Wanwei was incorporated in January 1999. At the time Wanwei was incorporated, Material Supply Co. of Beijing Municipal Pharmaceutical Group Corporation, or MSC, held an 80% equity interest in Wanwei and Beijing Wei’erkang Pharmaceutical Information Consultation Co., Ltd., or Wei’erkang, held a 20% equity interest in Wanwei.
In August 2000, MSC transferred all of its equity interests in Wanwei to Wanhui Group. On December 14, 2004, Wei’erkang transferred all of its equity interests in Wanwei to Wen Xin. Wanhui Group and Wen Xin subsequently agreed to transfer their equity interests in Wanwei to us upon the completion of our acquisition of Wanwei. Wanwei’s term of business set forth in its current business license is 20 years from the date it received its business license, or January 1999 through January 2019.
On December 15, 2004, we entered into a share transfer and debt restructuring agreement with Wanhui Group, an 80% equity holder of Wanwei, and a share transfer agreement with Wen Xin, the holder of the remaining 20% equity interest in Wanwei. On October 18, 2005, we were notified by China’s Ministry of Commerce that our acquisition of Wanwei had been approved. On October 25, 2005, we received a business license from Beijing Municipal Administration for Industry and Commerce, permitting us to operate Wanwei and consolidate its financial operations. On December 6, 2005, we completed the acquisition of all of the outstanding equity interests of Wanwei from Wanhui Group and Wen Xin. As required under the share transfer and debt restructuring agreement with Wanhui Group, on December 15, 2004, we paid Wanhui Group RMB 2,400,000, or $290,328 as of that date and, on December 6, 2005, we paid Wanhui Group RMB 101,030, or $12,500 as of that date, which represented full payment of the remaining amount of the obligation, net of the estimated tax liability. If it is determined that Wanwei’s actual tax liability is lower that our estimate, we have agreed to pay Wanhui Group additional funds, equal to the reduction in the actual tax liability and, if it is determined that Wanwei’s actual tax liability is higher than our estimate, Wanhui Group has agreed to return the difference to us. At December 31, 2005 we have accrued $664,643 for the estimated liability. It is expected that the actual tax liability will be determined by the end of the second quarter of 2006.
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We have acquired the necessary pharmaceutical distribution permit and GSP certificate to enable us to operate as an authorized distributor of pharmaceutical products in China.
Wanwei Business
The major business activity of Wanwei is pharmaceutical product distribution, which includes the distribution of:
• western medicines;
| • | traditional Chinese medicines; | |||
| • | medical applications. |
Specifically, the business scope of Wanwei, as described its current business license, is the wholesale of western medicine preparations, prepared Chinese medicines, chemical feedstock medicines, bio-chemical medicines, medical appliances, material for packing, chemical products, health foods and biological products approved by the Ministry of Public Health; technical development and technical consultation of western medicine preparations, prepared Chinese medicines, chemical feedstock medicines, medical appliances and new materials for medicine packing.
Wanwei normally enters into a master agreement with pharmaceutical manufacturers at the beginning of each year. The master agreement provides the general terms and conditions for transactions in the ensuing year and estimated quarterly value of purchases. The parties to the master agreement enter into separate purchase and sale agreements each time Wanwei purchases products. As part of its wholesale selling, Wanwei actually takes title to the goods and books them as inventory. Wanwei will sell the medicines it purchases to hospitals, drug stores and other pharmaceutical wholesalers that have established wider distribution channels with respect to certain medicines.
Even though there is no restriction as to the distribution area of Wanwei, due to various reasons, including the preference of pharmaceutical manufacturers to engage local distributors for the manufacturers’ products and the regional protectionism, for the time being, Wanwei only acts as the agent in Beijing, on an exclusive or non-exclusive basis, for certain products of its suppliers. When acting as an agent on a non-exclusive basis, Wanwei commits to purchase a certain volume or monetary amount of products from the manufacturers. In addition, Wanwei has an import license permitting us to receive western products to be distributed in China.
Wanwei Product Portfolio
Patients purchasing medicines listed in the Insurance Catalogue are entitled to reimbursement of all or part of the cost of these medicines from the social medical fund. As a result, patients generally prefer to purchase medicines listed in the Insurance Catalogue rather than non-listed medicines. Approximately 48.5% and 39.5% of all the medicines distributed by Wanwei were listed in the Insurance Catalogue during the fiscal years ended December 31, 2005 and 2004, respectively, representing 57.5% and 65.9% of Wanwei’s total revenues.
In China, medicines also are divided into over-the-counter medicines and prescription medicines according to medicine type, specification, the relevant condition that they are designed to treat, dosage and method of administration. To better distribute medicines classified as over-the-counter medicines, which represented approximately 23.7% of Wanwei’s products in 2005, Wanwei typically engages other distributors that have distribution channels that accommodate the distribution of over-the-counter medicines, in addition to selling directly to drug stores.
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Wanwei currently distributes over 900 products to more than 300 customers, the following of which are the five highest revenue producers:
• Glurenorm. Glurenorm, manufactured by Beijing Shuanghe under a license from Boehringer Ingelheim, is an oral antidiabetic medication used to treat patients with adult maturity onset or non-insulin dependent diabetes. Wanwei began distributing this product in 2002 under a non-exclusive agreement covering Beijing. The contract is renewable annually on December 3 and is subject to minimum annual sales. Sales of Glurenorm amounted to 14.1% and 17.6% of Wanwei’s total sales for 2005 and 2004. • Xingnaojing Injection. Xingnaojing Injection, manufactured by Wuxi Shanhe Pharmaceutical Joint Stock Company, is a traditional Chinese medicine used to treat a variety of conditions.Wanwei began distributing this product in 1997 and has an exclusive distribution arrangement covering Beijing. The contract is renewed annually on December 31 and is subject to minimum annual sales. The manufacturer can terminate if Wanwei distributes a competing product. Sales of Xingnaojing Injection amounted to 12.7% and 14.8% of Wanwei’s total sales for 2005 and 2004. • Ferrous Succinate Tablets. Ferrous Succinate Tablets, manufactured by Jinling Pharmaceutical Joint Stock Company, are used to prevent and treat anemia due to lack of iron. Wanwei began distributing this product in 1997 under a non-exclusive distribution arrangement covering Beijing. The contract is renewed annually on December 31 and is not subject to minimum annual sales. Sales of Ferrous Succinate Tablets amounted to 6.2% and 4.9% of Wanwei’s total sales for 2005 and 2004. • Runsu Eye Drops. Runsu Eye Drops are manufactured by Shangdong Zhengda Pharmaceutical Company. Wanwei began distributing this product in 2001 under a non-exclusive distribution arrangement covering Beijing. The contract is renewed annually and is not subject to minimum annual sales. Sales of Runsu Eye Drops amounted to 5.3% and 1.1% of Wanwei’s total sales for 2005 and 2004. • Tramadol Hydrochloride. Tramadol Hydrochloride, manufactured by Huasheng Pharmaceutical Co. Ltd. of Shijiazhuang Pharmaceutical Group, is an analgesic used to treat acute and chronic pain. Wanwei began distributing this product in 2000 and has an exclusive distribution arrangement covering Beijing. The contract is renewed annually at December 31 and is subject to minimum annual sales. Sales of Tramadol Hydrochloride amounted to 2.4% and 2.7% of Wanwei’s total sales for 2005 and 2004.
