20-F 1 c03364e20vf.htm FORM 20-F Form 20-F
Table of Contents

 
 
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 20-F
 
     
o   REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF THE SECURITIES EXCHANGE ACT OF 1934
OR
     
þ   ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended March 31, 2010
OR
     
o   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
OR
     
o   SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission file number: 001-33722
 
Longtop Financial Technologies Limited
(Exact name of Registrant as specified in its charter)
 
N/A
(Translation of Registrant’s name into English)
Cayman Islands
(Jurisdiction of incorporation or organization)
Flat A, 10/F., Block 8, City Garden
233 Electric Road, North Point
Hong Kong
(Address of principal executive offices)
Derek Palaschuk
Chief Financial Officer
No. 61 Wanghai Road, Xiamen Software Park
Xiamen, Fujian Province
People’s Republic of China
Telephone: 86-592-2396888
Fax: 86-592-2398222
(Name, Telephone, E-mail and/or Facsimile Number and Address of Company Contact Person)
 
Securities registered or to be registered pursuant to Section 12(b) of the Act:
     
(Title of each class)   (Name of each exchange on which registered)
     
American depositary shares, each representing
one ordinary share, par value US$0.01 per share
  New York Stock Exchange
 
Securities registered or to be registered pursuant to Section 12(g) of the Act: None.
Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act: None
Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of the close of the period covered by the annual report: 56,231,188 ordinary shares, par value US$0.01 per share as of March 31, 2010.
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes þ No o
If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934. Yes o No þ
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 þ No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted 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 and post such files). Yes þ No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):
         
Large accelerated filer þ   Accelerated filer o   Non-accelerated filer o
Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements included in this filing:
U.S. GAAP þ
International Financial Reporting Standards as issued by the International Accounting Standards Board o
Other o
If “Other” has been checked in response to the previous question, indicate by check mark which financial statement item the registrant has elected to follow.
Item 17 o
Item 18 o
If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ
 
 

 

 


 

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 Exhibit 4.34
 Exhibit 4.35
 Exhibit 4.36
 Exhibit 8.1
 Exhibit 12.1
 Exhibit 12.2
 Exhibit 13.1
 Exhibit 13.2
 Exhibit 15.1
 
     
*   Omitted because the Item is not applicable or the answer is negative.
 
**   The Registrant has responded to Item 18 in lieu of this Item.

 

 


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In this annual report on Form 20-F, unless the context otherwise requires, “Longtop,” “we,” “us,” “our company,” and “our” refer to Longtop Financial Technologies Limited, its predecessor and its subsidiaries and variable interest entity; “China” or “PRC” refers to the People’s Republic of China, excluding Taiwan, Hong Kong and Macau; “shares” or “ordinary shares” refers to our ordinary shares, par value US$0.01 per share; “ADSs” refers to American depositary shares, each representing one ordinary share; “Renminbi” or “RMB “ refers to the legal currency of China; and “$,” “dollars” or “U.S. dollars” refers to the legal currency of the United States.
We intend to make this annual report and other periodic reports publicly available on our website, www.longtop.com, immediately following their filing with the U.S. Securities and Exchange Commission, or SEC. None of the information contained on our websites is incorporated by reference into this annual report. We assume no obligation to update or revise any part of this annual report, whether as a result of new information, future events or otherwise, unless we are required to do so by applicable law.

 

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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
This annual report contains forward-looking statements that reflect our current expectations and views of future events. The forward looking statements are contained principally in the sections entitled “Risk Factors,” “Business,” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” You can identify some of these forward-looking statements by words or phrases such as “may,” “will,” “expect,” “anticipate,” “aim,” “estimate,” “intend,” “plan,” “believe,” “is/are likely to,” “potential,” “continue,” the negative of these terms, or other similar expressions. We have based these forward-looking statements largely on our current expectations and projections about future events and financial trends that we believe may affect our financial condition, results of operations, business strategy and financial needs. These forward-looking statements include statements relating to:
    our goals and strategies;
    our expansion plans;
    our future business development, financial conditions and results of operations;
    the expected growth of the financial services, software development and IT services market in China and internationally;
    our expectations regarding demand for our products and services;
    our expectations regarding keeping and strengthening our relationships with key clients;
    our ability to stay abreast of market trends and technological advances;
    our ability to effectively protect our intellectual property rights and not infringe on the intellectual property rights of others;
    our ability to implement our know-how, modules and design;
    our ability to attract and retain quality employees;
    our ability to pursue strategic acquisitions and alliances;
    our plans to invest in research and development to enhance our solution and service offerings;
    competition in our industry in China and internationally;
    general economic and business conditions in the regions and countries we provide our solutions and services;
    relevant government policies and regulations relating to our industry; and
    market acceptance of our solutions and services.
Although we believe that our expectations expressed in these forward-looking statements are reasonable, our actual results, performance or achievements could be materially different from those expressed or implied by the forward-looking statements. Important risks and factors that could cause our actual results to be materially different from our expectations are generally set forth in the sections entitled “Risk Factors,” “Business,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” “Government Regulation,” and other sections in this annual report. You should read thoroughly this annual report and the documents that we refer to with the understanding that our actual future results may be materially different from and worse than what we expect. We qualify all of our forward-looking statements by these cautionary statements. Other sections of this annual report include additional discussion of factors which could adversely impact our business and financial performance.
The forward-looking statements made in this annual report relate only to events or information as of the date on which the statements are made in this annual report. Except as required by law, we undertake no obligation to update or revise publicly any forward-looking statements, whether as a result of new information, future events or otherwise, after the date on which the statements are made or to reflect the occurrence of unanticipated events. You should read this annual report and the documents that we have filed as exhibits to this annual report completely and with the understanding that our actual future results may be materially different from what we expect.

 

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PART I
Item 1. Identity of Directors, Senior Management and Advisers
Not applicable.
Item 2. Offer Statistics and Expected Timetable
Not applicable.
Item 3. Key Information
Selected Consolidated Financial Data
The following selected consolidated financial information for the periods and as of the dates indicated should be read in conjunction with our consolidated financial statements and accompanying notes included elsewhere in this annual report on Form 20-F and Item 5, “Operating and Financial Review and Prospects — Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
Our selected consolidated income statement data presented below for the years ended March 31, 2008, 2009 and 2010, and our selected consolidated balance sheet data as of March 31, 2009 and 2010 have been derived from our audited consolidated financial statements included elsewhere in this annual report on Form 20-F. Our selected consolidated income statement data for the years ended December 31, 2005 and 2006 and for the three months ended March 31, 2007 and our selected consolidated balance sheet data as of December 31, 2005 and 2006 and March 31, 2007 and 2008 were derived from our audited consolidated financial statements that are not included in this annual report on Form 20-F. Our selected consolidated income statement data for the three months ended March 31, 2006 were derived from our unaudited consolidated financial statements that are not included in this annual report on Form 20-F and have been prepared on the same basis as our audited consolidated financial statements. The unaudited consolidated financial statements include all adjustments, consisting only of normal and recurring adjustments, that we consider necessary for a fair presentation of our financial position and operating result for the period presented. Our consolidated financial statements are prepared in accordance with the Generally Accepted Accounting Principles in the United States of America, or U.S. GAAP.
Effective April 1, 2007, we changed our fiscal year from a calendar year to a fiscal year ending March 31. As a result, we prepared audited financial statements for the three months ended March 31, 2007.

 

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SELECTED CONSOLIDATED FINANCIAL DATA
                                                         
    Year Ended December 31,     Three Months Ended March 31,     Year Ended March 31,  
    2005     2006     2006     2007     2008     2009     2010  
    ($ in thousands, except share and per share or ADS data)  
Consolidated Statement of Operations Data:
                                                       
Revenues:
                                                       
Software development
    21,394       32,901       4,481       5,799       55,147       89,559       145,200  
Other services (1)
    3,688       9,745       1,799       1,846       10,769       16,737       23,857  
 
                                         
Total revenues
    25,082       42,646       6,280       7,645       65,916       106,296       169,057  
 
                                         
 
                                                       
Cost of revenues:
                                                       
Software development (2)
    1,804       4,092       370       1,831       21,138       26,294       45,880  
Other services (2)
    1,515       3,037       548       570       4,517       10,123       17,465  
 
                                         
Total cost of revenues
    3,319       7,129       918       2,401       25,655       36,417       63,345  
 
                                         
Gross profit
    21,763       35,517       5,362       5,244       40,261       69,879       105,712  
 
                                         
 
                                                       
Operating expenses (2)
    6,522       22,921       10,986       3,614       33,864       25,492       45,150  
 
                                         
Income from operations
    15,241       12,596       (5,624 )     1,630       6,397       44,387       60,562  
Net income (loss)
    12,540       8,308       (4,070 )     768       2,927       43,472       59,091  
 
                                                       
Net income (loss) per share/ADS:
                                                       
Basic ordinary share
    0.42       0.25       (0.14 )     0.02       (0.04 )     0.86       1.11  
Diluted
    0.41       0.22       (0.14 )     0.01       (0.04 )     0.83       1.07  
 
                                                       
Shares used in computation of net income (loss) per share:
                                                       
Basic ordinary share
    30,000,000       29,761,901       30,000,000       29,705,267       38,692,405       50,545,151       53,102,841  
Diluted
    30,420,822       37,874,254       30,000,000       40,326,496       38,692,405       52,368,317       55,174,468  
Cash dividends declared per ordinary share
    0.03                         0.93              
 
                                                       
(1) Outsourcing revenue recognized by Longtop international Ltd, which we spun off on July 1, 2007
                      1,006       4,543              
 
                                                       
(2) Includes share-based compensation expenses as follows:
                                                       
Cost of revenues
          839       1       3       8,061       1,901       2,882  
Operating expenses
    37       12,044       7,823       232       20,127       3,747       4,799  

 

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    Year Ended December 31,     Three Months Ended March 31,     Year Ended March 31,  
    2005     2006     2006     2007     2008     2009     2010  
 
                                                       
Software development gross profit margins
    91.6 %     87.6 %     91.7 %     68.4 %     61.7 %     70.6 %     68.4 %
Other services gross profit margins
    58.9 %     68.8 %     69.5 %     69.1 %     58.1 %     39.5 %     26.8 %
Gross profit margins
    86.8 %     83.3 %     85.4 %     68.6 %     61.1 %     65.7 %     62.5 %
Income from operations margins
    60.8 %     29.5 %     (89.6 %)     21.3 %     9.7 %     41.8 %     35.8 %
Net income margins
    50.0 %     19.5 %     (64.8 %)     10.0 %     4.4 %     40.9 %     35.0 %
                                                 
    December 31,     March 31,  
    2005     2006     2007     2008     2009     2010  
    ($ in thousands)  
Consolidated Balance Sheet Data:
                                               
Cash and cash equivalents
    24,894       81,319       69,920       204,526       238,295       331,889  
Accounts receivable, net
    9,120       17,294       19,495       21,254       29,861       65,581  
Total current assets
    40,098       107,047       97,766       239,224       279,974       428,001  
Total current liabilities
    29,371       31,621       27,689       33,460       44,489       86,823  
Total mezzanine equity
          47,887       47,887                    
Total equity
    23,450       42,426       44,020       234,890       292,358       490,002  
Total liabilities, mezzanine equity and equity
    52,937       122,426       120,432       270,891       338,473       605,749  
Exchange Rate Information
Unless otherwise noted, all translations from RMB to U.S. dollars in this annual report were made at the rates of exchange existing on the balance sheet date for balance sheet data, and using weighted average rates for the applicable periods for statements of operations data. The source of these rates is the China State Administration of Foreign Exchange. We make no representation that the Renminbi or dollar amounts referred to in this annual report could have been or could be converted into dollars or Renminbi, as the case may be, at any particular rate or at all. See “Risk Factors—Risks Related to Doing Business in China—Fluctuation in the value of the Renminbi may reduce the value of an investment in our ADSs.”
The following table sets forth information concerning exchange rates between the RMB and the U.S. dollar for the periods indicated. These rates are provided solely for your convenience and are not necessarily the exchange rates that we used in this annual report or have used or will use in the preparation of our other periodic reports or any other information to be provided to you. The source of these rates is the Federal Reserve Statistical Release. On July 9, 2010, the noon buying rate was RMB 6.7720 to $1.00.
The following table sets forth the average noon buying rates between Renminbi and U.S. dollars for each of the years indicated, calculated by averaging the noon buying rates on the last day of each month of the years shown.
Average exchange rates of Renminbi per U.S. Dollar
         
    Average  
Year ended December 31, 2005
    8.1826  
Year ended December 31, 2006
    7.9579  
Year ended March 31, 2008
    7.4197  
Year ended March 31, 2009
    6.8532  
Year ended March 31, 2010
    6.8268  

 

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The table below shows the high and low exchange rate of Renminbi per U.S. dollars for each of the six months from January 2010 to June 2010:
Recent exchange rates of Renminbi per U.S. Dollar
Renminbi per U.S. Dollar Noon Buying Rate
                 
    High     Low  
January 2010
    6.8295       6.8258  
February 2010
    6.8330       6.8258  
March 2010
    6.8270       6.8254  
April 2010
    6.8275       6.8229  
May 2010
    6.8310       6.8245  
June 2010
    6.8323       6.7815  
Risk Factors
An investment in our ADSs involves significant risks. You should consider carefully all of the information in this annual report, including the risks and uncertainties described below, before making an investment in our ADSs. Any of the following risks could have a material adverse effect on our business, financial condition and results of operations. In any such case, the market price of our ADSs could decline, and you may lose all or part of your investment.
Risks Related to Our Business and Industry
We focus mostly on the financial services industry. Our growth depends on the growth of financial services companies in China and their IT investment. The recent growth of financial services companies in China and their IT investment may not continue, and our revenues may not grow or may even decline. We may be adversely affected by any potential slowdown in China’s economy and the recent global crisis in the financial services and credit markets.
We derive substantially all our revenues from the financial services industry, and our recent revenue growth has been driven by growth in both China’s financial services industry and related IT solutions and service spending by industry participants. This growth may not continue at the same rate or at all. We believe substantial changes in the financial services industry, including decreasing profit margins in certain sectors, regulatory and technological changes and other trends, in recent years have led to increased IT solutions and services spending. A reduction in the rate of change could reduce demand for our software solutions and services and our revenues may not grow or may even decline.
The financial services industry is also sensitive to changes in economic conditions and unforeseen events, including political instability, recession, inflation or other adverse occurrences. In the first quarter of the 2009 calendar year, the reported growth rate of China’s gross domestic product decreased to 6.1%, down from growth at a rate of 9.0% for the 2008 calendar year and from a rate of 13% for the 2007 calendar year. Although China’s growth rate for the full 2009 calendar year was 8.7%, the worldwide economy continues to suffer a severe downturn precipitated by a crisis in the financial services and credit markets. We do not believe that our business has been adversely affected to date, but this slowdown in the rate of growth of China’s economy, coupled with the worldwide economic downturn, may cause slower or even negative growth in China’s financial services industry and result in decreased consumer and corporate use of financial services, or increased pressure on banks to develop, implement and maintain solutions in-house, which could harm our results of operations and business prospects.
We depend on a few clients for a significant portion of our revenues and this dependence is likely to continue. If we fail to obtain business from these key existing clients, our revenues will decline.
Historically we have depended on three (prior to calendar 2006, on two) of the four state-controlled national banks, or Big Four Banks, for the majority of our revenues. In the year ended March 31, 2010, two of our three Big Four Bank customers each accounted for 10% or more of our total revenue and the three Big Four Bank customers collectively accounted for 43% of our revenues, with the largest of these Big Four Banks accounting for 22% of our revenues. We do not have long-term contracts with these banks. We enter into contracts with bank headquarters or branches with independent procurement authority. Each contract is for the provision of solutions or services for the duration of the relevant project or services. We expect that a significant portion of our sales will continue to be generated by a small number of clients.
To anticipate our client’s future IT needs, build their trust and develop suitable solutions, we must maintain close relationships with our key clients. Any failure to maintain one of these close relationships, due to unsuccessful sales and marketing efforts, lack of suitable solutions, unsatisfactory performance or other reasons, could result in our losing a client and its business. If we lose a key client, a key client significantly reduces its purchasing levels or delays a major purchase or we fail to attract additional major clients, our revenues could decline.

 

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We may lose our clients and our financial results would suffer if our clients change the decision-making body for their IT procurement or investment, merge with or are acquired by other financial services companies, develop their own in-house capabilities or fail to expand.
Our business may be adversely affected if our business with our clients is reduced due to the following reasons:
    Our clients may change their decision-making body for making IT investments and key decision makers may change. The decision to purchase our software solutions and services is in some cases made by bank headquarters and in other cases by local bank branch offices. For each key client, we use a sales team dedicated to maintaining close relationships with the relevant IT procurement decision-makers. We build these extensive relationships over the course of several years. However, IT purchasing authority may become more centralized or transferred to different bodies. If a bank centralizes purchasing decisions or otherwise changes the decision making body or level within the bank at which the purchase decision is made or a key decision-maker is replaced, transferred or leaves the bank, our client relationships may be disrupted and we may be unable to effectively and timely restore these relationships.
    Consolidation of our clients and growth of in-house capabilities. There is a growing trend for financial institutions in China to consolidate. As these institutions grow in size, they may exert pricing pressure on vendors, and/or find it more cost-effective to set up their own IT departments or divisions to meet their IT needs, instead of relying on third-party companies for solutions and services. In addition, as restrictions against foreign ownership in banking and insurance industries ease, more foreign investors may acquire stakes in or form strategic alliances with PRC financial institutions, and may direct or influence management to use IT vendors recommended or favored by the investor, leading to lost or reduced business with these existing clients.
    Our clients fail to expand. The financial services industry in China is becoming increasingly competitive. Our clients may not successfully compete with their domestic and foreign competitors in the future. If our key clients suffer a reduced market share or their results of operations and financial condition are otherwise adversely affected, they may reduce their IT spending and change expansion plans for their IT systems, which in turn may materially and adversely affect our growth and results of operations.
We transferred to our clients our intellectual property rights in several of our customized software solutions and may not own all the intellectual property rights to our software solutions subsequently sold to others. We may be subject to intellectual property infringement claims from these clients and others, which may force us to incur substantial legal expenses and, if determined adversely against us, may materially disrupt our business and materially affect our gross margin and net income.
Over half of our customized software solutions contracts between December 2006 and September 2007 and some of our customized software solutions contracts prior to December 2006 provide that the contracting client owns the intellectual property rights to software solutions developed under the contracts. Most of these contracts provide that we have the right to own and commercialize any substantial improvements we make to the customized software solutions developed under the contracts. A small number of these affected contracts either do not explicitly provide us with these rights or provide that we do not have these rights. A small number of our now-discontinued standardized software solutions were based on, and our future standardized solutions may be derived from, at least in part, customized software solutions developed under our customized solutions. As a result of this practice, we may be subject to intellectual property infringement claims from these clients and others (including disputes from clients as to whether we have sufficiently modified the underlying customized software solutions).

 

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In October 2007, we implemented more stringent criteria for approving IP-related provisions in our client contracts. Since then, overall contracts providing that our clients own the intellectual property rights to customized software solutions developed under these contracts account for less than approximately 35% of all of our customized contracts. However, of those affected contracts: (1) the substantial majority provide that we have the right to own and commercialize any substantial improvements we make to the customized software solutions developed for clients and (2) the balance—where we have no such rights—account for less than approximately 5% of all of our customized contracts. In addition, we seek to limit those contracts where we do not have those commercialization rights to improvements made by us to (x) new phases for pre-existing projects, where it is commercially difficult to change pre-existing contractual terms, and (y) projects where we view the technology involved as unlikely to be used for future customized or standardized solutions.
In addition, in a small number of our software solutions contracts, we have joint ownership rights with our clients to improvements we subsequently make based on technologies and software solutions developed under these contracts. As a result, we may be subject to profit-sharing claims to our later developed solutions that may be deemed “improvements” to solutions we initially developed under these contracts.
If we are found to have violated the intellectual property rights of others, we may be enjoined from using these intellectual property rights, or we may incur licensing fees or be forced to develop alternatives. In addition, we typically indemnify clients who purchase our solutions against potential infringement of intellectual property rights underlying those solutions, and are therefore subject to indemnity claim risks. We may incur substantial expenses defending third party infringement claims, regardless of their merit. Successful infringement, licensing or indemnity claims against us may result in substantial monetary liabilities, reputational harm, lost sales and lower gross margins which may materially and adversely affect our business, gross margin and net income.
We may not be able to prevent others from unauthorized use of our intellectual property, which could cause a loss of clients, reduce our revenues and harm our competitive position.
We rely on a combination of patent, copyright, trademark, software registration, anti-unfair competition and trade secret laws, as well as nondisclosure agreements and other methods to protect our intellectual property rights. As of March 31, 2010, we had four pending patent applications in China. A patent filing may not result in an issued patent and an issued patent may not sufficiently protect our intellectual property rights. Furthermore, our current lack of patent protection may prevent us from being able to stop any unauthorized use of our software inventions or other intellectual property. To protect our trade secrets and other proprietary information, employees, consultants, advisors and collaborators are required to enter into confidentiality agreements. These agreements might not provide meaningful protection for the trade secrets, know-how or other proprietary information in the event of any unauthorized use, misappropriation or disclosure of such trade secrets, know-how or other proprietary information. Implementation of intellectual property-related laws in China has historically been lacking, primarily because of ambiguities in the PRC laws and difficulties in enforcement. Accordingly, intellectual property rights and confidentiality protections in China may not be as effective as in the United States or other countries, and infringement of intellectual property rights continues to pose a serious risk of doing business in China. Policing unauthorized use of proprietary technology is difficult and expensive. The steps we have taken may be inadequate to prevent the misappropriation of our proprietary technology. Reverse engineering, unauthorized copying or other misappropriation of our proprietary technologies could enable third parties to benefit from our technologies without paying us for doing so, which could harm our business and competitive position. Though we are not currently involved in any litigation with respect to intellectual property, we may need to enforce our intellectual property rights through litigation. Litigation relating to our intellectual property may not prove successful and might result in substantial costs and diversion of resources and management attention.

 

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We may be unable to effectively execute projects, maintain, expand or renew existing client engagements and obtain new clients if we fail to attract, train, motivate and retain quality employees, particularly highly skilled engineers and mid-level managers, who can effectively perform the services offered by us.
We depend on highly skilled engineers and mid-level managers, constituting the bulk of our employee base, to effectively develop and deliver our solutions and services. Recently, the growth of our business has been and may continue to be limited by our ability to attract, train and retain these qualified individuals. The market for qualified and experienced engineers throughout China is highly competitive, particularly in the areas of software programming and system engineering for the financial services industry. Our hiring activities could also expose us to trade secret or other claims by former employers or adversely impact any existing relationships we have with our employees’ former employers. We may be unable to retain our current workforce or hire additional personnel as planned. If we cannot hire these additional employees, or if we fail to provide appropriate training, career opportunities and otherwise motivate and retain our quality employees, we may not be able to execute our growth strategies and our business could suffer.
Increases in wages for IT professionals will increase our expenses and net cash outflow and our gross margin and profit margin may decline.
Historically, wages for comparably skilled technical personnel in the Chinese IT services industry have been lower than in developed countries, such as in the U.S. or Europe. In recent years, wages in China’s IT services industry have increased and may continue to increase at faster rates. Wage increases will increase our cost of software solutions and IT services of the same quality and increase our cost of operations. In the long term, unless offset by increases in efficiency and productivity of our work force, wage increases may also result in increased prices for our solutions and services, making us potentially less competitive. Increases in wages, including an increase in the cash component of our compensation expenses, will also increase our net cash outflow and our gross margin and profit margin may decline.
Fluctuations in our clients’ annual IT budget and spending cycle and other factors can cause our revenues and operating results to vary significantly from quarter to quarter and from year to year.
Our revenues and operating results will vary significantly from quarter to quarter and from year to year due to a number of factors, many of which are outside of our control. Most of our clients in the financial services industry determine their annual IT investment plans and budgets in the last quarter of each calendar year and do not finalize their annual spending plans until the first quarter of the following year. For our customized solutions, we generally incur costs evenly during the project life while most of the related revenues are generated later in the project as we reach project milestones and complete projects. Also, the Chinese New Year holiday typically falls between late January and February of each year. As a result, relatively few contracts are signed in the first calendar quarter, with an increase in the second calendar quarter and with most of our contracts signed and completed in the third and fourth calendar quarters. Due to the annual budget cycles of most of our clients, we also may be unable to accurately estimate the demand for our solutions and services beyond the immediate calendar year, which could adversely affect our business planning. Moreover, our results will vary depending on our clients’ business needs from year to year. Due to these and other factors, our operating results have fluctuated significantly from quarter to quarter and from year to year. These fluctuations are likely to continue in the future, and operating results for any period may not be indicative of our future performance in any future period.
A significant portion of the software development revenues we generate are fixed amounts according to our sales contracts. If we fail to accurately estimate costs and determine resource requirements in relation to our projects, our margins and profitability could be materially and adversely affected.
A significant portion of the software development revenues we generate are fixed amounts according to our sales contracts or bids we submit. Our projects often involve complex technologies and must often be completed within compressed timeframes and meet increasingly sophisticated client requirements. We may be unable to accurately assess the time and resources required for completing projects and price our projects accordingly. If we underestimate the time or resources required we may experience cost overruns and mismatches in project staffing. Conversely, if we overestimate requirements, our bids may become uncompetitive and we may lose business as a result. Furthermore, any failure to complete a project within the stipulated timeframe could expose us to contractual and other liabilities and damage our reputation.

 

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We may be forced to reduce the prices of our software products due to shortened product life cycles, increased competition and reduced bargaining power with our clients, which could lead to reduced revenues and profitability.
The software and IT services industry in China is developing rapidly and related technology trends are constantly evolving. This results in frequent introduction of new products and services, shortening product life cycles and significant price competition from our competitors. As the life cycle of a software product matures, the average selling price of the same product generally declines. A shortening life cycle of our software products generally could result in price erosion for these products if we are unable to introduce new products, or if our new products are not favorably received by our clients. We may be unable to offset the effect of declining average sales prices through increased sales volumes and/or reductions in our costs. Furthermore, we may be forced to reduce the prices of our software products in response to offerings made by our competitors. Finally, we may not have the same level of bargaining power we have enjoyed in the past when it comes to negotiating for the prices of our software products.
Any decrease in our level of standardized software solutions, including as a result of the unpredictable development cycle of our standardized software solutions, may cause our revenues and gross profit to decline.
Revenues from sales of our standardized software constituted 32.7%, 31.5% and 30.8% of our total software development revenues for the fiscal years ended March 31, 2008, 2009 and 2010, respectively, representing a substantial portion of our total revenues. Almost all of our software development cost of revenue relates to our customized software solutions. We may fail to develop standardized solutions as expected and the development cycle of our standardized software can be unpredictable. If we experience a change in the sales levels for our standardized software solutions, due to delays in the development process for a significant number of standardized solutions or otherwise, our revenues and gross profit could be materially and adversely affected as a result.
The software and IT-related services market for financial institutions in China is highly competitive, and we may fail to compete successfully, thereby resulting in loss of clients and decline in our revenues and profit margins.
The software and IT-related services market for financial institutions in China is intensely competitive and is characterized by frequent technological changes, evolving industry standards and changing client demands. Our most significant competition comes from the in-house IT departments of our customers. We also face competition from well-funded international platform providers, such as Accenture and IBM, domestic IT solution providers for the financial services industry, such as Digital China Holdings Limited, Yucheng Technologies Limited, Global InfoTech Group, Sinosoft, and other targeted solutions providers in certain market segments in which we operate. We expect competition to increase as additional domestic and international companies seek to meet the IT requirements of financial institutions in China. Increased competition may result in price reductions, reduced margins and inability to gain or hold market share.
Changes in technology could adversely affect our business by increasing our costs, reducing our profit margins and causing a decline in our competitiveness.
The markets for our software and IT-related services change rapidly because of technological innovation, new product introductions, declining prices and evolving industry standards, among other factors. New solutions and new technology often render existing solutions and services obsolete, excessively costly or otherwise unmarketable. As a result, our success depends on our ability to keep up with the latest technological progress and to develop or acquire and integrate new technologies into our software and IT-related services. Advances in technology also require us to commit substantial resources to developing or acquiring and then deploying new technologies for use in our operations. We must continuously train personnel in new technologies and in how to integrate existing hardware and software systems with these new technologies. We may be unable to continue to commit the resources necessary to keep our competitive technological advantages and our ability to effectively compete in the market may suffer as a result.

 

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We are relatively new to providing IT services and solutions to the insurance industry in China and we may face challenges with respect to our recent insurance-related acquisition.
We are relatively new to providing IT services and solutions to the insurance industry in China. Our knowledge and experience in the banking industry may not be transferable to the insurance and corporate areas. If we do not possess or if we fail to develop the required expertise in these new areas, our growth may be adversely affected. Effective in the quarter ended June 30, 2009, we acquired control of Sysnet Data Co. Limited and its subsidiary, Sysnet Info-tech Corporation (collectively, “Sysnet”), an IT services provider focused on China’s insurance industry, first acquiring the assets of the Sysnet business and, subsequently, agreeing to acquire for no additional consideration the Sysnet shares. We may face potential challenges with respect to this acquisition, which could harm our efforts to address the insurance market. Because 60% of the Sysnet shares were owned by a state-owned enterprise, or SOE, the transfer of Sysnet’s assets and the subsequent transfer of the SOE’s Sysnet shares may be subject to certain PRC laws governing the transfer of state-owned assets. The SOE has the obligation to obtain all required approvals and otherwise comply with specified statutory procedures before disposing of its assets, including a statutory valuation of the transferred assets. We had no control over or involvement with certain of the requisite approvals or compliance with the statutory procedures and were not legally responsible for doing so. Although the amount we paid for the Sysnet assets exceeded the statutory valuation obtained by the SOE, it nevertheless is possible that our acquisition of the Sysnet business did not fully comply with or was not permitted under applicable PRC law. The likely consequences to us under PRC law for any such noncompliance by the SOE are uncertain.
If we fail to manage our growth effectively, our business may be adversely affected.
We have experienced a period of rapid growth and expansion that has placed, and continues to place, significant strain on our management personnel, systems and resources. To accommodate our growth, we will need to implement a variety of new and upgraded operational and financial systems, procedures and controls, including the improvement of our accounting and other internal management systems, all of which require substantial management efforts. We also will need to continue to expand, train, manage and motivate our workforce and manage our client relationships. Moreover, as we introduce new solutions and services or enter into new markets, we may face new market, technological and operational risks and challenges with which we are unfamiliar. All of these endeavors will involve risks and require substantial management effort and skill. We may be unable to manage our growth effectively and any failure to do so may have a material adverse effect on our business.
We may be unsuccessful in identifying, acquiring and integrating suitable acquisition candidates, which could adversely affect our growth.
Historically, we have added new solutions or services, acquired additional clients and entered new markets through acquisitions, and we expect that acquisitions will contribute to our future growth. Recently, we have made larger acquisitions such as Sysnet and Beijing Giantstone Information Technology Co., Limited (“Giantstone”), We may be unable, however, to identify suitable future acquisition candidates. Even if we identify suitable candidates, we may be unable to complete an acquisition on terms commercially acceptable to us or to obtain necessary regulatory approvals. We may also be unable to timely deploy our existing cash balances to effect a potential acquisition, as use of cash balances located onshore in China may require specific governmental approvals or result in withholding and other tax payments. Realizing the benefits of any acquisition also requires, among other things, successful integration of technologies, operations and personnel. Challenges we face in the acquisition and integration process include:
    integrating operations, services and personnel in a timely and efficient manner;
    unforeseen or hidden liabilities;
    generating sufficient revenue and net income to offset acquisition costs;
    potential loss of, or harm to, employee or customer relationships;

 

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    properly structuring our acquisition consideration and any related post-acquisition earn-outs and successfully monitoring any earn-out calculations and payments;
    retaining key senior management and key sales and marketing and research and development personnel;
    potential incompatibility of solutions, services and technology or corporate cultures;
    consolidating and rationalizing corporate, information technology and administrative infrastructures;
    integrating and documenting processes and controls that conform with the requirements of the Sarbanes-Oxley Act of 2002; and
    increased complexity from potentially operating additional geographically dispersed sites, particularly if we acquire any company or business with facilities or operations outside of China.
If we fail to identify appropriate candidates, complete desired acquisitions or successfully integrate acquisitions, we may be unable to implement our growth strategies effectively or efficiently. In addition, our management’s attention may be diverted by the acquisition and integration process, making it more difficult for our management to effectively manage our operations. As a result, our earnings, revenue growth and business could be negatively affected.
We do not hold all of the permits or licenses that are required under PRC laws for the businesses that we are conducting or propose to conduct.
Under the Regulation on Telecommunications of the People’s Republic of China and the Regulation on Internet Information Service of the People’s Republic of China, both of which were promulgated by China’s State Council in September 2005, a PRC company engaged in the provision of online value-added telecommunication services is required to obtain some certificates for Value-added Telecommunications Business from the Ministry of Industry and Information Technology, or MIIT, or its relevant local branch. Xiamen Longtop Online Technology Co., Ltd. (formerly, Xiamen Bizcn Network Co., Ltd.), or Longtop Online, our variable interest entity, or VIE, and its subsidiaries, which provide Internet information services, Internet data center, mail hosting, web hosting, domain name registration and certain other online hosting services (which are regarded as a kind of online value-added telecommunication service) in more than one province in China, have not yet obtained an inter-provincial Certificate for Value-added Telecommunications Business covering all of these services or properly completed the requisite registration and filing formalities with the MIIT. The failure of Longtop Online and its subsidiaries to obtain this certificate or to complete the relevant registration and filing formalities with the MIIT could lead to administrative fines or an order to discontinue the operation of these entities, both of which could have an adverse effect on Longtop Online’s business and operations.
The PRC tax authorities may require us to pay additional taxes in connection with our acquisitions of offshore entities that conducted their PRC operations through their affiliates in China.
Our operations and transactions are subject to review by the PRC tax authorities pursuant to relevant PRC laws and regulations. However, these laws, regulations and legal requirements change frequently, and their interpretation and enforcement involve uncertainties. For example, in the case of some of our completed acquisitions of offshore entities (or their assets) that conducted their PRC operations through their affiliates in China, we cannot assure you that the PRC tax authorities will not require us to pay additional taxes in relation to such acquisitions, in particular where the PRC tax authorities take the view that the previous taxable income of the PRC affiliates of the acquired offshore entities needs to be adjusted and additional taxes be paid. This could come in the form of a re-characterization of the transaction for tax purposes, a claim for withholding or other exposure. Furthermore, in the event that the sellers failed to pay any taxes required under PRC law in connection with these transactions, the PRC tax authorities might require us to pay the tax, together with late-payment interest and penalties.

 

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Defects in our software, errors in our systems integration or maintenance services or our failure to perform our professional services could result in a loss of clients and decrease in revenues, unexpected expenses and a reduction in market share.
Our software solutions are complex and may contain defects, errors and bugs when first introduced to the market or to a particular client, or as new versions are released. Because we cannot test for all possible scenarios, our solutions may contain errors which are not discovered until after they have been installed and we may not be able to correct these problems on a timely basis. These defects, errors or bugs could interrupt or delay completion of projects or sales to our clients. In addition, our reputation may be damaged and we may fail to obtain new projects from existing clients or new clients. We may make mistakes when we provide systems integration and maintenance services.
We also provide a range of IT services, including ATM maintenance, system integration and other ancillary services, and must meet stringent quality requirements for performing these services. If we fail to meet these requirements, we may be subject to claims for breach of contracts with our clients. Any such claim or adverse resolution of such claim against us may hurt our reputation and have a material adverse effect on our business.
Our costs could increase substantially if we suffer a significant number of warranty claims for third party hardware and software procured on behalf of our clients and the manufacturers or their agents do not provide the back-to-back warranties that they have contracted to provide to us.
With our system integration services, we assist clients with the procurement and installation of hardware and software which best meets their system requirements. We assist our clients in managing the equipment manufacturers, obtaining bids and proposals on their behalf, negotiating terms and where required monitoring the installation and testing, which is normally provided by the manufacturers. In some contracts, we may also provide financing to our clients. Where warranty is required, we obtain, on behalf of our clients, manufacturers’ warranties and support for the third party hardware and software. On behalf of our clients we procure equipment from major international technology companies, including BEA, BMC, Cisco, Dell, Diebold, EMC, Hewlett Packard, IBM, Microsoft, Nortel and Oracle.
Our warranties include service for both hardware and our and third-party software solutions. Although we arrange back-to-back warranties with hardware and software vendors, we have the contractual responsibility to maintain the installed hardware and software. Most of our contracts do not have disclaimers or limitations on liability for special, consequential and incidental damages nor do we cap the amounts recoverable for damages.
We may incur losses due to business interruptions resulting from occurrence of natural catastrophes, acts of terrorism or fires, and we have limited insurance coverage.
We currently do not have insurance against business interruptions. Should any natural catastrophes such as earthquakes, floods, typhoons or any acts of terrorism occur in Beijing or Xiamen, where our PRC head offices are located and most of our employees are based, or elsewhere in China, we might suffer not only significant property damages, but also loss of revenues due to interruptions in our business operations, which could have a material adverse effect on our business, operating results or financial condition. In addition, we may suffer substantial losses due to interruptions caused by a severe fire.
Some of our contracts with clients contain termination clauses and expose us to penalties or other contractual liabilities, which could result in unexpected expenses or declined revenues.
Some of our contracts with clients permit termination in the event our performance is not consistent with the quality and other standards specified in those contracts. The ability of our clients to terminate contracts creates an uncertain revenue stream. If our clients are not satisfied with our level of performance, our reputation in the industry may suffer, which may also materially and adversely affect our business, results of operations and financial condition.

 

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Some of our contracts provide for penalties upon the occurrence of certain events such as if we failed to meet a specified timetable or failed to achieve certain quality or other standards. As a result, we are exposed to the risk that we will incur significant penalties in performing these contracts. In addition, the failure of our technology suppliers to deliver the necessary hardware and components in accordance with our specifications could result in our default under our contracts with our clients, which could have a material adverse effect on our business, results of operations and financial condition.
We depend on third-party technologies and third-party technology suppliers. If these technologies and suppliers are not available to us at reasonable costs or at all, our expenses may increase, our profit margins may decline and any resulting contractual defaults may harm our reputation, result in a loss of clients and decreased revenues.
Our solutions are designed to work on or in conjunction with third-party hardware and software solutions. If any third party were to discontinue making their solutions available to us or our clients on a timely basis, or increase materially the cost of their solutions, or if our solutions failed to properly use or interoperate with their hardware or software solutions, our solutions would have to be redesigned to function with or on alternative third-party solutions, or we may be precluded from selling the solutions. An alternative source of suitable technology may not be available on terms acceptable to us or at all, and we may be unable to develop an alternative product on a timely basis or at a reasonable cost. Our failure or inability to license, acquire or develop alternative technologies or solutions on a timely basis or at a reasonable cost could have a material adverse effect on our business, results of operations and financial condition.
In addition, our technology suppliers’ failure to deliver the necessary hardware and components in accordance with our specifications could result in our default under our contracts with our clients, which in turn could materially and adversely affect our business, results of operations and financial condition.
Our business depends substantially on the continuing efforts of our management and other key personnel. If we lose their services, we could incur significant costs in finding suitable replacements and our business may be severely disrupted.
Our future success heavily depends upon the continued services of our management and other key personnel. In particular, we rely on the expertise and experience of Hiu Kung Ka (Mr. Ka is also referred to as Xiaogong Jia, which is a transliteration of the Mandarin Chinese version of his name), our chairman of the board of directors, Wai Chau Lin (Mr. Lin is also referred to as Weizhou Lian, which is a transliteration of the Mandarin Chinese version of his name), our chief executive officer, Derek Palaschuk, our chief financial officer, Zhao Wei, our senior vice president of sales, and Wei Dong, our senior vice president of Solution Center. If one or more of our management or key personnel were unable or unwilling to continue in their present positions, we might not be able to replace them easily or at all. Our business may be severely disrupted, our financial condition and results of operations may be materially adversely affected, and we may incur additional expenses to recruit, train and retain personnel.
If any of our management or key personnel joins a competitor or forms a competing company, we may lose clients, suppliers, know-how and key professionals and staff members. Our chief executive officer and chief financial officer have signed employment agreements with us and most of our senior employees have entered into employment agreements with Xiamen Longtop Financial Technology Management Co., Ltd., or XLM. While the employment agreements with us contain non-competition provisions, the employment agreements with XLM do not contain such provisions. Moreover, if any dispute arises between our chief executive officer or chief financial officer and us, the non-competition provisions contained in their employment agreements may not be enforceable, especially in China, where most of these executive officers reside, on the ground that we have not provided adequate compensation to these executive officers for their non-competition obligations, which is required under the relevant PRC regulations.

