BWOWF Wowjoint Holdings Ltd (CE)

ITEM 3. KEY INFORMATION

 

A.  Selected Financial Data

 

The following summary statement of cash flow data is derived from our audited consolidated financial statements as of and for the years ended December 31, 2013, December 31, 2012 (restated), December 31, 2011 (restated), December 31, 2010 and December 31, 2009. The consolidated financial statements were prepared and presented in accordance with U.S. generally accepted accounting principles, or GAAP.

 

Our results of operations in any past period may not necessarily be indicative of the results that may be expected for any future period. See “Risk Factors” included elsewhere in this Annual Report. The summary consolidated financial information for those periods and as of those dates should be read in conjunction with those consolidated financial statements and the accompanying notes, if available, and “Operating and Financial Review and Prospects” included elsewhere in this Annual Report.

Summary of statement of operation data:

 (US$ in thousands except per share and operating data)

(1)	Earnings per share information is not presented for the fiscal year ended December 31, 2009, as its inclusion would not be meaningful as Wowjoint was a privately held company during that period.

 

 

Summary of balance sheet data:

(US$ in thousands)

(1)	Working capital is calculated as current assets minus current liabilities.

The following table sets forth information concerning exchange rates between the RMB and the U.S. dollar for the periods indicated. These rates are provided solely for your convenience and are not necessarily the exchange rates that were used in this Annual Report or will use in the preparation of our periodic reports or any other information to be provided to you.

Source: Federal Reserve Statistical Release

 

* Annual and monthly averages are calculated using the average of the daily rates during the relevant period.

B.  Capitalization and Indebtedness

 

Not applicable

 

C.  Reasons for the Offer and Use of Proceeds

 

Not applicable

 

D.  Risk Factors

Risks Associated with Our Business and Industry

 

We cannot assure you that we will be able to refinance any indebtedness incurred under our rolling credit facilities or obtain additional debt financing.

 

We rely on lines of credit provide by several banks in China. As of December 31, 2013, approximately US$2.4 million (RMB15 million) was outstanding under our revolving lines of credit. As the lines are uncommitted working lines of credit, we cannot assure you that we will be able to continue rolling over these lines of credit or to do so at an interest rate or on terms that are acceptable to us or at all. Our ability to obtain bank financing or to access the capital markets for future offerings may be limited by our financial condition at the time of any such financing or offering, including our actual or perceived credit quality, as well as by adverse market conditions resulting from, among other things, general economic conditions in China. In addition, future disruptions in the financial markets, such as have been recently experienced, could affect our ability to extend our existing loans or to obtain new or additional debt financing or on favorable terms (or at all), which may have other adverse effects on us. The incurrence of debt under our credit facilities could adversely affect our business by increasing our vulnerability to general adverse economic and industry conditions and requiring us to dedicate a substantial portion of our cash flow from operations to payments on our indebtedness, thereby reducing the availability of our cash flow for other purposes. See “Operating and Financial Review and Prospects – Liquidity and Capital Resources.”

 

Actual overall risks or costs of our contracts may exceed our initial evaluation and lead to cost overruns, resulting in a reduction in revenues, lower profitability or even losses on such contracts.

 

We base a number of contracts in part on cost estimates that are subject to a number of assumptions, including assumptions about future economic conditions, cost and availability of raw materials and labor. However, these assumptions may prove to be inaccurate. In addition, we may not be able to reduce our costs through our cost management scheme. Any deficiencies in internal cost control or unreasonable price increases in raw materials could result in cost overruns.

 

We currently generate, and expect to continue to generate, a portion of our revenues from fixed-price contracts.  For the years ended December 31, 2013, 2012 and 2011, approximately 24%, 38% and 86% of our revenues were derived from fixed-price contracts. The terms of these contracts require us to complete the delivery of equipment and machinery for a fixed price and therefore expose us to cost overruns. Cost overruns, whether due to inefficiency, inaccurate estimates or other factors, result in lower profit or a loss on a contract. As a result, we will only realize profits on these contracts if we successfully estimate our costs and avoid cost overruns. Other variations and risks inherent in the performance of fixed price contracts, such as delays caused by technical issues, any inability to obtain the requisite permits and approvals, may cause our actual overall risks and costs to differ from our original estimates despite any buffer we may have built into our bids for increases in labor and material costs. While there have only been two occasions involving small projects where our costs have equaled or exceeded our revenues from the project, as a project based company, we anticipate, from time to time, encountering cost overruns or delays on our current and future contracts. If such cost overruns or delays occur, we could experience an increase in costs exceeding our budget or be subject to penalties with a consequent reduction in, or elimination of, the profits on our contracts.

 

 

Some of our contracts contain price adjustment clauses, which allow us to recoup additional costs incurred as a result of unexpected increases in raw material costs. However, we are typically required to bear a portion of the increased costs. From time to time, we may be required to perform extra or “change order” work under our contracts despite the absence of prior agreements with our customers on the scope or price of the work to be performed. Even though our contracts generally contain adjustment clauses for customers to pay for the extra work, we may be required to fund the cost of such work until the change order is approved and funded by the customer. We account for the costs of contract performance pending approval and funding of a change order by a customer by temporarily recording such costs as deferred cost and then adjusting to cost of sales in the period when revisions to a sale contract are determined. In addition, the performance of the extra work may cause delays in our other contract commitments and may have a negative impact on our ability to meet specified deadlines.

The majority of our current products are custom-made for specific projects, which provides no guarantee of future success.

 

We are a solution provider of customized heavy-duty large-scale equipment for infrastructure construction projects. Each of our products is relatively unique to the construction projects in which it is designed to operate. Although most designs provide flexibility and capacity to be modified, we are usually engaged by our customer on a per project basis. Thus, a majority of our sales do not result in repetitive purchases of the same piece of equipment, which may limit the extent to which our sales and profitability are sustainable in the future.

Currently we are able to lease many of our customized heavy-duty large-scale equipment to customers on similar projects. Sometimes we are able to make small adjustments to fit requirements of specific projects. There is no assurance that we are able to do so successfully in the future.

 

We rely on third parties to complete part of our equipment manufacturing, which may be adversely affected by the sub-standard performance or non-performance of such third parties.

 

We typically engage third-party subcontractors to perform a portion of the work under our contracts, in order to minimize the need to employ a large workforce that includes skilled labor and semi-skilled labor, as well as to maximize our-cost efficiency and flexibility. However, we may not be able to monitor the performance of these subcontractors as efficiently as our own in-house staff. In addition, our inability to engage qualified subcontractors could affect our ability to maintain the quality of our products. Subcontracting exposes us to risks associated with non-performance, delayed performance, or sub-standard performance by subcontractors. We may also suffer losses or a lesser profit margin if the amounts we pay our subcontractors exceed our original estimates. As a result, we may experience deterioration in quality or delays with respect to the delivery of our equipment, incur additional costs due to the delays or higher costs in sourcing the services, or be subject to liability under the relevant contracts for our subcontractors’ performances. Such events could impact upon our profitability, financial performance and reputation, and result in litigation or damage claims.

 

Delays in collecting accounts receivable, progress payments or the release of retention money by our customers, or delays in the continued growth or extended gap or idle periods in our leasing business, may affect our liquidity.

 

Like other companies in the construction and construction equipment industry in China, we typically receive progress payments from our customers with reference to the value of work completed at specified milestones, as well as receive final payments upon the delivery of complete equipment. We receive installment payments in the process of equipment manufacturing, and usually a significant percentage of contract value would be billed upon the delivery of the equipment to our customers.

 

Usually we are either requested by our customers to secure a letter of credit issued by a licensed commercial bank or a portion of the contract value, normally 5% to 10%, is withheld by the customer as retention money to be paid or released after the warranty period (generally one year after the completion of the respective equipment and products).

