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CJJD > SEC Filings for CJJD > Form 10-Q on 14-Nov-2012All Recent SEC Filings

Show all filings for CHINA JO-JO DRUGSTORES, INC.

Form 10-Q for CHINA JO-JO DRUGSTORES, INC.


14-Nov-2012

Quarterly Report


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

The following management's discussion and analysis should be read in conjunction with our unaudited condensed consolidated financial statements and the notes thereto and the other financial information appearing elsewhere in this item. In addition to historical information, the following discussion contains certain forward-looking statements within the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995. These statements relate to our future plans, objectives, expectations and intentions. These statements may be identified by the use of words such as "may," "will," "could," "expect," "anticipate," "intend," "believe," "estimate," "plan," "predict," and similar terms or terminology, or the negative of such terms or other comparable terminology. Although we believe the expectations expressed in these forward-looking statements are based on reasonable assumptions within the bound of our knowledge of our business, our actual results could differ materially from those discussed in these statements. Factors that could contribute to such differences include, but are not limited to, those discussed in the "Risk Factors" section of our annual report on Form 10-K for the year ended March 31, 2012 and filed with the SEC on July 2, 2012. We undertake no obligation to update publicly any forward-looking statements for any reason even if new information becomes available or other events occur in the future.

Our financial statements are prepared in U.S. Dollars and in accordance with accounting principles generally accepted in the United States. See "Exchange Rates" below for information concerning the exchanges rates at which Renminbi ("RMB") were translated into U.S. Dollars at various pertinent dates and for pertinent periods.

Overview

We are a retailer and wholesale distributor of pharmaceutical and other healthcare products typically found in a retail pharmacy in the People's Republic of China ("PRC" or "China"). Prior to acquiring Zhejiang Jiuxin Medicine Co., Ltd. ("Jiuxin Medicine") in August 2011, we were primarily a retail pharmacy operator. Our drugstores provide customers with a wide variety of medicinal products, including prescription and over-the-counter ("OTC") drugs, nutritional supplements, traditional Chinese Medicine ("TCM") products, personal care products, family care products, medical devices, as well as convenience products including consumable, seasonal and promotional items. In addition to these products, we have licensed doctors of both western medicine and TCM onsite for consultation, examination and treatment of common ailments at scheduled hours. Since May 2010, our retail business also includes an online drugstore that sells non-prescription OTC drugs and nutritional supplements.

In addition to our retail business, we operate a wholesale business distributing TCM herbs that we have been cultivating, and, through Jiuxin Medicine, third-party pharmaceutical products (similar to those we carry in our own pharmacies) primarily to trading companies throughout China.

Critical Accounting Policies and Estimates

In preparing our unaudited condensed consolidated financial statements in accordance with accounting principles generally accepted in the United States of America, we are required to make judgments, estimates and assumptions that affect: (i) the reported amounts of our assets and liabilities; (ii) the disclosure of our contingent assets and liabilities at the end of each reporting period; and (iii) the reported amounts of revenue and expenses during each reporting period. We continually evaluate these estimates based on our own historical experience, knowledge and assessment of current business and other conditions, our expectations regarding the future based on available information and reasonable assumptions, which together form our basis for making judgments about matters that are not readily apparent from other sources. Since the use of estimates is an integral component of the financial reporting process, our actual results could differ materially from those estimates.

We believe that any reasonable deviation from those judgments and estimates would not have a material impact on our financial condition or results of operations. To the extent that the estimates used differ from actual results, however, adjustments to the statement of operations and corresponding balance sheet accounts would be necessary. These adjustments would be made in future financial statements.

When reading our financial statements, you should consider: (i) our critical accounting policies; (ii) the judgment and other uncertainties affecting the application of such policies; and (iii) the sensitivity of reported results to changes in conditions and assumptions. We have not made any material changes in the methodology used in our accounting policies that are inconsistent with those discussed in our annual report on Form 10-K for the year ended March 31, 2012.


