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UNITED STATES

 

SECURITIES AND EXCHANGE COMMISSION

 

WASHINGTON, D.C. 20549

 

 

 

FORM 10-K

 

(Mark One)

 

S ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the fiscal year ended December 31, 2011

 

OR

 

£ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from ____________ to ____________

 

Commission file number 000-28767

 

CHINA 3C GROUP

 

(Exact name of registrant as specified in its charter)

 

Nevada   88-0403070

(State or Other Jurisdiction of Incorporation or

Organization)

  (I.R.S. Employer Identification No.)

 

368 HuShu Nan Road

 

HangZhou City, Zhejiang Province, China 310014

 

(Address of Principal Executive Offices) (Zip Code)

 

Registrant’s telephone number, including area code: 086-0571-88381700

 

Securities registered pursuant to Section 12(b) of the Act: None

 

Securities registered pursuant to Section 12(g) of the Act:

 

Common Stock, $0.001 par value

 

Title of class

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ¨    No x 

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ¨      No x

 

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.   Yes x      No ¨

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x     No ¨

 

 Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ¨

  

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

  Large accelerated filer ¨ Accelerated filer ¨
 

Non-accelerated filer ¨

(Do not check if a smaller reporting company)

Smaller reporting company x

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x

  

The aggregate market value of the 44,861,327 shares of voting and non-voting common equity stock held by non-affiliates of the registrant was approximately $5,383,359 as of June 30, 2011, the last business day of the registrant’s most recently completed second fiscal quarter, based on the last sale price of the registrant’s common stock on such date of $0.12 per share, as reported on the OTC Bulletin Board.

 

As of April 15, 2012, there were 58,911,327 shares of the registrant’s common stock outstanding.

 

Documents incorporated by reference: None.

 

 
 

 

CHINA 3C GROUP

 

Table of Contents

PART I    
     
Item 1 Business 4
     
Item 1A Risk Factors 9
     
Item 1B Unresolved Staff Comments 13
     
Item 2 Properties 13
     
Item 3 Legal Proceedings 14
     
Item 4 (Removed and Reserved) 14
     
PART II    
     
Item 5 Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities 14
     
Item 6 Selected Financial Data 16
     
Item 7 Management’s Discussion and Analysis of Financial Condition and Results of Operations 17
     
Item 7A Quantitative and Qualitative Disclosure About Market Risk 31
     
Item 8 Financial Statements and Supplementary Data 31
     
Item 9 Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 31
     
Item 9A Controls and Procedures 31
     
Item 9B Other Information 32
     
PART III    
     
Item 10 Directors, Executive Officers and Corporate Governance 33
     
Item 11 Executive Compensation 36
     
Item 12 Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 39
     
Item 13 Certain Relationships and Related Transactions, and Director Independence 39
     
Item 14 Principal Accountant Fees and Services 40
     
PART IV    
     
Item 15 Exhibits, Financial Statement Schedules 41
     
  Index to Consolidated Financial Statements 46

 

2
 

 

Forward Looking Statements

 We have included and from time to time may make in our public filings, press releases or other public statements, certain statements, including, without limitation, those under “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Part II, Item 7. In some cases these statements are identifiable through the use of words such as “anticipate,” “believe,” “estimate,” “expect,” “intend,” “plan,” “project,” “target,” “can,” “could,” “may,” “should,” “will,” “would” and similar expressions. You are cautioned not to place undue reliance on these forward-looking statements. In addition, our management may make forward-looking statements to analysts, investors, representatives of the media and others. These forward-looking statements are not historical facts and represent only our beliefs regarding future events, many of which, by their nature, are inherently uncertain and beyond our control.

 

3
 

 

PART I

 

ITEM 1. BUSINESS

 

Overview

 

China 3C Group (including our subsidiaries unless the context indicates otherwise, the “Company”, “China 3C,” “China 3C Group,” “we,” or “us”) was incorporated on August 20, 1998 under the laws of the State of Nevada. Before July 2009, we were only engaged in the resale and distribution of third party products and generated 100% of our revenue from resale of items such as mobile phones, facsimile machines, DVD players, stereos, speakers, MP3 and MP4 players, iPods, electronic dictionaries, CD players and audio systems. On July 6, 2009, we acquired Jinhua Baofa Logistic Ltd. (“Jinhua”).  At that point, we started providing transportation logistics services to businesses in Eastern China.

 

In 2007 we began operating under a “store in store” business model. As of December 31, 2011, we operated 331 “stores in stores”, under the brand names Hangzhou Wang Da, Yiwu YongXin, Shanghai Joy & Harmony and Hangzhou Sanhe. The “store in store” business model resulted in expanded marketing channels, thus, stimulated the growth of sales in 2007 and 2008. However, starting in 2009, we had declining sales under the model due to increased competition from direct stores and large department stores and the impact of the economic slow down.

 

On July 6, 2009, China 3C and its subsidiary Zhejiang (as defined below) and Yiwu (as defined below) acquired 100% of Jinhua. Jinhua provides transportation logistics services to businesses.

 

Under the stores in stores model, we distribute our products mainly via so-called concessionaire agreements with larger department stores, supermarkets, large electronics retail stores, and other retailers. The retail distribution of many products in China, including those we sell, is conducted through the concessionaire model. Under this model, companies such as China 3C own their own outlets within larger stores and in so doing assume responsibility for most financial and operational aspects of those outlets including capital cost, inventory, wages, selection, pricing, and general management. Our retail partners are compensated via margin they earn on the products we sell. This model is similar to that employed by many department stores in the US. However, this model is different from the model found at large electronic retailers like Best Buy and general retailers like Wal-Mart. We found that many investors are curious as to why the model in China differs from that in the US. We believe the main reasons are:

 

·          We decrease the financial risk for our retail partners by assuming responsibility for the inventory and capital expense associated with distributing our products.

 

·          We decrease operational risk for our retail partners by hiring and managing employees and handling logistics issues such as wholesale purchase and delivery and returns and after-sales service.

 

·          We decrease merchandising risk for our retail partners by bringing product expertise and specific market knowledge that is difficult for large retailers to develop on their own across a broad range of product categories.

 

·          China’s size, regional differences, logistical difficulties, managerial challenges, underdeveloped credit markets, and rapid growth rate increases risk for all retailers and drive the need to mitigate risk which is why our retail partners rely on us.

 

4
 

 

Organizational Structure

(All dollar amounts in thousands)

 

Capital Future Developments Limited (“CFDL”) was incorporated on July 22, 2004 under the laws of the British Virgin Islands. Zhejiang Yong Xin Digital Technology Company Limited (“Zhejiang”), Yiwu Yong Xin Communication Limited (“Yiwu”), Hangzhou Wang Da Electronics Company Limited (“Wang Da”), Hangzhou Sanhe Electronic Technology, Limited (“Sanhe”), and Shanghai Joy & Harmony Electronic Development Company Limited (“Joy & Harmony”) were incorporated under the laws of the Peoples Republic of China (“PRC” or “China”) on July 11, 2005, July 18, 1997, March 30, 1998, April 12, 2004, and August 25, 2003, respectively. China 3C owns 100% of CFDL and CFDL owns 100% of the capital stock of Joy & Harmony and Sanhe. Until August 14, 2007, when it made the change to its ownership structure described in the next paragraph in order to comply with certain requirements of PRC law, CFDL owned 100% of the capital stock of Zhenjiang. Zhejiang owns 90% and Yiwu owns 10% of Wang Da. Zhejiang owns 90% and Wang Da owns 10% of Yiwu. On March 10, 2009 Zhejiang set up a new operating entity, Hangzhou Letong Digital Technology Co., Ltd. (“Letong”) to establish an electronic retail franchise operation for China 3C Group. On July 6, 2009, Zhejiang and Yiwu acquired Jinhua. Jinhua was incorporated under the laws of PRC on December 27, 2001.

 

On December 21, 2005, CFDL became a wholly owned subsidiary of China 3C through a merger with a wholly owned subsidiary of the Company (the “Merger Transaction”). China 3C acquired all of the issued and outstanding capital stock of CFDL pursuant to a Merger Agreement dated at December 21, 2005 by and among China 3C, XY Acquisition Corporation, CFDL and the shareholders of CFDL (the “Merger Agreement”). Pursuant to the Merger Agreement, CFDL became a wholly owned subsidiary of China 3C and, for the CFDL shares, China 3C issued 35,000,000 shares of its common stock to the shareholders of CFDL, representing 93% of the issued and outstanding capital stock of China 3C at that time and cash of $500.

 

On August 3, 2006, CFDL acquired a 100% of Sanhe for a cash and stock transaction valued at $8,750. The consideration consisted of 915,751 newly issued shares of the Company’s common stock and $5,000 in cash.

 

On November 28, 2006, CFDL acquired a 100% interest in Joy & Harmony for a cash and stock transaction valued at $18,500. The consideration consisted of 2,723,110 shares of the Company’s common stock and $7,500 in cash.

 

On August 15, 2007, we executed a series of contractual agreements between CFDL and Zhejiang. The contractual agreements gave CFDL and its equity owners an obligation, and the ability to absorb any losses and the rights to receive returns; however, these contractual agreements did not change the equity ownership of Zhejiang. We did not dispose of CFDL’s equity ownership of Zhejiang when we executed the contractual agreements. CFDL entered into share-holding entrustment agreements with five individuals: Zhenggang Wang, Yimin Zhang, Huiyi Lv, Xiaochun Wang and Zhongsheng Bao to hold 35%, 20%, 20%, 15% and 10%, respectively, of the equity interest of Zhejiang on behalf of CFDL on November 21, 2005. The entrustment agreements confirm that CFDL is the actual owner of Zhejiang. CFDL enjoys the actual shareholder’s rights and has the right to obtain any benefits received by the nominal holders. Zhenggang Wang is the CEO and shareholder of China 3C Group. Yimin Zhang, Huiyi Lv, Xiaochun Wang and Zhongsheng Bao have no other relationship with China 3C Group. No consideration was given to these individuals who held the equity of Zhejiang on behalf of CFDL.

 

On July 6, 2009, China 3C’s subsidiaries, Zhejiang and Yiwu acquired Jinhua, a company organized under the laws of the PRC. Zhejiang acquired 90% and Yiwu acquired 10% of the entire equity interests in Jinhua from the shareholders of Jinhua for RMB 120,000 ($17,500) in cash.

 

We sell and distribute products through retail stores and secondary distributors. We operate most of our retail operations through our “store in store” model. Under this model, the Company leases space in major department stores and retailers. Leasing costs can vary based on the percentage of sales, or can be fixed. In 2011and 2010 all of our stores in stores leases were variable based on sales. Yiwu focuses on selling, circulation and modern logistics of fax machines and cord phone products in China. Wang Da focuses on selling, circulation and modern logistics of cell phones, cell phone products, IT products (including notebook or laptop computers), and digital products (including digital cameras, digital camcorders, MP3 players, PDAs, flash disks, and removable hard disks) in China. Sanhe specializes in the sale of home electronics, including air conditioners, audio systems, speakers, DVD players and TVs. Joy & Harmony specializes in the sale of consumer electronics, including MP3 players, MP4 players, iPods, electronic dictionaries, CD players, radios, audio systems and speakers. As of December 31, 2011, Sanhe and Joy & Harmony closed all their stores in stores locations due to high competition and continuing losses.

 

5
 

 

Following the acquisition of Jinhua, the Company began providing logistic services to businesses in addition to its traditional business of resale and distribution of third party products.

 

In 2009, Zhejiang started establishing direct electronic retail stores and franchise operations. However, the trial operation of direct retail and franchise stores were not successful. As of December 31, 2011, all direct retail and franchise stores were closed.

 

Our corporate structure as of December 31, 2011 is as follows:

 

 

 

*These entities ceased operation as of December 31, 2011.

 

Our Business

 

Information About Our Segments

 

During 2011, we operated in five reportable segments:

 

  a. Yiwu Yong Xin Telecommunication Company, Limited, or “Yiwu,” focuses on the selling, circulation and modern logistics of fax machines and cord phone products.

 

6
 

 

  b. Hangzhou Wang Da Electronics Company, Limited, or “Wang Da,” focuses on the selling, circulation and modern logistics of cell phones, cell phones products, and digital products, including digital cameras, digital camcorders, PDAs, flash disks, and removable hard disks.

 

  c. Hangzhou Sanhe Electronic Technology Limited, or “Sanhe,” focused on the selling, circulation and modern logistics of home electronics, including DVD players, audio systems, speakers, televisions and air conditioners. This entity ceased operation as of December 31, 2011.

 

  d. Shanghai Joy & Harmony Electronics Company Limited, or “Joy & Harmony,” focused on the selling, circulation and modern logistics of consumer electronics, including MP3 players, MP4 players, iPods, electronic dictionaries and radios. This entity ceased operation as of December 31, 2011.

 

  e. Jinhua Baofa Logistic Company Limited, or “Jinhua,” provides transportation logistics services to businesses. Jinhua operates primarily in Eastern China and covers many of the most developed cities in the Eastern China such as Shanghai, Hangzhou and Nanjing.

 

Financial information about our segments is included in Item 7, Management's Discussion and Analysis of Financial Condition and Results of Operations, and Note 14, Segment Information, of the Notes to the Consolidated Financial Statements, included in Item 8, Financial Statements and Supplementary Data, of this Annual Report on Form 10-K.

 

Yiwu Yong Xin Telecommunication Company, Limited (“Yiwu”)

 

Yiwu is an authorized sales agent, focusing on the selling, circulation and modern logistics of fax machines and cord phone products in China. Yiwu mainly distributes Philips and China’s local brands Feng Da and CJT fax machines. Yiwu sells its products through retail “stores in stores” in major department stores throughout the Huadong Region of China (consisting of the Chinese provinces of Zhejiang, Jiangsu and Anhui). Yiwu had 178 retail locations in 2011 and contributed 10.6% of the Company’s revenue.

 

The five largest suppliers and customers of Yiwu for 2011 are as follows:

 

Top 5 suppliers   Top 5 customers
Fengda Technology Company Limited   Hangzhou Lianhua Huashang Group
Ninbo Zhongxun Electronics Company Limited   Zhejiang Suning Appliance Company Limited

Hangzhou Zhaoli Technology Company Limited

Hangzhou Senruida Trade Company Limited

  Shanghai Suning Appliance Company Limited Zhejiang GOME Electrical Appliances Limited
Shanghai Zhongfang Electronics Company Limited   Suning Appliance Company Limited
     

The top five suppliers contributed 77.5% of purchases and the top five customers contributed 34.2% of revenue of Yiwu in 2011.

 

Yiwu has a diverse customer base and, the loss of any single customer is not expected to have a material adverse affect on its business and operations. Yiwu did not spend a material amount of money on research and development (“R&D”) in 2011.

 

The main competitors of Yiwu are Zhejiang Qipu Office Equipment Co, Ltd, Zhejiang Modern Office Equipment Co., Ltd, Shanghai Mochi Office Equipment Co, Ltd., Shanghai Mengsi Trade Company Ltd and Shanghai Saidi Office Equipment Co, Ltd.

 

Hangzhou Wang Da Electronics Company, Limited (“Wang Da”)

 

Wang Da is an authorized sales agent focusing on the selling, circulation and modern logistics of cell phones, cell phone products, IT products (including notebook or laptop computers), and digital products (including digital cameras, digital camcorders, MP3 players, PDAs, flash disks, and removable hard disks) in China. Wang Da mainly distributes its products through retail “stores in stores” located in major department stores throughout the “Huadong” region of China (consisting of the Chinese provinces of Zhejiang, Jiangsu and Anhui). Wang Da had 153 retail locations in 2011. Wang Da contributed 30.0% of the Company’s revenue in 2011.

 

7
 

 

The five largest suppliers and customers for Wang Da in 2011 are:

 

Top 5 suppliers   Top 5 customers
Shenzhen Tianyin Telecommunication Company Limited   Zhejiang Suning Appliance Company Limited
Hangzhou Weihua Telecommunication Company Limited   Shanghai Jiadeli Supermarket Group
Hangzhou Tianchen Digital Telecommunication Company Limited   Shanghai Xieheng Communication Products Company Limited
Hangzhou Qianwang Telecommunication Equipment Company Limited   Suzhou Meijia Supermarket Group
Shanghai Post &Telecom Appliances Company (Hangzhou)   Huarun Vanguard Supermarket (Zhejiang) Company Limited

 

The five largest suppliers contributed 83.2% of the purchases and the five largest customers contributed 13.7% of revenue of Wang Da in 2011.

 

Wang Da has a diverse customer base and the loss of any single customer is not expected to have a material adverse affect on the Company’s business and operations. Wang Da did not spend a material amount of money on R&D and did not have a significant backlog as of December 31, 2011.

 

The main competitors of Wang Da include Zhejiang Zhongyou Putai Mobile Communication Co. Ltd, Zhejiang Xunlian Trade Company Limited, Zhejiang Tianyi Zone Communication and Service Co., Ltd, and Shanghai Junheng Communication Equipment Company Limited.

 

Jinhua Baofa Logistic Limited (“Jinhua”)

 

Jinhua has been in operation since 2001. Jinhua transports electronics, machinery and equipment, metal products, chemical materials, garments and handcrafted goods for businesses in the Eastern China region in which China 3C operates, such as Shanghai, Hangzhou and Nanjing. Jinhua contributed 6.3% of revenue to the Company in 2011.

 

The five largest vendors and customers for Jinhua in 2011 are:

 

Top 5 suppliers   Top 5 customers
Zhejiang Sheng Tong Logistic Company Limited   Xiamen Shida Transportation Company Limited
Hangzhou Shenzhou Transportation Company Limited   Guangzhou Shuntong Transportation Company Limited
Shanghai Sheng Hui Transportation Company Limited   Wuhan Tianda Express Company Limited
Shanghai Hong Wei Transportation Company Limited   Hefei Yuanshun Logistics Company Limited
Jiaxingshi Guohong Vehicle Transportation Company Limited   Shenzhen Jingpeng Express Company Limited

 

The five largest vendors contributed to 30.8% of direct cost and the top five customers contributed 14.9% of revenue of Jinhua in 2011.

 

The main competitors of Jinhua include Shanghai Lingjia Logistics Co., Ltd, Shaoxing Zhongdu Logistics Co., Ltd, Hangzhou Demei Transportation Co., Ltd, Hangzhou KangxindaLogistics Co., Ltd, and Ningbo Yizhou Logistics Group Co., Ltd.

 

Hangzhou Letong Digital Technology Co., Ltd. (“Letong”)

 

On March 10, 2009 Zhejiang set up a new operating entity, Hangzhou Letong Digital Technology Co., Ltd. (“Letong”) to establish an electronic retail franchise operation for China 3C. Zhejiang contributed 0.3% of revenue to the Company in 2011. This entity ceased operation as of December 31, 2011.

 

Intellectual Property

 

We consider our logos important to our business.  We applied to register 10 logos with the State Administration of Industry and Commerce in China in 2007 and are currently awaiting the administration’s approval.

 

Seasonality and Quarterly Fluctuations

 

Our businesses experience fluctuations in quarterly performance. Traditionally, the first quarter has a greater amount of sales reflected by our electronics business due to the New Year holidays in China occurring during that period. Nevertheless, at times, China can experience particularly inclement weather in January and February which can disrupt the Company’s supply chain management systems. As our business model is to operate only on several days of inventory, the effects of such weather disruptions can be severe in certain years.

 

8
 

 

Working Capital

 

In recent past, we funded our business operations through a combination of available cash and equivalents, short-term investments and cash flows generated from operations. However, we believe our currently available working capital, primarily cash from operations, may not be adequate to execute our business operations. This would likely require us to obtain additional funds from equity or debt markets. We currently have no commitments from any financing sources. There is no assurance that we will be able to raise any funds on terms favorable to us, or at all. In the event we issue shares of equity or convertible securities, the shares held by our existing stockholders would be diluted.

 

Customers

 

We do not have a significant concentration of sales to any customer and, therefore, the loss of any one customer would not have a material impact on our business. No single customer has accounted for 10% or more of our total revenue in 2011 or 2010.

 

Backlog

 

We do not have a material amount of backlog orders.

 

Government Contracts

 

No material portion of our business is subject to renegotiation of profits or termination of contracts or subcontracts at the election of the Chinese government.

 

Competition

 

We compete against other consumer electronics retailers and wholesalers. We compete principally on the basis of product assortment and availability and value pricing, customer service; store location and convenience and after-sales services. We believe our broad product assortment, competitive pricing and convenient store locations differentiate us from most competitors. Our stores compete by emphasizing a complete product and service solution and value pricing. In addition, our trained and knowledgeable sales and service staffs allow us to tailor the offerings to meet the needs of our customers.

 

Research and Development

 

We have not engaged in any material research and development activities during the past two years.

   

Environmental Matters

 

We are subject to China’s National Environmental Protection Law, as well as a number of other national and local laws and regulations regulating air, water and noise pollution and setting pollutant discharge standards. We believe that all our operations are in material compliance with all applicable environmental laws. We did not incur any costs to comply with environmental laws in 2011 or 2010.

 

Employees

 

The Company currently has 1,325 employees, all of which are full time located in China. Zhejiang has 23 employees, Yiwu 303, Wang Da 458, Sanhe 36, Joy & Harmony 31 and Jinhua 474.

 

The Company has no collective bargaining agreements with any unions.

 

ITEM 1A.   RISK FACTORS

 

Risk Factors Associated with Our Business

 

A general economic downturn, a recession in China or sudden disruption in business conditions may affect consumer purchases of discretionary items, including consumer and business products, which could adversely affect our business. Consumer spending is affected by a number of factors, including general economic conditions, the level of unemployment, inflation, interest rates, energy costs, gasoline prices and consumer confidence generally, all of which are beyond our control. Consumer purchases of discretionary items tend to decline during recessionary periods, when disposable income is lower, and may impact sales of our products. In addition, disruptions in business conditions as a result of a terrorist attack, retaliation and the threat of further attacks or retaliation, war, adverse weather conditions and climate changes or other natural disasters, pandemic situations or large scale power outages can have a short or, sometimes, long-term impact on consumer spending. A downturn in the economy in China, including any recession or a sudden disruption of business conditions in China’s economy, could adversely affect our business, financial condition, and results of operation.

 

9
 

 

Non-performance by our suppliers may adversely affect our operations by delaying delivery or causing delivery failures, which may negatively affect demand, sales and profitability.  We purchase various products from our suppliers.  We would be materially and adversely affected by the failure of our suppliers to perform as expected.  We could experience delivery delays or failures caused by production issues or delivery of non-conforming products if its suppliers failed to perform, and we also face these risks in the event any of its suppliers becomes insolvent or bankrupt.

   

With the markets being highly competitive, we may not be able to compete successfully. Many of our competitors have substantially greater revenues and financial resources than we do. We may not be able to compete favorably and increased competition may substantially harm our business, business prospects and results of operations. If we are not successful in our target markets, our sales could decline, our margins could be negatively impacted and we could lose market share, any of which could materially harm our business, results of operations and profitability.

