Law Broker’s headquarter is located at 5th Floor, No. 311 3rd Section, Nanjing East Road, Taipei City, Taiwan, with approximately 753.29 square meters of office space. The lease is between Pon-Chen Co., Ltd. and Law Broker, for two years commencing from June 1, 2017 to May 31, 2019 and with a monthly rent of NT $373,251 ($12,279). Law Broker has also entered into 44 leases for each of its sales and service outlets and training centers (excluding headquarter), for an aggregate monthly fee (untaxed) of NT$4,997,715 ($165,862).
Jiangsu Law’s office is located at No. 888 Jintong Road, Xingren County, Tongzhou District, Nantong City, Jiangsu province, China, with 21,527 square feet (2,000 square meters) of office space. The lease was between Xiangriya Industrial (Nantong) Co., Ltd., which is an affiliate of Mao Yi Hsiao. The lease term is from January 1, 2014 to December 31, 2019 for five years, with rent of RMB $85,000 ($13,251) per year, payable every year.
The following selected consolidated statement of operations data for the years ended December 31, 2018, and 2017 and the selected consolidated balance sheet data as of December 31, 2018, and 2017 are derived from our audited consolidated financial statements included elsewhere in this Form 10-K.
We are a Delaware corporation, organized on June 4, 2010 by Mr. Mao as a holding company for both ZLI Holdings Limited (“CU Hong Kong”) and Action Holdings Financial Limited (“AHFL,” a company incorporated in the British Virgin Islands), which has been quoted on various tiers of the Over the Counter market. The Company organizes and manages its business by geographic areas, aggregates them as three operating segments. As of December 31, 2018, through our Consolidated Affiliated Entities - PRC Segment, we had two insurance agencies, one brokerage and 47 service outlets with 2,589 full-time sales professionals and 139 administrative staff in Nanjing, Henan, Sichuan, Jiangsu, Fujian and Guangdong provinces in China. In addition, through Law Broker - Taiwan Segment, we had 34 sales and service outlets (including the headquarters) with 2,600 sales professionals and 199 administrative staff in Taiwan.
The preparation of financial statements in conformity with Accounting Principles generally accepted in the United States of America (“U.S. GAAP”) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the dates of the consolidated financial statements and the amounts of revenues and expenses during the period. Management makes these estimates using the best information available when they are made. However, actual results could differ materially from those estimates. While there are a number of significant accounting policies affecting our financial statements; we believe the following critical accounting policies involve the most complex, difficult and subjective estimates and judgments. We have not made any material changes in the methodology used in these accounting polices during the past three years.
The accompanying consolidated financial statements have been prepared in conformity with GAAP and reflect the accounts and operations of the Company and those of its subsidiaries in which the Company has a controlling financial interest. In accordance with the provisions of the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 810, Consolidation, the Company consolidates any variable interest entity (“VIE”), of which it is the primary beneficiary. The typical condition for a controlling financial interest ownership is holding a majority of the voting interests of an entity; however, a controlling financial interest may also exist in entities, such as VIEs, through arrangements that do not involve controlling voting interests. ASC 810 requires a variable interest holder to consolidate a VIE if that party has the power to direct the activities of the VIE that most significantly impact the VIE’s economic performance and the obligation to absorb losses of the VIE that could potentially be significant to the VIE or the right to receive benefits from the VIE that could potentially be significant to the VIE. The Company does not consolidate a VIE in which it has a majority ownership interest when the Company is not considered the primary beneficiary. The Company evaluates its relationships with all the VIEs on an ongoing basis to ensure that it continues to be or becomes the primary beneficiary. All intercompany transactions and balances have been eliminated in consolidation.
The Company follows FASB ASC Topic 810, “Consolidation,” which governs the accounting for and reporting of noncontrolling interests (“NCI”) in partially owned consolidated subsidiaries and the loss of control of subsidiaries. NCIs may be treated as a separate component of equity, not as a liability, that increases and decreases in the parent’s ownership interest that leave control intact be treated as equity transactions rather than as step acquisitions or dilution gains or losses, and that losses of a partially owned consolidated subsidiary be allocated to the NCI even when such allocation might result in a deficit balance. This standard also required changes to certain presentation and disclosure requirements.
In accordance with ASC Topic 360, “Property, Plant and Equipment”, we review the carrying values of long-lived assets when circumstances warrant in order to determine whether their carrying value has become impaired. We consider assets to be impaired if the carrying value of an asset exceeds the present value of future net undiscounted cash flows from related operations. No impairment was recognized for the years ended December 31, 2018 and 2017.
In February 2016, the FASB issued Accounting Standards Update (“ASU”) No. 2016-02, (Topic 842), Leases. ASU 2016-02 requires the recognition of lease assets and lease liabilities by lessees for those leases currently classified as operating leases and makes certain changes to the accounting for lease expenses. The Company anticipates that the adoption of ASU 2016-02 for our leasing arrangements will likely (i) increase our recorded assets and liabilities, (ii) increase depreciation and amortization expense, (iii) increase interest expense and (iv) decrease lease/rental expense.
The Company plans to adopt the standard as of January 1, 2019, the beginning of the fiscal year 2019. The Company estimates adoption of the standard will result in recognition of additional Right of Use (“ROU”) assets and operating liabilities as of January 1, 2019. The difference between these amounts will be recorded as an adjustment to retained earnings. The Company does not believe the standard will materially affect our consolidated net earnings. While substantially complete, the Company is still in the process of finalizing its evaluation of the effect of ASU 2016-02 on the Company’s financial statements and disclosures. The Company will finalize its accounting assessment and quantitative impact of the adoption during the first quarter of fiscal year 2019.