Results of Operations

Comparison of three months ended September 30, 2012 and 2011

The following table summarizes our results of operations for the three months
ended September 30, 2012 and 2011:

                                                           Three months ended September 30,
                                                        2012                               2011
                                                              Percentage                         Percentage
                                                               of total                           of total
                                              Amount           revenue            Amount          revenue
Revenue                                    $ 26,665,114             100.0 %    $ 22,224,947            100.0 %
Gross profit                               $  3,422,197              12.8 %    $  6,257,896             28.2 %
Selling expenses                           $  2,102,621               7.9 %    $  2,711,494             12.2 %
General and administrative expenses        $  1,310,313               4.9 %    $  1,320,521              5.9 %
Income from operations                     $      9,263               0.0 %    $  2,225,881             10.0 %
Other income (expense), net                $    (90,332 )            (0.3 )%   $    187,166              0.8 %
Impairment  of goodwill                    $  1,473,606               5.5 %    $          -              0.0 %
Change in fair value of purchase option
derivative liability                       $     25,905               0.1 %    $     34,356              0.2 %
Income tax expense                         $         10               0.0 %    $    817,990              3.7 %
Net (loss) income attributable to
controlling interest                       $ (1,528,449 )            (5.7 )%   $  1,633,713              7.4 %
Net loss attributable to noncontrolling
interest                                   $        331               0.0 %    $      4,300              0.0 %

Revenue. We had two revenue streams for the three months ended September 30, 2012 and 2011: (i) store and online retail sales of pharmaceutical and other healthcare products, and (ii) wholesale distribution of pharmaceutical and other healthcare products, primarily to third-party pharmaceutical trading companies. Included in our wholesale revenue are wholesales of pharmaceutical and healthcare products that we purchased from third-party manufacturers or suppliers.


Our revenue increased by $4,440,167 or 20.0% period over period, primarily due to the expansion of our wholesale business, offset by a decrease in our retail business:

(1) We started our wholesale business after acquiring Jiuxin Medicine in August 2011, through which we have been distributing third-party pharmaceutical and healthcare products to pharmaceutical trading companies and other group customers. Our wholesale business increased rapidly during fiscal 2013 because we introduced very competitive pricing to customers to stimulate sales. Sales from the wholesale business accounted for $16,167,166 or approximately 60.6% of our total revenue for the three months ended September 30, 2012. In contrast, for the three months ended September 2011, sales from the wholesale business accounted for only $3,941,973 or approximately 17.7% of our total sales.

(2) Our retail sales decreased by $7,785,026 or 42.6% to $10,497,948 for the three months ended September 30, 2012 from $18,282,974 for the three months ended September 30, 2011. Although our retail store count increased to 65 as of September 30, 2012, from 58 stores a year ago, our retail store sales decreased primarily as a result of stricter government policies and a competitive retail market. Retail sales accounted for approximately 39.4% of our total revenue for the three months ended September 30, 2012. Same-store sales decreased by approximately $9,060,348 or 50.0%, while our new stores and online pharmacy contributed a total of approximately $1,118,454. We expect same-store sales will continue to decline as the frequency of government-mandated price controls and the number of drugs subject to price controls continue to rise.

Quarterly Revenue by Segment. The following table breaks down the revenue for our three business segments for the three months ended September 30, 2012 and 2011:

                                         Three months ended September 30,
                                      2012                              2011
                                            % of total                        % of total       Variance by
                             Amount          revenue           Amount          revenue            amount           % of change
Revenue from retail
business
   Revenue from
drugstores                $  9,637,418             36.2 %   $ 18,193,045             81.9 %   $   (8,555,627 )            (47.0 )%
   Revenue from online
sales                          860,530              3.2 %         89,929              0.4 %          770,601              856.9 %
     Sub-total of
retail revenue              10,497,948             39.4 %     18,282,974             82.3 %       (7,785,026 )            (42.6 )%

Revenue from wholesale
business                    16,167,166             60.6 %   $  3,941,973             17.7 %       12,225,193              310.1 %
Revenue from farming
business                             -              0.0 %              -              0.0 %                -                0.0 %
Total revenue             $ 26,665,114              100 %   $ 22,224,947              100 %   $    4,440,167               20.0 %

The revenue fluctuation period over period reflected the following combined factors:

(1) Revenue from "Jiuzhou Grand Pharmacy" stores decreased by approximately $8.6 million or 47.0% quarter over quarter, mainly due to two reasons. During the three month ended September 30, 2011, we implemented a variety of promotional activities such as giving out gifts and discounts to our customers. Since the second quarter of fiscal 2012, the Hangzhou government has been gradually restricting retail drugstores within the city from organizing large-scale marketing promotions on the streets in which further rebates or discounts are given to customers making purchases with government-sponsored medical insurance cards. Our promotional activities were curtailed accordingly, which, in turn, impacted our retail sales revenue, especially from sales of certain prescription drugs covered by the medical insurance cards. In addition, the government subjected more drugs to price controls, which caused us to reduce prices for some of the affected drugs and stop carrying others at our pharmacies.

