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SKBI > SEC Filings for SKBI > Form 10-Q on 14-Aug-2014All Recent SEC Filings

Show all filings for SKYSTAR BIO-PHARMACEUTICAL CO

Form 10-Q for SKYSTAR BIO-PHARMACEUTICAL CO


14-Aug-2014

Quarterly Report


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

Overview

We were incorporated in Nevada on September 24, 1998. We are a holding company that, through our wholly owned subsidiaries in China, including Skystar Biotechnology (Jingzhou) Co. ("Skystar Jingzhou"), and a variable interest entity ("VIE"), Xi'an Tianxing Bio-Pharmaceutical Co., Ltd. ("Xi'an Tianxing"), researches, develops, manufactures, and distributes veterinary health care and medical care products in the People's Republic of China ("PRC").

All of our operations are carried out by our subsidiaries in China and Xi'an Tianxing, which the Company controls through contractual arrangements between Xi'an Tianxing and Sida Biotechnology (Xi'an) Co., Ltd. ("Sida"), the wholly owned subsidiary of Fortunate Time International Limited ("Fortune Time"), the wholly owned subsidiary of Skystar Bio-Pharmaceutical (Cayman) Holdings Co., Ltd. ("Skystar Cayman"), which became our wholly owned subsidiary in 2005. Such contractual arrangements are necessary to comply with PRC laws limiting foreign ownership of certain companies. Through these contractual arrangements, we have the ability to substantially influence Xi'an Tianxing's daily operations and financial affairs, appoint its senior executives, and approve all matters requiring shareholder approval. As a result of these contractual arrangements, which enable us to control Xi'an Tianxing, we are considered the primary beneficiary of Xi'an Tianxing.

In addition to Xi'an Tianxing, Skystar Jingzhou also manufactures and distributes veterinary medicines, including aquaculture medicines in China. Skystar Jingzhou is a wholly owned subsidiary of the Company's Sida entity. It was formed with the August 2010 acquisition of a veterinary medicine manufacturing facility in Hubei Province, China.

On August 21, 2007, Xi'an Tianxing invested $81,250 (RMB 500,000) to establish Shanghai Siqiang Biotechnological Co. Ltd. ("Shanghai Siqiang"). Xi'an Tianxing is the 100% shareholder. Shanghai Siqiang serves as a research and development center for Xi'an Tianxing to engage in research, development, production and sales of feed additives and veterinary disease diagnosis equipment.

On May 7, 2010, Fortunate Time formed Skystar Biotechnology (Kunshan) Co., Limited ("Skystar Kunshan") in Kunshan, Jiangsu Province, China with a registered capital of $15,000,000, of which $2,250,000 was paid by Fortunate Time in cash. On March 26, 2014, the Company received the government approval of extension for payment of the remaining registered capital of $12,750,000 by May 6, 2015. Skystar Kunshan was formed in connection with an acquisition of assets to meet part of the registered capital requirements, and was intended to be a micro-organism manufacturing facility for the Company once the acquisition was complete. The asset acquisition was completed in September 2011.

On March 15, 2011, Xi'an Tianxing formed Xi'an Sikaida Bio-products Co., Ltd. ("Xi'an Sikaida") with a registered capital of approximately $1,625,000 (RMB 10,000,000) paid by Xi'an Tianxing.

