TMCnet News
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.(Edgar Glimpses Via Acquire Media NewsEdge) This report includes forward-looking statements. Generally, the words "believes," "anticipates," "may," "will," "should," "expect," "intend," "estimate," "continue," and similar expressions or the negative thereof or comparable terminology are intended to identify forward-looking statements. Such statements are subject to certain risks and uncertainties, including the matters set forth in this report or other reports or documents we file with the Securities and Exchange Commission from time to time, which could cause actual results or outcomes to differ materially from those projected. Undue reliance should not be placed on these forward-looking statements, which speak only as of the date hereof. We undertake no obligation to update these forward-looking statements. The following discussion and analysis should be read in conjunction with "Item 6. Selected Financial Data" and our consolidated financial statements and the related notes thereto and other financial information contained elsewhere in this Form 10-K. OVERVIEW We are one of the leading providers of data mining, interactive marketing and software services in the PRC. We have established multiple anchor customers in both the Telecom & Power sectors with long-term relationships since 2001. This relationship is expected to continue and further strengthen in 2011 as result of our technical competency and services leadership which continued to bring high value to the business of these customers. We offer a rich portfolio of business intelligence and interactive marketing services powered by a proprietary database with more than 400 million consumer profiles and a complementary set of Data Mining and Business Intelligence tools to enable customers to reach their targeted Chinese consumers. Services include market segmentation, customer churn, fraud detection, trend analysis, self-service reporting, database marketing, contact center services, mobile value-added services (MVAS) and multi-media, multi-channel advertising. In 2010, we further strengthened our position in the mobile internet marketing space by leveraging our core competencies to partner with the telecommunications carriers to design, build and operate multiple mobile value-added services platforms including the industry renowned "mobile application store" to capitalize on the burgeoning growth in the use of mobile, internet and mobile commerce applications in China. With the deployment of our "mobile application store" platform at China Telecom and the pilot platform in China Unicom, several provincial operators have expressed interest to partner with us, to leverage our core competences in data mining and interactive marketing to help them operate the stores on partnership and revenue sharing basis for mutual benefits. This will be a strategic growth initiative for the Company in 2011. Our services assist customers in improving product development and marketing effectiveness, increase operational efficiency and profitability, helps identify new market trends, target audiences and opportunities, delivers effective marketing messages to targeted consumers and provides interactive, proactive and personalized marketing and advertising for optimal results. While our traditional business had been on data mining, data marketing and software services, we have sharpened our focus in 2010 to further develop our interactive marketing platform and integrated mobile value added service platforms with targeted outbound sales campaigns via mobile phone advertising and value added services, as well as customer service/order fulfillment using online stores and at call centers throughout the country. Along-with our core data mining and interactive marketing services segment, we also operate a software services business, with proven leadership in quality billing, Business Intelligence, Provisioning Support, Decision Support, Operations Support and Customer Relationship Management software applications, primarily for China's leading telecommunication services carriers. The software services business also strengthens sales opportunities for our high margin interactive marketing and data mining platform, and allows us to enhance our customer database. In 2010, we have achieved leadership position in the deployment of billing and OSS solutions to support IPTV rollout for China Telecom in 23 out of the country's 31 provinces. And, through our channel partners, we have also deployed our billing and OSS solution for telecom carriers in overseas countries including Africa, Middle East and Asia. 30 -------------------------------------------------------------------------------- Currently, we offer 36 data mining and software platforms registered with the Shenzhen Bureau of Science, Technology and Information and National Government. And our intellectual property portfolio is covered by 30 patents issued by National Intellectual Property Administration of the People's Republic of China. When these patents were registered with the appropriate authority, we receive a certificate with respect to protected intellectual property in such software; we then license the software to the customers for a usage fee as well as an optional annual maintenance fee after the standard warranty period. Our software services streamline back-office operations for the customers, enable accurate billing and provisioning, improve business operational efficiency, as well as enable intimate and personalized relationship management for their