our other benefits and perquisites consist of life
and health insurance benefits. In setting base salaries, the compensation
committee generally reviews the individual contributions of the particular
executive. In addition, stock options are granted to provide the opportunity
for
long-term compensation based upon the performance of our common stock over
time.
Our philosophy is to aggregate these elements so that they reach at a level
that
is commensurate with our size and sustained performance.
Elements
of Compensation
Compensation
consists of following elements:
Base
Salary. Base salaries for our executive officers are established based on
the scope of their responsibilities, taking into account competitive market
compensation paid by other companies in our industry for similar positions,
and
the other elements of the executive officer’s compensation, including
stock-based compensation. Our intent is to target executive base salaries near
the median of the range of salaries for executives in similar positions with
similar responsibilities at comparable companies, in line with our compensation
philosophy. Base salaries are reviewed annually, and may be increased annually
to realign salaries with market levels after taking into account individual
responsibilities, performance and experience. Based on publicly available
information, we believe that the base salaries established for our executive
officers are comparable to those paid by similar companies in our
industry.
Annual
Bonuses. Our executive officers and certain other employees are eligible
for annual cash bonuses, which are paid at the discretion of our compensation
committee. The employment agreement with our executive officers do not provide
for minimum bonuses. The determination of the amount of annual bonuses paid
to
our executive officers generally reflects a number of subjective considerations,
including the performance of our company overall and the contributions of the
executive officer during the relevant period.
Incentive
Compensation. We believe that long-term performance is achieved through an
ownership culture that encourages long-term performance by our executive
officers through the use of stock-based awards. Our 2006 Stock Option Plan
permits the grant of stock options, restricted stock, stock appreciation rights,
and performance-based stock awards. Under power delegated by our Board, the
Compensation Committee of the Board has the authority to award incentive
compensation to our executive officers, employees, consultants and directors
in
such amounts and on such terms as the committee determines in its sole
discretion.
Currently,
we do not maintain any incentive compensation plans based on pre-defined
performance criteria. Incentive compensation is intended to compensate executive
officers, employees, consultants and directors for achieving financial and
operational goals and for achieving individual annual performance objectives.
These objectives are expected to vary depending on the individual executive,
but
are expected to relate generally to strategic factors such as expansion of
our
services and to financial factors such as improving our results of operations.
The actual amount of incentive compensation for the prior year will be
determined following a review of each executive’s individual performance and
contribution to our strategic goals conducted during the first quarter of each
year. Specific performance targets used to determine incentive compensation
for
each of our executive officers in 2007 have not yet been
determined.
Other
Compensation. Each employment agreement provides the executive with certain
other benefits, including reimbursement of business and entertainment expenses
and housing allowance. Each executive is eligible to participate in all benefit
plans and programs that are or in the future may be available to other executive
employees of our company, including any profit-sharing plan, thrift plan, health
insurance or health care plan, disability insurance, pension plan, supplemental
retirement plan, vacation and sick leave plan, and other similar plans. The
compensation committee in its discretion may revise, amend or add to the
officer’s executive benefits and perquisites as it deems advisable. We believe
that these benefits and perquisites are typically provided to senior executives
of similar companies.
Compensation
Committee Report on Executive Compensation
Our
compensation committee has certain duties and powers as described in its
charter. The compensation committee is currently composed of the four
independent directors named at the end of this report, each of whom is
independent as defined by the NASDAQ Global Market listing
standards.
The
compensation committee has reviewed and discussed with management the
disclosures contained in the Compensation Discussion and Analysis section of
this Annual Report on Form 10-K. Based upon this review and discussion, the
compensation committee recommended to our Board of Directors that the
Compensation Discussion and Analysis section be included in our Annual Report
on
Form 10-K to be filed with the SEC.
|
Compensation
Committee of the Board of Directors
|
|
Michael
Ha, Chairman
|
|
Jeremy
Goodwin
|
|
Jin
Tao
|
|
Peter
Wang
|
This
report shall not constitute soliciting material or otherwise be considered
filed
under the Securities Act or the Securities Exchange Act.
Summary
Compensation Table
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Name
and Principal Position
|
|
Year
|
|
Salary
($)
|
|
Housing
Allowance
|
|
Option
Awards
($)
(1)
|
|
All
Other
Compensation
|
|
Total
($)
|
|
Tony
Tong, Chairman, Chief Executive Officer and Director
|
|
|
2006
|
|
|
$100,000
|
|
|
|
|
|
$21,552
|
|
|
|
|
|
$121,552
|
|
Joe
Levinson, Chief Financial Officer
|
|
|
2006
|
|
|
$40,000
|
(2)
|
|
|
|
|
|
|
|
|
|
|
$40,000
|
|
Victor
Tong, President and Director
|
|
|
2006
|
|
|
$48,000
|
|
|
$24,000
|
|
|
$21,552
|
|
|
|
|
|
$93,552
|
|
|
1)
|
Valuation
based on the dollar amount of option grants recognized for financial
statement reporting purposes pursuant to FAS 123R with respect to
2006. On
December 15, 2006, the board of directors cancelled all options granted
in
2005 and 2006.
|
|
2)
|
Mr.
Levinson resigned as our Chief Financial Officer on February 9,
2007.
|
Employment
Agreements
On
March
25, 2003, we entered into an Executive Employment Contract with Victor Tong.
Mr.
Tong currently serves as our President. The employment agreement provides for
Mr. Tong to earn an annual base salary of $48,000 in cash, plus $10,000 in
stock
compensation annually until January 1, 2006. 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 compensation committee may deem appropriate. Mr.
Tong is entitled to receive a monthly housing allowance of $2,000 and a monthly
automobile allowance of $500. Mr. Tong’s employment contract was renewed for a
period of three years through December 30, 2008, starting from the expiration
of
the previous employment contract which ended on December 30, 2005. Mr. Tong’s
annual base salary was also increased to $100,000 on October 29,
2006.
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. Mr. Tong’s employment
contract was renewed for a period of three years through December 30, 2008,
starting from the expiration of the previous employment contract which ended
on
December 30, 2005.
On
August
3, 2006, the Company entered into a consulting services agreement with Levinson
Services Partners, of which Joe Levinson, the Company’s former Chief Financial
Officer is manager, which set forth Mr. Levinson’s duties as the Chief Financial
Officer of the Company and the terms of his compensation. The agreement was
for
a term of three (3) years commencing on September 5, 2006. The consulting
agreement provided that Mr. Levinson was to receive an annual base salary of
$120,000, plus stock options to purchase up to 12,000 shares of Company common
stock per year, vesting in equal installments over a 10 month period, and stock
options granted on an annual basis which vest only if the stock price of
PacificNet common stock reaches certain thresholds. Mr. Levinson was also to
be
reimbursed for expenses. The consulting agreement was terminated as a result
of
Mr. Levinson’s resignation as Chief Financial Officer on February 9,
2007.
Grants
of Plan-Based Awards
During
the fiscal year ended December 31, 2006, options were issued to the named
executive officers to purchase 70,000 shares of common stock in the aggregate.
On December 15, 2006, our board of directors decided to cancel all options
previously granted in 2005 and 2006, due to the increasing cost to administer
stock options.
Outstanding
Equity Awards at Fiscal Year-End
The
following table summarizes the number of securities underlying outstanding
plan
awards for each named executive officer as of December 31,
2006.
Name
|
|
Number
of
Securities
Underlying
Unexercised
Options (#) Exercisable
|
|
Number
of
Securities
Underlying
Unexercised
Options (#) Unexercisable
|
|
Equity
Incentive Plan Awards; Number of Securities Underlying Unexercised
Unearned Options (#)
|
|
Option
Exercise
Price
($)
|
|
Option
Expiration
Date
|
|
Tony
Tong, CEO
|
|
|
75,000
|
|
|
-
|
|
|
-
|
|
|
$2.00
|
|
|
7-26-2007
|
|
Victor
Tong, President
|
|
|
75,000
|
|
|
-
|
|
|
-
|
|
|
$2.00
|
|
|
7-26-2007
|
|
Joseph
Levinson, CFO
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
Option
Exercises and Stock Vested
The
following table summarizes stock option exercises by our named executive
officers in 2006.
|
Option
Awards
|
Name/
Principal
Position
|
Number
of Shares
Acquired
on Exercise (#)
|
Value
Realized
on
Exercise ($)
|
Tony
Tong, CEO
|
90,000
|
$193,500
|
Victor
Tong, President
|
90,000
|
$198,000
|
Joseph
Levinson, CFO
|
-
|
-
|
1998
Incentive Stock Option Plan
Administration
of the 1998 Plan
2,000,000
shares of common stock are reserved under the PacificNet, Inc. 1998 Stock Option
Plan (the "1998 Incentive Plan”) for issuance upon exercise of stock options. .
The 1998 Incentive Plan provides for a term of ten years from the date of its
adoption by the board of directors (unless the Incentive Plan is earlier
terminated), after which no awards may be made.
The
1998
Plan may be administered by the Board of Directors or a committee of the Board
of Directors (in either case, the "Committee"), which has complete discretion
to
select the optionees and to establish the terms and conditions of each option,
subject to the provisions of the 1998 Plan. Options granted under the 1998
Plan
may be "incentive stock options" as defined in Section 422 of the Internal
Revenue Code of 1986, as amended (the "Code"), or nonqualified
options.
Options
Options
granted under the 1998 Plan may be either “incentive stock options”
(“ISOs”), which are intended to meet the requirements for special
federal income tax treatment under the Code, or “nonqualified stock
options” (“NQSOs”). Options may be granted on such terms and
conditions as the Committee may determine; provided, however, that the exercise
price of an option may not be less than the fair market value of the underlying
stock on the date of grant and the term of the option my not exceed 10 years
(110% of such value and 5 years in the case of an ISO granted to an employee
who
owns (or is deemed to own) more than 10% of the total combined voting power
of
all classes of capital stock of the Company or a parent or subsidiary of the
Company). ISOs may only be granted to employees. In addition, the aggregate
fair
market value of Common Stock covered by ISOs (determined at the time of grant)
which are exercisable for the first time by an employee during any calendar
year
may not exceed $100,000. Any excess is treated as a NQSO.
Transferability
of Options.
The
Options may not be sold, pledged, assigned, hypothecated, transferred, or
disposed of in any manner other than by will or by the laws of descent or
distribution and may be exercised, during the lifetime of the Optionee, only
by
the Optionee.
Term;
Amendments
The
1998
Plan is effective for 10 years, unless it is sooner terminated or suspended.
The
Committee may at any time amend, alter, suspend or terminate the 1998 Plan;
provided that no amendment requiring stockholder approval will be effective
unless such approval has been obtained. No termination or suspension of the
2005
Plan will affect an award which is outstanding at the time of the termination
or
suspension.
Certain
Federal Income Tax Consequences
Incentive
stock options granted under the 1998 Plan will be afforded favorable federal
income tax treatment under the Code. If an option is treated as an incentive
stock option, the optionee will recognize no income upon grant or exercise
of
the option unless the alternative minimum tax rules apply. Upon an optionee's
sale of the shares (assuming that the sale occurs at least two years after
grant
of the option and at least one year after exercise of the option), any gain
will
be taxed to the optionee as long-term capital gain. If the optionee disposes
of
the shares prior to the expiration of the above holding periods, then the
optionee will recognize ordinary income in an amount generally measured as
the
difference between the exercise price and the lower of the fair market value
of
the shares at the exercise date or the sale price of the shares. Any gain or
loss recognized on such a premature sale of the shares in excess of the amount
treated as ordinary income will be characterized as capital gain or
loss.
All
other
options granted under the 1998 Plan will be nonstatutory stock options and
will
not qualify for any special tax benefits to the optionee. An optionee will
not
recognize any taxable income at the time he or she is granted a nonstatutory
stock option. However, upon exercise of the nonstatutory stock option, the
optionee will recognize ordinary income for federal income tax purposes in
an
amount generally measured as the excess of the then fair market value of each
share over its exercise price. Upon an optionee's resale of such shares, any
difference between the sale price and the fair market value of such shares
on
the date of exercise will be treated as capital gain or loss and
will
generally
qualify for long-term capital gain or loss treatment if the shares have been
held for more than one year. Recently enacted legislation provides for reduced
tax rates for long-term capital gains based on the taxpayer's income and the
length of the taxpayer's holding period.
The
foregoing does not purport to be a complete summary of the federal income tax
considerations that may be relevant to holders of options or to the Company.
It
also does not reflect provisions of the income tax laws of any municipality,
state or foreign country in which an optionee may reside, nor does it reflect
the tax consequences of an optionee's death.
2005
Equity Incentive Plan
Awards
The
2005
Equity Incentive Plan (the "2005 Plan") provides for the grant of options and
stock appreciation rights (“SARs”) of up to an aggregate of 2,000,000 shares of
Common Stock to directors, officers, employees and independent contractors
of
the Company or its affiliates. If any award expires, is cancelled, or terminates
unexercised or is forfeited, the number of shares subject thereto is again
available for grant under the 2005 Plan.
Administration
of the 2005 Plan
The
2005
Plan is administered by the Board of Directors or a committee of the Board
of
Directors consisting of not less than two members of the Board, each of whom
is
a “non-employee director” within the meaning of Rule 16b-3 promulgated
under the Exchange Act and an “outside director” within the meaning of
Code Section 162(m) (in either case, the “Committee”). Among other
things, the Committee has complete discretion, subject to the express limits
of
the 2005 Plan, to determine the persons to be granted an award, the type of
award to be granted, the number of shares of Common Stock subject to each award,
the exercise price of each option, the term of each award, the vesting schedule
for an award, whether to accelerate vesting, the value of the stock, and the
required withholding. The Committee may amend, modify or terminate any
outstanding award, provided that the participant’s consent to such action is
required if the action would materially and adversely affect the participant.
The Committee is also authorized to construe the award agreements, and may
prescribe rules relating to the 2005 Plan. Notwithstanding the foregoing, the
Committee does not have any authority to grant or modify an award under the
2005
Plan with terms or conditions that would cause the grant, vesting or exercise
to
be considered nonqualified “deferred compensation” subject to Code
Section 409A.
Limitation
on number of Awards.
Among
other things, in order for the grant of stock options and SARs to qualify as
performance-based compensation and be excluded from the Company’s corporate
income tax deduction cap of $1,000,000 per year for its Named Executive
Officers, as set forth in Section 162(m) of the Code, the stockholders must
approve the maximum number of shares of common stock that can be issued to
any
one person under the Plan in any calendar year. The number of shares of Common
Stock for which stock options or SARs may be granted to a participant under
the
2005 Plan in any calendar year cannot exceed 500,000.
Options
Options
granted under the 2005 Plan may be either “incentive stock options”
(“ISOs”), which are intended to meet the requirements for special
federal income tax treatment under the Code, or “nonqualified stock
options” (“NQSOs”). Options may be granted on such terms and
conditions as the Committee may determine; provided, however, that the exercise
price of an option may not be less than the fair market value of the underlying
stock on the date of grant and the term of the option my not exceed 10 years
(110% of such value and 5 years in the case of an ISO granted to an employee
who
owns (or is deemed to own) more than 10% of the total combined voting power
of
all classes of capital stock of the Company or a parent or subsidiary of the
Company). ISOs may only be granted to employees. In addition, the aggregate
fair
market value of Common Stock covered by ISOs (determined at the time of grant)
which are exercisable for the first time by an employee during any calendar
year
may not exceed $100,000. Any excess is treated as a NQSO.
Stock
Appreciation Rights.
Stock
appreciation rights may be granted under our 2005 Plan. Stock appreciation
rights allow the recipient to receive the appreciation in the fair market value
of our common stock between the exercise date and the date of grant. The
Committee determines the terms of stock appreciation rights, including when
such
rights become exercisable and whether to pay the increased appreciation in
cash
or with shares of our common stock, or a combination thereof. Stock appreciation
rights expire under the same terms that apply to stock options.
Additional
Terms
Except
as
provided in the 2005 Plan, awards granted under the 2005 Plan are not
transferable and may be exercised only by the respective grantees during their
lifetime or by their guardian or legal representative. Each award agreement
will specify, among other things, the effect on an award of the disability,
death, retirement, authorized leave of absence or other termination of
employment. The Company may require a participant to pay the Company the amount
of any required withholding in connection with the grant, vesting, exercise
or
disposition of an award. A participant is not considered a stockholder with
respect to the shares underlying an award until the shares are issued to the
participant.
Term;
Amendments
The
2005
Plan is effective for 10 years, unless it is sooner terminated or suspended.
The
Committee may at any time amend, alter, suspend or terminate the 2005 Plan;
provided that no amendment requiring stockholder approval will be effective
unless such approval has been obtained. No termination or suspension of the
2005
Plan will affect an award which is outstanding at the time of the termination
or
suspension.
Certain
Federal Income Tax Consequences
The
following is a general summary of the federal income tax consequences under
current tax law of options and stock appreciation rights. It does not purport
to
cover all of the special rules, including special rules relating to participants
subject to Section 16(b) of the Exchange Act and the exercise of an option
with previously-acquired shares, or the state or local income or other tax
consequences inherent in the ownership and exercise of stock options and the
ownership and disposition of the underlying shares or the ownership and
disposition of restricted stock.
Options.
A participant does not recognize taxable income upon the grant of NQSO or an
ISO. Upon the exercise of a NQSO, the participant recognizes ordinary income
in
an amount equal to the excess, if any, of the fair market value of the shares
acquired on the date of exercise over the exercise price thereof, and the
Company will generally be entitled to a deduction for such amount at that time.
If the participant later sells shares acquired pursuant to the exercise of
a
NQSO, the participant recognizes long-term or short-term capital gain or loss,
depending on the period for which the shares were held. Long-term capital gain
is generally subject to more favorable tax treatment than ordinary income or
short-term capital gain.
Upon
the
exercise of an ISO, the participant does not recognize taxable income If the
participant disposes of the shares acquired pursuant to the exercise of an
ISO
more than two years after the date of grant and more than one year after the
transfer of the shares to the participant, the participant recognizes long-term
capital gain or loss and the Company is not be entitled to a deduction. However,
if the participant disposes of such shares within the required holding period,
all or a portion of the gain is treated as ordinary income and the Company
is
generally entitled to deduct such amount.
Stock
Appreciation Rights. Generally, no taxable income is realized upon the
grant of an SAR. Upon exercise, the holder of the SAR is taxed at ordinary
income tax rates on the amount of any cash and the fair market value of any
stock received.
In
addition to the tax consequences described above, a participant may be subject
to the alternative minimum tax, which is payable to the extent it exceeds the
participant’s regular tax. For this purpose, upon the exercise of an ISO, the
excess of the fair market value of the shares over the exercise price therefore
is an adjustment which increases alternative minimum taxable income. In
addition, the participant’s basis in such shares is increased by such excess for
purposes of computing the gain or loss on the disposition of the shares for
alternative minimum tax purposes. If a participant is required to pay an
alternative minimum tax, the amount of such tax which is attributable to
deferral preferences (including the incentive option adjustment) is allowed
as a
credit against the participant’s regular tax liability in subsequent years. To
the extent the credit is not used, it is carried forward.
Option
Exercises and Stock Vested
The
following table summarizes stock option exercises by our named executive
officers in 2006.
|
|
Option
Awards
|
|
|
Stock
Awards
|
|
Name/
Principal
Position
|
|
Number
of Shares Acquired on Exercise (#)
|
|
|
Value
Realized
on
Exercise ($)
|
|
|
Number
of Shares Acquired on Vesting (#)
|
|
|
Value
Realized
on
Vesting ($)
|
|
Tony
Tong, CEO
|
|
|
90,000
|
|
|
$
|
193,500
|
|
|
|
-
|
|
|
|
-
|
|
Victor
Tong, President
|
|
|
90,000
|
|
|
$
|
198,000
|
|
|
|
-
|
|
|
|
-
|
|
Joseph
Levinson, CFO
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Pension
Benefits
We
do not
sponsor any qualified or non-qualified defined benefit plans.
Nonqualified
Deferred Compensation
We
do not
maintain any non-qualified defined contribution or deferred compensation plans.
The compensation committee may elect to provide our officers and other employees
with non-qualified defined contribution or deferred compensation benefits if
the
compensation committee determines that doing so is in our best
interests.
Name
of Director
|
Year
|
|
Fees
Owed or
Paid
in Cash
|
|
|
Option
Awards
($)
(1)
|
|
|
All
other
compensation
($)
|
|
|
Total($)
|
|
ShaoJian
(Sean) Wang
|
2006
|
|
|
-
|
|
|
$
|
12,316
|
|
|
|
-
|
|
|
$
|
12,316
|
|
Peter
Wang
|
2006
|
|
|
-
|
|
|
$
|
9,237
|
|
|
|
-
|
|
|
$
|
9,237
|
|
Michael
Ha
|
2006
|
|
|
-
|
|
|
$
|
9,237
|
|
|
|
-
|
|
|
$
|
9,237
|
|
Tao
Jin
|
2006
|
|
|
-
|
|
|
$
|
9,237
|
|
|
|
-
|
|
|
$
|
9,237
|
|
Jeremy
Goodwin (2)
|
2006
|
|
$
|
10,000
|
|
|
|
-
|
|
|
|
-
|
|
|
$
|
10,000
|
|
(1)
|
Valuation
based on the dollar amount of option grants recognized for financial
statement reporting purposes pursuant to FAS 123(R). On December
15, 2006,
the board of directors cancelled all options granted in 2005 and
2006.
|
(2)
|
As
per Mr. Goodwin’s request the director fees for 2006 were paid in
cash.
|
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 stock options 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 options 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.
SECURITY
OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The
following table sets forth as of December 11, 2007 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 and nominee for election to the Board of Directors; (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.
NAME
AND ADDRESS
OF
BENEFICIAL OWNER
|
NUMBER
OF SHARES STOCK
BENEFICIALLY OWNED(1)
|
|
%
OF COMMON STOCK
BENEFICIALLY
OWNED
|
|
Sino
Mart Management Ltd. (2)
c/o
ChoSam Tong
16E,
Mei On Industrial Bldg.17 Kung
Yip
Street, Kwai Chung, NT, Hong Kong
|
1,851,160
|
|
15.45%
|
|
|
|
|
|
|
ChoSam
Tong (3)
16E,
Mei On Industrial Bldg. 17 Kung
Yip
Street, Kwai Chung, NT, Hong Kong
|
1,851,160
|
|
15.45%
|
|
|
|
|
|
|
Kin
Shing Li (4)
Rm.
3813, Hong Kong Plaza 188
Connaught
Road West, Hong Kong
|
1,150,000
|
|
9.60%
|
|
|
|
|
|
|
Tony
Tong
|
296,000
|
|
2.47%
|
|
|
|
|
|
|
Victor
Tong
|
96,000
|
|
*
|
|
|
|
|
|
|
ShaoJian
(Sean) Wang
|
16,000
|
|
*
|
|
|
|
|
|
|
Michael
Chun Ha
|
0
|
|
*
|
|
|
|
|
|
|
Tao
Jin (9)
|
10,000
|
|
*
|
|
|
|
|
|
|
Jeremy
Goodwin
|
0
|
|
*
|
|
|
|
|
|
|
Ho-Man
(Mike) Poon
|
0
|
|
*
|
|
|
|
|
|
|
All
directors and officers as a group (8 persons)
|
418,000
|
|
3.49%
|
|
*
Less
than one percent.
**
The
address for each beneficial owner not otherwise specified is: c/o PacificNet
Inc., 23/F, Building A, TimeCourt, No.6 Shuguang Xili, Chaoyang District,
Beijing, China,100028
(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)
|
Sino
Mart Management Ltd. is owned by Mr. ChoSam Tong, the father of Messrs.
Tony Tong and Victor Tong.
|
(3)
|
Includes
shares of common stock of Sino Mart Management Ltd., which is owned
by Mr.
ChoSam Tong.
|
(4)
|
Information
obtained from the Schedule 13D/A filed by Mr. Kin Shing Li on October
14,
2003.
|
CERTAIN
RELATIONSHIPS AND RELATED TRANSACTIONS
There
were no transactions, or currently proposed transactions in an amount exceeding
$120,000, since the beginning of the Company’s last fiscal year in which the
Company was or is to be a participant and in which any related person had or
will have a direct or indirect material interest.
We
will
reimburse our officers and directors for any reasonable out-of-pocket business
expenses incurred by them in connection with certain activities on our behalf
such as identifying and investigating possible target businesses and business
combinations. There is no limit on the amount of accountable out-of-pocket
expenses reimbursable by us, which will be reviewed only by our board or a
court
of competent jurisdiction if such reimbursement is challenged.
All
ongoing and future transactions between us and any of our officers and directors
or their respective affiliates, including loans by our officers and directors,
will be on terms believed by us to be no less favorable than are available
from
unaffiliated third parties and such transactions or loans, including any
forgiveness of loans, will require prior approval in each instance by a majority
of our uninterested “independent” directors (to the extent we have any) or the
members of our board who do not have an interest in the transaction, in either
case, who had access, at our expense, to our attorneys or independent legal
counsel.
MARKET
FOR OUR COMMON STOCK, DIVIDENDS AND
RELATED
STOCKHOLDER INFORMATION
As
of
December 11, 2007, our common stock was listed on the NASDAQ Global Market,
under the symbol “PACT”. Prior to that time, our common stock was listed on the
NASDAQ Capital Market under the same symbol. The following table sets forth
the
range of high and low sales prices of common stock reported by NASDAQ in each
fiscal quarter from January 1, 2005 to December 31, 2006, for the fiscal
quarters ended March 31, June 30 and September 30, 2007, and the period from
October 1 through December 11, 2007.
|
|
HIGH
|
|
|
LOW
|
|
FISCAL
2005
|
|
|
|
|
|
|
Quarter
Ended March 31, 2005
|
|
$ |
11.34
|
|
|
$ |
6.46
|
|
Quarter
Ended June 30, 2005
|
|
$ |
10.23
|
|
|
$ |
6.71
|
|
Quarter
Ended September 30, 2005
|
|
$ |
9.00
|
|
|
$ |
6.85
|
|
Quarter
Ended December 31, 2005
|
|
$ |
8.48
|
|
|
$ |
6.30
|
|
|
|
|
|
|
|
|
|
|
FISCAL
2006
|
|
|
|
|
|
|
|
|
Quarter
Ended - March 31, 2006
|
|
$ |
8.88
|
|
|
$ |
6.57
|
|
Quarter
Ended June 30, 2006
|
|
$ |
8.52
|
|
|
$ |
7.05
|
|
Quarter
Ended September 30, 2006
|
|
$ |
7.62
|
|
|
$ |
4.62
|
|
October
Ended December 31, 2006
|
|
$ |
6.28
|
|
|
$ |
5.05
|
|
|
|
|
|
|
|
|
|
|
FISCAL
2007
|
|
|
|
|
|
|
|
|
Quarter
Ended March 31, 2007
|
|
$ |
7.60
|
|
|
$ |
4.80
|
|
Quarter
Ended June 30, 2007
|
|
$ |
5.80
|
|
|
$ |
3.77
|
|
Quarter
Ended September 30, 2007
|
|
$ |
6.10
|
|
|
$ |
3.92
|
|
October
1 through December 11, 2007
|
|
$ |
7.15
|
|
|
$ |
3.91
|
|
|
|
|
|
|
|
|
|
|
HOLDERS
OF RECORD
As
of
December 11, 2007, there were 184 record holders of our common stock. However,
the total number of beneficial holders is unknown as they hold our common stock
in street name.
DIVIDENDS
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.
EQUITY
COMPENSATION PLAN INFORMATION
The
following table sets forth aggregate information regarding the Company's equity
compensation plans in effect as of December 31, 2006:
|
Number
of securities to be issued upon exercise of outstanding options,
warrants
and rights
|
Weighted-average
exercise price of outstanding options, warrants and rights
($)
|
Remaining
available for further issuance under equity compensation
plans
|
Equity
compensation plans approved by security
holders
(under 1998 Stock Option Plan) (1)
|
370,500
|
$2.00
|
0
|
Equity
compensation plans approved by security
holders
(under 2005 Stock Option Plan) (2)
|
-
|
-
|
2,000,000
|
Equity
compensation plans not approved by
security
holders
|
N/A
|
N/A
|
N/A
|
(1)
Reflects options granted and available for issuance under the 1998 Stock Option
Plan.
(2)
Reflects options granted and available for issuance under the 2005 Stock Option
Plan.
DESCRIPTION
OF CAPITAL STOCK
General
The
following description of our securities does not purport to be complete and
is
subject in all respects to applicable Delaware law and to the provisions
of our
Certificate of Incorporation and By-laws. Our current authorized capital
stock consists of 125,000,000 shares of common stock, par value $.0001 per
share, of which 14,557,041 shares were issued and 11,984,072 were outstanding
as
of December 11, 2007, and 5,000,000 shares of preferred stock, par value
$.0001
per share, none of which were issued and outstanding as of December 11,
2007.
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.
Convertible
Debentures
On
March
13, 2006, we entered into a securities purchase agreement in connection with
the
private placement in which we sold $8,000,000 in convertible debentures and
issued warrants to purchase up to an aggregate of 400,000 shares of common
stock. The debentures are due March 13, 2009. The debentures are convertible
at
any time into shares of our common stock at an initial fixed conversion price
of
$10.00 per share, subject to adjustments for certain dilutive events. At the
closing of the private placement we prepaid the first year’s interest on the
debentures equal to 5% of the aggregate principal amount of debentures. We
will
pay interest in cash or shares, provided that certain conditions are met, at
the
rate of 6% for the second year the debentures are outstanding and then 7% for
the third. Beginning January 1, 2007, we are obligated to redeem $320,000 every
month, plus accrued, but unpaid interest, liquidated damages and penalties.
We
also have the option to prepay, provided that certain conditions have been
met,
after the 12 month anniversary of the effective date of the registration
statement of which this prospectus is part, some or all of the outstanding
debentures for cash in an amount equal to 120% of the principal amount
outstanding, plus accrued, but unpaid interest, liquidated damages and penalties
outstanding. At any time after the six month anniversary of the effective date,
we may force the holders to convert up to 50% of the then outstanding principal
amount of the debentures, subject to certain trading conditions being
met.
Under
the
terms of the debenture, as long as 20% of the original aggregate principal
amount of the debentures are outstanding, without the prior written consent
of
holders of the debentures who at such time hold a principal amount that is
more
than $50,000, we are not permitted to: (i) incur additional indebtedness or
liens, (ii) amend our organizational documents, (iii) repurchase our shares
of
common stock, except as provided for in the debenture, or (iv) pay any dividends
on any equity securities.
If
an
event of default occurs under the debentures or other related documents, the
holders may elect to accelerate the payment of the outstanding principal amount
of the debenture, plus accrued, but unpaid interest, liquidated damages and
penalties, which shall become immediately due and payable. The following are
some of the events that constitute an event of default under the debenture
and
related documents (i) our failure to perform our obligations or a breach under
the debenture and related agreements, or failure to perform under our other
material agreements; (ii) we or our subsidiaries being subject to a bankruptcy
event, (iii) failure of our common stock to be eligible for listing or quotation
and not eligible to resume listing or quotation within five trading days, (iv)
any change of control or agreement to sell or dispose of all or in excess of
33%
of our assets; and (v) a monetary judgment, writ or similar final process filed
against us or any subsidiary for more than $50,000.
The
debentures contain customary anti-dilution protection in the event of a
subsequent offering of securities or rights of the company at a price below
the
current exercise price and provide for additional adjustments in the event
of a
stock dividend, stock split, or pro rata distribution of indebtedness or assets
to our holders of common stock.
Warrants
We
have
included for registration herein shares underlying warrants to purchase 862,462
shares of common stock.
|
·
|
123,456
of the warrants expire on January 15, 2009, and are currently exercisable
into shares of common stock at an exercise price of $7.15 per share.
The
warrants permit the cashless exercise if at any time one year after
its
issuance there is no effective registration statement covering the
shares
underlying the warrant.
|
|
·
|
96,462
of the warrants expire on November 15, 2009, and are currently exercisable
into shares of common stock at an exercise price of $3.89 per share.
The
warrants permit the cashless exercise of the warrant if at any time
one
year after its issuance there is no effective registration statement
covering the shares underlying the warrant. The warrant provides
for the
adjustment of the number and kind of securities in the event of a
stock
split;
|
|
·
|
350,000
of the warrants expire on December 9, 2009, and are currently exercisable
into shares of common stock at an exercise price of $12.21 per share.
The
warrants contain customary anti-dilution protection in the event
of the
issuance of common stock or common stock equivalents at a price below
the
current exercise price and provide for the adjustment of the number
and
kind of securities in the event of a stock split;
and
|
|
·
|
416,000
of the warrants expire on March 13, 2011, and are currently exercisable
into shares of common stock at an exercise price of $12.20 per share.
The
warrants contain customary anti-dilution protection in the event
of a
subsequent offering of securities or rights of the company at a price
below the current exercise price and provide for additional adjustments
in
the event of a stock dividend, stock split, or pro rata distribution
of
indebtedness or assets to our holders of common
stock.
|
TRANSFER
AGENT AND REGISTRAR
The
Transfer Agent and Registrar for shares of our common stock is American Stock
Transfer & Trust Company, New York, New York.
LEGAL
MATERS
The
validity of the securities offered hereby have been passed upon for us by Loeb
& Loeb LLP, New York, New York.
EXPERTS
Our
financial statements as of December 31, 2006 and 2005, and for the years ended
December 31, 2006, 2005 and 2004 included in this prospectus and in the
registration statement have been audited by Kabani & Company, Inc. an
independent registered public accounting firm, as stated in their report
appearing herein.
WHERE
YOU CAN FIND MORE INFORMATION
We
have
filed with the SEC a registration statement on Form S-1 under the Securities
Act
of 1933 with respect to the common stock offered hereby. This prospectus, which
constitutes a part of the registration statement, does not contain all of the
information in the registration statement and the exhibits of the registration
statement. For further information with respect to us and the shares being
offered under this prospectus, we refer you to the registration statement,
including the exhibits and schedules thereto.
You
may
read and copy the registration statement of which this prospectus is a part
at
the SECs Public Reference Room, which is located at 100 F Street, N.E.,
Washington, D.C. 20549. You can request copies of the registration statement
by
writing to the SEC and paying a fee for the copying cost. Please call the SEC
at
1-800-SEC-0330 for more information about the operation of the SECs Public
Reference Room. In addition, the SEC maintains an Internet web site, which
is
located at www.sec.gov , which contains reports, proxy and information
statements and other information regarding issuers that file electronically
with
the SEC. You may access the registration statement of which this prospectus
is a
part at the SECs Internet web site. We are subject to the information reporting
requirements of the Securities Exchange Act of 1934, and we will file reports,
proxy statements and other information with the SEC.
We
maintain an Internet web site at www.pacificnet.com. We have not incorporated
by
reference into this prospectus the information on our web site, and you should
not consider it to be a part of this prospectus.
