-----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, FRelwGJHeuJc0ptom4Xh3b9NKmTsjm6GN2Okdf12d5VbHodXUQTPgfZwI+DZ1cSP UiGKNEGeBXnDS+UxMUM5Cw== 0001026700-08-000028.txt : 20080401 0001026700-08-000028.hdr.sgml : 20080401 20080401171317 ACCESSION NUMBER: 0001026700-08-000028 CONFORMED SUBMISSION TYPE: 10KSB PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 20080328 FILED AS OF DATE: 20080401 DATE AS OF CHANGE: 20080401 FILER: COMPANY DATA: COMPANY CONFORMED NAME: ETERNAL TECHNOLOGIES GROUP INC CENTRAL INDEX KEY: 0001096662 STANDARD INDUSTRIAL CLASSIFICATION: AGRICULTURE PRODUCTION - LIVESTOCK & ANIMAL SPECIALTIES [0200] IRS NUMBER: 593565502 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10KSB SEC ACT: 1934 Act SEC FILE NUMBER: 000-27929 FILM NUMBER: 08730299 BUSINESS ADDRESS: STREET 1: 200 SOUTH KNOWLES AVE CITY: WINTER PARK STATE: FL ZIP: 32790 BUSINESS PHONE: 4076222040 FORMER COMPANY: FORMER CONFORMED NAME: WATERFORD STERLING CORP DATE OF NAME CHANGE: 20010220 FORMER COMPANY: FORMER CONFORMED NAME: SKREEM COM CORP DATE OF NAME CHANGE: 19991012 10KSB 1 fm10ksb123107.htm fm10ksb123107.htm



 
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
 
FORM 10-KSB
 
 
(Mark One)
 
 
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the Fiscal Year Ended December 31, 2007
 
 
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 

 
For the transition period from ____________ to _____________
 
Commission File No. 0-27929
 
ETERNAL TECHNOLOGIES GROUP, INC.
(Name of Small Business Issuer in its charter)
Nevada
(State or other jurisdiction of incorporation or organization)
62-1655508
(I.R.S. Employer Identification No.)
 
Suite 2007, Main Block
Jinzhonghuan Commercial Tower
3037th Jintian Rd. Futian Dist.
Shenzhen, Guangdong Province, China 518048
-----------------------------------------------------------------
(Address of principal executive offices)(Zip code)
Issuer's telephone number, including area code: 011-86-22-2721-7020
Securities to be registered pursuant to Section 12(b) of the Act:
 
Title of each class
Name of each exchange on which each is registered
None
None
   
Securities to be registered pursuant to Section 12(g) of the Act:
Common Stock, $0.001 par value
(Title of Class)
 
Indicate by check mark if the registrant is a well known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes [ ] No [ X ]
 
 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act Yes [ ] No [ X ]
 
 
Indicate by check mark 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 [ ]
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company
 
 
Large Accelerated Filer [ ] Accelerated Filer [ ] Non-Accelerated Filer [ ] Smaller Reporting Company [ X ]
 
 
The aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was last sold as of the last business day of the registrant's most recently completed second quarter $30,957,835.
 
 
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ]
 
 
Indicate by check mark whether the registrant is a shell company Yes [ ] No [ X ]
 
 
DOCUMENTS INCORPORATED BY REFERENCE
 
 
None
 
 
Transition Small Business Disclosure Format: Yes [ ] No [X]
 
1

 
TABLE OF CONTENTS
 


 
Page
PART I
 
   
ITEM 1.    DESCRIPTION OF BUSINESS
3
ITEM 1B. UNRESOLVED STAFF COMMENT’S
  6
ITEM 2.    PROPERTIES
6
ITEM 3.    LEGAL PROCEEDINGS
7
ITEM 4.    SUBMISSION OF MATTERS TO A VOTE OF  SECURITY HOLDERS
7
   
PART II
 
   
ITEM 5.  MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER  MATTERS AND SMALL BUSINESS ISSUER PURCHASE OF EQUITY  SECURITIES
8
ITEM 6.     SELECTED FINANCIAL DATA
  9
ITEM 7.    MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
10
ITEM 8.    FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA
17
ITEM 9.    CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
36
ITEM 9A. CONTROLS AND PROCEDURES
36
ITEM 9B.  OTHER INFORMATION
37
   
PART III
 
   
ITEM 10.  DIRECTORS, EXECUTIVE OFFICERS, AND CORPORATE GOVERANCE
37
ITEM 11.  EXECUTIVE COMPENSATION
39
ITEM 12.  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
43
ITEM 13.  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
44
ITEM 14.  PRINCIPAL ACCOUNTANT FEES AND SERVICES
44
ITEM 15.  EXHIBITS AND FINANCIAL STATEMENTS SCHEDULES
44
SIGNATURES
47
 
2

 
FORWARD-LOOKING STATEMENTS
 
 
This annual report on Form 10-KSB contains forward-looking statements within the meaning of the federal securities laws. These forwarding-looking statements include without limitation statements regarding our expectations and beliefs about the market and industry, our goals, plans, and expectations regarding our operations and properties and results, our intentions and strategies regarding future operations, acquisitions and sales of properties, our intentions and strategies regarding the formation of strategic relationships, our beliefs regarding the future success of our operations, our expectations and beliefs regarding competition, competitors, the basis of competition and our ability to compete, our beliefs and expectations regarding our ability to hire and retain personnel, our beliefs regarding period to period results of operations, our expectations regarding revenues, our expectations regarding future growth and financial performance, our beliefs and expectations regarding the adequacy of our facilities, and our beliefs and expectations regarding our financial position, ability to finance operations and growth and the amount of financing necessary to support operations. These statements are subject to risks and uncertainties that could cause actual results and events to differ materially. We undertake no obligation to update forward-looking statements to reflect events or circumstances occurring after the date of this annual report on Form 10-KSB.
 
 
As used in this annual report on Form 10-KSB, unless the context otherwise requires, the terms "we," "us," "the Company," and "Eternal Technologies" refer to Eternal Technologies Group, Inc., a Nevada corporation.
 
 
 
 
 
 
General
 
 
Eternal Technologies Group, Inc. is engaged in agricultural genetics and medical equipment manufacturing and distribution operating in the People's Republic of China. We focus on the development and application of advanced animal husbandry techniques to produce improved food products, the development, manufacturing and marketing of medical equipment and technologies used in the detection and prevention of breast cancer in humans.
 
 
Our agricultural genetics/animal husbandry operations are concentrated in the application of advanced embryonic biotechnology techniques with the objective being to shorten the development time for animal development resulting in increased output and profitability and reduced use of animal feed. Since 2000, we have utilized our advanced breeding techniques and marketed fine bred animal embryos, breeding stock and breeding services to develop larger, stronger and healthier sheep. In the fourth quarter of 2003, we began the production and sale of lamb meat and began application of our advanced breeding techniques to the breeding of higher-yielding purebred Holstein dairy cattle.
 
 
Our development, manufacturing and marketing of medical equipment and medical technologies are focused in the development of breast cancer detection technology with the objective of earlier detection. We manufacture a device which , if widely accepted, could substantially decrease the costs and therefore increase the availability of breast cancer detection in many areas in Asia. We entered this industry in October of 2005 with the acquisition of the assets of E-Sea Biomedical Engineering Co. International, Ltd.
 
 
Our principal executive offices are located at Suite D, 5/F, Block A, Innotec Tower, 235 Nanjing Road Heping District, Tianjin, PRC 300052 and our telephone number is 011-86-22-2721-7020. We also maintain offices in Shenzhen, China at the Golden Central Tower Suite 2007, 3037 Jintian Rd., Shenzhen, China 518048.
 
3

 
 

History and Development of the Company
 
 
Eternal Technologies Group, Ltd, was incorporared in the British Virgin Island (BVI) on March, 2000. We conduct operations through our wholly-owned subsidiaries, Eternal Technology Group Ltd. ("Eternal - BVI"), a British Virgin Islands company, and its subsidiaries and E-Sea Biomedical Engineering Co. International Ltd., ("E-Sea") also a BVI company, and Willsley Company Limited (Willsley)
 
 
Eternal - BVI acquired 100% of Willsley Company Limited in May 2000. Willsley is a holding company that owns 100% of Inner Mongolia Aershan Agriculture & Husbandry Technology Co., Ltd. ("Aershan Agriculture"). Aershan Agriculture conducts breeding operations and owns a farm in Inner Mongolia which it leases to a Chinese company ("lessee") for 4,620,000RMB per year for approximately USD$579,000 per year. The lessee intends to raise fast growing trees on the property for lumber.
 
 
During 2005 we acquired certain assets, subject to certain liabilities of E-Sea Biomedical Engineering Co. International, Ltd. E-Sea's principal activities are the manufacture, sale and licensing of medical devices used to detect breast cancer.
 
 
Our current agricultural operations are focused on developing superior livestock breeds in order to improve the quality and yield of livestock in China as well as the profitability of livestock operations. We initially imported embryos from Australia and the United States, but are utilizing our facilities and expertise to develop a herd of "carrier animals" to produce a domestic supply of embryos, hereby eliminating our dependence on third party foreign embryo suppliers and reducing the cost of embryos. Under this program, we transfer fine-breed sheep and dairy cattle embryos into recipient animals and sell the pregnant animals to customers with the offspring serving as breeding or commercial stock.
 
 
We utilize our fine-breed livestock embryos and our breeding and biotech expertise to offer a range of livestock breeding services and products, including sale of embryos, artificial insemination and embryo transplant services, both at our facilities and on-site, and related products and services designed to improve production, quality and profitability of Chinese livestock operators.
 
 
We also process and sell mutton from our higher yielding, higher quality genetically engineered stock.
 
 
Our current medical operations are centered around E-Sea and expanding our market in China, both through the sales of our medical detection devices and leasing them on a per usage basis. We are also exploring acquisitions to expand and complement the E-Sea line of medical equipment.
 
During February 2007, the Company entered into an Exchange Agreement (“the Agreement”) by which it expended $14,850,000 RMB in cash, approximately $3,800,000 USD and 2,719,730 shares of common stock valued at $.63 US in exchange for 22% interest in the common stock of Changsha Hong Yuan Aquatic Product, Inc. (“Hong Yuan”). Hong Yuan is a corporation duly organized, validly existing, and in good standing under the laws of the PRC and currently its operations focus on the breeding and sale of turtles. In accordance with the Agreement, Hong Yuan has committed to pay the Company a guaranteed return on its investment of $3,000,000 RMB per year either in cash or the equivalent in additional shares of its common stock.
 
On October 15, 2007, the Company acquired a 30% equity interest, respectively, in Hainan Futian Green Agriculture Ltd. ("Hainan") a mango farm, and Maoming Huatong Orchard Trading Co., Ltd. ("Maoming") a Lychee farm. For the acquisition of the interest in Hainan, the Company paid $33,000,000 RMB in cash, approximately US$4,400,000, and issued 2,133,333 shares of its common stock valued at $.84 USD based on the closing price of the stock.  For the acquisition of the interest in Maoming, the Company paid $36,000,000 RMB in cash, approximately US$4,800,000 and issued 2,444,444 shares of its common stock valued at $.84 USD based on the closing price of the stock. Both companies are incorporated under the laws of the PRC. The Mango farm has a guaranteed minimum annual return on investment of $6,800, 000 RMB and will increase by a minimum of 1% for ten years. The Lychee farm has a guaranteed minimum annual return on investment of $7,800,000 RMB and will increase by 1% for five years.  If the farms are unable to meet the  guaranteed minimum annual returns on investment with cash flows from their operation, they must meet the obligations by returning an equivalent amount of the company's shares originally issued to them as part of the investment purchase.
 
