The accompanying notes are an integral part of these unaudited
condensed consolidated financial statements.
The accompanying notes are an integral part of these unaudited
condensed consolidated financial statements.
The accompanying notes are an integral part of these unaudited
condensed consolidated financial statements.
The accompanying notes are an integral part of these unaudited
condensed consolidated financial statements.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS (UNAUDITED)
NOTE 1. ORGANIZATION AND BASIS OF PRESENTATION
China HGS Real Estate, Inc. (“China
HGS” or the “Company” or “we”, “us”, “our”), through its subsidiaries and
variable interest entity (“VIE”), engages in real estate development, and the construction and sales of residential
apartments, parking spaces and commercial properties in Tier 3 and Tier 4 cities and counties in China.
The accompanying unaudited condensed consolidated
financial statements have been prepared in accordance with the U.S. generally accepted accounting principles (“GAAP”)
for interim financial information. Accordingly, they do not include all of the information and footnotes required by generally
accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting only
of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three
months ended December 31, 2020 and 2019 are not necessarily indicative of the results that may be expected for the full year. The
information included in this Form 10-Q should be read in conjunction with Management’s Discussion and Analysis of Financial
Condition and Results of Operations and the financial statements and notes thereto included in the Company’s Annual Report
on Form 10-K for the fiscal year ended September 30, 2020 filed with the SEC on January 13, 2021.
Liquidity
In recent years, the Chinese government
has implemented measures to control overheating residential and commercial property prices including but not limited to restrictions
on home purchase, increasing the down-payment requirement against speculative buying, development of low-cost rental housing properties
to help low-income groups while reducing the demand in the commercial housing market, increasing real estate property taxes to
discourage speculation, control of the land supply and slowdown the construction land auction process, etc. In addition, in
December 2019, a novel strain of coronavirus (COVID-19) surfaced. COVID-19 has spread rapidly throughout China and worldwide,
which has caused significant volatility in the PRC and international markets. There is significant uncertainty around the breadth
and duration of business disruptions related to COVID-19, as well as its impact on the PRC and international economies. To reduce
the spread of the COVID-19, the Chinese government has employed measures including city lockdowns, quarantines, travel restrictions,
suspension of business activities and school closures. Due to difficulties resulting from the COVID-19 outbreak, including, but
not limited to, the temporary closure of the Company’s facilities and operations beginning in early February through
early March 2020, limited support from the Company’s employees, delayed access to construction raw material supplies,
reduced customer visits to the Company’s sales office, and inability to promote the real estate property sales to customers
on a timely basis, our revenue during the three months ended December 2020 and 2019 were lower when comparing the rest period of
the year. The Company had revenue of approximately $2.8 million, slightly increased from $2.3 million in the same three month period
of last year. Based on the assessment of current economic environment, customer demand and sales trends, and the negative impact
from COVID-19 outbreak and spread, we believe that the real estate market downturn will continue to be uncertain in the coming
periods. As a result, the developing period of real estate properties and our operating cycle has been extended and we may not
be able to liquidate our large balance of completed real estate property within the short term as we originally expected. In addition,
as of December 31, 2020, we had large construction loans payable of approximately $116.0 million and large accounts payable balance
of approximately $26.3 million to be paid to subcontractors within one year. The above mentioned facts raise substantial doubt
about the Company's ability to continue as a going concern from the date of this filing.
In assessing its liquidity, management
monitors and analyzes the Company’s cash on-hand, its ability to generate sufficient revenue sources in the future, and its
operating and capital expenditure commitments. As of December 31, 2020, our total cash and restricted cash balance increased to
approximately $4.7 million as compared to approximately $3.9 million as of September 30, 2020. With respect to capital funding
requirements, the Company budgeted our capital spending based on ongoing assessments of needs to maintain adequate cash. As of
December 31, 2020, we had approximately $96.6 million completed residential apartments and commercial units available for sale
to potential buyers. Although we reported approximately $26.3 million accounts payable as of December 31, 2020, due to the long
term relationship with our construction suppliers and subcontractors, we were able to effectively manage cash spending on construction
and negotiate with them to adjust the payment schedule based on our cash on hand. In addition, most of our existing real estate
development projects relate to old town renovation which are supported by local government. As of December 31, 2020, we reported
approximately $116.0 million construction loans borrowed from financial institutions controlled by local government and such loans
can only be used on old town renovation related project development. We expect that we will be able to renew all of the existing
construction loans upon their maturity and borrow additional new loans from local financial institutions when necessary, based
on our past experience and the Company’s good credit history. Also, the Company’s cash flows from pre-sales and current
sales should provide financial support for our current developments and operations. As of December 31, 2020, we had approximately
$21.9 million customer deposits representing cash advances from buyers for pre-sales of our residential units and we believe such
cash advances can be used to fund our ongoing construction projects whenever necessary. For the three months ended December 31,
2020, we had five large ongoing construction projects (see Note 3, real estate property under development) which were under the
preliminary development stage due to delayed inspection and acceptance of the development plans by the local government. In June 2020,
we completed the residence relocation surrounding Liangzhou Road related projects and launched the construction of Liangzhou Road
related projects in December 2020. For the other four projects, we expect we will be able to obtain the government’s approval
of the development plans on these projects in the coming fiscal year and start the pre-sale of the real estate property to generate
cash when certain property development milestones have been achieved. In addition, our principal shareholder, Mr. Xiaojun
Zhu has been providing and has committed to continue to provide his personal funds to support the Company’s operation whenever
necessary.
CHINA HGS REAL ESTATE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS (UNAUDITED)
NOTE 2. SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES
Principles of consolidation
The unaudited condensed consolidated financial
statements include the financial statements of China HGS Real Estate Inc. (the “Company” or “China HGS”),
China HGS Investment Inc. (“HGS Investment”), Shaanxi HGS Management and Consulting Co., Ltd. (“Shaanxi HGS”)
and its variable interest entity (“VIE”), Shaanxi Guangsha Investment and Development Group Co., Ltd. (“Guangsha”).
All inter-company transactions and balances between the Company and its subsidiaries and VIE have been eliminated upon consolidation.