Wanwei Employees
As of December 31, 2005, Wanwei had 84 full time employees, 29 of whom were management, finance or administrative employees, 30 of whom were sales and marketing employees, and 25 of which were warehouse employees.
Regulation of the Pharmaceutical Distribution Industry in China
The following discussion describes certain Chinese laws, rules and regulations. We believe that we are currently in material compliance with each of the laws, rules and regulations described below as they apply to us.
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Protocol on Accession of China into the World Trade Organization
China acceded to the World Trade Organization, or WTO, on December 11, 2001. According to Annex 9 of the Protocol, China allows foreign invested enterprises to distribute pharmaceutical products directly in China.
Regulation of Foreign Ownership of Pharmaceutical Distribution Companies in China
Under the Administrative Measures on the Foreign Investment in Commercial Sector adopted on April 16, 2004 and effective as of December 11, 2004, foreign enterprises were permitted to establish or invest in wholly foreign-owned enterprises or joint ventures that engage in wholesale or retail sales of pharmaceuticals in China and, therefore, BMP China was no longer restricted from engaging in pharmaceutical distribution. Previously, it only offered marketing and promotional services.
Regulatory Framework
The law of China on the Administration of Pharmaceuticals was promulgated on September 20, 1984 by the Executive Committee of the National People’s Congress and amended on February 28, 2001. The amendments came into effect on December 1, 2001. This law sets out the basic legal framework for the administration of the production and sale of pharmaceuticals in China and covers areas including the manufacture, distribution, packaging, pricing and advertising of pharmaceutical products in China. The Implementation Rules on the Administration of Pharmaceuticals were promulgated on August 4, 2002, and came into effect subsequently on September 15, 2002 to set out the detailed implementation rules with respect to the administration of pharmaceuticals in China.
The State Drug Administration, or SDA, was established in 1998 to assume the supervisory and administrative functions previously carried out by the Ministry of Health, the State Administration Bureau for Pharmaceuticals and the State Administration Bureau for Traditional Chinese Medicine. In March 2003, China’s SFDA was established to assume the functions previously carried out by the SDA. The primary responsibilities of the SFDA include:
• formulating, and supervising the implementation of, regulations and policies concerning drug administration; • promulgating standards for pharmaceutical products and medical appliances; • categorizing drugs and medical appliances for regulation purposes; • registering and approving new drugs, generic drugs, and imported and Chinese medicines; • granting approvals for the production of pharmaceutical products and medical appliances; and • approving the manufacture and distribution by companies of pharmaceutical products.
Permits and Licenses for Pharmaceutical Distribution Enterprises
Before any pharmaceutical distribution enterprise, including any wholesaler or retailer, can distribute pharmaceutical products in China, it must obtain a pharmaceutical distribution permit issued by the appropriate provincial or county level State Food and Drug Administration where the pharmaceutical distribution enterprise is located. The granting of a pharmaceutical distribution permit is subject to an inspection of the premises and facilities, warehouse, hygiene environment, quality control systems, personnel and equipment of such enterprise. The pharmaceutical distribution permit is valid for five years. Pharmaceutical distribution enterprises must apply for renewal of their pharmaceutical distribution permit no later than six months prior to the expiration date of the license with the appropriate governmental authority. Wanwei’s pharmaceutical distribution permit was renewed on March 31, 2005.
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In addition to the pharmaceutical distribution permit, pharmaceutical distribution enterprises also must obtain a business license from the appropriate administration bureau for industry and commerce to commence its business.
Good Supply Practice Standards
Good Supply Practice, or GSP, standards were established to regulate pharmaceutical wholesale and retail enterprises to ensure the quality of distribution of pharmaceutical products in China. The current applicable GSP standards, which were passed by the SDA, came into effect on July 1, 2000. Under these standards, wholesale and retail enterprises in China must implement strict control on the distribution of pharmaceutical products with respect to, among other things, staff qualifications, distribution premises, warehouse, inspection equipment and facilities, management and quality control in order to obtain a GSP certificate to carry out business in China. The SDA began accepting applications for GSP certification on March 1, 2002 and in accordance with the Notice on the Accelerating of GSP Certification Steps and Advancing the Supervision and Implementation Work of GSP, issued on October 15, 2001, the SDA required all pharmaceutical wholesale and retail enterprises to comply with GSP standards by December 31, 2004 and obtain GSP certification. The pharmaceutical distribution qualifications of pharmaceutical distribution enterprises that fail to obtain GSP certification may be revoked.
The GSP certificate is valid for five years, except that the certificate of a newly established pharmaceutical distribution enterprise is only valid for one year. Pharmaceutical distribution enterprises must apply for renewal of their GSP certificates no later than three months prior to the date of expiration of their GSP certificates, subject to reassessment by the appropriate Chinese governmental authority.
Wanwei obtained its GSP certificate on April 3, 2003 and its certificate remains valid until April 3, 2008.
Bidding System for Drug Purchases by Medical Organizations
In accordance with the Notice on Issuing Certain Regulations on the Trial Implementation of Centralized Tender Purchase of Drugs by Medical Organizations, promulgated on July 7, 2000, and the Notice on Further Improvement on the Implementation of Centralized Tender Purchase of Drugs by Medical Organizations promulgated on July 23, 2001, non-profit medical organizations established by county or higher level government in China are required to implement bidding processes for the purchase of pharmaceuticals. In principle, medical organizations are required to join together to organize bids to purchase pharmaceuticals in bulk volume. The bids are to be assessed by a committee formed by pharmaceutical experts who are recognized by the relevant authorities, with reference to, most importantly, drug quality, and other criteria, including price, service and quality of the drug manufacturers. For the same type of drugs, two or three products under different brands may be selected. Any reduction in drug purchase price by medical organizations as a result of competitive bidding by suppliers under the bidding system is intended to bring about a corresponding reduction in the retail price for the benefit of patients. As indicated in the above notice, it is intended that the implementation of such bid purchase system should be extended gradually and should cover, among other pharmaceuticals, those consumed in large volume and commonly used for clinical uses.
Several Provisions on Further Regulating the Centralized Tender Purchase of Drugs by Medical Organizations, promulgated on September 23, 2004, provides that pharmaceutical wholesalers must have the due authorization of the pharmaceutical manufacturers to participate in the bidding process. Pharmaceutical manufacturers can participate in the bidding process on their own, which, by eliminating the middle layer, reduces the bidding price.
Wanwei has been authorized by certain pharmaceutical manufacturers for which it currently distributes products to participate in the bidding events organized by various hospitals and other medical institutions in the area of Beijing. A successful bid by Wanwei will result in the distribution by Wanwei of the particular drug to the hospital or medical institution that organized the bidding event.
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Insurance Catalogue
Pursuant to the Decision of the State Council on the Establishment of the State Basic Medical Insurance System for Urban Employees and the Implementation Measures for the Administration of the Scope of Medical Insurance Coverage for Pharmaceuticals for Urban Employees, the Ministry of Labor and Social Security in China established the Insurance Catalogue. The Insurance Catalogue is divided into Parts A and B. The medicines included in Part A are designated by the Chinese governmental authorities for general application. Local governmental authorities may not adjust the content of medicines in Part A. Although the medicines included in Part B are designated by Chinese governmental authorities in the first instance, provincial level authorities may make limited changes to the medicines included in Part B, resulting in some regional variations in the medicines included in Part B from region to region.
