MICROALLIANCE GROUP INC. The following management's discussion and analysis should be read in conjunction with our financial statements and the notes thereto and the other financial information appearing elsewhere in this report. Our financial statements are prepared inU.S. dollars and in accordance withU.S. GAAP.
Cautionary Note Regarding Forward-Looking Statements
This Quarterly Report on Form 10-Q contains "forward-looking statements" within the meaning of the safe harbor provisions of theU.S. Private Securities Litigation Reform Act of 1995. Because they discuss future events or conditions, forward-looking statements may include words such as "anticipate," "believe," "estimate," "intend," "could," "should," "would," "may," "seek," "plan," "might," "will," "pursue," "expect," "predict," "project," "goals," "strategy," "future," "likely," "forecast," "potential," "continue," negatives thereof or similar references to future periods. Examples of forward-looking statements include, among others, statements we make regarding business strategies, macro-economic and sector-specific trends, future cash flows, financing plans, plans and objectives of management and any other statements which are not statements of historical facts. Forward-looking statements are neither historical facts nor assurances of future performance. Instead, they are based only on our current beliefs, expectations and assumptions regarding the future of our business, future plans and strategies, projections, anticipated events and trends, the economy and other future conditions. Because forward-looking statements relate to the future, they are subject to inherent uncertainties, risks and changes in circumstances that are difficult to predict and many of which are outside of our control. Our actual future results and financial condition may differ materially from those indicated in the forward-looking statements. Therefore, you should not rely on any of these forward-looking statements. Important factors that could cause our actual results and financial condition to differ materially from those indicated in the forward-looking statements include, among others, legal and regulatory changes in the jurisdictions in which we operate, volatility or decline in our stock price, potential fluctuation of our quarterly and annual financial and operational results, rapid adverse changes in markets, decline in demand for our goods and services, insufficient revenues to cover our operating costs and such other factors as identified in "Item 1A. Risk Factors" described in our most recent annual report on Form 10-K. Readers are urged to carefully review and consider the various disclosures made by us in this report and our other filings with theSEC . These reports attempt to advise interested parties of the risks and factors that may affect our business, financial condition and results of operations and prospects. The forward-looking statements made in this report speak only as of the date hereof and we disclaim any obligation, except as required by law, to provide updates, revisions or amendments to any forward-looking statements to reflect changes in our expectations or future events. Unless otherwise indicated by the context, references to the "Company, "we," "us," "our" in this report are to the combined business ofMicroalliance Group Inc. , aNevada corporation, and its consolidated subsidiaries. Overview
The Company is primarily engaged in offering two types of products: coffee and liquor. The Company, through its subsidiaries inChina , develops, produces, markets and sells flagship "coffee tea" products, which are innovative specialty coffee products with Chinese black tea's taste, as well as black coffee products and other coffee products. We sell our coffee products wholesale to retail partners and corporate customers, and we also sell directly to consumers in the PRC via our e-commerce channels. We commit to build the first brand of "coffee tea" culture in the PRC. As of the date of this report, we have entered into franchise agreements with a large number of franchisees relating to the distribution, marketing and sale of our coffee products. Our coffee product offerings consist of five different coffee products. 1 Our liquor products are sold acrossChina through sales agents, distributors and franchisees. Our licensed "Nainiang Liquor" retail stores have opened in a dozen of cities inChina , such asBeijing ,Shanghai ,Shenzhen ,Xiamen ,Chongqing ,Chengdu , Kunming, Foshan, Zhaoqing, Huangshan, Jingzhou and Baoding, to mainly market and sell our proprietary brand liquor products to consumers. We supply the licensed retail stores with our liquor products and maintain quality and uniformity throughout the licensed stores by requiring uniform retail prices, providing continual trainings, periodic field visits by our marketing personnel and holding annual and special meetings of franchisees. Such retail stores launch marketing initiatives like tasting events to increase our brand awareness and promote sales. We currently sell six liquor products, including featured "coffee spirit" products and vintage "Baijiu" products. Our "coffee spirit" products are independently innovated by us which we believe are unique inChina , with premium quality, good taste and a healthy profit margin. Our "Baijiu" (a type of Chinese liquor made from whole grain with alcohol content of 40-60%) products have excellent quality and we own a large stock of vintage Baijiu whose value grows as they age. As ofSeptember 30, 2022 , we hadRMB114,774,000 (approximately$16.1 million ) of such vintage Baijiu in stock based on the historical purchase cost. The liquor market size is massive which generates more revenues than the coffee business. COVID-19 Impact Our coffee factory inDongguan as well as offices, contracted liquor producers and licensed "Nainiang Liquor" retail stores inShenzhen have been subject to temporary closures from time to time due to COVID-19 resurgences and local containment measures beginning in the first quarter of 2022. Consumer demand for liquor products has dropped during lockdown periods as a result of social distancing policies and reduced gatherings. In addition, our plan to expand internationally has largely stalled due to the COVID-19 pandemic. It remains difficult to predict the full impact of the COVID-19 pandemic on the broader economy and our coffee and liquor businesses in particular.
