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WINHA INTERNATIONAL GROUP LIMITED AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS (IN U.S. $)

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WINHA INTERNATIONAL GROUP LIMITED AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE (LOSS) INCOME

FOR THE THREE AND SIX MONTHS ENDED SEPTEMBER 30, 2016 AND 2015 (IN U.S. $) (UNAUDITED)

WINHA INTERNATIONAL GROUP LIMITED AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE (LOSS) INCOME

FOR THE THREE AND SIX MONTHS ENDED SEPTEMBER 30, 2016 AND 2015 (IN U.S. $) (UNAUDITED) (CONTINUED)

WINHA INTERNATIONAL GROUP LIMITED AND SUBSIDIARIES

WINHA INTERNATIONAL GROUP LIMITED AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE SIX MONTHS ENDED SEPTEMBER 30, 2016 AND 2015 (IN U.S. $) (UNAUDITED)

WINHA INTERNATIONAL GROUP LIMITED AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE SIX MONTHS ENDED SEPTEMBER 30, 2016 AND 2015 (IN U.S. $) (UNAUDITED) (CONTINUED)

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WINHA INTERNATIONAL GROUP LIMITED AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND SIX MONTHS ENDED SEPTEMBER 30, 2016 AND 2015

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The effect of this transaction was to reduce the interest of the Company in its Australian subsidiary by 40%. The Company used the Australian Winha offering price for its initial public offering in Australia to approximate the fair value of the 40% stock issued. The Company recognized stock compensation expense of $21,882,816 during the year ended March 31, 2016.

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Foreign Currency Translation (continued)

The exchange rates used to translate amounts in RMB into US dollars for the purposes of preparing the financial statements are as follows:

 

In February 2016, the FASB issued Accounting Standards Update No. 2016-02, Leases. The new standard establishes a right-of-use ("ROU") model that requires a lessee to record a ROU asset and a lease liability on the balance sheet for all leases with terms longer than 12 months. Leases will be classified as either finance or operating, with classification affecting the pattern of expense recognition in the income statement. The new standard is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. A modified retrospective transition approach is required for lessees for capital and operating leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements, with certain practical expedients available. We are currently evaluating the impact of our pending adoption of the new standard on our consolidated financial statements.

 

In November 2015, the FASB issued Accounting Standards Update No. 2015-17, Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes (ASU 2015-17), which simplifies the presentation of deferred income taxes by requiring deferred tax assets and liabilities be classified as noncurrent on the balance sheet. This accounting standard update is not expected to have a material impact on the Company's consolidated financial statements.

 

In August 2015, the FASB issued ASU No. 2015-14, Revenue from Contracts with Customers (Topic 606): Deferral of the Effective Date. The amendment in this ASU defers the effective date of ASU No. 2014-09 for all entities for one year. Public business entities, certain not-for-profit entities, and certain employee benefit plans should apply the guidance in ASU 2014-09 to annual reporting periods beginning December 15, 2017, including interim reporting periods within that reporting period. Earlier application is permitted only as of annual reporting periods beginning after December 31, 2016, including interim reporting periods within that reporting period. This accounting standard update is not expected to have a material impact on the Company's consolidated financial statements.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND SIX MONTHS ENDED SEPTEMBER 30, 2016 AND 2015

 

Rent expense was $67,603, $59,303, $160,632 and $126,958, for the three and six months ended September 30, 2016 and 2015, respectively.

	September 30,				March 31,
	2016				2016
	(Unaudited)
Net operating loss carryforwards		$	6,492,763			$	6,333,864
Inventory intercompany profit			6,541				2,596
Less: valuation allowance			(6,492,763	)			(6,303,650	)
Net deferred tax asset		$	6,541			$	32,810

 

At September 30, 2016 and March 31, 2016, the Company had unused operating loss carry-forwards of approximately $16,770,502 and $16,214,870 respectively, expiring in various years through 2019.  The Company has established a valuation allowance of $6,492,763 and $6,303,650 against the deferred tax asset related to net operating loss carry-forwards at September 30, 2016 and March 31, 2016, respectively, due to the uncertainty of realizing the benefit. The carryforwards are principally in the United States.