We rely on a combination of trademark, copyright and trade secret protection laws in China and other jurisdictions, as well as confidentiality procedures and contractual provisions to protect our intellectual property and our brand. On September 23, 2009, we purchased an exclusive aquaculture vaccine technology from and signed a collaborative research and development agreement with China's Fourth Military Medical University ("FMMU") for approximately $1.2 million (RMB 8 million), granting us exclusive rights to sell and market the aquaculture vaccine through 2020. The patent on this acquired technology expired in December 2011. However, we retain know-how for the production line for the vaccine. In collaboration with FMMU, we are in a position to produce the first vaccine in China designed to prevent and treat certain bacterial infection and diseases in marine life without causing harmful side effects. Based on the vaccine's first-to-market status, the Ministry of Agriculture ("MOA") has issued a Grade I Veterinary Certificate for our vaccine. In addition, in 2013 and 2014, we filed 4 additional patent applications with the PRC SIPO, all of which are currently in the review stage. We intend to seek other licenses or apply for exclusivity as necessary in order to protect our rights, and we also enter into confidentiality, non-compete and invention assignment agreements with our employees and consultants and nondisclosure agreements with third parties. Skywing, Stardove, Tian Xing, Hao Shou Yi, and the Chinese characters that transliterate as "Jia Teng Jun," "Jia Teng", "Lan Yuan Kang", "Bao Li Jian", and "Bi Ke Ting" are our registered trademarks in the PRC .

July 2014 Registered Offering

On July 15, 2014, the Company entered into a Securities Purchase Agreement with an institutional investor pursuant to which the Company agreed to sell an aggregate of $5 million of registered securities of the Company in a registered direct offering. Pursuant to the terms of the purchase agreement, the investor shall purchase from the Company 790,514 shares of common stock, 1,000 shares of preferred stock and warrants to purchase up to 247,036 shares of common stock. Each share of common stock and accompanying warrant was sold at $5.06 with a maximum offering of $4 million. Each share of preferred stock and accompanying warrant was sold at $1,000 with a maximum offering of $1 million. The convertible preferred stock has an aggregate stated value of $1 million and a conversion price of $5.06 and carries no dividend rights. The investor warrants have an exercise price of $6.25 per share, will be exercisable six months following issuance and will expire twelve months from the initial exercise date. The offering closed on July 21, 2014. The securities were issued pursuant to a prospectus supplement dated as of July 16, 2014, filed with the SEC in connection with a takedown from the Company's shelf registration statement on Form S-3 (File No. 333-192657), which became effective on December 18, 2013, and the base prospectus dated as of December 18, 2013 contained in such registration statement. H.C. Wainwright & Co., LLC acted as the exclusive placement agent in connection with the offering and, for its services, it received cash compensation in the amount of approximately $320,000 and approximately $50,000 as reimbursements such as legal and professional fees. The Company also registered warrants to purchase up to 29,644 shares of its common stock and the shares of common stock issuable from time to time upon exercise of these warrants issuable to the placement agent in the offering.

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

Critical Accounting Policies

In preparing the consolidated financial statements in accordance with U.S. GAAP, we make estimates and assumptions about the effect of matters that are inherently uncertain and may change in subsequent periods. The resulting accounting estimates will, by definition, vary from the related actual results. We consider the following to be the most critical accounting policies:

Principles of consolidation

The accompanying unaudited condensed consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America. The consolidated financial statements include the financial statements of our company, our wholly-owned subsidiaries, and our VIEs. All significant inter-company transactions and balances between our company, its subsidiaries, and its VIEs have been eliminated in consolidation.

We have evaluated the relationship with Xi'an Tianxing and Xi'an Tianxing's wholly owned subsidiaries, Xi'an Sikaida and Shanghai Siqiang. As a result of the contractual arrangements which obligate Sida to absorb all of the risk of loss from Xi'an Tianxing's activities and enable Sida to receive all of its expected residual returns, the Company accounts for Xi'an Tianxing, Xi'an Sikaida and Shanghai Siqiang as VIEs under the Financial Accounting Standards Board's ("FASB") interpretation on consolidation of variable interest entities. Accordingly, the Company consolidates the results, assets, and liabilities of Xi'an Tianxing, Xi'an Sikaida and Shanghai Siqiang.

Revenue recognition

Our revenue is primarily from the sales of veterinary healthcare and medical care products in China. Sales are recognized when the following four revenue criteria are met: persuasive evidence of an arrangement exists, delivery has occurred, the selling price is fixed or determinable, and collectability is reasonably assured. Sales are presented net of value added tax ("VAT"). No estimated allowance for sales returns is reflected in these consolidated financial statements as sales returns are de minimus based on historical experience.

