UNITED STATES


SECURITIES AND EXCHANGE COMMISSION


Washington, D.C. 20549





FORM 20-F





(Mark One)





o
REGISTRATIONSTATEMENTPURSUANTTOSECTION12(b)OR(g)OFTHESECURITIES EXCHANGE ACT OF 1934





OR





x
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934


For the fiscal year ended December 31, 2014





OR





o
TRANSITIONREPORTPURSUANTTOSECTION13OR15(d)OFTHESECURITIESEXCHANGE ACT OF 1934





OR





o
SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934




Date of event requiring this shell company report





For the transition period from               to





Commission file number:




ZUOAN FASHION LIMITED


(Exact name of Registrant as specified in its charter)





Not Applicable


(Translation of Registrant’s name into English)





Cayman Islands


(Jurisdiction of incorporation or organization)





Building 1, Lane 618


Dingyuan Road, Songjiang District


Shanghai 201616, China


(Address of principal executive offices)




James Jinshan Hong


Chairman and Chief Executive Officer


Telephone: (86)-21-5653-5558


E-mail: jameshong@zuoancn.com


Facsimile: (86)-21-5653-5557


Building 1, Lane 618


Dingyuan Road, Songjiang District


Shanghai 201616, China


(Name, Telephone, E-mail and/or Facsimile number and Address of Company Contact Person)





Securities registered or to be registered pursuant to Section 12(b) of the Act:




Titleofeachclass

Name of each exchange on which registeredOrdinary Shares, par value $0.00025 per ordinary share

The New York Stock Exchange*







* Not for trading, but only in connection with the listing on the New York Stock Exchange of American Depositary Shares representing such Ordinary Shares










Securities registered or to be registered pursuant to Section 12(g) of the Act: None





Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act: None





Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of the close of the period covered by the annual report.





Title of Class

Number of Shares OutstandingOrdinary Shares

111,276,113




Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.





Yes o
No x




If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.





Yes o
No x




Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.





Yes x
No o




Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).





Yes o
No o





Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):




Large accelerated filer o
Accelerated filer o
Non-accelerated filer x




Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements included in this filing:





o
U.S. GAAP





x
International Financial Reporting Standards as issued by the International Accounting Standards Board





o
Other





If “Other” has been checked in response to the previous question, indicate by check mark which financial statement item the registrant has elected to follow.





o Item 17
x Item 18





If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).





Yes o
No x




[APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE PAST FIVE YEARS]


Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Section 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court.





Yes o
No o












TABLE OF CONTENTS





PageSPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
1CERTAIN CONVENTIONS
1PART I
1ITEM 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS
1ITEM 2. OFFER STATISTICS AND EXPECTED TIMETABLE
1ITEM 3. KEY INFORMATION
13.A. Selected Financial Data
13.B. Capitalization and Indebtedness
43.C. Reason for the Offer and Use of Proceeds
43.D. Risk Factors
4ITEM 4. INFORMATION ON THE COMPANY
224.A. History and Development of the Company
224.B. Business Overview
224.C. Organizational Structure
384.D. Property, Plant and Equipment
38ITEM 4A. UNRESOLVED STAFF COMMENTS
38ITEM 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS
395.A. Operating Results
395.B. Liquidity and Capital Resources
495.C. Research and Development
515.D. Trend Information
515.E. Off-Balance Sheet Arrangements
515.F. Tabular Disclosure of Contractual Obligations
51ITEM 6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES
536.A. Directors and Senior Management
536.B. Compensation of Directors and Executive Officers
556.C. Board Practices
556.D. Employees
576.E. Share Ownership
59ITEM 7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS
597.A. Major Shareholders
597.B. Related Party Transactions
607.C. Interests of Experts and Counsel
62ITEM 8. FINANCIAL INFORMATION
628.A. Consolidated Statements and Other Financial Information
628.B. Significant Changes
63ITEM 9. THE OFFER AND LISTING
639.A. Offer and Listing Details
639.B. Plan of Distribution
649.C. Markets
649.D. Selling Shareholders
649.E. Dilution
649.F. Expenses of the Issue
64ITEM 10. ADDITIONAL INFORMATION
6410.A. Share Capital
6410.B. Memorandum and Articles of Association
6410.C. Material Contracts
6410.D. Exchange Controls
6410.E. Taxation
6510.F. Dividends and Paying Agents
6910.G. Statement by Experts
6910.H. Documents on Display
6910.I. Subsidiary Information
69








i




ITEM 11. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
69ITEM 12. DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES
7012.A. Debt Securities
7012.B. Warrants and Rights
7012.C. Other Securities
7012.D. American Depositary Shares
70PART II
72ITEM 13. DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES
72ITEM 14. MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS
72ITEM 15. CONTROLS AND PROCEDURES
72ITEM 16A. AUDIT COMMITTEE FINANCIAL EXPERT
73ITEM 16B. CODE OF ETHICS
73ITEM 16C. PRINCIPAL ACCOUNTANT FEES AND SERVICES
73ITEM 16D. EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES
74ITEM 16E. PURCHASES OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS
74ITEM 16F. CHANGE IN REGISTRANT’S CERTIFYING ACCOUNTANT
74ITEM 16G. CORPORATE GOVERNANCE
74ITEM 16H. MINE SAFETY DISCLOSURE
74PART III
75ITEM 17. FINANCIAL STATEMENTS
75ITEM 18. FINANCIAL STATEMENTS
75ITEM 19. EXHIBITS
75SIGNATURES
77







ii
 Table of Contents




SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS





This annual report on Form 20-F contains “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act. Although these forward-looking statements, which may include statements regarding our future results of operations, financial condition, or business prospects, are based on our own information and information from other sources we believe to be reliable, you should not place undue reliance on these forward-looking statements, which apply only as of the date of this annual report on Form 20-F. The words “anticipate,” “believe,” “expect,” “intend,” “plan,” “estimate” and similar expressions, as they relate to us, are intended to identify a number of these forward-looking statements. Our actual results of operations, financial condition or business prospects may differ materially from those expressed or implied in these forward-looking statements for a variety of reasons, including, among other things and not limited to, our anticipated growth strategies, including our strategy to expand our distribution network, our flagship stores and our design and product development capabilities, our future business development, results of operations and financial condition, expected changes in our revenues and certain cost or expense items, our ability to promote our brand based on consumer preference or demand, our ability to control the ultimate retail sales by our distributors and their sub-distributors, trends and competition in the fashion casual menswear industry, and other factors. For a discussion of these risks and other factors, please see “Item 3.D. Key Information—Risk Factors.”





CERTAIN CONVENTIONS





Except where the context otherwise requires and for purposes of this annual report only:





•
“we,” “us,” “our company” and “our” refer to Zuoan Fashion Limited, a Cayman Islands company, or Zuoan Cayman, and its subsidiaries and predecessor entities;





•
“ordinary shares” refers to our ordinary shares, par value $0.00025 per share;





•
“ADSs” refers to our American depositary shares, each of which represents four ordinary shares prior to May 1, 2015 and 16 ordinary shares since May 1, 2015 when we completed the reverse share split;





•
“China” or “PRC” refers to the People’s Republic of China and, for the purpose of this annual report, excludes Hong Kong, Macau and Taiwan; and





•
“RMB” and “Renminbi” refer to the legal currency of China.





PART I





ITEM 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS





Not applicable.





ITEM 2. OFFER STATISTICS AND EXPECTED TIMETABLE





Not applicable.





ITEM 3. KEY INFORMATION





3.A. Selected Financial Data





The selected consolidated statements of comprehensive income data and selected consolidated statements of cash flow data for the years ended December 31, 2012, 2013 and 2014 and the selected consolidated statements of financial position data as of December 31, 2012, 2013 and 2014 have been derived from our audited consolidated financial statements included herein, which were prepared in accordance with International Financial Reporting Standards, or IFRS, issued by the International Accounting Standards Board, or IASB. The selected consolidated statements of comprehensive income data and selected consolidated statements of cash flow data for the years ended December 31, 2010 and 2011 and the selected consolidated statements of financial position data as of December 31, 2010 and 2011 have been derived from our audited consolidated financial statements that have not been included herein, which were prepared in accordance with IFRS. Our historical results do not necessarily indicate results expected for any future periods. The selected financial data set forth below should be read in conjunction with “Item 5. Operating and Financial Review and Prospects” and the consolidated financial statements and the notes to those statements included herein.




1
 Table of Contents




Consolidated Statements of Comprehensive Income Data:




For the Year Ended December 31,2010


2011


2012


2013


2014RMB


RMB


RMB


RMB


RMB


US$(in thousands, except per share and per ADS data)Revenues


872,085



1,230,881



1,427,367



1,252,146



949,153



152,976Cost of sales


(515,158
)


(686,890
)


(759,285
)


(713,891
)


(663,182
)


(106,886
)Loss on inventory buyback


—



—



—



—


(19,856
)

(3,200
)Gross profit


356,927



543,991



668,082



538,255



266,115



42,890Other income


868



2,414



5,604



5,462



7,974



1,285Selling and distribution expenses


(61,486
)


(136,704
)


(199,152
)


(240,972
)


(207,849
)


(33,499
)Administrative expenses


(37,382
)


(56,590
)


(70,680
)


(54,700
)


(51,230
)


(8,257
)Finance costs


(8,602
)


(4,194
)


(6,244
)


(10,680
)


(11,067
)


(1,784
)Profit before taxation


250,325



348,917



397,610



237,365



3,943



635Income tax expense


(67,324
)


(93,226
)


(102,230
)


(61,924
)


(3,820
)


(616
)Profit after taxation


183,001



255,691



295,380



175,441



123



20Earnings per ordinary shareBasic


2.29



2.39



2.65



1.58



0.001



0.0002Diluted


2.29



2.37



2.65



1.58



0.001



0.0002Earnings per ADS1Basic


9.15



9.54



10.62



6.31



0.004



0.0007Diluted


8.75



9.47



10.62



6.31



0.004



0.0007Pro forma earnings per ordinary share, diluted (unaudited)


2.19



—



—



—



—



—


(1) Prior to May 1, 2015, one ADS represented four ordinary shares. Effective from May 1, 2015 when we completed the reverse share split, one ADS represents 16 ordinary shares instead.


Consolidated Statements of Financial Position Data:


As of December 31,2010


2011


2012


2013


2014RMB


RMB


RMB


RMB


RMB


US$(in thousands)Non-current assetsProperty, plant and equipment


2,720



17,511



14,658



17,377



4,827



778Deferred offering cost


5,757



—



—



—



—



—Total non-current assets


8,477



17,511



14,658



17,377



4,827



778Current assetsInventories


22,339



26,082



24,340



24,629



29,556



4,764Trade and other receivables


249,857



446,897



608,466



450,983



381,026



61,410Prepayments


2,313



223



100



94



—



—Fixed deposits—pledged


1,054



1,670



9,619



41,800



15,830



2,551Cash and cash equivalents


367,731



690,457



918,451



1,227,402



1,304,100



210,183Total current assets


643,294



1,165,329



1,560,976



1,744,908



1,730,512



278,908Total assets


651,771



1,182,840



1,565,634



1,762,285



1,735,339



279,686Total current liabilities


188,068



170,036



256,271



279,253



285,718



46,049Net assets


463,703



1,012,804



1,309,363



1,483,032



1,449,621



233,636




Consolidated Statements of Cash Flow Data:





As of December 31,2010


2011


2012


2013


2014RMB


RMB


RMB


RMB


RMB


US$Net cash generated from operating activities


165,479



75,983



180,968



308,453



130,551



21,041Net cash (used in)/generated from investing activities


(489
)


(15,759
)


(5,609
)


(17,228
)


7,420



1,196Net cash (used in)/generated from financing activities


61,172



267,429



53,300



21,300



(62,069
)


(10,004
)Cash and cash equivalents at period end


367,731



690,457



918,451



1,227,402



1,304,100



210,183








2
 Table of Contents




SelectedOperatingData:1




For the Year Ended December 31,2010


2011


2012


2013


2014Revenues (in thousands of RMB)


872,085



1,230,881



1,427,367



1,252,146



949,153Units sold2 (in thousands)


6,667



7,862



8,102



7,063



6,753Average selling price2 (RMB per unit)


131



157



176



177



141Cost of sales (in thousands of RMB)


515,158



686,890



759,285



713,891



663,182Unit cost (RMB per unit)


77



87



94



101



98Gross margin (%)


40.9



44.2



46.8



43.0



30.1


(1)
A “unit” as used in this annual report on Form 20-F refers to a single item of our products, which may be a coat, a jacket, a tie, a pair of shoes or socks, a pair of pants or any other menswear item.


(2)
Units sold and average selling price represent the number of units and average selling price of items that we have sold to our distributors and sold to end-consumers in our direct stores, and do not include units sold at retail by our distributors or the average selling price of those units. The average selling price for a given period represents revenues divided by the units sold for that period.





Exchange Rate Information





Our business is primarily conducted in China and substantially all of our revenues and expenses are denominated in Renminbi. This annual report on Form 20-F contains translations of RMB amounts into U.S. dollars at specific rates solely for the convenience of the reader. Unless otherwise noted, all translations from Renminbi to U.S. dollars and from U.S. dollars to Renminbi in this annual report on Form 20-F were made at a rate of RMB6.2046 to US$1.00, the exchange rate as set forth in the H.10 statistical release of the U.S. Federal Reserve Board on December 31, 2014. We make no representation that any Renminbi or U.S. dollar amounts could have been, or could be, converted into U.S. dollars or Renminbi, as the case may be, at any particular rate, or at all. The PRC government imposes controls over its foreign currency reserves in part through direct regulation of the conversion of Renminbi into foreign exchange and through restrictions on foreign trade.





The following table sets forth information concerning exchange rates between Renminbi and U.S. dollars for the periods indicated:




Exchange RatePeriod

Period End


Average1


Low


High(RMB per US$1.00)2010


6.6000



6.7603



6.8330



6.60002011


6.2939



6.4475



6.6364



6.29392012


6.2301



6.2990



6.3879



6.22212013


6.0537



6.1478



6.2438



6.05372014


6.0537



6.1478



6.2438



6.0537November


6.1249



6.1429



6.1429



6.1117December


6.2046



6.1886



6.2256



6.14902015January


6.2495



6.2181



6.2535



6.1970February


6.2695



6.2518



6.2695



6.2399March


6.1990



6.2386



6.2741



6.1955April


6.2018



6.2010



6.2152



6.1927May (through May 8)


6.2084



6.2052



6.2085



6.2001





Source: H.10 statistical release of the U.S. Federal Reserve Board





(1)
Annual averages were calculated by using the average of the exchange rates on the last day of each month during the relevant year. Monthly averages were calculated by using the average of the daily rates during the relevant month.





3
 Table of Contents




3.B. Capitalization and Indebtedness





Not applicable.





3.C. Reason for the Offer and Use of Proceeds





Not applicable.





3.D. Risk Factors





Risks Related to Our Business





We are dependent on our Zuoan brand, and failure to successfully promote our brand may materially and adversely affect our business and results of operations.





Brand image is a key factor in consumer purchasing decisions for menswear products. We are committed to building our Zuoan brand through the introduction of stylish and quality designs as well as through our promotional activities. We derive substantially all of our revenues from sales of our Zuoan products in China, and our success depends on market perception and acceptance of the Zuoan brand and the “fashionable elegance” culture, lifestyle and images associated with the brand. We have limited control over our distributors that we rely upon to sell our products, which may limit our ability to ensure a consistent brand image. See “—Risks Related to Our Business—We have limited control over the ultimate retail sales by our distributors, their sub-distributors and the retail stores they operate and our business may be negatively affected if our distributors or their sub- distributors fail to comply with our retail policies and brand management.” If we are unable to successfully promote and maintain our Zuoan brand, our business and results of operations may be materially and adversely affected. Any negative publicity or disputes in China regarding our Zuoan brand, our products, our company, our management, our sponsored organizations or individuals, or our distributors or sub-distributors could materially and adversely affect public perception of our Zuoan brand, which in turn could materially and adversely affect our business and results of operations.





We may not be able to accurately predict or fulfill consumer preferences or demand.





Our success largely depends on our ability to identify, anticipate and influence the fashion preferences of our consumers and deliver products in a timely manner to meet changing market demands. Our target market of consumers comprises urban males between the ages of 20 and 40 with moderate-to-high levels of disposable income. Our business is particularly sensitive to their fashion preferences, which cannot be predicted with certainty and are subject to rapid change. Sales of our products will be adversely affected if we fail to identify, anticipate and respond effectively to changing consumer preferences and fashion trends. If this occurs, we and our distributors and sub-distributors may be forced to rely on markdowns or promotional sales to dispose of excess, slow-moving inventory. In a distressed economic and retail environment, many of our competitors may engage in aggressive promotional activities, further increasing the need to react appropriately to changing consumer preferences and fashion trends. Failure to do so could adversely affect the level of acceptance of our products, our brand image and our relationship with our distributors, and therefore have a material adverse effect on our financial condition or results of operations.





We may not be successful in expanding our product offerings.





As part of our strategy, we plan to expand our product offerings for each of our product lines. The development of new products requires us to allocate significant operational and financial resources. We cannot assure you that we will have the requisite resources and expertise to undertake such product development efforts. If our efforts are unsuccessful, our brand image could be damaged, and our financial condition and results of operations could be adversely affected.





4
 Table of Contents




We rely on a small number of distributors for the sale of our products.





We sell a vast majority of our products in China through our distributors, who in turn sell our products to consumers through retail stores directly operated by them or by their sub-distributors. As of December 31, 2014, we had 820 retail stores operated by our distributors and their sub- distributors, compared to three direct stores operated by us.Sales to our top three distributors accounted for 34.7%, 39.6% and 35.6% of our revenues in 2012, 2013 and 2014, respectively. Our distributors are not contractually obligated to purchase minimum quantities of our products or to work with us on an exclusive basis. Our dependence on distributors increases their bargaining power with us and the need for us to maintain good relationships with them. To the extent that any distributor ceases to cooperate with us for any reason and we are not able to find a suitable replacement in a timely manner, we may lose significant business. To the extent that our large distributors significantly reduce their purchases from us due to the deterioration of their financial position or other reasons, our sales would be materially and adversely affected. In addition, we may have to offer volume-based discounts or more favorable credit terms to our distributors in the future, which may lower our operating profit. As we rely to a large extent on our distributors for the sale of our products, our future growth will also depend on the performance of our distributors and their ability to expand their business and sales networks. In addition, any consolidation, restructuring, reorganization or other ownership change in our distributors may have a material adverse effect on our sales. We generally enter into agreements with our distributors for a term of three years. There is no assurance that we will be able to renew our distribution agreements or renew such agreements on terms that are favorable to us. In addition, there is no assurance that one or more of our major distributors will not breach their distribution agreements or fail to comply with their obligations thereunder. In such event or events, our results of operations may be materially and adversely affected.





We have limited control over our distributors, their sub-distributors and the retail stores they operate, and our business may be negatively affected if our distributors or their sub-distributors fail to comply with our retail policies and brand management.





We collaborate with our distributors and sub-distributors to implement our retail and brand management policies in the retail stores which they operate. As of December 31, 2014, 820 out of a total of 823 Zuoan stores were operated by our distributors or their sub-distributors. We rely on agreements with our distributors to impose our retail policies on the stores operated by such distributors and their sub-distributors. We do not own any interest in any of our distributors, their sub-distributors or the retail stores they operate. The distribution agreements we typically enter into with our distributors do not allow us to be involved in the daily operating, financing or other activities of the distributors, except that our distributors need to comply with our brand management policies and pricing and store management guidelines. In addition, we do not have direct contractual relationships with the sub-distributors, and we rely on our distributors to oversee these sub-distributors. As a result, we have limited control over ultimate retail sales by our distributors, their sub-distributors and the retail stores they operate. If our distributors or their sub-distributors fail to comply with our retail policies, we may not be able to effectively manage our sales network or maintain a uniform brand image, which may negatively impact how our brand is perceived by consumers. In addition, if our distributors fail to meet our retail targets either because they are unable to open a sufficient number of new retail stores or are otherwise unsuccessful in selling our products, our results of operations may be materially and adversely affected. Although we have the right to impose penalties, suspend supplies of our products, or replace any of our distributors for breach of retail policies, we may be unable to find replacement distributors in a timely manner. As a result, our business and results of operations may be materially and adversely affected.





Our financial performance in a given period may not be fully indicative of the sales performance of our distributors and sub-distributors or the market reception of our products.





We sell our products to our distributors upon their orders and recognize revenue upfront based on the contract amount regardless of the actual sales performance of the distributors. Consequently, our financial performance and results of operations may not be fully indicative of the sales performance of our distributors and sub-distributors or the market reception of our products. Although we obtain sales and operational data from our distributors from time to time, we cannot assure you that such data are accurate. In addition, we do not have an enterprise resource planning system, or ERP system, to receive real-time sales data from our distributors, sub-distributors and the retail stores operated by them. As a result, we may not be able to effectively monitor and control excess inventory buildup. See “Item 4.B. Business Overview—Sales—Our Distributors.” Our distributors, their sub- distributors, and the retail stores which they operate may, for various reasons, experience difficulties in selling our products. Our distributor may close the retail store operated by a sub-distributor and repurchase the products if that retail store





5
 Table of Contents




experiences extreme difficulties in selling our products. However, we cannot assure you that our distributors and their sub-distributors will not resort to liquidating their excess inventory through aggressive discounts in the future, thereby having an adverse effect on the value and reputation of our brand.





We may be unable to effectively manage our network of retail and flagship stores.





Our business growth has slowed down over recent years. The number of retail stores operated by our distributors or their sub-distributors decreased from 1,322 as of December 31, 2012 to 1,082 as of December 31, 2013 and further to 823 as of December 31, 2014. We rely to a large extent on our distributors and their sub-distributors for our retail network. We coordinated with our distributors to establish annual targets for the number of new retail stores. However, there is no assurance that our distributors are able to meet our expansion targets. For example, our distributors were unable to open up enough new direct and flagship stores in accordance with our targets in 2013 and also closed 340 retails stores due to the economic downturn since the second half of 2012 in China. We terminated the business relationship with our distributors in 2014. We have also opened new direct stores as flagship stores, which has placed significant strain on our managerial, operational and financial resources. In addition, we may not be able to secure desirable locations for our flagship stores on economically viable terms. For example, we failed to obtain suitable locations for our directly operated flagship stores in Shanghai in 2013 and as a result were only able to open direct stores in Shanghai instead. We also closed seven direct stores in 2014. We have introduced a new generation layout and design for Zuoan retail stores and flagship stores, and we need to bear the costs of such upgrades. In connection with our expansion plans, we may also need to establish information systems across our flagship store distribution network. We cannot assure you that our personnel, systems, procedures and controls will be adequate to implement our business plans or support our future growth. Additionally, we may not be able to obtain sufficient funds to finance our expansion plans. If our expansion efforts are unsuccessful or our management systems are insufficient, our financial condition and results of operations could be materially and adversely affected.





We are exposed to the credit risks of our distributors.





We generally provide credit terms of up to 90 days to our distributors. However, since the third quarter of 2012, we extended credit terms to up to 120 days for certain of our distributors who experienced difficulties in collecting from their sub-distributors due to the economic downturn since the second half of 2012 in China. As of December 31, 2014, we have not experienced any significant difficulty in collections or made any provision for bad or doubtful debts. However, our sales going forward may rely more heavily on credit, and we may be unable to collect these accounts receivable in full or at all. Failure by our distributors to pay us in a timely manner or at all could have a material adverse effect on our financial condition and results of operations.





We operate in a highly competitive market.





The PRC market for fashion casual menswear products is highly competitive. We compete with various domestic brands with similar business models and target markets. We also compete with a growing number of international brands trying to expand their market share in China to take advantage of rising consumer spending on fashion casual menswear. In addition, certain business formal menswear brands have been seeking to expand into fashion casual menswear market and if they are successful, it may intensify the competition in the fashion casual menswear market that we engage in.





Our products compete on the basis of brand image, design and concept, product mix, quality, price, customer service and the breadth of our retail network. Some of our competitors may have greater financial, management, human resources, distribution, development, marketing or other resources or better brand recognition than we do. We face a variety of competitive challenges, including:





•
strong brand recognition of many of our competitors;





•
relatively low entry barriers to the menswear industry;





•
competitive pricing strategies of our competitors;





•
established relationships between our competitors and their distributors;





•
expansion by existing competitors;





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•
innovative sales methods adopted by our competitors; and





•
better product designs from or better branding efforts of our competitors.





We cannot assure you that we will be able to continue to successfully compete with other domestic or international brands. Failure to do so could have a material adverse effect on our business and results of operations.





Our business is susceptible to seasonal fluctuations and extreme or unexpected weather conditions and interruptions.





Our business is affected by seasonal trends. Generally, the third and fourth quarters, during which our fall/winter collections are sold, account for a higher portion of our annual revenues than the first and second quarters because our fall/winter collections are generally priced higher than our spring/summer collections and consist of more types of products. The sales in our direct stores are also affected by local spending behavior, which are typically affected by seasonal shopping patterns during major Chinese holidays. As a result, comparisons of sales and operating results between different periods within a single fiscal year, or between different periods in different fiscal years, are not necessarily meaningful and cannot be relied on as indicators of our performance. In addition, since we operate largely on a seasonal cycle, if our raw material suppliers or contract manufacturers fail to deliver on a timely basis for any reason, sales for the season and our results of operations could be materially and adversely affected.





Our business is also susceptible to extreme or unexpected changes in weather conditions. For example, extended periods of unusually warm temperatures during the winter season or cool weather during the summer season could render a portion of our inventory incompatible with such unusual weather conditions. These extreme or unusual weather conditions could have a material adverse effect on our results of operations.





Our retail stores and flagship stores are located in prime shopping areas in various cities. Unexpected interruptions in such prime shopping areas due to municipal construction or city planning may also adversely affect our business operations. For example, in January 2012, one of our directly operated flagship stores in Xiamen, Fujian Province was required to close due to road construction works in the vicinity.





We relied on independent third-party contract manufacturers for the production of a significant portion of our products and will rely on such manufacturers for production of all our products going forward. Any material disruption to the supply from such manufacturers would materially and adversely affect our results of operations.





We outsource the production of a significant portion of our products to third-party contract manufacturers. Contract manufacturing costs represented 97.0%, 100.0% and 100.0% of our total cost of sales in 2012, 2013 and 2014, respectively. In addition, most of our outsourced products are produced by a small number of contract manufacturers. In 2014, contract manufacturing costs attributable to our top five contract manufacturers represented 37.9% with contract manufacturing costs attributable to our largest contract manufacturer accounting for 10.3% of our total cost of sales. Furthermore, in October 2012, we decided to concentrate on brand development and construction of new logistics centers and warehousing facilities going forward and as a result closed our sole production facility in Jinjiang, Fujian Province, after which we outsourced production of all our products to third-party contract manufacturers.





As a result, our continued success is tied to our timely receipt of quality finished products from our contract manufacturers, especially our major contract manufacturers, which may be affected by various factors, including those beyond our control, such as production failures, labor strikes, riots, public disorders and other similar events. A contract manufacturer’s failure to ship orders in a timely manner or meet our quality standards could negatively impact our ability to fulfill our sales orders and result in the cancellation of orders or price reductions, which in turn could damage our relationships with our distributors. We cannot assure you that we will not face material disruptions to the supply of products from our contract manufacturers in the future. In the event of such disruptions, especially disruptions with respect to our major contract manufacturers, we may not be able to find suitable alternative contract manufacturers on a timely basis or offset such disruptions by increasing production at our own production facilities. Our financial condition or results of operations may be adversely affected.





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Our results of operations may be adversely affected by an increase in the cost of raw materials or labor costs for our outsourced contract manufacturing.





We price our products based on each item’s production costs and a targeted product margin, while also taking into account other important factors, such as the price ranges offered by comparable fashion casual menswear companies, our market position and consumer spending power. Cost of raw materials, such as fabrics and accessories, and labor costs constitute important components in the production costs for our outsourced contract manufacturing. We do not maintain long-term contracts with our contract manufacturers, and prices that we pay for such outsourced products may increase due to increased raw material or labor costs as a result of greater industry demand or supply shortages. If we are unable to reduce the costs of our outsourced production, or pass on such increase in the cost of raw materials, labor or outsourced products to our customers, our profitability may be materially and adversely affected.





Any significant damage to our primary warehousing facility could have a material adverse effect on our results of operations.





We have only one primary warehousing facility located in Fujian, China, in which we store substantially all of our finished products procured from third-party contract manufacturers. Our ability to meet the market demands of, and our contractual obligations to, our distributors for our in-house produced or outsourced products depend on efficient, proper and uninterrupted operations at our production facility or warehousing facility. Power failures or disruptions, the breakdown, failure or substandard performance of equipment, and the destruction of buildings and other facilities due to fire or natural disasters such as hurricanes, severe winter storms, flood, droughts or earthquakes would severely affect our ability to continue our operations. In the event of such disruptions, we may not be able to find suitable alternatives on a timely basis and at reasonable cost, which could have a material adverse effect on our business and results of operations.





Our product designs may not be adequately protected.





The success of our business depends on our product designs and other proprietary information. Our standard employment agreements for members of our product design and development team and our executive officers contain confidentiality provisions. We typically limit access to our new season collections to a small number of distributors prior to our sales fair. However, there is no assurance that our measures to maintain confidentiality will be effective and there will be no unauthorized disclosure of our proprietary information. Any breach of confidentiality may adversely affect our business and results of operations. In addition, after we closed our own production facility in October 2012, we had to outsource the production of our most exclusive and fashion-forward products to our contract manufacturers. We cannot assure you that such manufacturers will give maximum confidentiality protection to their production as we did at our own production facility.





We face possible infringement of our trademarks and other intellectual property rights and counterfeiting of our products.





We believe our trademarks and other intellectual property rights are important to our success and competitive position and recognize the importance of registering the trademarks related to our Zuoan brand for protection against infringement. As of December 31, 2014, we had 23 registered trademarks in China in the classes relevant to our business. See “Item 4.B. Business Overview—Intellectual Property.” We are not aware of any material violations or infringements of our trademarks and intellectual property rights. However, third parties may in the future attempt to challenge the ownership and/or validity of our intellectual property rights. In addition, our business is subject to the risk of third parties counterfeiting our Zuoan brand products or otherwise infringing our intellectual property rights. Such unauthorized use of our brand in counterfeit products could not only result in potential revenue loss, but also an adverse impact to our brand equity and perceptions of our products quality. We may not always be successful in securing protection for our intellectual property rights, in preventing the production and sale of counterfeit products and preventing other infringements of our intellectual property rights. Protections offered by PRC intellectual property laws and the enforcement of these protections may not be as effective as in some other countries. We may need to resort to litigation in the future to enforce our intellectual property rights. Any such litigation could result in substantial costs and a diversion of our resources. Our failure to protect and enforce our intellectual property rights could have a material adverse impact on our reputation, business and results of operations.





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We may be involved in intellectual property rights infringement litigation initiated by others.





During the course of our operations, we may design products that include elements that may inadvertently infringe third-party copyright and other intellectual property rights, as a result of which other parties may initiate litigation or other proceedings against us. It is also possible that third parties may seek to initiate proceedings against us for infringement of their intellectual property rights through the use of our trademarks. Responding to and defending these proceedings may require substantial costs and diversion of resources, and the result of these proceedings may be uncertain. Our reputation may also be adversely affected.





Our success depends on our ability to retain our senior management team and our ability to attract and retain additional management, design talent and other qualified personnel.





Many of our senior management have been with us for more than seven years. Their talent, effort, experience and leadership are critical to the success of our business. In particular, the leadership of Mr. James Jinshan Hong, or Mr. James Hong, our chairman and chief executive officer, in the design, marketing and operational areas of our business has been a critical element of our success since the inception of our company. The loss of services of Mr. James Hong or any negative market or industry perception with respect to him could have a material adverse effect on our business. In addition, Mr. Chaoshen Wang, our chief operating officer, and other members of our senior management also have substantial experience and expertise in our business and have made significant contributions to our growth and success. The unexpected loss of services of one or more of these individuals could also have a material adverse effect on us. We have entered into three-year contracts, including non-compete undertakings, with all of our executive officers and senior management. However, there can be no assurance that such contracts will not be terminated or breached, nor can there be assurance that the contracts will be enforceable. In addition, we are not protected by any key-man or similar life insurance covering Mr. James Hong and other members of senior management.





Our success also depends upon the continued service of our design and sales personnel and our ability to continue to attract, retain and motivate such personnel. There is intense competition to recruit competent personnel with expertise in China’s menswear industry. We may also need to offer better compensation and other benefits in order to attract and retain these personnel in the future, and we cannot assure you that we will have the resources to meet our staffing needs. These difficulties could limit our development capacity or reduce our operating efficiency and product quality, which could reduce our profitability and limit our ability to grow.





If we continue to fail to maintain an effective system of internal control over financial reporting, we may not be able to accurately and timely report our financial results or prevent fraud, and investor confidence and the trading price of our ADSs may be adversely impacted.





We are a public company in the United States subject to the Sarbanes-Oxley Act of 2002. Section 404 of the Sarbanes-Oxley Act of 2002, or Section 404, requires that we include a report of management on our internal control over financial reporting in our annual report on Form 20-F. However, as we are an “emerging growth company” as defined under the Jumpstart Our Business Startups Act, or the JOBS Act, and a non-accelerated filer, we are not subject to the requirements of Section 404(b) and therefore our independent registered public accounting firm does not report on the effectiveness of our internal control over financial reporting. See “—We are an ‘emerging growth company’ and may not be subject to requirements that other public companies are subject to, which could harm investor confidence in us and our ADSs” below.





We have identified a “material weakness” in our internal control over financial reporting as of December 31, 2014 relating to the lack of competent personnel to prepare our financial statements under IFRS . The Company's former chief financial officer resigned in February 2014 and the Company has not hired a replacement chief financial officer as of the date of this annual report on Form 20-F. We are in the process of hiring a new replacement chief financial officer and estimate the replacement chief financial officer will be on board in the second half of 2015. The lack of a qualified replacement chief financial officer may adversely affect our internal control. As the relevant standards are modified, supplemented or amended from time to time, we may identify other deficiencies or material weaknesses that we may not be able to remedy in a timely manner, and we cannot assure you that we will be able to maintain the effectiveness of our internal control over financial reporting on a continuing basis in the future. If we continue to fail to achieve and maintain an effective internal control environment, we could suffer material misstatements in our financial statements and fail to meet our reporting obligations, which would likely cause investors to lose confidence in our reported financial information. This could harm our operating results and lead to a decline in the trading price of our ADSs. Additionally, ineffective internal control over financial reporting could expose us to increased risk of fraud or misuse of corporate assets and subject us to potential delisting from the NYSE, regulatory investigations and civil or criminal sanctions.


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We are an “emerging growth company” and may not be subject to requirements that other public companies are subject to, which could harm investor confidence in us and our ADSs.





On April 5, 2012, President Barack Obama signed into law the JOBS Act. The JOBS Act contains provisions that, among other things, relax certain requirements for qualifying public companies. We are an “emerging growth company” as defined under the JOBS Act and, for as long as we continue to be an emerging growth company, we may choose to take advantage of exemptions from various reporting requirements applicable to other public companies, including an exemption from the requirement to comply with the auditor attestation requirements of Section 404 and an exemption from the requirement to adopt and comply with new or revised accounting standards at the same time as other public companies. We will remain an emerging growth company until the earliest of (a) the last day of our fiscal year during which we have total annual gross revenues of US$1.0 billion or more; (b) the last day of our fiscal year following the fifth anniversary of the completion of our initial public offering; (c) the date on which we have, during the previous three-year period, issued more than US$1.0 billion in non-convertible debt; or (d) the date on which we are deemed to be a “large accelerated filer” under the Exchange Act, which would occur if the market value of our outstanding ordinary shares that are held by non-affiliates is US$700 million or more as of the last business day of our most recently completed second fiscal quarter. Once we cease to be an emerging growth company, we will not be entitled to the exemptions provided in the JOBS Act discussed above.





The JOBS Act provides that an emerging growth company can take advantage of the extended transition period provided in Section 7(a)(2)(B) of the Securities Act for complying with new or revised accounting standards. In other words, an emerging growth company can delay the adoption of certain accounting standards until those standards would otherwise apply to private companies. We have elected to take advantage of the extended transition period. As a result of this election, our financial statements may not be comparable to other public companies that comply with the public company effective dates for these new or revised accounting standards.





We cannot predict if investors will find our ADSs less attractive because we may rely on these exemptions. If some investors find our ADSs less attractive as a result, there may be a less active trading market for our ADSs and our ADS price may be more volatile.





We may be exposed to product liability or personal injury claims, which may materially and adversely affect our reputation and business.





As of December 31, 2014, all of our products were sold in China. We may be exposed to product liability claims, such as excessive pH values in our products, which may be harmful to consumers. As a result, we may have to expend significant financial and managerial resources to defend against such claims. We believe that such product liability claim risks will increase as legal concepts in product liability claims begin to develop and mature in China. We currently outsource the manufacturing of all our products, and may not have effective or sufficient control over the quality of those products. We cannot give any assurance that our reputation, business, financial condition, results of operations and prospects will not be materially and adversely affected by a successful product liability claim against us. We may incur significant costs and expenses to defend against such claims or enter into settlement agreements. We may be fined or sanctioned and our reputation and brand may be negatively impacted, which could materially and adversely affect our reputation, business, prospects, financial condition and results of operations.





We may not have insurance coverage that is adequate to cover potential liability or losses.





