ITEM 1. Description of Business
Historical Corporate Development
China Digital Media Corporation (”CDMC”) was previously known as HairMax International, Inc. (“Hairmax”), a Nevada corporation. It was incorporated in Nevada in 1987. Arcotect Digital Technology Limited, a corporation organized under the laws of Hong Kong, consummated a reverse merger with Hairmax in March, 2005, and Hairmax subsequently changed its name to China Digital Media Corporation. With the termination of the original businesses of Hairmax, all of China Digital Media Corporation’s businesses are now located in the People’s Republic of China (the “PRC” or “China”). Arcotect Digital Technology Limited has changed its name to China Digimedia Holdings Limited (“CDHL”), and is a wholly-owned subsidiary of CDMC.
CDHL was incorporated in Hong Kong on January 5, 2000 as an investment holding company. Its wholly owned subsidiary, Arcotect (Guangzhou) Ltd. (“AGL”), was incorporated in China as a wholly foreign owned limited liability company on September 24, 2001. AGL is engaged in software development, digital television subscriber and application platform development. AGL, through its Nanhai branch established on July 8, 2004, is engaged in the business of converting television signals from analog into digital signal systems using digital television set-top-boxes (“STB”) and smart cards.
On June 15, 2005, CDHL entered into a Strategic Alliance Agreement with shareholders of Guangdong HuaGuang Digimedia Culture Development Limited (“HuaGuang”) whereby CDHL held a 90% variable interest in HuaGuang. On January 24, 2007, CDHL exercised its right to hold 100% interest in HuaGuang.
On August 25, 2005, CDHL acquired a 100% interest in Guangdong M-Rider Media Company Limited (“M-Rider”), a limited liability company in the PRC. M-Rider operates primarily as a Chinese television advertising agency.
On October 17, 2005, CDHL established a wholly-owned subsidiary in China called Digimedia Services (Shenzhen) Limited (“Digimedia Shenzhen”). This subsidiary has had no operations since its incorporation.
In February 2006, HuaGuang undertook two joint ventures with the Guizhou Television Station. Huaguang held a 51% equity interest in Guizhou Guishi Digimedia Advertising Company Limited (“Guishi Digimedia”) and a 49% equity interest in Guizhou Guishi Huaguang Media Company Limited (“Guishi Huaguang”). Guishi Digimedia is a television advertising agency and Guishi Huaguang provides various services to television channels including program sourcing, schedule planning and the production of television programming. On August 19, 2007, HuaGuang sold its shares in Guishi Digimedia and Guishi Huaguang to Guizhou Tianma Advertising Company.
On August 23, 2006, CDHL acquired a 20% interest in Arable Media Limited (“Arable”). Arable is engaged in the business of developing middleware software and applications for digital TV STB.
On May 21, 2007, CDHL acquired a 100% interest in Maxcomm Ltd. (“Maxcomm”), its only asset is the 80% interest in Arable. After the completion of the acquisition, CDHL beneficially owns 100% interest in Arable.
On October 29, 2007, Arable established a wholly-owned subsidiary in China called Arable (Guangzhou) Limited (“Arable GZ”). This subsidiary is engaged in research and development, marketing and promotion of STB Middleware.
CDMC, CDHL, AGL, HuaGuang, M-Rider, Digimedia Shenzhen, Maxcomm, Arable and Arable GZ are hereinafter referred to as (the “Company”). Currently, the Company has approximately 200 employees located primarily in the PRC.
Current Corporate Structure and Mission
For the year ended December 31, 2009, CDMC owned the following subsidiaries:
(a)
100% of CDHL, an investment holding company incorporated in Hong Kong;
(b)
100% of Maxcomm, a limited liability company incorporated in British Virgin Island, which holds 80% equity interest in Arable, and a 20% interest in Arable, through CDHL, a limited liability company incorporated in Hong Kong;
(c)
100% of AGL through CDHL, a limited liability company incorporated in China;
(d)
100% variable interest of HuaGuang under CDHL, a limited liability company incorporated in China;
(e)
100% beneficial interest of M-Rider through CDHL, a limited liability company incorporated in China;
(f)
100% interest in Arable GZ through Arable, a limited liability company incorporated in China;
Broadcasting media and cable television operational support services in the PRC is our primary source of business, and is currently a growth industry in China. Our business plan is to strengthen our brand image and to enlarge our presence and involvement in the Chinese media industry through investment, mergers, acquisitions and partnership alliances. We continue to believe there will be rapid growth and potential opportunities in China's media industry, thus we plan continue to invest our resources into the market across China.
Operation Business
The Company is primarily involved in the following businesses in China:
1) Cable television operational support services and digital broadcast technology development; and
2) Advertising sales.
Cable Television Operational Support Services and Digital Broadcast Technology Development
Arcotect (Guangzhou) Ltd. (“AGL”), a wholly owned foreign subsidiary of CDMC, duly established under the laws of the PRC, is legally authorized to carry out the business activities enumerated in its PRC business license, namely, research, production and the development of STB for digital television (“DTV”), computer software, software relating to information platform for DTV, software and hardware relating to DTV; sales and after sale services of self- manufactured products; carrying out network projects; and providing related consulting, technical, repair and maintenance services. AGL is the sole contractor providing support services for the operation of DTV in Nanhai, located in Guangdong Province, a city with over 435,000 residential and commercial cable television subscribers.
On February 6, 2004, the Company signed a 20-year Co-operative Agreement for Total Migration into the DTV System for the Nanhai District and subsequently signed a supplementary agreement on July 8, 2005 (collectively, the “Cooperative Agreements”) with the Nanhai Network Company, a city-owned cable network operator located in Guangdong Province. Pursuant to the Co-operative Agreements, the Company is responsible for migrating all cable television subscribers in Nanhai from an analog to a digital system (“Migration”) by the end of 2007. Owing to the technical issue of the local network upgrade by Nanhai Network Company, the Migration completion date has been re-scheduled to the end of 2009, and it was completed in December 2009 The Company entered into two supplementary agreements with the Nanhai Network Company in May and December 2007, pursuant to the Co-operative Agreements, for re-scheduling the Migration completion date to the end of 2009.
According to the Co-operative Agreements, AGL is entitled to share the subscription fees paid by all cable television subscribers as well as paid by DTV subscribers for additional services, including pay-TV services, and to receive the subscription fee for any additional STBs purchased by subscribers.
Under the Co-operative Agreements, the Company is responsible for supplying all subscribers with a digital STB on a lease basis to subscribers. If subscribers require an additional STB, they must purchase the STB from the Company and pay an additional subscription fee. The Company is also responsible for providing operational support services including migration planning, marketing and sales, software development, customer service and logistics administration. The Company’s proprietary operating support system automates many DTV business processes, such as database management, billings, work orders and inventory control, and assists in the operation of a 24/7 call center for technical support and customer care. The city-owned cable company retains management of the broadcasting system and the fiber-optic network and is responsible for compliance with national broadcasting policies.
In early May of 2006, the Company’s office located in Nanhai moved to a much larger facility with more than 10,000 sq. ft. The new office building is also headquarters to the Nanhai TV Bureau and the Nanhai Network Company.
During 2007, the Company entered into an agreement with the Nanhai Network Company to obtain a more favorable DTV basic subscription fee income sharing plan in exchange for setting aside a certain portion of trade receivable balance due from Nanhai Network Company from the current balance. Such portion is to be amortized over 15 years annually and evenly out of the increased fee income after the upward price adjustment for DTV basic subscription fee implemented in 2008. The said portion is being treated as long term asset in the financial statements as of December 31, 2009.
On August 23, 2006, the Company entered into a Subscription Agreement and Cooperation Agreement (the “Agreement”) with Manta Finance Limited for the subscription of a 20% equity interest in Arable Media Limited, a wholly owned subsidiary of Manta Finance Limited. On May 21, 2007, Company entered into a Share Purchase And Transfer Agreement (the “2nd Agreement”) with Lippo Star Investment Limited for acquiring 80% equity interest in Arable Media Limited via Maxcomm Limited where the only asset of Maxcomm Limited is the equity interest in Arable Media Limited. Arable is engaged in the business of developing middleware software and applications for digital TV STB similar to those deployed by the Company in its digital roll-out program in the City of Nanhai. The Company believes that Arable could assist in developing customized applications on the digital STB for DTV subscribers which could provide new sources of revenue from existing customers in Nanhai and other cities.
Arable GZ is engaged in research and development, sales and marketing of STB Middleware in China.
Migration to DTV Service
The Company has fully migrated approximately 150,000 subscribers in 2009 totaling about 430,000 subscribers to the DTV system as of December 31, 2009,
Basic Services
Basic service is available to all cable television subscribers, consisting of 46 channels of programming. This service comprises programming provided by national television networks, provincial and city television stations, and one channel provided by AGL.
Value Added Packages (VAP)
The broadcast system that decrypts the signal for the Company’s STB and appropriate smart cards can carry up to 800 digital channels of pay-TV programs and value added multimedia services. Currently, the services consist of channels, including a 85-channel basic package and 51 pay channels, bundled into various value added packages, including 7 high definition channels, movie, life & leisure, sports, drama and family.
Addition STB
In the city of Nanhai, each household has more than two television sets on average. DTV subscribers can buy an additional STB from AGL for their other television sets and pay a subscription fee for the additional STB.
High Definition STB
With the increasing demand in High Definition (“HD”) TV broadcasting in Nanhai, with 4 new HD TV channels in Nanhai introduced during 2009, the Company will launch its new HD STB in the second quarter of the year of 2010 where the subscriber can purchase such HD STB as their main or additional STB.
Value Added Services (VAS)
During the second quarter of 2007, the Company launched the first value added service through the DTV platform: a real time stock information system. The subscribers can subscribe to receive the real time stock information for the Chinese companies which are listed in the Chinese stock market (namely “A” shares and “B” shares) with charts, analysis and related information on the television set through the Company’s developed middleware platform.
Other Revenue Sources
AGL also generates revenues from the sale of additional STB.
IP based STB
The Company deploys an IP (Internet Protocol) based STB which is integrated with new middleware applications, JAVA Runtime and XML browser, developed by Arable. The Company believes the advanced STB will enable the Company to provide additional value added services that can be deployed in the future; such as targeted advertising, interactive TV programs, online shopping, console games, stock trading and interactive education services. The Company is currently negotiating partnerships with various vendors to provide interactive services, transforming a television set into an interactive multimedia platform.
Customer and Technical Service
The operating support system, which is developed by AGL’s software team, manages all operating processes including technical support to customers, database management, billing services, inventory control, sales support, and call center services. AGL’s call center provides 24/7 call answering capability and other technical support services. The call center handled over 360,000 enquiries in 2009.
Sales, Marketing and Advertising
AGL has 102 persons in the sales and customer services team. The Company sells services through direct customer contact, retail outlets, door-to-door selling, television advertising and road show promotion.
Technology Development
From time to time, AGL works closely with our technology partners to develop new technologies and additional features in order to improve and enhance our operations and services. Since 2006, the Company has partnered with Arable to design middleware for additional functions and applications for the digital STB. Arable GZ was established to provide local support on STB middleware to AGL, and further develop the China market.
Television Channel Management and Advertising Sales
M-Rider is a wholly owned subsidiary of the Company and a limited liabilities company registered in China. M-Rider is an advertising sales agent principally engaged in media planning, production, and distribution of advertisement through television channels and related consulting services.
During the year of 2009, M-Rider provided consultation to AGL for advertising and promotion for its sales of additional STB, VAS, and VAP on DTV business in Nanhai.
Television Program Production and Investment
During the year of 2009, HuaGuang did not have any business activity.
Strategic Partnership
The Company is exploring the possibilities of creating alliances with strategic partners; particularly those that could help expand its territories. The Company believes that the opportunities in China’s DTV business are enormous and that it makes more sense to partner with other companies and investors that can complement the Company’s core strength as a provider of services to operate DTV and a developer of customized applications for DTV in China.
Growth Opportunities
The Company believes its strengths in China’s media industry, are in the areas of cable television operational support services and digital broadcasting technology developments, and television channel management and advertising sales.
Cable Television Operations and Digital Broadcasting Technology Development
Currently, many cities in China have the infrastructure capable to broadcast DTV programs, but not many cities today have a city-wide digital Migration completed. The Company believes that this large potential market for DTV services presents opportunities in the digitization of cable TV services in China in the coming years. In addition, the pricing of digital TV services are likely to be improved and be more acceptable to subscribers in coming years. Furthermore, the Company believes that, with the introduction of HD TV broadcasting and flat HD TV gaining higher popularity in China, the HD TV STB sales will be another potential market. The Company believes the HD TV STB middleware developed by the Company will drive the growth of additional income in the coming years.