There are two types of sales upon which revenue is recognized:

a. Credit sales: revenue is recognized when the products have been delivered to the customers.

b. Full payment before delivering: Cash received is recorded as "deposits from customers" and revenue is recognized when the products have been delivered to the customers.

Accounts receivable

Accounts receivable are stated at cost, net of an allowance for doubtful accounts. We maintain allowances for doubtful accounts for estimated losses, if any, resulting from the failure of customers to make required payments. We review the accounts receivable on a periodic basis and makes allowances where there is doubt as to the collectability of individual balances. In evaluating the collectability of individual receivable balances, we consider many factors, including the age of the balance, the customer's payment history, its current credit-worthiness and current economic trends.

Stock based compensation

We record and report stock-based compensation by measuring the cost of services received in exchange for an award of equity instruments based on the grant-date fair value of the award. That cost is recognized over the period during which services are received. Stock compensation for stock granted to non-employees is determined as the fair value of the consideration received or the fair value of equity instruments issued, whichever is more reliably measured.

Recently Issued Accounting Pronouncements

See Item 1 of Part I, "Notes to the Condensed Consolidated Financial Statements
- Note 2 - Summary of Significant Accounting Policies - Recently Issued Accounting Pronouncements."

Results of Operations - Three Months ended June 30, 2014 and 2013



The following table summarizes our results of operations for the three months
ended June 30, 2014 and 2013.



                                                             Three Months Ended June 30,
                                                      2014                                 2013
                                                              % of                                 % of
                                           Amount         total revenue         Amount         total revenue
Revenue                                 $ 14,239,605               100.0 %   $ 11,335,145               100.0 %
Gross Profit                            $  6,358,620                44.7 %   $  5,957,321                52.6 %
Operating Expenses                      $  2,990,889                21.0 %   $  1,411,073                12.4 %
Income from Operations                  $  3,367,731                23.7 %   $  4,546,248                40.2 %
Other Income (Expense)                  $    125,418                 0.9 %   $    (98,610 )              (0.9 )%
Income Tax Expenses                     $    682,389                 4.8 %   $    696,757                 6.2 %
Net Income                              $  2,810,760                19.8 %   $  3,750,881                33.1 %

Revenues. All of our revenues are derived from the sale of veterinary healthcare and medical care products in the PRC. For the three months ended June 30, 2014, we had revenues of $14,239,605 as compared to revenues of $11,335,145 for the three months ended June 30, 2013, an increase of $2,904,460 or 25.6%. We generate revenue from sales of four product lines: veterinary medications, micro-organism, feed additives, and vaccines. The average selling prices of our products increased 34.7% in the three months ended June 30, 2014 compared to the same period of 2013. Sales volume dropped 6.7% for the three months ended June 30, 2014 as compared to the same period in 2013. The increase in revenue was primarily due to the increase of sales of our premium products sold at premium prices.

Revenue - Veterinary Medications. Revenue from sales of our veterinary medications increased by $2,311,427 or 36.7%, from $6,292,573 for the three months ended June 30, 2013 to $8,604,000 for the three months ended June 30, 2014. This increase was primarily because more production permits were received to enable us to produce additional products so we had wider range of product offering to our customers and the increased sales of our premium products. We have two veterinary medication plants located in Huxian and Jingzhou, with Huxian historically being our main facility. Of the total revenues from veterinary medications during the three months ended June 30, 2014, approximately 86.0% of total revenue resulted from the sale of products from the Huxian facility. The revenue from sales of veterinary medication products was the largest revenue contributor for the entire company and contributed 60.4% of total revenue during the three months ended June 30, 2014. The average selling prices of our products increased 60.3% and sales volume decreased by 14.7% in the three months ended June 30, 2014 compared to the same period of 2013. The increase in revenue was primarily due to increase of sales of our premium products at premium prices.

