Cash and Cash Equivalents

 

Cash and cash equivalents include cash in hand and cash in time deposits, certificates of deposit and all highly liquid debt instruments with original maturities of three months or less.

 

Accounts Receivable

 

The Company maintains reserves for potential credit losses on accounts receivable. Management reviews the composition of accounts receivable and analyzes historical bad debts, customer concentrations, customer credit worthiness, current economic trends and changes in customer payment patterns to evaluate the adequacy of these reserves.

 

Advances to Suppliers

 

The Company makes advances to certain vendors for purchases of material. The advances are interest free and unsecured.

 

7

---

 

AGFEED INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE SIX MONTHS ENDED JUNE 30, 2010 AND 2009

(unaudited)

 

Inventory

 

Inventory is stated at the lower of cost, as determined by weighted-average method, or market. Management compares the cost of inventories with their market value, and an allowance is made for writing down the inventories to their market value, if lower. Costs of raised animals include proportionate costs of breeding, including depreciation of the breeding herd, plus the costs of maintenance through the balance sheet date. Purchased pigs are carried at purchase cost plus costs of maintenance through the balance sheet date.

 

Inventory consisted of the following at June 30, 2010 and December 31, 2009:

		June 30,				December 31,
		2010				2009
						(audited)
Raw material		$	7,754,572			$	7,638,999
Work in Process			143,833				84,494
Finished Goods - feed			922,754				460,349
Finished Goods - hogs			18,771,927				15,703,127
			27,593,086				23,886,969
Less: reserve for obsolescence			(305,336	)			(51,557	)
		$	27,287,750			$	23,835,412

Property & Equipment

 

Property and equipment are stated at cost. Expenditures for maintenance and repairs are expensed as incurred; additions, renewals and betterments are capitalized. When property and equipment are retired or otherwise disposed of, the related cost and accumulated depreciation are removed from the respective accounts, and any gain or loss is included in operations. Depreciation of property and equipment is provided using the straight-line method for substantially all assets with estimated lives as follows:

Office equipment		5 years
Operating equipment		10 years
Vehicles		5 years
Swine for reproduction		3.5 years
Buildings		20 years

The following are the details of property and equipment at June 30, 2010 and December 31, 2009:

		June 30,				December 31,
		2010				2009
						(audited)
Office equipment		$	550,125			$	525,991
Operating equipment			8,164,330				4,655,298
Vehicles			950,845				871,058
Swines for reproduction			13,410,505				13,432,353
Buildings			16,129,584				11,659,693
Total			39,205,389				31,144,393
Less accumulated depreciation			(5,292,221	)			(4,152,542	)
		$	33,913,168			$	26,991,851

Construction-in-Process

 

Construction-in-process consists of amounts expended for building construction. Once building construction is completed, the cost accumulated in construction-in-process is transferred to property and equipment.

 

Long-Lived Assets

 

The Company applies the provisions of ASC Topic 360, “Property, Plant, and Equipment,” which addresses financial accounting and reporting for the impairment or disposal of long-lived assets. ASC 360 requires impairment losses to be recorded on long-lived assets used in operations when indicators of impairment are present and the undiscounted cash flows estimated to be generated by those assets are less than the assets’ carrying amounts. In that event, a loss is recognized based on the amount by which the carrying amount exceeds the fair value of the long-lived assets. Loss on long-lived assets to be disposed of is determined in a similar manner, except that fair values are reduced for the cost of disposal. Based on its review, the Company believes that as of June 30, 2010 and December 31, 2009, there was no significant impairment of its long-lived assets.

 

Intangible Assets

 

The following are the details of intangible assets at June 30, 2010 and December 31, 2009:

		June 30,				December 31,
		2010				2009
						(audited)
Right to use land		$	771,092			$	825,007
Customer list			294,600				293,400
Computer software			222,732				159,894
Intangible related to hog farm acquisitions			42,919,071				42,744,247
Total			44,207,495				44,022,548
Less Accumulated amortization			(263,409	)			(214,049	)
Intangibles, net		$	43,944,086			$	43,808,499

Per the People's Republic of China's (“PRC”) governmental regulations, the PRC Government owns all Chinese land. The Company leases land per real estate contracts with the government of the PRC for periods of 30 to 50 years. Accordingly, the right to use land for these feed companies is amortized over 50 years or the lease term, if shorter, and the computer software is amortized over three to nine years. For hog farms, the Company generally signed land leases with original owners of the farms.

 

Revenue Recognition

 

The Company's revenue recognition policies are in compliance with SEC Staff Accounting Bulletin (SAB) 104. Revenue is recognized when services are rendered to customers when a formal arrangement exists, the price is fixed or determinable, the delivery is completed, no other significant obligations of the Company exist and collectability is reasonably assured. Payments received before all of the relevant criteria for revenue recognition are satisfied are recorded as unearned revenue. The Company is not subject to VAT withholdings. The Company gives volume rebates to certain customers based on volume achieved. The Company accrues sales rebates based on actual sales volume.

 

9

---

 

AGFEED INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE SIX MONTHS ENDED JUNE 30, 2010 AND 2009

(unaudited)

 

Advertising Costs

 

The Company expenses the cost of advertising as incurred or, as appropriate, the first time the advertising takes place. Advertising costs for the three and six months ended June 30, 2010 and 2009 were not significant.

 

Research and Development

 

The Company expenses its research and development costs as incurred. Research and development costs for the three and six months ended June 30, 2010 and 2009 were not significant.

 

Stock-Based Compensation

 

The Company records stock-based compensation in accordance with ASC Topic 718, “Compensation – Stock Compensation.” ASC 718 requires companies to measure compensation cost for stock-based employee compensation at fair value at the grant date and recognize the expense over the employee’s requisite service period. The Company recognizes in the statement of operations the grant-date fair value of stock options and other equity-based compensation issued to employees and non-employees. There were 210,000 options outstanding as of June 30, 2010.

 

Income Taxes

 

The Company accounts for income taxes in accordance with ASC Topic 740, “Income Taxes.” ASC 740 requires a company to use the asset and liability method of accounting for income taxes, whereby deferred tax assets are recognized for deductible temporary differences, and deferred tax liabilities are recognized for taxable temporary differences. Temporary differences are the differences between the reported amounts of assets and liabilities and their tax bases. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion, or all of, the deferred tax assets will not be realized. Deferred tax assets and liabilities are adjusted for the effects of changes in tax laws and rates on the date of enactment.

 

Under ASC 740, a tax position is recognized as a benefit only if it is “more likely than not” that the tax position would be sustained in a tax examination, with a tax examination being presumed to occur. The amount recognized is the largest amount of tax benefit that is greater than 50% likely of being realized on examination. For tax positions not meeting the “more likely than not” test, no tax benefit is recorded. The adoption had no effect on the Company’s consolidated financial statements.

