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CHLN > SEC Filings for CHLN > Form 10-Q on 14-Aug-2013All Recent SEC Filings

Show all filings for CHINA HOUSING & LAND DEVELOPMENT, INC.

Form 10-Q for CHINA HOUSING & LAND DEVELOPMENT, INC.


14-Aug-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Critical Accounting Policies and Estimates

We prepare our interim condensed consolidated financial statements in accordance with U.S. GAAP, which requires us 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 revenues and expenses during each reporting period. We continually evaluate these estimates based on our own 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 inherently uncertain. Since the use of estimates is an integral component of the financial reporting process, our actual results could differ from those estimates. Some of our accounting policies require a higher degree of judgment than others in their application.

When reading our interim condensed consolidated financial statements, you should consider (i) our selection of 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 believe the following accounting policies involve the most significant judgments and estimates used in the preparation of our financial statements.

The unaudited interim condensed consolidated financial statements are based on accounting principles that are consistent in all material respects with those applied in the Company's Annual Report on Form 10-K for the year ended December 31, 2012 ("2012 Annual Report"). They do not include certain footnote disclosures and financial information normally included in annual consolidated financial statements prepared in accordance with GAAP and, therefore, should be read in conjunction with the audited consolidated financial statements and notes included in the Company's 2012 Annual Report.

Warrants and Derivative Liability

On January 28, 2008, the Company issued Senior Secured Convertible Debt due in 2013 (the "Convertible Debt") and warrants to subscribe for common shares for an aggregate purchase price of $20 million. Both the warrant and embedded conversion option associated with the Convertible Debt meet the definition of a derivative instrument according to the standard "Accounting for Derivative Instruments and Hedging Activities". Because the warrant and the convertible debt are denominated in U.S. dollars but the Company's functional currency is the Chinese RMB, the exemption from derivative instrument accounting provided by the standard is not available and therefore the warrant and embedded conversion option are recorded as derivative instrument liabilities and periodically marked-to-market.

The Convertible Debt was fully repaid as of December 31, 2012. Therefore, for the three and six months ended June 30, 2013, there were no changes in fair value for the warrants and embedded derivatives. For the three months ended June 30, 2012, the Company recorded decreases in fair value for the warrants and embedded derivatives of $3,554 and $150,181, respectively. For the six months ended June 30, 2012, the Company recorded decreases in fair value of the warrants and embedded derivatives of $2,126 and $221,284, respectively, in the unaudited interim condensed consolidated statements of income.

The carrying value of the Convertible Debt was accreted to its stated amount on maturity using the effective interest method. The effective interest rate was determined to be 15.42%. There were no interest and accretion costs for the three and six months ended June 30, 2013. Related interest and accretion costs for the three months ended June 30, 2012 were $129,384 and $241,665, respectively, and for the six months ended June 30, 2012 were $258,768 and $474,151, respectively.

Pursuant to accounting guidance, "Accounting for Derivative Financial Instruments Indexed to, and Potentially Settle in a Company's Own Stock", the warrants issued contained a provision permitting the holder to demand payment based on a valuation in certain circumstances. Therefore, the Company recorded the warrants issued through private placements in 2007 as a liability at their fair value on the date of grant and then revalued them at each reporting date using the CRR Binomial Lattice Model using the following Assumptions:

These warrants expired during fiscal year 2012. As such, there were no changes in fair value of the warrants issued through private placements in 2007 for the three and six months ended June 30, 2013. The gains from the change in fair value of the warrants issued through private placements in 2007 for the three and six months ended June 30, 2012 were $Nil and $1,060 respectively.

Including the fair value of warrants associated with the Convertible Debt (Note 12), the total gains from the change in fair value of warrants for the three and six months ended June 30, 2012 were $3,554 and $3,186, respectively.

Real Estate Held for Development or Sale, Intangible Assets and Deposits on Land Use Rights

We evaluate the recoverability of our real estate developments taking into account several factors including, but not limited to, our plans for future operations, prevailing market prices for similar properties and projected cash flows.