We face various risks in connection with our businesses and may lack adequate insurance coverage or may not have the relevant insurance coverage. We maintain insurance coverage for our raw materials and inventory. However, we do not have insurance coverage on interior decoration as such insurance is currently unavailable in China. Furthermore, as is typical in China, we do not maintain product liability insurance, business interruption insurance or third-party liability insurance against claims for property damage, personal injury and environmental liabilities. If we incur substantial losses or liabilities and our insurance coverage is unavailable or inadequate to cover such losses or liabilities, our financial condition and results of operations may be materially and adversely affected.





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Deterioration in general economic and financial conditions could decrease consumer demand for our products, which may have a material adverse effect on our business, results of operations and liquidity.





Consumer purchases of discretionary items, including our products, generally decline during recessionary periods and other periods where disposable income is adversely affected. Our performance is subject to factors that affect the general economy in China, including worldwide economic conditions, individual income levels, interest rates, currency exchange rates, recession, inflation, deflation, political uncertainty, taxation, stock market performance, unemployment level, general consumer confidence, consumer debt and other macroeconomic factors. The combination of these factors may cause consumer spending to deteriorate significantly, which may result in consumers purchasing products from lower priced competitors or to defer purchases of fashion apparel products altogether. For instance, although we have sustained our growth, our growth rate was not as high as projected due to the negative impact of the global economic downturn on general market demand. Economic uncertainty could also have a material adverse effect on the market demand for our products, sales and results of operations.





We face risks related to severe weather conditions, natural disasters, health epidemics and other similar events, any of which could adversely affect our business.





Our business could be disrupted or otherwise adversely affected by severe weather conditions, such as snowstorms or typhoons, natural disasters, such as earthquakes, health epidemics, such as an outbreak of avian influenza or severe acute respiratory syndrome, and other similar events. The occurrence of any such event could significantly change the living and consumption patterns of the people in the affected area. Our business and production activities, contract manufacturers, and distributors and sub-distributors may also be disrupted. In particular, a lower consumption level or reduced traffic in the affected area may decrease sales at our direct stores and the retail stores operated by our distributors and sub-distributors, which in turn may lead to reduced orders from our distributors. Such changes and disruptions could adversely affect our business, results of operations and financial condition.





Risks Related to Doing Business in China





Adverse changes in the economic and political policies of the PRC government could have a material adverse effect on the overall economic growth of China, which could adversely affect our business.





We conduct substantially all our business operations in China. Accordingly, our results of operations, financial condition and prospects are significantly dependent on economic and political developments in China. China’s economy differs from the economies of developed countries in many aspects, including the level of development, growth rate and degree of government control over foreign exchange and allocation of resources. While China’s economy has experienced significant growth in the past 30 years, the growth has been uneven across different regions and periods and among various economic sectors in China. We cannot assure you that China’s economy will continue to grow, or that if there is growth, such growth will be steady and uniform, or that if there is a slowdown, such slowdown will not have a negative effect on our business and results of operations.





The PRC government exercises significant control over China’s economic growth through the allocation of resources, control over payment of foreign currency-denominated obligations, implementation of monetary policy, and preferential treatment to particular industries or companies. Certain measures adopted by the PRC government may restrict loans to certain industries, such as changes in statutory deposit reserve ratio and lending guidelines for commercial banks by the People’s Bank of China, or PBOC. These current and future government actions could materially affect our liquidity, access to capital, and ability to operate our business.





The global financial markets experienced significant disruptions in 2008 and the United States, Europe and other economies went into recession. The recovery from the lows of 2008 and 2009 was uneven and it is facing new challenges, including the escalation of the European sovereign debt crisis since 2011. It is unclear whether the European sovereign debt crisis will continue and what effects it may have on China’s economy and our business. In response to the global financial crisis and economic downturn, the PRC government adopted various measures aimed at expanding credit and stimulating economic growth, such as decreasing the PBOC statutory deposit reserve ratio and lowering benchmark interest rates. For example, the PBOC decreased the statutory reserve ratio two times consecutively in February 2015 and April 2015, respectively. It also decreased the benchmark interest rates by 25 basis points in November 2014, February 2015 and May 2015, respectively. In particular, the PBOC decided to cut financial institutions RMB benchmark deposit and lending interest rates since May 11, 2015. The one-year benchmark deposit rate and benchmark lending interest rate were cut by





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0.25 percentage points, respectively. However, it is unclear whether the PRC economic policies will be effective in sustaining stable economic growth in the future.





Any slowdown in the economic growth of China could lead to reduced demand for our products, which could materially and adversely affect our business, financial condition and results of operations.





Inflation in China may have an adverse effect on our business, financial condition and results of operations.





China’s economy has experienced rapid expansion together with rising rates of inflation, which may also erode disposable incomes and consumer spending. Furthermore, certain components of our cost of sales, including direct raw material costs, direct labor costs, design costs and direct manufacturing overhead, may increase as a result of an increase in the cost of materials and labor resulting from general inflation. However, we cannot guarantee that we can pass on increased costs to customers through increases in retail prices. This could adversely impact our business, financial condition and results of operations.





Uncertainties presented by the PRC legal system could limit the legal protections available to us and to our investors, which may have a material adverse effect on our business and results of operations.





Our operations in China are governed by PRC laws and regulations. Our PRC subsidiaries are foreign-invested enterprises and are subject to laws and regulations applicable to foreign investment in China. China has a civil law legal system based on written statutes. Unlike the common law system, previous court decisions in China may be cited for reference but have limited precedential value. Although the overall effect of legislation over the past


30 years has significantly enhanced the protections afforded to various forms of foreign investments in China, China has not developed a fully integrated legal system and recently enacted laws and regulations may not sufficiently cover all aspects of economic activities. In particular, because these laws and regulations are relatively new, and because of the limited volume of published decisions and their non-binding nature, the interpretation and enforcement of these laws and regulations involve uncertainties. Such uncertainties may limit the legal protections available to us and to other foreign investors, including you as an investor.





In addition, the PRC legal system is based in part on government policies and certain internal rules, some of which are not published on a timely basis or at all and which may have retroactive effect. As a result, we may not be aware of our violation of these policies and internal rules until some time after the violation. Also, any administrative or court proceedings may be protracted, resulting in substantial costs and diversion of resources and management attention if we seek to enforce our legal rights through administrative or court proceedings. Moreover, compared to more developed legal systems, the PRC administrative and court authorities have significantly wider discretion in interpreting and implementing statutory and contractual provisions. As a result, it may be more difficult to evaluate the outcomes of the administrative and judicial proceedings as well as the level of legal protections we are entitled to. These uncertainties may impede our ability to enforce our contracts, which could in turn materially and adversely affect our business and operations.





Government control over currency conversion may limit our ability to issue dividends to our shareholders in foreign currencies, and may therefore adversely affect the value of your investment.





The PRC government imposes controls on the convertibility of the Renminbi into foreign currencies and, in certain cases, the remittance of currency out of China. We receive all of our revenues in Renminbi. Under our current corporate structure, our Cayman Islands holding company may rely on dividend payments from our PRC subsidiaries to fund any cash and financing requirements we may have. Under existing PRC foreign exchange regulations, payments of current account items, including profit distributions, interest payments and trade and service-related foreign exchange transactions, can be made in foreign currencies without prior approval from the PRC State Administration of Foreign Exchange, or SAFE, by complying with certain procedural requirements. Therefore, our PRC subsidiaries are able to pay dividends in foreign currencies to us without prior approval from SAFE by complying with certain procedural requirements. But approval from or registration with appropriate government authorities is required where Renminbi are to be converted into foreign currency and remitted out of China to pay capital expenses such as the repayment of loans denominated in foreign currencies. The PRC government may also at its discretion restrict access in the future to foreign currencies for current account transactions. If the foreign exchange control system prevents us from obtaining sufficient foreign currencies to satisfy our foreign currency demands, we may not be able to pay dividends in foreign currencies to our shareholders, including holders of our ADSs.





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Fluctuations in the value of the Renminbi may have a material adverse effect on your investment.





Substantially all of the revenues and costs of our PRC subsidiaries are denominated in Renminbi. Fluctuations in the U.S. dollar-Renminbi exchange rate will affect the relative value of these proceeds in Renminbi terms. Fluctuations in the exchange rate will also affect the relative value in Renminbi terms of earnings from and the value of any U.S. dollar-denominated investments we make in the future.





The value of the Renminbi against the U.S. dollar and other currencies is affected by, among other things, changes in the political and economic conditions and foreign exchange policies of China. In July 2005, the PRC government changed its decade-old policy of pegging the value of the Renminbi to the U.S. dollar. However, the PBOC regularly intervenes in the foreign exchange market to limit fluctuations in Renminbi exchange rates and achieve policy goals. Following the removal of the U.S. dollar peg, the Renminbi appreciated more than 20% against the U.S. dollar over the following three years. From July 2008 to June 2010, the Renminbi traded within a narrow range against the U.S. dollar. Since June 2010 the Renminbi has further appreciated against the U.S. dollar, from approximately RMB6.83 per U.S. dollar as of June 1, 2010 to approximately RMB6.21 per U.S. dollar as ofMay 8, 2015.  It is difficult to predict how Renminbi exchange rates may change going forward.





The hedging options available in China to reduce our exposure to exchange rate fluctuations are quite limited. To date, we have not entered into any hedging transactions in an effort to reduce our exposure to foreign currency exchange risk. While we may decide to enter into hedging transactions in the future, the availability and effectiveness of these hedges may be limited and we may not be able to adequately hedge our exposure or at all. In addition, our currency exchange losses may be magnified by PRC exchange control regulations that restrict our ability to convert Renminbi into foreign currency. As a result, fluctuations in exchange rates may have a material adverse effect on your investment.





PRC laws and regulations establish more complex procedures for some acquisitions of Chinese companies by foreign investors and may make it more difficult for us to make future acquisitions or dispositions of our business operations or assets in China.





PRC laws and regulations, such as the RegulationsonMergersandAcquisitionsofDomesticEnterprisesbyForeignInvestorspromulgated by six PRC regulatory agencies, or the New M&A Rules, Anti-monopoly Law of the PRC and the RulesofMinistryofCommerceonImplementationof SecurityReviewSystemof MergersandAcquisitionsofDomesticEnterprisesbyForeignInvestorspromulgated by the MOFCOM in August 2011, or the MOFCOM Security Review Rules, established additional procedures and requirements that are expected to make merger and acquisition activities in China by foreign investors more time consuming and complex, including requirements in some instances that MOFCOM be notified in advance of any change of control transaction in which a foreign investor takes control of a PRC domestic enterprise, or that the approval from MOFCOM be obtained in circumstances where overseas companies established or controlled by PRC enterprises or residents acquire affiliated domestic companies. PRC laws and regulations also require certain merger and acquisition transactions to be subject to merger control review or security review.





The New M&A Rules, effective from September 8, 2006 and amended on June 22, 2009, established additional procedures and requirements that could make merger and acquisition activities by foreign investors more time-consuming and complex, including requirements in some instances that the MOFCOM be notified in advance of any change of control transaction in which a foreign investor takes control of a PRC domestic enterprise.





The MOFCOM Security Review Rules, effective from September 1, 2011, which implement the Notice of the General Office of the State Council on Establishing the Security Review System for Mergers and Acquisitions of Domestic Enterprises by Foreign Investors promulgated on February 3, 2011, further provide that, when deciding whether a specific merger or acquisition of a domestic enterprise by foreign investors is subject to the security review by MOFCOM, the principle of substance over form should be applied and foreign investors are prohibited from bypassing the security review requirement by structuring transactions through proxies, trusts, indirect investments, leases, loans, control through contractual arrangements or offshore transactions. There is no explicit provision or official interpretation stating that our business falls into the scope subject to the security review. As these circulars and rules are relatively new and there is a lack of clear statutory interpretation on the implementation of the same, there is no assurance that the MOFCOM will apply these national security review-related circulars and rules to the acquisition of equity interest in our PRC subsidiaries.


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If we are found to be in violation of the New M&A Rules, the MOFCOM Security Review Rules or any other PRC laws and regulations with respect to the merger and acquisition activities in China, or fail to obtain any of the required approvals, the relevant regulatory authorities would have broad discretion in dealing with such violation, including levying fines, confiscating our income, revoking our PRC subsidiaries’ business or operating licenses, requiring us to restructure or unwind the relevant ownership structure or operations. Any of these actions could cause significant disruption to our business operations and may materially and adversely affect our business, financial condition and results of operations. Further, if the business of any target company that we plan to acquire falls into the ambit of security review, we may not be able to successfully acquire such company either by equity or asset acquisition, capital contribution or through any contractual arrangement. We may grow our business in part by acquiring other companies operating in our industry. Complying with the requirements of the relevant regulations to complete such transactions could be time consuming, and any required approval processes, including approval from MOFCOM, may delay or inhibit our ability to complete such transactions, which could affect our ability to expand our business or maintain our market share.





PRC regulations relating to the establishment of offshore special purpose vehicles by PRC residents may subject our PRC resident beneficial owners or our PRC subsidiaries to liabilities or penalties, limit our ability to contribute capital to our PRC subsidiaries, limit our PRC subsidiaries’ ability to increase their registered capital or distribute profits to us, or may otherwise adversely affect us.




SAFE has promulgated regulations, including the Notice on Relevant Issues Concerning Foreign Exchange Administration for Domestic Residents’ Financing and Roundtrip Investment Through Offshore Special Purpose Vehicles, or Circular 75, effective on November 1, 2005, requiring PRC residents to register with the local SAFE branch before establishing or controlling any company outside of China for the purpose of capital financing with assets or equities of PRC companies owned by such PRC residents, referred to in the notice as an “offshore special purpose vehicle.” SAFE has further issued a series of implementation guidance, including the Operating Guidance for the Foreign Exchange Matters on Capital Item Direct Investment (SAFE Version), an appendix to the Notice of SAFE on Further Improvement and Adjustment of the Foreign Exchange Administrative Polices on Direct Investment, or Circular 59, which has come into effect as of December 17, 2012. These regulations require PRC residents and PRC corporate entities to register with competent local branches of SAFE in connection with their direct or indirect offshore investment in offshore special purpose vehicles On July 4, 2014, the SAFE issued the Notice on Relevant Issues Concerning Foreign Exchange Administration for Domestic Residents’ Offshore Investment, Financing and Roundtrip Investment Through Offshore Special Purpose Vehicles, or Circular 37, together with its implementation guidance, which replaced Circular 75 and Circular 59. According to Circular 37, not only for the purpose of offshore financing, but also for the purpose of offshore investment, the offshore special purpose vehicles shall be registered with competent local branches of SAFE.  On February 13, 2015, SAFE further issued the Notice on Further Simplification and Improvement of Foreign Exchange Administration Policies on Direct Investment, or Circular 13, according to which the registration of newly incorporated special purpose vehicles is delegated to the banks where the relevant residents domicile. These regulations may apply to our shareholders who are PRC residents or have PRC residents as their ultimate owners and may apply to any offshore acquisitions that we make in the future.


Under these foreign exchange regulations, PRC residents who make, or have previously made prior to October 2005, direct or indirect investments in offshore special purpose vehicles are required to register those investments. In addition, any PRC resident that is a shareholder of an offshore special purpose vehicle is required to amend such registration with respect to that offshore special purpose vehicle in connection with any increase or decrease of capital, transfer of shares, merger, division, equity investment or creation of any security interest over any assets located in China or other material changes in share capital. Moreover, any subsidiary of such offshore special purpose vehicle in China is required to urge the PRC resident shareholders to update their registration with the local branch of SAFE or local banks, as the case may be. If any shareholder who is considered as a PRC resident by SAFE fails to make the required registration or to update the previously filed registration, the subsidiary of such offshore special purpose vehicle in China may be prohibited from distributing its profits or the proceeds from any capital reduction, share transfer or liquidation to the offshore special purpose vehicle, and the offshore special purpose vehicle may also be prohibited from making additional capital contribution into its subsidiary in China.





We believe that Circular 37 currently does not apply to us since none of our shareholders is a PRC resident or citizen. However, we cannot assure you that any PRC resident or citizen who becomes our shareholder or the beneficial owner of our shares in the future will be able to comply with Circular 37 in a timely manner or at all. A failure by any of our shareholders or beneficial owners of our shares who are PRC residents or citizens to comply with these regulations and rules in the future could subject us to fines or legal sanctions, including restrictions on our PRC subsidiaries’ ability to pay dividends or make distributions to, or obtain foreign currency-dominated loans from, us, and our ability to increase our investment in China. As a result, our business and results of operations and our ability to distribute profits to you could be materially and adversely affected.





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We rely principally on dividends and other distributions on equity paid by our PRC subsidiaries to fund any cash and financing requirements we may have. Any limitations on the ability of our PRC subsidiaries to make payments to us could have a material adverse effect on our ability to conduct our business.





As a holding company, we rely principally on dividends from our subsidiaries in China for our cash requirements, including any debt we may incur. Current PRC regulations permit our subsidiary to pay dividends to us only out of its accumulated after-tax profits, if any, determined in accordance with PRC accounting standards and regulations. In addition, our PRC subsidiaries are required to set aside a certain amount of its after-tax profits each year, if any, to fund certain statutory reserves. These reserves are not distributable as cash dividends. As of December 31, 2014, reserves with a total amount of RMB51.4 million (US$8.3 million) were not distributable in the form of dividends to us due to these PRC regulations. Furthermore, in the future, if our subsidiaries in China incur debt on their own behalf, the instruments governing the debt may restrict its ability to pay dividends or make other payments to us. The inability of our PRC subsidiaries to distribute dividends or other payments to us could materially and adversely limit our ability to grow, make investments or acquisitions that could be beneficial to our businesses, pay dividends, or otherwise fund and conduct our business.





PRC regulation of loans to and direct investment in PRC entities by offshore holding companies and governmental control of currency conversion may delay or prevent us from making loans or additional capital contributions to our PRC subsidiaries, which could adversely affect our ability to fund and expand our business.





We are an offshore holding company conducting our operations in China through our PRC subsidiaries. We may make loans or additional capital contributions to our PRC subsidiaries. Any loans to our PRC subsidiaries, which are treated as foreign-invested enterprises under PRC law, are subject to PRC regulations and foreign exchange loan registrations. Loans by us to any of our PRC subsidiaries to finance their activities cannot exceed statutory limits and must be registered with the local counterpart of SAFE. The statutory limit for the total amount of foreign debts of a foreign- invested company is the difference between the amount of total investment as approved by the PRC Ministry of Commerce or its local counterpart and the amount of registered capital of such foreign-invested company.





A failure to comply with PRC regulations regarding the registration of shares and share options held by our employees who are PRC citizens may subject such employees or us to fines and other legal or administrative sanctions.





Under the SAFE regulations, PRC residents who participate in an employee stock ownership plan or stock option plan in an overseas publicly- listed company are required to register with SAFE or its local branch and complete certain other procedures. Participants of a stock incentive plan who are PRC residents must retain a qualified PRC agent, which could be a PRC subsidiary of such overseas publicly-listed company, to conduct the SAFE registration and other procedures with respect to the stock incentive plan on behalf of these participants. Such participants must also retain an overseas entrusted institution to handle matters in connection with their exercise or sale of stock options. In addition, the PRC agent is required to amend the SAFE registration with respect to the stock incentive plan if there is any material change to the stock incentive plan, the PRC agent or the overseas entrusted institution or other material changes. See “Item 4.B. Business Overview—Regulations—Regulations on Employee Stock Option Plans.” We and our PRC citizen employees who will be granted share options, or PRC option holders, are subject to these rules. If we or our PRC option holders fail to comply with these rules, we or our PRC option holders may be subject to fines and legal or administrative sanctions.





Under the EIT law, we may be considered a PRC “resident enterprise.” As a result, we may be subject to 25% PRC enterprise income tax on our worldwide income, and holders of our ADSs or ordinary shares may be subject to PRC tax on dividends paid by us and gains realized on their transfer of our ADSs or ordinary shares.





Under the PRCEnterpriseIncomeTaxLaw, or the EIT Law, and its implementing rules, both effective from January 1, 2008, an enterprise established outside of China with “de facto management bodies” within China is considered a “resident enterprise” and will be subject to enterprise income tax at the rate of 25% on its worldwide income. The implementing rules define the term “de facto management bodies” as “establishments that carry out substantial and overall management and control over the manufacturing and business operations, personnel, accounting, properties, etc. of an enterprise.” The State Administration of Taxation issued the NoticeRegardingtheDeterminationof Chinese-ControlledOffshoreIncorporatedEnterprisesasPRCTaxResidentEnterprisesonthe





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BasisofDeFactoManagementBodies, or Circular 82, on April 22, 2009. Circular 82 provides certain specific criteria for determining whether the “de facto management body” of a Chinese-controlled offshore incorporated enterprise is located in China, which include: (1) the location where senior management members responsible for an enterprise’s daily operations discharge their duties; (2) the location where financial and human resource decisions are made or approved by organizations or persons; (3) the location where the major assets and corporate documents are kept; and (4) the location where more than half (inclusive) of all directors with voting rights or senior management have their habitual residence. On July 27, 2011, the State Administration of Taxation issued the AdministrativeMeasuresonIncomeTaxof Chinese controlledResidentEnterprisesIncorporated Overseas(Trial), or Circular 45, which became effective on September 1, 2011, to supplement the implementation of Circular 82 and other tax laws and regulations. Circular 45 clarifies certain issues related to resident status determination, post-determination administration and competent tax authorities procedures. Although Circular 82 and Circular 45 apply only to offshore enterprises controlled by PRC enterprises, not those controlled by PRC individuals or foreign persons, the determining criteria set forth in such circulars may reflect the State Administration of Taxation’s general position on how the “de facto management body” test should be applied in determining the tax resident status of offshore enterprises, regardless of whether they are controlled by PRC or foreign enterprises, or by PRC or foreign individuals. Accordingly, we may be considered a “resident enterprise” and may therefore be subject to the enterprise income tax at 25% on our worldwide income, which may increase our tax burden in the future. If we are treated as a PRC “resident enterprise,” although under the EIT Law and its implementing rules dividends paid to us from our PRC subsidiaries should qualify as “tax-exempted income,” we cannot assure you that such dividends will not be subject to a 10% withholding tax, as the State Administration of Taxation, which enforces the withholding tax, has not yet issued guidance with respect to the processing of outbound remittances to offshore companies controlled by individuals and/or foreign enterprises that are treated as resident enterprises for PRC enterprise income tax purposes and also because the dividends of our PRC subsidiaries would be paid to our Hong Kong subsidiary in the first instance.





In addition, it is uncertain whether, if we were considered a PRC “resident enterprise,” any dividends to be distributed by us to our non-PRC enterprise shareholders and ADS holders would be subject to a 10% PRC withholding tax and whether any sale of our shares or ADSs would be subject to a 10% PRC tax. If we are required under the EIT Law to withhold such withholding tax with respect to dividends, or if sales of our shares or ADSs would be subject to PRC tax, your investment in our ADSs or ordinary shares may be materially and adversely affected.





The PRCIndividualIncomeTaxLaw, or the Individual Tax Law, imposes tax at the rate of 20% on PRC-source dividends and gains realized by overseas individuals who are neither domiciled nor tax resident in China. Pursuant to the Individual Tax Law, although the matter is unclear, if we were considered a PRC resident enterprise, dividends or gains realized by our non-PRC individual shareholders or ADS holders may be treated as income derived from sources within China and may be subject to PRC tax (which in the case of dividends may be required to be withheld) at a rate of 20%.





The EIT Law will affect tax exemptions on dividends to be paid by our PRC subsidiaries to us through our Hong Kong subsidiary and we may not able to obtain certain treaty benefits under the relevant tax treaty.





Under the applicable PRC tax laws in effect before January 1, 2008, dividend payments to foreign investors made by foreign-invested enterprises in China, such as Zuoan Dress Co., Ltd., Shishi, or Shishi Zuoan, our PRC subsidiary, were exempt from PRC withholding tax. Under the EIT Law, starting from 2008, dividends paid by a PRC foreign-invested enterprise to its immediate parent company outside the PRC are subject to a 10% withholding tax, unless any such foreign investor’s jurisdiction of incorporation has a tax treaty with China that provides for a preferential withholding arrangement. Pursuant to a special tax arrangement between Hong Kong and China, such rate may be lowered to 5% if the PRC enterprise is at least 25% held by a Hong Kong enterprise. In October 2009, the State Administration of Taxation further issued the CircularonHowtoInterpretandRecognizethe“BeneficialOwner”in TaxAgreements, or Circular 601, and certain other related rules. According to Circular 601, non-resident enterprises that cannot provide valid documents evidencing their beneficial ownership may not be approved to enjoy tax treaty benefits. For this purpose, the term “beneficial owners” refers to individuals, enterprises or other organizations which are normally engaged in substantive operations. These rules provide that a “conduit company,” or any company established for the purposes of avoiding or reducing tax obligations or transferring or accumulating profits and not engaged in actual operations such as manufacturing, sales or management, is not a “beneficial owner.” As a result, although Shishi Zuoan is currently wholly owned by our Hong Kong subsidiary, any dividends paid by Shishi Zuoan to our Hong Kong subsidiary might not qualify for the preferential withholding tax rate of 5%





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under the tax treaty and might be subject to withholding tax at a rate of 10% if our Hong Kong subsidiary does not qualify as a beneficial owner of Shishi Zuoan.





Enhanced scrutiny over acquisition transactions by the PRC tax authorities may have a negative impact on potential acquisitions we may pursue in the future.





In connection with the EIT Law, the Ministry of Finance and the State Administration of Taxation jointly issued, on April 30, 2009, the Noticeon IssuesConcerningProcessofEnterpriseIncomeTaxin EnterpriseRestructuringBusiness, or Circular 59. On December 10, 2009, the State Administration of Taxation issued the NoticeonStrengtheningtheManagementonEnterpriseIncomeTaxforNon-residentEnterprisesEquity Transfer, or Circular 698. Both Circular 59 and Circular 698 became effective retroactively on January 1, 2008.





By promulgating and implementing these circulars, the PRC tax authorities have enhanced their scrutiny over the direct or indirect transfer of equity interests in a PRC resident enterprise by a non-resident enterprise. The PRC tax authorities have the discretion under Circular 59 and Circular 698 to make adjustments to the taxable capital gains based on the difference between the fair value of the equity interests transferred and the cost of investment. We acquired Shishi Zuoan in September 2008 as part of our restructuring to establish a holding company structure. Although we currently have no plans to pursue new acquisitions in China or elsewhere in the world, we cannot assure you that we will not pursue acquisitions in the future that may involve complex corporate structures. If we are considered a “non-resident enterprise” under the EIT Law and if the PRC tax authorities make adjustments under Circular 59 or Circular 698, our income tax costs associated with such potential acquisitions will be increased.





The enforcement of the Labor Contract Law and other labor-related regulations in China may adversely affect our business and our results of operations.




On June 29, 2007, the National People’s Congress of China enacted the PRC Labor Contract Law, or the Labor Contract Law, which became effective on January 1, 2008. The Labor Contract Law established more restrictions and increased costs for employers to dismiss employees under certain circumstances, including specific provisions relating to fixed-term employment contracts, non-fixed term employment contracts, task-based employment, part-time employment, probation, consultation with the labor union and employee representative’s council, employment without a contract, dismissal of employees, compensation upon termination and for overtime work, and collective bargaining. Under the Labor Contract Law, unless otherwise provided by law, an employer is obligated to sign a labor contract with a non-fixed term with an employee, if the employer continues to hire the employee after the expiration of two consecutive fixed-term labor contracts, or if the employee has worked for the employer for 10 consecutive years. Severance pay is required if a labor contract expires and is not renewed because of the employer’s refusal to renew or seeking to renew with less favorable terms. In addition, under the Regulations on Paid Annual Leave for Employees, which became effective on January 1, 2008, employees who have served more than one year for an employer are entitled to a paid vacation of five to 15 days, depending on the employee’s number of years of employment. Employees who waive such vacation at the request of employers are entitled to compensation that equals to three times their regular daily salary for each waived vacation day. As a result of these new labor protection measures, our labor costs and those of our third-party contract manufacturers are expected to increase, which may adversely affect our business and our results of operations. It is also possible that the PRC government may enact additional labor-related legislations in the future, which would further increase our labor costs and affect our operations and those of our third-party contract manufacturers.


Any recurrence of severe acute respiratory syndrome, or SARS, pandemic avian influenza or an increase in the severity of H1N1 influenza or any other widespread public health problem could adversely affect our business and results of operations.





Our business could be adversely affected by the effects of SARS, pandemic avian flu, H1N1 influenza or other epidemics or outbreaks. China reported a number of cases of SARS in 2004. There have been recent reports of occurrences of avian flu caused by the H5N1 or H9N7 virus in various parts of China, including a few confirmed human cases. Since 2009, China and other countries and regions have reported several occurrences of H1N1 influenza. Any prolonged recurrence of SARS, avian flu, H1N1 influenza, Ebola or any other adverse public health developments in China may have a material adverse effect on our business operations, because such incidents could result in quarantines or closures of our offices, manufacturing facilities and retail outlets, travel and transportation restrictions, import and export restrictions and a general slowdown in China’s economy. In addition, the World Health Organization and the PRC government may recommend or impose other measures that could cause





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significant interruption to our business operations. Any of the foregoing events or other unforeseen consequences of public health problems could materially adversely affect our business, financial condition and results of operations.





Risks Related to Our ADSs and Our Trading Market





The market price for our ADSs may be volatile.





The market price for our ADSs may be volatile and subject to wide fluctuations in response to various factors, many of which are beyond our control, including the following:





•
actual or anticipated fluctuations in our quarterly operating results;





•
changes in financial estimates by securities research analysts;





•
conditions in the fashion casual menswear industry;





•
changes in the economic performance or market valuations of other menswear companies;





•
announcements by us or our competitors of new products, acquisitions, strategic partnerships, joint ventures or capital commitments;





•
addition or departure of key personnel;





•
fluctuations of exchange rates between the Renminbi and U.S. dollar or other foreign currencies;





•
potential litigation or administrative investigations;





•
release of lock-up or other transfer restrictions on our outstanding ADSs or ordinary shares or sales of additional ADSs; and





•
general economic or political conditions in China.





In addition, the securities market has from time to time experienced significant price and volume fluctuations that are not related to the operating performance of particular companies. For example, the securities of some China-based companies that have listed their securities in the United States have experienced significant volatility since their initial public offerings, including, in some cases, substantial price declines in the trading prices of their securities. The trading performances of these Chinese companies’ securities after their offerings may affect the attitudes of investors toward Chinese companies listed in the United States, which consequently may impact the trading performance of our ADSs, regardless of our actual operating performance. In addition, any negative news or perceptions about inadequate corporate governance practices or fraudulent accounting, corporate structure or other matters of other Chinese companies may also negatively affect the attitudes of investors towards Chinese companies in general, including us, regardless of whether we have engaged in any inappropriate activities. In particular, the global financial crisis and the ensuing economic recessions in many countries have contributed and may continue to contribute to increasing volatility in the global stock markets, such as the significant decline in share prices in the United States, China and other jurisdictions in recent years. These market fluctuations may also materially and adversely affect the market price of our ADSs.





We may need additional capital, and the sale of additional ADSs or other equity securities could result in additional dilution to our shareholders and the incurrence of additional indebtedness could increase our debt service obligations.





We believe that our current cash and cash equivalents, anticipated cash flow from operations, the remaining funds available under our credit facilities and the proceeds from our initial public offering will be sufficient to meet our anticipated cash needs for the foreseeable future. We may, however, require additional cash resources due to changed business conditions or other future developments, including any investments or acquisitions we may decide to pursue. If these resources are insufficient to satisfy our cash requirements, we may seek to sell additional equity or debt securities or obtain a credit facility. The sale of additional equity and equity-linked securities could result in additional dilution to our shareholders. The incurrence of indebtedness would result in increased debt service obligations and could result in operating and financing covenants that would restrict our operations. We cannot





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assure you that financing will be available in amounts or on terms acceptable to us, if at all, particularly in light of the current global economic crisis.





Future sales or issuances, or perceived future sales or issuances, of substantial amounts of our ordinary shares or ADSs could adversely affect the price of our ADSs.





If our existing or future shareholders sell, or are perceived as intending to sell, substantial amounts of our ordinary shares or ADSs, including those issued upon the exercise of our share options to be granted under our 2010 Equity Incentive Plan, the market price of our ADSs could fall. Such sales, or perceived potential sales, of our ordinary shares or ADSs might make it more difficult for us to issue new equity or equity-related securities in the future at a time and place we deem appropriate. The ADSs are eligible for immediate resale in the public market without restrictions, except for any ADSs that may be sold to any of the four unaffiliated investors who have agreed with the underwriters to certain lock-up restrictions. In addition, shares held by our existing shareholders may also be sold in the public market in the future subject to the restrictions contained in Rule 144 under the Securities Act of 1933, as amended, or the Securities Act, and the applicable lock-up agreements. If any existing or future shareholder or shareholders sell a substantial amount of ordinary shares or ADSs after the expiration of the lock-up period, the prevailing market price for our ADSs could be adversely affected.





Althoughpubliclytraded,thetradingmarketinourADSshasbeensubstantiallylessliquidthantheaveragestockquotedontheNewYorkStock Exchange,andthislowtradingvolumemayadverselyaffectthepriceofourADSs.





Although our ADSs are traded on the New York Stock Exchange, the trading volume of our ADSs has generally been very low. Investor interest in us may not be as strong as in U.S. companies because we may not be adequately covered by securities research analyst reports as a PRC-based company. The lack of coverage could negatively impact investor interest and the level of trading in our ADSs. Reported average daily trading volume in our ADSs was approximately 66,913 ADSs for the three months ended March 31, 2015 compared to approximately 195,318 ADSs for three months ended March 31, 2014.Limited trading volume will subject our ADSs to greater price volatility and may make it difficult for you to buy or sell your ADSs at a price that is attractive to you.





Your interest in our ADSs will be diluted as a result of our 2010 Equity Incentive Plan or other stock option grants.





In December 2010, we established the 2010 Equity Incentive Plan to help us recruit and retain key employees, directors or consultants by providing incentives through the granting of equity awards. Under the 2010 Equity Incentive Plan, we may issue equity awards in the form of share options, restricted shares, or share appreciation rights. The maximum aggregate number of shares that may be issued pursuant to all awards shall not exceed 3% of our issued share capital immediately, assuming full exercise of all awards that may be granted under the plan. For a description of this plan, see “Item 6.D. Employees—Share-Based Compensation Plans.” The exercise of options to be granted under the 2010 Equity Incentive Plan would result in a reduction in the percentage of ownership of the holders of ordinary shares and of ADSs, and therefore would result in a dilution in the earnings per ordinary share and per ADS. In 2011, we granted 553,613 restricted shares to Mr. Chi Hon Tsang, our ex-chief financial officer. The issuance of such restricted shares had resulted in a reduction in the percentage of ownership of the holders of ordinary shares and of ADSs, and therefore resulted in a dilution in the earnings per ordinary share and per ADS in 2011. You may face difficulties in protecting your interests, and your ability to protect your rights through the United States federal courts may be limited, because we are incorporated under Cayman Islands law. We did not grant any share-based awards under the 2010 Equity Incentive Plan during 2012, 2013 and 2014.





We may be a passive foreign investment company for U.S. federal income tax purposes for our taxable year ended December 31, 2014 or any other taxable year.








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In general, a non-U.S. corporation is a passive foreign investment company, or a PFIC, for U.S. federal income tax purposes for any taxable year in which (i) 75% or more of its gross income consists of passive income or (ii) 50% or more of the average quarterly value of its assets consists of assets that produce, or are held for the production of, passive income. Cash is generally passive for these purposes. We have not obtained (and do not intend to obtain) valuations of our assets in order to make a determination as to our PFIC statusfor 2014 or any other taxable year. However, the value of our assets may be determined by reference to the market value of our ADSs, which has been decreasing over time while our cash balances significantly increased. Therefore, we would be a PFIC for 2014 if the value of our assets were determined based on their book value or by reference to the ADS’ trading price (which is volatile and generally continued to decrease during 2014). As the determination of PFIC status is made on an annual basis and depends on the composition of our income and assets and the value of our assets from time to time, and because our cash balances may continue to be substantial, we may be a PFIC for any taxable year. If we were a PFIC for any year during which a U.S. holder holds ordinary shares or ADSs, we would generally continue to be treated as a PFIC with respect to that U.S. holder for all succeeding years during which the U.S. holder holds the ordinary shares or ADSs. If we are a PFIC, U.S. holders of our ordinary shares or ADSs may be subject to certain adverse U.S. federal income tax consequences. See “Item 10.E. Taxation—U.S. Federal Income Tax Considerations—Passive Foreign Investment Company.”





Mr. James Hong, our founder, beneficially holds a majority interest in our company and has significant influence over our management and his interests may not be aligned with our interests or the interests of our other shareholders.





Currently, our founder, Mr. James Hong, who is also our chairman and chief executive officer, beneficially owns 54.0% of our outstanding ordinary shares on an as-converted basis. See “Item 7.A. Major Shareholders.” The interests of this shareholder may conflict with the interests of our other shareholders. Our founder has significant influence over us, including on matters relating to mergers, consolidations and the sale of all or substantially all of our assets, election of directors and other significant corporate actions. This concentration of ownership may discourage, delay or prevent a change in control of us, which could deprive our shareholders of an opportunity to receive a premium for their shares as part of a sale of us or of our assets and might reduce the price of our ADSs.





You may not have the same voting rights as the holders of our ordinary shares and may not receive voting materials in time to be able to exercise your right to vote. Under certain circumstances, you may be deemed to have instructed the depositary to give a discretionary proxy to a person designated by us.





