-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, UUKbcTlc3sRRzDX6qdj2PKsRcXcByEKaWbRupXoRbpyM06tiyqUmAKfCFPBe8nmy uwEq/UVAacFAPPIUcwSfnw== 0001010549-05-000251.txt : 20050411 0001010549-05-000251.hdr.sgml : 20050411 20050411162600 ACCESSION NUMBER: 0001010549-05-000251 CONFORMED SUBMISSION TYPE: 10KSB PUBLIC DOCUMENT COUNT: 10 CONFORMED PERIOD OF REPORT: 20041231 FILED AS OF DATE: 20050411 DATE AS OF CHANGE: 20050411 FILER: COMPANY DATA: COMPANY CONFORMED NAME: HQ SUSTAINABLE MARITIME INDUSTRIES, INC. CENTRAL INDEX KEY: 0000857073 STANDARD INDUSTRIAL CLASSIFICATION: FISHING, HUNTING & TRAPPING [0900] IRS NUMBER: 621407522 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10KSB SEC ACT: 1934 Act SEC FILE NUMBER: 000-18980 FILM NUMBER: 05744232 BUSINESS ADDRESS: STREET 1: WALL STREET CENTER STREET 2: 14 WALL STREET, 20TH FLOOR CITY: NEW YORK STATE: NY ZIP: 10005 BUSINESS PHONE: 1- 212-618-1712 MAIL ADDRESS: STREET 1: WALL STREET CENTER STREET 2: 14 WALL STREET, 20TH FLOOR CITY: NEW YORK STATE: NY ZIP: 10005 FORMER COMPANY: FORMER CONFORMED NAME: PROCESS EQUIPMENT INC DATE OF NAME CHANGE: 19920703 FORMER COMPANY: FORMER CONFORMED NAME: PEI INC /CA/ DATE OF NAME CHANGE: 19901126 FORMER COMPANY: FORMER CONFORMED NAME: SHARON CAPITAL CORP DATE OF NAME CHANGE: 19900802 10KSB 1 hq10ksb123104.txt UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 [GRAPHIC OMITTED] -37- FORM 10-KSB (MARK ONE) [ ] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [X] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from May 1, 2004 to December 31, 2004 COMMISSION FILE NO. 0-18980 HQ SUSTAINABLE MARITIME INDUSTRIES, INC. (Name of Small Business Issuer in Its Charter) Process Equipment, Inc. (Former Name) Delaware 62-1407522 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) Wall Street Center, 14 Wall Street, 20th Floor, New York, New York 10005 (Address of principal executive offices) (212) 618-1712 (Issuer's telephone number, including area code) Securities Registered Pursuant to Section 12(b) of the Act: None Securities Registered Pursuant to Section 12(g) of the Act: Common Stock, Par Value $0.001 Per Share (Title of Class) Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the exchange Act during the past 12 months (or for such shorter period that the registrant was required to file such reports); and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Check if there is no disclosure of delinquent filers in response to Item 405 of Regulation S-B contained in this form, and no disclosure will be contained, to the best of registrant's knowledge, in definite proxy or information statements incorporated by reference in Part III of this form 10-KSB or any amendment to this Form 10-KSB. [X] The issuer's revenues for the eight months ended December 31, 2004 were $20,782,264. The aggregate market value of the registrant's common stock held by non-affiliates as of December 2004 was approximately $ 6,589,962.08. State the number of shares outstanding of each of the issuer's classes of equity securities, as of the latest practicable date: 95,055,123 shares of Common Stock, $0.001 par value per share, outstanding as of December 31, 2004 Transitional Small Business Disclosure Format (check one): Yes [ ] No [X] PART I ITEM 1. BUSINESS As used in this annual report, "we", "us", "our", "HQSM", the "Group", "Company" or "our company" refers to HQ Sustainable Maritime Industries, Inc. and all of its subsidiaries and affiliated companies including Hainan Quebec Ocean Fishing Co. Ltd., or "HQOF" and Hainan Jiahua Marine Bio-Product Company Limited or "Jiahua Marine". History Our company was initially incorporated as Sharon Capital Corporation, or Sharon, on September 21, 1989 under the laws of the State of Nevada. Sharon was a "blind pool/blank check" corporation organized for the purpose of purchasing, merging with or acquiring a business or assets from another company. In July 1990, Sharon was changed to PEI, Inc., which was subsequently changed to Process Equipment, Inc. in November 1990. On March 17, 2004, Process Equipment, Inc., Process Equipment Acquisition Corporation, a Nevada corporation and wholly-owned subsidiary of Process Equipment, Inc., or PEAC, and Jade Profit Investment Limited, or Jade, a British Virgin Islands limited liability corporation, entered into an agreement and plan of merger. Pursuant to that agreement, Process Equipment, Inc., through PEAC, acquired Jade, and 84.42% ownership in Jade's subsidiary Hainan Quebec Ocean Fishing Co. Ltd, a People's Republic of China, limited liability corporation, which we refer to as HQOF. As a result of that transaction, HQOF became our main operating subsidiary. In April of 2004, pursuant to the above agreement and plan of merger, the board of directors of Process Equipment, Inc. and a majority of the stockholders approved a name change and change of domicile of that company to Delaware via a merger with the newly formed wholly-owned Delaware subsidiary, HQSM. The name change, change of domicile and merger became effective on May 19, 2004, with HQSM being the surviving entity in the merger and acquiring all the assets and liabilities of Process Equipment, Inc. On May 19, 2004, in order to effect a reincorporation from Nevada to Delaware, Process Equipment, Inc., a Nevada corporation, was merged with and into HQ Sustainable Maritime Industries, Inc., a Delaware corporation. Prior to the effective time of the reincorporation, HQ Sustainable Maritime Industries, Inc. had been a wholly-owned subsidiary corporation of Process Equipment, Inc. organized for the purposes of effecting the reincorporation. At the effective time of the reincorporation, HQ Sustainable Maritime Industries, Inc. became the surviving entity of the merger pursuant to which the reincorporation was completed, as well as the registrant for reporting purposes under the federal securities laws. The merged entity is governed by the Delaware General Corporation Law and the certificate of incorporation and bylaws of HQ Sustainable Maritime Industries, Inc. The reincorporation was completed pursuant to an Agreement and Plan of Merger dated as of May 19, 2004, by and between Process Equipment, Inc. and HQ Sustainable Maritime Industries, Inc., and was approved by the holders of approximately 73% of the issued and outstanding common stock of Process 2 Equipment, Inc. by written consent in lieu of a special meeting of the stockholders of Process Equipment, Inc. (all as more fully described in the Information Statement). At the effective time of the reincorporation, the directors and executive officers of Process Equipment, Inc. became the directors and executive officers of HQ Sustainable Maritime Industries, Inc. HQ Sustainable Maritime Industries, Inc.'s business, mailing address, principal executive offices and telephone number are the same as those of Process Equipment, Inc. At the effective time of the reincorporation, each outstanding share of common stock, par value $.001 per share of Process Equipment, Inc. was automatically converted into one share of common stock, par value $.001 per share of HQ Sustainable Maritime Industries, Inc. Outstanding options and warrants to purchase shares of Process Equipment, Inc. were automatically converted into options and warrants to purchase the same number of shares of HQ Sustainable Maritime Industries, Inc. Each employee stock plan and any other employee benefit plan to which Process Equipment, Inc. was a party were assumed by HQ Sustainable Maritime Industries, Inc. and, to the extent any such plans provided for the issuance or purchase of Process Equipment, Inc. common stock, such plans now provide for the issuance or purchase of HQ Sustainable Maritime Industries, Inc. common stock. It was not and is not necessary for stockholders to exchange their existing Process Equipment stock certificates for new certificates bearing the name of HQ Sustainable Maritime Industries, Inc. Shares of Process Equipment, Inc. common stock, traded under the symbol "PEQM.OB" on the OTC Bulletin Board prior to reincorporation, continue to be traded on the OTC Bulletin Board under the symbol "HQSM.OB" as HQ Sustainable Maritime Industries, Inc. common stock. The OTC Bulletin Board and HQ Sustainable Maritime Industries, Inc.'s transfer agent will consider the existing Process Equipment, Inc. stock certificates as constituting "good delivery" in post-reincorporation transactions involving HQ Sustainable Maritime Industries, Inc.'s common stock. In addition, the merged company was also assigned a new CUSIP number. The new CUSIP number is 40426A 10 9. The foregoing description of the reincorporation is not intended to be complete and is qualified in its entirety by the complete text, including exhibits, of the Information Statement. On August 17, 2004, we entered into a Purchase Agreement with Sino-Sult Canada (S.S.C.) Limited, a Canadian limited liability corporation ("SSC"), whereby we acquired Sealink Wealth Limited ("Sealink"), SSC's wholly owned subsidiary incorporated in the British Virgin Islands. That purchase agreement was filed as an exhibit to our current report on Form 8-K filed with the Commission on August 18, 2004. Sealink is the sole owner of Hainan Jiahua Marine Bio-Products Co. Ltd., a limited liability company existing in China ("Jiahua Marine") which is primarily engaged in the production and sales of marine bio-products and healthcare products in the PRC, as described in more detail in the above current report. Also as previously disclosed, in the same current report, SSC is owned 3 by three of our current directors and executive officers who are also, together, indirect beneficial owners of the majority of our capital stock. The consideration of the acquisition is $20 million in terms of 12,698,078 shares (equivalent to $8,888,655), $11,011,345 promissory note convertible to 15,732,493 Class A shares and $100,000 promissory note convertible to 100,000 Series A preferred stock with par value at $0.001 per share. Both promissory notes accrue interest at the rate of 5% per annum. 12,698,078 shares were issued to SSC on August 17, 2004 after the Purchase Agreement was signed. And $11,011,345 of promissory notes were converted to 15,732,493 Class A shares on November 18, 2004. Further, as previously disclosed in the above current report, effective from August 17, 2004, HQSM caused Jade Profit Investment Limited, its wholly-owned subsidiary, to acquire the minority equity interest equal to 15.58% that Jade did not already own in Hainan Quebec Ocean Fishing Company Limited, HQSM's principal operating subsidiary. This purchase was effected by Jade pursuant to the Purchase Agreement, dated as of August 17, 2004, between Jade and Hainan Fuyuan Investment Company Limited, the holder of the minority equity interest of HQOF being acquired by Jade. Jade has previously obtained all requisite governmental approvals in the PRC in order to consummate this transaction. The consideration of $5,695,145 was fully paid in cash on October 31, 2004. On April 16, 2004, HQ Sustainable Maritime Marketing Inc. ("HQSM Marketing") was formed and registered in USA, wholly owned by HQSM. This new subsidiary is being dormant during the year. On June 15, 2004, HQ Sustainable Maritime Marketing (Canada) Inc ("HQSM Canada") was formed in Canada and is wholly owned by HQSM. HQSM Canada commenced operations in June 2004, and performs business development, sales and marketing in the Canadian market. Our principal executive office is located at Wall Street Center, 14 Wall Street, 20th Floor, New York, New York 10005, and our telephone number is (212) 618-1712. The URL for our website is http://www.hqfish.com. Business The Group is principally engaged in the vertically integrated business of aquaculture through co-operative supply arrangements, ocean product harvesting, and processing and sales of farm-bred and ocean harvested aquatic products, as well as the production and sale of marine bio-products and healthcare products. The Group is committed to providing a variety of high quality aquatic products and health products through an integrated operation that covers value added key areas along the production chain from a bio-secure and stable supply of tilapia and shrimp under stringently monitored conditions, processed in accordance with internationally recognized standards of hygiene. Since the Group acquired Sealink Wealth Limited ("Sealink" hereafter), The Group has also engaged in the production and sale of marine bio-products and healthcare products in the PRC. The principal products of Hainan Jiahua Marine Bio-Product Company Limited (100% owned subsidiary of Sealink) are Shark Cartilage Capsule, Shark Liver Oil and Shark Liver (Soft gel). The major market is in the PRC. 4 The Group has developed a co-operative supply network in Hainan Province, China (for aquaculture product), which allows it to guarantee quality and quantity of products for processing without engaging directly in farming operations and having to deal with the associated capital costs and risks. The Group, through the co-operative supply agreements, is active in the transfer of technology to its suppliers and the constant monitoring of quality. Manufacturing Aquaculture Product The Group's aquatic products processing plant is a Canadian designed facility and is located in Hainan, the PRC. Prior to May 2004, the Group had two production lines in aggregate and they are located in the same processing plant in Hainan. From January to May, 2004 the plant was expanded to six production lines. These six lines include two filleting lines, two whole round fish processing lines (principally Tilapia which is gutted, scaled and gilled) and two shrimp processing lines. The facility is capable of processing an average of approximately 10,000 tons per year of whole round fish (principally Tilapia), 3,000 tons per year of fillet and 3,000 tons per year of shrimp. The plant operates in two shifts for a total of 17 hours. The Group's products have been awarded HACCP Certification for exporting aquatic products to the US and Japan. HACCP is used by the US Food and Drug Administration in controlling food safety and sanitary hazards. It is a preventive system previously used by astronauts, focusing on preventing hazards that could cause food-borne illnesses by applying science based controls, from raw materials to finished products. The successful implementation of a HACCP plan is dependent upon the design and performance of facilities and equipment, combined with excellent quality control and hygiene practices, which can minimize the occurrence of a hazard in a finished product. Apart from the HACCP Certification, the Group has also been assigned an EU Code for exporting aquatic products to the EU. The EU has designated only two producers in Hainan Province. The code is highly coveted since very few new attributions of code are being accepted. This increases the value of export to the EU since buyers routinely pay more than their US counterparts. The Directors believe the awards of the HACCP Certification and the assignment of the EU Code have enabled the Group to export to the US and the EU respectively. The HACCP Certification and EU Code assignment signify the Group's attainment of stringent hygiene standards and enable the Group to better market and export its processed aquatic products to overseas clients in the US and the EU. The Group's products are also acknowledged as eco-friendly by the Canadian International Development Agency (CIDA). CIDA is an agency of the Canadian Government that maintains programs of direct government to government aid for developing countries and also has programs which support private investment in developing countries which meet stringent environmental and social criteria. It provided early stages development support through the transfer of technology to aquaculture operations, fish processing and ocean harvesting operations. A pre-condition to the receipt of this support was the preparation of detailed environmental and social (gender) impact studies. It is these studies which 5 amount to an environmental and Fair Trade appreciation of the activities of HQ and can be described as an eco-friendly certification. This illustrates that the Group has met or exceeded certain standards of environmental protection and that the Group has conducted its business in a sustainable and socially responsible fashion with high regard for the environment and place of women in the communities in which it operates. The Group conducts sample laboratory testing on the Group's processed aquatic products to ensure no forbidden substances are present in them. The laboratory testing was initiated by the Group in compliance with strict quarantine guidelines imposed by domestic export control government agencies and foreign import control government agencies. Health and Bio-product Our production workshops consist of two production lines: the powder line and the oil line. We have raw material treatment workshops, such as an extraction workshop, a freezing and drying workshop, a powder distillation workshop and a finished product workshop in powder line. We also have pre-treatment workshops, such as a cooling and filtration workshop, a molecular distillation workshop, a supplemental stuff workshop and a capsule workshop in oil line. The production lines are equipped with a complete set of imported and domestic made devices, including: a vacuum frozen dryer for bio-products, a molecular distillation device, a micro-disintegrator, a packing machine and test instruments, etc. The Products The following are a brief description of our products. Tilapia Products Tilapia are native to Africa, but have been introduced in many countries around the world. They are disease-resistant, reproduce easily, eat a wide variety of foods and tolerate poor water quality with low dissolved oxygen levels. Most will grow in brackish water and some will adapt to full strength sea water. These characteristics make tilapia suitable for culture in most developing countries. They are most often grown in ponds, cages and rice fields. There are many tilapia species but only a few are cultured widely around the world today. There are three common species which are reared commercially in ponds from Japan, the Philippines down to Thailand and Indonesia, namely the black or Nile tilapia (Oreochromis niloticus), the red tilapia (Oreochromis mossambicus) and the blue tilapia (Oreochromis aureus), usually in the form of a new hybrid based on the original strains. Black or Nile Tilapia The fry eat zooplankton and the adults eat zooplankton, phytoplankton, insects, other bottom organisms and manufactured food. The optimum temperature to culture 6
black tilapia is 25 to 30 degrees centigrade and black tilapia can tolerate low temperature of 11 degrees centigrade. Black tilapia can grow well in water up to 20 parts per thousand salinity. Red Tilapia The fry eat zooplankton and the adults eat zooplankton, phytoplankton and manufactured food. The optimum temperature to culture red tilapia is 25 to 30 degrees centigrade and red tilapia can tolerate low temperature of 10 to 12 degrees centigrade. Red tilapia can grow well in full strength sea water. Tilapia Market In the 1960s and 1970s, tilapia culture was geared towards the production of food for local consumption and for the diversification of rural activities related to agriculture and animal husbandry. During the past 20 years, commercially viable techniques have been developed to control overcrowding in the different production systems, thereby permitting faster and more uniform growth to larger sizes. Commercial production has become popular in many countries around the world. Tilapia aquaculture has grown impressively during the 1990s, and forecasts indicate that the industry will continue to expand significantly in the years to come. US is the world's largest consumer of tilapia. In 2004, more than 175 million USD of Tilapia was sold in the United States representing almost 250,000 metric tons of live weight (See American Tilapia Association (See http://ag.arizona.edu/azaqua/ata.html). Due to limited resources in domestic US tilapia production, tilapia imports to the US are expected to increase. Imported tilapia already accounts for around 90% of total consumption of tilapia in the US. We believe that the largest demand for tilapia in the world will continue to be the US. TABLE 6 Top ten species groups in aquaculture production: quantity and growth Species group 2000 2002 Share of 2002 APR total (tonnes) (percent) Top ten species groups in terms of quantity Carps and other cyprinids 15 451 646 16 692 147 41.9 3.9 Oysters 3 997 394 4 317 380 10.8 3.9 Miscellaneous marine molluscs 2 864 199 3 739 702 9.4 14.3 Clams, cockles, arkshells 2 633 441 3 430 820 8.6 14.1 Salmons, trouts, smelts 1 545 149 1 799 383 4.5 7.9 Tilapias and other cichlids 1 274 389 1 505 804 3.8 8.7 Mussels 1 370 953 1 444 734 3.6 2.7 Miscellaneous marine molluscs 1 591 813 1 348 327 3.4 -8.0 Shrimps, prawns 1 143 774 1 292 476 3.2 6.3 Scallops, pectens 1 154 470 1 226 568 3.1 3.1 7 Top ten species groups in terms of growth Cods, hakes, haddocks 169 1 445 192.4 Misc. demersal fishes 8 701 15 302 32.6 Misc. marine crustaceans 34 202 52 377 23.7 Flounders, halibuts, soles 26 309 38 909 21.6 Tunas, bonitos, billfishes 6 447 9 445 21.0 Freshwater crustaceans 411 458 591 983 19.9 Crabs, sea-spiders 140 235 194 131 17.7 Freshwater molluscs 10 220 13 414 14.6 Misc. freshwater fishes 2 864 199 3 739 702 14.3 Clams, cockles, arkshells 2 633 441 3 430 820 14.1
Note: Data exclude aquatic plants. APR refers to the average annual percentage growth rate for 2000-2002. (Source State of The World Fisheries and Aquaculture (FAO) 2004 Report Part 1 table 6 See http://www.fao.org/sof/sofia/index_en.htm) In the US, consumption of tilapia has risen in the recent years. Tilapia now ranks third after farm-raised shrimp and Atlantic salmon in terms of aquaculture products imported into the US. In terms of volume, frozen whole round fish ranks first, followed by frozen fillets, and lastly fresh fillets. Frozen whole round fish and fillets originate primarily from Asia, and fresh fillets primarily from Central America and the Caribbean. Recently, with the increase in production of tilapia in the PRC and the growing demand of tilapia in the international market, the export of tilapia from the PRC has also increased. We believe that tilapia has great potential for market growth. Fresh Water Shrimp Products Shrimp is a favorite seafood all over the world. The giant tiger prawn or black tiger shrimp (Penaeus monodon) accounts for more than half of all farmed shrimp and dominates production in Thailand, Indonesia, India and the Philippines. In the PRC, the fleshy prawn or Chinese white shrimp (Penaeus chinensis) is dominant, whereas in Latin America it is the white leg shrimp (Litopenaeus Vannamei) which is the leading species. The Indian prawn (Penaeus indicus) is also farmed in Asia. White Leg Shrimp in the PRC Aquaculture of shrimp is rapidly developing in the PRC. White leg shrimp with its scientific name of Litopenaeus vannamei, is one of the world's most important farmed products. It is found throughout Central and South America and along the coast of the Pacific Ocean. With the introduction of parent white leg shrimp into the PRC and the success in raising seedlings, total production of white leg shrimp increased to 300,000 tonnes in 2000. 8 Health products The acquisition of Jiahua Marine provides HQ with the capacity to manufacture nutraceuticals to enrich feed formulations for tilapia and shrimp farmed in the Hainan area. These ingredients are directed at improving general health, growth, feed conversion and meat quality of fish and shrimp. Such products boost the immune system of shrimp to ward off common viruses and deliver various functional food nutrients to humans through the fish and shrimp they eat. HQ is working with leading technology providers throughout the world, in particular in the United States, to deliver these new nutraceutical additives to the fish and shrimp farming industry. Jiahua Marine is also engaged in the production and sales of marine bio-products and healthcare products in the PRC. It currently operates two activities, a marine bio-products factory and research and development activity. The marine bio-products factory is located in Wenchang City of Hainan Province, with a ground floor area of 16,667 square meters and a construction area of approximately 8,000 square meters. It operates two production lines: the powder-product line and the oil-product line. The bio-products factory has obtained HACCP certification from the CIQ (China Entry-Exit Inspection and Quarantine Bureau). Jiahua Marine currently sells healthcare products under the brand name "Jiahua." Sales for its fiscal year ended December 31, 2003 were over $7 million and after-tax net profit was approximately $2.7 million. Sales in 2004 presently outpace those of 2003. Jiahua Marine's second activity is related to research and development in association with Marine Organism Research Institute, which is headed by a group of experts specializing in the research and development of products derived from marine organisms in China. Clinical trials and laboratory testing on Jiahua Marine's various healthcare products have resulted in National Certification. These products currently sold throughout China, are naturally derived from ocean-harvested byproducts and are winners of Science and Technology Progress Awards in China. Jiahua Marine also has established a long-term relationship with the Qingdao University of Oceanography for production-research and training. Jiahua Marine production lines are ideally suited for the manufacture of nutraceutical components. The plant is equipped with specific gravity molecular separator and accessory equipment for the manufacture of nutraceutical products that can serve as feed additives in the production of feed, including tilapia and shrimp feed. Jiahua Marine products provide leading ocean-sourced raw materials processed at its own plant. Patented, laboratory and clinically tested products have resulted from years of research and development administered through a partnership with Qingtao Ocean University and its Marine Bioengineering Research Institute. Two products are produced from refined shark cartilage and two from shark liver (harvested from non-endangered shark species). These products are more fully described below: * Patent Number 460000X340-2001 -- Shark cartilage is highly alkalescent; it contains chondroitin sulfate and calcium and impacts the human body positively in the following ways: 9 -- Increases efficiency of immune system, activates NK cells associated with combating cancer (sharks are cancer free); -- Reduces blood acidity improving -- Blood pressure -- Apoplexy -- Heart disease -- Fertility -- Osteoporosis * Patent Number 460000X131-2001 -- Shark cartilage also contains glycosaminoglycan, Amino Acids, and collagen proteins which have been specially processed for absorption into the skin and impacts the human body positively in the following ways: -- Increases subcutaneous water content -- Reduces wrinkles -- Slows the visible effects of aging * Patent Number 460000X338-2001 -- Shark Liver oil is rich in squalene and other nutrients, to which we add vitamins D and E, and impacts the human body positively in the following ways: -- Improves absorption of oxygen in the body which is particularly important for the brain which consumes 23% of the oxygen used in the body -- Eliminates fatigue -- Improves health * Patent Number 460000X342-2001 -- Shark liver oil contains 100 times more Alkoxy-Glyceryl (AKGS) than mothers milk. It is also rich in omega 3 oils recommended for nursing mothers, and impacts the human body positively in the following ways: -- Improves resistance to disease; -- Improves phosphate for brain cell production The above products have been shown to be effective. In 2003, Jiahua Marine commenced a sales strategy, which it believes will lead to strong growth in the current and future years. A unique direct marketing campaign has been introduced in conjunction with large scale tours organized throughout China in prime tourist destinations -- Sanya, Beihai (China's premiere tropical leisure vacation centers) and the Three Gorges project. These tours are captive audiences learning the health advantages of the products during an outing associated with their leisure activities. In addition, in 2003 sales have begun in Hualian Supermarket Co. Ltd., (one of the largest specialty chains in China with well over 1200 outlets and sales of US$2 billion, the first publicly listed supermarket retailer in China) as well as in health product and pharmaceutical outlets throughout China. In March 2005, the Group finalised with American River Nutrition Inc. (ARN) an agreement providing HQSM with leading nutraceutical technology for its health products and nutraceutically enriched aquaculture feed products business. The Agreement also sets the stage for distribution of Health products produced by HQSM in the United States as well as introducing ARN nutraceuticals into China through HQSM's marketing network there. 10 ARN has cutting edge technology to develop unique nutraceuticals for aquaculture feeds. These ingredients are directed at improving general health, growth, feed conversion and meat quality of fish and shrimp. ARN is currently developing a product that can boost the immune system of shrimp to ward off common viruses. The impact of access to these new technologies will be a significant boost in developing proprietary technology within the company and an expected significant boost in sales and profitability. Furthermore, the agreement will begin the process of selling HQSM health products in the United States as well as the sale of ARN products through HQSM's distribution network in China. The relevant health products markets in both countries represent a multi-billion dollar business and is expected to lead to the development and sale of many more such products for these markets. Currently HQSM produces and sells shark liver oil and shark cartilage products and sells these through a unique direct sales and retail sales system in China. Currently ARN produces and sells its patent-protected DeltaGold(R) vitamin E, primarily in the USA and Canada. ARN will work with HQSM to develop and validate relevant technologies and coordinate the application of nutraceutical feed ingredients in feed products for Tilapia and Shrimp particularly developing Nutraceutical feed additives in HQSM's Nutraceutical plant that are health oriented and environmentally sound. Marketing Our sales and marketing team consists of nine members and is under the supervision of Mr. Harry Wang, our Chief Operating Officer. The sales and marketing team is responsible for establishing our sales and distribution networks both domestically and internationally, promoting our image and product awareness, and maintaining our customer relationships. We believe that HQOF, one of our principal operating subsidiaries, is the only vertically integrated PRC-based producer present at the International Seafood Shows. This enables HQOF to establish high level and immediate contacts with potential buyers. Buyer preferences and our response to these preferences as well as prices and response to quality and quantity concerns can be immediately addressed without the usual screening and middleman costs. We have located the following as potential and prospective markets that we intend to focus upon for expansion: North America The North American market for tilapia and shrimp is significant and is growing. Competition from producers across the globe, ranging from Bangladesh to Chile, is intense. Minimum quality is presumed as a pre-requisite and consumers tend to be less educated as to the benefits of higher quality in this region. We plan to continue to export to this market where our products are generally well received. 