Unaudited
Interim Financial Information - as of and for the Nine Months Ended
September 30, 2006
|
|
|
|
Consolidated
Balance Sheets
|
F-2
|
|
|
Consolidated
Income Statements
|
F-3
|
|
|
Consolidated
Statements of Changes in Stockholders’ Equity
|
F-4
|
|
|
Consolidated
Statements
of Cash Flows
|
F-5
|
|
|
Notes
to Unaudited Consolidated Financial Statements
|
F-6
|
Audited
Financial Information - as of December 31, 2006, 2005 and 2004
and For the
Years Ended December 31, 2006, 2005, and 2004
|
|
|
|
Report
of Independent Registered Public Accounting
Firm
|
F-26
|
|
|
Consolidated
Balance Sheets – As of December 31, 2006 and
2005-Restated
|
F-27
|
|
|
Consolidated
Statements of Operations – For the Years Ended December 31, 2006, 2005 and
2004-Restated
|
F-28
|
|
|
Consolidated
Statements of Changes in Stockholders’ Equity – For the Years Ended
December 31, 2006, 2005 and 2004-Restated
|
F-29
|
|
|
Consolidated
Statements of Cash Flows – For the Years Ended December 31, 2006, 2005 and
2004-Restated
|
F-30
|
|
|
Notes
to Consolidated Financial Statements-Restated
|
F-31
|
PACIFICNET
INC. AND SUBSIDIARIES
CONSOLIDATED
BALANCE SHEETS
(In
thousands of United States dollars, except par values and share
numbers)
ASSETS
|
|
September
30,
2007
(Unaudited)
|
|
|
December
31,
2006
(Audited)
Restated
|
|
Current
Assets:
|
|
|
|
|
|
|
Cash
and cash equivalents
|
|
$
|
4,889
|
|
|
$
|
1,900
|
|
Restricted
cash - pledged bank deposit
|
|
|
239
|
|
|
|
234
|
|
Accounts
receivables
|
|
|
6,665
|
|
|
|
8,141
|
|
Inventories
|
|
|
553
|
|
|
|
201
|
|
Loan
receivable from related parties
|
|
|
2,227
|
|
|
|
1,706
|
|
Loan
receivable from third parties
|
|
|
2,260
|
|
|
|
128
|
|
Marketable
equity securities - available for sale
|
|
|
1,059
|
|
|
|
558
|
|
Loans
to employees
|
|
|
1,884
|
|
|
|
770
|
|
Other
receivables, net
|
|
|
2,900
|
|
|
|
170
|
|
Other
current assets
|
|
|
6,659
|
|
|
|
3,233
|
|
Total
Current Assets
|
|
|
29,335
|
|
|
|
17,041
|
|
|
|
|
|
|
|
|
|
|
Property
and equipment, net
|
|
|
5,794
|
|
|
|
4,711
|
|
Investments
in affiliated companies and subsidiaries
|
|
|
353
|
|
|
|
1,257
|
|
Intangible
assets, net
|
|
|
337
|
|
|
|
323
|
|
Goodwill
|
|
|
6,258
|
|
|
|
5,601
|
|
Other
assets
|
|
|
76
|
|
|
|
471
|
|
Net
assets held for disposition
|
|
|
810
|
|
|
|
7,522
|
|
TOTAL
ASSETS
|
|
|
42,963
|
|
|
|
36,926
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES
AND STOCKHOLDERS' EQUITY
|
|
|
|
|
|
|
|
|
Current
Liabilities:
|
|
|
|
|
|
|
|
|
Bank
line of Credit
|
|
$
|
181
|
|
|
$
|
855
|
|
Bank
loans-current portion
|
|
|
768
|
|
|
|
576
|
|
Capital
lease obligations - current portion
|
|
|
90
|
|
|
|
120
|
|
Accounts
payable
|
|
|
2,166
|
|
|
|
1,266
|
|
Accrued
expenses and other payables
|
|
|
2,950
|
|
|
|
1,828
|
|
Customer
deposits
|
|
|
430
|
|
|
|
352
|
|
Loans
payable to related party
|
|
|
681
|
|
|
|
638
|
|
Convertible
debenture
|
|
|
6,218
|
|
|
|
8,945
|
|
Warrant
liability
|
|
|
761
|
|
|
|
904
|
|
Liquidated
damages liability
|
|
|
2,697
|
|
|
|
2,837
|
|
Total
Current Liabilities
|
|
|
16,942
|
|
|
|
18,321
|
|
|
|
|
|
|
|
|
|
|
Long-term
liabilities:
|
|
|
|
|
|
|
|
|
Bank
loans - non current portion
|
|
|
2,051
|
|
|
|
1,635
|
|
Capital
lease obligations - non current portion
|
|
|
62
|
|
|
|
124
|
|
Convertible
Debenture- non current portion
|
|
|
4,908
|
|
|
|
-
|
|
Total
long-term liabilities
|
|
|
7,021
|
|
|
|
1,759
|
|
Total
liabilities
|
|
|
23,963
|
|
|
|
20,080
|
|
|
|
|
|
|
|
|
|
|
Minority
interest in consolidated subsidiaries
|
|
|
4,032
|
|
|
|
2,869
|
|
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, 2007: 14,557,041 shares issued, 11,984,072 outstanding
|
|
|
|
|
|
|
|
|
December
31, 2006: 14,155,597 issued, 11,538,664 outstanding
|
|
|
1
|
|
|
|
1
|
|
Treasury
stock, at cost (2007 Q3: 2,572,969 shares, 2006: 2,616,933
shares)
|
|
|
(145
|
)
|
|
|
(272
|
)
|
Additional
paid-in capital
|
|
|
67,409
|
|
|
|
65,757
|
|
Cumulative
other comprehensive income (loss)
|
|
|
(84
|
)
|
|
|
(42
|
)
|
Accumulated
deficit
|
|
|
(51,729
|
)
|
|
|
(51,090
|
)
|
Less:
stock subscription receivable
|
|
|
(484
|
)
|
|
|
(377
|
)
|
Total
Stockholders' Equity
|
|
|
14,968
|
|
|
|
13,977
|
|
TOTAL
LIABILITIES AND STOCKHOLDERS' EQUITY
|
|
$
|
42,963
|
|
|
$
|
36,926
|
|
The
accompanying notes are an integral
part of these unaudited consolidated financial statements.
PACIFICNET
INC. AND SUBSIDIARIES
CONSOLIDATED
STATEMENTS OF OPERATIONS
(Unaudited.
In thousands of United States dollars, except loss per share and share
amounts)
|
|
Three
months ended
September
30,
|
|
|
Nine
months ended
September
30,
|
|
|
|
2007
Unaudited
|
|
|
2006
Unaudited
Restated
|
|
|
2007
Unaudited
|
|
|
2006
Unaudited
Restated
|
|
Net
Revenues
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
Services
|
|
|
4,497
|
|
|
|
3,938
|
|
|
|
13,361
|
|
|
|
11,420
|
|
Product
sales
|
|
|
5,305
|
|
|
|
6,587
|
|
|
|
14,729
|
|
|
|
20,912
|
|
Total
Net Revenues
|
|
|
9,802
|
|
|
|
10,525
|
|
|
|
28,090
|
|
|
|
32,332
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost
of revenues
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Services
|
|
|
3,441
|
|
|
|
3,076
|
|
|
|
9,626
|
|
|
|
8,203
|
|
Product
sales
|
|
|
3,987
|
|
|
|
6,342
|
|
|
|
11,190
|
|
|
|
19,507
|
|
Total
Cost of Revenues
|
|
|
7,428
|
|
|
|
9,418
|
|
|
|
20,816
|
|
|
|
27,710
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross
Profit
|
|
|
2,374
|
|
|
|
1,107
|
|
|
|
7,274
|
|
|
|
4,622
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Selling,
general and administrative expenses
|
|
|
2,030
|
|
|
|
1,580
|
|
|
|
5,395
|
|
|
|
4,067
|
|
Provision
for doubtful accounts
|
|
|
|
|
|
|
312
|
|
|
|
|
|
|
|
310
|
|
Depreciation
and amortization
|
|
|
207
|
|
|
|
145
|
|
|
|
595
|
|
|
|
303
|
|
Total
Operating Expenses
|
|
|
2,237
|
|
|
|
1,725
|
|
|
|
5,990
|
|
|
|
4,370
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
INCOME(LOSS)
FROM OPERATIONS
|
|
|
137
|
|
|
|
(618
|
)
|
|
|
1,284
|
|
|
|
252
|
|
Other
Income(Expenses):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
income (Expenses),
net
|
|
|
(223
|
)
|
|
|
(252
|
)
|
|
|
(655
|
)
|
|
|
(649
|
)
|
Gains(Loss)
in change in fair value of derivatives
|
|
|
62
|
|
|
|
1,004
|
|
|
|
143
|
|
|
|
1,212
|
|
Liquidated
damages expense
|
|
|
-
|
|
|
|
(800
|
)
|
|
|
-
|
|
|
|
(800
|
)
|
Sundry
income, net
|
|
|
245
|
|
|
|
9
|
|
|
|
291
|
|
|
|
77
|
|
Total
Other Income (Expenses)
|
|
|
84
|
|
|
|
(39
|
)
|
|
|
(221
|
)
|
|
|
(160
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income(Loss)
before Income Taxes and Minority Interest
|
|
|
221
|
|
|
|
(657
|
)
|
|
|
1,063
|
|
|
|
92
|
|
Provision
for income taxes
|
|
|
46
|
|
|
|
(40
|
)
|
|
|
-
|
|
|
|
(70
|
)
|
Share
of earnings of associated companies
|
|
|
(23
|
)
|
|
|
80
|
|
|
|
(23
|
)
|
|
|
129
|
|
Minority
interests
|
|
|
(130
|
)
|
|
|
(12
|
)
|
|
|
(1,004
|
)
|
|
|
(527
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income(Loss)
from Continued Operations
|
|
|
114
|
|
|
|
(629
|
)
|
|
|
36
|
|
|
|
(376
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss
on disposal
|
|
|
(356
|
)
|
|
|
-
|
|
|
|
(925
|
)
|
|
|
-
|
|
Income
from discontinued operations
|
|
|
22
|
|
|
|
(486
|
)
|
|
|
250
|
|
|
|
980
|
|
Total
discontinued operations income (loss)
|
|
|
(334
|
)
|
|
|
(486
|
)
|
|
|
(675
|
)
|
|
|
980
|
|
Net
Income (Loss)
|
|
|
(220
|
)
|
|
|
(1,115
|
)
|
|
|
(639
|
)
|
|
|
604
|
|
Unrealized gain
on marketable securities
|
|
|
114
|
|
|
|
-
|
|
|
|
114
|
|
|
|
-
|
|
Foreign
exchange gain (loss)
|
|
|
(38
|
)
|
|
|
-
|
|
|
|
(135
|
)
|
|
|
-
|
|
Net
Comprehensive Loss
|
|
$
|
(144
|
)
|
|
$
|
(1,115
|
)
|
|
$
|
(660
|
)
|
|
$
|
604
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
Earnings (Loss) per share-Continued Operations
|
|
$
|
0.01
|
|
|
$
|
(0.05
|
)
|
|
$
|
0.00
|
|
|
$
|
(0.03
|
)
|
Basic
Earnings (Loss) per share-Discontinued Operations
|
|
$
|
(0.03
|
)
|
|
$
|
(0.04
|
)
|
|
$
|
(0.06
|
)
|
|
$
|
0.05
|
|
Basic
Earnings (Loss) per share
|
|
$
|
(0.02
|
)
|
|
$
|
(0.09
|
)
|
|
$
|
(0.06
|
)
|
|
$
|
0.02
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted
Earnings (Loss) per share-Continued Operations
|
|
$
|
0.01
|
|
|
$
|
(0.05
|
)
|
|
$
|
0.00
|
|
|
$
|
(0.03
|
)
|
Diluted
Earnings (Loss) per share-Discontinued Operations
|
|
$
|
(0.03
|
)
|
|
$
|
(0.04
|
)
|
|
$
|
(0.06
|
)
|
|
$
|
0.05
|
|
Diluted
Earnings (Loss) per share
|
|
$
|
(0.02
|
)
|
|
$
|
(0.09
|
)
|
|
$
|
(0.06
|
)
|
|
$
|
0.02
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted
average number of shares-Basic
|
|
|
11,931,094
|
|
|
|
11,619,010
|
|
|
|
11,805,686
|
|
|
|
11,171,608
|
|
Weighted
average number of shares-Diluted
|
|
|
12,027,315
|
|
|
|
11,619,010
|
|
|
|
11,858,870
|
|
|
|
11,171,608
|
|
The
accompanying notes are an integral part of these unaudited consolidated
financial statements.
PACIFICNET
INC. AND SUBSIDIARIES
CONSOLIDATED
STATEMENTS OF CASH FLOWS
(Unaudited.
In thousands of United States dollars, except earnings per share and share
amounts)
|
|
For
the Nine Month Periods Ended
September
30,
|
|
|
|
2007
(Unaudited)
|
|
|
2006
(Unaudited)
(Restated)
|
|
Cash
Flows from operating activities
|
|
|
|
|
|
|
Net
income (loss)
|
|
$
|
(639
|
)
|
|
$
|
604
|
|
Adjustment
to reconcile net income/(loss) to net cash provided by (used in)
operating
activities:
|
|
|
|
|
|
|
|
|
Equity
earnings of associated companies
|
|
|
23
|
|
|
|
(129
|
)
|
Provision
for allowance for doubtful accounts
|
|
|
1,391
|
|
|
|
310
|
|
Minority
Interest
|
|
|
1,004
|
|
|
|
527
|
|
Depreciation
and amortization
|
|
|
595
|
|
|
|
303
|
|
Stock-based
compensation
|
|
|
-
|
|
|
|
120
|
|
Change
in fair value of derivatives
|
|
|
(143
|
)
|
|
|
(1,212
|
)
|
Amortization
of interest discount
|
|
|
-
|
|
|
|
307
|
|
Liquidated
damages expense
|
|
|
-
|
|
|
|
800
|
|
Changes
in current assets and liabilities net of effects from purchase
of
subsidiaries:
|
|
|
|
|
|
|
|
|
Accounts
receivable and other current assets
|
|
|
(5,794
|
)
|
|
|
(2,753
|
)
|
Inventories
|
|
|
(352
|
)
|
|
|
(119
|
)
|
Accounts
payable and other accrued expenses
|
|
|
945
|
|
|
|
(1,528
|
)
|
Loans
receivable from third parties
|
|
|
(2,132
|
)
|
|
|
(1,091
|
)
|
Net
cash used in operating activities of continued
operations
|
|
|
(5,102
|
)
|
|
|
(3,861
|
)
|
Net
cash used in operating activities of discontinued
operations
|
|
|
6,712
|
|
|
|
(8,283
|
)
|
Net
cash provided by (used in) operating
activities
|
|
|
1,610
|
|
|
|
(12,144
|
)
|
|
|
|
|
|
|
|
|
|
Cash
flows from investing activities
|
|
|
|
|
|
|
|
|
(Increase)
/ Decrease in restricted cash
|
|
|
(5
|
)
|
|
|
2
|
|
Increase
in purchase of marketable securities
|
|
|
(501
|
)
|
|
|
13
|
|
Acquisition
of property and equipment
|
|
|
(828
|
)
|
|
|
(1,713
|
)
|
Acquisition
of subsidiaries and affiliated companies
|
|
|
-
|
|
|
|
(419
|
)
|
Net
cash used in investing activities of continued
operations
|
|
|
(1,334
|
)
|
|
|
(2,117
|
)
|
Net
cash used in investing activities of discontinued
operations
|
|
|
925
|
|
|
|
-
|
|
Net
cash used in investing activities
|
|
|
(409
|
)
|
|
|
(2,117
|
)
|
|
|
|
|
|
|
|
|
|
CASH
FLOWS FROM FINANCING ACTIVITIES:
|
|
|
|
|
|
|
|
|
Loan
payable to related party
|
|
|
43
|
|
|
|
(265
|
)
|
Loans
receivable from related party
|
|
|
(521
|
)
|
|
|
(889
|
)
|
Advances
(repayments) under bank line of credit
|
|
|
(674
|
)
|
|
|
22
|
|
Advances
(repayments) of bank loans
|
|
|
608
|
|
|
|
1,152
|
|
Increase
(repayments) of amount borrowed under capital lease
obligations
|
|
|
(92
|
)
|
|
|
77
|
|
Sale
(Repurchase) of treasury shares
|
|
|
127
|
|
|
|
(124
|
)
|
Proceeds
from exercise of stock options and warrants
|
|
|
96
|
|
|
|
174
|
|
Repayment
of convertible debenture
|
|
|
(3,672
|
)
|
|
|
-
|
|
Net
proceeds from issuance of convertible debenture
|
|
|
5,853
|
|
|
|
7,500
|
|
Net
cash provided by financing activities of continued
operations
|
|
|
1,768
|
|
|
|
7,647
|
|
Net
cash provided by financing activities of discontinued
operations
|
|
|
-
|
|
|
|
-
|
|
Net
cash provided by financing activities
|
|
|
1,768
|
|
|
|
7,647
|
|
Effect
of exchange rate change on cash and cash
equivalents
|
|
|
20
|
|
|
|
282
|
|
|
|
|
|
|
|
|
|
|
NET
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
|
|
|
2,989
|
|
|
|
(6,332
|
)
|
CASH
AND CASH EQUIVALENTS, BEGINNING OF THE PERIOD
|
|
|
1,900
|
|
|
|
9,579
|
|
CASH
AND CASH EQUIVALENTS, END OF THE PERIOD
|
|
$
|
4,889
|
|
|
$
|
3,247
|
|
|
|
|
|
|
|
|
|
|
CASH
PAID FOR:
|
|
|
|
|
|
|
|
|
Interest
|
|
$
|
385
|
|
|
$
|
744
|
|
Income
taxes
|
|
$
|
-
|
|
|
$
|
502
|
|
|
|
|
|
|
|
|
|
|
NON-CASH
INVESTING AND FINANCING ACTIVITIES:
|
|
|
|
|
|
|
|
|
Fixed
assets acquired under banking loan
|
|
$
|
-
|
|
|
$
|
1,082
|
|
Options
exercised for shares receivable
|
|
$
|
484
|
|
|
$
|
434
|
|
Investments
in subsidiaries acquired through the issuance of common
stock
|
|
$
|
-
|
|
|
$
|
3,578
|
|
Redemption
of convertible debenture
|
|
$
|
1,091
|
|
|
$
|
-
|
|
The
accompanying notes are an integral part of these unaudited consolidated
financial statements.
PACIFICNET
INC. AND SUBSIDIARIES
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts
expressed in United States dollars unless otherwise stated)
1.
BASIS OF PRESENTATION
Description
of Operations - PacificNet Inc. (referred to herein as
"PacificNet" or the "Company") is a leading provider of gaming technology,
e-commerce, and Customer Relationship Management (CRM) in China. Our gaming
products are specially designed for the Chinese and Asian gamers, and we
focus
on integrating localized Chinese and Asian themes and content, advanced
graphics, digital sound effects and popular domestic music, with secondary
bonus
games and jackpots. Our gaming products include: Multi-player Electronic
Table
Games - Baccarat, Sicbo, Fish-Prawn-Crab, and Roulette machines, server based
games (SBG) with multiple client betting stations, slot and bingo machines,
video lottery terminals (VLTs), amusement with prices (AWP) machines, gaming
cabinet and client/server system designs, online i-gaming software design,
and
multimedia entertainment kiosks. PacificNet's gaming clients include the
leading
hotels, casinos, and gaming operators in Macau, Asia, and Europe, and our
ecommerce and CRM clients include the leading telecom companies, banks,
insurance, travel, marketing and business services companies and telecom
consumers in Greater China such as China Telecom, China Mobile, Unicom, PCCW,
Hutchison Telecom, Bell24, Motorola, Nokia, SONY, TCL, Huawei, American Express,
Citibank, HSBC, Bank of China, Bank of East Asia, DBS, TNT, China and Hong
Kong
government. PacificNet employs about 1,200 staff in its various subsidiaries
throughout China with offices in Hong Kong, Beijing, Shanghai, Shenzhen,
Guangzhou, Macau and Zhuhai China, in the USA, and in the
Philippines.
Consolidated
Interim Financial Statements - The consolidated financial
statements have been prepared in accordance with U.S. generally accepted
accounting principles (“GAAP”) for interim financial reporting consistent in all
material respects with those applied in the Company’s Annual Report on Form
10-K, as amended, for the year ended December 31, 2006, but do not include
all disclosures required by GAAP. You should read these interim consolidated
financial statements in conjunction with the audited financial statements,
including the notes thereto, and the other information set forth in the
Company’s Annual Report on Form 10-K, as amended, for the year ended
December 31, 2006. The unaudited consolidated financial statements include
the accounts of PacificNet Inc. and its subsidiaries and variable interest
entities (“VIEs”) for which the Company is the primary beneficiary. All
significant intercompany balances and transactions have been eliminated in
consolidation. In the opinion of management, all material adjustments considered
necessary for a fair presentation of the Company’s interim results have been
reflected. PacificNet’s 2006 Annual Report on Form 10-K includes certain
definitions and a summary of significant accounting policies and should be
read
in conjunction with this report. The results for interim periods are not
necessarily indicative of annual results.
Use
of Estimates - The preparation of the consolidated financial
statements in conformity with GAAP requires management to make estimates
and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and reported amounts of revenues and expenses during the reporting
period. Actual results could differ from those estimates, and such differences
may be material to the financial statements. Certain prior year amounts have
been reclassified to conform to the current year presentation.
Reclassification
- Certain items in the accompanied consolidated financial
statements have been re-classed for comparative purposes.
Going
Concern
As
shown
in the accompanying consolidated financial statements, the Company incurred
accumulated losses of $52 million and $51.1 million as of September 30, 2007
and
December 31, 2006, respectively. These matters raise substantial doubt about
the
Company’s ability to continue as a going concern.
In
view
of the matters described in the preceding paragraph, recoverability of a
major
portion of the recorded asset amounts shown in the accompanying balance sheet
is
dependent upon continued operations of the Company, which in turn is dependent
upon the Company’s ability to raise additional capital, obtain financing and to
succeed in its future operations. The financial statements do not include
any
adjustments relating to the recoverability and classification of recorded
asset
amounts or amounts and classification of liabilities that might be necessary
should the Company be unable to continue as a going concern.
The
Company has taken certain restructuring steps to provide the necessary capital
to continue its operations. These steps included, but were not limited to:
1)
accelerate disposal and spin-off of unprofitable or unfavorable
return-on-investment non-gaming operations; 2) focus on execution of the
new
high potential gaming business initiatives; 3) acquisition of profitable
and/or
strategic operations through issuance of equity instruments; 4) formation
of
strategic relationship with key gaming operators in Asia; and 5) issuance
and/or
restructure of new long-term convertible debentures.
On
April
30, 2007, the Company entered into a sale and purchase agreement to dispose
of
its interest in Guangzhou3G for a consideration of US$6 million. The deal
was
subsequently reopened for renegotiation in November 2007 (See note
12).
On
May 15
& 20, 2007, the Company entered into various definitive agreements to reduce
its equity interests in certain unprofitable subsidiaries to 15%, namely:
Linkhead, Clickcom, PacTelso, PacSo and PacPower (See note 12).
2.
RECENT ACCOUNTING PRONOUNCEMENTS
In
March 2007, the Emerging Issues Task Force (“EITF”) reached a consensus on
issue number 06-10, “Accounting for Deferred Compensation and Postretirement
Benefit Aspects of Collateral Assignment Split-Dollar Life Insurance
Arrangements,” (“EITF 06-10”). EITF 06-10 provides guidance to help companies
determine whether a liability for the postretirement benefit associated with
a
collateral assignment split-dollar life insurance arrangement should be recorded
in accordance with either SFAS No. 106, “Employers’ Accounting for
Postretirement Benefits Other Than Pensions” (if, in substance, a postretirement
benefit plan exists), or Accounting Principles Board Opinion No. 12 (if the
arrangement is, in substance, an individual deferred compensation contract).
EITF 06-10 also provides guidance on how a company should recognize and measure
the asset in a collateral assignment split-dollar life insurance contract.
EITF
06-10 is effective for fiscal years beginning after December 15, 2007,
though early adoption is permitted. The management is currently evaluating
the
effect of this pronouncement on financial statements.
In
February 2007, FASB issued FASB Statement No. 159, The Fair Value Option
for
Financial Assets and Financial Liabilities. FAS 159 is effective for fiscal
years beginning after November 15, 2007. Early adoption is permitted subject
to
specific requirements outlined in the new Statement. Therefore, calendar-year
companies may be able to adopt FAS 159 for their third quarter 2007 financial
statements.
The
new
Statement allows entities to choose, at specified election dates, to measure
eligible financial assets and liabilities at fair value that are not otherwise
required to be measured at fair value. If a company elects the fair value
option
for an eligible item, changes in that item's fair value in subsequent reporting
periods must be recognized in current earnings. FAS 159 also establishes
presentation and disclosure requirements designed to draw comparison between
entities that elect different measurement attributes for similar assets and
liabilities. The management is currently evaluating the effect of this
pronouncement on financial statements.
In
September 2006, FASB issued SFAS 158 ‘Employers’ Accounting for Defined Benefit
Pension and Other Postretirement Plans—an amendment of FASB Statements No. 87,
88, 106, and 132(R)’ This Statement improves financial reporting by requiring an
employer to recognize the over funded or underfunded status of a defined
benefit
postretirement plan (other than a multiemployer plan) as an asset or liability
in its statement of financial position and to recognize changes in that funded
status in the year in which the changes occur through comprehensive income
of a
business entity or changes in unrestricted net assets of a not-for-profit
organization. The requirement to measure plan assets and benefit obligations
as
of the date of the employer’s fiscal year-end statement of financial position is
effective for fiscal years ending after December 15, 2008. The Company currently
does not have any defined benefit plan and so FAS 158 will not affect the
financial statements.
In
September 2006, FASB issued SFAS 157 ‘Fair Value Measurements’. This Statement
defines fair value, establishes a framework for measuring fair value in
generally accepted accounting principles (GAAP), and expands disclosures
about
fair value measurements. This Statement applies under other accounting
pronouncements that require or permit fair value measurements, the Board
having
previously concluded in those accounting pronouncements that fair value is
the
relevant measurement attribute. Accordingly, this Statement does not require
any
new fair value measurements. However, for some entities, the application
of this
Statement will change current practice. This Statement is effective for
financial statements issued for fiscal years beginning after November 15,
2007,
and interim periods within those fiscal years. The management is currently
evaluating the effect of this pronouncement on financial
statements.
3.
EARNINGS PER SHARE
Basic
and
diluted earnings or loss per share (EPS) amounts in the financial statements
are
computed in accordance with SFAS No. 128, "Earnings Per Share." Basic EPS
is
based on the weighted average number of common shares outstanding. Diluted
EPS
is based on the weighted average number of common shares outstanding plus
dilutive common stock equivalents. Basic EPS 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 Diluted
EPS
is calculated by dividing net earnings by the weighted average number of
common
shares outstanding and other dilutive securities. Dilutive earnings per share
for the period ended September 30, 2007 exclude the potential dilutive effect
of
889,456 warrants because their impact would be anti-dilutive based on current
market prices. 472,728 convertible debentures are tested by using if-converted
method. The result shows when convertible debentures are included in the
computation, diluted EPS increases. According to SFAS No.128, those convertible
debentures are ignored in the computation of diluted EPS. All per share and
per
share information are adjusted retroactively to reflect stock splits and
changes
in par value.
The
reconciliation of the numerators and denominators of the basic and diluted
EPS
calculations was as follows:
|
|
Three
Months Ended
September
30
|
|
|
Nine
Months Ended
September
30
|
|
(IN
THOUSANDS OF UNITED STATES DOLLARS, EXCEPT
WEIGHTED
SHARES AND PER SHARE AMOUNTS)
|
|
2007
|
|
|
2006
|
|
|
2007
|
|
|
2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Numerator:
Net Income (Loss)
|
|
$
|
(220
|
)
|
|
$
|
(1,115
|
)
|
|
$
|
(639
|
)
|
|
$
|
604
|
|
Denominator:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted-average
shares used to compute basic EPS
|
|
|
11,931,094
|
|
|
|
11,619,010
|
|
|
|
11,805,686
|
|
|
|
11,171,608
|
|
Weighted-average
shares used to compute diluted EPS
|
|
|
12,027,315
|
|
|
|
11,619,010
|
|
|
|
11,858,870
|
|
|
|
11,171,608
|
|
Basic
earnings (loss) per common share:
|
|
$
|
(0.02
|
)
|
|
$
|
(0.09
|
)
|
|
$
|
(0.06
|
)
|
|
$
|
0.02
|
|
Diluted
earnings (loss) per common share:
|
|
$
|
(0.02
|
)
|
|
$
|
(0.09
|
)
|
|
$
|
(0.06
|
)
|
|
$
|
0.02
|
|
4.
OTHER CURRENT ASSETS
Other
current assets consist of the following at September 30, 2007 (in
thousands):
Other
current assets
|
|
September
30, 2007
|
|
|
December
31, 2006
|
|
|
|
Unaudited
|
|
|
Audited
Restated
|
|
Prepayment
|
|
$
|
832
|
|
|
$
|
1,048
|
|
Utilities
deposit
|
|
|
396
|
|
|
|
1,292
|
|
Receivable
from Lion Zone Holdings Ltd & HeySpace (1)
|
|
|
5,260
|
|
|
|
485
|
|
Prepaid
expenses
|
|
|
171
|
|
|
|
408
|
|
Total
|
|
$
|
6,659
|
|
|
$
|
3,233
|
|
(1)
As of September 30, 2007 receivable from Lion Zone is $132,000 and From HeySpace
is $5,128,000
5.
GOODWILL AND BUSINESS ACQUISITIONS
The
changes in the carrying amount of goodwill for the following reporting periods
are summarized below:
|
|
Group
1.
|
|
|
Group
2.
|
|
|
Group
3.
|
|
|
|
|
(US$000s)
|
|
Outsourcing
Services
|
|
|
Telecom
Value-Added
Services
|
|
|
Products
(Gaming
and
Technology)
|
|
|
Total
(Unaudited)
|
|
Balance
as of December 31, 2006
|
|
$3,964
|
|
|
$461
|
|
|
$1,176
|
|
|
$5,601
|
|
Goodwill
acquired during the first quarter
|
|
|
-
|
|
|
|
-
|
|
|
|
657
|
|
|
|
657
|
|
Balance
as of September 30, 2007
|
|
$3,964
|
|
|
$461
|
|
|
$1,833
|
|
|
$6,258
|
|
The
Company acquired additional 31% interest in Take 1 Technology Ltd on January
5,
2007 and recorded additional goodwill amounting to $657,000. Prior to
acquisition of additional interest, the Company owned 20% interest in Take
1
Technology Ltd (See note 13).
6.
ACCRUED EXPENSES & OTHER PAYABLES
Accrued
expenses and other payables comprises of the following as of September 30,
2007
and December 31, 2006.
(in
thousands of US Dollars):
|
|
2007
Unaudited
|
|
|
2006
Audited
Restated
|
|
Professional
fee
|
|
$
|
1,534
|
|
|
$
|
321
|
|
Director
fee
|
|
|
233
|
|
|
|
100
|
|
Salaries
and benefit payable
|
|
|
281
|
|
|
|
792
|
|
Marketing
expense
|
|
|
838
|
|
|
|
389
|
|
Income
tax payable
|
|
|
7
|
|
|
|
-
|
|
Others
|
|
|
57
|
|
|
|
226
|
|
Total
|
|
$
|
2,950
|
|
|
$
|
1,828
|
|
7.
STOCKHOLDERS' EQUITY
a)
COMMON
STOCK
For
the
nine months period ended September 30, 2007, the Company had the following
equity transactions: (i) 199,444 shares of common stock were issued as the
monthly principal redemption shares for 8 million convertible debentures
from
January to March, such shares are valued at $1,090,914; (ii) 41,426 treasury
shares were sold to the open market with total consideration $127,000; (iii)
202,000 shares as a results of exercise of stock options with cash consideration
of $406,000. As of September 30, 2007, the Company received $196,000 from
exercise of stock options.
b)
STOCK
OPTION PLAN
Prior
to
January 1, 2006, PacificNet accounted for awards granted under stock-based
compensation plans following the recognition and measurement principles of
APB
25, Accounting for Stock Issued to Employees, and related
interpretations. Accordingly, compensation expense was recognized for awards
granted at an exercise price less than fair market value of the underlying
common stock on the date of grant. Effective January 1, 2006, PacificNet
adopted
the fair value recognition provisions of SFAS 123(R). See Note 2 for a
description of the Company’s adoption of SFAS 123R. The fair value of stock
options is determined using the Black-Scholes option pricing model, which
is
consistent with the valuation techniques previously utilized for options
in
footnote disclosures required under SFAS 123, as amended by FASB Statement
No. 148, “Accounting for Stock-Based Compensation - Transition and
Disclosure.” The determination of the fair value of stock-based compensation
awards on the date of grant using an option-pricing model is affected by
the
Company’s stock price as well as assumptions regarding a number of complex and
subjective variables, including the expected volatility of the Company’s stock
price over the term of the awards, actual and projected employee stock option
exercise behaviors, risk-free interest rate and expected dividends. The
valuation provisions of SFAS 123(R) apply to new grants and unvested grants
that
were outstanding as of the effective date. For the nine months ended September
30, 2007, no new options were granted and no options were vested, thus the
compensation costs is zero. PacificNet elected the modified prospective method
and therefore has not restated results for prior periods due to
123R.
The
status of the Stock Option Plan as of September 30, 2007, is as
follows:
|
|
OPTIONS
OUTSTANDING
|
|
|
WEIGHTED
AVERAGE
EXERCISE
PRICE
|
|
OUTSTANDING,
DECEMBER 31, 2006
|
|
|
370,500
|
|
|
$
|
2.00
|
|
Granted
|
|
|
--
|
|
|
|
-
|
|
Cancelled
|
|
|
-
|
|
|
|
-
|
|
Exercised
|
|
|
-
|
|
|
|
-
|
|
OUTSTANDING,
MARCH 31, 2007
|
|
|
370,500
|
|
|
$
|
2.00
|
|
Granted
|
|
|
-
|
|
|
|
-
|
|
Cancelled
|
|
|
-
|
|
|
|
-
|
|
Exercised
|
|
|
-
|
|
|
|
-
|
|
OUTSTANDING,
JUNE 30, 2007
|
|
|
370,500
|
|
|
$
|
2.00
|
|
Granted
|
|
|
788,000
|
|
|
$
|
4.31
|
|
Cancelled
|
|
|
168,500
|
|
|
$
|
2.00
|
|
Expired
without exercising
|
|
|
68,500
|
|
|
$
|
2.00
|
|
Exercised
|
|
|
202,000
|
|
|
$
|
2.00
|
|
OUTSTANDING,
SEPTEMBER 30, 2007
|
|
|
788,000
|
|
|
$ |
4.31 |
|
Following
is a summary of the status of options outstanding at September 30,
2007:
Grant
Date
|
Total
Options
Outstanding
|
Aggregate
Intrinsic
Value
|
Weighted
Average Remaining
Life
(Years)
|
Total
Weighted
Average
Exercise
Price
|
Option
Exercisable
|
Weighted
Average
Exercise
Price
|
2007-8-13
|
788,000
|
$441,280
|
5.86
|
$4.31
|
-
|
$4.31
|
The
788,000 outstanding options, which were granted on August 11, 2007, will
be
vested from August 8, 2008 with a 5% per quarter vesting schedule, and the
corresponding compensation costs will be recorded within the vesting period.
The
weighted-average fair value of such options was $2.75.The assumptions used
in
calculating the fair value of options granted using the Black-Scholes option-
pricing model are as follows:
Risk-free
interest rate
|
4.51%
|
Expected
life of the options
|
5.86
years
|
Expected
volatility
|
67.44%
|
Expected
dividend yield
|
0%
|
788,000
options were granted and 202,000 were exercised during the nine month period
ended September 30, 2007. No options were vested during the nine month period
ended September 30, 2007.
c)
WARRANTS
At
September 30, 2007, the Company had outstanding and exercisable warrants
to
purchase an aggregate of 1,007,138 shares of common stock. The weighted average
remaining life is 2.59 years and the weighted average exercise price per
share
is $10.61 per share.