Except as described in this annual report on Form 20-F and in the deposit agreement, holders of our ADSs will not be able to exercise voting rights attaching to the shares evidenced by our ADSs on an individual basis. Holders of our ADSs will appoint the depositary or its nominee as their representative to exercise the voting rights attaching to the shares represented by the ADSs. You may not receive voting materials in time to instruct the depositary to vote, and it is possible that you, or persons who hold their ADSs through brokers, dealers or other third parties, will not have the opportunity to exercise a right to vote. If we ask for your instructions and notify the depositary of such request at least 21 business days in advance of the meeting date, the depositary will notify you of the upcoming vote and arrange to deliver to you our voting materials, which will contain, among other things, a statement as to the manner in which your voting instructions may be given, including an express indication that such instructions may be given, or deemed given if no instructions are received by the depositary from you on or before the date established by the depositary for such purpose, to the depositary to give a discretionary proxy to a person designated by us. However, no voting instruction shall be deemed given and no such discretionary proxy shall be given with respect to any matter if we inform the depositary we do not wish such proxy given, substantial opposition from ADS holders (as determined by us or the depositary) exists against the outcome for which the person designated by us would otherwise vote, or the matter materially and adversely affects the rights of holders of the ordinary shares.





You may not be able to participate in rights offerings and may experience dilution of your holdings as a result.





We may from time to time distribute rights to our shareholders, including rights to acquire our securities. Under the deposit agreement for the ADSs, the depositary will not offer those rights to ADS holders unless both the rights and the underlying securities to be distributed to ADS holders are either registered under the Securities Act or exempt from registration under the Securities Act with respect to all holders of ADSs. The depositary may, but is not required to, attempt to sell these undistributed rights to third parties, and may allow the rights to lapse. We may be unable to establish an exemption from registration under the Securities Act, and we are under no obligation to file a registration statement with respect to any such rights or underlying securities or to endeavor to cause such a registration statement to be declared effective. In addition, we may not be able to take advantage of any exemptions from registration under the Securities Act. Accordingly, holders of our ADSs may be unable to participate in our rights offerings and may experience dilution in their holdings as a result.





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You may be subject to limitations on transfer of your ADSs.





Your ADSs are transferable on the books of the depositary, unless otherwise restricted by any lock-up arrangements. However, the depositary may close its transfer books at any time or from time to time when it deems expedient in connection with the performance of its duties. In addition, the depositary may refuse to deliver, transfer or register transfers of ADSs generally when our books or the books of the depositary are closed, or at any time if we or the depositary deem it advisable to do so because of any requirement of law or of any government or government body, or under any provision of the deposit agreement, or for any other reason.





Our articles of association contain anti-takeover provisions that could have a material adverse effect on the rights of holders of our ordinary shares and ADSs.





Our amended and restated articles of association contain provisions limiting the ability of others to acquire control of our company. These provisions could have the effect of depriving our shareholders of opportunities to sell their shares at a premium over prevailing market prices by discouraging third parties from seeking to obtain control of our company in a tender offer or similar transaction.





For example, our board of directors has the authority, without further action by our shareholders, to issue preferred shares in one or more series and to fix their designations, powers, preferences, privileges, and relative participating, optional or special rights and the qualifications, limitations or restrictions, including dividend rights, conversion rights, voting rights, terms of redemption and liquidation preferences, any or all of which may be greater than the rights associated with our ordinary shares, in the form of ADSs or otherwise. Preferred shares could be issued quickly with terms calculated to delay or prevent a change in control of our company or make removal of management more difficult. If our board of directors decides to issue preferred shares, the price of our ADSs may decline and the voting and other rights of the holders of our ordinary shares and ADSs may be materially and adversely affected.





You may face difficulties in protecting your interests, and your ability to protect your rights through the U.S. federal courts may be limited, because we are incorporated under Cayman Islands law and conduct substantially all of our operations in China, and the majority of our officers reside outside the United States.





We are incorporated in the Cayman Islands and conduct substantially all of our operations in China through our wholly owned subsidiaries in China. All of our officers reside outside the United States, and some or all of the assets of those persons are located outside of the United States. As a result, it may be difficult or impossible for you to bring an action against us or against these individuals in the Cayman Islands or in China in the event that you believe that your rights have been infringed under the securities laws or otherwise. Even if you are successful in bringing an action of this kind outside the Cayman Islands or China, the laws of the Cayman Islands and of the PRC may render you unable to effect service of process upon, or to enforce a judgment against our assets or the assets of our directors and officers. There is no statutory recognition in the Cayman Islands of judgments obtained in the United States, although the courts of the Cayman Islands will generally recognize and enforce a non-penal judgment of a foreign court of competent jurisdiction without retrial on the merits. A judgment of a court of another jurisdiction may be reciprocally recognized or enforced if the jurisdiction has a treaty with China or if judgments of the PRC courts have been recognized before in that jurisdiction, subject to the satisfaction of other requirements. However, China does not have treaties providing for the reciprocal enforcement of judgments of courts with Japan, the United Kingdom, the United States and most other Western countries.





Our corporate affairs are governed by our memorandum and articles of association and by the Companies Law (2013 Revision) and the common law of the Cayman Islands. The rights of shareholders to take legal action against our directors and us, actions by minority shareholders and the fiduciary responsibilities of our directors to us under Cayman Islands law are to a large extent governed by the common law of the Cayman Islands. The common law of the Cayman Islands is derived in part from comparatively limited judicial precedent in the Cayman Islands as well as from English common law, which has persuasive, but not binding, authority on a court in the Cayman Islands. The rights of our shareholders and the fiduciary responsibilities of our directors under Cayman Islands law are not as clearly established as they would be under statutes or judicial precedents in the United States. In particular, the Cayman Islands has a less developed body of securities laws as compared to the United States, and provides significantly less protection to investors. In addition, Cayman Islands companies may not have standing to initiate a shareholder derivative action before the federal courts of the United States.





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As a result of all of the above, our public shareholders may have more difficulty in protecting their interests through actions against our management, directors or major shareholders than would shareholders of a corporation incorporated in a jurisdiction in the United States.





ITEM 4. INFORMATION ON THE COMPANY





4.A. History and Development of the Company





We commenced our garment manufacturing operations in June 1999. Our Zuoan trademark was originally registered in 2001 by Fujian Aidu Industry and Trading Co., Ltd., a company wholly owned by the family of Mr. James Hong, our founder. In April 2002, Shishi Zuoan, was incorporated and commenced operations as a foreign-invested enterprise. The then sole shareholder of Shishi Zuoan was Ms. Siu Fong Or, wife of Mr. James Hong and a Hong Kong resident. Shishi Zuoan subsequently migrated to our current business as a designer brand of fashion casual menswear.





In February 2008, we set up a holding company structure by establishing Fast Boost Holdings Limited, or Fast Boost, in the British Virgin Islands. Fast Boost established a wholly owned subsidiary, Champion Goal Holdings Limited, or Champion Goal, in July 2008 in Hong Kong. Champion Goal then acquired all the equity interests in Shishi Zuoan in September 2008.





We incorporated Zuoan Cayman in August 2010. On October 5, 2010, Fast Boost became the wholly owned subsidiary of Zuoan Cayman through a share exchange through which Zuoan Cayman acquired all of the issued and outstanding shares of Fast Boost, and issued ordinary shares to the shareholders of Fast Boost. Upon completion of the share exchange, Zuoan Cayman became our ultimate holding company.





In August 2010, Shishi Zuoan incorporated a wholly owned subsidiary, Shanghai Mingfu Fashion Limited, or Shanghai Mingfu, in Shanghai. After its incorporation, we relocated our headquarters and design and product development team to Shanghai.





4.B. Business Overview





We are a leading design driven fashion casual menswear company in China. Our products are designed in-house and sold under our Zuoan brand, which means “left bank” in Chinese, referring to the Left Bank district of Paris and embodying our design philosophy of “fashionable elegance.” We offer a wide range of products, including men’s casual apparel, footwear and lifestyle accessories, primarily targeting urban males between the ages of 20 and 40 who prefer stylish clothing that represents a sophisticated lifestyle.





Our design team is led by Mr. James Jinshan Hong, or Mr. James Hong, our chairman and chief executive officer. Mr. James Hong is recognized as one of China’s top designers with more than 17 years of industry experience. Our marketing strategy focuses on promoting an overall brand image that embodies a lifestyle of “fashionable elegance,” rather than individual products. Unlike many of our competitors, we do not rely on large-scale, blanket television advertising, but instead adopt a targeted multichannel marketing strategy through our sponsorship of selective public events and activities, participation in major fashion shows and exhibitions and national advertising through television, Internet, billboards, magazines and newspapers.





We outsource the production of most of our products to selected contract manufacturers. For our most exclusive and fashion-forward products, we produce them in our own secure production facility in Jinjiang City, Fujian Province to retain maximum control over quality and prevent unauthorized disclosure of our new collection before its scheduled release.





We sell our products through an extensive distribution network covering 30 of China’s 32 provinces and centrally administered municipalities, as well as through our direct stores. Our products are primarily sold to customers through retail stores operated by our distributors and their sub- distributors.





To further promote our brand awareness and improve the performance of Zuoan retail stores, we have adopted a strategy of opening flagship stores, both distributor-operated and directly operated, at prime locations in major cities in China from early 2010. These flagship stores are significantly larger than most of our existing stores and offer the complete line of our collections. Our distributors have opened 56 flagship stores in 18 provinces. In line with our strategy to expand our sales network of flagship stores, in January 2011, we transferred all of our direct stores,





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which were located in department stores or shopping malls, to our distributors and began opening our new directly operated flagship stores at prime commercial areas. As of December 31, 2014, we still had three direct stores in Shanghai, as we were unable to locate suitable locations for directly operated flagship stores.





In October 2012, we further transferred all of our directly operated flagship stores to our distributors as a result of our efforts to streamline our internal operational infrastructure in order to reduce expenses and improve financial performance. As the market condition becomes increasingly challenging, we have experienced difficulties in recruiting and retaining managerial staff for our flagship stores and also in managing our inventories. Since our distributors are more experienced in operating stores and inventories than us, we believe that to transfer our flagship stores to certain distributors, who collectively run 56 Zuoan flagship stores of their own, allows us to concentrate on our core strengths in design-driven fashion and brand visibility and at the same time improves the performance of these transferred flagship stores.





Industry Background





China is one of the largest and fastest-growing menswear markets in the world, driven primarily by a rapidly growing economy and increasing disposable income of consumers. Along with increased purchasing power, male consumers in China are becoming more conscious of and sensitive to the branding, design and quality of menswear. As a result, fashion casual menswear, a sub-sector of casual menswear, has become increasingly popular in China because it caters to consumers who desire variety and fashion that highlight an individual’s personality while participating in recreational, social or leisure activities. The fashion casual menswear market in China is relatively fragmented, with more than 500 fashion casual menswear providers. Among them, only a small number of providers have in-house design capabilities that enable them to provide branded fashion casual menswear products and to retain leading market positions.





Products





We focus on the design and distribution of fashion menswear, including apparel and accessories. Our apparel products include blazers, jackets, sweaters, shirts, T-shirts, leather jackets, down jackets, pants and jeans. Accessories include shoes, bags, ties, belts, socks and scarves. Most of our products are designed to appeal to urban males between the ages of 20 and 40 with moderate-to-high disposable incomes. In 2014, the suggested retail prices of our products ranged from RMB129 to RMB8,980 for our apparel products and RMB15 to RMB1,299 for our accessory products.





Our products feature innovative and stylish design, as well as quality fabrics and materials. We have launched a few collections of new products with a different theme to highlight the current trends in menswear for the season. We also devote substantial resources to the development and application of new materials and fabrics which we believe will bring our customers a unique experience and create new market opportunities.





Sales





General





We sell the substantial majority of our products to our distributors who in turn sell them to retail customers through Zuoan branded retail stores operated by our distributors or their sub-distributors. We believe that our distribution business model which depends primarily on wholesale distributors is commonly adopted by brand owners in China. By selling directly to our distributors, we can recognize revenues upon delivery to our distributors and delegate the distribution responsibilities to our distributors and, through them, to sub-distributors. This allows us to distribute our Zuoan merchandise to a wide geographic area and penetrate markets by leveraging the local market knowledge of our distributors and their sub- distributors. This also minimizes our inventory and sales risks while allowing us to allocate our resources to our core competitive strengths of design, brand management and product development. We believe that our cooperation with distributors has enabled us to expand our business and accelerate our sales growth at much lower costs and operational risk and achieve brand recognition throughout China. Over the years, we have established a nationwide distribution network covering 30 of China’s 32 provinces and centrally administered municipalities as of December 31, 2014. We also plan to commence online sales of our products to further expand our distribution network.





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Thefollowingdiagramillustratestherelationshipamongourcompany,distributorsandsub-distributors,retailstoresandend-consumersasof December31,2014:









Our Distributors





Network of Distributor-Operated Retail Stores





As of December 31, 2014, we had 15 distributors who operated 820 retail stores directly or through their sub-distributors, all of which were stand-alone stores, which were typically located in street-side or commercial centers, including department stores or shopping malls, in their cities. The average floor area of Zuoan retail stores was approximately 92 square meters as of December 31, 2014. We do not have any ownership in, or contractual relationship with, these retail stores, but in the distribution agreements, we require distributors and their sub-distributors to sell only Zuoan products in these retail stores. Distributors are responsible for selecting and ordering products from us and overseeing the sales in the retail stores operated by them and their sub-distributors. The number of Zuoan retail stores has decreased from 1,329 as of December 31, 2012 to 1,082 as of December 31, 2013, respectively, with the aggregate floor area decreasing from 105,303 square meters as of December 31, 2012 to 90,386 square meters as of December 31, 2013.The number of Zuoan retail stores decreased to 823, with the aggregate floor area decreased to 75,325 square meters as of December 31, 2014 due to the economic downturn since the second half of 2012 in China. In 2012, 2013 and 2014, sales to distributors accounted for 94.3%, 98.9% and 99.2% of our revenues, respectively.





The following table lists by region the number of Zuoan retail stores operated by distributors and sub-distributors as of the dates indicated:





As of December 31,2012


2013


2014Operated by

Distributors


Operated by

Sub- Distributors


Operated by

Distributors


Operated by

Sub- Distributors


Operated by

Distributors


Operated by

Sub- DistributorsAnhui


14



26



6



22



5



17Beijing


9



—



15



8



13



6Chongqing


7



—



13



—



15



—Fujian


11



10



—



21



—



20Gansu


2



28



14



7



8



5Guangdong


5



10



4



8



4



9Guangxi


—



54



19



14



11



13Guizhou


—



18



4



6



—



2Hainan


3



3



2



6



—



—Heilongjiang


—



71



7



35



6



22Hebei


—



58



2



47



2



41Henan


1



94



23



62



24



56





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As of December 31,2012


2013


2014Operated by

Distributors


Operated by

Sub- Distributors


Operated by

Distributors


Operated by

Sub- Distributors


Operated by

Distributors


Operated by

Sub- DistributorsHubei


16



55



19



41



14



24Hunan


11



79



15



66



15



56Inner Mongolia


—



28



1



20



1



18Jiangsu


9



101



9



78



9



57Jiangxi


4



46



19



25



10



24Jilin


—



37



5



24



—



17Liaoning


7



77



17



60



11



40Ningxia


—



17



1



—



1



—Qinghai


—



2



—



2



—



2Shaanxi


—



38



—



35



—



22Shandong


17



76



15



58



10



42Shanxi


18



23



2



34



2



32Sichuan


10



81



14



68



14



50Tianjin


11



—



6



6



6



7Tibet


—



7



—



6



—



2Xinjiang


15



16



12



15



3



6Yunnan


9



33



3



6



4



7Zhejiang


1



54



5



43



3



32Total






1,322







1,075







820




To further promote our brand image and improve the performance of Zuoan retail stores, since early 2010 we have begun to encourage distributors to open flagship stores at prime locations in major cities in China. These flagship stores are significantly larger than most of the existing retail stores and direct stores and offer the complete line of our collections. Our distributors have opened 56 flagship stores in 18 provinces as of December 31, 2014.We plan to continue the opening of flagship stores through distributors and significantly expand our network of flagship stores in the future.





Management of Distributors and Retail Stores





We are highly selective in appointing distributors. We maintain good relationships with many regional or local distributor candidates which we identify through our internal research and external referrals but only appoint a handful of them to become our distributors. We evaluate the relevant experience of the distributor candidates in operating retail stores, their financial condition and sources of funding required for the establishment of a regional distribution network and their ability to develop a network of retail stores in the designated distribution region of a given distributor before we make any appointment.





Once appointed, each distributor must enter into a distribution agreement with us. We do not own any interest in any of our distributors, their sub- distributors or the retail stores they operate. The distribution agreements we typically enter into with distributors do not allow us to be involved in the daily operating, financing or other activities of the distributors, except that distributors need to comply with our brand management policies and pricing and store management guidelines. Key terms of our standard distribution agreement include:





•
GeographicCoverage. Distributors are granted exclusive rights to distribute our products (directly and indirectly through their sub- distributors) in the retail stores within the specified geographic area with no overlapping of distributors within our distribution network. However, we retain the right to operate direct stores anywhere regardless of whether we have appointed distributors there.





•
Duration. The distribution agreements generally have an initial term of three years and are renewable at our discretion after taking into account factors such as compliance with our brand management policies and sales performance.





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•
DistributorPricing. Distributors agree to order our products at a discount from our suggested retail prices. The applicable discount rate is typically determined at sales fairs where we collect orders from the distributors. Historically, we set the discount rate at 65% off of our suggested retail prices and have lowered such rate to 62% since the third quarter of 2011. However, the discount rate was increased to 65% off of our suggested retail prices since the third quarter of 2013 and further increased to 70% off of our suggested retail prices since the third quarter of 2014 due to the economic downturn since the second half of 2012 in China.




•
RetailPricing. Other than at times when we launch promotional campaigns or adjust our strategies, distributors must adopt, and are required to procure their sub-distributors to adopt, our suggested retail prices for products. Distributors must obtain our consent before launching any distributor-specific special offers.





•
PaymentandDelivery. We are entitled to require distributors to pay us before delivery of our products. We may also accept payment on credit terms to the extent requested by distributors experiencing working capital difficulties. Nonetheless, in line with industry practice, we generally provide credit terms of up to 90 days to our distributors. Since the third quarter of 2012, we further extended credit terms for certain of our distributors who experienced difficulties in collecting from their sub-distributors to up to 120 days as a result of the economic downturn since the second half of 2012 in China. The amount and duration of credit granted to each distributor will depend on its financial position and creditworthiness. We handle the arrangements for delivery of our products, but the distributors are required to bear the related costs and expenses.





•
BrandManagement. Distributors must comply with our brand management policies and store management guidelines. We may impose penalties, suspend supply of products and terminate the agreement in the event of any breach of such policies.





•
BrandPromotionAllowance. Prior to 2010, as an incentive to promote our brand in order to facilitate the expansion of our sales network and enhance sales, distributors were entitled to a brand promotion allowance equal to 3% of the total purchase orders from us. Such allowance was terminated beginning in 2010 as we adopted a strategy to increase our spending on centralized nationwide marketing activities while continuing to encourage our distributors to pursue their own marketing initiatives in line with our guidelines. Since the fourth quarter of 2011, as a result of warmer winter, we provided discretionary brand promotion allowance equal to 3% of the total purchase orders from us to our distributors for their marketing efforts to clear inventories for the 2011 winter collection. Since the third quarter of 2012, we provided higher discretionary brand promotion allowance equal to 6% of the total purchase orders from us to our distributors in light of the declined spending power caused by the economic downturn in China since the second half of 2012. In the future we will determine whether such brand promotion allowance is needed based on market conditions and may enter into agreements on such brand promotion allowance.





•
Termination. We can terminate the distribution agreements and seek indemnification in the event of breach by distributors.





When opening new retail stores, our distributors conduct research on the market potential of the proposed retail sites, after which they will provide us with an application for opening a new retail store. In reviewing applications, we consider factors including the store location, store layout, available area, market opportunities, competitors and estimated sales. We conduct selected on-site investigations to verify applications filed by our distributors. Such on-site investigations are mandatory for opening new flagship retail stores by distributors. Our retail stores are generally located in prime retail locations in their respective cities and thus benefit from high volumes of pedestrian traffic.





Effective monitoring of distributors and their retail stores is critical to our success. We have a team in our marketing, sales and distribution department to monitor our distributors’ and their sub-distributors’ performance, who conduct on-site inspections of selected retail stores each quarter without prior notice to ensure compliance with our store management guidelines. According to the results of our inspections, we, from time to time, make suggestions to our distributors with respect to the opening or closure of their retail stores. Distributors also need to submit to us their annual/semi-annual plans to estimate their orders for the next season and their plan to improve the performance of existing retail stores or expand by opening new retail stores. This reporting system enables us to access up-to-date sales projections of our distributors and their sub-distributors, which reflects the overall level of





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retail sales of our products. It also provides us with the expansion plan of each distributor which helps us prepare our overall development plan in a more accurate manner.





We invite our distributors, as well as a select number of their sub-distributors and retail store managers, to attend our sales fairs, which are held twice a year. During the sales fairs, we discuss with our distributors and their sub-distributors the upcoming product line. Apart from participating in two sales fairs each year, our distributors visit us from time to time and contact us as necessary, which allows us to have access to updated market information. We also provide training for distributors and their sub-distributors in the areas of sales techniques, customer service and product knowledge, typically prior to the launch of our new collections each year. We believe that these investments help to improve the operations of the sales network and provide additional value-added services to retain our distributors and their sub-distributors. We have established long-term relationships with our key distributors and most of our current distributors have been with us for more than five years. We have not encountered any material dispute or financial difficulty with our key distributors.





Direct Stores and Directly Operated Flagship Stores





We started establishing direct stores in April 2009. These stores are all located in department stores or shopping malls, where we typically pay a certain percentage of the revenue that our direct stores achieve in any given period as our rental payment.





In line with our strategy to expand our sales network of flagship stores at that time, in January 2011, we transferred all of our direct stores to our distributors and began opening our new directly operated flagship stores at prime commercial areas in May 2011. As of December 31, 2014, we had no directly operated flagship stores in China.





In October 2012, we transferred all of our directly operated flagship stores to our distributors as a result of our efforts to streamline our internal operational infrastructure in order to reduce expenses and improve financial performance. As the market condition becomes increasingly challenging, we have experienced difficulties in recruiting and retaining managerial staff for our flagship stores and also in managing our inventories. Since our distributors are more experienced in operating stores and inventories than us, we believe that to transfer our flagship stores to certain distributors, who collectively run 56 Zuoan flagship stores of their own, allows us to concentrate on our core strengths in design-driven fashion and brand visibility and at the same time improves the performance of these transferred flagship stores. As of December 31, 2014, we still had three direct stores in Shanghai as we were unable to locate suitable locations for directly operated flagship stores.





Collection of Orders and Distributor Pricing





We collect orders from our distributors primarily at our large sales fairs twice a year. We have a private viewing to showcase our new product collections for our distributors in advance of these sales fairs, at which distributors can preview and evaluate our new product collections. The private viewings are also a good platform for us to exchange information with our distributors about the current and future trends in the menswear market in China, as well as the theme of our new collections. We then organize sales fairs for our distributors, sub-distributors and direct store managers, and collect their orders from the distributors or our direct store managers. Our sales fairs are generally held in spring for our fall/winter collections, and fall for our spring/summer collections. We collect most of our orders from these two large sales fairs. We also hold two small sales fairs in summer and winter to enable our distributors, sub-distributors and direct stores to add to their orders for the subsequent winter and summer season, respectively. Historically, approximately 95% of the total purchase orders for our products are placed at these sales fairs. We sell products to our distributors at a discount from our suggested retail prices, which were set at 65% historically and has been lowered to 62% off of the suggested retail prices since the third quarter of 2011 while increased to 65% since the third quarter of 2013 and further increased to 70% since third quarter of 2014. We grant a uniform discount rate to all distributors for any purchases made, regardless of the size of their orders. We believe that the orders coming from sales fairs allow us to efficiently utilize our production facilities and contract manufacturers, respond quickly to market demand and manage our inventory more efficiently.





Our Retail Pricing Strategy





To maintain brand equity, we set suggested retail prices and work closely with our distributors in coordinating sales and promotional activities such as loyalty programs for the end-consumers. In determining the suggested retail





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prices of our products, we usually take into account, among other factors, the prevailing market conditions, cost of design, cost of raw materials and production, and prices set by competitors operating comparable domestic or international brands for similar products. Distributors must adopt, and are required to procure their sub-distributors to adopt, a uniform suggested retail price for each of our products across the market in China, provided, however, that individual distributors or sub-distributors may launch special offers with our prior consent. We generally allow distributors and sub- distributors to offer up to 15% discounts for in-season products. We also generally give distributors and sub-distributors the discretion to set their own discounted prices to promote sales of out-of-season products.





In 2014, the suggested retail prices of our products ranged from RMB129 to RMB8,980 for our apparel products and RMB15 to RMB1,299 for our accessory products.





Our Design





We believe that innovative and fashionable design drives the success of our brand and is one of the key factors in creating and maintaining the popularity of our products in the market. Our design philosophy is to create fashionable and elegant menswear with quality tailoring. By focusing on product design, we aim to become a fashion trend leader in the casual menswear market in China and supply products that consistently meet customers’ demands. The following diagram illustrates our design process:











Our design and product development team conceptualizes each season’s collections through an interactive process, taking into account our brand strategy, product image and market feedback, drawing inspirations from domestic and international fashion trends and collaborating with both our suppliers and distributors to fine-tune our designs. In particular, we collaborate with our suppliers to develop a variety of materials and fabrics for our products. We also involve distributors in our product selection process to take advantage of their market intelligence, which helps us to adapt to constantly changing customer preferences in local markets. Our designers also attend various domestic and international fashion shows to keep abreast of the latest fashion trends.





As of December 31, 2014, our design and product development team comprised 19 members.  We believe that our design and product development team is innovative and passionate and that the individual experience of each of our designers helps bring new and exciting products to our customers. In a typical season, we design and make 1,200 to 1,500 prototypes. After the initial product selection, internal cost analysis of approved prototypes and final selection by distributors at the sales fairs, we eventually select approximately 500 to 750 designs for mass production. Final design of all of our products will be approved by our product development committee.





In June 2010, we relocated our design and product development centre from Zhongshan, Guangdong Province to Shanghai for product design and market research and analysis. Shanghai is one of the fashion centers in China with some of the top fashion institutes and designers. We believe that this strategic relocation will enable us to quickly adapt to domestic and international fashion trends and to have better access to a high quality pool of designer which, in turn, will strengthen our product design capabilities and our ability to compete more effectively against our competitors.





Our Product Development





Contract Manufacturing





We outsource the production of most of our products to selected contract manufacturers who are able to produce products to our satisfaction in terms of product quality, delivery schedule and price. All of our outsourced





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products are produced under our Zuoan brand. We believe that our outsourcing arrangements optimize our production flow, allow us to leverage the expertise and resources of these contract manufacturers, and enable us to focus on the products design and brand management which we believe to be our core competitive strength. We also believe that these arrangements are helpful in responding to tight schedules, especially during peak production seasons.





We maintain relationships with many apparel and accessories manufacturers and engage a select group of them each year. We select our contract manufacturers based on the quality of their products, their previous business relationship with us, pricing, reliability, track record in the industry, production capacity and the ability to meet our delivery schedules. Most of our contract manufacturers have had established business relationships with us for more than five years.





We enter into framework agreements with our contract manufacturers. Detailed terms such as product types, unit price, purchase quantity and delivery schedules are included in the purchase orders that we place with our contract manufacturers. We typically pay our contract manufacturers a deposit of up to 30% of the purchase price upon the placement of our orders and settle the balance of the purchase price upon the delivery of the products following the final quality control inspection. We may use multiple contract manufacturers for any given product and are not bound to place any minimum order with any contract manufacturers.





Purchases from our contract manufacturers accounted for 97.0%, 100.0% and 100.0%, respectively, of our total cost of sales in 2012, 2013 and 2014. Purchases from our largest contract manufacturer accounted for 12.1%, 11.5% and 10.3%, respectively, of our total cost of sales for the same periods.





In-house Production





We used our own production facility in Jinjiang, Fujian Province to produce our most exclusive and fashion-forward products. We also had in- house production for made-to-order products on an ad hoc basis for selected customers under the James Hong private label brand. We also produced prototypes in-house to showcase at our seasonal sales fairs for our distributors.





In October 2012, we decided to concentrate on brand development and construction of new logistics centers and warehousing facilities going forward and as a result closed our sole production facility.





Packaging, Warehousing and Delivery





Finished products undergo a final inspection to ensure that they meet our quality standards and specifications. Products that have passed the final inspection are then packed and sorted according to colors and sizes before being sent for warehousing. We store substantially all of our finished products procured from contract manufacturers in our primary warehousing facility in Fujian and then deliver products to third-party logistics service providers designated by our distributors who will then arrange for subsequent delivery to the retail stores. Shipping and handling expenses related to sales to distributors are incurred by, and paid directly by, our distributors.





Marketing





We believe our brand name plays a significant role in attracting customers and driving our sales and the overall success of our business. Accordingly, our marketing activities focus primarily on enhancing our Zuoan brand as a designer brand for fashion casual menswear. To promote greater awareness of our Zuoan brand and products, we have adopted various marketing approaches which aim to generate interest and recognition not only among retail customers, but also among distributors, salespeople and the media.





Seasonal Sales Fairs





We typically organize two large sales fairs each year, usually four to six months prior to the launch of our spring/summer and fall/winter collections for the subsequent season. We hold such sales fairs in different cities in China, such as Beijing, Shenyang, Xiamen and Shishi, and invite our distributors, certain sub-distributors as well as potential distributors and direct store managers to our sales fairs where we showcase our latest designs and collections. We also hold two small sales fairs in summer and winter to enable our distributors, sub-distributors and direct stores to add their orders for the subsequent winter and summer season, respectively. Historically, approximately 95% of the total purchase orders for our products are placed during these sales fairs.





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Fashion Shows and Exhibitions





To promote our Zuoan brand among fashion industry leaders, we participate in major domestic fashion shows and exhibitions including, among others, China Fashion Week, Beijing International Fashion Week and Dalian International Fashion Festival. We present our latest designs and products to increase market awareness of our Zuoan brand and products, establish and maintain relationships with the fashion media and develop sales leads customers.





Advertisements





Our national advertising focuses on building our Zuoan brand image and lifestyle, rather than on individual products. We primarily promote our Zuoan brand and products through advertisements on television, in print media such as magazines and newspapers, on billboards at train stations, bus stops, shopping centers and along highways, and through radio, and on the Internet. We carefully craft the content of our advertisements to attract our target customers: urban males in China between the ages of 20 and 40 with moderate-to-high levels of disposable income.





We publish our own fashion and lifestyle magazine “LEFT” semi-annually. We present our newest collections, update our target customers on the global fashion trends and introduce our recent marketing activities and upcoming promotional activities in this magazine. We also produce product catalogues featuring our designs and products for each season. Copies of our magazines and product catalogues are available to customers for free in Zuoan retail stores, direct stores, major airports, fashion shows and exhibitors as well as events we sponsor.





Sponsorships





From time to time, we selectively sponsor events to promote the recognition and public image of our Zuoan brand. For example, we sponsored tailored menswear for the Ferrari Car Owners’ Gathering in Beijing in April 2008 and the 2008 Beijing Borui Lexus Golf Competition. We also initiated and sponsored the “Save Our Planet, China’s Contribution” campaign in Copenhagen, Denmark in 2009 to help promote the concept of environment protection. In 2011 we cooperated with Beijing Nesound International Media Limited to sponsor a 30-episode high-end drama called “Hua Li Yi Zu” featuring a renowned cast from both China and Taiwan. This new program was broadcasted nationwide on Hunan TV, an innovative entertainment channel in China, in March 2013. As part of our sponsorship, we provide our apparel for the male actors to wear in the television series. We showcase our brand name in various episodes and also have the opportunity to develop several set scenes that will depict our fashionable style and socially responsible design concept.





Management of Promotional and Marketing Activities of Our Distributors





Our internal marketing team is responsible only for our national promotional activities as mentioned above and we depend on our distributors and sub-distributors to conduct regional and local promotions and marketing activities in areas where their sales networks are located. These regional and local promotional activities include advertisements through local television, radio, newspapers and magazines, as well as small fashion shows. We encourage our distributors’ advertising efforts by providing them with ready-to-use promotional and marketing materials and assisting them to develop marketing strategies. Since the fourth quarter of 2011, we provided discretionary brand promotion allowance equal to 3% of the total purchase orders from us to our distributors for marketing efforts to clear inventories for the 2011 winter collection as a result of warmer winter. Since the third quarter of 2012, we provided higher discretionary brand promotion allowance equal to 6% of the total purchase orders from us to our distributors in light of the declined spending power caused by the economic downturn in China since the second half of 2012.





Through our overall supervision of, and our support to, the regional promotional and marketing activities by our distributors, we aim to present to our retail customers across China a consistent brand image. In 2013 and 2014, the brand promotion allowance that we provided to our distributors were RMB73.9 million and RMB54.2 million, respectively. To ensure a consistent store image, we also provide fixtures and fittings such as goods shelves, mannequins and hangers at our cost before our distributors open a new store, and from January 2010, we agreed to reimburse part of the renovation expenses in the amount of approximately RMB3,300 per square meter for new stores opened by most of our distributors. As of December 31, 2014, we incurred expenses relating to such reimbursement in the amount of RMB82.1 million (US$13.2 million).





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Loyalty Programs





We believe that building customer loyalty towards our Zuoan Brand products is important to our success. With our encouragement, a number of our distributors or their sub-distributors offer VIP programs under which a member enjoys a discount from the retail price of a product and may also take advantage of promotional services such as rewards points and holiday discount offers. These VIP programs are managed independently by distributors and sub-distributors and as a result, each member of the VIP program is entitled to discounts or other privileges only in certain designated stores which are controlled by the relevant distributors. We have not established a nationwide VIP program and do not provide any monetary support to distributors or sub-distributors who offer VIP programs to customers.





Quality Control





The quality of our Zuoan products is critical to our business and our brand and is key to our continued growth and success. As such, we place great emphasis on quality assurance and have an established quality control system. We obtained the ISO 9001: 2000 certifications for our design, production, sales and service processes for jackets with a term of three years commencing from July 2008. This certification is evidence that our quality control management system meets international standards. As of December 31, 2014, we had a team of four staff members in our quality assurance department which is responsible for the quality control of our products. Most of our quality assurance personnel are based in our new warehousing facilities in Jinjiang, Fujian Province and the design and product development centers in Shanghai, while the remaining staff are located at our contract manufacturers’ production facilities.





In October 2012, we decided to concentrate on brand development and construction of new logistics centers and warehousing facilities going forward and as a result closed our sole production facility in Jinjiang, Fujian Province. For products we produced in-house before October 2012, our quality assurance team monitored each stage of our production process. We started our quality control process from the time when we selected our suppliers, in which a key factor is the quality of their materials. We inspected each batch of shipped raw materials according to our quality standards and certain national health, safety and environmental standards, and returned defective materials and components to the suppliers for replacement. We also carried out regular checks of our machinery and equipment to ensure they were well maintained and in good working condition. All finished products were subject to a final quality inspection to ensure that they were in good condition and conformed to the specifications of our quality standards before they were sent to the warehouse for storage in preparation for delivery to our distributors.





With respect to products that are produced by contract manufacturers, we have implemented stringent quality control policies to ensure the products they produce will meet our product specifications and quality standards. We conduct on-site inspections at our contract manufacturers before we enter into a business relationship. We provide technical training to our contract manufacturers and assist them with quality control in the production process. Once a contract manufacturer is appointed, we will send our quality assurance staff to stay in their facilities or visit them on a monthly basis to carry out on-site quality checks and supervision during the production process. We also inspect finished products produced by our contract manufacturers and return defective products for rectification or replacement.





Under our return of products policy, our distributors are required to conduct quality inspections upon receipt of our products and are allowed to return defective goods at the time of delivery. Once the distributors have completed the inspection and accepted the products, they are deemed to have considered the products as satisfactory in the absence of such complaint. Where some defects are not obvious, we may, on a case-by-case basis, allow return of products from distributors even though the notice of complaint is not promptly served.





Competition





We operate in a highly competitive industry. We compete intensively with various domestic brands with similar business models and target markets. We also compete with a growing number of international brands trying to expand their market share in China to take advantage of rising consumer spending on fashion casual menswear. International brands traditionally dominate the high-end market, but domestic brands have advantages in price and





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distribution and are increasingly competitive in the mid-to high-end markets. In addition, certain business formal menswear brands have been seeking to expand into fashion casual menswear market and if they are successful, it may intensify the competition in the fashion casual menswear market that we engage in. Our major competitors include, among others, international brands such as Jack & Jones, and local brands such as Mark Fairwhale and Cabbeen.





Our products compete on the basis of brand image, design and concept, product mix, quality, price, customer service and the breadth of our retail network. Some of our competitors may have greater financial, management, human, distribution, development, marketing or other resources or better brand recognition than we do. We face a variety of competitive challenges, including:





•
strong brand recognition among many of our competitors;





•
relatively low entry barriers to the menswear industry;





•
competitive pricing strategies of our competitors;





•
established relationships between our competitors and their distributors;





•
expansion by existing competitors;





•
innovative sales methods adopted by our competitors; and





•
better product designs from or better branding efforts of our competitors.





We believe that our primary competitive advantages are our well-known Zuoan brand, our strong design capability, the style and quality of our apparel and accessories, and our extensive distribution network across China. However, some of our existing and potential competitors may have more retail stores and products or more financial resources than we do. Accordingly, there can be no assurance that we will be able to compete successfully with them in the future.





