UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

(Mark One)

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

 

 

 

 

 

 

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

 

As of June 30, 20092010 (the last business day of the registrant’s most recently completed second fiscal quarter), the aggregate market value of the shares of the registrant’s common stock held by non-affiliates (based upon the closing price of such shares as reported on the Over-the-Counter Bulletin Board) was approximately $5,169,425.$4,107,827.  Shares of the registrant’s common stock held by each executive officer and director and each by each person who owns 10% or more of the outstanding common stock have been excluded from the calculation in that such persons may be deemed to be affiliates of the registrant. This determination of affiliate status is not necessarily a conclusive determination for other purposes.

 

There were a total of 65,086,152660,968,748 shares of the registrant’s common stock outstanding as of April 15, 2010.2011.

None.

Annual Report on FORM 10-K

Although we believe the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, level of activity, performance, or achievements.  Moreover, neither we nor any other person assumes responsibility for the accuracy or completeness of any of these forward-looking statements. You should not rely upon forward-looking statements as predictions of future events. We are under no duty to update any of these forward-looking statements after the date of this report to conform our prior statements to actual results or revised expectations.

Except as otherwise indicated by the context, references in this report to (i) the “Company,” “we,” “us,” and “our”“our,” “our Company,” or “the Company” are to the combined business of China Broadband,YOU On Demand Holdings, Inc., a Nevada corporation, and its consolidated subsidiaries; (ii) “Broadband Cayman” are to our wholly-owned subsidiary China Broadband, Ltd., a Cayman Islands company; (iii) “WFOE” are to our wholly-owned subsidiary Beijing China Broadband Network Technology Co., Ltd., a PRC company; (iv) “Jinan Broadband” are to our 51% owned subsidiary Jinan Guangdian Jia He Broadband Co. Ltd, a PRC company; (v) “Shandong Publishing” are to our 50% joint venture Shandong Lushi Media Co., Ltd., a PRC company; (vi) “AdNet” are to our wholly-owned subsidiary Wanshi Wangjing Media Technologies (Beijing) Co., Ltd. (a/k/a AdNet Media Technologies (Beijing) Co., Ltd.), a PRC company; (vii) “SEC” are to the United States Securitiessubsidiaries and Exchange Commission; (viii) “Securities Act” are to Securities Act of 1933, as amended; (ix) “Exchange Act” are to the Securities Exchange Act of 1934, as amended; (x) “PRC” and “China” are to People’s Republic of China; (xii) “Renminbi” and “RMB” are to the legal currency of China; and (xiii) “U.S. dollar,” “$” and “US$” are to United States dollars.variable interest entities.

 

We operate in the media segment, through our Chinese subsidiaries and variable interest entities “VIEs”, (1) a business which provides integrated value-added service solutions for the delivery of pay-per-view “PPV”, video-on-demand “VOD”, and enhanced premium content for cable providers, (2) a cable broadband business based in the Jinan region of China and (2)(3) a television program guide, newspaper and magazine publishing business based in the Shandong region of China.  We have also recently

On July 30, 2010, we acquired and are developingSinotop Group Limited (“Sinotop HK”) through our subsidiary China Broadband Cayman.  Through a series of contractual arrangements, Sinotop HK controls Sinotop Beijing.  Through Sinotop Beijing, a corporation established in the PRC which is party to a limited extent, an internet café advertisingjoint venture with two other PRC companies, we plan to provide integrated value-added service solutions for the delivery of PPV, VOD, and enhanced premium content provider business in China.for cable providers.

Through our subsidiaryVIE Jinan Broadband, we provide cable and wireless broadband services, principally internet services, Internet Protocol Point wholesale services, related network equipment rental and sales, and fiber network construction and maintenance.  Jinan Broadband’s revenue consists primarily of sales to our PRC-based internet consumers, cable modem consumers, business customers and other internet and cable services. This broadband business constitutes our flagship operations and accounted for 59%63% of our revenues in 2009.2010.

WeThrough our VIE Shandong Publishing, we operate our publishing business, which includes the distribution of periodicals, the publication of advertising, the organization of public relations events, the provision of information related services, copyright transactions, the production of audio and video products, and the provision of audio value added communication services, throughservices. Shandong Publishing, our joint venture company.Publishing’s revenue consists primarily of sales of publications and advertising revenues. Our publishing business accounted for 41%37% of our revenues in 2009.2010.

Our subsidiaryWe acquired AdNet which was acquired during the first half of 2009.  Due to the shift of our business model to the PPV and VOD business, as of December 31, 2009, holds an Internet Content Provider (“ICP”), license withwe permanently suspended the day-to-day operations of AdNet.  We have maintained our technology and other assets of AdNet for future use in our new pay-per-view business.

Through our acquisition of Sinotop HK and its VIE Sinotop Beijing, we have acquired the rights to use a national license to provide the first integrated value-added service solution for the delivery of multimedia advertisingPPV and VOD in China. Our core revenues will be derived from a pay-TV model, consisting of a one-time fee to view movies, popular titles, and live events. The service will provide cable television households subscribers, the ability to view broadcast events at any time using an on-screen guide and the streaming of content to internet cafésthrough a set-top box. Currently, there are no other companies nationally offering PPV or VOD services in the PRC.  AdNet is licensed to operate in 28 provinces in the PRC with servers in five data centers including Wuhan, Wenzhou, Yantai, Yunan and with a master distribution server in Tongshan.