 
4

 
 

 
Historically, our business has been highly seasonal with nearly all of our revenues being generated in the fourth quarter. While our business will remain seasonal it should be less cyclical in the future because of the sale of lamb meat, embryo transfers to dairy cattle and the acquisition of E-Sea thereby making our overall business less seasonal.
 
 
Medical Equipment Operations E-Sea
 
 
E-Sea manufactures and sells a medical device known as a "Three-operator Mammary Gland Detecting System." This device is used to examine persons and detect early stage breast cancer. We anticipate wide acceptance of this product as it is a low cost alternative to expensive and often times unavailable mammography.
 
 
Facility. We manufacture and sell the medical equipment from a facility in Shenzhen, PRC. The facility is approximately nine-thousand square feet and contains manufacturing machinery, workspace, and administrative offices.
 
 
The marketing of scanners produced by E-Sea is principally done through independent distributors. Our agricultural products  and services are marketed by company personnel.
 
 
Potential Acquisitions
 
 
We intend to evaluate various potential acquisitions of companies and facilities in order to expand the scope of our operations and accelerate our growth. Specifically, we intend to evaluate the acquisition of companies or facilities to provide feedlot, dairy processing, slaughterhouse and meat processing, animal fattening and similar capabilities. However, there are no current agreements to purchase any companies or facilities.
 
 
Competition
 
 
Both the agriculture and medical equipment industries are highly competitive. While animal genetics is a relatively new field in China several large foreign companies such as Smithfield Foods, Inc. of the United States and Sumitomo Corporation of Japan have entered the market and compete with us in the development and delivery of advanced animal husbandry products and services. Likewise in the medical equipment field, companies such as Siemens and General Electric have entered the market to compete with us. These companies have a substantial advantage due to their size and the name recognition each enjoys.
 
 
Increased competition in the agriculture industry could have a material adverse effect on us, as our competitors may have far greater financial and other resources available to them and possess extensive manufacturing, distribution and marketing capabilities far greater than those we possess.
 
 
Intellectual Property
 
 
There can be no assurance that third parties will not assert intellectual property infringement claims against us in the future with respect to current or future products and technologies. We are responsible for defending against charges of infringement of third party intellectual property rights by our actions and products and such assertion may require us to refrain from the sale of our products, enter into royalty arrangements or undertake costly litigation. Further, challenges may be instituted by third parties as to the validity, enforceability and infringement of our patents.
 
 
Our adherence to industry standards with respect to our products limits our opportunities to provide proprietary features that may be protected. In addition, the laws of various countries in which our products may be sold may not protect our products and intellectual property rights to the same extent as the laws of the United States of America.
 
 
 
5

 
 
Governmental Regulation
 
 
Our business segments in general are subject to extensive laws and regulations, including environmental laws and regulations. As such, we may be required to make large expenditures to comply with environmental and other governmental regulations.
 
 
Under these laws and regulations, we could be liable for personal injuries, property damage, discharge of hazardous materials, remediation and clean-up costs and other environmental damages. Failure to comply with these laws and regulations also may result in the suspension or termination of our operations and subject us to administrative, civil and criminal penalties. Moreover, these laws and regulations could change in ways that substantially increase our operating costs.
 
 
The Chinese regulatory scheme, in general, and the regulation of the agriculture and medical equipment industries in particular, is not well defined and is subject to substantial uncertainty. With China's entry in the World Trade Organization ("WTO"), China has implemented numerous changes to its existing laws and regulations.
 
 
Chinese laws impacting our animal husbandry operations relate primarily to health and safety regulations covering food products and environmental regulations covering waste products and other land use regulations. Food product regulations generally govern the safety of products in the food chain and the handling of those products. We believe that we are in compliance with all existing food and environmental regulations applicable to our animal husbandry operations. Because many of those regulations are new and evolving, we must continually monitor the interpretation, enforcement and modification to those regulations to assure ongoing compliance.
 
 
Our medical equipment operations are subject to extensive regulation by the Chinese government and, if we market our products outside of China, other governments may impose even greater restrictions. Chinese medical equipment regulation is evolving and subject to much uncertainty. Under current regulations, the Chinese equivalent of the United States Food And Drug Administration is responsible for monitoring, and promulgating regulations with respect to the review of clinical safety and efficacy trial, market approval of equipment and effectiveness claims, manufacturing practices, and similar matters. Failure to comply with market rules could result in fines, penalties or other adverse consequences.
 
Employees
 
 
As of December 31, 2006 and 2007, we had 68 and 70 full-time employees respectively, including employees performing administrative functions and animal husbandry services and farming functions. Third parties perform bioscience research and related services on a contract basis. The employees are not covered by a collective bargaining agreement, and we do not anticipate that any of our future employees will be covered by any such agreement.
 
 
ITEM 1B. UNRESOLVED STAFF COMMENTS
 
 
 
 
ITEM 2. PROPERTIES
 
 
We operate from four separate facilities, our administrative offices in Tianjin and Shenzhen PRC, a manufacturing facility in Shenzhen, and our farm in Inner Mongolia, PRC.
 
 
.
 
 
 
6

 
 

 
The administrative offices in Tianjin occupy approximately 97.8 square meters (approximately 1,053 square feet) in a commercial building. The Company rents this facility under a three-year lease, running through December 31, 2010, at $8,000 RMB (approximately US$1,100) per month. The administrative office in Shenzhen occupies approximately 150 square meters (approximately 1,585 square feet) in a high rise office building. We rented this facility under a two year lease running through October 21, 2009 at $24,324RMB (approximately US$3,300 per month).
 
 
The leased facility of E-Sea in Shenzhen is an 865 square meters (approximately 9,310 square feet) facility containing machinery for the manufacture of medical equipment, administrative offices, and storage space for raw materials. The lease expires on January 14, 2010 and requires monthly payments of $20,001RMB (approximately US$2,700).
 
 
The farm consists of approximately 2.8 million acres and is located in Inner Mongolia, PRC. We purchased the land use rights to this farm in April 2000. Land use rights with respect to our farm were purchased from the Chinese government for $6,000,000. Such rights extend through 2026. We have the option to renew the land use rights for an additional 25 years at a cost of USD$6,000,000. In April 2006 we reached an agreement to lease the farm to a Chinese company ("Lessee")for twenty years for approximately $579,000 per year. The Lessee intends to raise fast growing trees on the property for lumber and paper.
 
 
ITEM 3. LEGAL PROCEEDINGS
 
 
On August 23, 2007, the U.S. District Court for the Southern District of Texas awarded Western Securities Corporation the sum of $636,757 plus accrued interest since May 22, 2007 and attorney fees in an amount to be determined this judgement became final on October 31, 2007. The Company has several notices with the Court that it intends to appeal this judgement. The judgement will have no impact on earnings, as the potential liability had been previously accrued.
 
 
On the 4th of September 2007, the Company was served with a suit from International Capital Advisors LLC, as assignee of Market Management, Inc. seeking repayment of the sum of $250,000 alleged paid by Market Management, Inc. on behalf of the Company on the 26th of October 2007, the Plaintiff amended their petition, adding several additional causes of action and are now seeking $960,000 plus accrued interest and attorney’s fees. On September 18, 2007, the Company filed a general denial to this claim and the case is currently in discovery. It has been scheduled for trial in July, 2008.
 
 
The third cause of action involves one of the convertible promissory notes owned by Bristol Investments Limited. This cause of action was filed in State Court in New York and three times was dismissed. On March 30, 2006 without stating a new cause of action, Bristol Investments Limited re-filed the same cause of action against the Company and on December 27, 2007, the Court rendered a decision in favor of Bristol Investments Limited. The parties have since reached an oral settlement of $64,000 although, a formal settlement agreement has not been executed.
 
 
As of March 26, 2008, there are no other causes of action pending against the Company.
 
 
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
 
 
During the quarter ended December 31, 2007. The Company held its annual meeting on November 15, 2007 in Honolulu, Hawaii. At this meeting, the seven directors standing for election were elected and the Company’s Stock Option Plan was approved. The following table sets forth the election results.
 
Director
Votes For
Votes Against
Withheld
Abstentions and Brokers Non-Votes
JiJun Wu
32,136,500
40,000
214,000
64,000
Jiansheng Wei
28,500,500
2,771,000
121,000
56,000
Shien Zhu
29,460,000
2,873,500
121,000
-
Genchang Li
29,460,000
2,873,500
121,000
-
Shicheng Fu
29,460,000
2,873,500
121,000
-
Yugo Cheng
29,460,000
2,873,500
121,000
-
Mike Zhang
29,360,000
2,873,500
121,000
-
         
 
 
7

 
 
The following table sets forth the vote totals for the 2007 Employee Stock Option
 
 
 Vote Totals
For
24,083,200
Against
8,263,300
Broker Non-Votes
108,000
   
 
 
 
ITEM 5. MARKET FOR REGISTRANTS COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND SMALL BUSINESS ISSUER PURCHASE OF EQUITY SECURITIES
 
Our common stock is listed on the over-the-counter electronic bulletin board ("OTCBB") under the symbol "ETLT". The following table sets forth the range of high and low bid prices for each quarter during the past two fiscal years.
 
Calendar Year 2007
High
Low
Fourth Quarter
$0.95
$0.30
Third Quarter
0.74
0.56
Second Quarter
0.74
0.55
First Quarter
0.97
0.57
     
Calendar Year 2006
   
Fourth Quarter
$0.70
$0.45
Third Quarter
0.51
0.39
Second Quarter
0.56
0.39
First Quarter
0.69
0.39
 
On January 1, 2007 we issued 2,719,730 shares of our common stock to shareholders of Hong Yuan Aquatic Products, Inc.  along with $3,8000,000 USD in cash for a 22% interest in that enterprise. The assigned value of the common stock issued was $.70 per share which approximated the fair value of the common stock on January 1, 2007. Hong Yuan has committed to pay us a guaranteed return on our investment of $3,000,000 RMB per year in cash or the equivalent in shares of its common stock.
 
 
On January 5, 2007, we issued 600,000 shares to Yulang Zhang to compensate her for the 600,000 shares she had sold to pay the various company obligations in the United States during the first quarter,of 2007, the Company issued 186,549 shares of its common stock to four warrant holders for the cashless conversion of 330,578 warrants.
 
 
On October 15, 2007, the Company issued 2,133,333 shares of its common stock along with approximately $4,400,000 USD in cash to the shareholders of Hainan Fuitian Green Agriculture Co. Ltd."Hainan" for a 30% equity interest in that entity and issued 2,444,444 shares of its common stock  along with approximately $4,800,000 USD in cash to the shareholders of Maoming Huatong Orchard Trading Co., Ltd. "Maoming Hautong" for a 30% equity interest in that entity. The investment in Hainan has a guarenteed  minimum annual profit of $6,800,000 RMB and increases by 1% per annum. The investment in Maoming Hautong has a guaranteed minimum annual profit of $7,800,000 RMB and increases by 1% per year.
 