The Company believes that six years of experience has made it's operations and migration process efficient and effective, which has created a substantial platform for the future growth in cable TV digitalization projects in other cities with a size similar to Nanhai. The Company is exploring its ability to utilize its competitive advantages in seeking other cities, particularly in Guangdong province, to repeat its Migration model. A number of cities have expressed interest in working with the Company because of the proven skills and experiences in operation, marketing and technology, although the Company has not entered into any definitive or preliminary agreements with any cities. The operation of a DTV service business is a business with long term stable recurring cash flow, but substantial upfront capital investment has prevented the Company from investing in other cities until additional cash flow can be generated internally or financed elsewhere. There is no assurance that the Company will be successful in entering into new agreements for future migrations, or that the Company will be able to finance any new migrations solely from its cash flows from the Nanhai Migration.
Apart from signing up additional Migration business, the Company will focus on developing and providing value added services through the STB to DTV subscribers. Currently, a number of applications are on trial and such services are expected to be available in coming months, which the Company believes will drive its growth organically.
Once the migration program is fully completed, income from additional STB sales as well as its subscription fee, VAS subscription fee and advertising income are expected to be increased. Accordingly, the profitability of our DTV business is expected to be improved.
Growth Strategies
DTV business
The Company has established a successful and profitable model for the DTV services in Nanhai. The Company’s strategy is to use cash flow generated from existing operations to provide VAS through the digitalized STB in Nanhai. With the expected rapid growth in population of Nanhai area in the coming years, we expect the VAS subscription fee to become one of the major income and profit contributors.
We will continue to explore opportunities for development of migration projects in other cities in Guangdong Province. The Company will look for different sources of financing for covering the upfront investment to the new projects.
Middleware and VAS business
In addition to developing its existing businesses, the Company plans to propose additional services through the cable network such as Internet connection, IPTV or IP telephony. These services, however, involve further upfront cash investment in related equipment and marketing, negotiation with the business partners, and head to head competition with China Telecom, a dominant player in the provision of Internet services in China. While the Company’s management team has previous operating experience in the provision of Internet services elsewhere, the Company will formulate development plans for these services when, and if, market conditions are favorable.
We started our STB middleware development a few years ago with the commencement of our Nanhai business operation. This middleware has proved to be successful and to work smoothly on our STB. We have noticed that the demand for STB middleware in China keeps increasing where the supply is limited. We believe we could provide our middleware technique to other customers across China. We believe this could become one of our main businesses in near future.
Our Nanhai cable partner is also working on the upgrade of their cable network to a two-way system which is also expected to be completed shortly. Such upgrade would enable us to offer various kinds of VAS to our cable subscribers. Provision of VAS is expected to become one of our core businesses in the mid-term.
Government Regulation
The media industry in the PRC is subject to government control and censorship. Due to the PRC’s admission to membership in the World Trade Organization, the Company believes the government is committed to opening its domestic markets for foreign investors and that this should favorably impact the media industry. Some restrictions on the Company’s businesses have already been relaxed. For example, as a foreign company, we can now own a 100% equity interest in a company in the advertising business and up to a 49% equity interest in a company in the program production business.
Currently in China, foreign capital is prohibited from establishing and running broadcasting related stations, network, and content production companies. The Company, with a business license under the name of AGL, is legally permitted to develop and produce technical products and provide consulting and technical services to the licensed cable network companies for the operation of DTV in China, while sharing compensation from those network companies.
Government regulations still prohibit the Company from qualifying for holding an equity interest in certain media business. In order to avoid unnecessary delays, and to be able to invest in the media sectors such as television advertising and program production, the Company has invested into media businesses in China through its subsidiary HuaGuang. Through HuaGuang, the Company obtains the business benefits of companies engaging in the media business while maintaining their legal status as Chinese enterprises.
Effects of Inflation
The Company’s principal business is related to the media industry in China. Revenues and expenses remain relatively constant and are not affected by the levels of inflation in China or elsewhere. For the foreseeable future, the Company does not anticipate that inflation will affect the existing business.
Competition
Cable Television Operational Support Services and Digital Broadcasting Technology Development
In China, television broadcasting has been the vehicle for the government to distribute information to the public. While government officials intend to control and monitor the content to be delivered through other broadcasting systems, the exertion of control on other broadcasting systems may not be as dominant as it is for television. In the forseeable future, the Company believes government officials will continue imposing tight control on distribution of content through the cable television network. In order to enhance and effectively control the distribution of content, the Company believes government officials will plan to fully convert the current analogue television broadcasting signal into digital signal, and cable television will remain as the major form of delivery for television programming in China in the coming years although there will be competition from satellite, IP television and other media.
Advertising Sales
Advertising time sales are directly related to a channel’s audience population and viewership. China Central Television (“CCTV”), the dominant broadcaster in China, has a strong influence on broadcasting in the country, and localized television content can serve the needs of audiences down to the city levels. Advertising revenues generated by local television stations are substantial. In recent years, country-level cable television stations have tendered their television channels/air time to advertising agencies at fixed cost in order to generate guaranteed income. Competition in different parts of the country is fierce between advertising agencies and television channels at the provincial and city levels. In order to maximize profit, advertising agencies have begun to provide their own content to increase their channels’ viewership. Because of this trend, some advertising firms are trying to vertically integrate their business into program sourcing and production. It is believed that the television advertising industry will remain fiercely competitive and media firms will integrate their scope of business to include program production, sourcing and advertising sales.
Item 1A.
Item 1A. Risk Factors
Risks Related to The Company’s Business and Industry
The Company has a limited operating history on which to evaluate the Company’s operations.
The Company commenced operations in early 2005, and as such, the Company has had a limited history on which an investor may evaluate the Company’s operations. The Company had revenues of $14.9 million (restated), $7.5 million, $7.3 million and $$9.5 million for fiscal years 2006, 2007, 2008, and 2009 respectively. The Company had net loss of $0.2 million (restated), $4.1 million (restated), $13,4 million and net gain $4.2 million for fiscal years 2006, 2007, 2008 and 2009 respectively. Any investment in the Company should be considered as a high risk one because the investor will be placing funds at risk in an unseasoned early stage company with unforeseen costs, expenses, competition and other problems to which such companies are often subject.
The Company could fail to remain a going concern. The Company needs to raise substantial additional capital to fund its operations, and does not have any commitments for that capital.
The Company’s independent registered public accounting firm issued their report for the fiscal year ended December 31, 2009, which included an explanatory paragraph for the Company’s uncertainty to continue as a going concern. If the Company became unable to continue as a going concern, it would have to liquidate its assets and it may likely receive significantly less than the values at which they are carried on its consolidated financial statements. The inclusion of a going concern explanatory paragraph in the Company’s independent registered public accounting firm’s audit opinion for the year ended December 31, 2009 may materially and adversely affect the Company’s stock price and its ability to raise new capital.
The Company’s cable television migration operations require the Company to incur significant upfront costs to supply customers with set-top-boxes, recovery of which would be better managed if the Company is able to sell customers sufficient number of value-added services or additional set-top-boxes.
The Company’s agreement with the Nanhai Network Company provides that the Company migrates all cable TV subscribers in Nanhai from an analog signal to a digital signal by the end of 2009. In order for the Company to maintain a more stable liquidity, the Company must also sell to subscribers’ additional value-added services or additional STB, in addition to receiving portions of subscription fees from the Nanhai Network Company. If a sufficient number of subscribers do not purchase additional value-added services or additional STB from the Company, the Company may not be in a position to offset the initial cost for providing the STB in a timely manner.
The Company’s business plan requires substantial capital and there is no assurance that the Company will be able to raise such capital.
The Company’s goal is to expand the Company’s operation by entering into new cable television digitization migration agreements with new cities similar to its arrangement with Nanhai which requires a significant amount of capital. In particular, in order to perform cable television migrations in other cities, the Company is required to provide STB for subscribers if similar terms to the Nanhai one are provided. A significant amount of additional capital is required to provide the boxes to subscribers by the Company. The Company does not have any commitments for funding at this time, and additional funding may not be available to the Company in the future on favorable terms, if at all.
A substantial portion of the Company’s account receivables is with the Nanhai Network Company.
Approximately 99% of the Company’s account receivables are with the Nanhai Network Company in connection with the cable television digitization migration being performed by the Company. These receivables are paid to the Company based on a schedule with the Nanhai Network Company. If the Nanhai Network Company is to delay its payment to the Company or be unable to pay the monies due to the Company, the Company’s high concentration of credit risk may cause financial difficulties and may cause the Company to become unable to fulfill the payment obligations to the Company’s vendors.
The Company’s revenue recognition in connection with the Company’s cable television migration project occurs substantially in advance of the Company’s cash receipts from the migration project.
The Company recognizes revenues from the Company’s cable television migration project in Nanhai on a monthly basis. However, subscribers pay their subscription fees to the Nanhai Network Company on a quarterly basis, and the Company receives their portion of the fees after a certain period which could be as long as six months. As such, there is a considerable delay between the Company’s recognition of revenues and the cash receipts on such revenues.
The Company’s success will depend on public acceptance of cable services in China.
The Company’s future results of operations will depend substantially upon the increased acceptance of pay-TV programs, such as premium channels, and value added services in China.
The Company is dependent on three suppliers for the Company’s set-top-boxes and smart cards.
The Company’s cable television digitization migration process requires the Company to supply subscribers with STB and smart cards. Currently, the Company relies on three suppliers for the Company’s STB and smart cards. If any of these suppliers is unable to produce STB or smart cards to the Company on a timely basis and in a cost effective manner, the Company’s ability to provide STB in Nanhai or in other cities will be adversely effected.
The requirements of being a public company may strain the Company’s resources and distract the Company’s management.
As a public company, the Company is subject to the reporting requirements of the Securities Exchange Act of 1934, as amended, or the Exchange Act, and the Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act. These requirements may place a strain on the Company’s systems and resources. The Exchange Act requires that the Company files annual, quarterly and current reports with respect to the Company’s business and financial condition. The Sarbanes-Oxley Act requires that the Company maintains effective disclosure controls and procedures and internal controls for financial reporting. The Company is required to document and test the Company’s internal control procedures in order to satisfy the requirements of Section 404 of the Sarbanes-Oxley Act, which requires annual management assessments of the effectiveness of the Company’s internal controls over financial reporting and, commencing with the year ending December 31, 2010, a report by the Company’s independent registered public accountants addressing these assessments. During the course of testing, the Company may identify deficiencies which the Company may not be able to remediate in time to meet the deadline imposed by the Sarbanes-Oxley Act for compliance with the requirements of Section 404. In addition, if the Company fails to achieve and maintain the adequacy of the Company’s internal controls, as such standards are modified, supplemented or amended from time to time, the Company may not be able to ensure that the Company can conclude on an ongoing basis that the Company has effective internal controls over financial reporting in accordance with Section 404 of the Sarbanes-Oxley Act.
In order to maintain and improve the effectiveness of the Company’s disclosure controls and procedures and internal control over financial reporting, significant resources and management oversight will be required. This may divert management's attention from other business concerns, which could have a material adverse effect on the Company’s business, financial condition, results of operations and cash flows. In addition, the Company may need to hire additional accounting and financial staff with appropriate public company experience and technical accounting knowledge, and the Company cannot assure you that the Company will be able to do so in a timely fashion.
Technological advances, the introduction of new products, and new design and manufacturing techniques could adversely affect the Company’s operations unless the Company is able to adapt to the resulting change in conditions.
The Company’s future success and competitive position depends to a significant extent upon the Company’s proprietary technology, specifically the technology included in the Company’s set-top-box and middleware. The Company will be required to expend substantial funds for and commit significant resources to conducting research and development activities, the engagement of additional engineering and other technical personnel, and the enhancement of design and manufacturing processes and techniques. There can be no assurance that any new STB will receive or maintain customer or market acceptance. If the Company is unable to design and manufacture new STB and middleware on a timely and cost-effective basis, such inability could have a material adverse effect on the Company’s business, financial condition, results of operations and liquidity.
The Company’s business operations may be affected by legislative or regulatory changes in China.
Changes in laws and regulations governing the content of advertising, business licensing or otherwise affecting the DTV business, including the content of TV programs and value added services, in China may also have adverse impact on the Company’s results of operations, business or prospects.
The Company has reserved a significant number of shares of its common stock for issuance upon the exercise of warrants and upon the conversion of debentures. The issuance of these shares will have a dilutive effect on the common stock and may lower the Company’s stock price.
During the year of 2006, the Company issued warrants to purchase an aggregate of 17,222,205 shares of our common stock and issued convertible debentures which may be converted into an aggregate of 6,888,882 shares of common stock. The exercise prices on these warrants range from $0.80 per share to $2.25 per share, and the conversion price of the debentures is $0.45 per share. If issued, the shares underlying the warrants and debentures would increase the number of shares of common stock currently outstanding and will dilute the holdings and voting rights of the Company’s then-existing shareholders. One of the debenture holders converted an amount of $135,000 debenture to common stock in December 2007. The Company entered into an extension agreement with this debenture holder on December 8, 2008 where the conversion price of the debentures is reduced to $0.25 per share where the Company also partially redeemed the debenture for $100,750 on December 31, 2009 from this debenture holder as one of the conditions of the extension agreement. The Company also entered into an extension agreement with another two debenture holders on March 24, 2009 and December 1, 2009 separately where the conversion price of the debentures is reduced to $0.25 per share.