 

If we are unable to successfully integrate the businesses we acquire, our ability to expand our product offerings and geographic reach may be significantly limited. To expand our product offerings and grow our customer base by reaching new customers through expanded geographic coverage, we may continue to acquire businesses we believe are complementary to our growth strategy. Acquisitions involve numerous risks, including difficulties in the assimilation of acquired operations, loss of key personnel, distraction of management’s attention from other operational concerns, failure to maintain supplier relationships, inability to maintain goodwill of customers from acquired businesses, and the inability to meet projected financial results that supported how much was paid for the acquired businesses.

 

Our business will be harmed if we are unable to maintain our supplier alliance agreements with favorable terms and conditions. We have exclusive licensing/distribution agreements with key suppliers in a number of product categories in Eastern China, in particular Zhejiang and Jiangsu provinces and Shanghai City. Our business will be harmed if we are unable to maintain these favorable agreements or are limited in our ability to gain access to additional like agreements with our key suppliers.

 

If we do not anticipate and respond to changing consumer preferences in a timely manner, our operating results could materially suffer. Our business depends, in part, on our ability to introduce successfully new products, services and technologies to consumers, the frequency of such introductions, the level of consumer acceptance, and the related impact on the demand for existing products, services and technologies. Failure to predict accurately constantly changing consumer tastes, preferences, spending patterns and other lifestyle decisions, or to address effectively consumer concerns, could have a material adverse effect on our revenue, results of operations and standing with our customers.

 

We have a material weakness in our internal control over financial reporting (“ICFR”), and if we fail to maintain an effective system of internal control over financial reporting, we may be unable to accurately report our financial results or prevent fraud, and investor confidence and the market price of our shares may be adversely affected. We and our independent registered public accounting firm, in connection with the audit of the consolidated financial statements for 2011, have identified the following material weaknesses in our internal control over financial reporting: the ability of the Company to record transactions and provide disclosures in accordance with accounting principles generally accepted in the United States (“US GAAP”).

 

A “material weakness” is a deficiency, or a combination of deficiencies, in ICFR, such that there is a reasonable possibility that a material misstatement of the company’s annual or interim financial statements will not be prevented or detected on a timely basis. We plan to take measures to remediate these deficiencies, such as providing additional training to our accounting staff in US GAAP. However, the implementation of these measures may not fully address the control deficiencies in our ICFR. Our failure to address any control deficiency could result in inaccuracies in our financial statements and could also impair our ability to comply with applicable financial reporting requirements and related regulatory filings on a timely basis. Moreover, effective ICFR is important to prevent fraud. As a result, our business, financial condition, results of operations and prospects, as well as the trading price of our shares, may be negatively impacted by a failure to accurately report financial results.

 

Because our operating/business model continues to evolve it is difficult to predict our future performance, and our business is difficult to evaluate. Our business model continues to evolve over time. We do not have an extensive operating history upon which you can easily and accurately evaluate our business, or our ongoing financial condition. As our model evolves over time and due to our numerous acquisitions, we face risks and challenges due to a lack of meaningful historical data upon which we can develop budgets and make forecasts.

 

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Future acquisitions may result in potentially dilutive issuances of equity securities, the incurrence of further indebtedness, and increased amortization expense. Our growth model has in the past and probably in the future will involve acquisitions that may result in potentially dilutive issuances of equity securities or the incurrence of debt and unknown liabilities. Such acquisitions may result in significant write-offs and increased amortization expenses that could adversely affect our business and the results of our operations.

 

If our products fail to perform properly our business could suffer significantly. Although we do not currently develop or manufacturer our existing products, should they fail to perform we may suffer lost sales and customer goodwill, ongoing liability claims, license terminations, severe harm to our brand and overall reputation, unexpected costs, and reallocation of resources to resolve product issues.

 

Rapid and substantial growth is the key to our overall strategy, if we are unable to manage our growth profitably and effectively, we may incur unexpected expenses and be unable to meet our financial and customer obligations. For us to meet our financial objectives we need to expand our operations to achieve necessary market share. We cannot be certain that our IT infrastructure, financial controls, systems, and processes will be adequate to support our expansion. Our future results will depend on the ability of our officers and key employees to manage changing business conditions in administration, reporting, controls, and operations.

 

If we are unable to obtain additional financing for our future needs we may be unable to respond to competitive pressures and our business may be impaired. We cannot be certain that financing with favorable terms, or at all, will be available for us to pursue our expansion initiatives. We may be unable to take advantage of favorable acquisitions or to respond to competitive pressures. This inability may harm our operations or financial results.

 

If we are forced to lower our prices to compete, our financial performance may be negatively impacted. We derive our sales from the resale of products. If we are forced to lower our prices due to added competition, inferior feature offerings, excess inventory, pressure for cash, declining economic climate, or any other reason, our business may become less profitable.

 

If we are unable to maintain existing supplier relationships or form new ones, our business and financial condition may suffer. We rely on our current along with new suppliers to provide us access to competitive products for resale. If we are unable to gain access to suppliers with needed product on favorable terms our business may be negatively impacted. 

 

If we incur costs that exceed our existing insurance coverage in lawsuits brought to us in the future, it could adversely affect our business and financial condition. We maintain third party insurance coverage against liability risks associated with lawsuits. While we believe these arrangements are an effective way to insure against liability, the potential liabilities associated with such risks or other events could exceed the coverage provided by such insurance.

 

We depend on the continued services of our executive officers and the loss of key personnel could affect our ability to successfully grow our business.  We are highly dependent upon the services of our senior management team, particularly Zhenggang Wang, our Chairman and Chief Executive Officer and Weiping Wang, our Chief Financial Officer. The permanent loss of any of our key executives, could have a material adverse effect upon our operating results. We may not be able to locate suitable replacements for our executives if their services were lost. We do not maintain key man life insurance on any of these individuals.

 

Risks Related to Doing Business in China

 

Our business operations take place primarily in China. Because Chinese laws, regulations and policies are continually changing, our Chinese operations will face several risks summarized below.

 

Limitations on Chinese economic market reforms may discourage foreign investment in Chinese businesses. The value of investments in Chinese businesses could be adversely affected by political, economic and social uncertainties in China. The economic reforms in China in recent years are regarded by China’s central government as a way to introduce economic market forces into China. Given the overriding desire of the central government leadership to maintain stability in China amid rapid social and economic changes in the country, the economic market reforms of recent years could be slowed, or even reversed.

 

Certain political and economic considerations relating to China could adversely affect our company.  China is transitioning from a planned to a market economy. While the PRC government has pursued economic reforms since its adoption of the open-door policy in 1978, a large portion of the Chinese economy still operates under five-year and annual state plans. Through these plans and other economic measures, such as control on foreign exchange, taxation and restrictions on foreign participation in the domestic market of various industries, the PRC government exerts considerable direct and indirect influence on the economy. Many of the economic reforms carried out by the PRC government are unprecedented or experimental, and are expected to be refined and improved. Other political, economic and social factors can also lead to further readjustment of such reforms. This refining and readjustment process may not necessarily have a positive effect on our operations or future business development. Our operating results may be adversely affected by changes in China’s economic and social conditions as well as by changes in the policies of the PRC government, such as changes in laws and regulations, or the official interpretation thereof, which may be introduced to control inflation, changes in the interest rate or method of taxation, and the imposition of additional restrictions on currency conversion.

 

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Accordingly, government actions in the future, including any decision not to continue to support recent economic reforms and to return to a more centrally planned economy or regional or local variations in the implementation of economic policies, could have a significant effect on economic conditions in China or particular regions thereof, and could require us to divest ourselves of any interest we then hold in Chinese properties or joint ventures. 

 

Due to various restrictions under PRC laws on the distribution of dividends by our PRC operating companies, we may not be able to pay dividends to our stockholders.  The Wholly Foreign Owned Enterprise Law (1986), as amended and The Wholly Foreign Owned Enterprise Law Implementing Rules (1990), as amended, contain the principal regulations governing dividend distributions by wholly foreign owned enterprises. Under these regulations, wholly foreign owned enterprises, such as Zhejiang, Wang Da and Joy & Harmony, may pay dividends only out of their accumulated profits, if any, determined in accordance with PRC accounting standards and regulations. Additionally, Zhejiang, Wang Da and Joy & Harmony are required to set aside a certain amount of any accumulated profits each year (a minimum of 10%, and up to half of its registered capital), to fund certain reserve funds. These reserves are not distributable as cash dividends except in the event of liquidation and cannot be used for working capital purposes. The PRC government also imposes controls on the conversion of RMB into foreign currencies and the remittance of currencies out of the PRC.  If we ever determine to pay a dividend, we may experience difficulties in completing the administrative procedures necessary to obtain and remit foreign currency for the payment of such dividends from the profits of Zhejiang, Wang Da and Joy & Harmony.

 

Currency conversion and exchange rate volatility could adversely affect our financial condition and the value of our common stock. The PRC government imposes control over the conversion of Renminbi, or RMB, into foreign currencies. Under the current unified floating exchange rate system, the People’s Bank of China, or PBOC, publishes an exchange rate, which we refer to as the PBOC exchange rate, based on the previous day’s dealings in the inter-bank foreign exchange market. Financial institutions authorized to deal in foreign currency may enter into foreign exchange transactions at exchange rates within an authorized range above or below the PBOC exchange rate according to market conditions.

 

Pursuant to the Foreign Exchange Control Regulations of the PRC issued by the State Council which came into effect on April 1, 1996, and the Regulations on the Administration of Foreign Exchange Settlement, Sale and Payment of the PRC which came into effect on July 1, 1996, regarding foreign exchange control, conversion of RMB into foreign exchange by Foreign Investment Enterprises, or FIEs, for use on current account items, including the distribution of dividends and profits to foreign investors, is permissible. FIEs are permitted to convert their after-tax dividends and profits to foreign exchange and remit such foreign exchange to their foreign exchange bank accounts in China. Conversion of RMB into foreign currencies for capital account items, including direct investment, loans, and security investment, is still under certain restrictions. On January 14, 1997, the State Council amended the Foreign Exchange Control Regulations and added, among other things, an important provision, which provides that the PRC government shall not impose restrictions on recurring international payments and transfers under current account items.

 

Enterprises in China, including FIEs, which require foreign exchange for transactions relating to current account items, if within a certain limited amount may, without approval of the State Administration of Foreign Exchange, or SAFE, effect payment from their foreign exchange account or convert and pay at the designated foreign exchange banks by providing valid receipts and proofs. 

 

Convertibility of foreign exchange for capital account items, such as direct investment and capital contribution, is still subject to certain restrictions, and prior approval from the SAFE or its relevant branches must be sought.

 

Our wholly owned subsidiaries, Zhejiang, Wang Da and Joy & Harmony are FIEs to which the Foreign Exchange Control Regulations are applicable. There can be no assurance that we will be able to obtain sufficient foreign exchange to pay dividends or satisfy other foreign exchange requirements in the future.

 

Between 1994 and 2004, the exchange rate for RMB against the US dollar remained relatively stable, most of the time in the region of RMB8.28 to $1.00. However, in 2005, the Chinese government announced it would begin pegging the exchange rate of the RMB against a number of currencies, rather than just the US dollar. As our operations are primarily in China, any significant revaluation of the RMB may materially and adversely affect our cash flows, revenues, financial condition and the value of our common stock. For example, to the extent that we need to convert US dollars into RMB for our operations, appreciation of this currency against the US dollar could have a material adverse effect on our business, financial condition, results of operations and the value of our common stock. Conversely, if we decide to convert our Renminbi into US dollars for the purpose of declaring dividends on our common stock or for other business purposes and the US dollar appreciates against the RMB, the US dollar equivalent of our earnings from our subsidiaries in China would be reduced.

 

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The legal system in China has inherent uncertainties that may limit the legal protections available in the event of any claims or disputes with third parties.  The legal system in China is based on written statutes. Prior court decisions may be cited for reference but have limited precedential value. Since 1979, the central government has promulgated laws and regulations dealing with economic matters such as foreign investment, corporate organization and governance, commerce, taxation and trade. As China’s foreign investment laws and regulations are relatively new and the legal system is still evolving, the interpretation of many laws, regulations and rules is not always uniform and enforcement of these laws, regulations and rules involve uncertainties, which may limit the remedies available in the event of any claims or disputes with third parties. In addition, any litigation in China may be protracted and result in substantial costs and diversion of resources and management attention.

 

 Risks Associated With Our Common Stock

 

There is a limited public market for our common stock. There is currently a limited public market for the common stock. Holders of our common stock may, therefore, have difficulty selling their common stock, should they decide to do so. In addition, there can be no assurances that such markets will continue or that any shares of common stock will be able to be sold without incurring a loss. Any such market price of the common stock may not necessarily bear any relationship to our book value, assets, past operating results, financial condition or any other established criteria of value, and may not be indicative of the market price for the common stock in the future. Further, the market price for the common stock may be volatile depending on a number of factors, including business performance, industry dynamics, news announcements or changes in general economic conditions.

 

Our common stock may be deemed penny stock with a limited trading market. Our common stock is currently listed for trading in the OTC Bulletin Board (“OTCBB”), which is generally considered to be a less efficient market than markets such as NASDAQ or other national exchanges, and which may cause difficulty in conducting trades and difficulty in obtaining future financing. Further, our securities are subject to the “penny stock rules” adopted pursuant to Section 15 (g) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). The penny stock rules apply to non-NASDAQ companies whose common stock trades at less than $5.00 per share or which have tangible net worth of less than $5,000,000 ($2,000,000 if the company has been operating for three or more years). Such rules require, among other things, that brokers who trade “penny stock” to persons other than “established customers” complete certain documentation, make suitability inquiries of investors and provide investors with certain information concerning trading in the security, including a risk disclosure document and quote information under certain circumstances. Many brokers do not trade “penny stock” because of the penny stock rules and, as a result, the number of broker-dealers willing to act as market makers in such securities is limited. In the event that we remain subject to the “penny stock rules” for any significant period, there may develop an adverse impact on the market, if any, for our securities. Because our securities are subject to the “penny stock rules,” investors will find it more difficult to dispose of our securities. Further, for companies whose securities are traded in the OTCBB, it is more difficult: (i) to obtain accurate quotations, (ii) to obtain coverage for significant news events because major wire services, such as the Dow Jones News Service, generally do not publish press releases about such companies, and (iii) to obtain needed capital.

 

We do not intend to pay dividends on our common stock.  We have no plans for declaring or paying dividends in the foreseeable future. We intend to retain earnings, if any, to provide funds for the implementation of our new business plan.  Therefore, there can be no assurance that holders of common stock will receive any additional cash, stock or other dividends on their shares of common stock until we have funds, which the Board of Directors (“BOD” or “Board”) determines, can be allocated to dividends.  Also, see risk factor titled “Due to various restrictions under PRC laws on the distribution of dividends by our PRC operating companies, we may not be able to pay dividends to our stockholders.”  

 

ITEM 1B. UNRESOLVED STAFF COMMENTS

 

Not applicable.

 

ITEM 2. PROPERTIES

 

The Company does not own any real estate properties; all of our properties are leased. The lease terms are as follows:

  

Yiwu

 

  1. Yiwu headquarters office: (Aug. 2011 - Aug. 2012).

 

  2. Nanjing staff dormitory: (Dec. 2011 – Nov. 2012).

 

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  3. Wenzhou staff dormitory: (June 2011 –June 2012).

 

Wang Da

 

  1. Nanjing staff dormitory: (May 2011- May 2012).

 

Jinhua

 

  1. Hangzhou office and warehouse: (May 2011 – May 2014).

 

  2. Suzhou office and warehouse: (Jan.  2011 – Dec. 2012).

 

  3. Various leases for parking, warehouse, distribution and dormitories. Lease terms ranges from six months to three years.

 

Zhejiang

 

  1. Headquarter office: (Sep. 2011 – Aug. 2014).

 

  2. Parking space: (Sep. 2011 – Aug. 2014).

 

The Company believes its leased spaces are adequate and suitable to maintain and develop its business operations.

 

ITEM 3. LEGAL PROCEEDINGS

 

Neither we nor our subsidiaries are not a party to any material pending legal proceedings, and the property of us or our subsidiaries is not the subject of any material pending legal proceedings None of our directors, officers, affiliates or holders of 5% or more of our common stock, or any associate or any such person, is currently a party adverse to us or our subsidiaries.

 

ITEM 4. (REMOVED AND RESERVED)

 

ITEM 5.MARKET FOR THE REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

 

The Company’s common stock is quoted on the OTCBB under the symbol “CHCG.OB.” The following table sets forth the range of quarterly high and low closing bids of the common stock as reported during 2010 and 2011 and through April 15, 2012:

  

   Low Bid*   High Bid* 
2010          
Quarter ended March 31  $0.44   $0.58 
Quarter ended June 30  $0.30   $0.47 
Quarter ended September 30  $0.22   $0.29 
Quarter ended December 31  $0.20   $0.37 
           
2011          
Quarter ended March 31  $0.14   $0.24 
Quarter ended June 30  $0.09   $0.16 
Quarter ended September 30  $0.05   $0.13 
Quarter ended December 31  $0.02   $0.10 
           
2012          
Quarter ended March 31  $0.04   $0.08 
April 1, 2012 – April 15, 2012  $0.05   $0.07 

 

* The quotations reflect inter-dealer prices, without retail mark-up, mark-down or commission and may not represent actual transactions.

 

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Stockholders

 

As of the close of business on April 15, 2012, there were 92 holders of record of the Company’s common stock. However, we believe there are additional beneficial owners of our common stock who own their shares in “street name.”

 

Dividends

 

The Company did not pay any dividends during 2009, 2010 and 2011. The Company has no plans to declare cash dividends on its common stock in the future. If the Company ever determines to pay a dividend, it may experience difficulties in completing the administrative procedures necessary to obtain and remit foreign currency from the PRC for the payment of such dividends from the profits of its operating subsidiaries in China.  Please see additional discussion under Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations; Financial Condition, Liquidity and Capital Resources.

 

Equity Compensation Plan Information

 

On January 15, 2009, the Company’s BOD adopted the China 3C Group 2008 Omnibus Securities and Incentive Plan (the “2008 Plan”).  The 2008 Plan provides for the granting of distribution equivalent rights, incentive stock options, non-qualified stock options, performance share awards, performance unit awards, restricted stock awards, stock appreciation rights, tandem stock appreciation rights, unrestricted stock awards or any combination of the foregoing, as may be best suited to the circumstances of the particular employee, director or consultant.  Under the 2008 Plan 2,000,000 shares of the Company’s common stock were initially available for issuance for awards.  Each award shall remain exercisable for ten years from the date of its grant. The price at which a share of common stock may be purchased upon exercise of an option shall not be less than the closing sales price of the common stock on the date such option is granted.  The 2008 Plan shall continue in effect, unless sooner terminated, until the tenth anniversary of the date on which it is adopted by the Board. As of April 15, 2012, all shares available for issuance of awards were issued.

 

On March 3, 2011, the Company’s BOD adopted the China 3C Group 2011 Restricted Stock Plan (the “2011 Plan”).  The 2011 Plan provides for the granting of restricted stock awards to employees, directors and consultants of the Company and the employees, directors and consultants of the Company’s affiliates. Under the 2011 Plan 3,000,000 shares of the Company’s common stock were initially available for issuance for awards.  The 2011 Plan shall continue in effect, unless sooner terminated, or until the tenth anniversary of the date on which it is adopted by the Board is reached. As of April 15, 2012, 1,600,000 shares of the Company’s common stock were available for issuance of awards.

 

Securities authorized for issuance under equity compensation plans

 

The following is a summary of all of our equity compensation plans as of April 15, 2012.

  

Plan Category  Number of securities
to be issued upon
exercise of
outstanding options,
warrants and rights
   Number of restricted
shares
to be issued
   Weighted average
exercise price of
outstanding options,
warrants and rights
   Number of securities
remaining available
for future issuance
under
equity compensation
plan (excluding
securities reflected
in column (a))
 
   (a)   (b)   (c)   (d) 
Equity Compensation Plans Approved by Shareholders   -    -    -    - 
Equity Compensation Plans   1,997,262    1,997,262   $0.74    2,728 
Not Approved by Shareholders   -    3,000,000    -    1,600,000 

 

 Repurchase of Securities

 

We did not repurchase any of shares of our common stock during 2011.

 

Recent Sales of Unregistered Securities

 

In May and October 2009, the Company issued 1,097,272 and 900,000 shares of common stock, respectively, under the 2008 Plan, pursuant to two consulting agreements with Zhejiang Hualue Consulting Company Limited and Zhejiang Kehui Company Limited, each for three years of consulting services to the Company. The issuance of the shares to each of these consultants under the 2008 Plan was exempt from the registration requirements of the Securities Act of 1933, as amended (the “Act”) pursuant to Regulation S under the Act due to the fact that the offering of the shares was not made in the US and that each of the investors is a non-US Person (as defined in the Act).

 

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In June 2009, pursuant to an employment agreement, an option to purchase 100,000 shares of common stock of the Company was issued to Mr. Jian Zhang for his service as the Company’s chief financial officer (“CFO”). The issuance of this option to Mr. Zhang was exempt from the registration requirements of the Act pursuant to Regulation S under the Act due to the fact that the offering of the options was not made in the US and that Mr. Zhang is a non-US Person (as defined in the Act).

 

In December 2009, pursuant to a BOD agreement, and as partial compensation for services rendered, an option to purchase 30,000 shares of common stock of the Company was issued to Mr. Kenneth T. Berents for serving as a director of the Company. The issuance of this option to Mr. Berents was exempt from the registration requirements of the Act pursuant to Section 4(2) under the Act.

 

On January 17, 2011, pursuant to a Registered Trademark Transfer Agreement with Hangzhou Letu Digital Products Trade Co., Ltd. (“Hangzhou”), 1,080,000 shares of the Company’s common stock were issued to Hangzhou to purchase the registered trademark “Lotour”. The issuance of these shares to Hangzhou was exempt from the registration requirements of the Act pursuant to Regulation S under the Act because the offering of the shares was not made in the US and that Hangzhou is a non-US Person (as defined in the Act).

 

On January 20, 2011, pursuant to a Design and Development Engagement Agreement with Shenzhen Kangdewei Electronics Co., Ltd. (“Kangdewei”), 1,600,000 shares of the Company’s common stock were issued to Kangdewei to design and develop an electronic book product under the brand name “Lotour”. The issuance of these shares to Kangdewei was exempt from the registration requirements of the Act pursuant to Regulation S under the Act because the offering of the shares was not made in the US and that Kangdewei is a non-US Person (as defined in the Act).

 

On March 7, 2011, the Company issued 1,000,000 shares to 23 managing members of China 3C and its subsidiaries, pursuant to the 2011 Plan.

 

On September 14, 2011, the Company issued 400,000 shares of common stock, under the 2011 plan, to our CFO and former CFO as compensation, pursuant to the 2011 Plan.