Following
is a summary of the warrant activity:
|
|
Warrants
outstanding
|
|
|
WEIGHTED
AVERAGE
EXERCISE
PRICE
|
|
|
Aggregate
Intrinsic
Value
|
|
OUTSTANDING,
DECEMBER 31, 2005
|
|
|
591,138
|
|
|
$
|
9.5
|
|
|
$
|
-
|
|
Granted
|
|
|
416,000
|
|
|
|
-
|
|
|
|
|
|
Forfeited
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
Exercised
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
OUTSTANDING,
DECEMBER 31, 2006
|
|
|
1,007,138
|
|
|
$
|
10.61
|
|
|
$
|
-
|
|
Granted
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
Forfeited
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
Exercised
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
OUTSTANDING,
MARCH 31, 2007
|
|
|
1,007,138
|
|
|
$
|
10.61
|
|
|
$
|
-
|
|
Granted
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
Forfeited
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
Exercised
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
OUTSTANDING,
JUNE 30, 2007
|
|
|
1,007,138
|
|
|
$
|
10.61
|
|
|
$
|
-
|
|
Granted
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
Forfeited
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
Exercised
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
OUTSTANDING,
SEPTEMBER 30, 2007
|
|
|
1,007,138
|
|
|
$
|
10.61
|
|
|
$
|
-
|
|
Following
is a summary of the status of warrants outstanding at September 30,
2007:
Grant
Date
|
Total
warrants
Outstanding
|
Weighted
Average
Remaining
Life (Years)
|
Total
Weighted
Average
Exercise
Price
|
Warrants
Exercisable
|
Weighted
Average
Exercise
Price
|
2004-1-15
|
123,456
|
1.29
|
$7.15
|
123,456
|
$7.15
|
2004-11-15
|
117,682
|
2.13
|
$3.89
|
117,682
|
$3.89
|
2004-12-9
|
350,000
|
2.19
|
$12.21
|
350,000
|
$12.21
|
2006-3-13
|
416,000
|
3.45
|
$12.20
|
416,000
|
$12.20
|
On
March
13, 2006, we issued 400,000 warrants to several institutional investors in
connection with a private placement of $8 million in convertible debentures.
On
the same day we issued another 16,000 warrants to our placement agent for
the
transaction. Those warrants have a term of 5 years and immediately vesting.
The
assumptions used in calculating the fair value of such warrants granted using
the Black-Scholes option- pricing model are as follows:
Risk-free
interest rate
|
4.78%
|
|
Expected
life of the options
|
5.00
years
|
|
Expected
volatility
|
37.08%
|
|
Expected
dividend yield
|
0%
|
|
No
warrants were granted, cancelled and exercised during the nine months period
ended September 30, 2007.
d)
TREASURY STOCK
The
following is a summary of the movement of the Company's shares held as treasury
stock for the quarterly ended September 30 of 2007:
|
Number
of shares
|
|
Escrow
shares returned to treasury on
|
800,000
|
|
Repurchase
in the open market
|
40,888
|
|
Repurchase
of shares from Take1
|
149,459
|
|
Cancellation
of former employee shares
|
45,000
|
|
Holdback
shares as contingent consideration due to performance targets not
yet met
(1)
|
529,848
|
|
Termination
with ChinaGoHi
|
825,000
|
|
Incomplete
acquisition of Allink
|
200,000
|
|
Repurchase
of shares from Yueshen
|
24,200
|
|
Shares
sold to the open market
|
(41,426)
|
|
Balance,
September 30, 2007
|
2,572,969
|
|
Shares
outstanding at September 30, 2007
|
11,984,072
|
|
Shares
issued at September 30, 2007
|
14,557,041
|
|
|
(1) Includes
shares related to Clickcom 78,000, Guangzhou (Wanrong) 138,348,
IMobile
153,500 and Games 160,000
|
From
January 24, 2007 to January 30, 2007, we sold 41,426 treasury shares to the
open
market for total consideration of $127,000.
8.
CONVERTIBLE DEBENTURES
8.1
Eight Million Convertible Debentures
On
March
13, 2006, we completed a private placement in which we sold $8,000,000 in
convertible debentures and issued warrants to purchase up to an aggregate
of
400,000 shares of common stock. The debentures are convertible at any time
into
shares of our common stock at an initial fixed conversion price of $10.00
per
share, subject to adjustments for certain dilutive events. The debentures
are
due March 13, 2009. The warrants are exercisable for a period of five years
at
an exercise price of $12.20 per share. At the closing of the private placement,
we prepaid the first year's interest on debentures equal to 5% of the aggregate
principal amount of debentures. We will pay interest in cash or shares, provided
that certain conditions are met, at the rate of 6% for the second year the
debentures are outstanding and then 7% for the third. Beginning January 1,
2007,
we are obligated to redeem up to $320,000 every month, plus accrued, but
unpaid
interest, liquidated damages and penalties. We also have the option to prepay
the debentures at any time, provided that certain conditions have been met,
after the 12 month anniversary of the effective date of the registration
statement that has been filed with the Securities and Exchange Commission
with
respect to the common stock issuable upon conversion of the debentures, some
or
all of the outstanding debentures for cash in an amount equal to 120% of
the
principal amount outstanding, plus accrued, but unpaid interest, liquidated
damages and penalties outstanding. At any time after the nine months anniversary
of the effective date of the registration statement, we may force the holders
to
convert up to 50% of the then outstanding principal amount of the debentures,
subject to certain trading conditions being met. If any event of default
occurs
under the debentures or other related documents, the holders may elect to
accelerate the payment of the outstanding principal amount of the debenture,
plus accrued, but unpaid interest, liquidated damages and penalties, which
shall
become immediately due and payable.
Under
the
terms of a registration rights agreement entered into at the time of the
private
placement, the Company was obligated to file a registration statement with
respect to the shares issuable under the debenture and the warrants by April
30,
2006, and have the registration statement declared effective by the SEC no
later
than June 28, 2006. Due to various factors, the Company did not file the
registration statement until May 15, 2006, and it was not declared effective
until December 8, 2006. Therefore, under the terms of the registration rights
agreement, the Company was obligated to pay liquidated damages to
the investors at the rate of 2% of the principal amount of the debenture
each month beginning on June 28, 2006 until the effectiveness of the
registration statement, which was equal to $1,120,000, in the
aggregate.
In
February 2007, upon reaching an agreement on the amount and payment of accrued
liquidated damages, the Company signed a Settlement and Release Agreement
with
each of the investors. Under the terms of the Settlement and Release Agreements,
the Company paid an aggregate $140,000 in cash as satisfaction in full of
liquidated damages owed to Basso Fund Ltd., Basso Multi-Strategy Holding
Fund
Ltd., and Basso Private Opportunities Holding Fund Ltd. Partial liquidated
damages owed to Whalehaven Capital Fund Ltd. were paid in the amount of $35,000
in cash, with the remaining liquidated damages in the amount of $105,000
paid in
the form of a new convertible debenture due February 2009, on substantially
the
same terms as the original debentures, except that interest only is paid
on the
new debentures until October 2008 and beginning in November 2008 until February
2009, when the new debentures are due, the monthly redemption amount under
the
new debentures shall be equal to $315,000. The remaining investors also agreed
to accept the aggregate $840,000 in liquidated damages owed to them in the
form
of the new convertible debentures for the amount of their respective portion
of
the liquidated damages. The Company also agreed to amend the original debentures
to shorten the term for payment of the original principal amount to a 22
month
term. As a result the monthly redemption amount for the original debenture
increased from $320,000 to $ 363,638. All other terms and conditions of the
original debenture remain in full force and effect. The outstanding original
principal amount as at September 30, 2007 is $6,217,718.
C.E.
Unterberg, Towbin L.L.C. acted as placement agent and received a negotiated
cash
fee in the amount of $449,500 and a warrant to purchase up to 16,000 shares
at
an exercise price of $12.20 per share, which expire five years from the date
of
issuance. The fair value of these warrants totaled $28,141. Such amount was
charged to other assets, net, and credited to additional paid-in capital
and
will be amortized over the life of the debentures. Maxim Group also acted
as
Placement Agent and received a cash fee in the amount of $50,000.
In
connection with the issuance of the debentures, the Company incurred $1,106,135
of issuance costs, which primarily consisted of investment banker fees, legal
and other professional fees. These costs have been recorded as additional
expense during year 2006.
The
gross
proceeds of $8,000,000 are recorded as a current debenture liability. In
addition, fair values attributed to the Investors’ warrants in accordance with
EITF issue No. 00-19 “Accounting for Derivative Financial Instruments Indexed to
and Potentially Settled in a Company’s Own Stock” are recorded as liabilities.
The initial value related to the Investors’ warrants is $690,642. An aggregate
gain of $61,954 and $142,718 representing the change in fair value of warrants
recognized during the three and nine months ended September 30, 2007,
respectively.
In
accordance with recent FASB guidance, due to certain factors, including a
liquidated damages provision in the registration rights agreement, the Company
values and accounts for the embedded conversion feature and the warrants
related
to the debentures as derivatives. Accordingly, these derivative liabilities
are
measured at fair value with changes in fair value reported in earnings as
long
as they remain classified as liabilities. The Company reassesses the
classification at each balance sheet date. If the classification required
under
EITF No. 00-19 changes as a result of events during the period, the contract
should be reclassified as of the date of the event that caused the
reclassification.
EVENT
OF
DEFAULT
On
March
16, 2007 our predecessor auditor withdrew their opinion on our previously
filed
financial statements for the years ended December 31, 2005, December 31,
2004
and December 31, 2003. As a result, on March 27, 2007, we notified the holders
of the outstanding convertible debenture that we suspended use of the prospectus
contained in our Registration Statement on Form S-1 (File No. 333-134127)
that
was declared effective on December 8, 2006, due to the lack of fiscal year
end
2005 and 2004 audited financial statements and that they must cease selling
under the prospectus. The suspension of the use of the prospectus after April
17, 2007, triggered an event of default under the registration rights agreement
and the convertible debentures, and if any of the holders so elect, they
could
accelerate and demand payment under the debentures, in accordance with the
registration rights agreement based on the following
provisions.
|
a)
|
"If,
during the Effectiveness Period, either the effectiveness of the
Registration Statement lapses for any reason or the Holder shall
not be
permitted to resell Registrable Securities under the Registration
Statement for a period of more than 20 consecutive Trading Days
or 60
non-consecutive Trading Days during any 12 month period, the Company
has
to pay ‘Mandatory Default Amount’ as the sum of (i) the greater of (A)
130% of the outstanding principal amount of this Debenture, plus
all
accrued and unpaid interest hereon, or (B) the outstanding principal
amount of this Debenture, plus all accrued and unpaid interest
hereon,
divided by the Conversion Price on the date the Mandatory Default
Amount
is either (a) demanded (if demand or notice is required to create
an Event
of Default) or otherwise due or (b) paid in full, whichever has
a lower
Conversion Price, multiplied by the VWAP on the date the Mandatory
Default
Amount is either (x) demanded or otherwise due or (y) paid in full,
whichever has a higher VWAP, and (ii) all other amounts, costs,
expenses
and liquidated damages due in respect of this
Debenture."
|
|
b)
|
"If
any Event of Default occurs, the outstanding principal amount of
this
Debenture plus accrued but unpaid interest, liquidated damages
and other
amounts owing in respect thereof through the date of acceleration,
shall
become, at the Holder’s selection, immediately due and payable in cash at
the Mandatory Default Amount. Commencing 5 days after the occurrence
of
any Event of Default that results in the eventual acceleration
of this
Debenture, the interest rate on this Debenture shall accrue at
an interest
rate equal to the lesser of 18% per annum or the maximum rate permitted
under applicable law."
|
Due
to
the provisions mentioned above and as per the terms of the Debenture, the
Company has reclassified the principal amount of the Debenture of $8,000,000
and
the principal amount of the new Debenture of $945,000 and the interest accrued
thereon to current liabilities.
The
Company accrued 2% as liquidated damages and 30% as mandatory default amount
from the date of ineffectiveness of registration statement as
follows:
($,000)
|
|
|
September
30, 2007
(unaudited)
|
|
Liquidated
damages
|
|
|
2% |
|
|
$ |
450
|
|
Mandatory
default
|
|
|
30% |
|
|
|
2,247
|
|
Total
|
|
|
|
|
|
$ |
2,697
|
|
Such
amounts have been recorded as liquidated damages liability as of September
30,
2007.
Following
is the summary of convertible debenture:
($,000)
|
|
$8
million convertible debenture
|
|
|
$945,000
convertible debenture
|
|
|
Total
(unaudited)
|
|
Balance
December 31, 2006
|
|
$
|
8,000
|
|
|
$
|
945
|
|
|
$
|
8,945
|
|
Principal
payment:
|
|
|
|
|
|
|
|
|
|
|
|
|
Redemption
through shares
|
|
|
1,091
|
|
|
|
-
|
|
|
|
1,091
|
|
Cash
payment
|
|
|
1,636
|
|
|
|
-
|
|
|
|
1,636
|
|
Balance
September 30, 2007
|
|
$
|
5,273
|
|
|
$
|
945
|
|
|
$
|
6,218
|
|
The
Company issued 199,444 shares to redeem $1,090,909 of convertible note as
of
September 30, 2007.
8.2
Five Million Convertible Note
On
February 7, 2007, PacificNet Games Limited (PacGames), a 51% owned subsidiary
of
the Company, entered into a definitive $5 million convertible secured note
financing agreement with Pope Asset Management, LLC (Pope), an institutional
investor. Proceeds of the financing are to provide PacGames with additional
working capital to expand its gaming technology operations, to make further
synergistic acquisitions in China and for general corporate
purposes.
The
$5
million convertible secured note issued to Pope matures on February 6, 2010.
Subject to reaching certain net income milestones during fiscal year 2007,
the note is convertible into an equity interest of PacGames ranging between
26%
and 32%. The interest rate of the convertible note has initially been set
at 8%,
and shall increase to 15% if the note is not converted prior to
maturity.
In
connection with the issuance of the note, PacGames incurred issuance costs
of
$204,121, which primarily consisted of investment banker fees, legal and
other
professional fees. These costs have been capitalized and will be amortized
over
three years, the life of the note. Interest accrual as of September 30, 2007
amounted to $212,603.
Following
is the summary of convertible debenture:
($,000)/(unaudited)
|
|
|
|
Convertible
debenture
|
|
$
|
5,000
|
|
Accrued
interest
|
|
|
218
|
|
Unamortized
financing cost
|
|
|
(310
|
)
|
Balance
September 30, 2007
|
|
$
|
4,908
|
|
9.
SEGMENT INFORMATION
The
Company has classified its operating segments in accordance with SFAS No.
131
“DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION.”
Operating segments comprise reporting entities that exhibit similar long-term
financial performance based on the nature of the products and services with
similar economic characteristics such as margins, business practices and
target
market. The four operating segments are as follows:
(1)
Outsourcing Services - involves human voice services such as Business Process
Outsourcing, CRM, call center, IT Outsourcing and software development services.
These types of services are conducted through our subsidiaries EPRO,
Smartime/Soluteck and PacificNet Solution Ltd.
(2)
Telecom Value-Added Services (VAS) - primarily involves machine voice services
such as Interactive Voice Response, SMS and related VAS, which are conducted
through our subsidiaries such as AD, Wanrong, ChinaGoHi (discontinued), Linkhead
(discontinued), Clickcom (discontinued) and Guangzhou 3G/Sunroom (discontinued).
For example, Linkhead is a master reseller of NMS hardware and software
platforms in China, and its voice cards are used as an integral part of voice
hardware using CPCI industry control machines, and also by Media Servers
to
support access from PSTN and VoIP, Softswitch and 3G networks.
(3)
Product (Telecom & Gaming) Services Group - involves communication and
gaming products, GSM/CDMA/3G Products, Multimedia Communication Kiosks. This
Group includes the following subsidiaries: PacificNet Communications Limited,
iMobile, Allink, Poly, Take1 and PacificNet Games. PacificNet Games Limited
(PacGames) is a leading developer of Asian electronic gaming machines,
multi-player electronic gaming technology solutions and gaming related
maintenance, IT, and distribution services for the leading hotel and casino
operators based in the Macau and other Asian gaming markets.
(4)
Other
Business - other administrative, financial and investment services and non-core
businesses such as PacificNet Power Limited (PacPower), Pacific Financial
Services Limited, etc.
The
Company's reportable segments are operating units, which represent the
operations of the Company's significant business operations. Summarized
financial information concerning the Company's reportable segments is shown
in
the following table. The "Other" column includes the Company's other
insignificant services and corporate related items, and, as it relates to
segment earnings / (loss), income and expense not allocated to reportable
segments.
|
Group
1.
|
Group
2.
|
Group
3.
|
Group
4.
|
Total
|
For
The Three Months Ended
September
30, 2007
|
Outsourcing
Services
|
Telecom
Value-Added
Services
|
Products
(Telecom
& Gaming)
|
Other
Business
|
(unaudited)
|
|
($)
|
($)
|
($)
|
($)
|
($)
|
Net
Revenues
|
3,971
|
470
|
5,305
|
56
|
9,802
|
(%
of Total Revenues)
|
41%
|
5%
|
54%
|
1%
|
100%
|
Income
/ (Loss) from Operations
|
189
|
444
|
201
|
(697)
|
137
|
(%
of Total Income)
|
138%
|
324%
|
147%
|
(509)%
|
100%
|
Total
Assets
|
8,090
|
9,029
|
19,178
|
6,667
|
42,963
|
(%
of Total Assets)
|
19%
|
21%
|
45%
|
16%
|
100%
|
Goodwill
|
3,964
|
461
|
1,833
|
-
|
6,258
|
Geographic
Area
|
HK,
PRC
|
PRC
|
Macau,
HK, PRC
|
HK,
PRC, USA
|
|
|
Group
1.
|
Group
2.
|
Group
3.
|
Group
4.
|
Total
|
For
The Three Months Ended
September
30, 2006
|
Outsourcing
Services
|
Telecom
Value-
Added
Services
|
Products
(Telecom
& Gaming)
|
Other
Business
|
(unaudited)
|
($)
|
($)
|
($)
|
($)
|
($)
|
Net
Revenues
|
3,733
|
40
|
6,411
|
341
|
10,525
|
(%
of Total Revenues)
|
35%
|
|
61%
|
3%
|
100%
|
Income
/ (Loss) from Operations
|
188
|
1
|
(191)
|
(616)
|
(618)
|
(%
of Total Income)
|
(30)%
|
1%
|
31%
|
100%
|
100%
|
Total
Assets
|
9,159
|
19,011
|
12,813
|
22,954
|
63,937
|
(%
of Total Assets)
|
14%
|
30%
|
20%
|
36%
|
100%
|
Goodwill
|
3,936
|
12,920
|
1,529
|
|
18,385
|
Geographic
Area
|
HK,
PRC
|
PRC
|
Macau,
HK, PRC
|
HK,
PRC, USA
|
|
|
Group
1.
|
Group
2.
|
Group
3.
|
Group
4.
|
Total
|
For
The Nine Months Ended
September
30, 2007
|
Outsourcing
Services
|
Telecom
Value-
Added
Services
|
Products
(Telecom
& Gaming)
|
Other
Business
|
(unaudited)
|
($)
|
($)
|
($)
|
($)
|
($)
|
Net
Revenues
|
11,700
|
1,429
|
14,729
|
232
|
28,090
|
(%
of Total Revenues)
|
42%
|
5%
|
52%
|
1%
|
100%
|
Income
/ (Loss) from Operations
|
830
|
793
|
1,824
|
(2,163)
|
1,284
|
(%
of Total Income)
|
65%
|
62%
|
142%
|
(168)%
|
100%
|
Total
Assets
|
8,090
|
9,029
|
19,178
|
6,667
|
42,963
|
(%
of Total Assets)
|
19%
|
21%
|
45%
|
16%
|
100%
|
Goodwill
|
3,964
|
461
|
1,833
|
-
|
6,258
|
Geographic
Area
|
HK,
PRC
|
PRC
|
Macau,
HK, PRC
|
HK,
PRC, USA
|
|
|
Group
1.
|
Group
2.
|
Group
3.
|
Group
4.
|
Total
|
For
The Nine Months Ended
September
30, 2006
|
Outsourcing
Services
|
Telecom
Value-
Added
Services
|
Products
(Telecom
& Gaming)
|
Other
Business
|
(unaudited)
|
($)
|
($)
|
($)
|
($)
|
($)
|
Net
Revenues
|
10,312
|
106
|
18,262
|
3,652
|
32,332
|
(%
of Total Revenues)
|
32%
|
|
56%
|
11%
|
100%
|
Income
/ (Loss) from Operations
|
734
|
4
|
98
|
(584)
|
252
|
(%
of Total Income)
|
291%
|
2%
|
39%
|
(232%)
|
100%
|
Total
Assets
|
9,159
|
19,011
|
12,813
|
22,954
|
63,937
|
(%
of Total Assets)
|
14%
|
30%
|
20%
|
36%
|
100%
|
Goodwill
|
3,936
|
12,920
|
1,529
|
|
18,385
|
Geographic
Area
|
HK,
PRC
|
PRC
|
Macau,
HK, PRC
|
HK,
PRC, USA
|
|
Product
and service revenues classified by major geographic areas are as follows
(in
US$):
For
the three months ended September 30, 2007
|
Hong
Kong, Macau
|
PRC
|
United
States
|
Total
(unaudited)
|
Product
revenues
|
2,731
|
2,574
|
--
|
5,305
|
Service
revenues
|
3,609
|
888
|
--
|
4,497
|
For
the three months ended September 30, 2006
|
Hong
Kong, Macau
|
PRC
|
United
States
|
Total
(unaudited)
|
Product
revenues
|
3,435
|
503
|
--
|
3,938
|
Service
revenues
|
5,261
|
1,326
|
--
|
6,587
|
For
the nine months ended September 30, 2007
|
Hong
Kong, Macau
|
PRC
|
United
States
|
Total
(unaudited)
|
Product
revenues
|
9,221
|
5,508
|
--
|
14,729
|
Service
revenues
|
10,471
|
2,890
|
--
|
13,361
|
For
the nine months ended September 30, 2006
|
Hong
Kong, Macau
|
PRC
|
United
States
|
Total
(unaudited)
|
Product
revenues
|
17,355
|
3,557
|
--
|
20,912
|
Service
revenues
|
9,970
|
1,450
|
--
|
11,420
|
PARTY
TRANSACTIONS
LOAN
DUE FROM RELATED PARTIES
At
September 30, 2007, there was a total loan receivable of approximately
$2,227,000 due from related parties. Included in which were $845,000 due
from
PACT Power, $150,000 due from PACT Solutions, $604,000 due from PACT Linkhead
and $628,000 due from shareholders and directors of certain of the Company’s
subsidiaries in connection with the acquisition of those subsidiaries. The
amounts due from shareholders and directors of subsidiaries are comprised
of
$449,000 due from a shareholder of Yueshen, $64,000 due from a director of
Smartime and $115,000 from a director of PACT Communications. Terms of these
related parties loan receivables and payables are summarized below:
LOAN
TO POWER
PacPower
is an affiliated company, 15% owned by PacificNet, as of September 30, 2007.
A
convertible loan of $845,000 is outstanding from PacPower. The maturity date
of
loan was September 9, 2007. The loan is currently due on demand, non-interest
bearing and unsecured.
LOAN
TO SOLUTION
PacSo
is
an affiliated company, 15% owned by PacificNet, as of September 30, 2007.
A
convertible loan of $150,000 is outstanding from PacSo. The maturity date
of
loan was January 6,2007.
The
loan is currently due on demand, non-interest bearing and
unsecured.
LOAN
TO LINKHEAD
Linkhead
is an affiliated company, 15% owned by PacificNet, as of September 30, 2007.
A
convertible loan of $604,000 is outstanding from Linkhead. The maturity date
of
loan is January 1, 2008.
LOAN
TO YUESHEN’S SHAREHOLDER
As
of
September 30, 2007, there was a loan outstanding of $449,000 receivable from
the
shareholder of Yueshen. This loan is secured by 106,240 PacificNet shares.
The
maturity date of loan was February 16,2006.
The
loan is currently due on demand and non-interest bearing.
LOAN
TO SOLUTECK’S DIRECTOR
As
of
September 30, 2007, there was a loan outstanding of $64,000 receivable from
a
director of Soluteck, due on January 17 for three consecutive years ending
2008.
The interest rate for the loan is 8% per annum plus 5% penalty interest in
case
it has not been timely paid. The loan is collateralized with 100,000
PacificNet’s shares owned by the borrowing director and Ms Iris Lo, and the
remaining assets of Smartime Holding Ltd.
LOAN
TO COMMUNICATIONS' DIRECTOR
As
of
September 30, 2007, there was a loan outstanding of $115,000 receivable from
a
director of Communications, due on August 31, 2007. The interest rate for
the
loan is 10% per annum plus 1% penalty interest per month in case of delinquency.
The loan is secured by 30,000 PacificNet shares. The loan is currently in
default.
LOAN
DUE TO RELATED PARTIES
As
of
September 30, 2007, there was an outstanding loan payable of $681,000 due
to related parties. Included in which was a loan payable of $187,000 to a
shareholder of EPRO. The loan was advanced to Epro by a shareholder of EPRO
on
behalf of the Company for working capital purposes. The loan is due on August
4,
2010. Interest is charged at Hong Kong prime lending rate.
As
of
September 30, 2007, a loan of $201,000 was payable to a shareholder of Yueshen.
The loan was advanced to Yueshen by a shareholder of Yueshen on behalf of
the
Company for working capital purposes.
MOABC
is
an affiliated company, 15% owned by PacificNet. As of September 30, 2007,
there
was an outstanding balance of $293,000 due to MOABC. The loan is unsecured,
non-interest bearing and due on demand.
11.
COMMITMENTS AND CONTINGENCIES
OPERATING
LEASES - The Company leases warehouse and office space under operating leases
with fixed monthly rentals. None of the leases included contingent rentals.
Lease expense charged to operations for 2007 Q3 amounted to $562,000 (2006
Q3:
$332,000). Future minimum lease payments under non-cancelable operating leases
are $603,000 for the period from October 2007 to September 2008, and $155,000
for the period from October 2008 to September 2011, respectively.
RESTRICTED
CASH - Term deposit of $239,000 has been pledged to certain financial
institutions for bank line overdraft protection of Epro.
BANK
LINE
OF CREDIT - As of September 30, 2007, the Company’s outstanding bank line of
credit were as follows:
(i)
|
Epro
has an overdraft banking facility of up to $50,000 with certain
banking
institutions, which is secured by a pledge of its fixed deposits
of
$239,000. Interest is charged at Hong Kong Prime Rate and payable
at the
end of each calendar month or the date of settlement, whichever
is
earlier.
|
(ii)
|
Smartime
has an overdraft banking facility of up to $131,000 with a Hong
Kong
banking institution. This overdraft facility is secured by a personal
deposit account of a director of
Smartime.
|
BANK
LOANS- Bank loans represent the following at September 30,
2007:
|
|
September
30,
2007
Unaudited
|
|
|
December
31,
2006
Audited
Restated
|
|
Secured
[1]
|
|
$
|
757
|
|
|
$
|
1,668
|
|
Unsecured
|
|
|
2,062
|
|
|
|
543
|
|
Less:
current portion
|
|
|
768
|
|
|
|
576
|
|
Non
current portion
|
|
$
|
2,051
|
|
|
$
|
1,635
|
|
[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; third legal charge over
a
property owned by a subsidiary of the Company; and pledged bank deposits
of
$239,000 (2006: $234,000) of a subsidiary of the Company.
Aggregate
future maturities of borrowing for the next five years are as
follows:
(US$000s)
|
|
October
2007 to September 2008
|
|
|
October
2008 to September 2009
|
|
|
October
2009 to September 2010
|
|
|
October
2010 to September 2011
|
|
|
October
2011 to September 2012
|
|
|
Thereafter
|
|
|
TOTAL
(unaudited)
|
|
Beijing
PACT office mortgage (1)
|
|
$
|
54
|
|
|
$
|
57
|
|
|
$
|
60
|
|
|
$
|
64
|
|
|
$
|
67
|
|
|
$
|
746
|
|
|
$
|
1,048
|
|
Shenzhen
PACT office mortgage (2)
|
|
|
23
|
|
|
|
25
|
|
|
|
26
|
|
|
|
28
|
|
|
|
29
|
|
|
|
635
|
|
|
|
766
|
|
Sub-total
|
|
|
77
|
|
|
|
82
|
|
|
|
86
|
|
|
|
92
|
|
|
|
96
|
|
|
|
1,381
|
|
|
|
1,814
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Bank
loan of Epro (3)
|
|
|
443
|
|
|
|
298
|
|
|
|
16
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
757
|
|
AR
factoring loans (3)
|
|
|
248
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
248
|
|
Sub-total
|
|
|
691
|
|
|
|
298
|
|
|
|
16
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
1,005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
TOTAL
|
|
$ |
768
|
|
|
$ |
380
|
|
|
$ |
102
|
|
|
$ |
92
|
|
|
$ |
96
|
|
|
$ |
1,381
|
|
|
$ |
2,819
|
|
(As
at
December 31, 2006, the aggregate future maturities of borrowing for the next
five years were as follows: 2007: $576,000, 2008: $477,000, 2009: $268,000,
2010: $59,000, 2011: $62,000, thereafter: $769,000)
|
(1)
|
Fixed
mortgages expiring in 2012 at interest rate of 5.5% per
annum.
|
|
|
(2)
|
Fixed
mortgage expiring in 2012 at interest rate of 6.2% per
annum.
|
|
|
(3)
|
Interest
rates charged range from Hong Kong Prime Lending Rate to Prime
+
2%.
|
CAPITAL
LEASE OBLIGATIONS - The Company leases various equipments under capital leases
expiring in 2009. Aggregate minimum future lease payments under capital leases
for each of the next two years are as follows: 2008: $90,000, 2009: $62,000,
and
thereafter: none.
|
|
Aggregate
future
lease
payments
(unaudited)
|
|
2008
|
|
$
|
90,000
|
|
2009
|
|
$
|
62,000
|
|
Total
|
|
$
|
152,000
|
|
Current
portion
|
|
$
|
90,000
|
|
Non-current
portion
|
|
$
|
62,000
|
|
12.
NET ASSETS HELD FOR DISPOSITION
Sale
of Interest in Linkhead Technology Bejing Limited.
("Linkhead")
On
May
20, 2007, the Company entered into a definitive agreement to sell its 36%
equity
interest in Linkhead, a PRC limited liability corporation engaged in the
business of resaling of NMS hardware and software platforms in China, to
Mr. Mu
Yingliang, a resident of People’s Republic of China. Consideration for the 36%
interest of Linkhead was RMB10,000 (or US$1,295), to be paid within 90 days
after signing of the agreement. The Company’s interest in Linkhead decreased
from 51% to 15% after the transaction. Absent any explicit closing
conditions contained in the said agreement, the disposal was completed upon
title transfer during the third quarter of 2007.
Sale
of Interest in PacificNet Telecom Solution Inc.
("PacTelso")
On
May
20, 2007, the Company entered into a definitive agreement to sell its 36%
equity
interest in PacTelso, an intermediate holding company registered under the
laws
of British Virgin Islands, to Mr. Mu Yingliang, a resident of People’s Republic
of China. Consideration for the 36% interest of PacTelso was RMB10,000 (or
US$1,295), to be paid within 90 days after signing of the agreement The
Company’s interest in PacTelso decreased from 51% to 15% after the transaction.
Absent any explicit closing conditions contained in the said agreement, the
disposal was completed upon title transfer during the third quarter of
2007.
Sale
of Interest in PacificNet Solutions Limited. ("PacSo")
On
May
18, 2007, the Company entered into a definitive agreement to sell its 45%
equity
interest in PacSo, a company registered under the laws of Hong Kong SAR,
China
and engaged in systems integration, software application, and e-business
solutions services, to Mr. Alex Au, a resident of Hong Kong SAR, China.
Consideration for the 45% interest of PacSo was HK$4,500 (or US$583), to
be paid
within 90 days after signing of the agreement. The Company’s interest in PacSo
decreased from 60% to 15% after the transaction. Absent any explicit closing
conditions contained in the said agreement, the disposal was completed upon
title transfer during the third quarter of 2007.
Sale
of Interest in PacificNet Power Limited ("PacPower")
On
May
18, 2007, the Company entered into a definitive agreement to sell its 36%
equity
interest in PacPower, a company registered under the laws of Hong Kong SAR,
China and engaged in air-conditioning contracting and consulting businesses,
to
Mr. Alex Au, a resident of Hong Kong SAR, China. Consideration for the 36%
interest of PacPower was HK$3,600 (or US$466), to be paid within 90 days
after
signing of the agreement. The Company’s interest in PacPower decreased from 51%
to 15% after the transaction. Absent any explicit closing conditions
contained in the said agreement, the disposal was completed upon title transfer
during the third quarter of 2007.
Sale
of Interest in MOABC.com ("MOABC")
On
May
20, 2007, the Company entered into a definitive agreement to sell its 5%
equity
interest in MOABC, a PRC limited liability corporation engaged in the business
of value-added services platform providing, to Mr. Jack Ou, a resident of
People’s Republic of China. Consideration for the 5% interest of MOABC was
RMB5,000 (or US$647), to be paid within 90 days after signing of the agreement.
The Company’s interest in MOABC decreased from 20% to 15% after the
transaction.
Sale
of Interest in PacificNet Clickcom Limited ("Clickcom")
On
May
15, 2007, the Company entered into a definitive agreement to sell its 36%
entire
interest in PacificNet Clickcom Limited. ("Clickcom"), a leading Value-Added
Services (VAS) company in China, to Mr. Ou Zhenbin, a Chinese residence.
Consideration for the 36% interest of Clickcom was RMB10,000 to be paid in
cash
within 90 days after the agreement signing. The Company’s interest in
Clickcom decreased from 51% to 15% after the transaction. On November
22, 2007, the said agreement was revoked by the Seller as a result of
non-payment by the Buyer, Mr. Ou. The Company’s plan to dispose of its interest
in Clickcom remained unchanged and continued as held for disposal as of
September 30, 2007. Since the S&P agreements was terminated in the
subsequent period proforma information is presented as if the Clickcom is
held
for disposal as of September 30, 2007 (See note 17)
Sale
of Interest in Guangzhou 3G Information Technology Co., Ltd. ("Guangzhou
3G")
On
April
30, 2007, the Company entered into a definitive agreement to sell its 51%
entire
interest in Guangzhou 3G Information Technology Co., Ltd. ("Guangzhou 3G"),
a
leading provider of Customer Relationship Management (CRM), mobile internet,
e-commerce and gaming technology in China, Consideration for the 51% interest
of
Guangzhou 3G was US$6 million, to be paid in cash in 5 installments over
7
months after the agreement signing. The Company acquired 51% controlling
interest in Guangzhou 3G in March of 2005 for US$5.5 million consideration
which
was paid partially in cash and mostly in PACT stock. The Company’s interest in
Guangzhou 3G decreased from 51% to 0% after the transaction. Absent any explicit
closing conditions contained in the said agreement, the disposal was completed
upon title transfer during the second quarter of 2007.
Information
relating to the operations of the subsidiaries up to the periods of disposal
during the nine month period ended September 30, 2007 is as
follows:
(In
US$ thousands)
|
|
Linkhead
|
|
|
Clickcom
|
|
|
Power
|
|
|
PacTelso
|
|
|
Solutions
|
|
|
MOABC
|
|
|
3G
|
|
|
Total
(unaudited)
|
|
Income
(loss) from discontinued operations
|
|
|
(8 |
) |
|
|
(3 |
) |
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
262
|
|
|
|
250
|
|
Gain
(loss) from discontinued operations
|
|
|
(300 |
) |
|
|
-
|
|
|
|
340
|
|
|
|
1
|
|
|
|
(0 |
) |
|
|
5
|
|
|
|
(971 |
) |
|
|
(925 |
) |
Net
assets held for disposition (remaining interest)
|
|
|
|
|
|
|
810
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
810
|
|
13.