The Company’s Chairman controls a substantial portion of the outstanding common stock, and as long as he does, he may be able to control the outcome of stockholder voting.
Mr. Daniel Ng, the Company’s Founder, Chairman, President and CEO, is the beneficial owner of approximately 41.0% of the outstanding shares of the Company’s common stock. As long he owns a significant percentage of common stock, the Company’s other shareholders may be unable to affect or change the management or the direction of the Company without his support. Mr. Ng will be able to exert significant influence over the outcome of all corporate actions requiring stockholder approval, including the election of directors, amendments to the Company’s articles of incorporation and approval of significant corporate transactions.
The Company’s stock price is highly volatile, trading in the Company’s stock is sporadic, and the value of an investment in the Company’s common stock may fluctuate significantly.
The market price of the Company’s common stock has fluctuated widely and may continue to fluctuate. These fluctuations may be exaggerated since the trading volume of the Company’s common stock is volatile and sporadic. These fluctuations may or may not be based upon any business or operating results.
Risks Related with Doing Business in the People’s Republic of China (the “PRC” or “China”)
All of the Company’s assets and operations are located in China and all of the Company’s revenue is derived from the Company’s operations in China. Accordingly, the Company’s results of operations and prospects will be subject, to a significant extent, to the economic, political and legal developments in China, which have rapidly changed.
The PRC’s economic, political and social conditions, as well as government policies, could affect the Company’s business. China has been one of the world’s fastest-growing economies. However, there is no assurance that such growth will be sustained in the future. If in the future China’s economy experiences a downturn or grows at a lower rate than expected, there could be a drop in demand in the Company’s markets.
If the PRC imposes restrictions to reduce inflation, future economic growth in the PRC could be severely curtailed which could lead to a significant decrease in profitability.
While the economy of the PRC has experienced rapid growth, this growth has been uneven among various sectors of the economy and in different geographical areas of the country. Rapid economic growth can lead to growth in supply of money and rising inflation. In order to control inflation in the past, the PRC has imposed controls on bank credits, limits on loans for fixed assets and restrictions on state bank lending. If similar restrictions are imposed in the future, it may lead to a slowdown of economic growth and diminish the interest and demand for the Company’s services and products, leading to a decline in profitability.
Because Chinese law governs all of the Company’s material agreements, the Company may not be able to enforce the Company’s rights within the PRC or elsewhere, which could result in a significant loss of business, business opportunities or capital.
Chinese law governs all of the Company’s material agreements, many of which are with Chinese governmental agencies. The Company cannot assure you that the Company will be able to enforce any of the Company’s material agreements. The Chinese legal system is similar to a civil law system based on written statutes. Unlike common law systems, it is a system in which decided legal cases have little precedential value. Although legislation in China over the past 25 years has significantly improved the protection afforded to various forms of foreign investment and contractual arrangements in China, these laws, regulations and legal requirements are relatively new and their interpretation and enforcement involve uncertainties, which could limit the legal protection available to the Company. The inability to enforce or obtain a remedy under any of the Company’s agreements could result in a significant loss of business, business opportunities or capital and could have a material adverse impact on the Company’s operations.
Fluctuations in the value of the Chinese currency, the Renminbi, relative to foreign currencies could affect the Company’s operating results.
The Company prepares its financial statements in United States dollars, but payroll and other costs of non-United States operations will be payable in foreign currencies, primarily Renminbi. To the extent future revenue is denominated in non-United States currencies, the Company would be subject to increased risks relating to foreign currency exchange rate fluctuations that could have material adverse effect on the Company’s business, financial condition and operating results. The value of Renminbi against the United States dollar and other currencies may fluctuate and is affected by, among other things, changes in monetary policy, political and economic conditions of the Mainland Government. As the Company’s operations are in China, any significant revaluation of the Renminbi may materially and adversely affect the Company’s cash flows, revenues and financial condition. For example, to the extent that the Company needs to convert United States dollars into Renminbi for the Company’s operations, appreciation of this currency against the United States dollar could have a material adverse effect on the Company’s business financial condition and results of operations for the exchange loss incurred. Conversely, if the Company decides to convert Renminbi into United States dollars for other business purposes whereas the United States dollar appreciates against this currency, less United States dollar would be converted which also results in a foreign exchange risk. The Chinese government recently announced that it is pegging the exchange rate of the Renminbi against a number of currencies, rather than just the United States dollar. Fluctuations in the Renminbi exchange rate could adversely affect the Company’s business.
ITEM 1B.
ITEM 1B. Unresolved Staff Comments
None.
ITEM 2.
ITEM 2. Properties
The Company leased offices for its following subsidiaries: (1)AGL, with about 1,188 square meters for operation and paid total rent of $69,804 for year 2009 under lease term expiring on January 2014; (2) AGL Nanhai, with 1,045 square meters for operation and paid total rent of $36,028 for year 2009 under lease term expiring on September 2012; (3) M-Rider, with 18 square meters and paid total rent of $1,332 for year 2009 under lease term expiring on January 2014; (4) HuaGuang, with 45 square meters and paid total rent of $3,414 for year 2009 under lease term expiring Jan 2014; and (5) Arable GZ, with 52 square meters and paid total rent of $599 for year 2009. The Company also leased nine staff quarters with total area of 970 square meters and paid total rent of $72,352 for year 2009 under various lease terms expiring through July 2010 to December 2011.
ITEM 3.
ITEM 3. Legal Proceedings
On May 24, 2005, a Complaint was filed against us, among others, in the United States District Court for the Southern District of New York, in a matter captioned as “Ziegler, Ziegler & Associates LLP and Scott Ziegler, Plaintiffs, v. China Digital Media Corporation and John Does 1-10, Defendants.” In the Complaint, the Plaintiffs allege, among other things, that we and John Does 1-10 used Plaintiff Scott Zeigler’s e-mail address and Plaintiff Ziegler, Ziegler & Associates, LLP’s internet domain name to distribute promotional information about us over the internet. The Plaintiffs seek a several types of relief, including damages in an amount not less than $1,250,000. We are currently awaiting a decision from the Court on our motion to dismiss the case. The file number of the civil action is 05 CV 4960. The Company did not hire a stock promoter or a spammer to distribute the alleged e-mails, and the alleged emails themselves recite that they were not paid for by the Company or an affiliate. The Company contests the allegations of the Plaintiffs and has retained counsel admitted to practice in the U.S. District Court for the Southern District of New York to vigorously defend the action.
ITEM 4.
ITEM 4. Reserved
PART II
ITEM 5.
ITEM 5. Market for the Registrant’s Common Stock, Related Security Holder Matters, and Small Business Issuer Purchases of Equity Securities
(a) The principal market in which our common stock is traded is the Over-the-Counter Bulletin Board, under the symbol “CDGT”. The table below presents the high and low bid price for our common stock each quarter during the past two years and reflects inter-dealer prices, without retail markup, markdown, or commission, and may not represent actual transactions. We obtained the following information from QuoteMedia.com, an on-line source that provides historical pricing information.
Quarter Ended Low High
03/31/08 0.18 0.18
06/30/08 0.07 0.09
09/30/08 0.12 0.12
12/31/08 0.045 0.045
03/31/09 0.02 0.02
06/30/09 0.025 0.02
09/30/09 0.04 0.04
12/31/09 0.045 0.06
The above stock prices reflect a 100 for 1 reverse split in 2005.
(b) The approximate number of holders of record of the Company's Common Stock was 111 in certificate form and over 1,732 shareholders deposit their shares with the clearing house according to the NOBO list provided by Broadridge Financial Solutions, Inc as of March 10, 2010.
Dividends
The Company has not declared any cash dividends on common stock since inception and does not anticipate paying such dividends in the foreseeable future. The Company plans to retain any future earnings for use in the business. Any decisions as to future payment of dividends will depend on our earnings and financial position and such other factors, as the Board of Directors deems relevant.
Dividend Policy
All shares of common stock are entitled to participate proportionally in dividends if our Board of Directors declares them out of the funds legally available. These dividends may be paid in cash, property or additional shares of common stock. The Company has not paid any dividends since inception and presently anticipates that all earnings, if any, will be retained for development of our business. Any future dividends will be at the discretion of the Board of Directors and will depend upon, among other things, future earnings, operating and financial condition, capital requirements, and other factors.
Unregistered Sales of Equity Securities
During the quarter ended December 31, 2009, the Company did not issue any shares.
Purchase of Equity Securities by the Issuer and Affiliated Purchasers
None.
ITEM 6.
ITEM 6. Selected Financial Data
Not applicable.
ITEM 7.
ITEM 7. Management’s Discussion and Analysis
This discussion and analysis should be read in conjunction with the Company’s Consolidated Financial Statements and related notes thereto included in Part II, Item 7 of this Report. All amounts are expressed in U.S. dollars. Please also refer to our forward-looking statement.
Overview
During 2009, the Company reported revenue of $9,525,141 (2008: $7,290,344), an increase of 31% as compared with last year, and a net income of $2,210,139 (2008 loss: $13,375,575).
The Company has completed the DTV migration program in Nanhai. The Company will focus its resources toward developing VAS and DTV middleware to facilitate the future growth of the subscription income.
Critical Accounting Policies
The following discussion and analysis is based upon the Company’s consolidated financial statements, which have been prepared in conformity with accounting principles generally accepted in the United States of America. The Company’s significant accounting policies are more fully described in the Notes to the Consolidated Financial Statements. However, certain accounting policies and estimates are particularly important to the understanding of the Company’s financial position and results of operations and require the application of significant judgment by the Company’s management or can be materially affected by changes from period to period in economic factors or conditions that are outside of the control of management. As a result they are subject to an inherent degree of uncertainty. In applying these policies, the Company’s management uses their judgment to determine the appropriate assumptions to be used in the determination of certain estimates. Those estimates are based on the Company’s historical operations, its future business plans and projected financial results, the terms of existing contracts, the Company’s observance of trends in the industry, information provided by customers and information available from other outside sources, as appropriate. The following discusses the Company’s significant accounting policies and estimates.
Principles of consolidation
The accompanying 2009 and 2008 consolidated financial statements include the financial statements of CDMC and its 100% owned subsidiaries CDHL, AGL and its Nanhai Branch, Maxcomm, Arable, Arable GZ, M-Rider and Digimedia Shenzhen, and its 100% variable interest entity in HuaGuang.
All significant inter-company transactions and balances have been eliminated in consolidation.
Consolidation of variable interest entity
In accordance with Interpretation No. 46R, Consolidation of Variable Interest Entities (“FIN 46R”), variable interest entities (VIEs) are generally entities that lack sufficient equity to finance their activities without additional financial support from other parties or whose equity holders lack adequate decision making ability. All VIEs with which the Company is involved must be evaluated to determine the primary beneficiary of the risks and rewards of the VIE. The primary beneficiary is required to consolidate the VIE for financial reporting purposes. In connection with the adoption of FIN 46R, the Company concluded that HuaGuang is a VIE and that the Company is the primary beneficiary. Under FIN 46R transition rules, the financial statements of HuaGuang are then consolidated into the Company’s consolidated financial statements.
Property and equipment
Property and equipment are stated at cost, less accumulated depreciation. Expenditures for additions, major renewals and betterments are capitalized and expenditures for maintenance and repairs are charged to expense as incurred. Depreciation is provided on a straight-line basis, less estimated residual value over the assets’ estimated useful lives. The estimated useful lives are as follows: (a) STB and smart cards - 5 years; (b) Motor vehicles - 10 years; and (c) Furniture, fixtures and equipment - 5 and 8 years.
Depreciation of STB
As required by SAB11:B, depreciation and amortization for property and equipment directly attributed to the generation of revenue was classified under “Cost of Sales”.
Revenue recognition
Digitalization of television signals
The Company entered into an agreement with Nanhai Network Company (“Network Company”) to assist its subscribers on the conversion of television signal from analog into digital by providing STBs and smart cards to the subscribers in Nanhai City on a lease basis. The Company is entitled to receive a portion of fees, for subscribers’ television subscription and pay-TV services, payable by Network Company, under the subscription agreement. Revenue is recognized on a straight line basis in accordance with the terms of the subscription agreement. The Company also charges installation fees and sells STBs and smart cards to new subscribers. Revenue arising from these services is recognized when the subscriber is invoiced for the STB and smart card upon the completion of installation works. In addition, the Company is entitled to be reimbursed for its operating expenses from Network Company in accordance to the subscription agreement. Revenue arising from costs reimbursement is recognized when the amounts are duly agreed upon between the Company and Network Company.