Use of estimates
The preparation of financial statements
in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the consolidated
financial statements and accompanying notes, and disclosure of contingent liabilities at the date of the consolidated financial
statements. Estimates are used for, but not limited to, the assumptions and estimates used by management in recognizing development
revenue under the percentage of completion method, the selection of the useful lives of property and equipment, provision necessary
for contingent liabilities, revenue recognition, taxes and budgeted costs. Management believes that the estimates utilized in preparing
its consolidated financial statements are reasonable and prudent. Actual results could differ from these estimates.
Fair value of financial instruments
The Company follows the provisions of the
Financial Accounting Standard Board (“”FASB”) Accounting Standards Codification (“ASC”) 820, Fair
Value Measurements and Disclosures. It clarifies the definition of fair value, prescribes methods for measuring fair value, and
establishes a fair value hierarchy to classify the inputs used in measuring fair value as follows:
Level 1-Inputs are unadjusted quoted prices
in active markets for identical assets or liabilities available at the measurement date.
Level 2-Inputs are unadjusted quoted prices
for similar assets and liabilities in active markets, quoted prices for identical or similar assets and liabilities in markets
that are not active, inputs other than quoted prices that are observable, and inputs derived from or corroborated by observable
market data.
Level 3-Inputs are unobservable inputs
which reflect the reporting entity’s own assumptions or what assumptions the market participants would use in pricing the
asset or liability based on the best available information.
The carrying amounts reported in the accompanying
consolidated balance sheets for cash, restricted cash and all other current assets, security deposits for land use rights, loans
and all current liabilities approximate their fair value based on the short-term maturity of these instruments. The fair value
of the long term customer, construction and security deposits approximate their carrying amounts because the deposits are received
in cash. It was impractical to estimate the fair value of the amount due from the local government and the long term other loans
payable.
Revenue recognition
The Company adopted FASB ASC Topic 606
Revenue from Contracts with Customers (“ASC 606”) on October 1, 2018 using the modified retrospective approach. Under
ASC 606, Revenue from Contracts with Customers, revenue is recognized in accordance with the transfer of goods and services to
customers at an amount that reflects the consideration that the Company expects to be entitled to for those goods and services.
The Company determines revenue recognition through the following steps:
· identification
of the contract, or contracts, with a customer;
· identification
of the performance obligations in the contract;
· determination
of the transaction price, including the constraint on variable consideration;
· allocation
of the transaction price to the performance obligations in the contract; and
· recognition
of revenue when (or as) the Group satisfy a performance obligation.
Most of the Company’s revenue is
derived from real estate sales of condominiums and commercial properties in the PRC. The majority of the Company’s contracts
contain a single performance obligation involving significant real estate development activities that are performed together to
deliver a real estate property to customers. Revenues arising from real estate sales are recognized when or as the control of the
asset is transferred to the customer. The control of the asset may transfer over time or at a point in time. For the sales of individual
condominium units in a real estate development project, the Company has an enforceable right to payment for performance completed
to date, revenue is recognized over time by measuring the progress towards complete satisfaction of that performance obligation
(“percentage completion method”). Otherwise, revenue is recognized at a point in time when the customer obtains control
of the asset.
Under percentage completion method, revenue
and profit from the sales of long term real estate development properties is recognized by the percentage of completion method
on the sale of individual units when all the following criteria are met:
|
a.
|
Construction is beyond a preliminary stage.
|
|
b.
|
The buyer is committed to the extent of being unable to require a refund except for non-delivery of the unit or interest.
|
|
c.
|
Sufficient units have already been sold to assure that the entire property will not revert to rental property.
|
|
d.
|
Sales prices are collectible.
|
|
e.
|
Aggregate sales proceeds and costs can be reasonably estimated.
|
If any of the above criteria is not met,
proceeds shall be accounted for as deposits until the criteria are met.
Under the percentage of completion method,
revenues from individual real estate condominium units sold under development and related costs are recognized over the course
of the construction period, based on the completion progress of a project. The progress towards complete satisfaction of the performance
obligation is measured based on the Company’s efforts or inputs to the satisfaction of the performance obligation, by reference
to the contract costs incurred up to the end of reporting period as a percentage of total estimated costs for each contract. In
relation to any project, revenue is determined by calculating the ratio of incurred costs, including land use rights costs and
construction costs, to total estimated costs and applying that ratio to the contracted sales amounts. Cost of sales is recognized
by determining the ratio of contracted sales during the period to total estimated sales value, and applying that ratio to the incurred
costs. Current period amounts are calculated based on the difference between the life-to-date project totals and the previously
recognized amounts.
Any changes in significant judgments and/or
estimates used in determining construction and development revenue could significantly change the timing or amount of construction
and development revenue recognized. Changes in total estimated project costs or losses, if any, are recognized in the period in
which they are determined.
Revenue from the sales of previously completed
real estate condominium units is recognized at the time of the closing of an individual unit sale. This occurs when the customer
obtains the physical possession, the legal title, or the significant risks and rewards of ownership of the assets and the Company
has present right to payment and the collection of the consideration is probable. For municipal road construction projects, fees
are generally recognized at the time of the projects are completed.
Disaggregation of Revenues
Disaggregated revenues was as follows:
|
|
For the three months ended
December 31,
|
|
|
|
2020
|
|
|
2019
|
|
|
|
(Unaudited)
|
|
|
(Unaudited)
|
|
Revenue recognized for completed condominium real estate projects
|
|
$
|
2,755,262
|
|
|
$
|
2,304,244
|
|
Revenue recognized for condominium real estate projects under development
|
|
|
-
|
|
|
|
-
|
|
Total
|
|
$
|
2,755,262
|
|
|
$
|
2,304,244
|
|
CHINA HGS REAL ESTATE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS (UNAUDITED)
NOTE 2. SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (continued)
Revenue recognition (continued)
Contract balances
Timing of revenue recognition may differ
from the timing of billing and cash receipts from customers. The Company records a contract asset when revenue is recognized prior
to invoicing, or a contract liability when cash is received in advance of recognizing revenue. A contract asset is a right to consideration
that is conditional upon factors other than the passage of time. Contract assets include billed and billable receivables, which
are the Company’s unconditional rights to consideration other than to the passage of time. Contract liabilities include cash
collected in excess of revenues. Customer deposits are excluded from contract liabilities.