China Broadband, Inc.,is the largest cable TV market in the world. We believe that spending on television in China will continue to grow, as it is still regarded as the most effective form of media in China, largely due to television’s ability to reach a Nevada corporationnationwide audience. With the increase of middle class income and our parent holding company, was formed on October 22, 2004, pursuantgreater disposable budgets, we anticipate seeing greater demand for entertainment, including movies, concerts and sporting events. This projection has been reflected through box office receipts, up 86% in 2010 from 2009 according to a reorganizationChina’s Film Bureau, and the exploding sales of a California entity formed in 1988.   Prior to January 2007, we were a blank check shell company.  On January 23, 2007, we acquired Broadband Cayman which at the time was a partyflat screen televisions, up 32% from 2009 according to the cooperation agreementChina Electronic Chamber of Commerce. Premium content is still missing from the market and we believe the key opportunity for growth is in China’s next generation broadcasting initiatives, expected to power 200 million digital cable customers with our PRC based WFOE, in a reverse acquisition transaction, resulting in a changehigh definition television, internet and 2-way interactive service capability by 2020 according to the Chinese State Administration of control of the Company,Radio, Film and simultaneously completed the first closing of an equity financing of common stock and warrants.  

 

Shandong Publishing, Cooperation Agreement

 

UnderIn addition to being the terms ofexclusive provincial television programming guide publishing group in the Shandong Publishing Cooperation Agreement and related pledge and trust documents, Shandong Broadcast & TV Weekly Press and Modern Movie & TV Biweekly Press contributed their entire businesses and transferred certain employees toprovince, Shandong Publishing in exchange for a 50% stake in Shandong Publishing, with the other 50% of Shandong Publishing to be owned by our WFOE in the PRC.  In exchange, we paid approximately $1.5 million (approximately 10 million RMB), which was contributed to Shandong Publishing as working and acquisition capital.  The results of the Shandong Publishing have been consolidated with the Company’s consolidated financial statements as of July 1, 2008.has:

As partFollowing is a description of the transaction, and to facilitatesome of our ownership and control over Shandong Publishing under PRC law, we loaned Shandong Publishing said funds pursuant to a loan agreement and equity option agreement, and a majority of the shares of Shandong Publishing are held on our behalf by Pu Yue, our CFO, as trustee on behalf of the Company pursuant to a pledge agreement and trustee agreement.  publications:

 

AcquisitionOn February 23, 2011, we filed a Certificate of AdNet

The following chart depicts our corporate structure as of the date of this report:

 

 

On July 30, 2010, we acquired Sinotop HK through CB Cayman.  Through a series of contractual arrangements, Sinotop HK controls Sinotop Beijing.  Sinotop Beijing, a corporation established in the PRC is, in turn, a party to a joint venture with servers in five data centers including Wuhan, Wenzhou, Yantai, Yunantwo other PRC companies to provide integrated value-added service solutions for the delivery of pay-per-view, video-on-demand and with a master distribution server in Tongshan.enhanced premium content for cable providers.

As previously reportedIn March 2010, Sinotop HK entered into a management services agreement with Sinotop Beijing pursuant to which Sinotop Beijing pays consulting and as we have seen limited growth in this business,service fees, equal to 100% of all pre-tax revenues of Sinotop Beijing, to Sinotop HK for various management, has opted to limit its expenses in respect of AdNet’s business and has reduced AdNet’s full and part time staff, all of which were based in the PRC, from 20 persons to 2 full time employees. Nonetheless, we will continue to maintain AdNet’s ICPtechnical, consulting and other licenses, servers and infrastructure, as well as all of its intellectual property, all of which we intend on using both for AdNet and,services in connection with other businesses that we contemplate acquiring or entering into, which would require similar technology and infrastructure.  Management believes that, by partnering with a local advertising agency, AdNet could potentially provide a network for tensits business.  Payment of thousands of daily video advertisement insertionsthe fees under the management services agreement is secured through an equity pledge agreement pursuant to entertainment content traffic (movies, music, video, and games) which the various divisionssole shareholder of Sinotop Beijing pledged all equity interests in Sinotop Beijing to Sinotop HK.  In addition, Sinotop HK entered into a voting rights agreement with Sinotop Beijing and the sole shareholder of Sinotop Beijing, whereby Sinotop HK was entrusted with all of the Company could tap into.voting rights of the sole shareholder of Sinotop Beijing.  Through these contractual arrangements, upon our acquisition of Sinotop HK, we acquired control over, and rights to 100% of the economic benefit of,  Sinotop Beijing.  Accordingly, Sinotop Beijing is considered a VIE and therefore is consolidated in our financial statements.

Until 2005, there were over 2,000 independent cable operators in the PRC.  While PRC’s State Administration of Radio, Film, and Television, or SARFT has advocated for national consolidation of cable networks, the consolidation has primarily occurred at the provincial level.  The 30 provinces are highly variable in their consolidation efforts and processes.  Many cable operators in China, on a stand-alone basis, may lack the economies of scale to systematically introduce value-added services that can significantly upgrade ARPU. 