Condensed Statement of Operations

The Company's 60% owned subsidiary, Australian Winha, entered into a series of contractual agreements (the "Acquisition Agreements") dated November 7, 2016 among Australian Winha, Flavours Fruit & Veg Pty Ltd ("Flavours"), an Australia company, World of Flavours Pty Ltd ("World") and Select Providor Pty Ltd ("Select") (collectively "Flavours Shareholders"), to acquire the shares of Flavours.  The Acquisition Agreements include (i) a Share Sale Agreement, (ii) a Share Subscription Agreement, (iii) a Subscription Agreement for Convertible Notes, and (iv), a Call Option Agreement,

Share Sale Agreement:  Pursuant to the Share Sale Agreement, Australian Winha acquired 49 shares from each of the Flavours Shareholders, for a total of 98 shares, representing 16.1% of the currently outstanding shares, in exchange for a total of AUD$600,000 (approximately US$458,000).

Share Subscription Agreement:  Pursuant to the Share Subscription Agreement, which expires on June 30, 2017, Flavours agrees to sell an additional 229 shares to Australian Winha for AUD$1,400,000 (approximately US$1,069,000). The agreement is dependent upon Australian Winha gaining approval to list its shares on the Australian Securities Exchange ("ASX").

Subscription Agreement for Convertible Notes:  Pursuant to the Convertible Note Agreement, Australian Winha will loan to Flavours, in the form of a secured convertible note and guaranteed by the current directors' of Flavours, AUD$1,000,000 (approximately US$763,000) convertible into 163 shares of Flavours stock. The note will bear interest at 10% per annum, payable monthly.  The note expires twenty four months from the date of issuance.  The note is convertible upon Australian Winha gaining approval to list its shares on the ASX. Should Australian Winha not give notice of conversion of the note within 30 days of meeting the ASX listing conditions, Flavours can elect to convert the note for up to the 163 shares.

Call Option Agreement:  Australian Winha also has a Call Option Agreement to purchase the remaining 255 shares from each of the Flavours Shareholders, a total of 510 shares, at a price equal to eight times Flavour's March 31, 2019 year end net profit after tax, under Australian generally accepted accounting principles, which may be satisfied by a cash payment, the issue of fully paid ordinary shares in Australian Winha, or a combination of both.

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The following management's discussion and analysis of financial condition and results of operations provides information which management believes is relevant to an assessment and understanding of our results of operations and financial condition. The discussion should be read along with our financial statements and notes thereto. This section includes a number of forward-looking statements that reflect our current views with respect to future events and financial performance. Forward-looking statements are often identified by words like believe, expect, estimate, anticipate, intend, project and similar expressions, or words which, by their nature, refer to future events. You should not place undue certainty on these forward-looking statements. These forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially from our predictions.

Events Affecting Consolidation

We operate our business in China through Zhongshan Winha. We expect that virtually all of our revenue will be derived from Zhongshan Winha. On August 1, 2013, our subsidiary, Shenzhen Winha, entered into a set of contractual agreements with Zhongshan Winha and its equity owners, including an exclusive business cooperation agreement, exclusive option agreement, loan agreement, share pledge agreement, power of attorney and spousal consents. Shenzhen Winha, through these arrangements, assumed operational control of Zhongshan Winha and became the primary beneficiary of those operations. As a result, Zhongshan Winha was considered a variable interest entity with respect to Shenzhen Winha and, as a result, from August 1, 2013 through November 27, 2015, the financial statements of Zhongshan Winha were consolidated with our Company's financial statements.