 

 

In the past few years, we have experienced some delay in collection of account receivables from state-owned companies. Currently, our average account receivable days are approximately 400 days. We are still collecting account receivables from up to 5 years ago. In the event that we encounter delays or defaults in the payment of accounts receivable or progress payments by our customers, we may be required to invest working capital to maintain our day-to-day operations. There is no assurance that amounts due pursuant to accounts receivable, progress payments or retention money will be remitted by our customers on a timely basis or that those delays or defaults in payment will not affect our financial condition and results of operations.

 

From 2010, we began leasing equipment to several of our customers. Our leasing business made up approximately 76%, 62% and 14% of total revenues for the years ended December 31, 2013, 2012 and 2011. As lease payments are received periodically over time, rather than in upfront payments, growth in our leasing business could also affect our liquidity in the future. In addition, once a lease is over, it may take some time for us to find another lease customer for the equipment, therefore there is no revenue generated during these gap/idle periods.  Sometimes the periodic lease payment is based on usage of our machine rather than fixed monthly payment. This may also create volatility in our earnings and liquidity. Typically we need to incur upfront cost of around RMB15 million to manufacture a machine for leasing. It may take us around 1.5 years of lease payment to break-even and recover our costs fully.  However our typical lease is around 1 year and sometimes as short as 6 months, which may not reach break-even and negatively affect our liquidity.

 

We depend upon customers concentrated in the infrastructure construction industry. A reduction in government spending in infrastructure development could adversely affect our performance.

 

From a macro-economic perspective, a major risk we face is the relatively large reliance on the PRC government's investment in transportation and infrastructure sectors. The PRC government's judgment of the national economic conditions and expectations regarding economic development trends together with the utilization status of existing infrastructures and the expected needs for future expansion may result in changes in public budget for infrastructure development. This is especially true with respect to investments in transport infrastructure such as railways and highways, and in the outsourcing volume of infrastructure construction projects by government bodies, changes in which may have an adverse impact on our business volume.

 

The majority of our sales are generated from customers involved in the construction of railways and highways in China and other countries. In particular, China Railway Construction Corporation (“CRCC”), China Railway Group Limited (“CRG”), China Communications Company Limited (“CCC”), SinoHydro Corporation (“SinoHydro”), Eden Technology s.r.l. (”Eden”) and BBE Solutions Sdn Bhd (“BBE”) have accounted for a sizeable portion of our total revenues in recent years. For example, in the fiscal year ended August 31, 2008, CRCC, CCC and CRG accounted for 35% (Bureau 16, 20%; Bureau 12, 15%), 26% and 13% of our total sales, respectively; in the fiscal year ended August 31, 2009, CCC and CRG accounted for 46% and 16% of our total sales, respectively; in the four months from August 31, 2009 to December 31, 2009, SinoHydro Corporation ("SinoHydro"), a Chinese state-owned hydropower engineering and construction company, accounted for 98% of our total sales; and in the year ended December 31, 2010, CRCC, CCC and CRG accounted for 37% (Bureau 16, 34%; Bureau 12, 3%), 20% and 19% of our total sales, respectively.  In the year ended December 31, 2011, CRCC and Eden accounted for 65% and 21% of our total sales, respectively. In the year ended December 31, 2012, BBE, CRG (Bureau 25) and CCC (Bureau 1) accounted for 24%, 21% and 14% of our total sales, respectively.  In the year ended December 31, 2013, CRCC (Bureau 20, Bureau 21, Bureau 22, Bureau 23 and Bureau 25), CRG (China Railway Tunnel Stock Co., Ltd, Bureau 3 and Bureau 7) and CCCC accounted for 34%, 24% and 12% of our total sales, respectively.

 

Shifts in customer relationship from period to period reflect our results in bidding for new infrastructure contracts, as well as an increase in international sales, which accounted for approximately 17%, 26%, 26% and 11.6% of total sales in 2013, 2012, 2011 and 2010, respectively.

 

Although we have relatively small number of major customers in China, we deal with many different bureaus and subsidiaries within these large PRC state-owned enterprises. All of these contracts with the different bureaus and subsidiaries have been entered into in the ordinary course of business, were individually negotiated and are for equipment custom tailored for a specific project. Any reduction or delay in the capital spending by these companies or in the PRC’s infrastructure development could cause a significant decline in our sales and profitability.

 

 

Our revenues depend on gaining new customers and we do not have long-term purchase commitments from our customers.

 

Our revenues result from individual equipment sales, which produce a limited amount of ongoing revenues from equipment maintenance and other services. In order to maintain and expand our business, we must be able to replenish new orders in our pipeline on a continuous basis. Our potential customers could choose products of our competitors instead. Should they do so, we could suffer a decline in revenues and profitability.

 

The slow down of general economy in China in the past few years, and the reduction in government spending in railway sector due to a variety of reasons such as the railway accident in 2011 could adversely affect our results of operations.

China initiated a policy of fiscal constraint in the latter part of 2009 to deliberately cool the country’s economy, including infrastructure investment, which resulted in the suspension of spending on a number of major infrastructure projects, including several in which we were involved. As a result, Chinese economic growth had slowed down noticeably in the past few years, as the Chinese GDP growth was 10.4%, 9.3%, 7.8% and 7.7% in 2010, 2011, 2012 and 2013, respectively.  In particular, 2013 recorded the slowest growth rate since 1999.

 

China faced a highly complicated external environment in 2013, as the economies of the EU countries and the United States remained sluggish, the global financial market experienced turbulence and protectionism was on the rise. There were also a number of domestic negative factors affecting GDP growth, including mid- and long-term upward price pressures in raw materials and labor, funding shortages for small businesses, as well as structural changes intended to enhance energy-saving, emission reduction and other environmental protection measures already in implementation or to be implemented. However, China's urbanization process, development of its market economy and industrialization should continue to provide impetus for its mid- and long-term growth.

 

Some economists predicated that the international economic situation will remain challenging in 2014, while in China the driving force for mid- and long-term economic growth has not changed in 2014 while constraints in resources, environment and labor supply continued to increase. The government has shifted its top priority from taming inflation to stabilizing growth. It has moderately eased its grip over lending, approved massive construction projects, and stepped up tax reductions to buoy the economy in recent months.

 

As our business is closely tied to the global infrastructure investments, and in particular such investments in China, our business was directly impacted by these trends. The currently implemented 12 th Five Year Plan (2011-2015) includes a significant allocation of government dollars (RMB 2.8 trillion, i.e. approximately US$456 billion) for large infrastructure projects which we anticipate will drive demand for our products and services through the next few years. However, as the global economic climate continues to improve, the Chinese government may halt, decrease or delay railway construction and maintenance as part of their macroeconomic policy.

The PRC government’s spending on infrastructure has historically been, and will continue to be, cyclical in nature and vulnerable to China’s economic growth and direction. The PRC government has, in recent years, implemented various policies in an effort to control the growth rate of certain industries and to limit inflation, which has affected the level of public spending on infrastructure construction projects. A significant decrease or delay in public spending on infrastructure construction in China could reduce the number of available construction projects, which in turn could reduce the demand for heavy duty construction equipment, and thus reduce the market demand for our core business.

 

 

Any decrease or delay in government funding of railway construction and maintenance, other infrastructure projects and overall government spending could cause the number of contracts up for bid to fall, our traditional upfront payments of 20% - 40% to be lowered and payment terms to be stretched, adversely affecting our results of operations.

 

Our efforts to enter the international construction machinery and equipment market may not be successful.

 

Although we have conducted most of our business within China, we have been exploring business opportunities in selected markets outside China and strategically expanding our global footprint. Expansion into new markets outside China exposes us to substantial risks, such as risks related to currency fluctuations, regulatory problems, punitive tariffs, trade embargoes, differences in general business environments, higher competition, costly legal and regulatory requirements, adverse tax consequences, insufficient experience dealing with local payment and business practices, and protectionism. In addition, the additional demands on our management from such expansion may detract from efforts in the domestic Chinese market, causing our operating results in China to be adversely affected.

 

Our efforts to enter into vertical markets may not be successful.