11 People's Republic of China Given the enormous demand and potential in the PRC market, we also consider it a prospective market. The advantageous climatic conditions found in Hainan Province allow year-round production, which differentiates it from other areas in the PRC. With the PRC's accession to the WTO and the continued development of our distribution network, opportunities should arise for us to establish strategic linkages with foreign producers and suppliers seeking access to the ever changing and modernizing Chinese market. We will consolidate this position by being a producer of quality product and this strategy should also allow us to decide and select strategic partners in the PRC in the future. All health and bio-products of the group are sold in this geographic region. A North American marketing initiative has been commenced by the signing of a marketing and distribution agreement with American River Nutrition in March of 2005. The first step in this process is the re-testing of the products by American laboratories to reproduce Chinese results and to make additional tests to support more claims regarding the products. Competition Our company is principally engaged in the vertically integrated business of aquaculture through co-operative supply agreements, ocean product harvesting and processing and sales of farm-bred and ocean harvested aquatic products. The co-operative supply agreements entered into between HQOF and selected tilapia and shrimp farmers in Hainan Province secure the supply, quality and price of raw materials for our Production. Through such arrangement, we believe that we have a competitive advantage over our competitors in Hainan Province. The PRC aquaculture industry is open to competition from local and overseas operators engaged in aquaculture and from other captured fish producers. Our major aquaculture products, tilapia and shrimp, are also facing competition from some other domestic aquaculture producers. Some of the domestic aquaculture processing companies in Hainan Province also obtain the same HACCP Certification and EU Code assignment that we possess, which certifies that their products are also in compliance to certain standards. However, we believe that the competition from such producers is minimal because, to the best of our knowledge, there is no competitor in Hainan Province that has a similar operating scale and production capacity, or that has developed the vertically integrated business model under which we operate. Although there is no formal entry barrier for engaging in similar aquaculture processing production and activities in the PRC, we believe that the high infrastructure costs associated with developing and constructing processing plants and facilities does pose a barrier to potential competitors. Accordingly, competitors have to mobilize extensive resources in order to maintain a presence similar to ours. We believe that we are geographically well-positioned to capitalize on the significant potentials of seafood markets both overseas and within the PRC. As buying power increases in Asia, and developed countries gravitate towards 12 fishery products, seafood producers are under great pressure to respond to increasing demands. We further believe that the following factors contribute to our principal strengths and competitive advantages: Integrated operations. We run a vertically integrated operation that covers key areas along the production chain including sourcing, co-operative supply farming and distribution. Co-operative supply agreements have been secured with several producers who benefit from our extensive technology development program. Through intensive monitoring and quality control of fish fry, pond environment and feed supply, we are able to assure the supply of quality aquaculture products. International and domestic sales and marketing efforts. We have a distribution network for our export sales and domestic sales that is developed and maintained through our marketing offices in Beijing and Shanghai, through our international direct and indirect marketing efforts, and also by virtue of our presence and participation at international seafood shows. Strategic location of co-operative supply and production base. We are geographically well-positioned in Hainan Province to leverage on the year-round favorable climatic conditions, abundant water supply and pristine environment. Such strategic location is a key attribute to the success of our co-operative suppliers of locally farmed tilapia and shrimp, particularly white leg shrimp. Co-operative supply and vertical integration. We have assured supply, quality and price of raw materials for production through long term arrangements with leading local suppliers of shrimp and tilapia. We actively monitor aquaculture quality and provide technological support to our suppliers, which allows us to concentrate our resources and minimize risks. Through intensive monitoring and control of the growth of fish fry, shrimp larvae, pond environment and feed supply, we are able to assure the supply of quality aquaculture products and to enhance product differentiation. An established track record and brand name in the industry. Since our inception, we have established a track record of supplying high quality aquatic products to our overseas and local customers. Good quality control. Safe and hygienic processing of aquatic products is of paramount importance, as any failure to carry out the processing of harvested fish correctly could render the product unsuitable for human consumption. We adopt and implement stringent quality control measures and procedures throughout our production process. Our processing plant in Hainan Province has obtained HACCP and EU Code assignment. Low labor cost. We are operating in a labor intensive industry. Due to the lower labor costs in China, we are able to achieve lower operating cost advantage when compared to our competitors in North America and elsewhere. Local government support. The policy of Hainan Provincial Government is to encourage increased investment in aquaculture and increased export of farmed 13 aquatic products. In December 2001, HQOF, our main operating subsidiary, was recognized as a "Leading Agriculture Enterprise" by Hainan Provincial Government, and in April 2001 HQOF was recognized as a New and High Tech Enterprise of Hainan Province. These recognitions will be a great asset when we participate in annual trade shows including the International Boston Seafood Show and European Seafood Exposition. Reduction of production cost due to the benefit of economy of scale. Expansion of facilities and current sales volumes allows our company to benefit from significant economies of scale. Our research and quality control staff have been able to monitor an increased number of operations without the need of further hiring. Large buyers are able to sole source instead of having to group supply from various producers, allowing long term supply agreements. Awards we have received. In December 2001, the Company was recognized as a "Leading Agriculture Enterprise" by Hainan Provincial Government, and in April 2001, the Company was awarded the "New/high tech Enterprise of Hainan Province" by Hainan Provincial Technology Authorities. In January 2003, the Company was awarded the Industrial Enterprise of the Province. In 2002, The Company was named a Leading Agriculture Enterprise for both Hainan Province and Wenchang. Our board of directors believes that these accreditations reflect our achievements and contribution to the development of the PRC aquaculture industry. In March 2005, the Company was awarded the prestigious China Excellence Award, for health product excellence and advancement of China business practices, by the China Association of Entrepreneur Foreign Investment (CAEFI), a branch of the China Ministry of Commerce of the People's Republic of China. Production certification. We also have received HACCP Certification and EU Code assignment, which demonstrates our commitment to providing a variety of high quality aquatic products under stringent hygiene standards. International management expertise. We have successfully achieved a vertically integrated operation that enables us to capitalize on opportunities in the domestic and international fishery markets. Such achievement can be attributed to our founders and senior management who have contributed their international management expertise and technical know-how to our development. Government Regulation Aquaculture producers in the PRC have to comply with the environmental protection laws and regulations promulgated by the national and local governments of the PRC. Such rules and regulations include, among others, Environmental Protection Law of the PRC, Ocean Environmental Protection Law of the PRC, Regulations on Administration over Dumping of Wastes in the Ocean of the PRC, Ocean Aquatic Industry Administration Regulation, Fishing License Administration Regulation, Regulations on Administration of Hygiene Registration of Exported Food Manufacturers and Regulations on Administration of Quality Control of Food Processors. 14 Our company complies with various national, provincial and local environmental protection laws and regulations. In addition to statutory and regulatory compliance, we actively ensure the environmental sustainability of our operations. Our costs of compliance with applicable environmental laws are minimal, since the design of the plan includes a state-of-the-art settling and filtration system which is inexpensive to maintain. Penalties would be levied upon us if we fail to adhere to and maintain this standard. Such failure has not occurred in the past, and we generally do not anticipate that it may occur in the future, although no assurance can be given in this regard. Patents and Trade Secrets The Company presently has the following patents on its products. * Patent Number 460000X340-2001 -- Shark cartilage is highly alkalescent; it contains chondroitin sulfate and calcium and impacts the human body positively in the following ways: -- Increases efficiency of immune system, activates NK cells associated with combating cancer (sharks are cancer free); -- Reduces blood acidity improving -- Blood pressure -- Apoplexy -- Heart disease -- Fertility -- Osteoporosis * Patent Number 460000X131-2001 -- Shark cartilage also contains glycosaminoglycan, Amino Acids, and collagen proteins which have been specially processed for absorption into the skin and impacts the human body positively in the following ways: -- Increases subcutaneous water content -- Reduces wrinkles -- Slows the visible effects of aging * Patent Number 460000X338-2001 -- Shark Liver oil is rich in squalene and other nutrients, to which we add vitamins D and E, and impacts the human body positively in the following ways: -- Improves absorption of oxygen in the body which is particularly important for the brain which consumes 23% of the oxygen used in the body -- Eliminates fatigue -- Improves health * Patent Number 460000X342-2001 -- Shark liver oil contains 100 times more Alkoxy-Glyceryl (AKGS) than mothers milk. It is also rich in omega 3 oils recommended for nursing mothers, and impacts the human body positively in the following ways: -- Improves resistance to disease; -- Improves phosphate for brain cell production. 15 Employees Through HQOF and Jiahua Marine, our principal operating subsidiaries, we currently employ approximately 434 employees, all of whom are full-time employees. They are located predominantly in Haikou, PRC, with the rest of them located in Wenchang, PRC. We have employment contracts with many of our employees. None of our employees are covered by a collective bargaining agreement, and we believe our employee relations are good. ITEM 2. PROPERTIES The Group operates its aquaculture processing activities in its production base located at No. 1 Pier of Qinglan Sub-factory, Qinglan Port, Wenchang, Hainan Province, the PRC. The land where the production base is located is rented from PLA Haijun No. 4802 Factory to Hainan Fuyuan pursuant to a lease agreement (the "Lease Agreement") dated 5 September 1999 for a term of 10 years from 1 October 1999 to 30 September 2009, at an annual rent of RMB210,000. According to Jundui Property Leasing Certificate of Approval (Document number: (2001) - 00386 dated 20 May 2001, the Lease Agreement has been registered/filed by PLA Haijun Property Administration Bureau and HQOF had issued a confirmation letter on 23 September 2002 to undertake all rental payable and other conditions set out in the Lease Agreement.) The Group operates its health and bio-product processing activities in its production base located on the East side of Wen Qing Road, Wenchang, Hainan Province, the PRC. The land-use-right cost is $81,154. and the term of the right is 50 years, which commenced in December 2000. ITEM 3. LEGAL PROCEEDINGS We are currently not involved in any litigation that we believe could have a materially adverse effect on our financial condition or results of operations. There is no action, suit, proceeding, inquiry or investigation before or by any court, public board, government agency, self-regulatory organization or body pending or, to the knowledge of the executive officers of our company or any of our subsidiaries, threatened against or affecting our company, our common stock, any of our subsidiaries or of our company's or our company's subsidiaries' officers or directors in their capacities as such, in which an adverse decision could have a material adverse effect. ITEM 4. SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS Not applicable PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS Our common stock is quoted on the Over-The-Counter Bulletin Board system and the National Association of Securities Dealers (NASD) Electronic Bulletin Board under the symbol "HQSM.OB." 16 The following table sets forth, for the periods indicated, the high and low sale prices for our common stock as reported by the National Quotation Bureau, Inc. Fiscal Year Ended April 30 (1) 2003 First Quarter (May 2003 - July 2003) $0.17 $0.16 Second Quarter (August 2003 - October 2003) $0.25 $0.16 Third Quarter (November 2003 - January 2004) $0.5 $0.17 Fourth Quarter (February 2004 - April, 2004) $2.8 $0.15 Fiscal Year Ended December 31 2004 First Quarter (May 2004 - June 2004) $1.15 $0.56 Second Quarter (July 2004 - September 2004) $0.95 $0.27 Third Quarter (October 2004 - December 2004) $0.38 $0.18 Period following December 31, 2004 January 2005 $0.31 $0.22 February 2005 $0.31 $0.22 March 2005 $0.31 $0.21 (1) Effective May 1, 2004, we changed our fiscal year end from April 30 to December 31. On December 31, 2004, the closing bid price of our common stock was $0.26. As of December 31, 2004, there were 1,012 holders of record of our common stock. Recent Sales of Unregistered Securities During the period covered by this annual report, we have sold securities pursuant to the following transactions, all of which were exempt from the registration requirements of the Securities Act of 1933, as amended (the "Securities Act"). On March 17, 2004, in connection with the merger of all of the capital stock of Jade Profit Investment Limited, a British Virgin Islands limited liability corporation, into Process Equipment, Inc., we issued: (a) 21,355,200 shares of our common stock to four shareholders, in a private placement under Section 4(2) of the Securities Act; (b) warrants to acquire an additional 27,068,570 shares of newly-issued common stock to four shareholders. The warrants' exercise price was $0.00 per share. The warrants were issued instead of shares due to the lack of sufficient authorized numbers of shares of common stock, which were issued after shareholders approval was obtained. The warrants were issued in reliance upon the exemption from registration provided in Section 4(2) of the Securities Act and Regulation D thereunder. All of the warrants were exercised in full in May 2004 after the shareholders approved the increase of the authorized shares of common stock. 17 On May 28, 2004, we issued 18,600 shares of our common stock and 150,000 warrants to purchase shares of our common stock to Consulting for Strategic Growth 1, Ltd., in consideration of the public relations services rendered to us by that firm. In consideration of the same services, we also issued 900 shares to Bonnie Barrett Stretch, a related party of Consulting for Strategic Growth. All of these securities were issued in reliance upon the exemption from registration provided in Section 4(2) of the Securities Act. On August 17, 2004, we entered into a Purchase Agreement ("Nutraceutical Purchase Agreement") with Sino-Sult Canada (S.S.C.) Limited, a Canadian limited liability corporation ("SSC"), and Sealink Wealth Limited, a British Virgin Islands limited liability corporation ("Sealink"), whereby we acquired Sealink, SSC's wholly owned subsidiary, on the terms and conditions as specified therein. The Nutraceutical Purchase Agreement has been filed as an exhibit to the report we filed on Form 8-K on August 18, 2004. The consideration is payable by HQSM in the following manner: (i) On August 27, 2004, $8,888,655 in the form of 12,698,078 shares of HQSM's common stock, $0.001 par value per share, up to but not exceeding 19.9% of the outstanding shares of HQSM's common stock, on a fully-diluted basis, to be delivered to SSC at closing; and (ii) the remaining balance of $11,111,345 to be payable in the form of a convertible promissory note issued by HQSM to SSC. The note will accrue interest at the rate of 5% per annum and is convertible into: first, one hundred thousand US Dollars (US$100,000) for 100,000 shares of HQSM's Series A preferred stock, $0.001 par value per share, the proposed terms of which are described below and are fully subject to receipt of all necessary shareholder consents and approvals, and thereafter, the remaining principal amount of the note equal to US$11,011,345 into 15,732,493 shares of HQSM's common stock. On November 18, 2004, the $11,011,345 promissory note was converted to 15,732,493 shares of HQSM's common stock. On August 31, 2004, we issued 35,411 shares of our common stock to three parties in consideration of $24,508. In October, 2004, we issued 570,351 shares of our common stock to nineteen parties in consideration of $217,340. In November, 2004, we issued 641,169 shares of our common stock to twenty-six parties in consideration of $177,737. On November 18, 2004, we issued 89,285 shares of our common stock to our three independent non-executive directors Jacques Vallee, Fred Bild and Daniel Too in consideration of $25,000 of their salaries. In December, 2004, we issued 919,964 shares of our common stock to twenty-nine parties in consideration of $285,286. 18 On December 1, 2004, we issued 18,600 shares of our common stock to Consulting for Strategic Growth 1, Ltd., in consideration of the public relations services rendered to us by that firm, amounting at $5,394. In consideration of the same services, we also issued 900 shares to Bonnie Barrett Stretch, a related party of Consulting for Strategic Growth in consideration of $261. On December 1, 2004, we issued 520,685 shares of our common stock to John O'Shea, Henry S. Krauss, Daniel Luskind and Marika Xirouhakis in consideration of their services rendered to us as financial advisors in our Spring 2004 reverse merger. On December 22, 2004, we issued 18,750 shares of our common stock and 50,000 warrants to purchase shares of our common stock to Consulting for Strategic Growth 1, Ltd., in consideration of the public relations services rendered to us by that firm, amounting at $6,562.50. Transfer Agent Our transfer agent is American Stock Transfer and Trust Company. Its address is 59 Maiden Lane, Plaza Level, New York, New York 10038. Dividends We may never pay any dividends to our shareholders. We did not declare any dividends for the eight months ended December 31, 2004. Our board of directors does not intend to distribute dividends in the near future. The declaration, payment and amount of any future dividends will be made at the discretion of the board of directors, and will depend upon, among other things, the results of our operations, cash flows and financial condition, operating and capital requirements, and other factors as the board of directors considers relevant. There is no assurance that future dividends will be paid, and if dividends are paid, there is no assurance with respect to the amount of any such dividend. ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following is management's discussion and analysis of certain significant factors which have affected our financial position and operating results during the periods included in the accompanying consolidated financial statements, as well as information relating to the plans of our current management. This report includes forward-looking statements. Generally, the words "believes," "anticipates," "may," "will," "should," "expect," "intend," "estimate," "continue," and similar expressions or the negative thereof or comparable terminology are intended to identify forward-looking statements. Such statements are subject to certain risks and uncertainties, including the matters set forth in this report or other reports or documents we file with the Securities and Exchange Commission from time to time, which could cause actual results or outcomes to differ materially from those projected. Undue reliance should not be placed on these forward-looking statements which speak only as of the date hereof. We undertake no obligation to update these forward-looking statements. 19 The following discussion and analysis should be read in conjunction with our consolidated financial statements and the related notes thereto and other financial information contained elsewhere in this Form 10-KSB. General Overview The following Management's Discussion and Analysis ("MD&A") is intended to help the reader understand our group. MD&A is provided as a supplement to, and should be read in conjunction with, our financial statements and the accompanying notes ("Notes"). On April 28, 2004, we filed an Information Statement pursuant to Section 14(c) of the Securities Exchange Act of 1934 relating to the name change from Process Equipment, Inc. to "HQ Sustainable Maritime Industries, Inc.", effective April 16, 2004 by virtue of the reincorporation, which is also described in the Information Statement, of Process Equipment, Inc. by a merger with and into a newly-formed wholly-owned Delaware subsidiary to be known as HQ Sustainable Maritime Industries, Inc. The merger was completed pursuant to an agreement and plan of merger dated as of May 19, 2004, which has been reported on a Current Report on Form 8-K filed on May 24, 2004. This Information Statement also related to the adoption of our 2004 Stock Incentive Plan and reported that the holders of the majority of our outstanding common stock have given their consent to approve the adoption of the Plan. Effective May 1, 2004, the fiscal year of the Group changed from April 30 to December 31. On May 18, 2004, we filed a Current Report on Form 8-K reporting the change in our certifying accountant from Baum & Company to Rotenberg & Co., LLP. That report also clarified the implementation of the change in fiscal year that was previously addressed in the Form 8-K filed March 17, 2004. On August 17, 2004, we filed a Current Report on Form 8-K reporting that HQSM acquired a subsidiary Sealink Wealth Limited together with its subsidiary Hainan Jiahua Marine Bio-product Company Limited ("Jiahua Marine"). In addition, the Company also caused Jade Profit Investment Limited, our wholly-owned subsidiary, to acquire the minority equity interest equal to 15.58% that Jade does not already own in HQ Ocean Fishing Company Limited. Thereafter, our principal activity became manufacturing and selling aquatic and health products. Critical Accounting Policies And Estimates The Company prepares its consolidated financial statements in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires the use of estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amount of revenues and expenses during the reporting 20 period. Management periodically evaluates the estimates and judgments made. Management bases its estimates and judgments on historical experience and on various factors that are believed to be reasonable under the circumstances. Actual results may differ from these estimates as a result of different assumptions or conditions. The following critical accounting policies affect the more significant judgments and estimates used in the preparation of the Company's consolidated financial statements. Inventories Inventories are stated at the lower of cost or net realizable value. Cost is calculated on the moving-average basis and includes all costs to acquire and other costs incurred in bringing the inventories to their present location and condition. The Group evaluates the net realizable value of its inventories on a regular basis and records a provision for loss to reduce the computed moving-average cost if it exceeds the net realizable value. Income Taxes Taxes are calculated in accordance with taxation principles currently effective in the PRC. The Group accounts for income taxes using the liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is provided for the amount of deferred tax assets that, based on available evidence, are not expected to be realized. Revenue Recognition In accordance with the provisions of Staff Accounting Bulletin No. 103, revenue is recognized when merchandise is shipped and title passes to the customer and collectibility is reasonably assured. The Group does not always receive revenue for shipping and handling to customers. Shipping and handling expenses incurred by the Group for the eight months ended December 31, 2004 and 2003, respectively, are included in selling and administrative expenses in the accompanying consolidated statements of income. Concentration of Credit Risk Financial instruments that potentially subject the Group to significant concentrations of credit risk consist primarily of trade accounts receivable. The Group performs ongoing credit evaluations with respect to the financial condition of its creditors, but does not require collateral. In order to determine the value of the Group's accounts receivable, the Group records a provision for doubtful accounts to cover probable credit losses. 21 Management reviews and adjusts this allowance periodically based on historical experience and its evaluation of the collectibility of outstanding accounts receivable. Recent Developments Effective May 1, 2004, we changed our fiscal year end from April 30 to December 31. On August 17, 2004, we entered into a Purchase Agreement ("Nutraceutical Purchase Agreement") with Sino-Sult Canada (S.S.C.) Limited, a Canadian limited liability corporation ("SSC"), whereby we acquired Sealink Wealth Limited ("Sealink"), SSC's wholly owned subsidiary incorporated in the British Virgin Islands. The Nutraceutical Purchase Agreement was filed as an exhibit to our Current Report on Form 8-K filed with the Commission on August 18, 2004. Sealink is the sole owner of Hainan Jiahua Marine Bio-Products Co. Ltd., a limited liability company existing in China ("Jiahua Marine") which is primarily engaged in the production and sales of marine bio-products and healthcare products in the PRC. SSC is owned by Harry Wang Hua (51%), Lillian Wang Li (25%), and Norbert Sporns (24%) (collectively, the "SSC Owners"). Lillian Wang Li and Harry Wang Hua are brother and sister. Lillian Wang Li is married to Norbert Sporns. The SSC Owners are current directors and executive officers of HQSM, as well as, collectively, indirect beneficial owners of the majority of its capital stock. Under the terms of the Purchase Agreement, HQSM agreed to purchase SSC's entire interest in Sealink, thus acquiring all of Sealink's interest in Jiahua Marine, in exchange for a total purchase price of $20,000,000. This amount represents approximately a 15% discount on the value of Sealink, based on an independent valuation equal to RMB 198.2 million (approximately US$23.8 million, based on currency exchange rate of 8.30 RMB = 1 US$), which was carried out by Vigers Appraisal & Consulting Limited. The Vigers Appraisal and Consulting Limited report was filed as an exhibit to our Current Report filed on Form 8-K on August 18, 2004. Consideration was paid by HQSM in the following manner: $8,888,655 in the form of 12,698,078 shares of HQSM's common stock, $0.001 par value per share, up to but not exceeding 19.9% of the outstanding shares of HQSM's common stock, on a fully-diluted basis, to be delivered to SSC at closing, and (ii) the remaining balance of $11,111,345 to be payable in the form of a convertible promissory note issued by HQSM to SSC. The note will accrue interest at the rate of 5% per annum and is convertible into: first, $100,000 for 100,000 shares of HQSM's Series A preferred stock, $0.001 par value per share, the proposed terms of which are described below and are fully subject to receipt of all necessary shareholder consents and approvals, and thereafter, the remaining principal amount of the note equal to $11,011,345 into 15,730,493 shares of HQSM's common stock. Subject to receipt of all necessary shareholder consents and approvals, under the proposed terms of the certificate of designation for the Series A preferred stock of HQSM, a form of which is included as an exhibit to the Purchase Agreement, the board of directors of HQSM designated 100,000 shares of HQSM's capital stock as its Series A preferred stock. As currently proposed, the holder of each share of the Series A preferred stock would have the right to the voting power equal to that of one thousand shares of HQSM's common stock, and with respect to such vote, each such holder would have full voting rights and powers equal to the voting rights and powers of the holders of common stock. In 22 addition, a vote or consent of a majority of the holders of the Series A preferred stock is proposed to be required for the following corporate actions of HQSM: (1) authorize, create or issue, or increase the authorized number of shares of any class or series of capital stock ranking prior to or on parity with the Series A preferred stock; (2) authorize, create or issue any class or series of common stock other than common stock; (3) authorize any reclassification of the Series A preferred stock; (4) authorize, create or issue any securities convertible into or exercisable for capital stock prohibited by (1) or (2) above; (5) amend the terms of the Series A preferred stock; or (6) enter into any disposal, merger or reorganization involving 20% of the total capitalization of HQSM. In addition, it is proposed that holders of the Series A preferred stock would have the right to convert it into common stock as provided in the certificate of designation for the Series A preferred stock. HQSM believes that its acquisition of Sealink and Jiahua Marine will give it access to nutraceutically enriched shrimp and tilapia feed, allowing it to farm and market, through its cooperative farms, nutraceutically enriched products. The processes used by Jiahua Marine are natural and can be part of an organic certified tilapia and shrimp product production strategy. In addition, effective August 17, 2004, we also caused Jade Profit Investment Limited, our wholly-owned subsidiary, to acquire the minority equity interest equal to 15.58% that Jade does not already own in Hainan Quebec Ocean Fishing Company Limited, our (then) principal operating subsidiary. This purchase was effected by Jade pursuant to the Purchase Agreement, dated as of August 17, 2004, between Jade and Hainan Fuyuan Investment Company Limited, the holder of the minority equity interest of HQOF being acquired by Jade. That Agreement has been filed as an exhibit to this report. Jade has previously obtained all the requisite governmental approvals in the PRC in order to consummate this transaction. The Company conducts its operations through two wholly owned subsidiaries, Hainan Quebec Ocean Fishing Company Limited ("HQOF") and Hainan Jiahua Marine Bio-product Company Limited ("Jiahua Marine"). HQOF was incorporated in Hainan Province of the People's Republic of China ("China" or the "PRC") on December 28, 1997, and has an approved operating period through December 27, 2022. HQOF manufactures aquatic products. HQOF sells its products primarily in the PRC and North America. HQOF's sales are to both import and export company, retail seller and under its own brand name. HQOF's facilities are located in Wenchang, Hainan Province, PRC. Jiahua Marine was incorporated in Hainan Province of the China on December 17, 1999, and has an approved operating period through December 26, 2019. Jiahua Marine manufactures health and bio-products. Jiahua Marine sells its products primarily in the PRC. Jiahua Marine's sales