end-customers. In the data mining segment, we presently own and manage a database containing detailed biographical, demographic and purchasing information on over 400 million Chinese consumers and a selected group of SMEs. We believe our database is one of the largest in China, and that it would be difficult for competitors to duplicate. The breadth of our database affords us the ability to conduct a wide range of interactive marketing and data mining processes. Once a target audience is identified through data mining analysis, we assist our customers in the promotion and marketing of new products and services through telemarketing, direct marketing and mobile text and interactive advertising. We share in the revenues derived from consumer purchases resulting from our marketing and promotion activities. Within our data mining services operations, we also offer carriers a vast range of MVAS. Unlike our competitors who mainly use carriers' networks simply as a distribution channel, we work with telecommunications carriers to design, build, operate and manage MVAS platforms jointly with them to offer to their customers under their own brands; based on which we have a share of the revenue derived from the services provided to their customers The primary geographic focus of our operations is in China, with presence in more than 20 cities, where we derive most of our revenues. We conduct our business operations through Jingwei Hengtong, a wholly-owned subsidiary company of Jingwei International that became the primary beneficiary of Jingwei Communication via various contractual agreements. Both companies are registered in China. Our future plans are to stay sharply focused to capitalize on the favorable industry trends to grow our business. The following table summarizes the industry drivers that will continue to fuel our growth; and by leveraging our core competence and the multiple long term relationships with our clients in the telecommunications and power sectors, we are confident of our unique and competitive position to benefit from the significant growth waves unfolding in China. 31--------------------------------------------------------------------------------The following is a summary of the industry drivers that will continue to fuel our growth: [[Image Removed]] HOW THE COMPANY GENERATES REVENUE We derive our revenues from the two business segments we operate in China, i.e., data mining and software services. Our products and services are sold by our sales and marketing organization, as well as an established reseller network. Our services are sold both on project by project basis and on service agreement basis based on which we derive our revenue in several ways depending on contract agreement with the customers: (a) a contracted project development and implementation fee for the project; (b) a licensing fee an annual maintenance for the use of our software; (c) an agreed share of the revenues with the service provider derived either from consumer purchases resulting from our database marketing and promotion activities, or from revenue generated from the service platform we design, develop and in some cases, operate for the carriers, and (d) a combination of (a), (b)and (c) above. We work with business partners and operate under exclusive software licensing and revenue sharing agreements with China Telecom in 16 provinces, China Unicom in 27 provinces and China Mobile in 6 provinces. We own and manage a database containing detailed biographical, demographic and purchasing information on about 400 million Chinese consumers and a selected group of small and medium-sized enterprises. The breadth of our database affords us the ability to conduct a wide range of data mining processes. Once a target audience is identified through data mining analysis, we assist our customers in the promotion and marketing of new products and services through telemarketing, direct marketing, mobile text and interactive advertising. We share in the revenues derived from consumer purchases resulting from our marketing and promotion activities. For example, within our data mining services operations, we help telecommunications carriers to acquire 3G service subscribers, as well as sign up users for highly profitable mobile value added services, some of which were developed by us. Fees are charged to a subscriber's monthly bill. Telecommunications carriers typically charge a predetermined percentage of this fee and remit the remainder to the service provider like us. For advanced services, revenue sharing varies among products and services offered. 32 -------------------------------------------------------------------------------- Our software services include a broad range of data mining, business intelligence, billing, provisioning support, decision support, operations support and customer relationship management systems, primarily for China's leading telecommunications carriers, systems vendors and the State Grid Corporation of China. By leveraging our strong relationships with these customers and business partners, we have been effective at cross-selling our comprehensive high margin data mining and interactive marketing services, both directly and indirectly to a wide spectrum of customer base through these service providers, thereby also allows us to refresh, enhance and update our customer database for other opportunities. Our software and data mining products and services assist customers in improving operational efficiency and identifying new market opportunities, trends and target audiences. Once identified, we assist in the promotion