 

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Our business benefits from certain government incentives. Expiration, reduction or discontinuation of, or changes to, these incentives will reduce our net income.
The PRC government has provided various incentives to domestic companies in the software industry in order to encourage development of the software industry in China. A number of our PRC subsidiaries currently receive rebates, business tax exemptions and are eligible for government incentives in the form of reduced enterprise income tax as described below. For some of our software solutions, we are entitled to receive a 14% refund on the total VAT payable of 17% if we have registered the copyright for these solutions and met government authorities’ requirements. In addition, we are currently exempted from business tax for revenues generated from technology development, transfer and related consulting services. We receive these government incentives because our PRC subsidiaries are software companies in China, our PRC operations office is located in Xiamen or our services fall into specified categories. The PRC government authorities may reduce or eliminate these incentives at any time in the future. Additionally, in order to continue to qualify for some of these incentives, we are required to meet stringent requirements on our gross revenues.
The discontinuation of any preferential tax treatment currently available to us and the increase in the rate of corporate income tax in the PRC could in each case result in a decrease in our net income.
Any significant increase in our income tax expenses could have a material adverse effect on our profit for the year. Reduction or elimination of preferential tax treatments or the imposition of additional taxes on us or our consolidated entities in China may significantly increase our income tax expenses and materially reduce our net income.
A new PRC Corporate Income Tax Law and related regulations became effective January 1, 2008. The Corporate Income Tax Law, among other things, imposes a unified income tax rate of 25% for both domestic and foreign invested enterprises. The previous income tax laws and rules, which stipulated income tax rates for domestic and foreign invested enterprises at different rates, expired upon the effectiveness of the Corporate Income Tax Law.
While certain of our subsidiaries, including our primary operating subsidiary, Longtop System (China) Limited (formerly Xiamen Longtop System Co., Ltd.), or Longtop System, have qualified for preferential tax rates under the Corporate Income Tax Law as “high and new technology enterprises” at a rate of 15% and Longtop System has been designated as a “key software enterprise” and therefore taxed at a further reduced rate of 10% for the calendar years ended December 31, 2007, 2008 and 2009, the preferential treatment for high and new technology enterprises will be subject to review every three years and the preferential treatment for the key software enterprises will be subject to review annually by the relevant PRC government authorities, and we cannot assure you that they will continue to so qualify in future periods, or that such designation will be available for any of our other subsidiaries. If any of our PRC subsidiaries fails to qualify for preferential tax rates, our income tax expenses will increase, which could have a material adverse effect on our net income and results of operations.
We may be classified as a “resident enterprise” for PRC corporation income tax purposes; such classification could result in unfavorable tax consequences to us and our non-PRC shareholders.
The PRC Corporate Income Tax Law that became effective January 1, 2008 provides that enterprises established outside of China whose “de facto management bodies” are located in China are considered “resident enterprises” and are generally subject to the uniform 25% enterprise income tax rate on their worldwide income. A recent circular issued by the PRC State Administration of Taxation regarding the standards used to classify certain Chinese-invested enterprises established outside of China as “resident enterprises” states that dividends paid by such “resident enterprises” and capital gains recognized with respect to the sale of the shares of such “resident enterprises” will be considered to be PRC source income, subject to PRC withholding tax, currently at a rate of 10%, when received or recognized by non-PRC shareholders. This recent circular also subjects such “resident enterprises” to various reporting requirements with the PRC tax authorities. Under the implementation regulations to the Corporate Income Tax, a “de facto management body” is defined as a body that has material and overall management and control over the manufacturing and business operations, personnel and human resources,

 

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finances and treasury, and acquisition and disposition of properties and other assets of an enterprise. In addition, the recent circular mentioned above specifies that certain Chinese-invested enterprises will be classified as “resident enterprises” if the following are located or resident in China: senior management personnel and departments that are responsible for daily production, operation and management; financial and personnel decision making bodies; key properties, accounting books, company seal, and minutes of board meetings and shareholders’ meetings; and half or more of the directors or senior management having voting rights. If the PRC tax authorities determine that we are a “resident enterprise,” we may be subject to income tax at the rate of 25% on our worldwide income and dividends paid by us to our non-PRC shareholders as well as capital gains recognized by them with respect to the sale of our stock may be subject to a PRC withholding tax. This could have the effect of increasing our effective income tax rate and could also have an adverse effect on our net income and results of operations, and may require us to deduct withholding tax amounts from any dividends we pay to our non-PRC shareholders. We are actively monitoring the “resident enterprise” classification rules and are evaluating appropriate organizational changes to avoid this treatment, to the extent possible.
Interest and dividends payable by us to our foreign investors and gain on the sale of our ADSs or ordinary shares may become subject to withholding taxes under PRC tax laws.
Under the Corporate Income Tax Law and implementation regulations issued by the State Council, PRC income tax at the rate of 10%, or a lower rate if tax treaty benefits are available, is applicable to interest and dividends payable to investors that are “non-resident enterprises,” which do not have an establishment or place of business in the PRC, or which have such establishment or place of business but the relevant income is not effectively connected with the establishment or place of business, to the extent such interest or dividends have their sources within the PRC. Similarly, any gain realized on the transfer of ADSs or shares by such investors is also subject to 10% PRC income tax or a lower rate if tax treaty benefits are available, if such gain is regarded as income derived from sources within the PRC. If we are considered a PRC “resident enterprise,” the dividends we pay with respect to our ordinary shares or ADSs, or the gain you may realize from the transfer of our ordinary shares or ADSs, might be treated as income derived from sources within the PRC and be subject to PRC tax. If we are deemed to be a PRC “resident enterprise,” dividends distributed from our PRC subsidiaries to our Hong Kong company and ultimately to our Cayman Islands company may qualify as “tax-exempted income” under the Corporate Income Tax Law and its implementation Rules. However, we cannot assure you that such dividends will not be subject to withholding tax as the PRC foreign exchange control authorities and taxation authorities, which enforce the withholding tax, have not yet issued guidance with respect to the processing of outbound remittance to entities that are treated as resident enterprises for PRC enterprise income tax purposes. Since we intend to reinvest our earnings to further expand our businesses in mainland China, our foreign invested enterprises do not intend to declare dividends to their immediate foreign holding companies in the foreseeable future. Accordingly, as of March 31, 2010, we have not recorded any withholding tax on the retained earnings of our foreign invested enterprises in China.
If we are required under the Corporate Income Tax Law to withhold PRC income tax on dividends payable to our non-PRC investors that are “non-resident enterprises,” or if you are required to pay PRC income tax on the transfer of our ordinary shares or ADSs, the value of your investment in our ordinary shares or ADSs may be materially and adversely affected.
Any significant failure in our information technology systems could subject us to contractual liabilities to our clients, harm our reputation and adversely affect our results of operations.
Our business and operations are highly dependent on the ability of our information technology systems to timely process various transactions across different markets and solutions. The proper functioning of our financial control, accounting, customer service and other data processing systems, together with the communication systems between our various subsidiaries and delivery centers and our main offices in Xiamen, is critical to our business and to our ability to compete effectively. Our business activities may be materially disrupted in the event of a partial or complete failure of any of these primary information technology or communication systems, which could be caused by, among other things, software malfunction, computer virus attacks, conversion errors due to system upgrading, damage from fire, earthquake, power loss, telecommunications failure, unauthorized entry or other events beyond our control. We could also experience system interruptions due to the failure of their systems to function as intended or the failure of the systems relied upon to deliver services such as ATM networks, the Internet, or the systems of financial institutions, processors that integrate with other systems and networks and systems of third parties. Loss of all or part of the systems for a period of time could have a material adverse effect on our business and business reputation. We may be liable to our clients for breach of contract for interruptions in service. Due to the numerous variables surrounding system disruptions, the extent or amount of any potential liability cannot be predicted.

 

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Our computer networks may be vulnerable to security risks that could disrupt our services and adversely affect our results of operations.
Our computer networks may be vulnerable to unauthorized access, computer hackers, computer viruses and other security problems caused by unauthorized access to, or improper use of, systems by third parties or employees. A hacker who circumvents security measures could misappropriate proprietary information or cause interruptions or malfunctions in operations. Although we intend to continue to implement security measures, computer attacks or disruptions may jeopardize the security of information stored in and transmitted through computer systems of our customers. Actual or perceived concerns that our systems may be vulnerable to such attacks or disruptions may deter financial services providers and consumers from using our solutions or services. As a result, we may be required to expend significant resources to protect against the threat of these security breaches or to alleviate problems caused by these breaches.
Data networks are also vulnerable to attacks, unauthorized access and disruptions. For example, in a number of public networks, hackers have bypassed firewalls and misappropriated confidential information. It is possible that, despite existing safeguards, an employee could divert our customers’ funds, exposing us to a risk of loss or litigation and possible liability. Losses or liabilities that are incurred as a result of any of the foregoing could have a material adverse effect on our business.
If we fail to establish or maintain an effective system of internal controls, we may be unable to accurately report our financial results or prevent fraud, and investor confidence and the market price of our shares may, therefore, be adversely impacted.
We are required by Section 404 of the Sarbanes-Oxley Act of 2002, or Sarbanes-Oxley, and rules of the SEC under Sarbanes Oxley to prepare a management report on our internal controls over financial reporting. In addition, we are required to engage our independent registered public accountant to audit the effectiveness of our internal controls over financial reporting.
As defined in the standards established by the U.S. Public Company Accounting Oversight Board, a “deficiency” in internal control over financial reporting exists when the design or operation of a control does not allow management or employees, in the normal course of performing their assigned functions, to prevent or detect misstatements on a timely basis. A deficiency in design exists when (a) a control necessary to meet the control objective is missing or (b) an existing control is not properly designed so that, even if the control operates as designed, the control objective would not be met. A deficiency in operation exists when a properly designed control does not operate as designed, or when the person performing the control does not possess the necessary authority or competence to perform the control effectively. A “significant deficiency’ is a deficiency, or a combination of deficiencies, in internal control over financial reporting that is less severe than a material weakness, yet important enough to merit attention by those responsible for oversight of the company’s financial reporting. A “material weakness” is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement in a company’s financial statements will not be prevented or detected on a timely basis.
If we fail to maintain the adequacy of our internal controls sufficiently to prevent any material weaknesses, we may not be able to conclude that we have effective internal controls over financial reporting. Moreover, effective internal controls over financial reporting are necessary for us to produce reliable financial reports and are important to help prevent fraud. As a result, our failure to achieve and maintain effective internal controls over financial reporting could result in the loss of investor confidence in the reliability of our financial statements, which in turn could harm our business and have an adverse impact the market price of our ordinary shares. Furthermore, we have incurred and anticipate that we will continue to incur considerable costs and use significant management time and other resources in complying with Section 404 of Sarbanes-Oxley.

 

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Gifts to our employees of ordinary shares beneficially owned by Hiu Kung Ka, our co-founder and chairman of our board of directors, may result in material share-based compensation expenses which may create a material loss under US GAAP for the year ending March 31, 2011.
On June 1, 2010, Bloomwell International Limited (or Bloomwell), which is wholly owned by Hiu Kung Ka, our co-founder and chairman of our board of directors, transferred 3,000,000 ordinary shares of the Company to a nominee of Power Extra (PTC) Limited, a British Virgin Islands corporation (“Power Extra”) that is the sole trustee of The Sunshine Trust (the “Trust”). The Trust was established for the purpose of holding and gifting a portion of these ordinary shares to persons including employees of the Company, who are or shall become beneficiaries of the Trust. The board of directors of Power Extra consists of three of the Company’s employees who administer the Trust at the direction of the Company’s Chairman. Because Mr. Ka is considered a principal shareholder of our Company, for U.S. GAAP reporting purposes we record the value of the shares given to current employees as share-based compensation expense. As a result of the gifts expected to be made by the Trust, the Company expects to record share-based compensation expense during the year ending March 31, 2011 equal to the fair value on the date the gift is made which may cause a material quarterly net loss for the quarter or quarters in which the gifts are made and may cause a material loss under US GAAP for the year ending March 31, 2011. Any future gifts of shares of our company by Mr. Ka may result in additional material share-based compensation expense, which could create net losses and significant declines in our margins.
We have granted, and may continue to grant, stock options and restricted share units under our share incentive plan, resulting in increased share-based compensation expenses and, therefore, reduced net income.
We adopted a share incentive plan in 2005 and for the fiscal year ended March 31, 2010 recorded $7.7 million as share-based compensation expenses. We are required to recognize share-based compensation as compensation expense in the statement of operations based on the fair value of equity awards on the date of the grant, with the compensation expense recognized over the period in which the recipient is required to provide service in exchange for the equity award. The additional expenses associated with share-based compensation may reduce the attractiveness of issuing stock options and restricted share units under our share incentive plan. However, if we do not grant stock options or restricted share units or reduce the number of stock options and restricted share units that we grant, we may not be able to attract and retain key personnel. If we grant more stock options and restricted share units to attract and retain key personnel, the expenses associated with share-based compensation will reduce our net income.
Asset impairment reviews may result in future write-downs.
Our accounting policies require us, among other things, to conduct annual reviews of goodwill, and to test intangible assets for impairment whenever events or changes in circumstances indicate that their carrying amount may not be recoverable. In connection with our business acquisitions, we make assumptions regarding estimated future cash flows and other factors to determine the fair value of goodwill and intangible assets. In assessing the related useful lives of those assets, we have to make assumptions regarding their fair value, our recoverability of those assets and our ability to successfully develop and ultimately commercialize acquired technology and monetize customer-related intangibles. If those assumptions change in the future, when we conduct our periodic reviews in accordance with applicable accounting standards we may be required to record impairment charges. During the year ended March 31, 2010, we recorded impairment losses of $2.5 million on certain intangible assets and $2.0 million on goodwill in our Other Services business segment relating to a business acquired in fiscal 2009. It is possible that future reviews will result in further write-downs of goodwill and other intangible assets.

 

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Other Risks Related to Doing Business in China
Adverse changes in political and economic policies of the PRC government could have a material adverse effect on the overall economic growth of China, which could reduce the demand for our solutions and adversely affect our competitive position.
Substantially all of our operations are conducted in China and substantially all of our sales are made in China. Accordingly, our business, financial condition, results of operations and prospects are affected significantly by economic, political and legal developments in China. The PRC economy differs from the economies of most developed countries in many respects, including:
    the amount of government involvement;
    the level of development;
    the growth rate;
    the control of foreign exchange; and
    allocation of resources.
The PRC economy has been transitioning from a planned economy to a more market-oriented economy. Although the PRC government has in recent years implemented measures emphasizing the utilization of market forces for economic reform, the reduction of state ownership of productive assets and the establishment of sound corporate governance in business enterprises, a substantial portion of the productive assets in China is still owned by the PRC government. The continued control of these assets and other aspects of the national economy by the PRC government could materially and adversely affect our business. The PRC government also exercises significant control over economic growth in China through the allocation of resources, controlling payment of foreign currency- denominated obligations, setting monetary policy and providing preferential treatment to particular industries or companies. Efforts by the PRC government to slow the pace of growth of the PRC economy, which have been made from time to time, could result in a decrease in the country’s average income level, which in turn could reduce demand for our solutions.
Any adverse change in the economic conditions or government policies in China could have a material adverse effect on overall economic growth, which in turn could lead to a reduction in demand for our solutions and consequently have a material adverse effect on our business.
Uncertainties with respect to the PRC laws and regulations could limit legal protections available to us or adversely affect our business.
We conduct substantially all of our business through our operating subsidiaries in China. Our PRC subsidiaries are generally subject to laws and regulations applicable to foreign investment in China and, in particular, laws applicable to wholly foreign-owned enterprises. The PRC legal system is based on written statutes, and prior court decisions may be cited for reference but have no precedential value. Since 1979, PRC legislation and regulations have significantly enhanced the protections afforded to various forms of foreign investments in China. However, since these laws and regulations are relatively new and the PRC legal system continues to rapidly evolve, 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 us. In addition, any litigation in China may be protracted and result in substantial costs and diversion of resources and management attention.
In addition, under the Interim Provisions on Domestic Investment of Foreign-Invested Enterprises, or Domestic Investment Rules, promulgated by the Ministry of Foreign Trade and Economic Cooperation and the State Administration for Industry and Commerce, foreign-invested enterprises investing in and establishing PRC companies are required to file a number of documents relating to such establishment with the relevant governmental approving authority. Longtop System and Xiamen Longtop Financial Technology Management Co., Ltd., or XLM, two of our wholly foreign owned enterprises in Xiamen, China that have established PRC companies, contacted the Xiamen Foreign Investment Bureau, the relevant governmental approving authority in Xiamen regarding the filing of the relevant investment documents as required under the Domestic Investment Rules. However, the Xiamen Foreign Investment Bureau has not begun to accept applications under the Domestic Investment Rules, because implementation rules detailing the filing and approval procedures have not yet been issued. Notwithstanding that Longtop System and XLM have not been able to file completed applications because the Xiamen Foreign Investment Bureau has not begun to accept applications, it is possible that Longtop System and XLM could be found not to have completed the required filings under the Domestic Investment Rules and as a consequence be subject to administrative fines, which may disrupt our business and operations.

 

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We rely principally on dividends paid by our operating subsidiaries to fund cash and financing requirements, and limitations on the ability of our operating subsidiaries to make payments to us could have a material adverse effect on our ability to conduct our business and fund our operations.
We are a holding company and conduct substantially all of our business through our operating subsidiaries, which are limited liability companies established in China. We rely on dividends paid by our subsidiaries for our cash needs, including the funds necessary to pay dividends and other cash distributions to our shareholders, to service any debt we may incur and to pay our operating expenses. The payment of dividends by entities organized in China is subject to limitations. In particular, regulations in China currently permit payment of dividends only out of accumulated profits as determined in accordance with PRC accounting standards and regulations. Our Chinese subsidiaries are also required to set aside at least 10% of its after-tax profit based on PRC accounting standards each year to their general reserves until the accumulative amount of such reserves reaches 50% of their registered capital. These reserves are not distributable as cash dividends. In addition, they are required to allocate a portion of their after-tax profit to their staff welfare and bonus fund and enterprise expansion fund at the discretion of their respective boards of directors. Moreover, if any of our PRC subsidiaries incurs debt on its own behalf in the future, the instruments governing the debt may restrict its ability to pay dividends or make other distributions to us. Any limitation on the ability of our subsidiaries to distribute dividends and other distributions to us could materially and adversely limit our ability to make investments or acquisitions that could be beneficial to our businesses, pay dividends or otherwise fund and conduct our business.
PRC regulation of loans and direct investment by offshore holding companies to PRC entities may delay or prevent us from making loans or additional capital contributions to our PRC operating subsidiaries, which could materially and adversely affect our liquidity and our ability to fund and expand our business.
As an offshore holding company of our PRC operating subsidiaries, we may make loans to our PRC subsidiaries, or we may make additional capital contributions to our PRC subsidiaries. Any loans to our PRC subsidiaries are subject to PRC regulations. For example, loans by us to our subsidiaries in China, which are foreign-invested enterprises, to finance their activities cannot exceed statutory limits and must be registered with the State Administration of Foreign Exchange, or SAFE. We may also decide to finance our subsidiaries by means of capital contributions. These capital contributions must be approved by the PRC Ministry of Commerce or its local counterpart. We cannot assure you that we will be able to obtain these government approvals on a timely basis, if at all, with respect to future capital contributions by us to our subsidiaries. If we fail to receive such approvals, our ability to capitalize our PRC operations may be negatively affected, which could adversely affect our liquidity and our ability to fund and expand our business.
In August 2008, SAFE promulgated a notice, or Circular 142, regulating the conversion by a foreign-invested company of foreign currency into Renminbi by restricting how the converted Renminbi may be used. The notice provides that the registered capital of a foreign-invested company settled in Renminbi converted from foreign currencies may only be used for purposes within the business scope approved by the applicable governmental authority and may not be used for equity investments within the PRC. In addition, SAFE strengthened its oversight of the flow and use of the registered capital of a foreign-invested company settled in Renminbi converted from foreign currencies. The use of such Renminbi capital may not be changed without SAFE’s approval, and may not in any case be used to repay Renminbi loans if the proceeds of such loans have not been used. Violations of Circular 142 will result in severe penalties, such as heavy fines. As a result, Circular 142 may significantly limit our ability to transfer our existing cash to our PRC operating subsidiaries, which may adversely affect our business expansion, and we may not be able to convert our cash into Renminbi to invest in or acquire any other PRC companies.

 

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Restrictions on currency exchange may limit our ability to receive and use our revenues and cash balances effectively.
Substantially all of our revenues, expenses and cash balances are denominated in Renminbi. The Renminbi is currently convertible under the “current account,” which includes dividends, trade and service-related foreign exchange transactions, but not under the “capital account,” which includes foreign direct investment and loans. Currently, our PRC subsidiaries may purchase foreign currencies for settlement of current account transactions, including payments of dividends to us, without the approval of SAFE. However, the relevant PRC government authorities may limit or eliminate our ability to purchase foreign currencies in the future. Since a significant amount of our future revenues will be denominated in Renminbi, any existing and future restrictions on currency exchange may limit our ability to utilize revenues generated in Renminbi to fund our business activities outside China, including overseas acquisitions, that are denominated in foreign currencies.
Foreign exchange transactions by our PRC subsidiaries under the capital account continue to be subject to significant foreign exchange controls and require the approval of or need to register with PRC governmental authorities, including SAFE. In particular, if our PRC subsidiaries borrow foreign currency loans from us or other foreign lenders, these loans must be registered with SAFE, and if we finance our PRC subsidiaries by means of additional capital contributions, these capital contributions must be approved by certain government authorities, including the National Development and Reform Commission or the NDRC, the Ministry of Commerce, or MOFCOM, or their respective local counterparts. These limitations could affect the ability of our PRC subsidiaries to obtain foreign exchange through debt or equity financing.
Our contractual arrangements with Longtop Online and its subsidiaries may be subject to scrutiny by the PRC tax authorities and may result in a finding that we owe additional taxes or are ineligible for tax exemption, or both, which could increase our taxes owed and thereby reduce our net income.
Under the applicable PRC laws, rules and regulations, arrangements and transactions among related parties, such as XLM and Longtop Online, may be subject to audits or challenges by the PRC tax authorities. We are not able to determine whether any of these transactions will be regarded by the PRC tax authorities as arm’s length transactions because, to our knowledge, the PRC tax authorities have not issued a ruling or interpretation in respect of transaction structures such as ours. The relevant tax authorities may determine that our contractual relationship with Longtop Online and its shareholders was not entered into on an arm’s length basis or that our transactions with Longtop Online have resulted in an impermissible reduction in taxes under PRC law, in which case the PRC tax authorities may adjust the profits and losses of Longtop Online resulting in additional taxes being due. In addition, the PRC tax authorities may impose late payment surcharges and other penalties on Longtop Online for underpaid taxes. Our net income may be adversely affected if Longtop Online’s tax liabilities increase or if it is found to be subject to late payment surcharges or other penalties.
Fluctuation in the value of the Renminbi may reduce the value of an investment in our ADSs.
The change in value of the Renminbi against the U.S. dollar, Euro and other currencies is affected by, among other things, changes in China’s political and economic conditions. On July 21, 2005, the PRC government changed its decade-old policy of pegging the value of the Renminbi to the U.S. dollar. Under the current policy, the Renminbi is permitted to fluctuate within a narrow and managed band against a basket of certain foreign currencies. This change in policy has resulted in a greater fluctuation range between Renminbi and the U.S. dollar. In 2006, 2007, 2008 and 2009, the Renminbi appreciated against the U.S. dollar by approximately 3.4%, 7.0%, 6.9% and 0.1%, respectively. Nonetheless, there remains significant international pressure on the PRC government to adopt a more flexible and more market-oriented currency policy that allows a greater fluctuation in the exchange rate between the Renminbi and the U.S. dollar. Accordingly, we expect that there will be increasing fluctuations in the Renminbi exchange rate against the U.S. dollar in the near future. Since our reporting currency is the U.S. dollar while the functional currency of our operating entities in China is the Renminbi, appreciation or depreciation in the value of the Renminbi relative to the U.S. dollar may cause our financial results reported in U.S. dollar terms to deviate from our actual financial condition and results of operations. The appreciation of the Renminbi against the U.S. dollar contributed to the increase in our net revenues reported in U.S. dollar terms in both fiscal 2008 and fiscal 2009. Fluctuations in the exchange rate would also affect the relative value of any dividend we might pay in the future, which would be paid in U.S. dollars, and earnings from and the value of any U.S. dollar-denominated investments we might make in the future.

 

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Failure to comply with the United States Foreign Corrupt Practices Act could subject us to penalties and other adverse consequences.
We are subject to the United States Foreign Corrupt Practices Act, or FCPA, which generally prohibits companies, such as us, whose securities are listed in the United States, from engaging in bribery or other prohibited payments to foreign officials for the purpose of obtaining or retaining business. The U.S. Department of Justice and the U.S. Securities and Exchange Commission, which have responsibility for enforcement of the FCPA, both consider employees of state-owned entereprises, such as the Big Four Banks, to be “foreign officials” for FCPA purposes. Non-U.S. companies, including some that may compete with us, are not subject to these prohibitions. Corruption, extortion, bribery, pay-offs, theft and other fraudulent practices may occur in China. Our employees or other agents may engage in such conduct, for which we might be held responsible. If our employees or other agents are found to have engaged in such practices, we could suffer severe penalties and other consequences, including adverse publicity and damage to our reputation.
Failure to comply with the Employment Contract Law of the PRC could subject us to penalties and other adverse consequences.
The PRC National People’s Congress promulgated the Employment Contract Law, or the ECL, which became effective on January 1, 2008. The ECL imposes requirements concerning, among others, the execution of written contracts between employers and employees, the time limits for probationary periods, and the length of fixed-term employment contracts. Due to its limited history and the lack of clear implementation rules, it is uncertain how the ECL will impact our current employment practices. It is possible that our employment practices violate, or will violate, the ECL, and that we could be subject to severe penalties or incur significant legal fees in connection with labor law disputes or investigations.
In addition, as of March 31, 2010, 3,413 of our total 4,258 employees were contracted through third-party human resources companies of which 3,235 were contracted through Xiamen Longtop Human Resources Service Co., Ltd., or XLHRS, which is unrelated to us. The third-party human resources companies, including XLHRS, are responsible for managing, among other things, payrolls, social insurance contributions and local residency permits of these contracted employees. We may not be able to continue this under the ECL, which could force us to adopt a different practice and result in an increase in our human resources administration expenses, increase the risk of fines and penalties from the labor administration authorities and increase the risk of litigation from these contracted staff if they were contracted directly by Longtop. Furthermore, if we could no longer work with XLHRS because of any contractual disputes between XLHRS and us or for any other reason, we would be required to find another vendor which could increase our expenses.
Recent PRC regulations relating to the establishment of offshore special purpose companies by PRC residents and registration requirements for employee stock ownership plans or share option plans may subject our PRC resident shareholders to personal liability and limit our ability to acquire PRC companies or to inject capital into our PRC subsidiaries, limit our PRC subsidiaries’ ability to distribute profits to us, or otherwise materially and adversely affect us.
SAFE issued a public notice in October 2005 requiring PRC residents, including both legal persons and natural persons, to register with an appropriate local SAFE branch before establishing or controlling any company outside of China, referred to as an “offshore special purpose company,” for the purpose of acquiring any assets of or equity interest in PRC companies and raising funds from overseas. In addition, any PRC resident that is the shareholder of an offshore special purpose company is required to amend his or her SAFE registration with the local SAFE branch, with respect to that offshore special purpose company in connection with any increase or decrease of capital, transfer of shares, merger, division, equity investment or creation of any security interest over any assets

 

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located in China. To further clarify the implementation of Circular 75, the SAFE issued Circular 124 and Circular 106 on November 24, 2005 and May 29, 2007, respectively. Under Circular 106, PRC subsidiaries of an offshore special purpose company are required to coordinate and supervise the filing in a timely manner of SAFE registrations by the offshore holding company’s shareholders who are PRC residents. If these shareholders fail to comply, the PRC subsidiaries are required to report to the local SAFE authorities. If the PRC subsidiaries of the offshore parent company do not report to the local SAFE authorities, they may be prohibited from distributing their profits and proceeds from any reduction in capital, share transfer or liquidation to their offshore parent company and the offshore parent company may be restricted in its ability to contribute additional capital into its PRC subsidiaries. Moreover, failure to comply with the above SAFE registration requirements could result in liabilities under PRC laws for evasion of foreign exchange restrictions. Some of our PRC resident beneficial owners may have not registered with the local SAFE branch as required under SAFE regulations. The failure or inability of these PRC resident beneficial owners to comply with the applicable SAFE registration requirements may subject these beneficial owners or us to fines, legal sanctions and restrictions described above.
On March 28, 2007, SAFE released detailed registration procedures for employee stock ownership plans or share option plans to be established by overseas listed companies and for individual plan participants. Any failure to comply with the relevant registration procedures may affect the effectiveness of our employee stock ownership plans or share option plans and subject the plan participants, the companies offering the plans or the relevant intermediaries, as the case may be, to penalties under the PRC foreign exchange regime. These penalties may subject us to fines and legal sanctions, and prevent us from being able to make distributions or pay dividends.
In addition, the NDRC promulgated a rule in October 2004, or the NDRC Rule, which requires NDRC approvals for overseas investment projects made by PRC entities. The NDRC Rule also provides that approval procedures for overseas investment projects of PRC individuals must be implemented with reference to this rule. However, there exist extensive uncertainties as to interpretation of the NDRC Rule with respect to its application to a PRC individual’s overseas investment and, in practice, we are not aware of any precedents that a PRC individual’s overseas investment has been approved by the NDRC or challenged by the NDRC based on the absence of NDRC approval. Our current beneficial owners who are PRC individuals did not apply for NDRC approval for investment in us. We cannot predict how and to what extent this will affect our business operations or future strategy. For example, the failure of our shareholders who are PRC individuals to comply with the NDRC Rule may subject these persons or our PRC subsidiary to certain liabilities under PRC laws, which could adversely affect our business.
We may face risks due to business interruptions resulting from outbreak of health epidemics.
Substantially all of our operations are conducted in China. Any occurrence of H1N1 flu (swine flu), avian flu, SARS or any other health epidemic or outbreak in Xiamen or Beijing, where our PRC operations head offices are located and most of our employees are based, or elsewhere in China, may cause interruptions to our business operations due to illness and loss of our management and key employees, as well as temporary closure of our offices and other related businesses, which could have a material adverse effect on our business operations, operating results or financial condition.
Risks Related to Our ADSs
The market price for our ADSs has been volatile.
The market price for our ADSs has been and may continue to be highly volatile and subject to wide fluctuations in response to factors including the following:
    actual or anticipated fluctuations in our quarterly operating results;
    changes in financial estimates by securities research analysts;

 

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    announcements by us or our competitors of acquisitions, strategic partnerships, joint ventures or capital commitments;
    addition or departure of key personnel;
    fluctuations of exchange rates between the RMB and U.S. dollar;
    intellectual property litigation;
    sales of additional ADSs; and
    general economic or political conditions in China.
In addition, the securities market has from time to time experienced significant price and volume fluctuations that are not related to the operating performance of particular companies.
Future sales of our ADSs in the public market, or the perception that these sales could occur, could cause the price of our ADSs and make it difficult for us to raise capital.
All of the ADSs that were sold by us in our initial public offering in 2007 and in our follow-on offering in 2009, as well as any ADSs that have been sold publicly by shareholders who held ordinary shares or rights to acquire ordinary shares prior to our initial public offering or who acquired shares pursuant to our 2005 Long Term Incentive Plan or from Well Active, are tradable without additional registration under the Securities Act of 1933. Substantial additional numbers of ordinary shares held by such shareholders, including our Chairman and our chief executive officer, could be sold in the form of ADSs to the public in the future. Approximately 16.9 million shares are held directly or indirectly by our Chairman or our chief executive officer as of June 21, 2010, and approximately 3,673,660 shares remain eligible for issuance under our 2005 Long Term Incentive Plan as of March 31, 2010.
Sales of additional ADSs into the public market, or the perception that such sales could occur, could cause the market price of our ADSs to decline. Such sales also could make it more difficult for us to sell equity or equity-related securities in the future at a time and price that we deem appropriate. Our stockholders may experience substantial dilution if we raise additional funds through the sale of equity securities to finance future acquisitions or for other corporate purposes. The issuance of a large number of additional ADSs in an equity financing transaction could result in additional dilution to our shareholders and cause a decline in the market price of our ADSs due to the sale of a large number of shares of our ADSs in the public market, or the perception that such sales could occur. The risk of dilution and the resulting downward pressure on the market price of our ADSs could also encourage investors to engage in short sales of our ADSs. By increasing the number of ADS offered for sale, material amounts of short selling could further contribute to progressive price declines in our ADSs.
Holders of ADSs may not have the same voting rights as the holders of our ordinary shares and may not receive voting materials in time to be able to exercise their right to vote.
Except as described in this annual report and the deposit agreement for the ADSs, holders of our ADSs will not be able to exercise voting rights attaching to the shares evidenced by our ADSs on an individual basis. Holders of our ADSs will appoint the depositary or its nominee as their representative to exercise the voting rights attaching to the shares represented by the ADSs. Holders of ADSs may not receive voting materials in time to instruct the depositary to vote, and it is possible that such holders, or persons who hold their ADSs through brokers, dealers or other third parties, will not have the opportunity to exercise a right to vote. The deposit agreement provides that if the depositary does not timely receive valid voting instructions from the ADS holders, then the depositary will, with certain limited exceptions, give a discretionary proxy to a person designated by us to vote such shares.

 

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We may be classified as a passive foreign investment company, which could result in adverse U.S. federal income tax consequences to U.S. holders of our ADSs or ordinary shares.
We do not believe that we were a “passive foreign investment company,” or PFIC, for U.S. federal income tax purposes for the taxable year ended March 31, 2010, and we do not expect to be considered a PFIC for U.S. federal income tax purposes for the taxable year ending March 31, 2011. However, the application of the PFIC rules is subject to ambiguity in several respects and, in addition, whether we are a PFIC is determined annually (after the close of each taxable year). Accordingly, we cannot assure you that we will not be a PFIC for the current taxable year ending March 31, 2011 or any future taxable year. A non-U.S. corporation will be considered a PFIC for any taxable year if either (1) at least 75% of its gross income is passive income or (2) at least 50% of the value of its assets (based on the average of the quarterly values of the assets during the taxable year) is attributable to assets that produce or are held for the production of passive income. The market value of our assets may be determined in large part by the market price of our ADSs and ordinary shares, which is likely to fluctuate. In addition, the composition of our income and assets will be affected by how, and how quickly, we spend cash that we raised in our initial public offering in October 2007 and our follow-on public offering in November 2009. If we were treated as a PFIC for any taxable year during which a U.S. person held an ADS or an ordinary share, certain adverse U.S. federal income tax consequences could apply to such U.S. person. See “Taxation—United States Federal Income Taxation—Passive Foreign Investment Company.”
You may not be able to participate in rights offerings and may experience dilution of your holdings and you may not receive cash dividends if it is impractical to make them available to you.
We may from time to time distribute rights to our shareholders, including rights to acquire our securities. Under the deposit agreement for the ADSs, the depositary will not offer those rights to ADS holders unless both the rights and the underlying securities to be distributed to ADS holders are either registered under the Securities Act of 1933 or exempt from registration under the Securities Act of 1933 with respect to all holders of ADSs. We are under no obligation to file a registration statement with respect to any such rights or underlying securities or to endeavor to cause such a registration statement to be declared effective. In addition, we may not be able to take advantage of any exemptions from registration under the Securities Act of 1933. Accordingly, holders of our ADSs may be unable to participate in our rights offerings and may experience dilution in their holdings as a result.
In addition, the depositary of our ADSs has agreed to pay to you the cash dividends or other distributions it or the custodian receives on our ordinary shares or other deposited securities after deducting its fees and expenses. Holders of ADSs will receive these distributions in proportion to the number of ordinary shares their ADSs represent. However, the depositary may, at its discretion, decide that it is inequitable or impractical to make a distribution available to any holders of ADSs. For example, the depositary may determine that it is not practicable to distribute certain property through the mail, or that the value of certain distributions may be less than the cost of mailing them. In these cases, the depositary may decide not to distribute such property and holders of ADSs will not receive such distribution.
You may be subject to limitations on transfer of your ADSs.
Your ADSs represented by the ADRs are transferable on the books of the depositary. However, the depositary may close its transfer books at any time or from time to time when it deems expedient in connection with the performance of its duties. In addition, the depositary may refuse to deliver, transfer or register transfers of ADSs generally when our books or the books of the depositary are closed, or at any time if we or the depositary deem it advisable to do so because of any requirement of law or of any government or governmental body, or under any provision of the deposit agreement, or for any other reason.
A small group of shareholders have substantial influence over our company and their interests may not be aligned with the interests of our other holders of our ordinary shares and ADSs.
A small number of shareholders, including Hiu Kung Ka, our co-founder and chairman of our board of directors and Wai Chau Lin, our co-founder and chief executive officer, as at May 31, 2010 beneficially owned approximately 30% of our outstanding share capital. As a result, these shareholders have substantial influence over our business, including decisions regarding mergers, consolidations and the sale of all or substantially all of our assets, election of directors and other significant corporate actions. This concentration of ownership may discourage, delay or prevent a change in control of our company, which could deprive our shareholders of an opportunity to receive a premium for their shares as part of a sale of our company and might reduce the price of our ADSs. Alternatively, our controlling shareholders may cause a merger, consolidation or change of control transaction even if it is opposed by our other shareholders.

 

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We currently do not intend to follow the New York Stock Exchange requirements that a majority of our directors consist of independent directors or that we implement a nominating committee. This may afford less protection to our holders of ordinary shares and ADSs.
Section 303A of the Corporate Governance Rules of the New York Stock Exchange requires listed companies to have, among other things, a board of directors with a majority of independent directors and a nominating committee. As a foreign private issuer, however, we are permitted to, and we will, follow home country practice in lieu of the above requirement. The corporate governance practice in our home country, the Cayman Islands, does not require a majority of our board to consist of independent directors or the implementation of a nominating committee. Since a majority of our board of directors will not consist of independent directors and we will not have a separate nominating committee to identify individuals qualified to become board or committee members or set corporate governance guidelines as long as we rely on the foreign private issuer exemption, there will be fewer board members exercising independent judgment and the level of board oversight on the management of our company may decrease as result. The board members who are not independent may cause a merger, consolidation or change of control transactions without the consent of the independent directors, which may lead to a conflict of interest with the interest of holders of our ordinary shares and ADSs.
Our articles of association contain anti-takeover provisions, and we may adopt additional anti- takeover provisions that could have a material adverse effect on the rights of holders of our ordinary shares and ADSs.
Our articles of association create a board of directors pursuant to which our directors are elected for staggered terms, which means that shareholders can only elect, or remove, a limited number of directors in any given year. Our articles of association also contain provisions that authorize our board of directors, without further action by our shareholders, to issue shares pursuant to a shareholder rights agreement or otherwise in one or more series and to designate the price, rights, preferences, privileges and restrictions of shares. Under these anti-takeover provisions, shares could be issued quickly with terms calculated to delay or prevent a change in control of our company or make removal of management more difficult. Furthermore, we may in the future amend our articles of association to adopt additional provisions that limit the ability of others to acquire control of our company or cause us to engage in change-of-control transactions. These anti-takeover provisions may have the effect of depriving our shareholders of an opportunity to sell their shares at a premium over prevailing market prices by discouraging third parties from seeking to obtain control of our company in a tender offer or similar transaction. If our board of directors decides to issue shares in reliance of the provisions described above, or adopt additional anti-takeover provisions, the price of our ADSs may fall and the voting and other rights of the holders of our ordinary shares and ADSs may be materially and adversely affected.
Our shareholders may face difficulties in protecting their interests, and their ability to protect their rights through the U.S. federal courts may be limited, because we are incorporated under Cayman Islands law, conduct substantially all of our operations in China and all of our officers reside outside the United States.
We are incorporated in the Cayman Islands and substantially all of our assets are located outside of the United States. We conduct substantially all of our operations in China through our wholly-owned subsidiaries in China. The majority of our officers and directors reside outside the United States and a substantial portion of the assets of those persons are located outside of the United States. As a result, it may be difficult for our shareholders to bring actions against us or against these individuals in the Cayman Islands or in China in the event that shareholders believe that their rights have been infringed under the securities laws or otherwise. Even if shareholders are successful in bringing an action of this kind, the laws of the Cayman Islands and of China may make it difficult or impossible for such shareholders to enforce judgments against our assets or the assets of our directors and officers. In addition, there is uncertainty as to whether the courts of the Cayman Islands or the PRC would recognize or enforce judgments of U.S. courts against us or such persons predicated upon the civil liability provisions of the securities laws of the United States or any state, and it is uncertain whether such Cayman Islands or PRC courts would be competent to hear original actions brought in the Cayman Islands or the PRC against us or such persons predicated upon the securities laws of the United States or any state.

 

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Our corporate affairs are governed by our memorandum and articles of association and by the Companies Law (as amended) and common law of the Cayman Islands. The rights of shareholders to take legal action against our directors and us, actions by minority shareholders and the fiduciary responsibilities of our directors to us under Cayman Islands law are to a large extent governed by the common law of the Cayman Islands. The common law of the Cayman Islands is derived in part from comparatively limited judicial precedent in the Cayman Islands as well as from English common law, which has persuasive, but not necessarily binding, authority on a court in the Cayman Islands. The rights of our shareholders and the fiduciary responsibilities of our directors under Cayman Islands law may not be as clearly established as they would be under statutes or judicial precedents in the United States. In addition, Cayman Islands companies may not have standing to initiate a shareholder derivative action before the federal courts of the United States.
As a result of all of the above, our public shareholders may have more difficulty in protecting their interests through actions against our management, directors or major shareholders than they would as shareholders of a public company of the United States.
We incur significant costs as a result of being a public company.
As a public company, we incur significant accounting, legal and other expenses that we did not incur as a private company. Sarbanes-Oxley and SEC rules promulgated under Sarbanes-Oxley, as well as rules of the New York Stock Exchange, have detailed requirements concerning corporate governance practices of public companies, including Section 404 of Sarbanes-Oxley, which relates to internal controls over financial reporting. These requirements increase our accounting, legal and financial compliance costs and make certain corporate activities more time-consuming and costly. In addition, we incur costs associated with our public company reporting requirements.
Item 4. Information on the Company
History and Development of the Company
Longtop Financial Technologies Limited, which is a Cayman Islands company, was originally organized in the British Virgin Islands, on October 18, 2000, under the name Latest New Technology Limited, which was subsequently changed to Longtop Financial Technologies Limited (“Longtop BVI”). Effective September 5, 2007, Longtop BVI became a wholly-owned subsidiary of Longtop, and the former shareholders of Longtop BVI became the sole shareholders of Longtop, in the same proportions, and holding the same classes of shares, as they had held of the equity share capital of Longtop BVI.
On October 25, 2007, we completed the listing on the New York Stock Exchange of ADSs representing ordinary shares offered in our initial public offering, which closed on October 29, 2007.
On November 23, 2009, we completed a follow-on public offering of ADSs representing ordinary shares. We received aggregate net proceeds from the follow-on offering of approximately $126.6 million, after deducting underwriting discounts and commissions, but before deducting offering expenses paid by us.
Our principal executive offices are at Flat A, 10/F., Block 8, City Garden, 233 Electric Road, North Point, Hong Kong and our China operations’ principal office is located at No. 61 Wanghai Road, Xiamen Software Park, Xiamen, 361005, People’s Republic of China. Our telephone number is: +86-592-2396888. Our agent for service of process in the United States is Law Debenture Corporate Services Inc., 4th Floor, 400 Madison Avenue, New York, New York 10017.