 
 
8

 
 

 
On October 11, 2007, the Company issued 36,678 shares of its common stock to a warrant holder for the cashless conversion of 68,572 warrants and issued 50,000 shares to another warrant holder for the cashless conversion of 104,054 warrants.
 
 
The issuance of the shares of our common stock described above was pursuant to the exemption from registration provided by Section 4(2) of the Securities Act of 1933, as amended and related state private offering exemptions. All of the investors were Accredited Investors as defined in the Securities Act who took their shares for investment purposes without a view to distribution and had access to information concerning us and our business prospects, as required by the Securities Act.
 
 
In addition, there was no general solicitation or advertising for the purchase of our shares. All certificates for our shares issued pursuant to Section 4(2) contain a restrictive legend. Finally, our stock transfer agent has been instructed not to transfer any of such shares, unless such shares are registered for resale or there is an exemption with respect to their transfer.
 
 
And finally, between August 13 and September 3, 2007, the Company repurchased in private transactions, 1,509,730 shares of its common stock.
 
 
We have not paid dividends in the past and we intend to retain earnings, if any, and will not pay cash dividends in the foreseeable future. Any future determination to pay cash dividends will be at the discretion of the Board of Directors and will be dependent upon our financial condition, results of operations, capital requirements, general business conditions and such other factors as the board of directors may deem relevant. In November, 2006, the PRC government relaxed its currency controls. However, controls still exist which would make if difficult to pay dividends in excess of $50,000 per year.
 
 
ITEM 6. SELECTED FINANCIAL DATA
 
 
The following selected financial data for 2007 and 2006 is qualified in its entirety by, and should be read in conjunction with the more detailed information contained in the Consolidated Financial Statements and Notes thereto and Management’s Discussion and Analysis of Financial Condition and Results of Operations included elsewhere in this Annual Report on Form 10-KSB.
 
   
2007
   
2006
 
Selected Statements of Operations Data
           
Sales
   
35,590,718
     
28,718,103
 
Cost of Sales
   
24,143,968
     
18,986,902
 
Gross Profit
   
11,446,750
     
9,731,201
 
Research and Development Expenses
   
564,512
     
383,754
 
Selling General & Administrative Expenses
   
5,036,500
     
3,682,740
 
Depreciation & Amortization
   
1,122,654
     
1,069,602
 
Other Income (Expense), net
   
2,067,535
     
439,696
 
Provision for Income Taxes
   
601,845
     
555,792
 
Net Income
   
6,751,357
     
4,881,668
 
Average Common shares – basic
   
47,867,890
     
43,567,300
 
Average Common shares – diluted
   
47,929,145
     
43,801,540
 
Net income per share – diluted
   
.14
     
.11
 
Financial Condition at December 31:
               
Cash & Cash Equivalents
   
12,692,479
     
16,024,123
 
Current Assets
   
39,120,837
     
43,723,751
 
Current Liabilities
   
2,230,035
     
1,859,614
 
Working Capital
   
36,890,802
     
41,864,137
 
Ratio of Current Assets to current liabilities
   
17.54
     
23.51
 
Total Assets
   
75,052,297
     
58,065,737
 
Long term debts
   
-
     
-
 
Stockholders' Equity
   
72,822,262
     
56,206,123
 
 
 
9

 
 

 
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
The Company
 
 
Our current operations are conducted through our wholly owned subsidiary, Eternal Technology Group Ltd. ("Eternal Technologies - BVI"), a British Virgin Islands company, and its subsidiaries. For a more detailed description of our business please see "Item 1. Description of Business" on page 3.
 
 
Historically, our business has been highly seasonal with nearly all of our revenues being generated in the fourth quarter. This seasonality occurs because the embryo sales occur only during the fourth quarter when animals are impregnated as births occur in the spring. Other periods, other than the fourth quarter, should benefit in the future from the sale of lamb meat and embryo transplants into dairy cattle; thereby making our overall business less seasonal. We believe the acquisition of E-Sea Biomedical Engineering Co. International, Ltd. provides further diversification of our operations, thereby reducing the seasonality of our revenues.
 
 
Critical Accounting Policies
 
 
The preparation of financial statements in conformity with United States generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Our management routinely makes judgments and estimates about the effects of matters that are inherently uncertain.
 
 
Our critical accounting policies are those where we have made the most difficult, subjective or complex judgments in making estimates, and/or where these estimates can significantly impact our financial results under different assumptions and conditions. Our critical accounting policies are:
 
 
Inventory Valuation
 
 
Management reviews inventory balances to determine if inventories can be sold at amounts equal to or greater than their carrying amounts. The review includes identification of slow moving inventories, obsolete inventories, and discontinued products or lines of products. The identification process includes historical performance of the inventory, current operational plans for the inventory, as well as industry and customer specific trends. If our actual results differ from management expectations with respect to the selling of our inventories at amounts equal to or greater than their carrying amounts, we would be required to adjust our inventory balances accordingly.
 
Impairment of Long-Lived Assets (including Property, plant and equipment), Goodwill and Identifiable Intangible Assets.
 
 
In accordance with applicable accounting literature, we reduce the carrying amounts of long-lived assets, goodwill and identifiable intangible assets to their fair values when the fair value of such assets is determined to be less than their carrying amounts (i.e., assets are deemed to be impaired). Fair value is typically estimated using a discounted cash flow analysis, which requires us to estimate the future cash flows anticipated to be generated by the particular asset(s) being tested for impairment as well as select a discount rate to measure the present value of the anticipated cash flows. When determining future cash flow estimates, we consider historical results adjusted to reflect current and anticipated operating conditions. Estimating future cash flows requires significant judgment by us in such areas as future economic conditions, industry-specific conditions, product pricing and necessary capital expenditures. The use of different assumptions or estimates for future cash flows could produce different impairment amounts (or none at all) for long-lived assets, goodwill and identifiable intangible assets.
 
 
 
10

 
 
Among our long-lived assets subject to review for impairment are our land lease rights in the PRC that are stated at cost less accumulated amortization. Amortization of land lease rights was calculated on the straight-line basis over the lesser of its estimated useful life or the lease term. The principal annual rate used for amortization is 5%.
 
 
Stock-Based Compensation
 
 
In December 2004, the Financial Accounting Standards Board (the "FASB") issued Statement of Financial Accounting Standard ("SFAS") No. 123(R), Share-Based Payment. SFAS 123(R) requires compensation costs related to share-based payment transactions to be recognized in the financial statements. With limited exceptions, the amount of compensation cost is to be measured based on the grant-date fair value of the equity or liability instruments issued. In addition, liability awards are to be remeasured each reporting period. Compensation cost will be recognized over the period that an employee provides service in exchange for the award. SFAS 123(R) is a revision of SFAS 123, Accounting for Stock-Based Compensation, as amended by SFAS 148, Accounting for Stock-Based Compensation-Transition and Disclosure and supersedes APB No. 25, Accounting for Stock Issued to Employees. We adopted SFAS 123(R) effective January 1, 2006, using the modified prospective method. This method applies the fair value based method to new awards and to awards modified, repurchased or cancelled after the required effective date. Also, compensation cost for the portion of awards for which the requisite service has not been rendered that are outstanding as of the required effective date shall be recognized as the service is rendered on or after the required effective date. Any share based payments issued subsequent to January 1, 2006 have been accounted for under SFAS 123(R).
 
 
Contingencies
 
 
We account for contingencies in accordance with SFAS No. 5,”Accounting for Contingences". SFAS No. 5 requires that we record an estimated loss from a loss contingency when information available prior to issuance of our financial statements indicates that it is probable that an asset has been impaired or a liability has been incurred at the date of the financial statements and the amount of the loss can be reasonably estimated.
 
 
Revenue recognition
 
 
In accordance with Staff Accounting Bulletin ("SAB") No. 104 , revenue is recorded when persuasive evidence of an arrangement exists; the price to the buyer is fixed or determinable; the merchandise is delivered to the customer and title passes; and collection is reasonably assured.
 
 
Derivative instruments
 
 
In connection with the sale of debt or equity instruments, we may sell options or warrants to purchase our common stock. In certain circumstances, these options or warrants may be classified as derivative liabilities, rather than as equity. Additionally, the debt or equity instruments may contain embedded derivative instruments, such as conversion options, which in certain circumstances may be required to be bifurcated from the associated host instrument and accounted for separately as a derivative instrument liability.
 
 
The identification of, and accounting for, derivative instruments is complex. Our derivative instrument liabilities are re-valued at the end of each reporting period, with changes in the fair value of the derivative liability recorded as charges or credits to income, in the period in which the changes occur. For options, warrants and bifurcated conversion options that are accounted for as derivative instrument liabilities, we determine the fair value of these instruments using the Black-Scholes option pricing model. That model requires assumptions related to the remaining term of the instruments and risk-free rates of return, our current common stock price and expected dividend yield, and the expected volatility of our common stock price over the life of the option. The identification of, and accounting for, derivative instruments and the assumptions used to value them can significantly affect our financial statements.
 
 
 
11

 
 
Results of Operations
 
 
Year Ended December 31, 2007 Compared to Year Ended December 31, 2006
 
 
Revenues
 
 
Revenues increased by $6,872,615 or 23.9% to $35,590,718 for the year ended December 31, 2007 from $28,718,103 for the year ended December 31, 2006. The increase was primarily due to increases in embryo transfer services of $2,729,802, the sale of roll mutton of $4,421,928. An increase in rents of $468,748 and increased sales at E-Sea of $1,853,859 which were partially offset by decreases in the sale of lamb meat of $1,882,162 and cattle embryo transfer services of $719,560.
 
 
The following chart illustrates the changes by category from the year-ended December 31, 2007 to December 31, 2006.
 
Category
 
2007
   
2006
   
Difference
 
Lamb meat
   
1,759,833
   
$
3,641,995
     
(1,882,162
)
Cattle embryo transfers
   
4,542,352
     
5,261,912
     
(719,560
)
Embryo transfer services
   
4,082,865
     
1,353,063
     
2,729,802
 
Roll mutton
   
13,855,157
     
9,433,229
     
4,421,928
 
Land lease
   
758,153
     
289,405
     
468,748
 
E-Sea
   
10,592,358
     
8,738,499
     
1,853,859
 
Totals
 
$
35,590,718
   
$
28,718,103
   
$
6,872,615
 
                         
                         
 
Cost of Sales
 
 
Cost of sales increased by $5,157,067 or 27.2% to $24,143,969 for the year ended December 31, 2007 from $18,986,902 for the year ended December 31, 2006. The increase in cost of sales is attributable to an increase in embryo transfer services of $2,776,916 in the sale of roll mutton of $3,646,921, cost of the land lease of $159,924 and E-Sea of $538,520 which were partially offset by decreases in the cost of lamb meat of $1,326,200, cattle embryo transfers of $577,699 and an decrease in the feeding fee of $61,315.
 
 
The following chart illustrates the changes by category from the year-ended December 31, 2007 to December 31, 2006.
 