The Company has elected to apply the optional
practical expedient for costs to obtain a contract which allows the Company to immediately expense sales commissions (included
under selling expenses) because the amortization period of the asset that the Company otherwise would have used is one year or
less.
The Company provides “mortgage loan
guarantees” only with respect to buyers who make down-payments of 20%-50% of the total purchase price of the property. The
period of the mortgage loan guarantee begins on the date the bank approves the buyer’s mortgage and we receive the loan proceeds
in our bank account and ends on the date the “Certificate of Ownership” evidencing that title to the property has been
transferred to the buyer. The procedures to obtain the Certificate of Ownership take six to twelve months (the “Mortgage
Loan Guarantee Period”). If, after investigation of the buyer’s income and other relevant factors, the bank decides
not to grant the mortgage loan, our mortgage-loan based sales contract terminates and there will be no guarantee obligation. If,
during the Mortgage Loan Guarantee Period, the buyer defaults on his or her monthly mortgage payment for three consecutive months,
we are required to return the loan proceeds back to the bank, although we have the right to keep the customer's deposit and resell
the property to a third party. Once the Certificate of Property has been issued by the relevant government authority, our loan
guarantee terminates. If the buyer then defaults on his or her mortgage loan, the bank has the right to take the property back
and sell it and use the proceeds to pay off the loan. The Company is not liable for any shortfall that the bank may incur in this
event. To date, no buyer has defaulted on his or her mortgage payments during the Mortgage Loan Guarantee Period and the Company
has not returned any loan proceeds pursuant to its mortgage loan guarantees.
Foreign currency translation
The Company’s financial information
is presented in U.S. dollars. The functional currency of the Company’s operating subsidiaries is Renminbi (“RMB”),
the currency of the PRC. The financial statements of the Company have been translated into U.S. dollars in accordance with ASC
830-30 “Translation of Financial Statements”. The financial information is first prepared in RMB and then is translated
into U.S. dollars at the balance sheet dates exchange rates as to assets and liabilities and average exchange rates as to revenue
and expenses. Capital accounts are translated at their historical exchange rates when the capital transactions occurred. The effects
of foreign currency translation adjustments are included as a component of accumulated other comprehensive income in stockholders’
equity.
|
|
For three months ended
December 31,
|
|
|
September 30,
|
|
|
|
2020
|
|
|
2019
|
|
|
2020
|
|
|
|
(Unaudited)
|
|
|
(Unaudited)
|
|
|
|
|
Period end RMB:USD exchange rate
|
|
|
6.5250
|
|
|
|
6.9618
|
|
|
|
6.7896
|
|
Period average RMB:USD exchange rate
|
|
|
6.6235
|
|
|
|
7.0448
|
|
|
|
7.0056
|
|
The RMB is not freely convertible into
foreign currency and all foreign exchange transactions must take place through authorized institutions. No representation is made
that the RMB amounts could have been, or could be, converted into U.S. dollars at the rates used in translation.
CHINA HGS REAL ESTATE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS (UNAUDITED)
NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Real estate property development completed
and under development
Real estate property consists of finished
residential unit sites, commercial offices and residential unit sites under development. The Company leases the land for the residential
unit sites under land use right leases with various terms from the PRC government. The cost of land use rights is included in the
development cost and allocated to each project. Real estate property development completed and real estate property under development
are stated at the lower of cost or fair value.
Expenditures for land development, including
cost of land use rights, deed tax, pre-development costs, and engineering costs, exclusive of depreciation, are capitalized and
allocated to development projects by the specific identification method. Costs are allocated to specific units within a project
based on the ratio of the sales area of units to the estimated total sales area of the project (or phase of the project) multiplied
by the total cost of the project (or phase of the project).
Cost of amenities transferred to buyers
is allocated to specific units as a component of total construction cost. The amenity cost includes landscaping, road paving, etc.
Once the projects are completed, the amenities are under control of the property management companies.
Real estate property development completed
and under development are subject to valuation adjustments when the carrying amount exceeds fair value. An impairment loss is recognized
only if the carrying amount of the assets is not recoverable and exceeds its fair value. The carrying amount is not recoverable
if it exceeds the sum of the undiscounted cash flows expected to be generated by the assets. The Company reviewed all of its real
estate projects for future losses and impairment by comparing the estimated future undiscounted cash flows for each project to
the carrying value of such project. For the three months ended December 31, 2020 and 2019, the Company did not recognized an impairment
for real estate property completed.
Capitalization of Interest
Interest incurred during and directly related
to real estate development projects is capitalized to the related real estate property under development during the active development
period, which generally commences when borrowings are used to acquire real estate assets and ends when the properties are substantially
complete or the property becomes inactive. Interest is capitalized based on the interest rate applicable to specific borrowings
or the weighted average of the rates applicable to other borrowings during the period. Interest capitalized to real estate property
under development is recorded as a component of cost of real estate sales when related units are sold. All other interest is expensed
as incurred. For the three months ended December 31, 2020 and 2019, the total interest capitalized in the real estate property
development was $1,769,564 and $1,748,417, respectively.
Impairment of long-lived assets
The Company reviews its long-lived assets
for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable
through the estimated undiscounted cash flows expected to result from the use and eventual disposition of the assets. Whenever
any such impairment exists, an impairment loss will be recognized for the amount by which the carrying value exceeds the fair value.
Assets are grouped and evaluated at the
lowest level for their identifiable cash flows that are largely independent of the cash flows of other groups of assets. The Company
considers historical performance and future estimated results in its evaluation of potential impairment and then compares the carrying
amount of the asset to the future estimated cash flows expected to result from the use of the asset. If the carrying amount of
the asset exceeds its estimated expected undiscounted future cash flows, the Company measures the amount of impairment by comparing
the carrying amount of the asset to its fair value. The estimation of fair value is generally determined by using the asset's expected
future discounted cash flows or market value. The Company estimates fair value of the assets based on certain assumptions such
as budgets, internal projections, and other available information as considered necessary. There was no impairment of long-lived
assets for the three months ended December 31, 2020 and 2019.