 

Since 2011, we have made certain progress entering new vertical markets, such as providing marine hoists to yacht manufacturer, wind tower hoist to wind turbine tower manufacturer and building certain inspection equipment of the overhead concrete beams of the elevated pave way of China's high-speed railway. However, these markets are new to us and there is no assurance that we will be successful in these markets.

 

Our technical service and equipment leasing business may not be successful.

Since 2010, we began leasing equipment to several of our customers. Our leasing business made up approximately 76%, 62% and 14% of total revenues for the years ended December 31, 2013, 2012 and 2011. However, our inexperience in managing the leasing business may negatively affect our liquidity. There is no assurance that we can continue grow our leasing business profitably.

Our business could be adversely affected by claims by third parties for possible infringement of their intellectual property rights.

 

We may face claims from time to time that our products infringe upon the intellectual property rights of third parties, including our competitors. If any legal proceedings against us for infringement of intellectual property rights are successful, we may be ordered to be responsible for the losses incurred by the claiming parties due to our infringement of their intellectual property rights. Further, if we are unable to obtain a license for the usage of such intellectual property rights on acceptable terms, or at all, or unable to design around such intellectual property rights, we may be prohibited from manufacturing or selling products which are dependent on the usage of such intellectual property rights. In such cases, we may experience a material adverse effect on our business and reputation, and these types of proceedings and their consequences could divert management’s attention from our business, all of which could have a material adverse effect on our business and results of operations.

We expect to rely increasingly on our proprietary products and if we become involved in an intellectual property dispute, we may be forced to spend a significant amount of time and financial resources to resolve such intellectual property dispute, diverting time and resources away from our business and operations.

 

Our business is based on a number of proprietary products, which are protected by patents filed in the PRC. We expect our future growth will rely on these proprietary products to meet customers’ demands. For example, given the expansion of China’s rail system into mountainous and heavily forested areas, we expect that sales of our integrated launching gantry, which is designed and well suited for such terrain, to represent an increasing portion of our overall sales in the next several years. However, if third parties should infringe on any of our patents on our integrated launching gantry or other products, as has happened on several occasions, we may need to devote significant time and financial resources in legal actions brought through the China court system to attempt to halt the infringement. For example, a lawsuit that we filed in connection with infringements of our patents ended in our favor in 2009, whereby the Beijing court awarded us RMB 1.0 million, and a second lawsuit was also settled in Beijing court in 2010 for similar amount. Under the terms of that settlement we agreed to grant the infringing party the use of our patent in return for it entering into a multi-year contract with us. Conversely, in the event of an infringement claim by third parties against us, we may be required to spend a significant amount of time and financial resources to defend against such claim. However we may not always be successful in lawsuits that we initiate or in defending ourselves against claims made against us by others. Moreover, any litigation could result in substantial costs and the diversion of our management resources and could materially and adversely affect our business and operating results.

 

 

We rely upon receiving an adequate supply of raw materials at acceptable prices and quality in a timely manner.

 

The success of our operations depends on our ability to obtain sufficient quantities of raw materials and supplies at acceptable prices and quality in a timely manner. We have historically relied on a few suppliers and should we subsequently lose any of these suppliers, we will be forced to seek other suppliers. Such suppliers may be difficult to replace. We are exposed to the market risk of fluctuations in certain commodity prices for raw materials and supplies, such as steel and electronic parts utilized in our products. The price and availability of such raw materials and supplies may vary significantly from year to year due to factors such as China’s import restrictions, consumer demand, producer capacity, market conditions and costs of materials. We do not have long-term contracts with our suppliers or guarantees of supply. Should the prices of raw materials rise, we may experience lower than expected profit margins on our existing contracts.

 

We may be exposed to potential product liability claims that may affect our profitability and damage our reputation.

 

A majority of our products are large-scale heavy-duty machines that require skilled labor to operate. Failures in the design, quality control, installation and assembly, and operation of these machines, as well as accidents, geological catastrophes and other construction field hazards, may result in injuries to personnel, loss of lives and damage to property despite repeated testing by us before and after delivery of these machines to our customers. Existing PRC laws and regulations do not require us to maintain third party liability insurance to cover product liability claims and we currently do not carry product liability insurance. In the event a product liability claim is brought against us, the lawsuit may, regardless of merit or eventual outcome, result in damages to our reputation, result in loss of contracts, inhibit our ability to win future contracts, and lead to substantial costs in litigation, product recalls and loss of revenue.

 

China’s financial markets are not as sophisticated as markets in developed countries and regions such as the United States, European Union, Hong Kong, Taiwan and Singapore. The choice and selection of insurance policies to cover the potential liability of our products may not be widely available, which may result in our inability to obtain adequate insurance coverage against product liability risks.

 

Our success depends on stringent quality controls and timely delivery of our products, and any related failure could adversely impact our financial performance and result in damages to our reputation.

 

We design, manufacture and install our products based on the specific requirements of each customer. Our ability in obtaining future orders depends upon our ability to maintain and uphold the performance, reliability and quality standards required by our customers. We may experience delays in the collection of accounts receivables, additional expenses resulting from warranty and maintenance services, and reduced, cancelled or discontinued orders. Additionally, performance, reliability or quality claims by our customers, with or without merit, could result in costly and time-consuming litigation, which would consume the time and attention of management and may result in significant monetary damages.

We may not be able to retain, recruit and train adequate management and engineering personnel, and our inability to attract and retain qualified personnel may limit our development.

 

Our success is dependent to a large extent on our ability to retain the services of our executive management personnel who have contributed to our growth and expansion. The industry experience of our executive officers, directors and other members of our senior management is essential to our continuing success. Accordingly, the loss of their services, particularly those of Mr. Yabin Liu and Mr. Fude Zhang, may be difficult to replace and could have an adverse affect on our operations and future business prospects.

 

 

In addition, our continued operations are dependent upon our ability to identify and recruit adequate engineering personnel in China. We require trained graduates of varying levels of experience and a flexible work force of semi-skilled operators. Given the current rate of economic growth in China, competition for qualified personnel will be substantial. Wage rates that we must offer our employees to retain qualified personnel may not enable us to remain competitive.

 

Limitations on the ability of our operating subsidiary to make payments to us could have a material adverse effect on our ability to conduct our business and fund our operations.

 

We are a holding company and conduct substantially all of our business through our principal operating subsidiary, Beijing Wowjoint Machinery Co. Ltd. and affiliated entities. The payment of dividends by entities organized in China is subject to limitations. In particular, regulations in China currently permit payment of dividends only out of accumulated profits as determined in accordance with PRC accounting standards and regulations. Beijing Wowjoint Machinery Co. Ltd. (“BWMC”) is also required to set aside at least 10% of its after-tax profit based on PRC accounting standards each year to its general reserves until the accumulative amount of such reserves reaches 50% of its registered capital. These reserves are not distributable as cash dividends. In addition, it is required to allocate a portion of its after-tax profit to its staff welfare and bonus fund at the discretion of its board of directors. Moreover, if Beijing Wowjoint Machinery Co. Ltd. incurs debt on its own behalf in the future, the instruments governing the debt may restrict its ability to pay dividends or make other distributions to us. Any limitation on the ability of our PRC subsidiaries to distribute dividends and make other distributions to us could materially and adversely limit our ability to make investments or acquisitions that could be beneficial to our businesses, pay dividends or otherwise fund and conduct our business.

 

Wowjoint currently enjoys certain preferential tax treatment in China; there can be no assurance that this will continue.

 

Pursuant to the PRC Income Tax Laws, prior to January 1, 2008, Chinese companies were subject to Enterprise Income Taxes (“EIT”) at a statutory rate of 33%, which consisted of 30% national income tax and 3% local income tax. Beginning January 1, 2008, the new EIT law replaced the existing laws for Domestic Enterprises (“DES”) and Foreign Invested Enterprises (“FIEs”). The new standard EIT rate of 25% replaced the 33% rate currently applicable to both DES and FIEs, except for High Tech companies who pay a reduced rate of 15%. Companies established before March 16, 2007 will continue to enjoy tax holiday treatment approved by local government until the tax holiday term is completed, whichever is determined by local government.