Category
 
2007
   
2006
   
Difference
 
Lamb meat
   
1,229,586
   
$
2,555,786
     
(1,326,200
)
Cattle embryo transfers
   
3,251,720
     
3,829,419
     
(577,699
)
Embryo transfer services
   
4,017,224
     
1,240,308
     
2,776,916
 
Roll mutton
   
11,328,310
     
7,681,389
     
3,646,921
 
Feeding Fee
   
130,494
     
191,809
     
(61,315
)
Land Lease
   
562,583
     
402,659
     
159,924
 
E-Sea
   
3,624,052
     
3,085,532
     
538,520
 
Totals
 
$
24,143,969
   
$
18,986,902
   
$
5,157,067
 
                         
                         
 
 
12

 
 

 
 
The gross profit by category is as follows:
 
   
Years-ended December 31,
 
Category
 
2007
   
2006
 
Lamb meat
   
30.1
%
   
29.8
%
Cattle embryo transfers
   
28.4
%
   
27.2
%
Embryo transfer service
   
1.7
%
   
8.3
%
Roll mutton
   
18.2
%
   
18.6
%
Land Lease
   
25.8
%
   
(85.5
)%
E-Sea
   
65.8
%
   
64.7
%
 
Depreciation and Amortization
 
 
Depreciation and amortization decreased by $106,872 or approximately (16%) to $560,071 for 2007 from $666,943 for 2006. This decrease resulted from a decrease in depreciation on cows which were sold in 2007.
 
Selling, General and Administrative Expenses
 
 
Selling, general and administrative expenses increased by $1,353,760 or (36.8%) to $5,036,500 for 2007 as compared to $3,682,740 during 2006. The following chart illustrates the charges by category for the year ended December 31, 2007 and December 31, 2006.
 
Category
 
2007
   
2006
   
Difference 2007-2006
 
Office charges
    $
470,103
     $
150,530
     $
319,573
 
Salaries
   
1,593,039
     
1,400,245
     
192,794
 
Commissions to distributors
   
1,489,802
     
503,640
     
986,162
 
Travel
   
42,480
     
50,310
     
(7,830
)
Entertainment
   
57,731
     
  15,394
     
42,337
 
Legal & Professional
   
727,480
     
443,208
     
284,272
 
Rent
   
87,674
     
94,141
     
(6,467
Telephone
   
6,600
     
7,351
     
(751
)
Advertising expenses
   
0
     
626,418
     
(626,418
)
Litigation reserve
   
500,000
     
0
     
500,000
 
US Office Expenses
   
60,000
     
60,000
     
0
 
Impairment    
928
     
                          1,252
     
(324
Financial
   
663
     
730
     
(67
)
Management Expenses    
0
     
97,721
     
(97,721
Other Expense    
0
     
231,800
     
(231,800
Totals     $
5,036,500
     $
3,682,740
     $
1,353,760
 
                         
                         
                         
                         
                         
                         
                         
 
 
13

 
 
Other Income (Expense)
 
Other income (expense) increased by $1,627,839 or 370.2% to $2,067,535 for 2007 compared to income of $439,696 for 2006. The change resulted from an increase in interest income of $43,059 to $223,480, a gain on the sale of assets of $477,540 compared to $0 in the prior year, an increase in investment income of $800,533 to $1,251,554 and a positive change in the value of derivative financial instruments of $306,707 to $114,961 from $(191,746) in the prior year.
 
 
Income Taxes
 
 
Our provision for income taxes increased from $555,792 for the year ended December 31, 2006 to $601,845 for the year ended December 31, 2007. This increase is attributable to the increased contribution to earnings of the E-Sea operations. Our agricultural operations are exempt from taxation. Only the income of E-Sea is subject to tax.
 
 
As a result of the foregoing, our earnings increased by $1,869,689 or (38.3) % to $6,751,357 for the year-ended December 31, 2007 from $4,881,668 for the year ended December 31, 2006.
 
 
Liquidity and Capital Resources
 
 
As of December 31, 2007, we had cash of $12,692,479 and working capital of $36,890,802 compared to cash of $16,024,123 and working capital of $41,864,137 at December 31, 2006. We also had short-term investments of $13,827,174 as of December 31, 2007. This compares with short-term investments of $15,360,176 as of December 31, 2006. The short-term investments are somewhat equivalent to American certificates of deposit, but because of Chinese regulations, are offered by investment companies as opposed to banking who are by regulation are limited in such offerings.
 
 
Cash provided by operating activities totaled $9,015,207 for the year ended December 31, 2007. This compares with cash provided by operating activities of $1,589,842 for the year ended December 31, 2006. The increase in cash flows from operations primarily resulted from an increase in a non-cash charge for services paid with the company’s common stock and changes in the current accounts which were partially offset by a decrease in earnings, a decrease in depreciation and amortization and the items of other income.
 
 
Cash used by investing activities during 2007 was $12,577,812 compared to $6,165,656 of cash used in investing activities during 2006. For the year ended December 31, 2007, the amounts used in investing activities were $1,304,493 for the purchase of property and equipment and $11,480,478 for the purchase of long-term investments and which was partially offset by proceeds from short-term investments of $2,728,279, proceeds from the sale of fixed assets of $1,417,974 and the repayment of advances to distributors of $1,121,123. This compares with the purchase of $5,116,726 of short-term investments, advances to distributors of $11,673 and the purchases of patents for $537,257 during the year ended December 31, 2006.
 
 
Cash flows used in financing activities totaled $871,914 for 2007 $882,090 of which was used to purchase common stock which was partially offset by $10,176 of proceeds collected from common stock subscriptions.  For 2006, the Company had $1,200,000 of proceeds from financing activities, all from the sale of common stock.
 
Although we have a cash and cash equivalents balance of $12,692,479 and short-term investments of $13,827,174, management believes that the best return for such cash and short-term investments is in the People's Republic of China. Therefore, if we are to expand outside the PRC, as we anticipate doing, we will have to sell additional shares of our stock or borrow funds from third parties. However, because of the loosening of currency restrictions in the PRC, we can pay our non-PRC obligations from funds held in China. Therefore, in the opinion of management, we have sufficient funds to carry out our business plans for the next twelve months.
 
 
 
14

 
 
Capital Expenditures and Commitments
 
 
Our only material contractual obligations requiring determinable future payments on our part are a note payable to our principal shareholder and our lease relating to our executive offices in Shenzhen and Tianjin as well as the manufacturing facility in Shenzhen.
 
 
The following table details our contractual obligations as of December 31, 2007:
 
Payments Due by Period
 
Total
2008
2009
Thereafter
Operating lease commitments
$178,170
$85,848
$79,197 
$13,125
         
 
Off-Balance Sheet Arrangements
 
 
We had no off-balance sheet arrangements or guarantees of third party obligations at December 31, 2007.
 
15

 
 

Inflation
 
 
We believe that inflation has not had a significant impact on our operations since inception.
 
 
Outlook
 
 
For calendar year 2008, we will focus on three areas:
 
1.
Acquiring additional interests in agricultural facilities to complement our existing operations.
 

 
2.
A possible acquisition to compliment or expand the operations of E-Sea, or a spin-off of the operations of E-Sea.
 

 
3.
Bring the E-Sea diagnostic equipment to the USA for FDA approval and potential eventual sale. This has been delayed because the Chinese equivalent of the FDA has not yet approved the equipment from export.
 
If we are successful in implementing this strategy it should increase both our revenues and profit margins.
 
 
 
16

 
 

ITEM 8. FINANCIAL STATEMENTS
 
 
ETERNAL TECHNOLOGIES GROUP INC. AND SUBSIDIARIES
 
 
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
 
Report of Independent Registered Public Accounting Firm
18
Consolidated Balance Sheets as of December 31, 2007 and 2006
19
Consolidated Statements of Income for the years ended
December 31, 2007 and 2006
20
Consolidated Statements of Changes in Stockholders' Equity
for the for the years ended December 31, 2007 and 2006
21
Consolidated Statements of Cash Flows for the years ended
December 31, 2007 and 2006
22
Notes to Consolidated Financial Statements
23-33
 
 
17

 
 

 
 
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
 
 
To the Board of Directors and Shareholders
of Eternal Technologies Group, Inc.
 
 
We have audited the accompanying consolidated balance sheets of Eternal Technologies Group, Inc. and Subsidiaries as of December 31, 2007 and 2006, and the related consolidated statements of income, changes in stockholders' equity, and cash flows for the years then ended. 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 audit.
 
 
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether 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 audit provides a reasonable basis for our opinion.
 
 
In our opinion, the consolidated financial statements referred to above present fairly in all material respects, the financial position of Eternal Technologies Group, Inc. and Subsidiaries as of December 31, 2007 and 2006, and the results of their operations and their cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America.
 
 
/s/ Ham Langston Brezina, LLP
Ham Langston Brezina, LLP
 
 
Houston, Texas
April 1, 2008
 
 
 
18

 
 

 
ETERNAL TECHNOLOGIES GROUP, INC.
CONSOLIDATED BALANCE SHEETS
December 31, 2007 and 2006
(Amounts in United States Dollars)
                   
         
December 31,
 
December 31,
         
2007
 
2006
ASSETS
         
Current assets:
         
 
Cash and cash equivalents
$
12,692,479
 
$
16,024,123
 
Short-term investments
 
13,827,174
   
15,350,176
 
Accounts receivable
 
6,274,866
   
6,790,534
 
Inventories
 
6,312,236
   
5,358,213
 
Prepayments and deposits
 
14,082
   
200,705
                   
   
Total current assets
 
39,120,837
   
43,723,751
                   
Advances to distributors
 
-
   
1,048,929
Property and equipment, net of accumulated depreciation
         
 
of $4,296,083 and $3,943,592 at December 31, 2007 and
         
 
December 31, 2006, respectively
 
7,161,773
   
6,882,175
Land use rights, net of accumulated amortization
         
 
of $2,043,266 and $1,647,961 at December 31, 2007 and
         
 
December 31, 2006, respectively
 
4,765,501
   
4,722,362
Intangible assets
 
6,571,098
   
1,688,520
Other assets
 
17,433,088
   
-
                   
     
Total assets
$
75,052,297
 
$
58,065,737
                   
LIABILITIES AND STOCKHOLDERS' EQUITY
         
Current liabilities:
         
 
Notes Payable
$
443,366
 
$
443,366
 
Accounts payable and accrued liabilities
 
1,294,310
   
532,037
 
Amounts due to related parties
 
215,295
   
216,175
 
Payable due to income taxes
 
167,764
   
229,680
 
Derivative financial instrument liability
 
109,300
   
438,356
                   
   
Total current liabilities
 
2,230,035
   
1,859,614
                   
Stockholders' equity:
         
 
Preferred shares - $0.001 par value, 5,000,000
         
   
Authorized, none issued or outstanding
 
-
   
-
 
Common shares - $0.001 par value; 95,000,000
         
   
Authorized; 52,138,034 shares issued and
         
   
outstanding
 
52,137
   
43,566
 
Additional paid - in capital
 
21,303,505
   
14,931,218
 
Subscription receivable
 
-
   
(10,176)
 
Retained earnings
 
44,848,766
   
38,097,409
 
Treasury shares, at cost, 1,509,730 shares
 
(882,090)
   
-
 
Accumulated other comprehensive income
 
7,499,944
   
3,144,106
                   
   
Total stockholders' equity
 
72,822,262
   
56,206,123
                   
     
Total liabilities and stockholders' equity
$
75,052,297
 
$
58,065,737
                   
                   
                   
The accompanying notes are an integral part of these consolidated financial statements
 
 
19

 
 

 
ETERNAL TECHNOLOGIES GROUP, INC.
   