The following table shows the results of operations for the years ended December 31, 2018 and 2017:
As a distributor of insurance products, we derive our revenue primarily from commissions and fees paid by insurance companies, typically calculated as a percentage of premiums paid by our customers to the insurance companies in among Taiwan, PRC and Hong Kong. We generate revenue primarily through our sales force, which consists of individual sales professionals in our distribution and service network. Revenue in the year ended December 31, 2018 totaled over $78.6 million, an increase of approximately $5.8 million (or slightly over 8%) compared with approximately $72.8 million in the previous year. This increase was attributable primarily to growth of our business in Taiwan. For the years ended December 31, 2018 and 2017, the revenue generated respectively from Taiwan, PRC and Hong Kong was as follows:
During the year ended December 31, 2018, 85.82%, 13.31% and 0.87% of our revenue in our audited consolidated financial statements were derived from Taiwan, Consolidated Affiliated Entities (“CAE”) in PRC and Hong Kong, respectively. During the year ended December 31, 2017, 85.31%, 14.37% and 0.32% of our revenue in our audited consolidated financial statements were derived from Taiwan, CAE in PRC and Hong Kong, respectively. Total revenue increased by $5,819,287, or 8%, from $72,848,444 for the year ended December 31, 2017 to $78,667,731 for the year ended December 31, 2018, mainly due to the increase of the revenue in Taiwan and Hong Kong for the following reasons:
c) Overall revenue in the Taiwan segment increased in 2018 due to commissions from increased sales of insurance products that are soon to be discontinued due to Taiwan regulatory changes. Sales of these types of products increased as customers were looking to take advantage of their last opportunity to lock in these policies before the products are no longer available.
Cost of revenue mainly consists of commissions paid to our individual sales professionals. The cost of revenue for the year ended December 31, 2018 increased by $6,513,702 or 15%, to $49,314,709 compared with $42,801,007 for the year ended December 31, 2017. This increase was primarily due to the increase of direct commission cost as a result of first year commission earned from insurance companies, and the restructuring of the commission program. The Company launched Commission 2.0 in September 2017, featuring new incentive schemes and performance measures that are more aligned with the company’s long-term objectives. Under Commission 2.0, sales targets are divided into smaller and more attainable targets to improve the achievement rate. As a result, cost of revenue from commissions paid to sales professionals increased more than the proportional increase of revenue.
Selling expenses mainly occurred in Law Broker, representing the expense for marketing promotion and selling related expense. The selling expense for the year ended December 31, 2018 increased by $1,216,207 or 52%, to $3,560,840 compared with $2,344,633 for the year ended December 31, 2017. The increase is mainly attributed to the increased event related expenses. The Company launched an online reality show in the second half of 2018 to facilitate deeper brand engagement and to attract younger candidates to join the Company’s salesforce. The advertising expenses related to the show were mainly incurred in 2018.
For the year ended December 31, 2018, G&A expenses were $17,854,923, an increase of $2,895,539, or 19%, compared with $14,959,384 for the year ended December 31, 2017, which was mainly due to an increase in salary for our senior administrative personnel.
Net total other income for the year ended December 31, 2018 was $1,089,559, compared with net total other income for the year ended December 31, 2017 of $948,162. Net total other income mainly consists of interest income, interest expenses, dividend income and other miscellaneous income and expense. Net total other income increased by over $141,397 primarily due to the exchange rate fluctuations and an increase in interest income from time deposits.
Our subsidiaries in Taiwan are governed by the Income Tax Law of Taiwan and are generally subject to tax at 20% on income reported in the statutory financial statements after appropriate adjustments. Also, the Income Tax Law of Taiwan provides that a company is taxed an additional 5% on any undistributed earnings to its shareholders.
Our subsidiaries in Hong Kong are governed by the Inland Revenue Ordinance Tax Law of Hong Kong and are generally subject to a profits tax at the rate of 16.5% on the estimated assessable profits.
As a result of all these factors, net income decreased by $4.8 million to almost $5.4 million in the year ended December 31, 2018, from just over $10.2 million in the previous fiscal year.
Net cash provided by financing activities was $5,487,587 during the year ended December 31, 2018, which was an increase from 2017 mainly due to the proceeds from related party and third party borrowings of approximately $2.8 million.
On April 27, 2013, the CIRC issued the Decision on Revising the Agency Provisions, pursuant to which, CIRC mandated any insurance agency established subsequent to the Decision on Revising the Agency Provisions to meet a minimum registered capital requirement of RMB50 million (approximately $8 million). On May 16, 2013, CIRC issued the 2013 Notice, pursuant to which, professional insurance agencies established prior to the issuance of the Decision on Revising the Agency Provisions, with registered capital less than RMB50 million (approximately $8 million) can continue to operate its existing business within the provinces where they have a registered office or branch office, but shall not set up any new branches in any provinces where it has no registered office or a branch office.
Prior to the capital increase, Anhou, a professional insurance agency with a PRC nationwide license, used to have a registered capital of RMB10 million (approximately $1.6 million). The branch offices of Anhou currently were all in Henan province. To better implement its expansion strategies, Anhou increased its registered capital to RMB50 million (approximately $8 million) to meet the requirement of CIRC so that it can set up new branches in any province beyond its current operations in China.
Under the Company Loan Agreement, AHFL agreed to provide a loan to the CU Hong Kong with the principal amount equal to the US Dollar equivalent of RMB40 million ($6,389,925). The term for such was ten years which could be extended upon the agreement of the parties. The amount of such loan was remitted to the account of CU Hong Kong on August 30, 2013.