 

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Business Overview
We are a leading provider of software and information technology, or IT, services targeting the financial services industry in China. We develop and deliver a comprehensive range of software solutions with a focus on meeting the rapidly growing IT needs of financial institutions in China. Our software solutions may be broadly classified into four categories: channel, business, management and business intelligence, covering major categories of information technology requirements for financial institutions in China. We sell both custom-designed and standardized software solutions that are integrated into our clients’ existing IT hardware and software infrastructure. We additionally provide other services, such as ATM maintenance, system integration and other IT and technology related services, to our clients.
Our clients are primarily the leading banks and insurance companies in China. We have extensive client relationships with three of the largest state-controlled national banks, or Big Four Banks, namely China Construction Bank, Agricultural Bank of China and Bank of China. We also provide services to most of the 13 national commercial banks, China Postal Savings Bank, leading city commercial banks and insurance companies in China. More recently, we have also provided services to four of the five largest life insurance companies including China Life Insurance and three of the four largest property insurance companies in China including The People’s Insurance Company (Group) of China Limited, or PICC.
We offer select software solutions in the following broadly defined categories: channel-related solutions, business-related solutions, management-related solutions, business intelligence solutions, and other value-added solutions, covering major categories of information technology requirements for financial institutions in China.
We operate six delivery centers located in Xiamen, Beijing, Shanghai, Chengdu, Guangzhou and Tianjin, three research centers located in Xiamen, Shanghai and Guangzhou and 95 ATM service centers located in 27 out of 31 provinces in China. We have sales offices in Xiamen, Beijing, Shanghai and Guangzhou. As of March 31, 2010, we had 4,258 employees in China.
We believe we are well-positioned to serve the evolving needs of our clients and capitalize on the growth opportunities in China’s financial services IT market.
Strategic Acquisitions and Alliances
Through strategic acquisitions and alliances, we seek to add development and service capabilities, broaden the scope of our offerings and expand our client base. We have made several acquisitions of complementary business, all of which are located in China, and entered into strategic alliances. Our acquisitions include the following:
    In 2006, we acquired Advanced Business Services (Beijing) Co., Ltd., or ABS, an integration services provider located in Beijing.
    In 2007, we acquired the business of FEnet Co., Ltd., or FEnet, a business intelligence software developer.
    In May 2008, we acquired Huayuchang Co-Founder and Technology Company, or Huayuchang Tongchuang, to expand our ATM maintenance services to banks in China.
    In July and September 2008, we acquired control, through variable interest entities, of two companies that provide domain name sales and online hosting services.
    In July 2008, we acquired the business of Precision Hightech Company Ltd, or Puji, which provides core banking software products and solutions to other banks in China.
    In February 2009, we acquired Beijing Jactus Ruanbo Software and Technology Co., Ltd., or Jactus, a leading third-party testing company focused on China’s financial services industry.

 

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    In May 2009, we acquired Sysnet Info-tech Corporation, or Sysnet, an IT service provider focused on China’s insurance industry.
    In January 2010, we acquired Giantstone Information and Technology Ltd., or Giantstone, a leading core banking solution provider in China.
    In April 2010, we acquired the China IT outsourcing business of Shenzhen Zhongbokechuang Information Technology Co., Ltd., or Shenzhen Zhongbo, which provides outsourcing services to the Huawei Group in China.
    In June 2010, we acquired the businesses of Beijing iBoss Consulting and Technologies Co., Ltd., or Beijing iBoss, and Expert Prospect Limited, IT service providers focused on delivering risk management services to China’s banking and insurance industry.
We also seek to form strategic alliances to expand our business. One example of the type of strategic alliances we seek is our arrangement with S1 Corporation, a U.S. based software company, whereby we are assisting S1 in the implementation of S1’s branch platform at one of Thailand’s largest banks. This is our first significant contract outside of China, as we are providing services in Thailand as well as from our China delivery centers. Another example is our arrangement with SunGard Kingstar Data System (China) Co., Ltd., a subsidiary of SunGard Data Systems Inc., a U.S. financial and information technology services company, to distribute some SunGard products and provide related implementation and support services for those products to financial institutions in China.
Our Competitive Strengths
We believe the following strengths differentiate us from our competitors and enable us to attain a leadership position in the financial services IT market in China.
Market leader with extensive financial services expertise. Since inception, we have focused on the financial services industry and have fourteen years of experience navigating the complex and rapidly changing financial services environment in China. We believe our recognition as a market leader, our deep industry knowledge, our consistent focus on the financial services industry and our broad solution and service offerings combine to provide us a unique advantage over competitors that lack our market focus, industry expertise or sizable range of solutions and services.
Comprehensive solution and service offerings. We offer a broad range of customized and standardized software solutions addressing major categories of information technology needs of financial institutions in China. We offer consulting, implementation and customer support services related to our software solutions to our clients. We additionally offer system integration, IT system management and ATM maintenance services. Our broad solution and services offerings provide us with multiple access points to engage our clients and build long-term relationships over the various stages of their information system development. We believe this in turn generates valuable opportunities to cross-sell our other solutions and services.
Established relationships with leading financial institutions in China. We count among our clients three of the Big Four Banks, most of the 13 national commercial banks and four of the five major life insurance companies in China. Our relationships with market leaders in the Chinese financial services industry provide us with a reputation, industry knowledge, operational expertise and credibility that we can leverage in marketing to other market participants. These relationships also afford us opportunities to work on cutting-edge solutions that we can subsequently adapt for broader commercialization. As our clients generally prefer to maintain continuity and compatibility among their various systems, we believe our existing relationships favorably position us for selection to address our clients’ future IT needs. We further believe that our continued client relationships allow us to build client trust, anticipate their information technology needs and allow us to better direct our research and development efforts and effectively market to them our solutions and services.
Strong solution and service development capability. Our solution development efforts are led by our senior management, most of whom have computer science, mathematics or engineering backgrounds. Our engineers work primarily in our six solution delivery centers located in Xiamen, Beijing, Shanghai, Chengdu, Guangzhou and Tianjin. In fiscal 2010, our software development has reached the fifth and highest level of certification under CMMI, the de facto standard for software integration and development capabilities. Our quality control process is ISO 9001 certified. We use a component-based approach in the software development process that enables us to redeploy relevant modules for future solutions or to repackage them as stand-alone standardized solutions.

 

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The primary goal of our research efforts is to develop solutions that may be strategically implemented and commercialized. As an investment in our long-term growth, we fund and operate three research centers that focus on the core technologies underlying our software solutions and solution protocols, with 279 engineers dedicated to the research conducted by the centers. We have recently developed a treasury management solution and an asset management system for large, state-owned enterprises, as well as a number of business intelligence applications and operational risk management solutions. We believe that our commitment to research and development and our focus on commercializing our research results will further enhance our competitive edge in the market with the ability to provide a broad range of quality software solutions and the potential for sustained long-term growth.
Scalable, nationwide delivery and service platform. We operate six delivery centers located in Xiamen, Beijing, Shanghai, Chengdu, Guangzhou and Tianjin and 95 centers primarily for ATM services throughout 27 provinces in China. Our nationwide delivery and service platform allows us to tap into local talent pools, manage development and service costs, shorten service response time and build closer relationships with clients locally. At the same time, our closely integrated delivery and service centers allow us to leverage a multitude of talent within our entire network and build development and service teams across regions based on the combination of skills demanded by a particular project.
Proven management with successful track record. Our senior management team consists of computer scientists and engineers with extensive management experience in the IT industry. Our management team brings us complementary skills in the areas of software development and services, operations, finance, and sales and marketing. Under the leadership of our senior management team, we have substantially expanded our operations and solution lines, and achieved significant revenue growth.
Our Strategy
Our goal is to become the dominant leader in software development and IT services for the financial services industry in China and expand globally. We intend to achieve this goal by implementing the following strategies:
Strengthen relationships with key clients. Our clients include leaders in the financial services industry in China. We expect our clients’ IT needs to evolve as they address an increasingly competitive market, continue their modernization process and offer their customers progressively more sophisticated and innovative solutions and services. This requires substantial IT investments to revamp legacy systems, build new infrastructures and meet increased demands on internal management of work processes, resources and risk. We intend to address IT demand from these large financial institutions and increase the sales of our solutions and services by implementing, among others, the following measures: maintain high level of client satisfaction, anticipate client needs, organically expand with our clients and actively identify cross-selling opportunities.
Diversify our client base and service offerings to capture new growth opportunities. We believe our technological know-how, our cost-effective modular and streamlined design and implementation approach, our broad solution and service offerings and our deep industry knowledge will be attractive to potential financial services clients in banking, insurance and other financial services sectors in China and globally. We plan to capture growth opportunities in these and other areas: Big Four Banks, national and city commercial banks, insurance providers, other enterprises such as tobacco and oil companies and international financial services providers.
Continue to enhance our development and delivery capabilities. We will continue to commit significant financial and human resources to solution development and research and improve on our development process. In our development effort, we will continue to emphasize the exploitation of research results to create commercially viable solutions. We will further leverage the know-how from our custom-design and implementation process to develop and introduce standardized solutions with higher profit margins for a wider market. We will continue to fund basic research at our research centers and labs and increase our collaboration with universities and research facilities. We will expand our product lines by leveraging our domestic relationship as well as through co-operations with international players. We will also enhance support for our development and delivery initiatives by introducing sales teams dedicated to product lines.

 

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Attract and retain quality employees. To enhance our development efforts and to support our growth objectives, we intend to continue to attract additional skilled and experienced software engineering and project management personnel. We also intend to hire and retain additional sales and service personnel with client and industry knowledge. We will continue to build a strong management team with in-house talent and recruit additional management talent as needed. We will continue to leverage our research centers and external resources to provide training programs for our employees.
Pursue acquisitions and alliances that fit with our core competencies and growth strategy. The current financial services software solution and IT services market is fragmented, presenting consolidation opportunities. We have completed multiple acquisitions in recent years, and we intend to selectively pursue additional acquisitions to access new sectors or new clients, expand our solution and service offerings and/or strengthen our market leadership position. We may also seek overseas acquisitions in the financial services IT market. Furthermore, we plan to continue forging strategic alliances with complementary businesses and technologies.
Our Solutions and Services
We design and develop software solutions and provide support and maintenance services primarily targeting the financial services industry in China.
Software Development
We have over ten years of experience developing software for banks and other financial institutions in China. Since 2004, revenues from software development have consistently accounted for a substantial majority of our total revenues contributing 83.7%, 84.3% and 85.9% to our revenues for the years ended March 31, 2008, 2009 and 2010, respectively. Our software development operation consists of the following:
    Custom-designed software development. We provide custom-designed software solutions to address a comprehensive range of financial institution IT needs. Our development team consults with clients and works independently or with a client team to translate their business needs into software protocols and, after repeated testing, into workable solutions. Our project management team oversees and ensures the quality of the entire development process. On average, it takes approximately six months to complete a customized software project from design to implementation. We also provide software testing services and business intelligence and risk management consulting services. Custom-designed software development accounted for approximately 58.3%, 65.1% and 64.2% of our revenues from software development for the years ended March 31, 2008, 2009 and 2010, respectively.
    Standardized software development. We leverage our customized software development efforts, including related platforms, modules, or elements, and our internal research and development efforts, to develop standardized solutions. We have successfully marketed these solutions to financial institutions of varying sizes and needs. Typically, it takes one to two months to implement our standardized software solutions. Sales of our standardized software solutions accounted for 32.7%, 31.5% and 30.8% of our revenues for software development for the years ended March 31, 2008, 2009 and 2010, respectively.
    Software maintenance. In addition to our standard twelve-month post-contract customer support, or PCS covering maintenance and bug-fixing for any software solution defects, we offer fee-based, stand-alone maintenance contracts that are typically for a duration of twelve months. Our revenues from these stand-alone maintenance services accounted for 9.0%, 3.4% and 5.0% of our revenues from software development for the years ended March 31, 2008, 2009 and 2010, respectively.

 

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The solutions and services we offer to our financial institution clients, based on a combination of custom-designed software, standardized software and third-party software, cover all major categories of their information technology needs. The following chart illustrates select solutions we have provided in each of our channel-related solutions, business-related solutions, management-related solutions and business intelligence categories:
         
 
  Channel-Related Solutions   ATM
 
      Teller system
 
      Online banking
 
      Customer Relationship Management (CRM)
 
       
 
  Business-Related Solutions   International trade finance
 
      Payment and settlement
 
      Credit card operations
 
      Intermediary business
 
      Core banking implementation
 
       
 
  Management-Related Solutions   Enterprise resources management
 
      Credit and risk management
 
      Office automation
 
      Human Resource Management
 
      Regulatory Reporting and Compliance
 
       
 
  Business Intelligence   Decision support system
 
      Enterprise data warehouse
 
      Operational data storage (ODS)
 
      Data mining
 
      Analytical CRM
 
      Reporting
 
      Enterprise Customer Information Facility
 
      (ECIF)
Channel-Related Solutions
Revenues from our channel-related solutions constituted approximately 15.9%, 12.1% and 9.5% of our software development revenues for the years ended March 31, 2008, 2009 and 2010, respectively. These solutions enable banks to service their customers through a combination of ATMs, traditional bank tellers, online banking and CRM. According to International Data Corporation, or IDC, an independent market research company, in 2008 we ranked number 3 in channel solutions in China as measured by market share.
We believe our solutions enable financial institutions to remain competitive through enhanced service offerings to their customers. For example, we provided a customized solution to assist a client in replacing its ATM transaction operation system to keep pace with its growing business. Our solution allows the client to offer standard services, improve security and increase customer service offerings. Another example of our channel solutions is our standardized ATM cross-platform software which allows our clients to manage ATMs from multiple vendors.
Business-Related Solutions
Our business-related solutions constituted approximately 20.6%, 16.4% and 15.3% of our software development revenues for the year ended March 31, 2008, 2009 and 2010, respectively. Historically our strength in this service category is in payment and settlement system solutions, which include solutions for international trade finance system, SWIFT (payment and settlement), and factoring. As the level of automation and interface increases between payment and settlement systems, we expect greater demand for our scalable software solutions for this segment of the market. We are also competitive in the area of intermediary business solutions. In January 2010, in order to expand our solution offerings to include core banking, we completed the acquisition of Giantstone, which is currently undertaking the core banking implementation for a joint stock bank in China.

 

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One example of our business-related solutions is an international settlement solution we customized for a large national bank to replace its existing settlement system. The client’s then existing settlement system became outdated after its core system was centralized. Our next-generation international settlement system centralized the client’s settlement activities and improved settlement efficiency.
Another example of our business-related solutions is our standardized international trade documentation system. Our trade documentation system allows clients to centralize management of international trade documentation for increasingly complex international trade activities and to implement a new and more efficient process.
Management-Related Solutions
Our management-related solutions constituted approximately 34.0%, 40.4% and 38.4% of our software development revenues for the years ended March 31, 2008, 2009 and 2010, respectively. According to IDC, in 2008 we ranked number one in management solutions in China as measured by market share.
As bank functions and systems grow, there is an increasing demand for tools to effectively manage their internal operations and centralize their management. These tools include solutions for enterprise resource management and credit/risk management. These include credit management solutions that assist banks in managing, and minimizing risk associated with a broad range of loan solutions, including commercial loans, housing loans and personal loans. We also offer other management solutions such as office automation, human resource management and regulatory reporting and compliance management.
An example of management-related solutions is our implementation of a centralized customer information database for a large national bank. The database contains several hundred million pieces of customer and account information. Our solution enhanced our client’s ability to share customer information across business departments and its customer management capabilities.
Business Intelligence Solutions
Our business intelligence solutions constituted approximately 27.8%, 30.8% and 36.6% of our software development revenues for the years ended March 31, 2008, 2009 and 2010, respectively. According to IDC, in 2008 we ranked first in business intelligence solutions in China as measured by market share. Demand for business intelligence solutions has increased in recent years due to our customers building out data warehouses and business intelligence applications to conduct business and decision-making analysis in order to better understand their customers’ behavior and the effectiveness of their marketing campaigns, and to obtain more accurate and timely information to manage their business. There was strong demand from both Big Four Banks, Other Banks and Insurance customers for our Business Intelligence solutions, where we are one of the strongest service providers in China for these solutions.
An example of our business intelligence solutions is our business intelligence platform software, which allows our clients to analyze real-time data using different arrays of variables.
Other Services
We also offer other services to address IT needs unrelated to software development. Revenues from these services accounted for 16.3%, 15.7% and 14.1% of our revenues for the years ended March 31, 2008, 2009 and 2010, respectively. Our other service revenues for financial reporting purposes are divided into two segments: ATM maintenance services and ancillary services. Ancillary services include system integration services and miscellaneous services such as consulting, IT system management and other supplementary technology-related services.
    ATM maintenance services. We provide ATM maintenance and support services to banks. Our contracts are usually for one-year terms with annual renewal options. As of March 31, 2010, we were under contracts to maintain and support approximately 13,300 ATMs. We service all major brands of ATMs, including those manufactured by Diebold, Fujitsu, NCR, Nixdorf and Wincor.

 

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    System integration services. We have since inception provided integration services to our clients to assist them in the procurement and installation of hardware and software that best meet their system requirements. Our tasks include providing consulting services to clients to assess their system requirements, management of supplier relationships and bidding processes, contract negotiations and testing and acceptance of third party software and hardware. We sometimes provide accounts receivable financing as a value-added service to our clients. We have technical certifications to install and implement third-party products from many major international technology companies, including BEA, BMC, Cisco, Dell, Diebold, EMC, Hewlett-Packard, IBM, Microsoft, Nortel and Oracle.
    Miscellaneous services. In response to our clients’ needs to centralize the management of their support and core business functions, in 2004 we began to offer information technology service management, or ITSM, of our clients’ information technology infrastructures. We work closely with our clients on systems development, testing and after-sales systems maintenance. Through our ITSM services, we offer our clients value-added consulting services regarding configuration and system change management, security management, crisis management and information technology asset management. We also offer various consulting and supplementary technology-related services.
Project Management
Software Development and Testing
The development cycle of our custom-designed software typically involves the following steps:
    Assessing client’s needs. We first consult with the client to determine the client’s business needs and prepare a needs analysis report.
    Converting needs into an overall design. The development department then translates the client’s needs into a design concept built on our existing technology platforms. The testing department meanwhile prepares a system testing plan.
    Preparing a detailed design. The initial conceptual design and testing plans are then expanded into more detailed designs and testing procedures.
    Writing program code. Our development department next writes the initial program code.
    Software implementation and testing. The development and testing departments work together to test the software and prepare a system inspection report.
    System maintenance. After the software development is completed, our development and testing departments stay involved to improve on the solution, provide needed customer support and correct any design defects. We provide one year of maintenance with our development contracts.
We manage our development costs through budgeting and cost controls throughout the development process. We realize further efficiencies and cost-savings by using an interactive development method and component-based platform. Our component-based platform uses fully tested and optimized packages and libraries and various management tools to increase efficiency during the software development process by reusing code.
Quality Control
Throughout the development cycle, our project management department oversees the development process to ensure that the project progresses according to schedule and that the process meets our quality control standards. The functional separation of the development department, the testing department and the project management department builds checks and balances into the development process and provides structural assurance of quality control.

 

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We also follow a set of quality control procedures and software development protocols in our development processes. As a result of our extensive control mechanisms and our strict compliance, we received ISO 9001:2000 certification in July 2003 and ISO 27001 in March 2008 In addition, we obtained level three certification of CMMI for our software development in December 2004, level four certification of CMMI in December 2006 and level five certification of CMMI in March 2010.
Sales and Marketing
We rely on our own sales force to market and sell our solutions and services nationwide. We do not rely on any third party distributors to sell our product. As of March 31, 2010, we had 437 sales and marketing staff based in Xiamen, Beijing, Shanghai and Guangzhou. We also maintain dedicated sales teams for large clients and have been adding product sales teams for specific solutions. Our sales staff receive a significant portion of their compensation from performance-based bonuses and some of our senior sales staff have received equity grants under our 2005 share incentive plan.
We employ different sales strategies in approaching different types of clients. For large financial institutions, we focus on maintaining long-term relationships and targeting growth areas through dedicated sales teams and cross-selling. For mid-sized to small clients, we focus on leveraging our proven and mature solutions that address a comprehensive range of needs and offer packaged solutions. We also aim to increase our sales of customized and standardized solutions and services to insurance companies and the treasury and finance arms of large corporations.
Our clients’ procurement processes vary by client and nature of the project. Our customers generally plan and budget their information technology needs for any given year by the end of the previous year. Key software solutions are centrally planned and procured by headquarters according to the budget and annual plan, which is generally finalized during the first calendar quarter of the year. Frequently, branches have procurement discretion if their procurement proposals meet internal feasibility standards and scope limitations. Frequently, a competitive selection process is conducted by both larger and smaller banks before a project is awarded to a software solution provider. We believe the winning bidder is chosen based on reputation, historical track record with the client, quality of the proposed solution and estimated cost. We have a long history with some of our key clients and are on their preferred vendor lists. When we determine whether to bid on a project or are invited to provide a cost estimate on a proposed solution, we evaluate our resources, the cost-effectiveness of the project, the strategic value of the project and potential cross-selling opportunities before submitting a bid. Our pricing varies by types of solutions and services. We generally charge a fixed price for software development services and charge extra fees for upgrades and services that exceed the terms of our product warranty, which normally lasts for twelve months.
Our sales and marketing expenses consist mainly of compensation expenses and were $10.4 million (including $4.7 million of share-based compensation expenses), $11.0 million (including $1.5 million of share-based compensation expenses) and $21 million (including $2.4 million of share-based compensation expenses) for the years ended March 31, 2008, 2009 and 2010, respectively.
Customer Support
ATM Support Services
We provide ATM support services from our 94 service centers located in 27 provinces throughout China. We maintain two toll-free service hotlines as well as email client support. Our commitment to customer support for our clients includes prompt responses to our clients’ complaints, reports of any system malfunctions or any other technical or service problems. We aim to respond on-site to reported problems within one to two hours if the client is located within the same city, four to eight hours if the client is located within the same province, and 24 to 48 hours if the client is otherwise located in a major city in China. Our service commitment is made possible by our extensive nationwide network.
We electronically track the progress of any open service issue and follow through on client service requests. Our customer support teams work closely with our engineers to ensure that non-routine issues are resolved quickly and efficiently. We aim to follow up every resolved issue with a survey to ensure quality and receive feedback on ways to improve our customer support services.

 

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Other Client Support Services
We leverage our nationwide service centers to provide first responses to clients within those regions on non-ATM service inquiries. Our engineers on the project team for the relevant client will coordinate with our sales teams dedicated to that client to promptly provide services specified in our client contract. We similarly provide opportunities for client feedback on all our completed services.
Our Clients
We count among our clients three of the Big Four Banks, most of the 13 national commercial banks, a number of city banks and four of the five largest life insurance companies and three of the four largest property insurance companies in China. In the year ended March 31, 2010, two of our three Big Four Bank customers accounted for 10% or more of our total revenue and collectively the three Big Four Banks accounted for 43% of our revenues, with the largest of these Big Four Banks accounting for 22% of our revenues.
We do not have long-term contracts with any of our clients. We enter into contracts with the headquarters or branches to provide solutions or services for the duration of the relevant projects or the services.
Our Suppliers
We develop most of our software solutions in-house and do not significantly rely on outside suppliers for the design, implementation or customisation. We perform maintenance of ATMs in-house and accordingly also do not rely on outside suppliers except for the purchase of spare parts. In our systems integration business, we procure hardware and software on behalf of our clients through the original equipment manufacturer’s approved distributors in China, such as Digital China. As of March 31, 2010, none of our directors, their associates, or any shareholder (who to our knowledge owned more than 5% of our issued share capital) had any interest in any of our five largest suppliers.
Solution Development
Our research effort focuses on projects that match our strategic plan and can be successfully commercialized. This focus allows us to maintain long-term growth while capitalizing on our research to gain a competitive advantage. We place great emphasis on building a strong and stable research and development team and continuously seek out experts and talented researchers to join our research and development team.
As an investment in our long-term growth, we fund and operate three research centers that focus on the core technologies underlying our software solutions and solution protocols, with 279 engineers dedicated to software development research conducted by the centers. In addition, in 2002, we established a joint research laboratory with the National Defense Technology University to conduct software technology research. Additionally, we have established a field station for post-doctoral research at our facilities. Our collaboration with the National Defense Technology University resulted in the development of our Longtop Flexible Platform, or LTFP solutions. LTFP is designed as a scalable platform on which we and our clients can build application modules. The platform-and-module approach simplifies design cycles, increases efficiency and lowers implementation costs.
In August 2007, we collaborated with Xiamen University, a leading university in finance in China, on the research of trends in the financial services industry. In January 2009 we established a Financial Risk Management Laboratory with the School of Mathematical Sciences of Peking University to research and develop models in financial risk management primarily for the banking, asset management and insurance sectors. We believe that our commitment to research and development and our focus on commercializing our research results will further enhance our competitive edge in the market with the ability to provide a broad range of quality software solutions and the potential for sustained long-term growth.

 

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We have received numerous awards for our technology from both industry organizations and the national government. These awards include, among others, our designation as a “Significant High- Tech Enterprise” under the “Torch Plan,” an initiative launched by the Ministry of Science and Technology to encourage innovation in key technologies. The national government also designated us a “Major Software Enterprise within the State Plan.” We have also received grants from regional and provincial governments in recognition of our technological achievements.
Our research and development expenses were approximately $3.8 million (including share-based compensation expenses of $1.5 million), $5.2 million (including share-based compensation expenses of $385,000) and $8.2 million (including share-based compensation expense of $503,000) for the years ended March 31, 2008, 2009 and 2010, respectively.
Intellectual Property
We rely on a combination of patent, copyright, trademark, software registration, anti-unfair competition and trade secret laws, as well as nondisclosure agreements and other methods to protect our intellectual property rights.
We have registered 19 trademarks and are in the process of applying for the registration of approximately 30 other trademarks with the Trademark Office of the State Administration for Industry and Commerce of China. In addition, we have five trademarks, our company logo, “Longtop Group”, “Longtop”, “(CHINESE CHARACTER)” and “HooYoo” registered with the International Bureau of the World Intellectual Property Organization, or WIPO. We have filed four patent applications in China and have received preliminary patent approval for four of those patent applications. We have registered our Internet domain names www.longtop.com and www.longtop.cn, at which our main websites are located, and 18 other domain names with established domain name registration centers.
Over half of our customized software solutions contracts between December 2006 and September 2007 and some of our customized software solutions contracts prior to December 2006 provide that the contracting client owns the intellectual property rights to software solutions developed under the contracts. Most of these contracts provide that we have the right to own and commercialize any substantial improvements we make to the customized software solutions developed under the contracts. A small number of these affected contracts either do not explicitly provide us with these rights or provide that we do not have these rights. A small number of our now-discontinued standardized software solutions were based on, and our future standardized solutions may be derived from, at least in part, customized software solutions developed under our customized solutions. As a result of this practice, we may be subject to intellectual property infringement claims from these clients and others (including disputes from clients as to whether we have sufficiently modified the underlying customized software solutions).
In October 2007, we implemented more stringent criteria for approving IP-related provisions in our client contracts. Since then, overall contracts providing that our clients own the intellectual property rights to customized software solutions developed under these contracts account for less than 35% of all of our customized contracts. However, of those affected contracts: (1) the substantial majority provide that we have the right to own and commercialize any substantial improvements we make to the customized software solutions developed for clients and (2) the balance—where we have no such rights—account for less than 5% of all of our customized contracts. In addition, we seek to limit those contracts where we do not have those commercialization rights to improvements made by us to (x) new phases for pre-existing projects, where it is commercially difficult to change pre-existing contractual terms, and (y) projects where we view the technology involved as unlikely to be used for future customized or standardized solutions.
In addition, in a small number of our software solutions contracts, we have joint ownership rights with our clients to improvements we subsequently make based on technologies and software solutions developed under these contracts. As a result, we may be subject to profit-sharing claims to our later developed solutions that may be deemed “improvements” to solutions we initially developed under these contracts.

 

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If we are found to have violated the intellectual property rights of others, we may be enjoined from using such intellectual property rights, or we may incur licensing fees or be forced to develop alternatives. In addition, we may incur substantial expenses in defending against these third party infringement claims, regardless of their merit. Successful infringement or licensing claims against us may result in substantial monetary liabilities, reputational harm, lost sales and lower gross margins which may materially and adversely affect our business, gross margins and net income. However, we believe that the possibility of our clients filing intellectual property rights infringement claims against us on the basis of their intellectual property rights ownership of the customized solutions is low because the process by which we convert a customized solution to a standardized solution involves substantial changes to the underlying code. As a result, given that most of the contracts in which our clients own the intellectual property to the software solutions developed under such contracts provide that we have the rights to own and commercialize any substantive improvements we make to the software solutions developed for clients under such contracts, it would be difficult for our would-be claimant to establish that standardized solutions are infringing their intellectual property rights. Our clients of standardized software generally receive license rights to use the standardized software and generally do not possess ownership rights to the underlying intellectual properties. As the conversion from a customized software into a standardized software typically involves substantial changes to the underlying code, we believe we have the right to sell, and are entitled to the economic benefits under, standardized software converted from customized software.
We provide indemnification to clients who purchase our solutions against potential infringement of intellectual property rights underlying those solutions. We currently do not have other plans to provide assurances to these clients that they will receive the full benefits of purchases. We believe the substantial modification involved in the implementation of our software solutions gives us the right to sell and accrue economic benefits under these sales.
Competition
The financial services IT market in China is highly fragmented and competitive. Competition in the financial services IT market depends in large part on industry experience, quality of solutions and services offered, reputation and price. No single participant or group of participants dominate the entire market or any segment within the four major solutions markets, namely, markets for channel-related solutions, business-related solutions, management-related solutions and other value-added solutions.
Market access to the dominant Chinese financial institutions depends in large part on pre-existing relationships and past track records with these financial institutions. When we compete for software projects for our existing clients, our competitors are relatively few. When we compete for projects for financial institutions with whom we do not have strong pre-existing relationships, the number of our competitors increases and those competitors with stronger relationships with these financial institutions are more likely to have an entrenched position and competitive advantage.
Our most significant competition comes from domestic companies such as Digital China Holdings Limited, Yucheng Technologies Limited and Global InfoTech Group in the banking area and in insurance our main competitor is Sinosoft Limited. We also compete with international companies such as Accenture, IBM, Oracle and Tata Consulting Service. To a lesser extent, we also face competition from the in-house development departments of our customers.
We believe many of our competitors do not have the breadth of solutions and services, extensive pre-existing client relationships and industry experiences that we do. While we believe we will meet more competition from international companies in the future, we believe our international competitors generally lack local relationships or solutions that are adapted to the local market in China.
The market for ATM maintenance, ITSM and integration services is highly fragmented. With respect to ATM maintenance and ITSM services, we face competition from local service providers and international companies that provide service in conjunction with the solutions they provide. These competitors include Diebold, Digital China Holdings Limited, The GRG Yuntong Banking Equipment Co., Ltd., IBM, Nantian Electronic Information Co., Ltd. and NCR. Our competitors in the market for systems integration include Digital China Holdings Company, Yucheng Technologies Limited and Beijing Sihitech Co., Ltd., as well as original equipment manufacturers and their distributors.

 

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Government Regulation
Regulations on the Software and Systems Integration Industries
China’s State Council and a number of ministries and agencies have issued a series of rules and regulations aimed at stimulating the growth of the software and systems integration industries in China. The principal regulations governing the software and systems integration industries include:
    Interim Administration Measures for Qualification of Systems Integration of Computer Information (1999);
    Certification Standards and Administration Measures of Software Enterprises (2000);
    Interim Appraisal Condition for Qualification Grade of Systems Integration of Computer Information (2000);
    Certain Policies for Encouraging Development of the Software Industry and Integrated Circuits Industry (2000);
    Software Products Administration Measures (2000);
    Interim Administration Measures for Qualification of Systems Integration of Computer Information Concerning State Secrets (2001); and
    Administrative Measures on Verification of Key Software Enterprises within the State Plan (2005).
Under these regulations, except for software developed for self-use, software products developed in China are subject to a registration system administered by the Ministry of Information Industry, or MII, and its local branches or agencies empowered by it. This registration system requires software developers to obtain registration certificates for their software products. A software product cannot be sold in China without such registration.
Companies in China engaged in systems integration are required to obtain qualification certificates from MII. Companies planning to set up computer information systems are required to engage only systems integration companies with appropriate qualification certificates. The qualification certificate is subject to bi-annual review and is renewable every four years.
The Qualification Certificate for Integration of Computer Information Systems Concerning State Secrets granted by the State Secrecy Bureau will be required for a company to engage in computer systems integration activities involving state secrets. In principle, the State Secrecy Bureau will only issue special qualification certificates to Chinese domestic companies. Foreign invested companies, including Sino-foreign joint ventures and wholly foreign-owned enterprises, are generally not allowed to engage in any computer systems integration activities that involve state secrets.
We generally register our software solutions and have obtained or are in the process of obtaining from MII or other regulatory agencies all the certificates, permits or licenses necessary for conducting our business.
PRC Taxation
We are subject to taxation in China by virtue of the business our PRC subsidiaries conduct there.

 

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Taxable Presence Exposure in the PRC
The Corporate Income Tax Law, as discussed below, provides that enterprises established under the laws of foreign countries or regions whose “de facto management bodies” are located within the PRC are considered PRC resident enterprises and will be subject to the PRC Corporate Income Tax at the rate of 25% on their worldwide income. Under the Implementation Rules of the PRC Corporate Income Tax Law, as discussed below, a “de facto management body” is defined as a body that has material and overall management and control over manufacturing and business operations, personnel and human resources, finances and treasury, and acquisition and disposition of properties and other assets of an enterprise. Due to the fact that substantially all of our operational management is currently based in the PRC, our Cayman Islands company, BVI company and Hong Kong company may be deemed as resident enterprises in the PRC. If we are treated as resident enterprises for PRC tax purposes, we will be subject to PRC tax on our worldwide income at the 25% tax rate, which would have an impact on our effective tax rate. Under such circumstances, dividends distributed from our PRC subsidiaries to our Hong Kong, BVI company and ultimately to our Cayman Islands company, could be exempt from Chinese dividend withholding tax, and dividends from our Cayman Islands company to ultimate shareholders who are PRC domestic residents would be subject to PRC individual income tax at 20%.
Enterprise Income Tax
Under the new Corporate Income Tax Law, to qualify as a “new and high technology enterprise” for PRC enterprise income tax purposes, a business entity generally must meet certain financial and non-financial criteria, including, but not limited to:
    the technology researched and developed by the company falling into the high technology category promulgated by PRC government;
    a minimum level of revenue generated from high technology related sales or services as a percentage of total revenue;
    a minimum number of employees engaged in research and development;
    a minimum requirement for the education degree of employees; and
    a minimum level of research and development expenses as a percentage of total revenue.
Value-added Tax
Pursuant to the Provisional Regulation of China on Value-Added Tax and its implementing rules, all entities and individuals that are engaged in the businesses of sales of goods, provision of repair and placement services and importation of goods into China are generally subject to a value-added tax, or VAT, at a rate of 17% (with the exception of certain goods which are subject to a rate of 13%) of the gross sales proceeds received, less any VAT already paid or borne by the taxpayer on the goods or services purchased by it and utilized in the production of goods or provisions of services that have generated the gross sales proceeds. However, pursuant to Certain Policies for Encouraging Software Industry and Integrated Circuits Industry issued in 2000, an enterprise classified as a “software enterprise” will be entitled to a rebate of its net VAT liability to the extent that it exceeds 3% of the actual VAT burden relating to self-made software product sales (excluding export sales). Such refund will not be treated as taxable income and must be used for funding its software research and development and the expansion of its production capacity. According to the Notice on Certain Policies Related to Value Added Tax, issued in November 2005, an entity that develops software products on commission may be entitled to an exemption of VAT if, according to the contractual arrangement, the copyright of the products developed by it shall be owned by the commissioning party or jointly owned by the developer and commissioning party.
Business Tax
Companies in China are generally subject to business tax and related surcharges by various local tax authorities on revenue generated from providing services and revenue generated from the transfer of intangibles such as copyrights. The applicable business tax rate varies from 3% to 5%. However, qualified technology companies may apply for an exemption from business tax for revenues generated from technology development, transfer or related consulting services, according to a notice issued by the Ministry of Finance and the State Administration of Taxation in November 1999.

 

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Regulations on Foreign Exchange
The principal regulation governing foreign exchange in China is the PRC Foreign Exchange Administration Regulations (1996), as amended in 1997. Under these regulations, Renminbi is freely convertible under the current account. Foreign exchange transactions under the capital account, such as making inbound and outbound direct investment, foreign loans, repatriation of investment and investment in securities outside China, require prior approval of or registration with the State Administration of Foreign Exchange of China, or SAFE.
Pursuant to the Administration Rules on the Settlement, Sale and Payment of Foreign Exchange (1996), foreign-invested enterprises may only buy, sell and/or remit foreign currencies at those banks authorized to conduct foreign exchange business after providing valid commercial documents and, in the case of capital account item transactions, obtaining approval from SAFE or its local branches. Capital investments by foreign-invested enterprises outside of China are also subject to limitations, which include approvals by the MOFCOM, SAFE and the NDRC or their local counterparts.
Pursuant to SAFE’s Notice on Relevant Issues Concerning Foreign Exchange Administration for PRC Residents to Engage in Financing and Return Investments via Overseas Special Purpose Vehicles, generally known in China as SAFE Circular 75, issued on October 21, 2005, (i) a legal person entity incorporated in the PRC, a PRC citizen, or an individual with habitual residence in the PRC, who is referred to as an onshore resident under SAFE Circular 75, shall register with the local branch of SAFE before it establishes or controls an overseas special purpose vehicle, or SPV, for the purpose of overseas equity financing (including convertible debts financing); (ii) when an PRC resident contributes the assets or equity interests it holds in a domestic enterprise into an SPV, or engages in overseas financing after contributing assets or equity interests into an SPV, such PRC resident shall modify its SAFE registration in light of its interest in the SPV and any change thereof; and (iii) where an SPV undergoes material events relating to increases or decreases in investment amount, transfers or exchanges or shares, mergers or divisions, long-term equity or debt investments, or external guarantees, or other material events that do not involve return investments, such PRC resident shall, within 30 days from the occurrence of such material event, apply to the local branch of SAFE to amend or file the registration of foreign exchange of overseas investment. Onshore residents who have established or controlled SPVs and completed return investments before November 1, 2005, the effective date of SAFE Circular No. 75, were also required to register with the local SAFE branch before March 31, 2006.
To further clarify the implementation of Circular 75, the SAFE issued Circular 124 and Circular 106, on November 24, 2005 and May 29, 2007, respectively. These circulars distinguish between various common/likely scenarios in offshore financing and roundtrip investment, and the SAFE’s corresponding positions thereon. The overall theme is still on strengthening control over offshore financing routes by way of enhancing the thresholds in certain areas. Under Circular 106, PRC subsidiaries of an offshore special purpose company are required to coordinate and supervise the filing of SAFE registrations by the offshore holding company’s shareholders who are PRC residents in a timely manner. If these shareholders fail to comply, the PRC subsidiaries are required to report to the local SAFE authorities. If the PRC subsidiaries of the offshore parent company do not report to the local SAFE authorities, they may be prohibited from distributing their profits and proceeds from any reduction in capital, share transfer or liquidation to their offshore parent company and the offshore parent company may be restricted in its ability to contribute additional capital into its PRC subsidiaries. Moreover, failure to comply with the above SAFE registration requirements could result in liabilities under PRC laws for evasion of foreign exchange restrictions.
In December 2006, the People’s Bank of China promulgated the Administrative Measures on Individual Person Foreign Exchange, or the PBOC Regulation, setting forth the respective requirements for foreign exchange transactions by individuals (both PRC or non-PRC citizens) under the current account and the capital account. In January 2007 SAFE issued the implementation rules for the PBOC Regulation which, among others, specified the approval requirement for certain capital account transactions such as a PRC citizen’s participation in the employee stock ownership plan or stock options plan of an overseas listed company.

 

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On March 28, 2007, SAFE promulgated the Operating Procedures on Administration of Foreign Exchange regarding PRC Individuals’ Participating in Employee Stock Ownership Plan and Stock Option Plan of Overseas Listed Companies, or the Stock Option Rule, to further clarify the formalities and application documents in connection with the subject matter. Under the Stock Option Rule, PRC individuals who will participate in the employment stock ownership plan or the stock option plan of an overseas listed company are required to appoint a domestic agent to deal with the relevant foreign exchange matters in the PRC. For participants of an employment stock ownership plan, an overseas custodian bank should be retained by the domestic agent to hold on trusteeship all overseas assets held by such participants under the employment stock ownership plan. In the case of a stock option plan, a financial institution with stock brokerage qualification at the place where the overseas listed company is listed or a qualified institution designated by the overseas listed company is required to be retained to handle matters in connection with exercise or sale of stock options for the stock option plan participants. For participants who had already participated in an employment stock ownership plan or stock option plan before the date of the Stock Option Rule, the Stock Option Rule requires their domestic employers or domestic agents to make up for the relevant formalities within three months of the date of the Stock Option Rule. The failure to comply with the Stock Option Rule may subject the plan participants, the company offering the plan or the relevant intermediaries, as the case may be, to penalties under PRC foreign exchange regime.
Regulations on Offshore Parent Holding Companies’ Direct Investment in and Loans to Their PRC Subsidiaries
An offshore company may make equity investment in a PRC company, which will become the PRC subsidiary of the offshore holding company after investment. Such equity investment is subject to a series of laws and regulations generally applicable to any foreign-invested enterprise in China, which include the Wholly Foreign Owned Enterprise Law, the Sino-foreign Equity Joint Venture Enterprise Law, the Sino-foreign Contractual Joint Venture Enterprise Law, all as amended from time to time, and their respective implementing rules; the Tentative Provisions on the Foreign Exchange Registration Administration of Foreign-Invested Enterprise; and the Notice on Certain Matters Relating to the Change of Registered Capital of Foreign-Invested Enterprises.
Under the aforesaid laws and regulations, the increase of the registered capital of a foreign-invested enterprise is subject to the prior approval by the original approval authority of its establishment. In addition, the increase of registered capital and total investment amount shall both be registered with SAIC and SAFE.
Shareholder loans made by offshore parent holding companies to their PRC subsidiaries are regarded as foreign debts in China for regulatory purpose, which is subject to a number of PRC laws and regulations, including the PRC Foreign Exchange Administration Regulations, the Interim Measures on Administration on Foreign Debts, the Tentative Provisions on the Statistics Monitoring of Foreign Debts and its implementation rules, and the Administration Rules on the Settlement, Sale and Payment of Foreign Exchange.
Under these regulations, the shareholder loans made by offshore parent holding companies to their PRC subsidiaries shall be registered with SAFE. Furthermore, the total amount of foreign debts that can be borrowed by such PRC subsidiaries, including any shareholder loans, shall not exceed the difference between the total investment amount and the registered capital amount of the PRC subsidiaries, both of which are subject to the governmental approval.
On August 29, 2008, SAFE promulgated a notice, or Circular 142, regulating the conversion by a foreign-invested company of foreign currency into Renminbi by restricting how the converted Renminbi may be used. The notice requires that the registered capital of a foreign-invested company settled in Renminbi converted from foreign currencies may only be used for purposes within the business scope approved by the applicable governmental authority and may not be used for equity investments within the PRC. In addition, SAFE strengthened its oversight of the flow and use of the registered capital of a foreign-invested company settled in Renminbi converted from foreign currencies. The use of such Renminbi capital may not be changed without SAFE’s approval, and may not in any case be used to repay Renminbi loans if the proceeds of such loans have not been used. Violations of Circular 142 will result in severe penalties, such as heavy fines.
Regulations on Dividend Distribution
The PRC Wholly Foreign-owned Enterprise Law (1986), as amended in 2000, and the Implementing Rules of the Wholly Foreign-owned Enterprise Law (1990), as amended in 2001 are the principal regulations governing distribution of dividends of wholly foreign-owned enterprises.