CONSOLIDATED STATEMENTS OF INCOME
   
FOR THE YEARS ENDED DECEMBER 31, 2007 AND 2006
   
(AMOUNTS IN UNITED STATES DOLLARS)
   
                       
         
2007
 
2006
   
                       
                         
    Revenue:            
 
                
 
                                                
 
Agricultural and genetics sales
Medical device sales and services
  $
 
24,240,206
10,592,359
 
  $
 
19,690,199
8,738,499
   
   
 
     
 
Land lease
 
758,153
   
289,405
                     
                                         
   
Total revenue
 
35,590,718
   
28,718,103
                     
                                         
Cost of sales and services
                               
 
Agricultural and genetics sales
 
19,957,333
   
15,498,711
                     
 
Medical device sales and services
 
3,624,052
   
3,085,532
                     
 
Land lease
 
562,583
   
402,659
                     
                                         
   
Total cost of sales and services
 
24,143,968
   
18,986,902
                     
                                         
Gross profit
 
11,446,750
   
9,731,201
                     
Depreciation expenses and amortization          
560,071
   
                                                666,943
                     
 
 
 
 
 
   
 
 
                                         
Selling, general and administrative expenses
 
5,036,500
   
3,682,740
                     
Research and development expenses
 
564,512
   
383,754
                     
                                         
Income from operations
 
5,285,667
   
4,997,764
                     
                                         
Other income (expense)
                               
 
Interest income
 
223,480
   
180,421
                     
                                       
 
Gain on sale of assets
     
477,540
   
  -
                     
           
-
                     
 
Investment Income
 
1,251,554
   
451,021
                     
 
Change in value of derivative
                               
   
financial instruments
 
114,961
   
(191,746)
                     
                                         
 
Other income (expense), net
 
2,067,535
   
439,696
                     
                                         
Income before provision for
                               
 
income taxes
 
7,353,202
   
5,437,460
                     
                                         
Provision for income taxes
 
601,845
   
555,792
                     
                                         
Net income
$
6,751,357
 
$
4,881,668
                     
                                         
Net income per common share
                               
 
basic and diluted
$
0.14
 
$
0.11
                     
                                         
Weighted average number of
                               
 
common shares outstanding,
                               
 
Basic Diluted
 
47,867,890
   
43,567,300
                     
                                   
           
47,929,145
   
43,801,540
                     
                                         
The accompanying notes are an integral part of these consolidated financial statements
                     
 
 
20

 
 

 
ETERNAL TECHNOLOGIES GROUP, INC.
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 2007 AND 2006
(AMOUNTS IN UNITED STATES DOLLARS)
 

 
 
Common Stock Shares
Amount
Additional Paid-In Capital
Treasury Shares
Stock Subscription Receivable
Retained Earnings
Accumulated
Other Comprehensive Income
Total
Balance at December
31, 2005
39,854,026
39,854
13,217,874
-
(10,176)
33,215,741
1,176,170
47,639,463
Net Income
-
-
-
-
-
4,881,668
-
4,881,668
Foreign currency
translation adjustment
-
-
-
-
-
-
1,967,936
1,967,936
Other comprehensive
Income
     
-
     
6,849,604
Common stock issued for cash
3,000,000
3,000
1,197,000
-
-
-
-
1,200,000
Loss on issuance of common
Stock
-
-
97,721
-
-
-
-
97,721
Common stock issued for
conversion of convertible
notes
713,274
712
418,623
-
-
-
-
419,335
Balance at December 31, 2006
43,567,300
43,566
14,931,218
-
(10,176)
38,097,409
3,144,106
56,206,123
Net income
-
-
-
-
-
6,751,357
-
6,751,357
Foreign currency
translation adjustment
Other Comprehensive Income    
-
-
-
-
-
-
4,355,838
4,355,838
 
11,107,195
Compensatory element of common stock issued for services
1,000,000
1,000
607,000
-
-
-
-
608,000
Common stock issued for purchase of long term investment
7,297,507
7,298
5,551,466
-
-
-
-
5,558,764
Common stock issued for
conversion of warrants
273,227
273
213,821
-
-
-
-
214,094
Collection of subscription
receivable
-
-
-
-
10,176
-
-
10,176
Common stock repurchase
-
-
-
(882,090)
-
-
-
(882,090)
                 
Balance at December 31, 2007
52,138,034
$ 52,137
$ 21,303,505
$ (882,090)
$ -
$ 44,848,766
$ 7,499,944
$72,822,262
                 
 
The accompanying notes are an integral part of these consolidated financial statements
 
 
 
21

 
 

 
ETERNAL TECHNOLOGIES GROUP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31,2007 AND 2006
(AMOUNTS IN UNITED STATES DOLLARS)
                     
           
2007
 
2006
                     
 
           
Cash flows from operating activities  
 
 
 
 
 
 
Net income
           
    Adjustments to reconcile net income to net cash     $
  6,751,357
    $
  4,881,668
   
provided by operating activities:
   
 
   
 
   
Depreciation and amortization
   
1,122,654
   
1,069,602
   
Gain on Disposition of Equipment
   
(477,540)
   
-
   
Earnings of Long-term Investment
   
(393,846)
   
-
   
Earnings of Short-term Investment
   
(148,786)
   
-
   
Change in value of derivative financial instruments
   
(114,961)
   
191,746
   
Compensatory element of common stock issued for services
   
608,000
   
97,721
   
Changes in operating assets and liabilities:
           
     
Inventories
   
(585,239)
   
(5,218,442)
     
Accounts receivable
   
1,406,901
   
580,109
     
Prepayments and deposits
   
200,437
   
65,352
     
Accounts payable and accrued expenses
   
647,931
   
(45,853)
     
Account payable to related parties
   
(1,700)
   
(32,061)
                     
       
Net cash provided by operating activities
   
9,015,207
   
1,589,842
                     
Cash flows from investing activities:
           
 
Redemption/(purchase of) short-term investment
   
2,728,279
   
(5,116,726)
 
Purchase of property and equipment
   
(1,304,493)
   
-
 
Proceeds from disposition of equipment
   
1,417,974
   
-
 
Purchase of patents
     
(5,060,217)
   
(537,257)
 
Proceeds from/(advances to) distributors
   
1,121,123
   
(511,673)
 
Purchase of long-term investment
   
(11,480,478)
   
-
                     
       
Net cash used in investing activities
   
(12,577,812)
   
(6,165,656)
                     
Cash flows from financing activities:
           
 
Proceeds from sales of common stock
   
-
   
1,200,000
 
Repurchase of common stock
   
(882,090)
   
-
 
Proceeds collected from common stock subscription
   
10,176
   
-
                     
       
Net cash (used in)/ provided by financing activities
   
(871,914)
   
1,200,000
                     
Effect of exchange rate changes on cash
   
1,102,874
   
1,175,449
                     
Net decrease in cash and cash equivalents
   
(3,331,644)
   
(2,200,365)
                     
Cash and cash equivalents, beginning of period
   
16,024,123
   
18,224,488
                     
Cash and cash equivalents, end of period
 
$
12,692,479
 
$
16,024,123
                     
Supplemental disclosure of cash flow information:
           
Interest Paid
 
$
-
 
$
-
Tax paid
   
380,039
   
413,232
                     
             
                     
                     
                     
The accompanying notes are an integral part of these consolidated financial statements
 
 
22

 
 
ETERNAL TECHNOLOGIES GROUP INC. AND SUBSIDIARIES
 
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 
 
1. ORGANIZATION AND PRINCIPAL ACTIVITIES
 
 
Pursuant to an exchange agreement, Eternal Technologies Group, Inc., ("Company") formerly known as Waterford Sterling Corporation, completed its acquisition of 100% interest of Eternal Technology Group LTD. and Subsidiaries on December 12, 2002. The Company has treated the transaction as a reverse merger for accounting purposes. To facilitate the reverse merger, the Company's common shares were reverse split on a one for six basis, and 95,000,000 post reverse split common shares, $.001 par value were authorized. Following the acquisition, the former shareholders of Eternal Technology Group LTD., a British Virgin Islands limited liability company, now own approximately 85% of the issued and outstanding common shares of Eternal Technologies Group Inc.
 
 
Eternal Phoenix Company Limited was incorporated in the British Virgin Islands with limited liability on March 3, 2000. Pursuant to a resolution passed on June 17, 2000 Eternal Phoenix Company Limited changed its name to Eternal Technology Group Ltd., ("Eternal"). Eternal is a holding company for investments in operating companies.
 
 
Eternal acquired a 100% equity interest in Willsley Company Limited ("Willsley") on July 15, 2000. Willsley was incorporated in the British Virgin Island with limited liability on May 16, 2000.
 
 
Willsley's principal activity is investments and owns 100% of Inner Mongolia Aershan Agriculture & Husbandry Technology Co., Ltd ("Aershan").
 
 
Aershan was incorporated in the People's Republic of China ("the PRC") with limited liability on July 11, 2000 and its principal activities are to transplant embryos and to propagate quality sheep meat and other livestock breeds in Inner Mongolia. During the year ended December 31, 2005, this facility was leased to a Chinese company that intends to raise a fast-growing type of tree to meet the growing demand for lumber and paper in the PRC.
 
 
E-Sea Biomedical Engineering Co. International Ltd. ("E-Sea") was incorporated on October 20, 2004 under the laws of the British Virgin Islands. E-Sea owns all of the issued and outstanding stock of E-Sea Shenzhen, which owns various Chinese patents for medical technology. E-Sea was acquired as of the close of business on September 30, 2005 for 5,709,875 shares of the Company's common stock, valued at $.40 which was the closing price of the stock as of the date the transaction was negotiated, and $2,283,950 in cash.
 
 
 
 
 
23

 
 

 
 
ETERNAL TECHNOLOGIES GROUP INC. AND SUBSIDIARIES
 
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 
 
2. BASIS OF PRESENTATION
 
 
The consolidated financial statements are prepared in accordance with generally accepted accounting principles in the United States of America.  The consolidated financial statements of the Company include the Company and its wholly owned subsidiaries. All material intercompany balances and transactions have been eliminated.
 
 
3. SUMMARY OF PRINCIPAL ACCOUNTING POLICIES
 
 
Cash and cash equivalents
 
 
The Company considers cash and cash equivalents to include cash on hand and demand deposits with banks with an original maturity of three months or less.
 
 
Accounts Receivable and Allowance for Doubtful Accounts
 
 
The allowance for doubtful accounts is the Company's best estimate of the amount of uncollectible amounts in its existing accounts receivable. Management analyzes historical collection trends and changes in its customer payment patterns when evaluating the adequacy of its allowance for doubtful accounts. The Company reviews its allowance for doubtful accounts annually. Account balances deemed uncollectible are charged off against the allowance for doubtful accounts. At December 31, 2007 and 2006 the allowance for doubtful accounts was $0.
 
 
Inventory
 
 
Inventories are measured at lower of cost or net realizable value using the first-in first-out ("FIFO") formula. The Company reviews its inventory quarterly to identify slow moving, obsolete or otherwise impaired inventory. The identification process includes historical performance of the inventory, current operational plans for the inventory, as well as industry and customer specific trends. If actual results differ from management expectations with respect to the selling of inventories at amounts equal to or greater than their carrying amounts, an adjustment to inventories would be made.
 