ACQUISITION
TAKE
1
TECHNOLOGIES GROUP LIMITED
On
January 05, 2007, we entered into an agreement for PacificNet to exercise
the
option to acquire an additional 31% interest in Take 1. The completion date
for
the new Securities Subscription Agreement was January 05, 2007, with a
contingent consideration of $965,505 (to be paid entirely with shares of
PacificNet: 149,459 PACT Shares, valued at $6.46 per share). As a result,
PacificNet has become the majority and controlling shareholder of Take1 with
our
ownership percentage increasing from 20% to 51%.
An
initial equity investment of 30% in Take 1 was made in April 2004 by the
Company, through its subsidiary PacificNet Strategic Investment Holdings
Limited, for a consideration of $1,156,812, comprising $385,604 in cash and
$771,208 in 149,459 PacificNet shares at $5.16 per share. PacificNet’s interest
in Take 1 was reduced to 20% in the year 2005 from 30% as a result of PacificNet
repurchasing an aggregate of 149,459 at nominal value.
Summarized
below were the assets acquired and liabilities assumed for Take 1 in the
acquisition:
Estimated
fair values/(unaudited):
|
|
|
|
Current
Assets
|
|
$
|
106,422
|
|
Intangible
asset
|
|
|
64,665
|
|
Total
Assets Acquired
|
|
|
171,087
|
|
Liabilities
assumed
|
|
|
(728,156
|
)
|
Net
assets acquired
|
|
|
(557,069
|
)
|
Investment
on equity method
|
|
|
385,604
|
|
Loss
from Investment
|
|
|
(285,260
|
)
|
Goodwill
|
|
$
|
657,413
|
|
At
September 30, 2007, goodwill of $657,413 represents the excess of the purchase
price over the fair value of the net tangible and identifiable intangible
assets
acquired and is not deductible for tax purposes and the total amount of goodwill
is reported under reportable segment for Products (Telecom &
Gaming).
In
accordance with SFAS 142, goodwill is not amortized but is tested for impairment
at least annually. The purchase price allocation for Take 1 acquisition is
based
on a management's estimates and overall industry experience. Immediately
after
the signing of the definitive agreement, the Company obtained effective control
over Take 1. Accordingly, the operating results of Take 1 have been consolidated
with those of the Company starting January 05, 2007. Pursuant to SFAS 141
"Business Combinations", the earn-out consideration is considered contingent
consideration, which will not become certain until the audited combined
after-tax loss of US$640,000 for the nine months ended September 30, 2007
is
available. Accordingly, the contingent consideration of 120,000 shares has
not
been reflected in the consolidated financial statements of the Company as
of
September 30, 2007.
UNAUDITED
PRO FORMA CONSOLIDATED FINANCIAL INFORMATION DISCLOSURE FOR THE QUARTER ENDED
September 30, 2007 AND 2006
The
following is an un-audited pro forma consolidated financial information for
the
nine month ended September 30, 2006 and 2007, as presented below, reflects
the results of operations of the Company assuming the acquisition occurred
on
January 1, 2006 and 2007, respectively, and after giving effect to the
purchase accounting adjustments. These pro forma results have been prepared
for
information purposes only and do not purport to be indicative of what operating
results would have been had the acquisitions actually taken place on January
1, 2006 and 2007, respectively, and may not be indicative of future
operating results.
(un-audited and in thousands of U.S. dollars)
|
|
Nine
months ended September 30
|
|
|
|
2007
|
|
|
2006
|
|
Revenue
|
|
|
28,090
|
|
|
|
33,568
|
|
Operating
income
|
|
|
1,284
|
|
|
|
(1,260
|
)
|
Net
profit
|
|
$
|
(639
|
)
|
|
$
|
503
|
|
Earnings
per share – basic
|
|
$
|
(0.05
|
)
|
|
$
|
0.05
|
|
Earnings
per share – diluted
|
|
$
|
(0.05
|
)
|
|
$
|
0.05
|
|
Accordingly,
PacificNet included the financial results of Take 1 in its consolidated 2007
financial results from January 5, 2007 through September 30,
2007.
14.
INVESTMENTS IN AFFILIATED COMPANIES
Investments
in affiliated companies are consisted of the following as of September 30,
2007:
(US$
thousands)/(unaudited)
|
COLLATERAL/OWNERSHIP
% AND BUSINESS DESCRIPTION
|
INVESTMENTS IN
AFFILIATED COMPANIES:
|
AMOUNT
|
DESCRIPTION
|
Glad
Smart
|
$30
|
15%
ownership interest
|
MOABC
|
(14)
|
15%
ownership interest
|
Community
Media Co.
|
4
|
5%
ownership interest
|
Solutions
|
–
|
15%
ownership interest (1)
|
Linkhead
|
333
|
15%
ownership interest
|
Power
|
–
|
15%
ownership interest (1)
|
Total
|
$353
|
|
(1)
Amounts less than one thousand dollars are excluded.
15.
LEGAL PROCEEDINGS.
1. Johnson
Controls Hong Kong Limited (JCHKL) vs. PacificNet Power
Limited
On
January 19, 2007, Johnson Controls Hong Kong Limited filed a civil claim
against
PacificNet Power Limited (a 51% owned subsidiary of PacificNet) in the
High
Court of the Hong Kong Special Administrative Region seeking HK$4,800,000
as
payment for services rendered to replace 3 sets of rane water-cooled chillers,
together with energy saving performance (the "Chiller System"), at the
Fortress
Tower in Hong Kong.
In
connection with the claim, PacificNet Power reviewed a letter from its
client,
China Weal Property Management Ltd., dated January 22, 2007 stating that
the
construction work by JCHKL had not been completed as of the date of the
letter,
and that certain violations itemized in a letter issued by the Hong Kong
Environment Protection Department (EPD) (Noise Abatement Notice No. N806030)
addressed to JCHKL with respect to acoustic problems with JCHKL’s equipment had
not been abated.
The
board
of directors of PacificNet Power Limited has reviewed the case with its
client,
China Weal Property Management Ltd., and our Hong Kong legal counsel and
it is
our belief that the project work undertaken JCHKL is defective in numerous
aspects. As a result, we believe the construction work has not been
completed by JCHKL, and therefore, JCHKL is not entitled to payment for
its
services.
On
February 13, 2007, we instructed our Hong Kong legal counsel to issue a
Defense
and Counterclaim to JCHKL to counter-claim that ( i) JCHKL's construction
work
has not complied with the applicable rules and regulations of various government
authorities in Hong Kong; (ii) the Chiller System provided by JCHKL was
defective and merchantable unfit and JCHKL has failed and/or refused to
rectify
such defective works; and (iii) JCHKL shall return the work deposit in
the
amount of HK$1,500,000 to PacificNet Power Limited and shall
compensate and keep PacificNet Power Limited indemnified against all the
loss
and damages suffered as a result of any claims from the China Weal Property
Management Ltd..
The
case
is now in the discovery stage before proceeding to the stage of fixing
a date
for trial in the High Court of Hong Kong and we intend to vigorously defend
ourselves against the allegations. We are unable to predict the outcome
of these
actions, or a reasonable estimate of the range of possible loss, if
any.
2. PacificNet
Power Limited vs Johnson Controls Hong Kong Limited
(JCHKL)
On
or
about December, 2005, Johnson Controls Hong Kong Limited approached PacificNet
Power Limited (a 51% owned subsidiary of PacificNet) and made a representation
that they had submitted a tender to “The Incorporated Owners of Nan Fung Centre,
Tsuen Wan (“the Employer”) for the “construction and replacement works of
existing air-cooled chiller plant by new water-cooled chiller plant for
Tsuen
Wan Nan Fung Centre and energy saving performance contract” (“the Contract”).
JCHKL invited and induced PacificNet Power Limited to act as the main contractor
for the Contract and it would then act as a sub-contractor.
PacificNet
Power also expressly made known to JCHKL that the said construction and
replacement works and the guaranteed energy saving should meet all the
tender
requirements if PacificNet Power accepted the invitation to act as the
main
contractor for the Contract, and PacificNet Power further said that if
there
should be any quality defects with the system and/ or the construction
work, the
Employer and/ or their prospective tenants would claim against JCHKL and
JCHKL
should compensate.
PacificNet
Power however received some correspondences and complaints from the Employer
about the poor and/ or sub-standard works done by JCHKL. PacificNet Power,
after
separate investigation, discovered the poor workmanship and sub-standard
works
done by JCHKL. Accordingly, the Employer and/ or their representatives
have
delayed the monthly installments payment to PacificNet Power.
On
April
23, 2007, we instructed our lawyers to issue a letter to the Defendant
requesting and demanding them, being the sub-contractor of the Construction
and
Replacement Works Contract, to take immediate rectification action within
seven
days from the date of the said letter to (i) rectify and complete all
outstanding defective works of the Construction and Replacement Works Contract;
(ii) replace the water-cooled chiller plant and/or equipments which are
not
conformed with the requirements of the tender documents previously submitted
by
the Defendant to the Employer; and (iii) improve the poor performance of
energy
saving of the new water-cooled chiller plant.
Despite
the said letter, JCHKL had failed and/ or refused to rectify and complete
all
outstanding works and/ or replace the defective system. And therefore PacificNet
Power claims against JCHKL for: (i) refund HK$6,414,300.00, being the Contract
Price paid by PacificNet Power to JCHKL; (ii) costs and expenses incurred
by
PacificNet Power to rectify all defective works of the Contract; (iii)
all
damage and loss suffered by PacificNet Power, and further and other
relief.
On
July
25, 2007, JCHKL issued a Defense and Counterclaim to PacificNet Power to
argue
that: (i) they had carried out the works according to the Contract terms;
(ii)
the works had been approved by PKL Consultants Limited, the consultant
representative of the Employer; and (iii) a sum of HK$30,000 is still due
and
owing by PacificNet Power to JCHKL.
The
case
is now in the discovery stage before proceeding to the stage of fixing
a date
for trial in the High Court of Hong Kong. We are unable to predict the
outcome
of these actions, or a reasonable estimate of the range of possible loss,
if
any.
3. PacificNet
Inc. vs. HLB Hodgson Impey Cheng (HLB or Defendant), a firm of Chartered
Accountants and Certified Public Accountants in Hong Kong
On
September 20, 2007, PacificNet Inc. filed a claim against its former
auditors
HLB Hodgson Impey Cheng (HLB), a firm of Chartered Accountants and Certified
Public Accountants, in the High Court of the Hong Kong Special Administrative
Region seeking refund of the professional fees, compensation of professional
fees and expenses for Company to engage and deploy new auditors to take
over the
incomplete audit works from the Defendant and returning and/or providing
all
relevant accounting records, vouchers, audit program and working papers
retained
by the Defendant and losses and damages incurred.
The
case
is now in the pleadings stage. We are unable to predict the outcome of
these
actions, or a reasonable estimate of the range of possible loss, if
any.
4. Iroquois
Master Fund, Ltd. vs. Pacificnet Inc.
On
or
about October 3, 2007 Iroquois Master Fund, Ltd. filed a complaint in the
Supreme Court of the State of New York against PacificNet Inc., claiming
that
the Company is in default under the Amended and Restated Convertible Debenture
due March 2009 (the Amended Debenture”) in the principal amount of $3,000,000
and the Convertible Debenture due February 2009 (the “New Debenture”) in the
principal amount of $420,000. Iroquois Master Fund, Ltd. is seeking damages
of
$3,253,163.80 in the aggregate, together with any accrued but unpaid interest
through the date of judgment. Iroquois Master Fund, Ltd. has also
demanded reimbursement of its attorney fees and other costs and expenses
incurred together with costs and disbursements of this action.
On
or
about December 5, 2007, PacificNet filed its answer denies that PacificNet
is in
default and assert an agreement that would enable it to bring the interest
payments up to date by the issuance of stock in the near
future.
16.
CURRENT VULNERABILITY DUE TO CERTAIN CONCENTRATIONS
The
Company's operations are carried out in the PRC. Accordingly, the Company's
business, financial condition and results of operations may be influenced
by the
political, economic and legal environments in the PRC, by the general state
of
the PRC's economy. The Company's business may be influenced by changes in
governmental policies with respect to laws and regulations, anti-inflationary
measures, currency conversion and remittance abroad, and rates and methods
of
taxation, among other things.
17.
SUBSEQUENT EVENTS
Revocation
of Sale & Purchase Agreement of PacificNet Clickcom Limited
("Clickcom")
On
May
15, 2007, the Company entered into a definitive agreement to sell its 36%
entire
interest in PacificNet Clickcom Limited. ("Clickcom"), a leading Value-Added
Services (VAS) company in China, to Mr. Ou Zhenbin, a Chinese residence.
Consideration for the 36% interest of Clickcom was RMB10,000 to be paid in
cash
within 90 days after the agreement signing. The Company’s interest in
Clickcom decreased from 51% to 15% after the transaction. On November
22, 2007, the said agreement was revoked by the Seller as a result of
non-payment by the Buyer.
Following
is the unaudited proforma consolidated financial information as if the Guangzhou
3G was not disposed of as of May 15, 2007 and held for disposal as of September
30, 2007.
(un-audited and in thousands of U.S. dollars)
|
|
Nine
months ended
September
30
|
|
|
|
2007
|
|
|
2006
|
|
Income
(loss) from continued operations
|
|
|
17
|
|
|
|
(111
|
)
|
Income
(loss) from discontinued operations
|
|
|
250
|
|
|
|
980
|
|
Net
income (loss)
|
|
|
(645
|
)
|
|
|
394
|
|
Earnings
per share – basic
|
|
|
(0.05
|
)
|
|
|
0.04
|
|
Earnings
per share – diluted
|
|
|
(0.05
|
)
|
|
|
0.04
|
|
Acquisition
Of Guangdong Poly Blue Express Communications Co.Ltd (Guangdong
Poly)
On
September 5, 2007, the company entered into an agreement to acquire (subject
to
meeting of certain conditions) an aggregate of 51% equity interest in Guangdong
Poly Blue Express Communications Co., Ltd. (Guangdong
Poly). Guangdong Poly is a leading operator approved by China's
Welfare Lottery Center to develop and operate real-time electronic paperless
lottery services in China, in accordance to the rules and regulations set
by
China's Welfare Lottery Center. Total consideration payable for the purchase
of
Guangdong Poly was US$2 million, in which US$1 million payable in PACT
restricted shares and US$1 million payable in
cash.
Due
to
outstanding closing conditions, the acquisition was not closed until
October 25, 2007.
IROQUOIS
MASTER FUND, LTD. vs. PACIFICNET INC.
On
October 3, 2007 Iroquois Master Fund, Ltd. filed a complaint in the Supreme
Court of the State of New York against PacificNet Inc., claiming that the
Company is in default for failure to pay principal and interest under the
Amended and Restated Convertible Debenture due March 2009 (the Amended
Debenture”) in the principal amount of $3,000,000 and interest on the
Convertible Debenture due February 2009 (the “New Debenture”) in the principal
amount of $420,000.
As
of
October 2, 2007, Iroquois claims that the outstanding principal amount of
the
Amended Debenture was$2,045,452, and accrued but unpaid interest amount was
$30,682. Iroquois claims that, as of October 2, 2007,
the mandatory default amount, as calculated under the terms of the
Amended Debenture due and owing is
$2,698,974.
As
of
October 2, 2007, Iroquois claims that the outstanding principal amount of
the New Debenture was $420,000, and accrued but unpaid interest amount was
$6,300.
Iroquois
claims that, as of October 2, 2007, the mandatory default amount, as
calculated under the terms of the New Debenture, due and owing is
$554,190.
As
of the
date of the complaint, Iroquois Master Fund, Ltd. was seeking damages of
$3,253,163.80 in the aggregate, together with any accrued but unpaid interest
through the date of judgment. Iroquois Master Fund, Ltd. also
demanded for the reimbursement of its attorney fees and other costs and expenses
incurred together with costs and disbursements of this action and such other
and
further relief as to the court seems just and proper.
REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To
the
Board of Directors and Stockholders of Pacific Net Inc.
We
have
audited the accompanying consolidated balance sheets of PacificNet Inc. (a
Delaware Corporation) and Subsidiaries as of December 31, 2006 and 2005,
and the
related consolidated statements of operations, changes in stockholders’ equity
and cash flows for the years then ended. These consolidated financial statements
are the responsibility of the Company’s management. Our responsibility is to
express an opinion on these consolidated financial statements based on our
audits.
We
conducted our audits in accordance with the standards established by the
Public
Company Accounting Oversight Board (United States). Those standards require
that
we plan and perform the audit to obtain reasonable assurance about whether
the
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, 2006 and 2005, 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.
The
accompanying consolidated financial statements have been prepared assuming
that
the Company will continue as a going concern. During the year ended
December 31, 2006, the Company incurred net losses of $12,415,000. In
addition, the Company had a negative cash flow in operating activities amounting
to negative $8,190,000 in the year ended December 31, 2006, and the Company’s
accumulated deficit was $51,090,000 as of December 31, 2006. In addition,
the
Company is in default on its convertible debenture obligation. These factors,
among others, as discussed in Note 1 to the consolidated financial statements,
raise substantial doubt about the Company’s ability to continue as a going
concern. Management’s plans in regard to these matters are also described in
Note 1. The consolidated financial statements do not include any adjustments
that might result from the outcome of this uncertainty.
As
discussed in Note 18, the financial statements for the years ended December
31,
2006 and 2005 have been restated.
/s/
KABANI & COMPANY, INC.
LOS
ANGELES, CA
March
30,
2007, except for notes 1, 2, 4, 6, 9, 10, 11, 12, 13, 14, 16, & 18 are as of
November 5, 2007
PACIFICNET
INC. AND SUBSIDIARIES
CONSOLIDATED
BALANCE SHEETS–RESTATED
AS
AT DECEMBER 31, 2006 AND 2005
(In
thousands of United States dollars, except par values and share
numbers)
|
|
As
at December 31,
|
|
|
|
2006
|
|
|
2005
|
|
ASSETS
|
|
Restated
|
|
|
Restated
|
|
Current
Assets:
|
|
|
|
|
|
|
Cash
and cash equivalents
|
|
$ |
1,900
|
|
|
$ |
3,486
|
|
Restricted
cash - pledged bank deposit
|
|
|
234
|
|
|
|
163
|
|
Accounts
receivables, net of allowances for doubtful accounts
|
|
|
8,141
|
|
|
|
3,841
|
|
Inventories
|
|
|
201
|
|
|
|
203
|
|
Loan
receivable from related parties
|
|
|
1,706
|
|
|
|
2,328
|
|
Loan
receivable from third parties
|
|
|
128
|
|
|
|
1,062
|
|
Marketable
equity securities - available for sale
|
|
|
558
|
|
|
|
539
|
|
Other
current assets
|
|
|
4,173
|
|
|
|
1,375
|
|
Total
Current Assets
|
|
|
17,041
|
|
|
|
12,997
|
|
|
|
|
|
|
|
|
|
|
Property
and equipment, net
|
|
|
4,711
|
|
|
|
958
|
|
Intangible
assets, net
|
|
|
323
|
|
|
|
-
|
|
Investments
in affiliated companies and subsidiaries
|
|
|
115
|
|
|
|
1,161
|
|
Goodwill
|
|
|
5,601
|
|
|
|
3,964
|
|
Net
assets held for disposition
|
|
|
8,664
|
|
|
|
8,854
|
|
Other
assets
|
|
|
471
|
|
|
|
-
|
|
TOTAL
ASSETS
|
|
$ |
36,926
|
|
|
$ |
27,934
|
|
LIABILITIES
AND STOCKHOLDERS' EQUITY
|
|
|
|
|
|
|
|
|
Current
Liabilities:
|
|
|
|
|
|
|
|
|
Bank
line of Credit
|
|
$ |
855
|
|
|
$ |
1,059
|
|
Bank
loans-current portion
|
|
|
576
|
|
|
|
188
|
|
Capital
lease obligations - current portion
|
|
|
120
|
|
|
|
126
|
|
Accounts
payable
|
|
|
1,266
|
|
|
|
628
|
|
Accrued
expenses and other payables
|
|
|
1,828
|
|
|
|
704
|
|
Customer
deposits
|
|
|
352
|
|
|
|
335
|
|
Convertible
debenture
|
|
|
8,000
|
|
|
|
-
|
|
Warrant
liability
|
|
|
904
|
|
|
|
-
|
|
Liquidated
damages liability
|
|
|
2,837
|
|
|
|
-
|
|
Loan
payable to related party
|
|
|
638
|
|
|
|
759
|
|
Total
Current Liabilities
|
|
|
17,376
|
|
|
|
3,799
|
|
|
|
|
|
|
|
|
|
|
Bank
loans - noncurrent portion
|
|
|
1,635
|
|
|
|
6
|
|
Capital
lease obligations - noncurrent portion
|
|
|
124
|
|
|
|
78
|
|
Convertible
debenture - non current portion
|
|
|
945
|
|
|
|
-
|
|
Total
long-term liabilities
|
|
|
2,704
|
|
|
|
84
|
|
Total
liabilities
|
|
|
20,080
|
|
|
|
3,883
|
|
|
|
|
|
|
|
|
|
|
Minority
interest in consolidated subsidiaries
|
|
|
2,869
|
|
|
|
846
|
|
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:
|
|
|
|
|
|
|
|
|
December
31, 2006 - 14,155,597 issued; 11,538,664 outstanding; December
31, 2005:
12,000,687 issued, 10,833,562 outstanding
|
|
|
1
|
|
|
|
1
|
|
Treasury
stock, at cost (2006: 2,626,933 Shares, 2005: 1,169,663
shares)
|
|
|
(272 |
) |
|
|
(134 |
) |
Additional
paid-in capital
|
|
|
65,757
|
|
|
|
61,980
|
|
Cumulative
other comprehensive income
|
|
|
(42 |
) |
|
|
(15 |
) |
Accumulated
deficit
|
|
|
(51,090 |
) |
|
|
(38,627 |
) |
Less:
stock subscription receivable
|
|
|
(377 |
) |
|
|
-
|
|
Total
Stockholders' Equity
|
|
|
13,977
|
|
|
|
23,205
|
|
|
|
|
|
|
|
|
|
|
TOTAL
LIABILITIES AND STOCKHOLDERS' EQUITY
|
|
$ |
36,926
|
|
|
$ |
27,934
|
|
The
accompanying notes form an integral part of these consolidated financial
statements.
PACIFICNET
INC. AND SUBSIDIARIES
CONSOLIDATED
STATEMENTS OF OPERATIONS - RESTATED
FOR
THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004
(In
thousands of United States dollars, except loss per share and share
amounts)
|
|
For
the Years Ended December 31,
|
|
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
|
|
Restated
|
|
|
Restated
|
|
|
Restated
|
|
Net
Revenues
|
|
|
|
|
|
|
|
|
|
Services
|
|
$ |
16,790
|
|
|
$ |
14,091
|
|
|
$ |
10,008
|
|
Product
sales
|
|
|
25,948
|
|
|
|
3,216
|
|
|
|
849
|
|
Total
net revenue
|
|
|
42,738
|
|
|
|
17,307
|
|
|
|
10,857
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost
of Revenues
|
|
|
|
|
|
|
|
|
|
|
|
|
Services
|
|
|
(12,155 |
) |
|
|
(10,380 |
) |
|
|
(7,046 |
) |
Product
sales
|
|
|
(24,062 |
) |
|
|
(2,841 |
) |
|
|
(841 |
) |
Total
cost of revenue
|
|
|
(36,217 |
) |
|
|
(13,221 |
) |
|
|
(7,887 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross
Profit
|
|
|
6,521
|
|
|
|
4,086
|
|
|
|
2,970
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating
expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
Selling,
General and Administrative expenses
|
|
|
11,126
|
|
|
|
5,447
|
|
|
|
5,244
|
|
Stock-based
compensation expenses
|
|
|
242
|
|
|
|
282
|
|
|
|
1,246
|
|
Depreciation
and amortization
|
|
|
1,463
|
|
|
|
276
|
|
|
|
94
|
|
Impairment
of Goodwill
|
|
|
1,233
|
|
|
|
3,689
|
|
|
|
2,628
|
|
Total
Operating expenses
|
|
|
14,064
|
|
|
|
9,694
|
|
|
|
9,212
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss
from operations
|
|
|
7,543
|
|
|
|
5,608
|
|
|
|
6,242
|
|
Other
income (expenses):
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
income/(expense), net
|
|
|
(1,192 |
) |
|
|
100
|
|
|
|
(57 |
) |
Gain/(loss)
in change in fair value of derivatives
|
|
|
(214 |
) |
|
|
-
|
|
|
|
-
|
|
Liquidated
damages expense
|
|
|
(3,817 |
) |
|
|
-
|
|
|
|
-
|
|
Sundry
income, net
|
|
|
105
|
|
|
|
289
|
|
|
|
176
|
|
Total
other income
|
|
|
(5,118 |
) |
|
|
389
|
|
|
|
119
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss
from operations before Income Taxes and Minority
Interests
|
|
|
(12,661 |
) |
|
|
(5,219 |
) |
|
|
(6,123 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Provision
for income taxes
|
|
|
(63 |
) |
|
|
(55 |
) |
|
|
(106 |
) |
Share
of earnings from investment on equity method
|
|
|
17
|
|
|
|
855
|
|
|
|
87
|
|
Minority
Interests
|
|
|
153
|
|
|
|
(1,461 |
) |
|
|
(296 |
) |
Loss
from continued operations
|
|
|
(12,554 |
) |
|
|
(5,880 |
) |
|
|
(6,438 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Income/(loss)
from discontinued operations:
|
|
|
|
|
|
|
|
|
|
|
|
|
Gain
on disposal
|
|
|
26
|
|
|
|
-
|
|
|
|
-
|
|
Income
from discontinued operations
|
|
|
113
|
|
|
|
735
|
|
|
|
1,014
|
|
Total
income/(loss) from discontinued operations
|
|
|
139
|
|
|
|
735
|
|
|
|
1,014
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NET
LOSS
|
|
|
(12,415 |
) |
|
|
(5,145 |
) |
|
|
(5,424 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
comprehensive income (loss):
|
|
|
|
|
|
|
|
|
|
|
|
|
Foreign
exchange gain (loss)
|
|
|
(27 |
) |
|
|
7
|
|
|
|
(22 |
) |
Net
comprehensive loss
|
|
$ |
(12,442 |
) |
|
$ |
(5,138 |
) |
|
$ |
(5,446 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
BASIC
& DILUTED LOSS PER COMMON SHARE:
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss
per common share continued operation
|
|
$ |
(1.08 |
) |
|
$ |
(0.58 |
) |
|
$ |
(0.92 |
) |
Earning
per common share discontinued operation
|
|
$
|
0.00
|
|
|
$
|
0.07
|
|
|
$
|
0.14
|
|
Loss
per common share – basic & diluted
|
|
$ |
(1.08 |
) |
|
$ |
(0.51 |
) |
|
$ |
(0.77 |
) |
*Weighted
average number of shares - basic & diluted
|
|
|
11,538,664
|
|
|
|
10,156,809
|
|
|
|
7,015,907
|
|
The
accompanying notes form an integral part of these consolidated financial
statements.
PACIFICNET
INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS
OF CHANGES IN STOCKHOLDERS’ EQUITY – RESTATED
(In
thousands of United States dollars, except number of shares)
|
|
|
|
|
|
|
|
|
Income/
|
|
|
|
|
|
Treasury
Stock
|
|
|
|
|
|
|
|
|
|
|
Shares
|
|
|
Amount
|
|
|
Capital
|
|
|
(loss)
|
|
|
(Restated)
|
|
|
Shares
|
|
|
Amount
|
|
|
Receivable
|
|
|
(Restated)
|
|
Balance
at December 31, 2003, as restated
|
|
|
5,363,977
|
|
$
|
1
|
|
$ |
31,790
|
|
$ |
(24 |
) |
$ |
(28,056 |
) |
|
800,000
|
|
$ |
(5 |
) |
$ |
-
|
|
$ |
3,706
|
|
Issuance
of common stock for acquisition of subsidiaries
|
|
|
1,756,240
|
|
|
-
|
|
|
9,938
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
9,938
|
|
Proceeds
from the sale of common stock, net of related costs
|
|
|
2,205,697
|
|
|
-
|
|
|
12,330
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
12,330
|
|
PIPE
related Expenses
|
|
|
-
|
|
|
-
|
|
|
(205 |
) |
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
(205 |
) |
Issuance
of common stock for acquisition of affiliate
|
|
|
149,459
|
|
|
-
|
|
|
1,547
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
1,547
|
|
Repurchase
of common stock
|
|
|
(33,616 |
) |
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
33,616
|
|
|
(114 |
) |
|
-
|
|
|
(114 |
) |
Stock
issued for services
|
|
|
50,000
|
|
|
-
|
|
|
132
|
|
|
-
|
|
|
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
132
|
|
Stock
issued in error
|
|
|
83,000
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
Stock
options expense
|
|
|
-
|
|
|
-
|
|
|
1,246
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
1,246
|
|
Exercise
of stock options and warrants for cash
|
|
|
219,364
|
|
|
-
|
|
|
606
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
606
|
|
Foreign
currency translation gain
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
2
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
2
|
|
Excess
finders fee charged adjusted
|
|
|
-
|
|
|
-
|
|
|
345
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
345
|
|
Net
loss
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
(5,425 |
) |
|
-
|
|
|
-
|
|
-
|
|
|
(5,425 |
) |
Balance
at December 31, 2004
|
|
|
9,794,121
|
|
|
1
|
|
|
57,730
|
|
|
(22 |
) |
|
(33,482 |
) |
|
833,616
|
|
|
(119 |
) |
|
-
|
|
|
24,108
|
|
Issuance
of common stock for acquisition of subsidiaries
|
|
|
515,900
|
|
|
-
|
|
|
3,971
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
3,971
|
|
Stock
issued for services
|
|
|
20,000
|
|
|
-
|
|
|
63
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
63
|
|
Repurchase
of common stock for acquisition of affiliate
|
|
|
(149,459 |
) |
|
-
|
|
|
(1,547 |
) |
|
-
|
|
|
-
|
|
|
149,459
|
|
|
-
|
|
|
-
|
|
|
(1,547 |
) |
Cancellation
of common stock
|
|
|
(45,000 |
) |
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
45,000
|
|
|
-
|
|
|
-
|
|
|
-
|
|
Repurchase
of common shares
|
|
|
(2,000 |
) |
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
2,000
|
|
|
(15 |
) |
|
|
|
|
(15 |
) |
Stock
options expense
|
|
|
-
|
|
|
-
|
|
|
282
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
|
|
|
282
|
|
Exercise
of stock options and warrants for cash
|
|
|
676,000
|
|
|
-
|
|
|
966
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
|
|
|
966
|
|
Holdback
shares as contingent consideration due to performance targets
not yet
met
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
298,550
|
|
|
-
|
|
|
|
|
|
-
|
|
Share
consideration for acquisition of subsidiary deemed issued under
S&P
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
(137,500 |
) |
|
-
|
|
|
|
|
|
-
|
|
Excess
finders fee charged adjusted
|
|
|
-
|
|
|
-
|
|
|
455
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
|
|
|
455
|
|
Option
exercise price adjusted
|
|
|
-
|
|
|
-
|
|
|
60
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
|
|
|
60
|
|
Foreign
currency translation gain
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
7
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
|
|
|
7
|
|
Net
loss
|
|
|
-
|
|
|
-
|
|
|
|
|
|
-
|
|
|
(5,145 |
) |
|
-
|
|
|
-
|
|
|
|
|
|
(5,145 |
) |
BALANCE
AT DECEMBER 31, 2005
|
|
|
10,809,562
|
|
|
1
|
|
|
61,979
|
|
|
(15 |
) |
|
(38,627 |
) |
|
1,191,125
|
|
|
(134 |
) |
|
|
|
|
23,204
|
|
Exercise
of stock options for cash and receivable
|
|
|
394,000
|
|
|
-
|
|
|
834
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
834
|
|
Issuance
of common stock for acquisition of subsidiaries
|
|
|
618,112
|
|
|
-
|
|
|
4,346
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
4,346
|
|
Cancellation
of common stock
|
|
|
(275,000 |
) |
|
-
|
|
|
(1,672 |
) |
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
(1,672 |
) |
Repurchase
of common shares (Treasury shares)
|
|
|
(29,472 |
) |
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
(138 |
) |
|
-
|
|
|
(138 |
) |
Foreign
currency translation loss
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
(27 |
) |
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
(27 |
) |
Stock
options expense
|
|
|
-
|
|
|
-
|
|
|
242
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
242
|
|
Goodwill
opening balance adjustment
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
(48 |
) |
|
-
|
|
|
-
|
|
|
-
|
|
|
(48 |
) |
Issuance
of warrants for issuing fee of convertible debts
|
|
|
-
|
|
|
-
|
|
|
28
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
28
|
|
Stock
subscription receivable
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
(377 |
) |
|
(377 |
) |
Net
loss
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
(12,415 |
) |
|
-
|
|
|
-
|
|
-
|
|
|
(12,415 |
) |
BALANCE
AT DECEMBER 31, 2006
|
|
|
11,517,202
|
|
$ |
1
|
|
$ |
65,757
|
|
$ |
(42 |
) |
$ |
(51,090 |
) |
|
1,191,125
|
|
$ |
(272 |
) |
$ |
(377 |
) |
$ |
13,977
|
|
The
accompanying notes form an integral part of these consolidated financial
statements.