Under the Investor Loan Agreements, the Investor Borrowers loaned cash from CU Hong Kong for their investment in Anhou and CU Hong Kong agreed to provide certain loans to each of the Investor Borrowers with an aggregate principal amount equal to the US Dollar equivalent of RMB40 million ($6,389,925). The term for such loans was ten years which could be extended upon the agreement of the parties. Pursuant to the Investor Loan Agreements, each of the Investor Borrowers covenants to enter into certain Variable Interest Entities Agreements with Anhou, WFOE and certain existing shareholders of Anhou. The proceeds received from the said loans by the Investor Borrowers shall be solely used to increase the registered capital of Anhou, and CU Hong Kong may determine the repayment methods including transferring of the Investor Borrowers’ corresponding registered capital in Anhou or through other manner as full payment of the loans subject to terms and conditions therein in the event that the Investor Borrowers fails to repay the loan in currency to CU Hong Kong.
· providing insurance agency services to its existing clients in its existing branches;
Total interest expenses for the long-term loans were $18,450 and $20,737, respectively, for the years ended December 31, 2018 and 2017.
The Company has operating leases for its offices. Rental expenses for the years ended December 31, 2018 and 2017 and were $2,720,365 and $2,537,348, respectively. As of December 31, 2018, total future minimum annual lease payments under operating leases were as follows, by years:
On July 1, 2016, the Company entered into lease agreements with Yuli Broker and Yuli Investment separately, to lease their Nan-King East Road office space in Taipei City. The lease terms were both for one year commencing on July 1, 2016 and ending on June 30, 2017, with an annual base rent approximately of $610 (NT$18,000). On June 30, 2018, these lease agreements were extended automatically to June 30, 2019. The Company recorded rent income of $1,138 and $1,128, respectively, for the years ended December 31, 2018 and 2017.
The Company and the selling shareholders of AHFL entered into a third Amendment to the Acquisition Agreement (the “Third Amendment”), pursuant to which, the Company committed to distribute the cash payment in the amount approximately $676,466 (NT$22.5 million) to the selling shareholders of AHFL on or prior to June 30, 2016. On July 21, 2016, the Company arranged for the payment of $153,097 (NT$4,830,514) to the selling shareholders. On March 12, 2017, the Company and the selling shareholders of AHFL entered into a fifth amendment to the acquisition agreement (the “Fifth Amendment”), pursuant to which, the Company agreed to make the cash payment in the amount of $480,559 (NT$15 million) on or prior to March 31, 2019. On March 27, 2019, the Company and the selling shareholders of AHFL entered into a sixth amendment to the acquisition agreement (the “Sixth Amendment”), pursuant to which, the Company agreed to make the cash payment in the amount of $480,559 (NT$15 million) on or prior to March 31, 2021.
On May 10, 2016, Law Broker entered into an engagement agreement (“Engagement Agreement”) with Hui-Hsien Chao (“Ms. Chao”), pursuant to which, she serves as the general manager of Law Broker from December 29, 2015 to December 28, 2018. Ms. Chao’s primary responsibilities are to assist Law Broker in operating and managing insurance agency business. According to the Engagement Agreement, Ms. Chao’s Bonus plans include: 1) execution, 2) long-term service fees, 3) pension and 4) non-competition. The payment of such bonuses will only occur upon satisfaction of certain condition and subject to the terms in the Engagement Agreement. Ms. Chao acts as the general manager or equivalent position of Law Broker for a term of at least three years. On March 13, 2017, Law Broker and Ms. Chao entered into an amendment to the Engagement above-mentioned Agreement to specify 1) Ms. Chao’s pension calculation assumptions and start date, and 2) the non-competition provision start date. As of December 31, 2018 and 2017, the Company had current liabilities amounted $597,631 and $210,752, respectively, related to accrued bonus for Ms. Chao.
On December 7, 2016, the Company entered into an advisory agreement with Mr. Fu Chang Li, the Director of the Company. Pursuant to this Advisory Agreement, Mr. Li provided investment consulting services to the Company from December 7, 2016 to December 6, 2017. On December 7, 2017, both parties agreed to extend this advisory agreement from December 7, 2017 to December 6, 2018. On December 7, 2018, both parties agreed to extend this advisory agreement from December 7, 2018 to December 6, 2019. The total advisory fee was approximately $60,204 (NT$1.8 million). For the years ended December 31, 2018 and 2017, the Company recognized $59,368 and $59,214, respectively, general and administrative expenses in connection to this advisory agreement.
We have audited the accompanying consolidated balance sheets of China United Insurance Service, Inc. and subsidiaries (the “Company”) as of December 31, 2018 and 2017, the related consolidated statements of operations and comprehensive income (loss), stockholders’ equity, and cash flows for each of the two years in the period ended December 31, 2018, and the related notes (collectively referred to as the consolidated financial statements). We also have audited the Company’s internal control over financial reporting as of December 31, 2018, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”)
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 the company’s annual or interim financial statements will not be prevented or detected on a timely basis. Material weaknesses regarding (1) an ineffective mechanism to proper communicate the concepts of corporate governance and (2) lack of a qualified experienced financial expert to lead and supervise the overall internal control over financial reporting system of the Company, have been identified and described in management’s assessment. These material weaknesses were considered in determining the nature, timing, and extent of audit tests applied in our audit of the 2018 consolidated financial statements, and our opinion regarding the effectiveness of the Company’s internal control over financial reporting does not affect our opinion on those consolidated financial statements.
The Company owns 65.95% interest of Law Enterprise Co., Limited (“Law Enterprise”) through AHFL and its 100% owned subsidiary Law Insurance Broker Co., Limited (“Law Broker”). Both companies are engaging in business in insurance brokerage and insurance agency services across Taiwan, where the majority of revenue is generated.