 

Forward Looking Statements

 

We have included and from time to time may make in our public filings, press releases or other public statements, certain statements, including, without limitation, those under “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Part II, Item 7. In some cases these statements are identifiable through the use of words such as “anticipate,” “believe,” “estimate,” “expect,” “intend,” “plan,” “project,” “target,” “can,” “could,” “may,” “should,” “will,” “would” and similar expressions. You are cautioned not to place undue reliance on these forward-looking statements. In addition, our management may make forward-looking statements to analysts, investors, representatives of the media and others. These forward-looking statements are not historical facts and represent only our beliefs regarding future events, many of which, by their nature, are inherently uncertain and beyond our control.

 

We file annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and proxy and information statements and amendments to reports filed or furnished pursuant to Sections 13(a) and 15(d) of the Securities Exchange Act of 1934, as amended. You may read and copy these materials at the SEC’s Public Reference Room at 100 F Street, N.E., Washington, D.C. 20549. You may obtain information on the operation of the public reference room by calling the SEC at 1-800-SEC-0330. The SEC also maintains a website (http://www.sec.gov) that contains reports, proxy and information statements and other information regarding us and other companies that file materials with the SEC electronically.

 

ITEM 6.          SELECTED FINANCIAL DATA

 

Not applicable. 

 

 

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ITEM 7.          MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

The following discussion should be read in conjunction with the Consolidated Financial Statements and Notes thereto appearing elsewhere in this Form 10-K. The following discussion contains forward-looking statements. Our actual results may differ significantly from those projected in the forward-looking statements. Factors that may cause future results to differ materially from those projected in the forward-looking statements include, but are not limited to, those discussed in “Risk Factors” and elsewhere in this Form 10-K.

 

Overview (All dollar amounts in thousands)

 

China 3C owns 100% of CFDL and CFDL owns 100% of the capital stock of Joy & Harmony and Sanhe. Until August 14, 2007, when it made the change to its ownership structure described in the next paragraph in order to comply with certain requirements of PRC law, CFDL owned 100% of the capital stock of Zhenjiang. Zhejiang owns 90% and Yiwu owns 10% of Wang Da. Zhejiang owns 90% and Wang Da owns 10% of Yiwu. On March 10, 2009 Zhejiang set up a new operating entity, Hangzhou Letong Digital Technology Co., Ltd. (“Letong”) to establish an electronic retail franchise operation for China 3C Group. On July 6, 2009, Zhejiang and Yiwu completed the acquisition of Jinhua Baofa Logistic Ltd (“Jinhua”).  Jinhua was incorporated under the laws of PRC on December 27, 2001.

 

On December 21, 2005, CFDL became a wholly owned subsidiary of China 3C through a merger with a wholly owned subsidiary of the Company (the “Merger Transaction”). China 3C acquired all of the issued and outstanding capital stock of CFDL pursuant to a the Merger Agreement dated at December 21, 2005 by and among China 3C, XY Acquisition Corporation, CFDL and the shareholders of CFDL (the “Merger Agreement”). Pursuant to the Merger Agreement, CFDL became a wholly owned subsidiary of China 3C and, for the CFDL shares, China 3C issued 35,000,000 shares of its common stock to the shareholders of CFDL, representing 93% of the issued and outstanding capital stock of China 3C at that time and cash of $500. On August 15, 2007, we executed a series of contractual agreements between CFDL and Zhejiang. The contractual agreements give CFDL and its equity owners an obligation, and having ability to absorb, any losses, and rights to receive returns; however, these contractual agreements did not change the equity ownership of Zhejiang. We did not dispose CFDL’s equity ownership of Zhejiang when we executed the contractual agreements. CFDL entered into share-holding entrustment agreements with five individuals: Zhenggang Wang, Yimin Zhang, Huiyi Lv,Xiaochun Wang and Zhongsheng Bao to hold 35%, 20%, 20%, 15% and 10%, respectively, of the equity interest of Zhejiang on behalf of CFDL on November 21, 2005. The entrustment agreements confirm that CFDL is the actual owner of Zhejiang. CFDL enjoys the actual shareholder rights and has the right to obtain any benefits received by the nominal holders. Zhenggang Wang is the CEO and shareholder of China 3C Group. Yimin Zhang, Huiyi Lv, Xiaochun Wang and Zhongsheng Bao have no other relationship with China 3C Group. No consideration was given to these individuals who held the equity of Zhejiang on behalf of CFDL.

 

As a result of the Merger Agreement, the reorganization was treated as an acquisition by the accounting acquiree, accounted for as a recapitalization and reverse merger by the legal acquirer for accounting purposes. Pursuant to the recapitalization, all capital stock shares and amounts and per share data were retroactively restated. Accordingly, the financial statements include the following:

  

(1) The balance sheet consists of the net assets of the accounting acquirer at historical cost and the net assets of the legal acquirer at historical cost.

 

(2) The statements of operations include the operations of the accounting acquirer for the period presented and the operations of the legal acquirer from the date of the merger.

 

 Pursuant to a share exchange agreement, dated August 3, 2006, we issued 915,751 shares of restricted common stock to the former shareholders of Sanhe, valued at $3,750, which was the fair value of the shares at the date of the share exchange agreement. This amount is included in the cost of net assets and goodwill purchased.

 

Pursuant to a share exchange agreement, dated November 28, 2006, we issued 2,723,110 newly issued shares of common stock to the former shareholders of Joy & Harmony, valued at $11,000, which was the fair value of the shares at the date of exchange agreement. This amount is included in the cost of net assets and goodwill purchased.

 

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On July 6, 2009, China 3C’s subsidiaries, Zhejiang and Yiwu completed acquisition of Jinhua, a company organized under the laws of the PRC. Zhejiang acquired 90% and Yiwu acquired 10% of the equity interests in Jinhua from the shareholders of Jinhua for RMB 120,000 ($17,500) in cash.

 

Yiwu, Wang Da, Sanhe, Joy & Harmony are engaged in the business of resale and distribution of third party products and generates 100% of its revenue from resale of items such as mobile phones, facsimile machines, DVD players, stereos, speakers, MP3 and MP4 players, iPods, electronic dictionaries, CD players, radios and audio systems. We sell and distribute products through retail stores and secondary distributors. We operate most of our retail operations through our “store in store” model. Under this model, the Company leases space in major department stores and retailers. Leasing costs can vary based on a percentage of sales, or can be fixed. In 2011 and 2010, all of our stores in stores leases were variable based on sales.

 

In 2009, Zhejiang started establishing direct electronic retail stores and franchise operation. In 2010, the Company had two franchise stores and three direct retail stores in operation, all of which are in Zhejiang province. In 2011, Zhejiang closed all the direct retail stores and franchise stores as the operating income from direct sales did not grow as expected. For 2011 and 2010, the direct retail and franchise stores had revenue of $372 and $138, respectively.

 

Following the acquisition of Jinhua, the Company began providing logistic service to businesses in addition to its traditional business of resale and distribution of third party products such as mobile phones, facsimile machines, DVD players, stereos, speakers, MP3 and MP4 players, iPods, electronic dictionaries, CD players and audio systems.

 

Results of Operations

 

Year Ended December 31, 2011 compared to Year Ended December 31, 2010

 

Reportable Operating Segments

 

The Company reports financial and operating information in the following three active segments:

 

a) Yiwu Yong Xin Telecommunication Company, Limited or “Yiwu”

 

b) Hangzhou Wang Da Electronics Company, Limited or “Wang Da”

 

c) Jinhua Baofa Logistic Limited or “Jinhua”

 

a) Yiwu Yong Xin Telecommunication Company, Limited or “Yiwu”

 

Yiwu focuses on the selling, circulation and modern logistics of fax machines and cord phone products.

 

All amounts, except percentage of revenues, in thousands of US dollars.

 

   Year Ended December 31,   Percentage 
Yiwu  2011   2010   Change 
Revenue  $13,785   $20,251    (31.9)%
Gross Profit  $1,245   $2,328    (46.6)%
Profit Margin   9.0%   11.5%   (2.5)%
Operating (Loss)  $(2,622)  $(2,456)   (6.8)%

 

For 2011, Yiwu generated revenue of $13,785, a decrease of $6,466 or 31.9% compared to $20,251 for 2010. Gross profit decreased $1,083 or 46.6% from $2,328 for 2010 to $1,245 for 2011. Such decrease in revenue was primarily due to the shrinking market in office communication products. The decrease in revenue was also a result of increased promotions in 2011 which led to a lower unit sales price. Operating losses was $2,622 in 2011; operating loss increased $166 or 6.8% compared to $2,456 in 2010. The increase in operating losses was primarily a result of lower gross profit, higher labor cost and management fees paid to department stores as a percentage of sales.

 

Profit margin decreased to 9.0% in 2011 compared to 11.5% in 2010, a decrease of 2.5%. Such decrease is primarily due to the more competitive fax machine and telephone market in China compared to 2010. To maintain market share, we had to launch more promotions which negatively affected our profit margin. In addition, we tried to sell more computer products which had lower profit margins than office products to maintain market share, which led to lower profit margin of Yiwu.

 

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b)  Hangzhou Wang Da Electronics Company, Limited or “Wang Da”

 

Wang Da focuses on the selling, circulation and modern logistics of cell phones, cell phone products, and digital products, including digital cameras, digital camcorders, PDAs, flash disks, and removable hard disks.

 

All amounts, except percentage of revenues, in thousands of US dollars.

 

   Year Ended December 31,   Percentage 
Wang Da  2011   2010   Change 
Revenue  $39,009   $43,801    (10.9)%
Gross Profit  $2,376   $3,728    (36.2)%
Profit Margin   6.1%   8.5%   (2.4)%
Operating (Loss)  $(4,474)  $(3,156)   (41.8)%

 

For 2011, Wang Da generated revenue of $39,009, a decrease of $4,792 or 10.9% compared to $43,801 for 2010. Gross profit decreased $1,352 or 36.2% from $3,728 for 2010 to $2,376 for 2011. The decrease in revenue was primarily due to increased competition from government-owned large telecommunication service providers. Telecommunication service providers opened their direct operating stores to sell communication products. The decrease in revenue was also a result of lower same store revenue caused by competition. Operating losses was $4,474 in 2011, increased $1,318 or 41.8% compared to $3,156 in 2010. The increase in operating losses was primarily a result of lower gross profit, higher labor cost and management fees paid to department stores as a percentage of sales.

 

Profit margin decreased from 8.5% in 2010 to 6.1% in 2011. Since the mobile phone market is dominated by international brand smart phones which have lower profit margin than domestic brands, Chinese brand cell phones lost their competitiveness. We have to sell international brands to maintain market share. As a result, Wang Da’s profit margin decreased in 2011.

 

c)  Jinhua Baofa Logistic Limited or “Jinhua”

 

Jinhua provides transportation service to business and transports freight, including electronics, machinery and equipment, metal products, chemical materials, garments and handicraft goods, in more than 20 cities in Eastern China. Its transportation services cover many of the most developed cities in Eastern China such as Shanghai, Hangzhou and Nanjing.

 

All amounts, except percentages of revenues, are in thousands of US dollars.

 

   Year Ended December 31,   Percentage 
Jinhua  2011   2010   Change 
Revenue  $8,227   $10,691    (23.0)%
Gross Profit (loss)  $(1,900)  $1,402    (235.5)%
Profit Margin   (23.1)%   13.1%   (36.2)%
Operating (Loss)  $(17,024)  $(1,448)   (241.6)%

 

Revenue decreased 23.0% from $10,691 in 2010 to $8,227 in 2011, a decrease of $2,464. Revenue decreased was primarily due to Jinhua’s distribution center in Yiwu city is under Government’s compulsory relocation. However, the new logistic center built by the government is still under construction and not ready for use. As a result, we used a temporary distribution center for operation. This significantly affected Jinhua’s operation in the second half of 2011and caused Jinhua’s revenue to decrease. Profit margin decreased 36.2% from 13.1% in 2010 to (23.1)% in 2011 primarily due to the increased fuel cost and toll charges. Operating loss increased primarily due to decreased profit margin. Higher operating expenses, in particular, labor costs also caused operating loss to increase. In addition, Jinhua had a goodwill impairment loss of $472 in 2011.

 

Goodwill Impairment

 

We recorded non-cash goodwill impairment of $472 for 2011 to reduce the carrying amount of Jinhua’s goodwill to zero based upon the impairment test conducted during the third quarter. For further discussion of goodwill impairment charges see Note 2 – “SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES – Impairment of Goodwill and Intangible Assets” to the Consolidated Financial Statements.

 

19
 

 

Intangible Assets Impairment

 

We recorded non-cash intangible asset impairment of $12,077 for 2011 to reduce the carrying amount of Jinhua’s intangible asset to zero based upon the impairment test conducted during the fourth quarter. For further discussion of intangible asset impairment charges see Note 2 – “SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES – Impairment of Goodwill and Intangible Assets” to the Consolidated Financial Statements.

 

Net Sales

 

Net sales for 2011 totaled $61,021, a year-over-year decrease of $13,722 or 18.4% compared to $74,743 for 2010. The decrease was attributable to the increased competition in the electronics market in China.

 

Percentage of sales

 

In 2011, the Company earned 62.3% of its sales from its retail and 37.7% from its wholesale operations compared to 68.8% from retail and 31.2% from wholesale in 2010.

 

Percentage of sales from retail and wholesale operations for each segment is as follows:

 

   Yiwu   Wang Da   Total 
Retail   56.4%   68.1%   62.3%
Wholesale   43.6%   31.9%   37.7%

 

Cost of Sales

 

Cost of sales (“COS”) for 2011 totaled $59,300, or 97.2% of sales compared to $67,285, or 90.0% of for 2010. The decrease in the COS was a result of the decrease in sales. The COS as a percentage increased during 2011 primarily due to increased costs of electronics products. The increase in purchase rebates paid to suppliers, accounted for as an addition to COS, also contributed to the increase in COS.

 

Top Ten Suppliers of Each of Our Subsidiaries in 2011

  

    Yiwu   Wang Da   Jinhua
1   Fengda Technology Company Limited   Shenzhen Tianyin Telecommunication Company Limited   Zhejiang Sheng Tong Logistic Company Limited
             
2   Ninbo Zhongxun Electronics Company Limited   Hangzhou Weihua Telecommunication Company Limited   Hangzhou Shenzhou Transportation Company Limited
             
3   Hangzhou Zhaoli Technology Company Limited   Hangzhou Tianchen Digital Telecommunication Company Limited   Shanghai Sheng Hui Transportation Company Limited
             
4   Hangzhou Senruida Trade Company Limited   Hangzhou Qianwang Telecommunication Equipment Company Limited   Jiaxing Guohong Transportation Company Limited
             
5   Shanghai Zhongfang Electronics Company Limited   Shanghai Post&Telecom Appliances Company (Hangzhou)   Shanghai Hong Wei Transportation Company Limited
             
6   Shanghai Hongyi Office Equipment Company Limited   Hangzhou Qiuxin Internet Equipment Company Limited   Shanghai Chunsheng Transportation Company Limited
             
7   Shanghai Huoke Electronics Company Limited   Shenzhen Liansheng Technology Company Limited   Yangzhou Yunlu Transportation Company Limited
             
8   Shanghai Guangdian Baolong Office Equipment Company Limited   Hangzhou Jiuxin Telecommunication Appliances Company Limited   Wuxi Sujun Transportation Company Limited
             
9   Shanghai Caitong Digital Technology Company Limited   Hangzhou Liandong Communication Company Limited   Nanjing Enhuahe Transportation Company Limited
             
10   Shanghai Bohui Electronics Company Limited   Shenzhen Sangda HuitongTechnology Company Limited   Sanming Yunlin Vehicle Transportation Company Limited

 

20
 

 

Profit Margin

 

Profit margin in 2011 decreased to 2.8% compared to 10.0% in 2010. The profit margin decrease was mainly attributed to the fact that many small manufacturers of computers, communication and consumer products exited the market and large manufacturers raised the cost of goods due to the global economic slowdown. In addition, the increased competition led the Company to launch more promotional sales to attract customers.

 

Because the Company does not include the costs for its distribution network in COS its gross profit and profit margin as a percentage of net sales (“profit margin”) may not be comparable to those of other retailers that may include distribution costs in cost of sales and in gross profit and profit margin. 

 

Selling, General and Administrative Expenses

 

Selling, general and administrative expenses for 2011 totaled $26,905, or 44.1% of net sales, compared to $15,513, or 20.8% for 2010. General and administration expense increased as a percentage of sales primarily due to impairment loss of intangible assets in Jinhua recorded in 2011.

 

Loss from Operations

 

Operating loss for 2011 was $25,184 or (41.3)% of net sales compared to $8,055 or (10.8)% for 2010. Declined sales and profit margin, increased general and administrative expenses, goodwill and intangible asset impairment of $12,549 in 2011 led to the increase in loss from operations.

 

Provision for Income Taxes

 

Provision for income taxes for 2011 was $206, representing year-over-year increase of 296.2% compared to $52 for 2010. The increase in income tax expenses was due to Jinhua paid income taxes based on the simplified tax system.

 

Net Loss

 

Net loss was $25,449, or (41.7)% of net sales compared to $8,161, or (10.9)% of net sales for 2010. Net income decreased primarily due to a decrease in sales and profit margin and an increase in general and administrative expenses.

 

Foreign Currency Translation Adjustments

 

The impact of foreign translation from our accounts in RMB to US dollar on China 3C’s operating results was not material. During the translation process, the assets and liabilities of all PRC subsidiaries are translated into US dollars at period-end exchange rates. The revenues and expenses are translated into US dollars at average exchange rates of the periods. Resulting translation adjustments are recorded as a component of accumulated other comprehensive income within stockholders’ equity.

 

   2011   2010 
RMB/$ exchange rate at year end   0.1574    0.15170 
Average RMB/$ exchange rate for the years   0.1549    0.14792 

 

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Transaction gains or losses arising from exchange rate fluctuation on transactions denominated in a currency other than the functional currency were included in the consolidated results of operations. As a result of the translation, China 3C recorded a foreign currency gain of $1,057 in 2011 and $1,526 in 2010, which is a separate line item on the Statements of Operations.

 

Net Loss from Discontinued Operations

 

Net loss from discontinued operations for 2011 was $(27,395) compared to $(16,766) for 2010, an increase of $10,629, due to decreased gross profit, increased operating expenses as a result of closing Sanhe and Joy & Harmony’s store in stores and an increase in goodwill impairment of $1,166.

 

Year Ended December 31, 2010 compared to Year Ended December 31, 2009

 

The Company reports financial and operating information in the following three active segments:

 

a) Yiwu Yong Xin Telecommunication Company, Limited or “Yiwu”

 

b) Hangzhou Wang Da Electronics Company, Limited or “Wang Da”

 

c) Jinhua Baofa Logistic Limited or “Jinhua”

 

a) Yiwu Yong Xin Telecommunication Company, Limited or “Yiwu”

 

Yiwu focuses on the selling, circulation and modern logistics of fax machines and cord phone products.

 

All amounts, except percentage of revenues, in thousands of US dollars.

 

   Year Ended December 31,   Percentage 
Yiwu  2010   2009   Change 
Revenue  $20,251   $44,375    (54.4)%
Gross Profit  $2,328   $5,129    (54.6)%
Profit Margin   11.5%   11.6%   (0.1)%
Operating (Loss)  $(2,456)  $(612)   (301.3)%

 

For 2010, Yiwu generated revenue of $20,251, a decrease of $24,124 or 54.4% compared to $44,375 for 2009. Gross profit decreased $2,801 or 54.6% from $5,129 for 2009 to $2,328 for 2010. Such decrease in revenue was primarily due to the shrinking market in office communication products. The decrease in revenue was also a result of closing 73 stores in stores in 2010. Operating losses was $2,456 in 2010; operating loss increased $1,844 or 301.3% compared to $612 in 2009. The increase in operating losses was primarily a result of higher labor cost and management fees paid to department stores as a percentage of sales.

 

Profit margin decreased from 11.6% in 2009 to 11.5% in 2010, a decrease of 0.1%. Such decrease is primarily due to the more competitive fax machine and telephone market in China compared to 2009. To maintain market share, we had to launch more promotions which negatively affected our profit margin. In addition, purchase rebates paid to suppliers accounted for as an addition to COS, as a percentage of sales increased in 2010, which led to lower gross profit of Yiwu.

 

b)  Hangzhou Wang Da Electronics Company, Limited or “Wang Da”

 

Wang Da focuses on the selling, circulation and modern logistics of cell phones, cell phone products, and digital products, including digital cameras, digital camcorders, PDAs, flash disks, and removable hard disks.

 

All amounts, except percentage of revenues, in thousands of US dollars.

 

   Year Ended December 31,   Percentage 
Wang Da  2010   2009   Change 
Revenue  $43,801   $58,744    (25.4)%
Gross Profit  $3,728   $6,600    (43.5)%
Profit Margin   8.5%   11.2%   (2.7)%
Operating (Loss)  $(3,156)  $(262)   (1,104.6)%

 

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For 2010, Wang Da generated revenue of $43,801, a decrease of $14,943 or 25.4% compared to $58,744 for 2009. Gross profit decreased $2,872 or 43.5% from $6,600 for 2009 to $3,728 for 2010. The decrease in revenue was primarily due to increased competition from government-owned large telecommunication service providers. Telecommunication service providers opened their direct operating stores to sell communication products. The number of electronics stores opened in the same area where Wang Da’s stores are located has increased in 2010. These government-owned companies also launched promotions such as “free phone with service contract” which drove Wang Da’s revenue further down. Operating losses was $3,156 in 2010, increased $2,894 or 1,104.6% compared to operating loss of $262 in 2009. The increase in operating losses was primarily a result of higher labor cost and management fees paid to department stores as a percentage of sales.

 

Profit margin decreased from 11.2% in 2009 to 8.5% in 2010. The decrease was due to lower unit price of old model mobile phones as a result of the introduction of 3G phones.

 

c)  Jinhua Baofa Logistic Limited or “Jinhua”

 

Jinhua provides transportation services to businesses and transports freight, including electronics, machinery and equipment, metal products, chemical materials, garments and handicraft goods, in more than 20 cities in Eastern China. Its transportation services cover many of the most developed cities in Eastern China such as Shanghai, Hangzhou and Nanjing.

 

China 3C acquired Jinhua on July 6, 2009. Therefore, the consolidated statement of operations and comprehensive income (loss) of China 3C for 2009 includes Jinhua’s operating results from the date of acquisition to December 31, 2009.

 

All amounts, except percentages of revenues, are in thousands of US dollars.

 

Jinhua  Year Ended December
31, 2010
   For the period from July 1
to December 31, 2009
 
Revenue  $10,691   $5,573 
Gross Profit  $1,402   $1,713 
Profit Margin   13.1%   30.7%
Operating Income (Loss)  $(1,448)  $408 

 

Profit margin decreased 17.6% from 30.7% in 2009 to 13.1% in 2010 primarily due to increased fuel cost. Operating income decreased primarily due to decreased profit margin. Higher operating expenses, in particular, also caused operating income to decrease. The labor cost of Jinhua increased 30% or $1,080 in 2010 due to the mandated government policy as well as higher inflation.

 

Net Sales

 

Net sales for 2010 totaled $74,743, a year-over-year decrease of $33,948 or 31.2% compared to $108,691 for 2009. The decrease was attributable to the closing of 74 stores in stores in 2010 as well as the increased competition in the electronics market in China.

