UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES ACT OF
1934
For the quarterly period ended June 30, 2005
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES ACT
OF 1934
For the transition period from ________ to _________
Commission file number: 333-42036
SOYO Group, Inc.
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(Exact name of registrant as specified in its charter)
Nevada 95-4502724
------------------------------- ----------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
1420 South Vintage Avenue, Ontario, California 91761
---------------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
(909) 292-2500
----------------------------------------------------
(Registrant's telephone number, including area code)
Not Applicable
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(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Rule 12b-2 of the Act). [ ]
As of August 15, 2005, the registrant had 44,408,200 shares of common
stock issued and outstanding.
Documents incorporated by reference: None.
SOYO GROUP, INC. AND SUBSIDIARY
INDEX
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets - June 30, 2005
(Unaudited) and December 31, 2004
Condensed Consolidated Statements of Operations (Unaudited) -
Three Months and Six Months Ended June 30, 2005 and 2004
Condensed Consolidated Statements of Cash Flows (Unaudited) -
Six Months Ended June 30, 2005 and 2004
Notes to Condensed Consolidated Financial Statements
(Unaudited) - Three Months and Six Months Ended June 30,
2005 and 2004
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Item 4. Controls and Procedures
PART II. OTHER INFORMATION
Item 2. Changes in Securities, Use of Proceeds and Issuer Purchases of
Equity Securities
Item 6. Exhibits and Reports on Form 8-K
SIGNATURES
2
SOYO Group, Inc. and Subsidiary
Condensed Consolidated Balance Sheets
June 30, December 31,
2005 2004
------------ ------------
(Unaudited)
ASSETS
CURRENT
Cash and cash equivalents $ 147,045 $ 1,288,351
Accounts receivable, net of
allowance for doubtful accounts
of $1,051,458 and $1,074,550 at
June 30, 2005 and December 31,
2004, respectively 5,281,385 2,076,882
Inventories, including $0
and $1,893,442 purchased from
SOYO Computer, Inc. at June 30,
2005 and December 31, 2004,
respectively 2,965,422 3,861,911
Prepaid expenses 3,937 25,416
Income tax refund receivable 47,000 47,000
------------ ------------
8,444,789 7,300,560
------------ ------------
Property and equipment 202,903 245,153
Less: accumulated depreciation
and amortization (98,174) (80,087)
------------ ------------
104,729 165,066
------------ ------------
Deposits 18,972 34,811
------------ ------------
$ 8,568,490 $ 7,500,437
============ ============
(continued)
3
SOYO Group, Inc. and Subsidiary
Condensed Consolidated Balance Sheets (continued)
June 30, December 31,
2005 2004
------------ ------------
(Unaudited)
LIABILITIES
CURRENT
Accounts payable -
SOYO Computer, Inc. $ 0.00 $ 1,314,910
Other 7,262,070 8,259,762
Accrued liabilities 216,398 829,043
Advances from officer,
director and major
shareholder 180,000 240,000
Note payable 913,750 913,750
------------ ------------
8,572,218 11,557,465
------------ ------------
NON-CURRENT
Long-term payable - SOYO
Computer, Inc. -- --
------------ ------------
SHAREHOLDERS' DEFICIENCY
Preferred stock, $0.001 par value
Authorized - 10,000,000 shares
Issued and outstanding -
1,000,000 shares of Class A
Convertible Preferred Stock,
$1.00 per share stated
liquidation value
($1,000,000 aggregate
liquidation value) 1,000 1,000
2,653,408 shares of Class B
Convertible Preferred Stock,
$1.00 per share stated
liquidation value
($2,500,000 aggregate
liquidation value) 1,609,404 1,527,733
Common stock, $0.001 par value
Authorized - 75,000,000 shares
Issued and outstanding -
44,408,200 shares 44,408 40,000
Additional paid-in capital 14,710,139 11,155,000
Accumulated deficit (16,368,679) (16,780,761)
------------ ------------
(3,728) (4,057,028)
------------ ------------
$ 8,568,490 $ 7,500,437
============ ============
See accompanying notes to condensed consolidated financial statements.
4
SOYO Group, Inc. and Subsidiary
Condensed Consolidated Statements of Operations (Unaudited)
Three Months Ended June 30,
----------------------------
2005 2004
------------ ------------
Net revenues $ 8,494,311 $ 10,194,388
Cost of revenues, including
inventories purchased from SOYO
Computer, Inc. of $0
and $4,237,613 in 2005 and
2004, respectively 7,739,439 9,795,416
------------ ------------
Gross margin 754,872 398,972
------------ ------------
Costs and expenses:
Sales and marketing 124,029 262,136
General and administrative 881,355 1,027,198
Provision for doubtful accounts 3,390 29,462
Depreciation and amortization 9,338 4,212
------------ ------------
Total costs and expenses 1,018,112 1,323,008
------------ ------------
Income (loss) from operations (263,240) (924,036)
------------ ------------
Other income (expense):
Interest income -- --
Interest expense 12,157 (4,745)
Miscellaneous revenue (377,516) --
------------ ------------
Other revenue (expense), net 365,359 (4,745)
------------ ------------
Income (loss) before provision for
income taxes 102,119 (928,781)
Provision for income taxes -- --
------------ ------------
Net income (loss) $ 102,119 $ (928,781)
============ ============
Less: Dividends on Class B
Convertible Preferred Stock (42,458) (71,773)
Net Income attributable to
Common Shareholders $ 59,661 $ (1,000,554)
Net income per common share -
Basic $ 0.00 $ (0.03)
Diluted $ 0.00 $ (0.03)
Weighted average number of
common shares outstanding -
Basic 42,469,100 40,000,000
Diluted 47,340,310 46,666,667
5
SOYO Group, Inc. and Subsidiary
Condensed Consolidated Statements of Operations (Unaudited)
Six Months Ended June 30,
----------------------------
2005 2004
------------ ------------
Net revenues $ 12,456,830 $ 18,788,690
Cost of revenues, including
inventories purchased from SOYO
Computer, Inc. of $0
and $9,953,689 in 2005 and
2004, respectively 11,179,925 17,276,550
------------ ------------
Gross margin 1,276,905 1,512,140
------------ ------------
Costs and expenses:
Sales and marketing 363,494 299,288
General and administrative 1,815,328 1,837,581
Provision for doubtful accounts 34,513 196,335
Depreciation and amortization 18,087 8,267
------------ ------------
Total costs and expenses 2,231,422 2,341,471
------------ ------------
Income (loss) from operations (954,517) (829,331)
------------ ------------
Other income (expense):
Interest income -- --
Interest expense (23,378) (4,745)
Miscellaneous revenue 1,466,688 --
------------ ------------
Other income (expense), net 1,443,310 4,745
------------ ------------
Income (loss) before provision for
income taxes 488,793 (834,076)
Provision for income taxes -- --
------------ ------------
Net income (loss) $ 488,793 $ (834,076)
============ ============
Less: Dividends on Class B
Convertible Preferred Stock 81,671 71,773
Net Income (loss) attributable to
Common Shareholders $ 407,122 (834,076)
Net income (loss) per common share -
Basic $ 0.01 $ (0.02)
Diluted $ 0.01 $ (0.02)
Weighted average number of
common shares outstanding -
Basic 42,469,100 40,000,000
Diluted 47,340,310 46,666,667
See accompanying notes to condensed consolidated financial statements.
6
SOYO Group, Inc. and Subsidiary
Condensed Consolidated Statements of Cash Flows (Unaudited)
Six Months Ended June 30,
--------------------------
2005 2004
----------- -----------
OPERATING ACTIVITIES
Net income $ 488,793 $ (834,076)
Adjustments to reconcile net
income to net cash used in
operating activities:
Depreciation and
amortization 18,087 8,267
Provision for doubtful
accounts 34,513 196,335
Changes in operating
assets and liabilities:
(Increase) decrease in:
Accounts receivable (3,239,016) 526,759
Inventories 896,489 (1,861,849)
Prepaid expenses 21,479 28,593
Deposits 15,840 5,000
Increase (decrease) in:
Accounts payable -
SOYO Computer, Inc. (1,314,910) (1,071,817)
Accounts payable -
other (997,692) 1,604,345
Accrued liabilities (570,187) 232,734
Income taxes payable -- --
----------- -----------
Net cash used in operating
activities (4,646,604) (1,165,709)
----------- -----------
INVESTING ACTIVITIES
Purchase of property and
equipment (50,911) (119,694)
Proceeds from sale of equipment 56,662 --
----------- -----------
Net cash used in investing
activities 5,751 (119,694)
----------- -----------
(continued)
7
SOYO Group, Inc. and Subsidiary
Condensed Consolidated Statements of Cash Flows (Unaudited) (continued)
Six Months Ended June 30,
----------------------------
2005 2004
------------ ------------
FINANCING ACTIVITIES
Advances from officer,
director and major
shareholder $ (60,000) $ 178,573
Proceeds from issuance
of note payable -- 913,750
Proceeds from issuance of
Common Stock 3,559,547 --
------------ ------------
Net cash provided by
financing activities 3,499,547 1,092,323
------------ ------------
CASH AND CASH EQUIVALENTS
Net decrease (1,141,306) (193,080)
At beginning of period 1,288,351 717,196
------------ ------------
At end of period $ 147,045 $ 524,116
============ ============
SUPPLEMENTAL DISCLOSURE OF
CASH FLOW INFORMATION
Cash paid for -
Interest $ -- $ --
Income taxes $ -- $ --
NON-CASH INVESTING AND
FINANCING ACTIVITIES
Issuance of 2,500,000
shares of Class B
Convertible Preferred
Stock as settlement of
$12,000,000 long-term
payable -
Preferred stock $ -- $ 1,304,000
Additional paid-in
capital -- $ 10,696,000
Accreted dividends
Added to preferred
Stock $ 81,671 $ 71,773
Non-Cash dividends $ -- $ --
See accompanying notes to condensed consolidated financial statements.