and marketing of new product and service offerings directly to end-users on behalf of our customers through a combination of mobile value -added Services and interactive marketing campaigns through multi-media channels including mobile Internet marketing solutions. Our products and services are sold by our sales and marketing organization, as well as an established reseller network in China including Hong Kong SAR. Our reseller networks consist of systems integration houses and telecom carriers where Jingwei's products and services are sold as part of their systems solution package for their customers. We also contract other third parties as resellers to sell our software and mobile value added services. For software, we typically provide our resellers with a fixed cost and the resellers would sell the system with their own margins. For mobile value added services, we would pay a percentage from our revenue as commissions, which are typically between 10% and 15%. All other products and services are sold through our direct sales. Data mining services are sold on a project by project basis. In addition to one time fees, we share future revenue streams from consumer purchases, as a result of our marketing and promotion activities. Developments in 2010 2010 has been a trying year for Jingwei to achieve an aggressive growth target for the year following a period of slow to moderate growth in prior years. Although the year has been filled with challenges, we were able to keep the right focus and achieve strong growth momentum to finish the year with a 24% growth in revenue and 56% growth in net income; which was in line with the guidance we provided to the investment community at the end of 2009. During the year, the Company has achieved several significant milestones that are critical for the future growth of our business: ? Strategic Entry into Mobile Internet Marketing - Secured major contracts to be the vendor of choice to develop and deploy industry renowned "mobile application store" platforms for two of the three telecommunications carriers in China, with the first system deployed in Sichuan for China Telecom in the second quarter of 2010, and a pilot system deployed for China Unicom in Shanghai in the third quarter of 2010. With the deployment of these platforms, we are in discussion with several regional operators to help them operate the store under a revenue sharing model, similar to the model used with interactive marketing. To the operators, our value is to help them offer targeted service packaging, by getting the right applications to the right consumers at the right time; and we can also help the stores market their applications to targeted consumers to effectively increase the number of downloads for mutual benefits. ? Capitalized on the nation's 3-Network Convergence program and achieved leadership position in deployment of billing and OSS software solutions to support IPTV in 23 of the country's 31 provinces for China Telecom. And, building on our successes, we have also deployed similar products for telecom carriers in overseas countries including Africa, Middle East and Asia. This year, we expect the program for DTV rollout for cable operators will accelerate and that there will be continuing demand for our solutions in both the telecom and cable TV sectors in China as well as for countries outside China. ? Strategic win in data mining and interactive marketing sector - secured and signed framework agreement with Zhejiang China Unicom in the fourth quarter to partner with them to design, develop and operate an integrated platform to leverage Jingwei's core competences to support their mobile society channel and marketing initiatives to effectively and profitably support the greater than 80,000 channel depots in the province on "revenue sharing" basis. We expect a commercial launch of this service in the first quarter of 2011, followed by similar requirement from other provincial subsidiaries. 33-------------------------------------------------------------------------------- ? Merger and Acquisition to broaden our service portfolio and extend geographic coverage in data mining and mobile VAS - on November 9, 2010, the Company, through its wholly-owned subsidiary Xinguochuang, completed the acquisition of 100% equity interest of Haicom, a corporation registered in Shanghai, China that provides Internet and mobile value added service platforms to telecommunication carriers in more than ten provinces. This transaction is an important step in our effort to strengthen our 3G related mobile value-added service product portfolios, as well as expand business developments with a dozen strategically important regional subsidiaries of China Unicom and China Telecom. CRITICAL ACCOUNTING POLICIES, JUDGMENTS AND ESTIMATES We prepare our consolidated financial statements in accordance with generally accepted accounting principles in the United States. In doing so, we have to make estimates and assumptions that affect our reported amount of assets, liabilities, revenues and expenses, as well as related disclosure of contingent assets and liabilities. In some cases, changes in the accounting estimates are reasonably likely to occur from period to period. Accordingly, actual results could differ materially from our estimates. To the extent that there are material differences between these estimates and actual results, our financial condition or results of operations will be affected. We base our estimates on historical data and trends and other assumptions that we believe are reasonable under the circumstances, and we