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CNET > SEC Filings for CNET > Form 10-Q on 17-Jul-2014All Recent SEC Filings

Show all filings for CHINANET ONLINE HOLDINGS, INC.

Form 10-Q for CHINANET ONLINE HOLDINGS, INC.


17-Jul-2014

Quarterly Report


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

Forward-Looking Statements

You should read the following discussion and analysis of our financial condition and results of operations in conjunction with our consolidated financial statements and the related notes included elsewhere in this interim report. Our consolidated financial statements have been prepared in accordance with U.S. GAAP. The following discussion and analysis contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, including, without limitation, statements regarding our expectations, beliefs, intentions or future strategies that are signified by the words "expect," "anticipate," "intend," "believe," or similar language. All forward-looking statements included in this document are based on information available to us on the date hereof, and we assume no obligation to update any such forward-looking statements. Our business and financial performance are subject to substantial risks and uncertainties. Actual results could differ materially from those projected in the forward-looking statements. In evaluating our business, you should carefully consider the information set forth under the heading "Risk Factors" in our Annual Report on Form 10-K for the fiscal year ended December 31, 2013. Readers are cautioned not to place undue reliance on these forward-looking statements.

Overview

We were incorporated in the State of Texas in April 2006 and re-domiciled to become a Nevada corporation in October 2006. On June 26, 2009, we consummated a share exchange transaction with China Net Online Media Group Limited (the "Share Exchange"), a company organized under the laws of British Virgin Islands ("China Net BVI"). As a result of the Share Exchange, China Net BVI became a wholly owned subsidiary of us and we are now a holding company, which, through certain contractual arrangements with operating entities in the PRC, is engaged in providing advertising, marketing, communication and brand management and sales channel building services to SMEs in China.

Through our PRC operating subsidiary and VIEs, we primarily operate an one-stop services for our clients on four major service platforms, including social networking service information platform, multi-channel advertising and promotion platform, brand management and sales channel building platform and management tools platform. Our social networking service information platform primarily consists of www. chuangye.com, an information and service portal for entrepreneurs or any individual who plans to start their own business. Our multi-channel advertising and promotion platform primarily consists of internet advertising and marketing portals, including www.28.com ("28.com"), www.liansuo.com ("liansuo.com") and www.sooe.cn ("sooe.cn"), ChinaNet TV as our TV production and advertising unit and the bank kiosk advertising unit. We provide varieties of marketing campaigns through this platform by the combination of the Internet, mobile, television, bank kiosks and printed-medias to maximize market exposure and effectiveness for our clients. Our band management and sales channel expansion platform consists of our brand consulting and management service and offline sales channel expansion service, which is to physically help small businesses to recruit dealers, wholesalers, partners or franchisees based on their business needs. Management tools platform consists of a mobile-based sales and administrative management tools specifically designed for small business in China to match their simplicity.

Basis of presentation, management estimates and critical accounting policies

Our unaudited interim consolidated financial statements have been prepared in accordance with U.S. GAAP for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X, as promulgated by the SEC, and include the accounts of our Company, and all of our subsidiaries and VIEs. We prepare financial statements in conformity with U.S. GAAP, which requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities on the date of the financial statements and the reported amounts of revenues and expenses during the financial reporting period. We continually evaluate these estimates and assumptions based on the most recently available information, our own historical experience and various other assumptions that we believe to be reasonable under the circumstances. Since the use of estimates is an integral component of the financial reporting process, actual results could differ from those estimates. Some of our accounting policies require higher degrees of judgment than others in their application. In order to understand the significant accounting policies that we adopted for the preparation of our interim consolidated financial statements, you should refer to the information set forth in Note 3 "Summary of significant accounting policies" to our audited financial statements in our 2013 Form 10-K.


Recent Accounting Standards

In April 2014, the Financial Accounting Standard Board ("FASB") issued Accounting Standards Update ("ASU") 2014-08, "Presentation of Financial Statements (Topic 205) and Property, Plant, and Equipment (Topic 360): Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity." This ASU changes the threshold for reporting discontinued operations and adds new disclosures. The new guidance defines a discontinued operation as a disposal that "represents a strategic shift that has (or will have) a major effect on an entity's operations and financial results." The standard is required to be adopted by public business entities in annual periods beginning on or after December 15, 2014, and interim periods within those annual periods. Early adoption is permitted, but only for disposals (or classifications as held for sale) that have not been reported in financial statements previously issued or available for issuance. The adoption of this standard is not expected to have a material impact on our consolidated financial position or results of operations.