8
SOYO Group, Inc. and Subsidiary
Notes to Condensed Consolidated Financial Statements (Unaudited)
Three Months and Six Months Ended June 30, 2005 and 2004
1. Organization and Basis of Presentation
Organization - Effective October 24, 2002, Vermont Witch Hazel Company, Inc., a
Nevada corporation ("VWHC"), acquired SOYO, Inc., a Nevada corporation ("SOYO
Nevada"), from SOYO Computer, Inc., a Taiwan corporation ("SOYO Taiwan), in
exchange for the issuance of 1,000,000 shares of convertible preferred stock and
28,182,750 shares of common stock, and changed its name to SOYO Group, Inc.
("SOYO"). The 1,000,000 shares of preferred stock were issued to SOYO Taiwan and
the 28,182,750 shares of common stock were issued to certain members of SOYO
Nevada management.
Subsequent to this transaction, SOYO Taiwan maintained an equity interest in
SOYO, continued to be the primary supplier of inventory to SOYO, and was a major
creditor. In addition, there was no change in the management of SOYO and no new
capital invested, and there was a continuing family relationship between certain
members of the management of SOYO and SOYO Taiwan. As a result, this transaction
was accounted for as a recapitalization of SOYO Nevada, pursuant to which the
accounting basis of SOYO Nevada continued unchanged subsequent to the
transaction date. Accordingly, the pre-transaction financial statements of SOYO
Nevada are now the historical financial statements of the Company.
In conjunction with this transaction, SOYO Nevada transferred $12,000,000 of
accounts payable to SOYO Taiwan to long-term payable, without interest, due
December 31, 2005. During the three months ended March 31, 2004, the Company
agreed with a third party to convert the long-term payable into convertible
preferred stock.
SOYO Taiwan also agreed to continue to provide computer parts and components to
SOYO on an open account basis at the quantities required and on a timely basis
to enable SOYO to continue to conduct its business operations at budgeted
levels, which is not less than a level consistent with the operations of SOYO
Nevada's business in 2001 and 2000. This supply commitment is effective through
December 31, 2005, however in the quarter ended June 30, 2005, SOYO did not buy
any products from SOYO Taiwan.
On December 9, 2002, SOYO's Board of Directors elected to change SOYO's fiscal
year end from July 31 to December 31 to conform to SOYO Nevada's fiscal year
end.
On October 24, 2002, the primary members of SOYO Nevada management were Ming
Tung Chok, the Company's President, Chief Executive Officer and Director, and
Nancy Chu, the Company's Chief Financial Officer. Ming Tung Chok and Nancy Chu
are husband and wife. Andy Chu, the President and major shareholder of SOYO
Taiwan, is the brother of Nancy Chu.
9
Unless the context indicates otherwise, SOYO and its wholly-owned subsidiary,
SOYO Nevada, are referred to herein as the "Company".
Basis of Presentation - The accompanying condensed consolidated financial
statements include the accounts of SOYO and SOYO Nevada. All significant
intercompany accounts and transactions have been eliminated in consolidation.
The condensed consolidated financial statements have been prepared in accordance
with United States generally accepted accounting principles.
Interim Financial Statements - The accompanying interim condensed consolidated
financial statements are unaudited, but in the opinion of management of the
Company, contain all adjustments, which include normal recurring adjustments,
necessary to present fairly the financial position at June 30, 2005, the results
of operations for the three and six months ended June 30, 2005 and 2004, and
cash flows for the three and six months ended June 30, 2005 and 2004. The
condensed consolidated balance sheet as of December 31, 2004 is derived from the
Company's audited consolidated financial statements.
Certain information and footnote disclosures normally included in financial
statements that have been prepared in accordance with accounting principles
generally accepted in the United States have been condensed or omitted pursuant
to the rules and regulations of the Securities and Exchange Commission, although
management of the Company believes that the disclosures contained in these
condensed consolidated financial statements are adequate to make the information
presented therein not misleading. For further information, refer to the
consolidated financial statements and the notes thereto included in the
Company's Annual Report on Form 10-K for the fiscal year ended December 31,
2004, as filed with the Securities and Exchange Commission.
The preparation of financial statements in conformity with United States general
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities,
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenues and expenses during the
reporting period. Significant estimates primarily relate to the realizable value
of accounts receivable, vendor programs and inventories. Actual results could
differ from those estimates.
The results of operations for the three and six months months ended June 30,
2005 is not necessarily indicative of the results of operations to be expected
for the full fiscal year ending December 31, 2005.
Business - Historically, the Company has sold computer components and
peripherals to distributors and retailers primarily in North, Central and South
America. In 2005, the Company has undergone a change in its core business
offerings. Although SOYO still sells computer components and peripherals, the
majority of the company's revenue in 2005 and the future will come from consumer
electronics and communications products.
Earnings Per Share - Statement of Financial Accounting Standards No. 128,
"Earnings Per Share", requires presentation of basic earnings per share ("Basic
EPS") and diluted earnings per share ("Diluted EPS"). Basic income per share is
computed by dividing net income available to common shareholders by the weighted
average number of common shares outstanding during the period. Diluted income
per share gives effect to all dilutive potential common shares outstanding
during the period. Potentially dilutive securities consist of the outstanding
shares of preferred stock.
10
As of June 30, 2005, potentially dilutive securities consisted of 1,000,000
shares of Class A Convertible Preferred Stock with a stated liquidation value of
$1.00 per share that are convertible into common stock at fair market value, and
2,653,408 shares of Class B Convertible Preferred Stock with a stated
liquidation value of $1.00 per share that are convertible into common stock at
fair market value, but not less than $0.25 per share.
As of June 30, 2005, 4,871,210 shares of common stock were issuable upon
conversion of the Class A Convertible Preferred Stock and the Class B
Convertible Preferred Stock, consisting of 1,333,333 shares of common stock
issuable upon conversion of the Class A Convertible Preferred Stock, based on
the closing price of $0.75 per common share at June 30, 2005, and 3,537,877
shares of common stock issuable upon conversion of the Class B Convertible
Preferred Stock, based on the $0.75 per share conversion price.
As of June 30, 2004, 16,666,667 shares of common stock were issuable upon
conversion of the Class A Convertible Preferred Stock, based on the closing
price of $0.19 per common share at June 30, 2004.
Comprehensive Income (Loss) - The Company displays comprehensive income or loss,
its components and accumulated balances in its consolidated financial
statements. Comprehensive income or loss includes all changes in equity except
those resulting from investments by owners and distributions to owners. The
Company did not have any items of comprehensive income (loss) during the three
or six months ended June 30, 2005 and 2004.
Significant Risks and Uncertainties - The Company operates in a highly
competitive industry subject to aggressive pricing practices, pressures on gross
margins, frequent introductions of new products, rapid technological advances,
continual improvement in product price/performance characteristics, and changing
consumer demand.
As a result of the dynamic nature of the business, it is possible that the
Company's estimates with respect to the realizability of inventories and
accounts receivable may be materially different from actual amounts. These
differences could result in higher than expected allowance for bad debts or
inventory reserve costs, which could have a materially adverse effect on the
Company's financial position and results of operations.
Stock-Based Compensation - The Company has adopted Statement of Financial
Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS
No. 123"), which establishes a fair value method of accounting for stock-based
compensation plans, as amended by Statement of Financial Accounting Standard No.
148, "Accounting for Stock-Based Compensation - Transition and Disclosure"
("SFAS No. 148").