 

SARFT has taken various steps to implement a separation scheme to achieve economies of scale in the value-added service and cable operation sector.  First, SARFT has been separating cable network assets from broadcasting assets and currently allows state-owned-enterprises to hold up to 49% in the cable network infrastructure assets.  Second, SARFT is separating the value-added services segment from the network infrastructure which tends to increase private investments.

Due to its highly-regulated nature, we believe that the radio and broadcasting industry does not have the same financial resources as the deregulated telecom industry in China, and that the priorities and goals of this industry are different from the telecom industry.

We believe that SARFT and its broadcasters are currently focusing on increasing subscription revenues by converting Chinese television viewers from “analog” service to “digital” (pay TV) service.  The digitalization efforts include providing set-top-boxes free of charge as part of a digital television service bundling initiative.   Due to the lack of financial resources, we believe that the rollout of cable broadband services and other value-added services ishas moved lower on the SARFTSARFT’s priority list.

We believe that local telecom carriers that offer non-cable internet services, such as DSL, represent our primary broadband internet segment competition in the PRC.  An example is China Netcom, a telecom carrier in the Shandong province of China.  Many of our competitors also have resources and capital resources that exceed our own.

Local telecom carriers are actively marketing broadband services on national, provincial, as well as local levels in China.  Telecom carriers own “last mile access” to urban households in the form of fixed phone lines.  We believe, however, that cable operators have a competitive advantage by owning last mile connections in the form of cable lines that have a larger bandwidth relative to phone lines.  In urban areas that we target, a large number of households have both fixed phone line and cable television access.  Many of these homes currently have telecom based internet access.

Cable operators in China must purchase internet connection bandwidth from the local telecom carriers.  Since the local telecom carriers are not required to pay for internet connection bandwidth, which increases their profit margins relative to cable broadband service providers.  Thisproviders, this affords them a potential price advantage, but to dateadvantage.  But to-date, their prices remain in line with our prices.

There are approximately 17 entertainment newspapers and numerous entertainment magazines in Shandong province and throughout China.  Competition in this sector is very strong.  Management hopes to gain a competitive advantage and additional revenue by focusing on advertising by leveraging our advertising business.  We will also attempt to deliver publication content electronically through our broadband division.

 

We intend to implement the following strategic plans to take advantage of industry opportunities and expand our competitive strengths:business:

 

 

As of December 31, 2009,2010, Jinan Broadband had approximately 58,00060,000 cable internet subscribers.  Shandong Publishing had, in aggregate amongst its various titles, a reader base of approximately 250,000225,000 persons.

All of our customers are in the PRC.

We are not a party to any royalty agreements, labor contracts or franchise agreements, and other than our right to own and operate Jinan Broadband, we do not currently own any trademarks.   We intend to apply for trademarks for the regions in which we operate, such as with respect to Jinan Broadband.

As of December 31, 2009,2010, we employedhad a total of 199210 full-time employees, with 191 employees after our reduction of AdNet staff through February of 2010.employees. The following table sets forth the number of our employees by function at December 31, 2009.2010.

Our employees are not represented by a labor organization or covered by a collective bargaining agreement. We have not experienced any work stoppages.

 

Our operating results and operating cash flows historically have not been subject to seasonal variations. This pattern may change, however, as a result of new market opportunities or new product introductions.

Our PRC based operating subsidiaries and VIEs are regulated by the national and local laws of the PRC. The radio and television broadcasting industries and news print media are highly regulated in China.  Local broadcasters including national, provincial and municipal radio and television broadcasters are 100% state-owned assets.  SARFT regulates the radio and television broadcasting industry.  In China, the radio and television broadcasting industries are designed to serve the needs of government programming first, and to make profits next.  The SARFT interest group controls broadcasting assets and broadcasting contents in China.

The Ministry of Information Industry, or MII plays a similar role to SARFT in the telecom industry.  As China’s telecom industry is much more deregulated than the broadcasting industry.  While China’s telecom industry has substantial financial backing, SARFT, and its regulator, the Propaganda Ministry under China’s Communist Party Central Committee, never relinquished ultimate regulatory control over content and broadcasting control.

The major internet regulatory barrier for cable operators to migrate into multiple-system operators and to be able to offer telecom services is the license barrier.  Few independent cable operators in China acquired full and proper broadband connection licenses from MII.  The licenses, while awarded by MII, are given on very-fragmented regional market levels.  With cable operators holding the last mile to access end users, SARFT cable operators pose a competitive threat to local telecom carriers.  While internet connection licenses are deregulated to even the local private sector, MII still tries to utilize the license barrier to fence off threats from cable operators that falls under the SARFT interest group.

We are required to obtain government approval from the Ministry of Commerce of the People’s Republic of China, or MOFCOM, and other government agencies in China that approve transactions such as our acquisition of Jinan Broadband.  Additionally, foreign ownership of business and assets in China is not permitted without specific government approval.  For this reason, we acquired only 51% of Jinan Broadband, with the remaining 49% owned by Jinan Parent and its affiliates.  Similarly, Shandong Publishing was acquired through WFOE which owns 50% of the joint venture with the remaining 50% owned by Shandong Broadcast & TV Weekly Press and Modern Movie & TV Biweekly Press.Movie.  AdNet was acquired under a trustee relationship.  Sinotop Beijing was acquired through our acquisition of Sinotop Hong Kong, which controls Sinotop Beijing through a series of contractual agreements.   We use revenue sharing and voting control agreements among the parties so as to obtain equitable and legal ownership of our subsidiaries.