The Company’s common stock currently trades over the counter under the ticker symbol “CUII” on the OTC Pink market.
The corporate structure as of December 31, 2018 is as follows:
The Company’s financial statements are presented in U.S. dollars ($), which is the Company’s reporting and functional currency. The functional currencies of the Company’s subsidiaries are NTD, RMB and HKD. The resulting translation adjustments are reported under other comprehensive income in accordance with FASB ASC Topic 220, “Reporting Comprehensive Income”. Gains and losses resulting from the translation of foreign currency transactions are reflected in the consolidated statements of operations and other comprehensive income (loss). Monetary assets and liabilities denominated in foreign currency are translated at the functional currency using the rate of exchange prevailing at the balance sheet date. Any differences are taken to profit or loss as a gain or loss on foreign currency translation in the consolidated statements of operations and other comprehensive income (loss).
Cash and cash equivalents include cash in banks, bank deposits, and highly liquid investments with maturities of three months or less at the date of origination. These investments are carried at cost, which approximates market value.
Restricted cash and cash equivalents represent amounts held in banks by the Company in conformity with Provisions of the Supervision and Administration of Specialized Insurance Agencies by China Insurance Regulatory Commission and time deposits in financial institutions that are pledged to satisfy the requirements of certain debt agreements.
Property, plant and equipment are stated at cost, less accumulated depreciation. Expenditures for improvements are capitalized; repairs and maintenance are charged to expense as incurred. Upon sale of retirement, the cost and related accumulated depreciation are removed from the accounts and any gain or loss is recorded in other income (expense).
Depreciation of office equipment, office furniture, transportation equipment and other equipment is computed using straight-line method based on estimated useful lives ranging from one to ten years with estimated salvage value. Leasehold improvements are depreciated or amortized over the shorter of the estimated useful life of the asset or the remaining expected lease term.
Goodwill represents the excess of acquisition cost over the fair value of the net assets in the acquisition of a business. Goodwill is not amortized but instead is evaluated for impairment annually or more frequently if events or changes in circumstances indicate it might be impaired, using two-step goodwill impairment test. The first step screens for potential impairment of goodwill to determine if the fair value of the reporting unit is less than its carrying value, while the second step measures the amount of goodwill impairment, if any, by comparing the implied fair value of goodwill to its carrying value. As of December 31, 2018, and 2017, there were no indications of impairment of goodwill. Intangible assets, which primarily consist of software, are stated at cost, less accumulated amortization, and amortized over estimated useful lives ranging from 3 to 5 years.
The Company expenses all advertising costs, which include promotions and branding, as incurred. The Company incurred $749,563 and $386,858 in advertising and marketing costs during the years ended December 31, 2018 and 2017, respectively.
The Company is obligated to pay commissions to its sales professionals when an insurance policy becomes effective. The Company recognizes commission revenue from insurance companies on a gross basis, and the commissions paid to its sales professionals are recognized as cost of revenue.
As the holders of preferred stock of the Company are entitled to share equally with the holders of common stock, on a per share basis, in such dividends and other distributions of cash, property or shares of stock of the Company as may be declared by the board of directors, the preferred stock is a participating security. When calculating the basic earnings per common share, the two-class method is used to allocate earnings to common stock and participating security as required by ASC Topic 260, “Earnings Per Share.” Potential common shares consist primarily of convertible bonds calculated using the if-converted method. However, convertible bonds were excluded from the calculation due to the antidilutive effect. The antidilutive common share equivalents excluded from the computation was 45,935 for the year ended December 31, 2018.
The Company maintains cash and cash equivalents with banks or high credit, quality financial institutions in the USA, PRC, Hong Kong, and Taiwan with balances in excess of the limits insured by various governments. In Taiwan, a depositor has up to NTD3,000,000 insured by Central Deposit Insurance Corporation (“CDIC”). In China, a depositor has up to RMB500,000 insured by the People’s Bank of China Financial Stability Bureau (“FSD”). In Hong Kong, a depositor has up to HKD500,000 insured by Hong Kong Deposit Protection Board (“DPB”). In the United States, the standard insurance amount is $250,000 per depositor in a bank insured by the Federal Deposit Insurance Corporation (“FDIC”).
Financial instruments that potentially subject the Company to significant concentrations of credit risk consist principally of cash and cash equivalents, time deposits, restricted cash, register capital deposits and accounts receivable. As of December 31, 2018, and 2017, approximately $1,751,000 and $1,512,000 of the Company’s cash and cash equivalents, time deposits, restricted cash and register capital deposits held by financial institutions, was insured, and the remaining balance of approximately $44,289,000 and $33,949,000, was not insured. With respect to accounts receivable, the Company generally does not require collateral and does not have an allowance for doubtful accounts.
For the fiscal years ended December 31, 2018 and 2017, the Company realized revenues with the customers individually more than 10% of the total revenue of the Company were:
(*) Revenue for the year ended had not exceeded 10% or more of the consolidated revenue.
As of December 31, 2018 and 2017, the Company’s accounts receivable due from these customers were:
The Company operates their business in the PRC, Hong Kong and Taiwan. Accordingly, the Company’s business, financial condition and results of operations may be influenced by the political, economic, foreign currency exchange and legal environments in the PRC, Hong Kong and Taiwan, and by the state of each economy. The Company’s results may be adversely affected by changes in the political and social conditions in the PRC, Hong Kong and Taiwan, and by changes in governmental policies with respect to laws and regulations, anti-inflationary measures, and rates and methods of taxation, among other things.