 
Fixed assets and depreciation
 
 
Fixed assets are stated at cost less accumulated depreciation. Depreciation of fixed assets is calculated on the straight-line basis to write off the cost, less estimated residual value, of each asset over its estimated useful life. The estimated useful lives used for this purpose are as follows:
 
Office Equipment
5 years
Infrastructure in Inner Mongolia
25 years
Buildings
25 years
Equipment
5 years
Cows
5 years
Other
5 years
 
In accordance with the Statement of Financial Accounting Standards ("SFAS") No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets", the Company examines the possibility of decreases in the value of fixed assets when events or changes in circumstances reflect the fact that their recorded
 
 
 
24

 
 

 
 
ETERNAL TECHNOLOGIES GROUP INC. AND SUBSIDIARIES
 
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 
 
value may not be recoverable. When such events and circumstances exist, the Company compares the projected undiscounted future cash flows associated with the related asset or group of assets over their estimated useful lives against their respective carrying amounts. Impairment, if any, is based on the excess of the carrying amount over the fair value of those assets and is recorded in the period in which the determination was made.
 
 
Land lease rights and amortization
 
 
Land lease rights in Mainland China are stated at the amount of the prepayment less accumulated amortization. Amortization of land lease rights is calculated on the straight-line basis over the term of the lease of approximately 25 years. The land lease rights with respect to the Company's farm were originally purchased from the Chinese government for US $6,000,000 and such rights extend through 2026. The Company has the option to renew the land lease rights for an additional 25 years at a cost of $6,000,000. The farm is located in Wulagai Development Area in Inner Mongolia.
 
 
Amortization expense during 2007 and 2006 was $270,666 and $258,300, respectively.
 
 
Intangible Assets
 
 
In accordance with the provisions of Statement of Financial Accounting Standards (SFAS) No.142, "Goodwill and Other Intangible Assets," SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets," the Company examines the possibility of decreases in the value of finite-lived intangible assets when events or changes in circumstances reflect the fact that their recorded value may not be recoverable. When such events and circumstances exist, the Company compares the projected undiscounted future cash flows associated with the related asset or group of assets over their estimated useful lives against their respective carrying amounts. Impairment, if any, is based on the excess of the carrying amount over the fair value of those assets and is recorded in the period in which the determination was made.
 
 
Income taxes
 
 
Income taxes are accounted for in accordance with Statement of Financial Accounting Standard No.109, "Accounting for Income Taxes". This Statement prescribes the use of the liability method whereby deferred tax asset and liability account balances are determined based on differences between financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. Deferred tax assets are subject to tests of recoverability. A valuation allowance is provided for such deferred tax assets to the extent realization is not judged to be more likely than not.
 
 
Foreign currency translation
 
 
The Company's reporting currency is the United States of America Dollar ("USD"). The Company maintains no material accounts in currency of the United States of America. All of the subsidiaries maintain their books and accounts in the People's Republic of China currency, which is called Renminbi ("RMB"). Translation of the balance sheet amounts from RMB into US$ has been made at the single rate of exchange on December 31, 2007 and 2006 of 7.3141 and 7.82 RMB/US$, respectively. The income statement has been translated at the average rate of exchange in effect during the year of 7.6172 RMB/US$ and 7.98 RMB/US$ for the years ended December 31, 2007 and 2006, respectively. No representation is made as to whether the RMB amounts could have been, or could be, converted into US$ at that rate on December 31, 2007 or 2006 or at any other date.
 
 
 
25

 
 

 
 
ETERNAL TECHNOLOGIES GROUP INC. AND SUBSIDIARIES
 
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 
 
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 invoices, shipping documents and signed contracts.
 
 
Revenue recognition
 
 
In accordance with Staff Accounting Bulletin No. 104, revenue from the sale of livestock, embryos, and raw materials is recognized when persuasive evidence of an arrangement exists; the price to the buyer is fixed or determinable; the merchandise is delivered to the customer and title passes; and collection is reasonably assured.
 
 
Advertising
 
 
Indirect-response advertising costs are charged to operations the first time the advertising takes place. The cost of direct-response advertising is not significant.
 
 
Research and development
 
 
Research and development costs are charged to operations as incurred.
 
 
Stock-based compensation
 
 
In December 2004, the Financial Accounting Standards Board (the "FASB") issued Statement of Financial Accounting Standard ("SFAS") No. 123(R), Share-Based Payment. SFAS 123(R) requires compensation costs related to share-based payment transactions to be recognized in the financial statements. With limited exceptions, the amount of compensation cost is to be measured based on the grant-date fair value of the equity or liability instruments issued. In addition, liability awards are to be remeasured each reported. Compensation cost will be recognized over the period that an employee provides service in exchange for the award. SFAS 123(R) is a revision of SFAS 123, Accounting for Stock-Based Compensation, as amended by SFAS 148, Accounting for Stock Based Compensation-Transition and Disclosure and supersedes APB No. 25, Accounting for Stock Issued to Employees. The Company adopted SFAS 123(R) effective January 1, 2006, using the modified prospective method. This method applies the fair value based method to new awards and to awards modified, repurchased or cancelled after the required effective date. Also, compensation cost for the portion of awards for which the requisite service has not been rendered that are outstanding as of the required effective date shall be recognized as the service is rendered on or after the required effective date. Any stock based payments issued subsequent to January 1, 2006 will be accounted for under SFAS 123(R).
 
 
Employees' benefits
 
 
Mandatory contributions are made to the Government's health, retirement benefit and unemployment programs 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.
 
 
Non-monetary transactions
 
 
The Company accounts for non-monetary transactions in accordance with APB Opinion No. 29.
 
 
 
26

 
 

 
 
Derivative financial instruments
 
 
The Company does not use derivative instruments to hedge exposures to cash flow, market, or foreign currency risks.
 
 
Derivative financial instruments are initially measured at their fair value. For derivative financial instruments that are accounted for as liabilities, the derivative instrument is initially recorded at its fair value and is then re-valued at each reporting date, with changes in the fair value reported as charges or credits to income. For option-based derivative financial instruments, the Company uses the Black-Scholes option pricing model to value the derivative instruments. To the extent that the initial fair values of the freestanding and/or bifurcated derivative instrument liabilities exceed the total proceeds received, an immediate charge to income is recognized, in order to initially record the derivative instrument liabilities at their fair value.
 
 
The discount from the face value of the convertible debt or equity instruments resulting from allocating some or all of the proceeds to the derivative instruments, together with the stated interest on the instrument, is amortized over the life of the instrument through periodic charges to income, usually using the effective interest method. When the instrument is convertible preferred stock, the dividends payable are recognize as they accrue and, together with the periodic amortization of the discount, are charged directly to retained earnings.
 
 
The classification of derivative instruments, including whether such instruments should be recorded as liabilities or as equity, is re-assessed periodically, including at the end of each reporting period. If re-classification is required, the fair value of the derivative instrument, as of the determination date, is re-classified. Any previous charges or credits to income for changes in the fair value of the derivative instrument are not reversed. Derivative instrument liabilities are classified in the balance sheet as current or non-current based on whether or not net-cash settlement of the derivative instrument could be required within 12 months of the balance sheet date.
 
 
Registration rights agreements
 
 
In connection with the sale of debt or equity instruments (including common stock), the Company may enter into Registration Rights Agreements. Generally, these agreements require us to file registration statements with the Securities and Exchange Commission to register common shares that may be issued on conversion of debt or preferred stock, to permit re-sale of common shares previously sold under an exemption from registration or to register common shares that may be issued on exercise of outstanding options or warrants.
 
 
The Agreements usually require the Company to pay penalties for any time delay in filing the required registration statements, or in the registration statements becoming effective, beyond dates specified in the agreement. These penalties are usually expressed as a fixed percentage, per month, of the original amount the Company received on issuance of the debt or preferred stock, common shares, options or warrants. The Company accounts for these penalties as an accrued liability and not as a derivative instrument. Accordingly, we recognize the penalties as they are incurred. Any penalties are expensed over the period to which they relate.
 
 
Use of estimates
 
 
The preparation of consolidated financial statements requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates.
 
 
Basic earnings per share is computed by dividing net income available to common shareholders by the weighted-average number of common shares assumed to be outstanding during the period. Diluted earnings per share includes the weighted average number of common shares outstanding and the number of equivalent shares which would be issued related to the stock options and warrants using the treasury method, contingently issuance shares, and convertible preferred stock using the if-converted method, unless such additional equivalent shares are anti-dilutive.
 
 
 
27

 
 
 
 
Earnings Per Share
 
 
The following table presents the calculation of basic and diluted net income per share:
 
   
2007
   
2006
 
Net income
 
$
6,751,357
   
$
4,881,668
 
Basic:
Weighted-average shares of common stock outstanding
   
47,867,890
     
43,567,300
 
Shares used in computing basic net income per share
   
47,867,890
     
43,567,300
 
Effect of dilutive securities:
Warrants
   
61,255
     
234,240
 
Shares used in computing diluted net income per share
   
47,929,145
     
43,801,540
 
Basic and diluted net income per share
 
$
0.14
   
$
0.11
 
 
FAIR VALUE OF FINANCIAL INSTRUMENTS
 
 
The Company includes fair value information in the notes to the consolidated financial statements when the fair value of its financial instruments is different from the book value. When the book value approximates fair value, no additional disclosure is made.
 
 
CURRENT VULNERABILITY DUE TO CERTAIN CONCENTRATIONS
 
 
The Company's operations are conducted in the PRC. Accordingly, the Company's business, financial condition and results of operations may be influenced by the political, economic and legal environments in the PRC, and by the general state of the PRC economy.
 
 
The Company's operations in the PRC are subject to special considerations and significant risks not typically associated with companies in North America and Western Europe. These include risks associated with, among others, the political, economic and legal environments and foreign currency exchange. The Company'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.

NEW ACCOUNTING PRONOUNCEMENTS
 
In February 2006, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 155, “Accounting for Certain Hybrid Financial Instruments - an amendment of FASB Statements No. 133 and 140” (“SFAS 155”).  SFAS 155 resolves issues addressed in SFAS 133 Implementation Issue No. D1, “Application of Statement 133 to Beneficial Interests in Securitized Financial Assets.”  The requirements in SFAS 155 are effective for all financial instruments acquired or issued after the beginning of an entity’s first fiscal year that begins after September 15, 2006.  During 2007, the adoption of this pronouncement had no impact on the Company’s consolidated financial position, results of operations, or cash flows.
 
In June 2006, the FASB issued Interpretation No. 48, “Accounting for Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109” (“FIN 48”), which clarifies the accounting for uncertainty in tax positions.  This Interpretation requires an entity to recognize the impact of a tax position in its financial statements if that position is more likely than not to be sustained on audit based on the technical merits of the position.  The provisions of FIN 48 are effective for the Company as of the beginning of fiscal 2008, with earlier application encouraged.  Any cumulative effect of the change in accounting principle will be recorded as an adjustment to the opening accumulated deficit balance.  During 2007, the adoption of this pronouncement had no impact on the Company’s consolidated financial position, results of operations, or cash flows.
 
In September 2006, the Financial Accounting Standards Board adopted SFAS No. 157, “Fair Value Measurements” (“SFAS 157”).  This Statement defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements.  The Statement does not require any new fair value measurements.  However, for some entities, the application of this Statement will change current practice.  SFAS 157 is effective for fiscal years beginning after November 15, 2007 and is generally to be applied prospectively.  The Company is currently evaluating the impact of SFAS 157, however, management does not believe the adoption of this statement will have a material effect on its financial statements.
 