The provisions of SFAS No. 123 allow companies to either expense the estimated
fair value of stock options or to continue to follow the intrinsic value method
set forth in Accounting Principles Board Opinion No. 25, "Accounting for Stock
Issued to Employees", but to disclose the pro forma effect on net loss and net
loss per share had the fair value of the stock options been exercised. The
Company has elected to continue to account for stock-based compensation plans
utilizing the intrinsic value method. Accordingly, compensation cost for stock
options will be measured as the excess, if any, of the fair market price of the
Company's common stock at the date of grant above the amount an employee must
pay to acquire the common stock.
11
In accordance with SFAS No. 123, as amended by SFAS No. 148, the Company will
provide prominent footnote disclosure with respect to stock-based employee
compensation, and the effect of the method used on reported results. The value
of a stock-based award will be determined using the Black-Scholes option-pricing
model, whereby compensation cost is the fair value of the award as determined by
the pricing model at the grant date or other measurement date. The resulting
amount will be charged to expense on the straight-line basis over the period in
which the Company expects to receive benefit, which is generally the vesting
period. Stock options issued to non-employee directors at fair market value will
be accounted for under the intrinsic value method.
The Company has not issued any stock-based compensation to date. Accordingly, no
pro forma financial disclosure has been presented.
2. Advances from Officer, Director and Major Shareholder
During March 2003, Nancy Chu, the Company's Chief Financial Officer, director
and major shareholder, made short-term advances to the Company of $360,000 for
working capital purposes, of which $120,000 was repaid during September
2003,$60,000 was repaid during March 2005.
3. Note Payable
On March 29, 2004, LGT Computer, Inc. loaned the Company $213,750 pursuant to an
unsecured note payable due March 28, 2005, with interest at 4% per annum. On May
29, 2004, LGT Computer, Inc. loaned the Company an additional $700,000 pursuant
to an unsecured note payable due May 29, 2005, with interest at 4% per annum. On
March 28, 2005, by mutual agreement of the parties, the due date of the notes
were extended one year at the same interest rate. The new due date of the first
loan is March 28, 2006. The new due date of the second loan is May 29, 2006.
4. Equity-Based Transactions
Effective December 30, 2003, SOYO Taiwan entered into an agreement with an
unrelated third party to sell the $12,000,000 long-term payable due it by the
Company. As part of the agreement, SOYO Taiwan required that the purchaser would
be limited to collecting a maximum of $1,630,000 of the $12,000,000 from the
Company without the prior consent of SOYO Taiwan. In substance, SOYO Taiwan
forgave debt in an amount equal to the difference between the $12,000,000 and
the value of the preferred stock issued in settlement of this debt. This
forgiveness of debt was treated as a capital transaction. Payment from the third
party was received by SOYO Taiwan in February and March 2004. An agreement was
reached during the three months ended March 31, 2004 whereby 2,500,000 shares of
Class B preferred stock would be issued by the Company to the unrelated third
party in exchange for the long-term payable.
The Class B preferred stock has a stated liquidation value of $1.00 per share
and a 6% dividend, payable quarterly in arrears, in the form of cash, additional
shares of preferred stock, or common stock, at the option of the Company. The
Class B preferred stock has no voting rights. The shares of Class B preferred
stock are convertible, in increments of 100,000 shares, into shares of common
stock based on the $1.00 stated value, at any time through December 31, 2008,
based on the fair market value of the common stock, subject, however, to a
minimum conversion price of $0.25 per share. No more than 500,000 shares of
Class B preferred stock may be converted into common stock in any one year. On
December 31, 2008, any unconverted shares of Class B preferred stock
automatically convert into shares of common stock based on the fair market value
12
of the common stock, subject, however, to a minimum conversion price of $0.25
per share. Beginning one year after issuance, upon ten days written notice, the
Company or its designee will have the right to repurchase for cash any portion
or all of the outstanding shares of Class B preferred stock at 80% of the
liquidation value ($0.80 per share). During such notice period, the holder of
the preferred stock will have the continuing right to convert any such preferred
shares pursuant to which written notice has been received into common stock
without regard to the conversion limitation. The Class B preferred stock has
unlimited piggy-back registration rights, and is non-transferrable.
The Company recorded the issuance of the Class B preferred stock at its fair
market value on March 31, 2004 of $1,304,000, which was determined by an
independent investment banking firm. The $10,696,000 difference between the
$12,000,000 long-term payable and the $1,304,000 fair market value of the Class
B preferred stock was credited to additional paid-in capital. The difference
between the fair market value and the liquidation value of the Class B preferred
stock is being recognized as an additional dividend to the Class B preferred
stockholder, and as a reduction to earnings available to common stockholders,
and will be accreted from April 1, 2004 through December 31, 2008.
During the second quarter of 2005, the Company was able to reach final agreement
with two former suppliers over unpaid debts. To settle the debts, the Company
issued 2,408,200 shares of its common stock to the entities in return for the
retirement of $2,059,548 of debt. Additionally, 1,470,000 shares were issued to
a Company insider who used personal funds to pay off $1,000,000 of Comapany
debt. All of the shares issued were Section 144 restricted shares.
5. Significant Concentrations
a. Customers
The Company sells to both distributors and retailers. Revenues through such
distribution channels are summarized as follows:
Three Months Ended June 30, Six Months Ended June 30,
--------------------------- ----------------------------
2005 2004 2005 2004
------------ ------------ ------------ ------------
Revenues
Retailers $ 6,600,654 $ 5,231,703 $ 9,121,834 $ 11,578,540
Distributors 2,146,678 4,876,737 3,588,017 6,984,557
Others (253,021) 85,948 (253,021) 225,593
------------ ------------ ------------ ------------
$ 8,494,311 $ 10,194,388 $ 12,456,830 $ 18,788,690
============ ============ ============ ============
During the three months ended June 30, 2005 and 2004, the Company offered price
protection to certain customers under specific programs aggregating $6,640 and
$70,959, respectively, which reduced net revenues and accounts receivable
accordingly.
During the six months ended June 30, 2005 and 2004, the Company offered price
protection of $106,912 and $74,589 to customers.
Information with respect to customers that accounted for 10% or more of the
Company's revenues is presented below.
13
During the three months ended June 30, 2005, the Company had two customers that
accounted for revenues of $1,470,669 and $4,466,854, equivalent to 19.9% and
60.5% of net revenues, respectively. The two customers were TigerDirect.com and
E23 Inc.
During the six months ended June 30, 2005 the Company had two customers that
accounted for revenues of $1,544,934 and $5,802,954, equivalent to 13.2% and 53%
of net revenues, respectively. The two customers were TigerDirect.com and E23
Inc.
b. Geographic Segments
Financial information by geographic segments is summarized as follows:
Three Months Ended June 30, Six Months Ended June 30,
--------------------------- ---------------------------
2005 2004 2005 2004
------------ ------------ ------------ ------------
Revenues
North America $ 3,733,559 $ 7,554,427 $ 5,294,391 $ 14,290,159
Central and
South America 247,929 2,551,877 528,552 4,270,125
Other locations 4,512,823 88,084 6,633,887 228,406
------------ ------------ ------------ ------------
$ 8,494,311 $ 10,194,388 $ 12,456,830 $ 18,788,690
============ ============ ============ ============
c. Suppliers
Through October 24, 2002, SOYO Nevada was a wholly-owned subsidiary of SOYO
Taiwan (see Note 1). Subsequent to that date, SOYO Taiwan has agreed to provide
inventory to SOYO on an open account basis through December 31, 2005.
The following is a summary of the Company's transactions and balances with SOYO
Taiwan as of June 30, 2005 and December 31, 2004, and for the three months ended
June 30, 2005 and 2004:
June 30, December 31,
2005 2004
------------ ------------
Accounts payable to SOYO Taiwan $ -- $ 1,314,910
Long-term payable to SOYO Taiwan -- --
Three Months Ended June 30,
---------------------------
2005 2004
------------ ------------
Purchases from SOYO Taiwan $ -- $ 6,548,225
Payments to SOYO Taiwan 195,557 6,757,919
During the three months ended June 30, 2005 and 2004, the Company did not
receive any price protection from SOYO Taiwan.
14
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Cautionary Statement Pursuant to Safe Harbor Provisions of the Private
Securities Litigation Reform Act of 1995:
This Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2005
contains "forward-looking statements" within the meaning of Section 27A of the
Securities Act of 1933, as amended, including statements that include the words
"believes", "expects", "anticipates", or similar expressions. These
forward-looking statements include, but are not limited to, statements
concerning the Company's expectations regarding its working capital
requirements, financing requirements, business prospects, and other statements
of expectations, beliefs, future plans and strategies, anticipated events or
trends, and similar expressions concerning matters that are not historical
facts. The forward-looking statements in this Quarterly Report on Form 10-Q for
the quarterly period ended June 30, 2005 involve known and unknown risks,
uncertainties and other factors that could cause the actual results, performance
or achievements of the Company to differ materially from those expressed in or
implied by the forward-looking statements contained herein.
