U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(MARK ONE)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 for the quarterly period ended September 30, 2006.
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF
1934 For the transition period from ____ to ____.
--------------------------------------------------------------------------------
Commission File Number: 000-50140
ACL SEMICONDUCTORS INC.
(Name of registrant as specified in its charter)
DELAWARE 16-1642709
(State or other jurisdiction of incorporation) (I.R.S. Employer
Identification No.)
B24-B27,1/F., BLOCK B
PROFICIENT INDUSTRIAL CENTRE, 6 WANG KWUN ROAD
KOWLOON, HONG KONG
(Address of principal executive offices)
011-852- 2799-1996
(Registrant's telephone number)
Check whether the Registrant (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or 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 [ ]
Check whether the registrant is a large accelerated filer, an accelerated filer,
or non-accelerated filer.
Large accelerated filer [_]_ Accelerated filer [_]_ Non-accelerated filer _[X]_
Indicate whether the registrant is a shell company. Yes [ ] No [X]
The aggregate market value of the voting common equity held by non-affiliates of
the registrant as of September 30, 2006 was approximately $708,491 based upon
the closing price of $0.13 of the registrant's common stock on the OTC Bulletin
Board, as of the last business day of the most recently completed third fiscal
quarter (September 30, 2006). (For purposes of determining this amount, only
directors, executive officers, and 10% or greater stockholders have been deemed
affiliates).
Registrant had 27,829,936 shares of common stock, par value $0.001 per share,
outstanding as of November 14, 2006.
Transitional small business disclosure format (check one) Yes [ ] No [X]
Page No.
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Condensed Consolidated Balance Sheets as of September 30, 2006
(unaudited) and December 31, 2005 1-2
Condensed Consolidated Statements of Operations for the three
months and nine months ended September 30, 2006 (unaudited)
and September 30, 2005 3
Condensed Consolidated Statements of Cash Flows for the three
months and nine months ended September 30, 2006 (unaudited)
and September 30, 2005 4-5
Notes to Condensed Consolidated Financial Statements
(unaudited) 6-14
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS 15-23
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 23
ITEM 4. CONTROLS AND PROCEDURES 23-24
PART II OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 25
SIGNATURES 26
EXHIBITS 27-30
ITEM 1. FINANCIAL STATEMENTS.
ACL SEMICONDUCTORS INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
ASSETS
As of As of
September 30, December 31,
2006 2005
(Unaudited)
------------- ------------
CURRENT ASSETS:
Cash and cash equivalents $ 607,283 $2,537,799
Restricted cash 2,692,308 769,231
Accounts receivable, net of allowance
for doubtful accounts of $0 for 2006 and 2005 1,153,597 515,557
Accounts receivable, related parties 5,876,057 2,175,737
Inventories, net of reserve of $141,026 for
2006 and 2005 2,614,586 1,087,752
Refundable deposits -- 1,000,000
Other current assets 194,009 263,300
----------- ----------
Total current assets 13,137,840 8,349,376
PROPERTY, EQUIPMENT AND IMPROVEMENTS, net of
accumulated depreciation and amortization 3,861,793 102,037
OTHER DEPOSITS 375,730 381,044
----------- ----------
$17,375,363 $8,832,457
=========== ==========
The accompanying notes are an integral part of these condensed consolidated
financial statements
1
ACL SEMICONDUCTORS INC.
CONDENSED CONSOLIDATED BALANCE SHEETS (CONTINUED)
LIABILITIES AND STOCKHOLDERS' EQUITY
As of As of
September 30, December 31,
2006 2005
(Unaudited)
------------- -------------
CURRENT LIABILITIES:
Accounts payable $ 4,707,383 $ 4,495,819
Accrued expenses 229,782 272,782
Lines of credit and notes payable 8,868,125 2,842,285
Current portion of long-term debt 87,971 --
Payable related to debt settlement -- 76,088
Due to stockholders for converted pledged collateral 112,385 112,385
Income tax payable 302,089 217,453
Other current liabilities 13,832 55,019
----------- -----------
Total current liabilities 14,321,567 8,071,831
Long-term debt, less current portion 1,898,256 --
----------- -----------
Total liabilities 16,219,823 8,071,831
----------- -----------
COMMITMENTS AND CONTINGENCIES -- --
STOCKHOLDERS' EQUITY:
Common stock - $0.001 par value, 50,000,000 shares
authorized, 27,829,936 issued and outstanding 27,830 27,830
Additional paid in capital 3,488,527 3,360,405
Amount due from stockholder/director (84,060) (102,936)
Accumulated deficit (2,276,757) (2,524,673)
----------- -----------
Total stockholders' equity 1,155,540 760,626
----------- -----------
$17,375,363 $ 8,832,457
=========== ===========
The accompanying notes are an integral part of these condensed consolidated
financial statements
2
ACL SEMICONDUCTORS INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30,
2006 2005 2006 2005
------------- ------------- ------------- -------------
NET SALES:
Related parties
$ 6,457,711 $ 5,060,580 16,203,434 24,668,693
Other 23,695,653 23,770,593 60,175,045 59,379,345
Less discounts to customers (14,143) (21,635) (19,742) (91,632)
----------- ----------- ----------- -----------
30,139,221 28,809,538 76,358,737 83,956,406
COST OF SALES 28,936,358 28,004,464 73,489,054 81,937,853
----------- ----------- ----------- -----------
GROSS PROFIT 1,202,863 805,074 2,869,683 2,018,553
OPERATING EXPENSES:
Selling 202,069 126,060 565,747 374,891
General and administrative 606,051 488,050 1,538,049 1,446,025
----------- ----------- ----------- -----------
INCOME FROM OPERATIONS 394,743 190,964 765,887 197,637
OTHER INCOME (EXPENSES):
Interest expense (191,943) (53,021) (487,098) (153,075)
Miscellaneous 35,789 2,565 82,665 (1,028)
----------- ----------- ----------- -----------
INCOME BEFORE INCOME TAXES 238,589 140,508 361,454 43,534
INCOME TAXES 61,905 31,243 113,538 40,742
----------- ----------- ----------- -----------
NET INCOME
$ 176,684 $ 109,265 $ 247,916 $ 2,792
=========== =========== =========== ===========
EARNINGS PER SHARE - BASIC AND DILUTED
$ 0.01 $ 0.00 $ 0.01 $ 0.00
=========== =========== =========== ===========
WEIGHTED AVERAGE NUMBER OF SHARES - BASIC
AND DILUTED 27,829,936 27,829,936 27,829,936 27,829,936
=========== =========== =========== ===========
The accompanying notes are an integral part of these condensed consolidated
financial statements
3
ACL SEMICONDUCTORS INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
(UNAUDITED)
Nine Months Ended
September 30, September 30,
2006 2005
------------- -------------
CASH FLOWS PROVIDED BY (USED FOR) OPERATING ACTIVITIES:
Net income $ 247,916 $ 2,792
----------- -----------
ADJUSTMENTS TO RECONCILE NET INCOME TO NET
CASH PROVIDED BY (USED FOR) OPERATING ACTIVITIES:
Depreciation and amortization 45,758 20,401
Bad debts -- 6,200
Change in inventory reserve -- (29,487)
Fair value of options issued to employees 128,122 --
CHANGES IN ASSETS AND LIABILITIES:
(INCREASE) DECREASE IN ASSETS
Accounts receivable - other (638,040) (581,350)
Accounts receivable - related parties (2,700,320) 1,947,972
Inventories (1,526,834) 825,466
Other current assets 69,290 (8,760)
Other deposits 5,314 --
INCREASE (DECREASE) IN LIABILITIES
Accounts payable 211,564 (1,199,038)
Accrued expenses (43,000) (288,032)
Payable related to debt settlement (76,088) 66,088
Income tax payable 84,636 10,812
Other current liabilities (41,187) (7,027)
----------- -----------
Total adjustments (4,480,785) 763,245
----------- -----------
Net cash (used for) provided by
operating activities (4,232,869) 766,037
----------- -----------
The accompanying notes are an integral part of these condensed consolidated
financial statements
4
ACL SEMICONDUCTORS INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
(UNAUDITED)
Nine Months Ended
September 30, September 30,
2006 2005
------------- -------------
CASH FLOWS PROVIDED BY (USED FOR) INVESTING ACTIVITIES:
Repayments from stockholders 18,876 4,823
Increase of restricted cash (1,923,076) (769,231)
Loan repayments by related party -- 611,446
Repayments from related party -- 30,000
Purchases of property, equipment and improvements (3,805,514) (30,655)
---------- -----------
Net cash used for investing activities (5,709,714) (153,617)
---------- -----------
CASH FLOWS PROVIDED BY (USED FOR) FINANCING ACTIVITIES:
Proceeds on lines of credit and
notes payable 6,025,840 (1,060,311)
Principal advance (payments) on long-term debt 1,986,227 (194,729)
Loan received from related parties -- 414,195
Repayments to related party -- (86,276)
---------- -----------
Net cash provided by financing activities 8,012,067 (927,121)
---------- -----------
NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS (1,930,516) (314,701)
CASH AND CASH EQUIVALENTS, beginning of the period 2,537,799 512,548
---------- -----------
CASH AND CASH EQUIVALENTS, end of the period
$ 607,283 $ 197,847
========== ===========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Interest paid
$ 487,097 $ 53,021
========== ===========
Income tax paid
$ 20,089 $ 29,930
========== ===========
Increase of accounts receivable-related parties
through return of acquisition deposits
$1,000,000 $ --
========== ===========
The accompanying notes are an integral part of these condensed consolidated
financial statements
5
ACL SEMICONDUCTORS INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION AND NATURE OF BUSINESS OPERATIONS
BASIS OF PRESENTATION
The condensed consolidated financial statements include the financial statements
of ACL Semiconductors Inc. and its subsidiaries, Atlantic Components Ltd. and
Alpha Perform Technology Limited (collectively, "ACL" or the "Company"). The
accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with the instructions to Form 10-Q and do not include all
of the information and footnotes required by accounting principles generally
accepted in the United States of America for complete consolidated financial
statements. These condensed consolidated financial statements and related notes
should be read in conjunction with the Company's audited financial statements
for the fiscal years ended December 31, 2005, 2004 and 2003 filed in the Form
10-K filed by the Company on April 17, 2006. In the opinion of management, these
condensed consolidated financial statements reflect all adjustments which are of
a normal recurring nature and which are necessary to present fairly the
consolidated financial position of ACL as of September 30, 2006 and December 31,
2005, and the results of operations for the three-month and nine-month periods
ended September 30, 2006 and 2005 and the cash flows for the nine-month periods
ended September 30, 2006 and 2005. The results of operations for the nine months
ended September 30, 2006 are not necessarily indicative of the results, which
may be expected for the entire fiscal year. All significant intercompany
accounts and transactions have been eliminated in preparation of the condensed
consolidated financial statements.