Jinan Broadband

Through Jinan Broadband’s Cooperation Agreementthe cooperation agreement with Jinan Parent and JinanNetworks Center, we enjoy the benefits of licenses that Jinan Parent holds that allow us to roll out cable broadband services as well as to provide value-added services of radio and TV content in Shandong province, including:

 

Shandong Publishing holds the following licenses:

Taxation

In addition to the changes to the current tax structure, under the EIT Law, an enterprise established outside of China with “de facto management bodies” within China is considered a resident enterprise and will normally be subject to an EIT of 25% on its global income. The implementing rules define the term “de facto management bodies” as “an establishment that exercises, in substance, overall management and control over the production, business, personnel, accounting, etc., of a Chinese enterprise.” If the PRC tax authorities subsequently determine that we should be classified as a resident enterprise, then our organization’s global income will be subject to PRC income tax of 25%.  For detailed discussion of PRC tax regulations,issues related to resident enterprise status, see Item 7, “Management’s Discussion“Risk Factors – Risks Related to Doing Business in China – Under the New Enterprise Income Tax Law, we may be classified as a “resident enterprise” of China. Such classification will likely result in unfavorable tax consequences to us and Analysis of Financial Condition and Results of Operations – Taxation – China.our non-PRC stockholders.”

All of our sales revenue and expenses are denominated in RMB.  Under the PRC foreign currency exchange regulations applicable to us, RMB is convertible for current account items, including the distribution of dividends, interest payments, trade and service-related foreign exchange transactions. Currently, our PRC operating subsidiaries may purchase foreign currencies for settlement of current account transactions, including payments of dividends to us, without the approval of SAFE, by complying with certain procedural requirements.  Conversion of RMB for capital account items, such as direct investment, loan, security investment and repatriation of investment, however, is still subject to the approval of SAFE.  In particular, if our PRC operating subsidiaries borrow foreign currency through loans from us or other foreign lenders, these loans must be registered with SAFE, and if we finance the subsidiaries by means of additional capital contributions, these capital contributions must be approved by certain government authorities, including the MOFCOM, or their respective local branches.  These limitations could affect our PRC State Administration of Foreign Exchange, or SAFE. Foreign invested enterprises, or FIEs, established in the PRC may only buy, sell and/or remit foreign currencies at those banks authorizedoperating subsidiaries’ ability to conductobtain foreign exchange business after providing valid commercial documents and, in the case of capital account item transactions, obtaining approval from the SAFE. Capital investments by FIEs outside of China are also subject to limitations, which include approvals by MOFCOM, the SAFE and the State Reform and Development Commission.through debt or equity financing.

Under applicableOur revenues are earned by our PRC subsidiaries.  However, PRC regulations FIEs in China may payrestrict the ability of our PRC subsidiaries to make dividends and other payments to their offshore parent company.  PRC legal restrictions permit payments of dividend by our PRC subsidiaries only out of their accumulated after-tax profits, if any, determined in accordance with PRC accounting standards and regulations.  In addition, a FIE in ChinaEach of our PRC subsidiaries is also required under PRC laws and regulations to set asideallocate at least 10.0%10% of itsour annual after-tax profit based onprofits determined in accordance with PRC accounting standards each yearGAAP to itsa statutory general reservesreserve fund until the accumulative amount ofamounts in such reserves reach 50.0%fund reaches 50% of its registered capital.  These reserves are not distributable as cash dividends. The board of directors of a FIE hasOur PRC subsidiaries have the discretion to allocate a portion of itstheir after-tax profits to staff welfare and bonus funds, which may not be distributed to equity owners except in the event of liquidation.

The Company intends on reinvesting profits, if any, and does not intend on making cash distributions of dividends in the near future.

 

An investment in any of the company’s securities is necessarily highly speculative in nature, involves a high degree of risk and illiquidity and should be purchased only by persons who can afford to lose the entire amount invested in the common stock. Before purchasing any securities of the Company, you should carefully consider the following factors relating to our business and prospects. You should pay particular attention to the fact that we conduct all of our operations in China and are governed by a legal and regulatory environment that in some respects differs significantly from the environment that may prevail in the U.S. and other countries.  If any of the following risks actually occurs, our business, financial condition or operating results will suffer, the trading price of our common stock could decline, and you may lose all or part of your investment.

 

Our auditors have included an explanatory paragraph in their report dated as of April 15, 20102011 on our consolidated financial statements for the year ended December 31, 2009,2010, indicating that there is substantial doubt regarding our ability to continue as a going concern.  TheAs discussed in Note 3 to the consolidated financial statements, included elsewherethe Company has incurred significant losses during 2010 and 2009 and has relied on debt and equity financings to fund their operations. These conditions raise substantial doubt about the Company’s ability to continue as a going concern. Management’s plans regarding these matters are also described in this ReportNote 3. The consolidated financial statements do not include any adjustments to asset values or recorded liability amounts that might be necessary inresult from the event we are unable to continue as a going concern.outcome of this uncertainty.   If we are in fact unable to continue as a going concern, our shareholders may lose their entire investment in our company. We will therefore need immediate additional substantial capital in order to continue to operate.Company.