We review real estate projects, intangible assets and deposits on land use rights whenever events or changes in circumstances indicate that the carrying amount of an asset may no longer be recoverable. When these events occur, we measure impairment by comparing the carrying value to the estimated undiscounted future cash flows expected to result from the use of the assets and their eventual disposition. If the total of the expected undiscounted cash flow is less than the carrying amount of the assets, we recognize an impairment loss based on the fair value of the assets.

Our judgments and estimates related to impairment include our determination of whether an event has occurred to warrant an impairment test. If a test is required, we will have to make additional judgments and estimations such as our expectations of future cash flows and the calculation of the fair value of the impaired assets.

When real estate costs are determined to be impaired, they are written down to their estimated net realizable value. The Company evaluates the carrying value for impairment based on the undiscounted future cash flows of the assets. Write-downs of real estate costs deemed impaired are recorded as adjustments to the cost basis.

The following summarizes the components of real estate inventories as at June 30, 2013 and December 31, 2012:

                                                             June 30,        December 31,
                                                               2013               2012
Real estate projects completed and held for sale
Junjing I                                                  $   1,946,817     $   2,065,376
Junjing II                                                       146,150           175,326
Tsining 24G                                                            -            45,370
Gangwan                                                            9,705            19,117
Tsining Home IN                                                        -            60,943
Junjing III                                                    1,123,874         1,309,347
Puhua Phase I                                                  8,201,290         9,558,162
Puhua Phase II - West Region                                   4,845,099         8,274,431
Real estate completed and held for sale                       16,272,935        21,508,072

Real estate projects held for development
Puhua Phase II - East Region, III and IV                     100,582,427       105,782,311
Park Plaza                                                    66,760,013        77,765,333
Golden Bay (the Company is in the process of obtaining
the land use right)                                           17,914,922        12,415,111
Jiyuan                                                        17,532,755        16,500,575
Other                                                          5,690,834         3,941,746
Construction Materials                                           642,091           198,397
Real estate held for development                             209,123,042       216,603,473

Total real estate held for development or sale             $ 225,395,977     $ 238,111,545

Intangible Assets



Intangible assets consisted of the following as of June 30, 2013 and December
31, 2012:



                                      June 30,       December 31,
                                        2013             2012
Development right acquired (a)      $ 52,618,136     $  51,835,211
Land use rights acquired (b)           8,757,836         8,627,525
Construction license acquired (c)      1,226,605         1,208,354
                                      62,602,577        61,671,090
Accumulated amortization              (7,409,698 )      (7,188,838 )
Intangible assets, net              $ 55,192,879     $  54,482,252

(a) The development right for 487 acres of land in Baqiao Park was obtained from the acquisition of New Land in fiscal 2007. The development right will expire on June 30, 2016. The Company amortizes the intangible asset when a land use right in connection to the exclusive development right is acquired by calculating the profit the specific land use right may generate over the total estimated profit and applying this percentage to the total intangible. This amortization policy ensures the amortization matches the realization of the economic benefit of the exclusive development right when the actual land use right is acquired. The Company records the amortization of the exclusive development right into construction in progress ("CIP") and then allocates it to each building based on the gross floor area ("GFA") of each building.

The Company did not acquire any new land use rights in connection with the development right intangible asset during fiscal 2010, 2011 and 2012. We expect to acquire the land use right for our Golden Bay project in 2013. A substantial portion of the 487 acres is not expected to be fully developed until after the 2016 contract expiration date which will be subject to renewal. The expected development period is between 2009 and 2020.

(b) The land use right was acquired through acquisition of Suodi. The land use right certificate will expire in November, 2048. The Company amortizes the land use right over 39 years starting from the date of acquisition.

(c) The construction license was acquired through acquisition of Xinxing Construction. The construction license, which is subject to renewal every 5 years, is not amortized and has an indefinite estimated useful life because management believes the Company will be able to continuously renew the license in future. The license will be subject to renewal on January 1, 2016.