CHINA HGS REAL ESTATE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS (UNAUDITED)
NOTE 2. SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (continued)
Income taxes
Deferred tax assets and liabilities are
for the expected future tax consequences of events that have been included in the financial statements or tax returns. Under this
method, deferred income taxes are recognized for the tax consequences in future years of differences between the tax bases of assets
and liabilities and their financial reporting amounts at each period end based on enacted tax laws and statutory tax rates applicable
to the periods in which the differences are expected to affect taxable income. A valuation allowances is established, when necessary,
to reduce deferred tax assets to the amount expected to be realized.
ASC 740-10-25 prescribes a more-likely-than-not
threshold for consolidated financial statement recognition and measurement of a tax position taken (or expected to be taken) in
a tax return. It also provides guidance on the recognition of income tax assets and liabilities, classification of current and
deferred income tax assets and liabilities, accounting for interest and penalties associated with tax positions, years open for
tax examination, accounting for income taxes in interim periods and income tax disclosures. There are no material uncertain tax
positions as of December 31, 2020 and September 30, 2020.
The Company is a corporation organized
under the laws of the State of Florida. However, all of the Company’s operations are conducted solely by its subsidiaries
and VIE in the PRC. No income is earned in the United States and the management does not repatriate any earnings outside the PRC.
As a result, the Company did not generate any U.S. taxable income for the three months ended December 31, 2020 and 2019. As of
December 31, 2020, the Chinese entities’ income tax returns filed in China for the years ended December 31, 2020, 2019,
2018, 2017 and 2016 are subject to examination by the Chinese taxing authorities.
As of December 31, 2020, the tax years
ended September 30, 2016 through September 30, 2020 for the Company’s PRC entities remain open for statutory examination
by PRC tax authorities. The parent Company China HGS Real Estate Inc.’s both U.S. federal tax returns and Florida state tax
returns are delinquent since 2009. Its tax years ended September 30, 2009 through September 30, 2020 remain open for
statutory examination by U.S. federal and state tax authorities.
On December 22, 2017, the Tax Cuts
and Jobs Act of 2017 (the “Act”) was signed into law making significant changes to the Internal Revenue Code. Changes
include, but are not limited to, a U.S. corporate tax rate decrease from 35% to 21% effective for tax years beginning after December 31,
2017, the transition of U.S international taxation from a worldwide tax system to a territorial system, and a one-time transition
tax on the mandatory deemed repatriation of cumulative foreign earnings as of December 31, 2017. Due to the complexity involved
in applying the provisions of the Tax Act, we made reasonable estimates of the effects and recorded accrued amounts in our consolidated
financial statements as of December 31, 2020 and September 30, 2020, including an approximately $2.3 million provision on
the deemed repatriation of undistributed foreign earnings and an additional $0.8 million provision for delinquent U.S. and State
tax fillings. The Company is in the process of engaging a tax professional to file its delinquent tax returns. Failure to furnish
any income tax and information returns with respect to any foreign business entity required, within the time prescribed by the
IRS, subjects the Company to civil penalties.
Land appreciation tax (“LAT”)
In accordance with the relevant taxation
laws in the PRC, the Company is subject to LAT based on progressive rates ranging from 30% to 60% on the appreciation of land value,
which is calculated as the proceeds of sales of properties less deductible expenditures including borrowing costs and all property
development expenditures. LAT is exempted if the appreciation values do not exceed certain thresholds specified in the relevant
tax laws.
The whole project must be completed before
the LAT obligation can be assessed. Accordingly, the Company should record the liability and the total related expense at the completion
of a project unless the tax authorities impose an assessment at an earlier date. The methods to implement this tax law vary among
different geographic areas. Hanzhong, where the project Mingzhu Garden, Nan Dajie and Central Plaza are located, implements this
tax rule by requiring real estate companies prepay the LAT based upon customer deposits received. The tax rate in Hanzhong
is 1%. Yang County, where the project Yangzhou Pearl Garden and Yangzhou Palace are located, requires a tax rate of 0.5%.
Comprehensive income (loss)
In accordance with ASC 220-10-55, comprehensive
income (loss) is defined as all changes in equity except those resulting from investments by owners and distributions to owners.
The Company’s only components of comprehensive income (loss) for the three months ended December 31, 2020 and 2019 were net
income and foreign currency translation adjustments.
CHINA HGS REAL ESTATE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS (UNAUDITED)
NOTE 2. SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (continued)
Basic and diluted earnings (loss) per
share
The Company computes earnings (loss) per
share (“EPS”) in accordance with the ASC 260, “Earnings per share”, which requires companies to present
basic and diluted EPS. Basic EPS is measured as net income (loss) divided by the weighted average common shares outstanding
for the period. Diluted EPS is similar to basic EPS but presents the dilutive effect on a per share basis of potential common
shares (e.g., convertible securities, options and warrants) as if they had been converted at the beginning of the periods presented,
or issuance date, if later. Potential common shares that have an anti-dilutive effect (i.e., those that increase income per
share or decrease loss per share) are excluded from the calculation of diluted EPS. There were no anti-dilutive shares for
the three months ended December 31, 2020 and 2019.
Concentration risk
The Company's operations are carried out
in the PRC. Accordingly, the Company's business, financial condition and results of operations may be influenced by the political,
economic and legal environment in the PRC, and by the general state of the PRC's economy. The Company's operations in the PRC are
subject to specific considerations and significant risks not typically associated with companies in North America. The Company's
results may be adversely affected by changes in governmental policies with respect to laws and regulations, anti-inflationary measures,
currency conversion and remittance abroad, and rates and methods of taxation, among other things. Financial instruments which potentially
subject the Company to concentrations of credit risk consist principally of cash and trade accounts receivable. The Company’s
cash and restricted cash were on deposit at financial institutions in the PRC, which the management believes are of high credit
quality. In May, 2015, China’s new Deposit Insurance Regulation came into effect, pursuant to which banking financial institutions,
such as commercial banks, established in China are required to purchase deposit insurance for deposits in RMB and in foreign currency
placed with them. Such Deposit Insurance Regulation would not be effective in providing complete protection for the Company’s
accounts, as its aggregate deposits are much higher than the compensation limit. However, the Company believes that the risk of
failure of any of these Chinese banks is remote. Bank failure is uncommon in China and the Company believes that those Chinese
banks that hold the Company’s cash and restricted cash are financially sound based on public available information. For the
years ended September 30, 2020 and 2019, the Company has not experienced any delinquent mortgage loans and has not experienced
any losses related to this guarantee. The Company believes that such reserves are sufficient.