Patients purchasing medicines included in Part A are entitled to reimbursement of the costs of such medicines from the social medical fund in accordance with relevant regulations in China. Patients purchasing medicines included in Part B are required to pay a predetermined proportion of the costs of such medicines.
The medicines included in the Insurance Catalogue are selected by the Chinese government authorities based on the factors including treatment requirements, frequency of use, effectiveness and price. Medicines included in the Insurance Catalogue are subject to price control by the Chinese government. The Insurance Catalogue is revised every two years. In connection with each revision, the relevant provincial drug authority collects proposals from relevant enterprises before organizing a comprehensive appraisal. The SFDA then makes the final decision on any revisions based on the preliminary opinion suggested by the provincial drug administration.
Approximately 39.5% and 48.5% of all the medicines distributed by Wanwei were listed in the Insurance Catalogue during the fiscal years ended December 31, 2005 and 2004, respectively, representing 57.5% and 65.9% of Wanwei’s total revenues.
Price Controls
Certain medicine products sold in China, primarily those included in the Insurance Catalogue and those whose production or trading will constitute monopolies, are subject to price control by the Chinese government. The maximum prices of such medicine products are published by the state and provincial administration authorities from time to time. The prices of other medicines that are not subject to price control are determined by the pharmaceutical manufacturers, subject, in certain cases, to providing notice to the provincial pricing authorities.
The upper limit of prices of medicines subject to price control are set by the pricing authorities to create a reasonable profit margin for pharmaceutical enterprises, after taking into account the type and quality of the products, their production costs, the prices of substitute products, and other similar factors.
Application for Registration of Imported Medicines
Application for the registration of imported medicines produced by foreign manufacturers is allowed only if these medicines have already been approved to be sold in the manufacturer’s home country, unless the relevant medicine is considered by the SFDA to be safe, effective and under high clinical demand. Imported medicines must also comply with the relevant requirements of the good manufacturing practice, or GMP, standards adopted by the manufacturer’s home country as well as those required in China. Revised GMP standards in China were passed by the SDA and came into effect on August 1, 1999. These GMP standards require manufacturing enterprises in China to implement strict controls on the production of medicines with respect to, among other things, staff qualifications, production premises and facilities, equipment, raw materials, hygiene environment, production management, quality control and procedures for dealing with customer complaints.
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The registration of imported medicines requires the support of clinical research and approval from the SFDA to conduct clinical research for the medicine that it proposes to import. After the completion of clinical research on the subject medicine, application may be made for approval to import the subject medicine by submitting, among other things, relevant clinical research information and drug samples to the SFDA. The drug examination laboratory appointed by the SFDA will examine the drug samples and report the results to the SFDA. The SFDA will then conduct a final assessment of the application to consider approving the registration of the subject medicine proposed to be imported. If the SFDA is satisfied with its final assessment of the application, the applicant will be granted a Certificate of Registration of Imported Medicine or a Certificate of Registration of Pharmaceutical Product where the applicant is a pharmaceutical manufacturer in Hong Kong, Macau or Taiwan.
BMP China has provided its clients with services related to the registration of medicines for use within China in accordance with Chinese law.
Employees
Substantially all of our employees are located in China. As of December 31, 2005, we had 80 full time employees, 18 of whom were management, finance or administrative employees, and 62 of whom were sales and marketing employees. We have not experienced any strikes or other labor disturbances that have interfered with our operations, and we believe that the relationship between our management and our employees is good.
BMP China is required to contribute a portion of its employees’ total salaries to the Chinese government’s social insurance funds, including medical insurance, unemployment insurance and job injuries insurance, and a housing assistance fund, in accordance with relevant regulations. In the last three years, BMP China contributed the following amounts to these funds:
| Year | Contribution in US Dollars* | Contribution in RMB | ||
| 2005 | $43,330 | RMB 348,303 | ||
| 2004 | $23,074 | RMB 185,478 | ||
| 2003 | $19,902 | RMB 159,981 |
* Based on exchange rates in effect at March 1, 2006.
We expect the amount of BMP China’s contribution to the government’s social insurance funds to increase in the future as we expand our workforce and operations.
Executive Officers
The following table identifies our current executive officers:
| Name | Age | Position | |||||
| David Gao | 55 | President, Chief Executive Officer and Director | |||||
| Fred M. Powell | 44 | Chief Financial Officer |
David (Xiaoying) Gao has served as our President and Chief Executive Officer since February 2004. Since February 2002, Mr. Gao has served as Chairman of BMP China’s board of directors. Mr. Gao served as President and director of Abacus Investments, Ltd., a private wealth management company, from August 2003 until June 2004, and as Chief Executive Officer of Abacus from July 2003 to June 2004. From 1989 to 2002, Mr. Gao held various positions at Motorola, Inc., a publicly-traded company specializing in wireless, broadband and automotive communications technologies and embedded electronic products, including: Vice President and Director, Integrated Electronic System Sector, Asia-Pacific operation, from 1998 to 2002; Member, Motorola Asia Pacific Management Board, Management Board of Motorola Japan Ltd., from 2000 to 2002; and Motorola China Management Board from 1996 to 2002. Mr. Gao holds a BSC in Mechanical Engineering from the Beijing Institute of Technology, a BSC in Mechanical Engineering from Hanover University, Germany, and an M.B.A. from The Massachusetts Institute of Technology.
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Fred M. Powell, CPA, joined us as our Chief Financial Officer in January 2005. From May 2002 until December 2004, Mr. Powell served as the Chief Financial Officer of Eximias Pharmaceutical Corporation, a privately-held biopharmaceutical company. From April 1999 to May 2002, Mr. Powell served as the Senior Vice President, Finance and Administration, of InnaPhase Corporation, a technology solutions provider for life sciences companies that was acquired by Thermo-Electron Corporation in 2004. From March 1993 to April 1999, Mr. Powell held various positions at Premier Research Worldwide, a publicly-traded company specializing in providing clinical and diagnostic services to the pharmaceutical and biotech industries, including: Director of Finance and Administration, from 1993 to 1996, and Chief Financial Officer, from 1996 to 1999.
ITEM 1A. RISK FACTORS
You should carefully consider the risks described below, in addition to the other information contained in this report, before making an investment decision. Our business, financial condition or results of operations could be harmed by any of these risks. The risks and uncertainties described below are not the only ones we face. Additional risks not presently known to us or other factors not perceived by us to present significant risks to our business at this time also may impair our business operations.
Risks Relating to Our Business
We have a history of operating losses and anticipate that we will continue to incur losses for the foreseeable future.