 

Percentage of sales

 

In 2010, the Company earned 67.3% of its sales from its retail operations and 32.7% from its wholesale operations compared to 69.3% from retail operations and 30.7% from wholesale in 2009.

 

Percentage of sales from retail and wholesale operations for each segment is as follows:

 

   Yiwu   Wang Da   Total 
Retail   66.2%   68.3%   67.3%
Wholesale   33.8%   31.7%   32.7%

 

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Cost of Sales

 

COS for 2010 totaled $67,285 or 90.0% of net sales compared to $95,250, or 87.6% for 2009. The decrease in the COS was a result of the decrease in sales. The COS as a percentage increased during 2010 primarily due to increased costs of electronics products. The increase in purchase rebates paid to suppliers, accounted for as an addition to COS, also contributed to the increase in COS.

 

Top Ten Suppliers of Each of Our Subsidiaries in 2010

  

    Yiwu   Wang Da   Jinhua
1   Fengda Technology Company Limited   Shenzhen Tianyin Telecommunication Company Limited   Zhejiang Sheng Tong Logistic Company Limited
             
2   Ninbo Zhongxun Electronics Company Limited   Hangzhou Weihua Telecommunication Company Limited   Hangzhou Shenzhou Transportation Company Limited
             
3   Shanghai Zhongfang Electronics Company Limited   Hangzhou Tianchen Digital Telecommunication Company Limited   Shanghai Sheng Hui Transportation Company Limited
             
4   Hangzhou Senruida Trade Company Limited   Hangzhou Liandong Telecommunication Equipment Company Limited   Shanghai Hong Wei Transportation Company Limited
             
5   Shanghai Hongyi Office Supplies Company Limited   Shanghai Post&Telecom Appliances Company (Hangzhou)   Jiaxingshi Guohong Vehicle Transportation Company Limited
             
6   Shanghai Guangdian Equipment Company Limited   Hangzhou Qiuxin Internet Equipment Company Limited   Guangzhou Shuntong Transportation Company Limited
             
7   Yiwu Wantong Telecom Equipment Company Limited   Shenzhen Liansheng Technology Company Limited   Shanghai Shenghui Transportation Company Limited
             
8   Jiaxing Yage Electronics Company Limited   Hangzhou Jiuxin Telecommunication Appliances Company Limited   Hefei Yuan Shun Da Transportation Company Limited
             
9   Shanghai Huoke Electronics Company Limited   Hangzhou Fuyin Trade Company Limited   Zhuhai Zhijie Transportation Company Limited
             
10   Shanghai Rongduo Business Company Limited   Shenzhen Jinfeng Datong Technology Company Limited   Sanming Yunlin Vehicle Transportation Company Limited

 

Profit Margin

 

Profit margin in 2010 decreased to 10.0% compared to 12.4% in 2009. The profit margin decrease was mainly attributed to the fact that many small manufacturers of computers, communication and consumer products exited the market and large manufacturers raised the cost of goods due to the global economic slowdown. In addition, the increased competition led the Company to launch more promotional sales to attract customers. These events caused profit margin to decrease.

 

Because the Company does not include the costs for its distribution network in COS, its gross profit and gross profit as a percentage of net sales (“profit margin”) may not be comparable to those of other retailers that may include distribution costs in COS and in gross profit and profit margin. 

 

Selling, General and Administrative Expenses

 

Selling, general and administrative expenses for 2010 totaled $15,513, or 20.8% of net sales, compared to $14,348, or 13.2% of net sales for 2009. Selling, general and administrative expenses increased 8.1% primarily due to increase in labor cost and management fees paid to department stores in 2010.

 

24
 

 

Income (Loss) from Operations

 

Operating loss for 2010 was $8,055, or (10.8)% of net sales compared to $907, or (0.8)% for 2009. Declined sales and profit margin and increased general and administrative expenses led to the decline in income from operations.

 

Provision for Income Taxes

 

Provision for income taxes for 2010 was $52, representing year-over-year decrease of 86.1% compared to $373 for 2009. The decrease in income taxes was due to Yiwu and Wang Da having net losses in 2010 and therefore not having income taxes. Zhejiang was the only subsidiary having income but the tax expense was not significant. Although Jinhua had net losses, Jinhua paid a small amount of income taxes based on the simplified tax system.

 

Net Income (Loss)

 

Net loss was $8,109 or (10.8)% of net sales for 2010 compared to $927 or (0.9) % of net sales for 2009. Net loss increased primarily due to a decrease in sales and gross profit and increase in general and administrative expenses.

 

Foreign Currency Translation Adjustments

 

The impact of foreign translation from our accounts in RMB to US dollar on China 3C’s operating results was not material. During the translation process, the assets and liabilities of all PRC subsidiaries are translated into US dollars at period-end exchange rates. The revenues and expenses are translated into US dollars at average exchange rates of the periods. Resulting translation adjustments are recorded as a component of accumulated other comprehensive income within stockholders’ equity.

 

   2010   2009 
RMB/$ exchange rate at year end   0.15170    0.14626 
Average RMB/$ exchange rate for the years   0.14792    0.14618 

 

Transaction gains or losses arising from exchange rate fluctuation on transactions denominated in a currency other than the functional currency were included in the consolidated results of operations. As a result of the translation, China 3C recorded a foreign currency gain of $1,526 in 2010 and loss of $92 in 2009, which is a separate line item on the Statements of Operations.

 

Net Loss from Discontinued Operations

 

Net loss from discontinued operations for 2010 was $(16,766) compared to net income of $87 for 2009, a decrease in net income of $16,679, due to decreased gross profit and an increase in goodwill impairment of $9,591.

 

Retail locations

 

The following table reflects a roll forward during 2009, 2010 and 2011 of our retail locations (i.e. number of stores opened, number of stores closed and number of stores open at the end of the period).Store in store” refers to the sales counter where the Company’s products are displayed for sale within large-scale supermarket stores, department stores and other operation sites for the Company. At present, we have “store in stores” in four main areas, Shanghai, Zhejiang, Jiangsu and Anhui. The Company’s retail locations are all “store in store” locations in 2009, 2010 and 2011 with the exception of three direct retail stores and two franchise stores.

 

   Wang Da   Yiwu   Sanhe   Joy &
Harmony
   Total 
Locations at Jan. 1, 2009   256    295    234    229    1014 
Opened during 2009   -    1    -    1    2 
Closed during 2009   (42)   (23)   (24)   (12)   (101)
Locations at Dec. 31, 2009   214    273    210    218    915 
                          
Opened during 2010   2    11    -    -    13 
Closed during 2010   (1)   (73)   (11)   (22)   (107)
Locations at Dec. 31, 2010   215    211    199    196    821 
                          
Opened during 2011   3    -    -    -    3 
Closed during 2011   (65)   (33)   (199)   (196)   (493)
Locations at Dec. 31, 2011   153    178    -    -    331 

 

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The following table reflects the square footage of each store space during 2009, 2010 and 2011.

 

(In square feet)  Wang Da   Yiwu   Sanhe   Joy &
Harmony
   Total 
Area at Jan. 1, 2009   30,736    44,254    33,071    27,021    135,082 
Opened during 2009   -    210    -    142    352 
Closed during 2009   (3,105)   (4,704)   (2,832)   (1,368)   (12,009)
Area at Dec. 31, 2009   27,631    39,760    30,239    25,795    123,425 
                          
Opened during 2010   860    2,258    -    -    3,118 
Closed during 2010   (93)   (9,555)   (1,131)   (2,272)   (13,051)
Area at Dec. 31, 2010   28,398    32,463    29,108    23,523    113,492 
                          
Opened during 2011   1,050    -    -    -    1,050 
Closed during 2011   (8,065)   (5,021)   (29,108)   (23,523)   (65,717)
Area at Dec. 31, 2011   21,383    27,442    -    -    48,825 

 

The following table reflects net sales per square foot for 2009, 2010 and 2011.

 

(In US dollars)  Wang Da   Yiwu   Average 
2009  $2,079   $1,058   $1,569 
2010   1,489    577    1,033 
2011   1,824    502    1,163 

 

The following table reflects the amount of comparable or same store sales for each period (i.e. the change in sales from stores that were open for each year presented).  A “comparable store” is defined as the same “store in store,” for which sales of that “store in store” is compared in the same month or same quarter of different years, such as the comparison of the sales occurring during March 2008 and March 2009 in the same “store in store.”

 

(In US dollars)  Wang Da   Yiwu   Average 
2009  $14,878   $9,464   $12,171 
2010   10,219    4,510    7,365 
2011   7,233    2,884    5,059 

 

In assessing whether stores are “comparable”, it is based on whether:

 

(1)  stores are in the same address;

 

(2)  relatively same business area (e.g. if the business area of a store has changed in no more than 30%, it is regarded as having same business area; if the change in business area is more than 30%, the change in business area will be regarded as too significant as to be comparable;

 

(3)  relatively same business layout (e.g. if the layout of sales counter in a store remains unchanged over time, then that store would be regarded as a comparable store; if there is significant change in layout of a sales counter in a store, that store will not be regarded as a comparable store);

 

(4)  stores with same product mix would be regarded as comparable; if there is significant change in product mix in a store, that store will not be regarded as a comparable store;

 

26
 

 

(5) with respect to net sales per square foot each year and how we treat changes in square footage, this depends on the materiality of the impact on sales per square foot as a result of an increase or decrease in square footage. By way of example only, if a store with an area of 130 square feet had sales of $14,000 per month in 2006, which results in approximately $108 in sales per square foot. In 2007, if the same store increased the area of operation to 140 square feet and had sales of $16,000 per month that would result in approximately $114 in sales per square foot. We would deem the $6 increase in sales per square foot to be immaterial.  Accordingly, in this case, we will use the area of 130 square feet to compare same store sales, and the additional 10 square feet will be ignored in the calculation of same store sales.

 

We consider changes in store square footage of more than 30% to be material. Stores that undergo such changes will not be accounted for as “comparable stores” because the change is too significant.

 

(6)  with respect to net sales per square foot each year and how we treat relocated stores, if a “store in store” is relocated to a different retail location, which we would refer to as a different operating environment, during the period, then that “store in store” will not be used in the same store comparison.  However, if the “store in store” is relocated to another location within the same retail location (or same operating environment) then the “store in store” sales will be used in the calculation of the same store comparison; and

 

 (7)  with respect to net sales per square foot each year and how we treat closed stores, we treat a closed “store in store” the same way we treat a “store in store” relocated to different retail location. A closed “store in store” is not used in the same store comparison.

 

Opened and closed “stores in stores” are primarily recognized based on the duration of the agreements with the shopping centers, as well as the sale and profits of a “store in store.” Prior to opening a new “store in store” we are usually approached by a large-scale department store or supermarket that offers us the opportunity to open a “store in store.” Our decision is based on our study of the population traffic flow, the department store and supermarkets themselves, and the level of expected profitability of a potential “store in store.” Following our inspection, we sign contracts with the department store and supermarkets, which specifically address the terms and conditions of opening, closing and relocating the “stores in stores.”

 

QUARTERLY RESULTS OF OPERATIONS

 

Our businesses experience fluctuations in quarterly performance. Traditionally, the first quarter from January to March has a higher number of sales reflected by our electronics business due to the New Year holidays in China occurring during that period. Nevertheless, at times, China can experience particularly inclement weather in January and February which can serious disrupt the Company’s supply chain management systems. As our business model is to operate only on several days of inventory, the effects of such weather disruptions may be severe in certain years. 

 

The following table sets forth, for the periods presented, our unaudited quarterly results of operations for the eight quarters ended December 31, 2011. The data has been derived from our consolidated financial statements and, in our management’s opinion, they have been prepared on substantially the same basis as the audited consolidated financial statements and include all adjustments, consisting only of normal recurring adjustments, necessary for a fair statement of the financial results for the periods presented. This information should be read in conjunction with the annual consolidated financial statements included elsewhere in this Form 10-K. The operating results in any quarter are not necessarily indicative of the results that may be expected for any future period.

 

(amounts in thousands of US dollars) 

 

   Three Months Ended 
   12/31/2011   9/30/2011   6/30/2011   3/31/2011   12/31/2010   9/30/2010   6/30/2010   3/31/2010 
Sales, net  $13,980   $13,297   $15,713   $18,031   $19,086   $17,738   $18,358    19,561 
                                         
Cost of sales   13,484    13,731    15,148    16,937    17,596    16,167,    16,075    17,447 
Gross profit (loss)   496    (434)   565    1,094    1,490    1,571    2,283    2,114 
                                         
General and administrative expenses   5,624    14,049    3,614    3,618    6,194    2,966    3,392    2,961 
Loss from operations   (5,128)   (14,483)   (3,049)   (2,524)   (4,704)   (1,395)   (1,109)   (847)
                                         
Other Income (Expense)                                        
Interest income   15    10    10    13    14    15    14    13 
Other income (expense)   (405)   500    (56)   (146)   (6)   (63)   (45)   4 
Total Other Income (Expense)   (390)   510    (46)   (133)   8    (48)   (31)   17 
(Loss) before income taxes   (5,508)   (13,983)   (3,095)   (2,657)   (4,696)   (1,443)   (1,140)   (830)
                                         
Provision for income taxes   (55)   (23)   (38)   (90)   202    (64)   (83)   (107)
                                         
Net (loss)  $(5,563)  $(14,006)  $(3,133)  $(2,747)  $(4,494)  $(1,507)  $(1,223)   (937)
                                         
Net  (loss) per share:                                        
Basic & diluted  $(0.10)  $(0.24)  $(0.05)  $(0.05)  $(0.08)  $(0.03)  $(0.02)   (0.02)
                                         
Weighted average number of shares outstanding:                                        
Basic   58,911    58,585    58,511    58,511    54,831    54,831    54,831    54,831 
Diluted   58,911    58,585    58,511    58,511    54,831    54,831    54,831    54,831 

 

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Liquidity and Capital Resources (amounts in thousands of US dollars)

 

Cash has historically been generated from operations. Operations and liquidity needs are funded primarily through cash flows from operations and short-term borrowings.

 

Cash and equivalents were $5,778 at December 31, 2011 and current assets totaled $20,914. The Company’s current liabilities were $7,648 at December 31, 2011. Working capital at December 31, 2011 was $13,266 During 2011, net cash used in operating activities was $21,752

 

Cash and equivalents were $26,249 at December 31, 2010 and current assets totaled $48,551. The Company’s current liabilities were $9,411 at December 31, 2010. Working capital at December 31, 2010 was $39,140. During 2010, net cash used in operating activities was $4,698.

 

The Company does not have any debt as of December 31, 2011.

 

The Wholly Foreign Owned Enterprise (“WFOE”) Law (1986), as amended and The WFOE Law Implementing Rules (1990), as amended, contain the principal regulations governing dividend distributions by WFOEs. Under these regulations, WFOEs, such as Zhejiang, Yiwu, Wang Da, Sanhe and Joy & Harmony may pay dividends only out of their accumulated profits, if any, determined in accordance with PRC accounting standards and regulations. Additionally,  Zhejiang, Yiwu, Wang Da, Sanhe and Joy & Harmony are required to set aside a certain amount of any accumulated profits each year (a minimum of 10%, and up to an aggregate amount equal to half of its registered capital), to fund certain reserve funds. These reserves are not distributable as cash dividends except in the event of liquidation and cannot be used for working capital purposes. The PRC government also imposes controls on the conversion of RMB into foreign currencies and the remittance of currencies out of the PRC. The Company’s two operating subsidiaries in China paid $525,460 in dividends during 2005, however, we do not intend to pay dividends on our common stock in the foreseeable future. If we ever determine to pay a dividend, we may experience difficulties in completing the administrative procedures necessary to obtain and remit foreign currency for the payment of such dividends from the profits of Zhejiang, Yiwu, Wang Da, Sanhe and Joy & Harmony and Jinhua.

 

In summary, our cash flows were (in thousands): 

 

   Year Ended December 31, 
   2011   2010   2009 
Net cash provided (used) by operating activities  $(21,752)  $(4,698)  $7,112 
Net cash used in investing activities   (11)   (22)   (8,590)
Effect of exchange rate change on cash and equivalents   1,292    1,061    (772)
Net decrease in cash and equivalents   (20,471)   (3,659)   (2,250)
Cash and equivalents at beginning of year   26,249    29,908    32,158 
Cash and equivalents at end of year  $5,778   $26,249   $29,908 

 

Operating Activities

 

Net cash used in operating activities was $21,752 in 2011 compared to $4,698 in 2010. This decrease was mainly attributable to (i) an increase in net losses of $27,917 from $(24,927) in 2010 to $(52,844) in 2011, (ii) decrease in accounts payable and accrued expenses of $2,865, offset by the decrease in accounts receivable of $1,452, decrease in tax receivable of 1,225 and inventory of $4,134 in 2011, adding back the non-cash item, goodwill and intangible asset impairment loss of $23,306.

 

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Net cash used in operating activities was $4,698 in 2010 compared to net cash generated from operating activities of $7,112 in 2009. This decrease was mainly attributable to (i) an increase in net losses of $23,714 from $(1,213) in 2009 to $(24,927) in 2010, (ii) increase in inventories of $261, offset by the decrease in accounts receivable of $7,688 and increase in accounts payable of $1,545 in 2010.

 

   2011   2010   2009 
Net sales, including discontinued operations  $129,831    158,094    208,490 
Percentage change in net sales  $(17.9)%   (24.2)%     

 

   2011   2010   Change in
percentage
 
Accounts receivable  $9,967    11,026    (9.6)%

 

While net sales decreased 17.9% from 2010, accounts receivable decreased 9.6%. The Company still maintains a healthy accounts receivable turnover. The collection of debt is based on the terms of legal binding documents. The Company has not changed its policy on reserving for bad debt and has not found any abnormal increases in bad debt.

 

Investing activities

 

   2011   2010   2009 
Net cash used in investing activities  $(11)  $(22)  $(8,590)

 

Net cash used in investing activities in 2011 and 2010 was nominal. Net cash used in investing activities was $8,590 in 2009 as a result of the acquisition of Jinhua. On December 19, 2008, Zhejiang and Yiwu entered into an agreement to acquire Jinhua. Pursuant to the acquisition agreement, Zhejiang and Yiwu were required to pay RMB 50,000 thousand within 10 business days after the execution of the agreement to Jinhua’s shareholders. Therefore, China 3C made a purchase deposit of $7,319 to the shareholders of Jinhua in 2008. In July 2009, China 3C completed the acquisition of Jinhua and therefore paid $7,784 to Jinhua. In 2009, China 3C also made $806 investment in fixed assets to open new direct stores.

 

Financing Activities

 

There was no cash used in financing activities in 2011, 2010 and 2009.

 

Financing activities  2011   2010   2009 
Net cash (used) in financing activities  $-   $-   $- 

 

Net decrease in cash and equivalents

 

   2011   2010   2009 
Net decrease in cash and equivalents  $(20,471)  $(3,659)  $(2,250)

 

Cash and equivalents

 

   2011   2010   2009 
Cash and equivalents  $5,778   $26,249   $29,908 

 

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Cash and equivalents as of December 31, 2011 and 2010 were solely bank accounts in US and China. Specifically, cash and equivalents for each subsidiary as of December 31, 2011and 2010 included:

 

(all amounts are denominated at thousands)

 

Name of Entities   Region  Currency  2011   2010     
China 3C Group   US entity  USD   26    4      
CFDL   BVI entity  USD   -    -      
Zhejiang   Chinese entity  RMB   4,847    1,781      
Yiwu   Chinese entity  RMB   4,611    40,568      
Sanhe   Chinese entity  RMB   1,442    38,066      
Wang Da   Chinese entity  RMB   20,182    25,406      
Joy & Harmony   Chinese entity  RMB   2,607    43,369      
Jinhua   Chinese entity  RMB   2,852    23,809      

 

Cash equivalents held in the PRC subsidiaries are not freely transferrable outside the country. The amounts not freely transferable as of December 31, 2011and 2010 were RMB 36,541 ($5,752) and RMB 172,999 ($26,244).

 

Capital Expenditures

 

Capital expenditures for purchase of fixed assets during 2011, 2010 and 2009 were $11, $22, and $806, respectively. The higher level of capital expenditures in 2009 was due to the new business plan of opening new direct stores and franchise stores. Direct stores and franchise stores have higher capital requirements than “stores in stores”.

 

Working Capital Requirements

 

Historically operations and short term financing have been sufficient to meet our cash needs. We believe we will be able to generate revenues from sales and raise capital through private placement offerings of our equity securities to provide the necessary cash flow to meet anticipated working capital requirements. However, our actual working capital needs for the long and short term will depend upon numerous factors, including operating results, competition, and the availability of credit facilities, none of which can be predicted with certainty. Future expansion will be limited by the availability of financing products and raising capital.

 

Off-Balance Sheet Arrangements

 

We have never entered into any off-balance sheet financing arrangements and have never established any special purpose entities. We have not guaranteed any debt or commitments of other entities or entered into any options on non-financial assets.

 

Critical Accounting Policies

 

Our discussion and analysis of our financial condition and results 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 consolidated financial statements requires us to make estimates, judgments and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and the related disclosure of contingent assets and liabilities. We base our estimates on historical experience and on various other assumptions that we believe are 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.

 

An accounting policy is considered to be critical if it requires an accounting estimate to be made based on assumptions about matters that are highly uncertain at the time the estimates are made, and if different estimates that reasonably could have been used, or changes in the accounting estimates that are reasonably likely to occur, could materially impact the consolidated financial statements. We believe the following critical accounting policies reflect the more significant estimates and assumptions used in the preparation of the consolidated financial statements.

 

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Revenue Recognition

 

Our revenues are generated from sales of electronics products. All of our revenue transactions contain standard business terms and conditions. We determine the appropriate accounting for these transactions after considering (1) whether a contract exists; (2) when to recognize revenue on the deliverables; (3) whether all elements of the contract have been fulfilled and delivered; and (4) whether collection is reasonably assured, which inherently requires us to evaluate the creditworthiness of our customers. Changes in judgments on these assumptions and estimates could materially impact the timing or amount of revenue recognition.

 

Please refer to Note 2 in the footnotes to the financial statements for detailed description of our revenue recognition policy.

 

After Sales Service

 

The after-sales services that we provide to our customers are primarily repair and maintenance. If a customer buys a product from us and needs repairs, we can usually arrange to have the manufacturer repair the product. In certain cases, clerks in our stores are able to make the repairs directly.

 

Tabular Disclosure of Contractual Obligations

 

Not applicable.

 

ITEM 7A.     QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

 

Not applicable.

 

ITEM 8.       FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

 

The financial statements of the Company are included following the signature page to this Form 10-K.

 

ITEM 9.       CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

 

None.

 

ITEM 9A. CONTROLS AND PROCEDURES

 

Evaluation of Disclosure Controls and Procedures

 

Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of our disclosure controls and procedures as of December 31, 2011, as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act. Based on this evaluation, our principal executive officer and principal financial officer have concluded that as of December 31, 2011, the Company’s disclosure controls and procedures were not effective due to the material weakness in our internal controls identified below.