On April 13, 2006, the Company entered into a Rescission Agreement with the
seller of Classic Electronics Ltd. ("Classic") to rescind the original Stock
Purchase Agreement entered on December 30, 2005. The seller agreed to fully
refund the acquisition deposits of $1.0 million during 2006.
The acquisition deposit of $1 million was reclassified to increase the accounts
receivable from Classic as the original deposit amount was recorded to offset
the accounts receivable from Classic. Due to the termination of the acquisition,
the original entry was reversed in the accompanying condensed balance sheets as
of September 30, 2006.
NATURE OF BUSINESS OPERATIONS
ACL Semiconductors Inc. ("Company" or "ACL") was incorporated under the State of
Delaware on September 17, 2002. Through a reverse-acquisition of Atlantic
Components Ltd., a Hong Kong based company, effective September 30, 2003, the
Company's principal activity is the distribution of electronic components under
the "Samsung" brandname which comprise DRAM and graphic RAM, FLASH, SRAM and
MASK ROM for the Hong Kong and Southern China markets. Atlantic Components Ltd.,
its wholly-owned subsidiary, was incorporated in Hong Kong on May 30, 1991 with
limited liability. On October 2, 2003, the Company set up a wholly-owned
subsidiary, Alpha Perform Technology Limited ("Alpha"), a British Virgin Islands
company, to provide services on behalf of the Company in jurisdictions outside
of Hong Kong. Effective January 1, 2004, the Company ceased the operations of
Alpha and all the related activities were consolidated with those of Atlantic.
REVENUE RECOGNITION
Product sales are recognized when products are shipped to customers, when title
passes and collection is reasonably assured. Provisions for discounts to
customers, estimated returns and allowances and other price adjustments are
provided for in the same periods the related revenue is recorded which are
deducted from the gross sales.
6
CURRENCY REPORTING
Amounts reported in the accompanying condensed consolidated financial statements
and disclosures are stated in U.S. Dollars, unless stated otherwise. The
functional currency of the Company's subsidiaries, which accounted for most of
the Company's operations, is reported in Hong Kong dollars ("HKD"). Foreign
currency transactions (outside Hong Kong) during the period are translated into
HKD according to the prevailing exchange rate at the relevant transaction dates.
Assets and liabilities denominated in foreign currencies at the balance sheet
dates are translated into HKD at period-end exchange rates.
For the purpose of preparing these consolidated financial statements, the
financial statements of ACL reported in HKD have been translated into U.S.
Dollars at US$1.00=HKD7.8, a fixed exchange rate maintained between the United
States and Hong Kong Special Administrative Region, China.
2. EARNINGS PER COMMON SHARE
In accordance with SFAS No. 128, "Earnings Per Share," the basic earnings
(loss) per common share is computed by dividing net earnings (loss) available to
common stockholders by the weighted average number of common shares outstanding.
Diluted earnings (loss) per common share is computed similarly to basic earnings
(loss) per common share, except that the denominator is increased to include the
number of additional common shares that would have been outstanding if the
potential common shares had been issued and if the additional common shares were
dilutive. For the nine months ended September 30, 2006 and 2005, the Company had
2,000,000 and 441,000 shares, respectively, of common stock equivalents at the
end of each reporting periods.
3. RELATED PARTY TRANSACTIONS
TRANSACTIONS WITH MR. YANG
As of September 30, 2006 and December 31, 2005, the Company had an outstanding
receivable from Mr. Yang, the President and Chairman of our Board of Directors,
totaling $84,060 and $102,936 representing advanced compensation paid. These
balances bear no interest and are payable on demand.
For the three months ended September 30, 2006 and 2005, the Company recorded and
paid $50,000 and $50,000, respectively, to Mr. Yang, and for the nine months
ended September 30, 2006 and 2005, the Company recorded and paid $150,000 and
$176,923, respectively, to Mr. Yang as compensation.
During the three months ended September 30, 2006 and 2005, and nine months ended
September 30, 2006 and 2005, the Company paid rent of $12,510, $23,077, $58,663
and $46,153, respectively, for Mr. Yang's personal residency as additional
compensation.
TRANSACTIONS WITH CLASSIC ELECTRONICS LTD.
During the three months ended September 30, 2006 and 2005, and nine months ended
September 30, 2006 and 2005, the Company sold $0, $1,951,509, $0 and
$18,710,411, respectively, of memory products to Classic Electronics Ltd.
("Classic"). During the three months ended September 30, 2006 and 2005, and nine
months ended September 30, 2006 and 2005, the Company purchased Samsung memory
products sourced from other authorized distributors of $0, $1,289,368, $0 and
$5,054,434, respectively, from Classic to satisfy part of its product shortage
from Samsung HK. The Company had outstanding accounts receivable from Classic
totaling $4,645,993 and $2,175,737, respectively, as of September 30, 2006 and
December 31, 2005. The Company has not experienced any bad debt from this
customer in the past. Pursuant to a written personal guarantee agreement, Mr.
Yang personally guarantees all the outstanding accounts receivable from Classic
up to $10 million.
7
The Company leased one of its facilities and Mr. Yang's personal residence from
Classic. At the end of the lease terms on July 21, 2006, ACL acquired this
facility and personal residence from Classic (see Note 8 for details). Monthly
lease payments for these 2 leases total $6,684. The Company incurred and paid
rent expense of ACL of $4,312, $20,053, 44,418 and $63,197 to Classic during the
three months ended September 30, 2006 and 2005 and the nine months ended
September 30, 2006 and 2005, respectively.
Mr. Ben Wong, a director of the Company, is a 99.9% shareholder of Classic. The
remaining 0.1% of Classic is owned by a non-related party.
On February 21, 2006, a cross corporate guarantee was executed between Classic
Electronics Limited and Atlantic Components Limited for banking facilities to be
co-utilized with Standard Chartered Bank (Hong Kong) Limited. The maximum amount
of facilities can be utilized by Atlantic was $1.154 millions (HKD9 millions)
and the facility lines was fully covered by collaterals provided by Classic
Electronics Limited and companies other than Atlantic Components Limited.
Subsequently, the cross guarantees have been released on December 7, 2006.
