SEED

Business Context and Reporting Period

Company: Origin Agritech Limited (BVI-incorporated, operations primarily in China via PRC Operating Companies).
Reporting Period: Fiscal year ended September 30, 2009.
Business Overview: A leading technology-focused crop seed company in China specializing in the R&D, production, and distribution of corn, rice, cotton, and canola seeds. The company operates through a mix of proprietary and licensed hybrid seeds, with a strategic shift toward genetically modified (GM) products. In November 2009, the company received approval for the commercial use of the world's first GM phytase corn in China.

Key Financial Metrics (Fiscal Year 2009)

Note: US$ amounts are translated at the period-end rate of RMB 6.829 to US$1.00.

Material Changes vs. Prior Period (FY 2008)

• Revenue Growth: Net revenues increased 15.38% to RMB 592.49 million from RMB 513.49 million in FY 2008, driven by improved industry conditions and normalized market prices.
• Profitability Improvement: The company returned to operating profitability with RMB 45.70 million in operating income, compared to an operating loss of RMB 42.38 million in FY 2008. This was largely due to a significant reduction in inventory write-downs (RMB 7.40 million in 2009 vs. RMB 18.01 million in 2008) and reduced scrap seed sales.
• Product Mix Shift: Revenue from internally developed proprietary seeds increased to 41.78% of total seed revenue (up from 31.21% in 2008), while reliance on licensed seeds decreased to 58.22%.
• Debt Reduction: Short-term borrowings decreased by approximately 51% to RMB 80.29 million from RMB 163.94 million in FY 2008.
• One-Time Charges: The reported net loss for FY 2009 was significantly impacted by a one-time loss of RMB 51.10 million (US$ 7.48 million) related to the repurchase of convertible notes. Excluding this charge, the company reported an adjusted net income of approximately RMB 10.3 million.

Guidance, Outlook, and Risks

Outlook and Management Commentary: Management views FY 2009 as a recovery year, marking the second consecutive year of improvement in revenues and earnings. The company expects continued growth driven by the normalization of the seed industry, the commercialization of GM products (specifically phytase corn), and an increasing mix of proprietary seeds. The company plans to continue investing in R&D to maintain its competitive position in biotechnology.

Key Risks and Contingencies:

• Regulatory and GM Approval: Future growth depends heavily on government approvals for GM seeds in China. Delays or rejections could hinder the commercialization of the company's biotech pipeline.
• Seasonality and Liquidity: The business is highly seasonal, with cash flow deficits often occurring in the third calendar quarter. The company relies on short-term bridge loans to manage working capital needs during these periods.
• Inventory Risk: Overproduction or aged inventory can lead to significant write-downs or forced sales at reduced prices (scrap sales), impacting margins.
• Foreign Ownership Structure: The company operates in China through Variable Interest Entities (VIEs) via stock consignment agreements due to foreign ownership restrictions. There is a risk that PRC courts may not enforce these agreements, potentially affecting control over operating subsidiaries.
• Contingent Tax Liabilities: The company identified potential contingent tax liabilities ranging from RMB 39.06 million to RMB 64.22 million arising from a 2005 reverse merger transaction. A fresh review of this position is underway.

Investor Verification Checklist

• Adjusted Earnings: Verify the company's adjusted net income (excluding the RMB 51.10 million note repurchase loss) to assess core operational profitability.
• Convertible Note Status: Confirm the full repayment status of the remaining convertible notes (US$ 16.6 million principal) which were scheduled for repurchase by December 31, 2009.
• GM Product Commercialization: Monitor the actual sales volume and market acceptance of the newly approved GM phytase corn product.
• Inventory Valuation: Review the adequacy of inventory reserves given the historical volatility in seed pricing and the risk of aged inventory.
• VIE Enforcement: Assess the legal enforceability of the stock consignment agreements controlling the PRC operating subsidiaries under current PRC law.
• Tax Contingency: Track the outcome of the ongoing review regarding the contingent tax liabilities from the 2005 transaction.