For the three and six months ended June 30, 2013, the Company recorded $55,988 and $111,355, respectively of amortization expense on the land use rights (June 30, 2012 - $54,427 and $109,033).The amortization was included in selling, general and administrative expenses.

Deposits on Land Use Rights



                                June 30,       December 31,
                                  2013             2012
Deposits on land use rights     43,393,688        42,748,017

The Company conducts regular reviews of the deposits on land use rights. After review and assessment, the Company concluded that there was no impairment to the carrying value of the deposits and therefore no write-down was required.

Assets Held for Sale

The total rental income (cash inflow) from leasing the Tsining JunJing I commercial retail property was RMB 1.2 million during second quarter of 2013 compared with RMB 1.1 million during the same period of 2012. There was no cash outflow in connection with the maintenance and repair of the property. The annual amortization of this property is RMB 3 million (non-cash item) per year over 30 years.

We believe the property can be sold with reasonable effort. Many potential customers have shown interest in buying this property. However, we have signed lease agreements with several parties and the longest term amongst these agreements does not expire until 2022. We may not be able to sell the property before the expiration date of the lease agreements. In addition, the Company currently uses this property as collateral for loans outstanding and due to the nature of our operation, we will likely use this property as collateral again in the future.

We assess whenever events or changes in circumstances indicate that the carrying amount of this property may not be recoverable. When these events occur, we measure impairment by comparing the carrying value to the estimated undiscounted future cash flows expected to result from the use of the asset and its eventual disposition. If the total of the expected undiscounted cash flow is less than the carrying amount of the asset, we recognize an impairment loss based on the fair value of the asset. Our judgments and estimates related to impairment include our determination of whether an event has occurred to warrant an impairment test. If a test is required, we will have to make additional judgments and estimations such as our expectations of future cash flows and the calculation of the fair value of the impaired asset.

During the fourth quarter of 2012, we sold 7,367 square meters of JunJing I commercial property for RMB 94.3 million. The carrying value of the sold property was only RMB 52.8 million. Therefore, we believe there is no impairment for the commercial property. The remaining commercial property has a GFA of 5,371 square meters, with a carrying value of RMB 38.5 million. The market selling price of properties like the Tsining JunJing I commercial retail property was much higher than its cost when we reclassified it from inventory to fixed assets. Thus, our assessment does not show any impairment to the carrying value of the property.

Material Trends and Uncertainties That May Impact Continuing Operations

Changes in national and regional economic conditions, as well as local economic conditions where we conduct our operations and where prospective purchasers of our homes live, may result in more caution on the part of homebuyers and consequently fewer home purchases. According to E House (China) Real Estate Research Institute the average residential sale price in Xi'an city was stable in the quarter ended June 30, 2013. The average sales price increased to RMB7,502 per square meter (approximately US$ 1,220 per square meter) from RMB7,431 in the same period of 2012, representing about a 0.9% year-on-year increase.

Most purchasers of our homes finance their acquisitions through lenders providing mortgage financing. A substantial increase in mortgage interest rates or unavailability of mortgage financing would adversely affect the ability of prospective homebuyers to obtain the financing needed to purchase our homes, as well as the ability of prospective upgrading homebuyers to sell their current homes. For example, if mortgage financing became less available, demand for our homes could decline. A reduction in demand could also have an adverse effect on the pricing of our homes because we (and our competitors) may reduce prices in an effort to compete for home buyers. A reduction in pricing could result in a decline in revenues and margins. Additionally, Xi'an's local government required that the average selling price increase of newly built residential products should be less than 15%, and such an increase must not surpass Xi'an's GDP growth rate and disposable income growth rate. These new policies could result in buying hesitation amongst potential new customers and could impact our revenues.