On July 6, 2006, a cross corporate guarantee was executed between Classic
Electronics Limited and Atlantic Components Limited for banking facilities to be
co-utilized with The Bank of East Asia Limited. The cross guarantee was
temporarily created due to selling of properties from Classic Electronics
Limited to Atlantic Components Limited. During the period of execution of the
assignment of legal title, The Bank of East Asia Limited requested a cross
guarantee for both companies. All facilities and outstanding loan balances were
booked under and utilized by Atlantic Components Limited which will not absorb
any losses from Classic Electronics Limited. Subsequently, the cross guarantees
have been released in December 8, 2006.
TRANSACTIONS WITH KADATCO COMPANY LTD.
During the three months ended September 30, 2006 and 2005, and the nine months
ended September 30, 2006 and 2005, the Company recognized revenues of $0,
$2,600,665, $0 and $5,072,859 from the sale of memory products to Kadatco
Company Ltd. ("Kadatco"). There were no outstanding accounts receivable due from
Kadatco as of September 30, 2006 and December 31, 2005. The Company has not
experienced any bad debt from this customer in the past.
Mr. Yang is the sole beneficial owner of the equity interest of Kadatco.
TRANSACTIONS WITH RAMBO TECHNOLOGIES LTD.
During the three months ended September 30, 2006 and 2005, and the nine months
ended September 30, 2006 and 2005, the Company sold $0, $0, $0 and $165,225,
respectively, to Rambo Technologies Ltd. ("Rambo"). There were no outstanding
accounts receivable due from Rambo as of September 30, 2006 and December 31,
2005. The Company has not experienced any bad debt from this customer in the
past.
During the three months ended September 30, 2006 and 2005, and the nine months
ended September 30, 2006 and 2005, the Company purchased $0, $316,708, $0 and
$874,553, respectively, from Rambo. There were no outstanding accounts payable
due to Rambo as of September 30, 2006 and December 31, 2005.
Mr. Ben Wong, a director of the Company, is a 60% shareholder of Rambo. The
remaining 40% of Rambo is owned by a non-related party. Mr. Yang is a director
of Rambo.
TRANSACTIONS WITH ARISTO TECHNOLOGIES LTD.
During the three months ended September 30, 2006 and 2005, and the nine months
ended September 30, 2006 and 2005, the Company sold $5,831,407, $508,406,
$8,482,459 and $508,406, respectively, to Aristo Technologies Ltd. ("Aristo").
Outstanding accounts receivable totaled $230,064 and $0 as of September 30, 2006
and December 31, 2005 respectively. The Company has not experienced any bad debt
from this customer in the past.
8
During the three months ended September 30, 2006 and 2005, and the nine months
ended September 30, 2006 and 2005, the Company purchased $131,328, $100,822,
$419,880 and $100,822, respectively, from Aristo. Outstanding accounts payable
totaled $0 and $0 as of September 30, 2006 and December 31, 2005 respectively.
Net accounts receivable totaled $230,064 and $0, as of September 30, 2006 and
December 31, 2005.
Mr. Alan Yang, the Company's Chief Executive Officer, majority shareholder and a
director, is the sole beneficial owner of the equity interest of Aristo.
TRANSACTIONS WITH ATLANTIC NETCOM LTD.
During the three months ended September 30, 2006 and 2005, and the nine months
ended September 30, 2006 and 2005, the Company sold $0, $0, $0 and $1,652,
respectively, to Atlantic Netcom Ltd. ("Atlantic Netcom"). Outstanding accounts
receivable totaled $0 as of September 30, 2006 and December 31, 2005,
respectively. The Company has not experienced any bad debt from this customer in
the past.
Mr. Alan Yang, the Company's Chief Executive Officer, majority shareholder and a
director, is a 60% shareholder and director of Atlantic Netcom. The remaining
40% of Atlantic Netcom is owned by a non-related party.
TRANSACTIONS WITH SOLUTION SEMICONDUCTOR (CHINA) LTD
During the three months ended September 30, 2006 and 2005, and the nine months
ended September 30, 2006 and 2005, the Company sold $0, $0 $0 and $55,122,
respectively, to Solution Semiconductor (China) Ltd. ("Solution"). Outstanding
accounts receivable totaled $0 as of September 30, 2006 and December 31, 2005.
The Company has not experienced any bad debt from this customer in the past.
During the three months ended September 30, 2006 and 2005 and the nine months
ended September 30, 2006 and 2005, the Company purchased $0, 0, $0 and $22,019,
respectively, from Solution. There are no outstanding accounts payable due to
Solution as of September 30, 2006 and December 31, 2005.
On August 31, 2006, the Company entered into a lease agreement with Solution
pursuant to which the Company leases one industrial property for office use for
a monthly lease payment of $859. The lease agreement for this property expires
on August 31, 2008. The Company incurred and paid an aggregate rent expenses of
$859 and $0 to Solution during the three months ended September 30, 2006 and
2005.
Mr. Ben Wong, a director of the Company, is a 99% shareholder of Solution. The
remaining 1% of Solution is owned by a non-related party.
TRANSACTIONS WITH SYSTEMATIC INFORMATION LTD.
During the three months ended September 30, 2006 and 2005, and the nine months
ended September 30, 2006 and 2005, the Company sold $0, $0, $0 and $61,910,
respectively, and received service charges $2,564, $0, $2,564 and $0,
respectively, from Systematic Information Ltd. ("Systematic"). There are no
outstanding accounts receivable due from Systematic as of September 30, 2006 and
December 31, 2005.
The Company has not experienced any bad debt from this customer in the past.
On April 1, 2005, the Company entered into a lease agreement with Systematic
pursuant to which the Company leases one residential property for Mr. Yang's
personal use for a monthly lease payment of $3,205. The lease agreement for this
residency expires on March 31, 2008. The Company incurred and paid an aggregate
rent expense of $9,615 to Systematic during the three months ended September 30,
2006 and 2005.
On August 31, 2006, the Company entered into a lease agreement with Systematic
pursuant to which the Company leases one industrial property for office use for
a monthly lease payment of $641. The lease agreement
9
for this property expires on August 31, 2008. The Company incurred and paid an
aggregate rent expenses of $641 and $0 to Systematic during the three months
ended September 30, 2006 and 2005.
Mr. Alan Yang, the Company's Chief Executive Officer, majority shareholder and a
director, is a director and a 100% shareholder of Systematic.
TRANSACTIONS WITH GLOBAL MEGA DEVELOPMENT LTD.
During the three months ended September 30, 2006 and 2005, and the nine months
ended September 30, 2006 and 2005, the Company sold $0, $8,657, $0 and $19,074
respectively, and received management fee $1,923, $641, 5,769 and 641,
respectively, from Global Mega Development Ltd. ("Global"). There are no
outstanding accounts receivable due from Global as of September 30, 2006 and
December 31, 2005.
Mr. Alan Yang, the Company's Chief Executive Officer, majority shareholder and a
director, is the sole beneficial owner of the equity interest of Global.
TRANSACTIONS WITH INTELLIGENT NETWORK TECHNOLOGY LTD.
During the three months ended September 30, 2006 and 2005, and the nine months
ended September 30, 2006 and 2005, we received management fee $1,923, $641,
$5,769 and 641, respectively, from Intelligent Network Technology Ltd.
("Intelligent"). There are no outstanding accounts receivable due from
Intelligent as of September 30, 2006 and December 31, 2005.
Mr. Alan Yang, the Company's Chief Executive Officer, majority shareholder and a
director, is a director and 80% shareholder of Intelligent. The remaining 20% of
Intelligent is owned by a non-related party.
TRANSACTIONS WITH SYSTEMATIC SEMICONDUCTOR LTD.
During the three months ended September 30, 2006 and 2005, and the nine months
ended September 30, 2006 and 2005, we received management fee of $3,846, $0,
$11,538 and $0, respectively, from Systematic Semiconductor Ltd. ("Systematic
Semiconductor"). There are no outstanding accounts receivable due from
Systematic Semiconductor as of September 30, 2006 and December 31, 2005.
Mr. Alan Yang, the Company's Chief Executive Officer, majority shareholder and a
director, is the sole beneficial owner of the equity interest of Systematic
Semiconductor.
TRANSACTIONS WITH TFT TECHNOLOGIES LTD.
During the three months ended September 30, 2006 and 2005, and the nine months
ended September 30, 2006 and 2005, we sold $0, $0, $0 and $1,460, respectively,
to TFT Technologies Ltd. ("TFT"). Outstanding accounts receivable totaled $0 as
of September 30, 2006 and December 31, 2005, respectively. We have not
experienced any bad debt from this customer in the past.
