CHINA AUTOMOTIVE SYSTEMS INC - Quarter Report: 2021 March (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark one)

For the quarterly period ended March 31, 2021

Or

For the transition period from ________ to _________

Commission file number: 000-33123

China Automotive Systems, Inc.

(Exact name of registrant as specified in its charter)

No. 1 Henglong Road, Yu Qiao Development Zone, Shashi District

Jing Zhou City, Hubei Province, the People’s Republic of China

(Address of principal executive offices)

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

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

Yes           x          No           ¨

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

Yes           x           No          ¨

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

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes           ¨           No           x

As of May 12, 2021, the Company had 30,851,776 shares of common stock issued and outstanding.

CHINA AUTOMOTIVE SYSTEMS, INC.

INDEX

Cautionary Statement

This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, and Section 21E of the Securities Exchange Act of 1934. These statements relate to future events or the Company’s future financial performance. The Company has attempted to identify forward-looking statements by terminology including “anticipates,” “believes,” “expects,” “can,” “continues,” “could,” “estimates,” “expects,” “intends,” “may,” “plans,” “potential,” “predicts,” “should” or “will” or the negative of these terms or other comparable terminology. Such statements are subject to certain risks and uncertainties, including the matters set forth in this Quarterly Report or other reports or documents the Company files with the Securities and Exchange Commission from time to time, which could cause actual results or outcomes to differ materially from those projected. Although the Company believes that the expectations reflected in the forward-looking statements are reasonable, the Company cannot guarantee future results, levels of activity, performance or achievements. Undue reliance should not be placed on these forward-looking statements, which speak only as of the date hereof. The Company’s expectations are as of the date this Form 10-Q is filed, and the Company does not intend to update any of the forward-looking statements after the date this Quarterly Report on Form 10-Q is filed to conform these statements to actual results, unless required by law. All of the forward-looking statements are qualified in their entirety by reference to the factors discussed under Item 1A. “Risk Factors” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2020, as filed with the Securities and Exchange Commission.

PART I — FINANCIAL INFORMATION

China Automotive Systems, Inc. and Subsidiaries

Condensed Unaudited Consolidated Statements of Operations and Comprehensive Income

(In thousands of USD, except share and per share amounts)

The accompanying notes are an integral part of these condensed unaudited consolidated financial statements.

China Automotive Systems, Inc. and Subsidiaries

Condensed Unaudited Consolidated Balance Sheets

(In thousands of USD unless otherwise indicated)

The accompanying notes are an integral part of these condensed unaudited consolidated financial statements.

China Automotive Systems, Inc. and Subsidiaries

Condensed Unaudited Consolidated Statements of Cash Flows

(In thousands of USD unless otherwise indicated)

The accompanying notes are an integral part of these condensed unaudited consolidated financial statements.

China Automotive Systems, Inc. and Subsidiaries

Notes to Condensed Unaudited Consolidated Financial Statements

Three Months Ended March 31, 2021 and 2020

China Automotive Systems, Inc., “China Automotive,” was incorporated in the State of Delaware on June 29, 1999 under the name Visions-In-Glass, Inc. China Automotive, including, when the context so requires, its subsidiaries described below, is referred to herein as the “Company.” The Company is primarily engaged in the manufacture and sale of automotive systems and components, as described below.

Great Genesis Holdings Limited, a company incorporated in Hong Kong on January 3, 2003 under the Companies Ordinance in Hong Kong as a limited liability company, “Genesis,” is a wholly-owned subsidiary of the Company.

Henglong USA Corporation, “HLUSA,” incorporated on January 8, 2007 in Troy, Michigan, is a wholly-owned subsidiary of the Company, and mainly engages in marketing of automotive parts in North America, and provides after-sales service and research and development support accordingly.

The Company owns the following aggregate net interests in the following subsidiaries organized in the People's Republic of China, the “PRC,” and Brazil as of March 31, 2021 and December 31, 2020.

Basis of Presentation - The accompanying condensed unaudited consolidated financial statements include the accounts of the Company and its subsidiaries. The details of subsidiaries are disclosed in Note 1. Significant inter-company balances and transactions have been eliminated upon consolidation. The condensed unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States of America (“U.S. GAAP”) for interim financial information and with the instructions in Regulation S-X. Accordingly they do not include all of the information and footnotes required by such accounting principles for complete financial statements. These financial statements should be read in conjunction with the consolidated financial statements and related footnotes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2020.

The accompanying interim condensed consolidated financial statements are unaudited, but in the opinion of the Company’s management, contain all necessary adjustments, which include normal recurring adjustments, for a fair statement of the results of operations, financial position and cash flows for the interim periods presented.