 

Disclosure controls and procedures are designed to provide that information required to be disclosed by us in reports that we file or submit under the Exchange Act is accumulated, recorded, processed, summarized, communicated to our management, including our principal executive officer and principal financial officer and reported within the time periods specified in Securities and Exchange Commission rules and forms.

 

Management’s Report on Internal Control over Financial Reporting

 

Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rules 13a-15(f) and 15d-15(f). Internal control over financial reporting refers to the process designed by, or under the supervision of, our principal executive and principal financial officers, and effected by the BOD, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles and includes those policies and procedures that:

 

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1.  Pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of our assets;

 

2. Provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorization of our management and directors; and

 

3. Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisitions, use or disposition of our assets that could have a material effect on the financial statements.

 

Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting based on the framework in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on our evaluation, and due to the material weakness described below, management concluded that our internal control over financial reporting was not effective as of December 31, 2011.

 

Our management identified the following material weakness: the ability of the Company to record transactions and provide disclosures in accordance with US GAAP. The current staff in our accounting department are inexperienced in US GAAP. They need substantial training to meet the demands of a US public company. The accounting skills and understanding necessary to fulfill the requirements of US GAAP-based reporting, including the preparation of financial statements and consolidation, are inadequate.

 

All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions or that the degree of compliance with the policies or procedures may deteriorate.

 

Remediation Initiative

 

We intend to provide additional training in US GAAP and disclosure requirements under US securities law to our staff, in particular, to our key accounting personnel.

 

Attestation Report of the Independent Registered Public Accounting Firm

 

This Annual Report on Form 10-K does not include an attestation report of our registered public accounting firm, Goldman Kurland and Mohidin, LLP, regarding internal control over financial reporting because we are a non-accelerated filer. Our management’s report was not subject to attestation by our registered public accounting firm pursuant to the rules of the Securities and Exchange Commission that permit us to provide only our management’s report in this Annual Report.

 

Changes in Internal Control over Financial Reporting

 

There were no changes in our internal control over financial reporting that occurred during the fourth quarter of the year covered by this Annual Report on Form 10-K that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

ITEM 9B. OTHER INFORMATION

 

None. 

 

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PART III

 

ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE

 

The following table sets forth the name, age and position of each of our officers and directors as of April 15, 2012.

 

Name   Age   Position
Zhenggang Wang   43   Chief Executive Officer and Chairman of the Board
Weiping Wang   45   Chief Financial Officer
Xinchuan Kong   37   President
Chenghua Zhu   36   Director
Mingjun Zhu   43   Director
Rongjin Weng   48   Director
Wei Kang Gu   66   Director

  

There are no family relationships between or among any of the executive officers or directors of the Company. Below are brief descriptions of the backgrounds and experiences of the officers and directors: 

 

Zhenggang Wang, Chief Executive Office and Chairman of the Board

 

Mr. Wang, has been the Company’s chief executive officer and chairman of its BOD since December 2005. He is also the founder, chairman and chief executive officer of Zhejiang Yong Xin Digital Technology Company Limited, a holding company to hold interests in Hangzhou Wang Da Electronics Company, Limited and Yiwu Yong Xin Telecommunication Company, Limited, both of which are based in China. Mr. Wang established Yiwu Yong Xin Telecommunication Company, Limited in 1997, and he serves as its chairman and chief executive officer. In 1998, Mr. Wang established Hangzhou Wang Da Electronics Company, Limited, which is in the business of distributing cellular telephone phones. Mr. Wang is the chairman and chief executive officer of Hangzhou Wang Da Electronics Company, Limited.  Mr. Wang does not hold any other directorships with reporting companies in the United States.

 

Weiping Wang, Chief Financial Officer 

 

Mr. Weiping Wang has been appointed as Chief Financial Officer of China 3C Group effective June 21, 2011. Mr. Weiping Wang joined the Company in January 2010 and served as Assistant General Manager of Zhejiang Yongxin Technology Limited since then. Before joining the Company, Mr. Wang served as Deputy General Manager in Shaanxi Aokai Food Co., Ltd, a food producer with over 300 employees from 2005 to 2009, where his responsibilities included overseeing customer relations and supporting the General Manager with management of day-to-day operations. In 2004, Mr. Wang worked as a sales manager for Jinhua Aokai Trade Co. Ltd. From 1986 until 2003, Mr. Wang worked as a regional sales manager for Zhejiang Mifeng Group Co., Ltd, one of the “Top 100 Food Producers” in China. Mr. Wang received his Bachelor’s Degree in Business Administration from Zhejiang University, China.

 

Xinchuan Kong, President

 

Mr. Kong has been the Company’s president since December 2010. Mr. Kong served as the chief executive officer of Zhejiang Yong Xin Digital Technology Company, a subsidiary of the Company, from February 2010 to December 2010.  From May 2005 to January 2010, Mr. Kong served as a project manager at Hangzhou Ruisi Management Consulting Group.  From May 2003 to April 2005, Mr. Kong served as the assistant to the Chairman of Shanghai Jinjian Food Co. Ltd.  Mr. Kong received his Bachelor’s Degree in English from Henan Institute of Education and a Master’s Degree in Economics from Zhejiang University, China.

 

Chenghua Zhu, Director

 

Ms. Zhu has been a director of the Company since June 2006.  Ms. Zhu is a senior project manager of Shanghai Shengzhang, a certified public accounting firm. She was project manager at two CPA firms prior to joining Shanghai Shengzhang, Shanghai Jiarui and Hubei Dahua.  Ms. Zhu does not hold any other directorships with reporting companies in the United States.

 

Mingjun Zhu, Director

 

Mr. Zhu has been a director of the Company since June 2006. Mr. Zhu is General Manager of Zhejiang Mingda, a certified public accounting firm. He was General Manager of Zhejiang Mingda Management Consulting Company. From 1993 to 2004, he was Deputy Director of Yiwu Zhicheng, a CPA firm.  Mr. Zhu does not hold any other directorships with reporting companies in the United States.

 

Rongjin Weng, Director

 

Mr. Weng has been a director of the Company since December 2005.  Mr. Weng is Chairman of Langsha Group, which is the largest sock manufacturer in China with an annual revenue of $100 million. Mr. Weng established Langsha Knitting Company Limited in 1995, and has served as its chairman and chief executive officer since that time. Mr. Weng holds a MBA from Shanghai Jiao Tong University. Mr. Weng does not hold any other directorships with reporting companies in the United States.

 

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Wei Kang Gu, Director

 

Mr. Gu has been a director of the Company since December 2005. Mr. Gu is a Professor of Electronic Engineering at Zhejiang University. Founded in 1897, the University has always been ranked among the few top universities in China and is today the third most recognized university in China. It is a major research university comprised of 22 colleges. Mr. Gu also serves on the Board of Bird Ningbo Company. Founded in 1992, Bird Ningbo has grown to be China’s leading domestic manufacturer of mobile phones. He is also Vice Chairman of Zhejiang Electronic Association. Mr. Gu received a bachelors’ degree from Zhejiang University.  Mr. Gu does not hold any other directorships with reporting companies in the United States.

 

Kenneth Berents

 

Kenneth Berents, a director of the Company resigned from his positions as director and Chairman of the Audit Committee of the BOD of the Company effective August 6, 2010.  There were no disagreements between Mr. Berents and the Company on any matter relating to the Company’s operations, policies or practices, which resulted in his resignation.

 

Term

Each director serves for a one year term after which they may stand for re-election at the Company’s annual meeting of stockholders. Each of our directors serves until his resignation or removal. Our offices serve at the pleasure of our BOD.

 

Involvement in Certain Legal Proceedings

 

To the best of our knowledge, there have been no events under any bankruptcy act, no criminal proceedings and no judgments, injunctions, orders or decrees material to the evaluation of the ability and integrity of any director, executive officer, promoter or control person of our Company during the past ten years.

 

Board Leadership Structure
 

The BOD believes that Mr. Wang’s service as both Chairman of the Board and Chief Executive Officer is in the best interests of the Company and its stockholders. Mr. Wang possesses detailed and in-depth knowledge of the issues, opportunities and challenges facing the Company and its business and is thus best positioned to develop agendas that ensure that the Board’s time and attention are focused on the most critical matters. His combined role enables decisive leadership, ensures clear accountability, and enhances the Company’s ability to communicate its message and strategy clearly and consistently to the Company’s shareholders, employees and customers.

 

Each of the directors other than Zhenggang Wang is independent (see “Director Independence” below), and the BOD believes that the independent directors provide effective oversight of management. The BOD has not designated a lead director. Our independent directors call and plan their executive sessions collaboratively and, between BOD meetings, communicate with management and one another directly. In the circumstances, the directors believe that formalizing in a lead director functions in which they all participate might detract from rather than enhance performance of their responsibilities as directors.

 

Director Qualifications

 

We seek directors with established strong professional reputations and experience in areas relevant to the strategy and operations of our businesses. We also seek directors who possess the qualities of integrity and candor, who have strong analytical skills and who are willing to engage management and each other in a constructive and collaborative fashion, in addition to the ability and commitment to devote significant time and energy to service on the Board and its committees. We believe that all of our directors meet the foregoing qualifications.

 

The Nominating and Corporate Governance Committee and the Board believe that the leadership skills and other experiences of its Board members, as described below, provide the Company with a range of perspectives and judgment necessary to guide our strategies and monitor their execution.

 

Zhenggang Wang: Mr. Zhenggang Wang has more than 20 years of experience in the PRC electronics market. He is the founder of the Company and has demonstrated strong leadership throughout the development of the Company.

 

Chenghua Zhu: Ms. Chenghua Zhu has a strong accounting background and has worked as a manager in various CPA firms. Her expertise in financial reporting qualifies her to be a member of the Board and the Audit Committee.

 

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Mingjun Zhu: Mr. Mingjun Zhu has extensive knowledge in accounting and financial reporting. His prior work as a consultant and his expertise in accounting enables him to offer valuable perspectives on the Company’s budgeting and financial reporting.

 

Rongjin Weng: Mr. Weng is Chairman of Langsha Group, which is the largest sock manufacturer in China. Mr. Weng brings leadership and management expertise to the Board.

 

Wei Kang Gu: Mr. Gu had previously served as a director to a Chinese electronic company. He is also Vice Chairman of Zhejiang Electronic Association, which offers the industry expertise.

 

Board Practices

 

Our business and affairs are managed under the direction of our BOD. The primary responsibilities of our BOD are to provide oversight, strategic guidance, counseling and direction to our management. It is our expectation that the BOD will meet regularly on a quarterly basis and additionally as required.

 

Board’s Role in Risk Oversight

 

The BOD as a whole has responsibility for risk oversight, with reviews of certain areas being conducted by the relevant BOD committees. These committees then provide reports to the full BOD. The oversight responsibility of the BOD and its committees is enabled by management reporting processes that are designed to provide visibility to the BOD about the identification, assessment, and management of critical risks. These areas of focus include strategic, operational, financial and reporting, succession and compensation, compliance, and other risks. The BOD and its committees oversee risks associated with their respective areas of responsibility, as summarized below.

 

Board Committees and Designated Directors

 

The BOD has a Compensation Committee, a Nominating and Corporate Governance Committee and an Audit Committee.  Our BOD has determined that Chenghua Zhu, Mingjun Zhu, Rongjin Weng and Wei Kang Gu, the members of these committees, are “independent” under the current independence standards of NASDAQ Marketplace Rule 4200(a)(15) and meet the criteria for independence set forth in Rule 10A-3(b)(1) under the US Securities Exchange Act of 1934, as amended (the “Exchange Act”). Our BOD has also determined that these persons have no material relationships with us — either directly or as a partner, stockholder or officer of any entity — which could be inconsistent with a finding of their independence as members of our BOD.

 

Audit Committee

 

The BOD has established an audit committee in accordance with Section 3(a)(58)(A) of the Exchange Act.  The Audit Committee consists of Mingjun Zhu, Chairman and members Rongjin Weng and Chenghua Zhu. All of the above-listed audit committee members are considered “independent” under the current independence standards of NASDAQ Marketplace Rule 4200(a)(15) and meet the criteria for independence set forth in Rule 10A-3(b)(1) of the Exchange Act as determined by the BOD.  The BOD has determined that we have at least one audit committee financial expert, as defined in the Exchange Act, serving on our audit committee. Mingun Zhu is the “audit committee financial expert” and is an independent member of the BOD.

 

The Audit Committee has reviewed and discussed the audited financial statements for 2011 with management, and has discussed with the independent auditors the matters required to be discussed by Statement of Auditing Standards No. 61, Communication with Audit Committee, as currently in effect. The Audit Committee has received the written disclosures and the letter from the independent auditors required by Independence Standards Board Standard No. 1, Independence Discussions with Audit Committees, as currently in effect, and has discussed with the independent auditors the independent auditors’ independence; and based on the review and discussions referred above, the Audit Committee recommended to the BOD that the audited financial statements be included in the Company’s Annual Report on Form 10-K for 2011 for filing with the SEC.

 

Compensation Committee

 

Our Compensation Committee consists of Wei Kang Gu, Chairman and Rongjin Weng. Each of the above-listed compensation committee members were or are considered “independent” under the current independence standards of NASDAQ Marketplace Rule 5605(a)(2) and meet the criteria for independence set forth in Rule 10A-3(b)(1) of the Exchange Act as determined by the BOD. The Compensation Committee makes recommendations to the BOD concerning salaries and incentive compensation for our officers, including our Chief Executive Officer, and employees and administers our stock option plans. No member of our Compensation Committee has at any time been an officer or employee of ours or our subsidiaries. No interlocking relationship exists between our BOD or Compensation Committee and the BOD or compensation committee of any other company, nor has any interlocking relationship existed in the past.

 

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Communications with the Board of Directors

 

The BOD maintains a process for stockholders to communicate with the Board. Stockholders wishing to communicate with the BOD or any individual director must mail a communication addressed to the Secretary of the Company, China 3C Group, 368 HuShu Nan Road, HangZhou City, Zhejiang Province, China 310014. Any such communication must state the number of shares of our common stock beneficially owned by the stockholder making the communication. All of such communications will be forwarded to the full BOD or to any individual director or directors to whom communication is directed unless the communication is clearly of a marketing nature or is inappropriate, in which case we have the authority to discard the communication or taking appropriate legal action regarding the communication.

 

Nominating and Corporate Governance Committee

 

Our Nominating and Corporate Governance Committee (“NCGC”) consists of Mingjun Zhu, Chairman and member Wei Kang Gu. Each of the above-listed nominating committee members are considered “independent” under the current independence standards of NASDAQ Marketplace Rule 5605(a)(2) and meet the criteria for independence set forth in Rule 10A-3(b)(1) of the Exchange Act as determined by the BOD.  The Nominating and Corporate Governance Committee assists the BOD in identifying qualified individuals to become board members, in determining the composition of the BOD and in monitoring a process established to assess Board effectiveness.

 

Changes in Director Nomination Process for Stockholders

 

There have been no material changes to the procedures by which security holders may recommend nominees to the Company’s BOD since the filing of the Company’s Annual Report on Form 10-K for 2011.

 

The NCGC will consider director candidates recommended by security holders.  Potential nominees to the BOD are required to have such experience in business or financial matters as would make such nominee an asset to the BOD and may, under certain circumstances, be required to be “independent”, as such term is defined in the Marketplace Rules of NASDAQ and applicable SEC regulations.  

 

Section 16(a) Beneficial Ownership Reporting Compliance

 

Section 16(a) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), requires the executive officers and directors of the Company and every person who is directly or indirectly the beneficial owner of more than 10% of any class of security of the Company to file reports of ownership and changes in ownership with the SEC. Such persons also are required to furnish our company with copies of all Section 16(a) forms they file. Based solely on our review of copies of such forms received by us, we believe that during 2011, the executive officers and directors of the Company and every person who is directly or indirectly the beneficial owner of more than 10% of any class of security of the Company complied with the filing requirements of Section 16(a) of the Exchange Act, other than one Form 3 and one Form 4 filed by Jian Zhang which were not timely filed.

 

Code of Ethics

 

In 2007 we adopted a corporate code of ethics that applies to our principal executive officer and our principal financial and accounting officer. We believe our code of ethics is reasonably designed to deter wrongdoing and promote honest and ethical conduct; provide full, fair, accurate, timely and understandable disclosure in public reports; comply with applicable laws; ensure prompt internal reporting of code violations; and provide accountability for adherence to the code of ethics. The code of ethics was filed as Exhibit 14 to our Annual Report on Form 10-K for 2007. A written copy of the code of ethics will be provided upon request at no charge by writing to our Chief Financial Officer, China 3C Group, 368 HuShu Nan Road, HangZhou City, Zhejiang Province, China 310014.

 

ITEM 11. EXECUTIVE COMPENSATION

 

Compensation Discussion And Analysis

 

The Compensation Committee of our BOD and our Chief Executive Officer, Chief Financial Officer and head of Human Resources are collectively responsible for implementing and administering all aspects of our benefit and compensation plans and programs, as well as developing specific policies regarding compensation of our executive officers. The members of our Compensation Committee, Mingjun Zhu and Wei Kang Gu, are independent directors.

 

36
 

 

Compensation Objectives

 

Our primary goal with respect to executive compensation has been to set compensation at levels that attract and retain the most talented and dedicated executives possible. Individual executive compensation is set at levels believed to be comparable with executives in other companies of similar size and stage of development operating in China. We also link long-term stock-based incentives to the achievement of specified performance objectives and to align executives’ incentives with stockholder value creation.

 

Elements of Compensation

 

Base Salary. All full time executives are paid a base salary. Executives who are Chinese nationals, including our Chief Executive Officer and Chairman, do not have employment agreements. Base salaries for our executives 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, professional qualifications, academic background, and the other elements of the executive’s compensation, including stock-based compensation. Our intent is to set executives’ 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 to align salaries with market levels after taking into account the subjective evaluation described previously.

 

The Company currently has no foreign employees and the amount of salary is primarily determined by job requirements and each employee’s level in the corporate hierarchy. The Company’s personnel department then makes salary decisions based on these factors along with and job performance and market conditions.

 

Equity Incentive Compensation. We believe that long-term performance is achieved through an ownership culture participated in by our executive officers through the use of stock-based awards. Currently, we do not maintain any incentive compensation plans based on pre-defined performance criteria. The Compensation Committee has the general authority, however, to award equity incentive compensation, i.e. stock options, to our executive officers in such amounts and on such terms as the committee determines in its sole discretion. The Committee does not have a determined formula for determining the number of options available to be granted. Incentive compensation is intended to compensate officers for accomplishing strategic goals such as mergers and acquisitions and fund raising. The Compensation Committee will review each executive’s individual performance and his or her contribution to our strategic goals periodically and determine the amount of incentive compensation towards the end of the year. Our Compensation Committee grants equity incentive compensation at times when we do not have material non-public information to avoid timing issues and the appearance that such awards are made based on any such information.

 

Determination of Compensation

 

Our Chief Executive Officer, Chief Financial Officer and head of Human Resources meet frequently during the last several weeks of the year to evaluate each non-executive employee’s performance and determine his or her compensation for the following year.

 

The following table sets forth the cash and other compensation paid by us in 2011 to all individuals who served as our Chief Executive Officer and Chief Financial Officer, who we collectively refer to as the named executive officers (“NEOs”). No executive officer received total compensation greater than $100,000 in 2011 or 2010.

 

37
 

 

SUMMARY COMPENSATION TABLE

 

Name and              Stock   Option     
Principal      Salary   Bonus   Awards   Awards   Total 
Position  Year   ($)   ($)   ($)   ($)   ($) 
Zhenggang Wang, CEO   2011   $84,250    -    -    -   $84,250 
    2010   $79,780    -    -    -   $79,780 
                               
Weiping Wang, CFO (1)   2011   $42,125    -    24,000    -   $66,125 
    2010   $-    -    -    -   $- 
                               
Jian Zhang,   2011   $15,446    -    12,000    -   $27,446 
Former CFO (2)   2010   $60,180    -    12,000    -   $72,186 
                               
Weidong Huang,   2011   $-    -    -    -   $- 
Former CFO (3)   2010   $11,150    -    -    -   $11,150 

 

(1)Weiping Wang was appointed as Chief Financial Officer of the Company effective June 21, 2011. Valuation based on the dollar amount of option grants recognized for financial statement reporting purposes pursuant to ASC 718. The stock value was calculated based on the closing price of $ 0.12 per share on the date of grant.
(2)Jian Zhang was appointed as Chief Financial Officer of the Company effective June 16, 2009 and resigned on June 17, 2011. Valuation based on the dollar amount of option grants recognized for financial statement reporting purposes pursuant to ASC 718. The stock value was calculated based on the closing price of $ 0.12 per share on the date of grant.
(3)Weidong Huang resigned as our Chief Financial Officer and Director on June 15, 2009.

 

Grants of Plan-Based Awards

 

No plan based award was granted to any of the Company’s NEOs during the year ended December 31, 2011. The Company granted 50,000 restricted common stock to the President Mr. Xinchuan Kong in 2011.

 

Outstanding Equity Awards At Year-End

 

There were no outstanding unexercised options, unvested stock or other equity incentive plan awards held by any of the Company’s NEOs as of December 31, 2011. There are 50,000 shares of restricted common stock outstanding held by our President Mr. Xinchuan Kong as of December 31, 2011.

 

Option Exercises And Stock Vested

 

There were no exercises of stock options, stock appreciation rights and/or similar investment nor was there any vesting of stock, restricted stock, restricted stock units or similar instruments during the year ended December 31, 2011 for any of the Company’s NEOs. There are 50,000 shares of restricted common stock held by our President Mr. Xinchuan Kong vested in 2011.

 

Pension Benefits

 

We do not sponsor any pension benefit plans.

 

Nonqualified Deferred Compensation

 

We do not maintain any non-qualified defined contribution or deferred compensation plans. Our Compensation Committee, which is comprised solely of “outside directors” as defined for purposes of Section 162(m) of the Internal Revenue Code, 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.

 

Potential Payments Upon Termination or Change in Control

 

None.

 

Employment Agreements

 

None

 

Compensation of Directors

 

The following table summarizes compensation that our directors earned during 2011 for services as members of the Company’s BOD:

 

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DIRECTOR COMPENSATION

 

Name  Fees
Earned or
Paid in
Cash
   Stock
Awards
($)
   Option
Awards
($) (1)
   Non-Equity
Incentive
Plan
Compensation
($)
   Change in
Pension
Value and
Nonqualified
Deferred
Compensation
Earnings ($)
   All
Other
Compensation
($)
   Total
($)
 
Xinchuan Kong(2)  $46,805    -         -    -    -   $46,805 
Wei Kang Gu   -    -    -    -    -    -    - 
Chenghua Zhu   -    -    -    -    -    -    - 
Mingjun Zhu   -    -    -    -    -    -    - 
Rongjin Weng   -    -    -    -    -    -    - 
Total  $46,805         -    -    -    -   $46,805 

 

(1) Valuation based on the dollar amount of option grants recognized for financial statement reporting purposes pursuant to ASC 718.