Mr. Alan Yang the Company's Chief Executive Officer, majority shareholder and a
director, is a director and 51% shareholder of TFT. The remaining 49% of TFT is
owned by a non-related party.
TRANSACTIONS WITH FIRST WORLD LOGISTICS LTD.
During the three months ended September 30, 2006 and 2005, and the nine months
ended September 30, 2006 and
10
2005, the Company sold $626,304, $0, $7,720,975 and $0, respectively, to First
World Logistics Ltd. ("First World"). Outstanding accounts receivable totaled $0
as of September 30, 2006 and December 31, 2005. The Company has not experienced
any bad debt from this customer in the past.
During the three months ended September 30, 2006 and 2005, and the nine months
ended September 30, 2006 and 2005, the Company purchased $0, $0, $825,900 and
$0, respectively, from First World. Outstanding accounts payable totaled $0 as
of September 30, 2006 and December 31, 2005 respectively.
Mr. Alan Yang, the Company's Chief Executive Officer, majority shareholder and a
director, is the sole beneficial owner of the equity interest of First World.
4. BANK FACILITIES
The Company has certain outstanding revolving lines of credit with Dah Sing Bank
Limited, DBS Bank (Hong Kong) Ltd., The Bank of East Asia, Limited and Standard
Chartered Bank (Hong Kong) Limited (collectively, the "Banks"). With respect to
the Company's debt and credit arrangements, the Company pledged its assets as
collateral collectively to the Banks for all current and future borrowings from
the Banks by the Company. Such borrowings are secured by:
1. a fixed cash deposit of $769,231 (HK$6,000,000) as collateral for
loans from Dah Sing Bank Limited;
2. a fixed cash deposit of $641,025 (HK$5,000,000), a security
interest on residential property and workshop located in Hong Kong
owned by Atlantic Components Ltd ("Atlantic"), a wholly owned
subsidiary of ACL, a security interest on residential property
located in Hong Kong owned by Systematic, a related party, and a
security interest on residential property located in Hong Kong
owned by City Royal Limited, a related party, as collateral for
loans from DBS Bank (Hong Kong) Ltd;
3. a fixed cash deposit of $1,282,050 (HK$10,000,000) plus personal
guarantee by Mr. Yang and Mr. Ben Wong and corporate guarantee by
Atlantic, as collateral for loans from The Bank of East Asia,
Limited;
4. Corporate guarantee by Atlantic plus unlimited personal guarantee
by Mr. Yang and Mr. Ben Wong, as collateral for maximum loan
amount of $1,153,846 (HK$9,000,000) from Standard Chartered Bank
(Hong Kong) Limited;
5. unlimited personal guarantee given by Mr. Yang together with a key
man life insurance policy on Mr. Yang for $500,000, in each case
in favor of Dah Sing Bank Limited in respect of borrowings
therefrom.
5. ECONOMIC DEPENDENCE
The Company's distribution operations are dependent on the availability of an
adequate supply of electronic components under the "Samsung" brand name which
have historically been principally supplied to the Company by Samsung
Electronics H.K. Co., Ltd. ("Samsung HK"), a subsidiary of Samsung Electronics
Co., Ltd., a Korean public company. The Company purchased approximately 76% and
77% of its materials from Samsung HK for the three months ended September 30,
2006 and 2005, respectively, and 76% and 77% for the nine months ended September
30, 2006 and 2005. However, there is no written supply contract between the
Company and Samsung HK and, accordingly, there is no assurance that Samsung HK
will continue to supply sufficient electronic components to the Company on terms
and prices acceptable to the Company or in volumes sufficient to meet the
Company's current and anticipated demand, nor can assurance be given that the
Company would be able to secure sufficient products from other third party
supplier(s) on acceptable terms. In addition, the Company's operations and
business viability is to a large extent dependent on the provision of management
services and financial support by Mr. Yang.
11
The Company is highly dependent on the product supplies from Samsung HK. If the
relationship with Samsung HK is terminated, the Company may not be able to
continue its business.
For the three months ended September 30, 2006 and 2005, and the nine months
ended September 30, 2006 and 2005, the Company purchased $22,832,844,
21,097,135, $58,201,788 and $63,940,646, respectively. At September 30, 2006 and
December 2005, accounts payable, net of rebates receivable from Samsung HK, due
to Samsung HK were $3,719,366 and $2,450,508, respectively.
6. SEGMENT REPORTING
The Company's sales are generated from Hong Kong and the rest of China and
substantially all of its assets are located in Hong Kong.
7. STOCK OPTION PLAN
The Company has a 2006 Incentive Equity Stock Plan, under which the Company may
grant options to its employees for up to 5 million shares of common stock. The
exercise price of each option should not be less than the market price of the
Company's stock on the date of grant and an option's maximum term is ten years.
Except in the case of Options granted to Officers, Directors and Consultants or
as otherwise provided in the Option Agreement, Options shall become exercisable
at a rate of no less than 20% per year over five (5) years from the date the
Options are granted. The weighted average estimated fair value of stock options
granted during 2006 was $0.064 per share. On May 16, 2006, the Company granted a
total of 2,000,000 options to three employees. The options were vested
immediately and its fair value of $128,122 was expensed during the three months
ended June 30, 2006. The fair value of the options was estimated using the
Black-Scholes valuation method, assuming a dividend yield of zero, a volatility
factor of 115%, risk-free interest rates prevailing at the option grant dates
which was approximately 3.75%, and expected option life was 0.6 year. A summary
of the status of the Company's fixed stock option plan as of September 30, 2006,
and changes during the years ending on those dates is presented below:
WEIGHTED
AVERAGE
NUMBER EXERCISE
OF SHARES PRICE
--------- ---------
Outstanding at December 31, 2005 -- $ --
Granted 2,000,000 0.22
Exercised -- --
Cancelled -- --
---------
Outstanding at September 30, 2006 2,000,000 $0.22
Options exercisable at
December 31, 2005 -- $ N/A
Options exercisable at
September 30, 2006 -- $ N/A
The following tables summarize information about fixed stock options
outstanding and exercisable at September 30, 2006:
STOCK OPTIONS OUTSTANDING
WEIGHTED AVERAGE
NUMBER OF REMAINING WEIGHTED
RANGE OF SHARES CONTRACTUAL AVERAGE
EXERCISE PRICES OUTSTANDING LIFE IN YEARS EXERCISE PRICE
--------------- ----------- ------------- --------------
$0.22 2,000,000 9.6 $0.22
12
STOCK OPTIONS EXERCISABLE
RANGE OF NUMBER OF WEIGHTED
EXERCISE SHARES AVERAGE
PRICES EXERCISABLE EXERCISE PRICE
-------- ----------- --------------
$0.22 -- N/A
8. PURCHASES OF REAL ESTATE PROPERTIES FROM CLASSIC
The Company purchased two real estate properties from Classic which were
previously leased from Classic. The purchase prices were $3,797,760 including
purchase price including certain closing costs of $143,914. The transactions
were completed on July 21,2006. The purchase prices for the properties were
based on the appraised values estimated by an independent appraiser immediately
prior to the closing of these transactions. The Company believed the apprised
values of these properties represented the fair value of these properties at the
time of the transactions. The outstanding accounts receivable due from Classic
was reduced to offset the amounts due to Classic related to these purchases.
9. RECLASSIFICATION
Certain reclassifications have been made to the 2005 condensed consolidated
financial statements to conform to the 2006 presentation.
10. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In February 2006, the FASB decided to move forward with the issuance of a final
FSP FAS 123R-4 Classification of Options and Similar Instruments Issued as
Employee Compensation That Allow for Cash Settlement upon the Occurrence of a
Contingent Event. The guidance in this FSP FAS 123R-4 amends paragraphs 32 and
A229 of FASB Statement No. 123R to incorporate the concept articulated in
footnote 16 of FAS 123R. That is, a cash settlement feature that can be
exercised only upon the occurrence of a contingent event that is outside the
employee's control does not meet the condition in paragraphs 32 and A229 until
it becomes probable that the event will occur. Originally under FAS 123R, a
provision in a share-based payment plan that required an entity to settle
outstanding options in cash upon the occurrence of any contingent event required
classification and accounting for the share based payment as a liability. This
caused an issue under certain awards that require or permit, at the holder's
election, cash settlement of the option or similar instrument upon (a) a change
in control or other liquidity event of the entity or (b) death or disability of
the holder. With this new FSP, these types of cash settlement features will not
require liability accounting so long as the feature can be exercised only upon
the occurrence of a contingent event that is outside the employee's control
(such as an initial public offering) until it becomes probable that event will
occur. The guidance in this FSP shall be applied upon initial adoption of
Statement 123(R). An entity that adopted Statement 123(R) prior to the issuance
of the FSP shall apply the guidance in the FSP in the first reporting period
beginning after February 2006. Early application of FSP FAS 123R-4 is permitted
in periods for which financial statements have not yet been issued. The Company
does not anticipate that this new FSP will have any material impact upon its
financial condition or results of operations.