 

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Under these regulations, wholly foreign-owned enterprises in China may distribute dividends only out of their accumulated profits determined in accordance with Chinese accounting standards and regulations. In addition, wholly foreign-owned enterprises in China are required to contribute at least 10% of their after-tax profits based on PRC accounting standards each year to its general reserves fund until the accumulative amount of the reserve fund reaches 50% of the registered capital of such wholly foreign-owned enterprise. The reserve fund cannot be distributed as cash dividends. A wholly foreign-owned enterprise is also required to allocate a portion, as determined at its discretion, of its after-tax profits to its staff welfare and bonus fund, which may not be distributed to the investors, either.
Employment Contract Law of PRC
The new Employment Contract Law of PRC became effective on January 1, 2008. In general, the new law expands the rights and protections afforded to employees and provides long-term job security to employees. For example, the new law requires employers to provide written employment contracts to their employees within one month after the employment relationship is established. If an employer fails to enter into a written contract with an employee within the one-month period, the employer must pay double salary to the employee until a written contract is concluded. The new law also requires employers in most cases to provide a severance payment to their employees after their employment relationships are terminated.
Organizational Structure.
Longtop is incorporated in the Cayman Islands. As of March 31, 2010, Longtop operates primarily through Longtop System (China) Limited, which was formally Xiamen Longtop System Co., Ltd. and is incorporated in the PRC, and Xiamen Longtop Financial Technology Management Co., Ltd., which is incorporated in the PRC. Refer to Exhibit 8.1 to this annual report for a complete list of our subsidiaries.
Property, Plants and Equipment
Our China operations’ principal office is located at No. 61 Wanghai Building, Software Park II in Xiamen in a building consisting of approximately 29,000 square meters of office space. We acquired the building and a forty-nine year land use right in March 2008 through our wholly-owned subsidiary XLM for an aggregate purchase price of RMB 85,344,867 ($12,490,285), which we have paid in full. As of March 31, 2010, our other principal offices in Beijing, Shanghai, Chengdu, Guangzhou, and Tianjin occupy an aggregate of approximately 12,500 square meters of leased space.
Item 5. Operating and Financial Review and Prospects
Management’s Discussion and Analysis of Financial Condition and Results of Operations
You should read the following discussion and analysis of our financial condition and results of operations in conjunction with the section entitled “Selected Consolidated Financial Data” and our consolidated financial statements and the related notes included elsewhere in this annual report. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results and the timing of selected events could differ materially from those anticipated in these forward-looking statements as a result of various factors, including those set forth under “Risk Factors” and elsewhere in this annual report.
Overview
We are a leading software developer and IT services provider targeting the financial services industry in China. We develop and deliver a comprehensive range of software solutions with a focus on meeting the rapidly growing IT needs of financial institutions in China.
Our software solutions may be broadly classified into four categories: channel-related solutions, business-related solutions, management-related solutions and business intelligence solutions, covering major categories of information technology requirements for financial institutions in China. We sell both custom-designed and standardized software solutions that are integrated into our clients’ existing IT hardware and software infrastructure. We additionally provide maintenance services to our clients with respect to our existing solutions.

 

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Our clients are primarily leading banks in China. We have extensive client relationships with three of the four largest state-controlled national banks, or the Big Four Banks, namely, China Construction Bank, Agricultural Bank of China and Bank of China. We also provided services to banks other than the Big Four Banks, or Other Banks, including most of the 13 national commercial banks, China Postal Savings Bank leading city commercial banks. In addition, we provide services to some of the largest insurance companies in China, including China Life Insurance and PICC.
Our growth has been and will continue to be driven in large part by the sales of software solutions to banks and other clients. In evaluating our performance, we consider the following factors:
    Our ability to timely provide solutions meeting the IT needs of Big Four Bank clients. Software development revenues from Big Four Banks increased from $27.5 million in the year ended March 31, 2008, or fiscal 2008, to $42.0 million in the year ended March 31, 2009, or fiscal 2009, and to $63.1 million for the year ended March 31, 2010, or fiscal 2010, and accounted for 49.7%, 46.9% and 43.5% of our software development revenues, respectively, as a result of our offering new software solutions to existing clients.
    Our ability to increase our client base within the financial industry and outside the financial industry. In fiscal 2008, 2009 and 2010, we increased our software development revenues from Other Banks and Insurance. Other Banks accounted for 32.1%, 38.6% and 37.3% of software development revenues for fiscal 2008, fiscal 2009 and fiscal 2010, respectively. Revenue from Other Banks was $17.6 million, $34.6 million and $54.2 million for fiscal 2008, fiscal 2009 and fiscal 2010, respectively. Insurance clients accounted for 9.8%, 11% and 15.0% of software development revenues in fiscal 2008, fiscal 2009 and fiscal 2010, respectively. Revenue from Insurance clients was $5.4 million, $9.9 million and $21.8 million in fiscal 2008, fiscal 2009 and fiscal 2010, respectively.
    The portion of our overall revenues attributable to standardized software solutions which deliver substantially higher gross margins. We introduced our first suite of standardized software solutions in 2003 and need to be constantly updating our standardized software solutions. These standardized solutions contributed substantially to our revenue growth and operating margins. In the near term, we expect our revenue growth to be driven by our customized software solutions in response to changes in client demands and to a lesser extent by growth in our standardized solutions.
    Expansion of our research capabilities. Our research headcount increased from 164 as of March 31, 2008 to 208 (of which 185 engineers were dedicated to software development research) as of March 31, 2009 and to 279 (of which 279 engineers were dedicated to software development research) as of March 31, 2010. Our research abilities directly affect our ability to develop customized and standardized solutions as drivers for our revenue growth.
    Attracting and retaining sufficient software development engineers to ensure our solutions can be delivered efficiently and effectively. Our software development headcount increased from 913 as of March 31, 2008 to 1,310 as of March 31, 2009 and to 2,492 as of March 31, 2010.
Factors Affecting Our Results of Operations
Our operating results in any period are subject to general conditions typically affecting the IT market for the financial services industry including:
    growth of the financial services industry in China;
    amount and seasonality of IT spending by banks and other financial services companies;

 

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    procurement process of banks and other financial services companies, including their decision whether to meet their IT needs in-house or through third-party developers;
    competition and related pricing pressure from other IT software and service providers to the financial services industry; and
    increases in headcount and other operating costs and expenses due to competition, inflation and other factors.
The volatility and uncertainty of China’s economic growth, coupled with the worldwide economic downturn, may cause slower or even negative growth in China’s financial services industry and result in decreased consumer and corporate use of financial services, or increased pressure on banks to develop, implement and maintain solutions in-house. However, to date, our business has not been materially adversely impacted as, among other reasons: we believe services and software IT spending represents a small percentage of many financial institutions’ revenues and profits; financial institutions in China remain underinvested in IT services, with decisions driven primarily by longer-term development plans rather than nearer term events; and financial institutions in China, along with their customer offerings, have continued to grow and their businesses are increasing in complexity.
Unfavorable changes in any of these general conditions could negatively affect the number and size of customized projects we undertake, the number of standardized software solutions we sell, the amount of services we provide, the price of our solutions and services and adversely affect our results of operations.
Our operating results in any period are more directly affected by company-specific factors including:
    our revenue growth, and solution and service mix;
    our ability to successfully develop, introduce and market to the financial services industry new solutions and services, including standardized software solutions;
    our ability to attract, train and retain skilled software engineers and mid-level personnel;
    our ability to effectively manage our operating costs and expenses;
    our acquisitions and strategic alliances; and
    seasonal and unpredictable nature of our revenues. For example, in the quarter ended September 30, 2008, several Big Four Banks delayed to the following quarter several planned standardized implementations in conjunction with China’s hosting the 2008 Summer Olympics. See “Risk Factors—Risks Related to Our Business and Industry—Fluctuations in our clients’ annual IT budget and spending cycle and other factors can cause our revenues and operating results to vary significantly from quarter to quarter and from year to year.”
Operating Results
Revenues
For the years ended March 31, 2008, 2009 and 2010, we generated total revenues of $65.9 million, $106.3 million, and $169.1 million, respectively. We currently derive our revenues from two sources: software development and other services. Software development revenues consist of revenues from the sale of software, assistance in implementation and customization of that software, and PCS. Other services revenues include revenues from ATM maintenance services and ancillary services. Due to our customer’s contracting and purchasing practices, we do not have a significant amount of software development backlog at any time such that our software development backlog at any one time would be typically less than the next three months’ revenue.

 

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The following table sets forth the revenues generated by each of the two sources:
                                                                         
    Year Ended  
    March 31, 2008     March 31, 2009     March 31, 2010  
            % of Total     % Changes             % of Total     % Changes             % of Total     % Changes  
    Revenues     Revenues     from 2006     Revenues     Revenues     from 2008     Revenues     Revenues     from 2009  
    ($ in thousands, except percentages)  
Revenues by source:
                                                                       
Software Development
    55,147       83.7 %     67.6 %     89,559       84.3 %     62.4 %     145,200       85.9 %     62.1 %
Other Services
    10,769       16.3 %     10.5 %     16,737       15.7 %     55.4 %     23,857       14.1 %     42.5 %
 
                                                           
Total Revenue
    65,916       100.0 %     54.6 %     106,296       100.0 %     61.3 %     169,057       100.0 %     59.0 %
 
                                                           
Software Development
Software development revenues constituted 83.7%, 84.3% and 85.9% of our total revenues for the years ended March 31, 2008, 2009 and 2010, respectively.
Categorization of software development revenues
Our software development revenues can be categorized by:
    development methodology,
    type of solutions and services, and
    client type.
Development Methodology. Depending on the development methodology, our software solutions can be categorized as “custom-designed” software and “standardized” software. We also enter into stand-alone maintenance contracts for a portion of our custom-designed software covering the period after the initial PCS period has expired, with this revenue recorded as “software maintenance.”
    Custom-designed software development. We provide a broad range of custom-designed software development services primarily to large banks and insurance companies. These projects usually take approximately six months to complete and involve design and implementation of new solutions or significant customization of our software and, in some cases, third party software to meet our clients’ needs. We typically receive a lump sum fee payable according to negotiated payment schedules. Each project’s fee is based on our assessment of the man-hours involved, the size and complexity of the project, competitive pressure, strategic value of the project, cross-selling opportunities and our relationship with the client. The contract value less amounts deferred for the provision of bundled PCS services based on vendor specific objective evidence of fair value, or VSOE, is recognized as revenue over the customization and implementation period using the percentage of completion method based on the efforts expended. We recognize the deferred PCS portion of the contract value on a straight-line basis over the PCS term, which is normally one year.
    Standardized software development. We leverage our customized-software development efforts, including the related platforms, modules and elements, and our internal research and development efforts to develop standardized software solutions. We made our first significant sales in 2003. Our standardized solutions do not require significant customization and require limited implementation time, generally one to two months. Compared to similar custom-designed solutions, the price of standardized solutions does not vary significantly. Our standardized solutions typically include PCS, normally for one year. Since we do not have VSOE for standardized software arrangements, costs related to PCS are insignificant and the PCS period is no more than one year, we recognize the entire contract value upon customer acceptance.
In determining their IT spending with us, our clients purchase our solutions based on the functionality offered and not on whether the solution is customized or standardized. Consequently, we elect to provide a customized or standardized offering based on our software development status. We prefer to deliver a standardized solution where possible as standardized solutions command pricing similar to customized solutions with significantly less customization and implementation requirements. However, our suites of standardized solutions are limited, take time to develop and can become outdated over time.

 

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When addressing for the first time a specific IT need, we normally first develop a custom- designed solution. In some cases, through our own research and development activities or additional modifications to the customized solution, we are able to develop a standardized solution available for sale to other clients. Our decision to develop a standardized solution is based on our assessment of whether sufficient broader market demand exists for that solution and the level of additional customization required implementing the solution for different clients. A typical standardized software solution normally takes one to two years to develop. Once developed, a standardized solution “replaces” custom development revenues for that solution for one to two years until the standardized solution itself becomes outdated, due to banking systems changes or changes in market requirements. At that time, the development cycle begins again and we offer clients a customized solution or we need to start developing through our own research and development activities a new product.
We are currently developing our next suite of standardized solutions. We expect to rely on our customized software solutions and to a lesser extent standardized solutions for revenue growth given the lead-times to either develop or improve customized solutions into a standardized solution and uncertainties around whether a particular customized solution can be developed into a standardized solution.
    Software maintenance. In addition to our standard PCS, we offer stand-alone maintenance contracts, primarily for the custom-designed solutions, typically for a one-year period and renewable annually. Revenues from software maintenance are recognized ratably over the contract service period.
The table below sets forth our revenues categorized based on development methodology for the years ended March 31, 2008, 2009 and 2010, respectively:
                                                                         
    Year Ended  
    March 31, 2008     March 31, 2009     March 31, 2010  
            % of                     % of                     % of        
            Applicable     % Changes             Applicable     % Changes             Applicable     % Changes  
    Revenues     Revenues     from 2006     Revenues     Revenues     from 2008     Revenues     Revenues     from 2009  
    ($ in thousands, except percentages)  
Software Development Revenue by development methodology:
                                                                       
Customized
    32,183       58.3 %     141.6 %     58,282       65.1 %     81.1 %     93,262       64.2 %     60.0 %
Standardized
    18,007       32.7 %     4.2 %     28,219       31.5 %     56.7 %     44,719       30.8 %     58.5 %
Maintenance
    4,957       9.0 %     116.0 %     3,058       3.4 %     (38.3 %)     7,219       5.0 %     136.1 %
 
                                                           
Total software development
    55,147       100.0 %     67.6 %     89,559       100.0 %     62.4 %     145,200       100.0 %     62.1 %
 
                                                           
Type of Software Solutions. Our software solutions can be broadly classified as: “channel-related,” “business-related,” “management-related,” and “business intelligence.” Our business intelligence software solutions focus on supporting banks’ decision making processes. The table below sets forth our revenues from these solution categories:
                                                                         
    Year Ended  
    March 31, 2008     March 31, 2009     March 31, 2010  
            % of                     % of                     % of        
            Applicable     % Changes             Applicable     % Changes             Applicable     % Changes  
    Revenues     Revenues     from 2006     Revenues     Revenues     from 2008     Revenues     Revenues     from 2009  
    ($ in thousands, except percentages)  
Software Development Revenue by solution type:
                                                                       
Channel
    8,763       15.9 %     10.4 %     10,878       12.1 %     24.1 %     13,864       9.5 %     27.4 %
Business
    11,379       20.6 %     52.6 %     14,652       16.4 %     28.8 %     22,240       15.3 %     51.8 %
Management
    18,744       34.0 %     78.3 %     36,205       40.4 %     93.2 %     55,774       38.4 %     54.1 %
Business Intelligence
    15,308       27.8 %     380.3 %     27,575       30.8 %     80.1 %     53,089       36.6 %     92.5 %
Others
    953       1.7 %     (75.0 %)     249       0.3 %     (73.9 %)     233       0.2 %     (6.4 %)
 
                                                           
Total software development
    55,147       100.0 %     67.6 %     89,559       100.0 %     62.4 %     145,200       100.0 %     62.1 %
 
                                                           
As our clients sought to improve their internal systems, they invested more in management-related software solutions and services, which accounted for 34.0%, 40.4% and 38.4% of our total software development revenues in the years ended March 31, 2008, 2009 and 2010, respectively. Management-related solutions generated revenue of $18.7 million, $36.2 million and $55.8 million in fiscal 2008, fiscal 2009 and fiscal 2010, respectively. Management-related solutions include solutions for enterprise resource management and credit and risk management. As the market matures and we face greater competition, we do not expect our future growth rates for these solutions to be as high as our historical growth rates.

 

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Beginning in 2005, our clients sought to improve their data mining and data analysis capabilities by implementing better business intelligence systems. Our revenues from business intelligence solutions constituted 27.8%, 30.8% and 36.6% of our total software development revenues during the years ended March 31, 2008, 2009 and 2010, respectively. Business intelligence solutions generated revenue of $15.3 million, $27.6 million and $53.1 million, in fiscal 2008, fiscal 2009 and fiscal 2010, respectively. The demand for business intelligence was driven by our customers building out data warehouses and business intelligence applications to conduct business and decision-making analysis in order to better understand their customers’ behavior and the effectiveness of their products. We expect business intelligence solutions to be one of our highest growth areas in fiscal 2011.
Client Type. We provide software solutions and post-implementation solution support services primarily to leading financial institutions, insurance companies and enterprises in China. Our software development revenues can be categorized by our four different client types which are Big Four Banks, Other Banks, insurance clients and enterprises. The Big Four Banks category includes the four largest state banks in China which are the Agriculture Bank of China, Bank of China, China Construction Bank and Industrial and Commercial Bank. Other Banks excludes the Big Four Banks and includes national commercial banks, policy banks, city banks, rural credit unions and China Post Bank. Our Insurance clients include both property and life insurance providers in China. Enterprises are entities not involved in financial services and include government entities and large state enterprises.
Excluding PCS, our contracts for providing software development services are generally less than one year. Our contracts for providing stand-alone maintenance services are generally for one year, renewable on an annual basis. When dealing with Big Four Bank clients we sign contracts with both the head office and branches. However, we expect revenue contribution from sales to Big Four Bank clients to decrease as a percentage of our revenues and believe our future growth will be increasingly attributed to growth in sales to Other Banks, insurance clients and enterprises. The following table sets forth our software development revenues by client:
                                                                         
    Year Ended  
    March 31, 2008     March 31, 2009     March 31, 2010  
            % of                     % of                 % of        
            Applicable     % Changes           Applicable     % Changes             Applicable     % Changes  
    Revenues     Revenues     from 2006     Revenues     Revenues     from 2008     Revenues     Revenues     from 2009  
    ($ in thousands, except percentages)  
Software Development Revenue by client:
                                                                       
Big Four Banks
    27,482       49.7 %     5.2 %     42,002       46.9 %     52.8 %     63,092       43.5 %     50.2 %
Other Banks
    17,648       32.1 %     216.7 %     34,563       38.6 %     95.8 %     54,168       37.3 %     56.7 %
Insurance
    5,401       9.8 %     1,250.3 %     9,854       11.0 %     82.4 %     21,830       15.0 %     121.5 %
Enterprises
    4,616       8.4 %     481.4 %     3,140       3.5 %     (32.0 %)     6,110       4.2 %     94.6 %
 
                                                           
Total software development
    55,147       100.0 %     67.6 %     89,559       100.0 %     62.4 %     145,200       100.0 %     62.1 %
 
                                                           
Factors affecting our software development revenues
Our revenues from software development and operating results are significantly affected by the following factors:
Mix of software sales. Our revenue growth during fiscal 2010 was driven by both customized and standardized revenue growth. Our revenue from customized software solutions increased 60.0% from $58.3 million in fiscal 2009 to $93.3 million in fiscal 2010. Sysnet contributed $5.2 million to our customized software revenue in fiscal 2010. Other than Sysnet, customized revenue increased 51.1%. Our revenue from standardized software solutions increased 58.5% from $28.2 million in fiscal 2009 to $44.7 million in fiscal 2010. Our maintenance revenue increased 136.1% from $3.1 million in fiscal 2009 to $7.2 million in fiscal 2010 due to a larger installed product base as well as the acquisition of Sysnet, which contributed $1.5 million in maintenance revenue. Other than Sysnet, maintenance revenue increased 87.7%. Standardized software solutions as a percentage of software development revenues were 32.7%, 31.5% and 30.8% for the years ended March 31, 2008, 2009 and 2010, respectively and most of the growth has been organic. As standardized software involves significantly less development and implementation time while commanding similar prices, the increased standardized software sales increase our gross margin and allow us to more efficiently utilize our software development, delivery and sales resources.

 

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From fiscal 2008 to fiscal 2009 our revenue growth was driven primarily by customized revenue growth. Compared to fiscal 2008 our customized software solution revenues in fiscal 2009 grew 81.1% from $32.2 million to $58.3 million. In contrast, our standardized software solution revenues grew by 56.7%, from $18.0 million in fiscal 2008 to $28.2 million in fiscal 2009. Customized software solutions revenues represented 65.1% of software development revenues for fiscal 2009 compared to 58.3% for fiscal 2008. The increase in the customized revenue mix was due to a number of factors including the growth in our business intelligence solutions, mainly sold as a customized solution and the fastest growing area for Longtop, and solutions for the insurance sector which at this time are mainly sold as a customized solution. In fiscal 2008, we began focusing on Other Banks and insurance clients and delivered them a customized solution as we did not have standardized solutions available.
    Ability to anticipate need for and develop relevant solutions. Our continued revenue growth depends on our ability to timely anticipate and respond to market demand for software solutions meeting the needs of China’s financial institutions. Recently, our highest growth area has been our business management and business intelligence software solutions. As noted above, we expect this trend to continue as our clients seek to improve their data mining and data analysis capabilities. Our other solutions are more mature and we expect they will continue to grow, but at slower rates.
    Addition and retention of clients. The retention and growth of our existing key clients and the addition of new clients contribute to our revenue growth by providing a growing market for our solutions and by expanding cross-selling opportunities. A significant portion of our revenues are generated from sales to Big Four Bank clients. We plan to continue to diversify our client base of financial institutions and increase our sales to more national and city commercial banks and insurance companies, while maintaining the sales to our existing key clients. We also plan to sell some of our treasury function and financial control solutions to companies in other industries, including the tobacco, automobile and oil industry. As we diversify our client base, our aggregate revenues and percentage contributions of revenues from Big Four Bank clients may decline.
    Seasonality. Most financial industry clients plan and budget for their IT investment on an annual basis in the last quarter of each calendar year and do not finalize their annual budget until the first quarter of the following calendar year. Also, the Chinese New Year holiday typically falls between late January and February of each year. As a result, relatively few contracts are signed in the first calendar quarter, with an increase in the second calendar quarter and with most of our contracts getting signed and completed in the third and fourth calendar quarters. These factors result in the first and second calendar year quarters generally being our lowest revenue quarters. Due to the annual budget cycles of most of our clients, effective April 1, 2007, we changed our fiscal year end to March 31 in order to better estimate demand for our solutions and services in a given fiscal year.
Other Services. Other services revenues include revenues from the ATM maintenance services segment and the ancillary services segment, consisting of system integration services and other miscellaneous services. These revenues constituted 16.3%, 15.7% and 14.1% of our total revenues for the years ended March 31 2008, 2009 and 2010, respectively. We recognize these revenues as the services are performed or ratably over the contract period. Contract periods are typically within one year. Other services revenue is not a growth business for us and we believe that our other services revenue will increase at substantially lower rates than our software development revenue.

 

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Cost of Revenues and Operating Expenses
The following table sets forth the components of our cost of revenues and operating expenses, both as an absolute amount and as a percentage of total revenues for the periods indicated.
                                                 
    Year Ended March 31,  
    2008     2009     2010  
            %             %             %  
    ($ in thousands, except percentages)  
Total revenues
    65,916       100.0       106,296       100.0       169,057       100.0  
 
                                               
Cost of revenues:
                                               
Software development
    21,138       32.1       26,294       24.7       45,880       27.1  
Other services
    4,517       6.9       10,123       9.5       17,465       10.3  
 
                                   
Total cost of revenues
    25,655       39.0       36,417       34.2       63,345       37.4  
 
                                   
Gross profit
    40,261       61.0       69,879       65.8       105,712       62.6  
 
                                   
 
                                               
Operating expenses:
                                               
Research and development
    3,838       5.8       5,172       4.9       8,219       4.9  
Sales and marketing
    10,393       15.8       10,961       10.3       20,966       12.4  
General and administrative
    19,633       29.8       9,359       8.8       13,983       8.3  
Impairment of Goodwill
          0.0             0.0       1,982       1.2  
 
                                   
Total operating expenses
    33,864       51.4       25,492       24.0       45,150       26.8  
 
                                   
Income from operations
    6,397       9.6       44,387       41.8       60,562       35.8  
 
                                   
Cost of revenues. Our cost of revenues includes costs directly attributable to our software development and other services.
    Software development costs. These consist of costs for the design, implementation, delivery and maintenance of our software solutions and amortization of intangibles related to our software development revenues. Software development costs are primarily headcount-related costs that include payroll, employee benefits, bonuses, travel and entertainment and share-based compensation to our development staff, and overhead costs that are allocated based on headcount. Allocated overhead primarily includes office rental, communication costs and depreciation. We consider most of our software development costs to be variable and expect these costs to increase as our customized revenues grow. Of our total software development cost substantially all relate to the cost of developing and implementing our customized software solutions. We also expect to hire more software development engineers at potentially higher costs per person. As a result, we expect our gross margins to decline in the next few years. Our software delivery share-based compensation expenses were $7.8 million, $1.6 million and $2.5 million during the years ended March 31, 2008, 2009 and 2010, respectively.
    Other services costs. Costs associated with ATM maintenance include headcount-related costs for our maintenance staff and spare parts inventory costs. Costs related to ancillary services are primarily headcount-related expenses. We expect other services costs to increase proportionately with revenues from these services. Our other services share-based compensation expenses were $229,000, $252,000 and $428,000 during the years ended March 31, 2008, 2009 and 2010, respectively.
Operating expenses. Operating expenses consist of research and development expenses, sales and marketing expenses, general and administrative expenses and impairment charges related to goodwill.
    Research and development expenses. These include expenses related to our research and development center and supporting departments that are not otherwise attributed to software development. They are primarily headcount-related expenses that include payroll, employee benefits, bonuses, travel and entertainment and share-based compensation to our research and development staff, and overhead costs that are allocated based on headcount. Allocated overhead primarily includes office rental, communication costs and depreciation. We also incur expenses for training our research and development staff and for professional fees of consultants in connection with our research and development activities. We expense research and development costs when incurred. To enhance our standardized solution products, we plan to invest aggressively in research and development, which can be expected to result in research and development increasing from 2010 levels as a percentage of revenue. Our research and development share-based compensation expenses were $1.5 million, $0.4 million and $0.5 million during the years ended March 31, 2008, 2009 and 2010, respectively.

 

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    Sales and marketing expenses. Sales and marketing expenses include headcount-related expenses, allowance for doubtful accounts and, to a lesser extent, third party advertising and promotional expenses related to our sales and marketing functions. As we do not undertake significant advertising or promotion activities, these expenses are primarily headcount-related expenses that include payroll, employee benefits, commissions paid to our employees, travel and entertainment, share-based compensation to our sales and marketing staff and overhead costs that are allocated based on headcount. Allocated overhead primarily includes office rental, communication costs and depreciation. Our sales and marketing share-based compensation expenses were $4.7 million, $1.5 million and $2.4 million during the years ended March 31, 2008, 2009 and 2010, respectively.
    General and administrative expenses. General and administrative expenses primarily include costs related to our finance, legal, human resources and executive office functions, gains or losses on fixed assets and provisions for other receivables less government subsidies related directly to our operating expenses. These departmental costs are primarily professional fees and expenses related to headcount. Headcount-related expenses include payroll, bonuses, employee benefits, share-based compensation, travel and entertainment and overhead costs that are allocated based on headcount. Allocated overhead primarily includes office rental, communication costs and depreciation. We expect our general and administrative expenses, excluding share- based compensation, to increase in absolute amounts and be steady as a percentage of our revenues due to expected increases in professional fees, board of directors’ compensation and costs related to investor relations and director and officer insurance. Our general and administrative share-based compensation expenses were $14.0 million, $1.9 million and $1.9 million for the years ended March 31, 2008, 2009 and 2010, respectively.
The amount of our share-based compensation expense that was recorded as operation expense was $20.1 million, $3.7 million and $4.8 million for the years ended March 31, 2008, 2009 and 2010.
Share-based Compensation Expenses
We adopted our 2005 Long Term Incentive Plan in November 2005. We have reserved 8,550,000 ordinary shares as of the date of this annual report for issuance of our stock options and restricted share units under our 2005 Long Term Incentive Plan. For a description of our 2005 Long Term Incentive Plan, see “Item 6. Directors, Senior Management and Employees —2005 Long Term Incentive Plan.” Since the adoption of the 2005 Long Term Incentive Plan, we have made various stock option grants to some of our directors, employees and consultants. From the inception of our 2005 Plan through March 31, 2010, 4,372,740 options to purchase ordinary shares had been granted, of which 1,179,900 stock options had been forfeited, and 1,780,650 restricted share units had been granted, of which 97,150 restricted share units had been forfeited.
We recognize share-based compensation, net of an estimated forfeiture rate, and therefore only recognize compensation expenses for those shares expected to vest over the vesting period of the award, based on the fair value of the award on the grant date. We estimate the forfeiture rate based on actual employee turnover.
Our share-based compensation expenses for the years ended March 31, 2008, 2009 and 2010 were $28.2 million, $5.6 million and $7.7 million, respectively. As of March 31, 2010, we had $24.5 million in total unrecognized share-based compensation expense, net of forecasted forfeitures, which is expected to be recognized over a weighted-average period of approximately 3.2 years.

 

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During the year ended March 31, 2008, we granted a total of 112,500 options and 636,650 restricted share units with vesting terms of four years and recorded share-based compensation expense of $28.2 million of which $3.4 million for share-based compensation from stock options and restricted share units issued directly by our company. An additional $24.8 million of the share-based compensation expense related the sale in 2006 by Well Active International Limited, or Well Active, of approximately 5 million of our ordinary shares to our officers and employees at a price of $4.83 per share, paid for with a promissory note. In October 2007, Well Active cancelled promissory notes and accrued interest for 4,790,550 shares, which resulted in share-based compensation expense of $24.8 million. No amounts under promissory notes were due by employees to Well Active as at March 31, 2008.
During the year ended March 31, 2009, we did not grant any options, but we did grant 368,500 restricted share units primarily with vesting terms of four years, and we recorded share-based compensation expense of $5.6 million.
During the year ended March 31, 2010, we did not grant any options, but we did grant 775,500 restricted share units primarily with vesting terms of four years, and we recorded share-based compensation expense of $7.7 million.
Determination of Fair Value of Share-based Compensation
We are responsible for estimating the fair value of the options we granted and other share-related transactions. The determination of fair value requires us to make complex and subjective judgments about our projected financial and operating results. It also requires making certain assumptions such as cost of capital, general market and macroeconomic conditions, industry trends, comparable companies, price volatility of our shares, expected lives of options and discount rates. These assumptions are inherently uncertain. Changes in these assumptions could significantly affect the amount of employee share-based compensation expense we recognize in our consolidated financial statements.
Subsequent to becoming a public company on October 25, 2007, we determined the fair value of the ordinary shares underlying the restricted share units based on the closing ordinary share price on the date of grant. Subsequent to becoming a public company on October 25, 2007, we did not issue any stock options.
Prior to becoming a public company on October 25, 2007, we determined the fair value of the ordinary shares underlying the options and transferred shares by employing two valuation methods: the discounted cash flow method under the income approach and the guideline companies method under the market approach. The discounted cash flow method is a method within the income approach whereby the present value of future expected net cash flows is calculated using a discount rate. The “guideline companies method” incorporates certain assumptions, including the market performance of comparable listed companies as well as our financial results and growth trends, to derive our total equity value. Other assumptions used in deriving the fair values include the following: (i) no material changes in the existing political, legal, fiscal and economic conditions in China; (ii) no material changes in tax law in China or the tax rates applicable to our subsidiaries; and (iii) no material deviation in market conditions from economic forecasts. In addition to the above, to reflect the fact that we were a private company at the time of each of our valuations performed prior to March 31, 2007, a 25% “lack of marketability discount,” or LOMD, was applied to the derived equity value. The LOMD was supported with reference to both qualitative studies and quantitative analysis. The qualitative studies examine prices paid in private transactions for shares of companies that subsequently became publicly-traded through an IPO. We also considered empirical studies based on prices paid for restricted stock. The restricted stock studies analyze transactions in restricted shares where marketability at the end of the required holding period was virtually assured, since the subject companies’ shares were already publicly traded. We also used two quantitative valuation methods, including the option pricing method (implied from a put option) and the Longstaff Regression Analysis, which resulted in a LOMD range of 19.4% to 26.8%. Given the transaction costs necessary to implement the put options, the restricted stock regression analysis and the qualitative factors, we determined that 25% was the proper LOMD.

 

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We determined the fair value of the options on the date of grant by using the binomial option-pricing method after considering: average risk-free rate of return, which was between 3.36% and 4.80%, volatility which was between 54.33% and 57.20% and an assumption of no dividends. If different assumptions were used, our share-based compensation expenses, net income and income per share could have been significantly different. As of March 31, 2010 we have fully recognized all of the compensation expense from the grants made in 2006. As of March 31, 2010, the remaining unrecognized compensation expense from the grants made during three months ended March 31, 2007 is expected to be recognized over the remaining one year of the vesting period for the options.
These assumptions are inherently uncertain.
Acquisitions and Strategic Alliances
We began our operations as a provider of general IT services to the financial services industry in 1996 and began focusing on software development for the financial services industry in 2001. The primary driver of our revenue growth since inception has been organic business development, supplemented to a lesser extent by strategic acquisitions. The following are some of our recent acquisitions and strategic alliances:
    In February 2006, we entered into the outsourcing business by establishing Longtop International, with three other shareholders, and later acquired the interests from the other shareholders in January 2007. We subsequently disposed of our interest in LTI through a dividend in kind to our existing shareholders in July 2007;
    In March 2006, we assumed certain aspects of the China business of S1 Corporation (S) Pte. Ltd., or S1, by assuming certain customer contracts of S1, becoming S1’s non-exclusive distributor of its retail software and providing relevant maintenance and upgrading services in China;
    In May 2006, we acquired Advanced Business Services (Beijing) Co., Ltd., or ABS, and its parent company, Grand Legend Holdings Limited. ABS is an integration solutions provider based in Beijing;
    In March 2007, we acquired Minecode, which provided technology outsourcing services in the United States primarily for Microsoft. Minecode became a subsidiary of LTI and was disposed of in July 2007 as part of the LTI disposition, in which we distributed LTI and its subsidiaries to our shareholders; and
    In May 2007, we entered into asset transfer agreements to acquire the business of FEnet Co., Ltd, or FEnet, and its subsidiary, Guangzhou FEnet Software Co., Ltd., for a purchase price of approximately $3.4 million in cash and 396,350 ordinary shares. We completed the acquisition in October 2007. FEnet provides business intelligence software development services in China. We paid additional purchase price of $2.4 million in May 2008 as FEnet has achieved certain financial milestones for the period from June 1, 2007 to December 31, 2007.
    In May 2008, we acquired 100% of the equity interests in Beijing Huayuchang Co-Founder and Technology Company, or Huayuchang Tongchuang. Huayuchang Tongchuang is engaged in the business of providing ATM maintenance services to financial institutions in China. We made the acquisition in order to increase our market share in the ATM maintenance market.
    In July 2008, we acquired the assets and business of Precision Hightech Company Ltd, or Puji. Puji provides core banking software products and solutions to financial institutions in China. We acquired Puji in order to increase our share in the market for such services.

 

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    In July 2008, we acquired Xiamen Hooyoo Information Technology Co., Ltd, or Hooyoo and its subsidiaries and in September 2008, we acquired the assets of Huashang Shengshi Internet Co. Ltd., or Huashang. Both companies provide domain name sales and online hosting services. Because regulations in China currently restrict or prevent foreign-invested entities from engaging in value-added telecommunication services, including online hosting services, we acquired and currently hold Hooyoo, and hold the assets acquired from Huashang, through a VIE arrangement, under which two of our employees hold all of the equity interests in Longtop Online (formerly, Xiamen Bizcn Network Co., Ltd.), which is the sole parent of Hooyoo and holds the assets acquired from Huashang. We control Longtop Online, however, through a series of contractual arrangements with the two employees.
    In February 2009, we acquired Beijing Jactus Ruanbo Software and Technology Co., Ltd., or Jactus, a leading third-party testing company focused on China’s financial industry. We acquired Jactus in order to increase our share in the market for such services.
    In December 2008, we entered into an arrangement with S1, whereby we are assisting S1 in the implementation of S1’s customer relationship management platform at one of Thailand’s largest banks. This is our first significant contract outside of China, as we are providing services in Thailand as well as from our China delivery centers.
    In May 2009, we acquired Sysnet Data Co. Limited and its subsidiary Sysnet Info-tech Corporation, or Systnet, an IT service provider focused on China’s insurance industry. The purchase price consisted of a fixed cash consideration of $20.5 million and contingent cash consideration of up to $7.9 million, which was payable upon Sysnet achieving certain financial and operational milestones during the 2009 and 2010 calendar years. Sysnet achieved the 2009 calendar year financial and operational milestones and we paid contingent consideration of $3.7 million prior to March 31, 2010. In January 2010, we agreed to waive the financial and operational milestones for the calendar year of 2010 and to pay the remaining $586,000 and $3.7 million of contingent consideration in April 2010 and 2011, respectively. We acquired Sysnet in order to increase our market share in providing IT related services to insurance industry in China.
    In January 2010, we acquired Beijing Giantstone Information Technology Co., Limited, or Giantstone, a provider of core banking IT related services to the banking industry in China. The purchase price consisted of a fixed cash consideration of $50.4 million and contingent earnout payments and other contingent consideration. Base earnout payments are payable if Giantstone meets certain post-tax net profit performance targets for the years ending December 31, 2010 and 2011. Additional earnout payments are payable to the extent the aforementioned base post-tax net profit performance targets are exceeded, with no limit on the additional earnout amount. Other contingent consideration up to $879,000 will be payable in 2015 if Giantstone achieves other operational milestones during the period from 2010 to 2014. We acquired Giantstone in order to increase our market share in providing core banking IT related services to the banking industry in China.
    In April 2010, we acquired the China IT outsourcing business of Shenzhen Zhongbokechuang Information Technology Co., Ltd., or Shenzhen Zhongbo, which provides outsourcing services to the Huawei Group in China.
    In June 2010, we acquired the businesses of Beijing iBoss Consulting and Technologies Co., Ltd., or Beijing iBoss, and Expert Prospect Limited, IT service providers focused on delivering risk management services to China’s banking and insurance industry.
Through these acquisitions and strategic alliances we acquired additional development and service capabilities, broadened the scope of our offerings and expanded our client base. We currently plan to conduct further acquisitions and form additional strategic alliances to maintain or grow our revenues.

 

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Taxation
We are incorporated in the Cayman Islands. Under the current law of the Cayman Islands, we are not subject to income or capital gains tax. In addition, dividend payments are not subject to withholding tax in the Cayman Islands.
Longtop BVI, our subsidiary organized under the laws of the British Virgin Islands, is not subject to income or capital gains tax. In addition, dividend payments are not subject to withholding tax in the British Virgin Islands.
Our subsidiary in Hong Kong is subject to a profit tax at the rate of 16.5% on assessable profit determined under relevant Hong Kong tax regulations.
We conduct substantially all of our business and earn substantially all of our net income through our PRC operating subsidiaries which have applicable tax rates that range from 10% to 25%, dependent on tax holidays or preferred tax treatment, as discussed below.
Prior to January 1, 2008, our subsidiaries in China were governed by the Income Tax Law of the People’s Republic of China concerning Foreign Investment Enterprises and Foreign Enterprises and local income tax laws (the “PRC Income Tax Law”). Pursuant to the previous PRC Income Tax Law, wholly-foreign-owned enterprises were subject to tax on PRC taxable income at a statutory rate of 33% (30% state income tax plus 3% local income tax), 15% where the subsidiary was located in a special economic zone or 15% for certain technology enterprises which were classified as “high and new technology enterprises” (“HNTE”) and established in the State High and New Technology Industrial Development Zones designated by the State Council or the New Technology Industrial Development Experimental Zone of Beijing. Furthermore, HNTE were exempted from Chinese state corporate income tax for two years (three years for those established in the New Technology Industrial Development Experimental Zone of Beijing), beginning with their first profitable year of operation after utilizing any tax losses carried forward from prior years, and were entitled to a 50% tax reduction, to a rate of 7.5%, for the subsequent three years and a reduction to a rate of 15% thereafter.
During the nine months ended December 31, 2007, substantially all of our operations in the PRC were subject to tax at 15% as they were located in a special economic zone.
In March 2007, the Chinese government enacted the Corporate Income Tax Law, and promulgated related regulations, which were effective January 1, 2008. The Corporate Income Tax Law, among other things, imposes a unified income tax rate of 25% for both domestic and foreign invested enterprises. HNTE will still enjoy a favorable tax rate of 15% provided they can meet the qualifying criteria. The previous income tax laws and rules, which stipulated income tax rates for domestic and foreign invested enterprises at different rates, expired upon the effectiveness of the Corporate Income Tax Law. The Corporate Income Tax Law provides a five-year transitional period for those entities established before March 16, 2007, which enjoyed a favorable income tax rate of less than 25% under the previous income tax laws and rules, to gradually change their rates to 25%. On December 26, 2007, the State Council issued the Notice of the State Council Concerning Implementation of Transitional Rules for Enterprise Income Tax Incentives (“Circular 39”). Based on Circular 39, certain specifically listed categories of enterprises which enjoyed a preferential tax rate of 15% are eligible for a graduated rate increase to 25% over the 5-year period beginning from January 1, 2008. Specifically, the applicable rates under such an arrangement for such enterprises would be 18%, 20%, 22%, 24% and 25% for 2008, 2009, 2010, 2011, 2012 and thereafter, respectively. As most of our income is earned in the Xiamen special economic zone, during the three months ended March 31, 2008, we applied an effective tax rate of 18% for income subject to taxation in China.
Longtop System, which accounts for the majority of Longtop’s taxable income, FEnet, Sysnet and Giantstone have been designated as a HNTE effective from 2008 and will be subject to an income tax rate of 15% as long as it qualifies as a HNTE. During 2010, other than subsidiaries qualified as HNTE, the Company’s subsidiaries in the PRC were subject to tax at rates ranging from 20% to 25% depending on their location within China.