The condensed consolidated balance sheet as of December 31, 2020 is derived from the Company’s audited financial statements at that date but does not include all of the information and footnotes required by U.S. GAAP for complete financial statements.

The results of operations for the three months ended March 31, 2021 are not necessarily indicative of the results of operations to be expected for the full fiscal year ending December 31, 2021.

Estimation - The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the dates of the financial statements, and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from those estimates.

Foreign Currencies - China Automotive, the parent company, and HLUSA maintain their books and records in United States Dollars, “USD,” their functional currency. The Company’s subsidiaries based in the PRC and Genesis maintain their books and records in Renminbi, “RMB,” their functional currency. The Company’s subsidiary based in Brazil maintains its books and records in Brazilian real, “BRL,” its functional currency. In accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 830, foreign currency transactions denominated in currencies other than the functional currency are remeasured into the functional currency at the rate of exchange prevailing at the balance sheet date for monetary items. Nonmonetary items are remeasured at historical rates. Income and expenses are remeasured at the rate in effect on the transaction dates. Transaction gains and losses, if any, are included in the determination of net income for the period. 

No accounting standards newly issued during the three months ended March 31, 2021, had a material impact on the Company’s financial statements or disclosures.

The Company’s accounts and notes receivable, net as of March 31, 2021 and December 31, 2020 are summarized as follows (figures are in thousands of USD):

The Company’s inventories as of March 31, 2021 and December 31, 2020 consisted of the following (figures are in thousands of USD):

The Company recorded $1.0 million and $0.8 million of inventory write-down to cost of product sold for the three months ended March 31, 2021 and 2020, respectively.

The Company’s long-term investments at March 31, 2021 and December 31, 2020, are summarized as follows (figures are in thousands of USD):

The Company’s property, plant and equipment, net as of March 31, 2021 and December 31, 2020 are summarized as follows (figures are in thousands of USD):

Loans consist of the following as of March 31, 2021 and December 31, 2020 (figures are in thousands of USD):

The Company must use the loans for the purpose as prescribed in the loan contracts. If the Company fails to do so, it will be charged penalty interest and/or trigger early repayment. The Company complied with such financial covenants as of March 31, 2021.

The Company’s accounts and notes payable as of March 31, 2021 and December 31, 2020 are summarized as follows (figures are in thousands of USD):

The Company’s accrued expenses and other payables as of March 31, 2021 and December 31, 2020 are summarized as follows (figures are in thousands of USD):

For the three months ended March 31, 2021 and 2020, the warranties activities were as follows (figures are in thousands of USD): 

On January 31, 2018, the Company entered into an equipment sales agreement with a third party (the “buyer-lessor”) and simultaneously entered into a four-year contract to lease back the equipment from the buyer-lessor. The carrying value of the equipment was RMB 91.3 million (equivalent to $13.9 million as of March 31, 2021) and the sales price was RMB 100.0 million (equivalent to $15.2 million as of March 31, 2021). Pursuant to the terms of the contract, the Company is required to pay to the buyer-lessor lease payments over four (4) years with a quarterly lease payment of approximately $1.0 million and is entitled to obtain the ownership of this equipment at a nominal price upon the expiration of the lease. The Company is of the view that the transaction does not qualify as a sale. Therefore, the transaction was accounted for as a financing transaction by the Company. As of March 31, 2021, $4.2 million was recognized as other payable (See Note 9) and $0.04 million was recognized as other long-term payable to the buyer-lessor according to the contract term.

In September 2020, one of the Company’s subsidiaries issued shares to Hubei Venture Fund amounting to $0.7 million. The shares will be transferred to the Company and the other shareholder of the subsidiary on a pro rata basis at the holder’s option if the subsidiary fails to complete a qualified IPO in a pre-agreed period of time after their issuance with a transfer price of par plus 6% per year. $0.5 million of the shares are subject to purchase by the Company and are therefore accounted for as redeemable non-controlling interests in mezzanine equity and are accreted to the redemption value over the period starting from the issuance date.

For the three months ended March 31, 2021, the Company recognized accretion of $0.007 million to the redemption value of the shares over the period starting from the issuance date with a corresponding reduction to retained earnings.

The Company’s positions in respect of the amounts of additional paid-in capital for the three months ended March 31, 2021 and 2020, are summarized as follows (figures are in thousands of USD):

The Company’s stock option plan was approved at the Annual Meeting of Stockholders held on June 28, 2005, and extended to June 27, 2025 at the Annual Meeting of Stockholders held on September 16, 2014. The maximum common shares available for issuance under this plan is 2,200,000. The stock incentive plan provides for the issuance, to the Company’s officers, directors, management and employees who served over three years or have given outstanding performance, of options to purchase shares of the Company’s common stock. The Company has issued 658,850 stock options under this plan, and there remain 1,541,150 stock options issuable in the future as of March 31, 2021.