In February 2006, the FASB issued SFAS 155 "Accounting for Certain Hybrid
Financial Instruments, an amendment of FASB Statements No. 133 and in February
2006, the FASB issued SFAS 155 "Accounting for Certain Hybrid Financial
Instruments, an amendment of FASB Statements No. 133 and 140". This Statement
amends FASB Statements No. 133, Accounting for Derivative Instruments and
Hedging Activities, and No. 140, Accounting for Transfers and Servicing of
Financial Assets and Extinguishments of Liabilities. This Statement
13
resolves issues addressed in Statement 133 Implementation Issue No. D1,
Application of Statement 133 to Beneficial Interests in Securitized Financial
Assets. This Statement:
a. Permits fair value re-measurement for any hybrid financial
instrument that contains an embedded derivative that otherwise would
require bifurcation;
b. Clarifies which interest-only strips and principal-only strips
are not subject to the requirements of Statement 133;
c. Establishes a requirement to evaluate interests in securitized
financial assets to identify interests that are freestanding derivatives
or that are hybrid financial instruments that contain an embedded
derivative requiring bifurcation;
d. Clarifies that concentrations of credit risk in the form of
subordination are not embedded derivatives; and
e. Amends Statement 140 to eliminate the prohibition on a qualifying
special-purpose entity from holding a derivative financial instrument that
pertains to a beneficial interest other than another derivative financial
instrument.
This Statement is effective for all financial instruments acquired or issued
after the beginning of an entity's first fiscal year that begins after September
15, 2006. The fair value election provided for in paragraph 4 of this Statement
may also be applied upon adoption of this Statement for hybrid financial
instruments that had been bifurcated under paragraph 12 of Statement 133 prior
to the adoption of this Statement. Earlier adoption is permitted as of the
beginning of an entity's fiscal year, provided the entity has not yet issued
financial statements, including financial statements for any interim period for
that fiscal year. Provisions of this Statement may be applied to instruments
that an entity holds at the date of adoption on an instrument-by-instrument
basis. The Company is currently evaluating the impact of SFAS 155.
In March 2006, the FASB issued SFAS No. 156 ("FAS 156"), "Accounting for
Servicing of Financial Assets--An Amendment of FASB Statement No. 140." Among
other requirements, FAS 156 requires a company to recognize a servicing asset or
servicing liability when it undertakes an obligation to service a financial
asset by entering into a servicing contract under certain situations. Under FAS
156 an election can also be made for subsequent fair value measurement of
servicing assets and servicing liabilities by class, thus simplifying the
accounting and provide for income statement recognition of potential offsetting
changes in the fair value of servicing assets, servicing liabilities and related
derivative instruments. The Statement will take effect beginning the first
fiscal year that begins after September 15, 2006. The Company does not expect
the adoption of FAS 156 will have a material impact on the financial position or
results of operations.
In June 2006, the FASB issued Interpretation No. 48, "Accounting for Uncertainty
in Income Taxes." This interpretation requires companies to determine whether it
is more likely than not that a tax position will be sustained upon examination
by the appropriate taxing authorities before any part of the benefit can be
recorded in the financial statements. FIN 48 provides guidance on
de-recognition, classification, accounting in interim periods and disclosure
requirements for tax contingencies. FIN 48 is effective for fiscal years
beginning after December 15, 2006. The differences between the amounts
recognized in the statements of financial position prior to the adoption of FIN
48 and the amounts reported after adoption will be accounted for as a
cumulative-effect adjustment recorded to the beginning balance of retained
earnings. The Company is evaluating the impact of this new pronouncement to its
financial position and results of operations or cash flows.
In July 2006, the FASB issued FASB Staff Position (FSP) No. FAS 13-2,
"Accounting for a Change or Projected Change in the Timing of Cash Flows
Relating to Income Taxes Generated by a Leveraged Lease Transaction," that
provides guidance on how a change or a potential change in the timing of cash
flows relating to income taxes generated by a leveraged lease transaction
affects the accounting by a lessor for the lease. This staff position will be
adopted by us on January 1, 2007. We are currently evaluating the impact of
adopting this FSP; however, we do not expect the adoption of this provision to
have a material effect on our financial position, results of operations or cash
flows.
14
In September 2006, the SEC released Staff Accounting Bulletin No. 108,
"Considering the Effects of Prior Year Misstatements when Quantifying
Misstatements in Current Year Financial Statements." SAB 108 provides
interpretive guidance on the SEC's views regarding the process of quantifying
materiality of financial statement misstatements. SAB 108 is effective for
fiscal years ending after November 15, 2006, with early application for the
first interim period ending after November 15, 2006. The Company does not expect
the adoption of SAB 108 will have a material impact on its financial position or
results of operations.
In September 2006, the FASB issued Statement No. 157, "Fair Value Measurements."
SFAS 157 defines fair value, establishes a framework and gives guidance
regarding the methods used for measuring fair value, and expands disclosures
about fair value measurements. SFAS 157 is effective for financial statements
issued for fiscal years beginning after November 15, 2007, and interim periods
within those fiscal years. The Company is evaluating the impact of this new
pronouncement to its financial position and results of operations on cash flows.
In September 2006, the FASB issued Statement No. 158, "Employers' Accounting for
Defined Benefit Pension and Other Postretirement Plans, an amendment of FASB
Statements No. 87, 88, 106, and 132(R)." SFAS 158 requires companies to
recognize the overfunded or underfunded status of a defined benefit
post-retirement plan as an asset or liability in its balance sheet and to
recognize changes in that funded status in the year in which the changes occur
through comprehensive income, effective for fiscal years ending after December
15, 2006. SFAS 158 also requires companies to measure the funded status of the
plan as of the date of its fiscal year-end, with limited exceptions, effective
for fiscal years ending after December 15, 2008. The Company does not expect the
adoption of SFAS 158 will have a material impact on our financial position or
results of operations, as the Company does not currently have any defined
benefit pension or other post-retirement plans.
15
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
THE COMPANY HAS INCLUDED IN THIS QUARTERLY REPORT CERTAIN "FORWARD-LOOKING
STATEMENTS" WITHIN THE MEANING OF THE PRIVATE SECURITIES LITIGATION REFORM ACT
OF 1995 CONCERNING THE COMPANY'S BUSINESS, OPERATIONS AND FINANCIAL CONDITION.
"FORWARD-LOOKING STATEMENTS" CONSIST OF ALL NON-HISTORICAL INFORMATION, AND THE
ANALYSIS OF HISTORICAL INFORMATION, INCLUDING THE REFERENCES IN THIS QUARTERLY
REPORT TO FUTURE REVENUE GROWTH, FUTURE EXPENSE GROWTH, FUTURE CREDIT EXPOSURE
EARNINGS BEFORE INTEREST, TAXES, DEPRECIATION AND AMORTIZATION, FUTURE
PROFITABILITY, ANTICIPATED CASH RESOURCES, ANTICIPATED CAPITAL EXPENDITURES,
CAPITAL REQUIREMENTS, AND THE COMPANY'S PLANS FOR FUTURE PERIODS. IN ADDITION,
THE WORDS "COULD", "EXPECTS", "ANTICIPATES", "OBJECTIVE", "PLAN", "MAY AFFECT",
"MAY DEPEND", "BELIEVES", "ESTIMATES", "PROJECTS" AND SIMILAR WORDS AND PHRASES
ARE ALSO INTENDED TO IDENTIFY SUCH FORWARD-LOOKING STATEMENTS.
ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THOSE PROJECTED IN THE
COMPANY'S FORWARD-LOOKING STATEMENTS DUE TO NUMEROUS KNOWN AND UNKNOWN RISKS AND
UNCERTAINTIES, INCLUDING, AMONG OTHER THINGS, UNANTICIPATED TECHNOLOGICAL
DIFFICULTIES, THE VOLATILE AND COMPETITIVE ENVIRONMENT FOR COMPUTER AND CONSUMER
ELECTRONIC PRODUCTS, CHANGES IN DOMESTIC AND FOREIGN ECONOMIC, MARKET AND
REGULATORY CONDITIONS, THE INHERENT UNCERTAINTY OF FINANCIAL ESTIMATES AND
PROJECTIONS, THE UNCERTAINTIES INVOLVED IN CERTAIN LEGAL PROCEEDINGS,
INSTABILITIES ARISING FROM TERRORIST ACTIONS AND RESPONSES THERETO, AND OTHER
CONSIDERATIONS DESCRIBED AS "RISK FACTORS" IN OTHER FILINGS BY THE COMPANY WITH
THE SEC INCLUDING ITS ANNUAL REPORT ON FORM 10-K. SUCH FACTORS MAY ALSO CAUSE
SUBSTANTIAL VOLATILITY IN THE MARKET PRICE OF THE COMPANY'S COMMON STOCK. ALL
SUCH FORWARD-LOOKING STATEMENTS ARE CURRENT ONLY AS OF THE DATE ON WHICH SUCH
STATEMENTS WERE MADE. THE COMPANY DOES NOT UNDERTAKE ANY OBLIGATION TO PUBLICLY
UPDATE ANY FORWARD-LOOKING STATEMENT TO REFLECT EVENTS OR CIRCUMSTANCES AFTER
THE DATE ON WHICH ANY SUCH STATEMENT IS MADE OR TO REFLECT THE OCCURRENCE OF
UNANTICIPATED EVENTS.
ANY REFERENCE TO "ACL", THE "COMPANY" OR THE "REGISTRANT", "WE", "OUR" OR "US"
MEANS ACL SEMICONDUCTORS INC. AND ITS SUBSIDIARIES.
OVERVIEW
CORPORATE BACKGROUND
The Company, through its wholly-owned subsidiary, Atlantic Components
Limited, a Hong Kong corporation ("Atlantic") is engaged primarily in the
business of distribution of memory products under "Samsung" brandname which
principally comprise DRAM and Graphic RAM, FLASH, SRAM and MASK ROM for the Hong
Kong and Southern China markets. The Company's wholly-owned subsidiary, Alpha
Perform Technology Limited ("Alpha"), which previously engaged in this business,
ceased activities as of January 1, 2004, when its operations were consolidated
with those of Atlantic.
As of September 30, 2006, ACL had more than 150 active customers in
Hong Kong and Southern China.
ACL is in the mature stage of operations. As a result, the
relationships between sales, cost of sales, and operating expenses reflected in
the financial information included in this document to a large extent represent
16
future expected financial relationships. Much of the cost of sales and operating
expenses reflected in our financial statements are recurring in nature.
CRITICAL ACCOUNTING POLICIES
The U.S. Securities and Exchange Commission ("SEC") recently issued
Financial Reporting Release No. 60, "CAUTIONARY ADVICE REGARDING DISCLOSURE
ABOUT CRITICAL ACCOUNTING POLICIES" ("FRR 60"), suggesting companies provide
additional disclosure and commentary on their most critical accounting policies.
In FRR 60, the SEC defined the most critical accounting policies as the ones
that are most important to the portrayal of a company's financial condition and
operating results, and require management to make its most difficult and
subjective judgments, often as a result of the need to make estimates of matters
that are inherently uncertain. Based on this definition, ACL's most critical
accounting policies include: inventory valuation, which affects cost of sales
and gross margin, policies for revenue recognition, and allowance for doubtful
accounts. The methods, estimates and judgments ACL uses in applying these most
critical accounting policies have a significant impact on the results ACL
reports in its consolidated financial statements.
INVENTORY VALUATION. Our policy is to value inventories at the lower of
cost or market on a part-by-part basis. This policy requires us to make
estimates regarding the market value of our inventories, including an assessment
of excess or obsolete inventories. We determine excess and obsolete inventories
based on an estimate of the future demand for our products within a specified
time horizon, generally 12 months. The estimates we use for demand are also used
for near-term capacity planning and inventory purchasing and are consistent with
our revenue forecasts. If our demand forecast is greater than our actual demand,
we may be required to take additional excess inventory charges, which will
decrease gross margin and net operating results in the future.
ALLOWANCE FOR DOUBTFUL ACCOUNTS. ACL maintains an allowance for doubtful
accounts for estimated losses resulting from the inability of ACL's customers to
make required payments. ACL's allowance for doubtful accounts is based on ACL's
assessment of the collectibility of specific customer accounts, the aging of
accounts receivable, ACL's history of bad debts, and the general condition of
the industry. If a major customer's credit worthiness deteriorates, or ACL's
customers' actual defaults exceed ACL's historical experience, ACL's estimates
could change and impact ACL's reported results.
RELATED PARTY TRANSACTIONS
The Company conducts business with several affiliated companies. All
the related party transactions taking place during the reporting periods were
conducted during the normal course of business. The prices of products sold to
or purchased from these related entities are in the same price ranges as those
offered to other non related customers or purchased from other vendors.
CONTRACTUAL OBLIGATIONS
The following table presents the Company's contractual obligations as of
September 30, 2006 over the next five years and thereafter:
Payments by Period
------------------------------------------------------------------------------------------------------------
LESS 1-3 4-5
THAN --- --- AFTER 5
AMOUNT 1 YEAR YEARS YEARS YEARS
------ ------ ----- ----- -----
Operating Leases 107,019 71,288 35,731 --- ---
Line of credit and notes payable -
short-term 8,868,125 8,868,125 --- --- ---
---------------------------------------------------------------------
Long Term Loans 1,986,227 87,971 191,262 206,424 1,500,570
===================================================================
Total Contractual Obligations $10,961,371 $9,027,384 $226,993 $206,424 $1,500,570
===================================================================
17
ACCOUNTING PRINCIPLES; ANTICIPATED EFFECT OF GROWTH
Below is a brief description of basic accounting principles which the
Company has adopted in determining its recognition of sales and expenses, as
well as a brief description of the effects that the Company believes its
anticipated growth will have on the Company's sales decision and expenses in the
next 12 months.
NET SALES
Sales are recognized upon the transfer of legal title of the electronic
components to the customers.
The quantities of memory products the Company sells fluctuate with the changes
in demand from its customers. The prices set by Samsung that the Company must
charge its customers are expected to fluctuate as a result of prevailing
economic conditions and their impact on the market. The Company's decision
regarding its product combination is critical for the Company's overall
performance.
Overall product demand in the semiconductor business increased significantly
during the 3rd quarter, due to the market expectation of release of Microsoft
Vista and new wave of the personal PC upgrading, stocking activity for the
components for the upcoming festival season. The company's 3rd quarter sales
increased 4.6% year-on-year basis to US$ 30.1 million, and the gross profit
achieved a stunning 50% increase to $1.2 million during the quarter ended
September 30, 2006, an improvement from a gross profit % of 2.79% during the
quarter ended September 30, 2005 to a gross profit % of 3.99% during the quarter
ended September 30, 2006.
System memory demand for both DDR 1 and DDR 2 were increasing steadily during
the quarter ended September 30, 2006 owning to the insufficient supply of
stocks, the price kept ascending and the transaction volumes remained high, in
particular the DDR 2 module and chip's output increased 20% - 30%. The
prevailing personal PC models on the market are already equipped with a minimum
of 512MB 533 MHz DDR2 module. One such example is the DELL entry level Dimension
C 521 ad E521. In line with the setting of Intel and AMD CPU, DDR 2 modules were
recognized as the industry standard. As for graphic RAM, DDR2 and DDR 3 were
generally accepted as the industry standard from 256MB - 512MB per PC system,
replacing the DDR1 256MB - 512 MB.
Flash component price moved upward surprisingly during the current quarter,
especially from end July to August 2006. The Flash prices of both contract
market and spot market showed a strong increase of up to 30% in the current
quarter from the second quarter of 2006 which was the lowest point of the year.
The improving Flash market sentiment predicted by major manufactures since end
of the first quarter in 2006 finally took place in the third quarter, which were
mainly caused by the good sales performance of Apple's iPod series. The iPod
series, shifting its core technology from mini-HDD-based storage solution to
Flash-based storage solution which, boosted the Samsung MLC (Multi-Level-Cell)
Flash demand to it's all-year-high.