PACIFICNET
INC. AND SUBSIDIARIES
CONSOLIDATED
STATEMENTS OF CASH FLOWS –RESTATED
(In
thousands of United States dollars)
Cash
Flows from operating activities
|
|
For
the Years Ended December 31,
|
|
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
|
|
Restated
|
|
|
Restated
|
|
|
Restated
|
|
Net
loss
|
|
$ |
(12,415 |
) |
|
$ |
(5,145 |
) |
|
$ |
(5,424 |
) |
Adjustment
to reconcile net loss to net cash provided by (used in) operating
activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Provision
for allowance for doubtful accounts
|
|
|
6,173
|
|
|
|
3,425
|
|
|
|
777
|
|
Minority
Interest
|
|
|
(153 |
) |
|
|
1,461
|
|
|
|
296
|
|
Depreciation
and amortization
|
|
|
1,463
|
|
|
|
276
|
|
|
|
94
|
|
Goodwill
impairment
|
|
|
1,233
|
|
|
|
3,689
|
|
|
|
2,628
|
|
Stock-based
compensation
|
|
|
242
|
|
|
|
282
|
|
|
|
1,246
|
|
Issuance
of shares for services
|
|
|
-
|
|
|
|
63
|
|
|
|
132
|
|
Change
in fair value of derivatives
|
|
|
214
|
|
|
|
-
|
|
|
|
-
|
|
Amortization
of interest discount
|
|
|
690
|
|
|
|
-
|
|
|
|
-
|
|
Liquidated
damages expense
|
|
|
3,817
|
|
|
|
-
|
|
|
|
-
|
|
Income/loss
from discontinued operations
|
|
|
(139 |
) |
|
|
(735 |
) |
|
|
(1,014 |
) |
Changes
in current assets & liabilities net of effects from purchase of
subsidiaries:
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts
receivable and other current assets
|
|
|
(7,098 |
) |
|
|
(297 |
) |
|
|
(2,743 |
) |
Inventories
|
|
|
2
|
|
|
|
(55 |
) |
|
|
(72 |
) |
Accounts
payable and accrued expenses
|
|
|
(2,219 |
) |
|
|
2,671
|
|
|
|
1,098
|
|
Net
cash provided by (used in) operating
activities
|
|
|
(8,190 |
) |
|
|
5,635
|
|
|
|
(2,982 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
flows from investing activities
|
|
|
|
|
|
|
|
|
|
|
|
|
Increase
in restricted cash
|
|
|
(71 |
) |
|
|
49
|
|
|
|
-
|
|
Increase
in purchase of marketable securities
|
|
|
(19 |
) |
|
|
(510 |
) |
|
|
(29 |
) |
Acquisition
of property and equipment
|
|
|
(2,608 |
) |
|
|
(2,966 |
) |
|
|
(477 |
) |
Net
increase (decrease) in assets held for disposition
|
|
|
190
|
|
|
|
(3,493 |
) |
|
|
264
|
|
Acquisition
of subsidiaries and affiliated companies
|
|
|
(667 |
) |
|
|
(3,958 |
) |
|
|
(991 |
) |
Repurchase
of treasury shares
|
|
|
(138 |
) |
|
|
(15 |
) |
|
|
(114 |
) |
Net
cash used in investing activities
|
|
|
(3,313 |
) |
|
|
(10,893 |
) |
|
|
(1,347 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH
FLOWS PROVIDED BY FINANCING ACTIVITIES:
|
|
|
|
|
|
|
|
|
|
|
|
|
Loans
receivable from third parties
|
|
|
934
|
|
|
|
(1,024 |
) |
|
|
(38 |
) |
Loans
receivable from related parties
|
|
|
622
|
|
|
|
(868 |
) |
|
|
(1,460 |
) |
Loans
payable to related party
|
|
|
(121 |
) |
|
|
575
|
|
|
|
184
|
|
Advances
(repayments) under bank line of credit
|
|
|
(204 |
) |
|
|
1,113
|
|
|
|
(1,253 |
) |
Repayment
of amount borrowed under capital lease obligations
|
|
|
40
|
|
|
|
(5 |
) |
|
|
(92 |
) |
Proceeds
from exercise of stock options and warrants
|
|
|
237
|
|
|
|
966
|
|
|
|
606
|
|
Advances
under bank loans
|
|
|
935
|
|
|
|
(1,453 |
) |
|
|
(135 |
) |
Net
proceeds from issuance of convertible debenture
|
|
|
7,500
|
|
|
|
-
|
|
|
|
-
|
|
Payment
of certain PIPE related expenses
|
|
|
-
|
|
|
|
-
|
|
|
|
(205 |
) |
Proceeds
from sale of common stock for cash
|
|
|
-
|
|
|
|
-
|
|
|
|
12,330
|
|
Net
cash provided by(used in) financing
activities
|
|
|
9,943
|
|
|
|
(696 |
) |
|
|
9,937
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Effect
of exchange rate change on cash and cash equivalents
|
|
|
(27 |
) |
|
|
7
|
|
|
|
2
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NET
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
|
|
|
(1,586 |
) |
|
|
(5,947 |
) |
|
|
5,610
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH
AND CASH EQUIVALENTS, BEGINNING OF PERIOD
|
|
|
3,486
|
|
|
|
9,433
|
|
|
|
3,823
|
|
CASH
AND CASH EQUIVALENTS, END OF PERIOD
|
|
$ |
1,900
|
|
|
$ |
3,486
|
|
|
$ |
9,433
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
SUPPLEMENTAL
CASH FLOW INFORMATION:
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
paid
|
|
$ |
664
|
|
|
$ |
229
|
|
|
$ |
178
|
|
Income
taxes paid
|
|
$ |
5
|
|
|
$ |
(53 |
) |
|
$ |
3
|
|
NONCASH
INVESTING AND FINANCING ACTIVITIES:
|
|
|
|
|
|
|
|
|
|
|
|
|
Investment
in subsidiaries and affiliate through issuance of common
stock
|
|
$ |
4,346
|
|
|
$ |
3,971
|
|
|
$ |
9,938
|
|
Investment
in affiliate through issuance of common stock
|
|
|
|
|
|
|
|
|
|
|
1547
|
|
Property
& equipment acquired under bank loans
|
|
$ |
1,082
|
|
|
$ |
-
|
|
|
$ |
-
|
|
The
accompanying notes form an integral part of these consolidated financial
statements.
PACIFICNET
INC. AND SUBSIDIARIES
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS – RESTATED
(Amounts
expressed in United States dollars unless otherwise stated)
1.
NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES
PacificNet
Inc. (referred to herein as “PacificNet” or the “Company”) was originally
incorporated in the State of Delaware on April 8, 1987. Through our subsidiaries
we provide outsourcing services, value-added telecom services (VAS) and products
(telecom and gaming) services. Our business process outsourcing (BPO) services
include call centers, providing 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 is comprised of interactive voice response
(IVR)
systems, call center management systems, and voice over Internet protocol
(VOIP), as well as mobile phone VAS, such as short messaging services (SMS)
and
multimedia messaging services (MMS). Our products (telecom and gaming) include
gaming technology and communication products distribution. The Company’s
operations are primarily targeted in Greater China and certain Asian country
markets.
SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES
OF CONSOLIDATION AND BASIS OF 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 including variable interest entities (“VIEs”) for which the Company
is the primary beneficiary. All significant inter-company accounts and
transactions have been eliminated. Investments in entities in which the Company
can exercise significant influence, but which are less than majority owned
and
not otherwise controlled by the Company, are accounted for under the equity
method.
The
Company has adopted FASB Interpretation No. 46R “Consolidation of Variable
Interest Entities” (“FIN 46R”), an Interpretation of Accounting Research
Bulletin No. 51. FIN 46R requires a Variable Interest Entity (VIE) to be
consolidated by a company if that company is subject to a majority of the
risk
of loss for the VIE or is entitled to receive a majority of the VIE’s residual
returns. VIEs are those entities in which the Company, through contractual
arrangements, bears the risks of, and enjoys the rewards normally associated
with ownership of the entities, and therefore the company is the primary
beneficiary of these entities. Acquisitions of subsidiaries or variable interest
entities are accounted for using the purchase method of accounting. The results
of subsidiaries or variable interest entities acquired during the year are
included in the consolidated income statements from the effective date of
acquisition.
INITIAL
MEASUREMENT OF VIE- The Company initially measures the assets, liabilities,
and
non-controlling interests of the VIEs at their fair values at the date of
the
acquisitions. Goodwill is recorded for the excess of the fair value of the
newly
consolidated assets and the reported amount of assets transferred by the
primary
beneficiary to the VIE over the sum of the fair value of the consideration
paid,
the reported amount of any previously held interests, and the fair value
of the
newly consolidated liabilities and non-controlling interests are allocated
and
reported as a pro rata adjustment of the amounts that would have been assigned
to all of the newly consolidated assets as if the initial consolidation had
resulted from a business combination.
ACCOUNTING
AFTER INITIAL MEASUREMENT OF VIE – Subsequent accounting for the assets,
liabilities, and non-controlling interest of a consolidated variable interest
entity are accounted for as if the entity were consolidated based on voting
interests and the usual accounting rules for which the VIE operates are applied
as they would to a consolidated subsidiary as follows:
·
|
Carrying
amounts of the VIE are consolidated into the financial statements
of
PacificNet as the primary beneficiary (referred as “Primary Beneficiary”
or “PB”)
|
|
·
|
Inter-company
transactions and balances, such as revenues and costs, receivables
and
payables between or among the Primary Beneficiary and the VIE(s)
are
eliminated in their entirety
|
|
·
|
There
is no direct ownership interest by the Primary Beneficiary in the
VIE,
equity of the VIE is eliminated with an offsetting credit to minority
interest
|
PRC
laws
and regulations restrict us, as a foreign entity, from having a direct
controlling interest in entities such as Beijing Xing
Chang Xin Sci –tech Development Co. Ltd (IMOBILE-DE) and Guangzhou Sunroom
Information Industry Co., Ltd. (Sunroom-DE) that hold operating licenses
to
engage in domestic online ecommerce and telecom value-added services in China.
As a result, we conduct substantially all of our operations through Beijing
PacificNet IMOBILE Technology Co., Ltd (WOFE) and Technology Ltd. And Guangzhou
3G Information Technology Co., Ltd. (WOFE). We own 51% of the shares in each
of
the WOFEs and each WOFE signed Consulting and Services Agreements with
IMOBILE-DE and Sunroom-DE (the entities that actually carry out the operating
activities). These agreements provide that all of the DE profits will flow
through to the respective WOFEs. Pursuant to these agreements, the Company
guarantees any obligations undertaken by these companies under their contractual
agreements with third parties, and the Company is entitled to receive service
fees in an amount equal to 51% of the net income of these companies.
Accordingly, we bear the risks of and enjoy the rewards associated with the
investments in the WOFEs.
The
operations of Des are managed by their original management teams, however,
the
Company has the power to appoint or change directors and senior management
because it indirectly ultimately controls the voting power of the shareholders
of each DE through the Power of Attorney given to PacificNet’s President
according to the operating agreements between the Des and WOFEs. Pursuant
to the
Consulting and Service Agreements signed between each WOFE and their respective
DE, the WOFE (“Party A”) agrees to be the exclusive provider of telecom
consulting services to the DE (“Party B”). During the term of the agreement,
Party B shall not accept technical and consulting services provided by any
third
party. Party B agrees to pay a fee to Party A equal to 100% of its monthly
net
income for the services provided. Payment of the service fees has been secured
through a share pledge agreement with the shareholders of each of the Des,
whereby they pledged all of their shares to the respective WOFE.
(1)
Each
of the Des, by design, is thinly capitalized because a substantial portion
of
PacificNet’s invested amounts or consideration were paid or payable directly to
previous owners of Sunroom-DE and Imobile-DE for entering into the acquisition
transactions while none of the investment consideration was injected into
the
Des. Therefore, additional funding from PacificNet is needed to support the
Des’
business development and working capital.
(2)
Fees
from Service Contracts are substantial, but are not commensurate with the
level
of service provided by the WOFEs to the Des. The contractual and funding
arrangements with the Des evidence that PacificNet has closely participated
in
the majority of the Des’ economics. PacificNet is the primary beneficiary
through its WOFE subsidiaries since PacificNet is the only enterprise with
a
sufficiently large interest in the VIEs. In compliance with PRC’s foreign
investment restrictions on Internet Content Provider and Value Added Telecom
Services Provider’s laws and regulations, the Company conducts all of its
value-added services for telecom in China via the following significant domestic
VIEs below. The respective management agreements between the VIE’s and WOFE’s
create a variable interest and accordingly, these two Vies are consolidated
as
VIE through their respective WOFEs from the date of acquisition.
The
following is a summary of all the VIEs of the Company:
Beijing Xing
Chang Xin Sci –tech Development Co. Ltd (the “Imobile-VIE”), a China company
controlled through business agreement. Through Imobile-VIE, a variable interest
entity, PacificNet is able to engage in the business of ICP, and operates
mobile
distribution and value-added service in the PRC. The business of the VIE
is
managed by their original management teams. Imobile-VIE is owned by Gao Chunhui,
CEO 51% and Liu Lei, COO 49%, of the Company. The registered capital of the
VIE
is RMB 2,000,000. The VIE’s board of directors has the power to appoint the
General Manager of the VIE who in turn has the power to appoint other members
of
the management. PacificNet does not directly participate in the daily operation
of the VIE. It however has the power to change the management, if needed,
because PacificNet is directly or indirectly controlling the board of this
VIE.
Guangzhou
Sunroom Information Industrial Co., Ltd. (“Sunroom-VIE”), a PRC registered
domestic enterprise, controlled by PacificNet through a series of contractual
agreements. It is responsible for VAS in China under its ICP and VAS licenses.
It is 31% owned by Mr. Wang Yongchao (CEO), 41.4% owned by Mr. Liao Mengjiang
(COO) and 27.6% owned by non-participating shareholder, Mr. Sun Zhengquan.
The
registered capital of the VIE Company is $4.0 million. Sunroom-VIE is required
to transfer their ownership in these entities to our subsidiaries when permitted
by PRC laws and regulations and all voting rights are assigned to us. As
of
December 31, 2005, Sunroom-VIE’s revenues and net loss accounted for
approximately 17% and (96) % of our consolidated revenues and net earnings
before minority interests, respectively.
The
initial capital investments in these VIEs were not funded by us but we have
provided loans to these VIEs to fund their R&D and expansion plans. As of
December 31, 2005, the amount of loans to Clickcom VIE and Sunroom VIE were
approximately US$262,695 (low interest at 2%) and US$246,216 (interest free)
respectively. None of the VIEs’ assets were collateralized for our loans. Given
the fact that we do not have direct ownership interests in these VIEs, the
creditors of these VIEs will not have recourse to the general credit of our
group being the primary beneficiary.
Under
various contractual agreements, employee shareholders of the VIEs are required
to transfer their ownership in these entities to our subsidiaries in China
when
permitted by PRC laws and regulations or to our designees at any time for
the
amount of the outstanding loans. All voting rights of the VIEs are then assigned
to us. We have the power to appoint all directors and senior management
personnel of the VIEs. Through our wholly owned subsidiaries in China, we
have
also entered into exclusive technical agreements and other service agreements
with the VIEs, under which these subsidiaries provide technical
services.
BUSINESS
COMBINATIONS
The
Company accounts for its business combinations using the purchase method
of
accounting. This method requires that the acquisition cost to be allocated
to
the assets and liabilities the Company acquired based on their fair values.
The
Company makes estimates and judgments in determining the fair value of the
acquired assets and liabilities, based on valuations using management’s
estimates and assumptions including its experience with similar assets and
liabilities in similar industries. If different judgments or assumptions
were
used, the amounts assigned to the individual acquired assets or liabilities
could be materially different.
GOODWILL
AND PURCHASED INTANGIBLE ASSETS
Goodwill
represents the excess of the purchase price over the fair value of the
identifiable assets and liabilities acquired as a result of the Company’s
acquisitions of interests in its subsidiaries and VIEs. Fair market value
of the
identifiable assets and liabilities, including tangible and intangible, is
primarily ascertained with replacement cost method. At time of acquisition,
based on market research and discussion with management, a benchmark is
established with reference to comparable replacement cost in open market.
Occasionally, net book value is used as a fair market value equivalent if
the
assets and liabilities of the newly acquired subsidiaries and/or VIEs were
either current in nature or newly established.
Under
Statement of Financial Accounting Standards (“SFAS”) No. 142, “Goodwill and
Other Intangible Assets (“SFAS 142”),” goodwill is no longer amortized, but
tested for impairment upon first adoption and annually, thereafter, or more
frequently if events or changes in circumstances indicate that it might be
impaired. The Company assesses goodwill for impairment annually in accordance
with SFAS 142. The assessment includes first comparing implied P/E valuation
of
the goodwill carrying subsidiaries (adjusted by R&D expenses written off) to
benchmarks as found in comparable publicly traded companies. If a comfortable
buffer over the public benchmark does not exist, more sophisticated DCF
analysis, based on 5 year cash flows forecasts, will follow to ascertain
if
goodwill impairment is warranted.
The
Company applies the criteria specified in SFAS No. 141, “Business Combinations”
to determine whether an intangible asset should be recognized separately
from
goodwill. Intangible assets acquired through business acquisitions are
recognized as assets separate from goodwill if they satisfy either the
“contractual-legal” or “reparability” criterion. Per SFAS 142, intangible assets
with definite lives are amortized over their estimated useful life and reviewed
for impairment in accordance with SFAS No. 144, “Accounting for the Impairment
or Disposal of Long-lived Assets.” Intangible assets, such as purchased
technology, trademark, customer list, user base and non-compete agreements,
arising from the acquisitions of subsidiaries and variable interest entities
are
recognized and measured at fair value upon acquisition. Intangible assets
are
amortized over their estimated useful lives from one to ten years. The Company
reviews the amortization methods and estimated useful lives of intangible
assets
at least annually or when events or changes in circumstances indicate that
it
might be impaired. The recoverability of an intangible asset to be held and
used
is evaluated by comparing the carrying amount of the intangible asset to
its
future net undiscounted cash flows. If the intangible asset is considered
to be
impaired, the impairment loss is measured as the amount by which the carrying
amount of the intangible asset exceeds the fair value of the intangible asset,
calculated using a discounted future cash flow analysis. The Company uses
estimates and judgments in its impairment tests, and if different estimates
or
judgments had been utilized, the timing or the amount of the impairment charges
could be different.
We
currently have nine reporting units: EPRO, Smartime/Soluteck,
Guangzhou 3G-WOFE (assets held for disposition), iMobile-WOFE, Shanghai Classic
(including discontinued subsidiary – Yueshen), Wangrong, Clickcom (discontinued
operation), PacificNet Games, Linkhead (discontinued operation), but those
that
are marked either assets held for disposition or discontinued are excluded
for
the purposes of goodwill assessment. We determined our reporting units if
the
entity constituted a business, financial information was available, and segment
management can regularly review the operating results of that component.
Excluding investment holding vehicles and self-developed units, reporting
units
only include those operating units that PacificNet holds 50% or more through
acquisition and maintain effective control. Units such as PacificNet Solution,
PacificNet Limited, and PacificNet Communication are 100% owned by PacificNet
through self-development and not through acquisition. Therefore, there is
no
goodwill allocation to these self-developed units.
We
allocated goodwill amongst the reporting units based on the consideration
paid
in shares and cash minus the proportional share of the fair value of net
assets
and liabilities at the time of acquisition specific to each reporting unit.
The
fair value of each reporting unit represents the amount at which the unit
as a
whole could be bought or sold in a current transaction between willing parties
in an open marketplace. At the time of acquisition, the fair value of assets
and
liabilities was determined based on book value minus any potential write-down,
if any, to reflect the fair value of the assets and liabilities acquired
in the
transaction. The Company has one class of goodwill arising from business
combination resulting from the acquisitions of our subsidiaries. Goodwill
has been revised to reflect certain expenses that should have been written
off
prior to certain acquisitions, not subsequent to the acquisitions, to better
reflect the assets acquired and liabilities assumed in certain business
combinations during 2003 in accordance with SFAS No. 141, “Business
Combinations”. Originally, the Company had acquired certain intangible assets
such as research and development costs and related party receivables that
were
considered as part of the purchase price allocation, then subsequently expensed
them at year end.
The
total
carrying amount of goodwill recorded on the balance sheets at December 31,
2006
is $5,601,000 and the changes in the carrying amount of goodwill for the
following reporting periods are summarized below:
(US$'000s)
|
|
Group
1.
Outsourcing
Services
|
|
|
Group
2.
Telecom
Value-Added
Services
|
|
|
Group
3.
Products
(Telecom
&
Gaming)
|
|
|
Total
goodwill on the restated balance sheet
|
|
Balance
as of December 31, 2003
|
|
$
|
420
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
420
|
|
Goodwill
acquired during the year
|
|
|
3,575
|
|
|
|
4,831
|
|
|
|
1,438
|
|
|
|
9,844
|
|
Goodwill
reclassified to net assets held for disposition
|
|
|
-
|
|
|
|
(3,672
|
)
|
|
|
-
|
|
|
|
(3,672
|
)
|
Goodwill
impaired during the year
|
|
|
(31
|
)
|
|
|
(1,159
|
)
|
|
|
(1,438
|
)
|
|
|
(2,628
|
)
|
Balance
as of December 31, 2004-Restated
|
|
|
3,964
|
|
|
|
-
|
|
|
|
-
|
|
|
|
3,964
|
|
Goodwill
acquired during the year
|
|
|
-
|
|
|
|
5,183
|
|
|
|
-
|
|
|
|
5,183
|
|
Goodwill
reclassified to net assets held for disposition
|
|
|
-
|
|
|
|
(1,494
|
)
|
|
|
-
|
|
|
|
(1,494
|
)
|
Goodwill
impaired during the year
|
|
-
|
|
|
|
(3,689
|
)
|
|
-
|
|
|
|
(3,689
|
)
|
Balance
as of December 31, 2005-Restated
|
|
|
3,964
|
|
|
|
-
|
|
|
|
-
|
|
|
|
3,964
|
|
Goodwill
acquired during the year
|
|
|
-
|
|
|
|
1,694
|
|
|
|
1,176
|
|
|
|
2,870
|
|
Balance
as of December 31, 2006-Restated
|
|
$
|
3,964
|
|
|
$
|
461
|
|
|
$
|
1,176
|
|
|
$
|
5,601
|
|
The
Company assesses the need to record impairment losses on our goodwill assets
at
least annually or when an event occurs or circumstances change that would
more
likely than not reduce the fair value of a reporting unit below its carrying
amount. The assessment includes using a combination of qualitative and
quantitative analyses such as DCF/PE multiples based on 5 year profit forecasts,
and published comparables, where applicable. The Company concluded that there
have been no material adverse changes on the operating environments during
the
reporting periods that would have otherwise affected the carrying value of
the
goodwill. In addition, there has been no disposal of any reporting subsidiaries
and, as a result, no gain or loss is recognized during those reporting
periods.
The
following table summarizes goodwill from the Company's acquisitions during
2006
and 2005:
|
|
For
the years ended December 31
|
|
|
|
2006
|
|
|
2005
|
|
(USD$'000s)
|
|
Restated
|
|
|
Restated
|
|
Epro
|
|
$
|
3,949
|
|
|
$
|
3,949
|
|
Smartime
(Soluteck)
|
|
|
15
|
|
|
|
15
|
|
iMobile
|
|
|
430
|
|
|
|
-
|
|
Wanrong
|
|
|
461
|
|
|
|
-
|
|
PacificNet
Games
|
|
|
746
|
|
|
|
-
|
|
Total
|
|
$
|
5,601
|
|
|
$
|
3,964
|
|
The
following table summarizes the intangible assets acquired from PacificNet
Games:
(USD000s)
|
|
December
31,
2006
|
|
Technology
|
|
$
|
353
|
|
Less:
Accumulated amortization
|
|
|
(30
|
)
|
Net
|
|
$
|
323
|
|
Amortization
expense related to intangible assets was $30,000 in the year ended December
31,
2006.
IMPAIRMENT
OF LONG-LIVED ASSETS
The
Company periodically assesses the need to record impairment losses on long-lived
assets, such as property, plant and equipment, and purchased intangible assets,
used in operations and its investments when indicators of impairment are
present
indicating the carrying value may not be recoverable. An impairment loss
is
recognized when estimated undiscounted future cash flows expected to result
from
the use of the asset plus net proceeds expected from disposition of the asset
(if any) are less than the carrying value of the asset. When impairment is
identified, the carrying amount of the asset is reduced to its estimated
fair
value. All goodwill will no longer be amortized and potential impairment
of
goodwill and purchased intangible assets with indefinite useful lives will
be
evaluated using the specific guidance provided by SFAS No. 142 and SFAS No.
144,
"Accounting for the Impairment or Disposal of Long-Lived Assets."
This
impairment analysis is performed at least annually. For investments in
affiliated companies that are not majority-owned or controlled, indicators
or
value generally include revenue growth, operating results, cash flows and
other
measures. Management then determines whether there has been a permanent
impairment of value based upon events and circumstances that have occurred
since
acquisition. It is reasonably possible that the impairment factors evaluated
by
management will change in subsequent periods, given that the Company operates
in
a volatile environment. This could result in material impairment charges
in
future periods.
During
the year ended December 31, 2005 the Company impaired goodwill as
follows:
(USD$'000s)
|
|
2005
|
|
|
|
Restated
|
|
Linkhead
|
|
$
|
3,423
|
|
Clickom
|
|
|
266
|
|
Total
|
|
$
|
3,689
|
|
There
was
no impairment of goodwill in the year ended December 31, 2006.
INVESTMENTS
IN AFFILIATED COMPANIES
The
Company's investments in affiliated companies for which its ownership exceeds
20%, but is not majority-owned or controlled, are accounted for using the
equity
method. The Company's investments in affiliated companies for which its
ownership is less than 20% are accounted for using the cost method.
COMPREHENSIVE
INCOME (LOSS)
Comprehensive
income (loss) consists of net earnings and other gains (losses) affecting
stockholders' equity that, under generally accepted accounting principles
are
excluded from net earnings in accordance with Statement of Financial Accounting
Standards ("SFAS") 130, Reporting Comprehensive Income.
REVENUE
RECOGNITION
Revenues
are derived from the following categories as classified by our operating
segments (see Note 15): (1) outsourcing services including Business Process
Outsourcing (BPO), call center, IT Outsourcing (ITO) and software development
services; (2) Telecom Value-Added Telecom Services (VAS) including Content
Providing (CP), Interactive Voice Response (IVR), Platform Providing (PP)
and
Service Providing (SP); and (3) Products (telecom & gaming) Services,
including calling cards, GSM/ CDMA/ XiaoLingTong products, and multimedia
self-service kiosks.
Revenues
from outsourcing services are recognized when the services are rendered.
Revenues from license agreements are recognized when a signed non-cancelable
software license exists, delivery has occurred, the Company's fee is fixed
or
determinable, and collectability is probable at the date of sale. Revenues
from
software development services are recognized when the customer accepts the
installation and no significant modification or customization work is involved,
in accordance with SOP 97-2 "Software Revenue Recognition." Revenues from
support services such as consulting, implementation and training services
are
recognized when the services are performed, collectability is probable and
such
revenues are contractually nonrefundable.
Revenues
from value-added telecom services are derived principally from providing
mobile
phone users with short messaging service ("SMS"), multimedia messaging service
("MMS"), color ring back tone ("CRBT"), wireless application protocol ("WAP")
and interactive voice response system ("IVR"). These services include news
and
other content subscriptions, mobile dating service, picture and logo download,
ring tones, ring back tones, mobile games, chat rooms and access to music
files.
These revenues from are charged on a monthly or per-usage basis and are
recognized in the period in which the service is performed, provided that
no
significant Company obligations remain, collection of the receivables is
reasonably assured and the amounts can be accurately estimated. In accordance
with EITF No. 99-19, "Reporting Revenues Gross as a Principal Versus Net
as an
Agent," revenues are recorded on a gross basis when the Company is considered
the primary obligor to the VAS users. Under the gross method, the amounts
billed
to VAS users are recognized as revenues and the fees charged or retained
by the
third-party operators are recognized as cost of revenues.
Revenues
from the sale of products and systems are recognized when the product and
system
is completed, shipped, and the risks and rewards of ownership have
transferred.
Revenues
from the distribution of all types of calling cards and product sales is
recognized in accordance with EITF No. 99-19, "Reporting Revenues Gross as
a
Principal Versus Net as an Agent," where revenues are recorded on a gross
basis
when the Company is considered the primary obligor to the users, maintains
an
inventory of products before the products are ordered by customers, has latitude
in establishing the pricing power of products, is subject to physical inventory
loss risk, and has credit risk as it is responsible for collecting the sales
price from the customer and is responsible for paying the supplier regardless
of
whether or not the sales price is fully collectible.
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
frequently monitors its customers' financial condition and credit worthiness
and
only sells products, licenses or services to customers where, at the time
of the
sale, collection is reasonably assured. If the financial condition of its
customers were to deteriorate, resulting in an impairment of their ability
to
make payments, additional allowances may be required. The Company also records
reserves for doubtful accounts 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, the Company's estimates
of the recoverability of receivables could be further adjusted. Allowance
for doubtful accounts at December 31, 2006 was approximately $3,400,000
(2005: $168,000).
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. Significant improvements and betterments
are
capitalized. Routine repairs and maintenance are expensed when incurred.
When
property and equipment is sold or otherwise disposed of, the asset account
and
related accumulated depreciation account are relieved, and any gain or loss
is
included in operations.
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.
The
inventories consist of finished goods and represent telecommunication products
such as mobile phone, rechargeable phone cards, smart chip, and interactive
voice response cards.
Income
taxes are accounted for using an asset and liability approach, which requires
the recognition of income taxes payable or refundable for the current year
and
deferred tax liabilities and assets for the future tax consequences of events
that have been recognized in the Company's consolidated financial statements
or
tax returns. The measurement of current and deferred tax liabilities and
assets
is based on provisions of the enacted tax laws; the effects of future changes
in
tax laws or rates are not anticipated. The measurement of deferred tax assets
is
reduced, if necessary, by the amount of any tax benefits that, based on
available evidence assessed using the criteria in SFAS No. 109, "Accounting
for
Income Taxes," will not more-likely-than-not be realized.
The
Company records a valuation allowance for deferred tax assets, if any, based
on
estimates of its future taxable income as well as its tax planning strategies
when it is more likely than not that a portion or all of its deferred tax
assets
will not be realized. If the Company is able to utilize more of its deferred
tax
assets than the net amount previously recorded when unanticipated events
occur,
an adjustment to deferred tax assets would be reflected in income when those
events occur.
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 years ended December 31, 2006 and 2005, the Company
did
not capitalize any costs related to the purchase of software and related
technologies and content.
EARNINGS
PER SHARE (EPS)
The
reconciliation of the numerators and denominators of the basic and diluted
EPS
calculations was as follows:
(In
thousands of US Dollars, except weighted shares and per share
amounts)
|
|
FY
2006
Restated
|
|
|
FY
2005
Restated
|
|
Numerator:
Net loss
|
|
$
|
(12,415
|
)
|
|
$
|
(5,145
|
)
|
Denominator:
|
|
|
|
|
|
|
|
|
Weighted-average
shares used to compute basic & diluted loss per share
|
|
|
11,538,664
|
|
|
|
10,156,809
|
|
Basic
& Diluted loss per common share:
|
|
$
|
(1.08
|
)
|
|
$
|
(0.51
|
)
|
Prior
to
January 1, 2006, PacificNet accounted for awards granted under stock-based
compensation plans following the recognition and measurement principles of
APB
25, Accounting for Stock Issued to Employees, and related
interpretations. Compensation expense, if any, is recognized for awards granted
at an exercise price less than fair market value of the underlying common
stock
on the date of grant.
Effective
January 1, 2006, PacificNet adopted the fair value recognition provisions
of
SFAS 123(R). See Item 6 for a description of the Company’s adoption of SFAS
123R.The fair value of stock options is determined using the Black-Scholes
option pricing model, which is consistent with the valuation techniques
previously utilized for options in footnote disclosures required under SFAS
123,as amended by FASB Statement No. 148, “Accounting for Stock-Based
Compensation - Transition and Disclosure.” The determination of the fair value
of stock-based compensation awards on the date of grant using an option-pricing
model is affected by the Company’s stock price as well as assumptions regarding
a number of complex and subjective variables, including the expected volatility
of the Company’s stock price over the term of the awards, actual and projected
employee stock option exercise behaviors, risk-free interest rate and expected
dividends. The compensation costs, which approximated $242,473 for year 2006,
are recognized on a straight-line base over the option vesting term and the
amortized cost is included in selling, general and administrative expenses.
The
valuation provisions of SFAS 123(R) apply to new grants and unvested grants
that
were outstanding as of the effective date.
During
year 2006, we had 370,500 stock options exercisable, 394,000 options were
exercised, and 680,000 options granted in year 2005 were cancelled. The board
also authorized to issue 500,000 options on September 21, 2006. However due
to
the increasing cost of option administration, the board of directors decided
to
cancel all options authorized during year 2005 and 2006, and plan to issue
restricted stock or stock appreciation right (SAR) for future executive and
employee incentive compensation. See note 12 b) for the status of the Company’s
stock option plan.
Additional
information on options outstanding as of December 31, 2006 is as
follows:
|
WEIGHTED
AVERAGE
EXERCISE
PRICE
|
OPTIONS
|
WEIGHTED
AVERAGE
REMAINING
CONTRACTUAL
LIFE
|
Options
outstanding
|
$2.00
|
370,500
|
0.57 years
|
Options
exercisable
|
$2.00
|
370,500
|
0.57
years
|
On
March
13, 2006, we completed a private placement in which we sold $8,000,000 in
convertible debentures and issued warrants to purchase up to an aggregate
of
400,000 shares of common stock. The debentures are convertible at any time
into
shares of our common stock at an initial fixed conversion price of $10.00
per
share, subject to adjustments for certain dilutive events. The debentures
are
due March 13, 2009. The warrants are exercisable for a period of five years
at
an exercise price of $12.20 per share. At the closing of the private placement,
we prepaid the first year's interest on debentures equal to 5% of the aggregate
principal amount of debentures. We will pay interest in cash or shares, provided
that certain conditions are met, at the rate of 6% for the second year the
debentures are outstanding and then 7% for the third. Beginning January 1,
2007,
we are obligated to redeem up to $320,000 every month, plus accrued, but
unpaid
interest, liquidated damages and penalties. We also have the option to prepay
the debentures at any time, provided that certain conditions have been met,
after the 12 month anniversary of the effective date of the registration
statement that has been filed with the Securities and Exchange Commission
with
respect to the common stock issuable upon conversion of the debentures, some
or
all of the outstanding debentures for cash in an amount equal to 120% of
the
principal amount outstanding, plus accrued, but unpaid interest, liquidated
damages and penalties outstanding. At any time after the six month anniversary
of the effective date of the registration statement, we may force the holders
to
convert up to 50% of the then outstanding principal amount of the debentures,
subject to certain trading conditions being met. If any event of default
occurs
under the debentures or other related documents, the holders may elect to
accelerate the payment of the outstanding principal amount of the debenture,
plus accrued, but unpaid interest, liquidated damages and penalties, which
shall
become immediately due and payable.
Under
the
terms of a registration rights agreement entered into at the time of the
private
placement, the Company was obligated to file a registration statement with
respect to the shares issuable under the debenture and the warrants by April
30,
2006, and have the registration statement declared effective by the SEC no
later
than June 28, 2006. Due to various factors, the Company did not file the
registration statement until May 15, 2006, and it was not declared effective
until December 8, 2006. Therefore, under the terms of the registration rights
agreement, the Company was obligated to pay liquidated damages to
the investors at the rate of 2% of the principal amount of the debenture
each month beginning on June 28, 2006 until the effectiveness of the
registration statement, which was equal to $1,120,000, in the
aggregate.
In
February 2007, upon reaching an agreement on the amount and payment of accrued
liquidated damages, the Company signed a Settlement and Release Agreement
with
each of the investors. Under the terms of the Settlement and Release Agreements,
the Company paid an aggregate $140,000 in cash as satisfaction in full of
liquidated damages owed to Basso Fund Ltd., Basso Multi-Strategy Holding
Fund
Ltd. and Basso Private Opportunities Holding Fund Ltd.. Partial liquidated
damages owed to Whalehaven Capital Fund Ltd. were paid in the amount of $35,000
in cash, with the remaining liquidated damages in the amount of $105,000
paid in
the form of a new convertible debenture due February 2009, on substantially
the
same terms as the original debentures, except that interest only is paid
on the
new debentures until October 2008 and beginning in November 2008 until February
2009, when the new debentures are due, the monthly redemption amount under
the
new debentures shall be equal to $315,000. The remaining investors also agreed
to accept the aggregate $840,000 in liquidated damages owed to them in the
form
of the new convertible debentures for the amount of their respective portion
of
the liquidated damages. The Company also agreed to amend the original debentures
to shorten the term for payment of the original principal amount to a 22
month
term. As a result the monthly redemption amount for the original debenture
increased from $320,000 to $ 363,638. All other terms and conditions of the
original debenture remains in full force and effect.
C.E.
Unterberg, Towbin L.L.C. acted as placement agent and received a negotiated
cash
fee in the amount of $449,500 and a warrant to purchase up to 16,000 shares
at
an exercise price of $12.20 per share, which expire five years from the date
of
issuance. The fair value of these warrants totaled $28,141. Such amount was
charged to other assets, net, and credited to additional paid-in capital
and
will be amortized over the life of the debentures. Maxim Group also acted
as
Placement Agent and received a cash fee in the amount of $50,000.