evaluate these estimates on an ongoing basis. Revenue Recognition The Company recognizes revenue when the amount of revenue can be reliably measured, it is probable that economic benefits will flow to the entity and specific criteria have been met for each of the Company's activities as described below. i. Software and system services Subject to these criteria and in accordance with ASC 985 Software Revenue Recognition, the Company generally recognizes revenue from software and system services when: a) a contract has been signed by the customers, b) the Company has delivered software and system services to the customers as defined by the customers receiving the work product, c) the project milestone delivered is assigned a fixed price pursuant to the percentage-of completion method of accounting, and d) evidence of customers' acceptance of milestone achievement. The Company's software and system services sale arrangements do not have multiple deliverables. As the software and system services typically takes more than three months to complete, the Company accounts for the timing and amount of revenue using the percentage-of-completion method based on proportion of work done. The percentage of work done is determined based on milestones agreed in the contract and percentage of total contract value due to be paid upon achievement of such milestones. The amount due after reaching certain milestones agreed in the contract generally reflects the progress of work at that point. ii. Data mining services Revenue from data mining services is recognized when the services are rendered. iii. Bundled mobile products In accordance with ASC 605-25, Revenue Recognition, the Company recognizes revenue, net of taxes, when persuasive evidence of a customer or distributor arrangement exists or acceptance occurs, receipt of goods by customer occurs, the price is fixed or determinable, and the sales revenues are considered collectible. 34 -------------------------------------------------------------------------------- The Company followed Emerging Issues Task Force ("EITF") No. 99-19, "Reporting Revenue as a Principal versus Net as an Agent". Under the guidance of this EITF, the assessment of whether revenue should be reported gross with separate display of cost of sales to arrive at gross profit should be based on the following considerations: the Company acts as principal in the transaction, takes titles to the products and has risk and rewards of ownership (such as the risk of loss for collection, delivery or return). During the years ended December 31, 2010 and 2009, the Company has recognized a large amount sales order of handsets with customized mobile VAS software built-in on a gross basis, as the Company acts as the primary obligor in the arrangement, has latitude in establishing price and physically changes products in most cases, the Company recognized all revenue from these sales of bundled mobile product on a gross basis, based on EITF No.99-19. The sale of bundled mobile product is classified as data mining service for the years ended December 31, 2010 and 2009. Allowance for Doubtful Accounts Significant management judgment is required to estimate our allowance for doubtful accounts in any accounting period. The Company establishes an allowance for doubtful accounts based on management's assessment of the collectability of trade and other receivables. The Company makes judgments about the creditworthiness of each customer based on ongoing credit evaluations, and monitors current economic trends that might impact the level of credit losses in the future. If the financial condition of the customers is to deteriorate resulting in their inability to make payments, a larger allowance may be required. Based on the above assessment, the Company established the general provisioning policy to make the allowance for doubtful accounts according to the aging of trade and other receivables as follows: Trade and other receivables due: Within one year 0.3 % After one year but within two years 5.0 % After two years but within three years 20.0 % Over three years 100.0 % Additional specific provisions are made against trade and other receivables aged for more than one year to the extent which they are considered to be doubtful. Bad debts are written off when identified. The Company does not accrue interest on trade and other receivables. Foreign Currency The consolidated financial statements have been prepared in accordance with US GAAP. The functional currency of the operating subsidiaries in PRC is the Chinese Yuan Renminbi ("RMB"). However, the reporting currency is the United States dollar ("USD"). Assets and liabilities of these companies have been translated into dollars using the exchange rate at the balance sheet date. Income and expense items are translated at average rate for the year. Translation adjustments are reported separately and accumulated in a separate component of equity (accumulated other comprehensive income). The exchange rates adopted are as follows: 2010 2009 Year end RMB exchange rate 6.61 6.84 Average yearly RMB exchange rate 6.78 6.84 No representation is made that the RMB amounts could have been, or could be, converted into U.S. dollars at the rates used in translation There is no significant fluctuation in exchange rate for the conversion of RMB to U.S. dollars after the balance sheet date. 35 --------------------------------------------------------------------------------Stock-Based Compensation The Company adopted ASC 718 Stock Compensation, effective on January 1, 2006. We recognize the cost resulting from all