Critical Accounting Policies and Use of Estimates
We prepare our consolidated financial statements in conformity withU.S. GAAP, which requires management to make certain estimates and to apply judgments. We base our estimates and judgments on historical experience, current trends and other factors that management believes to be important at the time the financial statements are prepared. On a regular basis, we review our accounting policies and how they are applied and disclosed in our condensed consolidated financial statements. Actual results could differ from those estimates made by management. We believe that of our significant accounting policies, which are described in Note 3 to our consolidated financial statements, the following accounting policies involve a greater degree of judgment and complexity. Accordingly, these are the policies we believe are the most critical to aid in fully understanding and evaluating our financial condition and results of operations. Revenue Recognition
The Company's revenues primarily include Company sales, franchise fees and income and revenues from transactions with franchisees.
Product sales
Product sales represent the sale of "coffee tea" and "spirit" products. Such
revenue is recognized net of value-added taxes, upon delivery at such time that
title passes to the customers.
2
Franchise fees and income
Franchise fees and income primarily include upfront franchise fees, such as initial fees, pre-opening assistance to operate spirit stores, subsequent training provided to franchisees and renewal fees. The Company has determined that the services provided in exchange for upfront franchise fees are highly interrelated with the franchise rights. The franchise rights are accounted for as rights to access the Company's symbolic intellectual property in accordance with ASC 606, and the Company recognizes upfront franchise fees received from a franchisee as revenue when performance obligations are satisfied in accordance with the franchise agreement or the renewal agreement. The franchise agreement term is typically 3 years.
Revenues from transactions with franchisees
Revenues from transactions with franchisees consist primarily of sales of spirit products. The Company sells and delivers spirit products to the franchisees. The performance obligations arising from such transactions are considered distinct from the franchise agreement as they are not highly dependent on the franchise agreement and the customer can benefit from the procurement service on its own. Revenue is recognized upon transfer of control over ordered items, generally upon delivery to the franchisees. In determining the amount and timing of revenue from contracts with customers, the Company exercises significant judgment with respect to collectability of the amount; however, the timing of recognition does not require significant judgment, as it is based on either the franchise term or the date of product shipment, none of which require estimation.
The Company does not incur a significant amount of contract acquisition costs in conducting its franchising activities. The Company believes its franchising arrangements do not contain a significant financing component.
The Company's revenue recognition policy is compliant with ASC 606, Revenue from Contracts with Customers, and revenue is recognized when a customer obtains control of promised goods and is recognized in an amount that reflects the consideration that the Company expects to receive in exchange for those goods. In addition, the standard requires disclosure of the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. The amount of revenue that is recorded reflects the consideration that the Company expects to receive in exchange for those goods. The Company applies the following five-step model in order to determine this amount:
(i) identification of the goods and services in the contract;
(ii) determination of whether the goods and services are performance obligations,
including whether they are distinct in the context of the contract;
(iii) measurement of the transaction price, including the constraint on variable
consideration;
(iv) allocation of the transaction price to the performance obligations; and
(v) recognition of revenue when (or as) the Company satisfies each performance
obligation.
The Company only applies the five-step model to contracts when it is probable
that the Company will collect the consideration it is entitled to in exchange
for the goods or services it transfers to the customer. Once a contract is
determined to be within the scope of ASC 606 at contract inception, the Company
reviews the contract to determine which performance obligations the Company must
deliver and which of these performance obligations are distinct. The Company
recognizes as revenues the amount of the transaction price that is allocated to
the respective performance obligation when the performance obligation is
satisfied or as it is satisfied. Generally, the Company's performance
obligations are transferred to customers at a point in time, typically upon
delivery or service being rendered.
3
For all reporting periods, the Company has not disclosed the value of
unsatisfied performance obligations for all product revenue contracts with an
original expected length of one year or less, which is an optional exemption
that is permitted under the adopted rules.