We are an early stage company with a limited operating history. Since our inception, we have incurred significant operating losses. As of December 31, 2005, we had an accumulated deficit of approximately $9.1 million. We expect to continue to incur significant and increasing operating expenses and capital expenditures, including operating expenses relating to attracting and retaining a larger employee workforce and capital expenditures associated with integrating the Wanwei business into our existing operations. In the next 24 months, our capital requirements are likely to increase, particularly as we pursue internal growth, add personnel, fund inventory purchases and support increased levels of accounts receivables prior to receiving collections from our customers. The total cost of internal growth may require up to $5.0 million over the next 24 months. In addition, we expect that fixed assets and capital expenditures may require up to $2.0 million in the next 12 months. Development costs and milestone payments, which may be part of product licensing agreements, may also require us to expend up to $6.0 million during the next 12 to 18 months. An additional $1.5 million may be expended to perform market and clinical research prior to being able to sell newly licensed products. We expect to continue to pursue strategic acquisitions in the near term, which may require an additional $3.0 million for distributor acquisitions over the next 24 months. This estimate is based upon our ongoing review of potential acquisition candidates, including Rongheng, and our experience with Wanwei. We also expect to expend additional funds to maintain our status as a reporting company under the Exchange Act and to periodically update the information in the registration statement of which this prospectus forms a part. Our future capital requirements will depend on many factors, such as the risk factors described in this section, including our ability to maintain our existing cost structure and return on sales and to execute our business and strategic plans as currently conceived.
As a result, we will need to generate significant revenues to achieve profitability. Even if we achieve profitability, we may be unable to maintain or increase profitability on a quarterly or annual basis. If we are unable to achieve and then maintain profitability, the market value of our common stock may decline.
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We may be unable to acquire, or may be delayed in acquiring, Rongheng.
On August 31, 2005, we entered into a non-binding letter of intent with Orient International and Shanghai CAS to purchase a majority interest in Rongheng. The parties are in the process of preparing definitive documents relating to the proposed acquisition. Under Chinese law, a proposed sale of state-owned assets, such as the proposed sale of Rongheng, must be posted on a regional property exchange, whereupon the assets are sold to the highest qualified bidder. We expect the proposed sale of Rongheng to be posted on the Shanghai United Assets and Equity Exchange, or the Shanghai Exchange. If we are the successful bidder, we expect to enter into definitive agreements relating to the proposed acquisition of Rongheng by the end of the second quarter of 2006. There can be no assurance that, if the proposed acquisition is posted to the Shanghai Exchange, we will be the successful bidder, or that we will not encounter delays in entering into, or be able to enter into, definitive agreements regarding our proposed acquisition of Rongheng. Even if we enter into definitive agreements, the completion of the proposed acquisition of Rongheng would likely be subject to closing conditions that would be outside of our control, such as review and approval by the relevant examination and approval authorities in China. As a result, we can provide no assurance that our proposed acquisition of Rongheng will be completed. In addition, our proposed acquisition of Rongheng involves industries to which foreign investment has had limited access, and clear guidance on foreign investment in the pharmaceutical distribution business does not exist. As a result, we cannot predict how the examination and approval authorities would exercise their discretion in examining this proposed acquisition. Our inability to acquire, or delays in acquiring, Rongheng also would impact adversely our ability to execute our business strategy and, consequently, the marketability and market price of our common stock.
We may be unsuccessful in our strategy of expanding our product portfolio, acquiring complementary businesses or integrating acquired businesses.
Our business strategy includes expanding our business capabilities through both internal growth and the acquisition of complementary businesses and licensing pharmaceutical products for marketing and distribution in China. We may be unable to find additional complementary businesses to acquire or we may be unable to enter into additional agreements to market and distribute pharmaceutical products.
Future acquisitions may result in substantial per share financial dilution of our common stock from the issuance of equity securities. Completion of future acquisitions also would expose us to potential risks, including risks associated with:
• the assimilation of new operations, technologies and personnel; • unforeseen or hidden liabilities; • the diversion of resources from our existing businesses; • the inability to generate sufficient revenue to offset the costs and expenses of acquisitions; and • the potential loss of, or harm to relationships with, employees, customers and suppliers as a result of the integration of new businesses.
We may continue to experience delays in product introduction and marketing or interruptions in supply.
We have experienced, and are continuing to experience, longer than expected periods of product introduction and delays in marketing certain products in our product portfolio. For example, production of Shuganyiyang was delayed for six months, until May 2004, because the owner of Shuganyiyang moved the manufacturing of this product from Gansu to Shanghai and the new local manufacturer of this product did not receive the necessary production license to manufacture Shuganyiyang in Shanghai until the third quarter of 2003. This delay was the result of a corresponding delay in obtaining approval from the SFDA of the new drug certificate that serves as the basis for obtaining the necessary production license. The delay in obtaining approval of the new drug certificate was the result of the implementation by the SFDA of more stringent criteria for evaluating applications for new drug certificates, including, among other things, with respect to quality control and fill finish procedures for capsule manufacturing. In addition, supply interruptions from the manufacturer of Fem 7 had a significant negative impact on our revenues from sales of Fem 7 during 2004 through March 2005. These interruptions were caused by a delay in production relating to China-specific product packaging. In April 2005, the distributor of Fem 7 received supplies of Fem 7 from the manufacturer and we have begun to provide them to our customers. In November 2005, we were informed by the manufacturer of Septopal and Septocoll that manufacturing was being transferred to another location. This change in manufacturers will result in our inability to obtain additional product until 2007. Our revenues are dependent on the ability of the manufacturers and distributors with which we associate to supply and distribute product to our customers.
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If these and other delays continue to occur, or if these manufacturers and distributors are unable to supply and distribute product to our customers in a timely manner, our operating results and financial condition will suffer. In addition, our contracts with pharmaceutical owners and manufacturers relating to some of the products in our product portfolio have a limited duration and have minimum sales requirements that, if not met, could lead to termination or non-renewal of the contract, or the ability of the manufacturer to render the contract non-exclusive, which could harm our revenues.
We may be unable to compete successfully against new and existing competitors.
We operate in a highly competitive market with few barriers to entry. We expect that competition will continue to intensify. As we expand our operations in the pharmaceutical distribution business, we will encounter competition from other companies in the distribution business, and we may face future competition from new foreign and domestic competitors entering the pharmaceutical promotion and distribution market in China. Some of our competitors are more established than we are, and have significantly greater financial, technical, marketing, and other resources than we do. Many of our competitors, including China National Pharmaceutical Group Corporation, Shanghai Pharmaceutical Group Company Ltd., Guangzhou Pharmaceutical Company Ltd., Shanghai Leiyunshang Company Ltd. and Anhui Huayuan Pharmaceutical Company Ltd.,have greater name recognition and a larger customer base than we do. These competitors may be able to respond more quickly to new or changing opportunities and customer requirements and may be able to undertake more extensive promotional and distribution activities, offer more attractive terms to customers, and adopt more aggressive pricing policies. Competition could reduce our market share or force us to lower our prices to unprofitable levels.
If we fail to increase our brand recognition, we may face difficulty in obtaining new customers and business partners.
We believe that establishing, maintaining and enhancing our brand in a cost-effective manner is critical to achieving widespread acceptance of our current and future services and is an important element in our effort to increase our customer base and obtain new business partners. We believe that the importance of brand recognition will increase as competition in our market develops. Some of our potential competitors already have well-established brands in the pharmaceutical promotion and distribution industry. Successful promotion of our brand will depend largely on our ability to maintain a sizeable and active customer base, our marketing efforts and our ability to provide reliable and useful services at competitive prices. Brand promotion activities may not yield increased revenue, and even if they do, any increased revenue may not offset the expenses we incur in building our brand. If we fail to successfully promote and maintain our brand, or if we incur substantial expenses in an unsuccessful attempt to promote and maintain our brand, we may fail to attract enough new customers or retain our existing customers to the extent necessary to realize a sufficient return on our brand-building efforts, in which case our business, operating results and financial condition would be materially adversely affected.