share-based payment transactions in our financial statements using a fair-value-based method. We measure compensation cost for all outstanding unvested stock-based awards made to our employees and directors based on estimated fair values and recognize compensation over the service period for awards expected to vest. The estimated fair value of stock options and stock purchase rights granted pursuant to our employee stock purchase plan is determined using the Black-Scholes valuation model. The Black-Scholes valuation model requires us to make certain assumptions about the future. Estimation of these equity instruments' fair value is affected by our stock price, as well as assumptions regarding subjective and complex variables such as employee exercise behavior and our expected stock price volatility over the term of the award. Generally, our assumptions are based on historical information and judgment is required to determine if historical trends may be indicators of future outcomes. Where such historical information is not available, we applied the "Simplified Method" in accordance with ASC 718-10-S99-1 in valuation of all our options, which are granted at-the-money, nontransferable and nonhedgeable, and vest based upon a service condition alone. For stock options and common stock warrants issued to non-employees, they are measured as of the date required by ASC 505-50 Equity-Based Payments to Non-Employees. Goodwill The excess of the purchase price over the fair value of net assets acquired is recorded on the consolidated balance sheets as goodwill. Goodwill is not amortized but is tested for impairment annually or more frequently if events or changes in circumstances indicate that it might be impaired. Goodwill is tested following a two-step process. The first step compares the fair value of each reporting unit to its carrying amount, including goodwill. If the fair value of each reporting unit exceeds its carrying amount, goodwill is not considered to be impaired and the second step will not be required. If the carrying amount of a reporting unit exceeds its fair value, the second step compares the implied fair value of goodwill to the carrying value of a reporting unit's goodwill. The implied fair value of goodwill is determined in a manner similar to accounting for a business combination with the allocation of the assessed fair value determined in the first step to the assets and liabilities of the reporting unit. The excess of the fair value of the reporting unit over the amounts assigned to the assets and liabilities is the implied fair value of goodwill. An impairment loss is recognized for any excess in the carrying value of goodwill over the implied fair value of goodwill. We recognized no impairment loss on goodwill in 2010. Recently enacted accounting standards The Financial Accounting Standards Board ("FASB") issued ASU 2010-13, Compensation-Stock Compensation (ACS Topic 718): Effect of Denominating the Exercise Price of a Share-Based Payment Award in the Currency of the Market in Which the Underlying Equity Security Trades. The ASU codifies the consensus reached in Emerging Issues Task Force (EITF) Issue No. 09-J. The amendments to the Codification clarify that an employee share-based payment award with an exercise price denominated in the currency of a market in which a substantial portion of the entity's equity shares trades should not be considered to contain a condition that is not a market performance, or service condition. Therefore, an entity would not classify such an award as a liability if it otherwise qualifies as equity. The amendments in the ASU are effective for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2010. Earlier adoption is permitted. The amendments are to be applied by recording a cumulative-effect adjustment to beginning retained earnings. The Company is currently evaluating the impact of adopting this update on its consolidated financial statements. The FASB has issued ASU 2009-17, Consolidations (Topic 810) - Improvements to Financial Reporting by Enterprises Involved with Variable Interest Entities. ASU 2009-17 changes how a reporting entity determines when an entity that is insufficiently capitalized or is not controlled through voting (or similar rights) should be consolidated. This determination is based on, among other things, the other entity's purpose and design and the Company's ability to direct the activities of the other entity that most significantly impact the other entity's economic performance. ASU 2009-17 also required additional disclosures concerning an enterprise's continuing involvement with VIEs. ASU 2009-17 is effective at the start of the Company's first fiscal year beginning after November 15, 2009. The adoption had no effect on the Company's financial position, results of operations, or cash flows. In January 2010, the FASB has issued ASU No. 2010-06, Fair Value Measurements and Disclosures (Topic 820): Improving Disclosures about Fair Value Measurements. This ASU requires some new disclosures and clarifies some existing disclosure requirements about fair value measurement as set forth in Codification Subtopic 820-10. ASU 2010-06 amends Codification Subtopic 820-10 and now requires a reporting entity to use judgment in determining the appropriate classes of assets and liabilities and to provide disclosures about the valuation techniques and inputs used to measure fair value for both recurring and nonrecurring fair value measurements. ASU 2010-06 is effective for interim and annual reporting periods beginning after December 15, 2009. As this