 

We currently qualify as a High Technology company, a classification which is available to companies that consistently invest in the research and development of new technology or products or own proprietary intellectual property rights in key areas supported by the PRC government, and meet certain minimum revenue and employment requirements. As a result, we are entitled to preferential tax treatment and enjoy the benefit of a reduced income tax rate at 15%. We have received a 50% tax exemption (Tax Exemption Certificate) from the tax authorities in the PRC for corporate enterprise income tax for the years ended August 31, 2007, 2008 and 2009. The approved income tax rate for the company was 7.5%, which ended on December 31, 2009. Starting January 1, 2010, we became subject to a tax rate of 15% for three calendar years until December 31, 2012. In 2013 the tax rate was 15%. We will be reviewed again and will know by December 2014 if we still qualify as a high tech company. If yes, 15% tax rate will be applicable for another three years. If not, we will be subject to a 25% tax rate from 2014 onwards.

 

 

If we cannot compete successfully for market share against other non-standard construction equipment and machinery companies, we may not achieve sufficient revenues and our business could suffer.

 

The market for our products and services is characterized by intense competition and rapid technological advances. Our products and services compete with a multitude of products and services developed, manufactured and marketed by others. We will also compete with new market entrants in the future. Existing or future competing products may be of higher quality, contain more sophisticated technology, provide greater utility or other benefits, or may offer comparable performance at a lower cost. We must therefore continue to develop innovative new solutions and products for our customers to remain competitive. If our products fail to capture and maintain market share, we may not achieve sufficient product revenues, and our business could suffer.

 

We are subject to increasing environmental regulation

 

Our facilities, operations and products are subject to increasingly stringent environmental laws and regulations, including laws and regulations governing air emissions, discharges to water and the generation, handling, storage, transportation, treatment and disposal of waste materials. While we believe we are in compliance in all material respects with these environmental laws and regulations, there can be no assurance that we will not be adversely affected by costs, liabilities or claims with respect to existing or subsequently acquired operations resulting from present laws and regulations or those that may be adopted or imposed in the future.

 

Risks Associated with Conducting Business in China

 

Our results of operations, financial position and prospects are subject to a certain degree to the economic, political and legal developments of the PRC.

 

Political and economic policies of the PRC government could affect Wowjoint's business and results of operations.

 

The Chinese economy differs from the economies of most developed countries in a number of respects, including:

	●	its structure;
	●	level of government involvement;
	●	level of development;
	●	growth rate;
	●	level of capital reinvestment;
	●	control of capital reinvestment;
	●	control of foreign exchange; and
	●	allocation of resources.

 

Prior to the PRC government’s adoption of reform and the “Open Door” policies in 1978, China was a planned economy. Since then, the PRC government has implemented a number of measures to encourage growth and to guide the allocation of resources, thus resulting in significant economic and social development in the past 30 years. China has since transitioned into a more market-oriented economy.

 

Although the PRC government still owns a significant portion of the productive assets in China, economic reform policies since the late 1970s have encouraged the development of autonomous and privately owned businesses, the utilization of market forces and the establishment of good corporate governance measures in China. We cannot predict whether changes resulting from these reforms in China’s political, economic and social conditions and policies, or in relevant laws and regulations, will have any adverse effects on our current or future business, operational results or financial condition.

 

In addition, our ability to continue to sustain and expand our business is dependent on a number of factors, including general economic and capital market conditions and credit availability from banks or other lenders. Recently, the PRC government has articulated a need to control the rate of economic growth and has been reported to be tightening its monetary policies, including increasing interest rates on bank loans and deposits and tightening the money supply to control growth in lending. We cannot give any assurance that further measures to control growth in lending will not be implemented in a manner that may adversely affect its future growth and profitability. Furthermore, we cannot assure that the historical economic and market conditions affecting our business will continue, or that we will be able to sustain its growth.

 

 

Uncertainties with respect to the PRC legal system could limit the legal protections available to Wowjoint and its shareholders.

 

Our operating subsidiaries and associated companies are generally subject to laws and regulations applicable to foreign investments in China and, in particular, laws applicable to foreign-invested enterprises. The PRC legal system is based on written statutes, and prior court decisions may be cited for reference but have limited precedential value. Since 1979, a series of new PRC laws and regulations have significantly enhanced the protections afforded to various forms of foreign investments in China. However, since the PRC legal system continues to rapidly evolve, the interpretations of many laws, regulations and rules are not always uniform and the enforcement of these laws, regulations and rules involve uncertainties that may limit legal protections available to our shareholders and us. In addition, any litigation in China may be protracted and result in substantial costs and the diversion of resources and management attention.

 

Fluctuations in China's economy may slow the growth of Wowjoint and reduce its profitability.

 

China has been one of the world’s fastest growing economies as measured by GDP in recent years. It has also been one of the driving forces for the heightened demand in the world’s construction equipment industry. However, China may not be able to sustain such a growth rate. In addition, a slowdown in the economies of the United States, the European Union and certain Asian nations, with which China has important trade relationships, may adversely affect the economic growth of China, which may in turn lead to a decrease in demand for China’s construction equipment and correspondingly, demand for our services. We cannot assure that its financial condition and operational results, as well as its future prospects, will not be adversely affected by an economic downturn in China.

 

Changes in the laws, regulations and policies adopted by the PRC government, including in relation to the environment, labor and taxation, may adversely affect our business, growth strategies, operating results and financial condition.

 

The political, economic and social conditions in the PRC differ from those in more developed countries in many respects, including structure, government involvement, level of development, growth rate, control of foreign exchange, capital reinvestment, allocation of resources, rate of inflation and trade balance position. For the past three decades, the PRC government has implemented economic reform and measures emphasizing the utilization of market forces in the development of the PRC economy. Although we believe these economic reforms and measures will have a positive effect on the PRC’s overall and long-term development, the resulting changes may also have any adverse effect on our current or future business, financial condition or results of operations. Despite these economic reforms and measures, the PRC government continues to play a significant role in regulating industrial development, the allocation of natural resources, production, pricing and management of currency, and there can be no assurance that the PRC government will continue to pursue a policy of economic reform or that the current direction of reform will continue.

 

Our ability to successfully expand our business operations in the PRC depends on a number of factors, including macroeconomic and other market conditions and credit availability from lending institutions. Stricter lending policies in the PRC may affect our ability to obtain external financing, which may reduce our ability to implement our expansion strategies. We cannot assure you that the PRC government will not implement any additional measures to tighten lending standards or that, if any such measure is implemented, it will not adversely affect our future results of operations or profitability.

 

Demand for our products and our business, financial condition and results of operations may be adversely affected by the following factors:

 

	·	political instability or changes in social conditions in the PRC;
	·	changes in laws, regulations and administrative directives;
	·	measures which may be introduced to control inflation or deflation;
	·	changes in the rate or method of taxation; and
	·	reduction in tariff protection and other import and export restrictions.

 

These factors are affected by a number of variables that are beyond our control.

 

 

Changes in PRC tax laws may result in Wowjoint being subject to a higher income tax rate.

 

Under the new PRC Enterprise Income Tax Law that became effective on January 1, 2008 (the “New EIT Law”), enterprises organized under the laws of jurisdictions outside the PRC with their de facto management bodies located within the PRC may be considered PRC resident enterprises and therefore subject to PRC enterprise income tax at the rate of 25% on their worldwide income. The New EIT Law, however, does not define the term “de facto management bodies”. If, among other things, a portion of our management continues to be located in the PRC, the Company may be considered a PRC resident enterprise by PRC tax administration and therefore subject to PRC enterprise income tax at the rate of 25% on our worldwide income, which may have a material adverse effect on our financial results. In addition, although the New EIT Law provides that “dividend income between qualified resident enterprises” is exempted income, it is still unclear as to what is considered a “qualified resident enterprise” under the New EIT Law.