Revenue - Micro-Organism. Revenue from sales of our micro-organism products increased by $823,530 or 20.4% from $4,031,113 for the three months ended June 30, 2013 to $4,854,643 for the three months ended June 30, 2014. The increase was primarily due to increased market demand for our improved products. Currently, we have a micro-organism plant located in Sanqiao. The average selling prices of our products decreased 6.2% in the three months ended June 30, 2014 compared to the same period of 2013. The increase in revenue was mainly due to the increase of sales volume by 28.3%.

Revenue - Feed Additives. Revenue from sales of our feed additives product line increased by $261,659 or 50.9% from $514,161 for the three months ended June 30, 2013 to $775,820 for the three months ended June 30, 2014. The increase was primarily the result of our new sales strategy to bundle the feed additives products with our popular veterinary medications resulting in increased feed additive sales. Currently, we have a feed additive plant located in Sanqiao. The average selling prices of our feed additives products for the three months ended June 30, 2014 have not materially changed from last year. The increase in revenue was primarily due to the increase of sales volume by 50.5%.

Revenue - Vaccines. Revenue from sales of our vaccines decreased by $492,156 or 99.0% from $497,298 for the three months ended June 30, 2013 to $5,142 for the three months ended June 30, 2014. The significant decrease was primarily the result of our transition from small scale lab production to large scale factory manufacturing as our new state-of-art vaccine facility has been completed and certified by the Chinese GMP standard. We no longer produced vaccine products in our lab this quarter. We expect to receive the vaccine production permit from the government in the third quarter and commence production in our new facility shortly thereafter. The average selling prices of our vaccine products increased approximately 23.9% for the three months ended June 30, 2014 compared to those in 2013. The decrease in revenue was primarily due to the decrease of sales volume by 99.2%.

Cost of Sales. Cost of sales was $7,880,985 for the three months ended June 30, 2014, as compared to $5,377,824 for the three months ended June 30, 2013, an increase of $2,503,161 or 46.5%, as a result of the increased veterinary medication sales. For the three months ended June 30, 2014, raw material costs comprised the majority or approximately 81.2% of total cost of sales, packing material costs comprised approximately 15.5% of the total cost of sales, and labor costs and manufacturing overhead comprised approximately 3.3% of the total cost of sales. The decreased gross margins for the three months ended June 30, 2014 was mainly because the majority of our revenue during the three months came from the less profitable veterinary medications product line.

Cost of Sales - Veterinary Medications. Cost of sales of our veterinary medications product line increased from $3,740,498 for the three months ended June 30, 2013 to $5,251,363 for the three months ended June 30, 2014, an increase of $1,510,865 or 40.4%. This increase was mainly due to the increase in corresponding sales as a result of strong sales of our premium products during the second quarter of 2014. Cost of sales of veterinary medications product line comprised 66.6% of total cost of sales for the three months ended June 30, 2014.

Cost of Sales - Micro-Organism. Cost of sales of our micro-organism product line increased from $1,179,499 for the three months ended June 30, 2013 to $2,142,001 for the three months ended June 30, 2014, an increase of $962,502 or 81.6%. This increase was higher than the 20.4% of increase in sales. The increase was mainly due to the changes in the production formula aimed to improve the product efficacy for some of our micro-organism products, which increased our unit raw material costs to produce these micro-organism products.

Cost of Sales - Feed Additives. Cost of sales of our feed additives product line increased from $399,883 for the three months ended June 30, 2013 to $485,517 for the three months ended June 30, 2014, an increase of $85,634 or 21.4%. This increase in cost of sales was mainly due to the corresponding increase in feed additive sales. However, the changes in the production formula and better quality of the raw materials used in production helped us partially offset the increase of cost of sales during the second quarter of 2014.

Cost of Sales - Vaccines. Cost of sales of our vaccines product line decreased from $57,944 for the three months ended June 30, 2013 to $2,104 for the three months ended June 30, 2014, a decrease of $55,840 or 96.4%. This decrease was the result of the corresponding decrease of vaccine product sales.