Our business plan is to significantly grow our operations to meet anticipated growth in demand for the services that we offer, and by the introduction of new goods or services.  Growth in our businesses may place a significant strain on our personnel, management, financial systems and other resources.  The evolution of our business also presents numerous risks and challenges, including:

To accommodate any such growth and compete effectively, we may need to obtain additional funding to improve information systems, procedures and controls and expand, train, motivate and manage our employees, and such funding may not be available in sufficient quantities, if at all.  If we are not able to manage these activities and implement these strategies successfully to expand to meet any increased demand, our operating results could suffer.

 

We do not own Jinan Parenthave direct or Jinan Center which are the minority co-ownersindirect equity ownership of our broadband business, or Shandong Broadcast & TV Weekly Press,VIEs, which iscollectively operate all our businesses in China. At the co-owner of our publishing business, and, if they or their ultimate shareholders or control persons violate oursame time, however, we have entered into contractual arrangements with them,each of our VIEs and their individual owners pursuant to which we received an economic interest in, and exert a controlling influence over each of the VIEs, in a manner substantially similar to a controlling equity interest.

The vast bulkOur operations and financial results are dependent on our VIEs in which we have no equity ownership interest and must rely on contractual arrangements to control and operate the businesses of each of our operationsVIEs. These contractual arrangements are currently dependent upon our contractual relationships with Jinan Center and Jinan Parent with respect to our broadband business and Shandong Broadcast & TV Weekly Press with respect to our publishing business,not as describedeffective in our Business section above.  The terms of these agreements are often statements of general intent and do not detailproviding control over the rights and obligationsVIEs as direct ownership. For example, one of the parties.  Some of these contracts provide thatVIEs may be unwilling or unable to perform their contractual obligations under our commercial agreements. Consequently, we would not be able to conduct our operations in the parties will enter into further agreements on the detailsmanner currently planned. In addition, any of the servicesVIEs may seek to be provided.  Others contain price and paymentrenew their agreements on terms that are subjectdisadvantageous to monthly adjustment.  These provisionsus. Although we have entered into a series of agreements that provide us with substantial ability to control the VIEs, we may be subject to differing interpretations, particularly on the details of the services to be providednot succeed in enforcing our rights under them insofar as our contractual rights and on price and payment terms.  It may be difficult for us to obtainlegal remedies or damages from these companies or their ultimate shareholders in theunder PRC for breaching our agreements. Because we rely significantly on these companies for our business, the realization of any of these risks may disrupt our operations or cause degradation in the quality and service provided by, or a temporary or permanent shutdown of, the company.   The Jinan Broadband Cooperation Agreement that enables us to own and operate our broadband business, and the exclusive service agreement in which the parties will cooperate and provide each other with technical services related to their respective broadband, cable and Internet content-based businesses, is for a term of 10 years and 20 years, respectively.  The contracts commenced December 2006.  Our ownership interests in Shandong Publishing is subject to similar limitations.  Iflaw are inadequate. In addition, if we are unable to renew these agreements on favorable terms when these agreements expire, or to enter into similar agreements with other parties, our business may not be able to operate or expand, and our operating expenses may significantly increase.

We depend on the services of our existing key employees, in particular, Mr. Shane McMahon, our Chairman and Chief Executive Officer, Mr. Marc Urbach, Clive Ngour President and Pu Yue.Chief Financial Officer, and Mr. Weicheng Liu, a Senior Executive Officer.  Our success will largely depend on our ability to retain these key employees and to attract and retain qualified senior and middle level managers to our management team.  While we have retained an accounting firm to assist us on consolidation of financial statements for our PRC businesses, we do not have a full time internal Chief Financial Officer for the consolidated companies. We have recruited executives and management in China to assist in our ability to manage the business and to recruit and oversee employees.  While we believe we offer compensation packages that are consistent with market practice, we cannot be certain that we will be able to hire and retain sufficient personnel to support our cable broadband business.  In addition, severe capital constraints have limited our ability to attract specialized personnel.  Moreover, our budget limitations will restrict our ability to hire qualified personnel.  The loss of any of our key employees would significantly harm our business. We do not maintain key person life insurance on any of our employees.

The Chinese market for Internet content and services is intensely competitive and rapidly changing. Barriers to entry are relatively minimal, and current and new competitors can launch new websites at a relatively low cost.  Many companies offer competitive products or services including Chinese language-based Web search, retrieval and navigation services, wireless value-added services, online games and extensive Chinese language content, informational and community features and e-mail.  In addition, as a consequence of China joining the World Trade Organization, the Chinese government has partially lifted restrictions on foreign-invested enterprises so that foreign investors may hold in the aggregate up to approximately 51% of the total equity ownership in any value-added telecommunications business, including an Internet business, in China.

Currently, our competition comes from standard “telephone” internet providers. Any of our present or future competitors may offer products and services that provide significant performance, price, creativity or other advantages over those offered by us and, therefore, achieve greater market acceptance than ours.