Our operating results may fluctuate as a result of factors beyond our control.
Our operating results may fluctuate significantly in the future as a result of a variety of factors, many of which are beyond our control. These factors include:
• the costs of pharmaceutical products and development;
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• the relative speed and success with which we can obtain and maintain customers, merchants and vendors for our services and manufacturers and suppliers of products to market to our customers;
| • | capital expenditures for equipment; | |
| • | marketing and promotional activities and other costs; | |
We may be unable to obtain additional capital when necessary and on terms that are acceptable to us.
We anticipate that our December 31, 2005 balance of approximately $6.9 million in unrestricted cash and cash equivalents will be sufficient to fund our current level of operations for at least the next 12 months. Our future capital requirements will depend on many factors, including our ability to maintain our existing cost structure and return on sales and execute our business and strategic plans as currently conceived. We expect that we will need significant additional cash resources to operate and expand our business in the future and we may attempt to raise additional funds through public or private equity financing or from other sources. The sale of additional equity securities could result in additional dilution to our stockholders. Additional indebtedness would result in additional debt service obligations and could result in operating and financing covenants that would restrict our operations. In addition, financing may not be available in amounts or on terms acceptable to us, if at all. If we are not able to raise additional capital through fund raising activities we could be forced to curtail some of the currently anticipated expenditures in the above mentioned areas. Should we be forced to do this it could have an impact on our anticipated future growth.
We may be unsuccessful in attracting or retaining key sales, marketing and other personnel.
The success of our business is dependent on our ability to attract and retain highly skilled managers and sales and marketing personnel. BMP China’s and Wanwei’s sales personnel carry out critical promotional and sales activities of BMP China and Wanwei. There is intense competition for qualified sales and marketing personnel, and we may be unable to attract, assimilate or retain additional qualified sales and marketing personnel on a timely basis. Our inability to retain key personnel or the failure to attract additional qualified personnel could harm our development and results of operations. In addition, as we plan to expand in China, we will need to attract additional qualified managerial staff and other personnel. We may have difficulty in hiring and retaining a sufficient number of qualified personnel to work in China. This may impede the development of our distribution business and the expansion of our business in China.
We may be unable to manage our growth effectively.
Our business strategy is based on the assumption that we will acquire additional distribution channels in the future and that the number of our customers and the extent of our operations will grow. Our ability to compete effectively and to manage our future growth, if any, requires us to:
• continue to improve our financial and management controls and reporting systems and procedures to support the proposed expansion of our business operations as a result of our acquisition of Wanwei and the acquisition of any additional distribution channels in the future; and
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• locate or hire, at reasonable compensation rates, qualified personnel and other employees necessary to expand our capacity in order to accommodate the proposed expansion of our business operations.
If we are unable to accomplish any of these objectives, we will be unsuccessful in effectively managing our growth, which could harm our business, operating results, and financial condition.
We only offer products and services related to pharmaceuticals and, if demand for these products and services decreases, or if competition increases, we will have no other ways to generate revenue.
Our future results depend on continued market acceptance of pharmaceutical products and services in China and our ability to continue to adapt to the changing needs of our customers. Any reduction in demand or increase in competition in the market for pharmaceutical products and services could have a material adverse effect on our business, operating results and financial condition.
Our business strategy to use our marketing arm to create demand for products that we will offer exclusively through a distribution arm may fail.
Our business strategy depends in large part on our ability to establish exclusive distribution and marketing relationships with pharmaceutical and medical device manufacturers and to leverage our marketing arm to create demand for products that we will distribute exclusively through a distribution arm. A number of factors could hinder the success of this strategy, including, among other things, our failure to:
• obtain a sufficient number of effective distribution channels, whether through internal growth or strategic acquisition; • create sufficient demand for products that we will distribute exclusively; and • enter into and maintain exclusive distribution and marketing relationships with pharmaceutical manufacturers on profitable terms.
If we are unable to implement this strategy effectively, our business, operating results and financial condition could suffer.
Because we only recently became subject to the reporting requirements of the Exchange Act, we have no experience attempting to comply with public company obligations. Attempting to comply with these requirements will increase our costs and require additional management resources and we still may fail to comply.
As directed by Section 404 of the Sarbanes-Oxley Act of 2002, the SEC adopted rules requiring public companies to include a report of management on the company’s internal control over financial reporting in their annual reports on Form 10-K. In addition, the public accounting firm auditing the company’s financial statements must attest to and report on management’s assessment of the effectiveness of the company’s internal control over financial reporting and must separately report on the effectiveness of our control over financial reporting. We expect that this requirement will first apply to our annual report on Form 10-K for our fiscal year ending December 31, 2006. Our ability to maintain effective internal control over financial reporting may be limited by, among other things, differences between generally accepted accounting principles in China and generally accepted accounting principles in the United States and difficulties in implementing proper segregation of duties due to the lack of available qualified accounting personnel in the China marketplace. If we are unable to conclude that we have effective internal controls over financial reporting or if our independent auditors are unable to provide us with an unqualified report as to the effectiveness of our internal controls over financial reporting as of December 31, 2006 and future year ends as required by Section 404 of the Sarbanes-Oxley Act of 2002, investors could lose confidence in the reliability of our financial statements, which could result in a decrease in the value of our securities.
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We are a small company with limited resources. While we plan to expand our staff to respond to Exchange Act reporting requirements, we may encounter substantial difficulty attracting qualified staff with requisite experience due to the high level of competition for experienced financial professionals. Furthermore, we will have to improve internal controls as they relate to the matters described in the next risk factor. Given the status of our efforts, coupled with the fact that guidance from regulatory authorities in the area of internal controls continues to evolve and that our operations are primarily in China, where the regulatory environment is different from that of the United States, we may be unable to comply with applicable deadlines.
If we are unable to satisfy the regulatory requirements relating to internal controls, or if our internal controls over financial reporting are not effective, our stock price could decline.
In connection with the audit of our financial statements for the fiscal year ended December 31, 2003, our auditors communicated to our management and to the audit committee of our board of directors several deficiencies involving our internal control over financial reporting and our disclosure controls and procedures. Specifically, these deficiencies related to:
• the proper recognition of expenses from our sub-offices that were not recorded in the income statement and were incorrectly included in prepaid expenses; and
| • | improper revenue cut-off in that sales for which shipment had occurred prior to our year-end were not properly recorded in the period in which the shipment was made. |
These deficiencies involve matters coming to the attention of our accountants relating to significant deficiencies in the design or operation of internal control over financial reporting that, in their judgment, could adversely affect our ability to record, process, summarize, and report financial data consistent with the assertions of management in the consolidated financial statements. The internal control deficiencies that were identified in 2003 were not found to be present in the year ended December 31, 2004 or 2005, as our management took corrective actions to remedy the cut-off issues that existed in previous year for both revenues and expenses. However, as noted below, we identified a material weakness in our internal control over financial reporting in connection with the preparation of our financial statements as of and for the six months ended June 30, 2005. We are not yet required to have an audit of our internal control over financial reporting. Such an audit might uncover other deficiencies not noted as part of the current audit. We have retained independent consultants to help us identify and rectify any deficiencies in our internal controls.