 

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In December 2009, we received a notification from the National Development and Reform Commission, the Ministry of Industry and Information Technology, Ministry of Commerce, and State Administration of Taxation that its subsidiary, Longtop System, qualified as a “Key Software Enterprise” for the calendar year ended December 31, 2009, providing a 10% tax rate for income earned during the calender year ended December 31, 2009. Longtop System received a similar preferential tax rate for the 2008 and 2007 calender years. However, due to the significant uncertainty of obtaining similar preferential tax rates for future years, we did not assume Longtop System would continue to enjoy the 10% tax rate after January 1, 2010. Instead, we have used the 15% preferential tax rate in calculation of deferred taxes of Longtop Systems.
The Corporate Income Tax Law also imposes a 10% withholding income tax for dividends distributed by a foreign invested enterprise to a non-resident enterprise outside of China, which arise from profits earned after January 1, 2008. A lower withholding tax rate may be applied if there is a favorable tax treaty between mainland China and the jurisdiction or region of the non-resident enterprise. For example, holding companies in Hong Kong that are also tax residents in Hong Kong are eligible for a 5% withholding tax (for the Hong Kong holding company which directly holds at least 25% of the capital of the foreign invested enterprise) on dividends under the Tax Memorandum between China and the Hong Kong Special Administrative Region. Since we intend to reinvest our earnings to further expand our businesses in mainland China, our foreign invested enterprises do not intend to declare dividends to their immediate foreign holding companies in the foreseeable future. Accordingly, as of March 31, 2010, we have not recorded any withholding tax on $125 million in retained earnings of our foreign invested enterprises in China.
Uncertainties exist with respect to how China’s current income tax law applies to our overall operations, and more specifically, with regard to tax residency status. The Corporate Income Tax Law includes a provision specifying that legal entities organized outside of China will be considered residents for Chinese income tax purposes if their place of effective management or control is within China. The Implementation Rules to the Corporate Income Tax Law provide that non-resident legal entities will be considered China residents if substantial and overall management and control over the manufacturing and business operations, personnel, accounting, properties, etc. occurs within China. Additional guidance is expected to be released by the Chinese government in the near future that may clarify how to apply the rules to taxpayers. Despite the present uncertainties resulting from the limited PRC tax guidance on the issue, the Company does not believe that its legal entities organized outside of China are residents for Corporate Income Tax Law purposes. If one or more of our legal entities organized outside of China were characterized as China tax residents for the year ended March 31, 2010, the impact would adversely affect our results of operation.
Pursuant to the Provisional Regulation of China on Value-Added Tax and its implementing rules, all entities and individuals that are engaged in the businesses of sales of goods, provision of repair and placement services and importation of goods into China are generally subject to a value-added tax, or VAT, at a rate of 17% (with the exception of certain goods which are subject to a rate of 13%) of the gross sales proceeds received, less any VAT already paid or borne by the taxpayer on the goods or services purchased by it and utilized in the production of goods or provisions of services that have generated the gross sales proceeds. However, pursuant to Certain Policies for Encouraging Software Industry and Integrated Circuits Industry issued in 2000, an enterprise classified as a “software enterprise” will be entitled to a rebate of its net VAT liability to the extent that it exceeds 3% of the actual VAT burden relating to self-made software product sales (excluding export sales).Such refund will not be treated as taxable income and must be used for funding its software research and development and the expansion of its production capacity. According to the Notice on Certain Policies Related to Value Added Tax, issued in November 2005, an entity that develops software products on commission may be entitled to an exemption of VAT if, according to the contractual arrangement, the copyright of the products developed by it shall be owned by the commissioning party or jointly owned by the developer and commissioning party.
Companies in China are generally subject to business tax and related surcharges by various local tax authorities on revenue generated from providing services and revenue generated from the transfer of intangibles such as copyrights. The applicable business tax rate varies from 3% to 5%. However, qualified technology companies may apply for an exemption from business tax for revenues generated from technology development, transfer or related consulting services, according to a notice issued by the Ministry of Finance and the State Administration of Taxation in November 1999.

 

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Critical Accounting Policies and Estimates
We prepare our financial statements in conformity with U.S. GAAP, which requires us to make judgments, estimates and assumptions. We continually evaluate these estimates and assumptions based on the most recently available information, our own historical experience and various other assumptions that we believe to be reasonable under the circumstances. Since the use of estimates is an integral component of the financial reporting process, actual results could differ from those estimates.
An accounting policy is considered critical if it requires an accounting estimate to be made based on assumptions about matters that are highly uncertain at the time such estimate is made, and if different accounting estimates that reasonably could have been used, or changes in the accounting estimates that are reasonably likely to occur periodically, could material impact the consolidated financial statements. We believe that the following accounting policies involve a higher degree of judgment and complexity in their application and require us to make significant accounting estimates. The following descriptions of critical accounting policies, judgments and estimates should be read in conjunction with our consolidated financial statements and other disclosures included in this annual report.
Revenue Recognition
Our revenue is derived from two primary sources: (i) software development revenues represent revenues from the development, customization, testing, implementation and licensing of software, consulting and post-contract customer support (“PCS”), and (ii) other services represent revenue from the maintenance of ATMs, the provision of system integration services which include assisting customers with the procurement and installation of hardware and software and other IT and technology related services. We recognize revenue when persuasive evidence of an arrangement exists, delivery has occurred, the fee is fixed or determinable, and collectibility is reasonably assured or, in the case of software arrangements, when collectibility is probable.
1) Software development services
Where the software development contracts include multiple elements, we allocate revenues to the various elements based on vendor-specific objective evidence (“VSOE”) of fair value. Our VSOE of fair value is determined based on the price charged when the same element is sold separately, or for elements not yet being sold separately, the price established by management having the relevant authority which, once established, will not change before being sold separately. We defer revenue for the fair value of its undelivered elements and recognize revenue for the remainder of the contractual arrangement fee attributable to the delivered elements when the basic criteria of software revenue recognition guidance have been met. We recognize revenue on delivered elements only if: (a) any undelivered products or services are not essential to the functionality of the delivered products or services, (b) we have an enforceable claim to receive the amount due in the event it does not deliver the undelivered products or services, (c) there is evidence of the fair value for each undelivered product or service, and (d) the revenue recognition criteria otherwise have been met for the delivered elements. Otherwise, revenue on delivered elements is recognized when the undelivered elements are delivered. If the only undelivered element is PCS for which we have established VSOE, we recognize the difference between the total arrangement fee and the amount deferred for PCS as revenue upon delivery (the residual method). Where PCS revenue is deferred, the PCS revenue is recognized ratably over the PCS term.
We periodically negotiate the sale of upgrades and enhancements with our customers. Such arrangements are accounted for separately from the initial sale given that (i) they are not negotiated within a short time frame of each other, (ii) the products from the initial sale are not dependent on delivery of the upgrades or enhancements, (iii) neither the fees for the initial or subsequent sale are subject to refund if one or the other contracts is not fulfilled nor are payment terms for either sale tied to the performance of the other and (iv) the arrangements are not considered a single project.
Standardized Solutions—For software development contracts that do not involve significant modification (“standardized solutions”), we recognize the entire arrangement fee after the software is implemented and customer acceptance is received, assuming all other revenue recognition criteria have been met. We accrue the estimated cost of providing PCS at the time the revenue is recorded, as the cost of providing PCS on the standardized solution arrangements is insignificant.

 

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Customized Solutions—For software development contracts that require significant modification or customization of the core software (“customized solutions”), revenues from the software license and development services are recognized over the customization and implementation period using the percentage of completion method. We measure progress toward completion by comparing direct labor costs incurred to total estimated direct labor costs for the project. Where revisions in estimated contract profits are necessary, they are made in the period in which the circumstances requiring the revision become known. Provisions for estimated losses, if any, on uncompleted contracts are recorded in the period in which such losses become probable based on the current contract estimates. We defer the fair value of PCS as indicated by VSOE and recognizes the revenue ratably over the PCS period.
Revenue from PCS renewal, software testing and software consulting arrangements that are not combined with other elements is recognized ratably over the service period, assuming all other revenue recognition criteria have been met.
2) Other services
Revenue from ATM maintenance and ancillary services is recognized as such services are performed or ratably over the contractual period. Costs associated with these contracts are expensed as incurred. Contract periods are generally less than one year.
Revenue from system integration services, a component of ancillary services, is recognized as services are performed and is recorded net of amounts paid to suppliers. We obtain manufacturers’ warranties and support for the third party hardware and software it sells. No warranty costs have been accrued at March 31, 2009 or March 31, 2010.
Our management must determine whether to record our system integration revenues using the gross or net method of reporting. With our system integration services we assist clients with the procurement and installation of hardware and software that best meet their system requirements. Determining whether revenue should be reported gross or net is based on an assessment of various factors, principally whether we are acting as the principal in offering services to the customer or whether we are acting as an agent in the transaction. The determination of whether we are serving as principal or agent in a transaction is judgmental in nature and based on an evaluation of the terms of an arrangement. Based on our assessment, our system integration revenues are recorded on a net basis because we do not take general inventory risk, we do not make changes to third-party products, we have limited involvement in the determination of product or services or supplier selection and in substance the original equipment manufacturers are the primary obligors as the product quality and warranty is provided by the original equipment manufacturer.
Our subsidiaries are subject to business tax on the revenues earned for services provided in the PRC. The applicable business tax rate varies from 3% to 5%. Effective April 1, 2008, software development and other services revenues are presented net of business taxes in the consolidated statements of operations. Prior to April 1, 2008, the Company deducted business taxes from total gross revenue to arrive at net revenue. This change has been applied retrospectively. Business taxes included in revenue during the years ended March 31, 2008, 2009 and 2010 was $774,000, $1.3 million and $2.1 million, respectively.
As part of the PRC government’s policy of encouraging software development in the PRC, Longtop System is entitled to a refund of value-added tax paid at a rate of 14% of the sales value of certain standardized software products. The amount of the value-added tax refund included in software development revenue was $2.7 million, $3.6 million and $5.5 million for the years ended March 31, 2008, 2009 and 2010, respectively.
Revenue in excess of billings is recorded as unbilled receivables, which is included in accounts receivable and amounted to $10.9 million and $25.4 million as of March 31, 2009 and 2010, respectively, net of allowances. Billings in excess of revenues recognized are recorded as deferred revenue. Billings are rendered based on agreed milestones included in the contracts with customers.

 

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Allowance for Doubtful Accounts Receivables
Our management must make estimates of the collectibility of our accounts receivables. Management specifically analyzes accounts receivables, historical bad debts, customer credit- worthiness, current economic trends and changes in our customer payment terms when evaluating the adequacy of the allowance for doubtful accounts. Our accounts receivable balances on March 31, 2009 and March 31, 2010 were $29.9 million, net of allowance for doubtful accounts of $1.0 million, and $65.6 million, net of allowance for doubtful accounts of $1.6 million, respectively. If the financial condition of our clients were to deteriorate, resulting in their inability to make payments, an additional allowance might be required.
Acquisitions
We account for acquisitions using the purchase method of accounting, which requires that the purchase price be assigned to the assets acquired and liabilities assumed at their respective fair values on the acquisition date. Any excess of the purchase price over the estimated fair values of the assets acquired and liabilities assumed is recognized as goodwill.
Our management makes judgments in determining the estimated fair value assigned to each class of assets acquired and liabilities assumed, as well as in estimating the useful lives of the intangible assets acquired. We use the income approach in valuing the intangible assets. We measure the fair value of the covenants not to compete based on incremental discounted cash flows computed with and without assumed competition. Key assumptions include discounted cash flow with and without assumed competition and probability of competition. Trade names are valued using the relief from royalty method, which is the discounted cash flow savings accruing to the owner by virtue of the fact that the owner does not have to pay the royalty. Key assumptions include attrituable revenue expected from the trade name, royalty rate and assumed asset life. Customer relationships are valued using the multi-period excess earnings method, which is the present value of the projected cash flows that are expected to be generated by the existing intangible asset after reduction by an estimated fair rate of return on contributory assets necessary to realize the projected earnings attributable to the intangible asset. Key assumptions used include discounted cash flow, estimated life cycle and customer attrition rates. Backlog is valued using the multi-period excess earnings method based on the discounted cash flow to be generated from acquired customer contracts. Developed technology is valued using the multi-period excess earnings method based on the discounted cash flow and technology attrituion rate. The discounted cash flow includes significant estimates and assumptions, including projected revenue, expenses, capital expenditures and other costs, and discount rates calculated based on long-term government bond yields adjusted for various risks, including the size of the acquiree, industry risk and other risk.
We determine the useful lives of the acquired intangible assets based on an analysis of all pertinent factors, including our expected use of the asset, any contractual provisions that may limit the life of the asset, the effects of competition, the trends of technological advances, and our historical experience in renewing similar arrangements for renewable intangibles.
Goodwill
Goodwill represents the excess of the purchase price over the fair value of the identifiable assets and liabilities acquired as a result of the Company’s business acquisitions. Goodwill and intangible assets acquired in a purchase business combination and determined to have an indefinite useful life are not amortized, but instead tested for impairment at least annually or more frequently if an event occurs or circumstances change that could more likely than not reduce the fair value of the goodwill below its carrying amount. The Company tests goodwill for impairment at the reporting unit level (operating segment) on an annual basis as of October 1.
We perform a two-step goodwill impairment test. The first step compares the fair value of each reporting unit to its carrying amount, including goodwill. If the fair value of each reporting unit exceeds its carrying amount, goodwill is not considered to be impaired and the second step will not be required. If the carrying amount of a reporting unit exceeds its fair value, the second step compares the implied fair value of goodwill to the carrying value of a reporting unit’s goodwill. The implied fair value of goodwill is determined in a manner similar to accounting for a business combination with the allocation of the assessed fair value determined in the first step to the assets and liabilities of the reporting unit. The excess of the fair value of the reporting unit over the amounts assigned to the assets and liabilities is the implied fair value of goodwill. This allocation process is only performed for purposes of evaluating goodwill impairment and does not result in an entry to adjust the value of any assets or liabilities. An impairment loss is recognized for any excess in the carrying value of goodwill over the implied fair value of goodwill.
Longtop Online and its subsidiaries, engaged in internet services, were acquired by the Company in July 2008 and included in the other services segment. During the year ended March 31, 2010, we determined that an indication of potential goodwill and long-lived asset impairment existed due to continued operating and cash flow losses, despite the our initiatives to improve performance. Longtop Online and its subsidiaries are considered a reporting unit and their associated intangible assets represent the lowest level of identifiable cash flows that are largely independent. As the estimated undiscounted future cash flows were less than their carrying value, we recognized a full impairment loss of $2.5 million, as the estimated fair value of the intangibles was negligible. We then tested goodwill for impairment and determined that the fair value of the reporting unit, based on a discounted cash flow analysis, and recorded a goodwill impairment of $2.0 million as the implied fair value of goodwill was nil. In computing the discounted cash flow, we used significant unobservable inputs, including projected revenue, expenses, capital expenditures and other costs, and discount rates calculated based on long-term government bond yields adjusted for various risk related to the industry, business size and other factors.
The remaining report units that were subject to the annual goodwill impairment test had fair values which exceeded their respective carrying values by a significant margin as of the most recent test date.

 

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Share-Based Compensation
We recognize our share-based compensation to employees and directors, including grants of stock options, restricted share units and other equity-based awards, based on their grant date fair values. Under the fair value based method, compensation cost related to employee options and similar equity instruments is measured at the grant date based on the value of the award and is recognized over the requisite service period, which is usually the vesting period. We determine fair value using the Black-Scholes model. Under this model, certain assumptions, including the risk-free interest rate, the expected life of the options, the estimated fair value of our ordinary shares and the expected volatility, are required to determine the fair value of the options. In addition, forfeitures are estimated at the date of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from initial estimates. If different assumptions had been used, the fair value of the options, net of estimated forfeitures, would have been different from the amount we computed and recorded.
We are responsible for estimating the fair value of the options granted by us and other share-related transactions. The determination of fair value requires us to make complex and subjective judgments about the projected financial and operating results. It also requires making certain assumptions such as cost of capital, general market and macroeconomic conditions, industry trends, comparable companies and our share price volatility, expected lives of options and discount rates. These assumptions are inherently uncertain. Changes in these assumptions could significantly affect the amount of employee share-based compensation expense it recognizes in its consolidated financial statements.
Subsequent to becoming a public company, we determined the fair value of the ordinary shares underlying the restricted shares units based on the closing ordinary share price on the date of grant. Subsequent to becoming a public company, we did not issue any stock options.
Prior to becoming a public company, we determined the fair value of the ordinary shares underlying the options and transferred shares by considering a number of factors to determine our aggregate equity value. This analysis included the discounted cash flow method, a method within the income approach whereby the present value of future expected net cash flows is calculated using a discount rate, and the guideline companies approach, which incorporates certain assumptions including the market performance of comparable listed companies as well as our financial results and growth trends, to derive our total equity value. Other assumptions used in deriving the fair values include: no material changes in the existing political, legal, fiscal and economic conditions in China; no material changes in tax law in China or the tax rates applicable to our subsidiaries and; and no material deviation in market conditions from economic forecasts. These assumptions are inherently uncertain.
Determination of the fair value of share-based compensation is further discussed in “—Factors Affecting Our Results of Operations—Share Based Compensation Expenses—Determination of Fair Value of Share-based Compensation.”

 

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Income Taxes
We periodically evaluate the likelihood of the realization of deferred tax assets, and reduce the carrying amount of these deferred tax assets by a valuation allowance to the extent we believe a portion will not be realized. We consider positive and negative evidence to determine whether some portion or all of the deferred tax assets will more likely than not be realized. This assessment considers, among other matters, the nature, frequency and severity of recent losses, forecasts of future profitability, the duration of statutory carryforward periods, our experience with tax attributes expiring unused and tax planning alternatives. Valuation allowances have been established for deferred tax assets based on a more-likely-than-not threshold. Our ability to realize deferred tax assets depends on our ability to generate sufficient taxable income within the carryforward periods provided for in the tax law.
Longtop System, FEnet, Sysnet and Gianstone have been designated as a HNTE, effective January 1, 2008, and will be subject to an income tax rate of 15% for three years as long as they qualify as a HNTE. At the conclusion of the three year period, the qualifying enterprise has the option to renew its HNTE status for an additional three years through a simplified application process if such enterprise’s business operations continue to qualify for HNTE status. After the first six years, the enterprise would have to go through a new application process in order to renew its HNTE status. We have applied a 15% tax rate in the calculation of deferred taxes as we expect to retain the HNTE status for the foreseeable future. If one or more of HNTE will not renew its HNTE in foreseeable future, the impact would adversely affect our results of operation.
The Corporate Income Tax Law also imposes a 10% withholding income tax for dividends distributed by a foreign invested enterprise to a non-resident enterprise outside of China, which arise from profits earned after January 1, 2008. A lower withholding tax rate may be applied if there is a favorable tax treaty between mainland China and the jurisdiction or region of the non-resident enterprise. For example, holding companies in Hong Kong that are also tax residents in Hong Kong are eligible for a 5% withholding tax (for the Hong Kong holding company which directly holds at least 25% of the capital of the foreign invested enterprise) on dividends under the Tax Memorandum between China and the Hong Kong Special Administrative Region. Since we intend to reinvest our earnings to further expand our businesses in mainland China, our foreign invested enterprises do not intend to declare dividends to their immediate foreign holding companies in the foreseeable future. Accordingly, as of March 31, 2010, we have not recorded any withholding tax on $125 million in retained earnings of our foreign invested enterprises in China.

 

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Results of Operations
The following table sets forth a summary of our consolidated results of operations for the periods indicated. This information should be read together with our consolidated financial statements and related notes included elsewhere in this annual report. The operating results in any period are not necessarily indicative of the results that may be expected for any future period.
                         
    Year Ended March 31,  
    2008     2009     2010  
    ($ in thousands)  
Consolidated Statement of Operations Data:
                       
 
                       
Revenues:
                       
Software development
    55,147       89,559       145,200  
Other services
    10,769       16,737       23,857  
 
                 
Total revenues
    65,916       106,296       169,057  
 
                 
 
                       
Cost of revenues:
                       
Software development
    21,138       26,294       45,880  
Other services
    4,517       10,123       17,465  
 
                 
Total cost of revenues
    25,655       36,417       63,345  
 
                 
Gross profit
    40,261       69,879       105,712  
 
                 
 
                       
Operating expenses:
                       
Research and development
    3,838       5,172       8,219  
Sales and marketing
    10,393       10,961       20,966  
General and administrative
    19,633       9,359       13,983  
Impairment of goodwill
                1,982  
 
                 
Total operating expenses
    33,864       25,492       45,150  
 
                 
Income from operations
    6,397       44,387       60,562  
 
                 
 
Other income (expenses):
                       
Interest income
    3,597       5,589       4,315  
Interest expense
    (886 )     (250 )     (777 )
Other income (expense), net
    (1,349 )     (169 )     690  
 
                 
Total other income
    1,362       5,170       4,228  
 
                 
Income before income tax expense
    7,759       49,557       64,790  
Income tax expense
    (3,539 )     (6,085 )     (5,699 )
 
                 
Income from continuing operations
    4,220       43,472       59,091  
Loss from discontinued operations
    (1,293 )            
 
                 
Net income
    2,927       43,472       59,091  
 
                 
 
                       
Outsourcing revenue recognized by Longtop international Ltd, which we spun off on July 1, 2007
    4,543              
 
                       
Includes share-based compensation related to:
                       
Cost of revenues software development
    7,832       1,649       2,454  
Cost of revenues other services
    229       252       428  
General and administrative expenses
    13,964       1,871       1,944  
Sales and marketing expenses
    4,712       1,491       2,352  
Research and development expenses
    1,451       385       503  
 
                 

 

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Reportable Segments
We have three reportable segments: software development, and within other services, ATM maintenance services and ancillary services. Revenues from the software development and other services segments accounted for 83.7% and 16.3%, respectively, of our total revenues for the year ended March 31, 2008, 84.3%, and 15.7%, respectively, of our total revenues for the year ended March 31, 2009, and 85.9% and 14.1%, respectively, of our total revenues for the year ended March 31, 2010. The software development segment consists of the development, customization, testing, implementation, licensing, consulting and maintenance of software in accordance with clients’ specifications. The ATM maintenance services segment consists of the maintenance of ATMs. The ancillary services segment consists of the procurement of software and hardware on behalf of clients and providing IT management, consulting and supplementary technology related services. We allocate a portion of shared facilities costs to the segments cost of revenues based on headcount and review the performance of segments based on segment gross profit. We do not allocate operating expenses to the segments.
                                                 
    Year Ended March 31,  
    2008     2009     2010  
    Segment     Segment     Segment     Segment     Segment     Segment  
    Revenues     gross profit     Revenues     gross profit     Revenues     gross profit  
    ($ in thousands)  
Reportable segments:
                                               
Software development
    55,147       34,009       89,559       63,265       145,200       99,320  
ATM maintenance services
    4,275       2,285       7,655       2,978       8,727       1,948  
Ancillary services
    6,494       3,967       9,082       3,636       15,130       4,444  
 
                                   
Total
    65,916       40,261       106,296       69,879       169,057       105,712  
 
                                   
Year Ended March 31, 2010 Compared to Year Ended March 31, 2009
Total Revenues. Total revenues for the fiscal year ended March 31, 2010, or fiscal 2010, were $169.1 million, an increase of 59.0% from $106.3 million for the year ended March 31, 2009, or fiscal 2009. Other than revenue from Sysnet, total revenues for fiscal 2010 increased by 46.9%.
    Software development services segment. Revenues from our software development services increased by 62.1% from $89.6 million in fiscal 2009 to $145.2 million in fiscal 2010. Sysnet, acquired by Longtop in the first fiscal quarter of 2010, contributed 8.4% of this growth with the remaining 53.7% attributable to organic growth.
    From a client-type perspective, increased sales to Other Banks and Insurance clients.
Software development revenue from the Big Four Banks in fiscal 2010 was $63.1 million, an increase of 50.2% from fiscal 2009, which is consistent with the growth of our software development revenue, other than revenue from Sysnet, of 53.7%. Big Four Banks accounted for 43.5% of software development revenues in fiscal 2010, as compared to 46.9% in fiscal 2009. Our Big Four Banks clients in both fiscal 2009 and fiscal 2010 included three of the Big Four Banks and each of the Big Four Bank’s percentage contribution to our revenue was relatively similar in both fiscal 2009 and fiscal 2010, with growth in all of our three Big Four Bank clients. Two of our Big Four Bank clients contributed more than 10% of our software development revenue in fiscal 2010 as compared to three of the Big Four Bank clients contributing more than 10% in fiscal 2009. In fiscal 2009 and fiscal 2010 our largest Big Four Bank client accounted for 22% and 22% of our software development revenue, respectively.
Software development revenue from Other Banks in fiscal 2010 was $54.2 million, an increase of 56.7% from fiscal 2009. Other Banks excludes the Big Four Banks and includes national commercial banks, policy banks, city banks, rural credit unions and China Post Bank. Other Banks accounted for 37.3% of software development revenues for fiscal 2010, as compared to 38.6% in fiscal 2009. Since 2006, we have strategically focused on diversifying our customer base to reduce reliance on Big Four Banks by developing solutions to meet Other Bank requirements, including through strategic acquisitions, and aligning our sales people to also focus on the Other Bank segment. The growth in software development revenue from Other Banks was attributable to higher revenue per existing customer as opposed to revenue from new customers as we had additional solutions to meet their requirements and improved our cross selling. Other Banks also increased their IT spending to improve their customer service, products and management, and we benefitted from this increased investment.
Software development revenue from insurance clients in fiscal 2010 was $21.8 million, an increase of 121.5% from fiscal 2009. We first began targeting the Insurance sector in the later part of 2006. During fiscal 2010, insurance clients accounted for 15.0% of software development revenues, as compared to 11.0% in fiscal 2009. Sysnet, which we acquired in June 2009, contributed $6.1 million of Insurance software development revenue in fiscal 2010. Other than Sysnet, revenue from insurance clients for fiscal 2010 increased 59.9% which was attributable to higher revenue per existing customer as opposed to revenue from new customers as we had additional solutions to meet their requirements and improved our cross selling.

 

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Software development revenue from Enterprises in fiscal 2010 was $6.1 million, an increase of 94.6% from fiscal 2009. The growth rate for Enterprises was higher than our overall growth rate as we have recently launched new treasury management solutions with our largest customer being the a state owned tobacco group.
    Growth in demand for our business intelligence and management-related solutions from a solutions perspective.
As our clients sought to improve their internal systems such as office automation, risk management, human resource management, and content management, together with the acquisition of Sysnet which contributed $3.5 million in revenue, our management solutions revenues grew 54.1% to $55.8 million in fiscal 2010 from $36.2 million in fiscal 2009.
Business intelligence solutions revenues were $53.1 million in fiscal 2010, an increase of 92.5% from $27.6 million in fiscal 2009. Demand for business intelligence solutions was driven by our customers building out data warehouses and business intelligence applications to conduct business and decision-making analysis in order to better understand their customers’ behavior and the effectiveness of their marketing campaigns, and to obtain more accurate and timely information to manage their business. There was strong demand primarily from Big Four Banks and Other Banks for our business Intelligence solutions, where we are one of the strongest service providers in China for these solutions.
    From a development methodology perspective
Our revenue growth during fiscal 2010 was driven by both customized and standardized revenue growth. Our revenue from customized software solutions increased 60.0% from $58.3 million in fiscal 2009 to $93.3 million in fiscal 2010. Sysnet contributed $5.2 million to our customized software revenue in fiscal 2010. Other than Sysnet, customized revenue increased 51.1%. Our revenue from standardized software solutions increased 58.5% from $28.2 million in fiscal 2009 to $44.7 million in fiscal 2010. Our maintenance revenue increased 136.1% from $3.1 million in fiscal 2009 to $7.2 million in fiscal 2010 due to a larger installed product base as well as the acquisition of Sysnet, which contributed $1.5 million in maintenance revenue or 48.4% of the total year on year growth of 136.1%.
Standardized software solutions as a percentage of software development revenues were 32.7%, 31.5% and 30.8% for the years ended March 31, 2008, 2009 and 2010, respectively and most of the growth has been organic.
    Other Services Revenues: Revenues from Other Services increased by 42.5% from $16.7 million in fiscal 2009 to $23.9 million in fiscal 2010. The increase in our Other Services revenues was primarily due to growth in our ATM maintenance and ancillary services segments.
    ATM maintenance services segment. Revenues from our ATM maintenance services segment increased by 14.0%, growing from $7.7 million in fiscal 2009 to $8.7 million in fiscal 2010. This growth was primarily attributable to the acquisition of Huayuchang Tongchuang, a provider of ATM maintenance services, which we acquired in fiscal 2009 as well as organic growth in the number of ATMs we were maintaining. At March 31, 2010, we had approximately 13,300 ATM machines under contract for maintenance as compared to approximately 11,000 ATM machines at March 31, 2009.

 

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    Ancillary services segment. Revenues from our ancillary services segment increased by 66.6%, from $9.1 million in fiscal 2009 to $15.1 million in fiscal 2010 which was primarily attributable to the acquisition of Sysnet, which contributed $5.3 million in ancillary services revenue. Other than Sysnet, ancillary services revenue increased 7.9%. Ancillary services revenue includes revenue from Longtop International Holdings Limited, or LTI, a related party, of $3.2 million in fiscal 2010 as compared to $0.9 million in fiscal 2009.
Gross Margin; Cost of Revenues. Our gross margins decreased by 320 basis points to 62.5% in fiscal 2010 from 65.7% in fiscal 2009. The decrease in gross margin was primarily due to the factors explained below.
    Software development services costs and gross margin
    Software development costs. These consist of design, implementation, delivery and maintenance costs of our software solutions and amortization of acquired intangible assets. Software development costs are primarily headcount-related costs, including payroll, employee benefits, bonuses, travel and entertainment and share-based compensation to our development staff, and overhead costs allocated based on headcount. Allocated overhead primarily includes office rental, communication costs and depreciation. We consider most of our software development costs to be variable and will increase as our sales grow. Of our total software development costs, substantially all relates to the cost of developing and implementing our customized software solutions.
    Software development gross margin. Our software development services gross margin decreased by 220 basis points to 68.4% in fiscal 2010 compared to 70.6% in fiscal 2009. The decrease in gross margin was primarily due to (i) our acquisition of Sysnet, which has lower gross margins than we do, (ii) our investment into our software development consulting and professional services business, which has lower incremental gross margins than our software development business, (iii) the location of an increased percentage of our work force in higher cost cities such as Beijing, in order to satisfy customer requirements, and (iv) our acquisition in January 2010 of Giantstone, which incurred expenses but did not contribute revenue in fiscal 2010.
As of March 31, 2010, we had 2,492 software development engineers, compared to 1,310 as of March 31, 2009.
    Other Services costs and gross margin.
    Other Services costs. Costs associated with ATM maintenance include headcount-related costs for our maintenance staff and spare parts inventory costs. Costs related to ancillary services include headcount-related expenses and amortization of backlog arising from acquisitions and an impairment charge of intangible assets.
    Other Services gross margin. Gross margins from our Other Services revenue declined by 1270 basis points to 26.8% in fiscal 2010 compared to 39.5% in fiscal 2009, primarily due to a decline in the gross margin of the ATM maintenance and ancillary services segments.
    ATM maintenance services segment. Gross margins from our ATM maintenance services segment declined by 1,660 basis points to 22.3% in fiscal 2010 from 38.9% in 2009 due to lower gross margins on Huayuchang Tongchuang, which we acquired during fiscal 2009, lower revenue per ATM due to competition in the market and additional spare parts purchases associated with maintaining additional ATM brands.
    Ancillary services segment. Gross margins from our ancillary services segment declined by 1,060 basis points to 29.4% in fiscal 2010 from 40.0% in 2009 due primarily to a $1.6 million impairment of intangible assets recorded in cost of revenues for fiscal 2010 and, to a lesser extent, higher wage costs without corresponding increases in the ancillary services revenue.

 

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Research and Development Expenses. These include expenses related to our research and development center and supporting departments that are not otherwise attributed to software development. They are primarily headcount-related expenses, including payroll, employee benefits, bonuses, travel and entertainment and share-based compensation to our research and development staff, and overhead costs allocated based on headcount. Allocated overhead primarily includes office rental, communication costs and depreciation. We also incur expenses for training our research and development staff and for professional fees of consultants in connection with our research and development activities. We expense research and development costs when incurred. Our research and development expenses increased by 58.9%, from $5.2 million in fiscal 2009 to $8.2 million in fiscal 2010, representing 4.9% and 4.9% of total revenues, respectively. This increase was primarily due to additional headcount-related costs as we expanded our investment in research and development through our acquisition of Sysnet and to a lesser extent organically. At March 31, 2010, we had 279 research and development staff as compared to 208 at March 31, 2009 (of which 185 were dedicated to software development research).
Sales and Marketing Expenses. Sales and marketing expenses include headcount-related expenses, allowance for doubtful accounts and, to a lesser extent, third-party advertising and promotional expenses related to our sales and marketing functions. As we do not undertake significant advertising or promotion activities, these expenses are primarily headcount-related expenses that include payroll, employee benefits, commissions paid to our employees, travel and entertainment, share-based compensation to our sales and marketing staff and overhead costs that are allocated based on headcount. Allocated overhead primarily includes office rental, communication costs and depreciation. Our sales and marketing expenses increased by 91.3% from $11.0 million in fiscal 2009 to $21.0 million in fiscal 2010, representing 10.3% and 12.4% of total revenues, respectively. Our sales and marketing expenses year on year increase of 91.3% was higher than revenue growth of 59.0% primarily due to increasing headcount from 287 at March 31, 2009 to 437 at March 31, 2010, as we added presales, solution center, product sales and online business headcount; and $2.0 million in amortization of acquired intangibles in fiscal 2010 as compared to $545,000 in fiscal 2009 which contributed 13.3 percent to the 91.3% increase.
General and Administrative Expenses. General and administrative expenses primarily include costs related to our finance, legal, human resources and executive office functions, gains or losses on the sale or disposal of fixed assets and provisions for other receivables, less government subsidies directly related to our operating expenses. These departmental costs are primarily professional fees and expenses related to headcount. Headcount-related expenses include payroll, bonuses, employee benefits, share-based compensation, travel and entertainment and overhead costs that are allocated based on headcount. Allocated overhead primarily includes office rental, communication costs and depreciation. Our general and administrative expenses increased by 49.4% from $9.4 million in fiscal 2009 to $14.0 million in fiscal 2010, representing 8.8% and 8.3% of total revenues, respectively. This increase was primarily due to additional headcount, which increased from 238 at March 31, 2009 to 303 at March 31. 2010, approximately $1.1 million in acquisition related professional fees which effective April 1, 2009 cannot be included as the cost of an acquisition, and additional professional fees and public company expenses.
Impairment of Goodwill. During fiscal 2010, we recorded a goodwill impairment loss of $2.0 million in our Other Services segment associated with our online business.
Other Income (Expenses). Our other income (expenses) decreased from $5.2 million in fiscal 2009 to $4.2 million in fiscal 2010. The decrease was primarily due to lower interest income which was $5.6 million in fiscal 2009 as compared to $4.3 million in fiscal 2010 caused by the decline in interest rates.
Income Tax Expenses. Our income tax expenses in fiscal 2010 were $5.7 million, an effective tax rate of 8.8%, compared to $6.1 million in fiscal 2009, or an effective tax rate of 12.3%. This difference in effective tax rate was primarily due to the inclusion of a $3.8 million income tax benefit in fiscal 2010 associated with our qualification as a Key Software Company for the 2009 calendar year. This tax benefit reduced our fiscal 2010 effective tax rate by 5.9%.
Net Income. As a result of the foregoing, we had net income of $59.1 million in fiscal 2010 as compared to a net income of $43.5 million in fiscal 2009.

 

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Year Ended March 31, 2009 Compared to Year Ended March 31, 2008
Total Revenues. Total revenues for fiscal 2009 were $106.3 million, an increase of 61.3% from $65.9 million for the year ended March 31, 2008, or fiscal 2008, primarily due to the reasons below.
    Software development services segment. Revenues from our software development services increased by 62.4% from $55.1 million in 2008 to $89.6 million in fiscal 2009. The increase in our software development revenues reflects:
    Exchange rate movements. The 62.4% growth in software development revenues reflects an appreciation in the Renminbi to U.S. dollar exchange rate from an average of 7.46 in fiscal 2008 to an average of 6.87 in fiscal 2009. Excluding the impact of this appreciation, our total software development revenues increased by 49.6%.
    From a client-type perspective, increased sales to Other Banks and Insurance clients.
 
      Software development revenue from the Big Four Banks in fiscal 2009 was $42.0 million, an increase of 52.8% from fiscal 2008. Big Four Banks accounted for 46.9% of software development revenues in fiscal 2009, as compared to 49.7% in fiscal 2008, indicating a growth rate approximately in line with our overall software development revenue growth rate. Our Big Four Banks clients in both fiscal 2008 and fiscal 2009 included three of the Big Four Banks and each of the Big Four Bank’s percentage contribution to our revenue was relatively similar in both fiscal 2008 and fiscal 2009, with growth in all of our three Big Four Bank clients. Each of the three of our Big Four Bank clients contributed more than 10% of our software development revenue in both fiscal 2008 and fiscal 2009 with our largest Big Four Bank client accounting for 24% and 22% in the respective years.
 
      The software development revenue from Other Banks in fiscal 2009 was $34.6 million, an increase of 95.8% from fiscal 2008, which was the highest of our four types of clients. Other Banks excludes the Big Four Banks and includes national commercial banks, policy banks, city banks, rural credit unions and China Post Bank. Other Banks accounted for 38.6% of software development revenues for fiscal 2009, as compared to 32.1% in fiscal 2008. Since 2006, we have strategically focused on diversifying our customer base to reduce reliance on Big Four Banks by developing solutions to meet Other Bank requirements, including through strategic acquisitions, and aligning our sales people to also focus on the Other Bank segment. The 95.8% growth was attributable to higher revenue per customer mainly from national commercial banks in fiscal 2009, as we had additional solutions to meet their requirements. National commercial banks also increased their IT spending to improve their customer service, products and management, and we benefitted from this increased investment.
 
      Revenue from Insurance clients in fiscal 2009 was $9.9 million and grew 82.4% from fiscal 2008. We first began targeting the Insurance sector in the later part of 2006. During fiscal 2009, Insurance clients accounted for 11.0% of software development revenues, as compared to 9.8% in fiscal 2008. The growth in Insurance in fiscal 2009 was mainly due to sales made to a new customer, a leading insurance agent in China as well as a number of other new insurance clients.
    Growth in demand for our business intelligence and management-related solutions from a solutions perspective.
 
      Increases related primarily to growth in both management solutions and business intelligence revenues. As our clients sought to improve their internal systems such as office automation, risk management, human resource management, and content management, our management solutions revenues grew 93.2% to $36.2 million in fiscal 2009 from $18.7 million in fiscal 2008.

 

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      Business intelligence solutions revenues were $27.6 million in fiscal 2009, an increase of 80.1% from $15.3 million in fiscal 2008. Demand for business intelligence solutions was driven by our customers building out data warehouses and business intelligence applications to conduct business and decision-making analysis in order to better understand their customers’ behavior and the effectiveness of their marketing campaigns, and to obtain more accurate and timely information to manage their business. There was strong demand from both Big Four Banks and Other Banks for our business Intelligence solutions, where we are one of the strongest service providers in China for these solutions.
    From a development methodology perspective
 
      Compared to fiscal 2008, our customized software solution revenues for fiscal 2009 grew 81.1% to $58.3 million from $32.2 million for fiscal 2008. In contrast, our standardized and maintenance software solution revenues grew at a slower rate as compared to customized solutions, with growth of 36.1%, from $23.0 million in fiscal 2008 to $31.3 million in fiscal 2009.
 
      Customized software solutions revenues represented 65.1% of software development revenues in fiscal 2009 compared to 58.3% in fiscal 2008. The increase in the customized revenue mix was due to numerous factors, including our business intelligence solutions growth, the fastest growing area for us in fiscal 2009 and solutions for the Insurance sector. Pricing for our customized and standardized products was relatively stable and was not a factor in changes in our revenue from fiscal 2008 to fiscal 2009.
    Other Services Revenues: Revenues from Other Services increased by 55.4% from $10.8 million in fiscal 2008 to $16.7 million in fiscal 2009. The increase in our Other Services revenues was primarily due to exchange rate movements and growth in our ATM maintenance and ancillary services segments.
    Exchange rate movements. The 55.4% growth in Other Services revenues from fiscal 2008 to fiscal 2009 reflects an appreciation in the Renminbi to U.S. dollar exchange rate from an average of 7.46 in fiscal 2008 to an average of 6.87 in fiscal 2009. Excluding the impact of this appreciation, our Other Services revenue increased by 43.1 %.
    ATM maintenance services segment. Revenues from our ATM maintenance services segment increased by 79.1%, growing from $4.3 million in fiscal 2008 to $7.7 million in fiscal 2009. This growth was primarily attributable to the acquisition of Beijing Huayuchang Co-Founder Technology Development Co., Limited, or Huayuchang Tongchuang, a provider of ATM maintenance services, which we acquired in fiscal 2009. At March 31, 2009, we had approximately 11,000 ATM machines under contract for maintenance as compared to approximately 6,400 ATM machines at March 31, 2008.
    Ancillary services segment. Revenues from our ancillary services segment increased by 39.9%, from $6.5 million in fiscal 2008 to $9.1 million in fiscal 2009. This increase was primarily attributable to increased revenue from LTI, a related party, of $1.9 million in 2009 as compared to $125,000 in 2008, revenue from Longtop Online, its wholly-owned subsidiary Hooyoo and the assets of Huashang, which were acquired in 2009, and, to a lesser extent, growth in our professional services and systems integration business.