For the
three months ended
September 30,
Revenue 2022 2021
Product sales $ 433,931 $ 3,641,944
Franchise fees and income 15,526 743,150Revenues from transactions with franchisees 3,326,927 10,660,302
$ 3,776,384 $ 15,045,396 For the nine months ended September 30, Revenue 2022 2021 Product sales$ 4,760,422 $ 9,078,664 Franchise fees and income 496,831 889,296
Revenues from transactions with franchisees 9,147,696 18,947,081
$ 14,404,949 $ 28,915,041 As of As of September 30, December 31, Contract liabilities 2022 2021
Deferred revenue related to prepaid coffee and liquor products $ 9,385
523,796 716,634
$ 533,081 $ 737,515
Contract liabilities primarily consist of deferred revenue related to prepaid
spirit products and upfront franchise fees. Deferred revenue related to prepaid
spirit products represents advance from franchisees for future supply of
products which is expected to be recognized as revenue in the next 12 months.
Deferred revenue related to upfront franchise fees represents the training
service to be delivered over the term of franchise agreement that as of
September 30, 2022 , we expect to recognize revenue of $183,650 within the next
12 months.
We have elected, as a practical expedient, not to disclose the value of
remaining performance obligations associated with the franchise agreement in
exchange for franchise right and related training services. The remaining
duration of the performance obligation is the remaining contractual term of each
franchise agreement. Revenue from training services provided to franchisees is
recognized upon the conduct and delivery of training.
Concentrations of Credit Risk
Financial instruments that potentially expose us to significant concentration of
credit risk consist primarily of cash and cash equivalents and accounts
receivable. As of September 30, 2022 and December 31, 2021 , substantially all of
our cash and cash equivalents were deposited with financial institutions with
high-credit ratings and quality. The following customers had an accounts
receivable balance greater than 10% of total accounts receivable at September
30, 2022 and December 31, 2021 .
September 30, 2022 December 31, 2021
Amount % Amount %
Customer A $ - - % $ 1,540,197 51 %
Customer B - - % 1,472,059 49 %
Customer C 539,851 56.7 % - - %
Customer D 410,693 43.2 % - - %
$ 950,544 99.9 % $ 3,012,256 100 %
We did not have customers constituting 10% or more of the net revenues in the
nine months ended
4
Recently Issued and Adopted Accounting Pronouncements
InJune 2016 , the FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326), Measurement of Credit Losses on Financial Statements. This ASU requires a financial asset (or group of financial assets) measured at amortized cost basis to be presented at the net amount expected to be collected. The allowance for credit losses is a valuation account that is deducted from the amortized cost basis of the financial asset(s) to present the net carrying value at the amount expected to be collected on the financial asset. This Accounting Standards Update affects entities holding financial assets and net investment in leases that are not accounted for at fair value through net income. The amendments affect loans, debt securities, trade receivables, net investments in leases, off balance sheet credit exposures, reinsurance receivables, and any other financial assets not excluded from the scope that have the contractual rights to receive cash. For smaller public business entities, the amendments in this Update are effective for fiscal years beginning afterJanuary 1, 2023 , including interim periods within those fiscal years. All entities may adopt the amendments in this Update through a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective (that is, a modified-retrospective approach). We are currently evaluating the impact of the adoption of this pronouncement on its consolidated financial statements. We review new accounting standards as issued. We have not identified any other new standards that we believe will have a significant impact on our financial statements. Results of Operations
The following discussion should be read in conjunction with the condensed
consolidated financial statements of
Comparison of Three Months Ended
Revenue
We generated
The decrease was mainly due to the outbreaks of additional variants of COVID-19 which are more transmissible (like the Omicron variant and the two sub-variants: BA.1 and BA.2.) or result in more severe sickness (like the Delta variant) having caused negative impacts to our business sinceJanuary 2022 . The Chinese government has been taking actions to contain COVID-19 such as re-imposing previously lifted measures or putting in place additional restrictions including lockdowns of theGuangdong province which is our largest market andShanghai municipality which is our second largest market to slow the spread of COVID-19. The full-scale lockdown inShanghai since the end of March for 'societal zero-Covid' pursuit to track every Omicron case has led to the dramatic drop in our revenue inShanghai . In addition, the outbreaks of Omicron inShenzhen from time to time have triggered selective lockdowns of compounds and multiple rounds of mass testing, as the Chinese government continues maintaining its strict zero-Covid policy. The district where our office building is located was being locked down, which have banned all persons from entering, and our operations were severely