Government grant
The local government of Nanhai City also approved a grant of Rmb10,000,000 each year for five years commencing in 2004 to finance the purchase of STBs and smart cards for sale and lease to subscribers. The grant is recognized as revenue on a straight line basis. As of December 31, 2009 and 2008, the Company did not receive any government grant. The government grant for 2008 and 2009 may not be received in the future owing to the upward price adjustment of DTV subscription fee income in mid-2008, which is considered as a replacement of the government grant.
Advertising sales
The Company acts as an advertising agent for certain television channels by selling advertising air time spaces to customers. The Company's advertising services revenue is derived from billings that are earned when the advertisements are placed and revenue is recognized as the media placements appear. Deferred revenues are recognized as a liability when billings are received in advance of the date before revenues are earned.
Software development
The Company provides various information technology professional services to its customers based on a negotiated fixed-price time and materials contract. The Company recognizes services-based revenue from all of its contracts when the services have been performed, the customers have approved the completion of the services and invoices have been issued and collectibility is reasonably assured.
Television series
The Company invested in the production of two television series. Revenue from investments in television series is recognized upon receipt from the production company.
Supplier rebate
Rebate or refund received by the Company from its supplier, either in cash or trade discount, will be considered as an adjustment of the prices of the supplier’s products purchased by the Company. Therefore, it will be characterized as (a) a reduction of cost of sales for subsequent selling of the products by the Company; or (b) a reduction of Property and Equipment for products booked as fixed assets of the Company and subject to depreciation in line with the depreciable life of the relevant products; or (c) a reduction of Inventories for products maintained in stock.
Financial review of the Company for the year 2009:
No dividends have been declared or paid for any of the periods presented
CONSOLIDATED RESULTS OF OPERATIONS
Statements of Operations Items:
Sales
Sales for the fiscal year ended December 31, 2009 were $9,525,141 as compared to $7,290,344 for the fiscal year ended December 31, 2008, an increase of $2,234,797 or 31%. The increase in sales was due to the increase in the revenue from the DTV basic subscription fee income as a result of the upward adjustment of the basic subscription fee from Nanhai DTV subscribers effective from June 1, 2008. The expediting DTV migration progress during the year has also highly contributed to the growth in the subscription fee income as a result of the increase in number of DTV subscribers. In addition, the increase in the sales of additional STB because of the migration activity is another major reason for such increase in income.
The total number of DTV subscribers increased by 132,627 to 431,626 by the end of 2009 from end of 2008. Sale of additional STB in 2009 was increased by 17,854 to 30,770, an increase of 72% from last year. The number of additional STB subscribers increased from 48,991 to 74,182 representing 17% of total DTV subscribers in Nanhai. The number of value added package subscriptions decreased by 4,155 to 7,262 in 2009.
Gross Margin
Due to the increase in depreciation charge of STB for the year, gross profit margin decreased from 30% in 2008 to 28% in 2009. Gross profit amount increased by $536,969 from last year due to increased basic subscription fee revenues during 2009.
Expenses
Selling, general, administrative and depreciation and amortization expenses for the fiscal year ended December 31, 2009 increased by $710,192 or 32% to $2,909,446, in comparison with the last fiscal year ended December 31, 2008. The increase is mainly due to the increase in selling expenses as a result of increased sales activities for the additional STB sales and the larger payroll to cope with the migration process. The provision for doubtful debts decreased to nil whereas the amount for the year ended December 31, 2008 is $7.8 million. The Company entered into an agreement with Network Company at the end of 2007 for amortizing a major portion of the receivable amount of $7,781,997 due from Nanhai Network Company over 15 years against its share of increased portion of DTV subscription fee out of the upward adjustment effective during the mid of year 2008. Owing to the latest global financial turmoil which has a drastic adverse impact on the economy of China, the Company considered that it may result in a drop in DTV subscription fee and a drop in the income of the Nanhai Network Company. This in turn increased the uncertainty of the recoverability of such long term receivable. The Company considered that a full doubtful debt provision which amounted to $7,847,084 was necessary as of the year end of 2008. As the global financial and economic environment has improved and become stable, no further provision is considered necessary for the year.
No further impairment of goodwill incurred for the year ended December 31, 2009, this amount has decreased to nil from the amount of $4 million incurred last year due to the impairment of goodwill generated from the acquisition of Maxcomm during 2008.
Reclassifications have been made to the comparative figures for the year ended December 31, 2008 showing the amortization of convertible debt discount under other expenses where it was shown under operating expenses in the last report. Also, impairment of goodwill has been separately shown under operating expenses where the comparative figure of this item for the year ended 2008 was included in other expenses in the last report.
Other income was increased by $0.5 million to $689,533 from last year. The increase is mainly due to the increased settlement of account receivable - long term portion from Network Company which was fully reserved. The monthly settlement started in June 2008 where there were twelve monthly settlements in 2009.
Income Taxes
Income taxes are provided in accordance with Statement of Financial Accounting Standards No. 109 (SFAS No. 109), “ Accounting for Income Taxes.” A deferred tax asset or liability is recorded for all temporary differences between financial and tax reporting and net operating loss-carry forwards. There was a reversal of income tax provision of $2.3 million in the year of 2009 as a result of the tax holiday enjoyed by AGL for years of 2008 and 2009. During the year, AGL was qualified for the Software Enterprise Certification in China where AGL is entitled to the two-year income tax exemption and following three-year income tax reduction upon the confirmation from the local tax bureau.
Net Income
The Company had net income of $2,210,139 (2008 loss: $13,375,575) or $0.05 gain per common share for the year ended December 31, 2009, an increase of net income $14,595,833 as compared with last year. The increase in net income was mainly due to the reversal of income tax provision of $2.3 million, the decrease in doubtful debt provision of $7.8 million, and the decrease in impairment of goodwill of $4 million from last year.
Balance Sheet Items:
Current Assets
Current Assets of the Company decreased by $4.3 million to $7.3 million as at December 31, 2009. As the Company had obtained a bank credit facility of $2.2 million from a commercial bank in China, the Company had maintained a cash balance of $1.6 million as of December 31, 2009, an increase of $1.2 million from December 31, 2008. The cash deposit placed in fixed deposit account under Restricted Cash balance for securing the credit facility was $2.0 million as of December 31, 2009. Accounts Receivable increased by $0.4 million to $1.4 million in 2009 as a result of higher DTV subscription fee income receivable every month compared to that in the year 2008 as the number of digital TV subscribers increased. Deferred tax asset was increased by $1.0 million to $1.1 million as of December 31, 2009 as a result of the value added tax credit allowed for deduction but not utilized from the STB purchased for migration purpose during the year 2009 in accordance with the new value added tax law in China effective at the beginning of 2009.
Property and Equipment, Net
The net increase in property and equipment of the Company of $3.9 million in 2009 mainly represented purchase of STB for migration purpose in 2009 where these migrated STB are classified as fixed asset.
Current Liabilities
Current Liabilities of the Company have increased by $6.4 million to $17.2 million as at December 31, 2009. The increase was mainly attributable to the classification of convertible debenture classified as long term liability last year, the bills payable as a result of the credit facility obtained during the year, and the increase in account payable to the STB supplier as a result of larger quantity of STB purchased during the year for completing the migration process.
Impact of Inflation
The Company believes that inflation has had a negligible effect on operations over the past two years.
Trends, Events, and Uncertainties
The Company believes that the demand for its DTV services is stable as cable television service in Nanhai is monopolized by the local television bureau. The increase of the number of DTV subscribers depends on the digitalization schedule. The increase of subscribers is dependent on our migration plan and the rate of increase of residents in Nanhai.
On the technology side, the Company is not certain about the impact of technological changes on its business as such development in IPTV, satellite and terrestrial broadcasting. However, assuming the Company has sufficient cash resources, the Company intends to continue to put more resources in research and development in order to catch up with the technological development especially with a focus on DTV related businesses.
In advertising sales, the Company plans to enter into more exclusive television channel arrangements in order to increase its sales volume and try to boost its advertising rate. The Company, however, has a concern that the cost to obtain exclusive television channel arrangements will escalate since the PRC is opening its advertising market to foreign investors.
Liquidity and Capital Resources
On December 31, 2009, the Company had cash and restricted cash of $3,600,583 and a working capital deficit of $9,905,650. This compares with cash of $436,062 and a working capital deficit of $7,805,558 at December 31, 2008.
Operating activities had a net surplus of cash in the amount of $8,412,747 during the year, reflecting an excess of revenues over operating expenditures.
Net cash used in investing activities for the fiscal year ended December 31, 2009 was $8,607,785 as compared with net cash used in investing activities of $4,114,665 for the fiscal year ended December 31, 2008. The increase in net cash used in investing activities was due to the increase in purchases of STBs for migration purpose.
Net cash provided by financing activities for the fiscal year ended December 31, 2009 was $3,565,850. The majority of net cash provided by financing activities was from the bills drawn out of the bank credit facility to pay our STB supplier.
We continued to receive cash from Nanhai Network Company according to the project schedule and DTV migration plan. The Company's investment in STBs and smart cards remained the substantial accounts payable at the year end of 2009. For further business expansion and acquisition, the Company is considering various financing methods for funding, although there is no assurance that the Company will be able to raise additional funding on favorable terms, if at all.
On a long-term basis, liquidity is dependent on continuation and expansion of operations, receipt of revenues, additional infusions of capital and debt financing. Our current capital and revenues are not sufficient to fund further acquisition and business expansion. The Company is planning to raise capital through debt financing and equity raising from banks, potential investors and partners. However, if the Company is unable to raise additional capital, its growth potential is more likely to be affected.
The Company issued a total of $3.1 million in convertible debentures in November and December 2007, which debentures already matured in May 2008. Due to the Company’s current financial situation with most of the Company’s cash being utilized to make the upfront investment for the Migration, the Company does have enough cash to repay the debentures. The Company had negotiated with certain of the debenture holders to refinance or otherwise satisfy the debentures. As of the date of this report, the Company had entered into an extension agreement with three major debenture holders holding $2,564,250 in principal amount of debenture to extend the maturity date to June and December 2010.
ITEM 7A.
ITEM 7A. Quantitative and Qualitative Disclosures About Market Risk
Not applicable.
ITEM 8.
ITEM 8. Financial Statements
CHINA DIGITAL MEDIA CORPORATION
AND SUBSIDIARIES
CONTENTS
BONGIOVANNI & ASSOCIATES, CPA's
Jetton Road, 3rd Floor
Cornelius, NC 28031
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors of:
China Digital Media Corporation
We have audited the accompanying consolidated balance sheets of China Digital Media Corporation and subsidiaries as of December 31, 2009 and 2008 and the related consolidated statements of operations and comprehensive income, stockholders’ equity and cash flows for the years ended December 31, 2009 and 2008. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall consolidated financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of China Digital Media Corporation and subsidiaries as of December 31, 2009 and 2008 and the results of its operations and its cash flows for the years ended December 31, 2009 and 2008, in conformity with accounting principles generally accepted in the United States of America.
The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 21 to the consolidated financial statements, the Company had an accumulated deficit of $12,136,140 and a working capital deficiency of $9,905,650 at December 31, 2009. These factors raise substantial doubt about its ability to continue as a going concern. Management’s plans concerning this matter are also described in Note 21. The accompanying consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.
/s/ BONGIOVANNI & ASSOCIATES, CPA's
BONGIOVANNI & ASSOCIATES, CPA's
Certified Public Accountants
Cornelius, N.C.
Date: March 11, 2010
The accompanying notes are an integral part of these consolidated financial statements.
The accompanying notes are an integral part of these consolidated financial statements.
The accompanying notes are an integral part of these consolidated financial statements.
CHINA DIGITAL MEDIA CORPORATION
AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND ORGANIZATION
(A)
Organization
China Digital Media Corporation (“CDMC”) (previously Hair Max International, Inc.) was incorporated in the State of Nevada on August 13, 1987.
China Digimedia Holdings Limited (“CDHL”) (previously Arcotect Digital Technology Limited) was incorporated in Hong Kong on January 5, 2000 as an investment holding company. Through its wholly owned subsidiary, Arcotect (Guangzhou) Ltd. (“ AGL”) incorporated in the People’s Republic of China (“PRC”) as a wholly owned foreign limited liability company on September 24, 2001, CDHL is engaged in software development, digital television subscription and application platform development (“software development”). Through its Nanhai Branch (“AGL Nanhai Branch”) established in July 8, 2004, AGL is also engaged in the business of converting television signals from analogue into digital format (“digitalization of television signals”), using digital television set-top-box (STB) and smart cards.
On December 28, 2004, CDMC entered into a Plan of Exchange (“the Agreement”) with CDHL pursuant to which:
(i)
the stockholders of CDHL purchased 2,850,000 shares of the Company’s Series A Convertible Preferred Stock from the majority stockholders of the Company in return for the payment of $400,000 in cash.
(ii)
the stockholders of CDHL has agreed to transfer all of CDHL’s common stock to the Company for the issue of 20,000,000 shares of restricted common stock of the Company.