The term of this Agreement is 10 years. Subsequent to the execution of this Agreement, both WFOE and Anhou shall review this Agreement on an annual basis to determine whether to amend or supplement the provisions. The term of this Agreement may be extended if confirmed in writing by WFOE prior to the expiration thereof. The extended term shall be determined by WFOE, and Anhou shall accept such extended term unconditionally.
· Share Pledge Agreement under which the owners of Anhou pledged their equity interests in Anhou to WFOE to guarantee Anhou’s performance of its obligations under the EBCA. Pursuant to this agreement, if Anhou fails to pay the exclusive consulting or service fees in accordance with the EBCA, WFOE shall have the right, but not the obligation, to dispose of the owners of Anhou’s equity interests in Anhou. This Agreement shall be continuously valid until all payments due under the EBCA have been repaid by Anhou or its subsidiaries.
As a result of the agreements among WFOE, the shareholders of Anhou and Anhou, WFOE is considered the primary beneficiary of Anhou, WFOE has effective control over Anhou; therefore, WFOE consolidates the results of operations of Anhou and its subsidiaries. Accordingly, the results of operations, assets and liabilities of Anhou and its subsidiaries are consolidated in the Company’s financial statements from the earliest period presented. However, the VIE is monitored by the Company to determine if any events have occurred that could cause its primary beneficiary status to change. These events include:
The Company reviews the VIE’s status on an annual basis. For the years ended December 31, 2018 and 2017, no event including a)-d) above took place that would change the Company’s primary beneficiary status.
In May 2014, the FASB issued new accounting guidance - ASU No. 2014-09, (Topic 606), Revenue from Contracts with Customers related to revenue from contracts with customers. The core principle of the Standard is that recognition of revenue occurs when a customer obtains control of promised goods or services in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. In addition, the new guidance requires that companies disclose the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. The Company adopted the new guidance effective January 1, 2018, using the modified retrospective method, which applies the new guidance beginning in the year of adoption, with the cumulative effect of initially applying the guidance recognized as an adjustment to retained earnings at January 1, 2018.
Upon adoption of the new revenue guidance, the timing of revenue recognition remains unchanged. However, the new guidance includes requirements to estimate variable or contingent consideration to be received and recognize variable consideration to the extent that a significant reversal of revenue will not probably occur in the subsequent periods. Under the legacy GAAP, the Company recognized certain contingent commissions when fixed or determinable whereas the Company recognizes estimated contingent commissions when the policy is accepted under the new revenue guidance. This results in the revenue recognition accelerated from historical patterns and a shift in timing of quarterly revenue recognized. In addition, the Company recognizes the contingent commission as contract asset when the performance obligation is fulfilled but yet obtain unconditional rights of payment. As a result, the Company recognizes contract assets to distinguish from accounts receivable.
On January 1, 2018, the Company adopted, on a prospective basis, ASU No. 2016-01, (Subtopic 825-10), Recognition and Measurement of Financial Assets and Liabilities that makes limited changes to the accounting for financial instruments. The changes primarily relate to (i) the requirement to measure equity investments (except those accounted for under the equity method of accounting, or those that result in consolidation of the investee) at fair value, with changes in the fair value recognized in net income, (ii) an alternative approach for the measurement of equity investments that do not have a readily determinable fair value, (iii) the elimination of the other-than-temporary impairment model and its replacement with a requirement to perform a qualitative assessment to identify the impairment of equity investments, and a requirement to recognize impairment losses in net income based on the difference between the fair value and the carrying value of the equity investment, (iv) the elimination of the requirement to disclose the methods and significant assumptions used to estimate the fair value of financial instruments measured at amortized cost, (v) the addition of a requirement to use the exit price concept when measuring the fair value of financial instruments for disclosure purposes and (vi) the addition of a requirement to present financial assets and financial liabilities separately in the notes to financial statements, grouped by measurement category (e.g., fair value, amortized cost, lower of cost or market) and by form of financial asset (e.g., loans, equity securities).
We plan to adopt the standard as of January 1, 2019, the beginning of fiscal 2019. We will elect the package of practical expedients permitted under the transition guidance within the new standard, which among other things, allows us to continue to apply the legacy guidance in ASC 840 in the comparative periods presented in the year we adopt the new leases standard. Consequently, financial information will not be updated and the disclosures required under the new standard will not be provided for dates and periods before January 1, 2019. We will also elect the practical expedient that allows us to carry forward historical lease classifications and we will make an accounting policy election to keep leases with an initial term of 12 months or less off the balance sheet.
While substantially complete, the Company is still in the process of finalizing its evaluation of the effect of ASU 2016-02 on the Company’s financial statements and disclosures. The Company will finalize its accounting assessment and quantitative impact of the adoption during the first quarter of fiscal year 2019.
There were other updates recently issued. The management does not believe that other than disclosed above, accounting pronouncements the recently issued but not yet adopted will have a material impact on its financial position results of operations or cash flows.
NOTE 3 - CASH, CASH EQUIVALENTS AND RESTRICTED CASH AND CASH EQUIVALENTS
Cash, cash equivalents and restricted cash and cash equivalents consisted of the following as of December 31, 2018 and 2017:
On December 22, 2017, the Company and China Bills Finance Corporation entered into a repurchase agreement to purchase re-purchase bonds of $2,697,628 (NTD 80,000,000) with 0.38% interest rate annum. The re-purchase bonds were due in January and February 2018. During the fiscal year ended December 31, 2018, the Company purchased another re-purchase bonds of $5,254,096 (NTD 160,000,000) with 0.38% interest rate annum. The re-purchase bonds were due during July to September 2018. As of December 31, 2018, the re-purchase bonds held by the Company was nil.