are to both retail seller and under its own brand. Jiahua Marine's facilities are located in Wenchang, Hainan Province, PRC. 23 Both HQOF and Jiahua Marine face a number of risks and challenges since its operations are located in the PRC. The Company's consolidated results of operations and financial condition may be adversely affected by changes in, among other factors, the political and social conditions in the PRC, and by changes in the government policies with respect to laws and regulations, anti-inflationary measures, currency exchange rates, currency conversion and remittance abroad, and rates and methods of taxation. For this transitional Form 10-KSB Report (the prior fiscal year ended on April 30, 2004) and for comparative and analytical purposes, the following section is based on an audited Eight Months Results ended December 31, 2004 and 2003 respectively. Results of Operations - Eight months Ended December 31, 2004 Compared to Eight Months Ended December 31, 2003 Segments. During the eight months ended December 31, 2004, we acquired an operating subsidiary, Hainan Jiahua Marine Bio-product Company Limited ("Jiahua Marine"), which engages in the manufacturing and selling of health and bio products. This new business segment contributed $3,242,288 to the total turnover of the Group since it was acquired. The gross profit ratio for the new segment was around 83% and the major expense for this segment was advertising, which was about 52% of the turnover. The net income contributed by this segment was $1,005,557 from August 17, 2004, the date of acquisition. The original principal activity of the Group remained to be manufacturing and selling of aquatic products. The turnover contributed by this segment was $17,539,976 and $10,780,448 for the eight months ended December 31, 2004 and 2003, respectively. The gross profit ratio of this segment was 14% and 31% for the eight months ended December 31, 2004 and 2003. This segment contributed net profit of $2,811,434 and $490,522 for the eight months ended December 31, 2004 and 2003, respectively. Sales. Total sales for the eight months ended December 31, 2004 and 2003 was $20,782,264 as compared to $10,780,448 representing an increase of 92%. The aquatic factory was under major renovation from January through May 2004 and consequently, productions ceased during that period. That growth in 2004 compared to 2003 was due to increased activities in the aquatic product segment (62.7% or $6,759,528) and the recently acquired health and bio-product segment (30% or $3,242,288) from August 17, 2004. After production resumed in June 2004 and the sales and marketing functions were back to normal in July 2004, we lowered the gross profit ratio to attract more customers to push up the turnover we lost during the renovation period from January to May 2004. Cost of Sales. Cost of sales for the eight months ended December 31, 2004 and 2003 was $15,637,756 or 75% of total turnover and $7,456,045 or 69% of total turnover, respectively. The gross profit margin for aquatic products decreased in 2004 as the supply from local fishermen dropped significantly due to frequent bad weather in Hainan Province leading to higher supply costs. Gross Profit. A gross profit of $5,144,508 and $3,324,403, an increase of 54%, was recorded for the eight months ended, 2004 and 2003, respectively, corresponding to a margin of 25% and 31% for December 31, 2004 and 2003, 24 respectively. In 2004, the gross profit originated from the two operating entities, HQOF for eight months and Jiahua Marine from August 17, 2004. Furthermore, the effect of the renovations made in 2004 brought back the regular level of activities of the fish processing plant in July 2004 only. Although the fish processing gross profit was reduced in 2004 compared to 2003 for reasons of limited supply from fishermen due to bad weather and marketing policy to attract more customers, that reduction was compensated by the gross profit from the health and bio-products acquired in August 2004. Selling and Distribution Expenses. The selling and distribution expenses for the eight months ended December 31, 2004 and 2003 were $331,379 and $474,231, respectively. Selling and distributing expenses represented approximately 1.6% and 4.4% of sales for the eight months ended December 31, 2004 and 2003, respectively. The overall decrease in selling and distributing expenses during 2004 resulted primarily from a decrease in transportation expenses from $344,402 in 2003 to $169,868 in 2004. The decrease in transportation expenses resulted primarily from an increase in domestic sales whereby transportation expenses are paid directly by the customers. Advertising. The advertising expenses was $1,674,988 or 8.06% of the turnover for the eight months ended December 31, 2004 compared to zero for the eight months ended December 31, 2003. All of the advertising expenses incurred during the period were due to the health and bio-product activity acquired in August 2004, which is an essential expenses in this particular segment. General and Administrative Expenses. The general and administrative expenses for the eight months ended December 31, 2004 and 2003 were $1,871,275 or 9% of the turnover and $672,681 or 6% of the turnover, respectively. The major cause of the increase in 2004 resulted from expenses incurred in connection with our becoming listed as a public company. Such costs which were not incurred in 2003. Depreciation. Depreciation for the eight months ended December 31, 2004 and 2003 was $509,300 and $210,411, respectively. The increase was due to HQOF acquiring additional assets during the current period and additional assets purchased through the acquisition of Jiahua Marine in mid-August 2004. Provision for Bad and Doubtful Debts. Provision for bad and doubtful debts for trade receivables for the eight months ended December 31, 2004 and 2003 was zero and $800,264, respectively. Since the production ceased for reconstruction and expansion of production facilities from January to May 2004, the operating entity could not supply goods to its customers. During the shutdown period, the company experienced slow collection of its receivables from its customers. According to the provision policies previously adopted, we previously considered whether a further provision for bad debts was required. However, when the factory resumed operations and became normal in July 2004, all the outstanding debts were fully recovered by the end of 2004 and the trade receivables as at December 31, 2004 were current. Therefore, no further provision for bad debts is required for the current period. Income from Operations. Income from operations showed a profit of $757,566 and $1,166,816 for the eight months ended December 31, 2004 and 2003, respectively. 25 The main reasons for that reduction were higher general and administrative expenses in 2004 as well as new advertising costs as described above. Finance Costs. Finance costs for the eight months ended December 31, 2004 and 2003 was $400,064 and $304,344, respectively. The increase was mainly due to financing costs related to the purchase of Jiahua Marine in August ($142,158) and incremental cash required to finance increased activities in the second half of the year. Other Income. Other income for the eight months ended December 31, 2004 and 2003 was $2,340,895 and $94,984. The increase was mainly from a large recovery of bad debts in the current period which had been provided for in previous fiscal years. Other Expenses. Other expenses decreased from $188,296 for the eight months ended December 31, 2003 to $139,525 for the eight months ended December 31, 2004, a decrease of $48,711. Other expenses mainly included losses on disposal of fixed assets. Income Before Income Taxes. Income before income taxes increased by $1,789,712 from $769,160 for the eight months ended December 31, 2003 to $2,558,872 for the eight months ended December 31, 2004. This increase resulted from higher gross profits and recovery of bad debts recorded in the current period, offsetting increased general administrative and marketing costs incurred, as described above. Income Taxes. Current income tax for both periods was zero as the Group had no assessable profit earned for PRC taxation purposes and our deferred income tax for the eight months ended December 31, 2004 and 2003 was $193,819 and $120,511, respectively. Deferred taxes increased due to the timing difference from provision for bad debts which was eliminated subsequent to the recovery of bad debts during the eight months ended December 31, 2004. Net Income Before Minority Interest. Net income before minority interest was $2,365,053 and $648,649 for the eight months ended December 31, 2004 and 2003, respectively. The increase resulted from higher gross profits and recovery of bad debts recorded in the current period, offsetting increased general administrative and marketing costs incurred, as described above. Minority Interests. Minority interest was $235,006 and $158,127 for the eight months ended December 31, 2004 and 2003, respectively. The company acquired the remaining minority interests in August 2004. Prior to that date, the minority interest accounted for 15.58% of the net profit of the aquatic product segment of HQOF. Net Income Attributable to Shareholders. The net income attributable to shareholders was $2,130,047 and $490,522 for the eight months ended December 31, 2004 and 2003, respectively. The increase is attributable to a 93% growth in turnover of the aquatic product segment in 2004 and the additional sales of the newly acquired health and bio-product segment. The resulting additional gross profit added to the recovery of bad debts in 2004 was partially offset by new marketing costs in the health and bio-products segment and new overhead costs incurred as a newly listed public company. 26 Liquidity and Capital Resources The Group has in recent years financed its operations primarily with operating revenues. The Group anticipates that revenues from its operations will be sufficient to satisfy the Group's cash requirements for operations during the foreseeable future, except to the extent that increasing orders and sales may require temporary borrowings to finance such expansion and related costs of employee compensation and inventory build-up. No assurance can be given, however, that additional debt or equity financing will not be required or will be available if required. The current ratio decreased from 1.30 (8,660,583/$6,656,441) at April 30, 2004 to 1.16 times (10,686,199/$9,214,238) at December 31, 2004. The decrease was mainly due to the purchase of the minority interest in HQOF in August 2004 for a cash consideration of $5,695,145. Cash Flow Period-to-period fluctuations in various cash-flow category line items were the result of several factors, including the decrease in net income and gross margins that resulted during the period of construction of our factory, which took place during the current period. Since the conclusion of the construction, the Group's operation has returned to normal and management believes the operation production will grow. Fluctuations in cash-flow category line items such as period over period increase in accounts receivable, accounts payable and accrued expenses are subject to period-to-period timing differences. Because of the size and schedule requirements of particular projects undertaken by the company, a significant time lag may occur between inventory build-up related outlays and revenue recognition related to these projects. Due to the variability of the timing of these cash flows as compared with the date used for reporting purposes, significant fluctuations of individual line item cash flows period-over-period are apparent. Management does not believe these fluctuations are consequential to the substantive performance or financial condition of the company. Management does not believe that these fluctuations are indicative of any material trend with regard to the substantive performance or financial condition of the company. Risk Factors In addition to the risks listed below, risks and uncertainties not presently foreseeable to us may also impair our business operations. If any of the following risks actually occurs, our business, financial condition or operating results could be materially adversely affected. In such case, the trading price of our common stock could decline, and you may lose all or part of your investment. 27 Risks Relating To Our Company We have no long-term agreements with customers or distributors; should they discontinue to do business with us, our business and profitability may be adversely affected. Currently, most of our immediate customers are distributors who resell our products to other customers. Our sales arrangement with these distributors are generally short-term in nature and we have not formed or engaged in any agency or distributorship arrangements with such distributors. In the event that some of these distributors cease to purchase our products, our business and profitability may be adversely affected. Even if we are able to procure agency or distributorship arrangements, there is no guarantee that such arrangements will be exclusive in procuring the domestic and/or export sales of our products. We rely on co-operative suppliers and any adverse changes in these relationships may adversely affect us. We have developed a co-operative network in Hainan Province for the supply of tilapia and shrimp by entering into co-operative supply agreements with various co-operative suppliers, who are aquaculture farmers in Hainan Province. Pursuant to the co-operative supply agreements, HQOF is assured the necessary supply of aquatic products from its cooperative suppliers. The continuance and smooth operations of this co-operative network are essential in ensuring cost efficiency and the timely fulfillment of our customer orders. Any adverse change to the co-operative network, including any early termination or non-renewal of any material supply agreement or any failure of the suppliers to fulfill the obligations under the supply agreement, may result in a material adverse effect on our business model, operation and competitiveness. If we are not able to implement our strategies in achieving our business objectives, our business operations and financial performance may be adversely affected. Our business plan is based on circumstances currently prevailing and the bases and assumptions that certain circumstances will or will not occur, as well as the inherent risks and uncertainties involved in various stages of development. However, there is no assurance that we will be successful in implementing our strategies or that our strategies, even if implemented, will lead to the successful achievement of our objectives. If we are not able to successfully implement our strategies, our business operations and financial performance may be adversely affected. We depend on the availability of additional resources for future growth. We are currently experiencing a period of significant growth in terms of sales volume. We believe that our continued expansion is essential for us to remain competitive and to capitalize on the growth potential of our business. Such expansion may place a significant strain on our management and operational and financial resources. 28 As the scale of our operations grows, we will have to continually improve our management, operational and financial systems, procedures and controls, and expand our workforce. The expansion of our business operations may also involve co-operation, or development of new relationships, with third parties, such as customers and suppliers. There can be no assurance that our existing or future management, operational and financial systems, procedures and controls will be adequate to support our operations, or that we will be able to recruit, retain and motivate our personnel. There can also be no assurance that we will be able to establish, develop or maintain the business relationships beneficial to our operations. Failure to manage growth effectively could have a material adverse effect on our business and the results of our operations and financial condition. We depend on key management personnel, and the loss of any of their services could materially adversely affect us. Our operations are dependent upon the experience and expertise of a small number of key management personnel. Our future results will depend significantly upon the efforts of these persons, in particular, Mr. Harry Wang, Ms. Lillian Wang Li and Mr. Norbert Sporns. The loss of the service of any of them for any reason could have a material adverse effect on the business, and the results of our operation and financial condition. We depend on supply of raw materials, and any adverse changes in such supply or the costs of raw materials may adversely affect our operations. We currently obtain all of our raw materials from various aquaculture farms in Hainan Province and are, therefore, dependent on a stable and reliable supply of such raw materials in the region. The supply of these raw materials can be adversely affected by any material change in the climatic or environmental conditions in the Hainan province, which may, in turn, have a material adverse effect on the cost of our raw materials and on our operations. We do not maintain any product liability insurance, and we could therefore be adversely affected by product liability claims against us. During the past four years, we have not purchased or maintained any liability insurance for our tilapia or shrimp products. We believe that there are valid reasons for not purchasing this liability insurance. However, our tilapia and shrimp products are sold in the PRC domestic market as well as exported to locations in the United States, Canada, Japan and some European countries. There is a possibility that our customers, or the ultimate buyers of our products, may have adverse reactions to the tilapia and shrimp products that we process and sell. Any adverse reaction may result in actual or potential product liability claims to the Group. Accordingly, any significant product liability claim may have an adverse effect on our reputation and profitability. We may never pay any dividends to our shareholders. We did not declare any dividends for the year ended December 31, 2004. Our board of directors does not intend to distribute dividends in the near future. The declaration, payment and amount of any future dividends will be made at the discretion of the board of directors, and will depend upon, among other things, 29 the results of our operations, cash flows and financial condition, operating and capital requirements, and other factors as the board of directors considers relevant. There is no assurance that future dividends will be paid, and if dividends are paid, there is no assurance with respect to the amount of any such dividend. Risks Relating To The Aquaculture Industry Our operating subsidiary must comply with environmental protection laws, which could adversely affect our profitability. The Company is required to comply with the environmental protection laws and regulations promulgated by the national and local governments of the PRC. Some of these regulations govern the level of fees payable to government entities providing environmental protection services and the prescribed standards relating to the discharge of effluent. Currently the plant treats all of its waste effluent completely to level one (that is, consistent with releasing potable water back to the environment), and there is currently no charge being levied. In addition, these regulations further empower local governments to impose penalties on those companies which fail to comply with the prescribed standards. If we, through the Company, fail to comply with any of these environmental laws and regulations in the PRC, depending on the types and seriousness of the violation, we may be subject to, among other things, warning from relevant authorities, imposition of fines, specific performance and/or criminal liability, forfeiture of profit made, being ordered to close down our business operations and suspension of relevant permits. Although our production technologies allow us to efficiently control the level of pollution resulting from our production process, and notwithstanding the fact that we have received evidence of compliance with environmental protection requirements from government authorities, due to the nature of our business, effluent wastes are unavoidably generated in the aquaculture production processes. The national and the local governments may promulgate new regulations that may require us to pay environmental protection fees or require us to upgrade our environmental protection facilities. These regulations may impose additional costs and may adversely affect our profitability. We could be adversely affected by the occurrence of natural disasters in Hainan Province. From time to time, Hainan Province, like other South China Sea destinations, experiences typhoons, particularly during the third quarter of any calendar year. Natural disasters could impede operations, damage infrastructure necessary to our operations or adversely affect the logistical services to and from Hainan Province. The occurrence of natural disasters in Hainan Province could adversely affect our business, the results of our operations, prospects and financial condition. We do not currently have any insurance against damage caused by natural disasters, accidents or other similar events, nor do we have insurance covering losses due to resulting business interruption. Should such losses occur, our operations, revenue and profitability might be adversely affected. 30 We may be adversely affected by the fluctuation in raw material prices and selling prices of our products. The raw materials we use are aquaculture stocks and commodities that may experience price volatility caused by events such as market fluctuations or changes in governmental aquaculture programs. These price changes may ultimately result in increases in the selling prices of our products, and may, in turn, adversely affect our sales volume, revenue and operating profit. Neither our products nor the raw materials required have, in general, experienced any significant price fluctuations in the past, but there is no assurance that the raw materials we require will not be subject to any significant price fluctuations or pricing control in the future. The market price of these raw materials may also experience significant upward adjustment, if, for instance, there is a material under-supply or over-demand in the market. Should this happen, our business and the results of our operations could be adversely affected. Our operations, revenue and profitability could be adversely affected by changes in laws and regulations in the countries where we do business. The governments of our exporting countries, including the United States, Japan and other overseas markets, such as Europe and Canada, may, from time to time, consider regulatory proposals relating to raw materials, food safety and market, and environmental regulation, which, if adopted, could lead to disruptions in supply of our products and/or increases in operational costs, which, in turn, could affect our profitability. To the extent that we increase our product prices as a result of such changes, our sales volume and revenues may be adversely affected. Furthermore, these governments may change certain regulations or impose additional taxes or duties on certain Chinese imports from time to time. Such regulations, if effected, may have a material adverse impact on our operations, revenue and/or our profitability. We could be adversely affected by contamination and disease resulting from our purchases of raw materials from third parties. We ceased our aquaculture farming operations in January 2003. Since that time, we have been purchasing raw materials from contracted large-scale local suppliers. If any contamination or outbreak of disease occurs, our supply of raw materials may be jeopardized or disrupted, which, in turn, could adversely affect our operations, revenue and/or profitability. We may be unable to continue to take advantage of the seasonal pricing fluctuation in sales of our products. We have been experiencing seasonal fluctuation in sales in terms of pricing. Pricing fluctuation occurs during the winter season when fish farms in northern PRC suspend production due to cold weather conditions. With the lack of supply from these farms in northern PRC, aquaculture products from other parts of the 31 PRC could customarily be sold at a premium during the winter season. However, there can be no assurance that such premium or pricing could be maintained in the future. Our inability to successfully compete with our competitors in the aquaculture industry may adversely affect us. The aquaculture industry is open to competition from local and overseas operators engaged in similar businesses and products to ours. There is no assurance that we can consistently be successful in maintaining a competitive advantage against our competitors. Any increase in competition may have an adverse effect on both the sales and the pricing of our aquaculture products, which, in turn, will have an adverse effect on our performance, profitability and cash flow. During late 2004, the USA government imposed heavy tariffs of more than 100 percent to some Chinese shrimp exporters. This action was intended to avoid the dumping of Chinese exporters and goods. The decisions were seen as a victory by the domestic shrimp industry, which has suffered in recent years as cheap shrimp imports from Latin America and Asia have increased supplies and dropped prices in the United States. Foreign exporters and American importers argue that imported shrimp, which are farm-raised rather than netted as most U.S. shrimp are, are simply produced more efficiently. American shrimpers say their competitors are cheating by dumping their product and selling it below cost to drive U.S. producers out of business. Last December, the alliance, which represents shrimpers in eight Southern states, petitioned the Commerce Department to investigate possible dumping of shrimp from China, Vietnam, Brazil, Ecuador, India and Thailand. Dumping is illegal in the United States and is punished with tariffs to put law-abiding companies on equal footing. In July 2004, the Commerce Department issued preliminary anti-dumping tariff determinations for the six countries, which last year provided 90 percent of the shrimp consumed in the United States. While the U.S. shrimp industry and its lawyers accurately predicted the Chinese tariffs last summer, the Vietnamese tariffs were far below the roughly 90 percent rate they expected. The United State may impose hefty tariff on other aqua products, but since the direct export sales of the Group is less than 5% of the total sales of the Group, the potential negative effect on the Group will not be material. Risks Relating To The Health and Bio-product Industry We may have difficulty defending our intellectual property from infringement Since effective trademark, patent and trade secret protection may be unavailable in every country in which we do or plan to do business, protection of our intellectual property rights is uncertain and we may be unable to prevent others from developing similar products or using our marks. We regard our service 32 marks, trademarks, trade secrets, patents and similar intellectual property as critical to our success. We rely on trademark, patent and trade secret law, as well as confidentiality and license agreements with our employees, customers, partners and others to protect our proprietary rights. We have received trademark and patent protection for our products in the People's Republic of China. While presently we sell our products mainly in China and Eastern Europe, we intend to enter the markets in the United States and possibly other countries. However, effective trademark, service mark, patent and trade secret protection may not be available in every country in which we sell or may in the future sell our products due to our foreign currency constraint. Therefore, the measures we take to protect our proprietary rights may be inadequate and we cannot give you any assurance that our competitors will not independently develop formulations and processes that are substantially equivalent or superior to our own. We intend to take necessary actions toward protecting our intellectual property rights upon the resolution of our foreign currency constraints. Intense competition from existing and new entities may adversely affect our revenues and profitability We compete with companies, many of whom are developing or can be expected to develop products similar to ours. Our market is a large market with many competitors. Many of our competitors are more established than we are, and have significantly greater financial, technical, marketing and other resources than we presently possess. Some of our competitors have greater name recognition and a larger customer base. These competitors may be able to respond more quickly to new or changing opportunities and customer requirements and may be able to undertake more extensive promotional activities, offer more attractive terms to customers, and adopt more aggressive pricing policies. We intend to create greater brand awareness for our brand name so that we can successfully compete with our competitors. We cannot assure you that we will be able to compete effectively with current or future competitors or that the competitive pressures we face will not harm our business. The products and the processes we use could expose us to substantial liability Product liability could arise from claims by users of our products or of products manufactured by processes we developed, or from manufacturers or others selling our products, either directly or as a component of other products. To date, we have not experienced any problems associated with claims by users of our products. For this reason, we do not have any insurance coverage for these risks at this time. Depending on our experience, we may decide to seek this type of insurance coverage. When, and if, we acquire product liability insurance, we cannot give you any assurance that it will be adequate to protect us or that the insurance coverage will continue to be available to us on reasonable terms. Unexpected Changes in the regulatory environment may negatively impact our business The regulatory environment involving our products is subject to changes that may be introduced either by the relevant governmental regulatory agencies or by 33 virtue of new regulation. Such changes may have a positive or negative impact on the sale of our products. Such regulatory environment also covers any existing or potential trade barriers in the form of import tariff and taxes that may make it difficult for us to import our products to certain countries, which would limit our international expansion. We may suffer from political and economic instability in countries where we operate We are currently operating mainly in China, however, we expect to begin selling our products in other countries in the future. Political and economic instability in the countries in which we presently operate and may operate in the future may negatively affect our sales, revenues and business operations. We may experience currency fluctuation and longer exchange rate payment cycles The local currencies in the countries in which we operate may fluctuate in value in relation to other currencies. Such fluctuations may affect the costs of our products sold and the value of our local currency profits. While we are not conducting any meaningful operations in countries other than China at the present time, we may expand to other countries and may then have an increased risk of exposure of our business to currency fluctuation. Risks Relating To The PRC There could be changes in government policies that may adversely affect our business The aquatic products industry in the PRC is subject to policies implemented by the PRC government from time to time. The PRC government may, for instance, impose control over aspects such as raw material distribution, product pricing and sales. On the other hand, the PRC government may also make available subsidies or preferential treatments (such as in the form of tax benefits or favorable financing arrangements). If the raw materials used by us or our products should become subject to any form of government control, then depending on the nature and extent of such control and our ability to make corresponding adjustments, there could be a material adverse effect on our business and operating results. Certain political and economic considerations relating to PRC could adversely affect our company. The PRC is transitioning from a planned economy to a market economy. While the PRC government has pursued economic reforms since its adoption of the open-door policy in 1978, a large portion of the PRC economy is still operating under five-year plans and annual state plans. Through these plans and other economic measures, such as control on foreign exchange, taxation and restrictions on foreign participation in the domestic market of various industries, the PRC government exerts considerable direct and indirect influence on the economy. Many of the economic reforms carried out by the PRC government are unprecedented 34 or experimental, and are expected to be refined and improved. Other political, economic and social factors can also lead to further readjustment of such reforms. This refining and readjustment process may not necessarily have a positive effect on our operations or future business development. Our operating results may be adversely affected by changes in the PRC's economic and social conditions as well as by changes in the policies of the PRC government, such as changes in laws and regulations (or the official interpretation thereof), measures which may be introduced to control inflation, changes in the rate or method of taxation, and imposition of additional restrictions on currency conversion. The recent nature and uncertain application of many PRC laws applicable to us create an uncertain environment for business operations and they could have a negative effect on us. The PRC legal system is a civil law system. Unlike the common law system, the civil law system is based on written statutes in which decided legal cases have little value as precedents. In 1979, the PRC began to promulgate a comprehensive system of laws and has since introduced many laws and regulations to provide general guidance on economic and business practices in the PRC and to regulate foreign investment. Progress has been made in the promulgation of laws and regulations dealing with economic matters such as corporate organization and governance, foreign investment, commerce, taxation and trade. The promulgation of new laws, changes of existing laws and the abrogation of local regulations by national laws could have a negative impact on our business and business prospects. In addition, as these laws, regulations and legal requirements are relatively recent, their interpretation and enforcement involve significant uncertainty. Potential effects related to the PRC's WTO accession could have a material adverse affect our company. The PRC became a member of the WTO in December 2001. Pursuant to the bilateral agreement entered into between the PRC and the United States on December 11, 1999, the PRC agreed to lower tariffs on imports by an average of approximately 17% and to eliminate quotas and other quantitative restrictions on food product imports within two to five years. There is no assurance that such increased competition will not have any material adverse effect on our business or profitability. Currency conversion and exchange rate volatility could adversely affect our financial condition. The PRC government imposes control over the conversion of Renminbi into foreign currencies. Under the current unified floating exchange rate system, the People's Bank of China publishes an exchange rate, which we refer to as the PBOC exchange rate, based on the previous day's dealings in the inter-bank foreign exchange market. Financial institutions authorized to deal in foreign currency may enter into foreign exchange transactions at exchange rates within an authorized range above or below the PBOC exchange rate according to market conditions. 