Background and Overview:
Historically, the Company has sold computer components and peripherals to
distributors and retailers primarily in North, Central and South America. The
Company operated in one business segment. A substantial majority of the
Company's products were purchased from SOYO Taiwan pursuant to an exclusive
distribution agreement effective through December 31, 2005, and were sold under
the "SOYO" brand.
Effective October 24, 2002, Vermont Witch Hazel Company, Inc., a Nevada
corporation ("VWHC"), acquired SOYO, Inc., a Nevada corporation ("SOYO Nevada"),
from SOYO Computer, Inc., a Taiwan corporation ("SOYO Taiwan), in exchange for
the issuance of 1,000,000 shares of convertible preferred stock and 28,182,750
shares of common stock, and changed its name to SOYO Group, Inc. ("SOYO"). The
1,000,000 shares of preferred stock were issued to SOYO Taiwan and the
28,182,750 shares of common stock were issued to certain members of SOYO Nevada
management. During October 2002, certain members of the management of SOYO
Nevada also separately purchased 6,026,798 shares of the 11,817,250 shares of
common stock of VWHC outstanding prior to VWHC's acquisition of SOYO Nevada, for
$300,000 in personal funds. The 6,026,798 shares represented 51% of the
outstanding shares of VWHC common stock. Accordingly, SOYO Taiwan and SOYO
Nevada management currently own 34,209,548 shares of the 44,408,200 shares of
the Company's common stock outstanding.
Subsequent to this transaction, SOYO Taiwan maintained an equity interest in
SOYO, continued to be the primary supplier of inventory to SOYO, and was a major
creditor. In addition, there was no change in the management of SOYO and no new
capital invested, and there was a continuing family relationship between certain
members of the management of SOYO and SOYO Taiwan. As a result, for financial
reporting purposes, this transaction was accounted for as a recapitalization of
SOYO Nevada, pursuant to which the accounting basis of SOYO Nevada continued
unchanged subsequent to the transaction date. Accordingly, the pre-transaction
financial statements of SOYO Nevada are now the historical financial statements
of the Company.
Unless the context indicates otherwise, SOYO and its wholly-owned subsidiary,
SOYO Nevada, are referred to herein as the "Company".
In 2004, the Company decided to make a significant change in the core offerings
for sale. The emphasis switched from motherboards and hardware to peripherals,
leading to a more diverse product offering. Also in 2004, the Company introduced
its VoIP products. In 2005, SOYO Group, Inc. entered the LCD display market with
the introduction of 17- and 19-inch LCD monitors, and 32 and 37 inch LCD
televisions. Both products were introduced in the second quarter of 2005.
15
The Company sells to both distributors and retailers. Revenues through such
distribution channels are summarized as follows:
Six Months Ended June 30,
--------------------------------------------------
2005 2004
------------------------ ----------------------
Amount % Amount %
------------ -------- ------------ -------
Revenues
Retailers $ 9,121,834 73.2 $ 11,578,834 61.6
Distributors 3,588,017 28.8 6,984,557 37.1
Others (253,021) (2.0) 225,593 1.3
------------ -------- ------------ --------
$ 12,456,830 100.0 $ 18,788,690 100.0
============ ======== ============ ========
Three Months Ended March 31,
---------------------------------------------------
2005 2004
------------------------ -----------------------
Amount % Amount %
------------ -------- ------------ --------
Revenues
Retailers $ 6,600,654 77.7 $ 5,231,703 51.3
Distibutors 2,146,678 25.2 4,876,737 47.8
Others (253,021) (2.9) 85,948 0.9
------------ -------- ------------ --------
$ 8,494,311 100.0 $ 10,194,388 100.0
============ ======== ============ ========
Information with respect to customers that accounted for 10% or more of the
Company's revenues is presented below.
During the three months ended June 30, 2005, the Company had two customers that
accounted for revenues of $1,470,669 and $4,466,854, equivalent to 19.9% and
60.5% of net revenues, respectively. The two customers were TigerDirect.com and
E23 Inc.
During the six months ended June 30, 2005 the Company had two customers that
accounted for revenues of $1,544,934 and $5,802,954, equivalent to 13.2% and 53%
of net revenues, respectively. The two customers were TigerDirect.com and E23
Inc.
Financial information by geographic segments is summarized as follows:
Six Months Ended June 30,
-------------------------------------------------
2005 2004
----------------------- -----------------------
Amount % Amount %
------------ -------- ------------ --------
Revenues
North America $ 5,294,391 42.5 $ 14,290,159 76.0
Central and South America 528,552 4.3 4,270,125 22.7
Other locations 6,633,887 53.2 228,406 1.3
------------ -------- ------------ --------
$ 12,456,830 100.0 $ 18,788,690 100.0
============ ======== ============ ========
16
Three Months Ended June 30,
-------------------------------------------------
2005 2004
----------------------- -----------------------
Amount % Amount %
------------ -------- ------------ --------
Revenues
North America $ 3,733,559 44.0 $ 7,554,427 74.1
Central and South America 247,929 2.9 2,551,877 25.0
Other locations 4,512,823 53.1 88,084 0.9
------------ -------- ------------ --------
$ 8,494,311 100.0 $ 10,194,388 100.0
============ ======== ============ ========
Financial Outlook:
As of June 30, 2005, the Company is reliant upon the cash flows from its
operations. The Company does not have any external sources of liquidity, other
than advances from an officer, director and major shareholder and loans from a
private lender.
Since October 24, 2002, the date that SOYO Nevada became a wholly-owned
subsidiary of VWHC, SOYO has attempted to implement various measures designed to
improve its operating results, cash flows and financial position, including the
following:
- The Company has changed its product mix substantially in the past year, and
has changed its sales plan to focus on higher margin products.
- The Company has expanded the number and credit quality of its customer
accounts.
- The Company is attempting to arrange additional supply.
- The Company moved its office and warehouse operations into a larger, more
efficient facility in September 2003.
- The Company is attempting to increase its operating liquidity by exploring
the availability of outside debt and equity financing; to the extent such
funding is available under reasonable terms and conditions.
On March 28, 2005 the Company announced that an accredited investor, Ever-Green
Technology (Hong Kong) Co., Ltd., purchased 500,000 unregistered shares of its
common stock, $0.001 par value per share (the "Shares") and common stock
purchase warrants to purchase 100,000 shares of its common stock exercisable at
$1.50 per share at any time until March 22, 2008 (the "Warrants"). The total
offering price was $500,000, which was paid in cash.
During the second quarter of 2005, the Company was able to reach final agreement
with two former suppliers over unpaid debts. To settle the debts, the Company
issued 2,408,200 shares of its common stock to the entities in return for the
retirement of $2,059,548 of debt. All of the shares issued were Section 144
restricted shares. Additionally, 1,470,000 shares were issued to a Company
insider who used personal funds to pay off $1,000,000 of Company debt. The
financial effect of the transaction was to eliminate $3,059,548 of the Company's
current debt, leaving the current ratio at .98-1.
There can be no assurances that these measures will result in an improvement in
the Company's operations or liquidity. To the extent that the Company's
operations and liquidity do not improve, the Company may be forced to reduce
operations to a level consistent with its available working capital resources.
The Company may also have to consider a formal or informal restructuring or
17
reorganization. The equity financing deal closed during the first quarter of
2005 is expected to provide the Company with sufficient proceeds to operate the
business at least through the end of 2005, as the Company continues to cut
expenses and expand revenue streams.
Critical Accounting Policies:
The Company prepared its condensed consolidated financial statements in
accordance with accounting principles generally accepted in the United States of
America. The preparation of these financial statements requires the use of
estimates and assumptions that affect the reported amounts of assets and
liabilities and the disclosure of contingent assets and liabilities at the date
of the financial statements and the reported amount of revenues and expenses
during the reporting period. Management periodically evaluates the estimates and
judgments made. Management bases its estimates and judgments on historical
experience and on various factors that are believed to be reasonable under the
circumstances. Actual results may differ from these estimates as a result of
different assumptions or conditions.
The Company operates in a highly competitive industry subject to aggressive
pricing practices, pressures on gross margins, frequent introductions of new
products, rapid technological advances, continual improvement in product
price/performance characteristics, and changing consumer demand.
As a result of the dynamic nature of the business, it is possible that the
Company's estimates with respect to the realizability of inventories and
accounts receivable may be materially different from actual amounts. These
differences could result in higher than expected allowance for bad debts or
inventory reserve costs, which could have a materially adverse effect on the
Company's financial position and results of operations.