 

Foreign Currency Transactions and Comprehensive Income

 

US GAAP requires that recognized revenue, expenses, gains and losses be included in net income. Certain statements, however, require entities to report specific changes in assets and liabilities, such as gain or loss on foreign currency translation, as a separate component of the equity section of the balance sheet. Such items, along with net income, are components of comprehensive income. The functional currency of the Company’s Chinese subsidiaries is the RMB. The unit of Renminbi is in Yuan. Translation gains are classified as an item of other comprehensive income in the stockholders’ equity section of the consolidated balance sheet.

 

Basic and Diluted Earnings (Loss) Per Share

 

Earnings per share is calculated in accordance with the ASC Topic 260, “Earnings Per Share.” Basic earnings per share is based upon the weighted average number of common shares outstanding. Diluted earnings per share is based on the assumption that all dilutive convertible shares and stock warrants were converted or exercised. Dilution is computed by applying the treasury stock method. Under this method, warrants are assumed to be exercised at the beginning of the period (or at the time of issuance, if later), and as if funds obtained thereby were used to purchase common stock at the average market price during the period.

 

10

---

 

AGFEED INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE SIX MONTHS ENDED JUNE 30, 2010 AND 2009

(unaudited)

 

The following is a reconciliation of the number of shares (denominator) used in the basic and diluted earnings (loss) per share computations for the three and six months ended June 30, 2010 and 2009:

Three months ended June 30,		2010								2009
						Per Share								Per Share
		Shares				Amount				Shares				Amount
Basic earnings (loss) per share			45,015,351			$	(0.07	)			39,549,994			$	0.03
Effect of dilutive stock options and warrants			-				-				1,896,400				-
Diluted earnings (loss) per share			45,015,351			$	(0.07	)			41,446,344			$	0.03

Six months ended June 30,		2010								2009
						Per Share								Per Share
		Shares				Amount				Shares				Amount
Basic earnings (loss) per share			44,942,821			$	(0.04	)			38,746,009			$	0.11
Effect of dilutive stock options and warrants			-				-				835,882				-
Diluted earnings (loss) per share			44,942,821			$	(0.04	)			39,581,891			$	0.11

 

		Three Months Ended June 30,								Six Months Ended June 30,
		2010				2009				2010				2009
Revenues from unrelated entities
Animal feed nutrition		$	26,369,201			$	11,136,517			$	50,658,950			$	21,249,773
Hog production			11,292,754				27,391,253				39,862,072				50,707,271
		$	37,661,955			$	38,527,770			$	90,521,022			$	71,957,044
Intersegment revenues
Animal feed nutrition		$	1,721,014			$	3,775,765			$	5,490,936			$	6,446,171
Hog production			1,267,008				230,593				1,784,139				318,855
		$	2,988,022			$	4,006,358			$	7,275,075			$	6,765,026
Total revenues
Animal feed nutrition		$	28,090,215			$	14,912,282			$	56,149,886			$	27,695,944
Hog production			12,559,762				27,621,846				41,646,211				51,026,126
Less Intersegment revenues			(2,988,022	)			(4,006,358	)			(7,275,075	)			(6,765,026	)
		$	37,661,955			$	38,527,770			$	90,521,022			$	71,957,044
Gross profit
Animal feed nutrition		$	4,768,663			$	3,102,415			$	9,232,737			$	5,687,358
Hog production			(2,209,385	)			2,119,244				(354,177	)			5,337,706
Holding company			-				-				-				-
		$	2,559,278			$	5,221,659			$	8,878,560			$	11,025,064
Income (loss) from operations
Animal feed nutrition		$	2,962,810			$	1,738,516			$	5,630,163			$	3,126,147
Hog production			(3,921,133	)			1,026,823				(3,695,323	)			3,186,452
Holding company			(974,412	)			(503,542	)			(2,243,301	)			(868,436	)
		$	(1,932,735	)		$	2,261,797			$	(308,461	)		$	5,444,163
Interest income
Animal feed nutrition		$	22,738			$	17,111			$	56,181			$	48,859
Hog production			10,680				5,277				17,270				10,313
Holding company			4,644				30,166				12,622				53,944
		$	38,062			$	52,554			$	86,073			$	113,116
Interest and financing costs
Animal feed nutrition		$	97,079			$	15,359			$	179,611			$	15,359
Hog production			-				7,145				-				7,145
Holding company			42,851				602,010				85,230				754,924
		$	139,930			$	624,514			$	264,841			$	777,428
Income tax expense
Animal feed nutrition		$	641,139			$	285,958			$	1,094,719			$	501,508
Hog production			-				-				-				-
Holding Company			-				-				-				-
		$	641,139			$	285,958			$	1,094,719			$	501,508
Net income (loss)
Animal feed nutrition		$	2,264,097			$	1,450,299			$	4,437,740			$	2,932,699
Hog production			(4,206,230	)			844,788				(4,009,165	)			2,875,117
Holding company			(1,012,619	)			(1,068,835	)			(2,315,909	)			(1,562,724	)
		$	(2,954,752	)		$	1,226,252			$	(1,887,334	)		$	4,245,092
Provision for depreciation
Animal feed nutrition		$	112,394			$	132,798			$	219,436			$	169,059
Hog production			651,640				539,455				1,356,497				1,113,900
		$	764,034			$	672,253			$	1,575,933			$	1,282,959

 

18

---

 

AGFEED INDUSTRIES, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE SIX MONTHS ENDED JUNE 30, 2010 AND 2009

(unaudited)

 

		As of				As of
		June 30,				December 31,
		2010				2009
Total assets
Animal feed nutrition		$	39,715,595			$	38,142,821
Hog production			115,296,223				110,718,199
Holding company			7,840,061				14,087,000
		$	162,851,879			$	162,948,020
Intangible assets
Animal feed nutrition		$	3,357,120			$	3,419,141
Hog production			40,586,966				40,389,358
Holding company			-				-
		$	43,944,086			$	43,808,499

 

Note 10 – Commitments

 

At June 30, 2010, the Company had commitments to expend approximately $1,254,000 for construction in process.

 

Note 11 – Acquisition and Dispositions

 

During the six months ended June 30, 2010, the Company purchased the non-controlling interest of 10% and 20% in two hog farms for $230,063 and $176,040, respectively.  As a result of the purchase of the non-controlling interest, the excess of the purchase price over the carrying value of the non-controlling interest of $219,158 and $146,144, respectively, was recorded against additional paid in capital.