The MLC (Multi-Level-Cell) Flash technology was first developed by Toshiba and
for quite a long time, Samsung concentrated its Flash technology on SLC
(Single-Level-Cell), which is generally accepted as providing a more stable and
faster performance in reading, writing and rewriting. The MLC had on the other
hand a more cost-effective advantage, with a compromise of its performance in
some products, especially for the MP3 players, where a more accurate interaction
is required between the Flash component and the control chipset. This created
challenges to many control chipset manufactures. However, as in iPod's case,
Samsung not only provided a control chipset suitable for its large storage
requirement and quick retrieval of information, but also integrated the MLC
Flash into the solution. As the Samsung MLC flash output was drained with the
production of iPod NANO 2nd generation, the prices for both the MLC and SLC
increased substantially which moved the whole Flash market higher. Although the
Flash shortage eased toward September of 2006, we largely benefited from it.
18
The Company expects both the prices and the demands for DDR 1 and DDR 2
component and modules will remain stable through the rest of the year and will
improve the Company's gross margin. We are optimistic on the FLASH memory
products in the upcoming holiday season, however, the prices may suffer slightly
after a surge of prices in the third quarter of this year. In addition, the
whole market is awaiting Microsoft's end-of-year launch of Zune MP3 player.
COST OF SALES
Cost of sales consists of costs of goods purchased from Samsung HK, and
purchases from other Samsung authorized distributors. Many factors affect the
Company's gross margin, including, but not limited to, the volume of production
orders placed on behalf of its customers, the competitiveness of the memory
products industry and the availability of cheaper Samsung memory products from
overseas Samsung distributors due to regional demand and supply situations.
Nevertheless, the Company's procurement operations are supported by Samsung HK,
although there is no written long-term supply agreement in place between
Atlantic and Samsung HK.
OPERATING EXPENSES
The Company's operating expenses for the three months and nine months
ended September 30, 2006 and 2005 comprised of selling and general and
administrative expenses.
Selling expenses consisted primarily of external commissions paid to
external sales personnel and costs associated with advertising and marketing
activities.
General and administrative expenses include cost for the corporate and
administrative functions that serve to support the Company's current and future
operations and provide an infrastructure to support future growth. Major items
in this category include management and staff salaries, rent, professional
services, and travel and entertainment. The Company expects these expenses to
increase as a result of the anticipated expansion by the Company of its business
operations. Sales and marketing expenses are expected to fluctuate as a
percentage of sales due to the addition of sales personnel and various marketing
activities planned throughout the year.
Interest expense, including finance charges, relates primarily to
Atlantic's short-term and long-term bank borrowings, which the Company intends
to reduce.
RESULTS OF OPERATIONS
The following table sets forth unaudited statements of operations data
for the three months and nine months ended September 30, 2006 and 2005 and
should be read in conjunction with the "MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS" and the Company's financial
statements and the related notes appearing elsewhere in this document.
19
THREE MONTHS THREE MONTHS NINE MONTHS NINE MONTHS
ENDED ENDED ENDED ENDED
SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30,
------------- ------------- ------------- -------------
2006 2005 2006 2005
---- ---- ---- ----
(Unaudited)
Net Sales 100% 100% 100% 100%
Cost of sales 96.01% 97.21% 96.24% 97.58%
Gross Profit 3.99% 2.79% 3.76% 2.40%
Operating expenses:
Selling 0.67% 0.44% 0.74% 0.45%
General and administrative 2.01% 1.68% 2.01% 1.72%
Total operating expenses 2.68% 2.12% 2.75% 2.17%
Income (loss) from operations 1.31% -0.67% 1.01% 0.23%
Other expenses:
Interest expenses -0.64% -0.18% -0.64% -0.18%
Miscellaneous 0.11% -0.00% 0.10% 0.00%
Income (loss) before income taxes 0.78% 0.49% 0.47% 0.05%
Income taxes expenses (benefits) 0.21% 0.11% 0.15% 0.05%
Net income (loss) 0.57% 0.38% 0.32% 0.00%
UNAUDITED THREE MONTHS ENDED SEPTEMBER 30, 2006 COMPARED TO THE THREE MONTHS
ENDED SEPTEMBER 30, 2005
NET SALES
Sales increased by $1,329,683 or 4.62% from $28,809,538 in the three
months ended September 30, 2005 to $30,139,221 in the three months ended
September 30, 2006. The increase was mainly due to the market expectation of
release of new product and the new wave of PC upgrading, stocking activities for
the components for the upcoming holiday season.
COST OF SALES
Cost of sales increased by $931,894, or 3.33%, from $28,004,464 for the
three months ended September 30, 2005 to $28,936,358 for the three months ended
September 30, 2006. The cost of sales increased in proportion to the increase of
net sales.
GROSS PROFIT
Gross profit increased by $397,789 or 49.41%, from $805,074 for the
three months ended September 30, 2005 to $1,202,863 for the three months ended
September 30, 2006. The Company's gross profit increased slightly to 3.99% of
sales in the three months ended September 30, 2006 compared to 2.79% of sales in
the three months ended September 30, 2005, as a result of the demand and price
of system memory and flash component products keeping upward for the third
quarter of 2006.
20
OPERATING EXPENSES
Selling expenses increased by $76,009 or 60.30%, from $126,060 for the
three months ended September 30, 2005 to $202,069 for the three months ended
September 30, 2006. This increase was principally attributable to sales
commission expenses incurred in the third quarter of 2006. As a percentage of
sales, sales and marketing expenses increased to 0.67% of sales for the three
months ended September 30, 2006 as compared to 0.44% of sales for the three
months ended September 30, 2005.
General and administrative expenses increased $118,001 or 24.18% from
$488,050 in the three months ended September 30, 2005 to $606,051 in the three
months ended September 30, 2006. This increase was principally attributable to
an increase in certain expenses, such as depreciation and staff salaries.
INCOME FROM OPERATIONS
Income from operations for the Company was $394,743 for the three
months ended September 30, 2006 compared to $190,964 for the three months ended
September 30, 2005, an increase of income by $203,779 or 106.71%. This increase
was the result of increase of gross profit during the third quarter of 2006.
OTHER INCOME (EXPENSES)
Interest expense increased by $138,922, or 262.01%, from $53,021 in the
three months ended September 30, 2005, to $191,943 in the three months ended
September 30, 2006. This increase is mainly due to increase of the use of the
short-term borrowings plus new mortgage loans from the bank and increase in
interest rate during the period. We expect our interest expense to continue to
increase in the fourth quarter of 2006 because of increase of interest rate.
INCOME TAX
Income tax increased by $30,662 or 98.14% from $31,243 for the three
months ended September 30, 2005 to $61,905 for the three months ended September
30, 2006, due to an increase of income before taxes for the three months ended
September 30, 2006.
NET INCOME
The Company's net income increased by $67,419 or 61.70% from $109,265
the three months ended September 30, 2005 to $176,684 for the three months ended
September 30, 2006 primarily due to increase of net sales and profit margin.
UNAUDITED NINE MONTHS ENDED SEPTEMBER 30, 2006 COMPARED TO THE NINE MONTHS ENDED
SEPTEMBER 30, 2005
NET SALES
Net sales decreased by $7,597,669 or 9.05% from $83,956,406 in the nine
months ended September 30, 2005 to $76,358,737 in the nine months ended
September 30, 2006. This decrease resulted primarily due to drop in demand and
shortage of supplies of Samsung products while there was additionally the "World
Cup" effect slowing down the consumer spending for the first half year of 2006.
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COST OF SALES
Cost of sales decreased by $8,448,799 or 10.31% from $81,937,853 in the
nine months ended September 30, 2005 to $73,489,054 in the nine months ended
September 30, 2006. The cost of sales decreased in proportion to the decrease of
net sales.
GROSS PROFIT
Gross profit increased by $851,130 or 42.17% from $2,018,553 in the
nine months ended September 30, 2005 to $2,869,683 in the nine months ended
September 30, 2006. The gross profit % increased by 1.35% from 2.40% in the nine
months ended September 30, 2005 to 3.76% in the nine months ended September 30,
2006. The increase in gross profit % was primarily attributable to the shortage
of supplies of Samsung products for the third quarter ended of 2006. We expect
the gross profit to be at this level in the coming months, but it will improve
if the Company can successfully diversify its businesses and products.
OPERATING EXPENSES
Selling expenses increased by $190,856 or 50.91% from $374,891 in the
nine months ended September 30, 2005 to $565,747 in the nine months ended
September 30, 2006. The increase was primarily attributable to the sales
commission expenses incurred for the third quarter of 2006.