Under the aforementioned plan, the stock options granted will have an exercise price equal to the closing price of the Company’s common stock traded on NASDAQ one day before the date of grant, and will expire two to five years after the grant date. The stock options granted during the three months ended March 31, 2021 were exercisable immediately on the grant date. Stock options will be settled in shares of the Company’s common stock upon exercise and are recorded in the Company’s consolidated balance sheets under the caption “Additional paid-in capital.” As of March 31, 2021, the Company has sufficient unissued registered common stock for settlement of the stock incentive plan mentioned above.

The fair value of stock options was determined at the date of grant using the Black-Scholes option pricing model. The Black-Scholes option model requires management to make various estimates and assumptions, including expected term, expected volatility, risk-free rate, and dividend yield. The expected term represents the period of time that stock-based compensation awards granted are expected to be outstanding and is estimated based on considerations including the vesting period, contractual term and anticipated employee exercise patterns. Expected volatility is based on the historical volatility of the Company’s stock. The risk-free rate is based on the U.S. Treasury yield curve in relation to the contractual life of stock-based compensation instruments. The dividend yield assumption is based on historical patterns and future expectations for the Company dividends.

For the stock options granted during the three months ended March 31, 2021, assumptions used to estimate the fair value of stock options on the grant date is as follows:

The stock options granted during the three months ended March 31, 2021 were exercisable immediately and their fair value on the grant date using the Black-Scholes option pricing model was $0.1 million. For the three months ended March 31, 2021 and 2020, the Company recognized stock-based compensation expenses of $0.1 million and nil, respectively.

The activities of stock options are summarized as follows, including granted, exercised and forfeited.

The following is a summary of the range of exercise prices for stock options that are outstanding and exercisable at March 31, 2021:

As of March 31, 2021 and December 31, 2020, the total intrinsic value of the Company’s stock options that were exercisable was $0.2 million and $0.1 million, respectively.

For the three months ended March 31, 2021 and 2020, no Company’s stock options were exercised.

During the three months ended March 31, 2021, the weighted average fair value of the Company’s stock options granted was $3.92. No stock option was granted during the three months ended March 31, 2020.

Appropriated

Pursuant to the relevant PRC laws, the profits distribution of the Company’s subsidiaries, which are based on their PRC statutory financial statements, are available for distribution in the form of cash dividends after these subsidiaries have paid all relevant PRC tax liabilities, provided for losses in previous years, and made appropriations to statutory surplus at 10% of their respective after-tax profits each year. When the statutory surplus reserve reaches 50% of the registered capital of a company, no additional reserve is required. For the three months ended March 31, 2021 and 2020, no statutory reserve was appropriated by the subsidiaries in China.

The Company’s activities in respect of the amounts of appropriated retained earnings for the three months ended March 31, 2021 and 2020, are summarized as follows (figures are in thousands of USD):

Unappropriated

The Company’s activities in respect of the amounts of the unappropriated retained earnings for the three months ended March 31, 2021 and 2020, are summarized as follows (figures are in thousands of USD):

The Company’s activities in respect of the amounts of accumulated other comprehensive income for the three months ended March 31, 2021 and 2020, are summarized as follows (figures are in thousands of USD): 

The Company’s activities in respect of the amounts of the non-controlling interests’ equity for the three months ended March 31, 2021 and 2020, are summarized as follows (figures are in thousands of USD):  

Revenue Disaggregation

Management has concluded that the disaggregation level is the same under both the revenue standard and the segment reporting standard. Please refer to Note 25.

Contract Assets and Liabilities

Contract assets, such as costs to obtain or fulfill contracts, are an insignificant component of the Company’s revenue recognition process. The majority of the Company’s cost of fulfillment as a manufacturer of products is classified as inventory, fixed assets and intangible assets, which are accounted for under the respective guidance for those asset types. Other costs of contract fulfillment are immaterial due to the nature of the Company’s products and their respective manufacturing processes.