 

Note 12 – Subsequent Events

 

During July and August 2010, the Company issued 4,993,496 shares of its common stock to Southridge pursuant to the Equity Credit Agreement.  The Company received aggregate gross proceeds of $13,000,000 which will be used for general corporate purposes, including to finance a portion of the purchase price for the potential acquisition of M2P2, LLC.  Following these transactions, the Company may from time to time sell to Southridge shares of its common stock for aggregate proceeds of $37,000,000.

 

 

19

---

 

CAUTIONARY STATEMENT FOR FORWARD-LOOKING STATEMENTS

 

This Quarterly Report on Form 10-Q includes forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”).  We have based these forward-looking statements on our current expectations and projections about future events, and they are applicable on as of the dates of such statement.  These forward-looking statements are subject to known and unknown risks, uncertainties and assumptions about us that may cause our actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by such forward-looking statements.  In some cases, you can identify forward-looking statements by terminology such as “may,” “will,” “should,” “could,” “would,” “expect,” “plan,” anticipate,” believe,” estimate,” continue,” or the negative of such terms or other similar expressions.  Factors that might cause or contribute to such a discrepancy include, but are not limited to, those listed under the heading “Risk Factors” and those listed in our other SEC filings. You should not put undue reliance on any forward-looking statements.  These statements speak only as of the date of this Quarterly Report on Form 10-Q, even if subsequently made available on our website or otherwise, and we undertake no obligation to update or revise these statements to reflect events or circumstances occurring after the date of this Quarterly Report on Form 10-Q.  The following discussion should be read in conjunction with our Financial Statements and related Notes thereto included elsewhere in this report. Throughout this Quarterly Report on Form 10-Q we will refer to AgFeed Industries, Inc., together with its subsidiaries, as “AgFeed,” the “Company,” “we,” “us,” and “our.”

 

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Overview

 

We are engaged in the animal nutrition premix, concentrate and complete feeds business and commercial hog production business in China through our operating subsidiaries.

 

Our animal nutrition business consists of the research and development, manufacture, marketing and sale of premix, concentrate and complete feed for use in the domestic animal husbandry markets almost exclusively for hog production in China. Premix is an animal feed additive that is used in commercial animal production worldwide. We have been almost exclusively in the premix feed business since 1995 and now operate five premix, concentrate and complete feed manufacturing facilities located in the cities of Nanchang, Shandong, Shanghai, Nanning, and Hainan. We are expanding our concentrate and complete feed lines to meet the growing demand of commercial producers as they modernize their production technology and focus on the requirements of the food safety laws.

 

We entered the hog breeding and production business in November 2007. In this business, we mainly produce hogs for processing and sell breeding stock. We currently have two breeder farms and 29 meat hog producing farms in the Jiangxi, Shanghai, Hainan, Guangxi and Fujian provinces.

 

We developed a system of centralized raw material purchases, accounting and internal control management, corporate marketing strategies and brand building. We created, and centrally manage, an animal disease control response team. This team consists of experienced Chinese and international hog industry professionals that are used by each of our subsidiaries across both of our lines of business.

 

We had revenues of $90.52 million for the six months ended June 30, 2010 compared to revenues of $71.96 million for the six months ended June 30, 2009. The increase (25.8%) was the result of expanding market share in our feed business.

 

The hog to corn ratio is a measurement that describes the market price of a hog in relation to the price of corn indicating the relative profitability of hog farming.  During the second quarter of 2009 the hog to corn ratio was 5.83 while during the second quarter of 2010 the hog to corn ratio had deteriorated to 5.08 and dropped as low as 4.98 in mid-April 2010.  These ratios illustrate the high cost of hog feed relative to the market prices of hogs during the period.

 

20

---

 

This resulted in the margins of both the Company and our customers being reduced.  While we have supported our customers with extended payment terms from time to time, in light of the industry wide operating pressures faced during the second quarter of 2010 we limited this practice thereby reducing accounts receivable approximately $5.6 million from March 31, 2010.

 

 

Animal Nutrition Business

 

We manufacture, distribute, market and sell three main product lines - premix, concentrate and complete feeds for use in all stages of a pig’s life. We conduct these operations through our subsidiaries Nanchang Best, Shanghai Best, Guangxi Huijie, Shandong Feed, and HopeJia. We also provide educational, technical and veterinary support to our customer base

 

Our feed operating companies operate manufacturing facilities in Nanchang, Shanghai, Nanning, Shandong, and Hainan provinces, primarily serving the hog industry. Each subsidiary independently conducts local marketing and sales efforts under the direction of a central executive management team. Nanchang Best and Guangxi Huijie are primarily responsible for our ongoing research and development efforts and share their expertise in this area with all of our manufacturing operations.

 

During the first six months of 2010, we added 12 independent owned feed distribution chain stores now totaling 1,314 that sell our products exclusively. During the same period, we added 14 commercial farms now totaling 795. Backyard and small farms that raise less than 100 hogs per year per family supply 75% of China’s total annual hog production. Through our network of distributors and direct sales, we are able to market our premix feed to the producers of more than 65% of China’s annual hog production.

We are one of a handful of companies that received “Green Certification” from the Minister of Agriculture of PRC for our premix products under the brand label “BEST.” This means that these products are safe, environmentally friendly, and can effectively promote the healthy growth of pigs. According to current government regulations, pork cannot be certified by the government as “green” unless it is produced using government certified green feed. Having our feed certified as green requires us to adhere to strict operational controls and procedures. This green certification laid the foundation for our hog farms to produce hogs providing high quality “Green” pork products. It is also an incentive for other commercial hog farms to enter into sales contracts with our feed operations.

  

During the second quarter of 2010, revenue in the feed division increased to $26.37 million from $11.14 million in the second quarter of 2009, an increase of 137%. During the second quarter of 2010, revenue continued in line with the results achieved for the previous calendar quarter.  However, during the second quarter of 2010, revenue in our hog production division decreased to $11.29 million from $27.39 million in the second quarter of 2009, a decrease of 59%

 

The Chinese hog feed market is a 50 million metric ton market where the average producer’s annual production is less than 10,000 metric tons, according to China Research and Intelligence’s research report on the Chinese feed industry 2009-2010.  During the first six months of 2010, we sold a total of 83,657 metric tons as compared to the first six months of 2009 when we sold 43,542 metric tons, representing an increase of 92%.  Our plans for 2010 call for us sell 180,000 metric tons without considering the impact of any acquisitions. 

 

During 2010, we intend to introduce a bulk delivery system for hog feed to the market, a value solution for large commercial farms.