Because many of our existing competitors, as well as a number of potential competitors, have longer operating histories in the Internet market, greater name and brand recognition, better connections with the Chinese government, larger customer bases and databases and significantly greater financial, technical and marketing resources than we have, we cannot assure you that we will be able to compete successfully against our current or future competitors. Any increased competition could reduce page views, make it difficult for us to attract and retain users, reduce or eliminate our market share, lower our profit margins and reduce our revenues.

Both the continual and foremost accessibility of internetInternet service websites and the performance and reliability of our technical infrastructure are critical to our reputation and the ability of our internetInternet services to attract and retain users and advertisers. Any system failure or performance inadequacy that causes interruptions or delays in the availability of our services or increases the response time of our services could reduce user satisfaction and traffic, which would reduce the internet service appeal to users of “high speed” internet usage. As the number of users and traffic increase, we cannot assure you that we will be able to scale our systems proportionately. In addition, any system failures and electrical outages could materially and adversely impact our business.

 

Computer viruses may cause delays or other service interruptions on our systems. In addition, the inadvertent transmission of computer viruses could expose us to a material risk of loss or litigation and possible liability. We may be required to expend significant capital and other resources to protect our internet service against the threat of such computer viruses and to alleviate any problems. Moreover, if a computer virus affecting our system is highly publicized, our reputation could be materially damaged and customers may cancel our service.

 

We rely on affiliates of Jinan Parent to provide us with bandwidth and server custody service for Internet users.  If Jinan Parent or their affiliates fail to provide such services or raise prices for their services, we may not be able to find a reliable and cost-effective substitute provider on a timely basis or at all. If this happens, our business could be materially curtailedcurtailed.

As directed by Section 404 of the Sarbanes-Oxley Act of 2002, or SOX 404, the SEC adopted rules requiring public companies to include a report of management on the company’s internal controls over financial reporting in their annual reports, including Form 10-K.  In addition, the independent registered public accounting firm auditing a company’s financial statements must also attest to the operating effectiveness of the company’s internal controls.  Under current law, we arewere subject to these requirements beginning with our annual report for the fiscal year ended December 31, 2007, although the auditor attestation is not required until our annual report for the fiscal year ending December 31, 2010, assuming our filing status remains as a smaller reporting company.  A report of our management is included under Item 9A(T) of this Annual Report on Form 10-K.

We are constantly striving to establish and improve our business management and internal control over financial reporting to forecast, budget and allocate our funds.  However, as a PRC company that has recently become a US public company, , we face difficulties in hiring and retaining a sufficient number of qualified employees to achieve and maintain an effective system of internal control over financial reporting in a short period of time.

In connection with the preparation and audit of our 20092010 financial statements and notes, we were informed by our auditor, UHY LLP, (“UHY”)or UHY, of certain accounting and reporting deficiencies in our internal controls that UHY considered to be material weaknesses.  These deficiencies related to our financial closingprocedures.    We have devoted significant resources during 2010 to upgrade our internal controls.  We have placed key accounting personnel at each of our entities, engaged an outside consulting company to perform independent Sarbanes Oxley procedures and errors in classification of warrants.  After discussions between management, our audit committeetesting, and UHY, we concluded that the Company had not properly adopted FASB ASC Topic 815-40 (“Derivatives and Hedging: Contracts in Entity’s Own Equity”) (“ASC 815”) and as a result had not reclassified warrants from equitycontinue to liabilities as of January 1, 2009.  As a result of the change in accounting, the Company recognized a $512,000 charge for the year ended December 31, 2009.

Because of the above-referenced deficiencies and weaknesses in our disclosure controls and procedures and procedures and internal control over financial reporting, we may be unable to comply with Sarbanes-Oxley Act’sthe SOX 404 internal controls requirements, and therefore may not be able to obtain the independent auditor certifications that the Sarbanes-Oxley Act requires publicly-traded companies to obtain.requirements.  As a result of any deficiencies and weaknesses, we may experience difficulty in collecting financial data and preparing financial statements, books of account and corporate records, and instituting business practices that meet international standards, failure of which may prevent us from accurately reporting our financial results or detecting and preventing fraud.

 

Economic reforms adopted by the Chinese government have had a positive effect on the economic development of the country, but the government could change these economic reforms or any of the legal systems at any time. This could either benefit or damage our operations and profitability. Some of the things that could have this effect are:

The Chinese economy differs from the economies of most countries belonging to the Organization for Economic Cooperation and Development, or OECD, in many ways. For example, state-owned enterprises still constitute a large portion of the Chinese economy, and weak corporate governance and athe lack of a flexible currency exchange policy still prevail in China. As a result of these differences, we may not develop in the same way or at the same rate as might be expected if the Chinese economy was similar to those of the OECD member countries.

The telecommunications industry is highly regulated by the Chinese government, the main relevant government authority being the Ministry of Information Industry, or MII. Prior to China’s entry into the World Trade Organization, the Chinese government generally prohibited foreign investors from taking any equity ownership in or operating any telecommunications business.  Internet Content Provider, or ICP, services are classified as telecommunications value-added services and therefore fall within the scope of this prohibition. This prohibition was partially lifted following China’s entry into the World Trade Organization, allowing foreign investors to own interests in Chinese businesses. In addition, foreign and foreign invested enterprises are currently not able to apply for the required licenses for operating cable broadband services in China.