The following critical accounting policies affect the more significant judgments
and estimates used in the preparation of the Company's condensed consolidated
financial statements.
Vendor Programs:
Funds received from vendors for price protection, product rebates, marketing and
training, product returns and promotion programs are generally recorded as
adjustments to product costs, revenue or sales and marketing expenses according
to the nature of the program. The Company records estimated reductions to
revenues for incentive offerings and promotions. Depending on market conditions,
the Company may implement actions to increase customer incentive offerings,
which may result in an incremental reduction of revenue at the time the
incentive is offered.
Accounts Receivable:
The Company recognizes revenue when persuasive evidence of an arrangement
exists, delivery has occurred, the sales price is fixed or determinable, and
collectibility is probable.
The Company records estimated reductions to revenue for incentive offerings and
promotions. Depending on market conditions, the Company may implement actions to
increase customer incentive offerings, which may result in an incremental
reduction of revenue at the time the incentive is offered.
In order to determine the value of the Company's accounts receivable, the
Company records a provision for doubtful accounts to cover probable credit
losses. Management reviews and adjusts this allowance periodically based on
historical experience and its evaluation of the collectibility of outstanding
accounts receivable.
18
Inventories:
Inventories are stated at the lower of cost or market. Cost is determined by
using the average cost method. The Company maintains a perpetual inventory
system which provides for continuous updating of average costs. The Company
evaluates the market value of its inventory components on a regular basis and
reduces the computed average cost if it exceeds the component's market value.
Income Taxes:
The Company records a valuation allowance to reduce its deferred tax assets to
the amount that is more likely than not to be realized. In the event the Company
was to determine that it would be able to realize its deferred tax assets in the
future in excess of its recorded amount, an adjustment to the deferred tax
assets would be credited to operations in the period such determination was
made. Likewise, should the Company determine that it would not be able to
realize all or part of its deferred tax assets in the future, an adjustment to
the deferred tax assets would be charged to operations in the period such
determination was made.
Results of Operations:
Three Months Ended June 30, 2005 and 2004:
Net Revenues. Net revenues decreased by $1,691,078 or 16.6%, to $8,494,311 in
2005, as compared to $10,194,388 in 2004. The decrease in the net revenues was
due to the company's shift in product focus from our traditional motherboard
business to a more diverse product base that includes Broadband VoIP, Computer
Peripherals and Consumer Electronics. Additionally, the Company experienced
initial supply delays in obtaining inventory of the new products. The result was
that sales for May and June together exceeded sales for the first four months of
the year. The company expects the sales of these new products to increase in the
second half of 2005.
During the three months June 30, 2005 and 2004, the Company offered price
protection to certain customers under specific programs aggregating $6,640 and
$70,959, respectively, which reduced net revenues and accounts receivable
accordingly.
Gross Margin. Gross margin was $754,872 or 8.9% in 2005, as compared to $398,972
or 3.9% in 2004. The increase in the gross margin as a percentage of sales can
be attributed entirely to the new product lines. The Company expects gross
margins to continue to improve as the company focuses more on higher margin and
higher growth businesses, such as Consumer Electronics and VOIP products.
Sales and Marketing Expenses. Selling and marketing expenses decreased by
$138,107 to $124,029 in 2005, as compared to $262,136 in 2004. The decrease is
due to the new product line. Sales and Marketing Expenses in the motherboard and
peripheral business are very high due to price wars, excessive discounting and
incentives that must be offered. The company has been building its new product
lines in Consumer Electronics and Communications while adding a more profitable
peripherals and less focus on Motherboards. The new products also require less
incentives such as price protection and aggressive discounting to meet sales
volumes.
19
General and Administrative Expenses. General and administrative expenses
decreased by $145,843 to $881,355 in 2005, as compared to $1,027,198 in 2004.
The Company has been aggressively reducing costs to increase profitability and
cash flow over the last year. The company continues to focus on cost reduction
and improvement on cost controls.
Provision for Doubtful Accounts. The Company recorded an additional provision
for doubtful accounts of $3,390 for the three months ended June 30, 2005. The
Company recorded a provision for doubtful accounts of $29,462 for the three
months ended June 30, 2004. As of June 30, 2005, the Company believes its
provision for doubtful accounts is adequate.
Depreciation and Amortization. Depreciation and amortization of property and
equipment was $9,338 for the three months ended June 30, 2005, as compared to
$4,212 in 2004. The increase is a result of the use of leasehold improvements
provided by the landlord after the move from Fremont to Ontario, CA.
Income from Operations. The loss from operations was $263,240 for the three
months ended June 30, 2005, as compared to loss from operations of $924,036 for
the three months ended June 30, 2004. This is a result of the improved operating
margins and reduced expenses.
Miscellaneous Income. Miscellaneous income was $377,516 for the three months
ended June 30, 2005. There was no miscellaneous income in the three months ended
June 30, 2004. The miscellaneous income was derived from reconciling differences
with two vendors on old payables. Price protection and purchase discounts were
agreed upon and booked. Since the discounts were applied to old balances, the
amounts were booked to misc. income instead of being used to reduce cost of
purchases.
Interest Income. There was no interest income in 2004 or in 2005.
Interest Expense. Interest expense was $12,157 for the three months ended June
30, 2005. Interest expense was $4,745 for the three months ended June 30, 2004.
Provision for Income Taxes. There was no provision for income taxes in 2005 or
in 2004.
Net Income. Net income was $102,119 for the three months ended June 30, 2005, as
compared to a net loss of $928,781 for the three months ended June 30, 2004.
Six Months Ended June 30, 2005 and 2004:
Net Revenues. Net revenues decreased by $6,331,860 or 33.7%, to $12,456,830 in
2005, as compared to $18,788,690 in 2004. The decrease in the net revenues was
due to the company's shift in product focus from our traditional motherboard
business to a more diverse product base that includes Broadband VoIP, Computer
Peripherals and Consumer Electronics. As planned, the Company spent a great deal
of time and effort in the first four months of the year developing sales
channels and moving the products through the initial order phase. Additionally,
the Company experienced initial supply delays in obtaining inventory of the new
products. The supply problems were solved by the end of April, and the Company
does not expect the problem to reoccur. The result was that sales for May and
June together exceeded sales for the first four months of the year. The company
expects the sales of these new products to increase in the second half of 2005.
During the six months June 30, 2005 and 2004, the Company offered price
protection to certain customers under specific programs aggregating $105,912 and
$75,595, respectively, which reduced net revenues and accounts receivable
accordingly.
20
Gross Margin. Gross margin was $1,276,905 or 10.2% for the six months ended in
2005, as compared to $1,512,140 or 8.0% in 2004. The increase in the gross
margin as a percentage of sales can be attributed entirely to the new product
lines. The Company expects gross margins to continue to improve as the company
focuses more on higher margin and higher growth businesses, such as Consumer
Electronics and VOIP products.
Sales and Marketing Expenses. Selling and marketing expenses increased by
$64,206 to $363,494 in 2005, as compared to $299,288 in 2004. The increase took
place during the first quarter, as the Company was still implementing cost
reduction strategies. As noted above, second quarter expenses were significantly
reduced.
General and Administrative Expenses. General and administrative expenses
decreased by $22,253 to $1,815,328 in 2005, as compared to $1,837,581 in 2004.
The Company has been aggressively reducing costs to increase profitability and
cash flow over the last year. The company continues to focus on cost reduction
and improvement on cost controls.
Provision for Doubtful Accounts. The Company recorded a provision for doubtful
accounts of $34,513 for the six months ended June 30, 2005. The Company recorded
a provision for doubtful accounts of $196,335 for the six months ended June 30,
2004.
Depreciation and Amortization. Depreciation and amortization of property and
equipment was $18,087 for the six months ended June 30, 2005, as compared to
$8,267 in 2004. The increase is a result of the use of leasehold improvements
provided by the landlord after the move from Fremont to Ontario, CA.
Income from Operations. The loss from operations was $954,517 for the six months
ended June, 2005, as compared to the loss from operations of $829,331 for the
six months ended June 30, 2004. This is a result of the improved operating
margins and reduced expenses.
Miscellaneous Income. Miscellaneous income was $1,466,688 for the six months
ended June 30, 2005. There was no miscellaneous income in the six months ended
June 30, 2004. During the three months ended March 31, 2005, the Company was
able to reach a final resolution with a vendor over a dispute that had arisen.
The Company had purchased $10,663,206 of products from this vendor since 2002.
The Company found that RMA requests on these products were unusually high, and
customer and distributor returns were also above normal. During the quarter,
SOYO resolved these problems with Customers and Distributors for the Vendor, and
the Company and the Vendor reached an agreement whereby the Company's payable of
$1,106,781 to the Vendor was forgiven.