The Company is dependent on third-party
sub-contractors, manufacturers, and distributors for all construction services and supply of construction materials. For the three
months ended December 31, 2020 and 2019, none supplier accounted for more than 10% of the total project expenditures.
Recent Accounting Pronouncements
In June 2016, the FASB issued ASU No. 2016-13,
“Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments,” which requires
the Company to measure and recognize expected credit losses for financial assets held and not accounted for at fair value through
net income. In November 2018, April 2019 and May 2019, the FASB issued ASU No. 2018-19, “Codification Improvements to Topic
326, Financial Instruments - Credit Losses,” “ASU No. 2019-04, Codification Improvements to Topic 326, Financial Instruments
- Credit Losses,” “Topic 815, Derivatives and Hedging, and Topic 825, Financial Instruments,” and “ASU
No. 2019-05, Financial Instruments - Credit Losses (Topic 326): Targeted Transition Relief,” which provided additional implementation
guidance on the previously issued ASU. The ASU is effective for fiscal years beginning after December 15, 2020. The ASU requires
a modified retrospective adoption method. The Company is still evaluating the impact of adoption on its financial statements and
disclosures.
In October 2018, the FASB issued ASU
No. 2018-17 (“ASU 2018-17”), Consolidation (Topic 810): Targeted Improvements to Related Party Guidance for Variable
Interest Entities. The updated guidance requires entities to consider indirect interests held through related parties under common
control on a proportional basis rather than as the equivalent of a direct interest in its entirety when determining whether a decision-making
fee is a variable interest. The amendments in this update are effective for non-public business entities for fiscal years beginning
after December 15, 2020, and interim periods within fiscal years beginning after December 15, 2021, with early adoption
permitted. These amendments should be applied retrospectively with a cumulative-effect adjustment to retained earnings at the beginning
of the earliest period presented. The Company is currently evaluating the impact of adopting this standard on its consolidated
financial statements.
In December 2019, the FASB issued
ASU No. 2019-12, Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes, to simplify the accounting for
income taxes. The new guidance eliminates certain exceptions related to the approach for intraperiod tax allocation, the methodology
for calculating income taxes in an interim period and the recognition of deferred tax liabilities for outside basis differences.
It also simplifies aspects of the accounting for franchise taxes and enacted changes in tax laws or rates and clarifies the accounting
for transactions that result in a step-up in the tax basis of goodwill. This ASU will become effective for the Company's annual
and interim periods beginning in January 1, 2021, and early adoption is permitted. The Company does not believe the adoption
of this ASU would have a material effect on the Company’s unaudited condensed consolidated financial statements and related
disclosures.
Management has considered all recent accounting
pronouncements issued. The Company’s management believes that these recent pronouncements will not have a material effect
on the Company’s financial statements.
CHINA HGS REAL ESTATE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS (UNAUDITED)
NOTE 3. REAL ESTATE PROPERTY DEVELOPMENT
COMPLETED AND UNDER DEVELOPMENT
The following summarizes the components of real estate property
development completed and under development as of December 31, 2020 and September 30, 2019:
|
|
Balance as of
|
|
|
|
December 31, 2020
|
|
|
September 30, 2020
|
|
|
|
(Unaudited)
|
|
|
|
|
Development completed:
|
|
|
|
|
|
|
|
|
Hanzhong City Mingzhu Garden Phase II
|
|
|
23,631,380
|
|
|
|
22,801,439
|
|
Hanzhong City Oriental Pearl Garden
|
|
|
20,745,589
|
|
|
|
19,937,105
|
|
Yang County Yangzhou Pearl Garden Phase II
|
|
|
2,663,789
|
|
|
|
2,559,977
|
|
Yang County Yangzhou Palace
|
|
|
49,587,958
|
|
|
|
49,372,737
|
|
Real estate property development completed
|
|
|
96,628,716
|
|
|
|
94,671,258
|
|
Under development:
|
|
|
|
|
|
|
|
|
Hanzhong City Liangzhou Road and related projects (a)
|
|
|
173,712,144
|
|
|
|
164,879,955
|
|
Hanzhong City Hanfeng Beiyuan East (b)
|
|
|
1,657,408
|
|
|
|
824,496
|
|
Hanzhong City Beidajie (b)
|
|
|
59,463,709
|
|
|
|
57,142,127
|
|
Yang County East 2nd Ring Road (c)
|
|
|
5,092,917
|
|
|
|
4,894,439
|
|
Real estate property under development
|
|
|
239,926,178
|
|
|
|
227,741,017
|
|
|
(a)
|
In September 2013, the Company entered into an agreement (“Liangzhou
Agreement”) with the Hanzhong local government on the Liangzhou Road reformation and expansion project (Liangzhou Road Project”).
Pursuant to the agreement, the Company is contracted to reform and expand the Liangzhou Road, a commercial street in downtown Hanzhong
City, with a total length of 2,080 meters and width of 30 meters and to resettle the existing residences in the Liangzhou road
area. The government’s original road construction budget was approximately $33 million in accordance with the Liangzhou Agreement.
The Company, in return, is being compensated by the local government to have an exclusive right on acquiring at least 394.5 Mu
land use rights in a specified location of Hanzhong City. The Liangzhou Road Project’s road construction started at the end
of 2013. In 2014, the original scope and budget on the Liangzhou road reformation and expansion project was extended, because the
local government included more area and resettlement residences into the project, which resulted in additional investments from
the Company. In return, the Company is authorized by the local government to develop and manage the commercial and residential
properties surrounding the Liangzhou Road project. As of December 31, 2020, the main Liangzhou road construction is substantially
completed. The Company also completed the relocation of residents by the end of June 2020 and launched the construction of the
Liangzhou Road related projects in December 2020.