In
connection with the issuance of the debentures, the Company incurred $1,106,135
of issuance costs, which primarily consisted of investment banker fees, legal
and other professional fees. These costs have been recorded as additional
expense during year 2006.
The
gross
proceeds of $8,000,000 are recorded as a current debenture liability. In
addition, fair values attributed to the Investors’ warrants in accordance with
EITF issue No. 00-19 “Accounting for Derivative Financial Instruments Indexed to
and Potentially Settled in a Company’s Own Stock” are recorded as liabilities.
The initial value related to the Investors’ warrants is $690,642. An aggregate
loss of $213,692 representing the change in fair value of warrants was
recognized during the twelve months ended December 31, 2006.
In
accordance with recent FASB guidance, due to certain factors, including a
liquidated damages provision in the registration rights agreement, the Company
values and accounts for the embedded conversion feature and the warrants
related
to the debentures as derivatives. Accordingly, these derivative liabilities
are
measured at fair value with changes in fair value reported in earnings as
long
as they remain classified as liabilities. The Company reassesses the
classification at each balance sheet date. If the classification required
under
EITF No. 00-19 changes as a result of events during the period, the contract
should be reclassified as of the date of the event that caused the
reclassification.
EVENT
OF
DEFAULT
On
March
16, 2007, the predecessor auditor withdrew their opinion on our previously
filed
financial statements for the years ended December 31, 2005, December 31,
2004
and December 31, 2003. As a result, on March 27, 2007, we notified the holders
of the outstanding convertible debenture that we suspended use of the prospectus
contained in our Registration Statement on Form S-1 (File No. 333-134127)
that
was declared effective on December 8, 2006, due to the lack of fiscal year
end
2005 and 2004 audited financial statements and that they must cease selling
under the prospectus. The suspension of the use of the prospectus after April
17, 2007, triggered an event of default under the registration rights agreement
and the convertible debentures, and if any of the holders so elect, they
can
accelerate and demand payment under the debentures, in accordance with the
registration rights agreement based on the following provisions.
|
a)
|
If,
during the Effectiveness Period, either the effectiveness of the
Registration Statement lapses for any reason or the Holder shall
not be
permitted to resell Registrable Securities under the Registration
Statement for a period of more than 20 consecutive Trading Days
or 60
non-consecutive Trading Days during any 12 month period, the Company
has
to pay ‘Mandatory Default Amount’
as
|
the
sum
of (i) the greater of (A) 130% of the outstanding principal amount of this
Debenture, plus all accrued and unpaid interest hereon, or (B) the outstanding
principal amount of this Debenture, plus all accrued and unpaid interest
hereon,
divided by the Conversion Price on the date the Mandatory Default Amount
is
either (a) demanded (if demand or notice is required to create an Event of
Default) or otherwise due or (b) paid in full, whichever has a lower Conversion
Price, multiplied by the VWAP on the date the Mandatory Default Amount is
either
(x) demanded or otherwise due or (y) paid in full, whichever has a higher
VWAP,
and (ii) all other amounts, costs, expenses and liquidated damages due in
respect of this Debenture."
|
b)
|
If
any Event of Default occurs, the outstanding principal amount of
this
Debenture plus accrued but unpaid interest, liquidated damages
and other
amounts owing in respect thereof through the date of acceleration,
shall
become, at the Holder’s selection, immediately due and payable in cash at
the Mandatory Default Amount. Commencing 5 days after the occurrence
of
any Event of Default that results in the eventual acceleration
of this
Debenture, the interest rate on this Debenture shall accrue at
an interest
rate equal to the lesser of 18% per annum or the maximum rate permitted
under applicable law.
|
The
provisions mentioned above and as per the terms of the Debenture, the Company
has reclassified the principal amount of the Debenture of $8,000,000 and
the
principal amount of the new Debenture of $945,000 and the interest accrued
thereon to the current liability.
The
Company accrued 2% as liquidated damages and 30% as mandatory default amount
from the date of ineffectiveness of registration statement as
follows:
($,000)
|
|
|
2006
|
|
Liquidated
damages
|
2%
|
|
$
|
450
|
|
Mandatory
default
|
30%
|
|
|
2,247
|
|
Total
|
|
|
$
|
2,697
|
|
The
Company also expensed the unamortized discount of $691,000 to expense for
the
year ended December 31, 2006.
Advertising
expenses consist primarily of costs of promotion for corporate image and
product
marketing and costs of direct advertising. The Company expenses all advertising
costs as incurred and classify these costs under selling, general and
administrative expenses, which amounted to $31,052 in 2006 (2005:
$129,000).
CASH
EQUIVALENTS
Cash
and
cash equivalents comprise cash at bank and on hand, demand deposits with
banks
and other financial institutions, and short-term, highly liquid investments
that
are readily convertible to known amounts of cash and which are subject to
an
insignificant risk of changes in value. Bank overdrafts that are repayable
on
demand and form an integral part of the PacificNet's cash management are
also
included as a component of cash and cash equivalents for the purpose of the
cash
flow statement. Highly liquid investments with original maturities of three
months or less are considered cash equivalents.
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 14)
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.
FAIR
VALUE OF FINANCIAL INSTRUMENTS
Fair
value is described as the amount at which the instrument could be exchanged
in a
current transaction between informed willing parties, other than a forced
liquidation. Cash and cash equivalents, accounts receivable and payable,
accrued
expenses and other current liabilities are reported on the consolidated balance
sheets at carrying value which approximates fair value due to the short-term
maturities of these instruments. The Company does not have any off balance
sheet
financial instruments.
CONCENTRATION
OF CREDIT RISK
CASH
HELD
IN BANKS. For those financial institutions that the Company maintains cash
balances in the United States, the amounts are insured by the Federal Deposit
Insurance Corporation up to $100,000.
GEOGRAPHIC
RISK. All of the Company's revenues are derived in Asia and Greater China
and
its operations are governed by Chinese laws and regulations. The operations
in
China are carried out by the subsidiaries and VIEs. If the Company was unable
to
derive any revenue from Asia and Greater China, it would have a significant,
financially disruptive effect on the normal operations of the
Company.
SIGNIFICANT
RELATIONSHIPS. A substantial portion of the operations of the Company's VIEs
(Dianxun-DE and Sunroom-DE) business operations depend on mobile
telecommunications operators (operators) in China and any loss or deterioration
of such relationship may result in severe disruptions to their business
operations and the loss of a significant portion of the Company's revenue.
The
VIEs rely entirely on the networks and gateways of these operators to provide
its wireless value-added services. Specifically these operators are the only
entities in China that have platforms for wireless value-added services.
The
Company's agreements with these operators are generally for a period of less
than one year and generally do not have automatic renewal provisions. If
neither
of them is willing to continue to cooperate with the Company, it would severely
affect the Company's ability to conduct its existing wireless value-added
services business.
MARKETABLE
EQUITY SECURITIES
Marketable
equity securities are classified as available-for-sale and are recorded at
fair
value in other assets on the balance sheet, with the change in fair value
during
the period excluded from earnings and recorded net of tax as a component
of
other comprehensive income. Realized gains or losses are charged to the income
statement during the period in which the gain or loss is realized. Investments
classified as available-for-sale securities include marketable equity securities
of Unit Trust Funds and are based primarily on quoted market prices at December
31, 2006. The component costs of these securities are summarized as follows:
cost of $559,000, gross unrealized losses of $1,000 and estimated fair value
of
$558,000 as at December 31, 2006 and cost of $586,000, gross unrealized losses
of $47,000 and estimated fair value of $539,000 as at December 31, 2005.
The
acquisition of marketable securities and unrealized losses on marketable
equity
securities are recorded on consolidated statements of cash flows.
FOREIGN
CURRENCY
The
Company's reporting currency is the U.S. dollar. The Company's operations
in
China and Hong Kong use their respective currencies as their functional
currencies. The financial statements of these subsidiaries are translated
into
U.S. dollars using period-end rates of exchange for assets and liabilities
and
average rates of exchange in the period for revenue and expenses. Translation
gains and losses are recorded in accumulated other comprehensive income or
loss
as a component of shareholders' equity. Net gains and losses resulting from
foreign exchange transactions are included in General and Administrative
Expenses an amount of US $16,000. During the year ended December 31, 2006,
the
foreign currency translation adjustments to the Company's comprehensive income
was $27,000 and the currency translation gain was approximately $72,000,
primarily as a result of the Hong Kong dollars appreciating against the U.S.
dollar.
The
Company determines and classified its operating segments in accordance with
SFAS
No. 131 "DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION"
based on the following considerations: (a) each of the Company's operating
segments is a discrete business unit that earns revenues and incurs expenses;
(b) the operating results are regularly reviewed by PacificNet's chief operating
decision makers for the purposes of fine-tuning its strategies going forward,
making resource allocation decisions such as whether further working capital
advances are required and assessing individual performance; and (c) discrete
financial information for each subsidiary within each operating segment is
available. The chief operating decision makers are the Company's President
and
CEO and its Chairman, and their decisions are based on discussions with each
segment's senior management and financial controllers regarding non-financial
indicators such as customer satisfaction, loyalty and new marketplace
competition as well as financial indicators such as internally generated
financial statements, to assess overall financial performance.
GOING
CONCERN
As
shown
in the accompanying consolidated financial statements, the Company incurred
accumulated losses of $51.1 million and $38.6 million as of December 31,
2006
and December 31, 2005, respectively. Negative cash flows from the operations
of
$8.2 million were noted for the year ended December 31, 2006. These matters
raise substantial doubt about the Company’s ability to continue as a going
concern.
In
view
of the matters described in the preceding paragraph, recoverability of a
major
portion of the recorded asset amounts shown in the accompanying balance sheet
is
dependent upon continued operations of the Company, which in turn is dependent
upon the Company’s ability to raise additional capital, obtain financing and to
succeed in its future operations. The financial statements do not include
any
adjustments relating to the recoverability and classification of recorded
asset
amounts or amounts and classification of liabilities that might be necessary
should the Company be unable to continue as a going concern.
The
Company has taken certain restructuring steps to provide the necessary capital
to continue its operations. These steps included, but not limited to: 1)
accelerate disposal and spin-off of unprofitable or unfavorable
return-on-investment non-gaming operations. On April 30, 2007, the Company
entered into a sale and purchase agreement to dispose of its interest in
Guangzhou3G for a consideration of US$6 million. On May 5, 2007, the Company
also entered into a sale and purchase agreement to dispose of the real estate
in
HK for approximately US$1 million; 2) focus on execution of the new high
potential gaming business initiatives; 3) acquisition of profitable and/or
strategic operations through issuance of equity instruments; 4) formation
of
strategic relationship with key gaming operators in Asia; 5) issuance and/or
restructure of new long-term convertible debentures.
Recent
Pronouncements
In
February 2007, FASB issued FASB Statement No. 159, The Fair Value Option
for
Financial Assets and Financial Liabilities. FAS 159 is effective for fiscal
years beginning after November 15, 2007. Early adoption is permitted subject
to
specific requirements outlined in the new Statement. Therefore, calendar-year
companies may be able to adopt FAS 159 for their first quarter 2007 financial
statements.
The
new
Statement allows entities to choose, at specified election dates, to measure
eligible financial assets and liabilities at fair value that are not otherwise
required to be measured at fair value. If a company elects the fair value
option
for an eligible item, changes in that item's fair value in subsequent reporting
periods must be recognized in current earnings. FAS 159 also establishes
presentation and disclosure requirements designed to draw comparison between
entities that elect different measurement attributes for similar assets and
liabilities. The management is currently evaluating the effect of this
pronouncement on financial statements.
In
September 2006, FASB issued SFAS 158 ‘Employers’ Accounting for Defined Benefit
Pension and Other Postretirement Plans—an amendment of FASB Statements No. 87,
88, 106, and 132(R)’ This Statement improves financial reporting by requiring an
employer to recognize the over funded or underfunded status of a defined
benefit
postretirement plan (other than a multiemployer plan) as an asset or liability
in its statement of financial position and to recognize changes in that funded
status in the year in which the changes occur through comprehensive income
of a
business entity or changes in unrestricted net assets of a not-for-profit
organization. The Company currently does not have any defined benefit plan
and
so FAS 158 will not affect the financial statements.
In
September 2006, FASB issued SFAS 157 ‘Fair Value Measurements’. This Statement
defines fair value, establishes a framework for measuring fair value in
generally accepted accounting principles (GAAP), and expands disclosures
about
fair value measurements. This Statement applies under other accounting
pronouncements that require or permit fair value measurements, the Board
having
previously concluded in those accounting pronouncements that fair value is
the
relevant measurement attribute. Accordingly, this Statement does not require
any
new fair value measurements. However, for some entities, the application
of this
Statement will change current practice. This Statement is effective for
financial statements issued for fiscal years beginning after November 15,
2007,
and interim periods within those fiscal years. The management is currently
evaluating the effect of this pronouncement on financial
statements.
In
March
2006 FASB issued SFAS 156 “Accounting for Servicing of Financial Assets.” This
Statement amends FASB Statement No. 140, “Accounting for Transfers and Servicing
of Financial Assets and Extinguishments of Liabilities,” with respect
to the accounting for separately recognized servicing assets and servicing
liabilities. The Company does not have any servicing assets and therefore
the
statement will not have any impact on the financial statements.
In
February 2006, FASB issued SFAS No. 155, “Accounting for Certain Hybrid
Financial Instruments.” SFAS No. 155 amends SFAS No 133, “Accounting for
Derivative Instruments and Hedging Activities,” and SFAF No. 140, “Accounting
for Transfers and Servicing of Financial Assets and Extinguishments of
Liabilities.” SFAS No. 155, permits fair value remeasurement for any hybrid
financial instrument that contains an embedded derivative that otherwise
would
require bifurcation, clarifies which interest-only strips and principal-only
strips are not subject to the requirements of SFAS No. 133, establishes a
requirement to evaluate interest in securitized financial assets to identify
interests that are freestanding derivatives or that are hybrid financial
instruments that contain an embedded derivative requiring bifurcation, clarifies
that concentrations of credit risk in the form of subordination are not embedded
derivatives, and amends SFAS No. 140 to eliminate the prohibition on the
qualifying special-purpose entity from holding a derivative financial instrument
that pertains to a beneficial interest other than another derivative financial
instrument. The management is currently evaluating the effect of this
pronouncement on financial statements.
2.
BUSINESS ACQUISITIONS
During
2006 and 2005, PacificNet acquired various entities in accordance with the
Company's strategy to grow via mergers and acquisitions. The entities acquired
met various PacificNet acquisition criteria, which include reasonable
expectations for positive earnings and cash flow within two years of acquisition
and reputation for high quality and performance in the customer relationship
management, brand name recognition, and well-established relationships with
clients. Several factors contributed to the determination of the negotiated
purchase price and deal structure. Among them were the value of assets acquired
and liabilities assumed, historical EBITDA and projected EBITDA. The assets
acquired and liabilities assumed were recorded at estimated fair values as
determined by the Company's management based on information currently available
and on current assumptions as to future operations
A
summary
of business acquisitions for the periods presented follows:
On
January 31, 2006, the Company, through its subsidiary PacificNet Strategic
Investment Holdings Limited, consummated the acquisition of a 51% controlling
interest in Guangzhou Wanrong Information Technology Co. Limited (Guangzhou
Wanrong), one of the leading value-added telecom service providers in China,
located in PRC Guangzhou. Since its inception in 2003, Guangzhou Wanrong
has
achieved strong growth in its VAS including SMS, WAP, JAVA, MMS, IVR, multimedia
entertainment download services, media interactive products, mobile email
services, life, sports, entertainment, and business information services.
Guangzhou Wanrong was granted nationwide SMS service numbers "2388" for China
Mobile and "9928" for China Unicom. Wanrong's integrated value-added mobile
services system is valuable for the implementation of PacificNet's "iPACT
program", a standard service-mark for PacificNet's VAS profit-sharing alliance
partnership program.
The
consideration was paid as follows:
(i)
The
purchase consideration for 51% of the equity interest of Guangzhou Wanrong
was
approximately US $1.75million, payable 21% in cash and 79% in restricted
shares
of PacificNet common stock valued at $8 per share, or about 173,000 restricted
shares.
(ii)
Under the purchase agreement, Guangzhou Wanrong has made a guarantee to generate
US $500,000 in annual net income. In the event of a shortfall, the purchase
price will be adjusted accordingly.
(iii)
PacificNet will also invest approximately RMB 3 million (or about US $370,000)
in Guangzhou Wanrong for general corporate purposes. The purchase price is
payable upon achievement of certain quarterly earn-out targets based on net
income.
The
cash
portion of the purchase consideration was paid from working capital of the
Company. The value of the common shares issued was determined based on the
average market price of PacificNet's common shares over a reasonable period
before and after the terms of the acquisition were agreed to and
announced.
A
summary
of the assets acquired and liabilities for Guangzhou Wangrong assumed in
the
acquisition follows:
Estimated
fair values:
|
|
Restated
|
|
Current
Assets
|
|
$
|
185,050
|
|
Property
Plan and equipment
|
|
|
-
|
|
Current
Liabilities assumed
|
|
|
-
|
|
Net
asset acquired
|
|
|
185,050
|
|
Consideration
paid:
|
|
|
646,158
|
|
Shares
|
|
|
-
|
|
Cash
paid
|
|
|
-
|
|
Goodwill
|
|
$
|
461,108
|
|
As
of
December 31, 2006, goodwill of $461,108 represents the excess of the purchase
price over the fair value of the assets acquired and is not deductible for
tax
purposes. The total amount of goodwill by reportable segment for Telecom
Value-added Services was $461,000 (see Note 15).
In
accordance with SFAS 142, goodwill is not amortized but is tested for impairment
at least annually. The purchase price allocation for Guangzhou Wanrong
acquisition is based on a management's estimates and overall industry
experience. Immediately after the signing of the definitive agreement, the
Company obtained effective control over Guangzhou Wanrong. Accordingly, the
operating results of Guangzhou Wanrong have been consolidated with those
of the
Company starting January 31, 2006. Pursuant to SFAS 141 "Business Combinations",
the earn-out consideration was considered contingent consideration and after
the
audited combined after-tax profit of US $500,000 for the 12 months ended
December 31, 2006 is available. Accordingly, the contingent consideration
of
138,348 shares has not been reflected in the consolidated financial statements
of the Company as of December 31, 2006.
UNAUDITED
PRO FORMA CONSOLIDATED FINANCIAL INFORMATION DISCLOSURE FOR THE YEAR ENDED
DECEMBER 31, 2006 AND 2005
The
following un-audited pro forma consolidated financial information for the
years
ended December 31, 2006 and 2005, as presented below, reflects the results
of
operations of the Company assuming the acquisition occurred on January 1,
2005
and 2006 respectively, and after giving effect to the purchase accounting
adjustments. These pro forma results have been prepared for information purposes
only and do not purport to be indicative of what operating results would
have
been had the acquisitions actually taken place on January 1, 2005 and 2006
respectively, and may not be indicative of future operating
results.
Guangzhou
Wanrong
|
|
Years
ended December 31
|
|
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
(In
thousands of U.S Dollars, except for earnings per share)
|
|
Restated
(Unaudited)
|
|
|
Restated
(Unaudited)
|
|
|
Restated
(Unaudited)
|
|
Revenues
|
|
$
|
43,692
|
|
|
$
|
18,271
|
|
|
$
|
11,598
|
|
Operating
loss
|
|
|
(6,354
|
)
|
|
|
(5,610
|
)
|
|
|
(6,547
|
)
|
Net
loss attributable to shareholders
|
|
|
(12,437
|
)
|
|
|
(5,145
|
)
|
|
|
(5,581
|
)
|
Loss
per share – basic & diluted
|
|
$
|
(1.08
|
)
|
|
$
|
(0.51
|
)
|
|
$
|
(0.80
|
)
|
PacificNet
included the financial results of Guangzhou Wanrong in its consolidated 2006
financial results from the date of the purchase, January 31, 2006 through
December 31, 2006.
PACIFICNET
IMOBILE (BEIJING) TECHNOLOGY CO., LIMITED (INCORPORATED IN THE
PRC)
On
February 26, 2006, PacificNet acquired a 51% majority interest in PacificNet
iMobile (Beijing) Technology Co., Ltd ("iMobile"), one of the leading Internet
information portal and e-commerce distributors for mobile phone and accessories
and mobile related value-added service providers in China. iMobile operates
its
e-commerce business via two Internet portals, "http://www.iMobile.com.cn"
and
"http://www.18900.com" and one WAP portal "17wap.com" for mobile phone browsing.
In addition, iMobile's 18900.com operation is the designated Internet
distributor for Motorola, Nokia, and NEC's mobile products in China. iMobile's
Internet portal has been one of the top ranked traffic sites and has achieved
about 5.4 million registered online users and over 1,200,000 active users,
with
10 million daily page views and 40,000 blog postings per day, which makes
iMobile the top ranked site in its category in China. This acquisition was
structured in the same manner as our other acquisitions, that are classified
and
accounted for as variable interest entities in accordance with FASB
Interpretation No. 46R "Consolidation of Variable Interest Entities" ("FIN
46R"), an Interpretation of Accounting Research Bulletin No. 51.), with
operation and services agreements between Beijing Xing Chang Xin Science
and
Technology Development Co. Limited Incorporated DE and PacificNet Imobile
(Beijing) Technology, Co. Ltd. WOFE. The results of variable interest entities
acquired during the period are included in the consolidated income statements
from the effective date of the acquisition.
The
consideration was paid as follows:
(i)
The
purchase consideration for 51% of the equity interest of iMobile is
approximately US $1.8 million, which represents approximately seven times
the
anticipated future annual net income of iMobile.
(ii)
The
purchase consideration is payable 14% in cash and 86% in restricted shares
of
PacificNet valued at $8 per share, or about 191,875 restricted shares The
purchase price is payable upon achievement of certain quarterly earn-out
targets
based on net income.
(iii)
Under the purchase agreement, iMobile has committed to generate US $500,000
in
annual net income. In the event of a shortfall, the purchase price will be
adjusted accordingly.
(iv)
PacificNet will also invest approximately RMB 2 million (about US $250,000)
in
iMobile for general corporate and working capital purposes to support growth.
The purchase price is payable upon achievement of certain quarterly earn-out
targets based on net income.
The
cash
portion of the purchase consideration was paid from working capital of the
Company. The value of the common shares issued was determined based on the
average market price of PacificNet's common shares over a reasonable period
before and after the terms of the acquisition were agreed to and
announced.
A
summary
of the assets acquired and liabilities for iMobile assumed in the acquisition
follows:
Estimated
fair values:
|
|
Restated
|
|
Current
Assets
|
|
$
|
127,500
|
|
Property
Plan and equipment
|
|
|
-
|
|
Current
Liabilities assumed
|
|
|
-
|
|
Net
asset acquired
|
|
|
127,500
|
|
Consideration
paid:
|
|
|
557,000
|
|
Goodwill
|
|
$
|
429,500
|
|
At
December 31, 2006, goodwill of $429,500 represents the excess of the purchase
price over the fair value of the net tangible and identifiable intangible
assets
acquired and is not deductible for tax purposes and the total amount of goodwill
by reportable segment for Products (Telecom & Gaming) was $2,155,000. (See
Note 15)
In
accordance with SFAS 142, goodwill is not amortized but is tested for impairment
at least annually. The purchase price allocation for iMobile acquisition
is
based on a management's estimates and overall industry experience. Immediately
after the signing of the definitive agreement, the Company obtained effective
control over iMobile. Accordingly, the operating results of iMobile have
been
consolidated with those of the Company starting February 26, 2006. Pursuant
to
SFAS 141 "Business Combinations", the earn-out consideration is considered
contingent consideration, which will not become certain until the audited
combined after-tax profit of US $500,000 for the 12 months ended December
31,
2006 is available. Accordingly, the contingent consideration of 153,500 shares
has not been reflected in the consolidated financial statements of the Company
as of December 31, 2006.
UNAUDITED
PRO FORMA CONSOLIDATED FINANCIAL INFORMATION DISCLOSURE FOR THE YEAR ENDED
DECEMBER 31, 2006 AND 2005
The
following un-audited pro forma consolidated financial information for the
years
ended December 31, 2005 and 2006, as presented below, reflects the results
of
operations of the Company assuming the acquisition occurred on January 1,
2005
and 2006 respectively, and after giving effect to the purchase accounting
adjustments. These pro forma results have been prepared for information purposes
only and do not purport to be indicative of what operating results would
have
been had the acquisitions actually taken place on January 1, 2005 and 2006
respectively, and may not be indicative of future operating
results.
iMobile
|
|
Years
ended December 31
|
|
(In
thousands of U.S Dollars, except for earnings per share)
|
|
2006
Restated
(Unaudited)
|
|
|
2005
Restated
(Unaudited)
|
|
|
2004
Restated
(Unaudited)
|
|
Revenues
|
|
$
|
43,285
|
|
|
$
|
24,201
|
|
|
$
|
16,303
|
|
Operating
loss
|
|
|
(6,221
|
)
|
|
|
(5,695
|
)
|
|
|
(6,221
|
)
|
Net
loss attributable to shareholders
|
|
|
(12,407
|
)
|
|
|
(5,181
|
)
|
|
|
(5,413
|
)
|
Loss
per share – basic & diluted
|
|
$
|
(1.08
|
)
|
|
$
|
(0.51
|
)
|
|
$
|
(0.77
|
)
|
PacificNet
included the financial results of iMobile in its consolidated 2006 financial
results from the date of the purchase, February 26, 2006 through December
31,
2006.
PACIFICNET
GAMES LIMITED
On
August
3, 2006, PacificNet’s wholly owned subsidiary PacificNet Games Limited
(“PacGames”, [太平洋网络游戏有限公司])
completed the acquisition of 100% of Able Entertainment Technology Ltd.,
a
leading gaming technology provider based in the Macau Special Administrative
Region of China. Upon completion of this transaction, the Company owned 35%
of
PacificNet Games Limited. Under the purchase agreement, Able Entertainment
Technology Ltd represented that is expects to generate an annual profit of
USD
$1,600,000 and will provide for an adjustment to the purchase price if PacGames
does not achieve an annual net profit of USD $1,600,000 during the first
12-month period ended June 30, 2007, and USD $3,000,000 during the second
12-month period ended June 30, 2008.
The
purchase price consideration is 200,000 restricted PACT shares in exchange
for
100% of the issued and outstanding shares of Able Entertainment Technology
Ltd.
or a 35% ownership interest in PacGames. As of December 31, 2006, 40,000
total
restricted shares of PacificNet had been issued for the acquisition and 160,000
shares were held back as contingent consideration payable upon completion
of
certain earnings criteria pursuant to the purchase agreement.
On
September 22, 2006, PACT acquired another 10% of PacGames in exchange for
57,100
restricted shares of the Company’s common stock. Those shares have been issued
out according to sale and purchase agreement.
On
November 9, 2006, we acquired an additional 6% interest in PacificNet Games
Limited (PacGames) for a consideration of $504,000 (paid entirely with shares
of
PacificNet: 90,000 PACT Shares, valued at $5.60 per share, price on the day
of
transaction). Those shares have been issued out according to sale and purchase
agreement. The company currently owns 51% of PacGames.
The
cash
portion of the purchase consideration was paid from working capital of the
Company. The value of the common shares issued was determined based on the
average market price of PacificNet's common shares over a reasonable period
before and after the terms of the acquisition were agreed to and
announced.
A
summary
of the assets acquired and liabilities for PacGames assumed in the acquisition
follows:
Estimated
fair values:
|
|
Restated
|
|
Current
Assets
|
|
$
|
642,111
|
|
Property
Plan and equipment
|
|
|
25,051
|
|
Intangible
asset
|
|
|
179,858
|
|
Current
Liabilities assumed
|
|
|
(291,598
|
)
|
Net
asset acquired
|
|
|
555,422
|
|
Consideration
paid:
|
|
|
1,301,811
|
|
Goodwill
|
|
$
|
746,389
|
|
At
December 31, 2006, goodwill of $746,389 represents the excess of the purchase
price over the fair value of the net tangible and identifiable intangible
assets
acquired and is not deductible for tax purposes and the total amount of goodwill
by reportable segment for Products (Telecom & Gaming) was
$2,155,000.
In
accordance with SFAS 142, goodwill is not amortized but is tested for impairment
at least annually. The purchase price allocation for PacGames acquisition
is
based on a management's estimates and overall industry experience. Immediately
after the signing of the definitive agreement, the Company obtained effective
control over PacGames. Accordingly, the operating results of PacGames have
been
consolidated with those of the Company starting March 30, 2006. Pursuant
to SFAS
141 "Business Combinations", the earn-out consideration is considered contingent
consideration, which will not become certain until the audited combined
after-tax profit of US $700,000 for the year ended December 31, 2006 is
available. Accordingly, the contingent consideration of 160,000 shares has
not
been reflected in the consolidated financial statements of the Company as
of
December 31, 2006.
The
following table summarizes the intangible assets acquired from PacificNet
Games:
(USD000s)
|
|
December
31,
2006
|
|
|
December
31,
2005
|
|
Technology
|
|
$
|
353
|
|
|
$
|
-
|
|
Less:
Accumulated amortization
|
|
|
(30
|
)
|
|
|
-
|
|
Net
|
|
$
|
323
|
|
|
$
|
-
|
|
Amortization
expense related to intangible assets was $30,000 in the year ended December
31,
2006.
UNAUDITED
PRO FORMA CONSOLIDATED FINANCIAL INFORMATION DISCLOSURE FOR THE YEAR ENDED
DECEMBER 31, 2006 AND 2005
The
following un-audited pro forma consolidated financial information for the
years
ended December 31, 2005 and 2006, as presented below, reflects the results
of
operations of the Company assuming the acquisition occurred on January 1,
2005
and 2006 respectively, and after giving effect to the purchase accounting
adjustments. These pro forma results have been prepared for information purposes
only and do not purport to be indicative of what operating results would
have
been had the acquisitions actually taken place on January 1, 2005 and 2006
respectively, and may not be indicative of future operating
results.
PACT
Games
|
|
Years
ended December 31
|
|
(In
thousands of U.S Dollars, except for earnings per share)
|
|
2006
Restated
(Unaudited)
|
|
|
2005
Restated
(Unaudited)
|
|
|
2004
Restated
(Unaudited)
|
|
Revenues
|
|
$
|
44,176
|
|
|
$
|
17,307
|
|
|
$
|
10,857
|
|
Operating
loss
|
|
|
(5,585
|
)
|
|
|
(5,608
|
)
|
|
|
(6,242
|
)
|
Net
loss attributable to shareholders
|
|
|
(12,381
|
)
|
|
|
(5,145
|
)
|
|
|
(5,424
|
)
|
Loss
per share – basic & diluted
|
|
$
|
(1.07
|
)
|
|
$
|
(0.51
|
)
|
|
$
|
(0.77
|
)
|
Accordingly,
PacificNet included the financial results of PacGames in its consolidated
2006
financial results from August 3, 2006 through December 31,
2006.
3.
INVESTMENT IN AFFILIATED COMPANIES
Investments
Investments
in affiliated companies consist of the following as of December 31, 2006
(in thousands):
(USD000s)
|
COLLATERAL/OWNERSHIP
% AND BUSINESS DESCRIPTION
|
|
AMOUNT
|
DESCRIPTION
|
INVESTMENTS
IN AFFILIATED COMPANIES:
|
|
|
Take1
(Cheer Era Limited) [1]
|
$
100
|
2 20%
ownership interest; trader of vending machine located in Hong
Kong
|
MOABC
|
(19)
|
20%
ownership interest
|
Glad
Smart
|
30
|
15%
ownership interest
|
Community
media co.
|
4
|
5%
ownership interest
|
Total
|
$
115
|
|
TAKE
1 TECHNOLOGIES GROUP LIMITED (FORMERLY KNOWN AS: CHEER ERA LIMITED
"CHEERERA")
On
January 05, 2007, we entered into an agreement for PacificNet to exercise
the
option to acquire an additional 31% interest in Take 1. The completion date
for
the new Securities Subscription Agreement was March 5, 2007, with a
consideration of $721,887 (paid entirely with shares of PacificNet: 149,459
PACT
Shares, valued at $4.83 per share). As a result, PacificNet has become the
majority and controlling shareholder of Take1 with our ownership percentage
increased from 20% to 51%.
Initial
equity investment of 30% in Take 1 was made in April 2004 by the Company,
through its subsidiary PacificNet Strategic Investment Holdings Limited for
an
aggregate consideration of $385,604 in cash and 149,459 PacificNet shares.
PacificNet’s interest in Take 1 was reduced to 20% in the year 2005 from 30% as
a result of PacificNet repurchasing an aggregate of 149,459 at nominal
value.
As
of
December 31, 2006, there was an outstanding inter-company convertible loan
of
$1,026,000 due from Take 1. The Convertible Loan, expiring on October 17,
2008,
is guaranteed personally and jointly by the two minority shareholders of
Take 1,
and bears an interest rate of 8% per annum or 6-month Prime Rate of Hong
Kong.
4.
PROPERTY AND EQUIPMENT, NET
Property
and equipment consists of the following as of December 31 (in thousands of
US
Dollars):
|
|
2006
Restated
|
|
|
2005
Restated
|
|
Office
furniture, fixtures and leasehold improvements
|
|
$
|
908
|
|
|
$
|
1,259
|
|
Computers
and office equipment
|
|
|
1,720
|
|
|
|
2,691
|
|
Motor
Vehicles
|
|
|
130
|
|
|
|
97
|
|
Software
|
|
|
395
|
|
|
|
747
|
|
Electronic
Equipment
|
|
|
68
|
|
|
|
1,174
|
|
Land
and buildings
|
|
|
2,805
|
|
|
|
68
|
|
Less:
Accumulated depreciation
|
|
|
(1,315
|
)
|
|
|
(5,078
|
)
|
Property
and Equipment, Net
|
|
$
|
4,711
|
|
|
$
|
958
|
|
For
the
years ended December 31, 2006 and 2005, the total depreciation and amortization
expenses were $2,521,000 and $1,126,000, of which $1,058,000 and $872,000
was
included in the cost of revenues, respectively.
The
significant increase of the office furniture, fixtures and leasehold
improvements was mainly due to most of the computers and office equipment
in
2006 are derived from the expansion of our business including Epro ($200,000).
Additionally, Beijing office purchased through Inc ($1,617,000) during 2006
and
the real estate in Hong Kong recorded in PacCom ($1,053,000) are accounted
under
Land and Buildings.
OPERATING
LEASES - The Company leases warehouse and office space under operating leases
with fixed monthly rentals. None of the leases included contingent rentals.
Lease expense charged to operations for 2006 amounted to $571,000 (2005:
$516,000). Future minimum lease payments under non-cancelable operating leases
are $680,000 for 2007, $764,000 for 2008 through 2011
RESTRICTED
CASH - The Company has a $234,000 and $163,000 pledged bank deposit for Epro
for
the years ended December 31, 2006 and 2005 respectively, which represents
overdraft protections with certain financial institutions.