Interest Income. There was no interest income in 2004 or in 2005.
Interest Expense. Interest expense was $23,378 for the six months ended June 30,
2005. Interest expense was $4,745 for the six months ended June 30, 2004.
Provision for Income Taxes. There was no provision for income taxes in 2005 or
in 2004.
21
Net Income. Net income was $488,793 for the six months ended June 30, 2005, as
compared to a net loss of $834,076 for the three months ended June 30, 2004.
Financial Condition - June 30, 2005:
Liquidity and Capital Resources:
Transactions with SOYO Taiwan. Since the formation of SOYO Nevada in October
1998, through the end of 2004, the Company relied on the financial support from
SOYO Taiwan for inventory and capital to provide the resources necessary to
conduct operations. Through October 24, 2002, SOYO Nevada was a wholly-owned
subsidiary of SOYO Taiwan. Subsequent to that date, SOYO Taiwan continued to
provide inventory to SOYO through 2004.
In conjunction with the October 2002 transaction, SOYO Nevada transferred
$12,000,000 of accounts payable to SOYO Taiwan to long-term payable, without
interest, due December 31, 2005. SOYO Taiwan also agreed to continue to provide
computer parts and components to SOYO on an open account basis at the quantities
required and on a timely basis to enable SOYO to continue to conduct its
business operations at budgeted levels, which is not less than a level
consistent with the operations of SOYO Nevada's business in 2001 and 2000. This
supply commitment was to be effective through December 31, 2005.
During the six months ended June 30, 2005, the Company did not purchase
inventory from SOYO Taiwan. During the six months ended June 30, 2004 the
Company purchased $11,031,169. At June 30, 2005, the Company had no short-term
accounts payable to SOYO Taiwan. At December 31, 2004, the Company had
short-term accounts payable to SOYO Taiwan of $1,314,910. At neither date were
there any long-term payable to SOYO Taiwan.
During the three months ended June 30, 2004 and 2005, the Company did not
receive any price protection from SOYO Taiwan. The Company does not have any
formal price protection agreement with SOYO Taiwan.
Effective December 30, 2003, SOYO Taiwan entered into an agreement with an
unrelated third party to sell the $12,000,000 long-term payable due it by the
Company. As part of the agreement, SOYO Taiwan required that the purchaser would
be limited to collecting a maximum of $1,630,000 of the $12,000,000 from the
Company without the prior consent of SOYO Taiwan. In substance, SOYO Taiwan
forgave debt in an amount equal to the difference between the $12,000,000 and
the value of the preferred stock issued in settlement of this debt. This
forgiveness of debt was treated as a capital transaction. Payment from the third
party was received by SOYO Taiwan in February and March 2004. An agreement was
reached during the three months ended March 31, 2004 whereby 2,500,000 shares of
Class B preferred stock would be issued by the Company to the unrelated third
party in exchange for the long-term payable.
The Class B preferred stock has a stated liquidation value of $1.00 per share
and a 6% dividend, payable quarterly in arrears, in the form of cash, additional
shares of preferred stock, or common stock, at the option of the Company. The
Class B preferred stock has no voting rights. The shares of Class B preferred
stock are convertible, in increments of 100,000 shares, into shares of common
stock based on the $1.00 stated value, at any time through December 31, 2008,
based on the fair market value of the common stock, subject, however, to a
minimum conversion price of $0.25 per share. No more than 500,000 shares of
Class B preferred stock may be converted into common stock in any one year. On
December 31, 2008, any unconverted shares of Class B preferred stock
automatically convert into shares of common stock based on the fair market value
of the common stock, subject, however, to a minimum conversion price of $0.25
22
per share. Beginning one year after issuance, upon ten days written notice, the
Company or its designee will have the right to repurchase for cash any portion
or all of the outstanding shares of Class B preferred stock at 80% of the
liquidation value ($0.80 per share). During such notice period, the holder of
the preferred stock will have the continuing right to convert any such preferred
shares pursuant to which written notice has been received into common stock
without regard to the conversion limitation. The Class B preferred stock has
unlimited piggy-back registration rights, and is non-transferable.
The Company recorded the issuance of the Class B preferred stock at its fair
market value on March 31, 2004 of $1,304,000, which was determined by an
independent investment banking firm. The $10,696,000 difference between the
$12,000,000 long-term payable and the $1,304,000 fair market value of the Class
B preferred stock was credited to additional paid-in capital. The difference
between the fair market value and the liquidation value of the Class B preferred
stock is being recognized as an additional dividend to the Class B preferred
stockholder, and as a reduction to earnings available to common stockholders,
and will be accreted from April 1, 2004 through December 31, 2008.
During the second quarter of 2005, the Company was able to reach final agreement
with two former suppliers over unpaid debts. To settle the debts, the Company
issued 2,408,200 shares of its common stock to the entities in return for the
retirement of $2,059,548 of debt. All of the shares issued were Section 144
restricted shares. The financial effect of the transaction was to eliminate
$3,059,548 of the Company's current debt, leaving the current ratio at .98-1.
Additionally, 1,470,000 shares were issued to a Company insider who used
personal funds to pay off $1,000,00 of Company debt.
Operating Activities. The Company utilized cash of $4,646,604 in operating
activities during the six months ended June 30, 2005, as compared to $1,165,709
in operating activities during the six months ended June 30, 2004.
At June 30, 2005, the Company had cash and cash equivalents of $147,045, as
compared to $1,288,351 at December 31, 2004.
The Company had a working capital deficiency of $169,887 at June 30, 2005, as
compared to a working capital deficiency of $4,256,905 at December 31, 2004,
resulting in current ratios of .98:1 and .63:1 at June 30, 2005 and December 31,
2004, respectively.
Accounts receivable increased to $5,281,385 at June 30, 2005, as compared to
$2,076,882 at December 31, 2004, an increase of $3,204,503. The Company's
provision for doubtful accounts stood at $1,051,458 as of March 31, 2005, as
compared to $1,074,550 at December 31, 2004.
Inventories decreased to $2,965,422 at June 30, 2005, as compared to $3,862,911
at December 31, 2004, a decrease of $897,489 or 23.2%. This reduction is a
direct result of the change in the product mix away from peripherals into higher
margin products such as LCD monitors and televisions. The first monitors were
imported in the second quarter, and the televisions will be available in the 3rd
quarter. During the six months ending June 30, 2005, the company did not
purchase any inventories from SOYO Taiwan.
Accounts payable - SOYO Computer, Inc. decreased to 0 at June 30, 2005, as
compared to $1,314,910 at December 31, 2004. The Company is no longer purchasing
inventory from SOYO Computer, Inc.
Accounts payable - other decreased to $7,262,070 at June 30, 2005, as compared
to $8,259,762 at December 31, 2004, a decrease of $997,692 or 12%, as a result
of reduced inventory purchases, and the forgiveness of debt by a supplier during
the year, and conversion of debt to equity.
23
Accrued liabilities decreased to $216,398 at June 30, 2005, as compared to
$829,043 at December 31, 2004, a decrease of $612,645 or 73.9%, as a result of
decreased accruals with respect to interests, commissions and general costs.
Investing Activities. The Company received $56,662 in 2005 for the purchase of
property and equipment from the landlord in accordance with the terms of the new
headquarters in Ontario, CA, as compared to spending $3,500 in 2004 for the
purchase of property and equipment.
Financing Activities. During March 2003, Nancy Chu, the Company's Chief
Financial Officer, director and major shareholder, made short-term advances to
the Company of $360,000 for working capital purposes, of which $120,000 was
repaid during September 2003, $60,000 was paid during March 2005.
On March 29, 2004, LGT Computer, Inc. loaned the Company $213,750 pursuant to an
unsecured note payable due March 28, 2005, with interest at 4% per annum. On May
29, 2004, LGT Computer, Inc. loaned the Company an additional $700,000 pursuant
to an unsecured note payable due May 29, 2005, with interest at 4% per annum. On
March 28, 2005, by mutual agreement of the parties, the due dates of both notes
were extended one year at the same interest rate. The new due date of the first
loan is March 28, 2006.
On March 28, 2005 the Company announced that an accredited investor, Ever-Green
Technology (Hong Kong) Co., Ltd., purchased 500,000 unregistered shares of our
common stock, $0.001 par value per share (the "Shares") and common stock
purchase warrants to purchase 100,000 shares of our common stock exercisable at
$1.50 per share at any time until March 22, 2008 (the "Warrants"). The total
offering price was $500,000, which was paid in cash.
During the second quarter of 2005, the Company was able to reach final agreement
with two former suppliers over unpaid debts. To settle the debts, the Company
issued 2,408,200 shares of its common stock to the entities in return for the
retirement of $2,059,548 of debt. All of the shares issued were Section 144
restricted shares. Additionally, 1,470,000 shares were issued to a Company
insider who used personal funds to pay off $1,000,000 of Company debt.