(2) Our wholesale business increased by $12,225,193 or 301.1% quarter over quarter. It reflects our continuous efforts to expand Jiuxin Medicine's business, which was acquired in August, 2011. In order to promote its sales, Jiuxin Medicine introduced competitive prices, which resulted in a low profit margin. On the other side, as Jiuxin Medicine was in its start-up period, the sales in August and September of 2011 did not typically represent its regular sale volume. As a result, we do not expect such a significant growth rate in the future.

(3) Our online pharmacy sales increased by $770,601 or 856.9% quarter over quarter. As we started business cooperation with certain local business-to-consumer online vendors such as Taobao during the second half of 2011, our online pharmacy has become more and more widely exposed to potential customers over time. As a result, we have seen a steady growth in our online sales.


Gross Profit. Our gross profit decreased by $2,835,699 or 45.3% quarter over quarter primarily as a result of decreased retail sales. Our gross margin decreased period over period from 28.2% to 12.8% as a result of decline of our retail sale profit margin as well as a low profit margin of our wholesale business, partially caused by our sales promotion activities. The average gross margin of our retail and wholesale businesses for the three months ended September 30, 2012 are as follows:

                                                 Three months ended
                                                      March 31,
                                                 2012           2011
Average gross margin for retail business            26.6 %        33.4 %
Average gross margin for wholesale business          3.9 %         4.1 %
Average gross margin for farming business            N/A           N/A

Our retail gross margin decreased to 26.6% in the three months ended September 30, 2012 from 33.4% in the three months ended September 30, 2011. The Chinese government has included more and more prescription and OTC drugs in the price control list. Some of our products' prices were higher than the prices set by the Chinese government. Hence, we had to adjust these products' prices. As a result, the profit margin for these products declined. In addition, due to the economic slowdown and stricter government policies such as stricter insurance reimbursement policy and the expansion of Essential Drug List (EDL), the retail drugstore market became much more competitive. For example, drugs listed in the EDL were being sold at a price close to its cost at local community hospitals which, in turn, receive government subsidies. Correspondently, we had to either abandon sale of these drugs or sell them at minimal profit margins. As a result, our overall retail gross profit margin decreased.

Our wholesale gross margin for the three months ended September 30, 2012 was 3.9% as compared to 4.1% for the three months ended September 30, 2011. Because we introduced very competitive prices to stimulate sales, our traditional wholesale business, where we purchase from third-party manufacturers or suppliers and resell, has a low profit margin.

Selling and Marketing Expenses. Our sales and marketing expenses decreased by $608,873 or 22.5% period over period mainly due to less promotional activities because of restrictions by the local government, offset by increased rent and depreciation and amortization expense. Such expenses as a percentage of our revenue decreased to 7.9%, from 12.2% for the same period a year ago as our wholesale business contributed significant sales revenue.

General and Administrative Expenses. Our general and administrative expenses decreased by $10,208 or 0.8% period over period. Such expenses as a percentage of our revenue decreased to 4.9% from 5.9% for the same period a year ago. The decrease in absolute dollars as well as a percentage of revenue related to our stringent expense budget and control.

Income from Operations. Mainly as a result of lower profit margins, partly offset by decreases in general and administration expenses and decreases in selling and marketing expenses, our income from operations decreased by $2,216,618 or 99.6% period over period. Our operating margin for the three months ended September 30, 2012 and 2011 was 0.0% and 10.0%, respectively.

Impairment of Goodwill. During the three months ended September 30, 2012, we recorded a goodwill impairment charge of $1,473,606 that was previously recognized in the acquisitions of Juixin Medicine and Shanghai Zhongxin. The impairment to goodwill was made after the Company estimated the fair values of businesses acquired and determined that the implied fair value of goodwill was lower than the carrying value of goodwill for the two businesses. Accordingly, the Company recorded its best impairment estimates of $1,403,933 for Jiuxin Medicine and $69,673 for Shanghai Zhongxin.