Restricted cash equivalents include time deposits of $3,302,802 (NTD101,500,000), which were with original maturities less than three months and pledged to satisfy the requirements of certain debt agreements. Long-term restricted cash includes a mandatory deposit in the bank in conformity with Provisions of the Supervision and Administration of Specialized Insurance Agencies in PRC, which is not allowed to be withdrawn without the permission of the regulatory commission, and a trust account held for the bonus accrued for Law Broker’s general manager.
As of December 31, 2018 and 2017, the Company had time deposits of approximately $5,404,889 (NTD 165,200,000) and $1,641,905 (NTD 50,000,000) out of total $34,311,043 and $22,471,945, respectively, pledged as collateral for short-term loans. See Note 10.
On July 7, 2017, the Company entered into an agreement with Cathay United Bank to purchase a 185-day structured deposit in effective on July 7, 2017 and mature on January 8, 2018, with principal approximately $1,229,563 (RMB8 million). The structured deposit has an embedded foreign exchange option linked to US Dollar to China Yuan offshore exchange rate (“USDCNH”). Strike price of the structured deposit is set at 7.3 USDCNH and the fixing date is on January 4, 2018. Yield rate will be at 4.1% per annum when the USDCNH is above or equal strike price on the fixing date, or at 3.9% per annum when below.
On February 9, 2018, the Company entered into an agreement with CTBC Bank Co., Ltd. (CTBC) to purchase a one-month FX Swap and Forward Linked structured product in effective on February 13, 2018 and mature on March 29, 2018, with principal approximately $1,273,855 (RMB8 million). The structured deposit has an embedded foreign exchange forward linked to USDCNH.
From May to December of 2018, the Company entered into agreements with CTBC to purchase dual currency investment structured products which are embedded a foreign exchange option linked to USDCNH. The settlement amount on the maturity date is referring to the USDCNH on a valuation date which is compared with a pre-determined USDCNH (the “Strike Price”). The Company might receive the original investment amount in original currency back or might receive investment amount exchanged into another currency at the Strike Price back depending on the appreciation or depreciation between US Dollar and offshore China Yuan. The Company bears the risk of exchange losses of the investment amount. In addition, the Company will receive interest income at the maturities and the coupon rate ranges from 3.50% to 5.10% per annum.
As of December 31, 2018 and 2017, the Company had structured deposits of nil and $1,248,340, respectively. Gross unrealized losses on valuation of structured deposits as of December 31, 2018 and 2017 were nil and $30,211 respectively.
Depreciation expense was $375,588 and $325,212 for the years ended December 31, 2018 and 2017, respectively.
As of December 31, 2018 and 2017, the Company’s intangible assets consisted the following:
The change in carrying value of equity investment from December 31, 2017 to December 31, 2018 was entirely due to foreign currency translation.
O-Bank Co., Ltd. (“O-Bank”): The Company entered into a line of credit agreement with O-Bank for a $1,500,000 revolving credit facility from June 22, 2017 to June 21, 2018. The line of credit was renewed on September 4, 2018 and matures on September 3, 2019, with a revolving credit limit raised to $4,000,000. Borrowings under the agreement bear interest at the TAIFX3 rate plus a margin of 0.5%. On December 11, 2017, the Company draw down a borrowing of $600,000 with interest at a rate of 2.35% per annum. On December 26, 2017, the Company borrowed $800,000 with interest at a rate of 2.70% per annum. These amounts were paid off in March of 2018. On March 12, 2018, the Company draw down borrowings of $1,400,000 with interest at rates of 2.53% per annum. These amounts were paid off in June of 2018. On June 12, 2018, the Company draw down borrowings of $1,400,000 with interest at rates of 2.89% per annum. These amounts were paid off in September of 2018. On September 12, 2018, the Company draw down borrowings of $1,400,000 with interest at rate of 2.89% per annum. The Company paid down $500,000 and $900,000 of these amounts in September and October of 2018, respectively. On October 11 and October 12, 2018, the Company draw down borrowings of $1,500,000 and $900,000, respectively, with interest at a rate of 2.90% per annum. These amounts were paid off in December of 2018. On December 7 and December 25, 2018, the Company draw down borrowings of $2,400,000 and $1,200,000, with interest at a rate of 3.60% and 3.75% per annum, respectively. These amounts were paid off in January of 2019. The credit facility is secured by a total amount of approximately $4,492,078 (NTD 137,300,000) of time deposits.
CTBC Bank Co., Ltd. (“CTBC”): On November 17, 2017, the Company entered into a line of credit agreement with CTBC, pursuant to which the Company has a revolving credit facility of $1,000,000 from November 17, 2017 to July 31, 2018. This line of credit was renewed on September 12, 2018 and matures on August 31, 2019, with a revolving credit limit raised to $1,500,000. Borrowings under the agreement bear interest at the CTBC’s cost of fund plus a margin of 1%. On December 28, 2017, the Company draw down a borrowing of $950,000 with interest at a rate of 3.30% per annum. Law Broker is the guarantor of the credit facility. On January 29, 2018, the Company paid off the entire principal and interest of the borrowing. On October 11, 2018, the Company draw down a borrowing of $1,000,000 with interest at a rate of 3.26% per annum. The amount was paid off in November of 2018. On November 9, 2018, the Company draw down $1,000,000 with interest at a rate of 3.26% per annum. The amount was paid off in December of 2018. In December of 2018, the Company draw down borrowings of $3,000,000 with interest at a rate of 3.26% per annum. The borrowings were paid off in December of 2018. On December 28, 2018, the Company draw down $1,000,000 with interest at a rate of 4.10% per annum. Law Broker is the guarantor of the credit facility. The Company paid down $750,000 and $250,000 of these amounts in January and February of 2019, respectively.