The Agreement was consummated on March 31, 2005 whereupon 1,500,000 shares of restricted common stock were issued by the Company to the stockholders of CDHL in lieu of the 20,000,000 shares of restricted common stock contemplated by the Agreement. The reduction was consented by the stockholders of CDHL in light of the significant increase in the price of the shares of common stock of the Company since the execution of the Agreement.
Additionally, it was subsequently discovered that 875,000 shares of the Company’s Series A Convertible Preferred Stock were previously converted before the execution of the Agreement. The stockholders of CDHL accepted the remaining 1,975,000 shares of the Company’s Series A Convertible Preferred Stock and 1,750,000 shares of common stock converted from the 875,000 shares of the Company’s Series A Convertible Preferred Stock in lieu of the 2,875,000 shares of the Company’s Series A Convertible Preferred Stock in return for the payment of $400,000 in cash.
On completion of the Agreement in March 2005, the merger of CDMC and CDHL was treated for accounting purposes as a capital transaction and recapitalization by CDHL (“the accounting acquirer”) and re-organization by CDMC (“the accounting acquiree”). The financial statements have been prepared as if the reorganization had occurred retroactively.
Accordingly, the financial statements include the following:
(1)
The balance sheet consists of the net assets of the acquirer at historical cost and the net assets of the acquiree at historical cost.
(2)
The statement of operations includes the operations of the acquirer for the periods presented and the operations of the acquiree from the date of the merger.
The Company changed its name to China Digital Media Corporation in March 2005.
On June 15, 2005, CDHL entered into a Strategic Alliance Agreement with shareholders of Guangdong HuaGuang Digimedia Culture Development Limited (“HuaGuang”) whereby CDHL will hold a 90% variable interest in HuaGuang for the issue of 83,042 shares of CDMC. On January 24, 2007, CDHL exercised its right to hold 100% interest in HuaGuang.
On August 25, 2005, CDHL acquired a 100% interest in Guangdong M-Rider Media Company Limited (“M-Rider”), a limited liability company in the PRC, from the shareholders of M-Rider for US$132,927 in cash and 29,158 shares of CDMC.
On October 17, 2005, CDHL established a wholly-owned subsidiary, Digimedia Services (Shenzhen) Limited (“Digimedia Shenzhen”) in the PRC with a registered capital of $100,000. The subsidiary has no operations since its incorporation.
CHINA DIGITAL MEDIA CORPORATION
AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(continued)
On May 8, 2006, HuaGuang set up two joint ventures, namely Guizhou Guishi Digimedia Advertising Company Limited (“Guishi Digimedia”) in which HuaGuang owns 51% interest, and Guizhou Guishi Huaguang Media Company Limited (“Guishi HuaGuang”) in which HuaGuang owns 49% interest, both located in China. Guishi Digimedia was formed to provide advertising agency services whereas Guishi HuaGuang was formed to provide television programming services, both for a period of 20 years. On August 19, 2007, HuaGuang sold its shares in Guishi Digimedia and Guishi Huaguang to Guizhou Tianma Advertising Company.
On August 23, 2006, CDHL acquired a 20% interest in Arable Media Limited (“Arable”). Arable is engaged in the business of developing middleware software and applications for digital television STB
On May 21, 2007, CDHL acquired a 100% interest in Maxcomm Limited (“Maxcomm”), its only asset is the 80% interest in Arable. After the completion of the acquisition, CDHL beneficially owns 100% interest in Arable.
On October 29, 2007, Arable established a wholly-owned subsidiary in the PRC, Arable (Guangzhou) Limited (“Arable GZ”). Arable GZ is engaged in research and development, marketing and promotion of STB middleware software. Arable GZ does not have operations up to December 31, 2007.
CDMC, CDHL, AGL, HuaGuang, M-Rider, Digimedia Shenzhen, Maxxcomm, Arable and Arable GZ are hereinafter referred to as (“the Company”).
(B)
Use of estimates
The preparation of the financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
(C)
Principles of consolidation
The accompanying 2009 and 2008 consolidated financial statements include the financial statements of CDMC and its 100% owned subsidiaries CDHL, AGL and its Nanhai Branch, Maxcomm, Arable, Arable GZ, M-Rider, and its 100% variable interest entity in HuaGuang.
All significant inter-company transactions and balances have been eliminated in consolidation.
(D)
Consolidation of variable interest entity
In accordance with Interpretation No. 46R, Consolidation of Variable Interest Entities (“FIN 46R”), variable interest entities (VIEs) are generally entities that lack sufficient equity to finance their activities without additional financial support from other parties or whose equity holders lack adequate decision making ability. All VIEs with which the Company is involved must be evaluated to determine the primary beneficiary of the risks and rewards of the VIE. The primary beneficiary is required to consolidate the VIE for financial reporting purposes.
In connection with the adoption of FIN 46R, the Company concluded that HuaGuang is a VIE and that the company is the primary beneficiary. Under FIN 46R transition rules, the financial statements of HuaGuang are then consolidated into the Company’s consolidated financial statements.
(E)
Cash and cash equivalents
For purpose of the statements of cash flows, cash and cash equivalents include cash on hand and demand deposits with a bank with a maturity of less than three months except for Restricted Cash which represents the security deposits with a maturity of six months for the bank loans.
(F)
Accounts receivable
The Company extends unsecured credit to its customers in the ordinary course of business but mitigates the associated risks by performing credit checks and actively pursuing past due accounts. An allowance for doubtful accounts is established and recorded based on managements’ assessment of the credit history with the customer and current relationships with them.
As of December 31, 2009 and 2008, the Company considers all its accounts receivable to be collectible after provision for doubtful accounts made in the financial statements.
CHINA DIGITAL MEDIA CORPORATION
AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(continued)
(G)
Inventories
Inventories are stated at lower of cost or market value, cost being determined on a first in first out method. The Company provided inventory allowances based on excess and obsolete inventories determined principally by customer demand. Inventory consists of finished goods purchased directly from manufacturers.
(H)
Property and equipment
Property and equipment are stated at cost, less accumulated depreciation. Expenditures for additions, major renewals and betterments are capitalized and expenditures for maintenance and repairs are charged to expense as incurred.
Depreciation is provided on a straight-line basis, less estimated residual value over the assets’ estimated useful lives. The estimated useful lives are as follows:
Set Top Box (“STB”) and smart cards
Years
Motor vehicles
Years
Furniture, fixtures and equipment
and 8 Years
Depreciation of STB
As required by SAB11:B, depreciation and amortization for property and equipment directly attributed to the generation of revenue was classified under “Cost of Sales”. Accordingly, depreciation of STB and smart cards of the Company in 2008 for the amount of $4,645,955 was included in “Cost of Sales”.
(I)
Investments in television series
Investments in television series represent the unamortized costs of acquired television series production and participation costs. The investments are stated at the lower of cost less accumulated amortization or fair values. The investments are amortized, using the individual television series forecast method, in the proportion that current revenue bears to management’s estimate of ultimate revenue expected to be recognized from the exploitation and exhibition of the television series. The ultimate revenue which includes estimates over a period not to exceed 10 years following the date of initial release are prepared on a title-by-title basis and reviewed periodically based on current market conditions. Estimate of future revenue involve measurement uncertainty and it is therefore possible that reduction in the carrying value of investments in television series may be required as a consequence of changes in management’s future revenue estimates.
(J)
Long-lived assets
The Company accounts for long-lived assets under the Statements of Financial Accounting Standards Nos. 142 and 144 “Accounting for Goodwill and Other Intangible Assets” and “Accounting for Impairment or Disposal of Long-Lived Assets” (“SFAS No. 142 and 144”). In accordance with SFAS No. 142 and 144, long-lived assets held and used by the Company are reviewed for impairment annually in the fourth quarter or more frequently if events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. For purposes of evaluating the recoverability of long-lived assets, when undiscounted future cash flows will not be sufficient to recover an asset’s carrying amount, the asset is written down to its fair value. The management reviewed for impairment on the goodwill for acquisition of Maxcomm of $3,996,595 was recognized for the year ended December 31, 2008 and 2009. The Company believes that no impairment of other long-lived assets including property and equipment exist at December 31, 2009.
(K)
Valuation of financial instruments (other than derivative financial instruments)
Statement of Financial Accounting Standards No. 107, "Disclosure About Fair Value of Financial Instruments," requires certain disclosures regarding the fair value of financial instruments. Fair value of financial instruments is made at a specific point in time, based on relevant information about financial markets and specific financial instruments. As these estimates are subjective in nature, involving uncertainties and matters of significant judgment, they cannot be determined with precision. Changes in assumptions can significantly affect estimated fair values.
The carrying value of cash and cash equivalents, accounts receivable (trade and others), accounts payable (trade and related party) and accrued liabilities approximate their fair value because of the short-term nature of these instruments. The Company places its cash and cash equivalents with what it believes to be high credit quality financial institutions. The Company controls credit risk related to accounts receivable through credit approvals, credit limit and monitoring procedures. The Company routinely assesses the financial strength of its customers and, based upon factors surrounding the credit risk, establishes an allowance, if required, for uncollectible accounts and, as a consequence, believes that its accounts receivable credit risk exposure beyond such allowance is limited.
CHINA DIGITAL MEDIA CORPORATION
AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(continued)
The Company’s major operation is in the PRC, which may give rise to significant foreign currency risks from fluctuations and the degree of volatility of foreign exchange rates between the United States dollars (“US$”) and the Chinese Renminbi (“RMB”). Nevertheless, the Company does not believe that its foreign currency exchange rate fluctuation risk is significant, especially if the PRC government allows only gradual currency fluctuation so as to maintain the relative stability of RMB.
(L) Convertible Instruments
The Company reviews the terms of convertible debt and equity securities for indications requiring bifurcation, and separate accounting, for the embedded conversion feature. Generally, embedded conversion features where the ability to physical or net-share settle the conversion option is not within the control of the Company are bifurcated and accounted for as a derivative financial instrument. (See Derivative Financial Instruments below). Bifurcation of the embedded derivative instrument requires allocation of the proceeds first to the fair value of the embedded derivative instrument with the residual allocated to the debt instrument. The resulting discount to the face value of the debt instrument is amortized through periodic charges to the amortization of debt discount using the Effective Interest Method.
(M)
Derivative financial instruments
The Company generally does not use derivative financial instruments to hedge exposures to cash-flow or market risks. However, certain other financial instruments, such as warrants or options to acquire common stock and the embedded conversion features of debt that are indexed to the Company’s common stock, are classified as liabilities when either (a) the holder possesses rights to net - cash settlement or (b) physical or net share settlement is not within the control of the Company. In such instances, net - cash settlement is assumed for financial accounting and reporting, even when the terms of the underlying contracts do not provide for net - cash settlement. Such financial instruments are initially recorded at fair value and subsequently adjusted to fair value at the close of each reporting period. These derivative financial instruments are indexed to an aggregate of 6,888,888 shares of the Company’s common stock as of December 31, 2009 and are carried at fair value of $2,864,250.
Upon conversion or exercise of a derivative instrument, the instrument is marked to fair value at the conversion date and then that fair value is reclassified to equity.
(N)
Revenue recognition
Digitalization of television signals
The Company entered into an agreement with Nanhai Network Company (“Network Company”) to assist its subscribers on the conversion of television signal from analog into digital by providing STB and smart cards to the subscribers in Nanhai City on a lease basis. The Company is entitled to receive a portion of fees, for subscribers’ television subscription and pay-TV services, payable by Network Company, under the subscription agreement. Revenue is recognized on a straight line basis in accordance with the terms of the subscription agreement. The Company also charges installation fees and sells STB and smart cards to new subscribers. Revenue arising from these services is recognized when the subscriber is invoiced for the STB and smart cards upon the completion of installation works.
In addition, the Company is entitled to be reimbursed for its operating expenses from Network Company in accordance to the subscription agreement. Revenue arising from costs reimbursement is recognized when the amounts are duly agreed upon between the Company and Network Company.
Government grant
The local government of Nanhai City also approved a grant of Rmb10,000,000 each year for five years from 2004 to finance the conversion of television signal from analog into digital. The grant is recognized as revenue on a straight line basis.
As of December 31, 2009 and 2008, the Company did not receive any of government grant.
Advertising sales
The Company acts as an advertising agent for certain television channels by selling advertising air time spaces and television program backdrops to customers. The Company's advertising services revenue is derived from billings that are earned when the advertisements are placed and revenue is recognized as the media placements appear. Deferred revenues are recognized as a liability when billings are received in advance of the date before revenues are earned.
Software development
The Company provides various information technology professional services to its customers based on a negotiated fixed-price time and materials contract. The Company recognizes services-based revenue from all of its contracts when the services have been performed, the customers have approved the completion of the services and invoices have been issued and collectibility is reasonably assured.
CHINA DIGITAL MEDIA CORPORATION
AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(continued)
Television series
The Company invested in the production of two television series. Revenue from investments in television series is recognized upon receipt from the production company.