impacted. Our revenue inGuangdong dropped sharply compared to the same period of 2021. The closure ofShanghai andShenzhen has seen many Chinese are losing their incomes and their lifestyle has changed such that their spending on coffee and liquor products are dramatically reduced. As of the date of this report,China's daily Covid cases jumped to the highest in more than six months, and the outbreaks have flared across different cities inChina . We expect that strict virus controls will be in place, and the Chinese economy and our business will only be gradually recovering from recent surges of COVID-19 cases in 2023. Cost of Revenue Cost of revenue was$1,755,692 for the three months endedSeptember 30, 2022 compared to$4,430,256 for the three months endedSeptember 30, 2021 , a decrease in cost of revenue by$2,674,564 or 60.4%. The cost of revenue consists of the cost of raw materials and cost of manufactured goods sold to customers, including labor cost, rental expense, research and development costs, etc. The decrease in the cost of raw materials was relatively in line with the decrease in revenue, whereas the decrease in labor cost and rental expenses was less than the decrease in revenue due to the fixed costs in nature. Depending on the development of the COVID-19 situation inChina , we will explore possibilities to streamline our manpower and will evaluate the impact of any redundancy plans. 5 Gross profit Gross profit for the three months endedSeptember 30, 2022 was$2,020,692 compared with$10,615,140 for the three months endedSeptember 30, 2021 . The gross profit margin was 53.5% for the three months endedSeptember 30, 2022 compared to 70.6% for the three months endedSeptember 30, 2021 . Such decrease was due to a lower margin for the liquor products, which comprise a larger portion of our sales during the three months endedSeptember 30, 2022 as compared with the same period of 2021. Operating Expenses
Selling and marketing expenses
Our selling expenses for the three months endedSeptember 30, 2022 and 2021 were$213,220 and$219,006 , respectively. The selling and marketing expenses decreased$5,786 or 2.6%. Selling expenses consist primarily of salary and welfare for sales staff, advertising expense and exhibition expense. Although our revenue dropped, the labor costs and other fixed costs were stable due to inflation, which led to the slight decrease of selling and marketing expenses.
General and administrative expenses
By far the most significant component of our operating expenses for both the three months endedSeptember 30, 2022 and 2021 was general and administrative expenses of$233,874 and$525,927 , respectively. The following table sets forth the main components of our general and administrative expenses for the three months endedSeptember 30, 2022 and 2021. 2022 2021 Amount % of Amount % of (US$) Total (US$) Total General and administrative expense: Consultancy fee$ 19,743 8 %$ 239,582 45 % Salary and welfare 113,496 48 % 135,404 26 % Rental expenses 36,441 16 % 60,756 11 %
Research and development costs - - %
- - % Office expenses 25,246 11 % 25,256 5 % Travel and accommodations 9,314 4 % 4,339 1 % Entertainment 18,761 8 % 13,326 - % Others 10,873 5 %
47,204 9 %
Total general and administrative expenses
General and administrative expenses decreased by$292,053 or 55.5% from$525,927 for the three months endedSeptember 30, 2021 to$233,874 for the three months endedSeptember 30, 2022 . The decrease in consultancy fee for the three months endedSeptember 30, 2022 was mainly due to the absence of legal and professional fees and business consultancy fees incurred during the same period of 2021 in connection with the acquisition of Nainiang Liquor onJune 3, 2021 , including the filing of the corresponding Form 8-K containing the audited financial statements of Nainiang Liquor onAugust 16, 2021 . Net Profit
We reported a net profit of$7,319,062 for the three months endedSeptember 30, 2021 compared to a net profit of$1,200,669 for the three months endedSeptember 30, 2022 , a decrease of$6,118,393 or 83.6%. The decrease was primarily attributable to the fact that our gross profit has dropped significantly whereas the selling and administrative expenses decreased by only 40.0% due to some costs and expenses being fixed costs in nature. 6
Comparison of Nine Months Ended
Revenue
We generated$14,404,949 in revenue for the nine months endedSeptember 30, 2022 compared to$28,915,041 for the nine months endedSeptember 30, 2021 , a decrease in total revenues of$14,510,092 or 50.2% compared with the nine months endedSeptember 30, 2021 . The decrease was mainly due to the outbreaks of additional variants of COVID-19 which are more transmissible (like the Omicron variant and the two sub-variants: BA.1 and BA.2.) or result in more severe sickness (like the Delta variant) having caused negative impacts to our business sinceJanuary 2022 . The Chinese government has been taking actions to contain COVID-19 such as re-imposing previously lifted measures or putting in place additional restrictions including lockdowns of theGuangdong province which is our largest market andShanghai municipality which is our second largest market to slow the spread of COVID-19. The full-scale lockdown inShanghai since the end of March for 'societal zero-Covid' pursuit to track every Omicron case has led to the dramatic drop in our revenue inShanghai . In addition, the outbreaks of Omicron inShenzhen from time to time