standard relates specifically to disclosures, the adoption will not have any impact on the Company's consolidated financial position and results of operations. In February 2010, the FASB issued ASU 2010-09, "Subsequent Events (Topic 855) - Amendments to Certain Recognition and Disclosure Requirements." ASU 2010-09 requires an entity that is an SEC filer to evaluate subsequent events through the date that the financial statements are issued and removes the requirement that an SEC filer disclose the date through which subsequent events have been evaluated. ASC 2010-09 was effective upon issuance. The adoption of this standard had no effect on the Company's consolidated financial position or results of operations. In December 2010, FASB issued revised guidance on "When to Perform Step 2 of the Goodwill Impairment Test for Reporting Units with Zero or Negative Carrying Amounts." The revised guidance specifies that an entity with reporting units that have carrying amounts that are zero or negative is required to assess whether it is more likely than not that the reporting units' goodwill is impaired. If the entity determines that it is more likely than not that the goodwill of one or more of its reporting units is impaired, the entity should perform Step 2 of the goodwill impairment test for those reporting unit(s). Any resulting goodwill impairment should be recorded as a cumulative-effect adjustment to beginning retained earnings in the period of adoption. Any goodwill impairments occurring after the initial adoption of the revised guidance should be included in earnings as required by Section 350-20-35. The revised guidance is effective for fiscal years, and interim periods within those years, beginning after December 15, 2010. Early adoption is not permitted. The Company is currently evaluating the impact on its consolidated financial statements of adopting this guidance. In December 2010, FASB issued revised guidance on the "Disclosure of Supplementary Pro Form Information for Business Combinations." The revised guidance specifies that if a public entity presents comparative financial statements, the entity should disclose revenue and earnings of the combined entity as though the business combination(s) that occurred during the current year had occurred as of the beginning of the comparable prior annual reporting period only. The revised guidance also expands the supplemental pro forma disclosures to include a description of the nature and amount of material, nonrecurring pro forma adjustments directly attributable to the business combination included in the reported pro forma revenue and earnings. The revised guidance is effective prospectively for business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2010. The Company has not early adopted the new guidance and is currently evaluating the impact on its consolidated financial statements of adopting this guidance. In 2010, except for the above ASUs, FASB issued several ASUs - ASU 2010-1 through ASU 2010-29, which are not expected to have a material impact on the consolidated financial statements upon adoption. 36 -------------------------------------------------------------------------------- RESULTS OF OPERATIONS Net Revenues Years Ended December 31 2010 2009 (In thounsands, except percentage) % of % of Net Net % of Change Net Revenues Revenue Revenue YOY Data mining 17,904 48 % 19,452 64 % -8 % Software 19,737 52 % 10,807 36 % 83 % Total Net Revenues 37,641 100 % 30,259 100 % 24 % Our total net revenue increased 24% year over year to $37.6 million in 2010 from $30.3 million in 2009, primarily driven by continuous robust demand for our software and system integration solutions in the telecommunications and power sectors, which increased 83% to $19.8 million in 2010, from $10.8 million in 2009. Revenues from data mining, on the other hand, decreased 8% to $17.9 million in 2010, from $19.5 million in 2009, primarily due to the prolonged delay in signing two major contracts with provincial subsidiaries of China Unicom, to provide value-added data mining and interactive marketing services to support their regional society channel program and their regional mobile application stores. Cost of Sales Years Ended December 31 2010 2009 (In thousands, except percentage) % of % of Cost of Cost of % of Change Cost of Sales sales sales YOY Data mining 10,561 54 % 12,494 66 % -15 % Software 8,916 46 % 6,504 34 % 37 % Total 19,477 100 % 18,998 100 % 3 % Our total cost of sales increased 3% to $19.5 million in 2010 from $19.0 million in 2009, primarily driven by surge in demand for our software and system integration solutions, and amortization of acquired intangible assets related to Newway acquisition, offset by improvement in product mixes such as high-margin off-the-shelf software products. The cost of sales from data mining decreased to $10.6 million in 2010 from $12.5 million in 2009, which was in line with the 8% decline in sales from 2009. 