During the audit of Wanwei, our auditors identified timing problems concerning the proper recording of expenses. It is our expectation that we now will take corrective action since our acquisition of Wanwei has been completed. The timing problems resulted in an adjustment to our financial statements, prior to their completion, that increased Wanwei’s loss in 2004 by approximately $290,000.
On August 19, 2005, we announced our intention to restate our financial statements as of and for the period ended December 31, 2004, principally to correct a $51,000 overstatement of revenue. As a result of the restatement, revenues reported for the fiscal year ended December 31, 2004 will be reduced from $260,000 to $209,000, resulting in an increased loss from $2,251,000 to $2,302,000 and an increased loss per share from $0.15 per share to $0.16 per share. The overstatement resulted because we recorded the advance payment from a distributor as revenue in the first quarter of 2004 where, in fact, commission revenue in respect of the advance payment was not earned.
The existence in future periods of significant deficiencies could, and the existence of material weaknesses in future periods would, preclude management from concluding in future periods that our internal control over financial reporting is effective. If management or our independent auditors ultimately determine that our internal control over financial reporting is not effective in future periods, our stock price could decline and we could be subject to investigations or sanctions by regulatory authorities, which could have a negative impact on our business.
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We are a holding company with no operations of our own and depend on our subsidiaries for revenue.
We are a holding company with no significant assets other than our equity interests in BMP China and Wanwei. We rely on dividends, loans and other payments to us by BMP China, Wanwei and any other future acquired entities in China. As of December 31, 2005, we had an accumulated deficit of approximately $9.1 million. Accordingly, our ability to make payments on indebtedness we may incur and to distribute dividends to our stockholders is dependent on the earnings, and the distribution of funds from, our subsidiaries. However, BMP China and Wanwei have incurred significant operating losses since their inceptions. If these losses continue, we will not be able to pay dividends or service any debt that we may incur. In addition, if BMP China, Wanwei or any future subsidiaries incur indebtedness of their own in the future, the instruments governing such indebtedness could restrict their ability to pay dividends or make other distributions to us, which in turn would limit our ability to make payments on indebtedness we may incur and to distribute dividends to our stockholders.
In addition, our corporate structure may restrict the distribution of dividends to our stockholders since Chinese regulations permit payment of dividends only out of accumulated profits as determined in accordance with Chinese accounting standards and regulations. According to these standards and regulations, BMP China and Wanwei are, and any future subsidiaries will be, required to set aside a portion of their after-tax profits to maintain certain reserve funds that may not be distributed as cash dividends.
Risks Relating to Doing Business in China
We face increased risks of doing business due to the extent of our operations in China.
Our operating subsidiaries, BMP China and Wanwei, are organized and located in China. China currently is transitioning to a market-developed socialist economy. There are significant political and economic tensions resulting from this transition that could affect the business environment in China. Our efforts to expand into China pose special risks that could adversely affect our business. Doing business in China also will subject us to the customary risks of doing business in foreign countries. These risks include, among others, the effects of:
• fluctuations in foreign currency exchange rates and controls; • competitive disadvantages to established foreign businesses with significant current market share and business and customer relationships; • nationalization; • tax and regulatory policies of local governments and the possibility of trade embargoes; • political instability, war or other hostilities; and • laws and policies of the United States and China affecting foreign trade and investment.
Any of these risks could cause significant interruptions in our distribution and other operations, which would adversely affect our ability to conduct business in China and our financial condition, results of operations and business.
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Fluctuations in the Chinese Renminbi could adversely affect our results of operations.
Substantially all of our revenues, profits, cash flows and assets have been, and we expect will continue to be, derived in China and be denominated in Chinese currency, or RMB. The value of the RMB, which is controlled and adjusted periodically by the Chinese government, fluctuates and is subject to changes in the political and economic conditions in China. On July 21, 2005, China increased the value of the RMB by 2.1% to RMB 8.11 to the dollar and announced that the RMB will no longer be pegged to the United States dollar, but will be allowed to float in a band (and, to a limited extent, increase in value) against a basket of foreign currencies. Any devaluation of the RMB could adversely affect the value of our common stock in foreign currency terms because we will receive substantially all of our revenues in RMB. Fluctuations in exchange rates also could adversely affect the value, translated or converted into United States dollars, of our net assets, earnings and any declared dividends. In addition, a devaluation of the RMB is likely to increase the portion of our cash flow required to satisfy any foreign currency denominated obligations.
Government control of currency conversion could adversely affect our operations and financial results.
Substantially all of our revenues are in RMB, which currently is not a freely convertible currency. Any restrictions on currency exchange may limit our ability to use revenue generated in RMB to fund our business activities outside of China or to make dividend payments in United States dollars. Under China’s existing foreign exchange regulations, the RMB is freely convertible for trade and service-related foreign exchange transactions, but not for direct investment, loan or investment in securities outside of China without the prior approval of China’s State Administration of Foreign Exchange. Foreign exchange transactions under our capital account, including foreign currency-denominated borrowings from Chinese or foreign banks and principal payments with respect to foreign currency-denominated obligations, continue to be subject to significant foreign exchange controls and require the approval of the State Administration of Foreign Exchange. These limitations could affect our ability to obtain foreign exchange through debt or equity financing, or to obtain foreign exchange for capital expenditures. In the future, the Chinese government may take measures at its discretion to restrict access to foreign currencies for current account transactions if foreign currencies become scarce in China. We may be unable to pay dividends in United States dollars or other foreign currencies to our stockholders if the Chinese government restricts access to foreign currencies for current account transactions.
The ability of our Chinese operating subsidiaries to pay dividends may be restricted due to our corporate structure.
Substantially all of our operations are conducted in China and substantially all of our revenues are generated in China. As wholly foreign-owned enterprises, BMP China and Wanwei are required to establish reserve funds and staff and workers’ bonus and welfare funds, each of which is appropriated from net profit after taxation but before dividend distributions in accordance with Chinese law. BMP China is required to allocate at least 10% of their net profits to the reserve fund until the balance of this fund has reached 50% of BMP China’s or Wanwei’s registered capital, which, as of December 31, 2005, was approximately $1.56 million and $0.88 million respectively.
In addition, the profit available for distribution from our Chinese subsidiaries is determined in accordance with generally accepted accounting principles in China. This calculation may differ from the one performed under generally accepted accounting principles in the United States, or GAAP. As a result, we may not receive sufficient distributions from our Chinese subsidiaries to enable us to make dividend distributions to our stockholders in the future and limitations on distributions of the profits of BMP China and Wanwei could negatively affect our financial condition and assets, even if our GAAP financial statements indicate that our operations have been profitable.
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We may be restricted in our ability to transfer funds to our Chinese operating subsidiaries, which may restrict our ability to act in response to changing market conditions.