 

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Gross Margin; Cost of Revenues. Our gross margins increased by 4.8% to 65.8% in fiscal 2009 from 61.0% in fiscal 2008. The increase in gross margin was primarily due to the factors explained below.
    Software development gross margin. Our software development services gross margin increased by 8.9% to 70.6% in fiscal 2009 compared to fiscal 2008. The increase in gross margin was due to higher share-based compensation expenses in fiscal 2008, which were $7.8 million as compared to $1.6 million in fiscal 2009. The higher share-based compensation in fiscal 2008 was due to the cancellation by Well Active of principal and interest under promissory notes issued to it in 2006 in payment for ordinary shares Well Active had transferred to our officers and employees, as described above under “Share-Based Compensation Expenses.” Excluding the impact of the share-based compensation expenses, fiscal 2009 gross margin would have been approximately 3.4% lower than fiscal 2008. This 3.4% decline was due primarily to a higher mix of our software revenue coming from customized solutions, with 65.1% of software development revenue from customized solutions in fiscal 2009 as compared to 58.3% in fiscal 2008, as well as inflation-driven increases in salaries without corresponding increases in pricing. Customized solutions, which typically involve more manpower in development and implementation, have substantially lower gross margins than standardized solutions. Our acquisition of FEnet in October 2007, which primarily delivers customized solutions, also negatively impacted our gross margins in fiscal 2009 compared to fiscal 2008.
 
      In fiscal 2009, we hired a significant number of new personnel to meet customized solutions’ demand. As of March 31, 2009, we had 1,310 software development engineers, compared to 913 as of March 31, 2008.
    Other Services gross margin. Gross margins from our Other Services revenue declined by 18.6% during fiscal 2009 to 39.5% due to ATM maintenance and ancillary services segment gross margins decline.
    ATM maintenance services segment. Gross margins from our ATM maintenance services segment declined by 14.6% to 38.9% in fiscal 2009 from 53.5% in 2008 due to lower gross margins on Huayuchang Tongchuang, which we acquired during fiscal 2009.
    Ancillary services segment. Gross margins from our ancillary services segment declined by 21.1% to 40.0% in fiscal 2009 from 61.1% in 2008 due to an approximately 20.0% gross margin on LTI revenues and higher wage costs without corresponding increases in the ancillary services revenue.
Research and Development Expenses. Our research and development expenses increased by 34.8% from $3.8 million in fiscal 2008 to $5.2 million in fiscal 2009, as a result of additional headcount-related costs as we expanded our investment in research and development organically and through our acquisition of FEnet in October 2007. At March 31, 2009, we had 208 research and development staff (of which 185 are dedicated to software development research) as compared to 164 at March 31, 2008.
Sales and Marketing Expenses. Our sales and marketing expenses increased by 5.5% from $10.4 million in fiscal 2008 to $11.0 million in fiscal 2009, representing 15.8% and 10.3% of total revenues, respectively. Sales and marketing expenses in fiscal 2008 included $4.7 million of share-based compensation expenses, primarily associated with the cancellation by Well Active during fiscal 2008 of principal and interest under promissory notes issued to it in 2006 in payment for ordinary shares Well Active had transferred to our officers and employees, as described above under “Share-Based Compensation Expenses.” Excluding the impact of the share-based compensation expenses of $4.7 million and $1.5 million in fiscal 2008 and fiscal 2009, respectively, sales and marketing expenses as a percentage of revenue would have been relatively unchanged at 8.6% of revenues in fiscal 2008 and 8.9% of revenue in fiscal 2009 indicating sales and marketing grew in line with revenue. At March 31, 2009, we had 287 sales and marketing staff as compared to 129 at March 31, 2008.
General and Administrative Expenses. Our general and administrative expenses decreased by 52.3% from $19.6 million in fiscal 2008 to $9.4 million in fiscal 2009, representing 29.8% and 8.8% of total revenues, respectively. General and administrative expenses in fiscal 2008 included $14.0 million of share-based compensation expenses, primarily associated with the cancellation by Well Active during fiscal 2008 of principal and interest under promissory notes issued to it in 2006 in payment for ordinary shares Well Active had transferred to our officers and employees, as described above under “Share-Based Compensation Expenses.” Excluding the impact of share-based compensation expenses of $14.0 million and $1.9 million in fiscal 2008 and fiscal 2009, respectively, our general and administrative expenses would have increased by approximately 32.1% primarily due to additional headcount, which increased from 200 at March 31, 2008 to 238 at March 31. 2009, and additional professional fees and public company expenses.

 

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Other Income (Expenses). Our other income (expenses) increased from $1.4 million in fiscal 2008 to $5.2 million in fiscal 2009. The increase was primarily due to additional interest income earned on proceeds from our initial public offering.
Income Tax Expenses. Our income tax expenses in fiscal 2009 were $6.1 million, an effective tax rate of 12.3%, compared to $3.5 million in fiscal 2008, or an effective tax rate of 45.6%. The difference between the effective rate of 12.3% in fiscal 2009 as compared to 45.6% for fiscal 2008 was due primarily to higher share-based compensation expenses of $28.2 million in fiscal 2008 as compared to $5.6 million in 2009, which are not tax deductible. Excluding the impact of share-based compensation expenses, which are not deductible in China for income tax purposes, the effective tax rate would have been largely unchanged at 9.8% in fiscal 2008 as compared to 11.0% in fiscal 2009.
Loss from Discontinued Operations. Loss from discontinued operations of $1.3 million in fiscal 2008 related to the disposal of Longtop International Holdings Limited and our outsourcing business. There were no similar disposals in fiscal 2009.
Net Income. As a result of the foregoing, we had net income of $43.5 million in fiscal 2009 as compared to a net income of $2.9 million in fiscal 2008.
Our Selected Quarterly Results of Operations
The following table sets forth consolidated selected quarterly results of operations for the eight fiscal quarters ended March 31, 2010. You should read the following table in conjunction with our audited financial statements and related notes included elsewhere in this annual report. We have prepared the unaudited consolidated selected quarterly financial information on the same basis as our audited consolidated financial statements. The unaudited consolidated financial information includes all adjustments, consisting only of normal and recurring adjustments, that we consider necessary for a fair presentation of our financial position and operating results for the quarters presented.
                                                                 
    Three Months Ended  
    June 30,     September 30,     December 31,     March 31,     June 30,     September 30,     December 31,     March 31,  
    2008     2008     2008     2009     2009     2009     2009     2010  
    ($ in thousands)  
Consolidated Statement of Operations Data:
                                                               
 
                                                               
Revenues:
                                                               
Software development
    16,069       23,583       28,857       21,050       24,717       36,995       46,397       37,091  
Other services
    3,259       4,605       4,041       4,832       3,776       5,839       8,267       5,975  
 
                                               
Total revenues
    19,328       28,188       32,898       25,882       28,493       42,834       54,664       43,066  
 
                                               
Cost of revenues:
                                                               
Software development
    5,808       5,962       7,346       7,178       8,319       10,825       12,756       13,980  
Other services
    1,205       2,541       3,134       3,243       3,374       3,767       4,389       5,935  
 
                                               
Total cost of revenues
    7,013       8,503       10,480       10,421       11,693       14,592       17,145       19,915  
 
                                               
Gross profit
    12,315       19,685       22,418       15,461       16,800       28,242       37,519       23,151  
 
                                               
Operating expenses:
                                                               
Research and development
    1,109       1,204       1,318       1,541       1,517       1,962       2,549       2,191  
Sales and marketing
    1,792       2,616       3,393       3,160       3,259       5,304       5,549       6,854  
General and administrative
    2,097       2,339       2,584       2,339       2,766       2,734       3,639       4,844  
Impairment of goodwill
                                              1,982  
 
                                               
Total operating expenses
    4,998       6,159       7,295       7,040       7,542       10,000       11,737       15,871  
 
                                               
Income from operations
    7,317       13,526       15,123       8,421       9,258       18,242       25,782       7,280  
 
                                               
 
                                                               
Other income
    628       2,301       912       1,329       1,077       1,034       768       1,349  
Income tax expense
    (1,858 )     (1,630 )     (1,679 )     (918 )     (1,951 )     (367 )     (743 )     (2,638 )
 
                                               
Net income
    6,087       14,197       14,356       8,832       8,384       18,909       25,807       5,991  
 
                                               
 
                                                               
Includes share-based compensation related to:
                                                               
Cost of revenues software development
    360       419       432       438       438       485       740       791  
Cost of revenues other services
    59       63       63       67       69       69       146       144  
General and administrative expenses
    472       473       477       449       440       419       443       642  
Sales and marketing expenses
    342       371       389       389       428       452       717       755  
Research and development expenses
    81       102       102       100       100       103       150       150  

 

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Our revenues and related cost of revenues and margins and overall operating results will fluctuate from quarter to quarter. As a result of these fluctuations, revenues, cost of revenues and resulting margins and operating results for any quarter may not be indicative of results for future quarterly periods, it is difficult for us to project our operating results for any quarter and we believe it is more meaningful to evaluate our business on an annual basis. Contributing factors include our client’s annual procurement process and seasonality attributable to the Chinese New Year resulting in the quarters ended March 31 and June 30 generally being our lowest software development revenue quarters.
In addition to our success selling our software solutions and services to new and existing customers and the impact of introducing new solutions and services and related timing, the mix of our software development revenues between standardized software sales and customized software sales significantly impact quarterly operating results. We recognize as revenue the full value of our standardized software solutions upfront, provided the other conditions of revenue recognition are satisfied. For our customized solutions, which require significant modification and customization, our cost of revenue is significantly higher than that for our standardized software solutions. In anticipation of our increased reliance on customized software solutions contracts in the near-term, as we produce our next generation of standardized software solutions, we have begun to add significant new headcount resulting in reduced margins.
Liquidity and Capital Resources
Our cash and cash equivalents consist of cash on hand and liquid investments which are unrestricted as to withdrawal or use, and which have maturities of three months or less that are placed with banks and other financial institutions. The following table sets forth a summary of our cash flows for the periods indicated:
                         
    Year Ended March 31,  
    2008     2009     2010  
    ($ in thousands)  
Net cash provided by operating activities
    34,384       41,854       62,924  
Net cash used in investing activities
    (10,562 )     (14,575 )     (94,814 )
Net cash provided by financing activities
    101,047       1,892       125,179  
Effect of exchange rates differences
    9,737       4,598       305  
Net increase in cash and cash equivalents
    134,606       33,769       93,594  
Cash and cash equivalents, beginning of period
    69,920       204,526       238,295  
Cash and cash equivalents, end of period
    204,526       238,295       331,889  
We have financed our business primarily through cash generated from our operations, sale of preferred shares, an initial public offering in October 2007, a follow-on public offering of ADSs in November 2009, and borrowings from commercial banks. We currently anticipate that we will be able to meet our needs to fund operations for at least the next twelve months with operating cash flow and existing cash balances.
Operating Activities
Net cash provided by operating activities amounted to $62.9 million in fiscal 2010 and increased 50.3% from fiscal 2009. Our operating cash flow in 2010 was primarily attributable to several factors, including (i) net income of $59.1 million, (ii) a $7.7 million share-based compensation charge, $4.6 million amortization of intangibles, $2.5 million in impairment of intangible assets, $2.0 million for impairment of goodwill and $3.2 million depreciation charge, none of which affected our operating cash flows and (iii) various movements in working capital.

 

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Net cash provided by operating activities amounted to $41.9 million in fiscal 2009 and increased 21.7% from the year ended March 31, 2008. Our operating cash flow in 2009 was primarily attributable to several factors, including (i) net income of $43.5 million, (ii) a $5.6 million share-based compensation charge, $2.5 million amortization of intangibles and $2.8 million depreciation charge, none of which affected our operating cash flows, (iii) various movements in working capital and (iv) a $5.2 million payment for a prepaid land use right.
Net cash provided by operating activities amounted to $34.4 million in fiscal 2008. Our operating cash flow in 2008 was primarily attributable to several factors, including (i) net income of $2.9 million, (ii) a $28.2 million share-based compensation charge, $1.6 million amortization of intangibles and $1.8 million depreciation charge, none of which affected our operating cash flows and (iii) various movements in working capital.
Investing Activities
Our investing activities primarily relate to our acquisition activities, purchases and disposals of property and equipment and purchases and disposals of investments. Net cash used in investing activities amounted to $94.8 million, $14.6 million and $10.6 million for fiscal 2010, fiscal 2009 and fiscal 2008, respectively. Net cash used in investing activities in fiscal 2010 was primarily due to $69.9 million used for acquisitions, $13.0 million for fixed asset acquisitions, primarily for our new office building in Xiamen and its renovation, and, $8.4 million in additional restricted cash associated with our banking facilities. Net cash used in investing activities in fiscal 2009 was primarily due to $10.1 million for fixed asset acquisitions, primarily for our new office building in Xiamen, and $10.9 million used for acquisitions, which was partially offset by $6.3 million in restricted cash movements. Net cash used in investing activities of $10.6 million in fiscal 2008 was primarily due to $4.6 million for fixed asset acquisitions including $3.6 million for our new office building in Xiamen, $3.8 million used for acquisitions, and an additional $3.3 million in restricted cash to be used for paying employee’s income tax.
Financing Activities
Our financing activities primarily consist of capital contributions, sale of our ordinary and preferred shares, borrowings from commercial banks and dividends paid to ordinary shareholders. Net cash provided by financing activities amounted to $125.2 million in the year ended March 31, 2010, primarily due to proceeds of $126.6 million from our follow-on offering in November 2009. Net cash provided by financing activities amounted to $1.9 million in the year ended March 31, 2009 primarily due to $2.8 million received from the exercise of stock options by employees less $837,000 for the repayment of capital leases and $54,000 for the repayment of amounts due to related parties. Net cash provided by financing activities amounted to $101.0 million in the year ended March 31, 2008, primarily due to proceeds of $146.5 million from our initial public offering, offset by a $36.1 million dividend and net repayments of short-term borrowings amounting to $9.4 million.
Research and Development, Patents and Licenses
See “Item 4. Information on the Company — Business Overview — Solution Development” and “Item 4. Information on the Company — Business Overview — Intellectual Property.”
Off-Balance Sheet Arrangements
We have not entered into any off-balance sheet arrangements, transactions or other relationships with unconsolidated entities.

 

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Tabular Disclosure of Contractual Obligations
The following table sets forth our contractual obligations as of March 31, 2010:
                                 
    Payment Due by Period  
            Less than     1-3     3-5  
    Total     1 year     years     years  
    ($ in thousands)  
 
                               
Capital lease obligations
    175       175              
 
                               
Operating lease obligations
    3,268       1,413       1,359       496  
 
                               
Investment obligations
    42,439       18,268       21,241       2,930  
                         
 
                               
Total
    45,882       19,856       22,600       3,426  
                         
    Our operating lease obligations related to our obligations under lease agreements with lessors of our corporate offices.
    As of March 31, 2010, our liability for unrecognized tax benefits, including interest and penalty, was $187,000. We are unable to reasonably estimate the timing of the effective settlement of this tax position.
    Our investment obligations include our estimated fixed and contingent obligations to pay up to $42 million related to primarily two companies we have acquired including $4 million for Sysnet and $38 million for Giantstone. The $37 million for Gianstone is our estimate assuming Giantstone achieves its base earnout post-tax net profit performance targets for the years ending December 31, 2010 and 2011. Additional earnout payments are payable to the extent the aforementioned base post-tax net profit performance targets are exceeded, with no limit on the additional earnout amount. Other contingent consideration up to $879,000 will be payable in 2015 if Giantstone achieves other operational milestones during the period from 2010 to 2014.
Inflation
Inflation in China has not materially impacted our results of operations in recent years. According to the National Bureau of Statistics of China, the change of consumer price index in China was 4.8%, 5.6% and 4.9% in 2007, 2008 and 2009, respectively.
Holding Company Structure
We are a holding company with no material operations of our own. We conduct our operations primarily through our subsidiaries in China. As a result, our ability to pay dividends and to finance any debt we may incur depends upon dividends paid by our subsidiaries. If our subsidiaries or any newly formed subsidiaries incur debt on their own behalf in the future, the instruments governing their debt may restrict their ability to pay dividends to us. In addition, our subsidiaries are permitted to pay dividends to us only out of their retained earnings, if any, as determined in accordance with PRC accounting standards and regulations. Under PRC law, each of our subsidiaries is required to set aside at least 10% of its after-tax profits each year, if any, to fund a statutory reserve until such reserve reached 50% of its registered capital, and each of our subsidiaries with foreign investment is also required to further set aside a portion of its after-tax profits to fund the employee welfare fund at the discretion of the board. Although the statutory reserves can be used, among other ways, to increase the registered capital and eliminate future losses in excess of retained earnings of the respective companies, the reserve funds are not distributable as cash dividends except in the event of liquidation of these subsidiaries.
Recent Accounting Pronouncements
In June 2009, the FASB issued an amendment to the accounting guidance for variable interest entities (VIEs). The new guidance for VIEs eliminates the quantitative approach previously required for determining the primary beneficiary of a variable interest entity and requires ongoing qualitative reassessments of whether an enterprise is the primary beneficiary. The determination of whether a company is required to consolidate an entity is based on, among other things, an entity’s purpose and design and a company’s ability to direct the activities of the entity that most significantly impact the entity’s economic performance. In addition, qualifying special purpose entities are no longer exempt from consolidation under the amended guidance. The new guidance will be effective for our fiscal year beginning April 1, 2010. We do not expect the adoption of the amendment to have a significant impact on its financial condition or results of operations.

 

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In October 2009, the FASB issued amended revenue recognition guidance for arrangements with multiple deliverables, which excludes from its scope software revenue arrangements. The new guidance eliminates the residual method of revenue recognition and allows the use of management’s best estimate of selling price for individual elements of an arrangement when vendor specific objective evidence (VSOE), vendor objective evidence (VOE) or third-party evidence (TPE) is unavailable. This new guidance is to be applied prospectively for revenue arrangements entered into or materially modified in fiscal years beginning on or after June 15, 2010, with earlier application permitted. Alternatively, an entity can elect to adopt this guidance on a retrospective basis. This guidance will be effective for our fiscal year beginning on April 1, 2011, with earlier application permitted for our fiscal year beginning April 1, 2010. We will not early adopt the amendment and do not expect the adoption to have a significant impact on its financial condition or results of operations.
In October 2009, the FASB issued authoritative guidance which amends the scope of existing software revenue recognition accounting. Tangible products containing software components and non-software components that function together to deliver the product’s essential functionality would be scoped out of the accounting guidance on software and accounted for based on other appropriate revenue recognition guidance. This guidance is to be applied prospectively for revenue arrangements entered into or materially modified in fiscal years beginning on or after June 15, 2010, with earlier application permitted. Alternatively, an entity can elect to adopt this new guidance on a retrospective basis. This guidance will be effective for our fiscal year beginning on April 1, 2011 with earlier application permitted for our fiscal year beginning April 1, 2010. We will not early adopt the new guidance and do not expect the adoption to have a significant impact on its financial condition or results of operations.
In January 2010, the FASB issued authoritative guidance to improve disclosures about fair value measurements. This guidance amends previous guidance on fair value measurements to add new requirements for disclosures about transfers into and out of Levels 1 and 2 and separate disclosures about purchases, sales, issuances, and settlements relating to Level 3 measurement on a gross basis rather than on a net basis as currently required. This guidance also clarifies existing fair value disclosures about the level of disaggregation and about inputs and valuation techniques used to measure fair value. This guidance is effective for annual and interim periods beginning after December 15, 2009, except for the requirement to provide the Level 3 activities of purchases, sales, issuances, and settlements on a gross basis, which will be effective for annual and interim periods beginning after December 15, 2010. Early application is permitted and, in the period of initial adoption, entities are not required to provide the amended disclosures for any previous periods presented for comparative purposes. We do not expect the adoption of this pronouncement to have a significant impact on its financial condition or results of operations.
Item 6. Directors, Senior Management and Employees
Directors and Executive Officers
The following table sets forth information regarding our directors and executive officers as of March 31, 2010.
             
Directors and Executive Officers   Age   Position/Title
Hui Kung Ka (Xiaogong Jia)
    60     Chairman of the board of directors
Wai Chau Lin (Weizhou Lian)
    45     Director and chief executive officer
Thomas Gurnee (1) (2)
    58     Independent director
Zuyun Xue (1)
    46     Independent director
Yifeng Shen (1)
    46     Independent director
Yinhua Chen
    46     Director
Derek Palaschuk
    46     Chief financial officer
     
(1)   Member of the audit committee of our board of directors. Mr. Gurnee is the chairman of the audit committee.
 
(2)   Member of the compensation committee of our board of directors.

 

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Directors
Mr. Hiu Kung Ka, who is also referred to as Xiaogong Jia, which is a transliteration of the Mandarin Chinese version of his name, is one of our founders and has served as the chairman of our board of directors since our inception in June 1996. Mr. Ka has over 30 years of experience in China’s IT industry. He is currently a standing director of the China Business Council, director of Fujian Computer Society, vice- president of Xiamen Computer Society and standing vice chairman of Xiamen Software Industry Society. Prior to founding our company in 1996, Mr. Ka has served various positions including deputy head engineer, vice general manager and general manager of Xiamen Longtop Electronic Computer Company. From 1980 to 1984, Mr. Ka was the technical section chief of Fujian Provincial Computer Research Institute. Mr. Ka received his bachelor’s degree in industrial automation from Fuzhou University in China.
Mr. Wai Chau Lin, who is also referred to as Weizhou Lian, which is a transliteration of the Mandarin Chinese version of his name, is one of our founders and has served as a director and our chief executive officer since our inception in June 1996. He has over 21 years of experience in China’s IT industry. Prior to founding our company, Mr. Lin held various positions, including technology department manager, sales department manager, vice general manager and general manager, of Xiamen Xindeco Computer Company from 1985 to 1996. Mr. Lin has won various industry awards, including Fujian Outstanding Young Entrepreneur award, Xiamen Outstanding Young Entrepreneur Award and Fujian Software Talent Award. He served as the vice-president of Xiamen Youth Chamber of Commerce and currently serves as a representative of the People’s Congress for the Siming District, Xiamen. Mr. Lin had been a visiting professor at the Software School of Xiamen University. Mr. Lin received his bachelor’s degree in computer science from Fudan University.
Mr. Thomas Gurnee has served as an independent director and chairman of our audit committee since January 2007. Since 2004, Mr. Gurnee has served on the audit and the compensation committees of eLong Inc. Since December 2007 Mr. Gurnee has been a member of the board of directors of Xinyuan Real Estate Co., Ltd. and was a member of its audit committee until February 2009. Mr. Gurnee has been the chief financial officer of Xinyuan Real Estate Co., Ltd. since February 2009 and was the chief financial officer of GEM Services Inc. from 2006 until December 2008. Mr. Gurnee was the president of Globitech Inc. from 2001 to 2005. From January 2000 until December 2000, he served as the chief financial officer of Sohu.com, and served on Sohu.com’s board of directors and the audit committee until 2005. Prior to joining Sohu.com, Mr. Gurnee held several senior positions with Chartered Semiconductor Manufacturing Ltd., including president (North America), chief operating officer (Singapore) and chief financial officer (Singapore). Mr. Gurnee also spent thirteen years with Schlumberger Ltd. in various senior finance positions. Mr. Gurnee received a Bachelor of Arts degree from Stanford University and an MBA degree from Santa Clara University.
Mr. Zuyun Xue has served as an independent director and member of our audit committee, since October 2007. Mr. Xue was an independent director of CNOOC Chemical Ltd. from 2002 to 2004, and has been an independent director of Maoming Petro-Chemical ShiHua Co., Ltd. and Zhejiang WHWH Industry Co., Ltd. since 2004 and 2007, respectively. Mr. Xue has been a professor of accounting department of Xiamen University of China since 2001. Prior to becoming a professor, Mr. Xue had worked as an auditing manager in Xiamen Tianjian Certified Public Accountants Firm, financial director of CYDF Investment Development Center and China Fortune Security Brokerage Co., Ltd., and president of Golden Palm Travel Investment Co., Ltd. Mr. Xue received his doctoral degree in management (accounting) and master degree in accounting from Xiamen University.
Mr. Yifeng Shen has served as an independent director and member of our audit committee since October 2008. Mr. Shen is a Doctoral Tutor and Professor of Finance, Vice President and Director of the School of Management of the MBA Center at Xiamen University in Xiamen, China. Mr. Shen was a lecturer at the Business Administration Education Center, or MBA Center, of Xiamen University between 1992 and 1995 and was an Associate Professor and Deputy Director of the MBA Center between 1995 and 1999. Mr. Shen was also a visiting scholar at the University of Oregon between 1996 and 1997, at the Corcordian University in Canada in the summer of 1999 and at University of Newcastle in United Kingdom in the summer of 2000. Mr. Shen received his doctoral degree in management from Xiamen University and an MBA degree from Saint Mary’s University of Canada.

 

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Ms. Chen Yinhua has served as a director since April 2008 and as the Director of our Business Division since November 1996. Ms. Chen has more than 20 years of experience in project review and evaluation and overseas purchasing of equipment in the IT industry. Prior to joining Longtop, Ms. Chen worked with Xiamen Southeast Computer and served as its software development engineer, Deputy Director of Technology Division, Deputy Director of R&D Division and Executive Assistant. Prior to Xiamen Southeast Computer, Ms. Chen was a teaching staff and researcher at the Department of Computer Science of Fuzhou University. Ms. Chen holds her bachelor’s degree in computer science from Fuzhou University.
Additional Executive Officer
Mr. Derek Palaschuk has been our chief financial officer since September 2006. Mr. Palaschuk was previously the chief financial officer of eLong Inc., a China-based NASDAQ-listed company, from April 2004 until July 2006. Prior to joining eLong Inc., Mr. Palaschuk worked with Sohu.com, a China-based NASDAQ- listed company, from July 2000 to March 2004 in various financial positions including chief financial officer. Mr. Palaschuk also worked as an audit manager with PricewaterhouseCoopers in Hong Kong and Beijing. Mr. Palaschuk holds a Bachelor of Commerce degree in accounting from the University of Saskatchewan, and an LLB from the University of British Columbia in Canada. He is also a Canadian Chartered Accountant.
Board of Directors
Our board of directors currently consists of six directors. Xiaohong Chen and Paul Wolansky resigned from the board on May 6, 2009 and June 12, 2009, respectively, and we do not currently intend to fill the vacancies created by Ms. Chen’s and Mr. Wolansky’s resignations.
Pursuant to our articles of association, our directors are elected for staggered terms, pursuant to which, at each annual general meeting, one-third of our directors will retire from office by rotation provided that every director will retire at an annual general meeting at least once every three years.
A director is not required to hold any shares in the company by way of qualification. A director may vote with respect to any contract, proposed contract or arrangement in which he is materially interested. A director may exercise all the powers of the company to borrow money, mortgage its undertaking, property and uncalled capital, and issue debentures or other securities whenever money is borrowed or as security for any obligation of the company or of any third party.
B. Compensation of Directors and Executive Officers
For the year ended March 31, 2010, we paid an aggregate of approximately $359,000 in cash compensation to our Chairman, CEO, CFO and executive director and we paid an aggregate of approximately $107,000 in cash compensation to our non-executive directors. During the year ended March 31, 2010, we granted a total of 25,000 restricted share units, vesting over four years, to our directors and executive officers.
Share Ownership
2005 Long Term Incentive Plan
On November 28, 2005, we adopted our 2005 Long Term Incentive Plan, or the 2005 plan, to attract and retain the best available personnel, provide additional incentives to employees, directors and consultants and promote the success of our business. The 2005 plan was effective starting from July 1, 2005. The maximum aggregate number of shares that may be issued pursuant to all awards is 8,550,000 shares.

 

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Historical Issuance of Restricted Share Units, or RSUs, and Grant of Interests in Our Shares Held by Well Active
Pursuant to the 2005 plan, we had granted a total of 5,003,250 RSUs from November 2005 to May 2006 to our employees and directors. These RSUs could only be sold when our stock became publicly tradable in an initial public offering. All of these RSUs have been cancelled or forfeited.
In February 2006, with our approval, Bloomwell, a company controlled by Mr. Hiu Kung Ka, the chairman of our board of directors, transferred 6,000,000 of its ordinary shares to Well Active International Limited, or Well Active, a company incorporated in the British Virgin Islands, for purposes of holding the shares and distributing some of these shares to our employees and consultants. Well Active is owned by three of our employees, who act as nominee shareholders of these 6,000,000 ordinary shares at the direction of Bloomwell. In November 2006, with the agreement of the various holders of the RSUs, we cancelled 4,890,750 units of RSUs equity awards, being all the RSUs outstanding, which had been previously issued by us. At the same time, Well Active granted interests, or share interests, at a cost of $4.83 per ordinary share, in 4,890,750 ordinary shares of our company held by Well Active with immediate vesting and without sale restrictions to the holders of the RSUs, or interest holders, whose RSUs had been cancelled. The cancellation of the RSUs simultaneous with the share interest grants by Well Active was effected to replace the RSU compensation plan with the Well Active incentive compensation plan.
Under the relevant purchase agreements entered into between Well Active and the interest holders, the interest holders have purchased the right to receive our ordinary shares currently held by Well Active. Subject to other terms of the purchase agreements, upon the interest holders’ written notice, Well Active will cause the number of ordinary shares specified in the notice to be sold, transferred or otherwise disposed of in accordance with the interest holders’ instructions and will cause the proceeds of such sale, transfer or disposal to be paid directly to the interest holders. As consideration for the above right, Well Active received from each interest holder a promissory note of $4.83 per ordinary share, which bears interest at 150 basis points above the Bank of China lending rate. In December 2006, Well Active granted interests at a cost of $4.83 per ordinary share in an additional 60,000 ordinary shares of the company to our employees. Well Active received a promissory note as consideration for the 60,000 ordinary shares.
In connection with our initial public offering, Well Active was instructed by certain holders to sell in such offering 1,125,000 ADS in the aggregate. Effective upon consummation of our initial public offering, Well Active cancelled all the purchase related promissory notes and accrued interest for 4,790,550 shares which resulted in share-based compensation expense of $24.8 million during the year ended March 31, 2008. During the year ended March 31, 2008, 160,200 ordinary shares were returned by employees to Well Active in consideration for cancellation of the related promissory notes and accrued interest. No amounts under promissory notes were due by employees to Well Active as of March 31, 2009 and 2010.
Issuance of Stock Options and Restricted Share Units
As of March 31, 2010, we had reserved 8,550,000 ordinary shares for issuance of stock options and restricted share units to some of our employees, directors and consultants. From the inception of our 2005 Plan through March 31, 2010, 4,372,740 options to purchase ordinary shares had been granted, of which 1,179,900 stock options had been forfeited, and 1,780,650 restricted share units had been granted, of which 97,150 restricted share units had been forfeited.
The following table summarizes, as of March 31, 2010, the stock options granted under our 2005 plan to several of our directors and executive officers.
                                         
    Ordinary Shares                          
    Underlying                          
    Options/     Number of Ordinary Shares     Exercise              
    Share Interests     Underlying Options/Share     Price     Date of     Date of  
Name   Granted     Interests Granted     ($/Share)     Grant     Expiration  
 
                                       
Wai Chau Lin
  Options     *       6.43     March 28, 2007   March 28, 2012
 
                                       
Thomas Gurnee
  Options     *       6.43     January 17, 2007   January 17, 2012
 
                                       
Derek Palaschuk
  Options     *       3.68     September 11, 2006   September 11, 2011
     
*   Less than 1% of our total outstanding voting securities.

 

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The following table summarizes, as of March 31, 2010, the restricted share units granted under our 2005 plan to our directors and executive officers:
                         
    Restricted                
    Share             End of Vesting  
Name   Units Granted     Date of Grant     Period  
 
                       
Yifeng Shen
    *     November 15, 2008   November 14, 2010
 
                       
Thomas Gurnee
    *     February 3, 2010   February 3, 2014
     
*   Less than 1% of our total outstanding voting securities.
The following paragraphs describe the principal terms of the 2005 plan.
Types of Awards. We may grant the following types of awards under our 2005 plan:
    options to purchase our ordinary shares;
    restricted share units, which (1) may not be transferred until the end of the applicable period of restriction established by the committee under the 2005 plan and specified in the award agreement, (2) may be subject to such other conditions and/or restrictions as shall be imposed by the committee under the 2005 plan, and (3) when vested, may be paid in cash, ordinary shares or a combination of cash or ordinary shares as determined by the committee under the 2005 plan; or
    any other instruments as deemed appropriate by the committee under the 2005 plan.
Plan Administration. The 2005 plan is to be administered by the compensation committee of the board or a subcommittee thereof, or any other committee designated by our board of directors to administer the plan. This committee is to have full exclusive discretionary power to interpret the terms and the intent of the plan and any award document or other agreement or document ancillary to or in connection with the plan, and to select award recipients and establish all award terms and conditions.
Award Document. Awards granted under our 2005 plan are evidenced by an award document that sets forth the terms and conditions applicable to each of these awards. Each option grant under the 2005 plan is to be evidenced by a document that specifies the exercise price, the maximum duration of the option, the number of shares to which the option pertains, the conditions upon which an option will become vested and exercisable and such other provisions as the committee may determine that are not inconsistent with the terms of the plan. Each restricted share unit grant under the 2005 plan is to be evidenced by an award document that shall specify the period(s) of restriction, the number of restricted share units granted and such other provisions as determined by the committee.
Eligibility. We may grant awards to our employees, directors and service providers.
Acceleration of Awards upon Change in Control of our company. Upon change in control of the company, including amalgamations, mergers or consolidations, liquidations or dissolutions, sales, transfers or other dispositions of all or substantially all of the company’s assets, reverse mergers or acquisitions, all then-outstanding options shall become fully vested and exercisable, and all other then- outstanding awards that vest on the basis of continuous service shall vest in full and be free of restrictions, except to the extent that another award is provided to the participant to replace such award. The treatment of any other awards shall be as determined by the committee in connection with the grant thereof, as reflected in the applicable award agreement.

 

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Exercise Price and Term of Awards. The committee shall determine the exercise price for each option which shall be stated in the award document. Each option shall expire at such time as the committee shall determine at the time of its grant, provided that no option shall be exercisable after the fifth anniversary date of its grant.
Vesting Schedule. The options under the 2005 plan shall be exercisable at such times and be subject to such terms and conditions as the committee shall in each instance approve, which terms and conditions need not be the same for each grant or for each participant.
Employment Agreements
We have entered into employment agreements with our chief executive officer and chief financial officer and most of our senior employees have entered into employment agreements with Xiamen Longtop Financial Technology Management Co., Ltd., or XLM, (as an assignee to Longtop System). Under these agreements, each of our executive officers and senior employees is employed generally for a term of four to five years. We may terminate employment for cause, at any time, without notice or remuneration, for certain acts of the employee, such as willful misconduct or gross negligence, and indictment or conviction for, or confession of, a felony or any crime involving moral turpitude. In such case, the officer will not be entitled to receive payment of any severance benefits or other amounts by reason of the termination other than accrued salary and vacation through the date of the termination, and the executive officer’s right to all other benefits will terminate, except as required by any applicable law.
We may also terminate our employment agreement with our chief executive officer and chief financial officer without cause upon thirty days’ advance written notice. In such case of termination by us and also in a case where our chief executive officer or chief financial officer voluntarily terminates his employment with us upon thirty-days’ advance written notice for “good reasons,” we are required to provide him with severance benefits equal to his annual base compensation, which is to be payable in 12 equal installments, provided that the executive officer complies with the ‘employee non-competition, non-solicitation, confidential information and work product agreement’ during the severance period and execute a release agreement in the form requested by us. “Good reasons” include (i) any significant change in the executive officer’s duties and responsibilities inconsistent in any material and adverse respect with his title and position, and (ii) any material breach of the employment agreement by us, including any reduction in the executive officer’s base salary or our failure to pay to him any portion of his compensation.
Under the employment agreements with XLM, while any party may terminate the agreement without cause, any party initiating the termination will need to pay the other party the equivalent of three times the average monthly salary for the remaining months in the contract term.
Each executive officer or senior employee has agreed to hold, both during and after the termination or expiry of his or her employment agreement, in strict confidence and not to use, except as required in the performance of his or her duties in connection with the employment, any of our confidential information or trade secrets, any confidential information or trade secrets of our clients or prospective clients, or the confidential or proprietary information of any third party received by us and for which we have confidential obligations. The executive officers and senior employees have also agreed to disclose in confidence to us all inventions, designs and trade secrets which they conceive, develop or reduce to practice and to assign all right, title and interest in them to us, and assist us in obtaining patents, copyrights and other legal rights for these inventions, designs and trade secrets.
Under our employment agreements with our chief executive officer and chief financial officer, each executive officer has agreed to be bound by (i) non-competition restrictions during his employment and for 12 months after the termination of his employment, and (ii) non-solicitation restrictions during the term of his employment and for two years following the last date of employment. Our employment agreements with our other senior employees do not confirm similar provisions.

 

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C. Board Practices
Committees of the Board of Directors
We have established two committees under the board of directors: the audit committee and the compensation committee. We have adopted a charter for each of the committees.
Audit Committee.
Our audit committee consists of Messrs. Thomas Gurnee, Zuyun Xue and Yifeng Shen. Mr. Gurnee is the chair of our audit committee. Messrs. Thomas Gurnee, Zuyun Xue and Yifeng Shen satisfy the “independence” requirements of Section 303A of the Corporate Governance Rules of the New York Stock Exchange. In addition, Messrs. Thomas Gurnee, Zuyun Xue and Yifeng Shen meet the “independence” standards under Rule 10A-3 under the Securities Exchange Act of 1934, as amended, The purpose of the audit committee is to assist our board of directors with its oversight responsibilities regarding: (i) the integrity of our financial statements, (ii) our compliance with legal and regulatory requirements, (iii) the independent auditor’s qualifications and independence, and (iv) the performance of our internal audit function and independent auditor. The audit committee will be responsible for, among other things:
    appointing the independent auditors and pre-approving all audit and non-audit services permitted to be performed by the independent auditors:
    reviewing with the independent auditors any audit problems or difficulties and management’s response;
    reviewing and approving all proposed related party transactions, as defined in Item 404 of Regulation S-K under the Securities Act of 1933;
    discussing the annual audited financial statements with management and the independent auditors;
    reviewing major issues as to the adequacy of our internal controls and any special audit steps adopted in light of material control deficiencies; and
    meeting separately and periodically with management and the independent auditors.
Compensation Committee.
Our compensation committee consists of Mr. Thomas Gurnee. Prior to her resignation from our board on May 6, 2009, Ms. Xiaohong Chen served as the sole member of our compensation committee. Mr. Gurnee satisfies the “independence” requirements of Section 303A of the Corporate Governance Rules of the New York Stock Exchange. The purpose of the compensation committee is, among other things, to discharge the responsibilities of our board of directors relating to compensation of our directors and executive officers, including reviewing and evaluating and, if necessary, revising the compensation plans, policies and programs of the company adopted by our management. Our chief executive officer may not be present at any committee meeting during which his compensation is deliberated. The compensation committee will be responsible for, among other things:
    reviewing and evaluating at least annually and, if necessary, revising the compensation policies adopted by our management;
    reviewing and evaluating at least annually the performance, and determining the compensation, of our chief executive officer;
    reviewing and approving our chief executive officer’s employment agreement and amendments thereto, and severance arrangement, if any;
    reviewing all annual bonus, long-term incentive compensation, share option, employee pension and welfare benefit plans; and
    reviewing and approving director and executive officer indemnification and insurance matters, and any employee loans in an amount equal to or greater than $25,000.

 

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Duties of Directors
Under Cayman Islands law, our directors have a duty to act honestly in good faith with a view to the best interests of our company. Our directors also have a duty to exercise the skill they actually possess and such care and diligence that a reasonably prudent person would exercise in comparable circumstances. A shareholder has the right to seek damages on behalf of our company if a duty owed by our directors is breached. Our directors must act in compliance with our memorandum and articles of association.
Limitation on Liability and Other Indemnification Matters
Cayman Islands law does not limit the extent to which a company’s articles of association may provide for indemnification of officers and directors, except to the extent any such provision may be held by the Cayman Islands courts to be contrary to public policy, such as to provide indemnification against civil fraud or the consequences of committing a crime. The articles of association of our company provide for indemnification of officers and directors for losses, damages, costs and expenses incurred in their capacities as such, but the indemnity does not extend to any matter in respect of any fraud or dishonesty which may attach to such person.
Terms of Directors and Officers
Under our first amended and restated articles of association, among other provisions: (1) each director shall retire at an annual general meeting at least once every three years; (2) our shareholders or directors may by ordinary resolutions elect directors to fill vacancies or as additions to the board; and (3) our shareholders may by special resolutions remove a director even before the expiration of his or her term, and any vacancy created by such removal may be filled by the election or appointment by ordinary resolution of our shareholders at the meeting at which such director is removed, or by a simple majority vote of the remaining directors present and voting at a board meeting.
D. Employees
The following table sets forth the number of our employees and contractors categorized by function as of the dates indicated:
                         
    March 31, 2008     March 31, 2009     March 31, 2010  
Software development
    913       1,310       2,492  
 
                       
Revenue other services
    253       559       747  
 
                       
Research and Development
    164       208       279  
 
                       
Sales and Marketing
    129       287       437  
 
                       
General and Administration
    200       238       303  
 
                 
 
                       
Total
    1,659 *     2,602 **     4,258 ***
 
                 
     
*   This number includes 1,496 contracted employees provided by Xiamen Longtop Human Resource Services Co., Ltd, an unrelated party, pursuant to a human resource service agreement with us. Pursuant to this agreement we have agreed to pay a monthly service fee to Xiamen Longtop Human Resource Services Co., Ltd to cover the cost of those contracted employees as well as operational expenses. From a management point of view, we consider these 1,496 persons to be our employees.

 

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**   This number includes 2,039, 35 and 57 contracted employees, respectively, provided by Xiamen Longtop Human Resource Services Co., Ltd, Beijing Foreign Enterprise Human Resources Service Co., Ltd., or Beijing FESCO, and Randstad Shanghai Temporary Staffing, each an unrelated party, pursuant to human resource service agreements with us. Pursuant to these agreements, we have agreed to pay a monthly service fee to Xiamen Longtop Human Resource Services Co., Ltd., Beijing FESCO, and Randstad Shanghai Temporary Staffing to cover the cost of those contracted employees as well as operational expenses. From a management point of view, we consider these 2,131 persons to be our employees.
 