 

We cannot be certain that we will be granted any of the appropriate licenses, permits or clearance that we may need in the future. Moreover, we cannot be certain that any local or national ICP or telecommunications license requirements will not conflict with one another or that any given license will be deemed sufficient by the relevant governmental authorities for the provision of our services.

 

We rely exclusively on contractual arrangements with Jinan Parent and its approvals to operate as an ICP. We believe that our present operations are structured to comply with applicable Chinese law. However, many Chinese regulations are subject to extensive interpretive powers of governmental agencies and commissions. We cannot be certain that the Chinese government will not take action to prohibit or restrict our business activities. We are uncertain as to whether the Chinese government will reclassify our business as a media or retail company, due to our acceptance of fees for Internet advertising, online games and wireless value-added and other services as sources of revenues, or as a result of our current corporate structure. Such reclassification could subject us to penalties, fines or significant restrictions on our business. Future changes in Chinese government policies affecting the provision of information services, including the provision of online services, Internet access, e-commerce services and online advertising, may impose additional regulatory requirements on us or our service providers or otherwise harm our business.

We conduct substantially all of our business through our operating subsidiaries in the PRC. Our operating subsidiaries are generally subject to laws and regulations applicable to foreign investments in China and, in particular, laws applicable to foreign-invested enterprises. The PRC legal system is based on written statutes, and prior court decisions may be cited for reference but have limited precedential value. Since 1979, a series of new PRC laws and regulations have significantly enhanced the protections afforded to various forms of foreign investments in China. However, since the PRC legal system continues to evolve rapidly, the interpretations of many laws, regulations, and rules are not always uniform, and enforcement of these laws, regulations, and rules involve uncertainties, which may limit legal protections available to you and us. In addition, any litigation in China may be protracted and result in substantial costs and diversion of resources and management attention. In addition, all of our executive officers and all of our directors are residents of China and not of the United States, and substantially all the assets of these persons are located outside the United States. As a result, it could be difficult for investors to affect service of process in the United States or to enforce a judgment obtained in the United States against our Chinese operations and subsidiaries.

Most of our assets are located outside of the United States and most of our current operations are conducted in the PRC. In addition, mostsome of our directors and officers are nationals and residents of countries other than the United States. A substantial portion of the assets of these persons is located outside the United States. As a result, it may be difficult for you to effect service of process within the United States upon these persons. It may also be difficult for you to enforce in U.S. courts judgments on the civil liability provisions of the U.S. federal securities laws against us and our officers and directors most of whomthat are not residents in the United States and the substantial majority of whose assets are located outside of the United States. In addition, there is uncertainty as to whether the courts of the PRC would recognize or enforce judgments of U.S. courts. Our counsel as to PRC law has advised us that the recognition and enforcement of foreign judgments are provided for under the PRC Civil Procedures Law. Courts in China may recognize and enforce foreign judgments in accordance with the requirements of the PRC Civil Procedures Law based on treaties between China and the country where the judgment is made or on reciprocity between jurisdictions. China does not have any treaties or other arrangements that provide for the reciprocal recognition and enforcement of foreign judgments with the United States. In addition, according to the PRC Civil Procedures Law, courts in the PRC will not enforce a foreign judgment against us or our directors and officers if they decide that the judgment violates basic principles of PRC law or national sovereignty, security, or the public interest. So it is uncertain whether a PRC court would enforce a judgment rendered by a court in the United States.

The PRC government has exercised and continues to exercise substantial control over virtually every sector of the Chinese economy through regulation and state ownership. Our ability to operate in China may be harmed by changes in its laws and regulations, including those relating to taxation, import and export tariffs, environmental regulations, land use rights, property, and other matters. We believe that our operations in China are in material compliance with all applicable legal and regulatory requirements. However, the central or local governments of the jurisdictions in which we operate may impose new, stricter regulations or interpretations of existing regulations that would require additional expenditures and efforts on our part to ensure our compliance with such regulations or interpretations.

Accordingly, government actions in the future, including any decision not to continue to support recent economic reforms and to return to a more centrally planned economy or regional or local variations in the implementation of economic policies, could have a significant effect on economic conditions in China or particular regions thereof and could require us to divest ourselves of any interest we then hold in Chinese properties or joint ventures.

In recent years, the Chinese economy has experienced periods of rapid expansion and highly fluctuating rates of inflation. During the past ten years, the rate of inflation in China has been as high as 20.7%5.9% and as low as -2.2%-0.8% . These factors have led to the adoption by the Chinese government, from time to time, of various corrective measures designed to restrict the availability of credit or regulate growth and contain inflation. High inflation may in the future cause the Chinese government to impose controls on credit and/or prices, or to take other action, which could inhibit economic activity in China, and thereby harm the market for our products and our company.