The Company’s development cost incurred
on Liangzhou Road Project is treated as the Company’s deposit on purchasing the related land use rights, as agreed by the
local government. As of December 31, 2020, the actual costs incurred by the Company were $173,712,144 (September 30, 2019 - $164,879,955)
and the incremental cost related to residence resettlement approved by the local government. The Company determined that the Company’s
Investment in Liangzhou Road Project in exchange for interests in future land use rights is a barter transaction with commercial
substance.
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CHINA HGS REAL ESTATE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS (UNAUDITED)
NOTE 3. REAL ESTATE PROPERTY DEVELOPMENT
COMPLETED AND UNDER DEVELOPMENT
|
(b)
|
In September 2012, the Company was approved by the Hanzhong local government to construct four municipal roads with a total length of approximately 1,192 meters. The project was deferred and then restarted during the quarter ended June 30, 2014. As of December 31, 2020, the local government has not completed the budget for these projects therefore the delivery for these projects for government’s acceptance and related settlement were extended to 2021.
|
|
(c)
|
The Company was engaged by the Yang County local government to construct
the East 2nd Ring Road with a total length of 2.15 km. The local government is required to repay the Company’s project investment
costs within 3 years with interest at the interest rate based on the commercial borrowing rate with the similar term published
by the China Construction Bank (December 31,2020 and 2019 - 4.75%). The local government has approved a refund to the Company by
reducing local surcharges or taxes otherwise required in the real estate development. The road construction was substantially completed
as of December 31, 2020 and in process of government review and approval.
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NOTE 4. CONSTRUCTION LOANS
|
|
December 31,
2020
|
|
|
September 30,
2020
|
|
|
|
(Unaudited)
|
|
|
|
|
Loan A
|
|
$
|
97,832,408
|
|
|
$
|
92,450,491
|
|
Loan B
|
|
|
18,196,042
|
|
|
|
17,486,917
|
|
Total
|
|
$
|
116,028,450
|
|
|
$
|
109,937,408
|
|
CHINA HGS REAL ESTATE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS (UNAUDITED)
NOTE 4. CONSTRUCTION LOANS (continued)
|
(A)
|
On June 26, 2015 and March 10, 2016, the Company signed
phase I and Phase II agreements with Hanzhong Urban Construction Investment Development Co., Ltd, a state owned Company, to borrow
up to approximately $118.8 million (RMB 775,000,000) for a long term loan at 4.75% interest per year to the develop Liangzhou Road
Project. As of September 30, 2020, the Company borrowed $97,832,408 under this credit line with final due date in October 2021.
Due to local government’s delay in reallocation of residence in Liangzhou Road and related area, the Hanzhong Urban Construction
Investment Development Co., Ltd has not released all the funds available in this loan to the Company and the Company’s withdraws
will be based on the project’s development progress and the Company expects the loan will be extended upon maturity. The
loan is guaranteed by Hanzhong City Hantai District Municipal Government and pledged by the Company’s Yang County Yangzhou
Palace project with a carrying value of $49,587,958 as of December 31, 2020 (September 30, 2020- $49,372,737). For the three
months ended December 31, 2020 and 2019, the interest incurred was $1,632,889 and $1,596,250, respectively, which was capitalized
into the development cost of the Liangzhou road project.
|
|
(B)
|
In December 2016, the Company signed a loan agreement with Hantai
District Urban Construction Investment Development Co., Ltd, a state owned Company, to borrow up to approximately $18.2 million
(RMB 119,000,000) for the development of Hanzhong City Liangzhou Road project. The loan carries interest at a fixed annual interest
of 1.2% and is due on June 20, 2031. The Company is required to repay the loan by equal annual principal repayments of approximately
$3.3 million from December 2027 through June 2031 and the interest is payable on an annual basis. The Company pledged the assets
of the Liangzhou Road related projects with a carrying value of $173,712,144 as collateral for the loan. Total interest of $55,321
and $51,239 for the three months ended December 31, 2020 and 2019, respectively, were capitalized into the development cost of
Hanzhong City Liangzhou Road project.
|
|
Additionally, in September 2017, the Urban Development Center Co., Ltd. approved a construction loan for the Company
in the amount of approximately $26.8 million (RMB 175,000,000) with an annual interest rate of 1.2% per year in connection with
the Liangzhou Road and related Project. The Company is required to repay the loan by equal annual principal repayment of approximately
$5 million from December 2027 through May 2031 and the interest is payable on an annual basis. The amount of this loan is available
to be drawn down as soon as the land use rights of the Liangzhou Road project is approved and the construction starts, which is
expected to begin in 2021. As of December 31, 2020 and September 30, 2020, the outstanding balance of the loan was Nil. Interest
charges for the three months ended December 31, 2020 and 2019 was $81,354 and $75,351, respectively, which was included in the
construction capitalized costs.
|
CHINA HGS REAL ESTATE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS (UNAUDITED)
NOTE 5. CUSTOMER DEPOSITS
Customer deposits consist of amounts received from customers
for the pre-sale of residential units in the PRC. The detail of customer deposits is as follows:
|
|
December 31,
2020
|
|
|
September 30,
2020
|
|
|
|
(Unaudited)
|
|
|
|
|
Customer deposits by real estate projects:
|
|
|
|
|
|
|
|
|
Mingzhu Garden (Mingzhu Nanyuan and Mingzhu Beiyuan)
|
|
$
|
7,902,613
|
|
|
$
|
7,606,944
|
|
Oriental Pearl Garden
|
|
|
4,688,467
|
|
|
|
4,358,467
|
|
Liangzhou road and related projects
|
|
|
878,161
|
|
|
|
888,123
|
|
Yangzhou Pearl Garden
|
|
|
1,311,584
|
|
|
|
1,243,137
|
|
Yangzhou Palace
|
|
|
7,158,811
|
|
|
|
5,308,857
|
|
Total
|
|
$
|
21,939,636
|
|
|
$
|
19,405,528
|
|
Customer deposits are typically 10% - 20%
of the unit price for those customers who purchase properties in cash and 30%-50% of the unit price for those customers who purchase
properties with mortgages. Buyers with mortgage loans pay customer deposits. The banks provide the balance of the funding to the
Company upon consummation of the sales. The banks hold the properties as collateral for customers’ mortgage loans. If the
customers default, the bank will repossess the collateral properties. Except during the Mortgage Loan Guarantee Period of approximately
six to twelve months, the banks have no recourse to the Company for customers’ defaults. As of December 31, 2020 and September 30,
2020, approximately $3.4 million and $3.4 million was guaranteed by the Company, respectively.