Any transfer by us of funds to our Chinese subsidiaries through a stockholder loan and the capacity for our Chinese subsidiaries to obtain an RMB loan secured by us or other foreign institutions are subject to registration with China’s State Administration of Foreign Exchange. If the sum of the aggregated medium-term and long-term external debts, the outstanding short-term external debts and RMB loans secured by foreign institution(s) of a Chinese subsidiary is less than the difference between its total investment amount and its registered capital, the Chinese subsidiary is required to apply to the appropriate examination and approval authority to increase its total investment amount. Accordingly, any transfer of funds from us, directly or indirectly, to any of our Chinese subsidiaries by means of increasing its registered capital is subject to approval by the appropriate examination and approval authorities in China. This limitation on the free flow of funds between us and our Chinese subsidiaries may restrict our ability to react to changing market conditions.
China’s economic, political and social conditions, and its government policies, could adversely affect our business.
Substantially all of our operations are conducted in China and substantially all of our revenues are derived in China. Accordingly, our results of operations, financial condition and prospects are subject, to a significant degree, to economic, political and legal developments in China. The economy of China differs from the economies of most developed countries in many respects, including:
• level of government involvement; • economic structure; • allocation of resources; • level of development; • inflation rates; • growth rate; and • control of foreign exchange.
The economy of China has been transitioning from a planned economy to a more market-oriented economy. Although in recent years the Chinese government has implemented measures emphasizing the utilization of market forces for economic reform, the reduction of state ownership of productive assets and the establishment of sound corporate governance in business enterprises, a substantial portion of productive assets in China is still owned by the Chinese government. In addition, the Chinese government continues to play a significant role in regulating industrial development. It also exercises significant control over China’s economic growth through the allocation of resources, controlling payment of foreign currency-denominated obligations, setting monetary policy and providing preferential treatment to particular industries or companies.
A slow-down of the Chinese economy could adversely affect our growth and profitability.
Our financial results have been, and are expected to continue to be, affected by conditions in the Chinese economy and pharmaceutical industry. Although the Chinese economy has grown significantly in the past decade, there can be no assurance that this growth will continue or that any slow-down will not have a negative impact on our business.
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The legal system in China has inherent uncertainties that could limit the legal protections available to us.
We currently conduct our business primarily through our wholly-owned operating subsidiaries, BMP China and Wanwei, and expect in the future to conduct our business through BMP China, Wanwei and other subsidiaries organized in China that we acquire, which are and will be organized in China. These subsidiaries generally are subject to laws and regulations applicable to foreign investment in China and, in particular, laws applicable to wholly foreign-owned enterprises. In addition, we depend on several affiliated entities in China to honor their service agreements with us. Chinese law governs almost all of these agreements, and disputes arising out of these agreements are expected to be decided by arbitration in China. The Chinese legal system is based on written statutes. Prior court decisions may be cited for reference but have limited precedential value. Since 1979, Chinese legislation and regulations have significantly enhanced the protections afforded to various forms of foreign investments in China. However, since these laws and regulations are relatively new and the Chinese legal system continues to evolve, the interpretations of many laws, regulations and rules are not always uniform, and enforcement of these laws, regulations, and rules involves uncertainties that may limit remedies available to us. Any litigation in China may be protracted and may result in substantial costs and diversion of resources and management attention. In addition, China may enact new laws or amend current laws that may be detrimental to us, which may have a material adverse effect on our business operations.
We have limited business insurance coverage in China.
The insurance industry in China is still in an early stage of development. Insurance companies in China offer limited business insurance options. As a result, we have not maintained, and currently do not maintain, any liability, hazard or other insurance covering our services, business, operations, errors, acts or omissions, personnel or properties. To the extent that we are unable to recover from others for any uninsured losses, such losses could result in a loss of capital and significant harm to our business. If any action, suit and/or proceeding is brought against us and we are unable to pay a judgment rendered against us and/or defend ourselves against such action, suit and/or proceeding, our business, financial condition and operations could be negatively affected.
Any future outbreak of health epidemics, such as Severe Acute Respiratory Syndrome, or SARS, Asian Influenza, or Asian Bird Flu, or any other epidemic in China could have a material adverse effect on our business operations, financial condition and results of operations.
From December 2002 to June 2003, China and certain other Asian countries experienced an outbreak of a new and highly contagious form of atypical pneumonia now known as SARS. In addition, recent outbreaks of the Asian Bird Flu have occurred throughout Asia. Outbreaks of SARS, Asian Bird Flu or any other epidemic in the future may disrupt our business operations and have a material adverse effect on our financial condition and results of operations. For example, a new outbreak of SARS, Asian Bird Flu or any other epidemic likely would reduce the level of economic activity in affected areas, which may lead to a reduction in our revenue if our clients cancel existing contracts or defer future expenditures. In addition, health or other government regulations may require temporary closing of our offices, or the offices of our customers or partners, which would severely disrupt our business operations and have a material adverse effect on our financial condition and results of operations.
Risks Relating to Pharmaceutical Distribution in China and Wanwei
The absence of express laws and regulations in China regarding foreign investment in China’s pharmaceutical distribution sector may cause uncertainty.
Pursuant to China’s Administrative Measures on the Foreign Investment in Commercial Sector, as of December 11, 2004, foreign enterprises are permitted to establish or invest in wholly foreign-owned enterprises or joint ventures that engage in wholesale or retail sales of pharmaceuticals in China subject to the implementation of relevant regulations. However, no specific regulation in this regard has been promulgated to date. If specific regulations are not promulgated, or if any promulgated regulations contain clauses that will cause an adverse impact to our current and future acquisitions in China, our operations and business strategy will be adversely affected.
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Wanwei may be unable to obtain renewals of necessary pharmaceutical distribution permits.
Under Chinese law, all pharmaceutical wholesale and retail enterprises engaging in the pharmaceutical distribution business must obtain a pharmaceutical distribution permit, and must comply with China’s GSP standards and obtain a GSP certificate. Both the permit and certificate are valid for five years and are subject to renewal and reassessment by the relevant Chinese authorities, and the standards of compliance required in relation thereto may from time to time be subject to change. Any changes in compliance standards, or any new laws or regulations that prohibit or render it more restrictive for Wanwei or other pharmaceutical distribution enterprises we may acquire in the future to conduct their business or that increase their compliance costs may adversely affect their or our operations and profitability.
Wanwei has previously obtained a GSP certificate and pharmaceutical distribution permit. Wanwei’s GSP certificate will expire on April 3, 2008 and its pharmaceutical distribution permit will expire on February 2, 2010. Although we do not believe that Wanwei will be unable to obtain renewals of its GSP certificate and pharmaceutical distribution permit in the future, its ability to do so is primarily outside of its or our control. Any failure by Wanwei to obtain renewals of its GSP certificate or pharmaceutical distribution permit may have a material adverse effect on its operations by restricting its ability to carry out its pharmaceutical distribution business, among other things.
Price control regulations may decrease our profitability.
The prices of certain medicines Wanwei distributes, including those listed in the Chinese government’s catalogue of medications that are reimbursable under China’s social insurance program, or the Insurance Catalogue, are subject to control by the relevant state or provincial price administration authorities. In practice, price control with respect to these medicines sets a ceiling on their retail price. The actual price of such medicines set by manufacturers, wholesalers and retailers cannot historically exceed the price ceiling imposed by applicable government price control regulations. Although, as a general matter, government price control regulations have resulted in drug prices tending to decline over time, there has been no predictable pattern for such decreases.