The majority of our revenues will be settled in RMB and U.S. dollars, and any future restrictions on currency exchanges may limit our ability to use revenue generated in RMB to fund any future business activities outside China or to make dividend or other payments in U.S. dollars. Although the Chinese government introduced regulations in 1996 to allow greater convertibility of the RMB for current account transactions, significant restrictions still remain, including primarily the restriction that foreign-invested enterprises may only buy, sell or remit foreign currencies after providing valid commercial documents, at those banks in China authorized to conduct foreign exchange business. In addition, conversion of RMB for capital account items, including direct investment and loans, is subject to governmental approval in China, and companies are required to open and maintain separate foreign exchange accounts for capital account items. We cannot be certain that the Chinese regulatory authorities will not impose more stringent restrictions on the convertibility of the RMB.

The value of our common stock will be indirectly affected by the foreign exchange rate between the U.S. dollarsdollar and RMB and between those currencies and other currencies in which our salesrevenues may be denominated. Appreciation or depreciation in the value of the RMB relative to the U.S. dollar would affect our financial results reported in U.S. dollar terms without giving effect to any underlying change in our business or results of operations. Fluctuations in the exchange rate will also affect the relative value of any dividend we issue that will be exchanged into U.S. dollars, as well as earnings from, and the value of, any U.S. dollar-denominated investments we make in the future.

Since July 2005, the RMB has no longer been pegged to the U.S. dollar. Although PBOCthe People’s Bank of China regularly intervenes in the foreign exchange market to prevent significant short-term fluctuations in the exchange rate, the RMB may appreciate or depreciate significantly in value against the U.S. dollar in the medium to long term. Moreover, it is possible that in the future PRC authorities may lift restrictions on fluctuations in the RMB exchange rate and lessen intervention in the foreign exchange market.

Very limited hedging transactions are available in China to reduce our exposure to exchange rate fluctuations. To date, we have not entered into any hedging transactions. While we may enter into hedging transactions in the future, the availability and effectiveness of these transactions may be limited, and we may not be able to successfully hedge our exposure at all. In addition, our foreign currency exchange losses may be magnified by PRC exchange control regulations that restrict our ability to convert RMB into foreign currencies.

AllSubstantially all of our revenues are earned by our PRC subsidiaries.VIEs. However, PRC regulations restrict the ability of our PRC subsidiariesVIEs to make dividends and other payments to theirits offshore parent company. PRC legal restrictions permit payments of dividenddividends by our PRC subsidiariesVIEs only out of their accumulated after-tax profits, if any, determined in accordance with PRC accounting standards and regulations. Our PRC subsidiariesVIEs are also required under PRC laws and regulations to allocate at least 10% of ourtheir annual after-tax profits determined in accordance with PRC GAAPgenerally accepted accounting principles to a statutory general reserve fund until the amounts in said fund reaches 50% of our registered capital. Allocations to these statutory reserve funds can only be used for specific purposes and are not transferable to us in the form of loans, advances, or cash dividends. Any limitations on the ability of our PRC subsidiariesVIEs to transfer funds to us could materially and adversely limit our ability to grow, make investments or acquisitions that could be beneficial to our business, pay dividends and otherwise fund and conduct our business.

In October 2005, the PRC State Administration of Foreign Exchange, or SAFE, issued the Notice on Relevant Issues in the Foreign Exchange Control over Financing and Return Investment Through Special Purpose Companies by Residents Inside China, generally referred to as Circular 75, which required PRC residents to register with the competent local SAFE branch before establishing or acquiring control over an offshore special purpose company, or SPV, for the purpose of engaging in an equity financing outside of China on the strength of domestic PRC assets originally held by those residents. Internal implementing guidelines issued by SAFE, which became public in June 2007 (known as Notice 106), expanded the reach of Circular 75 by (1) purporting to cover the establishment or acquisition of control by PRC residents of offshore entities which merely acquire "control"“control” over domestic companies or assets, even in the absence of legal ownership; (2) adding requirements relating to the source of the PRC resident'sresident’s funds used to establish or acquire the offshore entity; (3) covering the use of existing offshore entities for offshore financings; (4) purporting to cover situations in which an offshore SPV establishes a new subsidiary in China or acquires an unrelated company or unrelated assets in China; and (5) making the domestic affiliate of the SPV responsible for the accuracy of certain documents which must be filed in connection with any such registration, notably, the business plan which describes the overseas financing and the use of proceeds. Amendments to registrations made under Circular 75 are required in connection with any increase or decrease of capital, transfer of shares, mergers and acquisitions, equity investment or creation of any security interest in any assets located in China to guarantee offshore obligations, and Notice 106 makes the offshore SPV jointly responsible for these filings. In the case of an SPV which was established, and which acquired a related domestic company or assets, before the implementation date of Circular 75, a retroactive SAFE registration was required to have been completed before March 31, 2006. This date was subsequently extended indefinitely by Notice 106, which also required that the registrant establish that all foreign exchange transactions undertaken by the SPV and its affiliates were in compliance with applicable laws and regulations. Failure to comply with the requirements of Circular 75, as applied by SAFE in accordance with Notice 106, may result in fines and other penalties under PRC laws for evasion of applicable foreign exchange restrictions. Any such failure could also result in the SPV'sSPV’s affiliates being impeded or prevented from distributing their profits and the proceeds from any reduction in capital, share transfer or liquidation to the SPV, or from engaging in other transfers of funds into or out of China.