Supplier rebate
Rebate or refund received by the Company from its supplier, either in cash or trade discount, will be considered as an adjustment of the prices of the supplier’s products purchased by the Company. Therefore, it will be characterized as (a) a reduction of cost of sales for subsequent selling of the products by the Company; or (b) a reduction of property and equipment for products booked as fixed assets of the Company and subject to deprecation in line with the depreciable life of the relevant products; or (c) a reduction of inventories for products maintained in stocks.
(O)
Research and Development
Research and development costs related to both present and future products are expenses as incurred. Total expenditures on research and development charged to general and administrative expenses for the years ended December 31, 2009 and 2008 were $505,456 and $18,469, respectively.
(P)
Income taxes
The Company accounts for income taxes under the Statement of Financial Accounting Standards No. 109, “Accounting for Income Taxes” (“Statement 109”). Under Statement 109, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. Under Statement 109, the effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period included the enactment date.
(Q)
Foreign currency transactions
CDMC, Arable and CDHL maintain their accounting records in their functional currencies of US$ and Hong Kong Dollars (“HK$”) respectively, whereas AGL, M-Rider, HuaGuang, and Arable GZ maintain their accounting records in their functional currency of RMB.
Foreign currency transactions during the year are translated to the functional currency at the approximate rates of exchange on the dates of transactions. Monetary assets and liabilities denominated in foreign currencies at the balance sheet date are translated at the approximate rates of exchange at that date. Non-monetary assets and liabilities are translated at the rates of exchange prevailing at the time the asset or liability was acquired. Exchange gains or losses are recorded in the statement of operations.
The financial statements of the subsidiaries (whose functional currency is HK$ or RMB) are translated into US$ using the closing rate method. The balance sheet items are translated into US$ using the exchange rates at the respective balance sheet dates. The capital and various reserves are translated at historical exchange rates prevailing at the time of the transactions while income and expenses items are translated at the average exchange rate for the year. All exchange differences are recorded within equity. Translation loss and gain for the years ended December 31, 2009 and 2008 were $222,887 and $767,458 respectively.
(R)
Comprehensive income (loss)
The foreign currency translation gain or loss resulting from translation of the financial statements expressed in HK$ and RMB to US$ is reported as other comprehensive income in the statements of operations and stockholders’ equity. Other comprehensive loss and income for the years ended December 31, 2009 and 2008 were $222,423 and $767,458 respectively.
(S)
Income per share
Basic income per share is computed by dividing income available to common shareholders by the weighted average number of common shares outstanding during the year. Diluted income per share is computed similar to basic income per share except that the denominator is increased to include the number of additional common shares that would have been outstanding if the potential common shares had been issued and if the additional common shares were dilutive in nature.
(T)
Segments
The Company operates in four reportable segments, digitalization of television signals, software development, television advertising, and investments in television series.
CHINA DIGITAL MEDIA CORPORATION
AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(continued)
(U)
Reclassifications
Certain 2008 balances have been reclassified to conform to the 2009 presentation.
(V)
Recent accounting pronouncement
In October 2008, the Financial Accounting Standards Board ("FASB") issued FSP SFAS No. 157-3, "Determining the Fair Value of a Financial Asset When the Market for That Asset is Not Active" (FSP SFAS 157-3), which clarifies the application of SFAS No. 157, "Fair Value Measurements" ("SFAS 157"), in an inactive market and provides an example to demonstrate how the fair value of a financial asset is determined when the market for that financial asset is inactive. FSP FAS 157-3 was effective upon issuance, including prior periods for which financial statements had not been issued. The adoption of this standard did not have any impact on the Company's results of operations, cash flows or financial positions for the year ended December 31, 2009.
In May 2008, the FASB issued SFAS No. 162, "The Hierarchy of Generally Accepted Accounting Principles" ("SFAS 162"). SFAS 162 identifies the sources of accounting principles and the framework for selecting principles to be used in the preparation and presentation of financial statements in accordance with generally accepted accounting principles. This statement became effective in November 2008. Adoption of SFAS 162 did not have a material impact on the Consolidated Financial Statements.
In February 2008, the FASB issued FSP SFAS No. 157-2, "Effective Date of FASB Statement No. 157" ("FSP SFAS 157-2"). FSP SFAS 157-2 delays the effective date of SFAS 157 for non-financial assets and non-financial liabilities that are not remeasured at fair value on a recurring basis (at least annually) until January 2009. The implementation of FSP SFAS 157-2 did not have a material impact on the Consolidated Financial Statements.
In December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements - an amendment of Accounting Research Bulletin No. 51” (“SFAS 160”), which establishes accounting and reporting standards for ownership interests in subsidiaries held by parties other than the parent, the amount of consolidated net income attributable to the parent and to the noncontrolling interest, changes in a parent’s ownership interest and the valuation of retained non-controlling equity investments when a subsidiary is deconsolidated. The Statement also establishes reporting requirements that provide sufficient disclosures that clearly identify and distinguish between the interests of the parent and the interests of the non-controlling owners. SFAS 160 is effective for fiscal years beginning after December 15, 2008. The Company has not determined the effect that the application of SFAS 160 will have on its consolidated financial statements.
2.
INTANGIBLE ASSETS
Intangible assets at of December 31, 2009 and 2008 consisted of the following:
3. RESTRICTED CASH
Restricted cash at December 31, 2009 and 2008 consisted of the following.
The Company obtained a one year renewable bank credit facility for bank loan of RMB15 million from Zhangjiang Commercial Bank during the year which is secured by the account receivable from Network Company and overall 60% cash deposit on the bank. Such cash deposit is restricted to be withdrawn until any loan from the bank is fully repaid. Such deposit is at a 6-month renewable term which expires in May 2010.
3.
ACCOUNTS RECEIVABLE, NET
Accounts receivable at December 31, 2009 and 2008 consisted of the following:
During 2007, the Company entered into an agreement with the Network Company to obtain a more favorable digital TV basic subscription fee income sharing plan in exchange for setting aside a certain portion of trade receivable balance due from the Network Company from the current balance. Such portion is to be repayable by the Network Company over 15 years annually and evenly, and was classified as non-current assets in the consolidated financial statements as of December 31, 2007.
At the year end of 2008, the global financial and economic environment was suffering a serious downturn which projected an unstable future for the market as a whole. The Company considered the collectability of the non-current portion uncertain. A full provision was made for such amount at the year of of 2008 accordingly. Since the Company received $534,447 from the Network Company for settling the non-current portion in 2009, the balance of non-current receivable and the allowance for doubtful accounts were both reduced by such amount.
The Company considered all accounts receivable collectable after $7,436,397 and $7,970,844 were provided for doubtful accounts for the years ended December 31, 2009 and 2008, respectively.
4.
INVENTORIES, NET
Inventories at December 31, 2009 and 2008 consisted of the following:
For both of the years ended December 31, 2009 and 2008, the Company has not recorded a provision for obsolete inventories.
CHINA DIGITAL MEDIA CORPORATION
AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(continued)
5.
OTHER RECEIVABLES AND PREPAID EXPENSES
Other receivables and prepaid expenses at December 31, 2009 and 2008 consisted of the following:
6. PROPERTY AND EQUIPMENT, NET
The following is a summary of property and equipment at December 31:
Depreciation expense for the years ended December 31, 2009 and 2008 were $4,726,704 and $4,035,455 respectively.
7. DUE FROM A RELATED COMPANY
The amount due from a related company was at $238,016 as of year ended December 31, 2009 (2008: nil) which represents the contract fee advanced to a related company for the design of content for the advertising customer of M-Rider for the one year contract. The total contract fee paid to this related company was $294,187 which is to be amortised by one year corresponding to the same basis of the revenue received in advance from the customer.
8. DEFERRED TAX ASSET
The deferred tax asset was at $1,064,552 as of year ended December 31, 2009 (2008: 52,820) which represents the value added tax credit not utilized at year end as a result of large quantity of STB purchased during the year as a result of the new tax rule in China for allowing the value added tax credit from capital expenditure to be offset against the value added tax liability incurred from sales revenue. Such tax credit is to be carried forward to offsetting future value added tax payable out of the sales of STB.
9.
CONVERTIBLE DEBENTURES
On November 17, 2006, the Company completed a private equity financing with four accredited investors for $3,000,000, $1,000,000 of which was rolled over from the investor of the sale completed on July 7, 2006. The investor’s previously purchased securities were returned to the Company in partial exchange for the units issued on this private equity financing. Upon the closing of this private equity financing, the investor waived all rights associated with the previously purchased securities and waived all interest payments accrued on the previously purchased securities. Furthermore, on December 13, 2006, the Company has completed another private equity financing with an accredited investor for $100,000.
As a result of the above, during 2009, the Company has issued the following convertible debentures;
On November 17, 2006 to a financial institution for $ 2,150,000
On November 17, 2006 to a financial institution for $ 200,000
On November 17, 2006 to a financial institution for $ 500,000
On November 17, 2006 to an individual investor for $ 150,000
On December 13, 2006 to an individual investor for $100,000
The above convertible debentures were issued pursuant to the private equity financing as described above where the Company sold a total 31 units of securities. Each unit consists of (i) an eighteen-month 4% interest bearing convertible debenture in the principal amount of $100,000, convertible at $0.45 per share, (ii) a six-year Class A warrant to purchase 222,222 shares of the Company’s common stock, par value $0.001 per share at an exercise price of $0.80 per share, a (iii) six-year Class B warrant to purchase 222,222 shares of the Company’s common stock at an exercise price of $1.20 per share, and (iv) a six-year Class C warrant to purchase 111,111 shares of the Company’s common stock at an exercise price of $2.25 per share. The securities issuable upon conversion of the debenture and exercise of the warrants are eligible for certain registration rights. In December 2007, debenture amounted to $135,000 was converted to common stock by one of the debenture holders. In December 2009, debenture amounted to $100,750 was redeemed from one of the debenture holders.
On December 08, 2008, March 24, 2009 and December 1, 2009, the Company entered into various extension agreements (the “Extension Agreement”) with three of the debenture holders in connection with the convertible debenture for the amount of $2,665,000 because the Company did not have sufficient fund to repay the debenture due. One of the Extension Agreement was filed with the Form 8-K on December 12, 2008. The Company is also in contact with other debenture holders but has not agreed on any terms of extension up to the date of this report.
The following is a summary of convertible debentures as of December 31, 2009 and 2008:
CHINA DIGITAL MEDIA CORPORATION
AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(continued)
10. BANK LOANS
Bank loans owing to Zhangjiang Commercial Bank of Guangzhou at December 31, 2009 and 2008 consists of the following.
The Company obtained a one year renewable credit facility from a local bank of $2.2 million during the year which is secured over the account receivable from Network Company and an overall 60% security deposit with the bank. The loan is drawn against the bank in a form of 6-month bill payable to the STB supplier. The supplier has the option to collect the cash from the bank after six months or to cash the bill immediately by discounting the bill to the bank. The Company bears the discounting interest expense of the discounted bill.
11.
ACCOUNTS PAYABLE
Accounts payable at December 31, 2009 and 2008 consists of the following.
During 2007, the Company entered into an agreement with one of its major suppliers to extended the payment of its purchases over 24 equal monthly installments. The amounts owed to this supplier payable beyond one year as of December 31, 2009 are classified as long-term liabilities.
12.
OTHER PAYABLES AND ACCRUED LIABILITIES
Other payables and accrued liabilities at December 31, 2009 and 2008 consist of the following:
13.
INCOME TAX
a)
CDMC was incorporated in the United States and has incurred net operating loss for income tax purposes for 2009 and 2008.
CDHL, Maxcomm, and Arable are incorporated in Hong Kong and are subject to Hong Kong profits tax. No provision for Hong Kong profits tax has been made since all of these entities incurred a loss during 2009 and 2008.
AGL was incorporated in the PRC and is subject to PRC income tax which is computed according to the relevant laws and regulations in the PRC. The applicable tax rate has been 25%. Since AGL was granted the Software Enterprise Certification in 2008 and was approved for a tax holiday of 5 years at the end of 2009 with full income tax exemption in the first two years and reduced tax rate in the following three years starting 2008. The reduced tax rate starting from 2010 is 15%.
M-Rider, HuaGuang, and Arable GZ were incorporated in the PRC and are subject to PRC income tax which is computed according to the relevant laws and regulations in the PRC. The applicable tax rate has been 25%. No tax benefit is expected from the tax credits in the future. The income tax expenses for 2009 and 2008 are summarized as follows:
(b) As of December 31, 2009, CDMC had loss carried forward of approximately $5,630,414 for U.S. income tax purposes available for offset against future taxable U.S. income expiring in 2028.
As of December 31, 2009, CDHL has Hong Kong tax loss carry forwards of approximately $559,283. Currently, the Hong Kong tax losses can be carried forward indefinitely.