Principal Commitments:
A summary of the Company's contractual cash obligations as of June 30, 2005 is
as follows:
Payments Due By Period
----------------------
Contractual Less than Between Between After
Cash Obligations Total 1 year 1-2 years 3-5 years 5 years
---------------- ---------- ---------- ---------- ---------- ----------
Operating leases $ 584,440 $ 184,560 $ 184,560 $ 215,320 $ --
Note payable 913,750 913,750 -- -- --
Total contractual cash
obligations $1,498,190 $1,098,310 $ 184,560 $ 215,320 $ --
---------- ---------- ---------- ---------- ----------
24
Off-Balance Sheet Arrangements:
At June 30, 2005, the Company did not have any transactions, obligations or
relationships that could be considered off-balance sheet arrangements.
Commitments and Contingencies:
At June 30, 2005, the Company did not have any material commitments for capital
expenditures.
Recent Accounting Pronouncements:
In December 2004, the FASB issued SFAS No. 153, "Exchanges of Nonmonetary
Assets, an amendment of APB Opinion No. 29". SFAS 153 addresses the measurement
of exchanges of nonmonetary assets. It eliminates the exception from fair value
measurement for nonmonetary exchanges of similar productive assets in paragraph
21(b) of APB Opinion No. 29, Accounting forNonmonetary Transactions, and
replaces it with an exception for exchanges that do not have commercial
substance. SFAS 153 specifies that a nonmonetary exchange has commercial
substance if the future cash flows of the entity are expected to change
significantly as a result of the exchange.
The exception under APB 29 required that some nonmonetary exchanges, although
commercially substantive, be recorded on a carryover basis. SFAS 153 eliminates
the exception to fair value for exchanges of similar productive assets and
replaces it with a general exception for exchange transactions that do not have
commercial substance--that is, transactions that are not expected to result in
significant changes in the cash flows of the reporting entity.
SFAS 153 is effective on January 1, 2006. The adoption of SFAS 153 is not
expected to have an impact on the Company's consolidated financial statements or
disclosures.
On December 16, 2004, the FASB issued SFAS No. 123R, "Share-Based Payment,"
("SFAS 123R") which is a revision of SFAS No. 123, "Accounting for Stock-Based
Compensation" ("SFAS 123"). Statement 123R supersedes APB Opinion No. 25,
"Accounting for Stock Issued to Employees," and amends SFAS No. 95, "Statement
of Cash Flows." Generally, the approach in SFAS 123R is similar to the approach
described in SFAS 123. SFAS 123R requires all share-based payments to employees
to be recognized in the income statement based on their grant date fair values
over the corresponding service period and also requires an estimation of
forfeitures when calculating compensation expense. The Company must adopt SFAS
123R no later than January 1, 2006. SFAS 123R permits public companies to adopt
its requirements using one of three methods: the "modified prospective" method,
the "modified retrospective" method to January 1, 2005, or the "modified
retrospective" method to all prior years for which SFAS 123 was effective. The
Company has not yet determined which adoption method it will utilize. The
Company has not yet decided whether it will adopt the provisions of SFAS 123R on
January 1, 2006 as required, or earlier, as allowed.
In November 2004, the FASB issued SFAS No. 151, "Inventory Costs, an amendment
of ARB No. 43, Chapter 4." SFAS 151 amends the guidance in ARB No. 43, Chapter
4, "Inventory Pricing," to clarify the accounting for abnormal amounts of idle
facility expense, freight, handling costs, and wasted material (spoilage).
Paragraph 5 of ARB 43, Chapter 4, previously stated that ". . . under some
circumstances, items such as idle facility expense, excessive spoilage, double
freight, and rehandling costs may be so abnormal as to require treatment as
25
current period charges. . . ." SFAS 151 requires that those items be recognized
as current-period charges regardless of whether they meet the criterion of "so
abnormal." In addition, SFAS 151 requires that allocation of fixed production
overheads to the costs of conversion be based on the normal capacity of the
production facilities.
SFAS 151 is effective on January 1, 2006. Earlier application is permitted for
inventory costs incurred beginning January 1, 2005. The provisions of SFAS 151
shall be applied prospectively. The adoption of SFAS 151 is not expected to have
an impact on the Company's consolidated financial statements or disclosures.
In October 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets", which addresses financial accounting and
reporting for the impairment or disposal of long-lived assets. While SFAS No.
144 supersedes SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets
and for Long-Lived Assets to be Disposed Of", it retains many of the fundamental
provisions of that statement. The Company adopted SFAS No. 144 effective January
1, 2002. The adoption of SFAS No. 144 did not have a significant effect on the
Company's financial statement presentation or disclosures.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements No.
4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections".
SFAS No. 145 rescinds SFAS 4, which required all gains and losses from
extinguishment of debt to be aggregated and, if material, classified as an
extraordinary item, net of related income tax effect. Upon adoption of SFAS No.
145, the Company will be required to apply the criteria in APB Opinion No. 30,
"Reporting the Results of Operations-- Reporting the Effects of Disposal of a
Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring
Events and Transactions" (Opinion No. 30), in determining the classification of
gains and losses resulting from the extinguishment of debt. Additionally, SFAS
No. 145 amends SFAS No. 13 to require that certain lease modifications that have
economic effects similar to sale-leaseback transactions to be accounted for in
the same manner as sale-leaseback transactions. The Company adopted SFAS No. 145
effective January 1, 2003. The adoption of SFAS No. 145 for long-lived assets
held for use did not have a significant effect on the Company's financial
statement presentation or disclosures.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit and Disposal Activities". SFAS No. 146 nullifies Emerging Issues Task
Force ("EITF") Issue No. 94-3, "Liability Recognition for Certain Employee
Termination Benefits and Other Costs to Exit an Activity (including Certain
Costs Incurred in a Restructuring)". Under EITF Issue No. 94-3, a liability for
an exit cost is recognized at the date of an entity's commitment to an exit
plan. Under SFAS No. 146, the liabilities associated with an exit or disposal
activity will be measured at fair value and recognized when the liability is
incurred and meets the definition of a liability in the FASB's conceptual
framework. SFAS No. 146 is effective for exit or disposal activities initiated
after December 31, 2002. The adoption of SFAS 146 did not have a significant
effect on the Company's financial statement presentation or disclosures.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity". SFAS No. 150
establishes standards for how an issuer classifies and measures in its statement
of financial position certain financial instruments with characteristics of both
liabilities and equity. SFAS No. 150 requires that an issuer classify a
financial instrument that is within its scope as a liability (or an asset in
some circumstances) because that financial instrument embodies an obligation of
the issuer. SFAS No. 150 is effective for financial instruments entered into or
26
modified after May 31, 2003 and otherwise is effective at the beginning of the
first interim period beginning after June 15, 2003. SFAS No. 150 is to be
implemented by reporting the cumulative effect of a change in accounting
principle for financial instruments created before the issuance date of SFAS No.
150 and still existing at the beginning of the interim period of adoption.
Restatement is not permitted. The adoption of SFAS No. 150 did not have a
significant effect on the Company's financial statement presentation or
disclosures.
In November 2002, the FASB issued Interpretation No. 45, "Guarantor's Accounting
and Disclosure Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness to Others" ("FIN 45"), an interpretation of FASB Statements Nos. 5,
57 and 107 and a rescission of FASB Interpretation No. 34. FIN 45 elaborates on
the disclosures to be made by a guarantor in its interim and annual financial
statements about its obligations under guarantees issued. FIN 45 also clarifies
that a guarantor is required to recognize, at inception of a guarantee, a
liability for the fair value of the obligation undertaken. The initial
recognition and measurement provisions of FIN 45 are applicable to guarantees
issued or modified after December 31, 2002. The disclosure requirements of FIN
45 are effective for financial statements of interim and annual periods ended
after December 15, 2002. The adoption of FIN 45 did not have a significant
effect on the Company's financial statement presentation or disclosures.
In November 2002, the FASB's Emerging Issues Task Force ("EITF") issued EITF No.
00-21 "Revenue Arrangements with Multiple Deliverables". EITF No. 00-21
addresses certain aspects of the accounting by a vendor for arrangements under
which it will perform multiple revenue-generating activities. Specifically, EITF
No. 00-21 addresses how to determine whether an arrangement involving multiple
deliverables contains more than one unit of accounting. In applying EITF No.
00-21, separate contracts with the same entity or related parties that are
entered into at or near the same time are presumed to have been negotiated as a
package and should, therefore, be evaluated as a single arrangement in
considering whether there are one or more units of accounting. That presumption
may be overcome if there is sufficient evidence to the contrary. EITF No. 00-21
also addresses how arrangement consideration should be measured and allocated to
the separate units of accounting in the arrangement. The guidance in EITF No.