Contract liabilities are mainly customer deposits. As of March 31, 2021 and December 31, 2020, the Company has customer deposits of $1.1 million and $1.5 million, respectively, which were included in other current liabilities on the consolidated balance sheets. During the three months ended March 31, 2021, $1.0 million was received and $1.4 million (including $1.4 million from the beginning balance of customer deposits) was recognized as net product sales revenue. During the three months ended March 31, 2020, $0.3 million was received and $0.6 million (including $0.6 million from the beginning balance of customer deposits) was recognized as net product sales revenue. Customer deposits represent non-refundable cash deposits for customers to secure rights to an amount of products produced by the Company under supply agreements. When the products are shipped to customers, the Company will recognize revenue and bill the customers to reduce the amount of the customer deposit liability.

During the three months ended March 31, 2021 and 2020, the Company recorded financial expense, net which is summarized as follows (figures are in thousands of USD):

Basic income per share is computed using the weighted average number of ordinary shares outstanding during the period. Diluted income per share is computed using the weighted average number of ordinary shares and dilutive ordinary share equivalents outstanding during the period. The dilutive effect of outstanding stock options is determined based on the treasury stock method.

The calculations of basic and diluted income per share attributable to the parent company for the three months ended March 31, 2021 and 2020, were as follows (figures are in thousands of USD, except share and per share amounts):

As of March 31, 2021, the exercise prices for 30,000 shares, of outstanding stock options were above the weighted average market price of the Company’s common stock during the three months ended March 31, 2021. Therefore, these stock options were excluded from the calculation of the diluted income per share for the corresponding periods presented.

For the three months ended March 31, 2020, assumed conversion of the stock options has not been reflected in the dilutive calculation pursuant to ASC 260, “Earnings Per Share,” due to the anti-dilutive effect as a result of the Company’s net loss. The effects of all outstanding share options with common share equivalents of 74 shares, have been excluded from the calculation of the diluted loss per share for the three months ended March 31, 2020, due to their anti-dilutive effect.

A significant portion of the Company’s business is conducted in China where the currency is the RMB. Regulations in China permit foreign owned entities to freely convert the RMB into foreign currency for transactions that fall under the "current account", which includes trade related receipts and payments, interest and dividends. Accordingly, the Company’s Chinese subsidiaries may use RMB to purchase foreign currency for settlement of such "current account" transactions without pre-approval.

China Automotive, the parent company, may depend on dividend payments from Genesis and HLUSA, which are generated from their subsidiaries in China, “China-based Subsidiaries,” after they receive payments from the China-based Subsidiaries. Regulations in the PRC currently permit payment of dividends of a PRC company only out of accumulated profits as determined in accordance with accounting standards and regulations in China. Under PRC law China-based Subsidiaries are required to set aside at least 10% of their after-tax profit based on PRC accounting standards each year to their general reserves until the cumulative amount reaches 50% of their paid-in capital. These reserves are not distributable as cash dividends, or as loans or advances. These foreign-invested enterprises may also allocate a portion of their after-tax profits, at the discretion of their boards of directors, to their staff welfare and bonus funds. Any amounts so allocated may not be distributed and, accordingly, would not be available for distribution to Genesis and HLUSA. 

The PRC government also imposes controls on the convertibility of RMB into foreign currencies and, in certain cases, the remittance of currencies out of China. The China-based Subsidiaries may experience difficulties in completing the administrative procedures necessary to obtain and remit foreign currencies. If China Automotive is unable to receive dividend payments from its subsidiaries, including the China-based subsidiaries, China Automotive may be unable to effectively finance its operations or pay dividends on its shares.

Transactions other than those that fall under the "current account" and that involve conversion of RMB into foreign currency are classified as "capital account" transactions; examples of "capital account" transactions include repatriations of investment by or loans to foreign owners, or direct equity investments in a foreign entity by a China domiciled entity. "Capital account" transactions require prior approval from China's State Administration of Foreign Exchange, or SAFE, or its provincial branch to convert a remittance into a foreign currency, such as U.S. Dollars, and transmit the foreign currency outside of China.

This system could be changed at any time and any such change may affect the ability of the Company or its subsidiaries in China to repatriate capital or profits, if any, outside China. Furthermore, SAFE has a significant degree of administrative discretion in implementing the laws and has used this discretion to limit convertibility of current account payments out of China. Whether as a result of a deterioration in the Chinese balance of payments, a shift in the Chinese macroeconomic prospects or any number of other reasons, China could impose additional restrictions on capital remittances abroad. As a result of these and other restrictions under the laws and regulations of the People's Republic of China, or the PRC, the Company’s China subsidiaries are restricted in their ability to transfer a portion of their net assets to the parent. The Company has no assurance that the relevant Chinese governmental authorities in the future will not limit further or eliminate the ability of the Company’s China subsidiaries to purchase foreign currencies and transfer such funds to the Company to meet its liquidity or other business needs. Any inability to access funds in China, if and when needed for use by the Company outside of China, could have a material and adverse effect on the Company’s liquidity and its business.