The control of our operations through these contractual arrangements created risks for our business. If Zhongshan Winha and its shareholders failed to perform their obligations under the contractual arrangements, or if we suffered significant delay or other obstacles in the process of enforcing these contractual arrangements, or if legal remedies under PRC laws that we relied on were not available or effective, our business and operations could have been severely disrupted, which could have materially and adversely affected our results of operations and our ability to generate revenue in the PRC and could have damaged our reputation. To avoid such risk, on November 27, 2015, Shenzhen Winha exercised its option to purchase the registered equity of Zhongshan Winha from the shareholders of Zhongshan Winha.  Upon the exercise of the purchase option, Zhongshan Winha became a wholly owned subsidiary of Shenzhen Winha. The financial statements of Zhongshan Winha remain consolidated with our Company's financial statements, but now as a subsidiary.

In May 2015, C&V International Company Limited ("C&V"), a wholly owned subsidiary of Winha International, set up a wholly owned subsidiary in Australia, Australia Winha Commerce and Trade Limited ("Australian Winha"). In February 2016, 100% of the outstanding shares of Sanmei International Investment Co., Ltd ("Sanmei Investment"), a company incorporated in Anguilla on April 23, 2013, were transferred to Winha International Group Limited. Winha International Group Limited then transferred the shares of its wholly owned subsidiary, C&V, to Sanmei Investment.

In March 2016, C&V transferred the shares of Australian Winha to Sanmei Investment. Subsequently, Sanmei Investment transferred 29% of the outstanding shares of Australian Winha to persons and entities who were either affiliates of, or consultants to,  the Company (5% to Beijing Ruihua Future, 5% to Donghe Group, 7% to Zhuowei Zhong, 5% to Xinxi Zhong, 4% to Zhifei Huang and 3% to Chun Yan Winne Lam), and transferred 11% of the shares of Australian Winha to persons who are suppliers to Zhongshan Winha. The effect of above transaction reduced the interest of the Company in its Australian subsidiary, and indirectly in Zhongshan Winha, by 40%.

Results of Operations

The following tables set forth key components of our results of operations during the three and six months ended September 30, 2016 and 2015, and the percentage changes between 2016 and 2015.

 

For the six months ended September 30, 2016 and 2015:

										%
		2016				2015				Change
Revenue		$	28,783,982			$	15,397,117				87	%
Cost of Goods Sold			(14,993,435	)			(7,137,807	)			110	%
Gross profit			13,790,547				8,259,310				67	%
Total operating expenses			2,087,978				1,042,260				100	%
Income from operations			11,702,569				7,217,050				62	%
Income before provision for income taxes			11,251,261				7,218,135				56	%
Provision for income taxes			2,947,995				1,817,227				62	%
Net income			8,303,266				5,400,908				54	%
Earnings per share			0.10				0.11				(9	%)

Revenue

We commenced operations during the quarter ended June 30, 2014. During the year ended March 31, 2015, our revenue increased to $9,023,642 due to the opening of new retail stores and the initiation of custom-made sales. Our revenue continued to grow during fiscal year 2016, as recognition of our brand developed and we introduced additional revenue streams. During the year ended March 31, 2016, our total revenue increased to $42,442,485. In addition to the continuing expansion of our retail store operations and custom-made sales, two new channels for product distribution contributed to revenue during six months ended September 30, 2016:

 

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During the three months ended September 30, 2016, we stopped leasing our retail stores in Sanshui, Shunde, Chancheng, Xiaolan, Dongguan and Guangzhou, outsourced them to six independent individuals.  We continued marketing of our products to these stores, which contributed $1,867,379 to our revenues for the three and six months ended September 30, 2016.