Revenues from products distributed by Wanwei that are subject to price controls accounted for a total of approximately 66% and 70% of Wanwei’s total revenues in the years ended December 31, 2004 and 2005. Hence, the prices of these medicines could not be increased at Wanwei’s discretion above the price ceiling without prior government approval. It is uncertain whether Wanwei would be able to obtain the necessary approvals to increase the prices of these medicines. This could affect Wanwei’s ability to maximize its profits or to profitably sell these products.
The bidding process with respect to the purchase of pharmaceutical products may lead to reduced revenue.
Chinese regulations require non-profit medical organizations established in China to implement bidding procedures for the purchase of drugs. It is intended that the implementation of a bidding purchase system will be extended gradually and will cover, among other drugs, those drugs consumed in large volume and commonly used for clinical uses. Pharmaceutical wholesalers must have the due authorization of the pharmaceutical manufacturers in order to participate in the bidding process. If, for the purpose of reducing the bidding price, pharmaceutical manufacturers participate in the bidding process on their own and enter into purchase and sales contracts with medical organizations directly without authorizing a pharmaceutical distributor, the revenue of Wanwei or any other subsidiaries that we may acquire in the future, whose main business is pharmaceutical distribution, may be adversely affected.
Even though Wanwei has established long-term business relationships with many medical organizations, if a pharmaceutical manufacturer whose products we do not distribute is awarded a contract under the bidding process, the medical organization that initiated the bidding process will be restricted under its agreement with the winning bidder from purchasing similar products from Wanwei.
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If the medicines Wanwei distributes are replaced by other medicines or are removed from China’s Insurance Catalogue in the future, Wanwei’s revenue may suffer.
Under Chinese regulations, patients purchasing medicines listed by China’s state and/or provincial governments in the Insurance Catalogue may be reimbursed, in part or in whole, by a social medicine fund. Accordingly, pharmaceutical distributors prefer to engage in the distribution of medicines listed in the Insurance Catalogue. Currently, the main products that Wanwei distributes are listed in the Insurance Catalogue. The content of the Insurance Catalogue is subject to change by the Ministry of Labor and Social Security of China, and new medicines may be added to the Insurance Catalogue by provincial level authorities as part of their limited ability to change certain medicines listed in the Insurance Catalogue. If the medicines Wanwei distributes are replaced by other medicines or removed from the Insurance Catalogue in the future, Wanwei’s revenue may suffer.
Risks Relating to Our Common Stock
Sales of substantial amounts of our common stock in the public market could depress the market price of our common stock.
Our common stock currently is quoted on the Over-the-Counter Bulletin Board. If our stockholders sell substantial amounts of common stock in the public market, including common stock issuable upon the exercise of outstanding warrants and options, or the market perceives that such sales may occur, the market price of our common stock could fall and we may be unable to sell our common stock in the future. We had 21,880,897 shares of common stock outstanding as of March 1, 2006. Approximately 7,807,509 million of these shares are held by Abacus, who may be deemed to be our affiliate and would be subject to Rule 144 promulgated under the Securities Act of 1933, as amended, or the Securities Act. Sales of substantial amounts of our common stock over limited time periods would likely materially decrease the market price of our common stock.
If the ownership of our common stock continues to be highly concentrated, it may prevent you and other stockholders from influencing corporate decisions, such as significant corporate transactions and the election and replacement or removal of directors and management, and may also result in conflicts of interest that could cause our stock price to decline.
As of March 1, 2006, Abacus beneficially owned or controlled approximately 35.68% of our outstanding shares of common stock. If Abacus were to act on its own, it likely could control the outcome of corporate actions requiring stockholder approval, including the election, replacement or removal of directors, any merger, consolidation or sale of all or substantially all of our assets, or any other significant corporate transactions, and by virtue of its ability to control the board of directors could control and influence management composition. Abacus may have different interests than other stockholders. For example, Abacus could act to delay or prevent a change of control of us, even if such a change of control would benefit our other stockholders, could prevent or frustrate attempts to replace or remove current management, or Abacus could pursue strategies that are different from the wishes of other investors. This significant concentration of stock ownership may adversely affect the trading price of our common stock due to investors’ perception that conflicts of interest may exist or arise.
Our common stock may experience extreme price and volume fluctuations, which could lead to costly litigation for us and make an investment in us less appealing.
The market price of our common stock may fluctuate substantially due to a variety of factors, including:
• announcements concerning our competitors or the pharmaceutical distribution industry in general; • rate of sales and customer acceptance;
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• changing factors related to doing business in China; • interruption of supply or changes in our agreements with manufacturers or distributors; • new regulatory pronouncements and changes in regulatory guidelines and timing of regulatory approvals; • general and industry-specific economic conditions; • additions to or departures of our key personnel; • variations in our quarterly financial and operating results; • changes in market valuations of other companies that operate in our business segments or in our industry; • lack of adequate trading liquidity; • announcements about our business partners; • changes in accounting principles; and • general market conditions.
The market prices of the securities of early-stage companies, particularly companies like ours without consistent product revenues and earnings, have been highly volatile and are likely to remain highly volatile in the future. This volatility has often been unrelated to the operating performance of particular companies. For example, the high and low prices for our common stock as reported on the Pink Sheets during the period from March 1, 2005 through February 28, 2006 have been $4.85 and $1.39. The average daily volume of our common stock over the period from March 1, 2005 through February 28, 2006 has been 23,043 shares. In the past, companies that experience volatility in the market price of their securities have often faced securities class action litigation. Whether or not meritorious, litigation brought against us could result in substantial costs, divert our management’s attention and resources and harm our financial condition and results of operations.
As a stock quoted on the OTCBB, our common stock, which is deemed to be “penny stock,” currently has limited liquidity.
Holders of shares of our common stock, which are quoted on the OTCBB, may find that the liquidity of our common stock is impaired as compared with the liquidity of securities listed on Nasdaq or one of the national or regional exchanges in the United States. This impairment of liquidity may result from reduced coverage of us by security analysts and news media and lower prices for our common stock than may otherwise be attained. In addition, our common stock is deemed to be “penny stock,” as that term is defined in rules under the Exchange Act. Penny stocks generally are equity securities that are not registered on certain national securities exchanges or quoted by Nasdaq and have a price per share of less than $5.00. Penny stock may be difficult for investors to resell. Federal rules and regulations impose additional sales practice requirements on broker-dealers who sell the stock to persons other than established customers and accredited investors. For transactions covered by these rules, the broker-dealer must make a special suitability determination for the purchase of these securities and obtain the purchaser’s written consent to the transaction prior to the sale. Prior to the sale, broker-dealers must also deliver to the potential purchaser a disclosure schedule prescribed by the SEC, describing the penny stock market and disclose the commissions payable to both the broker-dealer and the registered representative and current quotations for the securities. Finally, broker-dealers must deliver to penny stock investors monthly statements disclosing recent price information for penny stocks held in the account and information on the limited market in penny stocks. These additional requirements restrict the ability of broker-dealers to sell our common stock and make it more difficult for investors to dispose of our common stock in the secondary market and may also adversely affect the price of our common stock.
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ITEM 1B. UNRESOLVED STAFF COMMENTS
Not applicable.
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