Related party transactions are as follows (figures are in thousands of USD):

Related sales

Related purchases

Related receivables

Related advance payments

Related payables

These transactions were consummated under similar terms as those with the Company's third party customers and suppliers.

As of May 12, 2021, Hanlin Chen, the chairman of the board of directors of the Company, owns 57.9% of the common stock of the Company and has the effective power to control the vote on substantially all significant matters without the approval of other stockholders.

Legal proceedings

On January 7, 2019, three purported stockholders of the Company filed a stockholder derivative complaint on behalf of the Company against the Company’s directors Hanlin Chen, Qizhou Wu and Guangxun Xu and former directors Arthur Wong and Robert Tung in the Delaware Court of Chancery, alleging that they had (a) breached their fiduciary duties by approving and paying excessive compensation to the non-employee directors of the Company, Arthur Wong, Guangxun Xu and Robert Tung, and (b) failed to make full and accurate disclosure of all material information with respect to director qualification and director compensation paid in 2017 in the Company’s annual proxy statement on Schedule 14A filed on October 10, 2018. The directors have engaged their own counsel to answer this complaint. On April 9, 2019, the Company moved to dismiss the complaint. The motion to dismiss was denied on July 17, 2019. In November 2020, the Company reached a settlement to resolve the lawsuit for the sum of $55,998. The Company did not admit any liability in reaching the settlement. On February 5, 2021, the Court of Chancery conducted a hearing to confirm the settlement of the stockholder derivative action. The Court entered a Final Order and Judgment approving the settlement. The Court further ordered that the plaintiffs’ application for an award of attorneys’ fees and reimbursement of litigation expenses be reduced from $100,000 to $30,000. The Court’s Final Order and Judgment is publicly available on the Court of Chancery docket. As of March 31, 2021, the Company has received above settlement of $55,998 from the directors and paid the above attorneys’ fees and reimbursement of litigation expenses.

Other than as described above, the Company is not a party to any pending or, to the best of the Company’s knowledge, any threatened legal proceedings and no director, officer or affiliate of the Company, or owner of record of more than five percent of the securities of the Company, or any associate of any such director, officer or security holder is a party adverse to the Company or has a material interest adverse to the Company in reference to pending litigation.

Other commitments and contingencies

In addition to the bank loans, notes payables and the related interest, the following table summarizes the Company’s major commitments and contingencies as of March 31, 2021 (figures are in thousands of USD):

As of March 31, 2021 and December 31, 2020, the Company did not have any significant transactions, obligations or relationships that could be considered off-balance sheet arrangements.

The accounting policies of the product sectors (each entity manufactures and sells different products and represents a different product sector) are the same as those described in the summary of significant accounting policies disclosed in the Company’s 2020 Annual Report on Form 10-K except that the disaggregated financial results for the product sectors have been prepared using a management approach, which is consistent with the basis and manner in which management internally disaggregates financial information for the purposes of assisting them in making internal operating decisions. Generally, the Company evaluates performance based on stand-alone product sector operating income and accounts for inter-segment sales and transfers as if the sales or transfers were to third parties, at current market prices. Each product sector is considered a reporting segment.

As of March 31, 2021, the Company had 15 product sectors, six of which were principal profit makers and were reported as separate sectors and engaged in the production and sales of power steering (Henglong, Jiulong, Shenyang, Wuhu, Henglong KYB and Hubei Henglong), and one holding company (Genesis). The other nine sectors were engaged in the development, manufacturing and sale of high polymer materials (Wuhu Hongrun), R&D services (Changchun Hualong), automobile steering columns (Jielong), provision of after-sales and R&D services (HLUSA), production and sale of power steering (Chongqing Henglong), trade (Brazil Henglong), manufacture and sales of automobile electronic systems and parts (Wuhan Chuguanjie), research and development of intelligent automotive technology (Jingzhou Qingyan) and manufacture and sales of automotive motors and electromechanical integrated systems (Wuhan Hyoseong).

As of March 31, 2020, the Company had 14 product sectors, six of which were principal profit makers and were reported as separate sectors and engaged in the production and sales of power steering (Henglong, Jiulong, Shenyang, Wuhu, Henglong KYB and Hubei Henglong), and one holding company (Genesis). The other eight sectors were engaged in the production and sale of modular sensors (USAI), automobile steering columns (Jielong), provision of after sales and R&D services (HLUSA), production and sale of power steering (Chongqing Henglong), trade (Brazil Henglong), manufacture and sales of automobile electronic systems and parts (Wuhan Chuguanjie), research and development of intelligent automotive technology (Jingzhou Qingyan) and manufacture and sales of automotive motors and electromechanical integrated systems (Wuhan Hyoseong).