00-21 is effective for revenue arrangements entered into in fiscal periods
beginning after June 15, 2003. The Company adopted EITF No. 00-21 effective July
1, 2003. The adoption of EITF No. 00-21 did not have a significant effect on the
Company's financial statement presentation or disclosures.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company does not have any market risk with respect to such factors as
commodity prices, equity prices, and other market changes that affect market
risk sensitive investments.
As the Company's debt obligations at March 31, 2005 are primarily short-term in
nature and non-interest bearing, the Company does not have any risk from an
increase in interest rates. However, to the extent that the Company arranges new
interest-bearing borrowings in the future, an increase in current interest rates
would cause a commensurate increase in the interest expense related to such
borrowings.
27
The Company does not have any foreign currency risk, as its revenues and
expenses, as well as its debt obligations, are denominated and settled in United
States dollars.
ITEM 4. CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures:
In conjunction with the audit of the Company's financial statements for the year
ended December 31, 2003, the Company's Chief Executive Officer and its Chief
Financial Officer reviewed and evaluated the effectiveness of the Company's
disclosure controls and procedures (as defined in Exchange Act Rule 13a-15(e)
and 15d-15(e)), which are designed to ensure that material information the
Company must disclose in its reports filed or submitted under the Securities
Exchange Act of 1934, as amended (the "Exchange Act"), is recorded, processed,
summarized and reported on a timely basis, and have concluded, based on that
evaluation, that as of such date, the Company's disclosure controls and
procedures were not adequate. In addition, the Company's automated financial
reporting systems are overly complex, poorly integrated and inconsistently
implemented.
The Company's Chief Executive Officer and Chief Financial Officer arrived at
this conclusion based on a number of factors, including that the Company's
system of internal control during 2003 did not: (1) properly record accounts
payable to vendors for purchases of inventory, (2) did not properly record
adjustments to inventory per the general ledger to physical inventory balances
(3) did not properly record inventory adjustments to the lower of cost or market
using the average inventory method, (4) did not periodically reconcile the
Company's main bank account between August 2003 and December 2003, (5) did
nothave adequate controls over interim physical inventory procedures, and (6)
did not generate timely and accurate financial information to allow for the
preparation of timely and complete financial statements. The Company did not
have an adequate financial reporting process because of the aforementioned
material weaknesses, including the difficulty in identifying and assembling all
relevant contemporaneous documentation for ongoing business transactions, and
significant turnover in the Company's financial staff. In addition to the
foregoing, a former employee withheld information from the auditor during the
2003 audit. Accordingly, the Company's Chief Executive Officer rezalized that
there were significant deficiencies, including material weaknesses, in the
Company's internal controls over its financial reporting at the end of the
fiscal period ended December 31, 2003.
In view of the fact that the financial information presented in the 2003 annual
report was prepared in the absence of adequate internal controls over financial
reporting, the Company devoted a significant amount of time and resources to the
analysis of the financial information and documentation underlying the financial
statements contained in this annual report, including the related interim
financial statements, resulting in the restatement of certain interim financial
statements. In particular, the Company reviewed all significant account balances
and transactions underlying financial statements to verify the accuracy of the
financial statements contained in the 2003 annual report.
When the Company's senior management realized that there were significant
deficiencies, including material weaknesses, in our 2003 internal control over
financial reporting, we retained outside advisors to assist the Company'
financial staff in preparing the Company's financial statements, including the
restated interim periods.
28
To address these weaknesses, the Company took the following corrective actions
in 2004:
o The Company hired a new Accounting Manager, then replaced the
Accounting Manager with a more skilled professional. The Company
retained an outside consultant to focus on financial accounting and
reporting issues, then hired the Consultant onto the staff.
o Each month, the Company's Accounting Manger supervises the
reconciliation of the accounts payable subsidiary ledgers with the
general ledger, and approves adjustments to inventory based on
reconciliation of the general ledger to physical inventory counts.
Each quarter, the Accounting Manager records inventory adjustments to
the lower of cost or market.
o Every month, the controller reconciles the bank accounts and compares
the bank reconciliation with the balance per general ledger and the
daily cash report, reviews the recording of accounts payable to
vendors for purchases of inventory, and prepares financial
adjustments.
o During the quarter ended September 30, 2004 cycle count of its
inventory, with the fifty fastest-moving items of "Type A" inventory
physically counted and reconciled every morning with the recorded
quantities and amounts. All "Type A" inventory is physically counted
reconciled every Monday.
o A complete inventory is physically counted and reconciled at the end
of every month.
In conjunction with the audit of the Company's financial statements for the year
ended December 31, 2004, the Company's Chief Executive Officer and its Chief
Financial Officer reviewed and evaluated the corrective actions listed above.
Such officers believe that such corrective actions minimize the risk of material
misstatement, but the corrective actions do not completely address the
weaknesses from the accounting system. The system does not properly close the
accounting periods without significant manual intervention, and continues to
require a manual reconciliation of inventory each period. The Company plans to
evaluate new accounting software that it believes will address the Company's
automated financial reporting system requirements, but the process has been slow
and arduous, and will be very difficult to complete this year. Due to that fact,
the Company is continuing to operate under conditions the PCAOB describes as
"material weaknesses". Nevertheless, The Company believes that all balances
presented in the financial statements are accurate.
PART II. OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES, USE OF PROCEEDS AND ISSUER PURCHASES OF EQUITY
SECURITIES
Effective December 30, 2003, SOYO Taiwan entered into an agreement with an
unrelated third party to sell the $12,000,000 long-term payable due it by the
Company. Payment from the third party was received by SOYO Taiwan in February
and March 2004. An agreement was reached during the three months ended March 31,
2004 whereby 2,500,000 shares of Class B preferred stock would be issued by the
Company to the unrelated third party in exchange for the long-term payable.
29
The Class B preferred stock has a stated liquidation value of $1.00 per share
and a 6% dividend, payable quarterly in arrears, in the form of cash, additional
shares of preferred stock, or common stock, at the option of the Company. The
Class B preferred stock has no voting rights. The shares of Class B preferred
stock are convertible, in increments of 100,000 shares, into shares of common
stock based on the $1.00 stated value, at any time through December 31, 2008,
based on the fair market value of the common stock, subject, however, to a
minimum conversion price of $0.25 per share. No more than 500,000 shares of
Class B preferred stock may be converted into common stock in any one year. On
December 31, 2008, any unconverted shares of Class B preferred stock
automatically convert into shares of common stock based on the fair market value
of the common stock, subject, however, to a minimum conversion price of $0.25
per share. Beginning one year after issuance, upon ten days written notice, the
Company or its designee will have the right to repurchase for cash any portion
or all of the outstanding shares of Class B preferred stock at 80% of the
liquidation value ($0.80 per share). During such notice period, the holder of
the preferred stock will have the continuing right to convert any such preferred
shares pursuant to which written notice has been received into common stock
without regard to the conversion limitation. The Class B preferred stock has
unlimited piggy-back registration rights, and is non-transferrable.
The shares of preferred stock were issued without registration in reliance upon
the exemption afforded by Section 4(2) of the Securities Act of 1933, as
amended, based on certain representations made to the Company by the recipient.
On March 28, 2005 the Company announced that an accredited investor, Ever-Green
Technology (Hong Kong) Co., Ltd., purchased 500,000 unregistered shares of our
common stock, $0.001 par value per share (the "Shares") and common stock
purchase warrants to purchase 100,000 shares of our common stock exercisable at
$1.50 per share at any time until March 22, 2008 (the "Warrants"). The total
offering price was $500,000, which was paid in cash.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
A list of exhibits required to be filed as part of this report is set forth in
the Index to Exhibits, which immediately precedes such exhibits, and is
incorporated herein by reference.
(b) Reports on Form 8-K
Six Months Ended June 30, 2005:
The Company filed a Report on Form 8-K on March 22, 2005, detailing a sale of
securities in a private placement to Ever-Green Technology Co. of Hong Kong,
which is incorporated herein by reference.
30
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
SOYO GROUP, INC.
--------------------------
(Registrant)
DATE: August 15, 2005 By: /s/ Ming Tung Chok
-----------------------
Ming Tung Chok
President and Chief
Executive Officer
DATE: August 15, 2005 By: /s/ Nancy Chu
-----------------------
Nancy Chu
Chief Financial Officer
31
INDEX TO EXHIBITS
Exhibit
Number Description of Document
------ -----------------------
31.1 Certification pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002 - Ming Tung Chok
31.2 Certification pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002 - Nancy Chu
32 Certification pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002 - Ming Tung Chok and Nancy Chu
32