35 Pursuant to the Foreign Exchange Control Regulations of the PRC issued by the State Council which came into effect on April 1, 1996, and the Regulations on the Administration of Foreign Exchange Settlement, Sale and Payment of the PRC which came into effect on July 1, 1996, regarding foreign exchange control, conversion of Renminbi into foreign exchange by Foreign Investment Enterprises, or FIEs, for use on current account items, including the distribution of dividends and profits to foreign investors, is permissible. FIEs are permitted to convert their after-tax dividends and profits to foreign exchange and remit such foreign exchange to their foreign exchange bank accounts in the PRC. Conversion of Renminbi into foreign currencies for capital account items, including direct investment, loans, and security investment, is still under certain restrictions. On January 14, 1997, the State Council amended the Foreign Exchange Control Regulations and added, among other things, an important provision, which provides that the PRC government shall not impose restrictions on recurring international payments and transfers under current account items. Enterprises in the PRC (including FIEs) which require foreign exchange for transactions relating to current account items, may, without approval of the State Administration of Foreign Exchange, or SAFE, effect payment from their foreign exchange account or convert and pay at the designated foreign exchange banks by providing valid receipts and proofs. Convertibility of foreign exchange in respect of capital account items, such as direct investment and capital contribution, is still subject to certain restrictions, and prior approval from the SAFE or its relevant branches must be sought. Since 1994, the exchange rate for Renminbi against the United States dollars has remained relatively stable, most of the time in the region of approximately RMB8.28 to US$1.00. However, there can be no assurance that Renminbi will not be subject to devaluation. We may not be able to hedge effectively against Renminbi devaluation, so there can be no assurance that future movements in the exchange rate of Renminbi and other currencies will not have an adverse effect on our financial condition. HQOF and Jiahua Marine, our principle operating subsidiaries, are a FIEs to which the Foreign Exchange Control Regulations are applicable. There can be no assurance that we will be able to obtain sufficient foreign exchange to pay dividends or satisfy other foreign exchange requirements in the future. Our dependence upon Chinese production facilities and raw material suppliers could affect our company. All of our processing facilities are located in the PRC and all the raw materials we require are located in the PRC. Therefore, our operations and performance are subject to changes in the economic and political environment in the PRC and to the risks inherent in maintaining operations outside the United States. 36 Selected Financial Data The following information has been summarized from financial information included elsewhere and should be read in conjunction with such financial statements and notes thereto. Summary of Statements of Operations of HQSM Eight Months Ended December 31, 2004 and Eight Months Ended December 31, 2003 December, 2004 December, 2003 Sales $ 20,782,264 $ 10,780,448 Gross Profit $ 5,144,508 $ 3,324,403 Net Income $ 2,130,047 $ 490,552 Net Income Per Share $ 0.03 N/A Summary of Balance Sheets of HQSM December 31, 2004 April 30, 2004 Working Capital $ 1,471,961 $ 2,004,142 Total Assets $ 20,925,662 $ 15,654,815 Stockholders' Equity $ 11,611,424 $ 9,396,284 37 ITEM 7. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA HQ SUSTAINABLE MARITIME INDUSTRIES, INC. AND SUBSIDIARIES (INCORPORATED IN THE STATE OF DELAWARE WITH LIMITED LIABILITY) CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 2004 INDEX TO FINANCIAL STATEMENTS Independent Auditors' Report F-2 Consolidated Balance Sheets as of December 31, 2004 and April 30, 2004 F-3 - F-4 Consolidated Statements of Income for the eight months ended December 31, 2004 and 2003 F-5 Consolidated Statements of Changes in Shareholders' Equity for the eight months ended December 31, 2004 and 2003 F-6 - F-7 Consolidated Statements of Cash Flows for the eight months ended December 31, 2004 and 2003 F-8 Notes to Consolidated Financial Statements F-9 - F-21 F-1 INDEPENDENT AUDITORS' REPORT The Board of Directors HQ Sustainable Maritime Industries, Inc. and Subsidiaries in State of Delaware We have audited the accompanying consolidated balance sheets of HQ Sustainable Maritime Industries, Inc. and Subsidiaries as of December 31, 2004 and April 30, 2004, and the related consolidated statements of income, changes in shareholders' equity, and cash flows for the eight months ended December 31, 2004 and 2003. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with The Public Company Accounting Oversight Board Standards (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated 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, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of HQ Sustainable Maritime Industries, Inc. and Subsidiaries as of December 31, 2004 and April 30, 2004, and the results of their consolidated operations and their consolidated cash flows for the eight months ended December 31, 2004 and 2003, in conformity with accounting principles generally accepted in the United States of America. /s/ Rotenberg & Co., LLP Rotenberg & Co., LLP Certified Public Accountants Rochester, New York March 16, 2005 F-2 HQ SUSTAINABLE MARITIME INDUSTRIES, INC. AND SUBSIDIARIES (INCORPORATED IN THE STATE OF DELAWARE WITH LIMITED LIABILITY) CONSOLIDATED BALANCE SHEETS AS OF DECEMBER 31, 2004 AND APRIL 30, 2004 ASSETS ------ December 31, April 30, 2004 2004 ------------ ------------ CURRENT ASSETS Cash and cash equivalents $ 4,551,505 $ 5,854,623 Trade receivables, net of provision 5,406,172 2,368,364 Inventory 228,564 79,527 Prepayments 1,932 45,052 Due from related parties, net of provision 388,506 188,802 Due from directors -- 42,613 Advance to employee 27,918 -- Tax recoverable 81,602 81,602 ------------ ------------ TOTAL CURRENT ASSETS 10,686,199 8,660,583 ------------ ------------ OTHER ASSETS Deferred taxes 1,209,790 1,403,609 ------------ ------------ PROPERTY, PLANT AND EQUIPMENT, NET 9,029,673 2,211,633 ------------ ------------ CONSTRUCTION IN PROGRESS, NET -- 3,378,990 ------------ ------------ VESSELS HELD FOR SALE -- -- ------------ ------------ TOTAL ASSETS $ 20,925,662 $ 15,654,815 ============ ============ The accompanying notes are in integral part of the consolidated financial statements F-3 HQ SUSTAINABLE MARITIME INDUSTRIES, INC. AND SUBSIDIARIES (INCORPORATED IN THE STATE OF DELAWARE WITH LIMITED LIABILITY) CONSOLIDATED BALANCE SHEETS AS OF DECEMBER 31, 2004 AND APRIL 30, 2004 LIABILITIES AND SHAREHOLDERS' EQUITY December 31, April 30, 2004 2004 ------------ ------------ CURRENT LIABILITIES Accounts payable and accrued expenses $ 4,204,630 $ 1,503,109 Deposit received from customers -- 37,452 Bank loans 4,457,831 3,012,048 Amount due to related parties 86,994 -- Due to directors 209,361 -- Convertible notes 255,422 255,422 Subscription received -- 1,848,410 ------------ ------------ TOTAL CURRENT LIABILITIES 9,214,238 6,656,441 ------------ ------------ OTHER LIABILITIES Promissory note 100,000 -- ------------ ------------ TOTAL LIABILITIES 9,314,238 6,656,441 MINORITY INTEREST -- (397,910) SHAREHOLDERS' EQUITY Share capital 95,055 25,000 Additional paid-in capital 13,099,205 13,121,114 Reserves 1,146,316 957,656 Accumulated losses (2,729,152) (4,707,486) ------------ ------------ TOTAL SHAREHOLDERS' EQUITY 11,611,424 9,396,284 ------------ ------------ TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 20,925,662 $ 15,654,815 ============ ============ The accompanying notes are in integral part of the consolidated financial statements F-4
HQ SUSTAINABLE MARITIME INDUSTRIES, INC. AND SUBSIDIARIES (INCORPORATED IN THE STATE OF DELAWARE WITH LIMITED LIABILITY) STATEMENTS OF INCOME FOR THE EIGHT MONTHS ENDED DECEMBER 31, 2004 AND 2003 May 1, 2004 to May 1, 2003 to December 31, 2004 December 31, 2003 ----------------- ----------------- SALES $ 20,782,264 $ 10,780,448 COST OF SALES 15,637,756 7,456,045 ----------------- ----------------- GROSS PROFIT/(LOSS) 5,144,508 3,324,403 SELLING AND DISTRIBUTION EXPENSES 331,379 474,231 ADVERTISING 1,674,988 -- GENERAL AND ADMINISTRATIVE EXPENSES 1,871,275 672,681 DEPRECIATION 509,300 210,411 PROVISION FOR DOUBTFUL DEBTS -- 800,264 ----------------- ----------------- INCOME/(LOSS) FROM OPERATIONS 757,566 1,166,816 FINANCE COSTS 400,064 304,344 OTHER INCOME (2,340,895) (94,984) OTHER EXPENSES 139,525 188,296 ----------------- ----------------- INCOME/(LOSS) BEFORE INCOME TAXES 2,558,872 769,160 INCOME TAXES CURRENT -- -- DEFERRED 193,819 120,511 ----------------- ----------------- NET INCOME/(LOSS) BEFORE MINORITY INTEREST 2,365,053 648,649 MINORITY INTEREST (235,006) (158,127) ----------------- ----------------- NET INCOME/(LOSS) ATTRIBUTABLE TO SHAREHOLDERS $ 2,130,047 $ 490,522 ================= ================= NET INCOME/(LOSS) PER SHARE BASIC AND DILUTED $ .03 $ N/A ================= ================= WEIGHTED AVERAGE COMMON SHARE OUTSTANDING 69,770,366 N/A ================= =================
The accompanying notes are in integral part of the consolidated financial statement F-5
HQ SUSTAINABLE MARITIME INDUSTRIES, INC. AND SUBSIDIARIES (INCORPORATED IN THE STATE OF DELAWARE WITH LIMITED LIABILITY) STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY FOR THE EIGHT MONTHS ENDED DECEMBER 31, 2004 Additional Share capital paid-in Accumulated Share Par value capital Reserves losses Total ------------ ------------ ------------ ------------ ------------ ------------ Balance at April 30, 2004 25,000,000 25,000 13,121,114 957,656 (4,707,486) 9,396,284 ------------ ------------ ------------ ------------ ------------ ------------ Issued 70,055,123 share at $0.001 each 70,055,123 70,055 22,533,644 -- -- 22,603,699 Net income for the period of 8 months -- -- -- -- 2,130,047 2,130,047 Transfer to reserve -- -- -- 151,713 (151,713) -- Capital reserve accrued during the period -- -- -- 36,947 -- 36,947 Adjustment from acquisition of Assets under cost basis -- -- (22,555,553) -- -- (22,555,553) ------------ ------------ ------------ ------------ ------------ ------------ Balance at December 31, 2004 95,055,123 $ 95,055 $ 13,099,205 $ 1,146,316 $ (2,729,152) $ 11,611,424 ============ ============ ============ ============ ============ ============
The accompanying notes are in integral part of the consolidated financial statements F-6
HQ SUSTAINABLE MARITIME INDUSTRIES, INC. AND SUBSIDIARIES (INCORPORATED IN THE STATE OF DELAWARE WITH LIMITED LIABILITY) STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY FOR THE EIGHT MONTHS ENDED DECEMBER 31, 2003 Additional Share capital paid-in Accumulated Share Par value capital Reserves losses Total ----------- ----------- ----------- ----------- ----------- ----------- Balance at April 30, 2003 10,000 100 12,731,114 778,550 (2,504,912) 11,004,852 ----------- ----------- ----------- ----------- ----------- ----------- Net income for the period of 8 months -- -- -- -- 490,522 490,522 Transfer to reserve -- -- -- 179,106 (179,106) -- ----------- ----------- ----------- ----------- ----------- ----------- Balance at December 31, 2003 10,000 $ 100 $12,731,114 $ 957,656 $(2,193,496) $11,495,374 =========== =========== =========== =========== =========== ===========
The accompanying notes are in integral part of the consolidated financial statements F-7
HQ SUSTAINABLE MARITIME INDUSTRIES, INC. AND SUBSIDIARIES (INCORPORATED IN THE STATE OF DELAWARE WITH LIMITED LIABILITY) STATEMENTS OF CASH FLOWS FOR THE EIGHT MONTHS ENDED DECEMBER 31, 2004 AND 2003 May 1, 2004 to May 1, 2003 to December 31, 2004 December 31, 2003 ----------------- ----------------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income / (loss) $ 2,130,047 $ 490,522 Adjustments to reconcile net income to net cash provided by operating activities : Increase/(decrease) in provision for doubtful account (2,535,047) (2,535,047) Goodwill adjusted for reorganization process (22,555,553) -- Depreciation 509,300 210,411 (Increase)/decrease in assets: Inventory 36,176 41,529 Trade receivables, net of provisions 3,821,544 1,393,289 Prepayment 296,398 253,396 Advance to employee (27,918) -- Taxation -- (174,917) Deferred taxes 193,819 45,449 Increase/(decrease) in liabilities: Accounts payables and accrued expenses 84,054 (82,507) Deposit received from customers (37,452) (35,547) Promissory note 100,000 -- Subscription received -- -- ----------------- ----------------- Net cash used in operating activities (17,984,632) (393,442) ----------------- ----------------- CASH FLOWS FROM INVESTING ACTIVITIES: Acquisition of property, plant and equipment (409,000) (2,742,198) Additions to construction in progress -- -- Capital expenditure (5,966,633) -- Cash received from acquisition 1,205,193 -- ----------------- ----------------- Net cash used in investing activities (5,170,440) (2,742,198) ----------------- ----------------- CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from common stock 20,755,288 1,915,746 Received from/(payment to) directors 251,975 (52,956) Received from/(payment to) related parties 687,745 214,973 Purchase of minority interest from shareholders 397,910 158,127 Repayment of bank loan (240,964) -- ----------------- ----------------- Net cash provided by financing activities 21,851,954 2,235,890 ----------------- ----------------- NET CHANGE IN CASH AND CASH EQUIVALENTS (1,303,118) (899,730) Cash and cash equivalents, beginning of period 5,854,623 11,937,510 ----------------- ----------------- Cash and cash equivalents, end of period $ 4,551,505 $ 11,037,780 ================= ================= SUPPLEMENTARY CASH FLOWS DISCLOSURES Interest paid $ 225,661 $ 387,395 ================= ================= Taxes paid $ -- $ 249,979 ================= ================= SUPPLEMENTARY DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES Note payable in connection with acquisition of Jiahua Marine $ 100,000 $ -- ================= =================
The accompanying notes are in integral part of the consolidated financial statements F-8 HQ SUSTAINABLE MARITIME INDUSTRIES, INC. (INCORPORATED IN THE STATE OF DELAWARE WITH LIMITED LIABILITY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 2004 AND APRIL 30, 2004 1. ORGANIZATION AND PRINCIPAL ACTIVITIES HQ Sustainable Maritime Industries, Inc. ("HQSM") was initially incorporated as Sharon Capital Corporation, or Sharon, on September 21, 1989 under the laws of the State of Nevada. Sharon was a "blind pool/blank check" corporation organized for the purpose of purchasing, merging with or acquiring a business or assets from another company. In July 1990, Sharon was changed to PEI, Inc., which was subsequently changed to Process Equipment, Inc. in November 1990. On March 17, 2004, Process Equipment, Inc., Process Equipment Acquisition Corporation, a Nevada corporation and wholly-owned subsidiary of Process Equipment, Inc., or PEAC, and Jade Profit Investment Limited, or Jade, a British Virgin Islands limited liability corporation, entered into an agreement and plan of merger. Pursuant to that agreement, Process Equipment, Inc., through PEAC, acquired Jade, and 84.42% ownership in Jade's subsidiary Hainan Quebec Ocean Fishing Co. Ltd, a People's Republic of China, limited liability corporation, which we refer to as HQOF. As a result of that transaction, HQOF became our main operating subsidiary. In April of 2004, pursuant to the above agreement and plan of merger, the board of directors of Process Equipment, Inc. and a majority of the stockholders approved a name change and change of domicile of that company to Delaware via a merger with the newly formed wholly-owned Delaware subsidiary, HQSM. The name change, change of domicile and merger became effective on May 19, 2004, with HQSM being the surviving entity in the merger and acquiring all the assets and liabilities of Process Equipment, Inc. On August 17, 2004, we have entered into a Purchase Agreement with Sino-Sult Canada (S.S.C.) Limited, a Canadian limited liability corporation ("SSC"), whereby we acquired Sealink Wealth Limited ("Sealink"), SSC's wholly owned subsidiary incorporated in the British Virgin Islands. That purchase agreement has been filed as an exhibit to our current report on Form 8K filed with the Commission on August 18, 2004. Sealink is the sole owner of Hainan Jiahua Marine Bio-Products Co. Ltd., a limited liability company existing in China ("Jiahua Marine") which is primarily engaged in the production and sales of marine bio-products and healthcare products in the PRC, as described in more detail in the above current report. Also as previously disclosed, in the same current report, SSC is owned by three of our current directors and executive officers who are also, together, indirect beneficial owners of the majority of our capital stock. Further, as previously disclosed in the above current report, effective August 17, 2004, HQSM caused Jade Profit Investment Limited, its wholly-owned subsidiary, to acquire the minority equity interest equal to 15.58% that Jade did not already own in Hainan Quebec Ocean Fishing Company Limited, HQSM's principal operating subsidiary. This purchase was effected by Jade pursuant to F-9 the Purchase Agreement, dated as of August 17, 2004, between Jade and Hainan Fuyuan Investment Company Limited, the holder of the minority equity interest of HQOF being acquired by Jade. Jade has previously obtained all requisite governmental approvals in the PRC in order to consummate this transaction. The Group is principally engaged in the vertically integrated business of aquaculture through co-operative supply agreements, ocean product harvesting, and processing and sales of farm-bred and ocean harvested aquatic products. The principal products of HQOF are cross-bred hybrid of tilapia and white-legged shrimp exporting, directly and indirectly, to the United States, Canada, Japan and European countries. The major market is for export. The Group has also engaged in the production and sales of marine bio-products and healthcare products in the PRC. The principal products of Hainan Jiahua Marine Bio-Product Company Limited (100% hold subsidiary of Sealink) are Shark Cartilage Capsule, Shark Liver Oil and Shark Liver (Soft gel). The major market is domestic in the PRC. 2. BASIS OF PRESENTATION The consolidated financial statements include the accounts of HQSM and all its subsidiaries ("The Group"). All material inter-company accounts and transactions have been eliminated. The consolidated financial statements are prepared in accordance with generally accepted accounting principles used in the United States of America. 3. SUMMARY OF PRINCIPAL ACCOUNTING POLICIES A. CASH AND CASH EQUIVALENTS The Group considers cash and cash equivalents to include cash on hand and demand deposits with banks with an original maturity of three months or less. B. TRADE RECEIVABLE In order to determine the value of the Group's accounts receivable, the Group records a provision for doubtful accounts to cover estimated credit losses. Management reviews and adjusts this allowance periodically based on historical experience and its evaluation of the collectibility of outstanding accounts receivable. The Group evaluates the credit risk of its customers utilizing historical data and estimates of future performance. C. INVENTORIES Inventories are stated at the lower of cost or net realizable value. Cost is calculated on the moving-average basis and includes all costs to acquire and other costs incurred in bringing the inventories to their present location and condition. The Group evaluates the net realizable value of its inventories on a regular basis and records a provision for loss to reduce the computed moving-average cost if it exceeds the net realizable value. F-10 D. PROPERTY, PLANT AND EQUIPMENT Property, plant and equipment are carried at cost. The cost of repairs and maintenance is expensed as incurred; major replacements and improvements are capitalized. When assets are retired or disposed of, the cost and accumulated depreciation are removed from the accounts, and any resulting gains or losses are included in income in the year of disposition. Depreciation is calculated on a straight-line basis over the estimated useful life of the assets. The percentages applied are: Buildings and leasehold improvement 2.25% - 9% Plant and machinery 9% - 18% Motor vehicles 18% Office equipment and furnishings 18% E. FAIR VALUE OF FINANCIAL INSTRUMENTS The carrying value of financial instruments including cash, receivables, accounts payable and accrued expenses and debt, approximates their fair value at December 31, 2004 and April 30, 2004 due to the relatively short-term nature of these instruments. F. CONSTRUCTION IN PROGRESS Construction in progress represents buildings, machinery and other fixed assets under construction or installation, which is stated at cost less any impairment losses, and is not depreciated. Cost comprises the direct costs of purchase, construction and installation. Construction in progress is reclassified to the appropriate category of fixed assets when completed and ready for use. The management is of the opinion that no impairment loss is considered necessary at year-end. G. INCOME TAXES Taxes are calculated in accordance with taxation principles currently effective in the PRC. The Group accounts for income taxes using the liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is provided for the amount of deferred tax assets that, based on available evidence, are not expected to be realized. F-11 H. GOVERNMENT SUBSIDIES Subsidies from the government are recognized at their fair values when received or there is reasonable assurance that they will be received, and all attached conditions are complied with. I. RELATED PARTIES Parties are considered to be related if one party has the ability, directly or indirectly, to control the other party or exercise significant influence over the other party in making financial and operational decisions. Parties are also considered to be related if they are subject to common control or common significant influence. Related parties may be individuals or corporate entities. J. FOREIGN CURRENCY TRANSLATION The Group maintains its books and accounting records in Renminbi ("RMB"), the PRC's currency, being the functional currency. Translation of amounts from RMB in United States dollars ("US$") has been made at the single rate of exchange of US$1.00:RMB8.30. No representation is made that RMB amounts could have been or could be, converted into US dollar at that rate. On January 1, 1994, the PRC government introduced a single rate of exchange as quoted daily by the People's Bank of China (the "Unified Exchange Rate"). The quotation of the exchange rates does not imply free convertibility of RMB to other foreign currencies. All foreign exchange transactions continue to take place either through the Bank of China or other banks authorized to buy and sell foreign currencies at the exchange rates quoted by the People's Bank of China. Approval of foreign currency payments by the Bank of China or other institutions requires submitting a payment application form together with supplier's invoices, shipping documents and signed contracts. K. USE OF ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the reporting period. Actual results when ultimately realized could differ from those estimates. F-12
L. REVENUE RECOGNITION In accordance with the provisions of Staff Accounting Bulletin No. 103, revenue is recognized when merchandise is shipped and title passes to the customer and collectibility is reasonably assured. The Group does not always receive revenue for shipping and handling to customers. Shipping and handling expenses incurred by the Group amounted to $175,065 and $290,023 for the eight months ended December 31, 2004 and 2003, respectively and are included in selling and administrative expenses in the accompanying consolidated statements of income. M. EMPLOYEES' BENEFITS Mandatory contributions are made to the Government's health, retirement benefit and unemployment schemes at the statutory rates in force during the period, based on gross salary payments. The cost of these payments is charged to the statement of income in the same period as the related salary cost. N. SEGMENTS No geographical segment analysis is provided, as less than 10% of consolidated revenues and less than 10% of consolidated income from operations is attributable to business segment other than the vertically integrated business of aquaculture through processing and sales of farm-bred and ocean harvested aquatic products. Business segment for the eight months ended December 31, 2004 Aquaculture Health and Unallocated products bio-products items Consolidated ------------ ------------ ------------ ------------ Sales to external customers $ 17,539,976 $ 3,242,288 $ -- $ 20,782,264 ============ ============ ============ ============ General and administrative expenses -- -- (1,871,275) (1,871,275) Depreciation Selling expenses (303,171) (28,208) -- (331,379) Advertising -- (1,674,988) -- (1,674,988) Finance costs (155,627) (50,088) (194,349) (400,064) Profit before taxation 3,240,259 1,005,557 (1,686,944) 2,558,872 Taxation (193,819) -- -- (193,819) Profit for the year $ 2,811,434 $ 1,005,557 $ (1,686,944) $ 2,130,047 ============ ============ ============ ============ Segment assets $ 13,412,191 $ 7,452,718 $ 60,753 $ 20,925,662 ============ ============ ============ ============ Segment liabilities $ 4,809,501 $ 2,932,717 $ 1,572,020 $ 9,314,238 ============ ============ ============ ============ Other segment items Depreciation $ (380,933) $ (124,068) $ (4,299) $ (509,300) Capital expenditure $ 377,117 $ 325 $ 31,558 $ 409,000 ============ ============ ============ ============