NOTE 7. TAXES
(A) Business sales tax and VAT
The Company is subject to a 5% business
sales tax on revenue. It is the Company’s continuing practice to recognize the 5% business sales tax based on revenue as
a cost of sales as the revenue is recognized. As of December 31, 2020, the Company had business sales tax payable of $4,425,570
(2019 - $5,159,296), which is expected to be paid when the projects are completed and assessed by the local tax authority. In May
of 2016, the Business Tax has been incorporated into a Value Added Tax in China, which means there will be no more Business Tax
and accordingly some business operations previously taxed in the name of Business Tax will be taxed in the manner of VAT thereafter.
The Company is subject to a 5% VAT for its all existing real estate project based on the local tax authority’s practice.
B) Corporate income taxes (“CIT”)
The Company’s PRC subsidiaries and
VIE are governed by the Income Tax Law of the People’s Republic of China concerning the privately run enterprises, which
are generally subject to income tax at a statutory rate of 25% on income reported in the statutory financial statements after appropriate
tax adjustments. The Company’s CIT is 25% on taxable income. Although the possibility exists for reinterpretation of the
application of the tax regulations by higher tax authorities in the PRC, potentially overturning the decision made by the local
tax authority, the Company has not experienced any reevaluation of the income taxes for prior years. The PRC tax rules are
different from the local tax rules and the Company is required to comply with local tax rules. The difference between the
two tax rules will not be a liability of the Company. There will be no further tax payments for the difference. As of December
31, 2020 and September 30, 2020, the Company’s total income tax payable amounted to $12,609,996 and $11,639,537, respectively,
which included the income tax payable balances in the PRC of $8,474,996 and $8,342,537, respectively and the Company expects to
pay this income tax payable balance when the related real estate projects are completely sold.
CHINA HGS REAL ESTATE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS (UNAUDITED)
NOTE 7. TAXES (continued)
The following table reconciles the statutory
rates to the Company’s effective tax rate for the three months ended December 31, 2020 and 2019
|
|
For the three months ended
December 31,
|
|
|
|
2020
|
|
|
2019
|
|
|
|
(Unaudited)
|
|
|
(Unaudited)
|
|
Chinese statutory tax rate
|
|
|
25
|
%
|
|
$
|
25
|
%
|
Valuation allowance change and other adjustments
|
|
|
0.2
|
%
|
|
|
(29.3
|
)%
|
|
|
|
|
|
|
|
|
|
Effective tax rate
|
|
|
25.2
|
%
|
|
$
|
(4.3
|
)%
|
Income tax expense for the three months
ended December 31, 2020 and 2019 is summarized as follows:
|
|
For the three months ended
December 31,
|
|
|
|
2020
|
|
|
2019
|
|
|
|
(Unaudited)
|
|
|
(Unaudited)
|
|
Current tax provision
|
|
$
|
98,193
|
|
|
$
|
67,000
|
|
Deferred tax provision
|
|
|
-
|
|
|
|
(56,480
|
)
|
|
|
|
|
|
|
|
|
|
Income tax provision
|
|
$
|
98,193
|
|
|
$
|
10,520
|
|
Recent U.S. federal tax legislation, commonly
referred to as the Tax Cuts and Jobs Act (the “U.S. Tax Reform”), was signed into law on December 22, 2017. The
U.S. Tax Reform significantly modified the U.S. Internal Revenue Code by, among other things, reducing the statutory U.S. federal
corporate income tax rate from 35% to 21% for taxable years beginning after December 31, 2017; limiting and/or eliminating
many business deductions; migrating the U.S. to a territorial tax system with a one-time transition tax on a mandatory deemed repatriation
of previously deferred foreign earnings of certain foreign subsidiaries; subject to certain limitations, generally eliminating
U.S. corporate income tax on dividends from foreign subsidiaries; and providing for new taxes on certain foreign earnings. Taxpayers
may elect to pay the one-time transition tax over eight years or in a single lump sum. The U.S. Tax Reform also includes provisions
for a new tax on GILTI effective for tax years of foreign corporations beginning after December 31, 2017. The GILTI provisions
impose a tax on foreign income in excess of a deemed return on tangible assets of controlled foreign corporations (“CFCs”),
subject to the possible use of foreign tax credits and a deduction equal to 50 percent to offset the income tax liability, subject
to some limitations.
For the year ended September 30,
2018, the Company recognized a one-time transition toll tax of approximately $2.3 million that represented management’s estimate
of the amount of U.S. corporate income tax based on the deemed repatriation to the United States of the Company’s share of
previously deferred earnings of certain non-U.S. subsidiaries and VIE of the Company mandated by the U.S. Tax Reform. The Company’s
estimate of the onetime transition toll Tax is subject to the finalization of management’s analysis related to certain matters,
such as developing interpretations of the provisions of the Tax Act and amounts related to the earnings and profits of certain
foreign VIEs and the filing of our tax returns. U.S. Treasury regulations, administrative interpretations or court decisions interpreting
the Tax Act may require further adjustments and changes in our estimates. As of December 31, 2020 and September 30, 2020,
the Company provided an additional $0.8 million provision due to delinquent U.S. tax return fillings.