 

(2) Xinchuan Kong served as the president of China 3C since December 2010.

 

ITEM 12.       SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

 

The following table sets forth certain information, as of April 15, 2012, concerning shares of common stock of the Company, the only class of its securities that are issued and outstanding, held by (1) each shareholder known by the Company to own beneficially more than five percent of the common stock, (2) each director of the Company, (3) each executive officer of the Company, and (4) all directors and executive officers of the Company as a group:

 

   Amount and Nature  Percentage of 
   of Beneficial  Common Stock 
Name and Address of Beneficial Owner (1)  Ownership  (2) 
Zhenggang Wang  9,725,000   16.5%
Weiping Wang  200,000   * 
Xinchuan Kong  50,000   * 
Mingjun Zhu  -   - 
Rongjin Weng  -   - 
Wei Kang Gu  -   - 
Chenghua Zhu  -   - 
All directors and executive officers as a group (7 persons)  9,975,000   16.9%

 

* Less than One Percent.

 

(1)Unless otherwise indicated in the footnotes to the table, each shareholder shown on the table has sole voting and investment power with respect to the shares beneficially owned by him, her or it. Unless otherwise indicated in the footnotes to the table, the address for each shareholder is c/o China 3C Group, 368 HuShu Nan Road, HangZhou City, Zhejiang Province, China 310014. Percentages of less than one percent have been omitted from the table.

 

(2)Calculated on the basis of 58,911,327 shares of common stock issued and outstanding as of April 15, 2012 except that shares of common stock underlying options and warrants exercisable within 60 days of the date hereof are deemed to be outstanding for purposes of calculating the beneficial ownership of securities of the holder of such options or warrants.

 

Reference is made to the sections titled “Equity Compensation Plan Information” and “Securities Authorized for Issuance under Equity Compensation Plans” under Item 5 of this 10-K.

 

ITEM 13.       CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE

 

Transactions with Related Parties

 

There have not been any transactions, or proposed transactions, during the last two fiscal years, to which the Company was or is to be a party and the amount involved exceeds $120,000, and in which any related party, as defined in Item 404 of Regulation S-K had or is to have a direct or indirect material interest.

 

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Director Independence

 

The BOD has determined that each of our directors, except Zhenggang Wang, has no relationship that, in the opinion of the BOD, would interfere with the exercise of independent judgment in carrying out the responsibilities of a director and is an “independent director” as defined in the Marketplace Rules of the Nasdaq Stock Market (“NASDAQ”). In determining the independence of our directors, the BOD has adopted independence standards that follow the criteria specified by applicable laws and regulations of the SEC and the Marketplace Rules of NASDAQ. In determining the independence of our directors, the BOD considered all transactions in which the Company and any director had any interest.

 

Based on the application of the independence standards and the examination of all of the relevant facts and circumstances, the BOD determined that none of the following directors had any material relationship with the Company and, thus, are independent under Rule 5605(a)(2) of the Marketplace Rules of NASDAQ: Rongjin Weng, Weikang Gu, Mingjun Zhu and Chenghua Zhu . In accordance with the Marketplace Rules of NASDAQ a majority of our BOD is independent.

 

ITEM 14.       PRINCIPAL ACCOUNTANT FEES AND SERVICES

 

On January 5, 2009, the Company, on the recommendation of the Audit Committee of its BOD, engaged Goldman Kurland and Mohidin, LLP (“GKM”) as its independent registered public accounting firm.  

 

The following represents fees for professional audit services rendered by GKM for 2011 and 2010.

 

Audit Fees

 

The aggregate fees billed by our current auditors, GKM, for professional services rendered for the audit of our annual financial statements for 2011 and 2010 was $160,000 and $160,000, respectively.

 

Audit Related Fees

 

We incurred no audit related fees to GKM during 2011 and 2010.

 

Tax Fees

 

GKM did not render any services for tax compliance, tax advice and tax planning during the years ended December 31, 2011 and 2010.

 

All Other Fees

 

GKM did not bill us any additional fees that are not disclosed under audit fees, audit related fees or tax fees during 2011 and 2010.

 

Audit Committee Pre-Approval Process, Policies and Procedures

 

The Audit Committee has adopted pre-approval policies for all services, including both audit and non-audit services, provided by our independent auditors.  For audit services, each year the independent auditor provides the Audit Committee with an engagement letter outlining the scope of the audit services proposed to be performed during the year, which must be formally accepted by the Audit Committee before the audit commences.  The independent auditor also submits an audit services fee proposal, which also must be approved by the Committee before the audit commences.  The audit, tax, and all other fees and services described above were pre-approved for 2011 and 2010.

40
 

 

PART IV

 

ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES

 

(a)           The following are filed with this Annual Report:

 

(1)  The financial statements listed on the Financial Statements Table of Contents.

 

(2)  Not applicable.

 

(3)  The exhibits referred to below, which include the following managerial contracts or compensatory plans or arrangements:

£ China 3C Group 2011 Restricted Stock Plan

 

(b)           The exhibits listed on the Exhibit Index are filed as part of this Annual Report.

 

(c)           Not applicable.

 

 

41
 

 

 

EXHIBIT INDEX

 

Exhibit No   Document Description
3.1   Amended and Restated Articles of Incorporation of the Registrant (11)
3.2   By-laws of the Registrant (1 )
4.1   China 3C Group Amended 2005 Equity Incentive Plan. (2 )
4.2   China 3C Group 2011 Restricted Stock Plan (19)
10.1   Stock Purchase Agreement, dated as of October 17, 2005, by and among Sun Oil & Gas, Inc., EH&P Investments, John D. Swain, Fred Holcapek, PH Holding Group, Ma Cheng Ji, Zhou Wei, Zeng Xiu Lan, Gu Xiao Dong, Jacksonville Management Limited, Colin Wilson, Alliance Capital Management, Inc., Hanzhong Fang and China US Bridge Capital, Limited (3)
10.2   Consulting Services Agreement dated as of November 1, 2005 between Capital Development Limited and Zhejiang Yong Xing Digital Technology Company Limited (4 )
10.3   Operating Agreement dated as of November 1, 2005 between Capital Development Limited and Zhejiang Yong Xing Digital Technology Company Limited (4 )
10.4   Proxy and Voting Agreement dated as of November 1, 2005 between Capital Development Limited and Zhejiang Yong Xing Digital Technology Company Limited (4 )
10.5   Option Agreement dated as of November 1, 2005 between Capital Development Limited and Zhejiang Yong Xing Digital Technology Company Limited (4 )
10.6   Equity Pledge Agreement dated as of November 1, 2005 between Capital Development Limited and Zhejiang Yong Xing Digital Technology Company Limited (4 )
10.7   Subscription Agreement, dated as of December 20, 2005, between the Registrant and Huiqi Xu. (5 )
10.8   Consulting Agreement, dated as of December 20, 2005, among the Registrant, Wen-An Chen and Huoqing Yang. (5 )
10.9   Guarantee Contract between the Registrant and Shenzhen Shiji Ruicheng Guaranty and Investment Company Limited, dated as of December 21, 2005. (6 )
10.10   Agreement and Plan of Merger, dated as of December 21, 2005, among the Registrant, YX Acquisition Corporation, Capital Future Development Limited, Zhenggang Wang, Yimin Zhang, Weiyi Lv, Xiaochun Wang, Zhongsheng Bao, Simple (Hongkong) Investment & Management Company Limited, First Capital Limited, Shenzhen Dingyi Investment & Consulting Limited and China US Bridge Capital Limited. (6 )
10.11   Form of Promissory Note dated December 21, 2005. (6 )
10.12   Share Exchange Agreement, dated as of November 28, 2006, among China 3C Group, Capital Future Development Limited (“CFDL”), Shanghai Joy & Harmony Electronics Company Limited, and the shareholders of CFDL. (7 )
10.13   Form of Securities Purchase Agreement, dated July 13, 2007, by and among the Registrant and certain subscribers (8 )
10.14   Letter of Intent for Strategic Partnership, dated November 22, 2007, between the Registrant’s subsidiary Zhejiang Yongxin Technology Limited and Hangzhou Xituo Network Technology Company (9 )
10.15   Consignment Agreement, dated January 2, 2008, between the Registrant’s subsidiary Hangzhou Shan He Electric Company Limited and Hangzhou Lotour Digital Products Business Company Limited (10 )
16   Consignment Agreement, dated January 3, 2008, between the Registrant’s subsidiary Hangzhou Wang Da Electric Company Limited and Hangzhou Lotour Digital Products Business Company Limited (10 )
10.17   Acquisition Agreement dated December 19, 2008 by and among Zhejiang Yong Xing Digital Technology Company Limited, Yiwu Yong Xin Communication Limited Jinhua Baofa Logistic Limited and the shareholders of Jinhua Baofa Logistic Limited (12)
10.18   Amendment to Acquisition Agreement dated April 4, 2009 by and among Zhejiang Yong Xing Digital Technology Company Limited, Yiwu Yong Xin Communication Limited and the shareholders of Jinhua Baofa Logistic Limited (13)
10.19   Compensation Agreement, dated November 27, 2009, between China 3C Group and Joseph Levinson (14)

 

42
 

 

10.20   Board of Directors Agreement, dated December 8, 2006, among China 3C Group and Kenneth T. Berents (15)
10.21   China 3C Group 2008 Omnibus Securities and Incentive Plan (16)
10.22   Stock Option Agreement Director Non-Qualified Stock Option, dated December 1, 2008 and effective as of January 15, 2009, between China 3C Group and Kenneth Berents (16)
10.23   Stock Option Agreement Director Non-Qualified Stock Option, dated December 1, 2008 and effective as of January 15, 2009, between China 3C Group and Kenneth Berents (16)
10.24   Stock Option Agreement Director Non-Qualified Stock Option, dated December 1, 2008 and effective as of January 15, 2009, between China 3C Group and Kenneth Berents (16)
10.25   Stock Option Agreement with Todd L. Mavis, dated April 21, 2009, between China 3C Group and Todd L. Mavis (16)
10.26   Agreement dated May 3, 2007 between China 3C Group and Joseph Levinson (16)
10.27   Letter Agreement dated June 16, 2009 between China 3C Group and Jian Zhang (17)
10.28   Share-holding entrustment agreement dated November 21,2005 between Capital Future Developments Limited and Huiyi Lv
10.29   Share-holding entrustment agreement dated November 21,2005 between Capital Future Developments Limited and Xiaochun Wang
10.30   Share-holding entrustment agreement dated November 21,2005 between Capital Future Developments Limited and Yimin Zhang
10.31   Share-holding entrustment agreement dated November 21,2005 between Capital Future Developments Limited and Zhenggang Wang
10.32   Share-holding entrustment agreement dated November 21,2005 between Capital Future Developments Limited and Zhongsheng Bao
14.1   Code of Business Conduct and Ethics (11)
21.1   List of Subsidiaries (18)
31.1   Certification of Principal Executive Officer pursuant to Rule 13A-14(A)/15D-14(A) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, filed herewith.
31.2   Certification of the Principal Accounting and Financial Officer pursuant to Rule 13A-14(A)/15D-14(A) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, filed herewith.
32.1   Certification of Principal Executive Officer Pursuant to 18 U.S.C. 1350 (Section 906 of the Sarbanes-Oxley Act of 2002), filed herewith.
32.2   Certification of Principal Accounting and Financial Officer Pursuant to 18 U.S.C. 1350 (Section 906 of the Sarbanes-Oxley Act of 2002), filed herewith.

 

  (1) Incorporated by reference from the Registrant’s Current Report filed with the SEC on Form 8-K on January 3, 2007.

 

  (2) Incorporated by reference from the Registrant’s Registration Statement on Form S-8 (File No. 333-141173) dated March 9, 2007.

 

  (3) Incorporated by reference from the Registrant’s Current Report filed with the SEC on Form 8-K on October 21, 2005.

 

  (4) Incorporated by reference from the Registrant’s Current Report filed with the SEC on Form 8-K on September 11, 2007.

 

  (5) Incorporated by reference from the Registrant’s Current Report filed with the SEC on Form 8-K on December 20, 2005.

 

  (6) Incorporated by reference from the Registrant’s Current Report filed with the SEC on Form 8-K on December 22, 2005.

 

  (7) Incorporated by reference from the Registrant’s Current Report filed with the SEC on Form 8-K on December 11, 2006.

 

  (8) Incorporated by reference from the Registrant’s Current Report filed with the SEC on Form 8-K on July 17, 2007.

 

  (9) Incorporated by reference from the Registrant’s Current Report filed with the SEC on Form 8-K on November 28, 2007.

 

  (10) Incorporated by reference from the Registrant’s Current Report filed with the SEC on Form 8-K on January 17, 2008.

 

  (11) Incorporated by reference from the Registrant’s Annual Report filed with the SEC on Form 10-K on March 27, 2008.

 

  (12) Incorporated by reference from the Registrant’s Current Report filed with the SEC on Form 8-K on December 29, 2008.

 

  (13) Incorporated by reference from the Registrant’s Current Report filed with the SEC on Form 8-K on April 9, 2009.

 

43
 

 

(14)Incorporated by reference from the Registrant’s Annual Report filed with the SEC on Form 10-K on April 16, 2009.

 

(15)Incorporated by reference from the Registrant’s Current Report filed with the SEC on Form 8-K on December 14, 2006.

 

  (16) Incorporated by reference from the Registrant’s Registration Statement on Form S-8 (File No. 333-159200) dated May 13, 2009.

 

  (17) Incorporated by reference from the Registrant’s Current Report filed with the SEC on Form 8-K on June 22, 2009.

 

  (18) Incorporated by reference from the Registrant’s Annual Report filed with the SEC on Form 10-K on April 15, 2010.

 

  (19) Incorporated by reference from the Registrant’s Annual Report filed with the SEC on Form 10-K on May 18, 2011.

  

44
 

 

SIGNATURES

 

Pursuant to the requirements of Section 13 or 15(d) of the Securities and Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on this 16th day of April 2012.

 

  CHINA 3C GROUP
     
    /s/ Zhenggang Wang
    Zhenggang Wang
    Chief Executive Officer and Chairman
    (Principal Executive Officer)

 

Pursuant to the requirements of the Securities Exchange Act of 1934, this amended report has been signed below by the following persons on behalf of the Company and in the capacities indicated below and on the dates indicated.

 

Signatures   Title   Date
         
/s/ Zhenggang Wang       April 16th, 2012
Zhenggang Wang   Chief Executive Officer and    
    Chairman (Principal Executive    
    Officer)    
         
/s/ Xinchuan Kong        
Xinchuan Kong   President   April 16th, 2012
         
/s/ Weiping Wang        
Weiping Wang   Chief Financial Officer (Principal   April 16th, 2012
    Accounting and Financial Officer)    
         
/s/ Chenghua Zhu         
Chenghua Zhu   Director   April 16th, 2012
         
/s/ Mingjun Zhu         
Mingjun Zhu   Director   April 16th, 2012
         
/s/ Rongjin Weng         
Rongjin Weng   Director   April 16th, 2012
         
/s/ Wei Kang Gu         
Wei Kang Gu   Director   April 16th, 2012

 

45
 

 

CHINA 3C GROUP AND SUBSIDIARIES

 

CONSOLIDATED FINANCIAL STATEMENTS

 

DECEMBER 31, 2011

 

TABLE OF CONTENTS

 

Report of Independent Registered Public Accounting Firm F-1
   
Consolidated Balance Sheets F-2
   
Consolidated Statements of Operations and Comprehensive Loss F-3
   
Consolidated Statements of Stockholders’ Equity F-4
   
Consolidated Statements of Cash Flows F-5
   
Notes to Consolidated Financial Statements F-6

 

46
 

 

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

 

To the Board of Directors

China 3C Group

 

We have audited the accompanying consolidated balance sheets of China 3C Group and subsidiaries (the “Company”) as of December 31, 2011 and 2010, and the related consolidated statements of operations and comprehensive loss, stockholders’ equity and cash flows for the years ended December 31, 2011, 2010 and 2009. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

 

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the 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 our audits provide a reasonable basis for our opinion.

 

In our opinion, based on our audits, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of China 3C Group and subsidiaries as of December 31, 2011 and 2010, and the results of their operations and their cash flows for the years ended December 31, 2011, 2010 and 2009 in conformity with the United States generally accepted accounting principles.

 

The accompanying financial statements were prepared assuming the Company will continue as a going concern. As discussed in Note 2 to the financial statements, the Company has incurred significant losses from operations for the past three years. In addition, the Company’s cash position substantially deteriorated from 2010. These conditions raise substantial doubt about the Company’s ability to continue as a going concern. The financial statements do not include any adjustments that might result from the outcome of this uncertainty.

 

Goldman Kurland and Mohidin LLP

Encino, California 

April 10, 2012

 

F-1
 

 

CHINA 3C GROUP

CONSOLIDATED BALANCE SHEETS

(dollars in thousands)

 

   December 31,   December 31, 
   2011   2010 
         
ASSETS          
           
Current assets:          
Cash and equivalents  $5,778   $26,249 
Accounts receivable, net   9,967    11,026 
Inventories   3,358    7,284 
Advances to suppliers   1,666    2,201 
Tax receivable   -    1,200 
Prepaid expenses and other current assets   145    591 
Total current assets   20,914    48,551 
           
Property, plant and equipment, net   93    191 
Goodwill   -    11,229 
Intangible assets, net   -    13,153 
Refundable deposits   -    7 
Total assets  $21,007   $73,131 
           
LIABILITIES AND STOCKHOLDERS' EQUITY          
           
Current liabilities:          
Accounts payable  $2,572   $4,139 
Accrued expenses   3,667    4,536 
Income tax payable   1,409    736 
Total liabilities   7,648    9,411 
Commitments and contingencies          
           
Stockholders' equity          
Common stock, $0.001 par value, 100,000,000 shares authorized, 58,911,327 and 54,831,327 issued and outstanding as of December 31, 2011 and 2010, respectively   59    55 
Additional paid-in capital   21,674    20,252 
Subscription receivable   (50)   (50)
Statutory reserve   11,543    11,543 
Other comprehensive income   7,763    6,706 
(Accumulated deficit) retained earnings   (27,630)   25,214 
Total stockholders' equity   13,359    63,720 
Total liabilities and stockholders' equity  $21,007   $73,131 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

F-2
 

 

CHINA 3C GROUP

CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS

(dollars in thousands, except share amounts)

 

   2011   2010   2009 
             
Net sales  $61,021   $74,743   $108,691 
Cost of sales   59,300    67,285    95,250 
Gross profit   1,721    7,458    13,441 
Selling, general and administrative expenses   14,356    15,513    14,348 
Goodwill and intangible assets impairment   12,549    -    - 
Loss from continuing operations   (25,184)   (8,055)   (907)
Other (income) expense               
Interest income   (48)   (56)   (45)
Other income   (55)   (5)   (82)
Other expense   162    115    147 
Total other (income) expense   59    54    20 
                
Loss from continuing operations before income taxes   (25,243)   (8,109)   (927)
Provision for income taxes   206    52    373 
Net loss from continuing operations   (25,449)   (8,161)   (1,300)
                
Net income (loss) from discontinued operations, net of income taxes   (27,395)   (16,766)   87 
                
Net loss   (52,844)   (24,927)   (1,213)
                
Foreign currency translation adjustments   1,057    1,526    (92)
Comprehensive loss  $(51,787)  $(23,401)  $(1,305)
                
Basic and diluted loss per share:               
Continuing operations   (0.44)   (0.15)   (0.02)
Discontinued operations   (0.47)   (0.31)   - 
Net loss per share  $(0.91)  $(0.45)  $(0.02)
                
Weighted average shares outstanding:               
Basic and Diluted   58,098,286    54,831,327    53,867,890 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

F-3
 

 

CHINA 3C GROUP AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

YEARS ENDED DECEMBER 31, 2011, 2010 and 2009

(dollars in thousands)

 

                           Retained     
           Additional           Other   Earnings   Total 
   Common Stock   Paid-In   Subscription   Statutory   Comprehensive   (Accumulated   Stockholders' 
   Shares   Amount   Capital   Receivable   Reserve   Income   Deficit)   Equity 
Balance at January 1, 2009   52,674    53    19,466    (50)   11,109    5,272    51,788    87,638 
                                         
Foreign currency translation adjustments   -    -    -    -    -    (92)   -    (92)
Issuance of common stock for compensation   1,997    2    285    -    -    -    -    287 
Issuance of common stock for stock options   160    -    -    -    -    -    -    - 
Transfer to statutory reserve   -    -    -    -    426    -    (426)   - 
Net loss   -    -    -    -    -    -    (1,213)   (1,213)
                                         
Balance at December 31, 2009   54,831    55    19,751    (50)   11,535    5,180    50,149    86,620 
                                         
Foreign currency translation adjustments   -    -    -    -    -    1,526    -    1,526 
Issuance of common stock for compensation   -    -    501    -    -    -    -    501 
Transfer to statutory reserve   -    -    -    -    8    -    (8)   - 
Net loss   -    -    -    -    -    -    (24,927)   (24,927)
Balance at December 31, 2010   54,831   $55   $20,252   $(50)  $11,543   $6,706   $25,214   $63,720 
Foreign currency translation adjustments   -    -    -    -    -    1,057    -    1,057 
Issuance of common stock for compensation   4,080    4    1,422    -    -    -    -    1,426 
Net loss   -    -    -    -    -    -    (52,844)   (52,844)
Balance at December 31, 2011   58,911   $59   $21,674   $(50)  $11,543   $7,763   $(27,630)  $13,359 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

F-4
 

 

CHINA 3C GROUP

CONSOLIDATED STATEMENTS OF CASH FLOWS

(dollars in thousands)

 

   2011   2010   2009 
             
Operating activities:               
Net loss  $(52,844)  $(24,927)  $(1,213)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:               
Depreciation   146    11    614 
Amortization of intangible assets   1,380    1,405    698 
Goodwill impairment   11,229    9,591    - 
Intangible assets impairment   12,077    -    - 
Stock based compensation   601    501    287 
(Increase)/decrease in assets               
Accounts receivable   1,452    7,688    5,472 
Tax receivable   1,225    -    (1,157)
Other receivables   214    (138)   (64)
Inventories   4,134    (261)   2,199 
Prepaid expenses and other current assets   241    (142)   (142)
Advances to suppliers   608    251    119 
Refundable deposits   15    9    17 
(Increase) / decrease in current liabilities               
Accounts payable   (1,567)   1,135    975 
Accrued expenses   (1,298)   410    507 
Income tax payable   635    (231)   (1,200)
Net cash provided by (used in) operating activities   (21,752)   (4,698)   7,112 
                
CASH FLOW FROM INVESTING ACTIVITIES:               
Purchase of property and equipment   (11)   -    (806)
Proceeds from asset sales   -    (22)   - 
Payments for acquisition of subsidiary   -    -    (7,784)
Net cash (used in) investing activities   (11)   (22)   (8,590)
                
Effect of exchange rate changes on cash and equivalents   1,292    1,061    (772)
Net decrease in cash and equivalents   (20,471)   (3,659)   (2,250)
Cash and equivalents, beginning of year   26,249    29,908    32,158 
Cash and equivalents, end of year  $5,778   $26,249   $29,908 
                
Supplemental disclosure of cash flow information:               
Income taxes paid  $158   $254   $3,073 
Interest paid  $-   $-   $- 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

F-5
 

  

CHINA 3C GROUP AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011 AND 2010

 

Note 1 - ORGANIZATION

 

China 3C Group (the “Company” or “China 3C”) was incorporated on August 20, 1998 under the laws of the State of Nevada. Capital Future Developments Limited - BVI (“CFDL”) was incorporated on July 22, 2004 under the laws of the British Virgin Islands (“BVI”). Zhejiang Yong Xin Digital Technology Company Limited (“Zhejiang”), Yiwu Yong Xin Communication Limited (“Yiwu”), Hangzhou Wang Da Electronics Company Limited (“Wang Da”), Hangzhou Sanhe Electronic Technology Limited (“Sanhe”), Shanghai Joy & Harmony Electronics Company Limited (“Joy & Harmony”), and Jinhua Baofa Logistic Ltd (“Jinhua”) were incorporated under the laws of Peoples Republic of China (“PRC”) on July 11, 2005, July 18, 1997, March, 30, 1998, April 12, 2004, August 20, 2003 and December 27, 2001, respectively. All dollar amounts are in thousands, unless otherwise indicated.