Intellectual Property





Our trademarks, trade names, trade secrets and other intellectual property rights, such as design and technical know-how, distinguish our products from those of our competitors, and contribute to our competitive advantage in our target market. To protect our brand and other intellectual property, we rely on a combination of trademark, trade secret and other intellectual property laws as well as confidentiality agreements with our employees, suppliers, distributors and others.





We take the following steps to protect and prevent infringement of our intellectual property rights:





•
manufacture in-house products with proprietary designs to minimize counterfeit products;





•
obtain intellectual property registrations to the extent possible; and





•
prohibit our distributors and sub-distributors from selling counterfeit products and require them to report instances of counterfeit products in the market.




We have registered 23 trademarks and logos relating to our business, Our main website is including located at www.zuoancn.com, our registered domain name.




We cannot be certain that our efforts to protect our intellectual property rights will be adequate or that third parties will not infringe or misappropriate these rights. In addition, there can be no assurance that competitors will not independently develop similar intellectual property. If others are able to copy our designs, produce counterfeit products or successfully challenge the proprietary rights of any of our brand name or image, we may not be able to maintain our competitive position. Furthermore, the application of laws governing intellectual property rights in China and abroad is uncertain and evolving and could involve substantial risk to us. If litigation is necessary to enforce our intellectual property rights or determine the scope of the proprietary rights of others, we may have to incur substantial costs or divert other resources, which could harm our business.





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Insurance





We maintain insurance coverage for our raw materials and inventory. However, we do not have insurance coverage on interior decoration as such insurance is currently unavailable in China. Furthermore, as is typical in China, we do not maintain product liability insurance, business interruption insurance or third-party liability insurance against claims for property damage, personal injury and environmental liabilities.





As required by regulations in China, we participate in various employee social security plans that are administered by municipal and provincial governments, including housing, pension, medical insurance and unemployment insurance. We are required under relevant PRC laws to make contributions to employee benefit plans at specified percentages of the total salaries, bonuses and certain allowance of our employees, up to a maximum amount specified by the relevant local governments from time to time.





Environmental Matters





As required under the environmental laws and regulations in China, we have carried out the relevant environmental impact assessments before commencing construction or renovation of our production facility and have obtained all the required permits and environmental approvals for our production facility.





Legal Proceedings





We are not currently a party to any material legal proceeding or investigation, and, to our knowledge, there are no material legal proceedings threatened against us. From time to time, we may be subject to various claims and legal actions arising in the ordinary course of business.





Regulations





This section summarizes the principal current PRC laws and regulations relevant to our business and operations.





Regulations on Product Quality





The principal legal provisions governing product liability are set forth in the PRC Product Quality Law, which was promulgated in February 1993 by the SCNPC and amended in July 2000.





The PRC Product Quality Law stipulates the responsibilities and obligations of product sellers and producers. Violations of the PRC Product Quality Law may result in the imposition of fines. In addition, the seller or producer may be ordered to suspend its operations, and its business license may be revoked. There may also be criminal liability in serious cases.





According to the PRC Product Quality Law, consumers or other victims who suffer injury or property losses due to product defects may demand compensation from the manufacturer as well as the seller. After compensating the consumer, the seller may recover the corresponding amount from the manufacturer if the manufacturer is responsible for the product defects, and vice versa.





Regulations on Consumer Protection





The principal legal provisions for the protection of consumer interests are set forth in the Law of the PRC on Protection of Consumer Rights and Interests, or the Consumer Protection Law, which was promulgated in October 1993, became effective in January 1994 and was amended in August 2009 and October 2013. The Consumer Protection Law sets forth standards of behavior that businesses must observe in their dealings with consumers.





Violations of the Consumer Protection Law may result in the imposition of fines. In addition, the violating entity may be ordered to suspend its operations, and its business license may be revoked. There may also be criminal liability in serious cases.





According to the Consumer Protection Law, if the legal rights and interests of a consumer are injured during the purchase or use of goods, the consumer may seek compensation from the seller. If the manufacturer or an upstream distributor is responsible, after compensating the consumer, the seller may recover the corresponding amount from the manufacturer or the upstream distributor. Consumers or other persons who suffer personal injury or property





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damages due to defects in products may seek compensation from the manufacturer as well as the seller. After compensating the consumer, the seller may recover the corresponding amount from the manufacturer if the manufacturer is responsible for the product defects, and vice versa.





Regulations on Foreign Currency Exchange





The principal regulations governing foreign currency exchange in China are the Foreign Exchange Administration Regulations, promulgated by the State Council, as amended on August 5, 2008, or the Foreign Exchange Regulations. Under the Foreign Exchange Regulations, the Renminbi is freely convertible for current account items, including the distribution of dividends, interest payments, trade and service-related foreign exchange transactions, but not for capital account items, such as direct investments, loans, repatriation of investments and investments in securities outside of China, unless the prior approval of the State Administration of Foreign Exchange, or SAFE, is obtained and prior registration with SAFE is made. Violation of the Foreign Exchange Regulations will result in penalties including fines, confiscation of illegal gains and revocation of business license. It may also lead to criminal liabilities.





On August 29, 2008, SAFE promulgated the Notice on Perfecting Practices Concerning Foreign Exchange Settlement Regarding the Capital Contribution by Foreign-invested Enterprises, or Circular 142, regulating the conversion by a foreign-invested company of foreign currency into Renminbi by restricting how the converted Renminbi may be used. Circular 142 requires that the registered capital of a foreign-invested enterprise settled in Renminbi and converted from foreign currencies may only be used for purposes within the business scope approved by the applicable government authority and may not be used for equity investments in China. In addition, SAFE strengthened its oversight of the flow and use of the registered capital of foreign-invested enterprises settled in Renminbi and converted from foreign currencies. The use of such RMB capital may not be changed without SAFE’s approval, and may not be used to repay unused RMB loans. Violations of Circular 142 will result in severe penalties, such as confiscation of illegal gains and additional fines up to the amount of such illegal gains.




On March 30, 2015, SAFE promulgated the Notice on Reformation of Administration Methods on Foreign Exchange Capital Settlement of Foreign-invested Enterprises, or Circular 19, loosening certain limitations on the settlement and usage of foreign exchange capital by foreign-invested enterprises. According to Circular 19, the foreign exchange capital of foreign-invested enterprises can be settled, converted into Renminbi and used as the enterprises intend to, including the equity investment, provided that the foreign exchange capital and the converted Renminbi cannot be used for the following purposes: (1) any expenditures that is not within the business scopes of the foreign-invested enterprise or any business that is prohibited by the laws and regulations; (2) unless otherwise provided by the laws and regulations, direct or indirect investment in securities; (3) direct or indirect Renminbi lending, repayment of inter-companies loans; and (4) purchases of real properties that are not for self use, except for foreign-invested property development enterprises.





Regulations on Offshore Financing




SAFE has promulgated regulations, including the Notice on Relevant Issues Concerning Foreign Exchange Administration for Domestic Residents’ Financing and Roundtrip Investment Through Offshore Special Purpose Vehicles, or Circular 75, effective on November 1, 2005, requiring PRC residents to register with the local SAFE branch before establishing or controlling any company outside of China for the purpose of capital financing with assets or equities of PRC companies owned by such PRC residents, referred to in the notice as an “offshore special purpose vehicle.” SAFE has further issued a series of implementation guidance, including the Operating Guidance for the Foreign Exchange Matters on Capital Item Direct Investment (SAFE Version), an appendix to the Notice of SAFE on Further Improvement and Adjustment of the Foreign Exchange Administrative Policies on Direct Investment, or Circular 59, which has come into effect as of December 17, 2012. These regulations require PRC residents and PRC corporate entities to register with competent local branches of SAFE in connection with their direct or indirect offshore investment in offshore special purpose vehicles On July 4, 2014, the SAFE issued The Notice on Relevant Issues Concerning Foreign Exchange Administration for Domestic Residents’ Offshore Investment, Financing and Roundtrip Investment Through Offshore Special Purpose Vehicles, or Circular 37, together with its implementation guidance, which replaced Circular 75 and Circular 59. According to Circular 37, not only for the purpose of offshore financing, but also for the purpose of offshore investment, the offshore special purpose vehicles shall be registered with competent local branches of SAFE.  On February 13, 2015, SAFE further issued the Notice on Further Simplification and Improvement of Foreign Exchange Administration Policies on Direct Investment, or Circular 13, according to which the registration of newly incorporated special purpose vehicles is delegated to the banks where the relevant residents domicile. These regulations may apply to our shareholders who are PRC residents or have PRC residents as their ultimate owners and may apply to any offshore acquisitions that we make in the future.


Under these foreign exchange regulations, PRC residents who make, or have previously made prior to October 2005, direct or indirect investments in offshore special purpose vehicles are required to register those investments. In addition, any PRC resident that is a shareholder of an offshore special purpose vehicle is required to amend such registration with respect to that offshore special purpose vehicle in connection with any increase or decrease of capital, transfer of shares, merger, division, equity investment or creation of any security interest over any assets located in China or other material changes in share capital. Moreover, any subsidiary of such offshore special purpose vehicle in China is required to urge the PRC resident shareholders to update their registration with the local branch of SAFE or local banks, or the case may be. If any shareholder who is considered as a PRC resident by SAFE fails to make the required registration or to update the previously filed registration, the subsidiary of such offshore special purpose vehicle in China may be prohibited from distributing its profits or the proceeds from any capital reduction, share transfer or liquidation to the offshore special purpose vehicle, and the offshore special purpose vehicle may also be prohibited from making additional capital contribution into its subsidiary in China. See “Item 3.D. Risk Factors—Risks Related to Doing Business in China—PRC regulations relating to the establishment of offshore special purpose vehicles by PRC residents may subject our PRC resident beneficial owners or our PRC subsidiaries to liabilities or penalties,





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limit our ability to contribute capital to our PRC subsidiaries, limit our PRC subsidiaries’ ability to increase their registered capital or distribute profits to us, or may otherwise adversely affect us.”





Regulations on Employee Stock Option Plans





On December 25, 2006, PBOC promulgated the Administrative Measures for Individual Foreign Exchange. On January 5, 2007, SAFE issued the Implementation Rules of the Administrative Measures for Individual Foreign Exchange, or the Individual Foreign Exchange Rules, which, among other things, specify approval requirements for a PRC citizen’s participation in the employee stock ownership plans or stock option plans of an overseas publicly-listed company. In February 2012, SAFE promulgated the Notices on Issues concerning the Foreign Exchange Administration for Domestic Individuals Participating in Stock Incentive Plan of Overseas Publicly-Listed Company, or the Stock Option Rules, which terminated the Application Procedures of Foreign Exchange Administration for Domestic Individuals Participating in Employee Stock Ownership Plan or Stock Option Plan of Overseas Publicly-Listed Company issued by SAFE in March 2007. According to the Stock Option Rules, if a PRC resident participates in any stock incentive plan of an overseas publicly-listed company, a qualified PRC domestic agent must, among other things, file on behalf of such participant an application with SAFE to conduct the SAFE registration with respect to such stock incentive plan and obtain approval for an annual allowance with respect to the purchase of foreign exchange in connection with the exercise or sale of stock options or stock such participant holds. Such participating PRC residents’ foreign exchange income received from the sale of stock and dividends distributed by the overseas publicly-listed company must be fully remitted into a PRC collective foreign currency account opened and managed by the PRC agent before distribution to such participants.





We and our PRC citizen employees who will be granted share options, or PRC option holders, are subject to these rules. If we or our PRC option holders fail to comply with these rules, we or our PRC option holders may be subject to fines and legal or administrative sanctions. See “Item 3.D. Risk Factors—Risks Related to Doing Business in China—A failure to comply with PRC regulations regarding the registration of shares and share options held by our employees who are PRC citizens may subject such employees or us to fines and other legal or administrative sanctions.” In addition, the SAT has issued circulars concerning employee share options under which our employees working in the PRC who exercise share options will be subject to PRC individual income tax. Our PRC subsidiaries have obligations to file documents related to employee share options with relevant tax authorities and to withhold individual income taxes of those employees who exercise their share options. If our employees fail to pay or we fail to withhold their income taxes according to relevant laws and regulations, we may face sanctions imposed by the tax authorities or other PRC government authorities.





Regulations on Merger and Acquisition





On August 8, 2006, six PRC regulatory agencies, namely the MOFCOM, the State Assets Supervision and Administration Commission, the State Administration of Taxation, the SAIC, the China Securities Regulatory Commission, or the CSRC, and the SAFE, jointly adopted the Regulationson MergersandAcquisitionsofDomesticEnterprisesbyForeignInvestors, or the New M&A Rule, which became effective on September 8, 2006. This New M&A Rule, as amended on June 22, 2009, established additional procedures and requirements that could make merger and acquisition activities by foreign investors more time-consuming and complex, including requirements in some instances that the MOFCOM be notified in advance of any change of control transaction in which a foreign investor takes control of a PRC domestic enterprise.





In August 2011, the MOFCOM promulgated the Rules of Ministry of Commerce on Implementation of Security Review System of Mergers and Acquisitions of Domestic Enterprises by Foreign Investors, or the MOFCOM Security Review Rule, which came into effect on September 1, 2011, to implement the Notice of the General Office of the State Council on Establishing the Security Review System for Mergers and Acquisitions of Domestic Enterprises by Foreign Investors promulgated on February 3, 2011. The MOFCOM Security Review Rules further provide that, when deciding whether a specific merger or acquisition of a domestic enterprise by foreign investors is subject to the security review by MOFCOM, the principle of substance over form should be applied and foreign investors are prohibited from bypassing the security review requirement by structuring transactions through proxies, trusts, indirect investments, leases, loans, control through contractual arrangements or offshore transactions. There is no explicit provision or official interpretation stating that our business falls into the scope subject to the security review. As these circulars and rules are relatively new and there is a lack of clear statutory interpretation on the implementation of the same, there is no assurance that the MOFCOM will apply these national security review-related circulars and rules to the acquisition of equity interest in our PRC subsidiaries.





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Regulations on Taxation





Value-Added Tax





Pursuant to the PRC Value-Added Tax Provisional Regulations, promulgated by the State Council on December 13, 1993, as amended on November 5, 2008 (effective on January 1, 2009), and the Detailed Rules for the Implementation of the PRC Interim Regulations on Value-Added Taxes, promulgated on December 25, 1993 and amended on December 15, 2008 (effective on January 1, 2009), all entities and individuals engaged in selling goods, providing repair and placement services or importing goods into the PRC are generally subject to a value-added tax, or VAT, at a rate of 17% (with the exception of certain goods subject to a rate of 13% or lower) of the gross sales proceeds received, less any VAT already paid or borne by the taxpayer on goods or services purchased and utilized in the production of goods or provision of services that have generated the gross sales proceeds.





Enterprise Income Tax





On March 16, 2007, the National People’s Congress, the PRC legislature, enacted the PRC Enterprise Income Tax Law, or the EIT Law. On December 6, 2007, the State Council promulgated the Implementation Regulations to the PRC Enterprise Income Tax Law, or the EIT Law Implementation Regulations. Both the EIT Law and the EIT Law Implementation Regulations became effective on January 1, 2008. Under the EIT Law and the EIT Law Implementation Regulations, foreign-invested enterprises, or FIEs, and domestic companies are subject to a uniform income tax rate of 25% unless otherwise specified. There is a transition period for enterprises, whether foreign-invested or domestic, which currently receive preferential tax treatments granted by relevant tax authorities. Enterprises that are subject to an enterprise income tax rate lower than 25% may continue to enjoy the lower rate and gradually transfer to the new tax rate within five years of the effective date of the EIT Law. Enterprises that were entitled to exemptions or reductions from the standard income tax rate for a fixed term under the relevant tax law and regulations prior to promulgation of the EIT Law may continue to enjoy such treatment until the fixed term expires.





In accordance with the relevant laws and regulations in China prior to the EIT Law, our wholly owned PRC subsidiary, Shishi Zuoan, was entitled to tax incentives as an FIE. It was exempted from the PRC enterprise income tax for the years ended December 31, 2002 and 2003, a period of two years from its first profit-making year, and was subject to the PRC enterprise income tax at a 50% reduction for the years ended December 31, 2004, 2005 and 2006. The applicable tax rate for the year ended December 31, 2007 was 27% after the expiry of the tax incentives. In accordance with the EIT Law, the tax rate applicable to Shishi Zuoan was 25% from January 1, 2008. Shishi Zuoan currently does not qualify for any tax exemption, reduction or other preferential tax treatments.





Under the EIT Law and the EIT Law Implementation Regulations, dividends payable to foreign enterprise investors are subject to PRC withholding tax at the rate of 10% unless the foreign investor’s jurisdiction of incorporation has a tax treaty with the PRC that provides for a preferential withholding tax rate. The immediate holding company of our PRC subsidiary Shishi Zuoan is Champion Goal Holdings Limited, or Champion Goal, a company incorporated in Hong Kong. Pursuant to a bilateral arrangement between Hong Kong and China, dividends paid to us by Shishi Zuoan through Champion Goal may be subject to 5% withholding tax, subject to approvals by competent PRC tax authorities.





In October 2009, the SAT further issued the Circular on How to Interpret and Recognize the “Beneficial Owner” in Tax Agreements, or Circular 601, and certain other related rules. According to Circular 601, non-resident enterprises that cannot provide valid documents evidencing their beneficial ownership may not be approved to enjoy tax treaty benefits. For this purpose, the term “beneficial owners” refers to individuals, enterprises or other organizations which are normally engaged in substantive operations. These rules provide that a “conduit company,” or any company established for the purposes of avoiding or reducing tax obligations or transferring or accumulating profits and not engaged in actual operations such as manufacturing, sales or management, is not a “beneficial owner.” As a result, although Shishi Zuoan is currently wholly owned by our Hong Kong subsidiary, any dividends paid by Shishi Zuoan to our Hong Kong subsidiary might not qualify for the preferential withholding tax rate of 5% under the tax treaty and might be subject to withholding tax at a rate of 10% if our Hong Kong subsidiary does not qualify as a beneficial owner of Shishi Zuoan.





Under the EIT Law, enterprises organized under the laws of jurisdictions outside China with “de facto management bodies” located within China may be considered PRC tax resident enterprises and therefore subject to





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PRC enterprise income tax at the rate of 25% on their worldwide income. The EIT Law Implementation Regulations define the term “de facto management body” as a management body that exercises full or substantial control and management authority over the production, operation, personnel, accounts and properties of an enterprise.





The SAT issued the Notice Regarding the Determination of Chinese-Controlled Offshore Incorporated Enterprises as PRC Tax Resident Enterprises on the Basis of De Facto Management Bodies, or Circular 82, on April 22, 2009. Circular 82 provides certain specific criteria for determining whether the “de facto management body” of a Chinese-controlled offshore incorporated enterprise is located in China, which include the presence in China of the following locations: (1) the location where senior management members responsible for an enterprise’s daily operations discharge their duties; (2) the location where financial and human resource decisions are made or approved by organizations or persons; (3) the location where the major assets and corporate documents are kept; and (4) the location where more than half (inclusive) of all directors with voting rights or senior management have their habitual residence.





Although Circular 82 only applies to offshore enterprises controlled by PRC enterprises, the criteria set forth in Circular 82 may reflect the SAT’s general position on how the “de facto management body” test should be applied in determining the tax residency status of all offshore enterprises. Nevertheless, there are currently no detailed rules or precedents governing the procedures and specific criteria for determining whether a given entity constitutes a “de facto management body.” Therefore, it is unclear whether the PRC tax authorities would classify us as a PRC resident enterprise. Because substantially all of our operations and senior management are located in China, we may be considered a PRC resident enterprise for enterprise income tax purposes, in which case we would be subject to the PRC enterprise income tax at the rate of 25% on our worldwide income. In such circumstances, however, dividend income received by us from our PRC subsidiaries may be exempt from PRC withholding tax, since such income should be exempted under the EIT Law for a PRC resident enterprise recipient.





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4.C. Organizational Structure





The following chart sets forth our corporate structure and ownership interest in each of our principal operating subsidiaries as of December 31, 2014:










4.D. Property, Plant and Equipment





We currently lease all of the properties we use to operate our business. Our operational headquarters, design, product development center and marketing headquarters are located in Shanghai, China, where we lease approximately 10,351 square meters of office space. We have also leased office space of approximately 1,336 square meters and warehouse of approximately 5,400 square metersin Shishi Fujian.





Our three direct stores in Shanghai are operated through leased retail spaces in department stores and shopping malls. A typical direct store occupies an average area of 64 square meters. We implement a standardized interior design at our direct stores across the country.





ITEM 4A. UNRESOLVED STAFF COMMENTS





Not applicable.





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ITEM 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS





5.A. Operating Results





Overview





We are a leading design-driven fashion casual menswear company in China. According to the Frost & Sullivan Report, sales of our “Zuoan” branded products ranked among top three in China’s fashion casual menswear market in terms of retail sales in 2011. Our products are designed in- house and sold under our Zuoan brand, which means “left bank” in Chinese, referring to the Left Bank district of Paris and embodying our design philosophy of “fashionable elegance.” We offer a wide range of products, including men’s casual apparel, footwear and lifestyle accessories, primarily targeting urban males between the ages of 20 and 40 who prefer stylish clothing that represents a sophisticated lifestyle.





Our design team is led by Mr. James Hong, our chairman and chief executive officer. Mr. James Hong is recognized as one of China’s top designers with more than 17 years of industry experience. He was nominated one of the “Top Three Fashion Designers” by the China Fashion Association in November 2009 and one of “China’s Top 10 Fashion Designers” by the China Fashion Association for two consecutive years in 2006 and 2007. Our marketing strategy focuses on promoting an overall brand image that embodies a lifestyle of “fashionable elegance,” rather than individual products. Unlike many of our competitors, we do not rely on large-scale, blanket television advertising, but instead adopt a targeted multi- channel marketing strategy through our sponsorship of selective public events and activities, participation in major fashion shows and exhibitions and national advertising through television, Internet, billboards, magazines and newspapers. We outsource the production of most of our products to selected contract manufacturers.





We sell our products through an extensive distribution network covering 30 of China’s 32 provinces and centrally administered municipalities, as well as through our direct stores. Our products are primarily sold to customers through retail stores operated by our distributors and their sub- distributors. As of December 31, 2014, we appointed 15 distributors which, directly or through their sub-distributors, operated 820 retail stores across China. All of the retail stores are operated under our Zuoan brand and are required to sell only our products.





To further promote our brand awareness and improve the performance of Zuoan stores, we have adopted a strategy of opening flagship stores, both distributor-operated and directly operated, at prime locations in major cities in China from early 2010. These flagship stores are significantly larger than most of our existing stores and offer the complete line of our collections. In line with our strategy to expand our sales network of flagship stores at that time, in January 2011, we transferred all of our direct stores, which were located in department stores or shopping malls, to our distributors and began opening our new directly operated flagship stores at prime commercial areas in May 2011.





In October 2012, we further transferred all of our directly operated flagship stores to our distributors as a result of our efforts to streamline our internal operational infrastructure in order to reduce expenses and improve financial performance. As the market condition becomes increasingly challenging, we have experienced difficulties in recruiting and retaining managerial staff for our flagship stores and also in managing our inventories. Since our distributors are more experienced in operating stores and inventories than us, we believe that to transfer our flagship stores to certain distributors, who collectively run 56 Zuoan flagship stores of their own, allows us to concentrate on our core strengths in design-driven fashion and brand visibility and at the same time improves the performance of these transferred flagship stores. As of December 31, 2014, we still had three direct stores in Shanghai as we were unable to locate suitable locations for directly operated flagship stores.





Our revenues decreased from RMB1,427.4 million in 2012 to RMB1,252.1 million in 2013 and further to RMB949.2 million (US$153.0 million) in 2014. Our profit after taxation decreased from RMB295.4 million in 2012 to RMB175.4 million in 2013 and further to RMB4.7 million (US$0.8 million) in 2014.





Factors Affecting Our Performance





Our business and results of operations are affected by general factors affecting the fashion casual meanswear industry, including:





•
China’s overall economic growth;





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•
per capita disposable income and consumer spending;





•
market demand for fashion casual menswear in China;





•
fashion trends and competition among companies to introduce the most popular fashions each year.





Brand Recognition





We derive all of our revenues from sales of our Zuoan branded products in China, and our success depends on the market perception and acceptance of the Zuoan brand and the culture, lifestyle and images associated with this brand. Market acceptance of our brand may affect the selling prices and market demand for our products, the profit margin we can achieve, and our ability to grow.





Our Relationship with Distributors





We rely heavily on third-party distributors and their sub-distributors to market and sell our products. Most of our branded products are distributed through a retail distribution network across 30 provinces and centrally administrated municipalities in China. As of December 31, 2014, this distribution network comprised 820 Zuoan retail stores operated by our 15 distributors and their sub-distributors, with sales to distributors accounting for 99.2% of our revenues. We intend to increase our sales by expanding our network of retail stores and will therefore rely to a large extent on our distributors and their sub-distributors for such expansion. We also depend to a large extent on our distributors to maintain a consistent brand image through the retail stores operated by them and their sub-distributors.





Contract Manufacturing Costs





As we outsource production to contract manufacturers, changes in our contract manufacturing costs will significantly affect our results of operations. In particular, as our contract manufacturing costs reflect the cost of raw materials and labor costs incurred by our contract manufacturers used in producing our products, changes in the cost of the raw materials and labor will affect our outsourcing costs. We typically maintain good relationships with our contract manufacturers and are able to control contract manufacturing costs through improving production workflow or renegotiating the contract terms. Increases in our contract manufacturing costs could negatively affect our gross profit margins and results of operations to the extent that we are unable to pass these costs on to customers.





Ratio of Retail Stores to Direct Stores in Our Sales Network





The ratio of retail stores to direct stores in terms of floor area in our sales network affects our results of operations in a given period. The retail stores operated by our distributors have been and will continue to be the main contributor to our revenue for the foreseeable future. Under the distribution business model, we sell directly to our distributors and recognize revenues upon delivery of our products to them. Such distribution network has enabled us to accelerate sales growth at a much lower cost than opening direct stores and has limited our inventory and sales risks. Direct stores, despite incurring more significant capital expenditures as compared with retail stores, allow us more control over our brand and the consumer’s shopping experience, which are important factors for the overall success of our business. In addition, our direct store sales generally have a higher gross profit margin than sales to distributors because we are able to sell the products at retail prices directly to the end-consumers and because we recognize expenses relating to our direct stores as selling and distribution expenses. Therefore, the ratio of retail stores to direct stores in our sales network will affect our gross profit margin.





Expansion of Network of Flagship Stores




We intend to expand our network of flagship stores with significantly larger store areas at prime commercial locations in major cities through our distributors. We believe that flagship stores can help further promote our brand awareness, showcase our complete product collections, stimulate sales in Zuoan stores in nearby regions and improve our overall business performance. Opening directly operated flagship stores requires large upfront capital expenditures relating to property lease and renovation costs, as well as high working capital requirements to maintain sufficient inventories in these enlarged stores, which may adversely affect our liquidity and financial condition. Our net profit margin significantly decreased in 2014 due to increase in sales discount rate from 65% to 70% off of the retail price, loss on inventory buyback, costs of renovation and fittings incurred by the new opening of stores and refurbishment of the existing stores directly operated by our distributors and sub-distributors.





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In October 2012, we further transferred all of our directly operated flagship stores to our distributors as a result of our efforts to streamline our internal operational infrastructure in order to lower expenses and improve financial performance. Such transfer has not significantly affected our overall gross profit margin in the short term due to the relatively small portion of our total revenues contributed by our directly operated flagship store sales. However, the sale of inventory for our directly operated flagship stores to our distributors in connection with such transfer has resulted in a slight increase in our trade receivables in the fourth quarter of 2012.





Competition





The fashion casual menswear industry in China is subject to intense competition with an increasing number of local and international fashion casual menswear companies. We compete principally on the basis of brand image, design and concept, product mix, quality, price, size and coverage of distribution network, and proximity to target customers. We may need to reduce our prices, enhance our sales and marketing activities or adjust our production process to lower costs in order to remain competitive.





Seasonality





As is common in the fashion industry, our results of operations are subject to seasonal fluctuations. Generally, the third and fourth quarters, during which we offer our fall/winter collection, account for a higher portion of our annual revenues than other quarters because our fall/winter collections are generally priced higher than our spring/summer collections and consist of more types of products. As a result, comparisons of our sales and results of operations between different periods within a single year or between different periods in different years, are not necessarily indicative of our performance. See “Item 3.D. Risk Factors—Risks Related to Our Business—Our business is susceptible to seasonal fluctuations and extreme or unexpected weather conditions.”





Description of Certain Statements of Income Line Items





Revenues





We derive revenues from the sale of men’s apparel and accessories under our “Zuoan” brand through retail stores operated by distributors and sub- distributors, and through our direct stores. Our revenues are stated net of VAT, discounts, rebates and returns. The following table sets forth the revenues generated by sales to our distributors and direct store sales, units sold and average selling price for the periods indicated:




For the Year Ended December 31,Revenues (in thousands of RMB)

2012


2013


2014Sales to distributors


1,346,623



1,236,602



941,887Direct store sales


80,744



15,544



7,266Units sold (in thousands)


8,102



7,063



6,753Average selling price (RMB per unit)


176



177



141Unit cost (RMB per unit)


94



101



98




Our revenue decreased from 2012 to 2013 and further to 2014, primarily driven by (i) the decrease in our sales volume due to cancellation of sales orders in 2013 and economic downturn since second half of 2013 which has significant impact on to the sales orders and (ii) the significant decrease in wholesale price in 2014.
  Units sold to our distributors and in our direct stores decreased by 12.8% in 2013, primarily due to the cancellation of sales orders in 2013. Units sold to our distributors and in our direct stores decreased by 4.4% in 2014, primarily driven by economic downturn.


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Our average selling price increased in 2013 from 2012, primarily due to  the increase in unit cost for our contract manufacturers’ production, which was offset by less revenue contribution from our direct stores and higher sales discount rate off of the retail price since the third quarter of 2013. Our average selling price decreased in 2014 from 2013, primarily due to the increase in sales discount from 65% to 70% of the retail price. Due to the annual seasonal pattern in our industry, the average selling price for our products in the first six months of a year is typically slightly lower than the annualized average selling price because our spring/summer collections generally are priced lower than our fall/winter collections due to the slightly lower costs of raw materials for our spring/summer collections.
 
 The fluctuations of the unit cost in the periods presented in the table above in general reflected the fluctuations in raw material prices over the relevant periods.
 
 Sales to Distributors
 
 We sell substantially all of our products to third-party distributors and sub-distributors who then sell the products to end-consumers through Zuoan retail stores operated by them. We expect that sales to distributors will continue to constitute a substantial majority of our total revenues for the foreseeable future. We recognize these revenues when the risk or ownership of our products is transferred to the distributors, which is typically when our products are delivered to them. Our distributors are generally not allowed to return our products except where defective. We sell products to our distributors at a discount from our suggested retail prices, which was historically set at 65% and has been lowered to 62% off of the suggested retail prices since the third quarter of 2011 while increased to 65% since the third quarter of 2013 and further increased to 70% off since the third quarter of 2014. In determining the suggested retail prices of our products, we usually take into account, among other factors, the prevailing market conditions, cost of design, cost of raw materials and production, and prices set by competitors operating comparable domestic or international brands for similar products. Distributors must adopt, and are required to procure their sub-distributors to adopt, a uniform suggested retail price for each of our products across the market in China, provided, however, that individual distributors or sub-distributors may launch special offers with our prior consent. We generally allow distributors and sub-distributors to offer up to 15% discount for in-season products. We also generally give distributors and sub-distributors the discretion to set their own discounted prices to promote sales of out-of-season products. As of December 31, 2014, there were a total of 820 Zuoan retail stores operated by 15 distributors and 318 sub-distributors.


Revenues generated from sales to distributors are primarily driven by:





•
the aggregate number of the retail stores operated by our distributors and sub-distributors under our brand;





•
the aggregate floor area of the retail stores operated by our distributors and sub-distributors under our brand;





•
the sales volume achieved by the retail stores operated by our distributors and sub-distributors under our brand;





•
the increase in wholesale prices to our distributors from 35% to 38% of the retail prices since the third quarter of 2011;





•
the decrease in wholesale prices to our distributors from 38% to 35% of the retail prices since the third quarter of 2013; and




•
the decrease in wholesale prices to our distributors from 35% to 30% of the retail prices since the third quarter of 2014.




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Direct Store Sales





We also derive revenues from sales through our direct stores. We recognize revenues from sales of our products in our direct stores at the end of each month in which such products are sold to the end-consumers. Direct store sales are comprised of sales proceeds from end-consumers less, in the case of direct stores located in department stores or shopping malls, certain surcharges collected by the department store or shopping mall. Our direct stores are directly operated and managed by us. As a result, compared with the retail stores operated by our distributors, we have better control over our direct stores, including marketing strategies, store lay-out and decoration, services, quality of sales personnel and retail prices. We are able to achieve higher gross margins from our direct store sales because we do not need to go through a distributor or sub-distributor to sell our products and because we recognize expenses relating to our direct stores as selling and distribution expenses.





Cost of Sales





Cost of sales comprises costs of contract manufacturing, in-house production and provision for slow-moving inventory. Cost of sales is recognized when revenues from the corresponding product are recognized.





Contract Manufacturing Costs





Contract manufacturing costs comprise fees paid to contract manufacturers for the production of finished apparel and accessories purchased by us. We outsource the production of most of our products to third-party contract manufacturers. We anticipate that our contract manufacturing costs will increase as sales volume increases and as we shift to more contract manufacturing. Our contract manufacturing costs are dependent on the volume and the product mix of the products ordered. We are able to manage our contract manufacturing costs by maintaining relations with multiple contract manufacturers. In addition, we typically order in large volumes from our contract manufacturers to obtain volume-based discounts. We anticipate that our contract manufacturers’ costs may increase in 2015 due to the general increase in labor costs in China, which may be passed on to us by the contract manufacturers. However, we believe that we will be able to offset the negative impact of such increase by passing the increased costs on to our customers, as we have done in the past. In addition, as our sales are expected to grow, we expect to be able to negotiate more favorable prices with our contract manufacturers as we increase the volume of our purchases.





In-house Production Costs





Through October 2012, in-house production costs were comprised primarily direct material costs, direct labor costs and production overhead.





•
DirectMaterialCosts. Direct materials comprise raw materials, such as fabrics (including cotton, denim and synthetic materials) and fasteners (including zips, buttons and buckles) and are sourced from various suppliers located in Fujian Province and Guangdong Province in China.





•
DirectLaborCosts. Direct labor costs primarily consist of compensation to our production workers at our production facility in Jinjiang, Fujian Province.





•
ProductionOverhead. Production overhead includes costs relating to our in-house production such as compensation costs for production management personnel, rental expenses for our production facility, utility and maintenance expenses, social security costs for our in-house production workers and staff, and depreciation of plant and machinery.





Provision for Slow-moving Inventory





We value inventories at the lower of cost or market price. Market price is the estimated selling price in the ordinary course of business less the estimated cost of completion and the estimated costs necessary to make the sale. We perform analyses of slow-moving inventory that remains unsold after the respective sale season and any necessary valuation provision, which could potentially be significant, are included in the period in which the evaluations are completed. We did not make any provisions for slow-moving inventory in 2012 and 2013. The provision for slow-moving inventory as of December 31, 2014 was RMB4.6 million. Additionally, although none of our distribution agreements had or have any right of return provisions or other similar rights, we bought back inventory from four distributors whose contractual relationship was terminated by us in 2014, as the continuous economic downturn in China since the third quarter of 2013 resulted in over-supply of our inventory in the retail market and caused such distributors to be unable to continue operating their business since the second half of 2014. We subsequently sold certain of the inventory bought back below its cost and recognized a loss on inventory buyback of RMB19.9 million (US$3.2 million) in 2014.





Other Income





Other income comprises mainly interest income from bank balances for the years ended December 31, 2012, 2013 and 2014 and reimbursement from our depositary under the depositary agreement in 2013.





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Operating Expenses





Operating expenses comprise selling and distribution expenses and administrative expenses.





Selling and Distribution Expenses





Selling and distribution expenses comprise compensation and benefits for our sales and marketing personnel, travel and entertainment expenses, exhibition and fashion fair expenses, advertising and marketing promotion expenses, reimbursement to distributors for regional advertisements and the cost of renovation and fittings such as shelving, mannequins and hangers for Zuoan retail stores and expenses relating to our direct stores such as rental expenses, administrative expenses, management fees, costs of renovation, costs of fixtures and fittings, staff salaries, utilities expenses and transportation charges.





Administrative Expenses





Administrative expenses comprise compensation and related expenses for our management and administrative personnel, depreciation of plant and equipment, rental expenses of our administrative office in Shishi City, Fujian Province, or Shishi, and our design and product development centers in Shanghai, office-related expenses and loss on disposal of raw material and property, plant and equipment.





We expect our operating expenses will decrease over time as our business is trending downward due to current unsatisfactory consumer market. Our selling and distribution expenses are expected to decrease in line with the revenue decrease. Our administrative expenses are expected to remain stable, reflecting the hiring of personnel and the higher costs of operating as a public company.


Finance Costs





Finance costs comprise interest expense on interest-bearing bank borrowings in relation to working capital purposes and convertible loans.