F-13 O. COMPREHENSIVE INCOME/(LOSS) The Group has adopted the provisions of Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive Income" ("SFAS No. 130"). SFAS No. 130 establishes standards for the reporting and display of comprehensive income, its components and accumulated balances in a full set of general-purpose financial statements. SFAS No. 130 defines comprehensive income (loss) to include all changes in equity except those resulting from investments by owners and distributions to owners, including adjustments to minimum pension liabilities, accumulated foreign currency translation, and unrealized gains or losses on marketable securities. P. CONCENTRATION OF CREDIT RISK Financial instruments that potentially subject the Group to significant concentrations of credit risk consist primarily of trade accounts receivable. The Group performs ongoing credit evaluations with respect to the financial condition of its creditors, but does not require collateral. In order to determine the value of the Group's accounts receivable, the Group records a provision for doubtful accounts to cover probable credit losses. Management reviews and adjusts this allowance periodically based on historical experience and its evaluation of the collectibility of outstanding accounts receivable. Q. RECENT PRONOUNCEMENTS In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on Derivative Instruments and Hedging Activities". SFAS No. 149 amends and clarifies financial accounting and reporting for derivative instruments, including certain derivative instruments embedded in other contracts (collectively referred to as derivatives) and for hedging activities under SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities". The changes in SFAS No. 149 improve financial reporting by requiring that contracts with comparable characteristics be accounted for similarly. This statement is effective for contracts entered into or modified after June 30, 2003 and all of its provisions should be applied prospectively. In May 2003, the FASB issued SFAS No. 150, "Accounting For Certain Financial Instruments with Characteristics of both Liabilities and Equity". SFAS No. 150 changes the accounting for certain financial instruments with characteristics of both liabilities and equity that, under previous pronouncements, issuers could account for as equity. The new accounting guidance contained in SFAS No. 150 requires that those instruments be classified as liabilities in the balance sheet. SFAS No. 150 affects the issuer's accounting for three types of freestanding financial instruments. One type is mandatory redeemable shares, which the issuing company is obligated to buy back in exchange for cash or other assets. A second type includes put options and forward purchase contracts, which involves instruments that do or may require the issuer to buy back some of its shares in exchange for cash or other assets. The third type of instruments that are F-14 liabilities under this SFAS is obligations that can be settled with shares, the monetary value of which is fixed, tied solely or predominantly to a variable such as a market index, or varies inversely with the value of the issuers' shares. SFAS No. 150 does not apply to features embedded in a financial instrument that is not a derivative in its entirety. Most of the provisions of Statement 150 are consistent with the existing definition of liabilities in FASB Concepts Statement No. 6, "Elements of Financial Statements". The remaining provisions of this SFAS are consistent with the FASB's proposal to revise that definition to encompass certain obligations that a reporting entity can or must settle by issuing its own shares. This SFAS shall be effective for financial instruments entered into or modified after May 31, 2003 and otherwise shall be effective at the beginning of the first interim period beginning after June 15, 2003, except for mandatory redeemable financial instruments of a non-public entity, as to which the effective date is for fiscal periods beginning after December 15, 2004. In January 2003, and as revised in December 2003, the FASB issued Interpretation No. 46, "Consolidation of Variable Interest Entities" "Interpretation No. 46"), an interpretation of Accounting Research Bulletin ("ARB") No. 51", "Consolidated Financial Statements". Interpretation No. 46 addresses consolidation by business enterprises of variable interest entities, which have one or both of the following characteristics: (i) the equity investment at risk is not sufficient to permit the entity to finance its activities without additional subordinated support from other parties, which is provided through another interest that will absorb some or all of the expected losses of the entity; (ii) the equity investors lack one or more of the following essential characteristics of a controlling financial interest: the direct or indirect ability to make decisions about the entity's activities through voting rights or similar rights; or the obligation to absorb the expected losses of the entity if they occur, which makes it possible for the entity to finance its activities; the right to receive the expected residual returns of the entity if they occur, which is the compensation for the risk of absorbing the expected losses. Interpretation No. 46, as revised, also requires expanded disclosures by the primary beneficiary (as defined) of a variable interest entity and by an enterprise that holds a significant variable interest in a variable interest entity but is not the primary beneficiary. Interpretation No. 46, as revised, applies to small business issuers no later than the end of the first reporting period that ends after December 15, 2004. This effective date includes those entities to which Interpretation No. 46 had previously been applied. However, prior to the required application of Interpretation No. 46, a public entity that is a small business issuer shall apply Interpretation No. 46 to those entities that are considered to be special-purpose entities no later than as of the end of the first reporting period that ends after December 15, 2003. F-15 Interpretation No. 46 may be applied prospectively with a cumulative-effect adjustment as of the date on which it is first applied or by restating previously issued financial statements for one or more years with a cumulative-effect adjustment as of the beginning of the first year restated. In June 2003, the FASB issued an Exposure Draft for proposed SFAS entitled "Qualifying Special Purpose Entities ("QSPE") and Isolation of Transferred Assets", an amendment of SFAS No. 140 ("The Exposure Draft"). The Exposure Draft is a proposal that is subject to change and as such, is not yet authoritative. If the proposal is enacted in its current form, it will amend and clarify SFAS 140. The Exposure Draft would prohibit an entity from being a QSPE if it enters into an agreement that obliged a transferor of financial assets, its affiliates, or its agents to deliver additional cash or other assets to fulfill the special-purposes entity's obligation to beneficial interest holders. Management does not expect these recent pronouncements to have a material impact on the Company's consolidated financial position or results of operations. 4. TRADE RECEIVABLE The Group's trade receivable at December 31, 2004 and April 30, 2004 are summarized as follows: December 31, 2004 April 30, 2004 ----------------- ----------------- Trade receivable $ 5,406,172 $ 4,721,411 Less: Allowance for doubtful accounts -- 2,353,047 ----------------- ----------------- $ 5,406,172 $ 2,368,364 ================= ================= The activity in the Group's allowance for doubtful accounts during the eight months ended December 31, 2004 and for the four months ended April 30, 2004 is summarized as follows: December 31, 2004 April 30, 2004 ----------------- ----------------- Balance at beginning of year $ 2,353,047 $ 829,716 Add: amounts provided during the year -- 1,523,331 Less: amounts written off during the year (2,353,047) -- ----------------- ----------------- Balance at end of year $ -- $ 2,353,047 ================= ================= 5. PROPERTY, PLANT AND EQUIPMENT December 31, 2004 April 30,2004 ----------------- ----------------- Cost : Buildings and leasehold improvement $ 2,817,990 $ 61,254 Plant and machinery 8,461,585 3,038,046 Motor vehicles 68,580 65,493 Office equipment and furnishings 126,470 48,793 ----------------- ----------------- 11,474,625 3,213,586 F-16 Less Accumulated depreciation: Buildings and leasehold improvement 273,479 37,196 Plant and machinery 2,050,400 892,133 Motor vehicles 55,228 45,463 Office equipment and furnishings 65,845 27,161 ----------------- ----------------- 2,444,952 1,001,953 ----------------- ----------------- Property, plant and equipment, net $ 9,029,673 $ 2,211,633 ================= ================= Depreciation expenses relating to property, plant and equipment was $509,300 and $210,411 for the eight months ended December 31, 2004 and 2003, respectively. 6. INVENTORIES December 31, 2004 April 30, 2004 ----------------- ----------------- Raw materials $ 84,569 $ 44,588 Work-in-progress 82,609 -- Finished goods 61,386 34,939 ----------------- ----------------- Total Inventories $ 228,564 $ 79,527 ================= ================= 7. PREPAYMENT Prepayment represents advances to suppliers. 8. ACCOUNTS PAYABLE AND ACCRUED EXPENSES Accounts payable and accrued expenses at December 31, 2004 and April 30, 2004 are summarized as follows: December 31, 2004 April 30, 2004 ----------------- ----------------- Accounts payable $ 146,026 $ 97,148 Accrued expenses 4,058,604 1,405,961 ----------------- ----------------- $ 4,204,630 $ 1,503,109 ================= ================= 9. BANK LOANS As at December 31, 2004, the Group has 3 expired loans from banks at an amount of $1,807,229, $963,855 and 1,686,747 bearing an interest of 6.588%, 6.588% and 5.04% per annum, respectively. As at the date of the report, the Group is in negotiation with the bankers to extend and expects to have the loans extended for not less than one year to December 2005. The loans were secured by the pledge of certain fixed assets held by the Group and its subsidiaries. F-17 10. INCOME TAXES HQOF registered in the PRC is subject to state and local income taxes within the PRC at the applicable tax rate on the taxable income as reported in their PRC statutory financial statements in accordance with the relevant income tax laws applicable to foreign enterprises. HQOF was subject to a tax rate of 7.5% during 2003. HQOF is entitled to a two-year tax free and three-year half tax holidays from 2001 commencing with the first profit-making year. Further, the newly acquired subsidiary Jiahua Marine enjoys the two-year tax free and three-year half-tax holidays from 2003 commencing with the first profit-marking year. The reconciliation of the effective income tax rate of the Company to the statutory income tax rate in the PRC for the eight months ended December 31, 2004 is as follows: Statutory tax rate 15.0% Tax holidays and concessions (7.5%) ------- Effective tax rate 7.5% ======= The Group's income before income taxes was comprised of the following for the eight months ended December 31, 2004 and 2003, respectively: December 31, 2004 December 31, 2003 ----------------- ----------------- United States $ (1,694,305) $ -- PRC 4,253,177 769,160 ----------------- ----------------- $ 2,558,872 $ 769,160 ================= ================= Income taxes are calculated on a separate entity basis. There currently is no tax benefit or burden recorded for the United States. The provisions for income taxes for the eight months ended December 31, 2004 and 2003, respectively,are summarized as follows: PRC only: December 31, 2004 December 31, 2003 ----------------- ----------------- Current $ -- $ -- Deferred tax 193,819 120,511 ----------------- ----------------- $ 193,819 $ 120,511 ================= ================= F-18 11. INCOME TAXES (CONT'D) Tax recoverable comprise the following: December 31, 2004 April 30, 2004 ----------------- ----------------- Balance at beginning of the period $ 81,602 $ 81,602 Income tax provided for the period -- -- ----------------- ----------------- As at the end of the period $ 81,602 $ 81,602 ================= ================= Deferred tax assets comprise the following: December 31, 2004 April 30, 2004 ----------------- ----------------- Balance at beginning of the period $ 1,403,609 $ 1,426,334 Deferred tax written off for the period 193,819 22,725 ----------------- ----------------- As at the end of the period $ 1,209,790 $ 1,403,609 ================= ================= Deferred taxation is calculated under the liability method in respect of taxation effect arising from all timing differences, which are expected with reasonable probability to crystallize in the foreseeable future. 12. CONVERTIBLE NOTES In December 2002, the Company entered into a subscription agreement, non-interest bearing, with an accredited investor, for the sale of a $255,422 principal amount of convertible notes, in a private placement, to assist with the financing of operations in PRC. . In May 2004, a supplementary agreement was signed to extend the maturity date of the notes to May 2005. 13. RESERVES The reserve funds are comprised of the following: December 31, 2004 April 30, 2004 ----------------- ----------------- Statutory surplus reserve fund $ 739,580 $ 681,877 Public welfare fund 369,790 275,779 Capital reserve 36,946 -- ----------------- ----------------- $ 1,146,316 $ 957,656 ================= ================= Pursuant to the relevant laws and regulations of Sino-foreign joint venture enterprises, the profits of the HQ, which are based on their PRC statutory financial statements, are available for distribution in the form of cash dividends after they have satisfied all the PRC tax liabilities, provided for losses in previous years, and made appropriations to reserve funds, as determined at the discretion of the board of directors in accordance with the PRC accounting standards and regulations. F-19 As stipulated by the relevant laws and regulations for enterprises operating in the PRC, the Jade Profit's Sino-foreign joint ventures are required to make annual appropriations to two reserve funds, consisting of the statutory surplus and public welfare funds. In accordance with the relevant PRC regulations and the articles of association of the respective companies, the companies are required to allocate a certain percentage of their profits after taxation, as determined in accordance with the PRC accounting standards applicable to the companies, to the statutory surplus reserve until such reserve reaches 50% of the registered capital of the companies. Net income as reported in the US GAAP financial statements differs from that as reported in the PRC statutory financial statements. In accordance with the relevant laws and regulations in the PRC, the profits available for distribution are based on the statutory financial statements. If HQOF has foreign currency available after meeting its operational needs, HQOF may make its profit distributions in foreign currency to the extent foreign currency is available. Otherwise, it is necessary to obtain approval and convert such distributions at an authorized bank. 14. EMPLOYEE STOCK OPTION PLAN On December 2, 2004, our board of directors ratified grants of non-qualified stock options to purchase shares of our common stock under our Stock Option Plan (the "Plan") to some of our executive officers and directors, as well as to several of our employees, as further detailed in this current report on Form 8-K. Each of these new stock options has up to a ten-year term, is subject to the terms and conditions of the Plan, and is priced at $0.28, which represents the fair market value as of the initial grant date of November 23, 2004. Specifically, Norbert Sporns, our Chief Executive Officer, President and director, received 500,000 stock options. Lillian Wang, the Chairman of our board of directors, received 500,000 stock options. Harry Wang, our Chief Operating Officer, director and brother of Ms. Wang, received 500,000 stock options; and Fusheng Wang, our director, Honorary Chairman and father of Ms. Wang, received 1,000,000 stock options. Together, Norbert Sporns, Harry Wang and Lillian Wang also indirectly control the majority of capital stock of HQSM. The stock options granted to each of them, as well as to Fusheng Wang, were fully vested when granted. In addition, our Chief Financial Officer, Jean-Pierre Dallaire, received 200,000 stock options. Mr. Dallaire's options are vested immediately as to 50% of the grant, with the remaining 50% vesting as follows: 1/3 on June 16, 2005, 1/3 on June 16, 2006, and the remaining 1/3 on June 16, 2007. Further, our board of directors ratified grants of stock options to thirteen other employees of HQSM. These stock options are vested immediately as to 50% of each individual grant, with the remaining 50% vesting as follows: 1/3 on June 16, 2005, 1/3 on June 16, 2006, and the remaining 1/3 on June 16, 2007. In the case of one of the employees, the stock options were fully vested when granted. F-20 Our board of directors believes that these stock option grants will help our company to continue to attract, retain and incentivize our employees, directors and executive officers. In connection with these grants, our board of directors reserved 5,000,000 shares for issuance under the Plan. In addition, pursuant to the provisions of the Plan, our board of directors delegated the full power and authority to administer the Plan, in accordance with its terms, to our Compensation Committee presently consisting of Norbert Sporns, Fred Bild, an independent director, and Daniel Too, also an independent director of HQSM. 15. SIGNIFICANT CONCENTRATION The Group grants credit to its customers, generally on an open account basis. The Group's five largest customers accounted for 57.4% of the consolidated sales for the eight months ended December 31, 2004, in which all customers are in excess of 10% of consolidated sales, with 15.9%, 12.0% and 10.6% of consolidated sales, or an aggregate of 38.5% of consolidated sales. At December 31, 2004, approximately 43.3% of trade receivables were from trade transactions with the aforementioned five customers. 16. WARRANTIES The Group did not incur any warranty costs for the eight months ended December 31, 2004 and for the four months ended April 30, 2004. 17. COMMITMENTS AND CONTINGENCIES A. CAPITAL COMMITMENTS As of December 31, 2004, the Group has no significant capital commitments required for disclosure. B. LEGAL PROCEEDINGS The Group is not currently a party to any threatened or pending legal proceedings. 18. CURRENT VULNERABILITY DUE TO CERTAIN CONCENTRATIONS The Group faces a number of risks and challenges since its operations are in the PRC. The Group's operations in the PRC are subject to special considerations and significant risks not typically associated with companies in North America and Western Europe. The Group's results may be adversely affected by changes in the political and social conditions in the PRC, and by changes in governmental policies with respect to laws and regulations, anti-inflationary measures, currency conversion and remittance abroad, and rates and methods of taxation, among other things. F-21
19. UNAUDITED PRO FORMA CONDENSED CONSOLIDATED FINANCIAL STATEMENTS On August 17, 2004, HQSM and Sealink, as the parent and management company of Hainan Jiahua Marine Bio-products Company Limited. ("Jiahua Marine"), consummated an Purchase Agreement whereby HQSM acquired all of the issued and outstanding capital stock of Sealink in consideration is payable by HQSM in the following manner: $8,888,655 in the form of 12,698,078 shares of HQSM's common stock, $0.001 par value per share, up to but not exceeding 19.9% of the outstanding shares of HQSM's common stock, on a fully-diluted basis, to be delivered to SSC at closing, and (ii) the remaining balance of $11,111,345 to be payable in the form of a convertible promissory note issued by HQSM to SSC. This note is included as Exhibit B to the Nutraceutical Purchase Agreement. The note will accrue interest at the rate of 5% per annum and is convertible into: first one hundred thousand US Dollars (US$100,000) for 100,000 shares of HQSM's Series A preferred stock, $0.001 par value per share, the proposed terms of which are described below and are fully subject to receipt of all necessary shareholder consents and approvals, and thereafter the remaining principal amount of the note equal to US$11,011,345 into 15,730,493 shares of HQSM's common stock. The note is convertible only upon completion of an audit of HQSM's acquisition of Sealink and Jiahua Marine, performed to the satisfaction of HQSM and receipt of all necessary shareholder consents and approvals. The Purchase Agreement is being accounted for as a recapitalization of Sealink whereby the historical financial information of Sealink becomes the historical financial information of the Registrant. The accompanying Unaudited Pro Forma Condensed Consolidated Balance Sheet as of December 31, 2004 and 2003 and the Unaudited Pro Forma Condensed Consolidated Statements of Income for the Eights Months ended December 31, 2004 and 2003, have been prepared to reflect the acquisition as if it had occurred as of May 1, 2003 the first day of the earliest period presented in the financial statements. The accompanying pro forma information is presented for illustrative purposes only and is not necessarily indicative of the financial position or results of operations which would actually have been reported had the merger been in effect during the periods presented, or which may be reported in the future. May 1 to Dec 31, 2004 May 1 to Dec 31, 2003 (USD `000) (USD `000) Turnover 22,383 16,409 Income from operations 2,893 2,477 Net income attributable to shareholders 4,156 1,729 ====== ====== F-22 Total assets 23,340 31,117 ====== ====== Total liabilities 11,306 14,879 ====== ======
F-23 ITEM 8 CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE As disclosed in our Current Report on Form 8-K filed May 18, 2004, in view of the merger among Process Equipment, Inc., Process Equipment Acquisition Corporation and Jade, as more fully described in the Registrant's Current Report on Form 8-K filed on March 17, 2004, and Process Equipment, Inc.'s newly acquired subsidiary's operations in China, the Board of Directors believed that a firm with more international auditing experience should be engaged to perform work for the company. As a result, the Board of Directors approved the engagement of Rotenberg & Co., LLP ("Rotenberg") as the principal accountant to audit our financial statements, effective May 12, 2004, to replace Baum & Company, P.A. ("Baum"). Our audit committee is headed by Mr. Vallee, one of our three independent non-executive directors. The principal accountant's report of Baum on our financial statements for either of the past two years did not contain an adverse opinion or disclaimer of opinion, nor was it modified as to the uncertainty, audit scope, or accounting principles. During our two most recent fiscal years and any subsequent interim period through the date of the principal accountant's resignation on May 12, 2004, there were no disagreements with the former accountant, Baum, on any matter of accounting principles or practices, financial statement disclosure, or auditing scope or procedure, which, if not resolved to the former accountant's satisfaction, would have caused it to make reference to the subject matter of the disagreement(s) in connection with its report. We provided Baum with a copy of the statements made above and requested Baum to furnish a letter addressed to the Securities and Exchange Commission stating whether or not Baum agrees with the statements and, if not, stating the respects in which it does not agree. A copy of this letter, dated May 18, 2004, is filed as an exhibit to the Current Report on Form 8-K filed May 18, 2004. We have not consulted with Rotenberg, our new principal independent accountant, during the last two years or subsequent interim period up to and including the date we engaged Rotenberg on either the application of accounting principles or type of opinion Rotenberg might issue on our financial statements. Item 8A. Controls and Procedures. (a) Evaluation of Disclosure Controls and Procedures. As of the end of the period covered by this report (the "Evaluation Date"), we carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and President, and our Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Rule 13a-15 under the Securities Exchange Act of 1934, as amended (the "Exchange Act"). Based upon this evaluation, our Chief Executive Officer and our Chief Financial Officer concluded that, as of the Evaluation Date, our disclosure controls and procedures were effective under Rule 13a-15. 38
Disclosure controls and procedures are controls and procedures that are designed to ensure that information required to be disclosed in our reports filed or submitted under the Securities Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission's rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed in our reports filed under the Exchange Act is accumulated and communicated to management, including our principal executive officer and our principal financial officer, as appropriate, to allow timely decisions regarding required disclosure. (b) Changes in Internal Controls. There were no changes in our internal controls or in other factors that could significantly affect these internal controls subsequent to the date of their evaluation. PART III ITEM 9 DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS, COMPLIANCE Directors And Executive Officers The following table sets forth the names and ages of our current directors and executive officers, their principal offices and positions and the date each such person became our director or executive officer. The executive officers are all full time employees of HQSM. The directors and executive officers of HQSM are as follows: NAME AGE POSITION DATE OF APPOINTMENT DATE OF RESIGN - --------------- --- ------------------------------------ --------------------------- ----------------- Lillian Wang Li 47 Director/Chairman of Board of March 25, 2004 as director; Directors/ Secretary officer April 13, 2004 as executive Acting Chief Financial Officer April 13, 2004 September 1, 2004 Harry Wang Hua 41 Director/Chief Operating Officer March 25, 2004 Norbert Sporns 50 Director/Chief Executive Officer/ President March 25, 2004 Jacques Vallee 52 Independent Non-executive Director June 15, 2004 Fred Bild 67 Independent Non-executive Director June 15, 2004 Jean-Pierre Dallaire 53 Financial Controller April 13, 2004 Chief Financial Officer September 1, 2004 He Jian Bo 37 Manager Finance Dept. April 13, 2004 Liam Haniffy 37 Sales and Quality Production Manager April 13, 2004 February 8, 2005 Wang Fu Hai 60 Chief Production Controller April 13, 2004 Fusheng Wang 71 Honorary Chairman and Director August 17, 2004 Daniel Too 52 Independent Non-executive Director September 2, 2004
39 Our directors are generally elected until the next annual meeting of shareholders and until their successors are elected and qualified, or until their earlier resignation or removal. We have recently appointed Fred Bild, Jacques Vallee and Daniel Too as independent non-executive directors, effective as of June 15, 2004, June 15, 2004 and September 2, 2004, respectively, pursuant to Independent Non-Executive Director Agreements we entered into with each of them. In consideration for their services, we agreed to pay each of Fred Bild, Daniel Too and Jacques Vallee an annual salary of $15,000 and an annual bonus of not less than $15,000 payable in shares of our common stock. Our officers are generally elected annually by the board of directors and hold office for a term of one year and until a successor is elected and qualified, or until their earlier resignation or removal. All officers identified above serve at the discretion of our board of directors. Family Relationships Lillian Wang Li and Harry Wang Hua are brother and sister and Ms. Wang is married to Norbert Sporns. Set forth below are the brief descriptions of the background and experience of each of our officers and directors: Lillian Wang Li - Chairman of Board of Directors and Secretary Lillian Wang Li, age 47, is one of the founders of HQSM and is the chairman of our board of directors. She is responsible for the general administration, strategic planning and financial management of HQSM. Ms. Wang graduated from the Beijing University majoring in European and Chinese Literature and holds a certificate in business administration from Concordia University, Canada. She has over twenty-five years experience in management of China and Canadian businesses, particularly with respect to financial matters. Harry Wang Hua - Director and Chief Operating Officer Harry Wang Hua, age 41, is one of the founders of HQSM, and is our director and chief operating officer. He is responsible for the establishment of the production facilities and their operation in HQSM. He attended the Beijing Industrial University majoring in civil engineering. Mr. Wang has over fifteen years' experience in managing startup companies in China and in Canada and in training middle managers in China to Western standards. Norbert Sporns - Director, Chief Executive Officer and President Norbert Sporns, age 51, is one of the founders of HQSM, and is our director, chief executive officer and president. He has extensive experience in project development and investment consultancy. He graduated from the University of British Columbia, Canada, majoring in Philosophy. He also holds a Bachelor of 40 Civil Law degree and a Bachelor of English Common Law degree from McGill University and a Certificate of Tax Law, a Certificate in Condominium Law and a Diploma of Notarial Law from the University of Montreal. Mr. Sporns joined HQSM in 1997. Jacques Vallee -Independent Non-executive Director Jacques Vallee, age 52, is an independent non-executive director. He is currently in charge of Business Development and Financing with the Altitude Consulting Group. In addition to an M.B.A. from the University of Sherbrooke and an advanced Certificate in Business Administration from the University de Quebec a Trois Rivieres, Mr. Vallee also holds a post-graduate level Advertising Management Diploma from the Ecole des Hautes Etudes Commerciales, Montreal. He has over 30 years of management experience at such notable Canadian institutions as the Bank of Montreal, La Federation des Caisses Populaires Desjardins de Richelieu-Yamaska, Le Fonds de Solidarite des Travailleurs du Quebec and Altitude Consulting Group. Fred Bild - Independent Non-executive Director Fred Bild, age 67, is currently Visiting Professor at the University of Montreal's Centre of East Asian Studies and is a private consultant on political and economic relations with China and East Asia. Professor Bild received a B.A. in Philosophy and Sociology from Sir George Williams University, a Diploma in International Law from University College, London, and a Diplome de Stage from the Ecole National d'Administration in Paris. Over the past nearly forty years, Mr. Bild has served the Canadian Embassy in various functions including Cultural Attache (Tokyo), Economic Counsel and Deputy Chief (Paris) and Ambassador to Thailand and China. Daniel Too - Independent Non-executive Director Mr. Too, a graduate of Hong Kong University and Polytechnic, has extensive business experience in Asia and brings a keen understanding of the business difficulties associated with working in China. He is currently the Managing Director of Delta Elevator Far East and serves as Director of Voker Chemical Paint Limited. He has been named to the compensation committee with another Independent Non-Executive Director, Mr. Fred Bild, and the CEO, Norbert Sporns. Jean-Pierre Dallaire - Financial Controller and Chief Financial Officer Jean-Pierre Dallaire, age 53, is the financial controller and CFO of HQSM. He has experience with Canada's largest engineering company where he was responsible for cash flow projections and project financial supervision. He holds a Master degree in Administration (Accounting) from the University of Sherbrooke, Canada. He joined HQSM in 2000. 41 He Jian Bo - Manager Finance Department He Jian Bo, age 37, is the manager of the finance department of HQSM. He holds a Bachelor's and a Master degree in Economics from the Southwestern University of Finance and Economics, the PRC. He joined HQSM in 1999. Wang Fu Hai - Director and Chief Accounting and Finance Officer Wang Fu Hai, age 60, is the Chief Production Controller and Engineer of HQSM. He graduated from Post College in 1966. He was the manager of Project Department Hainan Jiahua Ocean Organism Co., Ltd. He has solid experience in production coordination and control. He joined HQSM in 1997. Compliance with Section 16(a) of the Exchange Act Section 16(a) of the Exchange Act requires our directors, executive officers and persons who own more than 10% of a required class of our equity securities, to file with the SEC initial reports of ownership and reports of changes in ownership of common stock and other equity securities of our company. Officers, directors and greater than 10% shareholders are required by SEC regulation to furnish us with copies of all Section 16(a) forms they file. To our knowledge, based upon a review of the copies of such reports furnished to us and based upon written representations that no other reports were required, all Section 16(a) filing requirements applicable to our officers, directors and greater than 10% beneficial owners were complied with during the fiscal year ended December 31, 2004 and subsequently. Code of Ethics In July 2004, our board of directors adopted a code of ethics that applies to all of our officers and employees, including our principal executive officer, principal financial officer, principal accounting officer and controller. The code of ethics will establish standards and guidelines to assist our directors, officers and employees in complying with both our corporate policies and with the law. It has been posted at our website: www.hqfish.com ITEM 10 EXECUTIVE COMPENSATION The following table sets forth certain information concerning the compensation of our chief executive officer and our two other most highly compensated executive officers who earned at least $100,000 during the eight months ended December 31, 2004: Name and Principal Position Annual Compensation Long-Term Compensation - ------------------ ------------------- ---------------------- Norbert Sporns $150,000 500,000 Options (Chief Executive Officer) Lillian Wang Li (Chairman of Board) $187,500 500,000 Options Harry Wang Hua (Chief Operating Officer) $150,000 500,000 Options 42 Director Compensation Unless otherwise restricted by the certificate of incorporation, the members of board of directors have the authority to fix the compensation of directors. The directors may be paid their expenses, if any, of attendance at each meeting of the board of directors and may be paid a fixed sum for attendance at each meeting of the board of directors or a stated salary as director. No such payment shall preclude any director from serving the corporation in any other capacity and receiving compensation thereafter. Members of special or standing committees may be allowed, like, for example, compensation for attending committee meetings. Please also refer to the above description of our compensation arrangements with each of our three non-executive independent directors under "--Directors and Executive Officers." Audit Committee Financial Expert As stated above, we recently appointed three independent non-executive directors to our board of directors. We consider one of our independent directors, Mr. Jacques Vallee, to be an audit committee financial expert within the meaning of the applicable Securities and Exchange Commission rules and regulations. ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS. On December 2, 2004, our board of directors ratified grants of non-qualified stock options to purchase shares of our common stock under our Stock Option Plan (the "Plan") to some of our executive officers and directors, as well as to several of our employees, as further detailed in our Current Report on Form 8-K filed on December 3, 2004. Each of these new stock options has up to a ten-year term, is subject to the terms and conditions of the Plan, and is priced at $0.28, which represents the fair market value as of the initial grant date of November 23, 2004. Specifically, Norbert Sporns, our Chief Executive Officer, President and director, received 500,000 stock options; Lillian Wang, the Chairman of our board of directors, received 500,000 stock options; Harry Wang, our Chief Operating Officer, director and brother of Ms. Wang, received 500,000 stock options; and Fusheng Wang, our director, Honorary Chairman and father of Ms. Wang, received 1,000,000 stock options. Together, Norbert Sporns, Harry Wang and Lillian Wang also indirectly control the majority of capital stock of HQSM. The stock options granted to each of them, as well as to Fusheng Wang, were fully vested when granted. In addition, our Chief Financial Officer, Jean-Pierre Dallaire, received 200,000 stock options. Mr. Dallaire's options are vested immediately as to 50% of the grant, with the remaining 50% vesting as follows: 1/3 on June 16, 2005, 1/3 on June 16, 2006, and the remaining 1/3 on June 16, 2007. 43 Further, our board of directors ratified grants of stock options to thirteen other employees of HQSM. These stock options are vested immediately as to 50% of each individual grant, with the remaining 50% vesting as follows: 1/3 on June 16, 2005, 1/3 on June 16, 2006, and the remaining 1/3 on June 16, 2007. In the case of one of the employees, the stock options were fully vested when granted. Our board of directors believes that these stock option grants will help our company to continue to attract, retain and incentivize our employees, directors and executive officers. In connection with these grants, our board of directors reserved 5,000,000 shares for issuance under the Plan. In addition, pursuant to the provisions of the Plan, our board of directors delegated the full power and authority to administer the Plan, in accordance with its terms, to our Compensation Committee presently consisting of Norbert Sporns, Fred Bild, an independent director, and Daniel Too, also an independent director of HQSM. Security Ownership of Certain Beneficial Owners and Management The following table sets forth certain information regarding beneficial ownership of common stock as of December 31, 2004, and after giving effect to our recent merger described elsewhere in this annual report, by: o each person known to us to own beneficially more than 5%, in the aggregate, of the outstanding shares of our common stock; o each director; o each of our chief executive officer and our other two most highly compensated executive officers; and o all executive officers and directors as a group. The number of shares beneficially owned and the percent of shares outstanding are based on 95,055,123 shares outstanding as of December 31, 2004. Beneficial ownership is determined in accordance with the rules of the SEC and generally includes voting or investment power with respect to securities. Except as otherwise noted below, the address of each of the shareholders in the table is c/o HQ Sustainable Maritime Industries, Inc., Wall Street Center, 14 Wall Street, 20th Floor, New York, New York 10005. Shares of Common Stock Beneficially Owned Beneficial Owner Number Percent - ---------------- ---------------------- ------------------ Barron Partners LP 3,407,000(1) 3.6% Norbert Sporns 16,708,759(2) 17.6% Lillian Wang Li 17,404,957(2) 18.3% 44 Harry Wang Hua 35,506,113(2) 37.3% Jacques Vallee 35,714 0.03% Fred Bild 35,714 0.03% Daniel Too 17,857 0.02% All such directors and executive officers as a group (6 persons) 69,709,114 73.28% (1) Consists of 3,407,000 shares of our common stock that are currently owned beneficially; 1,480,000 shares of common stock underlying a Class C common stock purchase warrant that may be exercised within 60 days; and 1,480,000 shares of common stock underlying a Class D common stock purchase warrant that may be exercised within 60 days. Barron Partners LP's address is to the attention of Andrew Barron Worden, Managing Partner, 730 Fifth Avenue, 9th Floor, New York, NY 10019. (2) Beneficially owns the shares indicated, which are owned of record by Red Coral Group Limited and Sino-Sult Canada (S.S.C.) Limited. Each of Mr. Sporns, Ms. Wang and Mr. Wang own, respectively, 24%, 25% and 51% of the issued capital of Red Coral and share voting and investment power over the shares held by Red Coral and Sino-Sult Canada. Changes in Control We know of no plans or arrangements that will result in a change of control at our company. ITEM 12. CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS No related parties transaction has been made for the both period. ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K. (a) Exhibits required by Item 601 of Regulation S-B. Exhibit No. Description of Exhibit - ----------- ---------------------- 2 Agreement and Plan of Merger, dated as of March 17, 2004, by and among Process Equipment, Inc., Process Equipment Acquisition Corporation and Jade Profit investment Limited (incorporated by reference to the Report on Form 14-C of Process Equipment, Inc. (Commission File No. 0-18980), filed with the Commission on April 28, 2004). 45 3.1 Certificate of Incorporation of HQ Sustainable Maritime Industries, Inc., as amended (incorporated by reference to the Report on Form 14-C of Process Equipment, Inc. (Commission file No. 0-18980), filed with the Commission on April 28, 2004). 3.2 Bylaws of HQ Sustainable Maritime Industries, Inc. (incorporated by reference to the Report on Form 14-C of Process Equipment, Inc. (Commission file No. 0-18980), filed with the Commission on April 28, 2004). 4 Process Equipment, Inc. 2003 Stock Incentive Plan (incorporated by reference to the Report on Form 14-C (commission File Number 0-18980), filed with the Commission on April 28, 2004). 10.1 Form of Stock Option Grant Notice (incorporated by reference to the Report on Form 8-K (commission File Number 0-18980), filed with the Commission on December 3, 2004). 10.2 Form of Option Agreement (incorporated by reference to the Report on Form 8-K (commission File Number 0-18980), filed with the Commission on December 3, 2004). 10.3 Form of Exercise Agreement (incorporated by reference to the Report on Form 8-K (commission File Number 0-18980), filed with the Commission on December 3, 2004). 10.4 Agreement, dated as of November 4, 2004, between HQ Sustainable Maritime Industries, Inc. and Sino-Sult Canada (S.S.C.) Limited (incorporated by reference to the Report on Form 10-QSB (Commission file No. 0-18980), filed with the Commission on November 15, 2004). 10.5 Independent Non-Executive Director Agreement, dated as of September 2, 2004, between HQ Sustainable Maritime Industries Inc. and Daniel Too (incorporated by reference to the Report on Form 10-QSB (Commission file No. 0-18980), filed with the Commission on November 15, 2004). 10.6 Employment Agreement, dated as of September 1, 2004, between HQ Sustainable Maritime Industries Inc. and Jean-Pierre Dallaire (incorporated by reference to the Report on Form 10-QSB (Commission file No. 0-18980), filed with the Commission on November 15, 2004). 10.7 Purchase Agreement, dated as of August 17, 2004, among HQ Sustainable Maritime Industries, inc., Sino-Sult Canada (S.S.C.) Limited and Sealink Wealth Limited (incorporated by reference to the Report on Form 8-K (commission File Number 0-18980), filed with the Commission on August 18, 2004). 46 10.8 Purchase Agreement, dated as of August 17, 2004, between Jade Profit Investment Limited and Hainan Fuyuan Investment Company Limited (incorporated by reference to the Report on Form 8-K (commission File Number 0-18980), filed with the Commission on August 18, 2004). 10.9 Form of Employment Agreement, effective as of April 1, 2004, between HQ Sustainable Maritime Industries, Inc. and Harry Wang (incorporated by reference to the Report on Form 10-QSB (commission File Number 0-18980), filed with the Commission on August 13, 2004). 10.10 Form of Employment Agreement, effective as of April 1, 2004, between HQ Sustainable Maritime Industries, Inc. and Lillian Wang Li (incorporated by reference to the Report on Form 10-QSB (commission File Number 0-18980), filed with the Commission on August 13, 2004). 10.11 Form of Employment Agreement, effective as of April 1, 2004, between HQ Sustainable Maritime Industries, Inc. and Norbert Sporns (incorporated by reference to the Report on Form 10-QSB (commission File Number 0-18980), filed with the Commission on August 13, 2004). 10.12 Form of Independent Non-Executive Director Agreement, dated as of June 15, 2004, between HQ Sustainable Maritime Industries Inc. and Fred Bild (incorporated by reference to the Report on Form 10-QSB (Commission file No. 0-18980), filed with the Commission on August 13, 2004). 10.13 Independent Non-Executive Director Agreement, dated as of June 15, 2004, between HQ Sustainable Maritime Industries Inc. and Jacques Vallee (incorporated by reference to the Report on Form 10-QSB (Commission file No. 0-18980), filed with the Commission on August 13, 2004). 10.14 Amendment No. 1 to Employment Agreement, dated April 11, 2005, between HQ Sustainable Maritime Industries, Inc. and Norbert Sporns. 10.15 Amendment No. 1 to Employment Agreement, dated April 11, 2005, between HQ Sustainable Maritime Industries, Inc. and Lillian Wang. 10.16 Amendment No. 1 to Employment Agreement, dated April 11, 2005, between HQ Sustainable Maritime Industries, Inc. and Harry Wang. 14 Code of Ethics 16 Letter, dated May 18, 2004 from Baum & Company, P.A., the Registrant's former principal accountants, to the Securities and Exchange Commission pursuant to Item 304(a)(3) of Regulation S-B (incorporated by reference to the Report on Form 8-K (commission File Number 0-18980), filed with the Commission on May 18, 2004). 21 Subsidiaries of the Registrant 23 Consent of Rotenberg & Co. LLP 31.1 Certification of Chief Executive Officer of HQ Sustainable Maritime Industries, Inc., Inc. pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934. 47 31.2 Certification of Chief Financial Officer of HQ Sustainable Maritime Industries, Inc., Inc. pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934. 32.1 Certification of Chief Executive Officer of HQ Sustainable Maritime Industries, Inc. pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2 Certification of Chief Financial Officer of HQ Sustainable Maritime Industries, Inc. pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (b) Reports on Form 8-K 1. Current report on Form 8-K filed with the SEC on December 3, 2004 In this report we disclosed that our board of directors ratified grants of non-qualified stock options to purchase shares of out common stock under our Stock Option Plan (the "Plan") to some of our executive officers and directors, as well as to thirteen of our employees. 2. Current report on Form 8-K filed with the SEC on October 18, 2004 In this report we disclosed the financial statement of Sealink Wealth Limited, a British Virgin Islands liability corporation ("Sealink") and certain pro forma financial information for HQSM, consistent with our August 18, 2004 current report filed on Form 8-K wherein we disclosed that we had entered into a Purchase Agreement, dated as of August 17, 2004, with Sino-Sult Canada (S.S.C.) Limited, a Canadian limited liability corporation ("SSC"), and Sealink, whereby we acquired Sealink, SSC's wholly owned subsidiary, on the terms and conditions specified in the Purchase Agreement. 3. Current report on Form 8-K filed with the SEC on August 18, 2004 In this report we disclosed that, on August 17, 2004, we entered into a Purchase Agreement ("Nutraceutical Purchase Agreement") with Sino-Sult Canada (S.S.C.) Limited ("SSC") and Sealink Wealth Limited, whereby we acquired Sealink, SSC's wholly owned subsidiary, on the terms and condition specified in the Nutraceutical Purchase Agreement. The Nutraceutical Purchase Agreement was filed as an exhibit to the report. We also disclosed a description of Hainan Jiahua Marine Bio-Products Co. Ltd, a wholly owned subsidiary of Sealink. The financial statement of Sealink and the pro forma financial information was not filed with the report, but the Registrant undertook to file such financial statements and information within 60 days of the closing of the transaction contemplated by the Nutraceutical Purchase Agreement. 4. Current report on Form 8-K filed with the SEC on June 28, 2004 48 In this report we advised regarding a June 15, 2004 press release announcing that we, through our wholly owned subsidiary, HQ Sustainable Maritime Marketing Inc., entered into a Letter of Intent for the acquisition of Tomich Bros. Seafood Inc., a California company. This report disclosed the financial statements of Tomich Bros. Seafood Inc. and related pro forma financial information. We also advised regarding a June 17, 2004 press release announcing that the appointment of Mr. Jacques Vallee and Mr. Fred Bild as independent non-executive directors and advised that Mr. Vallee with also act as head of our Board of Directors' Audit Committee. 5. Current report on Form 8-K filed with the SEC on May 24, 2004 In this report we disclosed that Process Equipment, Inc. changed its corporate name to HQ Sustainable Maritime Industries, Inc. and its state of incorporation to Delaware, by means of a merger with and into a new wholly-owned Delaware corporation called HQ Sustainable Maritime Industries, Inc. We also announced that our new over-the-counter trading symbol, HQSM.OB, would take effect May 25, 2004, and announced 40426A 10 9 as our new CUSIP number. We also disclosed the Audited Financial statement for year ended December 31, 2002 and 2003 of Jade Profit Investment Limited. 6. Current report on Form 8-K filed with the SEC on May 18, 2004 This report disclosed that the accounting firm Rotenberg and Co. LLP replaced Baum and Company, P.A. as the auditor for Process Equipment, Inc. 7. Current report on Form 8-K filed with the SEC on April 2, 2004 In this report we disclosed that, on March 25, 2004, the Registrant, Process Equipment Acquisition Corporation ("PEAC"), and Jade Profit Investment Limited ("Jade"), as the parent and management company of Hainan Quebec Ocean Fishing Co. Ltd. ("HQ"), consummated the transactions contemplated by the Agreement and Plan of Merger executed on March 17, 2004. Pursuant to the Agreement and Plan of Merger, PEAC merged with and into Registrant and the separate existence of PEAC ceased and Jade became a wholly owned subsidiary of the Registrant. We also disclosed that it was impracticable that that time to provide the financial statements of the business acquired and other required pro forma financial information, but the Registrant undertook to file the required financial statements and information as soon as practicable. 49 8. Current report on Form 8-K filed with the SEC on March 17, 2004 In this report we disclosed that process Equipment, Inc., Process Equipment Acquisition Corporation, and jade Profit Investment Limited ("Jade"), as the parent and management company of Hainan Quebec Ocean Fishing Co. Ltd. ("HQ"), entered into an Agreement and Plan of Merger pursuant to which the Registrant acquired Jade and 84.42% ownership in its subsidiary HQ in exchange for shares of the Registrant's common stock (the "Merger"). We also disclosed certain information concerning the principal terms of the Merger and the business of the Registrant and Jade. We also disclosed that the Board of Directors will change the Registrant's fiscal year end from April 30 to December 31. ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES (a) Audit Fees Our principal accountant, Rotenberg & Co., LLP, billed us aggregate fees in the amount of approximately $440,000 and $110,000 for the fiscal years ended December 31, 2004 and April 30, 2004, respectively. These amounts were billed for professional services that Rotenberg provided for the audit of our annual financial statements, review of the financial statements included in our Current Report filed on Form 8-K on October 18, 2004, review of our securities offerings and other services typically provided by an accountant in connection with statutory and regulatory filings or engagements for those fiscal years. (b) Audit-Related Fees Rotenberg billed us aggregate fees in the amount of $0 for the fiscal years ended December 31, 2004 and April 30, 2004, and for assurance and related services that were reasonably related to the performance of the audit or review of our financial statements. (c) Tax Fees Rotenberg billed us aggregate fees in the amount of $0 for the fiscal years ended December 31, 2004 and April 30, 2004, and for tax compliance, tax advice, and tax planning. (d) All Other Fees Rotenberg billed us aggregate fees in the amount of $0 for the fiscal years ended December 31, 2004 and April 30, 2004, and for all other fees. (e) Audit Committee's Pre-Approval Section 10A(i) of the Securities Exchange Act prohibits our auditors from performing audit services for us as well as any services not considered to be "audit services" unless such services are pre-approved by the audit committee of 50 the board of directors, or unless the services meet certain de minimis standards. In the fiscal years ended December 31, 2004 and April 30, 2004, Rotenberg has not performed for us any services not considered to be "audit services." The percentage of the fees for audit, audit-related, tax and other services were as set forth in the following table: Percentage of total fees paid to Rotenberg ---------------------------------------------------- Fiscal Year April 2004 Fiscal Year December 2004 ---------------------- ------------------------- Audit fees 100% 100% Audit-related fees 0% 0% Tax fees 0% 0% All other fees 0% 0% 51 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities and Exchange Act, the Registrant has duly caused this Report to be signed on its behalf by the undersigned thereunto duly authorized. HQ Sustainable Maritime Industries, Inc. By: /s/ Norbert Sporns ------------------------------------- Norbert Sporns Chief Executive Officer and President Date: April 11, 2005 Pursuant to the requirements of the Securities and Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. SIGNATURE TITLE DATE - --------- ----- ---- /s/ Norbert Sporns Chief Executive Officer, President April 11, 2005 - ------------------------- and Director Norbert Sporns (Principal Executive Officer) /s/ Lillian Wang Secretary, Chairman of the Board April 11, 2005 - ------------------------- of Directors, and Director Lillian Wang /s/ Harry Wang Chief Operating Officer and April 11, 2005 - ------------------------- Director Harry Wang /s/ Jacque Vallee Director April 11, 2005 - ------------------------- Jacque Vallee /s/ Fred Bild Independent Non-executive Director April 11, 2005 - ------------------------- Fred Bild /s/ Daniel Too Independent Non-executive Director April 11, 2005 - ------------------------- Daniel Too /s/ Jean-Pierre Dallaire Chief Financial Officer and April 11, 2005 - ------------------------- Financial Controller Jean-Pierre Dallaire (Principal Financial Officer) /s/ Fusheng Wang Honorary Chairman and Director April 11, 2005 - ------------------------- Fusheng Wang 52 EXHIBITS Exhibit No. Description of Exhibit - ----------- ---------------------- 2 Agreement and Plan of Merger, dated as of March 17, 2004, by and among Process Equipment, Inc., Process Equipment Acquisition Corporation and Jade Profit investment Limited (incorporated by reference to the Report on Form 14-C of Process Equipment, Inc. (Commission File No. 0-18980), filed with the Commission on April 28, 2004). 3.1 Certificate of Incorporation of HQ Sustainable Maritime Industries, Inc., as amended (incorporated by reference to the Report on Form 14-C of Process Equipment, Inc. (Commission file No. 0-18980), filed with the Commission on April 28, 2004). 3.2 Bylaws of HQ Sustainable Maritime Industries, Inc. (incorporated by reference to the Report on Form 14-C of Process Equipment, Inc. (Commission file No. 0-18980), filed with the Commission on April 28, 2004). 4 Process Equipment, Inc. 2003 Stock Incentive Plan (incorporated by reference to the Report on Form 14-C (commission File Number 0-18980), filed with the Commission on April 28, 2004). 10.1 Form of Stock Option Grant Notice (incorporated by reference to the Report on Form 8-K (commission File Number 0-18980), filed with the Commission on December 3, 2004). 10.2 Form of Option Agreement (incorporated by reference to the Report on Form 8-K (commission File Number 0-18980), filed with the Commission on December 3, 2004). 10.3 Form of Exercise Agreement (incorporated by reference to the Report on Form 8-K (commission File Number 0-18980), filed with the Commission on December 3, 2004). 10.4 Agreement, dated as of November 4, 2004, between HQ Sustainable Maritime Industries, Inc. and Sino-Sult Canada (S.S.C.) Limited (incorporated by reference to the Report on Form 10-QSB (Commission file No. 0-18980), filed with the Commission on November 15, 2004). 10.5 Independent Non-Executive Director Agreement, dated as of September 2, 2004, between HQ Sustainable Maritime Industries Inc. and Daniel Too (incorporated by reference to the Report on Form 10-QSB (Commission file No. 0-18980), filed with the Commission on November 15, 2004). 53 10.6 Employment Agreement, dated as of September 1, 2004, between HQ Sustainable Maritime Industries Inc. and Jean-Pierre Dallaire (incorporated by reference to the Report on Form 10-QSB (Commission file No. 0-18980), filed with the Commission on November 15, 2004). 10.7 Purchase Agreement, dated as of August 17, 2004, among HQ Sustainable Maritime Industries, inc., Sino-Sult Canada (S.S.C.) Limited and Sealink Wealth Limited (incorporated by reference to the Report on Form 8-K (commission File Number 0-18980), filed with the Commission on August 18, 2004). 10.8 Purchase Agreement, dated as of August 17, 2004, between Jade Profit Investment Limited and Hainan Fuyuan Investment Company Limited (incorporated by reference to the Report on Form 8-K (commission File Number 0-18980), filed with the Commission on August 18, 2004). 10.9 Form of Employment Agreement, effective as of April 1, 2004, between HQ Sustainable Maritime Industries, Inc. and Harry Wang (incorporated by reference to the Report on Form 10-QSB (commission File Number 0-18980), filed with the Commission on August 13, 2004). 10.10 Form of Employment Agreement, effective as of April 1, 2004, between HQ Sustainable Maritime Industries, Inc. and Lillian Wang Li (incorporated by reference to the Report on Form 10-QSB (commission File Number 0-18980), filed with the Commission on August 13, 2004). 10.11 Form of Employment Agreement, effective as of April 1, 2004, between HQ Sustainable Maritime Industries, Inc. and Norbert Sporns (incorporated by reference to the Report on Form 10-QSB (commission File Number 0-18980), filed with the Commission on August 13, 2004). 10.12 Form of Independent Non-Executive Director Agreement, dated as of June 15, 2004, between HQ Sustainable Maritime Industries Inc. and Fred Bild (incorporated by reference to the Report on Form 10-QSB (Commission file No. 0-18980), filed with the Commission on August 13, 2004). 10.13 Independent Non-Executive Director Agreement, dated as of June 15, 2004, between HQ Sustainable Maritime Industries Inc. and Jacques Vallee (incorporated by reference to the Report on Form 10-QSB (Commission file No. 0-18980), filed with the Commission on August 13, 2004). 10.14 Amendment No. 1 to Employment Agreement, dated April 11, 2005, between HQ Sustainable Maritime Industries, Inc. and Norbert Sporns. 10.15 Amendment No. 1 to Employment Agreement, dated April 11, 2005, between HQ Sustainable Maritime Industries, Inc. and Lillian Wang. 10.16 Amendment No. 1 to Employment Agreement, dated April 11, 2005, between HQ Sustainable Maritime Industries, Inc. and Harry Wang. 14 Code of Ethics 16 Letter, dated May 18, 2004 from Baum & Company, P.A., the Registrant's former principal accountants, to the Securities and Exchange Commission pursuant to Item 304(a)(3) of Regulation S-B (incorporated by reference to the Report on Form 8-K (commission File Number 0-18980), filed with the Commission on May 18, 2004). 54 21 Subsidiaries of the Registrant 23 Consent of Rotenberg & Co. LLP 31.1 Certification of Chief Executive Officer of HQ Sustainable Maritime Industries, Inc., Inc. pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934. 31.2 Certification of Chief Financial Officer of HQ Sustainable Maritime Industries, Inc., Inc. pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934. 32.1 Certification of Chief Executive Officer of HQ Sustainable Maritime Industries, Inc. pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2 Certification of Chief Financial Officer of HQ Sustainable Maritime Industries, Inc. pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 55 EX-10.14 2 hq10ksbex1014123104.txt AMENDMENT NO. 1 TO EMPLOYMENT AGREEMENT Exhibit 10.14 HQ SUSTAINABLE MARITIME INDUSTRIES, INC. 14 Wall Street, 20th Floor New York, NY 10005 April 11, 2005 Norbert Sporns 225 Rector Park Suite 23G New York, NY 10280 Re: Amendment No. 1 to Employment Agreement Dear Mr. Sporns: This letter is in reference to that certain Employment Agreement effective as of April 1, 2004 (the "Agreement"), between HQ Sustainable Maritime Industries, Inc., a Delaware corporation (the "Company") and you, a resident of the State of New York. Capitalized terms used herein, unless otherwise defined or unless the context otherwise indicates, shall have the same meanings as set forth in the Agreement. The Agreement is hereby amended as follows: 1. Section 5. Section 5 is hereby amended to read in its entirety as follows: "Section 5. Location. The locus of the Executive's employment with the Company shall be the Company's office located at 14 Wall Street, Suite 2000, New York, New York 10005." 2. Section 10(b)(v). Section 10(b)(v) is hereby amended to read in its entirety as follows: "(v) The Company shall purchase a directors and officers liability insurance policy or otherwise obtain directors and officers liability insurance coverage, in the amount of Five Million Dollars (US$5,000,000.00) for the Executive as soon as practicable, but in no event later than the end of the Company's first fiscal year following the Effective Date." 3. Section 11. Section 11 is hereby amended to read in its entirety as follows: "a. Death. In the event that, during the term of this Agreement, the Executive dies, this Agreement and the Executive's employment with the Company shall automatically terminate and the Company shall have no further obligations or liability to the Executive or his heirs, administrators or executors with respect to compensation and benefits accruing thereafter, except for the obligation to pay the Executive's heirs, administrators or executors any earned but unpaid base salary, unpaid pro rata annual bonus and unused vacation days accrued through the date of death. The Company shall deduct, from all payments made hereunder, all applicable taxes, including income tax, FICA and FUTA, and other appropriate deductions. b. Disability. In the event that, during the term of this Agreement, the Executive shall be prevented from performing his duties and responsibilities hereunder to the full extent required by the Company by reason of "Disability," as defined hereinbelow, this Agreement and the Executive's employment with the Company shall automatically terminate and the Company shall have no further obligations or liability to the Executive or his heirs, administrators or executors with respect to compensation and benefits accruing thereafter, except for the obligation to pay the Executive's heirs, administrators or executors any earned but unpaid base salary, unpaid pro rata annual bonus and unused vacation days accrued through the date of Disability. The Company shall deduct, from all payments made hereunder, all applicable taxes, including income tax, FICA and FUTA, and other appropriate deductions through the last date of the Executive's employment with the Company. For purposes of this Agreement, "Disability" shall mean a physical or mental disability that prevents the performance by the Executive, with or without reasonable accommodation, of his duties and responsibilities hereunder for a continuous period of not less than four consecutive months, or not less than an aggregate of four months during any one-year period. c. "Cause." (i) At any time during the term of this Agreement, the Company may terminate this Agreement and the Executive's employment hereunder for "Cause." For purposes of this Agreement, "Cause" shall mean: (a) the willful and continued failure of the Executive to perform substantially his duties and responsibilities for the Company (other than any such failure resulting from a Disability) after a written demand for substantial performance is delivered to the Executive by the Company, which specifically identifies the manner in which the Company believes that the Executive has not substantially performed his duties and responsibilities, which willful and continued failure is not cured by the Executive within thirty (30) days of his receipt of said written demand; (b) the conviction of, or plea of guilty or nolo contendre to, a felony, after the exhaustion of all available appeals; or (c) the willful engaging by the Executive in gross misconduct which is materially and demonstratively injurious to the Company, after a written demand to cease or cure such gross misconduct is delivered to the Executive by the Company, which specifically identifies the manner in which the Company believes that the Executive has committed gross misconduct that is materially and demonstratively injurious to the Company, which gross misconduct does not cease or is not cured by the Executive within thirty (30) days of his receipt of said written demand. (ii) Termination of the Executive for "Cause" pursuant to paragraphs 11(c)(i)(a) and (c) shall be made by delivery to the Executive of a copy of the written demand referred to in paragraphs 11(c)(i)(a) and (c), or pursuant to paragraphs 11(c)(i)(b) by a written notice, either of which shall specify the basis of such termination and the particulars thereof and finding that in the reasonable judgment of the Company, the conduct set forth in paragraph 11(c)(i)(a), 11(c)(i)(b) or 11(c)(i)(c), as applicable, has occurred and that such occurrence warrants the Executive's termination. (iii) Upon termination of this Agreement for "Cause," the Company shall have no further obligations or liability to the Executive or his heirs, administrators or executors with respect to compensation and benefits thereafter, except for the obligation to pay the Executive any earned but unpaid base salary, unpaid pro rata annual bonus and