In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities” ("SFAS 159"), which provides companies with an option to report selected financial assets and liabilities at fair value.  SFAS 159 also  establishes presentation  and disclosure requirements designed to facilitate comparisons between companies that choose different measurement attributes for similar types of assets and liabilities.  SFAS 159 is effective as of the beginning of an entity's first fiscal year beginning after November 15, 2007 with early adoption allowed.  The Company is currently evaluating the impact of SFAS 159, however, management does not believe the adoption of this statement will have a material effect on its financial statements.
 
In December 2007, the FASB issued SFAS No. 141 (revised 2007), “Business Combinations” ("SFAS 141(R)") and SFAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements, an amendment of ARB No. 51” ("SFAS 160").  SFAS 141(R) and SFAS 160 are products of a joint project between the FASB and the International Accounting Standards Board.  The revised standards continue the movement toward the greater use of fair values in financial reporting.  SFAS 141(R) will significantly change how business acquisitions are accounted for and will impact financial statements both on the acquisition date and in subsequent periods.  These changes include the expensing of acquisition related costs and restructuring costs when incurred, the recognition of all assets, liabilities and noncontrolling interests at fair value during a step-acquisition, and the recognition of contingent consideration as of the acquisition date if it is more likely than not to be incurred.  SFAS 160 will change the accounting and reporting for minority interests, which will be recharacterized as noncontrolling interests and classified as a component of equity.  SFAS 141(R) and SFAS 160 are effective for fiscal years beginning on or after December 15, 2008.  SFAS 141(R) will be applied prospectively.  SFAS 160 requires retroactive adoption of the presentation and disclosure requirements for existing minority interests.  All other requirements of SFAS 160 shall be applied prospectively.  Early adoption is prohibited for both standards.  The Company is currently evaluating the impact of the pronouncements, however, management does not believe the adoption of these statements will have a material effect on its financial statements.

RECLASSIFICATIONS
 
 
Certain prior year amounts have been reclassified to conform with presentation for the current year. Such reclassifications have no impact on net income or shareholders’ equity as previously reported.
 
 
 
28

 
 
 
ETERNAL TECHNOLOGIES GROUP INC. AND SUBSIDIARIES
 
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 
 
4. INVENTORIES
 
 
Inventories consists of the following at December 31, 2007 and 2006:
 
   
2007
   
2006
 
Sheep and cow embryos
   
5,742,333
   
$
5,004,029
 
Scanners
   
569,903
     
353,409
 
Raw materials
   
-
     
775
 
Total inventories
 
$
6,312,236
   
$
5,358,213
 
 
5. PROPERTY AND EQUIPMENT
 
 
Fixed assets are comprised of the following at December 31, 2007 and 2006:
 
   
2007
   
2006
 
Office equipment in the United States
 
$
40,761
   
$
40,761
 
Infrastructure
   
257,038
     
240,486
 
Building
   
7,086,293
     
6,629,979
 
Equipment
   
3,362,808
     
1,929,662
 
Cows
   
-
     
1,319,706
 
Other
   
710,956
     
665,174
 
Total property and equipment
   
11,457,856
     
10,825,768
 
Less accumulated depreciation
   
(4,296,083
)
   
(3,943,593
)
   
$
7,161,773
   
$
6,882,175
 
 
Depreciation expense during 2007 and 2006 was $560,071 and $666,943, respectively.
 
 
6. INTANGIBLE ASSETS
 
 
The Company's net identifiable intangible assets are as follows at December 31, 2007 and 2006:

 

   
2007
   
2006
 
Patented dialysis technology
  $ 1,640,667     $ 1,535,018  
Patented microwave therapy device
    205,083       191,877  
Breast tumor testing technology/software
    369,150       345,379  
Solid myoia curer
    2,433,656       -  
Thermal tomography system
    2,638,739       -  
      7,287,295       2,072,274  
Less accumulated amortization
    (716,197 )     (383,754 )
Total intangible assets
    6,571,098       1,688,520  
                 
 
Amortization expense during 2007 and 2006 was $293,853 and $150,340, respectively. The estimated amortization expense related to identifiable intangible assets for the next five years is as follows:
 
 
 
29

 
 

 
Year
 
   
2008
200,982
2009
200,982
2010
200,982
2011
200,982
2012
                                                                                                                                             200,982
2013
                                                                                                                                             200,982
Thereafter                                                                                                                                              192,778
   
 
The weighted average amortization period for the intangible assets is 10 years based on an appraisal performed by an independent appraisal firm in China.  Subsequent to December 31, 2007, the Company sold certain of its intangible assets.  Please refer to Note 19 for details.
 
7.  OTHER ASSETS
 
At December 31, 2007, other assets consists entirely of the Company's guaranteed investments in the following entities:
 
During February 2007, the Company entered into an Exchange Agreement (“the Agreement”) by which it expended $14,850,000 RMB in cash, approximately $3,800,000 USD and 2,719,730 shares of common stock valued at $.63 US in exchange for 22% interest in the common stock of Changsha Hong Yuan Aquatic Product, Inc. (“Hong Yuan”). Hong Yuan is a corporation duly organized, validly existing, and in good standing under the laws of the PRC and currently its operations focus on the breeding and sale of turtles. In accordance with the Agreement, Hong Yuan has committed to pay the Company a guaranteed return on its investment of $3,000,000 RMB per year either in cash or the equivalent in additional shares of its common stock.
 
 
On October 15, 2007, the Company acquired a 30% equity interest, respectively, in Hainan Futian Green Agriculture Ltd. ("Hainan") a mango farm, and Maoming Huatang Orchard Trading Co., Ltd. ("Maoming") a Lychee farm. For the acquisition of the interest in Hainan, the Company paid $33,000,000 RMB in cash, approximately US$4,400,000, and issued 2,133,333 shares of its common stock valued at $.84 USD based on the closing price of the stock.  For the acquisition of the interest in Maoming, the Company paid $36,000,000 RMB in cash, approximately US$4,800,000 and issued 2,444,444 shares of its common stock valued at $.84 USD based on the closing price of the stock.. Both companies are incorporated under the laws of the PRC. The Mango farm has a guaranteed minimum annual return on investment of $6.800, 000 RMB and will increase by a minimum of 1% for ten years. The Lychee farm has a guaranteed minimum annual return on investment of $7,800,000 RMB and will increase by 1% for five years.  If the farms are unable to meet the  guaranteed minimum annual returns on investment with cash flows from their operation, they must meet the obligations by returning an equivalent amount of the company's shares originally issued to them as part of the investment purchase.
 
 
8. NOTES PAYABLE
 
 
Notes payable consist of the following at December 31, 2007 and 2006:
 
Promissory note to Market Management LLC, due December 11, 2005, interest payments are due semi- annually commencing 180 days after the date of thenote (December 11, 2002) at 8% per year. $443,366
 
The notes listed above are repayable from the first dollars received from any proceeds of any offering subsequent to the acquisition of Eternal Technology Group Ltd. or at the option of the Lender, convertible into post reverse split common shares at a rate equal to the mean of the high and low share price as of the first date that the shares begin trading subsequent to the acquisition.
 
The Company's Board of Directors ceased accruing interest effective October 1, 2004 and at December 31, 2007 and 2006 the notes payable were in default. The balance of the notes and related interest were determined by the federal district court in Houston, Texas on October 31, 2007. The foregoing balance reflects this amount.
 
 
9. STOCK OPTION AND STOCK COMPENSATION PLAN
 
The Company provides stock compensation to eligible employees, consultants and directors through a stock compensation plan and a stock option plan.
 
Stock Option Plan
 
The Company adopted the 2006 Stock Option Plan on October 12, 2006. The maximum number of shares of common stock with respect to which awards may be granted pursuant to this plan is 3,000,000 all of which have been awarded.
 
The Company adopted the 2007 Stock Option Plan on November 15, 2007. The maximum number of shares of common stock with respect to which awards may be granted pursuant to this plan is 2,500,000 shares all of which have been awarded.


Shares Issuable Under
 
Weighted Average
Outstanding Options
   
Exercise Price
 
Options outstanding at 1/1/06
   
3,000,000 
      -  
Options granted
   
(3,000,000 
 )    $ .40  
Options exercised                                                                                                                                        
    -      $       . 40   
Options cancelled
    -             
Options outstanding at 12/31/06
    -       -  
Options granted
    -       -  
Options exercised
    -              -   
Options outstanding at 12/31/07
    -        
 
             -   
                 
                 

 
 
30

 
 
 
10. INCOME TAXES
 
 
The Company operates in several jurisdictions and may be subject to taxation in those jurisdictions.
 
 
It is management's intention to reinvest all the income attributable to the Company earned by its operations outside of the United States of America. Accordingly, no United States corporate taxes have been provided in these consolidated financial statements. The Company has a U.S. net operating loss carry forward of $3,009,730 which will begin expiring in 2017. However a valuation allowance has been provided as management does not expect the tax benefits to be realized. No other significant deferred assets or liabilities existed at December 31, 2007. The Company's net operating loss carry forwards may be subject to annual limitations, which could reduce or defer the utilization of the losses as a result of an ownership change as defined in section 382 of the Internal Revenue Code.
 
 
Under current law of the British Virgin Islands (BVI), any dividends and capital gains arising from the Company's investments are not subject to income tax in the British Virgin Islands.
 
 
Companies with operations in the Peoples Republic of China may be subject to taxes for income therein. The Income Tax Law of the Peoples Republic of China for Enterprises with Foreign Investment and Foreign Enterprises provides certain
 
 
exemptions from taxation.
 
 
Under current PRC law, all taxes on agriculture have been eliminated. Previously (from July, 2000 through 2005) Aershan enjoyed a tax holiday. Therefore, Aershan's business activities are not and have not been subject to tax. The tax holiday resulted in tax savings of $1,475,452 and $968,866 for the years ended December 31, 2007 and 2006 respectively. Net income per share increased approximately $0.08 and $0.02 on a basic and diluted basis for the years ended December 31, 2007 and 2006, respectively, as a result of the tax holiday.
 
 
E-Sea is subject to the Enterprise Income Tax at the PRC rate of 15% on net profits. The provisions for taxes on earnings of the PRC subsidiary for the periods ending December 31, 2007and 2006 were $601,845 and $555,792, respectively.
 
 
A reconciliation of tax at the approximate U.S. statutory rates to the Company's effective rate are as follows:
 
   
2007
   
2006
 
   
Amount
   
Percent
   
Amount
   
Percent
 
Income taxes at federal statutory rate
 
$
2,295,461
     
34
%
 
$
1,659,767
     
34
%
Effect of United States and British Virgin Island losses
   
476,923
     
7
%
   
317,205
     
6
%
Income tax exemption in the Peoples Republic of China
   
(1,475,452
)
   
(22
%)
   
(968,866
)
   
(20
%)
Difference in United
States and foreign rates
   
(695,087
)
   
(10
%)
   
(452,314
)
   
(9
%)
Income tax expense
 
$
601,845
     
9
%
 
$
555,792
     
11
%
 
 
31

 
 

 
11. CONCENTRATION OF CREDIT RISKS
 
 
Financial instruments which potentially subject the Company to a concentration of credit risk principally consist of cash deposits, trade receivables, other receivables and the amounts due from related companies. The Company performs ongoing evaluations of its cash position and credit evaluations at the subsidiary level to ensure collections and minimize losses.
 