 

21

---

 

 

Hog Production Business

 

In our hog production business, we have grown our business through strategic acquisitions of current producing commercial hog farms and organic growth. We own two breeder hog farms and 29 meat producing hog farms located in Jiangxi, Shanghai, Hainan, Guangxi, and Fujian provinces, which are strategically located in or near the largest pork consumption areas in the PRC.

 

We entered the hog farming business on November 9, 2007 as a result of our acquisition of ninety percent (90%) of the capital stock of Lushan Breeder Pig Farm Co., Ltd. and acquired the remaining 10% in the first quarter of 2010 for $230,063. Lushan owns and operates a breeder hog farm in Jiangxi Province. Lushan is a mid-scale hog farm engaged in the business of raising, breeding and selling hogs in the PRC for use in the pork production market in the PRC. In 2008, we acquired at least a majority interest in 29 meat hog producing farms in the Jiangxi, Shanghai, Hainan, Guangxi, and Fujian provinces through our subsidiaries - Nanchang Best, Shanghai Best, Guangxi Huijie and Best Swine. Our meat hog producing farms generate revenue primarily from the sale of meat hogs to processors. Our meat hogs are sold primarily in Jiangxi, Shanghai, Hainan, Guangxi, Fujian, Guangdong and other neighboring provinces. In November 2009, we broke ground on our first "Western-model" farm in the city of Da Hua, Guangxi Province. We also completed the construction of a nucleus farm in the city of Wuning, Jiangxi Province in November 2009. This farm will be operated by Hypor AgFeed Breeding Company.

 

In February 2010, we entered into negotiations to participate in a hog production project in conjunction with Xinyu City in Jiangxi Province.  The proposed project is a plan to build 5 western model hog farms with the initial phase of the project to encompass an investment of $18 million for the construction of  two 5,000 head sow farms, one 200 head boar stud farm and one 2,600 head multiplier facility.  Upon completion the initial phase, the project is expected to have an annual production capacity of 230,000 hogs.  In April of 2010 these negotiations were successfully completed and construction will begin in May 2010.

 

Our breeder farms generate revenue primarily from the sale of breeder hogs to commercial hog farms and, to a lesser extent, the sale of meat hogs to hog slaughterhouses. Our customers include large-scale hog farms, mid-scale hog farms and small-scale farms. Our breeder hogs are sold throughout the PRC, primarily in southeastern China.

 

During the first six months of 2010 our capital spending consisted of $7.6 million for property, plant and equipment purchases, environmental and other expenditures.

 

During the first six months of 2010 we sold 270,000 head with an average selling price of $154 per head at an average weight of 88.8kg (196 lbs.)  as compared to the first six months  of 2009 when we sold 318,000 head with an average selling price of $161 per head at an average weight of 90.7kg (200 lbs.).

 

As a result of our strategic direction to introduce modern western hog production technologies to our existing farm base, we have begun to realize improved operating efficiencies.  We have reduced our operating costs by $8 per head.  During the first six months of 2010, the benefit of these operating efficiencies helped to offset the high cost of corn and soy and weak market prices for hogs.  These efficiencies were achieved in large part as a direct result of our alliances with Hypor and M2P2.

 

Our strategic alliance with Hypor, announced in April of 2009, has four phases: (1) upgrading the genetic base of our existing herds; (2) creating a sow farrow-to-finish nucleus facility (Wuning Farms) to supply superior breeding stock to be utilized in our production systems and for sale to outside commercial hog farms; (3) establishing high health, top quality genetics to the farms being developed by AgFeed International Protein; and (4) developing gene transfer centers to maximize the use of the top performing boars in China across AgFeed's production system. On December 17, 2009, we formed Hypor AgFeed Breeding Company with Hypor to develop, operate and market a genetic nucleus farm in Wuning, China. Hypor AgFeed Breeding Company is owned 85% by us and 15% by Hypor.

 

22

---

 

On July 13, 2009, together with M2P2, we formed AgFeed International Protein, a joint venture focused on enhancing hog production systems for Chinese and other Pan Asian clients based on modern western standards to increase productivity and ensure the highest bio-security health standards in the Pan Asian hog industry. The joint venture was formed to take advantage of the commercialization and consolidation of the hog industry being fostered by the Chinese central and local governments. We are AgFeed International Protein's first client. We own 65% of AgFeed International Protein, certain affiliates own an additional 15.1% and M2P2 owns the remaining 19.9%. On November 9, 2009, construction began on of our first large western model farm in Da Hua, China (Jiangxi Province). This is the first of seven farms that will be constructed in South China that will house an additional 35,000 genetically superior sows and 400 boars. When fully operational, we anticipate that these farms will produce 750,000 – 850,000 pigs per year. It is anticipated that the cost to build the seven farms will be approximately $50 million over the next two years. AgFeed International Protein has completed all phases of design and blueprints for these farms and has been working with international and local construction firms to ensure success.

 

Our current strategic plan calls for us to develop, during 2009 -2012, a production platform capable of producing 2 million hogs per year by 2015. The key element to this future growth is modern hog production technologies and science based genetics, which is underscored by our joint ventures with Hypor and M2P2.  Our Lushan and Ganda Breeding Farm are now fully stocked with the Hypor Large White Pureline Sows, the Hypor Landrace Pureline Boars and the Duroc Terminal Sire.  

 

The demand for safe food is the key driver in our strategy “AgFeed, Government and Farmer”. The local governments have partnered with AgFeed in the cities of Dahua and Xinyu to build agricultural industrial parks that will produce top health and safe pork meat for the Chinese consumer.

 

Chinese Vice Premier Li Keqiang said, "Food is essential, and safety should be a top priority. Food safety is closely related to people's lives and health and economic development and social harmony," at a State Council meeting in Beijing. In June 2009, food safety laws were passed in China and passed down to the local governments for implementation.

 

According to the China Feed Industry Association, China has the world's largest and most profitable market for hog production, which processed 625 million hogs in 2009, compared to approximately 100 million in the U.S. More than 1.2 billion Chinese consume pork as their primary source of meat. 62% of all meat consumed in China is pork. Chinese consumers consume more pork each year than the rest of the world combined. China’s pork consumption is forecast to increase to 47.0 million metric tons in 2010 up from 44.9 million metric tons in 2008, an increase of about 5%. Projected pork demand by 2015 is estimated to approach 68.0 million metric tons, an increase of 51%

 

The Chinese government supports hog producers with favorable tax status and subsidies, insurance, vaccines, caps on feed costs and land use grants. Hog production is exempt from all taxes and sow owners receive government grants and subsidies.