Operating Expenses



                                                        Three Months Ended June 30,
                                                   2014                            2013
                                                        % of total                      % of total
                                          Amount          revenue         Amount          revenue
Operating Expenses
Research and Development Costs          $   798,980             5.6 %   $    92,926             0.8 %
Selling Expenses                        $   834,606             5.9 %   $   629,337             5.5 %
General and Administrative Expenses     $ 1,357,303             9.5 %   $   688,810             6.1 %
Total Operating Expenses                $ 2,990,889            21.0 %   $ 1,411,073            12.4 %

Research and Development Costs. Research and development costs totaled $798,980 for the three months ended June 30, 2014 as compared to $92,926 for the three months ended June 30, 2013, an increase of $706,054 or 759.8%. The increase was primarily due to expenditures of approximately $672,000 on the newly launched R&D projects undertaken during the second quarter of 2014 to develop four new types of veterinary medications.

Selling Expenses. Selling expenses totaled $834,606 for the three months ended June 30, 2014 as compared to $629,337 for the three months ended June 30, 2013, an increase of $205,269 or 32.6%. This increase is mainly due to the increase in sales commissions of $131,161 as a result of our newly implemented commission policies to encourage our sales personnel to boost sales.

General and Administrative Expenses. General and administrative expenses totaled $1,357,303 for the three months ended June 30, 2014 as compared to $688,810 for the three months ended June 30, 2013, an increase of $668,493 or 97.1%. This increase was mainly due to an additional $427,427 of allowance on doubtful accounts during the quarter. In addition, an increase of $91,165 in stock based compensation due to new employment agreements effective in the first quarter, an increase in salaries of $40,210 and an increase of $54,042 of legal fees used in capital raising activities also contributed to the increase of general and administrative expenses in the quarter.

Other Income (Expenses).Other net income was $125,418 for the three months ended June 30, 2014 as compared to other net expense of $98,610 for the three months ended June 30, 2013, an increase in other income of $224,028. This increase was primarily due to our decreased interest expenses of $84,221 on our borrowings which carried lower interest in 2014 than 2013. A fair value gain on our purchase option liability of $78,960 also contributed to the increase in other net income in this quarter.

Provision for Income Taxes.Income tax expenses were $682,389 for the three months ended June 30, 2014 as compared to $696,757 for the three months ended June 30, 2013, a decrease of $14,368 or 2.1%, representing an effective tax rate of 19.5% and 15.7% for the three months ended June 30, 2014 and 2013, respectively. For the three months ended June 30, 2014 and 2013, Xi'an Tianxing was subject to a preferential income tax rate of 15% while other PRC subsidiaries were subject to statutory tax rate of 25%. For the three months ended June 30, 2014 and 2013, Xi'an Tianxing contributed the majority of consolidated profits in China. Excluding the valuation allowances on tax losses incurred by the Company and its PRC subsidiaries, the effective tax rate was 16.6% and 15.0%, respectively.

Results of Operations - Six Months ended June 30, 2014 and 2013



The following table summarizes our results of operations for the six months
ended June 30, 2014 and 2013.



                                              Six Months Ended June 30,
                                      2014                                2013
                                            % of total                            % of
                             Amount           revenue          Amount         total revenue
Revenue                   $ 21,072,193            100.0 %   $ 16,865,886               100.0 %
Gross Profit              $  9,181,805             43.6 %   $  8,557,176                50.7 %
Operating Expenses        $  4,641,727             22.0 %   $  2,940,643                17.4 %
Income from Operations    $  4,540,078             21.5 %   $  5,616,533                33.3 %
Other Income (Expenses)   $    358,548              1.7 %   $   (134,878 )              (0.8 )%
Income Tax Expenses       $  1,112,416              5.3 %   $  1,018,041                 6.0 %
Net Income                $  3,786,210             18.0 %   $  4,463,614                26.5 %

