GD Culture Group Ltd quarterly report, Q3 FY2018

GD Culture Group Ltd. — Form 10-Q Summary

Filing identity: The provided filing is for TMSR Holding Company Limited, not GD Culture Group Ltd. It covers the quarter and nine months ended September 30, 2018, and was filed November 14, 2018. The financial statements are unaudited and prepared under U.S. GAAP.

Business Context and Reporting Period

TMSR operated primarily in China through businesses focused on industrial solid-waste recycling systems, equipment and industrial-waste materials trading. Following the May 1, 2018 acquisition of Wuhan HOST, the company added coating-materials research, production and sales. TMSR completed its reverse merger with China Sunlong in February 2018, reincorporated from Delaware to Nevada in June 2018, and effected a two-for-one stock split.

Common shares outstanding as of November 14, 2018: 23,789,255.
TJComex BVI was disposed of on April 2, 2018 for no consideration; management said it represented less than 1% of revenue and was not reported as discontinued operations.

Financial Performance and Position

Metric	Three months ended September 30, 2018	Three months ended September 30, 2017	Nine months ended September 30, 2018	Nine months ended September 30, 2017
Revenue	$3.1 million	$13.5 million	$19.9 million	$38.3 million
Gross profit	$1.0 million	$6.1 million	$3.8 million	$19.3 million
Gross margin	33.4%	44.9%	19.2%	50.2%
Operating income	$0.3 million	$2.7 million	$3.8 million	$15.2 million
Operating margin	10.3%	19.6%	19.3%	39.8%
Net income	$0.2 million	$2.1 million	$3.0 million	$12.6 million
Basic and diluted EPS	$0.01	$0.12	$0.13	$0.71

Equipment and systems revenue declined 90.1% in the third quarter and 16.2% for the nine-month period.
Trading and other revenue declined 87.8% in the third quarter and 90.7% for the nine-month period.
Coating-material revenue contributed $1.5 million in the third quarter and $2.7 million for the nine-month period following the Wuhan HOST acquisition.
Cash and cash equivalents were $889,244 at September 30, 2018, versus $461,883 at December 31, 2017.
Total assets were $68.0 million, including $32.0 million of vendor prepayments, $12.2 million of net accounts receivable, $5.6 million of inventory, $7.0 million of goodwill and $6.1 million of net plant and equipment.
Total liabilities were $28.0 million, including $2.2 million of bank debt, $0.3 million of third-party loans, $4.8 million of related-party payables and $16.6 million of taxes payable.
Shareholders’ equity was $40.0 million, compared with $27.2 million at December 31, 2017.
Net working capital was approximately $23.7 million.

Cash Flow, Debt and Liquidity

Cash used in operating activities was $1.9 million for the nine months ended September 30, 2018, compared with $0.1 million provided in the prior-year period.
Operating cash flow was pressured primarily by approximately $13.8 million of additional vendor prepayments, notes and accounts receivable changes, and reductions in customer deposits.
Investing activities provided $1.7 million, including approximately $8.0 million received through the reverse capitalization and approximately $6.2 million paid for Wuhan HOST, net of acquired cash.
Financing activities provided $0.7 million. The company issued approximately $133,000 of common stock, borrowed and repaid approximately $2.3 million under a short-term bank loan, and received related-party and third-party funding.
The principal bank loan was $2.2 million, bore a weighted average rate of 7.35%, matured July 25, 2019, and was guaranteed by a related party and secured by its patent.
A $144,887 unsecured third-party loan bore 10% annual interest and was extended to October 27, 2018.
Management stated that existing cash and operating cash flows were expected to meet anticipated needs for at least the following 12 months, while acknowledging possible future needs for debt or equity financing.

Material Changes Versus the Prior Comparable Period

Revenue fell 77.3% in the third quarter and 48.1% for the nine-month period, primarily because of substantially lower equipment acceptance and industrial-waste trading volumes.
Management attributed delayed equipment acceptance in the third quarter partly to severe storms and flooding affecting customer sites.
Industrial-waste trading volume fell to approximately 900 tons in the third quarter from 7,500 tons, and to approximately 1,700 tons for the nine-month period from 17,060 tons. Management cited environmental inspections that temporarily closed supplier and customer enterprises.
Gross margin declined because of a greater mix of lower-margin recycling systems, lower-margin traded materials and coating materials. Coating-material gross margin was approximately 24.3% in the third quarter and 30.7% for the nine-month period.
Nine-month SG&A increased 111.2% to approximately $2.3 million, primarily from professional, audit, legal and public-company costs related to the reverse merger and Wuhan HOST acquisition.
A $2.4 million recovery of doubtful-account provisions was recorded for the nine months, compared with a $2.9 million provision in the prior-year period.
Foreign currency translation produced a $2.6 million reduction in comprehensive income for the nine months, compared with a $1.1 million increase in the prior-year period.

Outlook, Risks, Contingencies and Unusual Items

Management expects environmental regulation and PRC policies addressing industrial solid-waste discharge to influence demand, but acknowledges risks from slower Chinese economic growth, mining-industry conditions and regulatory changes.
Six outstanding equipment and systems contracts represented approximately $7.1 million of revenue expected to be completed within one year.
Customer and credit concentration is significant: two customers represented 65.3% of nine-month revenue and approximately 82.8% of receivables at September 30, 2018.
One supplier represented 67.9% of nine-month purchases, and three suppliers represented approximately 99.5% of vendor prepayments.
Accounts receivable are unsecured and carried an allowance for doubtful accounts of $4.1 million at September 30, 2018.
Approximately $28.9 million of the net assets of the PRC operating subsidiary were restricted from transfer because of PRC statutory reserve and foreign-exchange requirements.
The company reported that its disclosure controls and procedures were not effective as of September 30, 2018.
Goodwill of approximately $7.5 million arose from the Wuhan HOST acquisition and is subject to impairment testing. The filing states that the prior TJComex goodwill of approximately $3.8 million had been impaired in 2017.
Operating lease commitments totaled approximately $319,000 as of September 30, 2018. The filing states that ordinary-course legal proceedings were not expected to have a material adverse effect.
The company adopted ASC 606 in 2018 without a material retained-earnings adjustment; less than 5% of warranty-retainage revenue was recognized during the 2018 periods.

Most Important Facts for Investors to Verify

Confirm whether this TMSR filing is the intended filing for GD Culture Group Ltd.; the supplied document identifies a different registrant.
Verify the sustainability and collectability of the large vendor prepayments, concentrated receivables and related-party balances.
Assess whether equipment acceptance delays and environmental inspections were temporary or indicate continuing demand and execution problems.
Review the valuation, integration performance and impairment risk associated with the Wuhan HOST acquisition and its goodwill.
Investigate the disclosed ineffective disclosure controls and any remediation completed after September 30, 2018.
Confirm the status and repayment of the October 27, 2018 third-party loan and the terms of the related-party payables due on demand.
Evaluate the effect of PRC restrictions on repatriating cash and paying dividends to the parent company.