Income Taxes. For the current period, our income tax expense decreased by $817,980, as a result of a net loss.

Net Income. As a result of the foregoing, our net income decreased by $3,162,162 period over period.

Comparison of six months ended September 30, 2012 and 2011

The following table summarizes our results of operations for the six months ended September 30, 2012 and 2011:

                                                            Six months ended September 30,
                                                        2012                               2011
                                                              Percentage                         Percentage
                                                               of total                           of total
                                              Amount           revenue            Amount          revenue
Revenue                                    $ 59,512,445             100.0 %    $ 43,652,806            100.0 %
Gross profit                               $  8,566,974              14.4 %    $ 13,127,219             30.1 %
Selling expenses                           $  3,960,845               6.7 %    $  4,089,794              9.4 %
General and administrative expenses        $  4,156,892               7.0 %    $  2,395,304              5.5 %
Income from operations                     $    449,237               0.8 %    $  6,642,121             15.2 %
Other income, net                          $      8,367               0.0 %    $    206,586              0.5 %
Impairment of goodwill                     $  1,473,606               2.5 %    $          -              0.0 %
Change in fair value of purchase option
derivative liability                       $     25,747               0.0 %    $     96,988              0.2 %
Income tax expense                         $      3,892               0.0 %    $  2,073,553              4.8 %
Net (loss) income attributable to
controlling interest                       $   (993,562 )            (1.7 )%   $  4,876,442             11.2 %
Net loss attributable to noncontrolling
interest                                   $        585               0.0 %    $      4,300              0.0 %

Revenue. We had three revenue streams for the six months ended September 30, 2012: (i) store and online retail sales of pharmaceutical and other healthcare products, and (ii) wholesale distribution of pharmaceutical and other healthcare products, and (iii) our self-cultivated TCM herbs, primarily to third-party pharmaceutical trading companies. In contrast, store retail sales and wholesale provided almost all of our revenue for the six months ended September 30, 2011.


Our revenue increased by $15,859,639 or 36.3% period over period, primarily due to the expansion of our wholesale business and the addition of our farming business, offset by a decrease in our retail business:

(1) We started our wholesale business after acquiring Jiuxin Medicine in August 2011, through which we have been distributing third-party pharmaceutical and healthcare products to pharmaceutical trading companies and other group customers. Our wholesale business increased rapidly during fiscal 2012 because we introduced very competitive pricing to customers to stimulate sales. Sales from the wholesale business accounted for $37,535,949 or approximately 63.1% of our total revenue for the six months ended September 30, 2012. In contrast, sales from the wholesale business accounted for $3,941,973 or approximately 9.0% of our total revenue for the six months ended September 30, 2011.

(2) In the fourth quarter of fiscal 2012, we also began distributing the TCM herbs such as Peucedanum that we have been cultivating, to third-party pharmaceutical trading companies. Although we have hired several specialists to oversee our farming business, we are mainly relying on the local village government to manage the cultivation process. For example, the local government would organize local farmers to plant, fertilize and harvest. In turn, we paid for the expenses incurred by the local farmers based on our agreements with the local government. Sales from our farming business accounted for $2,524,092 or approximately 4.2% of our total revenue for the six months ended September 30, 2012.

(3) Our retail sales decreased by $20,959,786 or 53.8% to $18,034,414 for the six months ended September 30, 2012 from $38,994,200 for the six months ended September 30, 2011. Although our retail store count increased to 65 as of September 30, 2012, from 58 stores a year ago, our retail store sales decreased primarily as a result of stricter government policies and a competitive retail market. Retail sales accounted for approximately 32.7% of our total revenue for the six months ended September 30, 2012. Same-store sales decreased by approximately $22,608,343 or 56.7%, while our new stores and online pharmacy contributed a total of approximately $1,672,725. We expect same-store sales will continue to decline as the frequency of government-mandated price controls and the number of drugs subject to price controls continue to rise.