Critical Accounting Policies and Estimates





Critical accounting policies are defined as those that involve significant judgment and uncertainty and that could potentially result in materially different results under different assumptions and conditions. We prepare financial statements in accordance with International Financial Reporting Standards issued by the International Accounting Standards Board, which requires us to make judgments, estimates and assumptions that affect the reported amounts of our assets and liabilities and the disclosure of our contingent assets and liabilities at the dates of the financial statements and the reported amounts of revenues and expenses during the periods reported. Our principal accounting policies and information about critical estimates are set forth in Notes 3 and 27 to our audited consolidated financial statements. We continually evaluate these judgments and estimates based on our own historical experience, knowledge and assessment of current business and other conditions, our expectations of the future changes based on available information and assumptions that we believe to be reasonable, which together form our basis for making judgments about matters that are not readily apparent from other sources. Since the use of estimates is an integral component of the financial reporting process, our actual results could differ from those estimates. Some of our accounting policies require a higher degree of judgment than others in their application.





We believe that the following critical accounting estimates and related assumptions and uncertainties inherent in our accounting policies have a more significant impact on our consolidated financial statements, either because of the significance of the financial statement elements to which they relate or because they require judgment and estimation.





Financial instruments




We evaluate financial instruments and other debt instruments according to the substance of the contractual agreements and in consideration of International Accounting Standards (“IAS”) No. 32, and No. 39. These standards require us to make judgments about whether the elements of instruments require equity or liability treatment and also to evaluate if any element of the instrument, including embedded features, is a derivative. We have determined that none of our financial instruments contain derivatives.





Recent Accounting Pronouncements




We review new accounting standards as issued. Management has not identified any new IFRSs or related interpretations that were effective for the first time for the financial year beginning on or after January 1, 2014 that had a material impact on our consolidated financial statements.  There are no other IFRSs or related interpretations that are not yet effective that would be expected to have a material impact on our consolidated financial statements.







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Impairment of Trade Receivables





Trade receivables are measured on initial recognition at fair value, and subsequently measured at amortized cost using the effective interest rate method, except when the effect of discounting would be immaterial. Appropriate allowances for estimated doubtful accounts are recognized in profit or loss when there is objective evidence that the asset is impaired. The allowance recognized is measured as the difference between the asset's carrying amount and the present value of estimated future cash flows discounted at the effective interest rate computed at initial recognition. No allowance was recognized as of December 31, 2012, 2013 and 2014.





Net Realizable Value of Inventories





Inventories are stated at the lower of cost or net realizable value.  Costs are determined using the weighted average method, and in the case of work-in-progress and finished goods, costs are comprised of direct material, direct labor and those overhead costs that have been incurred in bringing the inventories to their present location and condition.  Net realizable value is calculated as the actual or estimated selling price less all further costs of completion and the estimated costs necessary to make the sale.





Income Tax





We are liable for income taxes in China. Significant judgment is required in determining the provision for income taxes. There are also claims for which the ultimate tax determination is uncertain during the ordinary course of business. We recognize liabilities for expected tax issues based on estimates of whether additional taxes will be due. When the final outcome of these tax matters is different from the amounts that were initially recognized, such differences will impact the current and deferred tax provisions in the period in which such determination is made. In the event that our estimates of projected future taxable income and benefits from available tax strategies are changed, or changes in current tax regulations are enacted that would impact matters related to timing or utilization of tax benefits or deductions, adjustments to the recorded amount of net current and deferred tax assets and tax expense would be made.





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Results of Operations





The following table sets forth a summary of our consolidated results of operations as a percentage of total revenues for the periods indicated. This information should be read together with our consolidated financial statements and related notes included elsewhere in this annual report on Form 20-F. Our historical results presented below are not necessarily indicative of the results that may be expected for any future period.








For the Year Ended December 31,2012


2013


2014(% of Total Revenues)Revenues:Sales to distributors


94.3



98.8



99.2Direct store sales


5.7



1.2



0.8Total revenues


100.0



100.0



100.0Cost of sales


(53.2
)


(57.0
)


(69.8
)Loss on inventory buyback


—



—



(2.1
)Gross profit


46.8



43.0



28.1Other income


0.4



0.4


0.8Selling and distribution expenses


(14.0
)


(19.2
)


(21.9
)Administrative expenses


(5.0
)


(4.4
)


(5.4
)Finance costs


(0.4
)


(0.9
)


(1.2
)Profit before taxation


27.9



19.0



0.4Income tax expense


(7.2
)


(4.9
)


(0.4
)Profit after taxation


20.7



14.0



0.0





Year Ended December 31, 2014 Compared to Year Ended December 31, 2013





Revenues. Total revenues decreased by 24.2% from RMB1,252.1 million in 2013 to RMB949.2 million (US$153.0 million) in 2014.




•
Salesto Distributors. Sales to distributors decreased by 23.8% from RMB1,236.6 million in 2013 to RMB941.9 million (US$151.8 million) in 2014. This decrease was primarily driven by decreased sales volume to distributors, which decreased by 3.8% from 7.0 million units in 2013 to 6.7 million units in 2014, as well as an increase in the sales discount to our distributors from 65% to 70% of the retail prices since the third quarter of 2014. The decrease in sales volume was primarily driven by the decreased sales orders. The number of Zuoan retail stores decreased by 23.7% from 1,075 as of December 31, 2013 to 820 as of December 31, 2014, with aggregate floor area decreasing from 89,734 square meters to 75,133 square meters.
  •
DirectStoreSales. There were seven direct stores with aggregate floor area of 751 square meters as of December 31, 2013, compared to three direct stores with aggregate floor area of 192 square meters as of December 31, 2014. Direct store sales decreased by 53.3% from RMB15.5 million in 2013 to RMB7.3 million (US$1.2 million) in 2014, primarily due to the closure of our direct store network.




Costof Sales. Cost of sales decreased by 7.1% from RMB713.9 million in 2013 to RMB663.2 million (US$106.9 million) in 2014. Cost of sales as a percentage of our revenues increased from 57.0% in 2013 to 69.8% in 2014. This increase was primarily due to the decrease in our sales volume and the decreased wholesale price.




Loss on inventory buyback. Although none of our distribution agreements had or have any right of return provisions or other similar rights, we bought back inventory from four distributors whose contractual relationship was terminated by us in 2014, as the continuous economic downturn in China since the third quarter of 2013 resulted in over-supply of our inventory in the retail market and caused such distributors to be unable to continue operating their business since the second half of 2014. We subsequently sold certain of the inventory bought back below its costs and recognized a loss on inventory buyback of RMB19.9 million (US$3.2 million) in 2014.





GrossProfitandGrossProfitMargin. As a result of the foregoing, gross profit decreased by 50.6% from RMB538.3 million in 2013 to RMB266.1 million (US$42.9 million) in 2014. Gross profit margin decreased from 43.0% to 28.1% during the same periods.




OtherIncome. Other income increased by 45.5% from approximately RMB5.5 million in 2013 to approximately RMB8.0 million (US$1.3 million) in 2013 primarily due to the increase in interest income from banks.




SellingandDistributionExpenses. Selling and distribution expenses decreased by 13.8% from RMB241.0 million in 2013 to RMB207.8 million (US$33.5 million) in 2014. This decrease was primarily due to (i) the decrease in direct store expenses, (ii) the decrease in the discretionary brand promotion allowance of 6% of the total purchase orders from our distributors for advertising and sales and marketing promotion by 26.7% and (iii) the decrease in the advertisement expenses by 23.5%. As a percentage of our revenues, selling and distribution expenses increased from 19.2% in 2013 to 21.9% in 2014.




AdministrativeExpenses. Administrative expenses decreased by 6.4% from RMB54.7 million in 2013 to RMB51.2 million (US$8.3 million) in 2014. This decrease was primarily due to (i) the decrease in salaries payable to the former CFO who resigned in February 2014 and (ii) the decrease in share-based compensation expense.  The share-based awards granted to Mr. Wang were vested in 3 years from February 2011 to February 2014.  The share-based compensation expense was recorded for two months in 2014 while 12 months in 2013. Administrative expenses as a percentage of our revenues increased from 4.4% in 2013 to 5.4% in 2014.





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FinanceCosts. Finance costs increased from RMB10.7 million in 2013 to RMB11.1 million (US$1.8 million) in 2014. This increase was primarily due to the increase in the interest expenses paid under bank loans for working capital purposes.
  IncomeTaxExpense. Income tax expense decreased by 98.3% from RMB61.9 million in 2013 to RMB3.8 million (US$0.6 million) in 2014. This decrease was primarily due to the decrease in our revenue and pre-tax income.Our effective tax rate increased from 26.1% in 2013 to 96.9% in 2014, primarily due to significant decrease in consolidated profit before taxation which was primarily attributable to the PRC entities, which did not absorbthe loss incurred by the non-PRC entities which is added back to the profit before taxation when calculating income tax expenses because non-PRC entities do not generate profits and are not deductible.
  ProfitafterTaxation. As a result of the foregoing, we had profit after taxation of RMB123,000 (US$20,000) in 2014, representing an decrease of 99.9%, from profit after taxation of RMB175.4 million in 2013.




Year Ended December 31, 2013 Compared to Year Ended December 31, 2012





Revenues. Total revenues decreased by 12.3% from RMB1,427.4 million in 2012 to RMB1,252.1 million in 2013.





•
Salesto Distributors. Sales to distributors decreased by 8.2% from RMB1,346.6 million in 2012 to RMB1,236.6 million in 2013. This decline was primarily driven by decreased sales volume to distributors, which decreased by 11.2% from 7.9 million units in 2012 to 7.0 million units due to the cancellation of sales orders in 2013, as well as a decrease in the wholesale price to our distributors from 38% to 35% of the retail prices since the third quarter of 2013. The number of Zuoan retail stores decreased





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by 18.7% from 1,322 as of December 31, 2012 to 1,075 as of December 31, 2013, with aggregate floor area decreasing from 104,552 square meters to 89,734 square meters.





•
DirectStoreSales. We started operating our direct stores in April 2009. In line with our strategy to expand our sales network of flagship stores, in January 2011, we transferred all of our direct stores to our distributors and began opening our new directly operated flagship stores at prime commercial areas in May 2011. We opened four and two direct stores in Shanghai in 2012 and 2013, respectively and closed two direct stores in 2013, due to failure to obtain suitable locations for our directly operated flagship stores. There were seven direct stores with aggregate floor area of 652 square meters as of December 31, 2013, compared to seven direct stores and 26 directly operated flagship stores which were transferred to our distributors with aggregate floor area of 751 square meters as of December 31, 2012. Direct store sales decreased by 80.7% from RMB80.7 million in 2012 to RMB15.5 million in 2013, primarily due to transfer of our directly operated flagship stores to our distributors.





Costof Sales. Cost of sales decreased by 6.0% from RMB759.3 million in 2012 to RMB713.9 million in 2013. Cost of sales as a percentage of our revenues increased from 53.2% in 2012 to 57.0% in 2013.





•
ContractManufacturingCosts. Contract manufacturing costs decreased by 3.1% from RMB736.4 million in 2012 to RMB713.9 million in 2013. This decrease was primarily due to the decrease in our sales volume. As a percentage of total cost of sales, contract manufacturing costs increased from 97.0% in 2012 to 100.0% in 2013.





•
In-houseProductionCosts.In-house production costs was nil in 2013, as compared to RMB22.9 million in 2012. This was because we closed our production facility in October 2012 and outsourced all production since then.





GrossProfitandGrossProfitMargin. As a result of the foregoing, gross profit decreased by 19.4% from RMB668.1 million in 2012 to RMB538.3 million in 2013. Gross profit margin decreased from 46.8% to 43.0% during the same periods due to the decrease in wholesale price from 38% to 35% of the suggested retail price since third quarter of 2013 as well as the decreased revenue from our directly operated flagship stores.





OtherIncome. Other income decreased by 2.5% from approximately RMB5.6 million in 2012 to approximately RMB5.5 million in 2013, primarily due to the increase in interest income from banks, partially offset by the decrease in the other income from reimbursement from our depositary under the depositary agreement which was recognized in 2012.





SellingandDistributionExpenses. Selling and distribution expenses increased by 21.0% from RMB199.2 million in 2012 to RMB241.0 million in 2013. This increase was primarily due to (i) the increase in advertising expenses and sales and marketing promotion and (ii) the increase in the discretionary brand promotion allowance from 3% to 6% of the total purchase orders from our distributors for advertising and sales and marketing promotion since third quarter of 2012. As a percentage of our revenues, selling and distribution expenses increased from 14.0% in 2012 to


19.2% in 2013.





AdministrativeExpenses. Administrative expenses decreased by 22.6% from RMB70.7 million in 2012 to RMB54.7 million in 2013. This decrease was primarily due to the writing-off of the leasehold improvements and raw materials in 2012. All leasehold improvements costs of our direct stores transferred to our distributors was expensed at the time of transfer. In addition, the raw materials were sold to Fujian Aidu at 50% of cost when our production ceased in October 2012. Administrative expenses as a percentage of our revenues decreased from 5.0% in 2012 to 4.4% in


2013.





FinanceCosts. Finance costs increased by 71.0% from RMB6.2 million in 2012 to RMB10.7 million in 2013. This increase was primarily due to the increase in the interest expenses paid under bank loans for working capital purposes.





IncomeTaxExpense. Income tax expense decreased by 39.4% from RMB102.2 million in 2012 to RMB61.9 million in 2013. This decrease was primarily due to the decrease in our revenue and pre-tax income. Our effective tax rate was 25.7% and 26.1% for 2012 and 2013, respectively.





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ProfitafterTaxation. As a result of the foregoing, we had profit after taxation of RMB175.4 million in 2013, representing a decrease of 40.6% from profit after taxation of RMB295.4 million in 2012.





5.B. Liquidity and Capital Resources





Our primary cash requirements are to finance working capital requirements and capital expenditures, including renovating our existing retail stores, establishing our new logistics centers and warehousing facilities in Shishi and upgrading and expanding our existing production facilities. Historically, our principal sources of liquidity have been cash generated from our operating activities, sale of our ordinary shares and convertible loans through private placements and borrowings from the PRC commercial banks.




We had cash and cash equivalents, consisting of cash on hand and cash at bank of RMB1,227.4 million and RMB1,304.1 million (US$210.2 million) as of December 31, 2013 and 2014, respectively. We had bank facilities of RMB213.4  million and RMB280.7 million (US$45.2 million) as of December 31, 2013 and 2014, respectively. As of December 31, 2014, we have unutilized bank facilities of RMB158.6 million (US$25.6 million). We had no material capital commitments as of December 31, 2014.





We have been able to meet our working capital needs, and we believe that we will be able to meet our working capital needs in the foreseeable future, with our operating cash flow, existing cash balance, the remaining funds available under our credit facilities and proceeds from our initial public offering.





The following table sets forth a summary of our cash flows for the periods indicated:





For the Year Ended December 312012


2013


2014RMB


RMB


RMB


US$(in thousands)Net cash from operating activities


180,968



308,453



130,551



21,041Net cash (used in)/from investing activities


(5,609
)


(17,228
)


7,420



1,196Net cash from/(used in) financing activities


53,300



21,300



(62,069
)


(10,004
)Net increase in cash and cash equivalents


228,659



312,525



75,902



12,233Exchange difference


(665
)


(3,574
)


796



128Cash and cash equivalents at beginning of the period


690,457



918,451



1,227,402



197,821Cash and cash equivalents at end of the period


918,451



1,227,402



1,304,100



210,183




Operating Activities





Historically, we have financed our operating activities primarily through cash generated from operations and financing activities.




Net cash provided by operating activities was RMB130.6 million (US$21.0 million) in 2014. This was primarily attributable to (i) our profit before working capital changes of RMB44.9 million (US$7.2 million), (ii) the increase in trade and other payables of RMB38.8 million (US$6.3 million) due to the increase in accounts payable to our suppliers and cash advances from third parties, (iii) the decrease of trade and other receivables of RMB76.2 million (US$12.3 million) due to the decrease in revenue and trade receivables from our distributors due to the decreased sales orders, and (iv) the decrease of fixed deposits pledged of RMB26.0 million (US$4.2 million) due to the decrease in bill payables to our suppliers, partially offset by the increase in inventories of RMB29.4 million (US$4.7 million) due to excess inventory and inventory buyback from our distributors and sub-distributors in 2014. We also paid an income tax in the amount of RMB14.9 million (US$2.4 million).





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Net cash provided by operating activities was RMB308.5 million (US$51.0 million) in 2013. This was primarily attributable to (i) our profit before working capital changes of RMB254.4 million (US$42.0 million), (ii) the increase in trade and other payables of RMB20.6 million (US$3.4 million) due to the increase in accounts payable to our suppliers and cash advances from third parties, and (iii) the decrease of trade and other receivables of RMB157.5 million (US$26.0 million) due to the decrease in revenue and trade receivables from our distributors due to the cancelled sales orders, partially offset by the increase of fixed deposits pledged of RMB32.2 million (US$5.3 million) due to the increase in bill payables to our suppliers. We also paid an income tax in the amount of RMB80.8 million (US$13.3 million).





Net cash provided by operating activities was RMB181.0 million (US$29.0 million) in 2012. This was primarily attributable to (i) our profit before working capital changes of RMB424.2 million (US$68.1 million), (ii) the increase in trade and other payables of RMB33.1 million (US$5.3 million) due to unpaid value-added tax for the fourth quarter of 2012 and cash advances from third parties, and (iii) the decrease of inventory of RMB 1.7 million (US$0.3 million) due to the decrease in storage of finished products for our direct stores, partially offset by (i) the increase in our trade and other receivables of RMB161.6 million (US$25.9 million) in connection with the longer credit term granted to our distributors, and (ii) the increase of fixed deposits pledged of RMB7.9 million (US$1.3 million) due to the increase in bill payables to our suppliers. We also paid an income tax in the amount of RMB102.4 million (US$16.4 million).





Investing Activities




Cash used in investing activities is primarily related to acquisition of property, equipment, motor vehicles and leasehold improvements for decoration of our direct stores, office and internal production use. Our cash generated from investing activities is primarily related to bank interests. Cash generated from investing activities is primarily related to interest income from bank deposits.We experienced net cash outflows from investing activities in 2012 and 2013 and net cash inflows in 2014, respectively.
  Net cash generated from investing activities was RMB7.4 million (US$1.2 million) in 2014, primarily due to interest received on banks deposits.
  Net cash used in investing activities was RMB17.2 million (US$2.8 million) in 2013, primarily due to the payment of leasehold improvement and costs of fixtures and fittings for our office in Shanghai.
 
 Net cash used in investing activities was RMB5.6 million (US$0.9 million) in 2012, primarily due to the payment of leasehold improvement and costs of fixtures and fittings for our directly operated flagship stores.
 
 Financing Activities
 
 Cash generated from financing activities primarily consists of borrowings from the PRC commercial banks. Cash used in financing activities primarily consists of dividends paid to our shareholders and repayment of bank borrowings.
 
 Net cash used in financing activities was RMB62.1 million (US$10.0 million) in 2014, primarily attributable to the dividends paid in 2014 and repayment of bank borrowings.
  Net cash from financing activities was RMB21.3 million (US$3.5 million) in 2013, primarily attributable to bank loans for working capital purposes.
  Net cash from financing activities was RMB53.3 million (US$8.6 million) in 2012, primarily attributable to bank loans for working capital purposes.


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5.C. Research and Development





Our design philosophy is to create fashionable and elegant menswear with quality tailoring. By focusing on product design, we aim to become a fashion trend leader in the casual menswear market in China and supply products that consistently meet customers’ demands. Our design and product development team conceptualizes each season’s collections through an interactive process, taking into account our brand strategy, product image and market feedback, drawing inspirations from domestic and international fashion trends and collaborating with both our suppliers and distributors to fine- tune our designs. In particular, we collaborate with our suppliers to develop a variety of materials and fabrics for our products. We also involve distributors in our product selection process to take advantage of their market intelligence, which helps us to adapt to constantly changing customer preferences in local markets. Our designers also attend various domestic and international fashion shows to keep abreast of the latest fashion trends. As of December 31, 2014, our design and product development team comprised 28 members. In a typical season, we design and make 1,200 to 1,500 prototypes.  After the initial product selection, internal cost analysis of approved prototypes and final selection by distributors at the sales fairs, we eventually select approximately 500 to 750 designs for mass production. Final design of all of our products will be approved by our product development committee.





5.D. Trend Information





Other than as disclosed elsewhere in this annual report on Form 20-F, we are not aware of any trends, uncertainties, demands, commitments or events for the period from January 1, 2012 to December 31, 2014 that are reasonably likely to have a material adverse effect on our net revenues, income, profitability, liquidity or capital resources, or that caused the disclosed financial information to be not necessarily indicative of future operating results or financial conditions.





5.E. Off-Balance Sheet Arrangements




In November and December 2012, Mr. James Hong and Shishi Zuoan also provided guarantees up to an aggregate amount of RMB15.0 million, with respect to obligations of third parties under the loan agreements entered between third parties and Bank of Quanzhou and Bank of Communications, respectively. In October 2013, Mr. James Hong and Shishi Zuoan provided guarantees of RMB4.0 million, with respect to obligations of a third party under loan agreement entered between such third party and Bank of Quangzhou. In 2014, Mr. James Hong and Shishi Zuoan provided grarantee of RMB78.1 million, with respect to the obligations of certain third parties under loan agreements and bills payable entered into or to be entered into by the entities with certain banks. As of December 31, 2014, RMB78.1 million was outstanding under the guarantees.





Other than these guarantees, we have not entered into any financial guarantees or other commitments to guarantee the payment obligations of any third parties. We have not entered into any derivative contracts that are indexed to our shares and classified as shareholder’s equity, or that are not reflected in our consolidated financial statements. Furthermore, we do not have any retained or contingent interest in assets transferred to an unconsolidated entity that serves as credit, liquidity or market risk support to such entity. We do not have any variable interest in any unconsolidated entity that provides financing, liquidity, market risk or credit support to us or engages in leasing, hedging or research and development services with us.





5.F. Tabular Disclosure of Contractual Obligations





The following table sets forth our contractual obligations as of December 31, 2014:




Payment Due by PeriodTotal


Less than 1year


1-3 years


3-5 years


More than 5 years(in thousands of RMB)Short-term debt


122,110



122,110



—



—



—Operating lease obligations


5,844



2,142



3,702



—



—Total


127,954



124,252



3,702



—



—


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As of December 31, 2014, the operating lease obligations related to our obligations under lease agreements for our office spaces and direct stores. We intend to finance the above lease commitments by cash generated from our operating activities.




Inflation





Inflation in China has not materially impacted our results of operations in recent years. However, China has recently experienced a significant increase in inflation levels, which may materially impact our results of operations. According to the National Bureau of Statistics of China, the consumer price index in China increased by 2.6%, 2.6% and 2.0% in 2012, 2013 and 2014 respectively.





Recent Accounting Pronouncements





We review new accounting standards as issued. Management has not identified any new IFRSs or related interpretations that were effective for the first time for the financial year beginning on or after January 1, 2014 that had a material impact on our consolidated financial statements.  There are no other IFRSs or related interpretations that are not yet effective that would be expected to have a material impact on our consolidated financial statements.





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ITEM 6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES





6.A. Directors and Senior Management





Members of our board of directors may be elected by our directors or our shareholders. Our board of directors consists of seven directors, four of whom are independent directors within the meaning of NYSE corporate governance rules. Other than Mr. James Jinshan Hong and Mr. Tianzhen Hong, who are brothers, there are no family relationships between any of our directors and executive officers. The following table sets forth the name,


age and position of each of our directors and executive officers as of December 31, 2014. Unless otherwise indicated, the positions or titles indicated in the table below refer to Zuoan Fashion Limited.











Directors and Executive Officers
Age
Position/TitleJames Jinshan Hong
41
Chairman of the Board of Directors, Chief Executive Officer and Acting Chief

Financial OfficerChaoshen Wang
51
Director and Chief Operating OfficerTianzhen Hong
38
Director and Vice General ManagerJianwei Shen
58
Independent DirectorFrank Zhao
55
Independent DirectorWenxin Zhu
42
Independent DirectorCheok Chi Tam
53
Vice President/Procurement and ProductionLiang Xing
42
Vice President of Marketing, Sales and DistributionFeiyan Zheng
32
Vice President of DesignYan Qiu
45
Vice President of AdministrationDangsheng Chen
41
Finance Manager





Directors





JamesJinshanHong, also named Kam Shan Hung, is the founder, chairman of the board, chief executive officer and acting chief financial officer of our company. Mr. Hong was named one of the top 10 fashion designers in China by China Fashion Association in 2007 and 2008, respectively. Mr. James Hong has been with us since 2002. Prior to founding our company, Mr. Hong served as an assistant designer at Fujian Jinjiang Limei Clothing Co., Ltd. from 1992 to 1998.





ChaoshenWangis a director and the chief operating officer of our company. Mr. Wang joined our company in 2002. Prior to joining us, Mr. Wang served as the chief marketing officer of Judger Group Co., Ltd. from 1999 to 2002. He also served as the chief marketing officer at Baoxiniao Group from 1996 to 1999. He was a business manager at Shandong Xianxia Clothing Co., Ltd. from 1993 to 1996. From 1986 to 1992, he worked in various roles ranging from technician to deputy manager at Shandong Longkou Clothing General Factory.





TianzhenHonghas served as a director and vice general manager of our company since 2008. Prior to joining us, Mr. Hong served as procurement manager of Shishi Lianyi Cloth Trading Co., Ltd. from 2002 to 2007. Mr. Tianzhen Hong and Mr. James Hong are brothers.





JianweiShenserves as an independent director of our company. Mr. Shen is an associate professor at China Agricultural University. Mr. Shen currently also serves as an independent director of China Essence Group Ltd., a company listed on the Main Board of the Singapore Exchange Securities Trading Limited, or SGX-ST. He is also an independent director and the chairman of the remuneration committee of VLOV Inc. (formerly known as “Sino Charter, Inc.”), a company listed on the OTC Bulletin Board. He served as in-house management consultant in Fujian Fuma Foods Group Co. from 2002 to 2005. From 1993 to 2000, he was the project manager in Beijing Xingyun Industrial Co. Ltd. Mr. Shen graduated with a bachelor’s degree and a master’s degree in agricultural studies from Beijing Agricultural University. He also obtained a doctorate degree in agricultural studies from Beijing Agricultural University in a joint program with Hohenheim University, Germany.





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FrankZhaoserves as an independent director of our company. Mr. Zhao is a U.S. certified public accountant and a fellow of the American Institute of Certified Public Accountants, with over 20 years’ experience in corporate finance and audit practice with various publicly listed companies and PricewaterhouseCoopers in the U.S. and China. Mr. Zhao is the chief financial officer of Kingmed Diagnostics and has held this position since January 2011. Prior to that, he was the chief financial officer of Simcere Pharmaceutical Group, an NYSE-listed company from 2006 to 2011. Prior to that, he was the chief financial officer of Sun New Media Group, a NASDAQ-listed company, from 2005 to 2006. Previously, he held senior financial positions with several publicly listed companies in the United States and was an investment consultant with Beijing International Trust and Investment Company. Mr. Zhao graduated with a bachelor’s degree in economics from Peking University and obtained a master’s degree in professional accounting from the University of Hartford.





WenxinZhuserves as an independent director of our company. Mr. Zhu is the chairman of the board of System Expert Consultancy and has held this position since 1999. He currently also serves as a member of China National Garment Association Expert Committee, a clothing profession consultant of the China Chain-Store & Franchise Association, a clothing industry senior consultant of Alibaba Group and a visiting professor of Beijing Normal University, Zhuhai. Mr. Zhu was a management consultant of Qianjiang Business Consulting Co. Ltd. from 1995 to 1999. Prior to that, he was


a customer manager of Xinjiang Pulana Advertisement Company from 1994 to 1995.





Other Executive Officers





CheokChiTamhas served as the vice president of our company in charge of procurement and production since 2008. Prior to joining us, Mr. Tam served as the production manager of Metropolo Macau from 2001 to 2007. He served as production manager at Mandarin H.K. from 1991 to 2000.





LiangXingis the vice president of our company in charge of marketing, sales and distribution. Prior to joining us, Mr. Xing served as vice chief officer of sales management center of Fujian Seven Brand Group Co., Ltd. from 2008 to 2011. From 2007 to 2009, he worked as a general manager at Guangzhou Montagut Commercial Company Limited. From 2004 to 2007, he worked as a marketing manager at Samsung Fashion Trading Co., Ltd. From 2003 to 2004, he worked as a sales manager at Shanghai Casablank Garments Co., Ltd.. Mr. Xing graduated from the International Business School of Shanghai University with a college diploma in sales management.





FeiyanZhengis the vice president of our company in charge of design. Prior to joining us, Mr. Zheng served as a design manager at Zhongshan Feiyan Clothing Co., Ltd. from 2001 to 2006. Prior to that, he was a design manager at Hong Kong Crocodile Zhongshan Co., Ltd. from 1999 to 2001.





YanQiuis the vice president of our company in charge of administration. Prior to joining us, Ms. Qiu served as a deputy manager of Shanghai Xinke Mechanical Co., Ltd. from 2001 to 2010. Ms. Qiu has the Professional Certificate in Accounting, issued by Huangpu District Bureau of Finance, Shanghai.





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DangshengChenis our finance manager. Prior to joining us, Mr. Chen served as finance manager of Tries Clothing Stock Co., Ltd. from 2006 to 2008, and as finance manager of Quanzhou Sansheng Rubber Plastic Foamed Shoes Materials Co., Ltd. from 2002 to 2006. He also served as a deputy finance manager at Hengan (Jiangxi) Hygiene Products Co., Ltd. from 2000 to 2002. Prior to that, he was an accountant with Hawson (Fujian) Ltd. from 1996 to 2000.





6.B. Compensation of Directors and Executive Officers





For the year ended December 31, 2014, the aggregate cash compensation that we paid to our executive directors and officers was approximately RMB4.2 million (US$0.7 million).We did not pay any share-based compensation to our executive directors and officers. We have no service contracts with any of our executive directors or officers providing for benefits upon termination of employment.





6.C. Board Practices





General





Our board of directors consists of seven directors, four of whom are independent directors within the meaning of NYSE corporate governance rules. Under our amended and restated memorandum and articles of association, our board of directors shall consist of at least two directors. Our directors may from time to time appoint any person to be a director, either to fill a vacancy or as an addition to the existing directors. Any director so appointed shall hold office only until our next annual general shareholders’ meeting and shall then be eligible for re-election. Our directors may also be elected by the holders of ordinary shares. There is no shareholding requirement for qualification to serve as a member of our board of directors.





Our board of directors may exercise all the powers of the company to borrow money, mortgage or charge its undertaking, property and uncalled capital, and issue debentures, debenture stock and other securities whenever money is borrowed or as security for any debt, liability or obligation of the company or of any third party.





Committees of the Board of Directors





We have established three committees under the board of directors—the audit committee, the compensation committee and the nominating and corporate governance committee. Each committee’s members and functions are described below. We have adopted a charter for each of the board committees.





AuditCommittee. Our audit committee currently consists of three directors, namely Frank Zhao (as chairman of the committee), Jianwei Shen and Wenxin Zhu. Each of them satisfies the “independence” requirements of the NYSE and the SEC. In addition, our board of directors has determined that Frank Zhao is qualified as an audit committee financial expert within the meaning of the applicable rule of the SEC. The audit committee will oversee our accounting and financial reporting processes and the audits of the financial statements of our company. The audit committee will be responsible


for, among other things:





•
overseeing the qualification of the independent auditors and pre-approving all auditing and non-auditing services permitted to be performed by the independent auditors;





•
reviewing with the independent auditors any audit problems or difficulties and management’s response;





•
reviewing and approving all proposed related-party transactions;





•
discussing the annual audited financial statements with management and the independent auditors;





•
discussing with management and the independent auditors major issues regarding accounting principles and financial statement presentations;





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•
reviewing reports prepared by management or the independent auditors relating to significant financial reporting issues and judgments;





•
reviewing with management and the independent auditors related-party transactions and off-balance sheet transactions and structures;





•
reviewing with management and the independent auditors the effect of regulatory and accounting initiatives and actions;





•
reviewing policies with respect to risk assessment and risk management;





•
reviewing our disclosure controls and procedures and internal control over financial reporting;





•
timely reviewing reports from the independent auditors regarding all critical accounting policies and practices to be used by our company and all other material written communications between the independent auditors and management;





•
periodically reviewing and reassessing the adequacy of our audit committee charter;





•
such other matters that are specifically delegated to our audit committee by our board of directors from time to time; and





•
meeting separately, periodically, with management, the internal auditors and the independent auditors.





CompensationCommittee. Our compensation committee currently consists of Jianwei Shen (as chairman of the committee) and Wenxin Zhu. Each of them satisfies the “independence” requirements of the NYSE. Our compensation committee will assist the board in reviewing and approving the compensation structure of our directors and executive officers, including all forms of compensation to be provided to our directors and executive officers. The compensation committee will be responsible for, among other things:





•
reviewing and approving the compensation for our senior executives;





•
reviewing and evaluating our executive compensation and benefits policies generally;





•
reporting to our board of directors periodically;





•
evaluating its own performance and reporting to our board of directors on such evaluation;





•
periodically reviewing and assessing the adequacy of the compensation committee charter and recommending any proposed changes to our board of directors; and





•
such other matters that are specifically delegated to the compensation committee by our board of directors from time to time.





NominatingandCorporateGovernanceCommittee. Our nominating and corporate governance committee currently consists of Wenxin Zhu (as chairman of the committee) and Frank Zhao. Each of them satisfies the “independence” requirements of the NYSE. The nominating and corporate governance committee will assist the board of directors in selecting individuals qualified to serve as our directors and in determining the composition of the board and its committees. The nominating and corporate governance committee will be responsible for, among other things:





•
selecting and recommending to the board nominees for election by the shareholders or appointment by the board;





•
periodically reviewing with the board the current composition of the board with regard to characteristics such as independence, knowledge, skills, experience and diversity;





•
making recommendations on the frequency and structure of board meetings and monitoring the functioning of the committees of the board; and





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•
advising the board periodically with regard to significant developments in the law and practice of corporate governance, as well as our compliance with applicable laws and regulations, and making recommendations to the board on all corporate governance matters and on any remedial action to be taken.





Terms of Directors and Officers





Each of our directors holds office until a successor has been duly elected or appointed or until his or her office is otherwise vacated, except as otherwise described under “—Board of Directors” above. Our directors are subject to periodic retirement and reelection at staggered intervals. At each annual general meeting, one-third of our directors who are subject to retirement by rotation (or, if their number is not a multiple of three, the number nearest to, but not exceeding, one-third) retire from office. The chairman of our board of directors or our managing director will not be subject to retirement by rotation or be taken into account in determining the number of directors to retire in each year. Any retiring director is eligible for re- election. The directors to retire at each annual general meeting will be determined as follows: (i) first, any directors who wish to retire and not offer themselves for re-election and (ii) if no director wishes to retire, then such directors who have been longest in office since their last re-election or appointment, provided that among directors who became or were last re-elected directors on the same day those to retire shall (unless they otherwise agree among themselves) be determined by lot. Assuming that our board of directors will consist of seven directors, the term of each director (other than the chairman) will not exceed three years.





All of our executive officers are appointed by and serve at the discretion of our board of directors.





6.D. Employees





As of December 31, 2012, 2013 and 2014, we had 233, 220 and 152 full-time employees, respectively. The following table sets forth the number of our employees by department as of December 31, 2014:




Number ofEmployees


% of TotalManagement and administration


32



21.1Marketing, sales and distribution


51



33.6Design and product development


19



12.5Procurement, warehousing and logistics


46



30.3Quality assurance


4



2.5Total


152



100.0


We generally enter into standard employment contracts with our officers, managers and other employees with a term of three years. According to these contracts, all of our employees are prohibited from engaging in any other employment during the period of their employment with us. In addition, the standard employment agreements for our product design and development personnel and our executive officers contain confidentiality provisions which aim at protecting our designs, collections and trademarks and other intellectual property rights.





None of our employees are represented by collective bargaining arrangements or are members of a labor union, and we consider our relations with our employees to be good.





Share-Based Compensation Plans





Our equity incentive plan adopted in December 2010, or the 2010 Equity Incentive Plan, provides for the grant of options, share appreciation rights, or other share-based awards, referred to as “awards.” The purpose of the plan is to help us recruit and retain key employees, directors or consultants and to motivate such persons to exert their best efforts on behalf of our company by providing incentives through the granting of awards. Our board of directors authorized the issuance of up to 3% of our issued share capital immediately following the completion of our initial public offering, assuming full exercise of all awards that may be granted under this plan. Our board of directors believes that our company will benefit from the added interest that such persons will have in the welfare of the company as a result of their proprietary interest in the company’s success.





PlanAdministration. Our 2010 Equity Incentive Plan will be administered by the compensation committee of our board of directors. The compensation committee is authorized to interpret the plan, to establish, amend and





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rescind any rules and regulations relating to the plan, and to make any other determinations that it deems necessary or desirable for the administration of the plan. The compensation committee will have the full power and authority to establish the terms and conditions of each award consistent with the provisions of the plan, including, but not limited to, the exercise price for an option, vesting schedule, forfeiture provisions, form of payment of exercise price and other applicable terms.





TypesofAwards. The following briefly describes the principal features of the various awards that may be granted under our 2010 Equity Incentive Plan.





•
Options. Options have specified terms set forth in a share option agreement. The exercise price of an option must not be less than 100% (in term of individuals subject to U.S. taxation) or 85% of the fair market value of the underlying shares on the option grant date. The term of an option granted under the 2010 Equity Incentive Plan must not exceed ten years from the date the option is granted, and a shorter term may be required.





•
RestrictedStockandRestrictedStockUnits. An award of restricted share is a grant of our ordinary shares subject to restrictions the compensation committee may impose. A restricted stock unit is a contractual right that is denominated in our ordinary shares, each of which represents a right to receive the value of a share or a specified percentage of such value upon the terms and conditions set forth in the 2010 Equity Incentive Plan and the applicable award agreement.