The Company’s product sector information for the three months ended March 31, 2021 and 2020, is as follows (figures are in thousands of USD):

The following discussion and analysis should be read in conjunction with the Company’s condensed unaudited consolidated financial statements and the related notes thereto and the other financial information contained elsewhere in this Report.

General Overview

China Automotive Systems, Inc. is a leading power steering systems supplier for the China automobile industry. The Company has business relationships with more than sixty vehicle manufacturers, including China’s top ranking domestic automobile manufacturers such as JAC motors, Changan Automobile Group, BAIC Group, Dongfeng Group, Brilliance Jinbei, Chery, BYD and Zhejiang Geely, as well as Sino-foreign or foreign automobile manufacturer such as General Motors, Citroen, Fiat Chrysler North America and Ford. Starting in 2008, the Company has supplied power steering gears to the Sino-foreign joint ventures established by GM, Citroen and Volkswagen in China. The Company has supplied power steering gear to Fiat Chrysler North America since 2009 and to Ford Motor Company since 2016.

Most of the Company’s production and research and development institutes are located in China. As of March 31, 2021, the Company has approximately 4,566 employees dedicated to design, development, manufacture and sales of its products. By leveraging its extensive experience, innovative technology and geographic strengths, the Company aims to grow leading positions in automotive power steering systems and to further improve overall margins, long-term operating profitability and cash flows. To achieve these goals and to respond to industry factors and trends, the Company is continuing work to improve its operations and business structure and achieve profitable growth.

In addition, as a result of COVID-19, the Company’s businesses, results of operations, financial position and cash flows had been materially and adversely affected in the first quarter of 2020. The Company resumed operation in March of 2020. However, because of the significant uncertainties surrounding COVID-19, which are still evolving, the extent of the business disruption, including the duration and the related financial impact on subsequent periods cannot be reasonably estimated at this time. See “Item 1A. Risk Factors—Our business operations have been and may continue to be materially and adversely affected by the outbreak of the coronavirus disease (COVID-19)” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2020.

Corporate Structure

The Company, through its subsidiaries, engages in the manufacture and sales of automotive systems and components. Great Genesis Holdings Limited, a company incorporated in Hong Kong on January 3, 2003 under the Companies Ordinance of Hong Kong as a limited liability company, “Genesis,” is a wholly-owned subsidiary of the Company and the holding company of the Company’s joint ventures in the PRC. Henglong USA Corporation, “HLUSA,” incorporated on January 8, 2007 in Troy, Michigan, is a wholly-owned subsidiary of the Company, and mainly engages in marketing of automotive parts in North America, and provides after-sales service and research and development support. CAAS Brazil’s Imports And Trade In Automotive Parts Ltd., “Brazil Henglong,” was established by Hubei Henglong Automotive System Group Co., Ltd., formerly known as Jingzhou Hengsheng Automotive System Co., Ltd., “Hubei Henglong,” as a Sino-foreign joint venture company with two Brazilian citizens in Brazil in August 2012. In May 2017, the Company obtained an additional 15.84% equity interest in Brazil Henglong for nil consideration. The Company retained its controlling interest in Brazil Henglong and the acquisition of the non-controlling interest was accounted for as an equity transaction. Fujian Qiaolong was acquired by the Company in the second quarter of 2014, as a joint venture company that mainly manufactures and distributes drainage and rescue vehicles with mass flow, drainage vehicles with vertical downhole operation, crawler-type mobile pump stations, high-altitude water supply and discharge drainage vehicles, long-range control crawler-type mobile pump stations and other vehicles, which was disposed of by the Company in the second quarter of 2016. USAI was established in 2005, and the Company and Hubei Wanlong owned 83.34% and 16.66%, respectively. In May 2020, USAI merged with and into Wuhan Chuguanjie, a wholly-owned subsidiary of Wuhan Jielong, and it deregistered from the local business administration on April 28, 2020. Following the merger, 85.0% of Wuhan Chuguanjie was owned by the Company and 15.0% was owned by Hubei Wanlong. In April 2020, Hubei Henglong acquired 100.00% of the shares of Changchun Hualong Automotive Technology Co., Ltd., “Changchun Hualong”, for total consideration of RMB 1.20 million, equivalent to approximately $0.2 million. Changchun Hualong mainly engages in design and R&D of automotive parts. Wuhu Hongrun New Material Co., Ltd., “Wuhu Hongrun” was formed in December 2019, which mainly engages in the development, manufacturing and sale of high polymer materials.