Six-Month Revenue by Segment. The following table breaks down the revenue for our three business segments for the six months ended September 30, 2012 and 2011:

                                        Six months ended September 30,
                                     2012                             2011
                                          % of total                       % of total       Variance by
                            Amount          revenue          Amount          revenue           amount           % of change
Revenue from retail
business
   Revenue from
drugstores               $ 18,034,415            30.3 %   $ 39,534,200            90.6 %   $  (21,499,785 )            (54.4 )%
   Revenue from online
sales                       1,417,990             2.4 %        176,633             0.4 %        1,241,357              702.8 %
     Sub-total of
retail revenue             19,452,405            32.7 %     39,710,833            91.0 %      (20,258,428 )            (51.0 )%

Revenue from wholesale
business                   37,535,949            63.1 %      3,941,973             9.0 %       33,593,976              852.2 %
Revenue from farming
business                    2,524,091             4.2 %              -             0.0 %        2,524,091                N/A
Total revenue            $ 59,512,445           100.0 %   $ 43,652,806           100.0 %   $   15,859,639               36.3 %

The revenue fluctuation period over period reflected the following combined factors:

(1) Revenue from "Jiuzhou Grand Pharmacy" stores decreased by approximately $21.0 million or 54.4% period over period for the same reasons that it declined during the quarter. During the six month ended September 30, 2011, we implemented a variety of promotional activities such as giving out gifts and discounts to our customers. Since the second quarter of fiscal 2012, the Hangzhou government has been gradually restricting retail drugstores within the city from organizing large-scale marketing promotions on the streets in which further rebates or discounts are given to customers making purchases with government-sponsored medical insurance cards. Our promotional activities were curtailed accordingly, which, in turn, impacted our retail sales revenue, especially from sales of certain prescription drugs covered by the medical insurance cards. In addition, the government subjected more drugs to price controls, which caused us to reduce prices for some of the affected drugs and stop carrying others at our pharmacies.

(2) Our wholesale business increased by $33,593,976 or 852.2% period over period. It reflects our continuous efforts to expand Jiuxin Medicine's business, which was acquired in August, 2011. In order to promote its sales, Jiuxin Medicine introduced competitive prices, which resulted in a low profit margin. On the other side, as Jiuxin Medicine was in its start-up period, the sales in August and September of 2011 did not typically represent its regular sale volume. As a result, we do not expect such a significant growth rate in the future.

(3) Our online pharmacy sales increased by $1,241,357 or 702.8% period over period. As we started business cooperation with certain local business-to-consumer online vendors such as Taobao during the second half of 2011, our online pharmacy has become more and more widely exposed to potential customers over time. As a result, we have seen a steady growth in our online sales.


Gross Profit. Our gross profit decreased by $4,560,245 or 34.7% period over period primarily as a result of decreased retail sales. Our gross margin decreased period over period from 30.1% to 14.4% as a result of decline in our retail sale profit margin as well as low profit margin for our wholesale business, partially caused by our sales promotion activities. The average gross margin of our retail and wholesale businesses for the six months ended September 30, 2012 are as follows:

                                                 Six months ended
                                                     March 31,
                                                 2012         2011
Average gross margin for retail business           26.3 %       32.1 %
Average gross margin for wholesale business         3.0 %        4.1 %
Average gross margin for farming business          90.9 %        N/A

Our retail gross margin decreased to 26.3% in the six months ended September 30, 2012 from 32.1% in the six months ended September 30, 2011. The Chinese government has included more and more prescription and OTC drugs in the price control list. Some of our products' prices were higher than the prices set by the Chinese government. Hence, we had to adjust these products' prices. As a result, the profit margin for these products declined. In addition, due to the economic slowdown and stricter government policies such as stricter insurance reimbursement policy and the expansion of Essential Drug List (EDL), the retail drugstore market became much more competitive. For example, drugs listed in the EDL were being sold at a price close to its cost at local community hospitals which, in turn, receive government subsidies. Correspondently, we had to either abandon sale of these drugs or sell them at minimal profit margins. As a result, our overall retail gross profit margin decreased.

Our wholesale gross margin for the six months ended September 30, 2012 was 3.0% as compared to 4.1% for the six months ended September 30, 2011. Because we introduced very competitive prices to stimulate sales, our traditional wholesale business, where we purchase from third-party manufacturers or suppliers and resell, has a low profit margin.

Our profit margin for our harvested TCM sold was approximately 90.9% for the six . . .

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