In May 2014, the FASB issued ASU No. 2014-09, "Revenue from Contracts with Customers (Topic 606)". This ASU supercedes the revenue recognition requirements in Accounting Standards Codification ("ASC") 605-Revenue Recognition and most industry-specific guidance throughout the Codification. The standard requires that an entity recognizes revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. This ASU should be applied retrospectively to each prior reporting period presented or retrospectively with the cumulative effect of initially applying the ASU recognized at the date of initial application. For a public entity, the amendments in this ASU are effective for annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period. Early application is not permitted. For all other entities (nonpublic entities), the amendments in this ASU are effective for annual reporting periods beginning after December 15, 2017, and interim periods within annual periods beginning after December 15, 2018. A nonpublic entity may elect to apply this guidance earlier, however, only as prescribed in this ASU. The adoption of this standard is not expected to have a material impact on our consolidated financial position and results of operations.

Other accounting standards that have been issued or proposed by the FASB or other standards-setting bodies that do not require adoption until a future date are not expected to have a material impact on our consolidated financial statements upon adoption.

A.    RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED MARCH 31, 2014 AND 2013

The following table sets forth a summary, for the periods indicated, of our
consolidated results of operations. Our historical results presented below are
not necessarily indicative of the results that may be expected for any future
period. All amounts, except number of shares and per share data, are presented
in thousands of US dollars.

                                                                     Three Months Ended March 31,
                                                                        2014                2013
                                                                         US$                US$
                                                                     (Unaudited)        (Unaudited)

Sales
From unrelated parties                                             $         5,182      $      6,990
From related parties                                                             1                59
                                                                             5,183             7,049
Cost of sales                                                                3,822             4,467
Gross margin                                                                 1,361             2,582

Operating expenses
Selling expenses                                                               589               788
General and administrative expenses                                            987             1,402
Research and development expenses                                              450               449
                                                                             2,026             2,639

Loss from operations                                                          (665 )             (57 )

Other income (expenses)
Interest income                                                                 31                32
Interest expense                                                               (16 )               -
Other expenses                                                                  (1 )              (1 )
                                                                                14                31
Loss before income tax expense, equity method investments and
noncontrolling interests                                                      (651 )             (26 )
Income tax (expense)/benefit                                                   (48 )              86
(Loss)/income before equity method investments and
noncontrolling interests                                                      (699 )              60
Share of losses in equity investment affiliates                                (15 )             (71 )
Net loss                                                                      (714 )             (11 )
Net loss attributable to noncontrolling interests                               46                41
Net (loss)/income attributable to ChinaNet Online Holdings, Inc.              (668 )              30

(Loss)/earnings per share
(Loss)/earnings per common share
Basic                                                              $         (0.03 )    $       0.00
Diluted                                                            $         (0.03 )    $       0.00

Weighted average number of common shares outstanding:
Basic                                                                   22,376,540        22,186,540
Diluted                                                                 22,376,540        22,186,540


Revenue

The following tables set forth a breakdown of our total revenue, divided into
five segments for the periods indicated, with inter-segment transactions
eliminated:

                                                                             Three Months Ended March 31,
                                                                    2014                                         2013
Revenue type                                              (Amounts expressed in thousands of US dollars, except percentages)

Internet advertisement                             $          3,496                   67.4 %       $          3,711            52.7 %
Technical services                                               84                    1.6 %                    100             1.4 %
TV advertisement                                              1,182                   22.8 %                  2,638            37.4 %
Bank kiosks                                                      71                    1.4 %                     69             1.0 %
Brand management and sales channel building                     350                    6.8 %                    531             7.5 %
Total                                              $          5,183                    100 %       $          7,049             100 %

Total Revenues: Our total revenues decreased to US$5.18 million for the three months ended March 31, 2014 from US$7.05 million for the three months ended March 31, 2013, representing a 26% decrease. This decrease is primarily due to the decrease in internet advertising and related technical service revenue and TV advertising revenue of approximately 6% and 55%, respectively, during the three months ended March 31, 2014 as compared to the same period of last year.

We derive the majority of our advertising service revenues from the sale of advertising space on our internet portals and from providing the related technical support and services, internet marketing service and content management services to unrelated third parties and to certain related parties. We also derive revenue from the sale of advertising time purchased from different TV programs. Our advertising services to related parties were provided in the ordinary course of business on the same terms as those provided to our unrelated advertising clients. For the three months ended March 31, 2014 and 2013, our service revenue from related parties in the aggregate was less than 1% of the total revenue we achieved for each respective reporting period.