 

Almost all of Wowjoint's assets are located in China and a majority of its revenue are derived from its operations in China. Accordingly, Wowjoint’s results of operations and prospects are subject, to a significant extent, to the economic, political and legal developments in China.

 

The PRC’s economic, political and social conditions, as well as government policies, could affect our business. The PRC economy differs from the economies of most developed countries in many respects.

 

Since 1978, China has been one of the world’s fastest-growing economies in terms of gross domestic product (GDP) growth. There can be no assurance, however, that such growth will be sustained in the future. If in the future China’s economy experiences a downturn or grows at a slower rate than expected, there may be less demand for spending in certain industries. The PRC’s economic growth has been uneven, both geographically and among various sectors of the economy. The PRC government has implemented various measures to encourage sustainable economic growth and guide the allocation of resources. The PRC government has also begun to use macroeconomic tools to decelerate the rate of Chinese economic growth. Some of these measures benefit the overall PRC economy, but may also have a negative effect on our business.

 

The PRC economy has been transitioning from a planned economy to a more market-oriented economy. Although in recent years the PRC government has implemented measures emphasizing the use 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 PRC government. In addition, the PRC government continues to play a significant role in regulating industry development by imposing industrial policies. It also exercises significant control over PRC economic growth through the allocation of resources, and by controlling payment of foreign currency-denominated obligations, setting monetary policy and providing preferential treatment to particular industries or companies. We cannot assure that China’s economic, political or legal systems will not develop in a way that becomes detrimental to our business prospects, financial conditions and results of operations.

 

If the PRC government finds that Wowjoint’s organizational structure does not comply with PRC governmental restrictions on foreign investment, or if these regulations or the interpretation of existing regulations change in the future, it could be subject to significant penalties or be forced to relinquish its interests in those operations.

 

If Wowjoint or any of its potential future subsidiaries or affiliated entities are found to be in violation of any existing or future PRC laws or regulations, the relevant PRC regulatory authorities might have the discretion to:

 

	●	revoke the business and operating licenses of possible future PRC subsidiaries or affiliates;
	●	confiscate relevant income and impose fines and other penalties;
	●	discontinue or restrict possible future PRC subsidiaries’ or affiliates’ operations;
	●	require Wowjoint or possible future PRC subsidiaries or affiliates to restructure the relevant ownership structure or operations;
	●	restrict or prohibit remittance of any profits or dividends abroad by our PRC subsidiaries or affiliates;
	●	impose conditions or requirements with which Wowjoint or possible future PRC subsidiaries or affiliates may be not be able to comply.

 

 

The imposition if any of these penalties could have a material adverse effect on our ability to conduct business.

 

In addition, the relevant PRC regulatory authorities may impose further penalties. Any of these consequences could have a material adverse effect on our operations.

 

In many cases, existing regulations with regard to investments from foreign investors and domestic private capital investors lack detailed explanations and operational procedures, and are subject to interpretations that may change over time. We thus cannot be certain how the regulations will be applied to its business, either currently or in the future. Moreover, new regulations may be adopted or the interpretation of existing regulations may change, any of which could result in similar penalties and have a material adverse effect upon our ability to conduct our business.

 

Because Chinese law governs a large portion of Wowjoint's current material agreements, it may not be able to enforce its rights within the PRC or elsewhere, which could result in a significant loss of business, business opportunities or capital.

 

We cannot assure you that we will be able to enforce any of our material agreements governed by Chinese law or that remedies will be available outside of the PRC. The Chinese legal system is similar to a civil law system based on written statutes. Unlike common law systems, it is a system in which decided legal cases have little precedential value. Although legislation in China over the past 25 years has significantly improved the protection afforded to various forms of foreign investment and contractual arrangements in China, these laws, regulations and legal requirements are relatively new. Due to the limited volume of published judicial decisions, their non-binding nature, the short history since their enactments, the discrete understanding of the judges or government agencies of the same legal provision, the inconsistent professional abilities of the judicators, and the inclination to protect local interests, interpretation and enforcement of PRC laws and regulations involve uncertainties which could limit the legal protection available to Wowjoint and foreign investors. The inability to enforce or obtain a remedy under any of our future agreements could result in a significant loss of business, business opportunities or capital and could have a material adverse impact on our business prospects, financial condition, and results of operations. In addition, the PRC legal system is based in part on government policies and internal rules (some of which are not published on a timely basis or at all) that may have a retroactive effect. As a result, we may not be aware of its violation of these policies and rules until sometime after the violation. In addition, any litigation in China, regardless of outcome, may be protracted and result in substantial costs and diversion of resources and management attention.

 

If the PRC imposes restrictions to reduce inflation, future economic growth in the PRC could be severely curtailed, which could lead to a significant decrease in Wowjoint’s profitability.

 

While the economy of the PRC has experienced rapid growth, this growth has been uneven among various sectors of the economy and in different geographical areas of the country. Rapid economic growth can lead to growth in the supply of money and rising inflation. In order to control inflation, in the past the PRC has imposed controls on bank credit, limits on loans for fixed assets and restrictions on state bank lending. If similar restrictions are imposed, it may lead to a slowing of economic growth and decrease interest in the services or products we may ultimately offer, leading to a decline in our profitability.

 

 

As a result of merger and acquisition regulations which became effective on September 8, 2006 relating to acquisitions of assets and equity interests of Chinese companies by foreign persons, it is expected that acquisitions will take longer and be subject to economic scrutiny by the PRC government authorities such that Wowjoint may not be able to complete a transaction, negotiate a transaction that is acceptable to its shareholders, or sufficiently protect shareholder’s interests in a transaction.

 

On August 8, 2006, six PRC regulatory agencies, namely, the Ministry of Commerce (“MOFCOM”), the State Assets Supervision and Administration Commission (“SASAC”), the State Administration for Taxation, the State Administration for Industry and Commerce (“SAIC”), the China Securities Regulatory Committee (“CSRC”), and the PRC State Administration of Foreign Exchange (“SAFE”), jointly adopted the Regulations on Mergers and Acquisitions of Domestic Enterprises by Foreign Investors, which became effective on September 8, 2006 (the “M&A Rules”). These comprehensive rules govern the approval process by which a Chinese company may participate in an acquisition of its assets or its equity interests and by which a Chinese company may obtain public trading of its securities on a securities exchange outside the PRC.

 

Although prior to September 8, 2006 there was a complex series of regulations administered by a combination of provincial and centralized agencies for approval of acquisitions of Chinese enterprises by foreign investors, the M&A Rules have largely centralized and expanded the approval process to MOFCOM, SAIC, SAFE or its branch offices, SASAC, and the CSRC. The M&A Rules established, among other things, additional procedures and requirements that could make merger and acquisition activities by foreign investors more time-consuming and complex, including the requirement in some instances that the MOFCOM be notified in advance when a foreign investor acquires equity or assets of a PRC domestic enterprise. Complying with the requirements of the M&A Rules to complete such transactions could be time-consuming and involves significant uncertainty, and any required approval processes, including obtaining approval from the MOFCOM, may delay or inhibit our ability to complete such transactions, which could affect our ability to expand its business or maintain its market share.

 

Depending on the structure of the transaction, these regulations will require the Chinese parties to make a series of applications and supplemental applications to the aforementioned agencies, some of which must be made within strict time limits and require approvals from one or more of the aforementioned agencies. The application process has been supplemented to require the presentation of economic data concerning a transaction, the economic and substantive analysis of the target business and the acquirer and the terms of the transaction by MOFCOM and the other governing agencies, as well as an evaluation of compliance with legal requirements. The application process for approval now includes submissions of an appraisal report, an evaluation report and the acquisition agreement, depending on the structure of the transaction. An employee settlement plan for the target company shall also be included in the application.