Critical Accounting Estimates

The Company prepares its condensed consolidated financial statements in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires the use of estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the dates of the financial statements and the reported amount of revenues and expenses during the reporting periods. Management periodically evaluates the estimates and judgments made. Management bases its estimates and judgments on historical experience and on various factors that are believed to be reasonable under the circumstances. Actual results may differ from these estimates as a result of different assumptions or conditions. The following critical accounting policies affect the more significant judgments and estimates used in the preparation of the Company’s condensed consolidated financial statements.

The Company considers an accounting estimate to be critical if:

The table below presents information about the nature and rationale for the Company’s critical accounting estimates:

Recent Accounting Pronouncements

Please see Note 2 to the consolidated financial statements under Item 1 of Part I of this report.

Results of Operations

Three Months Ended March 31, 2021 and 2020

Selected highlights from our results of operations are as follows (in thousands of U.S. dollars):

Net Product Sales and Cost of Products Sold

Net Product Sales

Net product sales were $130.3 million for the three months ended March 31, 2021, compared to $73.6 million for the same period in 2020, representing an increase of $56.7 million, or 77.0%, mainly due to the market recovery after COVID-19.

Net sales of traditional steering products and parts were $105.6 million for the three months ended March 31, 2021, compared to $65.5 million for the same period in 2020, representing an increase of $40.1 million, or 61.2%. Net sales of electric power steering (“EPS”) were $24.7 million for the three months ended March 31, 2021 and $8.1 million for the same period in 2020, representing an increase of $16.6 million. As a percentage of net sales, sales of EPS were 19.0% for the three months ended March 31, 2021, compared with 11.0% for the same period in 2020.

The increase in net product sales was due to the effects of three major factors: i) the increase in sales volume led to a sales increase of $60.7 million due to the increase in demand as a result of the recovery of manufacturing and operations of the Company’s customers after COVID-19 around the world; ii) the decrease in average selling price of steering gears led to a sales decrease of $7.9 million; and iii) the appreciation of the RMB against the U.S. dollar in this quarter compared to the same quarter last year resulted in a sales increase of $3.9 million.

Further analysis by segment (before elimination) is as follows:

Cost of Products Sold

For the three months ended March 31, 2021, the cost of products sold was $110.6 million, compared to $62.4 million for the same period of 2020, representing an increase of $48.2 million, or 77.2%. The increase in cost of sales was mainly due to the effect of the following major factors: i) the decrease in unit price led to a cost of sales decrease of $6.3 million; (ii) the increase in sales volumes led to a cost of sales increase of $50.6 million; and iii) the appreciation of the RMB against the U.S. dollar resulted in a cost of sales increase of $3.9 million. Further analysis is as follows:

Gross margin was 15.1% for the three months ended March 31, 2021, which is consistent with 15.2% for the same period of 2020.

Selling Expenses

Selling expenses were $5.6 million for the three months ended March 31, 2021, as compared to $2.1 million for the same period of 2020, representing an increase of $3.5 million, which was primarily due to higher sales volume and increased air freight charge.

General and Administrative Expenses

General and administrative expenses were $4.6 million for the three months ended March 31, 2021, as compared to $3.4 million for the same period of 2020, representing an increase of $1.2 million, or 35.3%, which was mainly due to the increased payroll expenses.

Research and Development Expenses

Research and development expenses were $6.7 million for the three months ended March 31, 2021, as compared to $5.2 million for the three months ended March 31, 2020, representing an increase of $1.5 million which was mainly due to increased expenditures on R&D activities for EPS products.

Other Income

Other income, net was $1.7 million for the three months ended March 31, 2021, as compared to $0.1 million for the three months ended March 31, 2020, representing an increase of $1.6 million, which was mainly due to the various government subsidies of $1.4 million received in the first three months of 2021, whereas only $0.5 million was received in the same period of last year.  

Interest Expense

Interest expense was $0.3 million for the three months ended March 31, 2021, which is consistent with $0.4 million for the three months ended March 31, 2020.

Income Taxes

Income tax expense was $0.6 million for the three months ended March 31, 2021, compared to $0.5 million for the three months ended March 31, 2020, which was due to the increase in income before income tax expenses.

Net Income/(loss) Attributable to Non-controlling Interests

Net income attributable to non-controlling interests amounted to $0.02 million for the three months ended March 31, 2021, compared to net loss attributable to non-controlling interests of $0.6 million for the three months ended March 31, 2020.