During the three and six months ended September 30, 2016, we had total revenue of $14,866,148 and $28,783,982, respectively, representing an increase of 52% and 87%, respectively, when compared with the three and six months ended September 30, 2015. The following table shows the components of revenue:

For the three months ended September 30, 2016 and 2015:

For the six months ended September 30, 2016 and 2015:

Gross profit

Operating Expenses

Selling expenses represent the labor cost for our marketing department and retail stores, as well as expenses directly related to our marketing efforts. Selling expense for the three and six months ended September 30, 2016 was $431,058 and 991,670, respectively, an increase of 101% and 140%, respectively, over the three and six months ended September 30, 2015. Selling expenses increased primarily due to the addition of a second restaurant in fiscal year 2016. We expect our selling expenses to increase in proportion to the number of additional restaurants that we open.

General and Administrative Expenses

General and administrative expenses for the three and six months ended September 30, 2016 totaled $557,733 and $1,080,076, respectively, representing an increase of 112% and 74%, respectively, from three and six months ended September 30, 2015. The increase was primarily due to the expansion of our overall operations, including the introduction of franchise operations and a second restaurant. In addition, our 60%-owned Australian subsidiary incurred significant expenses in connection with its preparation for listing on the Australian Stock Exchange ("ASX"), which were recorded as G&A expenses as well. As we expand our operations, particularly as we initiate our multi-faceted marketing program, we expect general and administrative expenses to increase, reflecting the staffing requirements of more complex and expanded operations.

Net Income

After taking into account insignificant amounts of other income (loss), we recorded pre-tax net income of $4,844,579 and $5,147,179, respectively, $11,251,261 and $7,218,135, respectively, for the three and six months ended September 30, 2016 and 2015. Corporate income in China is subject to income tax at a rate of 25%. Our provision for income taxes was $1,416,852 and $1,261,690, respectively, $2,947,995 and $1,817,227, respectively, for the three and six months ended September 30, 2016 and 2015, primarily representing the enterprise income tax on the income of our Chinese operating entity. After deducting the income tax, we had a net income before non-controlling interests of $3,427,727 and $3,885,489, respectively, $8,303,266 and $5,400,908, respectively, during the three and six months ended September 30, 2016 and 2015. However, because we transferred 40% of Australian Winha to related parties and suppliers in March 2016, we are required to allocate 40% of the net income (loss) realized after that date by Australian Winha and its subsidiaries to the non-controlling interest. As a result, net income attributed to the non-controlling interests was $1,371,091 and $0, respectively, $3,321,307 and $0, respectively, for the three and six months ended September 30, 2016 and 2015, respectively. Our net income attributable to the common stockholders of the Company (i.e. after the allocation to the non-controlling interest) was $2,056,636 and $3,885,489, respectively, representing $0.04 per share and $0.08 per share, respectively, and $4,981,959 and $5,400,908, respectively, representing $0.10 per share and $0.11per share, respectively, for the three and six months ended September 30, 2016 and 2015.

Foreign Currency Translation Adjustment

Our reporting currency is the U.S. dollar. Our principal local currency, Renminbi, is our functional currency. All asset and liability accounts have been translated using the exchange rate in effect at the balance sheet date.  Equity accounts have been translated at their historical exchange rates when the capital transactions occurred.    Statements of income and other comprehensive income and cash flows have been translated using the average exchange rate for the periods presented.  Adjustments resulting from the translation of our consolidated financial statements are recorded as other comprehensive income (loss).  Transaction gains and losses that arise from exchange rate fluctuations on transactions denominated in a currency other than the functional currency are included in the results of operations as incurred. For the three and six months ended September 30, 2016 and 2015, foreign currency translation adjustments of $(76,011) and $(346,926), respectively, $(702,747) and $(246,844), respectively, have been reported as other comprehensive income (loss) in the consolidated statements of income and other comprehensive income (loss), respectively. The significant increase in the translation adjustments was due to the PRC's devaluation of its currency. Further devaluation could occur.