Commissions payable to sales professionals are usually settled within twelve months. As of December 31, 2018 and 2017, the Company had the commissions payable obligation to sale professionals amounted $8,014,480 and $6,415,071, respectively.
The Company’s other liabilities consisted of the following as of December 31, 2018 and 2017:
On January 6, 2016, AHFL entered into an Amendment No. 2 to the Alliance Agreement (the “Second Amendment to the Alliance Agreement”) with AIATW to further revise certain provisions in the Strategic Alliance Agreement and the previous amendment entered into by and between AHFL and AIATW. To the extent permitted by applicable laws and regulations, AHFL shall assist and encourage any insurance agency company or insurance brokerage company duly approved by the competent government authorities of Taiwan (the “Appointed Broker/Agent”), to cooperate with AIATW for the promotion of life insurance products of AIATW. Pursuant to the Second Amendment to the Alliance Agreement, the expiration date of the Strategic Alliance Agreement was extended from May 31, 2018 to December 31, 2021, and the effect of the Alliance Agreement during the period from October 1, 2014 to December 31, 2015 was suspended. In addition, both AHFL and AIATW agreed to adjust certain terms and conditions set forth in the Alliance Agreement, among which: (i) expand the scope of services to be provided by AHFL to AIATW to include, without limitation, assessment and advice on suitability of cooperative partners, advice on product strategies suitable for promotion channel development, advice on promotion/sales channel improvement, advice on promotion channel marketing and strategic planning, and promotion channel talent training; and (ii) remove certain provisions related to performance milestones and refund of Execution Fees. On March 15, 2016, AHFL issued a promise letter (the “2016 Letter”) to AIATW that AHFL is required to (i) fulfill sales targets and (ii) the 13-month persistency ratio.
1) The revenue recognition for the first contract year is based on the annual first year premium (“AFYP”) set in Alliance Agreement, which is different from other contract years. From the second contract year to the seventh contract year, the revenue calculation is based on VONB. The Company recognized the first contract year’s revenue amount of $892,742 (NTD 27,137,958), net of Value-Added Tax (“VAT”) in 2017 due to uncertainty resolved after Amendment 3 went effective. Besides, on December 3, 2015 and February 23, 2016, the Company refunded the amounts of $160,573 (NTD4,761,905), net of VAT, and $530,056 (NTD15,719,185), net of VAT, to AIATW, respectively, due to the portion of performance sales targets not met during the first contract year based on original agreement and earlier amendments.
4) For the year ended December 31, 2018, the Company estimated to recognize the fourth contract year’s revenue amount of $391,223 (NTD11,788,229), net of VAT, and refund the amount of $651,816 (NTD19,640,341), net of VAT, for the same contract period based on the calculation of VONB and 13-month persistency. The revenue recorded and refund amounts were trued up to $412,230 (NTD 12,068,571) and $661,286 (NTD 19,360,000), respectively, for the year ended December 31, 2018 based on notice received from AIATW.
Due to previous shareholders of AHFL is the entire remaining balance payable of the acquisition cost. On March 12, 2017, the Company and the selling shareholders of AHFL entered into a fifth amendment to the acquisition agreement, pursuant to which, the Company agreed to make the cash payment in the amount of $480,559 (NTD15 million) on or prior to March 31, 2019. On March 27, 2019, the Company and the selling shareholders of AHFL entered into a sixth amendment to the acquisition agreement, pursuant to which, the Company agreed to make the cash payment in the amount of $480,559 (NTD15 million) on or prior to March 31, 2021.
· Series A Board Designee and Board Restriction. In addition to the voting rights disclosed above, the holders of the Series A Stock shall be entitled to appoint one director (the “Series A Director”). No Board resolution regarding certain material Company actions can be made without the affirmative vote of the Series A Director.
· Conversion Rights. The holders of the Series A Stock have the right to convert their shares thereof at any time into shares of the Registrant’s common stock. Each share of Series A Stock is convertible into one share of common stock.
According to Taiwan accounting rules and corporation regulations, the Company’s subsidiaries in Taiwan must appropriate 10% of net income to statutory reserves until the accumulated reserve reaches registered capital. The reserve can be converted into share capital by issuing new shares to existing shareholders in proportion to their shareholding or by increasing the par value of the shares currently held by them, with a limitation that the reserve left is not less than 25% of the registered capital after converting to share capital. As of December 31, 2018 and 2017, the Company had statutory reserves in responding to the regulations in Taiwan in the amount of $7,299,123 and $5,781,008, respectively.
Provision (benefit) for income taxes for the year ended December 31, 2018 consisted of:
Significant components of the deferred tax assets and liabilities for income taxes as of December 31, 2018 and 2017 consisted of the following:
The Company’s income tax expense is mainly generated by its subsidiaries in Taiwan and PRC.
The Company’s subsidiaries in Taiwan are governed by the Income Tax Law of Taiwan which was amended in February 2018. The major change was to increase the statutory tax rate on income reported in the statutory financial statements after appropriate adjustments from 17% to 20% starting from the beginning of 2018. In addition, the Income Tax Law of Taiwan provided that a company is taxed at an additional 10% on any undistributed earnings. This was reduced to 5% by the amended Income Tax Law of Taiwan. The Company has recorded an income tax expense of $21,434 for remeasuring the Company’s deferred tax as a result of increase in tax rate in the year ended December 31, 2018.
WFOE and the VIE in PRC are governed by the Income Tax Law of PRC concerning private-run enterprises, which are generally subject to tax at 25% on income reported in the statutory financial statements after appropriate adjustments, except for Jiangsu. For Jiangsu province in PRC, according to the requirement of local tax authorities, the tax basis is levied at 10% of total revenue, instead of net income.