Our advertising service revenues are recorded net of any sales discounts. Sales discounts include volume discounts and other customary incentives offered to our small and medium-sized franchise and merchant clients, including providing them with additional advertising time for their advertisements if we have unused space available on our websites and represent the difference between our official list price and the amount we actually charge our clients. We typically sign service contracts with our small and medium-sized franchisor and other clients that require us to place the advertisements on our portal websites in specified locations on the sites and for agreed periods; and/or place the advertisements onto our purchased advertisement time during specific TV programs for agreed periods. We recognize revenues as the advertisement airs over the contractual term based on the schedule agreed upon with our clients.

The tables below summarize the revenues, cost of sales, gross margin and net income/(loss) generated from each of our VIEs and subsidiaries for the three months ended March 31, 2014 and 2013, respectively.


For the three months ended March 31, 2014:

                                                                       Revenue
                                                    Revenue from         from         Revenue from
                                                     unrelated         related           inter-
Name of subsidiary or VIE                             parties          parties           company          Total
                                                      ($'000)          ($'000)           ($'000)         ($'000)

Rise King WFOE                                                 84              -                   -           84
Business Opportunity Online and subsidiaries                5,027              1                   -        5,028
Beijing CNET Online and subsidiaries                           71              -                   -           71
Total revenue                                               5,182              1                   -        5,183

For the three months ended March 31, 2014:

Name of subsidiary or VIE                       Cost of Sales      Gross Margin
                                                   ($'000)            ($'000)

Rise King WFOE                                               -                84
Business Opportunity Online and subsidiaries             3,822             1,206
Beijing CNET Online and subsidiaries                         -                71
Total                                                    3,822             1,361

For the three months ended March 31, 2014:

Name of subsidiary or VIE                                         Net Loss
                                                                    ($'000)

Rise King WFOE                                                         (298 )
Business Opportunity Online and subsidiaries                           (373 )
Beijing CNET Online and subsidiaries                                    (10 )
Shanghai Jing Yang                                                       (2 )
ChinaNet Online Holdings, Inc.                                          (31 )
Total net loss before allocation to the noncontrolling interest        (714 )

For the three months ended March 31, 2013:

                                                                       Revenue
                                                    Revenue from        from         Revenue from
                                                     unrelated         related          inter-
Name of subsidiary or VIE                             parties          parties          company          Total
                                                      ($'000)          ($'000)          ($'000)         ($'000)

Rise King WFOE                                                 53            47                   -          100
Business Opportunity Online and subsidiaries                4,127            12                   -        4,139
Beijing CNET Online and subsidiaries                        2,810             -                   -        2,810
Total revenue                                               6,990            59                   -        7,049

For the three months ended March 31, 2013:

Name of subsidiary or VIE                       Cost of Sales      Gross Margin
                                                   ($'000)            ($'000)

Rise King WFOE                                               -               100
Business Opportunity Online and subsidiaries             2,026             2,113
Beijing CNET Online and subsidiaries                     2,441               369
Total                                                    4,467             2,582


For the three months ended March 31, 2013:

Name of subsidiary or VIE                                                   Net (Loss)/Income
                                                                                 ($'000)

Rise King WFOE                                                                            (275 )
Business Opportunity Online and subsidiaries                                               663
Beijing CNET Online and subsidiaries                                                      (262 )
Shanghai Jing Yang                                                                          (1 )
ChinaNet Online Holdings, Inc.                                                            (136 )
Total net loss before allocation to the noncontrolling interest                            (11 )

Management considers revenues generated from internet advertising and the related technical services as one aggregate business operation and relies upon the consolidated results of all the operations in this business unit to make decisions about allocating resources and evaluating performance.

Internet advertising revenues for the three months ended March 31, 2014 were approximately US$3.50 million as compared to US$3.71 million for the same period in 2013, representing a decrease of approximately 6%, which resulted from a decrease in number of customers during the period as compared to the same period of last year. The decrease in number of customers in the first fiscal quarter of 2014 was primarily due to that in the fourth fiscal quarter of 2013, one of the technical staff was detected from stole and intercepted our websites visitors' message and information from our database for his own benefit, which damaged the effectiveness of our online advertising platform and its ability to satisfy the overall advertising effects expected by our clients for a certain time of period. As a result, the confidence of our customers to the effectiveness of our online advertising portals was also harmed. Management had taken immediate remedial measures once this incident was detected, including reassessing of our server security and monitoring processes, upgrading firewalls and security procedures, communicating and comforting our customers and increasing the cost on direct search engine marketing to regain and strengthen their confidence. Management believes that this is an infrequent event in our ordinary course of business and our sales performance will be able to gradually recover in further periods of the year.