•
ShareAppreciationRights. The committee is authorized to grant share appreciation rights independent of an option or in connection with an option. The exercise price per share of a share appreciation right will be an amount determined by the compensation committee but in no event such amount shall be less than the fair market value of a share on the grant date, or in the case of a share appreciation right in connection with an option, the option price.





•
OtherStock-basedAwards. The committee is authorized to grant other share-based awards that are denominated or payable in or otherwise related to our ordinary shares such as the right to receive, or vest with respect to, one or more shares (or the equivalent cash value of such shares) upon the completion of a specified period of service, the occurrence of an event and/or the attainment of performance objectives. Terms and conditions of such awards will be determined by the compensation committee appointed.





ChangeinControl. If a third-party acquires control over us through the purchase of all or substantially all of our assets, acquisition of 30% or more of our voting power, a merger or other business combination or if individuals who at the beginning of such period constituted the board of directors cease for any reason to constitute a majority of our board of directors, then, if so determined by the compensation committee with respect to the applicable award agreement or otherwise, any outstanding awards that are unexercisable or otherwise unvested or subject to lapse restrictions will automatically be deemed exercisable or otherwise vested or no longer subject to lapse restrictions, as the case may be, as of immediately prior to such change in control. The compensation committee may also, in its sole discretion, decide to cancel such awards for fair value, provide for the issuance of substitute awards that will substantially preserve the otherwise applicable terms of any affected awards previously granted, or provide that affected options will be exercisable for a period of at least 15 days prior to the change in control but not thereafter.





AmendmentandTerminationofPlan. Our board of directors may at any time amend, alter or discontinue the 2010 Equity Incentive Plan. Amendments or alterations to our 2010 Equity Incentive Plan are subject to shareholder approval if they increase the total number of shares reserved for the purposes of the plan or change the maximum number of shares for which awards may be granted to any participant. Any amendment, alteration or termination of our share incentive plan must not adversely affect awards already granted without written consent of the recipient of such awards. Unless terminated earlier, the 2010 Equity Incentive Plan will continue in effect for a term of ten years from the date of its adoption.





No awards were granted to any of our current directors, officers and employees under the 2010 Equity Incentive Plan during 2012, 2013 and 2014.


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6.E. Share Ownership





The following table sets forth the beneficial ownership of our ordinary shares, as of March 31, 2015, by each of our directors and executive officers:





Ordinary Shares Beneficially

Owned (1)(2)Number


PercentJames Jinshan Hong


56,251,883
(3)


50.6Chaoshen Wang


—
(4)


—Tianzhen Hong


—



—Cheok Chi Tam


—



—Liang Xing


—



—Feiyan ZhengYan Qiu


—



—Dangsheng Chen


—



—Jianwei Shen


—



—Frank Zhao


—



—Wenxin Zhu


—



—


(1)
Beneficial ownership is determined in accordance with Rule 13d-3 under the Exchange Act and includes voting or investment power with respect to the securities and outstanding share options exercisable within 60 days from the date of this annual report on Form 20-F.





(2)
For each person or group listed in the above table, the percentage of beneficial ownership is calculated by dividing the number of ordinary shares beneficially owned by such person or group (including ordinary shares underlying any options held by such person or group that are exercisable within 60 days from the date of this annual report on Form 20-F) by the sum of (a) the number of total outstanding ordinary shares as of the date of this annual report on Form 20-F and (b) the number of ordinary shares underlying any options held by such person or group that are exercisable within 60 days from the date of this annual report on Form 20-F.





(3)
Fame Brilliant, a British Virgin Islands company wholly owned by Ms. Siu Fong Or, wife of Mr. James Hong, is the record holder of 56,251,883 ordinary shares. Mr. James Hong disclaims beneficial ownership of these shares held by Fame Brilliant and Ms. Siu Fong Or.





(4)
Fame Brilliant sold in total 3,321,677 of our ordinary shares at the price of US$1.4875 per share in August 2011, February 2012, October 2012, October 2013 and March 2014 to Mr. Chaoshen Wang. Mr. Chaoshen Wang sold all his shares to third parties by March 2014.








ITEM 7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS





7.A. Major Shareholders





As of March 31, 2015, 111,276,113 of our ordinary shares were outstanding, of which 64,959,776 ordinary shares were held in the form of ADSs. Deutsche Bank Trust Company Americas, as depositary of our ADSs, has advised us that, as of March 31, 2015, the ADSs representing these ordinary shares were held of record by Cede & Co., as nominee for The Depository Trust and Clearing Corporation, or DTC.





The following table sets forth information known to us with respect to the beneficial ownership of our ordinary shares as of March 31, 2015, by (i)each shareholder known by us to beneficially own 5% or more of our ordinary shares and (ii) all directors and executive officers as a group:





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Name of Beneficial Owner

Number of Ordinary Shares Beneficially

Owned


Percentage of Ordinary Beneficially Shares OwnedSiu Fong Or(1)


56,251,883



50.6James Jinshan Hong(1)


56,251,883



50.6Fame Brilliant Group Limited(1)


56,251,883



50.6Phillip Ventures Enterprise Fund 2 Ltd.(2)


6,722,500



6.0Phillip Private Equity Pte Ltd.(2)


6,722,500



6.0Phillip Investment Corporation Pte. Ltd.(2)


6,722,500



6.0Lim Hua Min(2)


6,722,500



6.0All directors and executive officers as a group


59,516,335



50.6


(1)
Fame Brilliant, a British Virgin Islands company wholly owned by Ms. Siu Fong Or, wife of Mr. James Hong, is the record holder of 56,251,883 ordinary shares. Mr. James Hong disclaims beneficial ownership of these shares held by Fame Brilliant and Ms. Siu Fong Or.





(2)
According to the Schedule 13G filed with the SEC on February 8, 2012, Phillip Ventures Enterprise Fund 2 Ltd., a Singapore company, or Phillip Ventures, held 6,722,500 ordinary shares in the form of ADSs as of December 31, 2011. Phillip Ventures is a private equity investment fund managed by Phillip Private Equity Pte Ltd., a Singapore company, or Phillip Private, on a fully discretionary basis. Phillip Private holds the only issued ordinary share of Phillip Ventures. The ultimate holding company of Phillip Private is Phillip Investment Corporation Pte. Ltd., a Singapore company, which is majority-owned by Mr. Lim Hua Min, a Singapore citizen. We do not have further information with respect to any changes in the beneficial ownership of our ordinary shares by these persons subsequent to December 31, 2011.





None of our existing shareholders has voting rights different from other shareholders. We are not aware of any arrangement that may, at a subsequent date, result in a change of control of our company.





Fame Brilliant sold in total 3,321,677 of our ordinary shares at the price of US$1.4875 per share in August 2011, February 2012, October 2012 , October 2013, and March 2014 to Mr. Chaoshen Wang. Mr. Chaoshen Wang sold all his shares to third parties by March 2014. See “Item 7.B. Related Party Transactions — Share Purchase Agreement.”





7.B. Related Party Transactions





Transactions with Our Chairman and Chief Executive Officer and His Affiliated Persons or Entities




Since January 2007, Shishi Zuoan has entered into various credit facilities with Bank of Quanzhou for working capital purposes. Mr. James Hong, Mr. Chaojie Hong, uncle of Mr. James Hong, and Fujian Aidu, a company controlled by Mr. Chaojie Hong, have provided guarantees for Shishi Zuoan’s obligation under some or all of such credit facilities. In May 2011, such credit facilities with the Bank of Quanzhou expired and were renewed. Mr. James Hong, Mr. Chaojie Hong, uncle of Mr. James Hong, and Fujian Aidu have provided guarantees for Shishi Zuoan’s obligations of up to RMB5.0 million. In February 2012, such credit facilities with the Bank of Quanzhou expired and were renewed. Mr. James Hong, Mr. Chaojie Hong, uncle of Mr. James Hong, and Fujian Aidu have provided guarantees for Shishi Zuoan’s obligations of up to RMB15.0 million. In February 2013, Shishi Zuoan entered into various credit facilities with Bank of Quanzhou for working capital purposes. Mr. James Hong, Mr. Chaojie Hong, uncle of Mr. James Hong, and Fujian Aidu, a company controlled by Mr. Chaojie Hong, have provided guarantees for Shishi Zuoan’s obligation of up to RMB15.0 million. In April 2014, Shishi Zouan renewed such credit facilities with Bank of Quanzhou. Mr. James Hong and certain third parties have provided guarantee for the renewed obligation of up to RMB15.0 million. As of December 31, 2014, we had outstanding borrowings of RMB4.2 million (US$0.7 million) under these credit facilities.




Since November 2008, Shishi Zuoan has entered into several loan agreements with Industrial Bank for working capital purposes. In 2011, Mr. James Hong, Mr. Chaojie Hong, uncle of Mr. James Hong and Fujian Aidu, a company controlled by Mr. Chaojie Hong each agreed to guarantee our obligations of up to an aggregate amount of





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RMB36.3 million. In 2012, such credit facilities expired and were renewed. Mr. James Hong, Mr. Chaojie Hong and Fujian Aidu each agreed to guarantee Shishi Zuoan’s obligations of up to an aggregate amount of RMB47.7 million. In 2013, such credit facilities expired and were renewed. Mr. James Hong, Mr. Chaojie Hong and Fujian Aidu have provided guarantees for Shishi Zuoan’s obligations of up to an aggregate amount of RMB48.4 million. In April 2014, Mr. James Hong and certain third parties each entered into new bank facilities to provide guarantees for the aggregate obligations under up to RMB25.0 million to supersede such previous bank facilities.As of December 31, 2014, we had outstanding borrowings under these loans of RMB25.0 million (US$4.0 million).




In May 2009, Shishi Zuoan agreed to guarantee Fujian Aidu’s obligations for an aggregate amount of up to RMB6.0 million under the loan agreements entered into or to be entered into from May 11, 2009 to May 10, 2012 between Fujian Aidu and Agricultural Bank of China, Jinjiang Branch. In October 2011, Shishi Zuoan renewed the agreement and agreed to guarantee Fujian Aidu’s obligations for an aggregate amount of up to RMB6.0 million under the loan agreements entered into or to be entered into from October 25, 2011 to October 24, 2014 between Fujian Aidu and Agricultural Bank of China, Jinjiang Branch. Such loans were repaid in January 2013.





In June 2011, our company entered into loan agreements with China Citic Bank for short-term loans with principal amount of RMB35.0 million. The maturity date of these loans is June 2012. Mr. James Hong and one other third-party have provided guarantees for these short-term loans. In June 2012, our company entered into new loan agreements with China Citic Bank for short-term loans with principal amount of RMB35.0 million, which was repaid in June 2013. In December 2013, our company entered into a new loan agreement with China Citic Bank for short-term loans with principal amount of RMB20.0 million.  This loan was repaid in December 2014. Mr. James Hong and a third party have provided guarantees for this short-term loan.




In 2011, we entered into loan agreements with Industrial and Commercial Bank of China for short-term loans with principal amount of RMB43.6 million, RMB19.1 million of which were repaid between June to November 2011. In addition, Fujian Aidu renewed the previous banking facilities with Industrial and Commercial Bank of China to guarantee our obligations of up to an aggregate amount of RMB30.0 million under this loan and any other loan agreements with Industrial and Commercial Bank of China that have been or may be entered into between November 2010 to November 2012. In 2012, we entered into loan agreements with Industrial and Commercial Bank of China for short-term loans with principal amount of RMB83.9 million, RMB37.5 million of which were repaid between July to December 2012. In addition, Fujian Aidu and Mr. James Hong and Ms. Or Siu Fong, the wife of Mr. James Hong, each renewed the previous banking facilities with Industrial and Commercial Bank of China to guarantee our obligations of up to an aggregate amount of RMB50.0 million and RMB30,0 million, respectively, under this loan and any other loan agreements with Industrial and Commercial Bank of China that have been or may be entered into between October 2011 to September 2016. In 2013, we entered into loan agreements with Industrial and Commercial Bank of China for short-term loans with principal amount of RMB99.0 million, RMB47.0 million of which were repaid between July to December 2013. In January 2014, Mr. James Hong and certain third parties each entered into new banking facilities to generate obligations of up to an aggregate amount of RMB50.0 million under this loan and any other loan agreements that have been or may be entered into between January 2014 and January 2019. In 2014. we entered into loan agreements with Industrial and Commercial Bank of China with principal amount of RMB71.2 million, RMB 28.3 million of which were repaid.  As of December 31, 2014, we had outstanding borrowings under these loans of RMB42.9 million (US$6.9 million).




In November 2012, our company entered into a loan agreement with China Merchants Bank for a short-term loan with principal amount of RMB20.0 million, which was repaid in November 2013. Mr. James Hong has provided guarantee for this short-term loan.




In April 2013, our company entered into a loan agreement with Bank of Communications for a short-term loan with principal amount of RMB50.0 million. The maturity date of this loan is February 2014. Mr. James Hong and a third party have provided joint guarantee for this short-term loan. As of December 31, 2014, we had outstanding borrowings under this loan of RMB50.0 million (US$8.1 million).




Shishi Zuoan leases our production facility in Jinjiang, Fujian province, from Fujian Aidu pursuant to a lease agreement dated as of December 20, 2004. The lease agreement had a term of two years, renewable upon a one-month notice by Shishi Zuoan. We were obligated to pay an annual rent in the amount of RMB3.6 million, payable quarterly, under the lease. Pursuant to a supplemental agreement, the parties agreed to extend the lease to June 30, 2013, with an annual rent in the amount of RMB4.3 million, payable quarterly. We made rent payments to Fujian Aidu in the amount of RMB3.2 million (US$0.5 million) in 2012. In October 2012, we decided to concentrate on brand development and construction of new logistics centers and warehousing facilities going forward and as a result closed our sole production facility. We sold all plants and machinery at carrying book value and raw materials at 50% of the cost in the warehouse to Fujian Aidu at the prices of RMB73,000 and RMB1.3 million, respectively. Additionally, in October 2012, we entered into a new lease agreement related to a warehouse facility with Mr. Hong Chaoxi, Mr. James Hong’s father, which expires in July 2017. The annual rent is RMB 0.9 million and the rent free period started from August 2012 to July 2017.


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Share Purchase Agreement





In November 2010, in recognition of Mr. Chaoshen Wang’s contribution to our growth in the past and in order to give him an equity-based incentive to encourage his continued employment with us, Fame Brilliant entered into a share purchase agreement with Mr. Wang. Under this agreement, Mr. Wang will have the right to purchase from Fame Brilliant ordinary shares of our company in an amount of up to 3% of the issued and outstanding shares of our company after our initial public offering, or the aggregate purchase shares. Such right will vest in installments over a period of three years commencing from the completion of our initial public offering, contingent upon Mr. Wang’s continued employment with our company. The first installment, equal to one-sixth of the aggregate purchase shares, will vest six months after the completion of our initial public offering, and the second installment, equal to one-sixth of the aggregate purchase shares, will vest one year after the completion of our initial public offering. The remaining purchase shares will vest pro rata each month thereafter over a period of two years. The purchase price will be 85% of the public offering price for our ordinary shares in the public offering. Mr. Wang purchased in total 3,321,677 ordinary shares of our company from Fame Brilliant at the price of US$1.4875 per share in August 2011, February 2012, October 2012, October 2013 and March 2014 and sold all such shares to third parties by March 2014.




7.C. Interests of Experts and Counsel





Not applicable.





ITEM 8. FINANCIAL INFORMATION





8.A. Consolidated Statements and Other Financial Information





8.A.1.See “Item 18. Financial Statements” for our audited consolidated financial statements.





8.A.2.See “Item 18. Financial Statements” for our audited consolidated financial statements, which cover the last three financial years.





8.A.3.See page F-2 for the report of our independent registered public accounting firm.





8.A.4.Not applicable.





8.A.5.Not applicable.





8.A.6.See Note 22 to our audited consolidated financial statements included in “Item 18. Financial Statements.”





8.A.7. Litigation





We are not currently a party to any material legal proceeding or investigation, and, to our knowledge, there are no material legal proceedings threatened against us. From time to time, we may be subject to various claims and legal actions arising in the ordinary course of business.





8.A.8. Dividends and Dividend Policy





We normally retain most, if not all, of our available funds and any future earnings to operate and expand our business. We did not declare or pay any dividends in 2012 or 2013. On April 30, 2014, our board of directors declared a cash dividend of US$0.05 per share, which was paid on or about June 10, 2014 to shareholders of record on May 16, 2014.





Our board of directors has complete discretion in deciding whether to distribute dividends. Even if our board of directors decides to pay dividends, the timing, amount and form of future dividends, if any, will depend on, among other things, our future results of operations and cash flow, our capital requirements and surplus, the amount of distributions, if any, received by us from our subsidiaries, our financial condition, contractual restrictions and other factors deemed relevant by our board of directors.





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If we pay any dividends, our ADS holders will be entitled to such dividends to the same extent as holders of our ordinary shares, subject to the terms of the deposit agreement, including the fees and expenses payable thereunder. Cash dividends on our ordinary shares, if any, will be paid in U.S. dollars.





We are a holding company with no material operations of our own. We conduct our operations primarily through our subsidiaries in China. As a result, our ability to pay dividends and to finance any debt we may incur depends upon dividends paid to us by our subsidiaries. If our subsidiaries or any newly formed subsidiaries incur debt on their own behalf in the future, the instruments governing their debt may restrict their ability to pay dividends to us. In addition, our subsidiaries are permitted to pay dividends to us only out of their retained earnings, if any, as determined in accordance with PRC accounting standards and regulations. Pursuant to laws applicable to entities incorporated in the PRC, our subsidiaries in the PRC must make appropriations from after-tax profit to non-distributable reserve funds. These reserve funds include one or more of the following: (i) a general reserve, (ii) an enterprise expansion fund and (iii) a staff bonus and welfare fund. Subject to certain cumulative limits, the general reserve fund requires an annual appropriation of 10% of after-tax profit (as determined under accounting principles generally accepted in the PRC at each year-end); the other fund appropriations are at the subsidiaries’ discretion. These reserve funds can only be used for the specific purposes of enterprise expansion, staff bonus and welfare, and are not distributable as cash dividends.





8.B. Significant Changes





Except as disclosed elsewhere in this annual report on Form 20-F, we have not experienced any significant changes since the date of the annual financial statements.





ITEM 9. THE OFFER AND LISTING





9.A. Offer and Listing Details





Our ADSs have been quoted on the New York Stock Exchange under the symbol “ZA” since February 15, 2011. The table below sets forth, for the periods indicated, the high and low market prices and the average daily volume of trading activity on the New York Stock Exchange for the shares represented by ADSs.




Average DailyTradingHigh

Low

VolumeAnnual Information




(in thousands of

ADSs)2013

$3.65

$1.66

64.12014

$2.39

$0.45

104.9Quarterly Information2013First quarter

$3.65

$2.75

12.2Second quarter

$2.98

$2.58

7.1Third quarter

$2.75

$1.89

65.2Fourth Quarter

$3.62

$1.66

168.62014First quarter

$2.39

$1.68

195.3Second quarter

$2.31

$1.60

58.9Third Quarter

$1.92

$1.07

87.5Fourth Quarter

$1.18

$0.45

178.62015First quarter

$0.98

$0.47

66.9Second quarter (through May 8)*
$3.60

$0.70

92.5Monthly Information2014November

$0.97

$0.55

118.4December

$0.84

$0.45

235.72015January

$0.84

$0.51

72.4February

$0.81

$0.47

61.9March

$0.88

$0.65

66.3April
$1.10

$0.70

107.6May (through May 8)*
$3.60

$2.70

39.7




*Prior to May 1, 2015, one ADS represented four ordinary shares. Effective from May 1, 2015 when we completed the reverse share split, one ADS represents 16 ordinary shares instead.







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9.B. Plan of Distribution





Not applicable.





9.C. Markets





The principal trading market for our ordinary shares is the New York Stock Exchange, on which our ordinary shares are traded in the form of


ADSs.





9.D. Selling Shareholders





Not applicable.





9.E. Dilution





Not applicable.





9.F. Expenses of the Issue





Not applicable.





ITEM 10. ADDITIONAL INFORMATION





10.A. Share Capital





Not applicable.





10.B. Memorandum and Articles of Association





Our shareholders previously adopted the Amended and Restated Memorandum and Articles of Association, which was filed as an exhibit to our registration statement on Form F-1 (file no. 333-171534) with the SEC on January 4, 2011. Under the Amended and Restated Memorandum and Articles of Association, no written resolution of shareholders is permitted and all resolutions of our shareholders must be passed at our duly convened general meetings.





We incorporate by reference into this annual report on Form 20-F the description of our Amended and Restated Memorandum and Articles of Association contained in our F-1 registration statement (File No. 333-171534) filed with the SEC on January 4, 2011. Such description sets forth a summary of certain provisions of our memorandum and articles of association as currently in effect.





10.C. Material Contracts





Except as otherwise disclosed in this annual report on Form 20-F, we are not currently, and have not been in the last two years, party to any material contract, other than contracts entered into in the ordinary course of business.





10.D. Exchange Controls





The PRC government imposes controls on the convertibility of the Renminbi into foreign currencies and, in certain cases, the remittance of currency out of China. We receive all of our revenues in Renminbi. Under our current corporate structure, our Cayman Islands holding company may rely on dividend payments from our PRC subsidiaries to fund any cash and financing requirements we may have. Under existing PRC foreign exchange regulations, payments of current account items, including profit distributions, interest payments and trade and





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service-related foreign exchange transactions, can be made in foreign currencies without prior approval from the PRC State Administration of Foreign Exchange, or SAFE, by complying with certain procedural requirements. But approval from or registration with appropriate government authorities is required where Renminbi are to be converted into foreign currency and remitted out of China to pay capital expenses such as the repayment of loans denominated in foreign currencies. The PRC government may also at its discretion restrict access in the future to foreign currencies for current account transactions. If the foreign exchange control system prevents us from obtaining sufficient foreign currencies to satisfy our foreign currency demands, we may not be able to pay dividends in foreign currencies to our shareholders, including holders of our ADSs.





For more information about foreign exchange control and other foreign exchange regulations in China, see “Item 3.D. Risk Factors—Risks Related to Doing Business in China”.





10.E. Taxation





Cayman Islands Taxation





The Cayman Islands currently levies no taxes on individuals or corporations based upon profits, income, gains or appreciation and there is no taxation in the nature of inheritance tax or estate duty. There are no other taxes likely to be material to us levied by the Government of the Cayman Islands except for stamp duties, which may be applicable on instruments executed in, brought to, or produced before a court of the Cayman Islands. The Cayman Islands is a party to a double tax treaty entered into with the United Kingdom in 2010 but is otherwise not party to any double tax treaties. There are no exchange control regulations or currency restrictions in the Cayman Islands.





Pursuant to Section 6 of the Tax Concessions Law (1999 Revision) of the Cayman Islands, we have obtained an undertaking from the Governor- in-Cabinet:





(1)       that no law which is enacted in the Cayman Islands imposing any tax to be levied on profits or income or gains or appreciation shall apply to us or our operations; and





(2)       that the aforesaid tax or any tax in the nature of estate duty or inheritance tax shall not be payable on our shares, debentures or other obligations.





The undertaking for us is for a period of twenty years from September 7, 2010.





PRC Taxation of Our Overseas Shareholders





The EIT Law Implementation Regulations provide that (i) if an enterprise that distributes dividends is domiciled in China, or (ii) if gains are realized from transferring equity interests of enterprises domiciled in China, then such dividends or capital gains are treated as PRC-source income. It is not yet clear how the term “domicile” will be interpreted under the EIT Law, and it may be interpreted as the jurisdiction where an enterprise is a tax resident. We may be treated as a PRC tax resident enterprise, as described in “Risk Factors—Risks related to doing business in China—Under the EIT Law, we may be considered a PRC ‘resident enterprise.’ As a result, we may be subject to 25% PRC enterprise income tax on our worldwide income, and holders of our ADSs or ordinary shares may be subject to PRC tax on dividends paid by us and gains realized on their transfer of our ADSs or ordinary shares.” If we are deemed to be a PRC tax resident enterprise, any dividends that we pay to our non-PRC enterprise shareholders or ADS holders, as well as gains realized by such shareholders or ADS holders from the transfer of our shares or ADSs, may be treated as PRC-source income and as a result be subject to PRC withholding tax at a rate of up to 10% in the case of dividends or PRC tax at a rate of 10% in the case of gains from the transfer of shares or ADSs, in each case unless a reduced rate is provided under any applicable tax treaty.





The PRC Individual Income Tax Law, or the Individual Tax Law, imposes tax at a rate of 20% on dividends and gains realized by overseas individuals who are neither domiciled nor tax resident in China, to the extent that such dividends or gains are sourced within China. Pursuant to the Individual Tax Law, although the matter is unclear, if we were considered a PRC resident enterprise, dividends or gains realized by our non-PRC individual shareholders or ADS holders may be treated as income derived from sources within China and may be subject to PRC tax (which in the case of dividends may be required to be withheld) at a rate of 20% subject to the provisions of any applicable tax treaty.





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In addition, according to Circular 601, non-resident enterprises that cannot provide valid documents evidencing their beneficial ownership may not be approved to enjoy tax treaty benefits. In the event that we are treated as a PRC tax resident, dividends to be distributed by us to our non-PRC shareholders and ADSs holders whose jurisdictions of incorporation have tax treaties with China providing for preferential withholding arrangements will not be entitled to the benefits under such withholding arrangements unless such holder is considered a “beneficial owner” under Circular 601. The PRC tax authorities’ approval is required in order to apply the benefits under a tax treaty.





U.S. Federal Income Tax Considerations





The following is a discussion of material U.S. federal income tax consequences to the U.S. Holders described below of owning and disposing of ordinary shares or ADSs, but it does not purport to be a comprehensive description of all the tax considerations that may be relevant to a particular person’s decision to own such ordinary shares or ADSs. This discussion does not address any aspect of the Medicare contribution tax on “net investment income” of non-corporate U.S. Holders and does not address U.S. state, local and non-U.S. tax consequences. This discussion applies only to a U.S. Holder that holds ordinary shares or ADSs as capital assets for U.S. federal income tax purposes. In addition, it does not describe all of the tax consequences that may be relevant in light of a U.S. Holder’s particular circumstances, including alternative minimum tax consequences and tax consequences applicable to U.S. Holders subject to special rules, such as:





•
certain financial institutions;





•
dealers or traders in securities who use a mark-to-market method of tax accounting;





•
persons holding ordinary shares or ADSs as part of a hedge, straddle, wash sale, conversion, integrated transaction or similar transaction;





•
persons whose functional currency for U.S. federal income tax purposes is not the U.S. dollar;





•
partnerships or other entities classified as partnerships for U.S. federal income tax purposes;





•
tax-exempt entities;





•
persons that own or are deemed to own 10% or more of our voting stock; or





•
persons holding ordinary shares or ADSs in connection with a trade or business conducted outside of the United States.





If an entity that is classified as a partnership for U.S. federal income tax purposes owns ordinary shares or ADSs, the U.S. federal income tax treatment of a partner will generally depend on the status of the partner and the activities of the partnership. Partnerships owning ordinary shares or ADSs and partners in such partnerships should consult their tax advisers as to the particular U.S. federal income tax consequences of owning and disposing of the ordinary shares or ADSs.





This discussion is based on the Internal Revenue Code of 1986, as amended, or the Code, administrative pronouncements, judicial decisions, final, temporary and proposed U.S. Treasury regulations, and the income tax treaty between the People’s Republic of China and the United States, or the Treaty, all as of the date hereof, any of which is subject to change, possibly with retroactive effect. It is also based, in part, on representations by the depositary and assumes that each obligation under the deposit agreement and any related agreement will be performed in accordance with its terms. U.S. Holders should consult their tax advisers concerning the U.S. federal, state, local and non-U.S. tax consequences of owning and disposing of ordinary shares or ADSs in their particular circumstances.





As used herein, a “U.S. Holder” is a person that, for U.S. federal income tax purposes, is a beneficial owner of ordinary shares or ADSs and is:





•
a citizen or individual resident of the United States;





•
a corporation, or other entity taxable as a corporation, created or organized in or under the laws of the United States, any state therein or the District of Columbia; or





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•
an estate or trust the income of which is subject to U.S. federal income taxation regardless of its source.





In general, a U.S. Holder who owns ADSs will be treated as the owner of the underlying shares represented by those ADSs for U.S. federal income tax purposes. Accordingly, no gain or loss will be recognized if a U.S. Holder exchanges ADSs for the underlying shares represented by those ADSs.





The U.S. Treasury has expressed concern that parties to whom American depositary shares are released before shares are delivered to the depositary, also referred to as pre-release, or intermediaries in the chain of ownership between holders and the issuer of the securities underlying the American depositary shares, may be taking actions that are inconsistent with the claiming of foreign tax credits by holders of American depositary shares. Accordingly, the creditability of PRC taxes described below could be affected by actions taken by such parties or intermediaries. Such actions would also be inconsistent with the claiming of the favorable tax rates, described below, applicable to dividends paid by companies that are not passive foreign investment companies (as described below) to certain non-corporate holders.





Passive Foreign Investment Company





In general, a non-U.S. corporation will be a passive foreign investment company (a “PFIC”) for any taxable year in which (i) 75% or more of its gross income consists of passive income or (ii) 50% or more of the average quarterly value of its assets consists of assets that produce, or are held for the production of, passive income. For these purposes, cash and cash-equivalents are generally passive. A non-U.S. corporation that directly or indirectly owns at least 25% by value of the shares of another corporation is treated as if it held its proportionate share of the assets of the other corporation and received directly its proportionate share of the income of the other corporation.




We have not obtained (and do not intend to obtain) valuations of our assets in order to make a determination as to our PFIC status for 2014 or any other taxable year.  However, the value of our assets may be determined by reference to the market value of our ADSs, which has been decreasing over time while our cash balances significantly increased.  Therefore, we would be a PFIC for 2014 if the value of our assets were determined based on their book value or by reference to the ADS’ trading price (which is volatile and generally continued to decrease during 2014). As the determination of PFIC status is made on an annual basis and depends on the composition of our income and assets and the value of our assets from time to time, and because our cash balances may continue to be substantial, we may be a PFIC for any taxable year. U.S. Holders should consult their tax advisers regarding our PFIC status for the current or any other taxable year and the consequences thereof.





If we were a PFIC for any taxable year during which a U.S. Holder owned ordinary shares or ADSs, gain recognized by a U.S. Holder on a sale or other disposition (including certain pledges) of the ordinary shares or ADSs would be allocated ratably over the U.S. Holder’s holding period for the ordinary shares or ADSs. The amounts allocated to the taxable year of the sale or other disposition and to any year before we became a PFIC would be taxed as ordinary income. The amount allocated to each other taxable year would be subject to tax at the highest rate in effect for individuals or corporations, as appropriate, for that taxable year, and an interest charge would be imposed on the resulting tax liability. Further, the excess of any distribution received by a U.S. Holder on its ordinary shares or ADSs over 125% of the average of the annual distributions on the ordinary shares or ADSs received during the preceding three years or the U.S. Holder’s holding period, whichever is shorter, would be subject to taxation in the same manner.





If we were a PFIC in any year during which a U.S. Holder owned ordinary shares or ADSs, under certain attribution rules, the U.S. Holder would be deemed to own a proportionate share of any other PFIC in which we own an equity interest (a “lower-tier PFIC”), and would be subject to U.S. federal income tax on (a) a distribution on the shares of a lower-tier PFIC and (b) a disposition of shares of a lower-tier PFIC, in each case as if the U.S. Holder directly held the shares of such lower-tier PFIC.





If we were a PFIC for any year during which a U.S. Holder owned ordinary shares or ADSs, we would continue to be treated as a PFIC with respect to that U.S. Holder for all succeeding years during which the U.S. Holder owns the ordinary shares or ADSs, even if we cease to meet the threshold requirements for PFIC status. In that case, U.S. Holders may be able to make a “deemed sale” election that would allow them to eliminate this continuing PFIC status under certain circumstances. U.S. Holders should consult their tax advisers regarding the availability and advisability of a “deemed sale” election in their particular circumstances.





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In addition, if we were a PFIC, certain other elections may be available that would result in alternative treatment. For example, if our ADSs are “regularly traded,” a U.S. Holder may be able to make a mark-to-market election, pursuant to which a U.S. Holder of ADSs generally will recognize as ordinary income any excess of the fair market value of the ADSs at the end of each taxable year over their adjusted tax basis, and will recognize ordinary loss in respect of any excess of the adjusted tax basis of the ADSs over their fair market value at the end of each taxable year (but only to the extent of the net income previously included as a result of the mark-to-market election). If a U.S. Holder makes a mark-to-market election, the U.S. Holder’s tax basis in the ADSs will be adjusted to reflect the amount of income or loss recognized. Any gain recognized on the sale or other disposition of ADSs in a year when we are a PFIC will be treated as ordinary income and any loss will be treated as an ordinary loss (but only to the extent of the net amount of income previously included as a result of the mark-to-market election). For purposes of the mark-to-market rules, the ADSs generally will be treated as “regularly traded” in any calendar year in which more than a deminimisquantity of the ADSs is traded on at least 15 days during each calendar quarter. U.S. Holders should consult their tax advisers to determine whether any of these elections would be available and if so, what the consequences of the alternative treatments would be in their particular circumstances. In particular, U.S. Holders should consider carefully the impact of a mark-to-market election with respect to their ADSs given that we may have lower-tier PFICs for which a mark-to-market election may not be available. We do not intend to satisfy the record-keeping and other requirements that would permit U.S. Holders to make qualified electing fund elections.





If we are a PFIC for any taxable year during which a U.S. Holder owned our ordinary shares or ADSs, the U.S. Holder will generally be required to file annual Internal Revenue Service (“IRS”) Forms 8621 with their annual U.S. federal income tax returns, subject to certain exceptions.





U.S. Holders should consult their tax advisers concerning our PFIC status and the tax considerations relevant to an investment in a PFIC.





Taxation of Distributions





Subject to the discussion under “—Passive Foreign Investment Company Rules” above, any distributions paid on ordinary shares or ADSs, other than certain proratadistributions of ordinary shares, will be treated as dividends to the extent paid out of our current or accumulated earnings and profits (as determined under U.S. federal income tax principles). Because we do not maintain calculations of earnings and profits under U.S. federal income tax principles, it is expected that distributions generally will be reported to U.S. Holders as dividends. If we are required to withhold PRC taxes, as described in “Taxation—PRC Taxation of Our Overseas Shareholders,” the amount of a dividend will include any such amounts withheld. The amount of the dividend will be treated as foreign-source dividend income to U.S. Holders and will not be eligible for the dividends-received deduction generally available to U.S. corporations under the Code. Dividends will be included in a U.S. Holder’s income on the date of the U.S. Holder’s or, in the case of ADSs, the depositary’s receipt of the dividend.





Generally under the Code certain dividends paid to certain non-corporate shareholders may be taxable at favorable rates, subject to applicable limitations and the discussion above regarding concerns expressed by the U.S. Treasury. However, these favorable rates would not apply if we were a PFIC for the taxable year in which we paid any dividend or the prior taxable year (or generally with respect to a particular U.S. Holder, any previous taxable years during which the U.S. Holder had owned our ordinary shares or ADSs while we were a PFIC).





Subject to the limitations set forth in the Code and Treasury regulations, some of which vary depending upon the U.S. Holder’s circumstances and subject to the discussion above regarding concerns expressed by the U.S. Treasury, if we are treated as a PRC “resident enterprise” under PRC tax law as discussed under “Taxation—PRC Taxation” above, PRC income taxes withheld from dividends on ordinary shares or ADSs (at a rate not exceeding the rate provided in the Treaty in the case of a U.S. Holder that is eligible for Treaty benefits) may be creditable against the U.S. Holder’s U.S. federal income tax liability. The application of the rules governing foreign tax credits depends on the particular circumstances of each U.S. Holder. The limitation on foreign taxes eligible for credit is calculated separately with respect to specific classes of income. For these purposes, dividends will constitute either “passive income” or “general income.” The creditability of foreign taxes may also be limited in other circumstances, for example, if the ordinary shares or ADSs have not been held for a prescribed minimum holding period or a U.S. Holder had losses from foreign sources in previous taxable years. Therefore, U.S. Holders should consult their tax advisers regarding the creditability of foreign taxes in their particular circumstances.





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Sale or Other Disposition of Ordinary Shares or ADSs





For U.S. federal income tax purposes, subject to the discussion under “—Passive Foreign Investment Company Rules” above, gain or loss realized on the sale or other taxable disposition of ordinary shares or ADSs will be capital gain or loss, and will be long-term capital gain or loss if the U.S. Holder held the ordinary shares or ADSs for more than one year. The amount of the gain or loss will equal the difference between the U.S. Holder’s tax basis in the ordinary shares or ADSs disposed of and the amount realized on the disposition, in each case as determined in U.S. dollars. This gain or loss will generally be U.S.-source gain or loss for foreign tax credit purposes. The deductibility of capital losses is subject to limitations.





As described in “Taxation—PRC Taxation of Our Overseas Shareholders,” if we were deemed to be a PRC “resident enterprise” under PRC tax law, gains from dispositions of our ordinary shares or ADSs may be subject to PRC tax. The Treaty does not restrict the PRC’s right to tax capital gains. If gains were subject to PRC taxes, a U.S. Holder’s amount realized would include the gross amount of the proceeds of the sale or disposition before deduction of the PRC tax. Because under the Code capital gains of U.S. persons generally are treated as U.S.-source income, a U.S. Holder may be precluded from claiming a foreign tax credit for all or a portion of any PRC taxes imposed on disposition gains. However, a U.S. Holder that is eligible for the benefits of the Treaty may be able to elect to treat the disposition gain as foreign-source gain and claim a foreign tax credit against the U.S. Holder’s tax liability on the gain. U.S. Holders should consult their tax advisers regarding their eligibility for benefits under the Treaty and the creditability of any PRC tax on disposition gains in their particular circumstances.