unused vacation days accrued through the Executive's last day of employment with the Company. The Company shall deduct, from all payments made hereunder, all applicable taxes, including income tax, FICA and FUTA, and other appropriate deductions. d. "Good Reason." (i) At any time during the term of this Agreement, subject to the conditions set forth in paragraph 11(d)(iii) hereinbelow, the Executive may terminate this Agreement and the Executive's employment with the Company for "Good Reason." For purposes of this Agreement, "Good Reason" shall mean the occurrence, without the Executive's consent, of any of the following events: (a) the assignment to the Executive of duties that are significantly different from, and that result in a substantial diminution of, the duties that he assumed on the Inception Date; (b) the assignment to the Executive of a title that is different from and subordinate to the title specified in paragraph 2 hereinabove, or (c) a Change of Control (as defined in paragraph 11(d)(ii) hereinbelow). (ii) For purposes of this Agreement, "Change of Control" means the Company's Board votes to approve: (a) any consolidation or merger of the Company pursuant to which fifty percent (50%) or less of the outstanding voting securities of the surviving or resulting company are not owned collectively by the common share and warrant holders of Sino-Sult Canada (S.S.C.) Limited and Red Coral Group Limited, Inc. as of September 1, 2004 (the "Current Control Group"); (b) any sale, lease, exchange or other transfer (in one transaction or a series of related transactions) of all, or substantially all, of the assets of the Company other than any sale, lease, exchange or other transfer to any company where the Company owns, directly or indirectly, 100 percent of the outstanding voting securities of such company after any such transfer; (c) any person or persons (as such term is used in Section 13(d) of the Exchange Act of 1934, as amended), other than the Current Control Group, shall acquire or become the beneficial owner (within the meaning of Rule 13d-3 under the Exchange Act) whether directly, indirectly, beneficially or of record, of 50 percent or more of outstanding voting securities of the Company; or (d) commencement by any entity, person, or group (including any affiliate thereof, other than the Company) of a tender offer or exchange offer where the offeree acquires more than 50 percent of the then outstanding voting securities of the Company. (iii) The Executive shall not be entitled to terminate his employment with the Company and this Agreement for "Good Reason" unless and until (a) he shall have received written notice from the Company of the occurrence of an event constituting "Good Reason" as that term is defined in paragraph 11(d)(i) and (ii) hereinabove, which written notice the Company shall deliver to the Executive within five (5) business days of the occurrence of any such event; (b) he shall have delivered written notice to the Company of his intention to terminate this Agreement or his employment with the Company for "Good Reason," which notice specifies in reasonable detail the circumstances claimed to provide the basis for such termination for "Good Reason," within 30 days of his receipt from the Company of the written notice described in paragraph 11(d)(iii)(a) hereinabove, the Executive's having obtained actual knowledge of a "Good Reason;" and (c) the Company shall not have eliminated the circumstances constituting "Good Reason" within 30 days of its receipt from the Executive of the written notice described in paragraph 11(d)(iii)(b) hereinabove." (iv) In the event that the Executive terminates this Agreement and his employment with the Company for "Good Reason," the Company shall pay or provide to the Executive (or, following his death, to the Executive's heirs, administrators or executors): (a) any earned but unpaid base salary, unpaid pro rata annual bonus and unused vacation days accrued through the Executive's last day of employment with the Company; (b) the Executive's full base salary (including guaranteed annual ten percent (10%) increases) through the Scheduled Termination Date; (c) the Executive's guaranteed annual bonuses in the amount of US$50,000.00 that he would have been awarded through the Scheduled Termination Date; (d) the value of vacation days that the Executive would have accrued through the Scheduled Termination Date; (e) continued coverage, at the Company's expense, under all Benefits Plans in which the Executive was a participant immediately prior to his last date of employment with the Company, or, in the event that any such Benefit Plans do not permit coverage of the Executive following his last date of employment with the Company, under benefit plans that provide no less coverage than such Benefit Plans, through the Scheduled Termination Date ("Continued Benefits"); and (f) severance in an amount equal to the sum of the Executive's annual base salary in effect immediately prior to his last date of employment with the Company. The Company shall deduct, from all payments made hereunder, all applicable taxes, including income tax, FICA and FUTA, and other appropriate deductions. (v) The Executive, at his option, shall be entitled to receive the amounts described in paragraphs 11(d)(iv)(b) and (c) hereinabove in a lump sum within forty-five (45) days of his last date of employment with the Company. To exercise such option, the Executive shall deliver to the Company written notice therefore within ten (10) business days after his last date of employment with the Company. If the Executive fails to deliver such written notice within ten (10) business days after his last date of employment with the Company, the amounts described in paragraphs 11(d)(iv)(b) and (c) hereinabove shall be paid to the Executive in the same manner as they would have been paid, in accordance with the provisions of paragraphs 6(a) and (b), had the Executive remained employed by the Company. The amount described in paragraph 11(d)(iv)(f) shall be paid to the Executive within forty-five (45) days of the Executive's last date of employment with the Company. (vi) The Executive shall have no duty to mitigate his damages, except that Continued Benefits shall be canceled or reduced to the extent of any comparable benefit coverage offered to the Executive during the period prior to the Scheduled Termination Date by a subsequent employer or other person or entity for which the Executive performs services, including but not limited to consulting services. e. Without "Good Reason" Or "Cause" (i) By The Executive. At any time during the term of this Agreement, the Executive shall be entitled to terminate this Agreement and the Executive's employment with the Company without "Good Reason," as that term is defined in paragraph 11(d)(i) and (ii) hereinabove, by providing prior written notice of at least thirty (30) days to the Company. Upon termination by the Executive of this Agreement and the Executive's employment with the Company without "Good Reason," the Company shall have no further obligations or liability to the Executive or his heirs, administrators or executors with respect to compensation and benefits thereafter, except for the obligation to pay the Executive any earned but unpaid base salary, pro rata annual bonus and unused vacation days accrued through the Executive's last day of employment with the Company. The Company shall deduct, from all payments made hereunder, all applicable taxes, including income tax, FICA and FUTA, and other appropriate deductions." (ii) By The Company. At any time during the term of this Agreement, the Company shall be entitled to terminate this Agreement and the Executive's employment with the Company without "Cause," as that term is defined in paragraph 11(c)(i) hereinabove, by providing prior written notice of at least ninety (90) days to the Executive. Upon termination by the Company of this Agreement and the Executive's employment with the Company without Cause, the Company shall pay or provide to the Executive (or, following his death, to the Executive's heirs, administrators or executors): (a) any earned but unpaid base salary, unpaid pro rata annual bonus and unused vacation days accrued through the Executive's last day of employment with the Company; (b) the Executive's full base salary (including guaranteed annual ten percent (10%) increases) through the Scheduled Termination Date; (c) the Executive's guaranteed annual bonuses in the amount of US$50,000.00 that he would have been awarded through the Scheduled Termination Date; (d) the value of vacation days that the Executive would have accrued through the Scheduled Termination Date; (e) continued coverage, at the Company's expense, under all Benefits Plans in which the Executive was a participant immediately prior to his last date of employment with the Company, or, in the event that any such Benefit Plans do not permit coverage of the Executive following his last date of employment with the Company, under benefit plans that provide no less coverage than such Benefit Plans, through the Scheduled Termination Date ("Continued Benefits"); and (f) severance in an amount equal to the sum of the Executive's annual base salary in effect immediately prior to his last date of employment with the Company. The Company shall deduct, from all payments made hereunder, all applicable taxes, including income tax, FICA and FUTA, and other appropriate deductions. (iii) The Executive, at his option, shall be entitled to receive the amounts described in paragraphs 11(e)(ii)(b) and (c) hereinabove in a lump sum within forty-five (45) days of his last date of employment with the Company. To exercise such option, the Executive shall deliver to the Company written notice therefore within ten (10) business days after his last date of employment with the Company. If the Executive fails to deliver such written notice within ten (10) business days after his last date of employment with the Company, the amounts described in paragraphs 11(e)(ii)(b) and (c) hereinabove shall be paid to the Executive in the same manner as they would have been paid, in accordance with the provisions of paragraphs 6(a) and (b), had the Executive remained employed by the Company. The amount described in paragraph 11(e)(ii)(f) shall be paid to the Executive within forty-five (45) days of the Executive's last date of employment with the Company." Except for the aforementioned amendments to Sections 5, 10(b)(v) and 11 of the Agreement set forth in this letter, no other terms or provisions of the Agreement are being or have been amended, and all other terms and provisions of the Agreement shall remain in full force and effect. Very truly yours, HQ SUSTAINABLE MARITIME INDUSTRIES, INC. /s/ Norbert Sporns ---------------------------- By: Norbert Sporns Its: Chief Executive Officer Agreed To And Accepted By: NORBERT SPORNS /s/ Norbert Sporns - ------------------------------ Date: April 11, 2005 EX-10.15 3 hq10ksbex1015123104.txt AMENDMENT NO. 1 TO EMPLOYMENT AGREEMENT Exhibit 10.15 HQ SUSTAINABLE MARITIME INDUSTRIES, INC. 14 Wall Street, 20th Floor New York, NY 10005 April 11, 2005 Lillian Wang 225 Rector Park Suite 23G New York, NY 10280 Re: Amendment No. 1 to Employment Agreement Dear Ms. Wang: This letter is in reference to that certain Employment Agreement effective as of April 1, 2004 (the "Agreement"), between HQ Sustainable Maritime Industries, Inc., a Delaware corporation (the "Company") and you, a resident of the State of New York. Capitalized terms used herein, unless otherwise defined or unless the context otherwise indicates, shall have the same meanings as set forth in the Agreement. The Agreement is hereby amended as follows: 1. Section 5. Section 5 is hereby amended to read in its entirety as follows: "Section 5. Location. The locus of the Executive's employment with the Company shall be the Company's office located at 14 Wall Street, Suite 2000, New York, New York 10005." 2. Section 10(b)(v). Section 10(b)(v) is hereby amended to read in its entirety as follows: "(v) The Company shall purchase a directors and officers liability insurance policy or otherwise obtain directors and officers liability insurance coverage, in the amount of Five Million Dollars (US$5,000,000.00) for the Executive as soon as practicable, but in no event later than the end of the Company's first fiscal year following the Effective Date." 3. Section 11. Section 11 is hereby amended to read in its entirety as follows: 1 "a. Death. In the event that, during the term of this Agreement, the Executive dies, this Agreement and the Executive's employment with the Company shall automatically terminate and the Company shall have no further obligations or liability to the Executive or his heirs, administrators or executors with respect to compensation and benefits accruing thereafter, except for the obligation to pay the Executive's heirs, administrators or executors any earned but unpaid base salary, unpaid pro rata annual bonus and unused vacation days accrued through the date of death. The Company shall deduct, from all payments made hereunder, all applicable taxes, including income tax, FICA and FUTA, and other appropriate deductions. b. Disability. In the event that, during the term of this Agreement, the Executive shall be prevented from performing his duties and responsibilities hereunder to the full extent required by the Company by reason of "Disability," as defined hereinbelow, this Agreement and the Executive's employment with the Company shall automatically terminate and the Company shall have no further obligations or liability to the Executive or his heirs, administrators or executors with respect to compensation and benefits accruing thereafter, except for the obligation to pay the Executive's heirs, administrators or executors any earned but unpaid base salary, unpaid pro rata annual bonus and unused vacation days accrued through the date of Disability. The Company shall deduct, from all payments made hereunder, all applicable taxes, including income tax, FICA and FUTA, and other appropriate deductions through the last date of the Executive's employment with the Company. For purposes of this Agreement, "Disability" shall mean a physical or mental disability that prevents the performance by the Executive, with or without reasonable accommodation, of his duties and responsibilities hereunder for a continuous period of not less than four consecutive months, or not less than an aggregate of four months during any one-year period. c. "Cause." (i) At any time during the term of this Agreement, the Company may terminate this Agreement and the Executive's employment hereunder for "Cause." For purposes of this Agreement, "Cause" shall mean: (a) the willful and continued failure of the Executive to perform substantially his duties and responsibilities for the Company (other than any such failure resulting from a Disability) after a written demand for substantial performance is delivered to the Executive by the Company, which specifically identifies the manner in which the Company believes that the Executive has not substantially performed his duties and responsibilities, which willful and continued failure is not cured by the Executive within thirty (30) days of his receipt of said written demand; (b) the conviction of, or plea of guilty or nolo contendre to, a felony, after the exhaustion of all available appeals; or (c) the willful engaging by the Executive in gross misconduct which is materially and demonstratively injurious to the Company, after a written demand to cease or cure such gross misconduct is delivered to the Executive by the Company, which specifically identifies the manner in which the Company believes that the Executive has committed gross misconduct that is materially and demonstratively injurious to the Company, which gross misconduct does not cease or is not cured by the Executive within thirty (30) days of his receipt of said written demand. (ii) Termination of the Executive for "Cause" pursuant to paragraphs 11(c)(i)(a) and (c) shall be made by delivery to the Executive of a copy of the written demand referred to in paragraphs 11(c)(i)(a) and (c), or 2 pursuant to paragraphs 11(c)(i)(b) by a written notice, either of which shall specify the basis of such termination and the particulars thereof and finding that in the reasonable judgment of the Company, the conduct set forth in paragraph 11(c)(i)(a), 11(c)(i)(b) or 11(c)(i)(c), as applicable, has occurred and that such occurrence warrants the Executive's termination. (iii) Upon termination of this Agreement for "Cause," the Company shall have no further obligations or liability to the Executive or his heirs, administrators or executors with respect to compensation and benefits thereafter, except for the obligation to pay the Executive any earned but unpaid base salary, unpaid pro rata annual bonus and unused vacation days accrued through the Executive's last day of employment with the Company. The Company shall deduct, from all payments made hereunder, all applicable taxes, including income tax, FICA and FUTA, and other appropriate deductions. d. "Good Reason." (i) At any time during the term of this Agreement, subject to the conditions set forth in paragraph 11(d)(iii) hereinbelow, the Executive may terminate this Agreement and the Executive's employment with the Company for "Good Reason." For purposes of this Agreement, "Good Reason" shall mean the occurrence, without the Executive's consent, of any of the following events: (a) the assignment to the Executive of duties that are significantly different from, and that result in a substantial diminution of, the duties that he assumed on the Inception Date; (b) the assignment to the Executive of a title that is different from and subordinate to the title specified in paragraph 2 hereinabove, or (c) a Change of Control (as defined in paragraph 11(d)(ii) hereinbelow). (ii) For purposes of this Agreement, "Change of Control" means the Company's Board votes to approve: (a) any consolidation or merger of the Company pursuant to which fifty percent (50%) or less of the outstanding voting securities of the surviving or resulting company are not owned collectively by the common share and warrant holders of Sino-Sult Canada (S.S.C.) Limited and Red Coral Group Limited, Inc. as of September 1, 2004 (the "Current Control Group"); (b) any sale, lease, exchange or other transfer (in one transaction or a series of related transactions) of all, or substantially all, of the assets of the Company other than any sale, lease, exchange or other transfer to any company where the Company owns, directly or indirectly, 100 percent of the outstanding voting securities of such company after any such transfer; (c) any person or persons (as such term is used in Section 13(d) of the Exchange Act of 1934, as amended), other than the Current Control Group, shall acquire or become the beneficial owner (within the meaning of Rule 13d-3 under the Exchange Act) whether directly, indirectly, beneficially or of record, of 50 percent or more of outstanding voting securities of the Company; or (d) commencement by any entity, person, or group (including any affiliate thereof, other than the Company) of a tender offer or exchange offer where the offeree acquires more than 50 percent of the then outstanding voting securities of the Company. (iii) The Executive shall not be entitled to terminate his employment with the Company and this Agreement for "Good Reason" unless and until (a) he shall have received written notice from the Company of the occurrence of an event constituting "Good Reason" as that term is defined in 3 paragraph 11(d)(i) and (ii) hereinabove, which written notice the Company shall deliver to the Executive within five (5) business days of the occurrence of any such event; (b) he shall have delivered written notice to the Company of his intention to terminate this Agreement or his employment with the Company for "Good Reason," which notice specifies in reasonable detail the circumstances claimed to provide the basis for such termination for "Good Reason," within 30 days of his receipt from the Company of the written notice described in paragraph 11(d)(iii)(a) hereinabove, the Executive's having obtained actual knowledge of a "Good Reason;" and (c) the Company shall not have eliminated the circumstances constituting "Good Reason" within 30 days of its receipt from the Executive of the written notice described in paragraph 11(d)(iii)(b) hereinabove." (iv) In the event that the Executive terminates this Agreement and his employment with the Company for "Good Reason," the Company shall pay or provide to the Executive (or, following his death, to the Executive's heirs, administrators or executors): (a) any earned but unpaid base salary, unpaid pro rata annual bonus and unused vacation days accrued through the Executive's last day of employment with the Company; (b) the Executive's full base salary (including guaranteed annual ten percent (10%) increases) through the Scheduled Termination Date; (c) the Executive's guaranteed annual bonuses in the amount of US$50,000.00 that he would have been awarded through the Scheduled Termination Date; (d) the value of vacation days that the Executive would have accrued through the Scheduled Termination Date; (e) continued coverage, at the Company's expense, under all Benefits Plans in which the Executive was a participant immediately prior to his last date of employment with the Company, or, in the event that any such Benefit Plans do not permit coverage of the Executive following his last date of employment with the Company, under benefit plans that provide no less coverage than such Benefit Plans, through the Scheduled Termination Date ("Continued Benefits"); and (f) severance in an amount equal to the sum of the Executive's annual base salary in effect immediately prior to his last date of employment with the Company. The Company shall deduct, from all payments made hereunder, all applicable taxes, including income tax, FICA and FUTA, and other appropriate deductions. (v) The Executive, at his option, shall be entitled to receive the amounts described in paragraphs 11(d)(iv)(b) and (c) hereinabove in a lump sum within forty-five (45) days of his last date of employment with the Company. To exercise such option, the Executive shall deliver to the Company written notice therefore within ten (10) business days after his last date of employment with the Company. If the Executive fails to deliver such written notice within ten (10) business days after his last date of employment with the Company, the amounts described in paragraphs 11(d)(iv)(b) and (c) hereinabove shall be paid to the Executive in the same manner as they would have been paid, in accordance with the provisions of paragraphs 6(a) and (b), had the Executive remained employed by the Company. The amount described in paragraph 11(d)(iv)(f) shall be paid to the Executive within forty-five (45) days of the Executive's last date of employment with the Company. (vi) The Executive shall have no duty to mitigate his damages, except that Continued Benefits shall be canceled or reduced to the extent of any comparable benefit coverage offered to the Executive during the period prior to the Scheduled Termination Date by a subsequent employer or other person or entity for which the Executive performs services, including but not limited to consulting services. e. Without "Good Reason" Or "Cause" (i) By The Executive. At any time during the term of this Agreement, the Executive shall be entitled to terminate this Agreement and the Executive's employment with the Company without "Good Reason," as that term is defined in paragraph 11(d)(i) and (ii) hereinabove, by providing prior written 4 notice of at least thirty (30) days to the Company. Upon termination by the Executive of this Agreement and the Executive's employment with the Company without "Good Reason," the Company shall have no further obligations or liability to the Executive or his heirs, administrators or executors with respect to compensation and benefits thereafter, except for the obligation to pay the Executive any earned but unpaid base salary, pro rata annual bonus and unused vacation days accrued through the Executive's last day of employment with the Company. The Company shall deduct, from all payments made hereunder, all applicable taxes, including income tax, FICA and FUTA, and other appropriate deductions." (ii) By The Company. At any time during the term of this Agreement, the Company shall be entitled to terminate this Agreement and the Executive's employment with the Company without "Cause," as that term is defined in paragraph 11(c)(i) hereinabove, by providing prior written notice of at least ninety (90) days to the Executive. Upon termination by the Company of this Agreement and the Executive's employment with the Company without Cause, the Company shall pay or provide to the Executive (or, following his death, to the Executive's heirs, administrators or executors): (a) any earned but unpaid base salary, unpaid pro rata annual bonus and unused vacation days accrued through the Executive's last day of employment with the Company; (b) the Executive's full base salary (including guaranteed annual ten percent (10%) increases) through the Scheduled Termination Date; (c) the Executive's guaranteed annual bonuses in the amount of US$50,000.00 that he would have been awarded through the Scheduled Termination Date; (d) the value of vacation days that the Executive would have accrued through the Scheduled Termination Date; (e) continued coverage, at the Company's expense, under all Benefits Plans in which the Executive was a participant immediately prior to his last date of employment with the Company, or, in the event that any such Benefit Plans do not permit coverage of the Executive following his last date of employment with the Company, under benefit plans that provide no less coverage than such Benefit Plans, through the Scheduled Termination Date ("Continued Benefits"); and (f) severance in an amount equal to the sum of the Executive's annual base salary in effect immediately prior to his last date of employment with the Company. The Company shall deduct, from all payments made hereunder, all applicable taxes, including income tax, FICA and FUTA, and other appropriate deductions. (iii) The Executive, at his option, shall be entitled to receive the amounts described in paragraphs 11(e)(ii)(b) and (c) hereinabove in a lump sum within forty-five (45) days of his last date of employment with the Company. To exercise such option, the Executive shall deliver to the Company written notice therefore within ten (10) business days after his last date of employment with the Company. If the Executive fails to deliver such written notice within ten (10) business days after his last date of employment with the Company, the amounts described in paragraphs 11(e)(ii)(b) and (c) hereinabove shall be paid to the Executive in the same manner as they would have been paid, in accordance with the provisions of paragraphs 6(a) and (b), had the Executive remained employed by the Company. The amount described in paragraph 11(e)(ii)(f) shall be paid to the Executive within forty-five (45) days of the Executive's last date of employment with the Company." 5 Except for the aforementioned amendments to Sections 5, 10(b)(v) and 11 of the Agreement set forth in this letter, no other terms or provisions of the Agreement are being or have been amended, and all other terms and provisions of the Agreement shall remain in full force and effect. Very truly yours, HQ SUSTAINABLE MARITIME INDUSTRIES, INC. /s/ Norbert Sporns ---------------------------- By: Norbert Sporns Its: Chief Executive Officer Agreed To And Accepted By: LILLIAN WANG /s/ Lillian Wang - -------------------------- Date: April 11, 2005 6 EX-10.16 4 hq10ksbex1016123104.txt AMENDMENT NO. 1 TO EMPLOYMENT AGREEMENT Exhibit 10.16 HQ SUSTAINABLE MARITIME INDUSTRIES, INC. 14 Wall Street, 20th Floor New York, NY 10005 April 11, 2005 Harry Wang 225 Rector Park Suite 23G New York, NY 10280 Re: Amendment No. 1 to Employment Agreement Dear Mr. Wang: This letter is in reference to that certain Employment Agreement effective as of April 1, 2004 (the "Agreement"), between HQ Sustainable Maritime Industries, Inc., a Delaware corporation (the "Company") and you, a resident of the State of New York. Capitalized terms used herein, unless otherwise defined or unless the context otherwise indicates, shall have the same meanings as set forth in the Agreement. The Agreement is hereby amended as follows: 1. Section 5. Section 5 is hereby amended to read in its entirety as follows: "Section 5. Location. The locus of the Executive's employment with the Company shall be the Company's office located at 14 Wall Street, Suite 2000, New York, New York 10005." 