Liquidity and Capital Resources 

As of September 30, 2016, the Company had cash and cash equivalents of $6,563,778, compared to $21,548,630 as of March 31, 2016. The following table summarizes our cash flows for the six months ended September 30, 2016 and 2015:

 

We received loans of $370,605 from a stockholder who paid our professional fees in the United States and in Australia during the six months ended September 30, 2016, , which is classified as a financing activity for the six months ended September 30, 2016. With a portion of these loans, we paid expenses of $304,452 related to listing on the ASX. During the six months ended September 30, 2016, we also satisfied  convertible debt issued by our Australian subsidiary to the three independent individuals by payment of $5,435,466. As a result, net cash used in financing activities for the six months ended September 30, 2016 was $5,064,861. For the six months ended September 30, 2015, a capital contribution to our Chinese operating company of $816,001, the sale by our Australian subsidiary of convertible debt for $564,200, and a stockholder loan of $26,345, resulted in net cash provided by financing activities of $1,406,546.

With the cash from operations and financing activities, we used $10,397,016 to purchase fixed assets during the six months ended September 30, 2016, which was classified as cash used in investing activities. This purchase primarily consisted of the fruit orchard located on the farmland that we leased during the same period. During the six months ended September 30, 2015, we purchased fixed assets for $326,482 and spent $9,827 to further develop our website, resulting in total cash used in investing activities of $336,309.

We had working capital of approximately $11,000,000 as of September 30, 2016, a decrease of approximately $5,000,000 compared to March 31, 2016. The decrease was principally the result of the cash used by investing and financing activities.

Our debt obligations at September 30, 2016 consisted of $907,804 in stockholder loans payable on demand. Since our cash balance far exceeds our debt obligations, we believe that our capital resources will be adequate to fund our Company's operations for at least the next 12 months.

Transfer of Cash

According to PRC laws and regulations, in the event that we need to finance our PRC operations in the future, we are allowed to provide funding by means of capital contributions and/or loans to Zhongshan Winha. The loans would be subject to applicable government registration and approval requirements. We may not be able to complete the registration or obtain these government approvals on a timely basis. If we fail to complete such registration or receive such approvals, our ability to finance our PRC operations may be negatively affected, which could adversely affect our liquidity and our ability to fund and expand our business.

Current PRC regulations permit our PRC subsidiaries to pay dividends to us. However, payment of dividends is subject to applicable regulatory requirements. Furthermore, cash transfers from our PRC subsidiaries to their parent companies outside of China are subject to PRC government control of currency conversion. We receive substantially all of our revenues in RMB. Under our current corporate structure, our income is primarily derived by our PRC subsidiaries. Under existing PRC foreign exchange regulations, payments of current account items, including profit distributions, interest payments and expenditures from trade-related transactions can be made in foreign currencies without prior approval from the State Administration of Foreign Exchange ("SAFE") by complying with certain procedural requirements. As profits and dividends are current account items, any revenue generated in the PRC may be paid to shareholders outside of the PRC as profit or dividends without prior approval from SAFE so long as we comply with certain procedural requirements. However, the PRC government may also, at its discretion, restrict access in the future to foreign currencies for current account transactions. If the foreign exchange control system prevents us from obtaining sufficient foreign currency to satisfy our currency demands, we may not be able to pay dividends in foreign currencies to our shareholders. Our inability to obtain the requisite approvals for converting RMB into foreign currencies, any delays in receiving such approvals or any future restrictions on currency exchanges may restrict the ability of our PRC subsidiary to remit sufficient foreign currency to pay dividends or other payments to us, or otherwise satisfy its foreign currency denominated obligations. 

The Company currently intends to reinvest its earnings in expanding its operations and currently has no plans to pay any dividends.

Critical Accounting Policies and Estimates

In preparing our financial statements we are required to formulate working policies regarding valuation of our assets and liabilities and to develop estimates of those values.  In our preparation of the financial statements for the six months ended September 30, 2016, there were no estimates made which were (a) subject to a high degree of uncertainty and (b) material to our results.  

There were no recent accounting pronouncements that have or will have a material effect on the Company's financial position or results of operations.

Off Balance Sheet Transactions 

We do not currently have any off-balance sheet arrangements.

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