BANK
LINE
OF CREDIT (2006): As of December 31, 2006, the Company’s outstanding bank lines
of credit were as follows:
|
|
(i)
|
Epro
has an overdraft banking facility with certain major financial
institutions in the aggregate amount of $744,000, which is secured
by a
pledge of its fixed deposits of $234,000, 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, whichever
is
earlier.
|
|
(ii)
|
Smartime
has an overdraft banking facility with a large Hong Kong bank in
the
aggregate amount of $111,000. This overdraft facility is personally
pledged by the deposit account of a director of
Smartime.
|
BANK
LINE OF CREDIT (2005): As of December 31, 2005, the Company
utilized $1,059,000 of the banking facility including $944,000 from Epro
and
$115,000 from Smartime. Epro has an overdraft banking facility with certain
major financial institutions in the aggregate amount of $1,218,000, which
is
secured by a pledge of its fixed deposits of $163,000, 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, whichever
is earlier. For Smartime, there is no due date payment stipulated by Hong
Kong
Hang Seng Bank because its overdraft banking facility was borrowed directly
from
one of its directors personal fixed deposit account as a mortgage. The detailed
payment period is based on its funding condition.
CONTINGENT
CONSIDERATION: Warrants have not been included as part of the acquisition
price
of various S&P Agreements (Note 2) and are no longer considered as part of
the purchase consideration due to (i) the ambiguity of the S&P Agreements
with respect to the issuance of the warrants and (ii) the lack of actual
instruments to transfer the warrants, such as a warrant agreement that is
signed
and sealed by the Company and property registered at the Company Registrar
of
securities in Hong Kong, and accordingly, there is no irrevocable obligation
by
the Company to issue the warrants. Furthermore, the net income milestones
were
not achieved as required under the S&P Agreements according to Hong Kong
law. Based on the opinion of the Company's legal counsel in Hong Kong, the
Company does not have an irrevocable obligation to issue the warrants and
therefore the warrants are not considered issued and outstanding. The offer
to
issue the warrants is no longer part of the purchase price in the S&P
Agreements due to the failure by the Sellers to satisfy their warranties
in the
S&P Agreements. Accordingly, the warrants have not been valued.
6.
OTHER CURRENT ASSETS
Other
current assets comprises of the following as at December 31 (in thousands
of US
Dollars):
Other
current assets
|
|
2006
Restated
|
|
|
2005
Restated
|
|
Prepayment
|
|
$
|
1,048
|
|
|
$
|
655
|
|
Utilities
deposit
|
|
|
1,292
|
|
|
|
-
|
|
Receivable
from Lion Zone Holdings Ltd (See note 14)
|
|
|
485
|
|
|
|
-
|
|
Loans
to employees
|
|
|
412
|
|
|
|
-
|
|
Prepaid
expenses
|
|
|
408
|
|
|
|
204
|
|
Others
receivable
|
|
|
170
|
|
|
|
1,504
|
|
Advances
to sales reps
|
|
|
358
|
|
|
|
-
|
|
Provision
for doubtful account of other receivables
|
|
|
-
|
|
|
|
(988
|
)
|
Total
|
|
$
|
4,173
|
|
|
$
|
1,375
|
|
7.
BANK LOANS
Bank
loans represent the following at December 31 (in thousands):
|
|
2006
|
|
|
2005
|
|
Secured
[1]
|
|
$
|
1,668
|
|
|
$
|
108
|
|
Unsecured
|
|
|
543
|
|
|
|
86
|
|
Less:
current portion
|
|
|
(576
|
)
|
|
|
(188
|
)
|
Noncurrent
portion
|
|
$
|
1,635
|
|
|
$
|
6
|
|
Bank
Loans are generated by two of the Company's subsidiaries. One of the
subsidiaries is PacificNet Epro Holdings Limited, a company incorporated
in the
Hong Kong Special Administrative Region of the PRC, primarily engaged in
the
business of providing call center and customer relationship management (CRM)
services as well as other business outsourcing services.
[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; and pledged bank deposits
of
$234,000 (2005: $163,000) of a subsidiary of the Company.
Aggregate
future maturities of borrowing for the next five years are as follows: 2007:
$526,000, 2008: $424,000 and 2009: $213,000, thereafter: none.)
The
remaining bank loans of $1,048,000 are generated by PacificNet Inc. relating
to
a fixed asset bought during the first quarter with total cost of $1,648,000.
The
repayment of the bank loan was $69,000. (Aggregate future maturities of
borrowing for the following period are as follows: Less than 1 year: $50,000,
1-5 year: $229,000 and after 5 years: $769,000)
8.
CAPITAL LEASE OBLIGATIONS
The
Company leases various equipments under capital leases expiring in various
years
through 2008. 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 2006 and 2005
Aggregate
minimum future lease payments under capital leases as of December 31, 2006
for
each of the next five years are as follows: (2007: $132,000; 2008: $89,000;
and
2009: $42,000, and thereafter: none.)
Capital
lease obligations represent the following at December 31 (in thousands of
US
Dollars):
|
|
2006
|
|
|
2005
|
|
Total
minimum lease payments
|
|
$
|
263
|
|
|
$
|
216
|
|
Interest
expense relating to future periods
|
|
|
(19
|
)
|
|
|
(12
|
)
|
Present
value of the minimum lease payments
|
|
|
244
|
|
|
|
204
|
|
Less:
current portion
|
|
|
(120
|
)
|
|
|
(126
|
)
|
Noncurrent
portion
|
|
$
|
124
|
|
|
$
|
78
|
|
Following
is a summary of fixed assets held under capital leases at December 31 (in
thousands of US Dollars):
|
|
2006
|
|
|
2005
|
|
Computers
and office equipment
|
|
$
|
630
|
|
|
$
|
441
|
|
Less:
accumulated depreciation
|
|
|
(391
|
)
|
|
|
(286
|
)
|
Net
|
|
$
|
239
|
|
|
$
|
155
|
|
Accrued
expenses consist of the following at December 31 (in thousands of US
Dollars):
|
|
2006
Restated
|
|
|
2005
Restated
|
|
Professional
fee
|
|
|
321
|
|
|
|
486
|
|
Director
fee
|
|
|
100
|
|
|
|
|
|
Salaries
and benefit payable
|
|
|
792
|
|
|
|
109
|
|
Marketing
expense
|
|
|
389
|
|
|
|
-
|
|
Others
|
|
|
226
|
|
|
|
109
|
|
Total
|
|
$
|
1,828
|
|
|
$
|
704
|
|
10.
STOCKHOLDERS' EQUITY
a)
COMMON
STOCK
During
the year ended December 31, 2006, the Company had the following equity
transactions (i) 394,000 shares as a result of exercise of stock options
with
cash consideration of $237,000; (ii) 618,112 shares for acquisition of
subsidiaries valued at $4,346,000; and (iii) 275,000 shares returned by
ChinaGoHi valued at $1,672,000, due to a termination agreement signed with
ChinaGoHi in November 2006 (as filed in an 8K dated Nov 28, 2006); (iv)
repurchase of 24,200 shares from Yueshen with a market value of
$124,223.
For
the
year ended December 31, 2005, the Company had the following equity transactions
(i) 676,000 shares as a result of exercise of stock options and warrants
with
cash consideration of $966,000; (ii) 515,900 shares for acquisition of
subsidiaries valued at $3,971,000;(iii) 20,000 shares at $63,000 for investor
relations services rendered based on the fair market value of the services
rendered; (iv) repurchase of 45,000 shares fraudulently issued by the former
financial controller of the company in 2004 to herself at par
value; and (v) repurchase of 149,459 shares with a market value of
$1,547,000 related to affiliated company (see Note 3 for details).
For
the
year ended December 31, 2004, the Company had the following equity transactions
(i) 219,364 shares as a result of exercise of stock options and warrants
with
cash consideration of $606,000; (ii) 1,756,240 shares for acquisition of
subsidiaries valued at $9,938,000; and (iii) 2,205,697 shares for cash proceeds
of $12,330,000 (net of offering costs); (iv) 50,000 shares at $2.64 per share,
or $132,000 for investor relations services rendered; (v) 83,000 shares were
fraudulently issued by the former financial controller of the company to
herself
out of which 38,000 could not be cancelled as they had been resold and the
balance were cancelled in 2005 by the company; and (vi) 149,459 shares with
a
market value of $1,547,000 for acquisition of affiliated company (see Note
3 for
details)
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. On December 30, 2004, stockholders of the
Company approved the new 2005 Stock Option Plan (the "2005 Option Plan").
The
2005 Option Plan provide for the grant to directors, officers, employees
and
consultants of the Company (including its subsidiaries) of options to purchase
up to an aggregate of 2,000,000 shares of Common Stock. The 2005 Plan is
administered by the Board of Directors or a committee of the Board of Directors
(in either case, the "Committee"), which has complete discretion to select
the
optionees and to establish the terms and conditions of each option, subject
to
the provisions of the 2005 Option Plan. Options granted under the 2005 Plan
are
"incentive stock options" as defined in Section 422 of the Internal Revenue
Code
of 1986, as amended (the "Code"), or nonqualified options.
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. 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
2006.
The
status of the Stock Option Plan as of December 31, 2006, is as
follows:
|
|
Options
Outstanding
|
|
|
WEIGHTED
AVERAGE
EXERCISE
PRICE
|
|
OUTSTANDING,
DECEMBER 31, 2003
|
|
|
550,600
|
|
|
$
|
2.87
|
|
Granted
|
|
|
870,000
|
|
|
$
|
3.03
|
|
Cancelled
|
|
|
(400,000
|
)
|
|
$
|
4.25
|
|
Exercised
|
|
|
(188,500
|
)
|
|
$
|
2.04
|
|
OUTSTANDING,
DECEMBER 31, 2004
|
|
|
832,100
|
|
|
$
|
1.90
|
|
Granted
|
|
|
680,000
|
|
|
$
|
6.57
|
|
Cancelled
|
|
|
(680,000
|
|
|
$
|
6.57
|
|
Exercised
|
|
|
(76,000
|
)
|
|
$
|
2.05
|
|
OUTSTANDING,
DECEMBER 31, 2005
|
|
|
756,100
|
|
|
$
|
3.99
|
|
Granted
|
|
|
500,000
|
|
|
$
|
4.75
|
|
Cancelled
|
|
|
(491,600
|
)
|
|
$
|
4.75
|
|
Exercised
|
|
|
(394,000
|
)
|
|
$
|
2.12
|
|
OUTSTANDING,
DECEMBER 31, 2006
|
|
|
370,500
|
|
|
$
|
2.00
|
|
Following
is a summary of the status of options outstanding at December 31,
2006:
Grant
Date
|
Total
Options
Outstanding
|
Aggregate
Intrinsic
Value
|
Weighted
Average Remaining
Life
(Years)
|
Total
Weighted
Average
Exercise
Price
|
Option
Exercisable
|
Weighted
Average
Exercise
Price
|
|
|
|
|
|
|
|
2004-7-26
|
370,500
|
$1,548,690
|
0.57
|
$2.00
|
370,500
|
$2.00
|
There
are
370,500 options, which granted during year 2004, were outstanding and vested
in
year 2006. Those options have a term of three years and 0.83 year vesting
period. The weighted-average fair value of such options was $1.42.The
assumptions used in calculating the fair value of options granted using the
Black-Scholes option- pricing model are as follows:
Risk-free
interest rate
|
2.75%
|
|
Expected
life of the options
|
1.65
years
|
|
Expected
volatility
|
61.33%
|
|
Expected
dividend yield
|
0%
|
|
There
were 500,000 options authorized on September 21 of 2006 with a $4.75 exercise
price. Such options have a term of 5 years and will be vested 5% per quarter
commencing from January 1st 2007.
On December
15, 2006, the board of directors decided to cancel all options previously
granted in 2005 and 2006 due to the increasing cost of option administration.
The board of directors plan to issue restricted stock or stock appreciation
right (SAR) for future executive and employee incentive
compensation.
c)
WARRANTS
At
December 31, 2006, the Company had outstanding and exercisable warrants to
purchase an aggregate of 1,007,138 shares of common stock. The weighted average
remaining life is 3.34 years and the weighted average price per share is
$10.61.
Following
is a summary of the warrant activity:
|
|
Warrants
Outstanding
|
|
|
WEIGHTED
AVERAGE EXERCISE
PRICE
|
|
OUTSTANDING,
DECEMBER 31, 2003
|
|
|
800,000
|
|
|
$
|
1.53
|
|
Granted
|
|
|
622,002
|
|
|
|
-
|
|
Expired
|
|
|
-
|
|
|
|
-
|
|
Exercised
|
|
|
(30,864
|
)
|
|
|
-
|
|
OUTSTANDING,
DECEMBER 31, 2004
|
|
|
1,391,138
|
|
|
|
4.93
|
|
Granted
|
|
|
-
|
|
|
|
-
|
|
Expired
|
|
|
(200,000
|
)
|
|
|
-
|
|
Exercised
|
|
|
(600,000
|
|
|
|
-
|
|
OUTSTANDING,
DECEMBER 31, 2005
|
|
|
591,138
|
|
|
|
9.5
|
|
Granted
|
|
|
416,000
|
|
|
|
-
|
|
Expired
|
|
|
-
|
|
|
|
-
|
|
Exercised
|
|
|
-
|
|
|
|
-
|
|
OUTSTANDING,
DECEMBER 31, 2006
|
|
|
1,007,138
|
|
|
$
|
10.61
|
|
Following
is a summary of the status of warrants outstanding at December 31,
2006:
|
Total
warrants
Outstanding
|
Weighted
Average
Remaining
Life (Years)
|
Total
Weighted
Average
Exercise
Price
|
Warrants
Exercisable
|
Weighted
Average
Exercise
Price
|
2004-1-15
|
123,456
|
3.04
|
$7.15
|
123,456
|
$7.15
|
2004-11-15
|
117,682
|
3.88
|
$3.89
|
117,682
|
$3.89
|
2004-12-9
|
350,000
|
3.94
|
$12.21
|
350,000
|
$12.21
|
2006-3-13
|
416,000
|
4.20
|
$12.20
|
416,000
|
$12.20
|
On
March
13, 2006, we issued 400,000 warrants to several institutional investors in
connection with a private placement of $8 million in convertible debentures.
On
the same day we issued another 16,000 warrants to our placement agent for
the
transaction. See Note 1 for further details. Those warrants have a term of
5
years and immediately vesting. The assumptions used in calculating the fair
value of such warrants granted using the Black-Scholes option- pricing model
are
as follows:
Risk-free
interest rate
|
4.78%
|
|
Expected
life of the options
|
5.00
years
|
|
Expected
volatility
|
37.08%
|
|
Expected
dividend yield
|
0%
|
|
d)
TREASURY STOCK
The
following is a summary of the movement of the Company's shares held as treasury
stock for the years ended December 31, 2006:
|
|
|
Number
of
shares
|
|
|
Remarks
|
|
Escrowed
shares returned to treasury in 2003
|
|
|
800,000
|
|
|
|
|
Shares
purchased in the open market
|
|
|
43,426
|
|
|
|
|
Repurchase
of shares from Take 1
|
|
|
149,459
|
|
|
|
|
Repurchase
of shares from Yueshen
|
|
|
24,200
|
|
|
|
|
Cancellation
of former employee shares
|
|
|
45,000
|
|
|
|
|
Termination
with ChinaGoHi
|
|
|
825,000
|
|
|
Returned
shares plus Escrow shares
|
|
Incomplete
acquisition of Allink
|
|
|
200,000
|
|
|
|
|
Holdback
shares as contingent consideration due to performance targets not
yet
met
|
|
|
529,848
|
|
|
Includes
shares related to Clickcom (78,000); Guangzhou(Wanrong (138,348);
iMobile
(153,500); Games (160,000);
|
|
Balance,
December 31, 2006
|
|
|
2,616,933
|
|
|
|
|
Shares
outstanding at December 31, 2006
|
|
|
11,538,664
|
|
|
|
|
Shares
issued at December 31, 2006
|
|
|
14,155,597
|
|
|
|
|
11.
INCOME TAXES
The
components of income before income taxes are as follows:
(USD000s)
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
Income
subject to PRC
|
|
$
|
1,662
|
|
|
$
|
1,308
|
|
|
$
|
1,923
|
|
Loss
subject to Hong Kong
|
|
|
(8,053
|
)
|
|
|
(4,451
|
)
|
|
|
(3,629
|
)
|
Loss
subject to United States
|
|
|
(5,961
|
)
|
|
|
(1,947
|
)
|
|
|
(3,612
|
)
|
Income
(loss) before taxes
|
|
|
(12,352
|
)
|
|
|
(5,090
|
)
|
|
|
(5,318
|
)
|
Less:
income taxes
|
|
|
(63
|
)
|
|
|
(55
|
)
|
|
|
(106
|
)
|
Net
income available to common stockholders
|
|
$
|
(12,415
|
)
|
|
$
|
(5,145
|
)
|
|
$
|
(5,424
|
)
|
United
States of America
For
operations in the USA, the Company is subject to United States federal income
tax at a rate of 34%. The Company has incurred net accumulated operating
losses
for income tax purposes and there is no provision for U.S. federal income
tax
for 2006, 2005 and 2004 due to the Company's loss position. The Company believes
that it is more likely than not that these net accumulated operating losses
will
not be utilized in the future because the Parent company is a holding company
with foreign subsidiaries and does not generate income. Therefore, the Company
has provided full valuation allowance for the deferred tax assets arising
from
the losses as of December 31, 2006, 2005 and 2004.
The
following table sets forth the significant components of the deferred tax
assets
for operation in the United States of America as of December 31, 2006, 2005
and 2004.
|
2006
|
|
2005
|
|
2004
|
Deferred
tax asset credit:
|
|
|
|
|
|
Federal
|
34%
|
|
34%
|
|
34%
|
State
|
6%
|
|
6%
|
|
6%
|
Valuation
allowance
|
(40)%
|
|
(40)%
|
|
(40)%
|
|
0%
|
|
0%
|
|
0%
|
Hong
Kong
Hong
Kong
profits tax has been provided at a rate of 17.5% on the estimated assessable
profits arising in Hong Kong for each of the years ended December 31, 2006,
2005
and 2004. Provision for Hong Kong profits tax for 2006, 2005 and 2004 was
approximately $63,000, $40,000 and $36,000.
PEOPLE'S
REPUBLIC OF CHINA (PRC)
Pursuant
to the PRC Income Tax Laws, the Company's subsidiaries and VIEs are generally
subject to Enterprise Income Taxes ("EIT") at a statutory rate of 33%, which
comprises 30% national income tax and 3% local income tax. Some of these
subsidiaries and VIEs are qualified new technology enterprises and under
PRC
Income Tax Laws, they are subject to a preferential tax rate of 15%. In
addition, some of the Company's subsidiaries are Foreign Investment Enterprises
and under PRC Income Tax Laws, they are entitled to either a three-year tax
exemption followed by three years with a 50% reduction in the tax rate,
commencing the first operating year, or a two-year tax exemption followed
by
three years with a 50% reduction in the tax rate, commencing the first
profitable year. Provision for PRC business tax expense for 2006 was $257,000
(reclassified to discontinued operations), 2005 was $15,000 ($217,000
reclassified to discontinued operations) and 2004 was $70,000.
No
provision for deferred tax liabilities has been made, since the Company had
no
material temporary differences between the tax bases of assets and liabilities
and their carrying amounts.
12.
RELATED PARTY TRANSACTIONS
LEASE
AGREEMENT
In
November 2004, the Company entered a lease agreement with EPRO for rental
space
in the amount of $1,923 per month. The term of the lease was one year and
renewable by either party.
LOAN
DUE TO AND FROM RELATED PARTIES
As
at the
years ended December 31, 2006 and 2005, there was a total loan receivable
of
approximately $1,706,000 and $2,328,00 respectively due from related parties
while the loan due to related party was $638,000 and $759,000.
As
at the
year ended December 31, 2005 the related party loans receivable included
$769,000 due from Take 1, an affiliated company that is 20% owned by PacificNet
Strategic Limited. The loans receivable from shareholders and directors of
PacificNet’s subsidiaries comprised of $1,559,000 due from a shareholder of
Smartim and Yueshen.
As
at the
year ended December 31, 2006, the related party loan receivables included
$1,026,000 due from Take 1, an affiliated company that is 20% owned by
PacificNet, $196,000 due from MOABC, an affiliated company that is 20% owned
by
PacificNet, and $384,000 due from shareholders and directors of certain of
the
Company’s subsidiaries in connection with the acquisition of these subsidiaries.
The loans receivable from shareholders and directors of these subsidiaries
is
comprised of $256,000 due from a shareholder of Yueshen and $128,000 due
from a
director of Soluteck.
The
terms
of these related parties loan receivables and payables are summarized
below:
LOAN
TO TAKE 1
Take
1 is
an affiliated company and is 20% owned by PacificNet as of December 31, 2006.
A
convertible loan of $1,026,000 and $769,000 respectively is outstanding from
Take 1 as of December 31, 2006 and 2005. Conversion terms of the convertible
loan provide PacificNet an option at any time during the Term to convert
in part
or in whole of the then outstanding loan principle up to $1,026,000 (or HKD
$8,000,000) into shares of Take 1 to reach 51% ownership of Take 1. The loan
was
extended as a working capital loan to finance the expansion of Take 1's business
in Europe and North America.
LOAN
TO MOABC
MOABC
is
an affiliated company and is 20% owned by PacificNet as of December 31, 2006.
A
convertible loan of $196,000 is outstanding from MOABC as of December 31,
2006.
Conversion terms of the convertible loan provide PacificNet an option at
any
time during the Term to convert in part or in whole of the then outstanding
loan
principle by using the price of $23,160 (1% of shares). The provision for
doubtful debts of $293,000 for the loan to MOABC was recorded in
2006.
LOAN
TO GLAD SMART
Glad
Smart is an affiliated company and is 15% owned by PacificNet as of December
31,
2006. A loan of $100,000 is outstanding from Glad Smart as of December 31,
2006.
The loan was extended as a working capital loan to finance the expansion
of Glad
Smart’s voice card business operation.
LOAN
TO YUESHEN’S SHAREHOLDER
As
at the
year ended December 31, 2006, there was a loan outstanding of $256,000
receivable from the shareholder of Yueshen. This loan is
collateralized with 106,240 PacificNet shares owned by the shareholder of
Yueshen. Further discussion of the outcome of our legal dispute with Yueshen
is
found under Part II of this 10Q document - Item1: Legal
Proceedings.
As
at the
year ended December 31, 2005 there was an unsecured loan of $1,367,000 due
from
Ms. Li Yan-Kuan, shareholder of Yueshen.
LOAN
TO SMARTIME’S SHAREHOLDER
As
at the
year ended December 31, 2005, there was $192,000 loan receivable due from
the
shareholder of PacificNet Smartime.
LOAN
TO SOLUTECK’S DIRECTOR
As
at the
year ended December 31, 2006, there was a loan outstanding of $128,000
receivable from a director of Soluteck, due on December 14 for three consecutive
years ending 2007. The interest rate for the loan is 8% per annum plus 5%
penalty interest in case it has not been timely paid. The loan is collateralized
with 100,000 PacificNet’s shares owned by the borrowing director and Ms Iris Lo,
and the remaining assets of Smartime Holding Ltd.
LOAN
PAYABLE TO RELATED PARTY
As
at the
year ended December 31, 2006, a loan of $356,000 was payable to a shareholder
of
EPRO. The loan was advanced to Epro for working capital purposes. The loan
is
due on August 4, 2010. Interest being charged per annum is at Hong Kong Prime
lending rate, which was approximately 6.5% per annum in 2005 and 8% in
2006.
As
at the
year ended December 31, 2006, a loan of $282,000 was payable to a shareholder
of
Smartime. The loan was advanced to Smartime for working capital
purposes.
As
at the
year ended December 31, 2005, a loan of $513,000 was payable to a shareholder
of
EPRO. The loan was advanced to Epro for working capital purpose expiring
by
August 4, 2010 at Hong Kong Prime lending rate approximately 6.5% interest
per
annum prevailing in the year 2005.
As
at the
year ended December 31, 2005, a loan of $246,000 was payable to a shareholder
of
Yueshen.
13.
SEGMENT INFORMATION
SFAS
No.
131, DISCLOSURE ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION ("SFAS
131"), establishes standards for reporting information about operating segments
and for related disclosures about products, services and geographic areas.
Operating segments are identified as components of an enterprise about which
separate discrete financial information is available for evaluation by the
chief
operating decision-maker, or decision-making group, in making decisions
regarding allocation of resources and assessing performance. PacificNet’s chief
decision-makers, as defined under SFAS 131, are the Chief Executive Officer
and
Chairman. During 2006 and 2005, PacificNet had four operating
segments.
The
Company’s reportable segments are operating units, which represent the
operations of the Company’s significant business operations. Summarized
financial information concerning the Company’s reportable segments is shown in
the following table. The “Other” column includes the Company’s other
insignificant services and corporate related items, and, as it relates to
segment profit (loss), income and expense not allocated to reportable
segments.
For
the year ended December 31, 2006 (in thousands of US Dollars,
except percentages)
|
Group
1.
Outsourcing
Service
($)
Restated
|
Group
2.
Telecom
Value-Added Services
($)
Restated
|
Group
3.
Products
(Telecom & Gaming)
($)
Restated
|
Group
4.
Other
Business
($)
Restated
|
Total
($)
Restated
|
Revenues
|
14,146
|
1,555
|
23,385
|
3,652
|
42,738
|
(%
of Total Revenues)
|
33%
|
4%
|
55%
|
9%
|
100%
|
Earnings
/ (Loss) from Operations
|
677
|
(44)
|
(1,054)
|
(5,889)
|
(6,310)
|
(%
of Total Profit)
|
(11)%
|
1%
|
17%
|
96%
|
100%
|
Total
Assets
|
8,365
|
2,747
|
12,673
|
18,244
|
36,535
|
(%
of Total Assets)
|
23%
|
(8)%
|
35%
|
50%
|
100%
|
Goodwill
|
3,964
|
461
|
1,176
|
|
5,601
|
Geographic
Area
|
HK,PRC
|
HK,
PRC
|
HK,PRC,Macau
|
HK,PRC
|
|
For
the year ended December 31, 2005 (in thousands of US Dollars,
except percentages)
|
Group
1.
Outsourcing
Service
($)
Restated
|
Group
2.
Telecom
Value-Added
Services
($)
Restated
|
Group
3.
Products
(Telecom & Gaming)
($)
Restated
|
Group
4.
Other
Business
($)
Restated
|
Total
($)
Restated
|
Revenues
|
13,568
|
-
|
2,880
|
859
|
17,307
|
(%
of Total Revenues)
|
78%
|
-
|
17%
|
5%
|
100%
|
Earnings
/ (Loss) from Operations
|
686
|
-
|
(106)
|
(6,188)
|
(5,608)
|
(%
of Total Profit)
|
(12%)
|
-
|
2%
|
110%
|
100%
|
Total
Assets
|
4,745
|
10,876
|
7,037
|
12,431
|
35,089
|
(%
of Total Assets)
|
14%
|
31%
|
20%
|
35%
|
100%
|
Goodwill
|
3,964
|
-
|
-
|
-
|
3,964
|
Geographic
Area
|
HK,PRC
|
HK,
PRC
|
HK,PRC,Macau
|
HK,PRC
|
|
The
Company identifies and classifies its operating segments based on reporting
entities that exhibit similar long-term financial performance based on the
nature of the products and services with similar economic characteristics
such
as margins, business practices and target market. The operating segments
are
classified into four major segments which are summarized as
follows:
(1)
Outsourcing Services - involves human voice services such as Business Process
Outsourcing, CRM, call center, IT Outsourcing and software development services.
These types of services are conducted through our subsidiaries EPRO,
Smartime/Soluteck and PacificNet Solution Ltd.
(2)
Telecom Value-Added Services (VAS) - primarily involves machine voice services
such as Interactive Voice Response, SMS and related VAS, which are conducted
through our subsidiaries such as ChinaGoHi (discontinued), Linkhead
(discontinued), Clickcom (discontinued) and Guangzhou 3G/Sunroom. For example,
Linkhead is a master reseller of NMS hardware and software platforms in China,
and its voice cards are used as an integral part of voice hardware using
CPCI
industry control machines, and also by Media Servers to support access from
PSTN
and VoIP, Softswitch and 3G networks.
(3)
Product (Telecom & Gaming) Services Group - involves communication and
gaming products, GSM/CDMA/3G Products, Multimedia Communication Kiosks. This
Group includes the following subsidiaries: PacificNet Communications Limited,
iMobile, Allink, Take1 and PacificNet Games. PacificNet Games Limited (PacGames)
is a leading developer of Asian electronic gaming machines, multi-player
electronic gaming technology solutions and gaming related maintenance, IT,
and
distribution services for the leading hotel and casino operators based in
the
Macau and other Asian gaming markets.
(4)
Other
Business -other administrative, financial and investment services and non-core
businesses such as PacificNet Power Limited (PacPower), Pacific Financial
Services Limited, etc.
Product
and service revenues classified by major geographic areas are as follows
(in
thousands of US Dollars):
For
the year ended December 31, 2006
|
|
Hong
Kong
|
|
|
PRC
|
|
|
Macau
|
|
|
United
States
|
|
|
Total
|
|
Product
revenues
|
|
$
|
19,829
|
|
|
$
|
5,755
|
|
|
$
|
364
|
|
|
$
|
-
|
|
|
$
|
25,948
|
|
Service
revenues
|
|
$
|
13,527
|
|
|
$
|
3,263
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
16,790
|
|
For
the year ended December 31, 2005
|
|
Hong
Kong
|
|
|
PRC
|
|
|
Macau
|
|
|
United
States
|
|
|
Total
|
|
Product
revenues
|
|
$
|
3,216
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
3,216
|
|
Service
revenues
|
|
$
|
10,413
|
|
|
$
|
3,678
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
14,091
|
|
14.
DISCONTINUED OPERATIONS/ASSETS HELD FOR DISPOSITION
Financial
Statements for the year ended December 31, 2003, 2004 & 2005 have been
reclassified to account for the following discontinued operations and/or
assets
held for disposition.
1.
Guangzhou Yueshen Taiyang Network Science and Technology Limited
(“Yueshen”)
During
the year ended December 31, 2004 the Company impaired its investment in Yueshen.
As of December 31, 2006, the Company recorded disposal loss of
$504,000.
On
12
August, 2006, to recover the loan advanced to Yueshen, we commenced a law
suit
in the High Court of the Hong Kong Special Administrative Region ("HKSAR")
against i) Guangzhou Yueshen Taiyang Network Science and Technology Limited
as
borrower and both ii) Ms. Li Yan Kuan and iii) Mr. Yi Wen as guarantors for
the
loan sum of RMB 2,000,000 ("Debt Sum") together with the agreed interest
rate
calculated at 6% per annum all due on 15 November, 2005 according to the
promissory note and guarantee entered into by the three defendants on 15
May,
2005.
2.
Guangzhou Clickcom Digit-net Science and Technology Ltd.
(“Clickcom”)
Operations
of Clickcom were discontinued and became dormant during the year as a result
of
poor business and market prospects. Former staffs of Clickcom have been
reassigned to MOABC. Nominal amount of fixed assets are subject to disposition.
Accordingly, Clickcom has been classified as Asset Held for Disposition in
2006.
Approximately $400,000 of goodwill carried for Clickcom has been charged
to
impairment by the Company at the year end of 2006.
3.
Beijing Linkhead Technologies Company Limited (“Linkhead”)
Due
to
bleak industry prospects, board of directors of Linkhead had resolved a special
board resolution in January 2007 to direct management to engage in active
search
for willing buyers to acquire or prepare to enter into liquidation process.
Accordingly, Linkhead has been classified as Asset Held for Disposition in
2006.
Approximately $4 million of goodwill carried for Linkhead has been charged
to
impairment by the Company at the year end of 2006.
4.
Guangzhou 3G Information Technology Co. Ltd. (“GZ3G”)
On
April
30, 2007, the Company entered into a definitive agreement
with HeySpace International Limited to sell PacificNet’s 51% equity
ownership of GZ3G group of companies for a consideration of $6 million.
Accordingly, GZ3G has been classified as Asset Held for Disposition in 2006.
Approximately $2.1 million in goodwill being carried on the Company’s books had
been written down to level the Company’s total carrying cost of GZ3G to the
intended disposition value.
5.
Lion
Zone Holdings Ltd. (“Lion Zone”)
On
November 20, 2006, PacificNet executed an agreement ("Termination Agreement")
to
terminate the Sale and Purchase Agreement with Lion Zone, ChinaGoHi and Mr.
Wang
Wenming (collectively, the "Sellers"). The Termination Agreement was effective
as of November 1, 2006. In the Termination Agreement, the Sellers agreed
to pay
an aggregate of HKD$3,000,000, comprising: USD$100,000 in cash and 275,000
in
restricted shares of PACT, in exchange for 51% interest of Lion Zone, holding
company of ChinaGoHi. Additionally, the Sellers agreed to waive PacificNet's
obligations under the Sale and Purchase Agreement entered into between
PacificNet and the Sellers in December 2005 to issue restricted shares and
to
provide certain loans to the Sellers. PacificNet, however, reserves the rights
to re-purchase the said 51% interest of Lion Zone within 2 years of the date
of
signing the Termination Agreement for a consideration of 5 times audited
net
profit under US GAAP for the 12-month period subsequent to the year of
signing.
The
following is a summary of discontinued operations/ to be discontinued
operations:
|
|
Yueshen
|
|
|
ChinaGoHi
|
|
|
Linkhead
|
|
|
G3G
|
|
|
Clickcom
|
|
|
Total
|
|
Investment
|
|
$
|
-
|
|
|
$
|
4,475
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
4,475
|
|
Impairment
of investment
|
|
|
-
|
|
|
|
(1,233
|
)
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
|
(1,233
|
)
|
Net
earnings consolidated into PACT
|
|
|
-
|
|
|
|
175
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
|
175
|
|
Consideration
received/receivable
|
|
|
-
|
|
|
|
3,947
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
|
3,947
|
|
Gain
on disposal
|
|
|
-
|
|
|
|
530
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
|
530
|
|
Loss
on disposal
|
|
|
(504
|
)
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
|
(504
|
)
|
Income/(loss)
from discontinued operations
|
|
|
-
|
|
|
|
-
|
|
|
|
(1,089
|
)
|
|
|
1,206
|
|
|
|
(4
|
)
|
|
|
113
|
|
Net
assets for disposal /to be sold
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
1,142
|
|
|
$
|
6,709
|
|
|
$
|
813
|
|
|
$
|
8,664
|
|
15.
CURRENT VULNERABILITY DUE TO CERTAIN CONCENTRATIONS
The
Company's operations are carried out in the PRC. Accordingly, the Company's
business, financial condition and results of operations may be influenced
by the
political, economic and legal environments in the PRC, by the general state
of
the PRC's economy. The Company's business may be influenced by changes in
governmental policies with respect to laws and regulations, anti-inflationary
measures, currency conversion and remittance abroad, and rates and methods
of
taxation, among other things.
16.
EVENTS SUBSEQUENT TO DECEMBER 31, 2006 (UNAUDITED)
1) SALE
OF PACIFICNET TELECOM SOLUTIONS INC. ("PacTelso")
On
May
20, 2007, the Company entered into a definitive agreement to sell its 36%
equity
interest in PacTelso, an intermediate holding company registered under the
laws
of British Virgin Islands, to Mr. Mu Yingliang, a resident of People’s Republic
of China. Consideration for the 36% interest of PacTelso was RMB10,000 (or
US$1,295), to be paid within 90 days after signing of the agreement The
Company’s interest in PacTelso decreased from 51% to 15% after the
transaction.
2) SALE
OF MOABC.com ("MOABC")
On
May
20, 2007, the Company entered into a definitive agreement to sell its 5%
equity
interest in MOABC, a PRC limited liability corporation engaged in the business
of value-added services platform providing, to Mr. Jack Ou, a resident of
People’s Republic of China. Consideration for the 5% interest of MOABC was
RMB5,000 (or US$647), to be paid within 90 days after signing of the agreement.
The Company’s interest in MOABC decreased from 20% to 15% after the
transaction.