 

The M&A Rules also prohibit a transaction at an acquisition price obviously lower than the appraised value of the Chinese business or assets. The regulations require that in certain transaction structures, the consideration must be paid within strict time periods, generally not in excess of a year. In the agreement reached by the foreign acquirer, target, creditors and other parties, there must be no harm to third parties and the public interest in the allocation of assets and liabilities being assumed or acquired.

 

It is expected that compliance with the regulations will be more time consuming than in the past, will be more costly for the Chinese parties and will permit the government to conduct a much more extensive evaluation and exercise much greater control over the terms of the transaction. Therefore, acquisitions in China may not be able to be completed because the terms of the transaction may not satisfy aspects of the approval process or, even if approved, because they are not consummated within the time permitted.

 

Ambiguities in the M&A Rules may make it difficult for Wowjoint to properly comply with all applicable rules and may affect Wowjoint's ability to consummate an acquisition.

 

Although the M&A Rules set forth many requirements that have to be followed, there are many ambiguities with respect to the meaning of many provisions of the M&A Rules. Moreover, the ambiguities give regulators wide latitude in the enforcement of regulations and approval of transactions. Therefore, we cannot predict the extent to which the M&A Rules will apply to any acquisition transition in connection with Wowjoint, and therefore, there may be uncertainty in whether or not the transaction that has or will be completed by us will violate the M&A Rules.

 

 

Foreign exchange controls that exist in the PRC may limit Wowjoint's ability to utilize its cash flow.

 

We are subject to the PRC’s rules and regulations on currency conversion. In the PRC, the SAFE regulates the conversion of the Renminbi into foreign currencies. Under PRC regulations, Renminbi may be converted into foreign currency for payments relating to “current account transactions,” which include among other things dividend payments and payments for the import of goods and services, by complying with certain procedural requirements. our PRC subsidiaries may also retain foreign exchange in their respective current bank accounts, subject to a cap set by SAFE or its local counterpart, for use in payment of international current account transactions.

 

However, conversion of Renminbi into foreign currencies, and vice versa, for payments relating to “capital account transactions,” which principally includes investments and loans, generally requires the approval of SAFE and other relevant PRC governmental authorities. Restrictions on the convertibility of the Renminbi for capital account transactions could affect the ability of our PRC subsidiaries to make investments overseas or to obtain foreign exchange through debt or equity financing, including by means of loans or capital contributions from the parent entity.

 

Any existing and future restrictions on currency exchange may affect the ability of our PRC subsidiaries or affiliated entities to obtain foreign currencies, limit our ability to utilize revenues generated in Renminbi to fund our business activities outside China that are denominated in foreign currencies, or otherwise materially and adversely affect our business.

 

A failure by Wowjoint’s shareholders or beneficial owners who are PRC citizens or residents to comply with certain PRC foreign exchange regulations could restrict Wowjoint’s ability to distribute profits, restrict Wowjoint’s overseas and cross-border investment activities or subject the combined company to liability under PRC laws, which could adversely affect Wowjoint’s business and financial condition.

 

In October 2005, SAFE issued the Notice on Relevant Issues Concerning Foreign Exchange Administration for PRC Residents Engaging in Financing and Round-trip Investments via Overseas Special Purpose Vehicles, or SAFE Circular 75. SAFE Circular 75 states that PRC citizens or residents must register with SAFE or its local branch in connection with their establishment or control of an offshore entity established for the purpose of overseas equity financing involving a round-trip investment whereby the offshore entity acquires or controls onshore assets or equity interests held by the PRC citizens or residents. In addition, such PRC citizens or residents must update their SAFE registrations when the offshore SPV undergoes material events relating to increases or decreases in investment amount, transfers or exchanges of shares, mergers or divisions, long-term equity or debt investments, external guarantees, or other material events that do not involve round-trip investments. To further clarify the implementation of SAFE Circular 75, SAFE issued SAFE Circular 106 on May 29, 2007. Under SAFE Circular 106, PRC subsidiaries of an offshore company governed by SAFE Circular 75 are required to coordinate and supervise the filing of SAFE registrations in a timely manner by the offshore holding company’s shareholders who are PRC residents.

 

We were aware of the relevant requirements of SAFE Circulars 75 and 106 when the acquisition of Beijing Wowjoint by China Fundamental was completed on February 22, 2010. For this purpose, Beijing Wowjoint retained a PRC legal counsel to certify the compliance with the requirements of SAFE Circulars 75 and 106 by the PRC subsidiaries at the closing of the acquisition. Consequently, a PRC law firm was retained by the Wowjoint Group to issue a PRC legal opinion on February 22, 2010 for the benefit of China Fundamental. According to the PRC legal opinion for the benefit of China Fundamental, neither Circular 75 nor any of its implementing rules are applicable to the acquisition of February 22, 2010, since at the time of the completion of the acquisition, Giant Nova did not legally own any interest in any of the PRC subsidiaries despite the fact that its ultimate beneficial shareholders were also the majority shareholders of Beijing Wowjoint Machinery Company. As such, the acquisition of Giant Nova should not be treated as an acquisition of an offshore entity with substantial PRC assets or business. China Fundamental Acquisition Corp acquired the Beijing Wowjoint Machinery assets and business through acquiring Authentic Genius Limited (Hong Kong) and its subsidiary through a VIE structure. Authentic Genius Limited had no PRC shareholders at the time of acquisition. Based upon such facts, our PRC counsel concluded that neither Circular 75 nor any of its implementing rules are applicable to the acquisition. Upon the strength of such PRC legal opinion, our management concluded that the shareholders of the PRC subsidiaries were not required to make a SAFE Circular 75 filing prior to or on the closing of the acquisition. Further, in March 2010, our PRC resident shareholders inquired through the local SAFE branch about the relevant SAFE regulations. However, the local SAFE branch was not certain about whether the registration requirements applied to our PRC resident shareholders with our corporate structure. If shareholders who are subject to the SAFE regulations fail to comply, the PRC subsidiaries are required to report such failure to the local SAFE authorities. Our management believes that the shareholders of the PRC subsidiaries were not required to make a SAFE Circular 75 filing prior to or upon the closing of the acquisition, or upon the transfer of the ownership interests from Beijing Wowjoint Machinery Co., Ltd. to BXFI.

 

 

Despite various interpretations issued by SAFE, some of the terms and provisions in the SAFE regulations remain unclear and implementation by central SAFE and local SAFE branches of the SAFE regulations has been inconsistent since its adoption in 2005. Because of uncertainty over how the SAFE regulations will be interpreted and implemented, and how SAFE will apply them to us, we cannot predict how these regulations will affect our business operations or future strategies. For example, our present and prospective PRC subsidiaries’ ability to conduct foreign exchange activities, such as the remittance of dividends and foreign currency-denominated borrowings, may be subject to compliance with the SAFE regulations by our PRC resident shareholders. In addition, in some cases, we may have little control over either our present or prospective direct or indirect PRC resident shareholders or the outcome of such registration procedures. A failure by our PRC resident shareholders or future PRC resident shareholders to comply with the SAFE regulations, if SAFE requires it, could subject us or our PRC resident shareholders to penalties or other legal sanctions, restrict our cross-border investment activities, restrict our ability to contribute additional capital into our PRC subsidiaries, including the transfer of the proceeds from this offering into our PRC subsidiaries, or limit our subsidiary’s ability to make distributions or pay dividends, affect our ownership structure, or result in liability under PCR law for evasion of applicable foreign exchange restrictions, which could adversely affect our business and prospects.

 

We are committed to complying, and to ensuring that our shareholders, who are PRC citizens or residents, comply with the SAFE Circular 75 requirements after the acquisition. However, we cannot assure that we, or our owners, will be able to complete the necessary filings and registrations with SAFE for the proposed business combination on a timely basis.

 

Dividends payable by us to our foreign investors and profits on the sale of our shares may be subject to tax under PRC tax laws.