(C) Land Appreciation Tax (“LAT”)
Since January 1, 1994, LAT has been
applicable at progressive tax rates ranging from 30% to 60% on the appreciation of land values, with an exemption provided for
the sales of ordinary residential properties if the appreciation values do not exceed certain thresholds specified in the relevant
tax laws. However, the Company’s local tax authority in Hanzhong City has not imposed the regulation on real estate companies
in its area of administration. Instead, the local tax authority has levied the LAT at the rate of 0.5% in Yang County and 1.0%
in Hanzhong against total cash receipts from sales of real estate properties, rather than according to the progressive rates.
As at December 31, 2020 and September 30,
2020, the outstanding LAT payable balance was Nil with respect to completed real estate properties sold up to December 31, 2020
and September 30, 2020.
CHINA HGS REAL ESTATE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS (UNAUDITED)
NOTE 7. TAXES (continued)
(D) Taxes payable consisted of the following:
|
|
December 31,
2020
|
|
|
September 30,
2020
|
|
|
|
(Unaudited)
|
|
|
(Unaudited)
|
|
CIT
|
|
$
|
12,609,996
|
|
|
$
|
12,213,470
|
|
Business tax
|
|
|
4,425,570
|
|
|
|
5,159,296
|
|
Other taxes and fees
|
|
|
2,614,219
|
|
|
|
2,508,445
|
|
Tax payable
|
|
$
|
19,649,785
|
|
|
$
|
19,881,211
|
|
NOTE 8. STOCKHOLDERS’ EQUITY
On August 19, 2020, the Company filed
an Amendment to the Company’s Articles of Incorporation (the “Certificate of Amendment”) with the Florida Secretary
of State to effect a one-for-two reverse split of the Company’s authorized and issued and outstanding shares of common stock
(the “Reverse Stock Split”). The Reverse Stock Split became effective in accordance with the terms of the Certificate
of Amendment on August 20, 2020 (the “Effective Time”). At the Effective Time, every two shares of the Company’s
common stock authorized and issued and outstanding were automatically combined into one share of common stock, without any change
in the par value per share. The Company will not issue any fractional shares in connection with the Reverse Stock Split. Instead,
fractional shares will be rounded up to the nearest full share. The Company has a total of 45,050,000 shares of common stock issued
and outstanding prior to the Reverse Stock Split. As a result of the Reverse Stock Split, the number of common stock outstanding
as of December 31, 2020 and September 30, 2020, which reflects the effect of the reverse split, was 22,525,000.
NOTE 9. COMMITMENTS AND CONTINGENCIES
From time to time, the Company is a party
to various legal actions arising in the ordinary course of business. The Company accrues costs associated with these matters when
they become probable and the amount can be reasonably estimated. Legal costs incurred in connection with loss contingencies are
expensed as incurred. The Company's management does not believe the liability from the disposition of such claims and litigation
individually or in the aggregate would have a material adverse impact on the Company's consolidated financial position, results
of operations and cash flows.
As an industry practice, the Company provides
guarantees to PRC banks with respect to loans procured by the purchasers of the Company’s real estate properties for the
total mortgage loan amount until the completion of obtaining the “Certificate of Ownership” of the properties from
the government, which generally takes six to twelve months. Because the banks provide loan proceeds without getting the “Certificate
of Ownership” as loan collateral during the six to twelve months’ period, the mortgage banks require the Company to
maintain, as restricted cash of at least 5% of the mortgage proceeds as security for the Company’s obligations under such
guarantees. If a purchaser defaults on its payment obligations, the mortgage bank may deduct the delinquent mortgage payment from
the security deposit and require the Company to pay the excess amount if the delinquent mortgage payments exceed the security deposit.
If the delinquent mortgage payments exceed the security deposit, the banks may require us to pay the excess amount. If multiple
purchasers default on their payment obligations at around the same time, we will be required to make significant payments to the
banks to satisfy our guarantee obligations. If we are unable to resell the properties underlying defaulted mortgages on a timely
basis or at prices higher than the amounts of our guarantees and related expenses, we will suffer financial losses. The Company
has made necessary reserves in its restricted cash account to cover any potential mortgage defaults as required by the mortgage
lenders. For the three months ended December 31, 2020 and 2019, the Company has not experienced any delinquent mortgage loans and
has not experienced any losses related to this guarantee. As of December 31, 2020 and September 30, 2020, our outstanding
guarantees in respect of our customers' mortgage loans amounted to approximately $68 million. As of December 31, 2020 and September 30,
2020, the amount of security deposits provided for these guarantees was approximately $3.4 million and the Company believes that
such reserves are sufficient.
NOTE 10. PENDING NASDAQ COMPLIANCE ISSUE
On June 21, 2019, the “Company
received a letter from the Listing Qualifications staff of The Nasdaq Stock Market (“Nasdaq”) notifying the Company
that it is no longer in compliance with the minimum bid price requirement for continued listing on the Nasdaq Capital Market. Nasdaq
Listing Rule 5550(a)(2) requires listed companies to maintain a minimum bid price of $1.00 per share. The letter noted
that the bid price of the Company’s common stock was below $1.00 for the 30-day period ending June 20, 2019. The notification
letter had no immediate effect on the Company’s listing on the Nasdaq Capital Market. Nasdaq has provided the Company with
180 days, or until January 14, 2020, to regain compliance with the minimum bid price requirement by having a closing bid price
of at least $1.00 per share for a minimum of 10 consecutive business days. On December 19, 2019, Nasdaq determined that the
Company is eligible for an additional 180 calendar day period, or until June 15, 2020, to regain compliance. Given the extraordinary
market conditions caused by COVID-19, Nasdaq has determined to toll the compliance periods for bid price and market value of publicly
held shares requirements through June 30, 2020. In that regard, on April 16, 2020, Nasdaq filed an immediately effective
rule change with the Securities and Exchange Commission. Accordingly, the Company had until August 31, 2020, to regain
compliance. As of November 3, 2020, The Company has been advised that March 1, 2021 represents the full extent
of the Panel’s discretion to grant continued listing while it is non-compliant. Should the company fail to demonstrate compliance
with Nasdaq Listing Rule 5550(a)(2) by that date, the Panel will issue a final delist determination and the Company will
be suspended from trading on The Nasdaq Stock Market.