***   This number includes 3,235, 79, 62, 31 and 6 contracted employees, respectively, provided by Xiamen Longtop Human Resource Services Co., Ltd, Beijing FESCO, Randstad Shanghai Temporary Staffing, China International Intellectech (Shanghai) Corporation, and China Star Corporation for International Economic and Technical Cooperation, pursuant to human resource service agreements with us. Pursuant to these agreements, we have agreed to pay a monthly service fee to these companies to cover the cost of those contracted employees as well as operational expenses. From a management point of view, we consider these 3,413 persons to be our employees.
We invest significant resources in the training and development of our employees. We leverage the resources of our research and development center, our research labs and our project management department to ensure that each employee maintains a current skill-set through continuous training on topics ranging from our technologies, solutions and services, our clients, our market and the financial services industry.
E. Share Ownership
Please see Item 7.

 

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Item 7. Major Shareholders and Related Party Transactions
A. Major Shareholders
The following table sets forth information with respect to the beneficial ownership of our ordinary shares as of June 21, 2010 (except as otherwise indicated in the table or the notes thereto) by (i) each of our directors and executive officers and (ii) each person known to us to own beneficially more than 5.0% of our ordinary shares:
Beneficial ownership is determined in accordance with the rules and regulations of the SEC. In computing the number of shares beneficially owned by a person and the percentage ownership of that person, we have included shares that the person has the right to acquire within 60 days, including through the exercise of any option, warrant or other right or the conversion of any other security. These shares, however, are not included in the computation of the percentage ownership of any other person.
                 
    Number of Ordinary Shares     Percentage of Shares  
Major Shareholders   Beneficially Owned     Beneficially Owned*  
 
               
Directors and Executive Officers:
               
Hiu Kung Ka (1)
    12,740,982       22.6 %
Wai Chau Lin (2)
    4,180,000       7.4 %
Derek Palaschuk
           
Thomas Gurnee
           
Zuyun Xue
           
Yinhua Chen
           
Yifeng Shen
           
 
               
Major Shareholders:
               
Bloomwell International Limited (3)
    10,366,682       18.3 %
Goldin International Limited (4)
    2,374,300       4.2 %
Concentra Holdings Limited (5)
    1,220,000       2.1 %
Prime Peak Limited (6)
    2,960,000       5.3 %
Well Active International Limited (7)
    3,426,682       6.1 %
Tiger Global Management, LLC (8)
    3,399,490       6.0 %
Stephen F. Mandel, Jr. (9)
    3,093,594       5.5 %
FMR LLC (10)
    8,308,722       14.7 %
Power Extra (PTC) Limited (11)
    3,000,000       5.3 %
 
     
-   Less than 1%.
 
*   The calculations in the table above are based on 56,427,838 ordinary shares outstanding as of June 21, 2010:
 
(1)   The 12,740,982 ordinary shares beneficially owned by Mr. Ka, include (i) 3,940,000 ordinary shares held by Bloomwell International Limited, or Bloomwell, a British Virgin Islands company wholly-owned by Mr. Ka, (ii) 2,374,300 ordinary shares held by Goldin International Limited, or Goldin, a British Virgin Islands company wholly owned by Mr. Ka (of which 474,300 ordinary shares are represented by 474,300 ADSs), (iii) 3,426,682 ordinary shares held of record by Well Active International Limited, or Well Active, for issuance pursuant to our share incentive plan (including ordinary shares represented by ADSs) and (iv) 3,000,000 ordinary shares held of record by a nominee of Power Extra (PCT) Limited, or Power Extra, a British Virgin Islands corporation that is the sole trustee of The Sunshine Trust, or the Trust, for the purpose of holding and granting these 3,000,000 ordinary shares from time to time to our previous and existing employees and consultants who are or become beneficiaries of the Trust. The board of directors of Power Extra consists of three of our employees who administer the Trust at the direction of Mr. Ka. Well Active is owned by Yingling Li, Zulian Zhang and Ni Chen, as nominees. See also note (7) to this table below. Mr. Ka disclaims beneficial ownership of the 3,940,000 ordinary shares held by Bloomwell, and the 2,374,300 ordinary shares held by Goldin, except to the extent of his pecuniary interest in these ordinary shares, and the 3,426,682 ordinary shares held of record by Well Active, and the 3,000,000 ordinary shares held of record by the nominee of Power Extra. The business address of Mr. Ka is Flat A, 10/F, Block 8, City Garden, 233 Electric Road, North Point, Hong Kong.
 
(2)   Includes 1,220,000 ordinary shares held by Concentra Holdings Limited, or Concentra, a British Virgin Islands company wholly-owned by Mr. Lin, and 2,960,000 ordinary shares held by Prime Peak Limited, or Prime Peak, a British Virgin Islands company wholly-owned by Mr. Lin (of which 680,000 ordinary shares are represented by 680,000 ADSs). The residence address of Mr. Lin is Flat C, 32/F, Block 8, Aldrich Garden 2, 2 OI Lai Street, Shaukiwan, Hong Kong.
 
(3)   Bloomwell International Limited, a British Virgin Islands company, is wholly-owned by Hiu Kung Ka. The registered address of Bloomwell International Limited is OMC Chambers, P.O. Box 3152 Road Town, Tortola British Virgin Islands.
 
(4)   Goldin International Limited, a British Virgin Islands company, is wholly-owned by Hiu Kung Ka. The registered address of Goldin International Limited is OMC Chambers, P.O. Box 3152 Road Town, Tortola British Virgin Islands.

 

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(5)   Concentra Holdings Limited, a British Virgin Islands company, is wholly-owned by Wai Chau Lin. The registered address of Concentra Holdings Limited is OMC Chambers, P.O. Box 3152 Road Town, Tortola British Virgin Islands.
 
(6)   Prime Peak Limited, a British Virgin Islands company, is wholly-owned by Wai Chau Lin. The registered address of Prime Peak Limited is OMC Chambers, P.O. Box 3152 Road Town, Tortola British Virgin Islands.
 
(7)   Well Active International Limited, a British Virgin Islands company, holds ordinary shares for certain employees of our company. Well Active is owned by Yingling Li, Zulian Zhang and Ni Chen, as nominees holding the shares on behalf of Bloomwell International Limited, a company wholly-owned by Mr. Hiu Kung Ka. See also note (1) to this table above. The registered address of Well Active International Limited is Portcullis TrustNet Chambers, P.O. Box 3444, Road Town, Tortola, British Virgin Islands.
 
(8)   Shareholding information for Tiger Global Management, LLC is provided as of January 19, 2010, based upon the public filings of Tiger Global Management, LLC, and consists of (i) 1,521,789 ordinary shares (represented by 1,521,789 ADSs) directly owned by Tiger Global Private Investment Partners III, L.P., (ii) 946,060 ordinary shares (represented by 946,060 ADSs) directly owned by Tiger Global Private Investment Partners IV, L.P., (iii) 525,369 ordinary shares (represented by 525,369 ADSs) directly owned by Tiger Global, L.P., (iv) 19,741 ordinary shares (represented by 19,741 ADSs) directly owned by Tiger Global II, L.P., and (v) 386,531 ordinary shares (represented by 386,531 ADSs) directly owned by Tiger Global Master Fund, L.P. Tiger Global Management, LLC is the investment manager of each of Tiger Global Private Investment Partners III, L.P., Tiger Global Private Investment Partners IV, L.P., Tiger Global L.P., Tiger Global II L.P., and Tiger Global Master Fund, L.P. Charles P. Coleman III is the managing member of Tiger Global Management, LLC. The business address of Tiger Global Management, LLC is 101 Park Avenue, 48th Floor, New York, NY 10178.
 
(9)   Shareholding information for Stephen F. Mandel, Jr. is provided as of March 25, 2010, based upon the public filings of Stephen F. Mandel, Jr., and consists of (i) 47,772 ordinary shares (represented by ADSs) directly owned by Lone Spruce, L.P., (ii) 104,831 ordinary shares (represented by ADSs) directly owned by Lone Balsam, L.P., (iii) 87,578 ordinary shares (represented by ADSs) directly owned by Lone Sequoia, L.P., (iv) 526,356 ordinary shares (represented by ADSs) directly owned by Lone Redwood, L.P., (v) 813,169 ordinary shares (represented by ADSs) directly owned by Lone Dragon Pine, L.P., (vi) 476,673 ordinary shares (represented by ADSs) directly owned by Lone Picea, L.P. and (vii) 1,037,215 ordinary shares (represented by ADSs) beneficially owned by Lone Pine Capital LLC, which serves as investment manager to Lone Cypress, Ltd., Lone Cedar, Ltd., Lone Pinon, Ltd. and Lone Himalayan Pine Master Fund, Ltd. Lone Pine Associates LLC is the general partner of Lone Spruce, L.P., Lone Balsam, L.P., Lone Sequoia, L.P. and Lone Redwood, L.P. Lone Pine Members is the general partner of Long Dragon Pine, L.P. and Lone Picea, L.P. Stephen F. Mandel, Jr. is the managing member of each of Lone Pine Associates LLC, Lone Pine Members LLC and Lone Pine Capital LLC. The business address for Stephen F. Mandel, Jr. is Two Greenwich Plaza, Greenwich, Connecticut 06830.
 
(10)   Shareholding information for FMR LLC is provided as of December 31, 2009, based upon the public filing of FMR LLC, and consists of (i) 7,738,136 ordinary shares beneficially owned by Fidelity Management & Research Company, a wholly-owned subsidiary of FMR LLC and an investment advisor, (ii) 567,586 ordinary shares beneficially owned by Strategic Advisors, Inc., a wholly-owned subsidiary of FMR LLC and an investment advisor to individuals, and (iii) 3,000 ordinary shares beneficially owned by Pyramis Global Advisors Trust Company, an indirect wholly-owned subsidiary of FMR LLC, a bank and an investment manager of institutional accounts. The 7,738,136 ordinary shares beneficially owned by Fidelity Management & Research Company consists of shares beneficially owned by various investment companies that it advises, including 4,261,208 ordinary shares beneficially owned by Fidelity Variable Insurance Products Mid Cap Portfolio. Edward C. Johnson 3d is the Chairman of FMR LLC and members of his family, through share ownership and a shareholder’s voting agreement, may be deemed to form a controlling group with respect to FMR LLC. The business address of FMR LLC is 82 Devonshire Street, Boston, Massachusetts 02109.
 
(11)   The registered address of Power Extra (PTC) Limited is Palm Grove House, P.O. Box 438, Road Town, Tortola, British Virgin Islands.
None of our existing shareholders has different voting rights from other shareholders. We are not aware of any arrangement that may, at a subsequent date, result in a change of control of our company.

 

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B. Related Party Transactions
Cancellation of Well Active Promissory Notes.
In February 2006, with our approval, Bloomwell, which is controlled by Hiu Kung Ka, our Chairman, transferred 6,000,000 of its ordinary shares to Well Active, which holds the shares for issuance under our share incentive plan. Well Active is owned by three of our employees who act as nominee shareholders at the direction of Mr. Ka. In November 2006, we cancelled, with the agreement of the various holders, 4,890,750 RSU equity awards, which had been previously issued by us and were all the RSUs then outstanding. At the same time, Well Active granted to the holders of the RSUs whose RSUs had been cancelled interests in 4,890,750 ordinary shares of our company, at a cost to the recipient of $4.83 per ordinary share, with immediate vesting and without resale restrictions, and granted interests in 30,000 ordinary shares without any cost to the recipient. As consideration for the transfer of 4,890,750 of the ordinary shares, Well Active received from each of the holders a promissory note in the amount of $4.83 per ordinary share, with interest at 150 basis points above the Bank of China lending rate. In December 2006, Well Active granted to employees of our company interests at a cost of $4.83 per ordinary share in an additional 60,000 ordinary shares of our company, and received a promissory note as consideration for the 60,000 ordinary shares. Compensation expense was calculated as the excess of the fair value of the ordinary shares on the grant date over the amount of the promissory notes. As a result of these grants, during the year ended December 31, 2006, we recorded $2.9 million compensation expense, as Bloomwell was considered a significant shareholder of our company. In October 2007, Well Active cancelled the promissory notes and accrued interest with respect to 4,790,550 of the ordinary shares, which resulted in our recording share-based compensation expense of $24.8 million during the year ended March 31, 2008. During the year ended March 31, 2008, 160,200 ordinary shares were returned by employees to Well Active. No amounts under promissory notes were due by employees to Well Active as of March 31, 2008, 2009 or 2010.
The LTI Spin-Off and Related Arrangements
In February 2006, Longtop International Holdings Limited, or LTI, was set up by our subsidiary Longtop BVI and three other shareholders, Shuangjian Chen, Yufeng Liang and Neil Fitzgerald, referred to collectively as the LTI US Founders. In January 2007, the LTI US Founders sold all their LTI shares to Longtop BVI. In March 2007, LTI acquired Minecode LLC, or Minecode, from all of the former Minecode members, or Former Minecode Members. In July 2007, pursuant to a distribution agreement with our shareholders, we disposed of LTI, and its subsidiaries (including Minecode), when we distributed LTI’s shares to our shareholders by way of a pro rata dividend.
The related LTI and Minecode acquisition agreements contained earn-out provisions. Depending on LTI’s and Minecode’s respective financial performance, Longtop BVI is contingently liable to pay to (i) the LTI US Founders, up to 423,665 ordinary shares of which 183,767 shares and 239,898 shares are payable for the financial performance in calendar year 2007 and 2008, respectively, and $821,124 in cash, payable for the financial performance in calendar year 2008, and (ii) the Former Minecode Members, up to 155,442 ordinary shares of which 46,632 shares are based on employment and 108,810 shares are based on financial performance for the 12 months ended March 11, 2009 and $4.1 million in cash payable for the financial performance for the 12 months ended March 11, 2008 of which $2,100,000 was placed in escrow by LTI prior to the spin-off. Through Longtop BVI, we guaranteed these earn-out obligations totaling up to 579,107 ordinary shares and $2,781,124 in cash (after giving effect to the escrowed cash amounts).
On September 12, 2007, to fully fund our potential contingent obligation of 579,107 shares and $2,781,124 in cash, our board declared a dividend to our shareholders, payable prior to completion of our initial public offering, in cash and shares equal to the maximum LTI and Minecode earn-out amounts, or the Earn-out Dividend. Our shareholders, which were then the same as LTI’s shareholders, were required either to contribute their share of the Earn-out Dividend to LTI or hold their dividend in escrow. To the extent the actual LTI and Minecode earn-out obligations (based on actual business performance) are less than the escrowed amounts, the excess cash and shares will be distributed by LTI or released from escrow, as applicable, to the LTI shareholders on a pro rata basis.
On September 12, 2007, we, the LTI US Founders and LTI agreed to modify certain LTI US Founder equity and other arrangements. These arrangements and, among other things, our expected accounting treatment for each is as follows:
The existing rights of the LTI US Founders to acquire, in total, 315,000 of our shares pursuant to existing stock options and existing agreements to acquire 300,000 of our ordinary shares from Well Active were cancelled. As the vesting of these shares was contingent upon the consummation of an initial public offering, we did not recognize any compensation expense associated with the grant of such shares. As such, the cancellation will not have any impact on our consolidated financial statements.

 

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We confirmed that the LTI US Founder’s unvested options to acquire 107,250 of our ordinary shares with a $3.00 per share exercise price were permitted to continue to vest. LTI continued to recognize compensation expense related to these options over the remaining vesting period, as we do not believe that a spin-off transaction changes the accounting for such options. These options continued to be classified as equity awards because we intended to settle the options in shares and have a sufficient number of unissued and authorized ordinary shares that would allow for settling of the outstanding options in shares.
The LTI US Founders exercised 107,250 vested options to purchase our ordinary shares and we purchased the shares for a net purchase price of $929,500, payable no later than January 31, 2008. As a result, we accounted for the net cash settlement of the 107,250 vested options on our consolidated balance sheets as a liability as of September 12, 2007.
We guaranteed LTI payment obligations totaling $1,225,000, or the $1,225,000 obligation, to the LTI US Founders. Our company recorded the $1,225,000 as loss from discontinued operations during the three months ended September 30, 2007.
Also, prior to the LTI spin-off, we issued to LTI employees options to purchase 581,850 of our ordinary shares at an exercise price of $6.43 per share, of which 108,980 options remain outstanding as of March 31, 2010.
In addition, on September 12, 2007, our board of directors:
    Declared a $1,225,000 cash dividend, which our shareholders contributed to LTI and LTI, in turn, used the cash to settle the $1,225,000 Obligation to the LTI US Founders. As the $1,225,000 had already been recorded as an expense (and a corresponding liability), the distribution to LTI had no impact on our consolidated financial statements other than to reduce cash and reduce the associated liability.
    Declared a dividend of 150,000 of our ordinary shares payable to our shareholders to be contributed by the shareholders to LTI for use by LTI for future LTI employee and consultant equity incentives. We recorded this as a dividend at fair value.
    Approved the terms of the management and services agreement between us and LTI (described below).
To the extent LTI or our shareholders do not satisfy the obligations to the LTI US Founders or the Former Minecode Members, we will be liable. However, as we have transferred to LTI all cash and shares required to satisfy the associated obligations, we believe that our incurrence of any further liability in conjunction with those guarantees is remote. As of March 31, 2010, with respect to LTI we have no contingent obligations for the issuance of ordinary shares and we have no contingent obligations for cash payments except for $78,000, which was paid by LTI subsequent to March 31, 2010.
Subsequent to the completion of the foregoing arrangements, our contingent obligations in relation to LTI consisted of (1) $4 million in cash, consisting of (a) our guarantee that LTI would pay $1,2 million to the LTI US Founders, (b) $0.8 million in contingent consideration related to the 48.75% acquisition of LTI and (c) $2 million for the unescrowed portion of the contingent consideration and compensation arrangements related to the acquisition of Minecode and (2) 728,973 ordinary shares, consisting of (a) 423,665 ordinary shares in contingent consideration related to the 48.75% acquisition of LTI, (b) 155,308 ordinary shares in contingent consideration and retention shares related to the acquisition of Minecode and (c) 150,000 ordinary shares to be issued to LTI for its future use in connection with LTI incentive grants. These contingent obligations were provided for in full by the above-described dividends and contributions.

 

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Prior to our distribution of LTI to our shareholders, we had issued to LTI employees options to purchase 581,850 ordinary shares of our company at a $6.43 per share exercise. At March 31, 2009 and March 31, 2010, 154,325 and 108,980, respectively, of the options issued to LTI employees were outstanding. As of March 31, 2010, we have no contingent obligations related to LTI for the issue of ordinary shares.
On September 24, 2007, we entered into a management and services agreement with LTI. Under this agreement we provide certain managerial, finance and accounting services to LTI, in return for (i) $15,000 per month for accounting services; (ii) $10,000 per month for assistance from certain members of our senior management, including our chief executive officer and chief financial officer; and (iii) market rates for the services of our outsourcing services team. In addition, LTI will be entitled to use the name “Longtop” in its business without charge, subject to our right to reconsider from time to time the royalty-free nature of this use.
In March 2009, we amended the September 24, 2007 management and services agreement with LTI. Under the amendment, (i) effective from January 1, 2009, we reduced our fixed management fee from $25,000 to $1,000 per month for our basic accounting services, and (ii) effective from April 1, 2008, we charge LTI and its affiliates for our outsourcing delivery services at a rate equal to our cost plus a 5% markup. The 5% markup excludes business taxes which would be charged by us to LTI separately. Our cost includes allocated direct overhead and direct department costs but excludes share based compensation and is calculated based on our allocated general and administrative expenses plus a 15% markup.
Other services revenue for the years ended March 31, 2008, 2009 and 2010 include $125,000, $1,936,000 and $2,814,000, respectively, for services provided by Longtop to LTI. The amount due from related parties of $1,029,000 at March 31, 2010 is due from LTI for services provided by us. The amounts due to related parties of $17,000 and $156,000 at March 31, 2009 and March 31, 2010 is due to LTI for travel expenses paid on our behalf. Balances due to related parties are unsecured, interest-free and have no fixed repayment terms.
As of the date of this annual report, (i) one of our Vice Presidents and two of our directors also serve on LTI’s board of directors, including Hiu Kung Ka, our chairman, and Wai Chau Lin, our chief executive officer who also serves as LTI’s chairman; and (ii) Derek Palaschuk, our chief financial officer, who also serves as the secretary of LTI.
On June 1, 2010, Bloomwell, which is wholly-owned by Mr. Hiu Kung Ka, Chairman of our board of directors, transferred 3,000,000 ordinary shares of our company to a nominee of Power Extra (PTC) Limited, or Power Extra, a British Virgin Islands corporation that is the sole trustee of The Sunshine Trust, or the Trust. The Trust was established for the purpose of holding and gifting these ordinary shares from time to time to persons including our current employees who are or may become beneficiaries of the Trust. The board of directors of Power Extra consists of three of our employees who administer the Trust at the direction of Mr. Hiu Kung Ka.
Item 8. Financial Information
Consolidated Financial Statements and Other Financial Information
See Item 18. “Financial Statements” and our audited consolidated financial statements filed as part of this annual report.
Legal Proceedings
We are subject to legal proceedings, investigations and claims incidental to the conduct of our business from time to time. We are not currently a party to, nor are we aware of, any legal proceeding, investigation or claim which, in the opinion of our management, is likely to have a material adverse effect on our business, financial condition or results of operations.

 

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Dividend Policy
We declared and paid dividends to holders of our ordinary shares in the amount of $0.08 and $0.03 per share, respectively, for 2004 and 2005. We recently made certain dividend distributions to our shareholders consisting of approximately $2.8 million in cash, $12.2 million in net assets and 728,973 ordinary shares of our company in connection with our disposition of LTI. Also see “Item 7. Major Shareholders and Related Party Transactions — Related Party Transactions — The LTI Spin-Off and Related Arrangements.”
We do not have any present plan to pay any further cash dividends on our ordinary shares in the near future. We currently intend to retain most, if not all, of our available funds and any future earnings to operate and expand our business.
Our board of directors has complete discretion whether to distribute dividends, subject to the approval of our shareholders. Even if our board of directors decides to pay dividends, the form, frequency and amount will depend upon our future operations and earnings, capital requirements and surplus, general financial condition, contractual restrictions and other factors that the board of directors may deem relevant. If we pay any dividends, we will pay our ADS holders to the same extent as holders of our ordinary shares, subject to the terms of the deposit agreement, including the fees and expenses payable thereunder. Cash dividends on our ordinary shares, if any, will be paid in U.S. dollars.
Significant Changes
No significant change has occurred since March 31, 2010, the date of the audited consolidated financial statements included in this annual report, other than those listed in Item 19, “Exhibits” and as described below:
Item 9. The Offer and Listing
Offer and Listing Details
General
Our ADSs trade on the New York Stock Exchange under the symbol “LFT.” The depositary for our ADSs is Deutsche Bank Trust Company Americas. As of May 31, 2010, there were a total of 41,455,949 ADSs outstanding.
Trading on the New York Stock Exchange
Public trading of our ADSs commenced on October 25, 2007. Each ADS represents one of our ordinary shares.
For the fiscal year ended March 31, 2010, the last reported sale prices for our ADSs on the New York Stock Exchange ranged from a high of $40.94 to a low of $20.94 per ADS. For the fiscal year ended March 31, 2009, the last reported sale prices for our ADSs on the New York Stock Exchange ranged from a high of $21.67 to a low of $11.08 per ADS.

 

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The table below sets forth, for the periods indicated, the high and low last reported sale prices for our ADSs on the New York Stock Exchange, during the period indicated.
                 
    High     Low  
    US$     US$  
Most Recent Fiscal Quarters
               
July 1, 2010 through July 15, 2010 (partial quarter)
    33.81       31.60  
April 1, 2010 through June 30, 2010
    37.85       28.83  
January 1, 2010 through March 31, 2010
    40.94       30.22  
October 1, 2009 through December 31, 2009
    38.40       26.50  
July 1, 2009 through September 30, 2009
    31.57       22.61  
April 1, 2009 through June 30, 2009
    30.00       20.94  
January 1, 2009 through March 31, 2009
    21.67       13.53  
October 1, 2008 through December 31, 2008
    16.35       11.08  
July 1, 2008 through September 30, 2008
    19.00       13.51  
April 1, 2008 through June 30, 2008
    20.45       16.56  
January 1, 2008 through March 31, 2008
    22.99       14.32  
October 25, 2007 (commencement of trading) through December 31, 2008
    29.95       20.30  
 
               
Most Recent Six Months
               
July 2010 (through July 15)
    33.81       31.60  
June 2010
    35.50       29.29  
May 2010
    34.55       28.83  
April 2010
    37.85       34.15  
March 2010
    36.87       30.22  
February 2010
    35.14       31.32  
January 2010
    40.94       34.66  
On July 15, 2010, the last sale price per ADS on the New York Stock Exchange was $31.76.
Item 10. Additional Information
Memorandum and Articles of Association
The information called for by Item 10B “Memorandum and Articles of Association” is incorporated by reference to the information under the heading “Description of Share Capital — Ordinary Shares and Differences in Corporate Law” in our Registration Statement on Form F-3 (file no. 333-163137), as filed with the SEC on November 16, 2009.
Material Contracts
We have not entered into any material contracts within the past two fiscal years other than in the ordinary course of business, or other than those listed in Item 19, “Exhibits” and described elsewhere in this annual report, and as described below.
Exchange Controls
The principal regulation governing foreign currency exchange in China is the Foreign Currency Administration Rules (1996), as amended. Under these rules, the Renminbi is freely convertible for trade and service-related foreign exchange transactions, but not for direct investment, loans or investments in securities outside China without the prior approval of the State Administration of Foreign Exchange of the People’s Republic of China, or SAFE. In addition, the aggregate of (i) the balance of an foreign-invested enterprise’s short-term loans from outside China, (ii) the cumulative medium / long-term loans from outside China, and (iii) the balance of the loans guaranteed by any entity or individual outside China, shall not exceed the difference of the foreign-invested enterprise’s total investment and registered capital.
Pursuant to the Foreign Currency Administration Rules, foreign-invested enterprises in China may purchase foreign exchange without the approval of SAFE for trade and service-related foreign exchange transactions by providing commercial documents evidencing these transactions. They may also retain foreign exchange, subject to a cap approved by SAFE, to satisfy foreign exchange liabilities or to pay dividends. However, the relevant Chinese government authorities may limit or eliminate the ability of foreign-invested enterprises to purchase and retain foreign currencies in the future. In addition, foreign exchange transactions for direct investment, loan and investment in securities outside China are still subject to limitations and require approvals from SAFE.

 

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Taxation
The following discussion summarizes certain Cayman Islands tax and United States federal income tax consequences of the acquisition, ownership and disposition of our ADSs or ordinary shares based upon laws and relevant interpretations thereof in effect as of the date of this annual report, all of which are subject to change. Although the following discussion does not purport to describe all of the tax considerations that may be relevant to a prospective purchaser of our ADSs or shares, this discussion summarizes certain Cayman Islands tax consequences to a holder of ADSs or shares that is not resident (in the case of an individual) or domiciled (in the case of a legal entity) in the Cayman Islands (in either case, referred to herein as “not resident” or as a “non-resident”) and does not have a permanent establishment or fixed base located in the Cayman Islands through which such ADSs or shares are held, and certain material United States federal income tax consequences to a U.S. Holder (as that term is defined below) of ADSs or shares that is not resident (in the case of an individual) or domiciled (in the case of a legal entity) in the Cayman Islands (in either case, referred to herein as “not resident” or as a “non-resident”) and does not have a permanent establishment or fixed base located in the Cayman Islands through which such ADSs or shares are held.
Cayman Islands Taxation
The Cayman Islands currently levies no taxes on individuals or corporations based upon profits, income, gains or appreciation and there is no taxation in the nature of inheritance tax or estate duty. There are no other taxes likely to be material to us levied by the Government of the Cayman Islands except for stamp duties which may be applicable on instruments executed in, or brought within the jurisdiction of the Cayman Islands. The Cayman Islands is not party to any double tax treaties. There are no exchange control regulations or currency restrictions in the Cayman Islands.
United States Federal Income Taxation
The following is a general summary of the material U.S. federal income tax considerations related to the purchase, ownership and disposition of our ADSs or ordinary shares. This summary deals only with persons or entities that are “U.S. Holders” (as defined below) who hold our ADSs or ordinary shares as capital assets within the meaning of section 1221 of the United States Internal Revenue Code. This summary does not address all aspects of United States federal income taxation that may be applicable to U.S. Holders in the light of their particular circumstances or to shareholders subject to special treatment under United States federal income tax law, such as (without limitation):
    banks, insurance companies, and other financial institutions;
    dealers in securities or foreign currencies;
    regulated investment companies;
    traders in securities that mark to market;
    U.S. expatriates;
    Non-U.S. persons and entities;
    tax-exempt entities;
    persons liable for alternative minimum tax;
    persons holding an ADS or ordinary share as part of a straddle, appreciated financial position, synthetic security, hedge, conversion transaction or other integrated investment;
    persons holding an ADS or ordinary share as a result of a constructive sale;
    persons holding an ADS or ordinary share whose functional currency is not the United States dollar;

 

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    persons who are considered with respect to Longtop or any of our non-United States subsidiaries as “United States shareholders” for purposes of the “controlled foreign corporation” (“CFC”) rules of the Internal Revenue Code (generally, a United States person who owns or is deemed to own 10% or more of the total combined voting power of all classes of shares entitled to vote of Longtop or any of our non-United States subsidiaries);
    persons who acquire an ADS or ordinary share pursuant to the exercise of any employee stock options or otherwise as compensation; or
    entities that acquire an ADS or ordinary share that are treated as partnerships for United States federal income tax purposes and investors (i.e., partners) in such partnerships.
Furthermore, this summary does not address any aspect of state, local or foreign tax laws or the alternative minimum tax provisions of the United States Internal Revenue Code.
If an entity treated as a partnership holds our ADSs or ordinary shares, the tax treatment of the partners will generally depend on the status of the partner and the activities of the partnership. If you are a partner of a partnership holding our ADSs or ordinary shares, you should consult your tax advisor.
PROSPECTIVE PURCHASERS ARE STRONGLY URGED TO CONSULT THEIR OWN TAX ADVISORS AS TO THE SPECIFIC TAX CONSEQUENCES OF THE PURCHASE, OWNERSHIP AND DISPOSITION OF OUR ADSs OR ORDINARY SHARES TO THEM, INCLUDING THE APPLICABLE U.S. FEDERAL, STATE AND LOCAL AND FOREIGN TAX CONSEQUENCES OF THE PURCHASE, OWNERSHIP AND DISPOSITION OF ADSs OR ORDINARY SHARES TO THEM AND THE EFFECT OF POSSIBLE CHANGES IN TAX LAWS.
The discussion below of the United States federal income tax consequences to “U.S. Holders” will apply if you are the beneficial owner of ADSs or ordinary shares and you are, for United States federal income tax purposes:
    an individual who is a citizen or resident of the United States;
    a corporation (or other entity taxable as a corporation) organized under the laws of the United States, any State thereof or the District of Columbia;
    an estate whose income is subject to U.S. federal income taxation regardless of its source; or
    a trust that (1) is subject to the primary supervision of a court within the United States and the control of one or more U.S. persons for all substantial decisions or (2) has a valid election in effect under applicable U.S. Treasury regulations to be treated as a U.S. person.
The discussion below assumes that the representations contained in the deposit agreement are true and that the obligations in the deposit agreement and any related agreement will be complied with in accordance with the terms.
Treatment of a Holder of our ADSs as a Holder of the Underlying Ordinary Shares
If you hold ADSs, you should be treated as the holder of the underlying ordinary shares represented by those ADSs for U.S. federal income tax purposes. You may not, however, be treated as the holder of the underlying shares because you may not have all the material indicia of beneficial ownership (such as full voting rights, entitlement to dividends and the ability to freely exchange the ADSs for the underlying shares) of the underlying ordinary shares. Specifically, you may not have the ability to vote the ordinary shares underlying the ADSs in certain circumstances. See “Item 12. Description of Securities Other than Equity Securities – American Depositary Shares.” If you are not properly treated as the holder of the underlying ordinary shares represented by the ADSs, dividends received from us may not be treated as dividends for U.S. federal income tax purposes and then, accordingly, the lower tax rate with respect to qualified dividend income (discussed below) would not be available.

 

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Additionally, actions taken by certain intermediaries may affect whether a holder of the ADSs is treated as the holder of the underlying ordinary shares represented by the ADSs. The U.S. Treasury has expressed concern that U.S. holders of American Depositary Receipts, or “ADRs,” may be claiming foreign tax credits in situations where an intermediary in the chain of ownership between the holder of an ADR and the issuer of the security underlying the ADR has taken actions inconsistent with the ownership of the underlying security by the person claiming the credit, such as a disposition of such security. Such actions would also be inconsistent with the claiming of the qualified dividend income rate by certain non-corporate U.S. Holders, as described below. Accordingly, the availability of the qualified dividend income rate for dividends received by certain non-corporate U.S. Holders could be affected by future actions that may be taken by the U.S. Treasury and/or intermediaries in the chain of ownership between the holder of the ADSs and our company.
Taxation of Dividends and Other Distributions on the ADSs or Ordinary Shares
Subject to the passive foreign investment company rules discussed below under “Passive Foreign Investment Company,” the gross amount of distributions made by us with respect to the ADSs or ordinary shares generally will be included in your gross income in the year received as ordinary dividend income, but only to the extent that the distribution is treated as paid out of our current or accumulated earnings and profits (as determined under U.S. federal income tax principles). Such dividends would generally not be eligible for the dividends-received deduction allowed to corporations in respect of dividends received from other U.S. corporations.
To the extent that the amount of the distribution exceeds our current and accumulated earnings and profits (as determined under U.S. federal income tax principles), it will be treated first as a tax-free return of your tax basis in your ADSs or ordinary shares, and to the extent the amount of the distribution exceeds your tax basis, the excess will be taxed as capital gain. However, we do not intend to calculate our earnings and profits under U.S. federal income tax principles. Therefore, a U.S. Holder should expect that a distribution will generally be treated as a dividend even if that distribution would otherwise be treated as a non-taxable return of capital or as capital gain under the rules described above.
Under current law and with respect to non-corporate U.S. Holders, including individual U.S. Holders, for taxable years beginning before January 1, 2011, dividends may be “qualified dividend income” that is taxed at the reduced maximum rate of 15%, provided that certain conditions are satisfied, including: (1) the ADSs or ordinary shares are readily tradable on an established securities market in the United States, (2) we are not a passive foreign investment company for either the taxable year in which the dividend is paid or the preceding taxable year, and (3) certain holding period requirements are met. Internal Revenue Service authority indicates that common or ordinary stock, or an American depositary receipt in respect of such stock, is considered for purposes of clause (1) above to be readily tradable on an established securities market in the United States when it is listed on the New York Stock Exchange.
There is no assurance, however, that any dividends paid on our ADSs or ordinary shares will be eligible for the reduced tax rate. In the past, legislation has been introduced in the United States Senate and House of Representatives which, if enacted in the form presented, would preclude our dividends from qualifying for such reduced tax rate prospectively from the date of enactment, even if our ADSs or ordinary shares are considered to be readily tradable on an established securities market in the United States. Any dividends paid by us that are not eligible for the preferential rate will be taxed as ordinary income to a non-corporate U.S. Holder. You should consult your tax advisors regarding the availability of the qualified dividend income rate with respect to our ADSs or ordinary shares, including the effects of any change in law after the date of this registration statement.
Dividends will constitute foreign source income for foreign tax credit limitation purposes. The limitation on foreign taxes eligible for credit is calculated separately with respect to specific classes of income. For this purpose, dividends distributed by us with respect to the ADSs or ordinary shares will be “passive category income” or, in the case of certain U.S. Holders, “general category income.”

 

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Taxation of a Disposition of ADSs or Ordinary Shares
Subject to the passive foreign investment company rules discussed below under “Passive Foreign Investment Company,” you will recognize taxable gain or loss on any sale, exchange or other taxable disposition of an ADS or ordinary share equal to the difference between the amount realized (in U.S. dollars) for the ADS or ordinary share and your tax basis (in U.S. dollars) in the ADS or ordinary share. The gain or loss generally will be capital gain or loss. If you are a non-corporate U.S. Holder, including an individual U.S. Holder, who has held the ADS or ordinary share for more than one year, you will be eligible for reduced long-term capital gains tax rates. The deductibility of capital losses is subject to limitations. Any such gain or loss that you recognize will generally be treated as U.S. source gain or loss for foreign tax credit limitation purposes.
Passive Foreign Investment Company
For the reasons described below, at this time it is not possible to predict with reasonable certainty whether we will be a PFIC for U.S. federal income tax purposes for the current taxable year ended March 31, 2011. That determination cannot be made until the close of such year.
A non-U.S. corporation is considered a PFIC for any taxable year if either:
    at least 75% of its gross income is passive income (the “Income Test”), or
    at least 50% of the value of its assets (based on an average of the quarterly values of the assets during a taxable year) is attributable to assets that produce or are held for the production of passive income (the “Asset Test”).
We will be treated as owning our proportionate share of the assets and earning our proportionate share of the income of any other corporation in which we own, directly or indirectly, 25% or more (by value) of the stock.
Whether we are a PFIC is determined annually, at the end of each taxable year. As a result, it is possible that our PFIC status will change. In particular, our PFIC status under the Asset Test will generally be determined by using the market price of our ADSs and ordinary shares, which is likely to fluctuate over time, to calculate the total value of our assets. Accordingly, fluctuations in the market price of the ADSs or ordinary shares may result in our being a PFIC. In addition, the application of the PFIC rules is subject to uncertainty in several respects and the composition of our income and assets will be affected by how, and how quickly, we spend the substantial amount of cash that we currently have on hand. If we are classified as a PFIC for any year during which you hold ADSs or ordinary shares, we will generally continue to be treated as a PFIC for all succeeding years during which you hold ADSs or ordinary shares. However, if we cease to be a PFIC under the Income Test and Asset Test, you may make certain elections, including the “mark-to-market” election as discussed below, to avoid PFIC status on a going forward basis.
If we are a PFIC for any taxable year during which you hold ADSs or ordinary shares, you will be subject to special tax rules with respect to any “excess distribution” that you receive and any gain you realize from a sale or other disposition (including a pledge) of the ADSs or ordinary shares, unless you make a “mark-to-market” election. Distributions you receive in a taxable year that are greater than 125% of the average annual distributions you received during the shorter of the three preceding taxable years or your holding period for the ADSs or ordinary shares will be treated as an excess distribution. Under these special tax rules:
    the excess distribution or gain will be allocated ratably over your holding period for the ADSs or ordinary shares,
    the amount allocated to the current taxable year, and any taxable year prior to the first taxable year in which we were a PFIC, will be treated as ordinary income, and
    the amount allocated to each other year will be subject to the highest tax rate in effect for that year and the interest charge generally applicable to underpayments of tax will be imposed on the resulting tax attributable to each such year.

 

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The tax liability for amounts allocated to years prior to the year of disposition or “excess distribution” cannot be offset by any net operating losses for such years, and gains (but not losses) realized on the sale of the ADSs or ordinary shares cannot be treated as capital, even if you hold the ADSs or ordinary shares as capital assets.
Alternatively, a U.S. Holder of “marketable stock” (as defined below) in a PFIC may make a mark-to-market election for such stock of a PFIC to elect out of the tax treatment discussed in the two preceding paragraphs. If you make a mark-to-market election for the ADSs or ordinary shares, you will include in income each year an amount equal to the excess, if any, of the fair market value of the ADSs or ordinary shares as of the close of your taxable year over your adjusted basis in such ADSs or ordinary shares. You are allowed a deduction for the excess, if any, of the adjusted basis of the ADSs or ordinary shares over their fair market value as of the close of the taxable year. However, deductions are allowable only to the extent of any net mark-to-market gains on the ADSs or ordinary shares included in your income for prior taxable years. Amounts included in your income under a mark-to-market election, as well as gain on the actual sale or other disposition of the ADSs or ordinary shares, are treated as ordinary income. Ordinary loss treatment also applies to the deductible portion of any mark-to-market loss on the ADSs or ordinary shares, as well as to any loss realized on the actual sale or disposition of the ADSs or ordinary shares, to the extent that the amount of such loss does not exceed the net mark-to-market gains previously included for such ADSs or ordinary shares. Your basis in the ADSs or ordinary shares will be adjusted to reflect any such income or loss amounts. If you make a valid mark to market election, the tax rules that apply to distributions by corporations which are not PFICs would apply to distributions by us, except that the lower applicable capital gains rate for qualified dividend income discussed above under “—Taxation of Dividends and Other Distributions on the ADSs or Ordinary Shares” would not apply.
The mark-to-market election is available only for “marketable stock,” which is stock that is traded in other than de minimis quantities on at least 15 days during each calendar quarter (“regularly traded”) on a qualified exchange or other market, as defined in applicable U.S. Treasury regulations. We have listed our ADSs on the New York Stock Exchange and, consequently, provided the ADSs continue to be regularly traded thereon, if you are a holder of ADSs, the mark-to-market election would be available to you were we to be or become a PFIC.
If a non-U.S. corporation is a PFIC, a holder of shares in that corporation may elect out of the general PFIC rules discussed above by making a “qualified electing fund” election to include its pro rata share of the corporation’s income on a current basis. However, you may make a qualified electing fund election with respect to our company only if we agree to furnish you annually with certain tax information and we do not presently intend to prepare or provide such information.
If you hold ADSs or ordinary shares in any year in which we are a PFIC, you will be required to file Internal Revenue Service Form 8621 regarding distributions received on the ADSs or ordinary shares and any gain realized on the disposition of the ADSs or ordinary shares.
You are urged to consult your tax advisor regarding the application of the PFIC rules to your investment in ADSs or ordinary shares.
Information Reporting and Backup Withholding
Dividend payments with respect to ADSs or ordinary shares and proceeds from the sale, exchange or redemption of ADSs or ordinary shares may be subject to information reporting to the Internal Revenue Service and possible U.S. backup withholding at a current rate of 28%, unless the conditions of an applicable exception are satisfied. Backup withholding will not apply to a U.S. Holder who furnishes a correct taxpayer identification number and makes any other required certification or who is otherwise exempt from backup withholding. U.S. Holders who are required to establish their exempt status generally must provide such certification on Internal Revenue Service Form W-9. U.S. Holders should consult their tax advisors regarding the application of the U.S. information reporting and backup withholding rules.
Backup withholding is not an additional tax. Amounts withheld as backup withholding may be credited against your U.S. federal income tax liability, and you may obtain a refund of any excess amounts withheld under the backup withholding rules by timely filing the appropriate claim for refund with the Internal Revenue Service and furnishing any required information.