 

Under the Implementing Regulations for the Corporate Income Tax Law , PRC income tax at the rate of 10% is applicable to dividends payable to investors that are “non-resident enterprises,” not having an establishment or place of business in the PRC, or which do have such establishment or place of business but the relevant income is not effectively connected with the establishment or place of business, to the extent that such dividends have their sources within the PRC. Similarly, any profits realized through the transfer of shares by such investors are also subject to 10% PRC income tax if such profits are regarded as income derived from sources within the PRC. If we are considered a PRC “resident enterprise,” it is unclear whether dividends we pay with respect to our share, or the profits you may realize from the transfer of our shares, would be treated as income derived from sources within the PRC and be subject to PRC tax. If we are required under the Implementing Regulations for the Corporate Income Tax Law to withhold PRC income tax on dividends payable to our non-PRC investors that are “non-resident enterprises,” or if you are required to pay PRC income tax on the transfer of our shares, the value of your investment in our shares may be materially and adversely affected.

 

We may be classified as a “resident enterprise” under PRC Enterprise Income Tax Law, or “EIT Law,” and be subject to PRC taxation on our worldwide income.

 

China passed a new EIT Law effective on January 1, 2008. Under the EIT Law, enterprises are classified as resident enterprises and non-resident enterprises. An enterprise established outside of China with its “de facto management bodies” located within China is considered a “resident enterprise,” meaning it can be treated in a manner similar to a Chinese enterprise for enterprise income tax purposes. The implementation rules to the EIT law define “de facto management bodies.” Further, on April 22, 2009, the PRC State Administration of Taxation issued the Notice of the State Administration of Taxation on Issues about the Determination of Chinese-controlled Enterprises Registered Abroad as Resident Enterprises on the Basis of their De Facto Management Bodies (“Notice 82”). However it remains unclear how the PRC tax authorities will interpret and implement such rules. Our senior management are primarily located in the PRC, and almost all of our revenues currently arise from our operations in China.

 

 

Under the law, a Tax Resident Enterprise (“TRE”) refers to an enterprise that is established in accordance with the laws in China, or an enterprise that is established in accordance with the laws of foreign countries but with "a place of effective management" located with China.  The “place of effective management” refers to an establishment that exercises, in substance, overall management and control over the production and business, personnel, accounting and property of an enterprise.

 

Wowjoint Holdings mainly serves as a vehicle to hold the operating entities and to obtain finance from international capital markets, and only generates passive interest income. Our senior management, assets and financial accounting books are primarily located in the PRC, as are three of our five directors. Most of our in-person regular/quarterly board meetings are held in China, and major strategic business decisions are generally made in China.

 

Based on the above factors, we are likely to be recognized as a resident enterprise by PRC tax authorities. In accordance with the EIT Law, dividends, which arise from tax resident enterprise to non-tax resident enterprise, are subject to a 10% withholding income tax, while dividends which arise from tax resident enterprise to a tax resident enterprise, are tax free. Therefore, if we are recognized as a resident enterprise, withholding tax is zero when it receives dividends from its subsidiaries incorporated in PRC.

 

If the PRC tax authorities determine that we are a “resident enterprise” for PRC enterprise income tax purposes, a number of unfavorable PRC tax consequences could follow. First, we may be subject to enterprise income tax at a rate of 25% on our worldwide taxable income, as well as PRC enterprise income tax reporting obligations. Second, under the EIT Law and its implementing rules, as well as Notice 82, dividends paid to us are each treated as a “resident enterprise” under EIT Law and may qualify as “tax-exempt income,” and withholding tax may be exempted in this case. However, due to the uncertainty about how the PRC tax authorities will interpret and implement the above-mentioned new rules, such dividends may be subject to withholding tax (generally at a rate of 10% or, if the Arrangement between the Mainland of China and the Hong Kong Special Administrative Region for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income is applicable, 5%). Finally, the new “resident enterprise” classification could result in a 10% PRC tax being imposed on dividends we pay to our non-PRC security holders that are not PRC tax “resident enterprises” and gains derived by them from transferring our securities, if such income is considered PRC-sourced income by the relevant PRC tax authorities.

 

It is unclear how the relevant governmental authorities will interpret and implement the laws and regulations pertaining to offshore and cross-border taxes. Given this uncertainty, there is a risk that we could be subject to unfavorable tax treatment.

 

 If any such PRC taxes apply, a non-PRC security holder may be entitled to a reduced rate of PRC taxes under an applicable income tax treaty and/or a foreign tax credit against such security holder’s domestic income tax liability (subject to applicable conditions and limitations). You should consult with your own tax advisors regarding the applicability of any taxes, the effects of any applicable income tax treaties, and any available foreign tax credits.

 

Risks Related to Our Organization

 

Affiliates of Mr. Yabin Liu,the Company’s executive officers, beneficially own a majority of our voting shares.

 

Realink Group Limited, or Realink, and Wowjoint International Limited, may be deemed to beneficially own approximately 54.3% of our voting power. Realink is controlled by our executive officers. Mr. Yabin Liu, our Chief Executive Officer and Chairman is a 44.4% holder of Realink, a British Virgin Island company.  Mr. Fude Zhang, our Chief Technical Officer and director, is a 39.5% holder of Realink, and Mr. Liguo Liu is a 5.4% holder of Realink. Mr. Yasheng Liu, former Senior Vice President and the younger brother of Mr. Yabin Liu, who passed away in May 2011, was a 10.7% owner.  Mr. Yabin Liu is a director of Wowjoint International Limited and therefore may be deemed as the beneficial owner of the ordinary shares owned by Wowjoint International Limited.

 

 

Because of its control of our voting power, Realink is able to indirectly exert considerable control over us and is able to influence the appointment of management and the outcome of all matters requiring shareholder approval. Realink’s affiliates may be able to cause, prevent or delay a change of control of us or a change in the composition of our board of directors and could preclude any unsolicited acquisition of us. In addition, because affiliates of Realink may substantially determine the outcome of a shareholder vote, Realink’s affiliates could deprive shareholders of an opportunity to receive a premium for their shares as part of a sale of Wowjoint, and that voting control could ultimately affect the market price of our ordinary shares.
 

As a result, our executive officers have substantial influence over our business, including decisions regarding mergers, consolidations and the sale of all or substantially all of our assets, election of directors and other significant corporate actions. They may take actions that are not in the best interest of us or our other shareholders. This concentration of ownership may discourage, delay or prevent a change in control of our company, which could deprive our shareholders of an opportunity to receive a premium for their shares as part of a sale of our company and may reduce the price of our shares. These actions may be taken even if they are opposed by our other shareholders. For more information regarding our principal shareholders and their affiliated entities, see “Item 7. Major Shareholders and Related Party Transactions.”

 

The disclosures in our reports and other filings with the SEC and our other public pronouncements are not subject to the scrutiny of any regulatory bodies in the PRC.

 

We are regulated by the SEC and our reports and other filings with the SEC are subject to SEC review in accordance with the rules and regulations promulgated by the SEC under the Securities Act and the Exchange Act. Our SEC reports and other disclosure and public pronouncements are not subject to the review or scrutiny of any PRC regulatory authority. For example, the disclosure in our SEC reports and other filings are not subject to the review by China Securities Regulatory Commission , a PRC regulator that is tasked with oversight of the capital markets in China. Accordingly, you should review our SEC reports, filings and our other public pronouncements with the understanding that no local regulator has done any review of our company, our SEC reports, other filings or any of our other public pronouncements.

 

We become directly subject to the recent scrutiny, criticism and negative publicity involving U.S.-listed Chinese companies at the end of 2011, we have expended significant resources to investigate and resolve the matter which could harm our business operations, stock price and reputation significantly and could result in a loss of your investment in our stock, especially if such matter cannot be addressed and resolved favorably.

 

Recently, U.S. public companies that have substantially all of their operations in China, particularly companies like us which have completed so-called reverse merger transactions, have been the subject of intense scrutiny, criticism and negative publicity by investors, financial commentators and regulatory agencies, such as the SEC. Much of the scrutiny, criticism and negative publicity has centered around financial and accounting irregularities and mistakes, a lack of effective internal controls over financial accounting, inadequate corporate governance policies or a lack of adherence thereto and, in many cases, allegations of fraud. As a result of the scrutiny, criticism and negative publicity, the publicly traded stock of many U.S. listed Chinese companies has sharply decreased in value and, in some cases, has become virtually worthless. Many of these companies are now subject to shareholder lawsuits and SEC enforcement actions and are conducting internal and external investigations into the allegations.