 

Critical Accounting Policies

 

In presenting our financial statements in conformity with accounting principles generally accepted in the United States (“US GAAP”), we are required to make certain estimates and assumptions that affect the amounts reported therein.  Several of the estimates and assumptions we are required to make relate to matters that are inherently uncertain as they pertain to future events.  However, events that are outside of our control cannot be predicted and, as such, they cannot be contemplated in evaluating such estimates and assumptions.  If there is a significant unfavorable change to current conditions, it will likely result in a material adverse impact to our consolidated results of operations, financial position and liquidity. We believe that the estimates and assumptions we used when preparing our financial statements were the most appropriate at that time.  Presented below are those accounting policies that we believe require subjective and complex judgments that could potentially affect reported results.

 

23

---

 

Use of Estimates.   Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which were prepared in accordance with US GAAP.  The preparation of these consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities.  On an ongoing basis, we evaluate our estimates, including those related to impairment of long-lived assets and allowance for doubtful accounts.  We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources.  Actual results may differ from these estimates under different assumptions or conditions; however, we believe that our estimates, including those for the above-described items, are reasonable.

 

Areas that require estimates and assumptions include valuation of accounts receivable and inventory, determination of useful lives of property and equipment, estimation of certain liabilities and sales returns.

 

Allowance For Doubtful Accounts.   We continually monitor customer payments and maintain a reserve for estimated losses resulting from our customers’ inability to make required payments. In determining the reserve, we evaluate the collectability of our accounts receivable based upon a variety of factors. In cases where we become aware of circumstances that may impair a specific customer’s ability to meet its financial obligations, we record a specific allowance against amounts due. For all other customers, we recognize allowances for doubtful accounts based on our historical write-off experience in conjunction with the length of time the receivables are past due, customer credit worthiness, geographic risk and the current business environment. Actual future losses from uncollectible accounts may differ from our estimates.

 

Inventories.  Inventories are stated at the lower of cost or market. Cost is determined using the weighted average method. We evaluate our ending inventories for estimated excess quantities and obsolescence. Our evaluation includes the analysis of future sales demand by product, within specific time horizons. Inventories in excess of projected future demand are written down to net realizable value. In addition, we assess the impact of changing technology on inventory balances and writes-down inventories that are considered obsolete. Inventory obsolescence and excess quantities have historically been minimal.

 

Long-Lived Assets. We periodically assess potential impairments to our long-lived assets  We perform an impairment review whenever events or changes in circumstances indicate that the carrying value may not be fully recoverable. Factors we considered include, but are not limited to: significant underperformance relative to expected historical or projected future operating results; significant changes in the manner of use of the acquired assets or the strategy for our overall business; and significant negative industry or economic trends. When we determine that the carrying value of a long-lived asset may not be recoverable based upon the existence of one or more of the above indicators of impairment, we estimate the future undiscounted cash flows expected to result from the use of the asset and its eventual disposition. If the sum of the expected future undiscounted cash flows and eventual disposition is less than the carrying amount of the asset, we recognize an impairment loss. An impairment loss is reflected as the amount by which the carrying amount of the asset exceeds the fair market value of the asset, based on the fair market value if available, or discounted cash flows. To date, there has been no impairment of long-lived assets.

 

Property and Equipment. Useful lives of property and equipment is based on historical experience and industry norms. Changes in useful lives due to changes in technology or other factors can affect future depreciation estimates.

 

Revenue Recognition. Our revenue recognition policies are in compliance with SEC Staff Accounting Bulletin (SAB) 104. Revenue is recognized when services are rendered to customers when a formal arrangement exists, the price is fixed or determinable, the delivery is completed, no other significant obligations of AgFeed exist and collectability is reasonably assured. Payments received before all of the relevant criteria for revenue recognition are satisfied are recorded as unearned revenue. We are not subject to VAT withholdings. We give volume rebates to certain customers based on volume achieved.

 

24

---

 

We make estimates and judgments when determining whether the collectability of revenue from customers is reasonably assured. Management estimates regarding collectability impact the actual revenues recognized each period and the timing of the recognition of revenues. Our assumptions and judgments regarding future collectability could differ from actual events, thus materially impacting our financial position and results of operations.

 

Sales returns and allowances have historically been insignificant.  Accordingly, estimating returns is not critical.  However, if circumstances change, returns and allowance may impact the company’s earnings. There are no differences in our arrangements with our different types of customers.  Accordingly, we do not have different revenue recognition policies for different types of customers.   We offer credit terms ranging from 30 to 90 days for most customers.  From some large customers, we may extend these terms beyond 90 days.

 

Recent Accounting Pronouncements

 

On July 1, 2009, we adopted Accounting Standards Update (“ASU”) No. 2009-01, “Topic 105 - Generally Accepted Accounting Principles - amendments based on Statement of Financial Accounting Standards No. 168, “The FASB Accounting Standards Codification™ and the Hierarchy of Generally Accepted Accounting Principles” (“ASU No. 2009-01”).  ASU No. 2009-01 re-defines authoritative GAAP for nongovernmental entities to be only comprised of the FASB Accounting Standards Codification™ (“Codification”) and, for SEC registrants, guidance issued by the SEC.  The Codification is a reorganization and compilation of all then-existing authoritative GAAP for nongovernmental entities, except for guidance issued by the SEC.  The Codification is amended to effect non-SEC changes to authoritative GAAP.  Adoption of ASU No. 2009-01 only changed the referencing convention of GAAP in Notes to the Consolidated Financial Statements.

 

On February 25, 2010, the FASB issued ASU 2010-09 Subsequent Events Topic 855 “Amendments to Certain Recognition and Disclosure Requirements,” effective immediately. The amendments in the ASU remove the requirement for an SEC filer to disclose a date through which subsequent events have been evaluated in both issued and revised financial statements. Revised financial statements include financial statements revised as a result of either correction of an error or retrospective application of US GAAP. The FASB believes these amendments remove potential conflicts with the SEC’s literature. The adoption of this ASU did not have a material impact on our consolidated financial statements.

 

On March 5, 2010, the FASB issued ASU No. 2010-11 Derivatives and Hedging Topic 815 “Scope Exception Related to Embedded Credit Derivatives.” This ASU clarifies the guidance within the derivative literature that exempts certain credit related features from analysis as potential embedded derivatives requiring separate accounting. The ASU specifies that an embedded credit derivative feature related to the transfer of credit risk that is only in the form of subordination of one financial instrument to another is not subject to bifurcation from a host contract under ASC 815-15-25, Derivatives and Hedging — Embedded Derivatives — Recognition. All other embedded credit derivative features should be analyzed to determine whether their economic characteristics and risks are “clearly and closely related” to the economic characteristics and risks of the host contract and whether bifurcation is required. The ASU is effective for the Company on July 1, 2010. Early adoption is permitted. The adoption of this ASU will not have a material impact on our consolidated financial statements.