U.S. Information Reporting and Backup Withholding





Payments of dividends and sales proceeds that are made within the United States or through certain U.S.-related financial intermediaries generally are subject to information reporting, and may be subject to backup withholding, unless (i) the U.S. Holder is an exempt recipient or (ii) in the case of backup withholding, the U.S. Holder provides a correct taxpayer identification number and certifies that it is not subject to backup withholding.





The amount of any backup withholding from a payment to a U.S. Holder will be allowed as a credit against the U.S. Holder’s U.S. federal income tax liability and may entitle it to a refund, provided that the required information is timely furnished to the IRS.





10.F. Dividends and Paying Agents





See “Item 8. Financial Information – 8.A.8. Dividends and Dividend Policy” for information concerning our dividend policies and our payment of dividends. See “Item 10. Additional Information - 10.B. Memorandum and Articles of Association” for a discussion of the process by which dividends are paid on our common shares.





10.G. Statement by Experts





Not applicable.





10.H. Documents on Display





It is possible to read and copy documents referred to in this annual report on Form 20-F that have been filed with the SEC at the SEC’s public reference rooms in Washington, D.C., New York and Chicago, Illinois. Please call the SEC at 1-800-SEC-0330 for further information on the reference rooms.





10.I. Subsidiary Information





Not applicable.





ITEM 11. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK





Foreign Exchange Risk





Substantially all of our revenues and expenses are denominated in Renminbi. Our exposure to foreign exchange risk primarily relates to our cash and cash equivalents denominated in U.S. dollars as a result of the proceeds from our initial public offering. We do not believe that we currently have any significant direct foreign exchange risk and have not hedged exposures denominated in foreign currencies or any other derivative financial instruments. Although in general our exposure to foreign exchange risks is limited, the value of your investment in our ADSs will





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be affected by the foreign exchange rate between U.S. dollars and Renminbi because the value of our business is effectively denominated in Renminbi, while the ADSs will be traded in U.S. dollars.





The value of the Renminbi against the U.S. dollar and other currencies is affected by, among other things, changes in the political and economic conditions and foreign exchange policies of China. In July 2005, the PRC government changed its decade-old policy of pegging the value of the Renminbi to the U.S. dollar. However, the People’s Bank of China regularly intervenes in the foreign exchange market to limit fluctuations in Renminbi exchange rates and achieve policy goals. Following the removal of the U.S. dollar peg, the Renminbi appreciated more than 20% against the U.S. dollar over the following three years. Since July 2008, however, the Renminbi has traded within a narrow range against the U.S. dollar. As a consequence, the Renminbi has fluctuated significantly since July 2008 against other freely traded currencies, in tandem with the U.S. dollar. It is difficult to predict how long the current situation may last and when and how Renminbi exchange rates may change going forward.





Interest Rate Risk




Our exposure to interest rate risk primarily relates to the interest rates for our outstanding debt and the interest income generated by excess cash, which is mostly held in interest-bearing bank deposits and pledged fixed deposits.
  As of December 31, 2014, our total outstanding bank borrowings, consisting of short-term loans and credit facilities, amounted to RMB122.1 million (US$19.7 million) with interest rates varying from 6.06% to 9.60%. Assuming the principal amount of the outstanding loans remains the same as of December 31, 2014, a 1% increase in each applicable interest rate would add RMB1.2 million (US$0.2 million) to our interest expense in 2014.We have not used any derivative financial instruments to manage our interest risk exposure.
 
 Interest-earning instruments carry a degree of interest rate risk. We had bank balances, consisting of cash at bank of RMB1,304.1 million (US$201.2 million) as of December 31, 2014. Bank interest income was RMB7.9 million (US$1.3 million) in 2014.We have not been exposed, nor do we anticipate being exposed, to material risks due to changes in market interest rates. However, our future interest income may be lower than expected due to changes in market interest rates.




Inflation





Inflation in China has not materially impacted our results of operations in recent years. However, China has recently experienced a significant increase in inflation levels, which may materially impact our results of operations. According to the National Bureau of Statistics of China, the consumer price index in China increased by 2.6%, 2.6% and 2.0% in 2012, 2013 and 2014, respectively.





ITEM 12. DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES





12.A. Debt Securities





Not applicable.





12.B. Warrants and Rights





Not applicable.





12.C. Other Securities





Not applicable.





12.D. American Depositary Shares





Fees and Charges Payable by ADS Holders





To any person to whom ADSs are issued or to whom a distribution is made in respect of ADS distributions pursuant to stock dividends or other free distributions of stock, bonus distributions, stock splits, rights distributions or other distributions, and for each surrender of ADSs for cancellation and withdrawal of deposited securities including cash distributions made pursuant to a cancellation or withdrawal, the fee in each case is a fee not in excess





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of $5.00 for each 100 ADSs, or any portion thereof, issued or surrendered. The depositary also charges a fee not in excess of $2.00 per 100 ADSs for distribution of cash proceeds pursuant to a cash dividend (so long as the charging of such fee is not prohibited by any exchange upon which the ADSs are listed), sale of rights and other entitlements not made pursuant to a cancellation or withdrawal or otherwise. The depositary may also charge an annual fee of $0.02 or less per ADS for the operation and maintenance costs in administering the facility, provided, however, that if the depositary imposes such fee, such fee, combined with any fee imposed for the distribution of cash proceeds pursuant to a cash dividend, shall not exceed $0.02 per ADS in any calendar year. In addition, holders, beneficial owners, persons depositing shares and persons surrendering ADSs for cancellation and withdrawal of deposited securities will be required to pay the following:





•
taxes and other governmental charges incurred by the depositary or the custodian on any ADSs or underlying shares, including any applicable interest and penalties thereon, and any stock transfer or other taxes and other governmental charges;





•
cable, telex, facsimile and electronic transmission and delivery expenses;





•
transfer or registration fees for the registration of transfer of shares or other deposited securities with any applicable registrar in connection with the deposit or withdrawal of deposited securities and transfer of shares or other deposited securities to or from the name of the custodian, the depositary or any nominees upon the making of deposits and withdrawals;





•
expenses and charges of the depositary in connection with the conversion of foreign currency into U.S. dollars;





•
fees and expenses incurred by the depositary in connection with compliance with exchange control regulations and other regulatory requirements applicable to the shares, deposited securities, ADSs and ADRs;





•
fees and expenses incurred by the depositary in connection with the delivery of the deposited securities, including any fees of a central depository for securities in the local market, where applicable; and





•
any other additional fees, charges, costs or expenses that may be incurred by the depositary from time to time.





In the case of cash distributions, fees and charges of, and expenses incurred by, the depositary and taxes, duties or other governmental charges required to be withheld by the depositary, the custodian or our company are generally deducted from the cash being distributed. Service fees may be collected from holders of ADSs in a manner determined by the depositary with respect to ADSs registered in the name of investors (whether certificated or in book-entry form) and ADSs held in brokerage and custodian accounts (via DTC). In the case of distributions other than cash (i.e., stock dividends, rights, etc.), the depositary charges the applicable ADS record date holder concurrent with the distribution. In the case of ADSs registered in the name of the investor (whether certificated or in book-entry form), the depositary sends invoices to the applicable record date ADS holders.





In the case of ADSs held in brokerage and custodian accounts (via DTC), the depositary may, if permitted by the settlement systems provided by DTC, collect the fees through such settlement systems (whose nominee is the registered holder of the ADSs held in DTC) from the brokers and custodians holding ADSs in their DTC accounts. The brokers and custodians who hold their clients’ ADSs in DTC accounts in such case may in turn charge their clients’ accounts the amount of the service fees paid to the depositary.





If any tax or other governmental charge shall become payable by the depositary or the custodian with respect to any ADSs, ADRs or deposited securities, such tax or other governmental charge shall be payable by the holders and beneficial owners of ADSs to the depositary. The depositary, the custodian or our company may withhold or deduct from any distributions made in respect of deposited securities and may sell, by public or private sale, for the account of the holder and/or beneficial owner any or all of the deposited securities and apply such distributions and sale proceeds in payment of such taxes (including applicable interest and penalties) or charges, with the holder and the beneficial owner thereof remaining fully liable for any deficiency. The custodian may refuse the deposit of shares, and the depositary may refuse to issue ADSs, to deliver ADRs, register the transfer, split-up or combination of





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ADSs and the withdrawal of deposited securities, until payment in full of such tax, charge, penalty or interest is received.





Fees and Other Payments from the Depositary to Us





The depositary may reimburse us for certain expenses incurred by us in respect of investor relationship programs and other programs related to our ADR facility established pursuant to the deposit agreement. As of the date of this annual report on Form 20-F, we had not received payment from the depositary relating to the ADR program.








PART II




ITEM 13. DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES





Not applicable.





ITEM 14. MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS





Material Modifications to the Rights of Security Holders





See “Item 10. Additional Information” for a description of the rights of securities holders, which remain unchanged.





Use of Proceeds





The following use of proceeds information relates to our registration statement on Form F-1 (File No. 333-171534) filed by us in connection with our initial public offering. The registration statement, which became effective on January 4, 2011, registered 24,000,000 of our ordinary shares, represented by 6,000,000 ADSs, the aggregate offering price of which was US$42.0 million. The offering was terminated after all of the registered securities were sold.





Cowen and Company, LLC acted as the representative of the underwriters.





The amount of expenses incurred by us in connection with the issuance and distribution of the registered securities totaled approximately US$5.2 million, which consisted of approximately US$2.9 million for underwriting discounts and approximately US$2.3 million for other expenses. The net proceeds from our initial public offering to us, after deduction of fees and expenses, were approximately US$36.8 million. As of December 31, 2014, all of the net proceeds from our initial public offering had been used for general corporate purposes.





None of the payments described in this Item were direct or indirect payments to our directors, officers, general partners or their associates, or any persons owning 10% or more of our ordinary shares, or our affiliates.





We are continuously examining opportunities to expand our business through merger and acquisitions, organic growth and strategic alliance with our business partners, and anticipate that the remaining amount of the net proceeds from our initial public offering may be used for such purposes.





ITEM 15. CONTROLS AND PROCEDURES





Evaluation of Disclosure Controls and Procedures




Our chief executive officer and acting chief financial officer, after evaluating the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Exchange Act) as of the end of the period covered by this report, have concluded that based on the evaluation of these controls and procedures required by Rule 13a-15(b) of the Exchange Act, our disclosure controls and procedures were not effective due to the material weakness identified as discussed in Management’s Annual Report on Internal Control over Financial Reporting below.





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Management’s Annual Report on Internal Control over Financial Reporting





Management is responsible for establishing and maintaining adequate internal control over financial reporting for our company and its subsidiaries as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act. Our internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of our financial reporting and the preparation of financial statements for external purposes in accordance with International Financial Reporting Standards as issued by the International Accounting Standards Board. Our internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of our assets; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of management; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of our assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.





Under the supervision of our chief executive officer and acting chief financial officer, management conducted an assessment of the effectiveness of our internal control over financial reporting based upon criteria established by the Committee of Sponsoring Organizations of the Treadway Commission in InternalControl—IntegratedFramework. Based on this assessment, management determined that our internal control over financial reporting was not effective as of December 31, 2014, as a result of a material weakness identified relating to the lack of competent personnel to prepare our consolidated financial statements under IFRS. T he Company’s former chief financial officer resigned in February 2014 and the Company has not hired a replacement chief financial officer as of the date of this annual report on Form 20-F. We are in the process of hiring a replacement chief financial officer and estimate the chief financial officer will be on board in the second half of 2015. A material weakness is a deficiency or a combination of deficiencies in internal control over financial reporting such that there is a reasonable possibility that a material misstatement of our annual or interim financial statements will not be prevented or detected on a timely basis. Notwithstanding the assessment that our internal control over financial reporting was not effective as of December 31, 2014 and that there was a material weakness identified in this annual report on Form 20-F, we believe that our consolidated financial statements contained in this annual report on Form 20-F for the year ended December 31, 2014 fairly present our financial position, results of operations and cash flows for the years covered thereby in all material respects.


Attestation Report of the Registered Public Accounting Firm





Not applicable.





Changes in Internal Control over Financial Reporting





During the year ended December 31, 2014, other than the material weakness described above,no change in our internal control over financial reporting has occurred that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.





ITEM 16A. AUDIT COMMITTEE FINANCIAL EXPERT





Our board of directors has determined that Frank Zhao is an audit committee financial expert, as that term is defined in Item 16A(b) of Form 20-F, and is independent for the purposes of NYSE corporate governance rules and Rule 10A-3 of the Exchange Act.





ITEM 16B. CODE OF ETHICS





Our board of directors has adopted a code of business conduct and ethics that applies to our directors, officers and employees, including our principal executive officer, principal financial officer, principal accounting officer or controller and any other persons who perform similar functions for us. We have filed the code of business conduct and ethics as an exhibit to this annual report on Form 20-F.





ITEM 16C. PRINCIPAL ACCOUNTANT FEES AND SERVICES





We have appointed GHP Horwath, P.C. as our independent registered public accounting firm for each of the years ended December 31, 2012, 2013and 2014. The following is a summary of the fees billed by GHP Horwath, P.C. for professional services rendered for the years ended December 31, 2012, 2013 and 2014:






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Year Ended December 31,2012


2013


2014US$Auditfees(1)


230,000



234,400



234,400Audit-relatedfee(2)


4,000



—



—Taxfees(3)


—



—



—Allotherfees(4)


—



—



—Total


234,000



234,400



234,400


(1)
Audit fees consisted of fees billed for professional services rendered by the principal accountant for the audit of our annual financial statements or services that are normally provided by the accountant in connection with statutory and regulatory filings or engagements.


(2)
Audit-related fees consisted of fees billed for assurance and related services by the principal accountant that were reasonably related to the performance of the audit or review of our financial statements and are not reported under Note (1) above.


(3)
Tax fees consisted of fees billed for professional services rendered by the principal accountant for tax compliance, tax advice, and tax planning.


(4)
All other fees consisted of fees billed for products and services provided by the principal accountant, other than the services reported above under other captions in the above table.





Audit Committee’s Pre-approval Policies and Procedures





The audit committee of our board of directors is responsible for the appointment, compensation, retention and oversight of the work of any accounting firm engaged for the purpose of preparing or issuing an audit report or performing other audit, review or attest services for our company. Pursuant to our audit committee charter, the audit committee has the authority and responsibility to appoint, retain and terminate our independent auditors (subject, if applicable, to shareholder approval), and has sole authority to approve all audit engagement fees and terms. The audit committee has the power to pre-approve the audit services and non-audit services to be provided by our independent auditor before the auditor is engaged to render such services pursuant to pre-approval policies and procedures established by the audit committee. The audit committee may delegate its authority to pre-approve services to the chairman of the audit committee, provided that such designee presents any such approvals to the full audit


committee at the next audit committee meeting. All of the audit and non-audit services provided by GHP Horwath, P.C. to us were pre-approved by our audit committee.





ITEM 16D. EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES





Not applicable.





ITEM 16E. PURCHASES OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS





None.





ITEM 16F. CHANGE IN REGISTRANT’S CERTIFYING ACCOUNTANT





Not applicable.





ITEM 16G. CORPORATE GOVERNANCE





We follow the same corporate governance practices that are followed by the U.S. companies set forth by the NYSE Listing Rules.





ITEM 16H. MINE SAFETY DISCLOSURE





Not applicable.





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PART III





ITEM 17. FINANCIAL STATEMENTS





We have elected to provide financial statements for fiscal year 2014 and the related information pursuant to Item 18.





ITEM 18. FINANCIAL STATEMENTS





Our consolidated financial statements and the report thereon by the independent auditors listed below are attached hereto as follows:




(a)  Report of Independent Registered Public Accounting Firm dated May 15, 2015.




(b)  Consolidated Statements of Comprehensive Income for the years ended December 31, 2012, 2013 and 2014.




(c)  Consolidated Statement of Financial Position as of December 31, 2012, 2013 and 2014.




(d)  Consolidated Statements of Changes in Equity for the years ended December 31, 2012, 2013 and 2014.




(e)  Consolidated Statements of Cash Flows for the years ended December 31, 2012, 2013 and 2014.




(f)   Notes to Consolidated Financial Statements.





ITEM 19. EXHIBITS





ExhibitNumber
DescriptionofDocument1.1
Amended and Restated Memorandum and Articles of Association (incorporated by reference to Exhibit 3.2 to our Registration Statement on Form F-1 (file no. 333-171534) filed with the SEC on January 4, 2011).2.1
Specimen Certificate for Ordinary Shares (incorporated by reference to Exhibit 4.2 to our Registration Statement on Form F-1 (file no. 333-171534) filed with the SEC on January 4, 2011).2.2
Specimen American Depositary Receipt (incorporated by reference to Exhibit 4.1 to our Registration Statement on Form F-1 (file no. 333-171534) filed with the SEC on January 4, 2011).2.3
Form of Deposit Agreement (incorporated by reference to Exhibit 4.3 to our Registration Statement on Form F-1 (file no. 333-171534) filed with the SEC on January 4, 2011).4.1
2010 Equity Incentive Plan (incorporated by reference to Exhibit 10.2 to our Registration Statement on Form F-1 (file no. 333-171534) filed with the SEC on January 4, 2011).4.2
Form of Restricted Share Award Agreement (incorporated by reference to Exhibit 10.17 to our Registration Statement on Form F-1 (file no. 333-171534) filed with the SEC on January 4, 2011).4.3
Form of Indemnification Agreement with Directors (incorporated by reference to Exhibit 10.3 to our Registration Statement on FormF-1 (file no. 333-171534) filed with the SEC on January 4, 2011).4.4
Form of Employment Agreement with Executive Officers (incorporated by reference to Exhibit 10.4 to our Registration Statement on Form F-1 (file no. 333-171534) filed with the SEC on January 4, 2011).4.5
English translation of form of Distribution Agreement between Shishi Zuoan and major distributors (incorporated by reference to Exhibit 10.1 to our Registration Statement on Form F-1 (file no. 333-171534) filed with the SEC on January 4, 2011).





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ExhibitNumber
DescriptionofDocument4.6
English translation of Supplemental Agreement dated July 1, 2008 to Real Estate Transfer Agreement dated June 25, 2006 betweenShishi Zuoan and Fujian Aidu (incorporated by reference to Exhibit 10.8 to our Registration Statement on Form F-1 (file no. 333-171534) filed with the SEC on January 4, 2011).8.1*
List of Subsidiaries.11.1
Code of Business Conduct and Ethics (incorporated by reference to Exhibit 99.1 to our Registration Statement on Form F-1 (file no.333-171534) filed with the SEC on January 4, 2011).12.1*
Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.12.2*
Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.13.1*
Certifications pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.15.1*
Consent of Independent Registered Public Accounting Firm.





*
Filed herewith.





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SIGNATURES





Pursuant to the requirements of Section 12 of the Securities Exchange Act of 1934, the registrant certifies that it meets all of the requirements for filing on Form 20-F and has duly caused this annual report on Form 20-F to be signed on its behalf by the undersigned, thereunto duly authorized.





ZUOAN FASHION LIMITEDBy:
/s/JamesJinshanHongName:
James Jinshan HongTitle:
Chairman, Chief Executive Officer and Acting Chief Financial Officer




Date: May 15, 2015





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ZUOAN FASHIONLIMITEDAND SUBSIDIARIES
 CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND 2014
 
  
 Index Page
 
 
 Report of Independent Registered Public Accounting Firm
F-1Consolidated Statements of Comprehensive Income
F-2Consolidated Statements of Financial Position
F-3Consolidated Statements of Changes in Equity
F-4Consolidated Statements of Cash Flows
F-5 - F-6Notes to the Consolidated Financial Statements
F-7 - F-37
 Table of Contents
  
 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
  
 Board of Directors and Shareholders
 Zuoan Fashion Limited and subsidiaries
 
 We have audited the accompanying consolidated statements of financial position of Zuoan Fashion Limited and subsidiaries (‘‘the Company’’) as of December 31, 2012, 2013 and 2014, and the related consolidated statements of comprehensive income, changes in equity, and cash flows for each of the three years in the period ended December 31, 2014. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
  We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
  In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Zuoan Fashion Limited and subsidiaries as of December 31, 2012, 2013 and 2014, and the results of their operations and cash flows for each of the three years in the period ended December 31, 2014 in conformity with International Financial Reporting Standards as issued by the International Accounting Standards Board.
  
  /s/GHP HORWATH, P.C.
  Denver, Colorado
 May 15, 2015
 
 F-1
 Table of Contents
 
 
 ZUOAN FASHION LIMITED AND SUBSIDIARIES
 CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
 (EXPRESSED IN THOUSANDS OF CHINESE RENMINBI YUAN,
 EXCEPT PER SHARE AMOUNTS)
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND 2014
 
 
 Notes


2012


2013


2014Revenues





1,427,367



1,252,146



949,153Cost of sales





(759,285
)


(713,891
)


(663,182
)Loss on inventory buyback


10



-



-



(19,856
)Gross profit






668,082



538,255



266,115Other income


4



5,604



5,462



7,974Selling and distribution expenses






(199,152
)


(240,972
)


(207,849
)Administrative expenses






(70,680
)


(54,700
)


(51,230
)Finance costs






(6,244
)


(10,680
)


(11,067
)Profit before taxation


5



397,610



237,365



3,943Income tax expense


6



(102,230
)


(61,924
)


(3,820
)Profit  after taxation






295,380



175,441



123Other comprehensive (loss)/income:Foreign exchange difference arising fromtranslation  of foreign currency financialfinancial statements






(665
)


(3,574
)


796Total comprehensive income for the year






294,715



171,867



919Earnings per share (RMB)-Basic


8



2.65



1.58



0.001-Diluted


8



2.65



1.58



0.001
  The annexed notes form an integral part of and should be read in conjunction with the consolidated financial statements.
  F-2
 Table of Contents
  ZUOAN FASHION LIMITED AND SUBSIDIARIES
 CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
 (EXPRESSED IN THOUSANDS OF CHINESE RENMINBI YUAN,
 EXCEPT PER SHARE AMOUNTS)
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND 2014
 Notes


2012


2013


2014ASSETSNon-current assetsProperty, plant and equipment


9



4,658



17,377



4,827Current assetsInventories


10



24,340



24,629



29,556Trade and other receivables


11



608,466



450,983



381,026Prepayments


12



100



94



-Fixed deposits – pledged


13



9,619



41,800



15,830Cash and cash equivalents


14



918,451



1,227,402



1,304,1001,560,976



1,744,908



1,730,512Total assets






1,565,634



1,762,285



1,735,339EQUITY AND LIABILITIESShare capital


17



185



185



185Share premium


18



426,165



426,165



426,165Reserves


18



48,922



49,165



50,260Retained profits






834,091



1,007,517



973,011Total equity






1,309,363



1,483,032



1,449,621LiabilitiesCurrent liabilitiesTrade and other payables


15



103,841



124,398



163,214Interest-bearing bank borrowings


16



128,250



149,550



122,110Income tax payable






24,180



5,305



394Total liabilities






256,271



279,253



285,718Total equity and liabilities






1,565,634



1,762,285



1,735,339
 
 
 The annexed notes form an integral part of and should be read in conjunction with the consolidated financial statements.
  F-3
 Table of Contents
  ZUOAN FASHION LIMITED AND SUBSIDIARIES
 CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY
 (EXPRESSED IN THOUSANDS OF CHINESE RENMINBI YUAN,
 EXCEPT FOR NUMBER OF SHARES)
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014
  
 Attributable to the Company's equity holdersNumber











Equity-

settled

Employees


Currencyof shares


Share


Share


Statutory


Benefit


Translation


Retained


TotalNotes


(in thousands)


Capital


Premium


Reserve


Reserves


Reserve


Profits


EquityBalance at January 1, 2012





111,276



185



426,165



49,422



1,556



(3,235
)


538,711



1,012,804Recognition of share-based payments


26



-



-



-



-



1,844



-



-



1,844Total comprehensive incomefor the year






-



-



-



-



-



(665
)


295,380



294,715Transfer to statutory reserve






-



-



-



-



-



-



-



-Balance at December 31, 2012






111,276



185



426,165



49,422



3,400



(3,900
)


834,091



1,309,363Recognition of share-based payments


26



-



-



-



-



1,802



-



-



1,802Total comprehensive incomefor the year






-



-



-



-



-



(3,574
)


175,441



171,867Transfer to statutory reserve






-



-



-



2,015



-



-



(2,015
)


-Balance at December 31, 2013






111,276



185



426,165



51,437



5,202



(7,474
)


1,007,517



1,483,032Recognition of share-based payments


26



-



-



-



-



299



-



-



299Total comprehensive incomefor the year






-



-



-



-



-



796



123



919Dividend paid


7



-



-



-



-



-



-



(34,629
)


(34,629
)Balance at December 31, 2014






111,276



185



426,165



51,437



5,501



(6,678
)


973,011



1,449,621
 
 The annexed notes form an integral part of and should be read in conjunction with the consolidated financial statements.
  F-4
 Table of Contents
  ZUOAN FASHION LIMITED AND SUBSIDIARIES
 
 CONSOLIDATED STATEMENTS OF CASH FLOWS
 (EXPRESSED IN THOUSANDS OF CHINESE RENMINBI YUAN)
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014
 
 
 Notes


2012


2013


2014Cash flows from operating activitiesProfit before taxation





397,610



237,365



3,943Adjustments for:Depreciation of property, plant and equipment


5



6,961



9,698



12,170Loss on disposal of property, plant andequipment


5, 9



14,842



273



827Loss on inventory buyback


10



-



-



19,856Provision for slow moving inventory


10



-



-



4,600Equity-settled employee benefit costs


26



1,844



1,802



299Interest expense on bank borrowings






6,244



10,680



11,067Interest income


4



(3,341
)


(5,462
)


(7,867
)Operating profit before working capital changes






424,160



254,356



44,895Decrease/(increase) in inventories






1,742



(289
)


(29,382
)(Increase)/decrease in trade and other receivables






(161,569
)


157,483



76,168Decrease in prepayments






123



6



94(Increase)/decrease in fixed deposits pledged






(7,949
)


(32,181
)


25,970Increase in trade and other payables






33,081



20,557



38,816Cash generated from operations






289,588



399,932



156,561Interest paid






(6,244
)


(10,680
)


(11,067
)Income tax paid






(102,376
)


(80,799
)


(14,943
)Net cash generated from operating activities






180,968



308,453



130,551Cash flows from investing activitiesAcquisition of property, plant and equipment






(9,023
)


(22,690
)


(447
)Proceeds from disposals of property, plant and equipment






73



-



-Interest received






3,341



5,462



7,867Net cash (used in)/generated from investing activities






(5,609
)


(17,228
)


7,420
  The annexed notes form an integral part of and should be read in conjunction with the consolidated financial statements.
  F-5
 Table of Contents
  ZUOAN FASHION LIMITED AND SUBSIDIARIES
 
 CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
 (EXPRESSED IN THOUSANDS OF CHINESE RENMINBI YUAN)
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014
 
 
 Notes

2012


2013


2014Cash flows from financing activitiesBank loans obtained



165,750



233,200



200,420Repayment of bank loans



(112,450
)


(211,900
)


(227,860
)Dividend paid



-



-



(34,629
)Net cash generated from/(used in) financing activities



53,300



21,300



(62,069
)Net increase in cash and cash equivalents



228,659



312,525



75,902Exchange difference



(665
)


(3,574
)


796Cash and cash equivalents at beginning of the year



690,457



918,451



1,227,402Cash and cash equivalents at end of the year



918,451



1,227,402



1,304,100
 
 The annexed notes form an integral part of and should be read in conjunction with the consolidated financial statements.
   F-6
 Table of Contents
 ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014
  
 1.
ORGANIZATION AND PRINCIPAL ACTIVITIES
 
 Zuoan Fashion Limited (the “Company”), together with its subsidiaries, is a designer, distributer and retailer of men’s apparel in the People’s Republic of China (“PRC”) through a network of authorized retail outlets owned and managed by distributors and authorized retailers. The Company was incorporated under the laws of Cayman Islands in August 2010 and is listed on the New York Stock Exchange.  The following are the Company’s subsidiaries as of December 31, 2014:
 
 Fast Boost Holdings Limited (“Fast Boost”), a wholly owned subsidiary of the Company, was incorporated in British Virgin Island (“BVI”) in 2008.
 
 Champion Goal Holdings Limited (“Champion Goal”), a wholly owned subsidiary of Fast Boost, was incorporated in Hong Kong in 2008.
 
 Shishi Zuoan Dress Co., Limited (“Shishi Zuoan”), a wholly owned subsidiary of Champion Goal, was incorporated in PRC in 2002 as a designer, distributer and retailer of men’s apparel with its own branding “Zuoan”.
 
 Shanghai Mingfu Fashion Limited (“Shanghai Mingfu”), a wholly owned subsidiary of Shishi Zuoan, was incorporated in PRC in 2010.
 
 The financial statements for the three years ended December 31, 2012, 2013 and 2014 were authorized for issue by resolution of the board of directors on May 15, 2015. The principal place of business of the Company is located at Building 1, Lane 618, Dingyan Road, Songjiang District, Shanghai 201616, PRC. All of the Company’s customers are located in the PRC.
  F-7
 Table of Contents
 
  2.
BASIS OF PRESENTATION
 
 Statement of compliance
 
 The Consolidated Financial Statements are prepared in accordance with International Financial Reporting Standards (“IFRSs”) as issued by the International Accounting Standards Board (“IASB”), which have been consistently applied. The consolidated financial statements have been prepared on the historical cost and accrual basis. The consolidated financial statements of the Company are presented in Chinese Renminbi Yuan (“RMB”).
 
 Recently issued IFRSs
 
 (a) New and amended standards adopted by the Company
 
 The Company reviews new accounting standards as issued. Management has not identified any new IFRSs or related interpretations that were effective for the first time for the financial year beginning on or after January 1, 2014 that had a material impact on the Company’s consolidated financial statements.
  (b) New standards, amendments and interpretations issued but not effective for the financial year beginning January 1, 2014 and not early adopted
 
 There are no other IFRSs or related interpretations that are not yet effective that would be expected to have a material impact on the Company’s consolidated financial statements.
   F-8
 Table of Contents
 
 ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014
  3.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 
 (a)      Consolidation
 
 Subsidiaries are all entities over which the Company has the power to govern the financial and operating policies. Subsidiaries are fully consolidated from the date on which control is transferred to the Company. They are de-consolidated from the date that control ceases.
 
 Inter-company transactions, balances, income and expenses on transactions between the Company’s entities are eliminated. Profits and losses resulting from inter-company transactions that are recognized in assets are also eliminated. Accounting policies of subsidiaries have been changed where necessary to ensure consistency with the policies adopted by the Company.
 
 IFRS 10, Consolidated Financial Statements, builds on existing principles by identifying the concept of control as the determining factor in whether an entity should be included within the consolidated financial statements of the parent company. The standard provides additional guidance to assist in the determination of control where this is difficult to assess. Specifically, the Company evaluated its agreements and relationships with its distributors and determined that, in the context of IFRS 10, the Company does not have control over its distributors through either (a) power over the distributor (b) exposure or rights, to variable returns from involvement with the distributor; or (c) the ability to use power over the distributor to affect the amount of the distributors returns. The rights and obligations under the distributor agreements allow the Company to manage and protect certain operational and display issues related to the Company’s brand and do not provide control, as defined in IFRS 10, over the distributors.
 
 (b)      Property, plant and equipment
 
 Property, plant and equipment are stated at cost less accumulated depreciation.  The cost of an asset comprises its purchase price and any directly attributable costs of bringing the asset to the working condition and location for its intended use.  Expenditures incurred after property, plant and equipment have been put into operation, such as repairs and maintenance, is normally expensed in the period in which it is incurred.  In situations where it can be clearly demonstrated that the expenditure has resulted in an increase in the future economic benefits expected to be obtained from the use of the property, plant and equipment, and the expenditure of the item can be measured reliably, the expenditure is capitalized as an additional cost of that asset.
 
 Depreciation is calculated on a straight-line basis to write off the cost of property, plant and equipment, less any estimated residual values, over the following estimated useful lives:
 
 Plant and machinery
5-8 yearsMotor vehicles
8 yearsOffice equipment
5 yearsLeasehold improvements
1-3 years
  F-9
 Table of Contents
 ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014
 3.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
 
 (b)      Property, plant and equipment (continued)
 
 The gain or loss on disposal or retirement of an item of property, plant and equipment recognized in the profit or loss is the difference between the net sales proceeds and the carrying amount of the asset.
 
 (c)
Impairment of non-financial assets
 
 An assessment is made at each balance sheet date of whether there is any indication of impairment of the Company's property, plant and equipment, or whether there is any indication that an impairment loss previously recognized for an asset in prior years may no longer exist or may have decreased.  If any such indication exists, the asset's recoverable amount is estimated.  An asset's recoverable amount is calculated as the higher of the asset's value in use or its net selling price.
 
 An impairment loss is recognized only if the carrying amount of an asset exceeds its recoverable amount.  An impairment loss is expensed in the period in which it arises.
 
 A previously recognized impairment loss is reversed only if there has been a change in the estimates used to determine the recoverable amount of an asset, however not to an amount higher than the carrying amount that would have been determined had no impairment loss been recognized for the asset in prior years.
 
 A reversal of an impairment loss is credited to the profit or loss in the period in which it arises. There were no impairment losses or recoveries recorded during the years ended December 31, 2012, 2013 and 2014.
 
 (d)
Trade receivables
 
 Trade receivables are measured on initial recognition at fair value, and subsequently measured at amortized cost using the effective interest rate method, except when the effect of discounting would be immaterial. Appropriate allowances for estimated doubtful accounts are recognized in profit or loss when there is objective evidence that the asset is impaired. The allowance recognized is measured as the difference between the asset's carrying amount and the present value of estimated future cash flows discounted at the effective interest rate computed at initial recognition. No allowance was recognised as December 31, 2012, 2013 and 2014. Trade receivables from the Company’s five largest customers represented 57%, 59% and 56% of the Company’s trade receivables as of December 31, 2012, 2013 and 2014, respectively.
 
 (e)
Cash and cash equivalents
 
 Cash and cash equivalents consist of cash on hand, demand deposits at banks and cash equivalents with maturities of three months or less.  For purposes of the cash flow statement, fixed deposits pledged as collateral for bills payable are reflected as an operating activity.
  F-10
 Table of Contents
 ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014
 3.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
 
 (f)
Financial liabilities
 
 The Company’s financial liabilities which include trade payables, other payables and bank borrowings are initially measured on initial recognition at fair value, and subsequently measured at amortized cost, using the effective interest rate method, unless the effect of discounting would be immaterial. In such cases, they are stated at cost. Trade payables generally have credit terms of 60 days.
 
 (g)
Inventories
 
 Inventories are stated at the lower of cost or net realizable value.  Costs are determined using the weighted average method, and in the case of work-in-progress and finished goods, costs are comprised of direct material, direct labour and those overhead costs that have been incurred in bringing the inventories to their present location and condition.  Net realizable value is calculated as the actual or estimated selling price less all further costs of completion and the estimated costs necessary to make the sale.
 
 (h)
Provisions
 
 Provisions are recognized when it is probable that the present obligations will lead to an outflow of resources which can be estimated reliably. The timing or amount of the outflow may still be uncertain. A present obligation arises from the presence of a legal or constructive agreement that has resulted from past events.
 
 Provisions are measured at the estimated expenditure required to settle the present obligation, based on the most reliable evidence available at the end of each reporting period, including the risks and uncertainties associated with the present obligation. Any reimbursement expected to be received in the course of settlement of the present obligation is recognized as a separate asset, not exceeding the amount of the related provision. Where there are a number of similar obligations, the likelihood that an outflow will be required in settlement is determined by considering the class of obligations as a whole. In addition, long term provisions are discounted to their present values where time value of money is material.
 
 In cases where the possible outflow of economic resources as a result of present obligations is considered improbable or remote, or the amount to be provided for cannot be measured reliably, no contingent liability is recognized.
 
 F-11
 Table of Contents
 ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014
 3.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued):
 
 (i)
Revenue and cost recognition
 
 The Company recognizes revenue when the amount of revenue can be reliably measured, it is probable that future economic benefits will flow to the entity and when specific criteria have been met for each of the Company’s activities as described below.
 
 (1)      Sales of goods - distributors and department stores
 
 The Company primarily outsources the production of a range of menswear products and sells through distributors and department stores.  Revenues are recognized upon delivery of products to distributors and department stores, and when there is no unfulfilled obligation that could affect distributor and department store acceptance of products.  Delivery does not occur until the products have been delivered to the specific location and the risk of loss has been transferred to distributors and department stores.  Shipping and handling costs are directly incurred and paid by the distributors.
 
 Revenues are recorded based on the price specified in the sales contracts, net of value-added tax, and sales rebates and returns estimated at the time of sale.  The Company accepts product returns from distributors and department stores for quality reasons and only if the distributors and department stores follow Company procedures in processing the returned products.  Accumulated experience is used to estimate and provide for returns.  Sales rebates are estimated based on anticipated annual purchases.  No element of financing is deemed present, as sales are made with a credit term of 120 days, which management believes is consistent with market practice.
 
 The following table summarizes the revenue percentages for each individual distributor that represented more than ten percent of the Company’s total revenue in 2012, 2013 and/or 2014.
 