As of December 31, 2009, Arable has Hong Kong tax loss carry forwards of approximately $961,041. Currently, the Hong Kong tax losses can be carried forward indefinitely.
As of December 31, 2009, all the PRC companies have tax loss carry forwards of approximately $2,245,969 which is not expected to be utilized in near future.
CHINA DIGITAL MEDIA CORPORATION
AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(continued)
c)
The reconciliation of income taxes computed at the statutory income tax rates to total income taxes for the years ended December 31, 2009 and 2008 is as follows:
14.
NET INCOME PER SHARE
Income and loss per share on a diluted basis were $0.04 and $0.30 for the fiscal years ended December 31, 2009 and 2008 respectively. As of December 31, 2009, the Company has outstanding:
- 42,706,363 shares of common stock;
- 1,875,000 shares of preferred stock;
- 6,588,882 shares of common stock to be issued upon conversion of convertible debenture (“CD”);
- warrants to purchase 6,888,882 shares of common stock at an exercise price of $0.80 per share, expire in November 2012;
- warrants to purchase 6,888,882 shares of common stock at an exercise price of $1.20 per share, expire in November 2012; and
- warrants to purchase 3,444,441 shares of common stock at an exercise price of $2.25 per share, expire in November 2012.
In accordance with paragraph 40 and 41 of SFAS 128 and EITF 03-6, basic and diluted earnings per share on a two class method for the fiscal year ended December 31, 2009 and 2008 were calculated as follows:
Warrants to purchase 6,588,882 shares of common stock at $0.80 per share, 6,888,882 shares of common stock at $1.20 per share and 3,444,441 shares of common stock at $2.25 per share were outstanding as of December 31, 2009 but were not included in the computation of diluted earnings per share because the warrants’ exercise price was greater than the market price of the common shares. The warrants, which expire in November, 2012, were still outstanding on December 31, 2009.
CHINA DIGITAL MEDIA CORPORATION
AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(continued)
15.
SEGMENTS
The Company operates in five reportable segments; digitalization of television signals, software development, television advertising, investments in television series and other. The accounting policies of the segments are the same as described in the summary of significant accounting policies. The Company evaluates segment performance based on income from operations. All inter-company transactions between segments have been eliminated. As a result, the components of operating income for one segment may not be comparable to another segment. The following is a summary of the Company’s segment information for the years ended December 31, 2009 and 2008:
A reconciliation is provided for unallocated amounts relating to corporate operations which is not included in the segment information.
16.
STOCKHOLDERS’ EQUITY
(A) Stock issuances
During the year, the Company did not issue any stock.
(B) Appropriated retained earnings
The Company’s PRC subsidiaries are required to make appropriations to reserve funds, comprising the statutory surplus reserve, statutory public welfare fund and discretionary surplus reserve, based on the after-tax net income determined in accordance with the laws and regulations of the PRC. Prior to January 1, 2006 the appropriation to the statutory surplus reserve should be at least 10% of the after tax net income determined in accordance with the laws and regulations of the PRC until the reserve is equal to 50% of the entities’ registered capital. Appropriations to the statutory public welfare fund are at 5% to 10% of the after tax net income determined by the Board of Directors. The Company is to contribute to one statutory reserve fund at 1% percent of net income after tax per annum, such contributions not to exceed 50 percent of the respective companies’ registered capital.
The statutory reserve funds are restricted for use to set off against prior period losses, expansion of production and operation or for the increase in the registered capital of the Company. The statutory public welfare fund is restricted for use in capital expenditures for the collective welfare of employees. These reserves are not transferable to the Company in the form of cash dividends, loans or advances. These reserves are therefore not available for distribution except in liquidation.
During 2009 and 2008, the Company appropriated $57,930 and $0 respectively to the reserves funds based on its net income in accordance with the laws and regulations of the PRC.
(C) Contributed capital
During 2009, no restricted capital was being contributed.
17.
RELATED PARTY TRANSACTIONS
As of December 31, 2009 and 2008, the Company owed to two directors $180,194 and $298,544 respectively for short-term advances. Interest is charged at 6% per annum on the amount owed. During the year, the Company repaid $105,789 to one of the director for his loan to the Company in 2008 with an original amount of $131,574.
As of December 31, 2009 and 2008, the Company owed to related companies $157,456 and $454,555 respectively for short-term unsecured advances made. Interest is charged at 6% per annum on the amount owed.
As of December 31, 2009 and 2008, the Company owed to a stockholder $9,270 and $387,062 respectively for short-term unsecured advances made. Interest is charged at 6% per annum on the amount owed. During the year, the Company obtained a third party loan to repay this stockholder for $377,792.
The Company entered into an advertising service contract with a related company for a total fee $294,187 paid in advance for the design of content for the advertising customer of M-Rider for the one year term. The balance due from this related company is $238,280 as at December 31, 2009.
18.
COMMITMENTS
(A)
Employee benefits
The full time employees of the Company in China are entitled to employee benefits including medical care, welfare subsidies, unemployment insurance and pension benefits through a Chinese government mandated multi-employer defined contribution plan. The Company is required to accrue for those benefits based on certain percentages of the employees’ salaries and make contributions to the plans out of the amounts accrued for medical and pension benefits. The total provision and contributions made for such employee benefits was $108,552 and $90,746 for the years ended December 31, 2009 and 2008, respectively. The Chinese government is responsible for the medical benefits and the pension liability to be paid to these employees.
The Company also operates a Mandatory Provident Fund plan (“the plan”) which is available to all employees in Hong Kong. Both the Company and the employees are required to contribute 5% (subject to an aggregate amount of $256) per month of the employees’ relevant income. Contributions from the Company are 100% vested in the employees as soon as they are paid to the plan. Contributions to the plan are expensed as they become payable in accordance with the rules of the plan and amounted to $6,824 and $4,680 for the years ended December 31, 2009 and 2008 respectively. The assets of the plan are held separately from those of the Company and are managed by independent professional fund managers.
(B)
Operating leases commitments
The Company leases office spaces from third parties under four operating leases; one lease expires in September, 2012 , and three leases expire on Jan 8, 2014 for total monthly rentals of $11,120. The Company also leases spaces for warehouse from third party under operating lease which expires in December 31, 2011 for a total monthly rent of $4,093. The Company also leases spaces for staff quarters from third parties under eight operating leases which expire from July to October, 2010 with total monthly rentals of $1,109. Accordingly, for the years ended December 31, 2009 and 2008, the Company recognized rental expense for office spaces in the amount of $130,171 and $139,367, respectively
As of December 31, 2009, the Company has outstanding commitments with respect to the above non-cancelable operating leases, which are due as follows:
CHINA DIGITAL MEDIA CORPORATION
AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(continued)
19.
CONTINGENCIES
The Company accounts for loss contingencies in accordance with SFAS 5 “Accounting for Loss Contingencies”, and other related guidance. Set forth below is a description of certain loss contingencies as of December 31, 2005 and management’s opinion as to the likelihood of loss in respect of each loss contingency.
On May 24, 2005, Ziegler, Ziegler & Associates LLP and Scott Ziegler filed a Complaint against the Company in the United States District Court for the Southern District of New York for using their internet domain name to distribute the Company’s promotional information over the internet. The Plaintiffs seek several types of damages in an amount not less than $1,250,000. The Company’s counsel was instructed to vigorously defend the action as the emails in question were distributed by a party not hired nor associated with the Company. Accordingly, no provision for this contingency has been made as of December 31, 2009.
20.
CONCENTRATIONS AND RISKS
During 2009 and 2008, 100% of the Company’s assets were located in China and 100% of the Company’s revenues were derived from customers in China.
The Company relied on two suppliers and purchases from those suppliers for the year ended December 31, 2009 and 2008 are as follows:
At December 31, 2009 and 2008, accounts payable to those two suppliers totaled $9,307,627 and $5,008,624 respectively.
21.
GOING CONCERN
As reflected in the accompanying consolidated financial statements, the Company has an accumulated deficit of $10,614,143 at December 31, 2009 that includes comprehensive income of $1,987,716 for the year ended December 31, 2009. The Company’s total current liabilities exceed its total current assets by $9,905,650. These factors raise substantial doubt about its ability to continue as a going concern. In view of the matters described above, recoverability of a major portion of the recorded asset amounts shown in the accompanying consolidated balance sheet is dependent upon continued operations of the company, which in turn is dependent upon the Company’s ability to raise additional capital, obtain financing and succeed in its future operations. The financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts or amounts and classification of liabilities that might be necessary should the Company be unable to continue as a going concern.
Management has taken the following steps to revise its operating and financial requirements, which it believes are sufficient to provide the Company with the ability to continue as a going concern. The Company is actively pursuing additional funding and potential merger or acquisition candidates and strategic partners, which would enhance stockholders’ investment. Management believes that the above actions will allow the Company to continue operations through the next fiscal year
ITEM 9.
ITEM 9. Changes with and Disagreements With Accountants on Accounting And Financial Disclosure
None.
ITEM 9A.
ITEM 9A. Controls and Procedures
Evaluation of Controls. As of the end of the period covered by this annual report on Form 10-K, the Company evaluated the effectiveness of the design and operation of (i) our disclosure controls and procedures ("Disclosure Controls"), and (ii) our internal control over financial reporting ("Internal Controls"). This evaluation ("Evaluation") was performed by our President and Chief Executive Officer (“CEO”), Ng Chi Shing and Chief Financial Officer ("CFO"), Chung Lai Lok. In this section, the Company presents the conclusions of our CEO & CFO based on and as of the date of the Evaluation, (i) with respect to the effectiveness of our Disclosure Controls, and (ii) with respect to any change in our Internal Control that occurred during the most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect our Internal Control.
CEO & CFO Certifications. Attached to this annual report, as Exhibits 31.1 and 31.2, are certain certifications of the CEO and CFO, which are required in accordance with the Exchange Act and the Commission's rules implementing such section (the "Rule 13a-14(a)/15d-14(a) Certifications"). This section of the annual report contains the information concerning the Evaluation referred to in the Rule 13a-14(a)/15d-14(a) Certifications. This information should be read in conjunction with the Rule 13a-14(a)/15d-14(a) Certifications for a more complete understanding of the topic presented.
Disclosure Controls and Internal Control. Disclosure Controls are procedures designed with the objective of ensuring that information required to be disclosed in our reports filed with the Commission under the Exchange Act, such as this annual report, is recorded, processed, summarized and reported within the time period specified in the Commission's rules and forms. Disclosure Controls are also designed with the objective of ensuring that material information relating to us is made known to the CEO & CFO by others, particularly during the period in which the applicable report is being prepared. Internal Control, on the other hand, are procedures which are designed with the objective of providing reasonable assurance that (i) our transactions are properly authorized, (ii) the Company's assets are safeguarded against unauthorized or improper use, and (iii) our transactions are properly recorded and reported, all to permit the preparation of complete and accurate financial statements in conformity with accounting principals generally accepted in the United States.
Limitations on the Effectiveness of Controls. Our management does not expect that our Disclosure Controls or our Internal Control will prevent all error and all fraud. A control system, no matter how well developed and operated, can provide only reasonable, but not absolute assurance that the objectives of the control system are met. Further, the design of the control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the control. The design of a system of controls also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated objectives under all potential future conditions. Over time, control may become inadequate because of changes in conditions, or because the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.
Conclusions. Based upon the Evaluation, our disclosure controls and procedures are designed to provide reasonable assurance of achieving our objectives. Our CEO & CFO have concluded that our disclosure controls and procedures are effective at that reasonable assurance level to ensure that material information relating to the Company is made known to management, including the CEO and CFO. Additionally, there has been no change in our Internal Controls that occurred during our most recent fiscal quarter that has materially affected, or is reasonably likely to affect, our Internal Controls.
Management’s Annual Report on Internal Control Over Financial Reporting
The Company’s management is responsible for establishing and maintaining adequate internal control over financial reporting, in accordance with Rules 13a-15(f) and 15d-15(f) of the Exchange Act. Under the supervision and with the participation of the Company’s management, including the CEO and CFO (the “Certifying Officers”), we conducted an evaluation of the effectiveness of the Company’s internal control over financial reporting based on the framework in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.
The Company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles in the United States of America. The Company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the Company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Based on its assessment using these criteria, the Company’s management concluded that the Company maintained effective internal control over financial reporting as of December 31, 2009.
This report does not include an attestation report of the Company’s independent registered public accounting firm regarding internal control over financial reporting. Management’s report was not subject to attestation by the Company’s independent registered public accounting firm pursuant to temporary rules of the SEC that permit the Company to provide only management’s report in this report.
ITEM 9B.
ITEM 9B. Other Events
None.
PART III
ITEM 10.
ITEM 10. Directors, Executive Officers and Corporate Governance
Identification of Directors
The following information, as of December 31, 2009 is furnished with respect to each Director and Executive Officer:
All Directors serve for one-year terms.
All officers serve at the pleasure of the Board.