The real estate development industry is capital intensive and development requires significant up-front expenditures to acquire land and begin development. Accordingly, we incur substantial indebtedness to finance our homebuilding and land development activities. Although we believe that internally generated funds and our current borrowing capacity will be sufficient to fund our capital and other expenditures (including land acquisition, development and construction activities), the amounts available from such sources may not be adequate to meet our needs. If such sources are not sufficient, we may seek additional capital in the form of debt or equity financing from a variety of potential sources, including bank financings, third-parties and related party financings.The availability of borrowed funds to be utilized for land acquisition, development and construction may be greatly reduced, and the lending community may require increased amounts of equity to be invested in a project by borrowers in connection with new loans. Failure to obtain sufficient capital to fund planned capital and other expenditures could have a material adverse effect on our business.

In addition, regulatory requirements could cause us to incur significant liabilities and operating expenses and could restrict our business activities. We are subject to statutes and rules regulating, among other things, certain developmental matters, building and site design, and matters concerning the protection of health and the environment. Our operating expenses may be increased by governmental regulations such as building permit allocation ordinances and other fees and taxes, which may be imposed to defray the cost of providing certain governmental services and improvements. Any delay or refusal from governmental agencies to grant us necessary licenses, permits and approvals could have an adverse effect on our operations.

As of June 30, 2013, we had $100,960,800 of cash, compared to $6,121,448 as of December 31, 2012, an increase of $94,839,352.

The Company believes that the combination of present capital resources, internally generated funds, and unused financing sources are more than adequate to meet cash requirements. We intend to meet our liquidity requirements, including capital expenditures related to the purchase of land for the development of our future projects, through cash flow provided by operations and additional funds raised by future financings. Upon acquiring land for future development, we intend to raise funds to develop our projects by obtaining mortgage financing mainly from local banking institutions with which we have done business in the past. We believe that our relationships with these banks are in good standing and that our real estate will secure any loans that are needed. We believe that adequate cash flow will be available to fund our operations.

BUSINESS

Our Company

We are a leading residential developer with a focus on fast growing Tier II and Tier III cities in western China. We are dedicated to providing quality, and affordable housing to middle class families. The majority of our customers are first time home buyers and first time up-graders, who, we believe, will benefit from China's rapid gross domestic product ("GDP") growth and the middle classes' corresponding increase in purchasing power.

We commenced our operations in Xi'an in 1999 and have been considered one of the industry leaders and one of the largest private residential developers in the region. We have experienced significant growth in the past 14 years and have developed over 1.5 million square meters of residential projects. Through the utilization of modern design and technology, as well as a strict cost control system, we are able to offer our customers high quality, cost-effective products. Most of our projects are designed by world-class architecture firms from the United States, Canada and Europe that have introduced advanced "eco" and "green" technologies into our projects.

As we are focusing primarily on the demand from first time home buyers and first time upgraders in western China, the majority of our apartments range in size from 70 square meters to 120 square meters; with such sizes considered to be a stable market section of the residential real estate market in western China. Our typical residential project is approximately 100,000 square meters in size and consists of multiple high-rise, middle-rise and low-rise buildings as well as a community center, commercial units, educational facilities (such as kindergartens) and other auxiliary facilities. In addition, we provide property management services to our developments and have exclusive membership systems for our customers. We typically generate a large portion of our sales through referrals from our existing customers.

We acquire our land reserves and development sites primarily from the local government, open-market auctions, acquisitions of old factories from the government as well as acquisitions of distressed assets from commercial banks. We do not depend on a single method of land acquisition, which enables us to acquire land at reasonable costs and generally enables us to generate higher returns from our developments. We intend to continue our expansion into other strategically selected cities in western China by leveraging our brand name and scalable business model.

Our Strategies

We are primarily focused on the development, construction, management and sale of residential real estate properties to capitalize on the rising demand for real estate from China's emerging middle class. We seek to become the market leader in western China and plan to implement the following specific strategies to achieve our goal:

Consolidate through Acquisition and Partnership. Currently, the residential real estate market in western China is fragmented with many small players. We believe that this market fragmentation will provide us with opportunities for acquisitions or partnerships. We believe acquisitions will provide us better leverage in negotiations and better economies of scale.