 

In April 2010, the FASB codified the consensus reached in Emerging Issues Task Force Issue No. 08-09, “Milestone Method of Revenue Recognition.” FASB ASU No. 2010-17 provides guidance on defining a milestone and determining when it may be appropriate to apply the milestone method of revenue recognition for research and development transactions. FASB ASU No. 2010-17 is effective for fiscal years beginning on or after June 15, 2010, and is effective on a prospective basis for milestones achieved after the adoption date. We do not expect this ASU will have a material impact on our financial position or results of operations when we adopt this update on January 1, 2011.

 

25

---

 

Results of Operations

 

Comparison of three months ended June 30, 2010 and June 30, 2009

		Three Months Ended June 30,
		2010				2009				$ Change				% Change
		(in thousands)
Revenues		$	37,662			$	38,528			$	(866	)			-2.2	%
Cost of goods sold		$	35,103			$	33,306			$	1,797				5.4	%
Gross profit		$	2,559			$	5,222			$	(2,662	)			-51.0	%
Operating expenses		$	4,492			$	2,960			$	1,532				51.8	%
Interest and financing costs		$	140			$	625			$	(485	)			-77.6	%
Net income		$	(2,955	)		$	1,226			$	(4,181	)			-341.0	%

 

		2010				2009				Change				Price				Volume
Business segment:
Animal feed nutrition
Volume (metric tons)			41,315				23,300				18,015
Revenue (in 000s)		$	28,090			$	14,912			$	13,178			$	890			$	12,288
Cost of goods sold (in 000s)		$	23,321			$	11,810			$	11,511			$	1,305			$	10,206
Gross profit (in 000s)		$	4,769			$	3,102			$	1,667			$	(415	)		$	2,082
Gross profit margin			18.1	%			27.9	%
Revenue/MT		$	680			$	640			$	40
Cost of goods sold/MT		$	560			$	510			$	50
Gross profit/MT		$	120			$	130			$	(10	)
Hog production
Volume (hogs)			95,000				184,000				(89,000	)
Revenue (in 000s)		$	12,560			$	27,622			$	(15,062	)		$	(3,420	)		$	(11,642	)
Cost of goods sold (in 000s)		$	14,769			$	25,503			$	(10,734	)		$	2,890			$	(13,624	)
Gross profit (in 000s)		$	(2,209	)		$	2,119			$	(4,328	)		$	(6,310	)		$	1,982
Gross profit margin			-19.6	%			7.7	%
Revenue/hog		$	131			$	150			$	(19	)
Cost of goods sold/hog		$	154			$	138			$	16
Gross profit/hog		$	(23	)		$	12			$	(35	)

Revenues. The decrease was due to a 58.8% decrease in hog production revenue offset by a 136.8% increase in animal feed. Hog sales of 95,000 for three months ended June 30, 2010 which was a decrease from total hog sales of 184,000 hogs for the three months ended June 30, 2009.  Animal feed sales volume for three months ended June 30, 2010 exceeded 41,315 metric tons representing a 77% increase in volume over the comparative period of 2009. However, the increase in revenue described above was offset by lower hog sales prices and increases in ingredient costs.

 

26

---

 

Driving the increase in animal nutrition revenues is the continuing market shift of our customers to complete feeds.  This feed category contributed 14,000 metric tons of the 18,000 combined metric tons of growth.  Condensed feeds contributed additional tonnage of 4,000 with declines of 300 metric tons in our fine feeds category offset by an increase of 300 metric tons in our premix feed type.

 

The challenges of the market are evident in the results produced by our hog segment.  Hog production shows a revenue decline of $15 million reflecting a decline of $3.4 million due to the rapid decline of market prices for hogs and $11.6 million due to our marketing 89,000 less hogs in 2010 versus 2009.  The price component is indicative of the bringing to market an excessive number of hogs as a carryover from the Chinese New Year’s festival, response to increased costs and the impact of flooding in the regions we conduct business, including Jiangxi province and Guangxi province.  The result is the revenue per hog declined to $131 versus $150 in 2009.  In terms of volume, during the three months ended June 30, 2009, we followed a program of purchasing hogs from outside our system for finishing to market weights to take advantage of profitable market prices.  In 2010, we did not purchase hogs under this program and in combination with vastly reduced revenue per hog and the reduction of our herd of over 19,000 animals due to flooding and its effects (over 16,000) and planned culling of 3,000 sows. Our hog volumes were 89,000 lower in the three months ended June 30, 2010 compared to the same period in 2009.

 

Cost of Goods Sold. We experienced increases in cost of goods sold for our two business lines during the three months ended June 30, 2010 driven primarily by a 20.0% increase in corn prices over the same period in 2009.   For our feed nutrition segment, the increased tonnage produced an increase in our costs of $10.2 million while ingredient costs reflecting increased costs of corn in the comparative periods, produced cost increases of $1.3 million.  As a result, gross profit reflects a net increase of $1.7 million driven by the aforesaid volumes but reflecting a challenging market in which to pass along all of our cost increases.

 

Gross Profit. Gross margins decreased to 6.8% from 13.6% during the three months ended June 30, 2010 as compared to the same period in 2009. Our gross profit (loss) margin for the feed and hog segments were 18.1% and (19.6%), respectively for the three months ended June 30, 2010 as compared to 27.9% and 7.7% for three months ended June 30 2009.  The decrease in gross margin is attributed to the 20.0% increase in corn cost and a reduction in the selling price for our hogs over the same period in 2009. The increase in the cost of corn was offset somewhat by actions taken in the first quarter of 2010 including our entry into long-term contracts for key product ingredients which locked in favorable pricing.

 

Selling, General and Administrative Expenses. Selling, general and administrative expense includes overhead expenses such as rent, management and staff salaries, general insurance, marketing, accounting, legal and offices expenses. Our selling expenses for the three months ended June 30, 2010 decreased by approximately $16,000 compared to the corresponding period in 2009. General and administrative expenses for our feed segment increased by approximately $443,000 or 113% from the corresponding period in 2009 principally due to the overall expansion of the feed segment that included increased salary and utility costs. Our corporate expenses also increased by approximately $471,000 or 94% due to higher professional fees, stock incentive compensation, and officer and director compensation.  General and administrative expenses for our hog farms for the three months ended June 30, 2010 increased by approximately $635,000 or 59% over the corresponding period in 2009 to due to an overall increase in expenses associated with expansion of our hog segment and consulting fees paid in connection with establishing our first large western model hog farm.

 

27

---

 

Interest and Financing Costs. We incurred interest and financing costs of approximately $140,000 and $624,000 during the three months ended June 30, 2010 and 2009, respectively.  The decrease is due to the amortization of debt discounts during the three months ended June 30, 2009 as a result of debt conversion during that period.