Revenues generated from technical services offered by Rise King WFOE were US$0.08 million for the three months ended March 31, 2014 as compared to US$0.10 million for the same period in 2013. Due to unexpectedly economic difficulties and overall economic downturn in China from the second half of 2011, with no significant improvement afterwards, many of our clients, including our branded clients, who are mostly SMEs, reduced their advertising spending significantly, majority of our clients cancelled the subscription of these services and only continued their basic internet advertising service, which was recorded in as our internet advertising revenue discussed above. As there was no significant improvement in the overall economic in China for the past two years, our technical services revenue generated by Rise King WFOE was insignificant for both the three months ended March 31, 2014 and 2013.

Our TV advertising revenue decreased to US$1.18 million for the three months ended March 31, 2014 from US$2.64 million for the same period in 2013, representing a 55% decrease. We generated this US$1.18 million in TV advertising revenue by selling approximately 1,180 minutes of advertising time that we purchased from one provincial TV stations as compared with approximately 1,864 minutes we sold in the same period of 2013. The decrease in TV advertising revenue was primarily due to the adoption of a restrictions notice to TV shopping infomercials broadcasted in provincial satellite television station, issued by the State Administration of Press, Publication, Radio, Film and Television of the People's Republic of China (the "SARFT") in October 2013, which further restricts the contents, air time and duration of these infomercials. This restriction notice has had and may continue to have adverse impacts on the demands of our TV advertising service. In response to these restrictions, management plans to cooperate with the television stations to develop and produce new form of TV program which will replace TV shopping infomercials to help our client to raise their brand and product awareness, and to develop of non-TV shopping advertising customers. We will continue to monitor our customers' needs of the TV advertising services and improve the profitability of this business segment in future periods.

For the three months ended March 31, 2014 and 2013, we earned both approximately US$0.07 million of revenue from the bank kiosk business segment. The bank kiosk advertising business is not intended to expand at the moment as management's primary focus is on expanding internet business. The kiosk business' many details still need to be further analyzed and confirmed before allocating more capital to this business unit. Therefore, it was not a significant contributor to revenue for either the three months ended March 31, 2014 or 2013. Management currently maintains this business without any expansion plans and some of the technology used in this business unit will be fully integrated into the overall advertising and marketing platform.


For the three months ended March 31, 2014, we generated approximately US$0.35 million service revenue from our brand management and sales channel building segment as compared to US$0.53 million service revenue generated in the same period of 2013. Due to the estimated slow recovery of economy in 2014 and in consideration of the fact that our customers who had made large spending to use our services in previous years and intent to tighten their advertising budget, we do not expect growth in this business segment in 2014.

Cost of revenues

Our cost of revenue consisted of costs directly related to the offering of our advertising services, technical services, marketing services and brand management and sales channel building services. The following table sets forth our cost of revenues, divided into five segments, by amount and gross profit ratio for the periods indicated, with inter-segment transactions eliminated:

                                                                     Three Months Ended March 31,
                                                         2014                                              2013
                                                  (Amounts expressed in thousands of US dollars, except percentages)
                                      Revenue            Cost            GP ratio          Revenue           Cost        GP ratio

Internet advertisement              $     3,496       $     2,542               27 %     $     3,711       $   1,644            56 %
Technical service                            84                 -              100 %             100               -           100 %
TV advertisement                          1,182             1,095                7 %           2,638           2,500             5 %
Bank kiosk                                   71                 -              100 %              69               -           100 %
Brand management and sales
channel building                            350               185               47 %             531             323            39 %
Total                               $     5,183       $     3,822               26 %     $     7,049       $   4,467            37 %

Cost of revenues: Our total cost of revenues decreased to US$3.82 million for the three months ended March 31, 2014 from US$4.47 million for the same period in 2013. This was primarily due to the decrease in costs associated with our TV advertisement business segment, which was in line with the decrease in our TV advertisement revenue as discussed above. Our cost of revenues related to the offering of our advertising and marketing services primarily consists of internet resources purchased from key search engines and other portal websites, TV advertisement time costs purchased from TV stations and direct labor cost associated with providing services.

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