have triggered selective lockdowns of compounds and multiple rounds of mass testing, as the Chinese government continues maintaining its strict zero-Covid policy. The district where our office building is located was being locked down, which have banned all persons from entering, and our operations were severely impacted. Our revenue inGuangdong dropped sharply compared to the same period of 2021. The closure ofShanghai andShenzhen has seen many Chinese are losing their incomes and their lifestyle has changed such that their spending on coffee and liquor products are dramatically reduced. As of the date of this report,China's daily Covid cases jumped to the highest in more than six months, and the outbreaks have flared across different cities inChina . We expect that strict virus controls will be in place, and the Chinese economy and our business will only be gradually recovering from recent surges of COVID-19 cases in 2023. Cost of Revenue
Cost of revenue was$4,936,469 for the nine months endedSeptember 30, 2022 compared to$8,141,174 for the nine months endedSeptember 30, 2021 . The decrease of cost of revenue was$3,204,705 or 39.4%. The cost of revenue consists of the cost of raw materials and cost of manufactured goods sold to customers, including labor cost, rental expense, research and development costs, etc. The decrease in the cost of raw materials was relatively in line with the decrease in revenue, whereas the decrease in labor cost and rental expenses was less than the decrease in revenue due to the fixed costs in nature. In addition, we completed the acquisition of Nainiang Liquor onJune 3, 2021 and thus, since the third quarter of 2021, we incurred significant labor costs due to the increase of headcount through the business acquisition. Depending on the development of the COVID-19 situation inChina , we will explore possibilities to streamline our manpower and will evaluate the impact of any redundancy plans. Gross profit Gross profit for the nine months endedSeptember 30, 2022 was$9,468,480 compared with$20,773,867 for the nine months endedSeptember 30, 2021 . The decrease in gross profit margin from 71.8% for the nine months endedSeptember 30, 2021 to 65.7% for the nine months endedSeptember 30, 2022 was due to a lower margin for the liquor products, which comprise a larger portion of our sales during the nine months endedSeptember 30, 2022 as compared with the
same period of 2021. Operating Expenses
Selling and marketing expenses
Our selling expenses for the nine months endedSeptember 30, 2022 and 2021 was$576,917 and$392,350 , respectively. Selling expenses consist primarily of salary and welfare for sales staff, advertising expense and exhibition expense. The increase in selling and marketing expenses was$184,567 or 47.0%. Although our revenue dropped, the labor costs and other fixed costs have been rising due to inflation, which led to the increase of selling and marketing expenses. In addition, we incurred more expenses since the third quarter of 2021 as a result of the consolidation of the results of Nainiang Liquor through the business
acquisition onJune 3, 2021 . 7
General and administrative expense
By far the most significant component of our operating expenses for both the nine months endedSeptember 30, 2022 and 2021 was general and administrative expenses of$1,178,206 and$1,087,491 , respectively. The following table sets forth the main components of our general and administrative expenses for the nine months endedSeptember 30, 2022 and 2021. For the nine months ended September 30, 2022 2021 Amount % of Amount % of (US$) Total (US$) Total General and administrative expense: Consultancy fee$ 449,183 38 %$ 456,433 42 % Salary and welfare 323,697 27 % 223,541 21 % Rental expenses 197,327 17 % 220,594 20 %
Research and development costs - -
% 44,263 4 % Office expenses 42,876 4 % 38,467 4 % Travel and accommodations 40,649 3 % 17,016 1 % Entertainment 45,169 4 % 20,297 2 % Others 79,305 7 % 66,880 6 %
Total general and administrative expenses$ 1,178,206 100
%$ 1,087,491 100 % Increase in general and administrative expenses by$90,715 or 8.3% from$1,087,491 for the nine months endedSeptember 30, 2021 to$1,178,206 for the nine months endedSeptember 30, 2022 . Our general and administrative expenses remained constant over the comparable financial periods as most of these business costs were fixed costs that did not fluctuate despite a negative financial impact on our revenues of the COVID-19 pandemic. Net Profit
We recorded a net profit of$5,748,299 for the nine months endedSeptember 30, 2022 compared to$14,606,745 for the nine months endedSeptember 30, 2021 , a decrease of$8,858,446 or 60.6%. The decrease was primarily attributable to the fact that our revenue has decreased significantly, whereas the selling and administrative expenses increased due to some expenses being fixed costs in nature.
Liquidity and Capital Resources
September 30, December 31,
Working capital: 2022 2021
Total current assets $ 31,915,895 $ 30,383,395
Total current liabilities (1,049,849 ) (2,731,608 )
Working capital surplus $ 30,866,046 $ 27,651,787
As of September 30, 2022 , we had cash and cash equivalents of $3,685,863 . To
date, we have financed our operations primarily through our working capital. The
following table provides detailed information about our net cash flows for the
nine months ended September 30, 2022 and 2021:
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