TDH Holdings, Inc. — FY2017 Form 20-F
Reporting period: Fiscal year ended December 31, 2017; this is an annual report, not a standalone fourth-quarter filing. TDH develops, manufactures and sells pet food and treats, primarily through overseas wholesale and e-commerce channels. Its operating business is based in China. Financial statements are audited under U.S. GAAP.
Financial results and liquidity
| Metric (US$ unless stated) | FY2017 | FY2016 |
|---|---|---|
| Total revenue | $28.98 million | $24.44 million |
| Gross profit / gross margin | $8.30 million / 28.63% | $7.08 million / 28.95% |
| Operating income / operating margin | $267,305 / 0.92% | $1.15 million / 4.71% |
| Net income / diluted EPS | $115,111 / $0.01 | $1.01 million / $0.13 |
| Operating cash flow | $(2.67) million | $(1.49) million |
| Cash and cash equivalents, year-end | $2.35 million | $1.15 million |
| Current assets / current liabilities | $15.58 million / $8.66 million | $9.82 million / $8.97 million |
| Total liabilities / equity, year-end | $8.66 million / $11.15 million | $8.99 million / $4.25 million |
Revenue increased 18.56%, but net income fell about 89%. Selling, general and administrative expenses rose 43.95% to $6.98 million, exceeding revenue growth; management attributed the increase mainly to e-commerce promotion, commissions, shipping and handling, marketing payroll, IPO-related professional fees and higher management compensation. Cost of revenue rose 19.08%. Interest expense was $82,946; the company reported a $55,102 income tax benefit.
Cash from financing activities was $5.26 million, including $5.54 million of share-issuance proceeds and $827,730 collected on share subscriptions, partly offset by borrowing repayments. Investing activities used $1.39 million, including $533,242 in loans to related parties and $541,426 placed in restricted cash. Working capital was positive $6.92 million. Short-term loans were $1.40 million; notes payable were $1.38 million. Most cash was held in uninsured Chinese bank accounts and may not be readily deployable outside China.
Changes and operating performance
- Overseas sales were $21.19 million, domestic wholesale sales $2.09 million, and e-commerce revenue $5.73 million. E-commerce revenue grew 28.52% and represented about 19.8% of total revenue.
- Dried pet snacks revenue rose 32.55% and wet canned food rose 57.55%; pet chews revenue declined 6.81%. Sales growth was mainly volume-driven; management said selling prices remained stable.
- Gross margin was broadly stable year over year, but the operating margin contracted substantially as operating expenses grew faster than revenue.
- The September 2017 IPO raised approximately $5.54 million net; $500,000 was placed in a two-year indemnification escrow. Shares began trading on Nasdaq in September 2017.
Outlook, risks and unusual items
Management expected e-commerce to be a principal source of growth in 2018 and stated that demand appeared to be strengthening. It believed cash from operations, credit facilities and offering proceeds would fund working capital and planned improvements for at least 12 months, while cautioning that financing availability and access to proceeds were not assured. No quantified earnings or revenue guidance was provided.
- Operating cash flow remained negative, mainly reflecting inventory growth of $2.66 million and higher receivables; inventory increased 52.94% to $9.14 million.
- Customer and channel exposure is significant: the ten largest retail partners accounted for 56% of 2017 net sales. The business also relies on suppliers, contract manufacturers and a single raw-material procurement center.
- Related-party matters include $506,495 of sales to Qingdao Like, $361,961 due from related parties, loans to related parties during the year, and unsecured, interest-free related-party amounts payable on demand. The CEO’s family owns or is associated with certain suppliers and leased properties. The filing says certain earlier related-party loans, described as lacking business purpose, were repaid in full by December 31, 2016.
- The company estimated underpaid PRC Housing Provident Fund contributions for some employees would not exceed $104,000; it had received no demand or order as of the filing date. The CEO and his spouse provided an indemnity to relevant subsidiaries for resulting losses and penalties.
- The company ceased leasing its Canning facility in March 2018 and described preparations to maintain capacity through other facilities, outsourcing and possible joint ventures. The timing and possible compensation associated with proposed local redevelopment were uncertain.
- Other disclosed risks include product safety and recalls, raw-material price and supply volatility, competition and promotional pressure, foreign-exchange and remittance restrictions, PRC regulatory uncertainty, and the possibility of losing Tiandihui’s 15% high-tech tax preference after 2018. The filing reported no material legal proceedings and no debt defaults.
- Management stated disclosure controls and internal control over financial reporting were effective at year-end. The auditor gave an unqualified opinion on the financial statements but was not engaged to audit internal control effectiveness.
Important facts for investors to verify
- Whether e-commerce growth can translate into improved operating margins and positive operating cash flow, given the FY2017 expense growth and working-capital use.
- Inventory quality and turnover, receivable collection and customer concentration; accounts receivable rose 123% and no allowance was reported at year-end.
- Use, recoverability and approval of related-party balances and transactions, including amounts collected by related parties on the company’s behalf and loans made to related parties.
- How production capacity and costs changed after the Canning facility lease ended, and whether replacement capacity or planned outsourcing and joint ventures were secured.
- Access to cash held in China, refinancing of short-term borrowing, and the effect of restrictions on cross-border currency transfers.