 

Income Taxes. Hog production is an income tax exempt sector in China and sow owners receive government grants and subsidies. Some of our feed manufacturing companies benefit from exemption from value-added tax.

 

Net Loss. The decrease in our net income was due to the increase in cost of goods sold and higher operating expenses. We continued to benefit from the tax-exempt status for our hog production business. The higher sales and the benefits from economies of scale in our business resulting in a modest increase in operating efficiency was offset by higher cost of sales. We continued to benefit from the tax-exempt status for our hog production business.

 

Comparison of six months ended June 30, 2010 and June 30, 2009

		Six Months Ended June 30,
		2010				2009				$ Change				% Change
		(in thousands)
Revenues		$	90,521			$	71,957			$	18,564				25.8	%
Cost of goods sold		$	81,642			$	60,932			$	20,710				34.0	%
Gross profit		$	8,879			$	11,025			$	(2,147	)			-19.5	%
Operating expenses		$	9,187			$	5,581			$	3,606				64.6	%
Interest and financing costs		$	265			$	777			$	(513	)			-65.9	%
Net income		$	(1,887	)		$	4,245			$	(6,132	)			-144.5	%

 

		2010				2009				Change				Price				Volume
Business segment:
Animal feed nutrition
Volume (metric tons)			83,657				43,542				40,115
Revenue (in 000s)		$	56,150			$	27,696			$	28,454			$	1,504			$	26,950
Cost of goods sold (in 000s)		$	46,917			$	22,009			$	24,908			$	2,402			$	22,506
Gross profit (in 000s)		$	9,233			$	5,687			$	3,546			$	(898	)		$	4,444
Gross profit margin			18.2	%			26.8	%
Revenue/MT		$	670			$	640			$	30
Cost of goods sold/MT		$	560			$	510			$	50
Gross profit/MT		$	110			$	130			$	(20	)
Hog production
Volume (hogs)			270,000				318,000				(48,000	)
Revenue (in 000s)		$	41,616			$	51,026			$	(9,410	)		$	(2,103	)		$	(7,307	)
Cost of goods sold (in 000s)		$	41,970			$	45,688			$	(3,718	)		$	3,709			$	(7,427	)
Gross profit (in 000s)		$	(354	)		$	5,338			$	(5,692	)		$	(5,812	)		$	120
Gross profit margin			-0.9	%			10.5	%
Revenue/hog		$	154			$	161			$	(7	)
Cost of goods sold/hog		$	156			$	144			$	12
Gross profit/hog		$	(2	)		$	17			$	(19	)

 

28

---

 

Revenues. The decrease was due to a 21.4% decrease in hog production revenue offset by a 166.2% increase in animal feed. Hog sales of 270,000 for six months ended June 30, 2010 as compared to total hog sales of 318,000 hogs for the six months ended June 30, 2009.  Animal feed sales volume for six months ended June 30, 2010 exceeded 83,657 metric tons representing a 92% increase in volume over the comparative period of 2009. However, the increase in revenue described above was offset by lower hog sales prices and increases in ingredient costs.

 

Our animal nutrition segment contributed increased revenues of $28.5 million from increased volumes of complete feed (31, 400 metric tons), condensed feed (7,600 metric tons) and premix feed (1,400 metric tons) slightly offset by a decline in fine feed of 300 metric tons.  The referenced volume increases are primarily indicative of the ongoing shift of our customers to complete feeds and to a lesser degree, but of note, to our condensed feed.   The pricing component yielded $1.5 million of the revenue increase more than offset by increases to our ingredient costs aggregating at $2.4 million.  Our volumes increased our cost of sales by $22.5 million.  Overall, animal feed contributed $3.5 million to the Company’s gross profit.

 

The decline in our hog segment brought the revenue for the six months ended June 30, 2010 down by $9.4 million to $41.6 million from $51.0 million reflecting the fact that we did not purchase hogs outside of our internal production capabilities for the purpose of finishing them (48,000 of hogs with causing a $7.3 million impact to revenue) and declining market prices ($154 per hog in 2010 versus $161 per hog in 2009) driving an unfavorable impact to revenue of $2.1 million.

 

Cost of Goods Sold. We experienced increases in cost of goods sold for our two business lines during the six months ended June 30, 2010 driven primarily by a 20.0% increase in corn prices over the same period in 2009.  Our cost of goods sold for the hog segment for the six months ended June 30, 2010 showed a decline of $3.7 million of which $10.7 million occurred in the second quarter reflecting reduced sales of hogs (48,000 with a $7.4 million impact) in line with the decline of revenue and offset by increased costs of production ($3.7 million) influenced by increased costs of feed and the reduction of our herd of over 19,000 animals due to flooding and its effects (over 16,000) and planned culling of 3,000 sows.

 

Gross Profit. Gross margins decreased to 9.8% from 15.3% during the six months ended June 30, 2010 as compared to the same period in 2009. Our gross profit (loss) margin for the feed and hog segments were 18.2% and (0.9%), respectively for the six months ended June 30, 2010 as compared to 26.8% and 10.5% for six months ended June 30 2009.  The decrease in gross margin is attributed to the 20.0% increase in corn cost and a reduction in the selling price for our hogs over the same period in 2009. The increase in the cost of corn was offset somewhat by actions taken in the first quarter of 2010 including our entry into long-term contracts for key product ingredients which locked in favorable pricing.

 

Selling, General and Administrative Expenses. Our selling expenses for the six months ended June 30, 2010 increased by approximately $151,000 compared to the corresponding period in 2009. General and administrative expenses for our feed segment increased by approximately $869,000 or 116% from the corresponding period in 2009 principally due to the overall expansion of the feed segment that included increased salary and utility costs. Our corporate expenses also increased by approximately $1,375,000 or 158% due to higher professional fees, stock incentive compensation, and officer and director compensation.  General and administrative expenses for our hog farms for the six months ended June 30, 2010 increased by approximately $1,212,000 or 58% over the corresponding period in 2009 to due to an overall increase in expenses associated with expansion of our hog segment and consulting fees paid in connection with establishing our first large western model hog farm.

 

Interest and Financing Costs. We incurred interest and financing costs of approximately $265,000 and $777,000 during the six months ended June 30, 2010 and 2009, respectively.  The decrease is due to the amortization of debt discounts during the three months ended June 30, 2009 as a result of debt conversion during that period.

 

29

---

 

Income Taxes. Hog production is an income tax exempt sector in China and sow owners receive government grants and subsidies. Some of our feed manufacturing companies benefit from exemption from value-added tax.