 

On December 21, 2005, CFDL became a wholly owned subsidiary of China 3C through a reverse merger (“Merger Transaction”). China 3C acquired all of the issued and outstanding capital stock of CFDL pursuant to a Merger Agreement dated December 21, 2005 by and among China 3C, XY Acquisition Corporation, CFDL and the shareholders of CFDL (the “Merger Agreement”). Pursuant to the Merger Agreement, CFDL became a wholly owned subsidiary of China 3C and, in exchange for the CFDL shares, China 3C issued 35,000,000 shares of its common stock to the shareholders of CFDL, representing 93% of the issued and outstanding capital stock of China 3C at that time and cash of $500.

 

On August 3, 2006, CFDL completed the acquisition of a 100% interest in Sanhe for a cash and stock transaction valued at $8,750. The consideration consisted of 915,751 newly issued shares of the Company’s common stock and $5,000 in cash.

 

On November 28, 2006, CFDL completed the acquisition of a 100% interest in Joy & Harmony for a cash and stock transaction valued at $18,500. The consideration consisted of 2,723,110 shares of the Company’s common stock and $7,500 in cash.

 

On August 15, 2007, we executed a series of contractual agreements between CFDL and Zhejiang. The contractual agreements give CFDL and its equity owners an obligation, and having ability to absorb, any losses, and rights to receive returns; however, these contractual agreements did not change the equity ownership of Zhejiang. We did not dispose CFDL’s actual equity ownership of Zhejiang when we execute the contractual agreements. CFDL entered into share-holding entrustment agreements with five individuals - Zhenggang Wang, Yimin Zhang, Huiyi Lv, Xiaochun Wang and Zhongsheng Bao to hold 35%, 20%, 20%, 15% and 10%, respectively, of the equity interest of Zhejiang on behalf of CFDL on November 21, 2005. The entrustment agreements confirm that CFDL is the actual owner of Zhejiang. CFDL enjoys the actual shareholder’s rights and has the right to obtain any benefits received by the nominal holders. Zhenggang Wang is the CEO and shareholder of China 3C. Yimin Zhang, Huiyi Lv, Xiaochun Wang and Zhongsheng Bao have no other relationship with China 3C. No consideration was given to these individuals who held the equity of Zhejiang on behalf of CFDL.

 

On July 6, 2009, China 3C and its subsidiary Zhejiang and Yiwu purchased 100% of Jinhua for RMB 120 million ($17,500) in cash.  Zhejiang acquired 90% and Yiwu acquired 10% of the equity interests in Jinhua.

 

The purchase price and related allocation to the estimated fair values of the assets acquired and liabilities assumed in accordance with ASC 805 “Business Combinations” is as follows:

 

Cash paid for acquisition of Jinhua  $17,508 
      
Assets acquired :     
Cash  $2,406 
Accounts receivable, net   715 
Other receivables, net   60 
Prepaid expenses   133 
Property, plant and equipment   216 
Intangible asset - transportation network   15,182 
Goodwill   472 
Assets acquired   19,184 
      
Liabilities assumed:     
Accounts payable   315 
Accrued expenses and other payables   547 
Due to shareholders   814 
Liabilities assumed   1,676 
      
Net assets acquired  $17,508 

 

F-6
 

 

Following the acquisition of Jinhua, the Company began providing logistic service to businesses in addition to its traditional business of resale and distribution of third party products such as mobile phones, facsimile machines, DVD players, stereos, speakers, MP3 and MP4 players, iPods, electronic dictionaries, CD players, radios and audio systems. 

 

Our corporate structure as of December 31, 2011 is as follows:

 

 

* These entities ceased operation as of December 31, 2011.

 

F-7
 

 

Note 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Basis of Presentation

 

The accompanying consolidated financial statements were prepared in conformity with accounting principles generally accepted in the United States of America (“US GAAP”).  The Company’s subsidiaries – Wang Da, Yiwu, Joy & Harmony, Sanhe, Jinhua and Zhejiang’s functional currency is the Chinese Renminbi (“RMB”), however, the accompanying consolidated financial statements were translated and presented in United States Dollars (“$”, or “USD”). China 3C is the parent company that was incorporated on August 20, 1998 under the laws of the State of Nevada. The parent company does not have operations; therefore, it does not have sales. The main activities of China 3C were incurring public company expenses. China 3C pays all of its expenses in USD. Therefore, we believe China 3C’s functional currency is USD. CFDL was incorporated on July 22, 2004 under the laws of the BVI. CFDL is a holding company and it does not have operations. As a result, we determined that China 3C, and CFDL’s functional currency is USD.

 

Going Concern

 

The accompanying consolidated financial statements have been prepared on a going concern basis which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. The Company realized net loss of $52,844, $24,927 and $1,213 for 2011, 2010 and 1009, respectively. The Company had accumulated deficit of $27,630 as of December 31, 2011. In addition, the Company’s cash position substantially deteriorated from 2010. There can be no assurance that the Company will become profitable or that it will survive as a public company. These issues raise substantial doubt regarding the Company’s ability to continue as a going concern.

 

Principles of Consolidation

 

The consolidated financial statements include the accounts of China 3C and its wholly owned subsidiaries CFDL, Wang Da, Yiwu, Joy & Harmony, Sanhe and Jinhua and variable interest entity Zhejiang, collectively referred to as the Company. All material intercompany accounts, transactions and profits were eliminated in consolidation.

 

Currency Translation

 

The accounts of Zhejiang, Wang Da, Yiwu, Sanhe, Joy & Harmony and Jinhua were maintained, and its financial statements were expressed RMB. Such financial statements were translated into USD in accordance with FASB ASC Topic 830-10, “Foreign Currency Translation,” with the RMB as the functional currency. According to FASB ASC Topic 830-10, assets and liabilities were translated at the ending exchange rate, stockholders’ equity is translated at the historical rates and income statement items are translated at the average exchange rate for the year. The resulting translation adjustments are reported as other comprehensive income in accordance with FASB ASC Topic 220, “Reporting Comprehensive Income,” as a component of shareholders’ equity. Transaction gains and losses are reflected in the consolidated statements of operations and comprehensive loss.

 

Use of Estimates

 

The preparation of financial statements in conformity with US 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 the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

 

Risks and Uncertainties

 

The Company is subject to risks from, among other things, intense competition associated with the industry in general, other risks associated with financing, liquidity requirements, rapidly changing customer requirements, limited operating history, foreign currency exchange rates and the volatility of public markets.

 

Contingencies

 

Certain conditions may exist as of the date the financial statements are issued, which could result in a loss to the Company but which will only be resolved when one or more future events occur or fail to occur. The Company’s management assesses such contingent liabilities, and such assessment inherently involves an exercise of judgment. In assessing loss contingencies related to legal proceedings that are pending against the Company or unasserted claims that may result in such proceedings, the Company’s management evaluates the perceived merits of any legal proceedings or unasserted claims as well as the perceived merits of the amount of relief sought or expected to be sought.

 

F-8
 

 

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

 

Loss contingencies considered to be remote by management are generally not disclosed unless they involve guarantees, in which case the guarantee would be disclosed.

 

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. Terms of the sales vary. Reserves are recorded primarily on a specific identification basis. Allowances for doubtful debts were as follows:

 

       Additions         
Year  Balance at 
January 1,
   (1)
Charged
to
expenses
   (2) Charged to
other
comprehensive
loss
   Deductions   Balance at 
December
31,
 
2011  $441   $310   $-   $-   $751 
2010  $404   $37   $-   $-   $441 

 

Inventories

 

Inventories are valued at the lower of cost (determined on a weighted average basis) or market.  Management compares the cost of inventories with the market value and allowance is made for writing down their inventories to market value, if lower. As of December 31, 2011 and 2010, inventory consisted entirely of finished goods valued at $3,358 and $7,284, respectively.

 

Property and Equipment

 

Property and equipment are stated at cost. Expenditures for maintenance and repairs are charged to earnings 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 of:

 

Automotive 5 years
Office Equipment 5 years

 

As of December 31, 2011 and 2010, property and equipment consisted of the following:

 

   2011   2010 
Automotive  $650   $738 
Office equipment   206    198 
Leasehold improvements   -    65 
Sub Total   856    1,001 
Less: accumulated depreciation   (763)   (810)
Total  $93   $191 

 

Long-Lived Assets

 

The Company periodically evaluates the carrying value of long-lived assets to be held and used in accordance with ASC 360, “Property, Plant and Equipment”, 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 market value of the long-lived assets. Losses on long-lived assets to be disposed of are determined in a similar manner, except that fair market values are reduced for the cost of disposal. Based on its review, the Company believes that, as of December 31, 2011 and 2010, there were no significant impairments of its long-lived assets.

 

F-9
 

 

Fair Value of Financial Instruments

 

ASC 825, “Financial Instruments”, requires that the Company disclose estimated fair values of financial instruments. The carrying amounts reported in the statements of financial position for current assets and current liabilities qualifying as financial instruments are a reasonable estimate of fair value.

 

Impairment of Goodwill and Intangible Assets

 

In accordance with ASC 350,”Goodwill and Intangible Assets”, we test goodwill at the reporting unit level for impairment on an annual basis. Reporting units are determined based on the Company's operating segments. In performing the impairment test, we utilize the two-step approach prescribed under ASC 350. Step 1 requires a comparison of the carrying value of each reporting unit to its estimated fair value. We use the income approach for Step 1 to estimate the fair value of our reporting units. The Step 1 impairment analysis indicated that the carrying value of the net assets of Sanhe, Joy & Harmony and Jinhua exceeded the estimated fair value of the reporting unit.

 

As a result, we were required to perform Step 2 of the goodwill impairment test to determine the amount, if any, of goodwill impairment charges for Sanhe, Joy & Harmony and Jinhua. Step 2 of the goodwill impairment test compares the implied fair value of a reporting unit’s goodwill to its carrying value. If the carrying value of the goodwill of a reporting unit exceeds the fair value of that goodwill, an impairment loss is recognized in an amount equal to the excess. We completed Step 2 and determined that goodwill had no value, hence impairment of $4,507, $6,250 and $472 were required at December 31, 2011, for Sanhe, Joy & Harmony and Jinhua, respectively. Goodwill impairment is reflected in operating expenses in our consolidated statements of operations and comprehensive loss.  Impairment charges related to goodwill have no impact on our cash balance.

 

We further performed Step 2 of the annual intangible assets impairment test for Jinhua, comparing the fair value of the indefinite-lived intangible assets with the carrying value. Since the carrying value is greater than the fair value, an impairment loss was recognized in an amount equal to the excess. Upon completion of the Step 2 test, we determined that the intangible asset should be written off completely. An impairment of $12,077 was recognized in operating expenses in our consolidated statements of operations and comprehensive loss.  Impairment charges related to the intangible assets have no impact on our cash balance.

 

The estimate of fair value of our reporting units requires significant judgment. We based our fair value estimates on assumptions that we believe to be reasonable but that are unpredictable and inherently uncertain, including estimates of future growth rates, estimate of future discounted cash flows and operating margins and assumptions about the overall economic climate and the competitive environment for our business units. There can be no assurance that our estimates and assumptions made for purposes of our goodwill testing as of the time of testing will prove to be accurate predictions of the future.

 

Revenue Recognition

 

In accordance with Securities and Exchange Commission (“SEC”) Staff Accounting Bulletin (“SAB”) 104 (codified in FASB ASC Topic 605), the Company recognizes revenues when there is persuasive evidence of an arrangement, product delivery and acceptance have occurred, the sales price is fixed and determinable, and collectability of the resulting receivable is reasonably assured.

 

The Company records revenues when title and the risk of loss pass to the customer.  Generally, these conditions occur on the date the customer takes delivery of the product.  Revenue is generated from sales of China 3C products through two main revenue streams:

 

  1. Retail. 62.3% , 67.3% and 69.3% of the Company's revenue comes from sales to customers at outlets installed inside department stores etc. (i.e. store in store model) during 2011, 2010 and 2009, respectively and is mainly achieved through two broad categories:

 

  a. Purchase contracts. Sales by purchase contracts have terms of 30 days from the transfer of goods to the customer. Under this method, the Company delivers goods to places designated by the customers and receives confirmation of delivery. At that time, ownership and all risks associated to the goods are transferred to the customers and payment is made within 30 days. The Company relieves its inventory and recognizes revenue upon receipt of confirmation from the customer.

 

F-10
 

 

  b. Point of sale transfer of ownership. Under this method, the Company’s products are placed in third party stores and sold by the Company’s sales people. Upon purchase of the item by the customer, the Company relieves its inventory and recognizes revenue related to that item.

 

  2. Wholesale. 37.7%, 32.7% and 30.7% of the Company's revenue comes from wholesale during 2011, 2010 and 2009, respectively. Recognition of income in wholesales is based on the contract terms. In 2009, the main contract terms on wholesale agreed that payments be paid 15 days after receipt of goods and that ownership and all risks associated with the goods are transferred to the customers on the date of goods received and payments will be made 15 days therefrom.

 

Sales revenue is therefore recognized on the following basis:

 

  1. Store in store model:

 

  a. For goods sold under sales and purchase contracts, revenue is recognized when goods are received by customers.

 

  b.

For goods at customer outlets which the Company’s sales people operate, and inventory of goods is under joint control by the customers and the Company, revenue is recognized at the point of sale to the end buyer. China 3C has title and owns the inventory under joint control. Such joint controlled inventory has been properly included in reported inventory balance of China 3C’s financial statements.

 

During public holidays or department store celebration periods, we provide certain sales incentives to retail customers to increase sales, such as gift giving and price reductions. These are the only temporary incentives during the specified periods. Sales made to our retail customers as a result of incentives are immaterial as a percentage of total sales revenue.

 

  2. Wholesale:

 

  a. Revenue is recognized at the date of goods are received by wholesale customers. We operate our wholesale business by selling large volume orders to second-tier distributors and large department stores. Revenues from wholesale are recognized as net sales after confirmation with distributors. Net sales already take into account revenue dilution as they exclude inventory credit, discount for early payment, product obsolescence and return of products and other allowances. Net sales also take into account the return of products in accordance with relevant laws and regulations in China.

 

Return policies

 

Our return policy complies with China’s laws and regulations on consumer’s rights and product quality. In accordance with Chinese law, consumers can return or exchange used products within seven days only if the goods do not meet safety and health requirements, endanger a person’s property, or do not meet the advertised performance. If the conditions and requirements as set out in the relevant laws and regulations are met, the retail stores are entitled to accept a return of the goods from the consumer. In such cases, the Company shall accept the returns unconditionally. Goods returned will be redirected to the production factory or supplier who shall bear all losses on the returns in accordance the laws and regulations. Consumer returns or exchanges of products that have not been used, where the packaging has not been damaged, are honored if such return or exchange is within seven days. If a consumer returns a product, the Company must refund the invoice price to the consumer. The Company will then be responsible for returning the goods to the production factory or supplier. At that time the Company can recover the price based on the purchase and sale contract with the producer or supplier. However, when goods are returned, the Company loses the profit margin that it records when revenue is recognized, regardless of whether the production factory or supplier takes the product back or not.

 

The return rights granted to wholesale customers are similar to the rights granted to retail customers. Once wholesale customers purchase the products, they follow the same return policy as retail customers. We do not honor any return from wholesale customers other than if the products don’t meet laws and regulations or quality requirements. If the wholesale customers have a high inventory level or product obsolescence caused by lower market demands or other operational issues, the wholesale customers bear their own losses. When a wholesale customer returns products, the Company will return the products to the suppliers or manufacturers. A sales return and allowance is recorded at the sales price. Meanwhile, a purchase return and allowance entry is recorded at the invoice price because the suppliers or manufacturers bear the losses. The net effect is that the Company derecognizes the gross profit when a return takes place, but does not record any loss on the cost of the returned item back to the supplier or manufacturer.  

 

F-11
 

 

In light of the aforesaid PRC laws and regulations and the Company's arrangements with suppliers, we do not provide an accrual for any estimated losses on subsequent sale of the return of products.  As a result we do not engage in assessing levels of inventory in the distribution channel, product obsolescence and/or introductions of new products, as none of those factors have any impact on us with respect to estimating losses on subsequent sale of returned goods.  Goods return policy strictly complies with the laws and regulations in China on consumer rights and product quality requirements. If the conditions and requirements as set out in the relevant laws and regulations are met, customers are able to return the goods unconditionally. In such cases, the Company shall accept the returns unconditionally. Goods returned will be redirected back to the manufacturers or suppliers who shall meet all losses on returns in accordance the laws and regulations. The Company will only be responsible for assisting the process of execution of goods return. The Company shall not bear any loss from goods returned. As a result, we do not provide any accrual on subsequent return of goods sold.

 

Unlike the US retail market, sellers do not accept returns caused by any change in the sales market or change in customers’ preferences in China. Therefore, the Company generally does not honor any return except for a product defect. As such, situations relating to return of goods from overstock in distribution channels, product obsolescence and over-budgeted goods from launching of new products will not exist.

 

The reported sales do not include estimate of returns due to defects for the period presented because we do not offer customers the right to return in China. We do not allow the customers to return the products for cash refunds, credit, or exchange for other products through general rights of return. If the products are defective, manufacturers are directly responsible for the defects. China 3C Group, as a distributor, only assists customers in returning the defective products to manufacturers. The manufacturers send replacement products to customers directly.

 

Cost of Sales

 

Cost of sales (“COS”) consists of actual product cost, which is the purchase price of the product less any discounts.  COS excludes freight charges, purchase and delivery costs, internal transfer, freight charges and the other costs of the Company’s distribution network, which are identified in general and administrative expenses.

 

General and Administrative Expenses

 

General and administrative expenses are comprised principally of payroll and benefits costs for retail and corporate employees, occupancy costs of corporate facilities, lease expenses, management fees, traveling expenses and other operating and administrative expenses, including freight charges, purchase and delivery costs, internal transfer freight charges and other distribution costs.

 

Shipping and handling fees

 

The Company follows ASC 605-45, “Handling Costs, Shipping Costs”.  The Company does not charge its customers for shipping and handling. The Company classifies shipping and handling fees as part of General and administrative expenses which were $74, $87 and $57 for 2011, 2010 and 2009, respectively.

 

Vendor Discounts

 

The Company has negotiated preferred pricing arrangements with certain vendors on certain products. These arrangements are not contingent on any levels of volume and are considered vendor discounts as opposed to rebates. The Company records these discounts along with the purchase of the discounted items, resulting in lower inventory cost and a corresponding lower COS as the products are sold.

 

Management fees paid to the department stores under “store in store” model

 

Under the “store in store” business operation model, the Company may pay management fees to the department stores, which are in the form of service charges. The management fees are reflected in general and administrative expenses. Such management fees were $3,523, $4,220 and $4,618 in general and administrative expenses for 2011, 2010 and 2009, respectively.

 

Share Based Payment

 

The Company follows ASC 718-10, “Stock Compensation”, which addresses the accounting for transactions in which an entity exchanges its equity instruments for goods or services, with a primary focus on transactions in which an entity obtains employee services in share-based payment transactions. ASC 718-10 is a revision to SFAS No. 123, “Accounting for Stock-Based Compensation,” ASC 718-10 requires measurement of the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of the award (with limited exceptions). Incremental compensation costs arising from subsequent modifications of awards after the grant date must be recognized.

 

F-12
 

 

Advertising

 

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. Advertising expense was $197, $189 and $136 for 2011, 2010 and 2009, respectively.

 

Other Income

 

Other income was $55, $5 and $82 for the years ended December 31, 2011, 2010 and 2009. Other income consists of the following: 

 

   2011   2010   2009 
             
Advertising service income   -    -    52 
Commission income from China Unicom   -    -    30 
Gain on disposal of PPE   -    5    - 
Miscellaneous   55    -    - 
Total other income  $55   $5   $82 

 

Advertising service income is the service fee we received from electronic product manufacturers when we advertise their products in our retail locations. Commission income from China Unicom is related to the sales of China Unicom’s wireless service and products, i.e. rechargeable mobile phone cards.

 

Income Taxes

 

The Company utilizes ASC 740, “Income Taxes”. Deferred income taxes are recognized for the tax consequences in future years of differences between the tax bases of assets and liabilities and their financial reporting amounts at each period end based on enacted tax laws and statutory tax rates applicable to the periods in which the differences are expected to affect taxable income. Valuation allowances are established, when necessary, to reduce deferred tax assets to the amount expected to be realized.

 

Basic and Diluted Earnings per Share

 

Earnings (loss) per share are calculated in accordance with ASC 260, “Earnings per Share”. Basic earnings (loss) per share is based upon the weighted average number of common shares outstanding. Diluted earnings (losses) per share is based on the assumption that all dilutive convertible shares and stock options were converted or exercised. Dilution is computed by applying the treasury stock method. Under this method, options and 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. If convertible shares and stock options are anti-dilutive, the impact of conversion is not included in the diluted net income per share. Excluded from the calculation of diluted earnings per share for 2011 and 2010 were 50,000 and 50,000 options, respectively, as they were not dilutive.

 

Statement of Cash Flows

 

In accordance with FASB ASC Topic 230, “Statement of Cash Flows”, cash flows from the Company’s operations are calculated based upon the functional currency, in our case the RMB. As a result, amounts related to changes in assets and liabilities reported on the statement of cash flows will not necessarily agree with the changes in the corresponding balances on the balance sheet.

 

Concentration of Credit Risk

 

Financial instruments that potentially subject the Company to concentrations of credit risk are cash, accounts receivable, advances to suppliers and other receivables arising from its normal business activities. The Company places its cash in what it believes to be credit-worthy financial institutions. The Company has a diversified customer base, most of which is in China. The Company controls credit risk related to accounts receivable through credit approvals, credit limits and monitoring procedures. The Company routinely assesses the financial strength of its customers and, based upon factors surrounding the credit risk, establishes an allowance, if required, for uncollectible accounts and, as a consequence, believes that its accounts receivable credit risk exposure beyond such allowance is limited.