On December 23, 2011, we received two subpoenas from the Securities and Exchange Commission. The subpoenas require that Wowjoint provide certain categories of documents to the SEC and that a representative of Wowjoint testify before the SEC. As stated in the SEC correspondence that accompanied the subpoenas, the investigation and subpoenas should not be construed as an indication that violations of laws have occurred. The investigation is a non-public fact finding inquiry. It is not possible at this time to predict the outcome of the SEC investigation, including whether or when any proceedings might be initiated, when these matters may be resolved or what, if any, penalties or other remedies may be imposed. Wowjoint is committed to cooperating with the SEC.

 

This sector-wide scrutiny, criticism and negative publicity have had a negative effect on our Company, our business and our stock price. We have had to expend significant resources to investigate the matter and try to resolve the SEC investigation. This situation has been costly and time consuming and distracted our management from growing our company. If the SEC investigation cannot be resolved favorably, our company and business operations will be severely impacted and your investment in our stock could be rendered worthless.

 

Fulfilling our obligations incidental to being a public company will be expensive and time consuming.

 

Under the Sarbanes-Oxley Act of 2002 and the related rules and regulations of the U.S. Securities and Exchange Commission (“SEC”), we have been implementing additional corporate governance practices and adhering to a variety of reporting requirements and complex accounting rules. Compliance with these obligations has required significant management time, placed significant additional demands on our finance and accounting staffs and on our financial, accounting and information systems, and has significantly increased our insurance, legal and financial compliance costs and other expenses. In addition, we have also been implementing corporate governance practices of public companies. We expect these and other rules and regulations applicable to public companies to increase our accounting, legal and financial compliance costs and to make certain corporate activities more time-consuming and costly. While we cannot yet accurately predict the full extent of the additional costs we may incur or the timing of such costs, we anticipate that our additional annual cash needs as a result of being a public company will exceed US$1 million per annum. We have also been required to hire additional accounting and financial staff since the acquisition, including a chief financial officer and comptroller, with appropriate public company experience and technical accounting knowledge, resulting in higher expenses. If we are unable to comply with the requirements of the Sarbanes-Oxley Act, then we may not be able to obtain the reports from our independent registered public accountant required by the Sarbanes-Oxley Act, which may preclude us from keeping our filings with the SEC current. Non-current reporting companies are subject to various restrictions and penalties.

 

We must comply with Section 404 of the Sarbanes-Oxley Act, which requires us to document and test our internal controls over financial reporting. Any delays or difficulty in satisfying these requirements could adversely affect our future results of operations and stock price.

 

Section 404 of the Sarbanes-Oxley Act requires us to document and test the effectiveness of our internal controls over financial reporting in accordance with an established control framework and to report on our management’s conclusion as to the effectiveness of these internal controls over financial reporting beginning with the fiscal year 2012. Any delays or difficulty in satisfying these requirements could adversely affect future results of operations and our share price. We may also incur significant costs to comply with these requirements.

 

We may in the future discover areas of internal controls over financial reporting that need improvement. There can be no assurance that remedial measures will result in adequate internal controls over financial processes and reporting in the future. Any failure to implement the required new or improved controls, or difficulties encountered in their implementation, could have a material adverse affect on our results of operations or could cause us to fail to meet our reporting obligations. Now that we are unable to conclude that we have effective internal controls over financial reporting as required by Section 404 of the Sarbanes-Oxley Act for year ended December 31, 2013 due to our inability to file the annual report on Form 20-F on time, investors may lose confidence in the reliability of our financial statements, which could result in a decrease in the value of our securities. In addition, failure to comply with Section 404 of the Sarbanes-Oxley Act could potentially subject us to sanctions or investigation by the SEC or other regulatory authorities.

 

The Company may be classified as a passive foreign investment company for United States federal income tax purposes, which could subject United States investors in our ordinary shares to adverse tax consequences.

 

Depending upon the value of our ordinary shares and the nature of our assets and income over time, we could be classified as a passive foreign investment company (a "PFIC") for United States federal income tax purposes.  Because there are uncertainties in the application of the relevant rules and PFIC status is a fact-intensive determination made on an annual basis, there can be no assurance that we are not or will not become classified as a PFIC.  If we were to be classified as a PFIC in any taxable year, a U.S. Holder (as defined in "Taxation – United States Federal Income Tax Considerations) would be subject to special rules generally intended to reduce or eliminate any benefits from the deferral of United States federal income tax that a U.S. Holder could derive from investing in a non-United States corporation that does not distribute all of its earnings on a current basis.  Further, if we are classified as a PFIC for any year during which a U.S. Holder holds our ordinary shares, we generally will continue to be treated as a PFIC for all succeeding years during which such U.S. Holder holds our ordinary shares.  For more information see the section titled “Taxation – Certain U.S. Federal Income Tax Considerations”.

 

 

Risks Related to Our Securities

 

The price of our securities may continue to be volatile and may decrease in response to various factors, which could adversely affect our business and cause our shareholders to suffer significant losses.

 

Our securities are illiquid, and the prices of such securities have been and may continue to be volatile in the indefinite future. Only a limited market has developed for the purchase and sale of our securities. We cannot predict how liquid the market for our securities might become. Therefore, the purchase of our securities must be considered a long-term investment acceptable only for prospective investors who are willing and can afford to accept and bear the substantial risk of the investment for an indefinite period of time. Because there is a limited public market for the resale of our securities, investors in our securities may not be able to liquidate their investments and our securities may not be acceptable as collateral for a loan.

 

Since trading of our ordinary shares began on May 16, 2008, the high and low sale prices of our ordinary shares through May 30, 2014 were $7.98 and $0.04. The price of our securities could fluctuate widely in response to various factors, many of which are beyond our control, including the following:

 

	·	changes in our industry;
	·	competitive pricing pressures;
	·	our ability to obtain working capital or financing;
	·	additions or departures of key personnel;
	·	limited “public float” in the hands of a small number of persons, whose sales or lack of sales could result in positive or negative pricing pressure on the market price for our shares;
	·	sales of our shares;
	·	our ability to execute our business plan;
	·	operating results which fall below expectations due to lower than expected revenues, higher than anticipated expenses or other factors;
	·	loss of any strategic relationship;
	·	economic and other external factors; and
	·	period-to-period fluctuations in our financial results.

 

In addition, the securities markets have from time to time experienced significant price and volume fluctuations that are unrelated to the operating performance of particular companies. These market fluctuations may also materially and adversely affect the market price of our securities.

 

Because we do not intend to pay dividends on our shares, shareholders will benefit from an investment in our shares only if our shares appreciate in value.

 

We intend to retain all future earnings, if any, for use in the operations and expansion of our business. As a result, we do not anticipate paying cash dividends in the foreseeable future. Any future determination as to the declaration and payment of cash dividends will be at the discretion of our board of directors and will depend on factors our board of directors deem relevant, including among others, our results of operations, financial condition and cash requirements, business prospects, and the terms of our credit facilities and other financing arrangements. Accordingly, realization of a gain on shareholders’ investments will depend on the appreciation of the price of our shares. There is no guarantee that our shares will appreciate in value.

 

 

Offers or availability for sale of a substantial number of our ordinary shares may cause the price of our securities to decline.

 

The ability of our security holders to sell substantial amounts of our securities in the public market creates a circumstance commonly referred to as an “overhang,” and in anticipation of significant sales the market price of our securities could fall. The existence of an overhang, whether or not sales have occurred or are occurring, also could make it more difficult for us to raise additional financing through the sale of equity or equity-related securities in the future at a time and price that we deem reasonable or appropriate.