2. Section 10(b)(v). Section 10(b)(v) is hereby amended to read in its entirety as follows: "(v) The Company shall purchase a directors and officers liability insurance policy or otherwise obtain directors and officers liability insurance coverage, in the amount of Five Million Dollars (US$5,000,000.00) for the Executive as soon as practicable, but in no event later than the end of the Company's first fiscal year following the Effective Date." 3. Section 11. Section 11 is hereby amended to read in its entirety as follows: 1 "a. Death. In the event that, during the term of this Agreement, the Executive dies, this Agreement and the Executive's employment with the Company shall automatically terminate and the Company shall have no further obligations or liability to the Executive or his heirs, administrators or executors with respect to compensation and benefits accruing thereafter, except for the obligation to pay the Executive's heirs, administrators or executors any earned but unpaid base salary, unpaid pro rata annual bonus and unused vacation days accrued through the date of death. The Company shall deduct, from all payments made hereunder, all applicable taxes, including income tax, FICA and FUTA, and other appropriate deductions. b. Disability. In the event that, during the term of this Agreement, the Executive shall be prevented from performing his duties and responsibilities hereunder to the full extent required by the Company by reason of "Disability," as defined hereinbelow, this Agreement and the Executive's employment with the Company shall automatically terminate and the Company shall have no further obligations or liability to the Executive or his heirs, administrators or executors with respect to compensation and benefits accruing thereafter, except for the obligation to pay the Executive's heirs, administrators or executors any earned but unpaid base salary, unpaid pro rata annual bonus and unused vacation days accrued through the date of Disability. The Company shall deduct, from all payments made hereunder, all applicable taxes, including income tax, FICA and FUTA, and other appropriate deductions through the last date of the Executive's employment with the Company. For purposes of this Agreement, "Disability" shall mean a physical or mental disability that prevents the performance by the Executive, with or without reasonable accommodation, of his duties and responsibilities hereunder for a continuous period of not less than four consecutive months, or not less than an aggregate of four months during any one-year period. c. "Cause." (i) At any time during the term of this Agreement, the Company may terminate this Agreement and the Executive's employment hereunder for "Cause." For purposes of this Agreement, "Cause" shall mean: (a) the willful and continued failure of the Executive to perform substantially his duties and responsibilities for the Company (other than any such failure resulting from a Disability) after a written demand for substantial performance is delivered to the Executive by the Company, which specifically identifies the manner in which the Company believes that the Executive has not substantially performed his duties and responsibilities, which willful and continued failure is not cured by the Executive within thirty (30) days of his receipt of said written demand; (b) the conviction of, or plea of guilty or nolo contendre to, a felony, after the exhaustion of all available appeals; or (c) the willful engaging by the Executive in gross misconduct which is materially and demonstratively injurious to the Company, after a written demand to cease or cure such gross misconduct is delivered to the Executive by the Company, which specifically identifies the manner in which the Company believes that the Executive has committed gross misconduct that is materially and demonstratively injurious to the Company, which gross misconduct does not cease or is not cured by the Executive within thirty (30) days of his receipt of said written demand. (ii) Termination of the Executive for "Cause" pursuant to paragraphs 11(c)(i)(a) and (c) shall be made by delivery to the Executive of a copy of the written demand referred to in paragraphs 11(c)(i)(a) and (c), or 2 pursuant to paragraphs 11(c)(i)(b) by a written notice, either of which shall specify the basis of such termination and the particulars thereof and finding that in the reasonable judgment of the Company, the conduct set forth in paragraph 11(c)(i)(a), 11(c)(i)(b) or 11(c)(i)(c), as applicable, has occurred and that such occurrence warrants the Executive's termination. (iii) Upon termination of this Agreement for "Cause," the Company shall have no further obligations or liability to the Executive or his heirs, administrators or executors with respect to compensation and benefits thereafter, except for the obligation to pay the Executive any earned but unpaid base salary, unpaid pro rata annual bonus and unused vacation days accrued through the Executive's last day of employment with the Company. The Company shall deduct, from all payments made hereunder, all applicable taxes, including income tax, FICA and FUTA, and other appropriate deductions. d. "Good Reason." (i) At any time during the term of this Agreement, subject to the conditions set forth in paragraph 11(d)(iii) hereinbelow, the Executive may terminate this Agreement and the Executive's employment with the Company for "Good Reason." For purposes of this Agreement, "Good Reason" shall mean the occurrence, without the Executive's consent, of any of the following events: (a) the assignment to the Executive of duties that are significantly different from, and that result in a substantial diminution of, the duties that he assumed on the Inception Date; (b) the assignment to the Executive of a title that is different from and subordinate to the title specified in paragraph 2 hereinabove, or (c) a Change of Control (as defined in paragraph 11(d)(ii) hereinbelow). (ii) For purposes of this Agreement, "Change of Control" means the Company's Board votes to approve: (a) any consolidation or merger of the Company pursuant to which fifty percent (50%) or less of the outstanding voting securities of the surviving or resulting company are not owned collectively by the common share and warrant holders of Sino-Sult Canada (S.S.C.) Limited and Red Coral Group Limited, Inc. as of September 1, 2004 (the "Current Control Group"); (b) any sale, lease, exchange or other transfer (in one transaction or a series of related transactions) of all, or substantially all, of the assets of the Company other than any sale, lease, exchange or other transfer to any company where the Company owns, directly or indirectly, 100 percent of the outstanding voting securities of such company after any such transfer; (c) any person or persons (as such term is used in Section 13(d) of the Exchange Act of 1934, as amended), other than the Current Control Group, shall acquire or become the beneficial owner (within the meaning of Rule 13d-3 under the Exchange Act) whether directly, indirectly, beneficially or of record, of 50 percent or more of outstanding voting securities of the Company; or (d) commencement by any entity, person, or group (including any affiliate thereof, other than the Company) of a tender offer or exchange offer where the offeree acquires more than 50 percent of the then outstanding voting securities of the Company. (iii) The Executive shall not be entitled to terminate his employment with the Company and this Agreement for "Good Reason" unless and until (a) he shall have received written notice from the Company of the occurrence of an event constituting "Good Reason" as that term is defined in paragraph 11(d)(i) and (ii) hereinabove, which written notice the Company shall deliver to the Executive within five (5) business days of the occurrence of any such event; (b) he shall have delivered written notice to the Company of his 3 intention to terminate this Agreement or his employment with the Company for "Good Reason," which notice specifies in reasonable detail the circumstances claimed to provide the basis for such termination for "Good Reason," within 30 days of his receipt from the Company of the written notice described in paragraph 11(d)(iii)(a) hereinabove, the Executive's having obtained actual knowledge of a "Good Reason;" and (c) the Company shall not have eliminated the circumstances constituting "Good Reason" within 30 days of its receipt from the Executive of the written notice described in paragraph 11(d)(iii)(b) hereinabove." (iv) In the event that the Executive terminates this Agreement and his employment with the Company for "Good Reason," the Company shall pay or provide to the Executive (or, following his death, to the Executive's heirs, administrators or executors): (a) any earned but unpaid base salary, unpaid pro rata annual bonus and unused vacation days accrued through the Executive's last day of employment with the Company; (b) the Executive's full base salary (including guaranteed annual ten percent (10%) increases) through the Scheduled Termination Date; (c) the Executive's guaranteed annual bonuses in the amount of US$50,000.00 that he would have been awarded through the Scheduled Termination Date; (d) the value of vacation days that the Executive would have accrued through the Scheduled Termination Date; (e) continued coverage, at the Company's expense, under all Benefits Plans in which the Executive was a participant immediately prior to his last date of employment with the Company, or, in the event that any such Benefit Plans do not permit coverage of the Executive following his last date of employment with the Company, under benefit plans that provide no less coverage than such Benefit Plans, through the Scheduled Termination Date ("Continued Benefits"); and (f) severance in an amount equal to the sum of the Executive's annual base salary in effect immediately prior to his last date of employment with the Company. The Company shall deduct, from all payments made hereunder, all applicable taxes, including income tax, FICA and FUTA, and other appropriate deductions. (v) The Executive, at his option, shall be entitled to receive the amounts described in paragraphs 11(d)(iv)(b) and (c) hereinabove in a lump sum within forty-five (45) days of his last date of employment with the Company. To exercise such option, the Executive shall deliver to the Company written notice therefore within ten (10) business days after his last date of employment with the Company. If the Executive fails to deliver such written notice within ten (10) business days after his last date of employment with the Company, the amounts described in paragraphs 11(d)(iv)(b) and (c) hereinabove shall be paid to the Executive in the same manner as they would have been paid, in accordance with the provisions of paragraphs 6(a) and (b), had the Executive remained employed by the Company. The amount described in paragraph 11(d)(iv)(f) shall be paid to the Executive within forty-five (45) days of the Executive's last date of employment with the Company. (vi) The Executive shall have no duty to mitigate his damages, except that Continued Benefits shall be canceled or reduced to the extent of any comparable benefit coverage offered to the Executive during the period prior to the Scheduled Termination Date by a subsequent employer or other person or entity for which the Executive performs services, including but not limited to consulting services. e. Without "Good Reason" Or "Cause" (i) By The Executive. At any time during the term of this Agreement, the Executive shall be entitled to terminate this Agreement and the Executive's employment with the Company without "Good Reason," as that term is defined in paragraph 11(d)(i) and (ii) hereinabove, by providing prior written 4 notice of at least thirty (30) days to the Company. Upon termination by the Executive of this Agreement and the Executive's employment with the Company without "Good Reason," the Company shall have no further obligations or liability to the Executive or his heirs, administrators or executors with respect to compensation and benefits thereafter, except for the obligation to pay the Executive any earned but unpaid base salary, pro rata annual bonus and unused vacation days accrued through the Executive's last day of employment with the Company. The Company shall deduct, from all payments made hereunder, all applicable taxes, including income tax, FICA and FUTA, and other appropriate deductions." (ii) By The Company. At any time during the term of this Agreement, the Company shall be entitled to terminate this Agreement and the Executive's employment with the Company without "Cause," as that term is defined in paragraph 11(c)(i) hereinabove, by providing prior written notice of at least ninety (90) days to the Executive. Upon termination by the Company of this Agreement and the Executive's employment with the Company without Cause, the Company shall pay or provide to the Executive (or, following his death, to the Executive's heirs, administrators or executors): (a) any earned but unpaid base salary, unpaid pro rata annual bonus and unused vacation days accrued through the Executive's last day of employment with the Company; (b) the Executive's full base salary (including guaranteed annual ten percent (10%) increases) through the Scheduled Termination Date; (c) the Executive's guaranteed annual bonuses in the amount of US$50,000.00 that he would have been awarded through the Scheduled Termination Date; (d) the value of vacation days that the Executive would have accrued through the Scheduled Termination Date; (e) continued coverage, at the Company's expense, under all Benefits Plans in which the Executive was a participant immediately prior to his last date of employment with the Company, or, in the event that any such Benefit Plans do not permit coverage of the Executive following his last date of employment with the Company, under benefit plans that provide no less coverage than such Benefit Plans, through the Scheduled Termination Date ("Continued Benefits"); and (f) severance in an amount equal to the sum of the Executive's annual base salary in effect immediately prior to his last date of employment with the Company. The Company shall deduct, from all payments made hereunder, all applicable taxes, including income tax, FICA and FUTA, and other appropriate deductions. (iii) The Executive, at his option, shall be entitled to receive the amounts described in paragraphs 11(e)(ii)(b) and (c) hereinabove in a lump sum within forty-five (45) days of his last date of employment with the Company. To exercise such option, the Executive shall deliver to the Company written notice therefore within ten (10) business days after his last date of employment with the Company. If the Executive fails to deliver such written notice within ten (10) business days after his last date of employment with the Company, the amounts described in paragraphs 11(e)(ii)(b) and (c) hereinabove shall be paid to the Executive in the same manner as they would have been paid, in accordance with the provisions of paragraphs 6(a) and (b), had the Executive remained employed by the Company. The amount described in paragraph 11(e)(ii)(f) shall be paid to the Executive within forty-five (45) days of the Executive's last date of employment with the Company." 5 Except for the aforementioned amendments to Sections 5, 10(b)(v) and 11 of the Agreement set forth in this letter, no other terms or provisions of the Agreement are being or have been amended, and all other terms and provisions of the Agreement shall remain in full force and effect. Very truly yours, HQ SUSTAINABLE MARITIME INDUSTRIES, INC. /s/ Norbert Sporns ---------------------------- By: Norbert Sporns Its: Chief Executive Officer Agreed To And Accepted By: HARRY WANG /s/ Harry Wang - ------------------------- Date: April 11, 2005 6 EX-14 5 hq10ksbex14123104.txt CODE OF ETHICS Exhibit 14 Code of Ethics Code of Ethics and Business Conduct We expect each HQ employee to exercise good judgment, to act ethically, and to comply with the letter and spirit of the law. We have memorialized our longstanding commitment to fair and ethical business practices in our Code of Ethics and Business Conduct. All HQ directors, officers and employees have committed to follow this Code, and annually confirm their continued compliance. Code of Ethics and Business Conduct 1. Purpose The purpose of this Code of Ethics and Business Conduct (the "Code") is to summarize the principles that are to guide each and every one of our business transactions. Simply stated, every employee must follow these standards. HQ views this as the personal responsibility of every employee within the Company. 2. Scope The Code shall apply to all HQ employees worldwide. The term "employee" as used in this Policy includes all employees and officers of HQ, Inc. and of HQ subsidiaries. Additionally, this Code applies to members of the Board of Directors of HQ, Inc. and to directors of all HQ subsidiaries with respect to any activities undertaken in carrying out duties as a director or otherwise on behalf of HQ. Therefore, the term "employee" as used in this Policy also applies to directors with respect to such activities. 3. Responsibility This Code is owned by the Corporate Legal department. The Code will be administered by HQ' s Human Resources, Internal Audit and Legal departments. 4. Additional References Regarding Employee Conduct Employee Handbook Conflict of Interest Policy Secure Information Program Insider Trading Policy Whistleblower Protection Policy Open Door Policy 5. Policy INTRODUCTION Integrity has long been a hallmark of HQ. It characterizes everything we do. In fact, it is our first core value. As Chairman and CEO Norbert Sporns has said, "In our day-to-day dealings with each other and the public integrity is of prime importance to our Company and must never be compromised. This is an important part of what HQ stands for." Accordingly, integrity is the keystone of the Code. Without the integrity of its employees, HQ's strong reputation in the aquatic products industry would not exist. Our reputation is the lifeline of our Company. It is the foundation upon which we build relationships with our customers, business partners, suppliers, investors, and each other. Through honesty and respect, employees at every level have endeavored to build HQ's reputation for honesty and fairness. As the Company continues to grow, it is essential to maintain and build upon our solid reputation. Doing so will open the door to achieving the Company's other two core values: execution excellence and leadership in the aquatic products industry, particularly in China and increasingly, beyond. 5.1 POLICY 5.1.1 General HQ will conduct our business in accordance with all applicable federal, state and local laws and regulations, and the laws of foreign countries where we transact business. Legal compliance is only a part of our ethical responsibility, however, and should be viewed as the minimum acceptable standard of conduct. HQ strives to act with the utmost integrity, not just in our most important corporate decisions, but in the thousands of actions taken every day by our employees worldwide. Ethical conduct is a high ideal, but often just means exercising common sense and sound judgment. Acting ethically will help us become a better company, a better partner with our customers, and a better corporate citizen. 5.1.2 Honest Dealing All employees are expected to be honest and forthright in their interactions with one another and in dealings with customers, suppliers, business partners and shareholders. HQ will not condone dishonesty or deceitful actions in any form. This includes, but is not limited to, making misrepresentations to customers, changing customer documents, making false or misleading entries on the Company's books or ledgers, inflating expense reports, or falsely recording hours worked on time cards. In particular, the importance of accuracy in record-keeping and reporting and the Company's expectations relating thereto are discussed more fully in Section 5.1.9 below. 5.1.3 Respect in the Work Environment HQ strives to maintain a workplace where all employees are treated with dignity, fairness and respect. Harassment or discrimination based upon race, color, religion, gender, age, national origin, disability, sexual orientation, veteran or marital status, or any other characteristic protected by law is unacceptable and will not be tolerated. Other activities that are prohibited because they are clearly not conducive to a respectful work environment are threats of physical harm, violent behavior, or possessing weapons while on Company premises. Furthermore, being under the influence of alcohol or illegal drugs while at work is strictly forbidden. Additional HQ' policies relating to appropriate workplace conduct are contained in the Employee Handbook. 5.1.4 Gratuities Building strong relationships with customers is essential to HQ' business. Socializing with customers and suppliers is an integral part of building those relationships. Common sense and good judgment should always be exercised in providing or accepting business meals and entertainment or nominal gifts, however. While individual circumstances differ, the overriding principle concerning gratuities is not to give or accept anything of value that could be perceived as creating an obligation on the part of the recipient (whether a HQ employee or a customer) to act other than in the best interests of his or her employer or otherwise to taint the objectivity of the individual's involvement. It is the responsibility of each employee to ensure that providing or accepting a gratuity is appropriate under the circumstances. When in doubt, err on the side of prudence. 5.1.5 Handling Company and Customer Assets Company property and customers' property with which HQ has been entrusted must be used and maintained properly with care taken to guard against waste and abuse. Appropriate use of Company and customer property, facilities, and equipment is every employee's responsibility. Of course, stealing or misappropriating Company or customer property will not be tolerated. Likewise, the removal or borrowing of Company or customer property without permission is prohibited. 5.1.6 Conflicts of Interest Although employees are generally free to engage in personal financial and business transactions, this freedom is not without constraints. Every employee must avoid situations where loyalties may be divided between HQ' interests and the employee's own interests. Employees also should seek to avoid even the appearance of a conflict of interest. If an employee is considering engaging in a transaction or activity that may present a conflict of interest or the appearance of a conflict of interest the employee should disclose the matter and obtain appropriate approvals before engaging in such transaction or activity. For employees, examples of potential conflicts of interest include accepting concurrent employment with, or acting as a consultant or contractor to, any HQ competitor, customer or supplier; serving on the board of directors or technical advisory board of another entity; or holding a significant financial interest in any HQ competitor, customer or supplier. It is recognized that directors of HQ entities who are not employees may engage in outside activities with, or have duties to, other entities, as employees, directors, consultants or otherwise. Such activities and duties generally do not in and of themselves constitute a conflict of interest, and in fact are valuable to HQ because of the experience and perspective that outside directors offer to HQ as a result of these activities. Directors are expected to exercise sound judgment with respect to the relationship between their outside activities and their responsibilities to HQ, and at all times to act in a manner consistent with their duties of care and loyalty, as well as other applicable legal standards governing the responsibilities of directors. Directors should err on the side of caution in disclosing to the Board relationships that may constitute, or may appear to constitute, an actual or potential conflict of interest, and may be required to abstain from involvement as a Board member or as an employee, director, consultant, or other affiliation with another entity, in a particular matter. Outside directors also should fully disclose their relationship with HQ to other entities with whom they have a relationship. For further clarification as to what constitutes an actual or potential conflict of interest and whether engaging in an outside activity must be disclosed to the Company, please refer to HQ' Conflict of Interest Policy. 5.1.7 Safeguarding Confidential Information As a condition of employment with HQ, each employee is required to sign a Proprietary Information and Inventions Agreement. This agreement creates an obligation on the part of each and every employee to protect HQ' proprietary information, which includes such things as business, financial, research and development, and personnel information. Confidential information also includes any proprietary information shared with HQ by our customers and business partners, or information that has been acquired by an employee during the course of working for a former employer. HQ employees have an equal obligation to protect against the unauthorized disclosure or misuse of such third party confidential information. 5.1.8 Insider Trading HQ believes in an open culture in which information is widely shared. As a result, during the course of employment, HQ employees may have access to non-public information about HQ, which, if known to the public, might affect investors' decisions to buy, sell or hold securities issued by the Company. Under the Company's insider trading policy, trading while in possession of such material non-public information, i.e., insider trading is prohibited. Insider trading is also prohibited by the federal securities laws. Engaging in insider trading is grounds for discipline up to and including termination, and may subject both the individual and HQ to civil and criminal penalties. 5.1.9 Public Reporting Requirements Accounting and other business records are relied upon in the preparation of reports HQ files with certain government agencies, such as the Securities and Exchange Commission (SEC). These reports must contain full, timely and understandable information and accurately reflect our financial condition and results of operations. Employees who collect, provide or analyze information for or otherwise contribute in any way in preparing or verifying these reports must strive to ensure that our financial disclosures are accurate and verifiable, thus to enable shareholders and potential investors to assess the soundness and risks of our business and finances and the quality and integrity of our accounting and disclosures. The integrity of our public disclosures depends on the accuracy and completeness of our records. To that end: |X| All business transactions must be supported by appropriate documentation and reflected accurately in our books and records; |X| No entry be made that intentionally mischaracterizes the nature or proper accounting of a transaction; |X| No HQ employee may take or authorize any action that would cause our financial records or disclosures to fail to comply with generally accepted accounting principles, the rules and regulations of the SEC or other applicable laws, rules and regulations; |X| All employees must cooperate fully with our independent public accountants and counsel, respond to their questions with candor and provide them with complete and accurate information to help ensure that our books and records, as well as our reports filed with the SEC, are accurate and complete; and |X| No employee should knowingly make (or cause or encourage any other person to make) any false or misleading statement in any report filed with the SEC or other government agency, or knowingly omit (or cause or encourage any other person to omit) any information necessary to make the disclosure in any of our reports accurate in all material respects. Any employee who becomes aware of any departure from these standards has a responsibility to report his or her knowledge promptly to a manager, the Company's Chief Financial Officer and/or to the Company's Internal Audit or Legal departments. 5.2 ADMINISTRATION OF POLICY 5.2.1 Implementation A copy of this Code will be furnished to each HQ employee upon commencement of employment with the Company. All employees will be required to sign a statement acknowledging receipt of, and their affirmation to abide by, the Code. In addition, each non-employee member of the Board of Directors of a HQ entity will be required to sign a statement acknowledging receipt of and an affirmation to abide by the Code. The Human Resources department shall incorporate an overview of the Code into the agenda for New Employee Orientation. Moreover, the Code shall be republished annually by a member of HQ's Executive Staff. 5.2.2 Compliance and Violations All HQ employees are expected to comply fully with this Code. Employees who violate this Code will be subject to disciplinary action, up to and including immediate termination of employment. 5.2.3 Procedure for Reporting Unethical Conduct & Enforcement HQ observes an open-door policy. If an employee becomes aware of or suspects that unethical or illegal conduct has occurred or is about to occur, the employee should notify his or her manager, Human Resources Manager, the Senior Vice President of his or her Business Group, or HQ's Internal Audit or Legal Departments. Reports of unethical or illegal conduct shall be promptly and thoroughly investigated by either or both the Internal Audit Department or the Legal Department, as appropriate under the circumstances. All information regarding suspected ethical violations or unlawful activity will be received on a confidential basis. While complete confidentiality cannot be guaranteed, confidentiality will be maintained to the extent possible in conducting internal investigations and, where action is warranted, in carrying out disciplinary measures. Employees who report unethical conduct in good faith are assured they may do so without fear of retribution. HQ will not tolerate adverse actions being taken against an employee for the good faith reporting of violations of law or Company policies, or for participating in internal investigations. 5.2.4 Waivers and Disclosures This Code shall be made available to the public on HQ's website at www.HQfish.com and through all applicable disclosures required by the Securities and Exchange Commission (SEC) or other applicable law. Waiver of any provision of this Code for directors or officers of HQ must be approved in writing by the Board of Directors of HQ, Inc. and promptly disclosed as required by applicable law, rules or regulations. Waiver of any provision of this Code with respect to any non-executive employee must be approved in writing by the CEO and by the General Counsel EX-23 6 hq10ksbex23123104.txt CONSENT OF ROTENBERG & CO. LLP Exhibit 23 Letterhead Rotenberg & Co. LLP letterhead INDEPENDENT AUDITORS' CONSENT To the Board of Directors HQ Sustainable Maritime Industries, Inc. We consent to the use in this Annual Report of HQ Sustainable Maritime Industries, Inc. on Form 10-KSB of our report dated March 16, 2004, for the period ended April 30, 2004 and eight months ended December 31, 2004 and 2003, and to the reference to us under the heading "Experts", which is a part of this Annual Report. /s/ Rotenberg & Co. LLP Rotenberg & Co., LLP Rochester, New York April 11, 2005 EX-31.1 7 hq10ksbex311123104.txt SECTION 302 CERTIFICATION OF CEO Exhibit 31.1 CERTIFICATION I, Norbert Sporns, the Chief Executive Officer of the registrant, certify that: 1. I have reviewed this annual report on Form 10-KSB of HQ Sustainable Maritime Industries, Inc., or the registrant, for the fiscal year 2004. 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: a. Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b. Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and c. Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's fourth fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent valuation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): a. All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b. any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: April 11, 2005 /s/ Norbert Sporns - ------------------------------------------- Name: Norbert Sporns Title: Chief Executive Officer & President EX-31.2 8 hq10ksbex312123104.txt SECTION 302 CERTIFICATION OF CFO Exhibit 31.2 CERTIFICATION I, Jean-Pierre Dallaire, the Chief Financial Officer of the registrant, certify that: 1. I have reviewed this annual report on Form 10-KSB of HQ Sustainable Maritime Industries, Inc., or the registrant, for the fiscal year 2004. 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: a. Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b. Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and c. Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's fourth fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent valuation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): a. All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b. any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: April 11, 2005 /s/ Jean-Pierre Dallaire - ------------------------------- Name: Jean-Pierre Dallaire Title: Chief Financial Officer EX-32.1 9 hq10ksbex321123104.txt SECTION 906 CERTIFICATION OF CEO Exhibit 32.1 Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes - Oxley Act of 2002 In connection with the Annual Report of HQ Sustainable Maritime Industries, Inc. (the "Company"), on Form 10-KSB for the year ended December 31, 2004 as filed with the Securities and Exchange Commission ("SEC") on the date hereof (the "Report"), each of the undersigned of the Company, certifies, pursuant to 18 U.S.C. ss.1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that, to the best of their knowledge: 1. the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and 2. the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. A signed original of this written statement has been provided to the Company and will be retained by the Company and will be furnished to the SEC or its staff upon request. /s/ Norbert Sporns - --------------------------------- Name: Norbert Sporns Title: Chief Executive Officer and President April 11, 2005 This Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. This exhibit is not "filed" for purposes of Section 18 of the Securities Exchange Act of 1934 but is instead furnished as provided by applicable rules of the Securities Exchange Commission. EX-32.2 10 hq10ksbex322123104.txt SECTION 906 CERTIFICATION OF CFO Exhibit 32.2 Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes - Oxley Act of 2002 In connection with the Annual Report of HQ Sustainable Maritime Industries, Inc. (the "Company"), on Form 10-KSB for the year ended December 31, 2004 as filed with the Securities and Exchange Commission ("SEC") on the date hereof (the "Report"), each of the undersigned of the Company, certifies, pursuant to 18 U.S.C. ss.1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that, to the best of their knowledge: 1. the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and 2. the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. A signed original of this written statement has been provided to the Company and will be retained by the Company and will be furnished to the SEC or its staff upon request. /s/ Jean-Pierre Dallaire - --------------------------------- Name: Jean-Pierre Dallaire Title: Chief Financial Officer April 11, 2005 This Certification of Acting Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. This exhibit is not "filed" for purposes of Section 18 of the Securities Exchange Act of 1934 but is instead furnished as provided by applicable rules of the Securities Exchange Commission. -----END PRIVACY-ENHANCED MESSAGE-----