 
(i) Cash deposits. The Company places its significant cash deposits with banks in the PRC.
 
 
(ii) Receivables and amounts due from related companies. The Company does not have a policy of requiring collateral.
 
 
ETERNAL TECHNOLOGIES GROUP INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIALSTATEMENTS
 
 
12. ISSUANCE OF COMMON STOCK, WARRANTS AND CONVERTIBLE NOTES
 
 
Common stock and warrants were sold to investors in September and October 2003. Both the common stock and the warrants are subject to the Registration Rights Agreement and associated penalties. The warrants have a ratchet exercise price (i.e., the price is adjusted if the Company sells stock or warrants at a lower exercise price). Because this makes the number of shares the Company may have to issue "indeterminate", the warrants do not meet the tests in Emerging Issues Task Force ("EITF") Issue 00-19 for classification as equity (in addition to also failing the tests because of the registration rights penalties). Accordingly, they have been accounted for as derivative financial instrument liabilities, initially valued at fair value and then marked-to-market each quarter thereafter. On exercise of any of the warrants, the fair value of the derivative financial instrument as of the date of conversion is credited to equity as part of the proceeds.
 
 
The registration rights penalties through May 24, 2005 were settled by issuance to the investors of convertible notes (see below). Because of the registration rights and associated penalties, the proceeds allocated to the common stock are classified as non-equity up until the time the penalties were settled. Although the common stock itself is not a derivative, this treatment is analogous to redeemable preferred stock that is classified outside equity in the so-called "mezzanine" in accordance with SEC Accounting Series Release ("ASR") 268. The effectiveness of the required registration statement is not within the Company's control.
 
 
Warrants issued in payment of placement agent/finders' fees have registration rights and a ratchet exercise price and accordingly fail the EITF Issue 00-19 tests for classification as equity. Accordingly, they have been accounted for as derivative financial instrument liabilities, initially valued at fair value and then marked-to-market each quarter thereafter. On exercise of any of the warrants, the fair value of the derivative financial instrument as of the date of conversion is credited to equity as part of the proceeds.
 
 
None of the warrants have been exercised. By action of the Board, the exercise price of the warrants was reduced from $1.54, $1.34 and $1.11 to $0.40 on November 5, 2004.
 
 
On May 24, 2005, convertible notes were issued to investors to settle registration rights penalties due through that date. By agreement with the investors, no further penalties are due. The convertible notes do not bear interest, have no stated due date and are payable "without demand". All of the notes have been converted (and the shares received by the investors sold).  The total amount of penalties settled through the issuance of shares was $356,419.
 
 
 
32

 
 
13. ADDITIONAL RELATED PARTY BALANCES AND TRANSACTIONS
 
 
The Company's amounts due from/(to) directors and related parties are unsecured, interest-free and are repayable on demand.
 
 
The Company has a payable to Ji Jun Wu, Chairman of the Board, of approximately $50,311 and $50,516 at December 31, 2007 and 2006, respectively. The balance represents advances made to the Company for various expenses in previous years.
 
 
The Company has a payable to a former employee of approximately $164,984 and $165,659 at December 31, 2007 and 2006, respectively. The balance represents advances made to the Company for various expenses in previous years. The change in the balance is due to foreign currency translation.
 
 
14. MAJOR CUSTOMERS AND SUPPLIERS
 
 
The Company purchases and sells livestock. Companies whose purchases and sales exceed 10% of total purchases and sales are as follows.
 
   
2007
   
2006
 
Purchases:
           
Company A
   
49
%
   
42
%
Company B
   
17
%
   
23
%
Company C
   
15
%
   
10
%
Sales:
               
Company E
   
13
%
   
15
%
Company F
   
14
%
   
18
%
Company G
   
15
%
   
23
%
 
 
33

 
15. COMMITMENTS AND CONTINGENCIES
 
 
The administrative offices in Tianjin occupy approximately 97.8 square meters (approximately 1,053 square feet) in a commercial building. The Company rents this facility under a three-year lease, running through December 31, 2010, at $8,000 RMB (approximately $1,100 per month). The administrative office in Shenzhen occupies approximately 150 square meters (approximately 1,585 square feet) in a high rise office building. We rented this facility under a two year lease running through November 30, 2009 at $24,324RMB (approximately US$3,300. per month).
 
 
The leased facility of E-Sea in Shenzhen is an 865 square meters (approximately 9,310 square feet) facility containing machinery for the manufacture of medical equipment, administrative offices, and storage space for raw materials. The lease expires on January 14, 2010 and requires monthly payments of $20,001RMB (approximately US$2,700).
 
 
The farm consists of approximately 2.8 million acres and is located in Inner Mongolia, PRC. The Company purchased the land use rights to this farm in April 2000. Land use rights with respect to our farm were purchased from the Chinese government for $6,000,000. Such rights extend through 2026. The Company has the option to renew the land use rights for an additional 25 years at a cost of US$6,000,000. The farm is located in the Wulagai Development Area in Inner Mongolia.
 
Legal Proceedings
 
 
On August 23, 2007, the U.S. District Court for the Southern District of Texas awarded Western Securities Corporation the sum of $636,757 plus accrued interest since May 22, 2007 and attorney fees in an amount to be determined this judgment became final on October 31, 2007. The Company has several notices with the Court that it intends to appeal this judgment. The judgment will have no impact on earnings, as the potential liability had been previously accrued.
 
 
On the 4th of September 2007, the Company was served with a suit from International Capital Advisors LLC, as assignee of Market Management, Inc. seeking repayment of the sum of $250,000 alleged paid by Market Management, Inc. on behalf of the Company on the 26th of October, the Plaintiff amended their petition, adding several additional causes of action and are now seeking $960,000 plus accrued interest and attorney’s fees. The case is currently in discovery. It has been scheduled for trial in July, 2008.
 
 
The third cause of action involves one of the convertible promissory notes owned by Bristol Investments Limited. This cause of action was filed in State Court in New York and three times was dismissed. On March 30, 2006 without stating a new cause of action, Bristol Investments Limited re-filed the same cause of action against the Company and on December 27, 2007, the Court rendered a decision in favor of Bristol Investments Limited. The parties have since reached a settlement of $64,000.
 
 
Other Contingencies
 
 
The Company is subject to other contingencies not mentioned elsewhere, including various claims for compensation and reimbursement submitted by third parties. The Company's Board of Directors have received these claims and the Company does not believe it has any obligations to compensate or reimburse for any of these claims. There have been no lawsuits against the Company related to these claims. The ultimate outcome of this matter cannot be predicted with certainty, however the Company believes based on advice from legal counsel, these matters will not have a material adverse effect on the Company's consolidated financial statements.
 
 
 
34

 
 
Lease Contracts
 
 
The Company leases its corporate facilities under lease contracts expiring at various times during 2009 and 2010.  Future annual minimum lease payments under non-cancellable operating leases are as follows at December 31, 2007:
 
 
Year
 
2008
$ 85,848
2009
79,179
Thereafter
13,125
Total
$ 178,152
 
Rent expense under operating lease obligations was $87,674 and $94,141 for the years ended December 31, 2007 and 2006, respectively.
 
 
16. LEASE INCOME
 
 
In April 2000, the Company purchased the land use rights for a 2.8 million acre farm in Inner Mongolia, PRC from the Chinese government for USD$6,000,000. The Company's land use rights extend through 2026. At December 31, 2007, the land use rights, net of accumulated depreciation, were USD$4,765,501.
 
 
In April 2006, the Company entered into a lease agreement with a third-party ("lessee") whereby the lessee may use approximately 104 square kilometers of the land, including the facilities located on the land, such as the plant for embryo transfer, all livestock, equipment, roads and energy-supplying systems. The lease began May 1, 2006 and terminates April 30, 2026. The lessee pays the Company an annual rate of 4,620,000 RMB (or approximately USD$578,810) on April 1st and October 1st of each year. Rental income for the year ended December 31, 2007 was USD$758,153 and has been classified in Sales. Future minimum lease income is as follows:
 

 
     Lease Income(USD)
2008
             $        578,810
2009
               578,810
2010
          578,810
2011
578,810
2012
578,810
Thereafter
   8,296,281
 
$10,611,521


17. SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES
 


   
2007
   
2006
 
Common stock issued in connection with purchase of long-term investments
  $ 5,558,764     $ -  
Convertible notes converted into common stock
  $ -     $ 419,335  
Warrants converted into common stock
  $ 214,093     $ -  
                 

In addition to the items listed above, See Note 14 regarding the purchase of E-Sea.
 
 
 
35

 
 
18. SEGMENT REPORTING
 
 
The operating segments presented are the segments for which separate financial information is available and for which operating performance is evaluated regularly by management to decide how to allocate resources and to assess performance. The Company evaluates the performance of the operating segments based on income from operations that is defined as total revenues less operating expenses.
 
Segements FN
Year Ended 2007 and 2006
        

 
   Agricultural Genetics
Land Lease
Medical Devices
Corporate
Total
2007
         
Revenues
$    24,240,206
$ 758,153
$     10,592,359
$      -
$   35,590,718
Income from operations
3,405,701
195,570
3,274,140
(1,589,744)
5,285,667
Depreciation and amortization
135,442
562,583
424,629
-
1,122,654
Total assets
52,488,706
4,765,501
12,208,254
5,589,836
75,052,297
           
 
Agricultural Genetics
Land Lease
Medical Devices
Corporate
Total
2006
         
Revenues
$    19,690,199
$ 289,405
$  8,738,499
$    -
$  28,718,103
Income from Operation
3,018,880
(113,254)
3,149,487
(1,057,349)
4,997,764
Depreciation and amortization
392,725
402,659
274,218
-
1,069,602
Total assets
45,045,154
4,722,362
8,247,096
51,125
58,065,737
      
 
 
19.  SUBSEQUENT EVENTS
 
On January 16, 2008, the Company received authorization from the Chinese government to begin the manufacturer and distribution of its new generation mammogram machine.  This machine uses thermo technology.  The Company's prior machine used infra-red technology. 
 
On March 5, 2008, the Company sold its patented technology for the cure of Galactophore Hyperplasia to a Chinese entity for $8,500,000 RMB of which $1,500,000 RMB has been received  The remaining $7,000,000 RMB will be paid in two installments, $3,000,000 RMB in May 2009 and $4,000,000 RMB in May 2010.
 
On March 20, 2008, the Company leased its patent in its SSB Dissemination to a Chinese entity for five years.  The Chinese entity will develop goods under the patent, manufacturer and market them during this period.  For the use of the patent, the Company will receive $18,000,000 RMB, of which $5,000,000 has been received.  The remaining $13,000,000 RMB will be paid in four installments as follows:
 
October, 2009    -    $3,000,000 RMB
October, 2010    -    $3,000,000 RMB
October, 2011    -    $3,000,000 RMB
October, 2012    -    $4,000,000 RMB
 
On March 21, 2008, the Company sold its proprietary  thermal tomography technology to a Chinese entity for $20,800,000 RMB, of which $5,800,000 RMB has been received.  The remaining $15,000,000 RMB will be paid in two equal installments of $7,500,000 RMB in June 2009 and June 2010, respectively.