Revenues. All of our revenues are derived from the sale of veterinary healthcare and medical care products in the PRC. For the six months ended June 30, 2014, we had revenues of $21,072,193 as compared to revenues of $16,865,886 for the six months ended June 30, 2013, an increase of $4,206,307 or 24.9%. We generate revenue from sales of four product lines: veterinary medications, micro-organism, feed additives, and vaccines. The average selling prices of our products increased 11.6% in the six months ended June 30, 2014 compared to the same period of 2013. The increase in revenue was primarily due to the increase of sales volume by 12.0%.

Revenue - Veterinary Medications. Revenue from sales of our veterinary medications increased by $3,709,678 or 38.1% from $9,739,290 for the six months ended June 30, 2013 to $13,448,968 for the six months ended June 30, 2014. After passing the GMP re-certification of our Huxian facility, we were eligible to renew our expired veterinary medication product permits and submit applications for new product permits. The increase of revenue was primarily a result of more veterinary medication product permits received for manufacturing. The revenue from sales of veterinary medication products was the largest revenue contributor for the entire company and contributed 63.8% of total revenue during the six months ended June 30, 2014. The average selling prices of our veterinary medication products for the six months ended June 30, 2014 increased 22.7% from the same period of last year. The increase in revenue was primarily due to the increase of sales volume by 12.6% and increased sales of our premium products.

Revenue - Micro-Organism. Revenue from sales of our micro-organism products increased by $677,513 or 11.9% from $5,698,295 for the six months ended June 30, 2013 to $6,375,808 for the six months ended June 30, 2014. The increase was primarily due to increased market demand to our improved products. The average selling prices of our micro-organism products for the six months ended June 30, 2014 decreased 3.4% from the same period of last year. The increase in revenue was mainly due to the increase of sales volume by 15.8%.

Revenue - Feed Additives. Revenue from sales of our feed additives product line increased by $305,908 or 38.2% from $800,449 for the six months ended June 30, 2013 to $1,106,357 for the six months ended June 30, 2014. The increase was primarily due to our increased sales efforts for our feed additive products. The average selling prices of our feed additives products for the six months ended June 30, 2014 increased 1.2% from the same period of last year. The increase in revenue was primarily due to the increase of sales volume by 36.6%.

Revenue - Vaccines. Revenue from sales of our vaccines decreased by $486,792 or 77.5% from $627,852 for the six months ended June 30, 2013 to $141,060 for the six months ended June 30, 2014. The significant decrease was primarily due to our transition from small scale lab production to large scale factory manufacturing of vaccine as our new Huxian vaccine facility has been completed and GMP certified. We no longer produced vaccine products in our lab starting from the second quarter of 2014. We expect to receive the vaccine production permit from the government in the third quarter and commence production in our new facility shortly thereafter. The average selling prices of our vaccines products for the six months ended June 30, 2014 have not changed materially from the same period of last year. The decrease in revenue was primarily due to the decrease of sales volume by 77.7%.

Cost of Sales. Cost of sales was $11,890,388 for the six months ended June 30, 2014, as compared to $8,308,710 for the six months ended June 30, 2013, an increase of $3,581,678 or 43.1%, as a result of the increased sales of our veterinary medications product line. For the six months ended June 30, 2014, raw material costs comprised the majority or approximately 80.9% of total cost of sales, packing material costs comprised approximately 14.2% of total cost of sales, and labor costs and manufacturing overhead comprised approximately 4.9% of the total cost of sales. The decreased gross margins was mainly because the majority of our revenue growth during the first half year came from the less profitable veterinary medications product lines.

Cost of Sales - Veterinary Medications. Cost of sales of our veterinary medications product line increased from $5,846,014 for the six months ended June 30, 2013 to $8,284,390 for the six months ended June 30, 2014, an increase of $2,438,376 or 41.7%. This increase was mainly due to the increase in . . .

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