Expand into Other Tier II and Tier III Cities. We believe our proven business model and expertise can be replicated in other Tier II and Tier III cities, especially in western China. For example, in 2011, we entered into the Ankang city market for a residential project. Furthermore, we have identified certain other cities that possess attractive replication dynamics. The Ankang project started presales during the fourth quarter of 2012. However, we started to recognize revenue in the second quarter of 2013 for the Ankang project.

Continue to Focus on the Middle Market. Since the middle class has growing purchasing power and, as a result of prevailing Chinese culture and values, a strong desire to own homes, we believe the demand for residential real estate from the emerging middle class will offer attractive opportunities for the growth. Thus, we plan to leverage our brand name, experience and design capabilities to meet middle class demand.

Our Competitive Strengths

We believe we have the following competitive strengths that will enable us to compete effectively and to capitalize on the growth opportunities in our market:

Leading position in our market and industry

We are one of the largest private residential real estate developers in western China. We believe that we have strong design and sales capabilities as well as a well-regarded brand name in the region. Due to strong local project experience and long-term relationships with the central and local governments, we have been able to acquire significant land assets at reasonable costs, thereby providing a strong pipeline of potential future business and revenue over the next three to five years.

Attractive market opportunity

The real estate market in western China has grown slower than that of eastern China. We believe the region is well positioned to grow at faster rates for the next few years due to social and economic factors. Our business model has proven to be efficient and we plan to expand into other Tier II and Tier III cities in western China. Our growth strategy is focused on western China, and we believe we will significantly benefit from the Chinese government's "Go West" policy, which encourages economic development in and population movement to western China.

Unique and proven business model

Due to strong local project experience and long-term working relationships with the central and local governments, we generally have been able to acquire land assets at prices more reasonable than those obtained by our competitors. We are primarily focused on capitalizing on rising demand for properties from China's emerging middle class, which has significant purchasing power and a strong demand for residential housing. In order to leverage our brand to appeal to the middle class, we use various advertising media to market our property developments and to reach our target demographic, including newspapers, magazines, television, radio, e-marketing and outdoor billboards. We believe that our brand is widely recognized in our market and is known for high quality products at reasonable prices.

Experienced management team

We have an experienced management team with a proven track record of developing and expanding our operations. Our four senior officers have more than 70 years of experience developing residential properties. As a result, we have developed extensive core competencies that are supplemented by in-house training and development programs. We believe that our management's core competencies, extensive industry experience and long-term vision and strategy will enable us to effectively realize growth opportunities.

Greater access to financing through multiple channels

We enjoy multiple long-term relationships with a number of high quality Chinese banks and these relationships ensure timely access to capital. Our loan facilities are mainly used for development projects and the day-to-day operation of our business. Besides traditional banks, we also work with other financial institutions, such as trust companies and real estate funds to diversify our funding channels and risks.

Our Property Projects

We provide three fundamental types of real estate developments:

High-rise apartment buildings, typically 19 to 33 stories, usually constructed of steel-reinforced concrete, that are completed within approximately 24 months of securing all required permits.

Mid-rise apartment buildings, typically 7 to 18 stories, usually constructed of steel-reinforced concrete, that are completed within approximately 12 to 18 months of securing all required permits.

Low-rise apartment buildings and villas, typically 2 to 6 stories, often constructed of steel-reinforced concrete, that are completed within approximately 12 months of securing all required permits.

Our projects can be classified into one of four stages of development:

Projects in planning, which include projects for which we have purchased the development and or land use rights for parcels of land as part of our project development pipeline. The completion of projects on these sites is subject to adequate financing, approval of permits, receipt of licenses and certain market conditions;

Projects in process, which include developments where we have typically secured the development and land use rights, and where the site planning, architecture, engineering and infrastructure work is in progress;

Projects under construction, where the building construction has started but has not yet been completed; and

Completed projects with units available for sale, where the construction has been finished and most of the units in the buildings have been sold or leased.

Projects Under Construction



                                                            Actual or
                                          Actual or         Estimated
                                          Estimated          Pre-sale      Total Site        Total             Sold GFA
. . .
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