As of December 31, 2017, Anhou and its branches elected to file joint tax returns under PRC tax jurisdiction. Due to the adoption of this filing method, operating loss in the branches from the year 2016 and prior can no longer be deducted from earnings beginning in the year 2017. However, any losses incurred in any of the branches in the joint tax return will be consolidated and any further losses in the joint tax return can be carried over five years from the year 2017.
In addition, the 2017 Tax Act also creates a new requirement that certain income (i.e., GILTI) earned by controlled foreign corporations (“CFCs”) must be included currently in the gross income of the CFCs’ U.S. shareholder. GILTI is the excess of the shareholder’s net CFC tested income over the net deemed tangible income return, which is currently defined as the excess of (1) 10 percent of the aggregate of the U.S. shareholder’s pro rata share of the qualified business asset investment of each CFC with respect to which it is a U.S. shareholder over (2) the amount of certain interest expense taken into account in the determination of net CFC-tested income. The FASB Staff Q&A, Topic 740 No. 5, Accounting for Global Intangible Low-Taxed Income, states that an entity can make an accounting policy election to either recognize deferred taxes for temporary differences expected to reverse as GILTI in future years or provide for the tax expense related to GILTI in the year that tax is incurred. The Company has elected to recognize the tax on GILTI as tax expense in the period the tax is incurred. For the year ended December 31, 2018, no GILTI tax obligation existed and no GILTI tax expense was recorded.
*Amounts due to Mr. Mao and Ms. Lu bear no interest and are payable on demand.
**25% of I Health Management Corp’s shares are owned by Multiple Capital Enterprise, and 24% of Multiple Capital Enterprise’s shares are owned by members of the Company’s management level.
On July 1, 2016, the Company entered into lease agreements with Yuli Broker and Yuli Investment separately, to lease their Nan-King East Road office space in Taipei City. The lease terms were both for one year commencing on July 1, 2016 and ending on June 30, 2017, with an annual base rent approximately of $610 (NTD18,000). On June 30, 2018, these lease agreements were extended automatically to June 30, 2019. The Company recorded rent income of $1,138 and $1,128, respectively, for the years ended December 31, 2018 and 2017.
Yuli Broker and Yuli Investment are owned by Ms. Lee who is the Director of Law Broker. The Company plans to invest in Yuli Broker and the application of the investment was approved by Investment Commission of the Ministry of Economic Affairs in Taiwan in January 2018. As of December 31, 2018, the Company has not commenced the investment.
The Company has operating leases for its offices. Rental expenses for the years ended December 31, 2018 and 2017 were $2,720,365, and $2,537,348, respectively. At December 31, 2018, total future minimum annual lease payments under operating leases were as follows, by years:
NOTE 22 - FINANCIAL RISK MANAGEMENT AND FAIR VALUE OF FINANCIAL INSTRUMENTS
The Company’s credit risk arises principally from accounts and other receivables, pledged deposits and cash and cash equivalents. Management has a credit policy in place and monitors exposures to these credit risks on an ongoing basis. The carrying amounts of trade and other receivables, pledged deposits and cash and cash equivalents represent the Company’s maximum exposure to credit risks. Accounts receivable are due within 30 days from the date of billing.
The BOD of the Company is responsible for the overall cash management and raising borrowings to cover expected cash demands. The Company regularly monitors its liquidity requirements, to ensure it maintains sufficient reserves of cash and readily realizable marketable securities and adequate committed lines of funding from major financial institutions to meet its liquidity requirements in the short and longer term.
Restricted cash - The fair value approximates the carrying amount due to the nature of cash held in restricted accounts.
Structured deposits - Structured deposits are hybrid instruments containing embedded derivatives. The valuation of the hybrid instruments is predominantly driven by the derivative features embedded within the instruments. The structured deposits are valued based on discounted cash flow analyses that consider the embedded derivative and terms and payment structure of the deposits. As of December 31, 2018 and 2017, the values of structured deposits were nil and $1,248,340 respectively. Gross unrealized losses on valuation of structured deposits at December 31, 2018 and 2017 were nil and $30,211 respectively.
The embedded derivative features are valued using Black & Scholes option pricing model that used significant unobservable inputs, i.e., volatility of options. The fair value is determined by using the counterparty’s pricing information. The volatility mentioned above is a pricing input for options. Generally, the higher the volatility of the underlying, the riskier the instrument. Given a long position in an option, an increase in volatility, in isolation, would generally result in an increase in a fair value measurement.
The Company organizes and manages its business as three operating segments by operating geographic areas. The business of WFOE, CU Hong Kong and the Company’s Consolidated Affiliated Entities (“CAE”) in PRC was managed and reviewed as PRC segment. The business of AHFL and its subsidiaries in Taiwan was managed and reviewed as Taiwan segment. The business of PFAL was managed and reviewed as Hong Kong segment. PRC and Taiwan segments retain majority of reported consolidated amounts.
The Company has evaluated all other subsequent events through the date these consolidated financial statements were issued and determine that there were no subsequent events or transactions that require recognition or disclosures in the consolidated financial statements except for the follows:
On March 27, 2019, a sixth Amendment to the Acquisition Agreement (the “Sixth Amendment to AHFL Acquisition Agreement”) was entered into by and among our Company and the selling shareholders of AHFL named therein. Pursuant to the Sixth Amendment to AHFL Acquisition Agreement, our Company agreed to distribute the cash payment in the amount of NT$15 million to the selling shareholders of AHFL named therein on or prior to March 31, 2021.