 

F-13
 

 

Segment Reporting

 

FASB ASC Topic 280, “Segment Reporting”, requires use of the “management approach” model for segment reporting. The management approach model is based on the way a company’s management organizes segments within the company for making operating decisions and assessing performance. Reportable segments are based on products and services, geography, legal structure, management structure, or any other manner in which management disaggregates a company. The Company operated in four segments before the acquisition of Jinhua in July 2009. Since the acquisition of Jinhua, the Company operates in five segments (see Note 14).

 

Recent Accounting Pronouncements

 

FASB ASC Topic 825, “Financial Instruments”, requires that the fair value disclosures required for all financial instruments within the scope of FASB ASC Topic 825-10, “Disclosures about Fair Value of Financial Instruments”, be included in interim financial statements. This FSP also requires entities to disclose the method and significant assumptions used to estimate the fair value of financial instruments on an interim and annual basis and to highlight any changes from prior periods. FASB ASC Topic 825 was effective for interim periods ending after June 15, 2009. The adoption of FASB ASC Topic 825 had no material effect on the Company’s consolidated financial statements.

 

FASB ASC Topic 860, “Transfers and servicing”, requires more information about transfers of financial assets and where companies have continuing exposure to the risks related to transferred financial assets. FASB ASC Topic 860 is effective at the start of a company’s first fiscal year beginning after November 15, 2009, or January 1, 2010 for companies reporting earnings on a calendar-year basis. The adoption of this statement had no material effect on the Company’s financial statements.

 

Revisions under FASB ASC Topic 810, “Consolidation”, revises how a company determines when an entity that is insufficiently capitalized or is not controlled through voting (or similar rights) should be consolidated. Under FASB ASC Topic 810, determining whether a company is required to consolidate an entity will be based on, among other things, an entity’s purpose and design and a company’s ability to direct the activities of the entity that most significantly impact the entity’s economic performance. FASB ASC Topic 810 is effective at the start of a company’s first fiscal year beginning after November 15, 2009, or January 1, 2010 for companies reporting earnings on a calendar-year basis. The adoption of FASB ASC Topic 810 had no impact on our financial statements.

 

In June 2009, the FASB issued Accounting Standards Update “ASU” 2009-1. The FASB approved its Codification ASC as the single source of authoritative United States accounting and reporting standards applicable for all non-governmental entities, with the exception of the SEC and its staff. The Codification is effective for interim or annual financial periods ending after September 15, 2009 and impacts our financial statements as all future references to authoritative accounting literature will be referenced in accordance with the Codification. There were no changes to the content of our financial statements or disclosures as a result of implementing the Codification.

 

 In April 2010, FASB issued ASU 2010-13, Compensation – Stock Compensation (Topic 718): Effect of Denominating the Exercise Price of a Share-Based Payment Award in the Currency of the Market in Which the Underlying Equity Security Trades. ASU 2010-13 provides guidance on the classification of a share-based payment award as either equity or a liability. A share-based payment that contains a condition that is not a market, performance, or service condition is required to be classified as a liability. ASU 2010-13 is effective for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2010. The adoption of this statement did not have a significant impact on the Company’s financial statements.

 

In April 2010, the FASB issued ASU 2010-17, “Revenue Recognition—Milestone Method (Topic 605): Milestone Method of Revenue Recognition”. This Update provides guidance on the recognition of revenue under the milestone method, which allows a vendor to adopt an accounting policy to recognize all of the arrangement consideration that is contingent on the achievement of a substantive milestone (milestone consideration) in the period the milestone is achieved. The pronouncement is effective on a prospective basis for milestones achieved in fiscal years and interim periods within those years, beginning on or after June 15, 2010. The adoption of this ASU did not have a material impact on the Company’s consolidated financial statements.

 

In July 2010, the FASB issued ASU 2010-20, “Receivables (Topic 310): Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses”. The amendments in this Update are to provide financial statement users with greater transparency about an entity’s allowance for credit losses and the credit quality of its financing receivables. The disclosures about activity that occurs during the reporting period are effective for interim and annual reporting periods beginning on or after December 15, 2010.  The adoption of this statement did not have a significant impact on the Company’s financial statements.

 

F-14
 

 

In December 2010, the FASB issued ASU 2010-29, “Business Combinations” (Topic 805): Disclosure of Supplementary Pro Forma Information for Business Combinations”. This ASU specifies that when financial statements are presented, the revenue and earnings of the combined entity should be disclosed as though the business combination that occurred during the current year had occurred as of the beginning of the comparable prior annual reporting period only. ASU 2010-29 is effective for business combinations with acquisition dates on or after January 1, 2011. The adoption of this statement had no impact on the Company’s consolidated financial statements.

 

In June 2011, FASB issued ASU 2011-05, Comprehensive Income (ASC Topic 220):  Presentation of Comprehensive Income.  Under the amendments in this update, an entity has the option to present the total of comprehensive income, the components of net income and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. Under both options, an entity is required to present each component of net income along with total net income, each component of other comprehensive income along with a total for other comprehensive income and a total amount for comprehensive income. In a single continuous statement, the entity is required to present the components of net income and total net income, the components of other comprehensive income and a total for other comprehensive income, along with the total of comprehensive income in that statement. In the two-statement approach, an entity is required to present components of net income and total net income in the statement of net income. The statement of other comprehensive income should immediately follow the statement of net income and include the components of other comprehensive income and a total for other comprehensive income, along with a total for comprehensive income. In addition, the entity is required to present on the face of the financial statements reclassification adjustments for items that are reclassified from other comprehensive income to net income in the statement(s) where the components of net income and the components of other comprehensive income are presented.  The amendments in this update should be applied retrospectively and are effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. The Company is currently assessing the impact of adopting this statement on our financial statements.

 

Note 3 – ADVANCES TO SUPPLIERS

 

Advances to suppliers represent advance payments to suppliers for the purchase of inventory. 

 

Note 4 - COMMON STOCK

 

On January 15, 2009, the Company’s Board of Directors (“BOD”) adopted the China 3C Group, Inc. 2008 Omnibus Securities and Incentive Plan (the “2008 Plan”).  The 2008 Plan provides for the granting of distribution equivalent rights, incentive stock options, non-qualified stock options, performance share awards, performance unit awards, restricted stock awards, stock appreciation rights, tandem stock appreciation rights, unrestricted stock awards or any combination of the foregoing, as may be best suited to the circumstances of the particular employee, director or consultant.  Under the 2008 Plan 2,000,000 shares of the Company’s common stock are available for issuance for awards.  Each award shall remain exercisable for a term of ten (10) years from the date of its grant. The price at which a share of common stock may be purchased upon exercise of an option shall not be less than the closing sales price of the common stock on the date such option is granted.  The 2008 Plan shall continue in effect, unless sooner terminated, until the tenth anniversary of the date on which it is adopted by the BOD.

 

In April and October 2009, the Company issued 1,997,272 shares of common stock under the 2008 Plan. The cost is recognized over a three year period. $501 and $501was recognized as stock based compensation expense during 2011 and 2010. There was $52 unrecognized compensation expenses related to the nonvested shares as of December 31, 2011.

 

On January 17, 2011, China 3C entered into a Registered Trademark Transfer Agreement to purchase the registered trademark, “Lotour.”  The trademark expires July 6, 2020.  The consideration for the trademark was RMB 2,280,000 ($346), which was paid in the form of 1.08 million shares of the Company’s common stock, valued at $0.32 per share.   

 

On January 20, 2011, Zhejiang entered into a Design and Development Engagement Agreement to design and develop an electronic book product under the brand name “Lotour.” The total consideration for the design and development of the electronic book product is RMB 3,160,000 ($480), which was paid in the form of 1.6 million shares of the Company’s common stock, valued at $0.30 per share. The term of the Development Agreement was from January 20, 2011 to July 19, 2011, at which date, the design and development agreement was completed and the “Lotour” electronic book started trial production.

 

On March 7, 2011, the Company issued 1,000,000 shares to 23 managing members of China 3C and its subsidiaries, pursuant to the 2011 Restricted Stock Plan.

 

On September 14, 2011, the Company issued 400,000 shares, under the 2011 plan, to our CFO and former CFO as stock compensations, pursuant to the 2011 Restricted Stock Plan.

 

F-15
 

 

Note 5 - STOCK WARRANTS, OPTIONS, AND COMPENSATION

 

Stock options - Options issued have a ten-year life and were fully vested upon issuance. The option holder has no voting or dividend rights. The grant price was the market price at the date of grant. The Company records the expense of the stock options over the related vesting period. The options were valued using the Black-Scholes option-pricing model at the date of grant stock option pricing.

 

The following summarizes the option activities for the years ended 2011, 2010 and 2009:

 

   Options   Weighted-Average
Exercise
Price
   Weighted-
Average
Remaining
Contractual
Life
(Years)
   Aggregate
Intrinsic
Value
 
Outstanding at January 1, 2009   400,000   $5.61    8.13   $- 
Granted   -    -    -    - 
Exercised   -    -    -    - 
Forfeited   (300,000)   6.15    6    - 
Outstanding at December 31, 2009   100,000   $5.61    7.13   $- 
                     
Granted   -    -    -    - 
Exercised   -    -    -    - 
Forfeited   (50,000)   -    -    - 
Outstanding at December 31, 2010   50,000   $4.16    7.13   $- 
Granted   -    -    -    - 
Exercised   -    -    -    - 
Forfeited   -    -    -    - 
Outstanding at December 31, 2011   50,000   $4.16    7.13   $- 

 

Outstanding options by exercise price consisted of the following as of December 31, 2010:

 

Options Outstanding   Options Exercisable 
Exercise Price   Number of
Shares
   Weighted
Average
Remaining
Life (Years)
   Weighted
Average
Exercise Price
   Number
of Shares
   Weighted
Average
Exercise
Price
 
$4.16    50,000    6.0   $4.16    50,000   $4.16 

 

During 2010 and 2011, the Company did not issue any stock options. The 50,000 stock options outstanding as of December 31, 2011 were issued in 2007 to our former director Mr. Kenneth Berents, have a 10 year term and vested immediately upon issuance.

 

The company estimates the fair value of stock options at grant date using the Black-Scholes valuation model, consistent with the provisions of ASC 718-10 “Stock Compensation”. Key inputs and assumptions used to estimate the fair value of stock options include the grant price of the award, the expected option term, volatility of the company’s stock, the risk-free rate and the company’s dividend yield.

 

The following table presents the weighted-average assumptions used in the valuation at the grant date and the resulting weighted average fair value per option granted:

 

Term    10 years 
Expected volatility   130%
      
Risk – free interest rate   2%
Dividend yield   0%

 

F-16
 

 

Note 6 - COMPENSATED ABSENCES

 

Regulation 45 of the labor laws in the PRC entitles employees to annual vacation leave after 1 year of service. In general all leave must be utilized annually, with proper notification, any unutilized leave is cancelled.

 

Note 7 - INCOME TAXES

 

The Company’s policy is to recognize interest and penalties accrued on any unrecognized tax benefits as a component of income tax expense. The Company did not have any accrued interest or penalties associated with any unrecognized tax benefits, nor were any interest expense recognized during 2011, 2010 and 2009.

 

Under ASC 740-10-25, evaluation of a tax position is a two-step process. The first step is to determine whether it is more-likely-than-not that a tax position will be sustained upon examination, including the resolution of any related appeals or litigation based on the technical merits of that position. The second step is to measure a tax position that meets the more-likely-than-not threshold to determine the amount of benefit to be recognized in the financial statements.

 

The US entity, China 3C is subject to the US federal income tax at a rate of 34%. The US entity does not conduct any operations and only incurs public company expenses, such as legal fees, accounting fees, investor relations expenses and filing fees. In the process of applying step one, we determined it is more likely than not that all of the Company’s deferred tax assets will not be realized. As of December 31, 2011, the US entity has incurred net accumulated operating losses of approximately $3,647 for income tax purposes. As a result, $1,240 of valuation allowance was recorded to reduce the deferred tax asset to zero. The net change in valuation allowance was $300 in 2011 and $342 in 2010 for the US entity.

 

The PRC subsidiaries, Sanhe, Wang Da, Joy& Harmony, Yiwu and Zhejiang are subject to the PRC income tax at a rate of 25%. Jinhua is subject to PRC income tax using simplified tax system. In 2011, the PRC subsidiaries incurred an adjusted net operating loss of $52,844. In the process of applying step one, management believes these subsidiaries will continue to incur losses in the near future due to high market competition, slowing market demand, rising labor and fuel costs. We believe it is more likely than not that the subsidiaries will not be able to benefit from the deferred tax assets in association with the operating losses. The net change in valuation allowance was $12,939 in 2011 and $6,332 in 2010 for the PRC subsidiaries.

 

The components of deferred income tax assets and liabilities as of December 31, 2011and 2010 are as follows:

 

   2011   2010 
Deferred tax assets:          
U.S. net operating losses  $300   $342 
PRC net operating losses   12,939    5,990 
Total deferred tax assets   13,239    6,332 
Less valuation allowance   (13,239)   (6,332)
   $-   $- 

 

Reconciliation of the differences between the statutory US Federal income tax rate and the effective rate is as follows for 2011, 2010 and 2009.

 

   2011   2010   2009 
(Credit) tax at US Statutory Rate   (34.0)%   (34.0)%   34.0%
Tax rate difference   8.8%   8.6%   (9.0)%
Non deductible expense-impairment loss   29.0%   9.6%   - 
Other   0.4%   0.1%   - 
Valuation allowance   (3.8)%   15.9%   118.1%
Effective rate   0.4%   0.2%   143.1%

 

F-17
 

 

The fluctuation in the valuation allowance from 118.1% in 2009 to 15.5% in 2010 is due to multiple reasons.  First, the Company’s consolidated net loss before income taxes in 2010 was $24,875, compared to the net loss of $499 in 2009.  Second, the Company had several subsidiaries with taxable income and corresponding income tax provisions in 2009, causing the valuation account to be rather high.  Finally, in 2010, the Company had impaired goodwill of $9,591 which is not deductible for tax purposes and did not have an increasing effect on the valuation. 

 

Note 8 - COMMITMENTS

 

The Company leases office facilities under operating leases that terminate through 2013. Rent expense for 2011, 2010 and 2009 was $218, $399 and $397, respectively. The future minimum obligations under these lease agreements and advertising agreements are as follows by years as of December 31, 2011:

 

   Advertising
commitments
   Operating
leases
   Total  
2012  $390   $152   $ 542  
2013  130   142     472  

 

Note 9 - STATUTORY RESERVE

 

In accordance with the laws and regulations of the PRC, a wholly-owned Foreign Invested Enterprise’s income, after the payment of the PRC income taxes, shall be allocated to the statutory surplus reserves and statutory public welfare fund. Prior to January 1, 2006, the proportion of allocation for reserve was 10 percent of the profit after tax to the surplus reserve fund and additional 5-10 percent to the public affair fund. The public welfare fund reserve was limited to 50 percent of the registered capital. Effective January 1, 2006, there is now only one fund requirement. The reserve is 10 percent of income after tax, not to exceed 50 percent of registered capital.

 

Statutory reserve funds are restricted for set off against losses, expansion of production and operation or increase in register capital of the respective company. Statutory public welfare fund is restricted to the capital expenditures for the collective welfare of employees. These reserves are not transferable to the Company in the form of cash dividends, loans or advances. These reserves are therefore not available for distribution except in liquidation. As of December 31, 2011, 2010 and 2009, the Company had allocated $11,543, $11,543 and $11,535 to these non-distributable reserve funds.

 

Note 10 – DISCONTINUED OPERATIONS

 

In 2011, Sanhe closed all its 210 stores in stores. Joy & Harmony closed all its 196 stores in stores. Letong closed its direct retail and franchise operation. All three entities ceased operation as of December 31, 2011. Sanhe, Joy & Harmony and Letong will be legally dissolved in 2012. As such, Sanhe, Joy & Harmony and Letong met the conditions to be reported as a discontinued operation in the financial statements, and accordingly, the results of operations have been reclassified for all periods to conform to the current period's presentation.

 

The following table summarizes the assets and liabilities of the discontinued operations as of December 31, 2011 and 2010 included in the Consolidated Balance Sheets:

 

   2011   2010 
Cash  $637   $12,354 
Accounts receivable, net   5,120    5,562 
Inventories   -    3,507 
Intercompany receivable   10,138    - 
Advance to suppliers   -    455 
Taxes receivable   -    723 
Prepaid expenses and other assets   24    150 
Property, plant and equipment   5    32 
Goodwill   -    10,757 
Total assets   15,924    33,540 
Accounts payable   -    1,074 
Accrued expenses   153    2,746 
Income tax payable   367    24 
Other payable   11    - 
Intercompany payable   480    702 
Total liabilities   1,011    4,546 
           
Net assets  $14,913   $28,994 

 

F-18
 

 

The following table summarizes the operating results of the discontinued operations included in the Consolidated Statements of Operations and Comprehensive Loss:

 

   2011   2010   2009 
Sales, net  $68,810   $83,351   $110,304 
Cost of sales   64,080    73,384    92,227 
Gross profit   4,730    9,967    18,077 
General and administrative expenses   21,155    17,158    17,778 
Goodwill impairment   10,757    9,591    - 
Income (Loss) from discontinued operations   (27,182)   (16,782)   299 
Other Income (Expense)   (213)   16    129 
Income (Loss) before income taxes   (27,395)   (16,766)   428 
Provision for income taxes   -    -    341 
Net income (loss) from discontinued operations, net of income tax  $(27,395)  $(16,766)   87 

 

Note 11 - OTHER COMPREHENSIVE INCOME

 

Other comprehensive income as included in stockholders’ equity for 2011, 2010 and 2009, represents foreign currency translation adjustment.

 

 Note 12- CURRENT VULNERABILITY DUE TO CERTAIN RISK FACTORS

 

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.

  

Note 13 - MAJOR CUSTOMERS AND CREDIT RISK

 

During 2011, 2010 and 2009, no customer accounted for more than 10% of the Company’s sales.  As of December 31, 2011 and 2010, the Company had no customer or vendor which comprised more than 10% of the Company’s accounts receivable or accounts payable.

 

Note 14 -   SEGMENT INFORMATION

 

We separately operate and prepare accounting and other financial reports to management for five business organizations (Wang Da, Sanhe, Yiwu, Joy & Harmony and Jinhua). Each of the individual operating companies corresponds to different product groups.  Wang Da is mainly operating mobile phones, Sanhe is mainly operating home appliances, Yiwu is mainly operating office communication products, and Joy & Harmony is mainly operating consumer electronics. Jinhua provides logistics to businesses in Eastern China. “Other” segment includes China 3C (the US holding company), CFDL and Zhejiang; China 3C and CFDL have no operations except for incurring public company expenses. Zhejiang started operation of direct stores and franchise stores in 2009. Since the direct stores and franchise stores are in trial operation, revenue generated from such stores and gross profits are nominal, Zhejiang’s operation is reported in “Other” segment. As of December 31, 2011, all direct stores and franchise stores were closed. All segments are accounted for using the same principals as described in Note 2.

 

We identified five reportable segments required by ASC 280, “Segment Reporting”: (1) mobile phone, (2) home electronics, (3) office communication product, (4) consumer electronics and (5) Logistics.

 

F-19
 

 

The following tables present summarized information by segment (in thousands):

 

   Year Ended December 31, 2011 
   Mobile   Home   Communication   Consumer             
   Phones   Electronics   Products   Electronics   Logistics   Other   Total 
Sales, net  $39,009   $37,549   $13,785   $30,889   $8,227   $372   $129,831 
Cost of sales   36,633    35,433    12,540    28,289    10,127    358    123,380 
Gross profit (loss)   2,376    2,116    1,245    2,600    (1,900)   14    6,451 
Income (Loss) from operations   (4,474)   (11,787)   (2,622)   (15,409)   (17,024)   (1,051)   (52,367)
Total assets   9,293    2,481    4,046    3,312    1,098    777    21,007 

 

   Year Ended December 31, 2010 
   Mobile   Home   Communication   Consumer             
   Phones   Electronics   Products   Electronics   Logistics   Other   Total 
Sales, net  $43,801   $42,427   $20,251   $40,247   $10,691   $677   $158,094 
Cost of sales   40,073    38,001    17,923    34,787    9,289    595    140,668 
Gross profit   3,728    4,426    2,328    5,460    1,402    82    17,426 
Income (Loss) from operations   (3,156)   (5,469)   (2,456)   (11,395)   (1,448)   (913)   (24,837)
Total assets   10,993    14,988    9,967    18,536    15,837    2,810    73,131 

 

   Year Ended December 31, 2009 
   Mobile   Home   Communication   Consumer             
   Phones   Electronics   Products   Electronics   Logistics   Other   Total 
Sales, net  $58,744   $53,385   $44,375   $56,660   $5,573   $257   $218,994 
Cost of sales   52,144    44,758    39,246    47,239    3,860    229    187,476 
Gross profit   6,600    8,627    5,129    9,421    1,713    28    31,518 
Income (Loss) from operations   (262)   (741)   (612)   1,012    408    (413)   (608)
Total assets   13,761    17,379    12,353    30,271    19,268    1,364    94,396 

 

In 2011, the enterprise-wide revenue derived from each group of products was as follows:

 

ŸMobile phones was $39,009.
ŸHome electronics was $37,549, including DVD players $5,512, Stereo $4,547, TV $26,912 and other small home electronics $578.
ŸOffice equipment was $13,785, including fax machines $8,134, telephones $2,183, printers $770, computers $1,849 and other accessories $849.
ŸConsumer electronics was $30,889, including MP3/MP4 players $25,548, Radios $882, CD players $1,260, GPS devices $1,671 and other products $1,528.
ŸLogistics was $8,227.
ŸOther was $372.

 

In 2010, the enterprise-wide revenue derived from each group of products was as follows:

 

ŸMobile phones was $43,801.
ŸHome electronics was $42,427, including DVD players $5,704, Stereo $3,457, TV $15,564 and other small home electronics $17,702.
ŸOffice equipment was $20,251, including fax machines $14,017, telephones $3,531, printers $1,864 and other accessories $839.
ŸConsumer electronics was $40,247, including MP3/MP4 players $33,653, Radios $1,148, CD players $1,555, GPS devices $2,859 and other products $1,032.
ŸLogistics was $10,691.
ŸOther was $677.

 

In 2009, the enterprise-wide revenue derived from each group of products was as follows:

 

ŸMobile phones was $58,744.
ŸHome electronics was $53,385, including DVD players $9,818, Stereo $5,373, TV $16,737 and other small home electronics $21,457.
ŸOffice equipment was $44,375, including fax machines $22,998, telephones $10,598, printers $5,294 and other accessories $5,485.
ŸConsumer electronics was $56,660, including MP3/MP4 players $44,890, Radios $1,690, CD players $3,632, GPS devices $4,072 and other products $2,376.
ŸLogistics was $5,573.
ŸOther was $257.

 

F-20