General and administrative expenses increased by $92,024 or 6.36% from
$1,446,025 in the nine months ended September 30, 2005 to $1,538,049 in the nine
months September 30, 2006. This increase was principally attributable to the
fair value of options granted to certain employees in 2006. ACL expects the
general and administrative expenses in the remaining quarter of 2006 be at the
same approximate level as the third quarter of 2006.
INCOME FROM OPERATIONS
Income from operations increased by $568,250 or 287.52% from $197,637
in the nine months ended September 30, 2005 to $765,887 in the nine months ended
September 30, 2006. The increase was mainly due to an increase in gross profit
which as mentioned above increased by $851,130.
OTHER INCOME (EXPENSES)
Interest expenses increased by $334,023 or 218.21% from $153,075 in the
nine months ended September 30, 2005 to $487,098 in the nine months ended
September 30, 2006. This increase is mainly due to increase of the use of the
short-term borrowings plus new mortgage loans from the bank and increase in
interest rate. We expect our interest expense to continue to increase in 2006
because of increased interest rates.
INCOME TAX
Income tax increased by $72,796 or 178.68% from $40,742 in the nine
months ended September 30, 2005 to $113,538 in the nine months ended September
30, 2006 due to an increase of profit for the nine months ended September 30,
2006.
NET INCOME
Net income increased by $245,124 or 8,779.51% from $2,792 in the nine
months ended September 30, 2005 to $247,916 in the nine months ended September
30, 2006. It is mainly due to increase in gross profit.
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LIQUIDITY AND CAPITAL RESOURCES
The Company's principal sources of liquidity have historically been
cash provided by operations, bank lines of credit and credit terms from
suppliers. The Company's principal uses of cash have been for operations and
working capital. The Company anticipates these uses to continue to be its
principal uses of cash in the future.
The Company may require additional financing in order to finance its
growing business and to implement its business plan. In order to meet
anticipated demand for Samsung's memory products in the Southern China market
over the next 12 months, the Company anticipates an additional need of working
capital of at least $2.0 million through short-term borrowings from the banks in
order to finance the purchase of Samsung memory products from Samsung HK and
credits given to its customers. As the anticipated cash generated by the
Company's operations are insufficient to fund its growth, the Company needs to
continue borrowing or raising additional working capital. There is no assurance
that the Company will be able to obtain the necessary additional capital on a
timely basis or on acceptable terms, if at all. The Company's business growth
and prospects would be materially and adversely affected. If it is an equity
financing, the holders of the Company's common stock may experience substantial
dilution. In addition, as our operating results may be negatively impacted and
thus delayed as a result of political and economic factors beyond the
management's control, the Company's capital requirements may increase.
The following factors, among others, could cause actual results to
differ from the expected results: pricing pressures in the industry; a downturn
in the economy in general or in the memory products sector; an unexpected
decrease in demand for Samsung's memory products; a decrease in our ability to
attract new customers; an increase in competition in the memory products market;
and the ability of our customers to obtain financing. These factors or
additional risks and uncertainties not known to ACL or that currently deemed
immaterial may impair business operations and may cause ACL's actual results to
differ materially from any forward-looking statement.
Although we believe our expectations of future growth are reasonable,
ACL cannot guarantee future results, levels of activity, performance or
achievements. ACL is under no duty to update our expectation after the date of
this report to conform them to actual results or to make changes in our
expectations.
In the nine months ended September 30, 2006, net cash used for
operating activities was $4,232,869 while in the nine months ended September 30,
2005, net cash provided by operating activities was $766,037, an increase in net
cash used for operating activities of $4,998,906. This increase was primarily
due to increase of inventories value and accounts receivable from related
parties at September 30, 2006.
In the nine months ended September 30, 2006, net cash used for
investing activities was $5,709,714 while in the nine months ended September 30,
2005, ACL used $153,617 in investing activities, an increase in cash used to
$5,556,097. Increase was primarily due to the increase of purchases of fixed
assets and restricted cash deposited with the bank as part of the terms for its
bank borrowings during the nine months ended September 30, 2006.
In the nine months ended September 30, 2006, net cash provided by
financing activities was $8,012,067 while in the nine months ended September 30,
2005, net cash used for financing activities was $927,121, an increase of
$8,939,188. Increase was primarily due to increase of advance on long-term debt
and borrowings on the lines of credit and loan facilities.
An essential element of the Company's growth in the future will be to
obtain adequate additional working capital to meet anticipated market demand
from PC users (business and personal) in the southern part of China and to
diversify its businesses and products in the near future.
ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
ACL is exposed to market risk for changes in interest rates as its bank
borrowings accrue interest at floating rates of 0.25% to 0.5% over the Best
Lending Rate (currently at the range of 8.0 to 8.25% per annum) prevailing in
Hong Kong. For the nine months ended September 30, 2006 and the nine months
ended September 30,
23
2005, ACL did not generate any material interest income or incur significant
interest expenses. Due to the increase in the line of credit and notes payables
in 2006, ACL believes that changes in interest rates may have a material effect
on its liquidity, financial condition or results of operations.
IMPACT OF INFLATION
ACL believes that its results of operations are not significantly
impacted by moderate changes in inflation rates as it expects it will be able to
pass these costs by component price increases to its customers.
SEASONALITY
ACL has not experienced any material seasonality in sales fluctuations
over the past 2 years in the memory products markets; however, it does
anticipate an increase in sales of DIMM memory products as a result of the
fourth quarter of 2006.
ITEM 4. CONTROLS AND PROCEDURES
The Company has established disclosure controls and procedures to
ensure that material information relating to the Company, including Atlantic, is
made known to the officers who certify the Company's financial reports and to
other members of senior management and the Board of Directors.
(a) Based on their evaluation as of a date within 90 days of the filing
date of this Quarterly Report on Form 10-Q, our chief executive officer and
chief financial officer have concluded that our disclosure controls and
procedures (as defined in Rules 13a-14(c) and 15d-14(c) under the Securities
Exchange Act of 1934 (the "Exchange Act")) are effective to ensure that
information required to be disclosed by the Company in reports that it files or
submits under the Exchange Act is recorded, processed, summarized and reported
within the time periods specified in Securities and Exchange Commission rules
and forms.
(b) There were no significant changes in internal controls or in other
factors that could significantly affect these controls subsequent to the date of
their evaluation. Although there were no significant deficiencies or material
weaknesses, there were some areas where room for improvement was noted and
management has committed to improving in these areas. The Company has adopted
many of the formal and informal suggestions of its former auditors, Stonefield
Josephson, Inc., and is implementing weekly and monthly checks to assure that
these disclosure controls and internal controls stay in place.
The regulations implementing Section 404 of the Sarbanes-Oxley Act of 2002
require an assessment of the effectiveness of the Company's internal controls
over financial reporting beginning with our Annual Report on Form 10-K for the
fiscal year ending on or after July 15, 2007. The Company's independent auditors
will be required to confirm in writing whether management's assessment of the
effectiveness of the internal controls over financial reporting is fairly stated
in all material respects, and separately report on whether they believe
management maintained, in all material respects, effective internal control over
financial reporting as of December 31, 2007.
As part of the assessment of our internal controls in connection with the
process required by Section 404 of the Sarbanes-Oxley Act of 2002, management
intends to continue to review, evaluate and strengthen our controls and
processes. Management cannot state that material weaknesses in internal controls
will not be determined. Management also cannot state that the process of
evaluation and the auditor's attestation will be completed on time. If a
material weakness is discovered, corrective action may be time consuming, costly
and further divert the attention of management. The disclosure of a material
weakness, even if quickly remedied, could reduce the market's confidence in the
Company's financial statements and harm the Company's stock price, especially if
a restatement of financial statements for past periods is required.
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PART II
ITEM 6. EXHIBITS AND REPORTS ON FORM 10-Q
(a) Exhibits:
31.1 Certification of Chief Executive Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002
31.2 Certification of Chief Financial Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002
32.1 Certification of Chief Executive Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
32.2 Certification by Chief Financial Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
(b) Reports on Form 8-K.
We filed the following current reports on Form 8-K during the period from
April 1, 2006 to August 5, 2006:
Form 8-K filed April 13, 2006 relating to items 1.01 and 9.01
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SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the
Registrant caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
ACL SEMICONDUCTORS INC.
Date: December 20, 2006 By: /s/ Chung-Lun Yang
-------------------------------
Chung-Lun Yang
Chief Executive Officer
Date: December 20, 2006 By: /s/ Kenneth Lap-Yin Chan
-------------------------------
Kenneth Lap-Yin Chan
Chief Financial Officer (Principal
Accounting Officer)
26