37-------------------------------------------------------------------------------- Gross profit margin Years Ended December 31 2010 2009 Gross profit margins: Data Mining 41 % 36 % Software Services 55 % 40 % Overall 48 % 37 % Our overall gross profit margin was 48% in 2010, up 11% as compared to 37% in 2009. The margin improvement was mainly due to the increase in software sales, as the Company continued to deploy off-the-shelf software products to meet new demands from the 3-Network Convergence project and from incremental sales to selected overseas countries through our strategic partner. Operating Expenses Years Ended December 31 2010 2009 (In thousands, except percentage) % of % of Net Net % of Change Operating Expenses Revenue Revenue YOY Selling, general and admin expenses 6,673 18 % 3,859 13 % 73 % Research and development 2,415 6 % 1,155 4 % 109 % Total 9,088 24 % 5,014 17 % 81 % Our total operating expenses increased 81% to $9.1 million in 2010 from $5.0 million in 2009, primarily driven by our efforts in sales and marketing to open new interactive marketing opportunities with 3G service rollout, and continuous investment in research and development. Selling, general and administrative expenses increase 73% to $6.7 million in 2010 from $3.9 million from 2009. The increase mainly consisted of a $0.6 million increase in salary and benefits, a $0.3 million increase in share-based compensation, a $0.2 million increase in travel and lodging, and a $1.2 million increase in amortization of acquired intangible assets. Research and development expenses increased 109% to $2.4 million in 2010 from $1.2 million in 2009, mainly reflecting the emphasis we place on the research and development of products and solutions in order to strengthen our competitiveness, including a $1.0 million increase in amortization of acquired intangible assets. Income tax expense Based on our current operating structure and preferential tax treatments available to us in China, for the year ended December 31, 2010, the Company recognized an income tax expense of $0.1 million representing an effective income tax rate of 1.3%, as compared to an income tax expense of $1.1 million representing an effective income tax rate of 15.9% in 2009. The low effective tax rate in current year is attributed to two factors: 1. In June 2010, Xinguochuang reversed its estimated enterprise income tax of $0.4 million recorded in 2009, upon the approval of Xinguochuang's application for tax holiday. 2. To make the best use of Xinguochuang's preferential tax status in the next few years, the Company started to shift a significant portion of business operations from New Yulong Software and other affiliates to Xinguochuang, resulting in a tax saving of $1.9 million in 2010. If tax benefits currently available to us in China were no longer available, our effective income tax rates for our operations could continue to rise in 2011 and thereafter. 38 --------------------------------------------------------------------------------LIQUIDITY AND CAPITAL RESOURCES As of December 31, 2010 2009 (In thousands) Cash and cash equivalents 7,519 10,239 Working capital 43,737 31,968 Shareholder's equity 59,347 44,260 Our capital requirements are primarily working capital requirements related to hardware sales in system integration and bundled mobile solution, as well as costs associated with the expansion of our business, such as research and development and sales and marketing expenses. We recognize hardware costs in full upon delivery of the hardware to our customers. We typically place orders for hardware against back-to-back orders from customers and seek favorable payment terms from hardware vendors. However, we sometimes obtain less favorable payment terms from our customers, thereby increasing our working capital requirements. We have also historically financed working capital and other financing requirements through private placements of equity securities in 2007. As of December 31, 2010, we had $7.5 million in cash and cash equivalents to meet the future requirements of our operating activities. We believe that our existing cash and cash equivalents will be sufficient to fund our operating activities, capital expenditures and other obligations for at least the next twelve months. The following table provides detailed information about our net cash flow for the year ended December 31, 2010. Years Ended December 31, 2010 2009 (in thousands)Net cash flows provided by operating activities $ 778 $ 8,813 Net cash flows used in investing activities (4,922 ) (4,078 ) Net cash flows used in financing activities (93 ) (190 ) Effect of exchange rate changes on cash and cash equivalents 1,517 222 Net cash inflow (2,720 ) 4,767 Operating activities Net cash provided by operating activities for the year ended December 31, 2010 was $0.8 million, primarily driven by our strong net income of $9.9 million in current year, offset by $10.9 million used in accounts receivable, and $2.6 million used in inventory. As compared to the net cash provided by operating activities in 2009, the increase of $5.7 million used in accounts receivable was in line with the rapid sales growth achieved in current year, especially in software services and system integration segment. 39 --------------------------------------------------------------------------------Investing activities For 2010, $4.9 million net cash used in investing activities was primarily attributable to $4.1 million used in the acquisition of 100% equity interest of Haicom, and $0.6 million used in purchasing property and equipments. For 2009, $4.1 million net cash used in investing activities was primarily attributable to $3.6 million used in acquiring intangible assets from Newway Technology and $0.4 million used in purchasing property and equipments. Financing activities Net cash used in financing activities for the year ended December 31, 2010 was $0.1 million, as compared to the net cash of $0.2 million used in financing activities in 2009. The net cash used in financing activities in 2010 was mainly to payoff of an interest bearing loan provided by a major shareholder in prior years. OFF-BALANCE SHEET ARRANGEMENTS We do not have any off-balance sheet arrangements. |