Net Income/(loss) Attributable to Parent Company’s Common Shareholders

Net income attributable to parent company’s common shareholders was $3.2 million for the three months ended March 31, 2021, compared to net loss attributable to parent company’s common shareholders of $0.03 million for the three months ended March 31, 2020, representing an increase in net income attributable to parent company’s common shareholders of $3.2 million.

Liquidity and Capital Resources

Capital Resources and Use of Cash

The Company has historically financed its liquidity requirements from a variety of sources, including short-term borrowings under bank credit agreements, bankers’ acceptances, issuances of capital stock and notes and internally generated cash. As of March 31, 2021, the Company had cash and cash equivalents and short-term investments of $105.2 million, compared to $107.4 million as of December 31, 2020, representing a decrease of $2.2 million, or 2.0%. 

The Company had working capital (total current assets less total current liabilities) of $130.5 million as of March 31, 2021, compared to $121.2 million as of December 31, 2020, representing an increase of $9.3 million, or 7.7%.

Except for the expected distribution of dividends from the Company’s PRC subsidiaries to the Company in order to fund the payment of the one-time transition tax due to the U.S. Tax Reform, the Company intends to indefinitely reinvest the funds in subsidiaries established in the PRC.

We cannot predict the impact COVID-19 may have on our cash flow for the rest of 2021. However, based on our liquidity assessment, we believe that our cash flow from operations and proceeds from our financing activities will be sufficient to meet our anticipated cash needs, including our cash needs for working capital and capital expenditures, for the foreseeable future and for at least twelve months subsequent to the filing of this report.

Capital Source

The Company’s capital source is multifaceted, such as bank loans and banks’ acceptance facilities. In financing activities and operating activities, the Company’s banks require the Company to sign line of credit agreements and repay such facilities within one to two years. On the condition that the Company can provide adequate mortgage security and has not violated the terms of the line of credit agreement, such facilities can be extended for another one to two years. 

The Company had short-term loans of $46.2 million (See Note 7) and bankers’ acceptances of $86.6 million (See Note 8) as of March 31, 2021. 

The Company currently expects to be able to obtain similar bank loans, i.e., RMB loans, and bankers’ acceptance facilities in the future if it can provide adequate mortgage security following the termination of the above-mentioned agreements, see the table under “Bank Arrangements” below for more information. If the Company is not able to do so, it will have to refinance such debt as it becomes due or repay that debt to the extent it has cash available from operations or from the proceeds of additional issuances of capital stock. Due to a depreciation of assets, the value of the mortgages securing the above-mentioned bank loans and banker's acceptances is expected to be reduced by approximately $16.2 million over the next 12 months. If the Company wishes to maintain the same amount of bank loans and banker's acceptances in the future, it may be required by the banks to provide additional mortgages of $16.2 million as of the maturity date of such line of credit agreements, see the table under “Bank Arrangements” below for more information. The Company can still obtain a reduced line of credit with a reduction of $8.6 million, which is 52.9%, the mortgage ratio, of $16.2 million, if it cannot provide additional mortgages. The Company expects that the reduction in bank loans will not have a material adverse effect on its liquidity. 

Bank Arrangements

As of March 31, 2021, the principal outstanding under the Company’s credit facilities and lines of credit was as follows (figures are in thousands of USD): 

The Company may request the banks to issue notes payable or bank loans within its credit line using a 365-day revolving line.

The Company’s bank loan terms range from 9 months to 23 months. Pursuant to the comprehensive credit line arrangement, the Company pledged and guaranteed:

1. Land use rights and buildings with an assessed value of approximately $9.7 million as security for its comprehensive credit facility with China Everbright Bank.

2. Buildings with an assessed value of approximately $22.4 million as security for its revolving comprehensive credit facility with Shanghai Pudong Development Bank.

3. Land use rights and buildings with an assessed value of approximately $21.7 million as security for its comprehensive credit facility with China CITIC Bank Wuhan Branch.

4. Land use rights and buildings with an assessed value of approximately $6.7 million as security for its comprehensive credit facility with China CITIC Bank Shenyang Branch.

5. Equipment with an assessed value of approximately $70.9 million as security for its revolving comprehensive credit facility with Hubei Bank.

6. Buildings with an assessed value of approximately $2.4 million as security for its comprehensive credit facility with Bank of Chongqing.

7. Buildings with an assessed value of approximately $4.2 million as security for its comprehensive credit facility with Agricultural Bank of China.

Short-term and Long-term Loans

The following table summarizes the contract information of short-term and long-term borrowings between the banks, government and the Company as of March 31, 2021 (figures are in thousands of USD).