 Distributors
2012
2013
2014A
10.2%
11.3%
10.8%B
14.1%
15.5%
13.1%C
10.4%
11.9%
11.7%D
6.7%
12.2%
9.9%




F-12
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


3.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)





(i)
Revenue and cost recognition (continued)





(2)     Sales of goods – retail





The Company began operating flagship stores in 2011. Revenues from retail store sales are recognized at the point of sale. In 2012, 2013 and 2014, retail sales were approximately 6%, 1% and 1% of total revenues, respectively.





Retail sales returns within three days are accepted only for quality reasons.  Historic experience is used to estimate and provide for such returns at the time of sale.  The Company does not operate any retail customer loyalty programs.  Loyalty programs may be offered by distributors and department stores who bear all related program costs.





(3)      Cost of sales





Cost of sales include the direct raw material costs, direct labor costs, design costs and direct manufacturing overhead, which include depreciation of production equipment and rent. The Company outsources significant portion of its production to third-party contract manufacturers. Contract manufacturing costs represented 97%, 100% and 100% of the total cost of sales in 2012, 2013 and 2014, respectively. Purchases from the largest contract manufacturer represented 12%, 12% and 10% of the Company’s total cost of sales in 2012, 2013 and 2014, respectively.





Local transportation and unloading charges, and product inspection charges, are included in selling expenses and totalled approximately RMB330,000, RMB200,000 and RMB246,000, for the years ended December 31, 2012, 2013 and 2014, respectively.





(4)     Administrative expenses





Administrative expenses include costs such as administrative personnel payroll, employee benefits, equity-settled employees benefit expenses, legal and professional fees, depreciation charges, loss on disposal of property, plant and equipment, loss on disposal of scrap raw materials, research and development expenses, social security contributions, office rental, local tax and surcharges and other expenses.





F-13
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


3.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued):





(j)
Design and development costs





Design and development costs are expensed as incurred.





(k)
Income tax





Income tax for each year consists of current and deferred tax.





Current tax expense is the expected tax payable on the taxable income for the year using tax rates enacted at the statement of financial position date, and any adjustment to tax payable in respect of previous years. PRC corporate income tax is provided at rates applicable to an enterprise in the PRC on taxable profit.





Deferred tax is the tax expected to be payable or recoverable on differences between the carrying amounts of assets and liabilities in the consolidated financial statements and the corresponding tax bases used in the computation of taxable profit, and is accounted for using the balance sheet liability method.





Deferred tax liabilities are generally recognized for all taxable temporary differences, and deferred tax assets are recognized to the extent that it is probable that taxable profits will be available against which deductible temporary differences can be utilized. Such assets and liabilities are not recognized if the temporary difference arises from the initial recognition of assets and liabilities in a transaction that affects neither the tax profit nor the accounting profit.





The carrying amount of deferred tax assets is reviewed at the statement of financial position date and reduced to the extent that it is no longer probable that sufficient taxable profits will be available to allow all or part of the asset to be recovered.  Any such reduction is reversed to the extent that it becomes probable that sufficient taxable profit will be available.





Deferred tax is calculated at the tax rates that are expected to apply in the year when the liability is settled or the asset realised.  Deferred tax is charged or credited to profit or loss, except when it relates to items charged or credited directly to equity, in which case the deferred tax is also dealt with in equity.





F-14
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


3.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued):





(l)
Value Added Tax (VAT)





Sales of goods in the PRC are subject to VAT at 17% (Output VAT). Input VAT on purchases can be deducted from output VAT. The net amount of VAT recoverable from, or payable to, the taxation authority is included as part of “other receivables” or “other payables” in the statement of financial position.





Revenues, expenses and assets are recognized net of the amount of VAT except:





·
where the VAT incurred on the purchase of assets or services is not recoverable from the taxation authority, in which case the VAT is recognized as part of the cost of acquisition of the asset or as part of the expense item as applicable; and





·
receivables and payables are stated with the amount of VAT included.





(m)
Social benefits contributions





Pursuant to the relevant regulations of the PRC government, the Company participates in a local municipal government social benefits plan, whereby the subsidiary of the Company in the PRC is required to contribute a certain percentage of the basic salaries of its employees to fund their retirement benefits.  The local municipal government undertakes to assume the retirement benefits obligations of all existing and future retired employees of the subsidiary of the Company. The only obligation of the Company is to pay the ongoing required contributions.  Contributions are charged to expense as incurred. There are no provisions whereby forfeited contributions may be used to reduce future contributions. Amounts contributed during the years ended December 31, 2012, 2013 and 2014 are disclosed in Note 5.





(n)
Advertising expenses





Advertising expenses are included in selling and distribution expenses as incurred. The Company provided discretionary brand allowances to the distributors for their marketing efforts. The Company extended the allowances to the distributors for their marketing efforts, not greater than 3% of the distributors’ total purchases in the first half year of 2012 and not greater than 6% of the distributors’ total purchases since July 2012.





F-15
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


3.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued):





(o)
Functional currency





Items included in the consolidated financial statements of the Company are measured using the currency of the primary environment in which it operates (“the functional currency”). The Company’s principal operations are conducted in the PRC. Accordingly, the consolidated financial statements are presented in RMB. Transactions in currencies other than RMB are translated at the foreign exchange rate prevailing at the date of the transaction. Monetary assets and liabilities denominated in foreign currencies (primarily intercompany accounts) are translated to the functional currency (RMB) at the foreign exchange rate prevailing at the statement of financial position date. Non-monetary assets and liabilities that are measured in terms of historical cost in a foreign currency are translated using the exchange rate at the date of the transaction. Exchange differences recognized in earnings for the years ended December 31, 2012, 2013 and 2014 are minimal.





(p)
Operating leases





Leases where substantially all the risks and rewards of ownership of assets remain with the lessor are accounted for as operating leases. Annual rentals applicable to such operating leases are charged to expense on a straight-line basis over the lease terms except where an alternative basis is more representative of the pattern of benefits to be derived from the leased assets. Lease incentives received are recognized as an integral part of the aggregate net lease payments made. Contingent rentals are charged to expense in the accounting period in which they are incurred.





(q)
Segment reporting





An operating segment is a distinguishable component of the Company that engages in business activities from which it may earn revenues and incur expenses (including revenues and expenses relating to transactions with other components of the same entity), whose operating results are regularly reviewed by the entity’s Chief Operating Decision Maker to make decisions about resources to be allocated to the segment and assess its performance, and for which discrete financial information is available. The Company has only one operating segment through December 31, 2014.





F-16
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


3.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued):





(r)
Financial instruments





The Company evaluates financial instruments and other debt instruments according to the substance of the contractual agreements and in consideration of International Accounting Standards (“IAS”) No. 32, and No. 39.  These standards require the Company to make judgments about whether the elements of instruments require equity or liability treatment and also to evaluate if any element of the instrument, including embedded features, is a derivative.  The Company has determined that none of the Company’s financial instruments contain derivatives.





Disclosures on financial risk management are provided in Note 22.





(s)
Use of estimates





Preparation of the financial statements in conformity with IFRS requires the use of judgments, estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses for each period. Significant items related to such estimates are discussed at Note 27. Actual results could differ from those estimates.





4.
OTHER INCOME





An analysis of the Company’s other income is as follows:


2012


2013


2014RMB'000


RMB'000


RMB'000Interest income from banks


3,341



5,462



7,867Income received from depositary shares under reimbursement programme


2,263



-



-Foreign currency exchange gain


-



-



1075,604



5,462



7,974


The depositary may reimburse the Company for certain expenses in respect of investor relationship programs and other programs related to the Company’s ADR facility established pursuant to the depositary agreement. In December 2012, the Company received payment of approximately RMB2.3 million from the depositary relating to the ADR program, as certain requirements were met under the depositary agreement.




F-17
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


5.
NATURE OF EXPENSE INFORMATION





The Company presents its Statement of Comprehensive Income using the ‘‘expense by function’’ method of IAS No. 1. Following is supplemental information related to certain ‘‘nature of expense’’ items for the years ended December 31, 2012, 2013 and 2014.





2012


2013


2014RMB’000


RMB’000


RMB’000Cost of inventories recognized as expenses


750,263



713,891



658,582Provision for slow moving inventory


-



-



4,600Loss on inventory buyback


-



-



19,856Audit fee


1,504



1,513



1,490Depreciation of property, plant and equipment*


6,961



9,698



12,170Directors' remuneration- salaries and related cost


2,384



2,385



2,427- social benefits contribution


13



11



23Key management personnel (other thandirectors)- salaries and related cost


3,011



3,064



1,729- social benefits contribution


39



55



41Other than directors and key managementpersonnel- salaries and related cost


22,074



16,020



13,188- social benefits contribution


2,557



1,379



1,365Advertising expenses (included in selling and distribution expenses)


68,013



147,433



110,263Loss on disposal of property, plant and equipment


14,842



273



827Loss on disposal of scrap raw materials


1,300



-



-Operating lease expense


26,707



2,023



2,463Retail shop shelving expense


67,732



75,644



82,084Other expenses**


67,961



43,471



42,076




2012


2013


2014* Depreciation expense have been included in:

RMB'000


RMB'000


RMB'000Cost of sales


1



-



-Administrative expenses


1,488



8,474



11,184Selling and distribution expenses


5,472



1,224



9866,961



9,698



12,170


** Other expenses consist primarily of finance costs, equity-settled employees benefit costs, local tax and surcharges, professional, consulting, and advisory fees, research and development expenses and travel and entertainment expenses.





6.
INCOME TAX EXPENSE





2012


2013


2014RMB’000


RMB’000


RMB’000Current period provision:PRC income tax


102,230



61,924



3,820





F-18
 Table of Contents





ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014




6.
INCOME TAX EXPENSE (continued):





Reconciliation between income tax expense and profit before taxation at the applicable tax rates is as follows:





2012


2013


2014RMB'000


RMB'000


RMB'000Profit before taxation


397,610



237,365



3,943Add: Losses incurred in tax-exempt jurisdiction


8,589



8,920



6,290406,199



246,285



10,233Tax at the applicable tax rate of 25%


101,550



61,571



2,558Effects of:Income not taxable and other


-



(150
)


(252
)Increase in valuation allowance


-



-



1,150Expenses not deductible and other


639



577



494Different tax rates in different countries


41



(74
)


(130
)102,230



61,924



3,820





(a)
Pursuant to the rules and regulations of the Cayman Islands and BVI, the Company and Fast Boost are not subject to any income tax in the Cayman Islands and BVI, respectively.





(b)
In February 2008, the Hong Kong Government announced a decrease in the income tax rate from 17.5% to 16.5% applicable to the Company’s operations in Hong Kong, which is effective for the years ended December 31, 2012, 2013 and 2014. No provision was made for Hong Kong income tax as the Company did not earn any income subject to Hong Kong profits tax during the relevant periods.




(c)
PRC income tax - The Company is subject to PRC income tax on profit arising or derived from the tax jurisdiction in which the subsidiaries of the Company, Shishi Zuoan and Shanghai Mingfu, operate and are domiciled. The provision for the PRC income tax on profit arising from operations in the PRC is calculated based on a statutory income tax rate of 25% in accordance with the PRC relevant income tax rules and regulation for the years ended December 31, 2012, 2013 and 2014, respectively.
  (d)
The Company has provided a valuation allowance against all deferred tax assets which had total RMB 1,150,000 as of December 31, 2014.


7.
DIVIDENDS





No dividends were declared or paid for the years ended December 31, 2012 and 2013. On April 30, 2014, the Company’s board of directors declared a cash dividend of approximately US$5.6 million (RMB 34.6 million) representing US$0.05 per share, which was paid in 2014 to shareholders of record on May 16, 2014.





F-19
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


8.
EARNINGS PER SHARE





(a)
Basic earnings per share





Basic earnings per share is calculated by dividing the profit after taxation attributable to equity holders of the Company by the number of ordinary shares. The following table is in thousands of RMB, except per share amounts.





2012


2013


2014Profit attributable to equity holders of the Company (RMB’000)


295,380



175,441



123Number of ordinary shares (‘000)


111,276



111,276



111,276Weighted average number of shares


111,276



111,276



111,276Weighted average diluted number of shares


111,276



111,276



111,276Basic earnings per share (RMB)


2.65



1.58



0.001Diluted earnings per share (RMB)


2.65



1.58



0.001





From February 2011 to April 2015, each ADS represented four ordinary shares. After the reverse stock split on May 1, 2015, each ADS represents 16 ordinary shares from May 1, 2015 onwards. Earnings per ADS is calculated by dividing net income attributable to the equity holders of the Company by the weighted average number of ordinary shares outstanding during each of the periods reported and multiplying by 16.





(b)
Diluted earnings per share





For the purpose of calculating diluted earnings per share, profit attributable to equity holders of the Company and the outstanding ordinary shares are adjusted for the effects of all dilutive potential ordinary shares.  Dilutive potential ordinary shares shall be deemed to have been converted into ordinary shares at the beginning of the financial period or, if later, the date of the issue of the potential ordinary shares.





There were no dilutive potential ordinary shares outstanding during the years ended December 31, 2012, 2013 and 2014.





F-20
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


9.
PROPERTY, PLANT AND EQUIPMENT


Leasehold improvements


Plant and machinery


Office equipment


Motor vehicles


TotalRMB'000


RMB'000


RMB'000


RMB'000


RMB'000At January 1, 2012Cost


18,867



2,399



1,693



3,054



26,013Accumulated depreciation


(2,796
)


(2,342
)


(892
)


(2,472
)


(8,502
)Net book amount


16,071



57



801



582



17,511Year ended December 31, 2012Opening net book amount


16,071



57



801



582



17,511Additions


8,957



-



66



-



9,023Reclassification


-



(57
)


57



-



-Depreciation charge


(6,453
)


-



(305
)


(203
)


(6,961
)Disposal


(14,842
)


-



(73
)


-



(14,915
)Closing net book amount


3,733



-



546



379



4,658At December 31, 2012Cost


5,765



-



1,762



3,054



10,581Accumulated depreciation


(2,032
)


-



(1,216
)


(2,675
)


(5,923
)Net book amount


3,733



-



546



379



4,658Year ended December 31, 2013Opening net book amount


3,733



-



546



379



4,658Additions


22,678



-



12



-



22,690Depreciation charge


(9,426
)


-



(188
)


(84
)


(9,698
)Disposal


(273
)


-



-



-



(273
)Closing net book amount


16,712



-



370



295



17,377At December 31, 2013Cost


27,791



-



1,774



3,054



32,619Accumulated depreciation


(11,079
)


-



(1,404
)


(2,759
)


(15,242
)Net book amount


16,712



-



370



295



17,377Year ended December 31, 2014Opening net book amount


16,712



-



370



295



17,377Additions


447



-



-



-



447Depreciation charge


(11,944
)


-



(142
)


(84
)


(12,170
)Disposal


(827
)


-



-



-



(827
)Closing net book amount


4,388







228



211



4,827At December 31, 2014Cost


25,832



-



1,774



3,054



30,660Accumulated depreciation


(21,444
)


-



(1,546
)


(2,843
)


(25,833
)Net book amount


4,388



-



228



211



4,827





All property, plant and equipment held by the Company are located in the PRC.




F-21
 Table of Contents




ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


9.
PROPERTY, PLANT AND EQUIPMENT (continued)





In October 2012, the Company transferred all flagship stores except the stores located in Shanghai to the respective distributor that resulted in the significant loss on disposal of leasehold improvements recognized in administrative expenses (Note 5).





The Company evaluates the valuation of the existing leasehold improvements and no impairment noted.





10.
INVENTORIES





2012


2013


2014RMB'000


RMB'000


RMB’000At costFinished goods (primarily purchased)


24,139



24,240



53,437Packing materials


201



389



575Less: loss on inventory buyback


-



-



(19,856
)Less: provision for slow moving inventory


-



-



(4,600
)24,340



24,629



29,556





In October 2012, the Company decided to concentrate on brand development and construction of new logistics centers and warehousing facilities going forward and as a result closed the sole production facility, and all raw materials were disposed of in October 2012 (Note 20).





Inventory is valued at the lower of cost or market price. The Company performs an analysis of slow-moving inventory that remains unsold after each respective season and any necessary valuation provision, which could potentially be significant, are included in the period in which the analysis is completed. No provision recorded for slow moving inventory as of December 31, 2012 and 2013. As of December 31, 2014, a provision for slow moving inventory was recorded of approximantely RMB4,600,000. In addition, during the year ended  December 31, 2014, certain inventories were written down to net realizable value resulting in a loss on inventory buyback amounting to approximately RMB19,856,000.


Although none of the distributor agreements had or have no right of return provisions or other rights, the Company bought back approximately RMB37,924,000 of inventory from four distributors as a result of certain contractual relationships being terminated by the Company in 2014. During 2014, the Company sold certain of this buyback inventory below its cost resulting in the provision for inventory buyback of approximately RMB19,856,000 being recorded.





F-22
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


11.
TRADE AND OTHER RECEIVABLES





2012


2013


2014RMB'000


RMB'000


RMB’000Trade receivables


607,865



450,435



370,669Advances to directors and employees


23



52



14Rental deposits


576



496



75Other receivables


2



-



10,268608,466



450,983



381,026





Trade receivables are non-interest bearing and generally have credit terms of 120 days.





Trade receivables include output VAT due to the Company from its customers. At December 31, 2012, 2013 and 2014, the amount of output VAT included in trade receivables was RMB88,322,000,  RMB65,448,000 and RMB53,858,000, respectively.





Rental deposits are deposits and prepaid rental expenses for our direct stores and the head quarters in Shanghai and our office in Shishi City, Fujian Province, respectively.





Other receivables are advance payment to a supplier for the purchase of finished goods and overpayment of enterprise income tax, respectively.





The carrying amounts of all trade and other receivables at December 31, 2012, 2013 and 2014 are denominated in RMB.





12.
PREPAYMENTS





2012


2013


2014RMB'000


RMB'000


RMB’000Prepayments


100



94



-





As of December 31, 2012 and 2013, prepayments mainly relate to legal and professional fees, marketing expenses and rental expenses paid to third parties.





The carrying amounts of prepayments are denominated as follows:





2012


2013


2014RMB'000


RMB'000


RMB’000Renminbi


100



-



-United States Dollar


-



94



-100



94



-





F-23
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


13.
FIXED DEPOSITS—PLEDGED





2012


2013


2014RMB'000


RMB'000


RMB’000Fixed deposits - pledged


9,619



41,800



15,830





Fixed deposits with financial institutions have maturity dates greater than 3 months up to 6 months. Fixed deposits are repriced within one month from the end of the financial year with effective interest rates of 2.997%, 2.782% and 2.850%per annum for the financial years ended December 31, 2012, 2013 and 2014, respectively.





Bills payable are secured by fixed deposits placed with financial institutions.





14.
CASH AND CASH EQUIVALENTS





2012


2013


2014RMB'000


RMB'000


RMB’000Cash on hand


256



206



98Cash at banks


918,195



1,227,196



1,304,002918,451



1,227,402



1,304,100





The Renminbi is not freely convertible into foreign currencies.  Under the PRC Foreign Exchange Control Regulations and Administration of Settlement, Sales and Payment of Foreign Exchange Regulations, the Company is permitted to exchange Renminbi for foreign currencies through banks that are authorised to conduct foreign exchange business.





The cash at banks bear effective interest rates of 0.464%, 0.366% and 0.350% per annum during the years ended December 31, 2012, 2013 and 2014, respectively.





The carrying amounts of cash and bank balances are denominated as follows:





2012


2013


2014RMB'000


RMB'000


RMB’000Renminbi


791,611



1,112,330



1,187,113United States Dollars


126,805



115,042



116,981Hong Kong Dollar


3



1



1Singapore Dollar


32



29



5918,451



1,227,402



1,304,100





F-24
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


15.
TRADE AND OTHER PAYABLES





2012


2013


2014RMB'000


RMB'000


RMB’000Trade payables


47,557



24,890



38,410Bills payable


23,273



64,600



71,600VAT payables


13,155



7,910



5,722Accrued liabilities


8,303



6,513



7,011Other payables


11,553



20,485



40,471103,841



124,398



163,214





Trade payables generally have credit terms of 60 days.





Bills payable relate to inventory purchases and are secured by fixed deposits placed with financial institutions.





Other payables mainly relate to amounts payable to suppliers for purchases of fixtures and fittings for retail shops and non-interest bearing cash advances from third parties which are repayable on demand within twelve months.





Accrued liabilities mainly comprise accrued wages, staff-related expenses and legal and professional fees as of December 31, 2012, 2013 and 2014.





The carrying amounts of trade and other payables are denominated as follows:





2012


2013


2014RMB'000


RMB'000


RMB’000Renminbi


94,026



112,162



130,214Hong Kong Dollar


2,595



5,196



5,370European Dollars


40



39



39United Stated Dollars


7,180



7,001



27,591103,841



124,398



163,214




F-25
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


16.
INTEREST- BEARING BANK BORROWINGS





2012


2013


2014RMB'000


RMB'000


RMB’000Short term bank borrowings-secured


128,250



149,550



122,110





The Company's interest-bearing bank borrowings are guaranteed by a director, a related party and a third party. Short-term bank borrowings bear weighted average effective interest rates of  7.203%, 7.058% and 7.930% per annum during the years ended December 31, 2012, 2013 and 2014, respectively.





The carrying amounts of interest-bearing bank borrowings are denominated in Renminbi.




The Company has entered into a revolving credit facility agreement with Industrial and Commercial Bank of China to borrow up to an aggregate amount of RMB 50.0 million. As of December 31, 2014, the Company had borrowed RMB 42.9 million.  These loans are guaranteed by Mr. James Hong, Ms. Or and two third parties and are due on various dates from March to October 2015. At December 31, 2014, RMB 7.1 million was unused and available under this credit facility.
  The Company has entered into a revolving credit facility agreement with Bank of Quanzhou to borrow up to an aggregate amount of RMB 15.0 million.  As of December 31, 2014, the Company had borrowed RMB 4.2 million and these loans are guaranteed by Mr. James Hong, and two third parties. These loans are due in July 2015. At December 31, 2014, RMB 10.8 million was unused and available under this credit facility.
  The Company has entered a revolving credit facility agreement with Industrial Bank Co., Ltd. to borrow up to an aggregate amount of RMB 25.0 million. As of December 31, 2014, the Company had borrowed RMB 25.0 million and these loans are guaranteed by Mr. James Hong and two third parties. These outstanding borrowings are due on various dates from July to November 2015.
  The Company has entered a revolving credit facility agreement with Bank of Communication  to borrow up to an aggregate amount of RMB 130.7 million. As of December 31, 2014, the Company had borrowed RMB 50.0 million and these loans are guaranteed by Mr. James Hong and one third party. These loans are due in August 2015.  At December 31, 2014, RMB 80.7 million was unused and available under this credit facility.




F-26
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


16.
INTEREST- BEARING BANK BORROWINGS (continued)




All matured loans have been repaid on or before the maturity dates. There are no restrictive covenants, no assets mortgaged and pledged or subject to lien for these loans. The Company was in compliance with all provisions of the loans as of December 31, 2012, 2013 and 2014. There have been no significant changes in short-term obligations subsequent to the date of this report.







F-27
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


17.
AUTHORIZED SHARE CAPITAL





No ordinary shares were issued for the years ended December 31, 2012, 2013 and 2014.





18.
RESERVES


Share premium


The share premium represents the excess of issue price, for local jurisdiction purposes, over the par value of the share issued.





Statutory reserve


In accordance with the relevant laws and regulations of the PRC, the subsidiary of the Company established in the PRC is required to transfer 10% of its profit after taxation prepared in accordance with the accounting regulations of the PRC to the statutory reserve until the reserve balance reaches 50% of the subsidiary’s paid-up capital. Such reserve may be used to offset accumulated losses or increase the registered capital of the subsidiary, subject to the approval from the PRC authorities, and are not available for dividend distribution to the shareholders. AtDecember 31, 2012, 2013 and 2014, the paid-up capital was approximately RMB98,843,000, RMB102,875,000 and RMB102,875,000, respectively. At December 31, 2012, 2013 and 2014, the statutory reserve is fully funded.





Currency translation reserve


The currency translation reserve represents translation differences arising from translation of foreign currency financial statements into the Company’s functional currency.





19.
COMMITMENTS





Operating lease commitments





The Company leases offices, warehouses and retail shops under non-cancellable operating lease arrangements. The leases have varying terms. Future minimum payments under these agreements are as follows:





2012


2013


2014RMB'000


RMB'000


RMB’000Leases:Not later than one year


4,690



2,768



2,142Later than one year and not later than five years


7,283



5,844



3,702Total


11,973



8,612



5,844





F-28
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


20.
SIGNIFICANT RELATED PARTY TRANSACTIONS




In addition to the related party information disclosed elsewhere in the financial statements, the following transactions occurred between the Company and related parties at terms agreed upon between the parties.  Through October 2012, the Company leased a production facility from an entity controlled by the uncle of Mr. Hong.  The rental agreement was due to expire in June 2013 and annual rent was RMB 4.3 million.  The Company also guarantees certain obligations of this entity (Note 23). In October 2012, the Company terminated the lease agreement and sold all plant and machinery at carrying value (Note 9) and raw materials at 50% of the cost to Fujian Aidu at terms agreed upon between the parties (Note 10). Additionally, in October 2012, the Company entered into new lease agreement related to a warehouse facility from Mr. Hong Chaoxi, Mr. James Hong's father, which expires in July 2017. The annual rent is RMB0.9 million and the rent free period started from August 2012 to June 2013. The following is a summary of these related party transactions:




2012


2013


2014RMB'000


RMB'000


RMB’000Rental of production facilities


3,225



450



900Proceeds from disposal of property, plant and equipment


73



-



-Proceeds from disposal of scrap raw materials


1,290



-



-





21.
SEGMENT INFORMATION





Business segment


As the Company is engaged primarily in the sale of men’s fashionwear, no reporting by business segment is presented.





Geographical segment


As the business of the Company is engaged entirely in the PRC, no reporting by geographical location of operations is presented.





F-29
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


22.
FINANCIAL RISK MANAGEMENT OBJECTIVES – POLICIES





The Company’s overall financial risk management program seeks to minimize potential adverse effects of financial performance of the Company. Management has in place processes and procedures to monitor the Company’s risk exposures while balancing the costs associated with such monitoring and management against the costs of risk occurrence. The Company’s risk management policies are reviewed periodically for changes in market conditions and the Company’s operations.





The Company is exposed to financial risks arising from its operations and the use of financial instruments. The key financial risks include credit risk, liquidity risk, interest rate risk, foreign currency risk and market price risk.





As of December 31, 2012, 2013 and 2014, the Company's financial instruments mainly consisted of cash and bank balances, trade receivables, other receivables, trade payables, other payables and borrowings.





(i)    Credit risk





Credit risk is the risk of financial loss to the Company if a customer fails to meet its contractual obligations. Credit risk of the Company arises principally from the Company’s trade and other receivables and bank balances.





For trade receivables, the Company’s exposure to credit risk is restricted by the credit limits that are approved by the Chief Operating Officer. The Company typically allows the existing customers credit terms of up to 120 days .  In deciding whether credit shall be extended, the Company will take into consideration factors such as the relationship with the customer, its payment history and credit worthiness. In relation to new customers, the sales and marketing department will prepare credit proposals for approval by the Chief Operating Officer.





The Company performs ongoing credit evaluation of its customers’ financial position. The Company has a significant concentration of credit risk, as the Company’s trade receivable balances at December 31, 2012, 2013 and 2014, were represented by 13, 16 and 15 distributors in 2012, 2013 and 2014, comprises 99% each of the total trade receivables balance for the respective financial years.






F-30
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


22.
FINANCIAL RISK MANAGEMENT OBJECTIVES – POLICIES (continued)





(i)    Credit risk (continued)





As the Company does not hold any collateral, the maximum exposure to credit risk for each class of financial instruments is the carrying amount of that class of financial instruments presented on the consolidated statements of financial position. The allowance for potential credit losses is based upon a review of the expected collectability of all trade and other receivables and subject to approval by the Chief Operating Officer for amounts not exceeding RMB500,000.





The age analysis of trade receivables is as follows:





2012


2013


2014RMB'000


RMB'000


RMB’000Past due


-



-Not past due


607,865



450,435



370,669





The Company’s major classes of financial assets are cash and bank balances and trade receivables.





Management believes that all significant bank deposits are with reputable banks and that all significant trade receivables are mainly customers of good credit- standing.





There is no trade receivable that is past due and/or impaired in 2012, 2013 and 2014. No impairment loss was recognised in profit or loss, as the trade receivables were subsequently collected.





(ii)
Liquidity risk





Liquidity risk is the risk that the Company will encounter difficulty in raising funds to meet commitments associated with financial instruments. The Company’s policy is to regularly monitor current and expected liquidity requirements to ensure that it maintains sufficient reserves of cash to meet its liquidity requirement in the short and long term. The bank borrowings for the years ended December 31, 2012, 2013 and 2014, have a maturity period of less than one year from the statement of financial position date.





F-31
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


22.
FINANCIAL RISK MANAGEMENT OBJECTIVES – POLICIES (continued)





(iii)
Market risk





Market risk is the risk that changes in market prices, such as foreign exchange rates and interest rates will affect the Company’s income or the value of its holdings of financial instruments. The objective of market risk management is to manage and control market risk exposures within acceptable parameters.





Currency risk





Currency risk is the risk that the value of a financial instrument will fluctuate due to changes in foreign exchange rates. Currency risk arises when transactions are denominated in foreign currencies.





The Company carries out its business in the PRC, and most of the transactions are denominated in Renminbi. Accordingly, the Company’s exposure to risk resulting from changes in foreign currency exchange rates is minimal.





Interest rate risk





Interest rate risk is the risk that the fair value or future cash flows of the Company’s financial instruments will fluctuate because of changes in market interest rates.





The Company’s exposure to interest rate risk arises primarily from short-term bank borrowings. The Company does not have investment in other financial assets.




F-32
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


22.
FINANCIAL RISK MANAGEMENT OBJECTIVES – POLICIES (continued)





(iii)
Market risk (continued)




The Company

Effective

interest

rate


Floating

interest

rate


Fixed interest rate


Non-interest

bearing


Total%


RMB’000


RMB’000


RMB’000


RMB’000As of December 31,2012Financial AssetsCash and bank balances


0.46



918,451



-



-



918,451Trade and other receivables






-



-



608,466



608,466Fixed deposits pledged


3.00



9,619



-



-



9,619928,070



-



608,466



1,536,536Financial LiabilitiesTrade and other payables






-



-



103,841



103,841Interest-bearing bank borrowings


7.20



55,000



73,250



-



128,25055,000



73,250



103,841



232,091As of December 31,2013Financial AssetsCash and bank balances


0.37



1,227,402



-



-



1,227,402Trade and other receivables






-



-



450,983



450,983Fixed deposits pledged


2.78



41,800



-



-



41,8001,269,202



-



450,9837



1,720,185Financial LiabilitiesTrade and other payables






-



-



124,398



124,398Interest-bearing bank borrowings


7.06



70,000



79,550



-



149,55070,000



79,550



124,398



273,948As of December 31,2014Financial AssetsCash and bank balances


0.35



1,304,100



-



-



1,304,100Trade and other receivables






-



-



381,026



381,026Fixed deposits pledged


2.85



15,830



-



-



15,8301,319,930



-



381,026



1,700,956Financial LiabilitiesTrade and other payables






-



-



163,214



163,214Interest-bearing bank borrowings


7.93



55,000



67,110



-



122,11055,000



67,110







285,324




F-33
 Table of Contents


ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


22.
FINANCIAL RISK MANAGEMENT OBJECTIVES – POLICIES (continued)





(iii) Market risk (continued)





The Company’s interest-bearing bank borrowings in 2012, 2013 and 2014 are at fixed or floating interest rates and are denominated mainly in Renminbi. Fluctuations in the interest rate of bank borrowings did not have a significant impact on the Company’s net profit for years ended December 31, 2012, 2013 and 2014.





23.
CONTINGENT LIABILITIES





The Company has issued guarantees to a financial institution for bank borrowings of certain third parties. The Company’s guarantee is for loan agreements (generally short term borrowings) and bills payable entered into or to be entered into by the entities within one year. The maximum amount of bank borrowings and bills payable that may be guaranteed was as follows:





2012


2013


2014RMB'000


RMB'000


RMB’000Corporate guarantees


21,000



10,000



78,100





At December 31, 2012, 2013 and 2014, bank borrowings and bills payable outstanding under those guarantees were RMB18.0, RMB10.0 and RMB 78.1 million, respectively.





24.
CAPITAL MANAGEMENT





The Company’s objectives when managing capital are to safeguard the Company’s ability to continue as a going concern and to maximise the returns to shareholders’ value through the optimisation of the debt and equity balance.





The Company actively and regularly reviews and manages its capital structure to ensure optimal capital structure and shareholders’ returns, taking into consideration the future capital requirements of the Company and capital efficiency, prevailing and projected profitability, projected cash flows, projected capital expenditures and projected investment opportunities.  The Company currently has not adopted any formal dividend policy.





The Company manages its capital structure and makes adjustments to it, in light of changes in economic conditions. To maintain or adjust the capital structure, the Company may adjust the dividend payment to shareholders, issue new shares, return capital to shareholders, raise new debts, redeem existing debts or sell assets to reduce debts.




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ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


24.
CAPITAL MANAGEMENT (continued)





The Company monitors capital on the basis of the debt-to-adjusted capital ratio. This ratio is calculated as net debt divided by adjusted capital. Net debt is calculated as total debts less cash and cash equivalents. Adjusted capital comprises all components of equity including share capital, share premium, retained earnings and other reserves. The Company has debt-to-adjusted capital ratios of (0.506), (0.643) and (0.700) for the years ended December 31, 2012, 2013 and 2014, respectively.





25.
FINANCIAL INSTRUMENTS





The carrying amounts of financial assets and liabilities with a maturity of less than one year approximate their fair values.





The Company does not anticipate that the carrying amounts recorded at the statement of financial position date would be significantly different from the values that would eventually be received or settled.





26.
SHARE-BASED PAYMENTS





Employee share option plan of the Company




On November 16, 2010, Fame Brilliant entered into a share purchase agreement with Chaoshen Wang, the Company's Chief Operating Officer, under which Mr. Wang has the right to purchase from Fame Brilliant ordinary shares of the Company in an amount of up to 3% of the Company's issued and outstanding share capital after the Company's initial public offering. The right vests over a period of three years. The purchase price is 85% of the initial public offering price per ordinary shares. Fame Brilliant issued a total of 3,321,677 ordinary shares to Mr. Wang during the term of the agreement. As of December 31, 2014, all ordinary shares were fully vested.  The Company has been recognizing share-based compensation in relation to the share purchase agreement between Fame Brilliant and Mr. Wang based on the fair value of the equity awards on the date of the grant, with compensation expense recognized over the period in which the recipient is required to provide service in exchange for the equity award.
  On December 30, 2010, the board of directors adopted the 2010 Equity Incentive Plan, which provides for grants of stock options, restricted stock, or stock appreciation rights. The board of directors authorized the issuance of up to 3% of the Company's issued and outstanding share capital immediately following the completion of the Company's initial public offering.


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ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


26.
SHARE-BASED PAYMENTS (continued)




The share-based compensation expense is categorized as cost of sales, selling and distribution expenses, or administrative expenses, depending on the job functions of the grantees. The share-based compensation expense recognised for the years ended December 31, 2012, 2013 and 2014 was approximately RMB1,844,000, RMB1,802,000 and RMB299,000, respectively.





No awards were made under the 2010 Equity Incentive Plan during the years ended December 31, 2012, 2013 and 2014.





27.
CRITICAL ACCOUNTING ESTIMATES





Estimates are continually evaluated and are based on historical experiences and other factors, including expectations of future events that are believed to be reasonable under the circumstances.





Estimates and assumptions are made concerning the future. The resulting accounting estimates will, by definition, seldom equal the related actual results. The estimates and assumptions that have a significant risk of causing a material adjustment to the carrying amounts of assets and liabilities within the next financial year are discussed below.





(a)
Depreciation of property, plant and equipment





Property, plant and equipment are depreciated on a straight-line basis over their useful lives.  Management estimates the useful lives of plant and equipment according to the common life expectancies applied in the apparel-manufacturing industry.  Changes in the expected level of usage and technological developments could impact the economic useful lives and the residual values of these assets, therefore future depreciation charges could be revised.





(b)
Allowance for doubtful accounts





Management assesses the collectability of trade receivables on an ongoing basis. This estimate is based on the credit history of customers and current market conditions. Management reassesses the impairment losses at each balance sheet date and makes provisions, if necessary.




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 Table of Contents




ZUOAN FASHION LIMITED AND SUBSIDIARIES
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
 FOR THE YEARS ENDED DECEMBER 31, 2012, 2013 AND2014


27.
CRITICAL ACCOUNTING ESTIMATES (continued)





(c)
Net realizable value of inventories





Net realizable value of inventories is the estimated selling price in the ordinary course of business, less estimated costs of completion and selling expenses.  These estimates are based on current market conditions and the historical expense of selling products of a similar nature.  Changes in selling price could be significant as a result of increasing or decreasing competition.





(d)
Income tax





The Company is liable for income taxes in the PRC.  Significant judgement is required in determining the provision for income taxes.  There are also claims for which the ultimate tax determination is uncertain during the ordinary course of business. The Company recognizes liabilities for expected tax issues based on estimates of whether additional taxes will be due.  When the final outcome of these tax matters is different from the amounts that were initially recognized, such differences will impact the current and deferred tax provisions in the period in which such determination is made.










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