3) SALE
OF PACIFICNET SOLUTIONS LIMITED ("PacSo")
On
May
18, 2007, the Company entered into a definitive agreement to sell its 45%
equity
interest in PacSo, a company registered under the laws of Hong Kong SAR,
China
and engaged in systems integration, software application, and e-business
solutions services, to Mr. Alex Au, a resident of Hong Kong SAR, China.
Consideration for the 45% interest of PacSo was HK$4,500 (or US$583), to
be paid
within 90 days after signing of the agreement. The Company’s interest in PacSo
decreased from 60% to 15% after the transaction.
4) SALE
OF PACIFICNET POWER LIMITED ("PacPower")
On
May
18, 2007, the Company entered into a definitive agreement to sell its 36%
equity
interest in PacPower, a company registered under the laws of Hong Kong SAR,
China and engaged in air-conditioning contracting and consulting businesses,
to
Mr. Alex Au, a resident of Hong Kong SAR, China. Consideration for the 36%
interest of PacPower was HK$3,600 (or US$466), to be paid within 90 days
after
signing of the agreement. The Company’s interest in PacPower decreased from 51%
to 15% after the transaction.
5) SALE
OF GUANGZHOU 3G (“GZ3G”)
As
part
of our strategy to move away from telecom VAS, on April 30,2007 our wholly-owned
subsidiary, PacificNet Strategic Investment Holdings Limited, entered into
a
stock purchase and sale agreement with Heyspace International Limited to
sell
its 51% interest in Guangzhou 3G's parent company, Pacific 3G Information
&
Technology Co. Limited. The purchase price is $6,000,000 payable in installments
over a six month period or earlier if Heyspace completes its initial public
offering prior to October 31, 2007.
6) SALE
OF CONVERTIBLE DEBENTURES BY OUR SUBSIDIARY PACIFICNET GAMES
LIMITED
On
February 9, 2007, the Company through its subsidiary, PacificNet Games Limited
(PacGames) entered into a definitive agreement for a $5 million financing
in the
form of a convertible secured note from Pope Asset Management, LLC (Pope),
an
institutional investor. Proceeds from the financing will be used to provide
PacGames with additional working capital to expand its gaming technology
operations, to make further synergistic acquisitions in China and for general
corporate purposes.
The
$5
million financing, evidenced by a convertible secured note issued by PacGames
to
Pope, matures on February 6, 2010, and may be converted into 26% to 32%
ownership interest in PacGames based on reaching certain net income milestones
during fiscal year 2007. The interest rate on the convertible debenture will
initially be set at 8%, and shall increase to 15% if the note is not converted
prior to maturity.
7) SALE
OF BEIJING LINKHEAD TECHNOLOGIES COMPANY LIMITED (“Linkhead”)
Due
to
bleak industry prospects, board of directors of Linkhead had resolved a special
board resolution in January 2007 to direct management to engage in active
search
for willing buyers to acquire or prepare to enter into liquidation process.
Accordingly, Linkhead has been classified as Asset Held for Disposition in
2006.
Approximately $4 million of goodwill carried for Linkhead has been charged
to
impairment by the Company at the year end of 2006.
8)
ACQUISITION OF GUANGDONG POLY BLUE EXPRESS
COMMUNICATIONS CO.LTD. ("Guangdong Poly")
On
Sep 5,
2007, we have entered into an agreement to acquire 51% equity interest in
Guangdong Poly Blue Express Communications Co., Ltd. (Guangdong Poly). The
acquisition is expected to enable PacificNet, through its operating subsidiaries
in China, to participate in China's rapidly growing state-sponsored legalized
gaming and electronic lottery operations. Guangdong Poly is a leading operator
approved by China's Welfare Lottery Center to develop and operate real-time
electronic paperless lottery services in China, in accordance to the rules
and
regulations set by China's Welfare Lottery Center. The Company expects this
acquisition to be accretive to 2008 earnings.
According
to the agreement, PacificNet Technology (Shenzhen) Limited and PacificNet
Games
Limited will acquire 34% and 17% of Guangdong Poly Blue Express Communications
Co., Ltd, respectively. The investment in Guangdong Poly is structured
dependent on the achievement of certain profit milestones. The investment
by
PacificNet is subject to the successful completion of customary due diligence
and final documentation. The financial terms of the deal were not
disclosed.
9) ADDDITIONAL
ACQUISITION OF TAKE1 TECHNOLOGIES IN Q1 2007
On
January 05, 2007, we entered into an agreement for PacificNet to exercise
the
option to acquire an additional 31% interest in Take1 Technologies Limited
(“Take1”) (formerly known as “CHEER ERA LIMITED”). The completion date for the
new Securities Subscription Agreement was March 5, 2007, with a consideration
of
$721,887 (paid entirely with shares of PacificNet: 149,459 PACT Shares, valued
at $4.83 per share). As a result, PacificNet has become the majority and
controlling shareholder of Take1 with our ownership percentage increased
from
20% to 51%. Take1 is a leading designer, developer and manufacturer of gaming,
multimedia entertainment and communication kiosk products including casino-use
electronic gaming tables, photo and video entertainment kiosks, digital camera
photo development stations, multimedia messaging services (MMS) and mobile
content download stations for mobile phones, and other coin-operated peripherals
and consumables. Take1 Technologies is based in Hong Kong and markets and
distributes its products around the world including the USA, Canada, Mexico,
Europe, China, and Southeast Asia.
10)
PACIFICNET INC., V/S IROQUOIS MASTER FUND, LTD.
On
October 3, 2007 Iroquois Master Fund, Ltd. filed a complaint in the Supreme
Court of the State of New York against PacificNet Inc., complaining against
non-payment of mandatory default amount on convertible debentures of $3,000,000
and $420,000.
As
of
October 2, 2007, the outstanding principal amount of the $3,000,000 debenture
is
$2,045,452 and accrued but unpaid interest amount is $30,682.
The
mandatory default amount due to Iroquois Master Fund, Ltd. pursuant to amended
debenture (as amended in February 2007) is $2,698,974 on $3,000,000 convertible
debenture.
As
of
October 2, 2007, the outstanding principal amount of the $420,000 debenture
is
$420,000 and accrued but unpaid interest amount is $6,300.
The
mandatory default amount due to Iroquois Master Fund, Ltd. is $554,190 on
$420,000 convertible debenture.
Iroquois
Master Fund, Ltd. also demanded for the reimbursement of its attorney fees
and
other costs and expenses incurred together with costs and disbursements of
this
action and such other and further relief as to the court seems just and
proper.
17. LEGAL
PROCEEDINGS
1.
Legal Proceeding and Judgment Against Guangzhou Yueshen Taiyang Network Science
and Technology Limited, Ms. Li Yan Kuan, and Mr.Wu Yi
Wen
On
August
12, 2006, we commenced a law suit in the High Court of the Hong Kong Special
Administrative Region ("HKSAR") against Guangzhou Yueshen Taiyang Network
Science and Technology Limited, Ms. Li Yan Kuan, (PRC ID:
440112195706120967, Residential Address: Room G6-305, West Garden,
FuLiHuanShi, HuanShi West Road, LiWan District, Guangzhou, Guangdong,
China) and Mr.Wu Yi Wen, (PRC ID: 440106196412220919, Residential
Address: Room 906, Number 15, SiHeng Road Number 2, TianHe YuanChun, Guangzhou,
Guangdong, China) for failure to pay amounts owed under a promissory
note. On May 15, 2005, we loaned RMB2,000,000 ("Debt Sum") to Yueshen
to cover operating costs, evidenced by a promissory note due on November
15,
2005. Ms. Kuan and Mr. Wen guaranteed repayment of the note by
Yueshen. The Debt Sum together with the agreed interest rate
calculated at 6% per annum was due on November 15, 2005.
On
March
28, 2007, the High Court of HKSAR had adjudged that the three defendants
should
pay us the Debt Sum together with interest sum at the rate of 6% per annum
from May 15, 2005 to March 28, 2007, and additional
interest charged at the rate of 5% per annum for the Debt Sum and accrued
interest within 90 days overdue and thereafter at the judgment rate until
payment and fixed costs of HK$3,405.
2.
Lawsuit between PacificNet Power Limited and Johnson Controls Hong Kong Limited
(JCHKL), a subsidiary of Johnson Controls Inc. (NYSE:JCI)
(www.jci.com )
On
January 19, 2007, Johnson Controls Hong Kong Limited filed a claim against
PacificNet Power Limited (a 51% owned subsidiary of PacificNet) in the High
Court of the Hong Kong Special Administrative Region seeking HK$4,800,000
as
payment for services rendered to replace 3 sets of trane water-cooled chillers,
together with energy saving performance (the "Chiller System"), at the Fortress
Tower in Hong Kong.
In
connection with the claim, PacificNet Power reviewed a letter from its client,
China Weal Property Management Ltd., dated January 22, 2007 stating that
the
construction work by JCHKL had not been completed as of the date of the letter,
and that certain violations itemized in a letter issued by the Hong Kong
Environment Protection Department (EPD) (Noise Abatement Notice No.
N806030) addressed to JCHKL with respect to acoustic problems with JCHKL’s
equipment had not been abated. Further, JCHKL was to pay penalties
between HK$100,000 and HK$200,000 assessed by the JCHKL for failing to fix
the
noise problem on the roof of Fortress Tower.
The
board
of directors of PacificNet Power Limited has reviewed the case with its client,
China Weal Property Management Ltd., and our Hong Kong legal counsel and
it is
our belief that the project work undertaken JCHKL is defective in numerous
aspects, as evidenced by the letter from government letter issued by
EPD. As a result, we believe the construction work was not been
completed by JCHKL, and therefore, JCHKL is not entitled to payment for its
services.
On
February 7, 2007, we instructed our Hong Kong legal counsel to issue a Defense
and Counterclaim to JCHKL to counter-claim that ( i) JCHKL's construction
work
has not complied with the applicable rules and regulations of various government
authorities in Hong Kong; (ii) the Chiller System provided by JCHKL was
defective and merchantable unfit and JCHKL has failed and/or refused to rectify
such defective works; and (iii) JCHKL shall return the work deposit in the
amount of HK$1,500,000 to PacificNet Power Limited and shall
compensate and keep PacificNet Power Limited indemnified against all the
loss
and damages suffered as a result of any claims from the China Weal Property
Management Ltd, the employer and the potential tenants of Fortress
Tower.
The
case
is under review by Hong Kong High Court and we have not received any judgment
from the High Court of the Hong Kong Special Administrative Region as of
date of
this report. We are currently proceeding with discovery and counter-claims,
and
we intend to vigorously defend ourselves against the allegations. We are
unable
to predict the outcome of these actions, or a reasonable estimate of the
range
of possible loss, if any.
3.
Lawsuit between PacificNet Power Limited and Johnson Controls Hong Kong Limited
(JCHKL), a subsidiary of Johnson Controls Inc. (NYSE:JCI) (www.jci.com
)
On
or
about December, 2005, Johnson Controls Hong Kong Limited approached PacificNet
Power Limited (a 51% owned subsidiary of PacificNet) and made a representation
that they had submitted a tender to “The Incorporated Owners of Nan Fung Centre,
Tsuen Wan (“the Employer”) for the “construction and replacement works of
existing air-cooled chiller plant by new water-cooled chiller plant for Tsuen
Wan Nan Fung Centre and energy saving performance contract” (“the Construction
and Replacement Works Contract”). JCHKL invited and induced PacificNet Power
Limited to act as the main contractor for the Contract and it would then
act as
a sub-contractor.
PacificNet
Power also expressly made known to JCHKL that the said construction and
replacement works and the guaranteed energy saving should meet all the tender
requirements if PacificNet Power accepted the invitation to act as the main
contractor for the Contract, and PacificNet Power further said that if there
should be any quality defects with the system and/ or the construction work,
the
Employer and/ or their prospective tenants would claim against JCHKL and
JCHKL
should compensate.
PacificNet
Power however received some correspondences and complaints from the Employer
and/ or their representatives about the poor and/ or sub-standard works done
by
JCHKL. PacificNet Power, after separate investigation, discovered the poor
workmanship and sub-standard works done by JCHKL. Accordingly, the Employer
and/
or their representatives have delayed the monthly installments payment to
PacificNet Power.
On
April
23, 2007, we instructed our lawyers issued a letter to the Defendant requesting
and demanding them, being the sub-contractor of the Construction and Replacement
Works Contract, to take immediate rectification action within seven days
from
the date of the said letter to (i) rectify and complete all outstanding
defective works of the Construction and Replacement Works Contract; (ii)
replace
the water-cooled chiller plant and/or equipments which are not conformed
with
the requirements of the tender documents previously submitted by the Defendant
to the Employer; and (iii) improve the poor performance of energy saving
of the
new water-cooled chiller plant so that it would conform with their guarantee
made on 21 December, 2005 to PKL and the employer.
Despite
the said letter, JCHKL had failed and/ or refused to rectify and complete
all
outstanding works and/ or replace the defective system. And therefore PacificNet
Power claims against JCHKL for: (i) refund HK$6,414,300.00, being the Contract
Price paid by PacificNet Power to JCHKL; (ii) costs and expenses incurred
by
Power to rectify all defective works of the Contract; (iii) all damage and
loss
suffered by PacificNet Power, and further and other relief.
On
July
25, 2007, JCHKL issued a Defense and Counterclaim to PacificNet Power to
counter-claim that: (i) a concrete base was discovered after the existing
dismantled radiators was not indicated in tender drawings nor could it be
revealed by site visit; (ii) JCHKL could not have carried out the works under
the Contract without first demolishing the said concrete base; (iii) by a
letter
from JCHKL to PacificNet Power dated 22 May, 2007, PacificNet Power was informed
additional works had been carried out by JCHKL; (iv) a sum of HK$30,000 is
still
due and owing by PacificNet Power to JCHKL.
The
case
is now proceeding to the stage of fixing a date for trial in the High Court
of
Hong Kong. We are unable to predict the outcome of these actions, or a
reasonable estimate of the range of possible loss, if any.
18.
RESTATEMENT
On
March
19, 2007 the predecessor auditor withdrew their opinion on our previously
filed
financial statements for the years ended December 31, 2005 and 2004 due to
uncertainties around certain option grants during the said
period. Independent investigation in this connection commissioned by
our Audit Committee resulted in extra stock-based compensation charges of
approximately $0.3 million, $1.2 million and $0.1 million to each of the
years
ended December 31, 2005, 2004 and 2003, respectively.
In
the
course of the financial statements restatement for the year ended December
31,
2006, management has decreased total non-current assets by $1 million worth
of
goodwill as a result of the re-audit restatement to the ending goodwill balances
as at December 31, 2005. Further, management has also decreased total
selling, general and administrative expenses by an aggregate of $6.3
million. Said decrease comprises of extra goodwill impairment
amounting to approximately $3.7 million and $2.6 million, respectively, already
charged to the restated Selling, General and Administrative expenses for
the
years ended December 31, 2005 and 2004. An impairment of investment of $1.2
million was also recorded for the year ended December 31, 2006 for an entity
disposed in 2006.
Below
is
the detailed effect of the restatement (In thousands of US
Dollars):
|
|
2006
|
|
|
2006
|
|
|
2005
|
|
|
2005
|
|
|
|
As
reported
|
|
|
As
restated
|
|
|
As
reported
|
|
|
As
restated
|
|
Consolidated
Balance Sheets:
|
|
|
|
|
|
|
|
|
|
|
|
|
ASSETS:
|
|
|
|
|
|
|
|
|
|
|
|
|
Current
assets
|
|
$
|
17,041
|
|
|
$
|
17,041
|
|
|
$
|
31,130
|
|
|
$
|
28,784
|
|
Non-current
assets
|
|
|
24,841
|
|
|
|
19,885
|
|
|
|
20,073
|
|
|
|
14,212
|
|
Total
assets
|
|
$
|
41,882
|
|
|
$
|
36,926
|
|
|
$
|
51,203
|
|
|
$
|
42,996
|
|
LIABILITIES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current
liabilities
|
|
$
|
17,376
|
|
|
$
|
17,376
|
|
|
$
|
10,620
|
|
|
$
|
11,675
|
|
Non-current
liabilities
|
|
|
2,704
|
|
|
|
2,704
|
|
|
|
84
|
|
|
|
84
|
|
Total
liabilities
|
|
|
20,080
|
|
|
|
20,080
|
|
|
|
10,704
|
|
|
|
11,759
|
|
Minority
interest
|
|
|
6,874
|
|
|
|
2,869
|
|
|
|
8,714
|
|
|
|
8,033
|
|
STOCKHOLDERS' EQUITY
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Common
stock
|
|
|
1
|
|
|
|
1
|
|
|
|
1
|
|
|
|
1
|
|
Treasury
stock
|
|
|
(257
|
)
|
|
|
(272
|
)
|
|
|
(119
|
)
|
|
|
(134
|
)
|
Additional
paid-in capital
|
|
|
63,124
|
|
|
|
65,757
|
|
|
|
57,690
|
|
|
|
61,979
|
|
Cumulative
other comprehensive income (loss)
|
|
|
220
|
|
|
|
(42
|
)
|
|
|
247
|
|
|
|
(15
|
)
|
Accumulated
deficit
|
|
|
(47,739
|
)
|
|
|
(51,090
|
)
|
|
|
(25,990
|
)
|
|
|
(38,627
|
)
|
Stock
subscription receivable
|
|
|
(421
|
)
|
|
|
(377
|
)
|
|
|
(44
|
)
|
|
|
-
|
|
TOTAL
STOCKHOLDERS' EQUITY
|
|
|
14,928
|
|
|
|
13,977
|
|
|
|
31,785
|
|
|
|
23,204
|
|
TOTAL
LIABILITIES AND STOCKHOLDERS' EQUITY
|
|
$
|
41,882
|
|
|
$
|
36,926
|
|
|
$
|
51,203
|
|
|
$
|
42,996
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consolidated
Statements of Operations:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
revenue
|
|
$
|
42,738
|
|
|
$
|
42,738
|
|
|
$
|
44,341
|
|
|
$
|
31,086
|
|
Cost
of sales
|
|
|
(36,217
|
)
|
|
|
(36,217
|
)
|
|
|
(33,439
|
)
|
|
|
(20,678
|
)
|
Gross
profit
|
|
|
6,521
|
|
|
|
6,521
|
|
|
|
10,902
|
|
|
|
10,408
|
|
Selling,
General and Administrative expenses
|
|
|
(5,810
|
)
|
|
|
(11,126
|
)
|
|
|
(6,333
|
)
|
|
|
(10,419
|
)
|
Stock-based
compensation expenses
|
|
|
(242
|
)
|
|
|
(242
|
)
|
|
|
-
|
|
|
|
(282
|
)
|
Income/(loss)
from operations
|
|
|
(13,988
|
)
|
|
|
(7,533
|
)
|
|
|
4,569
|
|
|
|
(4,333
|
)
|
Income/(loss)
before income taxes, minority interest and discontinued
operations
|
|
|
(19,106
|
)
|
|
|
(12,661
|
)
|
|
|
5,645
|
|
|
|
(3,596
|
)
|
Income/(loss)
before discontinued operations
|
|
|
(18,999
|
)
|
|
|
(12,554
|
)
|
|
|
2,498
|
|
|
|
(5,145
|
)
|
Net
income available to common stockholders
|
|
$
|
20,093
|
|
|
$
|
(12,415
|
)
|
|
$
|
2,489
|
|
|
$
|
(5,145
|
)
|
Earnings/(loss)
per common share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
|
$
|
(1.78
|
)
|
|
$
|
(1.08
|
)
|
|
$
|
0.25
|
|
|
$
|
(0.51
|
)
|
Diluted
|
|
$
|
(1.78
|
)
|
|
$
|
(1.08
|
)
|
|
$
|
0.23
|
|
|
$
|
(0.51
|
)
|
Shares
used in computing earnings per share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
|
|
11,258,547
|
|
|
|
11,538,664
|
|
|
|
10,154,271
|
|
|
|
10,156,809
|
|
Diluted
|
|
|
11,964,587
|
|
|
|
11,538,664
|
|
|
|
10,701,211
|
|
|
|
10,156,809
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consolidated
Statements of Cash Flows
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
income (loss)
|
|
$
|
20,093
|
|
|
$
|
(12,415
|
)
|
|
$
|
2,489
|
|
|
$
|
(5,145
|
)
|
Stock-based
compensation
|
|
|
242
|
|
|
|
242
|
|
|
|
-
|
|
|
|
282
|
|
Net
cash provided by (used in) operating activities
|
|
|
(8,885
|
)
|
|
|
(8,580
|
)
|
|
|
9,250
|
|
|
|
11,843
|
|
Net
cash used in investing activities
|
|
|
(1,297
|
)
|
|
|
(2,922
|
)
|
|
|
(6,199
|
)
|
|
|
(9,799
|
)
|
Net
cash provided by (used in) financing activities
|
|
|
8,638
|
|
|
|
9,943
|
|
|
|
24
|
|
|
|
(946
|
)
|
Effect
of exchange rate on cash & cash equivalent
|
|
|
(43
|
)
|
|
|
(27
|
)
|
|
|
(260
|
)
|
|
|
7
|
|
NET
INCREASE IN CASH AND CASH EQUIVALENTS
|
|
$
|
(1,587
|
)
|
|
$
|
(1,586
|
)
|
|
$
|
2,815
|
|
|
$
|
1,105
|
|
Common
Stock
PACIFICNET
INC.
__________________________
Prospectus
__________________________
__________
__,
2007
You
should rely only on the information contained in this prospectus. We have not
authorized anyone to provide you with information different from that contained
in this prospectus or any prospectus supplement. This prospectus is not an
offer
of these securities in any jurisdiction where an offer and sale is not
permitted. The information contained in this prospectus is accurate only as
of
the date of this prospectus, regardless of the time of delivery of this
prospectus or any sale of our common stock.
PART
II
INFORMATION
NOT REQUIRED IN PROSPECTUS
Item
13. Other Expenses of Issuance and Distribution
The
following table sets forth the costs and expenses, other than underwriting
discounts and commissions, to be paid by the Registrant in connection with
the
issuance and distribution of the common stock being registered. All amounts
other than the SEC registration fee are estimates.
SEC
Registration Fee
|
|
$
|
2,286.33
|
*
|
Printing
and Engraving Expenses
|
|
$
|
-
|
|
Legal
Fees and Expenses
|
|
$
|
**
|
|
Accounting
Fees and Expenses
|
|
$
|
**
|
|
Miscellaneous
|
|
$
|
-
|
|
Total
|
|
$
|
|
|
*
Previously paid
**To
be
completed
Item
14. Indemnification of Directors and Officers
Section
145 of the Delaware General Corporation Law authorizes a court to award, or
a
corporations board of directors to grant, indemnity to directors and officers
in
terms sufficiently broad to permit such indemnification under certain
circumstances for liabilities (including reimbursement for expenses incurred)
arising under the Securities Act of 1933, as amended (the "Securities
Act").
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.
In
accordance with Section 102(a)(7) of the DGCL, the Certificate of
Incorporation of the registrant eliminates the personal liability of directors
to the registrant or its stockholders for monetary damages for breach of
fiduciary duty as a director with certain limited exceptions set forth in
Section 102(a)(7).
In
addition, the registrant currently maintains an officers’ and directors’
liability insurance policy which insures, subject to the exclusions and
limitations of the policy, officers and directors of the Registrant against
certain liabilities which might be incurred by them solely in such
capacities.
Insofar
as indemnification for liabilities arising under the Securities Act of 1933
may
be permitted to directors, officers or persons controlling the registrant,
pursuant to the foregoing provisions, the Registrant has been informed that
in
the opinion of the Securities and Exchange Commission such indemnification
is
against public policy as expressed in the Securities Act of 1933 and is,
therefore, unenforceable.
Item
15. 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
March
13, 2006, we consummated a private placement of $8,000,000 in convertible
debentures to a group of institutional investors. The debentures are convertible
at an initial fixed conversion price of $10.00, subject to adjustment. In
connection with the debenture financing, we issued to the investors warrants
to
purchase 400,000 shares of our Common Stock in the aggregate and to the
placement agent a warrant to purchase 16,000 shares of our Common Stock. The
exercise price of the warrants are $12.20 and they are exercisable for a period
of five years from the date of issuance. The shares underlying the debentures
and the warrants are being registered resale on this registration
statement.
On
June
8, 2005, 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
26,000 shares of our Common Stock. We granted CEOCast piggyback registration
rights with respect to those shares.
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 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
were registered on a Registration Statement on Form SB-2 that was declared
effective by the Securities and Exchange Commission on February 4,
2005.
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 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.
In
January 2004, we 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.
Item
16. Exhibits and Financial Statement Schedules
EXHIBITS
The
following exhibits are filed as part of this registration
statement:
EXHIBIT
NUMBER
|
|
DESCRIPTION
|
3.1
|
|
Certificate
of Incorporation, as amended. (3)
|
3.2
|
|
Form
of Amended By Laws of the Company. (3)
|
4
|
|
Specimen
Stock Certificate
|
4.1
|
|
Securities
Purchase Agreement, dated as of January 15, 2004, among PacificNet
Inc.
and the purchasers identified therein (4)
|
4.2
|
|
Form
of Common Stock Warrant issued to each of the purchasers
(4)
|
4.3
|
|
Form
of Common Stock Warrant issued to each of the purchasers, dated December
9, 2004 (6)
|
4.4
|
|
Form
of Common Stock Warrant issued to each of the purchasers, dated November
17, 2004 (6)
|
4.5
|
|
Securities
Purchase Agreement, dated February 28, 2006, among PacificNet Inc.
and the
purchasers identified therein (7)
|
4.6
|
|
Form
of Variable Rate Convertible Debenture Due March 2009, issued March
13,
2006 (7)
|
4.7
|
|
Form
of Common Stock Purchase Warrant issued March 31, 2006
(7)
|
4.8
|
|
Registration
Rights Agreement, dated February 28, 2006 (10)
|
5.1
|
|
Opinion
of Loeb & Loeb LLP regarding legality of the
securities(13)
|
10.1
|
|
Form
of Indemnification Agreement with officers and directors.
(1)
|
10.2
|
|
Amendment
to 1998 Plan (5)
|
10.3
|
|
Form
of Notice of Stock Option Grant and Stock Option Agreement under
the 1998
Stock Option Plan. (2)
|
10.9
|
|
Securities
Purchase Agreement, dated as of December 9, 2004, among PacificNet
Inc.
and the purchasers identified therein (6)
|
10.10
|
|
Securities
Purchase Agreement, dated as of November 17, 2004, among PacificNet
Inc.
and the purchasers identified therein (6)
|
10.15
|
|
PacificNet
Inc. 2005 Stock Option Plan (9)
|
10.17
|
|
Agreements
of Consulting, Pledge
and Power of Attorney of Clickcom and Sunroom
(8)
|
10.19
|
|
Form
of Lock-Up Agreement, dated March 13, 2006 (10)
|
10.20
|
|
Form
of Voting Agreement, dated March 13, 2006 (10)
|
10.21
|
|
Agreement
among PacificNet Strategic Investment Holdings Limited, Shenzhen
GuHaiGuanChao Investment Consultant Co., Ltd., Lion Zone Holdings
Limited
and Mr. Wang Wenming for the termination of “the Agreement of Sale and
Purchase 51% Shares of Lion Zone Holdings Limited” (11)
|
16
|
|
Letter
from Clancy and Co. P.L.L.C. (12)
|
21+
|
|
List
of Subsidiaries
|
23.1+
|
|
Consent
of Kabani & Company, Inc.
|
23.2
|
|
Consent
of Loeb & Loeb LLP (Included in the opinion filed as Exhibit 5.1)
(13)
|
24.1
|
|
Power
of Attorney (14)
|
________________
+
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 Amendment to Registration Statement on Form S-3 on Form
SB-2/A (Registration No. 333-113209) filed on April 21, 2004.
(4) Incorporated
by reference to the Amendment No. 2 to Form S-3, initially filed on March 2,
2004.
(5) Incorporated
by reference to the Company’s Form 10-KSB filed on April 16, 2002.
(6) Previously
filed as an exhibit to the Form SB-2 Registration Statement filed on December
30, 2004.
(7)
Incorporated by reference to the Company’s Form 8-K filed on December 20,
2005.
(8)
Incorporated by reference to the Company’s Form 10-KSB filed on April 28,
2006.
(9)
Incorporated by reference to the Company’s Definitive Proxy Statement filed
on November 19, 2006.
(10)
Incorporated by reference to the Company’s Form 10-KSB/A filed on November 3,
2006.
(11) Incorporated
by reference
to the Company’s Form 8-K filed on November 27, 2006.
(12) Incorporated
by reference to the Company’s Form 8-K/A filed on February 8, 2007
(13)
Incorporated by reference to the Company’s Registration Statement on Form S-1/A
filed on December 4, 2006 (Registration No. 333-134127)
(14)
Incorporated by reference to the Company’s Registration Statement on Form S-1
initially filed on May 15, 2006 (Registration No. 333-134127).
Item
17. Undertakings
The
undersigned registrant hereby undertakes:
(1) To
file, during any period in which
offers or sales are being made pursuant to this Registration Statement, a
post-effective amendment to this registration statement:
(i) to
include any prospectus required by
Section 10(a)(3) of the Securities Act of 1933.
(ii) to
reflect in the prospectus any facts
or events arising after the effective date of the registration statement (or
the
most recent post-effective amendment thereof) which, individually or in the
aggregate, represent a fundamental change in the information set forth 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 than a 20% change
in the maximum aggregate offering price set forth in the “Calculation of
Registration Fee” table in the effective registration
statement.
(iii) to
include any material information
with respect to the plan of distribution not previously disclosed in this
Registration Statement or any material change to such information in this
Registration Statement.
(2) That,
for the purpose of determining
any liability under the Securities Act of 1933, 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 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.
(4) Insofar
as indemnification for
liabilities arising under the Securities Act of 1933 may be permitted to
directors, officers and controlling persons of the Registrant pursuant to the
foregoing provisions described in Item 15 above, 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 or 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 its 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.
SIGNATURES
Pursuant
to the requirements of the Securities Act of 1933, the registrant has duly
caused this registration statement to be signed on its behalf by the
undersigned, thereunto duly authorized, in the city of Hong Kong, on December
17, 2007.
|
|
|
|
PACIFICNET
INC.
|
|
|
|
|
By:
|
/s/
/Tony
Tong
|
|
Tony
Tong, Chairman and
Chief
Executive Officer (Principal Executive
Officer)
|
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
Tony
Tong
|
Chairman,
Chief Executive Officer and Principal Executive Officer
|
December
17, 2007
|
|
|
|
/s/
Victor Tong
Victor
Tong
|
President
and Director
|
December
17, 2007
|
|
|
|
/s/
Daniel Lui
Daniel
Lui
|
Chief
Financial Officer and Principal
Financial Officer
|
December
17, 2007
|
|
|
|
/s/
Shaojian
Wang
Shaojian
Wang
|
Director
|
December
17, 2007
|
|
|
|
/s/
Michael
Ha
Michael
Ha
|
Director
|
December
17, 2007
|
|
|
|
Jin
Tao
|
Director
|
December
17, 2007
|
|
|
|
Jeremy
Goodwin
|
Director
|
December
17, 2007
|
|
|
|
/s/
Ho-Man
(Mike) Poon
Ho-Man
(Mike) Poon
|
Director
|
December
17, 2007
|
By:
/s/ Victor Tong
Victor
Tong
Attorney
in Fact
EXHIBIT
INDEX
EXHIBIT
NUMBER
|
|
DESCRIPTION
|
3.1
|
|
Certificate
of Incorporation, as amended. (4)
|
3.2
|
|
Form
of Amended By Laws of the Company. (4)
|
4
|
|
Specimen
Stock Certificate
|
4.1
|
|
Securities
Purchase Agreement, dated as of January 15, 2004, among PacificNet
Inc.
and the purchasers identified therein (4)
|
4.2
|
|
Form
of Common Stock Warrant issued to each of the purchasers
(4)
|
4.3
|
|
Form
of Common Stock Warrant issued to each of the purchasers, dated December
9, 2004 (6)
|
4.4
|
|
Form
of Common Stock Warrant issued to each of the purchasers, dated November
17, 2004 (6)
|
4.5
|
|
Securities
Purchase Agreement, dated February 28, 2006, among PacificNet Inc.
and the
purchasers identified therein (7)
|
4.6
|
|
Form
of Variable Rate Convertible Debenture Due March 2009, issued March
13,
2006 (7)
|
4.7
|
|
Form
of Common Stock Purchase Warrant issued March 31, 2006
(7)
|
4.8
|
|
Registration
Rights Agreement, dated February 28, 2006 (10)
|
5.1
|
|
Opinion
of Loeb & Loeb LLP regarding legality of the securities
(13)
|
10.1
|
|
Form
of Indemnification Agreement with officers and directors.
(1)
|
10.2
|
|
Amendment
to 1998 Plan (5)
|
10.3
|
|
Form
of Notice of Stock Option Grant and Stock Option Agreement under
the 1998
Stock Option Plan. (2)
|
10.9
|
|
Securities
Purchase Agreement, dated as of December 9, 2004, among PacificNet
Inc.
and the purchasers identified therein (6)
|
10.10
|
|
Securities
Purchase Agreement, dated as of November 17, 2004, among PacificNet
Inc.
and the purchasers identified therein (6)
|
10.15
|
|
PacificNet
Inc. 2005 Stock Option Plan (9)
|
10.17
|
|
Agreements
of Consulting, Pledge
and Power of Attorney of Clickcom and Sunroom
(8)
|
10.19
|
|
Form
of Lock-Up Agreement, dated March 13, 2006 (10)
|
10.20
|
|
Form
of Voting Agreement, dated March 13, 2006 (10)
|
10.21
|
|
Agreement
among PacificNet Strategic Investment Holdings Limited, Shenzhen
GuHaiGuanChao Investment Consultant Co., Ltd., Lion Zone Holdings
Limited
and Mr. Wang Wenming for the termination of “the Agreement of Sale and
Purchase 51% Shares of Lion Zone Holdings Limited” (11)
|
16
|
|
Letter
from Clancy and Co. P.L.L.C. (12)
|
21+
|
|
List
of Subsidiaries
|
23.1+
|
|
Consent
of Kabani & Company, Inc.
|
23.2
|
|
Consent
of Loeb & Loeb LLP (Included in the opinion filed as Exhibit 5.1)
(13)
|
24.1
|
|
Power
of Attorney (14)
|
________________
+
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 Amendment to Registration Statement on Form S-3 on Form
SB-2/A (Registration No. 333-113209) filed on April 21, 2004.
(4) Incorporated
by reference to the Amendment No. 2 to Form S-3, initially filed on March 2,
2004.
(5) Incorporated
by reference to the Company’s Form 10-KSB filed on April 16, 2002.
(6) Previously
filed as an exhibit to the Form SB-2 Registration Statement filed on December
30, 2004.
(7)
Incorporated by reference to the Company’s Form 8-K filed on December 20,
2005.
(8)
Incorporated by reference to the Company’s Form 10-KSB filed on April 28,
2006.
(9)
Incorporated by reference to the Company’s Definitive Proxy Statement filed
on November 19, 2006.
(10)
Incorporated by reference to the Company’s Form 10-KSB/A filed on November 3,
2006.
(11) Incorporated
by reference to the
Company’s Form 8-K filed on November 27, 2006.
(12)
Incorporated by reference to the Company’s Form 8-K/A filed on February 8,
2007.
(13)
Incorporated by reference to the Company’s Registration Statement on Form S-1/A
filed on December 4, 2006 (Registration No. 333-134127)
(14)
Incorporated by reference to the Company’s Registration Statement on Form S-1
initially filed on May 15, 2006 (Registration No. 333-134127).
II-6