 

Net Loss. The decrease in our net income was due to the increase in cost of goods sold and higher operating expenses. We continued to benefit from the tax-exempt status for our hog production business. The higher sales and the benefits from economies of scale in our business resulting in a modest increase in operating efficiency was offset by higher cost of sales. We continued to benefit from the tax-exempt status for our hog production business.

 

Off-Balance Sheet Arrangements

 

There were no off-balance sheet arrangements during the six months ended June 30, 2010 that have, or are reasonably likely to have, a current or future effect on our financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that is material to our interests.  

 

Liquidity and Capital Resources

 

At June 30, 2010, we had $24.0 million in cash and cash equivalents on hand.

 

During first quarter of 2008, we completed two financings.  We received aggregate gross proceeds of $22 million through the sale of 2,444,448 shares of common stock at $9 per share.  We received aggregate proceeds of $19 million through the issuance of three-year convertible notes bearing interest at 7% and convertible into common stock at $10 per share.  In connection with the convertible notes, we issued 380,000 warrants that are exercisable immediately and have a $10 strike price.  The exercise price on the warrants was subsequently reduced to $5 per share.  We paid offering costs of $3,432,670 related to the sale of shares and $1,716,666 related to the issuance of the convertible notes.

 

On April 16, 2008, we entered into a Securities Purchase Agreement with institutional investors in connection with a registered direct offering of securities providing for the issuance of 625,000 shares of our common stock at price of $16.00 per share for aggregate gross proceeds of $10,000,000.  We paid $703,472 in costs related to this offering.

 

On April 22, 2008, we entered into Securities Purchase Agreements with institutional investors in connection with a registered direct offering of securities providing for the issuance of 1,322,836 shares of the Company’s Common Stock at $19.05 per share for aggregate gross proceeds of $25.2 million.  We paid $1,772,752 in costs related to this offering.

 

On December 29, 2008, we completed a financing and raised gross proceeds of $8.75 million through the sale to institutional investors of 5 million newly issued common stock units at $1.75 per unit under an effective Form S-3 Registration Statement. Each unit consists of one share of newly issued common stock and a warrant to purchase 0.7 of a share of common stock for $2.50 a share, which is exercisable over a five-year period.  We paid costs related to this offering of $1,227,616.

 

From October 6, 2008 through October 31, 2008, the Company repurchased 367,295 shares of our common stock for $1,811,746. No additional shares have been repurchased.

 

On May 8, 2009, we closed a private placement by issuing 2,329,645 shares of common stock for gross proceeds of $10 million to certain institutional investors.  We also issued 1,164,822 common stock purchase warrants to the investors and 244,613 common stock purchase warrants to the placement agent for the transaction.  The warrants are exercisable immediately have an exercise price of $4.50 per share and expire on May 8, 2014. We paid costs related to this offering of $1.1 million.

 

30

---

 

On September 9, 2009, we entered into an Equity Credit Agreement with an institutional investor, which was amended and restated as of November 9, 2009, providing for, among other things, the issuance of shares of its common stock at any time and from time to time during the next two years for gross proceeds of up to $50,000,000. In connection with the closing of the transaction, we also issued warrants to purchase an additional 400,000 shares of its common stock during a five year period at an exercise price of $5.75 per share.  This transaction closed on September 9, 2009.  On August 4, 2010 we issued 1,152,516 shares of our common stock in connection with this Equity Credit Agreement for gross proceeds of $3,000,000.

 

During 2009, certain warrant holders exercised 3,225,004 warrants that resulted in gross proceeds of $8,062,510.

 

As of June 30, 2010, we had short-term loans outstanding of $4,419,000. The loan was entered into during the second quarter of 2009.  The note was renewed in May 2010 and is due on May 4, 2011.

 

During the six months ended June 30, 2010, we used $2.9 million of cash from our operating activities. The cash used was primarily a result of the net loss including noncontrolling interest, an increase in accounts receivable and inventory offset by an increase in accounts payable and other payables.

 

We used approximately $10.8 million in investing activities during the six months ended June 30, 2010 all of which was for the acquisition of property and equipment.

 

We used $4,821 in cash from financing activities as a result of the purchase of the noncontrolling interest in two subsidiaries and the contribution from a noncontrolling interest.   

 

At June 30, 2010, our accounts receivable balance was approximately $17.4 million, an increase of $3.0 million from December 31, 2009.

 

Our principal demands for liquidity are to increase capacity, purchase raw materials, distribute our products, consolidate our existing farm operations and make strategic acquisitions or investments in our industry as opportunities present themselves, as well as general corporate purposes.   We may seek additional funds from the capital markets to further support our genetics program to increase hog production and profitability.  We expect our genetics program to be accretive to earnings in the near future.

 

We intend to meet our liquidity requirements, including capital expenditures related to the purchase of equipment, purchase of raw materials, and the expansion of our business, through cash flow provided by operations and funds raised through cash investments. 

 

The majority of our revenues and expenses were denominated in RMB, the currency of the PRC.  There is no assurance that exchange rates between the RMB and the USD will remain stable.

 

Contractual Obligations

 

No contractual obligation occurred during the six months ended June 30, 2010 and therefore it is not expected to have any effect on our liquidity and cash flow in future periods.

 

Inflation and Seasonality

 

Demand for our products remains fairly consistent throughout the year and we do not believe our operations have been materially affected by inflation or seasonality.

 

31

---

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk

 

Disclosures About Market Risk

 

 

Currency Fluctuations and Foreign Currency Risk

 

Substantially all of our operations are conducted in the PRC, with the exception of our limited export business and overseas purchases of raw materials.  Most of our sales and purchases are conducted within the PRC in RMB, which is the official currency of the PRC.  The effect of the fluctuations of exchange rates is considered minimal to our business operations.

 

Substantially all of our revenues and expenses are denominated in RMB.  However, we use US dollars for financial reporting purposes.  Conversion of RMB into foreign currencies is regulated by the People’s Bank of China through a unified floating exchange rate system.  Exchange rate fluctuations may adversely affect the value, in U.S. dollar terms, of our net assets and income derived from its operations in the PRC.

 

Interest Rate Risk

 

We have interest rate risk related to the short-term notes entered; however, we do not believe this interest rate risk is significant.

 

Credit Risk

 

We have not experienced significant credit risk, as most of our customers are long-term customers with superior payment records.  Our receivables are monitored regularly by our credit managers.

 

 

33

---

 

SIGNATURES

 

In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

	AgFeed Industries, Inc.
August 9, 2010	By:	/s/ Xiong Junhong
		Xiong Junhong
		Chief Executive Officer (Principal Executive Officer)
August 9, 2010	By:	/s/ Selina Jin
		Selina Jin
		Chief Financial Officer
		(Principal Financial and Accounting Officer)

 

34

---