 

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Available Documents
We are subject to the periodic reporting and other informational requirements of the U.S. Securities Exchange Act of 1934, or the Exchange Act. Under the Exchange Act, we file reports and other information with the SEC.
Copies of reports and other information, when so filed, may be inspected without charge and may be obtained at prescribed rates at the public reference facilities maintained by the Securities and Exchange Commission at Room 100 F Street, NE, Washington, D.C. 20549. You can request copies of these documents upon payment of a duplicating fee, by writing to the SEC. Please call the SEC at 1-800-SEC-0330 for further information on the operation of the public reference rooms. The SEC also maintains an Internet site at http://www.sec.gov that contains reports, proxy and information statements, and other information regarding registrants that make electronic filings with the SEC using its EDGAR system.
We will post our annual and other reports filed with the SEC on our Web site at http://www.longtop.com. As permitted by the Corporate Governance Rules of the New York Stock Exchange for foreign private issuers, we will not furnish hard copies of such reports to holders of our ADSs unless we are requested to do so in writing by a holder.
Subsidiary Information
A listing of our subsidiaries is filed with the SEC as Exhibit 8.1 to this annual report.
Item 11. Quantitative and Qualitative Disclosure About Market Risk
Interest Rate Risk
Our exposure to interest rate risk primarily relates to the interest rates for our outstanding debt and the interest income generated by excess cash invested in liquid investments with original maturities of three months or less. Such interest-earning instruments carry a degree of interest rate risk. We have not used any derivative financial instruments to manage our interest risk exposure. We have not been exposed to material risks due to changes in interest rates. However, our future interest income may be lower than expected due to changes in market interest rates.
Foreign Exchange Risk
Substantially all of our revenues and most of our expenses are denominated in RMB. Our exposure to foreign exchange risk primarily relates to cash and cash equivalents denominated in U.S. dollars as a result of our past issuances of preferred shares through private placements and ordinary shares, represented by ADSs, in our initial public offering and follow-on public offering. We do not believe that we currently have any significant direct foreign exchange risk and have not hedged exposures denominated in foreign currencies or any other derivative financial instruments. Although in general, our exposure to foreign exchange risks should be limited, the value of your investment in our ADSs will be affected by the foreign exchange rate between U.S. dollars and RMB because the value of our business is effectively denominated in RMB, while the ADSs will be traded in U.S. dollars.
The value of the RMB against the U.S. dollar and other currencies may fluctuate and is affected by, among other things, changes in China’s political and economic conditions. Historically, the conversion of RMB into foreign currencies, including U.S. dollars, has been based on rates set by the People’s Bank of China. On July 21, 2005, the PRC government changed its decade-old policy of pegging the value of the RMB to the U.S. dollar. Under the new policy, the RMB is permitted to fluctuate within a narrow and managed band against a basket of certain foreign currencies. This change in policy has resulted in an appreciation of the RMB against the U.S. dollar of approximately 3.4%, 7.0%, 6.9% and 0.1% in 2006, 2007, 2008 and 2009, respectively. Nonetheless, there remains significant international pressure on the PRC government to adopt an even more flexible currency policy, which could result in a further and more significant appreciation of the RMB against the U.S. dollar. To the extent that we need to convert U.S. dollars we received from our initial public offering or our follow-on public offering into RMB for our operations, appreciation of the RMB against the U.S. dollar would have an adverse effect on the RMB amount we receive from the conversion. Assuming we had converted the U.S. dollar denominated cash balance of $62 million as of March 31, 2010 into RMB at the exchange rate of $1.00 for RMB6.8258 as of March 31, 2010, this cash balance would have been RMB 423 million. Assuming a further 1.0% appreciation of the RMB against the U.S. dollar, this cash balance would have decreased to RMB 419 million as of March 31, 2010. We have not used any forward contracts or currency borrowings to hedge our exposure to foreign currency exchange risk.

 

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Item 12. Description of Securities Other Than Equity Securities
American Depositary Shares
Under the Deposit Agreement with our ADS depositary, Deutsche Bank Trust Company Americas, the depositary collects its fees for issuance and cancellation of ADSs directly from investors depositing shares or surrendering ADSs for the purpose of withdrawal or from intermediaries acting for them. The depositary collects fees for making distributions to investors by deducting those fees from the amounts distributed or by selling a portion of distributable property to pay the fees. The depositary may collect its annual fee for depositary services by deduction from cash distributions, or by directly billing investors, or by charging the book-entry system accounts of participants acting for them. The depositary may generally refuse to provide fee-attracting services until its fees for those services are paid.
Persons depositing shares are charged a fee for each issuance of ADSs, including issuances resulting from distributions of shares, share dividends, share splits, bonus and rights distributions and other property, and for each surrender of ADSs in exchange for deposited securities. The fee in each case is US$5.00 for each 100 ADSs, or any portion thereof, issued or surrendered. The depositary also charges a fee of US$2.00 per 100 ADSs for distribution of cash proceeds pursuant to a cash distribution, sale of rights and other entitlements or otherwise. The depositary may also charge an annual fee of US$2.50 (previously US$3.0) per 100 ADSs for the operation and maintenance costs in administering the facility. Persons depositing shares also may be charged the following expenses.
    Expenses incurred by the depositary, the custodian or their respective agents in connection with inspections of the relevant share register maintained by the local registrar and/or performing due diligence on the central securities depository: an annual fee of $1.00 per 100 ADSs (such fee to be assessed against holders of record as at the date or dates set by the depositary as it sees fit and collected at the discretion of the depositary, subject to our prior consent, by billing such holders for such fee or by deducting such fee from one or more cash dividends or other cash distributions)
    Taxes and other governmental charges incurred by the depositary or the custodian on any ADR or ordinary shares underlying an ADR, including any applicable interest and penalties thereon, and any share transfer or other taxes and other governmental charges
    Cable, telex, electronic transmission and delivery expenses
    Transfer or registration fees for the registration of transfer of deposited securities on any applicable register in connection with the deposit or withdrawal of deposited securities including those of a central depository for securities (where applicable)
    Expenses of the depositary in connection with the conversion of foreign currency into U.S. dollars
    Fees and expenses incurred by the depositary in connection with compliance with exchange control regulations and other regulatory requirements applicable to the shares, deposited securities and ADSs; and
    Any other fees, charges, costs or expenses that may be incurred by the depositary from time to time
In the case of cash distributions, fees are generally deducted from the cash being distributed. Service fees may be collected from holders of ADSs in a manner determined by the depositary with respect to ADSs registered in the name of investors (whether certificated or in book-entry form) and ADSs held in brokerage and custodian accounts (via DTC). In the case of distributions other than cash (i.e., stock dividends, rights, etc.), the depositary charges the applicable ADS record date holder concurrent with the distribution. In the case of ADSs registered in the name of the investor (whether certificated or in book-entry form), the depositary sends invoices to the applicable record date ADS holders.

 

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In the case of ADSs held in brokerage and custodian accounts (via DTC), the depositary may, if permitted by the settlement systems provided by DTC, collect the fees through such settlement systems (whose nominee is the registered holder of the ADSs held in DTC) from the brokers and custodians holding ADSs in their DTC accounts. The brokers and custodians who hold their clients’ ADSs in DTC accounts in such case may in turn charge their clients’ accounts the amount of the service fees paid to the depositary.
In the event of refusal to pay the service fee, the depositary may, under the terms of the deposit agreement, refuse the requested service until payment is received or may set off the amount of the service fee from any distribution to be made to the ADS holder.
If any tax or other governmental charge is payable by the holders and/or beneficial owners of ADSs to the depositary, the depositary, the custodian or we may withhold or deduct from any distributions made in respect of deposited securities and may sell for the account of the holder and/or beneficial owner any or all of the deposited securities and apply such distributions and sale proceeds in payment of such taxes (including applicable interest and penalties) or charges, with the holder and the beneficial owner thereof remaining fully liable for any deficiency.
The fees described above may be amended from time to time.
The depositary has agreed to pay for certain expenses we incur that are related to establishment and maintenance of the ADR program, including investor relations expenses, stock exchange application, listing fees and other expenses associated with being a publicly listed company. During the year ended March 31, 2010, the depositary paid $944,267 in such expenses related to the establishment and maintenance of the ADR program.
PART II
Item 13. Defaults, Dividend Arrearages and Delinquencies
Not applicable.
Item 14. Material Modifications to the Rights of Security Holders and Use of Proceeds
Use of Proceeds
The initial public offering of our ADSs by us and certain selling shareholders, pursuant to a registration statement on Form F-1 (File No. 333-146437), closed on October 29, 2007. The registration statement was declared effective by the SEC on October 23, 2007. We received net proceeds (after deducting underwriting discounts and commissions and other expenses related to the offering) of approximately $146.5 million from the offering and sale by Longtop of 8,999,675 ADSs. None of the transaction expenses included payments to our directors, executive officers, persons owning 10% or more of our equity securities or our affiliates. Goldman Sachs (Asia) L.L.C, Deutsche Bank Securities, Inc., and Jefferies & Company, Inc. were the underwriters for the offering. We did not receive any proceeds from the sale of our ADSs by the selling shareholders. On October 5, 2007, we declared a $30 million cash dividend payable to our shareholders as of that date, subject to completion our initial public offering. In November 2007, we paid the dividend to our shareholders as of October 5, 2007, using proceeds from the initial public offering.
On November 23, 2009, we closed a follow-on public offering of our 4,255,000 ADSs (including shares sold pursuant to the underwriters’ exercise in full of their over-allotment option) pursuant to the take-down from an automatic shelf registration on Form F-3 (File No. 333-163137) of ADSs representing ordinary shares. We received net proceeds (after deducting underwriting discounts and commissions and other expenses related to the offering) of approximately $126.6 million from the offering and sale in the offering of the ADSs, all of which were offered and sold by us, at a price to the public of $31.25 per ADS. None of the transaction expenses included payments to our directors, executive officers, persons owning 10% or more of our equity securities or our affiliates. Deutsche Bank Securities Inc. and Morgan Stanley & Co. International plc were the co-managing underwriters for the offering. The net proceeds from the offering had not been used as of March 31, 2010 and have been designated for general corporate purposes and acquisitions.

 

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Item 15. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
As required by Rule 13a-15(b) under the Securities Exchange Act of 1934, or Exchange Act, our management, including Wai Chau Lin, our chief executive officer, and Derek Palaschuk, our chief financial officer, performed an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Rules 13a-15(e) under the Exchange Act, as of March 31, 2010. Disclosure controls and procedures are designed to ensure that the material financial and non-financial information required to be disclosed in this annual report on Form 20-F and filed with the SEC is recorded, processed, summarized and reported in a timely manner. Based on this evaluation, our management, including our chief executive officer and our chief financial officer, concluded that, as of the end of the year covered by this annual report, our disclosure controls and procedures were effective, at a reasonable level of assurance, to assure that information required to be disclosed in reports filed by us with the SEC is recorded, processed, summarized and reported within the time periods specified by Rule 13a-15(b) rules and the SEC forms and to assure that information required to be disclosed is accumulated and communicated to management, including our chief executive officer and our chief financial officer, as appropriate to allow timely decisions regarding required disclosure.
Management’s Report on Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rule 13a-15(f) under the Exchange Act. Under the supervision and with the participation of our management, including our chief executive officer and chief financial officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this evaluation, our management concluded that our internal control over financial reporting was effective as of March 31, 2010. Our management has reviewed its assessment with our audit committee. Our management excluded from our assessment the internal control over financial reporting at Beijing Giantstone Information Technology Co., Limited (“Giantstone”), which was acquired on January 15, 2010, and whose financial statements constitute 16.6 percent and 14.5 percent of net and total assets, respectively, 0.0 percent of revenues, and -3.2 percent of net income of the consolidated financial statement amounts as of and for the year ended March 31, 2010.
The effectiveness of our internal control over financial reporting as of March 31, 2010 has been audited by Deloitte Touche Tohmatsu CPA Ltd., our independent public accountants, as stated in their report which appears below.
Report of Independent Registered Public Accounting Firm
To The Board of Directors and Shareholders of Longtop Financial Technologies Limited
We have audited the internal control over financial reporting of Longtop Financial Technologies Limited and subsidiaries (the “Company”) as of March 31, 2010, based on the criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. As described in Management’s Report on Internal Control over Financial Reporting, management excluded from its assessment the internal control over financial reporting at Beijing Giantstone Information Technology Co., Limited (“Giantstone”), which was acquired on January 15, 2010, and whose financial statements constitute 16.6 percent and 14.5 percent of net and total assets, respectively, 0.0 percent of revenues, and -3.2 percent of net income of the consolidated financial statement amounts as of and for the year ended March 31, 2010. Accordingly, our audit did not include the internal control over financial reporting at Giantstone. The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit.

 

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We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed by, or under the supervision of, the company’s principal executive and principal financial officers, or persons performing similar functions, and effected by the company’s board of directors, management and other personnel to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of the inherent limitations of internal control over financial reporting, including the possibility of collusion or improper management override of controls, material misstatements due to error or fraud may not be prevented or detected on a timely basis. Also, projections of any evaluation of the effectiveness of the internal control over financial reporting to future periods are subject to the risk that the controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of March 31, 2010, based on the criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated financial statements and financial statement schedule as of and for the year ended March 31, 2010 of the Company and our report dated July 16, 2010 expressed an unqualified opinion on those financial statements and financial statement schedule and included an explanatory paragraph relating to the adoption of a new accounting standard.
/s/ Deloitte Touche Tohmatsu CPA Ltd.
Shanghai, China
July 16, 2010
Limitations on Controls
Management does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all misstatements, including the possibility of human error and the circumvention or overriding of the sound control procedures. Any control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within Longtop have been detected.

 

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Changes in Internal Control over Financial Reporting
As required by Rule 13a-15(d), under the Securities Exchange Act of 1934, our management, including our chief executive officer and our chief financial officer, conducted an evaluation of our internal control over financial reporting. There were no changes in our internal controls over financial reporting that occurred during the period covered by this annual report that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
Item 16A. Audit Committee Financial Expert
Our board of directors has determined that Thomas Gurnee is an “audit committee financial expert” under the rules of the New York Stock Exchange. Our board of directors has determined that all three members of our audit committee are “independent” under the rules of the New York Stock Exchange and meet the independence standards under Section 10A(m) of the Securities Exchange Act of 1934 and SEC Rule 10A-3.
Item 16B. Code of Ethics
Our board of directors has adopted a code of business conduct and ethics, a copy of which is incorporated by reference to Exhibit 11.1 from our annual report on Form 20-F filed with the Securities and Exchange Commission on July 1, 2008. In addition, our code of business conduct and ethics is posted on our website at www.longtop.com under the “Investor Center” page.
Item 16C. Principal Accountant Fees and Services.
Deloitte Touche Tohmatsu CPA Ltd. have acted as the independent public accountants of our company and its subsidiaries the years ended March 31, 2008, 2009 and 2010, respectively. The following table sets forth the aggregate fees by categories specified below in connection with certain professional services rendered by Deloitte Touche Tohmatsu CPA Ltd. for the periods indicated.
                         
    Year Ended March 31  
    2008     2009     2010  
    ($ in thousands)  
Audit Fees (1)
    571       1,252       1,245  
Audit-Related Fees
          6       60  
Tax Consultancy Fees (2)
    30       29       49  
 
                 
Total
    601       1,287       1,354  
 
                 
     
(1)   “Audit Fees” are the aggregate fees billed or to be billed by Deloitte Touche Tohmatsu CPA Ltd. for the audit of our consolidated annual financial statements and review of our quarterly financial statements.
 
(2)   “Tax Consultancy Fees” primarily relate to fees paid for review of certain tax treatments in the PRC including compliance with the new PRC tax laws.
Our audit committee is responsible for the retention of our independent registered public accounting firm. Our audit committee has adopted an audit committee charter that includes the committee’s rules of procedure. The audit committee’s rules of procedure provide for a process with respect to the prior approval of all non-audit services to be performed by our independent auditors. Our audit committee reports to our board of directors regarding the scope and results of our annual audits, compliance with our accounting and financial policies and management’s procedures and policies related to the adequacy of our internal accounting controls.

 

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During the years ended March 31, 2009 and 2010 our audit committee pre-approved all of the audit-related and tax consultancy services provided to us by Deloitte Touche Tohmatsu CPA Ltd.
Item 16D. Exemptions from the Listing Standards for Audit Committees
Not applicable.
Item 16E. Purchases of Equity Securities by the Issuer and Affiliated Purchasers
Not applicable.
Item 16F. Change in Registrant’s Certifying Accountant
Not applicable.
Item 16G. Corporate Governance
As a foreign private issuer with shares listed on the New York Stock Exchange, or the NYSE, we are subject to corporate governance requirements imposed by the NYSE. Under Section 303A of the NYSE’s Listed Company Manual, NYSE listed non-US companies may, in general, follow their home country corporate governance practices in lieu of some of the NYSE corporate governance requirements.
We are committed to a high standard of corporate governance. As such, we endeavor to comply with most of the NYSE corporate governance practices. However, the following are ways in which our current corporate governance practices, as permitted by our charter documents and applicable law, differ from NYSE corporate governance requirements:
    The majority of our board of directors is not comprised of independent directors.
 
    Our board of directors does not have a nominating/corporate governance committee.
PART III
Item 17. Financial Statements
We have elected to provide financial statements pursuant to Item 18.
Item 18. Financial Statements
Our consolidated financial statements are included at the end of this annual report.
Item 19. Exhibits
         
  1.1    
First Amended and Restated Memorandum of Association of the Registrant (incorporated by reference to Exhibit 1.1 to the company’s Annual Report on Form 20-F filed with Securities and Exchange Commission on July 1, 2008).
       
 
  1.2    
First Amended and Restated Articles of Association of the Registrant (incorporated by reference to Exhibit 1.2 to the company’s Annual Report on Form 20-F filed with Securities and Exchange Commission on July 1, 2008).
       
 
  2.1    
Deposit Agreement, among the Registrant, the depositary and holder of American Depositary Receipts (incorporated by reference to Exhibit 2.1 to the company’s Annual Report on Form 20-F filed with Securities and Exchange Commission on July 1, 2008).
       
 
  4.1    
Subscription and Shareholders Agreement among Longtop Financial Technologies (BVI) Limited, Cathay IT financial Services Ltd., Bloomwell International Limited, Concentra Holdings Limited, Hiu Kung Ka, Wai Chau Lin and Cathay Capital Holdings, L.P., dated as of November 5, 2004 (incorporated by reference to Exhibit 4.4 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).

 

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  4.2    
Nominee Agreement between Bloomwell International Limited, Well Active International Limited and Weijie Zhang, Yingling Li, and Ni Chen, dated as of February 16, 2006 (incorporated by reference to Exhibit 4.5 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.3    
Form of Purchase Agreement for Ordinary Shares between Well Active International Limited and grantees of ordinary shares of Longtop Financial Technologies (BVI) Limited (incorporated by reference to Exhibit 4.6 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.4    
Series A Preferred Share Purchase Agreement between Longtop Financial Technologies (BVI) Limited, Tiger Global Private Investment Partners III, L.P. and other individuals, dated as of June 7, 2006 (incorporated by reference to Exhibit 4.7 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.5    
First Supplement to the Subscription and Shareholders Agreement among Longtop Financial Technologies (BVI) Limited, Cathay IT financial Services Ltd., Bloomwell International Limited, Concentra Holdings Limited, Hiu Kung Ka, Wai Chau Lin and Cathay Capital Holdings, L.P., dated as of June 13, 2006 (incorporated by reference to Exhibit 4.8 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.6    
Second Supplement to the Subscription and Shareholders Agreement among Longtop Financial Technologies (BVI) Limited, Cathay IT financial Services Ltd., Bloomwell International Limited, Concentra Holdings Limited, Hiu Kung Ka, Wai Chau Lin and Cathay Capital Holdings, L.P., dated as of December 19, 2006 (incorporated by reference to Exhibit 4.9 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.7    
Amended and Restated Investors’ Rights Agreement among Longtop Financial Technologies (BVI) Limited, Tiger Global Private Investment Partners III, L.P., Tiger Global Private Investment Partners IV, L.P., Cathay IT financial Services Ltd. and other individuals as Investors, and Well Active International Limited, Bloomwell International Limited and Concentra Holdings Limited as Ordinary Shareholders, dated as of December 19, 2006 (incorporated by reference to Exhibit 4.10 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.8    
Series B Preferred Share Purchase Agreement between Longtop Financial Technologies (BVI) Limited, Tiger Global Private Investment Partners IV, L.P. and other individuals, dated as of December 19, 2006 (incorporated by reference to Exhibit 4.11 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.9    
Amended and Restated First Refusal and Co-sale Agreement among Longtop Financial Technologies (BVI) Limited, Tiger Global Private Investment Partners III, L.P., Tiger Global Private Investment Partners IV, L.P., Cathay IT financial Services Ltd. and other individuals as Investors, and Well Active International Limited, Bloomwell International Limited and Concentra Holdings Limited as Ordinary Shareholders, dated as of December 19, 2006 (incorporated by reference to Exhibit 4.12 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).

 

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  4.10    
Third Supplement to the Subscription and Shareholders Agreement among Longtop Financial Technologies (BVI) Limited, Cathay IT financial Services Ltd., Bloomwell International Limited, Concentra Holdings Limited, Hiu Kung Ka and Cathay Capital Holdings, L.P., dated as of June 14, 2007 (incorporated by reference to Exhibit 4.13 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.11    
Waiver of and Agreement to Terminate Certain Provisions of Subscription Agreement, among Longtop Financial Technologies (BVI) Limited, Cathay IT financial Services Limited, Cathay Capital Holdings, holders of preferred shares and holders of ordinary shares, dated as of June 18, 2007 (incorporated by reference to Exhibit 4.14 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.12    
Contribution and Amendment Agreement between the Registrant and Longtop Financial Technologies (BVI) Limited, dated as of September 5, 2007 (incorporated by reference to Exhibit 4.15 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.13    
First Amendment to Share Transfer Agreement among the Registrant, Longtop Financial Technologies (BVI) Limited, Shuangjian Chen, Yufeng Liang, Neil Fitzgerald, World Longevity Technology and Science Foundation Limited, Longtop International Holdings Limited and Well Active International Limited, dated as of September 12, 2007 (incorporated by reference to Exhibit 4.16 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.14    
Share Purchase Agreement among the Registrant, Longtop Financial Technologies (BVI) Limited, Shuangjian Chen, Yufeng Liang, World Longevity Technology and Science Foundation Limited and Longtop International Holdings Limited, dated as of September 12, 2007 (incorporated by reference to Exhibit 4.17 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.15    
Management and Service Agreement between Longtop Financial Technologies Limited and Longtop International Holdings Limited, dated as of September 24, 2007 (incorporated by reference to Exhibit 4.18 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.16    
2005 Share Incentive Plan (incorporated by reference to Exhibit 10.1 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.17    
Form of Employment Agreement between the Registrant and an Executive Officer of the Registrant (incorporated by reference to Exhibit 10.2 to Amendment No.  1 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 9, 2007).
       
 
  4.18    
English translation of Form of Employment Agreement between Xiamen Longtop System Co., Ltd. and certain executive officers of the Registrant (incorporated by reference to Exhibit 10.3 to Amendment No.  2 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 19, 2007).
       
 
  4.19    
Asset Transfer Agreement among FEnet Co., Ltd., Deng Xinping and Longtop Financial Technologies (BVI) Limited, dated as of May 31, 2007 and supplementary agreement, dated as of July 15, 2007 (incorporated by reference to Exhibit 10.4 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).

 

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  4.20    
English translation of Business and Asset Transfer Agreement between Xiamen Longtop System Co., Ltd. and Guangzhou FEnet Software Co., Ltd., dated as of May 31, 2007 and supplementary agreement, dated as of July 15, 2007 (incorporated by reference to Exhibit 10.5 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.21    
Share Purchase Agreement between Longtop Financial Technologies (BVI) Limited and Wisdom Legend Investment Limited regarding purchase of shares in Grand Legend Holdings limited, dated as of June 20, 2006 (incorporated by reference to Exhibit 10.6 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.22    
Minecode LLC Limited Liability Company Interest Purchase Agreement among Pradyumna Kumar Samal, Rakesh Kumar Garg and Manish Samadarshi Prasad as Sellers and Longtop International Inc. as Purchaser, dated as of February 14, 2007 (incorporated by reference to Exhibit 10.7 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.23    
Subscription and Shareholders Agreement relating to Longtop International Holdings Limited among Longtop Financial Technologies (BVI) Limited, Shuangjian Chen, Yufeng Liang and Neil Fitzgerald as Shareholders and Longtop International Holdings Limited, dated as of February 28, 2006 (incorporated by reference to Exhibit 10.8 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.24    
Share Transfer Agreement relating to Longtop International Holdings Limited among Longtop Financial Technologies (BVI) Limited, World Longevity Technology and Science Foundation Limited, Shuangjian Chen, Yufeng Liang, Neil Fitzgerald and Longtop International Holdings Limited, dated as of January 3, 2007 (incorporated by reference to Exhibit 10.9 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.25    
Distribution Agreement and Waiver and Consent of Shareholders among Longtop Financial Technologies (BVI) Limited, Longtop International Holdings Limited, holders of preferred shares and holders of ordinary shares, dated as of July 2, 2007 (incorporated by reference to Exhibit 10.10 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.26    
Capital Contribution Agreement between Longtop Financial Technologies (BVI) Limited and Longtop International Holdings Limited, dated as of July 2, 2007 (incorporated by reference to Exhibit 10.11 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.27    
English translation of Collaboration Agreement between Xiamen Longtop System Co., Ltd. and Computer College of National University of Defense Technology, dated as of November 29, 2002 and its supplemental agreements, dated as of August 10, 2005 and June 18, 2007 (incorporated by reference to Exhibit 10.12 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.28    
English translation of lease contracts for the Registrant’s principal executive offices in Xiamen, Fujian province, dated as of November 17, 2005, and supplementary lease contracts dated as of March 10, 2006 (incorporated by reference to Exhibit 10.13 to the company’s Registration Statement on Form F-1 (file no. 333-146437) filed with the Securities and Exchange Commission on October 2, 2007).
       
 
  4.29    
Human Resource Service Agreement dated as of May 18, 2007 between Xiamen Longtop System Co., Ltd. and Xiamen Longtop Human Resource Service Co., Ltd (incorporated by reference to Exhibit 4.29 to the company’s Annual Report on Form 20-F filed with Securities and Exchange Commission on July 1, 2008).

 

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  4.30    
Form of Purchase and Sale Agreement between Xiamen Longtop Financial Technology Management Co., Ltd. and Xiamen Land Development Company (incorporated by reference to Exhibit 4.30 to the company’s Annual Report on Form 20-F filed with Securities and Exchange Commission on July 1, 2008).
       
 
  4.31    
Addendum to Management and Service Agreement between Longtop Financial Technologies Limited and Longtop International Holdings Limited (incorporated by reference to Exhibit 4.31 from our Annual Report on Form 20-F filed with the Securities and Exchange Commission on June 29, 2010).
       
 
  4.32    
English Translation of Offshore Asset Transfer Agreement dated April, 1, 2009 between Longtop Financial Technologies (BVI) Limited and Fully Pacific Limited, in connection with the company’s acquisition of Sysnet (incorporated by reference to Exhibit 4.32 from our Annual Report on Form 20-F filed with the Securities and Exchange Commission on June 29, 2010).
       
 
  4.33    
English translation of Onshore Share Transfer Agreement dated April 1, 2009 between Longtop Financial Technologies Limited and Zhongqing Chuangyi Investment & Management Co., Ltd., in connection with the company’s acquisition of Sysnet (incorporated by reference to Exhibit 4.33 from our Annual Report on Form 20-F filed with the Securities and Exchange Commission on June 29, 2010).
       
 
  4.34    
Supplementary Agreement dated October 14, 2009 among Longtop Financial Technologies (BVI) Limited, Fully Pacific Ltd. (BVI) and Shen Xiwu, in connection with the company’s acquisition of Sysnet.
       
 
  4.35    
Equity Transfer Agreement dated December 18, 2009 among Xiamen Longtop System Co. Ltd., Tianjin Xinjie Investments Co. Ltd., Zhou Bangjian and Wang Jie, in connection with the company’s acquisition of Giantstone.
       
 
  4.36    
Human Resource Service Contract dated March 20, 2010 between Longtop (China) System Co. Ltd. and Xiamen Longtop Human Resource Service Co. Ltd.
       
 
  8.1    
Subsidiaries of the Registrant.
       
 
  11.1    
Code of Business Conduct and Ethics (incorporated by reference to Exhibit 11.1 from our Annual Report on Form 20-F filed with the Securities and Exchange Commission on July 1, 2008).
       
 
  12.1    
Certification of Chief Executive Officer Required by Rule 13a-14(a).
       
 
  12.2    
Certification of Chief Financial Officer Required by Rule 13a-14(a).
       
 
  13.1    
Certification of Chief Executive Officer Required by Rule 13a-14(b) and Section 1350 of Chapter 63 of Title 18 of the United States Code.
       
 
  13.2    
Certification of Chief Financial Officer Required by Rule 13a-14(b) and Section 1350 of Chapter 63 of Title 18 of the United States Code.
       
 
  15.1    
Consent of Independent Registered Public Accounting Firm.

 

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SIGNATURES
Pursuant to the requirements of Section 12 of the Securities Exchange Act of 1934, the registrant certifies that it meets all of the requirements for filing this annual report on Form 20-F and has duly caused this annual report to be signed on our behalf by the undersigned, thereunto duly authorized.
Date: July 16, 2010
         
  Longtop Financial Technologies Limited
 
 
  By:   /s/ Wai Chau Lin    
    Wai Chau Lin   
    Chief Executive Officer   
     
  By:   /s/ Derek Palaschuk    
    Derek Palaschuk   
    Chief Financial Officer   

 

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LONGTOP FINANCIAL TECHNOLOGIES LIMITED
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Table of Contents

 

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
TO THE BOARD OF DIRECTORS AND SHAREHOLDERS OF LONGTOP FINANCIAL TECHNOLOGIES LIMITED
We have audited the accompanying consolidated balance sheets of Longtop Financial Technologies Limited and subsidiaries (the “Company”) as of March 31, 2009 and 2010, and the related consolidated statements of operations, equity and comprehensive income, and cash flows for each of the three years in the period ended March 31, 2010 and the related financial statement schedule included in Schedule I. These financial statements and financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on the financial statements and financial statement schedule based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Longtop Financial Technologies Limited and subsidiaries as of March 31, 2009 and 2010, and the results of their operations and their cash flows for each of the three years in the period ended March 31, 2010, in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, such financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.
As discussed in Note 2 to the consolidated financial statements, the Company adopted FASB Accounting Standards Codification 740-10, “Income Taxes — Overall” (previously FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes — an interpretation of FASB Statement No. 109”), effective April 1, 2007.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the Company’s internal control over financial reporting as of March 31, 2010, based on the criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated July 16, 2010 expressed an unqualified opinion on the Company’s internal control over financial reporting.
/s/ Deloitte Touche Tohmatsu CPA Ltd.
Shanghai, China
July 16, 2010

 

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LONGTOP FINANCIAL TECHNOLOGIES LIMITED
CONSOLIDATED BALANCE SHEETS
                 
    March 31,     March 31,  
    2009     2010  
    (In U.S. dollar thousands, except share and per share data)  
Assets
               
Current assets:
               
Cash and cash equivalents
  $ 238,295     $ 331,889  
Restricted cash
    463       8,904  
Accounts receivable, net
    29,861       65,581  
Inventories
    4,982       6,381  
Amounts due from related parties
    682       1,029  
Deferred tax assets
    979       250  
Other current assets
    4,712       13,967  
 
           
 
Total current assets
    279,974       428,001  
 
               
Fixed assets, net
    14,858       26,343  
Prepaid land use right
    5,167       5,064  
Intangible assets, net
    11,526       45,676  
Goodwill
    24,837       96,323  
Deferred tax assets
    1,479       1,443  
Other assets
    632       3,334  
 
           
 
Total assets
  $ 338,473     $ 606,184  
 
           
 
               
Liabilities and equity
               
Current liabilities:
               
Short-term borrowings
  $ 486     $ 169  
Accounts payable
    3,299       14,963  
Deferred revenue
    16,010       25,725  
Amounts due to related parties
    17       156  
Deferred tax liabilities
    867       1,430  
Accrued and other current liabilities
    23,810       44,380  
 
           
 
Total current liabilities
    44,489       86,823  
 
               
Long-term liabilities:
               
Obligations under capital leases, net of current portion
    98        
Deferred tax liabilities
    1,242       6,842  
Other non-current liabilities
    286       22,517  
 
           
 
Total liabilities
    46,115       116,182  
 
           
 
               
Equity:
               
Ordinary shares $0.01 par value (1,500,000,000 shares authorized, 51,036,816 and 56,231,188 shares issued and outstanding as of March 31, 2009 and March 31, 2010, respectively)
  $ 510     $ 562  
Additional paid-in capital
    243,194       381,262  
Retained earnings
    29,451       88,542  
Accumulated other comprehensive income
    19,203       19,636  
 
           
 
Total equity
    292,358       490,002  
 
           
 
Total liabilities and equity
  $ 338,473     $ 606,184  
 
           
The accompanying notes are an integral part of these consolidated financial statements.

 

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LONGTOP FINANCIAL TECHNOLOGIES LIMITED
CONSOLIDATED STATEMENTS OF OPERATIONS
                         
    Year Ended March 31,  
    2008     2009     2010  
    (In U.S. dollar thousands, except share and per share data)  
Revenues:
                       
Software development
  $ 55,147     $ 89,559     $ 145,200  
Other services
    10,769       16,737       23,857  
 
                 
Total revenues
    65,916       106,296       169,057  
 
                 
 
                       
Cost of revenues:
                       
Software development
    21,138       26,294       45,880  
Other services
    4,517       10,123       17,465  
 
                 
Total cost of revenues
    25,655       36,417       63,345  
 
                 
Gross profit
    40,261       69,879       105,712  
 
                 
 
                       
Operating expenses:
                       
Research and development
    3,838       5,172       8,219  
Sales and marketing
    10,393       10,961       20,966  
General and administrative
    19,633       9,359       13,983  
Impairment of goodwill
                1,982  
 
                 
Total operating expenses
    33,864       25,492       45,150  
 
                 
Income from operations
    6,397       44,387       60,562  
 
                 
 
                       
Other income (expenses):
                       
Interest income
    3,597       5,589       4,315  
Interest expense
    (886 )     (250 )     (777 )
Other income (expense), net
    (1,349 )     (169 )     690  
 
                 
Total other income
    1,362       5,170       4,228  
 
                 
 
                       
Income before income tax expense
    7,759       49,557       64,790  
Income tax expense
    (3,539 )     (6,085 )     (5,699 )
 
                 
 
                       
Income from continuing operations
    4,220       43,472       59,091  
Loss from discontinued operations, net of tax
    (1,293 )            
 
                 
Net income
    2,927       43,472       59,091  
 
                 
 
                       
Net income (loss) per share:
                       
Continuing operations
  $ (0.01 )   $ 0.86     $ 1.11  
Discontinued operations
  $ (0.03 )   $ 0.00     $ 0.00  
 
                 
Basic ordinary share
  $ (0.04 )   $ 0.86     $ 1.11  
 
                 
Continuing operations
  $ 0.81     $ 0.00     $ 0.00  
Discontinued operations
  $ (0.06 )   $ 0.00     $ 0.00  
 
                 
Basic preferred share
  $ 0.75     $ 0.00     $ 0.00  
 
                 
Continuing operations
  $ (0.01 )   $ 0.83     $ 1.07  
Discontinued operations
  $ (0.03 )   $ 0.00     $ 0.00  
 
                 
Diluted
  $ (0.04 )   $ 0.83     $ 1.07  
 
                 
 
                       
Shares used in computation of net income (loss) per share:
                       
Basic ordinary share
    38,692,405       50,545,151       53,102,841  
Basic preferred share
    5,767,286              
Diluted
    38,692,405       52,368,317       55,174,468  
 
                       
Includes share-based compensation related to:
                       
Cost of revenues software development
  $ 7,832     $ 1,649     $ 2,454  
Cost of revenues other services
    229       252       428  
General and administrative expenses
    13,964       1,871       1,944  
Sales and marketing expenses
    4,712       1,491       2,352  
Research and development expenses
    1,451       385       503  
The accompanying notes are an integral part of these consolidated financial statements.

 

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LONGTOP FINANCIAL TECHNOLOGIES LIMITED
CONSOLIDATED STATEMENTS OF EQUITY

AND COMPREHENSIVE INCOME
                         
    Year Ended March 31,  
    2008     2009     2010  
    (In U.S. dollar thousands, except share and per share data)  
Ordinary shares:
                       
Balance, beginning of period
  $ 297     $ 502     $ 510  
Issuance of ordinary shares
    102             43  
Exercise of stock options
    1       7       8  
Exercise of restricted share units
          1       1  
Conversion of preference shares to ordinary shares upon initial public offering
    103              
Repurchase and cancellation of ordinary shares
    (1 )            
 
                 
Balance, end of period
    502       510       562  
 
                 
 
                       
Additional paid-in capital:
                       
Balance, beginning of period
    19,120       234,771       243,194  
Share-based compensation paid by the Company
    3,377       5,648       7,681  
Compensation expenses paid by shareholders
    24,811              
Issuance of ordinary shares, net of costs
    156,138             126,582  
Exercise of stock options
    477       2,776       3,806  
Exercise of restricted share units
          (1 )     (1 )
Repurchase and cancellation of ordinary shares
    (1,251 )            
Conversion of preference shares to ordinary shares upon initial public offering
    47,784              
Dividends
    (15,685 )            
 
                 
Balance, end of period
    234,771       243,194       381,262  
 
                 
 
                       
Subscription receivable:
                       
Balance, beginning of period
                 
Issuance of ordinary shares
    321              
Repayments and forgiveness
    (321 )            
 
                 
Balance, end of period
                 
 
                 
 
                       
Retained earnings/(Accumulated deficit):
                       
Balance, beginning of period
    22,320       (14,021 )     29,451  
Adoption of ASC 740-10
    (500 )            
Net income
    2,927       43,472       59,091  
Dividends
    (38,768 )            
 
                 
Balance, end of period
    (14,021 )     29,451       88,542  
 
                 
 
                       
Accumulated other comprehensive income:
                       
Balance, beginning of period
    2,283       13,638       19,203  
Cumulative translation adjustments
    11,355       5,565       433  
 
                 
Balance, end of period
    13,638       19,203       19,636  
 
                 
Total equity
  $ 234,890     $ 292,358     $ 490,002  
 
                 
 
                       
Comprehensive income:
                       
Net income
  $ 2,927     $ 43,472     $ 59,091  
Foreign currency translation adjustment
    11,355       5,565       433  
 
                 
Total comprehensive income
  $ 14,282     $ 49,037     $ 59,524  
 
                 
 
                       
    Number of Outstanding Shares
     
Ordinary shares
                       
Balance, beginning of period
    29,705,267       50,274,126       51,036,816  
Issuance of ordinary shares
    10,232,248             4,255,000  
Conversion of preference shares to ordinary shares upon initial public offering
    10,313,862              
Exercise of stock options
    129,999       739,725       804,777  
Exercise of restricted share units
          22,965       134,595  
Repurchase and cancellation of ordinary shares
    (107,250 )            
 
                 
Balance, end of period
    50,274,126       51,036,816       56,231,188  
 
                 
The accompanying notes are an integral part of these consolidated financial statements.

 

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LONGTOP FINANCIAL TECHNOLOGIES LIMITED
CONSOLIDATED STATEMENTS OF CASH FLOWS
                         
    Year Ended March 31,  
    2008     2009     2010  
    (In U.S. dollar thousands)  
Cash flows from operating activities:
                       
Net income
  $ 2,927     $ 43,472     $ 59,091  
 
                       
Adjustments to reconcile net income to net cash provided by operating activities:
                       
Share-based compensation
    28,188       5,648       7,681  
Depreciation of fixed assets
    1,798       2,808       3,193  
Amortization of intangible assets
    1,615       2,513       4,624  
Provision for doubtful accounts
    498       134       627  
Impairment of intangible assets
    393             2,494  
Impairment of goodwill
                1,982  
Change in fair value of contingent consideration
                447  
Loss (gain) on disposal of fixed assets
    (626 )     268       85  
Deferred income taxes
    (707 )     (1,354 )     58  
 
                       
Changes in assets and liabilities, net of effects of acquisitions:
                       
Accounts receivable
    (1,856 )     (6,930 )     (35,080 )
Inventories
    (120 )     (2,026 )     (1,314 )
Other current assets
    (3,117 )     165       (6,012 )
Amounts due from related parties
          (682 )     (347 )
Prepaid land use right
          (5,165 )     110  
Other non-current assets
    129       (755 )     324  
Other non-current liabilities
    (55 )     (253 )     213  
Accounts payable
    230       (1,473 )     10,312  
Deferred revenue
    3,794       6,049       9,693  
Amounts due to related parties
          17       139  
Accrued and other current liabilities
    1,293       (582 )     4,604  
 
                 
 
Net cash provided by operating activities
    34,384       41,854       62,924  
 
                 
 
                       
Cash flows from investing activities:
                       
Change in restricted cash
    (3,338 )     6,270       (8,441 )
Proceeds from sale of fixed assets
    1,260       225        
Purchase of fixed assets
    (4,575 )     (10,136 )     (12,970 )
Purchase of intangible assets
    (85 )     (49 )     (503 )
Acquisitions, net of cash acquired
    (3,824 )     (10,885 )     (69,873 )
Deposit made on acquisition
                (3,027 )
 
                 
 
Net cash used in investing activities
    (10,562 )     (14,575 )     (94,814 )
 
                 

 

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Table of Contents

                         
    Year Ended March 31,  
    2008     2009     2010  
    (In U.S. dollar thousands)  
Cash flows from financing activities:
                       
Proceeds from short-term borrowings
    54,544             26,947  
Repayment of short-term borrowings
    (63,921 )           (26,947 )
Proceeds from sale of ordinary shares
    157,495             132,969  
Payment of share issuance costs
    (11,025 )           (6,344 )
Dividend paid
    (36,105 )            
Stock options exercised
    478       2,783       3,814  
Payment of capital lease obligations
    (473 )     (837 )     (415 )
Payment of acquisition consideration
                (4,845 )
Amounts due to related parties
    54       (54 )      
 
                 
Net cash provided by financing activities
    101,047       1,892       125,179  
 
                 
Effect of exchange rates differences
    9,737       4,598       305  
 
                 
Net increase in cash and cash equivalents
    134,606       33,769<