There are no arrangements or understandings pursuant to which any of them were elected as officers.
Mr. Ng Chi Shing is our President and Chief Executive Officer and Director. Mr. Ng is the founder and CEO of Arcotect Digital Technology Limited. Arcotect Digital Technology Limited was founded to capitalize on the numerous opportunities in China arising from the digitization of cable television services and the reform of state owned cable television enterprises. Mr. Ng has extensive experience in Cable TV operations, Internet and information technology industry. Over his 17 years experience in the industry, he has been Chairman, CEO and director of public companies in Hong Kong, such companies including DCP Holdings Ltd., Hong Kong Cable TV Ltd, the first cable TV operator in Hong Kong, Hong Kong Star Internet Ltd., the first Internet Service Provider in Hong Kong. Mr. Ng is also the Chairman of Hong Kong Information Technology Federation and the founder member of Hong Kong Internet Service Providers Association. Besides, Mr. Ng was elected as Hong Kong’s “Ten Outstanding Young Digi Persons” by Hong Kong Productivity Council and Hong Kong Junior Chamber in 2000.
Mr. Chen Lu is a Director of the Company. Mr. Chen has over 18 years experience in banking, telecom and broadcasting industry in China. Mr. Chen was the founder and general manager of Guangzhou Vispac Telecom Co Ltd. and Guangzhou DaiLin Communication Co. Ltd.
Ms. Chen Juan is a Director of the Company. She is currently an assistant lecturer in Guangdong Dance College since 1999. Her major was Financial Management when she graduated from Guangzhou Industrial University in 2003. She obtained certificate in Information and Science Technology when she graduated from Jiejiang University.
There have been no events under any bankruptcy act, any criminal proceedings and any judgments or injunctions material to the evaluation of the ability and integrity of any director or executive officer during the past ten years.
Mr. Chung Lai Lok is the Chief Financial Officer of the Company. Mr. Chung is a certified public accountant in Hong Kong and United Kingdom. He has over 19 years experience in auditing, finance and accounting in various industries with multi-national companies previously.
Audit Committee Financial Expert
The Company does not have a separately designated standing audit committee. The entire Board of Directors acts as an audit committee for the purpose of overseeing the accounting and financial reporting processes, and our audits of the financial statements. The Commission has adopted regulations relating to audit committee composition and functions, including disclosure requirements relating to the presence of an "audit committee financial expert" serving on its audit committee. In connection with these new requirements, our Board of Directors examined the Commission's definition of "audit committee financial expert" and concluded that the Company does not currently have a person that qualifies as such an expert. Presently, there are only three directors serving on our Board, and the Company is not in a position at this time to attract, retain and compensate additional directors in order to acquire a director who qualifies as an "audit committee financial expert". While none of our current directors meets the qualifications of an "audit committee financial expert", each of our directors, by virtue of his past employment experience, has considerable knowledge of financial statements, finance, and accounting, and has significant employment experience involving financial oversight responsibilities. Accordingly, the Company believes that our current directors capably fulfill the duties and responsibilities of an audit committee in the absence of such an expert.
Code of Conduct
The Company has adopted a code of conduct that applies to our principal executive officer, principal financial officer, principal accounting officer or controller, or persons performing similar functions. Such code of ethics will be provided to any person without charge, upon request, by sending such request to us at our principal office. The Company publishes the code in the Company’s website at www.chinadigimedia.com.
Section 16(a) Beneficial Ownership Reporting Compliance
Under Section 16(a) of the Exchange Act, all executive officers, directors, and each person who is the beneficial owner of more than 10% of the common stock of a company that files reports pursuant to Section 12 of the Exchange Act, are required to report the ownership of such common stock, options, and stock appreciation rights (other than certain cash-only rights) and any changes in that ownership with the Commission. Specific due dates for these reports have been established, and the Company is required to report, in this Form 10-K, any failure to comply therewith during the fiscal year ended December 2009. The Company believes that all of these filing requirements are satisfied by our executive officers, directors and by the beneficial owners of more than 10% of our common stock. In making this statement, the Company has relied solely on copies of any reporting forms received by it, and upon any written representations received from reporting persons that no Form 5 (Annual Statement of Changes in Beneficial Ownership) was required to be filed under applicable rules of the Commission.
Changes in Nomination Procedures
There have been no material changes to the procedures by which security holders may recommend nominees for the Company’s Board since the Company’s filing in which we discussed such procedures.
ITEM 11.
ITEM 11. Executive Compensation
During the fiscal years ended December 31, 2008 and 2009, we did not have any employees that earned greater than $100,000 in salary and bonus. The following table sets forth information regarding the annual compensation for our Chief Executive Officer.
Summary Compensation Table
(1) Includes $38,461 (based on a conversion rate of Hong Kong dollars to U.S. dollars of 7.8 to 1) payable to Mr. Ng pursuant to his agreement with our subsidiary China Digimedia Holdings Limited, and $17.28 payable by the Company.
Stock Option Grants
No options, warrants, or stock appreciation rights were issued during fiscal year 2009 to any employees.
Discussion of Employment Agreements and Termination or Change of Control Arrangements
Effective January 1, 2006, Mr. Daniel Ng and our subsidiary, China Digimedia Holdings Limited (or CDHL), entered into an employment agreement pursuant to which Mr. Ng agreed to serve as Chief Executive Director of CDHL. The employment agreement provides for a base salary of HK $25,000 per month (or approximately US $3,205) and a discretionary year-end bonus. The employment agreement may be terminated by CDHL on three months’ written notice, provided that CDHL reserves the right to terminate the agreement at any time without prior notice with cause. The employment agreement also provides that during the term of the employment and for one year thereafter, the Mr. Ng shall not compete in any other business or services similar to that of CDHL.
Effective January 1, 2006, we entered into an employment agreement with Mr. Ng pursuant to which Mr. Ng agreed to serve as our Chief Executive Officer for an initial term ending December 31, 2008 . The agreement provides for an annual salary of $12 in 2006, $14.40 in 2007, and $17.28 in 2008, provided that if our revenues increase by 50% or more in 2006 as compared to 2005. Commencing in 2008, Mr. Ng’s salary shall increase to the “Market Rate,” which is defined as the comparable rate of pay for a CEO employed by a company in a similar industry with similar capacity, as determined and approved by our Board of Directors. As of the date of this report, this determination has not been made. The annual salary for Mr. Ng was $17.28 in 2009. Commencing in 2007, Mr. Ng is entitled to receive an annual bonus as determined by the Board of Directors. As of the date of this report, this determination has not been made. No such bonus has been declared or paid to Mr. Ng. Upon termination of the agreement by us for a reason other than for “cause” (as defined in the agreement) or upon the death or disability of Mr. Ng, Mr. Ng is entitled to a severance payment of his then salary and bonus for the remaining term of the employment agreement. Upon termination of the agreement upon the disability of Mr. Ng, Mr. Ng is entitled to 75% of his then base salary and bonus for a period of one year. Upon termination of the agreement by us for “cause,” Mr. Ng is entitled to all amounts due to him for any portion of the payroll period worked but for which payment had not yet been made up to the date of termination. The employment agreement provides that during the term of the employment and for three months thereafter, the Mr. Ng shall not compete in any other business or services similar to that of our business or services.
Director Compensation
Directors who are also employees do not receive compensation for their services as directors.
Director Compensation Table - 2009
(1) Mr. Ng’s total compensation is reflected in the Summary Compensation Table.
ITEM 12.
ITEM 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Security Ownership of Certain Beneficial Owners
All persons known by the Company to own beneficially more than 5% of any class of the Company's outstanding stock on December 31, 2009, are listed below:
(A) On March 21, 2007, Modern Delta transferred 23,250,000 shares of common stock and 1,875,000 shares of Series A Convertible Preferred Stock of the Company owned by Modern Delta Limited to Daniel Ng and Chen Lu. After completion of the restructuring, Daniel Ng owned 17,398,440 shares of common stock and 1,403,100 shares of Series A Convertible Preferred Stock of the Company, and Chen Lu owned 5,851,560 shares of common stock and 471,900 shares of Series A Convertible Preferred Stock of the Company
(B) CDHL acquired 100% shares in Maxcomm from Lippo Star Investment Limited (“Lippo Star”) at a consideration of $3,760,000 on May 21, 2007. The consideration was fully settled by issuing 10,000,000 shares of CDGT common stock to Lippo Star, of which 8,000,000 shares was issued to Mr. Tam as a shareholder of Lippo Star.
(C) Each share of preferred stock is convertible into five shares of common stock.
Security Ownership of Management
The following table sets forth the number of shares owned beneficially on December 31, 2009, by each Director and by all Officers and Directors as a group. No shares listed below have been pledged by the holder of such shares.
(y) On March 21, 2007, Modern Delta transferred 23,250,000 shares of common stock and 1,875,000 shares of Series A Convertible Preferred Stock of the Company owned by Modern Delta Limited to Daniel Ng and Chen Lu. After completion of the restructuring, Daniel Ng directly owned 17,398,440 shares of common stock and 1,403,100 shares of Series A Convertible Preferred Stock of the Company, and Chen Lu directly owned 5,851,560 shares of common stock and 471,900 shares of Series A Convertible Preferred Stock of the Company
(z) Each share of preferred stock is convertible into five shares of common stock, and votes together with the common stock on all matters on an “as converted” basis.
Securities Authorized for Issuance Under Equity Compensation Plans
As of December 31, 2009, the Company’s equity compensation plan information was as follows.
Equity Compensation Plan Information
The Company issued warrant shares at an average exercise price of $1.27 per share as compensation to several consultants for their services in the year 2006. A total of 1,211,104 warrant shares were outstanding as of end of the year.
ITEM 13.
ITEM 13. Certain Relationships and Related Transactions; and Director Independence
The Company has 1,875,000 shares of Series “A” preferred stock outstanding at December 31, 2009. These shares are owned by our majority shareholders.
The Company has the following amount due to/from a major shareholder and three related companies as at December 31, 2009.
Shareholder
Amount due to Tam Wei Keung: $9,270
Related companies
Amount due to Arcotect HK Limited: $241,636
Amount due to Manta Finance Limited: $154,100
Amount due from Shangxin Software Technology Limited: $238,280
Director Independence.
Since we trade our securities on the OTC Bulletin Board, our Board of Directors is not subject to any independence requirements. Assuming we were subject to the Nasdaq Stock Market independence requirements, our Board considered transactions and relationships between each director or any member of his or her immediate family and our company, subsidiaries and affiliates. The purpose of this review was to determine which of our directors were independent, and whether any such relationships or transactions existed that were inconsistent with a determination that the director is independent. As a result of this review, the Board affirmatively determined that during 2009 Ms. Chen was independent of us under the standards of the independent director requirements of the Nasdaq Stock Market. Messrs. Ng and Chen are not independent directors under the standards of the independent director requirements of the Nasdaq Stock Market.
Our Board of Directors does not have an audit committee, compensation committee, or nominating committee, and as such the actions normally taken by these committees is taken by the Board as a whole.
Item 14.
Item 14. Principal Accountant Fees and Services
Fees Billed For Audit and Non-Audit Services
The following table represents the aggregate fees billed for professional audit services rendered to the independent auditor, BONGIOVANNI & ASSOCIATES, CPA's (“B & A”), for our audit of the annual financial statements for the years ended December 31, 2009 and 2008. Audit fees and other fees of auditors are listed as follows:
(1)
Audit Fees. These are fees for professional services for our audit of the annual financial statements, and for the review of the financial statements included in our filings on Form 10-Q, and for services that are normally provided in connection with statutory and regulatory filings or engagements.
(2)
Audit-Related Fees. These are fees for the assurance and related services reasonably related to the performance of the audit or the review of our financial statements.
(3)
Tax Fees. These are fees for professional services with respect to tax compliance, tax advice, and tax planning.
(4)
All Other Fees. These are fees for permissible work that does not fall within any of the other fee categories, i.e., Audit Fees, Audit-Related Fees, or Tax Fees.
Pre-Approval Policies and Procedures
The Company’s Board of Directors acts as its audit committee and on an annual basis reviews audit and non-audit services performed by the independent auditors. All audit and non-audit services are pre-approved by the Board of Directors, which considers, among other things, the possible effect of the performance of such services on the auditors' independence.
ITEM 15.
ITEM 15. Exhibits
Exhibits
31.1. Rule 13a-14(a)/15d-14(a) Certifications of Chief Executive Officer
31.2. Rule 13a-14(a)/15d-14(a) Certifications of Chief Financial Officer
32.1. Section 1350 Certifications of Chief Executive Officer
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
CHINA DIGITAL MEDIA CORPORATION
(Registrant)
Date: April 12, 2010
/s/ Ng Chi Shing
Ng Chi Shing
President, CEO and Director
/s/ Chen Lu
Chen Lu
Director
/s/ Chen Juan
Chen Juan
Director
/s/ Chung Lai Lok
Chung Lai Lok
Chief Financial Officer